What is insider trading?

Martha Stewart

Martha Stewart became the USA’s first female billionaire.

But that would change soon.

The year was 1999. Her company — Martha Stewart Living Omnimedia — was a giant.

The company’s IPO took place. Stocks shot up.

And Martha became a billionaire.

She was the host of a TV show called Martha Stewart Living.

In the USA, she had a massive fan following for ‘domestic arts’.

Her shows included cooking, home decoration, gardening, and other household decoration activities.

Martha’s fans tuned in regularly to watch her. Her shows were part of the morning ritual for many people.

Samuel Waksal

Dr Samuel Waksal was the CEO of ImClone Systems.

ImClone was a cancer-focused drug company.

It was a relatively small company. It was not that well known.

But then, some events made it well known — for the wrong reasons.

Some time ago, they had developed a drug to fight colorectal cancer. This drug was in its final stages. They had applied to the FDA for approval.

Once approved, this drug could be sold to patients.

In Dec 2001, Samuel got to know that the FDA was not going to approve the drug. There were some issues.

ImClone was a publicly listed company. Its shares were available on the stock markets.

Samuel was supposed to make a public announcement and tell everyone that the FDA had rejected the drug.

Samuel leaked this news to his friends and family a day before the announcement.

This is where the trouble starts.

He was not supposed to tell anyone anything until the public announcement.

Problem Starts

The news that an important drug had been rejected would cause its share price to fall.

So his friends and family started selling their shares before the news became public.

Martha Stewart’s stockbroker was one of the people Samuel had informed about this news.

Martha Stewart also sold all her stocks.

Once the announcement was made, the stock price fell from $60 to $48.

But many of Samuel’s friends and family had sold their stocks before this fall.

This is a classic example of insider trading.

Insider Trading

Insider trading is an unfair purchase/sale of a stock based on information available only to a few people connected with a company — information that is not public.

Insider trading is unfair to all stock market investors.

People with direct information about a company will always be able to buy and sell shares at the right time — faster than regular investors.

If the stock market is unfair like this, investors will never come to the stock market.

With fewer people in the stock markets, there will be fewer buyers and sellers — not good for anybody.

Thus, insider trading is illegal.

Regulators everywhere, be it India or the USA, or many other places, have strict rules against insider trading.

CEOs, senior executives, their close friends, and family — all have strict rules. They are watched carefully.

There are selling restrictions on them.

There were restrictions on Samuel too. Despite that, he leaked the information to some people.

The rules and the implementation are not perfect. But they try to keep it as close-to-perfect as possible.

Aftermath

The US regulators soon noticed the trades made by Samuel’s close aides.

They started investigations.

Till this point, nothing major had happened. It was a relatively unknown case.

Most people still had never heard of ImClone.

And then, the regulators discovered that Martha Stewart had sold her stocks — right before the fall.

They started investigating her as well. And the case blew up on national news.

The involvement of a celebrity like Martha ensured ‘ImClone’ became a household name in the USA.

Martha claimed she did nothing wrong.

She insisted she had set a stop-loss at $60 per share — which is how the stocks got sold automatically.

Later, investigators found that that was not true. There was no stop-loss. She had herself sold the stocks.

Because of this insider trade, she had avoided losses worth around $45,000.

She was sentenced to 5 months in jail, 5 months home confinement, and 2-years supervised release. There was also a fine.

Her company’s stock price fell by over 70%. Her net worth suffered because of this too.

Samuel was sentenced to over 7 years in prison and fines and taxes.

Others involved were also charged.

The ImClone case is not the only such case though.

Different kinds of shareholders have tried to indulge in insider trading.

Some of the most scandalous cases of insider trading include cases like the Enron scandal, Ivan Boesky and Michael Milken scandal, R Foster Winans, Merni Madoff, Raj Rajaratnam, Steven Cohen, etc.

Not tolerating insider trading is an important step towards making sure the stock markets are fair for everyone.

Anti-insider trading rules were introduced in India in 1992.

Over the years, it has been tweaked to make it more effective.

The images above were generated using AI tools.