Alternative Data, Insider Trading, MNPI

Big Data and Risks of Insider Trading

To date, there is no precedent insider trading case(s) in connection with big data/alternative data. There is also very little in general case law and settled guidance. Rest assured though, this is coming in the very near future and internal legal and compliance teams at hedge funds are conducting extremely thorough diligence prior to onboarding vendors. Current insider trading laws enable investors to escape liability through contractual agreements that impose no fiduciary duty on any parties gathering or purchasing the data. There is legislative movement towards deeming any person in possession of confidential information derived from the alternative data to have a fiduciary duty.

For example, companies selling private consumer data without consent would violate a fiduciary duty owed to those consumers AND funds who fail to conduct proper diligence and trade on the alternative data would be subject to insider trading under a misappropriation theory.

In the current absence of established legal and regulatory framework, investors are implementing best practices to mitigate risk of insider trading in connection with the alt data sets they are ingesting.

Here’s what they are thinking about (use this list as guidance during your data monetization process):

  • Who is the data vendor? Private or publicly traded company (does the hedge fund have a position in the name?)
  • What is the main business purpose?
  • What other lines of service or business is the vendor offering?
  • Who leads the company, is their background check clean?
  • What is the data that is being purchased? How time sensitive is it?
  • What is the delivery/lag in delivery?
  • How many other investors are purchasing this dataset?
  • Are there any geographic limitations of the resell of the data?
  • Who owns the data that the firm is purchasing? Does the vendor have the appropriate rights to the data and the right to sell the data to a third party for that third party’s intended use? (for example, not to make the end-user’s experience on the platform easier but for analytics and research or any undefined/unlimited purpose)
  • Are all parties in the data chain placed on notice that the data may be redistributed to third parties, which may include investor clients?
  • How is the data collected? What is the underlying methodology? Is there a clear data collection path?
  • Is the data vendor able to rep and warranty in an agreement that the data does not contain any MNPI (or PII)?
  • If the data is coming from third-party relationships, is the data vendor open and transparent about who the third-party is?
  • Is the vendor able to provide appropriate redacted agreements, privacy policy, terms of use, opt-in language to prove their rights to the data?
  • Is the data vendor able to indemnify the investment firm against any claim that the data from the vendor was obtained or sold in breach of the vendor’s legal duties to the sources of the data?
  • How has the data vendor thought about insider trading/MNPI concerns? Is there internal or external legal counsel or compliance involved in the collection, review, redistribution analysis?
  • Is there a written policy and/or training for internal employees?
  • Has an information barrier been implemented if the vendor is offering multiple lines of business (for example, advisory or consulting services to public entities, government entities, etc.)
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