Understanding the legal framework behind market manipulation sets the foundation for recognizing specific schemes.
What Is Market Manipulation?
- Market manipulation is any intentional conduct designed to deceive investors by artificially influencing the price or trading volume of a security
- The key word is "artificially" - legitimate supply and demand should determine prices, not deceptive schemes
- Manipulation undermines market integrity and investor confidence
The Legal Foundation
Three primary rules prohibit market manipulation. Two come from the Securities and Exchange Commission (SEC) and one from the Financial Industry Regulatory Authority (FINRA):
| Source | What It Prohibits |
|---|---|
| SEC antifraud rule | The broad antifraud rule: prohibits any act of fraud or deceit in connection with buying or selling securities |
| Securities Exchange Act of 1934 antimanipulation provision | Specifically targets transactions that create a misleading appearance of active trading or artificially affect prices |
| FINRA antimanipulation rule | Prohibits the use of manipulative, deceptive, or other fraudulent devices by FINRA member firms and their associated persons |
- The SEC antifraud rule is the most important antifraud provision in securities law: it applies to virtually any deceptive conduct connected to securities transactions
- To prove a violation, the SEC must show: (1) manipulation or deception, (2) materiality, (3) a connection to buying or selling securities, and (4) scienter (intent to deceive)
Exam Tip: Gotchas
- The SEC antifraud rule is the "catch-all." It covers both market manipulation AND insider trading. If the exam asks which rule prohibits fraudulent conduct in securities transactions, the broad antifraud rule is almost always the answer.
- The Exchange Act antimanipulation provision is narrower than the SEC antifraud rule. The antimanipulation provision targets specific manipulation of trading activity and prices, while the antifraud rule covers any fraud or deceit in securities transactions. The exam may test which is broader.
- FINRA's antimanipulation rule applies only to FINRA members, while SEC rules apply to everyone involved in securities transactions.