Insider Trading

Today, Garrett Bauer (44) of New York, NY was sentenced to 9 years in prison after agreeing last December to plead guilty to charges of trading stocks based on confidential information related to mergers and acquisitions. Bauer was sentenced by U.S. District Judge Katharine Hayden in New Jersey, while U.S. Attorney, Paul Fishman of New Jersey, looked on from the gallery. Bauers source for the information was attorney Matthew Kluger (51), who worked at the law firm of Wilson Sonsini Goodrich & Rosati in Washington, DC. Kluger was sentenced by Judge Hayden to 12 years prison, within the federal sentencing guideline of 10-12 years, earlier in the day.

Some of the earliest information started flowing to Bauer in 1995, Bill Clinton was in his first term as president, when Lotus Development Corporation (Remember Lotus 1-2-3 and Lotus Notes) was purchased by IBM. Kluger, then an NYU Law School intern at Cravath Swaine & Moore, knew that the firm was working on a transaction that involved the purchase of Lotus. He passed that information on to an acquaintance of his, Kenneth Robinson, who was a mortgage broker in Long Island. Kluger explained the value of the information he had and Robinson knew a guy who knew a lot about trading stocks, Garrett Bauer.

Bauer and Robinson were close friends, but Bauer did not know or have any contact with Kluger. So the person trading on the information had no contact with the source of the information, while Robinson played the intermediary. Bauers role was to act as stock trader on the information, taking orders from Robinson and Kluger on the number of shares they wanted to purchase. Bauer also played the role of banker, paying taxes on the stock gains and then distributing the money, in cash, back to Robinson who would then pay Kluger. It was the beginning of an insider trading ring that would last 17 years.

In a series of interviews I had with Garrett Bauer, he provided a glimpse into the world of insider trading.

At first, it was about the money, Bauer said. "When I started trading, I was broke and used credit card advances to make some trades. So Kens [Robinson's] tips were helpful at first, but the amounts [gains] were still small.

Over time, I had come up with my own day-trading strategies that made money by moving in and out of stocks throughout the day. Thats why I didnt like Kens tips because they were not that accurate. I would have to hold stocks for longer periods of time with him.... sometimes it was months, when I was usually in a stock position for only a few minutes.

The tips from Kluger represented incomplete information most of the time. Kluger would go into a document management system at the law firm and search through the subject lines of the documents to see what transactions were being worked on by the firm. He would never click on the document, because that would create an activity log that he had looked at the file. To further complicate his searches for information, some of the firms clients were given code names so as to prevent someone from overhearing or seeing documents that would otherwise specifically state the companies involved in a deal.

Kluger was always careful to only get information on those transactions that were worked on by other attorneys, never his own clients. It created further separation between the source and the trade. He would then pass what he knew on to Robinson through clandestine meetings, phone card calls or prepaid cellphone calls. Robinson would then pass the information on to Bauer who would do additional research to see if he could find out if the information had merit. At times, it meant enduring losses prior to a deal closing.

Bauer would place the trades for the group, with Robinson and Kluger usually wanting 50,000 - 100,000 shares of a company. Bauer on the other hand placed his own order, and those share purchases were in the hundreds of thousands, or millions, of shares that he would purchase over time. He was a trader.

However, Bauer was moving in and out of many stocks and was eventually using Goldman Sachs to clear his trades. In 2010, Bauer had traded over $8.38 billion in stocks. Within that volume, some of his trades involved the target companies given to him through Kluger/Robinson.

PLEASE ANSWER ALL QUESTIONS FOR THUMBS UP

1) Decision making is a critical skill for todays manager. In your opinion, what factors impacted Garretts decision to commit fraud? If you were Garrett, how would you have responded?

2) Do you believe that Ken Robinson, Garretts friend, violated their friendship by wearing a wiring and implicating Garrett in the scheme?

3) Do you think regulation can deter insider trading? Why or why not?

4) Do you think Garretts loyalty to his friend (Ken Robinson) was the driving force behind his decision to commit insider trading?

5) If you were faced with the same opportunities as Mathew Kluger by having access to confidential information, would you engage in insider trading?