Legislative Council Secretariat FACT SHEET. Regulation of collective investment schemes. 2. Definition of collective investment schemes

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1 FACT SHEET Regulation of collective investment schemes 1. Background 1.1 The Securities and Futures Commission ("SFC") announced on 13 May 2013 that it had conducted an investigation on the matter regarding the sale of hotel room units of a development in Kwai Chung, namely The Apex Horizon, to individual purchasers by Pearl Wisdom Limited, a wholly-owned subsidiary of Cheung Kong (Holdings) Limited. SFC formed the view that the offer to purchase hotel room units appeared to be an invitation to acquire an interest in or to participate in a collective investment scheme as defined in the Securities and Futures Ordinance (Cap 571) ("SFO"). SFC also announced that Pearl Wisdom Limited had agreed to unwind the sale of the hotel room units (see the Appendix for the related press release issued by SFC). 1.2 At its meeting to be held on 5 July 2013, the Panel on Financial Affairs will discuss, among other things, issues relating to the regulation of collective investment schemes in Hong Kong. To facilitate members' discussion, this fact sheet provides the background information on the regulation of collective investment schemes under SFO and the relevant codes and guidelines applicable to SFC-authorized collective investment schemes. 2. Definition of collective investment schemes 2.1 Collective investment scheme is a term introduced under, and defined in Schedule 1 to, SFO to apply to investment products of a collective nature 1. 1 The term "collective investment scheme" embraces and modernizes the concepts of "unit trust", "mutual fund corporation" and "investment arrangements" as defined in the repealed Securities Ordinance and the Protection of Investors Ordinance. Research Office Page 1

2 2.2 Generally, collective investment scheme has the relevant elements that: (a) the scheme must involve an arrangement in respect of property; (b) participants do not have day-to-day control over the management of the property even if they have the right to be consulted or to give directions about the management of the property; (c) the property is managed as a whole by or on behalf of the person operating the arrangements; and (d) the purpose of the arrangement is for participants to participate in or receive profits, income or other returns from the acquisition or management of the property. Prescribing arrangements as collective investment schemes under section 393 of SFO 2.3 Collective investment scheme is not exhaustively defined in SFO. The scope of the term can be enlarged or limited from time to time by a notice made under section 393 of SFO. Under section 393(1)(a)(i), the Financial Secretary may by notice published in the Gazette prescribe arrangements that are to be regarded as collective investment schemes if they meet with certain specified criteria or are not to be so regarded. This provides the flexibility to address the changing market conditions. In particular, new investment products may be brought within the regulatory regime from time to time to facilitate market development. Research Office Page 2

3 2.4 For example, the Financial Secretary published a notice in the Gazette, namely the Securities and Futures (Collective Investment Scheme) Notice, in 2002 to prescribe certain "paper gold schemes" as collective investment scheme 2. The Notice prescribes that arrangements for the purchase of gold coins or gold bullion that are made available in the course of business and have the purpose or effect of enabling the participating persons to do the following are regarded as collective investment schemes: (a) to acquire the ownership of the coins or bullion for valuable consideration; (b) to defer taking possession of the coins or bullion; and (c) to transfer or retransfer the ownership of the coins or bullion to a person who is a party to, or is referred to in, the arrangements. 3. Authorization of collective investment schemes 3.1 SFC is empowered under Part IV of SFO to authorize a wide range of investments that are offered to the public in Hong Kong. These investments mainly fall into the category of collective investment schemes. In authorizing a collective investment scheme, SFC may impose conditions as it considers appropriate. 3.2 According to section 104(2) of SFO, an applicant applying for the authorization of a collective investment scheme must nominate an individual for the approval by SFC as an "approved person". The approved person will be SFC's point of contact for the purpose of being served notices and decisions in respect of the collective investment scheme. 2 The Notice came into operation on the day of the commencement of SFO on 1 April SFO is a composite piece of legislation consolidating the repealed 10 ordinances governing the securities and futures markets. Before its commencement, the Protection of Investors (Gold Purchase) Order (Cap. 335A), enacted in 1983 under the repealed Protection of Investors Ordinance, set out the criteria in relation to "paper gold schemes" subject to authorization by SFC before public offering. The Securities and Futures (Collective Investment Scheme) Notice published in 2002 was intended to replicate the repealed Order. Research Office Page 3

4 3.3 SFC may refuse to authorize any collective investment scheme where it is not satisfied that the authorization is in the interest of the investing public. 3.4 Unit trusts and mutual funds are the most common type of collective investment schemes. Other authorized investment products that fall within the definition of collective investment scheme include investment-linked assurance schemes, pooled retirement funds, paper gold schemes, and real estate investment trusts. Mandatory Provident Fund ("MPF") products, comprising master trust schemes and MPF pooled investment funds, are also collective investment schemes. 3.5 Table 1 below lists the types of collective investment scheme available in the market as at end-march Table 1 Authorized collective investment schemes available as at end-march 2013 Authorized collective investment schemes Number of schemes Unit trusts and mutual funds Investment-linked assurance schemes 258 Pooled retirement funds 35 Paper gold schemes 17 Real estate investment trusts 9 MPF products: Master trust schemes MPF pooled investment funds Total Source: SFC. 3 Another investment product, namely immigration-linked investment scheme, is also regarded as a collective investment scheme. It is related to the investment of property or business ventures overseas in which one of the principal benefits for participants is the right to emigrate from Hong Kong to an overseas territory. According to SFC, no such schemes have been authorized, or have remained authorized, since March Research Office Page 4

5 4. Authorization of the issue of advertisements, invitations or documents 4.1 Under section 103 of SFO, it is an offence to issue an advertisement, invitation or document which is or contains an invitation to the public to invest in collective investment schemes, unless the issue is authorized by SFC under section 105 of SFO or an exemption applies, e.g. the offer is made only to professional investors as defined in Schedule 1 to SFO. 4.2 Authorization of the issue of advertisements, invitations or documents requires all related materials to contain sufficient details of the features of the collective investment scheme as well as the level of risk involved, with a view to ensuring that members of the investing public are properly and accurately informed about the key features of a securities product or an interest in a collective investment scheme when making a decision to invest. Generally, SFC would not consider it appropriate to authorize any advertisements, invitation or document if the collective investment scheme has not been authorized. 4.3 Similar to the authorization of a collective investment scheme, an applicant seeking authorization to issue any advertisement, invitation or document is required to nominate an individual for the approval by SFC as an "approved person". The approved person will be SFC's point of contact for the purpose of being served notices and decisions in respect of the issue. 5. Handbook, codes and guidelines applicable to authorized collective investment schemes 5.1 SFC has issued the following handbook, codes and guidelines under section 399 of SFO applicable to the specific types of investment products: (a) SFC Handbook for Unit Trusts and Mutual Funds, Investment-Linked Assurance Schemes and Unlisted Structured Investment Products 4 ; 4 Unlisted structured investment products are investment instruments embedded with derivative features. These products are generally not collective investment schemes. Research Office Page 5

6 (b) Code on Pooled Retirement Funds; (c) Code on Real Estate Investment Trusts; (d) SFC Code on MPF Products; (e) Advertising Guidelines Applicable to Collective Investment Schemes Authorized under the Product Codes; and (f) Guidance Note for Persons Advertising or Offering Collective Investment Schemes on the Internet. 5.2 The product codes set out the bases and requirements for SFC's authorization and product issuers' compliance 5. According to the product codes, most types of investment products are required to appoint a qualified trustee/custodian to take care of scheme assets and a management company to manage investment. In addition, they also have to comply with the requirements or restrictions with respect to investment, information disclosure, advertising, etc. Investment restrictions 5.3 For instance, unit trusts and mutual funds may not, among other things, hold securities issued by any single issuer exceeding 10% of the scheme's total net asset value. A real estate investment trust can only invest in real estate and has to comply with the dividend policy requirement of distributing not less than 90% of audited annual after-tax net income to unitholders every year Investment-linked assurance schemes and MPF products are primarily regulated by the Insurance Authority and the Mandatory Provident Fund Schemes Authority respectively. SFC is involved in the regulation of these products only to the extent that the products themselves, their offering documents and marketing materials need to be authorized by SFC prior to their issuance in Hong Kong. For MPF products, the appointed investment managers are also required to be licensed by SFC. A real estate investment trust seeking authorization must be intended to be listed on The Stock Exchange of Hong Kong Limited within a period acceptable to SFC and possess certain requisite conditions. The requisite conditions for SFC's authorization are as follows: (a) dedicated investments in real estate that generate recurrent rental income; (b) active trading of real estate is restricted; (c) the greater proportion of income shall be derived from rentals of real estate; (d) a significant portion of income is distributed to holders in the form of regular dividends; (e) a maximum borrowing limit is defined; and (f) connected party transactions are subject to holders' approval. Research Office Page 6

7 Information disclosure in offering document 5.4 Issuers of collective investment schemes must issue an up-to-date offering document containing the required information to enable investors to make an informed judgment. In particular, for unit trusts/mutual funds, issuers must prepare product summaries in the form of a Product Key Facts Statement, which forms a part of the offering document, to highlight the key information in respect of the investment product. Advertising 5.5 All forms of product advertisements shall be clear, fair and present a balanced picture with adequate risk disclosures in compliance with all applicable regulations. Issuers of advertisements are required to follow the guidance set out in the Advertising Guidelines Applicable to Collective Investment Schemes Authorized under the Product Codes to properly display performance information and prescribe warnings of all risks associated with the products. 5.6 While the handbook, codes and guidelines do not have the force of law, failure to comply with the applicable provisions may cause SFC to consider whether such failure adversely reflects on whether the product, the offering document and/or the advertisements should be granted authorization in the interest of the investing public or should remain authorized. SFC may impose additional authorization condition(s) which include restricting the further offering of the product to the public. 6. Withdrawal of authorization 6.1 SFC may withdraw an authorization of a collective investment scheme or the issue of an advertisement, invitation or document under section 106(1) of SFO if it decides that: (a) any of the authorization conditions imposed in respect of the authorization are not being complied with; Research Office Page 7

8 (b) the information concerning the application was, at the time when it was submitted, false or misleading in a material particular; or (c) it is desirable to withdraw the authorization in order to protect the interest of the investing public. 6.2 SFC would not withdraw an authorization without first giving the approved person for the scheme a reasonable opportunity of being heard. Where SFC withdraws an authorization, it will by notice in writing notify the approved person of the decision and the reasons for which it is made. 6.3 Section 106 of SFO provides that SFC may withdraw an authorization of a collective investment scheme or issue of an advertisement, invitation or document upon a request in writing made by the approved person for the scheme or issue. However, SFC may refuse the withdrawal request where it considers that (a) it is in the public interest that any matter concerning the scheme should be investigated before the authorization is withdrawn or (b) withdrawal of the authorization would not be in the interest of the investing public. Research Office Information Services Division Legislative Council Secretariat 27 June 2013 Tel: Fact sheets are compiled for Members and Committees of the Legislative Council. They are not legal or other professional advice and shall not be relied on as such. Fact sheets are subject to copyright owned by The Legislative Council Commission (The Commission). The Commission permits accurate reproduction of fact sheets for non-commercial use in a manner not adversely affecting the Legislative Council, provided that acknowledgement is made stating the Research Office of the Legislative Council Secretariat as the source and one copy of the reproduction is sent to the Legislative Council Library. Research Office Page 8

9 Appendix Press release of the Securities and Futures Commission Pearl Wisdom Limited agrees with SFC to unwind sale of The Apex Horizon hotel units. 13 May 2013 Cheung Kong (Holdings) Limited, Cheung Kong Property Development Limited, Pearl Wisdom Limited (PWL) and Horizon Hotels & Suites Limited (collectively the Cheung Kong parties) today entered into an agreement with the Securities and Futures Commission (SFC) to unwind the sale of hotel room units at The Apex Horizon (Note 1). The SFC has been investigating whether the offer to purchase hotel room units at The Apex Horizon development constituted an offer to acquire an interest in or to participate in a Collective Investment Scheme (CIS) under the Securities and Futures Ordinance (SFO). A total of 360 hotel room units were individually sold to purchasers by the vendor, PWL, in February PWL will today issue a letter to all purchasers informing them that it wishes to cancel each contract and, in return, it will: (a) reimburse every purchaser the deposit and any part payments together with interest at the rate of 2% per annum above the prime rate specified by the Hongkong and Shanghai Banking Corporation Limited for the period from the date each amount was paid respectively until 30 May 2013; and (b) offer an amount of $10,000 as reimbursement of any reasonable legal and other expenses. Research Office Page 9

10 Appendix (cont'd) These amounts will be paid to purchasers by 30 May 2013 (Note 2). Mr Ashley Alder, the SFC's Chief Executive Officer, said: "Investors in a CIS are entitled to more information before investing than was provided in this case. The SFC considers that this is a sensible outcome, which, if effective, ensures all parties will be returned to their pre-transaction position." "The SFC will monitor the progress by the Cheung Kong parties to unwind the sale to determine whether any further action is required," he added. The SFC formed the view that the offer to purchase hotel room units at The Apex Horizon appeared to be an invitation to acquire an interest in or to participate in a CIS as defined in the SFO (Notes 3 and 4). The key elements of a CIS that appeared to the SFC to exist included the fact that day-to-day management of the hotel was to be in the hands of a separate operator appointed to operate the hotel on behalf of the purchasers and the hotel operator would control key functions necessary to manage and supervise the hotel including allocation of guests to rooms. The Cheung Kong parties do not agree with the SFC's view and contend that the purchasers have effective day-to-day control of their rooms and that it is an investment in real estate. The SFC informed the Cheung Kong parties that it intended to commence proceedings under section 213 of the SFO in the Court of First Instance to seek orders unwinding the sale and returning all deposit moneys and part payments to purchasers. Research Office Page 10

11 Appendix (cont'd) Today's agreement avoids these proceedings being commenced at this stage. End Notes: (1) The Apex Horizon is a development in Kwai Chung comprising 360 hotel room units. On 18 February 2013, Cheung Kong announced at a press conference that its subsidiary PWL was offering 65 of the 360 hotel room units in the development at an average selling price of $5,200 per sq. ft. On offer were 660 sq. ft. two-bedroom hotel room units and 909 sq. ft. three-bedroom hotel room units. All 65 units were sold on the same day with the rest of the units sold shortly afterwards. (2) The letter will require purchasers to sign a cancellation agreement and return it within 10 days. (3) A CIS has four relevant elements: (a) it must involve an arrangement in respect of property; (b) participants do not have day-to-day control over the management of the property even if they have the right to be consulted or to give directions about the management of the property; (c) the property is managed as a whole by or on behalf of the person operating the arrangements; and (d) the purpose of the arrangement is for participants to participate in or receive profits, income or other returns from the acquisition or management of the property. See Schedule 1 of the SFO. (4) Under section 103 of the SFO, the SFC is required to authorize any marketing material that is issued to the public containing an offer to participate in a CIS (subject to exceptions). It is the SFC's policy that a CIS is required to be authorized by the SFC under section 104 of the SFO before it is marketed to the public. Authorization of advertising and marketing documents would require all offering and marketing documents to contain sufficient details of the features of the CIS as well as the risks involved. The purpose of these provisions is to ensure members of the investing public are properly and accurately informed about the key features of a securities product or an interest in a CIS when making a decision to invest. Research Office Page 11

12 References 1. Department of Justice. (2012) Cap. 571: Securities and Futures Ordinance. Available from: f.nsf/ d2fee3fa e0033e532/ ddc96c3b EF001C7C2D/$FILE/CAP_571_e_b5.pdf [Accessed June 2013]. 2. Financial Services and the Treasury Bureau. (2002) Legislative Council Brief: Securities and Futures (Collective Investment Schemes) Notice. Available from: /securities/subsidiary/legco_cis.pdf [Accessed June 2013]. 3. Securities and Futures Commission. (2002) Consultation Conclusions on the draft Securities and Futures (Gold Purchase) Notice. Available from: way/en/consultation/conclusion?refno=02cp9 [Accessed June 2013]. 4. Securities and Futures Commission. (2003) Powerpoint presentation: Regulatory Regime for Offers of Investments. Available from: lation/securities/others/sfo_training/offer_of_investments.pdf [Accessed June 2013]. 5. Securities and Futures Commission. (2008) Circular to issuers of retail investment products. Available from: distributionweb/gateway/en/circular/openfile?refno=h522 [Accessed June 2013]. 6. Securities and Futures Commission. (2013a) Advertising Guidelines Applicable to Collective Investment Schemes Authorized under the Product Codes. Available from: ore/new_rulebooks/h/k/hksfc3527_2800_ver20.pdf [Accessed June 2013]. 7. Securities and Futures Commission. (2013b) Available from: [Accessed June 2013]. Research Office Page 12

13 8. Securities and Futures Commission. (2013c) Code on Pooled Retirement Funds. Available from: _store/new_rulebooks/h/k/hksfc3527_1109_ver20.pdf [Accessed June 2013]. 9. Securities and Futures Commission. (2013d) Code on Real Estate Investment Trusts. Available from: _1235_VER20.pdf [Accessed June 2013]. 10. Securities and Futures Commission. (2013e) Press release: Pearl Wisdom Limited agrees with SFC to unwind sale of The Apex Horizon hotel units. Available from: ments/news/doc?refno=13pr45 [Accessed June 2013]. 11. Securities and Futures Commission. (2013f) Publicly offered investment product. Available from: aqs/product-authorization/ [Accessed June 2013]. 12. Securities and Futures Commission. (2013g) SFC Handbook for Unit Trusts and Mutual Funds, Investment-Linked Assurance Schemes and Unlisted Structured Investment Products. Available from: s/h/k/hksfc3527_3038_ver20.pdf [Accessed June 2013]. Research Office Page 13