Market conduct and discipline in the context of Coronavirus - the FCA's latest Market Watch

The Coronavirus pandemic has led to significant activity in corporate bond markets, with many issuers needing to seek additional capital. In the light of this, and other impacts of the pandemic, on 27 May 2020, the FCA published its latest Market Watch bulletin focussing specifically on its expectations regarding market conduct and inside information in the current crisis.

The FCA notes that the increased issuance activity, coupled with alternative working from home arrangements, makes it important that appropriate controls around market abuse, conduct and managing conflicts of interest are in place. We set out below some of the key points raised.

Priorities

In this period, the FCA encourages a particular focus on:

• ensuring inside information continues to be appropriately identified and handled by all those in the information chain so that it is not misused for insider dealing or for other commercial advantage;
• ensuring inside information is appropriately disclosed by issuers;
• maintaining robust market surveillance and suspicious transaction and order reporting, in the context of changes in market conditions and the current use of alternative working arrangements;
• meeting the transparency and short position coverage requirements under the Short Selling Regulation (SSR); and
• identifying and managing conflicts of interest by market participants that may arise around capital raising events.

Inside information in the current environment

The FCA emphasises that Coronavirus has had a significant effect on the businesses of issuers globally, resulting in them needing to raise substantial amounts of debt and equity. This alone potentially gives rise to increased amounts of inside information that will need to be appropriately controlled. The FCA points out that in the context of the pandemic, the nature of the information that is material to a business’s prospects may have now altered. Issuers therefore need to assess carefully to identify what information constitutes inside information as Coronavirus and public policy responses to it may have altered the nature of information that is material to a business’s prospects, and that is material in the context of its recapitalisation. Issuers should carefully judge what information a reasonable investor would now be likely to use as part of their investment decisions in the context of Coronavirus. For example, information that could have a significant effect on a company's share price could include (but is not limited to):

• details of future financial performance, such as access to finance/funding. The FCA mentions that this may include through government schemes, significant changes in cash flow patterns, force majeure or termination rights in material contracts or financial arrangements, and changes to dividends or buy-back schemes.
• the issuer's ability to continue or to resume business, such as changes in strategy or business plans, business resumption plans, arrangements for staff returning to work and supply chains.

The FCA also urges that issuers should also carefully monitor whether any new information is materially different from previous forecasts, guidance, or signals which they have announced publicly and which would now be likely to be misleading to investors. For example, missing previous forecast earnings, revenue or related KPIs. If so, issuers should then consider in this context whether the new information is inside information and whether they are obliged to disclose such information to the public as soon as possible.

Controls around identifying and handling inside information 

In addition, the FCA warns that working from home arrangements may raise new risks around identifying and handling inside information; market participants moving to alternative sites or operating working from home arrangements may create new challenges around how any existing systems and controls are now applied for handling inside information. Those controls need to continue to effectively protect against the unlawful disclosure of inside information in working from home arrangements as they did in an office environment. The FCA suggests that market participants may, for example, want to consider reviewing controls for restricting access to inside information on secure IT systems and how staff access to inside information can be remotely supervised. They should also consider whether any systems and controls they have put in place continue to mitigate effectively the identified risks; a mandatory two week holiday for front office staff may be appropriate, and the FCA suggests that repeating or updating training to refresh staff on how they should be handling inside information may also be sensible.

Insider lists

Given the different risks that arise from working from home, the FCA indicates that issuers may want to seek re-affirmation that those on insider lists continue to be aware of when they have access to inside information and their legal and regulatory duties in relation to insider dealing and unlawful disclosure of that information.

Disclosure of inside information

Subject to the provisions on delayed disclosure, issuers are urged to comply with their MAR obligation to disclose inside information that directly concerns them as soon as possible. Where judgment is used and the FCA has questions on the decisions reached, issuers who maintain contemporaneous and complete records of decisions and actions regarding the disclosure of inside information will find it easier to reconstruct and justify their approach.

Delayed disclosure

In addition to the FCA referring to the limitations upon delaying disclosure of inside information generally, it indicates that if the issuer has made previous statements or given signals that have created market expectations, it would be likely to mislead the public if the disclosure the issuer intends to delay is materially different from those statements or in contrast to such expectations. Issuers must also be able to ensure the confidentiality of inside information when delaying disclosure. This could include considering their arrangements for how it is securely accessed, stored, and communicated.

The FCA adds that, given market uncertainties and changed working arrangements, issuers need to be extra vigilant about the possibility of leaks and rumours, and identify whether there has been a breach of confidentiality. It recommends that issuers should prepare holding announcements to be used if there is an actual or likely breach.

Natural persons handling inside information

It is important to note that information may become inside information when it is combined with other information already held by a particular person.

Selective disclosure

The FCA emphasises that any person handling inside information should ensure that it is only disclosed where disclosure is necessary in the normal exercise of employment, a profession, or duties. Inside information cannot be selectively disclosed to any person simply because they owe a duty of confidentiality.  For example, it must be necessary for issuers and advisors to disclose inside information to members of staff even when they are already included on relevant insider lists.

Market soundings

The MAR market soundings regime provides a framework for controlling inside information when market participants undertake wall-crossings. The FCA reminds that disclosing market participants must maintain appropriate records of their interactions, for example, through recorded lines or written minutes.

Personal account dealing ("PAD")

Given the potentially heightened risks of PAD by staff working from home, firms should consider and ensure that they have appropriate controls around PAD, including assessing how they manage conflicts of interest and the risk of market abuse.

Short selling

The FCA reiterates the restrictions on uncovered short-selling, net short position reporting and short selling monitoring and restrictions.

Managing conflicts when providing corporate finance facilities

As stated in their Dear CEO letter  from the end of April, the FCA has heard reports of a small number of banks failing to treat their corporate clients fairly when negotiating new or existing debt facilities, by using their lending relationship to exert pressure on corporate clients to secure roles on equity mandates that the issuer would not otherwise appoint them to. The FCA again reiterates that firms should compete on the merits of their services and terms rather than imposing undue pressure on issuers or restricting their choice.

Market conduct during credit events

Recapitalisation exercises involve many forms of valuable and legitimate engagement between issuers and their creditors, including those which also hold positions in credit default swaps (CDS). 

The FCA has previously set out its concerns regarding what it refers to as “opportunistic strategies” and their adverse impact on the integrity, confidence and reputation of markets.  The FCA says it expects market participants to comply with their obligations under MAR in this area and will continue to monitor and enforce against any breaches identified. It says issuers may wish to consider how creditors’ motivations may be influenced by other financial instruments they hold and how such motivations could affect them, and seek advice about whether there are ways to protect their interests.

Market surveillance

The FCA indicates that reviewing and updating risk assessments in response to Coronavirus could enable firms to modify their surveillance systems to ensure they remain adequately and appropriately calibrated to detect any new or heightened market abuse risks.

Future investor claims and enforcement activity?

It remains to be seen whether the current crisis will lead to a similar wave of mis-selling and negligence claims as occurred after the 2008 global financial crisis. One can imagine, however, that one area where any future claims may arise is in relation to issuers having been alleged to not have disclosed, or delayed disclosure of, material information regarding their financial performance or access to government schemes.

For present purposes, however, the FCA has made it clear that during this period, it will be monitoring both primary market and associated secondary market activities to identify behaviours which may impact the integrity and orderly functioning of the market and that where necessary, it will use its enforcement powers to take action against those breaching its rules.