A stock market where insider abuse is prevalent is already rigged against investors. Insider trading is an example of such abuse. It alters the level playing field of the capital market.

In order to maintain a fair market place, the Investment & Securities Act (ISA 2007) vehemently prohibits insider trading. In Section 111(I), the Act states that “a person who is an insider of a public company shall not buy or sell, or deal in the securities of the company which is offered to the public for sale or subscription if he has information which he knows is unpublished material, price -sensitive information in relation to those securities”. The stock market is information driven. Therefore, the misuse of a public company’s confidential information poses grave danger. 

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The Efficient Market Hypothesis (EMH) asserts that financial markets are “ informationally efficient “. EMH claims that prices of financial assets reflect all publicly available information and that prices change to reflect new public information. Various studies have pointed out signs of inefficiency in financial markets due to distortion of insider trading coupled with uncertainty about the future.

Price-sensitive information is information that materially affects the value of the securities. Consequently, insider information is a fact that can be of financial advantage if acted upon before it is generally known to shareholders. 

A material, non-public information accessed by any person can in fact substantially impact an investor’s decision to buy or sell the security. Therefore, any individual who possesses material insider information would have an unfair edge over other investors who do not have the same access and could potentially make larger, unfair profits than fellow investors. A company’s information is it’s property. 

Hence, a company’s confidential information qualifies as property to which the company has a right of exclusive use. The undisclosed misappropriation of such information is violation of a fiduciary duty which constitutes fraud, similar to embezzlement (the fraudulent appropriation to one’s own use of the money or goods entrusted to one’s care by another).

Insiders of a public company are diverse. They include the major shareholders, directors, principal staff, their families and related parties. Trades by them based on material, non-public price-sensitive information obtained during performance of the insider’s duties at the company, or otherwise in breach of a fiduciary or other relationship of trust and confidence, or where the non-public information was misappropriated or stolen from the company, are considered fraudulent. Section 112 of ISA also prohibits abuse of non-public price-sensitive information obtained in official capacity. 

The Section applies to any confidential information which 1(a) “is held by a public officer or former public officer by virtue of his position or former position as a public officer, or is knowingly obtained by a person (directly or indirectly) from a public officer or former public officer who he knows or has reasonable cause to believe held the information by virtue of any such position”. 

This prohibition applies to the present and former staff of security exchanges and constructive insiders like lawyers, investment bankers, accountants, stockbrokers and others who receive confidential information while providing services to the company.

Insiders are not just limited to corporate officials, major shareholders, public officers, professional advisers and related parties, where insider trading is concerned. They include anyone who trades securities based on material, non-public price-sensitive information in violation of some duty of trust. This duty may be imputed.

For example, in cases where a corporate insider tips a friend about non-public information likely to have an effect on the company’s share price. The duty the corporate insider owes the company is now imputed to the friend, and the friend violates a duty to the company if he trades on the basis of this information. Liability for insider trading violations, generally, cannot be avoided by passing on the information even though the informant did not commit the offense. For instance, if a company’s CEO did not trade on an unannounced takeover bid but instead passed the information to his friend who traded on it, illegal insider trading would still have occurred by proxy even when the CEO thought his hands had not been soiled.

As safeguard against insider trading, it is required that when an insider buys his company’s stock and sells it within six months, all the profit must go to the company. By making it impossible for insiders to gain from such moves, much of the temptation of insider trading is removed. However, if the insider discloses his transaction publicly, legal insider trading can occur.

Contravention of laws prohibiting insider trading carry stiff penalties. ISA 2007 empowers SEC to void any transaction done in contravention. Depending upon severity of the offense, contravention attracts fine of not less than N500,000 or an amount equivalent to double the amount of profit derived or loss averted and, or imprisonment for up to 7 years in case of an individual convict; and N1,000,000 fine for a body corporate. Also, a person liable shall pay compensation at the order of SEC or Investment & Securities Tribunal (IST) to any aggrieved person who suffers a loss as a result of the contravention.

To uphold the trust and integrity upon which the capital market is built, stakeholders need to be vigilant against the scourge of insider trading. You should also avoid sharing or using material, non-public price-sensitive information even if you overheard it accidentally.