Hong Kong tightens regulation of derivatives sales

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MIN LEE Hong Kong officials said Monday they have tightened regulation of complicated investment products after thousands of local retail investors were burned by Lehman Brothers-backed derivatives last year. But lawmakers said the new measures fall short, and urged the government to prosecute banks that misled investors and to ban some risky products outright. Under the new regulations, banks must issue risk warnings for complex products and record conversations between their sales staff and clients to prevent deception, K.C. Chan, Secretary for Financial Services and the Treasury, said at a legislative hearing Monday. The government was also considering setting up an investor education body and a financial services ombudsman, he said. The measures come after 30,000 Hong Kong small investors who bought $1.8 billion in Lehman-linked derivatives were left in limbo after the U.S. investment bank collapsed September last year. Upset they weren't fully aware of the risk their investments carried -- many of the complex derivatives were innocuously labeled "mini-bonds" -- investors took to the streets. Hong Kong regulators announced a settlement with 16 local banks in July that returned up to 70 percent of principal to the buyers, or up to $6.3 billion Hong Kong dollars ($813 million). Opposition lawmaker Ronny Tong criticized the government for not focusing on legal action. "I think it's strange that there is not a single case of prosecution after investigating for more than a year," Tong said. Another lawmaker, Albert Ho, asked Chan why the government didn't consider banning certain risky products altogether, as do a number of other developed markets when it comes to selling to retail investors. "Your approach is still disclosure-based. As long as you disclose the risks, if the disclosure is fair and comprehensive, you can sell anything. But shouldn't the government exercise discretion and ban certain products that are very complicated, very risky or whose terms are unfair to investors?" Ho said. Chan argued disclosure-based regulation is the international norm, adding that the new measures require bank staff to explain their products in layman's terms and assess their clients' appetite for risk. "When you want to sell complicated products to inexperienced investors, the process is very demanding. We want to make sure that complicated products are only sold to investors who truly understand them," Chan said. Thousands of investors who bought other financial products not covered by the July settlement have complained they are being ignored. A Hong Kong Monetary Authority official said Monday regulators are about to take action on about 600 such cases.