On December 6, 2016, the United States Supreme Court ruled unanimously in favor of prosecutors in a major insider trading case – Salman v. United States1, stating that gifts of confidential information from business executives to relatives violate the securities laws. This case clarified what constitutes a “personal benefit.”
The Supreme Court handed the government a significant win in its pursuit of insider trading, ruling that prosecutors in such cases do not always have to show that something valuable changed hands to prove a crime was committed.
History of Defining Insider Trading
In its first merits ruling in an insider trading case in two decades, the Supreme Court affirmed the holding of the United States Court of Appeals for the Ninth Circuit in San Francisco, that the personal benefit requirement may be met when an inside tipper simply gifts confidential information to a trading relative or friend. In so holding, the Supreme Court significantly narrowed a key aspect of the 2014 Second Circuit Appeals Court insider trading decision in United States v. Newman2 which had required prosecutors to prove that the tipper received something “of a pecuniary or similar valuable nature” – a more difficult standard to meet.
Before Newman was decided, Preet Bharara, the United States Attorney for the Southern District of New York, whose office had prioritized insider trading prosecutions, obtained dozens of convictions and over a billion dollars in fines since 2009. Mr. Bharara applauded the Supreme Court’s decision. He said “The court stood up for common sense and affirmed what we have been arguing from the outset – that the law absolutely prohibits insiders from advantaging their friends and relatives at the expense of the trading public.” He further said “Today’s decision is a victory for fair markets and those who believe that the system should not be rigged.”3
Federal appeals courts had disagreed about whether people making unauthorized disclosures of material and non-public information must receive a tangible benefit in return for their conduct to violate insider trading laws.
The Supreme Court’s unanimous opinion restores some of the power the government lost in the Newman case. That two-year old decision had cast doubt on just what constituted insider trading, an often-blurry concept and forced law-enforcement officials to drop several high profile cases.
To establish liability for insider trading, the government must prove that a defendant (a) traded in securities while (b) in possession of material, non-public information, which was (c) obtained as a result of a breach of duty. 4
The Supreme Court first addressed the question of liability in Dirks v. Securities and Exchange Commission in 1983.5 The Supreme Court explained at that time that insiders derive a personal benefit when, for instance, they make a “quid pro quo exchange” for the tip or “gift the confidential information to a trading relative or friend.” Because the corporate insider in this particular case received no personal benefit (and in fact sought to expose a fraud by disclosing the information), the Supreme Court concluded that there was no breach of a duty.
Supreme Court Salman v. United States Decision
Justice Samuel A. Alito, Jr., writing for the Court, said that giving a gift to a friend or relative, whether in the form of cash or in the form of a tip, benefited the insider. Justice Alito said the Supreme Court’s decision in Dirks v. Securities and Exchange Commission answered the question before the justices. The decision in the Dirks case required evidence that the insider “directly or indirectly” gained something from the initial disclosure.
The Second Circuit Appeals Court had read the passage narrowly saying it required “proof of a meaningful close personal relationship that generates an exchange that is objective, consequential and represents at least a potential gain of a pecuniary or similarly valuable nature.”
But the Ninth Circuit Appeals Court focused on a passage in the Dirks case that allowed liability “when an insider makes a gift of confidential information to a trading relative or a friend.”
Justice Alito sided with the broader decision of the Ninth Circuit Appeals Court.6
Key Questions Remain
While the Supreme Court’s decision in Salman resolved the very important issue of whether a gift of confidential information to a trading relative or friend constitutes a personal benefit, the Court’s standard does not provide much guidance regarding gifts of material non-public information to casual acquaintances. Also, what was not addressed in the Court’s decision were cases against traders who received confidential information second or third hand.7
- 15-268, 580 U.S._ (Dec 6, 2016).
- 773 F.3d 438 (2d Cir. 2014).
- Liptak, Adam, “Supreme Court Sides with Prosecutors in an Insider Trading Case,” The New York Times, December 7, 2016.
- Cleary Gottlieb Steen & Hamilton LLP, “Supreme Court Clarifies Insider Trading Liability for Confidential Tips,” Alert Memorandum, December 7, 2016.
Latham & Watkins LLP, “Supreme Court Revisits Insider-Trading Liability,” Client Alert Commentary, December 9, 2016.
- 463 U.S. 646, 649 (1983).
- Endnote 3.
- Viswanatha, Aruna and Brent Kendall, “Court Hardens Insider Trade Stance,” The Wall Street Journal, December 7, 2016.