Streamlined approach for compliance with suitability obligations when dealing with sophisticated professional investors

Circular
28 July 2023
Joint circular to intermediaries
Streamlined approach for compliance with suitability obligations when dealing with sophisticated professional investors

1. The Hong Kong Monetary Authority (“HKMA”) and the Securities and Futures
   Commission (“SFC”) noted questions and feedback from intermediaries concerning compliance with suitability obligations1 when they deal with sophisticated professional investors (“SPIs”) who possess higher levels of net worth and knowledge or experience, particularly in relation to the suitability assessment and product disclosure processes applied.
2. Suitability assessment is a risk-based process that involves intermediaries matching of
   investment products with the personal circumstances and risk tolerance of clients. The HKMA and the SFC updated the relevant frequently asked questions in December 20202 to clarify the expected standards on how the suitability assessment could be conducted and how product information could be explained and disclosed to clients of different degrees of financial sophistication. Following this premise, intermediaries could tailor point-of-sale procedures to the personal circumstances of SPIs. The HKMA and the SFC consider it useful to provide intermediaries with further guidance on applying a proportionate and risk-based streamlining approach (the “Streamlined Approach”) when dealing with SPIs. Intermediaries may refer to the detailed guidance set out in Annex 1 and the frequently asked questions in Annex 2 to facilitate their application of this Streamlined Approach.
3. An intermediary may rely on information about a client as obtained during onboarding or
   know-your-client reviews and ascertain if the client qualifies as an SPI. Where an intermediary is reasonably satisfied that the client exhibits the degree of sophistication and loss absorption ability of an SPI, it may apply the Streamlined Approach to allow the SPI to set aside an appropriate amount for investment in a portfolio of investment products with various risk return profiles (including but not limited to high-risk investment products). As a wider range of investment products and/or a proportion of high-risk investment products in the portfolio are more likely to be suitable for SPIs (except for conservative clients), the intermediary may simplify its point-of-sale procedures accordingly. In essence, under the Streamlined Approach, the intermediary is not required at a transaction level to match the SPI’s risk tolerance level, investment objectives and investment horizon, or to assess the SPI’s knowledge, experience and 1 This refers to the requirements (as set out under paragraph 5.2 and 5.5(a) of the Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission) that a licensed or registered person should ensure any recommendation or solicitation for the client, or a transaction in complex product is suitable for the client in all the circumstances. 2 On 23 December 2020, the HKMA issued the Frequently Asked Questions on Investor Protection Measures and the SFC issued the Circular to Intermediaries on Frequently Asked Questions on Compliance with Suitability Obligations and Requirements for Complex Products.

concentration risk. Explanation of product characteristics, nature and extent of risks could also be provided to the SPI upfront.
4. Intermediaries should bear primary responsibilities for ensuring the maintenance of
appropriate standards of conduct and properly managing the risks associated with their business operations. These include having effective systems and controls in place to guard against misuse and detect red-flags (eg, outsize or material transactions) arising from applying the Streamlined Approach.
5. For any enquiries regarding the content of this circular, please contact Ms Eloise Pun at
the Banking Conduct Department of the HKMA on 2878 1903, or Ms Nicole Cheung at the Intermediaries Supervision Department of the SFC on 2231 1492. Intermediaries Supervision Department Banking Conduct Department Intermediaries Division Hong Kong Monetary Authority Securities and Futures Commission Enclosure End SFO/IS/019/2023 HKMA/B1/15C

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Annex 1
Streamlined approach for compliance with suitability obligations when dealing with sophisticated professional investors The following guidance aims to facilitate intermediaries’ application of a proportionate and risk-based streamlining approach (the “Streamlined Approach”) for compliance with their suitability obligations1 when dealing with sophisticated professional investors (“SPIs”) who possess higher levels of net worth and knowledge or experience. Intermediaries should bear primary responsibilities for ensuring the maintenance of appropriate standards of conduct and properly managing the risks associated with their business operations. These include having effective systems and controls in place to guard against misuse and detect red-flags arising from applying the Streamlined Approach. Unless otherwise specified or the context otherwise requires, words and phrases in this guidance shall be interpreted by reference to any definition of such word or phrase in the Securities and Futures (Professional Investor) Rules, and/or the Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission. (A) Qualifying criteria

1. When dealing with Individual Professional Investors, intermediaries are required to
   comply with the suitability obligations. Under the Streamlined Approach and for the purpose of this guidance, an SPI refers to an Individual Professional Investor who has at the relevant date satisfied the criteria on the financial situation specified in paragraph 3, knowledge or experience specified in paragraph 4 and investment objectives set out in paragraph 5 below.
2. A corporation which has as its principal business the holding of investments and is
   wholly owned by one or more SPIs may be treated the same as the SPIs for the purpose of this guidance.
3. Financial situation
   3.1 An SPI should have at the relevant date –
   (a) a portfolio of at least HK$40 million or its equivalent in any other currency; or (b) net assets, excluding primary residence, of at least HK$80 million or its equivalent in any other currency.
   3.2 When ascertaining the value of the portfolio of an SPI, intermediaries may take into
   account one or more of the following –
   (a) a portfolio on the SPI’s own account;

1 This refers to the requirements (as set out under paragraph 5.2 and 5.5(a) of the Code of Conduct for Persons Licensed by or Registered with the Securities and Futures Commission) that a licensed or registered person should ensure any recommendation or solicitation for the client, or a transaction in complex product is suitable for the client in all the circumstances.

(b) a portfolio on a joint account with the SPI’s associate; (c) the SPI’s share of a portfolio on a joint account with one or more persons other than the SPI’s associate, to the value equivalent to the SPI’s share of the portfolio as specified in a written agreement among the account holders or, an equal share of the portfolio in the absence of such agreement; (d) a portfolio of a corporation which, at the relevant date, has as its principal business the holding of investments and is wholly owned by the SPI.
3.3 “Net assets” refers to the value that is calculated by deducting total liabilities from total
assets. “Net assets, excluding primary residence” refers to the value that is calculated by deducting the value of primary residence from net assets.
3.4 When ascertaining the value of net assets of an SPI, intermediaries may take into
account one or more of the following –
(a) the value of assets and liabilities held on – (i) an SPI’s own account; (ii) joint account with the SPI’s associate; (iii) joint account owned by the SPI with one or more persons other than the SPI’s associate, to the value equivalent to the SPI’s share on the joint account as specified in a written agreement among the account holders or, an equal share of the joint account in the absence of such agreement; (b) the net assets of a corporation which has as its principal business the holding of investments and is wholly owned by the SPI.
4. Knowledge or experience
4.1 Intermediaries should be reasonably satisfied that an SPI has the degree of
sophistication required to understand the risks arising from being treated as an SPI (including the Streamlined Approach) by ascertaining whether the SPI meets at least one of the following criteria – (a) holding a degree or post-graduate diploma in accounting, economics or finance, or a related discipline; (b) having attained a professional qualification in finance (such as Chartered Financial Analyst (“CFA”), Certified International Investment Analyst (“CIIA”), Certified Private Wealth Professional (“CPWP”), Chartered Financial Planner (“CFP”) or other comparable qualifications); (c) having at least one-year relevant work experience in a professional position in the financial sector in Hong Kong or elsewhere (eg, licensed for conducting relevant regulated activities); or (d) having executed at least five transactions within the past three years in the same category of investment products as categorised based on their terms and features, characteristics, nature and extent of risks (“Product Category”).

5. Investment objectives
   5.1 Intermediaries should not apply the Streamlined Approach when dealing with
   conservative clients (eg, whose investment objective is capital preservation and/or seeking regular income). Accordingly, intermediaries should not treat conservative clients as SPIs. (B) Eligible investment transactions
6. Intermediaries should only execute investment transactions for an SPI under the
   Streamlined Approach where the transactions fall within the Product Categories and the Streamlining Threshold specified by the SPI in accordance with paragraph 7 and paragraph 8 below respectively (“Eligible Investment Transactions”).
7. Product Category
   7.1 Intermediaries should devise (or adjust as appropriate) Product Categories to
   categorise investment products based on the terms and features, characteristics, nature and extent of risks of investment product.
   7.2 The SPI should specify the Product Categories within which investment transactions
   could be executed under a Streamlined Approach. Intermediaries are required to document the choice of the SPI and provide a Product Category Information Statement to the SPI to explain the terms and features, characteristics, nature and extent of risks of investment products within such Product Category (the “Product Category Information Statement” eg, in the form of an information booklet/ hyperlinks). Where applicable, the Product Category Information Statement should include warning statements in relation to the distribution of complex products. Intermediaries are also required to explain to the SPI upon request, to facilitate the SPI’s understanding of the Product Category Information Statement, terms and features, characteristics, nature and extent of risks of investment products within such Product Category.
   7.3 Intermediaries should not apply the Streamlined Approach to investment transactions
   within a Product Category for an SPI unless – (a) the SPI has met the criteria specified under paragraph 4.1(a) or (b) or (c) above; or (b) the SPI has executed within such Product Category at least five transactions within the past three years (ie, the criteria specified under paragraph 4.1(d) above).
8. Streamlining Threshold
   8.1 The SPI should specify a maximum threshold of investment, as an absolute amount or
   a percentage relative to the SPI’s assets under management (“AUM”) with the intermediary, that is acceptable to be executed under a Streamlined Approach (“Streamlining Threshold”).
   8.2 SPI could specify a Streamlining Threshold appropriate to their circumstances and the
   intermediary is required to maintain proper records of setting any such threshold, including the SPI’s rationale that provides support for setting such threshold.

8.3 Intermediaries are required to establish and maintain effective systems and controls to
ensure compliance with the Streamlining Threshold.
(a) Intermediaries should ensure the gross exposure arising from investment transactions executed under the Streamlined Approach remains at or below the Streamlining Threshold upon execution; or (b) Intermediaries could devise designated accounts (or sub-accounts) to consolidate Eligible Investment Transactions of the SPI executed under the Streamlined Approach. In such circumstances, they should ensure the gross exposure arising from all positions maintained in the designated account remains at or below the Streamlining Threshold after receiving top-up or deposit of new fund into such designated account. The amount or percentage of AUM with the intermediary being allocated to the designated account should be discussed with the SPI at least annually, or when new fund is added to the designated account.
8.4 Intermediaries should implement measures to detect outsize or material transactions
and issue warning statements to the SPI for these transactions.
8.5 Intermediaries should review compliance with the Streamlining Threshold at least on an
annual basis and alert the SPI where the gross exposure arising from investment transactions executed under a Streamlined Approach and/or positions maintained in the designated accounts have exceeded the Streamlining Threshold. (C) Streamlined Approach
9. Paragraph 10 (for transactions with recommendation or solicitation) and paragraph 11
(for transactions in a complex product without recommendation or solicitation) set out the procedures that could be streamlined by intermediaries for compliance with suitability obligations when dealing with SPIs in Eligible Investment Transactions.
10. For transactions with recommendation or solicitation executed under a Streamlined
Approach
10.1 Intermediaries are not required to match SPI’s risk tolerance level, investment
objectives and investment horizon with Eligible Investment Transactions.
10.2 Intermediaries are not required to assess SPI’s knowledge and experience, and
concentration risk in Eligible Investment Transactions.
10.3 Intermediaries are not required to provide product explanation, except upon request
and/or any material queries being raised by the SPI. Intermediaries should provide SPI with up-to-date product offering documents, which could be done by sending a hyperlink to the offering documents or as attachments via electronic means (eg, email).
10.4 Intermediaries are not required to maintain records documenting the rationale
underlying investment recommendations made to SPI.

11. For transactions in a complex product without recommendation or solicitation executed
    under a Streamlined Approach
    11.1 Subject to the provision of offering documents to the SPI, intermediaries are not
    required to perform product due diligence for investment products falling within the Product Categories specified by the SPI. For bonds, where offering documents are not provided to the SPI, intermediaries should prepare and provide their own summaries of the key terms and features of the investment product2 ; or provide to the SPI sufficient information on the key terms and features of the investment product based on information available from reliable public domain or data providers. 3
    11.2 Intermediaries are not required to match SPI’s risk tolerance level, investment
    objectives and investment horizon with Eligible Investment Transactions.
    11.3 Intermediaries are not required to assess SPI’s knowledge and experience, and
    concentration risk in Eligible Investment Transactions.
    11.4 Intermediaries are not required to provide product explanation, except upon request
    and/or any material queries being raised by the SPI. Intermediaries should provide SPI with offering documents (where applicable), which could be done by sending a hyperlink to relevant documents, or as attachments via electronic means (eg, email).
    11.5 Intermediaries could provide warning statements in relation to the distribution of a
    complex product on an annual basis instead of a transaction-by-transaction basis. (D) Application of the Streamlined Approach
12. SPI assessment
    12.1 An intermediary should apply the Streamlined Approach when dealing with an SPI only
    if the intermediary is reasonably satisfied that the SPI has the degree of sophistication to understand and take on the risks arising from a Streamlined Approach by meeting the qualifying criteria (ie, financial situation, knowledge or experience and investment objectives) set out in section (A) above.
    12.2 The above assessment should be in writing. Records of all relevant information and
    documents obtained in the assessment should be kept by the intermediary so as to demonstrate the basis of the assessment.
    12.3 Intermediaries should also maintain records of all correspondences with the SPI to
    support the choice of Product Categories and the setting of a Streamlining Threshold by the SPI.

2 Intermediaries should refer to the prevailing guidance issued by the SFC in the form of frequently asked questions on 23 December 2020 in relation to performing product due diligence and disclosing product information for the sale of complex products on an unsolicited basis. 3 Intermediaries may provide the key terms and features of the investment product to SPI using written, verbal or a combination of both types of communications with records maintained.

13. Client acknowledgment
    13.1 Prior to applying the Streamlined Approach when dealing with an SPI in Eligible
    Investment Transactions, the intermediaries should – (a) enter into a written agreement with each SPI for acknowledging and giving consent to be treated as an SPI (including the Streamlined Approach, the Product Categories and the Streamlining Threshold); (b) specify in writing the assessment criteria under which the client qualified as an SPI; (c) specify in writing the Product Categories and the Streamlining Threshold within which investment transactions could be executed under a Streamlined Approach; and (d) fully explain to the SPI the consequences of being treated as an SPI and the SPI’s right to withdraw from being treated as such at any time.
    13.2 The consequences of being treated as an SPI include –
    (a) the intermediary would apply the procedures set out in section (C) above (as the case may be) for compliance with suitability obligations when dealing with the SPI in Eligible Investment Transactions; (b) the point-of-sale procedures of the intermediary were streamlined considering the degree of sophistication and loss absorption ability exhibited by the SPI, and subject to the Product Categories and Streamlining Threshold specified, an SPI could end up investing in a portfolio of high risk investment products under a Streamlined Approach on both solicited and unsolicited basis where the SPI may not be provided with the rationale of recommendations or be warned of a transaction in complex products; (c) by specifying a Product Category within which investment transactions could be executed under a Streamlined Approach, the SPI acknowledged having the degree of sophistication to understand and accept – (i) the characteristics, nature and extent of risks of investment products within a Product Category (as contained in a Product Category Information Statement); (ii) the right to raise queries on or request product explanations before each execution; and (iii) the right to add or remove a Product Category at any time; (d) by specifying a Streamlining Threshold within which investment transactions could be executed under a Streamlined Approach, the SPI acknowledged having the degree of sophistication to understand and accept – (i) the extent of risks (including concentration risks) arising from such executions;

(ii) the Streamlining Threshold specified is commensurate with the personal circumstances (eg, degree of sophistication and loss absorption ability) of the SPI; and (iii) the right to amend the Streamlining Threshold at any time.
14. Annual review
14.1 Intermediaries should carry out a review annually to ensure that the SPI continues to
fulfil the requisite requirements set out in section (A) above and continues to agree for the intermediary to execute investment transactions falling within the Product Categories and the Streamlining Threshold specified by the SPI under a Streamlined Approach.
14.2 In carrying out the annual review, intermediaries should remind the client in writing of –
(a) the consequences of being treated as an SPI; (b) the Product Categories specified by the SPI and information about the Product Categories as contained in the Product Category Information Statements; (c) the Streamlining Threshold specified by the SPI and an alert to the SPI where there was any instance of breach; and (d) the right for the SPI to withdraw from being treated as an SPI, to add or remove a Product Category and/or to amend the Streamlining Threshold at any time.

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Annex 2
Frequently Asked Questions on streamlined approach for compliance with suitability obligations when dealing with sophisticated professional investors

1. Are intermediaries required to obtain documentary evidence to support
   information provided by a client in assessing whether the client qualifies as a sophisticated professional investor (“SPI”)? Intermediaries should be satisfied that a client has met the qualifying criteria of an SPI before treating the client as such. Where an intermediary has made reasonable efforts to obtain information from a client during the know-your-client process, the intermediary may rely on the information disclosed by the client to ascertain whether the client could qualify as an SPI. The intermediary should beware of any inconsistencies between the information provided and that held with the intermediary, and in such cases, clarify with the client.

2. Where a client does not have the requisite level of knowledge or experience to
   qualify as an SPI, can intermediaries rely on the knowledge or experience of the client’s representative (eg, one appointed under a power of attorney) to qualify such client as an SPI? When qualifying a client as an SPI, intermediaries should ensure that the client has the degree of sophistication required to understand the risks and consequences of being treated as an SPI, including inter alia, the degree of sophistication to set aside an appropriate amount for investment through a Streamlined Approach in a portfolio of investment products with various risk return profiles (including but not limited to high￾risk investment products). The requisite level of knowledge or experience can be either demonstrated by the SPI’s academic or professional qualifications or work experience, or accumulated from their trading experiences by executing at least five transactions within the past three years in the same category of investment products. For the avoidance of doubt, an SPI may accumulate the requisite trading experiences by executing transactions through eg, a power of attorney; and/or through transactions executed in joint accounts.

3. What are the considerations for intermediaries when categorising investment
   products into different Product Categories?
   Intermediaries can categorise products based on their existing practices and devise Product Categories appropriate to their business such that investment products in the same category would have similar terms and features, characteristics, nature and extent of risks. For instance, intermediaries should categorise the following types of product into specific Product Categories so as to differentiate them from products of different characteristics, nature and extent of risks, and/or to comply with existing product￾specific regulatory requirements – (i) accumulators/decumulators, (ii) collective investment schemes whose investment objective or principal investment strategy is investing in insurance-linked securities, (iii) debt instruments with loss-absorption features and related products, (iv) virtual assets (“VA”) and (v) VA-related products1 .

4. What kinds of information should the Product Category Information Statement
   cover?
   To apply the Streamlined Approach, intermediaries should categorise investment products based on their terms and features, characteristics, nature and extent of risks and provide such information to clients by way of the Product Category Information Statement. Where applicable, the Product Category Information Statement should include warning statements in relation to the distribution of complex products. Intermediaries should provide explanation upon request to facilitate the SPI’s understanding of investment products within a Product Category.

5. What should an SPI consider when specifying a Streamlining Threshold?
   SPIs can specify a Streamlining Threshold appropriate to their circumstances (eg, their financial situation, investment objectives and/or risk tolerance level) and the intermediary is required to maintain proper records of setting any such threshold, including the SPI’s rationale that provides support for setting such threshold. As an illustrative example, a higher amount can be set considering the AUM maintained with the intermediary represents an insignificant portion of the SPI’s portfolio and/or net assets. 1 “VA-related products” refers to investment products which: (a) have a principal investment objective or strategy to invest in virtual assets; (b) derive their value principally from the value and characteristics of virtual assets; or (c) track or replicate the investment results or returns which closely match or correspond to virtual assets.

6. How should intermediaries monitor compliance with the Streamlining Threshold?
   Intermediaries are required to establish and maintain effective systems and controls to ensure compliance with the Streamlining Threshold. Intermediaries should ensure the gross exposure arising from investment transactions executed under the Streamlined Approach remains at or below the Streamlining Threshold upon execution; or intermediaries could devise designated accounts (or sub-accounts) to consolidate Eligible Investment Transactions of the SPI executed under the Streamlined Approach. In the latter circumstances, they should ensure the gross exposure arising from all positions maintained in the designated account remains at or below the Streamlining Threshold after receiving top-up or deposit of new fund into such designated account. If a designated account is used for monitoring compliance with the Streamlining Threshold, the intermediary should review such Streamlining Threshold with the SPI (i) before new fund is added to the designated account, or (ii) at least during the annual review. For the avoidance of doubt, where such gross exposure (or part thereof, except cash) was transferred out of the designated accounts, such gross exposure (or part thereof, except cash) shall nonetheless continue to be regarded as “the gross exposure arising from investment transactions executed under the Streamlined Approach” for the purpose of monitoring compliance with the Streamlining Threshold. That said, intermediaries are not expected to reduce/unwind the gross exposure for the purpose of complying with the Streamlining Threshold. Where the gross exposure in the designated account is above the Streamlining Threshold, intermediaries may continue to operate (and to execute transactions in) the designated account restricting any top-up or deposit; or alternatively, execute investment transactions without applying the Streamlined Approach (eg, outside of the designated accounts).

7. Could intermediaries execute leveraged transactions for and/or provide margin
   trading to an SPI under the Streamlined Approach?
   Intermediaries could execute investment transactions for an SPI under the Streamlined Approach if they fall within the Product Categories and the Streamlining Threshold specified by the SPI. Notwithstanding, intermediaries are required to establish effective systems and controls to ensure the gross exposures (including the effect of leverage) arising from investment transactions executed under a Streamlined Approach remain at or below the amount specified by the SPI when monitoring compliance with the Streamlining Threshold.