SIE Ready🚫 Prohibited Activities · Lesson 2 of 6 · 6 min
Inside Information, Outside Penalties
🤫 One overheard sentence about an unannounced merger can be worth thousands of dollars, and can cost three times that, plus prison.
💡 Key idea
Material + nonpublic = do not trade and do not tip. Civil penalty up to 3x the profit gained or loss avoided; controlling persons can owe the greater of $1 million or 3x.
🧠 Why it matters
Insider trading is trading, or tipping someone who trades, on MATERIAL NONPUBLIC INFORMATION (MNPI): news a reasonable investor would care about, not yet broadly released. The TIPPER and the TIPPEE can both be liable. The SEC may seek a civil penalty of up to THREE TIMES the profit gained or loss avoided. Under ITSFEA (1988), a CONTROLLING PERSON such as the employer can owe the greater of $1 million (the statutory figure, which the SEC raises for inflation) or three times that amount, if it recklessly ignored the risk or lacked required policies. Criminal maximums: 20 years and $5 million ($25 million for firms). Firms need INFORMATION BARRIERS. A RULE 10b5-1 PLAN, adopted in good faith before any MNPI, allows preset trades.
📈 In the real world
🍽️ Lena, a paralegal, mentions over dinner that her firm is papering a buyout of a small biotech. Her brother buys call options the next morning. When the deal is announced he makes $20,000. Both face SEC action: Lena as tipper, her brother as tippee, with a civil penalty of up to $60,000 plus giving back the profit.
📌 Takeaways
- Material + nonpublic: no trading and no tipping
- Civil penalty up to 3x profit gained or loss avoided; criminal up to 20 years
- Firms need written policies and information barriers; 10b5-1 plans must be set up before any MNPI
📖 Terms in this lesson
Insider trading: Trading, or tipping others to trade, on material nonpublic information in breach of a duty; civil penalties can reach three times the profit gained or loss avoided.
Material nonpublic information: Information not yet public that a reasonable investor would consider important in deciding to buy or sell.
Information barrier: Firm policies that keep material nonpublic information from passing between departments, such as banking and trading.
TRIPLE TROUBLE (insider trading): Insider trading civil penalties can reach three times the profit made or loss avoided.
✅ Test yourself
An insider avoids a $30,000 loss by selling before bad news is public. What is the maximum civil penalty the SEC may seek under the insider trading penalty provisions?
- $90,000
- $30,000
- $60,000
- $1,000,000
Answer: A · $90,000
The civil penalty can be up to three times the loss avoided: 3 × $30,000 = $90,000. The $1 million figure is part of the controlling-person formula, not the cap for the person who traded.
Which information is most likely to be material nonpublic information?
- A company's dividend reported in yesterday's press release
- An analyst's opinion based on public filings
- An unannounced plan to acquire a competitor
- The stock's closing price from the prior day
Answer: C · An unannounced plan to acquire a competitor
An unannounced acquisition is both material and nonpublic. Released news, published prices and analysis built only from public information are fair to use.
What is the purpose of an information barrier at a broker-dealer?
- To separate the firm's AML staff from its compliance staff
- To block customers from trading during a market halt
- To keep deal information away from traders
- To stop customers from seeing other customers' account balances
Answer: C · To keep deal information away from traders
Information barriers separate departments that hold MNPI, such as investment banking, from those who trade or recommend securities. Privacy of balances is Reg S-P, and halts are a market function.
SIE-style questions, XP and streaks in the app. No sign-up needed.