This week, our Tobias Hoonhout reported that the Justice Department is continuing its insider-trading investigation of Senator Richard Burr (R., N.C.), though the probe has been dropped with respect to other senators who — with such remarkably good fortune! — dumped stock just before the coronavirus tanked the market.
That makes sense. As I’ll explain momentarily, Senator Burr’s public defense of his actions — along the lines of “I only relied on public information” — is unavailing as a legal defense. I hasten to add, though, that this does not mean he will be charged. Indeed, it would be a tough case . . . as are most cases that prosecutors try to bring against the folks who write the laws.
I don’t have a dog in this fight. I am not a fan of Richard Burr, the preeningly bipartisan chairman of the Senate Intelligence Committee (in my estimation, among the most useless on Capitol Hill, which is saying something). If there’s been anything written with more delightful bite this year than my friend Kevin D. Williamson’s “History Called — and Senator Burr Called His Broker,” I haven’t seen it. Still, I’m not rooting for the senator to be prosecuted, particularly under this elastic theory of securities fraud.
The insider-trading laws are not really traditional criminal statutes. More a cobbling together of SEC rules and judicial decisions, I’ve always thought they failed the main test of penal laws: to put a person of ordinary intelligence on clear notice of what conduct is prohibited. Hence the confusion over the years, and the “creative” prosecutorial envelope-pushing, over who qualifies as an “insider,” and how far the duty to refrain from trading on “material non-public information” extends — just the insider? Her husband? Their neighbor? The neighbor’s Uber driver? You get the point.
These laws are ignoble, moreover, in that they’re driven by envy. They are reminiscent of then-candidate Barack Obama’s response when it was pointed out that cutting taxes can increase revenues that underwrite the progressive wish-list. Even if that would be a better real-world outcome, the Cosmic One opined, raising taxes on the wealthy was still preferable because it accorded with his sense of “fairness.”
Similarly, the prohibition on insider trading is designed to combat the unfairness said to result when people with superior information (indeed, the best information, which is known to corporate insiders) engage in exchanges with people who lack access to that information — as if someone were holding a gun to the less-well informed person’s head, as if that person did not know the risks of trading securities, and as if the civil fraud laws were not in operation.
The problem, of course, is that the prohibition deprives the market of price signals generated by the purchases and sales made by the people who know the most about a company’s conditions, assets, liabilities, and prospects. It would be better for us to have that information, but that would enable the insiders — especially the already wealthy ones — to profit: They can buy up their company’s stock at bargain prices before the public announcement of good news certain to drive the price up; or they can dump stock at premium prices before, say, the onset of a pandemic they’ve been given a heads-up about.
So, while it is not the choice I would make, we have prioritized handcuffing the privileged over gaining access to what they know — although proponents of this balance will tell you that the information-deficit problem is ameliorated by the voluminous disclosure requirements the SEC imposes on publicly traded companies (which, of course, are another fertile source of SEC enforcement actions and Justice Department securities-fraud prosecutions).
Alas, the remorseless fact: There is no such thing as an even playing field when it comes to information, though that is what the insider-trading laws strive to construct. Some people pay more attention than others, some are just more savvy than others, and sometimes that is as important, or even more important, than having access to privileged information.
Hence the main drawback of insider-trading bans: They purport to restrict exchanges involving uneven access to nonpublic information, but not to hinder securities trading that is profitable because of study, ingenuity, the capacity to connect dots and spot trends, etc. Yet it is often not possible to tell the difference.
Senator Burr’s case is a good example. Take what he’s been saying publicly, namely, that in making his questionable trades after receiving a classified briefing, he drew only on publicly available information. Generally speaking, trading on publicly available information is legal. But it is not legal for insiders. That is, once someone the law designates as an insider has access to material non-public information, it is no longer permissible for that insider to trade on the basis of public information. The rationale is that people cannot mentally compartmentalize what is public, distinct from what is non-public. Even if they could, it would not be possible for regulators to discern the difference – which, I’m sure you’ll be shocked to hear, is the thing that most matters to regulators.
In 2012, when Congress passed the STOCK Act (i.e., the Stop Trading on Congressional Knowledge Act), the stated purpose was to put lawmakers in a position analogous to that of corporate insiders. (And how interesting that Burr was one of only a handful of lawmakers to vote against the measure, which passed 96–3 in the Senate and 417–2 in the House.) The SEC and the federal courts have long held that, as long as an insider is in possession of privileged information, the insider will be deemed to buy and sell stock on the basis of that information.
This is why I say that Burr’s public defense won’t help him legally. If he had information based on classified briefings that was unavailable to the general public, his claim to have relied solely on public information is irrelevant.
But here is where it gets dicey for the Justice Department. As former federal prosecutor Paul A. Tuchmann explains in a useful National Law Review column, prosecutors must prove that the material non-public information was “about that security or issuer” involved in the purchase or sale in question. That is, there must be a tight nexus between the privileged information and the stock (or other security) that is the subject of the alleged insider trading.
You can see the proof problems this could create.
Sure, some cases could be easy. Let’s say Congressman X received a classified briefing in which he was told, “We see a pandemic emerging from China that could be disastrous for the market in air travel; in fact, United Airlines is already taking steps in mitigation.” If Representative X, on leaving the congressional SCIF, proceeds immediately to call his broker with instructions to unload his United holdings, that’s an open-and-shut case.
Most cases, though, are not slam dunks, especially when sophisticated actors are involved. I am betting it is more likely that Burr, because of his privileged position, was given some alarming classified information about the pandemic, warning of dire economic consequences if aggressive steps were taken to suppress the spread of infectious disease. It would not surprise me if specific corporations whose securities he held were not mentioned by name, but that enough descriptive information was conveyed that any sensible person would realize that the fallout for the travel sector — airlines, rail, oil and gas, hotels, tourism, etc. — could be disastrous.
Let’s assume I’m right about that. Let’s say Burr put two and two together and realized that his stock in a travel-sector company was about to take a major hit. Would his consequent trades in those holdings be so clearly “on the basis of material non-public information about that security or issuer” that he could be criminally liable? To be more concrete about it, Mr. Tuchmann notes that Burr reportedly sold holdings in Wyndham Hotels after receiving his classified briefing. But what if the briefing did not address Wyndham Hotels? Or what if it didn’t precisely address hotels at all, just a looming catastrophe for travel and tourism?
Plainly, investigators must be scouring the exact substance of whatever briefing Burr received. Whether there was a tight enough nexus between the briefing and the senator’s trading activity depends on what was discussed — the words used, the names (if any) mentioned, the level of detail.
The point of the STOCK Act was to discourage trading based on inside information. It was not to discourage all trading, full stop. Had Congress sought to do that, it could have expressed that objective clearly; but that would have dissuaded many worthy people from seeking public office, and spurred many worthy incumbents to leave.
On the other hand, members of Congress often get briefings involving non-public information about sectors of the economy. Obviously, that gives them an informational leg up on most other investors. The STOCK Act was supposed to address that. I’m as doubtful that it does as I am skeptical that it should.
Not every problem of fairness and ethics is fit for a criminal-law solution. And if recent history has taught us anything, it is that the less Justice Department involvement there is in politics, the better. I wouldn’t have minded seeing Burr, who is retiring, thrown out of office for cashing in on his public service. That doesn’t mean he should be thrown into jail, and I’d be surprised if he were.