On 19 June, the SFC published its latest Annual Report, which covers the 12 month period up to 31 March 2019. As in previous years, the report provides a good summary of what the SFC has done over the past year particularly in terms of achieving its publicly stated goals and provides insight into its priorities moving forward.
- Sales practices, in particular suitability, remain one of the SFC’s top priorities. The SFC continues to review licensed firms’ compliance with the suitability obligations and the new requirements governing the distribution of complex products. Licensed corporations now need to ensure product suitability and provide product information and warning statements to clients whenever transacting in complex products for a client even if the product is sold on an unsolicited basis.
- Greater emphasis on competence of licensed individuals. As one way of keeping track of “rolling bad apples”, the revised SFC notification form requires firms to disclose to the SFC whether a licensed employee who is leaving the firm had been part of any internal investigation commenced in the six-month period prior to them leaving the firm (and if an internal investigation is commenced subsequently, a separate notification is also now required).
- Proposal to regulate trustees/custodians of SFC-authorised funds. With the aim of better aligning Hong Kong with international standards and practices in major overseas jurisdictions, the SFC is considering a new regulated activity for the safekeeping and custody of assets by trustees and custodians of SFC-authorised funds.
- Continue to explore more Mutual Recognition of Funds (MRF) arrangements. The SFC said that it will continue to explore more MRF arrangements with overseas jurisdictions and to enhance the Mainland-Hong Kong MRF regime, so as to broaden the investor base for Hong Kong investment funds.
- Keep its regulations effective as new technologies are introduced. Where innovation poses risk to investor protection, the SFC said that it acts to manage the risk. A few licensed firms are now operating in the SFC Regulatory Sandbox, which provides a confined regulatory environment for firms to conduct regulated activities before the “Fintech” is used on a fuller scale.
Moving towards risk-based on-site inspections
- Similar number of inspections. The SFC conducted 304 risk-based on-site inspections during the year (compared with 301 in 2017/18), including thematic inspections on a wide range of issues.
- Nature of breaches. The SFC noted 1,236 incidents of breaches (down on the 1,476 noted in 2017/18) of the SFC’s rules. The majority of the breaches related to: (a) internal control weaknesses (e.g. deficiencies in management reviews and supervision, operational controls over the handling of client accounts, segregation of duties, information management and adequacy of audit trail for internal control purposes); (b) the Code of Conduct (e.g. risk management, record keeping, client agreements, safeguarding of client assets and management responsibilities); and (c) non-compliance with AML guidelines.
Enforcement activities – even heavier fines
- IPO sponsor failures major contributor to the increase in fines. A total of HK$940 million was imposed in fines, representing a dramatic increase of about 95% compared to 2017/18 (HK$483 million), although that figure was bloated by the whopping HK$867.7 million in fines for IPO sponsor failures.
- Other key enforcement cases. The SFC also imposed fines in cases involving deficient selling practices, anti-money laundering related breaches, internal control failures, mishandling of client money and failures in complying with the short selling rules, etc.
- Disciplinary Fining Guidelines. The SFC updated the Disciplinary Fining Guidelines in August 2018 to codify the fining principles confirmed by the Securities and Futures Appeals Tribunal in a case. It is now clear that multiple culpable acts or omissions constituting misconduct may attract multiple penalties even if they are of the same generic nature.
Key statistics – they are very busy!
- Number of SFC licensees continues to rise. The number of SFC licences (i.e. corporate and individual) increased to 46,562, (up by 5% compared to 2017/18), of which the number of licensed corporations rose to 2,960 (up by 10% compared to 2017/18). Both these numbers are record highs.
- More new licensing applications.8,942 new licensing applications were made over the period (up by 8% compared to 2017/18). This is also a record high.
- Increase in complaints. The SFC handled 6,034 complaints (up by 124% compared to 2017/18). Complaints involving listing-related matters and disclosure of interests contributed to the rise in complaints.
- Performance pledge. 15,070 out of 17,720 (about 85%) licensing applications that were subject to performance pledges were actually processed within the applicable period. According to the report, completion of the vast majority of the other 2,650 applications was delayed for reasons beyond the SFC’s control (e.g. unresolved fitness and properness issues, applicants failing to provide essential information).