This Year's Capital Market Audit Focuses on 'Preferential Redemption and Stock Price Manipulation'

Controversy Continues Over Preferential Repurchase Suspicion in Lime Scandal and Unfair Trading Practices
Focus on Improving Bond-Type Wraps and Trust Mismatches and Eradicating Illegal Short Selling Issues

On the 4th of last month, Lee Bok-hyun, Governor of the Financial Supervisory Service, is responding at the National Assembly's Political Affairs Committee. [Image source=Yonhap News]

The biggest topics of this year's capital market audit are expected to be the controversy over preferential redemptions of Lime Funds and the stock price crash triggered by Soci?t? G?n?rale (SG) Securities. Initially, the CEOs of Mirae Asset Securities, implicated in preferential redemption suspicions involving multi-term lawmakers, and Kiwoom Securities, linked to the stock price crash, were considered strong candidates for summons as witnesses at the audit, but they were ultimately excluded from the final witness list. As a result, the securities industry appears somewhat relieved. However, since the Political Affairs Committee has decided to hold additional meetings and resolutions if more witnesses are needed, it seems they will remain cautious and observe quietly for the time being.

According to the National Assembly and financial circles, the National Assembly's Political Affairs Committee will begin this year's audit starting with the Office for Government Policy Coordination on the 10th. The committee will conduct audits of the Financial Services Commission on the 11th, the Financial Supervisory Service on the 17th, and a comprehensive audit of both the FSC and FSS on the 27th.

Main Topic 'Preferential Redemptions'... Effectively a 'Lime Fund Audit'

The main topic of the capital market audit is the preferential redemptions of Lime Funds. In August, the Financial Supervisory Service (FSS) announced that after conducting additional inspections on three asset management companies?Lime, Optimus, and Discovery Asset Management?it uncovered activities such as fund recycling for specific fund beneficiaries, embezzlement of funds, and pursuit of personal gains by executives and employees.

The FSS revealed that some investors received preferential redemptions just before the large-scale suspension of redemptions was declared. Subsequently, when Kim Sang-hee, a member of the Democratic Party, was mentioned as a recipient of preferential redemptions, the issue became politically charged. In early last month, during a full meeting of the Political Affairs Committee, Democratic Party lawmakers and FSS Governor Lee Bok-hyun clashed over the announcement of the Lime re-investigation results. Governor Lee stated, "It is preferential treatment to withdraw funds to someone in a position by chance," and added, "The asset management company's violation of the Capital Markets Act is clear."

As the Democratic Party and the FSS Governor engage in a battle over the truth regarding the Lime Fund preferential redemption allegations, the political confrontation between the ruling and opposition parties is expected to be fiercer than ever in this audit. It is also noteworthy that the FSS will undergo an on-site audit by the National Assembly for the first time in six years since 2017. Although on-site audits of the FSS have been conducted occasionally in the past, they were suspended for a while due to COVID-19 and other reasons. A Political Affairs Committee official predicted, "Attention will be focused on issues related to Lime and other private equity funds."

Calls to Prevent Stock Price Manipulation... Short Selling Also a Frequent Topic

The large-scale stock price crash caused by Contracts for Difference (CFD) that heated up the stock market last April is also a key topic. According to the '2023 National Audit Issue Analysis' report published by the National Assembly Legislative Research Office, "prevention of recurrence of unfair trading practices such as market manipulation" is included among the major expected issues in the Political Affairs Committee's audit related to the securities sector. Unfair trading practices in the stock market are considered serious violations that harm many honest investors and disrupt market order.

Following the limit-down incidents involving eight stocks in April and an additional five stocks in June, awareness of unfair trading practices in the stock market has heightened further. As the responsibilities and duties of financial authorities come into focus, attention is expected to concentrate on this during the audit. The financial authorities have introduced measures such as imposing fines, strengthening early detection functions, and a complete overhaul of the Korea Exchange's market surveillance system to block unfair practices. Lawmakers in the Political Affairs Committee are expected to examine the appropriateness and effectiveness of the regulatory improvements proposed by the financial authorities. The importance of legal and institutional improvements to prevent a 'second limit-down incident' is likely to be discussed once again.

Other major issues likely to arise include mismatches in maturity of bond-type wrap accounts and trusts, unhealthy business practices such as 'bond recycling,' and eradication of illegal short selling. Regarding unhealthy business practices related to bonds, some securities firms have been criticized for including and managing long-term corporate commercial papers (CPs) with low trading volumes in bond-type wrap accounts and trusts, which customers subscribe to for short-term surplus fund management.

Improvements to the short selling system and strengthening internal controls of foreign companies are also frequent topics in the audit. The Political Affairs Committee has pointed out that, given the significant dissatisfaction and suspicion among individual investors regarding short selling, the FSC and FSS need to consider institutional improvements. There is also a strong call to prevent abuse of short selling through the use of adverse information and intentional naked short selling amid increased stock market volatility. Additionally, last year's audit saw demands for the FSC and FSS to consider introducing a short selling quota system. The short selling quota system limits short selling to within 3-5% of the issued shares per stock.

This content was produced with the assistance of AI translation services.