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Conduct Outcomes Report 2017

Introduction

As a conduct regulator, a critical part of the FMA’s work is to look for market conduct that poses a risk to investors or consumers, and change that conduct for the better. 

This report outlines how we responded to the areas of misconduct we saw during 2017. It also gives an overview of our supervision activity for the parts of the financial services industry we regulate. In some parts, such as managed funds, that supervision has only just begun. In other areas, the regulatory regime is more mature.

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Why good conduct matters

At its most basic level, conduct is about how people and firms behave. Standards, systems, processes and controls are all necessary to provide the best outcomes for investors – but ultimately, it comes down to the conduct of individuals.

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Our focus areas for 2017

Market conduct - market manipulation

Milford/Mark Warminger 

This was the first case of its kind litigated in New Zealand. The action involved allegations of market manipulation by Mark Warminger when he was an employee of Milford Asset Management (Milford).

In 2015, Milford signed a settlement agreement. Milford accepted responsibility for having inadequate oversight and controls, and for not monitoring Mr Warminger’s trading activity adequately. 

Milford agreed to thoroughly review its systems and processes, and paid $1,100,000 to the FMA (in lieu of a pecuniary penalty), and $400,000 towards the cost of the investigation. The settlement with Milford did not address the culpability of Mr Warminger. The FMA considered civil proceedings against Mr Warminger to be the best option to achieve our regulatory objectives. 

In March 2017, the High Court ruled that Mark Warminger’s trading conduct amounted to market manipulation on two of the 10 occasions we put before the court. He was ordered to pay a $400,000 fine and received a five-year management ban.

Why we took action – Mark Warminger

Maintaining market integrity is at the core of our mandate. Our objectives for this case were to address the misconduct we perceived, send a clear message of deterrence to the trading sector, and illustrate the standard of conduct we expect.

If left unchecked, unethical conduct such as market manipulation, severely erodes investor confidence, and damages the reputation of New Zealand’s financial markets.


Goldman Sachs

During our investigation into Mark Warminger, we saw trading activity by Goldman Sachs that gave cause for concern and warranted further investigation. This activity may have presented a false or misleading appearance of the price and supply of securities, which is why it came to our attention.

After assessing the trading activities and assessing our regulatory objectives and the options available to us, we decided not to pursue enforcement action. Instead, we released a report that highlighted our concerns and the action we want to take in the future. 

Why we took action

Publishing our conclusions about the Goldman Sachs investigation enabled us to communicate to the sector the lessons from our findings. We were able to educate market participants about the behaviour and standards we expect. Providing clear messages about our expectations of conduct is an important part of our work.


 

Market conduct - insider trading

In 2017, we commenced two insider trading cases. Our action concerning trading in EROAD shares is the first time criminal charges have been brought for insider trading in New Zealand. 

EROAD

In 2015, an EROAD employee sent confidential information to a former employee and suggested the former employee sell their EROAD shares. Following this, the former employee traded 15,000 EROAD shares. The individual who sent the confidential information pleaded guilty to insider trading charges. 

The FMA filed criminal charges related to obstructing our investigation; these were not pursued following the guilty plea to insider trading. Failing to comply with statutory notices or attempting to mislead the FMA is a serious matter, which we take very seriously. When this happens, we will consider all options available to us.

The other individual was also charged with insider trading. That case is still in progress at the date of publication.


VMob Group

The FMA filed criminal charges against a former employee of VMob Group Limited (now Plexure Group Limited). The former employee was charged with insider trading and failing to disclose interests in VMob Group shares. The case is still in progress at the date of publication.

Why we took action

Insider trading laws are one of the key mechanisms for ensuring licensed markets remain fair and transparent. We will continue to take enforcement action where we find evidence of misconduct in this area. Both individual and institutional investors want to be confident that participants are all adhering to the same standards of market conduct. 

Despite the considerable resource required, we have pursued several cases in this area and take a long time to reach court. We believe these actions help deter future misconduct and set clear expectations for those operating in our markets.

At the date of publication, we have a number of other matters in progress.


 

Supervision and monitoring

Financial Markets Conduct Act licensing

Under the FMC Act, we licence a number of sectors within financial services, such as managed funds, derivatives issuers, and crowdfunding and peer-to-peer platforms.

After reviewing their applications, we also declined two other FMC licence applications.

In one application that was declined, the applicant was not able to demonstrate that its directors and senior managers had the appropriate skills and experience to manage a licensed business. We also considered there was a risk that the business would not have adequate financial resources to effectively perform the licensed service. This applicant can reapply once it has rectified these matters. 

We designed our licensing process to be fully interactive – acknowledging this was the first time many businesses or individuals applied for a licence. We received applications that did not demonstrate the minimum standards, and showed a lack of understanding of one or more obligations. As a result of this, and because our application process was robust and exacting, a significant portion of licence applicants withdraw or significantly amend their applications. Most changed aspects of their internal processes, controls or governance to align with the minimum standards.

The licensing process is a good example of how we seek to influence future conduct and achieve better outcomes for customers. It is resource-intensive on both sides, but overall we have seen licence applicants show genuine willingness to understand the standards we require, and adapt their business models to achieve it. 

We granted some licences with specific conditions attached to address issues we identified during the licensing process. Our monitoring work during 2017 has included following up with businesses to ensure they have met the obligations of these special conditions. In many cases, we wanted to see the processes and controls outlined in the licence application operating in practice. This work will continue in 2018.


Financial Markets Supervisors Act licensing

All licensed supervisors needed to apply for new licences in 2017 under the Financial Markets Supervisors Act 2011. Applicants received a new five-year licence. As part of the licensing process, we visited all supervisors onsite to better understand how they operate and meet their licensing obligations. 

As supervisors play a critical role in our financial markets, in most cases we also met with senior management and boards of the supervisor entities, to understand how their businesses were operating and make sure they understood our expectations. We intend to continue our onsite monitoring with all supervisors during 2018.


Financial Markets Conduct Act licensed entities

In the first half of 2017 we focused on those with licence conditions and assessed how well participants were meeting the obligations of the new regime. 

We took a more individual approach to follow-up monitoring. We wanted to establish good working relationships, and facilitate engagement with market participants, which is very important as the new licensing regime matures.

Conduct regulation and standards are still quite new in our financial services sector, which means we must constantly communicate our expectations. As a result, we were not surprised to see providers had work to do in a number of areas we review and monitor. However, we did expect providers to demonstrate how they had fulfilled the conditions of their licences. 

Where we find non-compliance, we will work with licensees to achieve voluntary behavioural change that addresses the risk of misconduct and reduces any risks to investors.

We will take additional measures, if necessary, to improve conduct by licensed firms, including directions, action plans, and licences with conditions attached. We only pursue court action for the most serious misconduct, and where we believe litigation is required to protect or compensate consumers, and/or clarify an area of law.

When licence obligations are not met

Our monitoring found one firm in breach of several licensing obligations. 

Our findings included:

  • Several potential breaches of its internal company policies.
  • Non-compliance with the Anti-Money Laundering and Countering Financing of Terrorism Act 2009. These included poor staff knowledge or training, a lack of monitoring of suspicious transactions, and breaches of its own compliance programme.
  • Not meeting standards for governance and culture. The managing director, at the time, could not show sufficient knowledge or understanding of the licensed business’s requirements. 
  • No appropriate control environment to ensure staff training or to check staff were adequately qualified. 
  • Not filing financial statements with the Registrar within four months of their balance date and not meeting the standard licence conditions for financial reporting.
  • Non-compliance with specific licensing conditions.

The extent of the issues meant we had very serious concerns about their ability to comply with regulatory obligations. We required the firm to stop trading immediately. They then submitted a remediation plan outlining the steps they would take to resolve the issues. 

We encouraged them to update their clients about our monitoring visits, and the steps they were taking to ensure compliance with their regulatory obligations.


Authorised financial advisers 

Last year, we conducted 72 authorised financial monitoring (AFAs) visits. They are the largest population that we supervise. Our monitoring seeks to understand how they provide advice and how they comply with legislation and the AFA Code of Conduct. We also review disclosure documents and professional development logs. The proposed changes to the financial advice regime will transform the size and scale of this work.

Areas of concern

We were most concerned about AFAs’ disclosure statements that did not comply with the regulations, and an absence of signed client acknowledgements on client files. It is critical that AFAs can demonstrate they have disclosed all appropriate matters to their clients, and can show why they provided the advice they did. Without records of this information, we cannot properly assess their conduct when dealing with clients.

We also took the opportunity to understand from AFAs the pressures in their businesses, and their thoughts about the Financial Services Legislation Bill. This provided a great source of intelligence for future monitoring activities and valuable feedback for us about how we should interact with such a vital part of our financial services sector.


Thematic projects

One of the key changes in our approach to monitoring the increased population size we now regulate is our activity in thematic monitoring. Thematic projects are an assessment of an issue or risk across a sample of market participants in a sector or industry. The exploratory work enables us to come to a view on conduct or controls/processes in certain parts of the industry, rather than doing deep dives into individual firms in various sectors. 

Thematic projects are common in other countries where conduct regulation is more established. 

This year, we will communicate externally the insights learned from these important projects, to help educate and inform market participants.

 

Financial advice

Communicating to customers

In June 2017, the Financial Advisers Disciplinary Committee (FADC) heard a case we brought against an AFA who we believed had breached code standards relating to pension transfer advice and insurance advice.

The FADC concluded the adviser failed to meet obligations in the AFA Code of Conduct to provide clients with written confirmation of his advice. When he gave insurance advice, he made recommendations without a reasonable basis for doing so. 

However, on some points of the complaint, the committee ruled in the adviser’s favour. We have incorporated this ruling into our review standards.

A penalty of formal censure and supervision was imposed, and permanent name suppression granted.

Why we took action

We wanted clarity on the standards required when giving financial advice to those who want to transfer from overseas pensions and insurance products. 

The FADC’s decision provides useful guidance on applying the AFA Code of Conduct. It also recognises that advisers need to give their clients a timely record of advice for administration purposes and to help them make sound investment decisions.


Forging customer documents

Anthony Norman Wilson pleaded guilty to four charges under the Crimes Act 1961. 

He was charged with forging clients’ initials and amending insurance applications while working as a registered financial adviser. 

In one case, he removed a page that disclosed pre-existing conditions, and replaced it with a blank page, which he initialled. When the client made a claim, the insurer declined it, based on non-disclosure of the pre-existing conditions.

Wilson received a sentence of 150 hours of community work and six months’ community detention. He also had to pay reparations of $16,461.

Why we took action

The relationship between clients and advisers is based on trust. Any erosion of that trust has an impact on the overall integrity of the sector. This case is important as it highlights there are criminal consequences when financial advisers abuse the trust of their clients. It also highlights the high personal cost to individuals affected by this type of behaviour.


“…The whole industry operates on a model of trust between brokers and insurers, and advisers and insured persons; the whole system relies on the integrity of its participants.”

- Judge Black, FMA v Wilson


 

 

Investor protection

The role of the supervisor

Financial markets supervisors must now be licensed and are subject to specific statutory obligations, additional to the standards that applied in 2010. Monitoring and enforcing these obligations to ensure investors can have confidence in supervisors is one of the FMA’s strategic priorities.

Prince and Partners

In August 2017, we settled a case against Prince and Partners Trustee Company for $4.5 million. The settlement and agreed compensation for investors meant litigation was not necessary. 

Prince and Partners was trustee for finance company Viaduct Capital Limited, which went into receivership in 2010. We believed Prince and Partners failed to carry out its role as a supervisor with the care, diligence and skill expected. Prince and Partners admitted a series of failings in its role as trustee.

Why we took action

This is the first time we have used our powers under Section 34 of the Financial Markets Authority Act 2011. The section allows the FMA to exercise the rights of action of investors in certain circumstances. In this case we ‘stepped into the shoes’ of investors who suffered loss from the collapse of Viaduct Capital Limited. We will take action against supervisors who fail to discharge their responsibilities, to highlight examples of unacceptable conduct. 

This case had regulatory objectives beyond achieving investor compensation. Our goal was to promote investor confidence in licensed supervisors and ensure supervisors understand their obligations.

We will continue to look at taking further enforcement actions, where we see supervisors failing to meet their obligations to promote investor confidence in licensed supervisors.


 

 

 

 

Emerging Themes

Our Strategic Risk Outlook 2017 identifies emerging themes we actively keep on our regulatory radar. This section summarises our work in these areas from 2017, and where we identified the most serious potential risks or harms for investors.

Theme: Perimeter activities

We do not regulate the conduct of all financial services, providers and products. The activities we do not regulate, but that pose potential risks, we call ‘perimeter’ issues. Below we summarise our work dealing with perimeter issues in 2017.


Deregistration from the FSPR

Innovative Securities Limited

In June 2017, the High Court dismissed an appeal by Innovative Securities Limited against our decision to direct the Registrar to deregister Innovative Securities from the FSPR. 

Not one of its three New Zealand-based staff provided financial advisory services, and its 21,000 clients were all based overseas. We directed deregistration based on these facts.

Why we took action

We want to send a clear message that we will go to significant lengths to protect the good reputation of New Zealand’s financial markets. Creating ‘sham’ offices in New Zealand to enable registration on the FSPR will not be tolerated.


Deceiving investors

Steven Robertson/PTT Limited

In October 2017, we filed 47 charges against Steven Robertson. These charges related to PTT Limited and associated entities, and included:

  • theft by a person in a special relationship
  • obtaining by deception
  • dishonestly taking or using a document.

All charges carry a maximum penalty of seven years in prison per charge. 

Evidence was gathered from individuals across New Zealand and Australia.  

The total monies lost by investors was $NZ 1.86m and $AU 240,000. The case is before the courts at the date of publication.

Why we took action

We considered Mr Robertson posed a significant risk to the public, and the nature and scale of alleged offending warranted criminal prosecution. This case is before the courts at the date of publication.


Wholesale market conduct

BKBM guidance

Our guidance on the Bank Bill Benchmark Rate (BKBM) and closing rates published in 2017 conveyed our expectations around trading conduct and controls to firms that trade in wholesale markets. 

We wanted to establish our conduct expectations in wholesale markets and reduce regulatory uncertainty, while also supporting capital market growth and integrity.


Theme: Regulating for rapid technological change

We encourage an open-door policy around engaging with the market about new and innovative financial products and services. We balance embracing innovation with our goal to reduce any potential risks for investors.


Cryptocurrencies and ICOs

This year consumer interest in cryptocurrencies and initial coin offerings (ICOs) heightened. We responded with information on our website to help investors and consumers understand what cryptocurrencies are, and the risks associated with them. For market participants thinking of offering ICOs we also included information about different categories of these offerings, and how we would assess the appropriate regulatory treatment of them.