The Hong Kong Securities and Futures Commission is Actively Going After Penny-Stock Manipulators

Blog Post by Paul Cottee on 3 October 2023 in category Regulations

Introduction

On 29 August the Hong Kong regulator, the Securities and Futures Commission (SFC) issued the latest in a long line of enforcement releases concerning ’ramp-and-dump’ manipulation schemes, in which prices of small-cap stock on the Hong Kong Exchange have been ramped up by fraudsters before they sold out at a profit.

Ramp and Dump – The Pattern

According to the SFC, these schemes follow a consistent pattern: the fraudsters use multiple accounts to build up a relatively large position in a small-cap, low-priced stock. Having cornered ownership of the stock, they then use various means to increase the price of the stock, such as squeezing supply, ramping the price, and disseminating false or misleading information. Once the price has risen, the fraudsters use social media to lure victims to buy the stock (from them), thus offloading the position by dumping the stock before the price collapses. Sometimes, the fraudsters bribe officers of the companies whose stock they are targeting to provide inside information or to spread false or misleading information about the company, thus also introducing elements of insider dealing. The intermediaries the fraudsters use to effect their schemes are usually smaller firms, which the fraudsters might assume are less likely to have well-resourced compliance and surveillance programs.

This is a very active area for the SFC’s enforcement division, accounting for around 50% of all market manipulation cases being investigated by the SFC (up from around 20% in 2020). Since the start of 2020 the SFC, Hong Kong Police and other authorities have frozen around HKD 1.8 billion in assets and over 160 securities accounts, arrested or charged over 50 individuals and issued Restriction Notices in respect of over 50 intermediary firms. One of these schemes alone (with the impugned activity dating back to late-2018) has resulted in 24 arrests to date. In bringing these actions, the SFC has worked alongside local agencies including the Hong Kong Police force, the Independent Commission Against Corruption, and the Hong Kong Monetary Authority (HKMA).

Red Flags

In 2021, the SFC published a Circular to Intermediaries setting out six ’red flags’ to help spot a ramp-and-dump scheme, highlighting clients who:

  • trade volumes inconsistent with their risk profiles;
  • regularly acquire shares off-market, or on a free-of-payment basis, or receive large third-party deposits in their accounts;
  • bought shares on a delayed settlement basis, which then rose substantially in price during the delayed settlement period, and then gave instructions to sell these shares prior to settlement date;
  • bought shares in a particular stock towards the end of the trading day on a number of trading days, in a way that substantially raised the closing price, especially in the absence of any corporate or sector-specific news;
  • sold a large volume of shares in a company shortly before a collapse of the share price which cannot be explained by corporate or sector-specific news, especially where early settlement is requested;
  • appeared to be part of a group of clients, some of whom may have triggered the trading behaviors above, which traded in the same stock in the same direction, around the same price or the same time, and exhibited other suspicious characteristics.

These red flags cut across three main areas of surveillance: trade surveillance; suitability surveillance; and KYC / AML surveillance, and will remind the reader of the red flags / typologies around money laundering in capital markets identified by FINRA and the UK FCA back in 2019 (and indeed by the FATF as far back as 2009).

Detection and prosecution of these conspiracies remains one of the highest enforcement priorities for both the SFC and the banking regulator, the HKMA. Several of these investigations remain ongoing, so it will not surprise to see more of these notices over time.

In addition to local authorities, the SFC is actively working with foreign regulators as many market manipulation schemes involve syndicates operating in numerous countries. For example, in 2002 the SFC and the Monetary Authority of Singapore (plus local police forces) arrested 10 individuals across both jurisdictions, who were accused of operating a ramp-and-dump scheme.

What can firms do?

Over the last year, nearly 20 firms have been issued with Restriction Notices or freezing orders in relation to ramp-and-dump schemes being operated through accounts with them. Whilst these firms are not themselves under investigation by the SFC for wrongdoing, it is perhaps nonetheless not good publicity to be named by the SFC in this context.

The key takeaway here is understanding that regulators globally are aggressively pursuing market abuse, and for Hong Kong firms, the SFC is no exception. No matter what size the firm, it is that crucial any compliance risk assessment (and resulting surveillance program) must consider these risks, lest the firm perhaps unwittingly get caught up in one of these schemes.

Following a risk assessment, firms must ensure that:

  • their surveillance systems are in place and are regularly checked and recalibrated for changes in client business volumes and scale of activities;
  • the appropriate alert scenarios are activated;
  • surveillance cut across orders and trades, communications, records and AML; and
  • siloed surveillance is consigned to history – the various oversight areas must talk to each other.

Epilogue

For the sake of completeness, it’s worth pointing out that there may also be evidence of schemes doing the reverse: disseminating false or misleading information to drive down the target company’s share price for nefarious purposes, for example to profit from short positions, and then buy back once the price has fallen. This is known as ’poop-and-scoop’.

 

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