Here’s a question that came up in the comments the other day, after I wrote about the recent publication suggesting possible immune-response problems with the Cas9 protein used in CRISPR. That paper sent the stocks of the major companies in the area down about 10% (well, mostly, and only after people had a weekend to really hear about it). But it did have a substantial effect. A reader asked if it would have been legal for the authors of such a paper to have taken a short position in the stocks before the paper came out. (Let’s note up front that the paper came out as a preprint, so there are no agreements with publishers involved).

Insider trading is, of course, illegal. But all the insider trading cases I can think of involve, well, insiders. You have examples like Sam Waksal tipping off Martha Stewart, but in that case, someone inside the company is basically making you an insider as well, with the same responsibility not to trade on material nonpublic information. But although the CRISPR immunogenicity story was material, and it was nonpublic, it involved no corporate insiders at all. What then?

One close analogy might be the R. Foster Winans case. He was a columnist (“Heard on the Street”) for the Wall Street Journal in the 1980s, and passed on advance word of the columns to a broker. Winans himself said that his conduct, while unethical, was not illegal, and there were amicus curiae briefs filed on his behalf from broadcasters and press organizations. The appeals court held that securities law proscribed misappropriation of material from the publishers of the Journal, but when this went on to the Supreme Court it ran into a 4:4 tied vote (because of the retirement of Lewis Powell), so that’s by no means an unassailable position. (Winans and his conspirators, though, were convicted of mail and wire fraud charges, which are broad enough to apply in all sorts of cases where the underlying acts may still be murky).

The whole topic of knowing something about a company before anyone else does is a fraught one, since most of the ways that can happen are clearly illegal – but not all of them? The rationale for sanctions against insider trading is a reasonable one – the idea is that it undermines confidence in the market as a whole, because one could never be sure about entrusting ones capital to what could be a rigged market. But that principle (while it applies most immediately and obviously to corporate insiders) does not have to apply only to such. It shades over into the area of understanding something about a company before anyone else does, which is what stock analysts are always hoping to do, but presumably from information that everyone else has available to them (which is why it doesn’t happen all that often). From what I’ve seen, this is more likely to happen in the cases made by short sellers, since they’re more open to the bad-news possibilities that more optimistic investors may be willfully blind to. But there are controversies, there, too. I remember a case of a short-selling investor who (I believe) camped out behind a particular company and counted delivery trucks and came to the conclusion that the company’s statements about their sales could not possibly be true. But as I recall it, he actually got into hot water for this – I’m trying to find the details of this case (from the early 1990s, I think), but so far have been unable to locate them.

I’ll give one more example, from my personal experience. Years ago, I heard from a colleague (in real time) who was attending a European medical conference that Company X and Company Y, who were developing a new drug in the field of the meeting, were unexpected no-shows while the first poster session was being set up. The several slots they were listed for were all blank, and the word was that the posters had been pulled. That immediately suggested to me (and to my colleague) that something had gone wrong with the development program, and it crossed my mind that it might be interesting to invest with that in mind. But I didn’t, because of just the uncertainties that I’ve been mentioning. I had no idea if what was happening over in a side room at a medical conference one morning would be considered public information or not, or if a person could get into trouble trading on it, and I had no desire whatsoever to end up talking with the SEC about this topic. So I did not act on this, and I did indeed miss out on what would have been a lucrative trade (especially for Company Y, who were by far the smaller of the two and much more affected by the news). Would that have been a legal move? I still don’t know.

This all gets much easier when you’re talking about your own company, of course. Years ago, I heard a corporate legal counsel say “Don’t trade company stock on material information. And if you’re wondering what material information is, it’s anything that makes you suddenly think about trading the company’s stock”. That’s a pretty good rule – but how it applies, if it does, to third-party scientific publication is what I’m wondering now. Thoughts?