SFC identifies irregularities in private funds and discretionary accounts

Chris Hamblin

11 August 2017

During the SFC’s supervision of licensed corporations engaged in the asset management business, a number of private funds and discretionary accounts with concentrated, illiquid and interconnected investments were found to have irregular features. This has prompted the SFC to issue a circular on the subject.

The irregularities cited in the circular are as follows.

Discretionary account holders having sizeable concentrated stock positions in their accounts and asset managers acting solely at the direction of their clients without exercising investment discretion.
Related-party acquisition or disposal of listed company shares by bought and sold notes, as in the case of a substantial shareholder of a listed company selling the company’s shares to a fund managed by an asset manager by bought and sold notes, and the substantial shareholder in turn investing in the fund through a discretionary account.
Fund investors or discretionary account holders being related (perhaps as substantial shareholders, directors or affiliates) to the listed companies invested by the funds or the discretionary accounts.
The case of a director of an asset manager who was also a director or chief executive officer of listed companies in which funds under the management of the asset manager were invested.

The SFC also identified instances where fund investors or discretionary account holders were substantial shareholders, directors or affiliates of the listed companies in which the funds or the discretionary accounts invested. In one case, a director of an asset manager was also a director or chief executive officer of listed companies in which funds under the management of the asset manager were invested.

The regulator also wants to remind investors to take precautions before investing in private fund. Each investor should pay particular attention to the fund’s investment objective and strategies by reading its offering document and asking the asset manager about it. He should also gain a full understanding of the fund’s nature and risks (e.g. finding out whether it has a heavy concentration of illiquid or interconnected stocks) instead of merely considering its performance and return. He should also match the fund’s risk profile against his own personal circumstances to determine whether the investment suits him.

The SFC expects the boards and senior managers (including the so-called 'managers-in-charge' who perform 'core functions' as part of a regime that superficially resembles the UK's Senior Managers and Cerfification Regime) of all asset managers to oversee their firms' business activities adequately, especially when it comes to keeping up standards of conduct, managing risks and acting fairly towards their clients. It will therefore, according to its circular, "not hesitate to take action" against them and their firms if they do not comply.

In the circular, 'private funds' are mainly open-ended private funds whose investors could redeem from the funds anytime in accordance with the funds' dealing frequencies set out in their offering documents.