JOINT COMMITTEE ON ECONOMIC REGULATORY AFFAIRS debate -
Tuesday, 9 Mar 2010

Regulation of Stockbroking Firms: Discussion with Irish Stock Exchange.

Chairman

We welcome representatives from the Irish Stock Exchange to discuss the regulation of stockbroking firms, the guidelines for ensuring best practice when selling investments and the responsibility for investigation of complaints against a stockbroking firm. I welcome Mr. Padraic O'Connor, chairman, Ms Deirdre Somers, chief executive, Ms Aileen O'Donoghue, director of strategy policy and communications, Mr. Brian Healy, director of trade markets development and operations, and Mr. Mike Duignan, head of market supervision.

I draw the attention of witnesses to the fact that members of the committee have absolute privilege but the same privilege does not apply to witnesses appearing before the committee. Members are reminded of the long-standing parliamentary practice to the effect that members should not comment on, criticise or make charges against a person outside of the House or an official by name or in such a way as to make him or her identifiable.

I invite Mr. O'Connor to proceed with his presentation.

Mr. Padraic O’Connor

I thank the Chairman for his welcome and we are delighted to be here. There are two issues to be dealt with. Originally we were invited to speak on the issue of the regulation of stockbroking firms. Subsequently we were invited to also address the issue of short-selling of Irish shares. We have two statements to present to the committee. I imagine we might deal with the two topics separately.

Chairman

I suggest Mr. O'Connor should first read his opening statement on regulation of stockbroking firms for inclusion in the record of the proceedings, followed by his statement on short-selling before taking questions from members.

Mr. Padraic O’Connor

Yes, we will read both statements first.

The committee wishes to explore the area of regulatory responsibility for stockbroking firms. I wish to make it clear that the Irish Stock Exchange has not been privy to any information regarding current allegations of misconduct by stockbroking firms. Our knowledge is limited to the general issue through press and third party comment.

The oversight of stockbrokers is an area that has undergone much change over recent years. It may be useful in the first instance if Ms Somers provides a short overview of the background to the current position.

Ms Deirdre Somers

As Mr. O'Connor stated, there has been a great deal of change in the legislative environment in the regulation of stockbroking firms and we thought that a brief history would assist our discussion today.

The Stock Exchange Act 1995 established the then Central Bank as the competent authority for the oversight of stock exchanges and its member firms. The Act required the Central Bank to draw up and issue a code of conduct for exchange member firms. However, as the exchange's rule book covered this area, the Central Bank, and its successor, the Financial Regulator, was not required under the Act to develop its own rules. In addition, legislation required the exchange to have a complaints procedure in place. As a result, between 1995 and 2005, the exchange, through its rules supervised and monitored conduct of business of member firms and investigated complaints by consumers and non-consumers. It is noteworthy that many credit unions fall under the definition of non-consumer as their turnover exceeds €3 million. However, the Central Bank-Financial Regulator approved the exchange's rules and any rule changes relating to them. It also had its own rules covering stockbroking firms that were not members of the Irish Stock Exchange.

On 1 December 2005, the Financial Services Ombudsman assumed responsibility for the investigation of consumer complaints against stockbroking firms. The enacting legislation allowed the ombudsman to "look-back" at complaints for a period of six years. The exchange amended its rules to reflect the fact that our role in investigating consumer complaints had ceased from that date.

Between December 2005 and November 2007, the exchange continued with the supervision of conduct of business of member firms, as well as the investigation of non-consumer complaints. In that period, we received one complaint from a non-consumer but that was subsequently withdrawn by the complainant.

On 1 November 2007, the EU Markets in Financial Instruments Directive, MiFID, came into effect in Ireland. MiFID required the oversight of stockbrokers to rest wholly with the Financial Regulator. The Stock Exchange Act was repealed and the exchange deleted its rules relating to conduct of business and the investigation of complaints by non-consumers. The Financial Regulator approved the deletion of these rules.

It is important to note that MiFID did not provide an explicit mechanism for investigating non-consumer complaints against providers of financial services, including stockbrokers. As the definition of "consumer" in Irish legislation is relatively narrow, the exchange was concerned that this previously available mechanism was to be removed. However, the Financial Regulator took the view that all consumers of financial products should have the same legal recourse and, therefore, these rules were anomalous. This was a reasonable position for the FR to take, as it means that clients of stockbroking firms now have exactly the same rights in complaints as clients of other financial services providers.

The current position is that the Financial Regulator is the relevant competent authority for the supervision of stockbroking firms for activities after 1 November 2007. Consumer complaints go to the Financial Services Ombudsman. Non-consumers can take legal action against the stockbroking firms and seek redress through the courts. The exchange has no role whatsoever.

There is, however, a legal gap relating to the supervision of stockbroking activities prior to 1 November 2007. It is important to understand, first, how this arose and, second, how it can be resolved.

Where responsibility for oversight moves from one authority to another, generally the applicable legislation will make clear who is responsible for what in the transition period. For instance, as I mentioned already, the look-back clause provided for the FSO would be fairly typical. Unfortunately, there were no such provisions in the MiFID transposition. Because of this, we understand that the Financial Regulator currently has no powers to commence a conduct of business review relating to activities prior to 1 November 2007. Furthermore, because the complaints procedure for non-consumers available before that date has been abolished, this recourse is not available either. Obviously, recourse to the courts remains a viable, albeit potentially expensive, option.

The exchange has a senior counsel's opinion which confirms that, post the deletion of our rules, which I mentioned earlier, we also have no legal ability to conduct these investigations. It subsequently emerged post-MiFID implementation that there appears to have been an expectation that the exchange could and would continue its supervisory role post 1 November 2007, notwithstanding the fact that we deleted our rules and this was approved, as would be practice, by the Financial Regulator. Unfortunately, this expectation was misplaced and ignores the legal realities of our position.

We would emphasise that at no point leading up to the transposition of MiFID did we foresee any ongoing role for the exchange in the oversight of stock brokers beyond closing out pre-existing investigations. We believe it was reasonable for us to have believed that if the authorities wanted the exchange to have a key ongoing role, they should have told us and informed the market and it should have been put beyond doubt in the legislation. Unfortunately, none of this happened.

When the legal gap emerged after the legislation was enacted and our rules deleted, the exchange tried to make the best of a difficult situation and assist the Financial Regulator, but when we were advised it was not legally possible to continue this approach, we stopped.

We are led to believe that the Financial Regulator has received complaints against stockbroking firms relating to the period prior to 1 November 2007. However, we are not in a position to confirm this or to speculate on the exact nature of the issues. As neither organisation has current investigative powers, there would appear to be a significant legal gap.

Obviously, this is a situation which must be addressed in the public interest. A solution that is credible, legally robust and delivers confidence to the market and affected parties must be found.

Mr. Padraic O’Connor

We have been left in no doubt that we do not have legal capacity to investigate these matters. Beyond the legal position, there is also the issue of credibility. Given the ownership structure of the exchange, an investigation carried out by the exchange into alleged mis-selling of stock broking firms would be regarded with some scepticism. Our experience in the past has been that regardless of how well the exchange executed such investigation, how rigorous its Chinese walls were and how thoroughly it enforced procedures on conflict of interests, there were still sceptics and doubters, and the world has changed significantly since 2007. Given the horrors the economy has been through in the past few years and the way regulation has come into the spotlight, that would be even more the case now.

Ultimately, this had the effect of eroding public confidence in the redress mechanisms available to them and this is partly the reason MiFID regulations did not allow for any ongoing role for any exchange in this area, and we believe that this is the correct approach.

We also believe that a solution to this issue will not be found by trying to revert to the old approaches of the past and would be contrary to the public mood, the public interest and, indeed, public expectations. Whatever solution is put in place must be led by the appropriate authorities, and in this case that is the Financial Regulator under its new leadership. Anything less than that would not be credible.

In addition, whatever solution is found must be legally robust. With this in mind, we have spent a significant amount of time trying to find a resolution to the problem, in the first instance, investigating our own capability or lack of capability in the matter. We have examined carefully any possible solutions within our control. It is clear that there are no available avenues to the exchange that will deliver a legally robust and credible process, or which would give us the ability to impose appropriate sanctions. However, there would appear to be a number of options to address the gap, the most robust of which could be undertaken by the Financial Regulator under an explicit provision within the MiFID legislation, that is, Regulation 79(1). This is the only solution with which we and our legal advisers could come up. Obviously, that is a matter for the Financial Regulator.

Fundamentally, we believe that the Financial Regulator is the appropriate body to carry out these investigations and has the necessary powers to do so. We do not believe that the exchange should or could lead in this area. The Financial Regulator was and is the competent authority for the matter and has the means to do it. The exchange powers were rescinded in November 2007 for logical and appropriate public interest reasons. Self-regulation has become a thing of the past in virtually all areas of business. We are legally incapable of investigating such issues under our current rules and any reinstatement of our previous rules would be at the very least legally prejudiced and incapable of delivering a credible outcome and sanction. The Irish Stock Exchange has considerable expertise in this area and, as always, significant resources are available to the Financial Regulator to deal with this issue. We have indicated we are more than happy to engage with the regulator on that basis.

I hope our presentation was useful and, in particular, that our suggestions to address the current legal stalemate will be understood as a genuine attempt by the Irish Stock Exchange to constructively address the problem at hand. We will be pleased to take questions following the statement by Ms Somers on the issue of short selling.

Ms Deirdre Somers

The joint committee has asked the Irish Stock Exchange to provide an overview on short selling and give our views on the short selling ban applicable to Irish financial stocks. By way of background, I have provided an appendix which covers the technical aspects of this issue.

It is important to emphasise that short selling is a normal and necessary feature of a modern well functioning market. It increases liquidity, assists in price formation and is an entirely legitimate investment technique in normal market conditions. The extreme circumstances experienced in late 2008 gave rise to disorderly markets. Action was necessary and justified, leading to the introduction of a short selling ban on 18 September 2008. Many other markets internationally imposed similar bans.

A degree of stability has returned to the markets and many regulators have withdrawn the bans that were imposed, replacing them for the most part with disclosure regimes. However, the Irish market is unique as there continues to be a significant level of uncertainty regarding the final details of our banking recapitalisation. For this reason, withdrawing the ban in a similar manner to other jurisdictions is not necessarily the correct decision for Ireland at this time.

Feedback from the market, domestically and internationally, suggests the ban has adversely impacted liquidity in Irish banking stocks. This follows the experience of other markets where short selling bans were imposed. However, in an Irish context it is difficult to analyse whether and to what extent the decline in liquidity is due to company specific factors, difficult economic conditions and the ban. There are mixed views on the merits and market impact of its removal, with some market participants seeking immediate removal while a smaller number believe it is necessary to retain the ban pending more certainty about the capitalisation of Irish banks.

Internationally, the trend has been towards the removal of short selling bans and their replacement with a disclosure regime. This trend has been followed in Europe by proposals made by the Committee of European Securities Regulators which are superior to US proposals made in this area.

The Irish Stock Exchange is, on balance, supportive of the replacement of the short selling ban with a move to an Irish approach which is consistent with a harmonised European disclosure regime. However, given the complexity of Irish circumstances, this should only be done after full consultation with the market, including domestic and international participants. Whichever decision is made, the market should be kept informed of the position of the Financial Regulator on the issue and the likely timeline for change.

Deputy Kieran O’Donnell

I welcome the delegation. The tone of the presentation is much more negative than positive. Mr. O'Connor referred to the issue of credibility. I note the Irish Stock Exchange is relying on senior counsel opinion that there is a legal gap prior relating to supervision of stockbroking firms prior to 1 November 2007. I understand the issue of non-consumer complaints is in orbit, so to speak. Is it correct that a credit union which fell into this category of complaints would not have recourse except through the courts? I ask Mr. O'Connor to clarify that matter.

Credit unions are small lenders for small savers. It defies logic that, under the existing legislation, the Irish Stock Exchange was responsible for the legal process until 1 November 2007, yet it does not believe it should investigate stockbroking firms and specific issues that arose in the relevant period. That position is extremely unfair to the credit union movement and others.

On contracts for difference, particularly with regard to the relationship between the Quinn Group and Anglo Irish Bank, is it correct that if someone built up a shareholding of more than 3% in a quoted company, he or she would be required, under current legislation, to disclose this shareholding to the Irish Stock Exchange? In the case of the contracts for difference involving the Quinn Group the shareholding in Anglo Irish Bank was in excess of 15%. When the current Taoiseach and then Minister for Finance, Deputy Brian Cowen, mooted changing the law to require disclosure of contracts for difference to the Irish Stock Exchange, did the Stock Exchange make representations opposing such a measure? Such a requirement would have made a significant difference, particularly in the case of the Quinn Group. These contracts are effectively a shareholding, albeit not in a legal sense. I ask Mr. O'Connor to address that issue.

Has the Irish Stock Exchange received complaints, as a body, from non-consumers about stockbrokers? Will Mr. O'Connor confirm that no investigations are under way?

Mr. O'Connor stated that when a legal gap emerged following the introduction of legislation, the Irish Stock Exchange tried to make the best of a difficult situation by assisting the Financial Regulator. However, having been advised that it was not legally possible to continue its approach, it stopped. I ask Mr. O'Connor to elaborate on this vague statement. What was the precise subject of the discussions with the Financial Regulator? The system of financial regulation, both at a legislative and organisational level, has failed. The Stock Exchange appears, on the surface, to have washed its hands of carrying out investigations in respect of issues that arose prior to 1 November 2007. How can the Stock Exchange stand over that position both legally and from the viewpoint of credibility? It appears to be relying on senior counsel opinion that the rules do not apply to it.

Mr. Padraic O’Connor

I am sorry the Deputy perceives our statement as negative. I stress that the Irish Stock Exchange has been trying hard to find a resolution. We are aware that a gap has arisen. While this is unfortunate, the position is that when one is moving from one regulatory regime to another, which is what happened when the markets in financial instruments directive was introduced, the legislation would, in the normal course, make provision for the transition period or the precise circumstances we find ourselves in now. If we look back to before the implementation of the directive, how would similar circumstances be handled in future? The gap meant there was no clarity.

We understood and accepted the reason for moving the regulation of stockbroking firms to the Financial Regulator. Much of the reason had to do with credibility, an issue raised by the Deputy, and in that case so be it. That is the position in which we found ourselves. I would not like our position to be characterised in any sense that we are hiding behind legal opinion. When we sought legal advice, we did not do so seeking to be told reasons we cannot do this. We set out the position, listed our member firms and indicated that, as the Stock Exchange, we were interested in the integrity and perception of the market, both domestically and internationally. We believe the Irish Stock Market, particularly now that we do not have the relevant regulatory responsibilities, has a serious role to play as part of the financial infrastructure of Ireland Inc. Our agenda is forward looking in terms of developing the market and the financial services industry. We do not think of ourselves as negative people; we have a positive agenda.

Deputy Kieran O’Donnell

From the perspective of investors it is clear that there is a major gap in terms of accountability.

Mr. Padraic O’Connor

Certainly. Deputy O'Donnell is correct. When we had the responsibility, we exercised it thoroughly. Despite what might have been the perception there was a rigorous examination of issues that arose on our watch. When this gap emerged it was not clear who should do what. Our rules were deleted. That was the process that was signed off by the Financial Regulator. We had no written authority to go into a Stock Exchange and investigate a matter. We sought legal advice on what would be our legal position if we took a certain course of action. The advice was unambiguous. We received a series of advices. More recently we sought advice from senior counsel to get certainty. First, we were told that if we tried to carry out an investigation that it would be legally prejudiced and therefore we would get stuck in the sand. Our concern is from the point of view of the investor and the public. One could ask what that would do for anyone as it would damage the reputation of the Stock Exchange and the regulatory system.

Deputy Kieran O’Donnell

Would Mr. O'Connor not agree that in the current legal climate that it is undermining credibility that no investigations can take place from 1 November 2007, a little more than two years ago, when many of the transactions took place prior to that period have considerable relevance in terms of investments in the banking system? The ordinary person is aghast at how the situation has transpired whereby legally the area cannot be investigated by anyone.

Mr. Padraic O’Connor

Exactly. Deputy O'Donnell is correct. That would be an understandable reaction. The situation must be amenable to resolution. We have looked at it every which way we can to see whether we can do that. We believe we cannot. We believe it is possible to find a way between our legal team and ourselves examining the MiFID legislation. The provision in section 79(1) states that subject to the prior approval of the Minister, the bank, which is now the Financial Regulator, may impose requirements additional to those in these regulations but only in exceptional cases where such requirements are objectively justified and proportionate, address specific risks to investor protection and at least one of the following conditions is metrisks or issues that emerge or become evident after 1 November 2007 and that are not otherwise regulated by other legal measures. We think that is the solution. That is what Deputy O'Donnell was seeking, namely, a gap.

Deputy Kieran O’Donnell

I want to follow up on my point. The submission is vague on the discussions with the Financial Regulator on the issue. Will Mr. O'Connor elaborate please? He said he spoke to the regulator but was advised that it was not legally possible to continue that approach and the investigation stopped. Did Mr. O'Connor have discussions with the Financial Regulator on the issue?

Mr. Padraic O’Connor

I shall pass the question to Ms Somers because she was involved more directly than I was.

Ms Deirdre Somers

We have had quite a bit of discussion with the Financial Regulator on the issue. Deputy O'Donnell specifically asked whether we had received non-consumer complaints. We received one non-consumer complaint between 2005 and 2007. That was withdrawn by the complainant at their own instigation. We had started to investigate. We have not received complaints since that date because the complaints procedure was abolished. The definition of consumer is a function of legislation rather than Stock Exchange rules. There is recourse for credit unions that have a turnover of less than €3 million to the Financial Services Ombudsman. Larger credit unions with a turnover of in excess of €3 million have recourse to the courts and therefore are treated no differently under Irish law to any other non-consumer of financial services. That was the logic of the approach that was taken upon the implementation of MiFID.

Deputy Kieran O’Donnell

It is a glaring gap in legislation that the only recourse for bodies representing many small savers is to the courts. It is a terrible indictment of the situation. In layman's terms, is Ms Somers saying that prior to 1 November credit unions with more than €3 million of a turnover, which would be the case with many of them as it is not an enormous turnover, have no recourse in terms of any investment advice they would have received from stockbroking firms unless they take them on in the courts?

Ms Deirdre Somers

That is correct. That was a concern of the Stock Exchange prior to the implementation of MiFID. We vocalised that concern on a number of occasions. The not unreasonable view of the Financial Regulator at the time was that consumers of the services of stockbrokers should be treated no differently than the consumers of other financial services bodies, so it was somewhat anachronistic to have, for instance, a buyer of a life insurance policy being treated differently to a buyer of a financial product from a stockbroker. It was not within the gift of the Stock Exchange to make that determination.

Deputy Kieran O’Donnell

Prior to the introduction of the MiFID legislation the non-consumers would have come under the remit of the Stock Exchange. The complaints would have come to the Stock Exchange and it would have carried out its investigation. I presume the Stock Exchange was consulted by the Department of Finance when the MiFID legislation was being introduced.

Ms Deirdre Somers

We were involved in a fairly extensive way with the MiFID regulations. It was one of the most expansive pieces of financial services legislation ever to be introduced in this country or anywhere in Europe. To an extent this was a very small element of what was an expansive piece of legislation. We were consulted but the role given to the Stock Exchange at the time of the introduction of MiFID was very much around ensuring an adequate transition between those areas where we had an ongoing role.

Deputy Kieran O’Donnell

Was it an inadvertent oversight or was it a deliberate decision that the complaints procedures for non-consumers that were in place prior to 1 November 2007 under the Stock Exchange were not to come under the remit of the Financial Regulator?

Ms Deirdre Somers

We raised concerns about the fact that the recourse was not to continue. The view of the Financial Regulator, and I assume the other parties relevant to making the decision, was that the recourse was somewhat anachronistic and out of step with the recourse available to consumers of other financial services product outside of stockbroking communities so it was abolished from that date.

Investigations into conduct of business is where the gap that we have identified occurs. Deputy O'Donnell asked what gave rise to that advice when we were advised we could not go any further. It was that we commenced an investigation which was challenged and when we sought legal advice we were told we had no remit to carry out an investigation.

Deputy Kieran O’Donnell

That was by the Financial Regulator.

Ms Deirdre Somers

We advised the Financial Regulator at that time of the legal advice we had received and that we could do nothing further.

Deputy Kieran O’Donnell

An investigation had begun but the legal advice was that there was no remit for it.

Ms Deirdre Somers

Yes.

Deputy Kieran O’Donnell

Will Ms Somers deal with the final point on contracts for difference, which is an enormous issue that has arisen. There is a general feeling that if the contracts for difference product was required to be disclosed to the Stock Exchange that the large exposure the Quinn Group had in terms of Anglo Irish Bank might not have arisen. This exposure was a major contributing factor. There is a perception that when the matter was being examined, the contracts for difference would be required to be disclosed to the Irish Stock Exchange. Did the Irish Stock Exchange have discussions with the Minister at the time? What is the delegates' view on the disclosure of contracts for difference to the Irish Stock Exchange?

Ms Deirdre Somers

Our view is that the disclosure of contracts for difference to the market should be treated as no different from the disclosure of shares to the market. Contracts for difference and any other derivatives should be disclosed and large holdings of derivatives should be disclosed to the market in the same way as shares are disclosed. That has been our consistent view. We did not lobby the Minister on this or discuss disclosure with him in any way. We have been fully supportive of a disclosure regime in regard to contracts for difference from the very start. We have been very public on that issue and wrote to the Financial Regulator on at least two occasions to express our view and support for a disclosure regime relating to contracts for difference that is consistent with the disclosure regime applicable to shares.

Deputy Kieran O’Donnell

When did the Irish Stock Exchange first communicate with the Department and Financial Regulator?

Ms Deirdre Somers

We consulted the market in December 2007, which, to an extent, was after the Quinn shareholding issue emerged.

The problem with contracts for difference is that they do not comprise an exchange instrument. They are not traded on exchange. Irish law does not oblige a holder of a contract for difference to disclose his interest in that regard. Therefore, the level of activity was invisible to the Irish Stock Exchange. The level of activity on Anglo Irish Bank shares was as much a surprise to the Irish Stock Exchange at the time in question as it was to anybody else.

Deputy Kieran O’Donnell

Was it from December 2007 that the Irish Stock Exchange made its first public pronouncements?

Ms Deirdre Somers

From December 2007 on.

Deputy Kieran O’Donnell

Does Ms Somers feel there should be regulation of contracts for difference?

Ms Deirdre Somers

They should be subject to the same disclosure requirements that apply to shares. There is no logic for anything else.

Deputy Seán Sherlock

I welcome the representatives of the Irish Stock Exchange. I want to continue in the same vein as Deputy O'Donnell. I am trying to gain a better understanding of our regulatory position, particularly regarding the activities of stockbrokers. If I understand the matter correctly, the markets in financial instruments directive has actually left a gap in the regulatory framework as it relates to non-consumer activity. In other words, stockbrokers may not be investigated by the Irish Stock Exchange in regard to certain types of activities. If I am wrong, I stand corrected. Will the delegates flesh out the matter in layman's terms?

I make this point because the delegates' submission states:

It is important to note that MiFID did not provide an explicit mechanism for investigating non-consumer complaints against providers of financial services, including stockbrokers. As the definition of "consumer" in Irish legislation is relatively narrow, the exchange was concerned that this previously available mechanism was to be removed.

I presume it is still removed but housed under the Central Bank and the Financial Regulator.

Deputy Kieran O’Donnell

It is not there at all.

Deputy Seán Sherlock

Is it non-existent?

Mr. Padraic O’Connor

I want to clarify the issue because it arose towards the end of Deputy O'Donnell's questioning. We did not quite get to address it. There may be a perception that the gap is bigger than it appears to be. There used to be a provision for non-consumer complaints against stockbrokers to be addressed by the Irish Stock Exchange. As Ms Somers mentioned, this was eliminated by the markets in financial instruments directive so there would be equal treatment across the range of providers of financial services. However, the regulation of stockbrokers by the Financial Regulator is carried out under what is called conduct of business. Thus, if a stockbroker sells a product in an inappropriate way and there is a complaint to the Financial Regulator, the latter is responsible for addressing it.

From our very presence at this committee meeting today, we are inclined to believe there must be complaints with the Financial Regulator in this regard. They have not come to us but to the Financial Regulator, which is the regulator of stockbroking firms. The Financial Regulator has taken our investigative powers, which is only right. It has the power to investigate stockbrokers for breaches of conduct of business.

Deputy Seán Sherlock

That clarifies the issue. I appreciate the clarification. With regard to reporting mechanisms or the ongoing communication between the Financial Regulator and the Irish Stock Exchange, it appears there is a weakness in the communications strategy. Is it the case that there is potential for a positive role for the Irish Stock Exchange in strengthening the regulatory framework but that it is leaving it to the Financial Regulator to effect change? There seems to be no formal communications network or strategy. Will the delegation give me a sense of whether this is correct?

Mr. Padraic O’Connor

Certainly. There is fairly continuous contact between the Financial Regulator and the Irish Stock Exchange on a range of issues. The Financial Regulator has oversight authority in terms of markets. The exchange itself is regulated by it. The Financial Regulator now has total responsibility for regulating our member firms. There is continual and active contact between the Financial Regulator and ourselves.

On this issue, in which I am sure the Deputy is most interested, there have been discussions. I would like to believe both the Financial Regulator and the Irish Stock Exchange are looking for a workable solution. It has been represented to us by the Financial Regulator that it believes the workable solution probably rests with us. We have set about trying to answer this for the regulator. It is really only in recent weeks, in preparation for this meeting and in our discussions with the regulator, that we have ascertained the legal position as clearly as we could and sought a resolution in detail. We have a resolution but we have not heard from the Financial Regulator on whether it believes it is workable. It is quite clear from what I read from the legislation that what we propose can be done. I would like to believe the regulator will want to do as we propose because, from our perspective, it is the only legally robust and credible resolution. The resolution would be such that complaints currently with the Financial Regulator could be investigated, after which I hope it could give satisfaction to the complainants in the public interest.

Deputy Seán Sherlock

That has clarified the matter. I asked for short selling to be put on the agenda precisely because the ban has been lifted in other jurisdictions. I accept the explanation of the Irish Stock Exchange in this regard. We all accept, on some level, that it is a necessary function in terms of liquidity provision. That is a given but it is a matter of how the instrument is used in particular jurisdictions. In our jurisdiction, it gave rise to certain questions.

With regard to the disclosure regimes, Ms Somers stated:

A degree of stability has returned to the markets and many regulators have withdrawn the bans that were imposed, replacing them for the most part with disclosure regimes. However, the Irish market is unique [...]. For this reason, withdrawing the ban in a similar manner to other jurisdictions is not necessarily the correct decision for Ireland at this time.

However, in Ms Somers's conclusion, she stated the replacement of the short-selling ban with a move to an Irish approach consistent with a harmonised European disclosure regime may be the correct approach. Could a disclosure regime operating according to a pan-European rules-based approach be introduced to the Irish market?

Mr. Padraic O’Connor

As Ms Somers said, disclosure is important and the Irish market is unique. While there are considerable uncertainties in the worldwide banking sector, there are more uncertainties around the future of Irish banks than those in other jurisdictions. In the context of a Europe-wide approach to this, disclosure would be logical. We are about the market and its integrity. The market works best when there is full disclosure and all market participants have access to the same information at the same time. That is a fundamental objective of the Stock Exchange. We are hesitating to say go there immediately because of the difficult circumstances faced by the Irish quoted banks.

Deputy Seán Sherlock

While no one has a crystal ball when it comes to share performance, does the Stock Exchange see any semblance of a recovery in the market? How many companies will ride the storm, be consolidated or go to the wall?

Mr. Padraic O’Connor

I would be mad to make a prediction about the performance of the Irish or any other market. There are encouraging signs of increasing liquidity and turnover in the market. This is healthy because the prices represent a more realistic approach.

In the broader economic context, the firms listed on the Stock Exchange have overseas exposure and are pretty well diversified geographically which is reflected in the diversity of their shareholders. Many of them have coped well with the economic downturn. If one were to believe the IMF, OECD and EU projections, the world economy is coming out of recession and listed Irish companies are well positioned to take advantage of this. I would like to think the worst is over.

Chairman

Before 1 November 2007, when the Stock Exchange was responsible for stockbroking regulation under the 1995 Act, was any stockbroking firm brought to account for misselling or otherwise?

Ms Deirdre Somers

There were many investigations of stockbrokers during that time, several of which resulted in fines and one in public censure. I cannot give the committee the number of investigations undertaken offhand but they were carried out under our rules with due probity and resulted in appropriate sanctions, to our mind.

Chairman

Are they matters of public record?

Ms Deirdre Somers

No, they are not. At the time the rules of the Stock Exchange were contractual between it and the member firms and were, therefore, not under statute.

Chairman

Is it possible to find out how many complaints were investigated then and what sanctions were imposed?

Mr. Padraic O’Connor

I am sure we could get that information for the committee. If there were a public censure, we can be specific about the names of those cases. We can give the committee the other information in writing.

Chairman

I would appreciate that.

Deputy Kieran O’Donnell

I presume the Stock Exchange has made a submission to the Financial Regulator as to how it believes the problems with regulation of stockbrokers should be overcome. In his submission earlier, Mr. O'Connor stated, "when a legal gap emerged ... the exchange tried to make the best of a difficult situation and assist the Financial Regulator but when we were advised it was not legally possible to ... approach, we stopped." What did the Stock Exchange do at the time and where does it stand now? Mr. O'Connor said the Financial Regulator is of the view the solution lies with the Stock Exchange. Will he elaborate on this? It would be good if we could come away today with a move towards a legal resolution of this issue. The defining moment of the financial crisis for the Oireachtas was 29 September 2008 with the bank guarantee and yet this matter is still in orbit as no proper investigative powers are in place, bar people going to court.

Mr. Padraic O’Connor

Since the introduction of the Markets in Financial Instruments and Miscellaneous Provisions Act 2007, MiFID, stockbroking firms are regulated by the Financial Regulator.

Deputy Kieran O’Donnell

Does that include complaints against firms by consumers?

Mr. Padraic O’Connor

Yes, and before that. The discussions between the Stock Exchange and the Financial Regulator are ongoing.

Deputy Kieran O’Donnell

Did these discussions only take place in the past several weeks?

Ms Deirdre Somers

Prior to the implementation of MiFID, the Stock Exchange had no expectation of any ongoing role in regulation. That would be entirely consistent with other transfers of powers to other regulators. Very soon after the implementation of MiFID, it became clear this was an issue that had not been addressed by the legislation. The Stock Exchange engaged with the Financial Regulator at the time and received from its office evidence of a matter that needed to be investigated. When we commenced the investigation, there was a challenge to the Stock Exchange's ability to carry it out.

Deputy Kieran O’Donnell

When was that?

Ms Deirdre Somers

It was in late 2007. When we sought legal advice on this, our lawyers told us they were right and we had no legal ability. That has since been confirmed by senior counsel and there is no doubt whatsoever that the Irish Stock Exchange has no legal ability to conduct these investigations. It was not immediately apparent at the time that the Financial Regulator did not have tools to do it, so we concluded that particular investigation because the firm was satisfied there was no——

Deputy Kieran O’Donnell

What date was that?

Ms Deirdre Somers

It was in early 2008. It was not abundantly clear to the Irish Stock Exchange that there was no legal recourse for anybody to look at this. It subsequently transpired from the account of the Financial Regulator that its legal advice is similar to ours and it does not have the legal ability. It appears that neither organisation has the legal ability at the moment, so it comes down to who has the greater capacity to resolve the issue and who is the more appropriate body to do it. Our legal analysis suggests that the Financial Regulator has far more tools in its possession to deal with the legal gap and is the more appropriate body to carry out any investigation of stockbrokers.

Deputy Kieran O’Donnell

Does the Financial Regulator think otherwise?

Ms Deirdre Somers

The Deputy should ask the Financial Regulator that question. The only option for the exchange is to re-instate the rules that applied prior to 1 November 2007. Our legal advice is that this would be legally prejudiced, unlikely to come to a satisfactory solution and unlikely to enable us to deliver an appropriate sanction. There really would be no point in engaging in an investigation which gives an expectation of an outcome that is legally almost impossible.

Deputy Kieran O’Donnell

The investigation that began in 2007 is effectively just sitting there.

Ms Deirdre Somers

That investigation was concluded because the firm in question submitted to the investigation that it was satisfied that it had nothing to account for. We concluded the investigation to everybody's satisfaction, but it served to crystallise the issue.

Deputy Kieran O’Donnell

When the Irish Stock Exchange was advised that it was not legally possible to continue this approach but that it could assist the Financial Regulator, what exactly did that mean?

Ms Deirdre Somers

We began the investigation in 2007 after the implementation of MiFID. Unfortunately, we had been told by our lawyers that it probably was all right. It was only when it was challenged it became obvious it was not legally permissible to do what we were doing.

Deputy Kieran O’Donnell

At the moment, the Financial Regulator is saying one thing while the Irish Stock Exchange is saying another but nothing has been resolved as yet. Is that reasonable?

Mr. Padraic O’Connor

That is reasonable. There was an exchange of correspondence over the past nine to 12 months, possibly not helped by the fact that the Financial Regulator was in transition. The new chief executive of the Financial Regulator is in the job for two or three months. We hope to come to a resolution on this.

Deputy Kieran O’Donnell

Mr. O'Connor is still effectively saying that nothing has happened in the past 12 months. There is a gap in the investigation in this area.

Mr. Padraic O’Connor

There is a gap. We have had no complaints because we have no capacity in the matter, so we do not know how serious the gap is. It would seem that the regulator has complaints on his desk, but we have to find out how they should be addressed.

Chairman

Did officials from the Irish Stock Exchange write to the Financial Regulator at any stage stating that they would continue to deal with complaints during that period?

Ms Deirdre Somers

On the day MiFID was implemented, the Financial Regulator asked us whether we had sufficient resources to carry out our role. We knew that we had an ongoing responsibility to finish any open cases, so we read that letter to mean whether we had sufficient resources to close out the existing cases. We honestly believed that our role ceased on 1 November. When we had further discussions about that letter, it became clear that the Financial Regulator was asking us a broader question. We got a legal opinion earlier which stated that we had some legal capacity to do it. We told officials from the regulator that we had sought legal advice, but this happened after 1 November so effectively the damage was done by then. The gap had been created and this was an effort to backtrack. Unfortunately, the legal advice we got was wrong and has subsequently been replaced by definitive legal advice to the effect that we cannot do that.

Deputy Kieran O’Donnell

The first legal advice was that the Irish Stock Exchange had powers——

Ms Deirdre Somers

Our advice was that we could do it, but it was not unambiguous. We proceeded on that basis in good faith, but when it subsequently transpired that the legal advice was wrong——

Deputy Kieran O’Donnell

How did this come about? When did the exchange get this subsequent advice from a senior counsel?

Ms Deirdre Somers

We got it when our capacity was challenged in late 2007 and early 2008.

Deputy Kieran O’Donnell

Did the firm in question agree to be voluntarily investigated at the same time?

Ms Deirdre Somers

Yes.

Deputy Kieran O’Donnell

It put up a legal challenge and then subsequently accepted it voluntarily.

Ms Deirdre Somers

That is correct.

Deputy Kieran O’Donnell

There is a problem with all this. Credit union movements and the like have invested in products through stockbrokers. Many of those products have lost significant amounts of money. Many of these credit unions have been unable to pay a dividend because they have had to absorb losses. We are now in a situation where 12 months have gone by and this issue is in orbit. It was out of sight, so it was out of mind, but it still has great relevance. Smaller organisations are being brought to court with very high legal costs and it is very difficult to explain to ordinary people how this issue has not been resolved after 12 months. It defies logic that it has taken so long and yet we are still no nearer to a resolution.

Mr. Padraic O’Connor

I hope we are closer to a resolution. I agree with the Deputy. The gap is unfortunate and it is difficult to explain to anybody that legislation has left a gap like this. However, no complaints are made to the Irish Stock Exchange, so we do not know about them. There are reports of credit unions having difficulties with products. Some of these reports come from the courts, while others just come up in conversation. I may be wrong, but I presume these complaints have been made to the Financial Regulator. They have not been made to the Irish Stock Exchange. We are out of the regulation game, so the buck does not stop here.

Chairman

The legal advice received by the Irish Stock Exchange prior to corresponding with the Financial Regulator gave the impression that it still had the regulatory authority to continue, but it subsequently got contradictory legal advice.

Mr. Padraic O’Connor

Yes. This does not explain the difficulty——

Ms Deirdre Somers

The damage was done at that stage. Whether we confirmed we could do something we could not do is not relevant. Our rules were deleted, everybody had approved the deletion of the rules and the gap had been created. Therefore, the inadequacy of that first set of legal advice is not particularly relevant.

Chairman

Did the Irish Stock Exchange at any stage circulate the first set of legal advice to any other body such as the Department of Finance or the regulatory authority?

Ms Deirdre Somers

The first set of legal advice, the one saying we could not do it——

Chairman

I mean the set saying the Irish Stock Exchange could do it.

Deputy Kieran O’Donnell

The one that said it could be retained.

Ms Deirdre Somers

On the one that said we could do it, we told the Financial Regulator at that time. That was our honest belief on foot of legal advice.

Deputy Kieran O’Donnell

When it was challenged by the organisation the Irish Stock Exchange was investigating, was it its legal opinion that——

Ms Deirdre Somers

No, it was ours.

Deputy Kieran O’Donnell

It was a separate legal opinion.

Ms Deirdre Somers

That has subsequently been validated by Senior Counsel's opinion.

Deputy Kieran O’Donnell

Was the legal counsel different the second time?

Ms Deirdre Somers

Yes.

Deputy Kieran O’Donnell

Was that sent to the Financial Regulator?

Ms Deirdre Somers

Yes.

Deputy Kieran O’Donnell

Was it also sent to the Government?

Ms Deirdre Somers

It was not sent to the Government because all of our communication on this has been with the Financial Regulator.

Mr. Padraic O’Connor

I stress, as I mentioned earlier, that the communication between the Irish Stock Exchange and the Financial Regulator is total. Everything we have, we send to it. That is the nature of the relationship. We are a regulated entity and we have common interests——

Deputy Kieran O’Donnell

Does the Financial Regulator accept that the Irish Stock Exchange has no role? Does it accept the second legal opinion? Has it sought——

Ms Deirdre Somers

Yes, the Financial Regulator has accepted that we currently have no legal ability to investigate. Our counsel's opinion was definitive on that.

Chairman

Is it possible to give us a copy of both sets of legal advice?

Mr. Padraic O’Connor

I do not know the appropriateness of these matters but, if it is appropriate, we will do so.

Chairman

I thank Mr. O'Connor and his colleagues for coming before us. The meeting is adjourned until 23 March, when the Credit Union Managers Association will come before us.

The joint committee adjourned at 4.25 p.m. until 3 p.m. on Tuesday, 23 March 2010.