ComplianceOne Newsletter – Nov 2024
The topics discussed in this monthly newsletter are as follows:
1. SFC concludes consultation on market sounding guidelines
2. The first batch of 14 brokers joining Wealth Management Connect Pilot Scheme
3. SFC hosts AML/CFT Regtech Forum in November
4. Stay aware of the inherent risks in use of Generative AI Language Models
5. SFC bans former RO of Tarascon Capital for false trading of shares
6. SFC commences MMT proceedings against Ding Yi Feng for market manipulation
7. SFC sanctions Zuo Ping for breaches of the Takeovers Code
8. SFC suspends Yuanta’s former employee Wang Shian-tang for violation of employee dealing policy
9. China Forestry’s former chairman and CEO sanctioned for insider trading
Market News
1. SFC concludes consultation on market sounding guidelines
On 31 October 2024, the SFC published the conclusions of its consultation on the proposed guidelines for market soundings. The guidelines gazetted on 1 November 2024 and will become effective on 2 May 2025. Intermediaries will have a six-month transitional period to comply with the new guidelines, ensuring a smooth implementation process.
The guidelines are designed to uphold market integrity by setting protocols for protecting confidential information during market soundings. Respondents generally supported the objectives, providing constructive feedback that led to refinements in the guidelines.
To address their comments, the SFC has refined the scope of the guidelines, clarified some requirements, and incorporated respondents’ feedback in the guidelines as appropriate. The SFC has provided practice guidance and examples through frequently asked questions to aid intermediaries.
As Ms Julia Leung, the SFC ‘s Chief Executive Officer has said, “the guidelines tackle the misuse of confidential information during market soundings, and lead to an unfair market, these guidelines will enhance investor confidence in Hong Kong’s capital markets by clarifying regulatory expectations and deterring substandard conduct. “
SIGNIFICANCE:
The new “Guidelines for Market Soundings” are well complied to provide Four Core Principles, namely, (i) handling of information, (ii) governance, (iii) policies and procedures, (iv) review and monitoring controls; with specific requirements for Disclosing Persons (a sell-side broker) and Recipient Persons (a buy-side firm).
2. The first batch of 14 brokers joining Wealth Management Connect Pilot Scheme
On 1 November 2024, the SFC announced the 14 licensed corporations (“LC”s) eligible to participate in the Cross-boundary Wealth Management Connect Pilot Scheme (“WMC”) in the Guangdong-Hong Kong-Macao Greater Bay Area (“GBA”). This initiative aims to enhance connectivity between financial markets in the GBA and foster Hong Kong's wealth management business. The guidelines will be effective immediately.
The 14 LCs include:
China Galaxy International Securities (Hong Kong) Co., Limited,
China Industrial Securities International Brokerage Limited,
China International Capital Corporation Hong Kong Securities Limited,
China Merchants Securities (HK) Co., Limited,
China PA Securities (Hong Kong) Company Limited,
China Securities (International) Brokerage Company Limited,
CITIC Securities Brokerage (HK) Limited,
GF Securities (Hong Kong) Brokerage Limited,
Guosen Securities (HK) Brokerage Company, Limited,
Guotai Junan Securities (Hong Kong) Limited,
Huatai Financial Holdings (Hong Kong) Limited,
SDICS International Securities (Hong Kong) Limited,
Shenwan Hongyuan Securities (H.K.) Limited, and
Zhongtai International Securities Limited.
The above-mentioned LCs will work in partnership with their Mainland partner brokers, the list is to be confirmed by the relevant Mainland regulatory authority, namely, the China Securities Regulatory Commission.
SIGNIFICANCE:
As commented by Ms Julia Leung, the Chief Executive Officer of the SFC, that “Today’ s announcement marks another significant milestone for the brokerage industry and the WMC scheme in terms of enhancing the connectivity of financial markets in the GBA and fostering Hong Kong’ s wealth management business. “
With respect to the WMC Scheme, a set of guidance (the three Annex) for LCs have already been posted in January early this year which covered essentially the following items: eligible criteria for participating LCs; eligible criteria for investors; scope of eligible investment products; account opening arrangements; investor quota management; cross-boundary closed-loop fund flow arrangements; and promotion and sales arrangements.
3. SFC hosts AML/CFT Regtech Forum in November
On 4 November 2024, Ms Julia Leung, the Chief Executive Officer of the SFC , made a speech in the “SFC Regtech Forum”, main points of the speech are as below.
Regtech progress and compliance pain points as its driver
(1) A “Report on the Adoption of Regtech for Anti-Money Laundering and Counter-Financing of Terrorism” has been published to highlight use cases as helpful guidelines.
(2) Many firms have already adopted the Regtech solutions in their AML processes like name screening, customer due diligence and transactions monitoring.
(3) Conventional AML approaches are losing efficacy as bad actors are using novel techniques to launder crime proceeds, the situation is aggravated with increasing number of customers and transaction data faced by the firms.
(4) Firms are struggling with backlog of pending reviews due to high volume of false positive alerts from name screening and transaction monitoring.
(5) False alerts from traditional rule-based solutions fail to cater for multiple dynamic parameters, providing misleading solutions and causing futile investigations and operational inefficiencies, especially when real red flags are missed.
Regtech use cases burgeoning
With the advent of Regtech and the application of automation, data analytics and AI, a huge mass of data can be processed swiftly to spot out for suspicious activities. Regtech can now be adopted in many stages throughout the AML process with the use cases conducted by the SFC ranked by the usage rates.
(i) Client onboarding: mostly used to authenticate client’s identity and collect digitised customer data for subsequent AML processes.
(ii) Name screening: with a usage rate of 92% of the firms with robot process automation (“RPA”) to extract relevant customer information and compare it against the system alerts.
(iii) Transaction monitoring: with usage rate of 69% as another important process to detect unusual or suspicious transactions and activities.
(iv) Third-party deposit identification and due diligence: with a lower usage rate of 34%, attributed to its late introduction of the relevant guidelines & requirements published in May 2019 and uniqueness of the securities sector.
Responsible adoption is key
Alike other AML controls, the responsibility are still rested on the licensed firms to regularly review all Regtech solutions including AI models, and protect the customers and transaction data with robust data protection and cybersecurity measures.
SIGNIFICANCE:
The adoption of technology helps alleviate the repetitive and onerous data processing and analyses routines, and streamline the AML and KYC processes which are particularly crucial amid the sophisticated use of novel technologies by bad actors to circumvent the traditional monitoring tools.
4. Stay aware of the inherent risks in use of Generative AI Language Models
On 12 November 2024, the SFC published a circular concerning the use of generative Artificial Intelligence language models (“AI LMs”). There the SFC notes that firms are using the AI LMs in all facets of their services provided including response to client enquiries via public chatbots, generating research reports, identifying investment signals etc. The SFC also pointed out that the use of AI LMs may amplify existing risks and pose additional risks on top of those from traditional AI. The key takeaways are:
Risk in relation to AI LMs
AI LMs’ output can be inaccurate, biased, unreliable and inconsistent. For instance: (i) AI LMs are prone to hallucinations risk, (ii) bias may exist in data used to train the AI LMs, (iii) there may be heightened risk of cyberattacks and leakage of confidential information, (iv) over-reliance on certain limited number of external service providers.
In the light of the increased risks, LCs are advised to make reference to the Appendix which provided a list of non-exhaustive risk factors to be aware of in the process of adopting any AI LMs.
Scope of this circular
This circular is applicable regardless of whether the AI LM is developed or provided by the LC itself, its group company, an external service provider (Third Party Provider) or comes from an open source.
Risk-Based approach
An LC may implement the requirements in this circular, including the Core Principles, in a risk-based manner commensurate with the level of risk incurred by the application of the AI LM. It should be noted that an AI LM used by LCs for providing investment recommendations, advice or research to investors or clients are considered as high-risk use cases by the SFC. The FOUR Core Principles are:
(1) Senior Management Responsibilities
(2) AI Model Risk Management
(3) Cybersecurity and Data Risk Management
(4) Third Party Provider Risk Management
Notification Requirements
For LCs which intend to adopt AI LMs in high-risk use cases, they are reminded to comply with the notification requirements under the Securities and Futures (Licensing and Registration) (Information) Rules (Information Rules).
SIGNIFICANCE:
This circular, together with the Appendix, provide the LCs with a set of fully comprehensive guidance in relation to the use of AI LMs in the provision of their services. LC are strongly advised to seek reference and get acquainted with the requirements before adopting the AI LMs which may be a double-edged instrument if no used properly.
Enforcement News
5. SFC bans former RO of Tarascon Capital for false trading of shares
On 6 November 2024, the SFC announced that Mr Jonathan Dominic lu Wai Ching (“Iu”) has been prohibited from re-entering the industry for 15 years.
Key Findings:
Iu, a former responsible officer of Tarascon Capital Management (Hong Kong) Limited, engaged in false trading of shares.
lu used the brokerage accounts of a hedge fund and his mother, gaining $5.6 million for his mother’s account.
SFC determined that Iu is not fit and proper to be licensed due to his serious and dishonest conduct over two months, violating client trust.
This action serves as a deterrent to prevent similar future misconduct.
SIGNIFICANCE:
This ban highlights the SFC's dedication to maintaining market integrity and enforcing ethical standards. By imposing severe consequences on Iu, SFC aims to deter other practitioners from engaging in dishonest behaviour and emphasizes the importance of trust and compliance in the financial industry.
6. SFC commences MMT proceedings against Ding Yi Feng for market manipulation
SFC commenced proceedings in the Market Misconduct Tribunal (“MMT”) against Mr Sui Guangyi (“SUI”), former chairman and non-executive director of Ding Yi Feng Holdings Group International Limited (“Ding Yi Feng”), two corporate entities and 28 other suspects for alleged manipulation of the shares of Smartac International Holdings Limited (00395.HK).
The SFC alleged that between 31 October 2018 and 11March 2019, SUI and other suspects manipulated the trading of Smartac shares to push up the price and turnover, creating a false and misleading appearance of active trading. The increase in share price contributed to an investment gain by Ding Yi Feng, which held a 21.68% of the share in its gross assets as of 31 December 2018.
The SFC had issued restriction notices to freeze securities accounts linked to the suspected market manipulation of Smartac shares which still remain in force.
SIGNIFICANCE:
This action by the SFC emphasizes its commitment to combating market misconduct and maintaining market integrity. The proceedings against Mr. Sui and others are a clear signal that the SFC will take stringent measures against manipulative trading practices. Cooperation between the SFC and the China Securities Regulatory Commission underscores the importance of regulatory collaboration in addressing cross-border market manipulation.
7. SFC sanctions Zuo Ping for breaches of the Takeovers Code
On 15 November 2024, the SFC publicly censured and imposed a six-year cold shoulder order against Ms ZUO Ping (“ZUO”) for breaching the mandatory general offer obligation under the Takeovers Code.
ZUO made a number of acquisitions and disposals of shares in CBK Holdings Limited (08428.HK) on the market between 2 November 2023 and 20 November 2023, and her interest in CBK increased from 0% to 30.22% of CBK’s issued capital on 20 November 2023, triggering a mandatory general offer obligation under Rule 26.1 of the Takeovers Code. Yet ZUO did not make any general offer then.
Zuo acknowledged her breach of the Takeovers Code, and agreed to the disciplinary action.
SIGNIFICANCE:
The SFC emphasizes the importance of adhering to the Codes on Takeovers and Mergers, advising parties to seek professional advice when in doubt. The order denies Zuo access to the Hong Kong securities market from 15 November 2024 to 14 November 2030.
8. SFC suspends Yuanta’s former employee Wang Shian-tang for violation of employee dealing policy
The SFC suspended the licence of Mr Wang Shian-tang (“WANG”), a former licensed representative of Yuanta Securities (Hong Kong) Limited (“Yuanta”) for 26 months from 20 November 2024 to 19 January 2027.
In the investigation, it was found that WANG entered into a private profit-sharing agreement with a client on discretionary trading services without Yuanta’s knowledge or consent; and WANG would be entitled to 10% of any annual profits made for the client.
It was also found that WANG maintained another account with an outside broker for conducting 10 warrant trades with a total transaction value of HKD350,000; yet these were not disclosed to Yuanta which violated the employee dealing policy of the company, depriving the company to monitor his personal dealings.
SIGNIFICANCE:
With the false and disingenuous representations to the SFC regarding his personal account and trades, the SFC considered WANG had displayed dishonest behaviour that undermined the interests of his then employer and its clients, as well as the integrity of the market.
9. China Forestry’s former chairman and CEO sanctioned for insider trading
The Market Misconduct Tribunal (MMT) ordered Mr Li Han Chun (“LI”), the former chief executive officer (CEO) of China Forestry Holdings Company Limited (00930.HK), and his investment vehicle, Top Wisdom Overseas Holdings Limited (Top Wisdom), to disgorge $353,430,000 which represents the loss they avoided by insider dealing of China Forestry’s shares.
The MMT also imposed the following orders against LI and Mr Li Kwok Cheong (“LIKC”), the former chairman of China Forestry, for disclosing false or misleading information in China Forestry’s IPO prospectus, annual results announcement, and annual report for the year ended 31 December 2009, inducing transactions in the company’s shares:
Disqualification orders for five years
Cold shoulder order for five years
Cease and desist orders
Please see the SFC’s press releases dated 7 August 2024 and 28 June 2018.
And LI, LIKC and Top Wisdom had to pay the costs and expenses incurred by the Government and the SFC as well.
SIGNIFICANCE:
This case underscores the importance of transparency and integrity in the financial markets, with severe penalties for insider dealing and disseminating false information to maintain market trust and investor confidence.
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