Insider Trades Shouldn’t Leave Investors Guessing
(Bloomberg Opinion) -- Executives naturally know more than the investing public does about the companies where they work. They also tend to trade in the shares of those companies, for various reasons. This poses a challenge: How can the public be sure that executives aren’t taking undue advantage of their privileged knowledge?
For far too long, the Securities and Exchange Commission has been relying too much on trust. That needs to change.
Since the year 2000, the SEC has offered executives one main tool to demonstrate that they’re not trading on material non-public information: the 10b5-1 plan. If corporate insiders want to raise cash for, say, mortgage payments or their kids’ college tuition, or if they want to build up larger ownership stakes, they can use such plans to schedule sales and purchases in advance. This is supposed to give them some protection if they’re accused of acting on whatever privileged information they later learn.
Problem is, the plans leave much to be desired. For example, 10b5-1 plans can be terminated with zero notice, trades can often occur immediately after a plan is adopted, and there’s no limit on the number of plans an individual can have. So it’s still possible for executives to act pretty quickly on inside information, and to set up arrays of plans that are functionally the same as trading whenever they want. Regulators are supposed to look out for this, but the public can’t, because executives aren’t required to reveal the information needed to do so.
Consider the case of Peloton, the popular exercise equipment company. It recently reported that CEO and co-founder John Foley had terminated a 10b5-1 plan to sell 2.4 million shares between Nov. 9, 2020 and Oct. 31, 2022 after selling just 1 million shares. This was an important disclosure for investors, but totally voluntary and rare among public companies. It was an exception even at Peloton: Investors have limited information about the details (start dates, end dates, amounts) of plans governing hundreds of trades made by the company’s officers and directors since the beginning of 2020.
So it’s pretty easy for executives to say a trade was part of a 10b5-1 plan, but it’s hard for investors to verify or to place in context. Suppose someone sells just before the company announces bad news. Was the sale part of a newly adopted plan? Did the executive also suddenly cancel a plan to buy shares?
Regulators and legislators recognize the need for reform. SEC Chairman Gary Gensler has said that “the plans have led to real cracks in our insider trading regime,” and has asked the agency’s staff to propose changes. The SEC’s Investor Advisory Committee has made its own recommendations. Senators Chris Van Hollen and Deb Fischer have turned up the pressure by proposing legislation and noting that “current regulations do not prevent corporate insiders from gaming the system.”
The solutions are straightforward. Executives should have to wait several months before making the first trades under a plan, and they should give notice before cancelling. They shouldn’t have more than one plan at any given time. They should provide ample public disclosure, including start dates, end dates, authorized amounts and alerts when plans are terminated. And they should electronically file form 144, which provides additional disclosure on certain types of trades, so that the public can easily access the information.
Whether the SEC is willing to take all this on remains to be seen. But without these changes, the 10b5-1 mechanism is useless. Investors shouldn’t be expected to simply trust that the plans are preventing insider trading. They should be able to verify.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
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