Hong Kong Regulatory - Sidley Austin/media/update-pdfs/2016/03/... · The pair, formerly employed by two UK Magic Circle law firms, stood trial last year on ... Five days after she

Hong Kong Regulatory | MARCH 2016 • 1

IN THIS ISSUE

MARCH 2016

Hong Kong RegulatoryNEWSLETTER

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NEWS

EDITORIAL: OUTLOOK FOR 2016— SFC SETS SIGHTS ON THE INDUSTRY ACHIEVING THE RIGHT CULTURAL MINDSET

Speaking at the Alternative Investment Management Association annual conference in Asia at the start of the year, the Securities and Futures Commission (SFC), Hong Kong securities regulator, pointed to “culture” (or good corporate governance) being the key priority from a supervisory perspective for financial markets in 2016. This theme is closely allied with personal accountability for corporate behavior from an enforcement perspective, which was also spotlighted in the SFC’s Regulatory Forum held last month. This is, perhaps, unsurprising given the recent spate of corporate misconduct that has plagued global financial markets and undermined public perceptions of the industry. The question of whether the financial industry is doing the right thing “remains a really difficult and complex question,” said James Shipton, outgoing head of intermediaries supervision at the SFC in Hong Kong. He also emphasized that market players still have a long way to go, although financial markets have made substantial improvements. He added, “There still remains an enormous amount of cynicism in the responses articulated to the regulatory community to date. On the one hand there are good news stories, but at the same time, there are still incidences coming in from a supervisory or enforcement perspective that discount those messages.” He cautioned that the issue of culture—a mindset to do the right thing by investors and safeguard market integrity—should not be viewed in the abstract, but “actually will help [an organization’s] performance from a supervisory perspective or inspection standpoint.”

Culture remains a core principle under General Principle 9 (Responsibility of senior management) of the Code of Conduct for Persons Licensed by or Registered with the SFC (Code), which holds “senior management” responsible for adherence to the rules and procedures within their firms. Shipton warned this principle is deliberately “agnostic.” It is not confined to responsible officers or licensed persons alone, but extends to all individuals with apparent or actual authority in relation to a firm’s business operations. Culture also forms the key to how firms perform in the inspection and supervision process—it is assessed at the initial license application stage and on an ongoing basis. It can be measured primarily through escalation procedures and the extent to which exceptions to the rules are documented and rationalized. Firms that only want to hear good news, and not bad, will see a negative impact on culture. Similarly, firms with a history of exemptions without due regard may signal inadequate culture and can expect to come under closer scrutiny in 2016.

From a supervisory perspective, other major themes expected to remain constant or expected to ramp up this year include: (i) anti-money

NEWS

Editorial ....................................................1

Expanding the insider dealing regime: High Court confirms insiders liable under section 300 for dealings involving non-Hong Kong listed securities ........................................2

MMT affirms “no profit motive” defence sufficient to rebut allegations of insider dealing ................5

REGULATORY STANDARDS/UPDATES ........................7

INTERMEDIARIES/MARKET SUPERVISION .........................................8

KEY PRODUCT DEVELOPMENTS .....10

SIGNIFICANT ENFORCEMENT ACTIONS .................10

http://www.sidley.com



[SFC] to use section 300…which prohibits fraudulent

schemes in transactions involving securities, to pursue insider dealing

cases involving securities listed on foreign markets.

laundering compliance; (ii) cybersecurity—with a greater emphasis for firms of all sizes on documenting and implementing contingencies to safeguard client assets from cyber attack; (iii) conflicts of interest—in particular, intermediaries that favor particular brokers who give better rebates or particular accounts or funds for whatever purpose can expect to come under closer scrutiny; (iv) disclosure of information; (v) outsourcing—with a greater emphasis on management oversight and supervision of outsourced functions; (vi) electronic trading and (vii) safe custody of assets and valuations—particularly where the current market value of a client’s assets is unavailable or unreliable, or where those assets become illiquid or difficult to value as a result of significant market events. In the context of the financial advisory sector, many are paying closer attention to questions of suitability and sales practices given the imminent changes to the professional investor regime (see below).

Institutions and advisers cannot afford to treat compliance standards, protocols and procedures as merely “box-ticking” exercises that exist in black-and-white, but must strive to ensure that trading practices and behavior are aligned in a broader sense to the general principles outlined in the Code in order to foster an easier cultural outcome. More and more of Sidley’s advice to clients is of an advisory or proactive nature. Clients want to learn from the lessons of others. Sidley’s continuing efforts to closely monitor the regulatory landscape have helped clients identify and predict regulatory themes, become aware of practical illustrations of misconduct, and, perhaps more importantly, avoid being the subject of enforcement action, by ensuring that clients are not exposed to the same or similar risks. Against this background, we hope you find the topics and featured articles in our latest regulatory newsletter helpful.

EXPANDING THE INSIDER DEALING REGIME: HIGH COURT CONFIRMS INSIDERS LIABLE UNDER SECTION 300 FOR DEALINGS INVOLVING NON-HONG KONG LISTED SECURITIES

In a recent landmark decision, the Hong Kong High Court found two lawyers guilty of allegations that they reaped HK$2.9 million in illegal profits through trades they set up through a sibling. The decision paves the way for the SFC to use section 300 of the Securities & Futures Ordinance (SFO), Cap. 571, which prohibits fraudulent schemes in transactions involving securities, to pursue insider dealing cases involving securities listed on foreign markets.

Background facts

The pair, formerly employed by two UK Magic Circle law firms, stood trial last year on allegations of insider dealing in Hong Kong listed securities and masterminding a scheme to steal and misuse information involving non-Hong Kong listed securities. Each transaction was handled by their respective firms. The SFC’s case alleged that the pair, former cohabitees, passed tips about a proposed offer by a Hong Kong-based bank to take over a Taiwanese listed bank and a privatization offer by a major shareholder of a well-known Hong Kong listed telecommunications company.

By virtue of the professional relationship arising from the advice provided by their principals (the law firms) on the transactions, the pair stood in the position of fiduciaries, which prohibited disclosure or misuse of confidential information without obtaining permission from their principal and complying with insider dealing laws. In each case, neither sought approval to deal in the shares from the law firms or the clients involved in the transactions. Two relatives also stood trial for aiding and abetting the scheme as tippees. We summarize below a number of notable points the Court articulated (in some instances for the first time; see section 300 below).



The Court had no hesitation in ruling that the secondee occupied a

fiduciary position, which was reasonably likely

to give her access to highly confidential and

sensitive information.

Professional advisers subject to (express or implied) fiduciary duties

In the takeover transaction, the firm seconded a lawyer to the Hong Kong-based bank to work on its proposed takeover offer. The Court had no hesitation in ruling that the secondee occupied a fiduciary position, which was reasonably likely to give her access to highly confidential and sensitive information. The lawyer was therefore deemed to be an insider and, by virtue of her fiduciary position, subject (either expressly or impliedly) to a duty of confidentiality that prohibited disclosure or misuse of confidential information without obtaining permission from her principal. Although there was no direct or indirect evidence that she disclosed any details about the transaction to her former cohabitee, there was compelling circumstantial evidence that enabled the Court to draw an adverse inference. Five days after she learned of the intended offer price and timing, her former cohabitee allegedly asked his sister to help the pair trade on the inside information by opening a nominee brokerage account in the sibling’s own name. The account was opened the next morning. No convincing explanation was given as to why it was necessary for the account to be obtained in the sibling’s name. Over the next few days, the pair began liquidating their assets to raise funds, used up their entire cash balances, drew down over HK$1.5 million in overdraft facilities and borrowed money from their relatives. A day later, funds were pooled and deposited into the nominee account, and they began purchasing shares. Their investments translated into two to three years’ salaries for the pair. The Court said there was clearly a sense of urgency. The way in which they raised funds spoke volumes. The pair had effectively put all their eggs into one basket, which the Court regarded as highly unusual and as a reflection that they knew enough about the investment to regard it as a “very safe bet.” A week later, the takeover offer was made public, and the pair accepted the tender offer price, netting a 44-percent gain.



[The Court] held that, although the section was

not extraterritorial, it remains an offense to

perpetrate a fraudulent scheme in Hong Kong (i.e.,

misuse of confidential information obtained in Hong Kong for personal

profit in breach of a fiduciary obligation)

even if the trading takes place abroad.

[The Court acknowledged] this new era of liability is

similar in some respects to the U.S. “misappropriation

theory,” [but] stressed [it] did not intend, nor was it

necessary, to import U.S. securities law into the

Hong Kong regime.

Passive receipt of inside information still unlawful if traded upon

In the privatization transaction, although the lawyer was not involved in the transaction, he had access to and shared the same printers, photocopiers and fax machines, and sat close to the deal team (the insiders) at his firm, who worked on the transaction. At best, the evidence suggested that he had inadvertently come into possession of information that he knew (or ought to have known) to be inside information, and that he received such information indirectly from the deal team. Although he did not solicit the information, the circumstantial evidence showed that he traded on it after passively receiving it. He did so through his sister’s securities account rather than his own. The SFC was also able to place the pair together at dinner the same night the deal team had submitted a nearly-final draft announcement to the SFC’s Corporate Finance Division for approval (albeit using a code name and omitting any price information). During the night, telephone logs showed, he placed a call to his sister. Before the market opened the next day, his sister started placing orders to buy shares in the target. Within the first hour, their trading accounted for 73 percent of the entire turnover of the target’s shares. The unusual price fluctuations led the company to suspend trading. A week later, news of the proposed privatization (representing a 30-percent premium) was made public.

Court confirms section 300 is an alternative to insider dealing charge

The SFC relied on section 300 of the SFO and not the insider dealing provisions under the SFO (section 270 or 291) for the takeover transaction because the securities were listed in Taiwan. The pair argued that section 300 did not apply to transactions that took place outside Hong Kong and denied engineering a scheme to misuse inside information obtained during the course of their employment in either transaction. Rather, they argued the trades were mere coincidence and based on independent research. The Court dismissed their story as implausible and held that the circumstantial evidence supported a compelling inference that the pair worked to cover up the purported scheme by deciding to use the sibling’s account so as to create some distance between themselves and the trading. Nevertheless, the Court used this chance to send a clear message on the ambit of section 300, which had not previously received judicial consideration. It held that, although the section was not extraterritorial, it remains an offense to perpetrate a fraudulent scheme in Hong Kong (i.e., misuse of confidential information obtained in Hong Kong for personal profit in breach of a fiduciary obligation), even if the trading takes place abroad.

Conclusion

The SFC is plainly taking an expansive approach when pursuing insiders in civil actions. This ruling will bolster the SFC in its pursuit of those trading in foreign markets from Hong Kong on tips obtained in breach of a fiduciary duty owed to the source of the information. While the Court expressly acknowledged that this new era of liability is similar in some respects to the U.S. “misappropriation theory,” it stressed that the decision did not intend, nor was it necessary, to import U.S. securities law into the Hong Kong regime. Nevertheless, the combination of the SFC’s increasing preparedness to take such cases to trial and the development of closer links with overseas regulators reinforces the need for caution when handling potentially market-sensitive information.



This case marks a rare defeat for the SFC and

affirms the seldom-used statutory defense for would-

be insiders to prove that when they dealt, they had no desire to make a profit

or avoid a loss by the use of inside information.

MMT AFFIRMS “NO PROFIT MOTIVE” DEFENSE SUFFICIENT TO REBUT ALLEGATIONS OF INSIDER DEALING

Hong Kong’s Market Misconduct Tribunal (MMT), the statutory tribunal established to adjudicate civil contraventions of the SFO, recently cleared the former chairman and three former officers of a listed company (listco) of alleged insider dealing. This case marks a rare defeat for the SFC and affirms the seldom-used statutory defense for would-be insiders to prove that when they dealt, they had no desire to make a profit or avoid a loss by the use of inside information. The case is the second occasion where the SFC has used its new powers under the SFO to refer cases of suspected misconduct to the MMT without first having to make a referral to the Financial Secretary. It illustrates that insider dealing cases based merely on proof that an insider traded when in possession of “relevant information” (now renamed “inside information” after Part XIVA became operative on January 1, 2013) can be rebutted and potentially raises concerns as to whether the SFC is effectively discharging its responsibilities with due care and regard when exercising its powers.

Background

In 2002, the listco (a small cap stock) was indebted to an unsecured creditor, which represented its single largest debt and had been in default for a prolonged period of time spanning more than five years. Initially, the listco had issued a public announcement confirming the default and undertook to keep investors informed of developments. Despite this undertaking, no further announcements were made, although the continuing indebtedness was disclosed in its audited accounts. A series of statutory demands was served on the listco, but no follow-up legal action was ever taken. The evidence suggested that the chairman viewed the threats as empty because the listco’s persistent negative net asset value somehow made it “bomb proof.” In other words, the chairman formed the opinion that it would be an exercise in futility for



unsecured creditors to expect to receive a payout in the event of a winding-up given that investors were aware that the listco was in an insolvent position, its assets were minimal and it would take an extended period of time to realize any value. Five years later, the creditor assigned the debt to a third party willing to make more aggressive moves with the hope of squeezing a compromise or forcing liquidation. The listco failed to make any announcement regarding the assignment of the debt by its major creditor nor the fact that the new creditor has served a fresh statutory demand that threatened the listco’s continued existence if unpaid, against a backdrop of a soaring share price that had reached historic levels. Following a succession of desultory offers to compromise the debts, the new creditor eventually served a winding-up petition on the listco, which led to a trading halt. It emerged that the former chairman and three other officers had sold their entire shareholdings in the listco in the days leading up to the service of the petition, thereby avoiding a combined loss in excess of HK$50 million prior to the assignment and the statutory demand becoming public knowledge.

Fairness—the right of implicated persons to be present before determining culpability

The MMT declined to make any findings against the former chairman after medical evidence established that the onset of liver failure, and his eventual hopitalization in China, rendered him unfit to stand trial or conduct his defense. In deciding whether to accept the medical evidence, and if so what weight to place on it, the tribunal stressed that the fact of hospitalization itself would not ordinarily mean that an implicated party may distance himself from the inquisitorial hearing, which could be bridged by video link-ups. However, it said that where an implicated person is unable to advance his defense (either directly by giving evidence or indirectly by giving instructions to his counsel) by reason of involuntary illness, then, and only in exceptional cases, the MMT is permitted to proceed to make a final determination in the absence of that implicated party. Absent grounds for doubting the medical reports, the MMT rejected the SFC’s arguments that it did not follow that the chairman had been denied a reasonable opportunity to be heard even where he only disputed whether the information constituted inside information. In difficult situations, the MMT must proceed with utmost care and caution even if it has latent concerns that a party may be seeking to distance itself from the hearing. However, in the present case, the evidence presented to the MMT, despite some shortcomings, showed the former chairman to be in a critical condition that rendered him unable to meaningfully participate in the proceedings.

No profit motive defense valid even if knowingly in possession of inside information

Regarding the remaining officers, the MMT had no difficulty in concluding that the assignment viewed alongside the subsequent statutory demand, when considered in context, constituted inside information that if disclosed was likely to have had a materially adverse effect on the share price. At least two of the former executives—a finance director and a company secretary, who were both under a duty to advise the board to ensure that the listco complied with all the rules of good corporate governance—knew by inference that such matters constituted inside information due to their involvement in dealing with the new creditor’s demand. The third officer, an assistant company secretary, who occupied a low rank in the office, was not directly involved in dealing with the statutory demand, was not made privy to the details of any communications her colleagues had with the listco’s solicitors and was therefore unaware of its nature or significance.

Nevertheless, the MMT found that the trio was solely motivated by the desire to cash in their employee share options following an unexpected boom in small cap stocks within the sector. At one point the listco’s share price had risen by as much as fourfold. The MMT expressly rejected the SFC’s submission that it was simply unrealistic to find that the officers had no intention to use the inside information to their advantage. It held that, because the share options had not been exercised until after the 21-day deadline, the only reasonable inference



The MMT acknowledged that “there is a moral

dimension to [its verdict] which some

may find unappealing,” which it added

led “some academic commentators” to argue

that the defense should be limited to occasions

when a person was compelled to deal or

had no choice but to do so. However, the MMT

expressly disapproved of this limitation in

Hong Kong.

to be drawn was that the motivation to trade was wholly unconnected with any desire to avoid a loss by reason of possession of the inside information. In other words, the MMT concluded that the executives would have sold their stock at the time whether or not they had received any inside information.

Conclusion

The MMT acknowledged that “there is a moral dimension to [its verdict] which some may find unappealing,” which it added led “some academic commentators” to argue that the defense should be limited to occasions when a person was compelled to deal or had no choice but to do so. However, the MMT expressly disapproved of this limitation in Hong Kong. To pre-empt perceived concerns about the risk of opening the floodgates to market abusers, the MMT observed that the circumstances in which an insider will be able to demonstrate that a dealing was totally unconnected with any desire to avoid a loss or make a profit by use of inside information will be “rare.” It stressed that the mischief to be avoided is the use of insider information to “steal a march” on ordinary investors. The decision illustrates that context is crucial when deliberating allegations of market misconduct. It is not sufficient for the SFC to merely establish that insiders traded while in possession of inside information; rather, that possession must be proved to be the causative factor. In the present case, the executives received relatively modest salaries, and the selling of the shares (through the exercise of employee share options) was “literally the chance of a lifetime” brought about by the sudden surge in the share price. Even though the executives mistakenly believed that the assignment and the subsequent statutory demand were not inside information, their trading was not motivated by a conscious intent to misuse the information to their advantage. The decision perhaps also illustrates the willingness of the MMT to uphold one of the most fundamental tenets of fairness, namely the right of all implicated persons to be present throughout the course of the proceedings before determining culpability, which is to be applauded.

REGULATORY STANDARDS/UPDATES

SFC imposes mandatory suitability requirements in client agreements

December 2015: The SFC released its consultation conclusions to rewrite client agreements to give contractual effect to the suitability requirements in the Code. The reforms are effective immediately, subject to an 18-month transitional period to allow adequate time for intermediaries to review, redraft and re-execute agreements with existing clients and make necessary modifications to agreements with new clients. Under the new regime, intermediaries that sell financial products cannot avoid the requirements (or limit liability) in client agreements unless acting under a restricted mandate (e.g., execution-only agreements or those involving professional investors).

SPR rules to be expanded

February 2016: The SFC issued its consultation conclusions to expand the scope of the mandatory short position reporting (SPR) rules. Under the existing regime, effective since June 2012, the weekly reporting requirements apply only to certain designated stocks that can be short sold. The new regime will expand the reporting obligation to cover all designated securities, including collective investment schemes (CISs) such as exchange-traded funds, real estate investment trusts and other listed unit trusts/mutual funds. The reporting threshold for designated stocks will remain unchanged (currently the lower of 0.02 percent market cap or HK$30 million), while the threshold for CISs will be set at HK$30 million. The expanded regime is expected to come into effect on March 15, 2017, subject to the legislative process.



New professional investor regime

March 2016: With effect from March 25, amendments to the Code will be implemented to introduce the new professional investor regime, which will: (i) dis-apply all existing exemptions available to intermediaries when serving individual professional investors (i.e., high net-worth individuals holding not less than HK$8 million); (ii) treat certain types of corporate professional investors (i.e., companies holding not less than HK$40 million) that are investment vehicles wholly owned by individual professional investors (and by family trusts) the same as individuals; and (iii) refine the existing “knowledge and experience” assessment for corporate professional investors in favor of a more flexible, principles-based approach, allowing intermediaries to use the methods they consider most appropriate in assessing whether an investor satisfies the relevant assets or portfolio threshold at the relevant date to qualify as a professional investor. Generally speaking, under the new regime all individual investors (irrespective of whether they qualify as professional investors) shall be treated in the same manner as retail investors and are not exempt from the suitability requirements.

SFC implements revised guidelines for the regulation of ATS

March 2016: The SFC released its consultation conclusions to revise and implement the Automated Trading Services (ATS) guidelines to cover not only services for the trading and clearing of securities or futures contracts, but also services for the trading or clearing of OTC derivatives. The revised guidelines apply to both new entrants and those who are already authorized. Importantly, central counterparties (including those based overseas) who currently provide, or market, clearing services for OTC derivative transactions to persons in Hong Kong will need to be authorized by the SFC as ATS providers. The new guidelines will come into effect on implementation of the new mandatory clearing regime of OTC derivatives, which has been deferred until September 2016 (subject to the legislative process).

SFC introduces voluntary “stewardship” principles for institutional investors

March 2016: The SFC released its consultation conclusions to implement new guidance (in the form of principles) on the “Principles of Responsible Ownership.” The principles are based on the OECD Principles of Corporate Governance and reflect elements of the UK Stewardship Code (notably the ‘comply or explain’ principle). The principles aim to promote better standards of corporate governance through fostering active participation by institutional and other non-retail investors groups (such as mutual funds, asset managers, as well as other intermediaries in whom shareholder rights are vested), their stakeholders and Hong Kong listed companies. The SFC does not plan to make commitment to the principles mandatory, but will monitor whether it is desirable to require specific categories of investors (such as SFC licensees) adopt the principles at a later stage.

INTERMEDIARIES/MARKET SUPERVISION

SFC signs MoU with CFTC to increase supervision of cross-border entities

December 2015: The SFC entered into a memorandum of understanding (MoU) with the U.S. Commodity Futures Trading Commission (CFTC) to share information on supervisory issues affecting regulated markets, organized trading platforms, central counterparties, intermediaries, dealers and other market participants or cross-border entities regulated by one or both agencies, including hedge funds. The MoU, which came into effect on December 21, also entitles both regulators to conduct on-site inspections of entities physically located in the other’s jurisdiction (even where regulatory inspections would not be available to the overseas regulator). Although



the MoU is not intended to allow regulators to gather information for enforcement purposes (without consent of the other), this restriction does not apply where information is obtained directly from a regulated entity, whether during an on-site inspection or otherwise.

Circular to safeguard client assets against internal misconduct

February 2016: The SFC issued a new circular with important guidance on best practices that licensed corporations (LCs) and senior management are expected to adopt to strengthen internal controls and safeguard client assets against the threat of internal misconduct. The guidance includes a nonexhaustive list of potential red flags, pitfalls and vulnerabilities that LCs are expected to monitor and detect, as well a list of key measures to be taken when designing and implementing operational and internal control procedures. The measures include the regular independent reviews and internal audits of (among others) compliance functions and exception reports and are to be read in conjunction with the existing guidance notes, including the SFC circulars “Guarding Against Risk of Client Asset Misappropriation” (February 2013), “Continuous and Close Supervision of Firm’s Operations” (March 2006), “Circular on Segregation of Duties” (July 2002) and “Suggested Control Techniques and Procedures for Enhancing a Firm’s Ability to Comply With the Securities and Futures (Client Securities) Rules and the Securities and Futures (Client Money) Rules” (April 2003).

OTC derivatives—HKMA and SFC issues consultation conclusions on mandatory clearing and expanded mandatory reporting regime

February 2016: Following commencement of the new mandatory reporting and recordkeeping rules for over-the-counter (OTC) derivative transactions that came into effect on July 10, 2015, the Hong Kong Monetary Authority (HKMA) and SFC jointly issued consultation conclusions on the proposals to introduce mandatory clearing and the second phase of the expanded mandatory reporting obligations under the new OTC derivatives regime. The new centralized clearing regime is to be deferred from July 1, 2016, to September 1, 2016 (subject to the legislative process), on certain standardized interest rate swaps (but excludes other less frequently used derivative products, such deliverable FX forwards and deliverable FX swaps). The expanded mandatory reporting phase, which currently applies only to certain interest rate swaps and nondeliverable forwards under phase 1, is to be deferred from January 1 2017, to July 1, 2017 (subject to the legislative process). It will not apply to transactions maturing before July 1, 2018, and will exclude FX forwards entered into for the purpose of buying or selling securities in foreign currency that are settled within the settlement cycle for the securities. A separate consultation paper on the specific transaction information to be reported will be issued shortly. The revised OTC derivative rules will be tabled for negative vetting in February 2016.

SFC changes head of intermediaries supervision

February 2016: The SFC announced that James Shipton, head of intermediaries supervision, is to leave the SFC in June 2016 at the end of his three-year contract. He will be replaced by Julia Leung, who currently heads the SFC’s investment products division. This latest round of staff changes comes at a time when the SFC has yet to find a permanent replacement for the role of head of enforcement following Mark Steward’s resignation in September 2015.

SFC launches dedicated Fintech portal

March 2016: In line with the recommendations made by the Government’s Steering Group on Financial Technologies (Fintech) in February 2016, the SFC launched a new dedicated portal to centralize communications with businesses involved in the Fintech industry in Hong Kong. The portal encourages new entrants wishing to start or develop a Fintech business



(e.g., crowd-funding, P2P lending, robo-advisers, securities platform/trading and settlement technology, compliance/regulatory reporting/KYC/cyber and data security technologies) to submit queries to the SFC’s Fintech Advisory Group to understand the regulatory expectations and approach. The advisory group comprises members of the SFC’s Risk and Strategy Unit as well as external industry experts. As Fintech potentially covers a very broad range of matters, not all of which will fall within the SFC’s regulatory remit, the portal is also intended to be used as an opportunity for the SFC to work with market participants on the development and regulation of Fintech in Hong Kong.

KEY PRODUCT DEVELOPMENTS

FAQs regarding mainland China-Hong Kong MRF

January 2016: The SFC released its newly published frequently asked questions (FAQs) on the mutual recognition of funds (MRF) scheme, setting out its views on some common issues encountered during the application process, including the MRF eligibility requirements. The SFC noted that, if assets under management of a mainland China fund shrink below the minimum threshold (RMB200 million) after authorization, managers are expected to notify the SFC in writing immediately and explain why. The SFC added that it retained a discretion to require mainland China funds to suspend marketing to the Hong Kong public and prohibit new subscriptions taking into account (among others) market conditions, exchange rate fluctuations, the best interests of investors and whether other MRF requirements are met.

Open-ended funds companies

January 2016: Following public consultation in 2014, the government, in conjunction with the SFC, the Companies Registry, the Inland Revenue and the Official Receiver, published its consultation conclusions on the proposed open-ended fund companies (OFC) regime and draft legislation, which is intended to complement the existing unit trust and mutual fund structure. Since OFCs (whether public or private) will be set up as investment fund vehicles, the day-to-day management and investment functions of OFCs must be delegated to investment managers licensed by or registered with the SFC to carry out Type 9 (asset management) regulated activity. Under the new regime, the SFC will become the primary regulator responsible for registration and regulation of OFCs. The SFC will outline detailed regulatory and operational requirements for the new OFC regime in new draft OFC rules and OFC code, subject to further public consultation later this year.

SIGNIFICANT ENFORCEMENT ACTIONS

Internal control failures

■ December 2015: A major Wall Street firm was reprimanded and fined a record HK$30 million for regulatory breaches and internal control deficiencies relating to its institutional equities business in Hong Kong, including wrongfully aggregating short positions in trading books held under separate legal entities within the same group of companies and other failures relating the provision of dark pool trading services. The SFC imposed lower penalties against a well-known European bank (HK$15 million) in August 2015 and a UK-headquartered bank (HK$5 million) in 2013 for dark pool control failures, forcing one financial institution to shut down its dark pool operations in Hong Kong.



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AMERICA • ASIA PACIFIC • EUROPE

Life bans and disqualification orders

■ The SFC imposed a life ban for misappropriation of client assets over HK$2.5 million by a licensed representative (with disciplinary action taken before criminal trial based on voluntary admissions to the SFC) to conceal his trading losses.

Licensing-related issues

■ December 2015: The SFC obtained an interim injunction to restrain an offshore fund manager, who solicited more than HK$111 million from over 130 investors, from carrying on regulated asset management and securities dealing activities and issuing investment advertisements targeting the Hong Kong public to invest in collective investment schemes without a license or authorization. The SFC also obtained interim freezing orders pending trial and remedial orders to be made by the Hong Kong court to restore affected investors to their pre-transaction positions.

■ December 2015: The SFC suspended a licensed person for three months for taking client order instructions using the WhatsApp messenger on his personal mobile phone. Such conduct breached his employer’s electronic communication policy for licensed staff and compromised its ability to effectively monitor regulated activities.

■ January 2016: The SFC banned a former licensed representative for eight months for failing to notify the SFC of an overseas criminal conviction record and for failing to disclose the conviction when later applying to become accredited as a relevant individual after changing employment. The SFC stressed that licensed persons are under a legal obligation to provide notification within seven business days of being charged with a criminal offense (i.e., served with the summons) and should not delay notification pending conviction or the outcome of any appeals. Failure to notify the SFC is a breach of section 4 of the Securities and Futures (Licensing and Registration) (Information) Rules.

CONTACTS

Alan Linning

Partner, Head of Regulatory Practice in Asia +852 2509 7650 [email protected]

Effie Vasilopoulos

Partner, Co-head of Investment Funds Practice in Asia +852 2509 7860 [email protected]

Dominic James

Counsel +852 2509 7834 [email protected]

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Hong Kong Regulatory - Sidley Austin/media/update-pdfs/2016/03/... · The pair, formerly employed by two UK Magic Circle law firms, stood trial last year on ... Five days after she