I. Case Background
The Hong Kong Securities and Futures Commission (SFC) has publicly reprimanded and fined UBS AG (UBS) HK$8 million pursuant to section 196 of the Securities and Futures Ordinance (SFO). （https://apps.sfc.hk/edistributionWeb/api/news/openAppendix?lang=EN&refNo=25PR167&appendix=0 ）
This disciplinary action arises from deficiencies in UBS’s systems and controls, which failed to ensure the accurate classification of professional investors (PIs) in accordance with the SFO and the Securities and Futures (Professional Investor) Rules (PI Rules) during the period from 2009 to July 2022.
As a result of the mis-classification, UBS (a) provided securities pooled lending services to certain clients who did not qualify as PIs and (b) offered and sold products intended solely for PIs to certain non-PI clients.
Although the root cause lay in technical/process control breakdowns, this case provides an important compliance reminder for the industry.
II. Key Regulatory Knowledge Points Recap
1. Latest Definition of a Professional Investor
Following the amendments on 13 July 2018, section 5(1) of the PI Rules specifies that an individual qualifies as a professional investor if the individual has a portfolio of not less than HK$8 million, taking into account one or more of the following:
(a) the individual’s portfolio on his/her own account;
(b) the portfolio on a joint account with the individual’s associate;
(c) the individual’s share of a portfolio on a joint account with one or more persons other than his/her associate;
(d) the portfolio of a corporation which, at the relevant date, has as its principal business the holding of investments and is wholly owned by the individual.
“Associate” is defined in section 2 of the PI Rules as the individual’s spouse or any child, but excludes parents.
Section 5(2) of the PI Rules further provides that for the item under (c) above, the individual’s share in the portfolio on a joint account with one or more persons other than his/her associate is (a) the share as specified in a written agreement among the account-holders; or (b) in the absence of such agreement, an equal share of the portfolio.
Mis-classification by UBS:
-
With non-associate joint accounts, UBS misinterpreted the PI Rules and treated all joint accounts with a portfolio value of HK$8 million or above as PI accounts, without verifying that each account-holder individually met the HK$8 million Individual Portfolio Requirement.
-
With parent-child joint accounts, although a child qualifies as an associate of the parent, the parent does not qualify as an associate of the child. Therefore even if the joint account held HK$8 million or more, the child must independently meet the Individual Portfolio Requirement for the account to qualify as a PI account. UBS misinterpreted this and classified all parent-child joint accounts with at least HK$8 million as PI accounts without verifying the child’s eligibility.
Summary:
-
For joint accounts with non-associates, each joint holder must individually satisfy the HK$8 million threshold.
-
“Associates” include only spouses and children, but not parents.
-
In parent-child joint accounts, the child must separately meet the threshold to treat the account as a PI account.
2. System Classification and Review Obligations
If an institution uses automated or systemised procedures to determine client eligibility, it must ensure that its algorithms, data logic and control framework remain fully aligned with the prevailing regulatory requirements.
The SFC emphasised that systemic failures may amount to a breach of General Principle 2 (due skill, care and diligence), GP 3/paragraph 4.3 (adequate resources, procedures, internal controls) and GP 7/paragraph 12.1 of the Code of Conduct for Persons Licensed by or Registered with the SFC (Code of Conduct). apps.sfc.hk
3. Client Securities Usage and Disclosure Responsibilities
Prior to providing securities borrowing/lending or securities financing services to non-professional investors, an institution must:
-
Obtain a valid standing authority from the client for the use of client securities or securities collateral, renewed at least annually (unless the client is a PI).
-
Disclose in the monthly account statement whether the client has provided a valid standing authorisation and whether the intermediary has re-pledged the client’s securities collateral during the month (as required under section 11(3A) of the Securities and Futures (Contract Notes, Statements of Account and Receipts) Rules (CNR)).
These obligations do not only apply to stock-lending, but extend to any use of client securities or collateral, including:
-
Lending client securities for hedging or financing purposes;
-
Re-pledging client collateral to a third party;
-
Use of client securities in derivative or financing transactions.
Written authorization must be obtained and reconfirmed or renewed annually; otherwise, the institution must cease using the relevant securities or collateral.
4. Products Restricted to Professional Investors
The SFC noted that certain products are designated for “professional investors only,” including:
-
Bonds listed under Chapter 37 of the Rules Governing the Listing of Securities on The Stock Exchange of Hong Kong Limited (“Chapter 37 Bonds”);
-
Accumulators and decumulators (derivative contracts);
-
Products with loss-absorption features (so-called “loss-absorbing debt instruments”).
These products are structurally complex and subject to higher disclosure requirements and thus are generally unsuitable for retail investors. SFC and Hong Kong Monetary Authority (HKMA) circulars confirm that intermediaries should only offer such products to professional investors in both the primary and secondary markets.
III. Implications and Recommendations
1. Re-evaluate Professional Investor Classification Logic
Financial institutions should review and validate the logic and system configuration underpinning “joint accounts” and “family accounts” to ensure they comply with PI Rules and correctly interpret the individual portfolio requirement thresholds.
2. Strengthen System Compliance Testing and Annual Reviews
Institutions should conduct compliance-oriented User Acceptance Testing (UAT) each time there is a system upgrade, a new product launch, or an amendment in regulation, and ensure annual reviews of classification controls and logic.
3. Proactive Review and Reporting
In this case, UBS identified the mis-classification during a review in June 2022, voluntarily reported the issue to the SFC and took remedial actions.
Nevertheless, the SFC imposed a significant fine of HK$8 million — underlining the regulatory expectation that self-identification and remediation, while positive, do not negate responsibility nor greatly reduce sanction in the face of longstanding control failures.