Introduction
On 24 February 2016, the Hong Kong Securities and Futures Commission (SFC) issued the Consultation Conclusions in relation to expanding the scope of short position reporting and the corresponding amendments to the Securities and Futures (Short Position Reporting) Rules (Consultation Conclusions). The Consultation Conclusions is based on a public consultation which commenced on 27 November 2015 and ended on 31 December 2015, where various proposals were put forth by the SFC in a consultation paper titled Consultation to expand the scope of short position reporting and on the corresponding amendments to the Securities and Futures (Short Position Reporting) Rules (Consultation Paper).
There are currently two reporting regimes that regulate the disclosure of short positions in Hong Kong. In the Consultation Paper and the Consultation Conclusions, the SFC is solely concerned with the enhancement to the weekly short position reporting regime (SPR Regime) governed by the Securities and Futures (Short Position Reporting) Rules (SPR Rules), the impetus being the SFC’s observations of recent short selling trends in the Hong Kong market.
As this Oversight will further outline, the SFC cites support for all of their proposals made in the Consultation Paper, and will proceed to adopt the amendments to the SPR Rules as given in Appendix A to the Consultation Paper. This will be submitted to the Hong Kong Legislative Council for negative vetting, and subject to the legislative process and to give reasonable lead time to the market to reconfigure the related reporting systems and procedures, the SFC proposes to implement the amended SPR Rules on 15 March 2017. Market participants should start preparing for the necessary changes to their systems and procedures so that they can keep up with the implementation timetable as soon as it is announced by the SFC.
What must be Reported under the SPR Rules?
The Existing Weekly Short Position Reporting Regime
In Hong Kong, covered short selling is only allowed in relation to “Designated Securities”. As of 30 October 2015, such Designated Securities comprised a total of 889 stocks and collective investment schemes (CIS), including exchange traded funds (ETFs), real estate investment trusts and other unit trusts/mutual funds. A list of Designated Securities can be accessed at: http://www.hkex.com.hk/tradinfo/secshortsell/secshortsell.htm.
When the SPR Regime first came into effect on 18 June 2012, the SFC was most concerned with certain stocks whose performance they believe may most affect the financial stability of the Hong Kong market. As such, under the existing SPR Regime, reporting obligations are only imposed on those short positions resulting from trading in “Specified Shares” (which is a sub-set of the Designated Securities comprising of 127 stocks) on the SEHK and such other trading venues (including Alternative Trading Services) specified in Schedule 2 to the SPR Rules (none are listed at present). Specified Shares are those stocks specified in Schedule 1 of the SPR Rules, which presently includes shares which are constituents of the Hang Seng Index, shares which are constituents of the Hang Seng China Enterprises Index, and shares which are both Designated Securities and classified as “financial stocks” by the Hang Seng Indexes Company Limited in accordance with the Hang Seng Industry Classification System.
For these Specified Shares, the SPR Regime is concerned with their “net short positions”, which means the number of Specified Shares beneficially owned less the number of Specified Shares sold short on the SEHK multiplied by the closing price per Specified Share at close of trading on the last trading day of the relevant week. For this purpose, a “short position” refers to the position a person has as a result of selling the specified shares, where:
- At the time of each sale comprised in the position, the person did not have a presently exercisable and unconditional right to vest the Specified Shares in the purchaser, or
- Each sale comprised in the position was the subject of a short selling order.
Under the current SPR Rules, a person must make the requisite reports if, at the end of the last trading day of a week, he holds a net short position in any of the Specified Shares which is equal to or exceeds the lower of either 0.02% of the market capitalisation of the listed issuer or HK$30 million (Reporting Threshold). The person has to continue reporting until his net short position falls below the Reporting Threshold.
Changes to the Weekly Short Position Reporting Regime
Expanding the scope of short position reporting to cover all Designated Securities
In the Consultation Paper, the SFC had stated their observation that many actively short-sold stocks in the market are not Specified Shares. They noted that during the period of January to October 2015, listed CISs, including ETFs, have become an increasingly important segment of the Hong Kong market, where short selling turnover of CISs accounted for about 24% of daily trading in these CISs, and 22% of daily short selling turnover of the entire Hong Kong market. As such, the SFC proposed that the SPR Regime expand to include all Designated Securities, with a view to enhancing the monitoring of all short selling activities.
In the Consultation Conclusions, the SFC cited the “support” of a majority of financial institutions and professional associates, and decided to proceed with its proposal to subject all Designated Securities to short position reporting under the SPR Rules. As a result, the SFC will be amending the current definition of Specified Shares in Rule 2 of the SPR Rules to include interests in CIS in addition to interests in stocks, and will revise the list of Specified Shares in Schedule 1 to the SPR Rules to broadly refer to all Designated Securities. As such, all interests in Designated Securities will be subject to the SPR Regime going forward.
In light of the expanded scope of stocks that have to be reported, the SFC has agreed to publish a list of Designated Securities in Comma Separated Value (CSV) and PDF format, similar to what is being used presently for existing Specified Shares. These documents will contain such information as the security type of a Designated Security, and the currency that the Designated Security is traded in. While there have been suggestions that the exchange rates for currencies other than Hong Kong dollars be included in the CSV file as well, the SFC considers this to be impractical as it would require the updating of the list on a daily basis.
Addition of a separate Reporting Threshold for reporting short positions in interests in CIS
As a result of the above expansion in interests subject to the SPR Regime, there will be a vast increase in number of additional stocks and CISs that will be subject to short position reporting requirements. The SFC observed that the Designated Securities which are not currently Specified Shares generally have smaller market values than that of the existing Specified Shares. However, the SFC’s view is that confusion may be caused if different reporting thresholds are set for different classes of stocks. Further, the SFC also noted that the nature of CISs differ from regular stocks, in that the market capitalisation of open-ended CISs changes frequently as a result of daily creation and redemption, and utilising a benchmark based on market capitalisation may not be practical.
As a result, the SFC will be keeping the Reporting Threshold for all Designated Securities which are stocks at the current level, and will be establishing an additional reporting threshold for CISs, to be set at HK$30 million. Consequent amendments will be made to Rule 3 of the SPR Rules to segregate the different threshold requirements for stocks and CISs respectively.
Who is Responsible for Reporting Under the SPR Rules?
In the Consultation Paper and the Consultation Conclusions, the SFC has not made any proposal or suggested any amendments to the class of persons that are required to make short position reports under the SPR Rules. However, bearing in mind the expanded scope of short position reporting to cover all Designated Securities, market participants need to be aware and consider when participating in short selling activities, whether the Reporting Threshold has been triggered, be it in stocks or in interests in CISs.
Persons who have a reportable short position as a result of selling short the shares (ie each fund and each owner of a managed account has the legal obligation to report its reportable short positions) and each of the individual legal entities within a group structure must report their own reportable short positions separately.
In the case of trusts, including funds which are established as unit trusts, the trustee and not the beneficiary of the trust must report the net short positions held by each trust separately (ie short positions of different trusts are not to be aggregated by their common trustee).
As for partners in a partnership, where the partners have a reportable net short position, then a report submitted by a partner or another person authorised by all of the partners of the partnership, on behalf of those partners, will be regarded as having complied with the SPR Rules. Where a person with the reportable short position is a partner in more than one partnership, separate reports on the short position attributable to each partnership must be made.
Persons with the obligation to report may authorise an agent (eg the fund may authorise its investment manager) to report on their behalf. However, in that case, the principal (ie the fund) will remain legally responsible under the SPR Rules for the reporting obligation. If the investment manager is appointed as agent to make these reports on behalf of the fund it manages, it will have to report the net short positions of each fund separately, as it will not be permitted to net off positions between such funds. At the same time, there is no requirement for an investment manager to aggregate the short positions of such funds.
Timing and Modalities for Submitting Reports
The SFC has not proposed any amendments to the timing in which short position reports should be made. As such, where short position reporting is required, reports will have to be submitted electronically via the Short Positions Reporting Service by the second business day (not including Saturday) after the last trading day of each week, so they will usually have to be submitted each Tuesday (assuming this is a business day) following a week in which Friday is the last trading day.
In relation to the other operational aspects, the SFC will be making the following changes to the SPR Regime:
Foreign currency trading
Some Designated Securities which will be included in the SPR Regime under the new SPR Rules are traded in foreign currencies (which currently includes US dollars and Renminbi) or in multiple currencies. For these Designated Securities, the SFC has proposed that the reportable closing price be converted into Hong Kong dollars before determining the value of their net short positions. Since, as explained above, the SFC will not be including the daily exchange rates into the CSV list of Designated Securities for practical reasons, those required to convert the reportable prices into Hong Kong dollars before making the requisite reports may directly utilise the exchange rates published on the Hong Kong Exchanges and Clearing Limited website for telegraphic transfers as determined by the Hong Kong Monetary Authority.
Rule 3(2)(c) of the SPR Rules will be amended and a new Rule 3(2)(d) will be inserted to encompass circumstances where the closing price of a Designated Security is in a foreign currency.
Reporting in contingency situations
Under the existing SPR Rules, the SFC is empowered to change the Reporting Threshold and the frequency of the reporting requirements from weekly to daily when the SFC determines that the financial stability of Hong Kong is threatened. In these circumstances, the SFC may issue a public notice at least twenty-four hours in advance to require daily reporting on net short positions that reach the Reporting Threshold (Daily Reporting Requirement). A public cessation notice will be published when the SFC considers daily reporting is no longer required owing to the change in market situation.
In light of the expansion of reporting requirement to cover all Designated Securities, the SFC recognised that this would greatly increase the amount of securities that would be subject to the Daily Reporting Requirement, and would be burdensome for parties involved. Meanwhile, the circumstances giving rise to the contingency situation may not affect all Designated Securities. As such, the SFC has decided that as and when the market situation arises, it will further determine and issue a public notice to identify the specific Designated Securities required to conduct daily reporting (the Daily Reporting Securities).
To facilitate the above, the SFC will be amending the SPR Rules to provide for flexibility to identify a specified list of Daily Reporting Securities, and to cease the Daily Reporting Requirement on one or more Daily Reporting Securities, depending on the prevailing market situation.
Expansion of reporting channels
As mentioned, market participants are currently required to make the requisite short position reporting through a specific electronic system developed by the SFC for this purpose. However, in light of the advancement of technology, the SFC has proposed in the Consultation Paper that added flexibility be inserted into the SPR Rules for the SFC to adopt more than one electronic system in the future.
The SFC stated that it will undertake further studies into the area, and will make an announcement with the relevant details once it is complete. Market participants must continue to use the existing channel for reporting short positions until further notice.
In the meanwhile, the SFC will proceed to amend the SPR Rules to create flexibility in the wording of the regulation for the addition of reporting channels. It will also enhance the SPR Rules to clearly specify that a short position report will only be regarded as submitted if it is done in accordance with the directions and instructions published by the SFC.
Conclusion
The Consultation Conclusions have in essence adopted all of the proposed changes regarding the SPR Rules as set out in the Consultation Paper. Appendix A of the Consultation Paper, which contains a draft of the new SPR Rules to be submitted to the Legislative Council, is available at: https://www.sfc.hk/edistributionWeb/gateway/EN/consultation/openFile?refNo=15CP6.
Owing to the various amendments to the SPR Rules, in particular the expansion of the scope of Specified Shares to include all Designated Securities, market participants will have to prepare themselves for the revised SPR Rules and their corresponding reporting obligations. It must be borne in mind that short position reporting obligations arise irrespective of actual knowledge. As the failure to disclose reportable short positions without reasonable excuse exposes market participants to criminal sanction, it is imperative that any person or legal entity that holds short positions (including their directors and officers) keep themselves informed of the obligations under the SPR Rules.
As stated above, the SFC will be publishing further details in regards to the proposed CSV file which will cover a list of all Designated Securities. The SFC has encouraged market participants to subscribe to the short position reporting e-mail alert service to receive further information (including file specification, sample file, when and where the file will be published).
JWS Asia Law Corporation, Singapore
Simmons & Simmons has a ‘best friends’ relationship with JWS Asia Law Corporation. Working closely together, Simmons & Simmons is able to provide Singapore hedge fund expertise and local market knowledge through JWS Asia.
JWS Asia is a boutique Singapore law practice that provides a one-stop service to the asset management and investment funds sector in Singapore.
JWS Asia offers a full range of legal services to clients across all stages of development – from fund structuring formation and marketing, to advisory services such as licensing, corporate structuring, litigation and transactional services.
Jek-Aun Long
T +65 6831 5591
E jekaun.long@jwsasialaw.com.sg
12 Marina Boulevard, #38-04
Marina Bay Financial Centre Tower 3
Singapore 018982
_11zon.jpg?crop=300,495&format=webply&auto=webp)
