Compliance, Insider Trading, Investigation, Material Non-Public Information, MNPI, SEC, Securities Laws

Insider Trading Charges

Before we dive into how the SEC prosecutes insider trading cases, let’s cover how the Commission tracks insider trading.

As mentioned in the previous post, What is Insider Trading? the SEC most efficiently monitors all insider trading by tracking the trading volumes (basically total number of shares transacted between a buyer and seller during a specified time period) of any particular stock. When there is material news announced to the public – like a merger, closing down of business, CEO stepping down, criminal charges filed – trading volumes commonly increase in response to the news. If no news is announced but the trading volume is irregular or at increased volume, this pattern is a red flag for the SEC because trading volumes should not be irregular if there is nothing that would induce this type of public reaction. Once the red flag is noted, the SEC investigates to better understand which firm and/or individual is responsible for the trading and whether it was illegal or not.

More specifically, the SEC tracks insider trading in several ways:

  • Market surveillance activities: this includes the trading volume monitoring described above. Using sophisticated tools to detect insider trading around important events like earnings reports and key corporate developments, the SEC picks up on unusual trading volumes.
  • Tips from the public: this includes ‘whistleblowers’ and tips from investors, traders, anyone familiar with the insider trading instance.
  • Self-regulatory organizations, investigative journalists, media: self-regulatory organizations like FINRA and media outlets digging for a story may uncover potential violations of securities laws and alert the SEC to such activities.

Once the SEC has gathered information on a possible securities violation, the Division of Enforcement launches a full investigation. As with any other legal case, the SEC interviews witnesses, examines trading data and records, subpoenas phone records and documentation. The prosecutor must be able to prove beyond a reasonable doubt that: 1) the firm or individual purchased or sold a security; 2) the firm or individual possessed material, non-public information; 3) the information was not publicly known; and 4) the information was material. The SEC then authorizes an administrative action or the filing of a case in federal court.

Sentencing and Punishment

Insider trading can be punished by civil sanctions or criminal prosecution or both – depending on the facts of the case and circumstances of the unlawful activity. The following describes the maximum punishment faced for violating the U.S. securities laws as a result of insider trading:

  • Criminal penalties: the max. sentence for an insider trading violation is 20 years in federal penitentiary; $5 million criminal fine for individuals; and $25 million criminal fine for an entity/company.
  • Civil sanctions: disgorgement of profits gained or losses avoided subject to treble damages (basically liable for an amount up to 3X the profit gained or losses avoided); an individual could face a civil penalty not to exceed $1 million or 3X the profit gained or losses avoided as a result of the violation; and the violator is subject to being sued by a party adversely affected in the illegal trade.
  • Additional charges: individuals may also face prosecution for tax fraud, obstruction of justice, computer fraud, making false statements, disciplinary proceedings by a state licensing board and suspension/revocation of a license to practice in a professional field (e.g. CFA, MD, JD, securities licenses).
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