Since the time the first stock exchange was established in the sixteenth century, a lot many people have tried different unethical ways to make money from it. Although a few are able to fool the market and make sustainable profits, however, most gets caught from the governing bodies.
One such fraud on which most of the regulatory bodies keep an eagle eye is “Insider’s Trading”. In this article, we are going to discuss what exactly is Insider trading, why it is illegal and how you can protect yourself from it.
What is Insider Trading?
The stock market is able to work in an efficient way when all the investors have the same information, this creates a level playing field. Here, the investors are rewarded for their analysis and expertise.
Insider Trading throws this level playing field out the window. In insider trading people who have access to sensitive private information take advantage of investors who are oblivious to these facts. Insider trading refers to trades made based on material price sensitive non-public information about the company.
What forms a part of insider trading?
The timing when the person in question makes the trade is also important. If the information in question is still non-public when the buy/sell of shares takes place it constitutes insider trading. It is also important to note that if the person accused of insider trading is linked to someone within the company or someone who is associated with the company, then both can be prosecuted. Acting on the information does not only constitute trading the share of the company in the stock market. Even further passing on the information is illegal. In India, close relatives of company officials are also considered as insiders.
Case 1: Say an employee of a company shares some price-sensitive information with his father. His father then goes onto share this information with his friend who uses it to profit from the stock market. Here all three involved can be prosecuted for insider trading.
Case 2: A person overhears material information at the cafeteria from employees of a company. He then goes onto profit based on this information. As long as he has no connection to the employees of the company he is not guilty of insider trading.
Case 3: An employee of a company enters into a disinvestment plan with his broker. According to this plan, he would sell his stake in the company over regular intervals over a period of one year. After 9 months the employee is made available with some material non-public information. According to this material information, the employee would make a loss if the shares are held by him. In this case, as long as the employee can prove his trades were part of a preexisting plan he can be acquitted of the insider trading charges.
Unfortunately enough at times, those accused of insider trading make use of ‘Case 2’ and ‘Case 3’ in their defense. Individuals who have brokers trading on behalf of them also claim that they had no idea of the trades taking place as they were acted on by the broker.
Who can be implicated for Insider Trading?
To understand insider trading better it is necessary to understand who can be implicated in insider trading. Generally, insider trading revolves around members of an organization who possess material information. But it isn’t always necessary for you to be a member of the organization to be a part of insider trading. Important decisions that may impact the share price involves parties that may not work within an organization. Say for example A company planning to undergo a merger with another company will involve many third parties like bankers, lawyers, and other professionals who offer their services to the company. If they act on the information they receive they can be prosecuted for insider trading.
The implementation of various decisions taken by the company requires prior approval from the government. Hence government officials too can be incriminated for acting on the confidential decisions they receive while executing their duties.
Insider trading, however, is not limited to white-collar relations. Members of an organization or employees may share the information with friends or family or acquaintances. If this information that is yet to be made public is acted on they will also be prosecuted under insider trading.
Related:- THE WOMEN LAND ARMY IN PICTURES
Infamous insider trading cases
Dilip Pendse served as the Managing director of Nishkalpa, a wholly-owned subsidiary of TATA Finance Ltd. (TFL). As of March 31st, 2001 Nishkalpa made a loss of 79.37 crores. This information was to be made public only a month later on April 30th. This information was price sensitive as it would lead to a fall in prices if leaked. Dilip Pendse was in access to this information due to the role he played within the company.
During this period Dilip leaked this price-sensitive information to his wife. In between this period, 90,000 shares which were held by his wife and a company jointly run by his wife and her father in law in Nishkalpa were sold in order to avoid losses. Dilip Pendse, his wife, and the company jointly owned by his wife and her father in law were found guilty of insider trading.
Martha Stewart is a prominent TV personality who has also won an Emmy for her work on the ‘Martha and Snoops Dinner Party’. In the year 2001 Martha Stewart owned up to 4000 shares of the BioPharma Company ‘ImClone Systems’. Her broker received a tipoff that the CEO of ImClone Systems sold all his holdings held in ImClone. The CEO did this as he received information that the FDA was about to reject one of ImClone’s cancer treatment drugs. Shortly after this news became public the shares of ImClone dropped 16% in one day.
Rakesh Jhunjhunwala was probed by the SEBI in January 2020 on account of alleged insider trading. These allegations were based on the trades made by him and his family in the IT education firm Aptech. Aptech is the only firm in Jhunjhunwala’s portfolio in which he owns managerial control. SEBI also questioned Jhunjhunwalas wife, brother, and mother in law. This, however, is not the first time that Rakesh Jhunjhunwala has been embroiled in insider trading controversy.