When a hedge fund manager pieces together what he or she reads in a recent article, blog or report with other inconsequential nonpublic information previously acquired in such a way that it reveals a material insight into an issuer or its prospects – and the manager trades based on the insight – should that manager be charged with insider trading? Generally, such “Eureka” moments have been protected under the “mosaic theory,” which has been recognized explicitly both in caselaw and in pronouncements by the SEC. For example, in October 2011, when SEC Chairman Mary Schapiro was asked for her views on the use of “expert network” firms by hedge fund managers, she noted that “[t]here is nothing wrong with doing tremendous due diligence” when it comes to stock research, and that there “is a . . . pretty bright line” between stock research and illegal insider trading. See “How Can Hedge Fund Managers Avoid Insider Trading Violations When Using Expert Networks? (Part Two of Two)
,” Hedge Fund Law Report, Vol. 4, No. 11 (Apr. 1, 2011). Recently, however, the SEC has brought a number of insider trading cases suggesting that the “line” separating research and conduct the SEC may seek to punish is far greyer and fainter than Chairman Schapiro indicated. In a guest article, Perrie Weiner, Patrick Hunnius and Stephanie Smith, partner, senior counsel and associate, respectively, at DLA Piper, examine recent insider trading cases brought by the SEC based on investors having pieced together a mosaic of facts. These cases provide valuable insight into important questions that should shape a hedge fund manager’s approach to the investment research process and what precautions the fund manager should take. For example, what mosaic of activities has amounted to an inference of insider trading? What actions should hedge fund managers take to ensure their conduct does not even give rise to the appearance of insider trading?