Chairman's Statement

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					Chairman’s Statement

Hong Kong’s securities markets must use technology to offer quality services at competitive prices.
ANDREW L T SHENG, SBS, JP, Chairman

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Technology and Markets
Year of Reforms
1999-2000 will go down in history as a year of major reforms for Hong Kong securities and futures markets. Major initiatives were launched or implemented that will totally transform and integrate our market structure, and prepare us for the changes that technology is bringing to every aspect of securities trading and regulation. This was being carried out against a background of a rapid recovery in all Asian markets and a return to rising levels of turnover and activity. In March 1999, the Financial Secretary announced in his Budget Speech a three-pronged package of structural reforms: x demutualization of the stock and futures exchanges and their merger with related clearing houses, followed by the listing of the new holding company; x enhancement of the financial technology infrastructure of the securities and futures industry; and x modernization of the securities legislation through a new Securities and Futures Bill. By 31 March 2000, all three measures were either completed or in the process of implementation. There was overwhelming support among the community and members of the securities and futures industry for the Exchanges and Clearing Houses (Merger) Bill, which was approved by the Legislative Council. This led to the official merger of the exchanges and clearing houses under the umbrella of the Hong Kong Exchanges and Clearing Limited (HKEx) on 6 March 2000. It is expected that the HKEx will be publicly listed by mid-2000. The Financial Secretary also established the Steering Committee on the Enhancement of Financial Infrastructure (SCEFI) to review the entire financial infrastructure, global developments in technology for the securities industry and map out future development. Two working groups of experts were set up – the User Working Group and the Technology Working Group. Their members were drawn from the two exchanges and their clearing houses, the Hong Kong Monetary Authority, banks, market p a rticipants and industry re p resentatives. Through them, the SCEFI submitted its re p o rt and recommendations to the Financial Secretary in October 1999. This included a blueprint for upgrading the financial infrastructure of the Hong Kong securities and futures market to enhance Hong Kong’s competitive position as a premier international financial centre. The re p o rt recommended the establishment of the Securities and Derivatives Communication Network (SDNet) and the necessary building blocks to provide Hong Kong securities and futures markets with: x a single clearing arrangement; x end-to-end straight-through processing; x a scripless securities market; and x an open, robust, current and scalable infrastructure. Work has already begun to implement the blueprint with a preliminary timeline of two years. The report recommended that, ultimately, all the electronic networks of our financial sector, including securities and futures networks, banking and insurance networks etc., be linked together in a single and unified financial infrastructure called “FinNet”. This would provide Hong Kong with an efficient, robust, open and secure infrastructure, allowing global investors access to the full range of financial products and services through web-friendly technology.

With overwhelming support among the community and members of the securities and futures industry, the Exchanges and Clearing Houses (Merger) Bill was approved by the Legislative Council. This led to the official merger of the exchanges and clearing houses under the umbrella of the Hong Kong Exchanges and Clearing Limited on 6 March 2000.

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Then, on 2 April 2000, the Government launched the White Bill of the Securities and Futures Bill for a three-month public consultation. After nearly 12 months of hard work by a dedicated team of specialists from the Commission, the Financial Services Bureau (FSB) and the Department of Justice, the draft Bill to consolidate 10 existing securities ordinances was completed. Through this we seek to provide Hong Kong with a user-friendly, comprehensive regulatory framework that will enhance market confidence and investor protection, reduce market malpractice and facilitate technology innovation and market development. The Bill is planned to be submitted to the Legislative Council by October 2000 on completion of the consultation exercise and to be enacted by April 2001.

Year of Recovery
1999-2000 was also a year of recovery throughout Asia. On 1 April 1999, the Hang Seng Index (HSI) stood at 11,073. It reached around 14,000 on 12 November when the Tracker Fund of Hong Kong (TraHK) was successfully launched. On 28 March, the HSI reached a historic Market Capitalization of Major Stock Markets (US$ billion) high of 18,302. As of 31 March 2000, the HSI was 17,407, 59% higher than on 31 March 1999. Daily turnover surged from an average of $5.1 billion in End-Mar 2000 % change March 1999 to a peak daily average of $22 billion in February 2000. Total over a year ago turnover rose 92% over the year. Delays in the migration from open outcry to a Hong Kong 651 82% fully electronic Automated Trading System (HKATS) reduced turnover in the China 442 81% HSI futures from an average of 25,020 contracts daily in March 1999 to 16,231 Singapore 173 65% contracts in March 2000. S. Korea 383 169%
Taiwan Japan Australia US UK Germany France Italy Netherlands Switzerland 467 4,765 405 17,497 2,833 1,466 1,531 789 681 681 66% 71% 13% 29% 22% 35% 57% 41% 20% 6%

Sources: IFC, FIBV, CEIC and web sites of exchanges

The market for initial public offerings (IPOs) also sprang to life. 38 companies were listed on the main board during the year, compared with 27 in 1998-99, and $21 billion was raised, compared with $6 billion in the previous year. The successful launch of the Growth Enterprise Market (GEM) provided fresh impetus to the recovery. Since its inception in November 1999, a total of 18 GEM companies have been listed, raising $9 billion. As of 31 March 2000, the market capitalization of the Hong Kong market reached $5,070 billion, of which the GEM accounted for $87 billion, 83% higher than one year ago. Hong Kong regained its position as the 10th largest global stock market in terms of market capitalization, compared with the 11th position in March 1999.

New Millennium – New Economy
1999-2000 was the year when technology and the New Economy began to take hold in Hong Kong, permeating our daily lives as well as global markets. The Millennium’s close was tense with anticipation of the Y2K rollover. In the event, the extensive review of all operating software and hardware, as well as contingency procedures in the securities and futures industry, saw the critical dates in the Y2K transition pass without event or mishap. However, valuable lessons were learned about the need to understand and fully control operational and systemic risks. Valuable close co-operation was maintained throughout the Y2K exercise between the exchanges, the clearing houses, the securities industry, the banking sector and the regulatory authorities. The Y2K publicity and growing use of the Internet in electronic commerce, trading and payments attracted increasing investor interest in technology, media and telecommunications (TMT) stocks. These represented about 42% of Hong Kong market capitalization by March 2000, the second highest proportion in all Asian markets after Taiwan.

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C h a i rm a n ’s Statement

Investor interest in technology and growth stocks was also stimulated by the launch of the GEM in November 1999. 11 or 61% of new IPOs on the GEM involved companies with technology content. Alongside the major investor interest in TMT stocks, the trend towards electronic trading in stocks is spreading throughout the major markets. Online trading already accounts for one quarter of all trading on NASDAQ.

Top 10 TMT stocks as % of Total Market Capitalization Top 10 TMT stocks as % of total market cap Hong Kong US Japan S. Korea Taiwan 40% 15% 23% 29% 58%

In Asia, the potential for growth from faster and more efficient online trading was demonstrated in South Korea. Online trading which accounted for only 1% of total turnover in the South Korean securities market two years ago, rose to half of total turnover, which, in turn, increased 7.7 times from 1 January 1998. Operational and other risks arise from networking exchanges to investors on a regional or global basis. The need to be aware of such risks was demonstrated when a 20-minute power interruption on 8 February disrupted trading at the Stock Exchange of Hong Kong (SEHK). In Hong Kong, the infrastructure is being prepared for online trading, which will be introduced with the implementation of AMS/3, the Automatic Order Matching and Execution System of the SEHK. Similarly, the HKATS of the Hong Kong Futures Exchange will go live by mid-year, after extensive industry-wide tests.

Challenges for 2000-2001
Hong Kong, thanks to the thre e - p ronged re f o rm program me, has reached new heights of competitiveness in the race to develop global securities markets. But we cannot be complacent. First, the merger and demutualization of the exchanges and the clearing houses will allow greater integration of the markets and the clearing processes, enabling Hong Kong to benefit from the upgrading of technology and better risk management. Then, the technology roadmap for such integration was set out in the SCEFI report. The consultations for the Securities and Futures Bill will also help refine a modern, coherent, and flexible regulatory framework that would be user-friendly for technological and financial innovation. But other markets are also rapidly improving in the same areas. Technology and the demolition of geographical and time boundaries by the Internet have fundamentally changed the securities markets. Entrepreneurs able to integrate technology with new products and services can now access capital almost directly from investors through IPOs, reducing the role of traditional intermediaries. Technological integration of trading, clearing, settlement and payments systems has allowed electronic communication networks (ECNs) to challenge the role of traditional exchanges and brokers, by improving order flow efficiency and reducing costs. Technology has also given retail investors a global reach and access to products, markets and information previously available only to professionals. Together, these factors have changed securities markets profoundly in character, depth and liquidity. Nevertheless, the fact that globally, investors have pursued technology stocks to record highs, with sharp corrections in the last two months indicate that the New Economy has brought new opportunities as well as new risks.

The merger and demutualization of the exchanges and the clearing houses will allow greater integration of the markets and the clearing processes, enabling Hong Kong to benefit from the upgrading of technology and better risk management.

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The new Securities and Futures Bill will allow the Commission the flexibility to deal with new products and activities. For example, the new licensing regime will allow operators of alternative trading systems or electronic communications networks to be regulated on a level playing field with traditional exchanges.

How should the regulatory authorities position ourselves in the technology era? As the boundaries of global financial markets disappear and global investors view different markets as one, strategic alliances will be crucial if we are to maintain our status as an international financial centre. To promote such alliances, our regulatory framework must be on par with international standards and our financial technology infrastructure must be ready for connection with the rest of the world. Hong Kong’s securities markets must use technology to offer quality services at competitive prices. The Securities and Futures Bill will allow the Commission the flexibility to deal with new products and activities. For example, the new licensing regime will be more flexible in allowing operators of ATSs (alternative trading systems) or ECNs to be regulated on a level playing field with traditional exchanges. Information is fundamental to open and efficient markets, and the Bill seeks to promote timely and accurate disclosure of price sensitive information by bringing the existing regime up to major market standards. To prevent concentration of risks, reporting requirements on large positions in futures and options held by professional investors in futures markets will also be introduced as in other markets. Since technology makes the assessment of risks more complicated, there is increasing awareness that the existing merit-based system of regulation and listing of public companies should be replaced by a disclosure-based system. As new enterprises are floated on the GEM, investors need timely and accurate information. Companies must disclose business development plans and concepts, asset values, liabilities and projections. Under a new bill before the legislature, criminal sanctions will be enforced against those who provide false or misleading information to the SFC and the recognized exchanges and clearing houses. Given the growing regulatory arbitrage between markets in the competition for listing, there is also an urgent need to ensure that regulatory standards converge. Investors and companies seeking IPOs must understand fully the implications of regulatory differences. To assist in obtaining the necessary balance between the needs of growing enterprises seeking a listing and investor protection, the Commission has appointed an independent committee, with expertise in US, especially NASDAQ markets, and the Neuer Markt in Germany to examine our listing rules and the regulatory and disclosure framework.

High-speed Growth Ahead
As we enter the New Millennium, we look forward to an exciting period of growth for Hong Kong’s stock market, with the listing of the Mass Transit Railway Corporation and further privatization of Mainland state-owned enterprises. Such impetus is likely to be accompanied by innovations in the derivative markets, as the HKFE begins to examine how to broaden its present derivative contract base from the HSI33 futures contract. F u rther growth in Hong Kong’s debt and fund management markets will be provided by the implementation of the Mandatory Provident Fund Schemes. Considerable potential exists in exporting such expertise to the Mainland. The Commission has already established a task force on the debt market to review the existing regulatory framework with a view to deepening the commercial debt market. The Commission is keenly aware that the management of risk requires better investor education. As more and more young and new investors are drawn to Hong Kong’s markets, especially through the attractions and convenience of online trading, the investment community must assist investors to understand risk. The

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C h a i rm a n ’s Statement

Commission has been working in the last 12 months to establish, by mid-2000, an Electronic Investor Resources Centre (eIRC). This will be a one-stop, multi-lingual reference centre providing investor education materials through the web. The eIRC will be hyperlinked to all the major web sites of the exchanges, clearing houses and other regulators and information providers. It seeks to provide investors with the right information and links to enable them to construct and assess their investment portfolios. Last year, we promised to increase our dialogue with the market participants, including our registrants. We have stepped up our contacts with the Hong Kong Stockbrokers Association, the Hong Kong Securities Institute (HKSI) and key market players through more frequent meetings and briefings. Divisional staff have been kept busy meeting the industry and media to draw on market wisdom and perceptions before we change any rules or policies. This process has enabled us to better explain the Commission’s position to the industry and to gain a better understanding of our intermediaries’ and market views. The Commission remains a strong supporter of the work of the HKSI in raising education standards and work practices in the industry. Such dialogue benefits the securities industry, the regulators and investors at large. The SFC must also prepare and upgrade for the New Economy. Investment in people always yields the highest return. We have to keep on learning in order to keep up with the ever-changing world of technology and to provide quality regulatory services. We have strengthened in-house training for staff, with a 10session professional programme in which leading market experts brief our staff on market issues. More staff are being seconded to overseas counterparts and the China Securities Regulatory Commission in order to broaden our staff’s horizon and secure a better understanding of other regulatory systems.

The Commission has been working in the last 12 months to establish, by mid2000, an Electronic Investor Resources Centre: a one-stop, multi-lingual reference centre providing investor education material through the Web.

Tapping Technology
Internally, we are applying technology to improve efficiency. This will mean a more orderly workflow and allow the provision of online information management and information sharing within the Commission. In addition, registrants and listed companies will soon be able to file their applications or returns electronically. The reforms in this historic year would not have been possible without the loyalty, dedication and hard work of the staff and members of the SFC. I am grateful to the Financial Secretary and the Secretary for Financial Services for their advice, guidance and support throughout the year. Specifically, I would also like to express my gratitude to colleagues of the FSB and Department of Justice and participants in various committees and working groups of the SFC, who have worked so hard and behind the scenes to make the market reforms possible. All these efforts help contribute to make Hong Kong’s securities markets more competitive, vibrant and innovative.

Andrew L T Sheng Chairman

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