Clara Hackney -  Sumit Indwar Financial Regulation

Hong Kong SAR - SFC releases findings on survey on LFET activities and expectations on good industry practices applicable to LFET brokers

The SFC released a circular summarising its findings on a Report on a survey of 32 firms licensed for Type 3 regulated activity (leveraged foreign exchange trading, “LFET”) between 1 January 2018 and 31 December 2018. The survey reinforced the concerns the SFC had of the risks LFET activities posed to clients, in particular to retail and unsophisticated clients, given that it often involves complex or non-standard features. In light of the conclusions of the Report, the SFC explained and further highlighted in the Annex certain expected regulatory standards and good industry practices observed by the SFC during the course of its regulatory supervision of LFET brokers.
 

Key findings of the Report include:

  • In 2018, the turnover in LFET market was $1,844 billion and over 99% was attributable to rolling spot forex contracts. Turnover was relatively low for more complex forex products such as options and forward contracts, which may be difficult for retail investors to understand;
  • All LFET products were traded on an overthe-counter basis;
  • Of the total 15,096 active LFET clients reported by the brokers surveyed, 98% were retail investors; and
  • More than 60% of the LFET clients of a sample of brokers made net trading losses in LFET.

The guidance given by the SFC in the Report and Annex, in the specified areas below, remind LFET brokers to:

  • Customer due diligence: take reasonable steps to establish the financial experience of each LFET client whilst providing them with adequate information so that they are able to understand the risks associated with LFET;
  • Handling of client orders: act honestly, fairly, with due skill, care and diligence, and in the best interests of their clients which includes executing the orders on the best available terms to avoid dishonest and unfair execution practices, as well as adopting a fair pricing methodology including ensuring that all charges, markups or fees affecting clients are fair and reasonable and characterised by good faith;
  • Conflicts of interest: take steps to avoid any conflicts of interest, and when such conflicts cannot be avoided, disclose any actual or potential conflicts and ensure that the clients are fairly treated; and
  • Information for clients: provide clear and effective disclosure to clients on how their orders are executed, including but not limited to, their order execution policy and their methodology for determining the prices of different LFET products. Order execution policies should disclose the capacity in which brokers trade with or act for the clients when adopting a Straight Through Processing model, while brokers who use a Dealing Desk model must disclose the fact that they act as the counterparty of client orders and take opposite positions to the client’s order.

Aside from the obligations on LFET brokers, the SFC mentions in the Report that the senior management of LFET brokers should assume responsibility for developing and implementing policies and controls to comply with the expected regulatory standards.

Next Steps

The SFC expects all LFET brokers to review their policies and controls to ensure compliance with the expected standards highlighted in the report by 1 January 2021.