That, of course, gets us to what the Indian securities regulator has often asked forthe power to request phone taps of suspects. Insider trading is the breach of an insiders duty to his company by trading on unpublished price-sensitive information. Insider trading thus arises out of an insiders breach of his fiduciary duty to the shareholders of the company, whose interest he is duty bound to put ahead of his own interest. The classic insider trading has steadily been expanded to not only include many confidants of a company like lawyers and consultants, or anyone expected to have access to insider information, but also to a whole host of even outsider trading.
The width of the law is, however, counterbalanced by the difficulty in proving it. In fact, part of the reason why the law is now overly broad is because so few people are caught for this crime that lawmakers think the defect is with the law, which they opine should be made even broader. There are major problems in proving insider trading anywhere in the world. Tips are passed on inside closed doors or through various communication channels like emails, messenger software or phone conversations. If there is inside information that is misused, it is clearly in the interest of both partiesthe giver of the information and the recipientto keep this fact a secret. For either person to disclose the conversation would land both in jail. If the two persons are sitting inside a room, there would be no other way of directly proving the illegal sharing of information. There may be an indirect way though. If A, the insider, tips information to B, and B buys millions of shares of the company, any association between A and B may provide circumstantial evidence of the communication, even if the actual sharing of information cannot be proven, i.e., the date, time and details of the communication. This would stand on shaky ground from an evidentiary perspective as both would claim that they had not met or communicated anytime after the tipper had access to inside information.
There are only two ways around this high evidentiary burden. One is to intercept the message or the fact of the message. The second is to cut a deal with one of the two persons, letting that person away lightly. Regarding the first, the most direct evidence would be intercepting the message itself, whether by way of a phone tap or getting a copy of the email exchanged. This was what was done in many of the Rajaratnam cases, and the court and jury there convicted Rajaratnam on all counts, based significantly on hearing the conversations where tips were passed. A variation may also suffice, but is not as sound as a direct recording, if the fact of a conversation is available. For instance, if an insider comes out of a board meeting and makes a phone call to a person (no one knows what the conversation was) and that person trades a large number of shares immediately thereafter, it could be fairly strong circumstantial evidence that the trade occurred based on insider information. In fact, Sebi has used phone records, as opposed to phone recordings, for its investigations in cases involving securities fraud.
The second category of cases, where one guilty person is played against the other, works in the US but not in India. The American criminal justice system commonly uses tactics by prosecutors to play one person against another and this too was used to good effect in the Rajaratnam case. In fact, a vast majority of the 35 convictions in the Rajaratnam series of cases were based on guilty pleas and promises of lighter punishment in exchange of acting as witnesses against the main culprit. India, in theory, does have a system of plea bargaining, but for many reasons this is not used by prosecutors.
There is thus a case for Sebi to seek the power to authorise phone taps, but the power must be given with great circumspection, should be used in only the most rare circumstances and with a court-approved order rather than a government-approved tap (as happens currently). If the power is unfettered, there is a possibility that Sebi would use the power frequently and thus violate citizens right to privacy without adequate public interest. This requires legislative changes by Parliament and is an issue that must be vigorously debated before it is implemented.
The author is founder, Finsec Law Advisors