Presentation of Distinguished Service Award
Relying on the administrative decision of In the Matter of Cady, Roberts & Company, and on the common law of Texas Gulf Sulphur, the SEC began to use Rule 10b-5 as a major tool to regulate and enforce insider trading prohibitions. Under Chairman Manuel Cohen, the SEC would continue Cary's advocacy of active insider trading regulation, instructing SEC enforcement staff members to develop actions which espoused clear principles of law. Strengthening the SEC enforcement of violations of the Securities Exchange Act became a major project during Chairman Cohen's tenure. In addition, the SEC's decision to enhance private rights of action created an upsurge in private cases. By 1963, the number of private cases had doubled over the previous decade; by 1970, the number had reached 1091.(23)
Yet a more difficult task was finding a way to devise rules on insider trading that would be clear, yet flexible. At a 1968 conference of financial journalists, Cohen warned that public confidence in the markets "so necessary to the continued healthy growth of the markets, cannot be preserved if there is a belief- indeed a suspicion- that insiders are taking advantage of information gained by virtue of their relationship to the company or possession of privileged information, even if the insiders are complying with the letter of all the technical guidelines that the ingenuity of the Commission can devise."(24) But the best he could offer to those concerned about the clarity of insider trading rules in the wake of the Texas Gulf Sulphur ruling was that the SEC would "take a stab at" establishing guidelines governing disclosure of corporate information and the timing of its publication.(25)
The SEC believed that enforcing insider trading rules would increase the information available to the investing public and level the playing field for investors. Philip A. Loomis, Jr., commenting on the Texas Gulf Sulphur decision, defined an insider as "someone, who by reason of his relationship to a corporation, has access to information that is not imparted to him for his personal use." Implicit in that definition were the seeds of the misappropriation theory, based on the principle that all investors should have relatively equal access to the same information and that any individual privy to exclusive information that he used for his own personal benefit would be prohibited from trading on that information until its public dissemination.(26)
The enforcement efforts of the SEC in Texas Gulf Sulphur expanded the liability for insider trading under Rule 10b-5 of the Securities Exchange Act of 1934, but that expansion was not without its critics. The years following Texas Gulf Sulphur were a period of intense regulation and rebuttal of the insider trading system that the SEC fought to establish. As the SEC moved to regulate insider trading, academic and legal voices argued that the SEC action was misplaced. The policy of the SEC against insider trading mirrored equitable principles, and critics called for a standard of reference to measure the economic fairness of insider trading.
The seminal event of those opposing a blanket acceptance of SEC theories was the 1966 publication of Henry Manne's Insider Trading and the Stock Market. Manne questioned the soundness of the legal theory that supplanted common law fraud theory with a statutory and administratively-created expansion of securities regulation. He argued that insider trading actually benefited market efficiency and created compensation incentives for innovative corporate managers. While most law professors, lawyers and regulators immediately rejected his argument to deregulate insider trading, his argument changed the terms of the debate.(27) New arguments against insider trading regulation were later extended by law professors and other securities professionals. They cited productive stock markets that had limited insider trading enforcement, such as in Japan and Hong Kong, as proof of the soundness of their arguments.
Given the increasingly expansive interpretation of securities regulations by the SEC and the federal courts, many wondered if the federal law would completely take over the states' role in corporate governance and regulatory matters. In 1969, Louis Loss, commenting on the American Law Institute's Federal Securities Law Project, stated "the great Rule 10b-5…seems to be taking over the universe gradually." "The minority of trusteeship view of the common law," commented Loss, "has become, thanks to Rule 10b-5, the law of the land."(28) This trend dominated much of corporate law and insider trading regulation at the time when President Richard Nixon appointed Lewis F. Powell, Jr. to the Supreme Court.(29)
(23) Seligman, Transformation of Wall Street, 347-357.
(24) Robert D. Hershey, Jr., "Insiders Urged to Preserve Public's Trust," The New York Times, May 22, 1968, 61.
(25) John H. Allan, "S.E.C. Weighs Disclosure Guides," The New York Times, December 6, 1968, 69.
(26) Terry Robards, "S.E.C. Calls ‘Insider' Cases Beneficial to Public," The New York Times, September 12, 1968, 71.
(27) Henry Manne, Insider Trading and the Stock Market (The Free Press: New York, 1966)
(28) Louis Loss, Fundamentals of Security Regulation (Little Brown and Co: Boston, 2nd ed), 729.
(29) Louis L. Loss, The American Law Institute's Federal Securities Code Project, 25 Business Law 27 (1965), 34.
(Government Records)
(Courtesy of Richard Rowe)
