Several Thoughts about the Largest Insider Trading Case in History

by Brooks Pierce

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The SEC and Justice Department filed a massive insider trading case in the Southern District of New York yesterday. The actual defendants include University of Michigan neurology professor Sidney Gilman, hedge fund advisory firm CR Intrinsic Investors LLC, and Matthew Martoma, a portfolio manager at CR Intrinsic between 2006 and 2010. According to the Wall Street Journal and their “people close to the investigation,” the SEC’s complaint uses code (“Portfolio Manager A”, specifically) for another player in the story: hedge fund giant Steven Cohen, the founder of SAC Capital Advisors.

First with a brief summary of the facts. The SEC and DOJ claim that between 2006 and 2008, Martoma cultivated Gilman as a source of inside information about a potential drug to treat Alzheimer’s disease called bapineuzamab (“bapi”). Gilman had been selected by Elan Corporation and Wyeth to chair the Safety Monitoring Committee (the “SMC”) overseeing bapi’s clinical trial. Martoma found Gilman through an unnamed expert network, and while their discussions were ostensibly about medical information more generally, in fact they were geared toward funneling material, nonpublic information about bapi Gilman learned in his role as chair of the SMC. According to the SEC’s complaint, Gilman came to view Martoma as a friend and pupil, but they coordinated their conversations around scheduled SMC meetings so there would be “more to discuss.” Throughout this period, CR Intrinsic and an affiliated fund known so far as Investment Adviser A accumulated massive positions in Elan and Wyeth.

On June 17, 2008,  Elan and Wyeth released top-line results of bapi’s Phase II trial. The market reacted positively to the June 17 announcement; the next day, Elan’s and Wyeth’s stock prices rose more than 10% and 4%, respectively. But investors wanted to know more. As one analyst put it, the “[p]resentation of more complete data at [a scheduled conference on Alzheimer’s disease] at the end of July will be a much anticipated event. . . .” At this point, discussions between Gilman and Martoma accelerated. In the middle of July, the two spoke almost daily, with their conversations culminating in a call lasting an hour and 45 minutes on July 17th. On the morning of Sunday, July 20th, Martomo called Portfolio Manager A to tell A that he was no longer “comfortable” with the Elan Investments held by the CR Intrinsic and Investment Adviser A portfolios. This conversation began a cascade of sales as the two advisory firms unloaded their long Elan and Wyeth positions. When there weren’t any more to sell, the firms took short positions in the two companies. On July 29th, Elan and Wyeth issued a press release summarizing the results of the Phase II trial. The next day, Elan’s share price fell nearly 42%, while Wyeth’s dropped almost 12%. The government claims that CR Intrinsic and Investment Adviser A reaped profits and avoided losses of over $276 million from their early access to Gilman’s information.

As you might imagine, I have some thoughts.


First: $276 million. Madre de Dios. If this case turns out to be Portfolio Manager A’s downfall, he certainly went out in a blaze of glory. Many hedge fund trades are difficult to isolate (and prosecute) because they are easily masked by hedging positions that make illicit trades potentially attributable to other motives. But these trades were so large they could hardly be masked by anything. Second, as big as it is, the case seems to have been brought without the benefit off electronic wiretaps or other recorded conversations. Martoma was arrested yesterday and is so far contesting the charges. He will apparently have Gilman testifying against him if he proceeds to trial. Third, I don’t see how Portfolio Manager A escapes charges for the conduct described here. I might be wrong about this, but Mr. A seems to be in a vice, as Dealbreaker hilariously noted yesterday afternoon.

Expert Networks

The unnamed expert network firm in this case is in a quite unfortunate position. The SEC’s complaint notes that the network trained Gilman on federal prohibitions against insider trading and specifically mentioned bapi as a subject that Gilman was not allowed to discuss. Because bapi was off the table as a legitimate topic, Martoma and Gilman took steps to conceal their conversation subjects from the firm. For example, in advance of a consultation that Gilman’s personal calendar noted was regarding bapi side effects, Gilman asked Martoma to tell the expert network firm their next meeting was to discuss a drug to treat Parkinson’s disease.   I have mentioned it in this space before, but expert networks are not inherently “bad” entities. Gilman would have been free to discuss a drug to treat Parkinson’s disease, and if his scientific insights had been particularly valuable, he might even have gotten paid for them. But Gilman wasn’t getting paid for science here. He was getting paid to be a conduit for material, nonpublic information.

Sidney Gilman

Speaking of Gilman, he was paid $1,000 an hour in his work for the expert network firm. He eventually received more than $100,000 for his consultations with Martoma and others at the hedge fund advisory firms. Elan also paid him roughly $79,000 for his consultations concerning bapi in 2007 and 2008. He has agreed to pay $234,000 in disgorgement and prejudgment interest and an undetermined penalty, but has escaped with a non-prosecution agreement on the criminal side. Gilman is 80 years old and nearing the end of his career at the University of Michigan. A university hospital spokesman declined to comment on the case, but I would be surprised if he survives as a professor at the university. It is an unfortunate way to end what seems likely to have been a distinguished medical career.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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