In a lot of situations, it is common for company officials to also hold shares of the company they work for or are directors of. By virtue of their offices, these people will often be the first share holders to have information about any strategic moves that the company is planning to make. They will also be the very first to know when the company runs into any kind of financial trouble. The combination of this information and share holding could easily be exploited to give undue advantage to such individuals. Insider trading can therefore be defined as the situation where such people who are in a position to have critical information about a company, and where that information is unknown to the public go ahead and take advantage by using this information to make decisions on whether to sell or buy shares.
In almost all parts of the world insider trading is an illegal practice. It would not be fair to deny individuals who have access to information on a company the right to own shares in it. It would also not be ethical to allow them to exploit their positions and the information they have access to for personal gain. There is legislation in place to ensure that this kind of practices are discouraged and dealt with when they occur. It may be difficult to fully enforce such legislation though there are often stiff penalties for those who get caught and these will normally act as a deterrent.
Insider trading under the law is not only where it concerns an official of the company. There are various situations that may arise and cause people who are not officials of the company to qualify as insiders. The first such groups are government employees who by virtue of their office may have gained access to information that is critical and could be used strategically. Employees of law firms who may have processed agreements or other such documents, employees of banks who are privy to financial transactions or even those who may be working in a printing firm that printed documents which have critical information. Friends and family of the company officials who may have gained access to such information. Those who may have gained illegal access to the information. All these are considered insiders under the law and they have rules that specify how they should conduct their trading so as to avoid prosecution.
In times where the insiders need to trade their shares, there are several steps that make their sale or purchase of shares legal. An example is that fact that insiders will be required to wait until critical information they have on the company is made public before they can trade in such shares. They would also be required to notify the authorities in advance as they prepare to sell or buy some shares. Such regulations are not meant to oppress those who are privy to information but are rather intended to ensure a fair playing field for all investors.