The Financial Conduct Authority v Grout

This appeal is a pendant to the case of Macris v Financial Conduct Authority [2017] UKSC 19; [2017] 1 WLR 1095 in which sub-sections 393(1) and (4) of the Financial Services and Markets Act 2000 as amended by the Financial Services Act 2012 fell to be construed. That Act provides for warning notices or decision notices to be given to a person or firm under investigation by the Financial Conduct Authority (“the FCA”) if it is minded to take (or decides to take) action against a firm or individual authorised to conduct investment activities. Sub-section 393(1) provides:-

“If any of the reasons contained in a warning notice to which this section applies relates to a matter which – (a) identifies a person (“the third party”) other than the person to whom the notice is given, and (b) in the opinion of the regulator giving notice, is prejudicial to the third party, a copy of the notice must be given to the third party.”

Sub-section 393(4) makes identical provision for a decision notice. The purpose of this procedure is to enable a person so identified and so prejudiced to make representations to the FCA or, as the case may be, the Upper Tribunal before a final decision is made.

In 2012 Mr Macris was the international chief investment officer and head of a London unit in JP Morgan Chase Bank NA (“the Bank”), called the chief investment office (“CIO International”). In that capacity he managed a portfolio of credit instruments called the synthetic credit portfolio (“the SCP”). By the end of the year 2012 the SCP had managed to lose US$6.2 billion and the FCA conducted an investigation. In the course of that investigation the FCA issued a warning notice, a decision notice and a final notice containing criticisms of the Bank’s conduct in relation to the SCP under six heads:-

“(i)

the employment of a high risk trading strategy;

(ii)

a failure to properly vet and manage that trading strategy;

(iii)

a failure properly to respond to information which should have alerted the Bank to the risk which was present in the SCP;

(iv)

a failure properly to value the Bank’s positions within the SCP;

(v)

mismarking of the SCP; and

(vi)

a failure to be open and co-operative with the Authority about the extent of the losses generated by the SCP as well as other serious and significant issues regarding the risk situation in the SCP.”

The warning and decision notices were materially identical to the final notice and I shall just refer to “the Notice”. In Mr Macris’ case the question arose whether the reasons in the Notice related to a matter which identified Mr Macris for the purpose of the FCA being required to give him a copy of the Notice and allow him to make representations about it to the Upper Tribunal, as sub-sections 393 (9) and (11) of the Act entitled him to do. The Notice did not identify Mr Macris by name or job title but there were many references to “CIO London Management”. Although he was not the only manager in CIO International in London, he maintained that those active in the market would have known that it referred to him. He relied for this purpose (inter alia) on evidence from a senior sales representative dealing in credit instruments for another bank in London who said he knew that Mr Macris was the head of CIO International and did not share his responsibilities with others. He also relied on a US Senate sub-committee report on the Bank’s losses in the SCP which identified him by name.

This court, in a decision of 19^th May 2015 given by Gloster LJ (with whom Patten LJ and I agreed), held that the correct test for the required identification in section 393 of the 2000 Act was to ask whether the words used were

“such as would reasonably … lead persons acquainted with the claimant/third party, or who operate in his area of the financial services industry, and therefore would have the requisite specialist knowledge of the relevant circumstances, to believe … that he is a person prejudicially affected by matters stated in the reasons contained in the notice.”

Applying that test, this court held (see [2015] EWCA Civ 490; [2016] 2 All ER 265) that the Notice identified a person other than the Bank and that Mr Macris was a person so identified by the phrase CIO London Management. The court therefore upheld a decision of the Upper Tribunal to that effect.

The Notice did not refer only to CIO London Management but also referred to “traders on the SCP” sometimes prefaced by the definite article. The appendix to the Upper Tribunal determination in the present case brings together the numerous such references made in the FCA’s Notice and the determination itself summarises the findings of market misconduct against the traders on the SCP. They include mismarking by the traders (with the knowledge of SCP management), concealing losses from CIO Management and subverting the Bank’s valuation control processes.

No doubt encouraged by the decision of this court in relation to Mr Macris, one of the four traders in the SCP has now asserted that he also is identified in the Notice published by the FCA and he relies on similar evidence to that relied on by Mr Macris particularly the US Senate sub-committee report in which he is named as the one of the two main traders responsible for the mismarking of deals done, the concealment of the losses from senior CIO Management and the subversion of the Bank’s valuation processes. He also relies on press reports in English newspapers preceding the date of the Notice (18^th September 2013), the existence of a US Department of Justice indictment and a Securities and Exchange Commission complaint against him (both of which were abandoned four years later). Before us, Mr Grout applied to admit further press reports and documentation said to identify Mr Grout but they were “only more of the same” and would be unlikely to affect the result.

The Upper Tribunal held a preliminary hearing on the question whether Mr Grout was identified in the Notice and, applying the test set out by this court in the Macris case, determined on 7^th July 2016 that he was and, since he was prejudiced, should have been sent a copy of the FCA’s Notice and now had the right to make submissions to the Upper Tribunal.

All this happened before the Supreme Court held on 22^nd March 2017 that the test stated by this court in Mr Macris’ case was incorrect. The right approach to the question of identification was that it had to be apparent from the Notice itself that it applied to only one person who had to be identified from information which was either in the Notice or publicly available elsewhere and then only if it enabled one to interpret the language of the Notice. It was impermissible to resort to additional facts to make it apparent from those additional facts that they referred to the same person. Moreover the relevant audience was the public at large not some specially knowledgeable section of the public. This approach would appear to exclude evidence from market participants and evidence of the findings of US Senate sub-committee which, although available on the internet, would only be known to persons with knowledge of the market and not to members of the public generally.

Mr Paul Stanley QC for the FCA submits

Mr Richard Lissack QC for Mr Grout contends that the decision of the Upper Tribunal is still correct notwithstanding that it applied the wrong test in law. The matter had to be approached in two steps:-

In the present case Mr Lissack submitted in relation to the first stage

In relation to the second stage he referred to the contemporaneous newspaper articles which referred to Mr Grout by name, the Department of Justice indictment and the Securities and Exchange Commission complaint as well as the Senate Committee Report.

The ratio of Macris is contained in paragraph 11 of Lord Sumption’s judgment (with which Lord Neuberger of Abbotsbury and Lord Hodge agreed):-

“In my opinion, a person is identified in a notice under section 393 if he is identified by name or by a synonym for him, such as his office or job title. In the case of a synonym, it must be apparent from the notice itself that it could apply to only one person and that person must be identifiable from information which is either in the notice or publicly available elsewhere. However, resort to information publicly available elsewhere is permissible only where it enables one to interpret (as opposed to supplementing) the language of the notice. Thus a reference to the “chief executive” of the X Company may be elucidated by discovering from the company’s website who that is. And a reference to “CIO London Management” would be a relevant synonym if it could be shown to refer to one person and that person so described was identifiable from publicly available information. What is not permissible is to resort to additional facts about the person so described so that if those facts and the notice are placed side by side it becomes apparent that they refer to the same person.”

In his concurring judgment Lord Neuberger said this in paragraph 26:-

“…in order for the section to apply to an individual, either he must be named in the notice, or the description in the notice must be equivalent to naming him. On this basis, a reference to the Chairman of the Board of a United Kingdom-registered company would “identif[y]” the individual concerned, as it would be easy for anyone to find out his name. (And, depending on the facts, the same might be the case with a reference to the Chairman of the Board of a foreign-registered company). It is true that even that form of identification would require the reader to have some outside knowledge, but as a matter of ordinary language, I would accept that an individual is “identified” in a document if (i) his position or office is mentioned, (ii) he is the sole holder of that position or office, and (iii) reference by members of the public to freely and publicly available sources of information would easily reveal the name of that individual by reference to his position or office.”

He added in the next paragraph that, “in order to satisfy the test, any research or investigation should be straightforward and simple … any investigation process should not require any detective work; and so jigsaw identification … would not do”.

Lord Mance (para 33) referred to Lord Sumption’s test as “a dictionary approach” and would have preferred a slightly wider test but concurred in the majority judgment that Mr Macris was not identified. Lord Wilson dissented on both the formulation of the test and in the result.

There can be little doubt that the FCA went to some trouble to avoid identifying Mr Grout by name in the Notice and that it was perfectly entitled to do so if it could, see Lord Sumption’s third reason for his conclusion, as stated in paragraph 14 of his judgment. That does not, of course, conclude the matter since the question whether Mr Grout was identified is a question to be answered by reference to the actual terms of the Notice not the FCA’s subjective intentions.

Most of the findings of misconduct of the individuals below the management level refer to “traders on the SCP”. That is clearly not a synonym for Mr Grout. In some places the Notice refers to “the traders on the SCP”. Mr Lissack submits that is equivalent to saying “each and every trader on the SCP” (there were in fact 4 traders) and that that identifies Mr Grout. For this purpose Mr Lissack primarily relied on paragraphs 2.8-2.10, 5.4(c)(ii) and 5.12 of the Notice. They are in the following terms:-

“2.8

From 2007, at the direction of SCP management, the traders on the SCP’s approach to marking the SCP’s positions was such that they provided an estimate of what they, the traders, thought the position was worth, rather than necessarily picking the mid of what the market thought the position were worth. In February and March 2012 as the SCP began to lose substantial amounts of money, traders on the SCP began to mark their positions in a noticeably favourable manner. At the direction of SCP management, they priced the positions at the most beneficial end of the bid-ask spread. This had the effect of making the SCP appear more profitable and enabled the traders to conceal the scale of the losses arising in the SCP from CIO Senior Management.

2.9

The IG9 10 year index was the biggest contributor to the profit and loss in the SCP. As February 2012 month-end approached, traders on the SCP, with the knowledge of SCP management, engaged in substantial trading in that index, in particular on 29^th February. One of the purposes of part of this trading was to “limit the damage” to the SCP. This could have been achieved if the market price of the index moved closer to the SCP’s mark.

2.10

By March 2012, it was clear to the traders on the SCP that the adverse market moves were continuing against the SCP’s positions. In order to conceal this from CIO Senior Management, traders on the SCP continued to mark aggressively. By mid-March, they had gone further and, at the direction of SCP management, deliberately mismarked the SCP in order to conceal what one trader believed to be genuine losses. On 16^th March 2012, the traders calculated that the losses appeared to be understated by almost $500 million, based on their estimation of market mid-prices. Nonetheless on that day the portfolio only showed a loss of $4 million in its internal reporting to CIO Senior Management.

…

5.4

In breach of principle 2 the Firm has not conducted its business with due skill, care and diligence by virtue of …

(c)

The Firm failed to price certain positions in the SCP accurately and failed to prevent or detect mismarking in a timely manner (in the first quarter of 2012) (see paragraphs 4.55 to 4.70 and 4.78 to 4.98) as a result of:

(i)

the subversion of the valuation control process in February 2012 by the traders on the SCP;

(ii)

the traders on the SCP and SCP management concealing losses; and

(iii)

a flawed valuation process (see paragraphs 4.78 to 4.98 and principle 3 below).

Conclusion

5.12

The failings set out above are particularly serious because they demonstrate shortcomings from the SCP traders through to Firm Senior Management. Further, there were multiple issues and breaches, including flaws in the CIO VCG process that pre-existed the problems in the first quarter of 2012.”

In spite of Mr Lissack’s valiant attempts to persuade us to the contrary, I cannot accept that the phrase “the traders on the SCP” is a synonym for Mr Grout. It does not identify “one person” as Lord Sumption’s test requires; indeed even if the Notice had used the phrase “all traders on the SCP” or “each and every trader” (which it did not) I rather doubt that it could be said to be a synonym for Mr Grout. But that question does not arise and can be safely left for determination if and when the FCA decides to use some such phrase.

Mr Lissack then sought to rely on some isolated references to a single trader in the Notice. There is one such reference in paragraph 2.10. There are further references in the section of the Notice which deals with mismarking of the SCP and refers to the activities of the Valuation Control Group in the Chief Investment Office (“CIO VCG”) which had responsibility for valuing the SCP:-

“4.59

SCP management directed traders on the SCP to mark their positions such that they did not necessarily pick the mid of what the market thought the positions were worth (which was described by SCP management as “pressing F9 like a monkey”) but instead provided an estimate of what they, the traders, thought the positions were worth.

4.60

In February 2012, the aggregate difference between mid-market prices and the SCP’s marks began to increase significantly. Traders on the SCP began to mark their positions more aggressively (moving away from the mid towards the more favourable end of the bid-ask spread). CIO VCG recognised the differences but did not notice this as a trend and therefore did not challenge the traders effectively.

4.61

Traders on the SCP provided additional broker runs to CIO VCG which persuaded CIO VCG to reduce the difference between the SCP’s marks and CIO VCG’s own independent marks from at least $31 million to $11 million on 1^st March 2012. The traders considered they were producing “better” broker quotes for CIO VCG to “justify” the marks. Although traders on the SCP saw CIO VCG as a control function, one trader considered that accepting CIO VCG process was not “the way things worked at CIO”. The CIO VCG process was flawed and in addition was easily subverted at February 2012 month-end.

4.62

In March 2012, as the losses on the SCP mounted, SCP management gave a further direction as to how the SCP should be marked, telling traders on the SCP to ignore the losses arising on the portfolio through the underperformance of the trading strategy and only record those which could be explained by a particular Market event. In essence, this amounted to an instruction to mismark the portfolio in order to conceal mark to market losses from CIO Senior Management.

4.63

Between 12^th and 19^th March 2012, traders on the SCP kept a spreadsheet recording the difference between the estimated mid-market prices and the marks that had been applied to the SCP, broken down into certain positions. One of the purposes of this spreadsheet was to inform SCP management of the size of the difference. On 12^th March 2012, this spreadsheet showed that the difference amounted to $203 million. By 16^th March 2012, the difference had risen to $498 million, and one trader had formed the view that this amount was now an actual loss that should be reported. Nonetheless the profit and loss estimate produced by traders on the SCP that day showed a loss of only $4 million.

4.64

On 20^th March 2012, the difference between the mid-market prices and the marks being applied to the SCP was so large, that the bid-ask spreads began to give traders on the SCP a “headache”. In order to keep within the bid-ask spread, the traders on the SCP showed a loss of $40 million. Had the full difference been reported on 20^th March 2012, according to the spreadsheet maintained by the traders on the SCP, the year to date loss for the SCP would have been of $500 million.

4.65

On the last trading day of March 2012, traders on the SCP were aware that, as usual, the marks they ascribed to the SCP that day would be reviewed by CIO VCG. Given the increased scrutiny over the SCP following CIO Senior Management’s instruction to stop trading, the profit or loss figure for the day was also of particular interest to CIO Senior Management. SCP management instructed one of the traders to remain in the office, after the close of the London markets, in order to review the prices in the New York market in the hope of getting “any better numbers”. The marks to be applied were the subject of repeated discussions involving SCP management, who requested that the loss shown on the SCP should be as low as possible. The losses reported to CIO Senior Management at March 2012 month-end were £138 million for the day and $583 million for the year. This did not however include the hundreds of millions of dollars of losses concealed from CIO Senior Management by traders on the SCP at the instruction of SCP management.”

Again I cannot read these references to “one trader” as being a synonym for Mr Grout. It is so deliberately vague that it can legitimately be described as “anonymous” rather than “synonymous”. It is, moreover, relevant that the references to one trader appear in a section of the Notice that is critical of (and thus prejudicial to) CIO Management (on one view of the matter Mr Macris) rather than to the one trader referred to. In the context of the Notice, read as a whole in all its 62 pages, it is impossible to say that it identifies Mr Grout.

The fact that there might be references in the Notice to decisions (and thus the mental states) of the traders (see Mr Lissack’s third submission in paragraph 11 above) does not help Mr Grout for the reasons given in paragraph 17 of Lord Sumption’s judgment. Mr Lissack (rightly in my view) did not develop any specific argument in relation to Article 8 of the ECHR since Parliament has enacted a proportionate response to any possible damage to reputation in section 393 of the Act. In any event, it played no part in the decision of the Supreme Court in Macris.

Since Mr Grout was not “the sole holder of the position of” trader, it is unnecessary to consider whether “freely and publicly available sources of information would easily reveal his name” to adopt Lord Neuberger’s phraseology set out above. But if it is appropriate to look at the position at about the time of the publication of the Notice, I would rather doubt it. Ordinary members of the English public would be unlikely to recall the details of articles in the Financial Times some months earlier, let alone details of investigations in the United States. But since the inquiry never gets to that stage, I need say no more about it.

For these reasons I would decline Mr Grout’s application to admit further evidence on the basis that it could not affect the outcome of the appeal and would allow the FCA’s appeal. That is no criticism of the Upper Tribunal which actually followed and applied this court’s decision in Macris which has now been overturned.

I agree.

I also agree.