11 Jul 2023What is insider trading?
Insider trading occurs when a person or company uses information that is not available to the public to make a profit, or avoid losses, on the stock market.
Consider these situations.
You work for a mining company that has just struck gold but won’t announce it for a few days. You are an executive in a firm that is secretly moving to take over a rival next month. You are on a planning committee that decides to buy land or machinery from a company in a multi-million dollar deal.
You’d think the smart thing to do in these situations would be to rush out and buy shares in the company before the announcements are made and the share price soars, making you a lot of money.
Smart maybe, but it might also land you in jail for illegal insider trading. And the penalties are high.
Under section 1043A of the Corporations Act, a person with inside information cannot apply for, acquire or dispose of financial products such as shares, or get another person to do it for them, or pass the information on to another person, knowing they would use it to buy shares.
Penalties for insider trading
There are some exclusions and exceptions in the Act, but a person found guilty of insider trading could face 15 years in jail and/or a fine of $495,000 – or three times the profit gained. For a company the maximum fine is $11 million, or three times the profit gained, or ten per cent of the company’s annual turnover during the relevant period.
Just recently the former director of the Australian division of a car company was sentenced to two years and six months in jail after pleading guilty to two counts of insider trading. He was released immediately upon entering into a recognisance, on the condition that he be of good behaviour for two years and six months. (Please see Former Tesla director sentenced for insider trading, ASIC, March 2023.)
The Australian Securities & Investments Commission took the director to court after he bought shares in a mining firm, knowing his own company was about to sign a deal with the firm to supply his US parent company with lithium.
The director made a quick profit on the shares of $28,883, which he had to forfeit to the Commonwealth. He was also barred from managing corporations for five years.
Insider trading ban protects public trust in stock exchange
The reason for the ban on insider trading is that buying and selling shares on the stock market relies on public trust that it is open and fair.
Otherwise it’s like sitting at a card table playing poker against a player who knows the cards before they are dealt. If investors think the share market is unfair, with some players using inside knowledge, then they might not invest their money.
The ban on insider trading is there to protect the stock exchange.
