Despite U.S. regulators' efforts to prevent trading on information obtained illegally, suspicions of such activity have marred some of the year's biggest takeovers, including the First Data deal announced this week.
The unusual activity reached across options, credit swaps and stocks in the days leading up to the credit and debit card payment processor's announcement of its planned sale to private equity firm Kohlberg Kravis Roberts for $26 billion.
The trades came even as the Securities and Exchange Commission pursues insider trading cases stemming from the planned buyout of Texas power company TXU. But lawyers say stepped-up SEC efforts cannot eradicate the problem, even in high-profile deals.
In the case of First Data, its credit default swaps widened 23 basis points in the week leading up to the announcement of the KKR deal and 43 basis points in the month before. Analysts said that move in a short time period might indicate that there was more than just market speculation underway.
In addition, First Data calls were far outpacing the puts. Last week 80,146 calls and 19,835 puts changed hands, far above First Data's total option volume of 53,572 contracts for all February, according to the Options Clearing Corp.
It looks like there was options buying in the calls that give the right to buy First Data shares at $30 when the stock was at around $26 last week, said Michael Schwartz, chief options strategist at Oppenheimer & Co. in New York.
The KKR deal values First Data at about $34 a share. The stock traded at about $32.30 on Thursday.
"If a regulator were to look at the pre-announcement trading patterns in the First Data April 30 call options, this would stand out as a sore thumb," Schwartz said. "Often investors will buy out-of-the-money calls if they want to speculate on a takeover rumor."
Schwartz said he did not know if the trading was due to insider information or market rumors.
First Data shares gained 9% in the 10 days ahead of the news, from $24.67 at the close on March 16 to $26.90 at the close on Friday before the deal was announced.
The SEC declined to comment on whether it was investigating insider trading around First Data, which did not return a call requesting comment.
SEC Vs. Greed
Pinning unusual trading activity to insider trading rather than speculation is difficult, market participants and lawyers said. And then there is human nature.
"Although there are laws regulating and designed to prevent the use of material nonpublic information, although we would anticipate that there would be fewer cases, it is impossible to eradicate the primal nature of mankind, which is greed," said Ron Geffner, a partner at Sadis & Goldberg and a former SEC enforcement attorney.
"There are people who, knowing there is a probability to get caught, will still act in a manner to try to make a quick buck," Geffner said. "Hopefully what we would see is that there are fewer professionals engaging in this type of behavior and that the violations are primarily arriving from bystanders on the sidelines."
Indeed, the SEC has stepped up its fight against insider trading by professionals. Earlier this year, sources told Reuters that the commission expanded its efforts to include insider trading among some of the largest investment firms.
SEC Chairman Christopher Cox said in October that investigations on insider trading rose in fiscal 2006. Of SEC investigations opened during the year, 20% dealt with insider trading, up from 18% in fiscal 2005.
SEC spokesman John Nester said the efforts were working.
"Working closely with the self-regulatory organizations under our oversight, the SEC has caught and punished more insider trading than any other regulator," Nester wrote in a statement.
In the case of TXU, the SEC found illegal trading in options in three separate trades in the days before the February announcement of the leveraged buyout, the largest on record. The SEC charged a British couple last week with trading on insider information on one of the trades but has not identified suspects on the other transactions.
Besides options, shares in TXU also traded outside of their usual patterns, according to Measuredmarkets, a Canadian company that tracks unusual trading activity.
Share price, trading volume and number of trades rose more than was typical on both February 22 and February 23, while news of the deal did not surface until after the market closed on February 23.
Other companies that had unusual trading in options and credit swaps ahead of news of a takeover include Harrah's Entertainment and Sabre Holdings . They have also sparked concerns of insider trading. Neither company was immediately available for comment.
The SEC declined to comment on whether it is investigating insider trading around those deals.
"(Insider trading) is plainly something that is high on the SEC's radar," said former SEC lawyer Stephen Crimmins, now a partner at Mayer, Brown, Rowe & Maw. "I think the SEC realizes that it's not going to stamp out insider trading but that it has to be always vigilant."