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With significant growth in trading volume, ever more complex trading patterns and risk exposures of the derivatives business handled by banks, relevant supervisory standards should be adjusted for sound trading order to protect the interests of customers. Hence the Financial Supervisory Commission (FSC) on 2 October 2009 issued a draft amendment to Directions for Banks Conducting Financial Derivatives Businesses (the "Directions").
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Main points of the draft amendment are as follows:
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Clear definition of the scope of the Directions
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Article 2 of the Directions expressly excludes securities and offshore structured products. The former, including domestic and foreign securities with a derivative component, such as asset securitization products, structured notes, convertible (exchangeable) corporate bonds are excluded as these belong to the legal scope of securities. Since the FSC already issued the Regulations Governing Offshore Structured Products (the "Regulations") on 23 July 2009, to avoid duplication, it is explicitly stated that the Directions do not apply to the Offshore Structured Products referred to in said Regulations.
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Introduction of Customer Classification Management System
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As banks conducting derivatives business are dealing with vastly different customers in terms of asset size, professional ability, risk tolerance and choice of products, the Directions, making reference to the definition of professional investor under Article 3 of the Regulations, divide customers into professional customers and ordinary customers: transaction process between ordinary customers and banks are regulated more specifically, while transactions between professional customer and banks are regulated under existing market practice and risk management system, so as to reduce administrative regulations-induced transaction costs and enhance the competitiveness of financial institutions.
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New Addition to Structured Products-related Rules
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With ordinary customers accounting for a larger proportion of the relatively large transaction volume and outstanding balance of structured products, it is important to protect the interests of customers of structured products, compared with other derivatives products. Hence the Directions, making reference to the Regulations, add rules regarding banks conducting structured products business so as to offer equivalent protection to investors who purchase similar products.
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The term "structured products" covers a wide variety of products. To avoid confusion, it is specifically defined that the structured products referred to in the Directions mean hybrid derivatives traded by banks acting as the transaction counterparties.
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In addition, to prevent ordinary customers in the natural person category from engaging in over-complicated derivatives transactions, it is stipulated that the derivatives and structured products offered by banks to ordinary customers in the natural person category should be limited to those prescribed by the Bankers Association of Taiwan and filed with the FSC for record.
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New Addition to Taiwan Equity Derivatives Products-related Rules
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Under existing regulations, relevant provisions under the GreTai Securities Market Rules Governing Over-the-Counter Trading of Financial Derivatives by Securities Firms shall apply mutatis mutandis to banks handling Taiwan equity structured products and Taiwan equity derivatives products. However, in view of the different business nature of banks versus securities firms, in practice questions may arise when rules applicable to banks are being applied mutatis mutandis to securities firms, hence the new addition to Taiwan equity derivatives products-related rules to make relevant stipulations more specific.
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Others
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Other key points of the amendment include: specify qualifications required for bank personnel handling derivatives business, specify permissible methods for settling payable amount in case of early termination of derivatives transactions between banks and trading counterparties, and stipulate full disclosure of relevant conditions to trading counterparties.
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The amendment to the Directions clarified the scope of derivatives products and introduced a customer classification system, further strengthening regulations on customer suitability, promotional materials, obligation of explanation, risk disclosure and other obligations in order to perfectly safeguard the interests of customers. For banks handling structured products and Taiwan equity derivatives products, additions and amendments were also made to the Directions in order to strengthen supervision of banks conducting derivatives-related business.
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