Insider Trading: Big Time for “Victimless Crime”
The prison sentences handed down to Galleon founder Raj Rajaratnam — which, at 11 years, is the longest-ever sentence in an insider-trading case — and Incremental Capital and Galleon trader Zvi Gofer (10 years), should send a clear message to Wall Street that insider trading will not be tolerated.
According to a Wall Street Journal article, with insider-trading sentences averaging two and a half years, Raj and Zvi’s stiff sentences far exceed that average as well as the penalties levied at others charged alongside them: Emanuel Goffer, Zvi’s brother, received 36 months while Danielle Chiesi, a Galleon trader, was given 30 months. The longer prison terms likely reflect the fact that both were perceived as leaders of the insider-trading activities at their respective companies.
The argument from Raj’s lawyers that it was a victimless crime because “Insider trading does not cause the kinds of measurable losses to identifiable victims that conventional fraud causes [do],” probably didn’t earn Raj any points at sentencing. While insider trading may not inflict a direct financial hit, it does directly impact investor trust, which is a necessary component of an efficient capital market structure.
Indeed, sound ethics and investor trust are fundamental to the success of capital markets and the investment profession. Trust must exist between clients and the investment professionals with whom they work. And investment professionals, in turn, must have confidence that their peers will abide by, and that the regulators will enforce, the laws of the land. When one party trades on inside information, this trust is broken. And the industry has witnessed over the past few years just how difficult it is to regain lost trust.
The CFA Institute mission is to lead the investment profession globally by setting the highest standards of ethics, education, and professional excellence is grounded in the principles of our Code of Ethics and Standards of Professional Conduct. Several aspects of the Code of Ethics embrace the concept of acting with, maintaining, and promoting professional integrity for yourself and the capital markets as a whole. The Standards of Professional Conduct, meanwhile, explicitly prohibit trading on material nonpublic information.
When viewing these insider-trading actions through our ethical lenses, we see a wide range of victims: The average investor who has lost confidence that the financial markets are not rigged against his success, leading to a reduction in invested assets and, even worse, the prospect of insufficient resources for retirement. While Raj and Zvi may not have taken money directly from investors, they have likely kept those investors from earning the returns and profits expected from a fair and efficient market.
We offer our continued support to regulators and the legal system for their ongoing battle to remove this element from the investment industry. The prospect of sentences of 10-plus years should prompt investment professionals to carefully weigh the risks — and whether the reward of trading on inside information is really worth it.