"Preventing Recurrence of DLF Incident"... Banking Sector Establishes Model Guidelines for Non-Deposit Products

Non-Deposit Product Committee Formation, Overall Product Policy Management
Restriction on High-Risk Financial Product Investment Solicitation via Calls and Messages
Introduction of Product Brochures by Each Bank
Banking Sector to Incorporate Model Guidelines into Internal Rules by Year-End

On the 16th, when the Financial Supervisory Service's Disciplinary Committee regarding the overseas interest rate-linked derivative-linked fund (DLF) incident, which caused large-scale principal losses, was held, members of the DLF Victims Countermeasure Committee and the Financial Justice Solidarity held a press conference in front of the Financial Supervisory Service in Yeouido, Seoul, demanding severe disciplinary actions against Woori Bank and Hana Bank. Photo by Kang Jin-hyung aymsdream@

[Asia Economy Reporter Sunmi Park]"This product is different from savings and deposits, and although it is sold by banks, it is not protected by depositor insurance, so there is a risk of principal loss. Have you confirmed this?"

From now on, banks must provide explanatory documents informing customers that non-deposit products carry a risk of partial or total principal loss, and that any investment losses are the responsibility of the investor when selling non-deposit products with principal loss risk.

On the 28th, the banking sector, together with the Financial Supervisory Service, established the "Model Internal Control Standards for Non-Deposit Products" as a follow-up measure to the Derivative Linked Fund (DLF) incident. Each bank must incorporate these model standards into their internal regulations and implement them by the end of the year.

The newly established model standards regulate the entire sales process?including product review, sales, and post-management?for principal non-guaranteed products sold by banks to individuals and small and medium enterprises (SMEs). It also includes improvements to the branch performance evaluation system (KPI), such as limiting the reflection of sales performance of specific non-deposit products and incorporating customer return rates.

The scope applies to non-deposit products with principal loss risk. Various funds, trusts, pensions, over-the-counter derivatives, and variable insurance products sold by banks to individuals and SMEs are included. Products with low principal loss risk, such as MMF and MMT, which are managed as some safe assets, are excluded from the scope.

What are the key points of the model standards?

First, banks must form and operate a "Non-Deposit Product Committee" including the Chief Risk Officer (CRO), Compliance Officer, and Chief Consumer Protection Officer (CCO).

The committee is responsible for overseeing policies related to the planning, selection, sales activities, and post-management of the bank’s non-deposit product sales. To enhance objectivity and fairness in committee operations, the chairmanship by sales officers is restricted, and the organization unrelated to sales is responsible for convening and managing meetings. The committee’s deliberation results must be reported to the CEO and the board of directors, and related materials must be kept for 10 years in written or recorded form.

The committee can review whether to sell a product, target customer groups, and sales limits considering product investment strategy, structure, and loss risk. Sales channels must be pre-designated based on the product’s risk level, complexity, and the sales staff’s understanding and expertise. Evaluating qualitative factors such as the asset management company’s soundness and risk management capabilities and reflecting these evaluations in product reviews is also a committee responsibility.

Introduction of Non-Deposit Product Explanation Document

The banking sector will also introduce a "Non-Deposit Product Explanation Document" that compares and explains the risks of non-deposit products relative to deposit products when selling non-deposit products.

Using various charts and graphs to enhance customer understanding, it must explain scenarios where losses increase so that consumers can clearly recognize the maximum possible loss. The Happy Call system, previously limited to some financial investment products, will be expanded to all non-deposit products.

On the other hand, for complex financial products that are difficult to explain in detail remotely, solicitation of investment through telecommunications such as phone calls or mobile messages will be restricted.

Advertising and promotion of non-deposit products must receive prior review by the bank’s compliance officer, and promoting specific products as recommended products through non-face-to-face channels without objective grounds such as selection reasons is also restricted. Employees without relevant certifications, low work proficiency, or those causing many complaints cannot sell products due to lack of expertise.

After selling non-deposit products, banks must monitor sales status, profit and loss, complaint occurrences, and market changes by product and prepare post-measures such as sales suspension if necessary. The Non-Deposit Product Committee receives monitoring reports, deliberates, and periodically reports the results to the board or audit committee. By the end of June 2021, an integrated IT system that allows a comprehensive view of product structure, profit and loss trends, complaint occurrences, and handling status must also be established.

Improvement of Branch Performance Evaluation System (KPI) Focused on Sales Results

To improve the short-term performance-oriented sales culture and the concentration of sales on specific products, the model standards include measures such as limiting the reflection of sales performance of specific non-deposit products and incorporating customer return rates into branch performance evaluation systems (KPI).

The establishment of the model standards follows criticism that one cause of last year’s DLF incident was insufficient internal control and a short-term performance-oriented evaluation culture in banks. Complex products difficult for ordinary individuals to understand were mainly sold by banks with high trust in principal guarantees, but internal controls related to non-principal-guaranteed product sales were insufficient, leading to expanded losses and numerous cases of incomplete sales.

Accordingly, the banking sector formed the "Bank Non-Deposit Product Internal Control Strengthening Task Force (T/F)" with the Financial Supervisory Service and comprehensively reviewed voluntary improvement measures, best practices, and various overseas cases to prepare the model standards.

A financial authority official stated, "Once the model standards are implemented, unreasonable practices and insufficient internal controls in banks’ sales of principal non-guaranteed products will be greatly improved. The redesign of incentive systems such as branch KPIs is also expected to contribute to improving the short-term performance-oriented sales culture."