Capital Market Frauds: Concepts and Cases

Purpose of Regulations

Regulator to act in response to the perceived need for rules. Regulation is required when market solutions are inadequate for a variety of reasons. Understanding the purpose of these regulation makes it easier for the industry participants to anticipate and meet regulatory needs.

The broad objectives of regulation include the following:

Safeguarding the Customers

In financial services industry, there are different types of consumers and the regulations are required to safeguard all Investors, depositors and borrowers etc. from any abusive practices including capital market frauds - in the financial markets. Regulators normally prevent investment firms from the sale of the complex or high-risk investment to individuals. Regulations also require the investment managers to provide the caution notice to investor such as “Investment is subject to market risk”.

Economic Growth and Stability

Economic growth and stability are dependent on productive uses of capital. The financial markets bridge the gap between suppliers of capital and users of Capital (companies and governments). Regulator seeks to ensure a healthy financial market in order to stimulate economic development. The regulator is also trying to reduce risk in the financial markets. Due to excessive use of debt in the financial markets, there is always a risk of system failure that may derail the economy. As a result, credit facility may be suspended or substantially reduced due to collapse of financial markets. So, regulations are required to ensure to prevent financial system failure that may lead to economic disability.

Fairness

All the market participants do not have the same set of information. Financial product seller may choose not to convey adverse information about financial instruments such as risk factor of the products they sell. Insiders who know more than the rest of the market might trade based on their insider information. This information irregularity may discourage investors from investments which eventually detriment the economic growth. Regulations are required to deal with this unpublished price sensitive information by demanding the fair and full disclosure of relevant information in a timely manner. So strict action against the insider trading is also expected. Regulators should maintain a “fair and orderly” market to minimize an unfair advantage for any market participant.