UNITED STATES OF AMERICA
In the Matter of
|ORDER INSTITUTING PROCEEDINGS PURSUANT TO SECTION 8A OF THE SECURITIES ACT OF 1933 AND SECTION 21C OF THE SECURITIES EXCHANGE ACT OF 1934, MAKING FINDINGS, IMPOSING REMEDIAL SANCTIONS AND CEASE-AND-DESIST ORDER|
The Securities and Exchange Commission ("Commission") deems it appropriate that public administrative proceedings be, and hereby are, instituted pursuant to Section 8A of the Securities Act of 1933 ("Securities Act") and Section 21C of the Securities Exchange Act of 1934 ("Exchange Act") to determine whether Leonard Sheehan ("Sheehan") violated Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder and to determine the appropriateness of disgorgement.1
In anticipation of the institution of these administrative proceedings, Sheehan has submitted an Offer of Settlement ("Offer") that the Commission has determined to accept. Solely for the purpose of this proceeding and any other proceeding brought by or on behalf of the Commission, or to which the Commission is a party, and prior to a hearing pursuant to the Commission's Rules of Practice and without admitting or denying the findings set forth herein, except as to jurisdiction over him and over the subject matter of this proceeding, which Sheehan admits, Sheehan consents to the entry of this Order Instituting Proceedings Pursuant to Section 8A of the Securities Act of 1933 and Section 21C of the Securities Exchange Act of 1934, Making Findings, Imposing Remedial Sanctions and Cease-and-Desist Order ("Order"). The Commission has determined that it is appropriate to accept Sheehan's Offer and accordingly is issuing this Order.
Based on this Order and Respondent's Offer of Settlement, the Commission finds that:
Leonard Sheehan, age 31, is a self-employed investor living in Lawrence, Massachusetts.
B. Sheehan's Manipulation of the National Best Bid or Offer (NBBO)
The Limit Order Display Rule, Rule 11Ac1-4 under the Exchange Act (the "Display Rule"), requires a Nasdaq market maker, subject to certain specified exceptions, to display in the market maker's public quote a customer limit order that (i) is priced better than the market maker's quote, or (ii) represents more than a de minimis increase to the size of the market maker's quote, if the market maker's quote is at the NBBO at the time the customer's limit order is received. The Display Rule provides greater transparency by allowing the market to see improving customer limit orders and, consequently, enhances liquidity and execution opportunities for customer orders.
Between approximately November 2000 and February 2001, Sheehan placed at least twenty-five (25) buy and sell limit orders to alter the NBBO of several Nasdaq Small Cap securities. Sheehan affected the NBBO for these securities by first placing an order with an electronic communications network ("ECN"). This order became the new best bid or offer. Within seconds, Sheehan placed one or more larger orders through a different brokerage account on the opposite side of the market. These orders were filled by brokers who guaranteed execution of the security at the new NBBO up to a maximum number of shares, regardless of the size of the NBBO quote.
After causing the bid or offer quote to move and obtaining an execution, Sheehan would cancel, or attempt to cancel, his initial market moving order. In this manner, Sheehan altered the public quote to obtain better execution prices for his trades. During the relevant time period, Sheehan obtained approximately forty-three (43) advantaged executions and cancelled seventeen (17) of his twenty-five (25) market moving orders, improving his aggregate purchase price by approximately $10,625.
Sheehan's conduct, known in the industry as "spoofing," is illustrated by the following example:
11:40:57 - Sheehan placed an order to sell 100 shares of the target security at $3.375, and directed that it be routed to the ECN. The order lowered the NBBO offer price from $3.937 to $3.375;
11:41:14 - Sheehan entered a limit order to buy 1,000 shares of the target security at a price of $3.375, and the order was immediately executed;
11:41:24 - Sheehan entered a second limit order to buy 1,000 shares of the target security at a price of $3.375, and the order was immediately executed;
11:41:28 - Sheehan cancelled his sell order.
By improperly altering the public quote to obtain a better execution price for these two buy orders, Sheehan was unjustly enriched in the amount of $1,125.
Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, prohibit the use of "any manipulative or deceptive device or contrivance in connection with the purchase or sale of any security." Section 17(a) of the Securities Act prohibits such conduct in the offer or sale of any security. These antifraud provisions prohibit trading designed to artificially affect the market price of a security. Ernst & Ernst v. Hochfelder, 425 U.S. 185, 198 (1976). Indeed, the Commission has consistently held that Section 10(b) and Rule 10b-5 prohibit trades made for the purpose of manipulating stock prices because their effect "is to distort the character of the market as a reflection of the combined judgments of buyers and sellers." Halsey, Stuart & Co., SEC Release No. 34-4310 (1949). "In essence, a manipulation is the intentional interference with the free forces of supply and demand." In the Matter of Pagel, Inc., et al., SEC Release No. 34-22280 (1985); Accord United States v. Stein, 456 F.2d 844, 850 (2d Cir. 1972).
Sheehan repeatedly engaged in a pattern of conduct that affected the NBBO and permitted the execution of orders at prices that would not otherwise have been available in the market. Sheehan's actions interfered with the free forces of supply and demand and undermined the integrity of the NBBO. In the Matter of Israel M. Shenker, SEC Release No. 34-45017 (November 5, 2001); In the Matter of Joseph R. Blackwell, Bradford D. Blackwell and Timothy R. Blackwell, SEC Release No. 34-45018 (November 5, 2001). Accordingly, Sheehan violated Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.
Based on the foregoing, the Commission finds that Sheehan violated Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder.
Accordingly, IT IS HEREBY ORDERED that Sheehan:
A. Pursuant to Section 8A of the Securities Act and Section 21C of the Exchange Act, cease and desist from committing or causing any violation and any future violation of Section 17(a) of the Securities Act and Section 10(b) of the Exchange Act and Rule 10b-5 thereunder;
B. Shall pay disgorgement and prejudgment interest of $11,558 within thirty (30) days of the entry of this Order by U.S. Postal money order, certified check, bank cashier's check, or bank money order, made payable to the Securities and Exchange Commission and shall transmit the payment by certified mail (return receipt requested) to the Office of the Comptroller, U.S. Securities and Exchange Commission, Operations Center, 6432 General Green Way, Stop 0-3, Alexandria, VA 22312, under cover of a letter that identifies the respondent and the name and file number of this proceeding (HO-9394). A copy of the cover letter and of the form of payment shall be simultaneously transmitted to Scott W. Friestad, Assistant Director, Division of Enforcement, U.S. Securities and Exchange Commission, 450 Fifth Street, N.W., Washington, D.C. 20549-0708.
By the Commission.
Jonathan G. Katz
1 This matter is related to SEC v. Leonard Sheehan, Civ. No. 030694 (D.D.C.)( March 18, 2003) (ordering a $10,000 penalty by consent).
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