Canadian mutual fund investors were not immune to such declines in the markets as assets in the industry decreased by 11.3% during this period. However, the strength in the financial markets in the second quarter of 2003 has helped fuel industry assets, increasing it by 5.7% or $21.4 billion to $390.8 billion overall. Long-term mutual funds increased by 8.2%, marking the largest increase in long-term assets since December 2001.
Net sales for the 12 months, ending June 2003, were minus $2 billion compared with net sales of $26.8 billion during the same period, one year ago. Accounting scandals and the threat of the impact that the Iraq War would have on the US economy, prompted Canadian mutual investors to wait on the sidelines before putting any new investments into the industry. However, Canadian investors showed resiliency in not redeeming mutual fund investments.
The net redemptions during the last twelve months represented only 0.5% of the industry and long-term mutual fund sales were actually positive at $859 million.
The redemption rate held steady at 26% during this period, the same rate in the same period, one year ago.
Volatile markets during the last twelve months have fuelled Canadians to invest conservatively in the industry. Net new investments of conservative, income-bearing funds like Dividend & Income, Canadian Bond and Foreign Bond were $6.8 billion, while net sales in aggressive mutual fund equities, such as Canadian, Foreign and US, were minus $4.9 billion.
Net redemptions in money market funds, that began in March 2002, continued in the last twelve months, posting an aggregate figure of $4.9 billion.
TRENDS IN INTERNATIONAL INVESTMENTS: Since June 2000, new investments into foreign mutual funds have been steadily declining.
Net sales in these funds for June 2001, accounted for 26% of the share of total net sales and 13.4% in the following year. Within the last twelve months, Canadian investors have cashed out of foreign mutual funds more than what they have put in as jittery investors decided to wait on the sidelines or invest in more conservative, less volatile funds. Most of the net redemptions can be attributed to uncertainty in the US economy, as much of what happens in our neighbouring country affects the Canadian economy and markets.
DISTRIBUTION OF INVESTMENT FUNDS
a) THE MUTUAL FUND DEALERS ASSOCIATION - The Mutual Fund Dealers Association of Canada (MFDA) is the Self-Regulatory Organisation for the distribution side of the mutual funds industry in Canada. The MFDA was incorporated as a not-for-profit federal corporation in June 1998 and has been operational since March 2001. The MFDA's mandate is to regulate the sale of all mutual funds by its members. As of June of 2003, the MFDA had admitted 203 dealer firms as members and had commenced compliance reviews of member firms.
b) FAIR DEALING MODEL - In late 2002, the Ontario Securities Commission announced a new proposal for the regulation of financial advice-givers, called the Fair Dealing Model, his proposal has the potential to completely re-design Canadian distribution channels for mutual funds and other financial products. Industry consultations are ongoing and a more detailed proposal is expected from the regulators soon.
LEGAL DEVELOPMENTS
a) FUND OF FUNDS - In July 2002, Canadian regulators released proposed amendments to the regulatory regime for mutual funds to permit actively managed fund of funds structures.
A fund of funds structure is created when a mutual fund invests in other mutual funds. Currently, a mutual fund manager must apply for an exemption order from the regulators in order to be permitted to offer a fund of funds.
In June 2003, a revised version of the proposals was released by the Commission des valeurs mobiliˆres du Qu‚bec (CVMQ).
This version accepted several of IFIC's comments on the earlier version. Further comments were submitted to the CVMQ in July 2003. IFIC is awaiting the regulator's response.
b) FUND GOVERNANCE - In March 2002, Canadian regulators released a concept paper that would mandate independent oversight of a mutual fund's manager. Currently, there is no mandated independent oversight of a mutual fund manager.
However, mutual fund managers are bound by a standard of care and good faith that is set out in certain provincial securities legislation. When adopted, this concept would require a mutual fund to have a governing body that is independent of the mutual fund's manager, which would exercise oversight over that manager's management of its funds.
The governing body would act solely in the best interests of investors and would be free from conflicts of interest.
Industry consultations occupied much of 2003. It was heartening to note that the regulators granted exemptions from investment prohibitions to funds that had voluntarily adopted the independent governing body concept. A revised concept paper, incorporating many of the industry's comments, is expected to be released shortly.
c) SECURITIES LENDING - Securities lending is a strategy used by funds to earn income and thereby enhance investor revenues. The income is generated through fees paid by counterparties to the lending or repurchases transactions, and through compensating payments, for dividends paid on loaned securities.
CSA National Instrument 81-102 permits investment funds to lend securities, but only if the loan fits within the definition of a "securities lending arrangement" under s.260 of the Income Tax Act (Canada) ("ITA").
ITAs 260 specifies, however, that only corporate or government securities can be included in a "securities lending arrangement" - trust units are not included. Mutual funds are significant holders of unit trust units. Securities borrowings in the current market, too, have recently focused on trust units - specifically, units of income trusts.
The restrictions in ITA s.260, therefore, effectively precluded mutual funds from taking advantage of the improvements in market liquidity, and the consequent reduction in bid/ask spread and price volatility that result from these securities lending activities.
IFIC, together with the Investment Dealers Association of Canada, strenuously lobbied the Federal Department of Finance for an amendment to s.260 of the ITA to permit the lending by mutual funds of trust units.
In December 2002, the Department of Finance issued a letter stating that they would propose and support an amendment to ITA s.260 to permit funds to lend these securities.
d) POINT OF SALE DISCLOSURE - In summer of 1999, IFIC began participating in a group including representatives from the mutual funds industry, the insurance industry and the securities and insurance regulators that examined all aspects of the regulation of mutual funds and segregated funds.
This group made recommendations regarding areas where the standards could be harmonised.
One of the recommendations was to create a basic investor guide to mutual funds and segregated funds, and a small joint IFIC/CLHIA working group forwarded a draft guide to the Joint Forum of Financial Market Regulators for its review.
The Joint Forum released Consultation Paper 81-403, Rethinking Point of Sale Disclosure for Segregated Funds and Mutual Funds in February 2003, setting out proposals to improve the way segregated fund and mutual fund information is conveyed to consumers.
The 81-403 proposal contemplates a four-part disclosure regime, consisting of a relatively-static Foundation document, a Continuous Disclosure record, a fund-specific Fund Summary (for point of sale) and a generic mutual/segregated funds informational guide, based on the work of the joint IFIC/CLHIA working group.
The proposed disclosure system is designed to bring information to consumers "when they need it, in a form they can use, and in a cost-effective, practical manner." The new "access equals delivery" concept will enable the industry to satisfy current delivery requirements for certain documents, simply, by having them available. Because fund information is expected to be made available to consumers before the point of sale, the existing rights of withdrawal and rescission are proposed to be eliminate as well.
Considering high-level concepts and practical applications, Manager and Distributor Members of the 81-403 Working Group engaged actively in the formulation of a comment letter, dated April 30, 2003, and prepared mock Foundation and Fund Summary documents illustrating possible approaches in the proposed new disclosure environment.
While fully supportive of efforts to make a cost-efficient disclosure system relevant, reliable and accessible to investors, IFIC made a number of recommendations, including the following: (1) that the Foundation and Fund Summary documents together should constitute one disclosure package; (2) that the Joint Forum should establish principles for document content rather than mandate a strict form of disclosure; (3) that managers be permitted to create Foundation and Fund Summary documents for fund families; (4) that time-sensitive information, eg fund performance data, be referenced in the Fund Summary document and be presented on the fund company web-site or SEDAR for 'just in time' printing; (5) that a consumer's pre-purchase due diligence be formalised in writing and administered by the dealer.
IFIC is awaiting the CSA's response to these comments.
e) INCORPORATED SALESPERSONS - Registered mutual fund salespersons in Canada come in many shapes and sizes. And until recently, so did their relationships, with their sponsoring mutual fund dealer firms. For example, many salespersons chose (primarily for reasons of tax effectiveness) to adopt relationships with their sponsoring dealer akin to those of independent contractors and run their individual businesses through incorporated entities.
This model is acceptable in the life insurance world and migrated to mutual funds as individual financial advisors took advantage of dual-licensing provisions in securities and life insurance legislation.
This business model is not acceptable in the securities world, however, because the various definitions of "salesperson" set out in Provincial securities laws do not include corporations. Indeed, most characterise salespersons quite clearly as "employees" of the sponsoring dealer firm. This issue first came to prominence with the release of the Report of the CSA Distribution Structures Committee in 1999. Publication of the Report highlighted the lack of legal certainty with respect to the ability of a corporation to receive income for an activity that it is not strictly eligible to perform and the tax treatment of that income.
The resulting lack of clarity lead to significant tax reassessments for a number of mutual fund salespersons who had structured their businesses as corporations and were having commissions earned, paid to these corporations. Industry participants had hoped that this issue could be resolved through the advent of the Mutual Fund Dealers Association of Canada ("MFDA"), however, it was set aside for further discussion with the CSA.
Throughout 2003, I was on the working group on this issue has been communicating regularly with the CSA to ensure that this important issue remains "top-of-mind" and is not lost in the multiplicity of ongoing regulatory initiatives.
IFIC's working group thoroughly canvassed the implications and merits of pursuing a solution through tax policy changes (i.e. can the CCRA ignore the inability of a corporation to engage in the activity for which a commission is paid and still arrive at the desired tax treatment? If so, what are the implications of this solution to long term legal certainty?), as against a CSA-sanctioned amendment to provincial securities laws that would simply permit corporations to become registered as salespersons.
The working group determined that an approach to the CSA would be the most effective use of IFIC lobbying efforts.
The working group met with CSA officials on April 30, 2003. At this meeting, we reiterated how uncertainty in the current state of the law in this area was unfairly preventing industry participants from engaging in legitimate tax and succession planning strategies that were otherwise open to life insurance agents (not to mention doctors and lawyers in most provinces).
We outlined how controlling market realities served to address many of their major concerns and proposed practical concepts that could be incorporated into legislative revisions.
At the conclusion of this very productive meeting, we undertook to provide the CSA with draft legislative amendments which, if adopted by CSA jurisdictions, would correct this tax inequity and actually contribute to capital market efficiency, without compromising investor protection.
This drafting work is now under way, and we expect to release suggested amendments for member review in the very near future.
Activities of the Investment Funds Institute of Canada - IFIC
1. CONFERENCES
a) ANNUAL CONFERENCE - This year IFIC will be hosting it's 17th Annual Conference from September 9, 10 & 11, 2003. The IFIC's conference has consistently been the largest and most comprehensive investment industry conference and exhibition in Canada, drawing over 700 delegates. Decision-makers gather to tackle the latest issues concerning the implementation and impact of new regulatory and information technology issues on their businesses.
The conference features four keynote speakers and 20 breakout sessions focusing on compliance, operations, marketing and leadership issues.
IFIC is a vital link for companies and associations throughout the industry - providing access to information and services and creating a portal of opportunity for networking and the exchange of business information.
b) EDUCATIONAL SEMINARS - In response to the industry's demand for educational seminars on new industry developments, IFIC offered its second Annual Compliance Officer's Forum and a Hedge Fund forum, demonstrating IFIC's ability to respond to real issues with real answers and new perspectives.
The educational seminars provide a forum where industry experts share their knowledge with industry professionals. This helps our members to ensure awareness of cutting-edge insights and opportunities available to assist their organisations to prepare for industry changes.
2. EDUCATIONAL TRAINING: In Spring 2002, IFIC and The Canadian Institute of Financial Planning (CIFP) joined forces to create a new distance learning education institute, www.IFSE.ca, to deliver cost-effective financial services programs through its newly developed web-based education portal. The IFSE.ca educational portal has been extremely successful over the past year with many students now accessing our web-based courses.
This innovative institute truly combines the strengths of traditional classroom-based learning and distance education learning together into one web-based campus.
Many courses have already been re-engineered to take advantage of the web medium. In addition, as the industry consolidates and regulation requires more integrated proficiency, our programs adapt.
The insurance regulators across Canada have introduced a new and enhanced proficiency regime to license Life Insurance agents. The new program is referred to as the Life License Qualification Program (LLQP).
This program replaces the current Level 1 and Level 11 licensing regime. IFIC together with the Peel Institute of Applied Finance has been accredited by provincial regulators as an education provider for this new mandatory pre-licensing course.
This course is backed by years of experience in financial and insurance education. The new LLQP on the web was introduced, and has been extremely successful, in the first half of 2003.
The programs we now offer through this innovative learning program include:
-- The CFPTM Program
-- The Life License Qualification Program (LLQP)
-- The Canadian Investment Funds Course
3. NATIONAL LOBBYING ACTIVITIES: The Center for Financial Services OmbudsNetwork (CFSON) concludes its first full year of operations in November 2003.
This industry initiative, established by JFIC in collaboration with five other industry associations, is an unprecedented system for Canadian investors seeking complaint resolution with respect to a bank account, life or health insurance policy, general insurance policy, stock portfolio or mutual fund.
It makes possible for Canadian consumers to access, with one phone call, a central consumer recourse service that will put the consumer in touch with someone who will provide prompt, knowledgeable and fair assistance.
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The Canadian Mutual Fund Industry
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Net Sales*
Assets Assets For the 12 months
Fund Category June 30, 2002 June 30, 2003 ending June 30, 2003
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EQUITIES
Canadian Equity $96,686,137 $85,831,213 ($2,173,115)
Balanced 66,755,302 66,449,825 641,296
Foreign Equity 97,186,647 75,534,973 (2,893,807)
Dividend & Income 24,518,710 30,860,077 2,791,799
US Equity 28,844,581 28,111,921 186,256
Real Estate Funds** 552,406 811,022 126,568
Sub-total $314,543,783 $287,599,031 ($1,321,003)
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FIXED INCOME
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Canadian Bond $33,074,426 $35,654,806 $3,842,533
Mortgage 5,350,465 5,765,658 128,703
Foreign Bond 4,034,744 4,732,772 205,631
Sub-total $42,459,635 $46,153,236 $4,176,867
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MONEY MARKET
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Cdn. Money Market $56,059,128 $54,363,152 ($4,372,435)
Foreign Money Market 3,515,210 2,688,379 (480,559)
Sub-total $59,574,338 $57,051,531 ($4,852,994)
GRAND TOTAL $416,577,756 $390,803,798 ($1,997,130)
No. of Management Companies Registered in Canada: 73
* Includes re-investment of distributions
** Includes real property funds & real estate funds
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Courtesy MUFAP