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Canadian mortgage investment funds feeling pressure to go public

Canada’s popular mortgage investment funds are facing pressure to convert into public companies because securities regulators have proposed new rules that would bar them from investing in mortgages without government loan guarantees.

Deborah Baic/The Globe and Mail

Canada's popular mortgage investment funds are facing pressure to convert into public companies because securities regulators have proposed new rules that would bar them from investing in mortgages without government loan guarantees.

Timbercreek Asset Management, which manages two publicly traded mortgage investment corporations with over $3-billion of assets under management, will hold a shareholder vote Sept. 12 to seek approval to convert both from closed-end investment funds into publicly traded companies.

The firm says it is making the move to conform with proposed new rules from the Canadian Securities Administrators (CSA) – an umbrella group for Canada's provincial securities commissions – that would prohibit closed-end funds from investing in mortgages that are not guaranteed by a government insurer such as Canada Mortgage and Housing Corp.

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Mortgage investment corporations (MICs) lend money at higher rates of interest to borrowers such as real estate developers who do not have ready access to lower-interest bank loans. Such loans do not typically qualify for mortgage insurance, so the CSA proposal would effectively require a restructuring of the MIC sector.

The funds have been popular with retail investors seeking higher returns, and the sector has grown from three publicly traded MICs to eight since the start of 2012. Three MICs are already public companies, but the others are structured as closed-end investment funds, which means their units trade on the Toronto Stock Exchange and are not redeemable on a daily basis at net asset value like mutual fund units.

In a notice earlier this year, regulators said the emergence of MICs raises questions about whether their active business strategies are appropriate for the closed-end fund model, which was traditionally intended to hold more passive investments. Closed-end funds have historically been aimed at retail investors who may not understand the business model of a fund that has an actively managed operating business.

But some funds are questioning why regulators have a problem with the model, saying there hasn't been any evidence of investor unhappiness with the MICs that trade on the TSX.

If mortgage funds managed by Trez Capital Fund Management LP are converted into public companies, there could be benefits from the different way the markets price shares of companies compared to investment funds, says Trez managing partner Michael Nisker. But he said the change would do nothing to improve investor protection because investors would still own the same pool of assets under a different legal structure.

"We don't see that it's necessarily adding anything if investor protection is the motivation," Mr. Nisker said.

The CSA has asked for public comment on a host of proposals to "modernize" the regulation of investment funds, including the mortgage proposal, but it has not yet revealed its final plans for any new regulations.

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In a public comment letter submitted on behalf of six bank-owned investment firms, lawyer and former Ontario Securities Commission chairman Ed Waitzer said it is unclear how requiring the MICs to convert into public companies "would alleviate any concerns regarding investor protection." He also warned it would also be harder for new MICs to get listed if they have to meet the TSX's higher standards for public companies than for investment funds, creating a "significant new barrier to entry" to the industry.

Timbercreek managing director Carrie Morris says the firm is supporting the change because it makes sense for its funds to operate as public companies. The companies will have their share price set based on multiples of the company's income like a typical corporation, rather than having shares of an investment fund anchored to the net asset value of the holdings. A public company can also attract analyst coverage, which can boost investor interest.

"We are very comfortable with the transition – we do feel it is a better structure for the business," Ms. Morris said.

While a public company is more expensive to operate than a fund, Timbercreek says shareholders will benefit because the funds will no longer pay trailer fees to investment advisers who sell their units.

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About the Author
Real Estate Reporter

Janet McFarland is the real estate reporter for The Globe and Mail’s Report on Business, with a focus on residential real estate trends. She joined Report on Business in 1995, and has specialized in reporting on corporate governance, executive compensation, pension policy, business law, securities regulation and enforcement of white-collar crime. More


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