When the FBI Comes Calling…®

MCNABB ON SECURITIES FRAUD CRIMES

Securities Fraud euphemistically refers to several distinct criminal violations of 15 U.S.C. & 77 & 78. For instance, violations of federal law under today's applicable statutes include such acts as: 1) insider trading, 2) buying or selling securities not registered with the Securities and Exchange Commission, 3) willfully making false statements or omissions of fact in documents filed with the Securities and Exchange Commission, and/or 4) engaging in interstate communications with prospective purchasers of securities, where such communications employ any device, scheme, or artifice to defraud, or contain false statements or omissions of fact calculated to mislead. Securities fraud, like other forms of fraud seeks to accomplish a desired result through deception, trickery, concealment, and/or dishonesty.

This article will address the most prevalent form of securities fraud, insider trading, including a historical overview of the Securities Act of 1933, the Securities and Exchange Act of 1934 as well as the judicial evolution of insider trading law. The article will also discuss other securities fraud issues, which have reached the United States Supreme Court.

Insider trading involves transactions in the securities of some company executed by a company insider who makes use of any unpublished information for their own benefit. This information, if generally known, could reasonably be expected to substantially affect the securities value. Insiders profit by buying or selling in advance of the information becoming public. The typical insider includes owners, directors, officers or management of a company, a shareholder who owns or controls more than 10% of the shares of a company, as well as the lawyers, accountants, consultants, and other fiduciaries who are normally privy to unpublished material financial information1. Theoretically, anyone having nonpublic material financial information about a company may be considered an insider. Therefore, family, friends or employees of the individuals listed above could be considered insiders should they acquire the requisite information from an insider2.

With the exception of securities trading, almost all markets not only allow, but widely accept insider trading. Cattle buyers rely on superior estimates of what packers will pay when negotiating with ranchers, mineral leases are routinely acquired by those better able than the owner to evaluate a sites potential, and in virtually every other market a few buyers routinely profit from knowledge that most sellers do not possess. Of course, there are the few sellers who profit from information that most buyers do not possess3. In these markets, there is little or no regulation, no large governmental agency overseeing day-to-day trades, and very little chance of criminal charges being brought for insider trading.

The securities market, however, is treated differently. One argument against insider trading is that insiders should not be allowed to earn vast sums of money at the expense of the uninformed public4. Secondly, insider trading undermines public confidence in the securities market. People who fear insider traders will profit at their expense are unlikely to invest thus reducing the value of the security, and ultimately impeding economic growth. Further, companies prefer their securities to trade in markets with as many traders as possible thereby increasing the likelihood of substantial available capital5. An effective securities market requires a "level playing field" to avoid frightening away speculators, who could contribute to the securities market's liquidity as well as investors who could provide capital by investing their savings in markets with less risk of insider trading6. Studies suggest that countries with more prevalent insider trading have much more volatile securities markets7. Thus regulation of insider trading is thought to lessen the dramatic highs and lows of a given market.

The securities markets of the United States are regulated by the Securities and Exchange Commission, more commonly referred to as the SEC. The SEC came into existence as a regulatory agency with the enactment of the Securities and Exchange Act of 1934. Under this act, the authority to regulate the offer and sale of securities was removed from the Federal Trade Commission or FTC and entrusted with the SEC and its first chairman Joseph P. Kennedy8.9

The Enforcement Division of the SEC was established in 1972 in order to consolidate all enforcement activities which were being conducted by various divisions within the SEC 10. The Enforcement Division may conduct investigations into possible violations of securities laws, investigate civil proceedings, commence civil injunctions in federal court, seek monetary penalties, disgorgement of illegal profits, as well as disbarment or suspension of those acting as corporate traders or officers. The SEC, however, cannot prosecute criminal cases and must refer cases for criminal prosecution to the Department of Justice11.

The SEC's power to regulate securities is primarily derived from the Securities Act of 1933 and the Securities and Exchange Act of 1934. In the wake of the 1929 stock market crash and in response to reports of widespread abuses in the securities market, the 73rd Congress enacted these two landmark pieces of legislation. Both the 1933 and 1934 acts have a fundamental purpose of substituting a philosophy of full disclosure for the philosophy of "caveat emptor12"13 .

The Securities Act of 1933 was based on the Railroad Stock and Bond Bill of 1914. The Bond Bill as it was referred to, gave the Interstate Commerce Commission or ICC the power to stop railroads from issuing stocks and bonds without prior approval of the ICC. The Bond Bill's purpose was to prevent large railroad companies from issuing billions of dollars of stock, which were not based on or backed by company assets14.

In 1933 Supreme Court Justice Louis Brandies15 encouraged future Speaker of the House Sam Rayburn16 to expand control over the issuance of stocks and bonds to all corporations, not restricting it to just railroads. The 1933 Securities Act was originally called the Truth-in-Securities-Act. Displeased with the first two drafts of the proposed legislation, Representative Rayburn called on Harvard Law professor and future Supreme Court Justice Felix Frankfurter17 who assembled a team of lawyers18 and just three days after commencing work, produced the draft which would become the Securities Act of 1933. Wall Street firms strongly opposed enactment of the legislation fearing it would severely inhibit the growth of the market19.

The 1933 Act relates to the registration of primary and secondary offerings of securities with emphasis placed on full disclosure of all material facts. It pertains to the issuer, its officers, directors, and to the securities being offered. The Act describes fraudulent and deceitful conduct, providing express and implied remedies for those defrauded20.

Hoping to expand the concept of maintaining private competition through regulatory agencies, Speaker Rayburn asked Benjamin V. Cohen and Thomas C. Corcoran to draft what would become the Securities and Exchange Act of 1934. Wall Street again opposed any additional legislation and responded accordingly. Richard Whitney21, then president of the New York Stock Exchange proclaimed the legislation would be a "natural disaster" and would "dry up" the securities market. However, mounting Wall Street scandals coupled with Joseph P. Kennedy's personal intervention prevented any substantial opposition and the legislation passed.

The Securities Exchange Act of 1934 Act relates to the registration and regulation of the national securities exchanges, over-the-counter markets, brokers, dealers, and securities associations. Further, this act also describes fraudulent and deceitful practices including both a general fraud provision as well as noting specific acts and practices22.

The 1934 Act addressed insider trading directly through Section 10(b). Section 10(b) of the Act prohibits the use "in connection with the purchase or sale of any security...of any manipulative or deceptive device in contravention of such rules and regulations as the SEC prescribes.23" Section 10(b) was designed as a catchall clause to prevent fraudulent practices. To implement Section 10(b), the SEC in 1942 adopted Rule 10(b)-5, which makes it unlawful for any person to "employ any device, scheme, or artifice to defraud," or to "engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.24"

Section 10(b) and Rule 10(b)-5 have played a vital role in the prosecution of insider trading. Rule 10(b)-5 is the most widely litigated criminal provision of the federal securities laws25. Both 10(b) and 10(b)-5 were relatively easy to apply to the corporate insider who secretly traded in his own company's stock while in possession of inside information because such behavior fit within the traditional notions of fraud26. However, the SEC was unclear on prohibitions by a corporate outsider. In 1961, the SEC broadly construed the provisions of 10(b) and 10(b)-5 holding that the duty or obligations of he corporate insider could attach to persons outside the corporate insider's realm in certain circumstances27. Thus someone not a corporate insider who traded while in possession of nonpublic information received from an insider violated Rule 10(b)-5.

The SEC also adopted the "disclose or abstain rule." This rule required insiders and those who would come to be known as "temporary" or "constructive" insiders, who possessed material nonpublic information to disclose the information to the public prior to trading or abstain from trading until the information is publicly disseminated28.

Several years later the 2nd Circuit adopted the broadest interpretation of what constituted insider trading yet decided29. This interpretation expressed the view that no one should be allowed to trade with the benefit of inside information because it operates as a fraud on all other buyers and sellers in the market30. Thus it did not matter where, how, or from whom the information originated. The fact that the information was nondisclosed and that someone traded on it was sufficient to constitute a securities violation.

This broad standard remained until the United States Supreme Court case of Chiarella v. United States, 445 U.S. 222 (1980). There in 1975 and 1976, the defendant, a printer by trade, worked as a "markup man" in the New York composing room of Pandick Press, a financial printer. Among documents that the defendant handled were five announcements of corporate takeover bids. When these documents were delivered to the printer, the identities of the acquiring and target corporations were concealed by blank spaces or false names. The true names were sent to the printer on the night of the final printing. The defendant, however, was able to deduce the names of the target companies before the final printing from other information contained in the documents. Without disclosing his knowledge, defendant purchased stock in the target companies and sold the shares immediately after the takeover attempts were made public. By this method, the defendant realized a gain of slightly more than $30,000 in the course of 14 months. Subsequently, the SEC began an investigation of his trading activities. In May 1977, the defendant entered into a consent decree with the SEC in which he agreed to return his profits to the sellers of the shares. On the same day, Pandick Press discharged him. In January 1978, the defendant was indicted on 17 counts of violating Section 10(b) and Rule 10b-5. After the defendant unsuccessfully moved to dismiss the indictment, he was brought to trial and convicted on all counts31.

The U.S. Supreme Court reversed the conviction of the defendant holding that while Section 10(b) and Rule 10(b)-5 may be a catchall for fraud, if there is no duty to disclose, there can be no fraud32. Further, merely trading on material nonpublic information by itself was insufficient to establish criminal activity. The person receiving the information must have a relationship of trust and confidence with the party supplying the information before being prohibited from trading33.

The United States Supreme Court further refined "Tipper34" to "Tippee35" criteria three years later. Therefore, the relationship between the "Tippee" and the "Tipper" requires examination. Some "Tippees" must assume an insider "Tipper's" duty to the shareholders not because the "Tippee" receives inside information, but because it has improperly been made available to them. So the question is, "When does a "Tippee" assume the inside "Tipper's" duty?" For a "Tippee", the assumption of a fiduciary duty36 to the shareholders of a corporation not to trade on material nonpublic information arises only when: (1) the insider has breached the fiduciary duty to the shareholders, (2) by disclosing the information to the "Tippee", and (3) the "Tippee" knows or should have known there has been a breach37.

The obvious next question is "When is the inside "Tipper" under an obligation to disclose or abstain?" To answer this question, it is necessary to determine when the insider's "tip" effectuates a breach of the insider's fiduciary duty. Not all disclosures of confidential corporate information violate the insider's duty owed to shareholders. The determination of whether disclosure by the insider is a breach of duty depends on the purpose of the disclosure. Should the insider reveal information for personal advantage, this would amount to a breach of duty. The personal benefit could be direct or indirect, such as a pecuniary gain or a reputational benefit that will translate into future earnings. Absent some personal gain, there is no duty to the stockholders and therefore if there is no insider breach, there can be no derivative breach38.

These two holdings by the U.S. Supreme Court narrowed the scope of Section 10(b) and Rule 10(b)-5 within the context of insider trading. Responding to the Chiarella v. United States, decision, the SEC developed Rule 14(e)-3. The "anti-Chiarella" rules, Section 14 of the 1934 Securities Act, through Rule 14(e)-3, make it illegal for anyone to trade on the basis of material nonpublic information regarding tender offers39 if they knew the information emanated from an insider. Rule 14(e)-3's purpose was to remove the Chiarella duty requirement in the tender offer context where insider trading is most attractive and especially disruptive40.

Chief Justice Burger41 in Chiarella v. United States, clairvoyantly determined that the majority opinion had left open the question of whether Section 10(b) and Rule 10(b)-5 prohibited trading on misappropriated nonpublic information42. The Chief Justice indicated he would interpret 10(b) and 10(b)-5 to mean, "that a person who had misappropriated nonpublic information has an absolute duty to disclose that information or to refrain from trading." He believed the broad language of 10(b) and 10(b)-5 plainly supported such a reading and that Congress could not have intended one standard for "white collar" insiders and another for "blue collar" insiders43.

Seventeen years later, the United States Supreme Court addressed the "misappropriation theory" as it had come to be known, in United States v. O'Hagan, 521 U.S. 647 (1997). In O'Hagan, the defendant was a partner in the law firm of Dorsey & Whitney in Minneapolis, Minnesota. In July 1988, Grand Metropolitan PLC (Grand Met), a company based in London, England, retained Dorsey & Whitney as local counsel to represent Grand Met regarding a potential tender offer for the common stock of the Pillsbury Company, headquartered in Minneapolis. Both Grand Met and Dorsey & Whitney took precautions to protect the confidentiality of Grand Met's tender offer plans. The defendant did no work on the Grand Met representation. Dorsey & Whitney withdrew from representing Grand Met on September 9, 1988. Less than a month later, on October 4, 1988, Grand Met publicly announced its tender offer for Pillsbury stock.

On August 18, 1988, while Dorsey & Whitney was still representing Grand Met, the defendant began purchasing call options for Pillsbury stock. Each option gave him the right to purchase 100 shares of Pillsbury stock by a specified date in September 1988. Later in August and in September, the defendant made additional purchases of Pillsbury call options. By the end of September, he owned 2,500 unexpired Pillsbury options, apparently more than any other individual investor. The defendant also purchased, in September 1988, some 5,000 shares of Pillsbury common stock, at a price just under $39 per share. When Grand Met announced its tender offer in October, the price of Pillsbury stock rose to nearly $60 per share. The defendant then sold his Pillsbury call options and common stock, making a profit of more than $4.3 million.

The SEC initiated an investigation into the defendant's transactions, culminating in a 57-count indictment. The indictment alleged that the defendant defrauded his law firm and its client, Grand Met, by using for his own trading purposes material, nonpublic information regarding Grand Met's planned tender offer. According to the indictment, the defendant used the profits he gained through this trading to conceal his previous embezzlement and conversion of unrelated client trust funds44.

The U.S. Supreme Court resolved a disparity among the Courts of Appeals, upheld the defendant's convictions and adopted the "misappropriation theory" further defining the scope of Rule 10(b)-5's insider trading prohibitions. The "misappropriation theory" holds that a person commits fraud "in connection with" a securities transaction, thus violating Section 10(b) and Rule 10(b)-5, when he misappropriates confidential information for securities trading purposes, in breach of a duty owed to the source of the information. A company's confidential information qualifies as property to which the company has a right of exclusive use. The undisclosed misappropriation of such information, in violation of a fiduciary duty constitutes fraud akin to embezzlement. Under this theory, a fiduciary's undisclosed, self-serving use of a principal's information to purchase or sell securities, in breach of a duty of loyalty and confidentiality defrauds the principal of the exclusive use of that information45.

In reaching their decision to adopt the "misappropriation theory", the U.S. Supreme Court reasoned that Chiarella's "classical theory" of insider trading, which targeted a corporate insider's breach of duty to shareholders with whom the insider transacts, was complementary to the "misappropriation theory" in that each addressed efforts to capitalize on nonpublic information through the purchase and sale of securities. The "misappropriation theory" outlaws trading on the basis of nonpublic information by a corporate outsider in a breach of duty owed not to a trading party, but to the source of the information. Thus, the "misappropriation theory" is designed to protect the integrity of the securities markets against abuses by outsiders to the corporation who have access to confidential information able to affect corporation's security price when revealed, but who owe no fiduciary or any other type of duty to the corporation's shareholders46. This means a Rule 10(b)-5 criminal violation occurs when someone misappropriates and trades on material nondisclosed information by breaking a relationship of trust and confidence or some other recognized duty though that person does not have a direct fiduciary relationship with the company or the stockholders.

Included in the O'Hagan opinion were: (1) means by which a person could trade upon information gained as a result of their relationship with a company and (2) safeguards to protect against indefinite criminal prosecutions. First, full disclosure forecloses criminality under the "misappropriation theory." The deception essential to the "misappropriation theory" involves "feigning fidelity" to the source of the information. Thus, full disclosure to the source of the information that one plans to trade on the nonpublic information eliminates the "deceptive device" and precludes a Section 10(b) violation. However, the "fiduciary turned trader" may remain accountable under state law for breach of the duty of loyalty47. Second, to ensure that only those with the specific intent to defy Rule 10(b)-5 are prosecuted, the government must prove beyond a reasonable doubt that a person "willfully" violated the provision to establish a criminal violation. Further, a defendant may not be imprisoned for breaking Rule 10(b)-5 if he proves that he had no knowledge of the rule48.

The rules and regulations encompassing insider trading are primarily concerned with protecting investors and maintaining the integrity of the securities markets. However, the Securities Act of 1933 and the Securities and Exchange Act of 1934 are not limited to those two purposes. In United States v. Naftalin, 441 U.S. 768 (1979) the U.S. Supreme Court resolved the issue of who the Acts protected when fraudulent activity surrounding securities trading came to light. In Naftalin, the defendant was the president of a registered broker-dealer firm and a professional investor. Between July and August 1969, he engaged in a "short selling49" scheme. He selected stocks that, in his judgment, had peaked in price and were entering into a period of market decline. He then placed with five brokers orders to sell shares of these stocks, although he did not own the shares he purported to sell. Gambling that the price of the securities would decline substantially before he was required to deliver them, the defendant planned to make offsetting purchases through other brokers at lower prices. He intended to take as profit the difference between the price at which he sold and the price at which he covered. The defendant was aware, however, that had the brokers who executed his sell orders known that he did not own the securities, they either would not have accepted the orders, or would have required a margin deposit. He therefore falsely represented that he owned the shares he directed them to sell.

Unfortunately for the defendant, the market prices of the securities he "sold" did not fall prior to the delivery date, but instead rose sharply. He was unable to make covering purchases, and never delivered the promised securities. Consequently, the five brokers were unable to deliver the stock, which they had "sold" to investors, and were forced to borrow stock to keep their delivery promises. Then, in order to return the borrowed stock, the brokers had to purchase replacement shares on the open market at the now higher prices, a process known as "buying in." While the investors to whom the stocks were sold were thereby shielded from direct injury, the five brokers suffered substantial financial losses50.

The United States District Court for the District of Minnesota found the defendant guilty on eight counts of employing "a scheme and artifice to defraud" in the sale of securities, in violation of Section 17 (a)(1). Although the Court of Appeals for the Eighth Circuit found the evidence sufficient to establish that the defendant had committed fraud, they nonetheless vacated his convictions. The Court of Appeals held that the purpose of the Securities Act "was to protect investors from fraudulent practices in the sale of securities." The court also held that "the government must prove some impact of the scheme on an investor." Since the defendant's fraud injured only brokers and not investors, the Court of Appeals concluded that the defendant did not violate Section 17(a)(1)51.

The defendant did not dispute the fact that he falsely represented he owned the stock he sold and defrauded the brokers who executed his sales. He contended only that Section 17(a) applied only to frauds against investors, and not to the brokers he defrauded.

The U.S. Supreme Court held nothing in subsection (1) of Section 17(a) creates a requirement that injury occur to a purchaser. The defendant nonetheless urges that the phrase, "upon the purchaser," found only in subsection (3) of Section 17(a), should be read into all three subsections. The short answer is that Congress did not write the statute that way. Indeed, the fact that it did not provides strong affirmative evidence that while impact upon a purchaser may be relevant to prosecutions brought under Section 17(a)(3), it is not required for those brought under Section 17(a)(1). Congress's primary contemplation was that regulation of the securities markets might help set the economy on the road to recovery. Prevention of frauds against investors was surely a key part of the legislation but so was the effort to achieve a "high standard of business ethics in every facet of the securities market.52"

The United States Supreme Court further defined the scope of Section 17(a) in Rubin v. United States, 449 U.S. 424 (1981). In Rubin, late in 1972, the defendant became vice president of Tri-State Energy Inc., a corporation holding itself out as involved in energy exploration and production. At the time, Tri-State was experiencing serious financial problems. The defendant approached Bankers Trust Co., a bank with which he had frequently dealt while he had been affiliated with an accounting firm. Bankers Trust initially refused a $5 million loan to Tri-State for operating a mine. The bank did eventually lend Tri-State $50,000 on October 20, 1972, for 30 days with the understanding that if Tri-State could produce adequate financial information and sufficient collateral, additional financing might be available.

The defendant assisted other officers of Tri-State in preparing a financial statement for submission to the bank. The balance sheet, which listed a net worth of $7.1 million, was false and misleading in several respects. Tri-State also submitted inflated projections of future earnings based in large measure on sham contracts and forged documentation. Subsequently, the defendant personally paid the loan officer $4,000 and another official $1,000 as inducements for further loans. Tri-State borrowed an additional $425,000 over a brief period. Ultimately, the loans were consolidated into a single demand note for $475,000, dated February 26, 197353.

Tri-State pledged stock in six companies. The stocks were represented as being good, marketable, and unrestricted with a value of approximately $1.7 million but were in fact, practically worthless. "Shell" companies issued many shares. Most were simply borrowed from the owner for a fee to show to the bank or were otherwise restricted. In one instance, the defendant arranged for fictitious quotations to appear in a service reporting over-the-counter transactions and used by the bank in evaluating pledged securities. In another instance, Tri-State planted, through others, a fictitious advertisement in an overseas newspaper and showed it to the bank, representing it to be a quotation. Trading of one issue was suspended shortly after the pledge when the issuing company could not account for 900,000 shares of its stock. Tri-State replaced this collateral before Bankers Trust learned of the difficulty. The defendant acted as Tri-State's agent for most of these transactions54.

A Justice Department request for information about Tri-State received on February 28, two days after the consolidated note was signed, prompted Bankers Trust on March 5 to demand payment in full within three days. No payment of this demand was made, and in May another officer of Tri-State met with bank officials and tried to forestall foreclosure. After rejecting Tri-State's request for a further loan, the bank sued on the note55.

Bankers Trust also proceeded against the defendant personally as a guarantor of the loans. The defendant signed a confession of judgment against himself in the amount of the unpaid loans, plus accrued interest, but thereafter filed a petition for bankruptcy. The bank recovered only about $2,500, plus interest and expenses, on its $475,000 loan. The defendant was indicted on three counts of violating and conspiring to violate various federal antifraud statutes, including Section 17(a) of the Securities Act of 1933, 15 U. S. C. & 77q (a)56.

The sole issue in Rubin was whether a pledge of stock to a bank as collateral for a loan is an "offer" or "sale" of a security under 17(a) of the Securities Act of 1933. As in Naftalin, the defendant did not deny that he engaged in fraudulent activity through his false representations to Bankers Trust. His sole argument was that the pledge of stock did not amount to an "offer" or "sale" and thus he could not be prosecuted under Section 17(a).

The U.S. Supreme Court held that obtaining a loan secured by a pledge of shares of stock unmistakably involves a "disposition of an interest in a security, for value." Although a pledge transfers less than absolute title, the interest thus transferred nonetheless is an "interest in a security." The pledges contemplated a self-executing procedure under a power that could, at the option of the bank in the event of a default, vest absolute title and ownership. It is not essential under the terms of the Act that full title pass to a transferee for the transaction to be an "offer" or a "sale.57"

There is no doubt insider trading law will continue to evolve. Indeed many unanswered questions remain. For instance, the U.S. Supreme Court provided no guidance as to what "recognized duties and relationships" would give rise to criminal prosecutions. Whether the U.S. Supreme Court will expand the scope of Section 10(b) and Rule 10(b)-5 as it did in O'Hagan or narrow them as it did in Chiarella is a question which only time will tell. Further, with the proliferation of securities ownership in recent years coupled with the technological advances, which dramatically increase the flow of information as well as facilitating trades, it is a forgone conclusion that the high court will address a plethora of issues in the realm of securities fraud.


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When the FBI Comes Calling. . . You May Be Charged with Securities Fraud Crimes

See a list of Supreme Court cases relating to securities fraud.

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FOOTNOTES

¹See Dirks v. SEC, 463 U.S. 646, 655 (1983). Back to article.

²Id. Back to article.

³David D. Haddock, "Insider Trading" The Concise Encyclopedia of Economics. Library of Economics and Liberty (Visited Sept. 11, 2002) . Back to article.

⁴Id. Back to article.

⁵Id. Back to article.

⁶Id. Back to article.

⁷See Julan Du and Shang-Jin Wei, Does Insider Trading Raise Market Volatility? (2002). Back to article.

⁸Kennedy, Joseph Patrick, 1888-1969, U.S. ambassador to Great Britain (1937-40), born in Boston, Massachusetts, grad. Harvard in 1912, father of John F. Kennedy, Robert F. Kennedy, and Edward M. Kennedy. He engaged in banking, shipbuilding, investment banking, and motion-picture distribution before he served (1934-35) as chairman of the Securities and Exchange Commission. He was (1936-37) head of the U.S. Maritime Commission until his appointment as ambassador. In London he supported the overtures of the Chamberlain government to Hitler and was generally noninterventionist. He resigned as ambassador in Nov. 1940. In his later years he continued to be successful in business (notably real estate) and devoted considerable time to philanthropic activities, especially the Joseph P. Kennedy, Jr., Memorial Foundation, dedicated to his eldest son, who died in World War II. Back to article.

⁹Marvin G. Pickholz, Securities Crimes 1-2 (1995). Back to article.

¹⁰See SEC Enforcement Division (Visited Sept. 12, 2002) http://www.sec.gov/divisions/enforce/about.htm. Back to article.

¹¹Id. Back to article.

¹²Buyer Beware. Back to article.

¹³Central Bank v. First Interstate Bank, 511 U.S. 164, 169 (1994). Back to article.

¹⁴Pickholz, supra at 1-3. Back to article.

¹⁵Louis Dembitz Brandeis was born in Louisville, Kentucky on 13th November 1856. He was educated in Louisville and Dresden, Germany before graduating from Harvard University in 1877. He worked as a lawyer in Boston where he illustrated a strong sympathy for the trade union movement and women's rights. This included him working without fees to fight for causes he believed in such as the minimum wage and anti-trust legislation. In 1916 Brandeis was appointed to the United States Supreme Court. Over the years Brandeis was a strong advocate of individual rights and freedom of speech. This included his opposition to the Espionage Act passed during the First World War.

Brandeis was often aligned with his friend, Oliver Wendell Holmes, in his decisions on the Supreme Court. He favored government intervention to control the economy and therefore defended most of the New Deal legislation that was introduced by Franklin D. Roosevelt during his period as president. However, Brandeis did argue that the National Recovery Administration (NRA) was unconstitutional. Louis Brandeis, who retired in February 1939, died in Washington on 5th October 1941. Back to article.

¹⁶Sam Rayburn, Texas legislator, congressman, and longtime speaker of the United States House of Representatives, was born near the Clinch River in Roane County, eastern Tennessee, on January 6, 1882, son of William Marion and Martha (Waller) Rayburn. In 1887 the family moved from Tennessee to a forty-acre cotton farm near Windom in Fannin County, Texas. Bonham, in the same county, eventually became Rayburn's permanent residence.

In 1906 Rayburn won a seat in the Texas House of Representatives; he attended the University of Texas law school between legislative sessions and was admitted to the State Bar of Texas in 1908. He was reelected to the state legislature in 1908 and 1910; in his third term he served as speaker of the Texas House. In 1912 he was elected to the United States Congress as a Democrat from the Fourth Texas District. His oath of office on April 7, 1913, as a member of the House of Representatives marked the beginning of more than forty-eight years of continuous service, the longest record of service in the House ever established (at the time of his death in 1961). He became majority leader in the Seventy-fifth and Seventy-sixth congresses (1937-40) and in 1940 was elected speaker of the House to fill the unexpired term of Speaker William B. Bankhead. Rayburn continued as speaker of the United States House of Representatives in every Democratic-controlled Congress from the Seventy-sixth through the Eighty-seventh (1940-61). Back to article.

¹⁷Frankfurter, Felix, 1882-1965, Associate Justice of the U.S. Supreme Court (1939-62), born in Vienna, Austria. He immigrated to the United States as a boy and later received (1906) his law degree from Harvard law school. He was assistant U.S. attorney (1906-10) in New York state and legal officer (1911-14) in the Bureau of Insular Affairs. A professor (1914-39) at Harvard law school, Frankfurter was also active during these years outside the academic world. A frequent appointee to special government posts, he fought for the release of Sacco and Vanzetti, helped found the American Civil Liberties Union, and gave legal advice to Franklin D. Roosevelt when he served as governor of New York (1929-1932). When Roosevelt became president he often consulted Frankfurter about the legal implication of his New Deal legislation. His appointment to the U.S. Supreme Court brought a man of marked liberal tendencies to the high bench; but Frankfurter was also a firm adherent of judicial restraint. Although much concerned with fair legal procedure, he upheld legislation limiting civil liberties in the belief that the government has a right to protect itself through investigative committees and legislation, and that the court must exercise self-restraint in interfering with the popular will as expressed by its representatives. Back to article.

¹⁸Frankfurter's team consisted of James M. Landis, Benjamin V. Cohen, and Thomas G. Corcoran. Back to article.

¹⁹Pickholz, supra at 1-3. Back to article.

²⁰Id. at 1-5-1-6. Back to article.

²¹Richard Whitney (Aug. 1, 1888 - Dec 5, 1974), banker, investment counselor, and embezzler, was born in Beverly, Mass. Whitney graduated from Groton and from Harvard. He moved to New York City in 1910 and became a member of the New York Stock Exchange in 1912, at the age of twenty-three. Soon afterward he was principal broker for J. P. Morgan and Company. During WWI, Whitney was a dollar-per-year executive for the Food Administration, headed by Herbert Hoover, in Washington, D.C. In 1919 he was elected to the governing board of the New York Stock Exchange. Whitney served on virtually every significant committee of the exchange, including the business conduct committee. He served five terms as president of the exchange beginning in 1930. During this time he was the spokesperson for "the Old Guard," which came increasingly under attack from the newly created Securities and Exchange Commission, a part of the New Deal of Franklin Roosevelt. He appeared as a witness at congressional hearings throughout the period from 1932 to 1935.

In March 1938, his world collapsed. Investigation of his affairs demonstrated that he had been borrowing against funds in his trust since at least 1926. He was indicated on one count of misuse of funds, from his father-in-law's estate, and pled guilty as charged. He served three years and four months of a five-to-ten-year sentence in Sing Sing. Whitney died in Short Hills, N. J. Back to article.

²²Id. at 1-6. Back to article.

²³Chiarella v. United States, 445 U.S. 222 (1980). Back to article.

²⁴Id. Back to article.

²⁵Pickholz, supra at 6-47, 6-51. Back to article.

²⁶Thomas C. Newkirk and Melissa A. Robertson, Insider Trading: A U.S. Perspective, Speech by SEC staff, Before the 16th International Symposium on Economic Crime (Sept. 19, 1998), in at 5. Back to article.

²⁷See In Re Cady, Roberts & Co. v. SEC 40 SEC 907, 912 (1961). Back to article.

²⁸Newkirk and Robertson, supra at 5-6. Back to article.

²⁹See SEC v. Texas Gulf Sulphur Co., 401 F2nd 833 (2nd Cir.) 1968, cert denied, 394 U.S. 976 (1969). Back to article.

³⁰Id. at 851-852. Back to article.

³¹Chiarella, 445 U.S. at 224-225. Back to article.

³²Id. at 235. Back to article.

³³Id. at 230. Back to article.

³⁴The Source of Information. Back to article.

³⁵One Who Receives Information from an Inside Tipper. Back to article.

³⁶A duty of utmost good faith and fair dealing, trust, confidence, and candor owed by a fiduciary (such as a lawyer, corporate officer, or agent) to the beneficiary (such as the lawyer's client, the shareholders of a corporation, or the principal). This is a duty to act with the highest degree of honesty and loyalty toward another person and in that person's best interest even when that entails not acting in the fiduciary's best interest. Black's Law Dictionary 410 (7th ed. 2000). Back to article.

³⁷Dirks, 463 U.S. at 660. Back to article.

³⁸Id. at 661-663. Back to article.

³⁹In Corporate law, an offer to purchase all shares of stock of a corporation, up to a specific number, tendered by shareholders within a specific period at a fixed price, usually at a premium above the market price. Tender offers are usually made by a party seeking to take control of a corporation and are often followed by a merger proposal. Black's Law Dictionary 1193 (7th ed. 2000). Back to article.

⁴⁰Newkirk and Robertson, supra at 6. Back to article.

⁴¹Burger, Warren Earl, 1907-95, fifteenth Chief Justice of the United States (1969-86), born in St. Paul, Minn. After receiving his law degree in 1931 from St. Paul College of Law (now Mitchell College of Law), he was admitted to the Minnesota bar and taught and practiced law in St. Paul. He was (1953-56) assistant attorney general in charge of the civil division of the Department of Justice before becoming judge of the U.S. Court of Appeals for the District of Columbia. Appointed to head the Supreme Court by President Nixon, and perceived as a conservative and an advocate of judicial restraint, Burger was less forceful than had been expected in limiting or reversing the liberal decisions of the court headed by his predecessor Earl Warren. He was a consistent advocate for administrative reform in the court system. Back to article.

⁴²Chiarella, 445 U.S. at 243. Back to article.

⁴³Id. at 240. Back to article.

⁴⁴United States v. O'Hagan, 521 U.S. 647, 648 (1997). Back to article.

⁴⁵Id. at 652 & 654. Back to article.

⁴⁶Id. at 652-653. Back to article.

⁴⁷Id. at 655. Back to article.

⁴⁸Id. at 665-666. Back to article.

⁴⁹A sale of a security that the seller does not own or has not contracted for at the time of the sale, and that the seller must borrow to make delivery. Such a sale is usually made when the seller expects the securities price to drop. If the price does drop, the seller realizes a profit on the difference between the price of the shares sold and the lower price of the shares bought to pay back the borrowed shares. Black's Law Dictionary 1075 (7th ed. 2000). Back to article.

⁵⁰United States v. Naftalin, 441 U.S. 768, 770-771 (1979). Back to article.

⁵¹Id. at 771. Back to article.

⁵²Id. at 773-776. Back to article.

⁵³Rubin v. United States, 449 U.S. 424, 425-426 (1981). Back to article.

⁵⁴Id. at 426-427. Back to article.

⁵⁵Id. at 427. Back to article.

⁵⁶Id. Back to article.

⁵⁷Id. at 429-430. Back to article.

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