There is an old saying in business: “Fail to plan and you plan to fail.” It may sound glib, but those who are serious about being successful, including traders, should follow these eight words as if they were written in stone. Ask any trader who makes money on a consistent basis and they will tell you, “You have two choices: you can either methodically follow a written plan, or fail.”

The concept of trading plan was introduced in India by the SEBI (Prohibition of Insider Trading) Regulations, 2015 (The PIT Regulations). Every company has persons holding key managerial positions or promoters who are involved in decision making and are perpetually in possession of Unpublished Price Sensitive Information (UPSI). For such persons it is impossible to trade in the securities of these Companies. Trading plans provide opportunity to these people for trading in securities of the company without compromising the prohibitions imposed under the PIT Regulations. It is a mechanism which facilitates monetizing of securities by insiders on a regular basis who may otherwise be unable to trade in such securities.

When an insider formulates a trading plan, he may be in possession of certain UPSI which would become generally available to the public by the time the cooling off period is over and the insider trades on the basis of the trading plan. Under the circumstances, impact of such UPSI gets factored in the price of the security at the time of trading. In another situation, at the time of trading the insider may be in possession of UPSI which was non-existent at the time of formulation of the trading plan. Existence of such UPSI does not matter because it had not influenced the insider’s decision to trade as the decision to trade had already been taken before this UPSI came into existence. On this basic principle the concept of trading plan has been developed.

Trading plans enable compliant trading by insiders without compromising the prohibitions imposed in the PIT Regulations. However, the possibility of abuse of trading plans cannot be ruled out. Though, the trades may be predetermined but the publishing of UPSI may be so timed as to profit the insider from the predetermined trades. Similar instances were reported in the United States when trading plans was introduced way back in the year 2000. Thus, the trading plan does not provide absolute immunity from investigations into trading under a pre-determined trading plan. But a trading plans provide an affirmative defence against accusations of insider trading. Where the insider is aware of UPSI on the date of trading he can raise a defence that the trade was made as per the terms of a trading plan drawn according to the requirements of the PIT Regulations. It allows a defendant to raise a defence but does not guarantee a win. The defendant who has done a wrongful act may prove that there exist circumstances which under the law either justify or excuse his otherwise wrongful actions. Another illustration of an affirmative defence in criminal cases is action taken in ‘self-defence’.

Regulation 5(1) provides for formulation of a trading plan by an insider and reads as under: “An insider shall be entitled to formulate a trading plan and present it to the compliance officer for approval and public disclosure pursuant to which trades may be carried out on his behalf in accordance with such plan.”

The new regulations allow for the formulation of trading plans where a person can formulate a trading plan, get it approved by the compliance officer and trade accordingly. However, such trading needs to comply with specific conditions to ensure any insider information in not misused.

For instance, the trading plan would be disclosed to the public and a person cannot trade within six months of such public disclosure. Once approved, one cannot deviate from the plan. In order to get the benefit of a trading plan, a cool-off period of six months is necessary which is considered reasonably long for UPSI to be in possession of the insider while formulating the trading plan, to become generally available. It is also considered to be a reasonable period for a time lag in which new UPSI may come into being without adversely affecting the trading plan formulated earlier. However, this is only a statutory cool-off period and would not grant immunity from action if the insider were to be in possession of the same UPSI both at the time of formulation of the plan and implementation of the same.

An advance planning for trading in the securities of the company by the Insider is important. The plan must satisfy the following conditions:

a. Six months cooling off period.

b. No trading between 20 days prior to Financial Period and closure of second trading day after result announcement.

c. Plan for minimum 12 months.

d. No overlapping of trading plan.

e. Set out either the value of trades or the number of securities to be traded along with the nature and the intervals at, or dates of trade.

f. Trading plan once approved shall be irrevocable.

g. Trading plan to be suspended if UPSI continues till implementation.

h. No market abuse through trading plan.

i. Trading plan to be approved by CS.

j. Trading plan will be disseminated on stock exchanges website.

Effectiveness of the trading plan

The Wall Street Journal’s study reflects that among 20,237 of insiders “who traded their own company’s stock during the week before their companies made news’ 1,418 executives recorded average stock gains of 10% (or avoided 10% losses) within a week after their trades.”

Despite the fact that Rule 10b5-1 precludes insiders from entering into a Trading Plan while aware of material non-public information, multiple studies indicate that insiders trading through these Plans manage to significantly outperform the market. The concern that Rule 10b5-1 has become a de facto safe harbour for insiders trading on material non-public information has spurred public demands for the SEC to take action. the Council of Institutional Investors (“CII”), a nonpartisan association of public, corporate, and union pension funds with assets of more than three trillion dollars, sent a December 2012 letter to the SEC expressing the concern that “many executives at public companies have adopted practices. with respect to Rule 10b5-1 plans that are inconsistent with the spirit, if not the letter of Rule 10b5-1.”[1]

Another posited explanation for the abnormal returns is that the insider, knowing when a trade will occur under the Plan, influenced the timing of corporate disclosure so that the outcome of the trade was more profitable than would otherwise have been the case. For example, the insider knows that a Plan sale is scheduled for Day X, she learns on Day X minus 3 of some non-public material bad company news, and she takes action to delay the disclosure of the bad news beyond Day X, so that her sale is made before the release of the bad news causes the market price of the stock to drop.

Another reason for the trading not being a big hit in India is the restriction in India. Around 4 months out of 12 months you could not trade as per the restrictions mentioned under the Prevention of Insider Trading Regulations. A report by ICSI shows that, all the restrictions included out of 365 days, 204 days comes under restriction as mentioned under Regulation 5(2) of Prevention of Insider Trading Regulations, 2015.

In SEC v Mozilo, SEC’s complaint alleged that Mozilo engaged in insider trading in the securities of Countrywide by establishing four 10b5-1 sales plans in October, November, and December 2006 while he was aware of material, non-public information concerning Countrywide’s increasing credit risk and the risk regarding the poor expected performance of Countrywide-originated loans. The judge observed that Mr. Mozilo actively amended and modified his 10b5-1 plans. His actions defeat the purpose behind the plans, which were created to allow insider trade passively in the stocks at pre-scheduled time and price.

In SEC v Livengood, the SEC`s complaint alleged that executives of Krispy Kreme Doughnuts created 10b5-1 plans after issuing some misleading statements in the market. The notable point was that there was no delay in notifying the plan and execution of it, showing potential of being misused.

However, in both the cases the companies settled with SEC by paying fines before the judgement could be pronounced. Indian regulatory authority seems to learn from findings of these cases and have incorporated few changes in the original plans introduced by SEC, however the changes have made the plans a failure in India.

[1] Letter from Jeff Mahoney, Gen. Counsel, Council of Institutional Investors, to Elisse B. Walter, Chairman, U.S. Sec. & Exch. Comm’n (Dec. 28, 2012) (discussing the potential misuse of Rule lOb5-1 Trading Plans for executive sales of company stock), available at 28 12 cii-letterto_sec_rule%20_10b5- 1_trading plans.pdf

(Author Rahul Sinha and Pallavi Singh are law professional in professional services firms.)


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Qualification: MBA
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Location: Mumbai, Maharashtra, IN
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June 2021