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Insider Trading and its Harmful Effects – A  Legal Perspective


As the business world continues to expand in global markets, trading of shares, bonds, derivatives and other instruments continues to increase. One form of trading that has received considerable interest in recent years is Insider Trading.  It occurs when an individual with potential access to non-public information about a Corporation buys or sells stocks of that company. However if trading is done in a manner that does not take advantage of non- public information, it is often permissible.

Insider Trading is an expression which has gained great currency in the financial markets during the last two decades.  Briefly  it refers to a fraudulent practice  which  is  resorted  to by most of the Corporate entities which are listed in a recognized stock exchange. Insider Trading  is a global phenomenon which needs  desperate attention and if unchecked it would lead to several economic problems like increase in gap between the rich and the poor, stock market collapses and economic down turns. It is regarded as a evil practice as rich become richer and poor become poorer which is not good for any economy.


The article emphasizes on the harmful effects of Insider Trading and portrays the reason as to why it is an offence punishable by law. It further talks about whether the present legal system on Capital Markets is sufficient to deal with this problem or the law needs to be strengthened further in this regard.

The article comprises of nine segments.  Segment 1 deals with the genesis of Insider Trading. Segment 2 talks about the origin of Insider Trading in India.  Segment 3 defines Insider Trading. Segment 4 depicts the harmful effects of Insider Trading. Segment 5 portrays the working mechanism of Insider Trading. Segment 6 enunciates the initiatives taken to prohibit Insider trading in India. Segment 7 discusses about the penalties. Segment 8 depicts the landmark cases on Insider trading. Segment 9 makes a comparison between India, UK and US Laws on Insider Trading.

I      Evolution of Insider Trading

The concept of Insider Trading has a very hoary origin. It emancipated in the United States way back in 1792.  The United States has historically been the world leader in Insider Trading law. The foundation for Insider Trading Law was laid down strongly by the Supreme Court of US in Strong vs Repide2. Statutory Insider Trading Laws were first passed in the year 1933. Congress passed the Securities Act in the year 1933 and the Securities Exchange Act in the year 1934.  Both the Acts were intended to increase transparency for investors while placing the obligation of due diligence on the preparers of documents containing detailed information about the security. The Second Act created the Securities and Exchange Commission (SEC) to regulate the secondary trading of securities. Ultimately the acts bolstered investor confidence and helped to stimulate the economy.

In the US Securities Exchange Commission is empowered to impose civil in addition to criminal sanctions under the Insider Trading Sanctions Act, 1984. The prevention of Insider Trading was widely treated as an important function of securities regulation from time immemorial. Later on it spread to several countries across the globe.

Insider Trading was in existence in a very crude form during the pre-independence period in India wherein the Thomas Committee3 was in existence which dealt with the aspect of regulating the profits earned out of short-swinging. Instances of Insider Trading in India was first reported in the 1940’s wherein Directors, Agents, Auditors and other Officers of the companies were found to be misusing the inside information for their personal benefits like earning speculative profits. In the year 1947 an Act was enacted known as the Controller Of Capital Issues Act wherein it set up a regulatory body in order to regulate the securities market and bring about orderly and healthy growth in the securities market. The Regulatory Authority was known as Controller Of Capital Issues. Thereafter the Companies Act, 1956 was enacted and it contained provisions pertaining to Insider Trading, wherein it attempted to curb Insider trading in the shape of disclosure requirement regarding company directors share holdings. Such disclosures were contained in Secs 307& 3084.

Further in the late 1980’s the Controller Of Capital Issues Act was abolished as it failed to achieve its objectives. Finally SEBI was established by an Act called the SEBI Act, in the year 1988 for effectively achieving its objectives which the earlier authority failed to do so.

Later SEBI assumed the role of a market regulator in the year 1992 which laid down certain guidelines for prevention of Insider Trading.


Insider Trading  generally means  trading in the shares of a company by the persons  who are in the management  of  the company or are  close  to them on the basis of  undisclosed price sensitive information regarding the working of the company, which they possess but is not available to others.

Insider Trading means trading by an insider5 of a company in breach of trust or confidence in the stock of the company on the basis of non-public price sensitive information to the exclusion of others.

Harmful effects of Insider Trading and its working mechanism

Insider Trading gives a negative impact for both, the investors and the country. It curbs the fair quantum of demand and supply for the stocks and leads to an artificial increase in the price of stocks, thereby  inducing  the innocent purchasers to purchase the stock at a very high  price than that of its original value.

Very soon after the purchase of these stocks, it plummets in the market resulting in huge losses for the public investors, which in turn leads to a massive dip in the SENSEX value finally weakening the economy as a whole.

In the modernized era, wherein the Capital Markets all over the world is infested with the disease of Insider Trading it is pertinent to know about the working mechanism of this Doctrine.  In this type of a transaction an Insider in a company buys the stock, and shares the price sensitive information with a small group of people who buys the stock and spread the word. As a result, an artificial demand is created for the particular stock and when the prices of the stock hit the satisfactory level the insider exits the market along with his small group of people by selling the stocks thereby making profits. Soon after selling, the stocks plummet resulting in huge losses.

Initiatives taken to prohibit Insider Trading in India

India was not late in recognizing the harm that insider trading can inflict upon the rights of public shareholders, corporate governance in India and the financial markets. The first concrete attempt to regulate Insider Trading was the constitution of the Thomas Committee in the year 1948, which evaluated the global practices in restricting Insider Trading inter-alia the Securities Exchange Act, 1934.

Pursuant to the recommendations of the Thomas Committee, Secs 307 &308 were introduced in the Companies Act, 1956. This change paved the way for certain mandatory disclosures by directors and managers, but was not very effective in achieving the objective of preventing insider trading. Subsequently the Sachar Committee and the Patel Committee were constituted  in the year 1978 and 1986 respectively, to recommend measures for controlling insider trading in India.

The Abid Hussain Committee6 constituted in 1989 had recommended that a person of guilty of insider trading should be penalized, both in the form of civil and criminal proceedings. The main recommendations of this committee was to enact a separate statute for prevention of Insider Trading.

Based on the recommendations made by this committee, a comprehensive legislation known as SEBI (Insider Trading Regulations 1992)  was promulgated and brought into force. This regulation  was substantially amended in the year 2002 to plug certain loop holes  which was revealed in the famous case of Hindustan Unilever Ltd  VS  SEBI and Rakesh Agarwal VS SEBI  and was re-named as SEBI( Prohibition of Insider Trading) Regulations,1992. Ever since then, Insider Trading Regulations have been amended five times and the last amendment was in the year 2011. As on date, SEBI the market watch dog regulates Insider Trading through the SEBI Act and Insider Trading Regulations.

Further relying on the high standard of conduct stressed by the Cohen Committee7  with respect to Insider Trading,  SEBI  had  issued a press release on 19th August,1992 with  a recommendation  to formulate the SEBI  made an attempt  to introduce the concept of  Short Swing Profits  in the Insider Trading Regulations. SEBI sought to prohibit certain category of Insiders from making short swing profits8. It was inserted by way of an amendment to Clause 4.2 in Schedule I of the Insider Trading Regulations.

Rationale Behind Prohibiting Insider Trading

The ideal securities market is concerned with the allocation of capital in the economy. This function is enabled by market efficiency, the situation where the market price of each security accurately reflects the risk and return in its future. Thus the primary function of regulation and policy is to foster market efficiency, hence we must evaluate the impact of Insider Trading upon market efficiency. Insider Trading appears to be biased especially to the speculators who invest in the market expecting there would be an appreciation in the value of shares. It is a known fact that the smooth operation of the securities market and its healthy growth and development depends to a great extent on the quality and integrity of the players in the market.  Such a market can alone inspire the confidence of the Investors.

Insider Trading leads to loose of confidence of investors in securities market as they feel that the market is rigged and only the few, who have inside information get benefit and make profits from their investments.  Thus the process of insider trading  corrupts the level playing field  as public confidence in directors and others  are closely associated  with companies, require that such people do not use inside information to further their own interests. Consequently it can be deduced from the above that the rationale behind the prohibition of insider trading is the obvious need and understandable concern about the damage to public confidence which insider dealing is likely to cause and the clear intention to prevent so far as possible what amounts to cheating when those with inside knowledge use that knowledge to make a profit in their dealings with others

Insider Trading – A Menace to Corporate Governance

Corporate Governance refers to a terminology which is often associated with the aspect of ensuring transparency to Stake Holders9. It is founded on four pillars namely righteousness, truth, perseverance, and social justice.  In India most of the big companies are listed on any one of the recognized stock exchanges namely BSE or NSE. The actions of the companies that are listed in the stock exchanges have a bearing on their stock prices in the market when their securities are traded.  In such cases care must be taken to ensure that the actions of the company are fair and not detrimental to its investors.

But unfortunately in today’s corporate world most of the corporate actions are detrimental to the interest of the investors resulting in injustice and pecuniary problems. Stock prices often respond to corporate actions such as Mergers, Acquisitions, Issuance of Bonus Shares and Rights Shares, Stock Split etc when it is executed much ahead of public announcement. Insider Trading strikes at the very root of market integrity as it is the most heinous frauds that take place in the corporate sector.

Insider Trading and Corporate Governance are opposed to each other as they are contradictory in nature. They are contradictory in the sense that the former curbs transparency to the share holders of the corporate entity while the latter promotes the same. Hence it is regarded as a menace to Corporate Governance.

Insider Trading Regulations, 2015 – An Overview

India has put her efforts and has made a move towards the enactment of the new Insider Trading Regulations with a view to align its laws on Insider Trading with that of the developed countries. This would effectively help in combating Insider Trading to a very large extent. SEBI in order to modify the law on Insider Trading and ensure that it is in consonance with the global best practices, constituted a high level committee under the Chairmanship of Justice N.K.Sodhi which drafted the Prohibition of Insider Trading Regulations, 2015.

The new Insider Trading Regulations has brought about sweeping changes by amending the definitions of various concepts. This Regulation comprises of Five Chapters, Two Schedules and 12 Sections. Chapter I deals with the definitions. Chapter II deals with the Restriction on Communications and Trading by Insiders. Chapter III talks about the disclosures to be made by the companies while trading its securities by Insiders. Chapter IV prescribes a Code of Fair Disclosure and Conduct. Chapter V contains provisions dealing with the Powers and Sanctions.

The salient features of the Regulations are;

a) Under the new regulation the definition of Insider has been strengthened by expanding the definition of Connected Person. According to the new regulations every connected person is an Insider. It is a term of wide connotation and includes even public servants who are reasonably expected to have access to UPSI are also considered to be Connected Persons. Further it includes Immediate Relatives also.

b) The new regulation has modified the definition of UPSI. It has been defined to mean any information that is not generally available, which upon becoming generally available, is likely to materially affect the price of the securities to which it relates and will ordinarily include information relating to the following :

i) Financial results

ii) Dividends

iii) Change in Capital Structure.

iv) Mergers, Demergers, Acquisitions, Delistings, Disposals and expansion of business and such other transactions.

v) Changes in key management personnel.

c) Trading Plans are novel concepts introduced under the New Regulations, wherein Insiders who are liable to posses UPSI all round the year are permitted to formulate trading plans with appropriate safeguards. It was introduced to facilitate compliant trading by Insiders who are constantly in possession of UPSI. It has been introduced in line with Rule 10b5-1 of the Securities Exchange Act, 1934.

d) The new regulations contain a code of fair disclosure and conduct. According to this Code the Board of every listed company is required to formulate and publish a code of practices and procedures to be followed for fair disclosure of UPSI in accordance with the principles set out in Schedule A to the Regulations.

It sets out certain minimum standards such as equality of access to information’s, publication of policies such as those on dividends, inorganic growth pursuits, calls and meetings with analysts, publication of transcripts of such calls and meetings etc.

e) Another important development is in relation to notional trading windows which are used as an instrument to monitor compliant trading by designated persons within the company. The concept of notional trading windows has also been made applicable to external agencies having contractual or fiduciary relationships with the company such as law firms, accountancy firms etc. The time frame for such re-opening of trading windows has been set to 48 hours after the UPSI becomes generally available.

f) The key feature of this regulation is that it contains a specific carve out for communicating and procurement of information, for instance for the purpose of conducting due diligence in connection with potential transactions including mergers and acquisitions. It states that as long as the Board is of the opinion that the transaction is in the best interest of the company due diligence may be conducted.

Exceptions to Insider Trading

The distinction between legally permitted share trading by insiders and what is illegal needs to be carefully understood. The presumption that an insider who is involved in the management or affairs of a public company would have access to privileged information is but natural. However they cannot absolutely preclude insiders from acquiring or alienating any securities. Such a blanket provision would not be reasonable, and would be in violation of the legal rights of the insiders and would defy the logic of freely tradeable securities. More importantly such a provision may not even be practically viable as it would be irrational to stop promoters of a company from dealing in their securities. This is exactly where a distinction is required to be drawn between what is permitted and what is not permitted.

The restriction is on corporate insiders directly or indirectly using the price sensitive information that they hold to the exclusion of the other shareholders in arriving at trading decisions. There is absolutely no restriction on insiders in trading in securities of the company if they do not hold any price sensitive information that the public is not already aware of. Upon the price sensitive information being disclosed to the market, the share prices would surge if the price sensitive information is perceived to be positive and the same would plummet if perceived to be negative. During that short while, insiders receiving the price sensitive information and the public disclosure of that information, insiders attempt to deal in securities such that they can take advantage of the market reaction, that is about to follow.

Comparison Between India, US and UK of Insider Trading Laws

Sl.No. Issue United States United Kingdom India
1.  Governing Laws Securities Act of 1933 and Securities Exchange Act of 1934 Financial Services and Markets Act,2000 Securities and Exchange Board of India Act, 1992
2. Sanctions It is both a Civil and a Criminal Offence It is both a Civil and a Criminal Offence. It is only an Economic Offence and not a Criminal Offence.
3. Number of Acts Two Acts. One Act. One Act.
4. Regulatory Authority Securities Exchange Commission. Financial Services Authority. Securities and Exchange Board of India.
5. Punishment 20 Years in Prison  and afine of 5 million US Dollars. Seven Years Imprisonment and unlimited fine. Fine upto 25 crores or three times the profit made out of Insider Trading.

Land Mark Cases

Hindustan Lever Limited VS SEBI10


Hindustan Lever Limited (HLL) and Brooke Bond Lipton India Limited (BBLIL) were subsidiaries of a common parent company called Unilever Inc in UK and were under the same management. HLL purchased 8 lacs shares of BBLIL from UTI on the 25th March 1996 at the rate of Rs.350.35 per share. A merger announcement was made 25 days after the purchase transaction had taken place. HLL announced its merger with BBLIL and notified the same to the stock exchanges.  BBLIL’s share price shot up by Rs. 50 per share after the merger.

SEBI was notified about the leakage of the merger information and insider trading by the market as well as the media. Therefore, SEBI had initiated investigations into the matter and found  that  HLL as an Insider  had  purchased  the securities of BBLIL from UTI on the basis of the Unpublished Price Sensitive Information (UPSI)  about the impending merger, thereby violating the provisions of the Insider Trading  Regulations  and  the  SEBI  Act. As a result UTI incurred losses.

SEBI in exercise of its powers under Section 11 B of the SEBI Act  read with Regulation 11  of the Insider Trading Regulations had directed the HLL to compensate UTI to the extent  the UTI had suffered losses. SEBI estimated the losses caused to UTI to the tune of Rs. 3.04 crores. The basis for this calculation was the difference between the market price of the shares of BBLIL at which the shares were sold by UTI to HLL before the announcement of merger and after the announcement excluding premiums. UTI and HLL filed separate appeals against the SEBI’s order before the appellate authority.

Question of Law

The  interpretation  of  the term “ Insider ”  under  Regulation 2 (e)  of the Insider Trading Regulations  was  one of the key issues  under  consideration,  before the  appellate authority  in this case.  In this regard, the appellate authority observed that the definition of Insider should have three ingredients :

  1. The person  should  be  a  natural  person or  legal entity.
  2. The person should be a connected person or a deemed to be connected person.
  • Acquisition of  UPSI  should be by virtue of the connection.

The   SEBI  had  also  interpreted   in its order,  the third  requirement  of acquisition of UPSI  by the  Insider by virtue of  the  connection  with the company  by envisaging two alternative  situations :

  • Where the  Insider  is  reasonably  expected to have access  to  UPSI  by virtue of connection with the company.
  • Where the  Insider  has  actually  received  or  had  access to  such

SEBI  had concluded  that  if a connected person actually gains or receives such information independently, notwithstanding  his position in the company, such person will  fall  within  the definition  of  “Insider”  and therefore  SEBI  regarded  HLL as an Insider. This was upheld by the  Appellate Authority.


However,  the Appellate Authority overruled  the SEBI’s order on the following  grounds :

  1. The news about the merger was not a UPSI as it was generally known and acknowledged by the market.
  2. The information relating to a merger could not  have significant  impact on the price  at which the transaction was concluded.
  3. SEBI’s decision to award  compensation to UTI suffered from procedural defects.
  4. SEBI’s direction to HLL to compensate UTI lacks
  5. SEBI’s direction  for prosecution under Section 24 of the SEBI Act, was bad in law as the order  did not state the reasons  for prosecution  and also  SEBI did not  state the reasons for prosecution and also SEBI did not invoke  specific powers  for adjudication  under Section 15 G  of the SEBI Act.

Therefore  SEBI’s decision  to  prosecute  HLL was set aside  by the Appellate Authority.

Rakesh Aggarwal VS SEBI11

Rakesh Aggarwal was the Managing  Director of ABS Industries Ltd (ABS)  and was involved in negotiations with Bayer A.G ( a company  incorporated in Germany)  regarding their intentions to take over  ABS. Being the Managing Director with such high portfolio it goes without saying  that he has access to price sensitive information. He wanted to circumvent the provisions of law through tactful manner.  Before the announcement of merger is made public through announcement, he made a collusive agreement with his brother to take over the shares of ABS from the market. Thereafter  he tendered the same shares through the open offer making a huge profit. These clandestine agreements could be traced by SEBI through their tread bare investigation. Bayer AG subsequently acquired ABS  Further he was also an Insider as far as ABS is concerned.

The secretive agreement entered into between Rakesh Aggarwal and his brother to acquire the shares before the merger was carried out in violation of Regulation 4 of the SEBI Regulations.  He vehemently denied the allegations leveled against him by SEBI  stating that he has acted  in such a manner  for the benefits of the company and he has n o intentions to have personal gains.  He said that he wanted  to acquire 51% of the shares  of ABS through Bayer and he wanted the plan to be executed in clinical precision. The SEBI directed him  to deposit  RS.34,00,000 with the Investor Education and Protection Funds of both the  stock exchanges viz  the BSE and NSE in equal proportions to compensate  any investor  who may make claim subsequently. A case was made against him under Section 24 of SEBI  Act.

However he made an appeal to the Securities Appellate Tribunal. The Securities Appellate Tribunal held that SEBI’s order directing him to pay Rs.34,00,000  to the Investor Education and Protection Fund  could not be sustained, because he did it in the interest of the company.

Dilip Pendse  VS  SEBI12

Nishkalpa was a wholly owned subsidiary of Tata Finance Ltd (TFL), which was a listed company. Pendse was the Managing Director of TFL. On 31st March 2001 Nishkalpa  had incurred a huge loss of Rs. 79.37 crores  and this was bound to affect the profits of Tata Finance Limited. This was basically an Unpublished Price Sensitive Information ( UPSI)  which Pendse was aware. This  information  was  disclosed  to the public  only on 30th  April 2001. Thus any transaction  by an Insider within the period of 31/03/2001 and  30/04/2001  was bound to fall within the scope of Insider Trading. Dilip Pendse passed on this information  to his wife  who sold 2,90,000 shares  of TFL held in her own name  as well as in the name of the companies  controlled by her and her father-in-law. SEBI leveled charges against Dilip Pendse  for Insider Trading.

However SAT in its recent ruling  turned down the charges of Insider Trading as against Pendse on account of failure to adhere to the fundamental principle of permitting cross examination  of  a person  on whose  statements such charges were  established  and it lacked  the  necessary evidence.

This case testifies the fact that SEBI lacks a  thorough investigative  mechanism  and  a vigilant approach due to which culprits  are able to escape from the clutches of law. In most of the cases, SEBI failed to  adduce evidence and corroborate its  stance before the Court. Unlike the balance of probabilities that is required in proving a civil liability, a case involving criminal liability requires the allegations to be proved beyond reasonable doubts. Therefore there should be thread bare investigation and all loopholes if  any should be  properly plugged in.

Securities Exchange Commission VS  Rajat Gupta13

The  Securities  Exchange  Commission’s   (SEC)   complaint  alleged  that  Rajat.K.Gupta  tipped  his  business associate Rajaratnam who was the Founder and Managing Partner of Galleon  Management certain confidential  (insider)  informations  worth billions which  Rajat had  learnt in the course of his duties when he was a member of  the  Board of  Directors  of the Goldman Sachs Group, Inc. The complaint alleged that  Gupta disclosed material  non- public information  concerning Berkshire Hathaway Inc’s 5 million  US Dollars investment in Goldman Sachs  in September 2008.

Rajaratnam  used the information he learned from Rajat  to trade profitably  in Galleon  hedge funds. By engaging  in this conduct  Rajat and Rajaratnam violated Section 10(b)  of the Securities Exchange Act, 1934 ,  Exchange Act Rule 10b-5  and Section 17(a) of the Securities Act of 1933. On June15, 2012  in a parallel  criminal case arising out of the same facts, Gupta was convicted on one count of conspiracy and three counts  of  securities fraud.

On October 24, 2012 Gupta was  sentenced to two years in prison  and one year of supervised release, and ordered  to pay a fine of 5 million US Dollars.

The Securities Exchange Commission ( SEC)  ordered  Rajaratnam  to disgorge his share of profits  gained and losses avoided  as a result of Insider Trading  plus pre-judgement interest.

FCGL  Case14

FCGL Industries   Limited,   a core investment company with over 90% of its assets being investments in associated or group companies, decided to acquire certain mines in Australia, for which it required funding. The board of FCGL decided to liquidate its investment  in  Gujarat NRE Coke Limited constituting 17.716% of its capital in order to fund FCGL’s acquisition of Australian mines. While both the mine acquisition transaction and share divestment transaction were approved by FCGL  at the same board meeting, its press release only specified  the mine acquisition without making public the divestment of shares in Gujarat NRE Coke. The adjudicating officer of SEBI found FCGL  guilty of violating insider trading norms due to non-disclosure of the divestment of shares as they were found to constitute unpublished price sensitive information. Accordingly, SEBI imposed penalties on the company and its key directors.

Question of  Law

The key question that came up for consideration was:

  1. Whether FCGL’s sale of shares in Gujarat NRE Coke amounts to price sensitive information.


SAT on appeal  reversed the order of SEBI stating that the divestment of shares  was not price sensitive information. The reason behind passing such a judgement was that:

Regulation 3 of the Insider Trading Regulations would stand violated only if the unpublished information was price sensitive in nature. A reading of the definition of Price Sensitive Information would make it clear that the information which relates to a company and which when published is likely to materially affect the prices of its securities, would amount to a price sensitive information.

In this case FCGL is an investment company whose business is only to make investments  in the securities of other companies. It earns income by buying and selling securities  held by it as investments. This being the normal activity of  an investment company, every decision  by it  to buy or sell its investments would have no effect, much less material, on the price of its own securities. If that were so then no investment company would be able to function because every time it  would buy or sell securities  held by it as investments, it would have to make disclosures to the stock exchanges where its securities are listed. Such decisions of an Investment Company in our opinion do not affect the price of its securities.

 SAT’s order seem to suggest that any transaction carried out by a company in its ordinary course of business  will not elevate itself to something  that requires disclosure  to the market as price sensitive information. In the investment context, the reasoning would apply to entities such as broking companies or market makers that are in the business of buying and selling securities on a regular basis.

However SAT seems to provide the same treatment even for investment holding companies, although the investment and divestment activity may only be intermittent in nature in such companies.

Chiarella  VS  United States15

In  this  case  two companies  decided  to  merge and the tender offers and the documents for merger were given to a financial printer who gleaned non-public information regarding tender offers  and the merger  for which he was hired to print  and he bought stock in the target of the companies that hired him. The case was initiated on the theory that the printer defrauded  the persons in the target company who sold the stock to him. The United States Supreme Court held that trading on material non–public information in itself was not enough to trigger liability under the anti-fraud provisions because the printer owed no duty to the target company shareholders who sold shares to him  and hence it was held that he did not cheat  them and hence not liable.

In response to Chiarella decision, the Securities Exchange Commission  promulgated  Rule 14 E-3 under Section 14(e)  of the Securities Exchange Act and made it illegal for anyone to  trade on the basis of material non-public information regarding the tender offers  if they knew that the  information emanated  from an Insider.

United States   VS   Newman16

In this case a new theory known as the Misappropriation Theory  was adopted as part of the American Jurisprudence on Insider Trading. This theory states that a person with no fiduciary relationship to an issuer nonetheless may be liable under Rule 10 b–5 for trading in the securities of an issuer while in possession of information obtained in violation of a relationship based on trust and confidence.

Newman, a securities trader traded based on material non–public information about corporate takeovers that he obtained from two investment bankers who had  misappropriated  the  information  from their employers.

SEC VS Texas Gulf Sulphur  Coa17

This is one of the landmark cases in the American Jurisprudence on Insider Trading wherein the Federal Circuit Court held that anyone in possession of price sensitive information must disclose the information or refrain from trading. This came to be known as the Classical Theory or Abstain Theory.

Dirks VS   SEC18

This case came up to the Supreme Court in US  in the year 1984  and the Court ruled that the tippees often known as the receivers of the second hand information  are liable  if they have reasons to believe that there is a breach of fiduciary duty in disclosing confidential information and the tipper had received  personal benefits  for the same. Since Dirks disclosed the information in order to expose a fraud rather than a personal gain nobody was liable for violation of insider trading in this case. This case holds significance owing to the fact that the courts are dynamic in judging the culpability of insider. In the instant case, since the insider has acted with good faith and without any vested and parochial  interest for personal gains, the court did not find him guilty.

The Dirks case also defined the concept of Constructive Insiders. Constructive Insiders are like whistle blowers who bring to the public forefront any corrupt practice which is prevalent in their organization. The lawyers and investment bankers who bring such corrupt practices into light are not considered to be guilty due to the very fact that they disclose the internal fact to prevent the leakage and  punish the culprit. Constructive Insiders are also liable for Insider Trading violations if the corporation expects the information to remain confidential, since they acquire the fiduciary duties of true insider.

Carpenter Case19

In US VS Carpenter, popularly known as the Carpenter Case the US Supreme Court unanimously held that any person who receives information from an external person like a journalist by way of mail or wire fraud or any other type of electronic fraud than the company itself, would be held liable for Insider Trading. The external person is also guilty of Insider Trading.


The filters available under the present legal system governing the Capital Markets in India is inadequate. It can be improved by incorporating the following  suggestions . They are :

  1. Insider Trading in India must be made as an offence under the Indian Penal Code (I.P.C) as that of the UK legal system. In UK both Civil and Criminal Sanctions are available for the offence of Insider Trading.
  2. Secondly it must be made as a non-bailable offence in the Criminal Procedure Code as this would serve as a deterrent  and prevent people who are employed in the Corporate Sector  from resorting to such  fraudulent activities.
  3. SEBI must make it mandatory for all stock exchanges to establish a separate unit called the Market Abuse Unit as it is in the US to investigate highly sophisticated Capital Market Frauds like Insider Trading, Market Manipulation, Front Running, Collusive Trading and Abusive  Short Selling.
  4. SEBI must conduct programs to establish awareness among the innocent investors about such deceptive practices and how to protect themselves against such harmful activities.
  5. The major lacunae with our market regulator is that it does not levy appropriate penalties in consonance with the law. It levies a lesser amount  as fine.
  6. The Consent Settlement Mechanism pertaining to Insider Trading must be abolished.


The prohibition of Insider Trading Regulations, 2015 by the market regulator SEBI is a welcome development appreciated by the general public as it provides a stringent set of regulations with a view to curb Insider Trading and is in consonance with the International practices. This new regulation ensures a fair level playing field in the securities market and to safeguard the interest of the investors, and this move by SEBI will facilitate further economic buoyancy in the Indian Capital Market.

Further it introduces a plethora of new concepts that aim at plugging the loopholes which were prevalent in the previous regulations. In my opinion I would like to state that this regulation is a comprehensive regulation as it addresses the present day needs and trends in the Capital Markets, and would hold good atleast for the next five years (half a decade). The present regulation has got its heart in the right place and it has started on the right path in attaining its objective.


  1. Ranjan. R presently working as an Associate in N.V.S Associates
  2. 213 US 419 (1909)
  3. Thomas Committee was a committee formed in the year 1948 under the Chairmanship of P.J.Thomas which aimed at evaluating global practices pertaining to Insider Trading and restricting it. Secs307&308 were introduced in the Companies Act, 1956 on the recommendations of this committee which paved way for certain disclosures by Directors of companies.
  4. Sections 307&308 of the Companies Act, 1956 prescribes certain disclosures to be made mandatorily by the Directors of a company.
  5. Any person who is connected or is in possession of unpublished price sensitive information or UPSI. Regulation 2(g) of Prohibition of Insider Trading Regulations 2015.
  6. Abid Hussain was a economist who was instrumental in enacting Insider Trading Laws.
  7. Cohen Committee stated that high standard of conduct must be maintained on such issues
  8. Short swing profits means the profits by sale of shares followed by re-purchase of same
  9. The term Stake Holders with regard to a company includes Shareholders, Employees, Regulatory Authorities, Government Agencies, Creditors and Suppliers.
  10. 1998 SCL 311
  11. (2004) 1 COMP LJ 193 SAT
  12. (2009) 84 CC 454
  13. Civil Action No.11 – cv – 7566 (SDNY)
  14. SAT Decision dated Nov. 18 2011
  15. 445 US 222 (1980)
  16. 13 – 1837- Cr (L),13 – 1917 – Cr ( Con)
  17. 1968 US App. FED. SEC.1.Rep.(CCH) P92, 251
  1. 463 US 646 ( 1983)
  2. 484 US 19 (1987)
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