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Brief Counsel

FMA releases guidance on market misconduct governance

19 August 2015

Download:2015 PUB BC FMA releases guidance on market misconduct governance.pdf

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​The Financial Markets Authority (FMA) has laid out how Managed Investment Scheme (MIS) managers, who trade directly on market, should manage market and client misconduct risks, such as insider trading, market manipulation, trade allocation biases and poor trade execution.

As governance and capital market integrity are two of the FMA’s seven strategic priorities, we can expect that these policies and procedures could be a focus for the FMA when the MIS licensing process gets fully underway.  If not satisfied by an applicant’s risk management provisions, the FMA may seek to impose controls via the licence conditions, or even decline to grant a licence altogether.

MIS manager directors and senior executives should therefore review their policies, procedures and controls for preventing market misconduct in light of this new guidance. 

Market Misconduct Risks: a guide for MIS Managers, although directed at MIS manager directors and senior executives under the Financial Markets Conduct Act (FMCA), relates equally to fund managers who remain under existing law during the transitional period to November 2016. 

The guidance supplements the MIS manager Licensing Application Guide

Governance for MIS managers

The FMA expects that managers will have developed policies, procedures and controls to deter market misconduct, surveillance to detect issues, and reporting for any needed corrective action.  These should be tailored to the manager’s unique needs and be proportionate to the extent, nature and degree of the manager’s trading.

The risk and compliance framework should be continuously monitored and annually reviewed for:

  • new and emerging risks
  • changes to the firm’s business model and size, and
  • the framework’s adequacy and effectiveness in controlling market misconduct.

Potential controls for MIS managers

The FMA sets out a number of best practices which managers should consider when reviewing their market misconduct controls. 

  • Segregation of activity: managers should have checks and balances to reduce the risks of collusion and conflicts of interest, by segregating responsibilities, locations and the reporting lines for different business functions.
  • Conflicts policies: managers should have clear conflicts of interest guidelines, which cover staff personal holdings, trading by close relatives, incentivised/reporting date trading protections, commenting publicly on heavily held stock and monitoring of trading around media communications. 
  • Insider information policies: managers must have policies to control and limit inside information being received accidentally or unknowingly.  There should be guidelines for reporting information lapses, maintaining the confidentiality of that information and putting in place appropriate trading restrictions.
  • Restricted lists: managers should have up-to-date restricted lists that are reviewed before trading in relevant securities, and should integrate these into pre-trade and post-trade monitoring processes (including those for personal trading).
  • Access controls: managers should ensure access to price-sensitive information is held on a need-to-know basis.  Where information barriers are used, policies should include provisions for staff considered to be on ‘both sides of the wall’.  Access to trading systems should be controlled, so that the identity of anyone making a trade is known, and trading cannot occur without proper authorisation.  Managers should not rely solely on broker controls to manage their own conduct obligations.
  • Personal holdings and trading policy: staff with access to sensitive information should report and regularly update their holdings.  Personal trades, including of close relatives, should be monitored and pre-approved (or restricted/prohibited for trading staff, if appropriate).
  • Pre-trade controls: trading controls may be appropriate in some cases.  Given the need for rapid decision-making, there may be a trade-off between the extent of preventative controls and post-trade monitoring.
  • Mapping of trade orders: a monitoring process should exist for all executed trades to enable comparison to specific trade orders and investment trade strategies.
  • Post-trade monitoring: managers should have guidelines for post-trade detection, monitoring and assessment of potentially suspicious trades.  Compliant trades should be noted, and suspect trades should be escalated for further review.  Post-trade monitoring reports should be an agenda item of management or the board.

    There should be post-trade monitoring of personal and proprietary trading.  Trades should be analysed to determine patterns of behaviour that may not be apparent on a pre-trade basis.  Surveillance should identify any attempts at market manipulation, now in focus after the FMA’s investigation of Milford Asset Management Ltd and Mark Warminger and ensuing related legal proceedings.

Although the FMA’s suggested controls will always need to be tailored to the risks and scale of the particular business, they provide some helpful guidance about how MIS managers will and should go about effectively managing market misconduct risks.

How we can help

Chapman Tripp has advised on several licensing applications for MIS managers and other issuers under the FMCA.  Our experts are also well versed in compliance issues and have provided checklists and detailed advice on governance and control frameworks for issuers.

Our thanks to Brendon Orr for writing this Brief Counsel. For further information, please contact the lawyers featured.

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