Canada: New Risk Classification Methodology For Mutual Funds And Etfs — September 1, 2017 With Phased-In Disclosure

Under new rules finalized by the Canadian Securities Administrators (CSA) on December 8, 2016, Canadian fund managers must adopt by September 1, 2017, a new prescribed risk classification methodology to determine the investment risk levels of the publicly offered mutual funds and exchange-traded funds (ETFs) they manage. Disclosure of the applicable investment risk level must be included in a fund's next prospectus filing made after September 1, 2017, although the disclosure can be made, and the methodology can be adopted, earlier.

Final amendments to National Instrument 81-102 Investment Funds, National Instrument 81-101 Mutual Fund Prospectus Disclosure and National Instrument 41-101 General Prospectus Requirements come into force on March 8, 2017, with a phased-in transition period. The rule amendments can be found here and here.1

The new risk classification methodology requires fund managers to measure the investment risk of their funds using standard deviation and to disclose that risk in Fund Facts and ETF Facts, as applicable, using a prescribed five-category scale. This concept is not new for managers of mutual funds, given that most fund managers use the guidelines for fund volatility risk classification developed by The Investment Funds Institute of Canada (IFIC) and have long disclosed risk in their prospectus documents using the same five-category scale as is now mandated by the CSA. The essential differences between the new mandatory methodology and disclosure and the IFIC guidelines are that fund managers will have far less discretion to use their business judgement when deciding in which risk category to slot their funds, and the more prescriptive nature of the CSA methodology for calculating standard deviation, particularly for funds with less than 10 years of performance history.

Under the final rule amendments:

  • Fund managers must use standard deviation, calculated according to the prescribed rules, to measure the investment risk of their funds. Standard deviation must be calculated for the most recent 10 years of a fund using the monthly total returns, assuming reinvestment of income and capital gains distributions, of the series of the fund that first became available to the public. If another series of the fund has features distinct from that series, for example, a hedged series then the fund manager must calculate and disclose the investment risk rating of that distinctive series separately.
  • The investment risk level of a fund will then be determined based on the prescribed five-category scale, which depends on the applicable standard deviation range for that fund.
  • Each fund's risk level must be determined at least annually, or when there is a change in circumstances that would trigger a review of the fund's risk level. Examples of such circumstances include a fund merger, a reorganization or a change to a fund's investment objectives.

Transition to the new rules can be made over time, so long as the new methodology is adopted by September 1, 2017, which requires fund managers to determine the investment risk of each fund using the new requirements "at least annually". The CSA expect that the determination of investment risk using the new methodology will be done in conjunction with the next prospectus renewal or amendment filing for each fund after September 1, 2017, which will allow for an efficient transition to the new regime. Fund managers wishing to use the new methodology and disclosure for their funds before September 1, 2017 may do so — that is, for the spring/summer 2017 prospectus renewals.

Highlights of the Investment Risk Methodology

The CSA modified the final rules from what was proposed in December 2015 in response to comments, including those of Borden Ladner Gervais LLP. Some highlights of the new rules include the following.

  • "Clone" funds with less than 10 years of performance history can use the performance history of its underlying fund for the remainder of the 10-year period.
  • Funds with less than 10 years of performance history may use the performance history of another fund to complete the remainder of the 10-year period if that fund has the same manager, portfolio manager, investment objectives and investment strategies and is subject to NI 81-102.
  • If the performance history of another fund is being used as a proxy, a description of that proxy fund must be disclosed in the simplified prospectus of the fund using the proxy fund.
  • Funds with less than 10 years of performance history (without a proxy fund) must use a reference index to complete the remainder of the 10-year period. Such reference index can be a composite of several permitted indices. If a reference index is used for the performance history of a fund, the reasonableness of such use needs to be monitored on an annual basis.
  • Fund managers may, using their judgement, increase a fund's investment risk level if they think it is reasonable to do so, but may not lower a fund's investment risk level.
  • The new methodology is based on historical volatility and does not predict future risk attributes.

Compliance Implications

Fund managers will need to ensure that their compliance policies and procedures reflect the new methodology and requirements. Some of the key compliance considerations include:

  • The investment risk methodology adopted by the fund manager should be in writing, using the fund manager's own words (as opposed to simply cross-referring to Appendix F of NI 81-102), so long as that methodology is consistent with the prescribed rules. Any special rules applicable to a fund should be noted (for example, if a fund has a series where the investment risk is materially different from the oldest series which is used to calculate risk). It should be clearly stated that this investment risk methodology must be provided to investors who ask for it, at no cost.
  • Written records of how the investment risk level of a fund is determined — on an annual basis — should be recorded and maintained, along with an explanation as to the persons responsible for carrying out this assessment, as well as testing its validity on a periodic basis. The timing of this annual assessment should be tied to the annual renewal of the fund's prospectus documents.
  • When a reference index or another fund is used to complete the 10-year performance of a fund, this should be clearly indicated, along with a brief explanation as to why the index or fund is appropriate to determine the fund's investment risk.
  • If a fund's investment risk level is increased, the fund manager must maintain records of why it was reasonable to do so in those circumstances.
  • Fund Facts and ETF Facts documents should be updated at the next renewal (after September 1, 2017) to reflect the new disclosure requirements (see NI 81-101 and NI 41-101 amendments for mutual funds and ETFs, respectively).

Footnote

1. We described the CSA's work to develop the risk methodology for investment funds in our Investment Management Bulletins released in January 2016 and January 2014. Please see CSA Proposals Will Require Mutual Funds and ETFs to Use Standard Deviation to Disclose Risk (January 2016) and Canadian Regulators Propose Standard Deviation as the Mandatory Risk Measurement for Canadian Investment Funds (January 2014). Please also see our Investment Management Bulletin on the final rules mandating ETF Facts ETF Facts Now Required for Canadian Exchange-Traded Funds — Two-Year Phased-In Implementation (December 2016).

About BLG

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.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions