Let The Seller Beware!

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The
original claim for government was that it was instituted to guarantee
justice. Its role, in other words, was a negative one: it punished
wrong-doers. The "wrong" was an assault by a person or
group upon the persons or property of others. If no one complained,
the "wrong" either wasn't wrong at all, or the parties
involved settled it amicably, or decided to overlook the matter.

That
was then: this is now. There are hundreds, if not thousands, of
"laws" on the books which punish individuals chosen by
the government for having violated no one's rights, and which do
not require the complaint of any citizen to be put into action.
Inside trader laws fall into this category.

This
insider-trading is tricky stuff. The position of the government
is that, when purchasing securities, you shouldn't have any particular
knowledge of what you're doing, or if you do, you not act upon it.
The Martha Stewart brouhaha illustrates this perfectly. Informed
by a friend with connections at ImClone that the company was being
denied approval for its cancer drug Erbitux, Mrs. Stewart assumed,
quite reasonably, that the news, when it became public, would cause
a drop in the price of the stock. So she sold her 3,928 shares.
She could go to jail for doing that.

Obviously,
the government's position is that Stewart should have held onto
her stock, though knowing full well that it would almost surely
drop in value. Is that a reasonable thing to expect someone to do?

The
role of the tip-giver is given great importance. If he has a fiduciary
obligation to the company involved, then he is surely wrong in tipping
off friends and family that the stock is going to drop prior to
that becoming public knowledge. That's quite understandable: his
job is to protect the value of the company assets; in warning his
cronies that the stock is about to tank, he's certainly not doing
that. On the other hand, once the news of the company's problem
becomes public knowledge, the value of the stock will drop anyway,
so one might ask what difference it makes.

The
person receiving the tip, however, has no fiduciary obligation to
the company. Indeed, his only fiduciary obligation, assuming the
stock is held in his own name, for his own use, is to himself. Nonetheless,
if the tip is inside, i.e., not public, information, even the "tipee"
can be held liable. For example, a psychiatrist, informed by a patient
that her husband was likely to become head of BankAmerica, and that
his backers would invest in the bank if he did, bought shares in
BankAmerica, and made $27,475 when the stock appreciated after the
public announcement of the patient's husband's plans. He got five
years probation, and was fined $150,000.

Another
fellow bought shares in a supermarket chain when he learned from
a relative (who heard it from his wife, whose uncle was head of
the chain) that the stores were going to be taken over by A&P.
This poor guy was sentenced to two years in jail, but, since the
tipper had no fiduciary relationship to the company, he was released – after
serving nearly half his sentence. A year in the slammer – oh, well!

Does
anybody ask, "Who's the victim?" If you're fined $150,000,
or spend a year in jail, it's presumably because you've harmed someone,
or some group. Who? Was Martha Stewart's broker injured by buying
her stock the day before the price dropped? But it was the broker,
allegedly, who tipped her off! Was it the individual who bought
that stock, or some of it? But the following day the price would
have fallen anyway.

And
who collected the $150,000 fined we mentioned? Was it distributed
to the supposed losers in the stock transaction? Aw, come on! The
government put it in its pocket, of course. It was the injured party!

Finally,
is there politics involved, do you suppose? There were many puts
and calls (the puts far outnumbering the calls) involving American
Airlines stock immediately prior to 9/11. Somebody was expecting
a drop in the price of that stock. Are these transactions being
investigated with the same vigor as the investigation of Martha
Stewart? What have you heard on the evening news about these airline
stock sales?

Martha,
it's not enough to raise your own vegetables, scramble your own
hens' eggs, and decorate your own house. You've got to shove some
cash at your own politicians. Insider trading seems like the kind
of "offense" that can be very selectively prosecuted.

June
28, 2002

Dr.
Hein [send
him mail
] is a semi-retired ophthalmologist in St. Louis,
and the author of All
Work & No Pay
, which will soon be available at Amazon.com.

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