MAR 3.5 Transactions at Non-Market Prices

A firm should not enter into a transaction which it knows to be improper, or which it ought reasonably to have realised is improper, whether on its own account or for a third party. Firms often do not have the information to be able to assess the reasons why a market counterparty is entering into a transaction, but from past experience, a good indication that the purpose may be improper is if the transaction is undertaken at a price other than at the prevailing market price. Failure to use prevailing rates or prices may result in a firm participating, whether deliberately or unknowingly, in the concealment of a profit or loss, or in the perpetration of a fraud. There may, however, be legitimate reasons for entering into transactions at non-market prices, and MAR 3.5.4 R requires that a firm take reasonable steps to check this.

Firms acting as arrangers (or name-passing brokers) have a more limited role in the transaction and MAR 3.5.4 R and MAR 3.5.7 E do not apply to them. Under Principle 1 (Integrity) and Principle 5 (Market conduct), a firm acting as arranger (or name-passing broker) should not conclude the arrangement if there is information from which it ought reasonably to conclude that the transaction is improper, whether or not it is at a non-market price.

The requirements upon firms when conducting designated investment business with or for a customer are set out in COB 7.15 (Non-market-price transactions).

A non-market-price transaction is a transaction where:

1. (1)

   the dealing rate or price paid by the firm or its client differs from the prevailing market rate or price to a material extent; or

2. (2)

   the firm or its client otherwise gives materially more or less in value than it receives in return.

Certain types of transactions or structured transactions are undertaken at non-market rates or prices, but are not necessarily considered to be non-market-price transactions. Examples are:

1. (1)

   a transaction with more than one component, where the individual components are entered into at non-market rates or prices, so long as the sum of the whole transaction produces an overall market rate or price, for example:

   1. (a)

      asset swaps, where the underlying asset is sometimes sold at a non-market price; the fixed cash flows from the asset are then passed back to the seller, also at a non-market rate; where neither the asset trade nor the swap is at a market rate, the overall transaction can be considered to be at the market price where the combination of the two components delivers this result; and

   2. (b)

      other types of swaps, where one or both legs is not on the forward curve (showing implied forward rates or prices), for example when up-front or final payments are involved;

2. (2)

   the purchase and sale of out of the money options. The fact that the strike price is away from the market price is not in itself sufficient to give rise to a non-market-price transaction; other factors, such as the level of premium, must also be considered;

3. (3)

   in tax-based transactions, a tax gain or liability should be taken into account in order to determine whether it is a non-market-price transaction.

Certain circumstances may result in a transaction being undertaken at a price other than the market price, for example:

1. (1)

   the transaction is not for a marketable amount; or

2. (2)

   an order has been carried out over a period of time; or

3. (3)

   a transaction is executed outside normal market hours; or

4. (4)

   a transaction is executed in illiquid markets; or

5. (5)

   a transaction has a non-standard settlement period;

and these circumstances may be relevant in assessing whether the transaction constitutes a non-market-price transaction.

The question of whether a transaction is a non-market-price transaction is to be judged as at the time it is effected and not with hindsight.

The variation or rolling over of an existing transaction should be regarded as a new transaction for the purposes of MAR 3.5.4 R.

Examples of improper purposes for transactions (see MAR 3.5.4 R) include:

1. (1)

   the perpetration of a fraud;

2. (2)

   the disguising or concealment of the nature of a transaction or of profits, losses or cashflows;

3. (3)

   transactions which amount to market abuse;

4. (4)

   vulnerable transactions under the Insolvency Act 1986; and

5. (5)

   "window dressing", in particular around the year end, to disguise the true financial position of the person concerned.

A transaction may be for one or more of the purposes stated in MAR 3.5.13 G yet still not be a non-market-price transaction. MAR 3.5 should not be taken as qualifying in any way obligations on firms, however these arise, regarding these transactions.

When a non-marketpricetransaction has more than one component, the assessment of whether or not the transaction is improper should be made by reference to the transaction as a whole. Although the judgment is formed with reference to the whole transaction, a firm may conclude that the rationale for one component would cause it to be in breach of MAR 3.5.4 R.

A transfer between a firm and its nominee or an intra-group transfer for risk management purposes may not be at a market price, but will often be for proper purposes. Where that is so, the firm may take part in it. However a firm should establish, and act in accordance with, a policy dealing with these transfers, and other intra-group non-market-price transactions, and be able to demonstrate that it has considered the consequences of participating in them.

The procedures a firm has in place to identify non-market-price transactions should be appropriate for the types of transaction in question, bearing in mind MAR 3.5.8 G to MAR 3.5.12 G.

When a firm proposes to enter into a non-market-price transaction, the personnel considering the transaction should:

1. (1)

   consider the justification and rationale of the other parties to the proposed transaction and whether the decision to enter into it was taken by the parties concerned at a senior level, and not by an individual trader or treasurer; and

2. (2)

   (if the transaction is approved) be satisfied that all the material terms of the non-market-price transaction (so far as they affect the firm) have been agreed before the transaction is entered into and that they are promptly recorded in accordance with MAR 3.5.7E; material terms are likely to include the amounts each counterparty is to pay and receive and whether any amounts are to be netted against or offset against any amounts due and owing under a separate transaction.

The degree of seniority referred to in MAR 3.5.7 E (1)(b) may depend on the nature of the transaction.

A firm operating an electronic matching system should consider implementing appropriate systems to identify potential non-market-price transactions. In these circumstances, it may be appropriate for such identification, and appropriate resulting action, to occur after the transaction has taken place.

A firm may take reasonable steps to ascertain its market counterparty's rationale for entering into the transaction, as set out in MAR 3.5.18 G, but still be unable to find this out. It is up to the firm, having regard to the circumstances, to decide whether it is appropriate to enter into the transaction. One relevant circumstance is whether or not the market counterparty is another firm, in which case the firm is entitled to assume that the other firm is acting properly, in the absence of any further information to the contrary.