The FSA published Market Watch No.24 towards the end of October. One of the topics covered within this issue is the results of the FSA's review of the market abuse systems and controls in place at hedge fund managers ("HFMs"). The FSA sets out its views on the sorts of measures which HFMs should have in place. It also sets out some examples of good practices which it found during its visits to HFMs. Overall, the standards within firms vary, ranging from a high level of awareness and appropriate controls to complacent attitudes towards risks.

The bottom corner of Market Watch clearly states that it is not FSA guidance. As such, it has not been consulted on. The usual cost-benefit analysis conducted in relation to official FSA guidance has also not been carried out. Although it is not official FSA guidance, it does look and sound very much like it is. In some instances, when terms such as "Firms must have in place…" are used, it seems to go beyond even that.

The "quasi-guidance" feel of Market Watch should not come as a surprise. When consulting on the deletion of MAR 3 (Inter-professional Conduct) from the Market Conduct Sourcebook ("MAR"), the FSA had said that it may insert some of the materials from MAR 3 into Market Watch. The recommendation from the FSA that firms should tape telephone conversations (see below) is an example of this.

Although Market Watch No.24 does not have the status of official guidance, HFMs which choose to ignore the findings may have some explaining to do to the FSA if they do not follow the "guidance" without good reason. This is especially so as the FSA is intending to launch a programme of visits to a wide cross-section of firms over the coming months to formally assess their market abuse systems and controls.

There is possibly another area of regulatory creep. It does not require a great leap of imagination to think that the examples of controls and practices set out in Market Watch No.24 could be read across to apply to other kinds of FSA regulated firm. Would the FSA expect such firms to know of the existence of this "quasi-guidance" and meet the standards set out within it?


Some of the areas of controls which a HFM should consider to manage its risks of market abuse are as follows:

Responsibility for compliance with the market abuse regime lies with senior management

The impression given by some HFMs during the FSA visits was that responsibility for compliance with the market abuse regime lies with the compliance team (either internal staff or external consultants). Compliance with the regime should be shown through the culture and controls within firms. All staff should play a role and be aware of what they can do to combat market abuse. For example, those working within the trading function should forward suspicious trading activities for review.

Computerised controls

The FSA encourages the development of in-built controls within computer systems which lessen the need for human intervention. Such controls include, for example, restricted access to systems drives and prompts which indicate if a trade is about to be executed in a security listed on a firm's restricted list.


In the FSA's view, it is necessary that all HFMs have in place some independent monitoring of their market abuse controls and procedures. Examples of monitoring include reviewing the reasons for trading securities where they are being traded for the first time or are traded before an unscheduled regulatory announcement. "Box-ticking" type checks will not meet the appropriate standards expected by the FSA. This type of monitoring may be conducted in-house or through an external resource.


Market abuse training of staff is essential. Training should be tailored to the type of business undertaken by the firm and contain practical examples relevant to the business. During its visits, the FSA found that the level of training was at times non-existent or of poor quality. Firms must not rely on training provided to staff by previous employers.

Restricted/stop lists and Chinese walls

Firms are expected to maintain a list of all securities (not just equities, but all listed securities in a given company) on which HFMs have received inside information. In terms of good practice, the FSA was encouraged by the move towards the receipt of inside information via one named individual rather than through a range of individuals. The FSA also liked seeing that some HFMs considered casual links between different securities and expanded the restricted list where there was a correlation.

Chinese walls may be appropriate and if they are in place, firms are expected to have robust procedures to enable them to demonstrate that they operate effectively.


Policies must be in place to ensure that staff are made aware of the need to maintain the confidentiality of price sensitive information. The FSA has said that it will take action where it identifies deliberate leakage of information or the dissemination of rumours.

Long-term remuneration structure

The FSA believes that long-term remuneration structures reduce the incentive for staff to undertake market abuse for short-term gain and therefore it encourages such arrangements.

Taped telephone lines

The FSA recommends that HFMs which do not currently record telephone conversations consider the benefits of doing so. In May this year, the FSA proposed in CP 07/9 ( that certain guidance within MAR 3.6 on telephone taping (which is now no longer in force) be replaced with new rules requiring the recording of certain telephone conversations and electronic communications for a period of three years. It has since backed down from this proposal (see PS 07/18 ( because of the strength of opposition from industry. However, the FSA is only temporarily holding off from implementing new rules in this area and is scheduled to reconsult on the proposals early next year. The FSA still firmly believes that the tape-recording of telephone lines is an important tool in the battle against market abuse. It is likely to implement some sort of requirement in this area, although it is expected to make a number of concessions, notably in relation to the record retention period. Further work on the recording of telephone lines is also due to start at CESR level towards the end of next year.

Review of personal account dealing retrospectively

The FSA noted that the board of at least one HFM visited reviewed personal account dealing of staff retrospectively once a year. It commented that this control was helpful, especially with the benefit of hindsight.

General themes

  • Compliance support – some HFMs felt that a compliance officer was not warranted due to the size of the firm, but commented that external compliance support was not always adequate. The FSA has said that it is the responsibility of firms to ensure that the standard of advice received is adequate and that poor advice is no excuse for not meeting regulatory standards.
  • Receipt of inside information from companies – the FSA suggested that when attending one-to-one meetings with companies, HFMs may stop companies from inadvertently providing inside information if they stated clearly at the start that they did not wish to receive such information. The FSA also cited the practice of some HFMs which ensured that a compliance officer was in attendance at such meetings. The FSA acknowledged that not all firms would be able to put this approach into practice, but where such information was received, firms must at least ensure that they did not trade on it.
  • Relationships with banks – the FSA commented on the increase in the number of public-side investors (including HFMs) asking private-side bankers to comment on industry trends and developments. The FSA is concerned that too much information could be provided at such meetings and welcomed the move by at least one bank to formalise procedures for these meetings.