Wednesday, April 17, 2013

This Little Miss Piggy Went to Efficient Market Hypothesis

When Martha Stewart got busted for insider trading, people were shocked, simply shocked that the squeaky-clean housemarm could have so egregiously violated the public's trust by handcrafting the filthy lucre  of cookie-jar-nabbing securities exchange. How appalling that such a trusted figure could so brazenly swap confidential knowledge for a few dollars more.

I was worried about you - all alone,
with so many problems to solve
Is insider trading non-euvoluntary?

Trick question. It depends on the institutions. In some sense, indeed, a rather obvious sense, stock market exchanges are not merely euvoluntary, but a necessary element for firms to raise money for big ol' projects that would otherwise be prohibitively expensive. Secondary markets, where it's paper-for-paper produce a deluge of incredibly useful public information about the health of firms, information that when muzzled pumps confusion and uncertainty into capital allocation decisions as surely as The Man With No Name pumps hot lead into the backs of fleeing goons. In another sense, part of the weft and weave of Wall Street is zero-sum. The caricature of the "speculator" is one of a conniving pinstriped grease shark who, when not swilling cognac and chomping on a cartoonishly expensive Cuban cigar, is busy "manipulating the market" (whatever that means) for his own selfish ends. Every dollar that ends up in one pocket came from another. It's worth pondering if these exchanges necessarily generate anything of value.

Hence the institutions. In a world where trading on insider information is strictly forbidden, stock prices (and the prices thence derived) reflect all publicly available information and so long as folks don't break the rules, there are no arbitrage opportunities. In a world where insider trading is permitted, stock prices reflect all information public and private and there are no arbitrage opportunities at all (there's an immense literature on this, consult any decent Intro to Finance texbook for more details). Either institutional form one can be meta-euvoluntary, but only one allows supernumerary cash flows into the pockets of folks expressly exempt from the general, impersonal, blind Rule of Law.

Submitted for your consideration, S.716 CPS, a modification to the STOCK Act of 2012, passed on the 11th of April, 2013, signed into law on the 15th:
(a) Public, Online Disclosure of Financial Disclosure Forms-
(1) IN GENERAL- Except with respect to financial disclosure forms filed by officers and employees referred to in paragraph (2), section 8(a) and section 11(a) of the STOCK Act (5 U.S.C. App. 105 note) shall not be effective.
(2) EXEMPTED OFFICERS AND EMPLOYEES- The officer and employees referred to in paragraph (1) are the following:
(A) The President.
(B) The Vice President.
(C) Any Member of Congress.
(D) Any candidate for Congress.
(E) Any officer occupying a position listed in section 5312 or section 5313 of title 5, United States Code, having been nominated by the President and confirmed by the Senate to that position.
(3) CONFORMING AMENDMENT- Section 1 of the Act entitled `An Act to change the effective date for the internet publication of certain information to prevent harm to the national security or endangering the military officers and civilian employees to whom the publication requirement applies, and for other purposes' is repealed.
Get that, folks? Insider trading is sufficiently non-euvoluntary that we must prevent it...

... unless you just happen to hold high elected office.


h/t to the GTM at KPC for the bill and the idea

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Do you have suggestions on where we could find more examples of this phenomenon?