Last month, lawmakers from the ruling Democratic Party of Japan announced they will convene a panel to figure out how to stop an insider-trading problem they have been working on since 2006. Traders, operating on inside information, have been short selling shares of companies just before new equity sales are announced, which often causes the company’s share price to fall, then covering their short position by buying shares back at the new, lower price.
The lawmakers’ proposed solution is to cut the length of time between the announcement and the sale of equities to four days from the current 15.
Six years, and all they have come up with is a nonsolution.
Once a share issuance has been announced, subsequent transactions aren’t insider trading anyway. Even ignoring that reality, four days is still about 3 1/2 days longer than the market needs to re-calculate a share’s value. And what impact would the shorter period have on insider trading ahead of company-earnings announcements? M&A deals? Securing or losing a big contract?
It’s hard to conclude that Japan’s lawmakers are really interested in cleaning up insider trading.
The country’s white-collar scandals are almost as legendary as the slaps on the wrist given to the crooks. In a rare case that actually led to a prison term, Takafumi Horie, the chief executive officer of the internet company Livedoor Co., was sentenced to 2 1/2 years for cooking his company’s books. This had little deterrent effect, however, because so many people figure his real crime was wearing a T-shirt while trying to take over venerable Nippon Broadcasting. Yoshiaki Murakami, a fund manager who made about $30 million on insider trades related to the Livedoor excitement, paid fines amounting to only about a third of that and his prison sentence was suspended.
Last year, Olympus Corp. revealed that its management had conspired to cover up almost $2 billion in losses dating to the early 1990s. The man who blew the whistle, Michael Woodford, the company’s CEO, was sacked and vilified, then vindicated -- though you wouldn’t guess that by the company’s unbroken hostility toward him. Two of the directors who rubber-stamped the board’s unanimous vote to fire Woodford have kept their management roles.
In Japan, white-collar crimes are usually wrapped up with a statement of extreme regret, an occasional fine and not much else. And inside traders know it.
Since 2005, when Japan’s Securities and Exchanges Surveillance Commission announced a “crackdown” on individual inside traders, it has fined 121 people a total of just 268 million yen ($3.4 million), about $28,000, apiece. The four people arrested in Yokohama for insider trading last week made alleged profits of 2.4 million yen -- a tiny fraction of Murakami’s profits on Livedoor. They can’t be too worried about prison time. And since March, when the commission announced a separate crackdown on major financial firms, it fined First New York Securities LLC 4.7 million yen, but at the same time fined three local firms only 260,000 yen. Why bother?
The most effective way to reduce insider trading in Japan would be to put some high-profile people convicted of the crime in prison. Hong Kong started doing this in 2009, and has since handed down a half-dozen prison sentences, including a seven-year term for ex-Morgan Stanley banker Du Jun.
This may help explain why insider trading before merger-and-acquisition announcements in Hong Kong appears to have decreased in 2010 and even more in 2011, as Maeen Shaban, a doctoral candidate at the University of Malaysia, and I have recently found, after a yearlong study. There may not be a perfect cause and effect at work here, but imprisonment is a much greater deterrent than a fine, especially when the fine is so low as to allow inside traders to keep a good portion of their illegal profits.
In the U.S. since 2009, prosecutors have won more than 60 convictions or guilty pleas related to insider trading, with most penalties measured in years. U.S. Attorney Preet Bharara has said federal investigators are looking at 240 more cases and are likely to file criminal charges in half of them. After last month’s conviction of former Goldman Sachs Group Inc. director Rajat Gupta on three counts of securities fraud and one of conspiracy, don’t be surprised if many of these end in guilty pleas.
Prosecutors in the U.K. have also won prison terms, most recently a four-year sentence given to James Sanders, founder of now-defunct Blue Index Ltd. The U.K.’s Financial Services Authority has also imposed meaningful fines, including one for 7.2 million pounds ($11.2 million) against hedge fund Greenlight Capital and its owner David Einhorn. By the FSA’s calculation, Greenlight avoided losses of approximately 5.8 million pounds by shorting Punch Taverns Plc ahead of its announcement that new equity would be issued -- precisely the kind of transaction that Japan’s lawmakers are looking at.
Yet Japan dithers. Tsutomu Okubo, another ex-Morgan Stanley banker and leader of the Democratic Party of Japan’s panel on insider trading, told Bloomberg News, “We need to discuss how to make the Tokyo market attractive again. We should stamp out this environment that has given investors the desire to conduct insider trading.” That would sound more promising if it weren’t going to take the panel until next year to submit any proposed changes to parliament, and if there were reason to hope those changes would go beyond merely increasing fines.
There are more than 125 million wonderful people in Japan who have long tolerated a small number of crooks. They cannot keep looking away from crime in and around the capital markets. If long-term investors continue to find the game is rigged, Japan, with the world’s highest per-capita debt and an aging population, will suffer as those investors head for the exits.
Crisis produces action, and lawmakers as well as financial regulators in the U.S., U.K. and Hong Kong have done their jobs well in the past few years. Japan’s are failing. It’s not enough to form groups to hold meetings to plan agendas for discussions about proposals to be submitted sometime next year. Japan’s lawmakers could pass insider-trading laws with teeth next week. What are they waiting for?
(Robert Boxwell is director of the consulting company Opera Advisors, based in Kuala Lumpur. The opinions expressed are his own.)
Today’s highlights: the editors on ways to strengthen the health-care-reform law and on Europe’s banking deal; William D. Cohan on Wall Street’s municipal-bond scam; Noah Feldman on the constitutional right to lie; Albert Hunt on the politics of the health-care ruling; Pankaj Mishra on redefining the idea of Europe; Robert Frichtel on rules for medical marijuana and driving.
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