On August 2, 2012, the Ontario Securities Commission (OSC) released OSC Staff Notice 81-717 – Report on Staff's Continuous Disclosure Review of Portfolio Holdings by Investment Funds which reports the findings and recommendations arising from its targeted review of portfolio holdings and other related continuous disclosure filed by investment funds. The primary objective of the OSC's review of portfolio holdings was to assess how effectively the selected categorization of a fund's investment portfolio in its disclosure reflected the fund's stated investment objectives.
Between August 2011 and June 2012, the OSC reviewed 203 investment funds, including each fund's portfolio disclosure as presented in its annual and interim Management Reports of Fund Performance (MRFPs), Fund Facts and Statements of Investment Portfolio (collectively, Portfolio Disclosure). The investment funds selected for review represented 40 different fund managers, each with a head office in Ontario, based on criteria designed to reflect a fair representation of fund family size and type. The review covered fund managers of traditional mutual funds, exchange-traded funds, closed-end funds, flow-through limited partnerships and labour-sponsored investment funds.
Summary of Findings
In reviewing the Portfolio Disclosure, the OSC observed three key trends:
- the use of portfolio categories did not reflect the unique characteristics of the fund's stated investment objectives;
- inconsistencies in the categories used across different Portfolio Disclosure documents to describe the fund's investments in its portfolio; and
- the use of broad, generic categories instead of more discrete, specific categories that would provide more meaningful information on portfolio composition and the alignment of portfolio investments with the fund's stated investment objectives.
Although no investment funds were required to re-file or restate their Portfolio Disclosure as a result of the OSC's review, recommendations on ways to improve future Portfolio Disclosure were issued to 120 of the 203 investment funds reviewed.
Based on the OSC's review, the OSC has made the following recommendations:
- The Statements of Investment Portfolio disclosed in financial statements should be presented in a way that is clearly organized, meaningful and understandable to investors. Subtotals should be provided so that investors can understand their exposure immediately, without having to perform calculations.
- The Statements of Investment Portfolio should break down the portfolio into the most discrete, specific categories given the nature and unique characteristics of the fund. The use of a common portfolio breakdown among all funds within a fund family may fail to take into account the specific types or unique characteristics of such funds. Instead, classification of a fund's portfolio holdings into fund-specific categories can help demonstrate how a fund's investments better align with its stated investment objectives.
- In selecting appropriate categories, a fund manager should take into consideration the fund's stated investment objectives and strategies since these determine what the fund will primarily invest in and how it will distinguish itself from other funds. Classification by categories that appropriately reflect a fund's investment objectives is important in order to allow an investor to better understand if the fund currently holds what it set out to invest in, or whether its investments have drifted from its stated objectives. For example, where a fund states that it will invest in companies of a certain market capitalization, it is the OSC's expectation that the fund will break down its portfolio by issuer size.
- Since an MRFP is not required to be delivered or bound with a fund's financial statements, fund managers are encouraged to consider each Portfolio Disclosure document independent of any other document. The Statements of Investment Portfolio should provide the same level of insight in the financial statements as is available in the MRFP. Accordingly, fund managers are encouraged to consider whether the specific portfolio categories used in a fund's MRFP should also be mirrored in the fund's financial statements.
- Disclosure of portfolio holdings should avoid categories that are too broad or generic. In one example, the OSC found that classification of a mining and precious metals fund, which classified over 96% of its portfolio as "mining and precious metals" without further sub-classification, was considered to be insufficient. The OSC expects that the portfolio categories selected by funds will reflect the unique composition of a fund's portfolio and that fund managers will consult with their portfolio managers in determining which categories most effectively demonstrate alignment with the fund's objectives.
- Fund managers are expected to perform periodic reviews to ensure that selected portfolio categories remain applicable and relevant to the fund.
Management Report of Fund Performance
Fund managers are reminded that the information in the Summary of Investment Portfolio section in an MRFP is to be presented in an easily accessible and understandable manner and that if appropriate, more than one breakdown of the portfolio categories can be used (according to type, industry, geography, etc.). The OSC observed that many of the same trends and recommendations discussed above for financial statements also apply to MRFPs.
The OSC noted that portfolio breakdown in the Fund Facts of several funds were based on categories not used in the MRFP. In these instances, the OSC found that the categories used in the MRFP were more reflective of the fund's stated investment objectives and would have been more appropriately reproduced in the Fund Facts. The OSC reminds fund managers that in such cases, the "Investment Mix" section of a fund is permitted to include an additional categorization, consistent with that of the MRFP, if doing so would better display how the fund's portfolio remains in alignment with its investment objectives. In such cases, the Investment Mix section of a Fund Fact would be comprised of two pie charts or tables, instead of one.
In respect of funds that invest in related underlying funds, the OSC observed that the Investment Mix section of several of these mutual funds which invested in related underlying funds only disclosed the "types" of underlying funds invested in but failed to provide any meaningful "look-through" to the underlying fund's actual portfolio holdings. Where a top fund is substantially invested in a single underlying fund, fund managers are reminded that they are required to provide a look-through to the holdings of the underlying fund as appropriate. Further, where a top fund is invested in several underlying funds managed by the same investment fund manager, given the common management of the top and bottom funds, the OSC expects that such fund managers will be in a position to provide meaningful information regarding the exposure to various securities resulting from the fund-of-funds structure, including disclosure of the actual portfolio holdings of the related underlying funds.
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