how insider trading affects the market – Using inside information to make investment decisions in the stock market is illegal and can carry serious financial penalties.
This type of investment fraud is commonly known as insider trading.
In this article, we will cover the definition of insider trading, how it detected and prosecuted when insider trading is illegal, and the possible penalties an individual may face if convicted.
For example, if a company insider tells his friend about an upcoming merger that has not made public, both the company insider and the friend could held liable for insider trading if the friend buys the shares.
WHO IS AN “INSIDER”?
An “insider” is any person who is an officer, director, 10% shareholder, or has access to inside information as a result of their relationship with the Company or an officer, director, or major shareholder of the Company.
Under SEC Rule 10b-5, the definition of “inside information” goes well beyond these key company personnel. In fact, this rule also covers ANY employee who has access to confidential information as part of their job functions. In addition, if ANY person outside the company has received a “tip” from an “insider” about material non-public information, that person would also considered an “insider” under this rule.
Lastly, Rule 10b-5 also covers any family member or close friend of an insider. For example, if the CEO of a company informs his son of an upcoming merger and his son buys shares in the company before the merger becomes public knowledge, both the CEO and his son will considered “insiders” under this rule.
WHO CAN BE CHARGED WITH INSIDER TRADING?
A person is liable for insider trading when they have acted on insider knowledge or on confidential information that is not available to the general public in an attempt to make a quick/easy profit.
This may include the use of information about:
- Upcoming mergers or acquisitions;
- Unpublished financial reports;
- New product launches;
- Changes in the direction of the company;
- and any other information that may give an individual an unfair advantage in the marketplace.
Identifying insider threats can simple at times: CEOs, executives, and directors are immediately exposed to important information before it becomes public.
However, lower-level employees can also have access to this type of information, meaning anyone from an entry-level analyst to a janitor could be susceptible to insider trading.
Note: If you under investigation or haveaccused of insider trading, it is important that you seek legal advice immediately. An experienced SEC defense attorney can help you understand the charges against you and build a strong defense.
HOW IS THE USE OF PRIVILEGED INFORMATION DETECTED?
Both companies and regulators try to avoid insider trading to ensure the integrity of a fair market. Despite what you may have read before, not all insider trading is illegal.
The directors, workers, and managers of a company can buy or sell shares of the company with special knowledge of the facts, provided that they notify these transactions to the Securities and Exchange Commission (SEC); these operations then made public.
Unfortunately, not all insider trading is so transparent.
Insider trading occurs when people use confidential information to gain profit in the stock market. The SEC investigates and prosecutes these cases, as they are a form of securities fraud.
HERE ARE SOME OF THE WAYS THE SEC DETECTS INSIDER TRADING:
Monitoring of commercial activity
The government monitors stocks that bought and sold to look for patterns that may be indicative of insider trading. The SEC monitors trading activity, especially when major events occur, such as an earnings announcement or release.
This surveillance practice can lead to the discovery of large irregular operations around these events. The SEC can then investigate the people behind those transactions to see if they had access to non-public information.
The SEC also relies on tips from the public to help detect insider trading. When the SEC receives a large number of complaints from investors who lose significant amounts of money around the same time, it may be an indication that insider trading has occurred.
Since the insider trader has special knowledge, he can take advantage of investment tactics, such as trading options on the company’s stock, to make a lot of cash in a short time. When this occurs, it can cause other investors to lose money and file complaints with the SEC.
The SEC’s Whistleblower Office created in 2011 to reward people who provide information about securities law violations, including insider trading.
The SEC receives information from whistleblowers who provide information about possible violations. Whistleblowers may be current or former employees, lawyers, accountants, or anyone else who has knowledge of insider trading.
Whistleblowers have incentives to come forward as they eligible for a share of the money recovered by the SEC. The maximum reward 30% of the amount recovered and may be higher if the SEC takes action based on the information provided.
WHAT REGULATORY BODIES ARE INVOLVED IN INVESTIGATING INSIDER TRADING?
The SEC is the primary federal regulator that investigates and prosecutes insider trading cases. The agency has a division, called the Enforcement Division, which is responsible for taking enforcement action against individuals and companies that violate securities laws.
The Department of Justice (DOJ) also plays a role in investigating and prosecuting insider trading cases. The Department of Justice can file criminal charges against people who use inside information.
In addition to administrative agencies, FINRA (Financial Industry Regulatory Authority) is a private group that regulates the securities industry. FINRA can take disciplinary action against stockbrokers and individual brokers who engage in insider trading.
In order for federal prosecutors to establish an insider trading case, they must be able to prove four key elements:
- In connection with the acquisitions or sale of a security, there has a breach of a fiduciary duty or a case of “trust” has breached.
- The use of “material” and/or non-public information has used to support the decision to buy or sell a security.
- Knowledge and/or imprudent use of privileged information during securities trading.
- There have personal benefits (avoided gains or losses) due to securities trading.
IMPORTANT: If you are under study or have been accused of insider trading, it important that you seek legal advice immediately. It is in your best interest to retain an SEC attorney who has handled these types of matters in the past.
Non-public information defined as information that could have a significant impact on a share price but is not known to the general public.
Of course, having access to such information could influence an investor’s decision to buy or sell the security, giving them a competitive advantage over the general public who do not have this knowledge.
IMPORTANT: The consequences of the illegal use of privileged information can be serious. People who conduct illegal insider trading can fined and/or imprisoned. In addition, the SEC may prohibit individuals from acting as an officer or directors of a public company.
According to the SEC’s policy on insider trading :
“Insiders are subject to insider trading laws that affect the sale and purchase of Company stock. In conducting Company business, insiders may from time to time obtain material non-public information about the company or other companies. Insiders can sued civilly by the Securities and Exchange Commission (“SEC”) or by private litigants if they trade in securities while in possession of material nonpublic information about the issuer of the securities. charged with an illegal violation. In new years, the SEC and United States prosecutors have vigorously investigated and prosecuted individuals who have engaged in insider trading or provided information to others.”
WHAT ARE THE PENALTIES FOR THE USE OF PRIVILEGED INFORMATION?
Penalties for insider trading can be severe. People who conduct illegal insider trading can fined and/or imprisoned. In addition, the SEC may prohibit individuals from acting as a major or director of a public company.
According to the SEC, a belief in insider trading can result in:
- Fines of up to 5 million dollars
- Imprisonment of up to 20 years
- Being disqualified as an officer or director of a public company
- Return of all ill-gotten gains plus interest
HAVE YOU BEEN ACCUSED OF INSIDER TRADING?
If you have accused or are under investigation for insider trading, it is important that you seek the advice of an experienced SEC defense attorney.
The SEC has unlimited resources and will aggressively pursue those it believes have broken the law, regardless of whether the government can demonstrate its case.
An experienced advocate can help you navigate the SEC investigation and, if necessary, defend you in cutting-edge court.
If you under investigation for insider interchange or have charged with a securities crime, contact the Law Offices of Robert Wayne Pearce, PA today.
Attorney Pearce began his legal career with the United States Securities and Exchange Commission (“SEC”) as a law application lawyer more than 40 years ago. His SEC defense law repetition clients have included public companies and their officers and directors, stockbrokers, investment advisers, and individuals who are under investigation in connection with their personal securities transactions.