Insider trading is a term used for the buying and selling of a security (i.e., stocks of a company) by a trader or investor who has access to the material nonpublic information related to the security. For example, the company you work for is about to make a major announcement that is likely to raise the value of its stocks. If you use that knowledge to buy company stocks, then it’s insider trading.
Why is inside trading illegal? It is illegal because it gives an unfair advantage to the person or party who is in possession of the material nonpublic information. However, insider trading is not always illegal. In the above example, it is not illegal if the impending announcement is public knowledge.
What are some famous examples of insider trading?
There have been two well-publicized cases of insider trading in recent years.
In 2003, Martha Stewart, businesswoman, author, and television personality, was charged with insider trading when it was discovered that, in 2001, she had suddenly sold her 4,000 shares of ImClone Systems, a biopharmaceutical company that was, at the time, working on a cancer treatment drug. The sale was based on a tip provided by a Merrill Lynch broker named Peter Bacanovic. Shortly after she sold her shares, the FDA rejected the company’s drug, causing its stocks to fall by 16 percent in just one day. She went to jail, but for another crime, obstruction of justice, because she lied to investigators about why she sold the stock.
In September 2017, Brett Kennedy, a former financial analyst at Amazon.com, Inc., was accused of giving information about Amazon’s 2015 Q1 earnings to Maziar Rezakhani, a University of Washington alumnus, before its release for $10,000. It was found that Rezakhani had made a profit of $115,997 using the tip. Both Kennedy and Rezakhani were found guilty and convicted.
Who tracks and investigates insider trading?
In the United States, the Securities and Exchange Commission (SEC) tracks and investigates insider trading. The SEC tracks and investigates insider trading in the following ways:
- Market surveillance: This tracking method involves using sophisticated electronic tools to monitor, detect, and identify suspicious buying and selling activities that can indicate foul play. Investigators are especially just interested in activity before and after important events, such as earnings reports and major corporate announcements, as these events are likely to affect the price of securities.
- Tips and complaints: SEC investigators research the tips and complaints from people who know of or have a suspicion about people who are involved in insider trading. The sources are usually angry traders and investors who were on the losing side. The SEC receives hundreds of such tips and complaints every year, but most of the time, investigators do not find enough evidence to charge anyone.
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