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Compare Accounts. 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 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.
Examples of insider trading cases that have been brought by the SEC are cases against:. 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.
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 is that it undermines investor confidence in the fairness and integrity of the securities markets. The SEC adopted new Rules 10b and 10b to resolve two insider trading issues where the courts have disagreed. 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 10b 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. The following week, the news breaks and the stock value goes down. This is a prime example of illegal insider trading and how it can negatively impact everyday investors.
Hockett, a lawyer and law professor at Cornell University. But then there are situations where insider trading may be legal. Legal insider trading is common since insiders can buy and sell shares of their own company — so long as they follow specific timing guidelines and accurately report the trades to the SEC.
Finally, insiders are also required to fill out Form 4 detailing what they bought, when, and for how much. In some cases, the insider may have to refrain from trading often until the non-public information becomes public , and can trade during a specific trading window in the future.
If this person uses this information to improve their investments in the market, then it becomes insider trading. A real-life example of someone misusing insider information occurred in , when a California attorney heard from his pharmaceutical client, Spectrum, that the company was about to experience a significant decline in revenue.
One of the company's best-selling drugs was underperforming, but this was confidential information that was not yet public. The attorney decided to sell all his shares of Spectrum within 48 hours.
In this situation, insider information quickly turned into illegal insider trading. Hockett explains that while situations like this one clearly violate the Securities Exchange Act, there could be a gray area in regards to what counts as inside information. Hockett adds that it's always wise to do your own research when making investment decisions.
However, the key point is that insiders have unfair access to some information and shouldn't be able to trade freely this way without disclosing it. Hockett says that victims of insider trading can report insiders to the SEC and from there, the SEC could decide to pick up the case. In civil suits, violators of insider trading laws could be ordered to give back the money they received from the sale and repossess ownership of the stock.
Keep in mind that the SEC also tracks market activity regularly to identify situations that might involve insider trading. So a report may not even need to be filed for them to notice illegal insider trades.
Insider trading can lead to a loss of trust in the stock market which can negatively affect the entire nation's economy. If you ever find yourself in the position of an insider, it's important to know the clear difference between legal and illegal insider trading to avoid any financial and legal implications. Investing and risk go hand-in-hand.
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