Categories: Glossary

Insider Trading

Understanding Insider Trading

Insider trading is a widely recognized offense in the stock market that investors can be accused of. To be considered insider trading, a trade, whether it involves buying or selling, must be carried out by an individual who possesses undisclosed, private information that has the potential to impact the future price of the stock.

The Securities and Exchange Commission (SEC) is the primary regulatory body responsible for overseeing all trading activities in the United States. It is also the institution responsible for determining whether insider trading has occurred. According to the SEC’s official definition, insider trading refers to “the buying or selling of a security, in violation of a fiduciary duty or other relationship of trust and confidence, based on material, nonpublic information about the security.”

One of the main arguments against the legality of insider trading is the belief that non-public, material information provides an unfair advantage. For example, if a trader receives insider information about a company’s plan to acquire another company, it can be seen as a precursor to an increase in the stock value of the acquiring company.

There are certain situations where insider trading may be legal. Examples of legal insider trading include:

  • The CEO of a company purchasing additional shares in the company and reporting the trade to the SEC.
  • An employee of a company exercising stock options and buying stock in the company they work for.
  • A board member of a company purchasing shares in the company and reporting it to the SEC.

While these are exceptional cases where trading based on insider information may be permitted, the SEC closely monitors any suspicious signals indicating potential insider trading.

A notable case of insider trading involves R. Foster Winans, a columnist for The Wall Street Journal, who shared information with stockbrokers about an upcoming article he was about to publish. As a result of this insider information, the two stockbrokers made approximately $690,000 in profits, while the journalist himself gained $31,000. The SEC prosecuted and successfully convicted Mr. Winans and the stockbrokers for insider trading.

Insider trading can also occur in the realm of cryptocurrencies, although it is not as heavily regulated as in the stock market. For example, if a Bitcoin whale, a term used to describe individuals with significant holdings of Bitcoin, reveals plans to sell a large portion of their assets, it can be interpreted as a signal that the token’s price will decline. However, the individual would not face conviction for insider trading in this scenario.

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