Stock Lawyer Stock Market 4 — Questions and Answers
Question 1: A company's CEO sells shares one week after learning of an upcoming earnings miss that has not yet been announced. Which legal theory most directly applies?
- Misappropriation theory
- Classical (tipper-tippee) theory
- Classical insider trading theory (classical theory) (Correct answer)
- Section 16(b) short-swing profits rule
Correct answer: Classical insider trading theory (classical theory)
Under classical insider trading theory, a corporate insider who trades on material non-public information obtained through their position breaches a duty to shareholders.
Question 2: Under the Securities Act of 1933, which section imposes strict liability on issuers for material misstatements in a registration statement?
- Section 10(b)
- Section 11 (Correct answer)
- Section 12(a)(2)
- Section 17(a)
Correct answer: Section 11
Section 11 of the Securities Act imposes liability on issuers, underwriters, and other signatories for material misstatements or omissions in a registration statement, with issuers facing strict liability.
Question 3: What is a 'poison pill' defense mechanism in corporate law?
- A clause requiring target company executives to resign upon acquisition
- A shareholder rights plan that dilutes an acquirer's stake by allowing other shareholders to buy shares at a discount (Correct answer)
- A provision requiring a supermajority vote to approve any merger
- A debt covenant that accelerates repayment if a hostile takeover occurs
Correct answer: A shareholder rights plan that dilutes an acquirer's stake by allowing other shareholders to buy shares at a discount
A poison pill (shareholder rights plan) is triggered when an acquirer reaches a threshold stake, allowing other shareholders to buy additional shares at a discount, diluting the acquirer.
Question 4: Which federal statute governs the conduct of securities broker-dealers and requires them to register with the SEC?
- Securities Act of 1933
- Investment Advisers Act of 1940
- Securities Exchange Act of 1934 (Correct answer)
- Sarbanes-Oxley Act of 2002
Correct answer: Securities Exchange Act of 1934
The Securities Exchange Act of 1934 established the SEC and requires broker-dealers to register with the SEC and comply with its regulations.
Question 5: What does 'decimalization' refer to in the context of U.S. stock markets?
- The process by which the SEC reviews financial statements for accuracy
- The conversion of stock price quotes from fractions to decimal increments (cents) (Correct answer)
- A method of calculating earnings per share using weighted averages
- The requirement to report trades within 10 seconds of execution
Correct answer: The conversion of stock price quotes from fractions to decimal increments (cents)
Decimalization, completed in 2001, changed U.S. stock quoting from fractions (e.g., 1/8 of a dollar) to decimal increments, reducing bid-ask spreads.
Question 6: In a securities class action, what is the 'fraud on the market' theory?
- A presumption that all investors relied on a fraudulent statement because public misstatements are reflected in market prices (Correct answer)
- A theory that fraud affects only institutional investors who actively trade
- A doctrine holding the entire market liable for a fraudulent IPO
- A method of calculating damages based on total market capitalization lost
Correct answer: A presumption that all investors relied on a fraudulent statement because public misstatements are reflected in market prices
The 'fraud on the market' presumption, established in Basic Inc. v. Levinson, allows class members to establish reliance by showing the stock traded in an efficient market that reflected the misstatement.
Question 7: What is a 'gray market' in the context of IPO shares?
- Trading of unregistered shares through SEC-exempt platforms
- When-issued trading of IPO shares before the official listing date (Correct answer)
- Secondary market trading of shares by foreign investors
- Trading of shares that have been delisted from a national exchange
Correct answer: When-issued trading of IPO shares before the official listing date
The gray market refers to conditional, when-issued trading of IPO shares that occurs before the official allocation and listing of the offering.
Stock Lawyer Stock Market 4
A company's CEO sells shares one week after learning of an upcoming earnings miss that has not yet been announced.
Which legal theory most directly applies?