HKSI Paper 8 (Securities) English Free Trial

SEOCH acts as the central clearing house for all options contracts traded on the Stock Exchange of Hong Kong (SEHK). It ensures the performance of futures and options contracts by acting as the counterparty to each trade. By centralizing the clearing process, SEOCH helps to mitigate counterparty risk and ensures the integrity and efficiency of the options market in Hong Kong.

Incorrect Answers:

a) SEOCH does not act as a counterparty to all options contracts traded on the Hong Kong Futures Exchange. The correct exchange is the Stock Exchange of Hong Kong (SEHK).

c) SEOCH’s role is primarily related to clearing and settlement, rather than direct regulation of trading activities. Regulatory functions are typically overseen by bodies such as the Securities and Futures Commission (SFC).

d) While SEOCH plays a crucial role in maintaining market stability, it does not provide liquidity support to brokerage firms. This function is typically handled by market makers or liquidity providers.

SEOCH mitigates counterparty risk through margin requirements. It requires traders to deposit initial and variation margins, which serve as collateral against potential losses. By ensuring that traders have sufficient funds to cover their obligations, margin requirements help reduce the risk of default.

Incorrect Answers:

b) Stock lending facilities are not directly related to mitigating counterparty risk in options trading. They involve borrowing securities for short selling or other purposes.

c) Market surveillance is essential for maintaining market integrity but does not directly address counterparty risk.

d) Dividend adjustments are made to options contracts to account for dividends paid by the underlying security. While relevant to options pricing, they do not specifically mitigate counterparty risk.

One of SEOCH’s key functions is to implement margin requirements, which serve as collateral against potential losses in options trading. By ensuring that traders have adequate funds on deposit, margin requirements help mitigate counterparty risk and maintain the stability of the options market.

Incorrect Answers:

a) SEOCH does not provide insurance against market volatility. While it plays a role in risk management, this does not involve insuring traders against market fluctuations.

b) SEOCH’s primary role is clearing and settlement, rather than conducting audits of brokerage firms. Regulatory oversight of brokerage firms is typically handled by the Securities and Futures Commission (SFC) or other relevant regulatory bodies.

c) Position limits are typically established by regulatory authorities to prevent excessive speculation in the market. While important for risk management, this function is not directly carried out by SEOCH.

SEOCH serves as the central counterparty to all options contracts traded on the SEHK. It interposes itself as the buyer to every seller and the seller to every buyer, thereby ensuring the performance of options contracts and mitigating counterparty risk.

Incorrect Answers:

a) SEOCH does not set strike prices for options contracts. Strike prices are determined by market participants based on their expectations and market conditions.

b) SEOCH does not act as the buyer for all options contracts. It serves as the central counterparty, ensuring the performance of contracts without taking a directional position in the market.

c) While SEOCH facilitates the clearing and settlement of options contracts, it does not directly transfer ownership between buyers and sellers. Ownership transfer occurs through the trading activities of market participants.

SEOCH’s role as a central clearing house helps mitigate counterparty risk in options trading. By interposing itself as the central counterparty to all trades, SEOCH ensures the performance of options contracts, thereby reducing the risk of default for market participants.

Incorrect Answers:

d) Reduced bid-ask spreads on options contracts may be influenced by various factors but are not directly tied to SEOCH’s role in clearing.

b) While SEOCH’s central clearing process enhances market efficiency, it does not guarantee execution of options trades at specified prices. Market conditions and participant activity influence trade execution.

c) The availability of underlying assets for options trading is determined by market demand and listing requirements, rather than SEOCH’s role in clearing and settlement.

SEOCH imposes variation margin requirements on options traders, ensuring they have sufficient funds to cover potential losses. This helps mitigate counterparty risk and contributes to overall risk management in the options market.

Incorrect Answers:

a) Daily price limits are imposed by exchanges to prevent excessive price volatility but do not directly address counterparty risk or contribute to risk management by SEOCH.

b) While real-time monitoring is essential for market surveillance and integrity, it does not directly relate to risk management measures implemented by SEOCH.

d) While SEOCH may have involvement in the approval process for new options contracts, it is not a direct risk management measure related to the clearing and settlement process.

SEOCH streamlines the settlement process by netting out obligations among market participants. It calculates the net positions of each participant, reducing the number of transactions required for settlement and improving efficiency.

Incorrect Answers:

a) SEOCH does not directly transfer funds between buyers and sellers. It facilitates settlement through a centralized clearing process.

b) While SEOCH interacts with brokerage firms, it does not serve as a direct intermediary between brokerage firms and their clients in the settlement process.

d) SEOCH does not determine the expiration dates of options contracts. Expiration dates are predetermined based on the terms of the contract and market conventions.

SEOCH maintains a default fund to cover potential losses arising from counterparty defaults in the options market. This measure helps mitigate counterparty risk and ensures the stability of the market.

Incorrect Answers:

a) Daily price limits are imposed to manage price volatility but do not directly address counterparty risk in options trading.

c) Position limits are imposed to prevent excessive speculation but are not directly related to mitigating counterparty risk.

d) While SEOCH may have involvement in the approval process for new options contracts, it is not a specific measure addressing counterparty risk.

SEOCH enhances market liquidity by centralizing the clearing and settlement process. By acting as the central counterparty, SEOCH increases confidence among market participants, facilitating smoother trading and improving liquidity.

Incorrect Answers:

a) SEOCH does not provide insurance against market volatility. While it contributes to market stability, this does not directly relate to liquidity provision.

b) While liquidity support is important for market functioning, SEOCH’s primary role is in clearing and settlement, rather than providing liquidity to brokerage firms.

d) Daily price limits are imposed to manage price volatility but do not directly influence liquidity provision in the options market.

SEOCH’s role as a central counterparty helps reduce counterparty risk in options trading. By interposing itself as the buyer to every seller and the seller to every buyer, SEOCH ensures the performance of options contracts, enhancing market stability.

Incorrect Answers:

a) While centralized clearing may contribute to efficiency, it does not directly influence transaction costs, which are influenced by various factors such as brokerage fees and market conditions.

c) The availability of underlying assets for options trading is determined by market demand and listing requirements, rather than SEOCH’s role in clearing and settlement.

d) Flexibility in exercising options contracts is determined by the terms of the contract and market conventions, rather than SEOCH’s role in clearing.

In stock borrowing and lending, brokers play a crucial role as intermediaries. They facilitate the lending of securities from one party (the lender) to another (the borrower) for a fee. This fee is typically negotiated between the lender and the borrower, with the broker assisting in the process. Brokers do not guarantee returns on borrowed securities or solely profit from selling borrowed securities. Additionally, while brokers assist in maintaining liquidity in the market, they are not solely responsible for ensuring the liquidity of borrowed securities.

Unit trusts operate by pooling funds from multiple investors, which are then invested in a diversified portfolio of assets such as stocks, bonds, and other securities. These funds are managed by professional fund managers appointed by the unit trust. Investors purchase units of the trust rather than directly owning the underlying assets, allowing for diversification and professional management. Unit trusts do not guarantee fixed returns, as the performance of the trust is subject to market fluctuations. Additionally, while unit trusts may have a board of directors overseeing operations, investment decisions are typically made by professional fund managers.

Pilot Programme Securities (PPS) are securities issued by companies participating in pilot programs initiated by regulatory authorities. These programs aim to explore new trading mechanisms or market structures. PPS may be subject to certain trading restrictions or regulations as part of the pilot program, and they may offer investors opportunities to participate in innovative market initiatives. PPS are not exclusively issued by newly established companies seeking capital, nor are they designed for cross-border trading or derived from underlying commodities.

To mitigate the risks associated with stock borrowing and lending, Mr. A can implement collateral requirements to secure the borrowed securities. Collateral acts as a form of security, reducing the risk of default by the borrower. This ensures that Mr. A’s securities are protected in case the borrower fails to return them. Entrusting the broker with full control without monitoring, ignoring the need for a written agreement, or allowing unlimited access to the borrowed securities can expose Mr. A to various risks, including loss of securities or default by the borrower.

One key difference between unit trusts and mutual funds is in the redemption process. Unit trusts allow investors to redeem their units directly with the fund manager, providing flexibility and ease of access to their investment. In contrast, mutual funds require investors to sell their shares on secondary markets, which may involve brokerage fees and timing constraints. Unit trusts and mutual funds can be actively or passively managed, and both are typically structured as open-ended investment vehicles, allowing for the creation and redemption of units/shares based on investor demand.

In Hong Kong, the Securities and Futures Commission (SFC) is primarily responsible for overseeing Pilot Programme Securities (PPS) and regulating the securities market. The SFC plays a crucial role in ensuring the integrity, transparency, and efficiency of the securities market, including any pilot programs introduced to test new trading mechanisms or market structures. While other regulatory bodies may have related functions, such as the HKMA in regulating banking and monetary policies or the HKEX in operating the stock exchange, the SFC holds the primary responsibility for overseeing securities trading activities, including PPS.

According to the Inland Revenue Ordinance in Hong Kong, REITs are indeed subject to profits tax on their assessable profits. However, they enjoy certain tax concessions. For instance, REITs are eligible for a concessionary tax rate on qualifying rental income and may also enjoy tax exemptions on qualifying distributions to shareholders. Therefore, option (b) is the correct answer.

Option Analysis:

Option (a): This is incorrect. REITs are not exempt from profits tax in Hong Kong; they are subject to it.
Option (c): This is incorrect. The location of properties does not solely determine the tax liability of REITs in Hong Kong.
Option (d): This is incorrect. While REITs may enjoy tax concessions, they are still subject to profits tax on their assessable profits in Hong Kong.

Investing in REITs allows investors like Ms. Wong to gain exposure to a diversified portfolio of real estate assets with a smaller investment amount compared to directly owning properties. REITs typically invest in various types of properties, such as residential, commercial, and industrial, which spreads the risk across different sectors and locations. Therefore, option (c) is the correct answer.

Option Analysis:

Option (a): This is incorrect. Direct property ownership might offer potential higher returns due to direct control over property management, but it lacks diversification.
Option (b): This is incorrect. REITs generally offer higher liquidity compared to direct property ownership as they are traded on stock exchanges.
Option (d): This is incorrect. Direct property ownership provides greater flexibility in property renovation and customization, which is not a feature of REIT investments.

REITs are subject to regulatory requirements regarding the distribution of profits to shareholders. In Hong Kong, REITs are required by law to distribute at least 90% of their distributable income to shareholders annually to maintain their tax-exempt status. Therefore, option (d) is the correct answer.

Option Analysis:

Option (a): This is incorrect. Dividend distribution in REITs is not contingent upon achieving a certain level of capital appreciation.
Option (c): This is incorrect. While some REITs may choose to reinvest dividends to acquire additional properties, they are still required to distribute a significant portion of their income to shareholders.
Option (b): This is incorrect. REITs are mandated by law to distribute a minimum percentage of their income to maintain their tax status.

One of the risks associated with REIT investments is counterparty risk, which arises from the possibility of tenants defaulting on lease payments. This risk can affect the income stream of the REIT and its ability to distribute dividends to shareholders. Therefore, option (a) is the correct answer.

Option Analysis:

Option (b): This is incorrect. While inflation risk is a concern for fixed-income investments, it is not specifically associated with REITs, which may have mechanisms in place to adjust rental income over time.
Option (c): This is incorrect. Market risk related to changes in interest rates can affect REITs, but it is not the most common risk associated with these investments.
Option (d): This is incorrect. While real estate assets can be illiquid, REITs themselves are traded on stock exchanges, providing investors with liquidity compared to direct property ownership.

Commercial property REITs, especially those focusing on office spaces, are significantly influenced by business cycle fluctuations. During economic expansions, there is typically an increased demand for office spaces as businesses grow and expand. Conversely, during economic downturns, office space demand may decrease as businesses downsize or consolidate operations. Therefore, option (b) is the correct answer.

Option Analysis:

Option (a): This is incorrect. Residential property market trends are not directly relevant to commercial property REITs.
Option (c): This is incorrect. Changes in agricultural land prices do not affect the performance of commercial property REITs.
Option (d): This is incorrect. While population growth can influence various real estate sectors, suburban residential property, in particular, it is not the primary factor affecting commercial property REITs.

The rise of online retail has posed a significant threat to traditional brick-and-mortar retail, including shopping mall REITs. With the convenience of online shopping, foot traffic in shopping malls may decline, leading to lower retail sales and potentially impacting the performance of the REIT. Therefore, option (a) is the correct answer.

Option Analysis:

Option (b): This is incorrect. While shopping malls may offer a unique shopping experience, they are not immune to the impact of online retail.
Option (c): This is incorrect. While some argue that online retail can complement brick-and-mortar stores, the overall impact on shopping mall REITs tends to be negative due to reduced foot traffic.
Option (d): This is incorrect. While some REITs may diversify into e-commerce, it is not a common strategy to mitigate the impact of online retail on shopping mall REITs.

Depositary Receipts (DRs) are financial instruments issued by a domestic bank or financial institution that represent a beneficial ownership interest in underlying foreign securities, such as shares of foreign companies. They allow investors to indirectly invest in foreign securities without needing to directly purchase those securities on foreign exchanges. Therefore, option (c) is the correct answer.

Option Analysis:

Option (a): This is incorrect. DRs typically represent ownership of foreign stocks but are traded on local exchanges.
Option (b): This is incorrect. DRs are issued by foreign companies for trading on local stock exchanges, not the other way around.
Option (d): This is incorrect. DRs are not government-issued securities; they are issued by financial institutions to facilitate investment in foreign securities.

American Depositary Receipts (ADRs) are denominated in U.S. dollars and trade on U.S. stock exchanges, while Global Depositary Receipts (GDRs) are denominated in foreign currencies and trade on foreign exchanges. This distinction is crucial for investors considering currency exposure and trading venue preferences. Therefore, option (d) is the correct answer.

Option Analysis:

Option (a): This is incorrect. Both ADRs and GDRs can be traded globally, but they have different primary trading venues.
Option (b): This is incorrect. ADRs and GDRs can represent securities from various regions, not limited to Asia or Europe.
Option (c): This is incorrect. While there may be differences in regulatory requirements, it’s not accurate to state that ADRs are subject to stricter regulations solely due to U.S. securities laws.

One of the key advantages of investing in Depositary Receipts (DRs) is the access they provide to foreign markets and companies without the need for opening international brokerage accounts. DRs enable investors to diversify their portfolios internationally and participate in the performance of foreign securities without dealing with the complexities of international brokerage accounts. Therefore, option (d) is the correct answer.

Option Analysis:

Option (a): This is incorrect. DRs generally offer higher liquidity compared to direct investment in foreign stocks due to their trading on local exchanges.
Option (b): This is incorrect. Currency risk still exists with DRs, although they may be denominated in the investor’s local currency for trading convenience.
Option (c): This is incorrect. DRs often come with limited voting rights and shareholder privileges compared to direct ownership of foreign stocks, as they represent a beneficial interest rather than direct ownership.

The Automatic Order Matching and Execution System (AMS) matches buy and sell orders based on price and time priority. In this scenario, since Ms. Chan’s limit order is at a higher price than the prevailing market price, it will be queued ahead of Mr. Lee’s market order. Mr. Lee’s order will be executed only after Ms. Chan’s order is fully executed or canceled. This adherence to price and time priority ensures fairness and transparency in the market.

Incorrect Answers:

(a) This option is incorrect because Mr. Lee’s order will not be matched immediately as Ms. Chan’s limit order is at a higher price.

(c) Mr. Lee’s order will not be canceled solely because it is a market order; rather, it will be queued behind Ms. Chan’s limit order.

(d) This option is incorrect because Mr. Lee’s order will not be executed at the next available price; it will be queued behind Ms. Chan’s order due to the price priority mechanism of AMS.

In the cash market, orders are typically executed based on price and time priority. By modifying his limit order to match the prevailing market price, Mr. Wong increases the likelihood of his order being executed as it aligns with the current market conditions. This adjustment ensures that his order becomes more competitive and may get matched sooner.

Incorrect Answers:

(b) Placing a market order may lead to immediate execution but at potentially unfavorable prices. Mr. Wong’s initial intention was to buy at a price lower than the prevailing market price, so a market order might not align with his investment strategy.

(c) Increasing the quantity of shares in his limit order does not directly impact the execution of his order. It may increase the total value of his order, but the price at which the order is executed remains the critical factor.

(d) Waiting for market conditions to change might not be the most proactive approach, especially if Mr. Wong is eager to execute his order. Modifying the order to match the prevailing market price is a more proactive step.

To close a long position in futures contracts, an investor typically enters into an offsetting transaction by selling the same quantity of contracts that they hold. This action effectively neutralizes the existing position and allows the investor to exit the market without any further obligations. It’s a common practice in derivatives trading to close positions before or upon expiration to manage risk and avoid physical delivery of the underlying asset.

Incorrect Answers:

(a) Allowing the contracts to expire might lead to unwanted consequences such as physical delivery obligations or potential losses if the market moves unfavorably. It’s generally advisable to actively close positions rather than passively letting them expire.

(c) Converting futures contracts into options contracts is not a standard practice for closing positions. While options provide alternative strategies for risk management, converting one derivative instrument into another does not directly address the need to exit the existing position in futures contracts.

(d) Holding onto the contracts in the hope of a more favorable market condition is speculative and may expose Ms. Li to increased risks, especially as the expiration date approaches. It’s usually prudent to take proactive steps to close positions based on investment objectives and market conditions.

When deciding which class of shares to purchase, Mr. Chan should consider his investment objectives and preferences. Shares with voting rights allow shareholders to participate in corporate decision-making processes, such as electing the board of directors. Therefore, Mr. Chan should prioritize purchasing shares that align with his desire to have a say in company matters, rather than solely focusing on financial metrics like dividend yield, market price, or market capitalization.

Incorrect Answers:

(a) While dividend yield is an important financial metric for investors seeking income from their investments, it may not necessarily correlate with the voting rights associated with different classes of shares. Prioritizing dividend yield alone may overlook other critical factors such as corporate governance.

(c) Prioritizing shares based solely on their market price may not be prudent, as the market price alone does not reflect the underlying value or quality of the shares. Additionally, lower-priced shares may not necessarily offer the same voting rights or investment benefits as higher-priced shares.

(b) Market capitalization reflects the total market value of a company’s outstanding shares and is not directly related to the voting rights associated with different classes of shares. Prioritizing shares based on market capitalization alone may not align with Mr. Chan’s investment objectives related to corporate governance and voting rights.

In volatile market conditions, price slippage occurs when the execution price of a trade differs from the expected price at the time the order was placed. With a large market order, Ms. Wong may not be able to execute the entire order at a single price point due to rapid price changes. As a result, she may receive an average execution price that is less favorable than expected, leading to potential losses.

Incorrect Answers:

(b) While trading limits are in place to maintain market stability, they typically apply to factors such as order size, frequency, or price limits. Unless Ms. Wong’s order violates specific trading limits, it is unlikely to be canceled solely for exceeding trading limits.

(a) The risk of order delay in the queue may occur in highly congested trading environments or during peak trading hours. However, this risk is not specific to volatile market conditions and is more related to order processing efficiency.

(d) Front-running refers to the unethical practice of executing trades on a security for one’s own benefit based on advance knowledge of pending orders from other market participants. While front-running is a concern in financial markets, it is not directly related to the risk faced by Ms. Wong with her large market order in a volatile market environment.