Stock prices change every day as a result of market forces.

By this we mean that

share prices change because of supply and demand. If more people want to buy
a stock (demand) than sell it (supply), then the price moves up. Conversely, if
more people wanted to sell a stock than buy it, there would be greater supply
than demand, and the price would fall.
Understanding supply and demand is easy. What is difficult to comprehend is
what makes people like a particular stock and dislike another stock. This comes
down to figuring out what news is positive for a company and what news is
negative. There are many answers to this problem and just about any investor
you ask has their own ideas and strategies.
That being said, the principal theory is that the price movement of a stock
indicates what investors feel a company is worth. Don't equate a company's value
with the stock price. The value of a company is its market capitalization, which is
the stock price multiplied by the number of shares outstanding. For example, a
company that trades at $100 per share and has 1 million shares outstanding has
a lesser value than a company that trades at $50 that has 5 million shares
outstanding ($100 x 1 million = $100 million while $50 x 5 million = $250 million).
To further complicate things, the price of a stock doesn't only reflect a company's
current value, it also reflects the growth that investors expect in the future.
The most important factor that affects the value of a company is its earnings.
Earnings are the profit a company makes, and in the long run no company can
survive without them. It makes sense when you think about it. If a company never
makes money, it isn't going to stay in business. Public companies are required to
report their earnings four times a year (once each quarter). Wall Streetwatches
with rabid attention at these times, which are referred to as earnings seasons.
The reason behind this is that analysts base their future value of a company on
their earnings projection. If a company's results surprise (are better than
expected), the price jumps up. If a company's results disappoint (are worse than
expected), then the price will fall.

So, why do stock prices change? The best answer is that nobody really knows for
sure. Some believe that it isn't possible to predict how stock prices will change,
while others think that by drawing charts and looking at past price movements,
you can determine when to buy and sell. The only thing we do know is that stocks
are volatile and can change in price extremely rapidly.
The important things to grasp about this subject are the following:
1. At the most fundamental level, supply and demand in the market determines
stock price.
2. Price times the number of shares outstanding (market capitalization) is the
value of a company. Comparing just the share price of two companies is
meaningless.
3. Theoretically, earnings are what affect investors' valuation of a company, but
there are other indicators that investors use to predict stock price. Remember, it
is investors' sentiments, attitudes and expectations that ultimately affect stock
prices.
4. There are many theories that try to explain the way stock prices move the way
they do. Unfortunately, there is no one theory that can explain everything.

What is 'Insider Trading'

Insider trading is the buying or selling of a security by someone who has access
to material nonpublic information about the security. Insider trading can be illegal
or legal depending on when the insider makes the trade. It is illegal when the
material information is still nonpublic; trading while having special knowledge is
unfair to other investors who don't have access to such knowledge.

BREAKING DOWN 'Insider Trading'

Illegal insider trading includes tipping others when you have any sort of nonpublic
information. Legal insider trading happens when directors of the company
purchase or sell shares, but they disclose their transactions legally. The
Securities and Exchange Commission (SEC) has rules to protect investments
from the effects of insider trading.

Legal Insider Trading

The term "insider trading" is generally negative. Legal insider trading happens in
the stock market on a weekly basis. The SEC requires transactions to be
submitted electronically in a timely manner. Transactions are submitted
electronically to the SEC and also must be disclosed on the companys website.
The Securities Exchange Act of 1934 was the first step to legal disclosing
transactions of company stock. Directors and major owners of stock must
disclose their stakes, transactions and ownership changed. Form 3 is used as an
initial filing to show a stake in the company. Form 4 is used to disclose a
transaction of company stock within two days of the purchase or sale. Form 5 is
used earlier transactions or those that have been deferred.

DEFINITION of 'Material Insider Information'

Material information, about certain aspects of a company, that has not yet been
made public but that will have at least a small impact on the company's share
price once released. It is illegal for holders of material insider information to use
the information - however it was received - to their advantage in trading stock, or
to provide the information to family members or friends so they can use it to
make trades.

BREAKING DOWN 'Material Insider Information'

Getting information that a company's expected earnings per share for a given
quarter could be markedly poorer than expected, or getting information about
developments in an ongoing lawsuit involving a company are both examples of
material insider information.
As long as there has been a stock market, buying or selling based on an insider
tip has been a common practice. Before there were Securities and Exchange
Commission (SEC) guidelines prohibiting the practice - and long before there was
a CFA Institute devoted to increasing public awareness of insider dealing -

corporate insiders enjoyed a distinct advantage in trading their securities. This

advantage has resulted in numerous scandals. On the buy side, an insider whose
stock is trading at $25 a share could forge a buyout at $50, but wait to announce
the merger until the insider (and a few privileged friends and family) bought the
stock aggressively in order to make a quick profit. On the other side, if a company
loses a major customer or a key executive, the insiders (in the absence of insider
trading laws) could dump all of their shares prior to announcing the negative
information, thus avoiding a big loss.
Why Is This Wrong?
In spite of the detailed regulations set out by the SEC and the CFA Institute
(among others), the news stories and the public awareness campaigns, some will
look at insider dealing and not really see why it should be such a big deal. After
all, people know that investing comes with risk, and they assume that certain
people will have advantages over others in terms of access to information.
Moreover, if we know our stock is about to go down because of a yet-to-bereleased news story or event, why shouldn't we avoid our loss and cash in? The
issue (at its core) has to do with public confidence and a system requiring
fairness. People invest in stocks and bonds because they are confident that the
price they are paying reflects all public information on the stock. If the public did
not have this confidence, many would not be investing in retirement funds at all,
while others would refuse to pay the prices they do. Regulating the system by
prohibiting insider dealing has created trillions in market value and helped
millions reach their retirement goals. Yes, these laws do have unfair
consequences for a few (the people who know a stock is going to go down but
can't trade on this information because it's not public), but in the end, far more
people benefit from a system that requires fairness.
Definition of Material Nonpublic Information
Can I trade on this? Do I have to wait to trade on that? In order to clarify what
conduct is prohibited by Standard II-A, the term "material nonpublic information"
has been coined to help guide Members and Candidates in certain situations.

Take each component individually:

Material
This means the information would be considered relevant to an investor
who is considering investing in this stock, or to a current shareholder
wishing to sell. If a stock reflects all public information, does adding this
new information significantly alter the perception of that stock?
Material information would include the following:
Dividend increase, decrease or omission
Quarterly earnings or sales significantly different from consensus
Gain or loss of a major customer
Changes in management
Major development specific to that industry
Government reports of economic trends (housing starts, employment
etc.)
Major acquisition or divestiture
Offer is made to tender shares (acquisition)
Material versus Non-Material
No statutory definition of "materiality" is available, so it is up to courts that
rule on insider trading cases to rule. These cases will often cite the market
price impact of the released information to establish that it was indeed
material. Say a dividend is cut in half and the shares fall 10%; it was clearly
a material event. However, if a company announces a new branch office in
Kansas, and the stock performs in line with the market following the
announcement, it was a non-material event. An insider with knowledge of

the Kansas venture would not be found criminally liable if there were a
purchase of shares prior to the public announcement of the Kansas office.
The source of the information also impacts its materiality. The more reliable
the source, the more likely it is that the information is material. For
example, if you're riding the commuter train and overhear the CFO of an
energy company tell his assistant that he's about to announce a plunge in
quarterly corporate earnings, and you immediately call your broker to sell
your shares, then the information is material and non-public and standard
II(A) has been violated. On the other hand, if you sell your shares based on
a recommendation from your dentist, who happens to follow the energy
sector as a hobby and thinks this particular company is under strain, that
source of information is unreliable and therefore not material.
Regarding Analyst Opinion on a Stock
Ask whether the information is material: i.e. will it have a market impact? If
an influential Wall Street analyst is preparing to downgrade his or her
investment opinion from a buy to a sell, and we know about it, that's very
different from our neighborhood broker/dealer stating he doesn't like it
anymore. In the first case, we are required to wait for public disclosure of
the change in opinion; the second case requires no trading restrictions.
Nonpublic
The information is yet to be disclosed to the general marketplace.
Look Out!
Selective disclosure? When information is disclosed
selectively, i.e. just to a handful of investment analysts,
or perhaps on a conference call, or in an email, the
information may still be regarded as nonpublic.
Companies are bound by specific procedures designed
to make the information truly public and to ensure a
system of fairness in which all market participants are
given a chance to act on the information.

Did the Insider Breach a Duty?

Standard II-A includes language that prohibits use of information obtained in

breach of a duty. Essentially it means that this insider should have avoided
disclosing this information but failed to do so.
What was the motivation? Will the insider benefit from this breach in one of the
following ways?
Pecuniary Benefit - The insider's investment position is affected, or the
insider's reputation (and future potential salary) is enhanced.
Quid Pro Quo - The tipper expects something in return from the recipient.
Gift - An insider wants friends and family to benefit from this information.
The Analyst's Role
In an efficient market, an analyst must retain the freedom to study a company and
act on information not always contained in the public press releases. Analysts are
encouraged to gather and use two forms of legal information:
1. Material Public Information - Annual reports can contain volumes of data
and discussion that could be material and are perhaps yet to be
discovered.
2. Non-Material Nonpublic Information - Discussions with management
may reveal information that isn't obviously material but that may give
valuable clues.

The Raj Rajaratnam/Galleon Group, Anil Kumar, and Rajat Gupta insider trading cases are
parallel and related civil and criminal actions by the United States Securities and Exchange
Commission and the United States Department of Justice against three friends and business
partners: Galleon hedge fund founder-ownerRaj Rajaratnam and former McKinsey &
Company senior executives Anil Kumar and Rajat Gupta. In these proceedings, the men were
confronted with insider trading charges: Rajaratnam was convicted, Kumar pleaded guilty and
testified as key witness in the criminal trials of Rajaratnam and Gupta, and Gupta was convicted in
Federal district court in Manhattan in June 2012.

Origins of the case

On Friday October 16, 2009, Raj Rajaratnam was arrested by the FBI and accused of conspiring
with others in insider trading in several publicly traded companies. U.S. Attorney Preet Bharara put
the total profits in the scheme at over $60 million, telling a news conference it was the largest hedge
fund insider trading case in United States history.[18][19] Jim Walden, an attorney for Mr. Rajaratnam,
said his client is innocent and will fight the insider-trading charges.[20]
Rajaratnam allegedly profited from information received from:

Robert Moffat, a senior executive of IBM considered next in line to be CEO[21]

Kumar, a senior executive of McKinsey and close friend of Gupta (its former CEO) who was
later also accused of passing information to Rajaratnam

Rajiv Goel, a midlevel Intel Capital executive

Roomy Khan, previously convicted of wire fraud for providing inside information from her
employer, Intel, to Rajaratnam.[22]

It was reported that Rajaratnam, Goel and Kumar were all part of the class of 1983 from Wharton
school.[23]
The Sri Lankan stock market fell sharply after his arrest on insider trading charges in October 2009.
[24]

Sri Lanka's Securities and Exchange Commission is reviewing the active stock trading of Raj

Rajaratnam with a view of identifying any insider trading. [25]

It said he also conspired to get confidential information on the $5 billion purchase by Warren
Buffetts Berkshire Hathaway of Goldman preferred stock before the September 2008 announcement
of that transaction. The Wall Street Journal reported in April that a former member of the board of
directors of Goldman Sachs and former McKinsey & Company chief executive Rajat Gupta told
Rajaratnam about Berkshire's investment before it became public.[26] Gupta stood to profit as wouldbe chairman of Galleon International, a co-founder of New Silk Route with Rajaratnam, and as a
friend of Rajaratnam. In March 2011 Gupta was charged in an administrative proceeding by
the SEC. Gupta maintained his innocence, countersued, won dismissal of the administrative charge,
then was arrested on criminal charges.

Trial and Charges

Rajaratnam
Rajaratnam was found guilty on all 14 charges and sentenced to 11 years in prison for profiting from
tips he received from Robert Moffat, Anil Kumar, Rajiv Goel, and Roomy Khan.