The Securities and Exchange Commission (SEC) recently announced two significant insider trading cases. These pronouncements serve as reminders that the new Commission under the Trump Administration, while pursuing its agenda, will continue to ensure that the financial industry is “playing by the rules.” In addition, these particular cases involve: the SEC using a remedy that it had not used before in this context; and the SEC continuing to investigate and bring cases that involve governmental “insider” information.
Regarding the SEC extending the use of a “tool” from its remedy arsenal to the insider trading area, last week the SEC entered into a settlement with a billion-dollar hedge fund and its founder, which included an undertaking for an independent compliance consultant. The novel extension of this remedy to an insider trading settlement prompted the Acting Enforcement Division Director to issue a statement. In addition to the typical insider trading settlement terms, this settlement included an undertaking for an on-site “Compliance Consultant” to monitor and review for any future potential violative conduct through 2022. The SEC describes this process as “onsite monitoring by an independent compliance consultant with access to their electronic communications and trading records.” The SEC historically seeks independent consultants and monitors in other types of cases, including matters involving public companies with material accounting and control weaknesses. More recently, however, regulators have expanded the use of this remedial undertaking. For example, this past year, the Commodity Futures Trading Commission extended the use of independent monitors to a manipulative trading settlement.
Various publications hailed this insider trading settlement as a victory for individuals facing insider trading investigations. However, that perspective may be short-sighted. The SEC’s use of this remedy may allow it to “lower the bar” for insider trading investigations knowing that it may be able to obtain settlements such as this which do not result in a suspension or bar. While the avoidance of the suspension or bar is of course paramount to individuals, an undertaking such as this involves an invasive-type relationship with a third party who – while “independent” – may have an allegiance to a regulator or a court. Further, the defendant/respondent firm almost always bears the full cost of the services provided by the consultant or monitor. It’s not a stretch to describe these costs as additional/hidden monetary penalties that over a period of years (through 2022 for this matter) may increase to hundreds of thousands of dollars or more. Thus, while this may be a positive result for the head of this hedge fund, it may be an unfortunate development for individuals and entities whom the SEC investigates in the future who – before this settlement – the SEC may not have considered charging.
Turning to another matter, the other day, the SEC charged a former government employee, turned political intelligence consultant with insider trading. The SEC has historically brought insider trading cases involving “inside” governmental information; however these cases are not as common as tipper-tippee or misappropriation cases involving individuals associated with firms or public companies. In the SEC’s release, the Acting Director of the Enforcement Division provided this message, “As alleged in our complaint, a federal employee breached his duty to protect confidential information by tipping a political consultant who then passed along those illegal tips.” She further warned, “There’s no place on Wall Street or in our government for such blatant misuse of highly confidential information.” Further indicating the aggressive approach to this governmental insider trading matter, in a parallel action, the U.S. Attorney’s Office for the Southern District of New York announced related criminal charges. Thus, as stated above, at the start of this new Commission under the Trump Administration, the SEC remains creative and aggressive in its pursuit of insider trading violations.
In the not too distant past, the ruling by the Second Circuit Court of Appeals in U.S. v. Newman indicated a possible chilling effect on the government’s pursuit of insider trading cases and the various creative and aggressive strategies that it had started to apply in the decade prior. Less than six months ago, however, the U.S. Supreme Court sided with prosecutors in Salman v. U.S. The resulting opinion returned us to the standard first espoused in Dirks v. SEC in 1983. The Dirks opinion has been subjected to various criticisms over the decades from all sides for vagueness, amongst other issues. One of the collateral results of this vagueness is that it has allowed for creative and aggressive investigative and prosecutorial tactics that the government uses to investigate and charge insider trading cases. The timing of these two SEC cases and the recent issuance of the Salman opinion may be more than coincidental – as we may be witnessing an SEC emboldened by this Supreme Court ruling.