SFA: Inside information and equity-related derivatives

Board Notice 387 (January 1997) distributed the SIB's advice on inside information and equity-related derivatives. SFA has now issued guidance on the internal controls which it expects to see to comply with the original SIB advice covering the use of equity-related derivatives where a firm or its customer has inside information relating to the underlying equities concerned.

SFA considers the compliance issues arising to be very similar to those arising out of Part V of the Criminal Justice Act governing insider dealing. SFA does not believe that the SIB's advice requires additional internal controls, but expects relevant staff to be aware of what the SFA's advice prohibits.

The prohibitions cover:

• buying or selling an indirect stake where as a result of inside information that stake could not properly have been bought or sold as a direct stake on the open market; and
• enabling a customer to buy or sell an indirect stake where the firm knows or has reason to believe that as a result of inside information a customer could not properly buy or sell an indirect stake on the open market.

In both cases, the criminal law defences of "equality of information" and "bid facilitation" are not available in the regulatory context.

The awareness of SFA's new guidance should probably be combined with a revisiting of the requirements of the Criminal Justice Act 1993 as they effectively work in tandem.

SFA consults on changes to enforcement and disciplinary procedures

In Board Notices 466 and 467, the SFA has set out a number of proposed changes in the light of a general review of its Rulebook. These apply to the procedures relating to disciplinary action, SFA's penalty policy and SFA's enforcement rules.

Disciplinary action

SFA has laid down the criteria which lead to it being likely that it will take disciplinary action:

• when it discovers issues itself, particularly if the firm was aware of the problem but had not disclosed it;
• when the issue affects the fitness and proprietary of individuals or firms;
• when the issue reveals systemic weakness in the firm;
• when the issue is compounded by a failure to co-operate with SFA;
• when the issue is a "repeat breach"; and
• when the issue includes a failure to compensate where compensation is due.

However, SFA has made it clear that it will give credit to firms which disclose issues to it. Specifically, "if a firm with adequate controls discovers an issue in a timely way and promptly informs SFA, giving the full facts together with the proposed course of remedial action, disciplinary action will be very much less likely". Any action which may be taken would be likely to receive a significantly discounted penalty for being open with SFA about the problem.

Revised penalty policy

The SFA has revised their previously issued penalty policy relating to firms with a number of minor amendments. For the first time SFA has also issued a similar list of offences in relation to those who are individually registered. This makes it clear that the following will generally result in expulsion from SFA's register:

• misconduct involving lack of integrity or fair dealing;
• misconduct involving a refusal to co-operate with SFA;
• misconduct involving a deliberate misleading of SFA;
• a conviction in respect of dishonesty;
• finding of fraud, misfeasance or other misconduct by a civil court;
• expulsion by any other regulatory or professional body;
• an order of disqualification either as a director or from acting in the management or conduct of the affairs of a company;
• gross incompetence/reckless conduct.

Precedents

Both the SFA and regulated firms have always paid great attention to the precedents which arise as a result of previous disciplinary actions. These are all published in Board Notices.

SFA has now announced that it intends to increase these penalties by a factor of 4 in relation to firms and a factor of 2 in relation to registered persons. This is a very clear indication of SFA's intentions for the remainder of its existence.

Enforcement rules

SFA has also announced its intention to make a number of minor changes to its enforcement rules.