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Canadian brokerage firms did not provide proper oversight when they sold
now-worthless asset-backed commercial paper, said the organization that
regulates Canada's investment industry on Friday.
In a 93-page report, the Investment Industry Regulatory Organization of
Canada (IIROC) said that none of the 21 Canadian investment dealers
surveyed who were flogging third-party asset-backed commercial paper
actually knew whether the financial instruments they were selling were
risky.
Instead, those dealers believed the products — similar to the U.S.
mortgage-backed securities for which financial institutions are now
writing off billions in losses — already had the highest possible credit
rating and did not need more scrutiny, the report said.
So, the investment houses, which sold ABCP paper to both companies and
individuals, decided not to spend the time doing their own assessment of
the value of the underlying debt securities.
"Some dealer members indicated that they relied in part upon the
carrying broker... presuming that the carrying broker had done due
diligence on the product," IIROC said.
Instead, in 2007, the $35 billion ABCP market in Canada seized up when
large corporations stopped buying the securities.
At that time, retail investors, including many retirees, complained that
they did not understand the risks in buying these securities.
Soaring market
In the past decade, Canadian brokerage firms, in a manner similar to
their American and British cousins, had become enthralled with the sale
of derivatives.
(Derivatives are complex financial products that offer a higher rate of
return but usually with a coincident higher risk.)
In 1996, the global market in these exotic financial products was worth
an estimated $180 billion US. By 2006, that market had mushroomed to $20
trillion.
The report said, in Canada, 2,542 retail clients held ABCP worth about
$372 million Cdn from IIROC member firms before the market collapse last
year. That represented just one per cent of the total non-bank ABCP
market.
In 2007, however, the American mortgage-backed market collapsed as the
underlying mortgage fell into default.
Since this September, financial companies have lost value and been taken
over as those firms with large holdings of these derivatives have been
writing down the value of these assets.
IIROC said the industry must improve its due diligence of the products
it sells and boost the transparency of these types of instrument so
purchasers know what they are buying.
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