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Hong Kong: Offshore Investment

Securities

Hong Kong has the world's 10th largest securities market and the second largest in Asia after Tokyo (at the time of writing). As of March 2000 the Hong Kong Stock Exchange and the Futures Exchange were merged into Hong Kong Exchanges and Clearing (HKEx). The launch of the Growth Enterprise Market (GEM) in November 1999 for smaller and high growth companies has broadened Hong Kong's stock market, although the timing of GEM's launch was unfortunate, and the 'dotcom' shakeout in 2000 weakened its initial impact.

Hong Kong's securities market has been increasingly internationalised. There has been a continued rise in the participation of international investors in the market. Many of the initial public offerings through the Stock Exchange are also made globally. The majority of these issuers are supernational bodies, whose issues are almost invariably accompanied by global fund raising.

In January 2011, HKEx launched the second year of its Strategic Plan 2010-2012, focusing on three key components: accelerating its platform infrastructure upgrade and necessary market structure reforms, reinforcing its position as a global listing venue by promoting international listings, and developing its renminbi (RMB) capability and Mainland compatibility.

HKEx and its subsidiaries (the Group) recorded a profit attributable to shareholders of HKD3,478 million for the first nine months of 2010 (first quarter: HKD1,127 million; second quarter: HKD1,131 million; third quarter: HKD1,220 million) compared with HKD3,413 million for the same period in 2009 (2009 first quarter: HKD834 million; second quarter: HKD1,353 million; third quarter: HKD1,226 million).

The rise in profit for the nine months ended 30 September 2010 against that for 2009 was primarily attributable to the increase in Stock Exchange listing fees and the higher turnoverrelated income resulting from the increase in activity in the Cash Market, but was partly offset by the drop in net investment income on account of lower net interest income earned in 2010. Total operating expenses rose during the period mainly due to higher staff costs and IT and computer maintenance expenses but were partly offset by a decrease in premises expenses.

HKEx’s profit attributable to shareholders was HKD5.04bn for the year ended December 31, 2010, a rise of 7% from the previous year.

In terms of trading activity, 2010 was a good year for HKEx, when a number of trading records were set. Total equity funds raised reached HKD850.1bn by December 31, beating the previous annual record of HKD642.1bn set in 2009. Funds raised by Chinese mainland enterprises (IPO and post-IPO) reached HKD466bn by year's end, well above the previous record of HKD384.9bn set in 2006. New listings surged 55% from the previous year and two of the three largest IPOs in the world, AIA Group Ltd and Agricultural Bank of China Ltd, took place on the exchange which raised US$20bn and US$12bn, respectively, in Hong Kong.

The total number of shares traded in 2010 reached just under 35 trillion by the end of the year, surpassing 2008's record of 27.1 trillion. New records were also set in trading turnover for several instruments, including exchange-traded funds, futures and options, index futures and options, and stock options. The number of listed companies on the exchange rose by 8.65% to 1,244 during 2010, and market capitalisation was just under HKD30 trillion as at December 31, 2010, 17.86% higher than the end of 2009.

At the end of the first quarter of 2011 there were 1,258 companies and a total of 8,200 securities listed on the Main Board. Total turnover in the first quarter in terms of value was HKD4.69 trillion (up from HKD3.9 trillion in Q1, 2010).

On the GEM there were 168 listed companies at the end of Q1, 2011. Total turnover was HKD22.6bn (down from HKD31.5bn in Q1, 2010) and total market capitalisation stood at HKD137.8bn (down from HKD134.7bn at the end of Q1 2010).

Exchange traded funds (ETFs) have been a strong growth area for HKEx since the first one was listed in 2000. As of mid 2011, there were 76 ETFs listed on the exchange, accounting for about 3.5% of market turnover.

Technological Developments

Hong Kong Exchanges and Clearing (HKEx) introduced AMS/3, a third generation automatic order matching and execution system, in late 2000. In February 2001 it added an Order Routing System (ORS). ORS is an open system that enables investors to place stock market orders through the Internet, mobile phones and other electronic channels, which may be developed by HKEx or vendors. After an order is placed through an electronic channel connected to ORS, the system automatically sends the order to a Stock Exchange Participant for approval and submission to the market for matching and execution.

More than 100 Stock Exchange Participants have so far connected to ORS, and are able to offer their clients Internet trading. All Stock Exchange Participants, including those who have connected to the HKEx channel, will also be able to offer their clients electronic trading services, including Internet and mobile trading, through Proprietary Network System (PNS) channels provided by vendors.

CCASS provides settlement services under which securities are credited or debited to participants' CCASS stock accounts and funds are recorded in the participants' money ledgers on settlement day.

Details of all Exchange trades, including trade data and trade amendments, are electronically and automatically transmitted to CCASS by the Stock Exchange on each trading (T) day. There is no need for broker participants to input or further confirm their trade details in CCASS. Broker participants receive Provisional Clearing Statements of their stock and money positions through their CCASS terminals shortly after 1800 hours on each T day for reconciliation. Final Clearing Statements are available to broker participants shortly after 1400 hours on T+1 day for confirmation purposes.

In October 2010, HKEx published a paper to provide market participants with information about upgrades of AMS/3 and Market Data System (MDS). The upgrades, which are named AMS/3.8 and MDS/3.8 respectively, are scheduled for completion by the end of 2011. HKEx says they will increase the market's efficiency and transparency and pave the way for future growth.

"HKEx is committed to devoting its best effort and resources to the provision of high quality market infrastructure and services for the investing community," said HKEx Chief Executive Charles Li. “The AMS/3.8 and MDS/3.8 upgrades will play a crucial role in maintaining the competitive edge of Hong Kong’s securities market and helping us capture new growth opportunities.”

AMS/3.8 will essentially operate in the same way as the current version of the securities market trading system. However, the system upgrade will increase the processing capacity over the existing system by about 10-fold to 30,000 orders per second, and reduce average latency to 9 milliseconds, 16 times faster than present. Market transparency will also be improved as AMS/3.8 will display the 10 best price levels compared to the five best price levels in the current system. In addition, some legacy system functions will be streamlined to improve Exchange Participants’ operational efficiency.

Upon the rollout of MDS/3.8, throughput for market data dissemination will be increased to 2,000 stock page updates per second from 1,000 stock page updates per second, the message rate target that the existing system will use at the end of 2010. As a transitional arrangement, HKEx will disseminate market data at both message rates in the first year following the upgrade.

HKEx plans to introduce a new set of real-time market datafeed products about six to nine months after the rollout of MDS/3.8 to meet the increasing demand for deeper and faster market data. Market users will be provided with more data product choices and flexibility in choosing the market datafeed which best fits their needs and reception capability.

Generally, online securities trading in Hong Kong was an early casualty of the dot-com meltdown and the international equity slump, with a number of major US brokerages retreating from the SAR in 2001 almost as quickly as they had arrived in 1999 and 2000, but by 2003 it seemed that on-line trading would finally have its day in Hong Kong, as a combination of better technology, burgeoning interest from mainland visitors and the impact of SARS pushed on-line trading volumes to historic highs.

Regulation

The Stock Exchange of Hong Kong (SEHK) operates as a private entity. Thus when the stock market crashed in 1987, the Securities Commission had no legal authority to intervene in the affairs of the SEHK. The regulatory infrastructure for the securities industry has since been revamped and, in 1989, the Securities and Futures Commission Ordinance was enacted. The Ordinance provides the legal basis for the SFC to supervise and regulate the securities industry. The SFC now has the authority to take actions necessary to protect the safety of the securities market and to prosecute individuals who breach securities market ordinances and codes.

After the stock market crash of 1987, the SFC was charged with overhauling the regulations that govern securities market participants. Applicants for a license to deal in securities or operate as an investment adviser are now required to meet the "fit and proper person" criterion. Applicants seeking a dealer’s license must also have minimum net capital of HKD5 million. There is a compensating fund for individuals whose brokers default on funds owed.

In 1991 the Securities (Insider Dealing) Ordinance was amended, resulting in higher penalties for insider trading. Fraud and misrepresentation are also punishable by the SFC. Another ordinance enacted in 1991 calls on a company’s directors and executives, as well as those who acquire more than 10 percent of a company’s voting shares, to publicly disclose their dealings. Firms seeking to list on the SEHK must make a prospectus publicly available. The SFC has the authority to determine which clearinghouses are permitted to settle accounts and their rules of operation in order to ensure a sound clearinghouse system.

In November 2000 the Hong Kong Government introduced the Composite Securities and Futures Bill which combined and replaced all ten existing pieces of securities and futures legislation. The new law gives the Securities and Futures Commission (SFC) the power to regulate Internet trading. In addition the SFC is also able to seize the working papers of market professionals during investigations. The Bill became law in 2001. An independent non-statutory body, known as the Process Review Panel, has been established to ensure that the SFC's internal operations, including its investigative and disciplinary procedures, are fair and consistent.

Despite the Securities and Futures Ordinance, the government has pushed for further integration of financial regulation, modelled on the UK's Financial Services Authority (FSA). In particular, the government was keen to address the perceived conflict of interest created by the fact that the current stock market regulator, Hong Kong Exchanges and Clearing (HKEx) is also itself a profit-making listed firm.

In March, 2004, it became clear that the SFC was to be the sole regulator for listing sponsors. SFC chairman, Andrew Sheng explained that: "In line with the wishes of the market, there will be a single regulatory regime for sponsors, and both the HKEx and Commission agree that we will enforce that regime."

He went on to add that that although investment banks sponsoring companies hoping to list on the stock exchange would not be expected to assume issuer liability: "They have to be liable for their own standards of conduct and their role in due diligence."

SFC MoU With the Financial Reporting Council

Hong Kong's Securities and Futures Commission and the Financial Reporting Council signed a memorandum of understanding, to enhance co-ordination and exchange of information between the two parties, in November, 2007.

According to a government statement, the pact outlines the working arrangements between the two bodies in areas of potential authority overlap and matters of common interest, so that they can discharge their functions effectively and enhance investor protection.

The agreement also outlines the framework for case referral, and establishes principal contact points to ensure efficient and effective communication.

The council's Chief Executive Officer MT Shum added that he is confident that the two parties will work together to enhance the financial reporting integrity of listed entities in Hong Kong.

The Financial Reporting Council is a statutory organisation which launched in July, 2007. Its main functions are to investigate - with respect to listed entities - auditing and reporting irregularities, enquire into non-compliance with financial reporting requirements, and to require listed entities to address any non-compliance identified.

 

 

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