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My Word Is My Bond…. Or IS it?


My Word Is My Bond…. Or IS it?

London Stock Exchange Motto

“Dictum meum pactum” – 

My word is my bond  


Or is it?




Picture the scene – the late 1970’s / early 80’s the London Stock Exchange, full of individuals with brightly coloured jackets scribbling down prices on boards, and frantically running around the “floor”. … …. …. Jobbers would take telephone calls from Stockbrokers – often based in a City office, who would then “execute” these orders face to face with the Market Makers.


Back then, the daily activity of trading “stocks and shares” was done face to face in what was known as “Open Outcry”, as its name suggests it was literally shouting at one another to get your order heard in what was known as ‘Pits”.


The phrase, – “It’s not what you know, it’s who you know” was widely heard in the conversations in and around the coffee and sandwich bars of Throgmorton Street. What is now a punishable criminal offence of “Insider Dealing” was, then, certainly more widespread – it was clear for all to see how many Stocks were traded just before an announcement or an operative event that would move the price.

These days those face to face transactions, the bell ringing, the dealing and the shouting have now all but disappeared. That daily drama of ups and downs of Dealers on the floor of the stock market shouting “Buy!!” and “Sell!!!” at the top of their voices on the exchange floor are long gone as technology ultimately paved the way, in what was known as “Big Bang”.


In 1979 just over 3 million people owned shares, around 7% of the then adult population, but by the end of the Eighties one in four people – 12 million adults – owned shares. This boom of Share Ownership was fuelled by a wave of Government led privatisations in which many of the – what was then – State owned assets were sold off to the Public.


Computer screens had taken over from the Stockbroker and Jobber on the floor of the London Stock Exchange, and the beginning of a new breed of investor was born.


The Leverage Factor

In the main, the majority of the popular privatisations such as BT and British Gas almost instantly doubled in price. And here is where it starts to get interesting from a leverage factor.


As, if you have only paid, in effect pennies, and the share price has (almost overnight) doubled – you can see how and why so many Private Clients were interested in applying for as many shares as possible.


So, in what was seen at the time, as highly successful Privatisations, the Public, couldn’t get enough, often making “multiple applications” to get as many shares as possible. (A practice that was not only illegal, but one in which even MP’s were caught up in).


With this almost “feeding frenzy” of can’t lose, let’s invest, inevitably came risks though….. … It doesn’t always work.


So what was next for the insatiable appetite for Smaller Investors?

We now have a new breed and generation of Investors on the Stock Exchange, one that perhaps believes that this form of speculation – short term trading – as opposed to long term capital growth and investing, is the norm.

They have been bitten by the bug, and their appetite whetted by the gains that have been, and possibly still can be made.


With the invent of the world wide web, stockbroking commission charges had significantly diminished, and the day-to-day trading that was taking place in this new dot com bubble, was being focused on anything that potentially could have, in anyway, a part to play in the world of technology.

And it wasn’t long before the actual electronic trading screens themselves had become the focus of attention… …

Any Stock that seemed to have the remotest part to play with technology, or the parts that go into the screens was attracting the attention of the Private Clients who were trying desperately to recreate the instant gains that they had seen in the 80’s.


Suddenly, stocks and shares were once again, the focus of euphoric attention for both Private Clients and in the media. In a bout of historical madness, stocks and shares that had only just listed on the London Stock Exchange – in the main part on its Alternative Investment Market (AIM) for smaller companies, were being valued – or forward valued on multiples that were far and beyond the norm.


There were “Placings” of shares in which due to the small size of the Company, the “Placing” shares were purchased by the Sponsoring Broker, who brought the Stock to the market, but the Public were desperately trying to get hold of.


In some cases stocks and shares in these smaller technology shares were being forward valued on multiples that were simply unachievable by any means – yet it seemed that once again, the Public couldn’t get enough of this – and what was known as the ‘Internet Boom and Bust era’ was born.


Supply and Demand

Yet, while for personal investors it had never been easier to buy the stocks and shares, many knew little about what actually happens behind the scenes, or the supposed law of supply and demand, and why and how share prices move up and down.


What one would normally expect, is for a share price to move in line with the overall direction of the market – or move in line with the sector of the particular share in question. Sentiment too can play a huge part in the way in which the prices of stocks and shares move.


Now, with this law of ‘supply and demand’ Market Makers in the very small technology shares, suddenly found themselves at the centre of a burst of activity. So much so, that journalists in a well-known National Newspaper, had picked up on this trend and started to “tip” these smaller technology shares, knowing full well, that this publicity would result in the penny share price almost doubling overnight.


However, the reporters for the newspaper had already purchased shares in the companies in which they were “tipping”, and rather than being transparent and honest about their own share dealings, they kept this quiet, knowing that this information and publicity would ensure that the share price would instantaneously increase. Then, following this significant increase, the journalists would immediately sell the stock at a huge profit.

A practice that is not only illegal, but is sometimes referred to as “Pump and Dump”. In the end, this exercise became so widely abused that legal action was taken against the reporters for this newspaper and they were found guilty of “Conspiracy to breach the Financial Services Act”.


However, by now, the internet had very much taken hold, and in the main, Investors that wanted to make money on stocks and shares had also got internet access, via a desktop PC.


The beginning of the end? Or, the start of something else?

So, here we are in the midst of a Private Client frenzy to “speculate” on pretty much anything that is relatively low in price, to give us (the Private Clients) the most chance to make a sizeable gain on a small movement in the share price. The dot.com boom and bust era has now left us, and the Stock Exchange has moved on, the Enterprise Investor Schemes, have all but closed, and the feeding frenzy of the dot.com shares has vanished as the Newspaper journalists were charged and in the main part the Private Clients had gone back to their prior investments, which were by and large semi blue chip.


There was, however, still, in some peoples mind, a market to push, pump and dump, or buy and sell these “types” of investment. When I say these “types” what I am referring to is the very illiquid Penny Share stocks. There remained a market in them, and there also remained an unethical – if not wholly illegal way of dealing in them.


Let me talk you through a very real scenario.

The London Stock Exchange mentions “transparency” and “best execution” and so many other well-known Investor Protection phrases and mechanisms to protect the end Investor – or Private Client.

However, they can’t get it right all of the time it would appear.


During the euphoric years of the noughties, I was working as the Senior Compliance Consultant for a large FT-SE 100 constituent. I had been there for some years, and was (I would like to think) very proficient and diligent about my job.


To put a bit of context around this, I had previously spent the best part of 10 -15 years as a traditional Private Client Stockbroker and Derivatives Trader, so I knew full well what it was like to be ion the “other side” as so to speak. Now, being a trustworthy and diligent member of staff for this large corporation, and as a Senior Compliance Consultant, I was most certainly not looking for another role. I say that in the context that – my CV was most definitely not in the usual suspect job sites/boards. So, it was with honest surprise and genuine curiosity when I received a phone call totally out of the blue, with respect to a potential new role.

I was told that is was to work for a highly prestigious firm of Stockbrokers, as their “Head of Compliance”. Furthermore, as it was such a critical and important singing, the interview selection process would be held in a top London Hotel. Curiosity alone was now beginning to come into play for me. So, I “arranged to meet” the ‘Search & Select” Director at a coffee shop, and he prepped me on where and when to go for the Interview.

Now, before anybody starts knowingly shaking their head in the benefit of hindsight, remember, that I had hitherto, and exemplary record of employment, and had no dealings with recruitment consultants or such alike, so I perhaps naively assumed that maybe this was how the phrase “Head-hunting” was done, and had no reason to be suspicious.


So, I went to the Starbucks, had the initial meeting, then was told that the Interview would be held at the Royal Lancaster Hotel, and to ask for Mr Williams at the reception desk. Upon arriving at the Royal Lancaster, Mr Williams met me, along with another two of his Board. He gave me him Business Card, and held the lofty title of Chief Executive, the others were all Directors.


They went through their plans for a “Bespoke Private Client Stockbroking” Business with me, and told me, that as Head of Compliance, I would be a pivotal part in this. They further went on to explain to me how Risk & Compliance would be at the centre of everything that they do, and how important it is to get this right from the top down. So far, everything I had heard was music to my ears, Finally, I was back in the place where I thought that I would always like to return to – the old fashioned Stockbrokers. It was fair to say that both the nativity of myself, and the excitement of the situation all played a part in my decision. I was – well – excited, and very pleased. So much so, that I almost there and then accepted the role, and went back to my FT-SE 100 Company and did the right thing, and resigned my position as Senior Compliance Consultant.


Now, I had been with this company for a few years, so, I was on three months’ notice, and to ensure that I left on good terms, I was instrumental in recruiting my replacement, and training them up in the what to do, how to do it and when to do it business. I had a huge leaving doo, and with a mix of in trepidation and excitement left for my new role as Head of Compliance for this wonderful (on paper) firm of Stockbrokers.


On my first day – Tuesday morning, I was told to arrive at about 10am, and the Directors would show me around the building and so on.. .. .. The address I was told to go to was (on paper) a highly prestigious address in the City of London. .. . The reality of it though was quite something else. OK – I thought, that like a lot of these old fashioned buildings in the Square Mile, maybe the outside entrance is a little bit deceptive… Maybe inside it is different? Picture the scene – it was a tiny door that was adjacent to “Our Price Records” and led upstairs to that shop. All day long you could hear through the ceiling the latest Top 10 records on rotation.


I had my initial meeting with the directors, and was walked through what was described to me as the “dealing floor”.. … … This was, in effect an office full of telephones, a few television screens and the sound of the background noise was as loud as it physically could be. . .. .. ..


I was starting to become a bit nervous. This wasn’t as how I had expected it to be. Why were ALL of the guys and girls standing up? Why was there so much “noise”, and WHY were they ringing bells?

All was soon to become clear.


My “office” was literally a very, very small converted broom cupboard to the side of what was technically known as the “dealing floor”. In it there was no more room than for one desk and one chair with one PC and a wall to stare at. If you moved your chair back more than the space to get in to the desk it would hit the other side of the wall. It had a door (as a cupboard would do) and thins was always kept shut. If I suffered from a fear of enclosed spaces, this would not be suitable!


Believe it or not, there was another individual working in Compliance, he was sat literally ON the window ledge and greeted me with a very almost sarcastic “hello”.


As things moved on, that first day, I was taken to lunch by the Directors, and we didn’t really get back to the office till about 3.30pm – I was chaperoned around once more, and told to come back tomorrow morning at 7.30am where we would be holding the “Daily Morning Meeting”.


I went home thinking to myself “Well – THAT is certainly different.”

The next morning I turned up for work at 7.15am, and watched as the “Dealers” went through their strategy and what they were going to be doing that day – or in other words what stock they are going to be selling…. …

Essentially, what the company is doing is NOT traditional Private Client Stockbroking, which is what I was told it was, and is what had always been sold to me as it was – but what it actually was doing was selling very Small Capitalisation (Small Caps) shares to the unsuspecting public.


How does it work?


Well, this is where it starts to get interesting.. … ..

As we have touched upon earlier, the world of Private Client Stockbroking has seen some fantastic boom and bust eras, and some Private Clients have made some huge gains from it, and to a certain extent, once bitten by the bug they want to continue to do this, and will – almost blindly and desperately look for anything that can offer them that sort of gain again in the future.


So, forearmed with this information the Stockbrokers hatch out their plan… …

Small Cap shares are – by their own definition, normally penny shares that have a very small market capitalisation and are usually thinly traded with only one or two in some cases Market Makers in the stock. Because of this, the Market Makers tend to hold a lot more shares in the stock than that they both want and need. They need to generate interest in the stock to create some liquidity in it. They need to get the Stockbrokers in the stocks in which they make markets interested in the shares, and to start to “buy them” for their clients.

Now, one could argue, that the fact that they are penny shares in the first place is a pretty good example of why NOT to buy them, or a pretty good example of there is a reason why these are penny shares and it’s not because they are Barclays.


However, the point is, the Market Makers are very “top heavy” with these shares and they don’t really want to hold on to that amount of stock in the ideal world – so this is roughly the plan and the normal chain of events.

The Stockbroker contacts the Market Maker or Vis versa and discuss the particular penny share. The Pros, the Cons, the ups the downs the lefts the rights the wrongs and so on. Now the Market Maker is already holding on his books a large quantity of these shares, and at the moment – as we speak the share price is (hypothetically)


6p to Sell –


8p to Buy.


The year high and low of the stock is (say)


High 18p – Low 3p.


But, clearly this could be a lot higher and lower.


The Stockbroker agrees to buy thousands – literally thousands of shares from the Market Maker at (say) 0.065 pence (six and a half pence) JUST above the selling price. Now, armed with this ‘Agreement in Principal’, the Brokers telephone every one of their “Clients” and “sell” the stock to them along the lines of something like this:-


NB: Stockbrokers: – (There are many Stockbrokers employed but ALL here are on commission plus a very low basic – so it is in their own vested interest to sell as many shares as they can as this will increase their take-home pay)


The Stockbrokers have some of their “own” Clients, and have some of the Clients that essentially “belong” to the Company. They in all intense and purposes, cold call the Private Clients and “sell” them the story of the Stock. Now, there is a script that they are supposed to follow, and there are certain leading statements that they are not allowed to say – but in the feeding frenzy and euphoric scenario of that of which we have just described above, all of the TV’s on full blast Bloomberg TV and Reuters News going, and the Head of the Dealing floor LITERALLY shouting and motivating the staff to GET ON THE PHONES AND SELL THAT STOCK NOW!!!!

The phone calls start being made – URGENT VOICEMAILS are left on any number that fails to pick up – those brokers that are fortunate enough to get a Client who picks up the phone are – armed with their “script” = literally shouting at the Client and telling them in no uncertain terms how much of a (pardon the pun) “Bargain” these shares are.


“We are in an enviable position Sir, whereby WE can get these shares for you today – and today ONLY at the much reduced share price of……… (Whatever the spread is) this is a ONE OFF TODAY ONLY special, the year high of this stock is an amazing 10p, and the low is only 2p – with the shares so attractively priced exclusively by us at …. Which is outside of their normal market trading range you are almost guaranteed to instantly be sitting on a profit. So, how many shall I put you down for Mr Smith? Shall we start with a thousand pounds? That’s always a good round number to start with as you can’t go wrong with that, and as I say, remember that this year alone the share price has been at, this is a fantastic deal for you, but I DO need an answer TODAY, I must stress to you that this is a one off.


And so it goes on… .. . .. In MOST cases, the Private Client sadly agrees to buy the shares –and sure enough, they invest literally AS MUCH as the Stockbroker can get them to invest – as I touched upon before – the more the Stockbroker “sells” the more he makes in commission.


Here we are now with approximately (say) £500,000 of shares that have been sold in chunks of £1000 each. That’s a hell of a lot of shares at 6p! So, we get the money from the Clients, and bank the cheques and send out the contract notes and so on – and the Bargain is executed! Bang!


So, we have already been in discussion with the Market Maker with respect to the quantity that we are expecting to be able to “sell” and we have an “agreement In Principal” that if we can “sell” that amount of shares we can have the at the reduced price of… … …


So, the Firm of Stockbrokers have just sold over half a million shares at 5p and bought them from the Market Maker at 4p.


Now, with the share price still looking hypothetically very attractive to the Private Client – as they have just bought the shares at a price which is roughly what you can sell them at – they are in the main delighted, as they believe that the share price should very shortly rise.


However, not all is what it seems. As the Firm of Stockbrokers have just settled their trade with the Market Maker to BUT half a million pounds worth of shares at 6p…. And the Market Maker isn’t about to let those shares be effectively “sold” back to him, so the FIRST thing he does – the very first thing he does, is as soon as those shares are paid for or apportioned to the stockbroker – he now changes or amends his price to buy and see the Stock to 4p – 6p.  Now INSTANTLY the Private Clients have made a paper loss and the Broker and Market Maker have made a profit.


There is nothing that is realistically going to move that share price any higher – as any operative event in the company would already be known about, and the fact that they are trading at such low levels is an indication of the market sentiment about that company. But that is NOT how it was sold to the Private Clients though.

The exact same principal as described above also follows for what was then sold to the Private Clients as A Contract For Difference (CFD’s) whereby they would call up the Private Clients and tell them to buy XYZ Holdings on a CFD and you only have to pay a very small amount of “margin” for what could in all intense and purposes realise you with a HUGE profit. Yet, time, and time again, the Clients were getting “margin calls” where the Broker needed more margin to be paid by the Client as the share price had NOT gone up as told, but had in fact DECREASED. So much so, that often the share price would be SUSPENDED PENDING CLARIFICATION OF THE COMPANY’S FINANCIAL POSITION”


We all in the business know this to mean that it is now worthless. But it is only the Private Client that has lost out.


The Fit & Proper basis

“Honesty, integrity and reputation” are part of the Regulators appetite for a transparent, open and fair market place, as is the sentiment behind the words “Competence and capability” ironically it also goes on to include “Financial soundness” which is anything but what the in the main Small Cap Shares and CFD’s were.


The FSA investigation

The FSA – who were the Regulator for the Industry back then took action against a number of these “Boiler Rooms” and fined, censured and so on but, the damage had already been well and truly done. The Clients had lost literally everything, the Directors had made huge profits, the staff had been on commission so everything that came out of their mouth was with an horrific conflict of interest and also misleading, the market maker knew what was happening – yet the FSA took no action against them, as they deemed it to be the Market Maker doing their job as “making a two way price in a stock” whereas both you and I both know that the reality of this is quite something else.


This practise – whilst it has now been highlighted and several firms have been closed, fined, censured and so on, still goes on in small pockets of the Financial Services Industry and is something to be very wary of – the only “bargain” on the London Stock Exchange is one that has been thought out for a long time with as much research as possible and bought on the basis of its Fundamentals and its technicals and of course its financial soundness. If in doubt – leave it out – (of your portfolio.


If you would like any additional information regarding Risk, the Management of it, Stock selection, Boiler Room scams, Penny Shares or indeed the wider world of Regulation, Risk and Compliance – please feel free to contact…..


Some of the action taken included

As the Financial Services Authority investigation into the advice given on small cap stocks deepened they found it to be a lot more of an issue than they originally expected. All sorts of “Principals for Business” were being breached, as were detailed “Rules” and of course the “Outcomes” and overarching Principal of Treating Customers Fairly were also being blatantly ignored. We have just touched upon how the “FIT” part of the Rulebook which applies to the Traders themselves was being blatantly ignored.


When this investigation took place the FSA fined Hoodless Brennan £90,000 for persuading clients to buy shares they did not want and to buy more than they wanted to.


Falcon Securities were also censured for numerous failures by its appointed representative, Montague Pitman Securities Limited (MPS). The regulator said MPS failed to obtain sufficient information about its clients’ personal and financial circumstances, therefore rendering the advice given on share recommendations unsuitable.

The firm was also accused of not disclosing the inducements it received for selling the shares and pressurising its clients into purchasing shares.


Wills & Co were suspended from trading following an FSA probe into its dealing practices.

Pacific Continental Securities was accused of treating customers ‘appallingly’ and forced into liquidation. The firm’s chief executive was fined £80,000 and its finance director £95,000.


So how DO Firms get it RIGHT first time with respect to Small Cap Shares?

This has been the million pound question on a few of my co-patriots lips for a while now. I have lectured in Malta on this subject to a room of Financial Professionals, and I am proud to be part of the Chartered Institute for Securities & Investment External Specialists that aims to promotes “Integrity, Honesty, Ethics and Education” within the world of Financial Services, and in MY opinion, following the Spirit as well as the letter of the Law/Rules, it is all about being able to demonstrate that you have in place up to date and comprehensive Know Your Customer information.


That you understand the whole of the Investors “Attitude to Risk” and their “Capacity for Loss”. That you also, understand their Risk tolerance, their financial situation, their long term goals, their understanding of the Market, the Stocks and Shares that they will be trading in, their u and experience of derivative products, their use, in hedging and in direct investment.


Their length of time that they have been investing, their income, outgoings expenditure, age, lifestyle and so the list goes on. It is simply unacceptable to take an order from a Private Client without first ensuring that you as a broker have undertaken the correct amount of due diligence and have established with the customer their capacity for loss as well as their appetite for risk, and the long term goals of the investment(s).

For instance, if a client expresses an interest in investing in a stock which supplies a crucial component in the making of an Airbus/Aeroplane simply because he’s a big fan of plane and flying his decision should be questioned.


However, if this client has a profound understanding of both the mechanics of such and technology, perhaps more so than in most cases the stockbroker, the advice given needs to be “qualified” and if a decision is made to transact in that – a note of the conversation and the outcome of such should be clearly documented on the Clients File.


It should also be noted that the smaller capitalised shares are to an extent something of a gamblers’ market since investing in these stocks is high risk. Some of the firms listed on the exchange have very distinct specialisms and require a very good understanding of their business model and competitors. Private Client Stockbrokers, these days need to ensure that they too as well as their Clients are well versed in the practices of the smaller companies trading on the wider Stock Exchange or its smaller cousins.


Neil Mathias Director  | 

Compliance CRG

Regulatory Training SME/Examiner CISI

Linked-In:       Compliance CRG


Compliance – CRG | Laser focused on providing “Compliant Solutions”

Chartered Member of Chartered Institute for Securities & Investment

Member of the Institute of Directors

Web:   www.complianceCRG.com


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