The Deterrence Effect of SEC Enforcement Intensity on Illegal Insider Trading: Evidence from Run-up before News Events

Abstract

We examine whether public enforcement of U.S. insider trading laws affects price discovery. Examining insider trading civil cases filed by the SEC from 2003 to 2011, we find that the price impact on insider trading days is much smaller than the effect documented by Meulbroek (1992) for the 1980s, consistent with increased fear of prosecution. Moreover, we find that pre-announcement anticipatory run-up in comprehensive samples of takeover bids and earnings announcements is negatively related to resource-based measures of public enforcement intensity, suggesting that aggressive SEC enforcement deters illegal activity. In addition, we find that quoted bid-ask spreads are negatively related to SEC enforcement intensity, suggesting greater enforcement improves liquidity. Moreover, the negative and significant relation between run-up and SEC enforcement intensity persists after controlling for quoted spreads.

Keywords: mergers, takeover bids, earnings announcements