FSA Enforcement Director Speaks On Insider Trading

by Philip Morton, Investors Offshore.com

05 October 2007

The UK Financial Services Authority's Director of Enforcement, Margaret Cole on Thursday delivered a speech to the American Bar Association
on the UK's perspective on white-collar crime.

She observed that:

"Earlier this year there was much press coverage of a report on the relative merits of New York and London as destinations for mobile capital. We at the FSA were obviously pleased to see that one of the positive factors in favour of London was a perception that the UK regulatory system was proportionate and sensible. This is sometimes wrongly referred to as "light touch" regulation. That is not how we think of it. Our aim is to ensure that our regulation is risk based. We therefore seek to identify the issues which present the greatest risk to our regulatory objectives - i.e. maintaining market confidence, promoting public awareness of the financial system, securing the appropriate degree of protection for consumers and reducing financial crime - and to focus our regulatory resources on seeking to combat those risks. In doing so our touch will be anything but light and we will bring to bear all of our regulatory tools including, but not limited to, Enforcement. Today's talk focuses on one of those issues - insider dealing."

"Both New York and London are, of course, thriving financial centres. This is to the benefit of all of us. Listing shares helps companies to grow, innovate and develop by providing funds and spreading risk. It also provides us with the opportunity, whether as individuals or through pension funds or other investments to become part owners of companies thus enabling us to share in the rewards of success but, at the same time, to take our fair share of the risks. As recent events have again reminded us markets can go down as well as up."

The FSA official continued:

"I think it is fair to say that both London and New York are seen as clean markets. There are rules in place to ensure fair dealing - controlling how and when companies must make disclosures to the market and how, where they have information which may affect the price of their securities which is not yet public, they must control that."

"These rules are there to control how inside information is used and prevent abuse. They are not mere formalities. Failures to comply are serious. While we may not be at US levels of sentencing, in the AIT case Messrs Rigby and Bailey were sentenced in December 2005 to 9 months' and 18 months' imprisonment respectively for making false and misleading statements to the market. This is in addition to administrative penalties we have imposed on many companies and individuals. One of the largest was on Shell which was fined a total of 17 million pounds by the FSA and 70 million US dollars by the SEC. So regulators, investors and well managed companies all take these obligations very seriously."

"Despite this, however, in London, New York and elsewhere we still see insider dealing happening on the markets. It is not possible to quantify exactly how much but the FSA as part of its drive towards openness and transparency and driven by our desire to be able to assess the impact of regulatory action on the market has recently published its second market cleanliness report. While this shows a downwards trend from the first report it still identifies share price movements ahead of nearly 24% of takeover announcements in 2005. And a recent report suggests high levels of suspicious trading in other major markets."

"The FSA takes this very seriously indeed. We do see market abuse - of which insider dealing is the highest profile aspect - as posing a risk to our statutory objectives. It is a financial crime - it may not attract the immediate moral outrage of a violent crime against a person but it is, in our view, and that of the UK government, a serious white collar crime with potential sentences of up to 7 years imprisonment."

Ms Cole went on to suggest that:

"It also impacts on market confidence. Prices should reflect supply and demand based on the best possible information being available to all. If some have more information than others the use of skill and judgement will be overridden by those who are engaged in criminal activity – by those who are "cheating". Insider dealing also distorts the relationship between risk and reward. The insider dealer takes no risk - he places a one way bet. He contributes nothing to the company but is simply parasitic on the investments and efforts of others. His unfair exploitation of information he may well be entitled to have but not to use gives him an unfair advantage over the honest investor."

She told the ABA audience that the FSA believes that prevention is better than cure, and to this end has made it clear to market participants that it expects proper conduct, including:

• Appropriate and effective systems and controls in form of robust internal procedures;
• An insider list that is short as possible and based on need-to-know;
• A willingness to undertake a thorough internal review following a leak;
• Effective and targeted training of staff including support staff;
• Monitoring of staff personal account dealing;
• Robust controls when dealing with third parties;
• Effective information technology controls; and
• An awareness of the limitation of code words as an effective tool to keep information confidential, especially if used in isolation.

She explained that:

"We also use information from market participants to identify potential transactions of concern. Firms are required to provide suspicious transaction reports to the FSA - some 95% of these relate to potential insider dealing. We cannot overestimate the importance of these reports and the role of market participants in detecting and preventing market abuse. We do not see this as the job of the FSA alone - full engagement by the industry is key to helping us achieve our objectives."

"Where prevention does not work we are mainly focussing our efforts on our key priorities. These are; insider dealing by City or business professionals who abuse positions of trust by misusing information legitimately passed to them for them to perform their jobs for example, lawyers, accountants, brokers and so on; repeat offenders - where we suspect systematic trading on inside information; and cases where there is significant profit made or loss avoided. We feel these cases pose the biggest risk to our objectives. We keep both our strategy and priorities under regular review."

In conclusion, the FSA enforcement chief stated that:

"We do have advantages over the US - the wide range of powers I have already mentioned, the fact that we can bring prosecutions ourselves (unlike the DoJ/SEC split in the US), our ability to use our rules and Principles against approved or authorised persons. What we do not yet have, however, is the experience of bringing cases that the SEC has built up since its foundation in 1934. We are seeking to speed up our progress by learning from our older cousin but, in comparative terms, we are a relatively "young" regulator and it will be some time before there is an established body of case law for us to draw on. This adds to the complexity and uncertainty in bringing cases - whether before the criminal courts or before the Tribunal - but the only way that will change is by taking more cases and we intend to do just that."

"We also, currently at least, lack the ability to plea bargain which the Americans have used to great effect. This, and the ability to enter into immunity agreements with witnesses in return for hard evidence, are areas which are under very active consideration as we believe the ability to gather sound evidence in this way may be a key to unlocking a number of difficulties, particularly in cases of systematic misuse of information by so-called "rings"."

"In the shorter term, however, we think there is much we can do to enable us to be more efficient and effective in the way we identify potential instances of insider dealing and, in particular, using what may be seen as more aggressive investigative techniques e.g. early interviews, to eliminate innocent timely trading promptly and enable us to focus our resources on the right cases."

"In conclusion, in a recent review of the UK's approach to insider dealing , Decherts commented that the FSA were beginning to "think tough" on insider dealing but questioned whether those thoughts would turn to deeds. My message to you today, is that yes, they will."

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