To Catch a Trader

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Ben Gold

Martin Smith& Nick Verbitsky

Nick Verbitsky

ANNOUNCER: Steven A. Cohen went from a small-time options trader to one of the most successful hedge fund managers of all time.

SHEELAH KOLHATKAR, Bloomberg Businessweek: Steve Cohen is a legend on Wall Street. He has amassed one of the great American fortunes.

OBSERVER: He founded SAC Capital and started generating some of the best returns out there.

BETHANY McLEAN, Vanity Fair: His track record, his performance were amazing, and everybody wanted him.

ANNOUNCER: But how did the "king of hedge funds" do it?

MARTIN SMITH, Correspondent: How does anybody make 60 percent a year?

CHARLES GASPARINO, Fox Business Network: Well, the feds are asking that right now.

ANNOUNCER: Behind the multi-year federal investigation of insider trading at many Wall Street hedge funds.

TRADER: [FBI wiretap] The deal looks phenomenal.

PATRICK CARROLL, FBI: There was a large network of insiders at a lot of these funds.

ANNOUNCER: And the trail that led from traders—

TURNEY DUFF, Author, The Buy Side: The phone rings, and says, "Jefferies is going to upgrade Amazon in 6 minutes." Thirty seconds later, I made about a half million dollars.

ANNOUNCER: —to information brokers—

JAMES FLEISHMAN, Sales V.P., Primary Global Research, 2006-10: They told me they were going to arrest everybody.

ANNOUNCER: —to SAC Capital.

NEWSCASTER: —arrested fund managers—

PREET BHARARA, U.S. Attorney, Southern District of New York: It doesn't matter who you are, rules are rules and the law is the law.

ANNOUNCER: Tonight on FRONTLINE, To Catch a Trader.

NARRATOR: November 2010, a team of reporters at The Wall Street Journal was finishing a major story about a years-long government investigation into insider trading on Wall Street.

JENNY STRASBURG, The Wall Street Journal: That Friday, we had been just working so hard, getting ready to put the story out. And we knew that it was going to, like, really be a game changer.

NARRATOR: The article was published late that night. On New York's Upper East Side, a trader, Donald Longueuil, was alarmed that his former employer, hedge fund giant SAC Capital, was named.

PETER LATTMAN, The New York Times: When Donald Longueuil read this article on a Friday night, he panicked because it became very clear to him that they were homing in on him and some of his colleagues.

NARRATOR: Longueuil scrambled. He pulled apart several of his computer hard drives containing incriminating evidence and recounted what he did with the remains in a recorded conversation with his colleague, Noah Freeman.

"I put them into four separate little baggies," he told Freeman. "And then I go on, like, a 20-block walk around the city and threw the [expletive] in the back of, like, random garbage trucks."

BETHANY McLEAN, Vanity Fair: Both Don Longueuil and Noah Freeman had worked at SAC, and they both ended up pleading guilty after the government caught them on tape.

NEWSCASTER: Two former SAC portfolio managers were named yesterday, prosecutors alleging what many have speculated for years, insider trading at Stevie Cohen's SAC Capital."

NARRATOR: The arrests were a big shock, but not a surprise to many traders on Wall Street.

CHARLES GASPARINO, Fox Business Network: Listen, if you walked up to a typical Wall Street trader and you say, "Hey, is there insider trading at SAC Capital going on?" after the guy falls on the floor dying of laughter, will get up and say, "Yes," OK?

MARTIN SMITH, Correspondent: He dies of laughter because it's a naive question?

CHARLES GASPARINO: It's a naive question. I mean, that's their reputation.

NARRATOR: The man at the top of SAC Capital, founder and CEO Steven A. Cohen, has been the subject of numerous articles and reports. He is not speaking publicly on the issue of insider trading, and he declined FRONTLINE's requests for an interview.

But in 2011, he was deposed for two days as part of a civil lawsuit brought against SAC. The deposition video was obtained by FRONTLINE.

STEVEN COHEN: The way I understand the rules on trading on inside information, it's very vague.

MICHAEL J. BOWE, Plaintiff's Attorney: Are you familiar with Rule 10b5-1?

STEVEN COHEN: No. No, not— that— you'd have to explain it to me.

NARRATOR: Rule 10b5-1 is the Securities and Exchange Commission's principal regulation prohibiting insider trading. It states that no trades can be made on the basis of what is called "material non-public information"— proprietary information that can move a company's stock.

MICHAEL J. BOWE: Do you have an understanding about whether, when in possession of material non-public information, you're ever allowed to trade in a security?

STEVEN COHEN: You know, that's not the way it's explained to me. The way I understand the law is that it's very vague, so it's an interpretation of the law.

HARVEY PITT, Chairman, S.E.C., 2001-03: I think every hedge fund manager knows what material non-public information is. And if they don't, I sure hope they're not managing your money or mine.

MICHAEL J. BOWE: So your understanding of the SEC rules on trading on inside information is that they do not preclude, unequivocally, trading while in possession of such information.

STEVEN COHEN: I'm not aware of that.

MICHAEL J. BOWE: You don't know one way or the other?


[ More of the deposition video]

NEWSCASTER: [1980s] CBS News. On Wall Street, the Dow Jones Industrials up 1.96, to close at 840.10, and gold—

NARRATOR: Steven Cohen came to Wall Street after graduating from Wharton business school in the late 1970s.

SHEELAH KOLHATKAR, Bloomberg Businessweek: Steve Cohen is a legend on Wall Street, and he's widely admired for the thing that people on Wall Street generally admire, which is making a tremendous amount of money trading. He has amassed one of the great American fortunes almost entirely on his own steam as a trader.

PETER LATTMAN, The New York Times: Steve Cohen developed a reputation as having this sort of gifted ability to read the tape and to trade stocks. He was at a firm called Gruntal, which is kind of a middling brokerage firm on Wall Street.

SHEELAH KOLHATKAR: And the environment was very much Wild West, eat what you kill. You got to keep a large percentage of your profits, which wasn't really possible at a lot of other firms. And that was sort of his formative period. That's where he learned how to trade.

CHARLES GASPARINO: If you talked to people on the Street, they would say that's the type of place where you learn about insider trading in all its— all its capacity.

SHEELAH KOLHATKAR: Gruntal, as a firm, encountered a number of regulatory issues. There were people sanctioned for insider trading. There were a whole bunch of issues with the management of the firm. And it seemed like no one was even paying attention to what the traders were actually doing.

NARRATOR: By 1992, looking for a bigger stage to play on, Cohen left Gruntal with a small fortune and invested several million of it to start a hedge fund called SAC Capital. He would help pioneer a new kind of hedge fund.

SHEELAH KOLHATKAR: Hedge funds have been around for decades, since the ‘40s. But the ‘90s is when they really took hold because a lot of guys decided they did not want to put up with the bureaucracy and the politics of big investment banks. They thought they were smarter than everyone else and that they could make more money if they just went out on their own.

NEWSCASTER: It was another wild day on Wall Street. The Dow Jones Industrial Average took off at the opening—

SHEELAH KOLHATKAR: It's important to remember that hedge funds weren't designed originally to outperform the market.

NEWSCASTER: Wild swings in stock prices have become almost an everyday event—

SHEELAH KOLHATKAR: They were meant to be this uncorrelated part of your portfolio. They were going to be hedged. So if a rich person wanted to protect some slice of their assets from sort of wild swings in the market, they could park some of their money in a hedge fund.

CHARLES GASPARINO: They always existed. They were just much more sleepy before, I would say, 1998, ‘99. And that's when they started exploding.

SHEELAH KOLHATKAR: There were a number of funds that had sort of high-flying, big returns. So suddenly, everyone thought, "OK," you know, "hedge funds have juice. They're going to beat the market. They're going to make me rich." And the expectations among investors changed and people started to think this is normal.

NARRATOR: But among the new breed of hedge funds, Cohen's returns stood apart. And so did his fees.

BETHANY McLEAN, Vanity Fair: He had an incredibly aggressive fee structure. The standard in the hedge fund industry is what's known as 2 and 20. That means you charge 2 percent of the assets you have under management and 20 percent of any profits. Cohen charged 3 and 50, meaning 3 percent of assets under management and 50 percent of any gains.

And the reason he could get away with it is really, really simple. His track record, his performance were amazing, and everybody wanted in.

NARRATOR: In his first seven years of managing money, Cohen had only three losing months, the worst a 2 percent decline. He consistently trumped the market by trading in and out of stocks quickly.

PETER LATTMAN: Cohen's strategy was really based around what people like to call an information-driven hedge fund. So he was all about trading around, say, the quarter.

NEWSCASTER: Intel exceeded Wall Street's earnings consensus by 3 cents a share—

NEWSCASTER: Dell computes a loss in the second quarter—

PETER LATTMAN: When a company announces its quarterly results, stocks will either go up or down based on that company's earnings.

NEWSCASTER: —up 52 percent from a year ago—

NEWSCASTER: —trading up in pre-market—

NEWSCASTER: —and new iPad coming—

NEWSCASTER: That 2 quarter number was scary and—

PETER LATTMAN: And Cohen's strategy was to get as much information as possible to have an edge, to be able to, you know, make money either on the up side or the down side, depending on how a company's earnings come out.

SHEELAH KOLHATKAR: People were throwing around this term "edge" a lot, which essentially means, you know, "What's your information advantage in the market? What do you know that other people don't know?" People were talking about this very openly, without any shame.

TURNEY DUFF, Author, The Buy Side: You're constantly trying to get edge. If you have edge, that means there's a reason that you know, that no one else does, legal or illegal, to buy the stock.

NARRATOR: Turney Duff worked at The Galleon Group, a hedge fund made famous by its founder and CEO, Raj Rajaratnam.

TURNEY DUFF: It's all about getting information. They call it trading stocks, but it's really trading information. Like, that's what we were doing. So you were constantly trying to make contacts of people who could help you make more money.

So I was expected to go out two, three nights a week. You know, the tab's always picked up. There was not a restaurant I couldn't go to, a club I couldn't go to, which is great for a guy in his late 20s in New York City. You know, the city was mine. It was just there for the taking and— and I took. But the purpose was for me to develop relationships and get information.

NARRATOR: For traders like Duff and those at other funds like SAC, the more contacts, the better.

TURNEY DUFF: You would have one guy who knew what was going to be on the cover of Barron's two days before it came out, and you'd have another guy who would be able to call you and say, "Hey, a billion dollars is coming into the market in two hours."

And you might go visit a friend in the Cape and find out that his father is a doctor, and then all of a sudden, you're thinking maybe he knows something to do with this drug that's trying to get approved by the FDA. So I started to realize that almost every relationship that you have could be, you know, information that— that will help you formulate a trade.

NARRATOR: Hedge fund traders also exploited the fact that they were very popular with stock brokers on Wall Street.

CHARLES GASPARINO, Fox Business Network: The reason why Wall Street loves these guys so much is because they're trading every day, so the market activity they generate is immense. And as they're trading so much, they're giving the Wall Street firms commissions. As the Wall Street firms are getting commissions, guess what? They give the hedge funds their best information.

NARRATOR: And more importantly, they would get the information first.

TURNEY DUFF: The more commission you pay, you know, the better service you're going to get.

NARRATOR: In the industry, it's known as a "first call."

TURNEY DUFF: You need that first call, and you're going to pay for it. If you're paying the Street $30 million to $50 million in commissions, you're going to get people's first call.

NARRATOR: Recognizing that, Cohen was willing to pay brokers big commissions.

BETHANY McLEAN: The rumor about Steve Cohen was always that he paid exorbitant commissions in order to be the biggest fee payer on Wall Street, so that he could get advance word about upgrades and downgrades.

SHEELAH KOLHATKAR: And I've heard many, many stories of bankers saying to their traders, "If Stevie calls, you drop everything. He's our best client."

CHARLES GASPARINO: Banks, because you give them so much trading commissions, tell you about market information before the rest of the world. Now, that has been considered legal.

MARTIN SMITH, Correspondent: How in the hell is that legal?

CHARLES GASPARINO: You know, markets are based on rumors all the time. You know, where do you draw the line between me misappropriating, getting someone to tell me what Apple's earnings are, or my sources in the market are saying, "Apple's going to knock it out of the park," you know what I'm saying? It's— it's a market. People talk. But the bottom line is SAC, because of its size and how much it trades, gets first dibs on that information.

NARRATOR: Over a 20-year lifespan, SAC Capital became a giant among hedge funds. And Cohen himself amassed incredible wealth, including a sprawling 35,000-square-foot mansion in Greenwich, Connecticut, a $62 million beach house in the Hamptons, and multiple apartments in Manhattan, including this $115 million mid-town duplex.

Cohen also assembled one of the most valuable private modern art collections in the world. And he has given tens of millions to charity. In 2002, Cohen sent out Christmas cards where he posed as "King Cohen." By 2008, his personal fortune reached $8 billion.

Beating the stock market year after year, Cohen's returns, even with his first calls, seemed too good to be true.

CHARLES GASPARINO: He takes 50 percent of the profits, and then he returns, even after that, like, 30, 40, 50, 60 percent.

MARTIN SMITH: So in order for him to return to you a 50 percent profit, he has to make 100 percent. He has to double money.

CHARLES GASPARINO: Yes. And it averaged for many years 30 percent after expenses.

MARTIN SMITH: After expenses, to deliver 30 percent to his clients—

CHARLES GASPARINO: That's his— yeah, that's— over time, is huge.

MARTIN SMITH: Means he's making more than 60 percent on the money he's managing.

CHARLES GASPARINO: Now you know how you go from $25 million to $9 billion.

MARTIN SMITH: How does anybody make 60 percent a year?

CHARLES GASPARINO: Well, the feds are asking that right now.

NARRATOR: The government's investigation of SAC Capital has taken a long and circuitous route. Seven years ago, it began focusing on a New York City hedge fund, the Galleon Group, and its CEO, Raj Rajaratnam. Rajaratnam was another Wall Street legend. He reigned over a very successful but relaxed, clubby and free-wheeling office.

TURNEY DUFF: He was very charismatic. He was very bubbly. And you know, it was almost as if, when he walked into the office, someone was dropping rose petals in front of him. And you know, it was like the— the homecoming queen. And everyone loved him.

NARRATOR: But Turney Duff remembers getting a hint of what was really going on at Galleon one day while manning the phones in Rajaratnam's absence.

TURNEY DUFF: I remember sitting there on the desk one day, and Raj Rajaratnam was out. And the phone rings and I'm, like, "Galleon," and the guy's whispering or something. And I'm, like, "Hello? Galleon." And he's, like, "Is Raj there?" I'm, like, "No." And so he's like "Hm." He's, like, "Jefferies is going to upgrade Amazon in six minutes"— click.

And so I'm sitting there and I'm, like, "Oh, my God, what do I do?" Like, because if I don't buy Amazon and the stock's upgraded and the stock goes up, they're going to find out. But if I do it, you know, isn't this illegal? What should I do?

And so I sat there for five minutes, sort of trying to— to make a decision. And— and I ultimately ended up buying 100,000 shares of Amazon. Thirty seconds later, I made about a half a million dollars. And I remember sitting there saying, "Wow." I'm, like, "If I got this call every day, I'd be a great trader, too." "OK, you know, I need my own Mr. Whisper."

[ More from Turney Duff]

NARRATOR: Duff left the Galleon group in 2001. Five years later, a lawyer at investment bank UBS was poring over some trading records.

JOHN MOON, UBS Litigation Group, 2003-10: I was in the litigation department at UBS, and as part of that function, I was the internal investigations coordinator. So when a matter came up that was suspicious, it would land on my desk. And what happened was this hedge fund was flagged by compliance.

NARRATOR: John Moon was alerted to a hedge fund, Sedna Capital, suspected of violating rules regarding what's known as "friends and family" money.

JOHN MOON: There were two parts to this hedge fund, a fund that had the public investors' money, and there was the fund that had the so-called "friends and family" money. And it appeared as though this hedge fund was allocating trades in a way that the friends and family would get all the winning trades, and the public money would get the losers.

And I started to look into some of those trades, and it also appeared to me that the timing of at least one of those trades was more than fantastic. So it was determined that I should go down to the SEC and report the matter.

NARRATOR: But it was the identity of Sedna's owner that piqued the interest of regulators.

JOHN MOON: Sedna was run by Rengan Rajaratnam. And I said to them, "By the way, you know, Rengan Rajaratnam is the brother of Raj Rajaratnam, who runs Galleon." And that got their attention.

NARRATOR: The Securities and Exchange Commission suspected that Rengan was getting insider tips from his brother, Raj. Investigators requested Raj Rajaratnam's records, and in his instant messages found recent communications between him and a woman named Roomy Khan. A well-connected Silicon Valley executive who once worked at Intel Corporation, Khan was someone familiar to the FBI.

PATRICK CARROLL, FBI: This person was what's called "known to the bureau." This person had been involved in insider trading in the past, and they were punished. No sooner than they came off probation, this person was engaged and involved in insider trading.

MARTIN SMITH: So the SEC had their eyes on this person.


MARTIN SMITH: They had committed insider trading, been caught, been sanctioned, and then were back on the Street. And so—

PATRICK CARROLL: So now the question is, "How are we going to approach this person?"

NARRATOR: To get Khan to cooperate, an FBI agent, B.J. Kang, was sent to Atherton, California, to confront her at home.

B.J. KANG, FBI: We try to initially do most of the talking. We tell them, "We're not just here to tell you that you're in trouble. I want to help you," make it clear to that person that, you know, this isn't going to go away.

NARRATOR: Kang told her what the FBI knew— that she had passed valuable inside information to Rajaratnam.

B.J. KANG: The message that we want to get across is, "This is a serious situation." You know, "Your life is never going to be the same again."

NARRATOR: After a two-hour meeting, Roomy Khan agreed to cooperate and become an informant for the FBI. In New York, agents had been looking for other potential informants among Rajaratnam's employees.

DAVID CHAVES, FBI: We spent months surveilling people from their home to the subway, to work, followed them on their breaks, listened to what they had to say, who they were speaking to, so that we could learn as much as we could about these people.

NARRATOR: One of those people was David Slaine, a trader who once worked alongside Turney Duff at Galleon.

TURNEY DUFF: David Slaine was one of the most feared people on Wall Street. I mean, he's a big guy, very intimidating, and there wasn't a personality bigger on Wall Street when it came to trading.

NARRATOR: In June 2007, FBI agent David Chaves and his squad moved in.

DAVID CHAVES: And on the given day, when we felt that the timing was right, we would get behind that person in a Starbucks or Dunkin' Donuts, and when the clerk would ask, "How do you take your coffee," we would answer for him, "Two sugars and cream. Please come with us. We'd like to speak to you."

MARTIN SMITH: And what was his reaction at that moment?


NARRATOR: Slaine was stunned, and flipped. He soon provided critical insights into Raj Rajaratnam's inner circle.

PATRICIA HURTADO, Bloomberg News: He had an amazing Rolodex. He had a lot of connections. And a lot of it, turns out, came from people he went to Wharton Business School with. So the people he went to Wharton with, some of them became executives in big companies and consulting companies. And he was still friends with a guy who worked at Advanced Micro Devices, AMD. So he continued to sort of cultivate these people. Some of them he actually had real friendships with.

NARRATOR: The FBI continued to gather more names, and when Agents Carroll and Chaves sat down at FBI Headquarters to compare notes, they realized there was more corruption out there than they had suspected.

PATRICK CARROLL: As the Galleon case expanded, we realized that they had a large network of insiders and other funds that were willing to engage with them.

MARTIN SMITH: How large?

PATRICK CARROLL: Significant. It was—

MARTIN SMITH: Are we talking 10 funds, 20 funds?

PATRICK CARROLL: It was a lot of funds. It was— it was a lot of funds.

MARTIN SMITH: What did you say amongst yourselves? What did you think you were onto here?

DAVID CHAVES: We likened it to the first "Jaws" movie, that we're going to need a bigger boat.

MARTIN SMITH: This was a bigger shark than you bargained for.

DAVID CHAVES: It sure was. Sure was.

NARRATOR: Beginning in late 2007, the FBI obtained authorization to tap the phones of Galleon traders, including Raj Rajaratnam.

ADAM: Hey, Raj.

RAJ RAJARATNAM: Hi, Adam. How are you?

ADAM: Oh, I've been better. Listen, I talked to Kamal last night—

NARRATOR: It was the first time federal agents had used a wiretap for an insider trading investigation.

ADAM: The deal looks phenomenal to them.

CHARLES GASPARINO, Author, Circle of Friends: In the past, they did it for Mafia guys, they did it for drug dealers, obviously terrorism. But since the Wiretap Act was passed in the late ‘60s, that was basically it. Now we've got them going after white-collar criminals with wiretaps.

ADAM: : It's at 9. The book value's 18.

CHARLES GASPARINO: They approached it as if they were going after the Mob.

RAJ RAJARATNAM: OK. How's the market treating you today?

ADAM: Ah, like a baby treats a diaper. [laughs]

DAVID CHAVES: One of the riches of wire intercepts is the freedom that they— they used in talking about trading. And this cascading flow of riches is still being sorted through today.

PATRICK CARROLL: But remember, when guys are talking about stocks all day long, it's not easy to decipher what may be inside information, if you will. So my personal submission is we probably missed a lot more than we captured.

PETER LATTMAN, The New York Times: Rajaratnam's sources ranged from everyone from— you know, from lower-level company employees to fellow Wall Street traders. There was this dynamic character named Danielle Chiesi, who was a hedge fund manager, who considered herself a seductress.




RAJ RAJARATNAM: How are you?


PETER LATTMAN: She had an affair with an IBM executive, and he was giving her inside information about the computer company.

DANIELLE CHIESI: I'm a chick in this business with a reputation of knowing IBM.

PETER LATTMAN: But the most shocking figure in the entire insider investigation was Rajat Gupta.

NARRATOR: Rajat Gupta was one of the most respected businessmen on the Street, a board member of Procter & Gamble, American Airlines and Goldman Sachs.

PETER LATTMAN: Gupta was sitting on a call in October of 2008, in the middle of the financial crisis, hearing how Goldman Sachs was going to get a $5 billion investment from Warren Buffet, arguably the most famous investor in the world. And here was Rajat Gupta had that information, secretly.

And what does he do when the phone call ends? He hangs up the phone, he calls his friend, the hedge fund manager, Raj Rajaratnam, and says, "You're not going to believe what's happening. Buffett's getting an investment into Goldman Sachs."

So what does Rajaratnam do? He loads up on Goldman Sachs stock, and when they announce it that evening, he's able to make a lot of money.

NEWSCASTER: Buffett's Berkshire Hathaway is now saying it is buying a $5 billion stake in Goldman!

NEWSCASTER: $5 billion in Goldman stock—

NEWSCASTER: —preferred stock—

NEWSCASTER: It's a huge surprise—

NEWSCASTER: Warren Buffett is buying a stake in Goldman—

PATRICIA HURTADO, Bloomberg News: The next day, Raj gets on the phone with one of his traders in Asia, and he's so proud of himself.


IAN: Hey, buddy. How are you?

RAJ RAJARATNAM: So big drama yesterday.

IAN: Yeah.

RAJ RAJARATNAM: I get a call at 3:58, right, saying something good might happen to Goldman.

NARRATOR: Prosecutors allege that Gupta had a financial interest in passing Rajaratnam insider tips. He was convicted on insider trading charges but is now appealing. Rajaratnam was convicted and is serving an 11-year sentence.

MARTIN SMITH: There's a picture I've seen of you with Rajaratnam under arrest. Put me in the moment.

B.J. KANG, FBI: There are two sides to that, where this was a culmination of the amount of work that we put into it, but the other side, the bigger side for me, was that based in part because of the Galleon investigation, we still had a tremendous amount of work to do. So it wasn't, "We made the arrest, now it's over." It was, "We made the arrest, OK, now we continue."

NARRATOR: The FBI refocused their investigation. Informants had pointed them toward independent research firms known in the industry as "expert networks."

SHEELAH KOLHATKAR, Bloomberg Businessweek: Well, a number of traders have said to me that everyone in the business used expert networks, that basically, you weren't doing your job if you did not talk to expert network consultants.

PHONE: Please enter your conference code now.

NARRATOR: There are about 40 expert networks operating nationwide.

CONFERENCE CALL PARTICIPANT: I think it's pretty volatile—

NARRATOR: Independent of the traders, and with almost no regulation, they can act as matchmakers putting employees inside companies on the phone with big investors like hedge fund portfolio managers.

CONFERENCE CALL PARTICIPANT: OK, that sound good. All right. Thanks.

PETER LATTMAN: Now, there were rules, and even the expert networks knew that there were rules, as to what the public company employees could and could not speak to money managers about. So you might be able to give a broad view on, say, a product that your company might be developing, but you can't tell the portfolio manager, you know, what the upcoming quarter's going to be. And of course, these Wall St money managers, they wanted as much information as they could possibly pump out of these public company employees.

SHEELAH KOLHATKAR: So you had a lot of hedge fund guys calling up middle managers at manufacturing equipment firms, asking them about their orders, or their pipelines or how many trucks are in their parking lot. They had portfolio managers talking to doctors, researchers at drug companies, to explain about the development of a particularly hot new drug.

Then you had the hedge fund investors paying a lot of money to these expert network firms, who would then pay these consultants.

NARRATOR: Expert network firms charge as much as $5,000 for an hour-long phone call. Some hedge fund clients paid as much as a million dollars a year. With that kind of money in play, expert networks were under pressure to deliver actionable information.

CHARLES GASPARINO: Expert networks were the sort of middleman that misappropriated the information directly from the company to the hedge fund trader. The hedge fund trader's paying a lot of money. You know, they want to know more than theoretical and sort of, you know, intuition. They want to know what could move a stock.

MARTIN SMITH: They don't want just punditry, they want hard facts.

CHARLES GASPARINO: And they want inside information.

MARTIN SMITH: That's what it leads to.

CHARLES GASPARINO: It led to that in many, many cases.

DAVID CHAVES, FBI: Expert networks performed a very legitimate function in the industry. They were also used for insider trading. And we learned this because we use cooperators to join these networks, and we recorded these telephone calls.

JAMES FLEISHMAN, Sales V.P., Primary Global Research, 2006-10: This is James.

FBI INFORMANT: James. Good morning. This is Karl.

JAMES FLEISHMAN: Oh, hi, Karl. How're you doing?

NARRATOR: In 2009, the FBI had an informant pose as a hedge fund manager and call an expert network in Mountain View, California, Primary Global Research.

FBI INFORMANT: Walk me through how it works. So do you give me a list of contacts?

JAMES FLEISHMAN: You will get information from our Web site—

NARRATOR: The informant is speaking to a PGR vice president, James Fleishman, who explains how the service works.

JAMES FLEISHMAN: And then we'll set up the call for you. We just try to provide anonymity to some degree for the experts.

FBI INFORMANT: That's just to protect them—

JAMES FLEISHMAN: Yeah. You know, we have people from a lot of public companies.

NARRATOR: Fleishman also explains how to hook up with one of PGR's better experts.

JAMES FLEISHMAN: Generally, what you want to see with these experts is that, you know, people talk to them, and then they check back with them, you know, a couple months later. So there— you know, there's a pattern that she's, you know, providing information that's useful, and I see a little bit of that. [laughs]

NARRATOR: In an interview with FRONTLINE, Fleishman described how PGR tried to protect itself.

MARTIN SMITH: Individual consultants that you were linking up with the hedge fund managers were asked to sign an agreement by your company.


MARTIN SMITH: And that agreement stipulated what exactly?

JAMES FLEISHMAN: So it stipulated that they couldn't talk specifically about their own company. They couldn't give out proprietary information about their own company.

MARTIN SMITH: And why was that agreement important?

JAMES FLEISHMAN: Well, because there's security laws, you know, that— that prohibit that type of information being exchanged.

NARRATOR: But in a manuscript Fleishman shared with FRONTLINE, he admits this kind of exchange was inevitable.

MARTIN SMITH: You wrote that, "It occurred to me—"— this is your writing in an unpublished memoir. "It occurred to me that over the course of these calls, that experts may at times have been talking about things they should not have been."

JAMES FLEISHMAN: "It occurred to me." Well, I was aware of the fact that it was possible that— that they could be disclosing information that they shouldn't have been. But there were no— there were no specific instances that I was aware of.

MARTIN SMITH: But you did say, I mean, not only that it was possible, you say— you wrote, "It was bound to happen from time to time." So you were aware that this was not just possible but was likely.

JAMES FLEISHMAN: No, I wouldn't say that.

MARTIN SMITH: Well, you said it was bound to happen. I'm quoting you, right?


MARTIN SMITH: "Given the volume of calls and the nature of the investment community's thirst for information, it was bound to happen."

JAMES FLEISHMAN: OK. Yeah, if you have 10,000 calls, you know, is there going to be— is— is a consultant going to give out a piece of information that they shouldn't? You know, is that going to happen? The probability is, yes, it will— it will happen that someone will talk about something that— that— that they shouldn't if— if you have 10,000 calls.

NARRATOR: Fleishman insists he did nothing wrong. But the FBI didn't only record Fleishman, agents also had a wiretap on PGR's private conference line.

WINNIE JIAU, PGR Consultant: Hello?

NOAH FREEMAN, SAC Trader: Hey, Winnie.

WINNIE JIAU: How are you?

NARRATOR: The woman speaking is Winnie Jiau. A Taiwanese-born Stanford graduate, Jiau was a Silicon Valley contractor who made more than $200,000 as a PGR expert consultant.

PETER LATTMAN: Winnie Jiau was one of these consultants very well connected inside the technology world, especially at companies that had operations in Asia.

NOAH FREEMAN: So what have you been hearing from your friends?

WINNIE JIAU: A lot of the orders down.


WINNIE JIAU: Broadcom, Marvell, all cut orders. Nvidia, as well.

PATRICIA HURTADO, Bloomberg News: She had worked at Nvidia, so she had friends there. So she maintained the friendship.

NOAH FREEMAN: So Qualcomm's OK, but everyone else is cutting orders?


NARRATOR: Jiau was consulting for an SAC trader named Noah Freeman.

NOAH FREEMAN: Any other updates? How is Q4 looking?

WINNIE JIAU: Q4 utilization probably drop to low 80.

NARRATOR: Freeman shared Winnie's tips with his colleague, Donald Longueuil.

PATRICIA HURTADO: And these hedge fund guys were making a ton of money off Winnie.

CHARLES GASPARINO: She was someone that, you know, would demand payment. You know, she was kind of described as a high-maintenance person.

PATRICIA HURTADO: She would message them and she'd say,"Are you guys going to pay?" Say, "Yeah, sure. We're putting the checks in." And then she would say, "Oh no. Cooks need more sugar. I'm going to need more sugar than this."

And Noah told his secretary at one point to get a $500 gift certificate for a nice women's clothing store and to send it to her as a thank you. And so they send her the gift certificate, and it gets sent back returned. "Don't want it." "What do you want?" She wants $500 gift certificates to the Cheesecake Factory. And then she wanted live lobsters.

CHARLES GASPARINO: I think what's interesting is how many hoops people will go through to get to information. I mean, you would think some guy from SAC Capital would say, "You want a lobster?" You know, "[expletive] off." You know what I'm saying? But no. She got the lobsters because she was giving him what he needed, which was inside information.

WINNIE JIAU: So for Q1 for Marvell, revenue is $842 million.


NARRATOR: Freeman says that over a four-year period, he made $5 million to $10 million by trading off of Winnie Jiau's information.

WINNIE JIAU: That's all I have.

NOAH FREEMAN: OK. That's very helpful, Winnie.

[ Watch on line]

NARRATOR: By May 2010, the FBI was ready to move in.

JAMES FLEISHMAN: I stopped to get some lunch at a Subway sandwich shop. I walk in there, and there's a couple guys in suit, and these two guys turn out to be FBI agents. They played recordings for me.

MARTIN SMITH: And they told you what?

JAMES FLEISHMAN: They told me they were going to arrest our clients. They were going to arrest our consultants. They were going to arrest everybody.

NARRATOR: Fleishman served 14 months in federal prison. Winnie Jiau was sentenced to four years based on Noah Freeman's profits. Freeman, on the other hand, began cooperating with the FBI and has not been sentenced yet.

In November 2010, The Wall Street Journal broke the PGR story, sending Donald Longueuil on his frantic early morning effort to destroy evidence. Three days later, the FBI raided two other PGR clients.

NEWSCASTER: The raids come on the heels of a weekend report in _The Wall Street Journal_—

NARRATOR: Both had close ties to SAC Capital.

NEWSCASTER: —Diamondback Capital Management and Level Global Investors—

NEWSCASTER: —that the U.S. attorney in Manhattan had arrested members of the expert network firm Primary Global Research, and we wondered when federal prosecutors would get around to charging hedge fund managers.

NARRATOR: Informant Noah Freeman had led the FBI to his good friend and former best man, Donald Longueuil. He also spoke openly about life as a trader at SAC.

PATRICIA HURTADO: He gives a laser-sharp view of what life is like at SAC. He tells the FBI that to do business and succeed at SAC, it was understood that you give material non-public information.

BETHANY McLEAN: The way SAC works is that these traders operate in pods, and they're very independent. There's not a lot of oversight. And if Cohen likes one of your ideas and puts it in his portfolio, then you get a percentage of his profits, as well. So if you were a cynic, you would say the incentive for people at SAC is to do whatever they can to make money, and Cohen doesn't have to know about it. He can be insulated from the source of people's ideas.

NARRATOR: But in March 2013, another arrest— Michael Steinberg, an SAC portfolio manager very close to Steven Cohen.

SHEELAH KOLHATKAR: Steinberg's been at SAC for 10 years, you know, trading mostly tech stocks, and is considered a very, very trusted confidant and source of information to Cohen.

JENNY STRASBURG, The Wall Street Journal: He rose through the ranks. He was— he was a trusted sort of arbiter. You know, Cohen would go to him to kind of make sense of varying opinions about stocks.

NARRATOR: Investigators believed that through Steinberg, they had caught Cohen selling an $11 million stake in Dell Computer based on illegal inside information.

PETER LATTMAN: The government says that Cohen received an email that said, "I have a source inside Dell that's giving me information that the quarter's going to be bad." What Cohen's lawyers have said is that he did not read that email before he sold Dell stock. He was out at his beach house in the Hamptons that day when the email came across his screen, and he just didn't read it.

NARRATOR: Cohen's lawyers say that he sold his Dell shares because another SAC trader he relied on was also doing so. No charges were brought against Cohen.

Steinberg pled not guilty to insider trading and was convicted in December 2013. He currently awaits sentencing.

But now there's another case focusing attention on Cohen and SAC Capital.

REPORTER: Did you ever see Mr. Cohen—

REPORTER: Mr. Martoma, are you waiting for a better deal from the government?

NARRATOR: SAC portfolio manager Matthew Martoma is accused of using an expert network to obtain valuable inside information.

BETHANY McLEAN: Through an expert network, Martoma cultivated a doctor who was involved in the clinical development of a very important drug for Alzheimer's that was being developed by two companies, Elan and Wyeth.

NEWSCASTER: Wyeth is writing up its latest prescription for investors—

ROBERT ESSNER, Wyeth CEO: We actually have six projects now in Alzheimer's disease, two of which are in clinical trials. We collaborate with Elan on those and—

NEWSCASTER: You're collaborating with Elan—

PETER LATTMAN: To help with the drug testing, Elan and Wyeth had hired a University of Michigan neurologist named Sidney Gilman. And through an expert network, Martoma had developed a relationship with Gilman, who was giving him all sorts of information.

NEWSCASTER: Elan Corp. up $2.09. The company and its partner, Wyeth, have started advanced trials for their Alzheimer's disease treatment—

NARRATOR: Initially, the news looked good, the trials promising.

NEWSCASTER: Wyeth moved up $2.03 to $58.41. There's great optimism about the success of the drug.

PETER LATTMAN: And over the course of 2008, SAC built up a huge position that was really, really bullish on Elan and Wyeth. And inside SAC, there was— there was a thought that it was just too risky to be exposed to those two companies heading into the trial announcements.

SHEELAH KOLHATKAR: There were several analysts and traders who felt very bearish on Elan and Wyeth, and they could not understand why Martoma and Cohen were building up these pretty substantial unhedged positions. And Cohen would say, "Well, Martoma knows a lot about this."

PETER LATTMAN: Martoma told Cohen that he had the greatest conviction in the stock. And Cohen said, "He's my guy." And they stayed long the stock.

NARRATOR: In Santa Rosa, California, a pharmacist and private investor, Greg Kappes, thought the news looked good, too. He had purchased more than $1.2 million worth of Elan shares.

MARTIN SMITH: So they had a first trial on a drug, and that looked promising to you. And that contributed to your decision to buy more shares.

GREG KAPPES, Elan Investor: Yeah. I thought that that was— what was really going to drive this stock to levels that would make me and several other people happy.

MARTIN SMITH: And what did that mean to you, when you learned that SAC had taken a large position?

GREG KAPPES: I thought that that was a good sign. To see them pumping money into it, you think to yourself, "Wow, I got ahead of the curve here. I'm with the big boys now." So this looked like a good thing.

NARRATOR: But unbeknownst to Kappes, nearly two weeks before the drug's second round trial results were released to the public, the government claims Dr. Gilman leaked the results to Martoma.

BETHANY McLEAN: In the days before the results of the clinical trial are due, Martoma allegedly gets a PowerPoint from Dr. Sidney Gilman revealing some really bad news about these drugs. And Martoma calls up Steve Cohen, and the only people in the world who know what happened on that conversation are Martoma and Steve Cohen.

PETER LATTMAN: The next day, SAC started to aggressively unwind its large positions in Elan and Wyeth, and in fact, ended up going short those two stocks, to make a bet against them.

NEWSCASTER: —Elan PLC tumbling $14.12. That's a 43 percent drop.

PETER LATTMAN: The announcement came out, the results were very negative, and both Elan and Wyeth dropped in value.

BETHANY McLEAN: So according to the government, SAC ends up making an estimated $275 million based on inside information.

NARRATOR: Dr. Gilman is cooperating against Martoma in what has become the largest insider trading case in history. Greg Kappes lost more than a half million dollars and has joined a class action lawsuit against SAC.

MARTIN SMITH: So you played in the market and you lost.


MARTIN SMITH: It happens to people all the time in the stock market.


MARTIN SMITH: What was different?

GREG KAPPES: It was gamed. And in hindsight, what we found out is that SAC knew the hand before everybody else did, and acted accordingly.

NARRATOR: This is a copy of SAC's code of ethics and conduct obtained by FRONTLINE. In the industry, it's a called a compliance manual. It spells out the rules prohibiting insider trading.

In his 2011 deposition, Cohen was asked by the plaintiff's attorney if he was familiar with SAC's compliance manual.

MICHAEL J. BOWE: Now, the SAC compliance manual at the time provided that if you were in possession of material non-public information, you could not trade, period, correct?

STEVEN COHEN: Yeah. Well, the way—

MICHAEL J. BOWE: Is that correct?

STEVEN COHEN: Actually, I don't know what it says.

MICHAEL J. BOWE: OK. So you don't know— at the time, you didn't know what SAC's compliance manual said on insider trading?

STEVEN COHEN: When it comes to trading, I rely on counsel.

MICHAEL J. BOWE: You know, you're talking about somebody who's been in the industry for 30 years, and for him to be that oblivious of these very central things to his business in that deposition was shocking.

STEVEN COHEN: I don't remember what it says.

MICHAEL J. BOWE: So you don't know today, sitting here as the head of the firm, what—

STEVEN COHEN: That's right.

MICHAEL J. BOWE: —your compliance manual says.

STEVEN COHEN: I've read it, but if you're asking me what it says today, I don't remember.

MICHAEL J. BOWE: What it meant was he really didn't care to have an understanding of what the rules were or even what was in his compliance manual, which just told me he didn't take those things very seriously.

STEVEN COHEN: —and there was trading in Fairfax—

NARRATOR: The deposition was part of a lawsuit filed against SAC and other hedge funds by a company called Fairfax Financial over allegations of price manipulation.

STEVEN COHEN: —and we went short Fairfax—

MICHAEL J. BOWE: Fairfax had been targeted for what's classically called a "bear raid," which is when short sellers go out into the marketplace and try and drive the stock price down artificially by putting out negative information about the company.

STEVEN COHEN: Well, it really comes down to where they heard it. You know, if they heard a rumor, I'd think it'd be totally appropriate.

NARRATOR: Michael Bowe asked Cohen whether he thought it was acceptable for his traders to short a stock if they have advance knowledge of negative press stories about the company.

MICHAEL J. BOWE: What if they sent you an e-mail that said the reporter told me he's coming out with a negative story? It is it your testimony it would be OK for them to short?

STEVEN COHEN: [long pause] If the story was not coming out in a relatively short period of time, I would say there was ambiguity on that. I think it might be OK.

NARRATOR: Fairfax's suit was dismissed, but the Securities and Exchange Commission took an interest in Cohen's answers under oath and subpoenaed his deposition.

NEWSCASTER: A deposition by Steve Cohen may come back to haunt him as he tries to protect his SAC Capital from a federal insider trading lawsuit—

NARRATOR: In July of 2013, the SEC brought a civil case against Cohen, alleging he failed to supervise his traders, a charge he is fighting.

PETER LATTMAN: They basically said, "Look, this was an operation where there was a complete failure of compliance, and Cohen, who has his name on the door and owned 100 percent of the firm, failed to properly supervise these guys."

NARRATOR: That same month, the Justice Department filed a criminal indictment against SAC, calling it a "magnet" for market cheaters.

PETER LATTMAN: The government decided that they found insider trading so pervasive that they wanted to put their foot down and say, "OK, this is effectively a criminal enterprise, and we're going to declare it that and charge the firm criminally."

NARRATOR: Steven Cohen's lawyers have argued that he has never been involved in insider trading. Cohen has repeatedly declined FRONTLINE's requests for an interview.

[ More from Cohen's lawyers]

FOX BUSINESS HOST: The embattled hedge fund is preparing to give back most of the client money it still manages. But one client is staying put. He is Ed Butowsky, the managing director at Chapwood Investments—

NARRATOR: But one Dallas money manager, Ed Butowsky, did agree to talk.

ED BUTOWSKY, Managing Director, Chapwood Investments: Allegations have been made. But you know, what kind of country do we live in when everyone in the world just starts convicting somebody, when we've yet to hear back from Stevie Cohen?

MARTIN SMITH: It's unusual for a money manager to come public like this and speak out on behalf of a fund like SAC.

ED BUTOWSKY: I'm not so much speaking out for the firm, I'm speaking out for due process. And I don't know all the facts. All I know is what has been alleged. And if some people—

MARTIN SMITH: It's not just allegations.

ED BUTOWSKY: Right now, it is allegations. Has Stevie Cohen or SAC been put on trial? And have they been convicted?

MARTIN SMITH: Individuals have pled guilty to insider trading.

ED BUTOWSKY: OK, give me facts. Tell me exactly what it was, what it amounted to, and did Stevie Cohen know it. Did the firm know it? Because guess what? It happens. There are bad people out there!

NARRATOR: In November 2013, after months of talks—

PREET BHARARA, U.S. Attorney, Southern District of New York: Good afternoon, everyone. My name is Preet Bharara, and I am the U.S. attorney for the Southern District of New York—

NARRATOR: —SAC Capital agreed to plead guilty as a corporation.

PREET BHARARA: —for engaging in insider trading that was substantial, pervasive, and on a scale without precedent—

NARRATOR: Under the proposed agreement with prosecutors, SAC would cease to operate as a hedge fund. And as sole owner, Steven Cohen would pay the largest insider trading fine in history.

PREET BHARARA: —in the record amount of $1.8 billion.

NARRATOR: And U.S. attorney Preet Bharara says the insider trading investigations will continue.

PREET BHARARA: A number of people have been charged and convicted, and the investigation remains ongoing.

It doesn't matter in who you are, how much money you have, who you're connected to, you have to play by the same rules as everyone else. You know, rules are rules and the law is the law.

NARRATOR: Cohen has not been charged with insider trading. The judge who sentenced Raj Rajaratnam questions if there is enough evidence.

MARTIN SMITH: The government alleged that SAC Capital was, quote, "a veritable magnet of market cheaters." And they then decided to indict the company, not the founder and architect and president, the man who ran the company. Does that make sense?

JUDGE RICHARD J. HOLWELL, Southern District of N.Y., 2003-12: Well, you would have to assume, by looking at the indictment, that the government did not believe it had the goods on Mr. Cohen.

MARTIN SMITH: So if I form a company, and you know, I have 1,000 employees, but I have a couple of units of that company that are engaged in criminal behavior, even if the company's indicted, I don't really face any consequences for setting that up?

RICHARD HOLWELL: In the criminal law, in order to be guilty and for the government to be able to convict you, you have to show criminal intent, a willing intent to violate the criminal laws.

MARTIN SMITH: But there is such a thing as criminal negligence.

RICHARD HOLWELL: Well, yes, there is such a thing as criminal negligence. You can't violate the insider trading laws— you can't commit fraud negligently.

NARRATOR: As it stands, the criminal negligence laws that cover some industries do not apply to finance. To change that, Congress would need to pass a new statute.

PREET BHARARA: We have conspiracy statutes, and we have aiding-abetting statutes. And we have the criminal ability to bring a case against an institution. But we don't bring criminal cases against people for negligence.

MARTIN SMITH: Do you think you'll ever see a case where negligence rises to criminal liability?


MARTIN SMITH: In the— in the hedge fund world?

PREET BHARARA: I don't— I would doubt that.

NARRATOR: The trial of SAC portfolio manager Matthew Martoma, who pled not guilty, starts this week. The Justice Department is actively investigating two other insider trading cases involving SAC.

1h 48m
Global Spyware Scandal: Exposing Pegasus
In a two-part documentary, FRONTLINE and Forbidden Films explore how the powerful spyware Pegasus, sold to governments around the world by the Israeli company NSO Group, was used on journalists, activists, the wife and fiancée of Saudi journalist Jamal Khashoggi and others.
January 3, 2023