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SEC Proposes Selective Disclosure And Insider Trading Rules
Washington, DC, December 29, 1999 - The Securities and Exchange Commission has proposed new rules to address three issues: the selective disclosure by issuers of material nonpublic information; whether insider trading liability depends on a trader’s "use" or "knowing possession" of material nonpublic information; and when the breach of a family or other non-business relationship may give rise to liability under the misappropriation theory of insider trading.
Selective Disclosure Rule; Regulation FD (Fair Disclosure)
To address concerns about selective disclosure, the SEC has proposed new Regulation FD under the Securities Act of 1933, which, rather than treating selective disclosure as a type of fraudulent conduct, creates new issuer disclosure requirements. Regulation FD would require that whenever an issuer, or any person acting on its behalf, discloses material nonpublic information to any other person outside the issuer, that issuer must simultaneously (for intentional disclosures) or promptly (for non-intentional disclosures) make public disclosure of that same information. Therefore, under the proposed rule, whenever an issuer makes an intentional disclosure of material nonpublic information, it must do so in a manner that provides general public disclosure. In the case of an unintentional selective disclosure, the issuer must make full public disclosure promptly after it learns of the selective disclosure.
Proposed Regulation FD would apply to all issuers with securities registered pursuant to Section 12 of the Securities Exchange Act of 1934 and those issuers required to file reports under Section 15(d) of that Act, including closed-end investment companies but not including other investment companies. The SEC concluded that Regulation FD would offer little additional protection to investors in such other investment companies inasmuch as those funds continually offer their securities to the public and therefore are required to update their prospectuses to disclose material information subsequent to the effective date of the registration statement or any post-effective amendment, and they are not permitted to sell, redeem, or repurchase their securities except at a price based on their securities’ net asset value. The SEC solicits comment, however, on whether any investment companies should be covered by Regulation FD, and if so, which types should be covered.
Insider Trading Issues
The Release notes that since neither Congress nor the SEC has expressly defined the term "insider trading" in a statute or rule, insider trading law has developed on a case-by-case basis under the antifraud provisions of the federal securities laws. Consequently, there have been issues on which various courts have disagreed. The SEC has proposed new rules under the Exchange Act to address two issues on which disagreement remains.
Proposed Rule 10b5-1: "Use/Possession" Issue
It is unsettled whether the SEC must show in its insider trading cases that the defendant "used" the inside information in trading, or merely that the defendant traded while in "knowing possession" of the information. Proposed Rule 10b5-1 would state the general principle that insider trading liability arises when a person trades while "aware" of material nonpublic information, with certain exceptions.
Proposed Rule 10b5-2: Misappropriation Cases
Based on Family or Personal Relationships
Under the "misappropriation" theory, a person commits fraud in violation of Section 10(b) of the Exchange Act and Rule 10b-5 thereunder by misappropriating material nonpublic information for securities trading purposes, in breach of a duty of loyalty and confidence. The theory’s application is clear in cases involving misappropriation of confidential information in breach of an established business relationship, such as an attorney-client relationship. It is not as settled, however, under what circumstances certain non-business relationships, such as family and personal relationships, may provide the duty of trust or confidence required under the misappropriation theory. The SEC has proposed a new rule under the Exchange Act, Rule 10b5-2, to clarify the law in this area.