Insider Trading, Shadow Trading, Rule 10b-5, Rule 10b5-2, Fiduciary, Securities Law, Securities and Exchange Commission (SEC), Loophole, Investors, Nonpublic Information
Shadow trading is a lucrative way to exploit a loophole in insider trading law. Insiders abuse this loophole to make six-figure profits and escape liability when done at the right companies. Those who shadow trade use material, nonpublic information to trade not in the securities of their own company, which would be illegal, but in the securities of a closely related company where the information is just as impactful. Efforts to close this loophole rely on the individual insider trading policies of the involved companies. These policies vary in language, making liability for shadow trading dependent on specific language or “magic words” within any given company’s policy. This leaves half of insiders free to shadow trade while the rest will be liable for insider trading. A clear rule prohibiting shadow trading is needed to adequately protect investors and the market as a whole.
Insider trading is regulated to protect investors from ending up on the wrong side of an unfair trade due to insiders possessing material, nonpublic information. This regulation, in turn, promotes confidence in the market, keeping investors from refusing to participate in what would be a rigged game without it. Amending Rule 10b5-2 to create an additional circumstance where a duty of trust and confidence exists when possessing material, nonpublic information affecting a closely related company is necessary to uphold the protection of investors and market integrity which is the basis of insider trading law.
Jamel Gross-Cassel, Note, The Solution to Shadow Trading Is Not Found in Current Insider Trading Law: A Proposed Amendment to Rule 10b5-2, 28 Fordham J. Corp. & Fin. L. 439 (2023).