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II. Definitions:
1. The term“participating dealer” refers to a securities firm that has signed a participant agreement with a securities investment trust enterprise (hereunder referred to as “SITE”) for the operation of in-kind creation/redemption of an Exchange Traded Fund(hereunder referred to as “ETF”) for itself or on behalf of its customers.
2. The term“custodian institution” refers to a financial institution that has signed a trust agreement with a SITE that issues ETF beneficiary certificates.
3. The term“applicant” refers to a customer who engages in in-kind creation/redemption of ETF beneficiary certificates through the account opened in a participating dealer or a participating dealer that engages in in-kind creation/redemption of ETF beneficiary certificates for itself.
4. The term“portfolio composition file, or PCF” refers to a list prepared and published by a SITE each day based on the reference data of underlying index forwarded by the index provider, which indicates the portfolio of stocks and estimated cash component that would be required to apply for in-kind creation/redemption of one creation unit of beneficiary certificate on the next trading day.
5. The term“in-kind creation” refers to the participating dealer for itself or on behalf of its customer delivering a portfolio of stocks and the cash component per basket required for one creation unit as published on the PCF as notified by the SITE, or their integer multiples to the SITE in exchange for ETF beneficiary certificates.
6. The term“in-kind redemption” refers to the participating dealer for itself or on behalf of its customer delivering ETF beneficiary certificates to the SITE in exchange for a portfolio of stocks and cash component per basket as published on the PCF as notified by the SITE for one creation unit or its integer multiples.
7. The term“aggregate creation” refers to the situation where no more than three applicants who, based on their mutual agreement, combine their individual holding of stocks into a portfolio of stocks required for one creation unit as published on the PCF or its integer multiples, designate one among them as payer of cash payment required, and jointly appoint one participating dealer (if one of the applicants is a participating dealer with a proprietary trading said applicant shall be the participating dealer) to create ETF beneficiary certificates from a SITE.
8. The term“minimum in-kind creation ” refers to the situation where a participating dealer may, with the consent of the SITE, create the ETF beneficiary certificates for itself by delivering at least ninety percent (90%) of the kind of stocks required with more than ninety percent (90%) of the aggregate market value of creation basket for the in-kind creation, and paying a deposit for the shortfall, and then purchasing or borrowing the insufficient share quantity on the next trading day and delivering the shares to the custodian institution.
9. The term“cash in-lieu” refers to the practice where the in-kind creation/redemption of ETF beneficiary certificates by an applicant may be tendered in cash as determined by the SITE if a specific stock included in the portfolio of stocks as published on the PCF is in any of the following situations:
(1) The applicant is restricted by law to hold or transfer said specific stock.
(2) The trading of said stock has been stopped on the exchange.
(3) Said stock may be substituted by cash as published on PCF by the SITE.
(4) The SITE does not own said stock or has insufficient shares of the stock and is unable to borrow sufficient shares to deliver to the applicant when the applicant redeems the ETF beneficiary certificates in-kind.
10. The term “cash payment” refers to the amount equivalent to the cash component multiplied by the number of creation/redemption units; if the cash payment is positive, it means the applicant should pay the amount to the SITE when creating ETF beneficiary certificates in-kind or the SITE should pay the amount to the applicant when the applicant redeems ETF beneficiary certificates in-kind; if the cash payment is negative, it means the SITE should pay the amount to the applicant when the applicant creates ETF beneficiary certificates in-kind or the applicant pays the amount to SITE when it redeems ETF beneficiary certificates in-kind.
11. The term “shortfall” refers to the stocks in the portfolio of stocks published on the PCF not delivered by a participating dealer when it transacts on “minimum in-kind creation ” basis.
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III. Operating principles for participating dealers carrying out in-kind creation (redemption), or selling beneficiary certificates (portfolio of stocks) on the same day for itself or on behalf of its customers:
1. TSEC accepts the applications of participating dealers to carry out in-kind creation (redemption) of ETF, or sell beneficiary certificates (portfolio of stocks) on the same day through computer linkup. The input time is 9:00AM ~ 3:30PM on market trading days. The deposit and transfer of relevant securities shall be handled via central depository and book-entry transfer service.
2. To carry out in-kind creation/redemption for itself or on behalf of its customers, the participating dealer shall first produce the “Application for In-kind Creation/Redemption of Exchange Traded Fund”, which is attached to the PCF of the day, and then require the applicant to sign up (in the case of a Qualified Foreign Institutional Investor, the agent broker can be on behalf of the QFII). All the above documents shall be kept in file for reference.
The aforesaid “Application for In-kind Creation/Redemption of Exchange Traded Fund” (hereunder referred to as the “Application Form”) shall contain the following particulars:
(1) Application No.: The code of the head office of the participating dealer followed by a three-digit serial number.
(2) The account numbers of the applicants: there shall be no more than three applicants in the case of aggregate creation.
(3) Type of application: In-kind creation, in-kind redemption, aggregate creation, minimum in-kind creation, in-kind creation and sale of beneficiary certificates, in-kind redemption and sale of portfolio of stocks, minimum in-kind creation and sale of beneficiary certificates.
(4) Quantity of beneficiary certificates for in-kind creation/redemption.
(5) Details of kind and quantity of the stocks (beneficiary certificates) for in-kind creation (redemption) to be delivered, and specifically identify the sources from which of the following: respectively, original holding, purchase on the day of application, purchase on the previous trading day, borrowing, shortfall, or in-kind redemption (creation) on the previous trading day.
(6) Kind and quantity of stocks that adopt cash in lieu, and the reasons for cash in lieu.
(7) Amount of deposit required for shortfall.
(8) Description of why this application is allowed to adopt cash in lieu.
(9) Estimated cash payment based on PCF.
3. When carrying out the in-kind creation (redemption) of ETF, the participating dealer should, based on the particulars stated in the Application Form, examine the holdings of stocks (beneficiary certificates) in the applicant’s central depository account, which in combination with borrowed stocks (beneficiary certificates) balance of stocks (beneficiary certificates) bought on the previous trading day and bought on the day of application in regular trading, and obtained through in-kind redemption (creation) on the previous trading day should be sufficient for the in-kind creation (redemption), and then submit the application to TSEC.
The securities to be delivered by the applicant as described in the preceding paragraph may not be bought on margin and the securities bought on the day of application may not be reported for trading errors or correction of account numbers.
After the time for accepting the applications described in the first paragraph above ends, TSEC will forward all application data to Taiwan Securities Central Depository Co. (TSCD) for handling the mark operation.
4. If the applicant uses the balance of stocks (ETF) bought on the previous trading day, and/or stocks (ETF) bought on the day of application for in-kind creation/ redemption, the participating dealer should collect payment for such securities bought on the day of application.
When accepting customer’s order to create/redeem ETF in-kind, the participating dealer may calculate cash payment, cash in lieu and other relevant charges or payments based on the PCF and ask the customer to pay in advance before applying for in-kind creation/redemption. After ascertaining the actual payment due and before delivering the payment to the custodian institution, the participating dealer should notify the applicant to make additional payment if the prepaid payment is insufficient or to receive a refund if the prepaid payment is excessive. The participating dealer may open another deposit account with its clearing bank specifically for the deposit and payment of cash payment, cash in lieu, and other relevant charges or payment in association with the in-kind creation/redemption service.
5. The applicant for in-kind creation/redemption of ETF may, before the deadline of application time for the day, prepare an “Application for Canceling Creation/Redemption of ETF” (hereunder called the “Cancellation Application”) by himself or through the participating dealer, and the participating dealer will submit the Cancellation Application to TSEC. Upon the receipt of such application, TSEC will confirm the receipt and ask the participating dealer to notify the applicant for confirmation. The participating dealer should print out the receipt notice and save it with the Cancellation Application signed by the applicant (or the agent of applicant in the case of a qualified foreign institutional investor (QFII), for future reference.
The Cancellation Application shall state the following particulars: Application No., account number of the applicant (no more than three applicants in case of aggregate creation), type of application, and signature of the applicant.
6. Before submitting customer’s application for buying portfolio of stocks (beneficiary certificates) and selling beneficiary certificates (portfolio of stocks) on the same day according to Article 12 of the Regulations Governing Trading of Beneficiary Certificates of TSEC, the participating dealer should check the single-day trading ceiling of the applicant and ask the customer to produce or produce for the customer a “Same-Day Buying and Selling Exchange-Traded Fund Beneficiary Certificates and the Represented Portfolio of Stocks Application Statement” (see attached for specimen), and save the statement after it has been signed by the customer. At the time of submitting the application, the participating dealer shall also input via computer link-up the applicant’s account number, trading information on in-kind creation/redemption, as well as beneficiary certificates (stocks) and quantities already sold on the day, and then proceed with the in-kind creation/redemption operation according to the
provisions specified above.
If the stocks (beneficiary certificates) holding of the participating dealer or its customer, in combination with balance of stocks (beneficiary certificates) bought on the previous day, and on the application day in regular trading are insufficient to meet the requirements published in the PCF that in-kind creation (redemption) cannot be effected, the shares of stocks or units of ETF bought shall be processed in accordance with the relevant rules and regulation of TSEC, while the shares or units sold may be handled in the following manners:
(1) Changing the trading type of beneficiary certificates sold from regular sale to short sale on the same day;
(2) Borrowing securities pursuant to the Paragraph 4, Article 109 of TSEC Operating Rules on the application day or the next trading day to cover the securities sold; and
(3) Following other relevant rules and regulations.
For the purpose of risk management, participating dealers may charge the applicant proper amount of deposit when accepting customer orders to buy or sell.
Subsequent to the completion of settlement and in-kind creation/redemption operations, the participating dealer should deposit the remainder of beneficiary certificates (stocks) credited to the applicant into the applicant’s central depository account.
7. In the case of aggregate creation, all applicants must deliver with existing holding or borrowed securities, except for participating dealer who may for itself deliver with balance of securities bought on the previous day or on the same day. Applicants of aggregate creation must receive the beneficiary certificates before placing a sell order of said certificates.
8. If an applicant cannot hold or transfer certain stocks as restrained by law (e.g. Article 167 of the Company Law, Article 38 of Financial Holding Company Law, and Article 28-2 of Securities & Exchange Law), but may hold or sell such stocks on a temporary basis for in-kind creation/redemption of ETF with the consent of the relevant competent authority, TSEC may, if deemed necessary for management purpose after the participating dealer has submitted the application for in-kind creation/ redemption, notify the participating dealer to ask the applicant to take necessary actions to dispose the holding of such stocks. In such event, the participating dealer shall relay the message to the applicant on the day of receiving the notice and record the actions taken and report to TSEC.
9. Participating dealers shall set up a designated trading account specifically for the deposit and transfer of securities in association with their own in-kind creation/redemption of ETF and other necessary transfers as well as buying and selling ETF or the portfolio of stocks represented in the ETF for itself. (The account number of such specific account shall uniformly be 777777-7 under the dealer’s account.) (Such specific account may hold the same stocks as those underlying the put (call) warrants issued by the participating dealer for hedging purpose, and if deemed necessary, hold the alternate constituent stocks.) The participating dealer shall neither use such specific account to purchase securities and then transfer them to another accounts of its dealer’s with restriction on bid and ask prices, nor accept transfer of securities from another accounts of its dealer’s and subsequently sell those securities. To open such specific account with TSEC, the participating dealer shall submit a copy
of the participant agreement, a copy of the approval letter for the issuance of ETF and photocopies of documents evidencing the qualifications of the participating dealer.
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IV. Operating principles for the in-kind creation/redemption of ETF:
1. After TSEC receives the applications for in-kind creation/redemption, which contain information on portfolio of stocks (beneficiary certificates) that meet the requirements stated in the PCF published by the SITE, TSEC will compile and forward the application information to the SITE for review. The review results will be made available on the TSEC computer system for participating dealers’ inquiry, and the participating dealers will notify the applicants of application results for confirmation and save the results and the aforesaid application information for future reference.
Regardless whether the SITE approves the in-kind creation/ redemption applications forwarded by TSEC or not, it shall notify TSEC of its decision on the date of application so such information may be available to participating dealers.
2. TSEC will forward the details of portfolio of stocks (beneficiary certificates) in accepted applications to TSCD for handling the mark operation. Upon receiving the notice of TSCD with respect to the mark result, TSEC will forward the information to SITE and make the same information available on TSEC computer system for participating dealers.
3. If an application for in-kind creation/redemption has been found to comply with the requirements and accepted by relevant institutions, the custodian institution shall complete the collection and payment of cash payment, cash in lieu, deposit and other relevant charges or payments on the next business day following the date of application, and complete the delivery transfer of beneficiary certificates (stocks) created (redeemed) no later than the second business day following the date of application. If there is cash credit to the applicant after the completion of in-kind creation/redemption, the custodian institution shall transfer the funds to the applicant via the participating dealer after completing the related operations.
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