The Monetary Authority of Singapore (“MAS”) has issued a consultation paper on 3 June 2015 setting out the proposed regulatory framework for OTC intermediaries, as well as proposed amendments to the Financial Advisers Act (“FAA”) and the Securities and Futures Act (“SFA”) in relation to execution-related advice and marketing of collective investment scheme (“CIS”) respectively. The proposed regulatory framework for OTC intermediaries follows from MAS’ earlier proposal in its policy consultation of 11 February 2015 to redefine capital markets products and regulated activities, and expand the Capital Markets Services (“CMS”) licensing requirement to intermediaries dealing in OTC derivative contracts.
2. Proposed Regulatory Framework for OTC Intermediaries
MAS has developed the proposed regulatory framework with the distinct characteristics of the OTC derivative market and the roles played by OTC intermediaries in mind. Under the proposed regulatory framework, OTC intermediaries will be required to fulfil the various following requirements:
2.1. Admission criteria: It is proposed that OTC intermediaries meet base capital, as well as the Fit and Proper, requirements; similar to such prerequisites required from CMS licensees (other than for fund management). As the OTC derivative market has limited retail participation and is generally dominated by sophisticated and institutional players, OTC intermediaries will need to meet the minimum five-year corporate track record requirement only if they serve retail investors.
2.2. Business conduct requirements: MAS proposes to extend various business conduct requirements in the Securities and Futures (Licensing and Conduct of Business) Regulations (“SFR(LCB)”) currently applicable to CMS licensees, to OTC intermediaries, including requirements pertaining to:
- risk management and controls (Regulation 13);
- presentation and contents of advertising materials (Regulation 46);
- furnishing of risk disclosure statement (Regulation 47E);
- (where the OTC intermediary deals in centrally-cleared OTC derivative contracts) handling and treatment of customers’ moneys and assets (Parts III and IV of the SFR(LCB))1; and
- record keeping (Regulation 39).
2.2.1. To cater for the inclusion of OTC intermediaries under the new category of CMS licensees dealing in capital markets products, MAS also proposes to modify and amend existing business conduct requirements in the SFR(LCB) to require that all CMS licensees dealing in capital markets products:
- furnish the risk disclosure statement to customers or counterparty (other than related parties of the CMS licensee or licensed financial institutions) disclosing (i) the material risks of the product, and (ii) whether the CMS licensee is acting as a principal or an agent to the customer or counterparty;
- disclose to customers the costs associated with and the level of protection accorded by individual client segregation, vis-à-vis omnibus segregation, when offering customers the option for customers’ moneys and assets to be individually segregated (CMS licensees are not required however, to deposit the moneys or assets of customers, who have opted for individual client segregation, into a trust account separate from other customers who have not opted so);
- keep proper records of OTC derivative transactions undertaken for customers by maintaining the following information:
- Customer identification information and other documents relating to the establishment of the business relationship;
- Information necessary to reconstruct the derivative transaction, including:
- Pre-execution information (e.g. quotes, bids, offers, instructions, date and time of quotations provided to and received from counterparty);
- Execution information (e.g. terms of swap, time and price of execution, name of counterparty, date of swap agreement, fees, commission and other expenses); and
- Post-trade information (e.g. confirmation, time of confirmation, reconciliation, netting, compression, valuation, margining, collateralisation, central clearing);
- Payments and interest received on the derivative transaction;
- Daily value of each outstanding derivative transaction;
- Daily initial and variation margin payable or receivable;
- Daily value of all collateral held by or posted by the CMS licensee, including transfer of collateral; and
- All charges against and credits to each counterparty’s account (e.g. funds deposited/withdrawn, unrealised gains/losses).
- (in line with the current retention requirements under the SFA) maintain the records for:
- A period of five years following the termination of the business relation, in respect of the information referred to in item (a) above;
- A period of five years following the completion of the transaction, in respect of the information referred to in items (b) to (g) above (with the exception of oral communication relating to pre-execution information); and
- A period of one year in respect of oral communication relating to pre-execution information.
- adopt appropriate risk mitigation techniques when dealing in non-centrally cleared OTC derivatives. As the OTC derivative market tends to be characterised by non-standardised, privately negotiated transactions between counterparties, such CMS licensees are required to have policies and procedures ensuring:
- Execution of written trading relationship documentation with counterparties;
- Execution of trade confirmation for non-centrally cleared OTC derivative transactions within a specific timeframe, taking into account the status of the counterparty;
- Portfolio reconciliation of non-centrally cleared OTC derivative contracts with the counterparty and prompt reporting of material disputes to MAS; and
- Portfolio compression of non-centrally cleared OTC derivative contracts, where appropriate.
To maintain a level playing field, MAS proposes that banks, merchant banks and finance companies exempted from holding a CMS licence under section 99(1)(a), (b) and (c) of the SFA be required to comply with the above business conduct requirements for dealing in OTC derivatives.
2.3. Capital and financial requirements: MAS proposes that CMS licensees dealing in OTC derivative contracts be subjected to base capital requirements similar to existing requirements for CMS licensees trading in futures contracts, as well as (other than those dealing with non-retail investors)2 ongoing risk-based capital requirements under the Securities and Futures (Financial and Margin Requirements) Regulations (“SFR(FMR)”).
2.4. Representative notification requirement: MAS proposes to extend the existing representative notification requirement under the SFA and FAA to persons who act as representatives in respect of dealing in or advising on OTC derivative contracts. CMFAS examination requirements may be reviewed and consultation will be made on proposed changes (if any). MAS further proposes to grandfather (i) existing representatives dealing in or advising on OTC derivative contracts who may need to be appointed as representatives of their principal companies under the new regime, and (ii) persons who are already appointed representatives of their principal companies in respect of the current regulated activities under the SFA or FAA.
3. Licensing and other arrangements
Under the new SFA and FAA regime, entities and their representatives who are currently dealing in or advising on OTC derivative contracts will be required to hold a CMS licence or be notified to MAS (as the case may be) in order to continue with their OTC derivative activities. MAS is proposing a one-year transitional period, from the date that the new regime is effected, during which such entities and representatives may submit relevant licensing applications or notifications.
Currently, foreign companies whose conduct of an SFA-regulated activity or provision of any financial advisory service is effected under an approved arrangement between the foreign company and its related corporation in Singapore, are exempted from the requirement to hold the relevant licences under Paragraph 9 of the 3rd schedule to the SFA (“Para 9”) and Paragraph 11 of the 1st schedule to the FAA (“Para 11”) respectively. In this regard, MAS has also proposed to extend the application of Para 9 and Para 11 to dealing in and advising on OTC derivative contracts.
4. Proposed Amendments in Relation to Execution-related Advice under the FAA
MAS is proposing to remove the regulated activity of “marketing of CIS” under the FAA and to collapse such regulated activity under the scope of “dealing in securities” under the SFA. As a result of the change, dealing in CIS (which includes marketing of CIS) will be regulated only under the SFA.
Under the current regulatory regime :
- the activities of “dealing in securities” and “marketing of CIS” are regulated separately under the SFA and FAA despite the fact that “marketing of CIS” forms a sub-set of the regulated activity of “dealing in securities” since marketing efforts are often made with the goal of generating sales; and
- the “marketing of CIS” is itself regulated under two separate activities in the SFA and FAA - a licensed financial adviser (“FA”) or an exempt FA under section 23(1)(a)-(e) of the FAA (collectively, the “Financial Advisers”) which markets CIS is exempt from the requirement to hold a CMS licence for dealing in securities when it markets or redeems units in a CIS (the “SFA Dealing Exemption”) and a CMS licensee is exempt from the requirement to hold an FA licence when it markets CIS.
The objective of the new proposal is to ensure a level playing field for all entities marketing CIS given that the current disparate approach could result in entities being subject to different business conduct requirements for the conduct of similar activities.
Further, MAS has proposed that while Financial Advisers and their representatives relying on the SFA Dealing Exemption will not be required to hold a CMS licence or be appointed representatives under the SFA, they will be required to comply with the relevant business conduct requirements for dealing in CIS under the SFR(LCB).
Under the SFA Dealing Exemption, Financials Advisers may only facilitate the subscription or redemption of unlisted CIS by their customers. Following the receipt of industry feedback and to allow Financial Advisers to better serve their customers, MAS is proposing to expand the SFA Dealing Exemption to allow Financial Advisers to help customers transact in listed CIS too, where such dealing is incidental to their advisory activities.
With the proposed changes, licensed fund managers (“LFMCs”), who are exempt FAs under section 23(1)(d) of the FAA, as well as registered fund management companies (“RFMCs”), which are exempt under regulation 32A of the Financial Advisers Regulations, will be deemed to be dealing in securities under the SFA when marketing CIS. Nevertheless, LFMCs will continue to be exempt from holding a CMS licence for dealing in securities where such dealing is incidental to their fund management activity. Lastly, it is proposed that LFMCs and RFMCs be exempted from holding a CMS licence for dealing in securities when marketing CIS which are managed by the FMCs themselves or their related corporations.
5. Consultation period
The consultation period ends on 3 July 2015.