Insider trading and regulations on U.S. stocks

Insider trading

The golden words from the masters

Regarding insider trading, Buffett had two famous sayings as below:

In 2011, when Berkshire Hathaway (ticker: BRK.A and BRK.B) acquired the chemical plant Lubrizol, Buffett’s henchman, David Sokol, bought stocks before the acquisition, and had to submit his resignation on suspicion of insider trading. “I obviously made a big mistake by not saying, ‘Well, when did you buy it?'” said Buffett, adding that he found Sokol’s actions “inexplicable” and “inexcusable”.

Joseph P. Kennedy (ex-SEC chairman, US president’s father), said in an interview “If I had all the money that has been lost on inside information I’d really be rich.”

How are the US securities laws and regulations regulated?

Investors should be surprised that the United States did not pass the Fair Information Disclosure Regulations (Reg FD) issued by the Securities and Exchange Commission (SEC) until October 2000, which requires listed companies to disclose important information to all investors at the same time. information. Reg FD helps all investors trade fairly by reducing selective disclosure issues. When disclosing the necessary information of the company, listed companies must not be exclusive to Wall Street, institutional investors, major shareholders, company insiders, or major stakeholders–that is, they must treat all investors fairly when the information is disclosed.

The latest standards for insider trading

The Salman v. United States case is a case of insider trading, in which a California man Bassam Salman indirectly used Maher Kara, the brother of his non-immediate relative Michael Kara. The business information leaked in Citigroup’s M&A-related work resulted in a profit of nearly $1 million in stocks, and he was accused of securities fraud. The previous Salman argument stated that because Maher did not receive money, gifts or any other consideration, it does not constitute insider trading. Its defense attorney Alexandra Shapiro stated in an interview that when other courts rule on insider trading, the judge considers whether the provider of commercial information will gain any substantial benefits.

In October 2016, the U.S. Supreme Court retrialed the case and overturned the previous judgment. According to the latest judgment, the prosecution of insider trading has finally taken a positive turn. The so-called definition of personal interests can be intangible. This gives prosecutors a more effective weapon in identifying insider trading cases in U.S. stocks.

Some famouse insider trading cases

In my blog article “The disadvantages of retail investors, I have discussed several famous cases of insider trading in the United States and Taiwan. Interested readers can refer to this article of mine.

Two cases are the most exaggerated recently:

  • Senior Fed officials, Dallas Federal Bank President Robert Kaplan and Boston Federal Bank President Eric Rosengren were revealed to be suspected of stock trading and entered and exited the stock market several times in 2020 , The total amount reached millions of dollars, arousing criticism from the outside world. In October 2021, these two finally couldn’t stand the pressure and announced their resignation.
  • In May 2020, Richard Burr, Chairman of the Intelligence Committee of the U.S. Congressional Senate, sold a large amount of stocks before the outbreak of the coronavirus in the U.S., which caused the stock market to plummet. Due to the extremely sensitive timing, the outside world questioned the use of public office to obtain confidential information, seeking personal gain; under the accusation of the multi-party, soon announced that he would temporarily resign as the chairman of the Intelligence Committee.

Insider trading of US congressional politicians

In the 2008 U.S. stock market crash, U.S. congressional politicians knew as early as most investors in the financial world that a financial tsunami that was unprecedented in the century was about to break out. Many congressmen rushed ahead of everyone and made a lot of money by shorting U.S. stocks. But this kind of corruption, which was obviously generous to the investing public, could not be controlled at the time, that is, it was legal at the time.

Insider trading
credit: Pixabay

At the end of 2011, the matter was dug up by the media one by one, and the investing public was furious. This led to the “Stop Trading on Congressional Knowledge Act” in 2012. But unfortunately, in 2013, when the limelight passed, the law was revised. That’s why what happened in May 2020, the chairman of the U.S. Senate Intelligence Committee, Bohr, as mentioned in the previous paragraph.

10b5-1

10b5-1 is the original 10b-5 regulation promulgated by the SEC in 2000 to amend insider trading by executives of listed companies. However, since the promulgation of 10b5-1, there have been many transactions with “pretty perfect” buying and selling timings that have fully complied with the regulations of 10b5-1.

In 2000, the SEC relaxed the rule 10b-5 of corporate insider trading, amending it to 10b5-1. According to the intention of the legislators at the time, the executives of listed companies were required to set up a plan to buy or sell stocks in advance. Even if the timing of future transactions seems very subtle, as long as the so-called inside information is not known when setting up the plan, naturally it does not constitute an insider trade.

But in actual operation, the 10b5-1 rule did not play a role in restricting insider trading at all. Executives of listed companies can not only buy and sell stocks on the same day they set up the plan, but also set up multiple trading plans on different dates in advance, and cancel most of the plans if the timing is not right. Assuming that a company executive sells stocks before releasing a bad financial report, citing a trading plan established more than half a year ago will naturally prove that he “does not have inside information” when setting up the plan.

The most important changes in the 10b5-1 regulatory amendments effective April 1, 2023 include:

  • After establishing or revising a 10b5-1 plan, you need to wait at least 90 days before you can trade under the plan.
  • Forms for reporting insider transactions require mandatory disclosure of whether a 10b5-1 plan is in place and when the plan was established.
  • Listed companies are also required to disclose company-related 10b5-1 plans in quarterly and annual reports.

However, some people still question the obvious loopholes in the new amendment: if executives know that there will be a sale schedule next, and push back the release time by one or two days, it will be difficult for regulators to prove that the time adjustment is related to the purpose of the sale.

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