The FSA found that Morgan Grenfell commenced proprietary trading in seven of the constituent securities of a client's programme trade, prior to its award, based on limited information provided to enable the firm to quote for that business. The proprietary trading resulted in the client paying more for the programme trade than they would otherwise have done.
Andrew Procter, FSA Director of Enforcement, said:
“By pre-hedging the programme trade Morgan Grenfell ultimately disadvantaged its customer, a fund manager, in the price they paid for the trade, and the underlying investors in the relevant funds. "A firm which proposes to engage in pre-hedging should ensure that it informs the customer in advance that it might trade in the component securities based upon the information supplied or can otherwise demonstrate that its participation in the market does not disadvantage the customer. It is expected that firms have in place systems and controls to minimise the impact that any pre-hedging by the firm is likely to have on the customer's interests."The FSA views these obligations as fundamental to maintaining efficient, orderly and clean markets.”
Morgan Grenfell, along with two other brokers, was contacted by the customer and provided with limited information, in respect of seven stocks, to obtain a quote for a blind bid principal programme trade which would comprise 55 FTSE 100 securities worth £65 million. The firm correctly identified the seven component securities and guessed the client's intention to buy the portfolio.
Morgan Grenfell's programme trading desk, having decided to bid, proceeded to trade in the seven securities. The firm began trading in the securities, including Daily Mail & General Trust (DM>), at 11.41 and provided the client with its quotations at 11.43. The trade was awarded to Morgan Grenfell at 11.59 with a strike time of 12.02:15.
Morgan Grenfell continued trading in the seven securities until shortly after the strike time. In the twenty minute period during which it had been trading the firm represented 93.5% of total purchases in DM> with the price rising 9.99%. The remaining six securities rose from between 1.12% to 3.81% in the same period. The illiquidity of some of the securities combined with the volumes traded over this short period increased the likelihood of the prices increasing significantly. The programme trade price was subsequently struck at these higher prices. The FSA Principles require all firms to treat customers fairly and to manage any conflicts of interest fairly. Morgan Grenfell failed either to inform the customer in advance that it might trade in the component securities based upon the information supplied or to ensure that its participation in the market did not cause the customer to suffer a disadvantage.
The programme trading which was previously conducted by Morgan Grenfell is now conducted by Deutsche Bank AG, London. Deutsche Bank is now in the process of informing its customers of the basis on which it engages in principal programme trading.
In setting the penalty the FSA took into account that compensation had been paid by Morgan Grenfell to the customer.
Background
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The full text of the Final Notice can be found here.
- FSA Principle 6 states:
- FSA Principle 8 states:
- The following definitions may prove useful for readers:
- Programme/portfolio/basket trading – a single transaction or series of transactions effected by an institution when acquiring or disposing of an entire portfolio, a material part of a portfolio or, as defined by the London Stock Exchange, a basket of at least 20 stocks;
Pre-hedging – trading by a programme trading desk using information provided by the customer for the purpose of obtaining a quote in order to manage the risk to which a broker will be exposed in the event that it wins the trade;
Principal or risk trade – a programme trade in which a broker will tender to acquire the portfolio from or for the institution as principal quoting a premium or discount to a price prevailing in the market at a designated strike time; and
Blind bid principal programme trade – A type of principal programme trade where neither the direction of the trade nor the identity of the component securities are revealed until after the trade has been awarded to a particular broker.
- Financial penalties are not treated as income by the FSA. They are applied for the benefit of authorised persons (or the issuers of securities admitted to the official list) as appropriate, and so given back to the industry in subsequent years.
- The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000: maintaining market confidence; promoting public understanding of the financial system; securing the appropriate degree of protection of consumers; and fighting financial crime.
- The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.
A firm must pay due regard to the interests of its customers and treat them fairly.
A firm must manage conflicts of interest fairly, both between itself and its customers and between a customer and another client.
