Introduction

By judgment No. 15224 rendered on 3 July 2014 (the “Judgment”), the Supreme Court has extended the boundaries of the prohibition on insider trading, i.e. the ban (on the basis of the legislation wording in force at the time of the relevant facts1 on “purchasing or selling, or completing other transactions, including via a third party, in relation to securities, including related option rights, when in possession of confidential information obtained by virtue of a shareholding in a company or as a result of holding office, including public office, or of the exercise of a profession or role”.

The case before the Court concerned conduct by a pool of well-known Italian banks facing significant exposure towards a company that operated in the real estate sector being declared bankrupt. On the strength of confidential information provided by an advisor2, the banks in the pool had converted their receivables into shares in the debtor company and then sold them on the market to third-party investors, who suffered significant losses as a result of the decrease in value of the shares.

The Court ruled that the pool of banks was liable not only because of the decision taken to sell the shares based on the privileged information, but also due to the fact that the information supplied by the advisor, which was relevant in terms of the performance of the shares on the stock market, should have been communicated to Consob3 (the Italian securities market regulator).

In summary, the Court’s view was that the pool of banks had taken advantage of privileged information to the prejudice of the investors, who had no way of knowing that the debtor company was in serious financial difficulties without any exit route available.

The content of the advisor’s report

According to the Judgment: (i) the banks were in a position to be perfectly aware that the debtor “was, to all intents and purposes, on its way down the path of liquidation, even though this had not been officially declared” and that bankruptcy was more of a certainty than a mere probability; ii) the information provided by the advisor was to be treated as confidential and of a definite and specific nature4, and provided clear signs (which were not lost on the pool of banks) that the company was, without doubt, insolvent. In support of this, the Court pointed out in particular the fact that, upon receipt of this information, the pool of banks proceeded to carry out a large-scale disposal of the shares5.

The nature of the privileged information

The Judgment makes it clear that not only information relating to steps and decisions taken by others should be treated as privileged (and, therefore, subject to the legislation on insider trading): information concerning decisions made by the company itself and which are capable of prejudicing the investors as a group also comes under the same umbrella.

As the information in question in this particular case prompted steps to be taken and decisions to be made within the pool (i.e. the decision not to go ahead with recapitalisation and to reject a bid tabled by another company), the principles of propriety that underpin the rules of conduct governing financial operators meant that it was incumbent upon the banks, as parties with an “information advantage”, to refrain from completing the transaction.

This duty of propriety and transparency does not, the Court argued, take a back seat when the transaction is of a speculative nature, which is in fact the case with the majority of stock market transactions; in addition, the transformation of the receivables into shareholdings must not become a tool that is used to wrongfully shift, onto third parties, the loss in value corresponding to the original receivable.

The right to claim damages

Another key point of the Judgment is that it recognises a right to claim damages on the part of all of the investors who, despite the absence of any direct contractual relationship with the party that placed the securities on the market, suffered losses that could be linked to the exploitation, by the financial operators, of the privileged information.

The Court in fact recognised that the legislation governing insider trading and the duties of propriety and transparency imposed upon financial operators enjoys a broader scope of application when compared to the codified provisions: these duties are imposed in order to provide a guarantee of proper price formation in relation to financial instruments on the market, thereby providing a safeguard for anyone who happens to trade on the basis of those prices at any given time.

Against this backdrop, the Court went on to recognise: (i) the right to bring an action on the part of all those who, despite not being clients of the banks that made up the pool, suffered losses at the hands of those banks as a result of the decrease in value of the securities purchased on the stock market; (ii) a causal link between the unlawful conduct and the losses complained of.

On this last point, it was noted that the failure to notify Consob (and, therefore, the fact that the public was kept in the dark) of information which, despite primarily being information that shapes the steps taken by those who have it to hand, could lead to the group of investors incurring losses, is to be deemed unlawful in light of the principle that “whoever invites investment by the public by offering equity securities shall act in such a way that, in the context, the other party to the contract is in a position to carry out a proper analysis of the offer and of the merits of the transaction”.

Conclusion

With this Judgment we see the Supreme Court grant an extremely broad scope of application to the provisions governing insider trading on the basis of the view that they “are capable of extending further than simply providing a safeguard for the other specific individual party to the contract, and can extend beyond the scope of the individual contract itself and beyond liability towards the individual client and contracting party, in order to ensure, in broad and general terms, propriety on the part of those operating on the market”.