Last year, FAIR Canada identified leverage as a retail investor protection issue and wrote an open letter to the Canadian Securities Regulators (“CSA”), calling for better investor protection from unsuitable advice with respect to borrowing to invest. Leverage is a problem that needs to be addressed urgently.
The Investment Industry Regulatory Organization of Canada (“IIROC”) has found an increasing number of cases where inappropriate leveraging strategies have been recommended to consumers and has become aware of situations where consumers were not provided with sufficient information to properly understand the risks associated with such strategies or the details of the debt servicing obligations that the consumers had taken on as a consequence of using leverage. There have been two recent class actions which also involve the recommending of leverage to consumers.
In July, IIROC issued draft guidance regarding borrowing for Investment purposes (the “Proposed Leverage Guidelines”). Last week, FAIR Canada made a submission supporting the Proposed Leverage Guidelines but noting that regulators must do more.
FAIR Canada is of the view that there is simply no reasonable basis for an advisor to conclude that a highly leveraged sale of investment products is suitable for any but the most sophisticated investor with a high tolerance for risk. In these times of low interest rates and potential volatility, the use of leverage, particularly for the purchase of high-fee products, is simply a meritless strategy that will result in significant financial losses to the majority of consumers. Canadian securities regulators (including provincial commissions and self-regulatory organizations) need to implement a harmonized approach to protect investors from inappropriate use of leverage.
FAIR Canada supports the Proposed Leverage Guidelines as they set out existing obligations in IIROC’s rules and other securities regulations. They also provide needed guidance to dealer members and registered representatives to properly supervise client accounts that employ a leverage strategy, both “on-book” (margin loans advanced by the dealer member) and “off-book” (loans advance by third parties) borrowing and provide best practices. However, in the absence of further action by the CSA, IIROC and the MFDA, the Proposed Leverage Guidelines will not be sufficient to prevent more consumers from being put into high risk leveraged situations to which they are not suited.
We have outlined in our earlier letters (to the MFDA, IIROC and to the CSA) some of the underlying motivating factors that often lead to unsuitable recommendations which arise from the misalignment of the interests of financial intermediaries and the consumer, particularly the incentives in place that promote leveraged investing recommendations.
FAIR Canada continues to call for essential reforms to ensure that investors are better protected from unsuitable borrowing to invest recommendations. Our recommendations include:
FAIR Canada has made a number of additional recommendations to IIROC and to the CSA, to help address this growing problem, which include: