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Dr. Nick Oberheiden
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Are You Liable for Insider Trading? Understanding the Law and Key Defense Strategies

Categories: Criminal Law & Process

insider trading concept

Effective Federal Insider Training Defense Attorneys

While major insider trading cases make national headlines, it is far more common for company owners, executives, board members, and professional advisors to face insider trading allegations outside of the public eye. Civil litigation involving insider trading claims can lead to substantial liability, and those who have been accused of violating the law must execute comprehensive defense strategies in order to avoid unfavorable judgments. When assessing potential exposure to an insider trading claim, the first step is to understand what the law prohibits (and what it doesn’t). This includes understanding the elements of an insider trading violation as well as the various defenses that are available.

What is Insider Trading?

Despite the labyrinth of federal securities laws, there is not one specific statute that defines insider trading. Rather, the law of insider trading has developed over decades of civil litigation, criminal prosecution, and administrative enforcement, with federal courts now widely recognizing four primary elements of an insider trading claim. These are:

  • Breach of a fiduciary duty or violation of a relationship of “trust and confidence” in connection with the purchase or sale of a security;
  • Use or possession of “material” and “nonpublic” information in connection with the purchase or sale;
  • Knowing or reckless use of the material and nonpublic information when trading in the security (or securities) that are the subject of the litigation; and,
  • Personal benefit as a result of the unlawful trade (either through direct financial profit as a result of the sale, or as a “tipper” when sharing material and nonpublic information with a corporate outsider).

1. Breach of Fiduciary Duty or Relationship of Trust and Confidence

In most cases, individuals who engage in insider trading will acquire the “inside” information used to trade for personal profit in one of two ways: (i) through a lawful relationship with the corporation, or (ii) through misappropriation.

Individuals who have a lawful relationship with a corporation – including officers, executives, board members, employees, underwriters, consultants, and attorneys – have a legal obligation to use inside information solely for the corporation’s benefit. This is among the most fundamental types of fiduciary duties, and violating this duty by using inside information for trading purposes is the most common way that individuals can become exposed to insider trading liability. In the 1980 case of Chiarella v. United States, which continues to govern insider trading cases today, the U.S. Supreme Court recognized the “inherent” unfairness of trading on inside information, and it established breach of fiduciary duty as a key underlying theory in insider trading litigation.

However, corporate insiders are not the only ones who can face civil liability in insider trading litigation. Under the misappropriation theory of insider trading, an individual can also face liability if he or she:

  • Uses inside information in violation of a confidentiality agreement;
  • Uses inside information where it should reasonably be understood that the information was to be kept confidential (i.e. based on a history of sharing confidential information); or,
  • Uses inside information received from a spouse or other family member, unless there was not reason to believe the information was confidential in nature.

2. Use or Possession of Material and Nonpublic Information

Not all material information is confidential, and not all nonpublic information is material. In order to establish insider trading liability, both of these requirements must be satisfied. Once material information has been released to the media, in an SEC filing, or through other means, corporate insiders can make trades based on the information just like anyone else. Likewise, if confidential information does not meet the standard for materiality (i.e. it would not impact an ordinary investor’s investment decisions), then those who possess the information can trade without concern for insider trading liability.

But, while information must be both material and nonpublic, note that use or possession can be sufficient to establish liability. If it can be shown that a person accused of insider trading was in possession of inside information, additional evidence that he or she specifically purchased or sold a security based upon that information may not be required.

3. Knowing or Reckless Use of Material and Nonpublic Information

This last point is further clarified by the third element of an insider trading claim, which establishes liability in civil cases based upon “knowing” or “reckless” use of inside information. Even if a corporate insider (or an outsider in possession of inside information) does not knowingly buy or sell stock in violation of the prohibition on insider trading, trading when he or she should not will often be enough to establish a “reckless” use of material and nonpublic information.

4. Personal Benefit

In corporate insider cases, the personal gain from insider trading is usually clear: the trade results in a direct financial benefit for the insider’s stock portfolio. The same is true for outsiders who trade on their own account after receiving inside information. But, corporate insiders who share inside information (known as “tippers”) can face insider trading liability as well, even when they do not personally make use of the material and nonpublic information. If providing a tip leads to financial payment or any form of indirect or intangible benefit, this can be sufficient to establish the final element of insider trading liability.

Common Defenses in Civil Insider Trading Litigation

While the definition of insider trading is broad, there are numerous potential defenses available in civil insider trading litigation. These defenses include:

  • Corporate disclosure prior to use of the material information
  • Lack of knowledge that material information was confidential
  • Lack of possession of material and nonpublic information
  • Mosaic defense (reliance on multiple pieces of immaterial information rather than a single piece of material information)
  • Reliance on the advice of counsel
  • Trading pursuant to a Rule 10b5-1 scheduled trading plan

Concerned about Insider Trading Allegations? Contact the Trusted Lawyers of Oberheiden, P.C.

If you are concerned about possible insider trading allegations, or if you are facing a civil lawsuit for insider trading, you can contact the law offices of Oberheiden, P.C. for an initial consultation. To speak with one of our experienced attorneys in confidence, please call (888) 519-4897 or request an appointment online today.

This information has been prepared for informational purposes only and does not constitute legal advice. While this information may constitute attorney advertising in some jurisdictions, merely reading this information does not create an attorney-client relationship. Every case is different, any prior result described or referred to herein cannot guarantee similar outcomes in the future. Oberheiden, P.C. is a Texas limited liability partnership with its headquarters in Dallas, Texas. Mr. Oberheiden limits his practice to federal law.

Who Will Handle Your Case

When you hire us, you will not work with paralegals or junior lawyers. Each lawyer in our Health Care Practice Group has handled at least one hundred (100) matters in the health care industry. So, when you call, you can expect a lawyer that immediately connects with your concerns and who brings in a wealth of experience and competence. For example, you need someone like Lynette S. Byrd, a former federal prosecutor in health care matters, who recently left the government and who is now sharing the valuable insights she gained as a health care prosecutor with our clients.

Dr. Nick Oberheiden

Dr. Nick
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