1. Notable Circulars/News Issued by the SFC
In focus: Depositaries  of Collective Investment Schemes ("CIS") in Hong Kong
The SFC launched the licensing regime for Type 13 regulated activity (“RA 13”) on 27 July 2023 and published a circular providing licensing guidance. Starting from 2 October 2024, depositaries will be required to obtain a licence or registration for RA13 under the Securities and Futures Ordinance (“SFO”), unless an exemption applies. The licensing requirement generally applies to top-level depositaries only, and covers both corporate and individuals (i.e. staff members of the depositaries carrying on RA13 activity).
The circular highlights regulatory requirements for depositaries, including maintaining sufficient capital, compliance with the Code of Conduct, and submission of financial returns and other statutory reports.
The SFC is currently accepting RA13 applications via WINGS, on which the forms are available. Existing firms which provide depositary services for relevant CISs in Hong Kong are required to submit their applications to the SFC on or before 30 November 2023 and include applications for the responsible officers or executive officers (which shall be submitted to the HKMA), as the case may be. The SFC will endeavor to complete processing all RA13 applications submitted by existing depositaries by 2 October 2024, the day on which the new regime comes into effect.
For officers and staff of existing depositaries, the SFC implemented a grandfathering arrangement, exempting them from the local regulatory framework paper (“LRP”) if their licence applications are submitted before 2 October 2024. These persons will be required to complete a training course on the legal and regulatory framework for RA 13. New entrants to the depositary industry after the commencement of the RA 13 regime must fulfill the usual competence requirements, including the LRP. In line with other licensing examinations, the Hong Kong Securities and Investment Institute will administer the licensing examinations related to RA 13.
In focus: All Licensed Corporations (“LCs”)
The SFC and the HKMA issued a joint circular setting out a new category of professional investors (“PIs”) – Sophisticated Professional Investors (“SPI”). A SPI is an individual PI who has fulfilled requirements on (i) financial situation, (ii) knowledge or experience and (iii) investment objectives. Intermediaries may apply a streamlined approach regarding suitability and disclosure when dealing with SPIs.
The HKMA and SFC updated their frequently asked questions to provide clarity on the expected standards for conducting suitability assessments and disclosing product information to clients with varying levels of financial sophistication.
The updated guidelines allow intermediaries to tailor their point-of-sale procedures based on the personal circumstances of SPIs. Intermediaries can apply a streamlined approach that is proportionate and risk-based when dealing with SPIs. This approach allows intermediaries to simplify the point-of-sale procedures and reduce disclosure procedures for qualifying SPIs, subject to specific onboarding and continuous monitoring requirements.
Given the introduction of SPIs and the related streamlined approach, licensed corporations and associated entities should consider updating their client onboarding and suitability internal control measures to ensure their continued compliance with all applicable requirements when adopting the streamlined approach.
*KWM Insight: You may also refer to our article: Capital Attraction: SFC and HKMA Streamline Suitability Obligations for Sophisticated Professional Investors for further information.
In focus: Virtual asset trading platforms
The SFC issued a warning regarding unlicensed virtual asset trading platforms (“VATPs”) that engage in improper practices.
The SFC observed that certain unlicensed VATPs falsely claimed to have submitted licence applications to the SFC, misleading the public into thinking they are compliant with the SFC’s regulatory requirements. For these VATPs, the SFC made clear that it is an offence for any person to make a fraudulent or reckless misrepresentation for the purpose of inducing another person to trade in virtual assets.
The SFC also addressed VATPs that fail to comply with its requirements. In particular, VATPs that may launch virtual assets for trading by retail clients, trading services in virtual asset derivatives, or arrangements involving virtual assets such as virtual asset "deposits", "savings" or "earnings" which are prohibited. The SFC will take into account these non-compliant activities when they consider their VATP applications.
The SFC warned investors of the improper practices of some unlicensed VATPs. The SFC reiterated that as and when the SFC approves a VATP to provide services to retail investors, the list of virtual asset trading platforms published on the SFC's website will be updated. The warning shows that the SFC continues to monitor the VATP industry in Hong Kong since the launch of the licensing regime in June 2023.
2. Consultations Issued by the SFC
In focus: RA1 LCs and registered institutions (“RIs”)
In June 2022, the SFC published the “Consultation Paper on Proposed Amendments to Enforcement-related Provisions of the Securities and Futures Ordinance” which covered 3 main areas of proposed amendments:
- amendments to s.213 of the SFO to expand the basis on which the SFC may apply for remedial and other orders against a regulated person;
- amendments to the professional investor exemption for offers of investments under s.103(3)(k) of the SFO; and
- amendments to the insider dealing provisions under the SFO to expand the scope of the insider dealing market misconducts and offences.
More than a year after the publication of Consultation Paper, the SFC issued the consultation conclusions. Of the three amendments originally proposed, the SFC will proceed with the proposed insider dealing amendments but will put the other amendments on hold after considering feedback from the industry.
This table summarises the proposed insider dealing amendments:
In focus: RA2 LCs and RIs
The SFC released its consultation conclusions on risk management guidelines for licensed futures brokers. The consultation was originally published in November 2022 and aims to provide guidance to licensed corporations licensed for Type 2 regulated activity (“Futures Brokers”) to better manage the risks relating to their futures business, in the form of a new set of guidelines.
The guidelines provide Futures Brokers must establish a comprehensive risk management framework covering various aspects of futures brokerage operations. The framework encompasses market risk management, commodity futures trading, client credit risk management, concessionary margining, and risk management over executing or clearing agents. The guidelines also include requirements for funding liquidity risk management, safeguarding client assets, trading in futures markets outside of Hong Kong, and stress testing.
The SFC has implemented a transitional period of six months for Futures Brokers to comply with the guidelines. An additional 12-months transitional period will be given to Futures Brokers to implement trading system changes to monitor and manage client risk limits and carry out stress testing.
The guidelines have been gazetted and will come into effect at the end of the transitional period on 25 February 2024.
3. Notable Enforcement News
3.1 COURT OF APPEAL RULES IN FAVOUR OF PROSECUTION IN IPFUND CASE
In focus: RA1 and 9 LCs and RIs
In May 2014, the SFC commenced proceedings against IPFUND Asset Management Limited (“IPFUND”) and Sin Chung Yin (“Sin”) for unlicensed dealing of collective investment schemes (“CISs”). The SFC alleged that between 2011 and 2012, IPFUND and Sin offered collective investment scheme interests to investors. Through newly incorporated Hong Kong private companies (as shell companies), IPFUND and Sin purchased 16 properties, which were then promptly sold to new purchasers. Investors were invited to subscribe to interests in those shell companies and receive profits based on their percentage interest if the properties were sold successfully by way of confirmor sale. IPFUND received a percentage of the profits as consultancy fees. If the properties were not sold to new purchasers by way of confirmor sale (and thus requires a bank mortgage), the investors will sign a declaration of trust and a shareholders agreement with the nominal shareholder of the shell company holding the underlying property, with each investor being allocated his or her proportionate number of shares of the shell company based on their respective size of investment in the property, held on trust by the nominal shareholder of the shell company on their behalf.
The District Court acquitted IPFUND and Sin on the basis that, amongst other reasons, while the arrangements fell under the definition of a CIS, the interests in the CISs were private company shares, which are excluded from the definition of “securities” under the SFO. Hence, such dealings did not amount to “dealing in securities”.
The prosecution appealed to the Court of Appeal, which ruled in favour of the appellant. The Court of appeal held:
- in the case of IPFUND and Sin, the interests that were distributed by them were choses in action, and not shares of the companies; and
- the proper approach for determining whether the exemption for Hong Kong private company shares apply, is to determine the type of beneficial interest that the investors have purchased. If the investors’ objective were the profits from the collective investment scheme, and not to acquire the shares, as it is in this case, then the exemption should not apply.
Nevertheless, the court stopped short of giving direct analysis on interpretation of the definition of “securities” and the relevant exemptions.
Based on the Court of Appeal’s judgment, the applicability of the exemption for Hong Kong private company shares in a CIS context is now in doubt. Notably, the SFC has not issued any further guidance following the Court of Appeal’s ruling. We will continue to monitor this space and report if there are any further updates.
In focus: RA1 LCs and RIs
An asset management company licensed for Type 4 and Type 9 regulated activities (“Company”) was reprimanded and fined HK$3.4 million by the SFC for regulatory and internal control issues. The issues identified by the SFC relate mainly to proper segregation of client money, ranging from HK$300 to HK$1.05 million. The Company did not segregate received client money within the prescribed time limit on three occasions and did not notify the SFC of such late segregation. The SFC took the view that these actions are in contravention of the Securities and Futures (Client Money) Rules and the Code of Conduct. It also found that the company issued inaccurate statements of accounts to three clients and failed to provide statements of accounts to four clients within the required timeframe on multiple occasions.
In focus: RA6 sponsors
The SFC fined a corporate finance services company licensed for Type 6 regulated activity (“Company”) HK$20 million for issues arising out of its role as a sponsor for six listing applications. The applications, submitted between September 2015 and December 2017, were for Pacific Infinity Resources Holdings Limited, AsiaPac Net Media Holdings Limited, Perpetual Power Holdings Limited, Van Chuam International (Cayman) Limited, Rising Sun Construction Holdings Limited, and Byleasing Holdings Limited. The SFC found that the Company did not conduct adequate due diligence in three of the applications, did not provide proper guidance on listing qualifications in three cases, and failed to disclose material information in the prospectuses of three companies. The SFC also partially suspended the Company’s licence such that it is not permitted to act as a sponsor for one year, or until the SFC is satisfied with the firm's controls and procedures for compliance.
In focus: Listed companies and their senior executives
The Market Misconduct Tribunal (“MMT”) found that Mayer Holdings Limited (“Mayer”) and nine former senior executives breached the SFO by failing to disclose inside information as soon as reasonably practicable. This decision came after the Court of Appeal allowed appeals by Mayer and its directors against an earlier ruling by the MMT and remitted the proceedings to the MMT. In the remitted proceedings, the MMT assessed the impact of the undisclosed information on potential buyers and sellers of Mayer’s shares and concluded that it would have had a material effect on the share price, thus constituting inside information. The MMT also found that Mayer lacked written guidelines and internal control policies for disclosing inside information, contributing to the breach. The former senior executives were also held responsible for intentional, reckless, or negligent conduct that led to Mayer's breach. The MMT will determine sanctions in a future hearing.
In focus: RA1 LCs and RIs
The SFC reprimanded and fined a securities brokerage firm licensed for Type 1 and Type 4 regulated activities ("Company") HK$3.5 million for issues with internal controls relating to monitoring of suspicious trading activities and recording of client order instructions. The SFC found that the Company did not effectively implement its internal policy on post-trade monitoring, resulting in a lack of proper examination of flagged unusual transactions during specific periods. Additionally, the Company failed to adequately document the findings and outcomes of these examinations and lacked effective compliance procedures. In relation to telephone order instructions, the Company failed to implement its internal policy on recording telephone orders and to properly maintain records for over 1,034 orders.
Any reference to “Hong Kong” or “Hong Kong SAR” in this article shall be construed as a reference to “Hong Kong Special Administrative Region of the People’s Republic of China”.