Abstract

Trading on non-public material information is fertile ground for a discussion of ethical behavior. The long-running legal tug-of-war over what constitutes illegal insider trading delivers challenges to regulatory authorities charged with detecting and enforcing the law, and is likely one of the reasons that prosecution of insider trading events remains rather uncommon. One can observe both increased volume in the equity and option markets and run-ups in the stock price prior to the announcement of the acquisitions; however, the detection of illegal or unethical insider trading can be difficult. Given the legal uncertainty around insider trading and the circumstantial evidence from the trading activity, it is almost impossible to identify unethical insider trades unless there is a whistleblower or trades are large in size and impeccable in timing. Using call option trading around two merger announcements with similar firms that resulted in different ultimate treatment from the SEC, we illustrate the struggle regulators and prosecutors have with identifying and enforcing unethical insider trades.