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Review of NZX Participant Rules Consultation Paper

15 August 2016

Review of NZX Participant Rules 2 of 38

CONTENTS

Introduction……………………………………………………………………………………..3

Request for Feedback………………………………………………………………………...3

Financial Advice………………………………………………………………………………..4

Operation of Discretionary Accounts………………………………………………………...7

Custody of Client Assets………………………………………………………………………8

Know your Client Obligations…………………………………………………………………9

Control of Broking Offices…………………………………………………………………...11

Contract Notes………………………………………………………………………………..13

International Crossings………………………………………………………………………15

Authority to Act as a Primary Market Participant ........................................................17

Margin Cover………………………………………………………………………………….19

Order Records………………………………………………………………………………...20

Disclosure of Interests……………………………………………………………………….22

Employee and Prescribed Person Trading………………………………………………..23

Capital Adequacy……………………………………………………………………………..26

Surveillance Tools…………………………………………………………………………….31

Other Amendments…………………………………………………………………………...36


Introduction On 23 November 2015, NZX limited (NZX) released a discussion document seeking feedback on a targeted review of its Participant Rules. NZX has developed proposed outcomes based on feedback received to the first stage of the review and seeks further feedback on these proposals before finalising proposed rule amendments.

Proposed amendments may also impact other rule sets, such as the Clearing and Settlement Rules, and Derivatives Market Rules. Where appropriate, and subject to feedback received, NZX will also amend equivalent provisions within these other rules.

NZX proposes the following timetable for the remainder of the review:

• Feedback due in response to this consultation paper 23 September 2016

• Finalisation of proposed rule amendments October 2016

• Targeted consultation on proposed rule amendments November 2016

• Application to the FMA for approval of amended rules December 2016

• Amended rules come into effect (following notice) Q1 2017

Request for Feedback NZX seeks feedback on the proposed outcomes of this review and specific areas where further feedback is required before proposals can be finalised. NZX may publish comments received. Please indicate in your submission if you have any objection to the release of information contained in your submission. The closing date for submissions is 5.00pm on Friday 23 September 2016. Submissions should be sent to: [email protected] If you have any queries in relation to this consultation document, please contact: Hamish Macdonald NZX Head of Policy and Legal [email protected] (09) 308 3701

mailto:[email protected]

mailto:[email protected]


Financial Advice Summary of feedback received

All of the feedback received from submitters indicated that NZX’s Rules should not overlap with the Financial Advisors Act 2008 (FAA) and the Code of Professional Conduct for Authorised Financial Advisers (AFAs) (the Code). Submitters considered that the FAA and the Code provide a comprehensive statutory framework for the regulation of financial advice. Submitters considered that any NZX Rules relating to the provision of financial advice should be deleted or modified because they do not offer any useful protections beyond legislation.

One submitter indicated that NZX Participants are at a disadvantage due to the extra costs associated with being an NZX Advisor or NZX Associate Advisor, including the cost of completing NZX papers, application fees to become NZX accredited and NZX Advisor renewal fees.

Submitters indicated that the Rules should focus on regulating market activity (i.e. relating to quoted financial products), not the provision of financial advice.

Some submitters proposed that references to the provision of financial advice should be removed from the Rules. These submitters indicated that if this were not to occur, the Rules should only apply in relation to advice on NZX listed products.

Some submitters proposed that the Rules should be changed in relation to NZX’s ability to consider complaints. Submitters were concerned about dual regulation creating conflict and the opportunity for ‘forum shopping’ (i.e. between NZX Regulation and the FMA) by clients who may see the NZX Rules as a way of having another avenue for complaint if they are not happy with an outcome achieved via legislation or the Code.

Depending on whether NZX retained its requirements in relation to the regulation of financial advice, submitters were also keen for areas of the Rules to be clarified (e.g. whether the Rules in relation to advice on unlisted financial products require NZX Advisor or NZX Associate Advisor status).

Despite broad support for the view that NZX should discontinue regulating the provision of financial advice, all submitters wanted to keep some form of NZX accreditation status for individuals within NZX Participants, potentially with a different label such as ‘NZX Accredited’. Submitters highlighted the benefits for investors of being able to identify a subset of Authorised Financial Advisers (AFAs) who have the expertise and experience to support investors wanting to invest directly into NZX’s markets.

One submitter noted that in relation to wholesale client services there is benefit to maintaining minimum accreditation requirements for those persons accessing the trading system. This submitter indicated that some form of separate NZX status should be retained to differentiate advisors from other Financial Service Providers, as persons who are accredited by NZX to undertake activities on NZX’s markets and who possess expertise that other Financial Service Providers do not possess.

One submitter noted a potential opportunity for NZX to help build the brand of NZX Advisors and distinguish them from other advisers.

In terms of timing for proposed changes, most submitters wanted NZX to change its Rules immediately. However, two submitters suggested waiting to see the outcome of the Ministry for Business, Innovation and Employment’s (MBIE) current review of the FAA before finalising any proposals in this area.


Proposed outcome and reason for proposed outcome Based on the feedback received NZX considers that the Rules should focus on regulating conduct in respect of NZX’s markets, leaving the aspects of conduct relating to the provision of financial advice to be governed by legislation and regulated by the FMA. This will allow NZX Participants to retain a point of difference, while also reducing unnecessary compliance burdens resulting from overlap with legislation.

NZX proposes to retain references to advice and advising where these terms are used to describe the activities undertaken by certain NZX Participants for example, NZX will not vary the categories of NZX Participant such as “NZX Advising Firm”. However, NZX proposes to remove or amend Rules that regulate how advice is provided (including references to appropriate advice) so that those aspects of the provision of advice which are regulated by legislation are not also addressed within the Rules. NZX also considers that it is appropriate to retain the obligations on NZX Advisors specifically in relation to trading conduct on NZX’s markets as a result of advice from NZX accredited advisors or behaviour which might otherwise bring NZX’s markets into disrepute (i.e. obligations on advisors to consider issues of insider trading or market manipulation). To reinforce this point, where it is necessary to retain references to advice and advising, NZX proposes to clearly limit these references to advice and advising so that they apply only with respect to advice on NZX listed products. For example, an NZX Advising Firm will be accredited “…for the purpose of providing advice and/or securities recommendations, with respect to NZX listed products, to clients...”.

NZX proposes to retain the current forms of NZX accreditation status for individuals within NZX Participants who provide advice or recommendations to clients. However, NZX proposes to specifically link the requirement to be accredited to those who provide advice or recommendations on NZX listed products (i.e. the requirement to be accredited as an NZX Advisor/NZX Associated Advisor will only apply to those who will provide advice with respect to NZX listed products). This accreditation will differentiate these individuals from other Financial Service Providers, as persons who are accredited by NZX to undertake activities on NZX’s markets and who possess knowledge and experience in addition to what other Financial Service Providers possess. NZX seeks additional feedback on this proposal.

NZX will consider its current accreditation requirements as part of implementing proposed changes in this area to ensure that these focus on the skills and experience relevant to providing advice in respect of NZX listed products. NZX has sought further feedback in relation to these points below.

NZX notes advice is the most practical criteria to use to determine the need for this accreditation as it is an identifiable group and distinguishes these individuals from NZX Dealers without broadening the group that the Rules apply to currently.

NZX proposes to retain its ability to consider complaints. This is a useful mechanism to assist NZX to monitor the conduct of NZX Participants. NZX notes that its role with respect to complaints is limited to considering the compliance by NZX Participants with the Rules, and does not provide NZX with the ability to require compensation to a client. Therefore the Rule does not provide an opportunity for ‘forum shopping’ by clients to obtain compensation. Removing any references in the Rules that relate to how advice is provided (including references to appropriate advice) will also provide greater certainty for NZX Participants in this regard.

NZX does not propose to defer its consideration of these issues until the FAA review is fully complete, particularly given that proposed outcomes were announced by the Minister of Commerce and Consumer Affairs on 13 July 2016 – see here.

http://www.mbie.govt.nz/info-services/business/business-law/financial-advisers/review-of-financial-advisers-act-2008


Further specific feedback requested on the proposed outcome In respect of the proposed NZX accreditation status for individuals within NZX Participants who provide advice or recommendations to clients on NZX listed products, NZX seeks the following additional feedback:

1. Should NZX rename this category of individuals to “NZX Accredited Person” or retain the title “NZX Advisor”?

(a) Would changing this diminish the investor recognition?

(b) Is changing this necessary given the changes to the FAA?

(c) Are there alternate titles that are preferred?

2. Should NZX retain the dual levels of accreditation (NZX Advisor and NZX Associate Advisor) or move to a single accreditation level?

3. Are research analysts generally accredited as NZX Advisors or NZX Associate Advisors under the current regime? Should these individuals be accredited to provide advice or recommendations to clients on NZX listed products?

4. Should NZX continue to use the current Kaplan courses as the education benchmark (over and above legislative requirements) or should NZX introduce a bespoke training and development regime, specific to NZX’s markets?

(d) If change is recommended, please provide any suggestions with regard to the nature of the education requirements contemplated and any potential providers.

(e) Please consider the nature of the education requirements contemplated for both a single level of accreditation and a dual level.

5. Do you have any suggestions for how NZX can assist in building the brand of NZX Advisors/NZX Accredited Persons?

6. Should NZX mandate Continuing Professional Development that is specific to NZX’s markets for accredited persons?


Operation of Discretionary Accounts Summary of feedback received Submitters agree that NZX should not continue to regulate the operation of discretionary accounts (also known as discretionary investment management services (DIMS)) in the Rules given this is already regulated under the Financial Markets Conduct Act 2013 (FMCA) and the FAA.

Feedback from submitters states that generally NZX’s Rules offer no further protections beyond those set in legislation.

One submitter considered that retaining references to DIMS in the Rules will provide participants with the risk that they may be subject to forum shopping between NZX Regulation and the FMA from clients who have concerns in relation to DIMS. The submitter noted that NZX should retain a role strictly relating to regulating ‘on market’ activities (such as insider trading or market manipulation) that may have been conducted by a DIMs licensee on behalf of their DIMs clients.

One submitter considered that NZX should retain a right to impose additional temporary rules if a loophole is discovered. NZX notes that it will always have the ability to seek to impose additional requirements via amendments to its Rules where necessary. One submitter noted legislation may consciously omit wholesale clients because they are deemed to be sophisticated investors and suggests the NZX Rules could also be silent on wholesale DIMS investors. The submitter noted that this fits with the idea of a principled, less prescriptive approach in the NZX Rules.

Proposed outcome and reason for proposed outcome NZX proposes removing Rule 9.9. The legislation (FAA, FMCA, and Anti Money Laundering (AML)) places general duties on brokers, for example requiring brokers to exercise care, diligence and skill in the provision of DIMS and in respect of reporting. NZX considers that it is appropriate to leave the regulation of the provision of DIMS primarily to legislation.

NZX does not propose to delete the definition of Discretionary Accounts from the Rules. The definition is required to support Rules 10.5.6, 10.5.9 and 15.17, which include specific requirements or caveats with respect to DIMS accounts that remain relevant. NZX proposes to review this definition to include that DIMS accounts are operated only in accordance with relevant legislation and to ensure that NZX is able to identify all accounts operated as DIMS accounts.

Accordingly, the emphasis for NZX will be in relation to the regulation of on-market conduct rather than the provision of advice.

Further feedback requested on the proposed outcome

7. Do you have any feedback in relation to the proposed outcomes outlined above?


Custody of Client Assets Summary of feedback received Submitters generally agreed that NZX should cease to regulate the custody of client assets given these are already regulated by the FAA and Financial Advisors (Custodians of FMCA Financial Products) Regulations 2014.

One submitter noted that some of the requirements under the Rules are useful, but that these do not warrant NZX retaining separate regulatory oversight over the custody of assets.

One submitter considered that NZX should retain some of its existing reporting requirements where these are more onerous than legislation, for example legislation requires custody account reporting every six months compared to every three months under the Rules. This submitter considered that the stricter reporting requirements are useful for retail clients as it gives them more frequent opportunities to review their holdings. The submitter noted its belief that many participants are already reporting monthly so it should not be an unreasonable burden. No other submitter raised this issue.

Proposed outcome and reason for proposed outcome NZX proposes to delete Rule 18.15. NZX considers that it should no longer regulate the custody of assets given the existing legislation in this area and the feedback provided on this topic. NZX is not persuaded that it would be helpful to retain some of the existing reporting requirements as suggested, particularly given that it seems many NZX Participants are already choosing to report more frequently than required by legislation.

NZX does not propose to delete the definition of Custody Account on the basis that this ties in with the definition of Nominee Account. These definitions remain relevant with respect to Rules 9.11.1(g), 17.9.1, 18.4, 18.16.1 and 20.2.2(c).

Any further feedback requested on the proposed outcome

8. Do you have any feedback in relation to proposed outcomes outlined above?


Know your Client Obligations Summary of feedback received Submitters indicated that some of the information requested in section 9 of the Rules is required under legislation such as the Anti-Money Laundering and Counter Financing of Terrorism (AML/CFT) legislation and the Financial Advisers Act 2008 (FAA), but that the Rules also require some information that is not covered by legislation.

Views were mixed on whether this overlap was problematic. Some noted that where there is overlap, compliance with the legislative requirements also meets the Rule requirements, so there was no need to amend the Rules. Others noted that duplication can be difficult if the overlapping requirements are not identical and that this exposes NZX Participants to dual regulation. Many noted that some of the additional information required was useful for them operationally, for example the section relating to winding up of estates, although some of the terminology was outdated.

Concern was raised that the Rules with respect to one-off sales may lead to non-compliance with AML/CFT legislation, although the specific details of the potential conflict were not provided.

There was wide recognition that much of the information required under the Rules is useful from an operational perspective for both NZX and NZX Participants, but there were concerns that the requirements cause a cross-over with requirements under AML/CFT legislation and in respect of the provision of advice.

Submitters had different views on the appropriate amendments, with views ranging from suggestions that no amendments were required, to removal of most of section 9 of the Rules or for a move away from requirements relating to identification and provision of advice and rather to the efficient and effective operation of the markets. There were also suggestions that additional information be required or that any client information requirements be set out in guidance rather than in the Rules.

Proposed outcome and reasons for proposed outcome NZX requires NZX Participants to obtain certain information from clients which is necessary for the effective operation of our markets and for effective review or investigation of market related conduct by NZX. Examples include email addresses to allow electronic delivery of contract notes; registration details and bank account information to assist with settlement; and CSNs to assist with monitoring and settlement.

In addition, the FAA does not apply to all NZX Participants or all clients who may trade on NZX’s markets, so these requirements alone cannot be relied upon in place of NZX’s Rules. On this basis, NZX proposes to retain some of its existing requirements within the Rules but to move away from requirements that relate to the provision of advice (such as investment objectives and advice related aspects within client agreements), to requirements focusing on market operations and client administration.

NZX proposes to retain some of the information that is also required for AML purposes, such as name, address and evidence of authority to give instructions, as they are equally necessary for NZX’s operational requirements and the requirement does not result in any additional burden on Participants. NZX also proposes to retain the rules relating to estates, hold mail accounts and non-standard NZAX Issuers where they are required for NZX’s operational requirements. NZX has reviewed the one-off sale rules to remove any potential inconsistency with the AML/CFT legislation.


Requirements for discretionary accounts under Rule 9.9 have been reviewed separately.

NZX proposes to conduct a full review of all relevant guidance and practice notes following finalisation of rule changes, including:

• GN0001/04 - Know Your Client: Section 9

• GN0002/04 - Trading on Behalf of a Client

• GN0009/05 - One-Off Sales

• GN0001/13 - Application of Rule 9.2.1 in an Initial Public Offer

• PN 03/05 - Client Agreements




Control of Broking Offices Summary of feedback received Submitters considered that NZX’s requirements in relation to control of Broking Offices1 should seek to ensure there is an individual responsible for the adequate management and supervision of each Broking Office. Submitters considered that NZX should broaden the range of individuals who can control a Broking Office beyond NZX Advisors and NZX Associate Advisors.

The general consensus across submitters was that having an accredited NZX Advisor or NZX Associate Advisor in full-time control of each Broking Office adds little value in respect of additional oversight and potentially inhibits the opening of new Broking Offices. Feedback also noted that the qualities and skills required to manage a Broking Office are more comprehensive than the experience and qualifications required for designation as an NZX Advisor.

Feedback also queried whether the full-time physical presence of any individual remains relevant given technological advancements.

Respondents considered that any amendment to the existing requirements should be more principles based and should seek to ensure a supervision regime which is relevant to the NZX Participant and its Broking Office structure. This should incorporate appropriate governance and reporting requirements by personnel with the expertise to do so.

Proposed outcome and reasons for proposed outcome NZX agrees with feedback that it is unnecessary in all circumstances to have an NZX Advisor or NZX Associate Advisor in full-time control of each Broking Office.

The purpose of the existing requirement is to ensure that each of an NZX Participant’s Broking Offices conducts its relevant business in accordance with the requirements under the Rules (including Good Broking Practice) and that there is appropriate supervision of the Employees located at each Broking Office.

The existing requirements2 focus on the provision of client advice, however this may not be the only ‘Broking Business’ a Broking Office engages in. In these circumstances, an NZX Advisor may not be the most suitable person to undertake supervision of that Broking Office. For example, an NZX Participant may establish a separate Broking Office to house its back-office operations. In these circumstances, control by an NZX Advisor may add little value to the oversight of that Broking Office.

On this basis, NZX proposes that the existing requirements be amended to require that NZX Participants:

(a) Have in place appropriate management and supervision to ensure each Broking Office conducts its Broking Business in accordance with the Rules and Good Broking Practice; and

(b) Appoint an Employee who is appropriately qualified and experienced to have control and oversight of each Broking Office or multiple Broking Offices.

1 As defined by Participant Rule 1.1

2 Rule 3.8.3


NZX suggests that to ensure sufficient supervision and monitoring is maintained, a mandatory compliance monitoring task be added to the NZX Participant’s compliance monitoring programme to monitor the quality and effectiveness of its supervision arrangements for Broking Offices. NZX proposes to address this issue in guidance. In addition, NZX proposes to provide guidance in relation to how (a) and (b) above will be addressed.




Contract Notes Summary of feedback received Submitters indicated that institutional clients generally do not rely on contract notes so the Rules should only require these if requested. Aligning the description of institutional client in the rules and the description of wholesale clients in the FMCA was raised as an additional point to consider.

There was consistent recognition that retail clients should be treated differently to institutional clients and should continue to receive contract notes. There was also a general view that the default position for retail clients should be that they receive contract notes but should be able to opt out of receiving these if they wish to do so. An argument in support of retail clients being able to opt out of receiving contract notes was that these clients already benefit from the disclosure requirements in the Financial Advisers Act 2008 (FAA) relating to the provision of personalised advice.

There was also a general view that the Rules should focus primarily on electronic delivery of contract notes, with clients having to opt-in to receive physical contract notes. There was also support for the use of systems which allow clients to view their contract notes on an online facility, rather than those contract notes being separately emailed. One respondent suggested that NZX review the current specific content disclosure requirements for contract notes.

Proposed outcome and reasons for proposed outcome NZX proposes to add a definition of “wholesale client” into the Rules (by reference to the definition in the FMCA)3, to be used in the Rules relating to sending of contract notes, and to retain the definition of “institutional client”, which will continue to be used within the Rules for other purposes. NZX recognises that the term “institutional client” is specific to the Rules. However, there are areas of the Rules that apply to institutional clients where applying a broader definition of wholesale clients would be inappropriate. This approach allows NZX flexibility to apply those areas of the Rules in a more targeted way.

NZX proposes to remove the requirement that contract notes be sent to wholesale clients, on the basis that they receive confirmations of transactions and are able to elect to receive contract notes. This is consistent with the approach taken in other jurisdictions.

NZX does not propose to remove the requirement that contract notes be sent to retail clients or to introduce a rule that would enable retail investors to opt out of receiving the contract notes. This is on the basis that:

(a) contract notes for retail clients ensures a minimum standard of information is provided; (b) NZX is not satisfied that there is a consistent view supporting retail clients opting out of

receiving contract notes; (c) a requirement to send contract notes to retail clients is consistent with other jurisdictions,

such as Australia; (d) the disclosure requirements in the FAA that have been referenced in the consultation

submissions are not sufficient as an alternative to contract notes since a large number of retail transactions do not occur as a result of personalised advice; and

3 NZX proposes to use the definition at section 6 of the FMCA


(e) the proposed Rule changes in relation to how contract notes are able to be delivered, will allow for more efficient and effective dissemination by NZX Participants, without compromising the scope of information that retail investors receive about transactions.

NZX also proposes to amend the Rule relating to the method by which contract notes are delivered, so that electronic delivery is the primary method of delivery. Clients will continue to have the option to elect to receive hard copy contract notes. NZX proposes to define “electronic delivery” sufficiently broadly to allow a standing facility form of delivery if a retail client selects this method. This recognises recent changes in NZX’s settlement cycle (to T+2), which support improvements in the timeliness of contract note delivery. The proposed changes will also seek to accommodate further technological developments.

NZX does not currently propose to remove any of the specific content requirements for contract notes in Rules 15.17.3 or 15.17.5 for the following reasons:

(a) most of the information required relates either specifically to the settlement of the transaction or relates to disclosure of specific potential conflicts; and

(b) the disclosure requirements in the FAA are not sufficiently broad to ensure the relevant information is otherwise provided to the client.




International Crossings Currently under the Rules, trading participants must report all Crossings. International Crossings are a subset of Crossings. One of the main effects of reporting a transaction as an International Crossing is that it may be reported outside of the quotes during the Normal Trading Session.

Summary of feedback received Respondents noted that the current international crossing reporting requirements are unclear, which has led to inconsistent application. In addition, some submitters were concerned that an inconsistent approach could be taken to enforcement of this reporting requirement.

Submitters considered that an analysis of any proposed amendments to the current reporting requirements in respect of International Crossings should begin with a clear identification of the purpose of a reporting requirement in this area. Views of submitters differed in relation to what this purpose should be and submitters sought further guidance from NZX in this regard and, once known, an opportunity to provide further feedback.

Two factors highlighted by submitters were as follows:

(a) whether reporting of international crossings should be permitted to occur outside the quotes during the Normal Trading Session; and

(b) whether the requirement to report international transactions should be limited to crossings (as defined in the Rules).

One submitter noted that reporting of international crossings is important in terms of the international perceptions of New Zealand market turnover and indicated that all transactions in NZX listed securities involving New Zealand brokers (not necessarily just crossings) should be recognised in NZX reporting. Another submitter indicated that international crossings should ultimately reflect stock that has been traded on an overseas exchange and then subsequently shunted back to a New Zealand share register (i.e. the reporting should reflect trading activity which is ultimately reflected in a New Zealand share register).

Proposed outcome and reason for proposed outcome NZX agrees that the current reporting requirements in respect of International Crossings are unclear and are currently being applied by the market inconsistently. NZX wants to ensure that reporting of International Crossings is not used to create an inflated perception of trading in NZX listed securities. However, NZX notes that turnover is generally higher now (excluding International Crossings) than when the requirement was initially introduced and that the proportion of International Crossings in total turnover has been falling year-on-year.

A key issue with the current rule is that it seems much of the current activity reported as an International Crossing is not in fact a Crossing, as defined by the Rules.

NZX proposes to amend the current rules to require reporting of transactions in NZX listed securities on overseas exchanges where an NZX Participant has played an active role in the transaction either in an agency or principal capacity. The purpose of such a requirement is to show the market turnover of NZX listed securities and to provide a measure of the trading activity facilitated by NZX Participants.

Under this proposal the requirement will essentially become an international trade reporting requirement. While this significantly broadens the scope of the existing rule, which is confined to Crossings, NZX considers that this will generate more useful information. It is also more consistent with how participants are interpreting the current International Crossing reporting


requirement. NZX proposes amendments which seek to clarify both the purpose and application of the proposed amended requirement.

NZX proposes that the reporting will be required in relation to transactions in NZX listed securities traded (or reported) on a Recognised Overseas Exchange i.e. the reporting will relate to international on or off market transactions in NZX listed securities. The reporting requirement will apply only to NZX listed securities where the International Securities Identification Number (ISIN) country code is NZ.4 In order to more accurately describe the nature of this reporting, this revised reporting requirement will be referred to as an International Transaction reporting requirement, instead of an International Crossing reporting requirement.

NZX will permit International Transactions outside of the quotes as is the case currently for International Crossings.

The current International Crossing reporting requirement contemplates that the transaction must be a Crossing and therefore that the NZX Participant has had a role on both sides of the transaction. This is not always the case so NZX proposes that the updated requirement applies to transactions where an NZX Participant has had active involvement on either one or both sides of the transaction. NZX also expects that reporting should only reflect the actual volume which the NZX Participant has facilitated, so participants should only get credit for both sides of a transaction if it is a true Crossing and only report the portion of a transaction that they were actively involved in. NZX proposes to provide guidance as to what constitutes “active involvement” and how to report international transactions where the NZX Participant’s involvement was limited to only one side of the transaction. NZX seeks further feedback on how this can be best achieved.

NZX will seek to ensure greater consistency of reporting under the proposed amended requirements. Many of the issues in relation to existing practices for reporting of International Crossings stem from concerns that the reporting may not reflect genuine trading activity and NZX will carefully monitor such concerns in future, particularly when monitoring principal trading. NZX intends to consider and amend existing guidance in this area.

Further specific feedback requested on the proposed outcome NZX seeks feedback on the proposed approach to reporting of International Transactions. In particular, NZX seeks feedback on the following:

12. What factors should NZX take into account when considering whether an NZX Participant has had “active involvement” in a transaction?

13. How should NZX Participants be required to report transactions where they have only been involved in one side of the transaction?

14. Should NZX restrict pure proprietary trading from the International Trade reporting requirement i.e. so only client trades (or client trades facilitated via principal trading) are captured?

4 See International Organization for Standardization, ISO 3166


Authority to Act as a Primary Market Participant Summary of feedback received Responses did not support the proposed amendment to Rule 7.2.4. Rather, they sought guidance as to the circumstances in which Rule 7.2.4 could be relied upon and questioned why it is necessary to have multiple applications for Authority to Act with respect to each issue. There appeared to be support for an outcome that only requires the Organising Participant to seek confirmation of Authority to Act.

With one exception, there was generally support for the proposed amendments to the appendices to ensure that these reflect the matters contained in Rule 7.3.

There was a request for a centralised list of NZX Participants setting out accreditation statuses so that non-NZX Participants can be identified.

Proposed outcome and reasons for proposed outcome NZX considers that it needs further feedback before addressing some of the matters covered in initial feedback. These requests for further feedback are outlined in the section below.

In the meantime, Rule 7.2 currently implies that the circumstances where Authority to Act is required may be limited to “initial public offering or subsequent public offer”. This limitation is inconsistent with NZX Main Board/Debt Market Listing Rules 5.1 and 5.2, which require that any application for Listing or Quotation must be made through a Primary Market Participant who is required to provide an Authority to Act. NZX proposes to amend Rule 7.2 to ensure that it captures all situations contemplated by the Listing Rules noted above i.e. ensure it applies to all applications for Listing or Quotation, as well as situations where issuers are carrying out further issues of already quoted financial products.

NZX proposes to amend Appendices 6A and 6B to require a positive confirmation from the Primary Market Participant requesting confirmation of Authority to Act that they confirm or agree to the matters set out in Rule 7.3. This will streamline the process for making requests for Authority to Act and reduce the time required to complete an application. In addition, NZX proposes to have a single Appendix 6 with Parts A and B so that an applicant can complete a single form and simply select which capacities it will be acting in.

NZX will make a list of all Primary Market Participants and the nature of their accreditation available on its website.

Further specific feedback requested on the proposed outcome NZX is considering amending the Rules to require:

(a) the Primary Market Participant that is the Organising Participant or is acting as advisor in a subsequent public offer to obtain confirmation of authority to act as advisors in the offer (per Appendix 6A); and

(b) the Primary Market Participant(s) appointed by the Issuer to manage the distribution and underwriting of the offer to obtain confirmation of authority to act to distribute and/or underwrite the offer (per Appendix 6B).

NZX considers it necessary to retain both categories of authority to act, as there are Primary Market Participants that are accredited to only provide one of the types of service (i.e. advisory or distribution) contemplated by Appendices 6A and 6B.


In order to accomplish this, it will be necessary to more clearly define which Primary Market Participants will be captured by each category. For example, “Organising Participant” is not the generally applied naming convention for the relevant entity that is appointed by the Issuer (nor does there appear to be any other standard naming convention that can be applied), so it will be necessary to either amend the definition of “Organising Participant” in the Rules and/or to amend the Listing Rules to require that Issuers nominate the specific Primary Market Participant(s) that is acting as “Organising Participant” (refer to Listing Rules 5.1 and 5.2).

Similarly, there does not appear to be a clear and consistent approach to which relevant entity has overall responsibility with respect to the distribution and underwriting of an offer. Further, NZX understands that the responsibilities of an Organising Participant do not usually include managing the distribution and/or underwriting of the issue (where required). Therefore NZX considers it necessary to amend the rules so that a Primary Market Participant is required to be appointed by the Issuer as responsible for managing the distribution/underwriting of the issue, where applicable, and noting that this could be joint responsibility where, for example, there are Joint Lead Managers. NZX also proposes to clarify that Primary Market Participant(s) must seek confirmation of their Authority to Act using Appendix 6B.

With respect to all the other Primary Market Participants who are associated with the issue, but not in one of these primary roles, they will not be required to seek confirmation of Authority to Act. Instead, they will be able to rely on the Authority to Act given to the Organising Participant and manager of the distribution/underwriting, as contemplated by Rule 7.2.4.

NZX seeks further feedback on the following:

15. Will the proposed outcome cause any operational or compliance difficulties?

16. How should we define which party or parties should be captured in each category?

17. How will other Primary Market Participants, who are associated with the issue and are relying on the Authority to Act given to the Organising Participant and manager of the distribution/underwriting (as contemplated by Rule 7.2.4), be aware that the relevant Authority to Act has been provided?


Margin Cover Summary of feedback received Feedback generally supported a change to Rule 15.8 to remove the requirement for margin where the NZX Participant is satisfied that its client has made arrangements to meet the settlement obligations relating to a short sale. One respondent suggested that the Rule be removed entirely as margin cover is a business risk that should be managed within each NZX Participant’s internal controls and procedures.

Proposed outcome and reasons for proposed outcome NZX proposes to amend the Rule to remove the requirement for margin where the NZX Participant is satisfied that the relevant client has made arrangements to meet the settlement obligations relating to a short sale.

NZX proposes to review the definition of Short Selling, to more clearly distinguish between covered and naked short selling and to confirm that delivery of securities for settlement of a short sale must be made on the relevant “Settlement Date” in both cases.




Order Records Summary of feedback received

Record keeping for principal orders Submitters had a range of views on NZX’s proposals for the recording of information for principal Orders. Some were generally supportive of the proposals outlined in the discussion document, while others were fully opposed.

Record of client telephone calls There was opposition to the proposal for recording of client telephone calls. Submitters raised concerns that the cost of implementing any such requirement would outweigh any potential benefits. Submitters noted that any NZX Rule amendments would lead to inconsistent treatment with non-NZX Participants. Submitters also raised concerns over the effectiveness of such a proposal given that multiple communication mechanisms are used with clients and the complexities and costs of seeking to record devices other than landlines.

Physical separation of principal traders from client desks With respect to physical separation of principal traders from client desks, the consensus view was that this was not viable for most NZX Participants given the size of their dealing teams. Submitters also noted that NZX Participants already deal with potential conflicts through their conflict management arrangements.

Proposed outcome and reasons for proposed outcome

Record keeping for principal orders The current record keeping requirements for principal Orders require that details of the date and time of receipt of the order be maintained. NZX also proposes to require the recording of financial product details for these orders, including volume and price, and the name of the person who placed the order or made the decision to place the order. This approach is consistent with the requirements in other jurisdictions, such as Australia.

NZX will not proceed with a proposed requirement to record the basis of each trading decision, because this often includes multiple factors and documenting this could be an unreasonable burden on time given the relative benefits of collecting this aggregated information. NZX instead proposes to enhance its conflict management requirements as suggested within the feedback received.

Record of client telephone calls NZX notes that voice recording is mandated in some other markets, such as derivatives markets in Australia, and more broadly in some jurisdictions, for example for those impacted by Dodd Frank in the US and for a much broader set of practitioners in the UK. However, it seems that some of these jurisdictions are experiencing an inability for participants to comply with the requirements due to inadequacies with respect to the currently available technology (e.g. FCA is reportedly experiencing difficulty in relation to the recording of non-landlines) and are, therefore, unable to enforce all of the requirements. NZX seeks additional feedback below regarding the introduction of a limited recording requirement for institutional clients and principal/facilitation desks, which is a proposal supported by the FMA.

NZX expects adequate records to be kept for all orders and telephone records are one available source of record keeping. Therefore this forms an important source of information when investigating potential market misconduct concerns and for NZX Participants to provide evidence of appropriate conflict management processes.


Physical separation of principal traders from client desks Given the limited scale of the participants in our market, NZX does not currently propose to mandate segregation of principal traders. However, NZX considers this to be best practice and notes that international markets are moving towards mandated segregation. For example, similar changes are currently being implemented in Australia. Instead, NZX proposes to update its conflict management guidance as outlined below. NZX anticipates that a number of NZX Participants may implement segregation as an appropriate arrangement, given that disclosure of a conflict will not always sufficiently mitigate or manage the relevant conflict.

NZX proposes to amend Rule 15.11 to require that NZX Participants’ conflict management procedures address conflicts that may arise from principal trading, and to apply those procedures to Dealers and other employees authorised to trade on behalf of the NZX Participant as principal, in addition to investment advising employees. NZX will also conduct a review of its guidance note relating to conflict management procedures to ensure this area of potential conflict is clearly addressed.

Further specific feedback requested on the proposed outcome


Record of client telephone calls Submissions noted the cost of implementing any mandatory recording requirement, and queried how effective such a proposal would be given that multiple communication mechanisms are used with clients.

NZX acknowledges that there may be limited regulatory benefit in mandating recording of retail client telephone calls, and that available technology for recording mobile phones is costly and arguably ineffective. However, NZX considers that recording telephone calls of Institutional clients and principal/facilitation desks is likely to yield significant regulatory benefit (and is supported by the FMA). The rationale for excluding retail clients is that retail client orders are generally clearly and adequately recorded within the current order record processes, whereas Institutional and principal orders frequently include multiple discussions, considerations and amendments which do not lend themselves to clear and adequate documentation through traditional order record methods. This can lead to difficulties if trading conduct is being investigated. It is important that there are adequate records when considering all forms of orders and telephone records for these orders is one particularly useful source for the reasons outlined above.

NZX proposes to amend Rule 15.12 to include a requirement to record calls with respect to Institutional clients and principal/facilitation desks. NZX seeks feedback on:

20. How long should time recordings should be retained? For example, retaining them for two years would be consistent with the obligation on NZX Participants for retention of Order Records under Rule 15.13;

21. As the requirement would be limited to landlines, what additional requirements should NZX impose to ensure calls are not simply made on mobile phones to avoid the requirement?

22. How long will it take for NZX Participants to implement the necessary systems to enable the required recording?


Disclosure of Interests Summary of feedback received There were a range of views expressed in the feedback regarding when generic disclosure of conflicts of interest may not be appropriate. For example, some submitters considered that generic disclosure is generally sufficient, whereas others noted that specific disclosure is necessary when disclosing conflicts. Some submitters noted that there will be significant costs involved in disclosing on contract notes where the NZX Participant has acted as principal in relation to a specific trade, whereas others are already doing this. A number of submitters requested further opportunity to provide feedback on proposed changes.

Feedback also highlighted the multiple definitions of ‘Acting as Principal’ in the Rules.

Proposed outcome and reasons for proposed outcome NZX proposes amendments to provide a consistent definition of ‘Acting as Principal’ covering all NZX Participants, as opposed to just Trading Participants as currently.

While NZX recognises that it is not always possible to inform clients before a trade has occurred that the NZX Participant will act as principal with respect to that order, this will be known at the time the contract note or transaction confirmation is produced. NZX therefore proposes to amend guidance which indicates that generic disclosure is sufficient to address this issue.

NZX seeks feedback on the situations where it may be appropriate for specific disclosure to be given prior to a transaction, and the form of such disclosure, and when subsequent disclosure is sufficient.

NZX would also like to better understand the situations in which NZX Participants consider that specific disclosure is not appropriate either before or after a transaction.

Given the relevant disclosures relate to conflict management, NZX proposes to address this in the guidance note on conflict management procedures. NZX proposes to remove references to this issue from the guidance note on trading on behalf of clients.

NZX does not propose to make any additional Rule changes in this area (other then those set out in other sections of this document), but will retain the current requirement for Client Advising Participants to have conflict management procedures. NZX will supplement this by providing further guidance on what it considers is required to meet the Rules obligation.



24. NZX seeks feedback from NZX Participants to understand how they would propose to manage the conflict that arises when acting as principal with respect to a specific client order, if not by specific disclosure of that fact, before NZX finalises its thinking on potential changes to existing guidance.

25. With respect to disclosure prior to entering into a transaction, NZX seeks feedback on the circumstances where specific disclosure is not possible (for example in respect of DMA orders) and generic disclosure should suffice.

26. NZX seeks further feedback in relation to the situations in which NZX Participants consider that specific disclosure is not appropriate either before or after a transaction.


Employee and Prescribed Person Trading Summary of feedback received Submitters noted a consensus view that the primary purpose of the restrictions and requirements in relation to trading by Employees and Prescribed Persons is to seek to manage conflicts of interest (actual and perceived). The Rules seek to achieve the following:

• Support client interests being placed first;

• Mitigate the risks of an imbalance in information held by Employees and Prescribed Persons compared to other investors;

• Prevent misconduct such as insider trading or market manipulation; and

• Support access to quality market opportunities by the broader public.

There was general agreement that the Rules need to be clear, easy to apply, enforceable and should mitigate identified risks, while not inadvertently disadvantaging some of the people which the Rules aim to protect.

There are a number of different issues to consider in relation to the current Rules which are discussed under separate sub-headings below.

Definition of Employee and Prescribed Person Respondents agreed that the definition of “Prescribed Person” is currently too broad and is causing unintended consequences, such as capturing charitable trusts. The feedback indicated that the parties who should be captured by the definition of Employee and Prescribed Person should include:

• Employees;

• Immediate Family of Employees;

• Personal investment vehicles controlled by Employees; and

• Investment accounts controlled by Employees (except where covered by the provision of a DIMS service).

Submitters also suggested that NZX Participants acting as principal should be excluded from the definition of Prescribed Person for the purpose of the trade pre-approval and minimum holding period rules. A number of respondents also suggested adopting a similar approach to that taken in Australia under the ASIC Market Integrity Rules.

Obligations and restrictions in respect of Employees and Prescribed Person trading Respondents all agreed that seeking to impose restrictions directly on Employees (as opposed to their employing NZX Participant) under the Rules was problematic. However, many were not supportive of the responsibility falling to NZX Participants unless the NZX Participant had inadequate processes and controls.

Subject to a narrower definition of Prescribed Person as set out below, there was general agreement that the current scope of the restrictions on Employees and Prescribed Persons was appropriate e.g. in relation to participation in IPOs, the need for pre-approval and holding periods.


Prescribed Person of any other Trading Participants or NZX Advising Firm All submitters supported an amendment to the strict liability approach taken under Rule 10.5.11. Strict liability was considered to be unduly onerous on NZX Participants given they have limited control in relation to the conduct of Prescribed Persons.

As an alternative, submitters consider that NZX Participants should be required to take reasonable steps to ensure they do not operate an account for a Prescribed Person of another NZX Participant.

Submitters also considered that NZX Participants who employ staff should be required to take reasonable steps to ensure that Prescribed Persons of their Employees do not have accounts with other NZX Participants, but should allow for trading elsewhere in respect of products and services not offered by the employing NZX Participant of the Employee who has the relationship with the relevant Prescribed Person.

Proposed outcomes and reasons for proposed outcome

Definition of Employee and Prescribed Person NZX agrees that the current definition of Prescribed Person is too broad and inadvertently captures entities such as charitable trusts, which is inconsistent with the policy intention. The definition also includes a Market Participant acting as Principal (as defined by the Rules), which is consistent with the purpose of the Rules in respect of client order priority, but which would cause inappropriate logistical and commercial constraints in respect of pre-approval, IPO and holding period requirements.

NZX proposes to amend the definition of Prescribed Person for the purposes of Rule 10.5 to limit it to Employees, the Immediate Family of Employees, and Family Companies or Family Trusts (as those terms are defined in the Rules) of Employees or their Immediate Family. NZX proposes to amend the definition of Employees to clarify that it includes directors. For the purposes of Rule 15.16, NZX proposes to also include the Market Participant acting as Principal, whether directly or through a related entity (but only for this purpose).

Obligations and restrictions in respect of Employees and Prescribed Person trading Subject to implementation of the narrower definition of Prescribed Person as set out above, NZX proposes to retain the current scope of the restrictions on Employees and Prescribed Persons e.g. in relation to pre-approval processes and holding periods. NZX proposes to seek additional feedback in respect of the scope of the restrictions in relation to participation in IPOs.

However, the structure and language of Rule 10.5 creates some confusion and potential for misinterpretation - for example, in relation to Employee participation in an IPO and application of the exclusions to the holding period.

NZX proposes to simplify the language and structure used to ensure consistent interpretation of the requirements.

Prescribed Person of any other Trading Participants or NZX Advising Firm Given the difficulty in complying with the strict liability imposed by Rule 10.5.11, NZX proposes to amend Rule 10.5.11 to require NZX Participants to take reasonable steps to ensure:

(a) they do not operate an account for a Prescribed Person of another NZX Participant; and (b) where they employ staff, they take reasonable steps to ensure that their Prescribed

Persons do not have accounts with other NZX Participants.


In respect of products and services not offered by the employing NZX Participant, NZX proposes to amend the requirement for permission from NZX to a requirement to notify NZX where the employing NZX Participant has agreed to allow the Prescribed Person to trade through another NZX Participant. However, NZX proposes to retain the permission requirement where the product or service is available through the employing NZX Participant. The ongoing monitoring requirements, including receipt of all contract notes and pre-approval, will remain in both situations.

NZX proposes to provide guidance on what it views as “reasonable steps”, which will draw from the proposals received in the feedback and include:

(a) inclusion of questions and definitions in application forms to identify potential Prescribed Persons of other NZX Participants, supported by terms and conditions requiring notification from clients if they become a Prescribed Person of an NZX firm; and

(b) training for Employees, including directly after commencement, with respect to the need to conduct all trading through their employing NZX Participant, supported by internal policies requiring Employees to notify the NZX Participant of any Prescribed Persons who they are aware have accounts with other NZX Participants (so that the other NZX Participant can be notified of that if required) and annual confirmations from Employees that they have declared all accounts for themselves and their related Prescribed Persons.



Rule 10.5.1 applies to Employees who wish to deal in any Securities quoted on a market provided by NZX or a Recognised Securities Exchange on their own personal account or the account of a Prescribed Person, and does not limit the requirement to Securities able to be traded on NZX or for which quotation on NZX is being sought.

In addition, Derivatives Rule 4.18.1 requires an Employee of a NZX Participant to obtain pre-approval in order to deal in any Derivatives Contract on their own personal account or on behalf of a Prescribed Person, and does not limit the requirement to Derivatives able to be traded on NZX.

28. Is it appropriate for these rules to be as broad as they are or should these rules be amended to limit their scope to Prescribed Persons dealing in products able to be traded on NZX?

29. Is it appropriate for the restrictions in relation to participation in IPOs to be as broad as they are or should the rules be amended to limit the restrictions to IPOs where the NZX Participant of which they are a Prescribed Person is acting in respect of the IPO?

30. The employee trading requirements in Rule 10.5 also apply to Distribution and Underwriting Sponsors. Given the role this category of participant plays in respect of the NZX markets is limited to primary market related transactions, is it appropriate for Rule 10.5 to apply to this category of participant?


Capital Adequacy Summary of feedback received

Separate Capital Rule Set All respondents said it would be preferable for the capital adequacy requirements to be reflected in a single rule set to be applied to all participants requiring capital.

Consistency of the Requirements There was a large degree of consensus that the capital adequacy requirements should be applied as consistently as possible across all participants. Submitters also considered that the requirements should continue to seek to assess a measure of liquidity, i.e. Net Current Tangible Assets (NTCA), compared against a required minimum level of liquidity, i.e. the higher of a Prescribed Minimum NTCA or Total Risk Requirement (TRR). However, two respondents considered that the capital adequacy requirement should be reviewed to be more reflective of the risk profile of the different market participants.

There was general consensus that the current minimum NTCA levels are appropriate and that the specified minimum NTCA for a Distribution and Underwriting Sponsor should be $250,000 and for a Principal Only Trading Participant should be $500,000.

Notification Requirements With respect to capital reporting requirements, a significant majority of respondents agreed that the Capital Adequacy Calculation for the close of each business day should be completed the following business day. NZX Participants also indicated they should be allowed until the close of each business day to complete the previous day’s calculation.

All parties submitting feedback agreed that the current ratio movement notifications need to be amended to better reflect current levels of prudential risk. There was general agreement with the proposed reporting thresholds at the lower levels. However, there were different opinions in relation to the proposed reporting threshold for higher levels.

NTCA Calculation The majority of respondents supported the introduction of additional guidance to of clarify what is meant by an asset “which, in the normal course of business, is not capable of being realised within 12 months”5.

Counterparty Risk Requirement With respect to the Counterparty Risk Requirement (CRR), submitters generally considered that the calculation of Positive Credit Exposure (PCE) for Trading Participants (all of which are presently also Clearing Participants) should remain unchanged. However, some feedback indicated that a lower risk weighting should be applied for other categories of participant (e.g. Advising Only Participants), so that the 4% risk weighting for CRR contemplated by Rule 19.7.4(a) should only be applied by the NZX Participant that has the “ultimate Positive Credit Exposure”.

Initial Margin Submitters supported the introduction of a definition of Initial Margin to clarify what is required in respect of CRR with regard to derivatives.

5 Participant Rule 19.4.2(e)


A concern was raised that while the current Rule allows for a calculation methodology, the current requirements may encourage NZX Participants to take higher risks (through lower initial margins) to allow easier compliance with Rule 19.7.4(b).

In addition, it was noted that where an NZX Participant requires additional margin to what is mandated by NZX (or another Futures and Options (F&O) exchange), the PCE impact is greater thus discouraging increased margin requirements.

Position Risk Requirement Submitters indicated that changes were needed in relation to calculation of the Position Risk Requirement (PRR) for derivatives. One respondent suggested NZX Participants should be allowed to propose an alternate method for incorporating derivatives and the underlying asset for netting purposes similar to what is permitted in Australia, provided this alternate method satisfied criteria approved by NZX/CHO.

Valuation of foreign currencies The suggestion for use of a spot rate from the close of the previous business day for Currency Risk Requirements was generally welcomed. NZX will provide additional guidance in due course in relation to this proposed change.


Separate Capital Rule Set NZX carefully considered consolidating all of the capital adequacy requirements into a single rule set. Unfortunately this is problematic because the Clearing and Settlement Rules are subject to a separate legal status than NZX’s other rules given the role of the Reserve Bank in also regulating Clearing and Settlement Participants. If all of these requirements were combined into a single rule set they may become subject to the approval process of the Reserve Bank which may not be appropriate in respect of future amendments. NZX therefore proposes to amend the capital adequacy requirements across the three relevant rule sets (Participant Rules, Clearing and Settlement Rules and Derivatives Rules) we do not propose to combine these into a single rule set at this stage as initially proposed. NZX proposes to amend the requirements in each of the relevant rule sets as detailed below and into a specific Capital Adequacy section for each.

Consistency of the Requirements The proposed amended rules for capital adequacy will retain the requirement that NZX Participants maintain their NTCA at a level greater than or equal to Prescribed Minimum Capital Adequacy. This concept of measuring an NZX Participant’s liquid capital against a minimum requirement is familiar to current participants and consistent with the prudential supervision regimes in other jurisdictions.

NZX proposes to retain the current minimum NTCA levels on the basis that feedback indicated they remain appropriate. NZX proposes to specify a minimum NTCA for a Distribution and Underwriting Sponsor of $250,000 and for a Principal Only Trading Participant of $500,000.

Notification Requirements NZX proposes to clarify that the Capital Adequacy Calculation for the close of each Business Day should be completed by the close of business the following Business Day.

NZX proposes to remove the requirement to report absolute movements of over 50% in capital adequacy ratio between two business days. NZX notes that this requirement generally results in more frequent reporting of changes in capital adequacy ratio by NZX Participants with lower risk profiles (i.e. those NZX Participants with higher ratios). At the same time, the reporting threshold


potentially allows participants with lower levels of capital to move to lower ratios without being required to report to NZX.

To replace this requirement, NZX proposes to introduce a capital adequacy ratio reporting obligation based on movements across set thresholds. This would require NZX Participants to notify NZX where their capital adequacy ratio moves across the following thresholds between two business days: 100%, 120%, 150%, 200%, 300%, 500% and 1000%. The main benefits of these proposed changes would be:

• More relevant and meaningful notifications (i.e. those NZX Participants whose ratio does not fall below 1000% would not be required to make notifications);

• More frequent notifications as the ratio reduces (i.e. the reporting thresholds tighten as the ratio gets lower);

• NZX Participants with declining ratios will make notifications regardless of the absolute monetary movement size, reducing the risk of a significant reduction occurring without the need to report; and

• NZX would have better information in order to monitor ratios on a real-time basis.

NZX acknowledges that NZX Participants with capital adequacy ratios that are at or near a threshold level may be required to report more frequently than currently. NZX considers that the practical impact of this is outweighed by the mitigation of the risk of an NZX Participant’s ratio moving through two or three threshold levels in increments of less than 50% and, therefore, not having any reporting requirement until their ratio reaches 120%. In addition, there will be a significant reduction in the reporting requirements for many NZX Participants.

NTCA Calculation NZX proposes to provide guidance of what is meant by “an asset which, in the normal course of business, is not capable of being realised within 12 months”, for the purposes of Rule 19.4.2.

Counterparty Risk Requirement In considering feedback for the potential reduction of CRR weightings for non-executing/clearing NZX Participants, NZX considers it is important to establish the purpose for applying minimum capital requirements to the different NZX Participant types.

If an NZX Participant is a Clearing Participant, it represents a direct exposure to the Clearing House and the rest of the market. Accordingly, the calculation of TRR has been designed to capture the activities such firms engage in, and the associated risks of those activities, to appropriately monitor each Clearing Participant’s ability to fulfil its responsibility to the market. A Clearing Participant’s level of Positive Credit Exposure to the counterparties involved in its transactions is a major factor in determining that participant’s overall risk and its required minimum level of liquidity.

NZX notes that in calculating CRR, Clearing Participants account for unsettled transactions executed by them on behalf of Advising Only Participants. In this respect these counterparties are treated the same as any other non-NZX firm. NZX agrees with the general consensus of submissions that CRR should still be calculated in this manner.

While Advising Only Participants do not pose an immediate risk to the Clearing House or a direct risk to the market, there would still be a reputation risk to NZX if an Advising Only Participant failed and there may also be adverse impacts to clients. Therefore the capital


adequacy requirements have been applied to these firms to establish a minimum standard of financial health where accredited by NZX.

The Prescribed Minimum Capital Adequacy applying to Advising Only Participant is designed to account for the amount of business the Advising Only Participant is undertaking. At present this is calculated by accounting for an Advising Only Participant’s exposure to any counterparty, where a counterparty default may result in the Advising Only Participant suffering financial loss.

On this basis, NZX remains of the view that the risk represented by unsettled transactions should be captured in the TRR of Advising Only Participants, and NZX does not propose to reduce the applied rate of 4% at this time.

Position Risk Requirement With respect to the calculation of an NZX Participant’s exposure to derivative contracts within PRR, NZX proposes that the Rules provide a mechanism for participants requiring capital to net exposure through holding a derivative contract’s underlying financial instrument (or vice versa). NZX proposes to clarify this within the Rules by permitting netting where a debt or equity exposure is directly hedged with an equivalent derivative on a one for one basis (or vice versa). Where the hedge and the exposure are not on a one for one basis but the NZX Participant can clearly demonstrate a direct correlation between the exposure and the hedge position, the manner in which they can be netted must be approved by NZX/CHO.

Valuation of foreign currencies NZX proposes to amend Rule 19.13.7 to require the use of the closing spot rate on the business day for which the calculation is being completed. NZX notes the potential issues noted within feedback and is satisfied that current Rule 19.13.8 is sufficiently broad to allow NZX to determine the appropriateness of a particular rate and include this in guidance. This will also allow for ease of transition.



Initial Margin To provide clarity in respect of the application of initial margin in CRR, NZX proposes to introduce a definition for “Initial Margin Capital Requirement” in the amended rules for capital adequacy. This definition will utilise the Initial Margin definition under the Derivatives Rules, and apply three general classes of margined transactions to determine the correct initial rate to be applied for the purposes of CRR. This definition will be specific to the Capital Adequacy Requirements and will not impact the definitions of Initial Margin in any other Rules.

Accordingly, as per the definition under the Derivatives Rules, parts (a) and (b) will cover exchange traded Derivatives Contracts as follows:

Initial Margin Capital Requirement means:

(a) in relation to a Contract, the amount that is the Daily Settlement Price in respect of the Contract multiplied by the Initial Margin Rate;

(b) in relation to a Derivatives Contract which has arisen from a F&O Order placed with a F&O Executing Participant, such initial margin amount (howsoever described) as determined by the rules and regulations of the relevant F&O Exchange with whom the F&O Order was placed.


NZX considers that the appropriate rate to be applied should be determined by the relevant exchange. These initial margin rates are established on a risk based approach for the relevant contract independently from the NZX Participant. NZX proposes to clarify that these rates are to be used in calculating CRR and that any additional initial margin required by the NZX Participant can be excluded.

To cover the remaining Derivatives Contracts within the definition (e.g. OTC, Margin FX, etc), NZX proposes to specify its preferred rates based on contract type within Guidance/Procedure. NZX seeks feedback with respect to the categories of products and rates that should be applied.

The feedback received also implied that NZX Participants are currently unable to reduce risk by holding collateral to net against the unsettled derivative transaction’s PCE. However, NZX considers that the current Rule 19.7.2 allows NZX Participants to reduce counterparty exposure where it is in possession of the counterparty’s asset(s). NZX proposes to expand this Rule by clarifying how additional collateral gathered above a contract’s minimum requirement (in the form of cash or the appropriate securities) can be used by NZX Participants to “reduce” the liability of a counterparty. NZX will also issue guidance on how netting may be applied in respect of margined transactions.

In considering the risk exposure of NZX Participants that provide services in derivatives to clients, NZX believes the current definition of PCE is broad enough to cover these exposures. NZX proposes to make a slight amendment/addition to clarify that counterparties’ liability includes any unpaid premium or variation margin.


32. Do you have any feedback on the proposals in relation to initial margin noted above?


Surveillance Tools Summary of feedback received NZX proposed a number of enhancements to its existing surveillance tools to improve its current front line surveillance function and to reduce the number of routine surveillance enquiries it currently makes to NZX Participants.

Submitter’s responses to NZX’s proposed surveillance enhancements were mixed, with most NZX Participants considering there would be little or no benefit to providing more client data to NZX. However, one submitter supported NZX’s use of surveillance tools as a fundamental part of its role to prevent and detect market misconduct.

Another submitter was broadly supportive of the proposals except where any amendments might require system changes. A number of submitters noted that system changes provide little benefit to NZX Participants and that it is difficult to understand whether those changes will improve surveillance monitoring and cut down on enquiries.

Feedback in relation to each of specific proposals is discussed under the sub-headings below.

Reporting underlying client CSNs NZX proposed that a client’s individual CSN should be entered into the trading system for all retail client orders, where known, as opposed to simply the CSN for a nominee account.

Most of the submitters did not support this proposal and questioned the effectiveness of this measure. Another submitter said entering this information will create an increased burden that could result in operator errors and poorer outcomes for surveillance. Another submitter noted that underlying CSNs will not always exist.

Flagging ‘Employee Trades’ in the trading system NZX proposed that NZX Dealers entering orders into the Trading System should be required to specify where the client is an Employee or Prescribed Person (as defined by the Rules) in the account field to help identify employee trading. Trading by Employees and Prescribed Persons carries additional risk because Employees potentially have access to information not generally available to the public. Such trading therefore warrants a heightened level of oversight.

Most submitters supported this proposal or offered no objections. However, some preferred firms to monitor Employee trading and not have to have a requirement for all Employee trades to be flagged in the account field when entered into the trading system.

Entering FSP numbers or ‘NZ Business Numbers’ for all orders on behalf of wholesale clients NZX proposed that FSP numbers or NZ Business Numbers (NZBN) should be required for all orders entered on behalf of wholesale clients, to align the requirements to identify wholesale clients with the requirement for retail clients. NZX noted that for New Zealand regulated entities, their FSP number provides a ready-made regulatory register from which to populate the CSN field with a similar identifier. NZX also requested feedback on potential alternative solutions for overseas entities.

Most submitters opposed this proposal due to the additional administration or IT costs and noted that this proposal may reduce the efficiency of executing client instructions. These submitters considered that there would be little or no benefit to the proposal. One submitter considered that FSP numbers are unnecessary given the low number of wholesale clients in New Zealand and said it was unclear whether there would be any benefits.


Only two submitters specifically responded to the question of identifiers for offshore clients, noting that they cannot do the same for offshore wholesale clients.6

NZX noted in its initial Discussion Document that an alternative to this proposal could be for NZX Participants to provide regular client reference updates to NZX Surveillance. This is an option as an initial step before considering whether further changes are required in future e.g. requiring entry of FSP numbers with wholesale client orders. None of the initial submissions provided specific feedback on this alternative option. However, NZX did not request specific feedback on that issue so NZX welcomes further views now.

Providing reference codes for all Direct Market Access (DMA) clients NZX has concerns that the current requirement for NZX Participants to record details of any DMA Authorised Persons and any clients on whose behalf the DMA Authorised Person acts is not being complied with consistently. NZX sought feedback on:

(a) whether it should introduce any additional requirements in relation to the provision of reference codes for all DMA clients (e.g. by requiring a unique identifier to be applied to each person who enters an order via a DMA system); and

(b) whether Rule 10.11.1 should be amended to include a note that NZX Participants can meet their obligations by contractual arrangement, which is enforceable, that allows them to access this information from the DMA Authorised Person or that requires the DMA Authorised Person to supply this information directly to NZX.

Submitters generally objected to (a) because they considered that it would be unworkable due to client constraints, especially among orders coming from overseas. Submitters considered that the current requirements in relation to DMA Authorised Persons are adequate although there is an argument for overseas DMA orders to be identified where the client is New Zealand registered. Also, submitters considered that client confidentiality also makes this suggestion difficult to implement in practice. One submitter noted that IT changes would be too difficult or costly for little perceived benefit.

In respect of (b), submitters noted that the proposal is probably unworkable due to legal constraints. One submitter noted that the terms and conditions with DMA clients are hard to amend and would be unwelcomed by their DMA clients.

Identifying NZX Dealers who access the Trading System through Iress or Securitease NZX proposed that NZX Dealers that access the Trading System via a third party entry system (e.g. Iress or Securitease) be required to use a unique identifier which will pass through to the Trading System. Submitters suggested NZX contact accredited vendors directly in order to access NZX Dealers’ identification (ID). However, NZX notes that Iress have said previously they would not release this information without permission from NZX Participants.

It seems there was some confusion over the suggested application of proposed amendments in this area, with submitters thinking that these would apply to all DMA clients, rather than just registered NZX Dealers as intended.

Iress ID’s are already available to be passed through to the Trading System and simply need to be authorised by, and coordinated through, Iress. Iress have previously advised that it is technically straight forward and only requires their broker customers to approve the changes.

6 NZX is aware of this concern but considers that getting the FSP or NZBN number of institutional clients in New Zealand is better than not getting any at all.


This indicates there should be little or no IT investment required from NZX Participants. Therefore NZX plans to proceed with these changes.

Proposed outcomes and reason for proposed outcomes An overriding comment from submitters in response to the proposals to enhance existing surveillance tools was that there would be little benefit from the proposed changes. However, NZX considers that this overlooks the point of these proposed changes, which seek to improve the information and tools available to enhance NZX’s existing surveillance function.

NZX’s surveillance function is important for the operation of fair, orderly and transparent markets and NZX has a joint responsibility along with the FMA to monitor and investigate potential market misconduct. NZX’s ability to monitor trading conduct relies on access to data. In particular, the operation of orderly markets has been identified as a focus within NZX’s Regulatory Agenda for 2016, which notes an objective of ensuring “comprehensive and effective frontline monitoring and enforcement of trading misconduct on NZX’s markets.”

A number of submitters noted that NZX already has access to the information and data which is sought by the current proposals. However, real-time access to this data enables NZX to undertake enquiries on a more informed basis without the need to “fish” for the data from brokers first.

The proposals should significantly reduce the number of routine requests for information from NZX Participants and will therefore benefit NZX Participants through a reduction in the time and resources required to respond to these routine requests.

Reporting underlying client CSNs NZX does not accept that requiring additional details to be entered into the Trading System should lead to significantly more operator errors or worse outcomes for NZX’s surveillance function, particularly given that CSN data entry error rate is currently very low. NZX is still inclined to require reporting of underlying CSNs for retail client orders in all cases but would first like to understand the potential impact of this change upon NZX Participants. This matter is currently addressed via guidance so NZX will reconsider this guidance following the receipt of further feedback from NZX Participants.

Flagging ‘Employee Trades’ in the trading system NZX proposes to amend the Rules and Procedures to require the flagging of trades by Employees and Prescribed Persons and to set out all other currently required trading flags. This will ensure all flags are identifiable and there is a central record of them.

Entering FSP numbers or ‘NZ Business Numbers’ for all orders on behalf of wholesale clients Based on the feedback received NZX does not propose to require FSP or NZBN numbers to be entered for wholesale client orders. However, as an alternative measure NZX will require NZX Trading Participants to periodically provide client reference numbers to NZX’s Surveillance team so that NZX can identify trading by wholesale clients.

Providing reference codes for all Direct Market Access (DMA) clients Changes proposed in relation to the provision of reference codes for all DMA clients are probably not feasible for the reasons outlined in the feedback section above and NZX does not propose to progress these at this stage.

However, given the feedback received NZX has noted that there are some difficulties with the current drafting of the DMA related rules and seeks additional feedback in respect of the practical application of these rules in the feedback section below.


Identifying NZX Dealers who access the Trading System through Iress or Securitease NZX proposes to require that all NZX Dealers accessing the Trading System, whether directly or via third party systems, such as Iress, are clearly identifiable. This will allow NZX to identify all trading linked to particular NZX Dealers in order to monitor for potential market misconduct.



Reporting underlying client CSNs Where an individual CSN is known for an underlying retail client but the securities are legally held under a custody CSN, it is hard to gauge how much extra cost or administration would be involved in requiring brokers to enter the underlying retail client’s CSN. NZX seeks feedback on the following points:

34. What additional processes (manual or IT) would NZX Participants needs to introduce to meet this requirement?

35. What additional costs and risks would this introduce?

Further feedback sought in respect of DMA market activity NZX has noted that there are some difficulties with the practical application of the rules in relation to DMA and seeks additional feedback in respect of the following before considering additional changes:

36. Is Rule 4.5.2 sufficiently clear that the rules in relation to trading conduct apply equally to the Trading Participant irrespective of the method of order entry, or is additional clarification needed?

37. NZX has separately received feedback that difficulties are created by Rule 10.9 when accepting new DMA Authorised Persons. It has been suggested that it is difficult to meet the requirements in this rule in relation to “the client on whose behalf the DMA Authorised Person has been authorised to enter/submit Orders”. NZX would like further feedback in order to consider appropriate amendments.

38. The Rules require the maintenance of a register of DMA Authorised Persons. NZX seeks feedback with respect to the additional procedures and costs NZX Participants must meet to comply with the register requirements set out in Rule 10.11.1, in particular:

(a) The requirement to include details of the underlying client where the DMA Authorised Person is acting as agent for an underlying client;

(b) The requirement to include a copy of the written authorisation from the underlying client granting the DMA Authorised Person authority to act on behalf of that underlying client; and

(c) The difficulties created by the level of detail required where the NZX Participant has a large number of clients that use its DMA facilities;

39. NZX proposes to clarify Rule 10.8.3 so that NZX Participants must lodge a new application for each new system intended to be used to provide DMA access. What, if any, difficulties would this change pose for NZX participants?


40. With respect to algorithmic trading, NZX is considering a requirement that DMA Authorised Persons must disclose to NZX Participants when they will use algorithms. NZX seeks feedback regarding whether this is necessary or whether NZX Participants are already able to easily identify where a DMA Authorised Person is using an algorithm.


Other Amendments Summary of feedback received

Good Broking Practice In addition to the specific topics raised as part of the review, a number of submitters provided feedback on other areas of the Rules. This feedback included two requests for NZX to revisit the definition of Good Broking Practice. Submitters suggested that the current definition is too broad and therefore creates a risk of arbitrary enforcement. These submitters indicated that the definition should be limited to what is prescribed in the rules, guidance, policies and directions.

Resolving complaints Feedback included a request to amend Rule 15.7.3 so that NZX Participants can appoint people other than compliance managers to investigate and resolve complaints with oversight and monitoring of this process by an NZX Participant’s compliance function.

Protecting the rights of buyers and sellers in certain circumstances NZX also received feedback requesting the removal of Rule 15.18, which requires NZX Participants to protect the rights of buyers or sellers where a right or entitlement arises after a trade has occurred but before delivery of the securities. The feedback indicated that this could lead to NZX Participants acting on a discretionary basis without the requisite authority.

Client order priority One respondent requested that NZX consider reviewing the Client Order Priority Rule (Rule 15.16) to account for activities with respect to DMA trading and to consider introducing some element of client consent to disregard this requirement.

Short Selling – Rule 10.12.4 Rule 10.12.4 prohibits short selling where a takeover notice, as defined in the Takeovers Code, has been received by NZX. Feedback in respect of this rule noted that NZX Participants are unclear on the objective of the restriction and requested its removal. The feedback noted that the purpose of the requirement was unclear, particularly where the seller had made arrangements to deliver the securities (e.g. by way of a borrow arrangement with a securities lender). In addition, it was noted that there was an opportunity for regulatory arbitrage in respect of dual listed securities as an equivalent restriction does not apply to trading in Australia.

It was suggested that the prohibition on short selling in securities subject to a Takeover Notice be removed in respect of covered short sales.

Feedback received regarding margin cover for short sales is dealt with under the section titled Margin cover requirements.


Good Broking Practice NZX proposes to maintain the current definition of Good Broking Practice for the following reasons:

• The definition is deliberately broad because an overarching obligation is necessary to ensure that the Rules are flexible enough to cater for developing markets and market practices;


• No evidence has been provided of this requirement being arbitrarily or inappropriately applied. The NZ Markets Disciplinary Tribunal (NZMDT) disciplinary process is designed to prevent arbitrary application of the Rules, including in respect of alleged breaches of Good Broking Practice. NZX’s enforcement activities are also subject to oversight from NZX’s Regulatory Governance Committee and externally by the Financial Markets Authority; and

• NZX considers that it is more appropriate to offer additional guidance on how this obligation should be applied in different contexts.

Resolving complaints NZX proposes to review the drafting of Rule 15.7.3 to allow NZX Participants to appoint people other than compliance managers to investigate and resolve complaints, while requiring oversight and monitoring of this process by a compliance function.

Protecting the rights of buyers and sellers in certain circumstances NZX seeks additional feedback on how buyers and sellers can be protected in circumstances where a right or entitlement arises after a trade has occurred but before delivery of the securities, without causing an NZX Participant to act outside its authority.

Client order priority NZX does not propose to introduce a client consent element to the client order priority rule because this would be contrary to the primary purpose of the requirement which seeks to manage conflicts of interest. NZX seeks additional feedback on how the Rule should account for the difficulties that arise from DMA trading in respect of managing compliance with the client order priority requirements.

Short Selling – Rule 10.12.4 The primary objective of the rule is to prevent short selling during a period of diminishing supply of deliverable stock which could lead to settlement failure. As the levels of takeover acceptances increase, the ability to borrow securities to deliver against short positions decreases. The risk of being unable to deliver against a short sold position at the time compulsory acquisition is declared increases.

Such trading is a market risk as securities could be difficult to obtain during a takeover due to lower levels of liquidity on NZX’s markets.

Failing to deliver stock, because of a lack of liquidity, could have a domino effect on other NZX Participants who are relying on the stock being delivered to settle other trades. This increases settlement risk for the NZX clearing house and increases the risk to investors.

NZX does not propose to remove the restriction on short selling where a takeover notice has been received by NZX. However, NZX seeks additional feedback on whether the rule should be amended to also capture takeovers that are effected through a scheme of arrangement.

NZX proposes to amend Rule 10.12 to clearly include the requirement that all short selling be reported as a short sale by the use of the designated flag in the Trading System. This is a drafting amendment to incorporate an existing requirement that is set out in Guidance Note 16/08 – reporting short sales.


Protecting the rights of buyers and sellers in certain circumstances 41. NZX seeks additional feedback of the potential impact of Rule 15.18, including:


a) The circumstances where NZX Participants currently meet the requirements of this Rule;

b) How this could cause a NZX Participant to act on a discretionary basis without the requisite authority;

c) What alternative means there are for protecting clients in these circumstances; and

d) Any potential amendments to the Rules.

Client order priority 42. NZX seeks additional feedback in respect of the impact of DMA trading on compliance with

Rule 15.16 and proposals for how this could be accounted for within the Rule.

Short Selling – Rule 10.12.4 43. Schemes of arrangement and amalgamations under Part 15 of the Companies Act

(“schemes”) are statutory, Court-approved procedures that allow the reorganisation of the rights and obligations of shareholders and companies. NZX seeks additional feedback on whether Rule 10.12.4 should be amended to also capture takeovers that are effected through a scheme of arrangement.

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