8 ms·

I'm skeptical about the ban on insider trading in general. Now this author wants to extend it to a new sphere. Basically, an oil company, which knows a lot ab

by crucini 13y ago

I'm skeptical about the ban on insider trading in general. Now this author wants to extend it to a new sphere. Basically, an oil company, which knows a lot about the oil market, shouldn't be allowed to speculate in oil. Isn't this the mandated destruction of valuable market signals? Should we also ban car mechanics from buying and selling used cars, because their special knowledge gives them an unfair advantage?

MartinCron 13y ago
There's a huge difference between special knowledge and expertise and material non-public information that you know will move markets. Martha Stewart didn't go to jail for having any specialized knowledge, she went to jail because someone tipped her off that a company she was invested in was about to go south. She sold those shares to someone who had no reasonable way of knowing what she knew which is essentially a type of fraud.
- cynicalkane 13y ago
  The point of the commodities market is to provide hedging instruments for commercial producers and consumers. It's difficult to imagine the commodities market being useful if you ban every potential customer and leave nothing but speculators.
  - MartinCron 13y ago
    Right. I was responding to the concept of insider trading in general, even after reading the article, I don't feel that I know nearly enough about the arcane commodities market to speak to that scenario.
- fennecfoxen 13y ago
  No. The reason that trading on insider information is illegal isn't that some third party is injured (if anything, martha's sales caused the third-party get a better price than he would have otherwise!) It's illegal because the officers of a company and the employees of a company are supposed to be doing the job of running a company for the benefit of the shareholders, and there's opportunity for some pretty massive conflicts of interest if they're also playing games trading stocks / stock-tips instead. And also because people think it's "unfair", like the stock market's supposed to be a game or something rather than a place that you can buy and sell stock for a price which is well-correlated with the company's prospects. :P
  - JackFr 13y ago
    That is the agency problem and bans on insider trading do not directly address that. The agency problem is addressed through bans short-selling and put options, as long as the officers and directors have along exposure to the share price, their interests are aligned. The ban on inside information is intended to attract capital by ensuring that stock markets are fair and transparent. If the investing public believes that the stock market is nothing more than a con to take rubes' money capital will stay away, and keep capital from flowing to productive firms.
    - r00fus 13y ago
      > If the investing public believes that the stock market is nothing more than a con to take rubes' money capital will stay away No way - now 401ks are the only retirement savings vehicle aside from striking it rich through lottery or stocks. Guess how many people translate their investment in a mutual fund to the actual stock market shenanigans?
- javert 13y ago
  That's not fraud.
- abat 13y ago
  No, Martha Stewart went to jail for obstruction of justice because she lied to the investigators about someone giving her a stock tip. She likely would have been fine if she had just told the truth (or had just refused to talk).
  - MartinCron 13y ago
    That's splitting hairs, though. She lied because she knew that what she did was against the law. She was held up as an example not to dissuade people from lying to investigators as much as to dissuade people from insider trading.
- canvia 13y ago
  She mostly went to jail for obstruction of an agency proceeding, and making false statements to federal investigators. She should have only said "I want my lawyer". Never talk to the police!
nohuck13 13y ago
I'd never thought about this line of reasoning but it's an interesting hypothetical question. The Wikipedia article on insider trading is surprisingly informative on the counterarguments: "Milton Friedman, laureate of the Nobel Memorial Prize in Economics, said: "You want more insider trading, not less. You want to give the people most likely to have knowledge about deficiencies of the company an incentive to make the public aware of that." Friedman did not believe that the trader should be required to make his trade known to the public, because the buying or selling pressure itself is information for the market" ... "Legalization advocates also question why "trading" where one party has more information than the other is legal in other markets, such as real estate, but not in the stock market. For example, if a geologist knows there is a high likelihood of the discovery of petroleum under Farmer Smith's land, he may be entitled to make Smith an offer for the land, and buy it, without first telling Farmer Smith of the geological data.[2] Nevertheless, circumstances can occur when the geologist would be committing fraud if, because he owes a duty to the farmer, he did not disclose the information; for example, if he had been hired by Farmer Smith to assess the geology of the farm." ... "There are very limited laws against "insider trading" in the commodities markets if, for no other reason than that the concept of an "insider" is not immediately analogous to commodities themselves (corn, wheat, steel, etc.). However, analogous activities such as front running are illegal under US commodity and futures trading laws. For example, a commodity broker can be charged with fraud by receiving a large purchase order from a client (one likely to affect the price of that commodity) and then purchasing that commodity before executing the client's order to benefit from the anticipated price increase." It doesn't feel that contradictory for me to believe insider trading should be a illegal in equities but legal in commodities, if only because of the externalities involving trust in corporate governance, the conflicting incentives (if the CEO can short his own stock, that creates some perverse incentives). But there definitely a pro-market-signalling argument to be made WRT to the OP's article.
- MartinCron 13y ago
  There are a lot of disclosure laws in real estate, though. When you go to sell a house (in my state, anyway), it is against the law to say that the basement has never flooded if it has flooded.
deleted 13y ago
[deleted]
lmkg 13y ago
Allowing insider trading brings along with itself a whole slew of perverse incentives. The biggest by far is that most categories of 'insiders' are also in a position to materially impact the value of companies. Parties like tax auditors, advisory services around mergers & acquisitions, management consulting, that sort of thing. Insider trading is therefore partially a protection against conflict-of-interest.
- anon1385 13y ago
  What you are talking about broadly is Control Fraud[1]. One of the most startling things about mainstream (neoclassical) economic theories is that they implicitly make the assumption that control fraud doesn't exist[2]. Yet it has been the cause of many recent high profile crises [3][4][5]. So when you see people talking about how insider trading can't ever be bad, and how executive interests are always aligned with public good, keep in mind that those people are living in a fantasy world where Enron never happened. [1] https://en.wikipedia.org/wiki/Control_fraud https://en.wikipedia.org/wiki/Control_fraud [2] http://neweconomicperspectives.org/2013/07/discrediting-regulation-from-george-stigler-to-tysons-fraud-free-carbon-tax-fantasy.html http://neweconomicperspectives.org/2013/07/discrediting-regu... [3] https://en.wikipedia.org/wiki/Savings_and_Loan_Crisis https://en.wikipedia.org/wiki/Savings_and_Loan_Crisis [4] https://en.wikipedia.org/wiki/Enron https://en.wikipedia.org/wiki/Enron [5] https://en.wikipedia.org/wiki/Worldcom https://en.wikipedia.org/wiki/Worldcom
oakwhiz 13y ago
Not that I agree with insider trading, but preventing it through legislative means strikes me as a "band-aid" solution.
steveklabnik 13y ago
The problem comes in a more specific case than that. We know Twitter has filed for an IPO. Will it be good? Will it be bad? We don't know any of their financials. But insiders know. Now, granted, they'll file paperwork to show them before people can buy, but that's (partially) due to the same thought process as 'insider trading is bad.' Now, imagine a situation a year after Twitter IPOs: An all-hands meeting, where management tells everyone that they won't be getting their annual raises because finances are bad. Employees can exploit this knowledge, but those not in that (private) meeting cannot. Any information asymmetry _will_ be gamed.

by crucini 13y ago

MartinCron 13y ago

There's a huge difference between special knowledge and expertise and material non-public information that you know will move markets. Martha Stewart didn't go to jail for having any specialized knowledge, she went to jail because someone tipped her off that a company she was invested in was about to go south. She sold those shares to someone who had no reasonable way of knowing what she knew which is essentially a type of fraud.

cynicalkane 13y ago
The point of the commodities market is to provide hedging instruments for commercial producers and consumers. It's difficult to imagine the commodities market being useful if you ban every potential customer and leave nothing but speculators.
- MartinCron 13y ago
  Right. I was responding to the concept of insider trading in general, even after reading the article, I don't feel that I know nearly enough about the arcane commodities market to speak to that scenario.
fennecfoxen 13y ago
No. The reason that trading on insider information is illegal isn't that some third party is injured (if anything, martha's sales caused the third-party get a better price than he would have otherwise!) It's illegal because the officers of a company and the employees of a company are supposed to be doing the job of running a company for the benefit of the shareholders, and there's opportunity for some pretty massive conflicts of interest if they're also playing games trading stocks / stock-tips instead. And also because people think it's "unfair", like the stock market's supposed to be a game or something rather than a place that you can buy and sell stock for a price which is well-correlated with the company's prospects. :P
- JackFr 13y ago
  That is the agency problem and bans on insider trading do not directly address that. The agency problem is addressed through bans short-selling and put options, as long as the officers and directors have along exposure to the share price, their interests are aligned. The ban on inside information is intended to attract capital by ensuring that stock markets are fair and transparent. If the investing public believes that the stock market is nothing more than a con to take rubes' money capital will stay away, and keep capital from flowing to productive firms.
  - r00fus 13y ago
    > If the investing public believes that the stock market is nothing more than a con to take rubes' money capital will stay away No way - now 401ks are the only retirement savings vehicle aside from striking it rich through lottery or stocks. Guess how many people translate their investment in a mutual fund to the actual stock market shenanigans?
javert 13y ago
That's not fraud.
abat 13y ago
No, Martha Stewart went to jail for obstruction of justice because she lied to the investigators about someone giving her a stock tip. She likely would have been fine if she had just told the truth (or had just refused to talk).
- MartinCron 13y ago
  That's splitting hairs, though. She lied because she knew that what she did was against the law. She was held up as an example not to dissuade people from lying to investigators as much as to dissuade people from insider trading.
canvia 13y ago
She mostly went to jail for obstruction of an agency proceeding, and making false statements to federal investigators. She should have only said "I want my lawyer". Never talk to the police!

nohuck13 13y ago

I'd never thought about this line of reasoning but it's an interesting hypothetical question. The Wikipedia article on insider trading is surprisingly informative on the counterarguments: "Milton Friedman, laureate of the Nobel Memorial Prize in Economics, said: "You want more insider trading, not less. You want to give the people most likely to have knowledge about deficiencies of the company an incentive to make the public aware of that." Friedman did not believe that the trader should be required to make his trade known to the public, because the buying or selling pressure itself is information for the market" ... "Legalization advocates also question why "trading" where one party has more information than the other is legal in other markets, such as real estate, but not in the stock market. For example, if a geologist knows there is a high likelihood of the discovery of petroleum under Farmer Smith's land, he may be entitled to make Smith an offer for the land, and buy it, without first telling Farmer Smith of the geological data.[2] Nevertheless, circumstances can occur when the geologist would be committing fraud if, because he owes a duty to the farmer, he did not disclose the information; for example, if he had been hired by Farmer Smith to assess the geology of the farm." ... "There are very limited laws against "insider trading" in the commodities markets if, for no other reason than that the concept of an "insider" is not immediately analogous to commodities themselves (corn, wheat, steel, etc.). However, analogous activities such as front running are illegal under US commodity and futures trading laws. For example, a commodity broker can be charged with fraud by receiving a large purchase order from a client (one likely to affect the price of that commodity) and then purchasing that commodity before executing the client's order to benefit from the anticipated price increase." It doesn't feel that contradictory for me to believe insider trading should be a illegal in equities but legal in commodities, if only because of the externalities involving trust in corporate governance, the conflicting incentives (if the CEO can short his own stock, that creates some perverse incentives). But there definitely a pro-market-signalling argument to be made WRT to the OP's article.

MartinCron 13y ago
There are a lot of disclosure laws in real estate, though. When you go to sell a house (in my state, anyway), it is against the law to say that the basement has never flooded if it has flooded.

deleted 13y ago

[deleted]

lmkg 13y ago

Allowing insider trading brings along with itself a whole slew of perverse incentives. The biggest by far is that most categories of 'insiders' are also in a position to materially impact the value of companies. Parties like tax auditors, advisory services around mergers & acquisitions, management consulting, that sort of thing. Insider trading is therefore partially a protection against conflict-of-interest.

anon1385 13y ago
What you are talking about broadly is Control Fraud[1]. One of the most startling things about mainstream (neoclassical) economic theories is that they implicitly make the assumption that control fraud doesn't exist[2]. Yet it has been the cause of many recent high profile crises [3][4][5]. So when you see people talking about how insider trading can't ever be bad, and how executive interests are always aligned with public good, keep in mind that those people are living in a fantasy world where Enron never happened. [1] https://en.wikipedia.org/wiki/Control_fraud https://en.wikipedia.org/wiki/Control_fraud [2] http://neweconomicperspectives.org/2013/07/discrediting-regulation-from-george-stigler-to-tysons-fraud-free-carbon-tax-fantasy.html http://neweconomicperspectives.org/2013/07/discrediting-regu... [3] https://en.wikipedia.org/wiki/Savings_and_Loan_Crisis https://en.wikipedia.org/wiki/Savings_and_Loan_Crisis [4] https://en.wikipedia.org/wiki/Enron https://en.wikipedia.org/wiki/Enron [5] https://en.wikipedia.org/wiki/Worldcom https://en.wikipedia.org/wiki/Worldcom

oakwhiz 13y ago

Not that I agree with insider trading, but preventing it through legislative means strikes me as a "band-aid" solution.

steveklabnik 13y ago

The problem comes in a more specific case than that. We know Twitter has filed for an IPO. Will it be good? Will it be bad? We don't know any of their financials. But insiders know. Now, granted, they'll file paperwork to show them before people can buy, but that's (partially) due to the same thought process as 'insider trading is bad.' Now, imagine a situation a year after Twitter IPOs: An all-hands meeting, where management tells everyone that they won't be getting their annual raises because finances are bad. Employees can exploit this knowledge, but those not in that (private) meeting cannot. Any information asymmetry _will_ be gamed.