How do you follow an act like Manipulating Transactions from our last post of this series? Especially when Manipulating Devices can be considered an extension of the latter? A tough one, but definitely worth a read, particularly as we continue to use interesting market abuse jargon like “pump and dump” or “trash and cash” and see some more examples of foul behaviour.
First, the rules though: The Financial Services and Markets Act 2000 defines the fifth market abuse offence as where the behaviour consists of effecting transactions or orders to trade which employ fictitious devices or any other form of deception or contrivance. This is reflected in the FCA Handbook under MAR 1.7.1 and amended by the Recognised Auction Platforms Regulations 2011 adding “bids”, thus extending the scope of the offence further.
Further down in the same section of the Handbook, the FCA describes behaviour that amounts to market abuse through manipulating devices:
(1) taking advantage of occasional or regular access to the traditional or electronic media by voicing an opinion about a qualifying investment (or indirectly about its issuer, if applicable) while having previously taken positions on, or submitted bids in relation to, that qualifying investment and profiting subsequently from the impact of the opinions voiced on the price of that instrument, without having simultaneously disclosed that conflict of interest to the public in a proper and effective way;
(2) a transaction or series of transactions that are designed to conceal the ownership of a qualifying investment, so that disclosure requirements are circumvented by the holding of the qualifying investment in the name of a colluding party, such that disclosures are misleading in respect of the true underlying holding. These transactions are often structured so that market risk remains with the seller. This does not include nominee holdings;
(3) pump and dump – that is, taking a long position in a qualifying investment and then disseminating misleading positive information about the qualifying investment with a view to increasing its price;
(4) trash and cash – that is, taking a short position in a qualifying investment and then disseminating misleading negative information about the qualifying investment, with a view to driving down its price.
The FCA also provide guidance in the form of factors that should be taken into account in determining whether or not a fictitious device or other form of deception or contrivance has been used, and are indications that it has:
(1) if orders to trade given, bids submitted or transactions undertaken in qualifying investments by persons are preceded or followed by dissemination of false or misleading information by the same persons or persons linked to them;
(2) if orders to trade are given, bids submitted or transactions are undertaken in qualifying investments by persons before or after the same persons or persons linked to them produce or disseminate research or investment recommendations which are erroneous or biased or demonstrably influenced by material interest.
The FCA’s predecessor, the Financial Services Authority (FSA), had issued some useful guidance on how stake building could involve the market abuse offence of manipulating devices (see here). While stake building itself isn’t abusive in the opinion of the FSA, the regulator uses the example of several participants acquiring shares independently in order to avoid any market disclosures to demonstrate how such behaviour might be considered market manipulation under MAR 1.7.
The FSA also produced a good example for the offence: Buying shares and then spreading misleading information with a view to increasing the price. This could give investors a false impression of the price of a share and lead them to make the wrong investment decisions.
Generally, since it isn’t easy to build a case on misleading statement like unfounded rumours, unless you have, for example, a nice e-mail trail, but let’s have a look at some of the cases:
– The Wolf of Wall Street
No, we haven’t turned into a movie critic, but the Wolf of Wall Street is a key example for “pump and dump” fraud schemes. Jordan Belfort and others ran Stratton Oakmond, a firm that on several occasions involved artificially inflating the price of owned stocks through false and misleading positive statements, so that they could sell the cheaply purchased stock at a higher price. Martin Scorsese and Leonardo DiCaprio made a rather interesting movie out of the story, but if you rather indulge in the regulatory history, here is a good starting point: http://www.finra.org/newsroom/1996/nasd-regulation-expels-stratton-oakmont-principals-also-barred
– Crown Corporation/Langbar International
Started as Crown Corporation, Langbar was the biggest pump and dump fraud on the Alternative Investment Market, part of the London Stock Exchange. The company was at one point valued greater than $1 billion, based on supposed bank deposits in Brazil, which did not exist. Only Stuart Pearson has been sentenced to 12 months in jail and banned from being a company director for five years, though some believe he was only a scapegoat, while none of the chief conspirators were convicted.
– Stock promoters and conspirators indicted for $290 million “Pump and Dump” stock fraud scheme
Three stock promoters and five co-conspirators were indicted by the Manhattan DA for participating in stock market manipulation schemes, commonly referred to as “pump-and-dump” schemes, in which thousands of investors in penny stocks were defrauded of approximately $290 million. The defendants are charged in an 85-count indictment in New York State Supreme Court with Criminal Possession of Stolen Property in the First and Second Degrees, Grand Larceny in the Second, Third, and Fourth Degrees, Scheme to Defraud in the First Degree, and Securities Fraud. Read more on the case here: http://manhattanda.org/press-release/da-vance-stock-promoters-and-co-conspirators-indicted-290-million-%E2%80%9Cpump-and-dump%E2%80%9D-stoc
– Penny stock promoter Allen Wolfson convicted in “pump and dump” case
Wolfson, a penny stock promoter, artificially inflated the prices of certain thinly-traded securities in which he had amassed a substantial interest, and then unloaded those holdings on unsuspecting investors. Of particular relevance to Wolfson’s conviction, the scheme relied on corrupt stock brokers who sold the securities for prices far above their actual value. In exchange, Wolfson rewarded the brokers with exorbitant commissions. Some of the brokers failed to disclose the fact of the commissions to their customers. Others made affirmative misrepresentations about the size of these commissions. Wolfson appealed against his convictions, but was rejected and you can find the case here: https://www.gpo.gov/fdsys/pkg/USCOURTS-ca2-10-02878/pdf/USCOURTS-ca2-10-02878-0.pdf
Further cases of Market Abuse in the form of Manipulating Devices include the rumours surrounding HBOS during the financial crisis when the FSA launched an investigation that didn’t turn out any results or the takeover of Bear Stearns in March 2008, when reports swirled that short sellers were spreading rumors to drive down Bear Stearns’ share price.
For more examples, have a look at the FCA’s Market Abuse Outcome page, where the FCA continues to publish information about action it has taken against market abuse and other related conduct: http://www.fca.org.uk/firms/markets/market-abuse/outcomes
If you’ve missed the previous posts of this series or for more information on everything about Market Abuse, have a look here.
Follow our series on the 7 deadly sins of Market Abuse in the next article on “Dissemination”.