Federal Probe Into Insider Trading in Bear Stearns Hedge Funds Heats Up

The Securities and Exchange Commission and U.S. Attorney General’s Brooklyn office are investigating whether certain insiders at Bear Stearns unloaded shares in two of the firm’s hedge funds that imploded while preventing other investors from redeeming their holdings, by urging them to remain invested despite turmoil in the subprime market, BusinessWeek reports.

In fact, many investors began submitting redemption requests in February but were told the funds’ prospectuses would not permit that to occur until July.

People familiar with the probe said that regulators are interviewing investors in the two funds, High Grade Structured Credit Strategies and High Grade Structured Credit Strategies Enhanced Leverage, to find out which of the funds’ managers might be guilty of insider trading. They indicated it might be more than just one or two people since, at one point, Bear Stearns’ alternative investments division employed 140 people. Since the funds’ implosion, however, dozens of them have since lost their jobs.

The two funds once held $35 billion in collateralized debt obligations, and when they filed for bankruptcy in July, $1.6 billion in investors’ money was wiped out.

New York hedge fund attorney Ross Intelisano said that in light of the lawsuits and arbitrations that have already been filed by former investors in the two funds against Bear Stearns, an insider-trading probe could possibly strengthen their cases. “People were trying to get out as early as February and March,” Intelisano said. If regulators prove that Bear Stearns opened “the gates just for the insiders, it will hurt [Bear] in litigation.”

Scott Berman, another hedge fund attorney, said that even if the funds’ prospectuses stipulated certain conditions must be met in order for an investor’s redemption to be honored, fund managers themselves often have greater latitude as to when they can withdraw their own money.

Meanwhile, Bear Stearns is about to liquidate another fund, the $100 million Multi-Strategy Fund, a fund-of-fund that invested in other Bear Stearns hedge funds, according to BusinessWeek.