Some of the most noteworthy insider trading cases brought by the SEC this year are based on allegations of trading on information about mergers prior to the public announcement. TXU, New Corp/Dow Jones and Petco garnered headlines as the SEC brought insider trading cases alleging illegal trading prior to the announcement of the deal. In each instance, the SEC brought its case within days of the transaction announcement. In each case, the SEC obtained a freeze order over millions of dollars of assets from the claimed illegal trades. In two of the cases, the identity of the traders was unknown at the time the SEC brought its complaint.

These cases may also present the SEC with some of its greatest challenges. Insider trading cases are notoriously difficult to prove. Frequently, they are based on circumstantial evidence keyed to the trading pattern. In these cases, the SEC did not have the opportunity to conduct its usual investigation, marshalling its extensive investigative powers to gather and examine each bit of evidence before deciding to file a court action. Rather, examination of these complaints suggests that the Commission filed these cases with little more than the basic information that could be obtained from the brokerage where the now frozen accounts are maintained: the trading records and, perhaps, evidence of money transfers from other accounts. Whether the SEC can develop sufficient evidence in discovery to prove these cases at trial remains to be seen.

The first of these cases was brought on March 2, 2007, just four days after the February 26 announcement that a KKR-led group would acquire TXU. SEC v. One or More Unknown Option Purchasers, Civil Action No. 1:07-cv-01208 (N.D. Ill. March 2, 2007). The SEC’s complaint alleged that unknown traders purchased 8,020 call options for TXU from February 21 to February 23. The purchases were made through Credit Suisse, Zurich and Firmat Banque Frankfurt. After the announcement, the options were valued at $5.4 million. The SEC’s motion for a TRO to freeze the accounts, filed along with the complaint, was granted.

The SEC has amended its initial complaint twice. First, on March 28 Sunil and Seema Shgal, a married couple residing in the U.S., were added as defendants. According to the amended complaint, they purchased 700 TXU options in January and February with a value of $270,000. A second amendment was filed on May 3, adding Hafiz Naseem as a defendant. According to the amended complaint, Mr. Naseem is an investment banker at Credit Suisse, which was a financial advisor to TXU. Mr. Naseem is alleged to have furnished material non-public information to a Pakistani banker who bought 6,700 call options for a profit of $5 million. In addition, Mr. Naseem is alleged to have tipped eight others. Mr. Naseem was also charged in a parallel criminal case, U.S. v. Naseem, Case No. 1:07-mj-UA-1 (S.D.N.Y. May 3, 2007).

The second case is based on the News Corp. acquisition of Dow Jones, which was announced on May 1, 2007. Seven days after the announcement, the Commission filed SEC v. Kan King Wong, Civil Action No. 07 Civ. 3628 (S.D.N.Y. Filed May 8, 2007). According to the complaint, the defendants are a married couple residing n Hong Kong. Between April 13th and 30th, they purchased 415,000 shares through their Merrill Lynch account in Hong Kong. Those purchases were paid for, in part, with funds wired from the father’s account at JP Morgan in Brussels. On May 4, the husband ordered the sale of the stock at a profit of $8.1 million. The SEC’s Complaint alleges that the couple traded while in the possession of material, non-public information, but does not describe how or from where they obtained that information. Instead, the Commission alleges that they engaged in “highly profitable and highly suspicious purchases.” The SEC obtained a freeze order over the account at the time the complaint was filed. This case is pending.

The third case involved Petco shares. It was brought on July 18, 2007, just four days after the animal supply company announced that it would be acquired. SEC v. One or More Unknown Purchases, Case No. 06 CV 11446 DMS (S.D. Cal. Filed July 18, 2007). According to the complaint, in June and July, the defendants purchased 1,400 call options in accounts in Switzerland and England. The options were out of the money and set to expire shortly. Following the acquisition announcement, the share price rose 43%. The SEC obtained a freeze order at the time the complaint was filed.

On August 3, the SEC amended its complaint, naming Taher Suterwalls as a defendant. The amended complaint claims that the defendant purchased call options through a Swiss financial institution. It also alleged that defendant purchased derivative instruments called spread bets through U.K. brokerages. This case is also pending.

The first test of whether sufficient evidence will be developed to prove these cases will come next month in New York. On December 10, 2007, U.S. v. Naseem, the criminal case based on the TXU takeover is scheduled for trial. The SEC clearly deserves significant credit for developing and bringing these cases in such a rapid fashion. The challenge now, however, is to prove them.