The Financial Services and Markets Act 2000 (Market Abuse) Regulations 2016 (MAR) came into force on 3 July 2016 implementing the EU Market Abuse Directive (MAD II).
This article looks at what market abuse is, why it's important and how it might apply to you and your office.
The new MAR regime aims to enhance market integrity and investor protection and comes hot on the heels of judgment in the longest and most expensive investigation into market abuse in UK history (Operation Tabernula). The case resulted in two men being sentenced to prison for an aggregate of eight years.
For a recent update on specific changes implemented by MAR, see this previous Shoosmiths article. Before delving into the criminal complexities unearthed by Operation Tabernula, we look at the definition of market abuse.
What is Market Abuse?
The UK's old civil regime contained in Part 8 of the Financial Services and Markets Act 2000 (FSMA) and the Code of Market Conduct in the FCA Handbook (Handbook) has now been replaced. The Criminal Justice Act 1993 and Financial Services Act 2012, as they apply to criminal offences concerning market abuse, remain unaffected. The provisions of MAR are directly applicable to the UK and the FCA has updated both the Handbook and FSMA to ensure compatibility with MAR. The coming into force of MAR extends the scope of the market abuse regime by shifting focus from regulated markets to financial instruments.
Market Abusive Behaviour
Market abuse is a concept which covers a number of types of activities which in large part would give the perpetrator an unfair advantage in financial markets and prevent full and proper market transparency. Recital 7 of MAR sets out that market abuse is:
'Unlawful behaviour in the financial markets . [consisting] of insider dealing, unlawful disclosure of inside information and market manipulation'.
Each of these types of behaviour is prohibited by Article 14 of MAR.
Article 7 of MAR describes inside information as:
'information of a precise nature, which has not been made public, relating, directly or indirectly, to one or more issuers or to one or more financial instruments, and which, if it were made public, would be likely to have a significant effect on the prices of those financial instruments or on the price of related derivative financial instruments'.
Not so different from the previous regime, MAR states that information likely to have a 'significant effect' means information that a reasonable investor would be likely to use as part of the basis of an investment decision. As part of the overhaul of legislation the definition of inside information under MAR goes beyond financial instruments and derivative financial instruments. It now also relates to spot commodity contracts and auctioned products based on emission allowances.
The behaviours identified in Recital 7 are further described.
Article 8 sets out insider dealing as:
'where a person possesses inside information and uses that information by acquiring or disposing of, for its own account or for the account of a third party, directly or indirectly, financial instruments to which that information relates'.
This includes cancelling or modifying an order in relation to a financial instrument after receiving inside information. The Article also prohibits recommending another person engage in insider trading or inducing another person to engage in insider dealing, but only where the person using such inside information knows or ought to know that the recommendation is based on inside information.
Unlawful disclosure under Article 10 of MAR is simply disclosing inside information to any other person except where made in the normal exercise of employment, a profession or duties.
MAR provides a detailed list of abusive behaviours which amount to market manipulation in Article 12. The list includes activities such as entering into a transaction which gives, or is likely to give, a false misleading signal to the supply or demand for a financial instrument or secures the price of a financial instrument without a legitimate reason. Entering into transactions with the purpose of manipulating the market, disseminating false or misleading information or transmitting false benchmarks are prohibited as is certain specific conduct of individuals.
Who can commit market abuse?
Articles 8(4) of MAR sets out the prohibition on insider dealing, and Article 10(1) making it unlawful to disclose inside information applies to any person who possesses inside information as a result of holding one of a number of identified positions. The list includes being a member of the administrative, management or supervisory body of the issuer, holding capital in the issuer, or having access to the information because of employment or profession. Individuals who hold information they know (or ought to know) to be inside information will also be caught by MAR whether or not they fall in the list of defined positions. The manipulation behaviour prohibited by Article 12 applies to any person.
The drafting of Article 8 and 10 means that the scope of persons subject to the regime is just as broad as under the old regime but with the greater scope that any dealings in emission allowances will also be caught from 3 January 2017 along with certain other instruments. Increasing exposure for institutions too will be the focus of MAR on instruments over markets. For example a foreign fund may find itself subject to MAR by having dealings in an instrument traded on a single European OTF.
Criminal Market Abuse
Part 5 of the Criminal Justice Act 1993 (CJA) makes it a criminal offence to engage in market abuse behaviour although only natural persons may be prosecuted. The CJA makes it an offence for an insider to:
- deal in price-affected securities when in possession of inside information
- encourage another to deal in price-affected securities when in possession of inside information
- disclose inside information other than when in the proper performance of their employment, office or profession.
A person has inside information when they hold the information, know they hold it, they know that it is inside information and know that it has come from an inside source. An inside source can be a director, an employee or shareholder of an issuer of securities or someone who has access to the information by virtue of their employment, office or profession.
FSMA gives the FCA powers to investigate and prosecute insider dealing. Since 2009 the FCA and its predecessor the Financial Services Authority have secured 28 convictions in relation to insider dealing.
The investigation into and subsequent trial of a sophisticated insider dealing ring reads like a script for the latest Hollywood blockbuster. This was the FCA's largest and most complex investigation to date and resulted in the conviction of five men for insider trading under the pre-MAR regime.
Working in partnership with the National Crime Agency and pulling in forensic accountants, market experts, intelligence analysts, lawyers and more, the investigation reviewed offending which took place over a number of years.
The two headline convictions in this case were of Martyn Dodgson a senior investment banker, and Andrew Hind a chartered accountant, who received 4.5 years and 3.5 years imprisonment respectively. Dodgson's sentence is the longest ever handed down for insider dealing.
The two men acted in concert with others in positions to contribute information or put up the money to make trades. Dodgson's career had taken him to Morgan Stanley, Lehman Brothers and Deutsche Bank. Using encrypted devices, burner phones and codenames the defendants in the case attempted to disguise their activities. Putting into play state of the art technology, surveillance teams and radio microphone 'bugs' the FCA ran up investigation costs of £20 million. The message sent by the FCA to the industry is unequivocal - they will pursue investigations despite their time consuming and expensive nature to secure convictions for insider dealing.
[For a fascinating piece of journalism covering this sensationalist case, we recommend this Bloomberg article]
Fine and Ban
But what of smaller scale cases not involving espionage-style criminality?
In May 2016 Mark Taylor, a financial adviser at Towry Limited, was fined over £26,000 and banned from financial services practice for two years for market abuse. On the back of information he received at work which had not been made public, Taylor bought shares in a listed company.
The information went public later that day and the share price shot up. Taylor then sold his shares and made a profit of around £3,500. On fearing he might be guilty of insider dealing, Taylor later contacted his broker to ask if the transaction could be reversed, but the broker declined and reported Taylor to the FCA. As a result of the trade, not only did Taylor lose his employment but initially faced a fine of nearly £80,000.
This case demonstrates that even professionals not placing trades as part of their day to day duties are capable and at risk of crossing the line between acceptable conduct and behaviour amounting to market abuse or insider dealing.
So what can you do?
Does your organisation have a policy on handling sensitive information? Do all your staff understand the need to treat commercial information carefully, especially where it is identified as being inside information? Do you have adequate controls in place and compliance oversight across your business? These are all key high level points for review but individuals understanding what inside information looks like and what behaviour constitutes market abuse are perhaps the most effective ways of mitigating risk to your organisation.