Insider Trading Prosecutions In Us Courts
What Is Insider Trading?
Insider trading is the illegal practice of trading a public company’s stock or other securities based on material, nonpublic information (MNPI) — typically in breach of a fiduciary duty or trust.
There are two main theories:
Classical theory: A corporate insider (like an executive) trades on confidential information.
Misappropriation theory: An outsider (like a lawyer or consultant) misuses confidential information they were trusted to keep secret.
Legal Framework
Securities Exchange Act of 1934 — Especially Section 10(b) and Rule 10b-5.
The government must prove:
The information was material and nonpublic,
It was used knowingly,
The trader had a duty to keep it confidential.
⚖️ Key Insider Trading Cases (with Detailed Summaries)
1. United States v. O’Hagan, 521 U.S. 642 (1997)
➡️ Theory: Misappropriation
Facts: James O’Hagan, a lawyer, traded stock in a company based on inside information from a client of his law firm.
Issue: Can a person be guilty of insider trading if they aren't an insider but misappropriate confidential information?
Holding: The Supreme Court upheld the conviction, establishing the misappropriation theory — trading on confidential info is illegal if you breach a duty of trust.
Significance: This broadened the reach of insider trading laws beyond corporate insiders.
2. SEC v. Texas Gulf Sulphur Co., 401 F.2d 833 (2d Cir. 1968)
➡️ Theory: Classical
Facts: Company insiders traded stock before announcing a major mineral discovery.
Issue: Did they act on material nonpublic info?
Holding: The court ruled that anyone with material nonpublic info must either disclose it or abstain from trading.
Significance: One of the earliest and most important insider trading cases. It defined what makes information "material" and “nonpublic.”
3. Dirks v. SEC, 463 U.S. 646 (1983)
➡️ Theory: Tipper/Tippee
Facts: A financial analyst, Dirks, received inside info from a former employee of a fraud-ridden company and passed it to investors.
Issue: When can a “tippee” (someone who receives inside info) be held liable?
Holding: The Supreme Court ruled that tippees are only liable if the tipper breached a duty and received a personal benefit.
Significance: Introduced the concept of “personal benefit” to establish tipper-tippee liability.
4. United States v. Newman, 773 F.3d 438 (2d Cir. 2014)
➡️ Theory: Tipper/Tippee (narrowed)
Facts: Hedge fund managers were convicted of insider trading several steps removed from the original source of information.
Issue: Must the government prove that tippees knew the insider breached a duty and received a benefit?
Holding: Yes. The Second Circuit reversed the convictions, stating that remote tippees must know of the breach and benefit.
Significance: Made insider trading prosecutions harder by raising the bar for proving knowledge and benefit.
5. Salman v. United States, 580 U.S. 39 (2016)
➡️ Theory: Tipper/Tippee (clarified Dirks)
Facts: Salman received insider tips from his brother-in-law, who got them from an insider.
Issue: Can gifting confidential info to a relative count as a "personal benefit"?
Holding: The Supreme Court ruled that gifting inside info to family satisfies the personal benefit requirement.
Significance: Overruled part of Newman and reaffirmed Dirks — family-based tips can lead to liability.
6. United States v. Raj Rajaratnam (2011)
➡️ Real-World Application
Facts: Billionaire hedge fund manager Rajaratnam (Galleon Group) used a vast network of insiders to trade on nonpublic information.
Outcome: Convicted of 14 counts of securities fraud and conspiracy, sentenced to 11 years — one of the longest insider trading sentences.
Significance: High-profile case that showed aggressive federal prosecution using wiretaps and broad conspiracy arguments.
7. United States v. Martha Stewart (2004)
➡️ High-Profile Defendant
Facts: Stewart sold stock based on a tip that a drug company’s product was going to be denied FDA approval.
Issue: While not convicted of insider trading directly, she was convicted of lying to investigators and obstruction.
Significance: Illustrates how insider trading investigations can lead to other charges — even without a full trading conviction.
🧠 Quick Recap
| Case | Key Issue | Takeaway |
|---|---|---|
| O’Hagan | Misuse of client info | Misappropriation = insider trading |
| Texas Gulf Sulphur | Material nonpublic info | Must disclose or abstain |
| Dirks | Tippee liability | Tippee must know of tipper’s breach + benefit |
| Newman | Remote tippees | Must know of breach and benefit — harder to prove |
| Salman | Family tipping | Gifts to relatives count as "personal benefit" |
| Rajaratnam | Hedge fund network | Large-scale prosecutions using conspiracy and surveillance |
| Martha Stewart | Lying to feds | You can be charged even if not convicted of insider trading directly |
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