Securities regulators are finally introducing the one thing their point-of-sale (POS) disclosure initiative is missing – the requirement to deliver the disclosure at the point in time when the sale is made. The Canadian Securities Administrators’ (CSA) new proposal is out for a 60-day comment period ending May 26.

When the regulators first began their overhaul of mutual fund disclosure, the CSA intended that the information be provided at the POS so investors could make more informed decisions. In the face of vocal opposition from the financial services sector to the 2009 proposals, the CSA shelved its original requirement for POS – while always maintaining that the POS delivery requirement eventually would be imposed.

Currently, Fund Facts for all funds must be posted on the vendor’s website. As of June 13, delivery must be made within two days of a sale and POS delivery will be required by March 2015.

Initially, the mutual fund industry objected to POS delivery because it could disrupt the sales process and impose excessive compliance costs. Rhonda Goldberg, director of the investment funds branch at the Ontario Securities Commission (OSC), says that the delivery requirement has been revised to make it simpler and more straightforward in order to address those concerns.

The price of simplicity, however, is universality. In short, under the CSA’s proposals, dealers must deliver the Fund Facts at the POS in every situation, regardless of fund type, sales channel or other variables.

This approach should put an end to any debate or confusion about whether upfront delivery is required for money market funds, discount brokers or depending on whether or not advice was provided – some of the scenarios for which it was argued that POS delivery was unnecessary or impractical.

There will be a limited exception for situations in which the obligation to deliver POS disclosure really might disrupt a sale that a client demands to be completed without first receiving the Fund Facts. But, Goldberg stresses, this would apply in only very limited circumstances – and she finds it difficult to come up with a scenario in which it would be necessary to complete a transaction so urgently that the dealer would be unable to provide POS disclosure.

In fact, the proposal contemplates that even in a situation in which a dealer does claim an exception, there still will have to be some form of disclosure made. The dealer must explain the purpose of the Fund Facts document and provide an overview of its content, including rescission rights.

In such a situation, dealers also must deliver the documents within two days of the purchase and document the use of the exception. And these exceptions can be claimed only on a trade-by-trade basis; dealers can’t use standing instructions to claim the exception.

It certainly appears that the CSA is determined to have POS delivery of Fund Facts in the vast majority of cases. And the regulators will not allow the “access = delivery” model that’s been adopted for some forms of disclosure; it won’t be enough to point an investor to a website.

The fact that the CSA initially backed away from upfront delivery has long bothered investor advocates. Notes the OSC’s Investor Advisory Panel in a recent letter to the OSC on risk disclosure in Fund Facts: “For disclosure to have any value, it must be delivered at or before the point of sale.” (See story at right.)

Although the financial services sector may well gripe about the added costs attached to these proposals, Goldberg points out that much of the technical infrastructure is in place. Moving to POS delivery should be fairly simple, as far as the technical aspect is concerned. Firms will probably have to adjust certain procedures and ensure their employees are trained to follow the new delivery timing, but, she suggests, any incremental technology cost should be minimal.

That’s not to say the sector won’t resist the proposed measure. However, the fact that the CSA is putting the proposal out for only a 60-day comment period indicates the regulators are fairly comfortable with their approach, and don’t anticipate too much change. Goldberg hopes that – absent any material changes – the rule will be final within its upcoming fiscal year (which ends March 2015). There is likely to be a transition period.

In the meantime, the CSA will address one of the mutual fund industry’s other major complaints with the Fund Facts initiative – that the document applies only to mutual funds and not to other, similar products. Goldberg reports that the CSA is developing a summary disclosure document for exchange-traded funds (ETFs) that is similar to Fund Facts, and expects to propose a rule this autumn that would require delivery of this similar document within two days of purchase.

The OSC has also put out a request for a proposal that seeks a company to carry out investor testing with Fund Facts documents for ETFs later this year (and expects to report on the results of that testing by mid-July). It’s premature to declare this battle over, but it seems that the CSA is finally ready to see the project fulfil its purpose.

Next: CSA proposes changing risk metrics in Fund Facts
CSA proposes changing risk metrics in Fund Facts

A proposal from the Canadian Securities Administrators (CSA) to change the way that risk is described in the Fund Facts documents has sparked extensive criticism from both the financial services sector and investor advocates. Late last year, the CSA published for comment a proposal to introduce a standardized risk rating methodology for Fund Facts.

The move came in response to complaints from investor advocates that the lack of a standardized methodology could lead to inconsistent risk ratings. However, the CSA’s proposal now is receiving its own share of criticism, from both the fund industry and those same investor advocates.

On the industry side, some comments warn that the proposed changes would require a great deal of work that would produce little real benefit for investors.

Much of the industry is using a methodology to calculate risk ratings that was developed by the Investment Funds Institute of Canada. But the CSA proposal contemplates introducing its own standardized methodology, based on standard deviation as a measure of risk and calculated over a 10-year period. The CSA proposal also expands the existing scale to six possible bands of risk from five.

But, the industry warns, a huge number of funds could be re-rated as a result. This would require financial advisors to review suitability with all of their clients that hold a fund whose risk rating is changed to see if the fund still belongs in that client’s portfolio.

All this without any actual change to the funds – just a new risk label.

“We cannot overstate the disastrous consequences that would ensue,” warns the Invesco Canada Ltd. comment. “Not only would investors incur unnecessary costs associated with changes to their portfolios; but, worse, the new rating system could force investors to invest heavier allocations in fixed-income than they otherwise would or should, hence reducing their long-term return potential. This could fundamentally alter their retirement prospects – they could be taking on more risk, in the form of outliving their retirement savings.”

One of the biggest issues for investor advocates is the proposed use of standard deviation as a measure of risk in the CSA methodology. A number of critics argue that this is not appropriate because standard deviation really just measures the historical variability of returns; it doesn’t signal the prospect of suffering losses – which is how many investors think of risk.

“Risk, like beauty, lies in the eyes of the beholder when it comes to protecting one’s investments,” says the comment from the Ontario Securities Commission‘s Investor Advisory Panel (IAP). “For most retail investors, risk means loss of capital and failure to achieve one’s financial goals. Risk is much more than the symmetric distribution of historical returns around a historical mean return.”

Instead of standard deviation, the IAP recommends using a chart or graph that shows worst-case and best-case historical return scenarios to illustrate risk.

The industry is less critical of the proposed use of standard deviation and seems willing to accept the use of that metric, if only because it is a simple, widely used and easily calculated metric, in recognition that no single risk metric is perfect or universally appropriate.

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