SFC Lehman Report

At the end of 2008 SFC has made a report to the Financial Secretary on issues raised by Lehman Minibonds crisis. Then it released the report but has removed certain contents to avoid prejudicing the investigation and enforcement work that is under way. This report is in fact quite a good summary of the existing regulatory framework and requirements governing the selling of investment products to retail investors. Compliance officers working in this area should read through it in detail.

This report has made a number of recommendations to further strengthen the regulatory system. Let me summarize my initial thoughts as follows:

• I tend to agree with SFC in adopting the Twin Peaks Approach. That means, HKMA continues to oversee safety and soundness of banks, while SFC will cover the business conduct of both banks and non-banks in respect of regulated activities. This will attain a more consistent enforcement of securities regulations.
• It may not be practical and useful to requre securities activities of banks to be conducted by separate entities. Instead, the professional standards of bank staff providing wealth management services should be substantially uplifted.
• Mystery shopping sounds like a useful technique to identify problems, but SFC needs to clarify how it would use the findings.
• SFC sticks to disclosure-based approach rather than merit-based approach in authorizing products sold to retail investors. This regulatory philosophy can of course increase Hong Kong's competitiveness in attracting product issuers. However, when SFC is adopting merit-based approach in licensing of intermediaries, why can't it do the same for product authorization? I won't fully this philosophy until the average investor education level was sufficiently high.
• I strongly suggest SFC streamline the existing product authorization regime to make it less complex and fragmented.
• Developing summaries for different products in plain language is definitely a good idea, but SFC should act as the central coordinator in this project to avoid duplicate efforts made by intermediaries.
• Ongoing disclosure obligations should be introduced for all types of investment products (securities, CISs and RIAs).
• SFC's recent efforts of consolidating the advertising guidelines for all different CISs in one document is a reasonable first step. It should further enhance the advertising guidelines to cover all types of investment products.
• The term "professional investor" should be renamed by not using the "professional" label to avoid unnecessary confusion.
• If other countries like Australia, the UK and Singapore have no problem of mandating disclosure of commission rebates at the pre-sale stage, what is Hong Kong waiting for?
• Cooling off clause provides a kind of investor protection, but would it be implemented with practical difficulties for unlisted and illiquid investment products?
• Setting up the dispute resolution procedure and a financial ombudsman seems necessary for Hong Kong, but where comes the funding?
• I support the establishment of an Investor Education Council operated by SFC. We can't really the intermediaries to do a good IE job given their conflicts of interest problem.
• Giving SFC the power to impose a compensation order as a disciplinary sanction is desirable as this can directly benefit the investors but forming a proper basis for computing the compensation amount in each case is not simple.