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Insider Trading
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SEC Law: Insider Trading

What is insider tipping?

Insider tipping is illegal, and is closely related to insider trading. It means telling someone secret stock-price-moving information about a public company that may motivate the recipient to trade that company's securities (e.g. shares or call options). This is illegal because the tipped-off trader gains an unfair advantage over other investors from the movement of the stock price that will occur when the information is made public. (Another FAQ further explains why trading on inside information is opposed by financial regulators.)

Insider tipping can occur in person, by phone, through mail, by email, or on the internet. The tipping is illegal if:

  • the person who receives the inside information knows, or has a reason to believe, that the tipper is breaching a fiduciary duty
  • the tipper gets some tangible or indirect benefit from the tipping
  • the tipper passes on the tip with the expectation that the recipient will try to profit from it

Tipper Liability Taken Seriously By The SEC And Prosecutors

Even if you merely pass on the details and do not trade for yourself, you can still be accused of insider tipping. Some recent SEC cases show how seriously the SEC and federal prosecutors take tipping when they bring insider-trading actions. In November 2012, amid the largest insider-trading case ever brought by the SEC, a neurology professor at the University of Michigan was accused of tipping confidential pharmaceutical information to a portfolio manager at a firm that advises hedge funds. (Details and commentary about this case, in which the tipper agreed to settle the SEC's charges and cooperate in the SEC's investigations, are available in a blog analysis by the law firm Brooks Pierce.) Earlier in 2012, in a separate case, the conviction of a former Goldman Sachs director showed the way circumstantial evidence alone can be enough to win a guilty verdict for prosecutors.

It also does not matter whether the violation occurred inside or outside the United States. In November 2010, the SEC launched criminal and civil proceedings against a French doctor living in Paris, who was arrested in the US after tipping an American hedge fund about confidential impending bad news for a pharmaceutical company where the hedge fund held shares.

Criminal Liability For Tippees Now Harder To Prove

In the matter of criminal liability among tippees, i.e. those who receive confidential information from a tipper and trade on the basis of it, not all of the government's efforts to expand liability have succeeded. The ruling in United States v. Newman (2014), made by the US Court of Appeals for the Second Circuit, limited tippee liability and clarified what is needed to prove it, at least for criminal cases brought in the Second Circuit. In reversing the convictions, the court held that criminal liability against a tippee occurs only if the tippee knew (1) that the tipper who gave the confidential information revealed it in exchange for a personal benefit and (2) that the tip breached a fiduciary duty. (For more on the case and its implications, see alerts from the law firms Ropes & Gray and Sullivan & Cromwell.)

Evolving Tippee Law

In its ruling on Salman v. United States, the Supreme Court makes it very clear that whenever a friend or relative is tipped, insider trading has occurred, regardless of whether the tipster receives a benefit. Prosecutors do not need to show something of value was received for providing the valuable information. In the court's view, "the tipper personally benefits because giving a gift of trading information to a trading relative is the same thing as trading by the tipper followed by a gift of the proceeds." The tipper does not need to receive something of a "pecuniary or similarly valuable nature" in exchange for this gift to a trading relative. The case prompted several commentaries, including articles from the law firms Morgan Lewis & Bockius and Goodwin Procter and an analysis in the blog of the Supreme Court itself. As explained by a commentary from the law firm Sheppard Mullin Richter & Hampton, the decision "marks a victory for the government and bolsters prosecution of corporate insiders for insider trading."

An insider-trading case in 2016 involving professional golfer Phil Mickelson and a corporate director (see the related SEC press release and SEC public statement) shows that when the SEC finds insider trading somewhere in a chain of events, all who profited will be forced to pay back their gains, even if they did not know that the information in question was tainted. In the SEC's action, Mr. Mickelson was named as a "relief defendant," i.e an individual who must turn over ill-gotten gains arising from schemes perpetrated by others. Without admitting or denying the allegations in the SEC's complaint, Mr. Mickelson agreed to pay the full disgorgement of his trading profits, which totaled $931,738.12 plus interest of $105,291.69.

Potential Penalties

When you tip someone—e.g. a relative or a friend—who then trades securities according to the inside information, you may be held accountable for up to three times the profit gained or loss avoided, plus disgorgement of the trading gains if your tippee cannot pay.

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