Prevention and Detection of Market Abuse

On the 4^th of April 2022, the Malta Financial Services Authority (‘MFSA’) issued a circular on the Market Abuse Regulation (EU) 596/2014 (‘MAR’). Specifically on article 16 of such regulation which focuses on the prevention and detection of market abuse.

• General obligation to main effective arrangements, systems and procedures in place and to notify suspicious orders and/or transactions

As stipulated in article 16(1) of MAR, both market operators (an example of such is the Malta Stock Exchange) and investment firms that run a trading venue must establish and maintain effective arrangements, systems and procedures which essentially focus on preventing and detecting insider dealing and also market manipulation.

Moreover, if any person that professionally arranges or executes transactions in financial instruments has a reasonable suspicion of market abuse they are obliged to notify the MFSA without delay by submitting a Suspicious Transaction and Order Report (‘STOR’).

Market operators, investment firms and persons professionally arranging or executing transactions must ensure that the aforementioned arrangements, systems and procedures are:

1. Appropriate and proportionate with regards to scale, size and nature of the business;
2. Regularly assessed; and
3. Clearly documented in writing.

• Best Practices, Recommendations and Reminders to Maintain Effective Arrangements, Systems and Procedures in Place and to Notify Suspicious Orders and/or Transactions

It has been noted that since the coming into force of the MAR, the submission of STORs has significantly increased however there is still a high degree of under reporting and the reason for this may be the result of such relevant legal persons having inadequate or ineffective systems, procedures and arrangements in place which are not allowing them to detect and of course prevent market abuse.

Naturally, the submission of a STOR does not mean that market abuse has taken place but rather it must be understood as a notification of suspicion.

Another example which may halt the submission of a STOR is the limitation to information. It is generally the compliance officer who submits such notification to the MFSA and it is common that such officer is not always in a position to analyse and establish as to whether any transactions and/or orders are suspicious in nature due to lack of availability to certain information.

Streamlining the relevant analysis procedures to detect potential market abuse may allow different persons within an organisation to compare order and transaction developments in a uniform manner – making it easier to detect any suspicious behaviour.

Risk management also plays an important role in market abuse prevention. It is of utmost importance that the relevant persons have in place effective pre and post trade controls.

Alert models are considered a best practice in this respect. For example, a person trading on the grounds of insider information would be very eager to build a position before the event is made public. Thus, quickly transferring realised profits to another account can be a possible indication.

• Practical guidance on different market abuse practices

1. Insider Dealing

In accordance with article 8(1) of MAR, insider dealing arises where a person possesses inside information and uses that information by acquiring or disposing of, for its own account or for the account of a third part, directly or indirectly, financial instruments to which that information relates. Furthermore, sub article 2 of the same states that insider dealing could also arise where a person recommends that on the basis of inside information, another person acquires or disposes of financial instruments or cancels or amends an order concerning a financial instrument to which that information relates or induces that person to make such an acquisition or disposal or cancellation or amendment.

Throughout its circular the MFSA also provides a practical example of such:

A Chief Executive Officer (‘CEO’) of a Company becomes aware of some negative, non-public information within the Company’s mid-year report. This particular piece of information, once published, is expected to impact the Company’s financials and its share price significantly. The CEO recommends to family members to dispose of their holdings in the Company, who in turn instruct their broker to sell their shares in the Company. In such a case, the family members would be in breach of Article 14(a) of MAR, whereas the CEO would be in breach of Article 14(b) of MAR, since he/she would be passing information and recommending his/her family members to sell their holdings.

2. Market Manipulation

In a nutshell, market manipulation is a behaviour in financial markets which is specifically designed to deceive investors by controlling or artificially affecting the price of financial instruments.

Market manipulation may take place in several ways, including but not limited to:

• Wash trades – A sale or purchase of qualifying investment where there is no change in beneficial interest or market risk, or where the transfer of beneficial interest or market risk is only between parties acting in concert or collusion, other than for legitimate reasons;
• Painting the tape – Entering into a series of transactions that are shown on a public display for the purpose of giving the impression of activity or price movement in a qualifying investment; and
• Spoofing – Entering orders into an electronic trading system, at prices which are higher than the previous bid or lower than the previous offer, and withdrawing them before they are executed, in order to give a misleading impression that there is demand for or supply of the qualifying investment at that price.

To conclude, the MFSA, in their circular, expressed that it intends to engage with the relevant persons to particularly question specific orders and/or transactions which in the MFSA’s opinion such transactions/orders were of a suspicious nature however for some reason a STOR was not submitted by the relevant legal persons. Moreover, such persons will be expected to present their analysis of such transactions through documentation and thus substantiate as to why no STOR was submitted. They must be able to show full adherence with the MAR. Naturally, if one is in breach of the MAR, one would be subject to regulatory action in accordance with article 22 of the Prevention of Financial Markets Abuse Act (Chapter 476 of the Laws of Malta) which stipulates the administrative sanctions and measures that may be taken by the MFSA.[1]

About the Authors

This article has been authored by Dr Francesca Anastasi, Legal, Risk & Compliance Advisor and Dr Simon Mangion, Junior Advisor. For further information required please contact us on [email protected].

[1] https://www.mfsa.mt/wp-content/uploads/2022/04/Circular-on-the-Market-Abuse-Regulation-Article-16-of-MAR-Prevention-and-Detection-of-Market-Abuse.pdf