The critical point here is that if an insider who had planned to buy stock simply abstains from or proceeds with the purchase based on subsequently acquired nonpublic information, she will expect to beat the market.
CEO Abstains but Cannot Trade While Aware of Inside Information
If she receives information indicating ABC will outperform the market, CEO abstains from selling ABC shares and expects to earn a return of M + x on those shares between times [T.
If the assistant reports that ABC will outperform the market, CEO abstains from selling the ABC shares and expects to earn an abnormal positive return holding those shares, If the assistant is silent, CEO sells the stock, buys shares in a market-wide index fund, and expects to earn the market return.
If CEO plans to sell her ABC shares and then learns good news, she abstains until the good news is announced and sells for a higher price.
If a manager abstains from trading until nonpublic information emerges, the postponed purchase or sale will take place at a price that reflects that information.
A manager who abstains from trading until certain nonpublic information is released has no interest in delaying the release of that information to others within the firm or to the market.
Opponents of insider trading regulation, on the other hand, have cited insiders' unfettered ability to abstain on nonpublic information to support one of their main claims--that any attempt to "level the playing field" between insiders and the public is bound to fail.
6) Under the duty to disclose or abstain, a person in knowing possession (or "aware") of material nonpublic information must either disclose the information or abstain from trading when the other party to the transaction is entitled to know the information because of a fiduciary duty or other relationship of trust and confidence between them.
This reasoning has led Henry Manne and other critics of insider trading regulation to argue that insiders' ability to abstain on nonpublic information makes regulating their use of nonpublic information essentially futile.
Using a simple model, I demonstrate that an insider unable to trade while in possession of nonpublic information cannot systematically earn higher trading profits than a similarly situated public shareholder by using nonpublic information to abstain from trading.
13) Rather, my claim is that if insiders are unable to trade while aware of nonpublic information, their ability to abstain from trading on such information does not give them an advantage over public shareholders.
Part III uses a simple model to examine the distributional effects of insiders' use of nonpublic information to abstain from trading, a use of inside information permitted by Rule 10b-5.
The primary mechanism for regulating trading by insiders is the duty to "disclose or abstain," which arises under Rule 10b-5 of the 1934 Act.
as a fraud or deceit upon any person, in connection with the purchase or sale of any security" (16) to impose the duty to disclose or abstain.