The hedge fund industry is concerned that a proposed Financial Industry Regulatory Authority rule designed to prevent the intentional circulation of rumours for the purpose of manipulating
The hedge fund industry is concerned that a proposed Financial Industry Regulatory Authority rule designed to prevent the intentional circulation of rumours for the purpose of manipulating the market will interfere with the beneficial free flow of investment ideas, according to US law firm Pillsbury Winthrop Shaw Pittman.
In a letter to the regulatory body, the Managed Funds Association said that the proposed Rule 2030 would impair the ability of money managers to receive and investigate the validity of market information and have a negative impact on the overall efficiency of the marketplace.
The MFA urges Finra to revise proposed Rule 2030 to focus on compliance with existing anti-manipulation rules and require member firms to adopt policies for handling rumours, bolstered by surveillance.
The proposed rule would prohibit Finra members from circulating rumours concerning any security if the member knows or has reasonable grounds for believing that the rumour is false or misleading, or that it would improperly influence the market price of the security.
The rule would also require a member to promptly report to Finra any circumstance that would reasonably lead the member to conclude that such a rumour might have been circulated.
The MFA believes that a rule focused on the circulation of unsubstantiated information is both overbroad and impractical, especially since the modes of communication have changed and continue to change so dramatically, and would undermine the legitimate search for information.
In addition, the association is concerned that the arbitrary application of the rule could make seemingly legitimate communications a violation. Moreover, it says, Rule 2030 fails to distinguish between the legitimate circulation of unsubstantiated information and the intentional circulation of false information for the purpose of manipulating the market.
It also lacks clear standards in determining a violation and is ambiguous as to the meaning of reasonable grounds for believing and improperly influence the market price. As drafted, the MFA says, Rule 2030 would capture legitimate and beneficial market activity.
Finally, the MFA is concerned that Rule 2030’s self-reporting requirement, which turns on a reasonable belief that rumours may have been circulated, is also broad and imprecise. The rule would cause Finra members to over-report rather than risk being second-guessed with the benefit of hindsight.
The association suggests that a better approach would be for Finra to require member firms to adopt policies and conduct surveillance and training concerning the circulation of rumours. An effective compliance program addressing rumours could include written guidelines, active training of employees, and continued monitoring of a firm’s communications and trading.
The MFA recommends following the example of the Notice on Rumours issued by the Financial Services Authority in the UK, which discusses best practices and common elements, including the definition of a rumour, prohibitions on creating rumours, and trading based on rumours.
