Chapter Scheme

Introduction

o Who is insider?

o What is Inside Information?

o Price sensitive information

o How does Insider Trading Work

o Who does insider-trading affect?

o Transactions, which gives indication of insider trading

o SEBI’s efforts to curb insider trading

o The Difficulty in framing insider trading Laws

o Various case studies

Objective

Scope

Research Methodology

Finding and Analysis

Recommendation and suggestions

Conclusion

Bibliography

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INTRODUCTION:

Insider trading is one of the most violent crimes on the faith of fair dealing in a capital market.

The scope and stringency of the violation and penalties differ wildly from country to country.

Trading by an insider of a company in the shares of a company is not  per se a violation of law.

For instance, a person (an investigative journalist for example may interview an insider and thus

become one) may come across insider information by his perseverance in uncovering a corporate

fraud and disclose the fraud. A person can create inside information by his future actions, for

instance a future tender offer bidder knows that the price of the target company will go up by his

actions. In fact trading by insiders, including directors, officers and employees of the company in

the shares of their own company is a positive feature, which companies should encourage

because it aligns its interests with those of the insiders. What is prohibited is the trading by an

insider in breach of a duty of trust or confidence in the stock of a company on the  basis of non-

public information to the exclusion of others. Insider trading violations may also include

"tipping" such information and securities trading by the person "tipped". If insider trading is

allowed unchecked in the capital markets, persons with insider information will have a consistent

edge in trades executed with such information and those without the information will be

consistent losers on the market. The latter category of people, which includes the vast majority of

investors, would slowly realize the loser game they are playing in this ‘market for lemons’ and

would believe that all transactions are thus biased against them. Slowly the typical investor

would desert the market, retarding or destroying important functions of the stock market like

capital formation.

In layman's language, the term "Insider Trading" is about trading with the use of inside

information i.e. information that has not yet been disclosed to the public. In the fastest growing

capital market system, stock exchanges occupy a very crucial position by enabling the corporate

sector to mobilise capital from household savings and channelize such savings into productive

areas of investment. The growth of securities market has brought the single most unfair and

unhealthy practice viz, Insider Trading, by which persons connected with companies use

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unpublished price sensitive information to deal in the securities of a company with a view to

make profits or avoid losses by use of such information. Although the precise explanation of

Insider Trading is very difficult to define, the following activities of an insider constitute insider

trading:1) Taking advantage of inside information with full knowledge of the facts by dealing for

his own account or for the account of a third party, either directly or indirectly, in transferable

securities to which the inside information relates;2) Disclosing inside information to a third party

unless such disclosure is made in the normal course of the exercise of his employment,

profession or

duties.Recommending or procuring a third party to deal in transferable securities.Transferable

securities include shares; debt securities; securities equivalent to shares and debt securities;

contracts or rights to subscribe for, acquire or dispose of such securities index contracts (i.e. a

contract the purpose of which is to secure a profit or avoid any loss by reference to fluctuations

in an index); future options and financial futures in respect of such securities.

Who is An Insider?

The concept of 'Insider' is very important one, and on this concept only, the whole play of insider

trading rests. Broadly, there are two types of insiders—Primary Insiders and Secondary Insiders,

A primary insider is a person who has access to inside information by virtue of his relationship to

an issuer of securities. While a secondary insider is person who acquires inside information from

a primary insider. The characterizations of an insider as any person who possesses inside

formation because he has access to it by virtue of the exercise of his employment, profession or

duties, brings out two types of insiders. One is internal insider who obtains inside information in

the exercise of his duties as officer or employee of the company. The other one is external insider

who obtains information because his connection with the company on account of his

employment and profession.

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Above explanations of an insider, bring a  concluding definition of the insider and

that is what explained by Greek law, "a person becomes an insider if he acquires

confidential information as a result of offering services under any capacity on a

permanent or temporary basis to an issuer or for an issuer". The Securities

Exchange Board of India has given a very wide definition, which merely defines an

insider as:

The term "insider" is defined in clause (e) of regulation 2 as: "insider means any

person who, is or was connected with the company or is deemed to have been

connected with the company, and who is reasonably expected to have access, by

virtue of such connection, to unpublished price sensitive information in respect of

securities of the company, or who has received or had access to such unpublished

price sensitive information. “The definition has two limbs. The two limbs form the

two essential ingredients of the definition, both of which may be  split and presented

as follows:

Insider means any person

-Who, is or was connected with the company

Or 

 who is deemed to have been connected with the company,

 And 

Who is reasonably expected to have access, by virtue of such connection, to

unpublished price sensitive information in respect of securities of the company,

Or 

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Who has received or had access to such unpublished price sensitive information.

In order to brand a person an insider any one of the two tests stipulated in the first

limb,and one of the three tests stipulated in the second limb, of the definition must 

beestablished.

Clause (c) of regulation 2 defines the  expression " connected person" and the

following persons will be treated as connected persons:

a director or shadow director of a company,

an officer or employee of the company,

A pe r son hav ing p ro fe s s iona l o r bus ine s s r e l a t i onsh ip w i th a

company , i f he may reasonably be expected to have access to unpublished

price-sensitive information in relation to that company. Clause (h) of regulation

(2) defines the phrase "

deemed to have been connected 

", these secondary insiders are connected persons, but they are not directly

connected with the companies.

Person is deemed to be a connected person if such person — 

i. is a company under the same management or group or any subsidiary company

thereof within the meaning of section (1B) of section 370, or subsection (11) of

section372, of (he Companies Act, 1956 (1 of 1956) or sub-clause (g) of section 2

of the Monopolies and Restrictive Trade  Practices Act, 1969 (54 of 1969) as the

case may be:

or

 (ii) Is an intermediary as specified in section 12 of the Act. Investment

Company,Trustee Company, Asset Management Company or an employee or

director thereof or an official of a stock exchange or of clearing house or

Corporation;

Or 

(iii) is a merchant banker, share transfer agent, registrar to an issue, debenture

trustee, broker, portfolio manager, Investment Advisor, sub- broker, Investment

Company or an employee thereof, or is a member of the Board of Directors of the

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Asset Management Company of a mutual fund or is an employee thereof who have a

fiduciary relationship with the company;

(iv) is a member of the Board of Directors, or an employee, or a public financial

institution as defined in Section 4A of the Companies Act,

1956; 

or 

(v) is an official or an employee of a self regulatory organisation recognised or 

authorised by the Board of a regulatory body;

or 

(vi) is a relative of any of the aforementioned persons;(vii)is  a banker of

the company;

(viii) relatives of the connected person;

(ix) is a concern, firm, trust, Hindu Undivided Family, company

or 

Association of Persons wherein any of the connected persons mentioned in clause

3(1)abovethisregulation or any of the person mentioned in sub-clause (5) ,(6),(7)

here in abovehas have more than 10% of the holding or interest.

Relatives of connected person shall be relative of another, if and only if,

(A) They are members of Hindu Undivided Family; or  

(B) They are husband and wife; or (

C) The one is related to the other in the manner indicated below:

MALE FEMALE⇒Father  ⇒Mother (Incl. step mother)⇒Son (including step-Son) ⇒Sons' Wife⇒Father's Father  ⇒Daughter (Incl. step-daughter)⇒Mother's Father  ⇒Father's Mother ⇒Son's Son ⇒Mother's Mother ⇒Son's Daughter husband ⇒Sons' Son's wife

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⇒Daughter's Son ⇒Son's Daughter ⇒Daughter's Son ⇒Daughter's Sons' wife⇒Daughter's Daughter's husband ⇒Daughters 's Daughter ⇒Brother (Incl.-step-Brother) ⇒Brother's wife⇒Sister's husband ⇒Sister (Incl. step-sister)

What is Inside Information? When Information ceases to be Inside?

These questions play a pivotal role in insider trading. The CS (ID) Act of UK uses the term

unpublished information as inside information, that is to say, the information which is not

generally known to those persons who are accustomed or would be likely to deal in the relevant

securities. French Law prohibits the exploitation of information before the public has knowledge

of it. The ECD defines inside information as, “information which has not been made public of a

precise nature relating to one or several issuers of transferable securities which, if it were made

public, would be likely to have a significant effect on the price of the transferable security or

securities in question. This definition does not seem to be of a satisfactory nature because this

definition on the one hand restricts inside information to that 'which has not been made public'

and on the other hand it seems to be uncertain whether information ceases to be inside when it is

published or when it becomes generally available to investors. Here, the 'information which has

not been made public' must not be equated with information,which is not yet published. Further,

in this context, it was rightly said in the case of Mitchell v. Taxes Gulf Sulpher Co. that (he

information loses its insider status only when a good faith investor acting with due care can

obtain knowledge, a point in timewhich may well be after publication is effected.Materiality or

non-materiality of the inside information is fundamental to the very concept of Insider Trading.

Information is material only when, if disclosed, its effect onthe market price would be likely to

be significant. Here, it must be understood that notall information unknown to the public is

necessarily inside information, since otherwise managers and employees of undertakings would

never be permitted to trade in the securities of their company, as they always possess

unpublished information. It is, therefore, not sufficient that the information would influence most

investors in arriving at a decision whether to sell or buy but must also be likely have a material

effect on themarket price of the particular security. The concept of certainty and specificity is

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related with the concept materiality. The information must be something more than a simple

rumor, and must have a minimum degree of certainly.

Price sensitive information

Price sensitive information” means any information, which relates directly or indirectly to

accompany and which if published is likely to materially affect the price of securities of

company. The following shall be deemed price sensitive information:

1. Periodical financial results of the company;

2. Intended declaration of dividends (both interim and final)

3. Issue of securities or buy-back of securities;

4. Any major expansion plans or execution of new projects;

5. Amalgamation, mergers or takeovers

6. Disposal of the whole or substantial part of the undertaking; and(

7. Significant changes in policies, plans or operations of the company.(b) Listing

Agreement requires all listed companies to immediately inform Stock Exchange(s) in

respect of the following events, which are considered to be, pricesensitive:

Change in the general character or nature of business

Disruption of operations due to natural calamity

Commencement of Commercial Production/ Commercial Operations

Developments with respect to pricing/ realization arising out of changein the

regulatory framework

Litigation/dispute with a material impact

Revision in Ratings

Any other information having bearing on the operation/performance of

thecompany as well as price sensitive information which includes but not

restricted 10;

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a) Issue of any class of securities;

b) Acquisition, merger, de-merger, amalgamation, restructuring,

scheme of arrangement, spin off or setting division of the

company, etc;

c) Change in market lot of the company's shares, sub-divisions of

equity shares of the company;

d) Voluntary delisting by the company from the stock exchange(s);

e) Forfeiture of shares;

f) Any action which will result in alteration in the terms regarding

redemption/cancellation/retirement in whole or in part of any

securities issued by the company;

g) Information regarding opening, closing of status of ADR. GDR or

any other class of securities 1o be issued abroad) Cancellation of

dividend/rights/bonus, etc;Price sensitive information is required to

be disseminated to the stock exchange on an immediate and

continuous basis.

How does Insider Trading Work?

In an insider trading case in 1989, a former stockbroker was convicted of trading based on

insider information. He received the insider information about a company “after its president told

his sister, who told her daughter, who told her husband,” who in turn told the defendant who

traded on the information. This is an example of just how far removed insider information can

get.

It is very difficult to express opinion on the extent and magnitude of insider trading in India.

During the last five years or so, this practice has almost been perfected so well by the regular

players that today it is accepted as part and parcel of the day to day stock exchange operations.

Promoters of several new ventures admit, albeit off-1he-record,that they are forced to play into

the hands of big brokers by participating in modified forms of insider trading to brighten the

market prospects for their issues. Advance knowledge "of an imminent take-over bid.

Knowledge of a forthcoming placement of new shares in combination with the implementation

of financial recovery programmes,and knowledge of a significant change in the investment

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policy of a unit trust are someof the examples of insider trading.There are many types of ways of

insider trading. Let us take a simple case of bonus issue vis-à-vis insider trading. Suppose A Ltd.

is coming out with a bonus issue.The share price of A Ltd. will definitely be affected by such an

action of the company.The management personnel who are privy to this information may

contract to buy largequantity of the company's shares directly in their own names or indirectly in

the names of their main family members or friends. After this, the information is 'leaked out' so

that the general public enters into the market, which will ensure the price to rise.Moreover,

advise of brokers, saying to their customers that one must buy the shares of A Ltd., because

management of the company is also buying. Such practices bring more and more buy orders and

thus lead to substantial increase in prices, and that is what the original 'tip makers' wait for.

When this happens, the insiders unload and depart with the cream of appreciation safely. The

early investors who had taken the plunge also make some money but, most of the investors have

entered the market rather late, theyare left in the lunch holding large chunks of shares purchased

at high prices. Thus, the majority of the new investors do not gain at all.

Motivated reports strategically published in newspapers and magazines are also one form of

insider trading. Several investors act on the motivated reports and suffer their own fate, by the

time they realise their mistake the insider has got away with the benefits. Insider trading also

takes the form of manipulation. Under the listing agreements entered into by the companies with

the stock exchange concerned, the publication of half yearly working results are mandatory. Now

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the normal practice of dressing the half yearly results in such a manner so as to show a result

contrary to the general trend isvery common feature of companies. Suppose, A Ltd. is expected

to do reasonably well at the year end, the management of A Ltd. shows almost a break picture for

the half year. The individuals close to the management will unload all their holdings a few days

before the publication of the results. The common investor of A Ltd. will be watching the share

prices coming down. Then the poor half yearly results will be published whichwill further bring

down the prices. After a few months, the insiders will slowly buy back the holdings and spread

the news that the company has started doing well and the prospects of (he company are

bright.Yet another form of insider trading takes the form of market support provided by the

management by resorting to very heavy purchases of its company's shares through various

intermediaries. Such practice is particularly used when the company is coming out with a big

right issue and the management cannot afford the price to fall below a specified minimum.

Generally, after the issue is over subscribed the price comes down and the investor who has

subscribed for the new issue realise that the issue was not worth the price paid by him. This

aspect of insider trading has almost become a permanent feature of the share market operations

of today's corporate world.Such unfair practices are more common and frequent during or near

the time of declaration of annual or half yearly profits, bonus or rights issue or issue of

convertible debentures, new profits schemes of amalgamations or takeovers etc. Sometimes,

insider trading is resorted to by connected persons through speculators or brokers under the

benami transactions. Whatever form insider trading may assume, it is obvious that the common

investors are the ones who always lose.

Who Does Insider Trading Affect?

For understanding the effects of insider trading, it is helpful to categorize the agents involved or

affected into several groups. Economic analysis of insider trading typically considers the

following parties: insiders, market professionals, liquidity traders, andInvestors, who are defined

as follows. Insiders, as defined earlier, are the officers, directors, and other key employees of a

firm who, by the nature of their employment, obtain or possess confidential information

regarding the firm’s prospects. An example of an insider is the chief executive officer or the

chief engineer of the firm. Market professionals are informed non-insiders, including securities

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analysts, brokers, or arbitrageurs, who have acquired private information regarding the firm’s

prospects by spending their own resources and who do not have any fiduciary relationship with

the firm. For example, a security analyst may have called the firm’s major customers and learned

that they are not interested in buying its new product line. Liquidity traders, sometimes referred

to as “noise” traders, are short-term stock market participants whohave some, usually negligible,

holdings of the firm’s shares and trade in order to hedge risk or balance their portfolios without

consideration of a firm’s prospects. An example of a liquidity trader is a large pension fund that

buys and sells the firm’s shares from time to time in order to meet the investment and

redemption needs of its clients.Investors may be small or large shareholders who have a long-

term investment objective such that they “buy and hold.” While not privy to management’s

private information, investors have a significant beneficial interest in the firm’s actual

performance. For instance, the heir to a substantial holding of the firm’s stock who does not take

an active role in its daily management is an investor. Insider trading involves and affects each of

the above classes of agents. If insiders were allowed to trade on their privileged information,

they would of course reap trading profits. At the same time, insiders who are professional

managers may receive reduced compensation from investors to reflect the profits managers can

earn from trading. Insider trading also affects liquidity traders, who face the prospects of

incurring losses when trading with agentspossessing superior information. On the other hand, if

they avoid trading, they will lose the diversification/hedging benefits that prompt them to trade

in the first place. In addition, insider trading implies that informed non insiders or market

professionals face informed competitors in the financial marketplace. The rivalry between

informed insiders and informed no insidersmay drive the latter out of the market, making prices

less informative, or, by furthering competition, increase the speed with which information is

released to uninformed traders. Insider trading has an impact on investors through its effects on

both investors ‘trading profits (when they buy and sell holdings for liquidity reasons) and

managerial incentives to create value. If insider trading were not prohibited by law, investors,

especially large shareholders, would need to decide their firm’s policy toward insider trading.

The legal and economic literature on insider trading attempts to weigh the trade-offs discussed

above to formulate optimal policies. Different authors focus on different classes of actors and

different types of effects. Given the number of classes of actors involved in and affected by

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insider trading and the multiplicity of effects,differences in focus have led to rather discordant

assessments of insider trading and conflicting policy recommendations.

Transactions, which gives indication of insider trading

Certain types of transaction can alert securities regulators that the investor who initiated them

must have been acting based upon inside knowledge -- in other words, knowing some significant

piece of news before the general public. A transaction will be considered suspicious based upon

a combination of criteria:

The timing is just a little too good. Anyone can make an investment at any time, but

someone who buys soon-to-be profitable put options or sells a stock short in the few

trading days immediately before a major decline in the stock's price will seem to have

been more than ordinarily lucky. This criterion is suggestive when present, but is not

mandatory. For example, a short sale could have been made quite some time before it

would turn out to be profitable. But the longer in advance a short sale or put-option

purchase is made, the more uncertainty there will be as to whether events will play out

according to plan; so generally the inside trader doesn't make illicit trades very long in

advance.

The transaction itself is too specific. For example, if someone bought puts on United

Airlines and American Airlines but not on Delta Airlines, investigators will be sure that

the

trader knew in advance that these two airlines were targets of the attack. (On the other

hand, this works both ways: If there were similar trades in a third airline but not in others,

investigators can conclude that one or more flights of that airline were supposed to have

been hijacked as well.)

The transaction is too large. One of the most reliable indicators of illegal insider trading

is that the perpetrator has traded at an abnormally high level. In other words, someone

who normally makes trades of a few thousand dollars now and then, but suddenly begins

to make much bigger plays, may well be doing so because s/he has some form of inside

knowledge. If inside-traders kept their trades to reasonable levels, they would seldom, if

ever, be caught -- since their trades would not seem especially abnormal and they could

be explained as part of their regular investment strategy. However, people typically get

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caught up by their own greed: when they know for certain that something significant is

going to happen to the price of a stock, they cannot resist the temptation to make as much

money as possible on their knowledge.

Transactions deviate from normal trading levels. In the options markets, there is normally

a reasonably even balance between call and put options on any given stock; and there is

normally a reasonably predictable level of activity in options on any particular stock.

When the balance between puts and calls is grossly disrupted and the level of volume in

options trading is far beyond normal, investigators can be pretty sure that something is

up.

The transaction is too speculative. In other words, the transaction is one that would be

unreasonably risky -- if not out-and-out stupid -- were it not that the perpetrator was

trading based upon inside knowledge. For example, a large purchase of stock options that

were both significantly "out of the money" and relatively close to their expiration date,

but suddenly turned out to be valuable based upon some news affecting the underlying

stock, would seem to represent an unreasonable degree of prescience.

SEBI, s efforts to curb insider trading

Close period/closed trading window

Close period means the prohibited period specified for trading and dealing in thesecurities of the

company. The Regulations require that dealing in securities of alisted company be prohibited at

the time of:-

a. Declaration of Financial results (quarterly, half-yearly and annual)

b. Declaration of dividends (interim and final)

c. Issue of securities by way of public/rights/bonus etc.

d. Any major expansion plans or execution of new projects

e. Amalgamation, mergers, takeovers and buy-back

f. Disposal of the whole or substantially whole of the undertaking

g. Any change in policies, plans or operations of the company.The 'Close period' should

continue upto 24 hours after the information referred to above is made public. The 'close

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period' could commence from the time of announcement of the meeting of the Board of

Directors of a company with respect to all price sensitive information and end 24 hour

after the decision of the Board is made public. In case of matters which are not required

to be dealt in the Board meeting, the close period should be from the time the preliminary

discussions in respect of the matters commence and end 24 hours after the information is

made public.

Pre-clearance of trades

All directors/officers/designated employees of the company who intend to deal inthe

securities of the company (above a minimum threshold limit to be decided by the

company) should pre-clear the transaction as per the pre-dealing procedure as described

hereunder.

An application may be made in such form as the company may notify in this regard, to

the Compliance Officer indicating the estimated number of securities that the designated

employee/officer/director intends to deal in, the details as tothe depository with which he

has a security account, the details as to the securities in such depository mode and such

other details as may be required by any rule made by the company in this behalf.

An undertaking shall be executed in favour of the company by such designated

employee/director/officer incorporating,inter alias, the following clauses, as may be

applicable :

(a) That the employee/director/officer does not have any access or has not received“Price

Sensitive Information” upto the time of signing the undertaking.

(b) That in case the employee/director/officer has access to or receives “Price Sensitive

Information” after the signing of the undertaking but before the execution of the

transaction he/she shall inform the Compliance Officer of the change in his position and

that he/she would completely refrain from dealing in the securities of the company tillthe

time such information becomes public.

(c) That he/she has not contravened the code of conduct for prevention of insider trading

as notified by the company from time to time.

(d ) That he/she has made a full and true disclosure in the matter.

Compliance Officer

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The organisation/firm has a Compliance Officer (senior level employee) reporting to the

Managing Partner/Chief Executive Officer. The Compliance Officer shall be responsible for

setting forth policies and procedures and monitoring adherence to the rules for the preservation

of “Price Sensitive Information”, pre-clearing of all designated employees and their dependents

trades (directly or through respective department heads as decided by theorganisation/firm),

monitoring of trades and the implementation of the code of conduct under the overall supervision

of the partners/proprietors.The Compliance Officer shall also assist all the

employees/directors/partners in addressing any clarifications regarding SEBI (Prohibition of

Insider Trading)Regulations, 1992 and the organisation/firm’s code of conduct. The Compliance

Officer shall maintain a record of the designated employees and any changes made in the list of

designated employees.

Other restrictions

All directors/officers/designated employees shall execute their order in respect of

securities of the company within one week after the approval of pre-clearance isgiven. If

the order is not executed within one week after the approval is given, the

employee/director must pre-clear the transaction again.

All directors/officers/designated employees shall hold their investments in securities fora

minimum period of 30 daysin order to be considered as being held for investment

purposes. The holding period shall also apply to subscription in the primarymarket

(IPO’s). In the case of IPO’s, the holding period would commence when thesecurities are

actually allotted.

In case the sale of securities is necessitated by personal emergency, the holding period

may be waived by the compliance officer after recording in writing his/her reasons in this

regard.

The Difficulty in framing insider trading Laws

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Specific information v general information:Generally, inside information is that which is

likely to materially affect the price of securities if it were public. The problem here is

drawing the line between specific information and merehunches based on rumors or

guesswork and research or fact-finding on commercial or economic trends or businesses.

Sanctions:

Sanctions may be civil or criminal or both. Any form of sanction runs into the difficulty

of identifying the insider and obtaining the necessary discovery, especially if the insider

arranged the transactions from abroad through a bank that raises the bank secrecy defense

against foreign. A further problem with civil liability arises from the fact that there is no

relationship between the insider dealer and his counterpart in the market. It is not

practicable to show which counterpart dealt with the insider amongst the many

transactions that may have taken place between the time the insider dealt and the time the

inside information became public. If the insider were to be liable for losses to all

counterparts in the market (e.g. the difference between the price with and without the

information) then the liability could be vast and disproportionate to the offense. In

theTexas Gulf Sulphurcase it has been estimated (as opposed to an actualaward) that the

liability to sellers of the shares was in the region of US $ 350 million - that isUS$ 150

million more than the net worth of the corporation.

Conflict of duties

Conflict of duties often arises when dealing in securities. When directors told a broker

that the dividend would be

cut. If the broker sold the

company’s stock for his client’s

price sensitive information,

there may be a conflict between

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his duty not to trade and his duty to act in the best interests of his customer. The

prohibition on insider trading is usually overriding. The broker was liable

notwithstanding that he had a conflicting duty to do his best for his clients.

Negative profits

Generally, where an insider holding securities is influenced not to sell because of inside

information and thereby avoids a loss, it is impracticable to impose liability because of

the Share price of XYZ co. Will go down because of bad financial results. Therefore, you

sell the stock.difficulty of proving intent to sell which was subsequently doused by the

inside information. Inthe US, the plaintiff must have purchased or sold a security. Thus, a

counter party has no claimwhere he refrains from doing anything but would have dealt if

he had known. Therefore, adefendant who suffers a loss when insiders sell on

unfavorable news and the price falls as aresult may have no standing since he did not sell.

Intent

Intent is usually an important factor in establishing guilt. There must be actual knowledge

bythe insider that he is an insider and that the information is inside information, i.e. the

insider dealing must be knowing and deliberate.

Exemption for stabilization:

Stabilization is essentially insider trading because the managers are dealing in bonds

while in the possession of insider information. As they knew the market’s reaction to the

original invitations. The main purpose of stabilization is to even out the market in the

primary distribution period so that it reflects the real value of the securities and not

speculative dealings.

Territoriality

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A major problem for the control of insider dealing is the territorial scope of the

prohibition. If the prohibition is strictly territorial it is a simple matter for the insider to

trade from abroad or on a foreign stock exchange - through a dummy company if

necessary. As regards the UK position, the CJA applies (in the case of dealing) where the

individual was in the UK when he did an act constituting or forming part of the offense or

where the regulated market or professional intermediary is in the UK. In the case of

offenses of disclosing inside information, or encouraging insider dealing, the offense is

committed if the individual or therecipient wasin the UK when the disclosure or

encouragement took place. The US Rule applies where the fraud is achieved “by the use

of any means or instrumentality of interstate commerce, or of the mails or of any facility

of any nationalsecurities exchange”. Insider dealing abroad may be subject to US

jurisdiction if the fraudhas an effect on the US securities markets.

HLL-BBLIL Merger versus SEBI

"...it can be conclusively said that while entering into the transaction for purchase of 8

lakh shares of BBLIL from UTI, HLL was acting on the basis of the privileged

information in its possession, regarding the impending merger of BBLIL with HLL. It

also may be stated that, byits very nature, when it comes to motives and intentions,

there may not always be any direct evidence. However, the chain of circumstances, the

timing of the transaction, and other related factors, demonstrates beyond doubt that

19

the transaction was founded upon and effected on thebasis of unpublished price

sensitive information about the impending merger."

Excerpt from SEBI order that tried to establish an insider trading case against HLL

management.

THE BACKGROUND

The HLL-BBLIL merger announcement was made on April 19 1996. But the two stocks

especially that of BBLIL, started seeing heightened activity from February itself. The

BBLILstock was quoting at Rs. 242.00 in end January, with average daily volumes of

around 16,000shares. By the end of February, the stock had shot up to Rs. 341.00 and

45,250 shares weretraded on the last trading day of that month; the average price and

trading volumes that month were Rs. 304 and 30,315 shares respectively. The story was

the same in March, with the average price increasing to Rs. 349.00, but the trading

volumes dipped to 10,000 shares. By the time the merger announcement was made in

April, the stock had reached stratosphere. When the merger was announced on April 19,

1996, the Bombay Stock Exchange had a trading holiday and the market had to wait until

Monday before reacting. But even a couple of days before that, on April 18 1996, the

price dropped marginally to Rs. 402.00 and the trading volume was 88,150 shares. And

here comes the crucial part. When the market opened on April 22, after the formal

announcement, the stock dropped sharply to Rs. 368.00, and, more important, volumes

halved at 35,650 shares, displaying a clear waning of interest in stock. By the end of May

1996, theBBLIL stock had gone out of favour, with the average daily price for that month

dropping toRs. 338.00 and the trading volumes a mere 8,129 shares.Trading in the HLL

stock too exhibited a similar pattern. The stock closed in January with an average price of

Rs. 628.00 and average volumes of 9,291 shares. By the next month, interest had

heightened and the stock closed in February with an average price of Rs. 696.00 and

trading volumes of 25,085. March witnessed lower volumes at 12,458 but the price

increased marginally to Rs. 698.00. As in the case of BBLIL, the HLL stock gathered

momentum inApril.A couple of days before the announcement, the stock price shot up to

Rs. 795.00 and nothing less than one lakh shares were traded on that day compared to the

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average trading volumes of just around 15,000 till then. On April 18, the stock had

declined to Rs. 780.00 while the volumes dropped steeply to 14,950 shares, possibly

anticipating the formal announcement the next day. And once trading resumed after the

merger announcement, on April 22, 1996 the stock dropped to Rs. 755.00 and the trading

volume to just 9,400 shares.

THE SEBI CHARGE:

HLL is an insider, according to Section 2 (e) of the SEBI (Insider Trading) Regulations.

It states "An insider means any person who is, or was, connected withthe company, and

who is reasonably expected to have access, by virtue of such connection, to unpublished

price-sensitive information." The SEBI has argued that both these conditions were met

when HLL bought the BBLIL shares from the UTI. HLL and BBLIL had a common

parentage--as subsidiaries of the London-based $33.52-billion Unilever--and were then

under acommon management. Thus, HLL and its directors had prior knowledge of the

merger.

THE HLL DEFENCE: No company can be an insider to itself. The transnational

knowledge of the merger was because it was a primary party to the process, and not

because BBLIL was an associate company. To buttress this point, HLL maintains that if

it had purchased shares of Tata Oil Mills Co. (TOMCO) before the two merged in April,

1994, SEBI would not consider it a case of insider trading. Why? Because HLL was not

associated with the Tata-owned TOMCO.HLL contends that it purchased the BBLIL

shares so that its parent company, Unilever, could maintain a 51 per cent stake in the

merged entity. Before the merger, Unilever had a 51 per cent stake in HLL, but only

50.27 per cent in BBLIL. According to the SEBI guidelines, HLL can be deemed an

insider. But the SEBI's definition

of an insider has to be fleshed out by it to provide a clearer picture.

THE SEBI CHARGE:HLL purchased, the BBLIL shares on the basis of unpublished

price-sensitive information which is prohibited under Section 3 of the Regulations.

Section 2 (k) (v)states that unpublished, price-sensitive information relates to "the

21

following matters(amalgamations, mergers, and takeovers), or is of concern to a company

and is not generally known or published " According to the SEBI, there can be no dispute

that the information of the overall fact of the merger falls under this definition.

THE HLL DEFENCE: Only the information about the swap ratio is deemed price-

sensitive.And this ratio was not known to HLL-or its directors-when the BBLIL shares

were purchased in March, 1996. The two audit firms, S.S. Billimoria& Co. and M.N.

Raiji& Co.,recommended the ratio to the HLL board only in mid-April 1996. Moreover,

HLL argues thatthe news of the merger was not price-sensitive, as it had been announced

by the media beforethe companies' announcement, April 7, 1996). HLL also points out

that it was a case of amerger between two companies in the group, which had a common

pool of management andsimilar distribution systems. Therefore, the merger information

in itself had little relevance; theonly thing that was price-sensitive was the swap ratio.

HLL made a notional profit of Rs 4.37crore on the transaction.

THE SEBI CHARGE :Why did HLL not follow the route of issuing preferential shares

toallow Unilever's stake to rise to 51 per cent in HLL? As per the SEBI chargesheet:

"Such a stepwould have involved various compliances/clearances, and required Unilever

to bring insubstantial funds in foreign exchange." The implication: HLL depleted its

reserves to ensurethat Unilever did not have to bring in additional funds.

THE HLL DEFENCE: Issuing of preferential shares would have, indeed, been a

cheaper option to ensure that Unilever had a 51 per cent stake in HLL. Had HLL

followed this route, it would have had to pay Rs 282.35, instead of Rs 350.35, per share.

In other words, it would have made a profit of Rs 5.41 crore by doing so. HLL also states

that while the preferential route would have been beneficial for itself, it would have been

dilatory for other shareholders since it would have resulted in an expanded capital base,

leading to a lower earnings per share in the future.HLL was probably worried that the

clearances for a preferential allotment from the SEBI andthe Reserve Bank of India (RBI)

would take their time in coming-or may not be given at all. Ithad already faced a time-

consuming and expensive run-in with the RBI during the HLL-TOMCO merger in 1994.

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THE SEBI CHARGE:Levers cancelled the entire holding of HLL in BBLIL.

THE HLL DEFENCE:HLL was upfront that its entire holding in BBLIL--1.60 per

cent--including the lots purchased from the UTI would be cancelled after the merger in

March, 1997.HLL maintains that this is perfectly legal. In addition, shareholders of both

HLL and BBLILapproved of the cancellation of shares as part of the merger scheme.

Says Iyer "By this process of cancellation, which normally happens in every

amalgamation, the voting rights of Unilever have gone up. However, so have the voting

rights of other shareholders. So, no exclusive benefit--profits or avoidance of loss--has

accrued to HLL or Unilever."

By extinguishing the shares, HLL wanted to maintain Unilever's shareholding at 51 per

cent and not realise any financial gains. However, Section 3 defines insider trading

irrespective of whether profits are made or not.

SEBI’S ORDER

In the first-ever case of insider trading, SEBI has ordered HLL to compensate UTI by

payingRs. 3.04 crores and launched criminal prosecution proceedings against HLL and

five of its directors, Mr. S.M. Datta, Mr. K.B Dadiseth, Mr. R. Gopalakrishnan, Mr. A.

Lahiri and Mr..M.K. Sharma. After detailed investigations, which included the recording

of the statements of some of the directors of HLL, BBLIL and an officer of UTI, the

findings of the investigation were communicated to HLL and its directors. According to

these findings, prima facie, it appeared that HLL was an insider as it purchased eight lakh

shares of BBLIL prior to the announcement of the merger of BBLIL with HLL on April

19, 1996 on the basis of unpublished price-sensitive information, and HLL had violated

the regulations prohibiting insider trading. Subsequently, a personal hearing was given to

HLL and its directors. Their written submissions were received.In view of this, SEBI had

passed the order that HLL had a profit of Rs. 3.04 crorescalculated on the basis of the

difference between the market prices of the shares of BBLIL sold by UTI toHLL after the

announcement of the merger and prior to the announcement of the merger (excluding

premiums)”. Excluding a premium of around 10 per cent for jumbo deals in

23

shares,thepre-merger market price was Rs. 318.00 plus 10 per cent premium and the post-

merger price taken into calculation by SEBI was Rs. 356.00 plus 10 per cent as on

December 1996,SEBI officials explained. Later, UTI filed an appeal with the appellate

authority, claiming ahigher compensation of Rs. 7.52 crores. It pleaded that it had to

incur a notional loss, as it wasnot aware that a merger of the two Unilever group

companies was on the cards.

APPELLATE AUTHORITY REJECTS THE CASE

The Appellate Authority in the Finance Ministry set aside the order of prosecution

initiated bythe SEBI against HLL and the five common directors in both HLL and

BBLIL. The two member Authority, consisting of the Finance secretary. Mr. Montek

Singh Ahluwallia and thespecial secretary (Banking) Mr. C.H. Vasudev, in its judgment

on July 14, 1998 said the SEBIwas not justified in ordering prosecution against HLL and

five of its directors.The Authority has also pointed out that SEBI has not chosen to use 15

G of the insider trading regulations for imposing a penalty but instead decided to use

omnibus powers under section11and 11B of the Act to adjudicate for awarding

compensation. Use of omnibus powers for imposing a pecuniary burden cannot be the

intent of laws. Therefore, it felt that the order of SEBI to award compensation to the UTI

suffers from procedural deficiencies as well as locks in jurisdiction.Also, they expressed

surprise to the fact that the UTI did not chose to approach SEBI in the first instance soon

after it felt that the HLL, because of insider trading, had gained an unfair price advantage

in the purchase of BBLIL shares from the UTI. Thus, the decision of the UTIto file an

appeal on the quantum of compensation after SEBI has so motto accorded compensation

to it, appears to be an afterthought. Therefore, given their finding with regard to

jurisdictional competence of SEBI to award compensation, they did not consider it

necessary to pass any separate order on the appeal filed by UTI. Further, the order said

that there is persuasive evidence, which points towards market knowledge and undesired

speculation about the possibility of the merger before the purchase of shares, in question

by HLL from UTI.What weakens a crucial aspect the charge of insider trading that the

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information involved should not be generally known? On the information about the

merger, the Authority has said that there was a case of merger of two healthy profit

making companies, having a similar management culture. The Appellate Authority orders

neither contest the fact that HLL is an insider nor that the merger’s information was price

sensitive. HLL has been free from the charge of insider trading on the basis that merger

of HLL and BBLIL was published in number of press reports. The appellate authority

substantiated its order by giving a list of publications, which carried the news during that

period. The authority was of opinion that on basis of press report and market speculation

UTI could have acted more carefully. They were of the opinion that UTI was not market

savvy.

SEBI MOVED THE COURT AGAINST ORDER

SEBI moved to the court against the order of Appellate Authority on the HLL case. The

case was pending in the metropolitan magistrate’s court for three years. Finally, SEBI

approached Mumbai High Court complaining inordinate delay in September 2002. The

Mumbai High Court directed the metropolitan magistrate to proceed on the case without

delay.HLL defended its position by quoting the July 1998 order of Appellate Authority.

“We holdthat SEBI was most unjustified in ordering prosecution of the appellants

(HLL)”. HLL made an application to magistrate, that summon should not be issued

before the company is heard. However, Mumbai High Court quashed this application on

the ground that the company couldnot be heard before the summon is issued. The case is

still pending in the court. Winning and loosing the case is not significant in the whole

incident. This case is important because itgenerated a detailed discussion on the legal and

moral nature of insider trading and deep issuesof corporate governance.

Hitech Drilling Services India (HDSI)

Another, less clear-cut case, is that of Hitech Drilling Services India (HDSI). Aban

LloydChiles Offshore Limited made a bid to buy shares of HDSI from Tata, with the deal

to be publicly announced on March 18, 2001. In the days leading up to March 18, SEBI

observed unusually active trading of HDSI stock on the Bombay Stock Exchange and the

price of HDSIstock rose from an average of Rs 35 in January and February to Rs 50.70

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on March 16. So far,no action has been taken against anyone in this case. Similar patterns

of price increases prior toa public announcement of a merger have been observed in the

UTI Bank-Global Trust Bank merger. Therefore, despite the efforts of the Indian

authorities to combat insider trading, the practice remains extremely common.

Profiting from disaster 9/11

In the wake of the terrorist attacks, which caused the destruction of the Twin Towers of

NewYork's World Trade Center, damaged the Pentagon, and destroyed four large airliners with

all aboard, securities-exchange investigators on three continents are poring over trading records

to determine whether one or more parties profited by their advance knowledge of the disaster.An

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event as dramatic and large in scale as the Black Tuesday attacks hada severe and far-reaching

effect on worldwide stock markets. This effect is somewhat like theimpact of a stone thrown into

a pond: There are certain specific companies which are strongly and immediately affected by the

attacks; others which are affected more weakly and indirectly; some which decrease in value

only because of a general feeling of pessimism rather than because of any direct impact on their

bottom line; and some which may even increase in value because they are seen as a "safe haven"

in uncertain times, or because they may gain business from an upcoming armed conflict.

Another way of looking at this "ripple" effect of insider trading is that the farther away

acompany is from the center of the impact the greater the odds that it would emerge unscathed

had the attacks' impact been less horrendous than it was. The obvious members of the "first

circle" of companies strongly affected by the attacks are American Airlines and UnitedAirlines,

the two companies whose planes were hijacked and used as flying bombs in theattacks on New

York and Washington. These companies' stocks would have decreased invalue as a result of any

hijacking incident involving their planes, even one with a peaceful resolution. The same is true to

a lesser extent of other airline companies, Boeing (the principal private manufacturer of

airliners), and other companies that provide equipment and services tothe air-transportation

industry. The next circle includes companies that would weather a"normal" hijacking incident

relatively unscathed, but would be significantly affected by a more violent attack. These include

the insurance and reinsurance companies, which must cover thedamage, as well as firms with a

major presence in or near the Twin Towers. The general stock market -- the "third circle" in our

analogy -- would not be strongly affected by a "peaceful"hijacking, but would be by a more

violent one. It could be argued that even the Black Tuesday attacks as they occurred were not

sufficient to cause a really bad "market break" -- while thedecline of the Dow Jones Industrial

Average on the first day of trading after the disaster wasthe largest on record in absolute terms, it

was not one of the top ten historical declines inrelative terms. Had the attacks been more

completely successful -- for example, had the fourth plane preceded to Washington and crashed

into the White House or the Capitol -- the overall market would surely have suffered a much

worse crash. To understand what might have happened, it is worth comparing the market's

performance immediately post-Black Tuesday, when the Dow Jones Industrials dropped by

about seven percentage points, and the 1987market crash, when the Dow dropped by over 22

percent in one day even though there was no obvious external reason for it to so. Investigators

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will be looking at transactions starting with those that can be most easily identified as suspicious.

Already enough has emerged to indicate that some trades were almost certainly made based upon

advance knowledge of the Black Tuesday attacks:

Between September 6 and 7, the Chicago Board Options Exchange saw purchases of

4,744 put options on United Airlines, but only 396 call options. Although there was no

news at that time to justify so much "left-handed" trading, United Airlines stock fell 42

percent, from$30.82 per share to $17.50, when the market reopened after the attacks.

Assuming that 4,000of the options were bought by people with advance knowledge of the

imminent attacks, these"insiders" would have profited by almost $5 million.

On September 10, 4,516 put options on American Airlines were bought on the

Chicagoexchange, compared to only 748 calls. Again, there was no news at that point to

justify this imbalance; but American Airlines stock fell 39 percent, from $29.70 to $18.00

per share, when the market reopened. Again, assuming that 4,000 of these options trades

represent "insiders, “they would represent a gain of about $4 million.

No similar trading in other airlines occurred on the Chicago exchange in the days

immediately preceding Black Tuesday.

Morgan Stanley Dean Witter & Co., which occupied 22 floors of the World TradeCenter,

saw 2,157 of its October $45.00 put options bought in the three trading days beforeBlack

Tuesday; this compares to an average of 27 contracts per day before September 6.Morgan

Stanley's share price fell from $48.90 to $42.50 in the aftermath of the attacks.Assuming

that 2,000 of these options contracts were bought based upon knowledge of the

approaching attacks, their purchasers could have profited by at least $1.2 million.

Merrill Lynch & Co., with headquarters near the Twin Towers, saw 12,215 October

$45.00 put options bought in the four trading days before the attacks; the previous

average volume in these options had been 252 contracts per day. When trading resumed,

Merrill’s shares fell from $46.88 to $41.50; assuming that 11,000 option contracts were

bought by"insiders," their profit would have been about $5.5 million

European regulators are examing trades in Germany's Munich Re, Switzerland's SwissRe,

and AXA of France, all major reinsurers with exposure to the Black Tuesday disaster.

(Swiss Re estimates that its exposure will be $730 million; Munich Re expects to pay out

asmuch as $903 million.) It is not clear if any trades in these stocks ring alarm bells; and

28

some negative earnings news announced shortly before the attacks means that a certain

amount of unusual selling may have been a normal market reaction and not anything

more sinister.

Amsterdam traders have noted that there was unusual trading activity in KLM

RoyalDutch Airlines put options before the attacks.This is very much a developing story,

and we can be sure that more and more accurate numbers will emerge soon. Investigators

will be examining transactions starting with the few days immediately before the attack,

and then working backwards; and similarly, they will belooking first at trades in the most

obviously affected securities.

Assuming that investigators are convinced that trades were made based upon advance

knowledge of the attacks, they will obviously try to trace these trades back to determine who

initiated them. Obviously, anyone who had detailed knowledge of the attacks before they

happened was, at the very least, an accessory to their planning; and the overwhelming

probability is that the trades could have been made only by the same people who

masterminded the attacks themselves. The difficulty, of course, will be in tracing the

transactions to their realsource. The trading is sure to have been done under false names,

behind shell corporations, and in general to have been thoroughly obfuscated. If in fact the

Black Tuesday attacks – andthe associated securities transactions -- were made under orders

from Osama bin Laden, thenwe are dealing with an expert in masking ownership of

corporations and making covert deals.This does not mean that unraveling the threads of these

transactions will be impossible, but it probably will not be quick or easy.The matter still is

under investigation and none of the government investigating bodies-including the FBI, the

Securities and Exchange Commission (SEC) and DOJ -are speaking toreporters about insider

trading. Even so, suspicion of insider trading to profit from the Sept. 11attacks is not limited

to U.S. regulators. Investigations were initiated in a number of places including Japan,

Germany, the United Kingdom, France, Luxembourg, Hong Kong,Switzerland and Spain. As

in the United States, all are treating these inquiries as if they werestate secrets.

BoM-ICICI Bank merger

29

In1999-2000 Bank of Madura and ICICI Bank merger was preceded by some interesting

trading patterns that suggested the possibility of informed trading in the homestretch to the

corporate action.The Bank of Madura's (BoM) stock had been hitting circuit-breaker for quite

a few days and ina short period of time, it had appreciated more than 50 per cent. The news

driving the price was the BoM's proposed merger with the ICICI Bank and the market

expectation of a minimum swap ratio of around 1:1. These were the swing in the share prices

of the BOM, ICICI bank which was showing high variation.

The ratio eventually turned out to be 2:1 (two shares of ICICI Bank every share of

BoM).Considering BoM's small equity base of Rs 11.80 crore against ICICI Bank's Rs

196.80 crore,a swap ratio of 2:1 would have little impact on the ICICI Bank's equity, but it

would considerably improve the bottomline.When the announcement of merger was made,

the market had no clue about the swap ratio.After all, the merger of two banks is not unusual

and the stock price responding to such news isalso a sign of market efficiency. However,

insiders and those connected with the merger playthe game of insider trading on such

occasions. Certain unusual trading before the formal announcement of the swap ratio, and the

role of regulating agencies assumes importance in examining the issue in the context of

insider trading, and develop public investors' confidence.

The Securities and Exchange Board of India (SEBI) had a regulation to prevent and punish

insider trading. While efforts were made to fine-tune the regulation, as SEBI till the data

didnot book any major case on insider trading. Its earlier attempts on investigating insider

30

trading in BBLIL and HLL merger, and Reliance Industries did not yielded any significant

results.Using the available public information on stock price changes, the number of shares

traded, the number of trades and the ratio of swap, it was pointed out the specific dates on

which certain abnormal trading took place at a volume higher than average volume of the

period. The Table gives the details of BSE trading statistics relating to the BoM stock.

The analysis of Table showed a sudden spurt in volume per trade in September and October

along with increased volume of shares for the month. A further analysis of the daily trading

data shows the volume on two days (September 20 and October 6) increased suddenly.

The BoM counter registered a volume of 44,650 shares on these two trading days on the

BSEat an average price of around Rs 74. The issue was who were the investors taking sudden

interest on BoM's stock on those two days. If these investors had known the swap ratio of

twoICICI shares for one BoM share, which the banks would announce on next Monday, the

profit potential would be more than Rs 200 per share. In other words, the net gain available

out of these trades would be Rs 89.30 lakh.

Another important date was December 6, two days before the formal announcement on

themerger. On this day, on the BSE, 58,7970 shares were traded in just 67 trades at an

average price of Rs 98.18. The average volume per trade was 8,775 shares against the normal

volumeof 100 per trade.The total volume traded on the BSE from July to November was

90,230 stocks against the5,87,970 stocks traded on December 6. There was abnormal trading

31

on the NSE too that day.What was the motive behind such a trade on the BSE? Who were the

buyers and, more particularly, the sellers? Was there any party, which knew of the merger

deal and the swap ratio and influenced a PSU bank or a mutual fund to sell the shares at the

current market price for such a block deal? These were all the questions that lead SEBI to

investigate the case. Withthe current price of ICICI Bank's share, the profit from this deal is

Rs 13.52 crore.

Insider trading did not stop with the formal announcement of the proposal of a merger.

For,there emerge two sets of investors in the market. The first has only the information in the

public domain about BoM and ICICI Bank. The other has information about the swap

ratio,The profitability due to price differential between the two stocks is known to the second

set. The investor’s privy to the swap ratio can continue to do such deals. Though SEBI's

attention was particularly drawn to investigate the trades of those periods, no public report is

available if SEBI investigated the deals to examine the insider-trading issue.SEBI action: It is

high time SEBI signaled strongly to the capital market regarding insiders'trading.---It asked

the stock exchange members to furnish the names of investors on whose behalf the buying

took place on days when the volume was higher than the average during a period.---It

investigate these investors' connections with the top management of ICICI

Bank/BoM,advisors to the merger scheme, the independent valuer of the swap ratio and all

others specified by SEBI's insider-trading regulation.

However,SEBI put its hand on this case as early as possible but as and now no outcome has

come and the case is still pending in the court.

Insider Trading at Texas Gulf Sulphur Company

Insider trading not only concerns scholars and regulators but also attracts the attention of the

general public. To get a practical idea of insider trading, consider the famous Texas Gulf

Sulphur Company case .Texas Gulf Sulphur Company was established in 1909.In 1959 its

32

exploratory prospecting with magnetic surveying equipment produced some evidence that

valuable deposits of copper, zinc, and silver might exist in an area of Ontario.

In 1963, the first drilling confirmed the possibility, and the commercial value of the find

proved to be enormous. The company instituted tight control of the drilling project so as not

toleak the information to outsiders .Meanwhile, various officers, directors, and employees of

the company, knowing this information and the fact that it was not released to the public,

bought shares of, and call options of, Texas Gulf Sulphur Company or were given stock

options by the company and tipped other people to purchase the stock or options of the

company. These activities happened between November 12, 1963, and April 16, 1964, a

period when the stock prices of Texas Gulf Sulphur Company were relatively low due to its

lackluster performance in business. Rumors about the company’s discovery surfaced and

became rife in mid-April 1964. By then the stock price had risen to $29.375 from $17.375 on

November 10, 1963. On April 12, 1964,the company made an announcement, which the

Security Exchange Commission (SEC) later accused of misleading the public, that the

company’s drilling had “not been conclusive” and “the rumors about the discovery were

unreliable premature and possibly misleading,” and originated with speculators not

connected with the company. Four days later, on April 16,1964, however, the company

announced “a major ore discovery” of about 25 million tons of copper, zinc, and silver. The

stock price jumped to $71 on April 19, 1964. Those who had purchased or acquired stocks

and options before this date reaped substantial financial gains.

In April 1965, the SEC filed a suit in the United States District Court against a number of

individual defendants who were directors, managers, and employees of Texas Gulf Sulphur

Company. The charges were based on the defendants’ violation of Rule 10(b)-5 of the

Securities Exchange Act of 1934 for” engaging in the purchase and sale of securities on the

basis of information with respect to material facts relating to Texas Gulf acquired by said

defendants in the course of their corporate duties or employment with Texas Gulf which

information had not been made available to Texas Gulf, its stockholders and other public

investors; (b) making available such information, directly or indirectly, to other persons for

the purpose of permitting or allowing such other persons to benefit from the receipt of such

33

information through the purchase and sale of securities; and (c) engaging in other conduct of

similar purport and object.” The SEC won the case.

Infosys fines its CEO for violating insider trading rules

Infosys is not only an IT bellwether; it is also an ethical bellwether. The company, in perhaps

the first instance in India, has fined its CEO Kris Gopalakrishnan for a technical violation of

its insider trading rules.The fine, Rs 5 lakh, would be donated to charity. Besides the CEO,

an independent director,Jeffrey Lehman, also has been fined $2,000 for the same violation.

This is the third time that Infosys has punished a member of its top brass. Earlier, it had

imposed a penalty on its director SrinathBatni. In a notice to the US SEC, Infosys said Mr.

Gopalakrishnan had inherited 12,800equity shares from his mother on December 24, 2007

but had inadvertently failed to notify the company within one business day after the change

in his shareholding. This, according to the company, constituted a violation of its insider

trading rules. But Infosys’ audit committee believed that Mr. Gopalakrishnan had no

intention of contravening the rules and imposed the penalty of Rs 5 lakh and directed him to

donate theamount to a charitable organisation of his choice. Mr. Gopalakrishnan has made

the donation.

Mr. Lehman was also imposed a penalty of $2,000 for failure to correctly follow the

procedure on sale of shares and that amount, too, has been given to charity.

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OBJECTIVES OF THE STUDY:

1. To protect the interests of investors in securities;

2. To promote the development of Securities Market;

3. To regulate the securities market and

4. For matters connected therewith or incidental there to.

35

SCOPE

1. The probhition contained in reguletion 3 of the reguletion apply only when on insider

traders or deals in securities on the basis of any unpublished price sensitive information

and not otherwise.treders or deals in securities.

2. The SEBI reguletionagaainst insider trading were attracted only if the insider trading on

the basis of unpublished price sensitive information(UPSI)

3. The burden of proving a situation contrary to the presumption metioned

Lies on the insider trading reguletion.

4. SEBI intention in the reguletion appear to be driven by the need to introduce some sort

of strict liability.

5. The SEBI reguletion were amended to make it seeming benificial for SEBI.

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RESEARCH METHODOLOGY

Research is the process of a systematic and in-depth study or search of any particular topic,

subject or area of investigation, backed by the collection, complication, presentation and

interpretation of relevant details or data. It is a careful search or enquiry into any subject matter,

which is an endeavor to discover to find out valuable facts,

Which would be useful for further application or utilization? The research that involves scientific

theories, the discovery of new techniques, a modifications of old concepts or knocking of an

existing theory, concept or technique. It may develop a hypothesis and test it. It may also

establish relationships between variables and identity the means for problem solving.

The array of questions addressed in this study required multiple approaches for collecting &

verifying information & for capturing the various perceptions that exist. To collect enough

information to analyze ICICI Amc& HDFC Amc

Types of Research

Descriptive vs. Analytical:

Descriptive research includes surveys and fact – finding enquiries of different kinds. The

major purpose of descriptive research is description of the state of affairs, as it exists at

present. In analytical research, the researcher has to use facts or information already

available, and analyze these to make a critical evaluation of the material.

Applied vs. Fundamental:

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Applied research aims at finding a solution for an immediate problem facing a society or an

industrial/ business organization, whereas a fundamental research is mainly concerned with

generalization and with the formulation of a theory.

Quantitative vs. Qualitative:

Quantitative research is based on the measurement of quality or amount. It is applicable to

phenomena that can be expressed in terms of quality. Qualitative research is especially

important in the behavioral sciences where the aim is to discover the underlying motives of

human behavior.

Conceptual vs. Empirical

Conceptual research is related to some abstract ideas. It is generally used philosophers and

thinkers to develop new concepts or to interpret existing ones. Empirical research relies on

experience or observation alone often with out due regard for system and theory. It is a data

based research, coming up with conclusions, which are capable of being verified, by

observation or experiment.

Some other type of research

There may be other type of research such as one time research or longitudinal research from

the viewpoint of time. Laboratory research or simulation research, historical research,

exploratory researches are some of the other type of researchIn the present project work the data

has been collected from available source that is secondary data like websites, Newspapers and

magazines. The sample size taken is of 7 different sect oral funds.

Research &methodology contains two types of data. They are as follows:

Primary data

It is the Information that researchers gather first hand. It is facts and information collected

specifically for the purpose of the investigation. In terms of the primary data a questionnaire has

been used to interview desire sample units that give accurate and up to date information as well

as better to research problem.

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Secondary data

All methods of data collection can supply quantitative data (numbers, statistics or financial) or

qualitative data. Quantitative data may often be presented in tabular or graphical form.

Secondary data are those which have already seen collected by others, when it is not possible to

collect data in primary form, the researcher may take the help of secondary data. They are

collected for serving the objectives other than what the researcher might have in mind.

The source of secondary data includes:

1. Internet

2. Books

3. Website

4. Magazines

5. Annual bulletin

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Finding and Analysis

On the basis of the experts opinion survey and case study a various world Famous insider

Trading Cases and other source the following are the finding:-

On paper, India's laws on insider trading are more stringent than international ones.

From merely barring insiders from trading on the basis of unpublished price-sensitive

information, the laws have moved on to prohibiting anyone in the possession of such

information from trading. And proof that the information was not shared is no longer

acceptable defense against charges of insider trading; today, an accused needs to

prove that such information could have never been shared. This shifts the focus on

tothe accused to prove that there has been no insider trading

"Insider Trading is victimless Crime" the following quote here in suggested that this

crime is not done with an intention to effect the financial position of the General

Investor. But without any intention, the general investor comes into this trap and is

effected largely.

The "Close window Scheme before 24 hr. of SEBI also seems as a failure because all

the parties that trade on the basis of inside information buy or sell the securities well

before 24 hrs. The window is closed for them to trade.

Despite the control and regulation restriction imposed on insider trading at stock

exchange in India or all over the world, these laws have not been effective to curb

these kinds of activities within the stock exchange.

"SEBI" website is also not properly constructed. As insider trading directly, come

under the control of SEBI. Therefore, any person seeking information on this topic

will explore the SEBI's website but will not get any information. With almost full

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exploration of website, you will get the law on insider trading which will be an

exaustic process and will require lot of time. The website also does not give any

information onthe no. of case that are charged under insider Trading and any of the

other default aboutthis topic.

The "Insider Trading Regulation 2002" is also not properly formed. Most of the terms

and expressions used under this law are incomplete and on this basis, only some of

the Companies escape the charges of insider trading. HLL insider Trading, BOM -

ICICI Merger Case are still pending on these ground.

Based on survey and people contacted for insider Trading Questioner shows that there

are very few sub-broker and educated people, who are just acquitted with the word

insider trading. When they are just acquitted with the word then the knowledge about

laws, regulation and its effect on shareholder are doubtful.

There has been a silent battle going on between the various group of people assome

set of researcher wants to legalize the insider trading and so that all the punishment

are curbed. The researcher who wants to legalize this kind of activities alsodo not

have strong reasons on which basis they want to give insider Trading this platform.

It is very difficult to distinguish which information is price sensitive and which is not.

Because even a very small information can bring large no. of upswing and

downswing in the pries of share.

Round the Globe various cases related to insider Trading has been seen. But nowhere

including SEBI has not been successful to investigate the case before it has occurred.

All the cases reported for insider trading have come to knowledge of SEBIwell after

the trading operations have been performed.

Though SEBI keep's the eye on each and every trading activity of people connected

with the Companies but of no use. As the insider Trader are smarter and they perform

their operations so cleanly that even SEBI cannot notice happening of such events in

the stock market.

SEBI's Insider Trading Act and Companies policies and procedures for the insider

trading are not adequate enough to prevent insider trading. Because generallytop level

executive frame the policies and they can manipulate or misuse a slight clause

according to them so as to gain the profit.

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In recent amendments, the SEBI is including insider trading under "Prevention of

Money laundering of Act” (PMLA) so that the punishment for the inside Trader are

sever and they are afraid to indulge in such kind of trading activity.

Insider trading such an activity where to prove the charge against the insider isan

arduous task.

In this type of trading generally, the individual investor is the most affected because

the big broker, institutional investor keeps a trap on the market and buy& sell

accordingly. Therefore general investor is most affected and they are not aware of this

slap on there face.

India's first, and most high-profile case of alleged insider trading involved Hindustan

Lever Limited (HLL) and five of its directors just ahead of the company’s merger

with Brooke Bond Lipton India. SEBI asked HLL to pay Rs 3.04 crore as penalty, but

the Appellate Authority in the Finance Ministry set aside its order. So is the case with

all the other cases, which are under SEBI.

Every body in the share market be it the primary insider, secondary insider, broker,

auditors, general investor would like to take the advantage of the price sensitive

information to make gain in market though they may consider trading on inside

information as illegal. The picture below gives that how the judge who have no link

with the share market and rarely deals in the shares. But when there is a chance of

getting a inside information than the judge also wants to make unfair amount of

profits.

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Suggestions and Recommendation

With the knowledge gained various source and on the basis of finding and analysis of the various

aspect of insider trading some of the suggestion are stated here below.

There should be China's wall constructed between the department having price sensitive

information and other departments of companies and outsider's who deal with the

Company. So that they do not take advantage of price sensitive information and a proper

list of all information, which are "Price Sensitive" should be maintained so thatsuch

information is taken extra care when dealing with such information.

The Companies should disseminate price sensitive information to stock exchange on

continuous and immediate basis and should also improve investor &access to their public

announcements.

SEBI should make a law/or appoint an Committee that can bring in cases of insider

Trading well before such trading take place in the stock market so that interest of general

investor is safe guarded.

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SEBI should disallow the directors/officer, designated employees of the companies to

buy or sell the shares well before some important announcements are to be made and

which effect the share market.

SEBI should strictly observe that when some price sensitive information declarations are

made, the trading window should be closed so that company member does not take

advantage of such declarations before they are made public.

The Companies should also clearly give details of probable disciplinary the code. Such as

wage freeze, suspension, ineligibility for before participation in employee stock option

plans with holding of promotion.

It is SEBI's responsibility to bring out the cases and investigate charges of insider

Trading but at last power to convict the person lie with the Court which is a long process

The Government should give in the power for the decision to the SEBI so that convict is

punished on time before it is to late.

SEBI should property construct the website where in the general investor can get all the

available information about the insider trading. A Forum should be established where the

general investor can give their views, any complaints, suggestion to stop the riding horse

of insider to make money.

To facilitate compliance with the new reporting of transactions, issuers should either

designate a single broker through whom all transactions in issuer stock by insiders must

be completed or require insiders to use only brokers who will agree to the procedures set

out by the company. A designated broker can help ensure compliance with the company’s

preclearance procedures and reporting obligations by monitoring all transactions and

reporting them promptly to the issuer. If designating a single broker is not feasible,

issuers should require insiders to obtaina certification from their broker that the broker

will:

1. Verify with the issuer that each transaction entered on behalf of the insider was

pre cleared.

2. Report immediately to the issuer the details of each of the insider’stransactionIn

issuer’s securities.

The stock exchanges should take up at least a substantial burden of filing action against

persons violating the regulations. Since the Rules and regulations of the stock exchanges

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are considered ‘enactment’, and court judgmentshave found exchange regulations to have

the force of law – they could easily enforce the requirements of the listing terms or the

rules and regulations by seeking civil action in courts against persons or companies who

violate such regulations. The exchanges should also better coordinate monitoring and

surveillance of listed companies to track unusual activity in the stock of a company

across markets for traces of insider dealings or manipulation.

Briefly, the good governance regulations provide for:

a) Officer, director and substantial shareholder to disclose their holding on certain events or

at certain intervals.

b) Appointment of a compliance officer

c) Setting forth policies and procedure to restrict the possibility of abuse of insider trading.

d) Monitoring and pre-clearance of trades by the designated persons.

e) Restrict trading by such insiders within a certain period of time i.e. before corporate

announcements, buybacks etc. are made.

f) The company has to convey all the significant insider activity and corporatedisclosure in

a uniform publicly accessible means to the public – and to the stock exchange.

g) Chinese walls within a firm to prevent one part of the firm, which deals insensitive

information from going to other parts of the firm, which have an inherentconflict of

interest with such other parts.

h) Minimum holding period of securities by insiders.i) No selective disclosure to analysts.

Wide dissemination of information.

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Conclusion

According to the recent survey India is the largest hub of insider trading, which has

determent the interest of individual investors and their confidence in the capital market

because of then on-availability of proper monitoring authority to investigate and prosecute

insiders. If such activities continue the basic function of stock exchange i.e. capital formation

will be reduced as general investors trust will be lost on functioning of stock exchange.

“Complaining about insider trading without finding a workable solution is like crying that the

government should do something about smoking as it causes cancer, but doing nothing."

Quote By Trading Guru Same is the situation with the Indian Government and SEBI both

have not been successful to curb insider trading. Though SEBI is now making some efforts to

prevent insider to trade in stock exchange and disturb the main functioning of it.Efforts made

by SEBI are on a slow pace which needs to be fasten up otherwise thiskind of activities will

loses the trust of general investors.It is also important to curb the insider trading other wise it

will not show the correct and fair prices of shares of each companies. Insider trading is a

victimless crime, which effect large number of general investors, and they do not even come

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to know this effect at once. In conclusion it can be said that."It is difficult to prescribe

remedies to each one of the trading malpractice in Indian Stock Market. But the problem of

insider trading and secret take over bids could be tackled to a large extent by appropriate

regulatory measures by authority”.

AbidHussain

Member of Development Capital Market Committee

It is therefore important for there to be markets free from all types of fraud and in particular

insider trading which disenchants the common investor from the workings of the markets as

if he is being invited to play a game of crap with loaded dice. Unfortunately, with

theunearthing of large frauds, even though India is not unique in this, the concept of

corporate good governance has been lost in the war cry for blood. As a result, the

government hasgotten into overregulation and micromanagement by converting good

governance into statutory provisions. We tend to forget that micromanagement cannot stamp

out fraudulent action, it can only be reduced by effective enforcement of the laws, which

should prohibit obvious illegalities. It should not be forgotten that what is sought to be caught

is crime and treating all insiders as inherently tending towards a presumption of unfair

dealing should be avoided. Standards of corporate governance should be left at the helm of

the managers of the company. The regulator should specify in the Schedule to the regulations

a list of optional procedure for limiting the possibilities of insider trading. What should be

mandated instead should be astatement in the annual report of the degree of compliance with

the standards of set forth in the Schedule. Thus companies, which do not follow corporate

governance guidelines in substance, should be penalized by its shareholders.Introduction of

corporate governance ratings, similar to debt ratings, which would pressure management to

comply with such measures. This could be the missing link providing asimple number which

can be appreciated and understood by the masses and would indicate the processes a

company has put in place for the benefit of their non-insider shareholders.

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Bibliography

“Security market in India” by S.J. Lalwani

“Securities laws and regulation of financial markets” by ICSI

“Study of financial market” by Roger.D.Agris

“Swing Trading” by JyotiBasu

www.businesstoday.com

www.sebi.com

www.sec.com

www.indiaenews.com

www.infosys.com

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www.hllindia.com

www.brookebond.com

www.9/11trading.com

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