IB SEC ACT of 1934

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IB SEC ACT of 1934
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  1. '34 ACT addressed abusive trading practices
    • M - Manipulation - becomes fraud
    • I  - Insiders - prohibited from profiting from insider information
    • S - SEC Created -
    • S - Short Sale Rules - regulation SHO

    • P - Proxy Rules - regulated to make takeover attempts fair to shareholders
    • E - Exchanges - must register with SEC and be self regulation
    • R - Reports - corporate issuers must file standardized reports which are public information
    • M - Margin - Federal Reserve was put in charge of this element of risk
    • S - Stabilization - manipulation is fraud, but IPO price stabilization is permitted.
  2. Provisions of '34 Act:
    - DOES NOT APPLY TO EXEMPT SECURITIES, except for the Fraud provisions - those apply everywhere
  3. M - Manipulation

    manipulation is fraud
    • Prohibited transactions -
    • - wash trades - buying and selling the same security to give the appearance of trading activity.
    • - Trading Pools - where a group of investors trade a security among themselves at successively higher prices to attract other investors to buy the security, to whom it is unloaded
    • - Trading by Underwriters Handling a Primary Offering before the effective date - underwriters were inflating the price prior to teh IPO to increase their spread.
    • - Short Tender Rule - can't tender securities if you are not net long
    • - Rule 10b-5 - Catch All Fraud Rule 10b-5 -
  4. Anti-maipulative Rules - Section 10

    rule 10b-2 - prohibits an underwriter, issuer or participant in a new issue distribution from placing buy order for the issue, buying the issue or taking options opsition on teh issue in teh aftermarket
    underwriters CAN execute UNsolicited customer orders, firms get an Unsolicted order letter signed by the customer

    Rule 10b-4 - "Short Tender Rule" - must be long to tender shares

    Long is owns teh stock, owns a converitble issue and has ordered conversion, owns rights, warrants or cal options nad has exercised them

    Long is long only as far as teh Net long position

    Rule 10b-9 - misreporesentation prohibited in All or None underwritings - definite time limit

    Rule 10b-13 - prohibits purchasing security in the market once a tender offer for the shares is announced.  same deal must be offered to all shareholders

    • rule 10b-18 - sets requirements for issuers  or affiliated persons that wish to acquire their shares in the open market -
    • - an director wants to acquire more shares, then he must follow these rules to avoid being accused of price manipulation
    • - must be effect through 1 broker/dealer on any given day
    • - cannot be the opening transaction
    • - cannot be executed within 10 minutes of close, or if a actively traded issue, within 30 minutes of close
    • - must be effected at prices no higher than teh current highest independent bid for that security or last reported sale (whichever is higher).
    • - cannot exceed 25% of trading volume in the security that day - unless a block purchase is done
  5. Regulation M - Rules 101 - 105

    - only covers manipulative issues - so actively traded issues, investment grade non-conv debt, preferred stock and asset backed issues
    • Rule 101 - syndicate members who are not market makers are  - 1 or 5 business days, prohibited from purchaisng , biding for or inducing the purchase of teh underwritten security.  can only accept unsolicited  orders to buy teh security - - -
    • - - Tier 1 Issue - Actively traded - no restrictions - average daily voluime > $1E6, float >$150E6, too big for manipulation
    • -- Tier 2 Issue - Moderate trading - 1 day restriction daily trading $100,000, and float of $25E6
    • -- Tier 3 Issue - Inactive trading - 5 day restriction - ave daily less than $100k, and floate less than $25E6

    Reference Security - trading prohibited during restricted period - covered security - ex., if offering a convertible security, then the common it is convertible to is a reference security and trading it in is also prohibited

    Note rule 101 doesn't restrict trading in equivalent or derivative securities during the restricted period - i.e., call options, can be traded.

    Rule 102 - similar to 101, but applies to issuers and selling shareholders

    Rule 103 - similar to 101, but applies to syndicate members who are market makers. 

    They can either seek to be excused from making a market during teh restricted period, or they can be a "passive market maker", whcih means they cannot raise a bid  and any quotes have to be marked "PSMM" - these are restriced from trading because they are part of the syndicate and cannot make a market during the 20 day cooling off period.

    - passive market makers are restricted from 30 percent of that market maker's average volume over the preceeding month or 200 shares, whicever is greater, each day.  once that limit is reached, must withdraw quotes

    Firms are to determine if they are subject to rule 101 or 103, and either the 1 or 5 day restriction based on teh trading volumen, and report to FINRA 1 day prior to beginning of restricted peroids first trading session.

    Form M - used to report

    Rule 104 - Stablization rules

    Notice of Stabilization must appear on inside cover of prospectus

    • only 1 stabilizing bid, it is a one sided quote, request must be made to NASDAQ in writing,
    • - id of security
    • - effective date of teh offering
    • - whether bid is "penalty" (PBID), or non-penalty (SYND)
    • -copy of cover page of prospectus


    Placed always at or below POP

    • If there is an independent market, then rules change: 
    • - bid cannot be entered any higher than last reported trade if the ask is equal to or higher than the last reported trade
    • - if these conditions cannot be met, then bid cannot be higher than independent bid.
    • - cannot be entered prior to effective date of offering
    • - any orders to buy from the public have priority over the penalty bid to buy at that price or lower

    No stabilization for an "at the market" offering

    Records of stabilization have to be maintained for 3 years.

    Rule 105 - Can't cover short positions created within 5 days of an offering's effective date.  B/D's are prevented from buying shares either from under writer or open market to cover short positions created within 5 days of an issue's effective date.

    • Transactions exempt from Regulation M:
    • - odd lot trades
    • - unsolicted customer order to buys an issue can be filled
    • - exercises of options, warrants, rights or conversion privileges - since they don't go through the market, the do not affect the market price
  6. I - Insider Rules -

    Insiders are officer, director or 10% shareholder of company

    Insiders must report their trades to the SEC within 2 days, which makes the information public
    Insiders cannot trade on material inside info

    Any short term swing (under 6 month) profit has to be paid back to the corporation

    Insiders cannot sell short their companies shares, except for short against the box, have to close within 20 days

    Insider definition has been expanded to include anyone with material non-public information, attorney's, accountants engineers.
  7. S - SEC created
  8. S - Short Sale Rules - regulation SHO
    SHO replaced the original up-tick rule

    All sell orders have to be marked as either long or short

    Broker is responsible for locating and borrowing shares so the they avoid a "fail to deliver"

    If there is a fail to deliver, buy must occur in a specific time,

    Up-tick rule was replaced with up-bid rule, if security falls by 10% or more in a trading day
  9. P - Proxy Solicitation
     - materials must be complete and not misleading
    Proxy materials must be filed with SEC 10 days prior to mailing to shareholders

    People who accumulate at least 5% of shares must file with SEC a 13D filing to prevent "sneak takeovers" of companies by people quietly accumulating shares
  10. E = Exchange and Member Firm REgisration with SEC

    exchanges that trade non-exempt securities must register with SEC
    FINRA is consolidation of NYSE and NASDAQ

    Member firms and their sales related employees must register with SEC

    SEC requires minimum Net Capital reporting

    Segregation for Fully paid customer securiities

    Segregation of excess margin securities - those in excess of 140% of debit balance must be segregated and placed in safekeeping -

    • Notification of free credit balances of customers must be notified quarterly. 
    • - amount of free credit balance
    • - funds available upon customer request
    • - the funds are not segregated from other borkerage firm cash balances

    • Notification of broker=dealer financial condition semi-annually -
    • - it must includeStatemetn of Financial Conditoin (a balance sheet audited for year end, unaudited for teh mid-year statement).
    • - net captial calculation that shows net capital of broker dealer
  11. R - Reporting by corporate issuers
    corporate issuers are required to file annual and quarterly reports.  10k - audited, 10q - unaudited.  any significant developments must be reported on 8K.  all are made public.
  12. M - Margin Rules -
    • Federal Reserve - reg T - broker to client rules
    • reg U - bank to brokerage rules

    Not allowed on non-exempt new issues, only on non-exmpt "Listed" issues
  13. S - Stabilization - of new issues in trading market allowed
    • Regulation M -
    • only one stabilizing bid is allowed and isplaced by the manager
    • - can only be placed if there are other market maker(s)
    • - teh bid can be palced at or below the public offering price, never ABOVE
    • - can't be placed above the highest bid or last reported sale
    • - notice of stabilization will be appear in prospecuts
    • - bid must be withdrawan when syndicate is disbanded.
  14. Registration requirement for teh Securities under the '34 act
    section 12a - unlawful for a B/D to effect rades of non-exempt securiites unless securities are registered with SEc

    section 12g - requires that issuers of non-exempt equity of at least 2000 shareholders must register (who have at least $10E6 assets).

    section 12j - SEC has the right to suspend for up to 12 months or revoke the registration of a secuirty if issuer does not comply with '34 Act

    section 12k - SEC can summarily suspend trading in any security for up to 10 days, with approval of president can suspend trading of all securities on a given exchange for up to 90 days.  Pearl Harbor and 9/11/2001

    • Reporting to the SEC -
    • material events - 8K filed within 4 dyas of event

    10Q reports - quarterly unaudited filings

    13D filing by owners who acquire 5% or more shares, file with SEC, the issuer and self-regulatory organization.

    13G - holders who want to acquire large 5% position without acquireing control, can file with sec, issuer and exchange wehre the security trades no later than 45 dyas after each calendar year end during which the position is held.

    13F filed by Institutional moneyh mangers if tehy manager $100 million of more of excahne lsited securities, ETf's, options and convertible bonds of exchagne listed issues, filed within 45 days of the end of each calendar quarter

    Issuer taking itself "Private" - Rule 13e-3 - sets rules for a compnay buying back enough shares to reduce themselves to unlistable number of shareholders.  Issuer must report results of transaction within 10 days of termination of transaction.

    • Rule 13e-4 - Tender offer rules -
    • must remain open at least 20 days from announcement - if it is amended, has to remain open another 10 days minimum.

    • Recipient Issuer must give its opinion on teh tender offer
    • Rules 14e-1 through 14e-5 -
    • acompany that is the target of a tender offer is required within 10 business days of the date of teh offer to give an opnion to its shareholders on teh offer.  The company must either give security hodlers a statement that:

    • - it recommends acceptance or rejection
    • - expresses no opinion and remains neutral
    • - unable to take a position with respect to biddeer tender offer

    during life of tender offer recipients of information about offers progress are considered "Insiders" - - can't buy that security or equivalent unless the info is made public.

    During life of tender - maker of offer can't buy shares in the market.
  15. Registration of broker dealers under '34 act

    Rule 15c1-8 - Prohibits an underwriter or person associate witha broker dealer from representing that an issue is being offered at the market unless teh dealer has reasonable grounds to believe that a market exists for teh securi other than the market create by that dealer

    Rule 15c1-9 = Prohibts teh use of pro forma - financial statements by B/D's that show the effect the of a proposed financin or applicatoo of funds on a companies operation unless the staemetns are clarly labeled as pro forma

    Rule 15c2-4 - an underwriter doing a=n all or nothing offering must use an escrow agent at a bank.  On best efforts, rule says that funds are promptly transferred to issuer.  Firm commitments don't have this risk.

    Rule 15c-8 - prospectus requrests that are in writing must be filed in a reasonalbe time period.
    • rule 16a-1 - Insider filing rules
    • directors, officers and 10% shareholders are insiders and must report transactions in their company stock to the SEC.

    Once you become an insider, you have to file Form 3 within 10 days.

    Insiders must report their trades within 2 business days on Form 4
  16. Section 4 FINRA RULES FOR UNDERWRITING
    Corporate Financing Rule

    - Underwriter's compensation must be "fair and reasonable"

    - compensation must be filed with Committee on Corporate Financing - if FINRA finds it unreasonable or unfair, they can require it be changed and if it isn't, they can fine, censure or expel the member

    • - the managing underwriter is required by FINRA to file with the Committee on Corporate Financing no later than 1 business day after the registration statement is filed with the SEC.
    • -- registration statement for the issue
    • -- amendments to the registration stmt
    • -- underwriting agreement and
    • -- agreement among underwriters

    - if filed under the intrastate exemption, must file with FINRA 1 day after state filing

    - If no filing with SEC (reg. A exemption), must file 15 days in advance of sale

    • Issues for which filing with the committee is not required:
    • -- add-on secondary offering - unsecured, non-convertible debt rated BBB or better
    • -- straight debt issues rated BBB with 4 year maturity and preferred stocks rated BBB or better
    • -- securities registered under shelf 415
    • -- securities purchased under standby underwriting
    • -- any financing backed ins rated BBB or better

    • Issues Exempt from Filing:
    • -- Private placement under regulation D where a rule 144 resale restriction legend
    • -- gov and muni issues
    • -- open end investment company shares, BUT NOT CLOSED ENDS
    • -- unit investment trusts
    • -- variable annuities
    • -- issues under section 14D tender offers
    • -- competively bid utility issues


    • All other issues require filing with the Committee on Corporate Finance:
    • -- equity
    • -- convertible debt
    • -- straight debt rated below BBB
    • -- Direct Participation Programs
    • -- Rights
    • -- Intrastate Issues (Rule 147 exemption)
    • -- Regulation A Filings
    • -- Issues of Banks, Savings and Loans, Charitable Institutions, Common Carriers, even if exempt from '33 Act

    • Info to be filed:
    • "All forms of compensation" -
    • -- estimated Public Offering Price
    • -- estimated underwriting discount - spread
    • -- exact reimbursement for underwriters expenses, all the advisors and consultants
    • -- all other comp
    • -- details of ownership of any issuer's securities acquired within 180 days prior to filing date by the member firm, officers and employees
    • -- details of any arrangement transferring rights, warrants, etc. within 180 days

    items normally paid for by the issuer, but paid for by the underwriter and reimbursed by the issuer are not considered compensation

    all items that may be compensation prior to effective date up to 180 days prior and post efffective date are reviewed.
  17. Items automatically considered unreasonable:

    - convertible securities, options or warrants granted at a more favorable price than market
    - options or warrants granted with life longer than 5 years
    - free (unlegended) stock, to be acceptable must be restricted from resale for 6 months
    - "Green Shoe Clauses" that allow for more than 15% extra shares
    - Future Underwritings - any agreement giving teh underwriter future business more than 3 years.
    also, any expense allowances granted by issuers to underwriters in excess of 3% are expressly forbidden
  18. 180 day lockup

    any securities they get must be held for 6 months
  19. Issuer Directed Securities

    - the issuer can direct that some shares be reserved for affiliated people who can't buy on teh IPO
    Also, Member cannot participate in underwring where member receives 10% or more of proceeds - - unless the price is set by an independent underwriter
  20. FINRA RULE 5130 - INITIAL PUBLIC OFFERINGS IPOS
    - designed to keep underwriters from holding on to "hot" shares for themselves

    this rule replaces the "Free Riding and Withholding Policy" - which applied only to "hot" issues.

    -- new rule applies to all issues

    -- new rule does not apply to bonds, preferred stock or secondary offerings of equity securities

    - industry insiders prohibited from buying common stock - even the buyer is subject to penalties if the rule is violated.
  21. Persons restricted -

    FINRA member firsm Officers, Employees and Immediate Family

    Immediate Family is defined as one up, one down and one over
    - immediate family prohibited only if they are materially supported by member employee or if they buy issue from firm that employs their family member - 25% of that person's living expenses or living together in same household

    - employees of limited business B/D's (funds or LP only firms) are NOT restricted

    - ficuciaries and Finders (finder fee recipient) are prohibited

    - portfolio managers are restricted from buying for their personal accounts, but can buy for the portfolio they are paid to manage

    - passive owners of B/D's - almost ex-wife
  22. B/D's must pre-qualify within 12 months of effective date any purchasers

    - obtain a representative letter from account owner or agent

    or, for a mutual fund, pension, get a letter from the trustee of the "conduit" account
    Initial affirmation letter must be written and "positive" - i.e., signed in the affirmative that the account is not restricted.

    After that, subsequent affirmation can be just a negative consent, ask if there are any changes to let us know and if nothing comes back, then assume that everything is still okay.
  23. Permitted purchasers, who are exempt from teh Rule:

    - registered investment companies
    - common trust funds with more than 1,000 accounts
    - insurance companies buying for their general, separate or investment accoutns
    - accounts where the beneficial ownership of the restricted person is less than 10%
    - publically traded companies of B/D/s that do not handle IPO's CAN BUY
    - qualifed retirement plans and state and muni benefit plans
    - tax exempt charitable organizations
    • Rule 5130 does not apply to certain new issues:
    • - exempt securities (gov, muni, agencies)
    • - investment company issues
    • - preferred stock (convert or not)
    • - asset backed investment grade issues
    • - ADR issues for securities with pre-existing market outside the U.S.
    • - private placements under Reg. D
  24. Directed Stock (issuer directed)

    - can direct to people that can't buy becasue they are restricted persons AS LONG AS THEY ARE RESTRICTED BECAUSE OF ASSOCIATION WITH YOUR ISSUE
    if they are just industry people and that's why they are restricted, then you can't send them restricted stock
  25. Taking Yourself Public -
    Rule 5121 - have to have all the terms, due diligence, price, set by qualifed Independent Underwriter (QIU)
    • a QIU is:
    • - have to have done priovious underwiritng similar to your firm for previous 3 years.
    • - none of the supervisory people at your firm can have ever been:
    • - susbended or expelled by a regulator,
    • - cann have ben conveicted of securities violations relating to underwriting
    • - cannot be subject to restraining order from engagin in underwritings
  26. public offerings with conflicts of interest continued
    • - prospetu must dislose offerin is made persuent to Rule 5121
    • - offering is of teh member's own securities
    • - name of QIU
    • - nature of conflicts of interest
    • - that QIU is responsible for pricing and due diligence

    Proceeds of the offering must be held in escrow until teh net capital calculation is done following teh offering.

    • If after net capital calculation:
    • - net capital is under 120% of minimum, or
    • - aggret indebtedness to net capital ratio over 10:1
    • - net capital below 7% of debits in reserve
    • THEN, the offering is withdrawn and teh funds are returned to the purchasers
  27. FINRA PRIVATE PLACEMENT RULES
    - Rule 5122 - rules for member firms that issue private placements

    • - terms have to be disclosed in private placement memoradum (PPM) - terms and use of proceeds
    • - file offering docuemtn with FINRA's committee on corp financeing at or prior to giving it to an investor
    • - commit that at least 85% of offerings will be used for business purposes (includes all teh costs of the offereing)

    • Exemptions:
    • - if all investors are institutional investors
    • - if QIB (rule 144A)
    • - investmetn companies
    • bank

    • additionally, these are exempt:
    • - offerings of exempt securities
    • - rule 144A
    • - investment company securities
    • - insurance company securities
    • - commodity pool securities
    • - equity and credit derivatives, and
    • - filed with FINRA under other rules

    B/D has to do some due diligence, even if all ivnestors are institutions

    If the securiteis are registered, then teh B/D doesn't have to do this, as teh underwriter and issuer have to do this.
  28. Other FINRA rules

    syndicate and selling agreements have to have a formula for setting tthe POP
    - securites taken in trade for the new issue must be valued at the current market - i.e., a purchaser comes with stocks to sell to use to buy an new issue - you can't inflate the price of teh stocks he's selling to give him a better price on teh new issue

    - Can't represent a "fixed price" offering as occuring "at the market" - these are new issues where there ISN'T an existing market

    - underwriter is prohibited from paying another person to buy an issue to make it successful.

    - underwriter must sell to non members at POP, no discount allowed

    - selling concession must be provided only to those who actually sold the issue

    - can't put new issues in teh accounts of related persons

    - IF a offering is not well received, and a stand by arrangement is created, then it must be disclosed in teh final prospectus and the securiteis purchased in teh stand by can not be sold for 3 months if an IPO

    max sales charge on DPP and REITS is 10% and a maximum 5% expense reimbursement is allowed - hence back to the 15% max underwriting cost

    • - partnership rollups ; a way to make illiquide LP units more liquid -
    • -- the limited partners contribute their limited partnership units to a trust that is an MLP or trust that is traded on an exchange, therby getting some liquidity.
    • -- members ar prohibited from soliciting votes from limted partners in connectin with a proposed rollup unless any compensation recvied by the member is:
    • --- payable regardless of whether the limited partners vote to rollup their units., AND
    • --- the compensation does not exceed 2% of the value of teh sercurities received in teh exchange.

    • NON TRADED REITS -
    • - registered but non-traded REITS, but are not listed on an exchange, used as income vehicles:
    • Problems are:
    • - distributions are not guaranteed, can be altered or halted and have frequently been made from capital rather than earnings
    • - lack of trading means illiquidity, may have 5% redemption priviledge which can be suspended, usually structured for 7 - 10 years and so investors are stuck
    • - fees are usually high, old in units of $10 and usually have sales loads of 15%, so only 85% gets invested.
    • - properties actually in teh REIT are frequently not disclosed - so LACK OF TRANSPARENCY


    PRIVATE REITS - only sold to accredited investors, very little disclosure, Reg D.

    Subchapter M - conduit tax treatment of REITS adn investment companies - TO KEEP CONDUIT TREATMENT - must derive at least 75% of income from real estate and distribute at least 90% of Net Investment Income (NII)

    • Uniform Practice rules for Underwritng:
    • include :
    • - corporate syndicates must be settled within 90 days of effective date
    • - syndicate manager must notify FINRA if any delay of the anticipated clsoing of a deal happens

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