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Smelling a rat, regulators target illegal trading
By Jian De |
June 29, 2012, Friday
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Print Edition
Print Edition
THE final court hearing of China's largest rat-trading case in Shanghai earlier this month drew public attention again to longstanding promises by authorities to clean up illegal market practices.
So-called rat trading, where brokers or fund managers buy shares for their personal accounts on inside information, was made a criminal offence by a 2009 amendment to China's criminal law.
Li Xuli, 39, a fund management star and former investment director of Bank of Communications Schroders Fund Management Co, was detained last August on suspicion of exploiting private information about two stocks in the fund that he managed to trade in shares and make over 10 million yuan (US$1.6 million) of personal profit.
He was alleged to have ordered an agent to buy shares in Industrial and Commercial Bank of China and China Construction Bank on his behalf at a time when the funds he oversaw were buying the two banks in batches in early April 2009.
Li is still awaiting a verdict in the Shanghai No. 1 Intermediate People's Court. The capture of such a fat rat sent off alarm bells across the industry.
The case has revealed certain challenges still facing regulators. They include the small number of irregularities actually discovered and prosecuted, the difficulty of gathering evidence, legal vagueness in defining illegal profits and soft penalties when "rats" are brought to justice.
During the three-hour Li hearing, prosecutors presented evidence to try to elicit criminal penalties, while the defendant's lawyers pleaded not guilty, questioning the soundness of the evidence.
Collecting evidence has always been difficult when dealing with financial crimes. The technology that facilitates trading also conceals crimes.
Since March 15, the court hearing was postponed three times to allow prosecutors more time to collect evidence. However, the prosecutors still failed to produce the "smoking gun" showing that Li did in fact call an agent to place the stock order on his behalf.
Li admitted that he operated two accounts in the name of his wife, but he argued that he didn't intend to use the fund he managed to drive up share prices because large-cap shares are resistant to speculation and because he sold the shares two months after the fund did.
In China, rat-trading defendants bear no burden of proof, and there is no judicial definition for the type of information they should not exploit. There is no clear directive for determining the seriousness of a rat-trading crime. An official with the securities regulator reportedly said that an interpretation will be "hopefully" released within this year.
Limited effect
The China Securities Regulatory Commission has adopted the international practice of banning fund professionals from trading shares and has ordered relatives to register their transactions with the regulator in advance. But the effect of those directives has been limited.
Even if Li were found guilty, he would face no more than five years in jail or a fine no more than five times his illegal profits, the defendant lawyer's Zhu Youbin said outside the court.
Though the fine this time, if implemented, would be a large sum of money, opportunistic profits for the "rats" are still big enough for them to throw caution to the wind.
The prosecutor noted that Li did help his fund earn money even during the 2008 financial crisis, but he also said the defendant raked in more than 80 million yuan by trading shares on his personal accounts before 2009, when rat trading was not yet a crime.
In May last year, when the result of China's first rat-trading trial was pronounced, fund manager Han Gang received a one-year prison term and was fined 310,000 yuan, the same amount as the confiscated illegal profits.
A China Academy of Social Science report released this month said the sentence was lenient. It suggested aggravated penalties on illegal practices such as rat and insider trading.
Looking ahead, the wider opening of China's securities market and the increasing mix of tradable financial products suggest more sophisticated regulations and monitoring will be needed. Can China's financial sector avoid the mistakes of the past?
As more foreigners are allowed into China's domestic securities market, the need for more complex regulation and oversight becomes imperative.
So-called rat trading, where brokers or fund managers buy shares for their personal accounts on inside information, was made a criminal offence by a 2009 amendment to China's criminal law.
Li Xuli, 39, a fund management star and former investment director of Bank of Communications Schroders Fund Management Co, was detained last August on suspicion of exploiting private information about two stocks in the fund that he managed to trade in shares and make over 10 million yuan (US$1.6 million) of personal profit.
He was alleged to have ordered an agent to buy shares in Industrial and Commercial Bank of China and China Construction Bank on his behalf at a time when the funds he oversaw were buying the two banks in batches in early April 2009.
Li is still awaiting a verdict in the Shanghai No. 1 Intermediate People's Court. The capture of such a fat rat sent off alarm bells across the industry.
The case has revealed certain challenges still facing regulators. They include the small number of irregularities actually discovered and prosecuted, the difficulty of gathering evidence, legal vagueness in defining illegal profits and soft penalties when "rats" are brought to justice.
During the three-hour Li hearing, prosecutors presented evidence to try to elicit criminal penalties, while the defendant's lawyers pleaded not guilty, questioning the soundness of the evidence.
Collecting evidence has always been difficult when dealing with financial crimes. The technology that facilitates trading also conceals crimes.
Since March 15, the court hearing was postponed three times to allow prosecutors more time to collect evidence. However, the prosecutors still failed to produce the "smoking gun" showing that Li did in fact call an agent to place the stock order on his behalf.
Li admitted that he operated two accounts in the name of his wife, but he argued that he didn't intend to use the fund he managed to drive up share prices because large-cap shares are resistant to speculation and because he sold the shares two months after the fund did.
In China, rat-trading defendants bear no burden of proof, and there is no judicial definition for the type of information they should not exploit. There is no clear directive for determining the seriousness of a rat-trading crime. An official with the securities regulator reportedly said that an interpretation will be "hopefully" released within this year.
Limited effect
The China Securities Regulatory Commission has adopted the international practice of banning fund professionals from trading shares and has ordered relatives to register their transactions with the regulator in advance. But the effect of those directives has been limited.
Even if Li were found guilty, he would face no more than five years in jail or a fine no more than five times his illegal profits, the defendant lawyer's Zhu Youbin said outside the court.
Though the fine this time, if implemented, would be a large sum of money, opportunistic profits for the "rats" are still big enough for them to throw caution to the wind.
The prosecutor noted that Li did help his fund earn money even during the 2008 financial crisis, but he also said the defendant raked in more than 80 million yuan by trading shares on his personal accounts before 2009, when rat trading was not yet a crime.
In May last year, when the result of China's first rat-trading trial was pronounced, fund manager Han Gang received a one-year prison term and was fined 310,000 yuan, the same amount as the confiscated illegal profits.
A China Academy of Social Science report released this month said the sentence was lenient. It suggested aggravated penalties on illegal practices such as rat and insider trading.
Looking ahead, the wider opening of China's securities market and the increasing mix of tradable financial products suggest more sophisticated regulations and monitoring will be needed. Can China's financial sector avoid the mistakes of the past?
As more foreigners are allowed into China's domestic securities market, the need for more complex regulation and oversight becomes imperative.
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