Some people have mistakenly assumed that Goldman Sachs’ recent $22 million settlement with the SEC involved insider trading. However, the SEC did not allege that any individual in this case committed insider trading. Rather, it was the alleged risk that was created by weekly “huddles” within the firm that the SEC targeted.
According to the SEC, from 2006-2011, the firm’s stock research analysts met in so-called “huddles” to provide their top short-term trading ideas to firm traders and also passed them on to a select group of top clients. The SEC claimed that the programs which encouraged these practices created a risk that analysts could share material, nonpublic information about upcoming changes to their published research with clients and the firm’s traders, who engaged in frequent, high volume trading. However, these alleged violations fell within Section 15(g) of the Exchange Act (formerly Section 15(f)), and not Section 10(b) of the Exchange Act, which is the standard section under which insider trading and other securities fraud are charged. Further, the $22 million settlement did not involve disgorgement of ill-begotten gains, as typically found in insider trading cases, but was a civil penalty payable to both FINRA and the SEC. This does not mean that the charges are any less severe than those of securities fraud, but it is important to note that there is a difference between the charges against Goldman Sachs and charges of insider trading.
The most important part of this settlement is how it will affect Goldman Sachs and other firms – it would not be surprising if other financial institutions have employed similar practices currently or in the past. While the amount of the settlement may seem high to many (in reality, for a firm like Goldman, the amount has been called “a drop in the bucket”), the most significant issue is the changes to Goldman’s policies and procedures in order to prevent misuse of material, nonpublic information. The flaws the SEC highlighted within Goldman’s policies and procedures during the time in question were:
- Goldman’s policies and procedures did not define what constituted a “short term” idea that could be discussed at “huddles” without broad dissemination to all of the firm’s clients.
- Goldman’s policies and procedures did not restrict analysts from proposing a trading idea for a specific stock during a huddle when the analyst had already begun drafting a report to change the rating on that stock or had already contacted Goldman’s GIR Americas Investment Review Committee, which had to approve changes to ratings and the Conviction List (a focused list of Goldman’s best trading ideas).
- Goldman also failed to enforce its existing policies and lacked adequate controls to monitor the huddle program for the misuse of the firm’s material, nonpublic research information. Compliance didn’t attend hundreds of huddles.
- Goldman had no process in place to identify the hundreds of instances when an analyst discussed a stock at a huddle and then changed the rating within days of the huddle.
- Goldman did not review such incidents to determine whether the analyst had prematurely disclosed a rating change during the huddle.
- Goldman’s surveillance of research changes also was deficient in several material aspects.
- Goldman surveillance analysts had no information concerning the matters that were discussed at huddles when they investigated suspicious trading.
Now, Goldman must revamp its current policies and procedures to ensure that the SEC’s concerns above are addressed. All firms should pay careful attention to their current policies and procedures to see how they treat the interactions (if any) between their analysts and traders or the firm’s clients. More importantly, even if the firm has policies and procedures which address the above issues, it is important to ensure that they are actually implemented and that compliance departments follow up and keep track of whether the policies are being enforced.
View the SEC’s Press Release here.