Reg FD: When the Cure Is Worse Than the Disease By James J. Cramer 8/27/01 1:57 PM ET

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Maria Bartiromo and I argued this morning on CNBC about an issue we both feel passionate about: Regulation FD. Maria took the "defend the little guy at all costs" stance and I took a stance that says professionals who do homework should not be penalized by a rule that shuts down all access to management.

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Let me be clear at the beginning: Material insider information -- that is, information that would impact earnings by a significant (10%) amount -- should not be leaked to anybody. But the Reg FD debate was never and is not about insider information. People always seem to confuse this issue: If you are or have been in receipt of material insider information you are and have been frozen; you can't trade. It is illegal to trade on insider information. Period.

But there was plenty of other information that the U.S. courts allowed investors to get and trade off of freely. Twenty years ago, in the case known as U.S. v. Dirks, the Supreme Court created a "homework exception" to the securities laws that allowed investors to develop a mosaic of data -- including regular conversations with company managements -- to create an informed opinion of a security.

Reg FD was meant to stop material insider information from being spoon-fed to certain analysts who then gave that information to clients. Insider information was like "dirty money," but analysts were able to "cleanse" it. Analysts were essentially information laundering systems that gave certain funds a heads-up. Those certain funds tended to be at firms that ran the most money and generated the most commissions.

As a professional money manager, I neither ran the most money nor generated a "top 10" amount of commission business, so I was not a beneficiary of this sort of information. I made it up, however, by taking advantage of the U.S. Supreme Court's homework exception as outlined in the Dirks decision; I did lots of research, and I bounced my conclusions off managements to see whether they were right.

Reg FD has spelled an end to that kind of research. You can't ask management about such details now. And if you try, managements hide behind Reg FD so that you wind up knowing a lot less about the decisions you make. This debate, despite what Maria said this morning, is not about giving the little guy an even playing field. To do that, we should make sure that every public discussion and presentation is put on the Web. That's a simple decision and one I totally applaud.

Instead, this debate is about denying professionals the ability to do what they promised the individuals whose money they manage: that is, conduct research that warrants the term "fiduciary." Being a fiduciary means talking to companies and learning the stories, finding out how companies work and what metrics they are trying to beat and how well they are doing.

Before Reg FD, the rules were pretty clear. You could check in all you wanted until the last month of the quarter, when everyone was frozen. (Information you received at that time would not be merely part of a mosaic, it would be material information that you needed to know the quarter in advance.) Now, nobody really knows anything. Is that a better world? Why should the government keep me from doing my job as a fiduciary?

People are naive if they think that this rule hasn't changed things. Major companies have simply shut down their information systems, so no one has any idea what is happening. Worse, there are always a couple of bad guys who leak information out freely to lazy people who need "the call" to make money. But people who do research get no such help. These bad guys now win out routinely under Reg FD.

The debate got truly heated today because Maria tried to make the contest look like "the big guys" vs. "the little guy." If that were only the case! The people who run big money in this country, the billion-dollar funds, don't do it for themselves; they do it for you. They want to make money and not lose money and they knew, until Reg FD, that if they did more than just take spoon-fed research from Wall Street they could make you money. If they did real research and talked with companies and compared that to their field work they could do quite well, for you!

Now, instead, we live in a world where knowledge is hidden, where companies are less forthcoming and more willing to say, "We wish we could comment on your homework, but because of Reg FD, we can't." Is that good? Is that what we want? Do we really want a world where everybody is stupid and in the dark? That's the real question.

I am in favor of anything that gives us more information. Anything that keeps us more in the dark and lets management hide behind disclosure rules is, in my opinion, a giant step backward for everybody. This is not David vs. Goliath, and Reg FD is no slingshot. It is just a completely untested rule that creates a right to be stupid. No thanks. I'd rather be smart any day.

Random musings: I don't normally like to write about anything from which you can't make money, but I felt compelled, after that heated debate this morning, to speak out on this issue.

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