Insider Trading, Or Not

I actually kinda like talking about insider trading because it’s a topic that can have a lot of gray areas in it and requires some legitimate careful thought.  Despite having worked on Wall Street for many years, I’m well aware that insider trading questions are frequently not cut and dry, which is why we were usually trained on the maxim “If you have to ask, don’t do it.”  I wrote a few posts on this topic earlier, but it’s come back into play with a vengeance this week, with the crackdown on “expert networks.”
Uninformed populist ragers will act shocked, and scream “OMG!  So wall street takes all of these industry insiders, re-labels them “experts” and then sells inside information?!!!  How unfair!”  Now, I just want to clarify one thing – the point of expert networks is to allow people who want to do real due diligence to get the information they need by talking to people who know what they are talking about!  The vast majority of the information in these sessions is almost certainly perfectly legal to share.  It’s also entirely possible that there are people who mistakenly disclose information that they should not be disclosing and are guilty of misappropriating material non-public information – but I’d guess that they are a minuscule minority.  My point is only that expert networks are positively not inherently evil.  In an ideal world, this is how everyone would do research – talk to experts.  Instead, we rely on greed, the desire to make a quick buck, penny stock touts, and Cramer.  But I digress. (Here’s a pretty decent description of Expert Networks)
Let me just give a few quick examples:  If you want to know about how ETFs work, you might pay to have a conference call with me, and I would explain it to you.  Talking to me, an expert in the field, is a great way for you to quickly get a grasp of a concept or industry in a short amount of time, without the journalist or mutual fund industry bias that you’ll get reading white papers on the ‘web.    
If you want to know about the effect the expiration of Apple’s exclusive AT&T contract might have on the mobile phone industry, you might contact Gerson Lehrman (one of the “expert network” pioneers), who would (for a fee)  put you in touch with the former VP of sales for Sprint, who could explain the entire process to you.  Nowhere in the chain is the goal supposed to be to get the current VP of AT&T to comment on material nonpublic information about his company’s subscribers or business plans.  The expert you are talking to knows this (or is supposed to know this!) also – and doesn’t want to go to jail  or get fired just to make you rich and get $200 an hour for himself.    
If you want to understand the effect that higher fuel prices might have on Wal-Mart’s distribution costs, you might talk to a shipping company about the number of miles they drive each year, and how that might change with economic conditions and higher commodity costs.  
If you want to understand the process by which BP will have to close down its leaking well, you contact an expert in the field who could explain to you in an hour what you might otherwise spend 2 weeks researching on your own. (A friend of mine actually mentioned that he talked to some Gerson Lehrman experts on this very subject, and they ended up being wrong about their prognosis!)
Is it possible that one might encounter a policy-ignorant industry insider who shares material non-public information?  Of course it’s possible – but it’s positively not the goal of expert networks.  The goal is to allow investors to gain an in depth knowledge of a business from people who understand that business.  Increased due diligence is a good thing, and  insider trading is a bad thing – but the two are not even close to synonymous.
Amazingly, in the wake of this week’s FBI activity on insider trading, the boys at Themis, Sal Arnuk and Joe Saluzzi wrote and absolutely embarrassing article attempting to liken high frequency trading to insider trading.  Sal and Joe are not idiots.  I don’t generally agree with their view of the use of technology in the markets, and view them as victims of the progress in technology, trying desperately to cling to their niche by maligning their opposition – but at least they usually try to make well reasoned, factually sound arguments.
Their piece today, however, was utter nonsense.  It’s so bad that I hate to call attention to it, but it needs to be corrected, and it touches on insider trading topics I’ve addressed on this blog previously.  Themis writes (emphasis theirs):
“We believe that if the FBI and SEC feel that information that investors are getting  from some “expert networks” is defined as inside information,  then a case can be made that the data that the exchanges are providing could also be considered an “expert network”.  The question becomes is the information that the exchanges provide in their private data feeds considered “material, non-public information”?  It is certainly not widely disseminated but is it non-public information?  We realize that anybody can subscribe to the data feeds and this is most likely the defense the exchanges will use.  But is it realistic for most investors to subscribe to these data feeds and then establish the computing capacity to analyze this information.  The fact of the matter is not all investors are looking at the same information.  Whether this is technically inside information is not for us to decide.”
Readers should have no confusion on this matter:  this is not non-public information.  In fact, it’s quite public – it’s available to anyone who wants to subscribe to it – for a fee.  Remember from my prior post – “public” doesn’t mean you can get it online in 15 seconds via a Google search for free.  I’ve tried to repeatedly make the point that this is another reason why high frequency trading is a better model than the old NYSE specialist model:  the specialist model was a tight Old Boys’ club – you couldn’t become a specialist just because you wanted to and had the ability to – you had to crack the club.  It was positively non-public in terms of opportunity.  Today, however, the process has become democratized – anyone who has the ability and the means can compete in the world of high frequency trading, using PUBLICLY available data that doesn’t cost millions of dollars a month.  It’s not just the rich, it’s not just men, it’s not just certain ethnicities – it’s democratized.
So when Sal and Joe write “whether this is technically inside information is not for us to decide,”  I can only hope that they are being intentionally disingenuous and that they in fact are fully aware that this is not anything that can even be intelligently debated as inside information, and are simply trying to write a fear/hype piece to mis-educate the masses.   Just because John has access to information that Jane doesn’t have does not mean that John’s information is non-public, or that he has some unfair advantage.  All investors are rarely looking at the same information – the important point is that investors have the opportunity to have access to the same information.  If you still don’t understand this, please read PeterPeter’s comment on Themis’s Business Insider post, which reiterates a number of points I’ve discussed on this blog previously.

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