Securities Fraud: How the SEC Tracks Suspicious Trading Prior to Mergers and Acquisitions

Securities Fraud: How the SEC Tracks Suspicious Trading Prior to Mergers and Acquisitions

Securities fraud refers to illegal activities involving the stock market, aimed at deceiving investors for financial gain. One common type of securities fraud involves trading on insider information about upcoming mergers and acquisitions. The SEC has sophisticated systems to track unusual trading activity and refer cases for enforcement action.

What Constitutes Illegal Insider Trading?

Illegal insider trading occurs when someone trades securities based on material, non-public information that could impact a company’s share price once it becomes known. This is considered securities fraud and a violation of insider trading laws.

For example, if a company executive knows confidential details about an upcoming merger or acquisition, they cannot legally trade the stock or tip off others to trade until the news is public. Doing so constitutes securities fraud.

Tracking Unusual Trading Prior to Mergers and Acquisitions

The SEC pays close attention to trading activity around major corporate events like mergers, acquisitions, and tender offers. These situations provide incentives and opportunities for illegal insider trading.

Red flags include:

• Sudden spikes in trading volume and prices before deal announcements
• Unusual options trading signaling someone betting on an upcoming price jump
• Multiple accounts making suspiciously well-timed trades
• Past patterns of insider trading by individuals or entities

When the systems spot red flags, the SEC can request detailed trader records from brokerages to piece together connections and gather evidence.

SEC Enforcement Actions

When the SEC’s surveillance systems, referrals, and investigations uncover clear evidence of intentional securities fraud, they pursue enforcement actions seeking tough civil penalties and disgorgement of illegal profits.

Major insider trading cases often involve criminal prosecution by the Department of Justice resulting in prison sentences. Punishments serve as a deterrent to prevent others from attempting similar schemes.

Some recent high-profile cases emerging from the SEC’s sophisticated tracking programs include:

• Goldman Sachs banker illegally tipped off father to pending mergers – They made over $600,000 in illicit profits
• Ring of traders profited $31 million from corporate merger leaks
• Investment banker stole deal information to take in $2.6 million

Successful enforcement relies on state-of-the-art technology to turn up suspicious trading activity combined with extensive investigations to build ironclad cases.

Defenses Against Insider Trading Charges

Firms and individuals facing insider trading charges often argue the trades in question were coincidental and they had no unfair advantage. But with the sophisticated systems the SEC uses to flag unusual trades, mere coincidence is tough to prove.

Other common defenses include:

• Lack of evidence – Insufficient proof the accused knowingly and intentionally engaged in securities fraud.
• No fiduciary duty – The accused did not owe a legal duty to shareholders because they were an outsider rather than a corporate insider.
• No material information – The data they possessed was not important enough to meet the legal standard for “material nonpublic information.”

These defenses place the burden of proof on the SEC and can sometimes lead to reduced penalties even if charges are upheld.

Final Thoughts

Sophisticated data analytics systems give the SEC potent tools to catch unusual trading indicative of securities fraud around market moving events like mergers and acquisitions. Harsh civil penalties and criminal prosecution serve as a strong deterrent for those considering attempting illegal insider trading schemes. Defenses rely on poking holes in the SEC’s ability to prove intent, access, and duty. But with advanced tracking capabilities, coincidence and ambiguity are increasingly tough arguments to make.