Thursday, March 22, 2012

Congress Clears STOCK Act on Federal Official Insider Trading for Presidential Signature

The Senate has passed, by a 96-3 vote, and cleared for the President the Stop Trading on Congressional Knowledge (STOCK) Act, S 2038, barring members of Congress and their staffs, as well as executive branch and judicial branch officials and their staffs, from trading on inside information they obtain as part of the job and that is not readily available to the public. The House earlier passed the legislation by a vote of 417-2. The Act provides that no federal government official may use nonpublic information that they learn about by virtue of their office for the purpose of trading and making a profit in the securities or commodities markets.

In a Statement of Policy, the Obama Administration strongly supported passage of S 2038. The Administration said that the legislation makes it clear that Members of Congress may not engage in insider trading and will help to limit the corrosive influence of money in politics and ensure that the Congress is playing by the same set of rules as everyone else, an important component of the President’s Blueprint for an America Built to Last. (Statement of Administration Policy, Jan. 30, 2012)

S 2038 clarifies that Members and employees of Congress are subject to the prohibitions arising under Section 10(b) of the Securities Exchange Act and SEC Rule 10b-5, including the prohibition on insider trading. In particular, it makes clear that Members and employees of Congress owe a duty arising from their position of trust and confidence not to use nonpublic information obtained by virtue of their position for personal benefit. It also requires reporting of various transactions, including purchases and sales of stock, within 30 days.

In addition, the Administration observed that S 2038 requires the Comptroller General in consultation with the Congressional Research Service to prepare a report for submission to the Congress on the role of political intelligence in the financial markets. This report would address, among other things, the effects of the sale of political intelligence on the financial markets, related legal and ethical considerations, and the merits of imposing disclosure requirements on those who engage in political intelligence activities.

The Act provides that the insider trading ban applies to all legislative, executive and judicial branch officials and their staffs. All three branches should be held to the same standard because all three branches must be worthy of the public’s trust, said House Judiciary Committee Chair Lamar Smith (R-TX). Cong. Record, Feb. 9, 2012, p. H649.

The dispute over the applicability of insider trading laws to Congress centers largely on the issue of whether Congress owes a legally enforceable fiduciary duty to the source from which they receive material, non-public information. The Stop Trading on Congressional Knowledge (STOCK) Act makes it explicit that Members and staff owe such a duty under the federal securities laws. A floor amendment offered by Senator Richard Shelby (R-Ala) extending the prohibition on insider trading to the executive branch and independent agencies was approved by a 58-41 vote; and was retained in the final version. The House added the judicial branch to the legislation.

While members of Congress and other federal officials are not exempt from the federal securities laws, including prohibitions on insider trading, it was unclear if there existed a fiduciary duty to the United States. Misappropriating information gained through an employment relationship is illegal, but there is conflicting case law on whether members of Congress actually constitute employees of the federal government. The Act establishes a fiduciary duty against insider trading by all three branches of government. The Act authorizes the SEC, CFTC and Department of Justice to bring and prosecute insider trading cases throughout the federal government.

Specifically, the legislation provides that, for purposes of insider trading prohibitions under the Securities Exchange Act, the prohibition against Members of Congress and employees of Congress, and executive and judicial branch employees, using inside information for personal benefit states a duty of trust and confidence. The Act authorizes the SEC to issue regulations implementing the legislation and otherwise ensuring that Members and staff are subject to insider trading prohibitions. Nothing in the Act diminishes an existing legal obligation of Members and staff and makes clear that the STOCK Act does not limit or otherwise alter existing securities laws.

S 2308 also makes conforming changes to the Commodity Exchange Act to ensure that the insider trading prohibitions under that Act apply.

The legislation amends Section 21A of the Securities Exchange Act to provide that persons covered by the legislation may not purchase securities that are the subject of an initial public offering in any manner other than is available to members of the public generally. This provision prevents federal officials from receiving special early access to securities IPOs, which can result in significant profits for the well connected.

The legislation enhances financial disclosure rules for federal public officials. Financial disclosure forms will be made publicly available in searchable, downloadable databases on government websites.

The Act also requires prompt reporting, within 30 days, of significant securities transactions by key federal officials and employees in order to bring the financial dealings of public servants into the light of day. According to Senator Joseph Leiberman (D-CT), the SEC has indicated that that kind of required disclosure of securities trades will help the Commission ensure that insider trading laws are not being violated. Cong. Record, Feb. 2, 2012, S299.

A number of political intelligence firms obtain inside information from members of Congress and their staffs and sell that information to investment firms.
The House removed a provision in S 2038 requiring political intelligence practitioners to disclose their activities for the first time and make them adhere to the same registration requirements of lobbyists. This provision was added to the legislation by Senator Charles Grassley (R-Iowa) and was approved by a vote of 60-39 in the Senate. The House version of S 2038 replaced the Grassley Amendment with a study of the industry, which is in the final legislation.

The Act requires the GAO to submit a report to Congress that must include a discussion of what is known about the prevalence of the sale of political intelligence and the extent to which investors rely on such information, as well as the effect that the sale of political intelligence may have on the financial markets. The report must also detail the extent to which information which is being sold would be considered inside information, as well as the legal and ethical issues that may be raised by the sale of political intelligence. The report must also list any benefits from imposing disclosure requirements on those who engage in political intelligence activities; and the legal and practical issues that may be raised by the imposition of disclosure.

For purposes of the study, the Act defines political intelligence as information that is derived by a person from direct communications with an executive branch employee, a Member of Congress, or an employee of Congress; and provided in exchange for financial compensation to a client who intends, and who is known to intend, to use the information to inform investment decisions.

The House also removed an amendment sponsored by Senator Patrick Leahy (D-VT) that would have amended the US criminal code to give prosecutors new tools to identify and prosecute corruption by public officials. The Leahy Amendment is not in the final legislation.

The Act prevents Fannie Mae and Freddie Mac from paying lucrative bonuses to their executives who bear so much responsibility for the housing crisis.

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