Registration, reporting and liability for derivatives transactions in Japan

Liability and enforcement

What is the territorial scope of the laws and regulations governing listed, cleared and uncleared equity derivatives transactions?

Under the FIEA, a foreign securities company may neither sell nor purchase securities, or enter into equity derivatives transactions with persons in Japan as counterparty unless that foreign securities company deals with such a person without any solicitation or in other exceptional cases. This prohibition indicates that the FIEA is applied if a party to an equity derivatives transaction is in Japan.

In addition, in cases involving unfair trading, such as insider trading, if the place of the unfair act is in Japan, for example, that the order is exercised at the OSE, then the FIEA applies.

What registration or authorisation requirements apply to market participants that deal or invest in equity derivatives, and what are the implications of registration?

In principle, those who conduct financial instruments business must be registered as a FIBO under the FIEA. The term ‘financial instruments business’ is roughly divided into four categories:

• the first-class financial instruments business;
• the investment management business;
• the second-class financial instruments business; and
• the investment advisory and agency business, with each category having separate registration requirements, such as minimum capital requirement, depending on the category.

Of these four categories, dealing or intermediating OTC derivatives transactions falls within the first-class financial instruments business, which has the most stringent registration requirements. In addition, where there are requirements seeking to demonstrate financial resources, any applicant for these licences is required to have appropriate human resources capabilities and expertise.

Registered FIBOs are eligible to apply to be a participant in a financial instrument exchange. During the course of such an application process, the applicant’s capital amount, net asset value, capital adequacy ratio, profit stability and management system will be screened.

In addition, persons who are not registered as a FIBO can, nevertheless, trade at a financial instrument exchange by obtaining special permission for transaction-at-exchange from the FSA and a trading qualification from the relevant financial instruments exchange.

What reporting requirements apply to market participants that deal or invest in equity derivatives?

Under the OSE’s rules, market participants must report to the OSE in the event certain things change with respect to such a participant, including:

• the termination or cessation of business;
• merger;
• insolvency;
• change of business name; and
• change in directors.

In addition, the OSE may, as necessary, demand that a market participant submit requested information materials and inspect a participant’s books, documents and other records.

What legal issues arise in the design and issuance of structured products linked to an unaffiliated third party’s shares or to a basket or index of third-party shares? What additional disclosure and other legal issues arise if the structured product is linked to a proprietary index?

It depends what type of product is being issued, but there are disclosure issues to be made through a security registration report when a public offering of securities or a secondary distribution of securities is conducted. This disclosure issue is not particular to products linked to an index or other derivatives.

Describe the liability regime related to the issuance of structured products.

See question 13.

What registration, disclosure, tax and other legal issues arise when an issuer sells a security that is convertible for shares of the same issuer?

A security that is convertible into shares may be issued as class shares subject to call, class shares with a put option, or share acquisition rights. When the call option or put option with class shares is exercised, either the shares of the issuer or a certain amount of money are allocated to the class shareholders.

Class shares or share acquisition rights are securities under the FIEA and, accordingly, the issuer of such convertible instruments has the same disclosure and notification obligations by means of a security registration report to an LFB as when a public offering of securities or a secondary distribution of securities is made.

Regarding moving strike convertible bonds, the JSDA has a regulatory standard for its members.

What registration, disclosure, tax and other legal issues arise when an issuer sells a security that is exchangeable for shares of a third party? Does it matter whether the third party is an affiliate of the issuer?

An issuer may issue bonds exchangeable for stocks of other companies. Because such exchangeable bonds are securities under the FIEA, an issuer of such exchangeable bonds has the same disclosure and notification obligations by means of a security registration report as when a public offering of securities or a secondary distribution of securities is effected.