By John F. Lauro
Let’s assume that you just played golf with a buddy from college who is a high-ranking sales manager for a publicly traded manufacturing company. Over drinks, he casually mentions that his company is about to sign a major contract with the Chinese government. The next day, you buy thousands of shares of stock in the company, hoping that once this information is released, the stock price will hit the roof.
Have you committed a federal crime? Well, that may depend on whether you are in New York, San Francisco, or, for that matter, Tampa. As a result of two recent significant U.S. Circuit Court of Appeals decisions, the law of insider trading has become, in a word, muddled.
The Second Circuit, in a landmark decision, United States v. Newman, 773 F.3d 438 (2nd Cir. 2014), recently turned back an effort by federal prosecutors to go after so-called “remote tippees” who received confidential information without knowing that the tipper who made the disclosure received any personal benefit. The law of insider trading developed from the courts’ interpretation of section 10(b) of the Securities and Exchange Act of 1934, which does not expressly prohibit insider trading. Instead, the law criminalizes the use of any “manipulative or deceptive device or contrivance” in connection with the sale or purchase of securities. Insider trading has been deemed such a fraudulent practice for many years. But what does a prosecutor have to prove to get a conviction for insider trading?
The Newman court made clear that there are several hurdles in a criminal case, including proof that the tipper received or expected some personal benefit in exchange for the disclosure; that is, something that is “objective, consequential, and represents at least a potential gain of a pecuniary or similarly valuable nature.” Newman, 773 F.3d at 446-47. The tipper must receive something resembling a quid pro quo, and the tippee must know about it. Id.
Now, enter the Ninth Circuit. In a decision written by Judge Jed Rakoff, sitting by designation (ironically Judge Rakoff sits in the Southern District of New York, which is in the Second Circuit), the court in United States v. Salman, 792 F.3d 1087, 1093 (9th Cir. 2015), held that a mere friendship or family relationship would qualify as a personal benefit to the tipper sufficient to create a breach of fiduciary duty and violation of law. Salman took direct aim at Newman and affirmed a conviction where family members were sharing inside information, but the tipper was otherwise receiving no tangible or pecuniary benefit. Id. at 1092-93.
So, the exchange of information and trading described above might be alright in New York, but probably not in San Francisco. As far as Tampa, the Eleventh Circuit so far has not weighed in. And the confusion will continue since the Supreme Court denied certiorari in Newman.
