[Opinion] The Need to Diversify Sanctions for Unfair Trade Practices

Nam Gil-nam, Director of Capital Markets Office, Korea Capital Market Institute

On January 4, 2022, at the very beginning of the new year, the United States District Court for the Northern District of California in San Jose delivered a guilty verdict against Elizabeth Holmes, the founder of Theranos, who deceived investors into believing that hundreds of tests could be conducted with only a tiny blood sample. Holmes founded Theranos in 2003 and rapidly rose to prominence, being called the second Steve Jobs. However, following investigative reports by The Wall Street Journal and whistleblowers in 2015, she fell from grace. Although this trial faced unexpected events such as the COVID-19 pandemic, it concluded a full six years after the initial report, and if it proceeds to higher courts, a significant amount of additional time will be required before a final judgment is reached. No matter how severe the punishment for white-collar crimes is in the U.S., if trials drag on this long, the Theranos case may end up being remembered by capital market participants as a distant event by the time the sentence is finalized.

U.S. capital market regulations do not rely solely on criminal penalties, which tend to require higher standards of proof and longer trial periods as the severity of punishment increases. The U.S. Securities and Exchange Commission (SEC) possesses broad administrative sanction powers beyond prosecution rights and continuously responds to evolving unfair trading cases. Regarding the Theranos case, the SEC already imposed civil sanctions on Holmes in March 2018. To reduce Holmes’ control over Theranos, she was required to relinquish Theranos shares acquired during the fraudulent period and convert her shares with 100 votes per share into common stock. Additionally, a civil penalty of $500,000 was imposed, and to prevent recurrence, she was barred from serving as a director of any public company for the next 10 years.

In contrast, penalties for unfair trading in the domestic capital market are primarily criminal, making it difficult to expect swift and effective sanctions. In particular, only criminal sanctions through prosecution by the prosecution are recognized for the three major unfair trading acts: market manipulation, insider trading, and fraudulent trading. Moreover, handling these three major unfair trading cases takes considerable time. Analyzing cases referred or reported to the prosecution by the Securities and Futures Commission from 2015 to 2017 shows that despite prior investigations by financial regulatory authorities, it took an average of 260 days to reach prosecution, with market manipulation cases taking as long as 296 days. Furthermore, since much more time will be required until the final trial results, the phenomenon of the same companies repeatedly being involved in unfair trading, often observed in the domestic capital market, has yet to be eradicated.

At least, the introduction of administrative fines for market order disruption acts in 2015 expanded the scope of administrative sanctions, and the recent strengthening of unfair trading crackdowns can be seen as a positive change. Nevertheless, sanctions still predominantly rely on criminal penalties. Leading candidates in the 20th presidential election commonly pledge strict punishment for unfair trading in the capital market. At this juncture, not only the full introduction of administrative fines but also securing various administrative sanction measures, as seen in the SEC’s sanctions against Theranos, is necessary. Unless unfair trading cases, which continue to evolve with technological advancements, are punished promptly, investors’ distrust in the capital market will be difficult to improve.

Nam Gilnam, Director of the Capital Market Department, Korea Capital Market Institute