I'm sure you've heard the phrase "cheaters never win." It's the kind of feel-good line that's fed to small children to instill the idea that fair play wins out in the end. Ultimately, the cheats will get their comeuppance.
Well, kids grow up and find out that all sorts of things they once believed in aren't true: Santa Claus, the Easter Bunny, and the Tooth Fairy. But it gets much worse than the revelation that fictional characters aren't real. Since we're all adults here, it's time to shoot down the saying that "cheaters never win." I know that hurts, but, hey, the world can be cruel.
Cheaters win all the time. Sometimes they're professional athletes. Baltimore Orioles slugger Rafael Palmeiro recently tested positive for steroids. With 3,000 hits and 500 home runs, Palmeiro's stats are quite impressive. Other times they are big-money investors making a quick buck trading on material non-public -- or inside -- information. In these cases, the cheaters come out way ahead through their unethical, and sometimes illegal, activities.
Drug scandal
The Seattle Times
gets major props for breaking a story about large institutional investors aggressively seeking out confidential inside information on drug clinical trials and then trading on it. While this won't be all that surprising to anyone following the industry, it's about time this practice gets the spotlight.
Here's how it works: To get an experimental drug approved, a drug company such as Pfizer (NYSE:PFE) or Genentech (NYSE:DNA) must conduct clinical trials that test the drug's safety and effectiveness. Physicians at dozens of different sites around the world conduct these trials. Clinical trials can take years to run, and the details are kept quiet by the company until the study is completed. When the trial ends, the results are typically presented in a press release and then later followed up by a full presentation at a relevant medical conference.
Well ... that's how it's supposed to work. The investment cheats don't want to play the same game as everyone else. Instead of waiting for the full disclosure of trial results like the rest of us, the cheaters pay off the doctors running the trials to get the inside scoop. Because the general public does not have access to the same data and physician opinions, they have an information edge -- and they don't sit on their hands with this knowledge. They use this inside info to take positions in these stocks, anticipating how the market will react when the news is finally broken.
That, fellow Fools, is very, very wrong. Not just ethically, but legally. It is illegal to trade stocks if you have possession of material information that has not been disclosed to the public. This is called insider trading.
The fallout
The Fool's discussion boards are a great forum for individual investors to get together and swap ideas on companies and industries. I've been reading the threads on this and the sentiment ranges from discouragement to outrage. Fool fafnir49 sums up the situation very eloquently:
As a small investor this means I am playing in a fixed game, where the hedge funds can use insider information to take my money. My own feeling is I am going to stay away from pharmaceuticals and biotech, and invest in industries where the small investor can get an even break.
I expect that there are many retail investors out there that feel just like fafnir49. No one likes to feel that they are playing a rigged game, and if that's the perception of investing in biotech, a lot of investors will take their money elsewhere. That's not good for the industry or for our stock market.
What to do?
Should the individual investor freak out about this? I don't think so. While I'm a bit peeved about it and hope that the SEC goes after any serious infractions with the same fervor with which it pursued Martha Stewart, I think the rest of us should focus on the big picture and let the regulatory authorities do their job.
Here's the bottom line: There will always be a bunch of unethical sleazebags lurking in the markets. But so what if we're playing along with the cheats? It doesn't mean that it is hopeless for the rest of us to try and make money.
Here's why. Solid, honest, and old-fashioned research can always lead to good investments -- no matter what anyone else is doing. That's how I scored a triple picking TranskaryoticTherapies for Motley Fool Hidden Gems. It's also how I landed a 50% gain over the past six months with Vertex Pharmaceuticals (NASDAQ:VRTX) for Motley Fool Rule Breakers. All without having any inside knowledge.
Maybe us decent folk won't always have the short-term edge that the cheaters get, but we can do just fine with publicly available information, thank you very much.
Want some of that honest and old-fashioned research on biotechnology and pharmaceuticals? Fool co-founder David Gardner is offering a free 30-day trial to his Motley Fool Rule Breakers newsletter service. You'll get two stock picks per month, as well as full access to all our back issues, updates, and special reports to date.Click hereto learn more.
Rule Breakers biotech analystCharly Travers admits to cheating at Monopoly as a child. Charly owns shares of Vertex Pharmaceuticals. Pfizer is a Motley Fool Inside Value recommendation. The Fool has adisclosure policy.
