Derivatives issuers

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Transitional Licensing

Page last updated: 2 Jul 2019

This page explains what a derivatives issuer is, how the FMC Act defines derivatives, and the obligations of licensed derivatives issuers. Investors who want to find out more should read our derivatives trading page

What is a derivatives issuer?

Under the Financial Markets Conduct Act 2013 (FMC Act) a ‘derivatives issuer’ is a person that is in the business of entering into derivatives. A person is ‘in the business’ of entering into derivatives if they carry on the business of entering into derivatives (whether or not the business is the person’s only business or the person’s principle business).

What is a derivative?

In the FMC Act, a derivative is defined as an agreement in relation to which the following conditions are satisfied:

under the agreement, a party to the agreement must, or may be required to, provide at some future time consideration of a particular kind or kinds to another person
that future time is not less than three working days, for a foreign exchange agreement, or one working day in any other case, after the time at which the agreement is entered into
the amount of the consideration, or the value of the agreement, is ultimately determined, is derived from, or varies by reference to (wholly or in part) the value or amount of something else (of any nature whatsoever and whether or not deliverable), including, for example, one or more of the following:
- an asset
- a rate (including an interest rate or exchange rate)
- an index
- a commodity.

It also includes any transaction, regardless of duration, that is recurrently entered into* in the financial markets in New Zealand or overseas and is commonly referred to* as:

a futures contract or forward
an option (except an option to acquire by way of issue an equity security, debt security, or a managed investment product)
a swap agreement
a contract for difference, margin contract or rolling spot contract
a cap, collar, floor or spread.

The FMA's view

“Recurrently entered into” means the product must be regularly traded in the market.
“Commonly referred to” means issuers cannot rename an existing transaction type to avoid it being defined as a derivative. We believe that if most of the market refers to a transaction as, for example, an option or contract for difference, then it will be a derivative.

The FMA has the power to declare any arrangement used for investment or risk management as a particular kind of financial product. For example, we may use this power if an arrangement has been structured to avoid falling within the definition of a derivative, but in our view still functions like a derivative.

We can also declare that a derivative is not a financial product. We have used this power to designate certain short-duration forward foreign exchange contracts as not derivatives for the purposes of the FMC Act – see our designation notice for more information.

Your obligations

A derivatives issuer that makes a regulated offer of derivatives must be licensed by the FMA. A regulated offer means an offer of financial products to one or more investors where at least one of those investors requires disclosure, for example because the investor is a retail investor. SeeA derivatives issuer is required to be licensed when making a regulated offer. A regulated offer includes any offer of derivatives when disclosure must be made to one or more investors. For example, a retail investor. See section 41 of the FMC Act.

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Notifying the FMA

Licensees’ obligations include notifying the FMA of certain events and providing us with information. For example, section 412 of the FMC Act require a derivatives issuer to report various matters to the FMA as soon as practicable, including any breach (or likely breach) of its market services licensee obligations and any other material change of circumstance.

Conditions for derivatives issuer licences

A derivatives issuer licence is subject to:

- a condition that the licensee or authorised body may, under the licence, provide only the market services (for example, acting as a derivatives issuer) or class of market services to which the licence relates and for which each person is authorised under the licence

- the conditions imposed by the FMA under section 403 – these will generally include the standard conditions and/or any specific conditions

- the conditions imposed by regulations (if any).

Client agreements

When issuing derivatives under a regulated offer, a derivatives issuer must ensure that there is a client agreement governing that service. The client agreement must be:

entered into before the derivative is issued to the investor
in writing and contained in 1 or more documents that are legally enforceable as between the retail investor and the derivatives issuer.

Regulation 225 of the Financial Markets Conduct Regulations 2014 (FMC Regs) contains certain provisions that are treated as being implied into all client agreements.

Financial reporting obligations

Licensed derivative issuers are FMC reporting entities and must comply with all of the following:

Keep proper accounting records to assist with the preparation of compliant financial statements -records must be kept in English and a copy must be kept in New Zealand.
Prepare financial statements for the group's operation. Those financial statements must comply with generally accepted accounting principles in New Zealand.
Ensure that the financial statements are audited by a licensed auditor or registered audit firm.
Lodge the financial statements and the auditor’s report on the statements with the Companies Office within 4 months of the balance date.

Offer information in a PDS

Information about regulated offers of derivatives must be disclosed in a product disclosure statement (PDS) and on the Disclose Register. Together, this information must include all material information about the offer of the derivative and be up to date, accurate and understandable. The purpose of the information is to assist investors with their investment decisions.

Schedule 1 of the FMC Act sets out a series of statutory exclusions where lighter compliance paths are appropriate. Depending on the exclusion, limited or no disclosure may be required.

The FMA offers a pre-registration review service to help issuers and their directors feel more confident that their offer documents are likely to satisfy our expectations.

AML/CFT obligations

The Anti-Money Laundering and Countering Financing of Terrorism Act 2009 (the Act) imposes several obligations:

You must provide a written risk assessment of the money laundering and financing of terrorism activity you could expect in the course of running your business.
You are required to implement an anti-money laundering and countering financing of terrorism programme that includes procedures to detect, deter, manage and mitigate money laundering and the financing of terrorism.
You are required to appoint a compliance officer to administer and maintain your programme.
You are required to perform due diligence processes on your customers. This includes customer identification and verification of identity.
You are required to report suspicious transactions.

The FMA supervises designated business groups (DBGs) and reporting entities listed in Section 130 of the Act.

Fair dealing obligations

The FMC Act sets out minimum compliance standards of behaviour for people operating in the financial markets. It prohibits:

misleading or deceptive conduct
false or misleading representations
unsubstantiated representations
offers of financial products in the course of unsolicited meetings.

Please contact us to report misconduct, make a complaint or give us a ‘tip-off’.

Derivatives investor money and property handling obligations

Licensed derivatives issuers are required to comply with the requirements contained in the FMC Regs for the handling of derivatives investor money and derivatives investor property. These include:

Holding derivatives investor money and derivatives investor property on trust for the investor (or ensuring that derivatives investor money and derivatives investor property is held on trust for the investor).
Ensuring that derivatives investor money is paid promptly into a specified bank to a trust account and held separate from money held by or for the derivatives issuer or offeror on its own account.
Daily reconciliations of derivatives investor money and derivatives investor property either by an equity-based reconciliation in accordance with regulation 244A of the FMC Regs or a cash-based reconciliation in accordance with regulation 244B of the FMC Regs (an equity-based reconciliation must be carried out if the derivatives issuer carries out authorised hedging activities).
Derivatives investor money and derivatives investor property must not be used to satisfy any liability of a derivatives issuer.
Keeping and maintaining up-to-date records of derivatives investor money and derivatives investor property held for each investor.
Obtaining an assurance report, within 4 months after the issuer’s balance date, that states whether, in the auditor’s opinion, the derivatives issuer’s processes, procedures, and controls relating to derivatives investor money and derivatives investor property were suitably designed and operated effectively during the accounting period (see the Supervision by us section for information about additional assurance reporting obligations).

See Financial Markets Conduct Regulations 2014 for more info.

Supervision by us

Licensees are subject to supervision by us. We take a risk-based approach to monitoring, meaning the extent of supervision varies depending on our priorities and the nature of your business. From time to time we also conduct sector risk assessments to obtain information that assists us in our risk-based monitoring approach. Monitoring can range from a full onsite inspection through to information requests and desk-based reviews. As a minimum, we will seek assurance you are complying with the basics, ie:

the minimum standards for licensing
the conditions attached to your licence.

We will also assess your conduct generally as a licence holder and check you are complying with key legislation such as the Financial Advisers Act 2008, the Anti-Money Laundering and Countering Financing of Terrorism Act 2009 and the fair dealing provisions within the FMC Act.

A feature of the FMC Act is the use of preventative regulation, which aims to identify and anticipate potential causes of harm to New Zealand’s financial markets and investors. Find out more in our Strategic Risk Outlook.

A key part of our supervision is self-reporting by licensees. If we can see that you can identify and resolve problems it gives us confidence. If you have any significant issues, we encourage you to tell us about them and what you are doing to remedy them.

In addition, we review your two assurance reports, which you are required to submit as part of your reporting requirements (via compliance@fma.govt.nz). These two reports are:

Standard Condition 11 ‘Financial Resources – Audit Requirements’ of the Standard Conditions for Derivatives Issuers Licences
Regulations 248 and 249 of the Financial Markets Conduct Regulations (FMC Regs)

If you need to contact us at any time during the term of your licence you should email compliance@fma.govt.nz.

Exemptions

The FMA has wide powers to exempt persons or transactions from some financial markets law requirements. These powers enable us to remove rigidities in the law and ensure requirements for businesses are reasonable and cost-effective. Find out more about exemptions you can apply for under the FMC Act and current exemption notices.