Global articles on espionage, spying, bugs, and other interesting topics.

The Insider Trading Bread and Circus

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.

More Arrests in Marvell Insider Trading Case

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

Apple, Dell, AMD – Insider Trading & Information Theft

The arrests of three technology company workers who allegedly sold secrets about Apple Inc., Dell Inc. and Advanced Micro Devices Inc. signal the U.S. may be closing in on the hedge funds that paid for their expertise.

The men, who worked at AMD, Flextronics International Ltd. and Taiwan Semiconductor Manufacturing Co., were arrested yesterday 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 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.

“Prosecutors will want to pursue the hedge funds that hired the expert consultants to give them insider information,” said Stephen Miller, a lawyer at Cozen O’Connor LLP and a former federal prosecutor in New York and Philadelphia.

A fifth man, Daniel DeVore, 46, formerly a supply manager at Dell, pleaded guilty to conspiracy to commit securities fraud and wire fraud in federal court in New York on Dec. 10, the U.S. said yesterday. DeVore said he worked as a paid consultant for Primary Global from late 2007 to August 2010 and, through the firm, accepted money from hedge funds for inside information.

Expert-networking companies such as Mountain View, California-based Primary Global match investors with specialists who provide insight into specific markets. The criminal complaint unsealed yesterday describes the links among Primary Global, the technology experts it employed and unidentified hedge funds willing to pay for inside information.

Search Warrants

On Nov. 22, Federal Bureau of Investigation agents from New York and Boston executed search warrants at the offices of Level Global Investors LP and Diamondback Capital Management LLC, hedge funds founded by alumni of SAC Capital Advisors. Agents that day also executed a search warrant at the offices of Loch Capital Management. None of the firms or their employees has been accused of any wrongdoing.

At his Dec. 10 plea hearing, DeVore said he worked for Primary Global as an intermediary and “provided information to money managers” knowing they would use it to trade securities. He told the judge he gave the inside information to clients of Primary Global and Guidepoint Global LLC, a research firm.

Guidepoint was subpoenaed by Massachusetts Secretary of the Commonwealth William F. Galvin in November in connection with its relationship to a hedge fund in the state.

‘Corrupt Network’

“A corrupt network of insiders at some of the world’s leading technology companies served as so-called consultants who sold out their employers by stealing and then peddling their valuable inside information,” Bharara said in a statement yesterday.

The four men charged yesterday are the latest in a series of arrests since the Nov. 24 arrest of another Primary Global employee, Don Chu, charged with arranging for insiders at publicly traded companies to improperly provide material information to hedge fund clients of the consulting firm where he worked.

“This wasn’t market research,” said Janice Fedarcyk, assistant director-in-charge of the FBI’s New York Office. “What the defendants did was purchase and sell inside information.”

Phone Taps

Investigators made consensual and wiretap recordings of an unidentified expert-networking firm’s phones, the land lines of an unidentified hedge fund and the mobile phones of two of the men arrested yesterday — Mark Anthony Longoria, who worked at chipmaker AMD, and Walter Shimoon, formerly of Flextronics, a Singapore-based maker of electronic components — the U.S. said. At least two hedge funds are described in the complaint. Neither is identified by name.

“Few hedge fund managers have the investment skill to deliver the benefits that they promise,” James Fanto, a professor at Brooklyn Law School in New York, said in an e-mail. “They have to find an edge however they can — in this case through the expert networks,” said Fanto, who teaches banking, corporate and securities law.

The case is the latest by Bharara’s office alleging wrongdoing involving hedge funds based on wiretap evidence. He announced charges against Raj Rajaratnam, 53, the co-founder of Galleon Group LLC, in October 2009, calling it the largest insider-trading case involving hedge funds.

The FBI recorded thousands of conversations during their investigation of that case, lawyers said at an October hearing in Rajaratnam’s case. Rajaratnam, who denies the charges, is scheduled to go on trial next year.

Hedge-Fund Phone

In the latest case, the FBI listened in on two telephones used by Primary Global from 2009 to 2010 and the landline of a California-based hedge fund from October 2008 to February 2009, the complaint says.

According to the complaint, the U.S. also made consensual recordings using five cooperating witnesses, had a tap on mobile phones used by Shimoon and Longoria, and recorded conversations at Primary Global in November 2009, a month after Rajaratnam’s arrest.

“If you think you shouldn’t be talking about it –don’t,” an unidentified Primary Global employee tells Shimoon during one call, according to the complaint.

“That would really suck if you recorded all the calls,” Shimoon replies.

This kind of talk can help the government’s case, said Miller, the former federal prosecutor.

‘Gets His Wings’

“A prosecutor angel gets his wings every time someone says ‘Boy, it would really stink if they were taping our calls,’” he said.

Fleishman, 41, of Santa Clara, California, was charged with wire fraud and conspiracy for allegedly trying to give non- public information to clients, including hedge funds, according to the complaint. Longoria, 44, of Round Rock, Texas; Shimoon, 39, of San Diego; and Manosha Karunatilaka, 37, of Marlborough, Massachusetts, who worked at chipmaker Taiwan Semiconductor, were charged with wire fraud, conspiracy to commit securities fraud and conspiracy to commit wire fraud.

Fleishman appeared in federal court in San Jose, California, yesterday and was released on $700,000 bail. Longoria was granted $50,000 bail and freed by a federal magistrate in Austin, Texas. Karunatilaka got bail of $300,000 in Boston federal court, his lawyer, Brad Bailey, said.

Shimoon Fired

Shimoon made his first court appearance today in San Diego, where a judge refused to grant him immediate bail after a prosecutor said there’s a “serious” risk he’ll flee if released. A bail hearing is scheduled for Dec. 20.

Flextronics said Shimoon has been fired.

“PGR clients were money managers, including hedge funds, many of whom were located in Manhattan,” DeVore told U.S. District Judge Jed Rakoff at his plea hearing, according to a court transcript.

“I provided to PGR clients and to PGR employees material non-public information, Dell confidential information, Dell’s production numbers, pricing inventory and market share of Dell’s hard drives suppliers,” he said. “I also knew that on several occasions I was speaking with hedge fund managers and employees located in New York.”

David Frink, a spokesman for Round Rock-based Dell, the world’s third-biggest maker of personal computers, said the company will cooperate with law enforcement. DeVore’s lawyer, Johnny Sutton, declined to comment.

Longoria, Karunatilaka and Shimoon had worked as consultants at Primary Global, Dan Charnas, a company spokesman, said in an e-mailed statement. Fleishman has been placed on leave, Charnas said. He had no further comment.

‘Expressly Prohibited’

Longoria resigned from AMD in October, said Mike Silverman, a spokesman for the Sunnyvale, California-based chipmaker.

“This kind of activity is expressly prohibited by the company,” Silverman said.

Longoria is cooperating with the investigation, Sam Bassett, his lawyer, said in an interview yesterday.

Flextronics supplied components to Apple during the time of the alleged fraud, prosecutors said in the statement. Shimoon is accused of providing Fleishman’s firm with confidential sales forecast information and new product features for the iPhone.

Steve Dowling, a spokesman for Cupertino, California-based Apple, declined to comment.

Taiwan Semiconductor said in an e-mail it terminated Karunatilaka’s employment on the day of his indictment and that the chipmaker will cooperate with U.S. prosecutors.

Five Helpers

The new complaint indicates five people have been working with the government in the insider-trading probe. Only one witness was identified by name: Richard Choo-Beng Lee, 56, a former partner at San Jose, California-based hedge fund Spherix Capital LLC. He began cooperating with the U.S. in April 2009, court records show, providing information to Bharara’s office in the government’s case against Galleon. He pleaded guilty in November 2009.

His partner at San Jose, California-based Spherix, Ali Far, who also worked as an analyst and portfolio manager at Galleon, also pleaded guilty and is aiding the U.S. in the Galleon probe.

The U.S. said Chu established a relationship with Lee and that Spherix paid Chu’s firm for tips concerning Atheros Communications Inc., Broadcom Corp. and Sierra Wireless Inc., according to the government’s complaint.

The complaint unsealed yesterday lists four cooperators without naming them: a Dell manager, a Primary Global analyst, a New York hedge-fund analyst and a witness “who had substantial experience evaluating public companies in the semiconductor and technology industries.”

Shorter Sentence

With the exception of the hedge-fund analyst, who hasn’t been charged with any crimes, the witnesses have agreed to plead guilty and are cooperating in the hope of receiving a reduced sentence, prosecutors said.

In July 2009, Lee recorded conversations in which Longoria gave him inside information about AMD, the U.S. said in its complaint. The new complaint also identifies Chu as having worked at Fleishman’s firm as a liaison “to consultants and other sources of information in Asia.”

In January, former McKinsey & Co. director Anil Kumar pleaded guilty to criminal charges, saying that he leaked advance information to Rajaratnam about AMD’s acquisition of ATI Technologies Inc. in 2006, which Rajaratnam used to make $19 million for Galleon.

Bharara thanked Apple, Flextronics, AMD, Taiwan Semiconductor and Dell for their assistance in the U.S. probe. The investigation is continuing, he said.

“You have to imagine it will go in the direction of the funds,” said Miller, the former federal prosecutor.

The case is U.S. v. Shimoon, 10-mj-2823, U.S. District Court, Southern District of New York (Manhattan).

To contact the reporters on this story: Patricia Hurtado in New York federal court at pathurtado [at] bloomberg [dot] net; Bob Van Voris in New York federal court at rvanvoris [at] bloomberg [dot] net.

Article source: http://www.bloomberg.com/news/2010-12-17/new-technology-insider-trading-arrests-point-prosecutors-to-hedge-funds.html