Risk Management Best Practice Principles For FCM

8/20/2014
Article Content
Title
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Risk Management Best-Practice Principles For Futures Commission Merchants (

Amended 2010 . 01 . 27)
General Provisions
1. These Principles are adopted to assist Futures Commission Merchants (FCMs) establish a
sound and integrated risk management system, and to strengthen the development of the
futures market. These Principles are also to be used as a reference for guidance by the
FCMs.
2. An FCM often encounters uncertainties in the course of its business operations. In general,
an uncertain event may be called a risk if it can cause an adverse impact that affects the
achievement of the FCM's strategic business objectives.
3. An FCM shall establish business strategies and organizational culture that emphasize risk
management, and shall keep a firm grasp on the results of qualitative and quantitative
management, which shall serve as a reference for the formulation of business strategies.
4. To manage risks, it is advisable that an FCM establish an integrated risk management
system, with the joint participation of and implementation by everyone from the board of
directors and managerial personnel of all levels to employees. Being a procedure to be
observed by all levels in the FCM, the system, through an overall perspective from the FCM,
identifies, measures, monitors, responds to, and reports on potential risks, and, with
qualitative and quantitative management methods, limits within a sustainable level all types
of risks that might be encountered during business operations, with the hope to reasonably
ensure the achievement of the FCM's strategic objectives, and to assist in the planning and
formulation of the system.
5. An FCM shall establish its risk management system in compliance with all applicable laws
and regulations. In addition, it is advisable that the FCM's organizational structure and
division of powers and responsibilities for risk management, the identification, measurement,
monitoring, responding, and reporting of risks, risk management information system, and
information disclosure be carried out pursuant to these Principles.
6. An FCM shall value the importance of its risk management unit and personnel, and authorize
them to perform their duties independently, to ensure that such risk management system
may be effectively implemented on a sustainable basis, and shall provide assistance to the
board of directors and the management level in the faithful performance of their duties so that
risk management will be effectively realized.
Organizational Structure and Division of Duties for Risk Management

1. Organizational Structure for Risk Management
A. An FCMs Organizational Structure for Risk Management
It is advisable that an FCM establish a risk management committee ("RMC") under
its board of directors. In addition, it shall designate personnel or establish an
appropriate unit for risk management, so that matters in connection with risk
management can be effectively planned and implemented.
Description:
1.The main factors to be considered for the designing of a risk management
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organizational structure for an FCM include the type of each organization, the
corporate culture, and the composition of risks. However, the general principle for risk
management is that the unit or the personnel implementing risk management shall
remain independent.
2.Responsibility for risk management does not lie exclusively with the risk
management unit. Effective risk management requires the cooperation of all related
departments within the FCM, including human resources, legal affairs, information
technology, internal control, auditing, and planning; otherwise it is difficult to carry out
risk management for overall business.
3.The success of risk management depends on the joint promotion and
implementation efforts from all levels of the FCM; therefore, it is extremely important
to have effective communication, coordination, and connection between the board of
directors, the risk management personnel or unit, and related departments.
4.Successful implementation of risk management relies upon a clear authority
structure and well-planned reporting process. Without them, risk management
information cannot be effectively aggregated, transmitted and analyzed, and the
corporation's business strategies and risk management policies cannot be
appropriately adjusted in response to changes in its subjective and objective
environments.
2. Risk Management Function
A. The Role of the Board of Directors
The board of directors shall recognize the risks confronted by an FCM in the course
of its business operation (such as market risk, credit risk, liquidity risk, operational
risk, legal risk, model risk, reputation risk, and other risks in connection with its
business operation), ensure effective risk management, and bear the ultimate
responsibility for risk management.
Description:
1. The board of directors shall be held ultimately responsible for financial loss or
decrease of shareholders' equity value, and thus it shall establish an appropriate risk
management system, operating procedures, and a risk management culture, as well
as allocate the resources necessary to implement its risk management system.
2. The board of directors shall pay attention not only to the risks borne by each
department, but also to the aggregate risks to the FCM as a whole. At the same
time, the statutory capital adequacy requirements prescribed by the competent
authority, as well as other financial and business regulations that may affect the
allocation of capital, shall all be taken into consideration.
B. Role of the Risk Management Committee
It is advisable that an FCM establish a RMC under the board of directors to assist the
board of directors with its planning and supervising of matters related to risk
management; if no RMC is established, the board of directors shall take charge of
these functions.
Description:
1. In light of the professionalism, regularity and timeliness required in risk
management, it is advisable that an RMC be established under the board of directors
to ensure effective monitoring of daily risk management, but the committee should
report to the board of directors on a regular basis.
2. The Committee shall draft risk management policies and establish qualitative and
quantitative management standards to facilitate the monitoring of daily risk
management. It shall also make timely reports on the implementation of risk
management to the board, along with recommendations for improvement.
C. Functions of the Risk Management Personnel or Unit
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The risk management personnel or unit shall be responsible for the monitoring,
measurement and evaluation of routine risks confronted by the FCM. It shall exercise
its authority independently of the FCM's business departments and trading activities.
In terms of organizational structure, the risk management personnel or unit may
report directly to the board of directors.
Description:
1. Subject to the types of business conducted by the FCM, the duties of the risk
management personnel or unit shall be:
(1) Help draft risk management policies;
(2) Help draft risk limits for each department and the method of allocation;
(3) Implement the risk management policies approved by the board of directors;
(4) Submit complete risk management reports in a timely manner;
(5) Make sure that business units understand the content of transactions prior to
undertaking them, and continue monitoring positions held after transaction are
completed;
(6) Improve as much as possible the skills used to measure the quantifiable risks of
financial instruments;
(7) Understand risk limits and their usage status in each business unit;
(8) Evaluate risk exposure and risk concentration;
(9) Develop and implement stress tests and back-testing procedures;
(10) Inspect the difference between the actual loss of the investment portfolio and loss
forecasted by the risk management personnel or unit;
(11) Review the pricing model and evaluation system for financial instruments used by
the FCM; and
(12) Deal with other matters in connection with risk management.
2. The risk management personnel or unit shall have proper authority to deal with
matters in connection with risk limit violations made by other departments, and shall
have proper authority to require that positions held by other departments be kept
under established limits.
D. Role of the Head of the Risk Management Unit
The appointment and removal of the head of the risk management unit shall be
subject to the approval of the board of directors. The head of the risk management
unit shall be responsible for measuring, monitoring, and evaluating the risk status of
the futures firm on a daily basis:
Description:
1. The primary duties of the head of the risk management personnel or unit are as
follows:
(1) To monitor and keep track of the implementation status of risk management
policies;
(2) To establish an integrated structure for measuring, monitoring, and evaluating
quantifiable financial risks;
(3) To lead the implementation of measuring, monitoring, and evaluating risks;
(4) To monitor the risk limits of business units, and urge that corrective measures be
taken whenever any violation is discovered;
(5) To proceed with risk adjusted performance measurement (RAPM) or provide risk
information required by RAPM;
(6) To undertake evaluation and back-testing of the effectiveness of the model to
ensure the accuracy of evaluation results;
(7) To ensure that risk management skills being updated in a timely fashion; and
(8) To deal with other matters concerning risk management.
2. In addition to the foregoing matters, as for unquantifiable risks, the head of the risk
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management unit shall also assist the board of directors to assign an appropriate
unit(s) to proceed with joint management of such risks, including emergency
response planning.
E. Roles of Risk Management Personnel at Business Units
In order to effectively link the communication of risk management information, and
implementation of risk management matters between the risk management personnel
or unit and each business unit, an FCM may place risk management personnel within
each of its business units where they shall implement effectively and independently
the risk management operations of each business unit.
Description:
1. Whether to install risk management personnel shall depend on the FCMs type of
organization, scale and the importance and complexities of different units.
2. Major duties of risk management personnel at a business unit are as follows:
(1) To report the risk exposure of the business units in a prescribed and systematic
way, in compliance with the risk management reporting process;
(2) To ensure the timely and correct communication of risk information;
(3) To ensure the effective execution of rules on risk limits within business
departments;
(4) To monitor the status of risk exposure and report on instances where limits are
exceeded, including corrective measures adopted by the business unit in question;
(5) To ensure that business unit risk measurement, model use, and assumptions are
undertaken consistently; and
(6) To ensure effective implementation of internal controls within business units, so as
to comply with laws, regulations and risk management policies.
F. Role of Heads of Business Units
The head of a business unit shall be responsible for daily risk management and
reporting in his/her unit.
Description:
1. The head of a business unit shall bear the duties for all risk management matters
in the unit under management, and be responsible for analyzing and monitoring
relevant financial risk (such as market risk and credit risk) in the unit, and for taking
all types of corresponding measures.
2. The head of a business unit shall convey relevant risk management information to
risk management personnel or unit on a daily basis.
G. Establishment of Risk Limits
It is advisable that an FCM allocate the capital required by the FCM and each
business unit based on the strategic objectives of its business operations, to the
extent where the risks are bearable. It is also advisable that the power to make such
allocation be vested in the board of directors, or the Risk Management Committee
(RMC) may propose the allocation, and the proposed allocation shall be subject to
the approval of the board of directors. Monitoring and controlling the risk limits is
extremely important for ensuring that the FCMs business activities do not exceed
tolerable risk levels.
Description:
1. A risk capital limit refers to the capital that must be allocated to respond to the
maximum risk of loss that is bearable by the company as a whole, or by individual
business units, for a certain period of time and degree of confidence. Together with
risk bearing, risk limits are part and parcel of the company's business activities.
2. The procedure for establishing risk limits involves a bottom-up collection of
requirements and suggestions from each department followed by a top-down
implementation of the approved limits as approved and allocated to each department,
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and the implementation status shall be effectively monitored through the risk
management system.
3. In the course of planning and calculating the risk limits, the capital that can be
allocated to each business unit shall be taken into consideration along with the
contributions that the capital can make to performance, and the risks that may be
sustained. During this process, the risk management personnel or unit shall play an
important evaluation role.
H. Management of Risk Limits
An FCM shall have a complete procedure for the management of risk limits. The
procedure shall include the calculation method, allocation method, and
implementation of monitoring processes.
Description:
1. The risk limits can be calculated by qualitative and quantitative methods.
Quantitative methods shall be used as much as possible to express quantifiable risks
where necessary. Currently, technologies are available for calculating market risk and
credit risk, and useful tools for operational risk are gradually being developed.
2. In calculating limits, the correlation between different risks shall be taken into
account.
3. The establishment and allocation of limits may reflect different perspectives or
needs. For example, it may be done on the basis of business units, or on the basis of
the type of product, length of period, the level of concentration in a position, or
differences in risk factors.
4. After limits are established, ongoing assessment of their reasonableness is
required in order to make necessary adjustments, which shall be subject to approval
by the board of directors.
I. Risk Management Policies
An FCM shall establish risk management policies to serve as the basis of routine risk
management procedures. The content of these policies shall accurately reflect the
objectives of the FCMs operational strategies, its risk preferences, and the
characteristics of the risks it confronts. In addition, the policies shall be conveyed to
and implemented by all departments of the FCM through a prescribed process. The
risk management policies may be proposed by the RMC, and shall be implemented
after approval by the board of directors.
Description:
1. During the drafting of risk management policies, the following factors should be
taken into account:
(1) The overall operational strategies and product categories;
(2) The scale, nature, and complexity of transactions;
(3) Risk tolerance;
(4) The quality of internal control procedures;
(5) The capability to monitor risks and the completeness of the risk management
system and related procedures;
(6) The degree of professionalism with respect to risk management;
(7) Past experience and performance;
(8) Compensation (or bonus) policy (where special attention has to be paid to the
correlation between performance and compensation);
(9) Tax and accounting issues;
(10) Related laws, regulations and restrictions; and
(11) Other matters concerning risk management.
2. An FCM shall review on a regular basis the appropriateness of risk management
policies, and make timely revisions to reflect changes of the subjective and objective
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environment.
J. Evaluation of Risk Management Effectiveness
An FCM shall evaluate, on a regular and irregular basis, the effectiveness of its risk
management, including whether the expectations of the board of directors are met,
whether risk management is conducted independently, whether the risk management
system is faithfully implemented, and whether the overall risk management
infrastructure is complete.
Description:
1. Evaluation of the risk management effectiveness:
(1) The influence and impact risks have on the business are often affected by
changes in the objective environment. It is therefore necessary to periodically evaluate
risk management priorities, the choice of tools, and the cost and applicability of risk
management measures.
(2) The evaluation referred to in the preceding paragraph may be performed internally
by the risk management personnel or unit or other appropriate unit or personnel. It is
also feasible to engage professionals from external institutions to conduct the
evaluation.
2. Evaluation of the faithful implementation of risk management:
(1) Whereas the faithful implementation of risk management may be independently
evaluated by internal auditors, their reporting procedures must be independent of
transactions, back-office operations and the risk management system. It is also
feasible to rely on external auditors to assist in the evaluation.
(2) Auditing and testing of this type shall concentrate on risk management
procedures and internal controls. Upon discovery of any irregularity, or when there are
any significant changes in product types, model usage or internal controls, it is
necessary to enhance the depth, extent and frequency of the auditing.
(3) The scope of the above-mentioned model testing must include quantitative testing
and model management system operation. The internal or external personnel
performing model testing must have the professional qualifications and related
educational background to ensure its effectiveness.
Risk Management Process

Figure 1: Risk Management Process
1. General Principles
A. The risk management process for an FCM shall include: risk identification, risk
measurement, risk monitoring, risk reporting, and risk response.
B. An FCM shall establish a risk management information system so as to ensure
smooth implementation of the risk management process.
2. Risk Identification
For the purpose of risk management, an FCM shall first identify the risks it may face in the
course of its business operation. Generally speaking, risks may be affected by internal and
external factors, which are called risk factors. To effectively control risk, it is advisable to
adopt various feasible analytical tools and methods, and through bottom-up or top-down
discussion and analysis, to aggregate past experience and predict conditions that will give
rise to possible risks in the future. These shall be identified and categorized to serve as a
reference for further risk measurement and monitoring.
Description:
1. Given the special nature of the futures industry, the primary risks that the industry may
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face are market risk, credit risk, liquidity risk, operational risk, model risk, and other related
risks. Accordingly, these Principles shall explain the major risks generally acknowledged by
the industry, and the other risks shall be identified, analyzed and dealt with by individual
FCMs.
2. Market risk refers to the risk of on- or off-balance-sheet loss due to uncertain changes
during a certain period in the market prices of financial assets, such as changes in interest
rates, foreign exchange rates, equity security prices, and commodity prices.
3. Credit risk refers to the probability that counter-party of a transaction fails to perform their
duty, and the risk of loss such nonperformance would cause to the risk amount or the
financial status of the FCM.
4. Liquidity risk refers to the risk of failure to meet obligations when they come due because
of inability to liquidate assets or to obtain adequate funding (referred to as "funding liquidity
risk") and the risk of significant movements of market price due to inadequate market depth
or market disruptions (referred to as "market liquidity risk") in the course of disposing or
offsetting positions held.
5. Operational risk refers to the risk of direct or indirect loss arising from failure or mistakes
in internal operations, personnel or systems, or from external events.
6. Other risks include legal risk, model risk, strategy risk or business risk, and reputation
risk.
7. In risk identification, attention shall be paid to the correlation between events giving rise to
those risks.
8. The Product/Risk Matrix can be used as a standard for reference in identifying product
risk factors.
3. Risk Measurement
After an FCM identifies the risk factors in different products, it shall establish appropriate
measuring methods to serve as the basis of risk management.
Description:
1. Risk measurement includes risk analysis and evaluation. The former is to understand the
influence of risks on the FCM by analyzing the probability of risky events and the extent of
their adverse impact. In the latter, the influence of risks is compared to the threshold set in
advance, so that it may serve as a reference in setting priorities for risk control and selecting
response measures.
2. For an FCMs risk management, the risks shall be measured by quantitative or other
feasible qualitative approaches based on the types of risks involved.
3. In terms of risk management structure, rigorous statistical analysis and related
techniques may be applied to analyze quantifiable risks such as market risk and credit risk.
For other risks that are harder to quantify, appropriate risk response measures shall be
adopted to achieve the objectives of risk management.
4. It is advisable that an FCM adopt a progressive approach towards risk management
quantification. For example, one may seek quantitative management of market risk, followed
by the quantitative management of credit risk, liquidity risk, operational risk and other risks.
5. Qualitative risk measurement is the expression of the probability and influence of risks
through written description. It may be applied in the following situations:
(1) Where it is used for preliminary screening and as preparatory work for more precise risk
measurement;
(2) Where quantitative analysis is too resource-consuming to be cost-effective; and
(3) Where relevant data and quantitative methods are not adequate for appropriate
quantitative analysis.
6. In qualitative analysis, one may also concurrently adopt proper quantitative analysis.
However, users shall bear in mind that, because this method cannot accurately reflect actual
degrees of risks, nor effectively differentiate between their particular natures or connections,
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it might pose a risk of producing misled judgments.

4. Risk Monitoring
An FCM shall establish a complete set of monitoring procedures to monitor and
appropriately report risk limits usage and over-limit circumstances, the aim being to facilitate
the adoption of response measures. This procedure shall be undertaken continuously as part
of routine operational activities, and off-line observation and understanding shall be made ex
post facto. All deficiencies found in the monitoring process shall be reported to the
supervisors in accordance with the rules.
Description:
1. Compared to ex post observation and understanding, ongoing risk monitoring as part of
business operations is more important to an FCM.
2. Deficiencies found in risk monitoring shall be reported to immediate supervisor through the
normal channels. In addition, for serious deficiencies, a special expedited reporting
procedure may be established.
3. Ex post, off-line monitoring, with the involvement of the risk management personnel or
unit, may be conducted by business units through self-inspection. The depth, extent or
frequency of the monitoring shall be based on the importance of risks, the impact of
response measures and the content of the control methods adopted by the FCM to manage
risk.
5. Risk Reporting
An FCM shall faithfully prepare transaction reports, and prepare risk management reports on
a regular basis or at times of irregularities, submit them to the appropriate management
level, and keep them on file for recordation.
Description:
1. The preparation of written reports is extremely important in order to fully record
assumptions, methods, information sources and implementation results at each phase of
the risk management process, thus serving as reference for management. Each report shall
be designed and prepared in consideration of the following functional requirements:
(1) To indicate whether the management process is properly implemented;
(2) To indicate whether systematic methods are applied to undertake risk identification and
analysis;
(3) To record the status of risks and develop such records into a knowledge base for
business management;
(4) To serve as a reference for decision making and the approval of risk management
measures;
(5) To serve as a reference for determining accountability;
(6) To facilitate the execution of risk monitoring and evaluation work; and
(7) To share and communicate risk management information.
2. The head of each business unit shall ensure the accuracy and validity of the transaction
reports prepared by it. All transactions must be properly recorded in line with the regulations
made by the company and the supervisory authority, and shall be submitted accordingly.
3. The risk management personnel or unit shall, on a regular basis or at times of
irregularities, prepare risk management reports and submit them to the relevant management
level.
4. Before undertaking transactions in a new product, the nature of such transactions shall be
taken into account to devise a transaction report in an appropriate format for future
submission.
5. Management shall pay special attention to the relevant information contained in derivatives
reports.
6. Risk Response
After evaluating and summarizing its risks, an FCM shall adopt appropriate response
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measures for the risks it confronts.

Description:
1. The steps required for selection and implementation of risk response measures:
(1) Identification of available responsive measures (as shown in section 2 of this paragraph);
(2) Evaluation of the pros and cons of each response measure (including cost-benefit
analysis, budget implementation analysis);
(3) Formulation of a response plan (including accountability for the plan's execution, its
progress, predicted results, financial resource planning and review, and evaluation
procedures); and
(4) Implementation of the response plan (After the implementation is completed, should there
be any unexpected residual risks, the relevant procedures shall be repeated again until the
risk is within an acceptable extent).
2. The available measures for risk response are as follows:
(1) Risk avoidance: adopting measures to avoid any activities which may cause risks;
(2) Risk reduction: adopting measures to reduce the impact of risks and/or the likelihood of
their occurrence;
(3) Risk sharing: transferring all or part of the risk to others; and
(4) Risk taking: taking no measures to change the probability or impact of risks.
3. When considering the response method to risk, an FCM shall exercise discretion to the
extreme circumstance wherein the likelihood of occurrence of a given risk is low, yet the
occurrence may affect the survival of the company, and completely eliminating such a risk
seems not to be cost-effective in terms of directly perceived economic benefits.
Risk Management Mechanism

1. Market Risk
A. Market Risk Management Principles
An FCM shall establish an appropriate management system for market risk and shall
implement such system faithfully.
Description:
The market risk management system shall include at least:
(1) An authorization structure, reporting process, and operation descriptions for
various levels in connection with market risk management;
(2) The acceptable scope of transactions involving market risk;
(3) Evaluation and adoption of market risk measurement methods (including
qualitative and quantitative methods);
(4) Establishment of appropriate limits on market risk, an approval hierarchy, and
methods for handling over-limit risks; and
(5) Procedures for the verification, adjustment, and resolution of irregular and
problematic transactions;
B. Quantification Measurement of Market Risk
To measure market risk, an FCM shall establish a feasible risk quantification model
to calculate the market risk of all business units on a daily basis, and to compare the
results with market risk limits.
Description:
1. A market risk quantification model may include:
(1) Statistics-based measurement methods;
(2) Sensitivity measures;
(3) Stress testing; and
(4) Other feasible risk quantification models.
2. The measurement methods shall be accurate and rigorous, and the consistency of
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the adopted methods must be ensured.

3. An FCM shall evaluate the market risk of all business units. Risk exposure shall
be measured at least on a daily basis.
4. Business units and the risk management personnel or unit shall measure market
risk on a daily basis, and shall compare the results with the approved market risk
limits as well as monitor them.
C. Statistics-based Measurement
It is advisable to adopt a statistics-based method to measure an FCM's overall
market risk so that the results can be provided for senior managers reference for
decision-making.
Description:
1. It is advisable to adopt a statistics-based method to measure an FCMs market
risk from unexpected losses to the FCM as a whole, to business units, or to
individual products, so that the departments concerned will have an understanding of
the overall risks.
2. It is generally advisable to adopt the Value-at-Risk (VaR) model for statistics-based
measurement of market risk.
3. An FCM shall have an in-depth understanding of the VaR model's assumptions and
limitations.
D. Sensitivity Analysis
It is advisable for an FCM to measure the sensitivity of the (market) positions that it
holds to each risk factor.
Description:
1. It is advisable to adopt sensitivity analysis measurement method to measure the
impact of variations in risk factors, such as interest rates or exchange rates, on the
FCMs assets, so as to help relevant departments understand the effects of different
variations in risk factors on the FCM.
2. To strengthen their control over market risk, each business unit shall calculate the
sensitivities of specific market risk factors, such as theeffect of interest rates
fluctuations on the Price Value of a Basis Point (PVBP) and convexity; and the delta,
gamma, vega, theta, and rho of the option price.
E. Model Validation
For the accuracy and credibility of the statistics-based risk measurement model, the
FCM shall conduct model validation, and continue updating the results to reflect
market conditions.
Description:
1. In circumstance where the FCM adopts statistics-based measurement, since the
statistics-based measurement is based on numerous assumptions, parameters, and
the choice of confidence level, it is necessary to compare estimated (predicted)
market risk and actual results (actual profit and loss) to ensure the accuracy of
statistics-based measurement. If there is a significant discrepancy between
estimated and actual results, it is necessary to review the assumptions and modify
the model.
2. Statistical methods cannot guarantee the accuracy of the estimations on the
volatility of or relevance between financial product prices. Extra caution shall therefore
be exercised when selecting related assumptions and models for investment
portfolios analysis.
3. If an FCM adopts the VaR model to evaluate market risk, it is necessary to validate
the accuracy of model estimation through back-testing or other methods.
F. Stress Testing
When an FCM establishes measures for responding to irregular market fluctuations, it
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can adopt stress testing for simulation to measure the impacts of irregular market
fluctuations on the value of an investment portfolio, and the results may serve as the
basis for the drafting of response measures.
Description:
1. Most risk measurement models are based on many assumptions and specific
parameters, including the choice of confidence level. However, they do not provide
predicted losses that fall outside the confidence level or distribution assumptions. It is
therefore necessary to adopt stress testing to evaluate an FCMs potential irregular
loss, and to implement risk control.
2. Stress testing is not limited to the quantitative analysis of potential losses; it shall
include qualitative analysis under specific conditions.
3. An FCM shall perform stress testing on a regular basis to evaluate the potential
irregular loss arising from excessive market fluctuations.
2. Credit Risk
A. Credit Risk Management Principles
An FCM shall establish an appropriate control system for the credit risk of all of its
business and shall implement such system faithfully:
Description:
1. Credit Risk Management System shall include at least:
(1) The authorization structure, reporting process and operation descriptions at
various levels in connection with credit risk management;
(2) Credit evaluation prior to transactions: A cautious evaluation of the credit of a
counter-party shall be made prior to a transaction, and the legality of the transaction
shall be confirmed;
(3) Creditworthiness: It is advisable to establish a creditworthiness system. Different
counter-parties with different levels of creditworthiness shall be imposed with different
credit limits, and administered according to their credit limits. ;
(4) Credit monitoring: The credit conditions of different counter-parties and their
positions shall be inspected on a regular basis. In addition, regular evaluation and
monitoring shall be performed on credit enhancement measures (including collateral);
and
(5) Other effective measures for credit risk reduction, such as collaterals, guarantees,
and credit risk netting agreements.
2. To control credit risk effectively, an FCM may adopt appropriate quantitative risk
management technology.
B. Credit Rating Management
An FCM shall have an appropriate credit assessment unit to evaluate its counterpartys creditworthiness. Further, it shall establish different credit limits for different
counter-parties with different levels of creditworthiness, which shall be administered
based on their credit limits.
Description:
1. It is advisable that an FCM establish an independent credit evaluation procedure
whereby the counter-parties creditworthiness shall be evaluated.
2. It is advisable that an FCM establish an appropriate credit rating system, whereby
the credit limits shall be imposed upon different counter-parties with different level of
creditworthiness.
3. To identify a counter-party with high risks, an FCM may conduct appropriate credit
rating management based on each counter partys historical transaction
characteristics and the FCMs risk tolerance.
4. The risk management personnel or unit shall be responsible for measuring and
monitoring credit risk.
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C. Credit Monitoring:
An FCM shall review on a regular basis the counter-partys credit standing, and
establish credit monitoring procedures to ensure a constant control over credit risk. It
shall also review, monitor and manage on a regular basis each credit enhancement
measure (including collaterals and margins).
Description:
1. Credit monitoring procedures shall include:
(1) Regular review of the counter-partys credit conditions.
(2) Adopting appropriate measures for counter-party whose risk has been increased in
order to control the credit risk.
(3) Other measures that may improve risk monitoring and management effectively.
2. An FCM shall establish special monitoring and approval process for the trading
orders from high-risk customer, and shall establish a tracking and management
procedure for high-risk accounts for the following matters:
(1) Credit changes of the account;
(2) Legality of the account;
(3) Change, and profit and loss of the trading instruments of the account; and
(4) Collection and analysis of important relevant information.
D. Credit Enhancement and Credit Risk Mitigation
To further control credit risk, the company shall increase, depending on the nature of
the counter-party and goods contemplated by the transaction, the credit strength of
the transaction through collateral or guarantee. It is also advisable to adopt credit risk
mitigation method, such as entering into a netting agreement with a counter-party, to
offset mutual credit risks.
Description:
1. The company shall establish a certain process to decide which transaction
requires credit enhancement on the counter-party's part. Meanwhile, it shall establish
consistent standards to evaluate the effect of credit risk mitigation on the credit risk
reduction.
2. The company shall establish appropriate monitoring and evaluation process for the
counter-partys credit conditions and value of collaterals, so as to fully disclose its
risk;
3. To the extent authorized by laws, the company shall confirm the enforceability of
the netting agreement, and shall enforce such agreement in accordance with the
existing process.
4. The effect of credit enhancement and credit risk mitigation on the companys credit
risk shall be taken into account during the aggregation of credit risks.
5. The company shall implement faithfully the rules governing credit check for clients
at account opening.
E. Quantitative Measurement of Credit Risk
It is advisable that an FCM aggregate credit exposure, probability of default, and
recovery rate of the counter-party to calculate the expected and unexpected credit
loss and to quantify credit risk.
Description:
1. The expected loss for credit risk is estimated from:
(1) Credit exposure;
(2) The probability of default of a counter-party; and
(3) Recovery rate of a counter-party.
2. Unexpected loss for credit risk is the possible maximum loss under a certain
possible condition (within the confidence level), as evaluated by the FCM itself.
3. It is necessary to take into account the effect of credit enhancement of such
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transaction, and the offsetting effect of net credit risk exposure for the estimation on
expected and unexpected losses for credit risk.
F. Credit Risk Exposure
An FCM shall measure the credit risk exposure of the positions held and the counterparty, and shall compare the results with the risk limits of counter-parties on a regular
basis.
Description:
1. Credit exposure shall be measured, monitored on a daily basis, and shall be
compared with the limits of individual counter-parties. If the scale of the portfolio is
small and the volatility of the transaction is slight, the measurement and monitoring
may be made on a weekly basis.
2. If it is difficult to measure the credit exposure, the FCM shall adopt other
appropriate methods for risk control.
3. The measurement on the credit risk exposure to each business unit shall comply
with the principles of accuracy, integrity, and consistency.
G. Current and Potential Exposure
An FCMs measurement of the amount of credit risk exposure for the positions held
by it shall be made on the basis of credit equivalent amount, and shall reflect the
change of market conditions. As there are different methods for measuring credit risk
exposure for different products, the FCM shall use the appropriate method to measure
the amount, such as the credit exposure for certain financial products, including the
current risk exposure and potential risk exposure.
Description:
1. Current Exposure: The replacement cost for the transaction, i.e., the current
market value, represents the amount of loss to be suffered by a counter-party if it
defaults on such given day, which equals to the closing price of the day.
2. Potential Exposure: The estimated value for future replacement cost of the
transaction, which represents the amount of loss to be suffered by a counter-party if it
defaults during the trading period in the future.
H. Probability of Default by a Counter-party
It is advisable that an FCM adopt appropriate methods to evaluate the probability of
default by a counter-party.
Description:
1. The probability of default by a counter-party may derive from the relevant
information issued by an external rating institution approved by the competent
authority, or estimated by the FCM itself.
2. If the FCM estimates the probability of default of a counter-party on its own, it shall
have a complete procedure, and the result shall be validated to ensure the
effectiveness of the model.
3. To estimate the probability of default by customers in the brokerage business, it is
advisable that an FCM conduct the estimation pursuant to the following principles:
(1) For an corporate account that has external credit rating, the probability of default
shall be estimated according to the external rating information.
(2) If the client, including corporate account and individual account, does not have
external credit rating the probability of default for customers with different credit risk
characteristics shall be estimated according to the characteristics of past default
cases.
I. Counter-partys Recovery Rate for Defaults
It is advisable that an FCM adopt appropriate methods to reasonably evaluate a
counter-partys recovery rate for defaults.
Description:
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1. Loss Given Default Rate means 1 - recovery rate, and the recovery rate is the
percentage of the recoverable amount (such as claimable amount or the current value
of recovered principal and interest upon default) to the credit exposure amount or
outstanding amount (such as amount extended or current value of the debt upon
default) when there is a default.
2. The recovery rate of a counter-party shall be evaluated by the FCM itself, or
provided by an appropriate external institution.
3. Liquidity Risk
A. Liquidity Risk Management Principles
An FCM shall establish appropriate measures to control liquidity risk (including
market liquidity risk and funding liquidity risk), and shall implement such measures
faithfully.
Description:
1. An FCM shall consider concentration and market trading volume of its positions,
so as to proceed with the quantitative management and non-quantitative management
on liquidity risk.
2. An FCM shall take into consideration the amount and schedule of the fund required
by each department; in addition, contingency plan shall be proposed to meet the
needs of funding arising from irregular or urgent conditions.
B. Market Liquidity Risk Management
An FCM may include the market liquidity risk into market risk model, or evaluate and
monitor such risk independently.
Description:
1. Market liquidity risk may be put into consideration for VaR model in order to
accurately reflect the risk of settled position, and for the risk management personnel
or unit to monitor such risk.
2. Block trading may have significant impact on the market price, so the FCM shall
carefully manage market liquidity risk in connection with large exposures.
C. Funding Liquidity Risk Management
An FCM shall evaluate and monitor the requirement of short-term cash flow in each
type of currencies by different characteristic of business, and shall adopt funding
liquidity risk management standards for future funding requirement.
Description:
Not only domestic short-term funding allocation, but also oversea and cross-market
funding allocation shall be considered for funding liquidity.
D. Funding Management
It is advisable that an FCM establish a funding management department independent
from all business units and responsible for supervising net cash flow of each business
units.
1. The funding management department shall report any significant or irregular use of
cash to the risk management personnel or unit.
2. The funding management department shall keep close contact with business units
and relevant departments, and shall communicate with the settlement-related
departments for the funds used by any individual transaction.
E. Funding Strategies
An FCM shall establish various funding strategies against loss arising from liquidity,
or requirement for fund liquidity caused by incidents in the market.
Description:
1. The risk management personnel or unit shall understand through scenario analysis
the potential liquidity risk concerning the financial products possessed by the FCM ,
to further evaluate possible costs arising from fund raising in various circumstances.
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The risk management personnel or unit shall also establish emergent financing
policies and process for the FCM.
2. The FCM shall establish a proper structure for the management of funding liquidity
risk.
4. Operational Risk
A. Operational Risk Management Principles
An FCM shall, in addition to monitoring the risks pursuant to the operational
procedures and critical control points as required by its internal control systems,
establish and implement suitable monitoring and controlling mechanism against
operational risks occurring in the course of business and trading process.
Description:
1. The management mechanism of operational risks as mentioned above shall include
at least the following:
(1) The trading department shall ensure that all transactions comply with the FCMs
policies. Critical control points such as the acquisition of information on the
authorization and support of transaction, counter-parties' experience, and preservation
of transaction records shall be regulated.
(2) Finance, settlement and other relevant departments shall adopt suitable
regulations governing critical control points such as evaluation, confirmation of price
information, compilation of income statements, handling and confirmation of
transactions, transaction and settlement operations, validation of accounts, and asset
control.
2. An FCM may adopt an appropriate quantitative risk management method to
effectively manage and control operational risks.
B. Authorization
An FCM shall establish clear authorization standards for different types of
transactions.
Description:
1. An FCM shall have a process for reviewing on a regular basis the appropriateness
of authorization so that relevant departments and persons clearly understand the
scope of authorization. There shall be appropriate handling measures in case of
violation of authorization process.
2. The authorization standards shall specify the authorized coverage and limits for
each type of transactions, and ensure that the trading personnel conduct transactions
within the authorized trading amount.
3. Before authorization, it is necessary to make sure that relevant personnel have
completely understood the FCMs risk management policies and guidelines, the
characteristics of the risk of specific products, and the operation control and process
for transaction.
C. Decision-making Support
Prior to trading, the trading personnel shall acquire sufficient information from the
customers and counter-parties, and other related and necessary information in order
to facilitate the FCMs pricing and trading decisions.
Description:
1. Before conducting a transaction, the trading personnel shall clearly understand the
counter-partys ability and needs, and understand their own duties and
responsibilities for the transaction. At the same time, the trading personnel shall also
obtain the counter-party's credit risk information and limits for trading reference.
2. Setting up an appropriate control procedure for a pricing model; an untested model
could expose an FCM to the risk of trading loss; therefore, the assumptions and
parameters of the pricing model shall be recorded clearly in the use and control
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procedure for the pricing model, and be reviewed and approved by the risk
management personnel or unit.
3. The personnel of the trading department shall understand the FCMs' risk
management and trading strategies.
D. Professional Knowledge and Experience of Trading Personnel and Counter-parties
Prior to conducting a transaction, trading personnel from an FCM shall possess to a
certain degree professional knowledge and experience, and take into consideration
the counter-party's professional knowledge and experiences
Description:
1. The contractual stipulations for some financial products, particularly derivatives, are
extremely complicated and highly technical. Trading personnel need to ensure both
their own and the counter-partys understanding of such products in order to avoid
possible huge losses (or trading disputes).
2. Relevant information regarding complex transactions of financial products shall be
obtained and preserved.
3. It will be helpful for improving a counter-party's understanding of the products by
sufficiently providing the counter-party with the sensitivity analysis of such transaction
in different market conditions.
E. Transaction Records
An FCM shall establish a control system to ensure the completeness, accuracy, and
timeliness of the transaction records.
Description:
1. Trading personnel shall provide or preserve important transaction records to ensure
that the transactions have been accurately processed.
2. When a transaction has to be recorded in multiple information systems, these
systems shall be able to compare the transactions among themselves so as to
ensure information consistency, and the information shall be reviewed and confirmed
on a daily basis by the risk management personnel or unit, instead of the trading
department.
F. Valuation
An FCM shall re-evaluate the value of the positions by utilizing in a timely manner
reasonable fair price pursuant to the existing written documents or approved policies
and procedures.
Description:
1. An FCM shall establish appropriate policies and procedures for position valuation,
and review regularly their appropriateness. In addition, the FCM shall disclose the
valuation method and its reasoning, including whether the valuation is carried out
through mark-to-market or mark-to-model method.
2. An FCM shall adopt proper and consistent methods to valuate all positions.
3. An FCM shall adopt suitable valuation procedures for the products with extremely
low liquidity.
4. The valuation time shall be consistent for all types of products.
G. Price Information Verification
Persons of the finance department and risk management related departments shall
acquire price information (including interest rates and exchange rates) from units
independent from the trading department so as to re-evaluate the FCMs positions. If
the evaluation is carried out with the internal evaluation model, the FCM shall
establish a reasonable and independent review procedure. There shall also be
appropriate control and authorization for any alteration of models.
Description:
1. It is advisable that the acquisition of price information not be carried out by the
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trading personnel so as to avoid any possible conflict of interests or price

manipulation.
2. An FCM shall fully understand the method for externally obtaining the price, and
establish operating procedures, which should preferably include the methods for
handling overestimate (underestimate) of price, unusual large trading volume, or other
irregular situations.
3. If it is not possible to obtain independent external prices, , the prices may be
calculated by estimation and model, but such model shall first be evaluated through
an independent review procedure for its suitability, and the FCM shall consider setting
up a separate amount limit for these transactions.
H. Profit and Loss Report
An FCM shall compile profit and loss reports on investment portfolio on a daily basis
so that the management level may know the performance of business units.
Description:
1. The content of the profit and loss reports can be compiled and categorized by
business units, product types or geographic areas.
2. The finance or risk management department shall estimate on a regular basis the
capital demands and the costs, and compile relevant analysis reports.
I. Processing of Transactions
An FCM shall process all approved transactions in a timely manner, and preserve the
transaction records for the transactions conducted by the trading personnel so as to
control and manage the potential risks in a transaction process.
Description:
1. An appropriate transaction processing and control procedure shall be established
in order to control and manage the potential risks during the trading process.
2. The processing of transaction shall be completed immediately following the
execution of the trade, or at least within the same trading day, in order to ensure a
timely transaction record.
3. To ensure the integrity and accuracy of the transaction records (such as
independent transaction numbers, transaction details, counter-parties and transaction
time), transaction documents shall be preserved as required.
4. The verification procedure for transaction records shall be conducted by persons
who are independent of the business units, including validity check, supervision of
credit risks and market risk limits and the confirmation of the price information of offexchange trading, and other related matters.
5. Extra supervision and authorization shall be conducted for any alteration and
cancellation of transactions or any irregular transactions.
6. All doubtful or faulty accounts must be handled promptly; senior managers of
finance units shall review on a regular basis and analyze these unresolved
transactions.
J. Transaction Confirmation
After a transaction is completed, confirmation of the transaction data between the
FCM and the counter-party shall be conducted by persons not from the trading
department.
Description:
1. The confirmation method for a transaction shall be decided based on the nature of
the transaction. The confirmation methods include written confirmation through
settlement institutions, settlement system, or directly with the counter-party. and
shall be independent from the trading personnel and cashier.
2. The sending and receiving, checking and verification of written transaction
confirmation shall be conducted by persons not from the trading department.
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3. Management reports shall include information of uncompleted transactions and

counter-parties with disputes.
K. Customer Margins Management
An FCM shall manage customer margins in accordance with rules governing
management of customer margins as issued by the competent authority, Taiwan
Futures Exchange, and the Chinese National Futures Association, and as in the
companys internal control system.
Description:
1. An FCM shall manage customer margins in accordance with rules governing
management of customer margins as issued by the competent authority, Taiwan
Futures Exchange, and the Chinese National Futures Association.
2. An FCM shall establish customer margins management procedures in order to
faithfully implement the management of customer credit risks.
3. An FCMs management of customer margins shall include real-time monitoring
during trading session and management after the trading session.
4. An FCM shall handle the receipt/disbursement of customer margins, management
of incoming/outgoing funds, and collection operations pursuant to the management
and operation procedures for customer margins.
L. Clearing and Settlement
An FCM shall authorize the personnel independent from the trading, trading procedure
and account-checking units to execute the clearing and settlements of cash and
securities.
Description:
1. To effectively control the settlement of cash or assets, the cross-checking of
settlement details shall be authorized to personnel with sufficient experience and
knowledge, and the authorized personnel shall be divided into at least two levels or
more, and the responsibilities for each level shall be clearly distinguished.
2. To maintain the security of electronic payment system or manual invoicing system,
phone calls for all transactions instructing on settlements shall be recorded.
3. Operations of non-standard settlement transactions shall be appropriately
authorized and crosschecked.
4. Settlement operations for cash and securities shall be separated and appropriately
authorized.
M. Account Validation
An FCM shall have the accounts validated by an independent unit, or appropriately
conduct the monitoring of internal accounts upon the establishment of internal
positions.
Description:
1. To maintain the consistency among the internal system and database and the
records in external organizations, the FCM shall validate the account, and the
application system in the trading department and the back-office database shall be
integrated.
2. The scope of account validation shall include trading personnel, back office
settlements, and records of accounting system.
3. The cash and custodial positions (including positions and cash) shall be validated
by an independent unit to ensure the truthfulness of the records.
N. Asset Control
An FCM shall establish an asset control system to maintain the security of assets
(including those of the FCM and clients).
Description:
1. All securities and other assets, including collaterals, shall be kept in a safe place
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and under control.

2. The securities shall be counted and checked at least on a regular basis.
3. Control procedures shall be set up to maintain the security of clients' assets,
including the confirmation of clients' assets and separate management of clients
assets.
4. Each clients transactions shall be accurately settled and recorded in details, and
the account balance shall also be disclosed.
O. Quantitative Measurement of Operational Risks
An FCM shall recognize the importance of operational risks, and collect and compile
data related to operation risks so as to facilitate appropriate quantitative
measurement and management.
Description:
1. Operational risks includes the risk of internal personnel, procedures and
information system as well as risks of loss directly or indirectly caused by external
affairs. An FCM shall collect and compile the relevant data on a regular basis
(including time of occurrence, type of event, documentation and description of loss),
and conduct appropriate quantitative measurement and management.
2. To effectively control operational risks, an FCM may adopt appropriate approaches
or models to measure operational risks.
3. For relevant information on risk quantification, please refer to the reports as issued
by the Bank of International Settlement (BIS).
5. Other Risks
A. Control of Other Risks
An FCM shall, in addition to controlling the market risk, credit risk, operational risk
and liquidity risk suffered during business operations, establish appropriate risk
control procedures for other risks (including legal risk, model risk, reputation risk and
strategy risk) based on the characteristics of different risks and their impact on the
company.
Description:
1. Legal risk means the potential loss as a result of failure to comply with relevant
laws and regulations, and a voidance of the contract caused by illegality of the
contract, overstepping powers, neglect of clauses or incompletion of standards.
2. Model risk means that an FCM, when engaging in futures trading, shall reinforce
the control of internal model risk. For example, the pricing of index options involves
factors such as weighted index, exercise price, volatility, interest rate level, and
duration of the agreement so an accurate pricing and calculation of risk analysis shall
be based on the accurate financial models and programming. Therefore, when
controlling model risk, an FCM shall ensure the accuracy of the model and
programming used.
3. Reputation risk means any negative matter related to the operation of the FCM,
regardless whether it is true, that might lead to reduction of client base, decrease in
revenue, or even possible lawsuit expenses, or other possible losses.
4. Strategy risk means the risk of potential real-time or future loss in revenue or
capital suffered by the FCM as a result of unwise business decisions, inappropriate
execution of the decisions, lack of appropriate responses to competitions in the same
industry or lack of appropriate responses to industry changes.
5. In addition to market risk, credit risk, operational risk, and liquidity risk, an FCM
during business operations is also faced with legal risk, model risk, reputation risk
and strategy risk. It is advisable that the FCM establish, based on the characteristics
of each type of risks and their impact on the company, appropriate risk management
procedures to control other risk.
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B. Legal Compliance
An FCM shall establish a department especially designated for legal compliance to
be in charge of the compliance with relevant laws and regulations governing the overall
financial affairs and operating activities of the FCM, and to evaluate and manage the
FCMs legal risk.
Description:
1. The control of legal risk shall be jointly discussed, researched and drafted by the
risk management personnel or unit and the legal compliance department.
2. An FCMs internal rules shall be adopted pursuant to the relevant regulations of the
competent authority.
3. An FCM shall review the appropriateness of the internal rules and ensure that they
are forward-looking and flexible, so that they can respond to the impacts of the
addition (amendment) of laws on its business operations.
C. Review of the Legality of Contractual Documents
Before undertaking any business operation, an FCM shall confirm the rights and
responsibilities between and with its counter-parties, and shall review the legality of
the deal and availability of legal documents.
Description:
1. An FCM shall establish a set of complete procedures to govern the review process
prior to engaging in transactions with the counter-parties, so as to ensure the legality
of the transactions. The aforementioned counter-parties include: financial institutions,
custodian institutions, brokers, traders and clients.
2. An FCM shall formulate written documents required for different transactions and
ensure the integrity of the details of the transaction documents.
3. Prior to a transaction, a business unit shall acquire the legal authorization for such
transaction, and comply with relevant regulations. In addition , all relevant documents
during the transaction process shall be completely preserved for the required time
period.
4. Considering the variety of characteristics of derivative financial products, such as
the complexity in their trading, high financial leverage multiple, different lengths of
transaction periods, huge number of counter-parties and transfer of risks, an FCM
shall pay special attention to the feasibility of executing the contracts, and counterparties' ability of performing the contracts, and shall formulate a complete set of
review procedures for the adequacy and legality of the contracts of derivatives
financial products.
6. Risk Limits (Note 1) and Risk Aggregation
A. Market Risk Limits
An FCM shall set up and monitor market risk limits for the company as a whole, for
each business unit and for each trader, based on the regulations of the competent
authority and the TAIFEX and the companys own needs, and implement the
principles for handling the situation where the risk limits are exceeded.
Description:
1. Market risk limits shall be adopted based on their position limits, sensitivity limits
and stop-loss limits, as well as the VaR limits or stress testing limits.
2. The risk diversification effect of investment portfolios shall be taken into
consideration for allocating market risk limits.
B. Credit Risk Limits
An FCM shall set up and monitor the credit risk limits of each counter-party based on
the regulations as issued by the competent authority, the TAIFEX and the Chinese
National Futures Association as well as the companys needs, and implement the
principles for handling the situation where the risk limits are exceeded.
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Description:
1. To establish credit risk limits, the following factors shall be taken into
consideration:
(1) The FCM shall set up credit risk limits for each counter-party or client.
(2) Before conducting the transaction, a trader shall check the limits to verify the
validity of credit risk limits.
(3) After the transaction, the FCM shall review on a regular basis the changes of the
counter-partys credits and conduct proper handling.
2. The risk management personnel or unit shall review and subsequently monitor the
counter-party' credit based on the approved procedures, and evaluate whether the
credit risk is too concentrated in the following categories:
(1) The counter-party, including its affiliates.
(2) Enterprises with the same credit rating.
(3) Type of Industries.
(4) Origin of Country
3. An FCM shall measure credit risk through quantification model or method, and
design accordingly the risk limits for each counter-party and each business type.
C. Limit Review Procedure
When changes are made to the government's regulations, the FCMs policies, market
conditions or trading strategies, the FCM shall re-review its rules for risk limits.
Description:
1. An FCM shall review risk limits on a regular basis to reflect in a timely manner the
changes of external environment and internal business decisions.
2. An FCM shall set up different limits for each trader, and the head of the FCMs
business unit will review the limits on a regular basis.
D. Evaluation & Authorization for Product Limits
Before undertaking or developing new products, an FCM shall establish a formal
review procedure and a business operation plan for assessing the feasibility of such
undertaking or development, and shall evaluate the impact on the current limits for
existed products, so as to allocate appropriate risk limits.
Description:
1. An FCM shall, during the development of new products, confirm that the difference
between the new products and the existing product has been appropriately evaluated
and authorized. The FCM shall also take into consideration the changes of business
nature, structural difference, risk level, laws and regulations pursuant to operational
procedures.
2. For the approval procedure, the undertaking by an FCM of new products shall be
reviewed and signed by relevant departments (such as risk management, audit,
information, finance, and legal units), and then approved by the board of directors, or
the high-level management as authorized by the board of directors.
3. The content of the new product plan submitted for the review procedure shall
include in details the reasons for the design of the new products, current regulations
governing documents modification, assessment procedures, potential trading counterparties, appropriate monitoring system and operation procedures, information system
operation and risk analysis methods.
4. The key contents of the business operation plan for new products shall include:
description of product type and business objectives, application for approval of
authorized limits, implementation procedures for risk measurement and risk control,
internal control and internal audit systems, operation procedures, accounting,
taxation, analysis of relevant regulations, and operations of information system.
5. For trading of new products, it is necessary to obtain approval for risk limits, and,
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in addition, the impact of such risk limits on the overall risk limits shall also be taken
into account.
6. The undertaking and development of the aforementioned new products shall be
approved by the competent authority pursuant to the Futures Trading Act.
E. Risk Aggregation
An FCM shall calculate and aggregate the companys overall risks and the risk of
each business unit, including market risk, credit risk and other quantifiable risks, and
compare them with authorized limits. It is advisable to take into account the
correlation between different risks in the process of risk aggregation.
Description:
1. Daily aggregation of changes of the FCMs overall risks and any instance where
limits are exceeded shall be carried out, including:
(1) Exposure to market risk for every business unit and every financial instrument.
(2) Major exposure of credit risk.
(3) Concentration of credit risk.
2. The risk management personnel or unit shall aggregate and monitor on a daily
basis the different types of risks according to the existing procedures, and compare
them with risk limits, so as to understand the risk control conditions and response
measures of each business unit, and shall prepare on a regular basis the risk
management reports for the examination of the RMC or the board of directors.
Risk-Based Performance Management

1. Performance Measurement
A. Consistent Measurement Basis
An FCM shall measure the performance of each unit or business operation pursuant
to the principles of consistency; it is advisable to take into consideration the risks of
different business operations in the process of measurement, and such risks shall
serve as the basis for capital allocation.
Description:
1. Common quantitative indicators for performance include: profit and loss, and return
on shareholders equity. It is advisable for the company to consider the degree of
risks for different business operation pursuant to the risk management policy and the
performance target so as to effectively measure the performance of different business
units.
2. It is advisable to take into account the results of the risk-adjusted performance
measurement in the decision-making for compensation schema, investment
opportunities assessment, product pricing, profit analysis, investment portfolio
management, risk limits and capital management in order to implement the riskadjusted performance management and to ensure the consistency between the
overall risk management policy and the business activities.
B. Quantitative and Qualitative Evaluation
It is advisable that both the quantitative and qualitative indicators be considered for
the measurement by an FCM of the performance of each unit.
Description:
1. Quantitative indicators for performance include: risk-adjusted performance
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measurement (RAPM) or return on shareholders equity; however,it is advisable to

select only one indicator for the comparison of the performance of each business unit.
2. Qualitative indicators for performance include:
(1) Business strategies of business units.
(2) Relationships with clients, other FCMs, and the society.
(3) The FCMs risk preference.
(4) Competitive position on the market.
C. Risk-adjusted Performance Measurement
It is advisable that an FCM should use risk-adjusted performance measurement to
evaluate the performance of each business unit or each trader.
Description:
1. For the measurement of the performance of each department, business unit or
trading personnel, it is advisable to adopt a risk-adjusted performance measurement
indicator that takes into account both compensations and risks, such as riskadjusted return on risk-adjusted capital, (RARORAC, as shown in the figure below) or
other applicable indicators.
2. The risk-adjusted performance measurement can be used to assist the FCM to
effectively allocate the risk-adjusted capital of each unit, and to maximize profits
within the appropriate risk tolerance.
Figure. 2Risk-adjusted Return and Risk-adjusted Capital
Notes 1. Direct and indirect revenues shall mean the actual revenues from external
sources, and also include revenues from transfer of income between internal
departments and the imputed income of risk-adjusted capital benefit.
Note 2. Direct and indirect expenses shall mean the actual costs and expenses and
also include the costs and expenses for the transfer in internal operations, and the
costs for the transfer of internal capital.
D. Performance Target
It is advisable that an FCM set up an appropriate performance target for each
business unit.
Description:
1. It is advisable to take into account the risk limits or various risk parameters as
approved by the board of directors or the RMC prior to the establishment and
assessment of performance targets.
2. Each business unit shall establish a different performance target to be included in
the budget control. The following factors shall be taken into account for establishing
such target:
(1) Historic performances of each business unit.
(2) Whether a business unit undertakes new products or new business activities. (3)
The FCMs overall marketing or sales strategies.
3. It is advisable to take into account the degree of risk assumption for the business
units performance targets or the trading personnels compensation scheme.
4. Performance targets can also serve as a reference for product pricing.
E. Assessment of Investment Opportunity
It is advisable that an FCM adopt the risk-adjusted performance measurement as the
assessment tool for future investment opportunities.
Description:
It is advisable that an FCMassess all risks and costs related to a new business or a
new product, measure the risk-adjusted return, compare it with the current target
benchmark, and use the result as a reference for investment decisions.
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2. Revenue & Cost Allocation

A. Revenue Recognition Policy
An FCM shall establish a revenue recognition policy to effectively reflect the actual
condition of business operation, and to comply with the current general accepted
accounting principles, so as to assist the board of directors and the RMC in obtaining
sufficient information for the management of risks.
Description:
1. The profit and loss for the FCM own positions shall be recognized with marked-tomarket method on a daily basis.
2. The FCM shall establish a revenue recognition policy in order to govern the timing
and amount for revenue recognition as well as the strategies for the allocation of
revenue among business units.
3. In response to the situation where the profit and loss for the positions are
recognized with marked-to-market method on a daily basis, the FCM shall consider
the provisions of expected credit loss, liquidity risk and operational risk when
conducting the measurement of risk-adjusted performance.
4. Each of the business units within the FCM shall adopt consistent valuation method
for similar products and similar transactions.
B. Cost Allocation
An FCM shall allocate direct and indirect costs to each business unit to serve as the
indicators for measuring the contributions of each business unit.
Description:
1. It is advisable to take into account the following principles so as to ensure the
fairness of the cost allocation:
(1) All direct costs shall be attributed to each business unit.
(2) The method used to allocate costs to each unit shall be consistent.
(3) The costs of supporting departments shall be allocated based on the predefined
costs of the services provided.
(4) The indirect costs of administrative departments shall be reasonably allocated to
each business unit, or be taken into account during the establishment of the riskadjusted benefit target of each business unit.
2. The cost allocation policy should also provide for appropriate handling of services
that are not negotiated in advance.
C. Funding Cost & Transfer Pricing
Each business units of an FCM shall assess its profit conditions based on transfer
prices through a consistent and objective method.
Description:
1. The finance department shall set up the price for the funds provided to each
business unit based on the transfer pricing method. Trading of financial instruments
between business units shall also be priced through the transfer pricing method.
2. It is advisable to take into account the following principles for the application of
transfer pricing:
(1) Transfer pricing can be applied to the transactions of all assets, liabilities, equities
and off-balance sheet items between different business units.
(2) Marginal costs shall be taken into account for the establishment of transfer
pricing.
(3) In case when there is no reasonable price of any internal transactions for
reference, an FCM shall establish the transfer pricing with mark-up marginal costs.
(4) The transfer pricing method shall be fair and assist the FCM in improving its
business standard. The pricing mechanism shall be as simple as possible.
3. Regulations on Capital and Other Relevant Issues
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A. Regulations on Capital
An FCM shall maintain a continuous, correct adjusted net capital that meets the
requirements of the competent authority.
Description
1. An FCM shall complete the calculation of adjusted net capital within the required
deadline and preserve the records for relevant calculations.
2. The risk management personnel or unit shall be familiar with the FCMs trading
strategies and their effects on the adjusted net capital.
3. An FCM shall establish an internal control system for the review of adjusted net
capital pursuant to the regulations by the competent authority.
B. Compensation Policies
An FCM shall ensure that its compensation policy corresponds with its corporate
culture, long-term operational goals and strategies, and control environment
Description
1. An FCM needs to offer sufficient incentives to ensure the appropriate proficiency
and experience of the hired risk management personnel. For the design of
compensation system, it is also necessary to take into account the independency of
the risk management personnel in carrying out business operations.
2. The performance evaluation and remuneration standards of managerial officers and
associated persons and the remuneration structure and system of the directors in an
FCM shall be adopted in accordance with the following principles:
(1) The FCM shall adopt the performance evaluation and remuneration standards or
remuneration structure and system based on future risk-adjusted performance and in
line with the company's long-term overall profitability and shareholders interests.
(2) The remuneration and reward system shall not entice any director, supervisor,
managerial officer, or associated person to engage in any act exceeding the
companys risk appetite in pursuit of remuneration. The FCM also shall regularly
review the remuneration and reward system and performance in order to ensure their
consistency with the companys risk appetite.
(3) The time for payment of remuneration by the FCM shall be set based on future
risk-adjusted profitability in order to avoid the inappropriate circumstance of sustaining
loss after the payment of remuneration. A significant percentage of the
remuneration/reward shall be paid by a deferred method or an equity-related method.
(4) When an FCM assesses the individual contribution of a director, supervisor,
managerial officer, or associated person to the companys profits, it shall conduct an
overall analysis of the futures industry to clarify whether such profits resulted from an
overall advantage such as the use of the lower capital cost of the company, in order
to effectively assess the contributions that come from individual persons.
(5) The stipulations on severance pay between the FCM and its directors,
supervisors, managerial officers, and associated persons shall be adopted based on
realized performance, in order to avoid improper circumstances such as receiving high
severance pay after a short term of employment.
(6) The FCM shall fully disclose to shareholders the adopted principles, methods, and
goals of the aforementioned performance evaluation and remuneration standards or
structure and system.
The associated persons governed by these Principles are those persons whose
remuneration or performance evaluation is based on the sale of various financial
products or services.
C. Internal Audit
The internal audit unit of an FCM shall review the implementation of the FCMs risk
management system and, truthfully disclose the findings in the audit report. Any
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deficiency or irregularity found in the review shall be tracked after such audit report is
submitted for approval, and a follow-up report shall be made on a regular basis, so as
to ensure that the relevant units have taken appropriate improvement measures in a
timely manner.
D. Taxation
An FCM shall review taxation issues on a regular basis in order to avoid such major
loss as caused by any taxation issues.
E. Soundness of Business Operations
An FCM shall establish a crisis management plan so as to ensure the continuity of
business operations in the event of a major crisis.
Description
1. The plan shall clearly define and allocate responsibilities and accountability, and
provides appropriate authorization.
2. The plan shall include system backup and restoration, the procedures for quick
establishment and sell-off of current positions, and the procedures for settlement
default and temporary cash management requirement.
3. The FCM shall appoint a senior manager as the representative to deal with overall
crisis.
F. Risk Management of Affiliates
It is advisable that an FCM take into account its affiliates for risk management
operations, and establish overall risk management policies for the group.
Description:
1. An FCM shall establish an appropriate overall risk management mechanism based
on its ability to control affiliates.
2. If an FCM has the controlling ability or significant influence over its affiliates, it is
advisable to adjust the goal of risk management policies for the affiliates, when
necessary, to make them consistent with the goal of the FCMs overall risk
management policies. The risk profiles of individual affiliates shall be disclosed
separately so as to understand its impact on the risks of the entire group.
3. The results of the risk assessment by the FCM shall be reported to the parent
company in order to assess and aggregate the groups overall risks.
Risk Management Information System

Figure 3: Structure Chart of the Risk Management Information System
1. General Principles
A. Structure of the Risk Management Information System
It is advisable that an FCM establish a risk management information system. The
structure of the risk management information system includes three important
dimensions - application, data, and technology.
Description:
1. The application structure provides the FCM with functions related to the risk
management information system as required
2. The data structure defines the data and access interface required by the
application system, for which the establishment of database and the integrity of the
data shall be taken into account.
3. The technical structure defines the software and hardware environment where the
system operates. The system security shall be ensured during the establishment of
the information system.
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2. Functions of the Risk Management Information System

A. Definition of the Functions in the Risk Management Information System
It is necessary to take into account the possible demands of each level in the FCM
for risk management functions for the time being and in the future for the design of the
application structure for the FCMs risk management information system.
Description:
1. The functions of the application structure should preferably include: market and
credit risks management, capital allocation, assets and liabilities management,
performance assessment, and relevant management reports.
2. Users shall participate in the function design and system testing for the risk
management information system, to ensure that the requirements for the risk
management are met.
3. In addition to the definition of system functions, it is also necessary to confirm the
feasibility of the solutions to the problems as adopted by the risk management
information system during establishment of the system.
B. Function Distribution
The risk management information system adopted by an FCM shall, based on the
internal control levels, clearly govern and allocate the types and levels for the
centralized risk control, and the decentralized risk control in individual business units.
Description:
1. It is advisable that the risk management information system match with the FCMs
organizational structure and control method for risk control management.
2. Risk management information system shall adopt a centralized information
management method (distributed from the central level) to ensure the consistency of
the calculation methods, models and data adopted by and between departments and
products
3. If the FCM adopts a decentralized risk management information system structure,
it shall pay attention to the consistency of analysis methods and market data
adopted by and between different units.
4. The selection of a centralized or decentralized risk management information
system depends on the FCM's requirements for the functions of the risk management
information system, requirements for the degree of control, and the feasibility of the
centralized system.
C. Information Transfer Frequency
It is advisable that an FCM take into account the frequency, the counter-parties, and
format of the disclosed risk reports when establishing a risk management information
system structure.
Description:
1. The final goal of the risk management information system is to generate real-time
information, but the actual frequency with which the information is generated shall be
subject to the user's requirement; there shall be different information content and
report formats for different users.
2. Information can be presented in the form of sheets or online inquiry, and the format
for online inquiry can be determined by the users.
3. The risk management information system can also include the following functions
when necessary: risk assessment procedure before trading, scenario analysis before
trading, and real-time data update after relevant trading.
3. Establishment of Database and Integrity of Data
A. Establishment of Database (Data Warehouse)
An FCM shall take into account the data structure, data details, and the address
where the data are stored when establishing a database.
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Description:
1. The format and frequency for the transmission of risk information shall be taken
into account for the database infrastructure, and data redundancy shall be reduced in
order to improve efficiency.
2. Data can be classified into two classes: dynamic data and static data
3. Dynamic data refer to the data that are related to the trading and must be updated
on a regular basis, including:
(1) Trading data: including the details of trading information, such as counter-party,
type of product, trading date, trading amount, amount cash flow, currency and
exchange rate.
(2) Trading position and price
4. Static data refer to relevant data that are not updated frequently, such as the type
of product (product code), customer data, risk limits, and risk models.
5. The following factors shall be considered for the efficiency of the database:
(1) The level of detail of the data storage.
(2) The level of complexity of the analysis method.
(3) The efficiency and capacity of database system
B. Integrity and Ownership of the Data
An FCM shall ensure the integrity and accuracy of the risk information through testing
and confirming procedures, and clearly specify the ownership and the maintaining
responsibility of relevant data.
Description:
1. The integrity of the data can be confirmed through user terminal system and the
central management system.
2. User terminal system: it must ensure the accuracy and integrity of the sources of
the risk information, and then carry out automatic checking during information
updates.
3. Central management system: it shall ensure that the risk information is integrated
and established based on consistency, especially in that the business units
information on profit and loss must be consistent with that of the accounting
department.
4. In order to confirm the accuracy of thedata used in the risk management
procedure, a dedicated unit must be assigned to be responsible for data maintenance
and updates.
4. Establishment of Technical Structure and System Security
A. Information Technology Compatibility
When an FCM establishes a technical structure for risk management information
system, it shall confirm the compatibility between the system and the FCMs original
information platform. It is advisable that the structure include the hardware platform,
operation system, database management system and commutation infrastructure.
Description:
1. Technical structure for risk management information system shall preferably
include:
(1) Hardware platform: it shall take into account the FCMs' existing platform, and the
linking efficiency between the platforms.
(2) Operation system: the main consideration is the demand for an open environment
and the setting up of a multi-tasking design in order to maximize the efficiency.
(3) Communication infrastructure: it shall take into account the requirements for
network connections for data transfer between different departments. It should also at
the same time take into account the middleware for data transfer between
applications.
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(4) Database management system: it shall be decided whether to adopt relational

database or object-oriented database based on the FCMs technical level and the
complexity of the database.
(5) Risk control software: the development or purchase of risk control software shall
meet the requirements of risk management.
(6) Graphical user interface: it strives for a more human-friendly interface
2. In the design of the technical structure for the risk management information
system, the complexity shall meet its own requirements, and the future technical
developing trend, outsourcing needs, and the future expandability of new products and
new businesses shall be taken into account.
B. System and Model Security
To ensure integrality and confidentiality of an FCM's information, system, and model,
the technical structure for risk management established by the FCM shall provide for
the required level of security.
Description:
1. Security shall cover: access rights, user control, network security and model
security.
2. The control over the preservation and management of documents related to risk
management information system during the development period and use period must
be enhanced.
C. System Backup, Restoration, and Emergency Response Measures
The technical structure of risk management established by an FCM shall provide for
the procedures for appropriate data backup and restoration to ensure normal
operations to an acceptable extent during failure of hardware or software or
communication equipments; an emergency response solution shall be established for
the handling of emergency events.
Description:
The main scope includes: remote disaster recovery, disaster recovery, error
tolerance, backup, and emergency solution.
D. Experts for Risk Management Information
In order to facilitate the normal operations of risk management information system, it
is advisable that an FCM employ full-time information personnel for the development
and maintenance of the risk management information system.
E. Development of Information Technology
An FCM shall pay attention to the functionality, expandability, and executability of its
risk management information system, whether self-developed or purchased via
outsource, to the extent that the system is manageable.
Description:
The FCM shall take into account the integrity, and level of openness of the system
functions, and the professionalism and supporting capacity of the supplier or system
operator when it makes a decision on the selection of a purchased system.
Risk Information Disclosure

1. An FCM shall disclose not only the relevant information pursuant to the regulations of the
competent authority, but also the information related to risk management.
2. It is advisable that an FCM disclose information related to its risk management on annual
reports, financial statements, and the FCMs' website or other locations.
Description:
1. Disclosure of risk information shall include:
(1) Risk management policy.
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(2) The model adopted for risk management.

(3) Past risk assessment, and actual profit and loss.
(4) Adjusted net capital and capital management policy.
(5) Relevant information disclosed as required by the competent authority.
(6) Other relevant information favorable to the operations of risk management mechanism.
2. It is advisable that the disclosure of risk management information include qualitative and
quantitative information.
Supplementary provisions
1. An FCM shall pay attention at all times to the development of risk management systems
both in Taiwan and abroad, and review accordingly and improve the FCMs risk management
system, so as to increase the efficacy of the FCMs risk management
2. Personnel Training
In order to carry out the implementation of the FCMs risk management system, the FCM
shall design a complete personnel training system based on its own individual conditions, so
as to accomplish every goal as set up in the FCMs risk management policy.
This site belongs to Related Securities and Futures Institutions.

Chinese-English Website and Database MaintainLex Data Inc.
Translations by Winkler Partners(From 1 June 2001) and TSAR & TSAI LAW FIRM (Before 31 May 2001)
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8/20/2014

Risk Management Best-Practice Principles For Futures Commission Merchants (

Organizational Structure and Division of Duties for Risk Management

Risk Management Process

it might pose a risk of producing misled judgments.

measures for the risks it confronts.

Risk Management Mechanism

the adopted methods must be ensured.

trading personnel so as to avoid any possible conflict of interests or price

3. Management reports shall include information of uncompleted transactions and

and under control.

Risk-Based Performance Management

measurement (RAPM) or return on shareholders equity; however,it is advisable to

2. Revenue & Cost Allocation

Risk Management Information System

2. Functions of the Risk Management Information System

(4) Database management system: it shall be decided whether to adopt relational

Risk Information Disclosure

(2) The model adopted for risk management.

This site belongs to Related Securities and Futures Institutions.

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