Insider trading involving hedge funds and their expert
advisers is the focus of a probe by the U.S. Attorneys Office for the Southern
District of New York, the FBI and the SEC, according to multiple media sources.
Spokesmen for the USAO and the SEC have declined comment. Nevertheless,
information is circulating about a wide spread insider trading investigation
that may result in the filing of charges by year end. The precise source of the
information is unclear.
What is clear is that the FBI is continuing to use "blue
collar" tactics in securities cases, conducting raids at three hedge funds on
Monday. Search warrants were used to seize business records and other
documents. The funds raided are Level Global Investors LP, Diamondback Capital
Management LLC and Loch Capital Management. Level Global and Diamondback
Capital were founded by individuals who were formerly affiliated with SAC
Capital. Level is partially owned by a leverage-buyout firm run by Goldman
Sachs Group, Inc.
What is clear is that no charges have been brought
against Level Global, Diamondback Capital and Loch Capital. No charges have
been filed against any employee or affiliate of any of these funds. Two of the
funds have issued press releases stating that they are cooperating with the
What is clear is that hedge funds, like other
professional service firms, rely for their continued operations on their good
reputations. While these funds may have billions of dollars under management,
the key to their current and future operations is their good name. If that
reputation is tarnished, the billions of dollars under management can become
zero in short order. Ask one time Wall Street power house Drexel. Ask one time
accounting giant Arthur Anderson. Both charged. Both out of business. In this
context, the power to accuse is the power to terminate. For hedge funds such as
those in the raid, the suggestion of illegality in their core business of
trading securities can translate to the beginning of the end.
What is not clear is the reason the government is using
blue collar tactics like search warrants rather grand jury subpoenas. A search
warrant is high profile. It is invasive. It generates publicity as is evident
from the news reports about the three executed on the premises of these hedge
funds. A grand jury subpoena is not high profile. Grand jury proceedings are
secret to protect those involved. A grand jury subpoena does not have the
invasive impact of dozens of FBI agents seizing a business premises and going
through all of the records to find what they want. Both can secure the
information the government wants.
In the end, one or more of the raided firms may be
charged with insider trading. One or more of the individuals employed at these
firms may be charged with a federal crime. Perhaps not. Perhaps no one will be
charged. Either way, the waves of negative publicity will, for many investors
and potential clients of these firms forever tar their reputations. For many
FBI agents raiding the business like a mob warehouse is the equivalent of an
accusation of wrong doing tending toward a conviction by a jury.
It is beyond dispute that the USAO, the FBI and the SEC
should effectively police the markets to prohibit insider trading. Equally
fundamental is the fact that in doing so they should use methods which are
effective, but respect the rights of those involved. This means the techniques
should be the least intrusive necessary and avoid injury. FBI raids against
securities traders, rather than grand jury subpoenas raise fundamental
questions about the operations of law enforcement and its ability to protect
the rights of all.
For more cutting edge commentary on
developing securities issues, visit SEC Actions, a
blog by Thomas Gorman.