Differences in Ethical Perceptions of Insider Trading

Abstract

This article examines ethical decision making related to insider trading. Using case study scenarios, we shed light on differences in evaluating the use of material nonpublic information when the expected outcomes of insider trading benefit clients versus the investment professional trading on inside information. Participants perceive insider trading that is expected to benefit clients to be a less egregious ethical violation even though it is as equally illegal as trading to benefit oneself directly. Although the judgment about insider trading should be independent of the benefit recipient, it is not. Given the increasing regulatory scrutiny of ethical behavior, this finding is important because professionals’ duties to (1) pursue clients’ best interest and (2) protect capital markets may represent conflicting obligations when evaluating whether to use material nonpublic information. In addition, our results show that individuals with a professional credential tend to view insider trading to be more unethical compared with others without a credential.

TOPICS: Legal/regulatory/public policy, security analysis and valuation, risk management

Key Findings

• ▪ In most jurisdictions, trading on material nonpublic information is prohibited, even when an investment manager is required to act in clients’ best interests. Instead, the requirement to maintain market integrity typically trumps clients’ interests.

• ▪ Our survey results show that trading on inside information for personal benefit is viewed as significantly more unethical than is trading on inside information for the benefit of clients. Professionals with a specialized investment credential are the most stringent in their views.

• ▪ Because protecting clients from potentially adverse market movements is desirable, and is viewed as somewhat ethical, our results suggest that the legal primacy of market integrity should be reexamined.