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KMW Blog Sep 4, 2015: Tom Caldwell articulates the problematic nature of IIROC as a pseudo regulator


Posted: Sep 4, 2015JK: Tom Caldwell articulates the problematic nature of IIROC as a pseudo regulator
Published: Aug 25, 2015IIROC: IIROC Request for Comments on Strategic Issues - Submission by: Thomas S. Caldwell, C.M.
IIROC also known as the Investment Industry Regulatory Organization of Canada, has emerged as a pseudo regulator that operates in parallel to the stock exchanges and Canada's securities commissions. It is the author of the Client Relationship Model which is being used to chill the purchase of individual securities by clients of Canada's investment dealers who do not have 100% responsibility accounts, ie a discount brokerage account. IIROC believes its investor protection mandate is to prevent investors from suffering losses regardless of an investor's willingness to accept risk. The suitability test imposed by CRM functions as litigation bait to which the bigger investment dealers are responding by prohibiting client purchases of individual stocks, especially those of a high risk, high reward nature such as ventures listings on the TSXV. The largely bank controlled bigger firms do not mind the CRM because their goal is to steer clients into risk-profile based portfolios stuffed with structured products on which a variation of the 2 and 20 management fee is charged. This business model is doomed, as I suggest in my August 27, 2015 KMW Blog Post, World's Biggest Asset Manager sees the Future. Much more relevant to the juniors is the compliance burden on the smaller independent firms who have historically specialized in juniors and who are rapidly disappearing.

I addressed the implications in a January 16, 2014 Blog Post, Canadian Retail Investors: A Rocking Chair Nation or Venture Capital Rockers? Since then investor interest in Canadian publicly listed securities, in particular the high risk high reward venture listings on the TSXV, has declined further. Part of the problem is the resource sector bear market, whose cyclical downturn appears destined to have a very long duration, perhaps too long to allow the survival of the exploration junior as a viable Canadian institution. But there are always survivors during a cyclical downturn through which astute investors willing to buck the prevailing risk averse sentiment profit handsomely. But the ability of a minority of juniors to flourish during a cyclical downturn is being compromised by the structural changes in the securities sector. Not only is IIROC waging a successful war on speculative investing, but it has also assumed a role as a "regulator" of disclosures by publicly listed companies supposedly to enforce "market integrity". The resulting threat to the venture listings and their non-financial support industry has finally started a groundswell of criticism to which IIROC has responded with a Request for Comments on Strategic Issues. IIROC released public submissions on September 1, 2015. The submission by Thomas Caldwell of Caldwell Securities Ltd, a small investment advisory firm , is a must read for everybody because he is so succinct in putting his finger on all the issues that are wrong with IIROC: self-regulation, attitude, inputs, burden, conflicts, disclosure, "shoe-horning", and arrogance. Caldwell's implicit message is that IIROC is killing Canada's capital market. A second must read is the submission by Fair, an NGO that calls itself the Canadian Foundation for Investor Rights and which is funded by donations from government regulators. The FAIR submission is a must read because it argues for a continuation of the policies that are suffocating Canada's venture capital market. After reading the FAIR submission, re-read Caldwell's submission, and ask yourself if it is outlandish to suggest that FAIR has a genocidal mission with regard to public venture listings?.

Given the incestuous relationship between Canada's banks, the securities commissions, the "self-regulatory" IIROC, and shills like FAIR, and their apparent monopoly on moral rightness, it does appear hopeless for the Canadian junior resource sector as well as investors willing to take 100% responsibility for their decisions but discouraged by the failure of the junior equity markets to function as a price discovery mechanism and the choking of capital gateways into corporate treasuries. The Canadian junior equity market has become the funding engine for a regulatory infrastructure whose effect is genocidal for junior listings. The regulatory burden not only sucks up venture capital through fees, but it also sucks up the attention of company executives forced to deal with mindless paperwork that serves no productive disclosure purpose (like the Black-Scholes calculations for stock options). With little money and time left to generate and explore projects, the resource juniors will not deliver the successes that justify the existence of the Canadian junior resource ecosystem. The successes are rare, but that is the nature of resource exploration where it is the collective action of a large pool of determined juniors focused on achieving fundamental success that allows the few but individually unpredictable successes to emerge that justify the ecosystem. Canadian resource juniors and investors, however, need not resign themselves to the extinction of the Canadian resource junior. There is an alternative that bypasses the regulatory deathtrap and which will allow Canada to continue as a fountain of world class geologists, mine engineers and executives who set up in Canada headquartered juniors.

Another nation similar to Canada called Australia also has an ecosystem of resource juniors that trades on the Australian Stock Exchange. Not all the ASX listings are based in Australia, just as not all listings on the TSX/TSXV are based in Canada. Australia's disclosure and reporting system, in particular with regard to filing of 43-101 style technical reports, is woefully under-developed. But the advantage for the ASX and its JORC system is that they can cherry-pick from NI 43-101 so as to eliminate the need for ASX listings to interlist on the TSX in order to be forced to file 43-101 technical reports that an international audience accesses via SEDAR. Undoing regulatory and disclosure overkill is much harder than improving an inadequate system. The ASX regulatory system has resisted the move to multiple order execution platforms that violate the "first come first serve" principle behind a market order book and require elimination of the uptick short sale rule. The ASX can still function as a price discovery mechanism, though it suffers from a small audience largely restricted to Australian investors. Furthermore, Australia regards its resource exploration culture as a national asset, not a pestilence that must be eradicated. How long before Canadian based juniors explore listing on the ASX, and Canadian investors, tired of the dysfunctional Canadian equity market, open 100% responsibility accounts with firms that facilitate online trading of ASX listings? American investors, discouraged by the demise of the Canadian equity market and disgusted by their own Bulletin Board market, will soon enough discover the Australian Stock Exchange, which is poised to take away Canada's crown as the resource venture capital of the world. With the possibility that the NDP party could win Canada's federal election this fall, it is time to think hard about an exodus to Australia.

 
 

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