Has Insider Trading Become More Rampant in the United States? Evidence from Takeovers

Abstract

In this paper, we investigate whether the recent increase in enforcement action against insider trading by the SEC and the Department of Justice correspond to increased illegal insider trading activity. We examine the pricing of common stocks and options around the announcement of tender offers to detect the presence of illegal insider trading. Our objective is to determine whether illegal insider trading occurs before tender offers and whether illegal insider trading has become more rampant over time. Our evidence indicates that the pre-takeover announcement run-up in stock prices has become larger over time. During the 2006-2011 sub-period, the pre-bid run-up is 50% higher than in the pre-2006 period. We also find that toehold investments by bidders do not explain the time-series variation in stock price behavior around takeovers. In contrast, increases in implied volatility of the options on target stock are consistent with increasing illegal insider trading.

Keywords: illegal insider trading, tender offers, investments, stock price behavior, takeovers

JEL Classification: K2, O16