chapter 10.3 Standard 2: Integrity of capital markets Flashcards
What is “Material” Information?
Information is material if it would affect the security price or reasonable investors would want to know the information before making a buy or sell decision.
the materiality of the information depends on the specificity of the information, the extent of its difference from public information, its nature, and its reliability. Examples include information on earnings, mergers, new products, or management changes.
The substance, specificity, and source must be considered to determine materiality.
What Constitutes “Nonpublic” Information?
Information is nonpublic until it has been made available to the marketplace in general.
Mosaic Theory
analysts are free to act on the consolidation of public and nonmaterial nonpublic information.
Analysts seek to use all available information to add value to clients. Most of the information is gathered directly from the company, but the analyst should also talk to customers and suppliers.
The insight of analysts enhances the efficiency of markets. The analyst should document research to prove material nonpublic information was not used.
Recommended Procedures for Compliance
Standard II(A): Material Nonpublic Information
Seek public dissemination of information, usually by encouraging the issuing company to make the information public. If this does not work, the member or candidate should not act or cause others to act on the information.
Encourage the firm to adopt compliance procedures.
Encourage the firm to adopt disclosure procedures so information can be shared with the public in an equitable manner.
Encourage the firm to issue press releases before or right after analyst meetings.
Establish firewalls to limit the communication of material nonpublic information within the firm.
–> Physical separation of departments can be beneficial.
revent personnel overlap between certain departments in multiservice firms, such as a bank’s commercial lending with trust and research.
Establish a reporting system to review and approve communications between departments. A single compliance officer should have the authority to approve.
Monitor personal and proprietary trading. Employees should submit reports of personal trading. Securities should be placed on a restricted list when the firm has material nonpublic information.
Maintain written records of communication between departments
Communicate compliance policies and guidelines to all employees.
Information-based manipulation
includes spreading false rumors to induce trading, commonly known as a “pump-and-dump” strategy. Often this includes implying independence of reporting when there is a clear conflict of interest.
Transaction-based manipulation
includes transactions that artificially affect prices or volume. It also could entail controlling a financial instrument to manipulate a derivative price. The intent is critical in determining if a violation has occurred. For example, trading a large block of an illiquid stock may cause a significant price change, but this is permissible if it is part of a legitimate trading strategy. Similarly, a broker-dealer providing artificial liquidity for a stock is permissible if this is adequately disclosed to investors.
