Wed Nov 25, 2009 1:56pm EST

http://www.reuters.com/article/ousivMolt/idUSTRE5AO40C20091125

 WASHINGTON (Reuters) - U.S. regulators are increasingly looking beyond stocks in their insider trading investigations to examine derivatives and credit default swaps, a top Securities and Exchange Commission official said.

The expansion comes as the SEC, state and federal criminal authorities pursue the biggest insider trading case involving hedge funds -- a case that has already ensnared the billionaire founder of Galleon Group, traders, lawyers and other Wall Street personnel. 

"Insider trading can take place in several different venues," Scott Friestad, SEC associate director of enforcement, said in an interview. "In many of these investigations, we are looking at trading across markets whether it involves options, the underlying common stock, or nontraditional securities like credit default swaps." 

Friestad had no comment on Galleon and its founder Raj Rajaratnam, both targets of an SEC civil lawsuit. 

The government remains under heavy political and investor pressure to more aggressively bring perpetrators of financial fraud and illegal profits to justice. 

Earlier in November, the Obama administration set up a task force that includes the SEC, the Treasury Department and the Justice Department to thwart financial fraud after a rise in mortgage scams and Wall Street trading scandals. 

The SEC, headed by chairman Mary Schapiro, faces its own pressure to be more vigilant, after ignoring tips that could have led it to stop Bernard Madoff's $65 billion fraud sooner. 

HARDER TO DETECT 

In April, the SEC said it had about 150 active hedge fund investigations and more than 50 probes involving credit default swaps, collateralized debt obligations, and other derivatives. 

"Individuals with material nonpublic information have the potential to profit through nontraditional means," Friestad said. "In some cases, people believe that they can avoid detection by trading where they think investigators aren't looking." 

In May, the SEC brought its first case involving credit default swaps, which insure corporate debt against default. It charged a former hedge fund manager and a Deutsche Bank AG (DBKGn.DE) bond salesman with trading swaps of Dutch media conglomerate VNU NV. 

Yet unlike stocks, options and bonds that trade on exchanges, credit default swaps and most derivatives trade over the counter, making it harder for regulators to rout out wrongdoing. 

"It is much more difficult for the SEC to detect insider trading using derivatives because there is no central market and hence no ability to conduct real-time surveillance," said Mark Schonfeld, a former director of the SEC's New York office. 

"Insider trading in equities and options is almost always detected by market surveillance," said Schonfeld, who now co-chairs the securities enforcement group at law firm Gibson Dunn & Crutcher LLP. 

Bills pending in Congress would impose new rules designed to shed light on the $450 trillion over-the-counter private swaps market, including requiring derivatives dealers to report trades and forcing more derivatives onto exchanges.

Even if new rules are imposed, some parts of the market will remain opaque. 

The challenge of detecting insider trading in some markets was highlighted at the height of the financial crisis in September 2008. 

When the SEC was trying to figure out whether investors were manipulating the stock of financial institutions, it ordered two dozen hedge funds, broker-dealers and investors to hand over information about their trading and credit default swap positions in several companies. 

(Reporting by Rachelle Younglai; Additional reporting by Jonathan Stempel; Editing by Tim Dobbyn)