Insider trading is unethical because it lets people with secret access profit at the expense of every other investor, betrays the trust that shareholders and employers place in corporate insiders, treats confidential information as a personal asset rather than someone else’s property, and chips away at the public confidence that keeps markets working. The conduct is also illegal under Section 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5, but the ethical case against it exists independent of the statute and is the reason the statute exists in the first place.1Office of the Law Revision Counsel. 15 U.S. Code 78j – Manipulative and Deceptive Devices
The Kind of Information at the Heart of the Problem
The ethical issue does not arise from every trade an insider makes. It arises when the trade is based on material non-public information: facts a reasonable investor would consider important when deciding whether to buy or sell, that have not yet been disclosed to the market. The Supreme Court set the materiality standard in TSC Industries, Inc. v. Northway, Inc., holding that a fact is material when there is a substantial likelihood it would significantly change the “total mix” of information available to investors.2Legal Information Institute. TSC Industries, Inc. v. Northway, Inc.
Typical examples include upcoming earnings results, planned mergers or acquisitions, bankruptcy filings, major leadership changes, and the success or failure of a key product in development. Someone who learns any of these before the public and trades on them gains an edge no outsider could ever match through research or analysis. That gap is where the ethical problem lives.
It Rigs the Game Against Ordinary Investors
Markets work because participants trust that they are competing on the same information. When one side of a trade already knows what the other side is about to find out, the exchange stops being a fair bet and becomes something closer to a sure thing for the insider. The outside investor is not simply out-thought; they are structurally unable to compete, no matter how much work they do.
Picture an investor who spends weeks studying a company’s financials before buying shares. If an insider already knows the company is about to be acquired at a premium, that insider can buy the shares knowing they are worth far more than today’s price. The seller would have held, or demanded a higher price, had they known the same facts. Competitive markets reward careful research and sound judgment. Insider trading replaces that reward with a reward for access, and access is not a skill.
This is why the law treats trading on secrets as fraud rather than aggressive trading. The ethical line is not between smart investors and ordinary ones. It is between advantages built from public effort and advantages built from private information.
It Betrays the People the Insider Is Supposed to Serve
Corporate officers, directors, and many employees hold a position of trust, a fiduciary duty, that requires them to put shareholder interests ahead of their own.3Legal Information Institute. Classical Theory of Insider Trading Shareholders hand over their capital expecting that the people running the company will act with integrity. An executive who uses internal information to make personal trades inverts that arrangement, treating a position of service as a private revenue stream.
This is the classical theory of insider trading, and it produces a simple rule known as “disclose or abstain”: an insider who possesses material non-public information must either release it to the public before trading or not trade at all.3Legal Information Institute. Classical Theory of Insider Trading The duty is not limited to the C-suite. An accountant reviewing draft earnings, an engineer who knows a product has failed in testing, or anyone else who holds confidential information because of their role faces the same ethical rule. If the information came to you because someone trusted you with it, using it for personal gain is a betrayal of that trust.
It Treats Someone Else’s Information as Your Own
Not every person who trades on secrets owes a duty to the company whose stock is traded. The misappropriation theory addresses that situation by recognizing confidential information itself as property that belongs to whoever controls it. Using that information for personal trades without authorization is a form of conversion, which the Supreme Court has likened to embezzlement.4Legal Information Institute. Misappropriation Theory of Insider Trading
The theory came together in United States v. O’Hagan. A partner at the law firm Dorsey & Whitney learned that his firm’s client, Grand Metropolitan PLC, was planning a tender offer for Pillsbury Company stock. He did no work on the deal, but he bought Pillsbury call options and shares and later sold them for more than $4.3 million in profit once the offer became public. The Supreme Court held that he committed fraud by misappropriating confidential information in breach of a duty owed to his firm and its client, even though he had no relationship with Pillsbury or its shareholders.5Library of Congress. United States v. O’Hagan, 521 U.S. 642 (1997)
The ethical logic is straightforward. Information has value. Using someone else’s confidential information without their consent is a kind of theft, and the fact that no physical object changes hands does not change what has happened. The principle extends liability to attorneys, consultants, bankers, and anyone else who learns confidential information through a professional relationship and treats it as a personal perk.
Shadow Trading in a Related Company
The duty you owe to the source of information covers how you use it, not just which ticker you trade. In SEC v. Panuwat, the SEC successfully argued that an employee at Medivation, Inc. committed insider trading by using confidential information about Pfizer’s impending acquisition of his employer to buy call options in Incyte Corporation, a comparable firm in the same industry. He did not trade his own employer’s stock. He bet that the acquisition news would also move a competitor’s stock, and a jury agreed with the SEC in April 2024.6U.S. Securities and Exchange Commission. Matthew Panuwat – Litigation Release The ethical breach is the use of confidential information for personal gain, wherever that gain is realized.
Passing the Secret Is as Wrong as Trading on It
The problem does not end with the person who places the trade. When a corporate insider shares material non-public information with a friend, relative, or business contact who then trades on it, both the tipper and the tippee can be held responsible. Handing someone a secret so they can profit from it causes the same harm to market fairness as using it yourself.
For the tipper, the Supreme Court in Dirks v. SEC required that the disclosure involve a personal benefit, which can be money, a reciprocal favor, or even the intangible benefit of giving a gift to a friend or relative. Courts have read “personal benefit” broadly. The tippee is on the hook when they knew, or reasonably should have known, that the information came out improperly. Someone who hears a stock tip over dinner and suspects it came from a corporate insider cannot cash in and then plead ignorance. The chain can run through several hands, and a remote tippee faces the same test at each link.
It Weakens the System Every Investor Depends On
Each individual case of insider trading is wrong on its own terms, but the harm compounds. The health of the financial system depends on ordinary people believing the market is a fair place to put their savings. When the public perceives the game as rigged, participation drops. Falling participation reduces liquidity, which makes buying and selling harder and prices more volatile, which pushes more cautious investors away.
Companies feel this too. Businesses raise money by selling securities, and when investors demand higher returns to compensate for the risk of being exploited, the cost of capital rises for every company trying to fund innovation, expansion, or hiring. A single prominent case where an insider profits at the public’s expense can damage confidence out of all proportion to the dollars actually involved. The SEC devoted nearly one-third of all enforcement actions in fiscal year 2025 to cases involving offering fraud or insider trading, which reflects how seriously regulators treat the systemic risk.
When Insiders Can Trade Without Crossing the Line
Not every trade by a corporate insider is unethical. People who work for a company often own its stock, and they sometimes need to sell for ordinary reasons like paying taxes or diversifying. Rule 10b5-1 provides an affirmative defense when the trade is made under a plan adopted before the insider learned any material non-public information.7U.S. Securities and Exchange Commission. Insider Trading Arrangements and Related Disclosures The plan must specify in advance the amount, price, and timing of future trades, or supply a formula that does, so the insider’s later knowledge becomes irrelevant to the trade.
SEC amendments effective in 2023 tightened the rule with cooling-off periods before any trading can start, a good-faith certification requirement for directors and officers, limits on overlapping plans, and a restriction on how often a person can rely on the defense for a single-trade plan.8U.S. Securities and Exchange Commission. Rule 10b5-1 – Insider Trading Arrangements and Related Disclosure Fact Sheet Modifying an existing plan is treated as terminating the old plan and adopting a new one, which restarts the waiting period. These safeguards exist because a pre-established plan is only ethical when it genuinely removes insider knowledge from the trading decision. A plan adopted or amended while the insider holds material non-public information defeats the whole purpose of the safe harbor and brings the conduct back into the territory the rest of the law is designed to prevent.