Attributes of EU Legislation on Market Abuse
Overview of Market Abuse Offence
Market abuse is among the elements that the EU legislation regulates. Under the law, market abuse is divided into aspects including market manipulation. It is the mandate of the EU legislation to ensure that the markets are stable and the investor’s confidence is maintained. Market manipulation entails the making statements or deliberate acts meant to pass misleading information about particular issuers of securities or abnormal behaviour that disrupts the normal functioning of the market, causing abnormal rise in prices. On the other hand, insider dealing depicts problems in corporate governance and inefficient markets (Alexander 2013, p.407)
Both market manipulation and insider dealing have been identified as criminal offences in the European Economic Area (EEA) countries. In addition, the European Union Directive recommends that the members treat insider dealing together with market manipulation as market abuse offence (Alexander 2013, p.407). The regulations for insider dealing have been around for a long time, only that the focus of their implementers was different. In the past, the UK law aimed at preventing shareholders from using confidential information of an organization to their advantage at the expense of other shareholders and the company (Alexander 2013, p.408).
On the other hand, market manipulation regulations were geared towards stopping leading practices and statements regarding issuers of securities to distort markets. At the time, the criminal law was the main tool for dealing with market manipulation and insider dealing. Recently, policy markets have noticed that the two aspects of market abuse, can affect the proper functioning of capital markets. The EU and its individual members have then adopted the regulations of market abuse. But, unlike the past regulations for market abuse, the EU legislation aims not only on preventing shareholders from taking advantage of their counterparts but also to make sure the market practices are transparent and that there is fair dealing (Alexander 2007, pp.7-11).
Examples of Legal Cases Related to Market Abuse
In 2007, a year before the financial crisis of 2008, Fortis Bank, Royal Bank of Scotland and Banco Santander, together got control over the ABN AMRO Bank. It was the most hostile takeover to happen ever, in the financial services sector. Fortis Bank did not have adequate funds to meet its part of the deal and so, the bank decided to access the capital markets by offering new shares. The sale of shares was advertised but the collections did not manage to better the financial situation of the bank. But, before it collapsed, the governments of the Netherlands, Luxembourg and Belgium, intervened and sold part of the bank. The dismantling of the Fortis Bank was not done according to the regulations of the European Union (Luchtman and Vervaele 2014, p.195).
Owing to the financial crisis, which prevailed at the time, there were doubts about the financial health of the Fortis Bank. Hence, the information was relayed to the shareholders and the public. The legislation on market manipulation and market abuse is integral to the strict European legislation. Therefore, the three countries had committed an offence as per the legislation of financial markets. In the Netherlands and Belgium, investigations were carried out on the Fortis Bank case. However, nothing was done in Luxembourg even if it is an EU member (Luchtman and Vervaele 2014, p.196).
Nevertheless, in 2012, Dutch Financial Services Authority finalized the proceedings concerning the Fortis Bank case and imposed a fine of 144000 pounds on each of the involved parties. The two legal persons of Fortis Bank were found guilty of market manipulation on two accounts. First, after the takeover ABN AMRO and the CEO of Fortis Bank called for a press conference, where they lied about Fortis being financially stable. This was misleading to interested investors (Luchtman and Vervaele 2014, p.196).
Secondly, the European Commission advised Fortis Bank to sell some of its parts. But, the bank did not provide clear financial information about itself. In doing so, the bank manipulated the trading of its shares on the Forex market (Luchtman and Vervaele 2014, p.196).
In Belgium, the Fortis Bank case was decided on, differently. The Financial Services and Market Authority in Belgium found that the bank had provided misleading information. Hence, they imposed a fine of 500000 pounds on the bank, fines ranging from 250000 and 500000 pounds on the 3 CEOs. Later, the fines for the CEOs were standardized to 400000 pounds (Luchtman and Vervaele 2014, p.196).
In 2013, the judicial section in Belgium prosecuted seven of the former CEOs, for market abuse, misleading information, deception and forgery of documents. However, the owner of the bank Paribas Fortis was not prosecuted. Unlike in Dutch, Belgium took both criminal and administrative actions on the CEOs of the banks (Luchtman and Vervaele 2014, p.197).
The London Interbank Offered Rate is the standard interest rate, which banks in London should be charged when they borrow from other banks. It has been calculated in about 10 currencies including Euro and USD. Actually, more than 20 top banks take part in Libor panels. Euribor is used to refer to the Euro Interbank Offered Rate. A group of 40 to 50 banks in the European Union region sets the Euribor rates. Euribor and Libor rates are daily as reference rates for consumer lending products, futures, mortgages, swaps, options and other financial instruments. Hence, the two rates have significant impacts on financial markets and consumers (Luchtman and Vervaele 2014, p.197).
In 2012, it was found out that the Libor panels had been manipulating interest rates from 1991, so that to raise bank profits. This was followed by running of multiple investigations and proceedings on banks within the European countries and in the US. The banks had to deal with damages from civil claims as well as administrative actions from the enforcement agencies. Barclays Bank with headquarters in London was among the leading banks participating in Euribor and Libor panels (Luchtman and Vervaele 2014, p.197).
Between the 2007 and 2009, some of the swap traders in Barclays requested for the issuers of Libor and Euribor to forward contributions, which would help the trading positions of the traders. This was against the guidelines of Libor and Euribor. The requests included a certain Libor, a Euribor contribution for a certain currency or a lower rate. The swaps traders made these requests on phone, through electronic messages or face-to-face conversation (Luchtman and Vervaele 2014, p.198).
In 2012, the Barclays Bank agreed with the claims of Euribor and Libor rate submissions by the US Department of Justice. They were to pay a fine of 160 million dollars, in order to be exempted from criminal prosecution. This applied to the bank only but not to individual employees. In addition, in the same year the bank was fined 200 million dollars by the Commodity Futures Trading Commission in USA. On the other hand, the Financial Services Authority in the UK fined the bank 59.5 million Euros. The Serious Fraud Office was not left behind; it decided to begin investigations into the scandal on both the bank and its CEOs (Luchtman and Vervaele 2014, p.198)
EU Legislation on Market Manipulation and Use of Inside Information
To begin with, the EU legislation No. 596/2014 Chapter 1 Article 4 emphasizes that for a market to be efficient, transparent and integrated market integrity is paramount. Proper functioning of the markets is integral to the growth and health of the economy. Market abuse leads to lack of integrity in the markets while reducing the confidence of investors in securities and other financial instruments. According to Alexander (2013, pp.422-423), the Directive 2003/6/EC, had outlined strategies for guarding market integrity.
However, after the implementation of the EU Directive, technological, market and legislative developments came up (Alexander 2007, p.244). Hence, it was important to update or change the directive. A new legal tool, the EU legislation was needed to bring uniformity in the rules and to provide clarification of key concepts. Under the EU, market abuse is classified as market manipulation and insider dealing (Craig and Burca 2011, pp.790-791). Such misconduct prevents transparency in market; a requirement for trading in integrated financial markets (European Union 2014).
The Directive 2003/06/EC, focus was on financial instruments being traded in a regulated market. But, in recent times, financial instruments are being dealt on multilateral trading facilities. Others are traded on organized trading facilities whereas some are traded over the counter. But, the EU regulation takes into account all the financial instruments regardless of where they are traded. Furthermore, the regulation includes financial products, which organisations or individuals have made application for admission. This will adequately protect the investors, maintain market integrity and to prohibit market abuse (Haentjens and Gioia-Carabellese 2015, p.44).
To ensure transparency, the EU traders in multilateral trading facilities or organised trading facilities, should forward particulars of the financial products they have admitted to the relevant authority. Furthermore, if they cease trading the admitted financial instruments, a notification should be made. They should submit the notifications to the European Securities and Markets Authority (ESMA). It is the responsibility of ESMA to publish all the notified financial instruments (Haentjens and Gioia-Carabellese 2015, p.44).
The regulation also includes inside information concerning a bond or share, which may affect other financial products, traded on a particular trading venue. In addition, a certain financial instrument might be used to gain from manipulated prices. Furthermore, there are new kinds of securities, which may not be covered by this legislation. However, when those securities are traded, they might affect the value or price of the listed securities, which are covered by the regulation. The EU legislation takes into account of all these scenarios, to ensure there is market integrity (Wolters 2005, pp.8-9).
However, the regulation does have exemptions for example; it is legitimate to deal in securities or other related financial instruments, to stabilize the securities, or to trade in one’s shares in buy-back forums for economic purposes. However, the regulation will only exempt such activities if they are conducted within the required transparency and that the information about the buy-back programme or the stabilisation is disclosed (Ratliff and Grasso 2016, p.10).
The regulation also allows Member states, Central Banks in EU, government agencies, ministries or other special purpose bodies working for the government, to make exchange-rate, public debt management policy and monetary, as long as they do it in public interest (Ratliff and Grasso 2016, p.10).
EU Legislation on Insider Dealing
The most important aspect of insider dealing involves a situation where through inside information, an unfair advantage is obtained at the expense of third parties. This in turn distorts the market integrity and it ruins the investor confidence. Hence, a state or an individual, will only be prosecuted for insider dealing, if they are in possession of an inside information and they have used it to their benefit by engaging in market transactions. They might attempt to amend, cancel, or dispose of an order for their own gain or that of a third party. In addition, using inside information illegitimately can involve trading in emission allowances together with their derivatives or bidding in auctions of the products, which are listed under the EU Regulation No.1031/2010 (Haentjens and Gioia-Carabellese 2015, p.45).
If a natural person can reach inside information and they attempt to get or to dispose financial instruments for their own account or a third party, it should be assumed that the person used the information. This is geared towards maintaining financial market integrity and in improving investors’ confidence. But, if there are orders, which the person got before they obtained the inside information, they should not be regarded as insider dealing. But, if the person accesses inside information and they make changes on the earlier orders placed on them, the competent authority should consider the act as insider dealing. But, if the person is able to proof that they did not use the confidential information acquired they can be excused (Haentjens and Gioia-Carabellese 2015, 45).
The EU legislation on market abuse leaves to the discretion of relevant authorities, the decision on what a reasonable or normal person should know or might have known in the prevailing circumstances. But, what constitutes the insider information. It is any information, which is regarded as confidential by an organization. Besides, it is also any information, which if used can disrupt the trading of certain financial instruments. Nevertheless, estimates and research data, is not part of the inside information. Therefore, where a market transaction is effected after use of research information, it should not be treated as insider dealing. But, if the market expects a certain publication and it have the tendency of affecting the prices of various financial instruments, it can be considered as part of inside information (Weishaar 2014, p.126).
It is the responsibility of the market players to differentiate public information from insider information. The legislation does outline a few guidelines for the relevant enforcement agencies to use in such situations. They need to identify legitimate market behaviour. For instance, they can start by understanding the responsibilities of market makers, when they are trying to provide market liquidity (Campbell 2009, p.17)
Market makers are authorised to act as middle parties for selling or buying financial instruments as well as executing orders with inside information for third parties. However, they should not be regarded as using inside information. But, this exception does not encourage other market misconduct such as front running. Furthermore, since the disposal or acquisition of financial instruments calls for one to make prior decision, such may not be considered as insider dealing. But, the protection should only be rendered if the legal or natural person conducted themselves professionally and that they ensured investor protection and market integrity. Market soundings or interactions that are conducted between a financial instruments’ trader and potential investors, before the disclosure of the transaction, is not part of inside information. On the contrary, it is important in gauging the interest of investors (Campbell 2009, p.18).
So, when is inside information said to be disclosed legitimately? The EU legislation on market abuse, states that only when the inside information is shared when one is transacting or as part of one’s profession, is it legitimate. For example, if a market sounding requires the provision of inside information, the person who rendered the information will be deemed acting with the course of their duty. However, the person must disclose all the parties, they have shared the inside information with (European Lawyer Reference Series 2011, pp.179-180).
On the other hand, potential investors who are given the information are required by the regulation to assess it and decide if it is inside information. They should then, cease using it in the transactions and refrain from sharing it further. ESMA should provide guidelines to potential investors, on how to scrutinize the provided information, to avoid contravening the regulation (Ferrarini 1998, p.161).
EU Legislation on Market Manipulation
Article 12(1) of the EU Regulation states that market manipulation should include a number of activities. It means engaging in a transaction, trade or placing an order or any other conduct, which gives or could give misleading information concerning the demand, supply or price of a financial products or even an auctioned product. Secondly, it might mean getting into a transaction, which obtains the price of the product or commodity in an abnormal manner. But, one can be exempted from the punitive and non-punitive measures, if they can prove they conformed to the expected market practice (European Union 2014).
Certain behaviours such as where a person tries or obtains a dominant position in the demand or supply of a financial product, is automatically considered as market manipulation. Timing for the closing or opening of financial markets to sell or buy financial instruments, is termed by the regulation to be misleading to investors. In addition, manipulating orders such that other people are not able to access them is part of market abuse. The regulation also includes giving opinions on electronic or conventional media, about a financial instrument, which a person prefers to be a form of market manipulation. Selling or buying emission allowances available on secondary market before an auction, is also a market abuse offence (Soderstrom 2011, pp.15-19).
At Article13 (1) of the EU legislation outlines the acceptable market practices. A market transaction will only be considered good market practice, if it ensures market transparency. Secondly, whether has been conducted within the appropriate reaction of the forces of demand and supply. In addition, if it has a positive effect on market efficiency and liquidity. Does the transaction allow other market participants to react to it appropriately and on time? A market transaction will also be considered as accepted market practice, if it does not put market integrity into risk. But, the regulation states that accepted market practices will vary among the member states depending on their individual competent authorities (European Union 2014).
After defining market manipulation and insider dealing, the EU legislation goes further to prohibit the 2 market abuse offences in Articles 15 and 14 respectively. Article 16 offers provisions on best ways to deal with the detection and prevention of market abuse. Market operators, other professionals as well as investor firms are charged with the responsibility of developing strategies for market abuse prevention and detection (Campbell 2009, p.18).
Article 17 in Chapter 3 of the EU Regulation, provides clear guidelines on how to disclose confidential information of an organisation to the public. The information should be disclosed in an accessible platform but it should not include any form of marketing. But, an organisation may be exempted from disclosing their inside information if in doing so, they will risk their financial stability. In addition, if it is important for the public to postpone disclosing the information (Moloney 2014, p.769).
In Article 18, the Regulation emphasizes on the need to make insider lists. These are the persons who can access or know the inside information. They can be people who are employed by the organisation in contractual terms or external parties such as credit rating professionals, accountants and other agencies. The list should be updated should more people such as potential investors are provided with the inside information. The insider list should also be forwarded to the competent authority, if it is requested (Empel 2008, 139).
Article 18(2) states that issuers are responsible for entering persons in the insider lists into legal agreement and informing them of the sanctions and legal actions, which can follow upon involvement in insider dealing. To prevent organisations from being held liable for market abuse offences committed by managers, Article 19, gives guidelines on how management should handle their transactions including informing the organisation and the competent authority. The regulation also takes care of offences, which may be committed by persons who provide recommendations and statistics for investors, to ensure that they do it responsibly in Article 20. Article 21 on the other hand, guards against inappropriate dissemination or disclosure of information through media (European Union 2014).
The EU legislation also enlists the competent authorities and their duties. It also outlines their powers. It also emphasize on the need to cooperate with ESMA and third countries (Articles 22, 23, 24). Chapter 5 of the legislation talks about the administrative sanctions and measures, to be taken upon the infringement of the EU Regulation on market abuse. Article 31, deals with the supervisory agents and those placed with the responsibility of imposing sanctions. Infringements should also be reported and information shared with ESMA. Decisions made on various cases, should be published (European Union 2014).
The EU legislation 596/2014 is a comprehensive tool for managing market abuse. The legal instrument offers guidelines for preventing and managing market manipulation and insider dealing. It also confers powers to the relevant authorities in different member states together with the main regulatory body ESMA, to enforce the regulation and supervise the states (Schroder 2012, p.289).
But, considering the Fortis Bank and Libor Rates case, there is no doubt that the integrity and the financial markets stability is still left into the hands of Member States (Ali and Gregoriou, 2008, p.75-76). The level of enforcement of the regulation is dependent on the sovereignty of the states. Hence, while the EU legislation was meant to bring harmony, its enforcement is far from being unified (Chitimira 2015).
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