FMSB Publishes (Mis)Behaviour Cluster Analysis

The FICC Markets Standards Board (FMSB) has published its Behavioural Cluster Analysis (BCA) study, a piece of research that has reviewed the behavioural patterns in 390 cases of misconduct in financial markets over an extended period of time (225 years stretching back to 1792) and covering 26 countries and multiple asset classes. This review indicates that the behavioural patterns evident in misconduct events are not unique to each case but that the same 25 behavioural patterns are evident in market misconduct cases and these consistently repeat and recur over time. 

The purpose of the work is practical, FMSB says, adding that the work addresses a number of the findings of the UK’s 2015 Fair and Effective Markets Review (FEMR). In particular, identifying the root causes and relevant behaviours which underlie market misconduct is an essential step in preventing them recurring and the work leverages the experience of domestic and international markets to do this, FMSB says. The FEMR also called for the provision of real- life case studies in areas detrimental to the effective operation of markets and the need for the industry to reinforce collective memory in these areas. 

“One of the Review’s most striking findings has been that, although the specific aspects of individual misconduct may have varied substantially across traders, firms and markets, the underlying behaviours were remarkably similar in many cases and relatively straightforward to describe,” the report states. 

The work undertaken by FMSB involved researching and analysing information set out in a large body of enforcement cases. The materials were used to illustrate the behaviours in question, so that they can be understood by market participants and factored into systems and controls frameworks. 

BCA is an evidence-based methodology based on analysis of the patterns of behaviours in actual market conduct cases brought by regulatory and other enforcement authorities. Using BCA, enforcement cases and similar source materials describing actual adverse conduct are reviewed to ascertain the pattern of behaviour indicated in each case. These are compared with those in other cases in order to determine whether the same behaviours repeat or whether the underlying behaviours are unique in each case. This is the first time that these patterns of behaviour have been collated, analysed and published as a single reference point for market participants.

The study identified 25 patterns which can be further grouped in to seven broad categories – price manipulation; circular trading; collusions and information sharing; insider information; reference price influence; misleading customers; and improper order handling. 

It adds that there are four key thematic conclusions: 

  1. There are a limited number of behavioural patterns – The materials show 25 behavioural patterns evident in market misconduct cases, which repeat and recur over time. ?
  2. The same behavioural patterns occur across different jurisdictions and countries – These behavioural patterns do not respect national or jurisdictional boundaries but are evident internationally. ?
  3. The same behavioural patterns also occur across different asset classes – These behavioural patterns are not specific to particular asset classes. The same patterns are evident in different asset classes. ?
  4. The behaviours adapt to new technologies and market structures – Technology is not new – it has been a feature for markets for years and these same behaviours have adapted to new technologies and new forms of communication. ?

“Behavioural Cluster Analysis is an innovative piece of research,” says Gerry Harvey, CEO of FMSB. “This is the first time that the underlying patterns of misconduct across markets, jurisdictions and asset classes have been collated and analysed over an extended period of time. 

“The importance of this work was set out in the Fair and Effective Markets Review. This recognised that good regulation and a sound legal framework are necessary pre-conditions for markets to operate fairly and effectively, but more is required to ensure that users of markets receive the best outcomes,” he continues. “As such, the purpose of BCA is a practical one. Identifying the relevant behaviours underlying market misconduct is an essential step to forestalling them. Furthermore, technology in markets does not remove misconduct as some have suggested – our findings show that misconduct adapts to new technologies and market structures. 

“BCA is derived from real cases of market misconduct,” Harvey adds. “By identifying the root causes and relevant behaviours which underlie market misconduct BCA supports and advances the objectives of the FEMR, in particular, in leveraging the experience of other markets and jurisdictions and providing practical examples in one source document.” 

The work has also received public support from Bank of England Governor Mark Carney and Andrew Bailey, CEO of the UK’s Financial Conduct Authority (FCA).

“Horizon scanning for existing and emerging threats to fair and effective markets is a key recommendation of the FEMR,” says Carney. “It is fundamental to identifying the root causes of misconduct and to finding ways to reinforce the collective memory of the market about what constitutes acceptable conduct and practice. I’m delighted that the FMSB has developed this Behavioural Cluster Analysis methodology to support these goals. It is an innovative and evidence based methodology, of great value to market participants as well as regulators. I hope that all wholesale market firms will incorporate its lessons in their work to improve standards of conduct in wholesale markets.”

Meanwhile, Bailey says, “Conduct risk is systemic and does not respect asset class, geographic or jurisdictional boundaries. The purpose of supervisory and enforcement action is to deter wrong doing. But it is also undertaken so that all market participants can focus on the behaviours involved and use the lessons learned in a pre-emptive fashion, including by “reading across” to other business lines and markets. The Behavioural Cluster Analysis that the FMSB has undertaken provides a very helpful basis for firms to do this, by collating misconduct patterns from multiple markets and asset classes and drawing out lessons on where supervision and lines of defence should focus their energies.”

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Colin Lambert

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