Canadian Structured Finance Law : Canadian Structured Finance Law: Securitization/OTC Derivatives Blog by Stikeman Elliot Lawyers & Attorneys

Alix d’Anglejan-Chatillon

On December 16, 2011, Quebec’s financial services regulator, the Autorité des marchés financiers (AMF), tabled proposed amendments to the Derivatives Regulation (Quebec) (QDA) which are intended to implement the provisions of the Derivatives Act (Quebec) governing “qualified persons” (the Proposals) In addition to the derivatives dealer and adviser registration requirements applicable to dealers and advisers in derivatives (the “derivatives registration requirement”), the QDA requires that a person, other than a regulated entity¹ who “creates or markets a derivative” must be qualified by the AMF, as prescribed by regulation, before the derivative is offered to the public (the "qualification requirement"). Under an amendment not yet in force, the qualified person must also have the marketing of the derivative authorized by the AMF, as prescribed by regulation (the “authorization requirement”). 

As outlined below, the Proposals would, among other changes, significantly increase the disclosure, compliance and reporting requirements applicable to Canadian and foreign intermediaries offering listed derivatives products in the Quebec market to any person, or OTC derivatives to persons other than “accredited counterparties”, unless a discretionary exemption can be obtained. The Proposals are published for a period of 30 days after which the AMF may submit the Proposals to the Minister of Finance for approval, with or without amendments. The AMF is accepting written comments on the Proposals until February 1, 2012.

Market participants conducting derivatives-related activities in the Quebec market should carefully review their product lines, and seek detailed advice as to whether the new qualification/authorization requirements will impact this business and what actions should be taken in contemplation of these new rules.

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Margaret Grottenthaler -
 

The cash collateral working group drafting subcommittee of the Ontario Personal Property Security Law Sub-Committee of the Ontario Bar Association’s Business Law Section has prepared a draft proposal to amend Ontario personal property security law to deal more effectively with cash collateral. Over the past year the working group circulated a number of draft proposals and this final proposal reflects input from many committee members and others. The proposal is to be considered by the PPSL Committee later this month and if approved (which hopefully it will be) will serve as the basis for a formal submission of the Business Law Section of the OBA to the Ontario Ministry of Consumer Services (with a copy to the Ministry of Finance) early in this year. If the proposal is acceptable to the government, it is hoped that it could be put before the legislature shortly thereafter. Comments on the draft proposal are welcome.  For more information, see the background paper on the proposals.

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Sterling Dietze -

The Quebec National Assembly passed, on November 30, 2011, an Act to amend various legislative provisions mainly concerning the financial sector. As part of that Act, amendments were made to the Derivatives Act (Quebec) in respect of the use of set-off related to cash posted as credit support. We discussed the proposed amendments in a prior post. The provisions are now in force.

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The Canadian Securities Administrators released a consultation paper last week addressing the regulation of OTC derivatives markets. Specifically, the paper makes various recommendations regarding surveillance and monitoring, market conduct and enforcement that are intended to strengthen financial markets and manage specific risks related to OTC derivatives. The paper is one of a series of eight papers building on the high-level proposals found in Consultation Paper 91-401 released in November 2010.

Surveillance and Monitoring

Citing the limited market information currently available to regulators relating to the trading of OTC derivatives, the paper recommends that further study and research be undertaken on the development of a comprehensive surveillance system for monitoring OTC derivatives markets to supplement current market surveillance. According to the report, a comprehensive approach to surveillance and monitoring would include enabling regulator access to trading data and monitoring participant positions.

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Michael Rumball  -

Last week, I highlighted regulatory overkill in the U.S. where, together, Congress and the SEC have proposed scorched earth solutions to the issues raised by the financial crisis. Whereas the CSA commendably declined to imitate most of the more extreme U.S. initiatives, they seem to have gone off the rails somewhat in their approach to the exempt market. As was the case south of the border, the Canadian regulators have, in approaching a problem which could have been adequately addressed by a limited and targeted approach, instead mounted a multi-pronged attack. First, they proposed the removal of the existing prospectus exemptions for distributions of securitized products and the introduction of a new securitized product exemption which, although similar to the accredited investor exemption, is intended to exclude retail investors. Second, they would require that issuers deliver an information memorandum to investors which discloses “sufficient information about the securitized product and securitized product transaction to enable a prospectus purchaser to make an informed investment decision”. Finally, they proposed a certification requirement as to no misrepresentation for issuers and underwriters.

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Sterling H. Dietze -

It is currently a challenge in Canada for Canadian entities in the derivatives, securities lending and repurchase space to offer a first priority security interest on cash to their counterparties. The Quebec government recently introduced an amendment to the Derivatives Act (Quebec) (the QDA) that, if passed as tabled, will restore confidence in the use of absolute transfer of cash and the related use of contractual set-off or compensation when dealing with cash as credit support for these types of transactions from Quebec counterparties. The amendments also specifically address cash collateral provided to a derivatives clearing agency by its members. We give some background to this issue and then outline the application of the proposed rule.

Background

Cash as credit support for obligations of counterparties to derivatives, securities lending and repurchase transactions has become more and more prevalent over the past numbers of years. ISDA has reported that 80% of collateral for derivatives contracts is in the form of cash. The use of cash collateral will increase in importance as more and more derivatives transactions are cleared by central counterparties.

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 Michael Rumball -

Emerging from the vast literature generated by the recent financial crisis are two competing narratives attempting to identify the root cause of the crisis. One, emanating from the more conservative side of the political spectrum, emphasizes the role played by governmental policies encouraging and subsidizing the expansion of home ownership among middle and low income households. The other side focuses on the extent to which a free market philosophy came to dominate governmental thinking and led to deregulation and hence catastrophe. Although it will be crucial, from a policy perspective, to eventually ascertain just exactly what were the main drivers of the crisis, due to entrenched partisan and dogmatic differences, it may not be possible to do so until we have achieved some historical perspective. However, what does appear to be common to both narratives is that governmental actions, or, perhaps more precisely, their unintended consequences, were in some way heavily implicated.

Apart from anything else, what the foregoing might suggest is that governments should be cautious about its interventions in the market place. Rather than grand, sweeping reforms, the long-term effects of which governments have notoriously unable to accurately anticipate, what may be  called for are more surgical, incremental reforms, which, if necessary, can be revisited and adjusted from time to time as their effects become manifest.

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P. Jason Kroft and Javier Gonzalez -

On November 9, 2011, a group of Democrat and Republican U.S. senators introduced legislation to create a regulatory framework for an American covered bond market. Specifically, the United States Covered Bond Act sets out the legal context for such a market and clarifies investors’ rights in the event of an issuer’s default.

By way of background, covered bonds are debt products issued by financial institutions and backed by a cover pool of assets, such as high-quality mortgages and public sector loans. Although they operate similarly to asset-backed securities, there is an important difference: if the issuer defaults the investor has preferential claim to the loans. Covered bonds are therefore seen as a safe source of funding for financial institutions.

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On November 10, 2011, the Quebec Minister for Finance introduced an amendment to Bill 7 presently before the Committee on Public Finance of the National Assembly which contemplates an amendment to the Derivatives Act (Quebec). The intent of the proposed rule is to give more clarity and certainty to the effectiveness of a contractual right of set-off in respect of cash given as credit support in connection with agreements including derivatives, securities lending and repurchase agreements (as well as under related master agreements) and dealings between a derivatives clear agency and its members. A more in-depth note will follow next week.

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