New electronic-trading regulations in Hong Kong may cause some firms to exit the business due to increased compliance costs, according to James Wadham, a partner at law firm Clifford Chance in Hong Kong.
Intermediaries will be responsible for all orders made via their electronic trading platforms under the new rules released by the Securities and Futures Commission yesterday after a consultation that closed in September. While firms won’t be held strictly liable for misconduct or wrongdoings, they will be responsible for all settlement and financial obligations for orders sent through their systems, including those by clients that can send orders directly to venues.
Hong Kong is the most recent jurisdiction after Australia and Europe to update rules for electronic trading after the practice was blamed for a May 2010 incident that saw the Dow Jones Industrial Average briefly lose almost 1,000 points in less than 20 minutes. The new rules also require thorough testing of electronic systems and keeping of records of how the systems are developed and used and of any “material” failures or delays.
“The proposals may cause some providers to reconsider whether this is a viable service,” Wadham said by telephone. “There will need to be a significant cost increase around compliance and if you’re not prepared to incur that, you may have to get out of this business.”
The SFC rules, which come into effect Jan. 1, are based on principles published August 2010 by the International Organization of Securities Commissions on direct electronic access to markets, the Hong Kong regulator said in a statement yesterday.
“The initiatives are intended to provide clarity to intermediaries on the standards that they are expected to meet when they conduct electronic trading,” Ashley Alder, chief executive of the SFC, said in a statement yesterday. “They must have appropriate policies, procedures and controls in place to ensure their electronic trading activities will not pose undue risks to the market.”
The conclusion paper clarified that “intermediaries will not be held strictly liable for their clients’ misconduct or wrongdoings.” The proposed rules suggested making intermediaries “ultimately responsible,” without this specification.
The heightened cost of compliance, Wadham said, will come from the record keeping, systems testing and risk management procedures. The rules will be part of Hong Kong’s code of conduct for securities market participants, meaning breaches would be punishable by sanctions including fines and license suspensions.
“It will be challenging, but it should be enough time for most, depending on their existing systems and controls,” Wadham said of the Jan. 1 deadline. “Some providers are not as well resourced as others, and they will have more to do.”
The new rules only apply to orders placed using electronic systems including the Internet, and do not apply to the operations of alternative trading venues and dark pools, anonymous platforms that do not display prices, the SFC said. A separate market consultation on the platforms will be published later this year, the SFC said in the statement.