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Speech by SFST at WFE Forum


    Following is a speech by the Secretary for Financial Services and the Treasury, Mr Frederick Ma, at the World Federation of Exchanges Forum for Developing Markets today (June 3):

Developing the public's confidence in exchanges


Distinguished guests, ladies and gentlemen,

    It is my honour to be here today to share with distinguished guests from stock exchanges and related fields in different parts of the world my thoughts on a topic crucial to the development of exchanges, which is, how to build and further strengthen the public's confidence in exchanges.

    Stock exchanges are the cornerstone of financial markets as they provide excellent platforms for channelling savings to investments. They play a key role in fostering the development of the economy through offering enterprises an efficient means to raise sizable funds, while at the same time providing investors a range of investment options to enhance returns on their funds.

    The success of a stock exchange hinges on many factors, including an advanced infrastructure, well-established systems and human resources. But above all, public confidence is the key. It takes years to build a successful stock exchange, but it may just take a single crisis lasting for a few hours to cause a stock exchange to collapse.

    The memory of Black Monday on October 19, 1987 is still vivid. The Dow Jones Industrial Average plummeted by 22.6% in one single day, resulting in a loss of about 15,000 jobs in the US financial services industry. This prompted the appointment of the Brady Commission, followed by the implementation of improvement measures such as the establishment of a permanent financial surveillance group for the purpose of sharing financial information and joint audits and enhancement of inter-exchange communications. With these improvement measures, the market picked up again as people regained confidence.  

    The recent scandals of large corporations such as Enron and WorldCom gave rise to confidence crises as the investors' confidence in the integrity of the accounting profession and listed corporations was shaken. The US authorities have taken resolute action to restore the confidence of the investing public by introducing the Sarbanes-Oxley Act.

    In Hong Kong, we've also learnt from similar experience in the financial services sector. After the stock market crash in 1987, the Government appointed the Securities Review Committee to examine Hong Kong's regulatory structure. The recommendations of the committee led to the establishment of the Securities and Futures Commission (SFC) in May 1989 as a statutory regulator for the securities and futures markets.  

    In the midst of financial globalisation, the developments of different stock exchanges all over the world are closely related. A single incident in one financial market may have read-across implications for others. It is important that we can learn from not only our own experience, but also that of other jurisdictions, to gain insights into how we may further enhance our existing systems and practices so as to upgrade our corporate governance standards and promote investor confidence.

Developing Public's Confidence - Keys to Success of Exchanges from Hong Kong's Experience


    At this forum, I'm glad to have the opportunity to listen to the words of wisdom of many distinguished speakers on the development of stock exchanges. Today, I would like to share with you Hong Kong's experience in developing the public's confidence in our exchanges, which is high on the HKSAR Government's policy agenda and the formula we adopt is to build confidence on the concerted efforts of the Government, the statutory regulator and the exchange itself as well as other law enforcement agencies.

    In Hong Kong, we have put in place a three-tiered structure for the regulation of the securities and futures industry. The first tier is the Government, which sets the direction and policy for development; the second tier is the SFC as the statutory regulator; and the third tier is the Hong Kong Exchanges and Clearing Limited (HKEx), which is the market operator and at the same time the frontline regulator.

The First Tier - Government


    The first and foremost role of the Government is to provide a favourable environment under which the financial markets can develop and prosper.

Providing a conducive environment


    From the macro perspective, the HKSAR Government has developed an environment conducive to doing business and promoting public confidence in the financial markets. Our rule of law, free market economy, independent judiciary, free flow of information and capital, and clean and efficient civil service are the fundamental strengths of Hong Kong and help us to win confidence from domestic and overseas investors.

Setting direction and policy for the development of financial services


    On financial services, the Government's direction is clear; it is to maintain and further strengthen Hong Kong's position as an international financial centre. Our policy is to maintain and further upgrade the quality of our financial markets so as to protect investor interest and thus strengthen investor confidence. To this end, we have made tremendous efforts to establish a world-class regulatory framework and foster strong corporate governance.

Providing a robust regulatory regime


    As one of the key milestones in enhancing our regulatory regime, our new Securities and Futures Ordinance (SFO) came into effect in April 2003. It strengthens our requirements for corporate disclosure and the investigation powers of SFC, putting us on a par with the best prevailing international standards and providing us with a solid foundation for further development of Hong Kong's securities and futures markets. The SFO brought about a number of fundamental changes: the dual civil and criminal regimes to combat market misconduct; a new investor compensation scheme and a wider range of sanctions that the SFC may impose on their licensees. Besides, we have also amended the Companies Ordinance to provide for statutory derivative actions by shareholders.

    We are now working on legislative amendments to give statutory backing to major listing requirements to provide the necessary enforcement teeth with a view to promoting compliance by issuers, thereby enhancing our market quality.

Promoting corporate governance


    Of course, legislation alone could not ensure good market quality. We need to work on another crucial factor, which is good corporate governance. The Government of HKSAR has taken the lead to work with the SFC and the HKEx to develop a "Corporate Governance Action Plan" to ensure that our corporate governance requirements are in line with the best international standards and practices.

Strengthening regulation of intermediaries


    Another area on which we have placed a lot of emphasis is the regulation of financial intermediaries and other related professions as they perform an important gate-keeping function in the financial services industry. Much has also been done in strengthening the regulation of the accounting profession. A bill was enacted last year to open up the governance body of the Hong Kong Institute of Certified Public Accountants (HKICPA), the self regulatory organisation of accountants in Hong Kong. More lay members have been appointed to the Council of the HKICPA and its Investigation and Disciplinary Panels to enhance their independence and transparency.

    We are now working on new legislation to establish a Financial Reporting Council as a statutory independent body to carry out investigations into suspected irregularities concerning auditors of listed corporations, and to inquire into suspected non-compliance with financial reporting standards. This is an important step towards further enhancing the regulation of auditors and the quality of financial reporting of listed companies.

The Second Tier - Statutory Regulator


    At the second tier is the statutory regulator, the SFC. It is independent from the HKSAR Government and has its own governing body and statutory powers with checks and balances provided under the SFO.

Monitoring of market operators including the exchanges


    The SFC has the statutory responsibility to supervise and regulate activities carried out by the exchanges to ensure the markets are orderly, informed and fair. The commission is also provided with the authority to approve amendments to the rules of the HKEx, including the Listing Rules of the Exchange. It conducts regular audit reviews on HKEx's performance of listing functions to ensure effectiveness, efficiency and fairness of the operation of the HKEx.

Enforcement of statutory rules and regulations


    For intermediaries, the SFC is responsible for administering the licensing regime. A recent project that the SFC is working on is to enhance the regulation of sponsors and independent financial advisers by imposing specific admission criteria and ongoing obligations in order to upgrade the regulation of intermediaries to ensure their competence and the quality of their due diligence work.

    For issuers, the SFC is vested with the power to object to listing applications under the dual filing system introduced under the SFO. False or misleading disclosure in the listing documents and public disclosure materials filed with the SFC is a criminal offence. The system has strengthened the gate-keeping mechanism in respect of disclosure at IPOs as well as ongoing disclosure by listed issuers.

Checks and balances to ensure SFC's accountability


    Public confidence in the statutory regulator's ability in promoting an orderly market and monitoring exchanges depends not only on the strength of its "regulatory teeth", but also the transparency and accountability of the regulator. There are checks and balances in place to ensure the proper exercise of the SFC's powers: it has the statutory obligation to present its annual report and financial statements to the Financial Secretary who would lay them before the legislature; SFC's decisions are subject to review by an independent Securities and Futures Appeals Tribunal chaired by a full-time judge; there is an independent Process Review Panel to review the internal procedures of the SFC to ensure its procedural fairness.

    We have also put forward a proposal to the Legislative Council to split the executive Chairman post into a Chairman post and a CEO post in accordance with the best international corporate governance practice so as to further enhance the SFC's internal checks and balances and thus its credibility. It would help to strengthen the public's confidence in the quality of our financial markets.

Third Tier - Exchange


    At the third tier is the HKEx, which plays the dual roles of a market operator and a frontline regulator. The HKEx has done an excellent job in providing orderly and fair markets for the trading of securities and futures, putting in place systems to manage risks prudently, and providing reliable infrastructure.

    The HKEx has secured the confidence of local and international investors due to its well-established systems to ensure accountability, transparency and avoidance of conflicts of interests as well as its determination to maintain high market quality in the execution of its listing functions.

    There are specific provisions in the SFO requiring the exchanges to act in the public interest. The HKEx, including all of its directors, is required to act in the interest of the public. The law also empowers the Government to appoint members to the Board of the HKEx.

    There is a firewall between the Board and the Listing Committee, which is responsible for making decisions on listing applications and taking disciplinary action. The Listing Committee comprises persons from the brokerage industry and listed corporations, as well as fund managers, investment bankers, lawyers and accountants, etc. The HKEx has also recently undertaken a review of the structure and functions of the Listing Committee, aiming to enhance its efficiency and investor representation.

    The HKEx has also taken the initiative to enhance transparency in the performance of its listing-related functions. It publishes online its listing decisions, of course, without disclosing the names of the listing applicants, to give the market a better understanding about its interpretation of specific listing requirements. The Listing Committee, which has the authority to approve listing applications and impose disciplinary sanctions on issuers, also publishes annual reports to set out its mode of operation, cases considered and policy issues contemplated.

    The HKEx has exhibited its determination to set and enforce reasonable rules and standards for issuers to ensure market quality, in line with international developments. In the context of its continuing efforts to enhance and update its rules governing the corporate governance of listed companies, the HKEx has implemented changes to its Listing Rules, including increasing the number of independent non-executive directors from two to three, with at least one of them having accounting or related financial management expertise.

    The HKEx also encourages listed companies to take the initiative to go beyond the rule requirements and implement best practices. To this end, the HKEx has promulgated a comprehensive new Code on Corporate Governance Practices to implement various corporate governance measures in the areas of directors and board's practices; communication with shareholders; and corporate reporting and disclosure of information.

Role of Other Law Enforcement Agencies


    On top of the three-tiered regulatory structure, the excellent work of other law enforcement agencies has added credibility to our regime. Our Police have been successful in cracking down on commercial fraud, while the Independent Commission Against Corruption (ICAC) combats corruption and other corruption-facilitated fraud. Both of them work closely with the SFC in taking enforcement action against corporate misconduct.  

    ICAC's work in promoting public confidence is not only confined to law enforcement but encompasses corruption prevention. ICAC, since its establishment in 1974, has been promoting a corruption-free culture in Hong Kong as a whole, including the financial services industry and listed sectors through public education. It offers tailor-made advice and assists corporations in identifying control weaknesses in their systems and recommends solutions to strengthen the internal control. It also organises seminars on corruption prevention and corporate system control. ICAC's holistic approach in combating corruption has been commended by international organisations such as the International Police Commission and the World Bank.

Concluding Remarks on Hong Kong's Experience


    Our Hong Kong's experience shows that the Government, the statutory regulator, the exchanges and other law enforcement agencies must work together in order to build confidence in our exchanges. With all parties' concerted efforts, our exchange has gained confidence from not only local investors but also investors from around the world.  

    Overseas investors constituted 35% to 40% of the total trading volume in the past three years. With this broadened investor base, our market capitalisation has increased by 70% and turnover by 105% from April 2002 to April 2005. In 2004, the HKEx became the third largest fund raising exchange in the world. Certainly, we can't be complacent and must keep up with our efforts in enhancing our market quality and strengthening investor confidence in our exchanges.



    Ladies and gentlemen, the development of the public's confidence in exchanges is a long and challenging process. We always have to strive to achieve the objectives of both upholding high standards and facilitating market development. There are surely a lot of valuable experiences we may share in rising to the challenge of building a resilient and healthy stock market that is able to grow and win investor confidence. I am sure global standard setters such as the WFE can provide us with a lot of insights.

    May I take this opportunity to wish the WFE and its Forum for Developing Markets every success.

    Thank you.

Ends/Friday, June 3, 2005


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