The SEC slaps the wrists of a couple brokers and a trader in a case that covered multiple charges, but the most interesting is the manipulative trading charge against Joseph Dondero. See the administrative proceeding (PDF).
Below is an excerpt that explains Dondero’s manipulative trading (emphasis mine):.
G. DONDERO’S MANIPULATIVE TRADING SCHEME
21. During the Relevant Period, Dondero repeatedly manipulated the markets of U.S.
listed and over-the-counter stocks by engaging in the practice of layering. Layering concerns
the use of non-bona fide orders, or orders that the trader does not intend to have executed, to
induce others to buy or sell the security at a price not representative of actual supply and
demand. More specifically, Dondero placed buy (or sell) orders that he intended to have
executed, and then immediately entered numerous non-bona fide sell (or buy) orders for the
purpose of attracting interest to the bona fide order. Dondero placed these non-bona fide orders
to induce, or trick, other market participants to execute against the initial, bona fide order.
Immediately after the execution against the bona fide order, Dondero cancelled the open,
non-bona fide orders. He typically then repeated this strategy on the opposite side of the
market to close out the position.
22. Using this strategy, Dondero induced other market participants to trade in a
particular security by placing and then cancelling layers of orders in that security, creating
fluctuations in the national best bid or offer of that security, increasing order book depth, and
using the non-bona fide orders to send false signals regarding the demand for such security,
which the other market participants misinterpreted as reflecting true demand. Dondero’s orders
were intended to deceive and did deceive other market participants into buying (or selling) stocks
from (or to) Dondero at prices that had been artificially raised (or lowered) by Dondero.
Example of Layering by Dondero
23. Dondero’s trading in the stock of First Capital, Inc. (FCAP) from 9:34:24 to
9:54:09 on May 8, 2009, illustrates his pattern of layering. At 9:34:25, Dondero placed an
order to buy 100 shares of FCAP at $16.20 per share. Prior to Dondero placing his order, the
inside bid was $14.01 and the inside ask was $17.00. Dondero’s buy order raised the National
Best Bid (“NBB”) from $14.01 to $16.20. At 9:34:29, Dondero placed an order to sell 2,000
shares of FCAP at $16.21 per share. This order did not change the National Best Offer
(“NBO”) because Dondero used an order type that allowed him to not display his order to other
market participants; thus, the NBO remained at $17.00.
24. At 9:34:31, Dondero placed two orders to buy a total of 1,000 shares of FCAP at
$16.20. He immediately cancelled these orders and placed another order at 9:34:35 to buy 100
shares of FCAP for $15.10. The NBB at this point was still $16.20, established by Dondero’s
open orders. At 9:36:49, Dondero again placed two orders to buy a total of 1,000 shares of
FCAP at $16.20 and then immediately cancelled those orders. At 9:36:51, Dondero placed an
order to buy 100 shares of FCAP at $16.10 and then cancelled his only other outstanding buy
order at $16.20. At this point, the NBB was $16.10, representing Dondero’s open orders.
Apparently realizing that his bona-fide sell order was not getting executed, he then cancelled his
outstanding sell order of 2,000 shares at $16.21. At 9:36:56, he placed a new non-displayed
order to sell 2,000 shares of FCAP for $16.11 per share, one cent higher than his current order to
buy. At 9:36:57, he placed four orders to buy a total of 2,000 shares of FCAP at $16.10,
cancelling one of those 500 share orders. At 9:36:59, 500 shares of Dondero’s outstanding sell
order were sold at $16.11 per share. At 9:37:00, he then placed three additional 500 share buy
orders at $16.10. At 9:37:01, 300 shares of his 2,000 share sell order were sold at $16.11. He
then proceeded to cancel most of his outstanding buy orders.
25. For twenty minutes, Dondero’s orders constituted the best bid, dropping it over
time to $16.00. He cancelled buy orders during this time, but always had at least one buy order
open. The purpose of maintaining an open bid appears to be that it prevents the best bid from
falling substantially. During this time, he placed non-displayed sell orders near the best bid in
the range of $16.01 to $16.21. He managed to sell 1,700 shares for an average price of $16.06.
He purchased no shares during this time. When Dondero cancelled all of his remaining buy
orders at 9:54:07, the NBB returned to $14.01. The best offer was $16.50 at this time. During
this time, Dondero placed 36 buy orders while only placing 9 sell orders. Dondero covered his
short position the next day yielding him approximately $2,919 in profits.
26. Dondero engaged in this manipulative strategy repeatedly, placing hundreds of
thousands of orders during the Relevant Period with the intent to change the NBB or NBO while
at times cancelling greater than 90 percent of his orders.
27. The manipulative trading comprised almost 100 percent of Dondero’s profitable
trading and resulted in profits of $984,398.
So what we have here is not a guy showing a large bid / offer a few times, but rather a person whose only real trading strategy involves placing scores of fake bids and offers, literally hundreds of thousands of orders. And what penalty does he pay?
M. Respondent Dondero shall, within (10) days of the entry of this Order, pay disgorgement of $1,102,999.96 plus prejudgment interest of $46,792 for a total of $1,149,791.96 to the United States Treasury. If timely payment is not made, additional interest shall accrue pursuant to SEC Rule of Practice 600.
Dondero pays back all his ill-gotten gains and a little bit extra to account for interest. That is barely a slap on the wrist.
Disclaimer: I have no position in any stock mentioned. I have no relationship with any parties mentioned above. This blog has a terms of use that is incorporated by reference into this post; you can find all my disclaimers and disclosures there as well.
