Russia: Law on categories of investors has been adopted

The Law contains, among other things, the following innovations that will become effective at different dates:

• starting from 1 April 2022, the term “qualified investor” will be officially introduced, with all investors being divided into two categories: “qualified investors” and “investors other than qualified investors” (non-qualified investors);
• starting from 1 April 2022, non-qualified investors which are individuals (i.e. natural persons) will have to go through a testing procedure in order to gain access to financial instruments and transactions (other than instruments which are expressly exempted from such testing);
• starting from 31 July 2020, the range of qualified investors is extended by adding major companies with an annual income (revenue) of at least RUB30 billion or with a net asset value of at least RUB700 million;  
• starting from 31 July 2020, claims arising out of derivative financial instruments (DFIs) entered into with or at the expense of individuals over the counter are enforceable in courts.

This is how the Russian Central Bank, the driving force behind these legal innovations, is trying to protect unprofessional retail investors against risks. However, the market participants fear that these measures will, on the contrary, limit the right of individual investors to choose the instruments for investment and make then more likely to make deals with foreign brokers.   

Below we outline the key innovations contained in the Law which we consider to be the most relevant for our clients' business.²

Two Categories of investors

• With effect from 1 April 2022 the Law introduces the term “qualified investor” and clarifies the procedure for recognizing certain persons as qualified investors. All other investors fall into the category of non-qualified investors and are subject to the restrictions imposed by the Law on securities market on investing into any complex structured instruments and the majority of foreign securities.
• As a general rule, non-qualified investors may invest only in the most reliable assets. Such assets include listed shares (the most liquid securities), ordinary bonds of Russian issuers, open-ended participation units and interval mutual funds and a number of foreign blue-chip bonds. Non-qualified investors will also be able to invest in the foreign securities included in the indexes which are listed by the Russian Central Bank. The preliminary list contains 40 indexes including NASDAQ-100, S&P 500, Dow, FTSE and so on.

Testing of non-qualified investors

• Starting from 1 April 2022 non-qualified investors which are individuals will have to go through a test-based admission procedure to be able to invest in other foreign securities, repo agreements, derivatives and structured instruments.
• The testing will involve an assessment of the individual’s knowledge of the relevant instrument and his/her ability to evaluate the risks inherent in that instrument (in other words, the individual’s financial awareness). The testing procedure and lists of questions will be approved by the basic investors’ rights protection standard which is currently being developed by the working group of the Russian Central Bank, the National Association of Stock Market Participants (NAUFOR) and the National Finance Association (NFA).
• The testing may be carried out by brokers, forex dealers and some other persons authorised to do so by laws. It may be carried out either when an individual client submits an instruction to enter into agreements that may be concluded only subject to the testing procedure, or outside of any specific instruction.
• Those clients of brokers that do not pass the testing procedure will be able to use their “right of last word”, allowing them to invest up to RUB 100,000 in the relevant transaction. In this case, the broker will have to warn its client about the applicable risks.
• Market participants violating the testing procedure may be required to buy out the financial instrument acquired by their client, or reimburse their client for any losses and expenses incurred in connection with the transaction.
• Persons recognised as qualified investors before 1 April 2022 will retain their status. Investors that have entered into the similar complex transactions before 1 April 2022 will also be exempt from having to go through the testing procedure.

Major companies as qualified investors

The Law extends the range of persons recognised as qualified investors by adding Russian and foreign commercial entities with an annual income (revenue) of at least RUB30 billion or with a net asset value of at least RUB700 million.

Enforceability in courts of otc derivatives acquired by individuals

• Claims arising out of over the counter (OTC) derivative financial instruments (DFIs) entered into with, or at the expense of, individuals are now enforceable in Russian courts. The right to enter into such agreements at the expense of individuals is granted to brokers and managers, while only brokers are entitled to enter into such agreements with individuals directly.
• Any types of DFIs may be entered into with qualified investors. Non-qualified investors are only allowed to invest in non-deliverable DFIs whereby only a fixed amount (not depending on changes in the price of the underlying asset) is to be paid at the expense of the individual, provided that information on changes in the underlying asset’s value is disclosed by a market operator, foreign stock exchange, repository, news agency or another legal entity meeting criteria to be set by the basic standard.

As we see it, the Law – which has been enacted after much debate in professional circles - is an attempt to find a compromise between the conservative position of the Russian Central Bank, which is keen to give maximum protection to unprofessional investors, and the position of brokers and other financial market participants who object to the introduction of additional statutory restrictions.  

In the opinion of some professional market participants, whilst the Law as eventually enacted represents a middle ground, it is rather designed to “calm down” the regulator rather than to really protect Russian investors from unfair practices. Most likely, having to go through the testing procedure will not motivate clients to enhance their financial awareness. On the contrary, this may become an additional obstacle, forcing them to go to foreign brokers in search of investment solutions.

In this alert, we have sought to highlight the most important legal developments that will have a material impact on how transactions are structured and how the relevant Russian law legal opinions are drafted.

We would welcome opportunities to discuss the Law in greater detail with our clients; please do not hesitate to contact us.

_{¹ See Federal Law dated 31.07.2020 No 306-FZ "On Introduction of Amendments to Federal Law “On Securities Market” and Certain Legislative Acts of the Russian Federation".}

_{² Please note that we do not aim here at giving a comprehensive description or analysis of all of the innovations provided for by the Law.}