Overview
This update considers recent developments in the Securities & Exchange Commission and Congress relating to insider trading law and supplements the discussion of these issues in our November 25, 2020 and April 20, 2021 New York Law Journal articles.1
Gensler Proposal
On June 7, 2021, Securities & Exchange Commission Chair Gary Gensler gave a speech at the CFO Network Summit calling for reform of Rule 10b5-1 plans, which allow corporate insiders to buy and sell company stock, provided that they adhere to trading plans adopted before they become aware of material nonpublic information.2
Rule 10b5-1 plans attracted attention earlier in the COVID-19 pandemic, when Pfizer’s CEO renewed a plan to sell a certain amount of company stock when the share price reached a certain level in August 2020. The day after the renewal, Pfizer issued a press release stating that its vaccine was on track to seek regulatory review. The resulting surge in Pfizer's price triggered the plan and yielded significant profits for the CEO—and was entirely legal. Pfizer pointed out that the press release was based on an academic study it did not control. Other companies developing vaccines engaged in similar trades, totaling roughly a half-billion dollars of stock.3
Chairman Gensler's proposal would make four changes to Rule 10b5-1, which governs these plans. The first would create a four- to six-month cooling-off period between a plan’s adoption and its first trade. Depending on the details, this change could help prevent the sort of controversies raised by the vaccine executives' trades.4 Second, Gensler would prohibit insiders from cancelling their 10b5-1 plans when they have material nonpublic information. This would close an apparent loophole in existing law, which allows "executives to set up routine sales, and then pause or cancel sales if they know the company will be announcing news that will push the stock price higher."5 Third, Gensler would reform the existing disclosure regime, under which many plans print and mail paper filings to the SEC's reading room, where they are destroyed 90 days after receipt.6 A modern electronic system would allow the SEC, and the press, to monitor insiders' plans. Finally, the proposal would limit the number of 10b5-1 plans any insider can adopt. Gensler warned that the ability to make use of many plans could give insiders the mistaken impression that "they have a ‘free option’ to pick amongst favorable plans as they please."7
Warren Proposal
On May 24, 2021, Senator Elizabeth Warren called for legislation banning members of Congress from trading individual stocks. As detailed in our November 25, 2020 article, trading in securities by members of Congress led to a since-dropped investigation into Senator Richard Burr, and extensive negative press coverage.8 More recent press coverage has focused on the husband of House Speaker Nancy Pelosi, who allegedly exercised call options to purchase roughly $2 million of Microsoft shares 12 days before Microsoft announced a new government contract worth $22 billion.9
Senator Warren's proposal may bring renewed attention to the Ban Conflicted Trading Act (BCTA), a bill that, if passed, would broadly prohibit Members of Congress and their senior staffers from purchasing or selling commodities, securities, or other individual investments.10 Current members, as well as those entering Congress with preexisting investments, would have six months either to sell their holdings or to transfer them into a blind trust.11 The BCTA would also prevent members from serving as officers or board members of for-profit entities.12 The BCTA as drafted still has significant loopholes. For example, it does not apply to a Member’s family, so it would not bar the trades executed by Speaker Pelosi's husband described above. And it would not bar trades in mutual funds, creating a slight risk that clever insiders could use sector funds to replicate individual stocks’ performance.13
The BCTA is not new—it was first introduced in 2018—but the Democratic majority in the House and Senate may improve its odds of success.14
ITPA
On Tuesday, May 18, the House of Representatives again passed the Insider Trading Prohibition Act, this time by a 350-75 procedural vote.15 The ITPA's text remains unchanged. The bill’s sponsor, Democratic Representative Jim Himes, claims that the legislation would simply codify the law rather than expand it.16 As we have previously discussed, that is not exactly accurate. By criminalizing trading based on information "wrongfully obtained," rather than information obtained as a result of deception, the ITPA would expand the circumstances that could trigger insider trading liability.17 And, while the ITPA retains a version of the "personal benefit" requirement, which requires that the tipper receive a personal benefit in exchange for the non-public information, it again alters it in a way that expands liability.18 Existing criminal caselaw requires that the tipper receive a personal benefit, and that the tippee know of the personal benefit to the tipper.19 The ITPA requires only that the tippee trade while she was "aware, consciously avoided being aware, or recklessly disregarded that such information was wrongfully obtained, improperly used, or wrongfully communicated."
John C. Coffee Junior, a Professor at Columbia Law School and a member of the Bharara Task Force on Insider Trading, objected to the inclusion of the personal benefit requirement and expressed skepticism that the bill would pass the Democratic-controlled Senate.20 The financial services industry largely has not reacted to the new development.
Conclusion
These efforts to modify the law remain in their infancy, but they have the potential to expand liability for corporate and Congressional insiders, as well as potential tippees.
Endnotes
1 Michael C. Miller, Michelle Levin, Bruce Bishop, and David Hirsch, Insider Trading on Government Information, New York Law Journal (November 25, 2020), available at
https://www.steptoe.com/images/content/2/0/v2/209818/NYLJ12012020467911Steptoe.pdf; Michael C. Miller, Michelle Levin, Bruce Bishop, and David Hirsch, ‘Blaszczak’ and the ITPA: Toward a Statutory Definition for Insider Trading?, New York Law Journal (April 20, 2021), available at https://www.steptoe.com/images/content/2/1/v2/212897/publication-NYLJ-insider-trading-article-2-4.19.21.pdf.
2 Chair Gary Gensler, Prepared Remarks, CFO Network Summit (June 7, 2021) (“Gensler Speech”), available at https://www.sec.gov/news/speech/gensler-cfo-network-2021-06-07#_ftn2.
3 Inti Pacheco, Insiders at Covid-19 Vaccine Makers Sold Nearly $500 Million of Stock Last Year, The Wall Street Journal (Feb. 17, 2021), available at https://www.wsj.com/articles/insiders-at-covid-19-vaccine-makers-sold-nearly-500-million-of-stock-last-year-11613557801.
4 Chairman Gensler did not specify whether this cooling-off period would apply to renewals, like the Pfizer CEO’s August 2020 renewal. It seems likely that it would apply, given that the insider would still have access to material nonpublic information at the time.
5 David F. Larcker, Bradford Lynch, Phillip Quinn, Brian Tayan, and Daniel J. Taylor, Gaming the System: Three “Red Flags” of Potential 10B5-1 Abuse, Stanford University (January 28, 2021), available at https://www.gsb.stanford.edu/sites/default/files/publication-pdf/cgri-closer-look-88-gaming-the-system.pdf.
6 Id. at 1.
7 Gensler Speech.
8 Vanessa Romo, DOJ Drops Insider Trading Investigation Into Sen. Richard Burr, NPR (January 19, 2021), available at https://www.npr.org/2021/01/19/958622574/doj-drops-insider-trading-investigation-into-sen-richard-burr. The Department of Justice also dropped its investigation into Former Senator Kelly Loeffler. See Aruna Viswanatha, Justice Department Closing Insider-Trading Investigations Into Three U.S. Senators, The Wall Street Journal (May 26, 2020), available at https://www.wsj.com/articles/justice-department-closing-insider-trading-investigations-into-three-u-s-senators-11590520934.
9 Megan Henney, Pelosi’s husband bought $10M in Microsoft shares through options, Fox Business (April 13, 2021), available at https://www.foxbusiness.com/politics/pelosi-husband-bought-microsoft-shares-options.
10 H.R. 1579, 117th Cong. (1st Sess. 2021).
11 Id.
12 Id.
13 For example, a Senator aware of impending legislation to bail out airlines could invest in an air transportation portfolio.
14 Aila Slisco, Alexandria Ocasio-Cortez to Co-Sponsor House Bill Banning Members of Congress from Trading Stocks, Newsweek (March 23, 2020), available at https://www.newsweek.com/alexandria-ocasio-cortez-co-sponsor-house-bill-banning-members-congress-trading-stocks-1493851.
15 See Dean Seal, House Vote Sends Explicit Ban on Insider Trading to Senate, Law360 (May 18, 2021), available at https://www.law360.com/articles/1385344/house-vote-sends-explicit-ban-on-insider-trading-to-senate.
16 See Jody Godoy, U.S. House passes insider trading bill, Reuters (May 18, 2021) (“Godoy Article”), available at https://www.reuters.com/business/legal/us-house-passes-insider-trading-bill-2021-05-18/.
17 See, e.g., S.E.C. v. Dorozhko, 574 F.3d 42, 51 (2d Cir. 2009).
18 Compare Telemachus P. Kasulis, Lessons from the Insider Trading Prohibition Act After Its Likely Demise In the Senate, Law Journal Newsletters (August 2020), available at https://www.lawjournalnewsletters.com/2020/08/01/lessons-from-the-insider-trading-prohibition-act-after-its-likely-demise-in-the-senate/?slreturn=20201125160808 (rule of lenity would make personal benefit test consistent with existing law) with Cydney Posner, House Passes Insider Trading Prohibition Act—will it pass the Senate? (May 20, 2021), available at https://cooleypubco.com/2021/05/20/house-passes-insider-trading-prohibition-act/ (legislation would narrow personal benefit requirement).
19 See, e.g., Rajaratnam v. United States, 736 F. App’x 279, 281 (2d Cir. 2018) (“Newman holds that to prove insider trading by a remote tippee, the government must prove that the tippee knew that an insider disclosed confidential information in exchange for a personal benefit.”).
20 Godoy Article.
