In my post Wednesday I asked whether SDNY U.S. Attorney Preet Bharara would now "do the right thing" with respect to the dozens of innocent people out of whom he has improperly coerced guilty pleas in his multi-year jihad against non-insider insider trading. Well, it only took Bharara a few hours to put out his own statement telling the world that doing the right thing is just not part of his make-up. Since the statement is short, I'll quote the whole thing:
Today’s decision by the Court of Appeals interprets the securities laws in a way that will limit the ability to prosecute people who trade on leaked inside information. The decision affects only a subset of our recent cases, and in those cases – as in all our criminal cases – we investigated and prosecuted misconduct based on our good faith assessment and understanding of the facts and the law that existed at the time. We are still assessing the Court’s decision, which appears in our view to narrow what has constituted illegal insider trading, and are considering our options for further appellate review.
Wow -- Don't they realize that they are dealing with the criminal law and that peoples' lives are at stake? They have put legitimate companies out of business, put hundreds of people out of jobs, conducted midnight FBI raids over conduct that we now know was wholly legal all along, put dozens of honest hard-working people who committed no crime in jail, forced the expenditure of hundreds of millions if not billions of dollars to defend against their prosecutions, seized billions of dollars of fines and forfeitures without legal basis, and all they now have to say is they are "considering [their] options for further appellate review"? Well, I predict that their appeal is going nowhere in the Supreme Court, but meanwhile they are keeping these innocent people in limbo for another year while we wait for the denial of cert and they work on landing their next job.
I find it amazing how long this travesty has continued. As Charles Gasparino points out in this morning's New York Post, there never was any theory under which this non-insider insider trading had anything to do with causing the recent financial crisis. But in our prosecutors' thirst to produce scapegoats, somehow we have without thinking completely lost track of the principle that you can't be sent to jail for a federal crime unless you violate a statute passed by both houses of Congress and signed by the President and that clearly prohibits what you did.
And thus we have endless amounts written about this non-insider "insider" trading program by people who refuse to acknowledge this fundamental issue. Start with the headline in the New York Times yesterday in their front-page article about the Second Circuit reversal: "Appeals Court Deals Setback to Crackdown on Insider Trading." Just no. This is not about a crackdown on insider trading, but rather about a crackdown on trading by non-insiders that the feds would like to make illegal without statutory basis because they think they can get a jury angry that somebody made too much money. Or consider former AUSA Patrick Cotter quoted by CNBC:
"The stunning decision ... has the potential to rewrite the book on insider trading, while also dealing a body blow" to Justice Department and the Securities and Exchange Commission efforts, former assistant U.S. attorney Patrick Cotter said in a statement to CNBC.
Well, isn't dealing a "body blow" to government lawlessness the whole reason we have courts?
I haven't seen any article give a short clear statement of the law on this subject, and the Second Circuit's opinion itself really makes the whole thing seem far more complicated than it actually is. So for those who want to understand the basics, I'm going to tell you what you need to know about the application of insider trading law to non-insiders in the next fourteen sentences:
The underlying common law of fraud in the United States in general applies to false statements and not to omissions. That is, if you say nothing to your counterparty in a business transaction, you have not committed fraud, even if you know something important that your counterparty does not know; sometimes this is phrased as there being no "general duty to speak" to your counterparty. There are some exceptions, but very limited. The federal securities laws then have their own obligations, which do include a general duty to speak, which applies to the issuer of the securities. In the massive text of the federal securities laws, going on for mind-numbing hundreds of pages, you will not find anything about a general duty to speak applying to those other than the issuer, including those who trade in the security. Corporate insiders of issuers, who could include officers and directors at the top end down to the lowliest messenger or clerk, are then their own special case. While there could well be exceptions, assume for these purposes that insiders of the corporate issuer are subject to the issuer's general duty to speak. But now consider non-insiders, such as investment professionals who do not work for the company: the statutes do not mention anything specific about a duty to speak by such people. And yet the government criminally prosecutes dozens of them for trading without first disclosing everything they know to the marketplace. How? The entire basis for criminal prosecutions, out of all the hundreds of pages of statutes, consists of the following in Section 10(b) of the Securities Exchange Act of 1934:
It shall be unlawful for any person . . . [t]o use or employ, in connection with the purchase or sale of any security . . . any manipulative or deceptive device or contrivance . . . .
Can you find a general duty to speak in there when it does not exist anywhere else in our common law or in our normal understanding of the words "manipulative or deceptive device or contrivance"? We're talking here about criminal law, where people who violate it go to jail. The fact is, it's not there, and certainly not in a form specific enough to give anybody reasonable notice of what is and is not legal.
The government starts with a position that if you bribe a corporate insider -- hand over a bag of money -- for information on which to trade, you thereby become subject to his and the corporation's duty to speak, and thus can be prosecuted for insider trading. My view is that this position is wrong: this being a criminal law, if Congress wants to prohibit such conduct, they need to say so specifically. It's not that hard to do. If I were on the Second Circuit, the government would lose on the bag of money non-insider insider trading prosecution. But actually, the Second Circuit has specifically bought into that one. You can look at the statutory text above and form your own opinion as to whether the government's position on the "bag of money" case is reasonable. You don't need to be some kind of fancy lawyer to form an opinion on this. There is nothing about it any more complicated than the statutory text quoted above and the underlying fact that there is no "general duty to speak" in our society, certainly not in a criminal context, unless a statute specifically imposes it on you.
And anyway, in Newman/Chiasson and many others of the current round of non-insider insider trading cases, we are way, way past the bag of money. In fact the government's position is effectively that if you know anything sourced from an insider of the company and you make too much money trading, you are going to jail. They have even phrased their position as being that "friendship" alone constitutes a sufficient "quid pro quo" to make any trader take on the issuer's duty of disclosure. Is it "friendship" if you once had dinner with the guy, or if you talked to him one time before this time? Suppose (like Newman and Chiasson) you don't even know the insider who provided the information or anything about the relationship between him and the guy he first gave the information to? Too bad, you're guilty too. And now we have thousands of Wall Street professionals who make what they think is an honest living casting about among friends and acquaintances for tidbits of information and tips, with no way to know or find out about the circumstances by which the information was first obtained, and the government's position is, if you made enough money it's a crime if we want it to be.
We find then on the website of Cornell Law School the following statement of the current state of the law on insider trading:
Because friends do not satisfy the definition of an insider, a problem arose regarding how to prosecute these individuals. Today, a friend who receives such a tip becomes imputed with the same duty as the insider. In other words, a friend must not make a trade based upon that privileged information. Failure to abide by the duty constitutes insider trading and creates grounds for prosecution.
Well, that was never more than the government's phony position and was completely wrong, and as of two days ago the Second Circuit has told us why. (Cornell has not yet taken its statement down.) Shame on them for unquestioningly buying into the government's outrageous position without taking a critical look at whether there was any basis for it in the underlying statutes.
Even the Second Circuit in my view does not go far enough. The Second Circuit opinion says that non-insider insider trading liability will now be limited to situations where the corporate insider received "something of consequence" in return for the information. Well, what is that? Forgive me for being soft on Wall Street, but I think that people trying to earn an honest living are entitled to fair notice of what conduct is criminal and what is not. And that fair notice cannot be something made up by a prosecutor's or regulator's whim, but must get through majorities of two houses of Congress and a signature by the President. Is that so complicated? This "something of consequence" standard still gives the government plenty of room for abusive conduct, and we have no reason to believe that the current crop of people occupying the prosecutors' offices will not abuse every bit of power that they are given.