APRIL 2012 1 MAS CONSULTS ON NEW REGULATORY CAPITAL REQUIREMENTS FOR FUND MANAGERS / REIT MANAGERS AND OTHER CMS LICENSEES The Monetary Authority of Singapore ( MAS ) recently issued a Consultation Paper on Proposed Revisions to the Regulatory Capital Framework for Holders of Capital Markets Services Licences ( Consultation Paper ). The closing date for responses is 3 May 2012. Executive Summary The main changes proposed in the Consultation Paper are as follows: A single risk-based capital framework will apply to all capital market services licensees ( CMS licensees ) except for fund managers, REIT managers, corporate finance advisers, and security custodians whose exposures and positions fall below a specified sum. Such persons need only meet the requirements for calculating operational risk (and any other requirements as may be imposed by the MAS). The requirements for the types of capital that may be used as financial resources for meeting the total risk requirement have been made more stringent. In effect, CMS licensees will need to rely more on ordinary share capital, cash, and bank deposits. The requirements for the calculation of counterparty, position, and operational risks have been made more sensitive. The impact, again, will be to necessitate higher capital buffers. Further details are contained in the rest of this Update. Scope of Proposed Framework Categories of CMS licensees in current framework Currently, CMS licensees must meet financial and margin requirements depending on which of the following three categories they fall under: CMS licensees dealing in securities or trading in futures contracts which are members of an approved exchange or designated clearing house; CMS licensees dealing in securities, trading in futures contracts, or carrying out leveraged foreign exchange trading which are not members of an approved exchange or designated clearing house; or Any other type of CMS licensee.
APRIL 2012 2 Criteria for Specified CMS licensees The MAS is proposing that a single risk-based capital framework apply to all CMS licensees, except for CMS licensees ( Specified CMS licensee ) that carry out only one or more of the following activities: Fund management; REIT management; Advising on corporate finance; and Providing custodial services for securities. Carve out for some Specified CMS licensees A Specified CMS licensee would still, however, have to comply with the full risk-based capital framework unless its average adjusted assets in each quarter of a year does not exceed either of the following thresholds (whichever is the lower): Ten times its minimum base capital requirement; or Five times its total positive financial resources. Its average adjusted assets, base capital requirement, and financial resources are to be determined in accordance with the rules and requirements to be set out in the Securities and Futures (Financial and Margin Requirements for Holders of Capital Markets Services Licences) (Amendment No. 2) Regulations and the MAS Notice of Financial Resources and Total Risk Requirement for Holders of Capital Markets Services Licences (drafts of which are annexed to the Consultation Paper). Adjusted Assets Adjusted assets are the sum of a CMS licensee s on-balance sheet assets and off-balance sheet amounts, less: Assets required to be deducted from financial resources (see below); The CMS licensee s own deposits with banks licensed under the Banking Act which are of credit quality grade 1 (AA-/Aa3 and above); and Cash balances. Adjusted assets proxy measure of exposures This sum represents an estimate of the amount of counterparty exposures and market positions of a CMS licensee, and must therefore be backed up with sufficient financial resources to meet the total risk requirement. Financial Resources Financial resources comprise base capital and other forms of capital, less items which are required to be deducted. The current
APRIL 2012 3 requirements for items that may be recognised as financial resources are proposed to be tightened. This will affect all CMS licensees. Requirements for financial resources tightened The changes proposed are as follows: Irredeemable and non-cumulative preference share capital may be included within base capital if they meet certain criteria. Currently, no criteria are specified. Redeemable preference share capital, and irredeemable and cumulative preference share capital may be recognised as other forms of capital up to an aggregate limit of 100% of base capital. Currently no limits are imposed. Redeemable preference share capital, and irredeemable and cumulative preference share capital in excess of this 100% aggregate limit may be used to meet its total risk requirement for temporary periods only. Qualifying subordinated loans may be used as capital for temporary periods only. Currently, no limits are imposed. The temporary periods must amount to no more than 30 days in total for each calendar year. In addition, the amount in excess must not itself exceed 100% of base capital. Qualifying letters of credit may no longer be used to meet the total risk requirement. Treatment of fund / REIT managers For a CMS licensee carrying on fund management or REIT management only, the following items need no longer be deducted from the computation of financial resources: Non-current assets; Assets not convertible to cash within 30 days; and Receivables from related companies that are due to be repaid within 90 days. They must however be included as part of their counterparty or position risk requirements. In this regard, it is proposed that a risk factor of 50% for computing the position risk requirement of their fixed assets be applied. Counterparty Risks More matters to come under counterparty risk The following changes are proposed for counterparty risk: The range of counterparty risk weights are proposed to be revised and expanded to take into account the creditworthiness of counterparties. Conditions will be introduced to govern the use of credit ratings for the assignment of counterparty risk weights.
APRIL 2012 4 Updates to the credit exposure factors applied in computing the counterparty risk requirement for OTC derivative contracts have been proposed. Leveraged foreign exchange transactions are proposed to be treated as OTC derivative contracts. The credit valuation adjustment risk of OTC derivative contracts will be introduced within the counterparty risk requirement. All deposits (except those with exchanges, clearing houses, and their members) are proposed to be subjected to the counterparty risk requirement. Contingent liabilities are proposed to be treated as off-balance sheet commitments which require computation of the counterparty risk requirement. Interest payments owed on amounts by counterparties are proposed to be subjected to the same treatment as other forms of counterparty exposures. Updates and refinements have been proposed to the conditions for netting of counterparty exposures arising from OTC derivative and securities financing transactions and the recognition of collateral for the reduction of counterparty exposures applied in computing the counterparty risk requirement. Position Risks Methods of calculating position risk updated The following changes are proposed for the computation of position risk: The risk factors for computing equity, debt and commodity position risk requirements are to be updated. Enhancements to the provisions for the derivation of notional positions for equity, debt, commodity, and foreign exchange derivatives have been proposed. The conditions for the recognition of netting for computing equity, debt, commodity, and foreign exchange position risk requirements, including the treatment of debt positions hedged by credit derivatives are to be updated. The computation methods for commodity position risk requirement are to be updated. The treatment for positions in funds and non-financial assets has been specified. Operational Risks Operational risk requirements extended to all CMS licensees The operational risk requirements earlier imposed by the MAS on licensed fund management companies are proposed to be extended to all other CMS licensees. Under these requirements, operational risk is to be computed as follows:
APRIL 2012 5 10% of the three-year average annual gross income; Net of staff bonuses, commissions and interest expenses; and Subject to a floor requirement of the higher of: o 5% of the three-year average annual gross income o (before the netting of staff bonuses, commissions and interest expenses); or S$100,000. Our Analysis For most fund managers, REIT managers and corporate finance advisers, the revisions outlined in the Consultation Paper may not herald a significant change in the way they manage their regulatory capital. Alternate assets fund managers who receive carried interest shares and in particular, REIT managers who receive listed REIT units in fee payments, should consider whether their capital structure might be affected under the proposals for asset measures and position risk requirements, and consult their accounting and legal advisers. If you would like information on this or any other area of law, you may wish to contact the partner at WongPartnership that you normally deal with or contact any of the following partners: Low Kah Keong Head Asset Management & Funds Practice DID: +65 6416 8204 Email: kahkeong.low @wongpartnership.com Elaine Chan Joint Head Financial Services Regulatory Practice DID: +65 6416 8010 Email: elaine.chan @wongpartnership.com
APRIL 2012 6 CONTACT DETAILS Singapore One George Street #20-01 Singapore 049145 Tel: +65 6416 8000 Fax: +65 6532 5711 China Beijing Representative Office Unit 3111 China World Office 2 1 Jianguomenwai Avenue, Chaoyang District Beijing 100004, PRC Tel: +86 10 6505 6900 Fax: +86 10 6505 6902 Middle East Abu Dhabi Branch Al Bateen Towers Building C3 Office 11-01 (P1) P.O. Box No. 37883 Abu Dhabi, UAE Tel: +971 2 651 0800 Fax: +971 2 635 9706 contactus@wongpartnership.com 63 Market Street #02-01 Singapore 048942 Tel: +65 6416 8000 Fax: +65 6532 5722 Shanghai Representative Office Unit 5006 Raffles City Office Tower 268 Xizang Road Central Shanghai 200001, PRC Tel: +86 21 6340 3131 Fax: +86 21 6340 3315 Licensed by the QFCA Office 12-20 Amwal Tower, West Bay P.O. Box No. 15397 Doha, Qatar Tel: +974 4491 2332 Fax: +974 4491 2339 wongpartnership.com