SFC Consultation Paper Concerning the Regulatory Oversight of Credit Rating Agencies

Observations on the SFC Consultation Paper Pertaining to the Regulatory Supervision of Credit Rating Agencies
Following an extensive review and comprehensive deliberations among our members, we present the following summary of our conclusions and perspectives regarding the consultation document in question:
Reactions to the Consultation Queries:

Q1 Is it appropriate for Hong Kong to subject CRAs to a regulatory oversight regime consistent with international developments?

We support the implementation of a regulatory framework in Hong Kong that aligns with international development trends to oversee credit rating agencies.

Q2 Should regulatory oversight of CRAs be achieved by extending the existing licensing regime under the SFO to CRAs and those of their staff who perform regulated functions?

We agree that the existing licensing system under the Securities and Futures Ordinance should be extended to cover credit rating agencies and the individuals responsible for executing regulated functions, in order to effectively oversee and regulate credit rating agencies.

Q3 Do our draft amendments to the SFO effectively distinguish “providing credit rating services” from “advising on securities”?

We support the proposed amendments to the Securities and Futures Ordinance drafted by your association, as they effectively differentiate between “providing credit rating services” and “advising on securities."

Q4 Should the proposed new licensing requirement apply to the rating of sukuk?

We agree that the proposed licensing system should be applied to the rating of Sukuk.

Q5 Should the following activities be excluded from the proposed new licensing requirement:
(a) preparing credit ratings for an organization’s internal purposes;
(b) preparing private credit ratings; and
(c) sharing or analyzing consumer or commercial credit data (such as through
consumer or commercial credit reference agencies)?

We agree that the proposed new licensing regulations should exclude this activity.

Q6 Further to question 5, do our draft amendments to the SFO effectively exclude these
activities from the proposed new licensing requirement?

The preliminary review of the amendments to the Securities and Futures Ordinance drafted by your association suggests that they could effectively exempt the relevant activities from compliance with the new proposed licensing regulations.

Q7 Are the proposed paid-up share capital and liquid capital requirements for Type 10 regulated activity appropriate?

Regarding the proposed capital and liquid fund requirements for regulated activity under Type 10, our association has no objections; however, we are concerned about whether there is sufficient protection for compensation in the event of litigation. We question whether insurance is necessary, as this differs from providing investment advice. When issuing and trading bonds, the rating reports often rely on instruments for pricing.

Q8 Does the CRA Code of Conduct satisfactorily set out the factors that should guide CRAs in the conduct of their business and which should be relied upon by the SFC in considering whether a person is, or remains, fit and proper to be licensed or registered for Type 10 regulated activity?

Regarding the CRA Code of Conduct, our association would like to add the following points:

a. There should be a disclosure of whether the initiation of the rating report is requested by clients involved in bond issuance or purchase, or if it is a routine review by the rating agency.

b. The rating agency must disclose its procedures, policies, and timing for updating ratings. Updates should occur regularly or in response to sensitive factors, with clear explanations for the reasons and timing of changes.

c. The research duration, completion time, and publication time of the rating report should be disclosed. In cases where services beyond credit ratings are involved, there should be a guarantee of timely public disclosure (ideally within one week of completion) to minimize opportunities for insider trading and market manipulation.

d. Within the rating industry, there should be sufficient independence from revenue influences to maintain credibility, preferably achieved through the division of labor among different groups and personnel involved in the development of relevant client ratings.

Q9 Should persons licensed or registered for Type 10 regulated activity be permitted to be licensed or registered for other types of regulated activity?

Individuals licensed or registered to conduct regulated activity under Type 10 should not be permitted to hold licenses or registrations for other categories of regulated activities. Currently, the credit rating service is largely dominated by a few U.S.-based agencies, and this service is quite unique. During the issuance and trading of bonds, rating reports are often essential and heavily rely on specific tools, which can easily lead to conflicts of interest that affect impartiality and credibility. Engaging in other activities simultaneously can create unfair advantages over other operators and pose long-term threats to financial stability.

Q10 Should persons licensed or registered for Type 10 regulated activity be subject to a sole business restriction?
Individuals licensed or registered to conduct regulated activity under Type 10 should only be allowed to engage in a single business, for the same reasons outlined in point 9. If a rating agency is already involved in other businesses, it must provide rating services through an independent subsidiary. The directors and senior management of this subsidiary should maintain sufficient independence to ensure that the rating services operate independently.

Q11 Is the draft list of Recognized Industry Qualifications and Local Regulatory Framework Papers for Type 10 regulated activity appropriate?

Our association has no specific comments on the drafted list of recognized industry qualifications and the examination related to the local regulatory framework for regulated activity under Type 10.

Q12 Are the proposed transitional arrangements appropriate?

The proposed transitional arrangements are acceptable.