The U.S. Securities and Exchange Commission has charged three former Netflix engineers and two associates with insider trading on Netflix stock, alleging that the ring made more than $3 million in profit from the illicit trades.
The SEC filed its civil action on Wednesday, Aug. 18, in Seattle. In parallel, the U.S. Attorney’s office for the Western District of Washington filed a criminal information against four of the participants.
There are at least a couple of reasons why this is not just another trading fraud case. First, it involves Netflix, a content platform and production company headquartered in Los Gatos, California, which is one of the much-watched “FANG” firms. The acronym, for “Facebook, Apple [sometimes Amazon], Netflix, and Google,” refers to the paradigms of the high-tech segment in the US economy. The term “FANG,” coined by television commentator Jim Cramer in 2013, later inspired its own index, courtesy of Intercontinental Exchange.
The second reason this case is distinctive: the SEC is using it as a showcase of its own data analytical prowess.
Joseph Sansone, of the SEC’s Market Abuse Unit said in a statement that the group sought to avoid detection by using encrypted messaging apps and messaging channels, as well as by more old-school tricks such as paying kickbacks in cash.
But, Sansone continued, “This case reflects our continued use of sophisticated analytical tools to detect, unravel and halt pernicious insider trading schemes that involve multiple tippers, traders, and market events.”
The SEC alleges that Sung Mo “Jay” Jun was at the heart of the matter. He worked at Netflix in the period 2016-17, and was privy to non-public information about the growth in Netflix’ subscriber base.
Netflix reports its subscriber base numbers with its quarterly earnings announcements. For many analysts, it is a key metric.
In 2016-17, Sung Mo Jun repeatedly informed his brother, Joon Mo Jun, and a close friend, Junwoo Chon, of subscriber base information ahead of earnings announcements, and the latter two would trade on those tips. Later, after Sung Mo Jun left the company, he allegedly recruited two other insiders to keep the ring active: Ayden Lee and Jae Hyeon Bae.
But it was the core group of three: Sung Mo Jun, Joon Mo Jun, and Junwoo Chon, who are alleged to have used encrypted messaging apps in an effort to create opacity for their discussions of the trading.
The Market Abuse Unit says that it uncovered the ring by using “data analysis tools to identify the traders’ improbably successful trading over time.”
The July 2019 Announcement
Although the complaint alleges there were nine consecutive earnings announcements involved, the complaint (and SEC statement) both focus special attention on one, that of July 2019 regarding the Q2 2019 numbers.
That was at a time when Disney Plus and HBO Max were each making a big push for subscribers. Netflix’s subscriber base numbers fell far short of expectations when announced on July 17 that year. The stock lost 10% of its value when the earnings were reported. The defendants were in a position to trade ahead of that fall.
Netflix was struggling especially in India and Brazil at the time, which were considered two key international markets.
The attorney of one of the defendants, Ayden Lee, has issued a statement saying: “Ayden is a young engineer who was taken advantage of by an older, more experienced former colleague whom he considered to be a mentor and friend. Ayden never traded on inside information, nor did he receive any ;’cash kickbacks’ or other remunerations from Mr. Jun for the information he provided.”
[Last month, in its report on its Q2 2021 results, Netflix reported that its subscriber base had risen by 1.5 million. That beat its expectations, but some observers found it ominous that all that growth was international: that there was a net loss of subscribers in the U.S. and Canada. The stock price fell on that announcement.]