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Insider Trading Tips From The Pros

Published on 24th May 2019

Most people are aware that a penalty will apply if they’re found guilty of insider trading, but do you know what insider trading is and what penalties you might face?

Difference Between Legal and Illegal Forms of Inside Trading

Although most people associate insider trading with illegal activity, there are legal versions of it as well.

In legal forms of insider trading, corporate insiders, such as directors, executives and other employees buy and sell shares in the companies they’re involved with without the knowledge of the general public. As long as they report this type of insider trading activity to the Securities and Exchange Commission (SEC), then it’s not always considered a breach of any laws.

The illegal form of insider trading refers to buying or selling shares while acting under information regarding those stocks that is not generally available to the public. The person giving insider information regarding a company’s shares may also be breaching the laws even if he or she hasn’t personally traded any stocks, as is the person receiving information.

How Does Insider Trading Work?

In most cases, insider trading occurs when a director, executive or employee of a company learns confidential information about the company’s developments or plans.

In order to be found guilty of insider trading, that staff member can do any one of the following things:

  • buy or sell that company’s stocks without reporting the activity to the SEC to make a substantial profit
  • buy or sell that company’s stock without reporting the activity to the SEC to avoid making a loss
  • offer warnings or tips about the stock to friends, family or colleagues

However, even the people who act upon the insider information they were given might also be guilty of insider trading and face penalties for taking advantage of confidential information. These people don’t have to be employed by or associated with the company in any way to take advantage of insider information and be in breach of SEC regulations.

Insider Trading Penalty

The insider trading penalty can vary depending on how severe the case might be. In most cases, the penalties can include a hefty fine and a prison sentence. Violators may also face being banned indefinitely from working as an executive within any company that is publicly listed on the stock market.

Of course, you don’t have to actually work for that company in order to be guilty of insider trading. Anyone acting on the confidential inside information received and trading the stocks involved can also receive an insider trading penalty.

Preventing Insider Trading

To prevent an insider trading penalty, then compliance with Section 16 of the Securities and Exchange Act is your best option. 

This Act specifies that if any ‘insider’, such as an employee, director or any shareholder with more than a 10% stake in the company trades the corporate stock with in a six-month period then that person must ensure all profits are returned to the company. They must also report all activity regarding trading of ownership of company stocks.

The introduction of this Act makes insider trading much less attractive to corporate insiders, thus reducing the chances of receiving an insider trading penalty.