September is the six-month anniversary of the introduction of the new Australian laws for financial services. The law is now much wider than before and covers all aspects of financial services and markets. While the new laws impact all over-the-counter markets, the hardest hit products are the global financial transactions, such as foreign exchange derivatives, where the rules were previously supra national.
To date the demands of the financial services reform (FSR) have been straightforward on organizations. The most immediate needs have been staff training and particularly to identify retail clients and when they are giving advice to clients. If they are giving advice they probably need to be trained in accordance with the Australian Securities & Investments Commission (ASIC), Policy PS 146.
New Licenses
The "sleeper" in the FSR law changes is that every entity must get a new license; whether or not they are currently licensed. More importantly, the new licenses are issued by legal entity rather than by conglomerate or group. Many sophisticated financial service providers will have dozens of licenses, and every dealer will have to know which one they are operating through each time they provide a service.
Overseas firms that are currently delivering services into Australia will also need to apply. ASIC, the regulator issuing the licenses, is still in the process of devising policies for recognition of overseas regulators
Re-licensing might have a two-year transition period, but some aspects of the new legislation have already taken effect. As of March 11, an organization cannot start a new line of business without first obtaining a new license. To give you some idea of the increased scale of these "uniform" licenses, the old laws may have had 500 licensees. The best estimate of the new coverage is 12,000 licenses.
To date ASIC has reviewed around 300 applications. At this stage we can be fairly sure that the 2003 calendar year will put great pressure on ASIC's resources to get the industry their new licenses. Organizations without a new license will have to stop business on March, 11 2004.
The 50% of license applications that have been rejected by the ASIC licensing team in the first six months demonstrate a need to seek outside input to their applications. The first issue is the scale of licensing application. The old license application form was four pages long. The new uniform application form is more like 85 in total and is designed to be submitted electronically. Most applications are being rejected in the first five pages of the application form. These pages relate to who the organization is and what financial services they undertake.
To complete the application, you would want to be conversant with the explanation of how the form application works. The ASIC Web site has a Licensing Kit which is about 115 pages and there are also 14 ASIC Policy Statements covering the requirements on everything from compliance manuals to outsourcing of information technology.
ASIC has made it clear that if an organization needs help with its license application it should contact its industry body first. Questions like 'Does my client need a license' or 'I want to come and discuss my client's application' cannot be answered easily by the ASIC call center. For most of the OTC financial markets community that means the Australian Financial Markets Association (AFMA). In response to members, the AFMA has launched a Consulting unit specializing on FSR problems, to assist applicants through the licensing process. The ASIC licensing teams will be fully focused on processing the 12,000 applications. What is the downside of getting the application wrong? The legislators have decided that any false declaration in the application form is a strict liability criminal offence. You would not want to get it wrong.
Insider Trading
Insider trading has always been a hard offence to prove. The most highly publicized Australian case of insider trading in the 1990s has just been re-trialed. On Sept. 11 the original decision was upheld. Although the profit made in this case was AUD2 million (USD1.09 million), it is hard to find the nexus between the actions of the insider and the efficiency of a stockmarket that has turnover of more than AUD2 billion a day. That insider trading of any scale materially impacts the efficiency of a market is an article of faith of the Australian insider trading laws.
The FSR laws have sought to overcome the manifold difficulties of prosecuting insider trading by lowering the burden of proof required by ASIC and expanding the range of transactions, to which the offence applies. The new FSR insider trading laws now apply to transactions that are not traded on a licensed market and are privately negotiated bilateral agreements, including bonds, derivatives and forward foreign exchange.
While the insider trading offence has been a continual topic of comments for a decade of more, the greatest omission of the financial services reform was the lack of attention paid to insider trading in redrafting the laws.
On ASIC's recommendation, the legislators have introduced new civil penalties that effectively lowers the burden of proof on insider trading and some other offences. The new rules do not require any intent or misuse of the information. If an individual has the inside information, the law deems the whole organization has the inside information. The fine for insider trading can be levied simultaneously on dealers and their organizations. The fine is AUD200,000 for each offence for an individual and AUD1.2 million for organizations. Added to that is the profit you made from the deal which has to be returned. The new rules of insider trading and market misconduct mean that organizations will need to change their compliance procedures immediately or risk prosecution. Organizations should build a new "Chinese wall" procedure, and undertake training for staff to understand the new offence provisions.
Although the FSR insider trading laws now apply to billions of dollars of transactions never traded on an exchange; there has been a clear recognition by the Australian government that something must be done to fix the offence. The Corporations and Markets Advisory Committee--and advisory committee to the Minister--released a paper in September proposing changes to the Insider Trading laws. The paper is a breath of fresh air and a breakthrough. The CAMAC paper deserves commendation for looking to fix the problem rather than paper over the cracks of the current ad-hoc and jerry-build law. CAMAC deserves commendation for demonstrating the current level of concern over the insider trading offence and ensuring that stakeholders are consulted effectively.
The industry will be lucky if we get to the first anniversary of the FSR before a civil penalty action has been taken. The insider trading laws were swiftly changed and written into law last year. What we needed now is for the decision makers to accept the CAMAC advice and just as swiftly repeal the changes before March.
This week's Learning Curve was written by John Rappell, director at the Australian Financial Markets Association in Sydney Australia.
