Caution Urged for Hong Kong Bankers as Suitability Rule Enforced

Hong Kong banks selling risky investment products may now have more motivation to flag the worst possible outcome to their buyers.

That’s the view of Ernst & Young LLP after the city’s Securities and Futures Commission said on Dec. 8 it will require all registered institutions to include a clause in client agreements stipulating that the product they’re selling is suitable for the investor. The rule will be exempted for some entities such as institutional and corporate professional investors.

"Even if you want to take the risks that may blow you up financially, the banks have a responsibility to try to stop you or at least not help," said Keith Pogson, a senior partner for Asia-Pacific financial services at Ernst & Young. For purveyors of financial products, this means being more cautious on what they sell and far more documentation in sales relationships, processes and identification of the nature of clients, he said.

The clause mandates that when sellers "solicit the sale or recommend any financial product" such as securities or leveraged foreign-exchange contracts, it needs to be suitable for the investor and no document the investor signs will remove the duty from the seller.

Claiming Damages

For the first time in Hong Kong, one of the world’s largest wealth management and private banking hubs, clients of regulated intermediaries may have a contractual right to claim damages for an alleged breach of suitability, according to Cliff Chow, a senior associate at law firm Allen & Overy LLP.

There are currently regulatory obligations in place for authorized institutions to meet the suitability requirement, according to Matt Bower, a Hong Kong-based partner at Allen & Overy.

"The question is whether the client can claim redress for breach of that obligation where the obligation isn’t a contractual one," Bower said. "The SFC’s consultation conclusion will provide for a contractual obligation which would otherwise be absent."

Jonathan Li, spokesman for the SFC, declined to comment. The SFC said in its Dec. 8 statement that "the New Clause aims to enable aggrieved investors to seek redress as a contractual right under the client agreement."

The move follows some high court cases where investors had asserted that certain regulatory duties are implied in client agreements and had been breached but those claims had failed, Allen & Overy’s Bower said.

While all banks will be impacted, the extra costs involved won’t the same for everyone, according to Paul McSheaffrey, co-head of banking at KPMG China.

"We are already seeing many of the larger banks enhancing their policies and procedures around suitability and, crucially, the monitoring of sales," Hong Kong-based McSheaffrey said. "The costs involved in the enhanced monitoring likely to be required may weigh heavier on smaller banks and intermediaries.”

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