Insider trading law can be complicated. What constitutes material nonpublic information can be imprecise. Sometimes people forget things. Other times they simply break promises. It all gets pretty fuzzy pretty quickly.
But other times insider trading is pretty clear-cut. This is especially true when you're dealing with actors who spend all day handling material nonpublic information. And it's doubly true when the accused are stock analysts and investment bankers, specifically trained and contractually bound to avoid trading on clients' insider info. And it's triply true when the alleged trades happened not on one or two isolated occasions, but habitually over the course of years.
Each of the above points applies to charges announced Tuesday against three Zacks Investment Research employees by the Securities and Exchange Commission. According to prosecutors, Jason Napodano, the former head of the biotech group at Zacks Small Cap Research, and Bilal Basrai, formerly the head of investment banking at LBMZ (former Zacks & Company), regularly traded insider tips on companies in their roster. Bryce Stirton, an associate in Basrai's division, was also named as a defendant.
What makes the charges notable isn't the way the trading allegedly took place (it was textbook) or how much money they made ($39,668 for Basrai and $143,865 for Napodano, allegedly), but how brazenly undisguised it all was. We're not so naive to think that insider trading doesn't occur amongst analysts here and there. But we would expect them to go about it with a little more finesse.
An example: On January 10, 2014, prosecutors say, Napodano got word from a small-cap biotech he covered that the company had completed a licensing agreement for a Phase-2-ready drug and would be publicizing the fact a few days later. Over the next three days, he allegedly bought 505,000 shares at $0.087 a share; Basrai and his subordinate allegedly bought a combined 100,000 for themselves. On January 14, the company's 8-K came out, the stock jumped, and all three sold their stock that same day, the complaint says.
In another case, the tip flowed the other direction. In late 2014, Basrai helped out on a proposed merger involving a medical technology company that was a client of LBMZ's. A merger agreement was reached, but the deal didn't close by its November 19 deadline. Basrai knew this and told Napodano, according to prosecutors.
Here's what they did next, allegedly:
Before the termination of the merger agreement was publicly announced, Defendants sold short shares of Company B in a brokerage account opened in the name of Small Cap Advisors LLC (“SCA”), an entity Defendants and another SCR employee jointly formed in March 2014. Between November 20, 2014 and November 24, 2014, Defendants sold short 13,345 shares of Company B in SCA’s account at prices between $1.05 and $1.15/share.
After the companies announced the cancellation of the merger, the Zacks colleagues covered their shorts, booking a whopping $3,857.50 profit – to be shared four ways.
It goes on like that. Perhaps forming a dummy LLC was a little more subtle than just straight-up trading in their personal accounts, but not by much. (Also, later on they all allegedly abandoned the LLC and just shorted stocks in their own names). The whole thing doesn't read as a criminal conspiracy so much as a kind of bad habit shared between the three colleagues. At every point when one of them should have stopped and wondered if this addiction was getting out of hand, the others proved to be enablers, each of them craving that next big four-digit score.
And for Napodano it wasn't just material nonpublic company news that made for good trading opportunities, according to the SEC; it was also his own reports. Napodano made profits of $130,755.72 by trading in advance of one hundred reports and articles he authored at Zacks SCR, the complaint states. Many of these came with the disclaimer that “Zacks SCR analysts are restricted from holding or trading securities in the issuers which they cover.”
While there might be a gray area when it comes to analyst reports and insider trading, this all seems pretty excessive. And that excessiveness characterizes the whole case. The SEC has gotten used to insiders using various subterfuges to mask their trading: posing as theirmothers or their wives, for instance. But individuals charged here are accused of the simplest, most straightforward insider trading possible: in ones own name and for ones own benefit. They should have known better as a matter of legality, sure, but they also should have known better as a matter of style. The greatest crime here is the lack of imagination.
UPDATE: The SEC announced later on Tuesday that the three had settled the charges. Napodano and Basrai paid back their illicit gains, plus fines, and accepted a permanent bar from trading in penny stocks. Stirton has the privilege of reapplying to the industry in five years. He paid a fine, plus the $2,218.87 he made from the trades.