In November 2002 the Securities and Futures Commission ("SFC") announced the authorisation of Hong Kong's first retail hedge funds. Deacons Financial Services Group has assisted two clients to obtain authorisation of their hedge funds and continues to work on a number of other hedge fund authorisation applications.

Hedge funds' reporting requirements

In connection with the authorisation of hedge funds the SFC has finalised its reporting requirements for authorised hedge funds. In our November 2002 newsletter we discussed the SFC's consultation paper on these reporting requirements. Following the consultation the SFC decided not to impose a requirement that hedge funds adopt international accounting standards. Some of the key reporting requirements are:

• Frequency and timing of publication of reports: A fund must publish quarterly reports (four in each year) to be available within one month of the end of the relevant period (six weeks for a fund of hedge funds), one semi-annual report (to be available within two months of the end of the relevant period) and one audited annual report (to be available within four months of the relevant period, or six months for a fund of hedge funds).

• Disclosure of top holdings/exposures: In all of the reports the management company can choose the most appropriate method of illustrating the key holdings/exposures subject to certain minimum requirements, including disclosure by fund of hedge funds of the top five underlying holdings and for other hedge funds the names and amounts of the top five long positions and the top five short positions held by the fund on a gross basis. 

• Quarterly reports: These should be provided in both English and Chinese. The report should include a commentary covering a performance review and a portfolio review giving information on the funds total net asset value, net asset value per share, percentage change in net asset value per share and information on cash borrowings and other sources of leverage.

Marketing of hedge funds 

The SFC has produced investor education materials to remind investors to evaluate their financial circumstances and the inherent risks involved when investing in hedge funds. The SFC has also issued a circular to registered persons to remind them of their duty to comply with the Code of Conduct ("Code") when marketing retail hedge funds. The circular highlights certain requirements from the Code that are applicable to all financial intermediaries (unless waived by the SFC) including: to know their client in the context of suitability of the investment; to ensure that staff are qualified and trained to provide hedge fund advice and services; and to ensure that their internal control procedures cover marketing of hedge funds in compliance with the Code. In addition clients should be provided with the information necessary to help make informed investment decisions relating to hedge funds.

New guidelines for retail hedge funds and retail futures and options funds 

The Insurance Law of the People's Republic of China ("Law") has been amended. The amendments came into effect on 1 January 2003 and are also applicable to foreign invested insurance companies and branches of foreign insurance companies in China. The amendments:

• impose stricter and more specific obligations on insurers in dealing with a claim from an insured or beneficiary;

• remove some of the strict prohibitions on insurers from simultaneously engaging in life and property businesses, for example property insurers are
  now permitted to operate shortterm health insurance and casualty insurance as a sideline business upon approval by the industry regulator, the China
  Insurance Regulatory Commission (CIRC);

• clarify which types of insurance require CIRC approval of terms and pricing and which types only need to be filed for the record with CIRC;

• require insurers to exercise tight control over insurance agents. Insurers must enter into agency agreements with their agents and strengthen training and administration of their agents. Insurance companies are specifically prohibited from inducing or misleading agents into violating their duty of good faith. There is also a new provision covering agents acting outside their scope of authority: if an insured entering into a contract with such an agent had reason to believe that the agent possessed agency powers and was authorised to enter into the insurance contract, the insurer must undertake the insurance liability. Individual insurance agents have also been prohibited from acting for more than two insurance companies concurrently.

The Hong Kong Government has announced that 1 April 2003 will be the commencement date for the SFO. In our November 2002 newsletter we discussed the twoyear transitional period for licence applications by existing licensees and the new financial resources requirements. 

On 22 January 2003 the SFC issued a circular regarding the migration to the new regime by existing licensees, exempt persons and licensed banks and asked for return of information sheets by 14 February 2003. 

The information sheets are slightly different depending on the intermediaries' current licensing status. For existing licensees and exempt persons who are not authorised financial institutions the information sheets require basic information including notification of a complaints officer; details of associated entities; details of insurance; for dealers, whether or not automated trading services are provided; and, for exempt persons, responsible officers' and representatives' details.

Under the new regime the net tangible asset requirement for investment advisers will be replaced with a paid-up share capital requirement of HK$5 million and a liquid capital requirement of HK$3 million, except where the licensed corporation is subject to the "specified licensing condition", in which case there will be no minimum paid-up share capital requirement and only HK$100,000 liquid capital will be required. The "specified licensing condition" under the new regime is a licensing condition that
the licensed corporation shall not hold client assets. Investment advisers must comply with the new financial resources requirements by 1 October 2003. In its January 2003 circular the SFC advised that it regards certain current licensing conditions for investment advisers (as listed in its circular) as the specified licensing condition for the purposes of the new regime.

With effect from 1 April 2003, most of the other provisions of the SFO and the rules, regulations, codes and guidelines made under the SFO will immediately apply to existing licensed intermediaries, as well as exempt dealers and advisers. Intermediaries should familiarise themselves with all applicable provisions of the new law and regulations and ensure that they will be in compliance with them. In particular the following changes should be noted:

• associated entities (nominee companies that are controlled by intermediaries and receive and hold client assets of the intermediary) are now subject to regulation;

• there are new requirements in relation to handling of client securities and money, provision of contract notes, keeping of accounts and records and financial statements and audit. These requirements generally apply to all intermediaries and their associated entities.

Susan Gordon, Taylor Hui and Geoff Baker (head of our Beijing office) will speak at the Funds World China 2003 conference in Shanghai on 2 to 4 April 2003. For those who are interested in attending this conference, please let us know as a discount on the conference fee may be arranged with the organisers. On 26 March 2003, Martin Lister will be speaking in Hong Kong on Issues in  Insurance Mergers, Acquisitions and Joint Ventures at the Third CEO Insurance Summit in Asia.