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Difficulty: HardProhibited Market Manipulation and Fraudulent Practices

A registered representative is under investigation by a broker-dealer's compliance department for engaging in activities that violate securities industry rules regarding market manipulation and fraudulent trading practices. Which of the following activities described below constitute prohibited fraudulent or manipulative practices under securities regulations?

  1. Submitting non-bona fide limit orders that are intentionally priced to alter the national best bid or offer (NBBO), with the primary intention of cancelling them immediately before executing an opposing order.Answer
  2. Purchasing shares in a customer's cash account and subsequently selling those same shares prior to the settlement date without making full cash payment for the initial purchase.Answer
  3. C
    A self-regulatory organization (SRO) hearing panel issuing a criminal indictment and sentencing a registered representative to federal prison for market manipulation.
  4. D
    Executing simultaneous buy and sell transactions in a security across two accounts held by completely separate, unrelated beneficial owners to rebalance market exposure.

Answer

The prohibited practices are spoofing (entering and cancelling non-bona fide orders to manipulate quotes) and free-riding (selling securities in a cash account before paying for the purchase). The statements involving SRO criminal sentencing and trades between distinct beneficial owners are incorrect.
Spoofing (entering non-bona fide orders to artificially manipulate quotes) and free-riding (selling securities prior to paying for their purchase in a cash account) are both prohibited fraudulent and manipulative market practices under SEC and FINRA rules.

Step-by-Step Solution

1
Analyze the quote entry behavior in the first option.
Submitting non-bona fide orders intended to shift the NBBO and cancelling them prior to execution is spoofing, which is a prohibited market manipulation tactic.
Regulatory rules prohibit quote manipulation intended to deceive other market participants.
2
Analyze the payment and settlement behavior in the second option.
Selling shares in a cash account before making payment for the purchase constitutes free-riding under Regulation T.
Federal Reserve margin regulations require full cash payment for purchases in cash accounts before proceeds can be used.
3
Evaluate the regulatory jurisdiction in the third option.
SROs like FINRA can fine, suspend, or bar representatives, but cannot criminally indict or imprison violators.
Criminal authority rests exclusively with government law enforcement agencies and criminal courts.
4
Analyze beneficial ownership dynamics in the fourth option.
Transactions involving distinct, separate beneficial owners are not wash trades.
Wash trading specifically requires that there be no change in beneficial ownership of the security.

Key Concept

Prohibited Trading Practices, Spoofing, Free-riding, and Regulatory Jurisdiction
Estimated Time:2m 0s
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Prohibited Market Manipulation and Fraudulent Practices