The Financial Supervisory Service (FSS) has ruled that a securities firm must compensate clients for 60 to 70 percent of their losses after it was found to have managed bond-type wrap accounts—discretionary investment products—by purchasing commercial paper (CP) and bonds at prices higher than market rates and employing maturity mismatch strategies.
According to financial authorities on Tuesday (June 30), the FSS held a Financial Dispute Mediation Committee meeting the previous day and reached this decision, acknowledging that the securities firm, referred to as Firm A, had violated its duty of care and fiduciary duty.
The dispute arose after investment losses occurred in bond-type wrap products when market interest rates spiked and bond and CP prices plummeted during the 2022 Legoland crisis.
While some securities firms provided voluntary compensation, disputes over the amounts led to ongoing civil lawsuits and requests for mediation.
The FSS determined the illegality, calculation standards for damages, and compensation ratios by referencing a recent court ruling that held a securities firm liable for 70 percent of the shortfall in target returns.
Taking into account the specific characteristics of each case, the results of inspections into the securities firm, and past mediation precedents, the FSS decided that Firm A must compensate individuals B and C by 70 percent and 60 percent, respectively.
Individual B invested a total of 80 billion won (with a target return of 4.3% each) in two wrap products in 2023. However, the securities firm unilaterally postponed redemption, claiming that an internal audit was underway due to losses caused by the actions of a fund manager one day before the maturity of the first product.
A month later, B received 79.54 billion won, resulting in a loss of 460 million won compared to the initial investment.
Individual C also invested 15 billion won in the same products that year (with target returns of 3.6% and 3.8%) and was notified of a valuation loss of 450 million won.
Upon discovering the firm's practice of purchasing assets at high prices and maturity mismatching through transaction records, C ordered the suspension of the management of the funds. However, due to the difficulty of redeeming the CP at maturity amid falling prices, the funds were held until the maturity of the incorporated CP, and C eventually received 15.03 billion won.
The Dispute Mediation Committee concluded that Firm A's practices of purchasing bonds and CP at high prices and managing them through maturity mismatching violated the duty of care and fiduciary duty, thereby establishing the firm's liability for damages.
This is the first mediation decision to determine whether an investment manager violated the duty of care and fiduciary duty under the Capital Markets Act.
The decision also considered that the motive for the high-price purchases was to benefit third parties by meeting the target returns of other clients, and that Firm A had repeated these illegal practices despite having been sanctioned for similar unsound business practices in the past.
Consistent with the first-instance court ruling, the damages were calculated as the difference between the principal and returns the applicants would have received at maturity and the amount they actually received.
The FSS took into account that most of the 1,210 cases redeemed by Firm A between July 2022 and September 2023 were settled at the target return level, and that the applicants had consistently achieved target returns over dozens of previous instances.
Based on the compensation ratios, Firm A was ordered to pay 1.26 billion won to B (70% of the loss) and 390 million won to C (60% of the loss).
The mediation will be finalized if the parties accept the proposal within 20 days of its presentation.
The FSS stated, "We have made it clear that illegally managing client assets can lead not only to administrative sanctions but also to civil liability."
Previously, in February of last year, eight securities firms received institutional warnings and one received an institutional caution in relation to this matter, with a total of 28.97 billion won in fines imposed.
The FSS added, "We will encourage the establishment of sound bond management practices, such as appropriate pricing when securities firms trade bonds, and will continue to actively hold dispute mediation committee meetings to ensure consumer rights are protected."
(Photo: Yonhap News)
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