Sen. Burr's Stock Trade Argument May Not Hold Water With SEC

SEC's Move

In 2000, the SEC attempted to clear up the use/possession muddle by adopting Rule10b5-1, which codifies the SEC's position that trades are made "on the basis" of material, nonpublic information when the person making the purchase or sale was aware of MNPI when the trade was made.

Thus, the SEC takes the position that it need not prove a trader "used" the material, nonpublic information to trade. As part of the rule, the SEC also included an affirmative defense to shield those with knowledge of MNPI from liability for conducting certain trades "if the person making the purchase or sale demonstrates that [b]efore becoming aware of the information, the person had . . . adopted a written plan for trading securities."

But when the Supreme Court denied hedge fund manager Whitman's request for an appeal, the late Justice Antonin Scalia observed that an agency's interpretation of the law, even in the form of a rule such as Rule 10b5-1, is not necessarily the law because "legislatures, not executive officers, define crimes."

While Justice Scalia did not think Whitman's appeal was an appropriate case to consider the issue, he invited other defendants to request Supreme Court review of the SEC's Rule 10b5-1.

Burr's Comments

Burr may be in a position to take Justice Scalia up on his invitation. It will clearly be the government's view that if Burr traded while in possession of information obtained as a result of government briefings, he will face insider trading liability — whether or not he used that information to trade or based the trades on what he read in a newspaper.

While not explicitly mentioning Burr, just days after the news broke about his trading the SEC's Enforcement Division put out a public statement related to insider trading and the coronavirus:

[I]n these dynamic circumstances, corporate insiders are regularly learning new material nonpublic information that may hold an even greater value than under normal circumstances. This may particularly be the case if earnings reports or required SEC disclosure filings are delayed due to COVID-19. Given these unique circumstances, a greater number of people may have access to material nonpublic information than in less challenging times. Those with such access —including, for example, directors, officers, employees, and consultants and other outside professionals — should be mindful of their obligations to keep this information confidential and to comply with the prohibitions on illegal securities trading.

The SEC Enforcement Division's warning is particularly important for hedge fund managers and other investment advisors who may come into possession of MNPI relating to coronavirus.

Even if the basis for trading results from public information or a thesis developed well before the coronavirus pandemic, the SEC will consider trades made by an advisor while in possession of the MNPI as illegal insider trading, assuming other factors are met.  Trader beware.