Insider Trading

Insider trading involves trading in a public company's stock by someone who has non-public, material information about that stock for any reason. Insider trading can be either illegal or legal depending on when the insider makes the trade.

Insider trading is illegal when the material information is still non-public, and this sort of insider trading comes with harsh consequences.

The U.S. Securities and Exchange Commission (SEC) defines illegal insider trading as: "The buying or selling a security, in breach of a fiduciary duty or other relationship of trust and confidence, on the basis of material, nonpublic information about the security."

Directors of companies are not the only people who have the potential to be convicted of insider trading. In 2003, Martha Stewart was charged by the SEC with obstruction of justice and securities fraud—including insider trading—for her part in the 2001 ImClone case.

Stewart sold close to 4,000 shares of biopharmaceutical company ImClone Systems based on information received from Peter Bacanovic, a broker at Merrill Lynch. Bacanovic's tip came after ImClone Systems chief executive officer (CEO), Samuel Waksal, sold all his shares of the company. This came around the time ImClone was waiting on the Food and Drug Administration (FDA) for a decision on its cancer treatment, Erbitux.

Shortly after these sales, the FDA rejected ImClone's drug, causing shares to fall 16% in one day. The early sale by Stewart saved her a loss of $45,673. However, the sale was made based on a tip she received about Waksal selling his shares, which was not public information. After a 2004 trial, Stewart was charged with lesser crimes of obstruction of a proceeding, conspiracy, and making false statements to federal investigators. Stewart served five months in a federal corrections facility.

In September 2017, former Amazon.com Inc. (AMZN) financial analyst Brett Kennedy was charged with insider trading. Authorities said Kennedy gave fellow University of Washington alumni Maziar Rezakhani information on Amazon's 2015 first-quarter earnings before the release. Rezakhani paid Kennedy $10,000 for the information. In a related case, the SEC said Rezakhani made $115,997 trading Amazon shares based on the tip from Kennedy. Insider trading is deemed to be illegal when the material information is still non-public and this comes with harsh consequences, including both potential fines and jail time.

investopedia