United States v. Newman: Second Circuit clarifies its "Delphic" interpretation of insider trading laws in landmark ruling



December 11, 2014

Government Investigations and White Collar Defense Alert

Author(s): Brian T. Kelly

The Second Circuit recently reversed two insider trading convictions, providing significant and long-awaited clarification of the law regarding “tipping” liability.

Recently, in a far-reaching decision, the Second Circuit reversed the insider trading convictions of Todd Newman and Anthony Chiasson and remanded the case to the district court with instructions to dismiss the indictment with prejudice. In its decision, the Second Circuit substantially clarified prior case law regarding insider trading. First, the Court held that, in order to sustain a conviction against a tippee, the government needs to prove that a tippee knew that an insider disclosed confidential information and did so in exchange for personal benefit. Second, the Court held that the evidence in this case was insufficient to prove that the tippers received a personal benefit. Finally, the Court held that, even if a benefit had been proven, the government failed to show the defendants’ knowledge of trading on confidential information obtained from an insider in violation of a fiduciary duty.

Importantly, the Court held that, for the personal benefit element, the government must prove that a tipper and tippee had “a meaningfully close personal relationship that generate[d] an exchange that [was] objective, consequential, and represent[ed] at least a potential gain of a pecuniary or similarly valuable nature” and that “the personal benefit received in exchange for confidential information [was] of some consequence.”[1] In handing a defeat to the near-perfect success rate for insider trading cases brought by the U.S. Attorney’s Office for the Southern District of New York, the Second Circuit wrote with precision and clarity on issues that previously addressed by more “Delphic” pronouncements,[2] and rescued from almost total irrelevance the requirement that the government prove a tipper received a personal benefit.

The Government charged Mr. Newman and Mr. Chiasson with several counts of securities law violations, alleging that Mr. Newman, a portfolio manager at Diamondback Capital Management, LLC, and Mr. Chiasson, a portfolio manager at Level Global Investors, L.P., willfully participated in an insider trading scheme by trading on information that Diamondback and Level Global analysts had received, either directly or indirectly, from insiders at Dell and NVIDIA.[3] A jury convicted on all counts.[4]

As interpreted by the Supreme Court, a person violates Section 10(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78j(b) and SEC Rule 10b-5, 17 C.F.R. § 240.10b-5, when he unlawfully trades on material, non-public information.[5] Liability can attach to a person who trades on material, non-public information he received from a company insider or a person who misappropriated confidential information.[6]

The Court’s decision in Newman brings clarity to an otherwise opaque and vague interpretation of insider trading law, especially as it relates to the personal benefit requirement. Prior to the Newman decision, the personal benefit element for tipper/tippee liability had been described as “broadly defined” and, given such a broad definition, the required proof of a personal benefit was “modest.”[7] In addition, the government did not have to demonstrate that the benefit was “specific or tangible” as long as some relationship existed between the tipper and the tippee and the tippee’s trading “resembled trading by the insider himself followed by a gift of the profits to the [tippee].”[8]
Pre-Newman case law focused on the “breach of a fiduciary duty” element and separated the breach from the personal benefit element.[9]

Newman, however, clarified that the exchange of confidential information for a personal benefit is the fiduciary breach.[10] The government must show that the breach was for a personal benefit and not simply a disclosure of confidential information. The Second Circuit’s decision brings case law back in line with the Supreme Court’s decision in Dirks v. SEC, which noted that not all disclosures of confidential information exposes the tipper to securities laws violations.[1] And it further holds that to establish a personal benefit based upon the personal relationship between the tipper and tippee, the government must show proof of a “meaningfully close personal relationship that generates an exchange that is objective, consequential, and represents at least a potential gain of a pecuniary or similarly valuable nature.”[12] Given that the elements of tipping liability are the same, regardless of whether the tipper’s duty arises under the “classical” or “misappropriation” theory,[13] this aspect of the Court’s holding is sure to have a significant effect on future prosecutions.

In addition, in cases against remote tippees, the government must prove that the defendant knew of both the breach and the receipt of a personal benefit. Because the Second Circuit enunciated a standard to prove an element of insider trading, the holding applies equally to cases brought by the SEC, even though Newman concerned a criminal prosecution. Accordingly, the SEC will need to wrestle with the Newman decision notwithstanding its stated intention to bring more insider trading cases via administrative proceeding.

Of at least equal importance, the Newman Court pushed back against government overreach by not accepting the Government’s argument that knowledge of the breach and benefit could be inferred because it was the type of information a person would have understood to come from a breach by an insider. Rather than relying on unsubstantiated inferences based upon the nature of the information obtained, the government must prove insider trading cases with evidence that establishes a defendant’s realization that he was doing a wrongful act that involved a significant risk of effecting a violation of the securities laws.

Finally, the Court’s decision will make it more difficult for the government to successfully prosecute cases against remote tippees. By holding that the evidence was insufficient to prove that the defendants knew that they were trading on information obtained in breach of a fiduciary duty, the government must now show that a remote tippee had direct knowledge of the disclosure or consciously avoided such knowledge. The government can no longer simply argue that the information was of a type that a savvy investor would have known had to come from a breach by an insider.


  1. United States v. Newman, Nos. 13-1837-cr, 13-1917-cr, --- F.3d ---, slip op. at 22 (2d Cir. Dec. 10, 2014).
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  2. See United States v. Whitman, 904 F. Supp. 2d. 363, 371 n.6 (S.D.N.Y. 2012).
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  3. Newman, Op. at 5-6.
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  4. Id. at 8.
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  5. See Dirks v. SEC, 463 U.S. 646, 653-54 (1983); Chiarella v. United States, 445 U.S. 222, 226-30 (1980); see also In re Cady, Roberts & Co., 40 S.E.C. 907 (1961).
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  6. See generally United States v. O’Hagan, 521 U.S. 642 (1997), Dirks v. SEC, 463 U.S. 646 (1983); Chiarella v. United States, 445 U.S. 222 (1980).
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  7. See United States v. Jiau, 734 F.3d 147, 153 (2d Cir. 2013) (citing SEC v. Obus, 693 F.3d 276, 292 (2d Cir. 2012). In establishing the personal benefit element, the Supreme Court held that the “test is whether the insider personally will benefit, directly or indirectly, from his disclosure. Absent some personal gain, there has been no breach of duty to stockholders. And absent a breach by the insider, there is no derivative breach.” Dirks, 463 U.S. at 662. The Court noted that the determination of personal gain will require courts to “focus on objective criteria, i.e., whether the insider receives a direct or indirect personal benefit from the disclosure, such as a pecuniary gain or a reputational benefit that will translate into future earnings.” Dirks, 463 U.S. at 663. The Court further explained that there are “objective facts and circumstances that often justify such an inference. For example, there may be a relationship between the insider and the recipient that suggests a quid pro quo from the latter, or an intention to benefit the particular recipient. The elements of fiduciary duty and exploitation of nonpublic information also exist when an insider makes a gift of confidential information to a trading relative or friend. The tip and trade resemble trading by the insider himself followed by a gift of the profits to the recipient.” Dirks, 463 U.S. at 664.
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  8. SEC v. Warde, 151 F.3d 42, 48 (2d Cir. 1998) (quoting Dirks, 463 U.S. at 664.)
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  9. See Obus, 693 F.3d at 286-87.
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  10. Newman, Op. at 14.
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  11. See Dirks, 463 U.S. at 656-57; see also Chiarella, 445 U.S. at 232-34; Newman, Op. at 13-16.
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  12. Newman, Op. at 22.
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  13. See Obus, 693 F.3d at 285-86.
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