Friday, May 31, 2013

Playing Rajat Gupta

 I've followed developments and written earlier about Rajat Gupta in March 2011in May 2012, and in July 2012.  The essence of my views has been:
a) Rajat's alleged insider tip-offs are out of character with the person I had come to know.
b) His heavy contributions to society and humanity far outweigh his alleged transgressions.
c) His insider leaks if true also pale in comparison to the misdeeds of typical hedge fund managers and other Wall Street players who are never caught or whose dishonest acts aren't technically crimes.
d) Even if he revealed secrets they could have been pried or deduced through wily questions by Rajaratnam.  Our Indian culture and ethos can make it seem impolite and difficult to completely clam up when a friend asks a direct question about a confidential matter.

 More light has been shed on the last point in a May 17 article in the New York Times that has pieced together the story of how he was manipulated by hedge fund titan (and crook) Rajaratnam.  This piece is well researched and dispassionate, providing insights into how Rajat could have landed in the mess that he's in.
Even the trial Judge Rakoff at the time of sentencing acknowledged that Rajat is "undoubtedly a good man".  In an interview (Fortune, Jan 24, '13) he stated without going into the specifics that he takes a defendants good deeds into account in his judgements.

[An aside: Though I think highly of judge Rakoff a point where I'd take issue with him as a financial purist is in his characterizing Rajat's tip-offs as “the functional equivalent of stabbing Goldman in the back.”  Actually, insider "buy" trades do not damage the firm whose shares are traded.  They instead discriminate against outside prospective buyers who are preceded by the inside trader and lose some of the fair chance to be "lucky" before share prices rise.  Of course that still makes insider trading wrong and it is rightly outlawed as it affects the integrity of the markets.]

Rajat continues to maintain he's not guilty as he appeals his conviction and sentencing, and  I continue to root for him.  Back to the Times article it speculates that an unfortunate Rajat was played by a "boorish" Rajaratnam and it reads somewhat like a Shakespearean tragedy.  As the future unfolds I'd like Rajat to have a happier ending.


Avay Shukla said...

Come on, Sandip, you're toosoft on him. Rajat Gupta was no babe in the woods:he'd been astride the financial world for decades and couldn't have been taken for a ride that easily;he knew what he was doing.Tens of millions of investors in the stock markets rely on its integrity and fair play and if that's compromised by insiders it destroys their confidence, and that can be the beginning of a financial disaster for not only individuals but for the basic structure of society as we know it.The " Indian culture" with which you seek to exonerate Rajat Gupta cannot be an alibi and should certainly not be emulated elsewhere: it plays havoc with our own share markets everyday! Remember, the higher you are, the higher should your standards of probity be.

Sandip Madan said...

Avay, you're too hard on him by holding him to your own standards. In the IAS you were the most stubbornly honest, maddeningly upright and totally inflexible person I knew when it came to "helping" friends asking for "special" favors. And okay, you're brilliant and lovable too - why else are you one of my closest friends?

But I know hardly any others who are a 100% impeccable. So to twist an Occupy Wall Street term, I also sympathize with the 99% (good and honest) - and place Rajat in that category.

Aings said...

Good men sometimes do bad things, just like how smart men sometimes do dumb things, for whatever reason. I respect your judgment of Rajat as a good man Sandip, but he still broke the rules and to say he did it because he was bullied or because of some notion of "Indian Culture" is at best a somewhat offensive and lame excuse. In a similar situation, I know you would not have acted the same way. In fact, I would argue, RajatG's crime (a violation of the trust placed in him) was morally worse than RajR's who did not betray the trust of his friends, employers or investors (he did betray the trust the market/SEC placed in him).

That being said, I think insider trading should just be made legal -- we should not be trusting big fund managers to play by the rules. The ban is there, it is claimed, to protect the small investor. But the game is rigged in favor of the big guys anyway, so might as well be up front about it. I would in fact argue this will make the market more efficient. True, small companies will be affected since they will only be able to attract a smaller set of investors -- with the resources to obtain and analyze information. But that is the way it should be.

Sandip Madan said...

Good points, Aings. As I wrote in the post, insider trading does not damage the firm involved (Goldman in this case) so it's not a matter of betraying the trust of that firm. It instead hurts the naïve investors who may have bought the stocks at the original price before (in this case) the good news became public and stock prices rose. So inside traders beat the naïve investors to the punch and take away from their chance to be lucky in a level playing field. Of course, this fact still makes insider trading a bad thing as it damages the integrity of the market.

Making insider trading "legal" (i.e., not an offence) will make a situation a lot worse - as in India where the laws on paper are almost completely ignored. About relative wrong-doing, remember that typical hedge fund managers like RR or SAC collect tips from legions of folks and do orders of magnitude more damage than their occasional tipsters.

Aings said...

OK, here's a naive question: what is wrong with the system in India? I get it that enforcement is not there and insider deals are rampant. But assume for a moment this is because insider trading is legal. What downside does the indian market see due to that? Reduced access to capital because small/honest investors are scared off? How much reduced is it?

Sandip Madan said...

When insider deals are rampant, the regular outside investor has the dice loaded against him, so it is not as much in his interest to invest. So the capital market is less efficient, and the cost of capital is higher. Other things being equal the businesses collectively needing capital cannot realize their full potential, hence reducing economic growth.

Aings said...

Would you agree insider trades are a short term play? The long term 'outside investor' is not affected as much, if at all. (I think there should still be the same disclosure laws we have now to promote long term openness -- something possibly lacking in India). We've heard a lot recently about how this is "good capital" as opposed to the short term speculators' "bad capital". I will grant that losing the short term investors may increase the cost of capital somewhat, but that is probably the correct valuation of the capital being put up.

Sandip Madan said...

Hmmm. How did I get into this role reversal of explaining why inside trading is bad, instead of describing the special circumstances that make me sympathize with Rajat?

To your astute observation, yes, the cost imposed by insider trading that makes regular investors sell lower and buy higher is mitigated when stocks are held for longer periods. "Buy and hold" strategies average out the loss over a long period of time. Still, from a fairness perspective in addition to overall economic arguments the government and regulators try to level the playing field with no insider advantage.

No Consensus Here said...

Here is a piece I wrote on Rajat Gupta which mentions you and this post of yours. I'd thought you might like to see it.

No Consensus Here said...

OOPs...forgot to post the url

Here is the piece on Rajat Gupta which mentions you and your blog

Sandip Madan said...

Interesting. Thank you for drawing attention to your blogged comments.