Beyond Dirks: Gratuitous Tipping and Insider Trading

42 Journal of Corporation Law 1 (2016)

Indiana Legal Studies Research Paper No. 327

58 Pages Posted: 6 Sep 2016 Last revised: 30 Dec 2016

See all articles by Donna M. Nagy

Donna M. Nagy

Indiana University Maurer School of Law

Date Written: November 8, 2016

Abstract

Did an investment banker who gratuitously shared material nonpublic information with his brother — with no expectation of receiving anything in return — commit securities fraud? And is the investment banker’s brother-in-law jointly liable for trading securities on the basis of what he knew to be gratuitous tips? The Supreme Court is poised to answer those questions in Salman v. United States, after steering clear of insider trading law for nearly two decades. It has been even longer still since the Court last addressed securities fraud liability relating to stock trading tips; it articulated a “personal benefit” test for joint tipper-tippee liability in 1983 in Dirks v. SEC, a decision reinforcing the “classical” theory of insider trading. In 2015, a circuit split arose as to whether gratuitous tipping constitutes a violation of the anti-fraud provisions in the federal securities laws, and the Court has granted certiorari in Salman to resolve that issue. This article disagrees with the Second Circuit’s finding that gratuitous tips do not result in a personal benefit and supports the Ninth Circuit’s conclusion that such tips are illegal. But in arguing that gratuitous tips satisfy the personal benefit test, this article draws from a potent combination of four post-Dirks developments in corporate and securities law: 1) the Court’s endorsement of the “misappropriation” theory in United States v. O’Hagan; 2) federal securities legislation in 1984, 1988, and 2012 that evidences Congress's support for an expansive anti-fraud proscription against insider trading and tipping; 3) the SEC’s decision to effectively ban the practice of selective disclosure through its adoption of Regulation FD; and 4) state court decisions that construe fiduciary disloyalty to include not only self-dealing but also other conscious actions taken by agents in bad faith. These developments should prompt the Court not only to affirm the Ninth Circuit’s decision but also to look beyond Dirks to consolidate the Court’s prior complementary theories of insider trading liability — the classical and misappropriation theories — into a new unified framework that would regard insider trading as a “fraud on contemporaneous traders.”

Keywords: insider trading, Rule 10b-5, Section 10(b), securities fraud, tipping, Regulation FD, duty of loyalty, fiduciary duty, Newman, O’Hagan, classical theory, misappropriation theory

Suggested Citation

Nagy, Donna M., Beyond Dirks: Gratuitous Tipping and Insider Trading (November 8, 2016). 42 Journal of Corporation Law 1 (2016); Indiana Legal Studies Research Paper No. 327. Available at SSRN: https://ssrn.com/abstract=2665820 or http://dx.doi.org/10.2139/ssrn.2665820

Donna M. Nagy (Contact Author)

Indiana University Maurer School of Law ( email )

211 S. Indiana Avenue
Bloomington, IN 47405
United States

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