“Insider trading” is a term that most investors have heard and usually associate with illegal conduct. Recent government actions, including the criminal case against Martha Stewart have enforced that view.
However, the term “insider trading” actually includes both legal and illegal conduct. The legal version is when corporate insiders, officers, directors, employees and large shareholders, buy and sell stock in their own companies. When corporate insiders trade in their own securities, they must report their trades to the SEC. Many investors and traders use this information to identify companies with investment potential, the theory being, if the insiders are buying the stock, they must know more about their company than everyone else, so it is a good idea to buy the stock.
Reports of transactions by insiders are filed with the SEC on Forms 3, 4 and 5, and the SEC has an excellent overview of these forms and the requirements for filing of same. Most of the internet based financial quote sites have insider trading information for each particular security. Visit Yahoo Finance and select a security, then select the menu choice for Insider Transactions. Here is the insider trading page for Citigroup for an example.
The insider trading definition that we are concerned about is the buying or selling of a security, in breach of a fiduciary duty or other relationship of trust and confidence, while in possession of material, nonpublic information about the security. Over the last 10 years the SEC and the courts have greatly expanded this definition, to include trading by individuals whose “relationship of trust” is so remote as to be non-existent, but that discussion is left for another day. While myself, and most other securities attorneys believe that the concepts of insider trading have been expanded beyond all permissible bounds, the law today is that if material information about a company, or about the company’s stock, is obtained in violation of any duty to any person, and used to trade, the trader is guilty of insider trading.
Insider trading violations may also include “tipping” such information, securities trading by the person “tipped,” and securities trading by those who misappropriate such information. Examples of insider trading cases that have been brought by the SEC are cases against:
- Corporate officers, directors, and employees who traded the corporation’s securities after learning of significant, confidential corporate developments;
- Friends, business associates, family members, and other “tippees” of such officers, directors, and employees, who traded the securities after receiving such information;
- Employees of law, banking, brokerage and printing firms who were given such information to provide services to the corporation whose securities they traded;
- Government employees who learned of such information because of their employment by the government;
- Employees of financial printers who learned of the information during the course of their employment; and
- Other persons who misappropriated, and took advantage of, confidential information from their employers.
In recent years, the SEC and the Courts have expanded this further, and insider trading can now include trading by the random man in the street if the SEC believes that he obtained the information from someone who should not have the information. See SECLaw Blog posts on insider trading for more information. In my opinion, this has all gone too far, and the SEC needs to be reigned in on the expansion of insider trading liability.
The theory behind the prohibition on insider trading is that it undermines investor confidence in the fairness and integrity of the securities markets. Thhe SEC claims that the detection and prosecution of insider trading violations as one of its enforcement priorities, and all investors must be aware of the potential danger in trading on a “tip” from someone who knows non-public information regarding a security.
The SEC adopted new Rules 10b5-1 and 10b5-2 to resolve two insider trading issues where the courts have disagreed. Rule 10b5-1 provides that a person trades on the basis of material nonpublic information if a trader is “aware” of the material nonpublic information when making the purchase or sale. The rule also sets forth several affirmative defenses or exceptions to liability. The rule permits persons to trade in certain specified circumstances where it is clear that the information they are aware of is not a factor in the decision to trade, such as pursuant to a pre-existing plan, contract, or instruction that was made in good faith.
Rule 10b5-2 clarifies how the misappropriation theory applies to certain non-business relationships. This rule provides that a person receiving confidential information under circumstances specified in the rule would owe a duty of trust or confidence and thus could be liable under the misappropriation theory.
Insider trading carries severe civil and criminal penalties. If you are contacted by a regulatory agency regarding trades that you made, you should contact a securities attorney before speaking to the regulators. For more information about the defense of insider trading allegations, contact Mark Astarita of Sallah Astarita & Cox, at firstname.lastname@example.org. For more general information regarding insider trading and the SEC’s views of it, read Insider Trading -A U.S. Perspective.
- The 25 Highest-Earning Hedge Fund Managers And Traders 2016 wasn’t as good a year for the top hedge fund managers as prior years, but they all did pretty well. Top earners, according to Forbes, were James Simons and Michael Platt who each personally made an estimated $1.5 billion last year. Source: The 25 Highest-Earning Hedge Fund Managers And Traders
- SDNY Defines Customer under FINRA Rule 12200 Judge Laura Taylor Swain of the Southern District of New York has issued a decision defining a customer, for purposes of FINRA Rule 12200 as being a person or entity who have an account with the member, or who has purchased goods and services from the member. In doing so, it orders some claims in the ...
- Everyone Does It Defense Falls Short Even coupled with the ever popular “I didn’t know it was a crime” defense, an Investment Advisor loses. Lessons in securities regulation for the self-help minded. By Mark J. Astarita, Esq.Too often I hear clients, or more appropriately, potential clients, explain to me that they did not use an attorney for their compliance matters because they ...
- Securities Lawyer – Arbitration, Mediation, Litigation Nationally recognized securities lawyer Mark Astarita’s personal law page. Representing investors and brokers across the country for 30 years. Source: Securities Lawyer – Arbitration, Mediation, Litigation
- Who regulates the stock market in the US? The stock market has many different regulators. The primary regulator is the Securities and Exchange Commission. The stock markets are governed by their own organizations, under the direction of the SEC. Stock brokers and brokerage firms are regulated by the Financial Industry Regulatory Authority (FINRA) which was formerly known as the National Association of Securities ...
- What is a security? A security is a form of ownership in an entity.While some believe that in order to be a security the instrument must be traded on a market, the legal definition of a security is much broader. The definition is important, because if the instrument is a security, then the federal and state securities laws apply to ...
- Brokers Can Win Promissory Note Cases We all know that defending promissory note cases for brokers is difficult. After all, those notes have been written, revised, rehashed and reworked by brokerage firm attorneys for years.As I have noted in the past, and in my near daily telephone consultations with brokers with promissory note issues, this does not mean that the broker ...
- What is Securities Arbitration? Arbitration has become the most often used method of resolving disputes in the securities industry. Since the late 1970’s, FINRA and its predecessors have required brokerage firms and stock brokers to arbitrate their disputes with each other, and with their customers. That requirement led to brokerage firms requiring, through their customer agreements, their customers to ...
- Millennials Are a ‘Generation Lost’ When It Comes to Financial Matters Millennials are a “generation lost,” according to a new study, and are in for a tough time when they finally reach retirement, thanks to a lack of understanding of financial matters as much as a lack of interest.The study, titled “Generation Lost: Engaging Millennials with Retirement Saving,” from BNY Mellon and a team of students ...
- Tepper: Believers of SunEdison rumor must be high Billionaire David Tepper tells CNBC that investors who bought into rumors he might take a position in SunEdison must be smoking too much pot. Source: Tepper: Believers of SunEdison rumor must be high