The Crooked Cockroach

The new stink on the block…

Posted in Uncategorized by cready on October 20, 2009

There’s something new cooking out there in the financial world. And guess what, it stinks. It stinks real bad.

Raj Rajaratnam Raj Rajaratnam, a Sri Lankan origin New Yorker, and founder-owner of  Galleon Group, a hedge fund management group, was arrested along with a couple of other executives from companies like IBM, McKinsey etc. yesterday on charges of insider trading. Now if you don’t really know what ‘insider trading’  is, just wait for a little while until I get there.

One of the persons who has been arrested with Mr. Rajaratnam is a certain Mr. Anil Kumar, a member of the executive board of the famed Indian School of Business (ISB) and also a director at McKinsey. For the ISB, this is another damning insult. Close to the heels of the resignation of one of its other director, Mr. Mendu Rammohan Rao on charges of fraud when the Satyam scam broke out a couple of months ago, comes another allegation which is ought to damage at least the moral reputation of this internationally funded business school which prides itself so much in bringing in the best of global management practices. Just imagine the dilemma that the students of that institution, unblemished yet by that greed floating out in the world, must be facing while facing their teachers and Institute founders. It must be a very sweet realization looking into their fat, chubby faces that ‘Ha! Ha! One day, on some level, I too am gonna be one of you’, isn’t it?

And for the other pillars of corporate honesty and responsibility [read : IBM and McKinsey] too, this must be a rude jolt, as this CNN iBN report speculates. Now Mr. Rajaratnam has vehemently denied any wrong-doing [obviously!] and it is also being alleged that the rich fat cat funded LTTE’s operations in Sri Lanka [which, I think are far graver allegations than the fraud ones], but it is only for the law to decide who’s right and who’s wrong. Now let me get back to what is ‘insider trading’.

The phrase ‘insider trading’ is fairly explanatory. Roughly speaking, it means trading of a company’s stocks etc. based on inside information obtained beforehand or which has been deemed classified to the public. A corporate insider [from whom the trader gets the inside information] is defined as a company officer who owns more than ten percent of a class of the company’s equity securities

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. For example, if the CEO of a company learned beforehand that another company is going to take over his present company and bought shares in his present company knowing that the share price would likely rise after the takeover, then it is a fraud. In the real world, the CEO may not buy the shares himself; he may tell his close relative [like a brother or something] to buy and then they may split the profit later based on the mutual agreement, but this too, is deemed illegal. Some very famous investors, businessmen etc. who have faced criminal prosecution against above mentioned fraud are

George Soros [billionaire American investor]
Martha Stewart [American business magnate and TV host]
Jeff Skilling [former CEO of Enron Corp.]

Now, there is a fair share of critics [the prime-most example being Milton Friedman, winner of the 1976 Nobel Prize in Economics] who argue that ‘insider trading’ is not that bad as it is made to sound, that its illegality should be reconsidered. I seem to agree a bit with his argument – that buying and selling pressure itself is information for the market. Another argument in favor of insider trading put forth nicely by Wikipedia is this –

Legalization advocates also question why activity that is similar to insider trading 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. Nevertheless, circumstances can occur when the geologist would be committing fraud if he did not disclose the information, e.g. when he had been hired by Farmer Smith to assess the geology of the farm.

I believe the argument is really complex. Also, the guy who makes the money will always argue in its favor and the one who loses will say its unfair. But the world of finance is so very complex that even a small ripple in some remote place may cause a meltdown somewhere else. For example, the arrest of Mr. Rajaratnam caused the Sri Lanka stock exchange [CSE], one of the best performing stock markets in the world, to crash like a pack of cards [read here]. So while making decisions about what is right and what is wrong, or what is permissible and what is not, Governments world over should take into consideration all possible factors and make sure that at least minimum overall damage is caused.

Note : Coming up next – How Wall Street is making its millions [sorry, billions] barely a year after a crash that almost brought the global economy to a grinding halt.

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