The Canadian Securities Administrators (CSA) on Thursday outlined its views on new forms of “bail-in debt” that may be issued when the federal regime for domestic systemically important banks (D-SIBs), which includes Canada’s six large banks, and Desjardins Group, takes effect on Sept. 23.
A pair of notices spell out the CSA’s views for investment dealers that are going to sell these novel bail-in debt instruments and the fund managers that buy them.
Bail-in debt will generally include unsubordinated, unsecured debt that can be converted into common shares if a bank runs into financial trouble. These instruments, which will be tradeable and transferable, must carry an original term to maturity of more than 400 days. Covered bonds, derivatives, and certain structured notes, are explicitly not considered bail-in debt.
In the first notice, the CSA states that it sees “an important distinction” between bail-in debt and traditional forms of unsubordinated debt “in terms of investment risk”, including the inherent risk that bail-in debt could be converted into common shares.
For investment funds that decide to invest in bail-in debt, fund managers “must fully understand the key features and risks” of these instruments, the CSA states, and factor in risks to their funds, such as the risk that federal authorities my convert the debt into common shares.
The second notice outlines requirements for investment funds that may hold bail-in debt. It clarifies that these instruments will only be eligible to be held by money market funds if the bail-in debt continues to meet the eligibility requirements for money market funds.
“CSA staff’s view is that money market funds are permitted to invest in bail-in debt so long as the bail-in debt continues to meet the prescribed eligibility requirements applicable to money market funds,” the CSA states in the second notice. “For example, investment fund managers must continually monitor their investments in bail-in debt to ensure that such investments are in compliance with the designated rating requirements … and are generally readily convertible to cash, among other requirements, to ensure the safety and liquidity in such a money market fund’s portfolio assets.”
The two notices also clarify that trading and distributing bail-in debt by Canadian investors must generally be done through a registered dealer (subject to certain exemptions).
“We are publishing these two notices to provide greater clarity for persons offering this type of investment, including the expectations about disclosure and the associated risks,” says Louis Morisset, chairman of the CSA and president and CEO of the Autorité des marchés financiers, in a statement.
“To protect investors from the potential risks of investing in bail-in debt, registered dealers must comply with regulatory requirements and investment fund managers must understand the risks,” he adds.
CSA staff will continue to monitor the implementation of the bail-in debt regime, and will consider whether any further guidance is needed.