The Securities and Futures Commission of Hong Kong has publicly reprimanded Okasan International (Asia) Ltd and fined it $4 million for treating clients unfairly in many ways.

The fine was levied under s194 Securities and Futures Ordinance. The regulator says that it took the disciplinary action because Okasan failed to:

• be "duly diligent" to an adequate degree in respect of unlisted investment products before making recommendations or solicitations to its clients;
• ensure that the recommendations or solicitations it made to its clients in relation to these unlisted investment products were suitable and reasonable in every case;
• maintain adequate documentary records of the investment advice it gave to its clients and provide them with copies of the same; and
• disclosure adequate information to clients about the trading profits it was making from back-to-back transactions in relation to unlisted investment products.

Okasan is licensed under the Securities and Futures Ordinance to carry out Type 1 (dealing in securities) and Type 4 (advising on securities) regulated activities.

Acting perhaps on a tip-off, the SFO descended on it in October 2013 and began a review of its business practices that quickly focused on its policies and procedures in connection with its business of distributing unlisted investment products and providing investment advice about them.

According to Okasan's own figures, between January and September 2013 (the SFC follows British practice and calls this the 'relevant period') the company executed 51 transactions in relation to unlisted investment products for its retail/HNW clients, of which 29 transactions involving 21 clients were buy transactions solicited by Okasan, and 12 transactions involving 11 clients were sell transactions solicited by Okasan.

"Product due diligence"

The regulator's "statement of disciplinary action" contains no definition of the phrase "ensuring/conducting due diligence" that it likes to use, nor do its rules. Its "Code of Conduct for Persons Licensed by or Registered with the SFC" has a section called 'diligence' (but not, rather confusingly, 'due diligence') in which it states that 'diligence' (apart from the literal function of being vaguely diligent in an unspecific way, which it alludes to in a couple of subsections) consists of taking "all reasonable steps to execute promptly (sic) client orders," executing clients' orders on the best available terms, allocating transactions executed on behalf of clients promptly and fairly to the accounts of those clients, not withdrawing or withholding clients' market orders or limit orders for one's own convenience, the prompt collection of margin dues from clients, the keeping of separate accounts for clients, the monitoring of compliance with reporting limits, order recording, acting in the best interests of the client, and not offering gifts while promoting products. There is no clue as to which of these meanings this oft-repeated phrase might touch on.

The SFC, despite its mysterious lexicon, definitely found fault with Okasan's written policy for "conducting product due diligence." It generated yet more mystery, however, by inferring in its "statement of disciplinary action" that it did not know whether Okasan was following a written policy or a written procedure, or both, in its botched attempts to do this job. The mysterious phrase in question is "Okasan did not have adequate written policy and/or procedures."

Okasan also did not have any standard mechanism for evaluating investment products, preferring instead to ask product issuers about the structure of the investment products, how they worked, the nature of the underlying investments, the inherent risk, and the reputation/credit risk that the product issuers were facing. It kept no records other than the 'product offer sheets,' which only recorded information from the bookrunners or information to be found in the prospecti and on Bloomberg. There was no record of any verification, of enquiries Okasan made about the products; or its criteria for selecting the products for distribution to its clients.  

Okasan’s managing director said that when the firm was deciding whether to market an investment product to its clients, its most important consideration was the product's credit rating. The regulator thought that this was at the expense of risk return profiles, prospects for growth, the products' liquidity, their past performance, the experience and reputation of the product issuers, the fees and charges, etc.

Unsuitability

The SFC also punished Okasan for not asking its clients for enough information about their investment horizons and risk appetites. It did not even collect information about their financial situations, investment experiences and investment objectives in some cases. It therefore broke General Principle 2, paras 3.4 and 5.2 of the aforementioned code of conduct.