Two recent federal judicial rulings in New York may play a pivotal role in formally defining the vague legal premise surrounding insider trading. In December, 2nd Circuit Appeals Court judge, Richard J. Sullivan overturned the convictions of traders Todd Newman and Anthony Chiasson. In the case, Newman and Chiasson were accused of using information, informally gathered from various friends and colleagues, to benefit their trading portfolios. Judge Sullivan’s view was that the evidence used to convict the pair was inconclusive, and that to be considered insider trading, the tippee must gain a benefit, as well as the recipient of the tip must know the original source of the information. Continuing, he asserted that the benefit gained by the tipper must be more than “friendship alone.” On Monday, April 6th, Southern New York District Court Judge Jed Rakoff ruled that former traders Daryl Payton and Benjamin Durant will face civil charges from the SEC, despite having similar insider trading convictions overturned as a result of the Newman ruling. Similar to Newman, the pair, along with five others in previous litigation was convicted for using informal tips to enhance their portfolio, but not meeting the criteria set out by Judge Sullivan. In the ruling, however, Rakoff strongly suggested that Congress needs to formally define insider trading, an area that has been largely left to be interpreted by the court system alone.
In the realm of judicial clout over financial regulation, the 2nd District Appeals Court is essentially the top arbiter in the country, as its location makes Wall Street within its jurisdiction. This is why Judge Sullivan’s December ruling has led to several additional insider trading convictions being overturned, and more high-profile appeals forthcoming. Judge Rakoff is also widely influential in the financial world. His ruling in the Payton case should not be seen as pure affirmation of the Appeals Court’s logic towards insider trading rulings, writing that the court’s establishment of ground rules and precedent “may not be obvious” in the 16-page document. It is this lack of certainty in the appellate ruling that led him to allow the civil charges by the Securities and Exchange Commission (SEC) to proceed. The SEC will likely need a higher burden of proof in the upcoming case than during the criminal complaint due to the guidelines set forth in Judge Sullivan’s ruling. That trial begins September 21, 2015.
To its credit, Congress is acting upon Rakoff’s wish for a legislative solution since the Newman ruling; however finding the appropriate political compromise may be difficult. Three different bills have recently been introduced by Democrats in Congress addressing the issue, one of which having a Republican co-sponsor. But, it is too early to tell if they will gain traction, given Republican control of both houses. Congress may also wait until appeals are heard on the remaining convictions before attempting a consensus solution. The Sullivan ruling also led to a March meeting Between Congress and SEC Chairwoman, Mary Jo White. In the meeting, White was noncommittal toward a defining statute as well, claiming written language has the potential to define too narrowly or too broadly what she considered to be a “part of common law.” This lukewarm reaction by White, especially if action is stalled in Congress, will likely add to the frustration of Judges Sullivan and Rakoff. They should at least be encouraged that their desires have, at least, been heard by both legislators and regulators.
Bloomberg News – Patricia Hurtado
New York Times – Fred R. Conrad
Reuters – Nate Raymond
Wall Street Journal – Christopher M. Matthews