HKSI Paper 4 Regulation of Credit Rating Services Free Preview Set Two

Effective record retention policies are crucial for intermediaries to demonstrate compliance with legal and regulatory requirements, as outlined by the Securities and Futures Commission (SFC) in Hong Kong. These policies ensure that essential information is readily available for internal use, audits, and regulatory inspections. Senior management plays a vital role in establishing and maintaining these policies, which should cover various aspects, including licensing, financial resources, business practices, anti-money laundering measures, internal controls, and client dealings. The policies must also align with the Securities and Futures (Keeping of Records) Rules. Compliance staff should have unrestricted access to all necessary records and documentation to effectively monitor and enforce compliance. Proper complaints handling procedures, documented in writing, are also essential. The compliance function’s independence from operational and business functions ensures objectivity and impartiality in its oversight. Regular reviews and updates of these policies are necessary to adapt to evolving regulatory requirements and business practices. Failure to maintain adequate records can result in regulatory sanctions and reputational damage. Record retention policies should specify the types of records to be retained, the retention periods, and the storage methods. These policies should also address the secure disposal of records when they are no longer needed. Training should be provided to all staff on record retention policies and procedures. The SFC emphasizes the importance of maintaining accurate and complete records to ensure transparency and accountability in the securities and futures industry.

The correct combination is ‘I, II & III only’.

Statement I is correct because, according to s. 5 of the Accounts and Audit Rules, prescribed requirements now include various provisions of the Keeping of Records Rules, and failure to comply with these requirements can lead the SFC to appoint an auditor.

Statement II is correct because, as per s. 157 of the SFO, an auditor who resigns, does not seek reappointment, or otherwise ceases to be an auditor of a licensed corporation must notify the SFC in writing within one business day, providing reasons or stating that there are no reasons to give. This ensures the SFC is promptly informed of any changes in the auditor’s status and can take appropriate action.

Statement III is correct because s. 158 of the SFO provides immunity to an auditor communicating with the SFC under s. 157 in good faith, protecting them from being held to have breached any duty as an auditor. This protection extends to former auditors and auditors/former auditors of former licensed corporations, encouraging open communication with the SFC without fear of liability.

Statement IV is incorrect because s. 162 of the SFO grants auditors appointed by the SFC the power to examine officers, employees, agents, and auditors of the target entities under oath. It also allows them to exercise these powers in respect of any business carried on by the licensed corporation if this is relevant to the audit. Failing to comply with the requirements imposed under s. 162 constitutes an offence, not a regulatory suggestion.

The Hong Kong Securities and Futures Commission (SFC) emphasizes the critical role of senior management in establishing and maintaining a robust internal control environment. This includes taking full responsibility for the firm’s operations, ensuring the development and ongoing effectiveness of internal controls, and adhering to them. Regular communication of control information to various levels of senior management is essential. This communication should cover the firm’s policies, procedures, operations, financial position, qualitative and quantitative risks, detected weaknesses, any non-compliance with laws and regulations, and any deviations from the business objectives. Clear reporting lines with assigned supervisory and reporting responsibilities are also crucial. Detailed definitions of authorities for key positions, policies, and procedures for necessary authorizations, along with their communication throughout the business, are necessary. Finally, the assignment of management and supervisory functions to suitably qualified and experienced persons is vital for effective oversight. These measures collectively ensure that the business is conducted in a sound, efficient, and effective manner, aligning with the SFC’s objectives for maintaining market integrity and investor protection as outlined in the Internal Control Guidelines.

Section 113C of the Securities and Futures Ordinance (SFO) addresses the provision for fines related to offenses. It establishes a framework for determining the level of fines based on monetary amounts specified in ordinances, excluding certain categories of fines like daily penalties or fixed penalties under specific ordinances (e.g., Housing Ordinance, Fixed Penalty (Traffic Contraventions) Ordinance). The table within subsection (2) correlates specific monetary amounts to fine levels. The Chief Executive in Council holds the authority to amend the monetary amounts listed in this table via regulation. This amendment power is explicitly tied to reflecting the perceived impact of inflation on the value of those amounts since the last amendment. This ensures that the fines remain relevant and proportionate over time, considering economic changes. The Secretary for Justice is authorized to update the text of ordinances in the loose-leaf edition of the laws to align with the changes resulting from Section 113C. This ensures that the official record of the law accurately reflects the current fine levels. Schedule 8, which is related to the level of fines for offenses, can also be amended by the Chief Executive in Council to reflect the effect of inflation on the value of the amounts set out in the Schedule since the date when the Schedule came into operation, or since the date that the amounts in the Schedule were last amended. The power to amend the amounts in Schedule 8 and the table in subsection (2) of Section 113C is crucial for maintaining the deterrent effect of fines and ensuring that they remain a meaningful consequence for violations.

According to the SFC’s Code of Conduct, a licensed corporation must establish a written policy regarding employee dealings in securities or futures contracts. This policy must outline the conditions under which employees can trade, require employees to disclose all related accounts (including those of minor children and accounts where they have a beneficial interest) to senior management, and ensure that duplicate trade confirmations and account statements are provided to senior management for transactions on recognized markets. Furthermore, all employee transactions must be separately recorded and actively monitored by senior management to detect any irregularities. This aligns with statement I.

The Code of Conduct also mandates that licensed corporations handle client complaints promptly and appropriately. This includes investigating complaints, responding promptly, and advising clients of further steps available under the regulatory system if the issues are not resolved quickly. The corporation must also review the subject matter of the complaint and take remedial action, even if other clients have not filed similar complaints, if the issue raises broader concerns. This aligns with statement II.

Licensed or registered persons are indeed responsible for the actions of their employees and agents acting within their duties, reflecting the typical legal responsibility of an employer. This aligns with statement III.

Statement IV is incorrect because while notifications to the SFC are crucial, the Code of Conduct specifies particular circumstances that trigger such notifications, rather than mandating notification for every single complaint received. Therefore, the correct combination is I, II & III only.

The CRA Code emphasizes the importance of maintaining objectivity and independence in the credit rating process. Compensation arrangements that directly link a representative’s earnings to the revenue generated from rated entities can compromise this objectivity, as it creates an incentive to provide favorable ratings to secure or maintain business. This is explicitly prohibited under the CRA Code. Reporting lines should facilitate the identification and reporting of potential conflicts of interest to the compliance officer. Representatives directly involved in the rating process should not engage in fee discussions with rated entities to avoid any perception of bias. Representatives should also avoid owning securities or derivatives of rated entities they rate, or having close relationships with them, to prevent conflicts of interest. Disclosing personal relationships that could create conflicts of interest is crucial for transparency. Policies should be in place to review the work of representatives who leave to work for rated entities or related financial firms. The CRA should ensure that representatives involved in rating an entity are not the same as those involved in its oversight of the CRA. These measures collectively aim to safeguard the integrity and reliability of credit ratings, ensuring they are based on objective assessments rather than influenced by financial or personal interests. Formal reviews on compensation policies and practices should be undertaken periodically by CRAs (or their affiliates) for representatives and employees who are either engaged in the rating process or who may have an effect on the rating process.

The scenario describes a situation where a licensed corporation, ‘Alpha Investments,’ fails to meet its obligations under the Code of Conduct and misrepresents the services it provides to its clients. This directly violates General Principle 5, which emphasizes the importance of providing clients with clear, accurate, and timely information. Statement I is correct because recommending a product unsuitable for a client’s risk profile is a clear violation of the obligation to provide suitable advice. Statement II is correct because misdescribing the services to be provided is a direct contravention of the requirement to provide accurate information. Statement III is incorrect because while internal controls are important under General Principle 3 (capabilities), the primary issue here is the misrepresentation of services and unsuitable advice, which falls under General Principle 5. Statement IV is incorrect because while charging excessive fees can be a violation, the core issue presented in the scenario revolves around misrepresentation and suitability, not fee structures. Therefore, the correct combination is I & II only. Alpha Investments’ actions undermine client trust and market integrity, highlighting the importance of adhering to ethical standards and regulatory requirements.

The objectives of operational controls, as outlined in regulatory guidelines for intermediaries, are designed to ensure the integrity and reliability of business operations. Statement I is correct because maintaining proper records is fundamental to demonstrating compliance and providing an audit trail. Statement II is also correct; fair client treatment and accurate information exchange are central to maintaining client trust and adhering to regulatory standards, as emphasized by the Securities and Futures Commission (SFC). Statement III is correct because compliance with legal and regulatory requirements is a primary objective, ensuring the intermediary operates within the bounds of the law and avoids penalties. Statement IV is also correct because the proper management of risks to both the intermediary and its clients is crucial for financial stability and investor protection. These objectives collectively ensure that the intermediary operates ethically, legally, and efficiently, safeguarding the interests of all stakeholders. The senior management’s role in establishing policies and procedures to address potential conflicts of interest and prevent the misuse of confidential information is also critical, as detailed in sections 3 and 4 of Topic 3 of the CRA Code. Therefore, all the statements are correct.

The Hong Kong Monetary Authority (HKMA) plays a crucial role in maintaining the stability and integrity of Hong Kong’s financial system. Its functions extend beyond traditional central banking roles to include overseeing financial institutions and promoting financial innovation. One of the key responsibilities of the HKMA is to supervise authorized institutions (AIs), which include banks, restricted license banks, and deposit-taking companies. This supervision involves assessing their financial soundness, risk management practices, and compliance with regulatory requirements. The HKMA also plays a vital role in maintaining currency stability through its management of the Exchange Fund, which is used to defend the Hong Kong dollar’s peg to the US dollar. Furthermore, the HKMA actively promotes financial technology (FinTech) and innovation in the financial sector, aiming to enhance efficiency and competitiveness. The HKMA also works closely with other regulatory bodies, such as the Securities and Futures Commission (SFC), to ensure a coordinated approach to financial regulation in Hong Kong. The HKMA’s supervisory framework is risk-based, focusing on areas that pose the greatest potential threats to financial stability. This includes monitoring credit risk, market risk, operational risk, and liquidity risk. The HKMA also conducts stress tests to assess the resilience of AIs to adverse economic conditions. The HKMA’s efforts are essential for maintaining public confidence in Hong Kong’s financial system and supporting its role as an international financial center.

The Securities and Futures Ordinance (SFO) in Hong Kong provides the overarching legal framework for regulating the securities and futures industry, including credit rating agencies (CRAs). The SFO empowers the Securities and Futures Commission (SFC) to oversee CRAs and their activities. Statement I is correct because the SFO indeed establishes the legal foundation for regulating CRAs. Statement II is also correct; the SFC is the primary regulatory body responsible for supervising CRAs and ensuring their compliance with regulatory requirements. Statement III is correct as the SFC’s regulatory objectives include promoting the quality, reliability, and transparency of credit ratings to protect investors and maintain market integrity, as outlined in the SFC’s guidelines and circulars related to CRAs. Statement IV is also correct because the regulatory framework aims to mitigate conflicts of interest that may arise within CRAs, ensuring that ratings are objective and unbiased, as detailed in the Code of Conduct for Persons Providing Credit Rating Services issued by the SFC. Therefore, all the statements accurately reflect aspects of the regulatory framework governing CRAs in Hong Kong under the SFO and the SFC’s supervision.

The Management, Supervision and Internal Control Guidelines (ICG) issued by the SFC pursuant to s. 399, SFO, emphasizes the importance of robust internal controls within licensed corporations and registered institutions. Senior management’s responsibilities are pivotal in ensuring adherence to these guidelines.

Statement I is correct because senior management is indeed responsible for ensuring that the standards described in the Code of Conduct are adhered to. This includes establishing and consistently adhering to proper procedures to ensure compliance.

Statement II is incorrect. While senior management should be informed about regulatory changes, the primary responsibility for communicating these changes to all staff lies with the compliance function or a designated training department. Senior management’s role is to ensure these functions are adequately resourced and effective.

Statement III is correct. Senior management is responsible for establishing and maintaining a culture of compliance within the organization. This involves setting the tone from the top and ensuring that ethical behavior and adherence to regulations are prioritized.

Statement IV is incorrect. While senior management should periodically review the effectiveness of internal controls, the day-to-day monitoring and testing of these controls is typically delegated to the compliance function, internal audit, or other designated control functions. Senior management’s role is to oversee these functions and ensure they are performing their duties effectively.

Therefore, the correct combination is I & III only.

The scenario describes a situation where a person unknowingly becomes a substantial shareholder. According to the Securities and Futures Ordinance (SFO), a defense is available if the person was unaware and could not have reasonably discovered their substantial shareholding. Upon becoming aware, they must apply for approval as soon as reasonably practicable, but no later than three business days. Until SFC approval is granted, the shareholder cannot exercise voting rights (s. 131, SFO). The SFC has the power to direct the licensed corporation to forbid the non-approved substantial shareholder’s participation in management or voting (s. 133, SFO). If the application is rejected, the SFC can order the person to reduce their interest. Therefore, statements I and II are correct. Statement III is incorrect because the time limit is three business days, not five. Statement IV is incorrect because the SFC can direct the corporation to forbid participation in management or voting, not just voting.

The public register maintained by regulatory bodies like the SFC serves as a critical tool for transparency and investor protection in the Hong Kong securities market. By making disciplinary actions publicly available, the register ensures that investors have access to information about intermediaries who have violated regulations or engaged in misconduct. This empowers investors to make informed decisions about who they entrust with their investments, promoting confidence in the market as a whole. The register typically includes details of the intermediary involved, the nature of the disciplinary action taken, and the reasons for the action. This level of transparency helps to deter future misconduct by intermediaries, as the potential for public exposure can act as a strong disincentive. Furthermore, the register supports the SFC’s broader regulatory objectives by providing a mechanism for holding intermediaries accountable for their actions and promoting a culture of compliance within the industry. It also aligns with international best practices in securities regulation, which increasingly emphasize the importance of transparency and investor protection. The register is an essential component of the regulatory framework in Hong Kong, contributing to the integrity and stability of the securities market.

The CRA Code mandates transparency and aims to mitigate conflicts of interest arising from compensation arrangements between CRAs and rated entities. Statement I is correct because the general nature of a CRA’s compensation arrangements with rated entities must be publicly disclosed to ensure transparency and allow market participants to assess potential biases. Statement II is also correct; contingent fee arrangements are explicitly prohibited due to the inherent conflict of interest they create, where the CRA’s compensation is tied to the outcome of the rating, potentially influencing the rating itself. Statement III is correct as it reflects the disclosure requirement when a CRA receives a significant portion (5% or more) of its revenue from a single entity, ensuring transparency about potential dependencies. Statement IV is also correct because the CRA Code requires CRAs to adopt procedures and mechanisms to avoid conflicts of interest, and these measures should be stated in the House Code of the CRA. Therefore, all statements are correct and align with the CRA Code’s provisions to maintain the integrity and independence of credit rating services, as emphasized by both IOSCO and the HKSI guidelines.

The correct answer is I & II only.

Statement I is correct because the SFO establishes both civil and criminal routes for addressing market misconduct. The Market Misconduct Tribunal (MMT) handles civil cases under Part XIII, while criminal courts handle criminal cases under Part XIV. This dual approach allows the SFC to choose the most appropriate avenue based on the severity and nature of the misconduct, as well as the available evidence.

Statement II is also correct. The SFO provides a private right of civil action for investors who have suffered losses due to market misconduct. This allows investors to seek compensation directly from those responsible for the misconduct, providing an additional avenue for redress.

Statement III is incorrect because the SFC is empowered to make rules excluding any act defined as market misconduct from the definition. These are commonly referred to as “safe harbour rules”.

Statement IV is incorrect because the MMT operates under a civil standard of proof, which is a lower threshold than the criminal standard of proof. This means that the MMT only needs to be satisfied that it is more likely than not that market misconduct has occurred, whereas a criminal court requires proof beyond a reasonable doubt.

The Hong Kong Securities and Futures Commission (SFC) emphasizes the critical role of senior management in establishing and maintaining a robust internal control environment. According to the Internal Control Guidelines (ICG), senior management’s responsibilities extend beyond simply setting policies; they must actively ensure these policies are effective and adhered to throughout the organization. This involves establishing clear communication channels to disseminate control information across all levels of management, covering aspects such as operational performance, financial standing, risk exposures, and compliance status. Regular reporting on qualitative and quantitative risks, detected weaknesses in controls, instances of non-compliance, and deviations from business objectives is essential for informed decision-making and timely corrective actions. Furthermore, the ICG highlights the importance of clearly defined reporting lines and the assignment of supervisory responsibilities to qualified individuals. This ensures accountability and effective oversight at all levels. The establishment of detailed authorization procedures for key positions is also crucial for preventing unauthorized actions and maintaining operational integrity. By fulfilling these responsibilities, senior management demonstrates a commitment to sound governance and risk management, which is vital for maintaining investor confidence and the stability of the financial market. The SFC’s focus on senior management’s role underscores the principle that effective internal controls start at the top and permeate throughout the organization.

The House Code, as mandated by the CRA Code, is a critical component of a Credit Rating Agency’s (CRA) operational framework. It serves as an internal set of rules and procedures designed to ensure compliance with regulatory standards and ethical conduct. The House Code must not merely reiterate the CRA Code but should demonstrate a full implementation tailored to the specific circumstances of the CRA’s business. This includes detailed policies and procedures that reflect the requirements outlined in Parts 1 to 3 of the CRA Code. The effectiveness of the House Code hinges on its enforcement; a code that lacks practical enforcement mechanisms is deemed insufficient and may raise concerns about the CRA’s fitness and properness with the SFC. A designated compliance officer plays a pivotal role in ensuring adherence to the House Code and applicable laws, with reporting lines and compensation structured to maintain independence from rating operations. The House Code should also mandate immediate reporting of any illegal, unethical, or non-compliant conduct to the compliance officer or responsible officer, prohibiting retaliation against those who report in good faith. Transparency is paramount, requiring the House Code to be publicly accessible on the CRA’s website, along with methodologies and historical ratings performance data. Material modifications to methodologies and practices must also be disclosed, ideally before implementation, to ensure stakeholders are informed of potential impacts on credit ratings. This comprehensive approach fosters a culture of compliance and accountability within the CRA.

The public register maintained by the SFC serves as a critical tool for transparency and accountability within the Hong Kong securities market. According to Schedule 4, Information Rules, disciplinary actions, excluding minor reprimands, are disclosed to the public, fostering market integrity. Statement I is correct because the register includes details of disciplinary actions taken against intermediaries, providing transparency to investors. Statement II is also correct as the register contains relevant details of the intermediaries involved, enabling the public to identify the entities that have been subject to disciplinary measures. Statement III is incorrect because the register is not limited to only criminal convictions; it includes a broader range of disciplinary actions taken by the SFC. Statement IV is incorrect because the register is maintained by the SFC, not individual brokerage firms. The SFC’s maintenance of the register ensures consistency and reliability of the information disclosed, contributing to investor confidence and market stability. The register’s accessibility allows investors to make informed decisions by assessing the compliance history of intermediaries. Therefore, the correct combination is I & II only.

In the context of registered institutions in Hong Kong, the ‘executive officer’ role is functionally equivalent to the ‘responsible officer’ role as defined for licensed corporations under the Securities and Futures Ordinance (SFO). This equivalence is crucial for ensuring accountability and oversight within these institutions. Executive officers bear the responsibility for supervising the conduct of regulated activities and ensuring compliance with applicable laws, rules, and regulations, including the Code of Conduct issued by the Securities and Futures Commission (SFC).

Statement I is correct because it accurately reflects the core function of an executive officer in a registered institution. Statement II is also correct, highlighting the responsibility for compliance with regulatory requirements. Statement III is correct as executive officers are indeed tasked with supervising regulated activities. Statement IV is also correct, as executive officers are responsible for ensuring adherence to the SFC’s Code of Conduct. Therefore, all statements accurately describe the responsibilities of an executive officer, making ‘All of the above’ the correct combination.

Statement I is correct because the AMLO and GAML both mandate that customer records be maintained for six years after the business relationship ends, and transaction records for six years after the transaction. This ensures that records are available for investigation purposes if needed. Statement II is correct as the SFC considers intentional or reckless conduct that damages market integrity, causes loss, or benefits the guilty party as more serious than technical breaches or negligent conduct when imposing fines. This reflects the SFC’s focus on deterring serious misconduct. Statement III is correct because the PDPO establishes six data protection principles concerning the collection and handling of personal data. These principles are fundamental to protecting individual privacy in Hong Kong. Statement IV is incorrect. While the Prevention of Bribery Ordinance (POBO) addresses bribery, Section 9 specifically concerns agents soliciting or accepting advantages without lawful authority or reasonable excuse in relation to their principal’s affairs. It does not directly address the adequacy of an information management system.

The CRA Code mandates that a CRA’s code of conduct, often referred to as a ‘House Code,’ must be publicly disclosed on the firm’s website. This requirement is explicitly stated in Part 4 of the CRA Code. The House Code should contain written policies and procedures ensuring compliance with the CRA Code’s detailed conduct provisions. Therefore, statement I is correct.

The CRA Code emphasizes the importance of maintaining the confidentiality of information obtained from rated entities. Part 3 of the CRA Code requires CRAs to have procedures in place to prevent the misuse of confidential information, including policies governing staff trading activities. Thus, statement II is correct.

While the CRA Code addresses conflicts of interest, it does not explicitly state that CRAs must eliminate all potential conflicts of interest. Instead, it requires CRAs to have procedures and mechanisms to ensure that the rating process is not affected by actual or potential business relationships and to disclose any conflicts of interest clearly and promptly. Therefore, statement III is incorrect.

The CRA Code requires adequate public disclosure of methodologies, ratings issued, and rating updates. This is to ensure that outside parties can understand the ratings, their meaning, and how they are arrived at, as outlined in Part 3 of the CRA Code. Therefore, statement IV is correct.

In summary, statements I, II, and IV are correct, while statement III is incorrect.

The CRA Code emphasizes transparency and fairness in the rating process, particularly concerning interactions with rated entities. Communicating a rating to the rated entity before its public release allows for clarification of factual information and ensures the rating is as accurate as possible. This aligns with the objectives of investor protection and maintaining the integrity of the rating process, as highlighted in the IOSCO Code and the Statement of Principles Regarding the Activities of Credit Rating Agencies.

Statement I is correct because the CRA Code explicitly encourages this communication to foster accuracy. Statement II is also correct, as the CRA should provide the rated entity with the key information underpinning the rating. Statement III is correct because the CRA Code mandates that the rated entity has the opportunity to correct any factual misperceptions. Statement IV is correct as the CRA must duly evaluate the rated entity’s response. Therefore, all the statements are correct.

The question addresses the concept of false trading, specifically focusing on wash trades and matched orders as defined under sections 274 and 295 of the Securities and Futures Ordinance (SFO) in Hong Kong. Statement I is correct because a wash trade, by definition, involves the sale and purchase of securities without a change in beneficial ownership. This action can create a false impression of market activity. Statement II is also correct because a matched order involves an offer to buy or sell securities that is mirrored by a corresponding offer at substantially the same price and quantity, often by an associate, which can artificially influence the price or trading volume. Statement III is incorrect because while wash trades and matched orders are presumed to be false trading, this presumption does not apply to off-market transactions. According to s. 274 of the SFO, an off-market transaction is one conducted through a recognized stock market, ATS, or overseas market but not required to be recorded or notified to the stock market or trading system. Statement IV is incorrect because the presumption of false trading from wash trades or matched orders can be overcome if the person demonstrates that the trades were not intended to create a false or misleading appearance of active trading or to manipulate the market price. Therefore, the correct combination is I & II only.

The Management, Supervision and Internal Control Guidelines (ICG) issued by the SFC emphasize the responsibilities of senior management in maintaining high standards of conduct and robust internal controls. According to the guidelines, senior management is responsible for ensuring adherence to the standards described in the Code of Conduct and establishing proper procedures to ensure consistent adherence. This includes implementing effective monitoring systems for staff dealings to prevent misconduct and ensure compliance with regulatory requirements. They should also ensure that the firm maintains proper records and the reliability of financial and other information used within and published by the business. The ICG identifies key areas of internal controls, including management and supervision, compliance, and risk management, all of which fall under the purview of senior management’s responsibilities. Therefore, statements I, II, and III are correct. Statement IV is incorrect because while senior management is responsible for ensuring compliance with applicable laws and regulatory requirements, the ICG does not explicitly state that they must personally conduct all compliance training sessions; this task can be delegated to qualified compliance officers or training personnel.

The CRA Code mandates transparency and aims to mitigate conflicts of interest arising from compensation arrangements.

Statement I is correct because the general nature of a CRA’s compensation arrangements with rated entities must be publicly disclosed to ensure transparency and allow market participants to assess potential biases.

Statement II is correct because contingent fee arrangements, where the fee is linked to the outcome of a rating, are strictly prohibited due to the inherent conflict of interest. This prohibition aligns with the CRA Code’s objective to maintain objectivity and impartiality in credit ratings.

Statement III is incorrect because the CRA Code requires specific disclosures when a CRA receives compensation unrelated to rating services from a rated entity, especially if it constitutes a significant proportion of the CRA’s revenue. The threshold for disclosure is not 10% but rather when the compensation represents a notable proportion of the total fees received for rating services.

Statement IV is incorrect because the threshold for disclosing revenue from a single issuer is 5% or more of the CRA’s total annual revenue. This disclosure requirement is designed to identify situations where a CRA’s financial dependence on a single entity could compromise its objectivity. Therefore, the correct combination is I & II only.

The CRA Code emphasizes the importance of integrity and objectivity in the rating process. Employing individuals with demonstrably compromised integrity directly undermines the credibility and reliability of the CRA’s ratings. This is because such individuals may be susceptible to undue influence, conflicts of interest, or unethical behavior, which could compromise the impartiality of their assessments. Therefore, statement I is correct.

CRAs must manage communications with third parties to maintain consistency with their objective role. Providing assurances or guarantees about a rating before the assessment is complete would violate this principle, as it suggests a lack of independence and objectivity. However, developing prospective assessments for structured finance products is permissible, as long as it doesn’t involve pre-determined guarantees. Therefore, statement II is correct.

Structured finance products require additional scrutiny due to their complexity. Representatives involved in rating these products should not make proposals or recommendations about the product’s design to avoid conflicts of interest and maintain objectivity. Therefore, statement III is correct.

The CRA Code mandates that CRAs encourage issuers/originators of structured finance products to publicly disclose all relevant information. This promotes transparency and reduces information asymmetries in the market, allowing investors and other CRAs to conduct their own independent analyses. Therefore, statement IV is correct.

In conclusion, all four statements accurately reflect the principles and requirements outlined in the CRA Code, emphasizing integrity, objectivity, transparency, and the avoidance of conflicts of interest.

Licensed corporations and registered institutions in Hong Kong are subject to the Anti-Money Laundering and Counter-Terrorist Financing Ordinance (AMLO). This ordinance mandates that these entities implement comprehensive measures to prevent money laundering and mitigate associated risks. Schedule 2 of the AMLO outlines specific requirements for Customer Due Diligence (CDD) and record keeping, which are crucial components of an effective AML/CTF program. The Securities and Futures Commission (SFC) provides guidance through the Guideline on Anti-Money Laundering and Counter-Terrorist Financing (GAML) to assist firms in complying with the AMLO. A breach of the AMLO is a criminal offense, potentially leading to significant penalties, including fines up to HK$1 million and imprisonment for up to two years. Furthermore, employees or managers who knowingly cause or permit a breach can also face criminal charges. In addition to criminal sanctions, non-compliance with the AMLO can result in regulatory discipline imposed by the SFC. The DTRPO makes it an offence to deal with property that is known or believed to be the proceeds of drug trafficking. The OSCO gives the police powers to obtain a court order to compel a person to provide information or material relating to the investigation of an organised crime and to conduct searches. The requirements to disclose and to submit to searches override any duties of secrecy and confidentiality.

Segregation of duties is a cornerstone of internal control within financial intermediaries, as emphasized by regulatory bodies like the Hong Kong Securities and Futures Commission (SFC). The principle aims to minimize the risk of fraud, errors, and conflicts of interest by ensuring that no single individual has complete control over a critical process. This separation prevents one person from both committing and concealing errors or irregularities. The SFC’s guidelines on internal controls highlight the importance of segregating incompatible duties to safeguard client assets and maintain market integrity. Specifically, policy-making, supervisory, advisory, compliance, and internal audit functions should ideally be separated from line operational duties. This ensures that oversight functions are performed independently and objectively. Furthermore, compliance and internal audit should be independent of operational functions and report directly to senior management, reinforcing their autonomy and authority. Recruitment and training policies are also crucial. Employing ‘fit and proper’ persons, providing comprehensive training on policies and procedures (including internal controls and personal dealings), and ensuring staff meet Continuous Professional Training (CPT) requirements are all essential components of a robust control environment. These measures collectively contribute to a culture of compliance and ethical conduct, reducing the likelihood of regulatory breaches and reputational damage. The absence of adequate segregation of duties and comprehensive training can expose the intermediary to significant operational and regulatory risks, potentially leading to financial losses, sanctions, and loss of investor confidence.

A CRA’s House Code is a critical component of its regulatory compliance framework, designed to ensure ethical conduct and adherence to the CRA Code established by regulatory bodies like the SFC. The House Code must be readily accessible to the public, reflecting the CRA’s commitment to transparency and accountability. Prompt disclosure of any changes to the House Code is essential for maintaining public trust and ensuring that stakeholders are informed of the CRA’s internal policies and procedures. The House Code serves as a practical implementation of the broader CRA Code, providing specific guidance to the CRA’s representatives and employees on how to conduct themselves in accordance with ethical and regulatory standards. It should mandate immediate reporting of any observed illegal, unethical, or non-compliant conduct to the compliance officer or responsible officer, fostering a culture of vigilance and integrity within the organization. This reporting mechanism is crucial for identifying and addressing potential violations of the House Code and the CRA Code, thereby mitigating risks and maintaining the integrity of the credit rating process. The enforcement of the House Code in practice is as important as its creation, requiring the CRA to establish effective mechanisms for monitoring compliance, investigating potential breaches, and taking appropriate disciplinary action when necessary. The House Code should be viewed as a living document that is regularly reviewed and updated to reflect changes in the regulatory environment and the CRA’s business practices. Making the House Code available on the CRA’s webpage ensures that it is easily accessible to all stakeholders, including investors, issuers, and regulators, promoting transparency and accountability in the credit rating process.

The CRA Code emphasizes transparency and fairness in the rating process, particularly concerning interactions with rated entities. Communicating a rating to the rated entity before its public release, when feasible and appropriate, is a crucial step. This allows the entity to clarify any factual misperceptions and ensures the rating is based on accurate information. Statement I is correct because the CRA Code explicitly encourages this communication to foster more accurate ratings. Statement II is also correct as the CRA Code requires informing the rated entity of the critical information and principal considerations upon which the rating is based, providing them an opportunity to address any inaccuracies. Statement III is incorrect because while the CRA should evaluate the rated entity’s response, the primary objective is to foster accuracy, not necessarily to automatically revise the rating based solely on the entity’s feedback. The CRA must independently assess the validity of the information provided. Statement IV is incorrect because the CRA Code mandates informing the rated entity as soon as practically possible if a rating is issued or revised without prior communication, explaining the reason for the delay. This ensures the rated entity is not left uninformed and has an opportunity to understand the rating’s basis. Therefore, only statements I and II accurately reflect the CRA Code’s requirements regarding communication with rated entities.