Introduction
1. The Consumer Council (CC) is pleased to submit its views on the consultation comprising various proposals put forward by the Securities and Futures Commission (SFC) regarding the regulation of alternative liquidity pools (ALPs) in Hong Kong.
2. As a whole, CC supports strengthening the oversight of the ALPs through enhancing and standardizing the regulatory obligations imposed on ALP operators, to give better protection to the investing public and promote the healthy growth of the alternative trading systems in Hong Kong.
Guiding principles
3. CC is tasked with protection of consumer interests, and believes that in dealing with financial issues touching on consumer interests, the guiding principles should be:
i. equitable and fair treatment of consumers;
ii. disclosure and transparency; and
iii. responsible business conduct.
4. The following sets out CC's views to the specific issues raised in the consultation paper that have direct implications to the interests of consumers/investors.
Comments
* Restricting access to ALPs to institutional investors only
5. Treating consumers fairly is an integral part of good governance and business culture. Special attention should be dedicated to the needs of less sophisticated investors.
6. CC acknowledges the benefits that ALPs can bring, such as expansion of liquidity sources, reduction of transaction costs and mitigation of market impact when large orders are executed. In terms of fairness, such benefits should be available to all investors, irrespective of whether they are institutional or retail investors. However, concerns on the lack of understanding and poor transparency in ALPs may place retail investors at greater risk than more sophisticated institutional investors.
7. It is noted in the consultation paper that in major overseas markets such as Australia, Canada, the EU and US, there is no specific prohibition on retail participation in ALPs. However, there is also growing attempts to minimize retail participation in Australia and Canada. Given that Hong Kong has a relatively significant retail participation in stock market trading, CC believes that prior to introduction of effective control measures dealing with the concerns and risks inherent in the current ALPs, at this stage only institutional investors should be allowed to access to ALPs.
8. Having said that CC considers the development and use of ALPs should be subject to monitor, and it is necessary for the SFC to set a time frame for review of the regulation of ALPs, particularly if the proposed exclusion of retail participation is to be adopted.
9. Although the SFC noted that it does not rule out the future possibility of retail investors being permitted to become users of ALPs, CC is of the view that consideration should be given on measures such as imposing minimum order sizes for ALPs and introducing the choice to opt-in of participation by retail investors instead of adopting a broad-brush approach by carving out retail trading in ALPs.
* Enhancing the level of disclosure to ALP users
10. Having regard that different ALPs have different crossing methodologies and operational arrangements, CC considers that the lack of understanding by retail investors, as well as the opaqueness in the ALPs will place the general investing public at risk.
11. To provide better investor protection from the impact of potential conflicts of interest and poor transparency, CC welcomes the proposed measures imposed on ALP operators by the SFC to ensure that investors are properly informed of the features of an ALP before deciding to use any ALP services such as mandatory obligations of ALP operators and client representatives to provide comprehensive, accurate and updated ALP Guidelines to users or prospective users; and to obtain formal acknowledgement from prospective ALP users on their attention about the ALP Guidelines and prior consent to orders being transacted in the ALP.
12. In conjunction with these proposed measures, CC believes that investor education on ALPs and the proposed new measures will be crucial for successful regulatory development.
* Ensuring priority to client orders over proprietary orders initiated by ALP operators and their affiliates
13. Despite that the current ALP operators in Hong Kong have assured the SFC that their proprietary traders do not have access to information concerning client order flows, CC shares the SFC's concerns over potential conflicts of interest and the possibility of the operators of trading venues of this type having unfair access to trade information.
14. CC is of the view that a clear definition of proprietary order is necessary and the order priority should be strictly adhered to so that the proprietary flow of traders will not be able to benefit from any third-party order information.
* Information security and reporting requirements
15. In order to ensure fair and orderly trading in ALPs, CC agrees the proposed requirements that an ALP operator should be required to have adequate and appropriate security controls in place to limit access to information of transactions conducted in ALPs.
16. Furthermore, CC welcomes the proposed reporting and notification requirements for better monitoring of ALP activities in Hong Kong.
17. On disclosure of information about transactions conducted in ALPS be reported to The Stock Exchange of Hong Kong (SEHK) for public information, CC supports that the proposed additional reporting obligations be made to the users of their ALPs and to the SFC to further enhance transparency of trading information.
* System adequacy and record keeping
18. The consultation paper sets out the minimum requirements for maintaining system adequacy and record keeping. CC supports making these requirements.
Conclusion
19. CC believes it is crucial for the SFC to take prompt action on the regulation of ALPs in light of the rapid technological advancement given the rise of electronic alternative trading platforms outside traditional venues such as stock exchanges. Hong Kong, as an international financial centre, should facilitate market competition between traditional (e.g. SEHK is currently enjoying a monopoly status in Hong Kong) and innovative alternative trading venues, and protect investor interests.
