Hedge fund: It is a fund or pool of money from private investors. When people invest in a hedge fund, they entrust their money to a fund manager who in turn decides where when, how to invest their money. Obviously, the investors seek out a manager who has been able to grow the money pool in the past. Typically, because the amounts invested re very large sums, only the very wealthy invest in hedge funds. Investors often don’t know much about how the manager made them such big profits nor do they care as long as the manager made them big profits.
Up until these major money scandals it, there were few accounting rules that hedge funds had to obey. This was because these were “private” money clubs. This absence of accounting rules and regulations and without having to report business details like corporations, is a key difference between corporations and hedge funds. Since hedge funds do not need to divulge business deals, they can get away with shady or outright illegal deals because no one knew and the SEC did not police them strictly. Now, however, the government has come up with stricter rules.
What is insider trading and why it is illegal: Insider information is considered “insider” information when people making business decisions know something that is not known to investors. Examples of privileged information could be for example when executives decide in a meeting how much they will be willing to pay for a company they plan on buying. This type of trading is usually illegal.
Normally when people trade on the stock market they examine data that companies have released to the public and make their decision accordingly. Ideally, everyone should base their decision on the same information so that it creates fair competition as per the federal government’s rules. However, in insider trading, certain people get access to private information that others will not get which allows them to profit at the expense of others. Here’s how it works:
Let’s assume that John Doe has invested $1600 in Company ABC. Someone working at ABC tells him that the company has lost a lot of money in the last quarter, but the company does not reveal this information to the public. John Doe knows that eventually when the company announces its earnings in a few days, investors will be disappointed and as a result the price will decrease. Right now, though, the stock price is still high because other investors do not know this piece of information. So John Doe can sell his shares and make a profit. However, when the company releases its earnings in a couple of days, everyone else will suffer simply because they do not know this inside information about the company. The reason why John Doe was able to make a profit is because the company treated him as if he was superior to the other investors. This of course violates the federal government’s rules as well as corporate policy.
Summary of Rajaratnam Insider Trading Case
Like John Doe, Mr. Rajaratnam was supposedly given insider information and supposedly made trades knowing this information on various companies’ stock (including Goldman Sachs). Mr. Rajaratnam had several contacts at 50 companies including Goldman Sachs and is accused of obtaining insider information about them. The potential list of witnesses in this case are a maximum of 102 people and include Lloyd Blankfein and David Viniar (CEO and CFO of Goldman Sachs). Mr. Rajaratnam had a contact named Rajat Gupta who is on the board of several companies including Goldman Sachs so both of them had to testify and tell the government whether or not the information he traded on was insider information. In addition, there are 26 former traders, executives and lawyers who were associated with his hedge fund and have been charge. The U.S government claims that he made $45million in profits through insider trading.
Obviously, as I said above, insider trading is illegal and unethical because it goes against fair competition. Mr. Rajaratnam of course is protesting against the government’s claim. But the central question is how can the U.S government prove that the reason why Mr. Rajaratnam acted the way he did is because he had found out all of this illegal information about these companies?
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