On Wednesday, the Financial Times reported that Galleon, a hedge fund being charged with insider trading, paid hundreds of millions of dollars in return for privileged client trading information. Insider trading may have given Galleon an edge, but willingness to disclose information on the trading activities of other clients to increase trading revenues is what gives some brokerage banks an edge on retaining lucrative trading business and marginalizing competition from other brokers who might be actually inclined to honest executions and maintaining the integrity of a trustful and confidential broker-client relationship.
Now there is nothing unusual about speaking directly with traders at an executiion desk to check the "temperature" of the market (often referred to as "color on the market"), but divulging or even partially divulging client trades is blatantly abusive. I have always had my suspicions about this, but could never prove it with any concrete evidence. Anyone who has ever managed money and had to work directly with a trading desk probably feels the same way.
Well the "gig" is up as they say. We all know that Galleon is in hot water, but I am more interested in the response of regulators toward brokerage banks and how they intend to deal with this potential conflict of interest going forward.
Heck, if I could entice larger prospective clients to trade with me on the basis of providing them with privileged information and the harshest penalty I was at risk of incurring was zero jail time and a fine (if any) proportionately much smaller than the revenues I earned from engaging in such an activity, then I suppose I would have one helluva competitive edge too.
For those who are strong proponents of self-regulation, this incident is an clear example of why there should be more oversight. For the most part, the majority of market participants do comply with the rules, but there will always a minority ready to run "buck wild" and push the envelope at the first given opportunity for the sake of profits and year-end bonuses.
I will step down from my soapbox and let readers form their own opinions. Although this particular news article cites Goldman (GS) and Morgan Stanley (MS), I am not singling them out and will state that I believe this problem occurs at other major brokerages and even regional ones too. Here’s an excerpt of the article from the Financial Times:
"…Morgan Stanley, which counted Galleon as one of its top-five hedge fund clients, and Goldman Sachs were Galleon’s top providers of hedge-fund services – or prime brokerage.
Galleon, which had about $7bn in assets at its peak, paid large amounts to banks because it specialised in short-term trading strategies, which put its officials in close contact with Wall Street traders and salespeople. As it grew, the hedge fund became known for pushing its contacts at banks for hints about market developments such as big buy and sell orders.
Although bank policies often prohibit employees from divulging specific information about orders, executives who dealt with Galleon said it regularly received “colour” on market developments, frequently delivered in Wall Street slang. One example would be traders discussing a “page one seller” of shares – a reference to the first page of the Bloomberg list of top holders of listed companies…"
Disclosure: Hillbent.com, Inc. or its affiliates may own positions in the equities mentioned in our reports. We do not receive any compensation from any of the companies covered in our reports.
