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Stocks of scandal

Print edition : Nov 18, 2011 T+T-
RAJ RAJARATNAM LEAVING a federal court in New York after his sentencing on October 13.-JIN LEE/AP

RAJ RAJARATNAM LEAVING a federal court in New York after his sentencing on October 13.-JIN LEE/AP

Two features of the Rajaratnam case deserve attention: whether insider trading merits a long sentence and whether the use of wiretapping is legal.

Few threats to liberty exist which are greater than that posed by the use of eavesdropping devices.

- U.S. Supreme Court in Berger vsNew York (1967)

THE conviction and sentencing by a New York federal judge of the stockbroker Raj Rajaratnam, 54, to 11 years in prison and the imposition of a fine of $10 million for insider trading and allied criminal misconduct does not come as a surprise to many of those who had been following press reports of the evidence brought against him over the past one year. On October 13, he was convicted on 14 counts in all, nine counts on the charge of securities fraud and five counts of conspiracy. Co-defendants Danielle Chiesi and Mark Kurland were, however, let off with the lighter sentences of 30 and 27 months.

The prosecution had charged Rajaratnam with using unlawful methods through which he and his firm, the Galleon Group once one of the world's largest hedge funds made an illegal gain of about $70 million. The moment it became known that wiretapping had been employed by the Federal Bureau of Investigation (FBI) to build its case against Rajaratnam and others, I was more than convinced that there was little prospect of the defence being able to prove their innocence.

There cannot be any evidence that is more incontrovertible and devastating than that from wiretap. This is because there is a limit to the number of interpretations of the picked-up conversations the defence may be able to offer. As Jacob Frenekel, a former lawyer with the Securities and Exchange Commission (SEC) of the United States, said: A defendant's own words are the most powerful tool for the government.

It is the experience of law enforcement agencies the world over that inveterate lawbreakers somehow slip into complacence after years of unchecked wrongdoing and do not think twice before discussing their modus operandi over the telephone with at least some of their close accomplices.

This was the case with Rajaratnam too. A Tamil of Sri Lankan origin who had studied at Dulwich College in the United Kingdom and the Wharton School of Business in the U.S., he was doing extremely well in his risky but highly lucrative profession. After a few years at a small investment bank, he had set up his own hedge fund, Galleon, which he named after the Spanish ships that used to ferry gold and spices from the New World. In course of time, greed and pomp obviously took him over. And recklessness normally flows directly from such qualities. An excerpt from the prosecution statement against Rajaratnam sizes him up vividly: [His] criminal conduct was brazen, arrogant, harmful and pervasive he corrupted old friends subordinates entire markets. Day after day, month after month, year after year, Rajaratnam operated as a billion-dollar force of deception and corruption on Wall Street.

At least two others involved in this unseemly episode are Indians. It is easy to dismiss the Indian link as an aberration of individuals. Such episodes undeniably, however, affect a nation's image, especially in these times of high media attention on such sordid happenings. Ironically, the chief prosecutor in the Rajaratnam case is also of Indian descent. Preet Bharara, the U.S. Attorney for the Southern District of New York, who is also in President Barack Obama's Financial Fraud Enforcement Task Force (FFETF) and serves as a co-chair of the Securities and Commodities Fraud Working Group, did a thorough job in the case. The jury was naturally impressed and returned a unanimous verdict against Rajaratnam.

The FFETF had been set up by the White House to wage an aggressive, coordinated, and proactive effort to investigate and prosecute financial crimes. The Rajaratnam case demonstrated that the task force comprising representatives from a wide range of federal agencies, regulatory authorities, inspectors-general, and State and local law enforcement agencies was effective in sending a stern message to potential white-collar criminals.

Two features of the Rajaratnam case deserve attention. First is the question whether insider trading is a serious enough violation to merit the unusually long sentence awarded to Rajaratnam (11 years is the longest jail term imposed on anybody found guilty of insider training). The defence argued that this was a victimless crime, analogous to suicide, prostitution and the consumption of narcotic drugs. The demand in some Western countries to decriminalise suicide attempts or the consumption of heroin is based on the plea of no external harm.

Victimless crimes'

What was implied, rather ingenuously, by Rajaratnam's defence lawyers was that he may have made money, but he did not rob anybody of his/her possessions. The obvious reference was to cheats like Bernie Madoff, whose Ponzi scheme caused huge losses to individual investors. The defence had also in mind the Enron case, where the deceit of the chief executive officer, Jeffrey Skilling, led to the collapse of a commercial empire, because of which both shareholders and employees were ruined.

Neither the jury nor Judge Richard J. Holwell was impressed with this line of defence. To them this was purely a case of violation of a number of established statutes through questionable methods such as breaching the information structure of a range of organisations. Again, the concept of victimless crime is not one that passes muster with every criminologist. A strict constructionist approach to crime as defined by law will refuse to endorse the plea to ignore the deeds of stockbrokers like Rajaratnam.

The division of crime into two categories one in which there is a victim and another in which harm is remote and there is no identifiable victim triggers a debate mainly on values. The other debate generated by the Rajaratnam case, however, relates to the legality of wiretapping for the purpose of collecting evidence against a suspect. This is less subjective. It also raises the amorphous issue of the privacy rights of individual citizens. Indians are familiar with this and are accustomed to allegations that the executive arm of the state committed excesses in violation of the law that permits selective telephone monitoring with the approval in writing of the Union Home Secretary.

The law in the U.S. is equally emphatic. There are two pieces of legislation that permit listening to telephone conversations: the Federal Wiretap Act (known as Title III) of 1968 and the Foreign Intelligence Surveillance Act (FISA) of 1978. The Patriot Act of 2001 permitted prosecutors to use the FISA to collect evidence in the investigation of crimes involving national security. Until recently, evidence obtained from wiretapping was permitted only in the prosecution of crimes specifically enumerated in the Omnibus Crime Control and Safe Streets Act, 1968, which relate to organised crime involving drug cartels and human traffickers. The Act attempts a balance between the need to preserve citizens' privacy and the exacting needs and demands of criminal investigation.

That wiretapping should be done only after court authorisation and establishing probable cause is no doubt of some sanctity. But extending such authorisation to the investigation of insider trading, as in the Rajaratnam and a few other similar cases reported recently, has been somewhat unusual and has surprised many discerning observers. The logic Judge Holwell used to turn down the defence plea that the use of wiretap evidence was unconstitutional was unique. He said that since wire fraud was an authorised crime under Title III and the government employed wiretaps using inter-State wires, evidence obtained through this method was admissible at the trial.

While he skirted the question whether all insider trading investigations could lawfully use a wiretap, the implication of his ruling is that when a securities fraud is committed by means other than telecommunication, wiretapping is not permissible. In any case, Judge Howell's order should enthuse future investigators to expand their methods of inquiry. The whole issue also gains momentum from Attorney Bharara's statement during an address to the New York City Bar: (when insider traders adopt) the methods of common criminals, such as the use of anonymous cellphones, we have no choice but to treat them as such. To use tough tactics in these circumstances is not being heavy-handed; it is being even-handed.

The immediate temptation in India is to compare the swiftness of the U.S. investigation and trial with that seen in the pursuit of white-collar crime by Indian agencies. It must, however, be admitted that, thanks to the relatively free hand given to the Central Bureau of Investigation, the 2G scam investigation has proceeded fast by Indian standards. It is a moot question whether the indictment of so many influential accused could have been so expeditious without court supervision.

The other question that may be raised by the average Indian is whether the Securities and Exchange Board of India has the equipment and ability to prosecute insider trading with the same speed as the FBI or the SEC of the U.S. These are stray thoughts that reflect popular opinion, which can sometimes be harsh and irrational.