Insider Trading Infects Brazil Stocks as Almost All Deals Leak
By Telma Marotto and Paulo Winterstein
Marcelo Trindade, president of Comissao de Valores
July 10 (Bloomberg) -- Fabio Calderaro gave up his job as a Brazilian army captain last year to speculate on stocks in a market where almost every merger and acquisition leaks.
``I try to track their steps,'' said Calderaro, 30, who watches stock charts at home in Rio de Janeiro, convinced that traders with inside information are behind unusual fluctuations in prices and volume. ``It's a manipulated market. They are the sharks and I'm the remora.''
Calderaro has a lot to work with because more than 140 deals were announced in Brazil this year, an average of one each working day. Trading in options of telephone company Tele Norte Leste Participacoes SA surged 550 percent a day before its April 10 share buyout. Refinaria de Petroleo Ipiranga SA's stock climbed 56 percent in the week before the company was acquired. Viacao Aerea Rio-Grandense SA's trading volume tripled two days before a competitor said it planned to buy the airline March 28.
Traders hardly need to depend on insider information for profits in Brazil, where the slowest inflation since 1999, record-low interest rates and rising corporate earnings helped the benchmark Bovespa stock index climb 189 percent in dollar terms the past two years. International investors poured a record $2.34 billion into Brazilian stock funds this year, more than the inflows for any other emerging market, according to EPFR Global, a Cambridge, Massachusetts-based research firm that tracks funds with $10 trillion in assets.
``The place is booming,'' Thomas Skidmore, professor emeritus of Latin American history at Brown University and author of six books on Brazil, said in an interview from Providence, Rhode Island. ``You can forgive a lot of sins with these kinds of gains. There isn't this kind of morality associated with the stock market.''
Shares and Options
Sudden, unexplained movements in shares and options, or leaks in newspapers occur before almost every M&A deal, according to Marcelo Trindade, president of Rio de Janeiro-based Comissao de Valores Mobiliarios, Brazil's market regulator. ``Someone is making money,'' Trindade, 42, said in a June 28 interview in Rio.
Brazil made the use of privileged information illegal in 2001. Insider trading carries a prison sentence of one to five years. Nobody has been sentenced to jail for the crime.
Trindade increased staff by 30 percent to 600 since 2004 and stepped up enforcement to help contain abuses. The number of individuals temporarily barred from serving as managers of publicly traded companies because of securities violations more than doubled to 63 last year from 2004. The agency's budget has grown to $75 million from $30 million in 2004, he said.
Frozen Assets
Regulators froze assets of suspected insider traders for the first time this year. The commission persuaded nine of the nation's biggest companies last week to limit employee access to confidential plans and monitor stock trades to ensure that information isn't leaked.
Trindade says it's not enough.
``It's very difficult when you have a market booming like you have right now to hire guys who have already been in the market,'' said Trindade, whose three-year term ends July 15. ``We need to go faster than we go today.''
Insider trading in the U.S. may have taken place in 41 percent of takeovers valued at more than $1 billion for the year ended August 2006, according to data compiled by Measuredmarkets Inc., a Toronto-based consulting firm. Suspicious trades may have occurred before 24 percent of British takeover announcements in 2005, according to a March 7 report by the U.K.'s Financial Services Authority.
Corruption Charges
Investors expect corruption in Brazil. Regulators fined financier and speculator Naji Nahas $11.7 million in 1994 for manipulating stock prices and causing the market to collapse. Nahas was convicted in 1997 by a federal court and sentenced to 24 years in prison. A state court later overturned the conviction, a decision that was upheld by the nation's Supreme Court in 2005.
Former President Fernando Collor de Mello, the nation's first democratically elected leader, resigned in December 1992 after he was impeached on corruption charges. Since President Luiz Inacio Lula da Silva took office in January 2003, three ministers have stepped down because of allegations of graft.
Trindade said many people from his generation don't trust the stock market because of the Nahas case. Individual investors, who tripled to 255,775 since the end of 2000, know they are in a rigged market.
``We are at the mercy'' of insiders, said Marcelo Nicolas, 41, a finance manager at Viacao Aerea Rio-Grandense, or Varig, who has about 300,000 reais ($157,089) invested in Brazilian stocks and contributes 20 percent of his monthly salary to equity investments. ``It's very frustrating and it's a reality you have to live with.''
Suspicious Trades
Insider trading has become more commonplace with 145 mergers and acquisitions announced so far this year, 14 percent more than at the same time last year and on pace to top the all- time high in 2004, according to data compiled by Bloomberg.
Regulators are investigating more than 20 investors in the Ipiranga case.
Shares of Ipiranga's Rio Grande-based refining unit surged 56 percent to 80.15 reais in the five days before a group of companies, including government-controlled oil producer Petroleo Brasileiro SA, announced the $4 billion takeover of the Ipiranga group on March 19. An average of 67,920 shares in the refining unit traded each day during that period, 12 times the average in the previous three months.
Brazil's public prosecutor's office froze 3.3 million reais that a Delaware-based fund made on its trades and 970,000 reais from an individual in Brazil, the regulator said. Trindade, who didn't name the suspects, said at least 400 lawyers, consultants, auditors, bankers and executives had access to insider information before the announcement.
Options Jump
Luci Omi, a spokeswoman at Rio de Janeiro-based Ipiranga, wasn't immediately available for comment. Mirian Guaraciaba, a spokeswoman at Petrobras based in Rio, declined to comment.
The CVM said it's investigating suspicious trading linked to the purchase of Rio-based Tele Norte Leste preferred shares in Brazil's biggest acquisition this year. The regulator declined to provide details.
Trading in call options, which convey the right, without the obligation, to buy the shares at a specified price by a certain date, surged to 10.6 million contracts on April 9, data compiled by Bloomberg show. That compares with the 20-day average of 1.63 million contracts.
Telemar Participacoes SA, which controls Brazil's biggest fixed-line telephone company, announced after the market closed the next day that it would buy the preferred shares of Tele Norte Leste it didn't own for $4.39 billion in cash and assumed debt.
Varig
Jose Augusto Figueira, a spokesman for Rio-based Telemar, didn't return telephone calls seeking comment. Tele Norte Leste declined to comment, according to a spokesman.
Shares of Porto Alegre, Brazil-based Varig jumped 17 percent in the five trading days before Gol Linhas Aereas Inteligentes SA, Latin America's biggest airline by market value, said March 28 that it would buy the carrier for $275 million. Trading in Varig was three times the three-month average in the two days before the announcement.
Brazil's market watchdog is looking into eight to 10 potential insider trading cases at any time, Trindade said. He declined to say whether they were investigating trading in Varig.
Gol, based in Sao Paulo, and Varig declined to comment, according to a spokesman at MVL press agency who represents both companies. He didn't give his name.
`Midnight Oil'
``I'm sure they're burning the midnight oil at the regulator's office right now just because there's a lot going on,'' said Greg Lesko at Deltec Asset Management, a $900 million hedge fund based in New York that invests in Brazil. ``The regulator has shown some backbone recently. But it's still a work in progress.''
Some investors doubt regulators will be able to prosecute cases fast enough to deter market manipulation.
About 10 investors in the past three years were punished for trading on non-public information, Trindade said at a news conference in Sao Paulo last week. Most cases the agency evaluates are dropped because of a lack of proof.
The CVM last month fined the controlling shareholder and executives at Randon SA Implementos e Participacoes for insider trading in the company's stock five years after the trades took place, according to the regulators.
Gladis Berlato, a spokeswoman at Randon, declined to comment in an e-mailed response, saying the Caxias Do Sul, Brazil-based company hasn't been contacted by the CVM about the case.
`Difficult to Prove'
The regulator ``doesn't have enough power to avoid these kinds of situations,'' said Eduardo Favrin, who manages $5 billion in Brazilian stocks as head of equities at HSBC Investments Brasil in Sao Paulo. ``It's very difficult to prove that you have some kind of misconduct. You know it happened but you can't prove it.''
Trindade said regulators ``have the right tools'' and ``the right powers.'' They could move faster and catch more violators with improved technology, new legislation and investigators with more market experience.
Without stronger protections, Brazil's gains may evaporate should the easy money that fueled emerging markets diminish, said Marcos Duarte, vice-president of AMEC, the Brazilian association that represents minority shareholders.
``People are so drunk with the amount of money that is flowing that they forget that this is far from being a safe place to invest,'' said Duarte, who also manages about $526 million as a partner at Rio-based Polo Capital.
Duarte said he hears confidential information in about 95 percent of the deals before they are officially announced.
Economy's Growth
Prospects for Brazil's economy may be enough to keep foreigners buying shares regardless of whether regulators crack down on insider trading, said F&C Investments' Urban Larson.
The slowest inflation this decade has allowed the central bank to cut interest rates 16 straight times to a record low of 12 percent. That's lifted demand for housing and automobiles, which bolster the economy and corporate profits.
Citigroup Inc. estimates that earnings at Brazilian companies will increase by 29 percent this year. The central bank on June 28 raised its forecast for the nation's expansion this year to 4.7 percent from 4.1 percent. The economy grew 4.3 percent in the first quarter, from a year earlier.
Shares in the Bovespa, which has surged more than fivefold since the five-year rally started at the end of 2002, are still cheap compared with other emerging markets. The measure is valued at 11.3 times forecast profit, 43 percent less than India's Sensitive index and about half as much as shares of Chinese companies that trade in Hong Kong.
`No Deterrent'
``There are a lot of reasons to invest in Brazil and insider trading doesn't negate that,'' said Larson, who helps manage $2 billion in emerging-market equities at F&C Investments in Boston.
The more bullish foreigners and locals become, the harder it will be for regulators to ward off crooks, said Donald Elefson, who manages the $1.2 billion Excelsior Emerging Markets Fund in New York.
``If they do feel there's a problem, they need to make an example of someone,'' Elefson said. ``There really is no deterrent in Brazil.'' |
