NOTICE-The Biggest Challenge for Wealth Management in China

By Qi Lyu

The biggest legal challenge for China’s wealth management industry is not suitability testing, but quasi-class actions.

I had the above recent discovery when I was preparing a training course for the China Trust Society on the subject of consumer protection, where I discovered that a large trust company was found liable for 17 trustees tranche B for their breach of contracts of trust. It was the Citic Trust. And as more and more case searches are executed, more and more trust companies involved in such quasi-actions appear, with big names like Xinjiang Trust, Evergrande Trust, Minsheng Trust among them.

I consider it over and come to the conclusion that quasi class actions based on breach of fiduciary duty may be more potentially threatening to China’s burgeoning wealth management industry than the ambiguous term of “convenience”.

The duty of fitness is formally adopted at the judicial level by the well-known “Jiu Min Ji Yao” (Memo of the National Conference for the Work of the Court in the Trial of Civil and Commercial Cases, issued by the Supreme People’s Court) in November 2019. Basic suitability requirements fall on financial institutions, including knowing your customers, knowing your products and matching them well, which was executed quite strictly and led to unforeseen losses on the side of the banks . The entire wealth management industry is building its adequacy-compliance systems to defend itself.

However, non-compliance with suitability requirements only causes a particular problem for individual customers, while quasi-class actions could be a real disaster for the issuer of the product.

China has built its own version of class action in recent years in the securities market, called the representative litigation regime, which does not yet cover the wealth management industry. The reason it could be named as a quasi-one is that they share some common characteristics: the basic facts are similar, the suits are argued by lawyers, and the judgments are submitted on a uniform scale.

This set of Citic-Trust cases is typical, consistent with these points:

Citic-Trust was challenged in a case for its two group trust plans for its breach of fiduciary duty and ultimately lost the case after the appeals process in 2018. The other 17 cases streamed into court, led by the same attorneys in 2019, and received all judgments on November 29, 2019 with every reference to the previous sample judgment.

The facts are as follows: Mr. Cai invested 1 million yuan in Citic Trust No.27 Scheme to be a Class B subordinate holder in May 2015. N0.27 was to invest in the securities market. The procurement process is not completed in a face-to-face manner; instead, related documents are delivered to the applicant by a third party with the authorization of Citic Trust and displayed back and forth after each signature. The dispute arises

Given the previous case on the same verdict, the reasoning and analysis all follow the first pattern: not recalling product risk appropriately and not disclosing it enough; the other layer is closely related to the specific trade, where the fiduciary does not issue a margin call before the forced close or liquidate in a timely manner, resulting in an increased loss. Mr. Cai got back ¥153645.26.

All 17 cases were adjudicated against the trustee with a calculated damage of nearly 15% of their investment, which could almost remedy the investor’s loss on principal. The total Class B of N0.27 stood at 87,900,000 with the unfortunate result that Citic Trust earned less than ¥140,000 under this product.

What could be worse is that this may not be unique to Citic Trust, but to other trust companies with malpractice. Such a problem could even be a disaster for the industry since some are integrated into the current business model: for products sold by intermediary companies, which take a large part of the remuneration, loopholes in the exercise of the duty to adequacy and the duty to inform are always inevitable. As for strict compliance with the obligation to fully disclose and inform and timely liquidate, it may still be too professional for trust companies who are used to doing channel securities business (passage business ) while having to assume the responsibilities themselves.

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