Precedent-setting case clarifies insider trading in SA

Victory for the regulator confirms its ability to act.

Cape Town – Although every investor probably knows about insider trading, it is very rare that you hear of someone being prosecuted for it. It seems to be an offence that is both difficult to detect and hard to prove.

This perception is however not entirely correct. Late last month the Financial Services Board (FSB) successfully defended an appeal in the High Court in Pretoria against a R1 million sanction it had imposed for insider trading. The case was not only precedent-setting, but it also brought into focus what is being done to curb market abuse.

The context

As part of its licensing requirements, the JSE is required to have market surveillance capabilities, and it is constantly detecting suspicious trading activity. The result is that it is not that rare for matters of insider trading to be investigated and sent to the FSB’s enforcement committee.

“The majority of the administrative penalties that we have imposed since 1999 are for insider trading,” says Solly Keetse the head of the Directorate for Market Abuse at the Financial Services Board (FSB). “We have had a total of around 360 cases, and imposed about R100 million in penalties.”

Before the Insider Trading Act of 1998 came into force in early 1999, the insider trading offence fell under the Companies Act of 1973, which contained a criminal sanction only, requiring guilt to be proven beyond reasonable doubt. Under that legal framework, it was indeed very rare for anyone to be found guilty. However, the new dispensation is far more effective.

“With criminal sanctions you need to prove your case beyond reasonable doubt, but we have opted to pursue administrative sanctions where we require a lesser burden of proof,” Keetse explains. “We need to prove the case on a balance of probabilities.”

If it is warranted, it is possible that cases of market abuse could be referred for criminal prosecution as they remain criminal offences.

“However, criminal prosecution of any offence is the business of the National Prosecuting Authority (NPA), not the FSB,” Keetse says. “We could refer cases to the NPA, and say here is a file, we have done our investigation, you prosecute.”

This does not happen as a matter of course, and Keetse suggests that it is rarely necessary given the FSB’s own powers.

“We regulate for market integrity, and the primary goal for our regulation is to ensure that there is a deterrence,” he explains. “So the question is really whether the administrative penalties we impose via the process we follow through the enforcement committee is sufficient to deter offenders and potential offenders. In my view, it is. We have imposed some very heavy penalties.”

He also argues that pursuing these matters through the FSB’s enforcement committee is more efficient.

“In criminal matters, the wheel of justice turns very slowly and there is a backlog of cases at the courts,” Keetse says. “Our processes move more quickly.”

The Zietsman case

The case that was heard in the Pretoria High Court related to trading in the shares of African Cellular Towers (ACT) by Gavin Zietsman on behalf of Harrison and White Investments in early 2011. The FSB’s enforcement committee had found the two parties guilty of insider trading on the basis that they had information that ACT would be getting a R99 million loan from the Industrial Development Corporation (IDC), which was not yet public.

It was the first time that anyone found guilty of insider trading by the FSB’s enforcement committee had appealed the matter in court. The result was a convincing vindication for the regulator. The full court judgement can be downloaded here.

The court dismissed the appeal against both the conviction and the administrative penalty imposed with costs. Importantly, it confirmed that the enforcement committee is entitled to make such rulings and impose such penalties as an administrative tribunal. Effectively, this means that the FSB can continue to act in such matters, now confident that it has the backing of the courts.

The court further made a number of rulings based on others made in foreign jurisdictions. In particular, it brought clarity to questions around when knowledge can be considered inside information. It also ruled that just because someone genuinely believes that the information that they have is not inside information will not in itself be a defence, unless there are reasonable grounds for that belief.

A final interesting aspect to the case was that ACT went into liquidation in the middle of 2012, and Harrison and White still held the shares in question at the time. They lost the entire value of their holding and so never realised a profit from the trade.

However, the court held that these subsequent losses are irrelevant. It agreed with a finding made in Hong Kong that “the approach is to treat the relevant profit as gained by the insider dealer when the information was made public…. At that date, the amount of the inside dealer’s profit, whether realized or not, was fixed once and for all.”

Keetse says that the findings by the court provide more certainty when it comes to pursuing issues of insider trading. He added that it is important to understand that the Act is broad and everyone needs to be aware of what might constitute an offence.

The Act spells out a number of instances where you will become an insider, in particular:

  • If you have knowledge of price sensitive information that is not public and you use that information to deal for own account, then you are guilty of insider trading.
  • If you are an insider and you know that you have price sensitive information and you deal for another person, then you are still guilty.
  • Any person who deals for an insider knowing that such person is an insider, also commits an offence.
  • If you have inside information and you disclose that information to another person, that disclosure is an offence.
  • If you are an insider and you encourage or cause another to deal or not to deal based on your knowledge, then you are committing an offence.

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So who exactly was hurt by this trade? Seems to be the sellers of the shares these insiders bought should count their lucky stars they happened along. ACT was already an illiquid turkey by the time this trade happened.

There doesn’t have to be a victim for a crime to have been committed. Just because someone driving at 100km/h on a suburban road doesn’t cause an accident, doesn’t mean that they shouldn’t be fined for speeding.

Regulators can’t make exceptions just because ‘nobody got hurt’. The integrity of the market is what’s in play here. If that integrity is compromised, action should be taken, regardless of the outcome.

End of comments.

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