Selective Disclosure and Insider Trading
December 15, 1999
Today the Commission will consider proposing new rules to combat selective disclosure and to clarify the scope of insider trading prohibitions. These proposals are designed to promote full and fair disclosure of information to the investing public, and to clarify and enhance existing prohibitions against insider trading.
Detrimental Effects of Selective Disclosure on Public Markets
The Commission has become increasingly concerned about the growing incidence of "selective disclosure" of material corporate information. In many reported incidents, companies selectively disclosed important information – such as upcoming earnings figures – in conference calls or meetings that are open only to selected securities analysts and/or institutional investors, and which exclude members of the public and the media. Those privy to selectively disclosed information have an unfair advantage over other investors, who learn of the information only if and when the issuer later makes full public disclosure. By that time, the information often has resulted in a significant change in the share price or higher than usual trading volume.
Selective disclosure undermines investor confidence in the integrity of our securities markets, and creates a serious potential for conflicts of interest by securities analysts. Chairman Levitt characterized this behind-the-scenes dissemination of information to analysts in his speech, Quality Information: The Lifeblood of Our Markets, before the New York Economic Club, as "a stain on our markets."
Yet it is not always clear under current law when selective disclosure is illegal. In some cases, selective disclosure may lead to insider trading or "tipping" charges, but in other cases it may not. This proposal addresses selective disclosure via a different legal approach. Details of the Selective Disclosure Proposal
The Commission is proposing a new Regulation FD (Fair Disclosure), which does not treat selective disclosure under insider trading laws, but rather creates requirements for fair disclosure practices by companies.
Proposed Regulation FD would require that:
|(1)||whenever an issuer intentionally discloses material information, it do so through public disclosure, not through selective disclosure; and|
|(2)||whenever an issuer learns that it has made a non-intentional material selective disclosure, the issuer make prompt public disclosure of that information.|
Under the proposal, an issuer could make the required public disclosure through one of several methods: (1) filing the information with the Commission; (2) issuing a press release; or (3) providing public access (for example, by phone access or webcast) to the conference call or meeting.
Clarification of Scope of Insider Trading Prohibitions
The proposals also address two unsettled issues in insider trading law:
- "Use/possession" issue: Under current law, courts have split on the issue whether insider trading liability requires trading while in "knowing possession" of material nonpublic information, or proof that the trader "used" the information in trading. To clarify and strengthen the law, the Commission is proposing a new rule to address this issue. This proposed rule states the general principal that insider trading liability arises when a person trades while "aware" of material nonpublic information, but it also provides several exceptions to liability. In these situations, where a trade resulted from a pre-existing plan, contract, or instruction that was made in good faith, it will be clear that the person did not use the inside information. We believe that this approach will provide greater clarity and certainty than exists under current law.
- Misappropriation cases based on family or personal relationships: The "misappropriation" theory, which was upheld by the Supreme Court in the O'Hagan case, is a critical component of the Commission's insider trading enforcement program. The theory's application is most clear in cases involving misappropriation of confidential information in breach of an established business relationship, such as a lawyer-client or employer-employee relation. It is less settled how the theory applies to those who misappropriate confidential information in the context of a family or other personal relationship. To clarify and strengthen the law in this area, the Commission is proposing a new rule. Under this proposed rule, a person receiving confidential information would owe a duty of trust or confidence, and thus could be liable under the misappropriation theory, in the following circumstances:
|(1)||when the person agreed to keep information confidential;|
|(2)||when the persons involved in the communication had a history, pattern, or practice of sharing confidences that resulted in a reasonable expectation of confidentiality; or|
|(3)||when the person who provided the information was a spouse, parent, child, or sibling of the person who received the information, unless it were shown affirmatively, based on the facts and circumstances of that family relationship, that there was no reasonable expectation of confidentiality.|
The Commission is seeking public comment on the proposals within 90 days of publication in the Federal Register. For additional information, contact Richard A. Levine, Sharon Zamore, or Elizabeth Nowicki at (202) 942-0890.