lehman minibonds

8/10/2019 Lehman Minibonds

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Securities Investor Protection in thecontext of the Recent Financial Crisis

Hong Kongs Experience

2-3 November 2009

Irene TangAssociate Director, Supervision of Markets Division

International Forum for Securities Investor Protection in the Context of Financial Crisis


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Coverage of Investor Compensation Fund (ICF)

Licensed persons authorized to deal in securities and futurescontracts irrespective of whether they are exchange participantsof Hong Kong Exchanges and Clearing Limited (HKEx) providedthat the trades relate to HKEx products

Authorized institutions trading in HKEx products

Licensed persons authorized to provide securities marginfinancing in relation to HKEx products


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Definition of Default

default in relation to a specified person or an associated personof the specified person, means

The insolvency, bankruptcy or winding up of the specified person;or

Any breach of trust, defalcation, fraud or misfeasance committedby the specified person or associated person of the specifiedperson


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Per Investor Compensation Limit

Limit of compensation :

HK$150,000 per investor for securities trading and HK$150,000per investor for futures trading


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Collapse of Lehman Brothers Holdings Inc.

On 15 September 2008, Lehman Brothers Holdings Inc. filed apetition under Chapter 11 of the U.S. Bankruptcy Code.


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Most Lehman clients not likely covered by ICF

Clients are mainly Lehman group companies or licensedcorporations of SFC

Qualifying client does not include a licensed corporation, aperson licensed or authorised in a jurisdiction for carrying on anactivity similar to that of the defaulting intermediary or anassociated person of the defaulting intermediary.

not qualifying clients

not qualified to claim against the ICF

So far no claims for compensation against the ICF from clients ofthe Lehman entities

No broker defaults other than the Lehman-related entities duringthe financial crisis.


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Minibond holders not covered by ICF

Investors suffer from the failure of Lehman because of theirinvestment in Lehman issued Minibonds

Minibonds are unlisted structured products arranged by Lehman

Not covered by ICF, ICF only cover defaults of SFC licensed andregistered persons in relation to trading in HKEx traded products


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Complaints from investors of Minibonds

HKMA and the SFC received many complaints

Complainants alleged that the distributors (mainly banks and a fewbrokers) had not properly informed them of the potential risksinvolved

Lots of demonstrations and protests

Legislative Council Subcommittee to investigate the Minibonds

incident

HK Government, HKMA and SFC worked to resolve the issue


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Investigations into Minibond-related complaints

HKMA and the SFC investigated complaints relating to banks andbrokers.

The SFC adopted a top-down approach in investigation.

The SFC investigated into the brokers and banks internalsystems and controls relating to their sale of Lehman Minibondsto clients.


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Settlement agreement between the SFC andtwo licensed brokers

The SFC reprimanded two brokers. Two brokers agreed to

make voluntary offers to purchase all outstanding Lehman Minibondsbought by clients at a price equal to the principal amount invested bythose clients,

to engage an independent audit firm to review their internal controls,systems and procedures, etc.

329 clients fully recovered initial investments

Settlement amount about HK$90 million


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Settlement agreement between SFC, HKMAand 16 banks

Key features of the banks repurchase agreement are:

Each bank will offer to repurchase from each eligible customer alloutstanding Minibonds at a price equal to 60% of the nominalvalue of the original investment for customers below the age of

65 or at 70% of the nominal value for customers aged 65 or aboveas at 1 July 2009.

Once the underlying collateral is recovered and paid to the banks,each of them will make a further payment of initially up to 10% of

the nominal value of the Minibonds to eligible customers belowthe age of 65 and, if recoveries exceed 70%, the banks will paythe entire excess amount to eligible customers who haveaccepted the repurchase offer.


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Settlement agreement between SFC, HKMAand 16 banks (contd)

The repurchase agreement covers about 29,000 Minibondsinvestors, estimated amount about HK$6.3 billion.

Up to 7 October 2009, 23,829 customers responded to therepurchase offers (23,606 customers or 99.1% accepted the

offers).


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Lessons we learned from the Minibondincident

Most complaints alleged mis-selling by distributing brokers and banks.

Misrepresentation the products wrongly presented as a low riskalternative to deposits and that the risks and complexity were notproperly explained;

Complexity the products were too complex and risk disclosureswere ineffective in alerting investors;

Suitability failure of brokers and banks to do proper customerdue diligence, inexperienced retail investors were left holdingproducts not suitable to their investment profile.


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Measures to strengthen investor protection

On 25 September 2009, the SFC has issued a Consultation Paperon Proposals to Enhance Protection for the Investing Public.

To solicit comments on proposals to fine-tune existingregulations governing the sale of unlisted securities and futures

products to the public.


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Some key proposals of consultation paperPre-sale documentation Criteria for authorising offer documents, including advertisements, should

be consolidated into a single SFC Handbook, which will include a newCode on Unlisted Structured Products.

A Key Facts Statement should accompany each offer document forretail investment products.

Disclosure at the point of sale and after

Intermediaries selling to the public should disclose their own commercialinterest (e.g. commissions, fees and other benefits) to prospectiveinvestors.

Selling practices Intermediaries will be required to find out their clients knowledge of

derivative products if they are selling unlisted structured products with

such elements embedded.Post-sale cooling-off period For longer-term products with a limited secondary market, a cooling-off

period should be given within which an investor can change their mind.This should allow a refund of capital and related commission, but besubject to a reasonable administrative charge and any legitimate market

value adjustment.


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Hong Kong Government is studying measures

Hong Kong Government is studying the feasibility of establishingan Investor Education Council and a financial dispute resolutionbody.


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Questions & Answers

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