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The History Of Financial Fraud In 25 Recurring Behaviors

When it comes to market misconduct, the more things change the more they stay the same

Ramping. Wash trades. Cherry picking. Money pass. Five quaint names for financial fraud that sound like they could have come out of the 18th or 19th century. That’s because they did.

According to a just-published review by the UK's Fixed Income, Currencies, and Commodities Markets Standards Board (FMSB), which analyzed 390 cases of market misconduct over a 225 year period, there are 25 bad behaviors that endlessly repeat. The cases covered 26 countries and multiple asset classes. The 25 identified behaviors, or patterns, can be grouped into seven broad categories:

1. Price Manipulation
Includes:

  • Spoofing/Layering
  • New Issue/M&A Support
  • Ramping
  • Squeeze/Corner
  • Bull/Bear Raids

 2. Circular Trading
Includes:

  • Wash Trades
  • Matched Trades
  • Money Pass and Compensation Trades
  • Parking/Warehousing

 3. Collusion and Information Sharing
Includes:

  • Pools
  • Information Disclosures

4. Inside Information
Includes:

  • Insider Dealing
  • Soundings
  • Research

 5. Reference Price Influence
Includes:

  • Benchmarks
  • Closing Prices
  • Reference Prices
  • Portfolio Trades
  • Barriers

 6. Improper Order Handling
Includes:

  • Front Running
  • Cherry Picking & Partial Fills
  • Stop Losses & Limits

 7. Misleading Customers
Includes:

  • Guarantees
  • Window Dressing
  • Misrepresentation

 Four overarching themes on market misconduct were also identified by the FMSB study:

  1. There are a limited number of behavioral patterns: The materials show 25 behavioral patterns evident in market misconduct cases, which repeat and recur over time.

  1. The same behavioral patterns occur across different jurisdictions and countries: These behavioral patterns do not respect national or jurisdictional boundaries but are evident internationally.

  1. The same behavioral patterns also occur across different asset classes: These behavioral patterns are not specific to particular asset classes. The same patterns are evident in different asset classes.

  1. The behaviors adapt to new technologies and market structures: Technology has been a feature of markets for years. The same behaviors have adapted to new technologies and forms of communication.

The report finished with historical examples of some of the identified misbehaviors. The standout for your StarCompliance blogger was certainly the example given for bull-and-bear raiding. Known more simply as spreading rumors, bull-and-bear raiding entails taking a position in a security, spreading false information in order to move the price of the security, and then closing the position before anyone gets wise to the scam.

In 1814, near the end of the Napoleonic Wars, Charles de Berenger, Sir Thomas Cochrane, and six others colluded to profit from the lie that Napoleon Bonaparte had been killed. First, they accumulated a large position in Gilts, or UK government bonds. Then De Berenger, appearing in Dover dressed as a Bourbon officer claiming he had just arrived from France, reported that Napoleon had been killed. Co-conspirators proclaimed the news, making sure the press new. They led a celebratory parade across London Bridge to really drive the point home.

The price of Gilts subsequently rose, and the conspirators were able to close their position before word got out that Napoleon had not actually been killed.

The good, the bad, and the helpful
The results of the FMSB study are both good news and bad news. The bad news, of course, is the pretty much inescapable conclusion that people never change. That some certain percentage of the population is always going to try and unethically beat or rig the market. The good news is, these patterns of behavior are, well, patterns. Patterns can be identified and targeted, even as technology evolves over time and platforms subsequently change. This is where StarCompliance can help.

While all of the above 25 can broadly be described as market abuse, and each can present hazards to the continued operation of any enterprise financial firm, the one perhaps best well known and best understood is number four: insider information. An insider trading violation can be the death knell for a financial firm. Star's answer to this (now apparently) age-old dilemma is its Insider Trading product.

Historically a very laborious activity, Star's Insider Trading product automates the trade surveillance process. With Star, there's no more manually trawling through endless trading records, trying to cross-reference reams of data and match it up with employees who had access to confidential information at suspiciously lucrative times. The Insider Trading product monitors market news and activity, and provides the properly sorted and sifted data you need to quickly evaluate and investigate the likelihood of insider trading.

But while insider trading can be dangerous enough to the health of an enterprise financial firm in the  form of regulatory violations, a trader pursuing personal gain with his or her own money can be nothing next to a trader going rogue. Rogue traders roll the dice with firm money, sometimes in amounts large enough to bring it down in its entirety. Trade surveillance software and all its significant capabilities aside, the simple fact you deploy insider trading detection software in your organization may have the effect of deterring anyone considering building up mountain-sized unauthorized positions.

The game of cat and mouse, cops and robbers, and fraudsters and watchdogs may never stop. Yet there's something to be said for consistency and predictability across the generations of market manipulators. If nothing else, it makes them easier to catch.

StarCompliance has been helping compliance teams in their games of cat and mouse for nearly 20 years, developing automated surveillance software and optimizing compliance programs for enterprise financial firms worldwide. The game's afoot. Let us help you win yours. Book a FREE demo now.

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