$Billion Insider Trading Investigation & Expert Testimony Decision

By IMS ExpertServices
S.A.C. Capital Advisors, L.P. (“SAC”) is a group of hedge funds founded in 1992 by billionaire Steven A. Cohen. SAC and Cohen have been the target of a high-profile, decade-long insider trading investigation by the Securities & Exchange Commission and the Justice Department, resulting in eight guilty convictions or pleas by former SAC employees.  The government also indicted SAC itself on criminal charges, leading to a historic $1.8 billion settlement approved by a federal judge in April 2014.

The recent criminal trial of Matthew Martoma, a former SAC portfolio manager, was the most highly publicized one resulting from the government’s investigation insofar as Martoma was the only indicted SAC employee who interacted directly with Cohen prior to making trades based on inside information. Martoma was convicted of criminal securities fraud on February 6, 2014.

Martoma’s criminal trial generated an interesting decision by the presiding U.S. District Court Judge, Paul Gardephe, concerning the admissibility of expert testimony proffered by Martoma to prove his innocence. See U.S. v. Martoma, 2014 WL 319721 (S.D.N.Y. January 29, 2014).

By way of background, the government charged Martoma with trading in the stocks of Wyeth and Elan Corporation (“Elan”) based on material, non-public information supplied to him by two doctors—Sidney Gilman and Joel Ross. Drs. Gilman and Ross were participants in a clinical trial of bapineuzumab (“bapi”), a drug being developed by Wyeth and Elan that might be useful in treating Alzheimer’s disease.

Elan and Wyeth announced seemingly favorable summary results of the clinical trial in a June 17, 2008 press release. However, Dr. Gilman subsequently learned that the final safety and efficacy results of the clinical trial were far less favorable than originally thought, and communicated these negative results to Martoma before publicly announcing them at the International Conference on Alzheimer’s Disease (the “ICAD Conference”) on July 29, 2008. Taking advantage of his advance knowledge of the negative results before they were publicly disclosed, Martoma directed the sale of all of SAC’s holdings of Wyeth and Elan, and the taking of short positions in the stock of Elan. These trades enabled SAC to avoid $194 million in losses on its long positions and secure a $75 million profit on its short positions.

One of the key issues at trial was Martoma’s “state of mind” when he directed the Elan and Wyeth trades in July 2008. While the government claimed that the trades were entirely motivated by the inside information received from Dr. Gilman, Martoma advanced an “alternative explanation” for the trades based on the expert testimony of Harvard Business School professor Paul Gompers that the “market for Elan [and Wyeth] securities was ‘overheated’ in June and July 2008.”

The Court concluded that Professor Gompers’ testimony was not probative of Martoma’s state of mind when he directed the Elan and Wyeth trades in July 2008, and denied Martoma’s request to allow Professor Gompers to testify at trial. In particular, the Court noted that Professor Gompers’ testimony relied on materials that in large part were never seen by Martoma, and on an analysis that Martoma himself had not conducted in 2008. As such, the Court concluded, even if Professor Gompers’ testimony demonstrated why investors, as a general matter, should have regarded Elan and Wyeth stock as “overheated” in July 2008, that testimony would not assist a jury in determining whether Martoma himself believed that those stocks were overvalued at that time.

Martoma also sought to introduce the testimony of Dr. Thomas Wisniewski, a professor of neurology at New York University School of Medicine, to demonstrate that there was no “meaningful difference” between the information disclosed in the June 17, 2008 press release issued by Wyeth and Elan, and the clinical trial data announced by Dr. Gilman at the ICAD presentation on July 29, 2008. In other words, Martoma wished to prove that what the government characterized as non-public, material information possessed by Martoma at the time of this trades, had in fact already been disclosed to the public in the June 17, 2008 press release.

The Court allowed Dr. Wisniewski to testify on the ground that there was evidence that investors had been consulting members of the medical community about aspects of the bapi clinical trial prior to the July 29, 2008 ICAD presentation. Accordingly, the Court ruled, it was “only fair for the defense to have an opportunity to demonstrate—through its own medical expert—that the differences [between the information disclosed in the June 17, 2008 release and the July 29, 2008 ICAD presentation] that the government suggests are significant are actually not significant at all.”

As noted, Martoma was ultimately convicted, and therefore the admission of Dr. Wisniewski’s testimony was clearly insufficient to sway the jury. The big question remaining is whether Martoma’s conviction will help the government in its ongoing pursuit of Cohen (who was identified at Martoma’s trial as the ultimate target of the government’s probe).

Do you agree with the results of the Court’s decision on Martoma’s request to admit testimony from Professor Gompers and Dr. Wisniewski?
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