The hedge fund industry must be shuddering as Federal authorities in the U.S. release more details of its widening insider-trading investigation.
The latest complaint filed by prosecutors provides some unflattering excerpts of telephone conversations between a California-based technology consultant, Winifred Jiau, and two unnamed hedge funds.
According to prosecutors, Jiau was paid over $200,000 between September 2006 and December 2008 to provide the details of quarterly earnings reports before their public release.
During two telephone calls in May 2008, Jiau was recorded telling one of the hedge fund managers the exact details of Marvell Technology Group’s quarterly revenue, gross margin and earnings per share. For some inexplicable reason, one of the hedge funds kept digital recordings of their phone calls with Jiau that are now being used as evidence in the investigation.
Jiau has been charged with conspiracy and securities fraud. She stands accused of leaking inside information from Marvell as well as Nvidia Corporation to the hedge funds.
Investigators say one of the funds netted a profit of more than $820,000 by trading Marvell’s stock within the weeks immediately prior and after the company’s earnings report.
The latest arrest brings even further unwelcome attention to the hedge fund industry, which has managed to avoid regulatory oversight for decades. The FBI raided the offices of three hedge funds last month as part of its ongoing probe into insider trading.
The investigation has also shed light on the so-called expert-networking firms that allegedly conspired to provide confidential information to clients that included hedge funds.
According to various reports, Jiau, 43, had worked for Nvidia as a contractor for an unspecified period. A graduate of National Taiwan University with a Master’s degree from Stanford University, she had also been a consultant with one of the firms at the center of the investigation called Primary Global Research.
Four other consultants from the same firm had already been arrested; they include James Fleishman, Mark Anthony Longoria, Manosha Karunatilaka, Daniel Devore and Don Ching Trang Chu.
The recent slew of insider-trading cases stem from last year’s prosecution of the Galleon Group hedge fund founder Raj Rajaratnam. The Galleon case led to charges against 23 traders, which included another former hedge fund manager, Richard Choo-Beng Lee. In return for a more lenient sentence, Choo has reportedly been co-operating with authorities, and it was his relationship with Ching that ultimately led investigators to focus on Primary Global Research.
In announcing the creation of an interagency task force to fight economic fraud in November 2009, Attorney General Eric Holder promised not only to hold accountable those who caused the collapse, but also “to prevent another meltdown from happening.” If past is prologue, the latest round of perp walks and show trials, far from administering justice or engendering real economic reform, will be much closer to what the ancient Romans called diversionary “bread and circuses.”
Attorney General Eric Holder announces the creation of the Financial Fraud Enforcement Task Force (Washington; November, 17 2009).
Last month, a three-year federal probe into Wall Street malfeasance reached fever pitch. At least six people—three technology company executives and three consultants—were arrested on fraud charges related to “insider trading,” following a ten-week span in which dozens of companies were subpoenaed and three hedge fund offices raided. More arrests are anticipated in the coming weeks.
This ever-expanding crackdown will doubtless net some real corporate criminals. But the very nature of insider trading fraud laws, and the dragnet techniques used by U.S. Attorneys, will likely result in the prosecution, even conviction and incarceration, of some innocents. At the very least, some defendants may be deprived of their fundamental right to due process of law—a problem whose immediacy may be best illustrated when compared to regimes without such protections for the criminally accused (a topic further explored below).
Believers in the rule of law would do well to step back and ask: What, if anything, will this sweeping inquisition do to prevent the next economic collapse? In a country where an increasingly larger share of the wealth is concentrated in an ever smaller slice of the population, show trials will not suffice to cure any real ills.
Figures from the not-so-distant past back this up. Arrest rates for white collar fraud have surged in the wake of recent financial scandals, according to data generated from the FBI’s Uniform Crime Reports. Over a two-year period after the savings-and-loan scandal (1990–1992), the number of fraud arrests increased 53%; over the same period following the dot-com bust (2000–2002), arrests jumped 26%. Yet these prosecutorial surges did nothing to prevent Wall Street’s most recent cratering.
Like scandals before, prosecutors have at their disposal an arsenal of ambiguous laws. Securities, wire, or mail fraud are the go-to statutes in financial probes; fall backs such as making “false statements” to a federal official or engaging in a “conspiracy” are often used when costly investigations turn up little or no dirt. With roughly 4,500 separate criminal offenses on the federal books—no one, not even Congress knows the precise total, especially when administrative regulations that expand criminal liability are added to the total—there’s no shortage of hooks on which to hang potential targets.
This time, professionals associated with “expert network” firms, which employ specialists to help assess industry developments, appear to be in the Justice Department’s cross hairs. In existence since the late 1980s, these firms exploded in popularity over the past decade and, according to a survey taken by Integrity Research, were consulted by some 36% of investment-management firms in 2009. Whether these networks, in providing their expertise, gathered or divulged inside information gleaned illegally appears to be the central question now before investigators.
It should be noted, however, that even before a single case has gone before a judge in this latest insider-trading probe, a “frigid chill” has swept over the expert network industry. Major investment banks have reportedly abandoned the firms altogether. Regardless of one’s inclinations toward expert networks, we must recognize the immense power of U.S. Attorneys and their regulatory-agency allies—they have completely up-ended an entire industry, virtually overnight.
Ambiguous laws serve to reinforce this prosecutorial power. Take regulations concerning insider trading, for example. In theory, insider trading involves the buying or selling of securities based on material corporate information still unknown to the public. Yet in fact the lines demarcating forbidden insider information from ordinary corporate data shared between companies and investors or analysts are blurred, empowering prosecutors to define the outer-reaches after-the-fact, on a case-by-case basis.
This ambiguity is hardly due to inadvertence. Rather, it is policy: When Washington wants to appear tough on Wall Street, prosecutors have an all-purpose “securities fraud” statute from which flows an endless stream of newly minted definitions—and hence criminal cases.
Congress and the SEC had a golden opportunity to provide clarity in the 1980s. The Insider Trading and Securities Fraud Enforcement Act of 1988, which provided increased penalties, passed unanimously (410-0) in the House and by voice-vote in the Senate. But it did nothing to define the crime.
In response to suggestions that essential clarity was lacking, John Dingell, then Chairman of the House Committee on Energy and Commerce, said that defining criminal insider trading would provide a “roadmap for fraud.” He further explained that his committee “did not believe that the lack of consensus over the proper delineation of an insider trading definition should impede progress on the needed enforcement reforms.” Dingell apparently saw no need for a roadmap for the law-abiding.
The abuse of vague criminal statutes stands out particularly glaringly, perhaps, to those who have lived under repressive regimes. Ninth Circuit Court of Appeals Chief Judge Alex Kozinski, who lived in Romania while under Soviet control, penned a stinging rebuke to federal prosecutors in a December 10 opinion. Agreeing that the securities fraud conviction of a former corporate chief financial officer should be vacated and the defendant acquitted, Kozinski pointed out that the prosecution “is just one of a string of recent cases in which courts have found that federal prosecutors overreached by trying to stretch criminal law beyond its proper bounds.”
Proper bounds, of course, begin with providing fair warning as to what the law forbids, an essential element of the “due process of law” guaranteed by the Fifth Amendment. Kozinski gets this, possibly because he recalls Soviet laws against “hooliganism,” which allowed the Kremlin to essentially declare criminal any and all critics of the regime.
Or perhaps a more current analogy better demonstrates the importance of due process. Consider the detention of Chinese-born American citizen Xue Feng, an employee of a Colorado-based research firm who obtained information in 2005 on oil wells in his native country. Three years later, Beijing authorities retroactively declared such information to be “state secrets,” arrested Mr. Feng, and, after a lengthy trial, sentenced him to eight years in prison.
To most Americans, something is plainly wrong with a researcher being imprisoned for gathering data deemed only after-the-fact to be off-limits. But to what extent, one must ask, do vaguely-worded laws against securities fraud in the U.S. provide a similar lack of notice?
Those interested in fundamental economic reform, or even simply in reform of the markets, should look at the forthcoming insider trading show trials with a skeptical eye. Are they meant to keep the system honest or, instead, to merely divert attention from the myriad regulatory and systemic failures? And, if the latter, are they diverting attention at the expense of innocent people caught up in the latest DOJ circus?
Paralegal Kyle Smeallie assisted in the preparation of this piece.
Federal prosecutors filed new charges as part of a national probe of insider trading, accusing a Fremont consultant for an expert networking firm with selling inside information to two unidentified hedge funds.
Winifred Jiau was accused of selling data on Nvidia Corp. and Marvell Technology Group Ltd., makers of computer components, through the networking firm, according to a filing Wednesday in Manhattan federal court.
The hedge funds paid her $200,000 through the firm, prosecutors allege.
Jiau, 43, is charged with one count each of conspiracy to commit securities fraud and securities fraud. The first count carries a maximum sentence of 20 years in prison.
She appeared Wednesday morning in San Francisco federal court and was ordered held in custody by U.S. Magistrate Judge Nandor Vadas, who set a hearing for Jan. 12 on whether to transfer her to New York.
The evidence against Jiau is strong, Assistant U.S. Attorney Wilson Leung told the judge, adding that there is a “cooperating witness and audio recordings.”
When asked by Vadas if she understood the charges, Jiau said “I not have a chance to know until now.”
Barry Portman, her assigned public defender, said the complaint is a “lengthy document.” Jiau didn’t enter a plea to the charges.
Her arrest follows charges earlier this month against three technology company workers who allegedly sold secrets about Apple Inc., Dell Inc. and Advanced Micro Devices Inc.
The men, who worked at AMD, Flextronics International Ltd. and Taiwan Semiconductor Manufacturing Co., were arrested on securities fraud and conspiracy charges for a scheme that Manhattan U.S. Attorney Preet Bharara said operated from 2008 to early 2010.
Also arrested at the time was James Fleishman, a sales manager at Primary Global Research LLC, the expert-networking firm where the three worked as consultants. If convicted, all four face as long as 20 years in prison.
Expert-networking companies such as Mountain View’s Primary Global match investors with specialists who provide insight into specific markets.
The criminal complaint unsealed this month against the men described the links among Primary Global, the technology experts it employed and unidentified hedge funds willing to pay for inside information.
Santa Clara’s Marvell, which makes chips for the BlackBerry phone, declined to comment. Bob Sherbin, a spokesman for Nvidia, also based in Santa Clara, said Jiau was a contractor who left the company about a year ago.
In the Jiau complaint, B.J. Kang, a special agent with the FBI, described the expert networking firm at issue in her case as having a main office in Mountain View, with additional offices in New York and San Francisco.
The firm advertises itself as an “independent investment research firm that provides institutional money managers and analysts with market intelligence,” according to the filing, which matches language on the website of Primary Global. A spokesman for Primary Global, Dan Charnas, declined to immediately comment.
At Wednesday’s court hearing in San Francisco, Portman told the judge that Jiau is a U.S. citizen and has known about the insider trading investigation since mid-December. She didn’t attempt to flee when FBI agents arrived at her home, the lawyer said in his argument that she be released.
Leung countered that Jiau is a “flight risk,” and that when agents went to her house, they heard her car running in an attempt to drive off. Leung said the agents found packed luggage inside her Fremont house.
Leung said Jiau claimed she had just returned from a trip to Asia. The prosecutor said her Asia trip took place in October, and that she had traveled to Beijing and returned through Taiwan.
The judge said Jiau must designate her defense attorney by Monday, because her assigned lawyer said she didn’t qualify for indigent defense. Manhattan prosecutors have until then to ask for her to be held without bail.
This article appeared on page D – 1 of the San Francisco Chronicle
