What is Insider Trading?

Insider trading is a financial crime. Although it does not receive quite as much attention as other financial crimes, such as fraud, it remains relatively pervasive. However, the classification of insider trading is quite complex, and below, there is a more extended description of its various components. Essentially, though, insider trading is the use of sensitive or privileged commercial information to mitigate risks and increase returns in the trade of financial products. It is often seen on financial markets, where privileged inside information can allow traders to unfairly manage the risks associated with their transactions.

Insider trading is a crime under the Corporations Act 2001

The most salient prohibition on insider trading is found in the Corporations Act 2001 (Cth). In Part 7.10, Division 3 of the Act, insider trading is defined, and made an offence. In Division 3, section 1043A prohibits certain conduct on the part of those in possession of inside information. The relevant elements and definitions of that offence are listed below.

Element 1: knowingly possessing inside information

This element lays the foundation of the offence of insider trading. Its first subset is the term ‘inside information.’ To amount to inside information, information must not be generally available. It must also be of the nature that if it were generally available, a reasonable person would expect it to have a material effect on the price or value of financial products. The second subset of element 1 is ‘knowingly possessing’ inside information. Specifically, under section 1043A(1)(b), a person must know that they are in possession of inside information. However, such knowledge needn’t be overt; it is sufficient that a person ought to have known the relevant information was inside in nature. Basically, if it is obvious enough to a reasonable person that certain information is inside information, liability cannot be avoided on the basis that actual knowledge was absent.

Element 2: communicating inside information

Element 2 is offered by section 1043A(2), and it is only relevant where an individual has communicated inside information to another. In such situations, the first individual will be liable for insider trading if the second individual engages in conduct of the nature described in element 3. For example, if A provides information to B, and B trades in financial products in reliance on that information, A’s conduct will amount to insider trading. In circumstances where insider information is not communicated, it is still possible to prove the offence of insider trading. Element 2 may be skipped entirely, if inside information is not communicated to another party in the relevant way.

Element 3: applying for, acquiring, or disposing of financial products

Element 3 is created by sections 1043A(1)(c)-(d) or (2)(c)-(d). Elements 1 and 2 were focused on establishing the nature of inside information, and the manner in which it is managed. Element 3, on the other hand, is concerned with the ‘trading’ aspect of insider trading. This element defines ‘trading’ as applying for, acquiring, or disposing of financial products. Financial products are defined as a facility through which – or through the acquisition of which – a person makes financial investments, manages financial risks, or makes non-cash payments. Facilities are then defined to include:

1. Intangible property;
2. An arrangement or term of an arrangement; or
3. A combination of both.

Therefore, insider trading is the use of inside information to apply for, acquire, or dispose of the financial products defined above.

Insider trading is a serious criminal offence capable of attracting significant punishments

Evidently, insider trading under the Corporations Act is a complex crime. The legalistic terms used by the legislation to define insider trading also make it hard for ordinary businesses to recognise. Without a background in commercial law, piecing together the obligations and restrictions created by the Corporations Act is challenging. Consequently, it is important to seek legal advice when dealing with information that might qualify as inside information. That includes any information that’s not generally available and that may have a material effect on the price or value of financial products.

By Finian McGrath

Disclaimer

The information provided by Kafrouni Lawyers is intended to provide general information and is not legal advice or a substitute for it. Business people should always consult their own legal advisors to discuss their particular circumstances. Kafrouni Lawyers makes no warranties or representations regarding the information and exclude any liability which may arise as a result of the use of this information. This information is the copyright of Kafrouni Lawyers.

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