A Rule of Construction for Salman

The Supreme Court decided to consider the meaning of the personal benefit requirement in an insider trading case based on a tipping violation. It accepted review of the Ninth Circuit’s decision in United States v. Salman,[1] which reached substantially different conclusions about the meaning of the personal benefit requirement than the Second Circuit did in United States v. Newman.[2]

The personal benefit requirement is an essential element of a tipping violation. For tipping to occur, an insider must breach a duty of trust and confidence by disclosing material nonpublic information to another person, and the test for the breach of duty is whether the tipper personally will benefit from the disclosure. This personal benefit is the link between a standard insider trading case and a tipping violation.

The meaning of a tipper’s personal benefit for purposes of a tipping violation has been controversial, and the Court’s decision will have substantial consequences for the enforcement of the insider trading laws, but the purpose of a paper I made available on SSRN is not to recommend how the Court should define personal benefit. Instead, it is to suggest that the Court should apply a rule of construction to the personal benefit element that narrows the scope of potential liability.

In a series of cases, such as Blue Chip Stamps, Stoneridge, and Janus,[3] the Supreme Court has expressed reservations about efforts to extend the reach of the private right of action implied by the courts under Section 10(b) and Rule 10b-5 and has applied a restricting and limiting rule of construction. The Court has done so to respect the role of Congress in specifying legal liability and to avoid intruding into areas governed by state law.

The tipping violation is a claim implied by the courts from Section 10(b) and Rule 10b-5 and should be subject to this narrowing rule of construction. The Supreme Court constructed the tipping violation in Dirks[4] as an extension of an earlier decision, Chiarella.[5] The tipping violation was a new theory of liability with new elements of proof for conduct different from an insider’s trade. It authorized a claim against an entirely new category of defendants, that is, strangers to a company who did not have a duty to keep information confidential or make any disclosure.

At the time of Dirks, no act of Congress expressly prohibited insider trading or tipping. That remains true today. The personal benefit question involves law that is distant from a congressional statute. The Salman case calls on the Court to interpret the earlier Court decision that authorized the tipping claim (Dirks), which interpreted a prior decision (Chiarella), which interpreted and applied an SEC rule (Rule 10b-5), which was derived from a general anti-fraud statute in the Securities Exchange Act (Section 10(b)).

As a result, both of the Court’s main reasons for narrowly construing aspects of a judicially implied claim apply to the elaboration of the personal benefit element of a tipping violation. Congress has not spelled out an insider trading or tipping violation, and various state law and other remedies apply to deter insider trading and tipping.

ENDNOTES

[1]           United States v. Salman, 792 F.3d 1087 (9th Cir. 2015), cert. granted, No. 15-628 (U.S. January 19, 2016).

[2]           United States v. Newman, 773 F.3d 438 (2d Cir. 2014), cert. denied, 136 S. Ct. 242 (mem.) (2015).

[3]           Janus Capital Group, Inc. v. First Derivative Traders, 131 S. Ct. 2296 (2011); Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc., 552 U.S. 148 (2008); Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723 (1975).

[4]           Dirks v. SEC, 463 U.S. 646 (1983).

[5]           Chiarella v. United States, 445 U.S. 222 (1980).

The preceding post comes to us from Andrew N. Vollmer, who is Professor of Law, General Faculty, and Director of the John W. Glynn, Jr. Law & Business Program at the University of Virginia School of Law.   The post is based on his recent paper, which is entitled “A Rule of Construction for Salman” and available here.