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1
Insider Trading Laws in New Zealand: From Potential to
Disappointment
Sarina Whitlock
A thesis submitted in partial fulfillment of the degree of Master of Laws at the University
Auckland.
June 2017
2
I Abstract
New Zealand’s trading regime was initially based on fiduciary duties and confidentiality. Where a person
owed a duty of confidentiality to the company, they could not make a gain or avoid a loss by acting on
information not available to the public.
1
,
2
In 2008, New Zealand's trading laws went through an overhaul,
introducing a wider regime based on market efficiency, prohibiting trading by any person in possession of
insider information.
3
This regime followed through to the Financial Markets Conduct Act
4
(FMCA).
Between the introduction of the 2008 regime and 2017’s Eroad case, there were no actions against insider
conduct in New Zealand.
5
This has led to some theorists criticising the lack of enforcement of New
Zealand's insider trading laws. Walker, a Professor of Commercial Law at La Trobe University School of
Law, Melbourne, Australia argues that New Zealand's insider trading regime contains many weaknesses,
6
and that the regime is not effectively enforced when compared with Australia.
7
Bhattacharya, a finance professor at the Hong Kong University of Science and Technology, also stated the
enforcement of New Zealand’s regime is disappointing due to the lack of prosecutions.
However, critics have not examined New Zealand’s law and enforcement in light of how effectively New
Zealand’s insider trading and financial legislation has met its purposes. They focus predominantly on the
amount of prosecutions against insider traders as being the only benchmark for what constitutes a good
insider trading regime for New Zealand.
This thesis establishes the four key purposes of New Zealand's insider trading regime, examining whether
the insider trading laws and enforcement are supporting these purposes. They include the promotion of
investor confidence; fair, efficient and transparent financial products; providing timely, accurate, and
understandable information to assist in decision-making relating to financial products; and effective
deterrence and monitoring.
Where it is not possible to obtain the data within the realms of this paper, further study will be suggested.
This thesis concludes that New Zealand’s regime is meeting some of its purposes, however more study is
1
Cabinet Economic Development Committee for Ministry of Business, Innovation & Employment
"Review of Securities Trading Law: Insider Trading" (24 July 2003) at 15.
2
Securities Markets Act 1988, ss 7, 9 and 11.
3
Securities Commission Insider Trading: Report to the Minister of Justice (1987) at 15.
4
Financial Markets Conduct Act 2013.
5
“FMA Files charges for insider trading” (9 March 2017) Financial Markets Authority
<www.fma.govt.nz>.
6
Gordon R Walker and Andrew F Simpson “Insider Conduct Regulation in New Zealand: Exploring the
Enforcement Deficit” [2013] NZ L Rev 521 at 536.
7
At 541.
3
required. Overall it appears that the regime does not deserve all the criticism it has received, although it is
not flawless. Where appropriate, changes to New Zealand’s law are suggested, including an improved
whistleblowing regime, larger penalties, interception devices and more FMA awareness.
4
II Glossary
ASIC
Australian Securities and Investments Commission
ASX
Australian Stock Exchange
CA
Companies Act 1993
CFD
Contracts for difference
CL
Common Law
CorpA
Corporations Act 2001 (Cth)
EMH
Efficient Market Hypothesis
FMA
Financial Markets Authority
FMAA
Financial Markets Authority Act 2011
FMA’s Survey
FMA’s Investor Confidence Survey
FMCA
Financial Markets Conduct Act 2013
GFC
Global Financial Crisis
IPO
Initial public offering
MAM
Milford Asset Management Ltd
MBIE
Ministry of Business, Innovation & Employment
MBRs
NZX Main Board/Debt Market Listing Rules
MED
Ministry of Economic Development
NYSE
New York Stock Exchange
NZX
New Zealand Stock Exchange
NZMDT
New Zealand Markets Disciplinary Tribunal
PEB
Pacific Edge limited
SCom
The Securities Commission
SEC
The Securities and Exchange Commission
SFO
Serious Fraud Office
SMA
Securities Markets Act 1988
5
III Contents
I ABSTRACT ................................................................................................................... 2
II GLOSSARY .................................................................................................................. 4
III CONTENTS ................................................................................................................... 5
IV INTRODUCTION ......................................................................................................... 7
V BACKGROUND ........................................................................................................... 9
A Pre-1988 ........................................................................................................................ 9
B Securities Markets Act 1988 ........................................................................................ 10
C 2008 Regime ................................................................................................................ 12
VI CURRENT REGIME ................................................................................................... 14
A Information Insider ...................................................................................................... 14
B Insider Conduct ............................................................................................................ 16
C Legitimate Trading ....................................................................................................... 17
VII PROSECUTIONS ........................................................................................................ 18
A Criticisms ..................................................................................................................... 19
VIII REGIME PURPOSES.................................................................................................. 21
A Themes ...................................................................................................................... 22
IX PROMOTING CONFIDENCE .................................................................................... 23
A Liquidity ...................................................................................................................... 23
B Survey ...................................................................................................................... 27
C Conclusion ................................................................................................................... 28
X FAIR, EFFICIENT, AND TRANSPARENT FINANCIAL MARKETS .................... 30
A FMA Survey ................................................................................................................. 32
B Conclusion ................................................................................................................... 33
XI TIMELY, ACCURATE, AND UNDERSTANDABLE INFORMATION ................. 34
A Continuous Disclosure ................................................................................................. 34
B Director Disclosure ...................................................................................................... 35
C Conclusion ................................................................................................................... 38
XII DETERRENCE AND MONITORING ....................................................................... 39
A NZX ...................................................................................................................... 39
B NZX Participants.......................................................................................................... 41
C FMA ...................................................................................................................... 43
D Conclusion ................................................................................................................... 44
XIII MINIMAL PROSECUTIONS ..................................................................................... 45
6
A Elimination of Insider Trading ..................................................................................... 45
B Enforcement Deficit ..................................................................................................... 45
C Catching Insider Traders .............................................................................................. 46
D Jurisdiction Comparisons ............................................................................................. 47
XIV REGIME CHANGES .................................................................................................. 48
A Whistleblowers............................................................................................................. 48
B Larger Penalties............................................................................................................ 51
C Interception Devices .................................................................................................... 53
D FMA Awareness .......................................................................................................... 55
E Conclusion ................................................................................................................... 55
XV CONCLUSION ............................................................................................................ 56
XVI BIBLIOGRAPHY ........................................................................................................ 58
7
IV Introduction
Insider ‘trading’, ‘dealing’ or ‘conduct’ is prohibited in over 90 countries, with most
jurisdictions applying both criminal penalties, and civil consequences, to the trader or
person who disseminates inside information.
8
Prohibited insider conduct varies between
countries, but it is generally defined as the sale or purchase of securities when in
possession of non-public information.
9
The phrase 'insider trading' can also be used to describe legal conduct, such as an
employee or corporate insider who trades in the company's securities. For example, a
director of Ryman who purchases Ryman shares. However, for the purposes of this
thesis, where the term 'insider trading' or 'insider trader' is used, it is a reference to
prohibited behaviour, unless specified otherwise.
The differences in prohibited conduct between jurisdictions stem from the harm the law
of that country is trying to avoid, policy objectives or economic improvement. For
example, the United States’ regime is based on the misappropriation theory due to the
importance of protecting the rights of owners of information.
10
In contrast, Australia's
insider trading regime focuses on the nature of the information itself, capturing a wider
net of traders.
11
The ethics around insider trading are still debated amongst theorists.
12
While it may
depend on the particular definition used, proponents of insider trading argue that it is
immoral to prohibit it because long-term investors remain unharmed by insider trading
13
and entrepreneurial activity should be rewarded with the ability to trade on that
knowledge.
14
By this argument company officers should not have lesser rights to trade;
8
Walker and Simpson, above n 6, at 521.
9
Dictionary of New Zealand Law (online ed, LexisNexis) at “insider trading”.
10
United States v O'Hagan 521 US 642 (1997).
11
L Mannolinu “Insider Trading - The need for conceptual clarity” (1996) 14 C&SLJ 151.
12
Yulong Ma and Huey-Lian Sun “Where Should the Line Be Drawn on Insider Trading Ethics?” (1998)
17 JBE 67 at 67.
13
Henry G Manne “In Defense of Insider Trading” (1966) 44 HBR 113 at 114-115.
14
Henry G Manne “Entrepreneurship, Compensation, and the Corporation” (2011) 14 Quarterly Journal of
Economics 3 at 11.
8
they should be able to use their own skill and judgment to transact as ordinary
shareholders.
15
As insider information will be reflected in the shareprice, risk averse
investors will not be deterred from trading.
16
By this theory, firms making investment
decisions can reduce risk and improve performance as the price reflects better
information.
17
Notwithstanding these arguments, insider trading regimes have been implemented in
most developed countries. The prohibition of insider trading focuses around morality and
the criminal law concepts of theft and deceptive conduct. Someone who has sustained a
loss or made less of a gain is considered to be a victim. However, unlike the victims of
traditional crimes such as theft, a victim of insider trading may be unaware that they are a
victim.
18
Where insider trading is lawful, willing investors will be scarcer as the market is
an uneven playing field, prices will be lower to attract investors, and less investment will
occur. This increases the cost of capital for companies because where capital is sought via
public offering, the volatile or illiquid market will reduce enthusiasm and uptake.
19
In
addition, shares are sometimes exchanged for services. However, if the market is
perceived as inequitable, service providers may only accept cash as payment. Countries
with good insider trading regimes are considered to have fairer market places, have
higher investor confidence and are likely to produce a more liquid market.
20
Liquidity has
different meanings depending on the context, but in relation to a market, liquidity is the
ease with which a share can be sold for cash.
21
In recent years, comparisons of New Zealand's regime have been drawn with other
jurisdictions, predominantly Australia and the United States. Between the introduction of
New Zealand's 2008 regime and 2017’s Eroad case, there were no prosecutions for
15
D Martin and J Peterson “Insider Trading Revisited” (1991) 10 JBE 57.
16
Hayne E Leland “Insider Trading: Should it be Prohibited?” (1992) 100 J Polit Econ 859 at 861.
17
At 860.
18
Michael K Shaub “So what's wrong with insider trading?” (4 April 2011) Mays Business School
<www.mays.tamu.edu>.
19
Leland, above n 16, at 860.
20
At 875.
21
Bryan Gaynor “Our small NZX and why liquidity matters” (28 March 2015) Milford Asset Management
<www.milfordasset.com>.
9
insider conduct.
22
This has led to criticism that New Zealand's regime is inadequate,
however these studies have not looked at the purposes of the regime, only the amount of
actions against insider traders.
This thesis will discuss insider conduct on the New Zealand Stock Exchange (NZX),
unless stated otherwise. The focus will on the trading of shares, although New Zealand’s
insider trading regime also applies to other securities and derivatives.
23
V Background
A Pre-1988
Insider trading legislation and regulations have undergone many overhauls since 1988.
Initially, a victim of insider trading could get restitution only from the Common Law
(CL) and the Companies Act 1993 (CA).
24
The CL generally held that insider trading was
a breach of the directors' fiduciary duties to not make a profit or avoid loss by using a
company’s insider information to trade in securities.
25
However, this is a duty owed to a
company only by its directors.
26
In Coleman v Myers
27
it was acknowledged that fiduciary duties were not owed to the
shareholders by directors, although this may depend on the facts of the case.
28
Here, it
was held that directors of a private company had breached a fiduciary duty to minority
shareholders by inducing them to sell their shares at undervalue, while failing to disclose
material information. The director had told the minority shareholders a property would
remain an asset of the company, but actually, he had privately negotiated to sell it to
property consultants at a premium.
22
“FMA Files charges for insider trading”, above n 5.
23
Financial Markets Conduct Act, s 241.
24
Walker and Simpson, above n 6, at 524.
25
Peter Ratner and Cathy Quinn Insider Trading (New Zealand Law Society Seminar, 1990) at [1.1].
26
Percival v Wright [1902] 2 Ch 401.
27
Coleman v Myers [1977] 2 NZLR 225 (SC).
28
At 330 per Mahon and Cooke JJ.
10
Here the Supreme Court distinguished the case as one requiring a duty owed to individual
shareholders due to:
(1) the family character of the company;
(2) the fact that there was a relationship of trust and confidence between the directors
and shareholders; and
(3) the directors’ inside knowledge.
This fiduciary duty to a shareholder would therefore usually apply only in small, private
companies of a family-nature. Consequently, a member of the public who suffered a loss
from insider trading of a public company could not receive any reparation for a breach of
fiduciary duty, because there is not a relationship of trust and confidence.
29
Other solutions for private companies were found in the CA. It imposes on directors a
duty not to disclose or make use of non-public information.
30
Section 149 also places
restrictions on share dealing by directors to buy or sell shares only at fair value where
directors hold material inside information.
31
‘Fair value’ is determined by considering all
information known to the director available at the time of the transaction.
32
Unfortunately, s 149 expressly excludes public issuers.
33
Therefore, no actions were
available to the victims of insider trading of public companies under the CL or CA.
B Securities Markets Act 1988
The first legislated insider trading regime was introduced by the Securities Markets Act
1988 (SMA), which regulated the secondary market.
29
Walker and Simpson, above n 6, at 525-526.
30
Companies Act 1993, s 145(1).
31
Section 149.
32
Section 149(2).
33
Section 149(6).
11
The purpose of the SMA was to:
34
(1) promote investor protection by introducing disclosure requirements and private
rights of action; and
(2) restore investor confidence in the market after the market crash in 1987.
Rules around insider trading shifted from a focus of fiduciary duty to one of
confidentiality. Part 1 of the SMA stated that in situations where a person owed a duty of
confidentiality to the company, they could not make a gain or avoid a loss by acting on
information not available to the public.
35
,
36
This was a wider regime than the CL rule; it
captured other third parties who had a duty of confidentiality to the company such as
accountants, financial advisors or lawyers. However, other unrelated persons who were
exposed to insider information could lawfully trade on it. For example, where a person on
a train overhears a director discussing an upcoming announcement.
Another flaw was that the company, or shareholders on behalf of the company, were
responsible for bringing any actions against insider conduct;
37
the Securities Commission
(SCom), now the ‘Financial Markets Authority’ (FMA), did not have enforcement
powers. Their role was simply as watchdog.
Private enforcement was not appropriate because a shareholder:
38
(1) may not know they are a victim of insider trading;
(2) will usually lack the ability to prove that there was any insider trading; and
(3) may not have financial resources to start any action against the insider.
34
Peter McKenzie “Reflections on a Decade with the Securities Commission 1985-1995” (1995) 6 Canta
LR 215 at 215.
35
Cabinet Economic Development Committee for Ministry of Business, above n 1, at 15.
36
Securities Markets Act, ss 7, 9 and 11.
37
Morison's Securities Law (NZ) (online ed LexisNexis) at ‘Insider conduct prohibited (ss 240–244)’.
38
Walker and Simpson, above n 6, at 526.
12
The Securities Amendment Act 2002 was introduced, giving the SCom new powers
under ss 18A-18E of the SMA. Most notable was the ability to bring an action against
insider conduct; no longer relying on private actions.
The SCom used its power to bring actions in two cases:
(1) Tranz Rail,
39
where the case failed due to a two year limitation period with respect
to pecuniary penalties. However, the case settled for $27,500,000 in
compensation.
(2) Provenco,
40
where the case ended in a $27,700,000 settlement.
C 2008 Regime
In 2003, a new regime based on market efficiency and fairness was proposed.
41
This
aimed to reinstate market integrity and confidence in the market, focusing on the trading
of inside information, rather than the relationship between a person and the company,
42
thus capturing a wider net of potential insiders.
43
In February 2008 a market efficiency regime came into force,
44
modeled from Australian
law.
45
Australia’s regime prohibits trading by a person in possession of inside information
where that person knows, or ought to reasonably know that it is insider information.
46
This post-2008 regime aimed to increase market confidence by prosecuting those who try
to gain an unfair advantage trading on material inside information, as all investors should
have equal access to the same information.
47
,
48
This is thought to negate the ability of
39
Securities Commission v Midavia Rail Investments BVBA [2007] 2 NZLR 454 (CA).
40
Securities Commission v Provenco Group Ltd HC Auckland CIV-2004-404-7107, December 2004.
41
Cabinet Economic Development Committee, above n 1
42
At 16.
43
L Mannolinu “Insider Trading - The need for conceptual clarity” (1996) 14 C&SLJ 151.
44
Securities Markets Amendment Act 2006.
45
Corporations Act 2001 (Cth), pt 7.10, div 3.
46
Section 1043A.
47
Securities Commission, above n 3, at 15.
48
ASIC v Petsas & Miot [2005] FCA 88 at 11 per Finklestein J.
13
those who are not direct insiders to damage confidence in the market.
49
A decrease in
investment leads to the cost of capital for companies rising;
50
fewer people will wish to
purchase shares, which leads to problems for companies seeking external finance through
initial public offerings (IPOs) or additional offerings.
51
Under New Zealand’s 2008 regime, an offence was committed where a person with
insider information of a public company:
(1) traded in securities of that company;
52
(2) disclosed the insider information, knowing the recipient was likely to trade on that
information;
53
or
(3) advised or encouraged a person who is likely to trade on that information of the
company.
54
In May 2011 FMA was established to replace the SCom under the Financial Markets
Authority Act (FMAA),
55
which brought with it wider information-gathering and
enforcement powers. For example, it allows FMA to obtain search warrants to enter and
search "a place, vehicle or other thing" to establish whether a person is engaging in
conduct that contravenes financial markets legislation.
56
These additional enforcement
powers give the ability to further hinder insider trading.
49
Sophie Anne Cunliffe “Materiality in Insider Trading: An obstacle to enforcement and compliance”,
(LLB (Hons) dissertation, University of Otago, 2007) at 4.
50
R v Doff [2005] NSWCCA 119 at [56].
51
Rafael La Porta, Florencio Lopez-de-Silanes, Andrei Shleifer and Robert Vishny, “Law and Finance”
(1998) 106 J Polit Econ 1113.
52
Securities Markets Act, s 8C.
53
Section 8D.
54
Section 8E.
55
Financial Market Authority Act 2011.
56
Financial Markets Authority Act 2011, s 29.
14
VI Current Regime
In September 2013 the FMCA came into force. This Act was a complete overhaul of New
Zealand’s financial legislation, consolidating various financial markets' regimes
57
with
the purpose of improving financial markets’ conduct and restoring investor confidence.
58
The SMA insider trading regime was transferred to the FMCA, with only a few minor
adjustments:
59
(1) The FMCA expressly prohibits insider trading of derivatives.
(2) Insider trading only applied to quoted securities rather than any securities of a
public issuer.
A Information Insider
Insider trading is set out in Part 5
60
of the FMCA, creating the concept of an 'information
insider' of a listed issuer. This is a person who:
(1) has material information relating to an issue that is not generally available to the
market;
61
(2) knows, or ought to reasonably know, that the information is material;
62
and
(3) knows, or ought to reasonably know, that the information is not generally
available to the market.
63
57
MinterEllisonRuddWatts The Financial Markets Conduct Act 2013 & The Financial Markets Conduct
Regulations 2016: A Roadmap (11th ed, MinterEllisonRuddWatts, 2016) at 5.
58
At 4.
59
Financial Markets Authority A Guide to the Financial Markets Conduct Act 2013 Reforms (November
2013) at 18.
60
NZX NZX Participant Guidance Note: Trading Conduct (February 2017) at 14.
61
Financial Markets Conduct Act, s 234(1)(a).
62
Section 234(1)(b).
63
Section 234(1)(b).
15
The same also applies to derivatives, the underlying asset, and the issuer of a financial
product underlying the derivatives.
64
A listed issuer can also be an information insider of
itself.
65
Material information is information that:
(1) a reasonable person would expect, if it were generally available to the market, to
have a material effect on the price of quoted financial products of the listed
issuer;
66
and
(2) relates to particular financial products of a particular listed issuer.
67
1 Reasonable person
The concept of the ‘reasonable person’ was taken from the Australia’s Corporations Act
(CorpA).
68
Under this Act a reasonable person would:
69
… expect information to have a material effect on the price or value of … financial
products if … the information … would be likely to, influence persons who
commonly acquire … financial products in deciding whether or not to [transact in]
financial products.
This implies a reasonable investor test. However, this section was not been adopted in
New Zealand regime, increasing the significance of the ‘reasonable person’ test.
70
Roger Partridge, a partner at Bell Gully, argues that this reasonable investor test is
“inconsistent with the rationale for the prohibition on insider trading.”
71
64
Section 234(3).
65
Section 234(2).
66
Financial Markets Conduct Act, s 231(1)(a).
67
Section 231(1)(b).
68
Corporations Act, s 1042A.
69
Section 1042D.
70
Cunliffe, above n 49, at 11.
71
Roger Partridge “Insider Trading Reform” [2006] NZLJ 311 at 311.
16
In NZX’s opinion, the reasonable person is someone who “commonly invests in
securities, and holds such securities for a period of time, based on their view of the
inherent value of the securities”
72
, therefore making it a reasonable investor test. In
Auckland International Airport it was also held the reasonable person was someone who
had knowledge of the financial markets and its regimes.
73
Although these definitions are
not as explicit as the Australian definition, they still imply the reasonable person is a
market savvy person who understands the causes of securities and market fluctuations.
The pre-2008 regime only required that the insider had possession of insider information.
However, the post-2008 amendment introduced the requirement for actual knowledge
that the information is material and not generally available to the public.
74
This
requirement for actual or constructive knowledge potentially narrows the group of people
who can be made liable under the Act. It does however, simultaneously add the concept
of the ‘reasonable person’, which has the ability to widen the group.
75
B Insider Conduct
Under s 241 of the FMCA, an information insider must not trade listed financial products
of the issuer. ‘Trade’ means to acquire or dispose of the product, although excludes
acquisition or disposal by inheritance or gift.
76
Both 'acquire' and 'dispose of' have wide
definitions, which include ‘transferring’ and ‘agreeing’ to acquire or dispose of a
security.
77
,
78
72
NZX Continuous Disclosure Guidance notes (December 2014) at 5.
73
Auckland International Airport v Auckland International Airport [2006] 9 NZCLC 264 (HC) at [57] per
Harrison J.
74
Morison's Securities Law (NZ), above n 37, at ‘Insider conduct (s 234)’.
75
Partridge, above n 71, at 311.
76
Financial Markets Conduct Act, s 241.
77
Section 6(1).
78
Section 6(1).
17
In addition to trading:
79
an information insider (A) … must not directly or indirectly disclose inside
information to another person (B) if A knows or ought reasonably to know or
believes that B will, or is likely to:
(a) trade quoted financial products of the listed issuer; or
(b) advise or encourage another person (C) to trade or hold those products.
and:
80
An information insider (A) ... must not:
(a) advise or encourage another person (B) to trade or hold quoted financial products
of the listed issuer; or
(b) advise or encourage B to advise or encourage another person (C) to trade or hold
those financial products.
C Legitimate Trading
As New Zealand’s regime captures a broad net of people, exceptions and defences to
insider conduct have been made where it is good for market efficiency, and considered to
be appropriate market conduct.
81
The exceptions include, but are not limited to:
(1) situations where required to disclose information by law or when FMA are
exercising their powers;
82
(2) trading that results from a takeover offer;
83
and
(3) agents who are executing trading instruction only.
84
79
Section 242.
80
Section 243.
81
Cabinet Economic Development Committee, above n 1, at [18].
82
Financial Markets Conduct Act, s 245.
83
Section 252.
18
Defences include:
(1) an absence of knowledge of trading;
85
(2) the information was obtained by research and analysis;
86
(3) where there is equal information between two parties discussing the
information;
87
(4) options and trading plans;
88
and
(5) Chinese wall defence.
89
The research and analysis defence is considered to be one of the most important defences
as research might otherwise be stifled and “impede the flow of valuable market
information, compromising the efficiency and performance of markets”.
90
This would
compromise the purpose of the FMCA to promote innovation and flexibility in the
financial markets.
91
VII Prosecutions
All insider trading cases in New Zealand had been pre-2008 regime
92
until 9 March 2017
when FMA filed charges for insider trading at the Auckland District Court against a
current and former employee of Eroad under ss 241-243 of the FMCA. FMA alleged that
the current Eroad employee sent text messages to the ex-employee with private
information about Eroad’s performance in September 2015.
93
The ex-employee then
made a purchase of 15,000 Eroad shares with this information for approximately $54,000.
The current employee has plead guilty to the charge of advising or encouraging another
84
Section 251.
85
Section 257.
86
Section 258.
87
Section 259.
88
Section 260.
89
Section 261.
90
Cabinet Economic Development Committee, above n 1, at [19].
91
Section 4.
92
Stephen M Bainbridge Research Handbook on Insider Trading (Edward Elgar Publishing, 2013) at 401.
93
“FMA Files charges for insider trading”, above n 5.
19
person to trade quoted financial products of a listed issuer under s 243 of the FMCA. He
will be sentenced 13 June 2017. The ex-employee faces charges of trading with inside
information under s 241, but has yet to appear before the Court.
94
No other information is
currently available.
MinterEllisonRuddWatts, a reputable law firm in Auckland, believes that the case shows
FMA is active in relation to misconduct under the FMCA, which is now a "strategic
priority". They recommended market participants and issuers refresh their understanding
of the insider trading regime.
95
A Criticisms
The absence of prosecutions has attracted much criticism against the post-2008 and
current regime, including its enforcement.
Walker states that New Zealand’s insider trading laws are not effectively enforced when
compared with Australia. He compares Australia’s 29 prosecutions between 2008 and
2013 with New Zealand’s nil.
96
He concludes that New Zealand's insider conduct regime
is weak.
97
The main explanations behind this alleged inadequacy were:
(1) There has been a low priority given to insider trading due to the finance company
collapses in 2008, SCom therefore elected not to prosecute insider traders.
Although they conceded that finance company prosecutions were important due to
the large amount of money that was lost for retail investors, it was still considered
to be a reflection of the low importance of insider trading.
98
94
“Guilty plea in insider trading case” (11 April 2017) Financial Markets Authority <www.fma.govt.nz>.
95
“Defendant pleads guilty to insider trading on Eroad shares” (11 April 2017) MinterEllisonRuddWatts
<www.mintersellison.co.nz>.
96
Walker and Simpson, above n 6, at 521.
97
At 536.
98
At 541.
20
(2) Resource constraints were placed on the SCom. This also relates to the finance
company collapse due to the time and resources used, crowding out other finance-
related prosecutions.
99
Bhattacharya is harsher, stating New Zealand’s insider trading enforcement is
“disappointing”. He recollects that in 1999 he studied various sharemarket operators
asking:
(1) if there was an insider trading regime; and
(2) whether there had been any attempted prosecutions under the regime.
Bhattacharya was initially impressed with New Zealand as they were the first to reply
affirmatively to both questions. However, he now considers New Zealand to have an
extremely poor record of prosecutions, with only two actions being taken against insiders
since 1988 (and now a third in April 2017, the first prosecution under the FMCA). He
believes the issue is that New Zealand’s regulators are not confrontational enough, and
prefer a soft approach to market misconduct.
Bhattacharya believes the model jurisdiction for insider trading prosecutions is the
Securities and Exchange Commission (SEC) in the United States, with four prosecutions
per month on average (including market manipulation).
He states that the cost of equity rises if a country has insider trading laws that are not
enforced. Therefore having no insider trading laws would be better than having laws not
enforced.
100
,
101
This is based around game theory.
Where insider trading is lawful, all insiders will trade on their information. As all insiders
will be trading they will on average receive less profit as they have competed it away.
102
Where there is a law that is enforced, there is a good equilibrium; people consider the
99
At 544.
100
Garry Sheeran “‘Poor’ insider trading record” (29 June 2009) Stuff <www.stuff.co.nz>.
101
Utpal Bhattacharya “When No Law is Better Than a Good Law” [2009] Rev Financ 577.
102
At 560-561.
21
market fair, and therefore invest. As investment is lower risk than where there are no
insider trading laws, the cost of capital is lower for companies.
103
Where insider trading is illegal but not enforced, some insiders will trade, while others
feel morally obligated to follow the law. The insiders who do trade will gain an even
greater advantage over the law abiders. Those who did not trade on insider information
will be worse off than if there were no insider trading regime. There will no longer be
confidence in the market, and therefore the cost of capital for companies will be higher.
However, Bhattacharya acknowledges that this theory does not necessarily hold true for
developed countries.
104
VIII Regime Purposes
These criticisms of New Zealand's regime focus on the lack of prosecutions against
insider traders. However, the intended purpose of New Zealand’s insider trading regime
should be used as a benchmark to determine whether New Zealand’s regime is
successful; the number of prosecutions may only be a partial measure of its success.
The mains purposes of the FMCA are to:
105
(1) promote the confident and informed participation of businesses, investors, and
consumers in the financial markets; and
(2) promote and facilitate the development of fair, efficient, and transparent financial
markets.
Promoting fair, efficient and transparent financial markets is also an objective of FMA.
106
103
At 560.
104
At 577.
105
Section 3.
106
Section 8.
22
The FMCA also has additional purposes to:
107
(1) provide for timely, accurate, and understandable information to be available to
persons to assist in decision-making relating to financial products or services;
(2) ensure that appropriate governance arrangements apply to financial products and
services that allow for effective monitoring and reduce governance risks;
(3) avoid unnecessary compliance costs; and
(4) promote innovation and flexibility in the financial markets.
Part 5 of the FMCA governs a variety of harms, including insider conduct, market
manipulation, and disclosure obligations. This part inserts the purposes of:
108
(1) promoting fair, orderly and transparent financial products; and
(2) encouraging the diversification of financial product markets to take account of the
differing needs and objectives of issuers and investors.
Cabinet discussion papers described the 2008 regime as one which aims to increase
confidence and investment in New Zealand’s financial market,
109
fairness,
110
and
effective enforcement.
111
A Themes
From these legislated purposes and pre-regime discussions, the main themes related to the
current New Zealand insider trading regime are to:
(1) promote investor confidence in the New Zealand market;
(2) promote fair, efficient and transparent financial products;
(3) provide for timely, accurate, and understandable information to assist in decision-
making relating to financial products; and
107
Section 4.
108
Section 229.
109
Cabinet Economic Development Committee, above n 1, at 17.
110
At 5.
111
At 15.
23
(4) effectively deter and monitor insider trading.
It should be noted that some of these purposes overlap.
IX Promoting confidence
The promotion of confidence in the New Zealand market is aimed at encouraging both
domestic and international companies, and investors to enter the sharemarket. A good
insider regime shows investors that the financial markets have integrity, are efficient and
comprise a level playing field, thereby encouraging higher participation.
112
This increase
in participation creates more economic activity - a more liquid market - and decreases the
cost of capital.
113
Where there is less liquidity, the cost of capital increases as investors
demand larger returns if investing in less liquid securities, or markets.
114
It has been
thought that there was a lack of confidence in New Zealand's market pre-2002 due to the
failed prosecutions in the early 1990's.
115
A Liquidity
In 2004 MBIE noted:
116
Countries that have effective and enforced insider trading regimes see 5% additional
liquidity in their markets ... the new insider trading regime will increase liquidity
thereby reducing the cost of capital to New Zealand business. This will assist
business growth and investment in innovation.
It is not cited what liquidity study MBIE was referring to, or how liquidity was measured.
However, assuming this statement is correct, liquidity should increase where an insider
trading regime has been introduced that investors believe is effective.
112
At 16.
113
At 17.
114
Thierry Foucault “Liquidity, Cost of Capital and the Organization of Trading in Stock Markets” (2006)
81 Revue d’economie financiere 113 at 115.
115
Aaron Gilbert, AllrezaTourani-Rad and Tomasz Piotr Wisniewski “Insiders and the Law: The Impact of
Regulatory Change on Insider Trading” (2007) 47 TP Manage Int Rev 745 at 765.
116
Cabinet Economic Development Committee, above n 1, at 17.
24
Therefore, to examine whether the current regime meets its goal of ‘promoting
confidence in the New Zealand market’ there should be research into market liquidity.
Two periods of time (before and after) could be measured around each major event for a
comparison. The first event should be the introduction of the market efficiency regime in
2008. This is to examine whether the introduction of the regime increased confidence,
and therefore liquidity in the market. Before and after the April 2017 Eroad prosecution
should also be measured to examine whether this gave investors a renewed or continued,
positive view about New Zealand’s regime and enforcement.
Liquidity can be measured in different ways:
(1) explicit costs, such as brokerage and trading fees, in addition with ‘implicit costs’-
price impacts borne by investors;
117
(2) the bid-spread ask of a security;
118
(3) the “total value of shares traded on a daily, monthly or yearly basis”;
119
(4) the average volume of trading;
120
(5) the value of daily trading divided by the market capitalisation.
121
The liquidity of the NZX 50 should be measured. This is New Zealand's main exchange
board, and therefore the most accurate reflection of the New Zealand market. The method
used must be suitable to measure a market, rather than a specific security.
There are three possible outcomes to the liquidity study before and after the 2008 regime:
(1) Liquidity increases. This shows an increase in confidence in the market. If
liquidity stays at this level, confidence has remained, despite there being no
117
Foucault, above n 114, at 115.
118
Michael Brennan and Avanidhar Subrahmanyam “Market Microstructure and Asset Pricing: On the
Compensation for Illiquidity in Stock Returns” [1996] JFE 441.
119
Gaynor, above n 21.
120
Daniella Acker, Matthew Stalker and Ian Tonks “Daily Closing Inside Spreads and Trading Volumes
around Earnings Announcements” (2002) 29 JBFA 1149.
121
Gilbert, Tourani-Rad and Wisniewski, above at 115.
25
prosecutions. This would mean the current regime is successful in its ‘market
confidence’ purpose. However, it is possible that there would be a temporary
increase, and then a decrease if the market believes there is no enforcement to
support this regime.
(2) Liquidity is unaffected. The market is indifferent about the change in insider
trading regime.
(3) Liquidity decreases. This shows market confidence has decreased due to the
change in insider trading regime. This is unlikely.
However, this study assumes that the market believed there was a fault with New
Zealand's insider trading regime pre-2008 regime.
Three results apply to a liquidity study before and after the Eroad case:
(1) Liquidity increases. This shows renewed confidence in the market due to the
prosecution. This could imply that the purpose was not being met previously, but
is being met post-Eroad.
(2) Liquidity is unaffected. The market is indifferent about the Eroad prosecution.
This could be because the market was already confident in the regime, or the
market believes the prosecution was unique, with no further prosecutions to
follow.
(3) Liquidity decreases. This is extremely unlikely given the nature of the event,
unless there was another variable affecting the results.
Unfortunately there are many variables which can affect market liquidity, which would
need to be eliminated from the study where possible. They include:
122
(1) macro drivers of liquidity: financial systems and structures;
(2) macro microstructure: various elements, including “trade execution systems,
transaction costs and price discovery mechanisms which include the transparency
of trading information and general information dissemination”;
123
122
IOSCO Emerging Markets Committee Factors Influencing Liquidity in Emerging Markets (December
2007).
123
At 4.
26
(3) regulatory reforms; and
(4) products and services: the introduction of online trading, the impact of different
types of market participants and their investment strategies. For example, hedging
strategies.
Unfortunately, the Global Financial Crisis (GFC), which occurred in 2008, happened at
the same time as the introduction of the market efficiency regime, thus rendering this
study ineffective; whether or not the regime would otherwise have boosted some investor
confidence could not be ascertained because confidence in the market was down heavily
due to the GFC anyway.
Conducting a study before and after the Eroad prosecution however, may have some
success. Liquidity can be measured using a simplified approach, using the total trading
value/market capitalisation of the NZX to observe a static picture for the relevant years
for comparison using NZX's full year operating metrics
124
before the Eroad prosecution.
In 2014 New Zealand's market capitalisation was $96.5 billion, and total values of trades
were $34 billion. Total trades-to-market-value were 35.23 per cent.
125
Compared to
Australia and the United States, this is a low percentage, with the Australian Stock
Exchange (ASX) trading at 73 per cent, the New York Stock Exchange (NYSE) at 94 per
cent and the NASDAQ at 445 per cent.
126
In 2015 and 2016 the total trades-to-market-
value percentages were 36.75 and 36.45 respectively. Although New Zealand has lower
liquidity than Australia and the United States, from year-to-year New Zealand’s market
liquidity has increased from 2014 to 2016 by 3.5 per cent.
127
This shows that confidence
may have been increasing during that time period. The trades-to-market-value should be
calculated in the years following the Eroad prosecution to examine whether liquidity has
continued to increase, and by what percentage. The results may indicate whether market
confidence has increased due to the prosecution. It should be noted that the figures above
124
“NZX Operating Metrics” NZX <www.nzx.com>.
125
“NZX Full Year Shareholder Metrics - Full Year 2014” NZX <www.nzx.com>.
126
Gaynor, above n 21.
127
“NZX Full Year Shareholder Metrics – Full Year 2014” NZX <www.nzx.com>; “NZX Full Year
Shareholder Metrics – Full Year 2015” NZX <www.nzx.com>; “NZX Full Year Shareholder Metrics – Full
Year 2016” NZX <www.nzx.com>.
27
are calculated from NZX’s Shareholder Metrics, which do not separate the NZX 50 from
the entire NZX equity market.
For a more accurate (but timely) measure of liquidity the spread of the bid/ask prices for
a representative sample of individual securities both before and after the Eroad
prosecution should be examined. If a share has a high volume of bidders, the price
individual sellers will be willing to sell the share for will be very similar, and there will
be only a small difference between the bid and ask price. In this instance, there is less
likelihood that a seller will have to trade at a loss when they require cash. If there is a
large gap in the price between investors bidding for the security, and those selling, the
security is illiquid, and buyers can receive discounts from sellers who may need to sell
their shares quickly.
128
If there appears to be a smaller gap between the bid-ask spread of the
sample of trades after the Eroad prosecution it may indicate that market confidence has
increased due to the prosecution.
B Survey
In line with the total trades-to-market-value result is FMA’s Investor Confidence Survey
(FMA’s Survey). It has been conducted annually since 2013 using a sample of 1,000
people using Colmar Brunton’s omnibus. This looks at investors’ attitudes towards, and
investment in New Zealand’s financial markets.
Options given to the question “how much confidence do you have in New Zealand’s
financial markets?” were:
129
(1) very confident;
(2) fairly confident;
(3) not very confident;
(4) not at all confident; and
(5) I don’t know.
128
“Liquidity” Investopedia < www.investopedia.com>.
129
Financial Markets Authority Attitudes towards New Zealand’s financial markets (May 2017) at 2.
28
In 2017 65 per cent were confident in investing in New Zealand’s market (‘very
confident’ or ‘fairly confident’). This is an increase from 2013, where 54 per cent of
respondents had confidence in New Zealand’s market. The biggest increase in confidence
was from those who were aware of FMA. (An increase from 69 per cent to 79 per cent
from 2016 to 2017). Confidence in those who were not aware of FMA increased from 49
per cent to 54 per cent.
130
Confidence among participants who owned shares or managed
funds increased by 3 per cent.
131
The survey also told participants that the “responsibility for ensuring effective regulation
and oversight of New Zealand’s financial services and markets” is shared by the FMA
and NZX. Participants were then asked how confident they were that New Zealand’s
financial markets are effectively regulated. Two thirds were confident that the markets
are effectively regulated. Confidence was the highest where people had heard of FMA.
132
Confidence in FMA also increased 3 per cent for those who owned shares between 2016
and 2017.
133
In addition, it was acknowledged by Walker that after 2004, reporting on insider trading
in New Zealand was virtually non-existent,
134
meaning there appeared to be little concern
from the public generally about insider trading in New Zealand. This appears to remain
so; conducting varied Google searches will mainly give results on the Eroad case.
Therefore, insider trading does not appear to be ruining investor confidence based on the
lack of negative publicity it has received by the general public. Negative comments about
New Zealand’s regime have mainly been from theorists.
C Conclusion
Liquidity can be a good financial measure of confidence in the market, however an
appropriate method needs to be used. There are also many variables which can affect
liquidity, and not all can be eliminated, for example, the GFC. However, it should still be
130
At 10.
131
At 13.
132
Financial Markets Authority, above n 129, at 15.
133
At 17.
134
Walker and Simpson, above n 6, at 540.
29
possible to calculate whether liquidity increased after the Eroad prosecution, but may take a
period of time for the market to reflect the information. This should be a topic for further
research.
Using the simplified total trades-to-market-value method it appears that the main exchanges
of Australia and the United States are more liquid than New Zealand’s. However, comparing
the liquidity between years in New Zealand it appears that consumer confidence has boosted.
This may be caused by an increase in confidence due to the introduction of the insider trading
regime. However, it is hard to differentiate between this and a gradual return of confidence
after the shock of the GFC, or other variables which may affect liquidity.
The total trades-to-market-value method reflected the same results as FMA’s Survey,
which showed an increase in confidence in investing in the market from 54 per cent of
people, to 65 per cent between 2013 and 2017. FMA’s surveys are probably a better
reflection of confidence than liquidity as the question is asked directly to participants.
Liquidity is an indirect measure which can contain noise.
Many factors can affect confidence in the market, including corruption in financial
markets or investor returns.
135
Therefore in future surveys it may be appropriate for FMA
to ask participants about whether they are hesitant about trading due to potential insider
trading.
Overall it appears that investor confidence is steadily increasing, and therefore this
purpose is currently being met by the regime. However, this increase in confidence may
be due to the introduction of the FMCA or a bounce-back from the GFC, rather than an
increase specific to insider trading. Regardless of the reason, this purpose of the FMA is
at the very least being achieved.
136
135
Rob Stock “Investor confidence rises, but Financial Markets Authority profile is low” (23 June 2015)
Stuff <www.stuff.co.nz>.
136
Section 3.
30
X Fair, efficient, and transparent financial markets
The concepts of market “fairness”, “efficiency”, and “transparency” are interrelated.
'Fairness' is the idea that everyone should have equal access to obtain and evaluate market
information to make trading decisions. A person should not be able to take advantage of
information asymmetries for their financial benefit,
137
unless they have obtained it
through research and development.
138
Where a person is trading on inside information which could negatively affect a share’s
value, the trader is avoiding a loss. On the other side of the transaction is the buyer who is
purchasing shares which are overvalued. Similarly, a trader with positive information is
purchasing from a seller at a discounted price to its true value.
139
In regimes where this is
believed to be happening, people are less likely to invest in companies, unless they are to
receive a higher return for their investment.
140
Market transparency relates to all investors having access to financial information about a
company, such as price levels and financial reports. This makes the market fairer for
investors as everyone has the same information. Where there is transparency the market
will be less volatile. In addition, companies are often rewarded through share
performance where they are transparent and disclose all material information to the
public.
141
Where there is transparency the market will become more efficient. Market efficiency is a
concept based on the ‘efficient market hypothesis’: price reflects all available information
in a particular stock or market. No advantage can be gained when predicting a return in
the market, as everyone has the same information.
142
If an insider trades on their
137
ASIC Report 513: ASIC enforcement outcomes (July to December 2016) at 12.
138
Cabinet Economic Development Committee, above n 1, at 2.
139
Shaub , above n 18.
140
Jennifer Moore “What Is Really Unethical About Insider Trading?” (1990) 9 JBE 171.
141
Robert Eccles, Robert Herz, Mary Keegan and David Phillips The Value Reporting Revolution (John
Wiley and Sons Ltd, New York, 2001).
142
John Eatwell, Murray Milgate, Peter Newman Finance (Palgrave Macmillan, United Kingdom, 1989) at
127.
31
information, the insider will have an advantage, as they are trading ahead of the
information being available to the public. Some investors therefore will miss out on
gains, or sustain further loses, as these gains are transferred to those trading with insider
information. This reduces incentives for investors to participate, which in turn can lead to
an illiquid market and the inability of companies to raise funds.
143
Where there is less efficiency and transparency, traders who must sell their shares for
reasons unrelated to information, for example to pay for an expense, will be
disadvantaged. These are called 'liquidity traders'.
144
When the market is illiquid, or
volatile, it is these traders who are the most disadvantaged. When share prices move
without any price-sensitive announcement, investors think the movement may be from
insiders trading.
145
Share price highs will be higher, and lows will be lower, causing harm
to liquidity traders where they need to sell during a low. According to Leland, liquidity
traders:
146
... expect neither to buy nor to sell... but when they do buy, they will tend to do so at
a price greater than average. When they sell, they will tend to do so at a price lower
than average. This creates both an expected cost and a volatility of cost.
Leland studied the pros and cons of insider trading from a theoretical and economic
perspective. He examined the effects of volatility on the market where trading on insider
information is legal, and also where it is prohibited. The results of this study where it is
'legal' is analogous to where it is illegal, but believed to be unenforced. He used the
standard deviation of share prices in the market over a period of time to measure
volatility, (a common measure methodology), and concluded that where insider trading is
legal, the market will be more volatile.
147
If his theory holds true, New Zealand's market
should be more volatile where there is less efficiency and transparency. A study should
be conducted similar to that of liquidity, measuring the volatility of the market before and
after the introduction of the 2008 regime, and before and after the Eroad prosecution.
143
Cabinet Economic Development Committee, above n 1, at 2.
144
Leland, above n 16, at 860.
145
At 883-884.
146
At 874.
147
At 859-887.
32
Assuming that Leland's study applies to New Zealand's case (where we are trying to test
whether the market believes our regime is not being enforced, rather than insider trading
being legal), we would expect to see volatility decrease in the NZX 50 where there is
more transparency and efficiency in the market (after New Zealand introduced the 2008
regime, or the Eroad prosecution).
Unfortunately there are also other variables which effect volatility, such as:
(1) the general state if the economy;
(2) changes in interest rate;
(3) the following of foreign markets; and
(4) external events, such as the Iraq war, oil prices and Brexit.
Due to the GFC, a study based before and after 2008 will be fruitless as volatility goes
hand-in-hand with liquidity; when a stock is liquid it is less likely to be volatile, and vice-
versa. However, a study on the market standard deviation before and after the Eroad
prosecution should be conducted. Results should be similar to that of liquidity:
(1) Volatility increases. This is extremely unlikely to happen given the nature of the
event, unless there was another variable affecting the results.
(2) Volatility remains unaffected. The market does not appear to have an increase in
efficiency and transparency.
(3) Volatility decreases. This shows increased efficiency and transparency in the
market.
A FMA Survey
FMA’s Survey in 2017 asked whether participants believed FMA supports the integrity of
NZ’s financial markets. ‘Integrity’ was defined as “making sure New Zealand financial
service providers operate in a way that is fair, honest and effective.” Only 49 per cent believed
that FMA supports market integrity.
148
This is a decrease from 2016, where 60 per cent of
148
Financial Markets Authority, above n 129, at 19.
33
participants believed FMA supports market integrity.
149
Unfortunately FMA’s surveys
from 2013–2015 did not ask this question.
In 2017’s survey of participants who had heard of FMA, 69 per cent agreed that FMA
supports the integrity of New Zealand’s markets, while only 36 per cent of people who
had not heard of FMA thought FMA supports the integrity of New Zealand’s markets
with 29 per cent stating they did not know). This result makes sense, as a person who has
not heard of FMA would not confidently be able to say they are doing an adequate job at
supporting market integrity.
FMA’s survey is a good measure of the public perception of whether the market is fair,
and should be repeated in future years. Unlike investor confidence, the perception of
fairness is a more direct measure of the market’s view on insider trading.
B Conclusion
Volatility can be a good measure of fairness, transparency and efficiency. However, this
cannot be measured for the purposes of this thesis as it requires measuring the standard
deviation of the market before and after the Eroad prosecution. There needs to be a long
enough time period of a few years each side to make a fair assessment of the market’s
volatility. However, as many variables can affect volatility, the FMA’s survey may be a
better measure of fairness in the market.
Viewing the FMA’s survey results between 2016 and 2017 it appears that the public’s
belief that the market is fair may have decreased. These were the only years that this
particular question was asked however, so more time is needed to identify a trend.
As volatility is unable to be examined for the purposes of this thesis, and FMA’s survey
only touches on market fairness for 2016 and 2017, no conclusion has been reached with
respect to this purpose.
149
At 20.
34
XI Timely, accurate, and understandable information
Related to efficiency and transparency is timely, accurate and understandable
information. When material information is disclosed to the public, there should not be
any opportunity for insider trading. Timely disclosure of information maintains
confidence in the market; it ensures that the public are informed of material information
in an efficient manner, promotes equality of the access to information and promotes fair
and transparent markets.
150
To ensure information is accurate and understandable,
misleading and deceptive conduct, and misleading or unsubstantiated representations are
prohibited.
151
To assist in the prevention of insider trading the government introduced statutory
continuous disclosure requirements including a requirement for directors to disclose their
trades when they are made.
152
,
153
A Continuous Disclosure
Listed issuers are required to give continuous disclosure of information in accordance
with NZX if the information is material and not generally available to the market.
154
The NZX Main Board/Debt Market Listing Rules (MBRs) set out continuous disclosure
requirements.
155
A listed company must, once becoming aware of any material
information concerning it, immediately release that material information to NZX.
156
‘Material information’ is information that a reasonable person would expect, if it were
generally available to the market, to have a material effect on the price of a security.
157
Information is generally available if it has been made known in a manner that would
150
NZX Continuous Disclosure Guidance note (December 2014) at 4.
151
Financial Markets Conduct Act, pt 2.
152
Trevor Mallard “Insider Trading Regime Changes Announced” (28 March, 2001) beehive.govt.nz
<www.beehive.govt.nz>.
153
Financial Markets Conduct Act, s 273.
154
Section 270.
155
NZX Main Board/Debt Market Listing Rules (7 March 2016), r 10.1.
156
Rule 10.1.1(a).
157
Rule 1.6.1, definition of “Material Information”.
35
bring it to the attention of investors, and a reasonable period of time has passed for the
information to be disseminated.
158
Examples of material information include a change in
forecast of an issuer, liquidation and dividend declarations.
159
However, exceptions to the continuous disclosure requirement are:
160
(1) a reasonable person would not expect the information to be disclosed;
(2) the information is confidential, and its confidentiality has been maintained;
(3) the release would be a breach of law; or
(4) where the information:
a. concerns an incomplete proposal;
b. is insufficiently definite to warrant disclosure;
c. is generated for internal management purposes; or
d. is a trade secret.
Therefore, there is only a small opportunity in which an information insider can trade, as
most information should be disclosed to the public.
In May 2015 Pacific Edge (PEB) were issued a warning by FMA for being in breach of
their continuous disclosure obligations by not informing NZX immediately upon the
signing of a material contract between PEB and American suppliers. FMA held that a
$500,000 compensation payment was eligible to shareholders who sold their shares
between the time the contract was signed and the time it was announced to the public.
B Director Disclosure
In 2003 a requirement was introduced for directors and officers to disclose their relevant
interests and dealings of securities in their company within five trading days.
161
Failure to
do so can result in a fine on summary conviction of up to $30,000.
162
158
Rule 1.6.1, definition of “Material Information”.
159
Rule 10.1.1.
160
Rules 10.1.1(a)(i)-(iii).
161
Financial Markets Conduct Act, s 297.
162
Section 307.
36
This change was to ensure that “information is made available to the market about trading
by persons who may have access to company information by virtue of their positions
within a company.”
163
,
164
This helps with market transparency, and also allows dates of
trades to be checked against material market announcements.
165
Substantial shareholders
(those who owned over five per cent of a company) have always been required to give
disclosure within five days of completing a transaction.
166
Previously directors had to disclose share transaction to the board, and then enter the
transaction into the company's interest register. However, interests could potentially be
released to the public up to a year later in the company's annual report.
167
At the very
least, annual reports would be a few months old due to their print and distribution.
168
This
made the information out of date by the time it was released to shareholders. Meanwhile,
executives did not have to give disclosure at all. Therefore, the law pre-2003 gave a
greater opportunity for insider trade to the people who had the biggest information
advantage.
169
1 Etebari
Etebari, a Professor of Finance at University of New Hampshire in the United States,
examined the ability for corporate insiders to profit due to their share transactions when
comparing the timing of mandatory disclosures. He looked at a sample of 2,453
transactions from 93 NZX listed companies in New Zealand between 1995 and 2001,
considering both the immediate and delayed disclosures which existed at that time.
163
FMA Review of Market Disclosures (Updated 1 December 2014) at 2.
164
Financial Markets Conduct Act, s 296(1).
165
Section 296(1)(b).
166
Securities Markets Act, pt 2, subpt 3.
167
Ministry of Economic Development Detail and Form of Disclosure of Relevant Interests by Directors
and Officers (May 2003) at 3.
168
Ahmad Etebari, AlirezaTourani-Rad and Aaron Gilbert “Disclosure Regulation and Profitability of
Insider Trading: Evidence from New Zealand” (2014) 12 Pacific-Basin Finance Journal 479 at 500.
169
Gilbert, Tourani-Rad and Wisniewski, above n 115, at 1.
37
Substantial shareholders had immediate disclosure obligations; they had to provide
disclosure within five working days. Meanwhile, directors and officers had delayed
disclosure obligations (if they were not substantial shareholders). Delayed disclosure
allowed directors to transact on confidential information without informing the market.
The average disclosure by directors occurred nine to ten months after the transaction. The
study found that directors earned abnormally large returns from their transactions, but
were only reported in company annual reports. Purchases and sales of stock generated
significant abnormal returns of +6.5 per cent and -5.99 per cent respectively. Substantial
shareholders, who had to give immediate disclosure, earned insignificant returns.
170
Etebari concluded that immediate disclosure speeds up the rate of which the market reacts
to an insider trade, and prevents illegal insider trading. This immediate disclosure limits
the period in which insiders can make abnormal profits. However, he also concludes that
to be effective there would need to be good enforcement and policing by the regulator.
171
2 Gilbert
Gilbert, an Associate Professor at AUT University in Auckland, conducted a similar
study, observing the effect of the disclosure amendments for directors, and the increase in
enforcement powers of the SCom. He examined variables which are affected by insider
trading in a sample of securities:
172
(1) dividend yield (used as proxy for the cost of capital for a company);
(2) the bid-ask spread;
(3) liquidity (measured by the company's market capitalisation); and
(4) volatility.
After the disclosure regulation they expected to see a decrease in the cost of capital, the
bid-ask spread and volatility, but an increase in liquidity. He saw positive results for all
four variables, and concluded that there was a significant reduction of "the microstructure
effects of insider trading”, concluding that the change had a positive impact on the
170
Etebari, Tourani-Rad and Gilbert, above n 168, at 484.
171
Etebari, Tourani-Rad and Gilbert, above n 168, at 488.
172
Aaron Gilbert, Tourani-Rad and Wisniewski, above n 115.
38
market. Although he believed that some of the improvements were due to investor
confidence in NZX.
173
This study is not as exact as Etebari’s, as the method measured characteristics in the
market which can be affected by many variables. Gilbert’s study directly examined the
abnormal returns for parties with different disclosure obligations.
C Conclusion
Continuous disclosure and director disclosure both play an important role in eliminating
the opportunity for insider trading. They increase the speed at which investors receive
information in order to make informed decisions in relation to share purchases. It is
suggested that these obligations do more to deter insider trading than any insider trading
regime itself.
174
Similar research to Etebari’s study should be conducted to compare the abnormal returns
of substantial shareholders, versus directors and officers since directors have been
required to give disclosure within five working days. A director or officer has an
information advantage over a substantial shareholder. Therefore, if on average directors
obtain a higher return over substantial shareholders, it can be inferred that insider
information was used to make some of those trades. Trades from directors or officers who
are also substantial shareholders need to be considered from the director or officer’s
viewpoint only to eliminate double counting; directors who are substantial shareholders
may have insider information, but the fact that they are also a substantial shareholder is
irrelevant.
As well as giving the public timely, accurate and understandable information about
securities, the introduction of these disclosure policies have eliminated some insider
trading, as shown empirically by Gilbert. Therefore it can be concluded that this purpose
has been met. However, further research should be conducted to determine the extent of
any remaining insider trading.
173
Walker and Simpson, above n 6, at 542.
174
At 523.
39
XII Deterrence and monitoring
The final purpose is to have a regime with effective monitoring and deterrence. This
entails both the prevention of insider trading, and effective monitoring to detect insider
traders. When insider traders are prosecuted, other potential insiders will be discouraged
from illegally trading. Several parties play a role in this.
A NZX
Although FMA is the regulator behind the FMCA, NZX plays a frontline role to detect
and refer any illegal insider trading to FMA under a memorandum of
understanding.
175
,
176
Trading through NZX participants is monitored by NZX’s Surveillance team. This
includes monitoring “price movements, trading volumes, market releases … and other
media information” to ensure there are no breaches of any conduct obligations regarding
insider trading.
177
,
178
NZX and FMA will collaborate on how to approach a potential
insider, and any market data and analysis will be given to FMA to assist with any
potential action.
179
NZX uses ‘SMARTS’, a programme which provides electronic surveillance of market
activity, and generates alerts in real time in relation to suspicious activity that may require
investigation.
180
Examples of alerts that assist with the detection of insider trading include price
movements after a buy or sell announcement, including any substitutable instruments.
181
175
NZX, above n 60, at 14.
176
“Ensuring Quality Regulation of NZX Market Operations” NZX <www.nzx.com>.
177
“How does NZX Regulate its Markets?” NZX <www.nzx.com>.
178
NZX, above n 60, at 14.
179
“Ensuring Quality Regulation of NZX Market Operations”, above n 176.
180
Bainbridge, above n 92, at 402.
181
NASDAQ OMX SMARTS Broker Alerts Description and Parameters (24 September 2012) at 146.
40
These alerts work by looking at price-sensitive NZX announcements, and working
backwards three days, calculating the brokers’ volume and value on both the buy and sell
side each day. If the volume or value traded in the days prior to the announcement on one
of these days exceeds the broker's historical average by greater than a specified threshold
an alert will be triggered.
182
SMARTS then looks at the price movement of the security. An alert will be generated if
during the three day period the broker's volume exceeds the volume/value threshold, and
the price has moved more than two per cent in the direction of the broker's trading. This
price movement will indicate possible insider trading before the annoucement.
183
SMARTS attempts to exclude NZX announcements which are not price-sensitive, by
excluding announcements with key words, such as 'trading halt lifted' or 'presentation
slides provided'.
184
The minimum value of a trade subject to the alert is $100,000, or
$50,000 if the daily trade average volume is zero.
185
Parameters can be adjusted where
required. There is less likely to be a suspicion of insider trading if the price movement
prior to the announcement was in the opposite direction to the trend after the
announcement.
186
Once NZX has a generated alert they will query the relevant broker for an explanation as
to why that trading pattern occured, and the breakdown of who transacted on that stock,
and the type of client, eg, institutional or retail client.
Walker notes that:
187
The Special Division report in the Annual Reports of the New Zealand Markets
Disciplinary Tribunal discloses the Division received ... 39 SMARTS alerts in the
period from January 2009 to December 2011. If SMARTS alerts indicate prima facie
182
At 146.
183
At 146.
184
At 149.
185
At 148.
186
At 146.
187
Walker and Simpson, above n 6, at 540.
41
... that insider conduct may be occurring, the question arises as to why no insider
conduct enforcement actions have been commenced since 2008.
Due to the amount of alerts generated, he believes that insider trading may be happening,
but investigations are not being actioned. However, the number of initial enquiries by
NZX should not be used as meaningful data to infer there has been insider trading.
Surveillance alerts can often be explained by available market information. This includes
media attention, share trading forums such as Share Investor and research
recommendations. However, where a reasonable explanation is not apparent NZX will
conduct enquiries with NZX participants or their employees.
188
Australia Securities and Investments Commission (ASIC) uses a similar system, Market
Analysis and Intelligence to examine ASX equities and derivatives data.
189
From 2009 to
2016, ASIC has prosecuted 45 people. They have also made 4 civil actions.
190
B NZX Participants
NZX participants (being either an issuer or broker) are also important for detecting
insider trading. They must have adequate procedures and policies to refer all suspected
instances of insider trading by a client to their Compliance Manager,
191
and to investigate
these instances.
192
Compliance will then report any suspicions of insider trading to NZX’s
Surveillance team. Some NZX participants may gather suspicions through their own use
of SMARTS, or via client information from their financial advisor or brokers.
188
“How does NZX regulate its markets?”, above n 177.
189
“Market Integrity Update – Issue 69” (March 2016) Australia Securities & Investments Commission
<www.asic.govt.au>.
190
ASIC Report 444: ASIC enforcement outcomes (January to June 2015) at 23; ASIC Report 476: ASIC
enforcement outcomes (July to December 2015) at 12; ASIC Report 485: ASIC enforcement outcomes
(January to June 2016) at 19; ASIC Report 513: ASIC enforcement outcomes (July to December 2016) at
21.
191
NZX Participant Rules, r 15.6.1.
192
Rule 15.6.3.
42
This client-relationship is highly significant to the detection of insider trading, as
SMARTS alerts on their own will not pick on every potential insider trade. For example,
SMARTS will not give alerts for trades conducted outside of the parameters of the alert.
No alert will be generated where:
(1) the value of the trade is less than $100,000;
(2) a trade which occurred earlier than three days before the price sensitive
announcement; or
(3) the trade did not cause any unusual increase in the volume or value of the
security.
Therefore, if a person has come into possession of insider information, and completed a
trade in reliance on this information months before it is released to the market, no alert
will be generated. An alert will not be conducted where there has been no volume or price
movement. However, regardless of price movement, it is still considered to be an insider
trade.
193
1 Chinese walls
Under NZX Participant Rule 3.24 brokers are required to have “procedures to control the
transfer of Material Information between [their] different business activities”.
The main practice is to have Chinese walls. These are information barriers designed to
prevent the dissemination of information to employees who are not involved in a
project.
194
These can be physical barriers, such as an investment banking department situated in a
room that is access-restricted to others. Information systems can also prevent individuals
from accessing information directories which may contain inside information. Where a
breach of the Chinese wall occurs the Compliance Manager of the firm will put the
193
CCH Commentary (online ed) Insider trading by trading (s 241) at [65-250].
194
“Chinese Wall” Investopedia <www.investopedia.com>.
43
relevant people on a conflicts of interest register.
195
This is used to prevent employees
making transactions for securities that they may have inside information about.
C FMA
FMA is the regulator behind the FMCA, and receives information from NZX or
whistleblowers with respect to insider trading.
196
They then choose what action to take.
The FMCA allows FMA to use:
(a) stop orders;
197
(b) direction orders;
198
(c) injunctions;
199
(d) penalty orders;
200
(e) compensatory orders;
201
(f) infringement notices;
202
and
(g) banning orders;
203
FMA also has the power to exercise a person's right of action
204
, and has investigator
powers.
205
FMA list all warnings, investigations, enforcement actions and other sanctions issued on
their website
206
to boost confidence in their enforcement, and for transparency. FMA
195
At 43.
196
NZX, above n 60, at 14.
197
Sections 462-467.
198
Sections 468-469.
199
Sections 480-482.
200
Sections 489-492.
201
Sections 494-496.
202
Sections 513-516.
203
Sections 517-521.
204
Financial Markets Authority Act, s 34.
205
Section 29.
206
“Media releases” Financial Markets Authority <www.fma.govt.nz>.
44
believes that investors benefit from a credible regulator that enforces high standards of
conduct in the market.
207
They believe that they have already built confidence in New
Zealand's markets since their inception, which is evidenced by regulators from other
jurisdictions looking to FMA with respect to how they have managed their licensing and
approach to difference sectors.
208
In FMA’s Survey it was found that those who have heard of FMA are the most “positive
and confident” about investing in the New Zealand market.
209
FMA also takes preventative measures to insider trading by issuing guidance notes about
how parties should control access to inside information through policies and procedures,
and trading restrictions for employees who may encounter inside information.
210
D Conclusion
Several parties play vital roles in the deterrence and monitoring of insider trading. These
parties work diligently against insider traders, and parties have over time fine-tuned their
processes and procedures.
Prima facie it appears that these procedures and processes are adequate to meet their
purpose of effective deterrence and monitoring. Deterrence is undertaken through
Chinese walls and conflicts of interest registers by NZX participants. Monitoring is
conducted through SMARTS alerts which are generated and investigated by both NZX
and their participants.
Therefore, with adequate procedures and processes in place there must be a satisfactory
explanation as to why so few actions have been taken against insider traders in order to
verify the purpose to the FMA has been met.
207
Ministry of Business, Innovation & Employment and the Financial Markets Authority Reviews of the
Financial Markets Authority funding, the Financial Markets Authority levy, the External Reporting Board
levy and Companies Office fees (July 2016) at 16.
208
At [59].
209
Financial Markets Authority, above n 129, at 3.
210
Financial Markets Authority Market misconduct risks: a guide for MIS managers (August 2015) at 2.
45
XIII Minimal Prosecutions
A Elimination of Insider Trading
One theory behind the lack of prosecutions is that there is simply no insider trading in
New Zealand. This would be the ideal explanation, but seems unlikely.
211
Upward price
trends can often be seen on graphs before major positive announcements, such as
takeovers, where information has leaked, however there is not currently any research in
New Zealand to show that this is a troublesome trend. However, even if this is observed,
the Business Roundtable believes that the shareprice may rise before an announcement
due to "loose talk, or intelligent guesses by trained or untrained outsiders".
212
It is suggested that researchers and the market generally anticipate news, even in the
absence of insider trading or talk.
213
For example, a director may be asked how their
company is doing by a journalist, research analyst, financial adviser or friend. The
director could lie about how the company is doing, but this would be unprofessional, and
possibly considered to be misleading or deceptive conduct. However, either avoiding or
partially answering a question may start a rumor about how the company is doing.
Unfortunately there are no statistics available as to how many times insider trading occurs
unlike other crimes, as the victims of the crime are usually unaware they are victims.
214
B Enforcement Deficit
An enforcement deficit to explain why there have been no insider trading prosecutions
has been a major discussion topic.
211
Walker and Simpson, above n 6, at 541.
212
New Zealand Business Roundtable “Submission on the Insider Trading Discussion Document” (October
2000) at [3.6].
213
At [3.6].
214
Franklin Gevurtz “The Globalisation of Insider Trading Prohibitions” (2002) 15 Transnat’l Law 63 at
90.
46
The SCom did not have an enforcement function until the introduction of the Securities
Amendment Act 2002. Before this period, the function remained with the Serious Fraud
Office (SFO), with the role of the SCom as the regulatory supervisor.
215
In May 2011
FMA was established as the SCom's replacement,
216
which came with more enforcement
powers.
C Catching Insider Traders
Successfully catching insider traders requires proving that someone knew information
and that there is a connection between the person who potentially has the information and
the company. This may be easy where the person is a director or employee, but not when
they appear to be unrelated to the company.
One can work from the company to the person, or work from the alleged insider trader
back to the company. However, unless there in evidence writing it relies on people being
honest and admitting that they gave the information to the trader. This is unlikely to
happen because of self-incrimination risk.
For example, a person has purchased Spark shares prior to a public announcement that
they will be acquired by Vodafone. It is suspected that this person has traded on inside
information due to the timing, the number of shares purchased and prior non-existent
trading by that person historically. It is near impossible to identify where they received
the information from, which is required as evidence for a prosecution. They could have
overheard the information at a barbeque, or on a public train through relevant employees
at Vodafone, Spark, an investment banking firm, accountants or lawyers - all of which are
unlikely to come forward to admit they passed on the information (either on purpose or
by accident) if questioned.
It can take years to gather up enough evidence to make a prosecution, and insider traders
can trader quicker and more frequently with online broking.
217
Criminals have also
215
Bainbridge, above n 92, at 401.
216
Financial Market Authority Act.
217
See ASB Securities <www.asb.co.nz>; ANZ Securities <www.anzsecurities.co.nz>.
47
become smarter. They can trade outside of the parameters of SMARTS alerts, or cover
their trades by putting in buy and sell orders for a security.
218
D Jurisdiction Comparisons
Comparisons between New Zealand and other jurisdictions with respect to the number of
prosecutions can be misleading. The ASX’s market capitalisation is currently AUD 1.82
trillion
219
and the NYSE’s market capitalisation is USD 20.7 trillion.
220
The NZX’s
market at the end of April 2017 is small in comparison at $116 billion.
221
New Zealand
not only has a significantly smaller market capitalisation, but has a much smaller total
trades-to-market-value of around 36 per cent, with ASX’s and NYSE at approximately 73
and 94 per cent respectively. Therefore statistically there would be far more insider
traders to catch and prosecute. Any comparison of figures should be done on a scale
adjusted basis.
222
All of these factors are likely to contribute to the perceived lack of prosecutions by FMA.
Prima facie it appears that their procedures and processes are adequate to meet the
purpose of effective deterrence and monitoring, despite the number of prosecutions. In
reality, “no one can prove that what is undetected does not exist.”
223
218
“Crackdown targets insider traders” (21 October 2011) The New Zealand Herald
<www.nzherald.co.nz>.
219
“Historical Market Statistics” ASX <www.asx.com.au>.
220
“NYSE Group Shares Outstanding and Market Capitalization of Companies Listed” NYSE Data
<www.nyxdata.com>.
221
“NZX Limited Monthly Shareholder Metrics April 2017” NZX <www.nzx.com>.
222
New Zealand Business Roundtable, above n 212, at [3.2].
223
New Zealand Business Roundtable, above n 212, at [3.7].
48
XIV Regime Changes
There are changes which can be made to New Zealand's law to improve upon the key
purposes of the insider trading regime.
A Whistleblowers
For the majority of the time insider trading actions rely heavily on whistleblowers. FMA
discuss whistleblowing on their website. They state they rely on people to help maintain
market integrity, and would like to hear from people who have information about the use
of inside information used for profit on the sharemarket. They will take all possible steps
to protect any whistleblower's identity if the information has been given in good faith.
However, they state they may be legally required to give away the person's identity.
224
FMA will protect whistleblowers from legal action contained in various acts,
225
though
where the law does not provide specific whistleblower protection they cannot guarantee
that they will be immune against action in exchange for the information.
226
Unfortunately, this may not be comforting for potential whistleblowers. They may
believe they will be victimised by their friends, family or employer if their identity is
known. A whistleblower may have also be a part of the insider trading scheme
themselves, so it is likely that they will not risk being reprimanded.
There are protections for whistleblowers under the Protected Disclosures Act,
227
which
include immunity from civil and criminal proceeds
228
and confidentiality.
229
Victimisation is also unlawful under the Human Rights Act.
230
224
“Whistleblowing and Informants” FMA <www.fma.govt.nz>.
225
See Protected Disclosures Act 2000; Financial Advisers Act 2008; Financial Markets Supervisors Act
2011; Securities Act 1978; Financial Markets Conduct Act 2013.
226
“Whistleblowing and Informants”, above n 224.
227
Protected Disclosures Act 2000.
228
Section 18.
229
Section 19.
230
Human Rights Act 1993, s 66.
49
Even with these protections it can still be difficult for anyone going back to their
employment where they disclosed information about an employer. Journalists warn that
whistleblowers must ensure they follow the rules or else they risk losing their job or
being taken to court where the disclosure is considered defamatory. Diana Clement of the
New Zealand Herald states that whistleblowers should ask themselves the following
questions before disclosing information:
231
(1) What is my motivation?
(2) Would it affect my career?
(3) Could I live with my name going public?
(4) Can I verify what I am saying with evidence?
(5) Could I withstand attacks on my credibility?
1 Australia
ASIC make it much clearer in their information sheet
232
and CorpA
233
about what
constitutes whistleblowing, and their protections. The criteria for ‘whistleblower’ under
the CorpA looks at:
234
(1) their role in the company to which the disclosure is pertinent;
(2) to whom the disclosure is made;
(3) whether they have provided their name;
(4) whether reasonable grounds exist to suspect a breach of the CorpA;
(5) whether the disclosure was made in good faith.
They advise people to seek legal advice before whistleblowing. Detailed guidelines are
set around protection of information,
235
protection against litigation,
236
and protection
from victimisation for whistleblowers
237
.
231
Diana Clement “Whistleblowing takes nerves of steel” (14 March 2015) New Zealand Herald
<www.nzherald.co.nz>.
232
“Information Sheet 52: Guidance for Whistleblowers” ASIC <www.asic.govt.au>.
233
Corporations Act, ss 1317AA - 1317AE.
234
Section 1317AA.
235
ASIC Regulatory Guide 103 Confidentiality and release of information (27 November 2017).
236
“Guidance for Whistleblowers” ASIC <www.asic.govt.au>.
50
2 United States
In 2011 the United States brought in a new whistleblowing regime.
238
This regime
appears to be the most effective. The SEC describes assistance from whistleblowers as
one of the “most powerful weapons in the law enforcement arsenal" which allows them to
"better preserve the integrity of … capital markets, and more swiftly hold accountable
those responsible for unlawful conduct".
239
The SEC can gives awards to whistleblowers which lead to actions in which over USD
1,000,000 in fines are ordered. The award to the whistleblower is between 10–30 per cent
of the fine collected. The SEC's website lists these rewards under their latest news.
Recent awards given include USD 4,000,000 for detailed information given about
misconduct,
240
and USD 7,000,000 for a whistleblower who helped prosecute an
investment scheme.
241
Since the start of the award system, SEC has awarded USD
153,000,000 to 43 different whistleblowers who led them to successful enforcement
actions.
242
New Zealand's whistleblowing regime appears insubstantial in comparison to both
Australia and the United States.
Australia's legislation, while very similar to New Zealand's, is conveyed better by ASIC.
It is also combined in their main piece of securities legislation, the CorpA. FMA's
guidance on protections for whistleblowers is vague and does not direct readers to
specific legislation or sections. In fact, references to whistleblowers are not made at all in
the FMCA, which is where New Zealand hold their main market conduct offenses.
Whistleblowing laws are separated into different pieces of legislation, which makes it
difficult for the lay person to ascertain their protections.
237
Corporations Act, s 1317AC.
238
“SEC's New Whistleblower Program Takes Effect Today “ (12 August 2011) SEC <www.sec.gov>.
239
“Welcome to the Office of the Whistleblower” SEC <www.sec.gov>.
240
“SEC Awards Nearly $4 Million to Whistleblower” (25 April 2017) SEC <www.sec.gov>.
241
“SEC Announces $7 Million Whistleblower Award” (23 January 2017) SEC <www.sec.gov>.
242
“SEC Awards Nearly $4 Million to Whistleblower”, above n 240.
51
Whistleblowers would be less hesitant about coming forward if FMA were clearer, and
more precise about their protections on their website and under the FMCA. However, if
FMA wishes to really encourage people to come forward they could have a similar
regime to the United States, where whistleblowers are awarded a percentage of the fines
of any successful prosecution providing this prosecution is the result of the
whistleblowers' disclosure. This award should not be too detrimental to FMA's budget, as
they are being awarded a percentage (for example 10 per cent) of the fine ordered for a
prosecution which would not have existed but for the whistleblower.
B Larger Penalties
An individual held criminally liable for insider conduct can be sentenced to up to five
years imprisonment, a fine of up to $500,000 or both. A company can be fined up to
$2,500,000.
243
Liability will still occur regardless of whether there was a price movement subsequent to
an insider trade. For example, if a client holds insider information about a potential
merger, and they purchase stock in the acquired company expecting it to go up, and it
goes down.
244
Insider traders can also be held civilly liable, which can lead to:
(1) A pecuniary penalty not exceeding the greatest of:
a. the consideration for the relevant transaction;
b. three times the amount of the gain made or the loss avoided; or
c. $1,000,000 in the case of an individual or $5,000,000 in any other case.
245
(2) A compensatory order.
246
(3) A civil liability order where the court is satisfied that a person has contravened,
intends to contravene, or was involved in a contravention of a civil liability
provision under the FMCA.
247
243
Financial Markets Conduct Act, s 244(2).
244
CCH Commentary, above n 193, at [65-250].
245
Financial Markets Conduct Act, s 490.
246
Section 484(1)(c).
52
In criminal law insider trading must be proved beyond reasonable doubt, in civil matters
the burden of proof is on the balance of probabilities.
248
1 Australia
In Australia, insider trading conducted by an individual can lead to a penalty of up to 10
years imprisonment or the greater of 4,500 penalty units or three times the total benefits
gained. For a corporate the fine is equal to the greater of 45,000 penalty units or 10 per
cent of the corporate's annual turnover in the 12 months before the offence.
249
Currently
one penalty unit is AUD 180,
250
therefore AUD 810,000 and AUD 8,100,000 for
individuals and corporate bodies respectively.
There are also civil penalties of AUD 200,000 for individuals and AUD 1,000,000 for
corporations.
251
2 United States
In the United States, individuals can face imprisonment of up to 20 years, and a fine of up
to USD 5,000,000 for each willful violation of the Securities Act 1934. Only fines will
apply if it can be proven that the defendant did not know about the rules that were
violated. Corporations can face a fine of up to USD 25,000,000.
252
The trader can also
face civil liability of up to three times the profit made or loss avoided.
253
New Zealand’s penalties appear small in comparison to other jurisdictions.
254
Increasing
the fine and maximum prison sentence could help deter potential insider traders.
255
This
247
Section 489.
248
Bart Frijns, Aaron Gilbert, Alireza Tourani-Rad “Do Criminal Sanctions Deter Insider Trading?” (paper
presented to 2012 Financial Markets & Corporate Governance Conference, December 2011) at 3.
249
Corporations Act, s 1311.
250
Crimes Act 1914 (Cth), s 4AA.
251
Corporations Act, s 1317HA.
252
Securities Exchange Act of 1934 15 USC, § 32(a).
253
Section 21(a).
254
ASIC Report 387: Penalties for corporate wrongdoing (March 2014).
53
would assist in meeting the ‘deterrence’ purpose of the insider trading regime. However,
for a company a fine may be viewed as a cost of doing business rather than a deterrent.
C Interception Devices
In Australia
256
and the United States
257
warrants can be obtained to use interception
devices where there is a suspicion of insider trading. In New Zealand, interception
devices can only be used where the offense is punishable by more than seven years
imprisonment, or for breaches against arms or psychotic substances.
258
Consequently a
surveillance device warrant cannot be used, as the maximum punishment for an
individual who commits insider trading does not meet these criteria.
259
The legislation could be changed to include an exception for specified financial crimes
such as insider trading or other market misconduct. Alternatively, if the maximum prison
sentence was increased to seven years or more, as discussed above, insider trading would
be eligible for the use of interception devices.
This would assist in meeting the ‘monitoring’ purpose of the insider trading regime by
making it easier for FMA to obtain direct evidence again potential insider traders. In the
absence of this evidence it can be difficult to make a case against an insider as it is
extremely difficult to prove what was said and to whom.
3 Increase funding
An enforcement deficit is believed to exist in part due to regulator funding.
260
FMA have a wide regulatory agenda and monitoring function aside from insider trading.
Since FMA's inception in 2011 New Zealand's financial markets have increased by fifty
255
Juliette Overland “To protect markets we need strict penalties for information insiders” (13 December
2016) New Zealand Herald <www.nzherald.co.nz>.
256
Telecommunications (Interception and Access) Act 1979 (Cth), ss 5D(5C)(h), 5D(5C)(i) and 46.
257
Omnibus Crime Control and Safe Streets Act of 1968 18 USC §§ 2510–2522.
258
Search and Surveillance Act 2012, s 45.
259
Financial Markets Conduct Act, s 244(2)(a).
260
Walker and Simpson, above n 6, at 544.
54
per cent due to new NZX listings. Crowd funding and the regulation of funds
management have also been introduced. The Anti-Money Laundering and Countering
Financing of Terrorism Act
261
, the Financial Advisers Act
262
, and the Financial Service
Providers (Registration and Dispute Resolution) Act
263
have all undergone work, and
continuous monitoring is implemented.
264
Growth has also increased with respect to
capital markets and KiwiSaver balances.
265
There is also an impending overhaul of the
Financial Advisers Act 2008.
266
Levy revenue for 2013-2015 was $14,027,000, $19,771,000 and $18,524,000
respectively,
267
so it can be seen that the resources have not increased to reflect the
increase in FMA's function. However, in November 2016 the Commerce and Consumer
Affairs Minister approved an increase in FMA's funding of $9,800,000. This will take
effect from 1 July 2017
268
and is the first levy increase since the introduction of FMA.
269
FMA believe this funding will allow them to contribute to their deterrence capacity by
better utilisation of investigatory tools,
270
and conduct litigation over a range of conduct
issues.
271
This will contribute to the promotion and facilitation of fair, efficient, and
transparent financial markets.
272
261
Anti-Money Laundering and Countering Financing of Terrorism Act 2009.
262
Financial Advisers Act 2008.
263
Financial Service Providers (Registration and Dispute Resolution) Act 2008.
264
Ministry of Business, Innovation & Employment and the Financial Markets Authority, above n 207, at
12.
265
At 14.
266
Ministry of Business, Innovation & Development Regulatory Impact Statement, Review of the Financial
Advisers Act 2008 (29 June 2016).
267
Ministry of Business, Innovation & Employment and the Financial Markets Authority, above n 207, at
[94].
268
“Minister announces more funding for FMA work” (4 November 2016) Financial Markets Authority
<www.fma.govt.nz>.
269
Ministry of Business, Innovation & Employment and the Financial Markets Authority, above n 207 at 5.
270
At 36.
271
At 37.
272
At [38].
55
D FMA Awareness
FMA should spread awareness of their existence. In FMA’s Survey it was found that
those who have the most confidence in New Zealand’s market are people who are
cognizant of FMA. Although awareness has increased from 34 per cent in 2013 to 40 per
cent in 2017, it still appears a poor statistic. The survey results show that those who had not
heard of FMA were mostly female, aged 18-39 years, and earn under $50,000.
273
Between 2015 and 2017 awareness of FMA only increased 1 per cent.
274
It is surprising that
awareness has not increased more due to the Milford Asset Management (MAM) case,
although this may be due to the publicity of the case mainly being confined to business pages
and publications rather than spreading to ‘general news’. In the case itself an employee’s
trading breached market manipulation prohibitions. A settlement was reached between MAM
and FMA of $1,500,000 in June 2015.
275
The employee was convicted of market
manipulation in March 2017.
276
It is likely that the Eroad case will create more awareness for FMA. However, FMA should
do more to showcase their actions to create awareness, preferably in a way which would
bring them to the attention of the unaware general public.
277
Currently actions are publicised
on their website, but could also be shown in major daily newspapers. Increased awareness
would help meet the purpose of creating confidence in the market, and would also increase
the public’s perception of fairness, transparency and efficiency.
E Conclusion
Although New Zealand's regime appears to not lack in any particular area, improvements
can be made. A better structured whistleblowing regime, preferably with an award system
would encourage whistleblowers to come forward. Whistleblowers have been considered
273
Financial Markets Authority, above n 129, at 18.
274
At 28.
275
“Milford Asset Management to pay $1.5 million following FMA investigation” (18 June 2015) Financial
Markets Authority <www.fma.govt.nz>.
276
Financial Markets Authority v Warminger [2017] NZHC 327.
277
Financial Markets Authority, above n 129, at 18.
56
a vital part of enforcement
278
and this amendment could make the difference between
someone whistleblowing or not. Larger penalties in the form of fines or imprisonment,
the use of interception devices and increased funding could help deter and detect insider
trading.
Publicising the FMA’s actions against offenders in different media could increase the
public’s awareness of its existence. This would increase confidence in investment in New
Zealand’s financial market generally.
XV Conclusion
The intended purposes of New Zealand’s insider trading regime were used as a
benchmark to determine whether New Zealand’s regime is successful; the number of
prosecutions were only a partial measure of its success.
The promotion of investor confidence was the first purpose, which can be measured by
Liquidity. Further research should be undertaken to examine whether confidence improved
after the Eroad prosecutions. However, using the total trades-to-market-capitalisation
percentage it appears that investor confidence is increasing. FMA’s Survey showed an
increase in confidence in the market since 2013. It appears, prima facie, that investor
confidence is steadily increasing, and one can conclude this purpose is currently being
met.
The promotion of fair, efficient and transparent financial products was the second key
purpose. Further study should be done with respect to volatility – before and after the
Eroad prosecution using the standard deviation of trading in the market. FMA’s Survey
asked whether participants believed FMA supports the integrity of New Zealand’s financial
markets, which appeared to decrease between 2016 and 2017. No conclusion was reached with
respect to this purpose, hence the need for further research.
The third purpose was providing timely, accurate, and understandable information to
investors. Continuous disclosure and director disclosure are the main contributors,
playing an important role in eliminating the opportunity for insider trading. Given that
278
“Welcome to the Office of the Whistleblower” SEC <www.sec.gov>.
57
directors and officers are now required to disclose trades within five working days of the
event, research should be conducted to examine any abnormal returns of substantial
shareholders versus directors and officers to ascertain how much insider trading exists
from that source. Gilbert has shown empirically that these disclosure policies have
eliminated some insider trading, and therefore it is concluded that this purpose has been
met.
NZX, NZX participants and FMA work diligently to deter and monitor insider trading.
Over time they have fine-tuned their processes and procedures, which include use of
Chinese walls and SMARTS’ alerts. Prima facie it appears that their procedures and
processes are adequate to meet the purpose of effective deterrence and monitoring.
Explanations behind the lack, or perceived lack, of insider trading actions include a
reduction of insider trading (possibly due to disclosure laws), a lack of resources of the
regulator, and the difficulty in catching insider traders. Finally, allowing for the
differences in market capitalisation and frequency of trading, there is likely to be more
insider trading in Australia and the United States compared with New Zealand.
This thesis shows that New Zealand’s insider trading regime does not deserve the
criticism that it has received from observers who have looked at solely New Zealand’s
prosecutions. There appears to be no obvious issues with the insider trading regime when
compared with the key objectives. However, the regime could be improved. A
whistleblowing regime with an award system would encourage whistleblowers to
disclose information. Larger fines and prison sentences, the use of interception devices
and increased funding would also help deter and detect insider trading. Publicising the
FMA’s actions against offenders in different media could increase the public’s awareness
of its existence, thereby increasing confidence in New Zealand’s financial markets.
58
XVI Bibliography
A Cases
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B Legislation
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59
Financial Markets Authority Act 2011.
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61
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62
Securities Commission Insider Trading: Report to the Minister of Justice (1987).
F Reports
ASIC Report 387: Penalties for corporate wrongdoing (March 2014).
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G Dissertations
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Bart Frijns, Aaron Gilbert, Alireza Tourani-Rad “Do Criminal Sanctions Deter Insider
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H Internet Resources
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63
Garry Sheeran “‘Poor’ insider trading record” (29 June 2009) Stuff <www.stuff.co.nz>.
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64
“Welcome to the Office of the Whistleblower” SEC <www.sec.gov>.
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I Other Resources
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Peter Ratner and Cathy Quinn Insider Trading (New Zealand Law Society Seminar,
1990).
