So, liquidity is all important for well-functioning capital markets. But what about the market participant's trust in the functioning of these markets? In terms of their integrity, their transparency, and their fairness. Well, efficient markets require market participant's trust and confidence in the fairness and the equity of these markets. They to be ensured that it is, in fact, a level playing field. And a level playing field requires equal information, public access to equal information. Hence, it requires a reduction in information, asymmetry. Clearly, corporations know best about their earnings, about their business. How does that information go to the investors in those corporations? So, how does the information get passed on to the owners of the corporation? Well, the mandatory disclosure requirements of material nonpublic information, and we'll see in a moment what that means, is fundamental to achieve that level playing field. Regulation Fair Disclosure in the US means that all of that material information needs to be provided simultaneously to the public, not just to preferred analysts. So, what is material information? Well, it's material if its disclosure is likely to impact the price of an asset. To define materiality we have the following specific requirements. First and foremost, the information needs to be specific to the value of the asset. So, there needs to be a direct link between the piece of information, and the intrinsic value of the asset. Second, the information is only material if it is not already out there in a different form. So, the extent to which it differs from already available public information. Third, the nature of the information. Is the information indeed pertinent to the corporation that issued the equity? What kind of information is it? Is it information about the color of the dining room at Kellogg, or is it information about a recent merger that Kellogg has engaged in? And then there's the reliability of the information. Is just hearsay, gossip, or is it in fact real information that can be expected to have a direct impact on the intrinsic value of the equity. Once we've determined what material information is, then we can take a closer look at how that information should be treated. If information is not publicly available, but is in fact, privately held by insiders, then we consider cases of insider trading. Insider trading is defined as the either buying or selling on an asset while in possession of material private, non-public information, or tipping that information to a third party, thereby breaching a fiduciary duty or a duty arising from a position of trust. So that's what insider trading entails, acting upon the information that is not publicly held. Second scenario of insider trading is one based on misappropriation of the material information. Where its outsiders who learn the material nonpublic information in the course of their employment, and they owe a fiduciary duty to somebody else, then the issuer of the asset subject to insider trading. So for example, the accountants auditing the firm financials statements would classify under that misappropriation scenario. Some jurisdictions, some countries have in fact, got much stronger interpretations of misappropriation. Any information outsiders that do not in fact, have any fiduciary duty getting hold of private material information, could be classified as insider traders in those jurisdictions. It's worth pointing out at this stage that the classical scenario of insider trading doesn't actually prevent insiders to trade. So here's an example of Kellogg's Directors Transactions. Where Kellogg's directors trade in the shares of Kellogg's quite frequently. As you can see, they buy and sell shares at regular intervals. Trading by insiders does not equate to insider trading. That would be a scenario, where material private information would be utilized before it is being released to the public. Trading by insiders happens for a variety of reasons. It could be part of vested equity options. It could be a variety of other motivations to trade, to show and signal confidence in the future of Kellogg's, for example. Having defined the insider training and material information, anecdotally, we find that illegal insider trading is in fact on the rise. And that might simply be because there are more temptations out there. This long list of corporate actions, corporate decisions, all of the opportunity to insider traders to privatize information, and utilize that information for their own benefit prior to the public release of that information. And this is not just the information that is of direct relevance to a corporation, it could also include information that is more macro. Information related to government reports on unemployment numbers, on inflation numbers. Key macrostatistics are nowadays closely scrutinized by the market. A little later, we will see what that kind of information might also be classified as material information, as it relates to insider trading on equity markets. So, let's see whether there's any truth to the allegation, that insider trading is on the rise. Do insiders in fact, exploit private information? There seems to be evidence that there is leakage to some traders before a public announcement occurs. In particular, there are studies indicating that dividend announcements are often preceded by a prize moment by a few days that could suggest that somebody else is trading on the information before it becomes public knowledge. Another empirical fact is that when insider buyers exceed insider sellers, so there's more buy pressure, more demand for shares, that subsequently the share price of those stocks increases, performs well. Again, that could be an indication that the insiders are trading on private information. However, it could also be that the market is perceiving those transactions, which are reported publicly, as a confidence signal in the future of the corporation. So, it is not always straightforward to derive conclusions from the empirical evidence. The next topic we'll discuss related to trust in fairness, and integrity of the market. In price discovery first and foremost, is price manipulation. Where transactions are performed to deceived the market. Participants try to distort price discovery, very clearly undermining the core function of price discovery on those markets. So what manipulators do is to artificially distort prices, or artificially distort volume, thereby giving an impression of trading activity or price change when neither of those are in fact there. Alternatively, manipulators could attempt to secure what we call a controlling position in an asset. By as much as they possibly get of an asset, keep it and extract any price they like from other investors that need access to this security. Alternatively, it could take shape in the form of dissemination of false or misleading information. So rather than actually participate in transactions to deceived the market, spread false information. A case well-known as Rumourtrage is a key example of such manipulation of markets. Here's just a short list of the many types of manipulation as they have been observed in practice over the past. Pump-and-dump. Pump-and-dump strategies involve the spread of exaggerated statements. Suggests that the company is going gangbusters, pump up the volume in transactions in that particular stock, and then subsequently sell when the price has reached all-time highs. And only after that it materializes that the good news was actually never there. Short-and-distort is the opposite of this, where unverified bad news is spread around the market, thereby depressing the market leading people to sell their shares. Whereas the manipulator has taken a short position, and will buy back the shares at much lower prices. Then there are fictitious trades. Trades that give an impression of a lot of activity in the market, and the activity could indicate that the market is going well, like bucketing, cross trading, giving an appearance of trade whereas none is actually there. And lastly on this list, it's ramping, churning, and wash trades, again, typical examples of appearance of activity, appearance of volume. Distorting the market's perception of the actual liquidity as it exists on the market. A recent example of such activity, and I'll leave it to you to decide onto which category that fits, would be the LIBOR manipulation, as it occurred a few years ago. Apart from the price distortion, deception of the market by creating false price or volume signals, let's take a look at the corners, where manipulators are taking controlling positions in the assets. Here's a quote from the Chicago Board of Trade. The situation worsened when a corner in corn futures victimized the president of the Board of Trade, ruining him financially and prompting his resignation from office. Rest assured that this quote came from the 19th century. But it is rather telling if the president of the market of the Board of Trade is engaging in this kind of manipulative transaction himself. It also shows that it's in fact, of course, quite hard to hide when a corner, when a controlling position is in fact successful, it is blatantly obvious to the public, to the regulators, to the exchange. What typically happens is that the exchange will then crack down on the active activity, and force the manipulator to liquidate their corner position. Well, let's look at it from the Securities and Exchange Commission's position. The watchdog, so to speak of the stock exchanges in the US. So here are some numbers from enforcement actions that the Securities and Exchange Commission has taken over the last ten years or so. You can see from the green line on the left that the number of cases, whereby the SEC had to take enforcing action on corporations has been decreasing. So, issuers reporting and disclosure have become, you could argue more compliant with the rules, enhancing the trust that the public has in having access to the same information as insiders. Insider trading, however, has been fairly stable over those past 10 years, with about 50 cases per year being enforced be the SEC. If we look at the right-hand side, we see some numbers for market manipulation. So, the total number of enforcement actions, as you can see from the graph has been going up. That would include, the insider trading cases, and the issuer reporting and disclosure cases. But the Issuer Reporting and Disclosure cases were clearly, diminishing in frequency. So, where did the growth come from, in terms of total enforcement actions, the green on the right? Well, you can see that it's market manipulation. There has been a discernible increase in the number of cases of market manipulation over that ten year period, which is obviously deleterious to the trust, that market participants might have in the markets that the SEC is regulating is watching. Just to give you an indication of what happens when a case is successfully prosecuted. So here's the outcomes of SEC Enforcement on the insider trading cases on manipulation cases. The blue bars, indicate the restitution of illegal profits. And we can see that, that is clearly the larger component of the total enforcement outcome. We can also see that penalties were decreasing from 2005 until about 2009, but since then, the penalties have significantly ramped up. That might be an indication of what happened after the global financial crisis of which we will discuss in some more detail a little later. So, what are the major marketing integrity challenges facing regulators, like the SEC? First, there's the relationship between financial intermediaries, and their clients. Financial intermediaries for these markets being the market makers, the brokers, the dealers, the specialists. Actions like front-running, tailgating, and dual trading are all very difficult to detect, and some of them are in fact, not even illegal. But they have the tendency to undermine the public's trust in the fairness and the equity of the market. Then there are the over-the-counter markets, vulnerable to manipulation, yet very difficult for regulators to detect these cases. Self Regulatory Organizations, like the derivatives exchanges may in fact, prefer to settle, rather than go to court, and prosecute. But who's paying the price? Then there are the unregulated market platforms, where regulators have no jurisdiction whatsoever. And lastly on this list, the dark pools that we briefly covered under liquidity. New markets, new platforms, new trading systems, all causing headaches for regulators that have to respond to the need for trust in the fairness and the equity of these markets. And how does that affect corporations? Well, corporations are equally reliable on the trust in fairness, and the equity, and the integrity of the markets where they source their financing, where they get price discovery of the intrinsic failure of the asset.