Introduction

The Securities and Futures Commission (“SFC”) has publicly reprimanded and fined UBS AG (“UBS”) a record-equalling HK$400 million for overcharging its clients for nearly a decade and related serious and systematic internal control problems, pursuant to section 196 of the Securities and Futures Ordinance (“SFO”).

The overcharging affected around 5,000 Hong Kong-managed client accounts in about 28,700 transactions. UBS has agreed to repay the affected clients the full value of the overcharged amounts together with interests, totalling approximately HK$200 million.

Background facts

Making post-trade spread increase

During 2008 to 2015, it was a common practice that UBS’s Wealth Management division’s client advisors (“CAs”) and client advisors’ assistants (“CCAs”) increased the spread charged to clients after executing trades in bonds and structured notes. UBS did not disclose the execution price and charges it made to the clients adequately and accurately.

Where the actual execution price was better than the limit order price placed by the clients, the CAs and CCAs would increase the spread after executing the trades without disclosure to or seeking agreement with the clients, in order to retain the price improvement for UBS itself.

Worse still, on some occasions, the CAs and CCAs even misreported the execution price to the clients and falsified the account statements with misreported spread amount to financial intermediaries (“FIM”), who were authorized to trade for their clients, in order to conceal the overcharges made by UBS.

Charging fees in excess of disclosed rates

During 2008 to 2017, UBS charged its clients fees or spreads exceeding the rates disclosed to or agreed with the clients. For instance, CAs overcharged the clients allotment fees in excess of the prescribed rate as set out in UBS’s Fees and Commissions Booklet. From time to time, UBS charged a spread on zero fee products and imposed additional charges on flat fee clients without their knowledge or consent.

UBS’s failure to comply with regulatory requirements

The overcharging malpractice

By increasing the spread after the execution of trades to capture the price improvement unknown to the clients and charging fee exceeding the disclosed or agreed rates, the SFC found that UBS had failed to, amongst others, comply with the following regulatory requirements:

• • to act honestly, fairly, with due skill, care and diligence, and in the best interest of its clients;
  • to make adequate disclosure of the monetary benefits received and relevant material information to clients;
  • to avoid conflicts of interest and ensure fair treatment of clients;
  • to ensure that any representations made and information provided to clients are accurate and not misleading;
  • to ensure that the charges and fees charged are fair and reasonable and characterized by good faith;
  • to execute client orders on the best available terms; and
  • to ensure provision of adequate information to the clients on services provided, and nature and scope of fees and charges.

The SFC considered the misreporting of execution price and falsification of account statements occasionally done by UBS’s CAs and CCAs to be dishonest means from which UBS took profits from its clients without disclosure to or agreement with them.

Further, the SFC considered that UBS’s failure to prevent or detect the overcharging malpractice was due to a number of serious systematic internal control problems as set out below:

• • inadequate policies and procedures governing pricing and disclosure, spread charged and best execution;
  • inadequate system controls allowing CAs and CCAs to unilaterally amend the spread charged after trade execution and failing to prevent and detect improper activities in trading for clients;
  • lack of effective supervision for Desk Heads to identify conduct issues and poor ethical decision making by CAs;
  • lack of staff training and guidance to front-line staff on regulatory requirements and their primary obligations to execute client orders on the best available terms and treat clients fairly; and
  • failure of the first and second lines of defence function (the Location Risk Unit and Compliance) in addressing conflicts of interest between CAs or CCAs and their clients, and identifying risks with pricing and disclosure practices.

 The internal control deficiency has indicated breaches of Code of Conduct and Internal Control Guidelines on the part of UBS, which was one of the factors taken into account by SFC in deciding the disciplinary sanctions.

Failure to properly disclose trading capacity to clients

UBS acknowledged that its historical approach to its trading capacity (i.e. whether as agent or principal of its clients) was confused, its communication with regulators in the past was incomplete, and its communications with its clients in relation to its trading capacity was unclear. The SFC found that UBS failed to properly understand its capacity in trading for its clients, which raised concerns on how UBS could ensure its compliance with the relevant legal and regulatory requirements and make proper disclosure with correct information to its clients.

Delay in reporting to the SFC

Whilst UBS identified the elements of overcharging misconducts in June 2014, it only reported for the first time the overcharging practice to the SFC in June 2016. The delay of 2 years in reporting was in breach of paragraph 12.5 of the Code of Conduct which requires timely reporting upon any material breach or non-compliance with any rules or regulations of the SFC.

Failure to address the misconducts concerned

Upon discovery of the overcharging practice, UBS submitted that it had made a number of system enhancements to remedy and enhance its order taking practice. Nonetheless, it reported 15 incidents concerning the failure of the new system to address the problems of overcharging, inaccurate capacity disclosure and other non-compliance of rules. In the circumstances, the SFC again casted doubts on whether UBS was effective in addressing the overcharging practice with its newly implemented systems and whether UBS had capability to improve its internal controls to avoid reoccurrence of the historical deficiencies.

In addition to the findings of the SFC as illustrated above, the SFC also took into account UBS’s disciplinary actions against over 20 staff involved, appointment of independent reviewers to identify the root causes and review its remediation measures, and UBS’s agreement to fully repay the affected the clients, and finally decided to reprimand and fine UBS HK$400 million for its overcharging malpractice.

Takeaways

The disciplinary action reminds the registered institutions under the SFO to exercise care in charging clients. They shall ensure that the client-facing staff are aware of their duties to act honestly, fairly and in the best interest of their clients when trading for the clients, and not to charge spreads or fees in excess of the rates disclosed to or agreed with the clients. Where, unfortunately, any institution is aware of any occurrence of such overcharging malpractice in its office, it shall report the incident to the SFC immediately without any delay and take actions to effectively remedy and address the problem, in order to avoid any further breach of the rules and regulations of the SFC.