Watchdog On Ball In Trading Turmoil

The Age

Friday May 23, 2008

Tony D'Aloisio - Tony D'Aloisio is chairman of the Australian Securities and Investments Commission

The Australian Securities and Investments Commission has done a proper job, writes Tony D'Aloisio.

OUR regulators have worked effectively to maintain confidence in the integrity of our markets. In ASIC's case, our focus has been on the more difficult insider-trading, market manipulation and disclosure issues.

In addition, during the turmoil, with the ASX, we reminded the market of several obligations. We gave guidance on the disclosure of material information relating to the financing arrangements of listed entities and the margin loans held by company directors; and guidance on the disclosure obligations of listed entities when they seek a trading halt or suspension of their securities.

We gave warnings to market users against starting false or misleading rumours and the consequences of such activities.

As a result, we saw increased disclosure in margin lending and a better understanding of the substantial shareholder notice provisions.

Just to give you a feel for the seriousness of our inquiries, we issued 71 first-round notices, 32 second-round notices and a further 21 notices under other provisions of the Corporations Act.

Should we have done more? Some commentators will be thinking: "How can ASIC say that the regulatory regime and ASIC performed well when we had issues with short-selling, margin lending and stock lending, as well a allegations of targeting of companies with false rumours?"

First the role short-selling has played. There have been suggestions that short-selling may have caused the market to fall more than it would otherwise have. The targeting of particular stocks may have driven them down.

The evidence seems to confirm there is a legitimate role for short-selling and the regulation of naked short-selling seems adequate, but that there should be a review of the ASX list of stocks that can be sold short.

With covered short-selling, the concern has been disclosure. The Government and the ASX (with ASIC's support) have agreed that disclosure of covered short-selling is necessary. Whether this would have made a difference to certain companies is far from clear. Another explanation is that the downturn exposed companies with weak (leveraged) business models and the market took advantage. Nevertheless, the case for greater disclosure of covered short-selling is sound.

Secondly, margin lending. According to the latest available Reserve Bank data, there were 200,000 investors owing $37.77 billion in margin loans at the end of December 12, 2007. The main issues with margin lending have concerned:

? Disclosure, particularly where directors may have been involved.

? Lodgment of substantial shareholder notices.

We worked with ASX to advise directors of their disclosure obligations. We have (as has ASX) requested that the ASX Corporate Governance Council consider adopting a principle as part of its corporate governance principles and recommendations recommending listed entities have a policy on:

? Whether margin loans should be permitted and, if so, whether there should be any constraints.

? Disclosure of the terms to the entity when a margin loan arrangement is entered into.

We have referred some disclosure issues around margin lending to the Productivity Commission, which has recommended that responsibility for consumer credit and related advice be transferred to ASIC.

Stock lending has been around at the wholesale and institutional level for some time. We have also seen its use extended to the retail level of the market and this, we believe, is new. An example of that has been Opes Prime. ASIC's focus on retail sector stock lending is on whether there has been compliance with the Corporations Act. Our investigations continue.

While the failure of Opes Prime will have an impact on investors, to say that ASIC should have banned the business model is not credible. ASIC simply does not have the power to dictate which business models companies choose to operate.

There have also been suggestions that when ASIC conducted a review of Opes Prime's liquidity return for February 12 and 13, 2008, it should have discovered the so-called "flawed" business model. The liquidity ratio of Opes was slightly lower than required on those two days. But from February 13 until it was placed in voluntary administration, its ratio was above what was required by ASX. Our job here was, on referral from ASX, to look at compliance with ASX's capital liquidity requirements. That ratio is essentially to do with counterparty risk for an ASX market participant. It was not a solvency test.

With regard to the allegations of misbehaviour that could amount to insider trading as market manipulation or breaches of the false statement provisions of the Corporations Act, these are, for example, framed this way:

? False market rumours coupled with covered short-selling.

? Information on possible margin calls coupled with short-selling.

If there is a basis to these allegations, and we have inquiries going on, they are likely to involve insider trading or market manipulation and if they do, we will institute proceedings. If our inquires reveal the need for legislative change to strengthen the laws, we will provide advice to the Government.

With the Tricom issue of delayed settlements, the ASX has responded and while the delayed settlement unsettled the market for a short time, confidence was quickly restored. ASIC is satisfied with the actions ASX took. We are now working with ASX on some adjustments to ensure similar events, particularly where only one participant is experiencing problems, are not able to unduly delay settlement for the whole market.

While the issues that have arisen have required ASIC action, ASIC has played its proper role with its supervision of the markets and in using its powers to conduct inquiries and investigations.

Tony D'Aloisio is chairman of the Australian Securities and Investments Commission. This is an edited version of his speech to the Securities & Derivatives Industry Association.

© 2008 The Age

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