Insider Trading Explained – What Is It and Is It Illegal?

insider trading

Insider trading is the purchase or sale of stocks or other securities based on information that is not available to the general public. It involves a direct breach of fiduciary duty or other violation of trust in which the trader uses insider knowledge to benefit financially. Here are some reasons why insider trading is used and which parts of it are illegal.

What is insider trading?

An insider is a person who has access to valuable non-public information regarding a business or has ownership of stock that equals to more than 10% of a company’s equity. This means that the directors of a company and their high-level executives are considered insiders.

Insiders are legally allowed to buy and sell shares of the company as well as any subsidiaries that employ them, but these transactions need to be correctly registered with the Securities and Exchange Commission (SEC) and documentation must be done in advance.

When a CEO buys back shares of their own company or if an employee buys stocks in the company in which they work for, this is considered legal insider trading.

Is it illegal?

However, illegal insider trading is the use of non-public information for profit. This can be performed by anyone including company executives, their relatives or friends, or anyone at all. The only requirement is that the information is not known by the public.

An example of this could be a CEO of a public company mentioning the business’ earnings whilst they are out with their friend. If their friend then uses this information to trade, that is known as illegal insider trading and the Securities and Exchange Commission has every right to take legal action.

The SEC can monitor illegal insider trading if a business’s trading volumes suddenly increase. When there has been no public information provided and there is a dramatic rise in trading volumes then this is a sign that there may have been some illegal insider trading happen.

The difference between Insider Trading and Insider Information is the acting upon it. For example, if some information regarding the profits and sales of a public business had not yet been released to the public but was discussed by the business’ CEO and other members of management, this would be insider information. If this information was then shared and acted upon as part of a trade, this then becomes insider trading and is consider illegal.

Insider trading can be prevented and better regulated with the help of white collar defence and investigations services, who can help source the route of an insider trade deal as well as introduce the right precautions.

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