The FSA’s insider trading case against David Einhorn and his fund, Greenlight Capital, highlights the differences in insider trading regulations between the U.S. and the U.K. Many of the compliance controls used by U.S. asset managers and research firms are triggered by confidential information, but the Greenlight case illustrates that confidentiality protections are not effective in the U.K.
Interactions with Company Management
As we noted last week, one important distinction between U.S. and U.K. laws is the fiduciary duty placed on U.S. publicly traded companies and their advisers by Regulation Fair Disclosure (Reg FD). A U.S. issuer would be unlikely to tell Einhorn about a pending offering because Reg FD prohibits issuers from selectively disclosing market-moving information. The broker involved, Bank of America Merrill Lynch, would be viewed as a “temporary insider” under Reg FD, and also precluded from selective disclosure.
The case highlights the role of ‘corporate brokers’, a function unknown in the U.S. Corporate brokers are investment bankers who serve as a liaison between public companies and their institutional investors. As illustrated by the Greenlight case, corporate brokers in the U.K. can legally provide material non-public information to investors who agree not to trade on it in order to gauge the sentiment of their investors ahead of important corporate actions. The U.K.’s Financial Services Authority is reportedly planning to fine the broker involved in the Greenlight case £350,000 pounds ($549,674), presumably for disclosing confidential information even though Greenlight expressly did not want to receive it.
As some commentators have pointed out, even offering an investor the opportunity to “cross the wall” could provide tradeable information, especially in cases such as Punch’s, in which an action such as the rights issue has been long speculated in the market.
Confidentiality
U.S. lawyers also question whether the Greenlight case would hold under U.S. insider trading law. The U.S. rules on insider trading say that a trade is illegal if it is based on information that is not only market-moving but also obtained or leaked in violation of a duty to keep it confidential. Einhorn’s refusal to “cross the wall” and receive confidential information would have gone a long way to protecting him under U.S. law. However, in the U.K. insider trading rules are broader, allowing regulators to bring actions even where inside information has been received unintentionally or inadvertently. The FSA claims that Einhorn should have known that he was no longer able to trade once he received the information from the corporate broker, even though he had not requested it.
Compliance officers at U.S. asset managers were shocked by the FSA’s action, while U.K.market participants were wondering why Greenlight had not been criminally prosecuted since to them Einhorn’s actions were so clearly a violation of U.K. market abuse rules. However, criminal insider dealing requires deliberate intent, whereas the FSA has successfully brought civil cases involving “inadvertent” or “unintentional” violations and successfully defended them on appeal.
Implications
U.S. asset managers have gone to great lengths to implement protections against receiving confidential information. Analysts and portfolio managers are trained to be alert to confidential information and to ensure that sources of information are not violating fiduciary duties of confidentiality. U.S. research firms have implemented similar safeguards. Expert networks have extensive protections against experts passing confidential information to clients. Channel checking firms try to ensure that its sources are not violating duties of confidentiality. The Greenlight case highlights that these compliance procedures offer no protection under U.K. insider trading law. U.S. asset managers and research firms will need to make adjustments to their compliance practices if they are operating in the U.K.
The Greenlight case also highlights the grey area of corporate brokering. Although corporate broking is unknown in the U.S., it does have a related activity — corporate access. Corporate access, which is a common practice in U.S., differs from corporate broking in that investment banks facilitate meetings between investors and company management, which the bankers may or may not attend. Nevertheless, it is clear that regulators on both sides of the Atlantic are taking a closer look at all activities which can potentially generate insider information.