Insiders: Cheating the Market’s Game

Insider dealing involves insider dealers, whose aims are to outsmart the system by trading with essential information that they acquired but others in the market don’t. The insider dealer profits from the fact that the securities’ prices do not reflect the information that they hold when they buy or sell them. Essentially, the insider is manipulating the odds for their own profit, which is cheating.

Moreover, it is the buying or selling of a publicly traded company’s stock by individuals who have private, material information about that stock. This type of information is any information that could impact an investor’s decision to buy or sell the security that hasn’t been made accessible to the public. This form of trading is illegal, and consequently comes with penalties including fines and jail time.

Information is an extremely valuable commodity, as all markets depend on information. Information determines the prices of the commodities on the exchange, after all. This statement holds truth for the market stall-holder, to the world’s financial centres. The value of a security is determined directly by how many people want to buy and how many people want to sell, at any particular point in time. If there are more buyers, the price goes up, and if there are more sellers, the price goes down. Ultimately, it is information that drives the buyers and seller to decide what a commodity is worth.

Insiders and Prohibitions

“Primary insiders” are insiders are defined as those who by virtue of their profession, are in a fiduciary relationship with or are obliged to withhold information to the company whose shares are at stake. However, it had been decided that this definition was too vague, and too limited. There is a real perceived risk that individuals could procure privileged information from primary insiders and trade on it to their advantage — these individuals have been called tippees or “secondary insiders”. These terms have been created by the Insurance Distribution Directive.

Primary insiders are prohibited from taking advantage of inside information by buying or selling securities either directly or through another person. Primary insiders are also forbidden from disclosing inside information to a third-party unless the disclosure was made for their profession or duties. Primary insiders are also forbidden from using inside information to recommend a third-party to buy or sell securities. The same prohibitions apply to secondary insiders, who obtain their information from primary insiders. However, how does one define information as “insider information”? The information must have an effect on the price of the security in question. Managers, directors or even most of the employees of a company would never be able to buy or sell the securities of their companies since they would always have information which had not been published. The prohibitions are applied to transactions in securities admitted to trading on the stock exchange, this signified not just the official market but also parallel and secondary markets.

Strategies in the game

Evidently, investors and traders alike will buy or sell shares on their interpretations on the available information, their financial resources, goals, level of risk-taking, and for many other various reasons. On the other hand, some traders determine their trading strategy by a detailed analysis of the economic situation of the share or commodity. Additionally, some investors are more interested in the dividend income from the shares; however, some are more interested with capital growth.

To clarify, investing is when an investor buys a share with the intent of keeping it longer. “Trading”, on the other hand, is the buying and selling of an asset to obtain a short-term profit. A trader’s only interest is profit and traders utilize the market’s movements to try to maximize their returns.

Boesky

During the 1980s, Ivan Boesky was one of New York’s most successful risk arbitrageurs. Ivan had amassed a multi-million fortune by betting on corporate takeovers. This meant that he essentially took stakes in companies with the expectation that the companies would be taken over, and that he would benefit from the corresponding rise in the company’s share price.

It was revealed that Boesky’s millions were not based on his own financial judgement. In reality, he utilized a network of paid informants, who gave him information about forthcoming corporate takeovers in return for a percentage of the profits from his trades. His downfall came when one of his paid informants, Dennis Levine, told the police on him. However, Boesky negotiated a deal with the US Federal Authorities. He informed the authorities on other participants in his network and provided evidence via spy tape recordings and wiretaps. Mr Boesky agreed to pay a $100 million fine; however, as of now, he has long been out of jail and lives a comfortable retired life in the U.S.

Final Notes

Insider dealing, whether it is investing or trading, disrupts the market in various ways therefore it has been criminalized. The market in of itself already has major disadvantages for minor players and private individuals who want to compound their finances by buying and selling the relevant stocks, therefore, regulations must be made on corporate players who have much more advantages on their hands.

Abuse of power is evident, and so is politics, especially in the game of money. This is why informing ourselves of these practices is so relevant today. Nowadays, with the new currencies such as cryptocurrency and decentralized finance, new ways of regulating the market might need to be called into question.