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Tilting at Insider Trading Windmills

In Insider Trading via the Corporation, Professor Jesse M. Fried expresses his frustration that “when insiders are subject to strict trade‐disclosure requirements and firms are not, insiders have a strong incentive to exploit the relatively lax trade‐disclosure rules that apply to firms in order to engage in indirect insider trading.” Professor Fried divides insider trading into so‐called “direct” and “indirect” styles. His Article does not concern the former—that is, the well‐worn world of insiders trading their own shares. Instead, it examines a more circuitous brand—where corporate insiders maneuver the levers of the corporation to buy and sell shares at favorable prices and, in turn, boost the value of their own equity. Professor Fried views indirect insider trading as both costly to public investors and deleterious to the firm’s economic value. The Article also proposes to reduce these costs through the imposition of trade‐disclosure rules which more closely mirror those applied to insiders themselves.

This short Response aims to lend new insight and perspective to this topic, the importance of which cannot be overstated given the demonstrable increase in the number of corporate buybacks in recent years. The Response proceeds in four parts. Part I simply recaps the Article, offering a synopsis of its main insights. Here, no improvement is sought. Instead, a summary and prioritization of the Article’s observations is the goal.

Part II asserts that the problem of insider trading via the corporation is overstated. As a foundational matter, incentive does not behavior make. More particularly, any personal benefit obtainable through indirect insider trading is significantly diluted, with an offender unlikely to hold a sufficiently sizeable portion of the firm to make such behavior as desirable as the Article suggests. Additionally, the Article fails to address meaningfully the full cost of any iniquitous behavior when measured by the professional, legal, and reputational risk to which it subjects an unmasked offender.

Part III focuses attention on the more benign (and more likely) rationale supporting firms’ stock issuance and repurchase choices. Regulatory and market distortions inspire corporate decisions surrounding open market repurchases (OMRs) and at the money sales (ATMs) of shares. In particular, the various accounting and corporate finance considerations described in this Part of the Response frequently encourage these transactions. Further, most often, decisions can be defended because they are in a firm’s interest, and therefore consistent with corporate insiders’ fiduciary duties. Regulation of corporate repurchases is also far more robust than the Article concedes. As this Part suggests, any firm employing a responsible model of corporate governance routinely considers many concerns beyond those mentioned by Professor Fried. The final section of the Response offers a brief conclusion, positing that Professor Fried’s analysis rests on the tenuous assumption that the corporation and its officers are somehow inherently prone to malevolent action and self‐dealing.