Proposal for the Establishment of Independent Self-Regulatory Organizations to Foster Development in the Securities, Futures, Asset Management, and Virtual Asset Sectors
Release Date: 2024-04-22
Government of the Hong Kong Special Administrative Region, People's Republic of China
Email: sfst@fstb.gov.hk
Financial Services and the Treasury Bureau
24th Floor, Central Government Offices, 2 Tim Mei Avenue, Tamar, Hong Kong
April 22, 2024.
Dear Secretary Christopher Hui and Under Secretary Joseph Chan,
On July 15, 2023, our association submitted a communication to your bureau concerning the current regulatory focus in Hong Kong’s financial market[1], which lacks an institutional framework to bolster overall industry development. This communication underscores the necessity for reform. Although Hong Kong has been the most open financial hub in China since rejoining the mainland 27 years ago, its market performance has recently trailed behind other Asian financial centers due to global shifts and rapid technological advancements in finance. As industry stakeholders, we have conducted thorough research and consultations with various securities industry organizations over the past year, and we are now presenting additional recommendations.
Our findings reveal that many economically advanced regions globally, including Hong Kong, have established statutory semi-official industry self-regulatory bodies dedicated to industry development and market ecological balance. We propose that Hong Kong adopt a similar strategy by establishing a Self-Regulatory Organization (SRO) comprised of industry stakeholders, with a primary focus on "industry development." This SRO would be tasked with creating and enforcing business conduct regulations to foster healthy competition, manage licensing, oversee advertising, and promote improvements in brokers' corporate governance. These efforts aim to ensure the long-term health of the market, enhance Hong Kong's international competitiveness in the securities sector, and affirm its status as an international financial center. The SRO should take on the licensing authority from the Securities and Futures Commission (SFC), while other existing regulatory powers remain with the SFC.
An independent membership self-regulatory model benefits the securities market by, firstly, allowing exchanges and regulators to streamline their business focus and enhance competitiveness by transferring some regulatory responsibilities to the SRO. Secondly, it provides a neutral platform for market and intermediary regulation, fostering sustainable market environments with healthy competition, minimizing trial-and-error costs, reducing unnecessary internal consumption, and promoting growth opportunities.
Outlined below are prevalent global regulatory models for the securities industry, highlighting the division of powers and responsibilities between securities regulators and self-regulatory organizations (SROs):[2]
1. Statutory Model
- Securities regulators manage all market regulatory activities, while SROs have limited oversight functions. Examples include Hong Kong Securities and Futures Commission (SFC), France's Autorité des Marchés Financiers (AMF), UK's Financial Services Authority (FSA), and most EU countries.
2. Limited Exchange Model
- Major regulatory activities are managed by securities regulators, with certain functions delegated to exchanges to integrate market operations with regulation and listings. Examples include Hong Kong Exchange, Singapore Exchange (SGX), Sweden's OMX, USA's New York Stock Exchange (NYSE).
3. Strong Exchange Model
- Securities regulators oversee key regulatory activities, while exchanges are granted additional regulatory responsibilities beyond their operational scope, such as member conduct regulation. Examples include Japan's Tokyo Stock Exchange (TSE) and Osaka Stock Exchange (OSE), Malaysia's Bursa Malaysia (BM), USA's Chicago Mercantile Exchange (CME).
4. Independent Model
- Basic regulatory duties are handled by securities regulators, but SROs are granted significant independence to perform broader regulatory functions. Examples include Securities Association of China (SAC), China’s Taiwan Securities Association (TWSA), USA's Financial Industry Regulatory Authority (FINRA), National Futures Association (NFA), Canada's Investment Industry Regulatory Organization of Canada (IIROC), and Mutual Fund Dealers Association (MFDA), Japan Securities Dealers Association (JSDA), Korea Financial Investment Association (KOFIA).
Beyond the four primary categories of independent self-regulatory organizations previously outlined, the model centered around securities associations remains less developed on a global scale. While these associations do set standards or guidelines for certain market activities, their principal role is to advocate for the industry rather than to enforce legally binding regulations. Typically driven by their membership, these associations include entities such as the Hong Kong Securities and Futures Professionals Association (HKSFPA), the International Capital Market Association (ICMA), and the Brazilian Financial and Capital Markets Association (ANBIMA). Thus, even within government-based regulatory frameworks, securities industry organizations like the French Association of Financial Markets (AMAFI) can significantly contribute to standard setting.
Analysis of Major Self-Regulatory Organization Regulatory Models Worldwide
Degree of Reliance on Self-Regulatory Organizations
Conclusion: Recommendations for a Securities Association-Based Self-Regulatory Organization Model
The securities association-based self-regulatory organization (SRO) model serves as a distinct type of independent member self-regulatory organization. In this framework, the securities association undertakes a limited range of self-regulatory functions. However, several critical differences exist between this model and the independent member SRO model. Typically, independent member SROs engage in a wider array of regulatory functions, operating as singular self-regulatory entities. Their governance structures prominently feature independent or non-member directors, which is reflected in their operational processes.
Conversely, the principal function of a securities association-based SRO is to advocate for its members, which results in a more constrained set of regulatory responsibilities. While such organizations can establish standards or related regulations, they are generally not equipped with a comprehensive regulatory or enforcement framework. Their governance is predominantly member-focused, with minimal to no input from independent directors or committees, heightening the potential for conflicts of interest and presenting significant governance challenges. To mitigate these conflicts, international best practices often advocate for the substitution of member directors with public interest directors.
Despite the inherent limitations of securities association-based SROs, they can still provide valuable contributions by complementing the efforts of governmental regulatory bodies and aiding in the formulation of regulations, similar to the role of government regulators.
The table below outlines the key differences between securities association-based self-regulatory organizations and independent member self-regulatory organizations.
The legal framework governing securities regulation must clearly define the responsibilities of self-regulatory organizations (SROs) and outline the division of duties between these organizations and their supervisory authorities to minimize regulatory gaps and overlaps. It is essential that a reasonable allocation of responsibilities be clearly articulated in law or regulation, or managed through memorandums of cooperation or guidelines.
In the context of Hong Kong, it is recommended that the Securities and Futures Commission (SFC) maintain its authority over market conduct regulation, such as prohibiting insider trading, fraud, and market manipulation. However, the licensing authority should be separated and assigned to an SRO composed exclusively of entities from the securities, futures, asset management, and virtual asset industries. This SRO should have the authority to lead and coordinate the development of the securities industry, including tasks such as approving new securities firms, authorizing advertisements, reprimanding licensed intermediaries for breaches of business rules, and imposing limited sanctions within its jurisdiction. Furthermore, any developments or changes in the Hong Kong securities industry should be proposed by members of the SRO to its management committee. Once a significant majority supports a proposal, it should be forwarded to relevant bodies, including but not limited to the SFC and the stock exchange, for review and discussion.
For any questions related to the content of this communication, please feel free to reach out to me at (Phone: ; Email: ).
Wishing you good health,
Mofiz Chan
Chairman
Hong Kong Securities and Futures Professionals Association
Email: sfst@fstb.gov.hk
Financial Services and the Treasury Bureau
24th Floor, Central Government Offices, 2 Tim Mei Avenue, Tamar, Hong Kong
April 22, 2024.
Dear Secretary Christopher Hui and Under Secretary Joseph Chan,
On July 15, 2023, our association submitted a communication to your bureau concerning the current regulatory focus in Hong Kong’s financial market[1], which lacks an institutional framework to bolster overall industry development. This communication underscores the necessity for reform. Although Hong Kong has been the most open financial hub in China since rejoining the mainland 27 years ago, its market performance has recently trailed behind other Asian financial centers due to global shifts and rapid technological advancements in finance. As industry stakeholders, we have conducted thorough research and consultations with various securities industry organizations over the past year, and we are now presenting additional recommendations.
Our findings reveal that many economically advanced regions globally, including Hong Kong, have established statutory semi-official industry self-regulatory bodies dedicated to industry development and market ecological balance. We propose that Hong Kong adopt a similar strategy by establishing a Self-Regulatory Organization (SRO) comprised of industry stakeholders, with a primary focus on "industry development." This SRO would be tasked with creating and enforcing business conduct regulations to foster healthy competition, manage licensing, oversee advertising, and promote improvements in brokers' corporate governance. These efforts aim to ensure the long-term health of the market, enhance Hong Kong's international competitiveness in the securities sector, and affirm its status as an international financial center. The SRO should take on the licensing authority from the Securities and Futures Commission (SFC), while other existing regulatory powers remain with the SFC.
An independent membership self-regulatory model benefits the securities market by, firstly, allowing exchanges and regulators to streamline their business focus and enhance competitiveness by transferring some regulatory responsibilities to the SRO. Secondly, it provides a neutral platform for market and intermediary regulation, fostering sustainable market environments with healthy competition, minimizing trial-and-error costs, reducing unnecessary internal consumption, and promoting growth opportunities.
Outlined below are prevalent global regulatory models for the securities industry, highlighting the division of powers and responsibilities between securities regulators and self-regulatory organizations (SROs):[2]
1. Statutory Model
- Securities regulators manage all market regulatory activities, while SROs have limited oversight functions. Examples include Hong Kong Securities and Futures Commission (SFC), France's Autorité des Marchés Financiers (AMF), UK's Financial Services Authority (FSA), and most EU countries.
2. Limited Exchange Model
- Major regulatory activities are managed by securities regulators, with certain functions delegated to exchanges to integrate market operations with regulation and listings. Examples include Hong Kong Exchange, Singapore Exchange (SGX), Sweden's OMX, USA's New York Stock Exchange (NYSE).
3. Strong Exchange Model
- Securities regulators oversee key regulatory activities, while exchanges are granted additional regulatory responsibilities beyond their operational scope, such as member conduct regulation. Examples include Japan's Tokyo Stock Exchange (TSE) and Osaka Stock Exchange (OSE), Malaysia's Bursa Malaysia (BM), USA's Chicago Mercantile Exchange (CME).
4. Independent Model
- Basic regulatory duties are handled by securities regulators, but SROs are granted significant independence to perform broader regulatory functions. Examples include Securities Association of China (SAC), China’s Taiwan Securities Association (TWSA), USA's Financial Industry Regulatory Authority (FINRA), National Futures Association (NFA), Canada's Investment Industry Regulatory Organization of Canada (IIROC), and Mutual Fund Dealers Association (MFDA), Japan Securities Dealers Association (JSDA), Korea Financial Investment Association (KOFIA).
Beyond the four primary categories of independent self-regulatory organizations previously outlined, the model centered around securities associations remains less developed on a global scale. While these associations do set standards or guidelines for certain market activities, their principal role is to advocate for the industry rather than to enforce legally binding regulations. Typically driven by their membership, these associations include entities such as the Hong Kong Securities and Futures Professionals Association (HKSFPA), the International Capital Market Association (ICMA), and the Brazilian Financial and Capital Markets Association (ANBIMA). Thus, even within government-based regulatory frameworks, securities industry organizations like the French Association of Financial Markets (AMAFI) can significantly contribute to standard setting.
Analysis of Major Self-Regulatory Organization Regulatory Models Worldwide
| Degree of Centralization by Government Bodies | ||||
 |
Securities Regulatory Authorities' Responsibilities | Self-Regulatory Organizations' Responsibilities | Examples | |
|
Full responsibility for securities market regulation | Self-regulatory organizations have minimal regulatory duties. | Hong Kong SFC, French AMF, UK FSA, and most EU countries. | |
|
Major securities market regulatory tasks are undertaken | Exchanges have specific regulatory roles related to market operations | HKEX, Singapore SGX, Sweden OMX, US NYSE | |
|
Handle considerable securities market regulation | Exchanges oversee regulatory functions extending to members' business practices | Japan TSE and OSE, Malaysia BM, US CME | |
|
Responsible for fundamental securities market regulation | These organizations operate with significant independence, serving as member bodies and executing broader regulatory roles | China SAE, Taiwan TWSA, US FINRA and NFA, Canada IIROC and MFDA, Japan JSDA, Korea KOFIA | |
| Degree of Reliance on Self-Regulatory Organizations | ||||
Degree of Reliance on Self-Regulatory Organizations
| Advantages: | Disadvantages | Limitations | |
|
|
|
This model effectively minimizes conflicts of interest between exchange operations and regulatory functions by strictly defining the regulatory authority of securities exchanges. However, exchanges still retain responsibilities for managing trading and listing regulations, as well as some oversight of market activities. |
|
|
|
Some regulatory authorities advocate for exchanges to undertake market oversight duties, capitalizing on their regulatory strengths. |
|
|
|
Government regulators may overlook minor regulations and daily oversight of market activities and member companies. |
|
|
|
|
Conclusion: Recommendations for a Securities Association-Based Self-Regulatory Organization Model
The securities association-based self-regulatory organization (SRO) model serves as a distinct type of independent member self-regulatory organization. In this framework, the securities association undertakes a limited range of self-regulatory functions. However, several critical differences exist between this model and the independent member SRO model. Typically, independent member SROs engage in a wider array of regulatory functions, operating as singular self-regulatory entities. Their governance structures prominently feature independent or non-member directors, which is reflected in their operational processes.
Conversely, the principal function of a securities association-based SRO is to advocate for its members, which results in a more constrained set of regulatory responsibilities. While such organizations can establish standards or related regulations, they are generally not equipped with a comprehensive regulatory or enforcement framework. Their governance is predominantly member-focused, with minimal to no input from independent directors or committees, heightening the potential for conflicts of interest and presenting significant governance challenges. To mitigate these conflicts, international best practices often advocate for the substitution of member directors with public interest directors.
Despite the inherent limitations of securities association-based SROs, they can still provide valuable contributions by complementing the efforts of governmental regulatory bodies and aiding in the formulation of regulations, similar to the role of government regulators.
The table below outlines the key differences between securities association-based self-regulatory organizations and independent member self-regulatory organizations.
| Aspect | Securities Association SRO Model | Independent Member SRO Model |
| Governance System Composition | Composed of Member Directors | Includes Independent Directors and Non-Member Directors |
| Regulatory Functions Scope | Limited in Scope | Extensive and Broad |
| Governance System Driving Force | Driven by Members | Driven by Non-Members |
| Governance System Functions | Supports government regulatory bodies and aids in rule-making |
|
| Potential Governance Blind Spots | Prone to conflicts of interest and challenging governance | Concerns may arise regarding the appropriateness and representativeness of independent and non-member directors |
The legal framework governing securities regulation must clearly define the responsibilities of self-regulatory organizations (SROs) and outline the division of duties between these organizations and their supervisory authorities to minimize regulatory gaps and overlaps. It is essential that a reasonable allocation of responsibilities be clearly articulated in law or regulation, or managed through memorandums of cooperation or guidelines.
In the context of Hong Kong, it is recommended that the Securities and Futures Commission (SFC) maintain its authority over market conduct regulation, such as prohibiting insider trading, fraud, and market manipulation. However, the licensing authority should be separated and assigned to an SRO composed exclusively of entities from the securities, futures, asset management, and virtual asset industries. This SRO should have the authority to lead and coordinate the development of the securities industry, including tasks such as approving new securities firms, authorizing advertisements, reprimanding licensed intermediaries for breaches of business rules, and imposing limited sanctions within its jurisdiction. Furthermore, any developments or changes in the Hong Kong securities industry should be proposed by members of the SRO to its management committee. Once a significant majority supports a proposal, it should be forwarded to relevant bodies, including but not limited to the SFC and the stock exchange, for review and discussion.
For any questions related to the content of this communication, please feel free to reach out to me at (Phone: ; Email: ).
Wishing you good health,
Mofiz Chan
Chairman
Hong Kong Securities and Futures Professionals Association
[1] Proposal for Enhancing the Development and Regulatory Framework of the Securities, Futures, Asset Management, and Virtual Asset Sectors: A Review and Improvement Strategy.
https://www.hksfpa.org/video.aspx?clid=143&atid=1574&lan=1
https://www.hksfpa.org/video.aspx?clid=143&atid=1574&lan=1
[2] Rational Division of Regulatory Mechanisms Among Self-Regulation, External Regulation, and Corporate Governance in Securities Firms" (Authored by Professors Guo Tumu, Feng Zhenyu, and Associate Professor Lou Tianwei, along with their research team, 2013)