Thursday, December 18th, 2008

Taking Stock

United States v. Elgindy, No. 06-4081-cr (2d Cir. December 17, 2008) (Sack, Katzmann, CJJ, Rakoff, DJ)

Defendants Elgindy and Royer were convicted of securities fraud-based racketeering counts, as well as related extortion charges relating to a complex stock manipulation scheme. On appeal they challenged, inter alia, venue and the district court’s jury instructions on the securities fraud counts. The circuit affirmed.

The Scheme

In 1998, Elgindy started Pacific Equity, a company that provided information for stock investors. It had a publicly available website that published negative information about publicly traded stocks, while a subscriber-only site profited from this information by advising its subscribers to short-sell those same stocks. In 2000, Elgindy began receiving misappropriated negative law enforcement information about certain stocks from Royer, who was then an FBI agent. Elgindy would pass on this information to his subscribers and instruct them to short the stock before he made the information public. Then he would release the information to the public through his other website, and instruct his subscribers to release it through other public means, so that they could profit from the resulting drop in the stock’s price. In addition, Elgindy himself traded on and profited from the misappropriated information. Eventually, Royer left the FBI and began working directly for Elgindy. He continued to provide misappropriated information, however, using other law enforcement officers as his sources.

The defendants also used this set-up to commit extortion. At one point, they learned that a company’s CEO had been convicted of a drug felony that had been expunged. Elgindy described the CEO as a “three time felon” on the subscriber web site, and told him that he would not leave him alone unless the CEO gave him a discounted block of stock.


The defendants challenged the sufficiency of the evidence of Eastern District venue. Since they were charged with multiple counts, venue had to be in a district where all of the counts could be tried. Here, that standard was satisfied.

The there was Eastern District venue on the securities fraud counts because seven of the subscribers to Elgindy’s private website were located in that district, Elgindy sent hundreds of email messages to those subscribers containing Royer’s misappropriated information, and trades in the affected stocks were made by other investors residing in the Eastern District. While there was no “direct evidence” that Elgindy’s Eastern District subscribers themselves traded on the information, that was “of no moment.” Venue need only be proved by a preponderance, and “the jury could reasonably infer that it was more likely than not that one or more of these subscribers traded in the applicable securities.” Moreover, it was reasonable for the jury to find that Elgindy’s subscribers followed his instructions to disseminate information, which impacted the purchase of those stocks by non-subscribers who lived in the Eastern District.

These activities satisfied the “substantial contacts” test, which looks at the “site of the defendant’s acts, the elements and nature of the crime, the locus of the effect of the criminal conduct, and the suitability of the [venue] for accurate factfinding.”

These same Eastern District contacts also satisfied the racketeering and conspiracy counts.

As for the extortion counts, venue lay in the Eastern District for the similar reasons. Disseminating the fact that the CEO was a “three time felon” put downward pressure on the company’s stock, which in turn provided Elgindy with the ammunition to extort the CEO into giving stock Elgindy. Moreover, at least one of Elgindy’s Eastern District subscribers played an active role in those events.

The Securities Fraud Instructions

The defendants were convicted of securities fraud on two theories: that they unlawfully traded on material confidential information, and that they engaged in market manipulation.

For the first theory, they argued that the law enforcement information that Royer obtained was not “nonpublic,” since much of it was also publicly available. They claimed that it was error for the court to instruct the jury that “the fact that information may be found publicly if one knows where to look does not make the information ‘public’ for securities trading purposes unless it is readily available, broadly disseminated, or the like.”

The court found no error in this instruction. Borrowing from a Supreme Court case interpreting the Freedom of Information Act, it held that “[t]he law enforcement reports that Royer misappropriated were not themselves public in any practical sense, even if some of the sources from which they were compiled could be accessed by the public. Moreover, the manner in which law enforcement information was combined in the reports was itself nonpublic and helped inform its relevance for trading purposes.” The court did note, somewhat cryptically, however, that, “While the trial court’s instruction here given might not be universally appropriate, in the factual context of this case it correctly stated the relevant principles the jury needed to apply.”

As for market manipulation, the district court instructed the jury that the essence of the manipulation was “the deception of investors into believing that prices at which they purchase and sell securities are determined by the natural interplay of supply and demand,” and thus that “any conduct” that is “designed to deceive or defraud investors” by affecting the price of securities is prohibited. The defendants claimed that this was error because it permitted a conviction without a finding that the defendants “disseminated false information to the marketplace.”

But the relevant statute prohibits the use of “any manipulative or deceptive device or contrivance,” which the court held “extends to manipulation of all kinds, whether by making false statements or otherwise.” Here, the defendant “sought to artificially affect the prices of various securities by directing … subscribers to trade and disclose the negative information at times and in manners orchestrated by the defendants that were dictated not by market forces, but by defendants’ desire to manipulate the market for their own benefit.” This conduct “squarely meets the ordinary meaning of ‘manipulation.’”

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