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6. Client Securities Rules

Q1 : “Securities collateral” is defined to cover securities provided as security for the provision of financial accommodation, or to facilitate such provision.  It has been assumed that this definition is not intended to apply to transactions such as equity repos, where a person might receive cash from a licensed corporation against the delivery of securities with a future obligation to purchase equivalent securities from the licensed corporation. In this case, the securities are sold outright to the licensed corporation, rather than being provided by way of collateral. Nor should securities be treated as client securities or as securities collateral where:

1. securities are delivered to a licensed corporation pursuant to a stock loan, against payment of cash collateral; or
2. securities are transferred to a licensed corporation pursuant to an equity swap; or 
3. securities are provided to a licensed corporation subject to an outright transfer.  

Securities collateral refers to shares deposited under a share pledge.  However, some financing arrangements involve an outright transfer of securities to the creditor to hold the same as the legal owner pending full repayment of the loan.

A:

Our view is that in principle, securities that are subject to an outright transfer, such as in the examples given, do not constitute “securities collateral” but we will always look at the substance of an arrangement.

Q2 : On the assumption that trustee and nominee companies are both associated entities, are the Client Securities Rules applicable to trustee and nominee companies if they hold or receive securities in HK?

A:

Yes, if the trustee and nominee companies are associated entities of the intermediary and receive or hold client securities or securities collateral in HK in relation to the conduct of regulated activities by the intermediaries.

Section reference: 3(1)

Q3 : We are an asset management company with client assets deposited with an independent custodian bank in clients’ name while some Taiwan securities are deposited with Citibank Taipei in our name due to QFII issues.  Do the Client Securities Rules apply to such Taiwan securities?

A:

No. The Rules only apply to securities traded or listed on the SEHK or are interests in collective investment schemes authorized by the SFC. 

Section reference: 3(1)

Q4 : In relation to section 3(1)(b) of the Client Securities Rules, would client securities or client collateral be regarded as "received" or "held" in HK if deposited in or credited to the custody account maintained with an intermediary's overseas branches?

A:

No.

Section reference: 3(1)(b)

Q5 : It is not clear if an authority signed by a client stating that it will remain valid unless otherwise instructed will meet the requirement of para. (c). If not, this will impose a heavy administrative burden on the industry. It is, therefore, recommended that the said provisions be modified to allow more flexibility.

A:

Section 4 explicitly disallows automatic renewal. Any administrative burden in complying with the requirement should have been substantially reduced by our allowing implicit renewal.  It is important to remind investors of such authority on a yearly basis for investor protection purposes. 

Section reference: 4

Q6 :

1. If a client has provided a written authority to pledge his shares on 1.1.03 which is due to expire on 31.12.03, can we ask the client to sign a new standing authority before the SFO comes into effect on 1.4.03?
2. If a client has provided a written authority to pledge his shares on 1.1.03 which is due to expire on 31.12.03, is the client required to renew a standing instruction given under section 81A of the Securities Ordinance before 1.4.03 even it is still valid?

A:

1. Yes, you can ask the client to sign a new standing authority before the SFO comes into effect on 1.4.03.

   A licensed corporation would not need to obtain a new standing authority where the existing authority already fulfils the requirements in section 4 of the Rules.  However, it should inform its clients of the changes in the rule references and, where applicable, its plan to switch to the deemed renewal method.

   On the basis that the licensed corporation is to obtain a new standing authority, this can only have effect from 1.4.03 and the licensed corporation will still need to rely on the existing written authority before 1.4.03.

2. No.  As long as the standing instruction given under section 81A of the Securities Ordinance has not yet expired before 1.4.03, it will remain valid for the remainder of the period for which it is current.

Section reference: 4 & 5

Q7 : Will the requirements for Standing Authority apply to clients with:

1. margin lending facilities;
2. hold mail arrangements; 
3. granting powers of attorney?

A:

No. The standing authority referred to in the Rules only refers to disposition of client securities and securities collateral.

This is not to be mixed up with any other standing authority required under the Code of Conduct.

Section reference: 4(1)

Q8 : Is a Standing Authority given by a professional investor not subject to any time limit? If so, can a clause be included in the Standing Authority that the client instruction will remain valid indefinitely until otherwise instructed so that no pre-expiry notification and post-expiry confirmation to clients are required.

A:

Yes.  A Standing Authority given by a professional investor is not subject to any time limit.  The Commission has no objection including such a clause in the Standing Authority.   

Section reference: 4(2) & (3)(a)(ii)

Q9 : Is the existing practice under section 81A of the Securities Ordinance which requires clients to sign the letter of renewal of the written authority when it expires, (otherwise the client securities collateral cannot be pledged to authorized financial institution to obtain financing) sufficient to satisfy these rules?

A:

Yes. Clients can continue to renew their standing authority under section 4(3)(a) of the Rules.  The deemed renewal process provided in section 4(3)(b) is merely an alternative to give greater flexibility.  

Section reference: 4(3)(b)(i) & (4)

Q10 : The Securities Ordinance only requires client securities to be kept in a designated account whereas the new Client Securities Rules require the account to be designated as a trust account or a client account.  Some brokerage firms may have opened different accounts for different clients or different groups of clients, using account names such as "ABC Brokerage Ltd - Chan Tai Man", "ABC Brokerage Ltd. - Client account A".  Arguably, this provides better segregation and probably better complies with the spirit of the Code of Conduct.

A:

"Designate" does not necessarily require that an account be called "client account" or "trust account" though naming them as such would obviously serve to identify or describe them as accounts of this nature. The ultimate purpose is to ensure that the securities are clearly segregated from the brokerage's house accounts and can be readily identified as such.  Hence, provided the account name sufficiently identifies, signifies or characterizes as a client or trust account, the rules will be complied with. If you have any doubts about the designation adopted by your firm, please contact the Intermediaries Supervision Department to discuss.

Section reference: 5

Q11 : Like the existing section 81 of the Securities Ordinance, the Rules require client securities and securities collateral to be deposited or registered as soon as reasonably practicable.  However, there seems to be another requirement for securities to be properly transferred between the Clearing Account and the designated accounts within 1 business day.

A:

Yes, we take the view that “as soon as reasonably practicable” generally means “within 1 business day” for the transfer of securities amongst the CCASS accounts.

Section reference: 5(1)

Q12 : Will the standing authority or one-off directions be necessary if a client wants all of his securities purchased to be immediately passed onto his own custodian?

A:

At present, there are many clients with their own custodians that settle on a DVP basis with their brokers.  Such clients will have given settlement instructions to the broker for this purpose at the outset.  The regulatory intention is not to require such instructions to be renewed every year or to require it to be given each time as these instructions should be allowed to remain valid until amended by the client. 

Section reference: 6

Q13 : Is it allowable to transfer stock between a client’s margin account and his cash account?

A:

This is only permitted if the transfer is in accordance with a one-off direction but not a standing authority, as it would seriously undermine the protection intended by the Rules as the licensed corporation will then be in the position to re-pledge such securities.

Section reference: 6(1)

Q14 : The Rules permit an oral instruction “to settle such a sale order”.  Can I take this to mean that I can take a client’s oral instruction to effect a Settlement Instruction on CCASS in order that the client can sell through another broker?

A:

No, you cannot as “such a sale order” referred to in section 6(1)(a)(ii) refers to the sale order referred to in section 6(1)(a)(i), i.e. a sale order by the intermediary in question.

Section reference: 6(1)(a)(ii)

Q15 : If a client gives a written direction to permanently select scrip dividend for a particular stock, e.g. HSBC Holdings plc, in the client’s account from time to time, will the direction be considered as relating to specified securities and would section 6(1)(b) & section 6(4) be applicable?

A:

No., as it appears to be a standing instruction to acquire securities rather than a direction to treat existing client securities.  Hence, the Rules do not apply in this situation.

Section reference: 6(1)(b) & (4)

Q16 : With an agreement in writing between the client and the bank, is it true that a standing authority is not necessary in order to permit the bank to dispose of securities and collateral in settlement of any liability owed by or on behalf of the client to the Bank?

A:

Yes, with the agreement in writing, a bank is not required under the Rules to obtain a separate standing authority to dispose of client securities and securities collateral in settlement of any liability owed by or on behalf of the client.

Section reference: 6(3)

Q17 : Can a broker deposit securities collateral as collateral to secure financial accommodation for one of its group companies (i.e. a third party obligation)?

A:

No, section 7(2)(b) of the Rules only allows financial accommodation to be provided to the intermediary itself.

Section reference: 7(2)(b)

Q18 : Do the Client Securities Rules allow for:

1. withdrawals of client securities collateral that are triggered by the issuer of the securities (e.g. corporate actions relating to the securities which do not involve a change of beneficial ownership) and
2. intermediaries and their associated entities to follow instructions from a government authority, regulators and to abide by court orders.

A:

We take the view that such matters are permissible.

Section reference: 13(3)

Last update: 17 Mar 2003