Insider Trading
Insider trading is an illegal practice wherein material non-public information is been used for personal benefit or to make profits. Non-public information is any information known to an investor or an analyst before it is disseminated publicly. Material information is any information that is confidential and if provided to an investor or analyst would benefit over the other general public. Material information mainly includes information related to mergers, acquisition, profit and loss, change in management, etc. This material information provides an edge over the general public to an investor in making investment decisions. The investor may be a corporate officer, an employee of the director, or a person who has obtained non-public information.
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Examples of Insider Trading:
Example 1:
Ram is a board member of a Z ltd. He knows that a merger is going to be announced within the next day or so and that the company stock is likely to go way up. He buys 1,000 shares of the company stock on its mother’s behalf, so that he can profit from their insider information without disclosing the trade to the Exchange and without any public information about the transaction.
Example 2:
At a private meeting, an attorney representing the company’s CEO discovers that the following day the CEO will be arrested for accounting fraud. The lawyer shortens 1,000 shares of the company because he knows the news of the indictment will drop the stock price.
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Consequences of Insider Trading:
While trading on insider information can lead to short-term gains, individuals and the whole industry suffer from such trading in the long run. Such activities have prompted investors to quit financial markets and continue to lead them to leave them because they fear they are “stringed” in favor of the professional insider. When the investing public avoids capital markets, the markets and capital allocation become less efficient and less supportive of strong and vibrant economies. Hence to ensure transparency SEBI in India has implemented strict laws and regulations that prevent insider trading. These laws include huge fines and penalties on investors and traders trading with material non-public information.
Author:Divya Sankhla
About the Author:Divya has completed her graduation in Bachelors of Accounting and Finance. She has worked in Deloitte Touche Tohmatsu Services, Inc. as a Research Analyst for 1 year and at JM financial as a Credit Risk Analyst for 1.3 years. She has a keen interest in learning about Financial Market. Well versed with Bloomberg, Capital Line, and Excel.
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