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What is Insider Trading? These 3 Things Will Get You in Trouble

stock-market-insider-tradingInsider trading deal with central concerns of fairness in America. Especially today, while Americans are up in arms regarding the unfair disparities between the 1% and the 99%, insider trading represents the darkest side of the upper class. Rather than allowing all investors to honestly trade on the open market, insider trading unfairly allows insiders with secret materials and information not available to the public to make millions at the expense of everyone else. This post will help you understand what is insider trading, how does insider trading occur, and when can you get in trouble for insider trading.

You Must Actually be Trading Securities

First of all, you need to be trading in securities to commit insider trading. Even if you have the inside information on a stock, if you do not buy or sell anything, then you cannot be held liable.

For example, if you were planning to sell your stock, but then the CEO called you and told you they would be the target of an acquisition, which would increase the stock price dramatically, then your decision not to sell would be legal because you did not actually execute a trade.

Assuming that you actually are trading securities, below are three different ways you can get in trouble for insider trading.

1. Trading as an Insider

To be considered an “insider,” you must be a director, officer, employee, or some other agent of the company. As an insider, you legally owe a duty to the shareholders of the company to be loyal and honest and act in their best interest.

When insiders withhold material information from the shareholders or make purchases or sales of stock based on material information that the shareholders and public do not have, it gives the insiders a significant advantage.

Because of the unfair advantage, the traditional rule is that insiders must either disclose their information before trading or simply abstain from trading. Failing to do either of those things is likely to result in accusations of insider trading.

2. Trading as an Outsider Who was Tipped Off

You can also be liable for insider trading even if you aren’t an insider. If you’ve received significant, nonpublic information from an insider, then you could be liable for insider trading for acting upon this information. In this instance, you are known as a “tippee.”

Generally, the law will hold you liable if two things happen: (1) you’ve received private information from an insider who was breaching their duties to the company and the shareholders, and (2) you knew or had reason to know that sharing the information was a breach.

The real danger, especially for those who mean no wrong, exists where you are receiving a tip from someone else who received a tip. For example, look at Martha Stewart who was tipped off by her broker. Even if you are tipped off about important, nonpublic information from your broker (the person you hired to advise you on stock information) then you can still potentially do jail time.

Although the law can be unclear in this area, the SEC will not hesitate to bring actions on tippees who are far removed from the insider. The only thing that the law cares about is whether the information was unfairly disclosed, whether you could have suspected it, and whether you traded stock as a result.

If you have received any information that you believe is significant and not available to the public, especially if you have reason to believe the information might be unfairly disclosed (i.e. the insiders originally breached their duties to the shareholders), then you should find a lawyer before you do any trading.

3. Trading After “Misappropriating” Information

For this form of insider trading, it’s all about fairness. If someone entrusted you with information with the clear expectation that you wouldn’t use it to make money—don’t do it, because you can be liable for insider trading.

These laws are specifically designed for folks in positions of trust and importance, such as journalists or analysts, who must receive such information to fulfill the duties of their jobs and uphold their roles in the industry.

This type of insider trading is not limited to those types of individuals, however. Misappropriation of information can be used on anyone that has wrongfully used insider information to their own benefit.

The rules on insider trading can be somewhat unclear and complicated, especially to a person who is unfamiliar with the nuances of securities laws. If you have any concerns, get a lawyer to advise you. The consequences of insider trading can be incredibly harsh and costly. Find a lawyer who specializes in securities laws that can help you navigate through the situation before it’s too late.

About Aaron George

Visionary. Entrepreneur. Law school dropout. Working on bringing the legal industry online. And blogging about it.


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