WEBVTT 00:00:00.000 --> 00:00:02.140 Welcome back to the Deep Dive. Today, we are 00:00:02.140 --> 00:00:04.980 taking an exhaustive look into one of the most 00:00:04.980 --> 00:00:07.940 tempting and definitely one of the most complex 00:00:07.940 --> 00:00:11.019 financial crimes on the planet, insider trading. 00:00:11.160 --> 00:00:13.400 It really is. It's the ultimate shortcut, isn't 00:00:13.400 --> 00:00:15.820 it? And it's been the subject of regulatory anxiety 00:00:15.820 --> 00:00:19.679 for, well, almost a century now. At its heart, 00:00:19.719 --> 00:00:22.339 we are talking about buying or selling a company's 00:00:22.339 --> 00:00:26.289 stock. or its securities based on material non 00:00:26.289 --> 00:00:28.809 -public information. And that right there, that 00:00:28.809 --> 00:00:31.829 phrase, material non -public information, is 00:00:31.829 --> 00:00:34.170 key. It's information that, if the rest of the 00:00:34.170 --> 00:00:36.170 market knew it, would almost certainly cause 00:00:36.170 --> 00:00:38.780 a significant shift in the price. Exactly. And 00:00:38.780 --> 00:00:40.679 that simple definition, you know, it opens up 00:00:40.679 --> 00:00:44.140 this huge legal and ethical fissure. Right. Is 00:00:44.140 --> 00:00:46.200 this just a clever, maybe even harmless way to 00:00:46.200 --> 00:00:48.899 profit on having superior information? Or is 00:00:48.899 --> 00:00:51.219 it fundamentally unfair? Is it fraudulent and 00:00:51.219 --> 00:00:53.539 maybe even a threat to the integrity of the entire 00:00:53.539 --> 00:00:57.020 financial system? Well, legally, most every jurisdiction 00:00:57.020 --> 00:00:59.320 around the world has sided with that latter view. 00:01:00.299 --> 00:01:02.640 and this is what makes it so fascinating the 00:01:02.640 --> 00:01:05.760 rules defining why it's illegal and more importantly 00:01:05.760 --> 00:01:10.090 who counts as an insider are uh constantly being 00:01:10.090 --> 00:01:12.150 rewritten. The courts are always trying to keep 00:01:12.150 --> 00:01:15.250 pace with sophisticated bad actors. So our mission 00:01:15.250 --> 00:01:17.430 today is to go a lot deeper than the typical 00:01:17.430 --> 00:01:19.989 headlines. That's the plan. We're going to explore 00:01:19.989 --> 00:01:23.269 the complex legal frameworks worldwide. We'll 00:01:23.269 --> 00:01:25.629 dissect the fundamental arguments both for and 00:01:25.629 --> 00:01:27.849 against its prohibition. And yes, we'll actually 00:01:27.849 --> 00:01:29.769 spend time with the Nobel laureate arguments 00:01:29.769 --> 00:01:33.609 for outright legalization, which is a mind bending 00:01:33.609 --> 00:01:36.170 idea for most people. It is. And we'll examine 00:01:36.170 --> 00:01:38.629 how the definition of an insider has just expanded. 00:01:38.700 --> 00:01:40.879 dramatically through these landmark U .S. court 00:01:40.879 --> 00:01:43.500 decisions. It's not just the CEO anymore. Now 00:01:43.500 --> 00:01:45.340 it can catch the proofreader, the consultant, 00:01:45.500 --> 00:01:47.780 even the politician. OK, so let's start there. 00:01:47.879 --> 00:01:50.659 Let's unpack the two primary reasons for prohibiting 00:01:50.659 --> 00:01:53.560 this practice, because fundamentally it feels 00:01:53.560 --> 00:01:56.120 like we have a philosophical battle between market 00:01:56.120 --> 00:01:58.140 fairness on one side and corporate duty on the 00:01:58.140 --> 00:02:00.459 other. That's the perfect way to frame it. That's 00:02:00.459 --> 00:02:03.000 the tension. So the first rationale is what you 00:02:03.000 --> 00:02:05.200 could call the market integrity argument. OK. 00:02:05.519 --> 00:02:08.039 Regulators argue that allowing insider trading 00:02:08.039 --> 00:02:11.719 makes the entire system look rigged. And that's, 00:02:11.719 --> 00:02:14.719 you know, profoundly unfair to the average investor. 00:02:14.919 --> 00:02:17.400 The person putting money in their 401k. Exactly 00:02:17.400 --> 00:02:20.770 that person. If an executive knows the stock 00:02:20.770 --> 00:02:22.689 price is about to double because of a confidential 00:02:22.689 --> 00:02:25.610 product announcement and they buy a ton of shares 00:02:25.610 --> 00:02:28.490 before anyone else can, their ability to make 00:02:28.490 --> 00:02:31.370 these massive disproportionate profits just destroys 00:02:31.370 --> 00:02:33.729 the necessary level playing field. And if the 00:02:33.729 --> 00:02:37.620 public loses faith that the game is fair. They 00:02:37.620 --> 00:02:39.620 pull their capital out. And that, of course, 00:02:39.699 --> 00:02:42.280 hurts everyone. It does. Then the second pillar, 00:02:42.439 --> 00:02:44.939 as you said, seems to relate less to the market 00:02:44.939 --> 00:02:47.680 as a whole and more to the internal rules of 00:02:47.680 --> 00:02:49.400 a company. It's all about corporate governance 00:02:49.400 --> 00:02:51.879 and fiduciary duty. Right. So this is about the 00:02:51.879 --> 00:02:54.080 promises an executive makes to the company and 00:02:54.080 --> 00:02:57.310 its owners. Precisely. It's prohibited to prevent 00:02:57.310 --> 00:03:00.030 key personnel, your officers, your directors, 00:03:00.210 --> 00:03:02.569 from abusing confidential corporate information 00:03:02.569 --> 00:03:05.349 for their own personal gain. They are deemed 00:03:05.349 --> 00:03:07.490 to be agents of the shareholders, and because 00:03:07.490 --> 00:03:10.530 of that, they owe a fiduciary duty of loyalty 00:03:10.530 --> 00:03:13.550 and trust to those shareholders. So using corporate 00:03:13.550 --> 00:03:16.689 secrets to line their own pockets is a direct 00:03:16.689 --> 00:03:19.689 violation of that trust. It's essentially theft. 00:03:19.870 --> 00:03:22.389 It's theft of a corporate opportunity. What's 00:03:22.389 --> 00:03:24.509 really fascinating here, though, is the academic 00:03:24.509 --> 00:03:26.629 paradox that this whole prohibition creates. 00:03:26.870 --> 00:03:29.550 We know regulators catch the big high -profile 00:03:29.550 --> 00:03:32.629 cases, but a lot of studies suggest the majority 00:03:32.629 --> 00:03:35.800 of illegal insider trading just... slips through 00:03:35.800 --> 00:03:37.460 the cracks. That's where the academic debate 00:03:37.460 --> 00:03:39.879 gets truly provocative. Scholars point out that 00:03:39.879 --> 00:03:41.699 since the vast majority of illegal insider trading 00:03:41.699 --> 00:03:43.680 is probably never detected by law enforcement, 00:03:43.979 --> 00:03:46.740 the very existence of the prohibition gives the 00:03:46.740 --> 00:03:49.159 public a potentially misleading impression. That 00:03:49.159 --> 00:03:52.560 stock market trading is an unrigged game. They 00:03:52.560 --> 00:03:54.520 argue that this false sense of security might 00:03:54.520 --> 00:03:57.439 actually be more detrimental than simply legalizing 00:03:57.439 --> 00:04:00.280 it and acknowledging that, look, asymmetric information 00:04:00.280 --> 00:04:02.860 is always at play in markets. So the prohibition 00:04:02.860 --> 00:04:05.610 itself could be seen as a sort of necessary fiction, 00:04:05.770 --> 00:04:08.610 a psychological tool to maintain public participation 00:04:08.610 --> 00:04:12.449 and trust, even if it's in reality very unevenly 00:04:12.449 --> 00:04:15.250 enforced. Exactly. And this tension, the difficult 00:04:15.250 --> 00:04:17.769 proof, the argument over who is actually harmed. 00:04:17.930 --> 00:04:20.389 This is why the U .S. legal system in particular 00:04:20.389 --> 00:04:23.410 has seen decades of highly complex litigation 00:04:23.410 --> 00:04:26.629 as it tries to nail down what constitutes the 00:04:26.629 --> 00:04:29.250 necessary fraud required to prosecute these cases. 00:04:29.490 --> 00:04:31.750 OK, let's turn to our first section then. The 00:04:31.750 --> 00:04:34.009 legal cornerstones defining the insider and the 00:04:34.009 --> 00:04:36.029 crime. We need to start with the people who are, 00:04:36.129 --> 00:04:38.209 you know, transparently monitored and who have 00:04:38.209 --> 00:04:40.629 the clearest possible legal duty. This is the 00:04:40.629 --> 00:04:43.529 formal definition of an official insider. It's 00:04:43.529 --> 00:04:46.209 used globally for mandatory reporting. So in 00:04:46.209 --> 00:04:48.689 the U .S., Canada, Australia, Germany and Romania, 00:04:48.990 --> 00:04:51.569 this group includes a company's officers, its 00:04:51.569 --> 00:04:54.490 directors and any beneficial owners who hold 00:04:54.490 --> 00:04:56.949 more than 10 percent of a class of the company's 00:04:56.949 --> 00:04:59.389 equity securities. These are the people who. 00:04:59.899 --> 00:05:03.120 by law, are just presumed to have constant access 00:05:03.120 --> 00:05:06.240 to Material non -public information. Correct. 00:05:06.519 --> 00:05:08.819 And their actions are under intense scrutiny 00:05:08.819 --> 00:05:11.480 because, as we mentioned, they have volunteered 00:05:11.480 --> 00:05:14.040 to assume that crucial fiduciary obligation. 00:05:14.500 --> 00:05:16.720 They have to act in the best interest of the 00:05:16.720 --> 00:05:19.120 shareholders above their own personal interests. 00:05:19.360 --> 00:05:20.920 The analogy here is pretty clear. They're like 00:05:20.920 --> 00:05:23.139 trustees of the corporation's confidential information. 00:05:23.459 --> 00:05:25.819 Absolutely. Let's use the classic textbook example. 00:05:26.079 --> 00:05:29.139 The CEO learns, maybe in a confidential board 00:05:29.139 --> 00:05:32.360 meeting, that a massive all -cash takeover offer 00:05:32.360 --> 00:05:34.939 is imminent. The public price is about to jump 00:05:34.939 --> 00:05:38.420 40 percent. If that CEO then calls their broker 00:05:38.420 --> 00:05:41.600 and buys a million dollars of stock before the 00:05:41.600 --> 00:05:44.420 public announcement, knowing the price will skyrocket, 00:05:44.620 --> 00:05:47.939 that is the clearest, most unambiguous violation 00:05:47.939 --> 00:05:50.540 of their fiduciary duty to the shareholders. 00:05:51.259 --> 00:05:54.279 They are, in effect, stealing value directly 00:05:54.279 --> 00:05:56.639 from the corporation. Now, it's really important 00:05:56.639 --> 00:05:59.000 to clarify for you, the listener, that trading 00:05:59.000 --> 00:06:01.220 by these official insiders isn't automatically 00:06:01.220 --> 00:06:04.259 a crime. In fact, it's common and totally legal 00:06:04.259 --> 00:06:06.879 for employees, officers and directors to hold 00:06:06.879 --> 00:06:09.740 and trade stock. They often get it through options 00:06:09.740 --> 00:06:12.259 or compensation plans. Right. So what's the dividing 00:06:12.259 --> 00:06:14.480 line? What keeps these routine trades on the 00:06:14.480 --> 00:06:16.699 right side of the law? The dividing line is actually 00:06:16.699 --> 00:06:19.819 quite simple. They must not rely on material 00:06:19.819 --> 00:06:22.680 non -public information. If I'm a director and 00:06:22.680 --> 00:06:25.120 I sell 5 ,000 shares to pay for my child's college 00:06:25.120 --> 00:06:27.500 tuition and I don't possess any confidential 00:06:27.500 --> 00:06:29.279 information about the company that would affect 00:06:29.279 --> 00:06:31.480 the share price, that's perfectly fine. But there's 00:06:31.480 --> 00:06:33.680 a transparency requirement, isn't there? Oh, 00:06:33.680 --> 00:06:37.060 absolutely. Crucially, these trades must be transparent. 00:06:37.220 --> 00:06:39.959 In the U .S., insiders have to file what's called 00:06:39.959 --> 00:06:42.959 a Form 4 with the Securities and Exchange Commission, 00:06:43.120 --> 00:06:46.120 the SEC. And that has to be done generally within 00:06:46.120 --> 00:06:48.639 two business days. And it details the transaction. 00:06:48.959 --> 00:06:52.019 So that public disclosure is the key. It differentiates 00:06:52.019 --> 00:06:54.199 legitimate portfolio management from something 00:06:54.199 --> 00:06:56.639 that looks suspicious, like pre -knowledge trading. 00:06:56.879 --> 00:06:59.600 Exactly. Public disclosure requirement is obviously 00:06:59.600 --> 00:07:02.939 critical for maintaining market confidence. But 00:07:02.939 --> 00:07:05.779 why does the enforcement apparatus, the SEC, 00:07:06.100 --> 00:07:08.680 the Department of Justice, commit so many resources 00:07:08.680 --> 00:07:11.060 to this? I mean, does insider trading really 00:07:11.060 --> 00:07:13.620 have a negative macroeconomic effect? It absolutely 00:07:13.620 --> 00:07:15.560 does. And this is a point that is so often missed 00:07:15.560 --> 00:07:17.740 when we just focus on the scandal of one person 00:07:17.740 --> 00:07:20.540 getting rich. The critical finding from serious 00:07:20.540 --> 00:07:23.180 academic study is that illegal insider trading 00:07:23.180 --> 00:07:25.800 raises the cost of capital for securities issuers. 00:07:25.860 --> 00:07:27.839 OK, that sounds a bit dense. What does that actually 00:07:27.839 --> 00:07:30.800 mean in real terms? Think of it this way. If 00:07:30.800 --> 00:07:33.920 you as an investor. perceive the market to be 00:07:33.920 --> 00:07:37.120 fundamentally unfair, if you constantly suspect 00:07:37.120 --> 00:07:39.740 that the deck is stacked because insiders are 00:07:39.740 --> 00:07:42.160 just skimming off the top, you're going to demand 00:07:42.160 --> 00:07:45.560 a higher return to compensate you for that hidden 00:07:45.560 --> 00:07:48.060 risk. I see. So I want more potential reward 00:07:48.060 --> 00:07:50.060 because I feel like I'm taking on more unseen 00:07:50.060 --> 00:07:53.060 risk. Precisely. And that premium demanded by 00:07:53.060 --> 00:07:55.160 investors, which gets built into the stock price, 00:07:55.360 --> 00:07:57.639 is the higher cost of capital for the company. 00:07:58.040 --> 00:08:00.240 The company then has less money to invest in 00:08:00.240 --> 00:08:04.180 expansion, in R &D, and hiring. So while insider 00:08:04.180 --> 00:08:06.259 trading seems like this sort of private crime 00:08:06.259 --> 00:08:09.019 between a buyer and a seller, the ripple effect 00:08:09.019 --> 00:08:11.899 is actually a break on overall economic growth. 00:08:12.220 --> 00:08:14.339 That reframes the whole argument, doesn't it? 00:08:14.399 --> 00:08:16.500 It's not just about fairness. It's about economic 00:08:16.500 --> 00:08:19.220 efficiency being actively harmed by a lack of 00:08:19.220 --> 00:08:21.899 trust. Exactly. When markets are perceived as 00:08:21.899 --> 00:08:24.300 fair, capital flows more freely and cheaply. 00:08:24.360 --> 00:08:26.699 When they're seen as rife with illegal activity, 00:08:27.199 --> 00:08:29.279 Capital becomes more expensive and that slows 00:08:29.279 --> 00:08:32.779 down the whole engine of innovation. So if regulators 00:08:32.779 --> 00:08:35.080 are trying to protect the sufficiency, how do 00:08:35.080 --> 00:08:37.519 they actually prove the crime? I mean, given 00:08:37.519 --> 00:08:40.299 that traders can use really sophisticated tactics, 00:08:40.639 --> 00:08:43.659 nominees, offshore companies, it must be an absolute 00:08:43.659 --> 00:08:46.940 nightmare to link the information possessed to 00:08:46.940 --> 00:08:49.539 the trade that was executed. It is notoriously 00:08:49.539 --> 00:08:51.700 difficult, which is why enforcement agencies 00:08:51.700 --> 00:08:54.279 rely so heavily on advanced surveillance technology. 00:08:54.809 --> 00:08:58.149 The SEC and the stock exchanges, they use these 00:08:58.149 --> 00:09:01.210 sophisticated data algorithms to actively monitor 00:09:01.210 --> 00:09:04.250 trading patterns for anything suspicious. What 00:09:04.250 --> 00:09:06.830 would be a red flag for them? Well, if they see 00:09:06.830 --> 00:09:09.169 an unusually large volume of trading, particularly 00:09:09.169 --> 00:09:12.409 in options, immediately preceding a major corporate 00:09:12.409 --> 00:09:15.110 event like a takeover announcement, that immediately 00:09:15.110 --> 00:09:16.830 triggers an investigation. And then they have 00:09:16.830 --> 00:09:18.570 to follow the trail. Then they have to follow 00:09:18.570 --> 00:09:20.669 the trail of money and communication. We're talking 00:09:20.669 --> 00:09:22.789 phone records, encrypted messages, email exchanges, 00:09:23.070 --> 00:09:25.649 anything to connect the trader back to the original 00:09:25.649 --> 00:09:28.289 source of the confidential information. And the 00:09:28.289 --> 00:09:30.789 moment they catch a violator, what's the primary 00:09:30.789 --> 00:09:33.990 civil mechanism the SEC uses to strip away the 00:09:33.990 --> 00:09:36.309 incentive for this crime? It's all about incentive. 00:09:36.549 --> 00:09:39.129 Right. The key financial mechanism is called 00:09:39.129 --> 00:09:41.809 disgorgement. Disgorgement. This is the forced 00:09:41.809 --> 00:09:45.750 repayment of any ill -gotten gains or. and this 00:09:45.750 --> 00:09:47.990 is important, the repayment of losses avoided 00:09:47.990 --> 00:09:50.690 that resulted from the violation of securities 00:09:50.690 --> 00:09:54.230 laws. So the philosophy is simple. You cannot 00:09:54.230 --> 00:09:57.850 profit from your crime. The SEC wants to return 00:09:57.850 --> 00:10:00.090 the violator to the financial position they would 00:10:00.090 --> 00:10:02.129 have been in if the illegal trade had just never 00:10:02.129 --> 00:10:04.110 happened. And when they recover these funds, 00:10:04.350 --> 00:10:06.519 where does the money go? When it's feasible, 00:10:06.779 --> 00:10:09.039 the disgorged funds are returned directly to 00:10:09.039 --> 00:10:10.639 the investors who were injured by the scheme. 00:10:11.080 --> 00:10:14.080 And while disgorgement is the core civil penalty, 00:10:14.340 --> 00:10:16.659 the penalties can be dramatically increased, 00:10:16.860 --> 00:10:19.600 especially in the U .S. How so? Well, acts like 00:10:19.600 --> 00:10:22.779 the Insider Trading Sanctions Act of 1984 allow 00:10:22.779 --> 00:10:25.039 the government to seek penalties of up to three 00:10:25.039 --> 00:10:27.500 times the amount of the profit gained or loss 00:10:27.500 --> 00:10:30.259 avoided. A triple penalty. That's a pretty strong 00:10:30.259 --> 00:10:32.970 deterrent. It's meant to be. And while the SEC 00:10:32.970 --> 00:10:35.870 handles the civil side of things, if the case 00:10:35.870 --> 00:10:38.710 involves intentional, really egregious fraud, 00:10:38.990 --> 00:10:41.750 they'll refer it to the U .S. Department of Justice 00:10:41.750 --> 00:10:44.850 for a parallel criminal prosecution, which can 00:10:44.850 --> 00:10:48.210 and often does result in lengthy prison sentences. 00:10:48.529 --> 00:10:51.509 So we've established the clear rule. If you are 00:10:51.509 --> 00:10:54.610 a corporate officer, you owe a duty to the shareholder. 00:10:54.710 --> 00:10:57.250 And violating that duty is the textbook crime. 00:10:57.759 --> 00:10:59.860 But of course, the smartest bad actors quickly 00:10:59.860 --> 00:11:02.080 realized they could just leak the information 00:11:02.080 --> 00:11:04.080 to someone else or steal it entirely without 00:11:04.080 --> 00:11:06.259 being an official officer. That's exactly right. 00:11:06.360 --> 00:11:08.600 Which brings us to how the law had to evolve 00:11:08.600 --> 00:11:11.419 to catch those people. The legal frameworks had 00:11:11.419 --> 00:11:13.419 to dramatically expand because the crime started 00:11:13.419 --> 00:11:15.659 migrating outside the confines of the boardroom. 00:11:15.840 --> 00:11:18.200 So the courts realized they needed to stop focusing 00:11:18.200 --> 00:11:20.799 only on the fiduciary duty owed to shareholders. 00:11:21.159 --> 00:11:23.200 And start looking at the duty owed to the information 00:11:23.200 --> 00:11:25.500 itself. This moves us right into section two, 00:11:25.639 --> 00:11:28.929 expanding liability tips. misappropriation, and 00:11:28.929 --> 00:11:31.610 duty. And when we talk about illegal insider 00:11:31.610 --> 00:11:33.970 trading now, the term insider is, as you said, 00:11:34.090 --> 00:11:36.730 no longer limited to just the CEO and the board. 00:11:36.889 --> 00:11:39.889 Not at all. It includes virtually anyone who 00:11:39.889 --> 00:11:42.610 trades shares based on material non -public information 00:11:42.610 --> 00:11:46.309 in violation of some duty of trust or confidentiality. 00:11:46.470 --> 00:11:49.190 And this expansion started first with the people 00:11:49.190 --> 00:11:52.350 who receive the information secondhand, the tipbies. 00:11:52.610 --> 00:11:56.320 Okay, so if an insider tips a friend, How does 00:11:56.320 --> 00:11:58.879 that friend who owes no direct duty to the corporation, 00:11:59.240 --> 00:12:02.220 how do they become criminally liable? Their liability 00:12:02.220 --> 00:12:04.340 is established through what's called the Tippie 00:12:04.340 --> 00:12:06.960 Doctrine, which was largely defined by the seminal 00:12:06.960 --> 00:12:09.779 Supreme Court case, Dirks v. Securities and Exchange 00:12:09.779 --> 00:12:12.700 Commission, back in 1984. And what did that case 00:12:12.700 --> 00:12:15.080 establish? The court established a critical and 00:12:15.080 --> 00:12:18.419 often very confusing two -pronged test. A Tippie 00:12:18.419 --> 00:12:20.840 is liable only if they knew or should have known 00:12:21.309 --> 00:12:23.769 That the tipper, the insider, breached a fiduciary 00:12:23.769 --> 00:12:25.830 duty. OK, that's prong one. And the tipper did 00:12:25.830 --> 00:12:28.289 so for an improper purpose. An improper purpose. 00:12:29.009 --> 00:12:31.029 So it wasn't enough just to have the inside information 00:12:31.029 --> 00:12:33.409 or even to know it came from an insider. The 00:12:33.409 --> 00:12:35.070 court had to look into the mind of the person 00:12:35.070 --> 00:12:37.409 giving the tip and figure out their motive. What 00:12:37.409 --> 00:12:39.629 does that improper purpose or personal benefit 00:12:39.629 --> 00:12:43.309 truly mean? This is the subjective, really complex 00:12:43.309 --> 00:12:46.460 part of the law. The personal benefit does not 00:12:46.460 --> 00:12:48.899 have to be pecuniary. It doesn't have to be cash. 00:12:49.159 --> 00:12:51.840 It could be an intangible benefit, like boosting 00:12:51.840 --> 00:12:54.100 one's reputation or making some kind of quid 00:12:54.100 --> 00:12:56.799 pro quo exchange. The Dirks case itself is the 00:12:56.799 --> 00:12:59.320 perfect illustration of why the intent matters 00:12:59.320 --> 00:13:02.080 so much. So walk us through Dirks. Why was he 00:13:02.080 --> 00:13:04.879 found not guilty in the end? OK, so Raymond Dirks 00:13:04.879 --> 00:13:07.480 was a securities analyst. He received confidential 00:13:07.480 --> 00:13:10.019 information from a former officer of a corporation 00:13:10.019 --> 00:13:13.600 about a massive ongoing fraud within that company. 00:13:14.159 --> 00:13:16.879 Dirks then investigated. He confirmed the information 00:13:16.879 --> 00:13:19.700 and he shared it with his clients, who then sold 00:13:19.700 --> 00:13:21.879 their holdings before the stock completely collapsed. 00:13:22.019 --> 00:13:24.259 And the SEC prosecuted him for that. They did. 00:13:24.440 --> 00:13:26.500 But the Supreme Court ultimately ruled that the 00:13:26.500 --> 00:13:29.100 original insider's motive was to expose fraud. 00:13:29.240 --> 00:13:31.720 It was to be a whistleblower, not to gain any 00:13:31.720 --> 00:13:34.379 personal benefit. And since the insider had not 00:13:34.379 --> 00:13:36.740 breached their fiduciary duty because they weren't 00:13:36.740 --> 00:13:39.789 motivated by personal gain, the tippy. Dirks 00:13:39.789 --> 00:13:42.429 could not be held liable either. No breach by 00:13:42.429 --> 00:13:44.549 the tipper, no derivative breach by the tippy. 00:13:44.690 --> 00:13:46.909 That's it. It's a critical distinction. It separates 00:13:46.909 --> 00:13:49.389 whistleblowing from self -dealing. But you can 00:13:49.389 --> 00:13:51.950 see the problem, right? Isn't that almost impossible 00:13:51.950 --> 00:13:54.980 to prove? If I tell my friends something purely 00:13:54.980 --> 00:13:58.240 as a favor or a gift, how can the SEC really 00:13:58.240 --> 00:14:01.259 prove my internal intangible benefit? Right. 00:14:01.399 --> 00:14:04.159 It makes enforcement way too subjective. It absolutely 00:14:04.159 --> 00:14:07.179 did. And it led to decades of major confusion 00:14:07.179 --> 00:14:09.879 following the Dirks decision. Regulators really 00:14:09.879 --> 00:14:12.580 struggled to prove that intangible personal benefit 00:14:12.580 --> 00:14:14.519 when the tipper and tippy were just friends, 00:14:14.639 --> 00:14:17.820 not business associates exchanging cash. So how 00:14:17.820 --> 00:14:20.570 did they resolve that? Well, the issue was significantly 00:14:20.570 --> 00:14:24.090 clarified by a 2016 Supreme Court decision in 00:14:24.090 --> 00:14:27.169 Salmon v. United States. And how did Salmon broaden 00:14:27.169 --> 00:14:29.509 the scope of personal benefit again? Solomon 00:14:29.509 --> 00:14:31.710 involved a man who traded on tips he got from 00:14:31.710 --> 00:14:33.990 his brother -in -law, who was an insider at an 00:14:33.990 --> 00:14:36.230 investment bank. Now, the brother -in -law gave 00:14:36.230 --> 00:14:38.549 the information to his own brother, who then 00:14:38.549 --> 00:14:40.929 passed it along to Solomon. A whole chain of 00:14:40.929 --> 00:14:44.129 tips. Exactly. And the Supreme Court confirmed 00:14:44.129 --> 00:14:46.330 that giving a gift of a tip to a family member 00:14:46.330 --> 00:14:49.090 or a close friend is presumptively an act for 00:14:49.090 --> 00:14:51.750 the tipper's intangible personal benefit. Ah, 00:14:51.970 --> 00:14:55.129 so it's assumed to be a benefit. Right. This 00:14:55.129 --> 00:14:57.690 ruling essentially ensures that insiders cannot 00:14:57.690 --> 00:14:59.889 just hand information to their relatives or friends 00:14:59.889 --> 00:15:02.610 to benefit indirectly while avoiding liability 00:15:02.610 --> 00:15:05.669 themselves. The court recognized that giving 00:15:05.669 --> 00:15:08.250 someone the gift of a guaranteed profit is in 00:15:08.250 --> 00:15:11.460 itself a form of benefit to the tipper. Okay, 00:15:11.519 --> 00:15:13.639 so the Tippie Doctrine evolved to recognize the 00:15:13.639 --> 00:15:16.299 complexity of human relationships in these transactions. 00:15:16.639 --> 00:15:19.299 But even that didn't cover everyone. What about 00:15:19.299 --> 00:15:21.860 people who simply stole the information without 00:15:21.860 --> 00:15:24.200 ever having a direct relationship with the company 00:15:24.200 --> 00:15:26.299 whose stock they traded? That's where the law 00:15:26.299 --> 00:15:29.000 took its biggest and most important leap. And 00:15:29.000 --> 00:15:31.120 this is what we call the misappropriation theory. 00:15:32.159 --> 00:15:34.200 Misappropriation theory. This theory doesn't 00:15:34.200 --> 00:15:36.639 focus on the duty owed to the company's shareholders. 00:15:37.690 --> 00:15:40.029 Instead, it looks at the duty owed to the source 00:15:40.029 --> 00:15:42.129 of the information, which is often an employer 00:15:42.129 --> 00:15:45.950 or a consultant or a law firm. So using the company's 00:15:45.950 --> 00:15:48.669 confidential information is views not just as 00:15:48.669 --> 00:15:51.549 a breach of duty, but is literally stealing corporate 00:15:51.549 --> 00:15:55.190 property. Precisely. This expansion was pioneered 00:15:55.190 --> 00:15:58.629 in cases like SEC versus Materia in 1984 and 00:15:58.629 --> 00:16:01.370 later affirmed by the Supreme Court in the landmark 00:16:01.370 --> 00:16:05.129 1997 case, United States v. O 'Hagan. And what's 00:16:05.129 --> 00:16:08.090 the core legal concept there? The core concept 00:16:08.090 --> 00:16:10.909 is that a person commits fraud when they misappropriate 00:16:10.909 --> 00:16:13.029 confidential information for securities trading 00:16:13.029 --> 00:16:16.370 purposes. And in doing so, they breach a duty 00:16:16.370 --> 00:16:19.309 owed to the source of the information. The fraud 00:16:19.309 --> 00:16:21.830 is committed against the principal, the employer 00:16:21.830 --> 00:16:24.389 or the source, not necessarily against the person 00:16:24.389 --> 00:16:26.330 on the other side of the stock trade. So the 00:16:26.330 --> 00:16:28.710 O 'Hagan ruling is profound because it explicitly 00:16:28.710 --> 00:16:31.009 recognized that a corporation's confidential 00:16:31.009 --> 00:16:33.809 information is its property. That's the whole 00:16:33.809 --> 00:16:36.230 game changer. The undisclosed, self -serving 00:16:36.230 --> 00:16:39.129 use of this principal's property in breach of 00:16:39.129 --> 00:16:41.809 a duty of loyalty and confidentiality defrauds 00:16:41.809 --> 00:16:43.889 the principle of the exclusive use of that information. 00:16:44.210 --> 00:16:47.029 The court actually likened it to fraud akin to 00:16:47.029 --> 00:16:49.590 embezzlement. It's an elegant solution to catch 00:16:49.590 --> 00:16:52.009 people who spurt the traditional fiduciary duty 00:16:52.009 --> 00:16:54.919 rules. Let's talk about that proofreader. Materia 00:16:54.919 --> 00:16:58.480 because his case perfectly demonstrates the power 00:16:58.480 --> 00:17:01.220 of this theory. He wasn't a corporate insider 00:17:01.220 --> 00:17:03.600 in the traditional sense at all. Not even close. 00:17:03.860 --> 00:17:06.019 Materia was an employee at a financial printing 00:17:06.019 --> 00:17:09.039 firm. He was proofreading confidential documents 00:17:09.039 --> 00:17:11.480 related to upcoming tender offers and corporate 00:17:11.480 --> 00:17:14.200 takeovers. He figured out the identities of the 00:17:14.200 --> 00:17:16.579 target companies just by reading the sensitive 00:17:16.579 --> 00:17:18.759 material as part of his job. And then he traded 00:17:18.759 --> 00:17:20.799 on it. And then he used that knowledge to trade. 00:17:21.339 --> 00:17:24.200 Now, critically, he owed no fiduciary duty whatsoever 00:17:24.200 --> 00:17:27.220 to the companies whose stock he was buying. His 00:17:27.220 --> 00:17:29.380 liability was based entirely on the fact that 00:17:29.380 --> 00:17:31.839 he stole the information from his employer, the 00:17:31.839 --> 00:17:34.220 printing firm, breaching his duty of trust to 00:17:34.220 --> 00:17:37.640 them. That theft and subsequent use constituted 00:17:37.640 --> 00:17:41.190 the necessary fraud. So to summarize this really 00:17:41.190 --> 00:17:43.690 complex legal landscape for you, the listener, 00:17:43.829 --> 00:17:47.109 in the U .S., you can be liable for insider trading 00:17:47.109 --> 00:17:49.609 if you violate a duty to the shareholders of 00:17:49.609 --> 00:17:51.789 the company. That's the traditional theory. Or 00:17:51.789 --> 00:17:55.230 if you violate a duty to the source of the information, 00:17:55.569 --> 00:17:58.329 even if that source isn't the company who stock 00:17:58.329 --> 00:18:00.769 your trading. And that's the misappropriation 00:18:00.769 --> 00:18:03.210 theory. That is the perfect synthesis of the 00:18:03.210 --> 00:18:05.710 current American framework. And this brings us 00:18:05.710 --> 00:18:08.740 back to that extremely narrow line. that still 00:18:08.740 --> 00:18:11.460 separates legal from illegal trading in the US 00:18:11.460 --> 00:18:14.799 and similar non -European jurisdictions. The 00:18:14.799 --> 00:18:18.640 famous overhearing the CEO scenario. Yeah. If 00:18:18.640 --> 00:18:20.519 I'm at a restaurant sitting next to a table where 00:18:20.519 --> 00:18:23.180 a CEO and CFO are having an unencrypted conversation 00:18:23.180 --> 00:18:25.839 about massive impending profits and I buy the 00:18:25.839 --> 00:18:28.700 stock right away, I'm generally safe. Why does 00:18:28.700 --> 00:18:30.440 that happenstance acquisition of information 00:18:30.440 --> 00:18:33.799 not count? Because you did not have a closer 00:18:33.799 --> 00:18:36.220 connection or duty of trust to the company or 00:18:36.220 --> 00:18:37.980 the officers, and you didn't steal the information. 00:18:38.259 --> 00:18:41.119 You were simply a random beneficiary of happenstance. 00:18:41.440 --> 00:18:43.599 The key is always the breach of duty. Right. 00:18:43.700 --> 00:18:45.920 Since the officers were arguably careless with 00:18:45.920 --> 00:18:48.279 the information, but you didn't violate a preexisting 00:18:48.279 --> 00:18:50.960 trust relationship by using it, you haven't committed 00:18:50.960 --> 00:18:54.019 the necessary fraud required by U .S. law. But 00:18:54.019 --> 00:18:56.240 if you had, say, pay the waiter to eavesdrop. 00:18:56.420 --> 00:18:58.819 Ah. then the situation would immediately change. 00:18:58.980 --> 00:19:01.579 Or if you were a close relative or a business 00:19:01.579 --> 00:19:04.380 partner, then duty or personal benefit might 00:19:04.380 --> 00:19:06.960 be inferred and you'd be in serious trouble. 00:19:07.140 --> 00:19:10.240 That emphasis on duty and fraud is really the 00:19:10.240 --> 00:19:12.160 defining characteristic of the U .S. system. 00:19:12.380 --> 00:19:14.240 But let's zoom out now and look at how the rest 00:19:14.240 --> 00:19:17.180 of the world handles this problem. And this journey 00:19:17.180 --> 00:19:20.799 takes us into Section 3, Global Frameworks and 00:19:20.799 --> 00:19:23.619 Judicial Nuance. The U .S. model, because it's 00:19:23.619 --> 00:19:26.279 rooted in these 1930s anti -fraud statutes, is 00:19:26.279 --> 00:19:28.420 actually quite unique. The United Kingdom and 00:19:28.420 --> 00:19:31.220 the European Union, in contrast, operate under 00:19:31.220 --> 00:19:34.240 a much, much broader framework that's often categorized 00:19:34.240 --> 00:19:37.160 simply as market abuse. Market abuse. What does 00:19:37.160 --> 00:19:38.960 that broader scope look like in practice, and 00:19:38.960 --> 00:19:40.920 how does it shift the burden of proof? Well, 00:19:40.940 --> 00:19:43.079 under the U .K.'s Criminal Justice Act of 1993 00:19:43.079 --> 00:19:47.079 and the EU's Regulation 596 -2014, it is illegal 00:19:47.079 --> 00:19:49.000 simply to trade on market -sensitive information 00:19:49.000 --> 00:19:51.039 that is not generally known. So it's simpler. 00:19:51.339 --> 00:19:54.339 Much simpler. The crucial distinction here is 00:19:54.339 --> 00:19:56.980 that you generally do not need to prove a specific 00:19:56.980 --> 00:19:59.720 relationship to the issuer of the security or 00:19:59.720 --> 00:20:02.140 to the tipster or a breach of fiduciary duty. 00:20:02.339 --> 00:20:06.200 If you trade on non -public price sensitive information, 00:20:06.539 --> 00:20:09.339 you've committed market abuse. End of story. 00:20:09.680 --> 00:20:13.380 So in that European model, the person who overhears 00:20:13.380 --> 00:20:15.799 the CEO in the restaurant. is in much greater 00:20:15.799 --> 00:20:18.359 jeopardy. Oh, absolutely. The focus isn't on 00:20:18.359 --> 00:20:21.220 duty or theft to a principle. The focus is simply 00:20:21.220 --> 00:20:23.559 on protecting the overall integrity of the trading 00:20:23.559 --> 00:20:26.240 process itself. And what about the intent? Yeah. 00:20:26.339 --> 00:20:28.420 In the U .S., you have to prove scienter, right? 00:20:28.480 --> 00:20:31.140 The intent to deceive. Exactly. And that's another 00:20:31.140 --> 00:20:34.039 huge difference. In the European model. Mere 00:20:34.039 --> 00:20:36.099 possession and use of the information is often 00:20:36.099 --> 00:20:38.299 enough to trigger civil or criminal penalties. 00:20:38.680 --> 00:20:41.779 This makes prosecution considerably simpler because 00:20:41.779 --> 00:20:44.180 they can just bypass all that complex litigation 00:20:44.180 --> 00:20:47.119 surrounding the personal benefit test from Dirks 00:20:47.119 --> 00:20:50.539 or the duty requirement from O 'Hagan. So despite 00:20:50.539 --> 00:20:52.740 these pretty big legal differences, there's a 00:20:52.740 --> 00:20:55.240 clear international consensus that insider trading 00:20:55.240 --> 00:20:57.779 is detrimental to global markets. Absolutely. 00:20:57.940 --> 00:21:00.119 The International Organization of Securities 00:21:00.119 --> 00:21:03.539 Commissions, IOSCO, which regulates over 85 percent 00:21:03.539 --> 00:21:05.880 of the world's securities markets, explicitly 00:21:05.880 --> 00:21:08.720 lists protection from insider trading as a core 00:21:08.720 --> 00:21:12.059 principle for ensuring fair, efficient and transparent 00:21:12.059 --> 00:21:14.980 markets. This isn't just a U .S. or European 00:21:14.980 --> 00:21:17.859 preoccupation. It's a global standard. So organizations 00:21:17.859 --> 00:21:20.630 like the World Bank or the IMF. would look for 00:21:20.630 --> 00:21:22.750 these rules when they assess a country's financial 00:21:22.750 --> 00:21:25.690 health. They do. They often use these IOSCO core 00:21:25.690 --> 00:21:28.349 principles, which reinforces the global expectation 00:21:28.349 --> 00:21:31.250 that strong anti -insider trading laws exist 00:21:31.250 --> 00:21:33.890 and are actually being enforced. Though it's 00:21:33.890 --> 00:21:35.630 worth noting that the severity of enforcement 00:21:35.630 --> 00:21:37.890 still varies wildly from country to country. 00:21:38.170 --> 00:21:40.369 Let's turn back to the U .S. for a moment and 00:21:40.369 --> 00:21:42.069 look at the legal protections for legitimate 00:21:42.069 --> 00:21:45.730 insiders. If an executive knows major news is 00:21:45.730 --> 00:21:48.049 coming, but they have to sell shares for personal 00:21:48.049 --> 00:21:50.230 financial planning, say, to diversify their huge 00:21:50.230 --> 00:21:52.650 holdings, how do they protect themselves from 00:21:52.650 --> 00:21:54.529 the assumption that they are using inside information? 00:21:55.119 --> 00:21:58.619 That's the whole purpose of SEC Rule 10b -5 -1. 00:21:59.119 --> 00:22:01.859 Since in the U .S., the mere possession of material 00:22:01.859 --> 00:22:04.160 non -public information is often enough for the 00:22:04.160 --> 00:22:06.420 SEC to infer that you used it when you traded, 00:22:06.660 --> 00:22:09.319 Rule 10b -5 -1 provides what's called an affirmative 00:22:09.319 --> 00:22:11.500 defense. An affirmative defense. This defense 00:22:11.500 --> 00:22:13.880 protects the insider if they can demonstrate 00:22:13.880 --> 00:22:16.039 that the trade was executed as part of a pre 00:22:16.039 --> 00:22:18.420 -existing contract or a written binding plan. 00:22:18.700 --> 00:22:21.019 So the key is that the plan must be set up at 00:22:21.019 --> 00:22:22.940 a time when they are clearly not in possession 00:22:22.940 --> 00:22:24.809 of any material non -public information. information. 00:22:25.329 --> 00:22:28.170 Precisely. If I set up a written plan today that 00:22:28.170 --> 00:22:30.750 outlines automatic sales of one thousand shares 00:22:30.750 --> 00:22:33.230 every single month for the next two years and 00:22:33.230 --> 00:22:35.329 then a week later I learn explosive positive 00:22:35.329 --> 00:22:38.789 news that sends the stock soaring. Those preplanned 00:22:38.789 --> 00:22:41.029 sales are defensible. Because the decision to 00:22:41.029 --> 00:22:42.670 sell was made before you had the information. 00:22:42.970 --> 00:22:45.890 Exactly. The key is that the plan must be truly 00:22:45.890 --> 00:22:48.670 binding. It has to specify the price the amount 00:22:48.670 --> 00:22:50.990 and the date of the trades and it must be entered 00:22:50.990 --> 00:22:53.470 into in good faith before the insider comes in 00:22:53.470 --> 00:22:55.650 to possession of the material non -public information. 00:22:56.309 --> 00:22:59.210 It's a mechanism designed to shield routine mechanical 00:22:59.210 --> 00:23:02.089 sales from regulatory scrutiny. That seems like 00:23:02.089 --> 00:23:04.309 a really necessary safety valve for executives 00:23:04.309 --> 00:23:06.990 who need to manage their wealth. But here's where 00:23:06.990 --> 00:23:10.369 the legal systems always hit friction. A tool 00:23:10.369 --> 00:23:13.009 designed for protection inevitably gets exploited 00:23:13.009 --> 00:23:16.230 for gain. We've seen significant conflict surrounding 00:23:16.230 --> 00:23:18.950 the alleged abuse of these 10b51 plans recently, 00:23:18.990 --> 00:23:21.210 haven't we? Oh, here's where it gets really interesting. 00:23:21.309 --> 00:23:23.349 And it highlights how regulators have to constantly 00:23:23.349 --> 00:23:26.349 adapt. For years, there was this suspicion that 00:23:26.349 --> 00:23:28.630 executives were setting up these plans, waiting 00:23:28.630 --> 00:23:31.190 a very short period of time, and then quickly 00:23:31.190 --> 00:23:33.910 canceling or amending them based on subsequent 00:23:33.910 --> 00:23:36.609 inside information. The defense was being used 00:23:36.609 --> 00:23:38.789 offensively. And this all came to a head in a 00:23:38.789 --> 00:23:40.849 recent case. It was dramatically highlighted 00:23:40.849 --> 00:23:45.069 in the 2023 and 2024 case involving Taryn Prazer, 00:23:45.269 --> 00:23:48.150 the CEO and chairman of OnTrack, Inc. So walk 00:23:48.150 --> 00:23:49.730 us through what. What the regulators alleged 00:23:49.730 --> 00:23:52.589 in that case? What was he doing? Peisser was 00:23:52.589 --> 00:23:54.750 convicted of securities fraud. The Department 00:23:54.750 --> 00:23:57.390 of Justice and the SEC alleged that he sold $20 00:23:57.390 --> 00:24:00.130 million of stock, avoiding $12 million in losses, 00:24:00.369 --> 00:24:03.490 by using purported 10b -5 -1 plans while he possessed 00:24:03.490 --> 00:24:05.950 negative non -public information. So the fraud 00:24:05.950 --> 00:24:08.029 wasn't that he possessed the information and 00:24:08.029 --> 00:24:10.710 traded? No, it was that he created the 10b -5 00:24:10.710 --> 00:24:14.480 -1 plans fraudulently. The allegation was that 00:24:14.480 --> 00:24:16.940 he adopted these plans immediately after learning 00:24:16.940 --> 00:24:19.200 negative news about the company's biggest customer 00:24:19.200 --> 00:24:22.740 and then use the plans as cover to sell before 00:24:22.740 --> 00:24:25.400 that bad news became public. So he essentially 00:24:25.400 --> 00:24:28.619 tried to retroactively sanitize his trades by 00:24:28.619 --> 00:24:31.599 using the defense mechanism as a shield. But 00:24:31.599 --> 00:24:33.779 the timing just betrayed the entire purpose of 00:24:33.779 --> 00:24:36.380 the rule. Exactly. The core of the fraud was 00:24:36.380 --> 00:24:38.559 the timing and the intent of setting up the plan 00:24:38.559 --> 00:24:41.599 itself. The court found that because he possessed 00:24:41.599 --> 00:24:43.920 that negative price sensitive information when 00:24:43.920 --> 00:24:46.279 he established the plan, the plan was never made 00:24:46.279 --> 00:24:48.299 in good faith and therefore it offered him no 00:24:48.299 --> 00:24:51.059 legal defense. And that case sent a huge signal 00:24:51.059 --> 00:24:53.970 to corporate America. A massive signal. Regulators 00:24:53.970 --> 00:24:56.470 are now actively scrutinizing the creation and 00:24:56.470 --> 00:24:58.349 adoption of these plans, not just the trades 00:24:58.349 --> 00:25:00.710 themselves. And this eventually led to the SEC 00:25:00.710 --> 00:25:04.529 implementing rule changes in 2022 and 2023, requiring 00:25:04.529 --> 00:25:07.089 mandatory cooling off periods between adopting 00:25:07.089 --> 00:25:09.430 a plan and executing the first trade specifically 00:25:09.430 --> 00:25:12.329 to close this exact loophole. That's a powerful 00:25:12.329 --> 00:25:15.130 illustration of the legal system playing catch 00:25:15.130 --> 00:25:19.170 up with corporate sophistication. OK, so we've 00:25:19.170 --> 00:25:21.450 established that prohibition is the global standard. 00:25:21.900 --> 00:25:24.140 supported by strong legal mechanisms in both 00:25:24.140 --> 00:25:26.799 the U .S. and Europe. But we cannot have a deep 00:25:26.799 --> 00:25:28.700 dive on this without fully exploring Section 00:25:28.700 --> 00:25:32.240 4, the radical argument for legalization. This 00:25:32.240 --> 00:25:35.559 is a really robust academic discussion, and it's 00:25:35.559 --> 00:25:38.619 championed by influential scholars and economists 00:25:38.619 --> 00:25:41.299 who challenge the fundamental economic and philosophical 00:25:41.299 --> 00:25:44.259 premise of prohibition. We are talking about 00:25:44.259 --> 00:25:46.880 voices like Henry Mann, who wrote the seminal 00:25:46.880 --> 00:25:50.099 work on this, and the Nobel laureate Milton Friedman. 00:25:50.539 --> 00:25:53.039 And their arguments run completely counter to 00:25:53.039 --> 00:25:55.000 that market fairness principle we've established. 00:25:55.259 --> 00:25:57.599 So what is their chief argument for repealing 00:25:57.599 --> 00:26:00.539 insider trading laws? The primary argument is 00:26:00.539 --> 00:26:02.759 based on market efficiency. Friedman, in his 00:26:02.759 --> 00:26:05.059 own words, actually said, you want more insider 00:26:05.059 --> 00:26:07.940 trading, not less. Wow. The claim is that trading 00:26:07.940 --> 00:26:10.400 based on material non -public information benefits 00:26:10.400 --> 00:26:12.819 all investors generally by rapidly introducing 00:26:12.819 --> 00:26:15.759 new, accurate information into the market, thereby 00:26:15.759 --> 00:26:17.940 allowing the stock price to reflect the company's 00:26:17.940 --> 00:26:21.019 true value sooner. So if the CEO knows the company 00:26:21.019 --> 00:26:23.940 is actually worth $100 per share, but the market 00:26:23.940 --> 00:26:27.240 price is only $80, The CEO's aggressive buying 00:26:27.240 --> 00:26:30.319 acts as a quick signal to the market, even if 00:26:30.319 --> 00:26:32.640 the trade itself isn't immediately publicized. 00:26:32.759 --> 00:26:35.599 Right. The resulting price pressure itself contains 00:26:35.599 --> 00:26:38.400 information. The market sees a huge buy order 00:26:38.400 --> 00:26:41.200 and thinks, someone knows something, and the 00:26:41.200 --> 00:26:44.000 price starts to adjust. This rapid price discovery, 00:26:44.240 --> 00:26:46.819 the process of the stock price finding its true 00:26:46.819 --> 00:26:49.680 value, is beneficial to the broader economy. 00:26:50.190 --> 00:26:52.589 That's the argument. If the information is hidden 00:26:52.589 --> 00:26:55.009 until a press release, then capital allocation 00:26:55.009 --> 00:26:57.910 decisions across the entire market are being 00:26:57.910 --> 00:27:00.049 made based on inaccurate, delayed information. 00:27:00.670 --> 00:27:03.569 Insider trading, in this view, is the fastest, 00:27:03.650 --> 00:27:06.109 most effective mechanism to ensure accurate price 00:27:06.109 --> 00:27:08.509 discovery, making the market more efficient overall. 00:27:08.809 --> 00:27:11.329 OK, another key philosophical argument put forth 00:27:11.329 --> 00:27:13.269 by these scholars is that insider trading is 00:27:13.269 --> 00:27:16.180 often a victimless crime. How on earth do they 00:27:16.180 --> 00:27:18.140 make that case when someone is clearly losing 00:27:18.140 --> 00:27:20.500 money on the other side of the trade? They argue 00:27:20.500 --> 00:27:23.119 that it is simply an act where a willing buyer 00:27:23.119 --> 00:27:25.680 and a willing seller agree to trade property 00:27:25.680 --> 00:27:29.180 that the seller rightfully owns the shares. They 00:27:29.180 --> 00:27:31.640 contend that the investor selling the stock was 00:27:31.640 --> 00:27:33.799 already going to sell at that price regardless 00:27:33.799 --> 00:27:36.380 of the insider's superior knowledge. I'm not 00:27:36.380 --> 00:27:39.960 sure I follow that. The idea is this. If I decide 00:27:39.960 --> 00:27:43.720 to sell my 100 shares of XYZ Corp at $50 today, 00:27:44.000 --> 00:27:47.180 I put that order in. An insider, knowing the 00:27:47.180 --> 00:27:50.880 price will soon be $60, buys my shares. The argument 00:27:50.880 --> 00:27:53.759 is that I was going to sell at $50 anyway. The 00:27:53.759 --> 00:27:55.759 insider didn't force me to sell or lie to me. 00:27:56.000 --> 00:27:58.400 So they believe the only true violation occurs 00:27:58.400 --> 00:28:01.019 if there is a breach of a pre -existing contractual 00:28:01.019 --> 00:28:04.000 duty or an outright lie, not just information 00:28:04.000 --> 00:28:06.019 asymmetry. This sounds like a pure challenge 00:28:06.019 --> 00:28:07.940 to the entire concept of regulating information 00:28:07.940 --> 00:28:10.220 asymmetry, which outside of corporate secrets 00:28:10.220 --> 00:28:12.359 is often celebrated in business. It leads directly 00:28:12.359 --> 00:28:14.799 to the geologist analogy, which is often cited 00:28:14.799 --> 00:28:17.119 to highlight the perceived inconsistency in the 00:28:17.119 --> 00:28:19.529 law. Explain that analogy for the listener. Sure. 00:28:19.690 --> 00:28:22.150 If a geologist, through hard work and private 00:28:22.150 --> 00:28:24.309 research, determines there is a high likelihood 00:28:24.309 --> 00:28:26.970 of discovering a major oil reserve under farmer 00:28:26.970 --> 00:28:30.369 Smith's undeveloped land, the geologist is legally 00:28:30.369 --> 00:28:32.849 entitled to make Smith an offer for that land 00:28:32.849 --> 00:28:35.309 and buy it without disclosing the geological 00:28:35.309 --> 00:28:37.690 data. Right. That happens all the time. The land 00:28:37.690 --> 00:28:40.109 is Smith's property and the information is the 00:28:40.109 --> 00:28:43.349 geologist's private research. The law does not 00:28:43.349 --> 00:28:45.630 require the geologist to correct the farmer's 00:28:45.630 --> 00:28:48.740 ignorance about the land's true value. So the 00:28:48.740 --> 00:28:51.740 proponents of legalization ask, if that's legal 00:28:51.740 --> 00:28:54.059 in land acquisition, why is it fraud in stock 00:28:54.059 --> 00:28:57.180 trading? And the answer, as we established earlier, 00:28:57.319 --> 00:29:00.220 comes back to that corporate fiduciary duty and 00:29:00.220 --> 00:29:02.400 the company's property rights to its own information, 00:29:02.539 --> 00:29:04.920 which just doesn't exist between the geologist 00:29:04.920 --> 00:29:07.230 and the farmer. That is the regulatory answer. 00:29:07.369 --> 00:29:09.769 But the analogy really forces us to confront 00:29:09.769 --> 00:29:12.190 the consistency of the law when it comes to information 00:29:12.190 --> 00:29:15.589 asymmetry. And some advocates also make free 00:29:15.589 --> 00:29:18.170 speech arguments, suggesting that punishing someone 00:29:18.170 --> 00:29:20.210 for communicating accurate information about 00:29:20.210 --> 00:29:22.730 a company's financial status is an act of censorship, 00:29:23.049 --> 00:29:25.529 limiting the flow of vital information that the 00:29:25.529 --> 00:29:28.309 market needs. Is there any form of middle ground 00:29:28.309 --> 00:29:31.089 proposed by these challenging scholars, something 00:29:31.089 --> 00:29:33.750 that might appease both the efficiency and the 00:29:33.750 --> 00:29:36.180 fairness camps? There is a fascinating middle 00:29:36.180 --> 00:29:39.099 ground that's been suggested. Legalizing insider 00:29:39.099 --> 00:29:42.420 trading on negative information only, but keeping 00:29:42.420 --> 00:29:44.819 the prohibition on positive information. Negative 00:29:44.819 --> 00:29:47.900 information only. Why? The argument for this 00:29:47.900 --> 00:29:51.099 is pragmatic. Companies are naturally incentivized 00:29:51.099 --> 00:29:53.359 to release good news as quickly as possible, 00:29:53.539 --> 00:29:56.099 but they often withhold bad news for as long 00:29:56.099 --> 00:29:58.680 as possible using every delay tactic available. 00:29:59.000 --> 00:30:01.180 So allowing insiders to short the stock when 00:30:01.180 --> 00:30:03.740 they know bad news is coming would force the 00:30:03.740 --> 00:30:07.220 price to reflect reality much more quickly than 00:30:07.220 --> 00:30:09.240 waiting for a delayed corporate announcement. 00:30:09.720 --> 00:30:12.220 It would act as a powerful, rapid correction 00:30:12.220 --> 00:30:14.880 mechanism. The proponents argue that negative 00:30:14.880 --> 00:30:17.619 information has a higher marginal value for market 00:30:17.619 --> 00:30:19.700 truthfulness than positive information, which 00:30:19.700 --> 00:30:22.140 will eventually come out anyway. It's an intellectual 00:30:22.140 --> 00:30:25.220 solution aimed at forcing transparency, where 00:30:25.220 --> 00:30:27.859 corporate incentives often resist it. Now that 00:30:27.859 --> 00:30:30.039 we've established the legal and academic arguments, 00:30:30.200 --> 00:30:33.240 let's move into Section 5. High -stakes examples, 00:30:33.680 --> 00:30:36.950 corporate fraud, and Capitol Hill. These cases 00:30:36.950 --> 00:30:39.250 really illustrate the sheer scale of the profits 00:30:39.250 --> 00:30:41.869 and losses avoided and how seriously the system 00:30:41.869 --> 00:30:44.230 takes this crime when the financial stakes are 00:30:44.230 --> 00:30:47.029 high. These cases are critical because they put 00:30:47.029 --> 00:30:50.269 a human face on the breach of duty. Take the 00:30:50.269 --> 00:30:53.150 case of Matthew Martoma, a former portfolio manager 00:30:53.150 --> 00:30:56.750 at SAC Capital Advisors. He was accused of generating 00:30:56.750 --> 00:31:00.009 possibly the largest single insider trading transaction 00:31:00.009 --> 00:31:03.079 profit in history. What were the numbers? It 00:31:03.079 --> 00:31:07.119 was valued at an astonishing $276 million from 00:31:07.119 --> 00:31:09.859 insider information about a drug trial failure. 00:31:10.480 --> 00:31:13.759 $276 million. That really puts the risk -reward 00:31:13.759 --> 00:31:16.119 calculation into stark perspective, doesn't it? 00:31:16.319 --> 00:31:18.200 The temptation must be overwhelming when those 00:31:18.200 --> 00:31:20.319 kinds of figures are on the table. It is, and 00:31:20.319 --> 00:31:22.579 Martomo is convicted and sentenced to nine years 00:31:22.579 --> 00:31:24.880 in prison, which reflects the severity of the 00:31:24.880 --> 00:31:27.160 financial harm and the fraud committed. Another 00:31:27.160 --> 00:31:29.299 high -profile example that demonstrated the corruption 00:31:29.299 --> 00:31:31.579 of duty at the very top was the case of Rajat 00:31:31.579 --> 00:31:33.970 Gupta. Gupta was the former head of McKinsey 00:31:33.970 --> 00:31:36.509 & Co. and a director at Goldman Sachs. I mean, 00:31:36.529 --> 00:31:38.730 he was the epitome of the trusted insider. He 00:31:38.730 --> 00:31:41.509 was. And he was convicted in 2012 for leaking 00:31:41.509 --> 00:31:44.230 confidential board information, including critical 00:31:44.230 --> 00:31:46.930 details about Goldman Sachs' financial results 00:31:46.930 --> 00:31:49.890 and a major investment from Berkshire Hathaway 00:31:49.890 --> 00:31:52.789 to the hedge fund manager, Raj Rajarat. A textbook 00:31:52.789 --> 00:31:55.089 violation of his duty as a director. Absolutely. 00:31:55.869 --> 00:31:58.630 Rajaratnam was sentenced to 11 years and Gupta 00:31:58.630 --> 00:32:01.170 received two years in prison, proving that even 00:32:01.170 --> 00:32:03.240 the most well -connected corporate figures are 00:32:03.240 --> 00:32:05.480 not immune from prosecution when that fiduciary 00:32:05.480 --> 00:32:09.500 duty is breached. We also have these almost anecdotal 00:32:09.500 --> 00:32:12.859 cases that show how creative and complex traitors 00:32:12.859 --> 00:32:15.319 can be when they try to conceal their activity, 00:32:15.579 --> 00:32:17.819 making the investigation extremely difficult. 00:32:18.220 --> 00:32:20.240 The Billy Walters case is classic in this regard. 00:32:20.380 --> 00:32:23.119 Billy Walters, a famous Las Vegas sports better, 00:32:23.299 --> 00:32:26.160 was convicted for making $40 million in profits 00:32:26.160 --> 00:32:28.960 and avoided losses in Dean Foods stock between 00:32:28.960 --> 00:32:32.700 2008 and 2014. His source was a director at the 00:32:32.700 --> 00:32:34.500 company. And how did they try to hide it? To 00:32:34.500 --> 00:32:37.420 conceal their activity, they used prepaid burner 00:32:37.420 --> 00:32:41.200 cell phones and, most memorably, employed complex 00:32:41.200 --> 00:32:43.380 code words for the company in their communications, 00:32:43.700 --> 00:32:46.420 sometimes referring to Dean Foods as the Dallas 00:32:46.420 --> 00:32:49.779 Cowboys to evade detection. The audacity of using 00:32:49.779 --> 00:32:52.539 such a recognizable code. That must have been 00:32:52.539 --> 00:32:55.019 a Herculean effort for the regulators to connect 00:32:55.019 --> 00:32:57.539 those dots and prove the connection between Dallas 00:32:57.539 --> 00:33:00.640 Cowboys references and specific stock trades. 00:33:00.960 --> 00:33:03.680 It absolutely underscores the difficulty of modern... 00:33:03.690 --> 00:33:06.069 financial crime investigation, they had to prove 00:33:06.069 --> 00:33:08.349 beyond a reasonable doubt that a message like, 00:33:08.410 --> 00:33:11.589 I need five cowboys by next Tuesday, was a clear 00:33:11.589 --> 00:33:15.109 instruction to buy stock in Dean Foods. The prosecution's 00:33:15.109 --> 00:33:17.109 success in connecting those subtle, concealed 00:33:17.109 --> 00:33:20.069 actions really demonstrated the resources the 00:33:20.069 --> 00:33:22.690 DOJ commits to building these complex fraud cases. 00:33:22.990 --> 00:33:25.029 Now, beyond disgorgement, the courts sometimes 00:33:25.029 --> 00:33:27.910 use an additional, more unusual tool to punish 00:33:27.910 --> 00:33:30.430 insiders who violate their corporate trust. the 00:33:30.430 --> 00:33:32.549 faithless servant doctrine. That was showcased 00:33:32.549 --> 00:33:35.150 in the Morgan Stanley v. Skowron case in 2013. 00:33:35.930 --> 00:33:38.930 David Skowron, a portfolio manager, engaged in 00:33:38.930 --> 00:33:41.630 insider trading, directly violating his employment 00:33:41.630 --> 00:33:44.410 contract and the firm's code of conduct. The 00:33:44.410 --> 00:33:46.470 court, applying New York's faithless servant 00:33:46.470 --> 00:33:49.089 doctrine, ordered him to repay his employer the 00:33:49.089 --> 00:33:52.950 full $31 million compensation he received during 00:33:52.950 --> 00:33:55.509 his period of faithlessness. Wait, not just the 00:33:55.509 --> 00:33:57.230 profits he gained from the illegal trades, which 00:33:57.230 --> 00:33:59.890 he had to forfeit anyway. But his entire salary 00:33:59.890 --> 00:34:02.390 and bonuses earned while he was engaged in the 00:34:02.390 --> 00:34:05.349 misconduct. That goes far beyond typical financial 00:34:05.349 --> 00:34:07.869 penalties. It's a punitive measure based on the 00:34:07.869 --> 00:34:10.489 concept that a servant, an employee who is disloyal, 00:34:10.570 --> 00:34:12.769 forfeits their right to compensation for the 00:34:12.769 --> 00:34:15.730 period of disloyalty. The judge in that case 00:34:15.730 --> 00:34:17.949 noted that Skowron's behavior damaged Morgan 00:34:17.949 --> 00:34:20.190 Stanley's reputation, which is a valuable corporate 00:34:20.190 --> 00:34:22.789 asset. Since he was paid to be loyal and he was 00:34:22.789 --> 00:34:25.050 disloyal, he had to give back what he was paid. 00:34:25.519 --> 00:34:27.920 It's an extremely aggressive and effective form 00:34:27.920 --> 00:34:30.960 of deterrence. Now let's turn to the highly sensitive 00:34:30.960 --> 00:34:34.179 area of political insider trading. Members of 00:34:34.179 --> 00:34:36.480 the U .S. Congress are clearly not exempt from 00:34:36.480 --> 00:34:39.159 insider trading laws, yet they often seem to 00:34:39.159 --> 00:34:41.920 operate in a legal gray area that official corporate 00:34:41.920 --> 00:34:44.800 insiders do not enjoy. This comes right back 00:34:44.800 --> 00:34:47.659 to the foundation of U .S. law, the need to prove 00:34:47.659 --> 00:34:50.659 a breach of fiduciary duty or a misappropriation 00:34:50.659 --> 00:34:53.510 of property. Members of Congress and their staff 00:34:53.510 --> 00:34:55.670 generally do not meet the legal definition of 00:34:55.670 --> 00:34:58.349 an insider because they typically lack a confidential 00:34:58.349 --> 00:35:00.789 or fiduciary relationship with the source of 00:35:00.789 --> 00:35:02.969 the information they receive, especially government 00:35:02.969 --> 00:35:05.789 information or the companies they oversee. The 00:35:05.789 --> 00:35:08.030 evidence of information asymmetry, the ability 00:35:08.030 --> 00:35:10.030 of politicians to profit from privileged knowledge, 00:35:10.170 --> 00:35:13.340 is hard to deny. It is statistically significant. 00:35:13.519 --> 00:35:16.559 A famous 2004 study found that stock sales and 00:35:16.559 --> 00:35:19.440 purchases by US senators over a sustained period 00:35:19.440 --> 00:35:21.980 outperformed the general market by a massive 00:35:21.980 --> 00:35:25.199 12 .3 % per year. That suggests they clearly 00:35:25.199 --> 00:35:27.440 possess and act upon valuable information that 00:35:27.440 --> 00:35:28.980 the general public just does not have access 00:35:28.980 --> 00:35:32.320 to. And... We saw this play out in the clearest 00:35:32.320 --> 00:35:34.980 possible terms during the 2008 financial crisis, 00:35:35.199 --> 00:35:37.940 which was a real watershed moment for public 00:35:37.940 --> 00:35:40.780 awareness of this issue. It certainly was. On 00:35:40.780 --> 00:35:43.179 the evening of September 18th, 2008, Treasury 00:35:43.179 --> 00:35:46.159 Secretary Hank Paulson and Fed Chairman Ben Bernanke 00:35:46.159 --> 00:35:49.059 held a private closed -door meeting briefing 00:35:49.059 --> 00:35:51.500 members of Congress on the escalating financial 00:35:51.500 --> 00:35:54.760 crisis. They communicated that the situation 00:35:54.760 --> 00:35:58.760 was far, far worse than the public knew. And 00:35:58.760 --> 00:36:00.980 what happened the next day? The very next day, 00:36:01.000 --> 00:36:03.800 several lawmakers made highly timely trades or 00:36:03.800 --> 00:36:06.440 portfolio reallocations. Can you give us some 00:36:06.440 --> 00:36:09.420 specific examples of those timely trades? Representative 00:36:09.420 --> 00:36:12.000 Spencer Baucus, who was the ranking Republican 00:36:12.000 --> 00:36:14.360 on the House Financial Services Committee at 00:36:14.360 --> 00:36:16.599 the time, not only sold several investments, 00:36:16.699 --> 00:36:18.440 but actually shorted the stocks. He bet on them 00:36:18.440 --> 00:36:21.480 to fall the very next morning. He cashed in his 00:36:21.480 --> 00:36:24.260 profits within a week just before the full market 00:36:24.260 --> 00:36:27.119 collapsed. And he wasn't the only one. No. Others, 00:36:27.119 --> 00:36:29.380 like Senator Dick Durbin and then House Speaker 00:36:29.380 --> 00:36:32.519 John Boehner, also made timely sales or shifted 00:36:32.519 --> 00:36:35.099 assets out of equities effective the morning 00:36:35.099 --> 00:36:37.880 after that closed door briefing. They possessed 00:36:37.880 --> 00:36:40.280 information that caused them to act while the 00:36:40.280 --> 00:36:42.739 public remained completely in the dark. The public 00:36:42.739 --> 00:36:45.780 outcry over this clear asymmetry eventually forced 00:36:45.780 --> 00:36:47.960 legislative action. That's right. The public 00:36:47.960 --> 00:36:50.239 pressure led to the passage of the Stop Trading 00:36:50.239 --> 00:36:52.820 on Congressional Knowledge Act or the Stock Act 00:36:52.820 --> 00:36:56.780 in 2012. This law explicitly affirmed that insider 00:36:56.780 --> 00:36:59.000 trading laws apply to members of Congress and 00:36:59.000 --> 00:37:01.780 federal employees. And crucially, it imposed 00:37:01.780 --> 00:37:04.559 new transparency requirements, forcing them to 00:37:04.559 --> 00:37:07.380 report stock trades publicly. promptly, usually 00:37:07.380 --> 00:37:10.519 within 45 days. So the goal was to increase visibility 00:37:10.519 --> 00:37:13.199 and make it easier to identify suspicious activity. 00:37:13.420 --> 00:37:15.500 That was the idea. But even with the stock act 00:37:15.500 --> 00:37:18.780 in place, the 2020 COVID -19 scandal became another 00:37:18.780 --> 00:37:21.699 stark reminder of the gap between what's ethical 00:37:21.699 --> 00:37:24.539 and what's technically legal. This occurred in 00:37:24.539 --> 00:37:27.940 February 2020. Several senators received confidential, 00:37:28.360 --> 00:37:31.239 closed -door briefings about the severe potential 00:37:31.239 --> 00:37:34.519 impact of the emerging COVID -19 threat, well 00:37:34.519 --> 00:37:36.500 before the administration publicly acknowledged 00:37:36.500 --> 00:37:39.480 the crisis's scale. Allegations quickly surfaced 00:37:39.480 --> 00:37:41.500 that these senators then sold large amounts of 00:37:41.500 --> 00:37:43.659 stock, particularly in sectors that would be 00:37:43.659 --> 00:37:46.699 hit hardest, like travel and hospitality, just 00:37:46.699 --> 00:37:48.900 before the market plummeted. And the public reaction 00:37:48.900 --> 00:37:51.360 was one of immediate condemnation and outrage, 00:37:51.619 --> 00:37:53.989 and the Department of Justice launched... They 00:37:53.989 --> 00:37:56.429 did, which is important. However, here is the 00:37:56.429 --> 00:37:59.010 crucial legal complexity. While the information 00:37:59.010 --> 00:38:01.789 was critical and non -public, the DOJ ultimately 00:38:01.789 --> 00:38:04.190 closed its investigations into several of the 00:38:04.190 --> 00:38:06.630 senators without bringing any charges. Because 00:38:06.630 --> 00:38:09.090 the information they possessed, sourced from 00:38:09.090 --> 00:38:11.130 government briefings, was not legally classified 00:38:11.130 --> 00:38:14.320 as corporate property, nor did the politicians 00:38:14.320 --> 00:38:16.920 have a specific fiduciary duty to the source 00:38:16.920 --> 00:38:19.300 of the government information in the same way 00:38:19.300 --> 00:38:21.360 a corporate director does to a company's shareholders. 00:38:21.739 --> 00:38:24.920 The lack of a clear legal mechanism for prosecution, 00:38:25.260 --> 00:38:27.900 even with strong ethical evidence, highlights 00:38:27.900 --> 00:38:30.699 the continuing loophole in the U .S. fraud -based 00:38:30.699 --> 00:38:35.079 system. The fact that critical non -public information 00:38:35.079 --> 00:38:37.840 held by politicians often doesn't trigger the 00:38:37.840 --> 00:38:40.860 legal definition of fraud is a huge loophole 00:38:40.860 --> 00:38:43.360 that continues to erode public trust. Absolutely. 00:38:43.420 --> 00:38:45.980 The Stock Act increased transparency, which is 00:38:45.980 --> 00:38:48.420 progress, but it didn't fundamentally change 00:38:48.420 --> 00:38:50.880 the definition of fraud required to prosecute. 00:38:51.059 --> 00:38:54.059 The ethical duty is crystal clear, but the legal 00:38:54.059 --> 00:38:56.480 duty, as interpreted by the courts, is much, 00:38:56.519 --> 00:38:58.340 much harder to apply in the political realm. 00:38:58.619 --> 00:39:01.400 Okay, let's move to our final section. modern 00:39:01.400 --> 00:39:04.000 threats, and global reactions. The digital age 00:39:04.000 --> 00:39:05.960 has unfortunately made the commodification and 00:39:05.960 --> 00:39:08.059 distribution of non -public information easier 00:39:08.059 --> 00:39:10.699 than ever, creating brand new avenues for insider 00:39:10.699 --> 00:39:13.500 trading. The primary modern threat is the dark 00:39:13.500 --> 00:39:16.860 web market. A 2016 report revealed that sophisticated 00:39:16.860 --> 00:39:19.579 dark websites were operating specifically as 00:39:19.579 --> 00:39:22.500 marketplaces to sell non -public, commercially 00:39:22.500 --> 00:39:25.139 sensitive information. And these are hard to 00:39:25.139 --> 00:39:28.400 trace, I assume. Extremely. They often use cryptocurrencies 00:39:28.400 --> 00:39:31.099 like Bitcoin to facilitate anonymous transactions 00:39:31.099 --> 00:39:33.380 and circumvent traditional currency restrictions. 00:39:33.739 --> 00:39:36.019 And this information isn't confined to being 00:39:36.019 --> 00:39:38.699 used just for stock trading anymore. That's the 00:39:38.699 --> 00:39:42.340 scary part. That confidential data, maybe a company's 00:39:42.340 --> 00:39:45.599 proprietary algorithm or details about a regulator's 00:39:45.599 --> 00:39:48.360 upcoming ruling, can be used for purposes far 00:39:48.360 --> 00:39:52.230 beyond securities trading. Think corporate espionage, 00:39:52.329 --> 00:39:55.250 gaining a competitive edge in contract bids or 00:39:55.250 --> 00:39:57.650 even assisting in acts of corporate sabotage. 00:39:57.769 --> 00:40:00.869 The criminal utility of stolen confidential information 00:40:00.869 --> 00:40:03.690 has expanded significantly beyond just making 00:40:03.690 --> 00:40:06.389 a quick buck in the stock market. So let's look 00:40:06.389 --> 00:40:08.269 at some international enforcement examples to 00:40:08.269 --> 00:40:10.869 show the varied responses globally. This illustrates 00:40:10.869 --> 00:40:12.590 that while the law exists pretty much everywhere, 00:40:12.769 --> 00:40:15.159 the severity of the response differs. We can 00:40:15.159 --> 00:40:18.000 start with Brazil, a major emerging market economy. 00:40:18.659 --> 00:40:21.760 Brazil's law clearly defines the conduct as misuse 00:40:21.760 --> 00:40:24.579 of privileged information. However, despite the 00:40:24.579 --> 00:40:26.960 law being in place since 2001, the country's 00:40:26.960 --> 00:40:28.739 first criminal conviction for this didn't occur 00:40:28.739 --> 00:40:31.880 until 2011 in the Sadia -Perdigom merger case. 00:40:32.159 --> 00:40:34.579 And that case was significant. It was. It resulted 00:40:34.579 --> 00:40:37.559 in fines and, importantly, the inability of the 00:40:37.559 --> 00:40:39.860 convicted individuals to serve on public company 00:40:39.860 --> 00:40:42.400 boards. Meanwhile, Canada delivered one of the 00:40:42.400 --> 00:40:44.849 longest sentences in the world. for an insider 00:40:44.849 --> 00:40:47.889 trading scheme. Yes. In 2009, a Canadian lawyer 00:40:47.889 --> 00:40:50.670 named Stan Gromovsek pleaded guilty to a conspiracy 00:40:50.670 --> 00:40:53.489 that spanned 14 years and generated over $10 00:40:53.489 --> 00:40:57.000 million in illegal profits. He received a 39 00:40:57.000 --> 00:40:59.559 -month prison sentence, which was at the time 00:40:59.559 --> 00:41:02.280 the longest term ever imposed for insider trading 00:41:02.280 --> 00:41:05.199 in Canadian history. It signaled a clear shift 00:41:05.199 --> 00:41:07.739 toward harsher enforcement, mirroring the U .S. 00:41:07.739 --> 00:41:10.119 approach. India presents a more frustrating regulatory 00:41:10.119 --> 00:41:12.920 environment where insider trading is widely believed 00:41:12.920 --> 00:41:15.280 to be rampant, but prosecution remains incredibly 00:41:15.280 --> 00:41:18.139 difficult. The challenge in India is often procedural. 00:41:18.809 --> 00:41:21.630 Despite the widespread belief that insider trading 00:41:21.630 --> 00:41:24.889 takes place regularly, cases can take over a 00:41:24.889 --> 00:41:27.650 decade to reach a resolution. Enforcement is 00:41:27.650 --> 00:41:29.789 slow and historically the punishments have been 00:41:29.789 --> 00:41:32.349 relatively light. While SEBI, the regulator, 00:41:32.550 --> 00:41:34.570 has the power to demand substantial financial 00:41:34.570 --> 00:41:37.570 penalties, the fines levied have often been viewed 00:41:37.570 --> 00:41:39.909 as minimal, especially when compared to the potential 00:41:39.909 --> 00:41:43.369 profits. This slow moving system really undermines 00:41:43.369 --> 00:41:45.510 the deterrence factor. And finally, China is 00:41:45.510 --> 00:41:48.929 a good example of regulatory inconsistency. historically 00:41:48.929 --> 00:41:52.570 lax but capable of massive crackdowns. Before 00:41:52.570 --> 00:41:54.869 the country's major financial reforms in the 00:41:54.869 --> 00:41:57.570 mid -2000s, punishment was generally rare and 00:41:57.570 --> 00:42:00.230 often just limited to monetary fees. However, 00:42:00.449 --> 00:42:03.010 as China's financial markets matured, the state 00:42:03.010 --> 00:42:05.550 has demonstrated its capacity for severe sentences. 00:42:05.949 --> 00:42:09.130 In a high -profile crackdown in 2017, the major 00:42:09.130 --> 00:42:11.809 fund manager Xu Zhang was sentenced to five and 00:42:11.809 --> 00:42:13.969 a half years in prison and fined an enormous 00:42:13.969 --> 00:42:16.630 11 billion yuan. That's one of the largest financial 00:42:16.630 --> 00:42:19.349 penalties ever imposed. It is. And it illustrates 00:42:19.349 --> 00:42:21.989 that while regulatory enforcement can be inconsistent, 00:42:22.590 --> 00:42:24.989 Chinese authorities are certainly capable of 00:42:24.989 --> 00:42:27.550 imposing brutal sentences to maintain control 00:42:27.550 --> 00:42:31.030 and signal state authority. So after all that, 00:42:31.130 --> 00:42:33.489 what does this all mean for you, the informed 00:42:33.489 --> 00:42:36.510 investor and observer? We've navigated the global 00:42:36.510 --> 00:42:39.010 commitment to prohibition, which is driven by 00:42:39.010 --> 00:42:41.389 the absolute need for fair markets and corporate 00:42:41.389 --> 00:42:44.360 integrity. We've also seen the U .S. legal framework 00:42:44.360 --> 00:42:47.559 constantly having to evolve, moving from a strict 00:42:47.559 --> 00:42:50.880 fiduciary duty model to the sprawling misappropriation 00:42:50.880 --> 00:42:53.219 theory just to catch the cleverest criminals. 00:42:53.690 --> 00:42:55.269 I think the key takeaway is that understanding 00:42:55.269 --> 00:42:57.570 insider trading isn't just about reading headlines 00:42:57.570 --> 00:43:00.210 of corporate malfeasance. It is about appreciating 00:43:00.210 --> 00:43:02.449 this complex web of duty of corporate property 00:43:02.449 --> 00:43:04.889 rights and the legislative attempts to keep pace 00:43:04.889 --> 00:43:07.489 with information asymmetry in a global, rapidly 00:43:07.489 --> 00:43:10.469 evolving market. The core tension remains fundamental. 00:43:10.809 --> 00:43:13.289 How do you foster public trust and enforce fairness 00:43:13.289 --> 00:43:15.789 without suffocating the flow of valuable price 00:43:15.789 --> 00:43:17.769 correcting information that is vital for market 00:43:17.769 --> 00:43:19.989 efficiency? I think we have to end with a question 00:43:19.989 --> 00:43:22.070 that connects the corporate and political spheres. 00:43:23.019 --> 00:43:25.039 Particularly given the U .S. adoption of the 00:43:25.039 --> 00:43:28.260 misappropriation theory, the idea that a company's 00:43:28.260 --> 00:43:31.500 non -public information is its property to be 00:43:31.500 --> 00:43:34.699 protected from theft. That property theory is 00:43:34.699 --> 00:43:37.480 what makes the final question so relevant. There 00:43:37.480 --> 00:43:40.440 was the notable case of United States v. Blasac, 00:43:40.519 --> 00:43:43.219 where the so -called king of political intelligence 00:43:43.219 --> 00:43:46.000 was convicted for trading on confidential government 00:43:46.000 --> 00:43:48.739 regulatory information that was stolen from the 00:43:48.739 --> 00:43:51.760 Centers for Medicare and Medicaid Services. The 00:43:51.760 --> 00:43:54.219 law actually extended the misappropriation theory 00:43:54.219 --> 00:43:56.880 to protect government data, treating it similarly 00:43:56.880 --> 00:43:59.349 to corporate property. Which raises a really 00:43:59.349 --> 00:44:01.489 important question for you, the listener, especially 00:44:01.489 --> 00:44:04.090 in light of the 2020 scandals involving Congress. 00:44:04.369 --> 00:44:07.150 If the US law views the theft and trading of 00:44:07.150 --> 00:44:09.570 confidential corporate secrets as fraud akin 00:44:09.570 --> 00:44:12.130 to embezzlement, should the theft and trading 00:44:12.130 --> 00:44:14.230 of confidential government regulatory information, 00:44:14.369 --> 00:44:17.610 which clearly affects markets, be viewed as equally 00:44:17.610 --> 00:44:20.829 harmful? And what ethical duty do politicians 00:44:20.829 --> 00:44:23.289 and their sources owe to the market when they 00:44:23.289 --> 00:44:25.889 receive non -public, price -sensitive information? 00:44:26.329 --> 00:44:29.010 And how far should the law go to enforce this 00:44:29.010 --> 00:44:31.690 duty, even when the information isn't a traditional 00:44:31.690 --> 00:44:34.050 corporate secret, but a public one just waiting 00:44:34.050 --> 00:44:35.909 to be announced? It's a question of whether the 00:44:35.909 --> 00:44:38.409 legal duty is strictly to the company, or if 00:44:38.409 --> 00:44:40.349 the duty now must extend to the integrity of 00:44:40.349 --> 00:44:43.090 the market itself. As information continues to 00:44:43.090 --> 00:44:45.489 be the most valuable and volatile commodity in 00:44:45.489 --> 00:44:47.769 the world, that answer will define the future. 00:44:47.849 --> 00:44:48.869 of securities law.