New York, NY – Last week, the SEC reached a tentative settlement in New York Federal Court over an alleged civil insider trading case involving two technology companies with hedge fund executives Anthony Chiasson and Todd Newman. Newman and Chiasson were criminally convicted in December and sentenced in May for insider trading. However, most surprising about this case was a recent article in Forbes magazine arguing that Newman’s conviction could spell trouble for all hedge fund managers.
In May, Anthony Chiasson, a founder of Level Global Investors, and Todd Newman, portfolio manager with Diamondback Capital Management, were found guilty of criminal insider trading charges with respect to Dell Inc. and Nvidia Corp. In May the two were sentenced to 78 months and 54 months in prison, respectively.
The SEC filed parallel civil charges against the two for insider trading in these two stocks. Last Monday, the SEC informed U.S. District Judge Harold Baer that it had reached “partial settlements in principal” with the two defendants.
These settlements would bar Chiasson and Newman from further violating federal securities laws and from associating with investment advisers, broker-dealers and other entities registered with the SEC, according to the letter by SEC senior counsel Daniel R. Marcus.
The settlements are only partial because they do not contain disgorgement or civil penalties. Those issues would be deferred while Chiasson and Newman appeal their sentences in the criminal matter, Marcus said.
While the sentencing of the two is not particularly interesting, an article published last week in Forbes magazine about the Newman case is more compelling (click on the following link for the complete article http://www.forbes.com/sites/walterpavlo/2013/06/14/todd-newmans-insider-trading-conviction-hedge-funds-take-heed/#).
In this article, the author, Walter Pavlo, presents Newman as a recipient of illegal information collected by one of his analysts – Jesse Tortora. Tortora was previously convicted of insider trading, and has been identified as being part of a group of four analysts who worked for four different funds who each admitted to having obtained, handled and distributed material nonpublic information from publicly traded companies.
However, the article suggests that Newman was not part of any conspiracy to commit insider trading. Rather he was a portfolio manager who, in addition to doing his own research, relied on the research of one of his firm’s analysts – Tortora. Tortora used the inside information he received from his and his group’s contacts to inform his analysis and estimates, which he provided to Newman as a regular part of his job.
Pavlo makes the following arguments about the case:
“First, Newman fired Tortora (Tortora said he quit with one day’s notice and no job to go to …. you decide) in April 2010. Why would a person fire someone from a multimillion dollar job when they are supposed to be part of a criminal enterprise? If I were Tortora at the time, I would have run to the feds and been part of some whistle-blower settlement rather than waiting for the FBI to show up.
Second, according to testimony from Tortora and others, there were numerous challenges presented by Newman and other portfolio managers on every piece of information used in trading decisions. There was never an instance where Tortora said, “Here are the earnings, go buy/sell as much as you can?”. If anything, Newman would question information, information that according to Tortora was confidential, over and over again. If someone knew the information was truly confidential, why not just run with it?
Third, all of Newman’s email communications with Tortora used the company email address … no stealth gmail or Yahoo account. Tortora’s Fight Club all used emails outside of their work email to communicate about their information. Emails for Diamondback were all retained as part of a company policy … and that was the only email Newman used.
Fourth, Newman sends out “Good Call on Dell” in an email to Tortora after the quarter ends with results that were very much in line with what Tortora thought they would be. Why would you congratulate a guy about an earnings call if, as Preet Bharara said, you “are trading on tomorrow’s news today”?
Fifth, after Tortora left Diamondback, he continued communicating with the “Fight Club”. In fact, at trial Tortora said of his continued contact, “I was looking for a job so I felt like I should stay in touch with those in the industry so that I wasn’t too far out of the loop.” Consider yourself lucky he didn’t come work for you!”
Everyone Guilty of Insider Trading?
Pavlo effectively argues that Newman was found guilty of insider trading because his former analyst at Diamondback, Jesse Tortora, knowingly provided him with inside information in an effort to get ahead at Diamondback. Unfortunately, Newman did not know that Tortora was giving him anything other than good research. In an effort to save himself, Tortora gave Newman up to the Feds to lessen his own sentence.
The interesting point made in the article is that if Todd Newman could be found guilty of insider trading, then most hedge fund managers could as well, whether or not they intentionally try and obtain and trade on material nonpublic information. It all comes down to what their analysts do regardless of whether they were asked to do it, and even if the portfolio manager is unaware of the analysts’ activities.
Of course, Pavlo’s assertions have yet to be proven one way or the other. However, it will be interesting to see how Newman tries to defend himself in the appeal of his criminal conviction. Until that occurs, one good question to ask yourself if you are a hedge fund manager is, “How much do you trust your analysts?”