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Warning: Do Not Trust the Mistress!

Bruce Carton | September 28, 2010

Maybe a cheating heart should foresee a cheating heart, despite what the Second Circuit held back in 2001.

One thing that is becoming clear to me from following SEC enforcement actions is that if you share inside information with your mistress, you really cannot count on her keeping it a secret. In fact, the SEC jurisprudence in this area suggests it is much more likely that your mistress will promptly share whatever inside information you provide her with some other dude who she may be dating on the side.

Here is what I've seen in the "untrustworthy mistress" category of SEC cases so far.

1. SEC v. McDermott: Here, the SEC (and ultimately federal criminal prosecutors) sued James McDermott, Jr., the former CEO of Keefe, Bruyette & Woods, Inc., and a woman named Kathryn Gannon for insider trading. As the SEC pointed out, Gannon (“a.k.a. ‘Marilyn Starr’") was a former actress in adult films with whom the married McDermott "developed a close personal relationship." McDermott allegedly leaked information about confidential upcoming transactions to Gannon, who traded on the information. Unbeknownst to McDermott, Gannon also shared the information with another boyfriend of hers named Anthony Pomponio, who profited from it, as well.

This led to a situation where McDermott, Gannon, and Pomponio were all indicted, and McDermott was convicted for Pomponio's trades even though they had never met and McDermott did not know Gannon was tipping Pomponio. As the White Collar Crime Prof Blog recounted years ago, "the Second Circuit reversed the convictions in 2001, holding that the government could not establish a chain conspiracy linking Pomponio and McDermott, and in an all-time great line the court noted that "[w]e decline to hold as a matter of law that a cheating heart must foresee a cheating heart." U.S. v. McDermott, 245 F.3d 133 (2nd Cir. 2001)."

2. SEC v. Hansen: Yesterday, the SEC filed an an insider trading case against Richard Hansen, the former chairman of a regional investment bank called Keystone Equities Group. The case relates to an earlier matter brought by the SEC in which it sued James Gansman, a partner at a Big Four accounting firm who allegedly provided inside information to a woman named Donna Murdoch. Gansman met Murdoch on, a Web site for people in search of extramarital affairs.

The SEC's complaint yesterday against Hansen alleges that he traded based on nonpublic information that he learned from Murdoch, who worked for him. StockWatch reported today, however, that during Gansman's criminal trial in 2009, the jury heard how Murdoch met both Gansman and Hansen through the website. The WSJ reports that Murdoch didn't tell either man about her relationship with the other.

These cases could be outliers, but until further notice I'd advise you not to trust your mistress with inside information.