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Business and Markets

Insider Trading at the FDA

Ah, insider trading. It’s the province of Wall Street types in really expensive shirts, right? Like in the movies? Well, read on.
Even the most clueless know that you’re not supposed to trade on material nonpublic information, and the only really fuzzy part is what constitutes material information. A lawyer once told me that if you’re an employee of a company, material information is “anything that makes you think about trading the stock”. That’s a pretty intelligent rule, and one that the recent Matrixx Supreme Court decision would seem to have reaffirmed. If someone could think it’s nonpublic material information, odds are that it is.
In the drug business, the hottest potatoes in this category are the results of clinical trials and FDA decisions. People (a very short, well-defined, and well-paperworked list of people) inside a given company know the first news before anyone else, and people inside the FDA get to hear about the second. And there is no way that you can act on such information legally before it’s released. Those tempted to try realize that, of course, and act accordingly.
They do, in fact, what Cheng Li Yiang (a chemist, regrettably) and his son Andrew Liang were accused yesterday of doing since 2006: they used the accounts of at least least seven other people to trade on knowledge of FDA approval decisions, pulling in over three million dollars in the process. The single biggest winner (over $1 million) appears to have been front-running the surprise approval of Vanda Pharmaceutical’s Fanapt in 2009. It wouldn’t surprise me if this was the one that blew up the whole business. That was such an unexpected move by the FDA (after which the stock went up by a factor of six) that the SEC must have gone back and carefully checked to see if anyone had been building up a position beforehand.
Liang got in on most of the big percentage moves of the last few years: Mannkind, Momenta, Pharmacyclics and many others, all small companies whose stocks saw some major action in both directions. If you want more details, here’s the SEC complaint (PDF). It’s a blueprint for getting caught, I should add. The various friend-and-family brokerage accounts mostly listed Liang’s phone numbers as contact information, and almost always transferred money to an account held by Liang and his wife. The trading was done (one account right after the other) from IP addresses associated with his home account or voice lines billed to his name – this for accounts like the one ostensibly held by his 84-year-old mother back in China. Honestly, ten minutes after the SEC got suspicious about this guy and started checking him out, they must have known that they had him by the valuable body parts. It was really just a matter of time – well, time and greed.
Interestingly, Liang worked for the FDA for ten years before he seems to have decided to cash in. It would be interesting to know what went on, but my guess is that it’s a familiar story. I think that he watched these decisions being made, watched the stocks jump around, thought about the profits to be made, and didn’t act on those desires. Until one day he finally did – and nothing happened. So he probably told himself that he got away with it that time, and really shouldn’t do that again for fear of getting caught – until he did it again, and didn’t get caught. By this time, from the accounts you read of people in such situations, the hook is well and truly set. There may be a few people who are philosophical enough to take a set amount of money and walk away, but I’ll bet that they’re mighty scarce compared to the number of people who can’t keep themselves from riding the train until, to their surprise, it suddenly pulls into a station.

25 comments on “Insider Trading at the FDA”

  1. Chemjobber says:

    “There is a way that appears to be right, but in the end it leads to death.”

  2. Ed says:

    They should have done it from the UK with a few spreadbetting accounts. All they’d have needed is a UK address and bank account to set themselves up, which is easy enough.
    They’d have made a lot more than $3m (it’s a highly leveraged way of trading), and its unlikely they’d have been caught. As its considered gambling, profits are tax free too, so no pesky government oversight.

  3. Mark says:

    Even if you don’t get caught the first times and then stop, would you really want to live with that over your head? All it would take is a bored SEC agent and a couple computer clicks to send you to jail.
    It never makes sense to commit crimes that leave a permanent trail.

  4. Dick Tracy says:

    All crimes leave a permanent trail. Some are just more permanent that others.

  5. Fishy Fish says:

    Derek is probably correct. The $1M haul is the one that did him in. In stock market, slow and steady win the race. If the guy is raking 10-20K each time and doing a dozen or so these “small” trades a year, he would probably not get caught. “Greed is good”, but also deadly.

  6. Alvarez says:

    One minor quibble: it’s not enough for the information to be material and non-public to be insider trading. The information must also be obtained through a violation of a duty. So, in this case, he had a duty to his employer which he violated by using the information as claimed. It seems a minor point, but it is an essential component of all insider trading claims (with the exception of those involving tender offers, which are a special case and held to a higher standard).
    When would this not be the case? A classic example is overhearing something in a public elevator. You have no duty to the person speaking, and the person speaking did not knowingly violate any duty. Assuming you are just some random person who happened to be on that elevator, you can legally trade on what you hear.

  7. Hap says:

    If there’s a not-very-big group of people that can know material information, then it seems obvious that the SEC (and maybe other people as well) are going to be looking intently at those people to see if they do anything unusual. Even with small transactions, they might eventually get around to looking at FDA people (and I would be surprised, perhaps, if they hadn’t looked before, though the SEC doesn’t have infinite resources).
    I guess I figure that eventually the SEC might had come around to Liang anyway. Also, if you’re going to live with the guilt/fear of being found out from insider trading, and you don’t get caught, your desire for trading gains might increase as your perceived risk falls and your discomfort rises (you have to make more and more money to be worth your discomfort and risk). People drive to a level of perceived risk, and perhaps they commit crimes that way, too.

  8. Fishy Fish says:

    All great traders and investors are super-disciplined. Whether you are a professional investor or not, you have to leave emotions out of investing. If you let emotions get in the way, you will most likely get burned sooner or later. Cooler heads will always prevail.

  9. Mark says:

    The SEC is REALLY cracking down on this sort of thing and going well beyond what most would consider insider information.
    “According to the complaint, the two employees learned about the impending acquisition of FECI through on-the-job observations, including the unusual number of tours of FECR’s Hialeah Yard by people dressed in business suits, and a trip by Fortress representatives in a special rail car reserved for visitors. In addition, other rail employees began expressing concern that FECI could be sold and their jobs could be at stake.
    The SEC alleged that in the weeks preceding the acquisition, Griffiths and Steffes tipped family members. Collectively, the family bought more than $1.6 million worth of FECI stock and call options, and sold their purchases on the same day that the acquisition was announced. The news caused FECI’s stock to rise 15 percent above the previous day’s trading price, the SEC said.”

  10. gwern says:

    Fishy Fish: I wonder if he *could* make as many as 10 insider trades a year. How many drug trials’ information did he have access to? I would expect the data to be compartmentalized at least a little.

  11. You're Pfizered says:

    The good news is that there’s an opening at the FDA for a chemist. Where’s ChemJobber? 😉

  12. johnnyboy says:

    @10: the list of his trades is provided on the Nature blog (
    Starting from 2006, he did between 3 and 10 trades a year. What’s interesting is the growth of the sums involved over the years. If he’d kept it to 10-20K profits per transaction, my guess is he would have stayed under the radar for a long time.

  13. TJ says:

    “All it would take is a bored SEC agent and a couple computer clicks to send you to jail.”
    I think bored SEC agents are too busy using their computer clicks on ladyboy porn. Not a bet I’d be willing to take, but the SEC has been notoriously slack in enforcement until December ’10

  14. Chemjobber says:

    @YP: Touche!
    At the same time, it’s not like there isn’t a waiting list for bench folks to work there. I try not to report on the line outside of Geno’s Steaks, either. 🙂

  15. Vader says:

    There is a cold economic case to be made against prohibiting inside trading. It goes like this: Nothing is more likely to make private information public than trading on that private information, both because word gets around, and because the very fact you’re trying to dump your stock drives the price down, which signals the market that something has made that company less valuable.
    Having this information become public is usually a good thing.
    The catch is that the insider who does the market this favor does so at the expense of the first few buyers, who haven’t yet gotten the word. And it is our human nature that we so hate this we’re willing to cut off our nose to spite our faces to avoid it.

  16. hypnos says:

    It would be interesting to know if a small group of people within the FDA (or other regulatory bodies) could try to influence decisions (e.g., in borderline cases, weak candidates, etc.) in a certain direction insteas of only using passive knowledge.

  17. GreedyCynicalSelfIntrested says:

    The more insider trading, the more efficient the market. The game is all rigged anyway, so let’s not deceive the public by prohibiting insider trading.

  18. Sili says:

    Interestingly, Liang worked for the FDA for ten years before he seems to have decided to cash in. It would be interesting to know what went on, but my guess is that it’s a familiar story.

    Passed over for promotion? Not paid enough? General disgruntledness?

  19. Hap says:

    1) I don’t know that insider trading would require general feelings of anger at the FDA – he might have figured he wasn’t hurting them by doing it, and he could make some extra money. There is never really a “paid enough” level for some people – some people, even with lots of money, are willing to do questionable things to enlarge their piles further.
    I don’t think the way ever appeared to be right – but it’s easy to be misled by we want, and hard sometimes to walk away when we find it wrong.
    2) I don’t really see how legalizing insider trading makes the market more efficient – if people trade on it, you don’t know why they are doing so, and not knowing the reason makes a lot of difference between those in the know and those (most of us) not. Having the markets be a private club for the benefit of a few makes it less likely to attract money, and negates its purpose.
    It would also make the market easier to game – without restrictions on closed information, a person with not all that much resources could sink a stock by selling, and in the absence of positive info, people would have to assume he knows something and act accordingly.
    If the stock market’s job is to aggregate money for the powerful and insiders, then legalizing insider trading would help. If it is already, then it doesn’t need the help to become so.

  20. Anonymouw says:

    I was taught that the market depends on appearance of fairness. However, any differential advantage over market averages depends on having some insight that the “median market” lacks. Said insights can come from greater study or smarts – at least in the past.
    Beyond insider trading, the information tech revolution seemed initially to level the information field for the common investor. In fact, nothing is farther from the truth. Tech that is beyond the average investor is being applied through high speed trading taking advantage of slight imbalances that were formerly unnoticed, let alone leveragable. Hedge funds routinely build out tech that “out-thinks” the median investor and picks his pocket.
    One note from last fall was that tools to quickly assess “tweets” (millions of them in a day), was a viable predictor of short-term market shifts. I bet that academic had hedge fund offers the next day. Past tech tools that still might be useful are scanning satellite photos of parking lots to see if limos were pulling up frequently at acquisition targets (“old tech” I read about in the 1990’s.)
    So, the SEC definition of insider trading is nice & easy to ID and prosecute, but the grey line is 100x what it was a decade ago. Can anyone that uses old-style “due-diligence” really even keep up – let alone win? No wonder we will be seeing more and more scams.

  21. Fishy Fish says:

    @17, I have to agree with you that the game is somewhat rigged. I am quite certain that there is a good amount of institutional inside trading going on. But things tend to even out in the long run. So for individual investor (small fish), the only chance of winning in the rigged game is to follow Warren Buffet’s methodology – find quality companies at right time (e.g., in late ’08 and early ’09), buy-and-hold. You can certainly go in and out some sectors based on long term macro events. But day (short-term) trading for the small fish is sure loser’s game.

  22. Curt F. says:

    Vader, I have heard the arguments that e.g. company CEOs should be able to insider trade their own company’s shares before. Yes yes, we’ll all find out faster what the CEO really thinks about the company’s prospects.
    But surely government workers must be held to a different standard. FDA workers make decisions that bind not just other FDA workers, but all Americans. In theory these decisions maximize American public welfare. Government workers must have as their main employment incentive the advancement of the public welfare.

  23. Vader says:

    Anon #20,
    There are lots of stories in the oil industry about investors hiring P.I.s to stake out the homes of petroleum engineers, looking for clues that an exploratory well has hit oil. I wouldn’t be surprised if similar things happen in other industries.
    Curt F.
    Agreed. Governments operate on trust in a way private industry does not. What’s merely sharp dealing in the private business sector is unacceptable conflict of interest, if not downright corruption, when it happens in government.

  24. Jonadab says:

    Yeah, I’d say you about nailed it.
    > Even if you don’t get caught
    > the first times and then stop
    Not one person in ten thousand can do that anyway. A lot of people *think* they could, but the temptation to do it again, after not getting caught once, will in fact drive you right out of your mind. (This is true virtually no matter what “it” is. Any behavior that you know is wrong but want to do anyway qualifies.)
    If you get caught once and then still decide to do it again, you’re a goner. It truly owns you then. The one good thing about insider trading is that getting caught even once has such a negative effect on your ability to get away with it again that it will usually stop you cold in your tracks. If only that were true of more things.
    > Derek is probably correct.
    > The $1M haul is the one that did him in.
    In the direct and immediate sense, probably so; but he had probably reached the point of inevitability before that, and it was only a matter of time until someone noticed. As Derek hints with the fish analogy, getting away with it (or thinking you got away with it, even) creates powerful motivation to go again. Getting away with it repeatedly strokes the ego repeatedly and creates an intoxicating illusion to the effect that you *won’t* get caught. But you will.
    Someone working at a drug company would be somewhat less likely to fall into this trap, but only because they’d have fewer opportunities, working only from the information available within one company. If they were exceptionally lucky, they’d never have a chance to repeat at all. That’s the best way to get away with any crime: never have a chance to do it again.

  25. Jonadab says:

    > What’s interesting is the growth
    > of the sums involved over the years.
    That’s how it works.
    > If he’d kept it to 10-20K profits per
    Theoretically, perhaps, but he couldn’t do that. He was, you see, *getting away with it*, and so of course he had to keep doing more and more, bigger and bolder.

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