Vigilance Needed After Major Insider Trading Case

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By Yin Wilczek

July 31 — The recent Newman decision should not suggest that companies, investment firms and others can be lax in their insider trading compliance programs, attorneys said July 30.

While the case is interesting and significant for attorneys, the risk factors for issuers and asset managers remain very much the same, said John O'Donnell, a partner at Herbert Smith Freehills's New York office. “You have to be just as careful and just as vigilant post-Newman as you were before Newman.”

In fact, it may require “heightened vigilance” for firms to make it very clear to employees and others that “nothing has changed,” said Jenna Dabbs, senior counsel at Pershing Square Capital Management LP.

The attorneys spoke with others on a panel at a Practising Law Institute insider trading conference.

Hedge Fund Managers 

In United States v. Newman, the U.S. Court of Appeals for the Second Circuit threw out the insider trading convictions of two former hedge fund portfolio managers.

The court raised the bar for the criminal prosecution of insider trading by ruling that the government must prove beyond a reasonable doubt that the tippee—the recipient of material nonpublic information—knew that the insider disclosed the information in exchange for a personal benefit.

The government has petitioned the U.S. Supreme Court to review the decision.

One problem is that investment professionals, reading media reports about the ruling, may come away thinking that what was once prohibited now is acceptable, Dabs told the conference. However, the Second Circuit did not signal a “broader leeway in terms of acceptable conduct,” she said. My firm has “doubled down in that sense to make sure that people are aware that this is not a game changer at all.”

Essential Elements 

Meanwhile, one of the most important components that an insider trading compliance program must have is regular training and education, said David Miller, a partner in Morgan, Lewis & Bockius LLP's New York office.

A compliance program that's merely for show is “really not going to cut it,” Miller said. “It’s not just a matter of making sure you can avoid any significant issues.” Instead, companies, asset managers and hedge funds must think of how the matter will be viewed by the Justice Department or the Securities and Exchange Commission in hindsight. “Regular training and education show that you’re committed to your employees to actually look at these issues and address them.”

In addition, public companies and asset managers must be vigilant about documenting problematic issues that are raised internally, such as when questions are raised about whether trades can be made, Miller said.

Reed Brodsky, a New York-based partner at Gibson, Dunn & Crutcher LLP, also warned that tone at the top is key. He suggested that fund leaders be present during compliance training and seek “to be a voice” in that area. That's better than the general counsel sending out an e-mail. “It's better if it comes from the top of the fund, from business folks who say they're not going to be these people.”

Additional Considerations 

Public companies also have additional factors they must consider, Miller added. For example, issuers must ensure they wall off sales, research and finance employees, especially leading up to events such as earnings releases. “That doesn't mean physically, but could mean different access in terms of e-mail systems and computer databases.”

Companies considering acquisitions also should have a list of securities that employees cannot trade in and monitor those restricted lists, Miller said. He further suggested that companies consider:

• the parameters around their 1934 Securities Exchange Act Rule 10b5-1 stock trading plans;

• the parameters for sharing information with consultants; and

• the issues that come into play with respect to directors that sit on the boards of other companies.


Activist Funds 

There also are special considerations for firms that are activist funds, Dabbs said. We “sit in the unique position” of being a potential recipient and source of inside information.

On one side, an activist fund's investment plans may be viewed as material nonpublic information, Dabbs said. Accordingly, the fund should expend great effort to preserve the confidentiality of its investment ideas, including within the organization.

In addition, there are times when public companies will approach an activist fund for a joint project, Dabbs continued. “There are all kinds of considerations around those sorts of interactions, such as confidentiality agreements, and you have to be very careful with the information you get when a name goes on a restricted list and being very conservative about that.”

It also is very common now for fund personnel, investment analysts or portfolio managers to sit on the boards of public companies, Dabbs said. She added that individuals in that position tend to be very concerned and cautious, taking care to obtain guidance from both the company and the fund as to how they may conduct themselves. “They’re very cognisant and aware of their added responsibilities by virtue of sitting in that additional role.”

To contact the reporter on this story: Yin Wilczek in Washington at

To contact the editor responsible for this story: Ryan Tuck at