Hedge Funders Soul Search as Insider Trading Probe Widens

Fourteen people will be charged in connection with a $20 million corruption ring. Two fund managers assess their industry.

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The arrest of wheeler-dealer billionaire hedge fund manager Raj Rajaratnam for insider trading rattled the hush-hush world of hedge funds, raising speculation of a broader crackdown. Now that crackdown has come: 14 people will be charged for corruption in making deals that netted them $20 million. There will be a press conference in New York at noon to announce more details.

As details of the investigation roll in, views from two hedge fund managers help set the stage. They agree that insider information is a blight on their industry:

  • Hedge Fund Managers Welcome the Shake Up, writes hedge fund manager Eric Jackson at Seeking Alpha. "As a hedge fund manager, I look positively on this development. If illegal activity is going on by fund managers, it deserves to be highlighted and prosecuted. Investors will learn to ask tougher questions as part of their due diligence, and capital will ultimately flow away from managers posting false performance numbers to those who are truly generating alpha.

    The hedge fund industry has to be one of the most Darwinian industries of any in the world. You don't get to keep your job by being the boss' son or being friendly with the right managers above you. You get to keep your job (and paid well if you do it consistently) by beating the market. You lose your job otherwise...I know many hedge fund managers who've expressed mixed feelings about the Galleon case. They're happy that illegal activities by their competitors are being halted, but they worry the case will inspire more unnecessary red tape and heavy-handed oversight. The SEC is faced with a challenge in keeping ahead of the latest and greatest tricks employed by some managers to gain a performance edge...More budget resources targeted towards enforcement would be taxpayer money better spent."

  • Cheating Is Inevitable, But Good Hedge Funders Should Look Long Term, says former hedge fund manager Andy Kessler at the Wall Street Journal. "Is trading on industry knowledge widespread? Absolutely. That's how many hedge funds and mutual funds get an edge. Is insider trading also widespread? Only the Securities and Exchange Committee's wire-tappers know for sure...We can argue whether insider trading should be legal or not, but for now, trading on any material, nonpublic information you possess, or are told in confidence, is illegal. Period...Near-term blips in stocks will always be driven by those with industry contacts, legal or illegal. The only way to truly beat the market long term is to use your head, think out long-term trends, figure out where productivity and therefore wealth is being created in the economy, and invest alongside it." He concludes, "Some investors will make money trading daily and a few will get news that gives them an indication of where to invest before everyone else. But focusing on the next mountain to be climbed, and not the foothills directly in front of us, is the surest way to make money over the long run."
This article is from the archive of our partner The Wire.