Why is insider trading criminal?
It is considered a criminal offense in most cases under the theory that it is not fair to investors who do not have the benefit of “inside” information. Unlike many types of investment fraud, insider trading does not target individual investors as victims.
Essentially, insider trading involves trading in a public company's stock by someone with non-public, material information about that stock. Insider trading is illegal, but if an insider trades their holdings and reports it properly, it is an insider transaction, which is legal.
Insider trading violates trust and fiduciary duty, leading to serious legal implications. The victims are often everyday investors — and the economy as a whole. Insider trading has been a hot-button issue for many years.
The issue of insider trading is a rapidly growing concern on a global scale. It pertains to the practice of company executives engaging in trading securities based on undisclosed privileged information, which has been consistently regarded as illicit throughout the history of the corporate sector.
The issue is there's not a specific law defining what insider trading is, which makes it difficult to prosecute cases as they arise. Additionally, a major component of prosecuting a case is proving intent, which requires a lot of evidence to support the claim.
Modern American insider trading law began in the 1960's, when the SEC promulgated Rule 10b-5. The SEC wrote 10b-5 as an anti-fraud statute. Federal courts interpreted Rule 10b-5 to impose a duty on company insiders to disclose material corporate information or refrain from trading on it.
Former Congressman Sentenced To 22 Months In Prison For Insider Trading. Damian Williams, the United States Attorney for the Southern District of New York, announced that STEPHEN BUYER, a former Indiana Congressman, was sentenced today to 22 months in prison by U.S. District Judge Richard M. Berman.
The government tries to prevent and detect insider trading by monitoring the trading activity in the market. The SEC monitors trading activity, especially around important events such as earnings announcements, acquisitions, and other events material to a company's value that may move their stock prices significantly.
The US Securities and Exchange Commission prosecutes approximately 50 insider trading cases per year, and there are harsh penalties of up to 20 years in prison.
Insider trading charges (usual charged Federally as Securities Fraud under Title 18, United States Code, Section 1348) involve the intentional trade (sale or purchase) of any security based upon material, non-public information.
Is insider trading a white collar crime?
Understanding White-Collar Crime
High-profile individuals convicted of white-collar crimes include Ivan Boesky, Bernard Ebbers, Michael Milken, and Bernie Madoff. Their crimes have included insider trading, accounting scandals, securities fraud, and Ponzi schemes.
According to the SEC in the US, a conviction for insider trading may lead to a maximum fine of $5 million and up to 20 years of imprisonment.
Insider trading occurs when a person or entity makes a profitable trade based on information that is not available to the general public. The lack of clear legal definitions of what counts as insider trading can complicate prosecution.
Prosecutors had alleged that Stewart committed securities fraud when she lied about why she sold her ImClone stock. They claimed that her false statements were made in an effort to maintain her innocence and bolster the stock price of her own company, Martha Stewart Living Omnimedia, The New York Times reported.
Allowing insider trading can create a culture of corruption and self-dealing in which people in positions of power abuse their position for personal gain. This can have far-reaching consequences, damaging institutions and harming innocent people who become caught up in corruption.
SEC regulations
In the case of unintentional disclosure of material non-public information to one person, the company must make a public disclosure "promptly". Insider trading, or similar practices, are also regulated by the SEC under its rules on takeovers and tender offers under the Williams Act.
To avoid such an appearance, the Company has adopted guidelines (the “Window Period”) covering the purchase or sale of its stock or other securities by Insiders. The Window Period is a Company rule designed to protect the Company and its Insiders.
The Dirks test stems from the 1983 Supreme Court case, Dirks v. SEC, which established a blueprint for evaluating insider trading. The Supreme Court ruled that a tipee assumes an insider's fiduciary duty to not trade on material nonpublic information if they knew or should have known of the insider's breach.
The median insider in our sample earns annual abnormal profits of $464 per year. Focusing on round-trip transactions, which have an average holding period of 2.4 years, we find that insiders placing such trades realize average abnormal profits of $128,000 a year and median abnormal profits of $5,000 a year.
A lawyer who represents the CEO of a company learns in confidence that the company will experience a substantial revenue decline. The lawyer reacts by selling off his stock the next day, because he knows the stock price will go down when the company releases its quarterly earnings.
Who has burden of proof in insider trading?
Burden of Proof in Insider Trading Cases
The government must prove that a defendant bought or sold one or more securities “on the basis of material nonpublic information about that security or issuer,” according to the SEC's Rule 10b5-1, 17 C.F.R. § 240.10b5-1.
A tipper is someone who has access to material, non-public information (MNPI) regarding a security, company, or industry. This information can be obtained through various sources, such as private conversations, insider knowledge, or having a privileged position within an organization.
In the 1983 case of Dirks v. SEC, the Court previously found that a tippee commits insider-trading fraud when the tipper discloses inside information to the tippee and receives a personal benefit.
Black-Collar Crime
This is used to describe a crime in a more unofficial capacity, such as to the press, with victims, or with clients. Black-collar crime is any crime committed by priests or the clergy. This could be anything from theft to money laundering and child molestation.
Hypothetical Examples of Insider Trading
The CEO of a company divulges important information about the acquisition of his company to a friend who owns a substantial shareholding in the company. The friend acts upon the information and sells all his shares before the information is made public.
