Navigating “Making a Market” and AFSL Requirements in Australia: A Licence Guide for Financial Services

Introduction

IIn Australia, providing financial services, particularly ‘making a market’ for financial products, means you must determine if you need an Australian Financial Services Licence (AFSL). An AFSL, authorised under the Corporations Act 2001 (Cth), is essential for any financial services business intending to provide financial services in Australia by ‘making a market’.

This guide is a crucial resource for businesses seeking to understand and navigate the AFSL requirements for ‘making a market’ as a financial service. It provides essential guidance on the authorisation needed from ASIC and the regulatory requirements that licensees must meet to provide these financial services in Australia.

Defining “Making a Market” Under the Corporations Act 2001 (Cth)

Regular Price Quotation for Financial Products

Under the Corporations Act 2001 (Cth), defining “making a market” for a financial product hinges on several key elements. One core component is the regular quotation of prices. This means a person, not being a market licensee, must regularly state the prices at which they propose to either acquire or dispose of financial products. This activity can occur through a facility, at a specific place, or even otherwise.

This regular price quotation is a crucial indicator of “making a market” as it signals an ongoing intention to trade in specific financial products. For example, regularly publishing buy and sell prices for a particular derivative product would likely meet this requirement.

Reasonable Expectation of Regular Trading

Beyond simply stating prices, the definition of “making a market” also requires that other persons have a reasonable expectation they will be able to regularly effect transactions at those stated prices. This element ensures that the price quotations are not merely indicative or sporadic but represent a genuine commitment to ongoing trading.

To illustrate, consider a scenario where a person consistently advertises prices for a certain financial product. If, based on this consistent behaviour, others reasonably believe they can routinely execute trades at these prices, this condition of “making a market” is likely satisfied. This expectation of regular trading is what distinguishes market makers from entities that might occasionally offer to buy or sell financial products.

Distinction from Operating a Financial Market

It is important to distinguish “making a market” from operating a financial market. The Corporations Act 2001 (Cth) clarifies that the actions of a person “making a market” should not constitute operating a financial market. This distinction is critical in regulatory terms, as operating a financial market involves a different set of licensing and compliance obligations compared to “making a market”.

For example, imagine a situation where an entity sets up a platform that facilitates trading in financial products among multiple buyers and sellers, operating like an exchange. This activity is more likely to be considered operating a financial market. In contrast, “making a market” typically involves a person dealing on their own account, offering to buy or sell financial products at stated prices to those who wish to trade with them directly, rather than operating a broader exchange facility.

Why an AFSL is Essential for Market Makers in Australia

AFSL Authorisation for Financial Services

An AFSL is a legal cornerstone for entities providing financial services in Australia, as defined under the Corporations Act. Without an AFSL, businesses cannot legally engage in activities classified as financial services, making the licence a fundamental requirement for legitimacy within Australia’s financial services sector.

Importantly, the scope of an AFSL is not one-size-fits-all. Instead, the Australian Securities and Investments Commission (ASIC) tailors each licence to align with the specific financial services or financial products a licensee intends to offer. For instance, an AFSL may authorise activities such as dealing in derivatives, providing custodial or depository services, or making a market for financial products. This tailored approach ensures that the authorisation precisely matches the licensee’s activities, defining the boundaries of their legal operations.

“Making a Market” as a Specific Financial Service

“Making a market” is specifically classified as a financial service that requires AFSL authorisation. Financial services, cover a wide range of activities, including providing financial advice, dealing in financial products, operating managed investment schemes, and making a market for financial products. Among these, market making holds particular regulatory significance due to its critical role in providing liquidity and facilitating trading.

Engaging in market making without the appropriate AFSL authorisation constitutes a regulatory breach. Entities that engage in such activities must hold an AFSL explicitly authorising market making. This requirement ensures that businesses involved in this crucial financial service are regulated under the ASIC framework, providing oversight and accountability in financial markets.

ASIC’s Regulatory Focus on Market Making Authorisation

ASIC devotes significant regulatory attention to ensuring that market makers hold the necessary AFSL authorisations. For example, ASIC has identified cases where licensees were issuing complex financial products, such as Contracts for Difference (CFDs), without the required market-making authorisation. Such instances reflect ASIC’s proactive role in monitoring and enforcing compliance, often leading to AFSL audits and investigations, particularly in areas involving complex instruments.

In its Market Integrity Update (MIU) Issue 138, ASIC specifically addressed the need for CFD issuers to obtain market-making authorisation, even when relying on third-party pricing. ASIC clarified that market-making authorisation is typically required if an entity quotes prices at which they will trade with customers, executes transactions on its own behalf, and creates a reasonable expectation among customers to regularly transact at those quoted prices.

This guidance highlights ASIC’s diligent oversight of entities engaged in market making and underscores its commitment to ensuring that participants in this sector remain compliant with licensing requirements. By doing so, ASIC helps maintain the integrity and stability of Australia’s financial markets.

Key Regulatory Obligations for “Making a Market” AFSL Licensees

Demonstrating Financial Competence and Resources

Licensees authorised to “make a market” must demonstrate financial competence and maintain adequate financial resources. This is a core regulatory obligation under an AFSL, and these requirements are assessed by ASIC to ensure that licensees can meet their financial commitments and operate a sustainable financial services business.

While applicants must attest to having sufficient capital in their initial online application, detailed proof is now requested at a later stage. This modern approach replaces the former requirement to submit a ‘B5 Financial Resources’ proof document upfront. Licensees must be prepared to provide evidence of their financial capacity during the ‘requirements stage’ of the assessment, and must comply with the financial resource standards outlined in ASIC Regulatory Guide 166 (RG 166).

Managing Conflicts of Interest and Risk Frameworks

Managing conflicts of interest and establishing robust risk management frameworks are critical regulatory obligations for AFSL licensees making a market. Licensees must have comprehensive procedures in place to identify, disclose, and manage conflicts of interest, particularly when dealing with clients. These procedures are essential to ensure the integrity of the market and protect retail clients.

Furthermore, licensees are required to maintain adequate risk frameworks. This includes implementing policies for identifying and managing various risks, such as liquidity risk and operational risks. These frameworks must also incorporate specific measures for preventing price manipulation and managing market volatility, ensuring a stable and fair market for financial products.

Navigating Intersecting Regulatory Requirements

Licensees authorised to “make a market” must navigate a complex web of intersecting regulatory requirements. These obligations extend beyond just the Corporations Act 2001 (Cth) and include ASIC Regulatory Guides and anti-money laundering (AML) laws. Compliance with these diverse regulations is crucial for maintaining an AFSL and operating lawfully in the Australian financial services landscape.

The complexity arises from the nuanced nature of “making a market” activities and the overlapping requirements from different pieces of legislation and ASIC regulatory resources. To ensure they understand and adhere to all applicable regulations, including those related to anti-money laundering and counter-terrorism financing, many licensees seek guidance from specialised AFSL lawyers to maintain their authorisation to provide financial services in Australia.

Key Information Required for a “Making a Market” AFSL Application

When applying for an AFSL with a ‘making a market’ authorisation, ASIC requires comprehensive information to assess your business’s competence and operational readiness. Under the streamlined application process, this information is now provided directly within the online application on the ASIC Regulatory Portal, replacing the former system of separate, numbered “proof documents.”

Business Description Information

Applicants must provide a comprehensive business description within the online application that outlines the scope of their market-making activities. This information, which supersedes the former A5 proof, must cover:

• Explanation of Market-Making Activities: A clear articulation of your day-to-day market-making operations.
• Financial Products: The specific types of financial products for which you will make a market.
• Client Base: A description of your target clients, whether retail, wholesale, or both.
• Operational Structure: An explanation of how market-making is integrated into your broader business, often supported by an uploaded organisational chart.

Financial Resources Information

Demonstrating financial stability is crucial. While the former B5 proof required financial statements to be submitted upfront, you now attest to your financial capacity in the initial application. Detailed evidence, including financial statements and projections that comply with ASIC Regulatory Guide 166, will be requested by ASIC at the later ‘requirements stage’.

Competency of Key Personnel

ASIC assesses the competence of your key personnel through the information you provide about your Responsible Managers in the online application. This information, which replaces the former B1 proof, must include:

• Evidence of Expertise: Details demonstrating your Responsible Managers’ expertise in overseeing market-making activities.
• Qualifications and Experience: Information from resumes and People Proofs (including qualification certificates) that highlight relevant experience and training.
• Role Descriptions: Clear descriptions of each Responsible Manager’s role and how they contribute to the oversight of the market-making function.

Market Maker Operations Statement

The online application will require you to provide detailed information about your intended market-making operations, replacing the former C3 proof. This statement must outline:

• Market-Making Activities: A clear description of all planned market-making activities.
• Client Use Cases: An explanation of the typical scenarios for which clients will use your services.
• Responsible Manager Oversight: Details on how your Responsible Managers will oversee these specific activities.
• Risk Management Strategies: A description of the strategies you will implement to manage the risks inherent in market-making.

Systems and Technology Information

You must provide details of the technological infrastructure supporting your activities within the online application. This includes descriptions of your:

• Trade Execution and Pricing Systems: How trades are processed and prices are determined.
• Risk Management Systems: The technology used for monitoring market, credit, and operational risk.
• Cybersecurity and Disaster Recovery Frameworks: Measures in place to protect systems and ensure business continuity.

Risk Management Framework Information

Applicants must describe their risk management framework, detailing the policies and procedures for managing the unique risks of market-making. This includes providing information on your policies for:

• Risk Identification and Management: How you identify, assess, and mitigate risks.
• Liquidity and Operational Risk Management: Specific policies for managing liquidity and operational risks.
• Preventing Price Manipulation: Measures and surveillance mechanisms to deter market manipulation.
• Managing Market Volatility: How you will handle periods of high market volatility.

Compliance Framework Information

You must demonstrate how you will maintain ongoing compliance with ASIC rules and market integrity obligations. Within the online application, you will need to provide details of your:

• Comprehensive Compliance Policies: Policies for monitoring and reporting on all relevant ASIC rules.
• Internal Systems for Compliance: The internal systems designed to ensure adherence to market integrity obligations.

Practical Steps for a Successful “Making a Market” AFSL Application

Diagrammatic Mapping of Key Processes

When preparing an application for an AFSL to “make a market”, a practical initial step involves creating diagrams to clearly articulate key operational processes. Mapping these processes is crucial for businesses to understand and effectively present their operations to ASIC. This diagrammatic approach is particularly useful for illustrating complex pathways in a simple and understandable manner.

In drafting applications, businesses should focus on mapping key stages across several essential pathways. These pathways are fundamental to demonstrating a comprehensive understanding of the business operations related to providing financial services. Mapping is essential for at least three key areas:

• Customer Onboarding Journey: This diagram should detail the complete process of bringing a client onboard. It must clearly show each step of the customer onboarding journey, including all necessary disclosure requirements to ensure transparency and compliance.
• Funds Flow, including “Client Monies”: This map needs to illustrate the flow of funds within the business, specifically addressing how client monies are handled. It should provide a clear picture of how funds are managed, segregated, and reconciled, adhering to regulatory requirements for client money handling.
• Trade Execution: This diagram should outline the end-to-end process of trade execution. It needs to cover all stages from order placement to final settlement, including the roles and obligations of all parties involved such as the issuer, broker/dealer, and platform.

Articulating Operational Details and Frameworks

Building upon the foundation of process diagrams, the next practical step involves clearly articulating the surrounding operational details and frameworks. These details are essential for demonstrating to ASIC a robust and well-considered approach to providing “making a market” financial services. Drafting these detailed descriptions provides a solid foundation for addressing various regulatory requirements.

Businesses seeking to become market makers should focus on clearly articulating several key elements:

• Operational Details: Provide comprehensive details of day-to-day operations. This includes how the market-making activities will be conducted, managed, and integrated within the broader financial services business.
• Product Information: Clearly describe the financial products for which market-making services will be offered. This description should cover the nature, features, and complexities of these financial products, ensuring ASIC understands the scope of products involved.
• Policy and Procedure Framework: Develop a robust framework of policies and procedures that govern all aspects of the market-making business. This framework should address compliance, risk management, and operational protocols, demonstrating a commitment to regulatory best practices.
• Disclosures: Outline all necessary disclosures that will be provided to clients. These disclosures must be comprehensive and transparent, ensuring clients are fully informed about the services, products, and associated risks.
• Contractual Infrastructure: Establish a sound contractual infrastructure that underpins the market-making activities. This includes agreements with clients, service providers, and other relevant parties, clearly defining roles, responsibilities, and obligations.

By methodically drafting these diagrams and surrounding details, businesses aspiring to become market makers can establish a strong foundation. This structured approach not only aids in the AFSL application process but also ensures operational readiness and compliance with regulatory expectations, including liquidity and capital requirements.

Conclusion

Navigating the Australian regulatory landscape for “making a market” as a financial service necessitates a clear understanding of the Corporations Act 2001 and the critical role of an AFSL. Businesses engaging in activities that meet the definition of “making a market” must recognise the importance of securing the correct AFSL authorisation from ASIC. This authorisation is not merely a procedural step but a fundamental requirement to lawfully provide these crucial financial services in Australia.

For businesses seeking to confidently navigate the complexities of the modern AFSL application process for market making, contact the experts at AFSL House to apply for an AFSL. Our unparalleled expertise in Australian financial services licensing ensures that your application, lodged via the ASIC Regulatory Portal, is robust, comprehensive, and aligned with regulatory expectations, ensuring your business is authorised to provide financial services in Australia, including “making a market”, with clarity and full AFSL compliance.