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Overhaul of hedge fund regs proposed in Canada


Date: Monday, October 16, 2006
Author: David Clarke, InvestmentNews.com

OTTAWA - Proposals on how to improve Canadian hedge fund regulation are among the 65 recommendations on how best to modernize Canada's securities laws that the Task Force to Modernize Securities Legislation unveiled this month.

"We believe it is time to establish a regulatory framework to allow hedge funds to be sold to the public just as the regulatory framework was established for mutual funds," said task force member Colleen Moorehead.

Currently, only "sophisticated investors" and those with more than $150,000 ($132,000 U.S.) are allowed to invest directly in hedge funds.

"Unfortunately, hedge funds are loosely regulated and poorly understood by many investors," said Ms. Moorehead, who is chief executive of Sydney, Nova Scotia-based Nexient Learning Inc.

The Oct. 4 report, called "Canada Steps Up," says hedge funds should improve governance and provide transparent disclosure that would help retail clients understand hedge fund products.

Among the tools suggested are: disclosure of fees; descriptions of relationships (and any potential conflicts of interest) among the manager, adviser and prime broker; disclosure of side letters and liquidity arrangements; a fund valuation description; and an explanation of the structure.

The industry, worth some $23 billion (U.S.) has received bad publicity following the collapse last year of Montreal-based Norshield Asset Management Ltd. and Portus Alternative Asset Management Inc. of Toronto.

In the United States, this year has been marked by the recent meltdown of Amaranth Advisors LLC, a Greenwich, Conn.-based hedge fund.

Hedge funds in Canada primarily are sold in the "exempt" market, without having to issue a prospectus. This allows them to avoid many regulatory approvals and disclosure rules that apply to other issuers.

But unlike their U.S. counterparts, Canadian hedge funds have to register - with provincial regulators.

The task force, which comprises business executives, securities lawyers, industry professionals and academics, was established in June 2005 by the Toronto-based Investment Dealers Association of Canada.

Are its hedge fund ideas likely to be enacted?

Canadian regulators have "pretty much decided that hedge funds do not require their own separate regulatory regime," said David Wilson, chairman of the Ontario Securities Commission in Toronto (InvestmentNews, March 10).

"I would suggest that at best, it would be a very slow, difficult process to turn many recommendations into practice rules," said Ian Russell, president and chief executive of the Toronto-based Investment Industry Association of Canada.

"Hedge funds per se do not need special regulation," said Jim McGovern, chairman of AIMA Canada, a Toronto-based chapter

of the Alternative Investment

Management Association Ltd. of London.

"But conceptually, the increasing retailization of the market poses problems globally," said Mr. McGovern, who also is president and chief executive of Toronto-based Arrow Hedge Partners Inc. "The London office of AIMA is monitoring U.S. developments, and we probably will follow their lead here."

"'Canada Steps Up' is all about catapulting Canada's capital markets - for investors, issuers and regulators - into a position of international leadership in the 21st century," said the task force's chairman, Thomas Allen, a lawyer with Montreal-based Ogilvy Renault LLP.

"Currently, our capital markets are operating under a burden of cumbersome compliance requirements, uncoordinated, uneven enforcement and, frankly, too many investors who are not adequately informed," he added.

That, Mr. Allen said, is responsible for a "made in Canada discount" by which shares of Canadian issuers trade at a discount from the price attracted by comparable issuers in the United States.

If followed, the recommendations would transform that discount into a "made in Canada premium," he said.

The report recommends that all new securities rules undergo a cost-benefit analysis, and that "securities legislation include as one of its purposes the enhancement of the competitiveness of Canada's capital markets."

Also, company insiders should be compelled to give at least two days' advance notice of their intention to sell some of their shares in their firms, and the public-offering system for "well-known, seasoned issuers" with market capitalization of $308 million (U.S.) or more should be streamlined.

"What we've done is recommend the principles we feel are critical for the country. There are many people who are expert on how to implement them," Mr. Allen said.

"That's their job," he said. "Our job stops at the recommendations."

The report was well received by at least one regulator.

"We welcome the report of the task force and view it as a constructive document that will add to the debate on securities regulation in Canada," said Jean St-Gelais, chairman of the Canadian Securities Administrators, the Montreal-based de facto national regulator.

The task force mirrors the Crawford Panel on a Single Canadian Securities Regulator, which on June 7 issued its final report calling for the creation of a Canadian Securities Commission. The task force wants to see the establishment of a national capital markets court with jurisdiction over securities offenses and civil liability cases involving securities violations.

The idea has been greeted warmly in Ottawa.

"We fully endorse the objectives of the task force to modernize securities regulation in Canada and enhance the competitiveness of Canada's capital markets," said a Finance Department official who asked not to be identified.