Insider Trading and Big Data

I am back in business and will dedicate this blog post to an insider trading verdict that most of us neglected as we were preparing for our long awaited summer vacation. The ruling deserves attention, especially if it will establish a precedent where violation of trust does not have to be proven to be charged with insider trading. Though not a legal expert, I have always assumed that the burden of proof on insider trading rested on two prerequisites; non-public information and deceit as indicated in the definition of an insider trader at Wikipedia, “an individual who trades shares based on material non-public information in violation of some duty of trust“. I will argue that resting insider trading accusations solely on “non-public information” is arbitrary and may jeopardize the legal certainty on insider trading for investors and authorities. In my opinion, the information cannot be the sole ground for insider trading allegations. To prove my point, I will use some examples where Big Data solutions have challenged the assumption that undisclosed information from corporate officials has the largest potential to drive stock prices.

There have been several insider trading cases that have made the headlines in Sweden, but few convictions. In early June, Dagens Industry reported on one of the few and most recent conviction. In this case, the convicted “insider” was a regular amateur stock picker that was interested in a small Swedish investment company (Swede Resources) that invest in oil and gas exploration firms. As many passionate investors would do, he followed the links provided by the investment company to their holdings and registered with one of them to get updates on the outcome of the joint explorations. When the oil exploration company reported on a successful drilling on their extranet site, the trader invested 12.000 SEK in Swede Resource and subsequently got charged and convicted for insider trading. According to the article, the ruling was that the trader had acted on non-public information since there were only 200 registered users to the extranet. In my opinion, it is scary that the effort required to get access to the extranet overshadow the fact that there was no violation of trust in this case.

Just imagine that the insider trader mentioned above was resourceful and put even more effort into his investment decisions. In his ambition to beat other investors, he sets up a big data solution that analyze satellite photos of the oil wells and report on any excessive number of trucks assigned to a well as an indication of a successful drilling. The satellite photos in this case would be proprietary and the data on the increased truck traffic would be non-public. Is the trader as guilty in this second and imaginary scenario? You tell me, but it is evident that legislators do not consider the satellite photos as “non-public information”. Otherwise, UBS would have exposed their clients to the risk of being charged with insider trading if they act on recommendations on the Walmart stock. According to numerous articles, UBS use the envisioned big data solution to analyze the parking lots to Walmart outlets to estimate the number of shoppers to make predictions on sales and earnings.

Ok, I admit that there is a difference in trustworthiness and market impact between a corporate press release on a successful drilling and predictions calculated based on surveillance data. The lessons learned during the knowledge management hype are still applicable; there is a distinction between data and information, no matter how much big data you collect. But I challenge the assumption that corporate officials have access to all the best data and are best equipped to interpret the data to make financial estimates. True, Walmart is better positioned to make predictions on sales using real-time data from their Point-of-Sales systems than UBS that is using surveillance data and making assumptions on sales per visiting customer. But what if the investors leverage data that is better than any data that the company uses to predict earnings beyond the next quarter? Just imagine if someone was better at predicting top line growth for the company with the largest market capitalization in the world than the corporate officials themselves. Who would be the true insider then?

There was a recent article on the alleged planned obsolescence practice of Apple. The author tried to confirm the conspiracy theory that Apple designs products so that customers are forced to constantly upgrade to the latest version so that Apple can maximize their profits. She is evasive on whether the compatibility issues with the iOS upgrades and changed connectivity to peripherals are part of a grand master plan but she proved that Apple really has succeed in building a desire among consumers to have the latest gadget. A simple search on the web and social media on the phrase “iPhone slow” showed several peaks that coincide with the dates when Apple announce a new iPhone model as illustrated in the graph below. So, could it be that a trader using Google Trends is better to assess the pent up demand and revenues for a new release of iPhone than Apple if they ever would commission a market survey?

Let me be extremely clear on that I do not argue that insights based on Big Data should be subject for insider trading allegations, even if I think that the information eventually will have larger impact on the stock performance, at least in the longer run, than press releases with a corporate boiler plate. No, my point is that “non-public information” is a too fragile foundation for insider trading allegations, especially now when advances in mining of big data will rival the analysis done by the corporate officials. In my opinion, the investigators at the Swedish Economic Crime Authority (Ekobrottgsmyndigheten) should focus on cases where it is suspected that someone has acted in violation of trust on information on Corporate Actions, i.e. mergers and acquisitions. The conviction of this amateur investor on the basis of “semi-public information” gives me an uneasy feeling knowing that other, larger players can attain equivalent information without standing the risk of insider trading allegations. Just look at the high-profile case with the Cevian man that was acquitted from the insider trading allegations.

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