A New Business Model for Financial Journalism; Should the Justice Department Investigate?

Brian Doherty | September 27, 2007

Super rich dude and dancer with the stars Mark Cuban funds meticulous researcher and reporter Chris Carey to do a small number of long, and long-brewing, exposes on the bullshit foundations of various businesses at the web site Sharesleuth. Cuban doesn't make his bank back on ads or subscription revenue--he makes it by shortselling the stock of the companies whose reputation Carey torpedoes, when they are publicly held.

The October Wired has a great detailed report on the operation of this great example of both journalistic and financial markets at work. However, it did make me think of the persecution of Martha Stewart. Is Cuban "insider trading" in the same way Martha Stewart was accused of doing?

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Morgan|9.27.07 @ 10:07AM|#

I don't, but only because I don't think an investigation of Martha was in order either. Frustrating.

|9.27.07 @ 10:14AM|#

I don't see how this would be illegal. Cuban pays an employee to research a company for him and finds out the stock is overpriced. Unless Carey's recommendation is based on material non-public information I don't see how this could be a violation.

|9.27.07 @ 10:26AM|#

He's rich. Of course he's guilty of some crime or another.:~)

|9.27.07 @ 10:31AM|#

Andy---While I certainly agree with you, the last two sentences cover why I think it's an interesting question for people who believe in the probity of insider trading law. Note first of all I say "investigation," not necessarily prosecution--and the question that perhaps an insider-trading law fan might think worth investigating is whether, in doing his investigative reporting, Carey managed to learn something that was based on "material non-public information."

|9.27.07 @ 10:38AM|#

I believe that "material non-public information" may be a term of art that does not include anything that could be obtained by the public - even if only through investigation and analysis of publicly available information. After all, the stock analysts do not provide their results freely to everyone.

If burglary, bribery or insider information are involved then that's a different matter.

|9.27.07 @ 10:39AM|#

"...Carey managed to learn something that was based on "material non-public information."

This is the problem I see; Cuban is trading on information which he will subsequently make public, in the expectation that it will have a significant effect on share prices. Some years ago (if I recall correctly), there was a group of people sent to jail because they were front-running Business Week articles, to which they had access via the printing plant.

|9.27.07 @ 10:40AM|#

Heresy alert! Gather your torches and pitchforks! I strongly support repealing the bans on "insider trading". Internet, full disclosure, etc etc. etc.

|9.27.07 @ 10:41AM|#

So I do wonder if insider-trading law mavens think a Justice Department investigation of Cuban is in order, and why or why not.

Based on what you told us, it sounds like an investigation is in order (although I'm basing that more on general principle than any knowledge of insider-trading law).

It just seems like a bad precedent to allow someone to both short a company's stock and simultaneously fund a smear campaign against that same company. That's an obvious conflict of interest.

There should be a "presumably" up there somewhere- probably between "is" and "trading."

|9.27.07 @ 10:43AM|#

"... fund a smear campaign...."

I had a Business Law professor who liked to say, "It's only libel if it isn't true."

SIV|9.27.07 @ 10:45AM|#

This is no different than going long on a stock you are touting.

|9.27.07 @ 10:50AM|#

Brian - Is there any reason to suspect that Carey obtained material non-public information? If not, why would there be any need for an investigation?

KenK - While it is true that stock analysts do not provide their information freely to everyone, they do offer their results to anyone willing to pay for them.

Cuban and Carey are not "insiders" within these companies. They are not releasing any information which is not already available, rather they are merely repackaging it and adding analysis. Cuban is paying someone to do research for him and then publishing his findings.

|9.27.07 @ 10:58AM|#

"Cuban doesn't make his bank back on ads or subscription revenue--he makes it by shortselling the stock of the companies whose reputation Carey torpedoes, when they are publicly held."

I'm not sure insider-trading is the issue. It smells like something of a "pump and dump" to me. ...but "pump and dump" usually involves making false statements.

I get those spams sometimes telling me to buy such and such penny stock--if he's guilty of anything I think it's of something like that.

|9.27.07 @ 11:03AM|#

"... fund a smear campaign...."

I had a Business Law professor who liked to say, "It's only libel if it isn't true."

Right, and I'm not necessarily saying that a "smear campaign" is what Cuban is commissioning.

But what's true is often not entirely clear, and it's easy to see how somebody with means could short a stock and then invest a little money to spread some nasty rumors or spin true facts into a negative news item.

BTW, can you libel a company or just a person?

robc|9.27.07 @ 11:04AM|#

That's an obvious conflict of interest.

I dont see any conflict at all. It seems is interests are, in fact, perfectly aligned.

robc|9.27.07 @ 11:06AM|#

BTW, can you libel a company or just a person?

I am not a lawyer, but since companies are "legal people", I would guess you could libel them.

|9.27.07 @ 11:09AM|#

I dont see any conflict at all. It seems is interests are, in fact, perfectly aligned.

The conflict is not with Cuban, but with Chris Carey. As a journalist, he's supposed to present the truth. As a client of Cuban, he's being paid to "torpedo" the companies that Cuban has shorted.

|9.27.07 @ 11:11AM|#

BTW, can you libel a company or just a person?

Ask the stockholders of Wendy's. Finger in the chili, remember?

robc|9.27.07 @ 11:15AM|#

As a journalist, he's supposed to present the truth.

When you arent trolling, you are even funny. That was a good one.

|9.27.07 @ 11:15AM|#

Ask the stockholders of Wendy's. Finger in the chili, remember?

That woman was arrested (on grand larceny charged) but was she sued for libel?

|9.27.07 @ 11:19AM|#

Dan T---If my reading of the Wired article is correct, and Cuban intelligent, he waits to do the shorting til AFTER Carey has an article ready to go. Much of Carey's time is spent, as the article details, following leads that don't pan out, and some of it even involves non-publicly held companies that Cuban can't short anyway.

Andy--I haven't carefully read all of Carey's reporting; maybe you have. If so, and what you are saying is true, than this is indeed a nonissue, tho I always think it's a good mental exercise to make insider-trading believers figure out when it is or isn't legal to act on what you know. If you haven't read it all, it's a strange presumption to assume that all investigative reporting is based on easily available public information and none of it on interviewing people who might have some of what fits under the legal definition of insider info--analogous to how he Justice Dept thought it should look into WHY Martha's broker advised her to sell some stock, giving them the ability to charge her later with lying to them in the course of that investigation.

|9.27.07 @ 11:26AM|#

...As a journalist, he's supposed to present the truth...

Where in God's name is it written that this is what Journalists are supposed to do? And if journalism is really a professional, with a code and everything, then where is the credentialing body and peer review board?

|9.27.07 @ 11:36AM|#

Dan T---If my reading of the Wired article is correct, and Cuban intelligent, he waits to do the shorting til AFTER Carey has an article ready to go. Much of Carey's time is spent, as the article details, following leads that don't pan out, and some of it even involves non-publicly held companies that Cuban can't short anyway.

Fair enough, Brian. I'm trying to be careful to say that I'm not accusing Cuban of doing anything wrong here (although the original question was whether or not an investigation was warranted), only expressing concern that allowing such relationships between journalists and short-sellers could be problematic.

Cuban, according to the article, is only making small bets at this point. Perhaps just testing the waters to see if the scheme works before investing real money?

It might be no big deal. But it's not hard to imagine how a wealthy guy with no scruples could ruin a company's reputation and profit from it. This seems contrary to the goals of a true free market, where companies are valued based on business performance.

SIV|9.27.07 @ 11:45AM|#

This seems contrary to the goals of a true free market, where companies are valued based on business performance.

In an equities markets companires are valued by mass psychology.

|9.27.07 @ 11:48AM|#

In an equities markets companires are valued by mass psychology.

True, but ideally that psychology is based on business performance and reasoned future projections, not somebody making shit up.

|9.27.07 @ 11:54AM|#

In case I'm being too ambiguous, let me spell out the thought process and preconditions of thebludgeon-over-the-head polemical Libertarian Teaching Moment I was trying to glean from the Wired story: 1) I believe that good, thorough, detailed, time-consuming investigative reporting on companies is a good thing for the public and for the efficient functioning of stock markets, which work best the more people know more things about companiees and their prospects; 2) As that story details, there isn't a lot of that kind of thing out there; it's expensive and time-consuming. Cuban is helping provide it, and trying to make a buck doing so.
3) Whether or not this is true of Carey's work, it's certainly true in principle that thorough and dedicated investigative reporting will, if the reporter has any luck at all, often involve interviewing people with inside information on whatever is being investigatated, information that has not yet been issued in any public forum; this is key to why investigative reporting is interesting and valuable: at itws best it brings fresh info out to the public discourse.
4) Thus, it seems that this sort of reporting, if funded in a Cuban manner, could run afoul of insider trading laws. And why would anyone think this a good thing? This comes from someone who, as the two links in the story shows, doesn't think such laws necessarily ARE a good thing.

|9.27.07 @ 11:57AM|#

"...a wealthy guy with no scruples could ruin a company's reputation and profit from it."

This goes back to my earlier comment; if it's true that Company A's customers are deserting it in droves because they are tired of dirty stores with pallets of merchandise in the aisles, and poorly trained, indifferent employees (been to Home Depot lately?), then writing a factually correct article about that isn't what destroys the company's reputation. The company is destroying its own reputation, and the author/ publisher are merely pointing this out.

Gerg|9.27.07 @ 12:08PM|#

After all, he's making money using knowledge he received through connections (with Carey, his employee) that the typical trader couldn't easily know. And it's just possible that some of Carey's information may have come from some Samuel Waksal-like company insider, directly or indirectly, saying something to someone he isn't legally allowed to say about his company.

Uhm, sure it's possible. Do you have any evidence that that's the case? Do the regulators? Your whole article is predicated on this random supposition without any reason to believe it's true.

And in case anyone reading it is confused by this misdirection -- it's not insider trading just because a typical trader couldn't easily know the information he has. It's only insider trading if the information was released by an insider.

There are plenty of other ways to find out how healthy a company is, you can talk to suppliers, customers, competitors, or just apply a better model to the published numbers.

|9.27.07 @ 12:12PM|#

I'm willing to bet that any inquiry can be easily rebuffed by display of Mosaic Theory support.

|9.27.07 @ 12:13PM|#

This whole post is silly.

Cuban pays someone to reasearch a company and then acts on that research.

As an added bonus he publicizes the results of that research and shares it with the public.

And now some people are trying to imply that somehow what is he doing is wrong or a conflict?

Unless he is making knowingly false or unsubstantiated or statements about this company, then there is nothing at all wrong with he is doing.

|9.27.07 @ 12:18PM|#

Okay, Gerg. I was being lazy. Didn't want to spend an extra 15 minutes on a quick blog post. It struck me as pretty obvious that "investigative reporting" done over months would almost certainly go beyond merely cobbling together already publically available information. It seemed weird that anyone would assume/assert it did NOT, without themselves having read all the reporting in question.
But since lots of people are, I now did bother to actually read what's on the front page of sharesleuth right now. Surprise, finding an example of what I'm looking for didn't even take 15 minutes.
Here's a quote:
"Orthopedic Development Corp.'s president said in an affidavit in a federal court case in North Carolina that he had never engaged in business in that state, had not gone there to recruit a sales executive or "otherwise traveled there.''

But Sharesleuth.com, which posted an investigative report on ODC on June 8, has copies of e-mails that appear to disprove those assertions.

James Doulgeris, who heads ODC, submitted the affidavit last week in connection with a motion to dismiss the case in North Carolina or halt it pending the outcome of a related case in Florida. The suit in North Carolina was brought by Dan Grayson, who was hired in November as vice president of sales for ODC's spine stabilization product and was fired in May.

The e-mails exchanged last summer between Doulgeris and Grayson include messages from Doulgeris that provide details of his travels to North Carolina for business meetings."

This is Doherty again: Private emails between two corporate employees: should profiting on your inside knowledge of a reporters access to such things be against the law?

|9.27.07 @ 12:19PM|#

ChicagoTom--read my comment at 11:54. This was meant to be a thinking exercise to get people thinking about the idiocy of insider trading laws. Since you already see the idiocy of implying that Cuban's actions should be illegal, it apparently wasn't a teaching moment you needed.

Guy Montag|9.27.07 @ 12:20PM|#

Wasn't this already done, and successfully prosecuted, back in the late 1980s/early 1990s with a Wall Street Journal reporter who's lover (not there there is anything wrong with that, but the detail will help if you wish to NEXUS search) was a trader or something?

I think I remember some details, but will skip then until I look it up because it is not a very clear memory.

Anyway, the point being, if you do what Cuban has been described as doing or what the reporter over a decade ago was doing, you are in SEC violation territory. Not that I completly agree with everything SEC, just statint the current environment.

Gerg|9.27.07 @ 12:26PM|#

I'm not sure those emails reveal any insider knowledge though. Insider knowledge is normally restricted to only certain major its of confidential information.

Doherty's presence in North Carolina wasn't confidential, anybody could have seen him flying, driving, checking into a hotel, etc.

|9.27.07 @ 12:30PM|#

Seriously - how can anybody claim to be for the free market and yet against insider trading laws (at least in principle)?

|9.27.07 @ 12:32PM|#

Gerg---I hope that everyone in charge of launching insider trading investigations for the Justice Dept. shares your attitude.

Dan T--If you are interested, start with reading the two op-eds linked off of Stewart and Waksal's names in the blog post.

|9.27.07 @ 12:35PM|#

Cuban pays someone to reasearch a company and then acts on that research.

As an added bonus he publicizes the results of that research and shares it with the public.

No, he pays someone to research a company and then acts on the publication of that research.

The stock doesn't move based on the company's performance, but rather based on the publication of an unflattering news story. Even if the story turns out to be BS, and company recovers, Cuban is still able to profit.

|9.27.07 @ 12:48PM|#

Dan T - not when he gets sued for creating said BS.

|9.27.07 @ 12:51PM|#

The stock doesn't move based on the company's performance, but rather based on the publication of an unflattering news story. Even if the story turns out to be BS, and company recovers, Cuban is still able to profit.

Dan, if the story turns out to be BS, they can go after Cuban and sue him.

And if the story is poorly sourced or doesn't justify the criticisms or offers no proof, I doubt it will move the stock price all that much.

How is that any different than say Bear Stearns rating a company as "sell" and then shorting that company in all of its funds?

stuartl|9.27.07 @ 1:17PM|#

How is that any different than say Bear Stearns rating a company as "sell" and then shorting that company in all of its funds?

This question is backwards. It should be "How is that any different than say Bear Stearns shorting a company in all of its funds and then rating the a company as a "sell?" Is that insider trading?

|9.27.07 @ 1:30PM|#

Dan T--If you are interested, start with reading the two op-eds linked off of Stewart and Waksal's names in the blog post.

Brian, I read your piece on Waksal and with all due respect your opinion that we should allow insider trading is insane.

I mean, allowing insider trading gives incentive for decision-makers within a company to intentionally run said company into the ground. I hope I don't have to explain why that's an undesirable outcome.

|9.27.07 @ 1:58PM|#

Some of you must have heard of the "Barron's bounce."?

...Is it legal for a journalist who writes an negative story to profit from that?

I don't think that's just a ethical thing or a Barron's protecting its image thing. That does seem like insider knowledge--it's just not insider knowledge about the company in question. If I just knew what Barron's was going to publish the Friday before, I could make a ton of cash just with that knowledge. It's knowledge that other buyers and sellers of the stock don't have at the time I make my trades...

I think Brian's on to something.

|9.27.07 @ 1:59PM|#

Dan T--Of course, that sort of problem is easily handled through contract between executives and the company.

More interesting as relevant to the Marthas and Mark Cubans of the world: How should the law treat the friend of the cousin who the short-selling "drive the company in the ground" exec drunkenly bleated his plans to? Or the client of the broker who notes lots of short-selling execs and advises her to take appropriate action? Do YOU know why your broker advises you to do what she advises you to do?

|9.27.07 @ 2:06PM|#

You know, I'm going to feel pretty bad if any such investigation against Cuban actually occurs as a result of my attempt to expose some of the problems with insider trading law....

|9.27.07 @ 2:08PM|#

Dan T--Of course, that sort of problem is easily handled through contract between executives and the company.

How?

|9.27.07 @ 2:48PM|#

Seriously, how? Would the CEO have to sign a contract pledging to only make good business decisions?

|9.27.07 @ 4:35PM|#

DanT:

In what way to execs have an incentive to run a company into the ground? If they know the stock price is going to fall, they sell their stock, and they lock in the price they just had a day earlier or thereabouts. How do they actually benefit from tanking the company?

Do you think execs will sell short and then drive the business into the dirt?

|9.27.07 @ 8:32PM|#

You know the law you are imagining, that would authoritatively stop that behavior you fear? Whatever behavior the law says you will be fined or go to jail for, the contract would say you would be liable for damages for doing. If a company thought that such behavior was a likely problem from its executives, it could make express that fear by requiring its officers to contractually vow to not do it at risk of damages.
However, you seem to think that the "behavior" at issue is impossible to define in a contract. How then would one define it in a law? I'm not sure why you believe the one is possible, and the other not.
I'm not sure the world pre-insider trading law business world saw a whole lot of that behavior you fear only insider trading law stops. See this reason article by Michael McMenamin for more on that question: http://reason.com/news/show/28904.html

Guy Montag|9.27.07 @ 9:38PM|#

Brian,

Either I am drunk, or you and David are (see his post) or we all are.

I suspect I am because I can not follow two of the best writers that I read on a regular basis.

BTW, did you hear that you guys lost Elspeth Reeve from TNR to Time?

Guy Montag|9.27.07 @ 9:47PM|#

Would the CEO have to sign a contract pledging to only make good business decisions?

In publicly traded corporations that is already a matter of law and there is already a specific lawsuit for shareholders to bring if he does not do that. Wow, it is so rare there is a name for it! I will let you look it up yourself, if you care to bother learning anything about business.

Also, there is all of this new business jackboot-on-neck-crap from an overzealous "Justice Department" that threatens CEOs with jail of their financial statements are inaccurate. Hint: begins with "Sarbanes".

I thought I swore off of responding to your nonsense a while back, so I will swear again. Bye.

|9.28.07 @ 12:34AM|#

Guy--OK, point taken, but alas, no.
How about this: Dan T---you'd have the contract between exec or employee and company forbid with damages the same behavior your preferred insider trading law forbids with fines and jail time.
Or more generally: see the law surrounding fiduciary responsibility.
And read that McMenamin article

The 12th (wo)man|9.28.07 @ 3:29AM|#

The SEC received detail information about Xethanol being a bit on the smelly side long before Carey's detailed expose piece was published. In no way shape or form was material non-public information used in that expose piece.

|9.28.07 @ 8:14AM|#

I agree with the premise that insider trading laws get you into a hornets nest of conradictions and unintelligible definitions of "knowledge." But my main point is that countless academic studies prove that trying to predict individual stock price moves is impossible - as a lot of short sellers find out. I think John Maynard Keynes once said something to the effect that the market's ability to be irrationation far exceeds any single investor's solvency.

|9.28.07 @ 8:17AM|#

Apologies to Mr. Kaynes - thats "irrational" and not "irrationation" although irrationation is a perfectly cromulent word

Guy Montag|9.28.07 @ 9:33AM|#

Brian,

Guy--OK, point taken, but alas, no.

I suspect that I was one of the drunk ones last night because I was referring to your comment at 8:32pm and a post by Nick but wrote "David" there.

Or were you talking about the cute TNR intern?

|9.28.07 @ 10:51AM|#

Do you think execs will sell short and then drive the business into the dirt?

Of course they would. Although it would only happen a few times before they passed a law against it.

|9.28.07 @ 11:15AM|#

Guy Montag|9.28.07 @ 2:34PM|#

Guy--I was agreeing that my first post replying to Dan's (purported) inability to imagine how a contract would require you to do the same thing a law did if the people involved were really afraid or and wanted to forbid certain behavior, was so poorly written it sounded like I might have been drunk

Ah, since I was actually drunk and you were simulating drunk I could not properly translate. Will try harder next time!

BTW, I am awaiting the new tag for the Hybrid Charger with the formula for Organic Hydrogen on it. Know any shops around here that sell "Go Green" bumper stickers?

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