What Is Insider Trading?
The rich and famous are rich and famous for many reasons, but some cut corners to make millions. One of the most popular ways to do this is by insider trading. So, what is insider trading and what happens to those found guilty?
Insider Trading Defined
Insider trading is the trading of a company’s stocks or assets by those with access to confidential company information. While this may not sound like a bad thing, trading on the stock market is supposed to be done with integrity. When a person trades stocks based on confidential information, they are doing so without integrity.
Additionally, most companies have a clause in their employment contracts to ensure that employees perform their duties ethically. Not only do executives and staff members handle sensitive information, but they also have a fiduciary duty to protect that information and use it for the company's benefit in an ethical way, not for personal gain.
Many corporations allow the public to invest and “get a slice of the corporate pie,” but those with insider information can manipulate the market which violates the individual investor’s right to participate in a free market.
In some cases, economists view insider trading as one of the gravest sins of all because they believe it is a direct threat to the economy. To them, trading increases the value of the stock which makes it harder to sell and eventually depresses the economy. When insider trading occurs, participants may greatly impact the value of the stock which could have major implications for the company and the economy.
The Principle of Quid Pro Quo
In Latin, quid pro quo means “something for something.” In modern times, we understand this phrase to mean “scratch my back and I will scratch yours” which means doing a favor with the expectation of a favor in return. For example, your coworker agrees to pick you up from the airport, but only if you do the same for them in the future.
In many insider trading cases, those involved often agree to a quid pro quo arrangement. A director may share some confidential information with their powerful (and wealthy) friends in the hopes that they will invest and increase which will increase the company’s stock prices and put money in the director’s pockets.
On the other hand, an employee may share information with a friend who invests in their company to warn them that they could potentially lose money. Regardless of the end goal of the quid pro quo, using this principle to trade based on insider information is dangerous and disrupts the integrity of the free market.
Doing a favor for a friend or warning them that trouble ahead seems like the nice thing to do, but in reality, when it comes to stocks and the market sharing sensitive information is a violation of privacy and ethical trading principles. Besides, no amount of friendly favors is enough to get you out of insider trading criminal charges.
Example: Enron
The phrase, “the bigger they are, the harder they fall” has never applied to a company more than Enron. A leader in energy and technology, Enron was a leader among its peers in profits and had a bright future. During the height of the company, the Nasdaq hit all-time highs as companies like Enron took part in the dot com bubble but Enron stood out in front of the others.
Things took a turn for the worst when company leader Jeffrey Skilling changed the accounting methods so Enron could receive approval from the Securities and Exchange Commission without losing much money to oversight or maintaining their books.
It quickly became evident that the new accounting system allowed Skilling and others to manipulate their records to appear more profitable than they were. Not only did this lead leadership to hide their debts, but the company also had no revenue to back up its investors, and the company entered financial freefall.
As a result, Enron cut their employee’s ability to sell their shares for 30 days after termination. Skilling and others chose to do this so that they would have time to figure out a stopgap for their stocks while employees were stuck holding bum stocks that plummeted in value.
By the time the dust settled on Enron, it became clear that Skilling advised employees to hold onto their stocks because he had insider information about the company’s health and knew that if the employees knew how bad things were, they would sell immediately and the company would drown.
Prosecuting Insider Trading
All of Enron’s executives were charged with insider training and fraud in addition to obstructing justice. This was a high-profile, large-scale case but the SEC has strict guidelines for insider trading cases of all shapes and sizes.
In general, most white-collar crimes are charged together – insider trading is often paired with fraud or conspiracy. Adding other charges into the mix can make things complicated because most wire fraud, conspiracy, or other white-collar crimes are charged in counts meaning every email, phone call, fraudulent transaction, or trade is an individual criminal charge.
The SEC says that the maximum sentence for insider trading is 20 years in prison and fines up to $5 million. Depending on the case, the sentence could change especially if other charges are at play.
If you have been charged with insider trading, contact The Law Offices of Phillip T. Ridolfo, Jr. immediately. Time is of the essence and only a qualified attorney can help you protect your freedom.