ELS Liability Sharing Plan to Be Released Soon... Focus on Compensation Standards and Penalties

As the on-site inspection by regulatory authorities regarding the massive loss incident involving Hong Kong H Index (Hang Seng China Enterprises Index·HSCEI) based equity-linked securities (ELS) concludes, attention is focused on the content of the responsibility-sharing guideline to be announced next week and whether a huge fine will be imposed.

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According to the financial sector on the 8th, the Financial Supervisory Service (FSS) will complete the on-site inspection of ELS sellers (5 banks and 6 securities firms) on this day. The FSS had previously conducted the first on-site inspection from the end of last month, followed by a second inspection starting from the 16th of last month, and extended it once more earlier this month.

The authorities plan to announce the responsibility-sharing guideline based on the inspection results on the 11th. This will serve as a guideline for voluntary compensation by each bank. The contentious 'blanket compensation' is unlikely to be implemented. During the previous overseas interest rate-linked derivative-linked securities (DLF) incident, a basic compensation rate of 20-40% was set depending on compliance with suitability principles, fulfillment of explanation obligations, and whether there was improper solicitation, with a final compensation rate of 40-80% applied according to investor characteristics.

FSS Governor Lee Bok-hyun recently appeared on a radio program and said, "We are reflecting various factors in the matrix related to the compensation plan," adding, "For those who have difficulty making legal decisions, 100% or equivalent compensation is possible, but blanket compensation is not considered. In some cases, there may be no compensation at all."

Once the responsibility-sharing guideline is announced, banks and other sellers will decide whether to accept it and proceed with voluntary compensation first. For the remaining amount not covered by voluntary compensation, the FSS Dispute Mediation Committee's mediation process must be followed. If either the seller or the consumer does not accept the mediation proposal, the compensation issue will be resolved in court.

Following this, disciplinary actions and fines against ELS sellers, to be discussed in the disciplinary review based on the inspection results, are also a matter of interest. According to the current 'Financial Consumer Protection Act,' if a seller neglects the obligation to explain or engages in improper solicitation, a fine of up to 50% of the income gained from the violation can be imposed. Here, income refers to the investment amount or loan amount, and considering each company's ELS sales volume, fines in the trillion-won range could be imposed.

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If fines in the trillion-won range are imposed, the impact on the banking sector is expected to be significant. Considering that the combined net income of the five major financial holding companies (KB, Shinhan, Hana, Woori, NH Nonghyup) last year was about 17 trillion won, banks could be forced to pay a substantial portion of their net income as fines.

The authorities have left an escape route regarding the imposition of fines. There have been remarks suggesting that voluntary compensation and fines could be linked. Although the FSS has dismissed the possibility of imposing trillion-won level fines as "not confirmed," Governor Lee recently told reporters that if past mistakes are substantially corrected and responsibility is acknowledged with restoration measures for stakeholders, it is natural to consider this as a factor for reducing fines.

However, the banking sector views linking fines with voluntary compensation as inappropriate. A representative from a commercial bank said, "Although this is a case before the Financial Consumer Protection Act and somewhat different, the scale of fines being discussed is larger compared to the previous DLF and Lime Fund incidents," adding, "Since there was no problem with the product itself and the issue of incomplete sales must also be examined, it is questionable whether there is a clear justification for imposing fines using this as leverage."

Meanwhile, once the responsibility-sharing guideline is announced, banks and other sellers are expected to begin full-scale responses. On the 11th, a press conference by Cho Yong-byeong, chairman of the Korea Federation of Banks, is scheduled, and on the 18th, the Federation's board meeting will be held. Governor Lee is invited to the board meeting and is expected to have dinner with the board members. A financial sector official said, "Although it is a routine scheduled event, given the circumstances, there will likely be exchanges of opinions and statements of position."

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