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Insider trading lurks
May 14, 1999: 7:56 p.m. ET

Stock jump before Republic merger announcement raises questions
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NEW YORK (CNNfn) - When Republic New York Corp.'s stock jumped 14 percent last Friday, some investors may have known something that the rest of the investment community did not.
     The bank, with assets of more than $50 billion, was about to be acquired by British bank HSBC Holdings for $10.3 billion or $72 a share.
     However, the takeover bid wasn't formally announced until the following Monday, leaving some market watchers to wonder whether someone, somewhere got wind of the deal ahead of time.
     "The deal clearly leaked," said Marni Pont O'Doherty, an analyst with Keefe Bruyette & Woods. "When the market closed on Friday, everybody knew this company was gone on Monday."
     "I give you three guesses, and the first two don't count," said Tom McCandless, an analyst with CIBC Oppenheimer. "It's obvious. Somebody was saying something."
Ghost of times past

     Though Republic says it is not aware of any investigation into the Friday run up of its stocks, the trading activity before the merger announcement is the kind of move that normally triggers the interest of the Securities and Exchange Commission.
     "Clearly the SEC is investigating," Diane Glossman, banking industry analyst at Lehman Bros., said. "It's standard procedure." The SEC declined to comment, noting it does not confirm or deny investigations.
     The 1980s may have taken the big-news arrests of Michael Milken and Ivan Boesky with them, but the specter of insider trading still haunts Wall Street. The SEC brings 40 to 50 insider-trading cases a year, around one in 10 of all its enforcement actions.
     While that ratio has held steady throughout the '90s, the number of insider-trading actions has actually increased. "There are so many more mergers going on now," SEC spokesman Duncan King said.
     The nature of insider trading has also changed. Given the advent of the Internet and the popularity of online brokerages, many more people can profit from so-called inside information than just investment bankers.
     "Insider trading is now on the Main Street level rather than the Wall Street level," the SEC's King said. "We're bringing more cases about individuals who know about the companies rather than people involved in the deals." For example, a spouse of a director may try to turn a quick profit from inside information, King said.
     When a case of illegal insider-trading does involve someone from Wall Street with important nonpublic information about a company, investigators say they've seen an increase in the number of GenX-ers involved.
     Typically junior employees at investment banks, they aren't old enough to remember when arbitrageur Boesky implicated junk-bond magnate Milken in securities fraud in 1986. Milken got 10 years in prison. Boesky plea-bargained his way to 22 months.
     Most prominently, in late 1997 Marisa Baridis, a former compliance officer at Smith Barney and Morgan Stanley, pleaded guilty to passing on insider tips about deals.
A lot of merger talk

     It's not unusual for stocks to trade up on rumors. In fact, the joke is that it's unusual if they don't. The week before Republic's (RNB) deal, Mercantile Bancorp shares jumped 11 percent in a day ahead of the news Firstar Corp. (FSR) was bidding $10.6 billion for it.
     Though until recent years it was uncommon for merger speculation to move staid financial stocks, that has changed. In addition to Mercantile and Republic, J.P. Morgan (JPM) and KeyCorp (KEY) were recently rumored to be "in play."
     But most rumors have long legs. Mercantile (MTL) had been paired with Firstar before, even the morning it announced its merger, in an American Banker article. Analysts say rumors about Republic had been swirling for almost a month but that the jump in the stock on May 7 was extraordinary even in a world that thrives on speculation.
     "This was rare because there were very persistent, prevalent rumors for about three weeks," O'Doherty said. Since last August, Republic's stock had been stuck between 40 and 50. It started rising on takeover rumors the second week of April and then the price spiked, along with volume, on the Friday before the deal was announced.
     Rumors about a merger named potential buyers such as Union Bank of Switzerland, J.P. Morgan, and the Credit Suisse Group, according to analysts and information posted on Internet "chat rooms."
     The bank's founder and major shareholder, Edmond Safra, was looking to sell the company after announcing last year that he had Parkinson's disease, analysts said.
     But it was a surprise to analysts that HSBC stepped in as the buyer. HSBC and Republic hashed out the deal "in a fairly small window, a few weeks," a Republic spokeswoman said.
     Chat room commentators started saying in early May that the rise in Republic's stock and increased trading volume meant a merger announcement was coming.
     Chatter on Republic's Yahoo message room paired it with buyers such as J.P. Morgan, itself a recent subject of merger speculation. Rumors also linked Republic with German banks.
     After the close of trading on May 7, one person even named the correct bidder, saying in an online "chat" room on Yahoo: "Don't count out HSBC of the UK" because Republic's retail business would mesh well with its U.S. operations. Attempts to reach the chatter, identified only as "Coultay", were unsuccessful. Chatters can use various aliases, and that is the only message Coultay posted.
Tough to figure path out

     Gerard Cassidy, an analyst with Tucker Cleary, said Coultay wasn't the only person who identified the correct bidder. "I unequivocally believe this was leaked," he said. But that doesn't necessarily point to insider trading, he said.
     A smart analyst might have guessed a merger was coming, and who the buyer might be, based on what bank would be a good fit for Republic and the fact that Republic officials who normally were available were suddenly unreachable, tied up in meetings. Analysts could also cite an estimated price based on other mergers in the industry.
     "That's what we get paid for," Cassidy said.
     It is not easy for the SEC to bring an insider trading case. If agency officials notice unusually heavy trading or a big jump in a stock price, they usually take a look to see if the signs point to a leak of insider information. Investigations can then take months, with agency officials trying to determine who leaked and when.
     The agency can move more rapidly on occasion, in cases where illegal insider-trading profits, or the traders themselves, might leave the United States.
     Some cases seem fairly cut-and-dry. In the HSBC-Republic deal, Tucker Cleary's Cassidy said, "if anyone in either of those companies was stupid enough to buy the stock Friday, they're going to get caught."
     Following the trail to people with more distant connections to the deal is a lot tougher. But investigators are now likely to eye Internet chat rooms, as well as other sources of information.
Anti-insider trading online

     Rumors spread on Internet chat message boards is nothing new. More than likely there's nothing "insider" about gossip such as Coultay's, regulators say. In fact, they say they have more problems with "pump and dump" schemes online, such as a fake Bloomberg news story posted in April that drove up shares of PairGain Technologies Inc.
     The person posting a chat room message purports to have some inside information, hoping to manipulate a stock so he or she can profit from a jump in price. Most chat rooms, at best, are full of educated observers. If someone had true inside information, "the question I always ask is, why would you tell everyone?" said Marc Crandall, a securities regulator in California's Internet Compliance unit.
     One likely motive for people with inside information to reveal it would be to do so using an alias online to try to show that "similar" rumors were circulating when they made their own trades.
     This may not work, though as regulators, armed with subpoenas, could try to track chat room participants through their Internet-service provider. The FBI traced Gary Dale Hoke, the engineer arrested in connection with the PairGain stock pumping, through ISPs.
     That type of securities enforcement is leading to the creation of units such as Crandall's, which the California Department of Corporations started early last year. So far, though, the unit has dealt mainly with other types of online securities fraud. It is working with the national organization of securities regulators to coordinate online policing efforts.
SEC considering new rules

     The SEC is also trying to crack down on Internet fraud, and this week announced its third sweep of fraudulent securities offerings and stock manipulation online.
     With the increased interest in investing, the agency also hopes to clarify insider-trading law. At the moment, insider trading prosecutions are based on previous courtroom cases and general antifraud statutes. The SEC is considering specific rules against illegal insider trading.
     Whether anyone acted illegally on specific insider information in Republic's case or not, the SEC's mission is to level the playing field for all investors. Before the Republic merger, agency officials were also eyeing rules aimed at forcing companies to disclose information to the public at the same time as they tell big institutional investors and Wall Street analysts.
     King said the agency may announce new rules as early as this fall.Back to top
     -- by staff writer Alex Frew McMillan


Insider trading persists - Oct. 16, 1996

Milken -- the Musical - Sept. 16, 1996

HSBC buying Republic Bank - May 10, 1999

Firstar to buy Mercantile for $10.6B - April 30, 1999


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