Japan’s Insider-Trading Carousel

Regulators talk tough, but penalties are light compared to the U.S. | “Japan has been letting the animals run wild for two or three years now”

Takahiko Hyuga and Russell Ward, with Shingo Kawamoto

Out at Nomura: CEO Kenichi Watanabe, left. In: Koji Nagai


Financial scandals in Japan have a rinse-and-repeat quality. Investigators raid companies. Disgraced executives bow apologetically before the cameras and head off into early retirement. Then the cycle starts anew. The latest crackdown on insider trading has led to the departure of the chief executive of Nomura Holdings, the country’s biggest brokerage, along with one of his top lieutenants. An ongoing probe has also unearthed evidence of leaks at two other securities firms. “Japan has been letting the animals run wild for two or three years now,” says Takao Saga, a finance professor at Tokyo’s Waseda University.

Financial scandals aren’t exactly unheard of in the U.S. The difference is that in the states convicted tipsters often do serious jail time. Former Goldman Sachs director Rajat Gupta could spend up to 20 years in prison after a New York jury convicted him of passing on privileged information to hedge-fund manager Raj Rajaratnam. In Japan, regulators can only impose modest monetary penalties on investors who profit from leaked information. In June the Financial Services Agency (FSA) fined Sumitomo Mitsui Trust Holdings 130,000 yen ($1,630) after a former unit traded shares for clients ahead of two public offerings.

Given the scale of the current scandal, calls for tougher sanctions are growing. A five-month investigation by the country’s Securities and Exchange Surveillance Commission has uncovered five cases of insider trading, all dating to 2010, and all conforming to the same pattern: Underwriters allegedly gave early warning of an upcoming share issue to traders, who then made short sales based on the information. Investment bankers who managed share sales allowed or encouraged their salespeople to pass on tips to short sellers because they created demand for shares during the public offerings, say two bankers who asked not to be named because they signed confidentiality agreements.

The ruling Democratic Party of Japan wants a wider investigation after finding spikes in trading volumes of 20 stocks before public offerings were unveiled between July 2009 and July 2011. Share prices “clearly moved before the announcements, which looks odd,” Tsutomu Okubo, a former Morgan Stanley banker who heads a panel of legislators examining the issue, told reporters on July 5.

Financial Services Minister Tadahiro Matsushita has directed his agency to consider tougher penalties for tipsters. Regulators are reviewing a proposal from the DJP that would introduce criminal charges and fines for brokerages and bankers who leak stock-offering information. Such measures may not be enough, says Robert Boxwell, an insider-trading expert and director at Kuala Lumpur-based consulting firm Opera Advisors. “No fine, unless it is extremely punitive, can approach prison as a deterrent,” he says. “Japan needs serious reforms to make their capital markets not seem rigged.”

Nomura, which was involved in three 2010 insider-trading cases, has gotten off lightly. The firm was ordered to implement preventive measures, including ethics training and stricter monitoring of communication with clients. The revelations have taken a toll on its business: On Aug. 3, Japan Airlines announced it had tapped Nomura’s rival, Daiwa Securities, to manage the air carrier’s $8.5 billion global initial public offering. Nomura’s shares have tumbled 30 percent since the first insider-trading case was revealed in late March.

Investors’ faith in the Japanese stock market has already been tested by revelations of massive accounting fraud at camera maker Olympus and pension manager AIJ Investment Advisors, to say nothing of the anemic economy. The benchmark Nikkei 225 Stock Average remains 77 percent below its 1989 peak. “We expect a mounting loss of confidence from this scandal will have a lasting impact on all players in the Japanese market,” said Moody’s Investors Service in a note last month.

Meanwhile, the scandals roll on. In June, authorities arrested a former banker from SMBC Nikko Securities on suspicion of insider trading. “It’s encouraging to see Japan regulators shine a light on some gray areas and highlight the responsibility of brokerages to safeguard information,” says Naoki Fujiwara, chief fund manager at Shinkin Asset Management. Waseda professor Saga is less optimistic. “Insider trading is still going on in the Japan market,” he says.

The bottom line Japan’s current run of insider-trading scandals is likely to persist without tougher penalties to deter offenders.


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