In a series of statements over the last several weeks, the Department of Justice and Securities and Exchange Commission have sought to clarify the government’s current securities regulation objectives and to provide an overview of their enforcement priorities for the coming year. In blog posts throughout this week, we will parse the government’s recent statements and share the advice we’ve been providing to our clients on how to successfully navigate the current and future securities regulation and enforcement environment. We begin with Insider Trading, Post-Newman.
The Second Circuit’s decision last December in United States v. Newman tightened the standard for pleading securities fraud based on insider trading in the Second Circuit (and likely far beyond, given the Supreme Court’s denial of certiorari last month, and recent statements to that effect by the regulators). Newman taught that to secure a criminal conviction for insider trading in violation of sections 10(b) and 32 of the Securities Exchange Act of 1934, and the rules promulgated under section 10(b), SEC Rules 10b‐5 and 10b5‐2, the government must allege and prove beyond a reasonable doubt that: (a) the tippee was aware of a personal benefit to the tipper, and (b) the benefit to the tipper was concrete and meaningful—something more than friendship, but perhaps less than a Rolex.
The DOJ and SEC have indicated that they now (unofficially) consider Newman to be the law of the land. During last month’s PLI Institute on Securities Regulation in New York, after providing oral disclaimers to the effect that their statements do not reflect the government’s official position, the DOJ and SEC offered significant insight into their readings of Newman. SEC Enforcement Director Andrew Ceresney revealed that the SEC is treating Newman as precedential, even outside the Second Circuit. While the burden for establishing liability for insider trading in the civil context is lower, post-Newman civil dismissals that have followed dropped criminal charges indicate that the government will aim to satisfy the Newman standard in future civil cases, as well.
The DOJ, for its part, is exploring its options for securing criminal convictions for insider training despite Newman’s roadblocks, according to Assistant Attorney General Leslie R. Caldwell. Expect to see prosecutions under 18 U.S.C. § 1348, the securities and commodities fraud statute, which does not require prosecutors to demonstrate any personal benefit to tippers.
Outlook: For Newman, Chiasson, Steinberg, and other alleged downstream tippees, Newman’s impact has been nothing short of life-changing. For the potential targets of insider trading charges, the decision has certainly calmed nerves in an era of increased enforcement activity. For the future of securities enforcement, much remains the same. Most insider trading cases are brought against tippers and tippees with personal relationships, as opposed to parties who are connected only by a string of messengers, as in the game of telephone. The government now knows the minimum showing it must make to secure convictions under the Exchange Act, and will expend considerable efforts on demonstrating actual personal benefits to tippers.
In addition, the regulators are now thinking outside of the box and will rely on novel theories of liability for criminal and civil enforcement of insider trading cases formerly brought under the Exchange Act. Finally, Congress may step in to pass an insider trading statute that defines the crime, something that the nebulous Exchange Act has never actually done.
Bottom line: it is illegal for insiders and others with access to confidential, non-public, company information to breach their fiduciary duties and disclose such information in exchange for some personal benefit of substance. Until Congress or future court cases further refine the parameters of the offense of insider trading, those with access to inside information must take care to avoid, inadvertently, violating the law.
One theory of liability discussed at the conference in NY and that has become more prevalent of late is the “love tip.” One partner in a relationship, the company insider, inadvertently discloses material, non-public information to the other, who then trades on the information. While defense counsel will argue, of course, that such a tip was inadvertent, that the tippee knew he or she shouldn’t trade on the tip, and that there was no intent to break the law, this is one situation in which the government does not have difficulty in pleading a viable “personal benefit.” Joint bank accounts, jointly owned property, and even birthday or holiday gifts purchased with allegedly ill-gotten gains are all potential fodder for love-tip cases. Insider trading prevention and relationship booster: keep some mystery in the relationship, especially when it comes to business.