Bad news: There is no investor protection scheme to make good your losses in a financial market decline.
This clarification is offered up to the people who misunderstand what agencies like the Canadian Investor Protection Fund are all about. "The challenge that we seem to have most often with people understanding our coverage is that we don't cover a loss in market value," said Rozanne Reszel, CIPF's president and CEO. "We are only triggered by insolvency – protected means having your assets returned to you."
Risk is talked about constantly in the investing world – stock market risk, interest rate risk, currency risk, the business risk associated with a particular stock and social/political risks as well. The risk of your investment dealer going bankrupt and taking your assets with it is not as urgent as these other threats, but it shouldn't be ignored because firms do fail.
Since 2011 alone, CIPF has paid out claims and related expenses totalling $8.4-million related to insolvencies at MF Global Canada Co., Barret Capital Management Inc. and First Leaside Securities Inc. The Mutual Fund Dealers Association of Canada's Investor Protection Corp. (IPC) has received claims totalling about $7.9-million related to the bankruptcy last year of W.H. Stuart Mutuals Ltd.
Markham, Ont.-based W.H. Stuart was a mutual fund dealer and insurance agency that was suspended by the MFDA last May and later had its client accounts transferred to another firm, Keybase Financial Group Inc. Dorothy Sanford, president of the MFDA investor protection plan, said her organization is halfway through the process of paying out claims related to "significant shortfalls" of client money. "It was a really complex situation and our focus is now on processing the claims," Ms. Sanford said.
Whatever type of investment company you deal with, ask yourself this question: If the firm goes bankrupt, are my assets protected?
CIPF's members are investment dealers (including both full-service and discount brokers) that belong to the Investment Industry Regulatory Organization of Canada (IIROC). If a firm sells stocks, bonds and other securities, it should be a member of IIROC and if it's a member of IIROC, it has to be part of CIPF. Likewise, the MFDA's members, mainly financial planning and wealth management firms, must be part of the association's protection plan. Note that the MFDA plan does not apply in Quebec, which has its own compensation fund.
Don't assume your investment firm is a member of IIROC or the MFDA, and thus their insolvency protection plans. Always verify – that's what I do in my ranking of online brokerage firms. Every year, each firm in the survey must confirm that it's a member in good standing of both IIROC and CIPF.
There are two notable parts of the investing world that are not covered by insolvency protection plans. One of them is so-called exempt dealers, who sell products like hedge funds to high net worth individuals who are supposed to be sophisticated investors. Another is portfolio managers, who look after investments for high net worth families, endowments, foundations and pension funds.
Katie Walmsley, president of the Portfolio Management Association of Canada, said in an e-mail that her members do not "handle or hold" client assets. Instead, they're held in the custody of IIROC-regulated investment firms or a division of a bank. Portfolio management firms must have insurance that offers protection in case of employee fraud.
Both CIPF and the MFDA's investor protection plan cover investors for total assets of as much as $2-million. That's $1-million for "general accounts," typically a cash or margin account, and $1-million for "separate accounts" such as registered retirement savings plans and registered retirement income funds. If you have multiple general or registered accounts at a firm, they would be aggregated and considered as a single account.
TFSAs, being comparatively new, are in a kind of grey zone right now. "We've not had a circumstance where we've had to adjudicate whether TFSAs should get separate coverage, but that's certainly something that's on our radar for clarification," Ms. Reszel said. "At this moment, I would consider them to be part of your general account."
It's primarily the cash in your investment account that is at risk if your firm goes bankrupt, although securities are also covered. "In Canada, client [cash] money is in the mix of the company money, just like it would be at a bank," Mr. Reszel said. "It's not held separate and apart in a trust account." If securities were missing from your account in the event of an insolvency, they'd either be replaced or you'd receive the cash value on the date of insolvency.
The biggest case ever handled by CIPF was the 1987 demise of Osler Inc., which accounts for almost 40 per cent of the $40-million in claims and related expenses paid out since inception. Today, Ms. Reszel said the plan has a general fund of $440-million invested in bonds, and a line of credit with two banks for $125-million. The MFDA's investor protection plan will gradually boost its $35-million fund to $50-million in the years ahead, and there's a $30-million line of credit to draw on. Both plans are funded through fees paid by member firms.
Let's be clear on what investor protection plans do not cover: Losses due to inappropriate advice; fraud that does not result in a company's insolvency; or financial market declines. Confusion over whether market losses are covered by CIPF and the MFDA's protection plan may result from the fact the Canada Deposit Insurance Corp. protects bank deposits against losses of up to $100,000. Guaranteed investment certificates are included in this coverage.
The Canadian Foundation for Advancement of Investor Rights (FAIR) did a study of investment fraud a few years ago and found that fraud and insolvencies often go together. The group also found many instances of fraud involving individuals and firms that were members of neither the MFDA nor IIROC. Marian Passmore, FAIR's policy director, said the group is calling for all investment firms to be members of an industry organization with its own insolvency plan for clients.
"Right now," she said, "investors should make sure they're dealing with either an IIROC or MFDA member if they want this protection."
Globe app users click for table showing how investors can protect their assets against an investment firm's bankruptcy.