Why we should all care about insider trading

By Dr Juliette Overland, Senior Lecturer in the Discipline of Business Law at the University of Sydney Business School

Local regulators have been enforcing insider trading laws and pursuing insider traders more frequently and vigorously in recent years, with a number of high profile cases gaining much media attention.  There is still a perception however, that insider trading is a victimless crime, and that those lucky enough to be able to trade on inside information don’t really hurt anyone in their pursuit of profit. 

What is insider trading?

Insider trading is, in essence, trading in securities such as shares or other financial products, while possessing price-sensitive information which is not publicly available.   There is one key reason why insider trading wrongly appears to be a victimless crime.  Share trading on a stock exchange occurs largely anonymously.  When we buy or sell shares, we generally remain unaware of the identity of the person we have sold shares to, or bought them from.  Without that knowledge, it is almost impossible for a person to ever realise that they may have been a victim of insider trading.  Just because the victims in these cases appear to be invisible and anonymous does not mean that insider trading is victimless.

Research indicates that many Australians believe they are unaffected by insider trading, believing it to be a crime only relevant to high-flying investment bankers and corporate executives.  However, almost all Australians in employment have nearly 10% of their wages or salary paid into compulsory superannuation.  Those superannuation contributions are invested into a variety of ways by the relevant funds, with a significant portion invested into securities publicly traded on the stock exchange.  If insider trading occurs, the employees who are beneficiaries of the relevant superannuation funds become the unknowing victims of insider trading.

Despite insider trading being a crime, some members of the financial services industry openly state that they believe insider trading is both rife and increasing, particularly when markets are volatile, and some experts believe insider trading to be unavoidable and endemic to securities markets.  Evidence appears to indicate that insider trading in shares in the period immediately prior to takeover announcements can cause rises in share prices of about 10 per cent, and that corporate insiders are able to earn abnormal profits and avoid abnormal losses through share trading. 

The effects of insiders trading

Insider trading threatens the integrity of our securities markets and stock exchanges, and almost all countries with well-developed securities markets prohibit it.  This is generally intended to protect and maintain the integrity of our securities market, so that all investors can have confidence that those who might otherwise gain an unfair informational advantage from insider trading will be identified and appropriately sanctioned.  If some investors are believed to be able to use information which is not readily available, others may be unwilling to invest in the securities market, and may withdraw their capital or choose alternative investments. This increases the costs of capital for everyone in the securities market.

These are just a number of reasons why we should not regard insider trading as a victimless crime, and why we should all be interested in ensuring that vigorous regulatory action is taken to detect and prosecute this serious offence.

Dr Juliette Overland is taking part in the University of Sydney’s Raising the Bar on Tuesday 18 October from 6pm at Since I Left You in Sydney’s CBD. Hear more from Juliette as she discusses ‘Is insider trading beneficial, bad or benign?’. Tickets are free, reserve yours today.