The common view is that insider trading is always unethical and illegal. But such is not the case. Some forms of insider trading are legal. Furthermore, applying ethical principles to insider trading causes one to conclude that it is also sometimes ethical. This paper attempts to get past the hype, the press reports, and the political grandstanding to get to the truth of the matter. The author applies two sets of ethical principles – utilitarianism (...) and rights theory – in an attempt to determine when, and in what circumstances, insider trading is ethical. The views of Henry Manne, an early proponent of insider trading, are critically examined, as are the major arguments against insider trading. Is insider trading good for the company if it is used as a form of executive compensation which makes it possible to pay lower salaries than would otherwise be the case? Does insider trading cause the stock market to work more efficiently? If insider trading does increase efficiency, is that sufficient to call for its total legalization, or are there other things to be considered? Several arguments against insider trading have been put forth over the last few decades but there are problems with all of them. One of the main arguments is the fairness argument. The problem with this argument is that different people have different definitions of unfairness. A closely related argument is the level playing field argument, which advocates wider dissemination of information so that it is less asymmetric. One problem with the level playing field argument is that it is better applied to sporting competitions than to trading in information. Some economists argue that forcing the disclosure of nonpublic information can actually result in more harm than good and must necessarily involve the violation of property rights. Other arguments examined in this chapter include the fiduciary duty argument, the problem of outside traders, the misappropriation doctrine and the restrictions that insider trading laws place on freedom of speech and press. The article concludes by setting forth some principles or guidelines to determine when insider trading should be punished and when it should not. (shrink)

Abstract:The law of insider trading has progressed from an expansive approach, according to which all trading on nonpublic information was considered illegal, to a constricted approach, under which corporate outsiders are permitted to trade on nonpublic information provided such trading does not breach a fiduciary duty. This article analyzes both the former, expansive theory and the currently utilized constricted theory, within a framework of basic tenets of the American capitalist social contract regarding legitimacy of property claims. (...) The existing constricted approach to the regulation of insider trading is found to be deficient in meeting the expectations of two core components of the social contract: it discourages procedural equality of opportunity, and it endorses claims to property that are not characterized by legitimate methods of acquisition or transfer. Because the old, expansive regulatory interpretation was more consistent with the terms of the social contract in regard to property claims, it served our economic and ethical expectations more effectively than the system presently in place. Accordingly, the article culminates in a recommendation that the expansive approach to regulating insider trading be reestablished under Unites States law. (shrink)

A recent article in this Journal argued that insider trading is an unethical practice leading to an inefficiently functioning market. The debate on this topic has primarily pitted ethical defenses of prohibition against economic arguments extolling its allowance. In addition to being incomplete, this approach ignores other unwanted economic effects of prohibition itself and unethical implications of its existence. This article shows that Adam Smith's free market concept, when properly interpreted, provides all the incentive structure necessary for an (...) efficient and ethical marketplace even when insider trading is permitted. (shrink)

Insider trading has received a bad name in recent decades. The popular press makes it sound like an evil practice where those who engage in it are totally devoid of ethical principles. Yet not all insider trading is unethical and some studies have concluded that certain kinds of insider trading are actually beneficial to the greater investment community. Some scholars in philosophy, law and economics have disputed whether insider trading should be punished (...) at all while others assert that it should be illegal in all cases. This paper explores the nature of insider trading and analyzes the issues to determine the positive and negative aspects of insider trading, and how policy should be changed. The best hope would be for studies to be made that isolate the individuals or groups who are fraudulently harmed by insider trading. If any such groups exist, then clearly worded legislation could be passed to prevent any fraud from being committed against these individuals and groups, while allowing non-fraudulent transactions to be completed without fear of prosecution. Until it can be clearly determined that someone is fraudulently harmed by insider trading, there should be no law or regulation restricting the practice, since such restrictions violate individual rights and will likely have a negative market reaction. (shrink)

This article is divided into two parts: in the first we explore the academic debate conducted at an international level about insider trading (IT). In particular, we exame IT on three grounds: economic, ethical and legal. In each section we present the arguments in favour of and against IT and then we give our personal opinion. In the second part we present the situation in the Athens Stock Exchange. We examine its past record on the issue of IT (...) and recent developments, and comment on the implications for the future. (shrink)

Insider trading has received a bad name in recent decades. The popular press makes it sound like an evil practice where those who engage in it are totally devoid of ethical principles. Yet not all insider trading is unethical and some studies have concluded that certain kinds of insider trading are actually beneficial to the greater investment community. Some scholars in philosophy, law and economics have disputed whether insider trading should be punished (...) at all while others assert that it should be illegal in all cases. This paper explores the nature of insider trading and analyzes the issues to determine the positive and negative aspects of insider trading, and how policy should be changed. The best hope would be for studies to be made that isolate the individuals or groups who are fraudulently harmed by insider trading. If any such groups exist, then clearly worded legislation could be passed to prevent any fraud from being committed against these individuals and groups, while allowing non-fraudulent transactions to be completed without fear of prosecution. Until it can be clearly determined that someone is fraudulently harmed by insider trading, there should be no law or regulation restricting the practice, since such restrictions violate individual rights and will likely have a negative market reaction. (shrink)

Ma and Sun have recently argued that some forms of insider trading are ethically acceptable. We argue that the authors fail to prove three key premises of their argument, which is therefore unsound.

Following Manne (1966, Insider Trading and the Stock Market (New York, Free Press)) we introduce a distinction between insider trading and market manipulation on the one hand and corporate insiders versus misappropriators on the other hand. This gives rise to four types of alleged inside transactions. We argue that the literature on insider trading has often targeted inside transactions type II, III and IV but that these arguments do not necessarily hold for type I (...) transactions. We look for consequentionalist as well as non-consequentionalist arguments against type I transactions and demonstrate that these are hard to find. Throughout the article we refer extensively to the economic literature on insider trading in order to overcome a relative divide between the economic, legal, and philosophical discussion on insider trading. (shrink)

Despite the fact that a number of economists and philosophers of late defend insider trading both as a viable and useful practice in a free market and as not immoral, I shall question the value of insider trading both from a moral and an economic point of view. I shall argue that insider trading both in its present illegal form and as a legalized market mechanism undermines the efficient and proper functioning of a free (...) market, thereby bringing into question its own raison d'etre. It does so and is economically inefficient for the very reason that it is immoral. Thus this practice cannot be justified either from an economic or a moral point of view. Insider trading is the reverse of speculation. It is reward without risk, wealth generated — and injury done to others — by an unfair advantage in information ... [T]he core principle is clear: no one should profit from exploitation of important information not available to the public. (shrink)

Following Manne (1966, Insider Trading and the Stock Market (New York, Free Press)) we introduce a distinction between insider trading and market manipulation on the one hand and corporate insiders versus misappropriators on the other hand. This gives rise to four types of alleged inside transactions. We argue that the literature on insider trading has often targeted inside transactions type II, III and IV but that these arguments do not necessarily hold for type I (...) transactions. We look for consequentionalist as well as non-consequentionalist arguments against type I transactions and demonstrate that these are hard to find. Throughout the article we refer extensively to the economic literature on insider trading in order to overcome a relative divide between the economic, legal, and philosophical discussion on insider trading. (shrink)

It turns out to be more difficult than one might think to identify the central moral wrong at the heart of this much publicized and vilified crime.

In metazoans, the extracellular matrix (ECM) provides a dynamic, heterogeneous microenvironment that has important supportive and instructive roles. Although the primary site of action of ECM proteins is extracellular, evidence is emerging for non‐canonical intracellular roles. Examples include osteopontin, thrombospondins, IGF‐binding protein 3 and biglycan, and relate to roles in transcription, cell‐stress responses, autophagy and cancer. These findings pose conceptual problems on how proteins signalled for secretion can be routed to the cytosol or nucleus, or can function in environments with (...) diverse redox, pH and ionic conditions. We review evidence for intracellular locations and functions of ECM proteins, and current knowledge of the mechanisms by which they may enter intracellular compartments. We evaluate the experimental methods that are appropriate to obtain rigorous evidence for intracellular localisation and function. Better insight into this under‐researched topic is needed to decipher the complete spectrum of physiological and pathological roles of ECM proteins. -/- . (shrink)

The article, Inside Trading Revisited, has taken the stance that insider trading is neither unethical nor economically inefficient. Attacking my arguments to the contrary developed in an earlier article, The Ethics of Inside Trading (Journal of Business Ethics, 1989) this article constructs careful arguments and even appeals to Adam Smith to justify its conclusions. In my response to this article I shall clarify my position as well as that of Smith to support my counter-contention that (...) class='Hi'>insider trading is both unethical and inefficient. (shrink)

While many countries are following the lead of the United States in making insider trading illegal, its moral status is still controversial. I summarise the scholarly debate over the fairness of insider trading and lay bare the assumptions about fairness implicit in that debate. I focus on the question whether those assumptions can be defended independently of a more comprehensive theory of social justice. Current analyses presuppose that we can intelligently discuss what the social rules regarding (...) insider trading should be while ignoring questions about the broader principles of justice that should be adopted and the extent to which existing institutions realise those principles. I argue that such questions must be addressed. I then employ an egalitarian conception of social justice to analyse insider trading. I thereby illustrate how a more systematic approach, grounded in a comprehensive theory of justice, transforms the debate about the fairness of insider trading. (shrink)

We deny that asymmetrical information is a market failure. In order to make this case, we subject to critical scrutiny the strongest case for this thesis: the view that laws prohibiting insider trading are viable, necessary, or compatible with the rule of law.

This study examines the impact of corporate social responsibility activities on insider trading. While opponents of insider trading claim that the buying or selling of a security by insiders who have access to non-public information is illegal, proponents argue that insider trading improves economic efficiency and fairness when corporate insiders buy and sell stock in their own companies. Based on extensive U.S. data of insider trading and CSR engagement, we find that both (...) the number of insider transactions and the volume of insider trading are positively associated with CSR activities.We also find that legal insider transactions are positively related to CSR engagement even after controlling for potential endogeneitybias and various firm characteristics. Furthermore, our evidence suggests that firms perceive adjustment to CSR dimension of product as being efficient, while adjustment to diversity and environmental CSR as being inefficient. Our results of bad and illegal insider trading proxies are consistent with the interpretation that firms with high CSR ratings do not attempt to engage in unethical or bad insider trading in a significant fashion. Combined together, we consider our empirical evidence supportive of the fairness and efficiency explanation, but not the unfairness and inefficiency hypothesis. (shrink)

Recent stories of corporate insiders avoiding losses and, in some cases, generating enormous personal profits as their companies crumbled have led investors to question the integrity of American business and the fairness of the United States stock markets. The SEC tries to ensure the fairness of the stock markets by making and enforcing laws against unfair practices such as insider trading. In the United States, when insiders trade stock based on non-public information, they have broken the law and (...) betrayed the trust that has been placed in them.This study used student subjects to test the relationship between the likelihood of trading based on insider information and subjective probabilities of deterrents and motivations for insider trading. Expected gain, guilt, cynicism, and fairness of laws were the determinants that had a significant relationship with the intent to trade based on insider information. This study also found support for prospect theory with regard to insider trading. The results indicate that subjects are more likely to trade based on insider information to avoid a loss than to achieve an abnormal gain. The study also finds evidence of social desirability response bias. (shrink)

Paul Bond is a lawyer who overheard two other lawyers at his office discussing the proposed purchase of a company by one of their clients. He proceeds to buy shares of this company. Would you rate Bond's behavior completely fair, acceptable, unfair, or very unfair? I posed this vignette to samples of university students in China, Taiwan, and the U. S. Most students in the U. S. and Taiwan samples rated Bond's behavior unfair or very unfair while most students in (...) the China rated Bond's behavior completely fair or acceptable. Perceptions of fairness are part of the culture of a country and culture affects business practices. I discuss culture, perceptions of fairness, and business practices in China, Taiwan, and the U. S. (shrink)

This paper investigates the determinants of regulatory compliance in corporate organizations. Exploiting a unique enforcement and reporting framework for insider trading in Italy, we present three main findings. First, board governance, such as chief executive–chairman duality and the proportion of non-executive directors, does not increase the propensity of firms to comply with regulation. Second, family firms and firms with a high degree of separation of ownership from control are most likely to comply with regulation. Third, corporate ethos is (...) more important in predicting regulatory compliance than explicit corporate governance structures. (shrink)

In recent studies, numerous anomalies against the weak and semi-strong-forms of efficient market hypothesis have been found insignificant after controlling the small-firm effect. We investigate whether the insider trading anomaly, a major anomaly against the strong-form of EMH, can survive after excluding small firms with a novel data set and document several new findings. We find a substantially larger number of insider purchases than sales, while the average volume of insider sales is much higher than the (...) average volume of insider purchases. Echoing recent US studies, we find that insider sales generate more abnormal returns than insider purchases do. We find much lower abnormal returns from insider trading than documented in the literature and the associated trading costs, which suggests that the market efficiency of individual stocks may depend on their sizes, and even the strong-form of EMH holds to a larger extent than previously recognized. (shrink)

This case recounts the story of Rajat Gupta, a Goldman Sachs board member and seniorpartner emeritus of McKinsey & Co., who was accused by the government of giving critical nonpublicfinancial information to Raj Rajaratnam, Galleon Group founder, during the financial crisisof 2008. The information passed along to Rajaratnam was about a pending $5 billion investment byWarren Buffett’s Berkshire Hathaway in Goldman Sachs at a time when its stock had been faltering.The government alleged that based on this information, Rajaratnam purchased a (...) large number ofshares in the company and then sold them when the deal became public and Goldman’s stock rose.Rajaratnam purportedly made $18 million on these trades. (shrink)

This case recounts the story of Rajat Gupta, a Goldman Sachs board member and seniorpartner emeritus of McKinsey & Co., who was accused by the government of giving critical nonpublicfinancial information to Raj Rajaratnam, Galleon Group founder, during the financial crisisof 2008. The information passed along to Rajaratnam was about a pending $5 billion investment byWarren Buffett’s Berkshire Hathaway in Goldman Sachs at a time when its stock had been faltering.The government alleged that based on this information, Rajaratnam purchased a (...) large number ofshares in the company and then sold them when the deal became public and Goldman’s stock rose.Rajaratnam purportedly made $18 million on these trades. (shrink)

We attempt to understand the personal incentives that motivate corporate insiders to engage in unethical behavior such as delayed trade disclosure. Delayed disclosure affects corporate transparency and other shareholders in the firm potentially suffer investment losses because they are unaware of insiders’ activities. Using archival data from the 300 largest Australian firms between 2007 and 2011, the results show that risk factors such as insider age and tenure and wealth effects in the form of insider shareholdings affect the (...) likelihood of delayed reporting. Governance positions such as committee membership mitigate this behavior. Our study highlights the importance of considering individual insider’s wealth and risk factors. The self-monitoring role of governance positions is also indicative of the effectiveness of internal corporate governance in the prevention of illegal insider behavior. (shrink)

Growth of the private sector and privatization of state companies around the world have led to the emergence of various stock markets, some of which are depicted by insider trading. Law literature uses the arguments of unfairness, breach of fiduciary rights and damage to others to define and rule against insider trading. Economic literature can be used to interpret insider trading from other perspectives. This study argues that the question of insider trading (...) in developing markets can be resolved by the extent stock markets generate externalities and are public goods. It advocates structural changes in the developing markets and examines the conditions under which the Coase Theorem would work. (shrink)

In this paper, we examine the information content of insider transactions in China and analyze how ownership structures shape market reaction to these transactions. We find that the cumulative abnormal return to insider purchases is a convex function of the percentage of shares owned by the largest shareholder. Further, the CAR to insider purchases is lower when the largest shareholder is government-related, or when the control rights of the largest shareholder exceed its cash flow rights. We also (...) find that the market reaction to insider purchases is more positive for firms audited by Big4 auditors. However, we do not find a significant relationship between an ownership structure and the market reaction to insider sales. Our results are remarkably robust to alternative model specifications, corporate insider identities, and recent corporate news releases on price-sensitive events. Finally, we show that market reaction to insider purchases is larger for firms with less severe expropriations, as captured by the use of other receivables. (shrink)

Insider trading is illegal, and is widely believed to be unethical. It has received widespread attention in the media and has become, for some, the very symbol of ethical decay in business. For a practice that has come to epitomize unethical business behavior, however, insider trading has received surprisingly little ethical analysis. This article critically examines the principal ethical arguments against insider trading: the claim that the practice is unfair, the claim that it involves (...) a misappropriation of information and the claim that it harms ordinary investors and the market as a whole. The author concludes that each of these arguments has some serious deficiencies; no one of them by itself provides a sufficient reason for outlawing insider trading. This does not mean, however, that there are no reasons for prohibiting the practice. The author argues that the real reason for outlawing insider trading is that it undermines the fiduciary relationship that lies at the heart of American business. (shrink)

The ethical considerations of insider trading have been widely debated in the academic literature :171–182, 1990). In 2013, the STOCK Act, which was initially passed to mitigate insider trading by government officials, was quickly and unexpectedly amended to allow certain government employees to withhold their financial information. To identify and quantify the potential costs placed on investors by non-corporate insider traders, we use the unusual circumstances surrounding this amendment. For a sample of stocks most held (...) by members of Congress, we find that, relative to control stocks, liquidity significantly worsens and volatility increases during the post-amendment period. Our results highlight the costs that are incurred by investors in the presence of non-corporate insider trading. These findings call for a stronger development of an ethical framework that justifies the restriction of all types of insider trading. (shrink)

This article evaluates inside trading from a legal and a moral perspective. From both of these points of view, the practice of inside trading is fraudulent whether it occurs in the traditional format or in the variation known as misappropriation. Fraud is a legal tort and a moral wrong consisting of a breach of duty that intentionally causes harm to persons that the insider can reasonably foresee. In defense against allegations of fraudulent inside trading, the defendant (...) may argue that one or more elements of fraud are not evident, or, if the elements are clear, that the fraud was a justified means of avoiding some worse evil or of achieving some greater good. The article concludes that inside trading, under circumstances approved by shareholders, is neither fraudulent nor unfair. (shrink)

Finance ethics have drawn increasing attention from both government regulators and academic researchers. This paper addresses the issue of insider trading ethics. Previous studies on insider trading ethics have failed to provide convincing arguments and consistent results. In particular, the arguments against insider trading are based primarily on moral and philosophical grounds and lack empirical rigor. This study intends to establish and examine the relationship between the ethical issue and economic issue of insider (...) trading. We argue that the ethics of insider trading is in essence an economic rather than a moral issue. It is so far not clear to what extent insider trading may increase or decrease shareholders wealth. Until then, we must take care to avoid over-regulating insider trading. (shrink)

This paper examines potential predictors of ethical decisions regarding insider trading. An interactionist perspective is taken, in which person variables, situational variables, and the interaction of these two sets of variables are viewed as influencing ethical decisions. The results of our study support such a perspective. Ethical decisions regarding insider trading appear to be a function of a complex set of interacting variables related to both the person and the situation. The implications of these findings are (...) discussed. (shrink)

Trading on non-public material information is fertile ground for a discussion of ethical behavior. The long-running legal tug-of-war over what constitutes illegal insider trading delivers challenges to regulatory authorities charged with detecting and enforcing the law, and is likely one of the reasons that prosecution of insider trading events remains rather uncommon. One can observe both increased volume in the equity and option markets and run-ups in the stock price prior to the announcement of the (...) acquisitions; however, the detection of illegal or unethical insider trading can be difficult. Given the legal uncertainty around insider trading and the circumstantial evidence from the trading activity, it is almost impossible to identify unethical insider trades unless there is a whistleblower or trades are large in size and impeccable in timing. Using call option trading around two merger announcements with similar firms that resulted in different ultimate treatment from the SEC, we illustrate the struggle regulators and prosecutors have with identifying and enforcing unethical insider trades. (shrink)

In light of recent doctrinal changes, we examine the confused state of U.S. insider trading law, identifying gaps that permit certain market participants to trade on the basis of material nonpublic information, and contrast U.S. insider trading doctrine with the European approach. We then explore the ethical implications of the status quo in the U.S., explaining why the dominant legal justifications for prohibiting classical insider trading and misappropriation—the fiduciary duty and property rights theories—fail to (...) account for the wrongfulness of insider trading by eavesdroppers and certain tippees. We refute common arguments for legalizing insider trading, including arguments that insider trading is a victimless crime and that the practice promotes efficiency. We explain why insider trading constitutes the moral wrong of cheating, grounding our theory in the legitimate expectations of market participants. Having considered Kantian deontology in other work, we find that virtue ethics theory offers a helpful albeit rough framework for assessing the morality of insider trading independent of its legality. We also find that social contract theories, with norms of equality of opportunity and moral desert, provide a compelling ethical basis for retaining, clarifying and broadening current legal prohibitions against insider trading. (shrink)

Political insider trading has brought substantial attention to ethical considerations in the academic literature. While the Stop Trading on Congressional Knowledge (STOCK) Act prohibits members of Congress and their staff from leveraging non-public information to make investment decisions, political insider trading still prevails. We discuss political ethics and social contract theory to re-engage the debate on whether political insider trading is _unethical_ and raises the issues of conflict of interest and social distrust. Empirically, (...) using a novel measure of information risk, we find that senator trades are associated with substantially high levels of information asymmetry. Moreover, based on inside political information, senators earn significant market-adjusted returns (4.9% over 3 months). Thus, our results do not support the prediction made by social contract theory and thereby provide a potential resolution to the ongoing debate on banning stock trading for members of Congress. (shrink)

This paper addresses the impact of the unethical business conduct of a few individuals that shook the financial market in 1986. Specifically, in the study undertaken for this paper, the wealth status of the shareholders of securities firms was examined in relation to the public disclosure of the insider-trading scandals involving Dennis Levine, Ivan Boesky, and their confederates. It was hypothesized that the expected market-adjusted stock returns for the securities firms would be negative as a result of the (...) scandals. The findings of the study supported the hypothesis. (shrink)

In this paper I argue that the real and only victims of insider trading are those being wrongfully prosecuted under the current broad interpretation of Rule 10(b)-5 of the Securities Exchange Act. The term ‘insider trading’ has no clear legal definition and thus lends itself to prosecutorial overreach. I argue that such overreach characterizes the numerous insider trading investigations and prosecutions currently being pursued by the Securities and Exchange Commission (SEC). Rather than any valid (...) application of securities law, these prosecutions reflect political opportunism and the influence of powerful special interests within the securities industry. I conclude by advocating that Rule 10(b)-5 be applied as originally intended, namely to deter active securities fraud and price manipulation only. (shrink)

Under the present judicial interpretation of federal securities law, an individual is prohibited from trading on non-public information that has been misappropriated in contravention of a fiduciary duty. Trades made using non-pubIic information that has not been misappropriated are not prohibited by Rule 10b-5, promulgated under the Securities and Exchange Act of 1934. The current requirement of misappropriation to trigger Rule 10b-5 liability creates a gap that permits transactions that are both ethically and economically undesirable. Judicial or legislative reforms (...) are recommended to close the gap and help ensure the fairness and efficiency of securities markets. (shrink)