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Assessing the Administrative Sanctions Regime for Insider Trading in China: An Empirical Approach

  • Charlie Xiao-chuan WENG (a1) and Jingwei JIA (a2)

Abstract

The Chinese Securities Regulatory Commission (CSRC) has significantly revised its overall market supervision framework over the last two decades. China’s insider trading laws, however, remain broad and abstract, while most enforcement measures take place inside a black box. These circumstances have led to an unpredictable and ineffective enforcement regime. This article examines all administrative sanctions cases from 2000 to 2013 in order to examine the CSRC’s actual enforcement practices. This data shows that the agency has a history of inconsistent enforcement, which stands as a warning against the consequences of unpredictable regulation. Moreover, it argues that the Commission’s current approach to recognizing illegal gains is both unreasonable and illegal, and that the CSRC has failed to adequately enforce actions for loss evasion cases. By adjusting enforcement policy to take these considerations into account, the CSRC would significantly improve the efficacy of the sanctions regime in China.

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Footnotes

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*

Associate Professor, Faculty of Law. An earlier version of this paper was presented at National Taiwan University School of Law for the 2014 Asian Law and Economics Annual Conference. In addition to the participants of the presentations, I would like to thank Professor Allan Horwich and Lawrence S. Liu for reading an earlier draft of this paper and their invaluable contribution and comments. Also, I am deeply indebted to Huang Yongsheng and Zhang Yuting, both LLM candidates at the KoGuan Law School, for their wonderful research assistance. All errors are mine.

**

Lawyer and investment banker. LLM, National University of Singapore.

Footnotes

References

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1. PENG, Bing, “Neimu Jiaoyi Xingzheng Chufa Anli Chubu Yanjiu (内幕交易行政处罚初步研究) [A Preliminary Case Study of Insider Trading Administrative Sanctions]” (2010) 3 Zhengquan Fayuan (证券法苑) [Securities Law Review] 86.

2. YUAN, Jian, Zhongguo Zhengquan Shichang Pipan (中国证券市场批判) [A Criticism of China’s Capital Market] (Beijing: China Social Science Press, 2004).

3. See KPMG and FTSE Group, “China’s Capital Markets: The Changing Landscape” (June 2011), online: KPMG <http://www.kpmg.com/cn/en/IssuesAndInsights/ArticlesPublications/Documents/China-Capital-Markets-FTSE-201106.pdf>.

4. WENG, Charlie Xiao-chuan, “Who Is an Insider? A Case Study on Chinese Insider Trading Enforcement Principles” (2014) 85 Asia Pacific Law Review 22 [Weng, “Who Is an Insider?”].

5. E.g. Zhonghua Renmin Gongheguo Zhengquan Fa (中华人民共和国证券法) [Securities Law of the People’s Republic of China] (2005), art. 108 [Securities Law 2005].

6. STEINBERG, Marc I., “Insider Trading Regulation—A Comparative Analysis” (2003) 37 The International Lawyer 153.

7. E.g. HOWSON, Nicolas C., “Enforcement Without Foundation? Insider Trading and Chinese Administrative Law Crisis” (2012) 60 American Journal of Comparative Law 955.

8. HUANG, Hui, “An Empirical Study of the Incidence of Insider Trading in China” (12 May 2007) SSRN Manuscript, online: SSRN <http://papers.ssrn.com/sol3/papers.cfm?abstrct_id=993341>.

9. “Wu Bumen Jiang Zhankai Neimu Jiaoyi Zhuanxiang Jiancha (五部门将展开内幕交易专项检查) [Five Departments are Initiating Insider Trading Inspections]” Zhongguo Zhengquan Bao (中国证券报) [China Security News] (24 November 2010), online: China Economy <http://finance.ce.cn/rolling/201011/24/t20101124_16455476.shtml>.

10. ZHANG, Jia, “Neimu Jiaoyi Anjian Zhunian Dizeng (内幕交易案件逐年递增) [Insider Trading Case Numbers Increase Year By Year]” Zhengquan Shibao (证券时报) [Securities Times] (23 May 2012), online: China Economy <http://finance.ifeng.com/roll/20120523/6501373.shtml>.

11. The CSRC does not publicize all of its sanctions cases. The reason for not disclosing a particular case or category of cases is unknown to the public. However, there is a discrepancy between the figures published in the CSRC’s annual report and the actual decisions available on its website.

12. BAINBRIDGE, Stephen, Securities Law: Insider Trading (New York: Foundation Press, 2007) at 157.

13. For administrative sanctions, see Securities Law 2005, supra note 5, arts. 73-76; for criminal sanctions, see Zhonghua Renmin Gongheguo Xingfa (中华人民共和国刑法) [Criminal Law of the People’s Republic of China] (1997), art. 180.

14. MA, Yun, “Guanyu Woguo Xian Jieduan Zhengquan Shichang Neimu Jiaoyi Jianguan de Sikao (关于我国现阶段证券市场内幕交易的思考) [Thoughts on Insider Trading Supervision in China’s Current Securities Market]” (2011) 5 Touzi Yanjiu (投资研究) [Investment Research] 50.

15. Securities Law 2005, supra note 5. See e.g. Shangshi Gongsi Dongshi, Jianshihe Gaoji Guanli Renyuan Suo Chi Ben Gongsi Gufen Jiqi Biandong Guanli Guize (上市公司董事、监事、高级管理人员所持本公司股份及其变动管理规则) [Notice on Issuing the Rules on the Management of Shares Held by the Directors, Supervisors and Senior Management Officers of Listed Companies and the Changes Thereof] (Promulgated by the CSRC, 5 April 2007, effective 5 April 2007) [Notice on Rules].

16. Securities Law 2005, supra note 5, art. 202. See also Notice on Rules, supra note 15, arts. 73-76.

17. CSRC, Zhengquan Qihuo Zhifa Shouce (证券期货执法手册) [Securities and Futures Law Enforcement Brochure] [CSRC, Enforcement Brochure]. Chapter 6, article 23 of the Brochure provides two equations for calculating illegal proceeds. The approaches in the guideline are very similar to the Net Profit Approach. Therefore, the agencies only look to the profits actually realized. See Howson, supra note 7.

18. Ibid.

19. See below at II.C.

20. CHATTIN, Danielle DeMasi, “The More You Gain, the More You Lose: Sentencing Insider Trading under the U.S. Sentencing Guidelines” (2011) 79 Fordham Law Review 154.

21. Ibid.

22. Of course, while the prohibition refers to selling as well as buying, the penalty provisions only apply to purchases when applied literally. The provisions seem to come in where there is a loss avoided, but do not require the loss avoided to be disgorged.

23. Securities Law 2005, supra note 5, art. 202.

24. And thus results in a broad interpretation of Article 202.

25. Bainbridge, supra note 12 at 157-172. This appears to be equally true of business secrets cases where the amount of damages is not readily apparent. SUN, Hailong and YAO, Jianjun, “Shangye Mimi Qinquan Peichang Shu’e de Rending (商业秘密侵权赔偿数额的认定) [Deciding the Compensation in Business Secrets Case]” (2009) 4 Zhishi Chanquan (知识产权) [Intellectual Property] 38.

26. BENY, Laura Nyantung, “Do Insider Trading Laws Matter? Some Preliminary Comparative Evidence” (2005) 7 American Law and Economy Review 144.

27. BAILEY, George, “Predictability of the Law” (1963) 66 West Virginia Law Review 1 at 1-8.

28. E.g. Feng, GUO, “Goujian Zhongguo Tese de Fan Neimu Jiaoyi Zhidu (构建中国特色的反内幕交易制度) [The Improvement of Insider Trading Sanctions Institution]” (2011) 4 Zhengquan Fayuan (证券法苑) [Securities Law Review] at 44-47.

29. PISTOR, Katharina, RAISER, Martin, and GELFER, Stanislaw, “Law and Finance in Transition Economies” (2000) 8 The Economy of Transition 325.

30. Securities Law 2005, supra note 5, art. 184 (“The regulations, rules as well as the working system of supervision and administration as formulated by the securities regulatory authority under the State Council according to law shall be publicized to the general public. The securities regulatory authority under the State Council shall, according to the results of investigation, decide the punishment on any securities irregularity, which shall be publicized to the general public)”. A searchable database can be found online at CSRC, “Xinxi Gongkai (信息公开) [Information Publication]”, online: CSRC <http://www.csrc.gov.cn/pub/zjhpublic/>.

31. Very few cases have needed to be discarded. Where they have, it has been, for example, for failing to clarify the purchase price of the stock. See [2009] CSRC 24; [2013] CSRC 29. Nevertheless, we have been able to account for nearly every case since 2004, and to examine the complete record of decisions from 2007.

32. Chart 1 is based on the cases publicized by the CSRC on its website from 2000 to 2012. For the details of the cases, see, online: CRSC <http://www.csrc.gov.cn/pub/newsite/>. Generally speaking, the case provides very little information when the word count is below 1,500 words. About half of the words in the cases introduce the defendant’s background. The increase in length not only provides more information for research purposes, but also demonstrates that the agency is applying more sophisticated reasoning and willing to be increasingly transparent about punishing traders who commit offences.

33. CSRC, Enforcement Brochure, supra note 17, art. 23 (illegal gain = market value of shares in stock + gain realized + dividends - purchase cost - rationed share cost - transaction cost).

34. To be clear, the case mentioned here is an individual sanction case. In one judgment, there may be several people being punished. In order to find out the illegal gain recognition method, going into the details of individual sanctions makes more sense than looking into judgments.

35. We do not purport to discuss the issue of when the inside information is incorporated into the price, which is also known as the equilibrium price; we presume that the efficient market incorporates the information into the price on the day once it is released. This, of course, may run the risk of oversimplifying the issue. However, given the fact that in different markets the equilibrium price varies due to the extent of information asymmetry, the use of the price when the information is made public as the equilibrium price should not be a problem.

36. See e.g. Zhonghua Renmin Gongheguo Xingzheng Chufa Fa (中华人民共和国行政处罚法) [Administrative Penalty Law of the People’s Republic of China] (1996), art. 3 (explaining the relationship between article 3 and the securities laws: “Article 3 Administrative punishments which shall be imposed on citizens, legal persons or other organizations for the acts committed in violation of administrative order shall be stipulated by laws, regulations or rules in accordance with this law, and shall be implemented by administrative organs in accordance with the procedure stipulated by this Law. Administrative punishments shall be null and void if they are inflicted without legal basis or without the observation of the legal procedure”).

37. Ibid.

38. ZHOU, Yongyou, “Cailiang Jizhun de Zhengdangxing Wenti Yanjiu (裁量基准的正当性问题研究) [A Study of the Justification of Discretionary Facts]” (2007) 6 Zhongguo Faxue (中国法学) [China Legal Science] 22.

39. See e.g. FOX, Justin, Myth of the Rational Market: A History of Risk, Reward, and Delusion on Wall Street (New York: Harper Business, 2009).

40. The cases are referring to the sanction decisions being thoroughly studied in the research.

41. Ibid.

42. [2007] CSRC 15; [2010] CSRC 16; [2010] CSRC 44; [2013] CSRC 22.

43. CSRC, Enforcement Brochure, supra note 17.

44. [2004] CSRC 17; [2008] CSRC 12; [2010] CSRC 23.

45. The first involved a 20,000 RMB fine in 2004. [2004] CSRC 17 (this would have been allowed by the Securities Law in force at the time. Zhonghua Renmin Gongheguo Zhengquan Fa (中华人民共和国证券法) [Securities Law of the People’s Republic of China] (1998), art. 183). The second involved a 30,000 RMB fine in 2008 for evading just 7,600 RMB in losses. [2008] CSRC 12. The third involved less than 3,000 RMB in evaded losses, and the director received an 80,000 RMB fine. [2010] CSRC 23.

46. Yuan, supra note 2. The figures given in the chart are taken from the authors’ own quantitative measurements, which were conducted as part of this project.

47. These cases are [2008] CSRC 49; [2009] CSRC 17; [2010] CSRC 22; [2011] CSRC 57; [2012] CSRC 14; [2012] CSRC 23; [2012] CSRC 37; [2012] CSRC 54; [2013] CSRC 2; [2013] CSRC 14; [2013] CSRC 29. The CSRC generally recognizes the possibility of a “negative gain”, which refers to instances where individuals seek to profit from insider trading but fail to do so.

48. Ibid.

49. This matter has not yet come up during revisions of the Securities Law. See e.g. Zhonghua Renmin Gongheguo Zhengquan Fa (中华人民共和国证券法) [Securities Law of the People’s Republic of China] (2013).

50. The correlation across the six year period is explained by the greater number of cases in the former period.

51. See infra Charts 6 through 8.

52. Ibid.

53. At the end of 2011, the chairman of the CSRC changed. See “Guo Shuqing Churen Zhengjianhui Zhuxi (郭树清出任证监会主席) [Guo Shuqing Was Nominated as CSRC President]” Teng Xun Cai Jing (腾讯财经) [China Business News] (23 May 2014), online: China Economy <http://finance.qq.com/zt2011/jgrsbd/>. The change of the administrative leader may cause some change of policy orientation. WENG, Charlie Xiao-chuan, “Lifting the Veil of Words: An Analysis of the Efficacy of Chinese Takeover Laws and the Road to the Harmonious Society” (2012) 25 Columbia Journal of Asian Law 180.

54. Actually, this was incumbent president Xi Jinping’s major political propaganda in 2012. See “Fanfu Yao Laohu Cangying Yiqi Da (反腐要老虎苍蝇一起打) [Anti-Corruption Needs to Fight not only Flies but also Tigers]” Yangshi Wang (央视网) [CCTV News] (23 May 2014) online: cctv.com <http://news.cntv.cn/2013/01/22/ARTI1358835841806906.shtml>.

55. Weng, “Who Is an Insider?”, supra note 4.

56. Howson, supra note 7.

57. XIAO, Gang, “Jiaqiang Zhifa: Ziben Shichang Jiankang Fazhan De Jishi (加强执法:资本市场健康发展的基石) [Enhancing Enforcement: The Conner Stone of Healthy Development of Capital Market]” (2013) 15 Qiu Shi (求是) [Searching for Truth] 1 (Gang, the incumbent chairman of CSRC, discusses the challenges the CSRC has with enforcing the rules, but without saying why.).

58. XI, Jinping, “Ba Quanli Guanjin Longzi Li (把权力关进笼子里) [Keep the Power in the Cage of Institutions]” Wangyi Xinwen (网易新闻) [NetEase News] (23 May 2014), online: NetEase News <http://news.163.com/13/0122/15/8LR5TGCH0001124J.html>.

* Associate Professor, Faculty of Law. An earlier version of this paper was presented at National Taiwan University School of Law for the 2014 Asian Law and Economics Annual Conference. In addition to the participants of the presentations, I would like to thank Professor Allan Horwich and Lawrence S. Liu for reading an earlier draft of this paper and their invaluable contribution and comments. Also, I am deeply indebted to Huang Yongsheng and Zhang Yuting, both LLM candidates at the KoGuan Law School, for their wonderful research assistance. All errors are mine.

** Lawyer and investment banker. LLM, National University of Singapore.

Assessing the Administrative Sanctions Regime for Insider Trading in China: An Empirical Approach

  • Charlie Xiao-chuan WENG (a1) and Jingwei JIA (a2)

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