On 5 January 2018, the Hong Kong Monetary Authority (HKMA) issued a circular setting out guidance relating to the implementation of changes to the paragraphs of the Code of Conduct for Persons Licensed by or Registered with the SFC (Code) relating to: (i) ‘Disclosure of monetary and non-monetary benefits’ (paragraph 8.3), and (ii) ‘Independence’ (paragraph 10.2) (the New Circular). The Code changes will become effective on 17 August 2018. The Securities and Futures Commission published consultation conclusions and a set of frequently asked questions (FAQs) on these issues on 16 November 2017.
The HKMA previously set out its expectations for the structured product selling practices of authorized institutions (AIs) in a circular dated 20 December 2012 (the Initial Circular). This stated that AIs are expected to apply consistently high standards and act in the best interests of their customers when selling structured products. It further emphasised that AIs are expected to follow similar standards when selling structured products which are both regulated by the SFO, and those which are not (the latter being unregulated structured products). In particular, the Initial Circular emphasised the expectation that AIs adhere to paragraphs 8.3 and 8.3A of the Code when selling unregulated structured products.
Following the revisions to paragraph 8.3(b)(ii) of the Code, the New Circular provides that where monetary benefits received or receivable directly or indirectly from a product issuer by an AI and/or its associates for distributing an unregulated structured product are not quantifiable prior to or at the point of entry into a transaction, the AI must disclose both the existence and the nature of such benefits, as well as the maximum percentage of such monetary benefits receivable per year prior to entering the transaction. Such disclosures must be made on a transaction basis and may be complied with by disclosing a percentage range on an annualized basis (provided that the maximum percentage is always disclosed). The New Circular also encourages AIs to disclose the dollar equivalent, as they believe that this is a good indicator of the underlying fees paid / payable to an intermediary by a product issuer. The FAQs make it clear that such a disclosure under paragraph 8.3(b)(ii) of the Code is not required in cases where no explicit monetary benefit is gained but the distributor will benefit from the origination or distribution of an investment product. However, the New Circular emphasises that where unregulated structured products are issued by the AI or an associate, such benefits will be captured by paragraph 8.3(b)(i), and as such, AIs ought to pay close attention to this issue.
Following the revisions to paragraph 8.3A(a)(iii) of the Code, the New Circular provides an AI must disclose whether or not it is independent (and on what grounds it has come to this conclusion) prior to distributing an unregulated structured product to a customer. The test as to the independence of an AI is set out in paragraph 10.2 of the Code. Such disclosures may be made on a one-off basis.
The HKMA emphasised that the enhanced disclosure requirements discussed above must be implemented by the end of 2018 and it is the responsibility of senior management of AIs to ensure that sufficient controls and practices are in place by this deadline.