Standards II(A) And II(B)
- II Integrity of Capital Markets
- II(A) Material Nonpublic Information. Members and Candidates who possess material nonpublic information that could affect the value of an investment must not act or cause others to act on the information.
Guidance Information is “material” if its disclosure would impact the price of a security or if reasonable investors would want the information before making an investment decision. Ambiguous information, as far as its likely effect on price, may not be considered material. Information is “nonpublic” until it has been made available to the marketplace.
An analyst conference call is not public disclosure. Selectively disclosing information by corporations creates the potential for insider trading violations. The prohibition against acting on material nonpublic information extends to mutual funds containing the subject securities as well as related swaps and options contracts.
Some members and candidates may be involved in transactions during which they receive material nonpublic information provided by firms (e.g., investment banking transactions). Members and candidates may use the provided nonpublic information for its intended purpose, but must not use the information for any other purpose unless it becomes public information.
Guidance, Mosaic Theory There is no violation when a perceptive analyst reaches an investment conclusion about a corporate action or event through an analysis of public information together with items of nonmaterial nonpublic information.
Guidance, Social Media When gathering information from internet or social media sources, members and candidates need to be aware that not all of it is considered public information. Members and candidates should confirm that any material information they receive from these sources is also available from public sources, such as company press releases or regulatory filings.
Guidance, Industry Experts Members and candidates may seek insight from individuals who have specialized expertise in an industry. However, they may not act or cause others to act on any material nonpublic information obtained from these experts until that information has been publicly disseminated.
Recommended Procedures for Compliance Make reasonable efforts to achieve public dissemination of the information. Encourage firms to adopt procedures to prevent misuse of material nonpublic information. Use a “firewall” within the firm, with elements including:
- Substantial control of relevant interdepartmental communications, through a clearance area such as the compliance or legal department. Review employee trades, maintain “watch,” “restricted,” and “rumor” lists.
- Monitor and restrict proprietary trading while a firm is in possession of material nonpublic information.
Prohibition of all proprietary trading while a firm is in possession of material nonpublic information may be inappropriate because it may send a signal to the market. In these cases, firms should take the contra side of only unsolicited customer trades.
Application of Standard II(A) Material Nonpublic Information Example 1:
A member’s dentist, who is an active investor, tells the member that based on his research he believes that Acme, Inc., will be bought out in the near future by a larger firm in the industry. The member investigates and purchases shares of Acme.
Comment:
There is no violation here because the dentist had no inside information but has reached the conclusion on his own. The information here is not material because there is no reason to suspect that an investor would wish to know what the member’s dentist thought before investing in shares of Acme.
Example 2:
A member received an advance copy of a stock recommendation that will appear in a widely read national newspaper column the next day and purchases the stock.
Comment:
A recommendation in a widely read newspaper column will likely cause the stock price to rise, so this is material nonpublic information. The member has violated the Standard.
Example 3:
A member trades based on information he gets by seeing an advance copy of an article that will be published in an influential magazine next week.
Comment:
This is a violation as this is nonpublic information until the article has been published.
- II(B) Market Manipulation. Members and Candidates must not engage in practices that distort prices or artificially inflate trading volume with the intent to mislead market participants.
Guidance This Standard applies to transactions that deceive the market by distorting the price- setting mechanism of financial instruments or by securing a controlling position to manipulate the price of a related derivative and/or the asset itself. Spreading false rumors is also prohibited.
Application of Standard II(B) Market Manipulation Example 1:
A member is seeking to sell a large position in a fairly illiquid stock from a fund he manages. He buys and sells shares of the stock between that fund and another he also manages to create an appearance of activity and stock price appreciation, so that the sale of the whole position will have less market impact and he will realize a better return for the fund’s shareholders.
Comment:
The trading activity is meant to mislead market participants and is, therefore, a violation of the Standard. The fact that his fund shareholders gain by this action does not change the fact that it is a violation.
Example 2:
A member posts false information about a firm on internet bulletin boards and stock chat facilities in an attempt to cause the firm’s stock to increase in price.
Comment:
This is a violation of the Standard.