Regulatory News (Dec 2014)

Newsletter – November 2014

Newsletter – November 2014

Contents:

  1. SFC bans Yan Chee Yung for life for defrauding client and misappropriating client money
  2. SFC bans Leung Wai Hung for 18 months for circumventing the order recording requirements
  3. SFC reprimands and fines Yue Siying for negligence
  4. Court dismisses judicial review against Takeovers Panel
  5. Joint Announcement of China Securities Regulatory Commission and SFC
  6. Regulators approve launch of Shanghai-Hong Kong Stock Connect
  7. Freezing injunction against Greencool’s ex-chairman extended pending SFC proceedings
  8. Circular to all Licensed Corporations and Registered Institutions concerning the U.S. Foreign Account Tax Compliance Act (FATCA)
  9. Circular to All Licensed Corporations on Internet Trading Information Security Management and System Adequacy

1.  SFC bans Yan Chee Yung for life for defrauding client and misappropriating client money

On 23 October 2014, the Securities and Futures Commission (“SFC”) banned Mr. Yan Chee Yung, a former employee of Chong Hing Securities Limited, from re-entering the industry for life for defrauding his clients and misappropriating client money.

Background

Yan was licensed under the Securities and Futures Ordinance (“SFO”) to carry on Type 1 regulated activity and was accredited to Chong Hing Securities Limited between 10 January 2011 and 11 February 2014. He was also a relevant individual engaged by Chong Hing Bank Limited to carry on Type 1 activities between 1 April 2003 and 10 February 2014, and Type 4 regulated activity between 1 April 2003 and 31 2010. Yan is currently not licensed by the SFC or registered with the Hong Kong Monetary Authority (“HKMA”).

The Sanction

The disciplinary action follows an SFC investigation which found that, between June 2006 and February 2014, Yan:

  • misrepresented to 18 clients of Chong Hing Securities Limited and Chong Hing Bank Limited that he could buy shares on their behalf at a price lower than market price and/or promised them that he would buy back the shares at a guaranteed price, and induced the clients to enter into private investment arrangements with him;
  • induced the clients to give him money to buy shares on their behalf and misappropriated their money and used it for his own personal expenses, gambling and settling credit card debts; and
  • falsified transaction records to gain clients’ trust

The legal proceedings were commenced under section 214 of the SFO. The first hearing of the petition presented by the SFC will be heard in the Court of First Instance (“CFI”) on 16 December 2014.

In deciding the sanction, the SFC took into account all relevant circumstances, including that:

  • Yan’s misconduct was gravely dishonest and lasted for more than seven years;
  • he abused the trust which his clients placed in him and his actions resulted in losses to the clients;
  • he admitted his misconduct during the SFC’s investigation; and
  • he had an otherwise clean disciplinary record.

The District Court further sentenced Yan to 36 months imprisonment after he was convicted of 18 counts of theft in relation to misappropriation of approximately HK$6.9 million from clients, following an investigation by the police.

Comment

Defrauding clients and misappropriating client money are very serious misconduct. Readers should note that such behavior will also reflect negatively on the fitness and properness of licensed individuals and corporations to carry out regulated activities of the SFC. This could lead to the suspension or revocation of SFC licences to carry out regulated activities.

For details, please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=14PR129

<back to top>

2.  SFC bans Leung Wai Hung for 18 months for circumventing the order recording requirements

On 3 November 2014, the SFC banned Mr. Leung Wai Hung from re-entering the industry for 18 months from 31 October 2014 to 30 April 2016.

Background

The disciplinary action follows an SFC investigation which found that from February 2011 to August 2013, Leung failed to make proper records of the order instructions from his clients and circumvented the order recording requirements of his employer.

During that period, Leung executed orders for holders of seven accounts which were designated as discretionary accounts but were never operated on a discretionary basis. All order instructions were in fact given by the clients by calling his mobile phone. However, Leung failed to make proper records of the order instructions. By designating the accounts as discretionary when they were not, Leung avoided the scrutiny of his employer on order recordings for those accounts.

The Sanction

Despite having investigated and finding no sign of any other misconduct, the SFC considers that Leung’s conduct calls into question his fitness and properness as a licensed person as Leung not only failed to record and maintain proper audit trail orders placed by his clients, but also misused the discretionary account arrangement to circumvent the order recording requirements.

Comment

Readers should note that keeping proper audit trial of client orders is a basic and fundamental requirement expected of licensed persons. Order instructions which are received from clients who have given discretionary authority to operate their accounts should be recorded in the same way as order instructions from other clients, in accordance with Paragraph 3.9 of the Code of Conduct for Persons Licensed by or Registered with the SFC (the “Code of Conduct”). Failure to comply with the Code of Conduct may call into question the individual’s fitness and properness to hold an SFC licence for conducting regulated activities.

For details please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=14PR132

<back to top>

3.  SFC reprimands and fines Yue Siying for negligence

On 4 November 2014, the SFC has reprimanded Ms Yue Siying and fined her HK$400,000 for negligence in handling a client’s trade orders.

Background

In December 2009, a client of UBS AG wanted to sell his shares in a stock to an unidentified buyer at agreed amounts and prices through manual cross trades. Yue, a client adviser at UBS AG, did not know how to carry out cross trades. Instead of placing cross trades as initially instructed by the client, Yue and her assistant coordinated with the buyer to conduct a series of on-exchange matched trades between 2 and 8 December 2009. The SFC has already formerly taken disciplinary action against Yue’s assistant, Ms Winnie Pang Wai Yan on 14 August 2014.

SFC findings

The SFC found that, in handling the client’s orders on 2 and 3 December 2009, Yue failed to:

  • make reasonable efforts to clarify and to ascertain the appropriate way to execute her client’s trading instructions when she was unsure about them;
  • make diligent enquiries on the relevant transactions to ascertain the client’s intention;
  • report the matter to the Compliance Department of UBS AG; and
  • refrain from or causing her assistant to refrain from acting on the client’s instructions before she was satisfied that the orders and their execution did not affect the best interests of the integrity of the market.
The SFC considers that Yue’s failures called into question her fitness and properness as a registered person.

In deciding the disciplinary action, the SFC took into account that:

  • Yue did not make any personal benefit out of the transactions in question;
  • there is insufficient evidence to prove to the requisite standard that the matched trades were carried out with manipulative intent;
  • the matched trades had minimal impact on the nominal price of the stock; and
  • Yue has an otherwise clean disciplinary record with the SFC.

Comment

Readers should note that under sections 274(5)(b) and 295(5)(b) of the SFO, a person may have committed the offence of false trading or be regarded as having engaged in the market misconduct of false trading if a person offers to sell securities at a price that is substantially the same as the price at which he has made or proposes to make, or he knows an associate of his has made or proposes to make, an offer to buy substantially the same number of securities, unless the transaction in question is an off-market transaction. This type of trading is commonly known as matched orders. This would reflect negatively on the licensed individual’s fitness and properness to be licensed by the SFC.

For a copy of the Statement of Disciplinary Action, please visit: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/openAppendix?refNo=14PR133&appendix=0

For details please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=14PR133

 

4.  Court dismisses judicial review against Takeovers Panel
On 7 November 2014, the CFI has dismissed a judicial review of the decision of the Takeovers and Mergers Panel (“Takeovers Panel”) not to stay disciplinary proceedings instituted by the Executive of the SFC.
Background

The applicants of the judicial review – A, B and C – whose names were suppressed by the order of the court, are also defendants in a criminal trial scheduled to be heard at the High Court in March 2015. The applicants, together with two other persons, are the subject of disciplinary proceedings before the Takeovers Panel over an alleged breach of the Code on Takeovers and Mergers.In October 2013, A, B and C applied for a stay of the disciplinary proceedings until the completion of the criminal trial. The Chairperson of the Takeovers Panel refused their application in February 2014 following an oral hearing. Subsequently, they applied for judicial review of the Chairperson’s decision.In rejecting the judicial review, the CFI pointed out there is no real risk of prejudice to the criminal trial if the disciplinary proceedings continue. The Court also found the Chairperson of the Takeovers Panel did not err in law and was satisfied that the Chairperson’s decision was not unreasonable. The SFC’s disciplinary proceedings against A, B and C are continuing.

Comment

This case confirms that the appropriate test for determining whether to stay disciplinary proceedings when there are concurrent criminal proceedings involving the same parties is whether there is a real risk of prejudice to the criminal trial of the disciplinary proceedings continued.

To view the judgment available on the Judiciary’s website, please visit: www.judiciary.gov.hk

For details, please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=14PR135

 

5.  Joint Announcement of China Securities Regulatory Commission and SFC
On 10 November 2014, the China Securities Regulatory Commission (“CSRC”) and the SFC have approved the official launch by the Shanghai Stock Exchange (“SSE”), the SEHK, China Securities Depository and Clearing Corporation Limited (“ChinaClear”) and Hong Kong Securities Clearing Company Limited (“HKSCC”) of the pilot programme to provide mutual trading access between the Shanghai and Hong Kong stock markets (“Shanghai-Hong Kong Stock Connect”). Trading through the Shanghai-Hong Kong Stock Connect has commenced on 17 November 2014.
Background

Since the issuance of the joint announcement by the SFC and CSRC on 10 April 2014, the two Commissions have worked closely together to prepare for the launch for the Shanghai-Hong Kong Stock Connect. The necessary trading and clearing rules and other relevant rules, the daily and aggregate quota mechanisms and other regulatory and operational arrangements have now been formalised. The stock exchanges and the clearing houses have completed a series of market rehearsals with market participants in both markets and reported that the systems are ready and contingency plans are in place. Numerous market training and investor education programmes have been conducted.The CSRC and SFC have agreed on the principles and arrangements for cross-boundary regulatory enforcement cooperating relating to the Shanghai-Hong Kong Stock Connect and signed the Memorandum of Understanding between the CSRC and the SFC on Strengthening Regulatory and Enforcement Cooperation under Shanghai-Hong Kong Stock Connect (“Enforcement MOU”). The Enforcement MOU strengthens the enforcement cooperation between the CSRC and SFC, and signifies their joint commitment to take effective action against cross-boundary illegal activities and market misconduct to maintain an orderly market and protect investors under the Shanghai-Hong Kong Stock Connect.The CSRC and SFC have also established arrangements and procedures for cross-boundary liaison and cooperation of any contingency or major event that affects the pilot programme, and for referring and handling related investors’ complaints. In addition, the Mainland’s Investor Protection Bureau and Hong Kong’s Investor Education Centre (“IEC”) have established an arrangement to cooperate on investor education relating to the Shanghai-Hong Kong Stock Connect, and will continue their efforts after the launch of the pilot programme.

Comment

Readers who intend to participate under the Shanghai-Hong Kong Stock Connect should familiarize themselves with the applicable regulatory requirements and operational rules and ensure that proper internal controls and risk management are in place. In particular, investors should be aware of the differences between the laws, regulations and rules of, and market practices in, Mainland China and Hong Kong and should take appropriate action to ensure compliance and manage their risks when investing through the Shanghai-Hong Kong Stock Connect. In order to do so, readers may opt to seek advice from independent compliance consultants with in-depth expertise such as CompliancePlus.

For details, please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=14PR136

 

<back to top>

6.  Regulators approve launch of Shanghai-Hong Kong Stock Connect
On 10 November 2014, the SFC and the CSRC approved the launch of the Shanghai-Hong Kong Stock Connect pilot scheme following the finalisation of all necessary regulatory approvals and relevant regulatory operational arrangements required for its commencement.
Background

The Stock Connect is a pilot programme for establishing mutual stock market access between Hong Kong and the Mainland. The Joint Announcement by the CSRC and SFC dated 10 April 2014 outlines the principles under which the Stock Connect is expected to operate (http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/corporate-news/doc?refNo=14PR41). Pursuant to the abovementioned Joint Announcement dated 10 November 2014, trading through the Stock Connect has commenced on 17 November 2014.Mr. Carlson Tong, chairman of the SFC, said, “We welcome today’s announcement which is the result of close and intensive cooperation between the SFC and the CSRC over the past few months. In particular, the two regulators have established innovative and robust mechanisms in protecting the integrity of both markets when the pilot programme commences.”

The regulatory arrangements for the Stock Connect include a new benchmark for cross-boundary regulatory operation including the timely provision of client and order data to facilitate real time surveillance of market activity by the SFC and the CSRC for markets in Hong Kong and Shanghai respectively under the pilot programme.

As mentioned above, the two regulators also entered into a MOU dated 17 October 2014 on strengthening cross-boundary regulatory and enforcement cooperation under the pilot programme.

For details, please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=14PR137

<back to top>

7.  Freezing injunction against Greencool’s ex-chairman extended pending SFC proceedings
On 14 November 2014, the CFI granted an order for the interim freezing injunction against Mr. Gu Chujun, the former chairman and Chief Executive Officer of Greencool Technology Holdings Limited, to continue until the conclusion of section 213 proceedings commenced by the SFC against Gu in June 2014.
Background

Greencool was a company listed on the Growth Enterprise Market (“GEM”) of the SEHK on 13 July 2000. After seven years of investigation work across several jurisdictions, the SFC commenced proceedings in the CFI against Mr. Gu and other senior executives of Greencool, alleging market misconduct involving grossly overstating the company’s financial accounts for the years ended 31 December 2000 to 2004.The Injunction

The interim freezing injunction restrains Gu from disposing of his assets, in the form of 107,290,000 shares in Hisense Kelon Electrical Holdings Limited, held in the name of several individual and overseas corporate third parties, up to the value of HK$1.2 billion.

Comment

As mentioned above, licensed individuals or corporations may be guilty of market misconduct under section 245 of the SFO if they commit the following offences:

  • insider dealing;
  • false trading;
  • price rigging;
  • disclosure of information about prohibited transactions;
  • disclosure of false or misleading information inducing transactions; and
  • stock market manipulation.

The consequences of market misconduct offences are very serious, as the court is empowered to make a wide range of orders, such as injunctions, cease and desist orders, or cold shoulder orders, as sanctions. Furthermore, the committal of these offences may reflect adversely on the individual or corporation’s fitness or properness to remain licensed by the SFC to conduct regulated activities. Readers may ensure that they are in full compliance of section 245 of the SFO by conducting regular reviews of internal procedures or seeking professional advice of external compliance consultants.

For details, please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=14PR138

8.  Circular to all Licensed Corporations and Registered Institutions concerning the U.S. Foreign Account Tax Compliance Act (FATCA)

On 13 November 2014, the SFC issued a circular concerning the U.S. Foreign Account Tax Compliance Act (FATCA) for the purpose of informing Licensed Corporations (LCs) and Registered Institutions (RIs) that the government of the Hong Kong SAR (HKSAR) and the United States of America (US) have signed Inter-Governmental Agreement (IGA) on 13 November 2014, which is intended to facilitate compliance with the FATCA by Financial Institutions (FIs) in Hong Kong.

Background

The FATCA is an anti-tax evasion regime enacted by the US to detect US taxpayers who use accounts with non-US financial institutions to conceal income and assets from the US Internal Revenue Service (IRS).

FIs outside the US are required by the FATCA to report financial account information of US taxpayers to the US IRS. The due diligence and reporting requirements under FATCA will target specified US taxpayers including US citizens, or US resident individuals, or specified entities established in the US or controlled by US persons. Relevant institutions will face repercussions of a 30% withholding tax imposed by the US IRS on relevant US-sourced payments to them should they fail to comply with the act.

IGA

There are two models of IGAs. A model 1 IGA essentially requires FIs outside the US to report account information of US taxpayers to their own government, which will commit to exchanging such information at a government level with the US IRS on an automatic basis.  A model 2 IGA, which Hong Kong and the US have concluded, essentially requires FIs to report the relevant account information of US taxpayers to the US IRS directly, supplemented by group requests made by the US IRS, on a need basis, for exchange of information on relevant US taxpayers at a government level.

The IGA outlines the following:

  • Reporting and Exchange of Information between HKSAR and US IRS;
  • Application of FATCA to HKSAR FIs;
  • Verification and Enforcement; and
  • Consistency in the Application of FATCA to Partner Jurisdictions.
The IGA also set out a non-exhaustive list as below:(i) Directives to HKSAR FIsThe Directives to HKSAR FIs covers the treatment of:
  • Financial accounts maintained by Reporting HKSAR FIs that has been identified as U.S Accounts as of June 30, 2014;
  • Accounts of, or obligation to, Nonparticipating FIs expects to pay a Foreign Reportable Amount as of June 30, 2014;
  • New accounts identified as U.S. Accounts, obtain from each account holder consent to report; and
  • New accounts opened by, or obligations entered into with, a Nonparticipating FI on or after July 1, 2014, obtain from each such Nonparticipating FI consent to report.

(iii) Due Diligence Obligations for identifying and reporting on U.S accounts and on payments to certain nonparticipating FIs;

(iii) Entities treated as exempt beneficial owners or deemed-compliant Foreign FIs

Please note that the above is by no means exhaustive, please refer to the full IGA for further details.

The HKSAR Government has published the IGA and an updated set of frequently asked questions (FAQs) providing background information. The press release, the IGA and the updated FAQs are available through the following links:

Press release: http://www.fstb.gov.hk/fsb/ppr/press/doc/pr131114_e.pdf

IGA: http://www.fstb.gov.hk/fsb/topical/doc/HK-USIGA.pdf

FAQs: http://www.fstb.gov.hk/fsb/topical/doc/fatca-faq2_e.pdf

Comment

LCs and RIs are strongly encouraged to consider whether they are affected by the obligations imposed on under FATCA and to take appropriate action. If LCs and RIs are in doubt concerning their obligations under FATCA, they are encouraged to seek appropriate compliance advice.

For details, please refer to: http://www.sfc.hk/edistributionWeb/gateway/EN/circular/doc?refNo=14EC46

 

9.  Circular to All Licensed Corporations on Internet Trading Information Security Management and System Adequacy
The SFC has recently completed a series of reviews of internet trading systems of selected licensed corporations (“LCs”) with a view of assessing the effectiveness of their information security management and system security controls.
On 26 November 2014, the SFC issued a circular on Internet Trading Information Security Management and System Adequacy listing out major design and control deficiencies that might expose the LCs and their clients to security and integrity risks that were highlighted during the course of the review such as no formal IT management policies and procedures for change management, business continuity and disaster recovery management; lack of comprehensive and regular IT risk assessment or IT audit conducted by party(ies) independent of the system development and maintenance functions; lack of incident reports or insufficient incident details (e.g. root cause analysis, remedial actions) for certain material system delays or system failures etc.The SFC also include an appendix outlining the suggested controls and procedures for reducing internet hacking risks as below that are very useful to LCs to provide secure internet trading services and ensure system and data integrity effectively.The suggested controls and procedures
  • Implement an effective IT governance with the establishment of formal policies and procedures and information security management system to protect all key information assets (e.g. internet trading system and client personal information);
  • Establish an independent and qualified IT and security risk management function, or give overseeing responsibility to senior management personnel for monitoring and overseeing IT and security risks, including IT related regulatory compliance matters;
  • Provide security awareness training to staff on a regular basis;
  • Appoint, on a regular basis, qualified party(ies) to conduct comprehensive security penetration tests emulating real-life threats that could cover system applications and network infrastructure supporting the internet trading systems to identify security vulnerabilities which may expose the internet trading systems to security risks;
  • Assign party(ies) who is/are independent of the system development and maintenance functions to conduct comprehensive IT risk assessment or IT audit on a regular basis;
  • Provide updated security tips on the internet trading systems including web and mobile applications to clients;
  • Arrange service level agreements with major vendors (including intra-group entities) providing for sufficient levels of maintenance and technical assistance with quantitative details;
  • Establish contractual terms with vendors (including intra-group entities) to mandate the removal/destruction of data stored at the vendors’ systems and backups in the event of contract termination;
  • Include reasonable indemnification or liability in contractual agreements with major vendors (including intra-group entities);
  • Establish formal privileged account management procedures with adequate checks and balances;
  • Grant access to privileged accounts only after due and careful consideration by management.
  • Review the validity of user and system accounts and appropriateness of their access rights on a regular basis;
  • Implement effective password policy by appropriate settings, for example, minimum password length and maximum password age;
  • Enhance application features and operating procedures so that the internet trading systems could generate initial passwords or reset passwords and send passwords to clients without disclosing the same to persons other than the clients;
  • Establish test cases to ensure all critical functions are properly tested before deployment and perform post-implementation review to ensure reliability of system after modifications;
  • Implement a secure network architecture, for example, set up a Demilitarised Zone using at least a two-tier firewall structure and set up resilience structure for key network devices and servers;
  • Implement an Intrusion Detection System (“IDS”) or Intrusion Prevention System (“IPS”) to mitigate the risk of advanced and persistent network attacks;
  • Maintain proper audit logs with details of user activities on the internet trading systems and review the audit logs regularly to detect potential problems and plan preventive measures.
  • Implement monitoring and surveillance mechanism to pro-actively identify suspicious websites and mobile applications;
  • Implement proper incident and escalation procedure to maintain incident reports with details of incidents (e.g. root cause analysis, remedial actions) and escalation requirement when in case of material system delays or system failures;
  • Establish a disaster recovery/secondary site to continue internet trading services or make alternative arrangements in the event of primary site outage with a view to minimising disruption of internet trading services provided to clients;
  • Conduct disaster recovery drill at least annually and update the disaster recovery plan after the post-mortem analysis;
  • Formulate relevant communication protocols and procedures to notify clients and relevant authorities/regulatory bodies of internet trading system outage and major security incidents (e.g. when suspicious websites/mobile applications or phishing emails have been identified) on a timely basis; and
  • Maintain appropriate backup mechanism on internet trading systems including operating systems, databases and network components.

Please note that the above is by no means exhaustive, please refer to the circular and appendix for further details.

Comment:

Readers are recommended to read the circular and the appendix in details. IT security and internet trading system have been areas of getting more regulatory concerns than before. Senior management of LCs are responsible for supervising their firms’ operations to provide secure internet trading services and ensure system and data integrity in the interests of clients. Senior management of LCs should regularly review their internet trading systems, network infrastructure, related policies, procedures and practices and consider enhancements with reference to the relevant electronic trading requirements and seek advice and compliance recommendations from compliance consultants as and when necessary.

Press release:

http://www.sfc.hk/edistributionWeb/gateway/EN/circular/intermediaries/supervision/doc?refNo=14EC48

Suggested Controls and Procedures:

http://www.sfc.hk/edistributionWeb/gateway/EN/circular/intermediaries/supervision/openAppendix?refNo=14EC48&appendix=0

The article is for general information purpose only and is not intended to constitute legal or other professional advice.

Receipt of this newsletter indicates that CompliancePlus has been using your email address to market to you the compliance services that CompliancePlus is able to provide you.

CompliancePlus provides compliance consulting services to financial companies, hedge fund managers and individuals. Our dedicated team of compliance officers has years of professional experience equipped with in-depth knowledge of both functional and compliance experience in managing and minimizing regulatory, operational and reputational risks. By partnering with CompliancePlus, our clients gain access to compliance solutions that they can trust and the latest knowledge of regulatory policies and procedures.

For enquiries, please email: info@complianceplus.hk or call at (852) 3487-6903.

To subscribe, update your email address or unsubscribe, please email info@complianceplus.hk