Washington Post Comes Around on Insider Trading, Realizes "What's the Big Deal?"

Echoing arguments made for years by nutsy-crazy libertarian types who want there to be verifiable harm to someone's life, liberty, or property before people get tossed in jail, Dylan Matthews at the Wonkblog of the Washington Post today realizes that laws against insider trading are silly, don't do any good, and ignore most of what they purport to be preventing by not cracking down on the "crime" of insider non-trading.

Some excerpts:

Insider trading is actually an active good. Markets work best when goods are priced accurately, which in the context of stocks means that firms’ stock prices should accurately reflect their strengths and weaknesses. If a firm is involved in a giant Enron-style scam, the price should be correspondingly lower. But, of course, until the Enron fiasco was unearthed, its stock price decidedly did not reflect that it was cooking the books. That wouldn’t have happened if insider trading had been legal. The many Enron insiders who knew what was going on would have sold their shares, the price would have corrected itself and disaster might have been averted.

That’s the argument of Henry Mannes, an economist at George Mason University who’s advocated legal insider trading for decades now. Referring to the Enron and Global Crossing’s scandals, he says, “I don’t think the scandals would ever have erupted if we had allowed insider trading because there would be plenty of people in those companies who would know exactly what was going on, and who couldn’t resist the temptation to get rich by trading on the information, and the stock market would have reflected those problems months and months earlier than they did under this cockamamie regulatory system we have.” And that’s months and months where investors could have allocated money toward more promising investments, increasing market efficiency.

More formal economic models reach the same conclusion. Christopher Matthews at TIME — no relation — points to a study by researchers at the Atlanta Fed, who surveyed a wide array of models and found that insider trading makes stock prices more informationally efficient. Then again, it would deter some kinds of uninformed investors from participating — but again, that’s a feature, not a bug.

What’s more, insider trading bans don’t actually stamp out insider trading. Illegal trading remains, of course, and may actually be growing, which puts law-abiding investors at a disadvantage. But the bans also exempt some equivalent behavior. Let’s say that instead of hearing that The Post will post a loss, I hear that it’ll post a profit, and thus don’t sell any of my shares. That kind of “insider non-trading” is totally legal, but basically equivalent to insider trading. Allowing one and not the other is bizarre and inefficient.

I disagree with Matthews that we should as a matter of public policy want to discourage individual investors in particular companies, which he seems to think. But given the immense amount of informational non-asymmetry built into a world where time and attention are scarce, it is silly to create a potemkin law that pretends to solve that "problem" when it comes to stock market transactions--a problem inherently impossible to solve at any rate. Everyone always knows different things, at all times.

I was saying the same things here back in 2002, tried to use a real-world thought experiment to expose another side of how bad the laws are (as they might apply to enterprising journalism), as was Michael McMenamin in an October 2003 Reason cover feature.

Editor's Note: We invite comments and request that they be civil and on-topic. We do not moderate or assume any responsibility for comments, which are owned by the readers who post them. Comments do not represent the views of Reason.com or Reason Foundation. We reserve the right to delete any comment for any reason at any time. Report abuses.

  • Warrren||

    Buying stocks or bonds should seem risky. Enough that people do their own due diligence instead of relying on the "well the government regulates it" idea.

    And insider trading is part of that.

  • Acosmist||

    What due diligence?

  • ||

    Operative word in that comment is "should".

  • Acosmist||

    Yeah, and that's what I asked about - what would that be? How many dozens of hours a week do I need to spend analyzing the market? As much as traders do?

  • Copernicus||

    No, the correct number of hours for due diligence is exactly 0.14 X the average number of hours spent by professional Amuriken traders during the most averagest of trading months. But thanks for asking.

  • Invisible Finger||

    I disagree with Matthews that we should as a matter of public policy want to discourage individual investors in particular companies,

    I didn't read it that way. I think he wants to discourage "investing without information because the government is protecting me". The law/regulation is enabling reckless investment that would not exist without the law/regulation. Sort of like prohibition creating more bathtub gin drinkers than would exist without prohibition.

  • Fatty Bolger||

    Look, we can't get rid of insider trading laws, because then people in government won't have exclusive access to this information, and how else are they supposed to get rich without actually taking bribes?

  • Sevo||

    "how else are they supposed to get rich without actually taking bribes?"
    I think the Hillary Clinton signature is missing.

  • ||

    They will never give up insider trading laws. These laws allow grandstanding prosecutors to go after famous rich people to boost their own careers (see: Martha Stewart) and to punish rich people who piss them off.

  • Generic Stranger||

    Plus since the legislators exempted themselves from the law, legalizing it would mean that they will no longer have any special status and won't be able to make as much money.

  • Rrabbit||

    Insider trading laws should apply the same to everybody, and be enforced in a consistent way rather than selectively.

    A group of government employees decides that Joe Corporation will get that
    $5 billion contract. Before communicating the decision to anybody, the government employees buy options for Joe Corporation. That should be illegal, especially for Members of Congress.

  • Palin's Buttplug||

    The problem arises because public companies are supposed to be truly public where the financial information is released simultaneously to everyone.

    I know the concept of "public" is anathema to the Peanut Gallery but it means a lot to us market people.

  • setTHEline||

    The term "public company" means that it is bought and sold on open exchanges. Why should someone who has no connection or interest in the company be privy to all the financials of a company just because the government says so? Here's an idea: if you are a shareholder of a publicly traded company and you question that companies openness with you about their financials, sell their stock! If others see it as you do, the stock will be discounted to reflect that distrust. That's how the market works. You're distorting the word public into some collectivist "I'm entitled to know stuff because I wanna know it" bs.

  • GILMORE||

    "Why should someone who has no connection or interest in the company be privy to all the financials of a company?"

    For the record= shareholders, and certainly even *potential* shareholders (or those trading options against the shares) most definately have a 'connection' or 'interest' and deserve equal access to all material information relevant to a firm.

    I found the piece a little misleading = insiders (officers, board members, institutional owners) can trade whenever they want. The just have to disclose their activity to the public (SEC form 4). Its when people intentionally try to mask and hide their activity in relation to material non-public info that a crime occurs. I am not sure this debate even reflects the reality of what the rules mean. What if 'insiders' entirely disown the company and dump all their holdings = is that not a signal the public should be informed about? price will not be reflective of the issue unless there is a level of transparency - what is the case being made against *that*? because theres no way simple unloading of a certain % of the float will have any immediate impact on price; much trading is simply to maintain inventory and liquidity - market makers move enormous blocks of shares without communicating any 'signal' of drop in demand. The argument in the piece seems like a straw man = no one is criminalizing trading = its the attempt to mask trading by insiders that is considered a violation

  • setTHEline||

    "For the record= shareholders, and certainly even *potential* shareholders (or those trading options against the shares) most definately have a 'connection' or 'interest' and deserve equal access to all material information relevant to a firm."

    I never said shareholders shouldn't be privy to financials. I said a public company shouldn't have to disclose anything unless their shareholders demand it. Couldn't that be governed by private contract? It seems we simply disagree upon the methods by which shareholders could be privy to financials. Couldn't a companies shareholders demand a private contract with company management to be informed of any trading of company equity by said management? Why do we need the SEC? Regarding discounting, I didn't say that a CEO selling stock would materially alter price. I did say that if enough shareholders don't trust the company and decide to dump their equity, that will obviously be reflected in the price.

  • Fatty Bolger||

    "us market people." Hee hee. Good one.

  • Jordan||

    He probably confuses breadlines with markets.

  • Sevo||

    Jordan| 7.26.13 @ 8:10PM |#
    "He probably confuses breadlines with markets."

    He certainly confuses himself with a rational human being.

  • Dweebston||

    Mm. Since insider trading is illegal, how do you propose insiders make public their information? Benevolently?

  • GILMORE||

    as noted = 'trading' is not illegal. Trading without filing a form 4 is. That is how insider activity is disclosed to the public.

    example =
    http://finviz.com/insidertrading.ashx

  • John C. Randolph||

    Let’s say that instead of hearing that The Post will post a loss, I hear that it’ll post a profit,

    The WaPo turn a profit? Dream on!

    The WaPo is a zombie, and Craigslist is dancing on its grave.

    -jcr

  • I can't trust my fans||

    According to their public filings, The Washington Post Company (NYSE:WPO) had gross profits of $507 million in Q1 2013, $582 million in Q4 2012, $524 million in Q3 2012, etc.

    The last time their quarterly profits were under $500M was Q1 2012.

    See for yourself.

    www.google.com/finance?q=NYSE:.....Fa-00AHfQQ

    In short, yes, they're profitable.

    The common wisdom is that this is because of their test preparation and private education division, Kaplan Inc., which they bought in the 1980s.

    It's important to do due diligence before you post on Hit & Run.

    Otherwise, you make jokes about masturbating on Epi's mother look cheap, tawdry, and non-credible.

  • GILMORE||

    ""cheap, tawdry, and non-credible.""

    like YOUR mom

  • ||

    The single greatest beneficiary of insider trading laws are the professional trading elite. They may see the information at exactly the same time as everyone else, but they have the organizational wherewithal to prepare decisions based on the information as well as the proximity to the market itself to get their trades in before the general public can use the information.

    Anyone who upsets that applecart gets the SEC sicked on them, whether it's junk bond dealers of the 80's or company insiders today. It's in the name of the "public good", but it is entirely in the service of Wall Street.

  • Metazoan||

    It's in the name of the "public good", but it is entirely in the service of Wall Street.

    The story of regulation.

  • PH2050||

    Feature, not a bug.

  • Jayce||

    "Markets work best when goods are priced accurately"

    That requires that the information about those goods is generally available and that people can generally trade on that information. The entire concept of a free market is that everyone has equal access to the market and reasonable access to the information. Insider trading is, by definition, using information that is kept secret from everyone else so that one can profit in the market. I.e. unequal access. I fail to see how more insider trading is a libertarian goal.

  • ||

    The entire concept of a free market is that everyone has equal access to the market and reasonable access to the information.

    We had to destroy the market in order to save it?

    Seriously, as usual, if government is preventing a voluntary interaction, it is making that interaction less free. Freedom of a market means that everyone can trade regardless of whether they are a trader, denizen, outsider, or insider.

    Insider trading is, by definition, using information that is kept secret from everyone else so that one can profit in the market. I.e. unequal access.

    When was the last time Warren Buffett published exactly what move he was going to make and why before he made it? How can he buy and sell so much using secret information? That's unequal access!

  • PH2050||

    Jayce, I think you don't know what prices are so I don't know what else to say.

  • GILMORE||

    you think theres a perfect relationship in the 'price' vs supply?

    really. it seems like the arguments made here are based on econ textbook understanding of the market, and not the actual modern stock exchange.

  • KPres||

    "Markets work best when goods are priced accurately

    That requires that the information about those goods is generally available and that people can generally trade on that information."

    If that's really the case, then why wouldn't the exchanges themselves will ban the practice? Their interests are served by having a vibrant and healthy market. There's no need for a law.

    This seems to be one of those cases where people think ONLY government can act as a 3rd-party arbitrator, a widespread misconception. The debate is too often about whether or not a particular regulation should exist, rather then whether or not the regulatory body should be controlled by the state or a private company.

  • LarryA||

    Insider trading is just one of a raft of federal crimes that shouldn't be illegal, particularly shouldn't be felonies.

    Was a time when a typical federal felon was Al Capone. Now it's Martha Stewart.

  • NL_||

    Insider trading rules benefit large outside shareholders (like institutional investors) but mostly protect the top executives at public companies. They tend to be paid handsomely in equity, and often their performance is measured by the directors against the stock price. If their own executives start trading low (or even short selling) then it undermines stock prices, especially if it becomes common knowledge that the company's own executives are doing so.

    The company and the shareholders clearly have an interest in knowing if their own employees are selling the company. An agent owes the principal the duty of loyalty. But an agent doesn't owe the principal the duty of seppuku or suttee. The most you could say is that employees could be bound by contract clauses that forbid them to sell outside certain timeframes (which is already a common provision), and forbid them to sell without disclosing to the company, maybe a nondisclosure agreement on the reasons why they're selling (to the extent that'd even be enforceable). Contracts, not crimes.

    People with bad news can't sell, but people with good news can sell. It's tilted towards the benefit of top executives and long-term shareholders (both high wealth groups). Insider trading bans are presented as intended to punish unfair paths to riches (not harmful, just unfair) but they really just protect rich people's portfolios from being devalued by short selling.

  • NL_||

    I meant that people with bad news can't sell but people with good news can buy. That's not the strict definition, but it's the general manifestation.

GET REASON MAGAZINE

Get Reason's print or digital edition before it’s posted online

  • Progressive Puritans: From e-cigs to sex classifieds, the once transgressive left wants to criminalize fun.
  • Port Authoritarians: Chris Christie’s Bridgegate scandal
  • The Menace of Secret Government: Obama’s proposed intelligence reforms don’t safeguard civil liberties

SUBSCRIBE

advertisement