Insider Trading Types

Insider trading in all its glory has emerged as a topic of great concern in recent weeks. People have an idea of how things work, however many still remain unaware of the various insider trading types.

Insider trading as the name suggests is the trading of a company’s securities on the basis of some kind of insider information.

Insiders, usually, the key stakeholders, are ones who have access to or possess critical non-public material information.

Insiders use this material information such as news of a merger, acquisition, transfer, new product launch, etc., that are likely to have an impact on a company’s securities to register huge profits on the stock market. 

This is not just limited to “insiders” – the persons who are directly associated or have been associated with a company, but also “connected persons” – people associated with an insider who has access to or possesses insider information.

We know it’s bad as it leads to an imbalance of power on the stock market, however, it all depends on the insider trading type that a trader resorts to. 

There are instances when there are no ill effects of insider trading on the market and investors’ and traders’ sentiment. Here in this article, we will be looking at all the types of insider trading to provide you a clear picture of the concept.

Insider Trading Types in India

Just like anything the concept of insider trading has divided opinion among the trading community. You might choose to be a supporter or be against the idea.

But, before you take a side, make sure you are aware of the various types of insider trading.

While some call it ethical, others aren’t much of a fan. However, it comes down to the insider trading transaction made by an individual.

We see cases of insider trading in the news and seem to believe that such trading is illegal in every sense. 

However, that’s far from the truth. 

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Legal Insider Trading

When we think insider trading, by default our mind directs us to the negative incidents of insider trading. However, there is a thing such as legal insider trading as well. 

To put it in straight simple terms, Legal Insider Trading can be defined as trading carried out by “insiders” or “connected persons” in their own company’s listed securities. 

The thing that makes it legal is the fact that insiders hold no specific advantage over other traders as in this type of insider trading, “insiders” trade in their own company’s securities on the basis of general information that is available to the public.

Further, every such transaction is reported to the concerned authorities – SEBI, and the public company.

Trading in your own company as long as it is done on the basis of public information is considered legitimate and is approved in many countries across the globe.

The stock market is full of incidents of Legal insider trading. It seems to be happening all the time. There are companies that remunerate their employees by offering them company shares as well. 

However, to better understand the concept, let us consider the following Insider Trading example.

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For Example – A company is soon to float its IPO as part of its expansion plans. The company’s CEO is among the selling shareholders as he looks to part ways with 2000 of his shares in the company.

Now, the CEO reports this transaction to SEBI in the DRHP papers filed with them. Thus, this type of trade transaction is legal insider trading.

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Illegal Insider Trading

Illegal Insider Trading is the one where a trader has access to insider information that is not yet made public and that can give a benefit to the person over the rest of the traders. 

Illegal insider trading is trading on material and non-public information such as news about an acquisition, merger, or a new product launch which can have a major effect on the share price of a business. 

Individuals in key positions or a company’s stakeholders may readily exploit their access to such critical material information for their own benefit every time.

Thus, reducing opportunities for a regular investor who does not have access to such data.

The market regulator, SEBI has devised PIT Regulations (Prohibition of Insider Trading) to keep the cases of insider trading in check

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For Example – Kanwar is employed with Delhi Government. While working closely with the high-rank officials, he learns about the Government’s plan to subsidize the purchase of electric vehicles (EV).

The news in all likelihood will be a bonus for electric car manufacturing companies. So, Kanwar goes on to purchase shares in an electric car company before the official announcement regarding the new rules of share market are made. 

This alerted investors of the investment opportunities in EV makers, thus the demand led to an increase in the share prices of the EV company. 

Kanwar was able to purchase shares at a much lower price as he purchased the shares at a time when the news wasn’t made public. Clearly, he had an advantage over other traders as he possessed material insider information.

This type of insider trading is classified as illegal insider trading.

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Conclusion

Insider trading has been in news a lot lately and has become a matter of great interest for everyone in the trading community. Thus causing a huge number of traders to look up the internet for insider trading types. 

We know how Insider trading is done by individuals associated with a company making use of some kind of insider information. Traders take up this practice for making huge profits from the stock market.

However, this practice is all sorts of disadvantageous for traders who don’t have access to material insider information. Thus, insider trading is made illegal in many countries including India. 

This is also the reason that people seem to think of insider trading as a wrong practice.

However, there is a form of legal insider trading as well, wherein traders trade in their own company’s securities and later on report those transactions to the authorities.

This type of insider trading happens all the time and is a common occurrence. As there are companies which offer their employees company shares. 

On the other hand, there is illegal insider trading where traders possess and trade on the basis of undisclosed price sensitive information.

This type of insider trading is strictly prohibited and likewise, SEBI has devised Insider trading regulations to keep the cases in check.

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