Academic

Donna Nagy is a psychic!  Not only did she flag the constitutional issues surrounding PCAOB (currently in front of the Supreme Court), but her latest paper, Insider Trading and the Gradual Demise of Fiduciary Principles (forthcoming, Iowa Law Review) seems to have predicted the Second Circuit's reversal of the dismissal in the cyberhacking case of SEC v. Dorozhko, as well.  Here is Donna's abstract:

Recent SEC enforcement actions, such as the case filed against Dallas Mavericks' owner Mark Cuban, raise the question whether deception by a fiduciary is essential to the Rule 10b-5 insider trading offense. Under the Supreme Court's classical and misappropriation theories, the answer is clearly yes - each theory has a fiduciary principle at its core. Yet lower courts and the SEC frequently disregard the Court's explicit dictates, and a consensus is emerging that insider trading rests simply on the wrongful use of material nonpublic information, regardless of whether a fiduciary-like duty is breached. Although this view of insider trading can be justified by the policy objectives underlying the Court's decision in United States v. O'Hagan, it currently lacks a solid doctrinal foundation. To resolve this anomaly, this Article offers specific suggestions that would bring much needed coherence and legitimacy to the law of insider trading.

Donna's latest paper on insider trading discusses on p. 25 how the Supreme Court's holdings in the insider trading cases, which focus on the deception of a fiduciary, leaves open the possibility of a thief, particularly a computer hacker, accessing confidential information and trading on it, without violating 10b-5. Of course, cyberhacking and cybersnooping could violate criminal laws on stealing, but then there would be questions of the amount in value that was stolen by copying information that will be disclosed to the public later. Well, the Second Circuit doesn't want to have to worry about those sorts of things and is prepared to say that wrongful appropriation will satisfy the deception required under 10b-5.  (Opinion here.)

In Dorozhko, the trader was not a fiduciary, or an agent of a fiduciary, or the wife of a fiduciary, or anything!  He was a garden variety hacker, who bought put options on the stock of an issuer he thought would go down in price based on the disclosure documents he nabbed off the issuer's confidential computer files.  The opinion, however, is poised to create another distinction that seems untenable for any length of time, however.  The court appears to say that if a hacker uses "deception" to gain access, that this satisfied 10b-5 requirements.  However, if the hacker merely takes advantage of a weakness in the security of the computer files, then the hacker will be a common law thief, and not a securities fraudster.

In our view, misrepresenting one?s identity in order to gain access to information that is otherwise off limits, and then stealing that information is plainly ?deceptive? within the ordinary meaning of the word. It is unclear, however, that exploiting a weakness in an electronic code to gain unauthorized access is ?deceptive,? rather than being mere theft. Accordingly, depending on how the hacker gained access, it seems to us entirely possible that computer hacking could be, by definition, a ?deceptive device or contrivance? that is prohibited by Section 10(b) and Rule 10b-5. However, we are hesitant to move from this general principle to a particular application without the benefit of the District Court?s views as to whether the computer hacking in this case?as opposed to computer hacking in general?was ?deceptive.? Our caution is counseled by the considerable and careful efforts the District Court has already devoted to this case, including hearing live testimony from witnesses at a preliminary injunction hearing that covered, among other topics, how Thomson?s secure servers were infiltrated. . . . Having established that the SEC need not demonstrate a breach of fiduciary duty, we now remand to the District Court to consider, in the first instance, whether the computer hacking in this case involved a fraudulent misrepresentation that was ?deceptive? within the ordinary meaning of Section 10(b).

This seems a slim distinction, but I suppose one that the court is trapped into by precedent and the wording of 10b-5.  So, now we'll watch to see if a petition for certiorari is filed and granted.  Perhaps the new canon for insider trading law will be Chiarella, O'Hagan, Dirks and Dorozhko!