Market participants in Québec’s derivative industry are bracing for changes to the regulatory framework governing their activities. 2011 saw the introduction of two pieces of legislation that will have an impact on the industry.
On May 4, 2011, An Act to amend various legislative provisions mainly concerning the financial sector (“Bill 7”) was introduced. In addition to introducing several housekeeping amendments to the Derivatives Act (Québec) (the “Act”), Bill 7 also sets out several new obligations applicable to qualified persons. Bill 7 received assent on November 30, 2011, but certain provisions contained therein have not yet come into force as of the date of this publication. In addition, on December 16, 2011, the Autorité des marchés financiers (the “AMF”) published for comment a draft of a regulation (the “Regulation”) to amend the Derivatives Regulation under the Act. The principal purpose of the Regulation is to set out the conditions for qualification by a person who creates or markets a derivative and for authorization to market the derivative. It also sets out certain obligations of qualified persons and derivatives dealers. The comment period on the Regulation ended on February 1, 2012. BLG has submitted a comment letter to the AMF outlining several issues raised by the Regulation. The amendments set out in Bill 7 and in the Regulation are collectively referred to herein as the “Amendments.” The purpose of this Alert is to highlight certain key provisions of the Amendments.
APPLICATION FOR QUALIFICATION AND AUTHORIZATION TO MARKET A DERIVATIVE
Under the Act, a person, other than a recognized regulated entity, who creates or markets a derivate must be qualified by the AMF before the derivative is offered to the public. The derivative product itself must also be authorized by the AMF before it can be marketed.
Pursuant to the Amendments, in order to apply for qualification, an applicant must provide to the AMF a completed application for qualification in the form set out in Schedule B to the Regulation. The application must also be accompanied by a Form 33-109F4 of Regulation 33-109 respecting Registration Information (“Regulation 33-109”) duly completed by each permitted individual of the applicant (as defined in Regulation 33-109) except for a permitted individual who has already submitted a Form 33-109F4 to the AMF prior to the application for qualification. In addition to the above-mentioned forms, an applicant must demonstrate that it meets certain obligations including:
- if the applicant does not participate in a contingency fund that protects property entrusted to it by the counterparties to a deriva tive that it is marketing, it must meet certain excess working ca pital requirements;
- it maintains the books and records required to ensure efficient operations and to demonstrate compliance with its obligations under the Act; and
- it has developed an emergency and contingency plan to ensure business continuity .
Pursuant to the Amendments, a person must first obtain authorization from the AMF to market a derivative by providing to the AMF an application for authorization to market a derivative in the form set out in Schedule C to the Regulation. The AMF then has 21 days from the date of the application for authorization to object to the marketing of the derivative.
OBLIGATIONS OF QUALIFIED PERSONS
The Amendments set out a series of obligations that a qualified person must comply with in the course of its business activities in respect of derivatives, notably:
A qualified person must notify the AMF:
- without delay, if its excess working capital or, in the case of an IIROC member, its risk adjusted capital, is less than zero;
- without delay, if it experiences a failure, malfunction or material delay of its systems or equipment;
- of a change that could affect the trading of the derivative or the transactions under way in respect of such a derivative at least 10 days prior to the change (notification must also be provided to the counterparties to a derivative (including those waiting to trade such a derivative)); and
- of a change in the information provided in its application for qualification or authorization to market a derivative, in the case of a material change, within 7 days of the change or, in the case of a change other than a material change, within 30 days after the end of the quarter in which the change occurred.
Within 90 days after the end of its fiscal year, a qualified person must send the following information to the AMF:
- its audited financial statements;
- the number of contracts entered into in Québec and their notional value for all derivatives offered to the public during the latest fiscal year; and
- the percentage of contracts that were profitable for counterparties for each of the la test four quarters.
A qualified person must make available to counterparties to a derivative that it is marketing, including counterparties waiting to make a trade in such a derivative, information about its legal status and the regulatory regime applicable to it as set out in the application for qualification prepared in accordance with Schedule B of the Regulation.
A qualified person must put in place appropriate policies and procedures and good governance practices, particularly in respect to the independence of directors and the auditing of financial statements. The requirement regarding the independence of directors is not further discussed in the Amendments.
- Offering derivative products through a dealer
A qualified person that is not registered with the AMF as a derivatives dealer must offer derivatives to the public through a registered derivatives dealer.
RISK DISCLOSURE TO CLIENTS
Pursuant to the Amendments, specific information prescribed in Schedule B (Application for qualification) and Schedule C (Application for authorization) to the Regulation must be provided by a derivatives dealer to its clients before it makes the first trade on behalf of a client in a derivative created and marketed by a qualified person.