The Second Circuit may have granted the Securities and Exchange Commission (SEC) a new weapon against insider trading. In SEC v. Contorinis, the court endorsed an expansive theory of disgorgement, allowing the SEC to require the defendant to disgorge funds over which he never had ownership or control.
Joseph Contorinis is a former Jeffries & Company, Inc. portfolio manager currently serving a six-year prison term for securities fraud and conspiracy related to his use of confidential information about an upcoming corporate acquisition. Using his investment control over Jeffries' Paragon Fund, Contorinis engaged in insider training on behalf of the Paragon Fund.
In securities enforcement, the SEC may seek monetary penalties, injunctions, an officer-and-director (or other) bar and/or disgorgement. The purpose of the equitable remedy of disgorgement is to deter violations of federal securities law and deprive wrongdoers of their ill-gotten gains. Historically, disgorgement is generally restricted to amounts actually received by defendants through their own wrongdoing.
Contorinis, however, was ordered to disgorge not only the approximately $400,000 in personal gains made from his alleged insider trading activities, but the $7.2 million in insider trading profits made by the Paragon Fund. In affirming the penalty, the majority opinion held that an insider trader may be required to disgorge the full measure of profits secured by his or her illegal actions. The court likened the situation to a defendant who may be required to disgorge the gains realized by a tippee who profited by insider information received from the defendant. Therefore, because Contorinis secured a benefit through his fraud and directed where those profits were to go, he was also required to disgorge the gains of his favorite beneficiary, the Paragon Fund.
Dissenting Judge Denny Chin asserted that the application of disgorgement in the case was improper and fundamentally inconsistent with the basic principle of the remedy. He also suggested that the majority's opinion moves disgorgement from its remedial purpose to create a fundamentally punitive — and limitless — remedy.
The potential for this case to affect the application of future disgorgements — including cases outside the context of insider trading — remains to be seen. No other circuit has yet addressed this precise question, and related issues have resulted in a mix of vague decisions in other federal courts.
Disgorgement is not the only remedy available to the SEC. The agency has a vast arsenal of other equitable and punitive remedies available to enforce securities laws. Violators also face criminal prosecution, as well as private lawsuits. Organizations must therefore ensure their employees understand that trading on or sharing material information before it is available to the general public is against the law. WeComply's online course on Avoiding Insider Training explains what insider trading entails and how to comply with the law's requirements.