but only to those that involve manipulative or deceptive conduct.42 As both forms of liability are based on a relationship of trust and confidence, insiders are essentially given a choice: abstain or disclose.43 The rationale for liability premised on a duty is: (1) the relationship gives that person access to information available only for a corporate purpose; and (2) based on the inherent unfairness involved where a party takes advantage of such information knowing it is unavailable to those with whom he is dealing.44 In addition to insider and duty requirements, the statutory language requires that the fraud be in connection with the purchase or sale of any securit[ies]45 or when capitalizing on such information through securities transactions.46 A decision to hold stock based on nonpublic information is not proscribed.47 Additionally, the purchase or sale must be made on the basis of material, non-public information, that is, the trader must be aware of the information when the transaction was made.48 This does not necessarily require that the use of the information be proven but merely that the trader knowingly possessed the information at the time of the trade.49 Finally, the information traded on must be material. Material information, for purposes of Rule 10b-5, includes any fact that in reasonable and objective contemplation might affect the value of the corporations50 securities, although trading by insiders can supply strong circumstantial evidence of the materiality.51 As Rule 10b-5 is
U.S.C. 78j(b) (2006); Santa Fe Indus., Inc. v. Green, 430 U.S. 462, 471 (1977) (quoting section 10(b) of the Securities Exchange Act of 1934). 43 Chiarella, 445 U.S. at 230, 246. 44 In re Cady, Roberts & Co., 40 S.E.C. 907, 912 (1961). U.S.C. 78j. 46 OHagan, 521 U.S. at 656. 47 See Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 75455 (1975); Condus v. Howard Sav. Bank, 781 F. Supp. 1052, 1056 (D.N.J. 1992). C.F.R. 240.10b5-1(b) (2010) (emphasis added) (internal quotation marks omitted). Defenses to Rule 10b5 include trading based on a prior written agreement to buy or sell the security or if as part of a plan. See id. 240.105b-1(c)(1)(i)(A). 49 See United States v. Teicher, 987 F.2d 112, 119 (2d Cir. 1993); Selective Disclosure and Insider Trading, Securities Act Release No. 7881, Exchange Act Release No. 43,154, Investment Company Act Release No. 24,599, 73 SEC Docket 3 (Aug. 15, 2000). 50 SEC v. Tex. Gulf Sulphur Co., 401 F.2d 833, 849 (2d Cir. 1968) (quoting List v. Fashion Park, Inc., 340 F.2d 457, 462 (2d Cir. 1965)) (internal quotation marks omitted). 51 Id. at 852 (quoting SEC v. Tex. Gulf Sulphur Co., 258 F. Supp. 262, 284 (1966), affd in part, 401 F.2d 833 (2d Cir. 1968)) (internal quotation marks omitted).

Pursuant to the Guidelines, criminal sentence generally are based on a combination of: (1) a base level sentence; (2) an increase based on the extent of losses or gains caused as a result of the offense; and (3) other offense and offender characteristics, which may increase or decrease the total sentence.62 The calculated base level offense is then translated into the appropriate Federal Sentencing Table to produce a range of months of incarceration based on the defendants criminal history.63 For insider trading, the base level sentence is eight.64 But the amount of computed gains has the potential to significantly add to that figure.65 The central issue at the sentencing phase for insider trading is determining the gain resulting from the offense.66 The level of the total offense rises based on the amount of calculated gains, ranging from an increase of two for $5,000 of gains, to an increase of thirty for more than $400 million of gains.67 Gains for insider trading constitutes the value of the defendants gains and not victims losses [b]ecause the victims and their losses are difficult if not impossible to identify.68 The background to the Guidelines defines a gain as the total increase in value realized through trading in securities by the defendant and persons acting in concert with the defendant or to whom the defendant [has] provide[d] inside information.69 For all offenses, relevant conduct for sentencing is based only on those acts and omissions committed. that occurred during the commission of the offense.70
U.S. SENTENCING GUIDELINES MANUAL 2B1.1. Id. 5A. 64 Id. 2B1.4. 65 For example, assuming all other things equal and a first time criminal, the base level from a gain of $5,000 results in a sentencing range of zero to six months, while a gain of $400 million would lead to a sentencing range of 235 to 293 months. See id. 2B1.1(b)(1)(A), (b)(1)(P); id. 5A. 66 Id. 2B1.4; see also United States v. Nacchio, 573 F.3d 1062, 1067 (10th Cir.), cert. denied, 130 S. Ct. 54 (2009). 67 U.S. SENTENCING GUIDELINES MANUAL 2B1.4. 68 Id. 2B1.4 cmt. background. 69 Id. 70 Id. 1B1.3(a)(1).
II. MEASURING GAINS AND LOSSES IN SECURITIES FRAUD A. The Current Split of How To Measure Criminal Insider Trading Gains
The controversy over the appropriate calculation of insider trading gains for criminal sentencing purposes revolves around differing views as to when the offense ceases and in part, around the extent to which it should borrow from calculations in other securities fraud cases. Specifically, the distinction between the two views is whether a traders gain resulting from the offense consists of the total profits that a trader earned or the specific economic benefit the trader derived from the nonpublic information. The Court of Appeals first addressed the issue in United States v. Mooney.71 The facts of the case can be illustrated by this hypothetical: Trader M worked as an underwriter for a major health-care company, U-Care.72 In May, M was exposed to confidential information concerning U-Cares unannounced acquisition of a target company.73 On June 1, M purchased 20,000 shares of U-Care for $10 per share.74 On July 1, the New York Times first mentioned the advanced stage of negotiations between U-Care and the target, leading to a sharp increase in trading volume and an immediate increase in price to $12.75 On July 15, U-Care publicly announced its agreement to acquire the target.76 On August 1, M sold 10,000 shares of U-Care at $15 per share.77 On November 1, M sold the remaining 10,000 shares for $20 each.78 M was found guilty of various violations of mail and securities fraud, including four counts of insider trading under Rule 10b-5, and M was sentenced based on his gains, held to be the total profit earned through selling all his shares or $150,000.79 On appeal, M contended that the market would have

99 See id. at 1068. Under the facts of the case, this approach resulted in a sentencing range of 70 to 87 months. Id. 100 See id. Under the facts of the case, this resulted in a sentencing range of 41 to 51 months. Id. 101 See id. at 1066, 106869. Under the facts of the case, this approach resulted in a sentencing range of 63 to 78 months, with an actual sentence imposed of 72 months. Id. at 1069. 102 See id. at 107172. 103 Id. at 1072. 104 Id. 105 Id. at 1075. 106 See id. at 1076. 107 Id. 108 Id. at 1082.
shortfall, this approach would better capture the increase in value received by the defendant due to unlawful trading in securities.109 To accurately measure only ill-gotten gains,110 factors unrelated to the defendants criminally culpable conduct,111 such as unrelated negative industry developments and their impact on the stock price, were to be excluded.112 The court acknowledged that while it may not be entirely possible to exclude chance market forces from an insiders illegal gains, this approach narrows the range of possible extraneous economic factors that might influence the gain amount and therefore, the range of possible sentencing disparities.113 B. Causation and Calculations in Other Settings
The views over gain calculations in criminal insider trading sentencing are relatively contrasting, but calculating the impact of other forms of securities fraud exhibits a more unified approach. Whether calculating other securities fraud crimes or civil insider trading, a pervasive goal of causation emerges that reflects an appreciation of how markets operate. Awards in the civil context under Rule 10b-5 are supported by a combination of theories of restitution, loss of expectancy, and damages.114 Damages, or the economic losses attributable to a misstatement or omission, are typically based on the out-ofpocket impact to defendants or the difference between the purchase price and the value of the stock at the date of purchase.115 Courts consider this figure to best measure the damages proximately caused by the defendants deceit116
Id. at 1085. Id. at 1084 n.20. 111 Id. at 108081. 112 Id. at 1085. 113 Id. at 1086 n.23. 114 See Robert B. Thompson, The Measure of Recovery Under Rule 10b-5: A Restitution Alternative to Tort Damages, 37 VAND. L. REV. 349, 35354 (1984). 115 Green v. Occidental Petroleum Corp., 541 F.2d 1335, 1344 (9th Cir. 1976). For a discussion of the primary methodologies for calculating out-of-pocket losses, see infra notes 20208 and accompanying text. 116 Huddleston v. Herman & MacClean, 640 F.2d 534, 555 (5th Cir. 1981), overruled on other grounds by Lormand v. US Unwired, Inc., 565 F.3d 228 (5th Cir. 2009).

before the corrective disclosure, attributing the entire stock price decline to the defendant overstated his personal criminal culpability). 136 See United States v. Nacchio, 573 F.3d 1062, 1075 (10th Cir.), cert. denied, 130 S. Ct. 54 (2009). 137 Eugene F. Fama, Efficient Capital Markets: A Review of Theory and Empirical Work, 25 J. FIN. 383, 384 (1970). 138 See EUGENE F. FAMA, FOUNDATIONS OF FINANCE: PORTFOLIO DECISIONS AND SECURITIES PRICES 136 (1976) (finding that a market is efficient with respect to a given information set if, at a specific point in time, the information that the market uses to determine security prices includes all the information available). 139 Ronald J. Gilson & Reinier H. Kraakman, The Mechanisms of Market Efficiency, 70 VA. L. REV. 549, 552, 558 (1984).
the companys cost of capital.140 In other words, a stocks intrinsic value is the general consensus of the companys future success, with present or past. performance [used] as an indicator of. future cash flows.141 To reach this consensus, individual market participants form opinions on various pieces information, both from a company specific and general market condition basis, to determine an individual securitys valuation at any given point in time. According to the ECMT, on the average, competition will cause the full effects of new information on intrinsic values to be reflected instantaneously in actual prices.142 The ECMT operates through one of three primary market responses to information that represent the extent of a markets efficiency based on the costs and availability of the information at issue: weak, strong, and semi-strong markets.143 Weak markets are those in which the history of past prices does not lead to predictable valuations, minimizing exploitable trading opportunities.144 Strong markets are those in which individuals have monopolistic access to. information relevant [to] price.145 The most realistic is the semi-strong market,146 which assumes that all available public information is fully reflected in a securitys market price.147 This price, which represents the stocks intrinsic value, is a product of competing experts attempting to interpret and process the same information for

140 Jay W. Eisenhofer, Geoffrey C. Jarvis & James R. Banko, Securities Fraud, Stock Price Valuation, and Loss Causation: Toward a Corporate Finance-Based Theory of Loss Causation, 59 BUS. LAW. 1419, 1421 (2004). 141 Id. at 1442 (emphasis omitted). 142 Eugene F. Fama, Random Walks in Stock Market Prices, 21 FIN. ANALYSTS J. 55, 56 (1965), reprinted in RICHARD A. POSNER & KENNETH E. SCOTT, ECONOMICS OF CORPORATION LAW AND SECURITIES REGULATION 156, 158 (1980) (emphasis omitted). 143 Fama, supra note 137, at 414. 144 See Roger J. Dennis, Materiality and the Efficient Capital Market Model: A Recipe for the Total Mix, 25 WM. & MARY L. REV. 373, 37576 (1984); Fama, supra note 137, at 383. 145 Fama, supra note 137, at 383. 146 See, e.g., Jonathan R. Macey & Geoffrey P. Miller, Good Finance, Bad Economics: An Analysis of the Fraud-on-the-Market Theory, 42 STAN. L. REV. 1059, 108283 (1990) (noting that recent economic research accepts the assumptions of the semi-strong form, citing studies measuring the effects of stock prices from stock splits, large block trades. by corporate insiders or market professionals, takeover attempts, and Federal Reserve policy changes). 147 Fama, supra note 137, at 383.
their own gain through purchasing or selling shares.148 Both soft information, such as forecasts and estimates, and hard information, or known facts, are relevant in this respect.149 The achievement of an efficient market requires two market mechanisms that are affected by insider trading: incorporating information into prices and providing liquidity in trading.150 Incorporating information into a price requires producing information, both firm specific and of the general market, verifying the provided information, and processing and analyzing the information.151 Liquidity in trading is realized through sufficient competing participants all seeking to achieve a predetermined risk level.152 Todays competitive market, dominated by analyst coverage and professional traders, epitomize the semi-strong market by effecting a rapid price equilibration because of the presence of only a minority of knowledgeable traders who control a critical volume of trading activity.153 By taking information accessible to only a few traders and rapidly assimilating it into the price, these participants transform a limited disclosure into one that can safely be considered public.154 Efficient markets therefore require important current information to be available to all participants at low transaction costs and large numbers of rational, profit maximizers actively competing to predict future market values of individual securities.155 III. APPLYING THE MARKET EFFICIENCY THEORY TO MEASURE INSIDER GAINS This Note contends that the ECMT should be used for calculating individual gains in the criminal sentencing of insider trading. The utilization of the ECMT in other capacities reveals the confidence the SEC and courts have placed in it to explain

156 See generally Jeffrey N. Gordon & Lewis A. Kornhauser, Efficient Markets, Costly Information, and Securities Research, 60 N.Y.U. L. REV. 761 (1985). 157 See Gilson & Kraakman, supra note 139, at 552. U.S.C. 78b (2006). 159 See, e.g., 17 C.F.R. 240.13a-1 (2010) (annual report requirements); id. 240.13a-13 (quarterly report requirements); id. 240.15d-11 (current reports requirements).
and moved on to other topics entirely, so that all that is left is for the law to come into conformity with this intellectual orthodoxy.160 The SEC regulates markets through disclosure rules focused on compelling full and prompt information to individuals to create a sense of a fair playing field for investors.161 The most influential of these rules is Regulation FD, promulgated to directly counteract insider trading on the basis of nonpublic or selective disclosure.162 Regulation FD prohibits an issuer from disclosing material[,] nonpublic information to an individual without a near simultaneous disclosure of the event to the public.163 It complements the prosecution of insider trading under Rule 10b-5, as required disclosures under Regulation FD are not premised on a breach of a duty of trust or confidence,164 but when it is reasonably foreseeable that the. securities [would be traded] on the basis of the information.165 Therefore, so long as an issuer refrains from disclosing the information to anyone on the outside, no infraction has occurred. The SEC has also realized that while the courts severely punish insider trading under anti-fraud provisions, selective disclosure can have just as severe and harmful an economic impact as nondisclosure.166 The disclosure requirements in this regard facilitate efficiency by reducing duplicative costs of searching for information by market participants.167 The SEC also requires disclosure of the trading activity by insiders168 and has identified situations when insiders are never allowed to trade, even if they are not in possession of inside information.169
Langevoort, supra note 21, at 539. See H.R. REP. NO. 73-1383, at 11 (1934) (There cannot be honest markets without honest publicity. Manipulation and dishonest practices of the market place thrive upon mystery and secrecy.). 162 See 17 C.F.R. 243.100(a)(b)(1). 163 Id. 243.100(a). 164 Id. 240.10b5-1(a). 165 Id. 243.100(b)(1)(iv). 166 See Selective Disclosure and Insider Trading, Securities Act Release No. 7881, Exchange Act Release No. 43,154, Investment Company Act Release No. 24,599, 73 SEC Docket 3 (Aug. 15, 2000). 167 Goshen & Parchomovsky, supra note 150, at 738. 168 See 15 U.S.C. 78p(a)(1)(2) (2006) (requiring all officers, directors, and beneficial owner[s] of more than 10 percent of any class of registered equity class to file the appropriate notice with the SEC within ten days of acquiring a position). 169 See, e.g., id. 78p(b) (short swing profits); id. 78p(c) (short sales).

175 Basic Inc. v. Levinson, 485 U.S. 224, 230 (1988) (quoting Sante Fe Indus., Inc. v. Green, 430 U.S. 462, 477 (1977)) (internal quotation marks omitted). 176 S. REP. NO. 73-1455, at 68 (1934). 177 See, e.g., TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438, 450 (1976). 178 See, e.g., In re Bally Mfg. Sec. Corp. Litig., 141 F.R.D. 262, 26970 (N.D. Ill. 1992). 179 See, e.g., In re Royal Dutch/Shell Transp. Sec. Litig., 404 F. Supp. 2d 605, 608 (D.N.J. 2005). 180 See, e.g., Bowe v. Polymedia Corp. (In re Polymedia Sec. Litig.), 432 F.3d 1, 10 (1st Cir. 2005) ([A]n efficient market is one in which market price fully reflects all publicly available information.). 181 TSC Indus., Inc., 426 U.S. at 449. 182 See SEC v. Geon Indus., Inc., 531 F.2d 39, 4748 (2d Cir. 1976); SEC v. Tex. Gulf Co., 401 F.2d 833, 849 (2d Cir. 1968) (noting that a stocks price will depend at any given time upon a balancing of both the indicated probability that the event will occur and the anticipated magnitude of the event in light of the totality of the company activity).
was embraced in Wielgos v. Commonwealth Edison Co.,183 where soft information, such as predictions, was material, since prices are based on beliefs about how firms will do tomorrow, not because of how they did yesterday.184 Even if the information is false, it nonetheless aids the pricing of stocks because of investors interest in seeking the truth.185 As explained by the ECMTs market price signaling mechanism, materiality determinations dictate whether information is in fact nonpublic.186 Information becomes public when it has been internalized by the marketi.e., [when] the securitys price reflects that information.187 Once the information is reflected in the price, it can no longer be misused, because the insider is now on equal footing with the public.188 The public, therefore, may trade with an insider, even absent personal knowledge of the previously undisclosed information, if that information finds it way into the marketplace of ideas.189 Traders in possession of accurate information may serve to accurately price a stock even in the face of contradictory statements by the issuer.190 Once public, plaintiffs are in effect charged with having constructive knowledge of it.191 Therefore,
892 F.2d 509 (7th Cir. 1989). Id. at 514 (discussing the process by which investors collectively evaluate information in the context of the safe-harbor provisions for forward looking statements under Rule 175(b)). 185 See id. 186 See Dennis, supra note 144, at 41415. 187 RALPH C. FERRARA, DONNA M. NAGY & HERBERT THOMAS, FERRARA ON INSIDER TRADING AND THE WALL 29 (2010). 188 Id. (quoting United States v. Libera, 989 F.2d 596, 601 (2d Cir. 1993)). 189 See Dennis, supra note 144, at 419 (Each market participant need not have access to all information. Rather, the court should focus on whether enough traders had the information so that the price signalling mechanism revealed the information.). 190 See SEC v. Bausch & Lomb, Inc., 565 F.2d 8, 1418 (2d Cir. 1977) (finding that where analysts disseminated their views of what the correct information regarding a company was, false statements by the company were immaterial because they were either irrelevant or already publicly known); Dennis, supra note 144, at 414 ([T]he nearly simultaneous release of the information to several securities analysts meant that, under the efficient market theory, any effect of the disclosure on the market was rapidly assimilated. to the general public.). 191 See Teamsters Local 282 Pension Trust Fund v. Angelos, 762 F.2d 522, 530 (7th Cir. 1985) (The investor cannot ask a court to focus on the lie and ignore the remaining pieces of information already available to him (or, in the case of a publicly traded security, already available to others and reflected in the price of the security).).

Basic, 485 U.S. at 249 n.28. See Macey & Miller, supra note 146, at 107780 (Critical to the fraud-onthe-market theory is the assumption that the market can trade at incorrect prices due to the artificial distortions caused by misstatements or omissions.); see also Bradford Cornell & R. Gregory Morgan, Using Finance Theory To Measure Damages in Fraud on the Market Cases, 37 UCLA L. REV. 883, 88485 (1990). 200 Basic, 485 U.S. at 244. 201 See Cornell & Morgan, supra note 199, at 885. 202 See Elkind v. Liggett & Meyers, Inc., 472 F. Supp. 123, 135 (S.D.N.Y. 1978), revd on other grounds, 635 F.2d 156 (2d Cir. 1980); Cornell & Morgan, supra note 199, at 897. 203 See Jonathan C. Dickey & Marcia Kramer Mayer, Effect on Rule 10b-5 Damages of the 1995 Private Securities Litigation Reform Act: A Forward-Looking Assessment, 51 BUS. LAW. 1203, 1204 (1996). To illustrate the difference, suppose a trader purchases stock at $20, and the price then increases to $25, but then falls to $15 upon the corrective disclosure: under the ribbon method, the loss would be $10 (price paid less the drop in stock price); under the true value method, the loss would be $5 (price paid less the value of the stock with the corrective information). See id. 204 See Cornell & Morgan, supra note 199, at 897. 205 See Frank H. Easterbrook & Daniel R. Fischel, Optimal Damages in Securities Cases, 52 U. CHI. L. REV. 611, 646 (1985). At the date of corrective disclosure, the value line and price line are equal, but the lines are divergent from the period of the omission or misrepresentation until that time. See Cornell & Morgan, supra note 199, at 886. 206 See United States v. Grabske, 260 F. Supp. 2d 866, 867 (N.D. Cal. 2002).

199 198

index, which approximates what the returns on the security would have been had the fraud not occurred.207 Neither approach is lenient on defendants, so Congress placed a cap on damages when basing out-of-pocket losses on the corrective date of disclosure, fearing that it may end up substantially overestimating plaintiffs damages.208 While the different approaches produce different results, these calculations all rely on the assumption that the market will immediately incorporate the disclosed information into a stocks price. The foregoing regulatory and judicial implementations of the ECMT demonstrate the theorys ability to address the ill-effects of securities fraud and informational disadvantages while establishing the parameters for liability in connection with undisclosed information. B. The Prohibition of Insider Trading To Preserve Market Efficiency

While the sentencing of insider trading must reflect the ECMT-based principals embodied in other disclosure and securities fraud regulations, it must also measure the impact of illegal trading on the markets efficiency. As recognized by Nacchio, any assessment of appropriate sentencing must begin with the nature of the offense that has been committed.209 The offense of insider trading can be measured by its impediment on an efficiently operating market, since its purpose is to promote equal access to public information.210 As such, a return to the desired market efficiency represents the conclusion of criminal activity. 1. Insider Tradings Effect on Efficiency
Insider trading is criminalized based on the harm it inflicts on securities markets, as opposed to civil actions, where specific claims of monetary damages are sought.211 Generally, the stock
See Cornell & Morgan, supra note 199, at 897. H.R. REP. NO. 104-369, at 42 (1995), reprinted in 1995 U.S.C.C.A.N. 730, 741 (referring to Rule 21D(e) of the Private Securities Litigation Reform Act of 1995 (15 U.S.C. 78u-4(e) (2006))). 209 See United States v. Nacchio, 573 F.3d 1062, 1072 (10th Cir.), cert. denied, 130 S. Ct. 54 (2009). 210 See SEC v. Tex. Gulf Sulphur Co., 401 F.2d 833, 852 (2d Cir. 1968). 211 See Kenneth Mann, Punitive Civil Sanctions: The Middleground Between Criminal and Civil Law, 101 YALE L.J. 1795, 180809 (1992).

208 207

market is seen as a safer alternative to owning wealth, since individual risk-aversion interferes with overall economic efficiency by discouraging otherwise sound economic investments.212 In an efficient market, where information is automatically disseminated and reflected in a price, individuals can more efficiently gather and process information regarding specific companies.213 Since the presence of insider trading at any given time is by nature unknown, traders are unable to accurately account for it in making their investment decisions, increasing the risk of ownership. Public investors will then bear the initial loss as a result of any specific insider trading, although the ECMT holds that they are able to shift this cost, with most eventually falling on the firms.214 According to the ECMT, the ideal mechanism to attain efficient and liquid markets is through a competitive information traders market.215 As opposed to insiders with monopolistic access to information, informational traders cannot manipulate disclosures as easily, yet can realize economies of scale in discovering, analyzing[,] and pricing general market information.216 When fraud such as insider trading is pervasive though, these economic efficiencies cease, thereby increasing the cost of gathering information and leading to a decreased number of traders.217 Consequently, competition is reduced, and remaining investors are left with higher bid-ask spread[s].218 Those who trade with insiders will inevitably lose out, a loss that cannot be diversified away, as all trades are triggered by either a price change or the arrival of new information.219 At the same time, trades by insiders will have only a nominal impact on the supply of the stockan increase if the insider is selling, a decrease if buyingas their trades are normally insufficient to effect prices to reflect all information or signal to other investors the nature of the undisclosed information.220

Sentences based on insider trading, as with any crime, must reflect the nature of the offense.239 The elements of insider trading are satisfied when an individual possesses and uses nonpublic information in making the securities transaction, but the illegal conduct stops when the deceptive action concludes.240 The focus on the use of undisclosed information is reinforced by the ECMT: A market is efficient, both in terms of its pricing and capital allocation functions, if a trader simply knows of insider information but refrains from dealing in the security. As such, the criminal components of insider trading further demarcate the boundaries of liability for sentencing purposes.
See id. at 777. Unlike the non-disclosure of positive information, which precludes the company from borrowing money at a more favorable rate, the non-disclosure of negative information artificially reduces the cost of capital and therefore, benefits the company. See United States v. Nacchio, 573 F.3d 1062, 1076 (10th Cir.), cert. denied, 130 S. Ct. 54 (2009). 237 See Nacchio, 573 F.3d at 1077. 238 It should be noted that that the traders sale after disclosure is the concern for trading on positive information. As exhibited in Nacchio, when trading on negative information, the trader likely sold well before the corrective disclosure. 573 F.3d at 1076. In both cases, the date of disclosure is crucial. 239 See 18 U.S.C.A. 3553(a)(1)(2) (West 2011). 240 United States v. Mooney, 425 F.3d 1093, 1106 (8th Cir. 2005) (en banc) (Bright, J., dissenting).

236 235

From a criminal law perspective, the initial trade based on undisclosed information satisfies the actus reas requirement.241 This act must coincide with the attendant circumstances242the trade occurring while the information remains undisclosed.243 The action and circumstances are linked temporally by the element of causation, as the statute requires the transaction to occur in connection with a sale or purchase.244 As such, trading absent the knowledge of the undisclosed information is not criminal.245 Yet this concept has not been consistently applied, as the Mooney Court penalized the traders gain[s] as those obtained through trading generallyin essence, the gross profit the defendant obtained when all was said and done.246 But under Mooneys approach, a trader that purchased shares at a price below the sales price earned no gains, regardless of whether further losses were avoided by selling. By basing a sentence on net profits, and not profits caused by the illegal act, this approach blatantly disregards the element of causation.247 The necessity of a traders use of information also sheds light on when the offense has concluded. If a traderaware of the information and already owning shares previously obtained legallymerely holds onto his shares based on the inside information and sells following disclosure, the trader has not committed a crime under Rule 10b-5.248 As the use of inside information forms the basis of the insiders duty to disclose or abstain from trading,249 there is no duty to abstain from trading

goal of particular importance in white-collar crime.265 Clear standards are achieved by avoiding extensive fact finding, which is especially appropriate given the practical considerations at sentencing.266 The event study methodology proposed by the defendant in Nacchio, although premised on the ECMT,267 fails to address these concerns. The court in Nacchio remanded for a determination of when the information had been fully digested by the market, [s]o long as the end date chosen results in a reasonable approximation of illegal profits.268 According to the defendants event study, the effect of the disclosures on the stocks price formed the basis of the portion of the proceeds attributable to the inside information.269 A determination as to when information has been sufficiently corrected, however, will likely be resolved in the trial courts finding of guilt270 and therefore, provides a clear result. The potential benefits of event studies are also limited. The impact of institutional traders and the increased reliance on electronic dissemination of information271 makes it unlikely that more than one days worth of trading in a liquid market is needed to absorb a piece of information.272 Second, and most importantly, this approach avoid[s] unwarranted sentencing disparities among similarly situated
265 See Stephen Breyer, The Federal Sentencing Guidelines and the Key Compromises upon Which They Rest, 17 HOFSTRA L. REV. 1, 22 (1988). 266 See United States v. Olis, 429 F.3d 540, 547 (5th Cir. 2005) (noting the time and evidentiary constraints on the sentencing process); United States v. Bahkit, 218 F. Supp. 2d 1232, 1240 (C.D. Cal. 2002) (Most defendants do not have the resources to hire an independent expert and the government has similar financial constraints.). 267 See Cornell & Morgan, supra note 199, at 886. 268 See United States v. Nacchio, 573 F.3d 1062, 1080 (10th Cir.), cert. denied, 130 S. Ct. 54 (2009). 269 See id. at 1068. 270 See, e.g., id. at 1066 (finding the defendants guilt was based on evidence indicating that the full extent of the information traded on was nonpublic until a later, specific disclosure). 271 See Use of Electronic Media, Securities Act Release No. 7856, Exchange Act Release No. 42,728, Investment Company Act Release No. 24,426, 65 Fed. Reg. 25,843, at 25,844 (May 4, 2000) (The increased availability of information through the Internet has helped to promote transparency, liquidity and efficiency in our capital markets.). 272 See, e.g., Cornell & Morgan, supra note 199, at 890 n.23 (The efficient market hypothesis implies that the market price should reflect the information in the announcement no later than the close of trading on. the day that the Wall Street Journal published an article about the press release.).

290 See Dennis, supra note 144, at 419 (The courts should limit their inquiry to whether a particular item of information has, or would have, affected the price of a stock.). 291 See SEC v. Tex. Gulf Sulphur Co., 401 F.2d 833, 849 (2d Cir. 1968) (noting that a stock price reflects a balancing of both the indicated probability that the event will occur and the anticipated magnitude of the event in light of the totality of the company activity). 292 See SEC v. MacDonald, 699 F.2d 47, 5455 (1st Cir. 1983) (en banc). 293 See supra notes 18790 and accompanying text. 294 See Cornell & Morgan, supra note 199, at 89497 (discussing the problems that arise when, as noted in Basic, the fraud consisted of the non-disclosure of merger discussions, but the corrective disclosure was the merger completion). 295 See United States v. Nacchio, 519 F.3d 1140, 1157 (10th Cir. 2008) (If an insider trades on the basis of his perception of the net effect of two bits of material undisclosed information, he has violated the law in two respects, not none.), vacated in part en banc, 55 F.3d 1234 (10th Cir. 2009). 296 Dura Pharms. v. Broudo, 544 U.S. 336, 343 (2005).
context of either positive or negative information, is based on the benefit derived from illegally trading and not gross profits.297 Therefore, even if a trader ended up losing money on the transaction, if the information the trader sold on allowed him to sell at a higher price than otherwise, the loss avoided is dispositive. Under Nacchio, the stock price for calculating gains is when the information is disclosed and absorbed by the market.298 The proposed ECMT method, on the other hand, uses the stock price only upon disclosure. While the flexible reasonable time standard in Nacchio is meant to reflect that the price of thinly traded stocks will not adjust as quickly or as accurately as the price of stocks such as IBM, it also lack[s]. [any] reference to an adjustment for the movement of the market in the interim299 period between when disclosed and absorbed. Further, the common methods for determining when information has been absorbed have inherent flaws that outweigh any potential benefits they may provide. Comparable indexes will automatically attribute any change in price not otherwise reflected in the relevant index to the fraud, and therefore, if there is other company-specific information of the same naturepositive or negativegains will be overstated.300 Under the ECMT approach, this other information will be excluded to the greatest extent possible by holding that only the market reaction upon disclosure constitutes avoided losses. Statistical models commonly employed to quantify the impact of information on stock prices, such as event studies, may partially address this problem but fail to account for leakages of information. For example, if investors traded solely based on watching the trading activity of known insiders, the impact of the corrective disclosure will be mitigated.301 Such studies, when used by defendants who are obvious insiders, such as Nacchio, will conclude that the market only slightly reacted to the corrective disclosure, and thus, the impact of that information was minimal, when in fact, the price had already partially