Supreme Court Defining Personal Benefits in the Context of Insider-Trading Liability

The Race to the Bottom is following developments in United States of America v. Todd Newman et al, No. 15-137, July 30, 2015. On July 30, 2015, the Solicitor General entered a petition for a writ of certiorari to review the Second Circuit Court of Appeal’s December 10, 2014 judgment reversing securities fraud convictions for Todd Newman, a portfolio manager at Diamondback Capital Management, LLC. and Anthony Chiasson, a portfolio manager at Level Global Investors, L.P., (together, the “Respondents”). 

A jury convicted the Respondents of engaging in insider trading with respect to shares of Dell and Nvidia.  The government alleged that the information came from insiders who did not benefit from the disclosure but were friends with the recipients.  The Second Circuit reversed the conviction, reasoning mere friendship could lead to an inference of personal benefit only if evidence was generally akin to quid pro quo and that an insider could only benefit from a relationship if “meaningfully close.”

The Solicitor General argued that the court of appeals departed from the Supreme Court’s decision in Dirks v. SEC, 463 U.S. 646 (1983), which held that when an insider breached his or her duty to the corporation when benefiting from the disclosure of material non-public information. In addition, however, the Court also acknowledged that “[t]he elements of fiduciary duty and exploitation of nonpublic information also exist when an insider makes a gift of confidential information to a trading relative or friend.”  In doing so, “[t]e tip and trade resemble trading by the insider himself followed by a gift of the profits to the recipient.” 

Solicitor General argued that the Second Circuit’s decision warranted review based on its redefinition of personal benefit in the context of personal relationships.  The shift would harm the fair and efficient operation of securities markets and serve to undermine the work of analysts who play by the rules. Insider trading erodes public confidence in the integrity of securities markets, and disadvantages legitimate analysts pursuing research and modeling based on authorized information.

The Solicitor General also pointed out that the Second Circuit’s decision conflicted with the reasoning of the 7th Circuit (see SEC v. Maio, 51 F.3d 623 (7th Cir. 1995)) and a  Ninth Circuit opinion that specifically rejected the Newman analysis. See United States v. Salman, No. 14-10204, 2015 WL 4068903 (9th Cir. July 6, 2015. The circuit split will lead to an uneven enforcement of security law against individuals participating in the same nationwide capital markets. 

The primary materials for this post can be found on the DU Corporate Governance website.

Hillary Sullivan