E-Alert - Market Abuse and Circumstantial Evidence

On 1 July 2008, a Final Notice was issued by the FSA against Mr John Shevlin, an IT technician, imposing a fine of £85,000 for behaviour constituting market abuse.  The reasoning contained in the Final Notice is interesting because of the circumstantial nature of the case and the lack of direct evidence that inside information had passed to the wrongdoer.

Preparedness of the FSA to rely on Circumstantial Evidence

The FSA has, in recent years, come under criticism for failure to take action over market abuse, but at the same time both the FSA and commentators have noted how difficult it can be to obtain direct evidence that market abuse has taken place.  For example, the FSA's Marketwatch Issue 26 (April 2008) observes that "one of the challenges of combating market abuse is establishing to the necessary degree all the many and varied elements of the offence".  There is, of course, a tension between, on the one hand, the evidentiary difficulty in establishing that insider dealing (and, in particular, the passage of inside information) took place and, on the other hand, the desire of the FSA to create a credible deterrent by successfully pursuing market abuse cases. Nonetheless, the FSA is increasingly prepared to take action based on compelling circumstantial evidence. Indeed, the action against Mr Shevlin is a good example of a situation where, despite being unable to rely upon direct evidence of the passage of inside information, the overall aggregation of  circumstantial evidence was sufficiently compelling to persuade the FSA that it was appropriate to proceed.

Here the fact that Mr Shevlin had access to sensitive "insider" emails was significant because, as the FSA observe, "some of the most valuable evidence in investigating market abuse is that relating to the point at which transactions are undertaken: in particular taped conversations and records of electronic communications". Of course, as was the case here, such evidence may not record direct evidence of the passage of inside information but, when combined with other circumstantial evidence (such an unusual "spike" in the wrongdoers' trading pattern), may assist the FSA to put together a compelling circumstantial case. Against that background it is interesting to note that, from March 2009, firms will be subject to a more rigorous regulatory regime in relation to the retention of electronic communications (including telephone calls) which is designed to assist the FSA to identify and recover such circumstantial (and direct) electronic evidence. To see an article by Shane Gleghorn and Paul Glass, "The FSA is listening: new powers on telephone and email communications" (1 May 2008) Financier Worldwide (Special Report), click here.

The Facts

Mr Shevlin was an IT technician at the head office of The Body Shop.  The Body Shop's Christmas trading announcement was scheduled for 13 January 2006, and in the period from 16 December 2005 to 10 January 2006 emails were in circulation among senior executives about how The Body Shop was performing, and how it was not going to meet profit targets.  From 8 January 2006, emails were in circulation among senior executives, which discussed moving the announcement date forward to 11 January and contained drafts of the Christmas trading announcement. At these times, Mr Shevlin had, by virtue of his role as an IT technician, the passwords of certain senior executives of The Body Shop which could have enabled him to see these emails.

On 10 January 2006, Mr Shevlin entered into a CFD (Contract for Differences) trade for 80,000 The Body Shop shares.  Mr Shevlin borrowed £29,000, more than his annual salary, for this purpose.  At 7.00am on 11 January 2006, The Body Shop announced that it had missed its profit forecast of 17-22%, and its share price fell by 18%.  Mr Shevlin closed out his CFD position on 11 January 2006 and made a total net profit of £38,472.

The FSA's case was based on an aggregation of circumstantial evidence from which the FSA felt able to draw inferences when considered as a whole, rather than relying on direct evidence of the passage of inside information.  In particular, the FSA noted that it was unable to demonstrate conclusively that Mr Shevlin had electronically accessed the inside information at The Body Shop. The FSA found, however, that "there is cogent and compelling circumstantial evidence against Mr Shevlin" which was sufficient for them to proceed, including:

		the opportunity and ability to access the inside information (and to "cover his tracks" in doing so)
		the arrangement of substantial finance on an urgent basis
		the placing of the CFD trade the day before the announcement
		the size of the trade (26.7% of trading volume in The Body Shop stock for the day)
		the CFD trade was significantly larger than any CFD Mr Shevlin had previously traded (in fact, 11.5 times greater than previous CFD trades in The Body Shop stock, and an underlying value of more than double Mr Shevlin's net assets)
		the level of risk Mr Shevlin undertook would have resulted in serious financial hardship had the trade gone against Mr Shevlin.