Although some early commentators have described the Supreme Court's insider trading decision in Salman v. United States as an important win for the government, in fact the Court decided only one issue that should never have been in doubt: that gifts of material nonpublic information to family members are illegal insider trading because a tipper necessarily receives a "personal benefit" when he or she makes a gift of inside information to a family member. The opinion expressly avoids other, more difficult issues concerning tips of inside information in the commercial context, where the tipper and tippee are professional acquaintances, and where valuable tips are sometimes passed through one or more intermediaries. In those scenarios, it remains unclear what type of "personal benefit" the tipper must receive for the inside information to qualify as a breach of duty, and whether the tippee must know that the original tipper received a "personal benefit" in exchange for the information. Thus, the Supreme Court has provided no guidance to companies and investors who sometimes receive material nonpublic information in the course of their business. Going forward, those market participants must decide how to handle that information against a backdrop of considerable legal uncertainty.
Salman concerns when a "tipper" can be held liable for insider trading for providing material non-public information to someone who trades on it, or, conversely, when a "tippee" can be held liable for receiving that information and trading on it. The root of the problem in Salman, and the source of confusion generally, is the so-called "personal benefit" element of tipper-tippee liability. In 1983 in Dirks v. S.E.C. the Supreme Court held that when a tipper gives valuable inside information to a tippee who trades in the securities of the company in question, neither the tipper nor the tippee can be liable for insider trading unless the tipper receives some "personal benefit" in exchange for the information. Dirks had disclosed information concerning a fraud that was occurring at the company information that he had also disclosed to regulators, including the SEC itself. The Supreme Court articulated this requirement to clarify that a whistleblower like Dirks could not be held liable for insider trading. Dirks noted, in contrast, that a tip of inside information "to a trading relative or friend" necessarily satisfied the personal benefit element.
Other cases have presented even more bizarre judicial inquiries into whether the tipper and the tippee were sufficiently close "friends" to satisfy Dirks. For example, one court found that the friendship between roommates who shared beers and details about their day was sufficiently close to support liability. In another case, by contrast, a tipper was held not to be a "friend" of the tippee, and thus not to have received a sufficient personal benefit for the tip, in part because the tipper was a golfer and heavy drinker, and the tippee was neither. These are peculiar inquiries for a court or regulator, and their connection to the statutory text of the relevant laws and regulations is elusive.
The Court of Appeals for the Second Circuit attempted to address the arbitrary nature of the "personal benefit" requirement in its 2014 decision in United States v. Newman. The circuit court held that the government had to prove that the tippers received a "personal benefit" that was "objective," "consequential" and potentially "pecuniary" or "valuable." Newman also held that "downstream tippees" who received the inside information indirectly after it had passed through multiple intermediate tippers (and thus did not deal directly with the original tippers) had to have at least some knowledge of the "personal benefit" provided to the original source of the information.
For professional acquaintances such as analysts and investors at different firms, the difference between Newman's formulation of the personal benefit standard and the previously applicable standard could frequently be decisive: there is a world of difference between professional acquaintances who share information as part of an express quid pro quo, as Newman may require, and professional acquaintances who have only a reputational or other subjective interest in sharing information, which was arguably sufficient before Newman.
The Ambiguities in the Law Post-Newman
Taken together, Newman and other cases that followed Dirks raised at least four significant questions for potential resolution by the Supreme Court:
1. If the tipper and tippee are not related as family, but have only a professional relationship (as was the case in Newman itself), what type of "personal benefit" must the tipper receive from the tippee to satisfy the "breach of duty" element of an insider trading claim?
2. If the tipper and the tippee are friends rather than family, under what circumstances is that friendship sufficient to constitute a "personal benefit"?
3. If the tipper and the tippee have a familial relationship, is that relationship sufficient, in and of itself, to satisfy the "personal benefit" requirement?
4. What, if anything, does a downstream tippee, who did not deal with the tipper who originally provided the insider information, need to know about the "personal benefit" that an upstream tippee provided to the tipper?
The Holding in Salman
Unfortunately and surprisingly to many observers the Supreme Court did not grant certiorari in Newman, but instead chose to hear Salman just three months later. Salman involved tips of inside information from an investment banker to his brother and to the banker's future brother-in-law, Salman. After Salman was convicted of insider trading, he argued, unsuccessfully in the Ninth Circuit, that Newman required reversal of his conviction because the government had not proven that the tipper-banker received an objectively consequential personal benefit under the Newman standard. But Salman differs from Newman in a key respect: the tipper and the tippee in Salman, and indeed everyone involved in the tipping and trading at issue, were family members by blood or marriage. As a result, the alleged insider trading in Salman did not take place in the commercial context that most concerns public companies, professional investors, and other market participants.
Relying heavily on that distinction, the Supreme Court in Salman disapproved of Newman only insofar as the Second Circuit had suggested that a tipper must receive "something of a pecuniary or similarly valuable nature" to be liable for a tip to a family member or friend. As the Court noted, a faithful application of Dirks "easily resolves" this "narrow issue." It explained, as it had in Dirks, that a gift of confidential information to a "trading relative or friend" is tantamount to the tipper trading on the information and gifting the profits to the recipient, which would clearly be enough to find a breach of a fiduciary duty.
The Supreme Court recognized that applying the personal benefit standard in other cases remains no easy task, particularly where it is not so clear-cut that the tipper received a "benefit" from the gift. However, the Court concluded that "there is no need for us to address those difficult cases today, because this case involves precisely the gift of confidential information to a trading relative that Dirks envisioned."
The Supreme Court's decision not to clarify the law in the commercial context is unfortunate. The Court's reticence seemed to be motivated in part by a belief that in most tipper-tippee cases, the tipper and the tippee are related by family. That assumption is simply wrong. Newman and a number of other cases pending in the Second Circuit demonstrate that tips are often made in the context of professional relationships, where investors and other companies may come into possession of potentially non-public information, and are uncertain whether they can trade in the securities of the relevant company. Those are the scenarios where the market most needs guidance. And Salman provides none.
In those scenarios, Newman remains potentially good law at least in the Second Circuit and gives tippees
In the meantime, cautious market participants will choose to refrain from trading on potential inside information in situations where the trading may technically be legal ceding an unfortunate trading advantage to players with a greater appetite for regulatory risk.