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Difficulty: HardInsider Trading and Misuse of Material Nonpublic Information

An IT network administrator employed at a corporate law firm discovers confidential acquisition documents on a staging server and shares the details with his brother during dinner. Although the network administrator executes no trades and receives no monetary kickback, his brother immediately purchases call options on the target firm and realizes significant profits. Under federal securities regulations, which of the following statements correctly evaluates their insider trading liability?

  1. Both the network administrator and his brother are liable for insider trading because the administrator breached a duty of trust by disclosing material nonpublic information and the brother traded while knowing the information was confidential.Answer
  2. B
    Only the brother is subject to liability because insider trading violations strictly require the execution of a securities transaction, fully releasing non-trading disclosers from legal recourse.
  3. C
    Only the network administrator is liable because third-party tippees who are not officers, directors, or employees of the corporate entities involved fall outside SEC enforcement jurisdiction.
  4. D
    Neither party is liable because law firm employees and their family members are governed solely by firm internal compliance policies rather than federal insider trading statutory prohibitions.

Answer

Both the network administrator and his brother are liable for insider trading because the administrator breached a duty of trust by disclosing material nonpublic information and the brother traded while knowing the information was confidential.
The correct option correctly identifies that both parties incur insider trading liability. The discloser (tipper) breaches a duty of trust by providing confidential acquisition data, while the receiver (tippee) assumes secondary liability by trading on information they knew was material and nonpublic.

Step-by-Step Solution

1
Analyze the status of the information disclosed
Unannounced merger details stored on a confidential server constitute material nonpublic information.
Information is material if a reasonable investor would consider it important in making an investment decision, and nonpublic until broadly disseminated to the public.
2
Evaluate tipper liability for the network administrator
The network administrator is liable as a tipper.
By disclosing confidential client information to a family member, the administrator breached his duty of trust/confidentiality owed to the law firm and its clients, fulfilling the legal standard for tipper liability even without trading or receiving direct financial gain.
3
Evaluate tippee liability for the brother who executed the trades
The brother is liable as a tippee.
A tippee inherits the duty not to trade if they know or should have known that the information was material, nonpublic, and passed in breach of a fiduciary duty or obligation of confidentiality.

Key Concept

Tipper and Tippee Liability under Insider Trading Regulations
Estimated Time:1m 30s
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Topics

Insider Trading and Misuse of Material Nonpublic Information