|WSJ NEWS EXCLUSIVE|
Big Stock Sales Are Supposed to Be Secret. The Numbers Indicate They Aren’t.
Share prices fall ahead of 58% of large sales, a WSJ analysis finds. Regulators are investigating.
For years, something strange kept happening on Wall Street.
Before a big shareholder could carry out plans to sell a slug of stock, the price dropped. It was as if other investors knew what was coming.
It happened when Bain Capital sold shares of Canada Goose Holdings Inc., the maker of trendy parkas; when 3G Capital sold stock in Kraft Heinz Co. ; when Apollo Global Management Inc. sold shares of Norwegian Cruise Line Holdings Ltd. ; and when Alaska’s state oil fund trimmed its stake in an artificial-intelligence software firm.
These transactions, known as block trades, are supposed to be a secret between the selling shareholders and the investment banks they hire to execute the trades. But a Wall Street Journal analysis of nearly 400 such trades over three years indicates that information about the sales routinely leaks out ahead of time—a potentially illegal practice that costs those sellers millions of dollars and benefits banks and their hedge-fund clients.
The Journal’s analysis, covering 393 block trades between 2018 and 2021, found that 58% of the time, the share price declined in the trading session immediately beforehand, controlling for the performance of peer companies. Of the 268 trades for which the Journal was able to determine how much the banks paid, the sellers would have received $382 million more if the stocks had performed in line with the benchmark, or about $1.4 million per trade.
A handful might be explained by a negative headline or chalked up to bad luck. But the persistent pattern of stocks falling in the run-up to big insider sales suggests a more widespread problem: Information that should be confidential is getting out.
Morgan Stanley executed the most block trades in a three-year period, and the stocks in question underperformed peers on the day of the sale by the widest margin on a median basis, a Wall Street Journal analysis found.
0.25 percentage points
On the day of each of
174 block trades,
the stock it sold
benchmark index by
0.7 percentage points
on a median basis.
NUMBER OF BLOCK TRADES
Note: Based on sales from July 2018 through June 2021 in which a single bank executed the trade. Performance is the median spread for all of a bank’s block trades. Spread is the change in a stock's price on the day of the block trade minus the corresponding change in its sector index.
Sources: WSJ analysis of data from S&P Global Market Intelligence, IPO Boutique, Dealogic and regulatory filings
That pattern is now at the heart of a federal investigation into whether banks tip off favored clients to coming block trades. The Securities and Exchange Commission has sought trading records and electronic communications from a number of big banks and hedge funds, and the U.S. Justice Department is running its own probe, the Journal first reported in February.
The investigation for now appears to be focused on Morgan Stanley, MS -1.02% the dominant bank in block trading in recent years. The firm disclosed later in February that it had been responding to information requests from the Justice Department since the summer. In November, it put one of its senior executives in charge of block trading, Pawan Passi, on leave. A Morgan Stanley spokeswoman declined to comment on Mr. Passi’s behalf and repeated attempts to reach him have been unsuccessful.
Goldman Sachs Group Inc. has also received requests from regulators, the Journal reported.
The investigation, along with a broader market decline, has chilled the big business of block trading in recent months, bankers and investors said.
The Journal’s analysis found that when Morgan Stanley executed a block trade by itself, the median stock trailed its peers by 0.7 percentage point in the trading session leading up to the deal, meaning half performed worse than that. That was the worst record of any of the biggest banks that are major players in block trading. The median of Credit Suisse Group AG’s deals was underperformance of 0.4 percentage point, the analysis found. The median trades executed by Goldman and Barclays PLC roughly matched the market.
Across all banks, the median stock lagged by 0.2 percentage point.
Morgan Stanley, Credit Suisse, Goldman and Barclays declined to comment. The other companies and investors mentioned in this article either declined to comment or didn’t respond.
Morgan Stanley has been the dominant bank in block trading in recent years.PHOTO: LUCAS JACKSON/REUTERS
Leaks could come from a number of sources. Companies tend to approach multiple banks to bid on block deals, leaving open the possibility that someone other than the winner of the business has leaked the information.
There isn’t a comprehensive public list of block trades. Some are registered with the SEC. Others can be gleaned from more obscure corporate filings. Many leave no trace at all. The Journal’s analysis drew from databases maintained by research firms IPO Boutique and Dealogic as well as information from market participants, and matched details of those trades to securities filings where possible, but the list likely isn’t exhaustive.
HOW WE ANALYZED WALL STREET BLOCK TRADES
The Wall Street Journal examined 393 trades from a three-year period
Insiders who want to sell a slug of stock have a problem: Posting the order to a public exchange would likely tank the price. So they turn to Wall Street.
An investment bank agrees, generally around midday, to quietly buy the shares at a discount to the market’s closing price later that day. The bank then aims to flip the stock to its trading clients at a higher price and pocket the difference. It is a clubby world: Four or five banks do the vast majority of trades, and the same roster of hedge funds line up to buy the shares, according to the data and market participants.
Wall Street thrives on information edges, and at the beginning of a block deal, the bankers are holding a valuable nugget: They know that a wave of selling is likely on the way. That is because public shareholders, assuming that corporate insiders are better informed, tend to copy their trades. A flood of shares for sale also knocks the supply-demand balance out of kilter.
Regulators suspect that investment banks have been tipping off their top clients, who jump in and sell ahead of that wave, according to people familiar with the probes. In many deals examined by the Journal, the stock-price slide began in late morning or early afternoon, around the time sellers typically alert bankers to their plans.
The ultimate losers in these situations are often pension funds, endowments and foundations. They invest with private-equity firms, which use block trades to unwind stakes in newly public companies.
Bain Capital, which lost out on $33 million after Canada Goose’s stock fell in the final hours of trading before it sold a slug of stock, counts Indiana teachers and Los Angeles city workers among its investors, according to public records. Pension funds are also big investors in Boston-based T.H. Lee Partners, which missed out on at least $31 million of proceeds on five block trades between 2018 and 2021 due to unexplained price declines, trading data show.
Block trades can be risky. Banks compete to buy the shares at slim discounts, and if they misjudge investor demand or there is a sudden, unexpected drop, their profit margin can quickly evaporate.
Share-price and index performance on the day each stock was sold in a block trade, minute by minute
AUG. 7, 2018
FEB. 26, 2019
SEPT. 3, 2019
Restaurant Brands Intl.
NOV. 26, 2018
JUNE 5, 2019
FEB. 5, 2021
NOV. 28, 2018
AUG. 8, 2019
JUNE 14, 2021
Norwegian Cruise Line
Restaurant Brands Intl.
Source: DTN (historical intraday data)
That creates a financial incentive to leak details ahead of time. Knowing which investors will buy the shares, and at what price, could help a bank fine-tune its bid and decrease its risk of losses. And tipping off top funds to a profitable trade—selling short a stock heading into a block sale tends to be a winner—could curry favor with important clients.
There are other reasons a stock might fall ahead of a block trade. When a company goes public, employees and early investors are usually prevented from selling their shares for a period of time, generally six months. Hedge funds know when those so-called lockups expire and often short the stock ahead of time.
But fewer than 20 block trades in the Journal’s list appear to be linked to the expiration of IPO lockups, and they performed only slightly worse than the rest. In the vast majority of examples, there was no obvious reason the stock might have underperformed.
Most resemble what happened to 3G Capital, a private-equity firm known for its investments in household brands. Between 2018 and 2021, 3G executed at least three block trades to trim its stakes in two of them—Kraft and Restaurant Brands International Inc., the parent company of Burger King. Each time, it hired Morgan Stanley to sell the shares, and each time the price moved against it.
On Aug. 7, 2018, shares of Kraft climbed all morning, outperforming the S&P index of other big consumer-products companies. At 12:26 p.m.—right around the time that sellers of block trades typically engage banks—the stock price started to fall sharply. It closed down 1.6%, lagging the index and costing 3G Capital some $13 million in lost proceeds.
In another 3G block trade a year later, shares of Restaurant Brands cratered at noon and closed down 1.8% on a day the index rose. The famously penny-pinching investment firm—which pioneered a style of cost management and requires employees to get permission for color photocopies—lost out on $56 million in proceeds, according to the Journal’s analysis.