INSIDER TRADING

Insider trading is the trading of a corporation's stock or other securities (e.g. bonds or stock options) by individuals with potential access to nonpublic information about the company. Insider trading can be illegal or legal, depending on when the insider makes the trade. It is illegal when the material information is still non-public, trading while having special knowledge is unfair to other investors who don't have access to such knowledge. In most countries, trading by corporate insiders such as officers, key employees, directors, and large shareholders may be legal, if this trading is done in a way that does not take advantage of non-public information. However, the term is frequently used to refer to a practice in which an insider or a related party trades based on material non-public information obtained during the performance of the insider's duties at the corporation, or otherwise, in breach of a fiduciary or other relationship of trust and confidence, or where the non-public information was misappropriated from the company. Directors are not the only ones who have the potential to be convicted of insider trading. People such as brokers, and even family members can be guilty. Insider trading is legal once the material information has been made public, at which time the insider has no direct advantage over other investors.

The Securities and Exchange Board of India (Prohibition of Insider Trading) Regulations, 1992, say, insider is any person who, is or was connected with the company, and who is reasonably expected to have access to unpublished pricesensitive information about the stock of that particular company, or who has access to such unpublished price sensitive information.

Therefore, as per the definition the person should be either now in connected to the company or was connected to the company. The concerned person enjoys such status and position that there is every likelihood that he may have access to price sensitive unpublished information. The concerned person should have access to such unpublished price sensitive information of the company.

A study by the international consultants Ernst & Young (E&Y) is reported to have noted that India has a low rate of fraud perpetrated by company insiders. Around 84 percent of the fraud involves the hand in glove relationship between the employees and a third party. However, lower rates of employee fraud do not mean that Indian company managements are honest and that shareholders get a better deal in India than elsewhere. Ernst and Young also came out with an interesting observation that in India, company insiders with privileged access to information indulge in rampant insider trading for personal gains rather than to benefit the shareholders. Therefore, the obvious conclusion drawn by Economic Times was that the controlling interests, and not the employees, are the ones who take the shareholders for a ride. Role of SEBI in monitoring Insider Trading

SEBI is the watchdog of all the stock exchanges in India. It has been obligated to protect the interest of the investors in the securities market and to regulate the stock market through such other regulations as it deems fit. The SEBI acts as the regulator in the share market by taking all precautionary measures in order to repose the confidence of the investors who are investing in the market. When the prices of the shares could be predicted well before hand, then traders may take a decision accordingly. Hence, pre determined price may result in undesired consequences as people may buy huge amount of shares whose value may appreciate. The SEBI has dealt with a wide ranging plethora of cases on insider trading. Insider trading often involves individuals who have a relationship. It may be family relationship or a business relationship. Some of them are mentioned below.

Corporate officers, directors, and employees who traded the corporations securities after learning of significant, confidential corporate developments; Friends, business associates, family members, and other tippers of such officers, directors, and employees, who traded the securities after receiving such information; Employees of law, banking, brokerage and printing firms who were given such information to provide services to the corporation whose securities they traded; Government employees who learned of such information because of their employment by the government; and Other persons who misappropriated, and took advantage of, confidential information from their employers.

Because insider trading undermines investor confidence in the fairness and integrity of the securities markets, the SEBI has treated the detection and prosecution of insider trading violations as one of its enforcement priorities.
Scams involving Insider trading in the Indian Stock Market Various Scams, scandals, and stigmas have surfaced in the recent years . Some of them are discussed below :
In March, 1998, SEBI pulled up Hindustan Lever (now Hindustan Unilever) and its then

five directors SM Datta, KB Dadiseth, R Gopalakrishnan, A Lahiri and MK Sharma for alleged insider trading. The case involved HLL purchasing a sizeable chunk of Brooke Bond Lipton shares from UTI, prior to its public announcement related to the merger of the two outfits, which, according to SEBI, was price sensitive information. Both HLL and Brooke Bond were subsidiaries of the same parent - Unilever. It's the first case where SEBI passed an order on insider trading. It can be conclusively said that while entering into the transaction for purchase of 8 lakh shares of BBLIL from UTI, HLL was acting on the basis of the privileged information in its possession, regarding the impending merger of BBLIL with HLL. It also may be stated that, by its very nature, when it comes to motives and intentions, there may not always be any direct evidence. However, the chain of circumstances, the timing of the transaction, and other related factors,

demonstrates beyond doubt that the transaction was founded upon and effected on the basis of unpublished price sensitive information about the impending merger.
In June, 2001, SEBI charged ABS Industries MD Rakesh Agrawal with insider trading as

he had allegedly purchased his own company's shares from the market prior to the takeover deal between ABS and Bayer. Samir Arora, former Asia-Pacific head of Alliance Capital Mutual Fund, was charged with indulging in unfair trade practices for disposing off a considerable quantity of shares held by the fund under his management which resulted in a sharp decline in the valuation of Alliance. SEBI noted that when the US-based fund decided to sell its Indian interests, Arora was one of the contenders.

Need for preventing 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. 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 the shares. The individual and institutional speculators are badly hit due to insider trading. Indeed, inside traders competing with professional traders is not unlike foreign goods competing on the domestic market -- the economy at large benefits even though one class of economic agents suffers. Insider trading might indeed have negative consequences, but there is no simple argument which links up higher levels of insider trading to reduced levels of market efficiency . QUESTIONS ON THE TOPIC 1. 2. 3. 4. Define Insider Trading Explain the role of SEBI in monitoring insider trading Explain the need for preventing insider trading. Can you name some of the insider trading frauds that you have come across in the News papers recently? : en.wikipedia.org; investopedia.com; The Economic Times;

Sources airwebworld.com

Compiled by : Alwin Thomas

alwin.here@yahoo.co.in Mob. No. 9846458472