Newsletter – August 2016

Content

  1. SFC reprimands and fines Morgan Stanley Hong Kong Securities Limited HK$18.5 million over internal control failures
  2. Market Misconduct Tribunal finds Andrew Left of Citron Research culpable of market misconduct
  3. Market Misconduct Tribunal finds no insider dealing in Warderly shares
  4. SFC bans Wong Lap Yin for three years
  5. SFC Fines Quam Capital Limited HK$800,000 over sponsor failures
  6. SFC suspends Ko Cho Ting for two years
  7. SFC bans and fine Lam Chun Yin and Yeung Chok Cheong
  8. SFC suspends Ku Yuen Leung for 18 months

1. SFC reprimands and fines Morgan Stanley Hong Kong Securities Limited HK$18.5 million over internal control failures

On 24 August 2016, the SFC reprimanded and fined Morgan Stanley Hong Kong Securities Limited (“MSHK”) HK$18.5 million over internal control failures in several areas.

Background

An SFC investigation found that MSHK has failed to comply with the Management, Supervision and Internal Controls Guidelines for Persons Licensed by or Registered with the SFC (“Internal Control Guidelines”), the Code of Conduct for Persons Licensed by or Registered with the SFC (“Code of Conduct”) and its obligation as an exchange participant.

The SFC’s investigations found that MSHK failed to:

  • adequately avoid conflicts of interest between principal and agency trading and obtain client consent for a facilitation execution when MSHK’s traders responsible for agency execution also traded the stocks contained in the client’s basket order on a principal basis in June 2013;
  • comprehensively document the design and operation of the price checks and controls applied to orders executed through its electronic trading systems after the electronic trading provisions in the Code of Conduct took effect in January 2014;
  • ensure compliance with the disclosure requirement in relation to approximately 29,000 short selling orders between January and November 2014;
  • ensure compliance with the position limits, which resulted in one stock option contract exceeding the limit by more than 300 contracts on a trading day in February 2015;
  • report the reportable Large Open Positions of two of its affiliate companies to the Exchange between December 2010 and December 2015 which lasted for a long period of time;
  • keep positions held on a gross basis in accordance with the instructions of a client from April 2012 to December 2015; and
  • follow the instruction of an asset manager to report the Large Open Positions on a delegated basis from June 2012 to March 2016.

Comments

Relevant codes, guidance and obligations

The Code of Conduct, which was revised in March 2016, set out the general principles in considering whether a licensed or registered person satisfies the fitness and properness requirement to remain licensed. The Code is developed and recognized by the International Organization of Securities Commissions and other principles the SFC believes to be fundamental to the undertaking of a licensed person’s business.

The Internal Control Guidelines, which has taken effect since April 2003, provides that key duties and functions shall be appropriately segregated, particularly those duties and functions which when performed by the same individual may result in undetected errors or may be susceptible to abuses which may expose the firm or its clients to inappropriate risks.

Conflicts of interest and client consent

Readers are reminded that, pursuant to paragraph 8 of Appendix to the Internal Control Guidelines, a licensed corporation should avoid apparent and potential conflicts of interest by establishing and maintaining adequate “Chinese Walls”, such as the separation of dealers handling discretionary orders from those handling principal accounts. Further, under General Principles 2 and 6 of the Code of Conduct, it is required to have a separate agency execution and principal trading and to obtain client consent for a facilitation execution.

Documentation of the electronic trading systems

Readers are reminded that, as a licensed corporation that conducts electronic trading of securities is required under paragraph 18 of the Code of Conduct to keep proper records on the design, development, deployment and operation of its electronic trading systems, and have controls that are reasonably designed to ensure its algorithmic trading system and trading algorithms operate in the interest of the integrity of the market.

Further, pursuant to paragraph 3.3.1 of Schedule 7 to the Code of Conduct provides controls should be reasonably designed to monitor and prevent the generation of or passing to the market for execution order instructions from its algorithmic trading system which may interfere with the operation of a fair and orderly market.

Moreover, paragraphs 1.3 and 3.4 of Schedule 7 to the Code of Conduct provide that a licensed corporation should, among other things, keep comprehensive documentation of the design and development of its electronic trading systems and the risk management controls of its systems, and ensure that the design and development of its algorithmic trading system and trading algorithms are documented in writing and that the documentation should show the rationale for the design, development and modification and their intended outcome.

Disclosure of short selling orders

Readers are reminded that pursuant to General Principles 2 and 7 of the Code of Conduct, which require licensed corporation to act diligently and to comply with the applicable regulatory requirements.

Compliance with contract limits

Readers are reminded that a licensed corporation is expected to put primary responsibility on its traders to ensure compliance with the position limits. Being the execution broker, the relevant licensed corporation should have adequate controls to prevent orders that have the effect of exceeding the position limit from being passed to the HKEx and shall not relying primarily on traders to ensure trading will be stopped or the position will be reduced when the limit is approaching.

Reporting of Large Open Positions

Readers are reminded that, as required by the HKEX, any HKFE Participant / Options Exchange Participant holding positions in excess of the reporting level for its own account or for any of client shall file a written report (i.e. Large Open Position report) no later than noon of the next business day after the positions are opened or accumulated, and continue to file a Large Open Position report for as long as the HKFE Participant / Options Exchange Participant holds positions in excess of the reporting level.

Client instructions

Readers are reminded that, under the Guidance Note on Large Open Position Reporting Requirements, a person holding or controlling a reportable position in accounts at more than one Exchange Participant can ask all of its brokerages to report positions in each of the accounts to the HKEx even though positions in the individual accounts may not have reached the reportable level.

Conclusion

In respect to the above-mentioned breaches, MSHK agreed to engage an independent reviewer to conduct a forward looking review of its internal controls. This indicates that the SFC is particularly concerned about compliance with the Internal Control Guidelines.

For a copy of the statement of disciplinary action, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/openAppendix?refNo=16PR83&appendix=0

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=16PR83

2. Market Misconduct Tribunal finds Andrew Left of Citron Research culpable of market misconduct

The Market Misconduct Tribunal (“MMT”) has found that Mr Andrew Left of Citron Research disclosed false or misleading information inducing transactions and so engaged in market misconduct under Securities and Futures Ordinance (“SFO”) following proceedings brought by the SFC.

Background

On 21 June 2012, Left published a report on Citron Research’s website (www.citronresearch.com) that contained false or misleading information about Evergrande Real Estate Group Limited (“Evergrande”). The report stated that Evergrande was insolvent and had consistently presented fraudulent information to the investing public.

The Citron report spoke of Evergrande “intentionally and systematically” hiding important financial information from investors, and claimed Evergrande insolvent. Evergrande’s stock price declined by as much as 8.3% in the morning after the report was circulated in the market. Left short-sold 4.1 million Evergrande shares prior to the release of the report and covered the position after the report is released. This caused the SFC to commence an investigation into the case.

Comment

The MMT found that Left used sensationalist language in his report that Evergrande was insolvent and engaged in accounting fraud. It found these allegations were false and misleading and likely to alarm ordinary investors. Left had made these allegations recklessly or negligently with no understanding of the Hong Kong accounting standards that applied and without checking them with an accounting expert or seeking comment from Evergrande.

The MMT will hear from both the SFC and Left as to orders to be imposed on Left on a date to be agreed.

Readers are reminded that pursuant to Section 277 of SFO, a person shall be regarded as having engaged in market misconduct if he discloses, circulates or disseminates false or misleading information as to a material fact which is likely to induce another person to deal in securities in Hong Kong, knowing that, or is reckless or negligent as to whether, the information is false or misleading as to a material fact, or is false or misleading through the omission of a material fact. By publishing false and misleading information in the public domain, Left is alleged to have committed market misconduct within the meaning of Section 277 of SFO.

For a copy of the MMT’s report, please refer to:

http://www.mmt.gov.hk/eng/reports/Evergrande_Report.pdf

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/doc?refNo=16PR84

3.  Market Misconduct Tribunal finds no insider dealing in Warderly shares

The MMT has decided that the listing matters concerning Warderly International Holdings Limited (“Warderly”) did not involve insider dealing.

Background

The MMT has handed down its decision that Lo Hang Fong, a former Company Secretary of Warderly, and Luu Hung Viet Derrick, a lender and potential investor of Warderly, had not engaged in insider dealing in the shares of Warderly in 2007.

The SFC is studying the report.

Comments

The SFC’s allegations were that Lo and Luu were aware of Warderly being in a perilous financial position with banks withdrawing credit facilities when they sold the company’s shares in 2007 and avoided a total loss of HK$12,564,516 and that Lo and Luu knew the financial crisis facing Warderly was material, highly price sensitive and not generally known to the market.

During the proceedings, the legal issue presented before MMT was to determine whether the concerned events in the case amounted to “relevant information which would if generally known to persons accustomed to or likely to deal in the listed securities of Warderly would be likely to materially affect the price of the listed securities” at the time Lo and Luu dealt in their shares.

The MMT considered reports produced by three different experts among whom one of them deemed the information as relevant while the other two took a contrary view. The MMT however deemed the opinions from the expert who is for the view that the concerned information is relevant as entirely persuasive based on the reasons that he failed to take into consideration various external factors, erred in his calculation and failed to convince the MMT as to the materiality of the information’s effect on price.

Alternatively, the MMT adopted the opinions of the other two experts in that the information regarding the dire financial situation of Warderly was firmly in the public domain given the poor annual report, the poor interim report and the published issue of the writs for non-payment of bank debts. The MMT also acknowledged the opinion that Warderly was seen to be a shell company and its value was to be evaluated as its potential to be reinvested and so rendered the concerned events in the case as entirely superfluous information.

In conclusion, the MMT held that based on the above grounds the concerned events in the case did not constitute relevant information which was if generally known would be likely to materially affect the price of the shares at the time of dealing and decided that no market misconduct had been identified in this case.

For a copy of the MMT’s report, please refer to:

http://www.mmt.gov.hk/eng/reports/Warderly.International.Holdings.Limited.pdf

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/doc?refNo=16PR77

4.  SFC bans Wong Lap Yin for three years

The SFC has prohibited Wong Lap Yin from re-entering the industry for three years from 29 July 2016 to 28 July 2019.

Background

An SFC investigation found that on 30 May 2012, Wong placed a series of unauthorized bid orders for the shares of China Nonferrous Metals Company Limited (“CNFM”) shares via a client’s (“Client A”) account. Each of these orders was placed at a price higher than CNFM’s nominal price and the orders matched exactly with the prevailing best ask price and quantity such that they were executed as soon as they were entered into the market. As a result, the share price of CNFM was artificially raised by 37.3 per cent from HK$0.075 to HK$0.103.

At around the same time, Wong carried out a cross-trade to transfer about 5 million CNFM shares at the price of HK$0.105 from the personal account of another client (“Client B”) to a joint account held by Client B and his wife (“the Joint Account”).

The SFC found that Wong’s purpose in pushing up the share price of CNFM (through the trades in Client A’s account) was to facilitate the subsequent cross-trade between Client B’s personal account and the Joint Account at a higher price to eliminate the debit cash balance in Client B’s personal account.

Comments

The SFC considers that Wong’s conduct was not only unfair to Client A, but was also unfair to other investors because it interfered with the impartiality and objectivity of the normal process of price formation, and might have affected the trading strategy and investment decision of other market participants.

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

  • Wong’s conduct has caused financial loss to Client A;
  • a strong message needs to be sent to the market that Wong’s conduct is unfair and could jeopardise market integrity and undermine market confidence;
  • Wong, who has been in the securities industry for about 15 years, should have known that the manner in which he placed the orders could have the effect of artificially raising the nominal price of the shares; and
  • Wong has no previous disciplinary record.

Readers are reminded that, under the General Principle 1 (Honesty and fairness) of the Code of Conduct requires licensed persons to act honestly, fairly and in the best interests of their clients and the integrity of the market.

In the meantime, under Rule 526(3) of the Trading Rules of the Hong Kong Stock Exchange, the price set for direct business cannot be higher than the best offer in the market. Orders are matched on a strict price and time priority basis, so if Wong had not cleared the ask orders at lower price queues first using Client A’s account, the cross-trade could not have been carried out at HK$0.105.

In order to comply with the rules above, licensed persons are advised to carry out trades in the best interest of their clients. Licensed persons should obtain authorization before trading with clients’ accounts, and cross trades can only be carried out with the reasons stated in 3.10.1 of the Fund Manager Code of Conduct.

For a copy of the statement of disciplinary action, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/openAppendix?refNo=16PR74&appendix=0

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/doc?refNo=16PR74

 

5.  SFC Fines Quam Capital Limited HK$800,000 over sponsor failures

The SFC has fined Quam Capital Limited (“Quam”) HK$800,000 for failing to discharge its duties as a sponsor in relation to the listing of Gayety Holdings Limited (“Gayety”) (now known as Food Idea Holdings Limited) on the Growth Enterprise Market (“GEM”) of The Stock Exchange of Hong Kong Limited (“SEHK”) in July 2011.

Background

The SFC found that Quam breached the SFC’s Code of Conduct and the Corporate Finance Adviser Code of Conduct for its failure to act with due skill, care and diligence when preparing Gayety’s prospectus.

Specifically, the prospectus stated that none of the directors of Gayety had any interest in four of its five largest suppliers during the track record period. However, one of these suppliers was owned by two directors of Gayety who were also its chairman and chief executive officer, respectively.

The prospectus also wrongly represented that none of the key suppliers had ceased supply to Gayety and its group companies when in fact the arrangement with one supplier had discontinued by the end of the track record period.

In preparing the listing application, Gayety had disclosed to Quam the information relating to the ownership of the supplier and the status of the business relationship between Gayety and the supplier.  Accordingly, the inaccuracy was not the result of any information withheld by Gayety.

Comments

There is insufficient evidence to establish these matters constitute materially false or misleading statements, in which case, the action taken would have been different with the sponsor facing both criminal and civil responsibility.  Nonetheless, these matters are inconsistent with the standards required of sponsors in Hong Kong.

Readers are reminded that sponsors are expected to act in line with the Corporate Finance Adviser Code of Conduct and the Code of Conduct.

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/doc?refNo=16PR75

 

6. SFC suspends Ko Cho Ting for two years

The SFC has suspended Mr Ko Cho Ting for two years from 2 August 2016 to 1 August 2018 for executing suspicious client orders and operating a secret securities account.

Background

The disciplinary action follows an SFC investigation which found that Ko placed suspicious bid orders for the shares of Timeless Software Limited (“Timeless”) for one of his clients. From 1 May to 28 June 2012, the client placed a small order for Timeless shares during the last two minutes of the Continuous Trading Session on 18 trading days and 17 of these late orders were the last order of the day that set a higher closing price for Timeless shares.

Although Ko suspected that the late orders might inflate the closing price of Timeless shares and be considered to be manipulative, Ko acted in accordance with the client’s instructions and made no proper inquiries or took no step to escalate the orders to the management of his firm.

The SFC investigation also reveals that Ko has breached his firm’s employee dealing policy by failing to disclose a personal securities trading account and the securities transactions conducted therein.

Comments

By knowingly placing suspicious orders to the market for his client, Ko is not acting in the best interest of market integrity and his conduct fell short of the standard expected of him.

Readers are reminded that, under the General Principle 1 (Honesty and fairness) of the Code of Conduct requires licensed persons to act honestly, fairly and in the best interests of their clients and the integrity of the market. Licensed persons are expected to act with integrity and in line with the best interest of their clients at all times.

For a copy of the statement of disciplinary action, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/openAppendix?refNo=16PR76&appendix=0

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/doc?refNo=16PR76

 

7. SFC bans and fine Lam Chun Yin and Yeung Chok Cheong

The SFC has banned and fined two former representatives of United Simsen Securities Limited (“United Simsen”), for failing to take all reasonable steps to avoid conflicts of interest, and for trading ahead of and on the basis of non-public information about a pending share acquisition of a client.

Background

Lam Chun Yin, former responsible officer of United Simsen, and Yeung Chok Cheong, his subordinate, traded trading shares of Renhe Commercial Holdings Co., Ltd. (“Renhe”) on 31 December 2013. At the material time, United Simsen was engaged by Pacific Plywood Holdings Limited (“Pacific Plywood”) to provide corporate advisory services. Lam and Yeung were responsible for preparing a draft announcement for Pacific Plywood on its acquisition of 80 million Renhe shares on 31 December 2013.

In the morning of 31 December 2013, Lam and Yeung purchased a total of 1.2 million and 392,000 Renhe shares respectively before Pacific Plywood placed its order with United Simsen to buy 80 million Renhe shares. Lam and Yeung sold their Renhe shares during and shortly after Pacific Plywood’s acquisition of the Renhe shares.

Comments

Lam is banned from re-entering the industry for 36 months from 10 August 2016 to 9 August 2019 and Yeung is banned from re-entering the industry for 30 months from 10 August 2016 to 9 February 2019. In addition, Lam and Yeung are fined HK$111,000 and HK$51,830 respectively, which are the profit each of them made from trading shares of Renhe Commercial Holdings Co., Ltd. (“Renhe”) on 31 December 2013.

Readers are reminded that all licensed persons are expected to comply with General Principle 2 (diligence) of the Code of Conduct provides that a licensed person should act with due skill, care and diligence in conducting business activities. In addition, General Principal 6 (conflicts of interest) of the Code of Conduct and paragraph 4 of the Corporate Finance Adviser Code of Conduct provide that a corporate finance adviser/licensed person should try to avoid conflicts of interest.

Readers should also pay attention to section 9.3 of the Code of Conduct which stated “front-running” activities are prohibited.

For a copy of the statement of disciplinary action, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/openAppendix?refNo=16PR78&appendix=0

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/doc?refNo=16PR78

8. SFC suspends Ku Yuen Leung for 18 months

The SFC has suspended the licence of Ku Yuen Leung, an account executive of BOCOM International Securities Limited (“BOCOM”), for 18 months from 23 August 2016 to 22 February 2018 for engaging in manipulative activities.

Background

The disciplinary action follows an SFC investigation which found that between 5 and 26 November 2010, Ku created a false or misleading appearance in the market with respect to the shares of Agricultural Bank of China Limited (“ABC”) by placing large-sized bid orders for ABC shares to drive up the prices of five related call warrants.

All the bid orders in ABC shares which were cancelled immediately after Ku sold the related warrants at inflated prices for profit were apparently not driven by genuine demand but intended to influence the market making decision of their liquidity providers.

Ku made a gross profit of HK$15,500 from trading the warrants.

Comments

In deciding the sanction, the SFC is of the view that Ku’s misconduct has undermined the integrity of the market and that he is not a fit and proper person to remain licensed.

Ku, who had applied to the Securities and Futures Appeals Tribunal (“SFAT”) for a review of the SFC’s sanction, was granted leave to withdraw his appeal on 23 August 2016.

Readers are reminded that all corporations (licensed or unlicensed) and licensed individuals are straightly prohibited from market manipulation under section 274 of SFO.

For a copy of the statement of disciplinary action, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/openAppendix?refNo=16PR82&appendix=0

For further details, please refer to:

http://www.sfc.hk/edistributionWeb/gateway/EN/news-and-announcements/news/enforcement-news/doc?refNo=16PR82

 

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 

Regulatory News (Sep 2016)