Abstract
Manipulation, a prohibited act under the securities law, undermines the price formation mechanism in the securities market, thus rendering investors unable to make trading decisions based on genuine market prices and subject to additional payment of the difference between artificial price and genuine price. The manipulator should be liable for compensating the resulting losses. A set of manipulations should be deemed as a single act if, though effected via multiple methods, they are conducted for the same purpose over an overlapping time period and functionally complement each other. The period when an artificial price exists is the period when the manipulation concerned affects the market price. When the impact of a transaction-based manipulation is eliminated depends on such factors as its degree and length; that of an information-based manipulation depends on when the impact of the information is eliminated. The liability for manipulation tort should be determined based on the transaction causation and loss causation tests. A manipulation tort in an open securities trading market should apply the fraud-on-the-market theory and the principle of presumed reliance. Investment difference losses should be accurately calculated using the “out-of-pocket” measure [Ubica1] and “synchronous price comparison” method. When an information-based manipulation and a misrepresentation concur, the former absorbs the latter as the end absorbs the means; an investor can pursue liability based on either of them. When a securities manipulation is pursued for administrative, criminal, and civil liabilities and the manipulator’s assets are not sufficient to pay all of the administrative penalty, criminal fine, and civil compensation, the assets shall be first applied toward civil compensation.
Basic Facts
Xian Yan received administrative penalty and criminal conviction successively for manipulating the trading price and volume of the stock of P2P Financial Information Service Co., Ltd. (the “Subject Company”). On March 30, 2017, the China Securities Regulatory Commission (CSRC) issued the Administrative Penalty Decision [2017] No.29, stating that Xian Yan had committed illegal acts of manipulating the securities market from January 17, 2014 to June 12, 2015 through, among other means, incessant trading of securities by abusing his advantageous position in capital, shareholding or information, trading securities between or among accounts under his actual control, and fictitious order entry, and ordering legal disposal of the illegally-held securities, confiscation of illegal gains of RMB 578,330,753.74, and a fine of RMB 2,891,653,768.7. On December 21, 2020, the Shanghai High People’s Court rendered a valid criminal judgment, holding that Xian Yan was guilty of securities market manipulation for manipulating the price and trading volume of the underlying stock using information advantage, and was punishable with an imprisonment of three years and four months, a fine of RMB 10 million, and disgorgement of illegal gains.
The plaintiffs, i.e.,13 investors, alleged that they had suffered losses from trading the Subject Company’s stock during the period of manipulation by Xian Yan and demanded from Xian Yan compensation for all economic losses, including investment difference losses, commissions, and stamp duties.
Holding
On September 29, 2022, the Shanghai Financial Court made a Civil Judgment ((2021) Hu 74 Min Chu No. 2599), requiring Xian Yan to pay the 13 investors a total of over RMB 4.7 million in damages. The judgment also specified that if Xian Yan’s assets are not sufficient to cover the above damages, the difference can be paid from the fined or confiscated money from the criminal procedure that is under preservation, so as to maximize the availability of remedies for small and medium-sized investors. Neither party appealed the judgment.
Reasoning
According to the Shanghai Financial Court, Xian Yan used four manipulation methods—incessant trading, wash sale or match trading, fictitious order entry, and manipulation using information advantage. The first three are transaction-based manipulation and the last is information-based manipulation. The four methods are adopted for the same purpose over an overlapping time period and functionally complement each other, together affecting the trading price and volume of the underlying stock. Consequently, they are difficult to distinguish from each other, and should be considered one single act of securities market manipulation in this case.
Considering the specific methods used by Xian Yan and the price volatility of the underlying stock, Xian Yan’s manipulation can be deemed a price-raising manipulation. The start and end dates of manipulation identified in the Administrative Penalty Decision fitted the elements of securities manipulation and should be confirmed. Therefore, the start date of the manipulation is January 17, 2014 and the end date is June 12, 2015. As the two types of manipulation create artificial prices in a different way, the time required for eliminating their impact also differs. When the impact of a transaction-based manipulation is eliminated depends on such multiple factors as its degree and length; that of an information-based manipulation depends on when the impact of the released information is eliminated. As Xian Yan controlled the timings and contents of information disclosure by the Subject Company, he also committed securities misrepresentation. To reconcile the manipulation with the civil liability for misrepresentation, relevant provisions of the Several Provisions of the Supreme People’s Court on Trial of Civil Compensation Cases Arising from Misrepresentation in the Securities Market (the “Judicial Interpretation on Misrepresentation”[Ubica2] ) can be applied in this case with necessary changes as the document has defined when the impact of false information is eliminated. Consequently, it is confirmed that the impact of the information-based manipulation was eliminated on November 14, 2016, which is more than one year from the end of the entire manipulation. This period saw the cumulative turnover rate of the underlying stock exceeding 100% multiple times, and should be able to cover the reasonable period required to eliminate the impact of the transaction-based manipulation. As a result, November 14, 2016 can be regarded as the date when the impact of the entire manipulation was eliminated.
In terms of causation, a securities manipulation should pass transaction causation and loss causation tests. As for a manipulation in an open trading securities market, the fraud-on-the-market theory and the principle of presumed reliance should be applied to assess whether an investor’s trading decision is causally linked to the manipulation in question. From the start date of Xian Yan’s manipulation to the exposure date of the false information involved in the information-based manipulation, the plaintiffs’ purchase of the underlying stock was causally linked to the manipulation but their purchase thereafter was not. The price of a security is affected by a variety of factors, such as the broader market, the industry, and characteristics of the issuer. Losses caused by these factors are investment risks that should be borne by investors trading underlying securities and are not causally related to the securities market manipulation, and hence should be excluded from scope of compensation by the manipulator. The loss causation can be determined by a professional third-party institution in its investor loss assessment.
Calculating investor losses is a key and difficult point in the trial of securities fraud tort cases. A tortfeasor should only be liable for compensating the damage caused by his illegal act. To accurately determine the losses caused to investors by a securities fraud, factors that affect the securities price other than the fraud should be excluded because the price fluctuates with various factors. In addition, the determination also requires expertise and skills from professionals. Therefore, it is necessary to engage a third-party institution to assess investor losses. The “out-of-pocket” measure reveals the tort nature of securities manipulation. As securities price is volatile by nature, it is reasonable to adopt the “out-of-pocket” measure and “synchronous price comparison” method to calculate the losses, that is, the difference between the actual execution price of investors and the true stock price over the same period.
As the end absorbs the means, the information-based manipulation absorbs the misrepresentation. Therefore, an investor can claim compensation either for securities manipulation or for misrepresentation. The compensation recovered by the investor in the securities misrepresentation case should be deducted accordingly from the compensation to be awarded in this case.
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