Legal spotlight

Seven deadly sins

The Market Abuse Directive which was introduced in the UK on July 1 is having a big impact on business, not only on firms authorised by UK regulator the Financial Services Authority (FSA) but also on publicly traded companies and those transacting with them. The directive is one element of the EU's Financial Services Action Plan and forms a key part of its ambitions to enhance market integrity across the EU.

Although the regime introduced by the directive is broadly similar to the previous civil Market Abuse Regime in the UK, it does vary significantly in a number of important aspects, and applies very widely - to everyone who trades in qualifying investments on a prescribed market. The term 'prescribed market' includes the LSE, Liffe, IPE, LME, Coredeal, Jiway, OM London Exchange, Virt-X, Ofex and EEA Markets. The definition of 'qualifying investments' is also very broad and includes most forms of securities. The way in which the UK has chosen to implement the Market Abuse Directive is by amendments to the previous regime, whilst at the same time maintaining those areas of the previous regime which are wider in effect and impact than the Market Abuse Directive (known as 'super-equivalence').

The criminal offence of insider dealing created by the Criminal Justice Act 1993 is not affected, nor is the criminal offence of market manipulation created by Section 397 of Financial Services and Markets Act 2000 (FSMA). Indeed the FSA has recently secured convictions in the cases of Carl Rigby, the former chairman and chief executive of software firm AIT, and Gareth Bailey, the firm's former financial director. Both were found guilty in August of one count of recklessly making a statement, promise or forecast which was misleading, false or deceptive.

The key elements of the previous civil market abuse regime contained within Section 118 of the FSMA (misuse of market information, market distortion, misleading behaviour) are also retained, but are now supplemented so the new regime now consists of seven separate, defined types of abusive behaviour, or seven deadly sins as follows:

1. Insider dealing
2. Improper disclosure of inside information
3. Misuse of information
4. Creation of a false or misleading impression
5. Employing fictitious devices
6. Disseminating information which is likely to give a false or misleading impression
7. Misleading behaviour/market distortion

Significantly, the 'regular market user' test has now been removed except in relation to insider dealing, improper disclosure of inside information and misuse of information. Rather more helpful, however, is the new and more detailed definition of 'inside information' at Section 118C of the FSMA, which says that information will be inside information if it is precise, not generally available, and if it were made public, it would be likely to have a significant effect on price. Information is likely to be regarded as likely to have a significant effect on price only if it is information that a 'reasonable' investor would be likely to use as part of the basis of his investment decision. To some extent, therefore, the objectivity of the regular market user test is replaced by a hypothetical and reasonable investor. It remains to be seen how this will be determined in practice.

Safe harbours

The previous Code of Market Conduct set out what were known as 'safe harbours'; behaviour falling clearly within the ambit of the safe harbour described would not constitute market abuse. Other behaviour that was in compliance with the FSA's price stabilisation and certain UK Listing Authority rules on the dissemination of information and buyback of shares was also not to be considered as market abuse.

The Market Abuse Directive now limits the safe harbours to two: behaviour in relation to price stabilisation and the buyback of shares. The previously extensive and helpful provisions of the Code of Market Conduct have been amended very heavily to delete the concept of safe harbours in relation to wider behaviour. However, in response to criticism from the market, the FSA has now clarified its view in relation to a number of these areas including, for example, that legitimate trading activity can include hedging activity, and that such activity will not constitute market abuse.

Buyback of shares: Behaviour falling outside the buyback safe harbour will not necessarily constitute market abuse but it will not automatically benefit from the exemption as described. It applies only to those companies whose shares are traded on a regulated market and therefore does not apply to trading on AIM or Ofex. In order to fall within the buyback safe harbour, full details of the trading programme must be disclosed, buybacks must not take place during a closed period and not more than 25% of the average daily volume of the shares traded may be purchased in any one day. In certain circumstances, this percentage may be increased to 50% with appropriate disclosures.

Price stabilisation: In order to fall within the price stabilisation safe harbour, stabilising transactions must be reported to the FSA, there is a requirement for more detailed pre- and post-stabilisation announcements and a narrower range of permitted activities.

The Market Abuse Directive introduces a new disclosure regime requiring the compilation of insider lists and research disclosure, together with an enhanced reporting requirement in relation to suspicious transactions. In addition, disclosure obligations will be imposed on listed companies by the listing rules. AIM and Ofex companies will remain subject to the continuing AIM and Ofex rules. The overriding principle of all these obligations is that inside information must be disclosed to the market as soon as possible.

Selected information may be disclosed to persons who are under a duty of confidentiality such as major shareholders, lenders and advisers. Listed companies are now obliged to keep lists of all such persons with access to inside information, and to ensure that each of its advisers keeps its own insider list. The lists must detail any person having access to inside information. The practical implications of these new requirements are being worked through, but the main responsibility rests with the listed company which, at a minimum, must make "effective arrangements" for its advisers to maintain their own lists.

The directive now requires that the dealings of senior management and their close associates need to be disclosed to the market in addition to directors' dealings. Managers will be those people with regular access to inside information and with the ability to make management decisions. Their close associates will include spouses, children and relatives who have been living in the same household.******