Enforcing Integrity: The UK's Legal Arsenal Against Market Abuse

The legal concept of market abuse and the twin concept of upholding market integrity are not new as these were prevalent since the 17th century ¹. As a matter of fact, there is a belief that insider dealing was the root cause of demise of the South Sea Company in the 18th century.²

However, what has dramatically changed to the concept of market abuse in the 20th century is that the line between what is acceptable and blameworthy commercial practice has become increasingly blurred ³. First, as a result of the aftermaths of the financial crisis 2007-2008 and the rapid enactment of capital market regulations which it triggered globally. Secondly, because cross-border transactions have continued to dominate the global market and become increasingly sophisticated especially now that we are dealing with times where the emerging technologies such as blockchain, fintech and digital platforms now feature in financings.

The global focus and challenge then have naturally shifted to how to ensure that the instruments that regulate capital market abuse create a robust and effective framework that continues to promote a stable market which is fair and transparent and fosters investor confidence because as it has aptly been commented, "the aim of every market manipulation is to steer the present market price towards positive results for the manipulator i.e. increasing the price before sales and lowering it before acquisitions' ⁴. This is so because manipulations precisely take place in illiquid markets which are not highly regulated and have therefore a very low transparency rules and "the largest asymmetries between manipulators and other market participants ⁵' such that "manipulators can exert particular influence on the amount of information available to the public regarding a certain financial instrument⁶".

A caveat to the analysis which follows is that the criminal aspects of market abuse are beyond its scope and that, the analysis does not address the recent changes which the FSMA 2023 has made to the post-Brexit UK on the one hand (i) by enhancing economic growth and international competitiveness of the United Kingdom through new objectives to the Financial Conduct Authority and the Prudential Regulation Authority (ii) by protecting easy access to cash and, on the other hand, (iii) by introducing a new regime for central counterparties (CCPs) and insurers facing financial difficulties. These recent changes will be addressed under a separate analysis.

UK MARKET ABUSE – KEY DEFINITONS AND ITS CONTEXT

In the United Kingdom, market abuse is a civil⁷ offence but not a criminal offence even though certain offences exist within the FSMA 2000⁸ and the Financial Services Act 2012 (FSA 2012)⁹. It captures activities ranging from insider dealing, unlawful disclosure of inside information to market manipulation. In this regard, the Financial Conduct Authority (FCA), as regulator, has been granted extensive powers to impose 'civil penalties' for market abuse under the FSMA 2000 and to prosecute criminal offences of insider dealing.

The aforesaid activities, when taken as a whole, are detrimental to the maintenance of a fair and transparent financial market which are the essence of market integrity. Indeed, they directly distort market prices, deceive investors who may buy and sell investments at a false price. Ultimately, this undermines the trust which is indispensable to the smooth running of the capital market. An absence of trust deters investments and undermines public interest because it harms the public as a whole and the jurisdiction itself at a higher level. As Hudson puts it, "without a perception of market integrity among the potential investor base for the securities there may not be sufficient capital available to fuel economic growth^10'.

Ryder, Alexander and Linklater have expressed the view that the rationale underpinning market abuse legislation in the United Kingdom was precisely to "enhance market confidence and investor protection by prohibiting any person – not just any insider who owed a duty to corporate issuers not to benefit from the use of inside information – from misusing the information (i.e. legally privileged information), or creating false or misleading impressions in the market, or distorting the market concerning qualified investments traded on prescribed markets or exchanges. By defining the offence in broad terms, the regulatory authority could police the market for behaviour that was not only abusive to particular issuers, but also undermined confidence in the market as a whole¹¹."

In brief therefore, placed in the context of the UK, market abuse regulation is indispensable for an international centre as London because it directly (i) fosters investor confidence, (ii) ensures that the market is transparent and fair as it lays down a framework establishing a level playing field for all market participants. Fairness in particular guarantees that there is a balance in information asymmetries idiosyncratic of market abuse.

THE UK REGULATORY FRAMEWORK & MARKET INTEGRITY

In the UK, the main legislations dealing with market abuse are the Market Abuse Regulation (UK MAR) and the FSMA 2000.

The UK MAR derives directly from the EU MAR which was on-shored into the UK legal regime following Brexit. Thus, the EU MAR¹³, which came into effect on 03 July 2016 was actually incorporated into the UK legal landscape on 31 December 2020 by the European Union (Withdrawal) Act 2018. The net effect of Brexit is that as from 01 January 2021, amendments to the EU MAR will not be automatically integrated into the UK MAR. However, financial instruments will remain subject to the same conditions and protections afforded under the EU MAR effective date 31 December 2020 except for certain technical changes¹⁴.

The UK MAR deals with 'insider dealing and market manipulation' and is focused on the preservation of market integrity which has been described in its Preamble as necessary for "an integrated and efficient financial market" as it is indispensable for "economic growth and job creation ¹⁵'.

The FSMA 2000 and the UK MAR both define the concept of market abuse. On the one hand, the FSMA 2000 defines it as "trading on the basis of inside information, disclosing inside information otherwise than in the proper course of employment, trading which gives misleading or false impressions, trading which uses deception or fictitious devices, the disclosing of information which leads to a misleading or false impression, and behaviour which is likely to distort the market. " On the other hand, Article 7 of the UK MAR defines it as an unlawful behaviour in the financial markets being insider dealing, unlawful disclosure of inside information and market manipulation.

Thus, the UK MAR promotes market integrity by prohibiting insider dealing, unlawful disclosure of inside information and market manipulation through prohibitions and requirements for market participants to implement measures to prevent and detect market abuse. Fundamentally, the UK MAR identifies the accepted practices i.e. those that would otherwise constitute the prohibited behaviours under market abuse provided that they meet specific criteria established by the relevant authority.

At the very elementary level, Article 14 of the UK MAR expressly prohibits a market participant from engaging in insider dealing, recommending and/or inducing someone to engage in insider dealing and unlawful disclosure of inside information. Insider dealing refers to the act of taking unfair advantage of inside information and engaging into market transactions based on the inside information. This directly compromises the integrity of the market and saps investor confidence.

On the other side of the spectrum, the UK MAR also casts an obligation on market participants and investment firms to set up and maintain an efficient framework with measures that will both help identity and prevent market abuse. Amongst others, this means that there is an obligation to complete the Suspicious Transactions and Order Reports to the FCA whenever to report suspicious transactions and orders to the FCA.

In effect, the UK MAR brings market integrity objective in fruition by protecting and enhancing the integrity of the UK financial system which includes (i) its soundness, stability and resilience (ii) it not being used for a purpose connected with financial crime (iii) it not being affected by contraventions by persons of Article 14 (Prohibition of insider dealing and of unlawful disclosure of inside information) or Article 15 (Prohibition of market manipulation) of market abuse.

THE FINANCIAL CONDUCT AUTHORITY

Under section 123 of the FSMA 2000, the FCA is empowered to impose "a penalty of such amount as it considers appropriate" on someone who has engaged in market abuse or who has encouraged another person to do so.

Furthermore, Part 8 of the FSMA 2000 contains a Code of rules which empowers the FCA to impose penalties on persons who use inside information and engage in dealings in the manner contemplated by the FSMA 2000 (Market Abuse Code')¹⁷ which is enabling in nature as it empowers the FCA to impose penalties. In effect, the aim of the market abuse framework of the UK is extend the powers of the FCA and thereby bring under its purview those persons who "act inappropriately but nevertheless outside the ambit of the ordinary criminal law for misfeasance in financial dealings.¹⁸"

Importantly, section 129 of the FSMA 2000 empowers a court to give directions on the nature of the penalty (i.e. a fine) which becomes payable to the FCA where there has been a case of market abuse.

Finally, section 123(1) FSMA 2000 entitles the FCA to impose a penalty to a person when the FCA is satisfied that the person has either "required" or "encouraged" another person to engage in behaviour which would have constituted market abuse had it been performed by the first person.

As mentioned earlier, the offence is consumed by an 'act' which is either by an action or an inaction. For completeness, decisions of the FCA are amenable to challenge before the Market Tribunal.¹⁹

The FSMA 2000 also captures provisions of 'good governance' on the part of the FCA which must publish statements of policy and procedure on its approach to the question of penalties.²⁰

Constitutive Elements of Market Abuse

As stated at the outset, market abuse is only a civil offence under the UK legal regime even though certain specific criminal offences exist under the FSMA 2000 and the FSA 2012. For instance, under the FSMA 2000, it is a criminal offence to mislead the FSA and the Prudential Regulatory Authority and the Competition and Markets Authority by providing misleading statements, misleading impressions and misleading statements/impressions in relation to benchmarks²⁰.

Of importance, the activities must take place in the UK in order that they are unlawful under English law as market abuse.

The UK market abuse framework deals with qualifying investments traded on the London Stock Exchange and other prescribed markets²².

Under the FSMA and the Market Abuse Rulebook MAR I, there are 7 types of behaviour that constitute market abuse namely:

• insider dealing i.e. dealing in a qualifying investment;
• improper disclosure i.e. disclosure of inside information;
• manipulating transactions i.e. causing a false or misleading impression;
• manipulating devices i.e. employing fictitious devices or contrivances i.e. manipulating devices;
• dissemination i.e. the dissemination of information giving a false or misleading impression i.e. dissemination; and
• misleading behaviour and distortion i.e. failure to observe standard of behaviour reasonably expected of a person in that market i.e. misleading behaviour and distortion

The constitutive elements of market abuse are examined below:

Market Manipulation

It involves the giving of a false impression as to the supply or price of instruments e.g. seeking to create a false market for shares by making them appear to be more valuable than what they are in reality.²³

Under section 115 of FSMA 2000, it captures transactions and orders to trade that give false and misleading signals or secure the price of a financial instrument at an artificial level, transactions or orders to trade that employ fictitious devices, and distribution of information likely to give false or misleading signals.

Market abuse is not a criminal offence under FSMA 2000 and a civil regime has been introduced to enforce this provision.

Thus, it comprises the following components:

• "trading on the basis of inside information, disclosing inside information otherwise than in the proper course of employment;
• trading which gives misleading information or false impressions;
• trading which uses deception or fictitious devices;
• the disclosure of information which leads to a misleading or false impression; and
• behaviour which is likely to distort the market;"²⁴

The UK MAR defines the term "inside information" as "information that is precise, non-public and likely to have a significant impact on the price of a financial instrument.^25"

In effect, the behaviour must relate to qualifying investments that are either "admitted to trading on a prescribed market operating in the UK or for which a request for admission to trading on such a prescribed market has been made ²⁶".

Under section 119A(I)(b)(iii) FSMA 2000, 'related investments' in a prescribed market are caught within the scope of the prohibited behaviour which is defined comprehensively for these purposes as 'action or inaction' ²⁷ and therefore captures the scenario where a trader either (i) failed to notify the market of a problem or, (ii) failed to behave in a certain way when he created a reasonable expectation that he would do so.

In relation to the criminal offences under the FSA 2012, the person making the statement or creating the impression (a) must be within the UK and, (b) either the person who is induced must also be within the UK or the intended agreement would have been exercised within the UK.

A market manipulator is entitled to raise defences. Under the FSA 2012, the onus is on him to establish, by bringing sufficient evidence before the FSA as follows:

• the disclosure was protected; and
• he believed that he was not engaging in market abuse and the belief was objectively reasonable. The evidence must be of such a nature that it demonstrates that he took all reasonable precautions and exercised all due care and diligence when engaging in the prohibited act.

Insider Dealing

It is a criminal offence under the Criminal Justice Act 1993 and involves the misuse of 'inside information' when investing in securities.

In effect it amounts to "illegal trading in shares or securities by someone or, at the instigation of someone, with inside knowledge of unpublished business data or information that would affect the price of shares being bought or sold.²⁸"

However, it is not a criminal offence under the FSMA and Market Abuse Rules MAR I under which it denotes "an insider [who] deals or attempts to deal, in a qualifying investment or related investment on the basis of inside information relating to the investment in question". In this regard, the investments that are caught are those that do not need to be "price-affected securities" in relation to the information. There is market abuse when there is a dealing in securities or an attempt to deal in securities. In effect, there is market abuse under MAR I when the scenario is one where there is "dealing on the basis of inside information which is not trading information. ²⁹"

In effect, the term 'trading information" refers to market rumour which is not inside information as it is not restricted to insiders and does not constitute inside information because it is not the type of 'analytical information on which all competent, reasonable traders could be expected to act in any event ³⁰ ".

Further examples of market abuse in this scenario provided by the FSMA and Market Abuse Rules MAR I are set out below:

• front-running by which a person deals in securities ahead of the publication of the information thereby taking an advantage of the 'anticipated impact" of the order of the market place³¹
• in takeovers, an offeror takes a position by which "it provides a merely economic exposure to movements in the price of the target company's shares such as taking a spread bet on that share price or acquiring a cash-settled put option on those shares³²".
• in takeovers, person who acts for the offeror deals for himself with respect to the shares of the target company³³.

It is to be noted that the FCA will not treat a scenario as one of market abuse where the information was available if the transaction occurred before the person had the information. In effect, the acid test which the FCA applies is as follows: if the inside information is either the reason for which the securities were traded or was a material influence on the deal then inside information will be presumed³⁴. In contrast, if we are in a scenario where the information had been retained behind a Chinese wall then again the FCA would not treat a deal as having been made on the basis of inside information³⁶.

Unlawful Disclosure

It refers to the situation by which a person who possesses inside information passes on the information to someone who is not authorised to be in possession of the information.

The mischief which the FCA as regulator aims to catch is the fact that access to inside information places the person who holds the inside information at a position of unfair advantage in the securities market.

CONCLUSION

Clearly, the United Kingdom has attempted to implement a tough enforcement approach to the concept of market abuse and insider dealing as market integrity is non-negotiable if the jurisdiction is to remain an international jurisdiction of choice. Yet the challenges to prevent and detect market abuse remain as the capital market becomes increasingly sophisticated.

Whilst it is conceded that there is no one-size fits it all formula to ensure that a legal framework has the catch-all provisions on market abuse, it is a fact that empirical knowledge will be key to help shape the future of regulation of the UK capital market.

Indeed, one of the possible explanations for the low level of criminal actions in the UK can be explained by the fact that a successful prosecution rests on a high standard of proof as threshold i.e. beyond reasonable doubt as opposed to civil penalties which have a lower standard of proof i.e. balance of probabilities.

Furthermore, in view of the increased global reliance on emerging technologies since the outbreak of the pandemic, the time has come to seriously consider the use of technology in aid of detecting and preventing market abuse.

Also, as the capital market has now evolved into a global international market in view of the increased cross-border transactions, global coordination amongst jurisdictions to combat market abuse should be considered in view of the increased level of sophistication of transactions on the market.

Footnotes

1.B. Rider, C. Abrahams and M. Ashe: "Guide to Financial Services Regulations, 3rd edition (1997)
B. Rider and H. French, "The Regulation of Insider Trading", Macmillan (1979)
G Gilligan, "Regulating the Financial Services Sector", Kluwer (1999)

2.J. Narron and D. Skeie, "Crisis Chronicles; The South Sea Bubble of 1720, 8 November 2013, Liberty Street Economics

J. Hoppit, 'The Myths of the South Sea Bubble' (2002) 12 Transactions of the Royal Historical Society 144

M Balen, A Very English Deceit, The South Sea Bubble and the World's First Great Financial Scandal (Harper Collins 2002)

LCB Gower, 'A South Sea Heresy' (1952) 68 Law Quarterly Review 214

3. Hudson Law of Finance, 2nd edition (2013), Sweet & Maxwell, 2013, Ch. 12

4. E. Kerlin-Karnell and N. Ryder: Market Manipulation and Insider Trading: Regulatory Challenges in the United States of America, the European Union and the United Kingdom (2019), Hart Publishing, Ch.15

5. E. Kerlin-Karnell and N. Ryder: Market Manipulation and Insider Trading: Regulatory Challenges in the United States of America, the European Union and the United Kingdom (2019), Hart Publishing, Ch.15

6. E. Kerlin-Karnell and N. Ryder: Market Manipulation and Insider Trading: Regulatory Challenges in the United States of America, the European Union and the United Kingdom (2019), Hart Publishing, Ch. 15

7. Part VIII FSMA 2000

8. misleading the FCA or the Prudential Regulatory Authority (section 398 FSMA), the Competition and Markets Authority (section 399 FSMA)

9. section 89 Financial Services Act 2012

10.Hudson Law of Finance, 2nd edition (2013), Sweet & Maxwell, Ch 12

11. B. Rider, K. Alexander and L. Linklater: "Market Abuse and Insider Dealing" (Butterworths 2002) pp73-74

12.Regulation (EU) No 596/2014 of the European Parliament and of the Council of 16 April 2014 on market abuse (market abuse regulation) and repealing Directive 2003/6/EC of the European Parliament and of the Council and Commission Directives 2003/124/EC, 2003/125/EC and 2004/72/EC Text with EEA relevance

13.EU Market Abuse Regulation (EU) No 596/2014 of the European Parliament and of the Council of 16 April 2014 on market abuse (market abuse regulation) and repealing Directive 2003/6/EC of the European Parliament and of the Council and Commission Directives 2003/124/EC, 2003/125/EC and 2004/72/EC Text with EEA relevance

14. Debevoise & Plimpton: UK Market Abuse Regulation: Onshoring and Divergence from the EU, 11 February 2021 (https://www.debevoise.com/insights/publications/2021/02)

15. Recital (I), Market Abuse Directive, 2003/6/EC

16. FSMA 2000, section 118

17.sections 118 et seq FSMA 2000

18.Hudson: The Law of Finance, 2nd edition, Sweet & Maxwell (2013), Ch. 12

19.section 127 FSMA 2000

20.section 125 FSMA 2000

21.section 91 FSA 2012

22.section 118(10 FSMA 2000

23.Hudson Law of Finance, 2nd edition (2013), Sweet & Maxwell

24.E. Kerlin-Karnell and N. Ryder: Market Manipulation and Insider Trading: Regulatory Challenges in the United States of America, the European Union and the United Kingdom (2019), Hart Publishing

25.section 118 FSMA 2000

26.section 118A(I)(b)(i) FSMA 2000

27.section 130A(3) FSMA 2000

28.K. Alexander: Insider Dealing and Market Abuse: The Financial Services Markets Act 2000: Centre for Business Research, University of Cambridge, Working Paper No. 222 (Cambridge, University of Cambridge, 2001)

29.1.3.2(l)(E) MAR

30 Hudson: The Law of Finance, 2nd edition (2013), Sweet & Maxwell

31.1.3.2.(2)E MAR

32.1.3.2(3) MAR

33.1.3.2(4)E MAR

34.1.3.4E MAR, Hudson: The Law of Finance, 2nd edition, Sweet & Maxwell, 2013, Ch 12

35.A.S. Hudson, Equity & Trusts

36.1.3.5E MAR