Pacific Wealth: Discretionary Account Churning and a Client Complaint
Mr. Lee, aged 75, is a retired widower with HKD 12 million in a discretionary account at Pacific Wealth Securities, licensed for Type 1, 4 and 9 activities. His risk profile is 'conservative income', and his risk score was last updated three years ago. His relationship manager, Alice, has discretion to trade without prior consent. Over six months, Alice executes 180 trades with total turnover of HKD 90 million, generating HKD 1.8 million in commissions. The account falls to HKD 9.5 million. Many trades are in high-yield bonds and leveraged ETFs. Alice received a HKD 20,000 gift from a product issuer and took Mr. Lee to an expensive lunch. Mr. Lee complains that he never understood the risks and did not approve the trades.
1. Identify the conduct issues under the SFC Code of Conduct.
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Pacific Wealth and Alice have breached several Code of Conduct principles. Suitability under paragraph 5.2: a conservative-income client should not be placed in high-yield bonds and leveraged ETFs without a documented change of risk profile. Churning: 180 trades and HKD 90 million turnover on a HKD 12 million account in six months is excessive; the commission of HKD 1.8 million is 15% of the initial account and is a red flag. Discretionary account: the firm must have a written discretionary agreement, set investment guidelines and monitor. The gift from the product issuer creates a conflict of interest; the firm's gift policy should prohibit or require disclosure. The expensive lunch may be an inducement. The firm failed to supervise and to keep proper records. The loss of HKD 2.5 million is consistent with unsuitable trading.
2. What should Pacific Wealth do on receiving the complaint?
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Pacific Wealth should immediately suspend Alice from managing the account, appoint an independent reviewer and freeze fees. It should contact Mr. Lee, acknowledge the complaint and provide a written response timeline. It should review all trades, call recordings, the client risk profile, the discretionary agreement and commission records. If misconduct is found, it should compensate the client, report to the SFC and the police if fraud is suspected, and notify its insurers. It should conduct a root-cause analysis and review supervision, trade surveillance and gift policies. Under the SFC's complaint-handling expectations, the firm should maintain a complaint log and respond promptly. It should also consider whether the matter is notifiable under the SFC's notification requirements.
3. If Alice says Mr. Lee orally approved each trade, what records and evidence are decisive?
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Decisive evidence includes the signed discretionary client agreement and investment mandate, the client's risk profile questionnaire, trade confirmations, monthly statements, call recordings and contemporaneous notes. Oral approval after the fact is weak. The firm must show that each trade was within the mandate and suitable. Under the record-keeping rules, records must be kept for at least seven years. If Alice cannot produce call recordings or written instructions for each trade, the firm should treat the trades as unauthorised. The burden is on the firm to demonstrate compliance, not on the client to prove a negative. The firm should also check whether the client's risk profile was reviewed before the leveraged ETF trades.