Wall Street tries to weed out the wolves while London stays sheepish

When Mathew Martoma, the former portfolio manager of SAC Capital, was sentenced to nine years in prison for insider trading last week, much of the comment was about how harsh the punishment looked. It must have seemed particularly so to traders in the dealing rooms of light-touch London.

In truth, Martoma should take some of the blame. Federal court judge Paul Gardephe justified the length of the sentence by the exceptionally high gains that he had made from this deal, his lack of repentance and his refusal to co-operate with the authorities.

Martoma had been dealing on non-public information he had received from a doctor about clinical trials of a new Alzheimer’s drug. He received the private information on a Sunday in July 2008. The next day, SAC Capital sold its $700m stake in US-based Wyeth Pharmaceuticals and Irish Élan Corporation, the two joint developers of the drug, before the stock prices of the latter two crashed. Martoma’s trade generated roughly $275m for SAC Capital and just above $9m in bonuses for himself. Meanwhile, billionaire Steve Cohen, the only owner of now-defunct SAC Capital, managed to avoid jail and walked off with a fine of $1.2 billion.

Rebirth

This was not the first time SAC Capital had been in the spotlight for insider trading. While several traders associated with the fund – such as Michael Steinberg who was sentenced for insider trading of Dell and Nvidia stock – had been convicted of insider trading offences, the prosecutors had never been able to go after Steve Cohen, Mr Big himself.

 

The Martoma case was different, though, and there was enough evidence for the courts to shut down SAC Capital. Although Cohen had to pay $600m in a settlement with the Securities and Exchange Commission (SEC), in addition to the $1.2 billion fine and the shutting down of SAC Capital, he nevertheless managed to avoid a prison sentence. He is now in charge of Point 72 Asset Management, which invests the massive fortune he made as a hedge fund manager.

Martoma’s prison sentence is one of the longest for insider trading in US history, alongside Raj Rajaratnam’s 11 years in 2011 and Matthew Kluger’s 12 years also in 2012. He made a fundamental error of judgement by refusing to co-operate with the investigators or testify against Cohen. By contrast, Cohen’s SAC itself pleaded guilty.

In fact, when we take into account the gains he generated from his trade, Martoma’s sentence still compares favourably to those of Rajaratnam and Kluger. While Kluger had made illegal profits of a mere $32m from three trades over 17 years, he was sentenced to 12 years. Rajaratnam’s illegal trades also spanned over several years and raked in a relatively modest $70m.

London calling

All these sentences have brought the number of successful convictions for insider trading in the US to about 80 cases since the 2007/8 financial crisis. The UK Financial Conduct Authority (FCA) and its predecessor, the Financial Services Authority (FSA), have so far secured just 24 convictions.

There is another way of looking at it. In 2013, UK-based trader Richard Joseph was sentenced to 4 years in prison for insider dealings around takeover bids which made him a net profit of just £591,117. Aside from his prison sentence, in September 2014 he was also subjected to a confiscation order amounting to £2,170,191. You might argue that FCA and UK courts do seek to create deterrents, via harsh sentences, to dissuade those tempted by illegal insider dealing. By contrast, Martoma could probably have got away with an out-of-court settlement had he decided to be more co-operative.

That said, the conviction rate remains underwhelming, but it does at least represent an improvement on the pre-crisis period. The FSA managed to secure only one successful conviction between 2001 and 2006. Historically, there have been few successful convictions in the UK. For example, between 1981 and 1998 there were only 17 prosecutions of which only 12 were successful.

And even if the authorities do come knocking, London’s City traders can comfort themselves with the knowledge that the maximum prison sentence for illegal insider dealing in the UK is only seven years. The highest jail sentence so far in the UK has been four years, as it was for James Sanders in 2012.

At the heart of the matter seems to be a conscious decision by the US prosecutor to doff its cap to public opinion and seek to to weed out the wolves of Wall Street. In the UK, meanwhile, there seems little evidence as yet that City traders who engage in illegal insider dealings are being treated any harsher than was the case before the financial crisis.

Author

1. 

   Marc Goergen

   Professor of Finance at Cardiff University