Hongkong Market

October 2002

The Quality
of the

Hong Kong
Market

Introducing

Mini-HSI
Options

Study of
Listing Costs

David Cheung
discusses
HKEx’s Treasury
operations
and investment
policy


2

23

26

30

Contents

Chief Executive’s Message

2

The Quality of the Hong Kong Market

3

Mini-HSI Options: An Additional Investment and Trading Tool at
Investors’ Fingertips
CCASS/3 Rollout Continues
DCASS Update

11
15
16

Third Party Clearing to be Introduced in the Securities Market

17

Update on Extended Trading Hours

19

Proposals Sought for Single Trading Screen for Equity and Derivatives Products

21

Chatroom with Chief Financial Officer & Treasurer David Cheung

22

News Briefs

26

The Cost of Listing

31

Regional Monitor

38

Status Report on New Product and Market Development Initiatives

Hong Kong Exchanges and Clearing Limited
12/F, One International Finance Centre, 1 Harbour View Street, Central, Hong Kong
Tel: (852) 2522 1122 Fax: (852) 2295 3106
Website: www.hkex.com.hk Email:

44


2

I am pleased to introduce the sixth

There is also an overview of the Mini-

Treasury operations and investment

issue of the “The Exchange”.

Hang Seng Index Option contract

policy.

which we will introduce in midThis issue features an analysis of

November. The new contract will

Elsewhere, there is discussion of our

the quality of the Hong Kong

complement our Mini-Hang Seng

plans to introduce Third Party

market where its key elements –

Index Futures contract and provide

Clearing in the securities market, and

issuers, investors, intermediaries,

additional investment opportunities

updates on the implementation of our

infrastructure and information

for individual investors.

new CCASS/3 and DCASS clearing
systems. The CCASS/3 and DCASS

– are discussed from the viewpoint
of quality. Maintaining a quality

In the Chat Room, Chief Financial

projects demonstrate our

market reinforces our status as an

Officer & Treasurer, David Cheung,

commitment to investing in our

international financial centre.

explains his role and discusses HKEx’s

market infrastructure.
Another article briefs readers on the
latest status of the development of a
single trading screen for all products
traded on our securities and
derivatives markets. In addition, there
is an update on our extended trading
hours proposal.
Research & Policy of the Corporate
Strategy Unit has contributed a study
of listing costs in several major stock
markets which shows that the listing
fee remains a very small component
of total listing costs.
We welcome your opinions and
suggestions as we believe that
they help us to make further
improvements. We look forward
to hearing from you.


By Kwong Ki-chi, Chief Executive, HKEx
Quality is the stated goal of many exchanges. The quality of a marketplace depends on trade-offs among the
objectives of the various players. The regulators and the market operator can help optimise such trade-offs. The
Hong Kong market enjoys a good reputation for quality in many respects, and Hong Kong Exchanges and
Clearing Ltd (HKEx) is working on areas that need further improvement.
Introduction
Recent events, such as the US corporate scandals and, in Hong Kong, the penny stocks incident, have focused public
attention on market quality. Some commentators agreed that penny stocks should be delisted to improve market

quality; others felt that this was none of the regulator’s concern. In the course of the debate, commentators compared
Hong Kong’s standards with those of overseas markets, including the Mainland of China. The rising standards of the
Mainland market make quality a particularly pressing issue for Hong Kong.
This article discusses the idea of quality of the Hong Kong market more broadly. The key elements of the market –
issuers, investors, intermediaries, infrastructure (both hard and soft) and information – are discussed from the viewpoint
of quality. This article is the first of a number of pieces to be published in the Exchange and other forums over the
coming months in which HKEx will examine market quality from various angles.
The concept of market quality
Those responsible for the design and operation of securities markets – from government policy makers to market
regulators and exchange managements – are driven primarily by the notion of quality: the desire to make the market
better. National policy makers want their markets to perform the functions of capital formation (primary market) and
trading (secondary market) effectively and efficiently: they want their markets to be liquid. These objectives point in the
direction of making markets as free as
possible. However, the financial markets
thus created must remain stable and
systemic risks must be minimised. And
issuance of securities by listed corporations
and the conduct of business by the
intermediaries must be fair to investors.
These objectives require the imposition of
restrictions, such as requirements for issuer
track records and governance processes,
intermediary qualifications and capital. So
market designers face a dilemma.

October 2 0 0 2

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The solution is to optimise the objectives in such a manner that the restrictions reinforce quality and the perceptions
thereof, and so build confidence and stimulate more activity. This is, in effect, a quality strategy. Generally, market
designers have followed this quality strategy over time. Over the past two decades, in virtually all world markets, there
has been deregulation – in the sense of greater freedom to do transactions in both the primary and secondary markets
– and at the same time a greater compliance burden for players in exercising that freedom – in the sense of mandatory
disclosures, procedures and capital requirements. So far, this quality strategy appears to have been broadly successful, in
that volumes of securities issuance and trading have increased dramatically over time during that period. For example,
stock trading by members of the World Federation of Exchanges has increased from US$911 billion in 1981 to US$40,093
billion in 2001, an average annual growth rate of 21 per cent. But with deregulation may come excesses and abuses and
it is not uncommon to see market reforms being tempered by the tightening of rules and regulations. Currently,
following the US corporate scandals, the world appears to be in the middle of another phase of compliance tightening,
as regulators everywhere issue new corporate governance rules.
There has been extensive management literature on quality in business generally, for example, Total Quality Management
(TQM), and the standards set by the International Standards Organisation (ISO). Some exchanges, such as the Taiwan
Stock Exchange, have obtained ISO certification (ISO 9001 and 9002). However, there has been limited discussion of
quality as applied specifically to securities markets.
Guidance specific to exchanges has been issued by various market associations. The International Organisation of
Securities Commissions (IOSCO) has issued principles, in respect of which for example Hong Kong’s Securities and
Futures Commission (SFC) reports annually on compliance. The World Federation of Exchanges has issued the Generally
Accepted Principles of Securities Trading, and also studies of best practice in areas such as clearing and settlement. In
2001, the US National Futures Association and Futures Industry Institute issued best practice recommendations.
A few exchanges have functions devoted explicitly to market quality. Examples are the London Stock Exchange, which
formerly had a Quality of Markets department, and the New York Stock Exchange which publishes a monthly Market
Quality Report. In these exchanges, the intermediaries (specialists or market makers) play a discretionary role and it is
important to measure their performance, for example in terms of the bid-ask spread. However, in the Hong Kong stock
market, the bid-ask spread is largely a function of the spread table, i.e. the price increment, so such measures as the bidask spread are less relevant.
An agreed and comprehensive model of market quality relevant to
the Hong Kong market is largely lacking. Accordingly, a simple model

is suggested below. The various elements of the market may be viewed
as in the following chart under a “Five-I” structure – Issuers,
Intermediaries, Investors, Information and Infrastructure. These
elements are interlinked and reinforce one another, such linkage being
represented by the image of the circle – a “circle of quality” – which
constitutes the market place as a whole. The individual elements, the
Five I’s, are discussed in turn in the following section.


The Market Quality Circle
Regulator

Issuers

Infrastructure
(Hardware)–
Systems &
technology

Infrastructure
(software)–
Rules & Policy
framework

Market place

Investors

Intermediaries

Information

Market Operator

Market participants

Marketplace

The market network through which market operators and regulators interact with other elements

It is necessary to measure the quality of these various elements, e.g. in order to identify where improvements may be
needed. Some quantitative attributes such as liquidity can be measured directly. However, value attributes such as
fairness and integrity are more subjective. HKEx conducts periodic surveys of market user groups such as fund managers,
retail investors and issuers to assess their views on the quality of the markets it provides.
Market elements
The elements in the market circle of quality are discussed in turn below.

Issuers
From the perspective of other market users, in particular investors, the overriding quality requirement is for the equity
issuer to perform commercially, in terms of profit, so that the share price will also perform. Secondly, the issuer must
treat its shareholders fairly, so that all shareholders enjoy the benefits of the issuer’s success. And from listed issuers
collectively, investors would like variety, so that they can build a portfolio that captures the benefit of different sectors
of the economy. Market designers must try to meet these various objectives.
Commercial performance presents market designers with a particularly thorny issue. Formerly, many regulators would
form a view on the commercial prospects of the issuer, and approve, or disapprove, the listing and the pricing of the
listing on that basis – the so-called “merit-based regulation”. One problem with merit-based regulation is that regulators
are not necessarily good judges of commercial potential. Another problem is that such exercise of discretion can invite
corruption. Thus most market regulators now approve listings in accordance with a more objective, disclosure-based
philosophy. Some merit elements remain, such as the initial listing requirement for a profit track record, but they are
codified in rules and where possible quantified.

October 2 0 0 2

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The imposition of these entry requirements means that smaller, riskier and newer enterprises tend to be shut out of the
market. This would appear to conflict with the disclosure-based philosophy as it could be argued that, on a fully
disclosure-based approach, even smaller and riskier issuers should be allowed to list provided that they make proper
disclosure of their risks. Many exchanges have dealt with this dilemma by creating a second board, such as Hong
Kong’s Growth Enterprise Market (GEM), for such companies. Because they are listed on the second board, investors
should be alerted to their higher commercial risk.
However, issuer quality is not a one-off question at the point of listing. If the commercial performance of an issuer
declines after listing, this has an impact on its shareholders and in aggregate terms on the market. Should low-performing
issuers be delisted? There is again a policy dilemma. If the stock is delisted, on the one hand, there is an assurance that
all stocks listed on the market meet a certain quality standard and this may raise investor and issuer confidence in the
market overall. However, on the other hand, existing shareholders in the company will lose the ability to trade out of
their holdings and the issuer will also lose the intrinsic value of its listing (realisable for example through shell reactivation).
The policy maker has to weigh these conflicting factors.
Hong Kong has up to now had a rather minimalist approach under which issuers are delisted only in extreme cases and
after a considerable period. Some overseas markets impose strict requirements for continued listing, and failure to
meet them can result in the issuer being delisted promptly. Nasdaq, for example, delisted 815 issuers in 2001; HKEx
delisted 11.
Sourcing a variety of issuers for a market is a commercial matter for the exchange concerned.
The exchange can attract new kinds of issuers by developing an alternative board, and by targeted
marketing and branding. Nasdaq, for example, has been successful in attracting technology
companies from all over the world. HKEx has been marketing its Main Board and GEM to
Mainland companies, including private enterprises and technology companies, with much success.
The foregoing discussion applies to equity issuers. For derivatives there are fewer quality

considerations relating to the product. All HSI futures contracts are identical, and the contract
design largely follows international practice. The more important quality issues for the derivatives
market relate to risk management and systems – discussed below under Infrastructure.
Going forward, HKEx will seek to address these issues through changes to the Listing Rules. Regarding issuers’
commercial performance, HKEx will be reviewing the requirements for initial listing to ensure that these remain
appropriate. Fresh proposals for continued listing and possible delisting of low-performing issuers will also be published
for market comment. There is room for improvement in the effectiveness of issuer regulation: a recent HKEx survey
1

shows that fund managers are only marginally satisfied with it . Accordingly, following the consultation on corporate
governance that was completed earlier this year, HKEx will be introducing enhancements to the corporate governance
requirements of the Listing Rules on a phased basis. A subsequent article will explain HKEx’s corporate governance
initiatives in greater depth.

Investors
Although the expectations of investors should be the main driver of market quality, it must not be forgotten that,
through their behaviour, investors also contribute to the quality of the market. Ideally, a market should have a good
1

28% of fund managers regarded the regulation of Main Board listed companies as effective; 25% regarded it as ineffective (HKEx Survey).


mix of investors with different views, so that they trade against each other, resulting in constant liquidity. The Hong
Kong market has traditionally been relatively fortunate in this respect. Over the past ten years, some 45 per cent of
stock market turnover has come from local retail investors, 29 per cent from overseas investors, 22 per cent from local
2

institutions, and 4 per cent from principal trading .
The sophistication of investors also contributes to market quality. Where investors trade speculatively, on rumour,
security prices are likely to be highly volatile, and price formation will not relate to fundamentals. Such characteristics

may deter some investors from participating at all. Although difficult to measure objectively, investor sophistication is
important for the market. In a recent HKEx survey, listed companies considered the investor base of the Hong Kong
3

market moderately attractive .
Investor protection and education are means to encourage investors to participate in the market; HKEx is working in
conjunction with the SFC and the Government to promote both. The new Securities and Futures Ordinance (SFO)
will strengthen the power of the SFC to regulate market manipulation and insider dealing; it will also bring certain
securities activities previously conducted by exempt dealers within the ambit of regulation. These measures will improve
investor protection. Amendments are also being made to the Companies Ordiance to enable investors to enforce their
rights against issuers. A subsequent article will deal with investor protection in greater detail.

Intermediaries
The main intermediaries in the secondary market are brokers, although banks play an increasingly important role in
4

serving stock investors . Investors want their brokers to behave honestly, safeguard their customer’s interests, be sufficiently
well-capitalised for their level of business activity, execute trades efficiently and give good professional advice – all at a
5

reasonable price. Most investors in Hong Kong appeared satisfied with the services provided by their brokers .
In the primary market, investors rely on intermediaries in a broader sense – investment banks and lawyers who prepare
the issuer for listing, and accountants who report on the truth and fairness of the company’s financial statements. In the
Listing Rules, there are specific requirements relating to the duties of sponsors. For example, sponsors are required to
ensure that the applicant company is suitable for listing, that the directors are aware of and can be expected to honour
their duties and obligations, and that all material statements in the listing document have been verified and comply
with the rules. These requirements complement the Code of Conduct for Financial Advisers recently introduced by the
SFC. The issuers who engage these intermediaries, and the investors who rely upon their work, expect them to observe
a high standard of professionalism. Surveys indicate considerable satisfaction with the services of primary market
6

professionals .
Looking forward, the SFO will bring in a unified licensing regime for securities and futures practitioners, including
corporate finance practitioners. This regime will enable some firms to streamline their capital requirements and operating
structures, so saving costs. HKEx will work with the SFC to streamline filing procedures for participants. For new
individual entrants to the industry, the licensing regime requires the passing of exams; the Hong Kong Securities
Institute acts as examiner and also provides continuing professional education. HKEx will also work with the SFC on
2
3
4
5
6

HKEx Cash Market Transaction Survey 2001.
41% of issuers considered the investor base attractive; 26% considered it unattractive.
49% of retail investors use banks only (HKEx Retail Investor Survey 2001).
80% of investors were satisfied with their broker’s stock trading services; 4% were dissatisfied (HKEx Retail Investor Survey 2001).
41% of respondents to an HKEx survey found the professional conduct of sponsors good; 21% found it poor. For lawyers the corresponding figures
were 65% good and 6% poor; for accountants 63% good and 8% poor.
October 2 0 0 2

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improving the professionalism of financial advisers under the latter’s Code of Conduct. Over time, these measures
should help raise standards in the industry.

Infrastructure – systems and technology

The “hardware” of the market is important to its quality. Brokers are the main direct
users of market systems. They require systems to be reliable, but also user-friendly,
low cost and efficient. They also require special functionalities to support their
operations, for example, quote maintenance mechanisms for market making.
Unfortunately, these objectives may conflict. Very high levels of reliability require
intensive engineering and back up facilities – all of which are expensive and must
ultimately be paid for by the user. This is not such an issue when transaction volumes
are high; but with the current low volumes, at least on the stock market, system cost
becomes a significant issue.
HKEx has made extensive investments in new infrastructure over the past couple of years. On the stock side, a new
trading system – AMS/3 – has been rolled out, and the clearing system is being upgraded in stages to CCASS/3. On the
derivatives side, trading has been migrated off the former Futures Exchange floor to the HKATS system, the stock
options market has been migrated from the former TOPS system to HKATS – so that all HKEx derivatives are trading
on one system. Surveillance of the market is conducted through the automated monitoring system SMARTS.
Going forward, HKEx will seek to further integrate its systems so as to improve efficiency and productivity for market
users. A new derivatives clearing system DCASS will be introduced next year to bring better integration between the
clearing platform with the trading platform HKATS. An integrated front end will be developed so that exchange
participants can more easily access HKEx systems. And HKEx will participate actively in the development of the
scripless trading environment and other financial infrastructure initiatives recommended by the Steering Committee
for the Enhancement of Financial Infrastructure.

Infrastructure – rules and policy framework
Just as important as the hardware is the market “software” of rules and policies. The policy objectives here are to
maintain market integrity and systemic stability, while at the same time allowing as free play of market forces as
possible.
Access to the Hong Kong market is relatively unrestricted. In contrast with some overseas markets, there are no restrictions
on foreign investment into the market, or on overseas investment by domestic players. For intermediaries, access is
open to foreign-owned as well as domestic players. To become a participant, a broker has to acquire a trading right.
HKEx is currently prohibited from issuing new trading rights at prices lower than HK$3 million for the stock market
and HK$1.5 million for the futures market under the terms of the merger of the former stock and futures exchanges.

However, this prohibition will end in March 2004.
The risk management process aims to maintain systemic stability. Thus, in addition to maintaining minimum levels of
liquid capital proportionate to their business volumes, brokers are required to provide margin for their derivatives
positions, and to deposit more margin if the value of their positions changes adversely.


HKEx is in the process of reviewing its rules and the overall policy framework to see where improvements can be made
to facilitate trading without unduly increasing risk. For example, a new regime for the issue and listing of derivative
warrants was implemented in early 2002 which has led to increased issue and trading of such instruments. Also,
relaxations to the regimes governing short selling and derivatives trading are being examined in conjunction with the
SFC. A more comprehensive review of the derivatives market trading environment will be made in the coming year.
HKEx is also working with the SFC and the Government in the review of the public offering mechanism. Some
simplification and streamlining to the procedures in the Companies Ordinance is to be introduced to provide relief in
the nearer term, while at the same time work is beginning on a fundamental review of the public offering provisions of
the ordinance.

Information
The functioning of the market depends on information flows – among players, from players to regulators, and even
from regulators to the market and the public as a whole.
In the primary stock market, issuers are required to make full disclosure of their affairs to enable investors to properly
evaluate them. In the secondary stock market, orders are released via datafeeds to vendors and from there to all market
users as soon as they are entered into the system. All players, investors as well as brokers, get the same information at
essentially the same time. The Hong Kong market is thus more transparent than many other markets overseas – for
example, those in which the specialist gets a privileged view of the order flow or the market maker is allowed to delay
publication of his trades.
Transparency also applies to the market operator and the regulators. They need to make their policy decisions and
development plans clear, so that market users can follow accordingly. And regulatory judgements have to be seen to be
fair, with a clear avenue for appeal.
HKEx is working on changes to the Listing Rules to implement the improvements in corporate disclosure that it
proposed in a consultation earlier this year. A subsequent article will give further details on this. In the derivatives

market, more information will be shown on market depth to facilitate trading. HKEx has already introduced an alternative
quotation-based charging mechanism to facilitate trading by investors who do not require the full information service.
Regulator and market operator
The above section describes the elements of the market in which quality manifests itself. However, the players in the
market – the issuers, investors and intermediaries – are not themselves motivated to contribute to market quality unless
that is seen to be to their benefit. The development of a quality market depends on the efforts of the market operator
and regulator to design, operate and enforce market standards. Their efforts will, ideally, create a virtuous circle of
quality in the market place.
To achieve this, HKEx works closely with the statutory regulator – the SFC – and the Government under the “threetiered regulatory structure” to develop market policies, systems and products that meet broader market needs and
facilitate the achievement by the various market players of their objectives. This is done in consultation with market
players. However, it is not an easy task because the objectives of the different players may conflict – for example issuers
would like to achieve higher prices for their stock, and subscribing investors would like to pay less. Nor is it necessarily
a matter of striking a balance between the two. Rather, the ideal is to optimise the fulfilment of objectives for all players,

October 2 0 0 2

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so that issuers, intermediaries and investors have the opportunity to prosper together. Good market design creates winwin scenarios for all the players.
In addition to market design, HKEx has a major responsibility for the operation of the secondary market, ensuring that
the core infrastructure functions efficiently and reliably. Considerable press attention has been directed to system
outages that have occurred in the past year. Ideally, these incidents would have been avoided. While they had not, it is
perhaps worth pointing out that, on the whole, these systems have operated with a high degree of reliability. During the
12 months to June 2002, HKATS system availability was 99.97 per cent of the total operable time (the system was
down for 89 minutes out of 257,431 minutes of mission time). The availability for CCASS was 99.99 per cent and that
for AMS/3 100.00 per cent. That said, HKEx strives to improve system availability even further through thorough
examination of the root cause of any system problem with a view to minimising and avoiding the risk of repeat incidents

in the future.
HKEx also bears the core responsibility for risk management. A surveillance team watches the market for signs of
abnormal trading and refers any suspected cases to the SFC for possible investigation. The SFC has powers to prosecute
suspected cases of insider dealing or market manipulation.
HKEx sets and enforces rules for issuers to access the market (the initial listing requirements) and continuing requirements
on disclosure and corporate governance. HKEx’s powers are non-statutory; however the SFC – and if necessary the
Government through, for example, the Commercial Crimes Bureau – have statutory powers to investigate and bring
cases to prosecution. This is consistent with the division of responsibility under the three-tier regulatory structure.
HKEx’s role as the first tier or front-line regulator was reaffirmed by all concerned - the Government, the SFC, the
Stock Exchange of Hong Kong and the market at large - during the process leading up to the demutualisation and
merger of the former exchanges in 2000. The Merger Ordinance includes specific provisions ensuring checks and
balances on HKEx’s exercise of its regulatory functions; for example, the maintenance of a “Chinese wall” between the
regulatory function and the business functions within HKEx, and the oversight by the SFC. While experience since the
merger shows that there is room for improvement in the operation of the three-tier regulatory structure, there is strong
justification for HKEx’s role as the first tier or front-line regulator (including its responsibility for listing matters) to be
maintained.
The Financial Secretary has appointed an Expert Group to review the three-tier regulatory structure. HKEx will
cooperate fully with the group and assist it in its work.
Conclusion
The above discussion attempts to set out a framework for evaluating the quality of the market as a whole. Applying the
framework to the Hong Kong market highlights areas of high quality, and also areas where improvements are needed.
While as market designer and operator, HKEx has a major responsibility for the quality of the market, other regulators
and the Government have an important part to play. And the activities of the issuers, investors, and intermediaries also
contribute to market quality.
The quality of the Hong Kong market is important because quality is the key value proposition that Hong Kong offers
the world, and the Mainland of China in particular. The Mainland securities markets have been progressing rapidly and
achieved a certain critical mass. However, because of China’s current state of development, including its restrictions on
7
foreign participation and currency convertibility, Hong Kong still has a substantial quality edge . As China opens its
market under the WTO framework and raises its own standards, it will be important for Hong Kong to maintain its

edge. The combined efforts of the market community will be needed to achieve this goal.
7

57% of issuers, fund managers, and investment banks rated their confidence in the Hong Kong primary stock market as high and 12% rated it as low
(HKEx Survey).


HKEx will introduce the Mini-Hang Seng Index (HSI) Option contract
on 18 November 2002. The Mini-HSI Option contract is being introduced
to satisfy the trading and hedging needs of retail investors and in view of
their growing interest in HSI Options and the Mini-HSI Futures contract,
which began trading in October 2000 (see Chart 1 for volume performance).
The new contract will give retail investors additional flexibility, allowing
them to participate on a smaller scale, compared with the existing HSI
Option contract, in the performance of the 33 blue-chip stocks in the
benchmark HSI at a fixed level of risk. Mini-HSI Options will also give
retail investors a new instrument for managing their portfolio risk.

Chart 1: HSI Options and Mini-HSI Futures Monthly Volume (Contracts)
120,000
Mini-HSI Futures
HSI Options
100,000

80,000

60,000

40,000

20,000

Aug-02

Jul-02

Jun-02

May-02

Apr-02

Mar-02

Feb-02

Jan-02

Dec-01

Nov-01

Oct-01

Sep-01

Aug-01

Jul-01

Jun-01

May-01

Apr-01

Mar-01

Feb-01

Jan-01

Dec-00

Nov-00

Oct-00

0

Key product features
The contract multiplier of the Mini-HSI Option contract will be $10, making it one fifth the size of the existing HSI
Option contract. The contract will have a broad range of strike prices and four different contract months, allowing
investors to create positions that match their preferred market exposure. Table 1 shows the contract specifications for
Mini-HSI Options.

October 2 0 0 2

11

12

Other key product features of the new contract include the following:
•

Mini-HSI Options’ daily settlements and contract expirations will use the same settlement price
as the existing HSI Option contract; and

•

The two contracts will be fungible (i.e. positions in the two contracts can be offset) at the ratio of
one HSI Option contract against five Mini-HSI Option contracts of the corresponding series.

Together, these arrangements will allow the Mini-HSI Option contract to benefit from the liquidity of the larger HSI
Option contract.
In addition, a margin offset of 100 per cent will be applicable to the product group containing the Mini-HSI Option
and HSI Option contracts, with the delta/spread between the Mini-HSI and HSI Option contracts of the corresponding
series set at a ratio of five to one.
Usage of Mini-HSI Options

Buying Mini-HSI Options with limited risk
Unlike futures, where an investor is absolutely committed to a long or short position until closing his position, MiniHSI Options will give the buyer the right, but not obligation, to participate in the price performance of the HSI at a
predetermined price. Buying a call option will give an investor the right to benefit from a rising HSI, while a put
purchase will allow him to benefit from a falling HSI.

Selling options for premium
Selling options, on the other hand, creates a potential obligation in exchange for the option premium. The risk and
reward profile in this case is different from buying options. Of course, it is always possible to liquidate one’s option
position by buying or selling an offsetting option before expiration.

Advantages of trading Mini-HSI Options
There will be many advantages of trading Mini-HSI Options, including the following:
•

Participate in the performance of the Hong Kong stock market as a whole by using Mini-HSI
Options with limited risk as an inexpensive alternative to stock ownership;

•

Hedge portfolios smaller than the contract value of the standard HSI Futures contract. Also, in
conjunction with the standard HSI Futures and Option contracts, investors will be able to use
Mini-HSI Options to fine-tune hedging activities;

•

Protect portfolio value against adverse price moves; and

•

Profit from a volatile market regardless of its direction. A retail investor will be able to use MiniHSI Options to create an option position that combines the buying of calls and puts. This position
will become profitable as soon as the HSI moves sufficiently, either up or down.


The introduction of the Mini-HSI Option contract will provide retail investors with an additional investment and
trading tool to participate in the upside and downside movement of the HSI at a fixed level of risk and on a smaller
scale compared with the existing HSI Options. Investors will also be able to use Mini-HSI Options to limit losses and
protect profits, positions and portfolios.
Market education
To familiarise the market with Mini-HSI Options, HKEx is arranging an education programme, including seminars
for investors and briefings for brokers and their professional associations. Exchange Participants can gain a thorough

understanding of Mini-HSI Options by completing the Continuous Professional Training Course on the subject
organised by HKEx. HKEx has been publishing educational articles introducing the features of Mini-HSI Options
along with common trading strategies. In addition, frequently asked questions about Mini-HSI Options and other
information on the new product such as the contract specifications are available on HKEx’s website for investors’ easy
reference. Materials for independent study on Mini-HSI Options will also be available on HKEx’s website soon.
Continuous Professional Training (CPT) Courses on Mini-HSI Options
Date

Chinese sessions
28 Oct 02
6 Nov 02
10 Dec 02
English session
29 Oct 02

Time

5:15 – 6:45 p.m.

Venue

Trading Hall, 1/F, One and Two Exchange Square, Central

Contents

■
■
■
■
■

■

Fee

How Mini-HSI Options benefit retail investors
Practical applications of Mini-HSI Options
Key product features (including position and margin offset)
Liquidity arrangement
Trading tips on Mini-HSI Options
Market information on Mini-HSI Options
HK$75 per session

For details of the CPT Courses, please call 2526 5190.
Investor Seminars
Date

1 Nov 02

Time
Venue
Medium
Fee

11 Nov 02

18 Nov 02

5 Dec 02

7:30-9:00 p.m.

Lecture Hall,
Space Museum

Tsuen Wan
Town Hall

Lecture Hall,
Space Museum

Recital Hall,
City Hall

Cantonese
HK$40

Tickets for investor seminars are available for sale at URBTIX outlets. For enquiries, please call 2734 9009.

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Table 1: Contract Specifications for Mini-HSI Options
Underlying Index

Hang Seng Index (HSI)

Contract Multiplier

$10 per index point

Contract Months

Spot Month, the next calendar month and the next two
calendar quarter months

Trading Hours

9:45 a.m. – 12:30 p.m. and
2:30 p.m. – 4:15 p.m. (Hong Kong time)

Trading Hours on Expiry Day

9:45 a.m. – 12:30 p.m.
2:30 p.m. – 4:00 p.m. (Hong Kong time)

Trading Method

HKATS, the Hong Kong Futures Automated Trading System

Expiry Day

The Business Day immediately preceding the last Business Day
of the Contract Month

Contracted Value

Option Premium multiplied by the Contract Multiplier

Strike Prices

Strike Prices shall be set as follows:
HSI (index points)

Intervals

Below 2,000

50

At or above 2,000 but below 8,000

100

At or above 8,000

200

Exercise Style

European

Settlement on Exercise

Cash settlement of the Final Settlement Value

Final Settlement Day

Business Day immediately following Expiry Day

Official Settlement Price

The average of the quotations of the HSI taken at 5 minute
interval during the Expiry Day

Minimum Fluctuation

One index point

Trading Fees and Levies
(per contract per side)

Exchange Fee

$2.0

SFC Levy

1.0

Compensation Fund Levy

0.5

Total
Exercise Fees

$2.0 per contract

Commission Rate

Negotiable

$3.5


To cope with future market demand

maintain and monitor the access

To ensure CCASS Participants have

and increase the competitiveness of

rights. Hong Kong Securities Clearing

sufficient time to make the necessary

the Hong Kong securities market,

Company Limited, a wholly-owned

arrangements for the contingency

CCASS/3, the next generation of the

subsidiary of HKEx, will manage the

procedures, a paper titled CCASS/3

Central Clearing and Settlement

administration rights of the Delegated

Stage 2 Rollout Contingency Plan was

System (CCASS), will bring major

Administrators based on written

distributed to them on 25 July. In

infrastructure upgrades to the system

instructions from the CCASS

addition, HKEx has been collecting

and new features to current CCASS

Participants.

comments from CCASS Participants
and meeting with major industry

functions. After the new technical
infrastructure was successfully

For CCMS, the new system is

associations and practitioners since

introduced in CCASS/3 Stage 1 in

equipped with the processing

August. Constructive comments have

May of this year, HKEx began

capability for a much wider range of

been received and they are being

preparing for the CCASS/3 Stage 2

collateral types and allows for different

incorporated into the final

rollout of the new functional

collateralisation methods than

contingency procedures.

architecture. The Stage 2 rollout is

currently provided by CCASS. In

expected to be completed by year-end.

future, CCMS will also be able to

To ensure smooth implementation,

p r ov i d e f l e x i b i l i t y f o r f i r m s

HKEx has organised a series of

The functional architecture upgrade

participating in both the securities and

practice and training sessions for

includes the introduction of multiple-

derivatives markets to manage their

CCASS Participants on CCASS/3

market capability with different

overall collateral requirements in

Stage 2. A number of market rehearsal

settlement cycles and the ability to

meeting their obligations with HKEx.

tests have also been arranged to ensure

provide extended operating hours.

The securities component of CCMS

the proper functioning of the system

Apart from the architecture upgrade,

will be rolled out as part of CCASS/3

in a production-like operating

new functionalities will also be

Stage 2, while the derivatives

environment. The first two rounds of

introduced to further facilitate

component will be separately

market rehearsal tests were conducted

CCASS Par ticipants’ business

implemented as part of the DCASS

on 7 July and 18 August. Although a

operations. They include new security

(Derivatives Clearing and Settlement

number of participants were not able

management functions and a

System) project.

to complete their testing during the
August rehearsal because of technical

Common Collateral Management
As part of HKEx’s project risk

difficulties, there were no major

management measures, detailed

incidents involving the new functions

Following the implementation of

contingency procedures are being

to be rolled out. HKEx has taken steps

CCASS/3 Stage 2, CCASS

finalised for the unlikely event of a

to resolve technical issues associated

Participants will be able to maintain

major CCASS/3 Stage 2 system failure

with the testing environment to pave

user access rights for authorised

during the initial stabilisation period

the way for smooth runs by all

CCASS users directly in CCASS. Each

following implementation. In such a

participants in the subsequent market

CCASS Participant will appoint at

case, the CCASS/3 Stage 1 system

rehearsal tests.

least two Delegated Administrators to

would need to be restored.

System (CCMS).

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HKEx is developing a new derivatives

and margining. The CCMS

derivatives clearing houses and will

clearing infrastructure to replace the

application will provide the collateral

leverage on the DCASS technical

current systems operated by the

management and payments

infrastructure.

HKFE Clearing Corporation Limited

functionality between clearing houses

(HKCC) and The SEHK Options

and Participants. CCMS has been

Recently, HKEx reviewed the

Clearing House Limited (SEOCH),

designed to accommodate the

reporting and data access

and the clearing houses. A major

requirements of both the securities

requirements of Participants and the

feature of DCASS is online access for

and derivatives markets.

clearing houses to identify the

which are both wholly-owned
members of the HKEx Group. The
new Derivatives Clearing and
Settlement System (DCASS),
comprising the core derivatives
clearing and settlement functionality
and the margining engine, will be
linked with the Common Collateral
Management System (CCMS).
DCASS will provide a significant
improvement in clearing functionality
for HKCC and SEOCH Participants

necessary functionality in DCASS. A

transaction input and data retrieval,
through the DCASS Workstation and

HKEx believes the combination of an

general briefing and consultation with

Participant developed applications

open and flexible system with the high

Par ticipants was held in late

that will be connected to DCASS

performance and capacity of DCASS

September to ensure the proposed

through the Application Programme

will enable the derivatives market to

reporting and data access functions

Interface.

function more efficiently and provide

meet their requirements.

a platform for future market
The DCASS application will run on

development.

Training will be provided in the fourth
quarter for the DCASS Workstation,

the HKATS (Hong Kong Futures
Automated Trading System) host

The DCASS project has now

C C M S Te r m i n a l a n d m a r g i n

machine and share its network

progressed to the specification and

calculation engine. To ensure smooth

infrastructure. DCASS also provides

development of the reporting and data

implementation, both Participant

the core functionality related to trade

access functions, which will meet the

Readiness and Market Rehearsal tests will

registration, position management

combined requirements of the two

be held in the first quarter of next year.


HKEx is planning to introduce Third Party Clearing to the Hong Kong securities market in 2003. Third Party Clearing

is a concept whereby the clearing process and settlement obligations relating to trades conducted on the Stock Exchange
are transferred from the executing Exchange Participant to a designated third party General Clearing Participant or
GCP.
Third Party Clearing is a relatively new concept for securities markets, but has been a longstanding feature of derivatives
markets worldwide.
The Third Party Clearing model under consideration provides Exchange Participants with an option to focus on their
securities dealing business and outsource the clearing and settlement of the trades executed on the Stock Exchange to a
designated GCP. Under this arrangement, the Exchange Participant will be categorised as a Non-Clearing Participant
(NCP).
Third Party Clearing will create two new types of CCASS (Central Clearing and Settlement System) Participants,
General Clearing Participant (GCP) and Direct Clearing Participant (DCP). Exchange Participants who continue to
clear and settle their own trades will be reclassified as DCPs. A DCP will have the same rights and obligations as today’s
CCASS Broker Participant. A DCP can only clear its own trades. A GCP will be either a registered dealer (with or
without an Exchange trading right) under the Securities Ordinance or an authorised institution under the Banking
Ordinance. A GCP will be able to clear its own trades (if it is also an Exchange Participant) and trades executed by NCP
Exchange Participants who have designated that GCP to act for them.
A NCP will have to appoint a GCP as its designated third party clearer prior to trading. Both the NCP and GCP will
have to enter into an agreement to be approved by HKEx before the Third Party Clearing arrangement comes into
effect. The agreement will contain the terms and conditions prescribed by HKEx in addition to any commercial terms
that have been agreed between the two parties.
Benefits
The introduction of Third Party Clearing will benefit both Exchange Participants and CCASS Participants.
Firstly, Exchange Participants will have more options in formulating their business strategies by being able to choose the
type of relationship with HKEx that meets their business needs and financial strength.

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Secondly, by giving up its clearing functions to a GCP, an NCP will not be obliged to fulfill the funding requirements
arising from the risk management measures of the Hong Kong Securities Clearing Company Limited, a wholly-owned
subsidiary of HKEx, such as marks, guarantee fund contribution and collateral. An NCP will be able to manage its
capital in a more flexible manner and potentially more efficiently.
Thirdly, the netting efficiency in CCASS is potentially higher when trade settlement is concentrated in fewer Clearing
Participants. This may increase the overall settlement efficiency and reduce settlement risk in CCASS.
Lastly, there may be settlement cost savings for both GCPs and NCPs. For GCPs, the average processing cost of a
transaction may be lower as a result of economies of scale. GCPs may be able to offer clearing services to NCPs at lower
settlement costs than if the NCPs were to run their own operations. This may also reduce the cost of securities transactions
for investors.
Market consultation
In July of this year, HKEx issued a consultation paper to solicit comments from Stock Exchange Participants, CCASS
Participants and market practitioners on Third Party Clearing (a copy of the consultation paper can be downloaded
from HKEx’s website: www.hkex.com.hk). The consultation period lasted for one month and there were 16 submissions,
four from brokers’ associations and 12 from CCASS Participants.
The general comments were positive, with many respondents welcoming the Third Party Clearing concept as it would
provide a more flexible way for brokers to run their businesses. Third Party Clearing was also seen as an important
strategic move to reinforce Hong Kong’s position as a global financial centre. The detailed comments are mainly
focused on three areas, admission requirements, management of NCP risk exposure and the detailed arrangements
between the GCP and NCP. Some respondents were keen to know more about how the tangible benefits could be
realised, the additional risks to be assumed and the likely cost. Several respondents expressed interest in providing Third
Party Clearing services.
Based on the responses to the consultation paper, further study is now underway on
the details of the final working model. In the process, HKEx will fine-tune the
proposed admission criteria and risk management framework, taking into
consideration of the comments received. The market will be consulted on the
detailed model after it is completed. The target date for the introduction of
Third Party Clearing is the first quarter of next year.

HKEx issued a consultation paper on the extension of trading hours on 4 September 2001, inviting comments from
market participants and members of the public on proposals to extend the current trading hours of the securities and
derivatives markets. A total of 997 responses were received, 364 from participants in the stock and futures exchanges
and 633 from other respondents, including institutions and individuals.
Based on the responses received, Exchange Participants generally agreed with the proposed extension of the morning
and afternoon sessions. However, few Exchange Participants supported the introduction of an evening session. Their
main concerns were market volatility, settlement and risk issues, the financial infrastructure (including the services
provided by the banking sector and the clearing houses) and the contribution of the evening session to the total market
turnover.
The following is a summary of the responses.
Consultative Comments

Yes

No

223

141

34

6

195

398

452

545

Should the current trading hours be extended?
•
•
•

1

Exchange Participants

2

Other respondents - Institutions

3

Other respondents - Individuals

Out of 452 respondents who supported the extension of the current trading hours:
•

Extend the close of the morning session

328

124

•

Extend the close of the afternoon session

301

151

•

Introduce an evening session

47

405

1

including 296 Stock Exchange Participants and 68 Futures Exchange Participants
including fund managers, professional bodies and information vendors
3
including securities practitioners, investors and members of the public
2

Risk management issues
Some Exchange Participants anticipated additional operational risks with the extension of the afternoon session, mainly
in the funding of day-end marks in the securities market, the funding of day-end margins in the derivatives market and
the collection of margins from clients after the markets close. These risks are primarily associated with the inability to
arrange funding for payments and to transfer funds from one bank to another after normal banking hours.
In view of the concerns raised, HKEx performed a detailed risk assessment, including but not limited to market risk,

operational risk and legal risk, in relation to the extension of the morning and afternoon sessions from the perspective
of Exchange Participants and HKEx. The results of the review were reported to HKEx’s Risk Management Committee.
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Board approval in principle
After taking into account the responses of Exchange Participants, the risks associated with the extension of trading
hours and current market conditions, HKEx’s board of directors approved in principle on 26 July an extension of the
trading hours of the securities and derivatives markets.
The proposed new trading hours are as follows:
Securities, Hong Kong stock options and Hong Kong stock futures markets
Morning session

10:00 to 12:30 (no change)

Afternoon session

14:00 to 16:30 (current afternoon session: 14:30 to 16:00)

* Following the current arrangements, there will be no lunch break for the Exchange Traded Funds traded under the pilot programme:
iShares MSCI South Korea Index Fund and iShares MSCI Taiwan Index Fund.

Index derivatives markets excluding Dow Jones Industrial Average (DJIA) Futures
Morning session
Afternoon session

9:45 to 12:30 (no change)
14:00 to 16:45 (current afternoon trading session: 14:30 to 16:15)

DJIA Futures
Morning session
Afternoon session

9:00 to 12:30 (no change)
14:00 to 16:45 (current afternoon trading session: 14:30 to 16:15)

There will be no change in the trading hours for interest rate derivatives and International Stock Futures and Options.
Market readiness programme
HKEx will co-ordinate an industry-wide effort to educate Exchange Participants and investors on changes arising from
the extension of trading hours. A series of activities including briefing sessions and seminars will be organised, and
market rehearsals will be held to ensure the readiness of market participants.
Implementation
HKEx is currently discussing the details of the proposal with market participants and will seek the Risk Management
Committee’s endorsement of the operating and contingency arrangements for extended hours. The implementation of
new trading hours requires amendments to the exchange rules, which are subject to the approval of the Securities and
Futures Commission (SFC). Given the time needed for market preparation, HKEx expects to implement the new
trading hours early next year, subject to the SFC’s approval.
After implementation, HKEx will monitor market activities during the extended trading hours and will review the new
arrangements in light of the experience gained and the market environment.


The Common Frontend Project is aimed at providing a single trading screen to access all of the equity and derivatives
products offered by HKEx with possible extension to overseas markets for HKEx alliances with other major exchanges.
Trading facilities currently provided by HKEx are designed for single market access only. The first/second terminals and
multi-workstation systems supported by AMS/3, the Third Generation Automatic Order Matching and Execution
System, are dedicated for the stock market whereas the Click terminals connected to HKATS, the Hong Kong Futures

Automated Trading System, are used for the derivatives market only. A similar situation occurs with the majority of
frontend systems acquired or developed by Exchange Participants. Very few broker firms have frontends with the
necessary technical sophistication to achieve multi-market connectivity.
The Common Frontend Project is part of HKEx’s continuous effort to further enhance the trading infrastructure and
access capability of Exchange Participants. A task force has been set up to explore the feasibility of satisfying the
following objectives:
•

Provide a single trading screen for convenient access to all HKEx equity and derivatives
products;

•

Achieve cost savings in dealing rooms via a reduction in the number of trading workstations
and desktop spaces resulting from an integrated trading interface;

•

Increase the capability of Exchange Participants to execute hedging and arbitrage transactions
among different products and different markets in a speedy and effective manner;

•

Provide an open infrastructure for Participant connectivity to other markets in a timely
manner for alliance arrangements with overseas exchanges;

•

Reduce broker investment on frontend solutions for access to new markets and new products
through better technology and economies of scale.

The task force has invited a number of major local and international system suppliers to submit proposals for the
common frontend. The proposals are now being assessed on the proposed integration approach, functionality of the
solution, technology architecture and
commercial arrangements. The aim is to
determine whether there are solutions that can
satisfy our business and technical requirements.
HKEx will update Participants on the progress
of the project when a decision is made for the
way forward.

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CHATROOM
with Chief Financial Officer & Treasurer David Cheung

with Chief Financial Officer & Treasurer David Cheung

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Q1: What are your main duties and responsibilities as Chief Financial Officer
and Treasurer?
A1: As my title suggests, most people might assume that my role is quite a traditional one,
as with any listed company. Having said that, there are actually some special attributes to
my duties and responsibilities. Given the unique profile of HKEx, as the holding company
of the Stock and Futures Exchanges and a listed company itself, there
are some added demands.

We strive to lead by example and put a lot of effort into ensuring a high
level of transparency in HKEx’s own financial disclosure. With newly
introduced Hong Kong accounting standards or International
Accounting Standards, we would always try, to the extent
feasible, for early adoption before the effective date of such
standards. We also provide practical comments to various
accounting and professional bodies on accounting issues.
In my role as the Treasurer, I supervise a team of treasury
professionals. We manage the company’s own corporate cash,
as well as the cash and investments from margin funds and
clearing house funds. In aggregate, the total cash available
for investment is around $9 billion.
Prior to the merger of the stock exchange, the futures
exchange and the clearing houses, with the exception of futures exchange, there were no formal
treasury operations to speak of. All the cash available was kept essentially in bank deposits, so
they were missing out on significant opportunities to optimise investment returns.
We had to start almost from scratch to build an HKEx Treasury function. We recruited an
experienced treasury team, established a new investment policy and guidelines, set up a
compliance monitoring mechanism as well as a Value-at-Risk or VAR tracking system,
which most financial institutions have adopted. The board, being fully aware of the
importance of the investment function, also constituted an Investment Advisory
Committee (which reports to the board) to oversee this role. The primary
functions of this Committee are twofold - to monitor the performance of
the fund managers and to advise the board on Treasury investment
matters. The day-to-day investment operations are run by Treasury.


All investment policies and guidelines are reviewed and approved
by the board.
With $9 billion at stake, we realised how much shareholder value could be

enhanced by having a well-organised and well-managed treasury function. Our
vision was that with a mere 1 per cent increase in return over the pre-merger operation,
the bottom-line improvement would already be $90 million.
Q2: Could you give us a brief description of HKEx’s Treasury operations, which seem
to handle a large amount of funds between the companies’ revenues and market
participants’ margin deposits on derivatives contracts?
A2: We have three pools of cash and investments. Out of the $9 billion total cash and investments,
$4.5 billion is corporate funds, which are HKEx’s own capital and retained earnings, $3.5 billion is
margin funds derived from margin deposits on derivative contracts, $1 billion is clearing house
funds for the specific purpose of Participant settlement risk guarantees. Since the investment objectives
and requirements of the funds are different, the funds are segregated and managed separately under
different sets of investment guidelines. For example, in terms of corporate funds, we can invest in
equities as well as bonds with longer maturity (i.e. 7 years or less) because the investment horizon is
longer term. In contrast, with respect to margin funds and clearing house funds, we cannot invest in
equities and most of the cash have to be kept as either overnight bank deposits or shorter maturity (i.e.
3 years or less) bonds.
Margin funds and clearing house funds have high liquidity requirements hence
decided to be best managed internally by the Treasury department. With
respect to corporate funds, we have allocated $4.5 billion almost equally to
three external fund managers and our internal Treasury. The idea is to
have the fund managers compete with each other on the best absolute
return with proper diversification of the overall investment portfolio.
With respect to margin funds, margin deposits
are collected from the Participants based on
the product risk and market volatility of
derivatives contracts. As the level of margin
requirements vary significantly on a daily
basis and even on an intra-day basis,
there is a need to maintain a very high
level of cash daily and intra-day. We

work closely with HKEx’s Clearing
Unit and settlement banks on this
aspect of the Treasury operation.

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