Rule 10b-6

What Was Rule 10b-6?

Rule 10b-6 was an anti-manipulation rule set forth by the Securities and Exchange Commission (SEC) that prohibited the purchase of stock by an issuer when the stock had not completed distribution.

Rule 10b-6 was designed to prevent issuers from tampering with the market by bidding for shares before they were publicly available, which could have artificially raised the price. The rule created an even playing field between investors, brokers, dealers, issuers, and underwriters for newly issued shares.

In 1996, the Securities and Exchange Commission (SEC) announced that Rule 10b-6 and other rules were to be replaced by Regulation M, which went into effect on March 4, 1997.

Understanding Rule 10b-6

Rule 10b-6 prevented broker-dealers and underwriters that may have been privy to information about a new issue from investing in it before the general public could.

In particular, 10b-6 prohibited the bidding and purchasing for "any person who has reasonable cause to believe that he will participate, has agreed to participate, or is participating, in a particular distribution of a security." A person could have been said to be included under the rule as soon as they come into such type of knowledge that would qualify as "inside information."

History of Rule 10b-6

When the rule was first proposed, it was quite controversial and attracted a formidable commentary of dissenting opinions during an official public comment phase of the rulemaking process.

In particular, many took issue with the vague nature of the wording and the indefinite nature of its applicability, especially the process by which information would be deemed "insider information" as it related to the status and progress of the public offering. As a possible resolution of this difficulty, it was suggested that the SEC choose a specific point in time prior to a distribution at which trading should cease.

The finance industry at the time was nearly unanimous in their anticipation of difficulty in distinguishing to whom the prohibition applied, and the rulemaking commission had not reserved ad hoc power to grant exceptions.

Critics recognized that the exemptions that were listed under the rule included no allowance for the continuation of normal trading, especially that which would not directly affect the price of the security in question.

The final form of rule 10b-6 adopted on July 5, 1955, featured additions to the rule that were responsive to the criticism. However, the regulatory effect of the rule maintained its focus on trader market activities during a public offering.

Only bidding and purchasing were prohibited, and the prohibition of these activities was absolute, extending to both exchange and over-the-counter (OTC) market transactions. Later revisions of the rule included the reservation of ad hoc power for the SEC to grant exemptions as it saw fit.

Replacement of Rule 10b-6

In 1996, the SEC announced that it would replace Rule 10b-6, Rule 10b-6a, Rule 10b-7, Rule 10b-8, and 10b-21 with a new rule, Rule M. Rule M contains six rules that cover various aspects of trading and the parties involved. Rule M consists of Rule 100, Rule 101, Rule 102, Rule 103, Rule 104, and Rule 105.

Rule 100 is the definition rule, Rule 101 deals with activities related to broker-dealers and underwriters that participate in a distribution, Rule 102 covers issuers and selling security holders, Rule 103 provides oversight for Nasdaq passive market making, Rule 104 includes stabilization transactions and post-offering activities by underwriters, and Rule 105 oversees short selling related to a public offering.