Securities Investor Protection in the Context of Financial Crisis

1. Securities Investor Protection in the Context of Financial Crisis —— the Practice and Exploration for SIPF China Securities Investor Protection Fund Co., Ltd. Chen Gongyan

2. On behalf of the China Securities Investor Protection Fund Co., Ltd, I would like to extend a warm welcome to all distinguished guests and friends present. • 2

3. In the past two years, the international financial crisis caused by subprime mortgage crisis affected the world economy considerably, the direct effect was the loss of investors’ advantages though there were many reasons which caused the financial crisis. Thus, a more reasonable, complete and effective protective system for investor is required by the capital market under the condition of the global economy and financial crisis. China securities market has been focusing on the establishment and improvement of the protective system for investors since its birth. In this century, China securities market suffered two major risks (see figure 1), which also tested the protective system for investors twice, and gradually improved in it. • 3

4. Two major risks in China securities market since 2000 • First one: till 4 years from June 14, 2001 to June 6, 2005, the stock index (Shanghai composite index) was down from 2245.44 points to 998.23 points, with the decline range of 55.5%.

5. Jan. 2001—Jul. 2005 Shanghai composite index run chart

6. Features of the first risk The customers’ capital were invested to self-run or industrial sectors, thus to push industry risks to the edge of break-out

7. The results of first risk • Among 133 securities companies, nearly half of them were under the obvious liquidity difficulties by 2003. • The business activities of securities companies even including the staff's salary have to depend on the embezzlement of the customer’s capital in the event of hardly obtaining any legal financing due to the limitation of engaging in margin trading. • Because of the constant decline in market, the whole securities industry lost out and could hardly make ends meetfor years, the embezzled customer's capital were invested to the “long-term” self-run or industry areas and couldn’t be recovered, which may cause the industry crisis. • The market was down constantly with a serious loss of customer.

8. Figure 2: mode of risk in securities company Self-run securities business Securities company Settlement fund for securities trading of customer Bond buy-back fund of customer Industrial investment Abnormal fund of customer’s financing business Daily payment

9. Risk handling of securities company With the cooperation of the State Council, Finance Ministry, the People’s Bank of China and the Judicial System, China Securities Regulatory Commission organized the securities company’s risk handling work from the latter half of 2003 lasting nearly for 5 years. 27 securities companies with high risk were closed by using the state’s funds, 10 securities companies which were under the liquidity difficulties were reorganized . Equity capital of 18.21billion yuan, current fund of 3.81billion yuan and purchase fund of 37.70 billion yuan were invested by state.

10. Figure 1: settlement to securities companies from 2003 to 2007

11. The first effect of risk handling: promotion of the improvement of the regulation system. • Law of Securities, Law of Company, Criminal Law and Bankruptcy law were modified. • Supervision and Management Regulation for Securities Company and Risk Handling Regulation for Securities Company were enacted. • A subject conference on the national bankruptcy case judgment for securities company was held by Supreme court twice successively, which firstly reduced the risk in financial industry by law completely, realizing the effective connection between administration treatment and the justice bankruptcy of securities company.

12. The third effect of risk handling: the goal of ‘purchasing system with money’ was realized. • The trusteeship of customers’ trading settlement capital by the third party was used in the treated securities companies with high risk. • A new buy-back trading system for national debt was established, which specially adjusted the business procedure, made the respective responsibilities of customers, securities companies and registration settlement companies clear, set up a relative rule that could prevent the embezzlement of the customers’ national debt, and make the smooth conversion between old and new systems. • For assets management, some new rules were set up, including the trusteeship of customers’ funds by the third party, sufficient appearance of investment risk to customers and the regular information disclosure. • Comprehensive account clearance work to treated securities companies was carried out, and the system of true name used in account was initially set up. • A new system including true name used in account, special seat and scale control in self-run business was used. 12

13. The third effect of risk handling: a withdrawing system from securities company market was set up. • An operative relative policy system, organizing form and working rule were gradually formed, and supporting measures and effective system for withdrawing from securities company market were established. The fourth effect of risk handling: a system combining classified regulation and supervision for securities company and protecting market-oriented fund collection was realized. • Making classified regulation and supervision to securities company • Building a “unified standard, dynamic management and different charge” system for fund collection. • Realizing the significant change from the postmortem risk handling for securities company to prior prevention and reduction of securities company’s risk . 13

14. Figure 2: type of securities company and comparison of payment proportion 14

15. Figure 3: table of protective fund collection over the years Up to Aug. 31, 2009 Unit: 100 million RMB 15

16. The fifth effect of risk handling: reset industrial reputation and enhance investors' confidence In less than two and half years from June 6th, 2005 to October 16th, 2007, Shanghai Exchange Index ascend from 998.23 to 6124.04, which has broken the record in the history. This round of risk handling in securities companies, effectively neutralized industrial risks of securities companies, raised their awareness of operating in compliance with regulations and competency of resisting risks, so that Chinese securities market could be able to face the international financial crisis and create conditions for comprehensively advancing investor protection. 16

17. Second risk: Shanghai Exchange Comprehensive Index plunged from 6124.04 on October 16th, 2007 to 1664.93 on October 28th, 2008, down 72.8%.

18. Curve of Shanghai Exchange Comprehensive Index (from July 2005 till September 2009)

19. This marketing risk broke out in the course of international financial crisis, with the difference as follows from last risk: No securities company showed confronting liquidity risks; Customers suffered greater loss. Thus, in the course of this crisis, the risk handling in securities companies is not the main issue but how to let investors further understand risks in securities companies and raise self protection for reasonable investment that accords with their own competence of risk tolerance. Features of second risk

20. Figure 4: Earnings of securities companies from 2007 to 2009 Unit: 100 million RMB 20

21. SIPF explored following aspects starting from its self functionality 务 21

22. Enhance market supervision Supervise change of confidence of investors, pre-judge marketing situation and propose suggestions and solutions. Supervise change of marketing capital, timely disclose actions in violation against laws and regulations and safeguard legal interests and rights of investors. Participate in supervision of information about various operation agents in securities market, and help build up disclosure system which is standard and transparent.

23. Enhance market supervision: supervise change of investors’ confidence SIPF monthly formulated investor confidence index to supervise market change. The confidence of investors had been in relatively pessimism in 2008, especially in August, at the lowest level of 36.3. But after August, the index is generally climbing. Now it is going toward an optimistic trend this year. Confidence index is climbing after getting down to the bottom in August 2008. Shanghai exchange comprehensive index arrived at the bottom at the end of October 2008. Confidence index arrived at the bottom two months earlier than Shanghai exchange comprehensive index. The upward trend of confidence index fully reflects market trend, with obvious feature of going ahead. The advance reaction of market confidence index is beneficial to stay calm and stable when proposing a set of steps to rein the stock market, and avoid over-radical actions.

24. Strengthen market supervision: supervise investors’ confidence Figure 3: Comparison between investors’ confidence and Shanghai exchange index trend 24

25. Enhance market supervision: supervise change of capital in market Under the united deployment of CSRC, SIPF has been building the surveillance and control system of customer’s capital in securities companies since last year. The system will support the regulation of securities, with an aim to supervise the capital flow in the market, to prevent customer’s capital from embezzlement, to timely disclose illegal actions of market dominance and practically protect legal interests and rights of investors. Necessity: deficiency shows in the operation of the entrusted system of the third party, especially the shortage of effective supervision on the customer’s capital in the whole market, so as unable to timely acquire the status of capital flow in the market. • The development and operation of surveillance and control system involves related regulation organizations, security exchanges, registration settlement companies, entrusted banks, settlement banks, securities companies, funding companies, association of securities industry and SIPF, each of which shall separately perform relevant obligation without change in its established responsibilities on the basis of reasonable division of work. • The system shall regard the accepted data from registration settlement companies, security exchanges and entrusted banks as the base, to compare the data delivered from securities companies, so as to find and prevent embezzlement and misappropriation. • The system can supervise the risks in the securities market via surveillance and analysis of capital flow, to disclose illegal actions of market dominance and other vicious incidents, which is helpful to take actions in protecting legal interests and rights of investors.

26. Strengthen market supervision: supervise change in market capital Figure 4: Illustration of surveillance and control system of customer’s capital Securities companies and other investment agents Shanghai and Shenzhen Security Exchange Capital account of customers Day-end transaction data Customer’s capital information Surveillance and control system Capital delivery of legal person Data of settlement Capital flow and balance of specific deposit account and administration account for customer’s transaction and settlement Data of change of customer’s transaction settlement Registration settlement companies Entrusted bank Securities company N Securities company N Risk warning Capital administration account of customers Account of settlement provision and customer capital in securities companies Special deposit account for trading settlement capital of customers in securities companies Regulatory organization Association of securities industry Capital flow between entrusted banking account of securities company and provision account of registration company Capital flow of entrusted banking account in securities company 26

27. Enhance market supervision: participate in supervision of information of market agents Financial crisis shows that deficiency in highly transparent mechanism of information disclosure and lack of effective regulation, shall lead to huge risks that are hard to foreseeableto various investors participated in capital market, including general investors. CSRC is to liaison with related organizations to set up a comprehensive standard data system of interactive disclosure of information based on XBRL technique. It aims at establishing a comprehensive system of standard data report and delivery in China, to further increase the transparency and efficiency of disclosing capital market information, without changing the current framework based on all rights and responsibilities and XBRL-based technical support. SIPF is in the progress of developing XBRL-based data application system. The system will provide investors with more convenient, standard and comprehensive platform of information browsing, which is beneficial to raise the judgment of investors about the market and increase the level of reasonable investment.

28. Improve investor-oriented service Chinese capital market is now in rapid development. The market feature of “brand-new and transit” determines the relatively uncertainty of current capital market in market environment and investor psychology. Besides, the market is lack of an internal regulation system. Thus, to set up a comprehensive investor-oriented service system is a necessary choice to foster qualified investors and promote stable development of the market.

29. Strengthen investor-oriented service Concerning the characteristics of Chinese investors in securities market, to strengthen investor-oriented service is of utmost necessity. SIPF displays its own advantage in devotion to build up a multi-leveled and multi-faceted investor-oriented service system comprising of investigation on investors, education of investors, investor call response, so as to protect the legal interests and rights of small and medium-sized investors. 29

30. Strengthen investor-oriented service: investigation on investors • Chinese securities investors show seven characteristics, according to SIPF’s investigation on investors. 30

31. 0.72% 7.58% 10.15% 42.35% Master and above 39.19% Undergraduate Associate college graduate Middle school graduate Primary school graduate and below Fig 5: Age Structure Fig 7: Vocational Background 6.14% 2.51% 9.47% 6.96% 10.17% 3.42% 13.99% 5.50% Business owner Senior clerk Ordinary clerk Public servant Freelancer Farmer Laid-off worker Retiree Student Others 3.68% 1.21% 14.55% 35.40% Below 25 41.24% 25-34 35-44 29.15% 16.60% 45-54 55 and above Fig 6: Education Level Fig 8: Income Level 4.84 8.52% % 6.60% 20.55% 21.75% Below RMB800 RMB800-1600 RMB1600-3200 RMB3200-6400 RMB6400-10,000 Over RMB10,000 37.74%

32. Fig 13: Nearly 70% of the investors have stock assets of below RMB100,000 Fig 9: Regional Distribution 2.39% 1.43% 3.66% 4.42% 5.87% 23.74% 22.69% 16.30% 19.39% Below RMB20,000 RMB20,000-50,000 RMB50,000-100,000 RMB100,000-200,000 RMB300,000-500,000 RMB500,000-1 million Over RMB1 million Municipality Provincial capital or sub-provincial city Prefecture-level city County-level city Town Countryside 22.02% 27.85% 27.32% 22.93% Fig 10: Time of Stock Market Entrance 7.58% 5.94% 29.33% Before 2000 2001-2005 2006 2007 Before May 2008 After May 2008 24.87% 18.02% 14.25%

33. Fig 11: New market entrants are getting younger 100% 100% 90% 90 19% 15% 18% 21% 80% 80% 24% 26% 25% 21% 25% 23% 70% 70% 29% 60% 60% 39% 37% 50% 50% 47% 40% 36% 45% 38% 36% 40% 40% 40% 51% 52% 30% 30% 48% 23% 28% 20% 20% 20% 20% 19% 19% 21% 10% 10% 0% % Before 2000 Before 2000 2001-2005 2001-2005 2006 2006 2007 2007 Before May 2008 Before May 2008 After May 2008 After May 2008 间 Below RMB800 RMB800－1600 RMB1600－3200 Below 25 25－34 35－44 45－54 55and above RMB3200－6400 RMB6400－10,000 Over RMB10,000 % Fig 12: Most of the new market entrants are middle-incomers 0

34. Strengthening investor service: investor calls SIPF has attached keen attention to responding to investor calls in the financial crisis and set up a sound call response mechanism. Investor calls are mainly handled at the website of Securities Investor Protection Corporation (www.SIPF.com.cn). During the period from July 2008 to August 2009, the Company had received 10212 investor calls, including 2146 calls for business and policy information, accounting for 21%, 2623 calls for suggestions, accounting for 26% and 5425 calls for criticism, complaint and reporting of offenses, accounting for 53%, of which, 99.67% of the calls were responded to.

35. Strengthening investor service – Response to investor calls Fig 14: Call Response Process Investor Inquiry and complaint for fund business Inquiry and complaint for accounting information Telephone, online message and email of SIPF Other Transferred to the Expert Board or other departments 保护基金公司 呼叫中心 Transferred to other departments or self-disciplinary organizations Preparation of response Response available Response unavailable Transferred to securities operation institutions Investor 35

36. Fig 15: Classification of investor calls 18 calls for other information 0.18% 2146 calls for business and policy information 20.01% 2146 calls for business and policy information 2623 calls for suggestion 5425 calls for criticism, complaint and reporting of offenses 18 calls for other information 5425 calls for criticism, complaint and reporting of offenses 53.12% 2623 calls for suggestion 25.69% 32 calls through FAX, SMS, telephone message, correspondence and visit 0.31% 750 calls through telephone call 7.34% 5317 calls through online message 4113 calls through email 750 calls through telephone call 32 calls through FAX, SMS, telephone message, correspondence and visit 4113 calls through email 40.28% 5317 calls through online message52.07% 36

37. Strengthening investor service: investor education So far, over 80% of the securities investors in China conduct offsite transactions on the internet or through telephone while over 10% of the investors resort to the traditional way of onsite transaction and most of these investors are aged individual investors. Therefore, investor education should focus on the majority of investors that conduct offsite transactions while attaching attention to individual investors. SIPF has attached keen attention to investor education and carried out the following investor education projects: Prepare an Investor Manual Initiate a project of securities investor education Shoot a video on investor education Develop a set of investor education software Hold a forum on securities investor protection

38. Strengthening investor service – Investor education 38

39. Strengthening investor service – Investor education (Securities investor education software) Account opening Investment type Transaction security Asset security Information disclosure Information access Financial analysis Fundamentals analysis Fund investment basis Fund investment concept Shareholder right Investor protection 39

40. Strengthening investor service – Investor education 40

41. Investor service: Insufficient First, there is a gap between the authority of investor service and actual needs and the absence of a real investor representation mechanism makes it difficult to improve the efficiency and effect of investor protection; Second, as most of the disputes on securities investment are settled through court judgment and it is difficult to protect the rights of investors through negotiation and arbitration; Third, medium and small-size investors are in need of an authoritative and impartial channel and guidance to protect their rights as there is no valid law governing the protection and legal assistance for investors and the responsibilities, contents and forms of legal assistance are not specified.

42. (3) Assessment of investor protection • Assessing the investor protection of market participants, understanding the level of securities market investor protection and degree of the investors’ satisfaction and exposing the conducts of market participants to public assessment are of great importance to improving the initiative and quality of market participants’ protection of investors. Therefore, appropriate assessment and disclosure of the market participants’ investor protection is an important part of the investor protection mechanism. • The securities investor protection assessment system of SIPF is designed to assess the protection of listed company and securities company investors’ legal rights in a professional and systematic manner and form a market-based guiding and disciplinary mechanism for the market participants’ protection of investors in addition to the supervision of regulatory bodies and industrial discipline of self-disciplinary organizations for the purpose of protecting the investors’ legal rights through disciplining the conducts of market participants. • Based on the securities investor protection indicator system, the securities investor protection assessment system of SIPF functions to assess the protection of listed company and securities company investors’ legal rights.

43. Assessment of listed company investor protection: indicator system As listed companies are the cornerstone of the securities market, the protection of listed company investors is of top priority in the protection of securities investors. SIPF has set up an assessment system: based on the investors’ right of information, right of investment returns and the right of decision-making participation, the Listed Company Investor Protection Assessment System involves three tier-one indicators, 12 tier-two indicator and 40 tier-three specific indicators covering the governance structure, information disclosure and business activities of listed companies, through which, SIPF has acquired the weights of the above-mentioned indicators (See Fig 16).

44. Quantitative Assessment Indicators for Listed Company Investor Protection Fig 16: Investor Protection Indicator and Weight Institutional construction, 28％ Shareholders’ exercise of rights in shareholders meeting, 22% Protection of participation in decision-making, 28% Construction and implementation of board of directors functions, 22% Construction and implementation of board of directors functions, 18% Construction and implementation of a supervisory and incentive mechanism by the management, 10% Disclosure of important governance information, 22% Protection of information right, 42% Disclosure of financial reports, 32% Disclosure of material events, 31% Disclosure of other information, 15% Protection of return on investment, 30% Value creation, 40% Interest transfer, 29% Profit distribution, 31% Tier-one indicators Tier-two indicators 44

45. Assessment of listed company investor protection: rating standards The listed company investor protection assessment system of SIPF classifies the protection of listed company investors into four grades: Grade A: investor protection score ≥80; Grade B: 80 > investor protection score ≥60; Grade C: 60> investor protection score ≥40; Grade D:investor protection score <40 or it is subject to the first ST or penalty in the current year or it is suspended from trading permanently.

46. Assessment of listed company investor protection: characteristics Based on the Listed Company Investor Protection Assessment System, SIPF has assessed the protection of listed company investors in the following aspects: Protection of listed company investors in different years from 2003 to 2008 (see Table 6, Table 7 and Fig 17). Protection of listed company investors in different industries from 2003 to 2008 (see Table 8 and Table 9). The protection of most listed company investors is at a medium level. The protection of listed company investors remains to be improved. There is extensive room for the improvement of listed company investor protection. The protection of listed company investors varies greatly in different industries. The investors’ right of information is well protected in the disclosure of listed company information.

47. Table 6: Listed Company Investor Protection Indicator and Rating from 2003 to 2008 47

48. Table 7: Changes in Listed Company Investor Protection from 2003 to 2008 48

49. Fig 17: Changes in the Investor Protection Indicator of Listed Companies from 2003 to 2008 49

50. Table 8: Industrial Distribution of Investor Protection from 2003 to 2008 50