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The Licensing Regime under The Securities and Futures Ordinance

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The Licensing Regime under The Securities and Futures Ordinance

5. DEFINITIONS OF REGULATED ACTIVITIES AND SPECIFIC EXEMPTIONS

TYPE 1: DEALING IN SECURITIES

‘Dealing in securities’ means making or offering to make an agreement with another person, or inducing or attempting to induce another person to enter into or offer to enter into an agreement to:

  1. acquire, dispose of, subscribe for or underwrite securities; or
  2. secure a profit to any of the parties from the yield of securities or by reference to fluctuations in the value of securities.

There are many exclusions to the definition in Schedule 5 which, in addition to the exemptions referred to under Section 4 above, include:

  1. performing the act through a corporation licensed or an authorised institution registered for Type 1 regulated activity (subject to restrictions on intermediaries acting between investors and securities dealers for profit);
  2. as principal, performing the act by way of dealing with a ‘professional investor’ (whether acting as principal or agent). For the purposes of this exemption, professional investors include only those persons within paragraphs (a) to (h) of the definition of ‘professional investor’ in Part 1 of Schedule 1 to the SFO (‘Schedule 1 professionals’) which is summarised at Annex A to this note. Professional investors do not include the categories of investors referred to in the Securities and Futures (Professional Investors) Rules (which include high net worth individuals and corporations with a portfolio of HK$8 million or more or total assets of HK$40 million or more) for the purposes of this exemption;
  3. as principal, acquiring, disposing of, subscribing for or underwriting securities; and
  4. the related dealing activities carried on by an approved money broker within the meaning of section 2(1) of the Banking Ordinance where each of the parties to the transaction is an authorised financial institution for whom the broker acts.

TYPE 2: DEALING IN FUTURES CONTRACTS

‘Dealing in futures contracts’ means:

  1. making or offering to make an agreement with another person to enter into, or to acquire or dispose of a futures contract;
  2. inducing or attempting to induce another person to enter into, or offer to enter into, a futures contract; or
  3. inducing or attempting to induce another person to acquire or dispose of a futures contract.

In addition to the exclusions referred to in Section 4, there are a number of specific exclusions from the definition including:

  1. performing the act through a corporation licensed or an authorised institution registered for Type 2 regulated activity (subject to restrictions on intermediaries acting between investors and futures dealers for profit);
  2. as principal, performing the act in relation to a futures contract not traded on a recognised futures market by way of dealing with a ‘professional investor’ (whether acting as principal or agent). For the purposes of this exemption, the definition of professional investors is limited to Schedule 1 professionals and does not include investors referred to in the Securities and Futures (Professional Investors) Rules.

TYPE 3: LEVERAGED FOREIGN EXCHANGE TRADING

‘Leveraged foreign exchange trading’ means:

  1. entering into or offering to enter into, or inducing or attempting to induce a person to enter into or to offer to enter into, a leveraged foreign exchange contract;
  2. providing any financial accommodation to facilitate foreign exchange trading or to facilitate an act referred to in (i) above; or
  3. entering into or offering to enter into, or inducing or attempting to induce a person to enter into, an arrangement with another person, on a discretionary basis or otherwise, to enter into a contract to facilitate an act referred to in (i) or (ii) above.

A ‘leveraged foreign exchange contract’ is defined as a contract or arrangement the effect of which is that one party agrees to:

  1. make an adjustment between himself and another according to the value of one currency is relation to another;
  2. pay an amount or deliver a quantity of any commodity to another determined by reference to the change in value of one currency in relation to another; or
  3. deliver to another at an agreed future time an agreed amount of currency at an agreed consideration.

The definition of ‘leveraged foreign exchange trading’ accordingly covers any foreign exchange trading (which need not be leveraged) and the provision of financial accommodation to facilitate it. Currency caps, swaps, collars, floors and options and spot foreign exchange contracts (if the payments are made in the future) are generally within the definition.

The exemptions include:

  1. a contract or arrangement entered into by a corporation:
    1. the principal business of which does not include dealing in currency in any form;
    2. for the purpose of hedging its exposure to currency exchange risks in connection with its business; and
    3. with another corporation (paragraph (ii) of the definition);
  2. a contract executed on a specified futures exchange by or through a person licensed or registered for regulated activity Type 2 or is wholly incidental to one or more such contracts (paragraph (vi) of the definition);
  3. a contract or arrangement that is wholly incidental to one or more transactions in ‘specified debt securities’ (being specified types of debt securities including those issued by the Government and by issuers with a qualifying credit rating for any of their debt securities)(paragraph (xi) of the definition);
  4. a contract or arrangement entered into by an authorised institution (paragraph (xii) of the definition); and
  5. a contract or arrangement entered into by a corporation:
    1. that has a qualifying credit rating* or has such a rating for any of its debt instruments or is the wholly owned subsidiary of such a corporation or partnership; and
    2. whose principal business is not in leveraged foreign exchange spot transactions or the average principal amount of each such transaction entered into by the corporation, calculated for each financial year of the corporation, is not less than HK$7.8 million (Section 3 Securities and Futures (Leveraged Foreign Exchange Trading – Exemption) Rules)

* Note: A ‘qualifying credit rating’ is defined as a Moody’s Investors Service rating of A3 or above for long term debt or Prime-3 or above for short term debt or a Standard & Poor’s rating of A or above for4 long term debt or A-3 or above for short term debt (Schedule 1 Parts 1 and 5).

TYPE 4: ADVISING ON SECURITIES

‘Advising on securities’ means giving advice or issuing analyses or reports on the timing or terms on which particular securities should be acquired or disposed of.

The exemptions from the definition (which are detailed under Section 4 above) include (i) the incidental exemption for licensed securities dealers; (ii) the advising group company exemption; (iii) the professional advisers’ exemption; (iv) the trust company exemption; and (v) the broadcaster/journalist exemption. Also excluded from the definition is the giving of advice by a licensed asset manager, solely for the purposes of carrying on fund management activities pertaining to collective investment schemes under his management.

TYPE 5: ADVISING ON FUTURES CONTRACTS

‘Advising on futures contracts’ means giving advice or issuing analyses or reports on the timing or terms on which particular futures contracts should be entered into.

The exemptions are similar to those for advising on securities and include (i) the incidental exemption for licensed futures dealers; (ii) the advising group company exemption; (iii) the professional advisers’ exemption; (iv) the trust company exemption; and (v) the broadcaster/journalist exemption.

TYPE 6: ADVISING ON CORPORATE FINANCE

‘Advising on corporate finance’ means giving advice:

  1. in relation to listing rules made by the Hong Kong Stock Exchange or the SFC or the Code on Takeovers, Mergers and Share Repurchases;
  2. concerning any offer to dispose of securities to the public, any offer to acquire securities from the public, or the acceptance of any such offer (but only if the advice is given generally to holders of securities or a class of securities); or
  3. to a listed corporation or public company, its subsidiary or its officers or shareholders, concerning corporate restructuring in respect of securities (including the issue, cancellation or variation of any rights attaching to securities).

The exemptions detailed at Section 4 include (i) the advising group company exemption; (ii) the incidental exemption for licensed securities dealers; (iii) the professional advisers’ exemption; (iv) the trust company exemption; and (v) the broadcaster/journalist exemption.

TYPE 7: PROVIDING AUTOMATED TRADING SERVICES

‘Automated trading services’ are services provided by means of electronic facilities (not being facilities provided by a recognised exchange company or recognised clearing house), whereby:

  1. offers to sell or purchase securities or futures contracts are regularly made or accepted;
  2. persons are regularly introduced or identified to others in order that they may negotiate or conclude sales or purchases of securities or futures contracts; or
  3. such transactions may be novated, cleared, settled or guaranteed.

Providers of electronic trading platforms such as trade matching or settlement systems will generally fall within the definition.

It should be noted that the SFO contains 2 separate regimes for the licensing of providers of automated trading services. The Part V provisions cover persons who additionally perform traditional broker/dealer functions. There is a separate regime under Part III SFO providing for the authorisation of ATS providers by the SFC which is for those persons providing mainly automated trading services. Hence, on-line brokers will generally be licensed under Part V whereas electronic exchanges and automated trading systems are required to obtain authorisation under Part III.

TYPE 8: SECURITIES MARGIN FINANCING

‘Securities margin financing’ means providing financial accommodation to facilitate the acquisition, or the continued holding, of securities listed on any stock market, whether or not those or other securities are pledged as security for the accommodation. A corporation licensed for regulated activity Type 8 is prohibited from carrying on any other business other than business which is necessarily incidental to its securities margin financing business (Section 118(d)).

The definition of securities margin financing however excludes the provision of financial accommodation by a person licensed or registered for Type 1 regulated activity (dealing in securities) in order to facilitate acquisitions or holdings of securities by the person for his clients (paragraph (iii) of the Schedule 5 definition). A corporation licensed for regulated activity Type 1 does not therefore need to be separately licensed for Type 8 regulated activity in order to carry on securities margin financing. It must however satisfy a more stringent financial resources requirement: the minimum paid-up share capital requirement for a Type 1 licensed corporation is HK$10 million if it conducts securities margin financing and HK$5 million if it does not. This exemption is normally relied upon by stockbrokers who also provide margin financing facilities to their securities clients. In addition, authorised financial institutions are not required to be registered for Type 8 regulated activity to carry out securities margin financing.

There are further exemptions for the provision of financial accommodation:

  1. that forms part of an arrangement to underwrite or sub-underwrite securities;
  2. by collective investment schemes that are corporations:
    1. that are or hold themselves out as being primarily engaged in the business of investing, reinvesting or trading in any property (including securities and futures contracts); and
    2. the shares in which are exclusively, or primarily, redeemable;
  3. by an individual to a company in which he holds 10% or more of its issued share capital to facilitate acquisitions or holdings of securities; or
  4. by an intermediary by way of effecting an introduction between a person and a related corporation of the intermediary in order that the corporation may provide the person with financial accommodation.

TYPE 9: ASSET MANAGEMENT

‘Asset management’ means providing a service of managing a portfolio of securities or futures contracts for another person. It also covers the management of SFC authorised real estate investment trusts. This category of regulated activity regulates fund managers and fund management houses.

TYPE 10: PROVIDING CREDIT RATING SERVICES

‘Providing credit rating services’ is defined as:

  1. preparing credit ratings:
    1. for dissemination to the public, whether in Hong Kong or elsewhere; or
    2. with a reasonable expectation that they will be so disseminated; or
  2. preparing credit ratings:
    1. for distribution by subscription, whether in Hong Kong or elsewhere; or
    2. with a reasonable expectation that they will be so distributed.

‘Credit ratings’ are opinions, expressed using a defined ranking system, primarily regarding the creditworthiness of: (i) a person other than an individual; (ii) debt securities; (iii) preferred securities; or (iv) an agreement to provide credit.

Providing credit rating services does not however include:

  1. person, provided that the credit rating is provided only to that person and is neither intended for dissemination to the public or distribution by subscription in Hong Kong or elsewhere, and is not reasonably expected to be so disseminated or distributed; or
  2. gathering, collating, disseminating or distributing information concerning the indebtedness or credit history of any person.

These exclusions are intended to ensure that no SFC licensing requirement applies in relation to the operation of internal credit rating systems (e.g. banks’ internal systems for assessing counterparty risk) and private credit ratings prepared to an individual order. Also excluded from the licensing requirement are the sharing or analyzing of consumer or commercial credit data (such as through consumer or commercial credit reference agencies).

6. LICENCE TYPES

Under Part V, persons engaging in one or more regulated activities are required to apply to the SFC for a licence, unless they have been exempted or can rely on one of the exclusions. There are 2 types of licence: corporate licences and representative licences.

Corporate Licences

Any corporation carrying on one or more regulated activities must apply to the SFC for a licence. Only companies incorporated in Hong Kong or an overseas company registered with the Companies Registry of Hong Kong can be licensed to carry on a regulated activity.

Representative Licences

Any individual who carries on one or more regulated activities on behalf of a licensed corporation is required to apply for approval as a ‘licensed representative’ accredited to that corporation. A licensed representative may be accredited to more than one licensed corporation.

If a licensed representative ceases to act for on behalf of the licensed corporation to which he is accredited, he has a period of 180 days to apply for the transfer of his accreditation to a new licensed corporation (Section 123(1)). If he does not apply for transfer of his accreditation within the 180 day period, his licence will be deemed to have been revoked on his ceasing to act for the licensed corporation.

If a licensed representative ceases to act for his principal, the principal must notify the SFC within 7 days and the representative must return his licence to the SFC within the same period. Failure to comply by the principal, or failure to comply without reasonable excuse by the representative, is an offence liable on conviction to a fine.

Skills

Posted on

2014-10-16