Some investment dealers are failing to address conflicts of interest related to proprietary products, according to the compliance priorities report from Canada’s new self-regulatory organization.
Last year, the Investment Industry Regulatory Organization of Canada (IIROC), the Mutual Fund Dealers Association of Canada (MFDA) and the Canadian Securities Administrators (CSA) reviewed financial firms’ compliance with new conflict-of-interest rules that came into effect in 2021 as part of the client-focused reforms (CFRs).
A “common weakness” was that the conflict of interest rules aren’t satisfied just by providing disclosure to clients, said the report from the new SRO, which formed at the start of this year with the IIROC and MFDA merger.
“Dealers must also implement controls to address the conflict in the client’s best interest,” the report said.
“Although this applies to any type of [conflict], our review identified gaps in the controls, beyond disclosure, to address conflicts associated with the sale of proprietary products.”
Shortly after the client-focused reforms took effect, several big banks restricted their branches’ product shelves to proprietary funds, citing the CFRs’ higher product proficiency requirements for advisors.
In November 2021, Ontario Finance Minister Peter Bethlenfalvy directed the Ontario Securities Commission to investigate the matter. The commission submitted its report in February 2022, but the report hasn’t been released and the Ontario government has provided no timeline for its review.
The new SRO said it will publish another report jointly with the CSA with more detail on the deficiencies identified during their sweep.
“We encourage dealers to review the [forthcoming] report and assess their policies and procedures and disclosure relating to [conflicts of interest],” it said. “We will continue to test compliance with these requirements in our examinations.”
The compliance report also noted the new SRO will be conducting a sweep with the CSA on the CFR’s suitability and know-your-product provisions. The sweep will focus on dealer processes for ensuring reps “identify a reasonable range of alternatives when making recommendations and document their justification for selecting a particular option.”
They’ll also be examining client risk capacity assessments and reps’ training on know-your-product requirements.
As for order-execution-only firms, the new SRO said it will watch for “gamification” practices that encourage reckless investing behaviour. It will also review business continuity plans in the event of service disruption on the platforms.
The regulator is also following up on last year’s ban on deferred sales charge (DSC) funds.
“We will also be reviewing any changes to dealers’ compensation and incentive practices that followed the DSC ban to assess whether any new compensation or incentive practices have emerged which may present new conflicts of interest or other concerns,” the report said.
The new SRO said its compliance modernization group was reviewing the organization’s compliance processes.
“In the near term, most dealers can expect to be examined on the same cycle and in generally the same manner as they were examined prior to the consolidation,” it said.