Insider Trading 101

The first time “insider trading”—which is now the subject of an ongoing Senate inquiry with Development Bank of the Philippines and businessman Roberto Ongpin at the crosshair—caught the public eye was in 1999.

It will be recalled that in 1998, BW Gaming and Entertainment Corp., headed by businessman Dante Tan, won the exclusive contract to operate a nationwide online bingo franchise and the Quick Pick-2 gambling game, which is similar to the illegal numbers game called jueteng.

When news came out that Philippine National Bank, then government-owned, lent P600 million to BW and that Macau gambling magnate Stanley Ho would reportedly invest in the company, BW’s stock price rose from P0.80 to P145, or a whopping 18,025 percent increase.

The hyped-up entry of Ho into BW, however, did not materialize. With him out of the picture, BW’s stock price plummeted and scores of stockbrokers and investors lost their shirt.

The meltdown that almost caused the collapse of the Philippine stock market spawned charges of insider trading and stock manipulation against BW officials and stockbrokers.

The Senate probe into the scandal resulted in the enactment of the Securities Regulation Code (Republic Act 8799), which tightened the rules on capital market operation, including the prohibition of, among others, insider trading.

Information

The law makes it unlawful for an “insider” to communicate material nonpublic information about a company and its securities to any person whom the passer of the information knows or has reason to believe will likely buy or sell those stocks on the basis of such information.

An insider is defined as a company that issues securities; or a director or officer of that company; or a person whose relationship or former relationship to the issuer gives or gave him access to material information about the company and its stocks that is not generally available to the public.

It also includes a government employee, or officer of an exchange or clearing agency who has access to similar information, and any person who learns such information through any of the entities mentioned.

The tips that insiders are prohibited from disclosing in private are those that would influence an investor to sell his existing stocks or buy more of them, or buy the stocks of other companies.

Thus, for example, an owner of mining shares may be induced to quickly sell them upon learning from a friend who works as the company’s mining supervisor that its concession area is close to exhausting its resources.

By the time that information becomes public and brings down the price of the stocks, the pre-advised stockholder has already unloaded his stocks with profit or minimal losses, if any.

Prohibition

In the same token, if the same stockholder gets inside info that a rich mining lode has been discovered, he would be motivated into buying additional shares before the public announcement of the finding causes the stock price to shoot up.

Whether favorable or unfavorable, the law requires that material information should be disclosed or made available to all investors at the same time, and not just to a select few who happen to have good relations with the bearer of the information, so they can all make an informed judgment on their investments depending on their appreciation of the situation.

The ban on insider trading rests simply on the principle that all stockholders, regardless of the number of shares they own or their degree of proximity to the people who have access to significant company facts and figures, are entitled to equal and fair treatment.

Understandably, like other aspects of life that involve money, this prohibition does not sit well with people who want to take advantage of their strategic position in the capital market chain (read: simply greedy) to gain more profits.

Encouraged by an I’m-smarter-than-others attitude, these modern-day Shylocks are not averse to using all means available to ferret out, directly or through clever guile, material nonpublic information about listed companies with healthy bottom lines.

Regulation

As soon as the targeted company is ripe for the picking (or as investment bankers and stockbrokers would say, put in play), the mechanisms needed to engage in insider trading without being detected by the regulatory authorities are activated.

These include the creation of dummy corporations under whose names stocks will be sold or purchased, making arrangements with preferred stockbrokers to buy or sell stocks on pre-determined days at different prices and volumes, and engaging in media manipulation to put the company in play in a good light to make its stock price go up or to denigrate it to depress its stock price.

The idea is to give the impression that the stock transactions involved in the insider trading activity are normal or regular so as not to invite the regulators’ attention to the behind-the-scenes manipulations and to lull investors into becoming unwitting victims of the scheme.

Unless a co-conspirator spills the beans or the footprints left behind are too clear to be ignored, proving insider trading is like solving a jigsaw puzzle. Separate acts performed by different parties in various periods have to be reconstructed and evaluated to establish the commission of the prohibited act.

If caught, the usual alibi given by the insider trader is, he made the transactions not on the basis of material nonpublic information but after a careful study of information available in official company filings, the media and other public records.

Insider trading is a white-collar crime that remains untested in our courts.

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