As you guys follow the Raj Rajaratnam insider trading trial play out don’t forget that abusive naked short selling is actually the ultimate form of “insider trading”. In these cases you typically have a tipper and a tippee. The tipper has access to something that the tippee wants. Usually it’s market moving nonpublic information about a publicly traded corporation.

In the case of abusive naked short selling the abusive MMs typically have several things that corrupt investors want. Firstly, they have a superior visibility of buy orders. Every buy order has money attached to it. If you want to steal somebody’s money you need to gain access to it. Secondly, abusive MMs have the ability to ILLEGALLY access the bona fide MM exemption from making pre-borrows or “locates” before making admittedly “naked” (no borrow involved) short sales. The easy to kill development stage corporations typically attacked often have shares that are nonmarginable and have little institutional ownership. These are the two main sources of legitimate borrows for legal short sales. Simply refusing to deliver that which you sell while pretending to be injecting liquidity as a bona fide MM circumvents expensive or unavailable borrows.

Abusive MMs also have access to market moving nonpublic information. Who needs to get a hot tip on quarterly earnings when you can see buy and sell orders queuing up right in front of you? Obviously the abusive MMs willing to prostitute all of these advantages and play the role of “tipper” now only needs “tippees” to sell this information to. This is where abusive hedge funds, abusive clearing firms, naked short selling cartel, etc. come in.

In the Raj Raj trial we see where Raj allegedly had one of his tippers set up an offshore a/c into which he allegedly deposited $500,000 per year of “service”. In abusive NSS-ing cash is not typically the currency used for the tippee to pay the tipper. Instead, order flow is the currency of choice. Abusive MMs then typically convert this into cash. After all, a corrupt hedge fund has the right to direct order flow to any “securities intermediary” he so chooses.

As this trial plays out, ask yourself what is more the heinous of an act, is it a corporate insider whispering to a buddy that earnings are going to be lousy so he would recommend shorting the stock or an abusive MM ILLEGALLY renting out his bona fide MM exemption so that a party willing to “bribe” him with order flow can take an ILLEGAL short position by refusing to deliver the securities he sold while circumventing an expensive or unavailable borrow. There are going to be some valuable educational opportunities available in following not only this case but also the developments in the Fairfax Holdings case (Fairfax v. SAC Capital) and the upcoming Overstock case.