In response to inquiries from federally regulated financial
institutions ("FRFIs"), the Office of the Superintendent
of Financial Institutions ("OSFI") has published Advisory 2013-01, Business and Powers –
Ownership Interest in Commodities. The Advisory sets out
principles relevant to determining whether a transaction that
involves an FRFI taking an ownership interest in commodities
generally appertains to the business of providing financial
services and would, therefore, be permitted by FRFI statutes. The
Advisory also lists minimum prudential standards for FRFIs engaging
in activities involving such ownership interests.
FRFI statutes generally prohibit a FRFI from dealing in goods
such as commodities. This includes a prohibition on buying and
selling commodities for a commercial purpose. However, the
prohibition would not apply where the FRFI takes an ownership
interest in commodities in connection with activities otherwise
authorized by the applicable FRFI statute. For example, in the case
of the Bank Act, a federally regulated bank may take an ownership
interest in commodities where it does so in the context of the
"business of banking" (which includes the provision of
any financial service) or business which generally appertains to
such business of banking.
In 2004, OSFI ruled on a commodity swap arrangement involving
natural gas entered into by a federally regulated foreign bank. In
the ruling, OSFI concluded that an FRFI that engages in physically
settled commodity trading is providing a "financial
service" (and, therefore, is engaged in the business of
banking), provided that the FRFI:
enters into such transactions only with customers who are
producers or end users in the context of financial risk management
services to those customers, or with other market intermediaries to
manage its exposure to the relevant commodity; and
takes title to the commodity only on a "transitory"
basis and only in connection with, or for the purpose of
facilitating, the settlement of such transaction.
In the new Advisory, OSFI acknowledges that the scope of
transactions in which an FRFI might take an ownership interest in a
commodity extends beyond transactions entered into for credit
enhancement purposes, as was the case transaction considered in the
2004 ruling. For example, OSFI noted that the transactions might
include an ownership interest in a commodity for time periods that
extend beyond "transitory" periods or transactions in the
nature of inventory financing. As a result, OSFI has set out the
following principles for determining whether a transaction in which
an FRFI takes an ownership interest in commodities generally
appertains to the business of providing a financial service:
Purpose of transaction: The ownership interest
in commodities should arise from a transaction that the FRFI has
entered into as an alternative to providing a traditional financial
service to the customer (e.g., inventory financing, guarantee,
letter of credit or risk management service).
Duration of ownership: The FRFI should only
retain ownership interests in commodities for a commercially
reasonable period of time, having regard to the nature of the
financial service that the transaction is intended to provide.
Exposure: The FRFI should not, in the normal
course of its business, be exposed to fluctuations in the price of
the commodity as a result of the transaction. The FRFI's
exposure in this regard should not be fundamentally different in
nature and degree from such exposures that arise from the provision
of comparable traditional forms of financial services. On this
basis, OSFI expects FRFIs to enter into an agreement to dispose of
their ownership interest in commodities promptly after agreeing to
acquire that ownership interest.
Return: The return that is generated by a
transaction that is an alternative to a traditional financial
service and that involves a FRFI taking an ownership interest in
commodities should not be based on fluctuations in the price of
commodities but should rather have a close correlation to the
return that would normally be generated by the comparable
traditional financial service.
These principles would not apply to ownership interests in
precious metals (which OSFI has acknowledged should be considered
in a different light given the historical special status afforded
to precious metals) or ownership interests resulting from
realization of a security interest in collateral under a secured
financing arrangement (which ownership interest, OSFI has noted, is
incidental to the provision of the financial service).
OSFI has also set out minimum prudential standards for FRFIs
engaging in activities that fall within the scope of the
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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The Canadian Office of the Superintendent of Financial Institutions ("OSFI") recently ruled that a bank cannot promote comprehensive credit insurance ("CCI") within its Canadian branches under the Insurance Business (Banks and Bank Holdings Companies) Regulations (the "Regulations").
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