Three criminal defendants - Mr. Lee, Mr. Freeman and Mr. Martoma - have a common denominator: Each had worked for SAC Capital Advisors, the hedge fund owned by Steven A. Cohen, one of the most powerful figures in finance. By posting impressive annual returns averaging 30 percent across two decades, Mr. Cohen, a 56-year-old Long Island native, has amassed a fortune estimated at nearly $9 billion.
Mr. Cohen has not been accused of any wrongdoing and he may never be charged, but he has become a central focus of the government's sprawling investigation into criminal conduct at hedge funds. A picture of the inquiry has emerged from interviews with people involved with the case.
The trail leading to SAC has emerged out of a cluster of cases, many of them connected to the prosecution of the fallen titan Raj Rajaratnam. Investigators heard SAC traders on incriminating wiretaps; in other instances, cooperators and informants accused the fund of misconduct. As the authorities painstakingly pieced together dozens of cases across multiple, overlapping conspiracies, again and again one name kept popping up: Mr. Cohen's SAC.
Investigators have penetrated SAC and other funds by aggressively deploying techniques - wiretaps, cooperators and informants - once reserved for infiltrating the Mafia and narcotics rings. Government lawyers have reviewed millions of pages of documents and taken hundreds of depositions. Securities watchdogs, meanwhile, have developed more sophisticated methods to detect insider trading, which is defined as trading based on material, nonpublic information.
The long-running inquiry has linked six former SAC employees to insider trading while at the fund; three, including Jon Horvath, who has implicated one of Mr. Cohen's top lieutenants, have pleaded guilty. At least six other former employees have been tied to insider trading after leaving SAC. Several more have received subpoenas, people briefed on the case say.
Since 2002, the financial industry's self-regulatory groups have referred about 80 instances of suspicious SAC trading activity to federal authorities for further investigation. In 2007, as the citations piled up, the self-regulatory groups took a more aggressive tone, noting that the hedge fund had been "repeatedly" flagged for suspicious trading. (An SAC spokesman has said that the fund trades in thousands of stocks each day, so given its level of activity it is not surprising that the fund would show up in referrals.)
"Government lawyers go where the facts take them," said H. David Kotz, a former inspector general at the Securities and Exchange Commission now with Berkeley Research, a consulting firm. "With so many disparate strands of the investigation leading to SAC, it makes perfect sense that they would be closely looking at the guy in charge."
And they are looking very closely. A few years ago, the F.B.I. secretly recorded the telephone line at Mr. Cohen's Greenwich, Conn., estate, said two people briefed on the investigation. It is unclear what precipitated the wiretapping and whether any evidence was collected. Federal securities regulators have had previous brushes with SAC in 2003 and Mr. Cohen in 1986, but neither inquiry resulted in any action. Last summer, S.E.C. lawyers deposed him.
Speaking to his roughly 1,000 employees last week, Mr. Cohen expressed confidence that he acted appropriately. In defending the fund, SAC cites its strong culture of compliance and says it is "outraged" and "deeply disturbed" by the conduct of former employees.
But with Mr. Martoma's arrest Nov. 20 - the first case that directly ties Mr. Cohen to questionable trades - the investigation has entered a more serious phase. The S.E.C. warned the fund that it was preparing a civil fraud lawsuit against SAC related to Mr. Martoma's case. A lawyer for Mr. Martoma, Charles A. Stillman, said that he expected his client to be exonerated.
And just as it did in the investigation of Mr. Rajaratnam and in the landmark 1980s prosecutions of the financial giants of that era, Michael R. Milken and Ivan F. Boesky, the government is pursuing lower-level employees and then seeking their cooperation in the hopes of building a case against the boss.
C. B. Lee
Had he made different career choices, Richard Choo-Beng Lee might have been an engineer at Apple or Intel. Instead, armed with a computer science degree and a knack for numbers, Mr. Lee became a star technology analyst on Wall Street.
Known as C. B., Mr. Lee worked in the 1990s at the brokerage firm Needham & Company alongside Mr. Rajaratnam. In 1999, Mr. Lee landed at SAC, where he earned millions working for a team of tech-stock traders. After five years, he left, and in 2008 started his own California-based hedge fund, Spherix Capital.
That same year, a government informant taped incriminating calls with Mr. Rajaratnam, who by then had become a billionaire running the Galleon Group. On the basis of those calls, prosecutors received a judge's approval to wiretap Mr. Rajaratnam's cellphone. They also received permission to eavesdrop on Danielle Chiesi, a close associate of Mr. Rajaratnam. Ms. Chiesi was heard on calls with Mr. Lee passing inside information.
B. J. Kang, an F.B.I. agent, showed up at Mr. Lee's modest San Jose, Calif., home in 2009. After pleading guilty, he closed Spherix Capital and became a cooperator, recording conversations that helped ensnare several defendants.
Securing Mr. Lee's cooperation proved to be a major breakthrough because he helped them better understand SAC's trading practices and culture. As part of Mr. Lee's plea agreement, he agreed to share information about illegal conduct that he saw while working for Mr. Cohen.
He also provided investigators with detailed insights into expert-network firms, a growing business that connected traders with sources at publicly traded companies. Mr. Lee said SAC and other funds aggressively used these matchmaking firms, some of which were cesspools of inside information.
A few months after Mr. Lee "flipped," the F.B.I. directed him to try to get rehired by SAC, said a person briefed on the case. Mr. Cohen entertained his request but ultimately rebuffed him, leery that Mr. Lee had abruptly closed his fund, this person said.
Jeffrey Bornstein, a lawyer for Mr. Lee, 56, said that his client continues to cooperate with the government.
When Noah Freeman graduated from Harvard in 1999, the stock market was roaring. After a stint in management consulting, Mr. Freeman tried his hand at hedge funds. He started at Brookside Capital, a unit of Bain Capital.
Mr. Freeman joined SAC in 2008, lured by a two-year, $2 million-a-year guarantee. The fund gave him several hundred millions of dollars to manage.
Mr. Freeman routinely shared his best ideas with Mr. Cohen. Unlike hedge funds with one manager making investment decisions, SAC has about 140 teams - each controlling several hundred millions of dollars. The teams give their "high conviction ideas" to Mr. Cohen, who directly manages only about 10 percent of the fund. SAC compensates employees based on a percentage of the winnings they generate for the fund, as well as on profits they make for Mr. Cohen's portfolio.
An accomplished speed skater and triathlete, Mr. Freeman thrived in the high-stress world of hedge funds. But the pressure to perform was immense. To help gain an edge, Mr. Freeman became a big user of expert networks, especially Primary Global Research. His principal contact at Primary Global was Winifred Jiau.
Mr. Lee and other informants had told government investigators that Primary Global was especially dirty, and investigators began listening to its phone calls. On one call in May 2008, Ms. Jiau was heard giving Mr. Freeman inside tips about Marvell Technology. Mr. Freeman shared the information with another SAC colleague, Donald Longueuil, who used it to earn more than $1 million in profits.
SAC fired Mr. Freeman in 2010 for poor performance, according to a fund spokesman. Disillusioned with Wall Street, Mr. Freeman went into education. He took a job teaching honors economics at the Winsor School, a prestigious all-girls school in Boston. One day, in November 2010, Mr. Kang, the F.B.I. agent, was waiting for Mr. Freeman in the parking lot of Winsor.
As a government cooperator, Mr. Freeman wore a wire and secretly recorded conversations with Mr. Longueuil, who had been the best man at his wedding. Mr. Longueuil is serving a two-and-a-half year sentence.
In a Dec. 16, 2010 interview, Mr. Freeman told investigators that he thought that trafficking in corporate secrets was part of his job description at SAC, according to an F.B.I. agent's notes of the interview, which were in a court filing and first reported by Bloomberg News.
"Freeman and others at SAC Capital understood that providing Cohen with your best trading ideas involved providing Cohen with inside information," the agent wrote.
Prosecutors announced charges against Mr. Freeman and Mr. Longueuil in February 2011. Primary Global has closed. Ms. Jiau, who was found guilty at trial, is in prison. At her trial, Mr. Freeman testified that he gave investigators the names of at least a dozen people who he believed were involved in criminal conduct.
Mr. Freeman, 36, who has yet to be sentenced, is currently a stay-at-home father, and his cooperation could spare him prison time. His lawyer, Benjamin E. Rosenberg, declined to comment.
In November 2010, the F.B.I. raided two hedge funds that heavily used expert-network firms: Level Global Investors and Diamondback Capital Management. Both had strong ties to Mr. Cohen; each was started by SAC alumni.
Fourteen months after the raid, prosecutors charged seven traders - including two each from Level Global and Diamondback - in what it called a "criminal club" that made nearly $70 million trading on secret information gleaned from sources inside technology companies.
Among those arrested was Jon Horvath, an SAC tech-stock analyst who once worked at Lehman Brothers. Low key and analytic, Mr. Horvath lacked the swagger of many of his peers. For months, he maintained his innocence.
But in September, a month before trial, Mr. Horvath admitted to insider trading while at SAC and agreed to cooperate. In court, Mr. Horvath said that he - along with his SAC manager - traded on confidential financial results. "In each instance I provided the information to the portfolio manager I worked for and we executed trades in the stocks based on that information," he said.
The portfolio manager is Michael S. Steinberg, according to two people briefed on the inquiry. Prosecutors have not charged him, but have named him an unindicted co-conspirator.
Barry Berke, a lawyer for Mr. Steinberg, 40, and Steven Peikin, a lawyer for Mr. Horvath, 42, declined to comment.
Though recently placed on leave, Mr. Steinberg is one of SAC's longest-tenured employees. He joined in 1997, when it was just Mr. Cohen and several dozen traders; for years, he sat near Mr. Cohen on the trading floor and the two grew close. When Mr. Steinberg was married in 1999 at the Plaza Hotel, Mr. Cohen attended the black-tie affair.
In 2008, a team of S.E.C. enforcement lawyers in New York, led by Sanjay Wadhwa, noticed a pattern in the "suspicious trading reports." CR Intrinsic Investors, a unit of SAC Capital, had made an uncanny string of immensely profitable, well-timed trades in technology and health care stocks. Their suspicions raised, the team requested more trading reports from the regulatory arm of the New York Stock Exchange. Huge bets by CR Intrinsic on the pharmaceutical companies Elan and Wyeth, placed just before they announced disappointing results from a drug trial, jumped off the page.
The S.E.C. issued a subpoena requesting that SAC produce documents - e-mails, instant messages, phone and trading records - connected to the unusual trades. As they combed through e-mails, S.E.C. lawyers discovered reams of correspondence between Mathew Martoma, a drug stock specialist at CR Intrinsic, and Dr. Sidney Gilman, a neurologist.
Two days before Thanksgiving, federal agents arrested Mr. Martoma. Prosecutors said that Dr. Gilman had leaked him secret data about clinical trials that he was overseeing for an Alzheimer's drug being jointly developed by Elan and Wyeth.
The case was a turning point in the investigation of SAC because, for the first time, the government linked Mr. Cohen to trades that it contends were illegal. Mr. Martoma and Mr. Cohen collaborated on the Elan and Wyeth transactions, prosecutors said, earning SAC profits and avoiding losses totaling $276 million. After Mr. Martoma learned from Dr. Gilman - whom he met through an expert network - that there were problems with the trials, he reached out to his boss, the government said.
"Is there a good time to catch up with you this morning? It's important," Mr. Martoma e-mailed Mr. Cohen in July 2008, just days before Elan and Wyeth announced their findings.
An hour later, Mr. Martoma and Mr. Cohen had a 20-minute telephone conversation. SAC promptly sold a $700 million position in Elan and Wyeth and then made a big negative bet. After the drug companies released the negative data, their shares plummeted.
An S.E.C. lawyer interviewed Mr. Cohen about the Elan and Wyeth trades this summer, according to a person briefed on the case. In sworn testimony, he said that SAC sold the stocks because Mr. Martoma told him that he had lost conviction in the position, this person said. Otherwise, Mr. Cohen had little recall of their conversation.
Federal agents paid a house call to Mr. Martoma a year ago, pressuring him to "flip" and help build a case against Mr. Cohen. While speaking with the agents in his front yard, Mr. Martoma fainted. After picking himself up, he declined to cooperate. When the S.E.C. deposed him earlier this year, Mr. Martoma refused to answer questions, invoking his Fifth Amendment right against self-incrimination.
The government has said it will not prosecute Dr. Gilman, who has agreed to testify against Mr. Martoma.
SAC continues to operate during the intensifying investigation. The negative attention and controversy aggravates and angers Mr. Cohen, said a friend, but his ability to compartmentalize allows him to maintain a focus on investing.
An SAC spokesman said Wednesday that Mr. Cohen is cooperating with the government's inquiry.
During market hours, Mr. Cohen can be found at the center of his football field-size trading floor in Stamford, Conn., sitting among his traders, sifting through information, and buying and selling stocks. SAC, which manages $14 billion, is up about 12 percent this year through the end of last month.
"None of this stuff is material to his returns and it's all just a lot of noise," said Ed Butowsky, managing partner of Chapwood Investments, a longtime SAC client. "Steve Cohen is the Michael Jordan of the hedge fund business. When people are successful everyone likes to take shots at them."