As criticism continues that single-stock exchange-traded funds (ETFs) fuel market volatility, the first amendment to the Financial Investment Services and Capital Markets Act to allow variable adjustments to the leverage ratio depending on market conditions has been introduced in the National Assembly.
If the amendment passes and takes effect, asset managers will likely be required to temporarily lower the leverage ratio of single-stock leveraged ETFs for up to 180 days. In addition, during this process, the various procedures that had been required when changing fund contracts—such as complex shareholder meetings or disclosures—are expected to be largely omitted.
According to the National Assembly bill information system on the 12th, Kim Hyun-jung of the Democratic Party of Korea led the introduction the previous day of the "Partial Amendment to the Financial Investment Services and Capital Markets Act." This is the first time a bill allowing variable adjustments to the leverage ratio of single-stock leveraged ETFs has been introduced.
The amendment mainly adds two paragraphs to Article 81 of the Financial Investment Services and Capital Markets Act. The core of the newly added Paragraph 5 is that "if, as defined by presidential decree, circumstances arise that undermine the stability of the securities market and fair price formation, the Financial Services Commission may order asset managers that invest heavily in high-risk assets to operate with a lower derivative risk limit (cap on risk assessment amount) for up to 180 days."
Simply put, it would allow the Financial Services Commission (FSC) to directly force a reduction in the leverage ratio for products exceeding 1x.
The concurrently created Paragraph 6 allows internal decision-making procedures such as beneficiary meetings or shareholder meetings to be exceptionally omitted when changing investment strategies under an FSC order. Normally, changing a fund contract requires going through shareholder meeting procedures that take weeks to months, but the measure opens the way to skip this step to respond immediately during rapid market shifts.
If the bill passes as originally drafted, the leverage ratio of single-stock leveraged ETFs will be adjusted without the consent of investors who invested in them. The adjusted leverage ratio would also remain in place for up to 180 days.
In particular, the "case where securities market stability is undermined" is to be defined by presidential decree, and because presidential decrees pass under the administration's lead without a National Assembly vote, the decision will be made under government leadership. In this case, the product's attractiveness would be fundamentally damaged, making it highly likely that investors will not enjoy the originally intended return structure.
An asset management industry official said, "If a regulation to adjust leverage ratios is implemented, the attractiveness of single-stock leveraged products will disappear completely," adding, "Even if procedures are omitted, having product specs change without prior notice will inevitably make asset managers uneasy due to investor backlash and litigation risks."
However, since it has been introduced as a member's bill at this stage, there remains room for revision after gathering industry opinions in standing committee subcommittees.