Investors Scrutinizing the Regulators

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IDA will lead investigation into ABCP

OSC Support

John Greenwood

Friday, May 16, 2008

Nearly 10 months after Canada's biggest market failure ever, the Ontario Securities Commission is cautiously preparing to enter the murky waters of the $32-billion asset-backed commercial paper market. Only, instead of launching its own investigation, the country's largest securities regulator is piggybacking on the Investment Dealers Association of Canada, the self-regulatory body of the brokerage industry.

As reported by the Financial Post on Tuesday, the IDA, which comes under OSC authority, is conducting a compliance and enforcement sweep of its 214 member firms in response to complaints from retail investors.

So far, the IDA has sent out 26 letters to dealers that participated in the manufacture and distribution of non-bank-sponsored ABCP that has been frozen since August.

Specifically, the IDA wants to know what potential buyers were told about the paper and how much the brokerages understood about the product they were selling.

Jim Turner, vice-chairman of the OSC, said the commission is relying on the IDA to do the gumshoe work because the matter is more directly part of the IDA's jurisdiction.

The OSC "is very focused on non-bank ABCP," Mr. Turner said in a telephone interview. However, "it doesn't make sense for the OSC to do a duplicate investigation. You have to use your resources economically."

He said the commission is in close contact with the IDA. "We know what topics their inquiries relate to and they will be coming back to us when they complete their investigation," he said.

Firms that find themselves under the spotlight are motivated to co-operate, but if the OSC "thought for a moment there wasn't going to be full information, we would step in," he said.

The comments come as an Ontario Superior Court judge prepares to make a decision on whether to approve a restructuring -- the biggest in Canadian history -- of the frozen ABCP market. The plan has raised the ire of many noteholders because of a controversial clause that would provide blanket legal immunity for firms that made and sold the stalled notes from cases as serious as fraud. Indeed, even regulatory action would be blocked, according to lawyers who helped draft the restructuring.

The market for ABCP not sponsored by banks froze up in early August after investors started fleeing securities with exposure to subprime mortgages. In a twist unique to Canada, banks that had agreed to provide emergency liquidity to issuers of the paper declined to step up. Asset-backed securities markets around the world were sent reeling by the credit crunch, but only in this country were noteholders left on the hook for the losses.

Despite numerous allegations of wrongdoing, Canadian regulators have mostly sidestepped the matter. The Office of the Superintendent of Financial Institutions, which helped set the stage for the meltdown by encouraging banks to offer the Canadian style liquidity agreements, said it's not responsible for the ABCP market. Provincial securities regulators such as the OSC haven't been much better. In a statement last year, the OSC served notice that it would be cracking down on companies that failed to properly disclose their holdings of stalled ABCP -- which raised questions among some observers as to why the regulator was going after the buyers instead of sellers and manufacturers of the product.

Mr. Turner disagrees that the OSC has acted improperly. As soon as ABCP started going wrong last summer the market froze, so "we didn't feel we had to jump in to protect investors," he said. After the restructuring plan was launched, the OSC purposefully kept its distance because it did not want to interfere with something that might help noteholders get some of their money back.

"From our point of view, we are going to wait and see how it unfolds," he said, adding that the OSC is also wary of disrupting the much larger commercial paper market by any hasty moves. "We have to be very careful as regulators."

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