Do Insiders Influence Insider Trading Laws?
The Securities and Exchange Commission’s (SEC) Rule 10b5-1, a regulation devised to clarify existing insider trading prohibitions, gives executives a way to legally plan trades of their company’s stock when they do not possess any relevant, non-public information. But research conducted by Penn State Smeal College of Business accounting researchers shows that insiders had significant influence on the parameters of Rule 10b5-1 in favor of less stringent regulations.
In a paper titled “The social constitution of regulation: The endogenization of insider trading laws,” Penn State Smeal College of Business accounting professors Mark Dirsmith and Steven Huddart as well as Ohio State’s Zahn Bozanic, former Smeal Ph.D. student, pose that, by advocating for provisions related to planned trades, executives had significant influence to devise for themselves an affirmative defense against prosecution for insider trading violations.
The regulated parties sought to socially construct a “more specific, albeit less stringent form of regulation by, for example, advocating ‘affirmative defenses’ and ‘safe harbor’ provisions within its architecture,” write Dirsmith, Huddart, and Bozanic.
A content analysis of the evolution of insider trading regulation conducted by the authors shows that the SEC was most responsive to advocacy from those regulated. In fact, the two groups who had the most effect on Rule 10b5-1 revisions were legal professionals and the securities and investment industry. This analysis showed evidence that Rule 10b5-1 was heavily influenced by and in favor of those the rule sets out to regulate.
While, positively, this suggests government responsiveness to those regulated, it also appears that the responsiveness may be differentially applied to those who stand to benefit: “Despite the rhetoric surrounding the regulation of insider trading, the SEC was quite, almost solely, responsive to the position of those regulated whose goals were survival, profits and growth, and values revolved around open markets unfettered by burdensome regulations,” write the authors.
Mark W. Dirsmith is the Deloitte & Touche Professor of Accounting and Steven Huddart is the Smeal Chair Professor in Accounting and the Department Chair of Accounting at Penn State’s Smeal College of Business. Zahn Bozanic is an assistant professor of accounting & MIS at the Ohio State University who recently earned a Smeal Ph.D. in accounting. Their paper, “The social constitution of regulation: The endogenization of insider trading laws,” appeared in the journal Accounting, Organizations and Society in 2012.