ASIC has released a report detailing the findings of a recent surveillance program and identifying some serious and widespread compliance failures in the retail over-the-counter (OTC) derivatives industry. Over 70% of AFS licensees reviewed demonstrated issues with three or more of the seven compliance risks.
In recent years, ASIC has made a number of public statements about the concerning degree of non-compliance in the retail OTC derivatives sector. ASIC considers retail OTC derivatives to be complex, high-risk products which are often difficult to understand, even for experienced investors.
ASIC has observed a material increase in the number of Australian financial services (AFS) licence applications from entities seeking to operate retail OTC derivatives financial services businesses in Australia. In conjunction with this trend, we also identified increasing non-compliance by existing AFS licensees with a number of their Australian regulatory requirements.
We recently undertook a review to assess a large proportion of the AFS-licensed retail OTC derivatives industry against the following seven compliance risks:
- failure to comply with the net tangible assets (NTA) requirement
- failure to comply with notification requirements for change of control events and issues around new ownership compliance
- failure to comply with client money provisions
- poor, misleading or deceptive Product Disclosure Statements (PDS) and website disclosure
- failure to comply with financial reporting obligations
- failure to supervise authorised representatives and non-compliance by authorised representatives, and
- claims that no financial services are being provided under the AFS licence.
This report summarises the key findings of that review and identifies areas where compliance standards can be raised in the retail OTC derivatives sector.
Our findings
Our review identified a high degree of non-compliance. Over 70% of AFS licensees reviewed demonstrated issues with three or more of the seven compliance risks. In particular, our compliance review identified that:
- over 80% demonstrated issues with the disclosure in their PDS or website
- over 60% had undergone a change of control (with some issuers exhibiting multiple changes of control in a 12-month period) and 85% of those entities had failed to notify ASIC as required
- over 50% had not adequately complied with their financial reporting obligations
- around 50% required additional detailed assessment to determine whether they adequately complied with their NTA requirements, and
- nearly 30% did not appear to be providing any financial service under their AFS licence, despite some being licensed for a number of years.
Many of the compliance concerns we detected were contraventions of well-established regulatory requirements or non-compliance with fundamental AFS licensing obligations. We also observed a significantly high number of smaller, foreign-owned or foreign-controlled AFS licensees demonstrating either a lack of awareness or understanding of their Australian regulatory obligations, or reluctance to invest resources in meeting compliance obligations for their Australian businesses.
In total, we obtained more than 150 regulatory outcomes as a result of our review, including:
- recapitalisation to comply with financial requirements
- improvements to defective disclosure
- submission of overdue financial reports
- corrections to registry and AFS licence information
- improved supervision of authorised representatives
- rectification of compliance failings
- cessation of unlicensed conduct, and
- AFS licence suspensions and cancellations.
Commissioner Cathie Armour said, ‘This report highlights some serious compliance failures in this industry. We expect industry to take note of our findings and proactively remediate any areas requiring improvement to ensure they have adequate and enduring compliance measures to fulfil their regulatory obligations.
‘The report also provides a prudent warning to investors. We hope the report will encourage them to be more aware of the risks of these types of products as well as improve their understanding of the standards of practice they should expect from retail OTC derivative providers.
‘As can be seen from our surveillance findings and announcements, many of these investment products may not be appropriate for average investors, who are often caught out by the complexity and may not understand the heightened risk profile,’ she said.
