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American Bar Association - Defending Liberty, Pursuing Justice

Winter 2009

Vol. 5, No. 2

Business Law


Insider Trading Compliance Programs in SEC Crosshairs

On rare occasions, the SEC, instead of bringing an enforcement action following an investigation, issues a report pursuant to section 21(a) of the Securities Exchange Act. Normally, such reports find a violation of the law, but do not impose a remedy, while announcing major policy shifts in enforcement of the securities laws. Between the first report in 1975 and through 2005, only 21 such reports were issued. Recently, the SEC issued another report (the RSA Report) resolving its investigation of the Retirement Systems of Alabama (RSA)—its first section 21(a) report involving the area of insider trading compliance programs.This time, the SEC appears to be signaling that it will take a harder look at the entities whose policies and procedures could have prevented insider trading in the first instance.

In 1988, Congress enacted three provisions that introduced insider trading compliance programs into the regulatory arsenal of combating insider trading. Section 15(f) of the Exchange Act and section 204 of the Investment Advisors Act imposed affirmative obligations on broker-dealers and investment advisors to adopt, maintain, and enforce policies and procedures intended to prevent illegal insider trading. Section 21A of the Exchange Act created control person liability for insider trading violations committed by a corporation’s or regulated entity’s employee. Under this section, a control person can be liable (1) when any broker-dealer or investment advisor knowingly or recklessly fails to carry out its express statutory obligations to enact and enforce anti-insider trading policies and procedures, or (2) when it knew a person in its control was likely to engage in illegal insider trading or ignored red flags indicating that another person was apt to do so and failed to act to prevent that trading.

The facts conveyed in the Commission’s March 6, 2008, section 21(a) RSA Report detailed a fairly egregious case of insider trading by SEC standards.There, the CEO of the RSA, with knowledge that the RSA was supplying financing for an acquisition, ordered his investment group to buy shares of the acquisition target before public disclosure of the transaction.The trades at issue occurred after RSA signed a nondisclosure agreement and received express warnings that the undisclosed approval of the acquisition was inside information and that trading on that information would constitute insider trading.

Readers of the RSA Report can infer several possible reasons why the SEC chose not to bring charges against RSA.The RSA Report noted that RSA cooperated in the staff’s investigation and had taken remedial action—including compensation of the sellers of the stock RSA purchased. Another possibility for the SEC’s forbearance is that, since the entity at issue is a retirement fund, any penalty would be paid from public employee contributions to the funds managed by RSA.

Regardless of the reason, the SEC used the RSA Report as an opportunity to set forth an important policy position in the insider trading arena. Prior to the RSA Report, there was little enforcement activity in this area. Since 1988, the SEC had pursued only one section 21A control person charge against a nonregulated entity that allegedly controlled an individual employee who engaged in insider trading. See SEC Liti. Rel. No. 18442, 2003 SEC LEXIS 2638 (settled action against AmerCredit Corp.). Notably, RSA was not a broker-dealer and was also exempt from the investment advisor registration requirements—and thus neither section 15(f) of the Securities Exchange Act nor section 204A of the Investment Advisors Act applied. Nonetheless, the Commission sought the opportunity to “emphasize the responsibilities of all investment professionals, and other public entities under the federal securities laws, and to highlight the risks they undertake when they operate without a compliance program”(emphasis added). In the RSA Report, the SEC noted that at the time of the events described, RSA had “no policies, procedures, training, or compliance officer to ensure its compliance with the federal securities laws.” In addition, the SEC noted that the RSA CEO and other investment personnel “did not have a clear understanding of the securities law duties and risks implicated when they came into possession of material, nonpublic information.” The SEC concluded that RSA likely would not have purchased the stock prior to the public announcement of the transaction if RSA had a reasonable compliance program in place.

The RSA Report may signal that the SEC now expects all market participants, not just regulated entities, to have an effective anti-insider trading compliance program in place, as well as training for officers and others regarding insider trading prohibitions under the federal securities laws.

While it may be too soon to say if the RSA Report, like its predecessor reports, marks a significant policy shift with respect to public companies or hedge funds, corporate counsel would be well advised to take the SEC’s affirmative policy statement as an invitation to take a hard look at its insider trading compliance program. Companies that fail to heed this warning are not likely to receive the same degree of leniency as RSA and may face SEC charges for insider trading control person liability.

Keeping Current: Securities: Insider Trading Compliance Programs in SEC Crosshairs, by Michael K. Lowman, Larry P. Ellsworth, and Jennifer M. Lawson, published in Business Law Today, Volume 17, No. 6, July/August 2008. Copyright © 2008 by the American Bar Association. Reprinted with permission.

Michael K. Lowman and Larry P. Ellsworth are partners in the Washington, D.C., office of Jenner & Block LLP. Jennifer M. Lawson is an associate in the firm’s Chicago office. Their respective emails are,, and

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