Too Much Information Can't Be Good For You

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One thing you could think about the last few decades' improvement in market efficiency and speed and data and computerization and all that good stuff is that people get mad about increasingly smaller forms of cheating. Time was, huge stock manipulation got you in trouble, but the sort of window-dressing manipulatino that added 30 basis points to your quarterly returns went unnoticed. "What's a basis point?," contented stockholders would ask. Now there are academics who study that sort of thing and the Wall Street Journal to tell people to get mad about it.

The Journal's quest to catch all the corporate insider traders is a good time, and seems to be claiming some scalps; their latest takes a skeptical look at 10b5-1 plans, which allow insiders to sell stock while they have nonpublic information pursuant to a plan that they put in place when they didn't. Some skepticism is justified - as we've discussed, the ability to amend those plans can let you do some pretty shady stuff if you're determined - but it's worth noting that 10b5-1 plans are basically a replacement for, y'know, "just buy stock when you're feeling lucky, corporate executives."

The Journal cites approvingly a 2010 AFSCME proposal to Moody's regarding 10b5-1 plans that would have required immediate disclosure of 10b5-1 plans, no termination outside extraordinary circumstances, a 90-day waiting period before any trades can be made, and no trading by executives outside of the plan. That would definitely prevent executives from abusing 10b5-1 plans; it would also have the effect of preventing them from trading at all, outside of just mechanical selling to pay kids' tuition etc. Certainly any sort of trading based on knowledge, opinion, or judgments would be ruled out.

And why not? Obviously a corporate executive, even one without "material nonpublic information," should have more insight into his stock than the average public investor. ("Material" is a pretty squishy concept; ask Reed Hastings.) Why should he profit on that? Shouldn't everyone have exactly the same information he has - right down to the price targets at which he's going to sell?

Meanwhile, in another part of town, John Carney has a very clever post pointing out that

  • Lloyd Blankfein thinks that corporate bonds are overpriced,
  • Lloyd Blankfein is in the business of running Goldman Sachs,
  • Goldman Sachs is in the business of selling corporate bonds, and
  • If he really thinks that shouldn't they shut down their corporate bond selling business for a few years?

Carney is probably mostly kidding: the point is less "no financial intermediary should sell any products that its CEO doesn't personally think are going to increase in price," and more "isn't it weird that Goldman got in so much trouble for selling mortgage-backed securities while also betting against mortgages?" Goldman, obviously, had no material inside information on whether house prices would go down across America; similarly obviously, it has no material inside information about whether there's a bond bubble. I mean - it talks to clients, it sees the market, perhaps as an aggregate it develops a more informed view of the market than the average investor, but ... isn't that what it's supposed to do?

A while back I said "Financial markets are basically about information asymmetries, real and imagined, and financial regulation is largely about limiting those asymmetries to socially acceptable kinds and quantities." Your main job in investing is to find where you have an information advantage and take advantage of it; your secondary job is to make sure that your advantage isn't the sort that gets you sent to jail. That second part may be getting harder.

Trading Plans Under Fire [WSJ]
Should Goldman Sachs Stop Underwriting Debt? [NetNet / John Carney]


After The STOCK Act It Will Still Be Legal To Trade On Congressional Inside Information*

Here's a sort of touching monologue from David Einhorn's call with Punch: If you’ve done the analysis, and come to the conclusion that on it’s own, the company is not going to make it, it makes all of the sense in the world to raise equity at whatever the price is, so that you can know that the company, you know, is – is going to make it. Now, what that brings to my mind though is, you know, obviously we haven’t done your analysis, we haven’t done -- signed an NDA; I don’t know that we’re going to sign an NDA, because we prefer to just remain investors, but from my perspective, and I’ll be just straight up with you, is that gives a lot of signalling value. And the signalling value that comes from figuring out the company has figured out that it’s not going to make it on it’s own is that we’ve just grossly misassessed the -- you know what’s going on here. And -- and that, that will cause us to have to just reconsider what we’re doing, which is not the end of the world to you. You will continue on even if we don’t continue on with you. You could sort of see why the FSA read that to mean that he was insider trading. Like ... (1) You have told me something with signalling value. Sorry - "a lot of signalling value." (2) I will now act on that signal. (3) Don't be mad. "Signalling value" sure sounds like it means "material nonpublic information," doesn't it? Now as we've discussed before, trading on that information would not be enough to make Einhorn guilty of insider trading in the US, though maybe it wouldn't be exactly a great idea here either. Why? Because in our weird but sort of sensible insider trading laws, it's just not illegal to trade on material nonpublic information. It's only illegal to trade based on material nonpublic information that was obtained in violation of some sort of duty of confidence. Since Einhorn didn't sign an NDA, he had no duty of confidence. And since the Punch CEO and bankers weren't tipping him for nefarious purposes, but were instead sounding him out on the company's behalf as a shareholder and potential investor in a new capital raise, they weren't breaching their duty of confidence. You could quibble with the details of that but it's basically the law here. In England not so much. That also seems to be the law for our friends in Congress, who recently passed a law making it illegal for them to insider trade, which is worrying some people who make their living from trading on Congressional inside information: