FINANCIAL ADVISERS (AMENDMENT) BILL

FINANCIAL ADVISERS (AMENDMENT) BILL: Order for Second Reading read.

The Minister for Trade and Industry (Mr Lim Hng Kiang): Mr Speaker, Sir, on behalf of the Senior Minister, I beg to move, "That the Bill be now read a Second time."

The House has just debated on the Securities and Futures (Amendment) Bill 2008. The amendments in the Financial Advisers (Amendment) Bill 2008 are similar in part to the Securities and Futures (Amendment) Bill 2008. It has the same objectives of enabling MAS to respond more quickly to new market developments, and enhancing the supervisory and enforcement powers of MAS.

Key amendments that have been made in the Securities and Futures (Amendment) Bill 2008, which will be replicated in the Financial Advisers (Amendment) Bill 2008, relate to the amendments on capital markets licensing and business conduct. Specifically, these are in relation to:

(i) continuing licensing regime for financial advisers' licence holders;

(ii) introduction of the Representative Notification Framework;

(iii) the control of take-over of licensed financial advisers; and

(iv) MAS' powers to make prohibition orders.

The rationale for the amendments to the Financial Advisers (Amendment) Bill 2008 has been elaborated on in the

Column: 1114

House's deliberations on the Securities and Futures (Amendment) Bill 2008. MAS will monitor the evolving financial landscape, and continue to review the regulatory framework for the sale and marketing of products within the ambit of the Financial Advisers Act.

Sir, I beg to move.

Question proposed.

4.16 pm

Mr Inderjit Singh: Mr Speaker, Sir, I have made extensive comments on the Securities and Futures (Amendment) Bill which this Bill proceeds to follow, as the Minister has mentioned. I, therefore, support the amendments in this Bill that affect the amendments in the Securities and Futures (Amendment) Bill which we have just covered a while ago. I will, therefore, limit my comments to the points that were not covered under the SFA. I have one main concern and that regards the investigative powers of MAS.

Sir, I am especially concerned about the new section 70A(6) which makes it an offence by a person if such a report by MAS was disclosed to him, unless he can prove that it was contrary to his desire, which means that he did not desire to receive it even if someone had sent him without his choice, and that he took suitable steps to surrender the report and destroy the copies of the report that he got. The offence is proposed to be punishable by a fine of $50,000 or imprisonment of up to two years, or both. Notwithstanding that this may be the most convenient disincentive to put in place, it must have some semblance to what is practical and what is reasonable.

Sir, we cannot criminalise people merely because of the action of other people. In this case, if a report was sent to this person without his choice, without

Column: 1115

him knowing about it, he is liable. Even if we are building a safeguard, these people then have the ability to exonerate themselves by pointing to their own conduct after the disclosure is made to them. The starting position itself, in my opinion, is bad, that they are exposed to a liability not through their own action. I would therefore urge that this provision be reviewed in the change.

Second, where MAS has investigated the person and released a report to that person as is provided for in the new sections 70A and 71A, which is amended by clauses 33 and 34 respectively. In this change, there is an obligation of confidentiality such that without approval, this report cannot be disclosed by the investigated person to his legal counsel. I believe that this is too restrictive. Once a report is released by MAS, it is likely that MAS has had sufficient time to form a view on the conduct it is investigating. So it is not fair to have these additional restrictions to the person. And we should also align this with the criminal law generally where, I am told, that as soon as the investigative authorities form a view, there is no further need for restrictions on the person under investigation from seeking advice. Advice from competent professionals could also be key to an early and voluntary remedial action taken by the investigated person.

Sir, on balance, I support the Bill as a necessary addition to our financial architecture to try to change the landscape here, and I hope that my comments will be taken into consideration as we put the changes in place.

Mr Siew Kum Hong: Mr Speaker, Sir, thank you again for allowing me to speak.

As with the Securities and Futures Act, these amendments to the Financial Advisers Act (FAA) do not incorporate

Column: 1116

any of the lessons from the structured deposit saga. Nevertheless, I will say a few words about what amendments I think this Bill should have included in light of that, but did not.

I have two broad points to make, corresponding to the two components that are necessary for a successful functioning regulatory regime, namely, the regulations that are in place and the enforcement of those regulations.

The FAA, as it currently stands, represents a rule-based approach to regulation. This is to be contrasted to a principle-based approach. The Financial Services Authority (FSA) in the UK is widely recognised as the foremost practitioner in the world of the principle-based approach. So what exactly is it?

According to the FSA website and I quote:

"Principles-based regulation means, where possible, moving away from dictating through detailed, prescriptive rules and supervisory actions how firms should operate their business. Principles-based regulation means placing greater reliance on principles and outcome-focused, high level rules as a means to drive at the regulatory aims we want to achieve, and less reliance on prescriptive rules."

At the sitting of this House on 20th October 2008, my colleague, Mr Gautam Banerjee, asked about whether we should move towards a principle-based approach. The response of the Minister then expounded on the roles and responsibilities of the different stakeholders in the sale process, including investors, but did not touch on the merits of Mr Banerjee's suggestion. I will now attempt to explain some of those merits.

The two approaches are not either or, or mutually exclusive. Instead, jurisdictions which practise the principle-based

Column: 1117

approach, such as the UK, Taiwan and Malaysia, do so in combination with the rule-based approach, seeking to strike an optimal mix of both.

However, the FAA, as it currently stands, seems to be primarily, if not almost exclusively, rule-based in a single-minded focus on the various steps that are required in the sale process. We set the objective of ensuring that an investor has been properly advised by a financial adviser, but we do not make that the sole requirement. Instead, we have prescriptive rules on the steps that a financial adviser must take.

Well, has this rule-based approach been sufficient or effective to protect investors against mis-selling? I think the ongoing saga of the Lehman-linked structured products has shown up the flaws in this sort of mechanical, tick-the-box, rule-based approach. The financial institutions (FIs) involved may have followed the letter of the rules, but it is clear that they have disregarded the spirit in many, if not most, of the cases.

While it is therefore encouraging that MAS had asked FIs not to be overly legalistic in resolving the complaints, that request by MAS implicitly suggests that FIs could have avoided responsibility if they did choose to be legalistic.

I recently read an article in the Straits Times on 10th January 2009, about the scandal surrounding Satyam Computer Services of India. There was a quote, from the head of a prominent local audit firm that really resonated with me, which was:

"In real life, the rules are a lot of form and no substance."

This quote has nothing to do with structured products, but it highlighted a fundamental truth about frameworks and processes and forms and disclosures. We

Column: 1118

can have all the rules in the world, we can require financial advisers to jump through all sorts of hoops in the sale process in an effort to ensure that investors' interests are appropriately protected, but we would still be missing the woods for the trees if we do not understand that the rules are just the ends to the means, and not the ends in themselves.

An exclusively rule-based approach is fundamentally unsound, so long as financial products are sold by sales persons who are remunerated by commission. Sales people being what they are, they will always seek to close a sale in such a way as to comply with the rules with minimal effort by them. It is important to understand that and to have the right regulatory approach in response.

By this, I do not seek to impugn sales persons. I spent one year working as the in-house legal counsel in a sales company, and my current employer's sales team is one of my internal clients. They are not better or worse than other people simply because they work in sales. They are simply intelligent human beings; so they will behave according to how they are incentivised. And when they are incentivised by commissions, they will always seek the path of least resistance in closing that sale, so as to get at that commission.

That is why an exclusively rule-based approach is deficient. The smart sales person will always figure out how to work the system, how to get what they want while not breaking the letter of the rules. When the rules focus only on the different steps to take, the forms to be completed, the boxes to be ticked, then the smart sales person will simply take those steps, complete the forms and tick the boxes in the way that requires the least effort. The question of proper advice for the investor becomes irrelevant to the closure of that sale. Instead, if the objective is to ensure that investors are properly advised,

Column: 1119

then the operative rule must be that financial advisers properly advise them. When that is the letter of the rule that financial advisers have to abide by, there is little wriggle room left.

In the course of writing this speech, I have come across a number of very good suggestions of possible refinements to the existing regime. These include the elimination, or at the minimum, a stringent restriction of the so-called Option 4 (no advice option) in the sale process, a cooling-off period for the sale of investment products, disclosure of the commissions and fees earned from the sale of investment products – similar to what takes place for insurance products – and even a separation of general banking and investment sales functions in banks, as has been recommended in Hong Kong.

But these are refinements to existing rules, and they preserve the primacy of the rule-based approach. I believe that it is necessary to introduce principle-based regulations as well, particularly in regulating the sale process. The principle-based approach is not a panacea but is certainly essential. Otherwise, ingenious sales persons will simply find new ways to comply with the rules while continuing to sell investment products that are not in investors' best interests. And we will eventually see a repeat of what happened with the Lehman-linked products.

I now turn to my second broad point, which is much shorter. Quite apart from having the correct regulations in place, the regulator must also be willing and able to vigorously enforce these regulations. Businesses being what they are, the language that they understand best is the language of money, and surely the MAS has to speak the same language to make sure that the regulations are complied with.

Column: 1120

Given that the investigations by MAS are still ongoing, I will leave it at that. I will only add that this episode has resulted in widespread cynicism amongst the investing public about the MAS' willingness to enforce the law vigorously, to stand up to the FIs and to protect investors. Rightly or wrongly, the fact remains that this is a widely held view. This cannot be a healthy state of affairs.

I think it is by now very clear that there has been at least some mis-selling by FIs. I therefore urge the MAS to take strong enforcement action in this regard, to demonstrate that breaches of the law will be punished in accordance with the law. This is the only way to restore public confidence in the regulator.

This is not the first time that investors who only wanted to renew their fixed deposits were misled into purchasing investment products that were unsuitable for them. Almost a decade ago, unit trusts were the investment product du jour . Stories abounded of uncles and aunties who wanted to renew their fixed deposits being pressured into buying unit trusts, including narrowly focused, high risk technology funds. With the stock markets then in the frenzied throes of the dot-com craze, technology funds looked like the best things since sliced bread. Well, when the dot-com bombed, these uncles and aunties lost huge chunks of their investments.

Does that sound familiar? Of course, it does. We had a rule-based approach then, and we have a rule-based approach now. And if we keep our rule-based approach without augmenting it with principle-based regulations, we will hear the same story 10, 20 years in the future. I assure Members that so long as we rely exclusively on a form-filling, tick-the-boxes, rule-based approach to regulating the sale process, this will happen again, and again, and again.

Column: 1121

We will have more cases like that of Mr Ling Jun Zhi and his wife, retirees who put their life savings of $100,000 into Minibonds. Or Mr Ang, a 68-year old retiree who put $600,000 of life savings in DBS High Notes 5, when he had merely wanted to renew his fixed deposit. Or Mrs Chong, who invested a total of $100,000 in Minibonds, being her life savings and half of her husband's CPF savings. She subsequently suffered a nervous breakdown upon finding out what the collapse of Lehman Brothers meant for her. Worse, her relationship with her husband was adversely affected. When asked what her plans for the future were, she said, "What is there left to plan? There's nothing left for me to plan anymore? Or Ruth, a 38-year-old lady diagnosed with stage 2 breast cancer, who had invested the $20,000 meant for her parents in Minibonds. The FI knew about her medical condition, and still went ahead to sell the Minibonds to her. Because of the loss of this sum, she had to go back to work early against her doctor's wishes, instead of recuperating and recovering from her chemotherapy.

I hope all of these victims have been offered full compensation. These are the most clearly heart wrenching cases. But there are many other victims, whose situations may not be quite as dramatic, but whose lives have similarly been adversely affected beyond their worst nightmares. If MAS provides all the necessary information and facts and figures, we can calculate the financial cost to investors of this whole debacle. But what about the human cost? How do we quantify that?

If we do not adopt more principle-based regulations, if MAS does not take vigorous enforcement action against those who have breached the law, such egregious mis-selling will occur again. The precise form of mis-selling will change, and the investment products involved will differ. But it will happen.

Column: 1122

And by not learning our lesson from this episode, we will be guilty of having allowed it to happen.

This Amendment Bill, currently before this House, does not address these issues. I hope that when the findings and recommendations of the MAS come to be debated in this House, those recommendations will include the introduction of principle-based regulation.

Sir, with that, I support the Bill.

Mr Lim Hng Kiang: Mr Speaker, Sir, I thank the two MPs for their comments on the Bill. Let me address the points raised.

Mr Inderjit Singh was concerned about the investigative powers of MAS. Let me assure him that under section 70A(6), it is intended to deal with those situations where somebody comes across a report which is a secret report, he ought to surrender the report back to MAS. The onus is on him to do so unless, of course, he has the desire to keep the report, then he is liable. If he is not and he has taken efforts to surrender or destroy the copies of the report, then I think that is the way for him to justify his action. So this provision is similar to what is available in the Banking Act. It is to ensure that if a secret report is passed to you by somebody, you should hand it back to the relevant authorities and not keep or propagate it.

The second issue is on how to preserve confidentiality, and I think this is very important because confidence and confidentiality is at the heart of financial services. And here the intention is that when there is a report and there is an obligation of confidentiality, the report should not be disclosed. But if the investigated person wants to seek legal or other financial consultants' advice, then, of course MAS could grant him permission to show those reports to his advisers. So I think there are enough safeguards.

Column: 1123

I would also like to thank Mr Siew Kum Hong for his very comprehensive speech about the value of rules-based versus principle-based regulation. As we all know in the real world, in the practical world, it is neither of the ends of the spectrum. We need certain principles to set the framework and then, of course, we need rules or guidelines to be able to make sure that these principles are adhered to. And I believe the way the MAS dealt with the Lehman Brothers' bonds shows how this is done. To the credit of the financial institutions, they put to practice what they believe in and that is the principle of fair dealing and I think the outcome shows that.

I also thank Mr Siew for his suggestions on how to improve the regime. Some of the ideas that he put out is what I have also explained as the kind of measures that MAS is considering and is putting out for public consultation in March, and that is, to consider whether there ought to be a cooling-off period, to look at the incentive structure of the sales process, to separate the financial advisers' processes versus the deposit taking processes in the banks. So these are the same kind of the measures that we are thinking about. And, of course, I have also mentioned during Question Time that MAS is completing its investigation report and is currently in the process of giving the FIs a chance to respond to the report. So, let us not jump the gun. When the investigation is completed, I am sure we will have another chance to debate the proposed amendments to our regulatory regime.

Question put, and agreed to.

Bill accordingly read a Second time and committed to a Committee of the whole House.

The House immediately resolved itself into a Committee on the Bill. – [Mr Lim Hng Kiang].

Column: 1124

Bill considered in Committee.

Mr Lim Hng Kiang:

The Chairman: The citation year "2008" will be changed to "2009", as indicated in the Order Paper Supplement.

Clauses 1 to 42 inclusive ordered to stand part of the Bill.

Bill reported without amendment; read a Third time and passed.