Laurentian Bank of Canada has agreed to pay $150,000 in penalties as part of a regulatory crackdown into sales of a controversial investment product to unsophisticated retail investors.
The bank reached a settlement with the Investment Industry Regulatory Organization of Canada over employees’ sales of leveraged ETFs – a specialized form of exchange traded funds that have faced criticisms as being inappropriate for many ordinary investors.
In the settlement agreement announced Thursday, the bank acknowledged its supervisors did not have adequate training to understand the features and risks of leveraged ETFs so they could monitor trading in retail client accounts. The bank agreed to pay a fine of $140,000 and costs of $10,000.
The Laurentian case is the second completed by IIROC this year involving allegations of unsuitable sales of leveraged ETFs to retail investors, and signals a crackdown by IIROC on those using the complex investment product inappropriately.
The other case, involving a former Wellington West Capital Inc. broker, was completed in March.
IIROC also has other investigations under way involving leveraged ETFs, said senior vice-president of enforcement Paul Riccardi.
IIROC senior vice-president Rosemary Chan said the regulator has enhanced its monitoring of the sales of the investments over the past year, including adopting a new approach to test that firms are monitoring the suitability of complex products when they are sold.
“Leveraged and inverse ETFs are examples of the kind of complex product innovation that continue to pose challenges for investors and the industry, which is why we continue to take steps to ensure dealer firms meet their obligations related to product due diligence and suitability in their sales practices,” Ms. Chan said in an e-mailed statement.
While many ordinary ETFs are considered straightforward investment products, leveraged ETFs have drawn scrutiny because they have proven risky and poorly understood by investors.
They were created to allow investors to make a bet on investments and earn double the performance of an underlying index or commodity that they track. But the products are complex to use and only work over extremely short time horizons – typically a single day.
In 2009, Toronto-based investor rights group Fair Canadian Foundation for the Advancement of Investor Rights (FAIR) published a damning report on the track record of leveraged ETFs. The report showed they had lost investors huge sums because they held the ETFs for too long.
Following FAIR’s report, IIROC issued a notice to the brokerage firms it regulates in June, 2009, warning dealers only to sell leveraged ETFs to investors suited to the sophisticated products. IIROC also warned investors not to expect them to work if held for longer than a day.
Some brokerage firms dropped leveraged ETFs entirely for all their clients after the problems came to light, FAIR executive director Ermanno Pascutto said.
Mr. Pascutto said he has been happy to see IIROC cracking down on misuse of a dangerous product, but said FAIR still wants to see more restrictions placed on how leveraged ETFs are marketed to investors.
“I think regulators have not stepped in to regulate the advertising, and that’s very important. And you can see from this case it continues to go on,” he said in an interview.
In connection with the Laurentian case, IIROC has also launched a hearing against former Laurentian broker Benoît Beaulne, who is accused of inappropriately selling leveraged ETFs to a retired couple between October, 2008, and April, 2010. At one point, IIROC alleges more than 98 per cent of the couple’s portfolio was in leveraged ETFs.
The case has not been concluded and the allegations have not been proven.