online comments / South agency

The Canadian Investment Regulatory Organization (CIRO) is reviving an Investment Industry Regulatory Organization of Canada (IIROC) proposal that aims to provide clarity on the margin requirements for structured products such as principal-protected notes (PPNs).

The self-regulatory organization is seeking comment on proposed rule changes first tabled by IIROC in 2021.

In its initial proposal, IIROC sought to introduce a fixed margin rate of 70% for structured products, or to allow firms to use an alternative methodology for products with principal protection features.

Now, in response to criticism that the 70% rate was too conservative, the new SRO’s proposals would allow for a 30% rate for PPNs and a 50% rate for principal-at-risk notes (PARs).

The revised approach aims to “set margin requirements that consider the differences in risk between PPNs and PARs and the risk profile of the structured products compared to the underlying securities they track,” CIRO said in a notice outlining the proposals.

The notice added that the 70% rate proposed in 2021 “was based on a 50% margin rate plus a 20% margin rate premium to cover increased liquidity risk.”

However, in response to feedback on that proposal, the SRO carried out further analysis, including a review of the underlying securities typically used in PARs. The review found they are typically comprised of “highly liquid securities with low levels of volatility which allow the issuer to create structured products that offer a variety of features to limit upside and downside risks.”

It also noted that a 50% margin rate for PARs is “similar to other products with limited or low liquidity such as bonds in default, preferred shares and thinly-traded listed securities.” Further, CIRO stated that margin eligibility criteria included in the proposals is “designed to address additional liquidity and credit risk concerns.”

The SRO added that a lower margin rate for PPNs was appropriate “to recognize the lower risk associated with PPNs due to the zero-coupon bond component that provides the principal protection.”

CIRO said the proposals, which are out for comment until Sept. 18, will improve the consistency and transparency of margin requirements for structured products.