Materiality — Is There a Line?
Against the backdrop of the start of the insider trading case against hedge fund manager Raj Rajaratnam, Baruch College’s Robert Zicklin Center for Corporate Integrity at the City University of New York (CUNY) hosted a symposium on Tuesday, 8 March titled, “The SEC and Insider Trading: Is the Line of Acceptability Shifting.”
The audience was left with two clear takeaways from the panel discussion. First, materiality and fraud are unlikely to be precisely defined in regulations. Second, regulatory and judicial authorities must be diligent in their investigations to mitigate the risk of unintended consequences from their actions.
The panel discussion* — moderated by Larry Zicklin, clinical professor of business ethics at the Stern School of Business at New York University — featured the legal viewpoints of Melvin Brosterman, partner of Stroock & Stroock & Lavan LLP; the investor perspective of Marc Sulam, portfolio manager of Healy Circle Capital; and the internal compliance views of Leigh Waxman, chief compliance officer and general counsel of Para Advisors LLC.
There was agreement among the panelists that the standards for determining materiality are fluid and should be based on the interpretation of the particular facts of each situation, thus it is unlikely that a single regulatory or legal definition for insider trading will emerge. They discussed both current and past cases as well as hypothetical scenarios involving possible violations of insider trading laws and regulations. The diversity of the panel provided differing interpretations of when information gathering can move beyond the gray area and be considered materially important to the investment-decision-making process.
The panel also discussed the impact that cases and investigations can have on firms and individuals that are neither charged nor convicted of any wrongdoing. The February announcement by hedge fund Level Global Investors LP — among the hedge funds raided last November without being directly implicated or indicted of insider trading — of its intent to wind down the fund was cited as an example of the importance of reputation in the investment management industry. Level Global is not alone, and the panel expressed concern that the SEC and federal investigators may be too heavy handed in some of their actions.
As the Rajaratnam case plays out in court, we are sure to hear heated debates and arguments about where to draw the line regarding materiality of nonpublic information. The sources of the information will be important in determining whether someone knew or should have known the information was not actionable due to its materiality. As one panelist stated, “Fraud is only limited by the imagination of man.” This would make defining fraud as difficult as defining materiality.
For more, read one of our previous posts on insider trading, Tipping Point.
*A webcast of the panel discussion is expected within the next couple of weeks here.
