US v. Newman and the Rewriting of the Law of Insider Trading (Part 13)

Newman did one other thing.  Until that decision, lower courts had allowed for the imposition of liability on tippees (and remote tippees) when the circumstances surrounding the receipt of the information suggested that it was improperly disclosed.  The courts did not specifically require that the tippees and sub-tippees actually know the benefit received by the insider.

The panel in Newmansought to change that approach.  Knowledge of the actual benefit was required.  The impact of the approach is to allow any tippee or sub-tippee to trade with abandon as long as they are not informed of the actual benefit, despite awareness that the information was improperly disclosed.  This of course is the norm.  To the extent, for example, that the tippee benefits from tipping the information to sub-tippees (for example by sharing trading profits), there will be no insider trading so long as both are kept in the dark about the actual benefit obtained by the insider. 

As a practical matter, therefore, insider trading for tippees will be limited to those circumstances where the tippee actually provides the benefit (by for example sharing trading profits).  Unless the tippee is particularly loquacious, sub-tippees will never be liable, even when aware that inside information was wrongfully disclosed.     

The approach is not quite wrong; there is a certain logic in concluding that the awareness of the breach of fiduciary duty requires awareness of the benefit. It is, however, excessively narrow and unrealistic.  Moreover, there are many readings of Dirks that, while "logical" are inconsistent with any reasonable interpretation of the prohibition on insider trading.  

Take for example the fact that defendants in Newman were almost certainly not fiduciaries (one was in the finance department; another in investor relations).  The panel could also have read Dirks as exonerating these individuals because of the absence of this duty.  Yet no court has ever adopted this approach, something that would allow most employees to trade on (and tip) material non-public information.       

With respect to Newman, the decision and the request for rehearing en banc is posted, along with the SEC’s amicus brief, at the DU Corporate Governance web site.  The amicus filed by a small group of law professors that supports the decision is here.  

J Robert Brown Jr.