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Suspension of responsible officer’s licence for investment advisory failures

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Authored by: Scott Carnachan and Jennifer Baccanello

The Securities and Futures Commission (SFC) imposed a fine of HK$1.5 million on a licensed corporation (LC) and suspended the licence of its responsible officer (RO) for seven months for investment advisory failures. Following an appeal by the LC and RO to the Securities and Futures Appeals Tribunal (SFAT), SFAT upheld the SFC’s decision and increased the suspension period for the RO to nine months.

This case highlights several important considerations for financial services firms and individuals, including (i) managing liquidity of funds, (ii) cross trades, and (iii) disclosures to investors, and the responsibility of responsible officers to ensure compliance by licensed corporations.

In commenting on SFAT’s decision, Mr Christopher Wilson, the SFC’s Executive Director of Enforcement, said “The SFC is determined to crack down on asset management misconduct and will impose harsher penalties going forward to deter such misconduct”.


During the relevant period, the LC was licensed by the SFC to carry on type 4 (advising on securities) and type 9 (asset management) regulated activities. The LC was appointed as the principal investment adviser to a Cayman Islands investment manager in respect of five Cayman-domiciled funds (each a Fund). Each Fund invested in small and medium enterprise stocks and employed an aggressive investment strategy. The offering memoranda for the Funds described how each Fund placed reliance on its management team which included the investor advisor, i.e. the LC. The RO was primarily responsible for providing investment management and advisory services to the Funds.

After investigation, the SFC determined that both the LC and RO had failed to give appropriate advice to the Cayman-Islands based manager of each Fund in respect of two principle matters:

(a) a series of loan arrangements entered into between the Funds to deal with liquidity problems – the SFC found that seven loan agreements entered into amongst the Funds were for the sole purpose of addressing the borrowing Funds’ liquidity needs, with little regard paid to the lending Fund’s interests; and

(b) a series of cross trades of listed stocks entered into between the Funds to undertake rebalancing of the Funds’ investment portfolios at a significant discount to the relevant stocks’ most recent closing prices.

The LC and the RO, in their application for review to the SFAT, sought to do two things:

(1) set aside the SFC’s findings of culpability; and

(2) in the event that culpability was still found by the SFC, to challenge the reasonableness of the SFC’s sanctions.

Key issues

The SFAT referred to, among other matters, the SFC’s key findings that:

  • the LC and RO had acted culpably and failed to ensure that the loan arrangements were fair to and in the best interests of both the borrowing and lending funds;
  • the RO, being part of the senior management of the LC, had breached General Principle 9 of the Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission (Code of Conduct), which stipulates that senior management bear primary responsibility for ensuring the maintenance of appropriate standards of conduct and adherence to proper principles; and
  • the RO attempted to rely on the fact that his duties as investment adviser had been set out in private unwritten arrangements between the RO and one of his business counterparts and therefore the RO argued that his duties were not precisely those that were stated in the written terms and conditions of the investment advisory agreements.

Sanctions imposed

Monetary fine

SFAT agreed that the SFC’s sanction orders were fair and reasonable, including the imposition of a HK$1.5 million fine on the LC.

Suspension of RO’s licence

In order to ensure that industry participants properly appreciate the role that an investment advisor has, SFAT decided in this case that the RO required a heavier suspension than the SFC had originally decided upon and increased the suspension of the RO’s licence from seven months to nine months.

Key takeaway points

1. Compliance with regulatory requirements is essential: Firms and individuals must comply with regulatory requirements and take appropriate measures to prevent and detect potential breaches. Failure to do so can result in regulatory enforcement actions and significant financial penalties. Key regulatory requirements from the SFC’s Code of Conduct that SFAT referred to in this case include:

    a. General Principle 1 – Honesty and fairness: In conducting its business activities, a licensed person should act honestly, fairly, and in the best interests of its clients and the integrity of the market.

    b. Paragraph 11.1 – Handling of client assets: In conducting its business activities, a licensed person should act honestly, fairly, and in the best interests of its clients and the integrity of the market.

    c. General Principle 6 – Conflicts of interest: Licensed persons must seek to avoid such conflicts but, if they cannot be avoided, they must ensure that their clients are fairly treated.

2. Ethical responsibilities for licensed persons: Persons who hold themselves out to be experts in finance and fund management are expected to exhibit professionalism and integrity. The inability to act ethically and in accordance with the regulatory requirements for licensed persons will cast doubt on one’s fitness and properness to be licensed by the SFC.

3. Licensed persons need to understand their fiduciary obligations: Individuals are expected to be able to understand the fiduciary obligations owed to clients, namely, the obligation to act in the best interests of clients. In this case, the LC and RO were both under a fiduciary obligation to ensure that the interests of investors were protected at all times. Putting in place certain measures just “for the time being” or “not having sufficient time” to properly carry out a task are not reasonable excuses for not upholding fiduciary obligations owed to clients.

4. Ensure the accuracy of fund documentation provided to investors: Potential investors that read offering memoranda should be given correct information on all matters. In this case, the investors should not have been misled as to the true role of the investment adviser.

5. Record keeping and internal controls are critical: Firms and individuals must maintain adequate records and internal controls to ensure compliance with regulatory requirements and to prevent and detect potential breaches. Inadequate record keeping and internal controls can expose firms and individuals to regulatory enforcement actions and significant financial penalties. In this case, the LC’s argument that it needed to deal with specific matters by way of urgency were not a reasonable excuse for the LC failing to maintain succinct and relevant records.

6. Engage an independent reviewer to assess remedial measures: Engaging an independent reviewer can provide valuable insight and assurance that remedial measures are effective and address the root causes of any deficiencies. In this case, the LC was required by the SFC to engage an independent reviewer to assess the LC’s remedial measures.

Key Contacts

Scott Carnachan

Consultant | Financial Services

Email or call +852 2825 9265

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