SEC’s New Insider “Shadow Trading” Theory Survives Its First Test | Troutman Pepper

The Securities and Exchange Commission (SEC) is testing the limits of insider trading laws (as previously reported here), and it recently survived the first challenge of its latest theory. On January 14, the US District Court for the Northern District of California issued a ruling in SEC Banoat, No. 3: 21-cv-06322-WHO (ND Cal.), supports the Securities and Exchange Commission’s legal theory that “shadow trading” can violate the securities law(s). [1]

SEC Banoat

in a Banuat, the Securities and Exchange Commission alleged that Matthew Panwat was a senior manager at Medivation, Inc. – “A mid-sized biopharmaceutical company focused on oncology.” Panuwat’s job responsibilities included working closely with other executives and with investment bankers to explore Medivation options for merging with another company. Minutes after Medivation Panuwat CEO and other executives advised that Pfizer, Inc. , wanted to acquire Medivation, Panuwat bought call options in a company called Incyte, Inc.

After the Medivation-Pfizer merger was announced, Medivation’s stock price jumped 20%, and shares of other mid-cap biopharmaceutical companies, including Incyte, also soared. As a result of his call options, Panuwat made $10,766 in profit. On August 17, 2021, the Securities and Exchange Commission filed a lawsuit, alleging that Panuwat violated Section 10(b) of the Exchange Act and Rule 10b-5 by purchasing Incyte options after learning of Medivation’s potential merger with Pfizer.

Banat movement of rejection

Banawat moved to dismiss the SEC’s lawsuit and assert that the complaint failed to adequately advance: (1) that the information in question was material and not public; (2) That Banawat violated his duty to meditate. and (3) that Banawat acted with knowledge. Panuwat also emphasized that the new SEC theory improperly seeks to expand the securities laws and would infringe on Panuwat’s due process rights.

The court rejected both of these arguments. The court found that the general language of securities laws allows inside information of one company to be material to more than one company, arguing that the laws broadly prohibit insider trading”Which security “using”Which Fraudulent or deceptive device. “The court noted that there is nothing in the laws that stipulate that information ‘about that bond or issuer’ must come from the same security or be material by the issuer itself.

The court also rejected Banawat’s argument that he had not breached his duty to Medivation by trading Incyte securities. The court explained that Medivation’s King Insider trading policy broadly prohibits trading in “the securities of another publicly listed company,” including Incyte. The court also found that the Securities and Exchange Commission had sufficiently alleged that Panuwat acted with Scienter because the allegations in the complaint — that Panuwat purchased Incyte shares within minutes of receiving the email indicating that a deal with Pfizer was imminent — were sufficient circumstantial evidence. To indicate that Panuwat acted with the required knowledge.

Finally, the court dismissed Panuwat’s argument that the SEC’s claim – “those confidential acquisition-related information involving Company A should also be considered material to Company B (and presumably Companies C, D, E, etc.) operating in the same general industry” – expands the theory Misappropriation beyond due process. While the court held that the SEC lawsuit follows a theory that is the first of its kind, the court found that the expanded language of Section 10(b) allows such action. The court held that the scope of the law was not infinite, but instead “science and materiality provide adequate barriers of protection for commercial liability from within”.


the Banuat The decision was limited to the facts before the court – an employee in a unique position used material non-public information about his employer to profit from trading in the securities of a peer company in a niche market – and was simply a refusal of a request for dismissal.

However, the Court’s analysis and conclusion can also be taken as judicial support for an expanded interpretation of Section 10B and Rule 10B-5 that could extend to other cases of “shadow trading.” Businesses and individuals will need to carefully consider the extent of Banuat The analysis can apply to other facts and whether insider trading policies should be reviewed in light of Banuat.

calendar Banuat It would likely dictate whether courts were required to determine more what constituted impermissible “shadow trading,” but a slight difference in facts could have dramatically changed the outcome in this case: What if Panuwat bought securities in one of my suppliers or customers Medivation might be affected by a merger, buy securities in a large or small “oncology-focused biopharma company,” or buy shares in a fund with holdings consisting of oncology-focused biopharmaceutical companies that were not all of Medivation’s close competitors? Expect courts to deal with scoping of shadow trading if the Securities and Exchange Commission Banuat Test case succeeds.

Alternatively, since the court upheld its decision based on Medivation’s insider trading policy, what if Medivation had a narrower policy that did not mention other companies or if it did not have an insider trading policy? In such cases, can the Securities and Exchange Commission pursue a case? It appears that this liability theory that relies on the language of employer insider trading to be unequal, unfair and unsustainable will come into focus as this theory is still subject to judicial review.

[1] “Shadow trading” is a term referring to the practice in which corporate insiders use confidential, non-public information to facilitate trade in economically related companies in an effort to avoid internal trade laws. We see Mehta, Reb and Zaw, “Shadow Trading”, 96 accounts. Rev. 367 (2021), Available here.

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