2022.10.27 XIE, Qing (Natasha)、 ZHANG, Chi (Austin) LUO, Danchen
The “short-swing” trading of shares in a listed company is prohibited for shareholders who own 5% or more shares of such listed company as well as the directors, supervisors, and senior management personnel of such listed company. Article 44 of the Securities Law (amended in 2019) (the “Securities Law”) stipulates that when a shareholder holding 5% or more of the shares of a listed company or a NEEQ-listed company or the company’s director(s), supervisor(s), and senior officer(s) sells their company shares or other equity-type securities within six months after purchasing such shares or securities, or they purchase company shares or other equity-type securities within six months after selling such shares or securities, the gains generated (if any) shall be returned to the company. It also states that the securities regulatory authority of the State Council may specify circumstances that are exempt from this rule.
It was recently reported1 that the China Securities Regulatory Commission (CSRC) is now formulating two new exemptions on the short-swing profit rule for foreign investors to further facilitate their investments in the country’s A-share market. The measures will include: (1) in reference to domestic public funds, allowing qualified foreign public funds to calculate securities holdings on a product basis; and (2) exempting Hong Kong Securities Clearing Company Limited from the application of certain short-swing profit rules. The article stated that the CSRC has almost finalized the specific exemption rules and implementation measures and is currently undergoing the relevant procedures for rulemaking. These rules are expected to be officially released in due course.
Below are our observations on the relevant key points disclosed by the media.
I. Allowing Qualified Foreign Public Funds to Calculate Securities Holdings on a Product Basis in Reference to the Applicable Rules for Domestic Public Funds
When determining if the 5% shareholding is triggered under the short-swing profit rule, the CSRC has determined that shares with voting rights held by an investor and the persons acting in concert shall be calculated on an aggregated basis, with reference to Article 12 and Article 83 of the Administrative Measures for Takeover of Listed Companies (amended in 2020). However, early in 2007, the CSRC has exempted domestic public funds from the aggregation of positions; that is, a domestic public fund manager is allowed to disaggregate the positions held by each public fund and therefore the short-swing profit rule does not apply to the 5% or more positions aggregately held by all public funds. A similar exemption has also been applied to the National Social Security Fund (NSSF). Pursuant to the Reply to Several Issues Concerning the Entrusted Investment of the National Social Security Fund (Zheng Jian Han  No. 201) issued by the CSRC in 2002, in the event that the NSSF holds 5% of the shares of a listed company, if the investment decisions made by the NSSF and each investment manager, and the different investment managers are independent of each other, then the purchase and sale of the shares in such a listed company are not subject to the six-month holding period restriction. If the investment decisions made by the NSSF and each investment manager, or by different investment managers are not independent of each other, or if a single investment manager holds 5% or more of the shares in a listed company, then it shall perform the relevant information disclosure obligations relating to changes to equity holdings and abide by the short-swing profit rule.
It was reported that according to the authorization provided in Article 44 of the Securities Law, the CSRC plans to extend the applicability of the above-mentioned exemption to qualified foreign public funds. With reference to the current rules applicable to domestic public funds for the disaggregation of positions held by each public fund, we expect that the rules will allow qualified foreign fund managers to calculate shareholdings based on every single public fund, and not on the public fund manager level, when calculating shareholdings for the short-swing profit rule in A-shares. It remains to be seen whether the CSRC will consider the independence of investment decision-making power as well as voting rights among investors/products when determining whether the calculation should be disaggregated, referring to the approach for the NSSF and the existing regulatory practice, or simply allow disaggregation for all foreign public funds.
Similar to the discussions regarding the short-swing profit rule, a question concerning asset managers has arisen, i.e., whether the positions held in the accounts of multiple products shall be aggregated when considering the information disclosure requirement for changes to equity holdings in a listed company, namely, to determine whether there is a shareholder whose holdings reach 5%. The existing regulatory practice is that since public funds are unable to initiate general tender offers, a domestic public fund manager may choose not to make a disclosure with respect to the fact that holdings of shares in a listed company by multiple public funds under its management have reached 5% aggregately, i.e., exempt domestic public funds from the aggregation of shareholdings. It is still unknown whether the CSRC may apply a similar regulatory approach to exempt foreign public fund managers from the aggregation of shareholdings in a scenario whereby the 5% shareholding threshold for information disclosure requirements is triggered.
II. Exempting Hong Kong Securities Clearing Company Limited from Certain Short-Swing Profit rules
Under the Stock Connect scheme, shares purchased by investors through Shanghai-Hong Kong Stock Connect and Shenzhen-Hong Kong Stock Connect shall be registered in the name of Hong Kong Securities Clearing Company Limited (HKSCC), and investors are legally entitled to the rights and interests in these shares. HKSCC shall open a nominee holder account with the China Securities Depository and Clearing Corporation Limited to record the balance of all shares held under its name as a nominee holder.
Given that HKSCC, as a nominee holder, only holds the relevant shares on behalf of the investors, and does not participate in the trading and investment decision-making, nor does it enjoy the rights and interests in the shares, the Shanghai Stock Exchange and the Shenzhen Stock Exchange have specified in their implementation rules that information disclosure rules on changes of equity holdings shall not apply to HKSCC, if the threshold for changes of equity holdings is triggered; however, it is currently unclear whether the aforesaid exemption will apply mutatis mutandis to similar circumstances, for example, will HKSCC be exempt from the short-swing trading restrictions if it holds 5% or more of the shares nominally. It was reported that the CSRC will grant exemptions to HKSCC on certain short-swing profit rules in the new rules.
III. Our Observations
Domestic public funds and the NSSF have been exempt from short-swing trading restrictions and the aggregation of positions under certain circumstances. Now foreign institutional investors eagerly await clarification from the regulatory authorities regarding the relevant exemption rules and whether they agree to apply the same mutatis mutandis on foreign institutions. The CSRC’s proposed exemptions would help to unify the standards applicable to both domestic and foreign institutions, which we believe is conducive to foreign investors' investments in the A-share market. We hope that the CSRC could clarify that the same exemptions will be applied to information disclosure on equity holding changes, so as to further facilitate foreign investment in the A-share market.
We will closely monitor the legislative and regulatory developments and keep our clients apprised of the latest updates.
1. See Shanghai Securities News, China Securities Regulatory Commission Is Formulating Short-Swing Profit Rules Specifically Applicable to Foreign Investors to Facilitate Foreign Investments in A-Share Market, October 16, 2022, at https://news.cnstock.com/news,yw-202210-4968198.htm.