Here’s a story for you. Warren Buffett was thinking about investing a few billion dollars in a deal. But he worried that the deal might be negatively affected by some possible legislation. To assess the odds of that legislation happening, and being bad for his deal, he did what anyone else would do if they could: He called Senator Orrin Hatch to say “you’ve got to do something about” the legislative discussions.
And then Hatch gave Buffett some non-public information about the possible legislative action. “I think he wanted to know where we were going and he knows I’ll tell him the truth, which I did,” said Hatch, publicly, with his own mouth.1 So, armed with the information he got from Hatch, Buffett went off and made his investment.
Now this story is true, but my telling of it is pretty stupid and slanted. Buffett’s $3 billion preferred stock investment in the Burger King (BKW)/Tim Hortons (THI) deal probably won’t be affected much by any likely legislative action on tax inversions, so the inside information that he got from Hatch probably had little to do with his investment decision.2 Also my guess is that Orrin Hatch doesn’t particularly know what Congress will do about tax inversions, and that no one else does either, so I doubt the information that Buffett got was all that valuable.
More importantly, though: This is the sort of conversation that legislators are supposed to be having. Why would you want Congress to legislate about complex business questions without first talking to some complex businesspeople? Why would you want Orrin Hatch to make decisions on tax policy by locking himself in a quiet room and looking deep into his own soul? What does his soul know about international corporate tax incidence? Warren Buffett is a very smart businessman with a gift for explaining complex issues using simple, vivid, semi-pornographic images. Congress should talk to him all the time.
Meanwhile, in another part of town, there is this story about congressional insider trading. What we already knew is that the Securities and Exchange Commission is looking into a congressional staffer who apparently told a lobbyist about a pending decision on Medicare reimbursement before it was public. The lobbyist told Height Securities, a research firm; Height told a bunch of its hedge fund clients (via an e-mail citing “very credible sources”); and the clients traded on the information before it was public.
What we learned today is that some of the clients — including Citadel, Viking and of course SAC Capital — also talked to Height on the phone after getting that e-mail but before trading:
There is nothing inherently illegal about investors talking with individuals at Height Securities about its research note. In fact, it would be normal for them to do so before making a large trade based on such a note. But investors could be liable for violating insider-trading rules if they knew the information was obtained illegally — or if they should have known that the information was obtained illegally. As a result, the information relayed in the communications between Height and the hedge funds is critical.
But what does “obtained illegally” mean? Well, illegal insider trading is trading based on material nonpublic information obtained from a tipper who violated a duty of confidence in exchange for some personal benefit. Congressional employees have such a “duty arising from a relationship of trust and confidence to the Congress, the United States Government, and the citizens of the United States with respect to material, nonpublic information.” So basically the question is:
- Did these hedge funds know that this information came, ultimately, from a congressional employee?
- Did they know that he was bribed for the information?3
I mean? We don’t know that he was bribed for the information. He probably wasn’t! He gave the information to a lobbyist, probably because congressional staffers exchange information with lobbyists, that is like their whole job. (Their bosses, of course, exchange information with Warren Buffett, but same basic idea.) Maybe the lobbyist replied, “Thanks! I know people who can trade on this information! Here’s some money!” But that would be an unusually idiotic thing for the lobbyist to do.
Similarly, an idiotic thing for the hedge funds to do would be to call up Height Securities and ask, “Hey are these very credible sources employed by Congress? And did you bribe them?”4 It seems to me very very difficult to argue that SAC or Citadel was insider trading based on an anonymously sourced, widely distributed e-mail from a research firm. Once they checked up on the sourcing, though, they’re at risk.