FINRA Proposes Revised Rumor Rule

On June 1, 2009, FINRA issued Notice 09-29 seeking comment on proposed FINRA Rule 2030, which deals with the circulation of rumors. The new proposed Rule 2030 replaces a widely criticized earlier proposal, issued as Notice 08-68 on November 18, 2008. The proposed rule is based on both FINRA Rule 6140(e) and NYSE Rule 435(5) and, if approved, will replace these rules, as well as related interpretive guidance.¹

Aside from minor wording changes, the body of the new proposed rule is essentially identical to the November proposal. However, the new proposed rule includes supplementary material that provides exceptions to the prohibition on rumor circulation. The supplementary material makes substantial changes to the original proposal, and the result is a more reasonable rule overall.

The November proposal would have prohibited the origination or circulation of rumors with respect to any security where a member “knows or has reasonable grounds for believing” that the rumor is “false or misleading or would improperly influence the market price of such security.”² This prohibition would have covered “widely circulated rumors in the public media.” Thus, for example, if a client called asking about the reasons for volatility in a particular security, the original proposed rule might not have permitted a broker to inform the client that the company had just been discussed in a CNBC report.

By contrast, the new proposed rule maintains the prohibition on rumors, but the supplementary material gives a clear definition of “rumor” that was lacking in the original proposal, and provides three key exceptions to the prohibition on rumors. A rumor is defined as “a false or misleading statement or a statement without a reasonable basis.”³ Further, a statement is not considered a rumor “if it is clearly an expression of an individual’s or firm’s opinion, such as an analyst’s view of the prospects of a company.”⁴ The three exceptions to the prohibition on rumors are as follows:

(a) Discussion of rumors that are published by widely circulated public media is permitted provided their sources and unsubstantiated nature are disclosed.

(b) Discussion of rumors among market participants when necessary to explain market or trading conditions is permitted.

(c) Discussion of rumors between associated persons of a member firm solely regarding their truthfulness is permitted provided the unsubstantiated nature of the rumors is disclosed and, where possible, their sources.

The November proposal contained a reporting requirement, mandating a report to FINRA of any circumstance that would lead a member to believe that a rumor had been originated or circulated. FINRA has decided to retain this reporting requirement, which was widely criticized, in the new proposed Rule 2030. If adopted, firms will have to determine how to identify, escalate and report rumors. The supplementary material to the new proposed rule also adds a “Written Policies and Procedures” requirement. This will require members to 1) maintain written policies and supervisory procedures related to rumor circulation, 2) develop and document training policies and programs to promote member compliance, and 3) identify who is responsible for issuing guidance on rumor circulation issues.

The proposal of Rule 2030 is part of a larger effort by the regulatory community, including both examinations and enforcement inquiries, to determine whether traders have deliberately spread false rumors to manipulate the price of securities. In attempting to address this issue, the November proposal prohibited some essential communications, and the new proposed rule provides three important exceptions. However, the reporting requirement and written policies and procedures required by the new proposed Rule 2030 will impose significant new obligations on member firms. Broker-dealers should consider how they would implement and monitor these policies. Comments should be submitted to FINRA by July 16, 2009.

For a complete copy of the Regulatory Notice, see http://www.finra.org/web/groups/industry/@ip/@reg/@notice/documents/notices/p118807.pdf

ENDNOTES

¹ FINRA Rule 6140(e), Other Trading Practices, prohibits members from making any statement or circulating “any information concerning any designated security which such member knows or has reasonable grounds for believing is false or misleading or would improperly influence the market price of such security.” NYSE Rule 435(5), Miscellaneous Prohibitions, prohibits a member from circulating “rumors of a sensational character which might reasonably be expected to affect market conditions on the [NYSE].”

² See FINRA Notice 08-68 (November 2008).

³ See FINRA Notice 09-29 (June 2009).

⁴ Id.