Explanatory Memorandum to COM(2001)281 - Insider dealing and market manipulation (market abuse) - Main contents
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| dossier | COM(2001)281 - Insider dealing and market manipulation (market abuse). |
|---|---|
| source | COM(2001)281  |
| date | 30-05-2001 |
The Lisbon European Council has made a strong commitment to integrate European financial markets by 2005 at the latest. The Stockholm European Council considered that every effort should be made by all parties concerned to achieve an integrated securities market by the end of 2003 by giving priority to securities markets legislation provided for in the plan, including those endorsed in the report by the Committee of Wise Men on the Regulation of European Securities Markets. The Stockholm European Council also called for the legislative process to be speeded up and to be more flexible in order to be able to respond to market developments whilst ensuring that the European Union can adapt to new market practices and regulatory standards, respecting the requirements of transparency and legal certainty.
There is a growing consensus that a single financial market will be a key factor in promoting the competitiveness of the European economy, lowering the cost of capital for large and small companies. But an integrated market, properly regulated and prudentially sound, will deliver major benefits to consumers, through higher pensions, lower mortgage costs and a wider range of financial products. And it will help to develop new economic and social cohesion throughout Europe. The vehicle to achieve this integrated market is the Financial Services Action Plan. One of the objectives of the Financial Services Action Plan is to 'enhance market integrity by reducing the possibility for institutional investors and intermediaries to rig markets and to set common disciplines ... to enhance investor confidence'.
Markets in transferable securities are playing a more and more important role in the EU in financing companies and the economy as a whole. The valuation of securities plays a role in determining the expansion and contraction of credits and the appropriate collateralisation of bank loans. High growth enterprises depend on the efficiency and transparency of financial markets in order to raise capital. Indeed, the smooth functioning of financial markets and public confidence in them are prerequisites for sustained economic growth and wealth. Market abuse not only increases the cost for companies to finance themselves but also harms the integrity of financial markets and public confidence in securities and derivatives trading. Such practice dissuades new investors and can have severe consequences. Therefore, it undermines economic growth and European economic policy.
The aim of this Directive is to ensure the integrity of European financial markets, to establish and implement common standards against market abuse throughout Europe, and to enhance investor confidence in these markets.
Contents
- a) What is market abuse-
- -in terms of knowledge of the basis or origin of public information. The dissemination of false or misleading information can lead investors to act on the basis of wrong information
- c) A single Directive against market abuse
- d) The approach of the Directive
- 2. DESCRIPTION OF ARTICLES
- 'Market Manipulation'
- 'Financial Instruments'
- 'Regulated market'
- 'Comitology procedure'
- Articles 2, 3 and 4 - Prohibition of behaviours related to Inside Information
- Article 5 - General prohibition of manipulative behaviour
- Article 6 - Fair disclosure obligation and specific exemptions
- Articles 7 and 8 - Transactions exempted from the prohibitions of insider dealing or market manipulation
- Article 9 - Scope of means used
- Article 10 - Territoriality
- Article 11 - National Competent Authority
- Articles 12 and 13 - Enforcement and professional secrecy within competent authority
- Article 14 - Sanctions
- Article 15 - Right to apply to the courts
- Article 16 - Co-operation between Competent Authorities
- Article 17- Securities Committee and procedure related to it
- Article 18- Adoption of national provisions
- Article 19 - Repeal of Directive 89/592/EEC
Market abuse may arise in circumstances where investors have been unreasonably disadvantaged, directly or indirectly, by others who:
- have used information which is not publicly available to their own advantage or the advantage of others;
- distorted the price setting mechanism of financial instruments;
- disseminated false or misleading information.
This type of conduct can create a misleading appearance of trading in financial instruments and undermine the general principle that all investors must be placed on an equal footing:
- in terms of access to information. Insiders are in possession of confidential information. Trades based on such information lead to unjustified economic advantages to the expense of outsiders;
- in terms of knowledge of the price setting mechanism. Fair prices result from individual analysis by investors of all public information. Prices resulting from manipulation are set at another level, creating economic advantage solely for the manipulators, but damaging the interests of all other investors;
-in terms of knowledge of the basis or origin of public information. The dissemination of false or misleading information can lead investors to act on the basis of wrong information
b) The need for a European legal framework against market abuse
The existing European legal framework to protect market integrity is incomplete :
- At European level, there are no common provisions against market manipulation. The Insider Dealing Directive (89/592/EEC) i limits itself to preventing the misuse of privileged information.
- At Member State level, there is a great variety of rules dealing with market abuse. Legal requirements differ according to the different jurisdictions. While all Member States have implemented the Insider Dealing Directive, in some there is no legislation addressing market manipulation. Furthermore, it is not always clear in the Member States who is responsible for dealing with these practices.
These differences lead to competitive distortions in the financial markets. They hinder the development of a single European financial market based on a level playing field. As a result investment firms and economic actors are often uncertain about the concepts, definitions and enforcement requirements in different Member States.
Moreover, new developments are adding to these difficulties. New products and technologies are being developed; the range of derivative products is growing; new and increasing numbers of participants are entering the markets; cross-border trading is increasing; interconnected markets are developing.
These developments are enhancing the incentives, means and opportunities for market manipulation. The key example of this is the way that the development of the Internet as a popular tool for the exchange of information is increasing the risk of dissemination of false or misleading information.
To ensure that integrated European financial markets will be well protected, a common legal framework is needed on the prevention, detection, investigation and punishment of market abuse. Such a framework needs to ensure certainty among market participants over concepts and enforcement, thereby setting a level playing field for all economic actors in all Member States.
There are two main categories of market abuse: insider dealing and market manipulation.
The Insider Dealing Directive (89/592/EEC) was adopted more than a decade ago, well before the adoption of the Investment Services Directive. Given the changes in financial markets and in European legislation since its adoption, some people have questioned whether it is still up to date, and therefore whether it should be replaced or updated.
The objective of the existing Insider Dealing Directive and a new separate Directive addressing market manipulation would be the same: to ensure the integrity of European financial markets and to enhance investor confidence in those markets.
Any Directive addressing market manipulation must take account of new developments since the adoption of the Insider Dealing Directive. In particular it would need to establish higher standards for common implementation and enforcement in order to develop more integrated financial markets.
This would create potential inconsistency between the two Directives, leading to confusion and potential loopholes. To avoid this, and to bring it up to date, the Insider Dealing Directive would itself need to be updated to reflect these new standards.
In the view of the Commission, this all amounts to a compelling argument for a single Market Abuse Directive covering both insider dealing and market manipulation. This would ensure the same framework for allocation of responsibilities, enforcement and co-operation, avoiding any potential inconsistencies and confusion. It would be administratively simpler and reduce the number of different rules and standards across the European Union.
In order to ensure that the approach of a European market abuse regime remains relevant over the next decades in rapidly changing financial markets, the Directive provides for a general definition of what constitutes market abuse. This definition is flexible enough to ensure that new abusive practices which might emerge are adequately covered. At the same time it is sufficiently clear to provide adequate guidance for behaviour to market participants.
Market integrity can only be guaranteed with a general application of prohibitions of abusive behaviour. Given the potential developments on financial markets, the scope of the prohibition should not be limited to regulated markets alone. This is to avoid other types of markets, Alternative Trading Systems and others being used for abusive purposes. However, the Directive recognises that in particular circumstances and for perfectly understandable economic reasons, exemptions (so called 'safe harbours') will need to be allowed, where certain prohibitions would not apply.
If the European Union is to develop integrated financial markets, there needs to be convergence (rather than divergence) in the methods of implementation and enforcement in Member States. Different sets of responsibilities and powers of national administrative authorities hinder the establishment of a fully integrated market and add to market confusion. To address this, the Directive proposes that Member States designate a single regulatory and supervisory authority with a common minimum set of responsibilities.
Given the increasing number of cross-border activities, European legislation will need to ensure that regulatory and supervisory authorities work effectively together to prevent, detect, investigate and prosecute market abuse. For this purpose they need to be able to rely on the assistance of each other and to receive relevant information from each other in good time.
In principle it is unacceptable in an integrated financial market for wrongful conduct to incur a heavy penalty in one country, a light one in another and no penalty in a third. However, a full harmonisation of penal sanctions is not foreseen in the EC Treaty. Nevertheless, it is both desirable and consistent with Community law for the Directive to set a general obligation for Member States to impose and determine sanctions to be imposed for infringement of measures pursuant to the Directive in a way that is sufficient to promote compliance with its requirements.
The new disciplinary framework set out by this Directive is not intended to replace the national provisions by directly applicable Community provisions, but contribute towards helping some convergence among the different national regimes through compliance with the requirements of the Directive. Since all Member States have signed and ratified the European Convention on Human Rights, they will be bound by its standards when implementing the framework of this Directive into their national law.
It is important to ensure that a process exists for new measures to be adopted, so that consumers willing to invest in new products are adequately protected and receive equal treatment in every Member State. To meet the challenge of regulating modern financial markets, new legislative techniques have to be introduced. On 17 July 2000, the Council set up the Committee of Wise Men on the Regulation of European Securities Markets. In its final report the Committee called for each Directive to be a split between framework principles and 'non-essential' technical implementing measures to be adopted by a Regulatory Committee under the Union's comitology procedures. In its Resolution on more effective securities markets regulation in the European Union, the Stockholm European Council welcomed the intention of the Commission to establish a Securities Committee. The Securities Committee, acting in its advisory capacity, should be consulted on policy issues, in particular, but not only, for the kind of measures the Commission might propose at the level of framework principles. According to this Resolution, the Council added that subject to specific legislative acts proposed by the Commission and adopted by the European Parliament and the Council, the Securities Committee should function as a regulatory committee in accordance with the 1999 Decision on comitology to assist the Commission when it takes decisions on implementing measures under Article 202 of the EC Treaty. This Directive follows the line drawn up by the Stockholm European Council.
This proposal indicates which are the non essential technical implementing details to be dealt with by the Commission through comitology procedure. For example, this will include adaptation and clarification of the definitions and exemptions in order to ensure uniform application and compatibility with technical developments on financial markets.
In view of the urgency of action in the area of market abuse, and in view of the extensive consultations on the issue already carried out with Member State governments, regulators and supervisors, financial industry (Forum Group meetings) and other interested parties, the Commission has decided to come forward with the proposal now rather than to delay it through recourse to a more formal consultative process. In line with the report of the Wise Men, the Commission will engage in consultations, as foreseen in the Stockholm European Council resolution, when it prepares the implementing measures in accordance with the relevant provisions of the proposed Directive.
Article 1 - Definitions
'Inside information'
The definition of Inside Information is based on the definition given in the existing Insider Dealing Directive, extended to cover primary markets as well. The scope has been also extended from Transferable Securities to Financial Instruments, as defined in the Investment Services Directive, plus derivatives on commodities. The scope is set out in Section A of the attached Annex. The reason for this is to bring the scope up to date with the changes over the last decade. The scope of financial instruments significantly affected by privileged information is not limited to those of the issuer but enlarged to related derivative financial instruments (e.g. options on equity, futures and options on index).
The definition of Market Manipulation relies on the behaviour of its authors, and not on their intention or aim. Two types of behaviour are listed which might be considered as manipulative :
- transactions and orders to trade in the orders book,
- the dissemination of information,
which mislead or try to mislead market participants.
This definition is both specific enough to encourage and guide the responsible behaviour of market actors and abstract enough to provide the necessary flexibility to adapt to new market developments when they arise.
The definition of Financial Instruments covers the instruments listed in Annex B of the Investment Services Directive (93/22/EEC) i as well as commodity derivatives which are commonly considered as a category of derivative financial instruments, and should therefore also be covered.
The definition of regulated market is the one given by Article 1 (13) of the Investment Services Directive. The aim of this provision is to create consistency between the Directives and to avoid confusion.
The implementing measures are needed to take account in the application of this Directive new developments and to guarantee a uniform application of its rules in order to ensure a level playing field for economic actors.
The prohibition of behaviours defined in Articles 2 to 4 is general :
- it is applicable to any person (natural or legal). In particular this means that a legal person may be considered to act as an insider, for instance by taking advantage of inside information for own profit.
- it is applicable in all the Member States, in order to establish a common standard throughout the European Union, contributing to fully integrated and efficient financial markets.
The content of the Articles is based on Articles 2, 3 and 4 of the existing Insider Dealing Directive, apart from the following:
- the expression 'with full knowledge of the facts' applied in the Insider Dealing Directive to the primary insiders is suppressed in Article 2 of the present Directive, as by nature these insiders may have access to inside information on a daily basis and are aware of the confidential nature of the information that they receive;
- 'transferable securities' has been replaced by 'Financial Instruments' in order to take into account the development of new products;
- the distinction between transactions effected through a 'professional intermediary' or not has been deleted. This means that direct transactions between parties based on inside information would be covered by the Directive as soon as the financial instruments are admitted, or going to be admitted, to trading on a regulated market (see Article 9);
- the general exemption for sovereign States and other public bodies in Article 2 i of the Insider Dealing Directive is moved to Article 7;
-reference to 'markets' is deleted. Article 9 deals with the scope of the Directive.
In the same way as for insider dealing, market manipulation as defined in Article 1 is prohibited. The prohibition applies both to natural and legal persons. Experience shows that, depending on the circumstances, both types of persons may manipulate the market, with similar negative effects on the financial market.
In order to establish a common standard throughout Europe, the general prohibition needs to be applied by all Member States.
To facilitate the understanding and the implementation of this prohibition, a non-exhaustive list of methods used for market manipulation is given in Section B of the Annex.
In order to take account of new methods of market abuse, the Commission should be able to amend or add to the indicative list using the Comitology procedure.
Member States may decide to introduce specific provisions to cover persons acting for journalistic purposes in the normal course of the exercise of their profession. By this the Directive separates clearly professional - journalistic - behaviour from personal behaviour for market abuse purposes.
1. The rules laid down in Articles 2 to 4 forbid, on the one hand, to take advantage from a piece of inside information and, on the other hand, to disclose it to a third party. The general rule in Article 6 paragraph 1 provides for the disclosure of inside information to the public as soon as possible. This requirement should reduce the possibility to act on inside information.
2. This rule should ensure that whenever a selective disclosure of information to a third party is made in the normal course of business as described in Articles 2 and 3, that information is completely and effectively disclosed to the public. Public disclosure is to be carried out at the same time as the selective disclosure. If the selective disclosure is made unintentionally, public disclosure has to be carried out as soon as possible. Exemptions are proposed for particular cases where persons receiving inside information are required to keep it confidential or are allowed to use it only for the specific purpose that it was disclosed to them. In order to promote compliance with the requirements of this Directive, a list of insiders must be established and updated by issuers and entities acting on their behalf.
3. In order to protect its legitimate interests and under certain conditions (not misleading omission for the public, ability to ensure the confidentiality of the inside information), an issuer may take the responsibility not to respect the disclosure requirement as laid down in paragraph 1. This could be the case for discussions on a potential take-over bid: if such discussions were disclosed before any agreement, they could result in erratic price movements making it difficult to determine the fair price of the take over bid.
4.- 5. There are specific clauses covering professionals (natural or legal persons) who are in charge of the production or dissemination of research or other information or who are professionally receiving orders which could reasonably constitute insider dealing or market manipulation. These clauses are necessary to involve market professionals in contributing to market integrity.
6. Specific implementing measures will be needed to provide greater clarity to economic actors on the provisions of paragraphs 1, 2 and 4. The Directive allows for such implementing measures to be adopted through comitology procedure (see Article 17).
Articles 7 and 8 - Transactions exempted from the prohibitions of insider dealing or market manipulation
A first series of exemptions (Article 7) is established for Member States, the European System of Central Banks and national central banks conducting monetary, exchange-rate or public debt-management policies. The Article provides for Member States to extend this to their federated States.
A second series of exemptions (Article 8) is established, under limited conditions, for market participants. These exemptions are made for entities trading in their own shares in buy back programmes or stabilising a financial instrument during an Initial or Secondary Public Offer, when trading is undertaken under agreed conditions. Trading in own shares and stabilisation however must be carried out transparently in order to avoid insider dealing or giving misleading signals to the markets. Trading in own shares could be used to strengthen the equity capital of issuers and so would be in investors' interest. Stabilising securities for a limited period of time during an Initial or Secondary Public Offer is often necessary for perfectly valid economic reasons. Stabilisation can give confidence to investors and encourage small and medium sized companies to use capital markets.
The Directive proposes the Commission should be able to adopt the technical conditions of stabilisation and trading in own shares in accordance with the Comitology procedure.
The scope of the Directive is not strictly limited to regulated markets. The scope also includes:
- unregulated markets,
- trading platforms,
- devices for the continuous dissemination of price information,
- off-market transactions,
- or any other means or devices
as soon as they are used to manipulate a financial instrument admitted, or going to be admitted, to trading on a regulated market in at least one Member State, or as soon as they are used for insider dealing in such a financial instrument.
The scope of the Directive is not limited to secondary markets but will include primary market and grey market activities as well. This is to ensure that primary or grey market participants are unable to take unfair advantage of any particular position or privileged information they might have.
The proposed Directive would require Member States to apply its provisions at the very least to actions undertaken within their territory. They would however, be allowed to expand the application to actions where only elements of the prohibited behaviour are done within their territory (e.g. where actions contrary to this Directive are undertaken by remote members of a domestic exchange, or inside information being passed in third countries but influencing financial instruments on a domestic regulated market). Member States would also be allowed to apply the provisions of the Directive if the financial instrument concerned is admitted, or going to be admitted, to trading in a Member State.
At the moment, Member States have different regulatory structures for dealing with Market Manipulation. Some Member States have a single supervisory authority whereas others have several authorities. In some Member States there is no public supervisory authority at all, with the only supervision carried out by the exchanges themselves. In others there is a combination of both.
The designation of a single competent authority in each Member State to ensure that the provisions of this Directive are applied, answers to a need for efficiency and clarity, and to enhance co-operation between competent authorities (see Article 16).
The administrative nature of these single competent authorities is necessary to ensure their independence from the markets and to avoid conflict of interest.
The Directive sets out a minimum list of requirements for powers to be given to competent authorities for the detection and investigation of market abuse. These requirements will allow competent authorities to fulfil their duties and will lead to greater consistency and clarity in the application of the provisions of the Directive. Member States will however be free to stipulate that, in line with their national laws, traditions or constitutions, some of these powers may only be used by the competent authority in collaboration with other authorities in that Member State, in particular judicial authorities.
Only particular professions may be authorised to oppose, partly or completely, professional secrecy to competent authorities, according to national legislation (e.g. lawyers or journalists).
Within competent authorities, strict professional secrecy is needed to ensure that Agreements on the exchange of information will work and that particular rights of persons will be respected.
In principle, it is unacceptable in an integrated financial market for a wrongdoing to incur a heavy sanction in one country, a light one in another and no sanction in a third. However, the harmonisation of sanctions is outside the scope of this Directive. Nevertheless, it is both desirable and consistent with Community law that the Directive sets out a general obligation for Member States to impose and determine sanctions to be applied for infringement of measures taken pursuant to this Directive.
Beside criminal sanctions, administrative sanctions become mandatory in the proposal - due in part because the proceedings are faster than criminal ones. The speed of administrative sanctions is particularly important to prevent persons from continuing any wrongful conduct during the period of proceedings. Administrative sanctions are also justified by the fact that competent authorities must co-operate closely with each other so as to guarantee a similar application of rules on sanctions. However, the rules themselves remain within the competence of Member States.
The sanctions must be effective, proportionate and dissuasive. However, each Member State may decide for itself the sanctions to be applied for infringement of these measures, or for failure to co-operate in an investigation subject to Article 12 of this Directive.
When determining the sanctions and organising a sanctioning procedure, Member States will have to comply with the principles of the Convention For The Protection Of Human Rights And Fundamental Freedoms.
The disclosure of sanctions is a very powerful deterrent. Moreover, in case of misbehaviour, it would be useful for the market to be informed of the sanctions in order to guarantee a high level of investor protection. Therefore, sanctions may be disclosed to the public by Competent Authorities, unless this would create potential risks for financial markets themselves or a disproportionate damage to the parties involved (these safe harbours are necessary to avoid wrongful conduct of a natural person leading to mistrust the entity).
This disposition guarantees the principle of legal certainty and the right to a fair trial as required by the European Convention on Human Rights. It should ensure that decision-makers act in conformity with Convention rights when exercising their powers. Any person subject to a decision will have the right to full judicial review.
Given the increasing number of cross-border activities, the Directive provides for a comprehensive framework of co-operation, in particular on questions of investigation and the allocation of responsibilities.
To this end, a competent authority will have to supply in good time, information required by another competent authority for that purpose. However, competent authorities will be able to refuse the supply of information in cases where judicial proceedings have already started or final judgements have already been delivered in connection with the same actions being investigated, or in those particular cases where important and legitimate interests of Member States are concerned (sovereignty, security or public policy).
The reply must be sent in as short a time as possible, to ensure the effectiveness of the investigation measures and to deter development of cross-border schemes for misbehaviour. Whenever a competent authority becomes convinced that market abuse is being, or has been, carried out outside the territorial scope of its activities but affecting other Member States, it would be required to notify it to the competent authorities of those other Member States. This is to reduce the potential for loopholes.
Cross-border investigations seem to be a complementary tool for improving the effectiveness of inquiries. Such investigations will have to be carried out on the responsibility of the Member State on whose territory they are taking place.
The Directive allows the Commission to provide the details on the procedure of exchange of information and cross-border inspections by using the comitology procedure.
This Article makes reference to the European Securities Committee instituted by Commission Decision (2001/.../EC) and sets out the regulatory procedure in accordance with the comitology decision of July 1999 (1999/468/EC) i. The proposal is needed to take account in the application of this Directive new developments, to develop implementing measures in order to ensure a level playing field for economic actors and to enhance co-operation between competent authorities.
This Article sets out the deadline for the implementation of this Directive in the Member States.
The Insider Dealing Directive is to be repealed at the same date as the implementation of this Directive will enter into force in the Member States. This simply reflects the fact that it will be replaced by this Directive.