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| Implementation of Pre-review of Over-The-Counter Derivatives Products |
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| 1. Implementation of Pre-review of Over-The-Counter Derivatives Products |
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| On February 18, 2010, the National Assembly of Korea passed an amendment to the Financial Investment Services and Capital Markets Act (the "Amendment"). The Amendment contains certain provisions requiring a pre-review from Korea Financial Investment Association ("KOFIA") if investment dealers or investment brokers wish to newly engage in trades of over-the-counter derivatives products (the "OTC Derivatives"). |
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| With the implementation date of the pre-review requirement approaching soon, this article will summarize the key contents of the Amendment regarding the pre-review process of the OTC Derivatives (the "Pre-review Process"). |
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| 2. Key Contents of Pre-review Process |
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| According to the Amendment, the OTC Derivatives subject to the Pre-review Process are products (i) that are newly dealt by investment dealers or investment brokers and (ii) (a) for which the underlying assets are the OTC Derivatives other than financial investment products, currencies or commodities (e.g., credit, natural, environmental or economic risk or (b) that are offered to non-professional investors. The Amendment also provides that certain OTC Derivatives may be exempted from the Pre-review Process by a Presidential Decree. The initial proposal of the Amendment included derivatives-linked securities as well as the OTC Derivatives, but the final Amendment only incorporated the OTC Derivatives to be subject to the Pre-review Process. |
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| KOFIA will be in charge of the Pre-review Process and KOFIA will establish an OTC Derivatives review committee to carry out the Pre-review Process (the "Committee"). During the Pre-review Process, the Committee will (x) review the possibility of providing the information regarding the changes in the price of the underlying assets with respect to the OTC Derivatives described in (ii)(a) above, (y) review matters such as the appropriateness of risk hedging structure, adequacy of information to be provided to non-professional investors and appropriateness of marketing plans with respect to the OTC Derivatives described in (ii)(b) above, and (z) take into account any other matters as the Committee believes necessary to protect investors. Thereafter, the Committee is required to report the result of the Pre-review Process to the Chairman of the Financial Services Commission (the "FSC"). |
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| According to the Amendment, the Pre-review Process will be implemented three months after the promulgation of the Amendment. The FSC expects that the Pre-review Process will be implemented in around June, 2010, and according to the addendum to the Amendment, the Pre-review Process will be implemented for a limited duration until December 31, 2011. Additionally, the OTC Derivatives traded prior to the implementation of the Pre-review Process will not be subject to the Pre-review Process. |
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| 3. Practical Consideration regarding Pre-review Process |
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| Currently, given that the National Assembly has passed the Amendment only a few days ago, the details of the Pre-review Process have not been determined. |
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| First, the Presidential Decree setting forth the scope of the OTC Derivatives to be exempted from the Pre-review Process is not in place. Second, the criteria for determining the OTC Derivatives that "newly dealt" and are subject to the Pre-review Process have not been confirmed. Lastly, there are other outstanding issues such as, among others, the legal implications and sanctions for investment dealers and investment brokers who violate the Pre-review Process, the period required for the Pre-review Process and the details of operating the Committee. Thus, it remains to be seen how the Pre-review Process will actually implemented in practice. Perhaps a guideline or internal regulations of the Committee to be published will hopefully shed some light to the details of the Pre-review Process. |
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| In particular, the Pre-review Process has raised controversies in a fear that it would significantly undermine the timing of the OTC Derivatives trades. The original proposal of the Amendment provided for one month by which the Committee should complete the Pre-review Process but one month timeframe was left out in the Amendment passed by the National Assembly. It will be interesting to observe how KOFIA will decide the timeframe required for the Pre-review Process. |
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| Given that there is a lack of details with respect to the Pre-review Process at this point, investment dealers and investment brokers are advised to contact KOFIA, the Committee or the regulatory body for guidance in order to avoid any violation of the Pre-review Process. |
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