|Market manipulation prohibition under REMIT|
Definition of market manipulation under REMIT
REMIT Regulation prohibits engaging in, as well as attempting to engage in, market manipulation on wholesale energy markets.
REMIT framework excludes from its scope market manipulation in electricity and gas derivatives, where Market Abuse Regulation (MAR) is applicable.
Definition of market manipulation laid down in Article 2 of REMIT.
The offences are defined as entering into transactions which give or have the intention of giving false or misleading signals as to the supply, demand or price of a product, or which secure or have the intention of securing prices at artificial levels; as well as disseminating false or misleading information through the media.
It is a defence to prove that a trade was entered for legitimate reasons and that it conformed to accepted market practices on the wholesale energy market concerned.
ACER has provided examples of the types of practices which could constitute market manipulation and are considered particularly relevant for wholesale energy markets, based on the examples of market abuse practices produced by CESR (the Committee of European Securities Regulators) for the Market Abuse Directive.
The examples include wash trades, placing orders with no intention of executing them, cross-market manipulation. and pre-arranged trading.
It is visible that rather an example based approach has been adopted in that regard which create space for uncertainty and divergent interpretations.
UK Ofgem document of 8 September 2015 "Prohibition of market abuse under the Regulation on wholesale energy market integrity and transparency (EU) No 1227/2011 (REMIT" underlines some key features of REMIT market manipulation regime:
- market manipulation may occur without an impact on supply, demand or price;
- there is no need for there to have been intent for market manipulation, as defined in Article 2(2)(a), to be found.
It needs to be, hence, taken into account that certain orders or transactions, depending on the specificities of the market and on the circumstances, may be considered as market manipulation, or attempt thereof under Article 2(2) and 2(3) of REMIT, and prohibited by Article 5 of REMIT, irrespective the motive behind the orders/transactions, or regardless of the actual effect on the market.
The necessary due care should be taken on the part of market participants to ensure that erroneous trading does not accidently result in outcomes that could constitute a breach of REMIT.
The above Ofgem document particularly highlights layering as a practice, which amounts to market manipulation in the energy market.
As the layering is described the act of entering a series of bids (or offers), which you do not intend to execute, at increasing (or, for offers, decreasing) prices.
This is likely to amount to a breach of REMIT (by analogy with the regulation of financial services, Canada Inc (formerly trading as Swift Trade Inc) v Financial Services Authority  All ER (D) 266 (Feb)).
This is because:
- the placement of bids (or offers) which are not intended to be traded provides a false signal as to the level of demand (supply) to the market (Article 2(2)(a)(i)); and/or
- the false signal may secure, or attempt to secure, the price at an artificial level (see Article 2(2)(a)(ii)).
The price at which a wholesale energy product is secured is considered an artificial level if it reflects a false signal as to the demand for (or supply of) that product rather than prevailing market conditions.
Marking the close
Another example of market manipulation Ofgem especially accentuates is marking the close.
The European Agency for the Cooperation of Energy Regulators (ACER) in its guidance refers to this practice as an example of the type of manipulation included in Article 2(2)(a)(ii) of REMIT.
Marking the close involves deliberately buying or selling wholesale energy products at the close of the market in a manner that seeks to secure the closing price of the wholesale energy product at an artificial price.
In the Ofgem's view such behaviour undertaken to secure price assessments or index prices at an artificial price would also be an example of the type of manipulation set out in Article 2(2)(a)(ii).
Therefore, when trading around the close of markets or around price assessment periods, market participants should be particularly mindful of how their trading may affect the closing or assessed price.
Market participants should also be aware that entering into erroneous trades around these times could also constitute market manipulation even where such trades are later cancelled.
Once the trade is executed the price signal is shared with market participants, and is not necessarily removed by its cancellation.
Ofgem also emphasises that even if a closing or assessed price is not impacted by a market participant's trading, attempts to alter or influence these prices could still constitute attempted market manipulation and therefore breach Article 5 of REMIT.
Under Article 2(2)(a)(i) of REMIT, entering into a transaction, or issuing any order to trade in wholesale energy products which gives or is likely to give false or misleading signals as to the supply of, demand for, or price of wholesale energy products is a form of market manipulation.
Pre-arranged trading is likely to give a false or misleading signal and as such could represent a breach of REMIT because it indicates to the market availability of supply and/or a price which is not actually available to the whole market on equal terms.
The term wash trade refers to the act of a market participant entering into arrangements for the sale or purchase of a wholesale energy product, where there is no change in beneficial interests or market risk or where the beneficial interest or market risk is transferred between parties who are acting in concert or collusion.
ACER has issued an extensive guidance on wash trades as a REMIT market manipulation practice.
Article 2(2)(a)(ii) and Article 2(3)(a)(ii) of REMIT entail that either an artificial price level is actually secured (in that sense, the artificial price level must be secured by the market manipulation) or there is an attempt to secure the price at an artificial level (in that case, no actual effect on the price is required to conclude the potential REMIT breach).
Artificiality entails that the price should deviate from the price level absent any manipulation (i.e. the counterfactual price) irrespective of the size of the deviation.
For the qualification that the price is artificial, it is not necessary to examine whether it is abnormally high or low.
A price will be considered artificial if it does not correspond to the genuine intersection of demand and supply reflecting market fundamentals.
In the event prices are at an artificial level, the market participant’s conduct and its potential impacts on the market should be further assessed (existence of legitimate reasons, compliance with accepted market practices).
Industrial best practices on the prohibition of market manipulation under REMIT
Nord Pool Consulting AS document of 15 August 2017 “REMIT Best Practice, A sector review on how to comply with REMIT related to inside information and market abuse“ (p. 39) observed that most common causes for market manipulation include:
1. intentional manipulation to increase profits,
The said document recommended that:
1. market participants should implement measures to reduce the risk of employees manipulating the market, including control measures;
2. measures to avoid both intentional and unintentional market manipulation should include risk assessment and awareness training;
3. the most important step to prevent market manipulation is to ensure that the employees are aware of what kind of behaviour could be manipulative, hence all market participants should have mandatory trainings for traders (these should also include training on specific market manipulation scenarios);
4. another important step to prevent market manipulation is to conduct a market abuse risk assessment, it should be based on all types of market manipulation described in the ACER Guidance, it should be also considered whether other types of manipulation are relevant.
The aforementioned Nord Pool Consulting AS document of 15 August 2017 also emphasised the importance of good documentation procedures on all implemented measures. the said documentation should include the following main elements:
1. traders should have a clear documented mandate and clear instructions on how to trade, deviations should be also documented:;
2. the traders themselves should document their behaviour in situations where they enter into unusual or exceptional transactions or made unusual or exceptional profit/loss, or if there have been other unusual or exceptional situations or market conditions;
3. compliance should have full access to such documentation;
4. what a trader can and cannot do should should be clearly specified in I nstructions and procedures;
5. given that errors, for instance when placing orders in the wholesale energy market, can have significant impact on the market and may constitute market manipulation, market participants markets should have routines and procedures in place to prevent unintentional and negligent manipulation, such as:
6. market participant should develop a list exemplifying practical issues such as:
- never coordinate trading activities or discuss pricing strategies with other market participants – no cooperation or attempt of cooperation or information sharing,
- there should be a real desire to trade behind all orders – never place an order designed not to be executed,
- do not place orders with the intention of affecting reference prices,
- consider how the available capacity is offered into the total market - even if not all available capacity is offered in every market segment, it is recommended that the total available capacity is always offered in all market segments combined, unless there is a legitimate reason for not offering all available capacity;
7. when it comes to automated trading:
- market participants should define process for approving the algorithm before it is put into operation,
Although there are not many examples of regulatory practice on the REMIT's application so far, ACER's annual report on its activities under REMIT in 2012 mentions four cases related to potential breach of the prohibition of market manipulation according to Article 5 of REMIT.
Three cases were brought to the Agency's attention through notifications of national regulatory authorities (NRAs) or persons professionally arranging transactions in accordance with Articles 15 and 16 of REMIT respectively, while one case was initiated by the Agency after analysing information in the media.
The Agency's activities consisted of coordination of the concerned NRAs. One of the cases had potential cross-border impact and therefore required the establishment and coordination of an investigatory group consisting of all concerned NRAs.
As ACER reports, following the review, three of the cases were closed by the competent NRAs without a breach of REMIT being found. One case is still ongoing and was notified to ESMA and the competent financial market authority.
It is expected that the number of cases under review will grow in the following years, in particular following the start of systematic data collection on the basis of the implementing acts.
An example described in the above report in greater detail was as follows.
In view of the development of electricity prices in the Member State concerned in early 2012 and press reports claiming that speculation of electricity traders nearly caused a blackout and significant price peaks, the Agency contacted the relevant NRA and requested background information to be able to assess a potential breach of the provisions in REMIT.
According to the information received, the NRA assessed the case as potentially breaching national security of supply provisions. However, no breach of the provisions in REMIT was detected. The Agency therefore closed the case.
ACER's annual report on its activities under REMIT in 2014 (p. 47) describes more examples of potential market manipulation in the wholesale electricity market brought to the attention of energy regulatory authorities.
Among them is the case where the Agency and the relevant NRA were notified by an energy exchange on a case potentially involving price manipulation of several wholesale energy products.
Identical orders were introduced and withdrawn several times during the day in related products. After evaluating the cross market movements and the fundamental data available, a combination of actions in different markets for the same period could not be proved.
Also fundamental information justified some of the withdrawn bids.
In particular, a failure in one power station produced chain effects in other power stations owned by different market participants, explaining the amount of bids withdrawn being higher than expected.
Another potential market manipulation related to the wholesale gas market: a market participant placed an unusual number of orders for an illiquid month-ahead product.
In several instances the company acted on both sides (placing bids and asks), which were removed from the market before being executed. Most of the orders were placed during the market closing period and were only upheld during a few minutes.
The behaviour created the impression that the market participant was not interested in executing the orders and only intended to affect the closing price of the month-ahead product.
The market participant was requested to provide further information on the behaviour and was interviewed by the relevant NRA.
The case was closed with a warning from the NRA to the involved market participant, but no sanction was applied as this time the NRA had no sanctioning powers. The market participant committed to change the behaviour in the market.
Another case of alleged market manipulation investigated by Ofgem concentrated on failure to provide accurate information to the wholesale energy market by the Transmission System Operator - National Grid Electricity Transmission plc’s (NGET).
Investigation focused on concerns that NGET had breached the prohibition of market manipulation (Article 5 of REMIT,) during specific periods between November 2015 and January 2016.
During these periods, NGET erroneously caused incorrect de-rated capacity margin (DRM) calculations to be published through Elexon’s online platform.
According to Ofgem, there was clear evidence that this resulted in false or misleading signals as to the supply of, demand for, or price of wholesale energy products being given to the market, contrary to Article 5 of REMIT, as defined under Article 2(2)(b) - see details in the Ofgem investigates National Grid Electricity Transmission plc under REMIT for publishing incorrect market information.
More recent example of the REMIT enforcement of the prohibition of market manipulation is the fine of € 5 million imposed by the French CRE on VITOL S.A. for unlawful trading practices on the French Southern virtual Gas Trading Point (“PEG Sud”) between 1 June 2013 and 31 March 2014.
According to the CRE, “VITOL S.A. carried out, over the course of 65 cases spread over 54 trading days a modus operandi consisting of the following steps:
- First, VITOL S.A. would issue multiple sell orders, generally at the beginning of the trading day (especially before 3 p.m.), when liquidity was low. As the day moves along, VITOL S.A. would issue sell orders at gradually decreasing prices. These sell orders would then decrease after 4 a.m. during the more liquid period of the day;
- Second, once prices had decreased, VITOL S.A. would engage in important purchases;
- Third, after having proceeded with those purchases, VITOL S.A. would cancel its sell orders to finish the day as a net buyer.
Organised markets’ rules
It is useful to take account of certain organised market rulebooks, like for instance Nord Pool Spot which require each member to ensure that any orders issued by it reflect a genuine purchase or sales interest, and that all transactions to which a member is a party are genuine.
Such requirements go further than REMIT provisions.
Pursuant to the Nord Pool Spot clarifications, they partly overlap with the REMIT prohibition of market manipulation, but are wider in the sense that orders and transactions that do not send a false or misleading signal or do not secure prices at an artificial level may still be a breach of this requirement.
Nord Pool Spot communication further explains that the background for this requirement is that it is important that members trading on the physical markets have sufficient routines to ensure the quality of their orders.
REMIT Regulation, Article 2(2) and (3), Article 5, Recitals 13 and 14
GUIDANCE NOTE 1/2017 ON THE APPLICATION OF ARTICLE 5 OF REMIT ON THE PROHIBITION OF MARKET MANIPULATION, WASH TRADES 1st Edition, 19-June-2017
|Last Updated on Friday, 19 October 2018 04:17|