During lockdown I have been re-watching a few of my favourite movies about crime in the capital markets — older classics like Wall Street and Boiler Room, as well as the more recent The Big Short and The Wolf of Wall Street.
The reality of market abuse is somewhat less glamorous. It is, however, just as corrosive and damaging to our markets’ reputation.
It is also one of the untold stories of the Covid-19 crisis. A recent survey from Duff & Phelps found that 32 per cent of industry professionals thought that the market abuse risk had increased “significantly” during the pandemic, and 55 per cent of respondents thought the risk had increased at least “marginally”.
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In the first wave of the pandemic, markets suffered a period of extreme volatility with high trading volumes. Market surveillance systems generally rely on spotting anomalies using statistical deviations from market norms to identify suspicious activity. Those systems, unsurprisingly, generated a huge number of alerts about suspicious activity — in some cases firms saw a seven-fold increase in alert volumes.
Such a deluge of surveillance alerts , unless dealt with properly, could have resulted in misconduct going undiscovered as analysts worked late into the night to clear alert backlogs.
That volatility passed and markets are now much calmer. However, other aspects of the crisis remain with us that could explain why market abuse risk is still heightened.
First, many listed companies are having to raise additional capital from the market. These secondary fundraisings, in the form of private placings, open offers and rights issues, are usually highly price sensitive, so there is much more inside information being generated than there usually is.
The second challenge arises from much of the City working from home.
Not only are the personnel on the “private side” running the fundraisings working in a generally less secure environment and on potentially less secure IT systems, but the physical dispersion of teams means all their communication is now electronic. Although calls on work mobiles can be recorded and reviewed, what is to stop a home-based employee from using WhatsApp or a personal mobile for work matters? And what about the increased cyber risk?
In addition, compliance advisory teams generally rely on having face-to-face contact with the front office teams, not only to imbue a general culture of compliance but also to pick up informal intelligence about the risks associated with particular transactions and scenarios.
However, despite the difficulties and the unorthodox working situation, the industry’s ability to tackle these challenges has been robust. Just over three quarters (78 per cent) of respondents in Duff & Phelps’ survey on market abuse compliance felt that their firm’s market surveillance arrangements were coping well.
So, although the threat from market abuse has seemingly increased during this period, firms’ ability to manage the risks seem largely unaffected.
The crisis has shown that virtually the entire capital market ecosystem can effectively be operated and monitored from home. Connectivity and security protocols swiftly advanced to allow trading venues and exchanges to be run remotely. Orders can be deleted, trades cancelled and securities suspended from a laptop in the comfort of someone’s front room, something that would have been unheard of a decade ago.
It really can all be done from home, so long as the proper operating protocols and security arrangements are put in place.
What does that mean for the future? Well, as soon as the front office staff return to their desks, so will the advisory compliance teams. But for the market surveillance teams, maybe the home office will become the long-term norm?
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Main image credit: Getty