Supreme Court of the United States

Transcription

1 TEAM #101 No IN THE Supreme Court of the United States UNITED STATES OF AMERICA, Petitioner, v. DANA DINOFRIO, Respondent. On Writ of Certiorari to the United States Court of Appeals for the Thirteenth Circuit BRIEF FOR THE PETITIONER Brief Cover: Blue Team # 101 Attorneys for Petitioner 1

2 QUESTIONS PRESENTED 1. Tippee liability for insider trading requires that the tipper receive a personal benefit and that the tippee have knowledge of that benefit. Respondent averted a $3 million loss in the stock market using information she obtained at a party where a corporate insider tipped his cousin as a favor. Does a personal benefit include making a gift to a trading relative, and does constructive knowledge of that benefit suffice for tippee liability? 2. Under Federal Rule of Evidence 804(b)(1), an unavailable witness s prior testimony may be admitted only if the proponent can demonstrate similar motive. In both grand jury proceedings, the Government sought to investigate potential insider trading, and Respondent attempted to introduce testimony from these grand juries at her trial. How similar must the hearsay opponent s motives be to admit former testimony under Rule 804(b)(1)? ii

3 TABLE OF CONTENTS QUESTIONS PRESENTED... ii TABLE OF CONTENTS... iii TABLE OF AUTHORITIES... vii STATEMENT OF THE CASE... 1 A. The Tippers and Tippees... 1 B. The Tipping Chain... 1 C. The SEC Files Civil Enforcement Actions Against Cuzick and DiNofrio... 2 D. The DOJ Commences a Parallel Criminal Investigation The First Grand Jury Bookwalter and Cuzick Pass Away The Second Grand Jury... 4 E. DiNofrio s Trial... 4 F. DiNofrio s Motion for a New Trial... 5 G. DiNofrio s Appeal... 6 SUMMARY OF THE ARGUMENT... 7 ARGUMENT I. The Thirteenth Circuit improperly defined personal benefit and the tippee s requisite knowledge of that benefit A. The Thirteenth Circuit s improperly narrow definition of personal benefit is inconsistent with well-settled case law and the objectives of the securities markets iii

4 1. Receipt of a personal benefit does not require an anticipated pecuniary gain i. This Court and many others have found personal benefit without pecuniary gain ii. In a widely criticized opinion, the Second Circuit recently limited personal benefit to anticipated pecuniary gain iii. This Court should hold that personal benefit is not limited to anticipated pecuniary gain The tipper and tippee do not need a close familial relationship for the tipper to receive a personal benefit Even if a personal benefit requires a pecuniary benefit or a close relationship (or both) between Abernethy and Respondent, any District Court error was harmless B. The Thirteenth Circuit improperly defined the tippee s requisite level of knowledge as to the tipper s personal benefit Illegal insider trading occurs if a tippee knew or should have known that the tipper disclosed material non-public information for personal benefit Given the evidence against Respondent, any District Court as to the correct level of knowledge was harmless II. The Thirteen Circuit erred when it held that the District Court should have admitted Abernethy s grand jury testimony under Rule 804(b)(1) A. This Court should construe Rule 804(b)(1) s similar motive requirement narrowly and reject the Thirteenth Circuit s overly broad interpretation iv

5 1. The First and Second Circuits have interpreted similar motive narrowly and have held that prior grand jury testimony was not admissible against the Government In contrast, some courts, like the Thirteenth Circuit, have adopted an untenably broad interpretation of similar motive To determine if the similar motive requirement is satisfied, this Court should adopt a fact-specific test, considering the nature of the proceedings and crossexamination B. Using the proper formulation of similar motive, this Court should hold that the Government had a dissimilar motive at the two grand juries as compared to Respondent s trial Abernethy s testimony from the first grand jury was properly excluded Abernethy s testimony from the second grand jury was properly excluded C. Even if the District Court should have admitted some or all of Abernethy s grand jury testimony, its failure to do so constitutes harmless error CONCLUSION v

6 TABLE OF AUTHORITIES United States Supreme Court Cases Page(s) Butterworth v. Smith, 494 U.S. 624 (1990) Chiarella v. U.S., 445 U.S. 222 (1980) Costello v. U.S., 350 U.S. 359 (1956) Dirks v. SEC, 463 U.S. 646 (1983)... passim Ernst & Ernst v. Hochfelder, 425 U.S. 185 (1976) General Elec. Co. v. Joiner, 522 U.S. 136 (1997) Gerstein v. Pugh, 420 U.S. 103 (1975) Kaley v. U.S., 134 S. Ct (2014) Kotteakos v. U.S., 328 U.S. 750 (1946) Neder v. U.S., 527 U.S. 1 (1999) U.S. v. O Hagan, 521 U.S. 642 (1997) U.S. v. R. Enterprises, Inc., 498 U.S. 292 (1991) U.S. v. Salerno, 556 U.S. 662 (2009)... 29, 30, 35, 36 vi

7 United States Court of Appeals Cases Battle ex rel. Battle v. Mem l Hosp. at Gulfport, 228 F.3d 544 (5th Cir. 2000) SEC v. Dresser Indus., Inc., 628 F.2d 1368 (D.C. Cir. 1980) SEC v. Maio, 51 F.3d 623 (7th Cir. 1995)... 14, 18, 19 SEC v. Obus, 693 F.3d 276 (2d Cir. 2012)... passim SEC v. Rocklage, 470 F.3d 1 (1st Cir. 2006) SEC v. U.S. Envtl., Inc., 155 F.3d 107 (2d Cir.1998) SEC v. Warde, 151 F.3d 42 (2d Cir. 1998) U.S. v. Bartelho, 129 F.3d 663 (1st Cir. 1997) U.S. v. Dent, 984 F.2d 1453 (7th Cir. 1983) U.S. v. DiNapoli, 8 F.3d 909 (2d Cir. 1993)... passim U.S. v. Duenas, 691 F.3d 1070 (9th Cir. 2012) U.S. v. Evans, 486 F.3d 315 (7th Cir. 2007)... 13, 19 U.S. v. Fernandez, 892 F.2d 976 (11th Cir. 1989) U.S. v. Foster, 128 F.3d 949 (6th Cir. 1997) vii

8 U.S. v. Geiger, 263 F.3d 1034 (9th Cir. 2001) U.S. v. Goffer, 721 F.3d 113 (2d Cir. 2013) U.S. v. Jackson-Randolph, 282 F.3d 369 (6th Cir. 2002) U.S. v. Jiau, 734 F.3d 147 (2d Cir. 2013)... 13, 14 U.S. v. Klauber, 611 F.2d 512 (4th Cir. 1979) U.S. v. Lester, 749 F.2d 1288 (9th Cir. 1984) U.S. v. McFall, 558 F.3d 951 (9th Cir. 2009)... 34, 35, 36 U.S. v. Miller, 904 F.2d 65 (D.C. Cir. 1990)... 34, 37 U.S. v. Newman, 773 F.3d 438 (2d Cir. 2014)... passim U.S. v. Omar, 104 F.3d 519 (1st Cir. 1997)... 29, 31, 33 U.S. v. Salerno, 974 F.2d 231 (2d. Cir. 1991)... 31, 32 U.S. v. Salman, 792 F.3d 1087 (9th Cir. 2015)... passim U.S. v. Salman, No , 2015 WL (9th Cir. July 6, 2015) U.S. v. Sklena, 692 F.3d 725 (7th Cir. 2012) U.S. v. Whitman, 555 Fed. App x 98 (2d Cir. 2014) viii

9 U.S. v. Young Bros., Inc., 728 F.2d 682 (5th Cir. 1984) United States District Court Cases SEC. v. Holley, No (DEA), 2015 WL (D.N.J. Sept. 21, 2015)... 15, 19 SEC v. Musella, 678 F. Supp (S.D.N.Y. 1988)... 24, 25 U.S. v. Whitman, 904 F. Supp. 2d 363 (S.D.N.Y. 2012)... 14, 19, 25 State Court Cases Betrand v. State, 214 S.W.3d 822 (Ark. 2005) Commonwealth v. Clemente, 893 N.E.2d 19 (Mass. 2008) State v. Farquharson, 731 N.W.2d 797 (Mich. Ct. App. 2007) Statutes Fed. R. Crim. P. 52(a) Fed. R. Evid. 103(a) Fed. R. Evid. 801(c) Fed. R. Evid Fed. R. Evid. 804(b)(1)... passim Fed. R. Evid. 1101(d)(2) U.S.C. 78j(b) (2010) U.S.C. 78ff(a) (2002) ix

10 Federal Regulations 17 C.F.R b Federal Administrative Agency Decisions In the Matter of Cady, Roberts & Co., 40 S.E.C. 907 (Nov. 8, 1961) Other Authorities Brandon Berkowski, Federal Rule of Evidence 804(b)(1) s Similar Motive Test and the Admissibility of Grand Jury Testimony Against the Government, 79 Fordham L. Rev (2010)... 30, 31, 36 Zohar Goshen & Gideon Parchomovsky, On Insider Trading, Markets, and "Negative" Property Rights in Information, 87 Va. L. Rev (2001) Lempert, et. al, A Modern Approach to Evidence, 172 (5th ed. 2014) Michael M. Martin, Former-Testimony Exception in the Proposed Federal Rules of Evidence, 57 Iowa L. Rev. 547 (1971)... 30, 36 J. Kelly Strader, (Re)conceptualizing Insider Trading, 80 Brook. L. Rev (2015) U.S. Dep t of Justice, Coordination of Parallel Criminal, Civil, Regulatory, and Administrative Proceedings, in United States Attorneys Manual (2013) Glen Weissenberger, The Former Testimony Hearsay Exception: A Study in Rulemaking, Judicial Revisionism, and The Separation of Powers, 67 N.C. L. Rev. 295 (1989) x

11 STATEMENT OF THE CASE This matter arises out the dissemination of insider information among financial professionals at a family gathering. The disclosure paved the way for a combined $5.1 million averted loss in the stock market. A. The Tippers and Tippees On Saturday, August 25th, 2012, Alex Abernethy, Ben Bookwalter, Corrine Cuzick, and Dana DiNofrio attended a birthday celebration. P. 2. At the time, Abernethy was the Finance Director for itech Holdings Ltd. ( itech ). P. 1. Bookwalter, his cousin, also worked in finance as a stockbroker. P. 3. Abernethy was a mentor for Bookwalter, encouraging him to attend business school at his alma mater. P When the two saw each other, they often traded market advice. P. 17. Their families were close; Abernethy s mother previously loaned Bookwalter s mother $50,000. P. 3. Corrine Cuzick also worked in finance and managed a hedge fund. P. 4. Cuzick and Bookwalter were best friends, and they often talked about the stock market. Id. Cuzick invited another hedge fund manager, Dana DiNofrio. Id. DiNofrio knew that Abernethy and Bookwalter were cousins and that Cuzick and Bookwalter were best friends. Id. She also knew that Abernethy s mother loaned Bookwalter s mother money. P. 5. B. The Tipping Chain At the party, Abernethy had itech s financial woes on his mind. The day before, Abernethy discovered that itech over-projected sales for its new product. P. 1

12 1. itech projected a $5 profit per share, but in reality it was only $3.50 per share. Id. Abernethy s department raced to correct the earnings reports before they were due to be released Monday. Id. They drafted new press releases for DDD Press Co. ( DDD ) for Monday. Id. To make matters worse, hackers infiltrated DDD s databases and obtained the unreleased earnings reports. Id. Instead of keeping his company s financial misfortune to himself, Abernethy told Bookwalter that itech s forecasted profits per share were down from $5 to $3.50. P. 3. Bookwalter then shared this information with Cuzick, who executed sell orders for her hedge fund s holdings in itech. P. 4. Cuzick proceeded to tell DiNofrio to sell itech immediately. P. 5. Cuzick explained that she had just heard from good authority that itech would announce its earnings were lower than expected. Id. DiNofrio, who had observed Abernethy and Bookwalter talking at the party, took Cuzick s advice and sold her itech stock. Id. The following Monday, itech announced its lower-than-expected earnings, and its stock price plummeted. Id. By divesting their itech shares in time, Cuzick avoided a $2.1 million loss, and DiNofrio avoided a $3 million loss. Id. C. The SEC Files Civil Enforcement Actions Against Cuzick and DiNofrio Following the collapse of itech s stock, the SEC s sophisticated computer programs immediately flagged Cuzick and DiNofrio s transactions. Id. The SEC s top enforcer began investigating DiNofrio, as her sale resulted in the largest 2

13 avoided loss. Id. Cuzick testified before the SEC and revealed her conversation with Bookwalter at the party. Id. Armed with Cuzick s admissions, the SEC filed suit against Cuzick and DiNofrio. Id. The SEC deposed Bookwalter, and he revealed that his cousin tipped him on the earnings reports at the party. P. 6. Further, he stated that Abernethy tipped him as a favor, but that he did not give Abernethy anything in return. Id. D. The DOJ Commences a Parallel Criminal Investigation The SEC shared the details of the investigation with the DOJ. Id. The two agencies agreed to conduct parallel proceedings and to keep each other informed as to strategy and information obtained. Id. Armed with Bookwalter s SEC deposition, the DOJ prosecutor, Will Indyct, empaneled a grand jury against Cuzick. Id. 1. The First Grand Jury Indyct called Abernethy to testify at the first grand jury and questioned him regarding the scope of the insider trading. P. 8. Abernethy confirmed that Bookwalter, Cuzick, and DiNofrio were at the party and that he knew of Cuzick and DiNofrio. Id. He also testified that he did not speak to Cuzick or DiNofrio and that he never observed them interact. Id. Believing that proving all four were at the party would secure an indictment, Indyct ended his questioning. Id. Next, Indyct questioned Bookwalter, who confirmed that he tipped Cuzick. Id. The grand jury returned no bill on all charges. Id. 3

14 2. Bookwalter and Cuzick Pass Away After the grand jury, Bookwalter and Cuzick passed away. Id. As a result, the SEC and DOJ focused their attention on DiNofrio. The SEC took her deposition, where she detailed her conversation with Cuzick at the party. Id. 3. The Second Grand Jury Indyct then empaneled a grand jury against DiNofrio and again called Abernethy to testify. Id. Abernethy admitted that he told Bookwalter about the earning reports as a favor to him. Id. He denied directly profiting, and indicated that he only saw his cousin a few times per year. Id. He also revealed that he knew of his mother s $50,000 loan to Bookwalter s mother. P Indyct argued to the grand jurors that it could not be coincidence that DiNofrio divested her stock in time to avoid a massive loss after attending a party where an itech insider leaked inside information. P. 10. The grand jury then issued an indictment on one count of insider trading. Id. E. DiNofrio s Trial Before DiNofrio s trial, the prosecution suffered another blow: Abernethy was diagnosed with acute dementia and was medically unfit to testify. Id. As a result, the Government was forced to put on a circumstantial case against DiNofrio. Id. In her defense, DiNofrio sought to introduce Abernethy s grand jury testimony under Federal Rule of Evidence 804(b)(1) to show that: (1) Abernethy did not profit from his disclosure; and (2) he did not know Dinofrio or whether she knew or talked to Bookwalter or Cuzick. Id. She also sought to introduce Bookwalter s 4

15 SEC testimony. P. at 11. The judge admitted Bookwalter s testimony, but excluded Abernethy s. Id. DiNofrio then testified in her own defense. Id. The District Court instructed the jury that it should return a guilty verdict if the Government proved beyond a reasonable doubt that: (1) Alex was entrusted with a fiduciary duty; (2) Alex breached his fiduciary duty by disclosing confidential information to Ben in exchange for a personal benefit; (3) the Defendant was the ultimate recipient of that confidential information and knew of Alex s breach; and (4) the Defendant still used that information to trade in a security. Id. The court defined personal benefit as tangible things, like money, goods, [and] services and intangible things, like... reputational benefits, or the personal satisfaction of helping or strengthening a relationship with a friend or relative. Id. The court also explained [t]he requirement of Defendant s knowledge is satisfied if Defendant actually knew or if she reasonably should have known that Alex received a benefit for his disclosure. P. 12. The jury returned a guilty verdict against DiNofrio on the sole count of insider trading. P. 12. F. DiNofrio s Motion for a New Trial DiNofrio moved for a new trial pursuant to Federal Rule of Criminal Procedure 33, alleging that the court (1) erred in instructing the jury on personal benefit and (2) improperly excluded Abernethy s grand jury testimony. P. 15. On March 4, 2014, the District Court denied her motion. P

16 First, the District Court concluded that the jury instructions were proper. P. 16. The court rejected DiNofrio s contention that Abernethy needed to either receive an anticipated pecuniary benefit or have a close relationship with Bookwalter to receive a personal benefit. P The District Court added that Respondent knew or should have known that Abernethy was the source of the information and that he received a personal benefit for his disclosure. P. 18. Second, the District Court found that the Government s motive to develop Abernethy s testimony at the two grand juries was dissimilar, rendering it inadmissible. P. 19. This is because the Government did not have an interest in Abernethy s testimony beyond obtaining probable cause and did not challenge his testimony. Id. G. DiNofrio s Appeal On appeal, the Thirteenth Circuit held that the trial court erred in failing to instruct the jury that the Government had to prove (1) a close familial relationship between Abernethy and Bookwalter; (2) Abernethy received an anticipated pecuniary benefit for his disclosure; and (3) DiNofrio had actual knowledge of Abernethy s personal benefit. The Thirteenth Circuit also held that the District Court abused its discretion by failing to admit Abernethy s grand jury testimony. P. 31. The court reasoned that the Government had a strong motive to prosecute, and thus its motive at the grand juries was similar to its motive at trial. P. 29. The court also found that the Government s lack of cross-examination did not rebut this finding. P

17 On September 21, 2015, this Court granted the United States petition for certiorari to determine: (1) whether the Thirteenth Circuit properly defined personal benefit and the tippee s knowledge of that benefit; and (2) whether Abernethy s grand jury testimony should have been admitted. P. 32. SUMMARY OF THE ARGUMENT This Court has held that giving a gift of confidential information to a trading relative or friend constitutes a personal benefit to the tipper. In contrast, the Thirteenth Circuit unduly restricted the definition of personal benefit, requiring a pecuniary gain and a close relationship between tipper and tippee. This dual requirement is wholly unsupported by case law. In fact, personal benefit requires neither a close familial relationship nor an anticipated pecuniary gain. Instead, this Court and many others define personal benefit broadly, promoting investor confidence and a competitive analysts market. Even if the Thirteenth Circuit s definition of personal benefit is correct, any District Court error was harmless. Abernethy was a cousin and mentor to Bookwalter. In addition, Abernethy s disclosure to Bookwalter gave him a reputational benefit that could allow him to later call in the favor for monetary gain. Therefore, it is clear beyond a reasonable doubt that a rational jury would have found Respondent guilty absent the errors. This Court has also held that tippees are liable for insider trading if they know or should know that the tipper received a personal benefit. The Thirteenth Circuit, on the other hand, erroneously held that Respondent needed to actually 7

18 know of Abernethy s personal benefit. But an actual knowledge standard would absolve otherwise illegal trading as long as the defendant avoids inquiring as to the source of confidential information and the benefit received. A vast majority of federal courts apply a constructive knowledge standard, which properly accounts for the defendant s level of sophistication. Nonetheless, any District Court error as to the correct level of knowledge was harmless. Respondent received the inside itech information on good authority from Cuzick, who was best friends with Bookwalter. Bookwalter s cousin, Abernethy, was an itech insider. All were in the same room when the information was leaked. Given that Respondent is a sophisticated hedge fund manager, it is clear beyond a reasonable doubt that a rational jury would have found Respondent guilty absent the error. The District Court properly excluded Abernethy s grand jury testimony. This Court has held that an unavailable witness s prior grand jury testimony can be admitted under Rule 804(b)(1) if the proponent satisfies the similar motive requirement. On a basic level, the requirement asks whether the motive to develop testimony at the prior proceeding is similar to the motive that would exist at the current proceeding. Neither the Federal Rules, nor this Court, have defined similar motive, leading to divergent interpretations among federal courts. Some courts, like the First and Second Circuits, evaluate similar motive using a fact-intensive inquiry. In the grand jury context, these courts have noted that a prosecutor will have little motive to develop a witness s testimony once 8

19 probable cause is established. In part, this is because credibility determinations are seldom required at a grand jury. Others, like the Thirteenth Circuit, examine the opponent s motives at a high level of generality. These courts have ruled that the Government has the same motive to develop a witness s testimony during a grand jury as it does at trial. To determine if a hearsay proponent has satisfied the similar motive requirement, this Court should adopt a fact-intensive inquiry, which looks to the nature of the proceedings and cross-examination. This comports with this Court s guidance and the plain language of Rule 804(b)(1). In contrast, the Thirteenth Circuit s overly broad test conflates the rule s similar motive and opportunity requirements, and in effect creates a per se rule. This gloss on the Rule is indefensible. Applying these principles, the District Court did not abuse its discretion by excluding Abernethy s testimony from the first grand jury. Respondent sought to introduce it to show that Abernethy did not know Respondent. Consistent with the purpose of a grand jury, the prosecutor merely had a motive to identify crimes, not prove them, because the scope of insider trading had not yet fully crystallized. Second, the grand jury was empaneled against Cuzick, not Respondent, making Abernethy s knowledge of Respondent a peripheral issue. In contrast, this information would be critical at Respondent s trial. Third, the prosecutor believed that showing that all four individuals were together would establish probable cause. 9

20 Abernethy confirmed this immediately and, with evidence from the SEC, the prosecutor had no motivation to develop Abernethy s testimony further. Respondent also sought to introduce Abernethy s testimony from the second grand jury to show that he did not profit from the disclosure. Before denying that he profited, Abernethy admitted that he tipped Bookwalter as a favor. This alone constitutes personal benefit, and, together with the SEC s evidence, the prosecutor was left with little motive to press further. Moreover, confronting Abernethy s testimony could potentially compromise the DOJ and SEC investigations, giving the prosecutor little motive to develop it. Even if the District Court should have admitted the testimony, its failure to constitutes harmless error. Against the vast sea of evidence in this case, including SEC testimony from Bookwalter, Cuzick, and Respondent, along with Respondent's testimony at trial, Abernethy s testimony would have been either irrelevant or cumulative. For the foregoing reasons, this Court should reverse the judgment of the Thirteenth Circuit and reinstate the jury s decision. ARGUMENT I. The Thirteenth Circuit improperly defined personal benefit and the tippee s requisite knowledge of that benefit. This Court should find that the District Court s jury instructions were correct. By requiring either an anticipated pecuniary benefit or close relationship between Abernethy and Respondent, the Thirteenth Circuit s definition of personal benefit was improperly narrow. Instead, the intangible benefit of giving a gift to a 10

21 trading relative or friend constitutes a personal benefit. Even if this Court requires a pecuniary gain or a close relationship (or both) between Abernethy and Respondent, any District Court error was harmless. Furthermore, the Thirteenth Circuit erroneously held that Respondent needed actual knowledge of Abernethy s personal benefit. Under the proper standard, Respondent simply needed constructive knowledge of the benefit. But, again, given the evidence against Respondent, any District Court error as to the correct level of knowledge was harmless. A. The Thirteenth Circuit s improperly narrow definition of personal benefit is inconsistent with well-settled case law and the objectives of the securities markets. The Thirteenth Circuit required the Government to show that (1) Abernethy and Bookwalter had a close familial relationship and (2) Abernethy received an anticipated pecuniary benefit. P. 27. This narrow definition of personal benefit is improper for at least two reasons. First, this unprecedented dual requirement is wholly unsupported by case law. Second, receipt of a personal benefit requires neither a close familial relationship between tipper and tippee nor an anticipated pecuniary benefit. Rather, giving a gift of confidential information to a trading relative or friend constitutes personal benefit. 1. Receipt of a personal benefit does not require an anticipated pecuniary gain. Section 10(b) of the Securities Exchange Act of 1934 ( the Act ) prohibits the use of any manipulative or deceptive device in connection with the purchase or sale of any security. 15 U.S.C. 78j(b) (2010). Neither the Act nor the regulations 11

22 issued pursuant to it, including SEC Rule 10b 5, expressly prohibit insider trading. See 17 C.F.R b-5. However, the SEC has interpreted Section 10(b) of the Act as requiring that anyone possessing confidential corporate information either disclose the information to the investing public or abstain from trading in or recommending the securities concerned. In the Matter of Cady, Roberts & Co., 40 S.E.C. 907, 912 (Nov. 8, 1961). This is known as the disclose-or-abstain rule. This Court adopted the SEC s disclose-or-abstain rule, but added that a duty to disclose under 10(b) does not arise from the mere possession of nonpublic market information ; instead, the duty arises from the existence of a fiduciary relationship. Chiarella v. U.S., 445 U.S. 222, 235 (1980). Under the classical theory the theory applicable to this case the fiduciary relationship between a corporate insider and shareholders triggers the duty to disclose or abstain. Id. However, liability is not limited to corporate insiders. Dirks v. SEC, 463 U.S. 646, 660 (1983). A tippee assumes a fiduciary duty not to trade on material nonpublic information [ ] when the insider has breached his fiduciary duty... by disclosing the information to the tippee and the tippee knows or should know that there has been a breach. Id. i. This Court and many others have found personal benefit without pecuniary gain. In Dirks, this Court clarified when a corporate insider breaches his or her fiduciary duty. Id. at In doing so, this Court introduced the personal benefit requirement: corporate insiders only breach their fiduciary duty if they disclose inside corporate information for personal benefit, rather than a legitimate 12

23 corporate purpose. Id. at 662. Not only are corporate insiders liable for insider trading in this scenario, but tippees are derivatively liable. Id. This Court concluded that a tippee, Dirks, was not liable for insider trading because the original tippers motivation for disclosing confidential information was to expose their company s fraudulent activity, not to benefit Dirks or themselves. Id. at 667. More importantly, this Court recognized that while a pecuniary gain or a reputational benefit that will translate into future earnings undoubtedly satisfies the personal benefit requirement, the benefit need not be monetary or even tangible. Id. at For example, a personal benefit exists when there is a relationship between the insider and the recipient that suggests... an intention to benefit the particular recipient. Id. at 664. Specifically, a personal benefit exist[s] when an insider makes a gift of confidential information to a trading relative or friend, as [t]he tip and trade resemble trading by the insider himself followed by a gift of the profits to the recipient. Id. Many federal courts agree. See, e.g., U.S. v. Salman, 792 F.3d 1087, 1094 (9th Cir. 2015) (explaining that personal benefit is broadly defined to include not only pecuniary gain, but also... the benefit one would obtain from simply making a gift of confidential information to a trading relative or friend ); U.S. v. Jiau, 734 F.3d 147, 153 (2d Cir. 2013), cert. denied, 135 S. Ct. 311 (2014) (same); U.S. v. Evans, 486 F.3d 315, 321 (7th Cir. 2007) (same); SEC v. Rocklage, 470 F.3d 1, 7 n.4 (1st Cir. 2006) (same). More to the point, the Second Circuit explained that this Court has made 13

24 plain that the Government need not show that the tipper expected or received a specific or tangible benefit in exchange for the tip. SEC v. Warde, 151 F.3d 42, 48 (2d Cir. 1998); see also U.S. v. Whitman, 904 F. Supp. 2d 363, 371 n.7 (S.D.N.Y. 2012), aff d, 555 F. App x 98, 100 (2d Cir. 2014) (holding that a personal benefit can include, for example, maintaining a useful networking contact... or just maintaining or furthering a friendship ). Given the broad definition of personal benefit set forth in Dirks, the Second Circuit found that the [evidentiary] bar is not a high one. SEC v. Obus, 693 F.3d 276, 292 (2d Cir. 2012); Jiau, 734 F.3d at 153. In fact, in SEC v. Maio, the Seventh Circuit even observed that [a]bsent some legitimate reason... the inference that [the insider s] disclosure was an improper gift of confidential corporate information is unassailable. 51 F.3d 623, 632 (7th Cir. 1995). ii. In a widely criticized opinion, the Second Circuit recently limited personal benefit to anticipated pecuniary gain. In U.S. v. Newman, the Second Circuit placed an untenable limitation on the personal benefit test. 773 F.3d 438, 452 (2d Cir. 2014), cert. denied, (U.S. Oct. 5, 2015). The Newman court held that two corporate insiders at Dell and NVIDIA did not derive a personal benefit where (1) the Dell insider and first-level tippee had a business and personal relationship and (2) the NVIDIA insider and the first-level tippee attended social functions together and knew each other s families. Id. Although the Second Circuit recognized the gift language from Dirks, the court curiously limited personal benefits to meaningfully close personal relationship[s] 14

25 that represent[ ] at least a potential gain of a pecuniary or similarly valuable nature. Id. The Ninth Circuit in Salman, however, expressly declined to follow Newman insofar as it held that anticipated pecuniary gain is required for a personal benefit. 792 F.3d at The court reasoned that adopting Newman would require [it] to depart from... Dirks. Id. The court upheld a second-level tippee s insider trading conviction arising out of an investment banker s disclosure of confidential information to his brother. Id. at The defendant argued that, under Newman, his conviction could not be upheld unless the tipper received a tangible benefit. Id. at The court rejected this argument, stating: [the tipper s] disclosure of confidential information to [the first-level tippee], knowing that he intended to trade on it, was precisely the gift... that Dirks envisioned. Id. at The Ninth Circuit reasoned that, under the defendant s flawed theory, a corporate insider... would be free to disclose information to her relatives... provided only that she asked for no tangible compensation in return. Id. at Along the same lines, the New Jersey District Court was reluctant to interpret Newman as departing from Dirks. See SEC v. Holley, No (DEA), 2015 WL , at *5 (D.N.J. Sept. 21, 2015). The Holley court held that Newman does not require that a personal benefit represent an anticipated pecuniary gain. Id. The court concluded that the defendant s disclosure of confidential information to his cousin and long-time confidant, with the intention to help these individuals, constituted insider trading. Id. 15

26 iii. This Court should hold that personal benefit is not limited to anticipated pecuniary gain. This Court should hold that the Thirteenth Circuit erred in concluding that Abernethy needed to receive at least the likelihood of eventual pecuniary gain in exchange for his disclosure. The Thirteenth Circuit erred for three reasons. First, such a holding would nullify this Court s holding in Dirks that a personal benefit exists in two situations: when the insider expects something pecuniary in return or when the insider gives a gift of confidential information to a trading relative or friend. If this Court reverses course and holds that the personal benefit test cannot be met unless the insider discloses in exchange for an anticipated pecuniary benefit, then the two categories of personal benefit will be collapsed into one, and this Court s entire gift discussion becomes meaningless. Second, requiring an insider to receive an anticipated pecuniary gain would have dire consequences on the securities markets. As the Ninth Circuit in Salman pointed out, under a strict pecuniary benefit requirement, corporate insiders would be free to disclose confidential information to relatives as long as they do not ask for a pecuniary benefit. Thus, a pecuniary benefit requirement would significantly weaken protections against abuse of inside information and threaten to undermine enforcement efforts that are vital to fairness in the securities markets. The securities laws do not always require equal information among all traders, because such a rule would have an inhibiting influence on the role of market analysts, which... is necessary to the preservation of a healthy market. Dirks, 463 U.S. at 658. However, a pecuniary benefit requirement would undermine 16

27 the work of market analysts and inhibit the growth of a competitive analysts market. See Zohar Goshen & Gideon Parchomovsky, On Insider Trading, Markets, and Negative Property Rights in Information, 87 Va. L. Rev. 1229, 1243 (2001) ( When the extent of insider trading is limited, a competitive analysts market will develop; when insider trading is extensive, no analysts market will form ). Moreover, the pecuniary benefit requirement would undercut the fundamental objective of the securities laws: to insure honest securities markets and thereby promote investor confidence. U.S. v. O Hagan, 521 U.S. 642, 658 (1997). If investors believe that corporate insiders may freely gift confidential information to their relatives and friends without penalty as long as they do not expect something tangible in return, investors will lose confidence in the honesty of the securities markets and venture their capital [elsewhere]. Id. Third, the Thirteenth Circuit s concern that the personal benefit requirement in Dirks would over-criminalize the securities laws, P. 26, is unfounded. As this Court explained in Dirks, not all selective disclosures of confidential information trigger insider-trading liability. 463 U.S. at 662. For example, an insider will not breach a fiduciary duty by disclosing confidential information for a legitimate business purpose, such as providing data to an analyst. Id. Corporate insiders also will not breach a fiduciary duty when disclosing information they mistakenly believe to be immaterial or public knowledge. Id. In addition, corporate insiders do not engage in illegal insider trading by inadvertently revealing confidential information through poor cellphone manners. Obus, 693 F.3d at 287. In other 17

28 words, a corporate insider s disclosure of confidential information only becomes criminal when it is deliberately calculated to benefit either the insider or the insider s friend or relative. Consequently, the jury was properly instructed that a personal benefit may consist of intangible things, like... reputational benefits, or the personal satisfaction of helping or strengthening a relationship with a friend or relative. P. 11. And there was ample evidence to support the jury s conclusion that Abernethy received a personal benefit. Abernethy disclosed itech s earnings intending to help his stockbroker cousin. In fact, Bookwalter admitted that Abernethy gave him the information as a favor. P. 7. The fact that Bookwalter did not own or advise his clients to buy itech stock at the time of the disclosure, P. 3-4, is irrelevant. Abernethy was unaware that neither Bookwalter nor his clients owned itech stock at the moment he disclosed. See Obus, 693 F.3d at 287 (holding that a tipper cannot avoid liability merely by demonstrating that he did not know to a certainty that the person to whom he gave the information would trade on it ). Further, Abernethy did not have a legitimate corporate purpose in disclosing, as he was not exposing a fraud. Because Abernethy did not have a legitimate reason for disclosing itech s earnings prior to public announcement, the inference that he breached a fiduciary duty is unassailable. Maio, 51 F.3d at

29 2. The tipper and tippee do not need a close familial relationship for the tipper to receive a personal benefit. In Dirks, this Court held that a personal benefit can consist of a gift of confidential information to a trading relative or friend, without qualifying relative or friend with close. 463 U.S. at 664. The Second Circuit in Newman, however, opined that Dirks does not suggest that the Government may prove the receipt of a personal benefit by the mere fact of a friendship. 773 F.3d at 452. But that is precisely what Dirks suggests. See 463 U.S. at 664. And other federal courts have found personal benefit based on various tipper-tippee relationships. See, e.g., Whitman, 904 F. Supp. 2d at 371 n.7 (friends); Evans, 486 F.3d at 321 (same); Maio, 51 F.3d at 632 (same); Obus, 693 F.3d at 285 (college friends); Holley, 2015 WL , at *5 (cousins). This Court should not impose the Thirteenth Circuit s novel closeness requirement. Not only would such requirement be inconsistent with the plain language of Dirks, but it would frustrate the purposes behind the securities laws. Under the closeness requirement, a clever corporate insider can escape liability by selectively leaking corporate information to a relative or friend that he does not see often or whom he purposely avoids. As explained above, this result would diminish investor confidence and impede a competitive analysts market. Moreover, one corporate insider who discloses confidential information to his brother is no more culpable than another who discloses the same information to his cousin who he sees a few times a year. In both instances, the corporate insider 19

30 deliberately disclosed the information as a favor. The Thirteenth Circuit s litmus test for the relationships that can lead to a gift of inside information creates a loophole for insiders and their extended friends and relatives. 3. Even if personal benefit requires a pecuniary benefit or a close relationship (or both) between Abernethy and Respondent, any District Court error was harmless. Under the harmless error rule, [a]ny error, defect, irregularity or variance which does not affect substantial rights shall be disregarded. Fed. R. Crim. P. 52(a). The harmless-error analysis applies to improper jury instructions. See Neder v. U.S., 527 U.S. 1, 7 (1999). An instructional error is harmless if it is clear beyond a reasonable doubt that a rational jury would have found the defendant guilty absent the error[.] Id. at 18. Thus, even if this Court agrees with the Thirteenth Circuit s assignments of error, it is clear beyond a reasonable doubt that a rational jury would have found Respondent guilty absent the errors. First, it is clear beyond a reasonable doubt that a rational jury would have found Respondent guilty even if it were instructed that personal benefit requires at least the increased likelihood of eventual pecuniary benefit. P. 27. It is true that Abernethy did not directly profit monetarily. However, a rational jury would have found that Abernethy received at least the increased likelihood of eventual pecuniary benefit, because as the District Court noted his disclosure gave him a reputation as a helpful and reliable source of market information. P. 16. He could one day ask Bookwalter for a favor in return. Id. A reputational benefit that will 20

31 translate into future earnings satisfies even a strict pecuniary personal benefit requirement. See, e.g., Dirks, 463 U.S. at 663. Second, it is clear beyond a reasonable doubt that a rational jury would have found Respondent guilty even if it were instructed that Abernethy and Bookwalter must have had a close familial relationship. Abernethy and Bookwalter were cousins. P. 2. Thus, the jury undoubtedly knew that a familial relationship existed. Moreover, the jury undoubtedly would have concluded that Abernethy and Bookwalter were close based on their mentor-mentee relationship. In Salman, the Ninth Circuit held that a non-pecuniary personal benefit could only be derived from a tip to a close friend or relative. 792 F.3d at Nonetheless, the Ninth Circuit found the defendant guilty because: (1) the firstlevel tippee (Michael) and the tipper (Maher) were brothers; (2) Michael paid for Maher s college; (3) Michael stood in for the brothers father at Maher s wedding; and (4) Michael coached Maher in science to help him with his healthcare investment banking transactions. Id. at Like the brothers in Salman, Abernethy and Bookwalter had a close familial relationship because: (1) Abernethy and Bookwalter were relatives; (2) Abernethy supported Bookwalter s interest in attending the same business school as Abernethy; (3) Abernethy and Bookwalter traded market advice; and (4) Abernethy s mother loaned Bookwalter s mother $50,000 to purchase a home. P The jury heard all of this evidence. Thus, a rational jury undoubtedly would have 21

32 found that Abernethy and Bookwalter had a close familial relationship if they were so instructed. B. The Thirteenth Circuit improperly defined the tippee s requisite level of knowledge as to the tipper s personal benefit. In this case, the District Court properly instructed the jury that Respondent had the requisite knowledge if she actually knew or reasonably should have known that Abernethy received a personal benefit for his disclosure. P. 12. In contrast, the Thirteenth Circuit held that the requisite level of knowledge is actual knowledge, as opposed to constructive knowledge. P This Court should hold that the necessary level of knowledge for criminal insider trading liability is constructive knowledge. But even if this Court finds that actual knowledge is required, the defect in the jury instructions was harmless error. 1. Illegal insider trading occurs if a tippee knew or should have known that the tipper disclosed material nonpublic information for personal benefit. A criminal violation of the securities laws requires that the defendant act willfully. 15 U.S.C. 78ff(a) (2002). In defining the applicable mens rea in the securities law context [c]ourts (and legislatures) are notoriously imprecise. J. Kelly Strader, (Re)conceptualizing Insider Trading, 80 Brook. L. Rev. 1419, 1442 (2015). Commentators have noted that willfully adds virtually nothing to the Government s burden in a criminal securities fraud case, as the only real difference between a civil and criminal securities fraud case is the burden of proof. Id. at

33 In Ernst & Ernst v. Hochfelder, this Court announced that civil liability under Section 10(b) of the Act requires that the defendant have an intent to deceive, manipulate, or defraud. 425 U.S. 185, 193 (1976). Although recognizing that negligence is an insufficient mental state, this Court explicitly left open the possibility that recklessness may suffice for civil liability under Section 10(b) of the Act. Id. at 193 n.12. Seven years later, this Court concluded that the willfulness requirement is satisfied in an insider trading case if the tippee knows or should know that there has been a breach by a corporate insider, including knowledge of the personal benefit that the insider received. Dirks, 463 U.S. at 660. Since then, a majority of federal courts have recognized that recklessness is a sufficient mental state for liability under Section 10(b) of the Act. See, e.g., SEC v. U.S. Envtl., Inc., 155 F.3d 107, 111 (2d Cir. 1998) (recognizing that eleven circuits hold that recklessness satisfies the scienter requirement of Section 10(b)). For example, in Obus, the Second Circuit held that tippee liability can be established if a tippee knew or had reason to know that confidential information was initially obtained and transmitted improperly. 693 F.3d at 288; see also U.S. v. Goffer, 721 F.3d 113, (2d Cir. 2013). The Second Circuit explained that the Dirks court s knows or should know standard is a fact-specific inquiry turning on the tippee s own knowledge and sophistication and on whether the tipper s conduct raised red flags that confidential information was being transmitted improperly. Id. Because the tippee, a sophisticated financial analyst, knew that the tipper s job 23

34 provided him with access to material nonpublic information and that trading on that information is illegal, the court held that a jury could have reasonably found that the tippee was liable. Id. at 291; see also SEC v. Musella, 678 F. Supp. 1060, 1063 (S.D.N.Y. 1988) (reasoning that defendants were experienced investors who should have known that fiduciary duties were being breached). Likewise, in Salman, the Ninth Circuit concluded that the defendant must have known that the tipper disclosed confidential information in breach of a fiduciary duty. 792 F.3d at The first-level tippee (Michael) told the defendant that his brother (Maher) was the tipper, and the defendant attended Maher s wedding and observed Michael give a speech about Maher. Id. at [G]iven the brothers close relationship, the court held that the defendant could readily have inferred that the Maher intended to benefit Michael. Id. at In a separate memorandum, the Ninth Circuit also emphasized that even if the jury believed that the defendant did not actually know that Maher was an investment banker, it could properly convict the defendant if it concluded that the reason he did not know was that he deliberately refrained from asking. U.S. v. Salman, No , 2015 WL , at *2 (9th Cir. July 6, 2015). Because the information was inherently proprietary in nature and the defendant knew [Maher and Michael s] family well, the court concluded the jury could reasonably infer that [the defendant] was aware of Maher s employment. Id. at *3. Along the same lines, a New York District Court held that there is no reason to require that the tippee know the details of the benefit provided; it is sufficient if he understands 24

35 that some benefit, however modest, is being provided in return for the information. Whitman, 904 F. Supp. 2d at By contrast, in Newman, the Second Circuit required a heightened, though unclear, level of knowledge to convict a remote tippee of insider trading. 773 F.3d at First, the Second Circuit held that the district court failed to instruct the jury that the defendants must know that the tippers received a personal benefit for their disclosure. Id. at 450. Second, the court rejected the Government s position that the defendants inferred from the circumstances that some benefit was provided to (or anticipated by) the insiders. Id. at 451. The court came to its conclusion notwithstanding the defendants: (1) knew that one of the tippees in the tipping chain was talking to someone within Dell ; (2) received highly accurate earnings figures, quarter after quarter; and (3) made efforts avoid a paper trail of trades. Id. at 453. This Court should find that a tippee can be held criminally liable for insider trading if she knows or constructively should know that the tipper disclosed material nonpublic information for personal benefit. Not only does a constructive knowledge standard honor the level of knowledge originally required by this Court for securities fraud liability in Hochfelder and for insider trading liability in Dirks, but it is also the standard rightly adopted by the vast majority of federal courts. Contrary to the Thirteenth Circuit s assertion, the Dirks constructive knowledge 1 Remote tippees can satisfy the knowledge requirement. See Musella, 678 F. Supp. at 1063 (holding that [s]cienter in insider trading cases is not, and as a matter of public policy should not, be limited to those in direct contact with the primary tipper ). 25

36 standard should not be dismissed based on the lone fact that Dirks is a civil case and the instant case is criminal. P. 25. As the foregoing discussion of insider trading case law illustrates, courts adjudicating criminal insider trading cases have relied upon civil case law and vice versa. See, e.g., Salman, 792 F.3d at 1094; Obus, 693 F.3d at 285. The only difference between the two is that in the criminal insider trading context, the government has a heightened burden of proof. The Thirteenth Circuit improperly conflated the burden of proof with the level of knowledge required. Furthermore, a constructive knowledge standard properly accounts for the level of sophistication of the tippee and the reasonable inferences that such sophisticated party must have drawn. In addition, an actual knowledge standard would threaten the integrity of the securities markets. Investor and analyst confidence in the securities markets would diminish, as the markets would be exploited by traders who simply do not ask where the information came from. And that is precisely what would occur; an actual knowledge standard would absolve deliberate and calculated behavior, as is evidenced by the Second Circuit s shocking Newman opinion. To the extent that the Thirteenth Circuit asserted that Respondent must know the nature of the benefit Abernethy received, P. 23, 28, such a requirement is already accounted for in the jury instructions. The District Court instructed the jury that Respondent must know of Abernethy s breach, which is satisfied if she actually knew or if she reasonably should have known that Abernethy received a 26