Insider trading Definition
There are two kinds of trading that are referred to as "insider trading":
- Trading of a security of a company (e.g., shares or options) based on material nonpublic information. The trader need not be a corporate "insider." (illegal in some jurisdictions)
- Trading not based on material nonpublic information by "insiders" of a corporation. (legal)
There are rules against this type of "insider trading" in most jurisdictions around the world, though the details and the efforts to enforce them vary considerably. In the United States, for example, there is no general federal law directly prohibiting insider trading. Authority to prosecute cases of insider trading came from the Supreme Court's interpretation of Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5, prohibiting fraud in connection with the purchase or sale of securities. Insider trading was legal in the U.S. until the 1960's.
An example of illegal insider trading may be that you, as an assistant to the Chief Executive Officer, learn that your company is going to be taken over before it is announced to the stock exchange. Knowing that such a move is liable to cause the price to rise, you buy shares in the company and subsequently profit from the transaction.