NZ can learn from foreign watchdogs

Insider trading has been a big issue in 2000. The year started with the Kerry Hoggard/Fletcher Challenge incident and is coming to an end with the Paul Hyslop/Fletcher Challenge Paper saga still in the headlines.

In between, the Securities Commission investigated share trading activity at Force Corporation, E-Phone and Spectrum Resources; the Ministry of Economic Development released a discussion document on insider trading law reform; and company directors showed widespread disregard for the recommended procedure for their buying and selling shares.

Any thoughts that New Zealand does not have an insider-trading problem have been destroyed.

One of the main problems with our laws, and most securities regulation, is inadequate enforcement. We have no strong central agency to monitor investment markets, prosecute rule breaches or help individuals who want to take legal action.

Side issues arising from the Securities Commission report into the Hyslop/Fletcher Paper incident in April-May 1999 highlight this problem.

One of the more interesting aspects of the report was the statement by Elizabeth Corby, the woman who faxed the confidential document from Fletcher Challenge's head office on April 30, that she had been told of the proposed FCL Paper sale six or eight weeks before she faxed the confidential document.

Mrs Corby said she had received the information from a colleague who was not an employee of Fletcher Challenge, but this person had received the information in confidence from an FCL employee who was involved in the merger plans.

How many other individuals learned about the proposed merger between Fletcher Paper and Fletcher Challenge Canada before April 30? On the evidence of share trading statistics, quite a few.

Fletcher Paper experienced a sharp increase in share trading volume in March and April last year.

Average daily volume soared from 884,000 in March to 2,894,000 in April as the division's share price rose from $1.32 to $1.67.

Why did the commission not investigate her allegations that company insiders leaked confidential information?

In most other countries a strong Government-funded enforcement agency would have followed up Mrs Corby's revelations.

As far as the commission is concerned, it has no formal rights in relation to insider trading but it can investigate suspect transactions and comment on the likely outcome of an action instigated by counterparties to illegal share trading.

Comments in the Hyslop/Fletcher Paper report indicate that the commission wants to give up its enforcement role to concentrate on offering the Government advice on law reform.

This is understandable as the commission has limited powers and is woefully underfunded. In the June 2000 year, it received Government funding of just $2.3 million while the Serious Fraud Office received $5 million.

By comparison, the Australian Securities and Investment Commission (ASIC) is a well-funded Government agency that has the authority and resources to enforce Australian investment rules. In the June 2000 year, it received Government funding of $A135 million and spent $73 million on regulatory and enforcement issues.

The ASIC's regulatory and enforcement division has 662 employees whereas the NZ Securities Commission has a staff of 18.

The Australian commission has wide powers over all areas of the securities industry, including the Australian Stock Exchange. Its primary objective is to maintain the integrity of the market and to ensure that participants who act dishonestly or unfairly are subject to the full force of the law.

In the June 2000 year, it brought 461 matters to court and had an 84 per cent success rate.

As a result of these proceedings 25 persons were sentenced to jail terms, including two for insider trading. Simon Hannes received two years, two months for trading in TNT options, and Kenneth Firns one year, two months for offences related to Carpenter Pacific Resources.

In the past three years the ASIC has instigated 1224 court cases, whereas the NZ Securities Commission has not brought a single case before the courts.

The United States Securities and Exchange Commission (SEC), which was established in 1934, is a powerful organisation that oversees all of the country's investment markets.

Before the 1929 Wall St crash, there was little support for federal regulation of securities markets. Individuals poured into the market in the 1920s tempted by the promise of great riches. An estimated $50 billion of new securities was issued during the period, over half of which was wiped out after the market collapsed.

After the crash and the ensuing Depression confidence in investment markets plummeted and Congress established the SEC to restore market confidence by providing more structure and government oversight.

President Franklin Delano Roosevelt appointed Joseph P. Kennedy, President John F. Kennedy's father, as the first chairman of the SEC.

The SEC now plays a very active role monitoring and enforcing securities regulations, particularly insider trading. It considers insider trading as one of its main enforcement priorities and last year started 57 proceedings against 165 people.

The SEC offers bounty payments to anyone providing information on illegal share trades. These bounty payments can be up to 10 per cent of civil penalties recovered from violators of the regulations.

The high-profile case over IBM's takeover of Lotus Development illustrates the extent to which the SEC will go to prosecute insider traders.

On Friday, June 2, 1995, Lorraine Cassano, an IBM secretary, learned in advance that IBM planned to make a takeover offer for Lotus. The commission alleges that Mrs Cassano tipped off her husband, who in turn tipped off two friends.

This information was quickly passed through six different tiers until 25 people bought Lotus shares based on Mrs Cassano's confidential information.

Some of the information was passed through a Staten Island delicatessen. Many of the inside traders had never bought shares before.

These individuals made illegal trading profits of more than $US1.3 million when the takeover was announced on Monday, June 5.

The case, which involves the largest single group of insider traders prosecuted by the SEC, has been pursued with vigour. One fourth-tier tippee and another fifth-tier tippee agreed to settle out of court and pay substantial fines.

Eleven of the 25 original defendants have settled with the SEC and the remaining 14 await trial in the New York District Court.

Both the ASIC and the SEC have the authority and funding to enforce insider trading regulations.

With little deterrent against illegal share trading in New Zealand, it is highly unlikely that the IBM/Lotus case would have got off the starting blocks here.

The situation will not change until the statute is reformed and a central enforcement agency is given the authority and money to enforce the rules.