What is insider trading?

On Behalf of | May 19, 2021 | White Collar Crimes

Being involved in the stock market, you have likely heard about insider trading before. In fact, many people hear about this even if they do not have any involvement with trading whatsoever.

But what is insider trading? Why is it a crime with such severe penalties?

Defining insider trading

The U.S. Securities and Exchange Commission examines the definition of insider trading. At its simplest form, this is the use of insider information to make decisions about what stocks to sell and what to buy.

For example, say you work for a company and hear from the higher-ups that they will soon file for bankruptcy. As soon as this news hits the public, people will start selling their shares of your company’s stock. You do not want the value of yours to drop, so you decide to sell your shares before news hits the larger populace.

Why is it a big deal?

This seemingly innocuous decision could actually compromise the integrity of the market, which is why insider trading is such a big deal. The market thrives on the trust that investors have in it. But what happens when investors feel like they cannot trust the market? They will begin to pull out, and refuse to buy more stocks.

In return, this devalues the worth of the stocks on a whole. If enough investors pull out and enough people lose faith in the market, the entire thing risks collapsing. Your single decision may not seem like a huge deal, but multiply that by every worker with access to inside information and it is easy to see how this could pose a problem. It also shows why strict regulation happens, and why insider trading gets treated so severely.