Market players under new ASIC scrutiny

Companies operating in Australian financial markets will need to significantly upgrade their compliance and supervisory processes under policy proposals put forward by the Australian Securities and Investments Commission (ASIC).

As well, some financial services organisations may find themselves exposed to greater ASIC scrutiny as a result of a proposal that would see markets deemed to be ‘located’ in Australia simply because one or more proprietary market screens are located in this country.

The ASIC policy document also has implications for the way companies market themselves and communicate with potential clients. It makes clear that the targeting of Australian investors will carry with it the implication that a market is based in Australia.

The ASIC policy document on Australian Market Licences, published as part of the Financial Services Reform (FSR) Bill process, has made clear the Commission’s view that the new legislation will require closer scrutiny of companies operating as ‘market licensees’.

The document also makes clear that companies will need to establish an adequate internal process aimed at ensuring the separation of commercial and supervisory activities and have financial resources sufficient to meet their obligations for at least 12 months.

It suggests that not only will such companies have to file annual reports with ASIC but they will also have to detail how they plan to meet their ongoing regulatory and supervisory obligations.

The ASIC proposal has implications for a wide range of companies. It has the potential to affect not only the larger investment banks but also some of the smaller funds managers because of the legislation’s definition of what constitutes a financial market and whether it actually operates in Australia.

For the purposes of the new legislation, ASIC takes the view that a ‘financial market’ is a facility through which:

• offers to acquire or dispose of financial products are regularly made or accepted; or

• offers or invitations are regularly made to acquire or dispose of financial products that are intended to result or may reasonably be expected to result, directly or indirectly, in the making of offers to acquire or dispose of financial products or the acceptance of such offers.

ASIC’s regulatory net becomes somewhat wider when other elements of its policy proposal are taken into account. ASIC has proposed that a financial market can be deemed to be based in Australia if material is directly targeted at Australian investors or if one or more proprietary market screens are based in this country.

However, ASIC has recognised that this interpretation may cause some consternation in the financial services sector, and has specifically sought comment on whether a market can be deemed to operate in Australia if only one screen is located here.

“In determining whether a market operates in Australia, should we also consider the number of screens in Australia and/or the volume of trading conducted via the screens located in Australia?”, the ASIC policy document asks.

However, the document is very much more clear-cut on the question of the supervisory obligations that will need to be met by companies operating as market licensees.

“The FSR Act imposes on ASIC an obligation (rather than a discretion) to do an assessment at least annually of the market licensee’s compliance with its obligation to have adequate supervisory arrangements,” the policy document says.

“This underlines the regulatory importance of compliance by market licensees with their supervisory obligations. We think it also means that market licensees should provide ASIC each year with their planning about their supervisory obligations.”

“Effective performance of a market licensee’s supervisory obligations is integral to the fairness, orderliness and transparency of the market,” the policy document says.

Dealing with the financial resources expected of market licensees the policy document suggests that 12 months was regarded as the minimum period for which a licensee must have committed liquid financial resources to fund all its operations.

“A market licensee’s financial resources must be sufficient to fund all the operations of the licensee and not just the operation of a particular market, because the stability and continuity of a particular market cannot be separated from the overall financial health and the continuity of the licensee,” it says.

“We think that the assessment of the amount required to fund the market licensee’s operations must be on a ‘worst case’ analysis of prospective revenue and expenses over 12 months. For some market licensees, this will mean that it will not be appropriate to include any prospective revenue for assessment.”

The paper also says that for longer-established market licensees, the market’s history of operation could be taken into account in determining a ‘worst case’ analysis of prospective revenue and expenses.

The paper also made clear that market licensees had to ensure they had approved compensation arrangements in place in relation to their markets or face loss of their licenses.

What is more, ASIC made clear that the obligation to carry compensation insurance lay with the licensee rather than with market participants.

“We think that the combination of these compensation obligations, and the potential impact on a market licensee’s licence in the event of non-compliance, mean that the obligation on the market licensee is to have compensation under its control,” the paper says.

It said that a market licensee could not satisfy its compensation obligations by pointing to arrangements under the control of someone else, such as individual insurance arrangements put in place by a participant in the licensee’s market, or an external dispute resolution scheme to which some or all of the participants in the licensee’s market belong.