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Difficulty: Very hardProhibited Market Manipulation and Fraudulent Practices

Below are four prohibited market practices governed by FINRA rules and federal securities laws, alongside four trading scenarios illustrating prohibited acts. Match each prohibited market practice with the trade scenario that accurately exemplifies the violation.

  • PeggingA syndicate member enters continuous buy orders at a specific floor price to prevent an equity security from dropping below its public offering price, without adhering to SEC Regulation M stabilization rules.
  • InterpositioningA broker-dealer routes a retail customer's buy order through an unnecessary third-party broker-dealer that adds a secondary markup, even though the primary firm has direct electronic access to the prevailing market maker's quote.
  • Matched OrdersTwo colluding market participants enter pre-arranged buy and sell orders of identical size and price at nearly the exact same time to artificially boost reported market turnover for a low-volume equity.
  • Front-RunningA registered representative purchases equity call options in their personal trading account immediately after taking a market order from an institutional client to buy 1010 million worth of the underlying stock.

Answer

Pegging pairs with placing unauthorized buy orders to maintain a price floor without complying with SEC Regulation M stabilization rules; Interpositioning pairs with routing customer trades through an unnecessary middleman broker-dealer to add extra costs; Matched Orders pairs with collusive simultaneous buy/sell transactions between separate parties to simulate active trading volume; Front-Running pairs with buying options for a personal account ahead of executing a massive institutional client order.
Pegging matches placing buy orders to maintain a price floor without SEC Regulation M stabilization compliance. Interpositioning matches placing an unnecessary third-party broker-dealer between a customer and the best execution venue. Matched orders match collusive traders placing simultaneous offsetting buy and sell orders to simulate market activity. Front-running matches trading personal call options ahead of a known institutional block trade.

Step-by-Step Solution

1
Evaluate Pegging
Identified artificial price maintenance without proper regulatory authorization.
Pegging refers to entering orders designed to fix or cap a security's price floor, which is illegal market manipulation unless conducted as permitted under SEC Regulation M rules.
2
Evaluate Interpositioning
Identified insertion of an redundant broker-dealer between the customer and best price.
Under FINRA Rule 5310, interpositioning harms customer execution by introducing unnecessary fees or delays.
3
Evaluate Matched Orders
Identified collusive pre-arranged buying and selling between separate parties.
Matched orders are pools or collusive agreements where offsetting trades are placed to give the market a false impression of liquidity and trading interest.
4
Evaluate Front-Running
Identified trading ahead of a nonpublic block trade.
Trading on advance material knowledge of a customer's large block order violates FINRA rules against market manipulation and misuse of nonpublic order information.

Key Concept

Prohibited Market Manipulation and Fraudulent Practices
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Prohibited Market Manipulation and Fraudulent Practices