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Making Insider Trading Legal

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Re: Making Insider Trading Legal

#81

Post by lambdapie »

lambdapie wrote: post #21

Insider trading does harm people, and does reduce liquidity. Many people who understand classical economics get this wrong [0], because financial markets are a very degenerate kind of market from the point of view of classical economics. The fundamental error in all cases is to conceptualize insider trading as buying from someone who would have bought/sold anyway . This is precisely failing to think at the margin. It…

Some other commenters have correctly pointed out that (1) my comment doesn't address whether the liquidity costs outweigh the benefits of extra information, and (2) why insider is different to outsiders doing research.

I do implicitly address these issues in my comment, when I compare public information with insider information. Noise traders are the goose that lays the golden eggs[0]. They irrationally trade randomly in a stock, masking the trades of informed traders. They make a trading loss on average, and these losses provide the profits of informed traders, which gives those traders the incentive for price discovery.

Although the simplest noise trader models can't capture this (as all information takes the same form) [1], public information is much less costly to the noise traders. So for example, noise traders lose a lot more if a company's earnings are leaked to a few individuals, than if these earnings are made public, because in the latter case the market maker can distinguish information from the the noise trader's trades.

So (and again, a model is really needed to confirm this) public information is cheaper in terms of its impact on liquidity, than insider information. One thing I'm not certain of is whether many insiders competing to trade on the same information would be as good as public information.

[0] See the seminal work of Kyle (1985), http://www.jstor.org/stable/1913210 and also the review article http://scholar.harvard.edu/shleifer/files/noise_trader_appro...

[1] Giving the market maker access to a meaningful information set would resolve this issue.

Re: Making Insider Trading Legal

#82

Post by mrchicity »

jessaustin wrote: post #33
lambdapie wrote: post #22

Earlier quoted context omitted.

What does "if he's going to stray from the South Asian beat" refer to?

Perhaps I'm influenced by those cases that the news media has chosen to publicize. Clearly Mathew Martoma would still be "guilty" under the newly-clarified rules. I really wonder about e.g. Raj Rajaratnam, Anil Kumar, or Rajat Gupta, however.

Didn't Gupta sit on the board of public corporations and slip Rajaratnam earnings information right after a board meeting? That seems about as clear-cut as it gets. Gupta had a clear duty of confidentiality serving as a high-level executive and the information was obviously material to the share price. You don't get much more material than quarterly earnings.

Re: Making Insider Trading Legal

#83

Post by baddox »

Natanael_L wrote: post #67
baddox wrote: post #57

Earlier quoted context omitted.

Why does borrowing money in any way diminish the positive effect of making the stock price more reliable? And how does the incentive to lie to other traders apply only to insider trading? It seems like that would always apply to all trading.

Like I replied to another comment, should judges be allowed to trade on information about judgements he has yet to deliver?

I don't think so, but I think that could be handled on the side of the court, not the side of the exchange. It could certainly be illegal, or at least a disbarrable offense, for a judge to use his or her knowledge for personal gain. Likewise, many of the most flagrant examples of insider trading could be covered under trade secret or contract law, like a CEO shorting his or her company then purposefully sabotaging it.

Re: Making Insider Trading Legal

#84

Post by losvedir »

mrchicity wrote: post #80
evanpw wrote: post #44

Earlier quoted context omitted.

I basically agree with this, but I don't think it helps that much to answer the question of which trading activities should be allowed, and which should send you to prison. Almost all of what you've said applies equally well if you replace "insider trading" with "professional trading". If you send a 1000 share buy order to the market, knowing that you're going to send 99 more of them throughout the day, you're making…

The other difference is that inside information isn't available on a reasonable and non-discriminatory basis. Traders pay for advantages all the time: Bloomberg terminals, news services, hire better analysts, pay someone to count cars in store parking lots, purchase faster computers or data feeds, but anyone else can do the same. Some players have an advantage, but the playing field itself is relatively level. With i…

> With inside information, it's not available to people outside the tipping network at any price.

But surely this is begging the question? If there were no laws restricting trading wouldn't information that we currently call "inside information" become available at some price? I could easily see some exclusive, high priced news service selling these leaked facts. It would then cause the "true price" of the stock to be found much, much quicker.

Re: Making Insider Trading Legal

#85

Post by losvedir »

bediger4000 wrote: post #54
nanis wrote: post #13

If everyone with inside information could trade on it without fearing the law, they would reveal the predicted effect of said information via movements in the price of the security. Therefore, free and legal insider trading would actually increase fairness in the market.

I agree, that narrow viewpoint of fairness would increase. But wouldn't the general perception of fairness decrease? I mean, all those Edward D. Jones strip mall and small town stockbrokers would probably loose business because of the perception that only bigtime Wall Street insiders can actually catch good deals. Of course, the sleazier Edward D. Jones strip mall and small town stockbrokers would probably increase t…

> But wouldn't the general perception of fairness decrease? I mean, all those Edward D. Jones strip mall and small town stockbrokers would probably loose business because of the perception that only bigtime Wall Street insiders can actually catch good deals.

Sounds like a good outcome to me, since that's basically the case anyway...

Re: Making Insider Trading Legal

#86

Post by jostmey »

I naively assume that the only way to succeed big in wall street is to rely on insider information. The rules against insider trading only hurt those trading at home believing the playing field is level. But I don't know how it really works.

Re: Making Insider Trading Legal

#87

Post by evanpw »

mrchicity wrote: post #80
evanpw wrote: post #44

Earlier quoted context omitted.

I basically agree with this, but I don't think it helps that much to answer the question of which trading activities should be allowed, and which should send you to prison. Almost all of what you've said applies equally well if you replace "insider trading" with "professional trading". If you send a 1000 share buy order to the market, knowing that you're going to send 99 more of them throughout the day, you're making…

The other difference is that inside information isn't available on a reasonable and non-discriminatory basis. Traders pay for advantages all the time: Bloomberg terminals, news services, hire better analysts, pay someone to count cars in store parking lots, purchase faster computers or data feeds, but anyone else can do the same. Some players have an advantage, but the playing field itself is relatively level. With i…

I agree that there are legitimate reasons to restrict insider trading, but I think that the "fairness" angle distorts more than it illuminates. Warren Buffet's trading plans for next year are not available to me at any price, and he can probably be 95% confident that after announcing he owns a stake in some company the price will jump, but I (and probably you) don't think that means he should go to prison.

Re: Making Insider Trading Legal

#88

Post by baddox »

Natanael_L wrote: post #66
baddox wrote: post #56

Earlier quoted context omitted.

I think the main trouble I'm having with your argument is the idea of it "harming" someone. While that seems to perhaps be true in the most technical sense, I'm not sure it's a sufficient argument for banning insider trading. After all, many things which harm people are not generally considered to be bad. For instance, if someone opens a restaurant Ina town, and runs the restaurant very efficient while offering a hig…

Should judges be able to trade on the information about companies be is about to deliver judgements for? Should city planners be allowed to trade on the information on approvals / denials before they're announced?

I would hope that both of those examples would be prohibited by the terms of their employment.

Re: Making Insider Trading Legal

#89

Post by mrchicity »

losvedir wrote: post #84
mrchicity wrote: post #80

Earlier quoted context omitted.

The other difference is that inside information isn't available on a reasonable and non-discriminatory basis. Traders pay for advantages all the time: Bloomberg terminals, news services, hire better analysts, pay someone to count cars in store parking lots, purchase faster computers or data feeds, but anyone else can do the same. Some players have an advantage, but the playing field itself is relatively level. With i…

> With inside information, it's not available to people outside the tipping network at any price. But surely this is begging the question? If there were no laws restricting trading wouldn't information that we currently call "inside information" become available at some price? I could easily see some exclusive, high priced news service selling these leaked facts. It would then cause the "true price" of the stock to b…

I don't think exclusive access would be legal, and if access isn't exclusive, the value of the information would drop, as it's only valuable to the extent that it's not known by others.

Also, simply being aware that such a service exists and can release information at certain times would let uninformed traders exit the market during releases. Right now insider traders can arrive randomly at any time.

Re: Making Insider Trading Legal

#90

Post by mrchicity »

evanpw wrote: post #87
mrchicity wrote: post #80

Earlier quoted context omitted.

The other difference is that inside information isn't available on a reasonable and non-discriminatory basis. Traders pay for advantages all the time: Bloomberg terminals, news services, hire better analysts, pay someone to count cars in store parking lots, purchase faster computers or data feeds, but anyone else can do the same. Some players have an advantage, but the playing field itself is relatively level. With i…

I agree that there are legitimate reasons to restrict insider trading, but I think that the "fairness" angle distorts more than it illuminates. Warren Buffet's trading plans for next year are not available to me at any price, and he can probably be 95% confident that after announcing he owns a stake in some company the price will jump, but I (and probably you) don't think that means he should go to prison.

Anyone buying a lot of shares will move the price up. Buffett makes money because he buys shares under their future value despite moving prices in the short-term, not because of it. Anyone can try to become as smart as Buffett, hire away his analysts, and so on.
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