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Renewed Suitability Requirements for the Distribution of Investment Products in Hong Kong
25 3月 2019
After rounds of consultation, the Securities and Futures Commission’s (the “SFC”) Guidelines on Online Distribution and Advisory Platforms (the “Guidelines”) and the related revisions to the Code of Conduct for Persons Licensed by or Registered with the SFC (the “Code of Conduct”) will soon come into effect. The effective date was initially set to be on 6 April 2019 but the SFC has declared a 3-month extension to 6 July 2019 (the “Effective Date”). While the Guidelines is a response to the growing number of online advisory and distribution platforms for investment products operated by licensed or registered persons/corporations (“Online Platforms”) targeting individual customers, the revised Code of Conduct will have a wider effect in that it will cover both online and offline activities.
Under the existing procedures, licensed or registered persons/corporations did not have to decide whether an investment product is suitable for a client in the case of an “execution-only” order, a term to denote that the order is made out of the request by the client not resulting from any solicitation or recommendation of a licensed or registered person/corporation. Since it was assumed that a client is aware of the risks involved or is willing to take on the risks anyway before proceeding with an execution-only order, it was thought that such orders required less protection comparing with solicited orders. However, in view of the increasing trend of consumers transacting a wide range of high-risk investment products on Online Platforms without involving any human element on the sale side, SFC has given up this long-held laxer approach towards execution-only orders.
To tackle the problem, the SFC has coined a term called “complex product” which essentially covers all non-plain vanilla investment products, whether exchange-traded or not. From the Effective Date, even for execution-only orders, Online Platforms will have to decide whether an investment product is a complex product, and if yes whether that product is suitable for a particular customer. If an Online Platform finds that a complex product is not suitable for a particular client, it will have to cease proceeding that order. The only exception seems to be that Online Platforms will not need to ensure complex products which are also derivative products traded on an exchange in Hong Kong or in a specified jurisdiction are suitable for a client where there has been no solicitation or recommendation. However, Online Platforms will still need to assess a client’s knowledge of derivatives and understand his net worth under these circumstances according to the old rules.
Furthermore, to enable clients to make an informed decision before buying a complex product, Online Platforms will have to provide the minimum prescribed information on the key nature, features and risks of such products. Online Platforms will also need to ensure that there are prominent and clear warning statements to clients with regard to such products.
The above requirements will apply to individual professional and retail investors.
For Online Platforms which provide execution-only services and continue to sell complex products, the regulatory changes mean that they will need to adjust their suitability framework. Firstly, Online Platforms will need to conduct extensive product due diligence on all products (especially overseas ETFs) that can be sold via their platforms to decide whether they are complex products and understand their features and risks. Secondly, Online Platforms will need to decide whether the product ordered is nevertheless a qualified exchange-traded derivative product so that they are exempted from the suitability obligation. When receiving an order for a complex product that is not a qualified exchange-traded derivative product, Online Platforms will then need to ensure that the product ordered matches the client’s risk profile and other specific circumstances by assessing whether there is any risk mis-match, tenor mis-match, concentration risk, etc., before execution.
In conclusion, licensed or registered persons/corporations may need to rethink their relevant policies and procedures for suitability framework to take into account the latest requirements, which will also apply to offline selling activities from the Effective Date.
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