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Bad Medicine: When Doctors Tip Off Wall Street

Stocks in this article: HGSI MS

BOSTON ( TheStreet) -- How do a French doctor and a Connecticut hedge fund manager strike up a friendship that leads to the doctor being charged with passing along inside information about a hepatitis C drug trial?

It's not by chance. Hedge fund investors routinely seek meetings with leading medical experts such as Dr. Yves Benhamou of Paris, who was arrested Monday by U.S. authorities and charged with tipping off a hedge fund manager in late 2007 and early 2008 about problems with a clinical trial involving a hepatitis C drug from Human Genome Sciences (HGSI).

For professional investors, access to the doctors is an instant and invaluable feedback loop on cutting-edge drug research or changes in medical practice. Asking a doctor for his opinion on new clinical trial data or knowing whether the doctor prefers to treat patients with Drug X over Drug Y helps investors pick winning stocks and avoid (or short) the losers.

It's all legal until a line is crossed where the doctor shares confidential or insider information with the investor. In fact, at just about every medical meeting held around the world, a select group of doctors -- often the thought leaders of their respective fields -- excuse themselves from presenting new clinical data or networking with colleagues and make their way to hotel meeting rooms to consult for Wall Street investors.

It's a lucrative, no-sweat gig for the doctors, many of whom can earn hundreds if not thousands of dollars for a couple hours of talk. Lunch and refreshments are always provided gratis.

This is likely how two men of disparate backgrounds -- Benhamou, a doctor and widely published medical researcher who treated hepatitis C patients from an affluent suburb of Paris, and a hedge fund manager who lived and worked in Connecticut but who is not identified in court papers, got to know each other.

The hedge fund manager allegedly used the information to sell his stake in Human Genome Sciences before the company released the negative news to the public in January 2008, according to court papers. The timely sale saved the fund manager $30 million, authorities said.

No charges have been levied against the fund manager or the fund itself. While neither the fund nor the fund manager is named in court documents, FrontPoint Partners -- a hedge fund owned by Morgan Stanley (MS) -- acknowledged in a statement that it is the fund referred to in the Benhamou case. FrontPoint also announced that it placed Chip Skowron, a portfolio manager in charge of the firm's health care investments, on leave pending the outcome of the investigation. Skowron has not been charged with any crime. FrontPoint declined to comment, and Skowron has not replied to a request for comment.

Full disclosure: I know Skowron although I haven't had contact with him for several years. From January 2005 through the end of 2006, I worked as a biotech stock analyst for a New York investment firm. During my short time on Wall Street, I participated in many of these "doc meetings," as they're known. Skowron was often there. I can't recall exactly when, but I'm fairly sure that I attended sessions with Benhamou too because I had an interest in hepatitis C drug stocks and attended liver disease meetings where he would have been presenting data and consulting with Wall Street investors like myself at the time.

The investment firm that I worked for paid high six-figure sums, perhaps even more, to consulting services like Gerson Lehrman Group and Guidepoint Global that set up and facilitate these meetings between doctors and investors. Other analysts at my firm used the same match-making services to connect with retail and restaurant store managers, telecom and technology professionals, pharmacists, attorneys -- really any type of expert you can think of.

For instance, when I attended the American Society for Clinical Oncology (ASCO) annual meeting -- considered the premier cancer drug research meeting -- a good part of my day was spent in hotel conference rooms where I had the opportunity to ask expert oncologists to interpret clinical data freshly presented at the ASCO meeting.

Outside of these medical meetings, Guidepoint and Gerson representatives were a phone call or email away, willing to help me arrange telephone calls with doctors on any topic of interest to me -- lung cancer, diabetes, Alzheimer's, heart disease.

The image of a hotel conference room filled with hedge fund managers, analysts and doctors discussing important clinical data is vivid enough to trip the conspiracy meter of even the most jaded observer. But let me be very clear about my personal experience in this rarified world: I never heard or witnessed a doctor tipping off investors with privileged or confidential information.

That's not to say that investors in those rooms, including myself, didn't push doctors hard for information that would give them an investment edge. That was part of the job and the reason why we were paying doctors to sit and answer questions for an hour at a time.

Hedge funds don't get paid unless they outperform the overall market. Hedge funds are supposed to be better stock-pickers than Main Street investors. If hedge funds don't deliver outsized returns, investors take their money elsewhere. One way in which biotech hedge funds try to gain that edge is by consulting with doctors and medical experts.

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