Triggering of Suitability Obligations for SFC, Hong Kong licensed or registered person

The intent behind the circular issued by Securities and Futures Commission (SFC), Hong Kong on Triggering of Suitability Obligations is to infuse life in paragraph 5.2 of the Code of Conduct. Paragraph 5.2 obligates a licensed or registered person to ensure suitability of the recommendation or solicitation for the client is reasonable in all the circumstances, having regard to information about the client of which the licensed or registered person is or should be aware through the exercise of due diligence.

The circular emphasizes that the trigger for complying with suitability obligations commences at the point of sale or advice. What does it mean? It implies that the actions and statements of the licensed person made to a prospective or existing client in her conversation is a material factor. Conversations could be spread over a period of time. Also, conversations could be through physical presence of the parties or verbal or textual or any other means or a combination of them. This conversation would also include the acts of providing research and marketing material, of course these material themselves should have been issued in compliance with paragraph 2.3 of the Code of Conduct. In case, the conversation results in successful solicitation or recommendation leading to a transaction, the requirement to comply suitability obligations will be triggered from the initial conversation. However, if the conversation is general in nature and does not involve an invitation or inducement to act on it and invest in a particular product then suitability obligations are unlikely to trigger.

How are the suitability obligations discharged and an audit trail maintained to support it?

 For discretionary portfolio management with a pre-determined mandate, the suitability obligations will be complied with when a target portfolio is created that meets the risk profile of the client and is agreed with the client. It is necessary that the portfolio is developed on the basis of the findings from due diligence conducted on the client. Here it is critical that the assessment is reasonable and factors in all the parameters of investment like client’s objectives, need for liquidity, ability to bear loss, age, understanding of the market, investment horizon etc. An assessment which is not in line with the investment profile of the client may not pass the test of due diligence. It is necessary to document the assessment for the mandate and provide a copy of the rationale to the client in writing and keep a proof of the same. Present and future transactions in accordance with the mandate will be considered to be done in compliance with suitability obligations. It is also necessary to review the mandate at periodic intervals as well as in case of change in circumstances either of the client or the market.