Different Paint, Same Brush
By: Michael Edwards
Based upon my personal experience, and input from numerous experienced Exempt Market Representatives, what is needed in this fast-paced, maturing Exempt Market space is a uniform risk ranking system. This would better permit investors (and their advisors) to assess the relative risk profile of each investment option to more fairly gauge the risk/return consideration of investing in the Exempt Market when building their portfolio.
Although there is no formal secondary market for most investments in the Exempt Market space, liquidity can be realized as soon as six months for at least one fixed return investment currently available to investors. In addition, many Exempt Market investments mature in one year, two years, three years, four years, and /or five year fixed time periods depending on the investment period selected; some of which have had private credit assessment ratings of AA (bear in mind the government of Canada is AAA).
There is a vast array of investment options in the traditional investment market, from Canada Savings Bonds to derivative based options, in which Canadian investors can, and do invest. There are often major differences in these various investment choices vis-à-vis risk, volatility, return, income distributions, taxation impact, and complexity/structure of the investment. Many of these investments play a significant role in a properly diversified investment portfolio. (Whether they are appropriate for any particular investor, or not, depends on the investor’s investment time horizon, objectives and risk tolerance).
If investors were to read solely the risk acknowledgement form, 45-106F4 (which ignores an investor’s prudence to read the Offering Memorandum) and the ‘warning’ prescribed by it: it is highly unlikely that many investors would make any investment in this market.
It would appear that regulators are so concerned about the liquidity risk of the Exempt Market investments that in their opinion this special warning is warranted. By comparison, many investors in Nortel, BreX, RIM/Blackberry experience significant risk. As an illustration, if an investor in RBC common shares in February 2008 (at about $50 per share) needed to liquidate in February 2009 (at about $26 per share) they would have lost half of their money on Canada’s largest blue chip bank, but no such warning would be required for the market risk public markets entail.
It is disconcerting that almost any investor can open up a brokerage account to buy stocks or bonds via an IIROC dealer, buy Mutual Funds from an MFDA member, or buy segregated funds from an insurance agent, without having to sign any such warning to make any such investment.
To be fair, there is a vast array of investments in the Exempt Market space with varying degrees of market risk, liquidity risk, inflation risk, etc., just as there are in the Public Markets. Certainly the Exempt Market, as well as the regulatory oversight, of today are light years ahead of the Limited Market Dealership regime and ‘wild-west’ that existed prior to September 2010 but to paint all Exempt Market investments with the same risk profile brush is no more fair than to say a start-up junior mining company is the same investment risk as say one of the major Canadian banks.
The Exempt market is growing in popularity with investors. Even Ontario has stated that they plan to add an Offering Memorandum exemption investment qualification in addition to their existing available exemptions. As this important component of the capital market grows and matures, it is critical that a more balanced investment risk ranking and assessment criteria be developed and applied to the Exempt Market.