Mutual Reliance Review System for Exemptive Relief Applications -- certain mutual funds granted exemptions from National Instrument 81-102 Mutual Funds to engage in short selling of securities up to 10% of net assets, subject to certain conditions and requirements- future oriented relief granted as well- revocation of earlier decision granting similar relief for some of the funds in some of the jurisdictions.
National Instrument 81-102 Mutual Funds, subsections 2.6(a) and (c), 6.1(1) and section 19.1.
Securities Act (Ontario), s. 144.
June 4, 2007
IN THE MATTER OF
THE SECURITIES LEGISLATION OF
ONTARIO, BRITISH COLUMBIA, ALBERTA,
SASKATCHEWAN, MANITOBA, QUÉBEC,
NEW BRUNSWICK, NOVA SCOTIA,
PRINCE EDWARD ISLAND AND
NEWFOUNDLAND AND LABRADOR
IN THE MATTER OF
THE MUTUAL RELIANCE REVIEW SYSTEM
FOR EXEMPTIVE RELIEF APPLICATIONS
IN THE MATTER OF
FRONTIERALT FUNDS MANAGEMENT LIMITED
IN THE MATTER OF
FRONTIERALT ALL TERRAIN CANADA FUND,
FRONTIERALT ALL TERRAIN WORLD FUND,
FRONTIERALT ALL TERRAIN BOND FUND
(collectively, the Existing Funds)
FRONTIERALT RESOURCE CAPITAL CLASS FUND
(the New Fund)
MRRS DECISION DOCUMENT
The local securities regulatory authority or regulator (the Decision Maker) in each of the Jurisdictions has received an application from the Filer, on behalf of the Existing Funds, the New Fund and each mutual fund hereinafter created and managed by the Filer or any of the affiliates of the Filer (the Future Funds) (the Future Funds together with the Existing Funds and the New Fund, the Funds and individually, a Fund), for a decision under the securities legislation of the Jurisdictions (the Legislation) revoking the Original Decision (as defined below) and exempting the Funds from the following requirements of the Legislation, subject to certain terms and conditions:
(a) the requirement contained in subsection 2.6(a) of National Instrument 81-102 Mutual Funds (NI 81-102) prohibiting a mutual fund from providing a security interest over a mutual fund's assets;
(b) the requirement contained in subsection 2.6(c) of NI 81-102 prohibiting a mutual fund from selling securities short; and
(c) the requirement contained in subsection 6.1(1) of NI 81-102 prohibiting a mutual fund from depositing any part of a mutual fund's assets with an entity other than the mutual fund's custodian.
(the revocation of the Original Decision and paragraphs (a), (b) and (c) together shall be referred to as the Requested Relief).
Under the Mutual Reliance Review System for Exemptive Relief Applications:
(a) the Ontario Securities Commission is the principal regulator for this application,
(b) this MRRS decision document evidences the decision of each Decision Maker.
Defined terms contained in National Instrument 14-101 Definitions have the same meaning in this decision unless they are defined in this decision.
This decision is based on the following facts represented by the Filer:
1. Each Fund 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 Ontario. Each Fund is currently or will be a reporting issuer in all of the Jurisdictions.
2. The Filer is a corporation existing under the laws of Canada. The Filer is the trustee, manager and promoter of the Existing Funds and will be the manager and promoter of the New Fund. The Filer's registered office is in Ontario.
3. Each Fund will distribute securities under a simplified prospectus and an annual information form and otherwise be subject to NI 81-102.
4. Except for specific exemptions or approvals granted by the relevant Decision Makers, the investment practices of the Funds will comply in all respects with the requirements of Part 2 of NI 81-102.
5. The Filer proposes that a Fund be authorized to engage in a limited, prudent and disciplined amount of short selling. The Filer is of the view that a Fund could benefit from the implementation and execution of a controlled and limited short selling strategy. This strategy would complement a Fund's primary discipline of buying securities with the expectation that they will appreciate in market value.
6. Short sales will be made consistent with a Fund's investment objectives.
7. In order to effect a short sale, a Fund will borrow securities from either its custodian or a dealer (in either case, the Borrowing Agent), which Borrowing Agent may be acting either as principal for its own account or as agent for other lenders of securities.
8. A Fund will implement the following 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 in that:
(i) the security will be listed and posted for trading on a stock exchange; and
(1) either the issuer of the security will have a market capitalization of not less than Cdn$300 million of the security sold short or the equivalent thereof, at the time the short sale is effected; or
(2) the portfolio advisor will have prearranged to borrow for the purposes of such short sale;
(ii) the securities sold short are bonds, debentures or other evidences of indebtedness of or guaranteed by:
(a) the Government of Canada or any province or territory of Canada; or
(b) the Government of the United States of America;
(e) at the time securities of a particular issuer are sold short, the aggregate market value of all securities of that issuer sold short by the Fund will not exceed 2% of the net assets of the Fund and 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 115% (or such lesser percentage as the Filer 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 simplified prospectus of the short selling strategies and the details of this exemptive relief prior to implementing the short selling strategy.
9. Under a MRRS decision document dated February 17, 2006 (the Original Decision), the Existing Funds were, subject to certain terms and conditions, granted substantially the same relief from the securities regulatory authorities of Ontario, British Columbia, Alberta and Québec as is now sought by paragraphs (a), (b) and (c) of the Requested Relief.
10. Since February 2006, the Filer has filed a simplified prospectus and an annual information form in relation to the Existing Funds with the Decision Makers. Further, it is anticipated that there may be additional mutual funds managed by the Filer or any of the affiliates of the Filer that may require exemptive relief similar to that granted under the Original Decision, including the New Fund.
Each of the Decision Makers is satisfied that the test contained in the Legislation that provides the Decision Maker with the jurisdiction to make the decision has been met.
The decision of the Decision Makers under the Legislation is that the Requested Relief is granted provided that:
1. the aggregate market value of all securities sold short by a Fund will not exceed 10% of the net assets of the Fund on a daily marked-to-market basis;
2. a Fund will hold "cash cover" (as defined in NI 81-102) in an amount, including Fund 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 a Fund will be used by the Fund to purchase long positions in securities other than cash cover;
4. a 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 a 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 a 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 a Fund shall:
(i) be a member of a stock exchange and, as a result, be subject to a regulatory audit; and
(ii) have a net worth in excess of the equivalent of Cdn$50 million determined from its most recent audited financial statements that have been made public;
9. except where the Borrowing Agent is a Fund's custodian, when the Fund deposits Fund assets with the Borrowing Agent as security in connection with a short sale transaction, the amount of Fund assets deposited with the Borrowing Agent will 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 net assets of the Fund, taken at market value as at the time of the deposit;
10. the security interest provided by a Fund over any of its assets that is required to enable the Fund to effect short sale transactions will be made in accordance with industry practice for that type of transaction and relate only to obligations arising under such short sale transactions;
11. prior to conducting any short sales, a Fund will disclose in its simplified prospectus or an amendment thereto 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 the exemptive relief;
12. prior to conducting any short sales, a Fund will disclose in its annual information form or an amendment thereto the following information:
(i) 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;
(ii) who is responsible for setting and reviewing the policies and procedures referred to in the preceding paragraph, how often the policies and procedures are reviewed, and the extent and nature of the involvement of the board of directors of the Filer or of the mutual fund corporation or trustee, as applicable, in the risk management process;
(iii) the trading limits or other controls on short selling and who is responsible for authorizing the trading and placing limits or other controls on the trading;
(iv) whether there are individuals or groups that monitor the risks independent of those who trade; and
(v) whether risk measurement procedures or simulations are used to test the portfolio under stress conditions;
13. prior to conducting any short sales, a Fund will provide 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 will terminate upon the coming into force of any legislation or rule of the Decision Makers dealing with matters referred to in subsections 2.6(a), 2.6(c) and 6.1(1) of NI 81-102.