The Regulator

Cathie Armour discusses the regulator’s recent review of market cleanliness and explains how it contributes to the confidence of issuers and investors in the listed equities market.

Measuring market cleanliness

Australia’s securities exchanges play a central role in the prosperity of our economy by facilitating capital raising and investments. As directors and executives of companies that seek access to capital (or are looking to invest), you understand the value of a well functioning market to the efficient allocation of capital.

In markets where investors perceive there is an unfair information asymmetry, they tend to protect themselves by reducing their participation or demanding a higher return. Studies such as Utpal Bhattacharya and Hazem Daouk’s, The World Price of Insider Trading, indicate that effective insider trading enforcement is associated with a lower cost of capital.

So, what is the effect of information leakage on prices and trading behaviour in Australia’s listed equities market? The Australian Securities and Investment Commission (ASIC) has recently reviewed the “market cleanliness” of our listed equities market. The results of our review have been published in Report 487: Review of Australian equity market cleanliness (the Review).

ASIC looked for anomalous trading by analysing abnormal, pre-announcement price movements and shifts in trading behaviour before material, price-sensitive announcements. ASIC’s review of market cleanliness used both an established measure and a new measure recently developed by ASIC.

The new market cleanliness measure uses the latest surveillance data to examine trading behaviour before material announcements.

This innovative measure uses individual origin of order ID (account) data available through ASIC’s Market Analysis Intelligence system, removing the reliance on abnormal price movements as an indicator for possible information leakage and insider trading.

Using advanced analytics, ASIC looked at the behaviour of individual accounts and identified anomalous trading patterns ahead of material announcements – as compared to each account’s historical trading behaviour.

Findings

The Review suggests that possible information leakage and insider information ahead of material announcements has declined over the past 10 years. That is, market cleanliness in the Australian listed equity market has improved over the past decade.

The new measure of market cleanliness indicated that 95 per cent of material announcements exhibited no (or negligible) anomalous trading patterns ahead of an announcement in the period 1 November 2014 to 31 October 2015.

The general improvement in Australian market cleanliness as found in the Review is consistent with independent international research, Intralinks M&A Leaks Report, which ranks the Australian equities market as one of the cleanest of all developed markets.

Trends identified

ASIC found that within the context of a clean market:

• Larger capitalisation companies fare slightly better in market cleanliness measures. 
• Mergers and acquisitions tend to fare better under the established market cleanliness measure, but worse under the new market cleanliness measure. 
• Market cleanliness measures for securities in some industries tend to be consistently higher or lower than others, although there tends to be some variation in industry results depending on the market cleanliness measure used.

Monitoring cleanliness

ASIC will periodically analyse market cleanliness to inform our regulatory work and improve market integrity.

The intelligence we have, and the data we continue to accumulate, allows us to drill down into individual accounts and identify suspicious trades and suspicious trading patterns.

Our continued monitoring of market cleanliness will enhance our surveillance and enforcement capabilities against market misconduct.

The improvement in market cleanliness and our continuing focus on market integrity contributes to the confidence of issuers and investors in our listed equities market.