For many kids at Christmas, if their parents had a good year in the stock market, those materialistic little monsters will have plenty of Playstation games and Frozen dolls to play with this year. However, if their parents had too good a year in the stock market, the parents' portfolio will invite regulatory scrutiny that could turn Christmas from a time of happy anticipation to one of dread and fear. They will not know it's Christmas time at all.
Just ask Mitchell Finkelstein, Paul Azeff and the others accused by the Ontario Securities Commission of illegal insider trading, as they will likely spend the holiday season waiting for OSC Commissioner Alan Lenczner and the panel hearing the case to render one of the most important insider trading decisions in Canadian history.
So, given that closing arguments finished this week, now would be a good time to take stock of the case – and the state of insider trading law in general - and highlight some things to look for when the decision is released in the New Year.
The facts of the case have been well covered by Jeff Gray and Janet McFarland, but the essence of the claim is that former Mr. Finkelstein, a former securities lawyer, illegally tipped his friend and investment adviser Paul Azeff by giving him confidential information about pending M&A transactions. Mr. Azeff then himself allegedly traded on the information and told a bunch of other people the information who then traded on the information, creating a long, ungainly chain of liability.
Mr. Finkelstein denies the allegations, none of which have yet been proven in court or in the OSC's proceedings.
The first thing to watch is how the panel treats the OSC Staff's circumstantial case. In Canada, insider trading cases are very difficult to prove because regulators must rely on circumstantial evidence – a meeting here, a large trade there – as they have traditionally been unable to use techniques such as wiretaps that are usually reserved for criminal prosecutions. In this case, the defense has done a good job at picking away at the inferences the panel is being asked to make in the absences of 'smoking gun' evidence. In response, the OSC Staff is asking the panel to take a broader look – sure, each fact and each inference may be subject to questions, but, taken together, there's only one credible story, they argue, and that's illegal insider trading. It's a pointillist theory of liability – like a Georges Seurat painting, up close it may look like random dots, but from a distance, it's clearly a dude with a moustache. In short, will the panel be convinced that the inferences he is being asked to make are too large to sustain a bigger picture?
This dovetails with another big question: What is the standard of proof in insider trading? In theory, the standard of proof is "whether the alleged events are more likely than not to have occurred… based on clear, convincing and cogent evidence," as opposed to the criminal standard of proof, which is the stronger and more well-known "beyond a reasonable doubt." In practice, this summer's Alberta Court of Appeals decision in Walton v. Alberta (Securities Commission) seemed to suggest that the standard of proof in securities proceedings is something higher than "more likely than not." The Alberta Securities Commission has applied for leave to appeal this decision to the Supreme Court of Canada.
My read (which has the reliability of a Stanley Cup prediction by Leafs fans in September), is that, although the OSC's Staff's case does not meet a criminal standard of "beyond a reasonable doubt" (nor do they have to, in this instance), they have made out a "more likely than not" case – the coincidences are simply too frequent and too many. Whether they have met the intermediate standard that the ACA articulated is an utter mystery. So, will the panel apply a lower or higher standard in this case? And, if they apply a lower standard, will the put further pressure on the Supreme Court to grant leave in order to reconcile the split?
Finally, this decision comes on the heels of the U.S. Court of Appeals for the Second Circuit's recent blockbuster insider trading decision. U.S. insider trading law differs from Canadian law in a number of ways, but perhaps the most important is that it requires that the tipper (the person giving the tip) receive some "benefit" from the tippee (the person getting the tip) in order for there to be illegal insider trading. Traditionally, that benefit could have been something small and intangible – like, seriously, a better friendship – but the Second Circuit seems to think that such intangible benefits aren't enough to support a conviction.
In Canada, liability for tipping doesn't hinge on receiving a benefit; our securities regulation prohibits tipping, benefit or not, full stop. But that doesn't mean that benefits are irrelevant.
Mr. Finkelstein's lawyers have persuasively argued that supposed cash payments constituting something like 5 per cent of Mr. Finkelstein's post-tax income weren't large enough to induce Mr. Finkelstein to tip Mr. Azeff. To paraphrase The Weeknd, the money is not the motive. But I don't know, Mr. Finkelstein is an eccentric guy: the kind of zombie-apocalypse-fearing person who keeps up to $30,000 around the house in metal tins. So maybe he wants the extra money, or maybe improving his friendship with Mr. Azeff is enough to motivate him to trade. Such a "general motive" like friendship is weaker than a more specific motive like money. But remember, in Canada, a benefit isn't required for illegality – though it does help with the circumstantial inferences – only that the illegality was "more likely than not." So if Mr. Finkelstein gets off, will it inch Canadian law closer to the American standard by making a "benefit" a more critical element of a tipping claim?
This is a massive case for all involved – for the defendants, obviously, but also for Canada's securities commissions, who have had a number of recent high profile failed insider trading prosecutions. In other words, there are going to be some restless sleeps this holiday season, because Mr. Lenczner-Claus has one present to give and one lump of coal. He has his list, and I'm sure he going to check it more than twice.