(Bloomberg) -- South Korea’s regulator is launching a wider probe into local banks and brokers which sold exotic notes linked to Chinese stocks amid concerns that the securities may saddle investors with heavy losses.
Authorities will start investigating 12 institutions on Monday to determine if there was any wrongdoing over the sale of equity-linked securities that are tied to the Hang Seng China Enterprises Index, according to a statement from the Financial Supervisory Service. The biggest sellers among the firms to be probed are KB Kookmin Bank and Korea Investment & Securities Co., it added.
The watchdog said it uncovered several issues during a two-month inspection, including the practice of pushing bankers to aggressively market high-risk notes that are hard for retail investors to understand. The firms will be held “strictly accountable” for any illegal activities, according to the statement.
Huge losses will materialize as about 15.4 trillion won ($11.7 billion) worth of the equity-linked securities mature this year starting January, the FSS said. Roughly 20% of them will come due in the first quarter and another 32% in the following three months.
Even if the banks had systems in place, “we are not sure whether they did their duty to explain the product in a way that’s easy to understand, or whether customers just clicked and signed the contracts to buy something without knowing exactly what it is,” FSS Governor Lee Bokhyun told a press briefing on Thursday.
The probe shines the spotlight on investing trends in South Korea where an insufficient pension system and a general penchant for risky trades have prompted retail investors to pile into highly speculative bets. Authorities are now seeking to address the situation, with regulators creating a team to manage potential investor complaints related to possible losses from the equity-linked notes.
READ: China Rout Set to Roil $71 Billion Korea Market for Exotic Notes
The securities, which promise bond-like coupons and early redemptions unless the underlying assets drop below a certain level, have lured the country’s elderly during the low interest rates era. Investors often overlooked the risk that once that threshold is breached, losses can be magnified.
The notes in focus were mostly sold in 2021 when the HSCEI peaked above 12,000. The gauge is now trading at less than half that level.
The total outstanding balance of the notes is 19.3 trillion won with retail investors holding 91% of them, the FSS said. About 30% of the investors are aged 65 and above.
There are roughly 400,000 accounts of these products tied to the Hong Kong stock gauge and there has already been a “significant” number of complaints from retail investors, according to the financial watchdog.
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