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Simple English definitions for legal terms
classical theory of insider trading
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A quick definition of classical theory of insider trading:
The classical theory of insider trading is when someone who works for a company, like an employee or boss, uses secret information to buy or sell stocks in that company. This is only illegal if the person had a responsibility to share that information with others, like if they were a boss or director. If they didn't have that responsibility, it's not illegal. If someone tells a friend or family member the secret information and they use it to buy or sell stocks, both people can get in trouble. However, there is another theory of insider trading called the misappropriation theory that doesn't require a responsibility to share information.
A more thorough explanation:
The classical theory of insider trading is a type of securities fraud where a corporate insider, such as an employee, director, or officer, trades in securities of their company based on material non-public information. This theory requires that the individual trading on inside information has a fiduciary duty to disclose the information. For example, a corporate director or officer cannot trade in their corporation’s stock based on material non-public information because they have a fiduciary duty to disclose such information.
One example of classical insider trading is the case of Chiarella v. U.S. In this case, a printer of corporate takeover bids deduced the concealed party names and purchased stock in the target company before the takeover bid became public without disclosing his knowledge of the takeover bid. Once the takeover bid became public, the printer sold the target stock and earned a significant return. The Supreme Court held that the printer did not commit securities fraud because he had no duty to disclose the information of the takeover bid to the seller of the target security.
Another example is the case of Salman v. U.S. In this case, an investment banker gave investment tips he learned from his deals to his brother, who in turn traded on the information. The Supreme Court upheld the investment banker’s conviction under Rule 10b-5 because he personally benefited from gifting the inside information, which constituted a fiduciary breach. The Court also upheld his brother’s conviction because he assumed his brother’s fiduciary breach and traded on the inside information.
These examples illustrate how the classical theory of insider trading requires that the individual trading on inside information have a fiduciary duty to disclose the information. If they do not have this duty, they may not be liable for securities fraud under this theory.