Mathew Rutter reports
The Market Abuse Directive (MAD) is designed to create a new pan-European framework for combating insider dealing and market manipulation. MAD is a key element in the European Financial Services Plan, a package of 42 measures aimed at harmonising Europe’s financial markets.
Member states are now preparing to implement MAD, including the so-called ‘level 2’ measures – more detailed provisions agreed at a European level. However, it seems inevitable that a number of states, including the UK, will fail to implement MAD by the required deadline of 12 October this year.
The UK has a head start as its existing market abuse regime anticipated a number of the requirements of MAD. There will, however, be a number of significant changes. HM Treasury and the Financial Services Authority (FSA) recently published a joint consultation paper setting out proposals for the implementation of MAD in the UK.
The period for responses to the Treasury/FSA consultation paper closes on 10 September, and they hope to finalise the new provisions by the end of November. Firms will then have three months before the new rules come into effect, so it seems unlikely that the new regime will come into force in the UK before March 2005.
A tougher regime
The UK intends to retain the breadth of the current UK regime where it goes beyond the requirements of MAD. Existing criminal laws against insider dealing will also be retained on top of the civil market abuse regime, even though it has proved very difficult to bring a successful prosecution for insider dealing.
MAD prohibits any person who possesses inside information from using that information “by acquiring or disposing of… either directly or indirectly, financial instruments to which that information relates”.
Information is considered inside information if it is precise, it has not been made public, and if it would be likely to have a significant effect on the price of listed shares or other financial instruments if it were made public. It must be specific enough to enable a conclusion to be drawn on the possible effect on the price of the shares or other instrument.
Accepted market practices
MAD strongly echoes the existing UK regime, in that the market manipulation provisions are aimed at trading that gives misleading or false impressions to the market, abusive squeezes and corners, and dissemination of false or misleading information to the market.
A safe harbour is provided if a person can prove that their reasons for engaging in the behaviour were legitimate and that the transactions conformed to “accepted market practices on the regulated market concerned”.
Member states are required to ensure that new or emerging market practices are not assumed to be unacceptable simply because they are new, overcoming concerns that innovative practices would fall outside the safe harbour simply because no accepted market practice had yet evolved. Regulators are also required to consult relevant bodies when considering whether to accept or continue to accept a particular market practice, which might help to ensure that in practice, the concept of ‘accepted market practice’ is close to the ‘regular user’ concept currently employed in the UK.
The FSA will not produce a list of accepted market practices, although greater clarity might result from discussions led by the Committee of European Securities Regulators on what member states should regard as accepted market practices. The FSA’s Code of Market Conduct will contain a non-exhaustive list of factors that the FSA will take into account in determining whether a market practice should be accepted.
Compliance with the London Metal Exchange’s paper ‘Market Aberrations: the Way Forward’ will constitute accepted market practice in that market.
Disclosure of inside information
MAD includes provisions requiring disclosure of inside information to the market, while Level 2 measures set out the circumstances in which issuers might delay such disclosure to protect their legitimate interests. These requirements will be reflected in a new Chapter 9A of the Listing Rules, which for the first time will include guidance to help issuers and their advisers interpret the new rules. This will replace the Price Sensitive Information Guide and parts of the Continuing Obligations Guide.
Often the most problematic aspect of the disclosure obligation is knowing when an issuer is permitted to not make a disclosure. New rule 9A.7 implements Article 6(2) of MAD, and provides that an issuer may delay disclosure so as not to prejudice its legitimate interests, provided that: the delay would not be likely to mislead the public; that anyone who does have the information owes a duty of confidentiality; and that the issuer is able to ensure that the information remains confidential until an announcement is made.
The issuer may delay the announcement of impending developments that could be jeopardised by premature disclosure, although, as is already common, issuers should have a holding announcement ready to be issued if the price of the relevant financial instrument moves significantly or news of the impending development leaks out. Any decision to delay disclosure is always made at the issuer’s risk.
Lists of insiders
MAD requires issuers to establish a list of persons who have access to inside information, including their employees and advisers. The list must be regularly updated and supplied to the relevant regulator on request.
Disclosure of transactions
The directive requires members of an issuer’s management and, where applicable, their close associates, to notify transactions by them in the issuer’s shares or related instruments. Each notification has to be made public. “Persons closely associated” include a manager’s spouse, dependent children, and others sharing the same household as the manager.
During consultation, concerns were expressed that these requirements are unclear, especially when it comes to definitions such as a “person discharging managerial responsibilities within an issuer”. The FSA’s proposed amendments to the Listing Rules simply adopt the same wording.
MAD requires member states to ensure that there is appropriate regulation of persons producing or disseminating research. Those who produce or disseminate recommendations in the course of their business must ensure that issues are fairly presented and that conflicts of interest disclosed.
The research must identify the producer of the recommendation, the standards for the fair presentation of recommendations and the general standard for disclosure of interests and conflicts of interest.
In the UK, FSA-authorised firms will be subject to the FSA’s rules on the production and dissemination of investment research. However, others who produce or disseminate research are required by MAD to be regulated even if they are not covered by the FSA’s rules. People, such as journalists, who are subject to the self-regulatory codes issued by the Press Complaints Commission, the Radio Authority, the BBC and the Independent Television Commission will have to comply with the requirements of those codes, and their written publications will be required to refer to the relevant code.
Those not subject to the FSA’s rules or one of these codes will be regulated under the Investment Recommendation Regulations, which will be enforceable by a private person who suffers loss as a result of any breach.
Notification of suspicious transactions
One requirement that has so far generated relatively little comment is the obligation on anyone professionally arranging transactions in financial instruments to report to the relevant authorities any transaction that they reasonably suspect might constitute insider dealing or market manipulation. They must also not tell the person on whose behalf the transaction was carried out that such a report has been made. There is an express provision that any such notification will not constitute a breach of any restriction of disclosure of information imposed by any contract or legislative provision.
The FSA proposes a new section in its Supervision Manual SUP 15.9 setting out the obligations on investment firms and credit institutions to report suspicious transactions. Reasons will have to be given as to why the firm believes that a transaction might constitute market abuse – the FSA does not want to be swamped by defensive reporting by firms.
Investment banks and brokers will need to have systems in place to ensure that they fulfil this requirement and that they understand the circumstances in which it arises. They will also need to train their staff to identify suspicious transactions and to understand the firm’s reporting procedures.
Mathew Rutter is a member of the Norton Rose financial services group