OSC Staff Notice: 32-701 and 33-712 - Processing of Equity and Fixed Income Trades By Financial Institutions and Mutual Fund Dealers

ONTARIO SECURITIES COMMISSION
STAFF NOTICE 32-701 AND 33-712
PROCESSING OF EQUITY AND FIXED INCOME TRADES
BY FINANCIAL INSTITUTIONS AND MUTUAL FUND DEALERS

Staff has become aware that certain financial institutions have been facilitatingequity and fixed income trades in a manner that may be contrary to the exemptionsfor financial institutions under the Securities Act (Ontario) (the "Act") and theRegulation made under the Act (the "Regulation") and may result in the financialinstitution carrying on registerable activity. Through the processing of equity andfixed income trades, the financial institution may promote activity in related mutualfund dealers that is contrary to terms of the dealer's registration and may lead toclient confusion. Equity and fixed income trades for clients of these mutual funddealers are being processed using the exemptions under s.35(1)11 of the Act ands. 209(1)(i) of the Regulation which permit a financial institution to accept andprocess unsolicited equity trades without registration provided the trades areexecuted through a registered dealer. Some financial institutions in these caseshave pre-printed equity and fixed income trade tickets which are distributed tomutual fund dealers for use by their clients. The tickets are pre-printed to indicatethat the trade is unsolicited. In some cases, the representative of the mutual funddealer signs the trade ticket using a power of attorney granted by the client. Somedealers have advertised the ability to process trades through the financial institutionto both registered representatives and clients.

Many, if not all, of these "unsolicited" equity and fixed income trades take place inthe self-directed RRSP accounts offered by the mutual fund dealer. Further, mutualfund dealers have also acted as administrators for these self-directed RRSPaccounts on behalf of the financial institution. As administrator under one of thesebare trustee arrangements, the mutual fund dealer is responsible for keeping allrecords and acting as custodian of all assets, other than cash, held in the RRSPaccounts. Should these accounts hold equity and fixed income securities, staff isof the view that the mutual fund dealer is carrying on activities not in compliancewith the limitations of its registration.

Staff is concerned that financial institution are using these trade exemptions toallow the mutual fund dealer to carry on an extensive business in processing clienttrades that a mutual fund dealer is not entitled to make under its registration. Staffis further concerned that these trades are not truly unsolicited since there is a highvolume of such trades, the practice has been advertised and pre-printed, massproduced trade tickets are being provided to clients. This would suggest thefinancial institution is also carrying on improper trading activities.

In the course of processing these trades, mutual fund salespersons may be actingin furtherance of trades in these equities or fixed income products, which would beoutside of their proficiency and registration. Mutual fund dealers engaged in thispractice are holding accounts with equity and fixed income securities, keepingrecords of those accounts and providing confirmations and statements of theaccounts. These activities may mean that the mutual fund dealer may be carryingon activities it is not entitled to do under its registration.

In staff's view, the use of the exemptions in s.35(1)11 and s.209(1)(i) should belimited to exceptional and one-time trades and should not be used on a systematicbasis by either a client or a financial institution. The preparation and distribution oftrade tickets/order forms to mutual fund dealers to facilitate equity and fixed incometrade suggests that the resulting trade is solicited.

In staff's view, compliance with securities legislation necessitates that financialinstitutions and mutual fund dealers who have employed a structure describedabove advise clients that they are not permitted by securities law to handle tradesin equity and fixed income securities and take immediate action to remedy any non-compliance with the Act and Regulations.

Staff considers the following as acceptable alternatives to effect compliance withthe Act and Regulation for those accounts containing equity and fixed incomesecurities currently being held on the books and records of the mutual fund dealer:the dealer could give clients the option of (1) transferring their accounts to anappropriately registered dealer; (2) splitting out the equity and fixed income portionof the account and transferring that portion to an appropriately registered dealer;or (3) opening a delivery-against-payment account at a securities or investmentdealer for each client to facilitate equity and fixed income transactions andtransferring all positions in the account to the trust company who will act ascustodian of all assets in the account and will provide statements and confirmationsto the client. Under Option 3, clients would have to direct all equity and fixedincome trades directly to the securities or investment dealer.

Staff intends to devote field examination resources to further address these issues.

Questions regarding this notice may be directed to:

Elle Koor
Senior Accountant
Compliance
(416) 593-8077
[email protected]

Jennifer Elliott
Legal Counsel
Market Regulation
(416) 593-8109
[email protected]