Working on the Railroad is Not Insider Trading

Gary Griffiths was a vice president and chief mechanical officer at Florida East Coast Railway. Cliff Steffes was a trainman at the Bowden Rail Yard for the company and the nephew of Gary. Gary and Cliff noticed there was a surprising number of tours of the rail yard by men in suits. Gary’s boss asked him to prepare a list of equipment owned by the company. They thought the company was for sale and thought they could profit from the sale.

The SEC thought their stock trading was illegal.

But a jury thought otherwise.

Certainly, the trading conduct of Griffiths’ and Steffes’ families was unusual. They made out-sized bets on a rise in stock price using options and stock purchases. Before the date of the family’s trades, they had never purchase a stock option.

But trading on information is not illegal, unless there is an obligation to not trade. Griffiths and Steffes were both restricted from trading based on the railway’s code of conduct. That prohibits them from trading based on material information about the company which had not been publicly disclosed.

The big question the SEC would have to answer for the jury was that the information discovered by Griffiths and Steffes was the kind of information that should prevent them trading. A bunch of suits walking around the train yard is not necessarily indicative of an impending increase in stock price. Given the open nature of train yards, many non-employees could have witnessed the behavior.

When talking about material non-public information I often go to the urban legend of the fund manager who would count cars in a retailer’s parking lot as measure of financial performance. That parking lot count is clearly not information subject to prosecution for illegal insider trading. Reading an earnings release before it’s public likely would be. The trainmen’s situation sounds a lot more like the parking lot situation than the earnings release.

I would guess that the SEC saw the suspect behavior and was hoping to find something more as the case developed. According to the jury, the SEC did not find enough.

References:

• Jury Rejects Aggressive SEC Insider Trading Claims in SEC Actions
• SEC Complaint Against Griffiths and Steffes (.pdf)
• SEC Stretches Definition of Inside Information and Materiality Past Breaking Point
• Limits of Insider Probes Expand in the Wall Street Journal

Image is Railroads. Men working on locomotive by Horydczak, Theodor, approximately 1890-1971