Insider Trading Roundup: Wall Street on Trial

Mar 8, 2011

This week marks the start of the criminal trial against Galleon Group LLC co-founder Raj Rajaratnam in federal court in Manhattan. Rajaratnam is the central figure in the largest crackdown on hedge-fund insider trading in U.S. history. He is accused of making $45 million from confidential information leaked by corporate insiders and hedge fund traders. He faces up 20 years in prison if convicted of securities fraud. Rajaratnam has denied wrongdoing and has argued that investment advisers routinely speak to company insiders as they do research. The anticipated 10-week trial will determine whether his conversations (many, recorded) and subsequent trades were illegal or not.

Since the indictment of the Galleon case in 2009, the Justice Department and the SEC have brought insider trading cases against numerous hedge fund managers, consultants, bankers, lawyers, and individuals at “expert network” firms.

Just last week, the SEC filed a civil action against Rajat Gupta, a former Goldman Sachs Group director, alleging that he leaked inside information about the investment bank’s results to Mr. Rajaratnam. The SEC alleged that Gupta provided inside information to Rajaratnam, including news of Berkshire Hathaway Inc.’s $5 billion investment in Goldman Sachs, Goldman Sachs’s earnings as well as earnings at Procter & Gamble Co. At the criminal trial, it is expected that prosecutors will allege Gupta was a conspirator with Rajaratnam in the insider trading scheme.

A key co-defendant in the Galleon case, Danielle Chiesi, pled guilty in January 2011 to three counts of conspiracy to commit securities fraud. She was caught making incriminating statements on a wire tap. To date, 19 out of 26 people charged in the Galleon-related insider trade probe have pleaded guilty.

Beyond the Galleon case, the Government has investigated and brought at least a dozen charges in connection with its crackdown on specialists in the financial industry who supposedly pass along inside information about companies to hedge funds and attempt to pass it off as legitimate research. For example, in February 2011, prosecutors announced charges against a group of hedge fund managers and a hedge fund analyst. The case drew particular media attention due to the suspects’ involvement in shredding documents and computer destruction. In that case, Samir Barai, of Barai Capital Management is alleged to have “cheated” in transactions involving Marvell Technology, Fairchild Semiconductor, Nvidia and AMD, among others. Barai is additionally being charged with obstruction of justice after a phone conversation was recorded and it was found that Barai destroyed information and disks. In a conversation with technology analyst Jason Pflaum who worked with Barai, Mr. Barai supposedly instructed Pflaum to, “Just go into the office…shred as much as you can.” Pflaum, who has since pleaded guilty, is now cooperating with prosecutors.

Co-defendant Donald Longueuil, a former manager at SAC, is being charged with conspiracy to commit securities fraud, conspiracy to commit wire fraud, and obstruction of justice for chopping up his flash drive and external drives before putting the pieces in plastic bags and tossing them in four different garbage trucks around New York City. Noah Freeman, who was cooperating with the government while Longueuil did this, is also alleged to have utilized a network of sources to obtain insider information in the tech and semiconductor industries. He has entered a guilty plea.

From Barai’s computer files, the government discovered recorded consensual telephone conversations with Winifred Jiau, a former Primary Global Research consultant, who was criminally charged last year. She is accused of providing inside information about technology companies, including Marvell and Nvidia, to hedge funds while working as a consultant. She, among others, are billed to firms as “expert network” providers. Expert network firms arrange conversations between public company employees freelancing as consultants and hedge and mutual funds seeking an investment edge. Overall, such consultants are allowed to divulge general information, but are prohibited from disclosing confidential, non-public information.

Ms. Jiau is among five investment consultants for Primary Global who have been charged by prosecutors in New York. One consultant and one employee have already pled guilty. The SEC has also filed civil charges against former Primary Global consultants, alleging that they leaked confidential information to Primary Global’s investor clients.

One such client of Primary Global is Level Global Investors, now closed. In the wake of the government’s sweeping investigation, the hedge fund run by David Ganek (a former associate of Steven Cohen of SAC) which managed $4 billion in assets, said the “cloud of uncertainty” created by the probe undermined its ability to operate. SAC has been raided by federal agents, but not charged with any wrong doing. The firm has stated it is cooperating with the investigation.

Bankers have been linked to the investigation as well. For example, a Morgan Stanley banker, Kamal Ahmed, is under investigation for allegedly leaking information about an upcoming merger involving AMD to Rajaratnam. It is still unclear if any charges will be brought against Ahmed. He is purportedly cooperating with the investigation. Morgan Stanley is also cooperating with the Government.

In February, Manhattan U.S. Attorney Preet Bharara testified on behalf of the Justice Department at a hearing of the U.S. Sentencing Commission in support of stiffer penalties for insider trading suspects. Mr. Bharara told the commission that “the nature and scope of insider trading activity has evolved,” while the sentencing guidelines regarding these offenses have not. Currently, the sentencing rules are based on the profits earned by the suspects.

Bharara, whose office has led the charge on these insider trading cases, has publicly stated that, with respect to arrests, “we are far from finished.” While that may be the goal of the Justice Department, the outcome of the Rajaratnam trial, one way or another, will undoubtedly shape the Government’s next steps with respect to insider trading cases.

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