Law in Contemporary Society

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FranciscoGuzmanSecondPaper 11 - 13 Jan 2012 - Main.IanSullivan
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FranciscoGuzmanSecondPaper 10 - 02 Jun 2010 - Main.JessicaCohen
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I Know Something That You Don’t: Insider Trading

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I Know Something You Don’t Know: Insider Trading

 -- By FranciscoGuzman - 11 Apr 2010

The Origins of the Ban

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Just a few notes: As I understand it, the ban on insider trading was based on English common law – therefore I don’t feel comfortable saying that the US was the first to prohibit it. Also, there’s a difference between inequality of information that’s BAD – as in friends sharing secrets, etc. and inequality that’s incidental to the growth of markets, i.e. analysis, people having more resources than others to invest in knowledge.

The United States was the first country to begin aggressively ferreting out insider trading, and many others have followed its example. Each country’s laws were enacted with goal of forbidding individuals to trade on securities based on non-public information. In general, Americans are loath to the idea that some traders are afforded informational advantages that are unavailable to the rest of the market. However, U.S. courts have been unable to ground this feeling of injustice in consistent, coherent holdings. Apparently, the prohibition on insider trading is another case of contradictory reasoning defending the creed of capital markets.

>
>
The United States was the first country to begin aggressively ferreting out insider trading, and many others have followed its example. Each country’s laws were enacted with goal of forbidding individuals to trade on securities based on non-public information. In general, Americans are loath to the idea that some traders are afforded informational advantages that are unavailable to the rest of the market. However, U.S. courts have been unable to ground this feeling of injustice in consistent, coherent holdings.
 

Equality in the Market

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In 1961, the SEC's chairman and Columbia Law professor William Cary first articulated the "disclose and abstain rule," and argued that Rule 10 b-5 of the 1934 Securities Act (on mail fraud) could be enforced through the prosecution of insider trading. Seven years later, the Court of Appeals for the Second Circuit shared a similar "Equal Access Theory" of trading in S.E.C. vs. Texas Gulf Sulphur Co. According to the Court, the enforcement of rule 10 b-5 is based upon the idea that investors trading on impersonal exchanges should have relatively equal access to material information.” The Court explained that protecting a level playing field for investors increases their confidence in capital markets. Put another way, in order to guarantee the survival of the market it was essential to incentivize individuals and corporations to invest their resources in it. Because the design of capital markets is based on the inequality of individuals, securities markets clearly provide unequal access to information. Contrary to the reasoning in Texas Gulf, if all investors had the same information, they would invest in the same securities – making it impossible for individuals to be profitable. However, our insider trading laws seem to conflate one type of “insider” information with another – i.e. analyzed information. While our insider trading laws attempt to make relevant information available to all, only some investors have the tools with which to analyze it. Our securities markets are dominated by individuals whose professional lives consist of gathering information and predicting future results. The individual investor, solely relying on public information, cannot possibly access the same data as the sophisticated broker.
>
>
In 1961, the SEC's chairman and Columbia Law professor William Cary first articulated the "disclose and abstain rule," and argued that Rule 10 b-5 of the 1934 Securities Act (mail fraud) could be enforced through the prosecution of insider trading. Seven years later, the Court of Appeals for the Second Circuit shared a similar "Equal Access Theory" of trading in S.E.C. vs. Texas Gulf Sulphur Co. According to the Court, the enforcement of rule 10 b-5 is based upon the idea that investors trading on impersonal exchanges should have relatively equal access to material information.” The Court explained that protecting a level playing field for investors increases their confidence in themarkets. Put another way, in order to guarantee the survival of the market, it was (and is) essential to incentivize individuals and corporations to invest their resources in it.

Because the design of capital markets is based on the inequality of individuals, securities markets - in the end - are used unequally among investors. Contrary to the reasoning in Texas Gulf, if all investors had the same information, they would invest in the same securities – making it impossible for individuals to be profitable.

However, our insider trading laws seem to conflate one type of “insider” information with another – i.e. analyzed information. While our insider trading laws attempt to make relevant information available to all, only some investors have the tools with which to analyze it. Our securities markets are dominated by individuals whose professional lives consist of gathering information and predicting future results. The individual investor, solely relying on public information, cannot possibly access the same data as the sophisticated broker. This distinction should be considered by the courts. After all, if it is the creed of capital markets they wish to defend, those who invest their time and resources in it should be rewarded.

 

Approaching Reality, Inequality in the Markets

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The Supreme Court felt that in its vigorous enforcement of Rule 10 b-5, the SEC had been overstepped its bounds. It overruled S.E.C. vs. Texas Gulf Sulphur Co. more than twelve years later, holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” Chiarella v. United States. According to the Supreme Court, the ban was necessary to punish insider traders because they had breached their fiduciary duty to the corporation and its shareholders. (“Fiduciary Duty Theory”). Seventeen years later, in United States v. O’Hagan, the Court extended fiduciary theory to outsiders by contending that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). The Court also claimed that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.” Arguably, property rights may justify a prohibition on using confidential information to trade in stocks without the acquiescence of the owner. However, as a consequence of this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no ‘deceptive device’ and thus no 10 (b) violation.” Unfortunately, the Court did not provide further explanations, leaving the door open for lower courts to future interpretations.
>
>
The Supreme Court felt that the SEC had been overstepped its bounds in its vigorous enforcement of Rule 10 b-5. It overruled S.E.C. vs. Texas Gulf Sulphur Co. more than twelve years later, holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” Chiarella v. United States. According to the Supreme Court, the ban was necessary to punish insider traders because they had breached their fiduciary duty to the corporation and its shareholders. Seventeen years later, in United States v. O’Hagan, the Court extended fiduciary theory to outsiders by contending that insider trading liability was based on the misappropriation of confidential information with fraud to the source. The Court also claimed that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.”

Property rights may justify a prohibition on using confidential information to trade in stocks without the agreement of their owner. However, if courts were to follow this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no deception and thus no 10 (b) violation.”

 The Supreme Court’s reasoning not only acknowledges that capital markets are based on inequality among investors, but also encourages the enrichment of some individuals at the expense of others. Theoretically, anyone could use inside information, as long as there is no fraud to the source. Such fraud can be avoided with the authorization of the source or simply by the disclosure of the fiduciary’s intentions. The Court probably did not intend to make a statement that could be interpreted in this manner. This approach goes against the very purpose of rule 10 (b) of the SEA: to “insure honest securities markets and thereby promote investors confidence,&#8221.
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Further Developments, Back to Basics

Subsequent case law has discussed the aforementioned situation. In SEC v. Rocklage the First Circuit had to recognize the inconsistencies of the Supreme Court’s reasoning in O’Hagan. The court refused to dismiss a complaint against a defendant who had disclosed to the source of the information her purposes to communicate it to a third party who traded based on it. The decision in Rocklage again relied on the idea of fairness to “promote investors confidence” in the market.
>
>

Further Developments

Subsequent case law has discussed the aforementioned situation. In SEC v. Rocklage the First Circuit had to recognize the inconsistencies of the Supreme Court’s reasoning in O’Hagan. The court refused to dismiss a complaint against a defendant who had disclosed to the source of the information that she had intended to communicate it to a third party. The decision in Rocklage again relied on the idea of fairness to “promote investors confidence” in the market.

 

Reconciling the Decisions

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If the Supreme Court acknowledges that the market is not level and protects the property over material non-public information, it should allow corporations to use such information at their will. This use may include permitting executives to trade securities based on it. However, it seems unlikely that this will happen. The idea of a capital market that provides equal opportunities and protects investors is too attractive to simply admit its falseness. Nevertheless, the legal arguments provided to ban insider trading are far from clear or logical, being a perfect example of transcendental nonsense. Once again, law is following politics, as capital markets are too well entrenched in our society to recognize that once people invest their money in it, they are on their own.
>
>
If the Supreme Court acknowledges that the market does not provide the same opportunities to all and protects the property over material non-public information, it should allow corporations to use such information at their will. This use may include permitting executives to trade securities based on it.

However, it seems unlikely that this will happen. The idea of a capital market that provides equal opportunities and protects investors is too attractive to baldly admit its falseness. Nevertheless, the legal arguments provided to ban insider trading are far from clear or logical, being a perfect example of transcendental nonsense. Once again, law is following politics, as capital markets are too well entrenched in our society to recognize that once people invest their money in it, they are on their own.

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FranciscoGuzmanSecondPaper 9 - 14 May 2010 - Main.JessicaCohen
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The Origins of the Ban

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I think your paper would be stronger if you said that the reasons for prohibiting insider trading are contradictory but then said what YOU think the justification for the prohibition should or should not be. I think I understand what you're trying to say now - but it seems to me like calling the courts out on "transcendental nonsense" is easy as long as you see that courts have a difficult time trying to justify the law. What I think would make for a better paper would be 1) that recognition, that the courts are unclear as to their goals, and then 2) YOU making the strong clear legal arguments one way or the other.
>
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Just a few notes: As I understand it, the ban on insider trading was based on English common law – therefore I don’t feel comfortable saying that the US was the first to prohibit it. Also, there’s a difference between inequality of information that’s BAD – as in friends sharing secrets, etc. and inequality that’s incidental to the growth of markets, i.e. analysis, people having more resources than others to invest in knowledge.
 
Changed:
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I've begun to revise a lot of the writing with some of these thoughts in mind.
>
>
The United States was the first country to begin aggressively ferreting out insider trading, and many others have followed its example. Each country’s laws were enacted with goal of forbidding individuals to trade on securities based on non-public information. In general, Americans are loath to the idea that some traders are afforded informational advantages that are unavailable to the rest of the market. However, U.S. courts have been unable to ground this feeling of injustice in consistent, coherent holdings. Apparently, the prohibition on insider trading is another case of contradictory reasoning defending the creed of capital markets.
 
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Jessica, I was trying to make what Eben proposed in class, to make an unexpected statement that it is undeniable. I showed with case law that the reasons to forbid insider trading, as stated so far, don't make any sense. All your comments have said from one way or another that you disagree, that it is difficult for courts to justify the law and that you believe that I should state my personal opinion on the regulation. My opinion is very clear, if the courts or legislators forbid something they should have strong reasons to justify the measure. Once they regulate a subject from a specific perspective, as here, allocating property rights in inside information to its source, they should bear the consequences of such statement, as explained in the paper. From your comments I only see the same conduct that you are criticizing me, that you don't like my paper, but at the same time I haven't read any reason or legal argument sustaining your position. The whole idea of the paper is to make a statement that law is politics and I provided court's decision that are a strong support of my argument. If you disagree I completely respect it, but I would like to see some reasons and arguments sustaining your opinion. I understand that you haven't finished editing, let me know when you are done to write a new version.

The United States was the first country to begin aggressively ferreting out insider trading. Today, many legal systems have followed its example in seeking to “strengthen their capital markets”. Presumably, each of their laws was enacted with goal of forbidding individuals to trade on securities based on non-public information. Americans are loath to the idea that some traders are afforded informational advantages that are unavailable to the rest of the market. However, U.S. courts have been unable to successfully ground this feeling of injustice in coherent legal arguments. The following analysis shows the efforts of the courts to protect an ideal that it is unachievable: a securities market that provides equal opportunities to all individuals. Apparently, the prohibition on insider trading is another case of contradictory reasoning defending the creed of capital markets.

The US was actually the first country in the world to establish a ban. Additionally, if there is a prohibition, its purpose is to forbid people to trade on securities based on material non-public information and that is not presumed, it is a fact.

 

Equality in the Market

Changed:
<
<
In 1961, the SEC's chairman, a Columbia Law professor named William Cary, first articulated the "disclose and abstain rule," and argued that Rule 10 b-5 could be enforced through the prosecution of insider trading. Seven years later, the Court of Appeals for the Second Circuit shared a similar "Equal Access Theory" of trading in S.E.C. vs. Texas Gulf Sulphur Co. According to the Court, the enforcement of rule 10 b-5 is purposed on the idea that investors trading on impersonal exchanges should have relatively equal access to material information.” The Court explained that protecting a level playing field for investors increases their confidence in capital markets. Put another way, in order to guarantee the survival of the market it was essential to incentivize individuals and corporations to invest their resources in it. The main purpose of this paragraph was to show the political idea behind the decision. If you erase that and the quotation of the decision, the paragraph does not make sense.

Because the design of capital markets is based on the inequality of individuals, the inaccuracy of the idea that securities markets provide equal access to information is self-evident. If all investors had the same information, they would invest in the same securities and it would be impossible for individuals to make profits. While our insider trading laws attempt to make relevant information available to all, only some investors have the tools with which to analyze it. Our securities markets are dominated by individuals whose professional solely to gathering information and predicting future results. The individual investor, solely relying on public information, cannot possibly access the same data as the sophisticated broker.

>
>
In 1961, the SEC's chairman and Columbia Law professor William Cary first articulated the "disclose and abstain rule," and argued that Rule 10 b-5 of the 1934 Securities Act (on mail fraud) could be enforced through the prosecution of insider trading. Seven years later, the Court of Appeals for the Second Circuit shared a similar "Equal Access Theory" of trading in S.E.C. vs. Texas Gulf Sulphur Co. According to the Court, the enforcement of rule 10 b-5 is based upon the idea that investors trading on impersonal exchanges should have relatively equal access to material information.” The Court explained that protecting a level playing field for investors increases their confidence in capital markets. Put another way, in order to guarantee the survival of the market it was essential to incentivize individuals and corporations to invest their resources in it. Because the design of capital markets is based on the inequality of individuals, securities markets clearly provide unequal access to information. Contrary to the reasoning in Texas Gulf, if all investors had the same information, they would invest in the same securities – making it impossible for individuals to be profitable. However, our insider trading laws seem to conflate one type of “insider” information with another – i.e. analyzed information. While our insider trading laws attempt to make relevant information available to all, only some investors have the tools with which to analyze it. Our securities markets are dominated by individuals whose professional lives consist of gathering information and predicting future results. The individual investor, solely relying on public information, cannot possibly access the same data as the sophisticated broker.
 

Approaching Reality, Inequality in the Markets

Added:
>
>
The Supreme Court felt that in its vigorous enforcement of Rule 10 b-5, the SEC had been overstepped its bounds. It overruled S.E.C. vs. Texas Gulf Sulphur Co. more than twelve years later, holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” Chiarella v. United States. According to the Supreme Court, the ban was necessary to punish insider traders because they had breached their fiduciary duty to the corporation and its shareholders. (“Fiduciary Duty Theory”). Seventeen years later, in United States v. O’Hagan, the Court extended fiduciary theory to outsiders by contending that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). The Court also claimed that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.” Arguably, property rights may justify a prohibition on using confidential information to trade in stocks without the acquiescence of the owner. However, as a consequence of this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no ‘deceptive device’ and thus no 10 (b) violation.” Unfortunately, the Court did not provide further explanations, leaving the door open for lower courts to future interpretations.
 
Changed:
<
<
The Supreme Court felt that in its vigorous enforcement of Rule 10 b-5, the SEC had been overstepped its bounds. It overruled S.E.C. vs. Texas Gulf Sulphur Co. more than twelve years later, holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” Chiarella v. United States. According to the Supreme Court, the reason to prohibit insider trading was the breach of a fiduciary duty to the corporation and its shareholders incurred on by insiders who traded securities based on material non-public information (“Fiduciary Duty Theory”). As this rule did not reach outsiders of a corporation, the Supreme Court had to go further in its reasoning seventeen years later. In United States v. O’Hagan, the Court held that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). The Court also stated that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.”

Arguably, property rights may justify a prohibition on using confidential information to trade in stocks without the acquiescence of the owner. However, as a consequence of this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no ‘deceptive device’ and thus no 10 (b) violation.” Unfortunately, the Court did not provide further explanations, leaving the door open for lower courts to future interpretations.

The evolution of the Supreme Court’s reasoning not only acknowledges that capital markets are based on inequality among investors, but also encourages the enrichment of some individuals at the expense of others. Theoretically, anyone could use inside information, as long as there is no fraud to the source. Such fraud can be avoided with the authorization of the source or simply by the disclosure of the fiduciary’s intentions.

Certainly, it does not look good for the Supreme Court to protect this kind of behavior, at least publicly. The Court probably did not intend to make a statement that could be interpreted in this manner. Such approach goes against the very purpose of rule 10 (b) of the SEA to “insure honest securities markets and thereby promote investors confidence,” which guided the decision in O’Hagan.

>
>
The Supreme Court’s reasoning not only acknowledges that capital markets are based on inequality among investors, but also encourages the enrichment of some individuals at the expense of others. Theoretically, anyone could use inside information, as long as there is no fraud to the source. Such fraud can be avoided with the authorization of the source or simply by the disclosure of the fiduciary’s intentions. The Court probably did not intend to make a statement that could be interpreted in this manner. This approach goes against the very purpose of rule 10 (b) of the SEA: to “insure honest securities markets and thereby promote investors confidence,&#8221.
 

Further Developments, Back to Basics

Changed:
<
<
Subsequent case law has faced the aforementioned situation. In SEC v. Rocklage the First Circuit had to recognize the inconsistencies of the Supreme Court’s reasoning in O’Hagan. The court refused to dismiss a complaint against a defendant who had disclosed to the source of the information her purposes to communicate it to a third party who traded based on it. The decision in Rocklage again relied on the idea of fairness to “promote investors confidence” in the market.
>
>
Subsequent case law has discussed the aforementioned situation. In SEC v. Rocklage the First Circuit had to recognize the inconsistencies of the Supreme Court’s reasoning in O’Hagan. The court refused to dismiss a complaint against a defendant who had disclosed to the source of the information her purposes to communicate it to a third party who traded based on it. The decision in Rocklage again relied on the idea of fairness to “promote investors confidence” in the market.
 

Reconciling the Decisions

If the Supreme Court acknowledges that the market is not level and protects the property over material non-public information, it should allow corporations to use such information at their will. This use may include permitting executives to trade securities based on it.

Changed:
<
<
However, it does not seem likely that this will happen. The idea of a capital market that provides equal opportunities and protects investors is too attractive to simply admit its falseness. Nevertheless, the legal arguments provided to ban insider trading are far from clear or logical, being a perfect example of transcendental nonsense. Once again, law is following politics, as capital markets are too well entrenched in our society to recognize that once people invest their money in it, they are on their own.
>
>
However, it seems unlikely that this will happen. The idea of a capital market that provides equal opportunities and protects investors is too attractive to simply admit its falseness. Nevertheless, the legal arguments provided to ban insider trading are far from clear or logical, being a perfect example of transcendental nonsense. Once again, law is following politics, as capital markets are too well entrenched in our society to recognize that once people invest their money in it, they are on their own.
 # * Set ALLOWTOPICVIEW = TWikiAdminGroup, FranciscoGuzman
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Note: TWiki has strict formatting rules. Make sure you preserve the three spaces, asterisk, and extra space at the beginning of that line. If you wish to give access to any other users simply add them to the comma separated list

Hi Francisco,

Just a few things I'm thinking about after the first few reads of your paper. I don't know much about securities law but did do some reading about it...anyway, first, you say that securities law is attempting to achieve the unachievable in prohibiting insider trading. On a general note, the government tries to work towards many ideals we don't think are perfectly achievable in practice (I'm thinking about equal opportunities in society for people of all races, or equal access to public school education, for example). Second, what are exactly you trying to argue here? That insider trading should no longer be prohibited? Or that the Supreme Court's opinions have simply been contradictory? (That said, I think you can make the case that insider trading should be abolished if you want to.)

Hi Jessica, my answers to your comments are the following:

1. Of course that there are many issues that are regulated by the government that are very difficult to achieve, but one thing is to improve regulations to attain a specific purpose, no matter how difficult it may be, and another is to give legal arguments that do not make sense in order to cover a truth. Maybe it is impossible to achieve perfect access to education or equal opportunities, but these are issues that can be improved through proper regulations and policies. On the other hand, the capital markets are designed based on differences among investors. As mentioned in my paper, if all investors put their money in the same stocks and trade in the same direction, the market would not work because there would be not enough liquidity (provided by people who trade in the opposite direction). Therefore, capital markets are designed based on differences among investors, provided, among other aspects, in their access to information. Giving legal arguments to cover this is just transcendental nonsense.

2. Related with the first point, what I am arguing is that the justifications provided by courts to abolish insider trading are contradictory and don't make sense. Of course that you can make a strong case defending that insider trading should be abolished, but it should be based on good reasoning and coherent ideas and not just in false beliefs. If equality in the markets cannot be an argument to adopt a prohibition, as explained before, maybe the argument could be based in property rights over the information, but again, courts should face the consequences of such argument. The main consequence would be that the owner of material confidential information could dispose from it and other people then would have a right to use such information and trade lawfully with informational advantages. The problem is that such idea reveals the truth about the markets, that they are not “fair” or provide equal opportunities.

By saying this I am not making an attack against capital markets. I am just stating how things are, which is the purpose of my paper.

Also, I think there are a few more legitimate motivations for banning insider trading and I think you should refute them more forcefully (rather than saying they're wrong because the Supreme Court hasn't always referenced each or listed them in an opinion).

In my paper I am not favoring or attacking the prohibition on insider trading per se. It is debatable whether insider trading should be allowed and there are arguments favoring both sides. In any case, if you read the links on the paper you will realize that the main arguments favoring the prohibition are based basically in ideas of fairness and equal access to information, which I don’t consider strong enough because of the reasons already mentioned.

The whole reason these laws were made, as I understand, was that in the 1930s people thought that the entire system was unfair. The 1933 act was an attempt to restore integrity to the stock market - which after the 1929 crash came to be viewed as a place that was routinely exploited by people with an edge. The whole country suffers as a result if it becomes harder to sell pieces of your business to the general public if they think the game is rigged. Arguably it's good for the whole country if someone can quickly raise capital if they have a good idea and want to spread it. People are more willing to invest in your business if they think there's going to be a liquid market for selling the shares they buy.

First, notwithstanding all the insider trading regulations that exist today, as opposed to 1929, I don’t think that it is possible to state that the market woks better and that the game is not rigged (think in the Goldman Sachs case, Enron, etc. that although are not based on insider trading, the basic issue is fraud on the market by people with advantages in it). Additionally, there are many scholars explaining that insider trading does provide liquidity and, moreover, that regulations on the subject do not really change the behavior of investors nor the performing of the markets.

I understand that once people invest money in the market, they are as you say, "on their own." However, our society allows - and enables - people to specialize in all sorts of things. While your average trader hypothetically shouldn't have nonpublic information about a company, he may have some fancy computer technique to analyze markets that you or I may not. By the same token, and I hope this isn't too much of a stretch, we are now gaining the tools to analyze legal problems by virtue of our enrolling at Columbia Law School. I guess you could say this is unfair to the rest of people with legal problems in another manner.

I am not sure if I understood the first example with the relation to the legal education in Columbia. However, this is the whole point, there are people with more advantages than others and the capital market is one of the main places in which those advantages come into play. The Supreme Court had to recognize this in Chiarella and any further statement in the contrary has not been able to be sustained. -- JessicaCohen

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FranciscoGuzmanSecondPaper 8 - 07 May 2010 - Main.FranciscoGuzman
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META TOPICPARENT name="SecondPaper"
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 I've begun to revise a lot of the writing with some of these thoughts in mind.
Added:
>
>
Jessica, I was trying to make what Eben proposed in class, to make an unexpected statement that it is undeniable. I showed with case law that the reasons to forbid insider trading, as stated so far, don't make any sense. All your comments have said from one way or another that you disagree, that it is difficult for courts to justify the law and that you believe that I should state my personal opinion on the regulation. My opinion is very clear, if the courts or legislators forbid something they should have strong reasons to justify the measure. Once they regulate a subject from a specific perspective, as here, allocating property rights in inside information to its source, they should bear the consequences of such statement, as explained in the paper. From your comments I only see the same conduct that you are criticizing me, that you don't like my paper, but at the same time I haven't read any reason or legal argument sustaining your position. The whole idea of the paper is to make a statement that law is politics and I provided court's decision that are a strong support of my argument. If you disagree I completely respect it, but I would like to see some reasons and arguments sustaining your opinion. I understand that you haven't finished editing, let me know when you are done to write a new version.
 The United States was the first country to begin aggressively ferreting out insider trading. Today, many legal systems have followed its example in seeking to “strengthen their capital markets”. Presumably, each of their laws was enacted with goal of forbidding individuals to trade on securities based on non-public information. Americans are loath to the idea that some traders are afforded informational advantages that are unavailable to the rest of the market. However, U.S. courts have been unable to successfully ground this feeling of injustice in coherent legal arguments. The following analysis shows the efforts of the courts to protect an ideal that it is unachievable: a securities market that provides equal opportunities to all individuals. Apparently, the prohibition on insider trading is another case of contradictory reasoning defending the creed of capital markets.
Added:
>
>
The US was actually the first country in the world to establish a ban. Additionally, if there is a prohibition, its purpose is to forbid people to trade on securities based on material non-public information and that is not presumed, it is a fact.
 

Equality in the Market

In 1961, the SEC's chairman, a Columbia Law professor named William Cary, first articulated the "disclose and abstain rule," and argued that Rule 10 b-5 could be enforced through the prosecution of insider trading. Seven years later, the Court of Appeals for the Second Circuit shared a similar "Equal Access Theory" of trading in S.E.C. vs. Texas Gulf Sulphur Co. According to the Court, the enforcement of rule 10 b-5 is purposed on the idea that investors trading on impersonal exchanges should have relatively equal access to material information.” The Court explained that protecting a level playing field for investors increases their confidence in capital markets. Put another way, in order to guarantee the survival of the market it was essential to incentivize individuals and corporations to invest their resources in it.

Added:
>
>
The main purpose of this paragraph was to show the political idea behind the decision. If you erase that and the quotation of the decision, the paragraph does not make sense.
 Because the design of capital markets is based on the inequality of individuals, the inaccuracy of the idea that securities markets provide equal access to information is self-evident. If all investors had the same information, they would invest in the same securities and it would be impossible for individuals to make profits. While our insider trading laws attempt to make relevant information available to all, only some investors have the tools with which to analyze it. Our securities markets are dominated by individuals whose professional solely to gathering information and predicting future results. The individual investor, solely relying on public information, cannot possibly access the same data as the sophisticated broker.

FranciscoGuzmanSecondPaper 7 - 24 Apr 2010 - Main.JessicaCohen
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META TOPICPARENT name="SecondPaper"
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The Origins of the Ban

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The United States was the first country to establish a prohibition on insider trading. Today, most legal systems have followed its example seeking to “strengthen their capital markets”. The common principle is that law should forbid individuals to trade on securities based on non-public information. It does not seem right that some people use informational advantages that are unavailable to the rest of the market. However, the problem is that it is unclear which are the fundaments and purpose of the prohibition. This situation is particularly evident in the U.S. as demonstrated by the case law dealing with the issue. The following analysis shows the efforts of the courts to protect an ideal that it is unachievable: a securities market that provides equal opportunities to all individuals. Apparently, this is another case of contradictory reasoning defending the creed of capital markets.
>
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I think your paper would be stronger if you said that the reasons for prohibiting insider trading are contradictory but then said what YOU think the justification for the prohibition should or should not be. I think I understand what you're trying to say now - but it seems to me like calling the courts out on "transcendental nonsense" is easy as long as you see that courts have a difficult time trying to justify the law. What I think would make for a better paper would be 1) that recognition, that the courts are unclear as to their goals, and then 2) YOU making the strong clear legal arguments one way or the other.

I've begun to revise a lot of the writing with some of these thoughts in mind.

The United States was the first country to begin aggressively ferreting out insider trading. Today, many legal systems have followed its example in seeking to “strengthen their capital markets”. Presumably, each of their laws was enacted with goal of forbidding individuals to trade on securities based on non-public information. Americans are loath to the idea that some traders are afforded informational advantages that are unavailable to the rest of the market. However, U.S. courts have been unable to successfully ground this feeling of injustice in coherent legal arguments. The following analysis shows the efforts of the courts to protect an ideal that it is unachievable: a securities market that provides equal opportunities to all individuals. Apparently, the prohibition on insider trading is another case of contradictory reasoning defending the creed of capital markets.

 

Equality in the Market

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Initially, the Court of Appeals for the Second Circuit established the “Equal Access Theory” in SEC v Texas Gulf Sulphur Co. According to the Court, rule 10 b-5 of the SEC “is based in policy on the justifiable expectation of the securities marketplace that all investors trading on impersonal exchanges have relatively equal access to material information.” The reasoning was that capital markets are supposed to provide a level field for investors, increasing their confidence on it. The political purpose of such statement is obvious; in order to guarantee the survival of the market it is essential to encourage individuals and corporations to invest their resources on it.
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In 1961, the SEC's chairman, a Columbia Law professor named William Cary, first articulated the "disclose and abstain rule," and argued that Rule 10 b-5 could be enforced through the prosecution of insider trading. Seven years later, the Court of Appeals for the Second Circuit shared a similar "Equal Access Theory" of trading in S.E.C. vs. Texas Gulf Sulphur Co. According to the Court, the enforcement of rule 10 b-5 is purposed on the idea that investors trading on impersonal exchanges should have relatively equal access to material information.” The Court explained that protecting a level playing field for investors increases their confidence in capital markets. Put another way, in order to guarantee the survival of the market it was essential to incentivize individuals and corporations to invest their resources in it.
 
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The inaccuracy of the idea that securities markets provide symmetrical access to information is self evident. The design of capital markets is based on the inequality of individuals. If all investors had the same information, markets would not work. In such scenario, everybody would invest in the same securities and it would be impossible to make profits. A proof of this is that there are many professionals dedicated solely to gathering information and predicting future results. It is unreal to expect that the individual investor, solely relying on public information, can possibly access the same data as the sophisticated broker.
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Because the design of capital markets is based on the inequality of individuals, the inaccuracy of the idea that securities markets provide equal access to information is self-evident. If all investors had the same information, they would invest in the same securities and it would be impossible for individuals to make profits. While our insider trading laws attempt to make relevant information available to all, only some investors have the tools with which to analyze it. Our securities markets are dominated by individuals whose professional solely to gathering information and predicting future results. The individual investor, solely relying on public information, cannot possibly access the same data as the sophisticated broker.
 

Approaching Reality, Inequality in the Markets

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The Supreme Court overruled the findings of the Second Circuit more than twelve years later holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” Chiarella v. United States. The reason to prohibit insider trading now was the breach of a fiduciary duty to the corporation and its shareholders incurred on by insiders who traded securities based on material non-public information (“Fiduciary Duty Theory”). As this rule did not reach outsiders of a corporation, the Supreme Court had to go further in its reasoning seventeen years later. In United States v. O’Hagan, the Court held that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). The Court also stated that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.”
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The Supreme Court felt that in its vigorous enforcement of Rule 10 b-5, the SEC had been overstepped its bounds. It overruled S.E.C. vs. Texas Gulf Sulphur Co. more than twelve years later, holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” Chiarella v. United States. According to the Supreme Court, the reason to prohibit insider trading was the breach of a fiduciary duty to the corporation and its shareholders incurred on by insiders who traded securities based on material non-public information (“Fiduciary Duty Theory”). As this rule did not reach outsiders of a corporation, the Supreme Court had to go further in its reasoning seventeen years later. In United States v. O’Hagan, the Court held that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). The Court also stated that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.”
 Arguably, property rights may justify a prohibition on using confidential information to trade in stocks without the acquiescence of the owner. However, as a consequence of this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no ‘deceptive device’ and thus no 10 (b) violation.” Unfortunately, the Court did not provide further explanations, leaving the door open for lower courts to future interpretations.

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 Just a few things I'm thinking about after the first few reads of your paper. I don't know much about securities law but did do some reading about it...anyway, first, you say that securities law is attempting to achieve the unachievable in prohibiting insider trading. On a general note, the government tries to work towards many ideals we don't think are perfectly achievable in practice (I'm thinking about equal opportunities in society for people of all races, or equal access to public school education, for example). Second, what are exactly you trying to argue here? That insider trading should no longer be prohibited? Or that the Supreme Court's opinions have simply been contradictory? (That said, I think you can make the case that insider trading should be abolished if you want to.)
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Hi Jessica, my answers to your comments are the following:

1. Of course that there are many issues that are regulated by the government that are very difficult to achieve, but one thing is to improve regulations to attain a specific purpose, no matter how difficult it may be, and another is to give legal arguments that do not make sense in order to cover a truth. Maybe it is impossible to achieve perfect access to education or equal opportunities, but these are issues that can be improved through proper regulations and policies. On the other hand, the capital markets are designed based on differences among investors. As mentioned in my paper, if all investors put their money in the same stocks and trade in the same direction, the market would not work because there would be not enough liquidity (provided by people who trade in the opposite direction). Therefore, capital markets are designed based on differences among investors, provided, among other aspects, in their access to information. Giving legal arguments to cover this is just transcendental nonsense.

2. Related with the first point, what I am arguing is that the justifications provided by courts to abolish insider trading are contradictory and don't make sense. Of course that you can make a strong case defending that insider trading should be abolished, but it should be based on good reasoning and coherent ideas and not just in false beliefs. If equality in the markets cannot be an argument to adopt a prohibition, as explained before, maybe the argument could be based in property rights over the information, but again, courts should face the consequences of such argument. The main consequence would be that the owner of material confidential information could dispose from it and other people then would have a right to use such information and trade lawfully with informational advantages. The problem is that such idea reveals the truth about the markets, that they are not “fair” or provide equal opportunities.

By saying this I am not making an attack against capital markets. I am just stating how things are, which is the purpose of my paper.

 Also, I think there are a few more legitimate motivations for banning insider trading and I think you should refute them more forcefully (rather than saying they're wrong because the Supreme Court hasn't always referenced each or listed them in an opinion).
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In my paper I am not favoring or attacking the prohibition on insider trading per se. It is debatable whether insider trading should be allowed and there are arguments favoring both sides. In any case, if you read the links on the paper you will realize that the main arguments favoring the prohibition are based basically in ideas of fairness and equal access to information, which I don’t consider strong enough because of the reasons already mentioned.
 The whole reason these laws were made, as I understand, was that in the 1930s people thought that the entire system was unfair. The 1933 act was an attempt to restore integrity to the stock market - which after the 1929 crash came to be viewed as a place that was routinely exploited by people with an edge. The whole country suffers as a result if it becomes harder to sell pieces of your business to the general public if they think the game is rigged. Arguably it's good for the whole country if someone can quickly raise capital if they have a good idea and want to spread it. People are more willing to invest in your business if they think there's going to be a liquid market for selling the shares they buy.
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First, notwithstanding all the insider trading regulations that exist today, as opposed to 1929, I don’t think that it is possible to state that the market woks better and that the game is not rigged (think in the Goldman Sachs case, Enron, etc. that although are not based on insider trading, the basic issue is fraud on the market by people with advantages in it). Additionally, there are many scholars explaining that insider trading does provide liquidity and, moreover, that regulations on the subject do not really change the behavior of investors nor the performing of the markets.
 I understand that once people invest money in the market, they are as you say, "on their own." However, our society allows - and enables - people to specialize in all sorts of things. While your average trader hypothetically shouldn't have nonpublic information about a company, he may have some fancy computer technique to analyze markets that you or I may not. By the same token, and I hope this isn't too much of a stretch, we are now gaining the tools to analyze legal problems by virtue of our enrolling at Columbia Law School. I guess you could say this is unfair to the rest of people with legal problems in another manner.
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I am not sure if I understood the first example with the relation to the legal education in Columbia. However, this is the whole point, there are people with more advantages than others and the capital market is one of the main places in which those advantages come into play. The Supreme Court had to recognize this in Chiarella and any further statement in the contrary has not been able to be sustained.
 -- JessicaCohen \ No newline at end of file

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Hi Francisco,
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Hi Francisco,
 Just a few things I'm thinking about after the first few reads of your paper. I don't know much about securities law but did do some reading about it...anyway, first, you say that securities law is attempting to achieve the unachievable in prohibiting insider trading. On a general note, the government tries to work towards many ideals we don't think are perfectly achievable in practice (I'm thinking about equal opportunities in society for people of all races, or equal access to public school education, for example). Second, what are exactly you trying to argue here? That insider trading should no longer be prohibited? Or that the Supreme Court's opinions have simply been contradictory? (That said, I think you can make the case that insider trading should be abolished if you want to.)

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Hi Francisco,

Just a few things I'm thinking about after the first few reads of your paper. I don't know much about securities law but did do some reading about it...anyway, first, you say that securities law is attempting to achieve the unachievable in prohibiting insider trading. On a general note, the government tries to work towards many ideals we don't think are perfectly achievable in practice (I'm thinking about equal opportunities in society for people of all races, or equal access to public school education, for example). Second, what are exactly you trying to argue here? That insider trading should no longer be prohibited? Or that the Supreme Court's opinions have simply been contradictory? (That said, I think you can make the case that insider trading should be abolished if you want to.)

Also, I think there are a few more legitimate motivations for banning insider trading and I think you should refute them more forcefully (rather than saying they're wrong because the Supreme Court hasn't always referenced each or listed them in an opinion).

The whole reason these laws were made, as I understand, was that in the 1930s people thought that the entire system was unfair. The 1933 act was an attempt to restore integrity to the stock market - which after the 1929 crash came to be viewed as a place that was routinely exploited by people with an edge. The whole country suffers as a result if it becomes harder to sell pieces of your business to the general public if they think the game is rigged. Arguably it's good for the whole country if someone can quickly raise capital if they have a good idea and want to spread it. People are more willing to invest in your business if they think there's going to be a liquid market for selling the shares they buy.

I understand that once people invest money in the market, they are as you say, "on their own." However, our society allows - and enables - people to specialize in all sorts of things. While your average trader hypothetically shouldn't have nonpublic information about a company, he may have some fancy computer technique to analyze markets that you or I may not. By the same token, and I hope this isn't too much of a stretch, we are now gaining the tools to analyze legal problems by virtue of our enrolling at Columbia Law School. I guess you could say this is unfair to the rest of people with legal problems in another manner.

-- JessicaCohen

 \ No newline at end of file

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I KNOW SOMETHING THAT YOU DON’T: INSIDER TRADING

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I Know Something That You Don’t: Insider Trading

 -- By FranciscoGuzman - 11 Apr 2010
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THE ORIGINS OF THE BAN

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The Origins of the Ban

 
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The United States was the first country that adopted a prohibition on insider trading. Today, most legal systems have followed the example seeking to “strengthen their capital markets”. The common principle is that law should forbid individuals to trade on securities based on non-public information. It does not seem right that some people use informational advantages that are unavailable to the rest of the market. The problem is that it is unclear which are the fundaments and purpose of the prohibition. This situation is particularly evident in the U.S. as demonstrated by the case law dealing with the issue. The following analysis demonstrates the efforts of the Supreme Court to protect an ideal that it is unachievable: a securities market that provides equal opportunities to all individuals. Apparently, this is another case of contradictory reasoning defending the creed of capital markets.
>
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The United States was the first country to establish a prohibition on insider trading. Today, most legal systems have followed its example seeking to “strengthen their capital markets”. The common principle is that law should forbid individuals to trade on securities based on non-public information. It does not seem right that some people use informational advantages that are unavailable to the rest of the market. However, the problem is that it is unclear which are the fundaments and purpose of the prohibition. This situation is particularly evident in the U.S. as demonstrated by the case law dealing with the issue. The following analysis shows the efforts of the courts to protect an ideal that it is unachievable: a securities market that provides equal opportunities to all individuals. Apparently, this is another case of contradictory reasoning defending the creed of capital markets.
 
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EQUALITY ON THE MARKET

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Equality in the Market

 
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Initially, the Supreme Court of the United States established the “equal access theory” (SEC v Texas Gulf Sulphur Co.). According to the Court, rule 10 b-5 of the SEC “is based in policy on the justifiable expectation of the securities marketplace that all investors trading on impersonal exchanges have relatively equal access to material information.” The reasoning was that capital markets are supposed to provide a level field for investors, increasing their confidence on it. The political purpose of such statement is obvious, in order to guarantee the survival of the market it is essential to encourage individuals and corporations to invest their resources on it.
>
>
Initially, the Court of Appeals for the Second Circuit established the “Equal Access Theory” in SEC v Texas Gulf Sulphur Co. According to the Court, rule 10 b-5 of the SEC “is based in policy on the justifiable expectation of the securities marketplace that all investors trading on impersonal exchanges have relatively equal access to material information.” The reasoning was that capital markets are supposed to provide a level field for investors, increasing their confidence on it. The political purpose of such statement is obvious; in order to guarantee the survival of the market it is essential to encourage individuals and corporations to invest their resources on it.
 
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The inaccuracy of the idea that securities markets provide a symmetrical access to information is self evident. The design of capital markets is based on the inequality of individuals. If all investors had the same information, markets would not work. In such scenario, everybody would invest in the same securities and it would be impossible to make profits. A proof of this is that there are many professionals dedicated solely to gather information and to predict future results. It is unreal to expect that the individual investor, solely relying on public information, can have access to the same data that the sophisticated broker.
>
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The inaccuracy of the idea that securities markets provide symmetrical access to information is self evident. The design of capital markets is based on the inequality of individuals. If all investors had the same information, markets would not work. In such scenario, everybody would invest in the same securities and it would be impossible to make profits. A proof of this is that there are many professionals dedicated solely to gathering information and predicting future results. It is unreal to expect that the individual investor, solely relying on public information, can possibly access the same data as the sophisticated broker.
 
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APPROACHING TO REALITY, INEQUALITY ON THE MARKETS

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Approaching Reality, Inequality in the Markets

 
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The Supreme Court acknowledged the above and reversed its findings more than twelve years later holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” (Chiarella v. United States). The reason to prohibit insider trading now was the breach of a fiduciary duty to the corporation and its shareholders incurred by insiders who traded securities based on material non-public information. (“Fiduciary Duty Theory”) As this rule did not reach outsiders of a corporation, the Supreme Court had to go further on its reasoning seventeen year later. In United States v. O’Hagan, the Court held that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). In O’Hagan, the Court held that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.”
>
>
The Supreme Court overruled the findings of the Second Circuit more than twelve years later holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” Chiarella v. United States. The reason to prohibit insider trading now was the breach of a fiduciary duty to the corporation and its shareholders incurred on by insiders who traded securities based on material non-public information (“Fiduciary Duty Theory”). As this rule did not reach outsiders of a corporation, the Supreme Court had to go further in its reasoning seventeen years later. In United States v. O’Hagan, the Court held that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). The Court also stated that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.”
 
Changed:
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Arguably, property rights may justify a prohibition to use confidential information to trade on stock without the acquiescence of the owner. However, as a consequence to this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no ‘deceptive device’ and thus no 10 (b) violation.” Unfortunately, the Court did not provide further explanations, leaving the door open to lower courts to future interpretations.
>
>
Arguably, property rights may justify a prohibition on using confidential information to trade in stocks without the acquiescence of the owner. However, as a consequence of this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no ‘deceptive device’ and thus no 10 (b) violation.” Unfortunately, the Court did not provide further explanations, leaving the door open for lower courts to future interpretations.
 
Changed:
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The evolution of the Supreme Court’s reasoning not only acknowledges that capital markets are based on inequality among investors, but also is encouraging enrichments of some people at the expense of others. Theoretically, anyone could use inside information, as long as there is no fraud to the source. Such fraud can be avoided by the authorization of the source or simply by the disclosure of the fiduciary’s intentions.
>
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The evolution of the Supreme Court’s reasoning not only acknowledges that capital markets are based on inequality among investors, but also encourages the enrichment of some individuals at the expense of others. Theoretically, anyone could use inside information, as long as there is no fraud to the source. Such fraud can be avoided with the authorization of the source or simply by the disclosure of the fiduciary’s intentions.
 
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Certainly it does not look good for the Supreme Court to protect this kind of behavior, at least publicly. Such approach goes against the very purpose of rule 10 b of the SEA to “insure honest securities markets and thereby promote investors confidence.” (O’Hagan)
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Certainly, it does not look good for the Supreme Court to protect this kind of behavior, at least publicly. The Court probably did not intend to make a statement that could be interpreted in this manner. Such approach goes against the very purpose of rule 10 (b) of the SEA to “insure honest securities markets and thereby promote investors confidence,” which guided the decision in O’Hagan.
 
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FURTHER DEVELOPMENTS, BACK TO BASICS

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Further Developments, Back to Basics

 
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Subsequent case law has faced the aforementioned situation. In SEC v. Rocklage the First Circuit had to recognize the inconsistencies of the Supreme Court’s reasoning in O’Hagan. The court refused to dismiss a complaint in a case where the defendant had disclosed to the source of the information her purposes to communicate it to a third party who traded based on it. The decision in Rocklage, again relied on the idea of fairness to “promote investors confidence” in the market.
>
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Subsequent case law has faced the aforementioned situation. In SEC v. Rocklage the First Circuit had to recognize the inconsistencies of the Supreme Court’s reasoning in O’Hagan. The court refused to dismiss a complaint against a defendant who had disclosed to the source of the information her purposes to communicate it to a third party who traded based on it. The decision in Rocklage again relied on the idea of fairness to “promote investors confidence” in the market.
 
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RECONCILING THE DECISIONS

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Reconciling the Decisions

 
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However, it does not seem likely that this will happen. The idea of a capital market providing equal opportunities and that protects investors is too attractive to simply admit its falseness. Nevertheless, the legal arguments provided to ban insider trading are far from clear or logical, being a perfect example of transcendental nonsense. Once again, law is following politics, as the capital market is too well entrenched in our society to recognize that once people invest their money on it, they are on their own.
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If the Supreme Court acknowledges that the market is not level and protects the property over material non-public information, it should allow corporations to use such information at their will. This use may include permitting executives to trade securities based on it.
 
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You are entitled to restrict access to your paper if you want to. But we all derive immense benefit from reading one another's work, and I hope you won't feel the need unless the subject matter is personal and its disclosure would be harmful or undesirable. To restrict access to your paper simply delete the "#" on the next line:
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However, it does not seem likely that this will happen. The idea of a capital market that provides equal opportunities and protects investors is too attractive to simply admit its falseness. Nevertheless, the legal arguments provided to ban insider trading are far from clear or logical, being a perfect example of transcendental nonsense. Once again, law is following politics, as capital markets are too well entrenched in our society to recognize that once people invest their money in it, they are on their own.
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It is strongly recommended that you include your outline in the body of your essay by using the outline as section titles. The headings below are there to remind you how section and subsection titles are formatted.
 
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Paper Title

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I KNOW SOMETHING THAT YOU DON’T: INSIDER TRADING

 -- By FranciscoGuzman - 11 Apr 2010
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Section I

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THE ORIGINS OF THE BAN

The United States was the first country that adopted a prohibition on insider trading. Today, most legal systems have followed the example seeking to “strengthen their capital markets”. The common principle is that law should forbid individuals to trade on securities based on non-public information. It does not seem right that some people use informational advantages that are unavailable to the rest of the market. The problem is that it is unclear which are the fundaments and purpose of the prohibition. This situation is particularly evident in the U.S. as demonstrated by the case law dealing with the issue. The following analysis demonstrates the efforts of the Supreme Court to protect an ideal that it is unachievable: a securities market that provides equal opportunities to all individuals. Apparently, this is another case of contradictory reasoning defending the creed of capital markets.

 
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Subsection A

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EQUALITY ON THE MARKET

 
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Initially, the Supreme Court of the United States established the “equal access theory” (SEC v Texas Gulf Sulphur Co.). According to the Court, rule 10 b-5 of the SEC “is based in policy on the justifiable expectation of the securities marketplace that all investors trading on impersonal exchanges have relatively equal access to material information.” The reasoning was that capital markets are supposed to provide a level field for investors, increasing their confidence on it. The political purpose of such statement is obvious, in order to guarantee the survival of the market it is essential to encourage individuals and corporations to invest their resources on it.
 
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Subsub 1

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The inaccuracy of the idea that securities markets provide a symmetrical access to information is self evident. The design of capital markets is based on the inequality of individuals. If all investors had the same information, markets would not work. In such scenario, everybody would invest in the same securities and it would be impossible to make profits. A proof of this is that there are many professionals dedicated solely to gather information and to predict future results. It is unreal to expect that the individual investor, solely relying on public information, can have access to the same data that the sophisticated broker.
 
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Subsection B

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APPROACHING TO REALITY, INEQUALITY ON THE MARKETS

 
Added:
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The Supreme Court acknowledged the above and reversed its findings more than twelve years later holding that “neither the Congress, nor the [SEC] ever has adopted a parity-of-information rule.” (Chiarella v. United States). The reason to prohibit insider trading now was the breach of a fiduciary duty to the corporation and its shareholders incurred by insiders who traded securities based on material non-public information. (“Fiduciary Duty Theory”) As this rule did not reach outsiders of a corporation, the Supreme Court had to go further on its reasoning seventeen year later. In United States v. O’Hagan, the Court held that insider trading liability was based on the misappropriation of confidential information with fraud to the source (“Misappropriation Theory”). In O’Hagan, the Court held that the corporation’s confidential information “qualifies as property to which the company has a right of exclusive use.”
 
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Subsub 1

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Arguably, property rights may justify a prohibition to use confidential information to trade on stock without the acquiescence of the owner. However, as a consequence to this approach, it would be legally permitted to use such information with the consent of the owner. According to the Court “if the fiduciary discloses to the source that he plans to trade on the nonpublic information, there is no ‘deceptive device’ and thus no 10 (b) violation.” Unfortunately, the Court did not provide further explanations, leaving the door open to lower courts to future interpretations.
 
Added:
>
>
The evolution of the Supreme Court’s reasoning not only acknowledges that capital markets are based on inequality among investors, but also is encouraging enrichments of some people at the expense of others. Theoretically, anyone could use inside information, as long as there is no fraud to the source. Such fraud can be avoided by the authorization of the source or simply by the disclosure of the fiduciary’s intentions.
 
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Subsub 2

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Certainly it does not look good for the Supreme Court to protect this kind of behavior, at least publicly. Such approach goes against the very purpose of rule 10 b of the SEA to “insure honest securities markets and thereby promote investors confidence.” (O’Hagan)
 
Added:
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FURTHER DEVELOPMENTS, BACK TO BASICS

 
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Subsequent case law has faced the aforementioned situation. In SEC v. Rocklage the First Circuit had to recognize the inconsistencies of the Supreme Court’s reasoning in O’Hagan. The court refused to dismiss a complaint in a case where the defendant had disclosed to the source of the information her purposes to communicate it to a third party who traded based on it. The decision in Rocklage, again relied on the idea of fairness to “promote investors confidence” in the market.
 
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Section II

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RECONCILING THE DECISIONS

 
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Subsection A

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However, it does not seem likely that this will happen. The idea of a capital market providing equal opportunities and that protects investors is too attractive to simply admit its falseness. Nevertheless, the legal arguments provided to ban insider trading are far from clear or logical, being a perfect example of transcendental nonsense. Once again, law is following politics, as the capital market is too well entrenched in our society to recognize that once people invest their money on it, they are on their own.
 
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Subsection B

 



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META TOPICPARENT name="SecondPaper"
It is strongly recommended that you include your outline in the body of your essay by using the outline as section titles. The headings below are there to remind you how section and subsection titles are formatted.

Paper Title

-- By FranciscoGuzman - 11 Apr 2010

Section I

Subsection A

Subsub 1

Subsection B

Subsub 1

Subsub 2

Section II

Subsection A

Subsection B


You are entitled to restrict access to your paper if you want to. But we all derive immense benefit from reading one another's work, and I hope you won't feel the need unless the subject matter is personal and its disclosure would be harmful or undesirable. To restrict access to your paper simply delete the "#" on the next line:

# * Set ALLOWTOPICVIEW = TWikiAdminGroup, FranciscoGuzman

Note: TWiki has strict formatting rules. Make sure you preserve the three spaces, asterisk, and extra space at the beginning of that line. If you wish to give access to any other users simply add them to the comma separated list


Revision 11r11 - 13 Jan 2012 - 23:34:23 - IanSullivan
Revision 10r10 - 02 Jun 2010 - 21:02:27 - JessicaCohen
Revision 9r9 - 14 May 2010 - 18:29:47 - JessicaCohen
Revision 8r8 - 07 May 2010 - 03:18:46 - FranciscoGuzman
Revision 7r7 - 24 Apr 2010 - 15:51:01 - JessicaCohen
Revision 6r6 - 23 Apr 2010 - 04:11:02 - FranciscoGuzman
Revision 5r5 - 21 Apr 2010 - 12:48:47 - JessicaCohen
Revision 4r4 - 21 Apr 2010 - 03:20:17 - JessicaCohen
Revision 3r3 - 17 Apr 2010 - 02:58:35 - FranciscoGuzman
Revision 2r2 - 15 Apr 2010 - 03:01:50 - FranciscoGuzman
Revision 1r1 - 11 Apr 2010 - 17:20:31 - FranciscoGuzman
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