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Hong Kong: Law of Offshore

The Securities and Futures Commission

The principal regulator of Hong Kong’s securities and futures markets is the Securities and Futures Commission (SFC), which is an independent statutory body established in 1989 by the Securities and Futures Commission Ordinance (SFCO).

The SFCO and nine other securities and futures related ordinances were consolidated into the Securities and Futures Ordinance (SFO), which came into operation on 1 April 2003.

The SFC is responsible for administering the laws governing the securities and futures markets in Hong Kong and facilitating and encouraging the development of these markets. Its regulatory objectives as set out in the SFO are:

  • To maintain and promote the fairness, efficiency, competitiveness, transparency and orderliness of the securities and futures industry;
  • To promote understanding by the public of the operation and functioning of the securities and futures industry;
  • To provide protection for members of the public investing in or holding financial products;
  • To minimise crime and misconduct in the securities and futures industry;
  • To reduce systemic risks in the securities and futures industry; and
  • To assist the Financial Secretary in maintaining the financial stability of Hong Kong by taking appropriate steps in relation to the securities and futures industry.

The SFC is divided into four operational divisions:

  • The Corporate Finance Division is responsible for the dual filing functions in relation to listing matters, administering the Takeovers and Mergers Code and Share Repurchases Code, overseeing the Stock Exchange's listing-related functions and responsibilities, and administering securities and company legislation relating to listed and unlisted companies.
  • The Intermediaries and Investment Products Division is responsible for devising and administering licensing requirements for securities and futures, and leveraged foreign exchange trading intermediaries, supervising and monitoring intermediaries' conduct and financial resources, and regulating the public marketing of investment products.
  • The Enforcement Division is responsible for conducting market surveillance to identify market misconduct for further investigation, undertaking inquiry into alleged breaches of relevant ordinances and codes, including insider dealing and market manipulation, and instituting disciplinary procedures for misconduct by licensed intermediaries.
  • The Supervision of Markets Division is responsible for supervising and monitoring activities of the exchanges and clearing houses, encouraging development of the securities and futures markets, promoting and developing self-regulation by market bodies.

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.

The September 2010 edition of the Enforcement Reporter published by the Securities and Futures Commission (SFC) reported that the demands of enforcement work have surged since 2007 with the number of cases having risen by over 100%. To tackle an increasing percentage of complex cases, the SFC has adopted a multilateral approach and is prepared to employ the full spectrum of remedies, both criminal and civil.

For the first time, the District Court jailed warrant traders for market manipulation, and remarked that sufficiently deterrent sentences should be passed against manipulators to protect investors and restore public trust in the financial markets. The SFC said it is "fully committed to stamping out market manipulation."

This issue reports that the SFC reached another resolution regarding Lehman Brothers-related structured products. The resolution enables about 2,160 eligible customer accounts of the bank concerned to get back their investment and other investors to obtain a full review of their cases under enhanced complaint-handling procedures.

The Reporter also gives an account of how recent decisions of the Hong Kong courts support the SFC's enforcement actions in combating unlicensed leveraged foreign exchange trading.

The Enforcement Reporter is a newsletter that highlights key enforcement outcomes and issues. It is available on the SFC website under “Speeches, Publications & Consultations” – “Publications”.

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.

There were four stock exchanges in Hong Kong until 1986, when the four were merged into the Stock Exchange of Hong Kong (SEHK) in an effort to consolidate management and control of the market. By the end of 1996, the SEHK was the second largest stock exchange in Asia and the seventh largest stock exchange in the world, with total market capitalization of US$446 billion. The Hong Kong Futures Exchange offers futures contracts in finance, properties, utilities, and commerce and industry.

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. Although there is no deposit insurance for bank customers, 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% 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.

Foreign-owned financial services firms can engage in securities market activities in Hong Kong in one of two ways. Firms that do not deal in the securities market as their primary business may engage in securities market transactions through an "exempt" license. Foreign-owned securities firms are also free to establish branches or subsidiaries in Hong Kong subject to approval from the SFC. Securities firms offer a wide range of services, from managing portfolios to selling foreign mutual funds to administering local pension plans.

In the late 1990's the HKMA conducted a thorough study of the SAR's banking sector and drew up a package of policy measures which were installed over a three-year period beginning in 2000. The details of these reform measures and the implementation timetable were contained in the HKMA's Policy Response to the Banking Sector Consultancy Study.

In November 2000 the Hong Kong government introduced the Composite Securities and Futures Ordinance which combined and replaced all ten pre-existing pieces of securities and futures legislation. The law, which was passed in 2002 and came into effect in 2003 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.

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.

The Ordinance makes the SFC responsible for regulating the securities business of banks; their securities departments were previously regulated by the Hong Kong Monetary Authority, not by the SFC, which regulates brokers. The law allows the SFC to penalise banks if their securities businesses are found to be in breach of regulations while allowing the HKMA to continue to operate as the frontline regulator conducting routine inspections.

In August, 2005, the SFC released the consultation conclusions of a review of the territory's Code on takeovers, mergers and share repurchases, the main revisions to which took effect on October 1, 2005.

The main revisions are:

  • 'Low-ball' offers - such offers might be used as a tactic to frustrate the offeree company’s business where there is no genuine intention to takeover the offeree company. The new provisions provide that a voluntary offer at a discount of more than 50% to the market price of the shares will not normally be allowed to proceed.
  • Frustrating actions - the Code has been amended to address concerns about risks to shareholders arising from an incumbent board taking deliberate but lawful action to frustrate a successful offeror from exercising board control. The revised Code provides that once a successful offeror calls a general meeting to appoint directors of the offeree company, the existing board must co-operate fully and convene a general meeting as soon as possible. During this period the existing board will also be restricted from taking any frustrating action such as issuing new shares, or selling or acquiring assets of material amounts without shareholder approval.
  • Telecom mergers - the Code has been amended to provide a broad framework for dealing with telecom mergers that are subject to review by the Telecommunications Authority under the laws introduced in July 2004. The SFC will keep this area under review and may amend the Code further in light of experience in dealing with such takeovers.

The SFC also consulted the public about whether the Code should be amended to provide for whitewash waivers of general offer obligations triggered as a result of on-market share repurchases.

The majority of respondents disagreed that such waivers should be permitted. Some suggested that the uncertainties as to the price and timing of on-market repurchases contributed to the undesirability of such an amendment.

One respondent emphasised that, in light of the prevalence of the controlling shareholder environment in Hong Kong, Hong Kong regulations have historically and justifiably placed greater attention on ensuring that the interests of minority shareholders are not unfairly prejudiced than regulations in other markets.

There was a concern that minority interests would be prejudiced in the guise of increasing shareholder value if the proposal was allowed. The Takeover Executive agreed with these concerns and believes that it is in the overall best interests of minority shareholders not to amend the Code in this respect.

Mr Peter Au-Yang, SFC’s Executive Director of Corporate Finance, noted that: "By keeping the Code up-to-date with market developments and international practice, the changes help to ensure continued fair treatment for shareholders who are affected by takeovers and mergers."

In September 2009, the SFC solicited views on proposals to enhance existing regulations governing the sale of unlisted securities and futures products, and thereby improve Hong Kong’s existing investor protection regime. The Commission said the proposals cover each stage of the investment life-cycle and are designed to enhance the current regulatory regime for the sale of investments to the public.

Another consultation, launched by the SFC in January 2010, solicited public comments on extending the existing corporate codes on takeovers and mergers, and share repurchases, to real estate investment trusts (REITs). After the consultation period, the SFC has said that it will analyze the comments received and aim to adopt a balanced and pragmatic approach for the purposes of enhancing investor protection and assisting the further development and growth of the Hong Kong REIT market.

In March 2010, Hong Kong’s Secretary for Financial Services and the Treasury, Professor K C Chan, announced a proposal to oblige listed corporations to disclose price sensitive information (PSI) in a timely manner to facilitate investors in making informed investment decisions.

The government further proposes that the statutory disclosure requirements be enforced by the Securities and Futures Commission (SFC). The SFC would promulgate guidelines on what constitutes PSI and when the safe harbours would be applicable to facilitate compliance by listed corporations. The SFC is in parallel consulting the public on its draft guidelines.

Subject to public comments, the government plans to introduce a bill to the Legislative Council to codify such disclosure requirements in the Securities and Futures Ordinance in the 2010/11 legislative session. The public were invited to give their views before the end of the consultation on June 28, 2010.

In October 2010, the SFC announced that a package of measures to strengthen the regulation of the sale of investment products has been well-received, with industry participants embracing them positively.

Speaking at the fourth annual conference of the Hong Kong Investment Funds Association on October 4, Martin Wheatley, the Chief Executive Officer of the SFC reiterated that in shaping new regulations, the SFC will continue to adopt a balanced approach and engage various stakeholders through consultation and active communication.

“Good regulation needs to balance investor protection and market development, and implementing these regulations requires efforts from both market participants and regulators,” he said.

The latest regulatory initiatives, which result from a three-month public consultation, are directed at enhancing investor protection and addressing issues highlighted in the report submitted by the SFC to the Financial Secretary in December 2008.

The measures - outlined in a set of consultation conclusions - include a consolidated product handbook with revised product codes for unit trusts and mutual funds and for investment-linked assurance schemes as well as a new product code for unlisted structured investment products. There are also requirements for product key facts statements to summarise the key features and risks of investment products, issuers to provide a post-sale “cooling-off” or “unwind” right for certain unlisted structured investment products to give investors a window to exit these investments, and conduct requirements for intermediaries to enhance selling practices relating to the sale of investment products.

The majority of the proposals in the consultation paper published in September 2009 will be adopted, with some modifications and amendments to take into account responses received during the consultation process.

“The measures will strengthen investor protection and ensure that Hong Kong remains a well-regulated, vibrant financial market. We thank our stakeholders for their constructive feedback, which has enabled us to achieve a healthy balance between the need for market innovation and investor protection,” Wheatley said.

Some of the measures will take effect immediately after publication of the revised codes in the Government Gazette, while transitional arrangements will be implemented in respect of some requirements to enable the industry to make the necessary adjustments.

Hong Kong's Securities and Futures Commission (SFC) announced in February 2011 that it was proceeding with proposals to refine the requirements for evidencing whether a person qualifies as a high-net-worth professional investor.

The purpose of the proposals is to create more flexibility by adopting a principles-based approach whereby firms may use methods that are appropriate in the circumstances to satisfy themselves that an investor meets the relevant assets or portfolio threshold to qualify as a professional investor under the Securities and Futures (Professional Investor) Rules.

A new regulatory regime governing credit rating agencies (CRAs) operating in Hong Kong became effective on June 1, 2011.

Under the new regime, CRAs and their rating analysts who provide credit rating services in Hong Kong, are required to be licensed and are subject to supervision by the Securities and Futures Commission (SFC). In addition, the licensees are required to comply with the provisions of the Code of Conduct for Persons Providing Credit Rating Services and with other legal and regulatory requirements that are generally applicable to all SFC licensees.

On April 21, 2011, the SFC released a circular in which it invited CRAs and their rating analysts to submit their licence applications ahead of the new regulatory regime coming into force. On June 1, the SFC issued licences to five CRAs and 156 of their rating analysts providing credit rating services in Hong Kong.

In May 2011, Hong Kong’s Securities and Futures Commission (SFC) launched a consultation inviting the public to comment on the draft legislation that will give effect to the proposed short position reporting regime.

Under the proposed regime, a short position that hits the threshold of 0.02% of the issued share capital of a listed company, or a market value of HKD30m (US$3.9m), whichever is lower, has to be reported to the SFC on a weekly basis. In general, the party who beneficially owns the short position will be responsible for the reporting.

In the case of funds, the reporting requirement applies to each fund. The fund manager may report the position on behalf of each of the funds it manages but will not be required to aggregate the short positions of different funds or be permitted to net positions between different funds.

In the case of a group structure that has multiple legal entities (for example, global financial institutions), the reporting obligation will be on individual legal entities within the group structure. They are not required to aggregate the short positions within the group.

The reporting requirement will only apply to the constituent stocks of the Hang Seng Index, the Hang Seng China Enterprises Index and other financial stocks specified by the SFC. The reporting requirement may be tightened to further enhance transparency and monitoring in contingency situations. Short positions created via over the counter trading, and economic short positions created by use of derivatives, will be excluded for reporting purpose.

Jersey Letter of Intent

In September, 2005, the Jersey Financial Services Commission and Hong Kong’s securities and futures market regulator, the Securities and Futures Commission, signed a Letter of Intent which provides a framework for enhanced cooperation between the two regulatory authorities.

The Letter of Intent provides a formal basis for both regulators to work towards several goals, including:

  • equivalence of regulatory frameworks in place in each jurisdiction in the areas of regulation, supervision and marketing of investment products;
  • the mutual recognition of investment products; and
  • further strengthening of regulatory cooperation and assistance in matters pertaining to cross-border supervision of fund management activities.

The authorities agreed to establish a bilateral working group to work towards the achievement of objectives set out in the Letter of Intent.

Both the Commission and the SFC are members of the International Organisation of Securities Commissions (IOSCO) and signatories of the IOSCO Multilateral Memorandum of Understanding. The Letter of Intent is signed in the spirit of mutual cooperation between securities regulators fostered by IOSCO.

David Carse, then Director General of the Commission noted that: “I am delighted to sign this Letter of Intent with the Hong Kong SFC. The Commission considers that co-operation under the Letter will facilitate access to Hong Kong’s markets for Jersey investment products, and also help to develop the range of products that are available for distribution in Jersey. It will also provide a more formal basis for exchanging views with an important Asian supervisor on matters of common interest.”

Andrew Sheng, Chairman of the SFC added that: “The SFC is committed to facilitating the development of deeper and broader investment markets globally. We are delighted to sign this Letter of Intent with the Jersey Financial Services Commission, our second non-Asian partner in this endeavour. Jersey is strategically located and plays an important role in the European investment products market, and therefore ideally placed to explore with the SFC the means of achieving cross-border distribution of investment products between our respective markets to our mutual benefit.”



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