Jan 20, 2024 - Economy

The phone-transcript mystery in the Morgan Stanley block trading settlement

Illustration of a phone receiver placed in the two plates of justice scales

Illustration: Annelise Capossela/Axios

Morgan Stanley has agreed to pay $250 million after it emerged that the head of its block trading desk, Pawan Passi, had tipped off hedge funds to large upcoming sales — after explicitly promising his clients that he wouldn't do so.

Why it matters: The case sheds a tiny bit of light on how far the government will go when it's investigating a bank.

For the record: The statement of facts in the case includes multiple transcribed phone calls between Passi and hedge funds. But they weren't obtained easily. The wording is intriguing:

"These calls were not recorded by Morgan Stanley, nor did they take place on a regularly-recorded line, unless otherwise noted. Rather, the Government obtained the calls described below, as well as other calls in which Morgan Stanley employees discussed block trades, in the course of its investigation."

Between the lines: The behavior in question took place — by Passi's own admission — between 2018 and 2021. But Passi's damning transcribed phone calls took place at the very end of that date range, in May 2021 or later.

Be smart: The government doesn't say exactly how it obtained the calls. But there are a few possibilities.

  • It's possible that the government persuaded the hedge fund traders to record their calls with Passi — although it would be weird that they would then have been allowed to trade on the material non-public information they received.
  • If the hedge fund traders were on their desk phones, then it's also possible the government recorded those lines without the traders' knowledge — but with the knowledge and consent of the hedge fund's general counsel.

My thought bubble: The most likely explanation, however, is just that the government started by investigating suspicious trades by hedge funds. After the hedge funds came clean and told the investigators what Morgan Stanley was doing, that in turn was enough for the government to get a warrant to tap Passi's personal phone.

The intrigue: The statement of facts looks as though it describes pretty cut-and-dried insider trading at multiple hedge funds. But there's no sign of any settlements or charges. Even Passi avoids any criminal conviction — although he did forfeit $7.4 million in compensation.

The bottom line: Passi was smart enough not to put the confidential information in writing, or to talk about it on a regularly recorded line.

  • In a world where he was in New York and at least one of the hedge funds was in Nevada, however, an in-person meeting would have been impossible. And phones can always be tapped.
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