On January 18, 2022, the District Court presiding over the Securities and Exchange Commission’s “shadow trading” action denied the defendant’s motion to dismiss.1 Shadow trading is a term used to describe trading in the securities of one company while in possession of material nonpublic information (“MNPI”) of another, economically-linked company. In denying defendant’s motion, the Court found that the Commission sufficiently pled materiality, that is, that confidential information concerning a merger could be material as to a company not involved in the merger. In rejecting the defendant’s argument that permitting the Commission to pursue an enforcement action under such circumstances violated his due process rights, the Court noted that the defendant “may dispute the number of companies to which information may be material, but… the relevant case law does not foreclose the possibility that the number exceeds two.” The Court observed further: “Although unique, the SEC’s theory of liability falls within the contours of the misappropriation theory and the language of the applicable law.” This litigation is still in its early stages and will be closely watched. In the meantime, it clearly evidences the Commission’s intention to construe its enforcement powers broadly when pursuing insider trading violations. It also poses certain compliance risks for investment managers, particularly in the design and implementation of their MNPI and restricted list policies and procedures.
By way of background, on August 17, 2021, the Commission charged an executive at Medivation, Inc., an oncology-focused biopharmaceutical company for trading in the securities of Medivation’s competitor, Incyte Corporation, based on confidential information he learned during his employment that Medivation would be acquired by Pfizer. More details may be found in S&K’s client alert on the Commission’s filing of the action, here.
As we noted in our initial client alert on the subject, investment managers may want to consider reviewing their compliance, employee training, and insider trading policies in light of the risk that the shadow trading theory encompasses a boarder range of securities beyond the parties to a transaction, such as competitors or comparable companies in an industry. In addition, investment managers may want to carefully review confidentiality or similar agreements to which they may be a party to determine whether such agreements may create a duty wider in scope than refraining from transacting in the securities of the counterparty issuer.
The litigation is titled SEC v. Matthew Panuwat and is pending in the Northern District of California. The complaint is available here.