Introduction
Insider trading buying or selling securities based on material, non-public information—has long attracted legal scrutiny and ethical debate. While most jurisdictions criminalize it, including India under SEBI (Prohibition of Insider Trading) Regulations, 2015, the ethical roots of the concept date back to the fiduciary principles of trust and fairness in markets. In the financial world, especially for Chartered Financial Analyst (CFA) charterholders, the CFA Institute’s Code of Ethics and Standards of Professional Conduct prohibit such conduct even in the absence of legal prohibition. This article examines whether insider trading is primarily an ethical breach or a legal violation, drawing upon Indian securities law and the CFA ethical framework, ultimately establishing how both systems reinforce each other in pursuit of market integrity.
Understanding Insider Trading
Insider trading typically refers to:
The act of trading in the securities of a listed company by individuals who have access to unpublished price sensitive information (UPSI) relating to those securities.
Such trading undermines the principle of a level playing field in the securities market, leading to market manipulation, investor loss, and erosion of confidence.
CFA Code of Ethics & Standards: An Ethical Foundation
The CFA Institute’s Code of Ethics and Standards of Professional Conduct plays a pivotal role in promoting fair dealing. Particularly relevant to insider trading are:
- Standard II(A) – Material Nonpublic Information:
Members and Candidates who possess material nonpublic information that could affect the value of an investment must not act or cause others to act on the information.
- Standard I(D) – Misconduct:
Members and Candidates must not engage in any professional conduct involving dishonesty, fraud, or deceit or commit any act that reflects adversely on their professional reputation.
The CFA framework treats insider trading as an ethical breach first, grounded in the idea of trust, integrity, and the responsibility of financial professionals to preserve market fairness.
From the CFA perspective, even in the absence of a formal legal structure (in jurisdictions with weak or no enforcement), a financial professional is duty-bound not to use material nonpublic information for personal gain.
Legal Regulation of Insider Trading in India
The Securities and Exchange Board of India (SEBI) provides a robust legal framework for regulating insider trading through:
1. SEBI Act, 1992
- Section 12A(d) and (e) prohibit any person from dealing in securities while in possession of UPSI and from communicating such information to others.
2. SEBI (Prohibition of Insider Trading) Regulations, 2015
These regulations define the contours of what constitutes insider trading in India. Key elements include:
- Regulation 2(1)(g) – Definition of “insider”
- Regulation 2(1)(n) – Definition of “unpublished price sensitive information”
- Regulation 3 – Prohibition on communication of UPSI
- Regulation 4(1) – Prohibition on trading in securities while in possession of UPSI
For example, Regulation 4(1) provides that no insider shall trade in securities that are listed or proposed to be listed on a stock exchange when in possession of UPSI.
- Penalty Provision under SEBI Act, 1992:
- Section 15G: If any insider deals in securities while in possession of UPSI, or communicates UPSI, or counsels others to deal based on UPSI, they are liable to a penalty:
“Which shall not be less than ₹10 lakh but may extend to ₹25 crore or three times the amount of profits made out of insider trading, whichever is higher.”
3. Companies Act, 2013
- Section 195 (repealed after the enforcement of SEBI’s 2015 Regulations) previously addressed insider trading, but now SEBI is the primary enforcer.
Legal Cases on Insider Trading in India
- Rakesh Agrawal v. SEBI (1994)
A landmark case where the Bombay High Court acknowledged insider trading as a misuse of fiduciary duty, but also emphasized that motive and context matter. Though ultimately, SEBI’s jurisdiction was upheld. - SEBI v. Rajiv Gandhi (2003)
SEBI charged HLL (now HUL) with insider trading when it merged with Brook Bond Lipton India. The case reinforced the need for defining UPSI and evaluating circumstantial evidence. - Reliance Industries Ltd. & Mukesh Ambani (2021)
SEBI imposed penalties for alleged insider trading involving Reliance Petroleum Ltd. shares, reinforcing its enforcement authority.
These cases show insider trading is not merely a statutory violation but a breach of fiduciary responsibility, especially for directors, auditors, and senior executives.
Is Insider Trading Primarily an Ethical Breach or Legal Violation?
Let’s evaluate both angles:
From the Ethical Standpoint
- Ethics predates law. Even before insider trading was codified in statutes, professionals and corporate insiders had ethical duties not to exploit non-public information.
- The CFA framework makes it clear that fair dealing, integrity, and professionalism are at the heart of ethical conduct.
- The responsibility of not misusing insider information arises not merely from legal risk, but from the moral duty of professionals to maintain the integrity of capital markets.
From the Legal Standpoint
- Once codified by law (e.g., SEBI’s 2015 regulations), insider trading carries tangible penalties financial and penal.
- Law requires objective thresholds such as what constitutes UPSI, who is an insider, when is trading prohibited to create enforceability.
- Legal compliance is non-negotiable. While ethics may tolerate some ambiguity, the law imposes a bright-line standard.
Ethical Breach → Legal Violation: A Continuum
Insider trading begins with an ethical lapse a decision to prioritize personal gain over fairness but becomes a legal violation when:
- The insider acts upon material nonpublic information.
- The act is traceable and supported by evidence.
- It meets the statutory definitions and thresholds under SEBI laws.
Thus, insider trading exists on a continuum:
- Stage 1: Ethical awareness and restraint (CFA’s preventive model)
- Stage 2: Ethical breach (intent to benefit self unfairly)
- Stage 3: Legal violation (actual trade based on UPSI)
Why Legal and Ethical Standards Must Work Together
- Prevention vs. Punishment: Ethical codes aim to prevent misconduct through education and awareness, while laws focus on punishment and deterrence.
- Corporate Governance: Strong internal controls, whistleblower policies, and code of conduct (often influenced by ethical norms like CFA’s) serve as first-line defenses.
- Market Trust: Regulatory enforcement alone cannot ensure fair markets. Ethical behavior fills the gaps where the law cannot reach due to practical or evidentiary constraints.
Conclusion
Insider trading is fundamentally an ethical breach rooted in the violation of trust, fairness, and professional responsibility. However, once codified into enforceable laws, particularly under SEBI’s 2015 regulations, it also becomes a serious legal offence with severe penalties. The ethical obligations under the CFA Code of Ethics complement and often predate statutory prohibitions, setting higher expectations for financial professionals.
In an ideal securities market, ethics and law are not opposing forces but complementary frameworks. Ethics guide intent and values; law enforces compliance and consequences. Recognizing insider trading as both a legal violation and an ethical breach ensures that market integrity is protected not just by fear of punishment, but by an internalized culture of fairness and fiduciary responsibility.
Contributed By: Saksham Tongar (Intern)