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Inside of insider trading

Lokeswarri S. K.

Insider-trading is a term often heard by those investing in the stock market. Though the term has a surreptitious ring to it and stock market regulators around the globe spend considerable time framing laws to combat this menace, it is not always an evil.

The Securities and Exchange Board of India's (SEBI) regulation for prohibiting insider-trading states that in its illegal form this happens when an insider buys or sells the shares of a listed company when in possession of any unpublished price-sensitive information.

Illegal insider- trading in India includes an insider giving counsel or tipping any outsider while in possession of such price-sensitive information. However, it need not be concluded that the persons connected to the company are barred from possessing, buying and selling its shares. They are permitted to deal in the securities of the company, provided they make adequate disclosure about the transaction to the regulator and the exchanges on which the shares are listed.

What is insider

Some of the terminologies need to be better understood to get clarity on this topic. An insider would be a person who is or was connected to the company and who is reasonably expected to have access to unpublished price-sensitive information in respect to the securities of that company.

"Price-sensitive information" has been defined as periodical financial results of companies, dividend declaration, issue or buy-back of securities, any major expansion plans or execution of new projects, amalgamation, mergers or takeovers, disposal of whole or substantial part of undertaking and significant changes in policies, plans or operations of the company.

Despite the existence of the detailed regulation, the stock prices of a company invariably tend to move up or down at least a couple of weeks ahead of any price-sensitive announcement.

An example is the movement of the Praj Industries stock ahead of its bonus announcement; it gained 41 per cent in the 10 sessions preceding the announcement.

It needs to be understood that the formulation of the regulations to prevent misuse of information is still at a nascent stage.

What constitutes misuse is still subject to varying interpretations. The insider-trading allegation against Hindustan Lever (HLL) for purchasing eight lakh shares of Brooke Bond Lipton India (BBLIL) from Unit Trust of India a month before the merger of the two companies was announced, is a case in point.

HLL appealed against SEBI's order to the Appellate Authority of the Finance Ministry claiming that a company cannot be an insider to itself and that the shares were bought solely with the intent of preserving the parent company, Unilever's 51 per cent stake in HLL.

It was further argued that the reports on the HLL and BBLIL merger had already been published by various entities. So it was not acting on undisclosed or unpublished information.

The lay investor needs to be aware of these regulations as there are always tips and rumours floating around in the market and plenty of persons willing to give investment counsel.

It would be prudent to ascertain if a piece of information would fall within the purview of insider-trading before acting on it.

Those employed with companies also need to understand these regulations so that they are not inadvertently caught on the wrong side of the law.

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