TOPICS > Economy

Criminal Charges Allege SAC Capital Gained ‘Edge’ Through Insider Trading

July 25, 2013 at 12:00 AM EDT
Federal prosecutors say one of Wall Street's most successful hedge funds engaged in securities fraud for at least a decade. At SAC Capital, five former employees have admitted to insider trading. Bloomberg Businessweek's Sheelah Kolhatkar joins Hari Sreenivasan to explore the details of the allegations.
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JUDY WOODRUFF: And we turn to new allegations from the U.S. government of unprecedented insider trading by one of Wall Street’s most successful hedge funds.

Hari Sreenivasan has the story.

HARI SREENIVASAN: SAC Capital has long been known for posting some of the best returns in the industry. Its founder, Steven A. Cohen, has been seen as an exceptional trader on Wall Street. Cohen himself wasn’t indicted today. But federal prosecutors announced criminal charges against the firm, saying portfolio managers, supervisors and analysts had engaged in securities fraud for at least a decade by using inside information on at least 20 public companies.

 Cohen was blamed in part for the larger culture at the fund, once worth $15 billion. Five former employees have admitted to insider trading at SAC. At a press conference today, U.S. attorney Preet Bharara said it was a magnet for market cheaters with rampant insider trading.

PREET BHARARA, U.S. attorney, Southern District of New York: When so many people from a single hedge fund have engaged in insider trading, it is not a coincidence. It is, instead, the predictable product of substantial and pervasive institutional failure. As alleged, SAC trafficked in inside information on a scale without any known precedent in the history of hedge funds.

HARI SREENIVASAN: Sheelah Kolhatkar covers this industry for Bloomberg Businessweek  and was at the press conference today.

So, Sheelah, it’s 41 pages long. What are the highlights? What are they alleged to have done?

SHEELAH KOLHATKAR, Bloomberg Businessweek: Well, they’re basically charging SAC Capital, the company, with being responsible for years and years of illegal trading on the parts of a handful of portfolio managers.

They’re basically saying that the hedge fund owner, who is not named, sort of intriguingly, in the documents, but we all know it is Steven Cohen, they are saying he hired people knowing that they had contacts at public companies who could leak non-public information, that that was sort of a priority in his hiring, that he didn’t do anything to enforce compliance and adherence to securities regulations, that he compensated these people, he paid them bonuses in exchange for their sharing of this kind of information and bringing in profits into the firm.

 And, basically, the language is so strong in this charging document, it makes it sound like the entire operation was completely rotten, if you believe what Bharara said today. It was …

 HARI SREENIVASAN: There was a quote from FBI saying SAC not only tolerated cheating; it encouraged it. So, when you say these bonuses, were they given bonuses for cheating or just having that mystery edge?

SHEELAH KOLHATKAR: Of course the word edge pops up intriguingly throughout this.

And it used to be used very commonly on Wall Street as a sort of euphemism for your advantage, your information advantage in the market. What’s the little thing that you know that other people don’t know that can allow to you make money? And, of course, often, edge in that sense is illegal, because you are not supposed to trade on information that other people don’t have.

So, the bonuses and other compensation at the firm was often based on how profitable the traders’ ideas were, and they were often encouraged to bring their best and most profitable ideas to Cohen himself. The complaint alleges that they didn’t talk about inside information, but there were sort of euphemisms to describe it, a conviction rating.

So, you could say, well, I have a conviction rating of 10 out of 10 on this. Well, Cohen might think, OK, that means you know something. So, therefore, that is going be a profitable trade. If it turns out to work out well for the firm, he’s going to pay you very handsomely for it, and this is part of the culture of the company.

HARI SREENIVASAN: We have heard in the past of inside trading charges against individuals, but why go after the firm? What is significant about that today?

SHEELAH KOLHATKAR: Well, it’s a very interesting move because it doesn’t happen very often, especially not with a company of this size. It has 1,000 employees, and had $15 billion in assets at the beginning of the year.

I think, from covering this for a number of months, that they would have liked to charge Cohen himself, and there’s been a lot of effort and resources devoted to trying to build a case against Steve Cohen himself for engaging in insider trading.

This move today on the part of the U.S. government signals that they were not able, least at this stage, to make a case against him. They didn’t have any witnesses saying that he participated in insider trading. They didn’t have any wiretaps that would have brought them across the line.

So, instead, they have taken this approach of just indicting the whole company and saying it fostered this culture of lawbreaking sort of behavior.

HARI SREENIVASAN: So, is this a matter of going after the firm because they couldn’t get him and try and essentially dry the firm up, destroy its business?

SHEELAH KOLHATKAR: Well, I’m sure they thought very long and hard about how it would impact the firm’s business, because, of course, you know, it’s not good. It could lead to job losses. It will sort of send ripples throughout Wall Street.

But, yes, I think at some point they decided this operation was dirty on some level. And, of course, Cohen, and his firm have argued throughout this process that they haven’t done anything wrong. So, you know, this is the moment where the government has to really show its hand and they’re going to have to prove that this is actually true and, you know, that all this energy that has been spent trying to take this company down has actually brought them somewhere.

HARI SREENIVASAN: So what’s the impact on the firm so far? Has business gone away? Have dollars walked away from investments at SAC?

SHEELAH KOLHATKAR: Well, that’s a good question.

I mean, because this has been going on for so long, a lot of damage has already been done. The firm had about $15 billion at the beginning of this year. Only $6 billion of that was outside investor money. And over the course of this year, as one SAC employee or former employee after another has been charged or linked to insider trading, there has been all this terrible press and publicity, the SEC has charged the firm, so a lot of investors have already pulled out their money.

They only have around $1 billion in outside investor money left. So in that respect, even if the end result of all this is that Cohen himself get banned from the securities industry, all that means is that he cannot trade outside investor money. He cannot serve as an investment adviser. And he’s almost effectively at that point now. Most of the capital that remains in the fund is his own personal wealth.

HARI SREENIVASAN: As you mentioned, he faces no criminal charges. But what’s the impact to the rest of the street? Does this send a strong enough message? This is a huge firm that they’re going after and this is a culture that they’re kind of laying open.

SHEELAH KOLHATKAR: Yes, well, I think Preet made that pretty clear. He’s trying to discourage greed. At least that’s what he says. He’s trying to discourage cheating.

This is a firm that sort of had achieved legendary status on Wall Street. It was the biggest and most successful for the most number of years among a peer group of very large, successful hedge funds, and a lot of traders on Wall Street sort of inspired to work there. Stevie Cohen was this legendary figure. He was this amazing tape reader. He always made money. I mean, 2008 is the only year that his firm did not have sort of a very impressive performance.

So I think it is going to shake people. There had been some fatigue, I think, over the last few years on Wall Street over some of these insider trading cases. People were getting a little weary.

HARI SREENIVASAN: Yes.

SHEELAH KOLHATKAR: But this case today was so strong and so sort of dramatic, I think people are going to really pay attention. And I think it has already sent a message about cheating and aggressive behavior and the use of information.

HARI SREENIVASAN: All right, Sheelah Kolhatkar from Bloomberg Businessweek, thanks so much. SHEELAH KOLHATKAR: Thanks.