Today’s Wall Street Journal has a front-page article laying out some of the investigative puzzle pieces that led to authorities uncovering the alleged major insider-trading scheme involving Galleon Group. This particular passage was close to home here:

The tipper identified as Ms. Khan began cooperating with the government in November 2007, according to the government. The New York Stock Exchange picked up unusual trading in Advanced Micro Devices Inc. and Hilton shares on one of its internal monitoring systems and alerted federal authorities, according to a spokesman for the NYSE. It is unclear whether the SEC was already looking into the situation.

I’m glad such articles make the front page because of their deterrent value, but after reading amazingly similar-sounding cases over the course of my 21 years here, I think that for some people, greed and ignorance just win out in the end. They money sounds too good, and they thing they’re too smart to get caught.

I’m reminded of the scene in “Body Heat” where the ex-con played by Mickey Rourke schools the ne’er-do-well lawyer played by William Hurt on how to commit arson, and then leaves the lawyer with this warning:

I got a serious question for you: What the [expletive] are you doing? This is not [expletive] for you to be messin’ with. Are you ready to hear something? I want you to see if this sounds familiar: any time you try a decent crime, you got fifty ways you’re gonna [expletive] up. If you think of twenty-five of them, then you’re a genius… and you ain’t no genius.

It loses something without the expletives, but you get the picture. As long as there are stupid, greedy people, there will be stock cops on beat. As I wrote here earlier this year about a different insider-trading case in which NYSE Regulation uncovered helpful evidence:

So for those too lazy or ignorant to go to school on Ivan Boesky and Dennis Levine, the School of Hard Knocks is always open to new students. Your trading records? Available to regulators. Your access to advance, material, non-public information, or to others who have it? Available as well. Put them together with some investigative work, and you have an excellent chance of getting caught, even if you’re outside the securities industry…

An alleged market fraud by a Kuwaiti financier — who was later found dead — received a good deal of attention in the press last week, including articles in the New York Times among others. But this Reuters article offers something the others did not: a look behind the scenes at how the alleged scheme was uncovered, and how NYSE Regulation and the Securities and Exchange Commission moved quickly to halt it.

Excerpt:

Early on July 20, an individual investor called to tell regulators at the exchange he had purchased shares of Harman International Industries Inc on news reports it was the target of a takeover — reports on some smaller websites that the caller was starting to question.

NYSE Regulation, the oversight body that provided this account, said the tip reinforced suspicions about trading activity that in-house surveillance tools were picking up related to Harman shares, which jumped at least 33 percent before markets opened that Monday morning.
NYSE’s market police then scoured news on the listed company, and called it when the source of the takeover report was not immediately clear. The company knew nothing about such reports, and, just before U.S. markets opened, issued a public statement saying so.

With financial markets digesting the statement — and mainstream media starting to connect the dots to unusual faxes some outlets received on the weekend — NYSE Regulation contacted the U.S. Securities and Exchange Commission to help it identify where the market-moving news came from.

In an interview, NYSE Regulation said it then checked the tape for recent trading in Harman shares, and quickly identified a short list of brokerages that made large purchases, and sold the shares at handsome profits on Monday.

“This was a good old rumor manipulation case,” said John Malitzis, executive vice president of market surveillance at the arms-length oversight body. “Somebody issues an unsubstantiated rumor … and does so in order to benefit from the impact that that rumor will have on the stock price.”

Staff “did some quick and dirty detective work, closely with the Commission’s enforcement staff, to address the potential fraud here,” he told Reuters.

The rest is a tale of fast followup to interrupt the scheme before the trades settled and ill-gotten profits could disappear. Here is the SEC’s announcement of the case, which is still ongoing.

PS — The Reuters piece today was picked up by the Times’ DealBook blog.

Wrongdoing seems to know no generational boundaries, it has a very short memory, and it never seems to learn from past mistakes. We are reminded of all this by a couple of articles in the last week.

The first — a Reuters article — reports that suspected insider-trading cases reached an all-time high last year:

NYSE Regulation, the Big Board’s oversight body, referred 146 cases of suspected insider trading to the U.S. Securities and Exchange Commission in 2008, five more than in 2007, the previous record year, and more than twice as many as in 2004.

You might have assumed (as I had) that last year’s downturn in mergers, acquisitions and public offerings would have correlated with a decline in insider trading because there was less deal-related information to be traded on or passed around in advance of public announcements. And of course, we know what happens when we assume. The article explains:

Insider trading spiked in the late 1980s, highlighted by the 1989 mass indictment for racketeering and securities fraud of U.S. financier Michael Milken, who was ultimately charged with lesser violations.

A sharp regulatory crackdown was followed by a quiet 1990s, but the number of cases has risen steadily over the last five years. [John] Malitzis, [executive VP of Market Surveillance for NYSE Regulation], 41, said the average trader working today “was probably in elementary school” during the late 1980s crackdown.

“When a new generation comes up that wasn’t front row to the lessons of the late ’80s, they think it’s easy to do and no one’s going to catch them,” he said. “But the fact is it’s very easy for us to catch these folks. And I think they’re learning the hard way.”

So for those too lazy or ignorant to go to school on Ivan Boesky and Dennis Levine, the School of Hard Knocks is always open to new students. Your trading records? Available to regulators. Your access to advance, material, non-public information, or to others who have it? Available as well. Put them together with some investigative work, and you have an excellent chance of getting caught, even if you’re outside the securities industry:

“That’s where we saw a shift in our referrals — to the relative of a corporate insider … or a colleague, or a member of a country club, or somebody in their inner circle,” Malitzis told Reuters.

A historical thread also runs through It’s Hard To Believe There Are Still Pirates Among Us, written by longtime NYSE member Bernard McSherry for Advanced Trading magazine:

[The Madoff scandal] is not the first time that a captain of Wall Street has been accused of high crimes. In the late 1930’s New York Stock Exchange Chairman Dick Whitney was convicted of embezzlement from the Exchange’s widows and orphans fund and other accounts for which he served as a trustee. He was disgraced and served a brief period of time in prison, but many contemporary observers felt that he got off easy. Unfortunately, his sentence is all too common. The list of disgraced financiers is long, and few of them have faced serious punishment. Over the next months, as investigators sift through the detritus of our recent financial crisis, I suspect that a few more well-respected names may become notorious. Will they get off easy, too?

As we watch the Madoff story unfold, let’s not be drawn into the temptation to view this as another harmless white collar example of the rich preying upon the rich. Lives have been ruined and charitable organizations have been gutted just as surely as if a cutlass was used to coerce the victims. Meanwhile, the alleged perpetrator is under house arrest in his luxury Park Avenue apartment and will surely be marshalling a flotilla of lawyers to minimize his punishment. …

… As our own authorities belatedly move against the perpetrators of financial piracy, the public is understandably skeptical that the Madoff affair will turn out to be one more example of a powerful figure who perpetrated massive crimes and managed to escape serious prosecution. With public cynicism at an all time high, and in the wake of shaken investor confidence, it is vital that we prosecute financial misdeeds with appropriate zeal.

Cutlass, flotilla — McSherry’s got a way with metaphor. He’s also got a good point. Looking at today’s markets from a historical perspective, with investor confidence at low tide (to borrow McSherry’s metaphor), vigorous enforcement and prosecution are more important than ever.