Insider Trading is Illegal

Would you invest in the stock of publicly traded companies if you knew that every time insiders became aware of market-moving information they would first trade on it themselves, then share it with their quid-pro-quo "friends" who would then also proceed to trade on it, and only then release the information publicly?  Sure, by the time you sold (assuming it's bad news) your stock could well be very accurately priced--but how much consolation is that?  And even if a bunch of really smart people could present you with some nifty arguments about how you're actually not hurt (heck, you're actually better off) by allowing this sort of activity--are you really rushing off to pay to play this sort of game?  How much of a discount is sufficient to make this sort of playing field level for you?

Let's assume that insider trading remains illegal despite all the protestations to the contrary because a great bulk of investors don't like it and the regulators have this silly thing about maintaining confidence in the stock market.  Lynn Stout suggests that there may be something about hedge funds that uniquely sets them up to cultivate criminals in this area.  Specifically, she notes: (1) the top-down emphasis on returns uber alles; (2) the influence of the "weeded garden" that remains after all those who can't keep up with the cheaters' returns are let go; and, (3) full digestion of the enabling message that insider trading doesn't hurt anyone.  Geoffrey Manne responds by opining that this all adds up to nothing more than generic agency costs and human behavior.  But I think Stout may be on to something because "size matters"--that is to say, while the levers at work may be generic the force with which they are being manipulated may well be unusual in the hedge fund context.

None of which is to say that I don't remain open to being convinced that holding insider trading to be illegal results in a net loss to society--I just haven't been convinced yet.

SJP