NexGen Financial Limited Partnership et al.
Headnote
MI 11-102 and NP 11-203 - certain mutual funds granted exemptions from National Instrument 81-102 Mutual Funds to engage in short selling of securities up to 20% of net assets, subject to certain conditions and requirements -- relief is needed to implement the mutual fund investment objectives and strategies.
Applicable Legislative Provisions
National Instrument 81-102 Mutual Funds, ss. 2.6(a) and (c), 6.1(1), 19.1.
May 8, 2008
IN THE MATTER OF
THE SECURITIES LEGISLATION OF
ONTARIO
(the "Jurisdiction")
AND
IN THE MATTER OF
THE PROCESS FOR EXEMPTIVE RELIEF
APPLICATIONS IN MULTIPLE JURISDICTIONS
AND
IN THE MATTER OF
NEXGEN FINANCIAL LIMITED PARTNERSHIP
(the "Filer")
AND
IN THE MATTER OF
THE NEXGEN FUNDS LISTED IN SCHEDULE "A"
(the "Existing Funds")
DECISION
Background
The principal regulator in the Jurisdiction has received an application from the Filer, on behalf of the Existing Funds and each mutual fund hereafter created and managed by the Filer or any of the affiliates of the Filer (the "Future Funds" and together with the Existing Funds, other than any fund which is a money market market or fixed income fund, the "Funds") for a decision under the securities legislation of the Jurisdiction of the principal regulator (the "Legislation") exempting the Funds from the following requirements of the Legislation, subject to certain terms and conditions:
1) the requirements of sections 2.6 (a) and 2.6(c) of Part 2 of National Instrument 81-102 relating to the ability of the Funds to sell portfolio securities short; and
2) the requirements of section 6.1 (1) of Part 6 of National Instrument 81-102 relating to the deposit of a portion of a Fund's assets with an entity other than such Fund's custodian.
Paragraphs (1) and (2) together referred to as the "Requested Relief".
Under the Process for Exemptive Relief Applications for Multiple Jurisdictions:
(a) the Ontario Securities Commission is the principal regulator for this application; and
(b) the Filer has provided notice that section 4.7(1) of Multilateral Instrument 11-102 Passport System ("MI 11-102") is intended to be relied upon in British Columbia, Alberta and Quebec.
Interpretation
Terms defined in National Instrument 14-101 Definitions and MI 11-102 have the same meaning if used in this decision unless they are defined in this decision.
Representations
This decision is based on the following facts represented by the Filer:
1. NexGen Financial Limited Partnership ("NexGen") is a limited partnership formed under the laws of the Province of Ontario having its head office in Toronto, Ontario. NexGen is registered as an adviser in the categories of investment counsel and portfolio manager and as a dealer in the categories of mutual fund dealer and limited market dealer and commodity trading manager.
2. NexGen is the manager of the Funds, whose securities of the Existing Funds are currently qualified for sale in the Provinces of British Columbia, Alberta, Ontario and Quebec (the "Jurisdictions") pursuant to two separate simplified prospectuses and annual information forms dated May 9, 2007 and March 6, 2007. NexGen has received exemptive relief from the applicable securities regulatory authorities extending the lapse date of March 6, 2007 prospectus to May 9, 2007 with the intent that all Existing Funds will be qualified for sale in the Jurisdictions under a single prospectus to be dated on or about May 9, 2008.
3. Each of the Funds is, or will be, an open-end mutual fund trust or a class of shares of a mutual fund corporation established under the laws of the Province of Ontario of which the Filer, or an affiliate of the Filer, is or will be the manager.
4. Each of the Funds is, or will be, a reporting issuer in the provinces of, Ontario, British Columbia, Alberta and Quebec, and distributes or will distribute securities under a simplified prospectus and annual information form and be otherwise subject to NI 81-102.
5. With the exception of specific exemptions granted by the applicable securities regulatory authorities, the investment practices of each of the Funds will comply in all respects with the requirements of Part 2 of National Instrument 81-102. Each of the Funds will be authorized to engage in a limited, prudent and disciplined amount of short selling. All short sales will be made consistent with each of the Funds' investment objective.
6. In order to effect a short sale, a Fund will borrow from either its custodian or a dealer (the "Borrowing Agent"), which Borrowing Agent may be acting either as principal for its own account or as agent for other lenders of securities.
7. Each of the Funds will implement the following controls (the "Controls") when conducting a short sale:
a) Securities will be sold short for cash, with the Fund assuming the obligation to return to the Borrowing Agent the securities borrowed to effect the short sale;
b) The short sale will be effected through market facilities through which the securities sold short are normally bought and sold;
c) The Fund will receive cash for the securities sold short within normal trading settlement periods for the market in which the short sale is effected;
d) The securities sold short will be liquid securities that:
i. Are listed and posted for trading on a stock exchange; and
1. the issuer of the security has a market capitalization of not less than Cdn. $300 million, or the equivalent thereof, of such security at the time the short sale is effected; or
2. the Fund has pre-arranged to borrow for the purpose of such sale;
or
ii. are bonds, debentures or other evidences of indebtedness of or guaranteed by the Government of Canada or any province or territory of Canada or the Government of the United States of America;
e) at the time securities of a particular issuer are sold short:
i the aggregate market value of all securities of that issuer sold short by the Fund will not exceed 5% of the total net assets of the Fund; and
ii the Fund will place a "stop loss" order with a dealer to immediately purchase for the Fund an equal number of the same securities if the trading price of the securities exceeds 120% (or such lesser percentage as the Manager may determine) of the price at which the securities were sold short;
f) the Fund will deposit Fund assets with the Borrowing Agent as security in connection with the short sale transaction;
g) the Fund will keep proper books and records of all short sales and Fund assets deposited with Borrowing Agents as security;
h) the Fund will develop written policies and procedures for the conduct of short sales prior to conducting any short sales; and
i) the Fund will provide disclosure in its prospectus of the short selling strategies and the details of this exemptive relief prior to implementing the short selling strategy.
Decision
The principal regulator is satisfied that the decision meets the test set out in the Legislation for the principal regulator to make the decision.
The decision of the principal regulator under the Legislation is that the Requested Relief is granted provided that in respect of each Fund:
1. the aggregate market value of all securities sold short by the Fund will not exceed 20% of the net assets of the Fund on a daily marked-to-market basis.
2. the Fund will hold "cash cover" (as defined in NI 81-102) in an amount, including the Fund's assets deposited with Borrowing Agents as security in connection with short sale transactions, that is at least 150% of the aggregate market value of all securities sold short by the Fund on a daily marked-to-market basis;
3. no proceeds from short sales by the Fund will be used by the Fund to purchase long positions in securities other than cash cover;
4. the Fund will maintain appropriate internal controls regarding its short sales including written policies and procedures, risk management controls and proper books and records;
5. any short sales made by the Fund will be subject to compliance with the investment objectives of the Fund;
6. the Requested Relief will not apply to a Fund that is classified as a money market fund or a short-term income fund;
7. for short sale transactions in Canada, every dealer that holds Fund assets as security in connection with short sale transactions by the Fund shall be a registered dealer in Canada and a member of a self-regulatory organization that is a participating member of the Canadian Investor Protection fund;
8. for short sale transactions outside of Canada, every dealer that holds Fund assets as security in connection with short sale transactions by the Fund shall:
(a) be a member of a stock exchange and, as a result, be subject to a regulatory audit; and
(b) have a net worth in excess of the equivalent of $50 million determined from its most recent audited financial statements that have been made public;
9. except where the Borrowing Agent is the Fund's custodian, when the Fund deposits Fund assets with a Borrowing Agent as security in connection with a short sale transaction, the amount of Fund assets deposited with the Borrowing Agent does not, when aggregated with the amount of Fund assets already held by the Borrowing Agent as security for outstanding short sale transactions of the Fund, exceed 10% of the total assets of the Fund, taken at market value as at the time of the deposit;
10. the security interest provided by the Fund over any of its assets that is required to enable the Fund to effect short sale transactions is made in accordance with industry practice for that type of transaction and relates only to obligations arising under such short sale transactions;
11. prior to conducting any short sales, the Fund discloses in its simplified prospectus a description of (i) short selling, (ii) how the Fund intends to engage in short selling, (iii) the risks associated with short selling, and (iv) in the Investment Strategy section of the simplified prospectus, the Fund's strategy and this exemptive relief;
12. prior to conducting any short sales, the Fund discloses in its annual information form the following information:
(a) that there are written policies and procedures in place that set out the objectives and goals for short selling and the risk management procedures applicable to short selling;
(b) who is responsible for setting and reviewing the policies and procedures referred to in the preceding paragraph, how often the policies and procedures are review, and the extent and nature of the involvement of the board of directors or trustee of the Funds in the risk management process;
(c) trading limits or other controls on short selling in place and who is responsible for authorizing the trading and placing limits or other controls on the trading;
(d) whether there are individuals or groups that monitor the risks independent of those who trade; and
(e) whether risk measurement procedures or simulations are used to test the portfolio under stress conditions;
13. prior to conducting any short sales, the Fund has provided to its securityholders not less than 60 days' written notice that discloses the Fund's intent to begin short selling transactions and the disclosure required in the Fund's simplified prospectus and annual information form as outlined in paragraphs 11 and 12 above, or the Fund's initial simplified prospectus and annual information form and each renewal thereof has included such disclosure; and
14. the Requested Relief shall terminate upon the coming into force of any legislation or rule of the principal regulator dealing with matters referred to in subsections 2.6(a), 2.6(c) and 6.1(1) of NI 81-102.
SCHEDULE A