Introduction

On 10 March 2017, the China Securities Regulatory Commission (“CSRC”) published a decision sanctioning two individuals for the manipulative trading of securities committed through the Shanghai-Hong Kong Stock Connect (“Shanghai Connect”). The action is noteworthy due to the sanction being the first enforcement action under Shanghai Connect since its launch in October 2014 and that it also signifies the join forces between the CSRC and the Securities and Futures Commission of Hong Kong (“SFC”).

Background

Shanghai Connect

The Shanghai Connect comprises the Northbound link, through which Hong Kong and overseas investors may purchase and hold shares listed on the SSE, and  the Southbound link, through which investors in mainland China may purchase and hold shares listed on the Stock Exchange of Hong Kong Limited (“SEHK”). However, the laws of the home market of the applicable securities apply to stock trading in either market. This means that in a Northbound link, offshore investors must comply with the PRC Securities Law (“Securities Law”) and other applicable regulations, and are also subject to the supervisory jurisdiction of CSRC.

Tang Hanbo and Wang Tao

• Facts

a. Tang Hanbo (“Tang”) and Wang Tao (“Wang”) controlled four different securities accounts (three Hong Kong accounts and one Mainland onshore account) and used such accounts to carry out manipulative trading of the shares of Zhejiang China Commodities City Group, which is listed in Shanghai and traded on the Shanghai-Hong Kong Stock Connect (600415.SHA). The trading took place during the period from 4 February to 23 June 2016.

b. From 4 February to 26 April, 2016, Tang and Wang’s trading accounted for more than 10% of the stock’s daily volume. Their activity was also more than 20% of the market in the shares during 10 days of that period.

c. The time and location where the securities accounts were found to have operated were highly consistent with where and when Tang and Wang stayed at, being a hotel in Hong Kong. Despite Wang was prohibited from exiting the mainland China since 7 June 2016, active trading was seen using Wang’s account in Hong Kong, which implies that Tang was in fact controlling the accounts.

d. In passing, Tang and Wang carried out manipulative trading in four major steps which were repeated over the period of the trading, including position building, price maintenance, overweighting, and sell-off.

e. For instance, in order to create a desirable market position at an initial stage, Tang and Wang bought up a large portion of shares, pushing up the share price from RMB6.54 to RMB7.29 and further to RMB7.64. Later, in order to maintain the price of the shares, Wang sold 2,700,000 shares in the price of RMB7.27 to 7.29, and Tang bought 23,515,900 shares in the price of RMB7.17 to 7.44. Such transactions accounted for 55.71% of the trading at that same period of time and had pushed up the share price for 3.34%. Within the 56 trading days, the total number of shares bought was 460,185,283 in an average price of RMB7.36 per share. When all the shares were sold off, the average price was RMB7.47 per share.

f. CSRC found that Tang illegally gained about RMB42 million and it held that Tang and Wang committed manipulation activities under article 77 of the Securities Law, including continuous trading manipulation, wash trade manipulation and manipulation through other methods.

• Applicable law
  a. Based on the trading conducted by Tang and Wang as explained above, illegal activities like churning, intra-day trading and fictitious quotation were noted by the CSRC, thus violating sub-sections 1, 3 and 4 of article 77 of the Securities Law.b. Under sub-sections 1, 3 and 4 of article 77 of the Securities Law, no one is allowed to manipulate the securities markets in the following ways:

(1)conducting allied or incessant purchasing and selling individually or in conspiracy with another person by building up an ascendancy of funds or shareholdings or taking advantage of information, thus manipulating the price or volume of securities trading…

(3)conducting securities transactions among the accounts actually controlled by oneself, thus affecting the price or volume of securities trading; and

(4)manipulating the securities markets by other means. Where manipulation of the securities markets causes losses to investors, the manipulator shall be held liable for compensation pursuant to law.

• Arguments
  a. In arguing for their cases, Tang and Wang submitted that (1) the evidence of the case came from SFC, hence there is doubt as to whether such evidence, obtained by CSRC, is legal and valid; (2) as the incident took place in Hong Kong, the CSRC would not have any jurisdiction to sanction; (3) there is no concrete evidence to show that Tang took the leading role; and (4) that the Securities Law does not govern acts such as manipulation of opening price and intra-day trading.
• CSRC’s rebuttals

a. In rebuttal, the CSRC stated the following:

i. Under article 179 of the Securities Law, the securities regulatory authority under the State Council shall perform the following functions in exercising regulation over the securities markets… (2) to exercise the regulation over the issuance, listing, trading, registration, depository and clearance of securities pursuant to law.

ii. Under the Several Provisions on the Pilot Program of an Interconnection Mechanism for Transactions in the Shanghai and Hong Kong Stock Markets, issued in June 2014,  article 16 provides that “the CSRC shall, by establishing cross-border regulatory cooperation mechanisms with the Securities and Futures Commission of Hong Kong and the securities regulatory authorities of other related countries or regions, investigate and punish the cross-border violations of laws and regulations in the pilot program of the Shanghai-Hong Kong Stock Interconnection”.

iii. CSRC and SFC also signed the Memorandum of Understanding between the CSRC and the SFC on Strengthening of Regulatory and Enforcement Cooperation under the Mutual Access between the Mainland and Hong Kong Stock Markets (“MOU”), issued in November 2016, which establishes arrangements and procedures for cross-boundary liaison and cooperation on any contingency or major event that affects the mutual trading access and for referring and handling investors’ complaints. Under part II of the MOU, it states that the CSRC and SFC have agreed to establish a joint mechanism between their respective Enforcement Divisions for notification of alerts and exchange of investigatory information concerning suspected misconduct.

iv. Moreover, as both CSRC and SFC are signatories of the International Organization of Securities Commissions, a Multilateral Memorandum of Understanding was signed which encourages mutual assistance and the exchange of information for the purpose of enforcing and securing compliance with the respective laws of the jurisdiction of the member state.

v. The evidence obtained from Tang’s apartment in Sha tin shows that Tang was responsible for making payments and that the computers used for the manipulative trading were also found in his apartment.

vi. Article 77 of the Securities Laws governs the illegal acts committed by Tang and Wang as discussed in the paragraph headed “2. Applicable law” above.

b. CSRC also noted that Tang and Wang, in order to bypass regulatory oversight and to control the public market in subtle means, traded in Hong Kong as an offshore trader. Hence a reduction of penalty, as requested by Wang, was not given.

• Sanctions

a. Under article 203 of the Securities Law, an entity that manipulates the securities markets shall be ordered to divest its illegally held securities, its illegal gains shall be confiscated, and it shall be fined not less than one time but not more than five times the illegal gains; and if there are no illegal gains or the illegal gains are less than RMB300,000, it shall be fined not less than RMB300,000 but not more than RMB3,000,000.

b. In our case, CSRC imposed the highest penalty possible where it confiscates the illegal gain of about RMB42 million and further imposing a monetary fine of RMB209 million. Wang was given a RMB600,000 fine over the transactions.

c. The discrepancy in their penalties was due to Tang being the person who controlled the accounts and implemented the manipulation, while Wang was only a trader. CSRC noted that Tang was playing the core leading role unlike Wang in the case. PRC legal advisers also noted that his high penalty has taken into account the fact that Tang is a repeat offender.[1]

[1]     Bloomberg China Fines Repeat Offender $170 Million for Stock Manipulation (13 March 2017) https://www.bloomberg.com/news/articles/2017-03-13/china-fines-trader-170-million-makes-first-stock-link-penalty; Also, in 2014 and 2015, Tang was already fined with RMB39 million and RMB15 million, respectively. On 10 March 2017, the day of which the decision of our present case was handed down, Tang was also fined over domestic trades carried out from December 2014 to April 2015 in another case.

What to look forward?

While both Tang and Wang have the right to appeal, it is no doubt that CSRC is serious about enforcing cross-border cases. Mainland China and Hong Kong will continue to join forces in regulating and enforcing the Securities Law and Hong Kong is likely to play an important role in assisting the CSRC in the future. Potential investors of Shanghai Connect and Shenzhen-Hong Kong Stock Connect should also be reminded to familiarize themselves with the relevant laws governing the stock connect programmes.

For enquiries, please contact our Corporate & Commercial Department:

E: cc@onc.hk

T: (852) 2810 1212

W: www.onc.hk

F: (852) 2804 6311

19th Floor, Three Exchange Square, 8 Connaught Place, Central, Hong Kong

Important: The law and procedure on this subject are very specialised and complicated. This article is just a very general outline for reference and cannot be relied upon as legal advice in any individual case. If any advice or assistance is needed, please contact our solicitors.