US v. Newman and the Rewriting of the Law of Insider Trading (Part 14)

The Justice Department has rightfully sought rehearing en banch.  The government challenged the panel's interpretation of personal benefit, particularly with respect to gifts. 

  • First, seizing on an issue raised briefly by only one defendant, the Opinion redefines a critical element of insider trading liability—the requirement that the insider-tipper have acted for a “personal benefit”—in a manner that: (i) runs contrary to Dirks v. SEC, 463 U.S. 646 (1983), the decision that first established the personal benefit requirement; (ii) conflicts with decisions of other circuits, and, indeed, prior decisions of this Court; and (iii) conflicts with the definition accepted by all parties and relied upon by the District Court below. Even on its own terms, the new definition is deeply confounding and, contrary to the Panel’s express intention of supplying clarity, is certain to engender confusion among market participants, parties, judges, and juries.

The government also challenged the need for tippees to "know" that the tipper received a benefit and the decision in this case that there was inadequate evidence to make this showing. 

  • Second, applying this new and incorrect definition of personal benefit, and holding for the first time that a culpable tippee must know that the insider-tipper who supplied the inside information acted for such a benefit (a requirement the Government argued against, but does not challenge herein), the Panel erroneously ordered dismissal of the charges against the tippee-defendants in this case. Specifically, the Panel held that the Government’s evidence was insufficient to prove that the defendants knew the insidertippers had acted for a personal benefit, and, indeed, insufficient even to prove that the insider-tippers had acted for a personal benefit at all. These unfounded conclusions led the Panel to deny the Government the opportunity to retry its case in light of the newly announced knowledge requirement.

The SEC likewise filed an amicus brief supporting the request for rehearing en banc.  The SEC did not take issue with the need of the tippee to know of the benefit but did take issue with the panel's interpretation of benefit in the context of the gift analysis.

  • In particular, the panel decision states that evidence of friendship between an insider who tips and his tippee is insufficient to support an inference that the insider derived a personal benefit from the tipping—a requirement for liability. That ruling is directly at odds with Supreme Court and prior Second Circuit decisions holding that an insider derives a personal benefit—and thus engages in prohibited insider trading—by disclosing inside information to a friend who then trades, because that is equivalent to the insider himself profitably trading on the information and then giving the trading profits to the friend, which is obviously illegal.

The SEC asserted that rehearing was necessary given the uncertainty resulting from the opinion.  See SEC Amicus Brief ("The panel decision also creates uncertainty about the precise type of benefit that the panel believes an insider who tips confidential information must receive to be liable. Some passages in the decision suggest that certain non-pecuniary benefit to the insider is a sufficient predicate for liability, but others could be read to require some form of a pecuniary gain in exchange for disclosing the 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.