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01 CSA proposes OTC derivatives market registration

The Canadian Securities Administrators (CSA) have published Consultation Paper 91-407—Derivatives: Registration, which calls for registration and regulation of participants in the over-the-counter (OTC) derivatives market.

“The G-20 has called for improvements to the over-the-counter derivatives markets that improve transparency, mitigate systemic risk, and protect against market abuse,” says Bill Rice, chair of CSA and chair and CEO of the Alberta Securities Commission.

Susan Han, a lawyer at Miller Thomson in Toronto, adds, “Sooner or later there’ll be some form of registration regime for participants dealing in OTC derivatives.”

Julie Mansi, a partner at Borden Ladner Gervais (BLG) in Toronto, says registration is a must for effective oversight. “How else can regulators meet their international obligations and investor protection mandate if they’re not aware of who’s operating in their backyards?”

She also says firms already complying with costly regulatory regimes will likely welcome the initiative because it will level the field with entities that are not currently registered.

The consultation paper calls for the appointment of an ultimate designated person, proficiency requirements, minimum capital, insurance and compliance systems, Mansi explains. The proposals also require dealers to appoint a chief risk officer.

“But does a small marketplace like Canada have the resources for a separate registration regime? And is it warranted, given how we currently regulate advisors? For existing registrants, it would be more efficient to have a streamlined process to become registered as derivatives dealers or advisors, in addition to their status as investment dealers and portfolio managers,” she says.

Of particular interest to the advisory community is the regulator’s proposal that “when a derivatives dealer enters into an OTC derivative transaction with a ‘non-qualified’ party—which we still haven’t been given a clear definition of, but we’ll say non-institutional clients for argument’s sake—the trade cannot proceed unless the client receives advice from an independent, registered derivatives advisor,” says Mansi. She notes this won’t be well received by clients who make their own investment decisions.

The proposal would not only be costly but also impractical to administer, says Mansi.

“What type of proof would a dealer need to ensure the client has received advice? Does it apply for every trade? What obligations would the advisor have to continue monitoring the suitability of each trade?”

She stresses the proposals don’t identify what products or transactions will qualify as derivative.

“In particular, it’s unclear whether the proposed regime will cover both exchange-traded and OTC derivatives or just OTC derivatives.”

Han notes it’s unclear how regulators will define OTC derivatives.

02 OSC to scrap wrappers on foreign offerings

The OSC has proposed rule amendments to remove certain disclosure requirements—commonly referred to as wrappers—from foreign private placement offerings made to sophisticated Canadian investors falling into the permitted client category (see “Permitted clients,” this page).

Alfred Page, partner at BLG in Toronto, explains the current regime dissuades foreign issuers from offering to Canadians. “They can’t be bothered doing the paperwork or getting their heads around the liability involved.”

Page says these three requirements are the most onerous:

1. Investors’ rights disclosure

Ontario, New Brunswick, Nova Scotia and Saskatchewan require statements explaining investor rights in the event offering documents contain misrepresentations.

“They’re saying it’s not enough for investors to have a remedy in the case of misrepresentation—the remedy must be described in the documents they receive.

“But it’s just several pages of boilerplate that don’t add anything to the investor’s understanding. All it does is slow down the offering,” Page explains.

2. Underwriter conflict

More boilerplate is required if the underwriter has a potential conflict. “An example would be where the underwriter’s affiliated with a bank that’s a lender to the issuer, and the bank receives repayment of part of its loans through the proceeds of the underwriting,” Page says.

He adds all provinces have adopted National Instrument 33-105—Underwriting Conflicts, which requires disclosure of such conflicts on the offering document’s cover page. “It has to be stapled or electronically pasted to the cover.”

3. Listing representations prohibited

Page notes many foreign offering documents state that the issuer has applied to list the securities on an exchange. But subsection 38(3) of the Ontario Securities Act prohibits this without the OSC Director’s consent.

The proposal document says, “Given the typically short timeframe for international offerings, it may be difficult to obtain the express consent of an OSC Director before a foreign offering document can be used in Ontario.”

Page says the idea of scrapping wrappers is a few years old. “It’s a sad commentary that it’s taken this long, and that only Ontario is making the change. An issuer offering to someone in Nova Scotia still needs a wrapper,” he explains.

For the proposed exemption to apply, an offering must meet several criteria. For instance, the offering can’t be from a Canadian company with a head office in a foreign jurisdiction.

“It has to be foreign-based and the investment has to be offered primarily to foreigners—it can’t be targeted towards Canadians,” says Page.

Originally published in Advisor's Edge Report

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