June 18, 2015
Recent research into corporate insider trading finds a continued need for government legislation, says a Memorial University researcher.
Dr. Ashrafee Hossain, assistant professor in the Faculty of Business Administration, is the first to explore how extreme market conditions, insiders’ rank within a corporation and the quality of a firm’s governance affect the information shared with investors before and after a key piece of American legislation, the Sarbanes-Oxley Act (SOX).
The Sarbanes-Oxley Act, passed by the United States Congress in 2002, introduced sweeping changes to the regulation of corporate insider trading. This act aimed to enhance transparency with firm insiders and outside investors having more equal access to information.
“Insider trading is a cancer in corporations,” says Dr. Hossain. “Sarbanes-Oxley Act aimed at curing that cancer.”
But are investors better informed after SOX? This is one of the key questions asked by Dr. Hossain in his lead article in Review of Financial Economics, “Market conditions, governance and the information content of insider trades” (2015).
Before SOX, corporations potentially had up to 40 days after a trade to file information about insider transactions with the Security Exchange Commission (SEC). They now have two business days.
Dr. Hossain says that this quick turnaround, among other factors, has improved the information shared with the public about insider trading.
“Our research paper shows that effective legislation can indeed protect the interests of regular Joes – that is, smaller investors.”
This research reveals that both regulations and extreme market conditions impact the quality of information that corporations share about insider transactions. Dr. Hossain investigated market crises before and after SOX, specifically the 2000 IT bubble and the 2008 credit crunch. Insider trading decreased after these extreme periods but information content included in filings about these trades increased.
While previous research on insider trading has focused on top executives, Dr. Hossain found that after SOX, all level of executives, regardless of rank, shared more information about their insider trades. This was especially true for top executives.
He also showed that after SOX both poorly and better-governed firms improved the quality of information they filed about insider trading. There were, however, some differences. For example, investors were able to glean more information from poorly governed firms’ filings than those from better-governed corporations.
Dr. Hossain’s study provides evidence of the importance of financial legislation, like SOX, and he calls for continued and future regulation.
“It is my belief that government should be the protector of its citizens and not let the industry self-regulate,” he says. This “is a pro-legislation paper and our findings will have long-term regulatory implications.”
The Review of the Financial Economics study is authored with Dr. Harjeet S. Bhabra, who was Dr. Hossain’s PhD supervisor and is a professor of finance at the John Molson School of Business, Concordia University.