Detecting and Quantifying Insider Trading - IA de Investigación especializada en el MIT

Detección y cuantificación del uso de información privilegiada
and Stock Manipulation in Asian Markets∗

Gishan Dissanaike
University of Cambridge
Judge Business School
Trumpington Street
Cambridge CB2 1AG, Reino Unido
g.dissanaike@jbs.cam.ac.uk

Kim-Hwa Lim
University of Cambridge
Judge Business School
Trumpington Street
Cambridge CB2 1AG, Reino Unido
y
Penang Institute
10 Brown Road
10350 Penang, Malasia
kh.lim@jbs.cam.ac.uk, limkimhwa@penanginstitute.org

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Abstracto
This paper focuses on insider trading, where the perpetrators exploit market sensitive information to
earn proﬁts or avoid losses. The paper’s objectives are as follows. Primero, we seek to examine whether
we can detect possible insider trading and stock manipulation and react in almost real time, incluso
though insider trading activity is intended to be evasive. Segundo, we also estimate the extent of il-
licit proﬁts (or loss avoidance) that might have been earned. Finalmente, we analyze, if detection is possible,
the appropriate response for regulators and other market participants. We do not restrict our study
to cases where corporate events have materialized, as we hope to capture insider trading surrounding
market rumors and failed corporate events. Because insider trading is executed with the aim of being
evasive and undetected, it is impossible to conclude with certainty. Sin embargo, using a hypothe-
sized model based on how insiders and stock manipulators trade, we detect price patterns that are
consistent with their objective to maximize proﬁts and at the same time be evasive.

1. Introducción

“Greed, for lack of a better word, is good.”

—Gordon Gekko, the main antagonist of the 1987 ﬁlm Wall Street

The ﬁlm mentioned in the epigraph revolves around insider trading and securities ma-
nipulation by Gordon Gekko, a ﬁctional character modeled loosely after Ivan Boesky and

∗ We are grateful to Donald Hanna, Naoyuki Yoshino, and Iikka Korhonen for their helpful

comments.

Asian Economic Papers 14:3

C(cid:3) 2015 by the Earth Institute at Columbia University and the Massachusetts

Institute of Technology

doi:10.1162/ASEP_a_00368

Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets

Michael Milken. In real life, Boesky and Milken were, respectivamente, ﬁned US$ 100m (about US$ 200m in today’s prices) en 1986 and US$ 600m (around US$ 1bn today) en 1990. El
magnitude of their ﬁnes indicates the amount of money involved in insider trading and
securities manipulation. Greed and the lure of big money have continued since, with re-
cent cases of insider trading and securities fraud in the United States such as Raj Rajarat-
nam in 2011, Angelo Mozilo in 2009, and Martha Stewart in 2004.

We take the mainstream view that insider trading is detrimental to the resource alloca-
tion mechanism of the market, is unjust, and distorts the integrity of the market. Mayoría
of the studies in the literature focus on legal insider trading where corporate insiders
(directors, company executives) trade their own stocks and such trades are reported to
the market.1

The type of insider trading undertaken by Gordon Gekko and company is illegal, cómo-
alguna vez, and is meant to manipulate stock prices for personal gain. Our paper focuses on the
Gordon Gekko type of insider trading and stock manipulation. The few studies in the
area of illegal insider trading tend to focus on speciﬁc corporate events, usually mergers
and acquisitions (METRO&A).2 We do not limit our study to cases of corporate events (METRO&A,
share repurchases, etc.) because this would exclude cases involving corporate events that
did not materialize or cases with price sensitive market rumors, which are outside the
purview of the regulators and are not reported by mainstream news providers.

Our research endeavor is challenging because illegal insider trades are difﬁcult to detect
since they are structured to evade the regulators and other market participants, and insid-
ers can be widely dispersed both geographically and in identity thanks to the prevalence
of online trading and the ease in opening such accounts using real, “borrowed,” or stolen
identidades. Además, the syndicates are usually close knit groups and difﬁcult to identify
and penetrate. There is also difﬁculty in collecting evidence because the spread of market-
manipulating rumours is usually through friends or via unregistered mobile phones,
avoiding ﬁxed line phones (which are recorded in banks). Por último, most rumors are not
reported in mainstream media or main ﬁnancial news providers such as Bloomberg and
Reuters, and hence data collection is difﬁcult.

1 Some examples from the existing literature include the relationship between legal insider trading
and subsequent stock returns (Lakonishok and Lee 2001), accounting restatements (Badertscher,
Hribar, and Jenkins 2011), earnings management (Ke, Huddart, and Petroni 2003), mispricing (Alí,
Wei, and Zhou 2011), news announcements (Korczak, Korczak, and Lasfer 2010), or the effect of
the Sarbanes-Oxley Act (Brochet 2010).

2 Bris (2005) studies insiders’ behavior before tender offer announcements across many markets
entre 1990 y 1999. Rey (2009) analyzes insider trading around Canadian takeovers, y
Meulbroek and Hart (1997) focus on U.S. takeover premia in cases of insider trading.

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Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets

The aforementioned insider trading cases came to light because of the amount of money
involved, the extent of evidence collected through wire taps, the use of witnesses as
part of their plea bargain, and the degree of resources devoted by the U.S. Securities
and Exchange Commission to these cases. Incluso entonces, most cases result in out-of-court
settlements—a ﬁne instead of a conviction.3 To increase the chance of detecting in-
sider trading and stock manipulation, we focus on Asian markets as these markets are
similar to the U.S. markets in that insider trading is illegal in all these countries. asiático
regulators are less likely to pursue enforcement and detection, sin embargo, due to lack of
resources. There is a lower incentive to reveal insider trading because there are fewer
whistle blower/witness protection regulations,4 and insider trading is much more “ac-
ceptable” thanks to the importance of personal relationships in Asian culture5 and thus
less likely to be pursued legally. Además, equities are the easiest and most liquid in-
strument to express a bullish or bearish view since other instruments such as options
and convertible bonds are not widely traded.6 At the same time, the penalty for insider
trading is less stiff (p.ej., in Japan, the worst penalty a court can hand down under the
civil procedure prior to its revision in June 2013 is the offender’s return of trading proﬁts
to the shareholders of the listed company). But Asia has become more integrated7 and
most Asian investors have a strong home bias. Por lo tanto, such behavior should be more
prevalent in Asian markets, which is supported by anecdotal evidence from non-Asian-
based fund managers that indicates pervasive insider trading and stock manipulation
in Asia.

This paper has three objectives. Primero, we seek to examine whether we can detect possi-
ble insider trading and stock manipulation and react in an almost real-time manner, incluso
though this activity is intended to evade market participants and regulators. Being able to
react in a close to real time manner is important so that remedial actions can be taken. Sec-
ond, we aim to estimate the extent of illicit proﬁts that might have been earned. Finalmente,
if detection is possible, we also analyze the appropriate response of the regulators and
other market participants. This paper is signiﬁcant because it is, a nuestro conocimiento, el

3 Por ejemplo, most UK cases are civil actions that encourage defendants to settle without going
to trial. The difﬁculties in onus of proof implies that criminal prosecutions are reserved for the
big scandals.

4 The environment in the United States is more conducive to whistleblowers to assist in the inves-
titigaciones. Por ejemplo, defendants in insider trading cases who agree to cooperate with investi-
gators, pay ﬁnes, or implement corporate reforms have charges against them dismissed if they
fully comply.

5 Por ejemplo, Liu, Wang, and Zhang (2013) ﬁnd that Chinese ﬁrms with political connections have

a greater probability of engaging in M&Como.

6 A NOSOTROS. studies have found that informed insider traders might prefer to use the options market to

capitalize on their private information (Chakravarty, Gulen, and Mayhew 2004).

7 Chen and Woo (2010) ﬁnd that trade and investment integration increased between 1990 y 2000,

weakened slightly to 2003, and has since picked up again.

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Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets

ﬁrst attempt to model the behavior of insider trading and stock manipulation without
restriction to corporate events that have materialized, and to empirically answer the
three objectives.

Setting the null hypothesis as the return on the stock is equal to that of the market port-
folio, we hypothesize a model using the typical pattern of insider dealing and stock ma-
nipulation, whereby stock prices fall regularly as insiders short the stock prior to some
negative news (such as a secondary equity offering); or stock prices rise constantly with-
out any news as insiders build up long positions and prior to a positive event (p.ej., a spe-
cial dividend or an M&A). Subsequent to the rise or fall, we hypothesize that the insider
will liquidate the position to maximize proﬁts and then the stock may revert to its long-
term price. Through such a stock price pattern and trading, the insider will be able to
front-run other market participants, extract illicit proﬁts, and outperform the market.

We recognize that it is impossible to detect and conclude that insider trading or stock ma-
nipulation has occurred with certainty. Based on our hypothesized model, sin embargo, nosotros
detect a certain price pattern that is consistent with what an insider or stock manipula-
tor may want to achieve. Setting the null hypothesis as the return on the stock is equal to
that of the market portfolio, we test and ﬁnd that an insider who practices stock manipu-
lation in our hypothesized manner: 1) will outperform the market; y 2) may earn illicit
proﬁts or avoid losses that amount to a mean daily return of 0.61223 por ciento (before trans-
action costs) across 12 markets in Asia between 1997 y 2010 (this daily return translates
to an annualized return of 366 percent per year). We also ﬁnd that 3) market participants
who are alert to possible insider trading can react in an almost real time manner: Reg-
ulators can initiate investigations and investors can capitalize on the hidden news and
price changes while companies can make the necessary market disclosures. Over time,
this should reduce the proﬁtability of engaging in insider trading and stock manipulation.

Our results are robust to market directions, company characteristics such as stock market
capitalization and liquidity, trading style, and aggressiveness of the investor. lo implícito-
cation of our ﬁndings is that regulators need to devote more resources to surveillance and
enforcement and support more research work in this area; investors need to be more alert;
and companies should be more careful in handling market sensitive information to avoid
information leakage.

This paper is organized as follows: Sección 2 presents our hypothesized detection model;
Sección 3 describes our methodology, datos, and analysis of the results from our hypoth-
esized model; Sección 4 reports some robustness tests; y Sección 5 concludes with the
key implications for the main market participants—regulators, sophisticated and na¨ıve
investors, as well as companies.

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Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets

Cifra 1. Phases to our hypothesized insider trading stock price pattern

Fuente: Authors’ calculation.

2. Hypothesis development

We believe the insider and stock manipulator’s aim is to beat the market and max-
imize proﬁts. Por lo tanto, we set the null hypothesis to be the return equal to the
market portfolio return. To maximize proﬁts, the insider would want to buy in
before the price rises or when the stock price starts to increase—then liquidate
the positions almost at the peak before the price falls. This must be achieved sub-
ject to a few conditions such as being able to evade the regulators, to not star-
tle the market nor to alert other market participants, and to not exhaust their
own resources.

We hypothesize that there are four phases to price manipulation and insider trading
(Stealth, Awareness, Liquidation, and Enlightenment; ver figura 1), which if true, would
beat the null hypothesis of zero abnormal performance. To simplify, we describe our
hypothesis using the case when prices are manipulated upwards (the reverse is true for
downwards manipulation).

2.1 Stealth phase

At this stage, insiders buy the stock but keep their total positions below the disclosure
limit. The increase in position must not result in drastic and obvious price changes and it
has to be safe from attracting the attention of the regulator or other market participants.
Por lo tanto, prices are closing higher daily but the closing price must not be signiﬁcantly
higher than its usual past price. The volume traded must also be close to the norm.

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Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets

2.2 Awareness phase

At the earlier stage, rumors start to circulate due to insiders spreading rumors or an in-
crease in market knowledge of inside information. Por lo tanto, the volume traded will start
to rise above average as alert investors buy in. The gradual increase in prices will soon
become more intense as investors rebalance their portfolios and short positions on the
stock are bought back. Toward the end of this phase, there may be parabolic price rises
as investors jump onto the bandwagon and the media may report on the rumors and the
dramatic price increases.

2.3 Liquidation phase

As rumors become more prevalent and inside information is leaked to a wider audience,
the regulators may make inquiries. The company may be forced to issue an ofﬁcial denial
of the rumor(s) or conﬁrmation of the event. With the new information, whether sub-
stantiated or rumored, analysts may revise their estimates and investors rebalance their
portfolios. The mainstream media starts to report the stock widely and the stock enjoys
maximum publicity. The insiders ﬁnd this to be an opportune moment to exit for maxi-
mum proﬁts as both the volume traded and prices are high.

2.4 Enlightenment phase
Liquidation by insiders needs to be gradual so as not to cause prices to crash. Na¨ıve and
other investors that are not part of the insider syndicate will not exit their positions and
will hold on to their positions, hoping that the fall in process is a temporary hiatus. Este
may be due to their being overly hopeful of the company’s prospects, or being blinded by
the rumors or overconﬁdent of their ability to readjust their perceptions to the new reali-
corbatas. Such behavior is consistent with cognitive psychology in that individuals base their
decision excessively on recent historical data and do not fully acknowledge the uncertain-
ties of the future (Tversky and Kahneman 1992). The media and the company involved
may put undue emphasis on the signiﬁcance of the M&A or divestment event. Over time,
sin embargo, price and volume traded will start to drift lower and fall toward their long term
significar.

3. Metodología, data description, and test results

We test our hypothesis against the null hypothesis that returns are equal to that of the
market. We initiate long or short positions after receiving a trigger and replicate the trade
as if we are the insider. If our hypothesis as depicted in Figure 1 is correct, we will then
be able to generate positive returns over and above the market, which acts as the con-
trol group. To quantify the returns, we will build up $1 in the long or short position, and gradually liquidate the position as if we are insiders with full knowledge of the manipu- lación. We use Figure 2 to illustrate the proﬁle of our position. After receiving a bullish trigger on day 0, we commit $0.50 per day on day 1 and day 2 to buy into the stock,

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Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets

Cifra 2. Illustration of a long position proﬁle

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Fuente: Authors’ calculation.

resulting in a long position of $1. Then we hold the position for ﬁve days and gradually liquidate a tenth of the long position over the next ten days. F / / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . We adopt this method so that we can react the following day once we detect possible in- sider trading. The bullish/bearish triggers under the three different phases are computed differently and likewise our position’s proﬁle (entry/held/liquidation days) are different. Because we use price and volume data, our triggers are not conditional to other corpo- rate events. Por eso, we will be able to capture market rumors as well as corporate events that have and have not materialized. We will use the case when prices are manipulated upward to show the trading proﬁle. f por invitado 0 8 septiembre 2 0 2 3 Because we want to mimic how the insider trades, our trading direction must be in the same direction as the insider. So if we detect upward price manipulation during the Stealth and Awareness phases when the insider is taking a long position, we will also buy the stock but at different speed. As shown in Figure 3, because the Stealth phase is at the early stage of manipulation, we can afford to enter into position slowly, hold it longer, and liquidate our position gradually (see solid line with asterisks). If we only detect 7 Asian Economic Papers Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets Figure 3. Trading proﬁles depending on when we detect upward price manipulation l D o w n o a d e d f r o m h t t p : / / directo . mi t . / e d u a s e p a r t i c e – pd / l f / / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . f por invitado 0 8 septiembre 2 0 2 3 Fuente: Authors’ calculation. Nota: Trading proﬁles to build up position when we detect upward price manipulation during Stealth (solid line), Awareness (solid line with asterisks) and Liquidation (dashed line) phases. upward price manipulation at the Awareness phase, sin embargo, we will need to get into position quickly, and hold it brieﬂy before clearing off our position (solid line). But if we only manage to detect the upward price manipulation at the liquidation phase when in- siders are exiting the long position, we must quickly take a short position and slowly buy back the stock as we have not bought into the stock previously and we hypothesize that prices will fall (see the dashed line in Figure 3). De este modo, depending on when we manage to detect the upward price manipulation, the trading proﬁles will be different. The opposite position proﬁle will hold for downward price manipulation. Our testing sample includes all constituents of the major indices from Japan, Australia, South Korea, Taiwán, Singapur, Hong Kong, Malasia, Tailandia, the Philippines, En- donesia, Porcelana, and India.8 This amounts to around 2,010 companies. The data span from 8 The indices, following the sequence of the countries as listed, are respectively: TOPIX 500, S&P/ASX 200, KOSPI 200, MSCI Taiwan, Singapore Straits Times index, Hang Seng Compos- ite Index, Bursa Malaysia KLCI, Thailand SET 50, the Philippines Stock Exchange PSEi (formerly named PSE Composite), Jakarta LQ45, Shanghai/Shenzhen CSI 300, and BSE 200. 8 Asian Economic Papers Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets Table 1. Stealth and awareness phase results Stealth Awareness Awareness, conditional on being detected during Stealth Awareness, conditional on being detected during Stealth—Illicit proﬁts and loss avoidance 60,299 39,209 4,192 4,192 0.84 16.9 30.0 36630 23669 10 5 20 75.64 61.05 300.56 285.20 1.790 2.573 43.74 0.015 0.55 11.0 19.5 24430 14779 1 5 5 25.86 25.40 104.42 98.00 4.466 5.907 107.50 0.016 0.06 1.2 2.1 2886 1306 1 5 5 4.29 3.00 11.21 9.20 7.256 7.946 161.14 0.009 0.06 1.2 2.1 2886 1306 6 10 5 7.74 5.77 20.45 17.27 61.223 53.797 133.63 0.000 Number of triggers % of transaction days Mean triggers per day Mean triggers per stock Long triggers Short triggers Days to enter position Days holding the position Days to liquidate position Mean net position (US$)
Median net position (US$) Mean gross position (US$)
Median gross position (US$) Daily return: significar (bps) median (bps) std deviation (bps) t test p-value Source: Authors’ calculation. Nota: The triggers are generated when the stocks satisfy certain bullish and bearish conditions as described in the main text. We initiate the $1 long/short positions by entering/holding and liquidating the position linearly over days as described. Daily return
is calculated based on the proﬁt divided by the gross exposure (long plus absolute of short). bps = one hundredth of a percent.

1 Enero 1997 a 31 Agosto 2010. Opening prices, closing prices, day’s high, day’s low,
volumen, and market capitalization are sourced from Datastream. We ﬁlter our data set to
exclude stocks with market capitalization less than US$ 50m, stocks with average daily volume traded in the past 40 days less than US$ 0.5m, and stocks with closing prices less
than US$ 0.50. The ﬁrst two ﬁlters are to avoid low liquidity and small stocks that can be easily manipulated, and the latter ﬁlter avoids low-priced stocks that may suffer from bid–ask bounces. l D o w n o a d e desde h t t p : / / directo . mi t . / e d u a s e p a r t i c e – pd / l f / / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . 3.1 Stealth phase Unless one is part of the insider syndicate, one cannot know a priori which stock will be manipulated. Por lo tanto, we expect this phase to be the least detectable as the insider will want to build up the long or short position stealthily. Por eso, in a bullish circumstance, the trade volume and opening, alto, bajo, and closing prices for the day are likely to be higher than the mean of the data for the past ﬁve days. Although the price return is posi- tivo, to avoid being too obvious and alerting others, the insiders must not buy too aggres- sively. Por eso, the mean past ﬁve days’ data are still less than the past 20 days’ data. If all these conditions are fulﬁlled, then it is a bullish trigger. The reverse conditions apply in a bearish case. f por invitado 0 8 septiembre 2 0 2 3 The ﬁrst column in Table 1 reports our detection during the Stealth phase. We ﬁnd that between 1997 y 2010, Había 60,299 (36,630 bullish and 23,669 bearish) triggers where insiders may be stealthily taking long/short positions among the 2,010 companies 9 Asian Economic Papers Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets (acerca de 0.84 percent of the transaction days). Over the period, the mean daily occurrence is across 16.9 companies; the mean occurrence per stock is 30 veces (about twice annually). Because the Stealth phase is at the beginning of stock manipulation, we can afford to build our position slowly and linearly over ten days, and then hold the position for ﬁve days before liquidating linearly over 20 días. The ﬁrst column in Table 1 shows that the median daily gross (long plus absolute short) position held is US$ 285.20, with a bias towards being net long (median of US$ 61.05 a diario). This is unsurprising as we expect insiders can trade easier on a bullish signal and that it is more difﬁcult to manipulate prices downward because there are short sale restrictions—no naked short-selling allowed, short-selling must be pre-borrowed, corto- selling is only allowed for certain stocks, and some markets have only allowed short- selling during the later period of our analysis. Además, Asian markets enjoyed a bull market for a period prior to the 2008–09 global ﬁnancial crisis. By trading (entering/holding/liquidating the position) in this manner during the Stealth phase, the ﬁrst column in Table 1 shows that the mean and median daily returns are 1.790 bps and 2.573 bps, respectivamente (1 bps is a hundredth of a percent). The daily return is calculated based on the proﬁt for the day divided by the gross position for the day. To test if the triggers during the Stealth phase will beat our null hypothesis of zero abnormal performance, we also invest the equivalent gross position in the market index, thereby having a benchmark return from the same level of gross exposure, which also acts as our control return. Cifra 4 shows the cumulative proﬁt if we trade using the hypothesized manner by in- siders (black line) and the cumulative proﬁt from the market indices (dashed line). We ﬁnd that although the triggers generated from our hypothesized manner yield small re- turns (annualized to 4.6 percent per year), they outperform the market cumulatively over the period. 3.2 Awareness phase In this phase, we hypothesize that the price movements have attracted the attention of other participants and they are rebalancing their portfolios accordingly. We expect it to be more detectable than during the Stealth phase. In a bullish case, it is detectable with the opening prices being higher than the previous two days’ and previous day’s open- En g, closing, and high prices. Asimismo, the high and low prices for the day are also higher than the previous two days’ and the previous day’s high and low prices. The closing price is also higher than the mean past ﬁve days’ closing price, with the mean of the previous ﬁve days’ closing price also being higher than the mean of the previous 20 days’ clos- ing price. The average return over the past ﬁve days is also positive. Such optimism is reﬂected in the volume being 50 percent more than the mean past 20 y 200 days’ vol- ume. The reverse idea applies in a bearish case. 10 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / directo . mi t . / e d u a s e p a r t i c e – pd / l f / / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . f por invitado 0 8 septiembre 2 0 2 3 Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets Figure 4. Stealth phase: Cumulative proﬁt and loss from the hypothesized model vs. market return (null hypothesis) l D o w n o a d e desde h t t p : / / directo . mi t . / e d u a s e p a r t i c e – pd / l f / Fuente: Authors’ calculation. Nota: The dashed line represents the proﬁt and loss cumulated from investing the gross exposure (long plus absolute short) in the mar- ket indices and the black line represents the proﬁt and loss cumulated from taking a long or short position hypothesized to be executed by insiders. / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . The second column in Table 1 shows that there were 39,209 (24,430 bullish and 14,779 bearish) triggers during the 14 years of this study. As we detected this during the Aware- ness phase, we enter our $1 long or short quickly within a day of receiving the signal;
hold it over ﬁve days before liquidating linearly over the next ﬁve days. Consistent with
our expectation that in the Awareness phase the triggers are more detectable and, albeit
a lower number, they are more informative and generate higher mean and median daily
return (4.466 bps and 5.907 bps respectively; second column in Table 1). The higher re-
doblar, annualized to 12 percent per year, is mainly because the triggers initiate positions
that latch on to the rapid price change during the Awareness phase as shown in Figure 1.
This is also conﬁrmed in Figure 5 where the cumulative proﬁts from our hypothesized in-
sider trading model beat a similar investment in the market indices. Due to fewer triggers,
the second column in Table 1 shows that the capital requirement is lower with the median
daily gross exposure falling to US$ 98.00 and the median daily net long position falling to US$ 25.40 as compared to the Stealth phase.

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Cifra 5. Awareness phase: Cumulative proﬁt and loss from the hypothesized model vs. market
return (null hypothesis)

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Fuente: Authors’ calculation.

Nota: The dashed line represents the proﬁt and loss cumulated from investing the gross exposure (long plus absolute short) in the mar-

ket indices and the black line represents the proﬁt and loss cumulated from taking a long or short position hypothesized to be executed

by insiders.

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The triggers in the Awareness phase were calculated independent of the triggers dur-
ing the Stealth phase, meaning that the triggers do not consider any detection during the
Stealth phase. We now calculate the triggers in the Awareness phase to be conditional
upon being detected in the Stealth phase as well. Por lo tanto, we would initiate long/short
positions during the Awareness phase only if we have also detected suspicious signals in
the same direction during the Stealth phase.

The third column in Table 1 shows that being stricter in our analysis generates fewer
triggers (4,192 triggers) with lower capital requirement (median daily gross exposure of
US$ 9.20). Sin embargo, the fewer signals are more informative. The mean and median daily return improves to 7.256 bps and 7.946 bps, respectivamente, and outperformed the market (ver figura 6). The signiﬁcance of this detection is that, an outsider who managed to de- tect the suspicious price activity during the Stealth phase and conﬁrmed it again by the 12 Asian Economic Papers Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets Figure 6. Awareness phase, conditional on being detected during Stealth phase: Cumulative proﬁt and loss from the hypothesized model vs. market return (null hypothesis) l D o w n o a d e desde h t t p : / / directo . mi t . / e d u a s e p a r t i c e – pd / l f / Fuente: Authors’ calculation. Nota: The dashed line represents the proﬁt and loss cumulated from investing the gross exposure (long plus absolute short) in the mar- ket indices and the black line represents the proﬁt and loss cumulated from taking a long or short position hypothesized to be executed by insiders. / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . suspicious signal during the Awareness phase, can join in, yielding an annualized return of 20 por ciento. Por lo tanto, by combining the information collected in the Stealth and Awareness phases, we believe we are detecting cases where the insider has stealthily taken a position ahead of the dissemination of the price-sensitive rumor or event news, which occurred during the Awareness phase. The third column in Table 1 shows that the frequency of such stock manipulation is low—on average 1.2 cases per day. De este modo, we believe we are focusing on those cases with a higher likelihood of actually being manipulated. f por invitado 0 8 septiembre 2 0 2 3 To get an idea of the potential illicit proﬁts being earned and losses being avoided by the insider on these particular cases, we would initiate the long or short positions as if we are the insiders after we have detected the triggers in the Stealth phase. The last column in Table 1 shows that for these 4,192 casos, the mean and median daily returns increase 13 Asian Economic Papers Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets signiﬁcantly to 61.223 bps and 53.797 bps, respectivamente. Assuming that the insider adopts a similar trading proﬁle of entering, tenencia, and liquidating the position as we do, this daily return gives an estimate of the illicit proﬁts being earned. A mean daily return of 61.223 bps translates to an annualized return of 366 percent per year. 3.3 Liquidation phase We hypothesize that during this phase, the inside information has become common news and the rumors have been conﬁrmed or denied by the company. The insider believes that the prices have reached the highest or lowest and the stock is now traded actively. Allá- delantero, it is an opportune time to exit with maximum proﬁts and minimal price impact. We detect the end of a bullish case when mean opening, closing, alto, and low prices for the past 40 days are higher than the same previous 100 days’ data, but the mean past 5 days’ data are lower than the mean past 20 days’ data and the day’s data is also lower than the mean previous 5 days’ data. Prices have fallen for the day compared with 5 days ago but remain higher compared with 20 o 40 days ago. Therefore this points to the end of the bull run. The lack of further upward price impetus is also backed up by elevated but diminishing trading activity with the mean ﬁve days’ volume being less than 150 por- cent but remain more than 120 percent of the previous 20 days’ volume; and the day’s vol- ume is less than 120 percent of the previous ﬁve days’ volume. The reverse idea applies at the end of a bearish case. The ﬁrst column of Table 2 shows that there were 4,049 triggers (2,330 bullish and 1,719 bearish), with an average of 1.1 triggers per day and two triggers per stock over 14 años. Because insiders are exiting their long positions by selling down, so we must also sell. Ser- cause we only detected the trigger at this point and we do not have a long position, this will result in a short position. Por lo tanto, although receiving a bullish signal, we will initi- ate a short position quickly within a day and gradually buy back the stock over the subse- quent 40 días. Trading this way would yield mean and median returns of −2.638 bps and −0.750 bps, respectivamente. Cifra 7 shows the cumulative proﬁt and loss. The returns are negative, and match the market initially but underperform the market after 2006. Yield- ing a negative return on a short position implies that stock prices have continued to rise. Sin embargo, because it is a small negative return (statistically not signiﬁcant at 5 percent— see ﬁrst column in Table 2), it shows that stock prices are not reverting and are plateau- En g. Por eso, we believe that the insiders are likely to have exited almost at the top/bottom of the price cycle. Similar to the earlier analysis in the Awareness phase, we also condition our Liquidation phase triggers to be detected in the Awareness phase; and at the Awareness and in the earlier Stealth phase. The second and third columns of Table 2 show that this will result in fewer triggers (1,362 y 435 triggers, respectivamente) and a largely similar returns proﬁle 14 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / directo . mi t . / e d u a s e p a r t i c e – pd / l f / / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . f por invitado 0 8 septiembre 2 0 2 3 Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets l a n o i t i d n o c , n o i t a d i u q i L g n i e b n o l a n o i t i d n o c , n o i t a d i u q i L d n a s s e n e r a w A g n i r u d s t ﬁ o r p t i c i l l I — h t l a e t S e c n a d i o v a s s o l d n a d e t c e t e d g n i e b n o 1 0 . 0 1 . 0 2 . 0 5 3 4 5 1 3 0 2 1 6 2 5 2 0 4 7 6 . 3 0 5 . 1 8 0 . 8 8 3 . 5 2 5 2 . 4 1 9 9 4 . 3 1 0 0 0 . 0 5 1 . 1 3 1 t i c i l l I — s s e n e r a w A g n i r u d d e t c e t e d s s o l d n a s t ﬁ o r p e c n a d i o v a % 2 0 . 0 4 . 0 7 . 0 2 6 3 , 1 0 5 . 7 7 4 . 3 2 6 . 4 2 3 1 . 0 2 2 1 1 . 2 1 4 6 7 . 1 1 8 8 . 5 9 0 0 0 . 0 8 8 8 4 7 4 6 2 5 2 0 4 n o l a n o i t i d n o c d e t c e t e d g n i e b h t l a e t S g n i r u d s s e n e r a w A d n a , n o i t a d i u q i L n o l a n o i t i d n o c d e t c e t e d g n i e b , n o i t a d i u q i L s s e n e r a w A g n i r u d n o i t a d i u q i L s t l u s e r e s a h p n o i t a d i u q i L . 2 e l b a T 2 6 3 , 1 9 4 0 , 4 1 0 . 0 1 . 0 2 . 0 5 3 4 1 0 0 2 1 5 1 3 4 4 . 1 − 0 7 . 0 − 0 4 2 0 . 0 4 . 0 7 . 0 1 0 4 7 4 8 8 8 8 7 . 2 − 3 1 . 1 − 0 4 3 2 . 3 3 1 . 9 3 9 . 1 4 1 7 . 2 − 7 0 1 . 3 − 5 2 . 7 1 6 2 . 3 − 9 8 4 . 4 − 2 1 4 . 0 2 2 . 6 7 1 4 5 1 . 0 8 0 . 9 2 1 4 8 0 . 0 9 7 . 9 8 6 0 . 0 1 . 1 0 . 2 0 8 . 3 8 5 . 2 8 8 . 4 2 1 0 0 4 0 3 3 2 9 1 7 1 3 2 . 9 1 8 3 6 . 0 5 7 . 2 − 0 − k c o t s y a d r e p r e p s r e g g i r t n a e M s r e g g i r t n a e M s y a d n o i t c a s n a r t f o % s r e g g i r t f o r e b m u N s r e g g i r t g n o L s r e g g i r t t r o h S n o i t i s o p e h t g n i d l o h n o i t i s o p e t a d u q i l i o t n o i t i s o p r e t n e o t s y a D s y a D s y a D ) $
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Cifra 7. Liquidation phase: Cumulative proﬁt and loss from the hypothesized model vs. market
return (null hypothesis)

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Nota: The dashed line represents the proﬁt and loss cumulated from investing the gross exposure (long plus absolute short) in the mar-

ket indices and the black line represents the proﬁt and loss cumulated from taking a long or short position hypothesized to be executed

by insiders.

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(mean of −3.261 bps and −2.714 bps, and statistically not signiﬁcant). Our results in the
ﬁrst three columns of Table 2 show that our hypothesized triggers are not successful in
detecting prices falling after being manipulated upwards, nor prices rising after being
manipulated downwards.

The results from Table 2 imply that insiders have already creamed off the best returns,
leaving na¨ıve investors to reap the average 2.638 bps return with a high standard devi-
ación (since the na¨ıve investors would be adopting the opposite trading proﬁle to us).
Además, there are other participants, who are unaware of the price manipulation or suf-
fer from behavioral biases, taking the opposite position to us. Finalmente, it also implies that
detecting turning points in trend using only price and volume data has limited power.

For sake of completeness, using the same cases, we also estimate the illicit proﬁts as if
we know the insider is exiting his position during the Liquidation phase but has entered

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the position during the Awareness or Stealth phases. In an upward price manipulation
caso, the insiders are building long positions during the Awareness or Stealth phases
before exiting during the Liquidation phase. Therefore we mimic this by also build-
ing a long position in the earlier phases and then exiting in the Liquidation phase. Nosotros
therefore need not take the short position when we only detect a suspicious signal at the
Liquidation phase.

Our results in the fourth and ﬁfth columns of Table 2 show that the daily mean / median
returns to be 12.112 bps / 11.764 bps and 14.252 bps / 13.499 bps, respectivamente. These rep-
resent the illicit proﬁts when insiders trade in during the Awareness and Stealth phases,
respectivamente, and trade out during the Liquidation phase as detected purely using the con-
ditions in the Liquidation phase. The returns, though lower compared with the fourth
column in Table 1, still annualizes to a respectable 35 a 43 percent per year.

En resumen, we have shown in this section a certain price pattern that is consistent with
our hypothesis of what an insider or stock manipulator may want to achieve. We show
that if a stock manipulator trades in a similar pattern, he would outperform the market
as well as extract illicit proﬁts or avoid losses that may amount to a mean daily return of
0.61223 por ciento (annualizing to 366 percent per year). For outsiders who managed to de-
tect the suspicious signals at the Stealth and then at the Awareness phase, they can also
extract a mean daily return of 0.07256 por ciento (annualizing to 20 percent per year). Allá-
delantero, it is imperative for regulators to be more alert to the possible price manipulations.

4. Robustness tests

We subject our results to robustness tests in this section. We focus on the Stealth and
Awareness phases, where most of the proﬁts accrue.

4.1 Can our hypothesized model detect such behavior in large and liquid stocks?

A priori, we expect smaller and less liquid stocks to be more easily manipulated. En nuestro
main analysis, we excluded small (market capitalization less than US$ 50m), illiquid (av- erage daily volume in the past 40 days less than US$ 0.5m) and low priced stocks (closing
price less than US$ 0.50). These ﬁlters may be insufﬁcient, sin embargo. We therefore re-ran our analysis to focus only on stocks exceeding US$ 500m market capitalization and with
average daily volume in the past 40 days exceeding US$ 5m. Our reduced sample yields results similar to our main ﬁndings, albeit with fewer in- stances of possible insider trading. Consistent with expectations, the mean and median daily returns are lower than our main results in Table 1. Sin embargo, we ﬁnd that the in- siders may still be able to extract signiﬁcant proﬁts or avoid losses that average 58.535 bps daily (results not shown). An alert outsider who has spotted suspicious trading patterns 17 Asian Economic Papers l D o w n o a d e d f r o m h t t p : / / directo . mi t . / e d u a s e p a r t i c e – pd / l f / / / / / 1 4 3 1 1 6 8 4 3 9 4 a s e p _ a _ 0 0 3 6 8 pd . f por invitado 0 8 septiembre 2 0 2 3 Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets in the Stealth and Awareness phases may also be able to enjoy an average 4.867 bps return daily (results not shown). 4.2 Removing the liquidity, tamaño, and price ﬁlters because the stocks are constituents of the main benchmark in each country The 12 indices are the ﬂagship/benchmark indices of the respective markets. So to gauge the prevalence of insider trading and stock manipulation throughout Asia and to increase the power of our tests, we do not impose any size and liquidity ﬁlters and re-run our analysis. Unreported results from our enlarged sample indicate ﬁndings that are stronger and consistent with our main ﬁndings in Table 1. 4.3 How much does the market direction affect our conclusion? In our main results in Tables 1 y 2, we notice that the mean net position is positive be- cause there were more long/bullish triggers than short/bearish triggers. Este, coupled with the general upward trend of the markets, may skew our returns upwards and give a false impression of the power of our hypothesized model in detecting stock manipula- ción. We did not neutralize this effect in the main analysis because in most of the markets there are short-sale restrictions and short-selling introduces additional costs and risks to the stock manipulator in a generally upward trending market. Besides, it is also easier to spread positive rumors to manipulate prices upwards. A further justiﬁcation for not neutralizing the net long exposure is because there are days when only long or only short triggers were detected. On those days, there is no way of neutralizing this effect apart from deleting the triggers, although deletion will eliminate useful information and reduce the power of our analysis. Sin embargo, we re-ran our analysis using market neutral positions. We neutralize the net long (or short) position by proportionally reducing all the long (or short) positions for that day by the amount of the net exposure. Por ejemplo, si, on a certain day, the total long and short positions are $100 y $90 respectivamente, we obtain our market neutral ex-
posure by reducing each long position by 10 por ciento. Our additional tests show that our
main ﬁndings remain robust. Adopting strictly a market neutral position (zero net posi-
ción) at all times, our unreported results show that the mean and median daily returns fall
slightly compared with Table 1. This is expected because the overall markets were trend-
ing upwards. Sin embargo, the main crux of our analysis remains.

4.4 Are the results robust to alternative trading proﬁles (number of entering,

tenencia, and liquidating days)?

We hypothesized that insiders and stock manipulators trade in a certain way and, to esti-
mate the amount of illicit proﬁts or loss avoidance, we create our position with our trad-
ing proﬁle (days entering, tenencia, and liquidating the position). Sin embargo, this proﬁle is
just our conjecture and not all insiders have the same trading style as us. For each column

Asian Economic Papers

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Detecting and Quantifying Insider Trading and Stock Manipulation in Asian Markets

of results reported in Tables 1 y 2, we undertook eight alternative trading proﬁles. Nuestro
unreported results show that although there are alternative trading proﬁles that would
yield higher returns, our main ﬁndings are valid and robust.

5. Conclusión

This paper focuses on insider trading where perpetrators exploit market-sensitive infor-
mation to earn proﬁts or avoid losses. Our paper seeks to examine the detection of possi-
ble insider trading and stock manipulation and react in an almost real time manner, incluso
though this activity is intended to evade market participants and the regulators, así como
to estimate the extent of illicit proﬁts that might have been earned. Finalmente, we also exam-
ine what response, if detection is possible, other market participants should make.

Setting the null hypothesis as the market return, using a hypothesized model based on
how insiders and stock manipulators might trade, we detect price patterns that are con-
sistent with their objective to maximize proﬁts. Using our hypothesized model, nosotros también
estimate that insiders avoid losses and earn proﬁts with a mean daily return of 0.61223
por ciento (annualized to 336 percent per year) and that such insider trading outperforms
the market.

With the lure of such high returns, insider trading and stock manipulation is likely to
continue and market participants have to respond accordingly. Regulators need to de-
vote more resources and support more research work in this area. Unless one is part of
el (ilegal) stock manipulation syndicate, investors can only detect this phenomenon in
the Awareness phase when prices have been moved by the rumors or news, and from
that point respond depending on their level of investment sophistication. Finalmente, compa-
nies have to be more careful in the dissemination of market-sensitive information even to
authorized personnel to avoid information leakage.

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