Financial Times Editorial Comment: The hard fight to stop insider deals
Copyright The Financial Times Limited 2007
Published: August 6 2007 19:32 | Last updated: August 6 2007 19:32
The US Securities and Exchange Commission has had some victories this year in its fight against insider trading, filing charges against employees of big investment banks, including Morgan Stanley, UBS and Credit Suisse. But analysis commissioned by the Financial Times, which finds suspect trading prior to almost 60 per cent of large North American mergers and takeovers so far in 2007, shows the SEC still has work to do.
Insider trading, the purchase or sale of shares using non-public information such as knowledge of a pending takeover bid, does great harm to markets. Insiders profit at the expense of long-term investors, such as pension funds, which suffer lower returns. Insider trading also saps liquidity, because offering tight prices to buy or sell stocks is unwise if your counterparty may be using inside information.
The difficulty, however, is that insider trading can be almost impossible to prove or even to detect. Share purchases just before a takeover are not evidence of insider dealing: the buyer may have worked out, through skilful analysis, that a company is a likely takeover target or, in some cases, they may have just got lucky.
The US, which balances harsh, deterrent punishments with plea bargaining to encourage confessions, probably has the most effective anti-insider trading regime in the world. But as corporate deals become larger and more complex, creating better inside opportunities for an ever greater number of bankers, lawyers and executives, it does not seem to be enough.
The SEC needs to use its existing powers to the utmost, and other regulators, such as Britain’s Financial Services Authority, should be gran ted similar weapons. But however harsh the potential punishment, most insider traders get away with it, and the only way to deter the offence is to catch more offenders.
One possible answer is new statistical methods and algorithms that can identify suspect trading, be it in actual stocks or in derivatives based on them. Regulators need to invest in these techniques, and use them to investigate the greatest possible number of suspect trades.
Statistical methods will make it possible to identify deals that are outside an investor’s normal pattern, or trading records that are just too good to be true. There will still, however, be the problem of proof. If this is the pattern of the future – clear indications of insider trading but no evidence to prove it – it may be time to debate some new form of sanction, less harsh than criminal punishment, but one that requires a lower standard of proof.