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Question

Difficulty: EasyInsider Trading and Misuse of Material Nonpublic Information

An individual who is not employed by a publicly traded company receives a confidential tip about an upcoming acquisition from an executive of that company and subsequently trades on the information. Which of the following statements correctly describes the legal status of the individual under federal insider trading regulations?

  1. The individual can be held liable for insider trading as a tippee because trading on material nonpublic information provided in breach of a duty is illegal regardless of employment status.Answer
  2. B
    The individual cannot be held liable for insider trading because tippee liability applies exclusively to direct employees of the issuing corporation.
  3. C
    The individual is exempt from prosecution unless they are registered as an insider with the Securities and Exchange Commission prior to the trade.
  4. D
    The individual bears no legal responsibility because liability for illegal insider trading rests solely on the corporate insider who disclosed the information.

Answer

The individual can be held liable for insider trading as a tippee because trading on material nonpublic information provided in breach of a duty is illegal regardless of employment status.
Under federal insider trading regulations, any individual who receives material nonpublic information from a corporate insider (tipper) and executes trades based on that information can be held liable as a tippee. Employment status at the target firm is not a prerequisite for insider trading liability.

Step-by-Step Solution

1
Analyze the nature of the information and the relationship of the parties.
The corporate executive passed confidential, material nonpublic information in breach of a fiduciary duty, and the recipient traded on it.
Under Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5, misusing material nonpublic information for stock trading constitutes securities fraud.
2
Determine tippee liability rules under federal securities law.
Employment with the subject company is not required to establish liability.
A tippee assumes a fiduciary duty not to trade when they receive material nonpublic information knowing it was improperly disclosed.

Key Concept

Tippee Liability for Misuse of Material Nonpublic Information
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Topics

Insider Trading and Misuse of Material Nonpublic Information