Ever since the dust-up that accompanied the introduction of Mark Cuban’s Sharesleuth.com back in 2006, I have been interested in the concept of what I have dubbed “legal insider trading"--some repeatable way to legally trade and profit off of inside information. Cuban's model was the first example of this that I had seen. In short, Cuban hired a business reporter to conduct investigations to “identify suspect companies” and then sold short based on the findings. If successful, the profits would come when Sharesleuth.com published reports showing all of the damning evidence, and the stock price of the company involved then fell.
In December 2008 I wrote here about another possible example of "legal insider trading,” which again relied upon the Sharesleuth.com model. Barry Minkow, former CEO of ZZZZ Best and convicted securities fraudster who spent seven years in prison, now runs a company called Fraud Discovery Institute. Among other things, FDI has developed a niche in ferreting out executives at public companies who inflate or lie about their academic credentials (a WSJ article stated that as of the end of 2008, FDI had flagged no fewer than 11 executives for inflated academic credentials).
FDI does not do this work strictly for the common good. As the company states in its Disclaimer,
Barry Minkow almost always holds a position in securities reported on, or profiled by, FDI websites. Neither FDI nor Mr. Minkow will report when a position is initiated or covered. Each investor must make that decision based on his/her judgment of the market. We always insist that anyone who relies on our reports, independently corroborate our findings before making any decisions.
Last week, FDI took this part of its business model to the next level, announcing that it had teamed up with former LA Times journalist William Lobdell to launch an "investigative online news operation" called iBusiness Reporting. In a post on the operation's new website, FDI writes that as editor of iBusiness Reporting, Lobdell will write investigative pieces, manage freelance journalists, and aggregate news content about alleged business fraud on the website. The post acknowledges up front that while FDI doesn’t charge private investors or law enforcement for its services,
part of the Institute’s revenue is generated by short selling stock in companies that it has investigated and deemed to have a flawed or fraudulent business model. This legal practice, which Minkow discloses prominently on the Fraud Discovery Institute’s website, has drawn criticism by some.
iBusiness Reporting's first post, on a company called InterOil Corp., is already up and can be found here.
I have never learned whether Sharesleuth turned out to be profitable. Judging by the almost complete lack of activity on that site since 2008, however, I'm guessing it is more difficult to consistently find and expose (and profit from) fraud than one might think. But do not underestimate Minkow--as I noted when I half-jokingly nominated him to lead the SEC's Office of Risk Assessment almost six years ago, he has a growing track record of being able to identify securities frauds at very early stages.