On September 22, 2016, the Canadian Securities Administrators(the CSA) published their long-awaited proposal for a “liquid alternatives” regulatory framework in Canada (the Proposal). The Proposal primarily involves amendments to the rules contained in National Instrument 81-102 Investment Funds (NI 81-102) currently applicable to retail mutual funds and non-redeemable investment funds. The new framework would create a new class of investment funds called “alternative funds” that would be able to use investment strategies that conventional mutual funds cannot use.
Currently, alternative strategies are generally only available through privately offered funds using offering memorandums that are tailored to “accredited investors” and other exempt purchasers. The Proposal has the potential to promote a significant change in the industry, as alternative funds would be able to distribute their securities on a continuous basis to retail investors under a simplified prospectus.
The Proposal also eliminates National Instrument 81-104 Commodity Pools, currently applicable to publicly offered commodity pools, and subsumes that regime into the new category of “alternative funds” in NI 81-102. These proposed amendments recognize that the commodity pool rules have generally not been used for funds that are classic “commodity pools”. Instead, they have been used for funds that employ derivative strategies not currently allowed under NI 81-102. The Proposal also modifies certain investment restrictions for non-redeemable investment funds (closed-end funds) that were considered to be interrelated with the alterative funds framework.
The Proposal is part of the CSA’s broader project over the past few years to modernize investment fund product regulation. The Proposal represents the final stage of the CSA’s modernization project and the CSA is seeking comments on a number of points by December 16, 2016.
Although the Proposal significantly increases the range of strategies that can be offered to retail investors, there remain certain strategies that would not be permitted under this new framework. For example, the proposed limit on short selling (50% of NAV) would not allow a typical 100% long/short market neutral strategy. In addition, the total leverage limit of three times NAV may restrict some managed futures strategies.
For many years, mutual fund rules in the United States have been more flexible than those in Canada. For example, mutual funds in the United States have been able to employ leverage of up to 50% of NAV, a difference which has allowed them to implement alternative strategies not currently permitted for Canadian mutual funds.
If the Proposal is approved, it would create significant opportunities for hedge fund managers. Managers that are able to adapt the strategies of their existing closed-end funds or privately offered funds to fit within the Proposal will be able to offer their strategies to retail investors through an open-end platform. This will allow alternative asset managers to market and grow their assets under management through a new distribution channel.
If you have any questions about the Proposal or about the ability of your fund’s strategy to fit within the restrictions in the Proposal, a member of the McMillan’s Investment Funds and Asset Management Group team would be pleased to assist you.
Experience | Agility | Innovation
McMillan’s Investment Funds and Asset Management team helps
alternative investment clients in key areas such as structuring,
tax, corporate, derivatives, sales and marketing, registration and
compliance. Our lawyers are front and centre in key alternative
investment industry groups giving them a unique perspective
on regulatory changes.
Margaret C. McNee
Shahen A. Mirakian
Jason A. Chertin
Michael F. Friedman