BMO investments INC. (Re), 2015 CanLII 58449

September 18, 2015

In the Matter of the Securities Legislation of Ontario

AND

In the Matter of the process for Exemptive Relief Applications in multiple jurisdictions

AND

In the Matter of BMO investments INC. (the Filer)

Decision

Background

The principal regulator in the Jurisdiction has received an application from the Filer on behalf of each of the investment funds (the Funds) for which the Filer or an affiliate acts or may in the future act as manager that are subject to National Instrument 81-102 Investment Funds (NI 81-102), for a decision under the securities legislation of the jurisdiction of the principal regulator (the Legislation) providing an exemption from paragraphs 2.5(2)(a), (a.1), (c), (c.1) and (e) of NI 81-102 to permit the Funds to invest in securities of the exchange traded funds listed on Appendix “A” hereto (the Hong Kong ETFs) that, but for the fact that they are listed on a stock exchange in Hong Kong and not on a stock exchange in Canada or the United States, would otherwise qualify as “index participation units” (IPU) as defined in NI 81-102 (the Exemption Sought).

Under the Process for Exemptive Relief Applications in Multiple Jurisdictions (for a passport application):

(a) the Ontario Securities Commission is the principal regulator for the application; and

(b) the Filer has provided notice that Subsection 4.7(1) of Multilateral Instrument 11-102 Passport System (MI 11-102) is intended to be relied upon in each of British Columbia, Alberta, Saskatchewan, Manitoba, Québec, New Brunswick, Nova Scotia, Prince Edward Island, Newfoundland and Labrador, Northwest Territories, Nunavut and Yukon (with Ontario, the Jurisdictions).

Interpretation

Terms defined in MI 11-102, National Instrument 14-101 Definitions and NI 81-102 have the same meanings if used in this decision unless otherwise defined.

Representations

This decision is based on the following facts represented by the Filer:

The Filer and the Funds

1. The Filer is a corporation incorporated under the laws of Canada with its head office in Toronto, Ontario.

2. The Filer is an indirect, wholly-owned subsidiary of Bank of Montreal.

3. The Filer is registered as an investment fund manager in Ontario, Québec and Newfoundland and Labrador and as a mutual fund dealer in each of the Jurisdictions.

4. The Filer or an affiliate acts, or will act, as manager of each of the Funds.

5. Each Fund is, or will be, an investment fund under the laws of a Jurisdiction of Canada and a reporting issuer under the laws of some or all of the Jurisdictions.

6. Each Fund is, or will be, governed by NI 81-102, subject to any relief therefrom granted by the securities regulatory authorities.

7. The securities of each Fund are, or will be, qualified for distribution in some or all of the Jurisdictions under a prospectus or simplified prospectus.

8. Neither the Filer nor the Funds are in default of securities legislation in any of the Jurisdictions.

The Hong Kong ETFs

9. Each Fund proposes, from time to time, to invest up to 10% of its net asset value in securities of the Hong Kong ETFs.

10. Securities of each Hong Kong ETF are listed on The Stock Exchange of Hong Kong Limited (SEHK) and each Hong Kong ETF is a “mutual fund” within the meaning of applicable Canadian securities legislation.

11. Securities of each Hong Kong ETF would be IPUs within the meaning of NI 81-102, but for the fact that they are not traded on a stock exchange in Canada or the United States.

12. Each Hong Kong ETF either (a) holds securities that are included in a specified widely-quoted market index in substantially the same proportion as those securities are reflected in that index or (b) invests in a manner that causes the issuer to replicate the performance of that index.

13. BMO Global Asset Management (Asia) Limited is the manager and portfolio manager of the Hong Kong ETFs and has responsibility for the management and administration and overall oversight of all service providers and other delegates and for the investment and reinvestment of assets of the Hong Kong ETFs.

14. Affiliates of the Filer may be retained to act as investment advisors in respect of the Hong Kong ETFs, which investment advisors remain subject to the oversight of BMO Global Asset Management (Asia) Limited.

15. The following third parties are involved in the administration of the Hong Kong ETFs:

(a) Cititrust Limited is the trustee of the trust comprising the Hong Kong ETFs and holds the property of each Hong Kong ETF;

(b) Citibank N. A. is the administrator of the Hong Kong ETFs;

(c) Tricor Investor Services Limited is the registrar of the Hong Kong ETFs;

(d) HK Conversion Agency Services Limited acts as service agent for the Hong Kong ETFs and performs certain services in connection with the creation and redemption of units of the Hong Kong ETFs by participating dealers; and

(e) KPMG is the auditor of the Hong Kong ETFs.

16. Each Hong Kong ETF is a sub-fund of a Hong Kong umbrella unit trust authorised under Section 104 of the Securities and Futures Ordinance (Cap. 571) of Hong Kong.

17. Each Hong Kong ETF is regulated by the Securities and Futures Commission of Hong Kong (SFC) and is subject to the following regulatory requirements and restrictions:

(a) Each Hong Kong ETF is subject to a robust risk management framework through prescribed rules on governance, risk, regulation of service providers and safekeeping of assets.

(b) No Hong Kong ETF is a “synthetic ETF”, meaning that no Hong Kong ETF will principally rely on an investment strategy that makes use of swaps or other derivatives to gain an indirect financial exposure to the return of an index.

(c) Each Hong Kong ETF is subject to investment restrictions designed to limit its holdings of illiquid securities to 15% or less of its net asset value.

(d) Each Hong Kong ETF will hold no more than 10% of its net asset value in securities of other investment funds, unless the other investment funds are subject to certain jurisdictions which have been recognized or otherwise authorized by the SFC, in which case each Hong Kong ETF may hold no more than 30% of its net asset value in such investment funds. To the extent a Hong Kong ETF holds more than 10% of its net asset value in securities of other investment funds, a Fund will not purchase securities of such Hong Kong ETF.

(e) No Hong Kong ETF will invest in financial derivative instruments for hedging or non-hedging (i.e. investment) purposes. However, the Hong Kong ETFs may engage in currency spot foreign exchange transactions.

(f) No Hong Kong ETF will engage in securities lending activities.

(g) Each Hong Kong ETF has a prospectus that discloses material facts and that is similar to the disclosure required to be included in a prospectus or simplified prospectus of a Fund.

(h) Each Hong Kong ETF has a product key facts statement which forms part of the prospectus and contains disclosure similar to that required to be included in a fund facts document prepared under National Instrument 81-101 Mutual Fund Prospectus Disclosure (NI 81-101).

(i) Each Hong Kong ETF is subject to continuous disclosure obligations which are similar to the disclosure obligations under National Instrument 81-106 Investment Fund Continuous Disclosure.

(j) Each Hong Kong ETF is required to update information of material significance in the prospectus and to prepare unaudited semi-annual reports and audited annual reports.

(k) Each Hong Kong ETF has a trustee that is required to be bound by the duty of care set out in the trust deed of the particular Hong Kong ETF, under common law and/or by the statutory duty of care as set out in the Trustee Ordinance (Cap. 29) of Hong Kong.

(l) The trustee of the Hong Kong ETFs is required to issue a report to unitholders, which is included in the annual report, on whether, in the trustee’s opinion, the manager has managed the Hong Kong ETFs, in all material respects, in accordance with the provisions of their constitutive documents.

(m) Each Hong Kong ETF has an investment fund manager that is required to manage the Hong Kong ETF in the best interests of unitholders.

(n) Each Hong Kong ETF has an investment fund manager that is subject to registration with the SFC permitting it to manage and provide portfolio management advice to the Hong Kong ETFs.

18. Each index tracked by each Hong Kong ETF is transparent, in that the methodology for the selection and weighting of the index components is publicly available.

19. Details of the components of each index tracked by each Hong Kong ETF, such as issuer name, ISIN and weighting within the index are publicly available and updated from time to time.

20. Each index tracked by each Hong Kong ETF includes sufficient component securities so as to be broad-based and is or will be distributed and referenced sufficiently so as to be broadly utilized.

21. Each Hong Kong ETF makes the net asset value of its holdings available to the public on the website of its manager.

Investment by Funds in Hong Kong ETFs

22. The investment objective and strategies of each Fund will be disclosed in each Fund’s prospectus or simplified prospectus.

23. The Funds will provide all disclosure mandated for investment funds investing in other investment funds.

24. There will be no duplication of management fees or incentive fees as a result of an investment in a Hong Kong ETF.

25. The amount of loss that could result from an investment by a Fund in a Hong Kong ETF will be limited to the amount invested by the Fund in such Hong Kong ETF.

26. The majority of trading in securities of the Hong Kong ETFs occurs in the secondary market rather than by subscribing or redeeming such securities directly from the Hong Kong ETF.

27. As is the case with the purchase or sale of any other equity security made on an exchange, brokers are typically paid a commission in connection with trading in securities of exchange-traded funds, such as the Hong Kong ETFs.

28. Securities of the Hong Kong ETFs are typically only directly subscribed or redeemed from a Hong Kong ETF in large blocks and it is anticipated that many of the trades conducted by the Funds in Hong Kong ETFs would not be the size necessary for a Fund to be eligible to directly subscribe for securities from the Hong Kong ETF.

29. It is proposed that the Funds will purchase and sell securities of the Hong Kong ETFs on the SEHK.

30. Where a Fund purchases or sells securities of a Hong Kong ETF in the secondary market it will pay commissions to brokers in connection with the purchase and sale of such securities.

31. There will be no duplication of fees payable by an investor in the Fund and the Filer will ensure that there are appropriate restrictions on sales fees and redemption charges for any purchase or sale of securities of a Hong Kong ETF.

Rationale for Investment in Hong Kong ETFs

32. A Fund is not permitted to invest in securities of a Hong Kong ETF unless the requirements of subsection 2.5(2) of NI 81-102 are satisfied.

33. If the securities of a Hong Kong ETF were IPUs within the meaning of NI 81-102, a Fund would be permitted by subsections 2.5(3), (4) and (5) of NI 81-102 to invest in securities of that Hong Kong ETF.

34. Securities of each Hong Kong ETF would be IPUs, but for the requirement in the definition of IPU that the securities be traded on a stock exchange in Canada or the United States.

35. The Filer considers that investments in a Hong Kong ETF provide an efficient and cost effective way for the Funds to achieve diversification and obtain exposure to the markets and asset classes in which such Hong Kong ETFs invest.

36. The investment objectives and strategies of each Fund, which contemplate or will contemplate investment in global, international or Europe, Australasia and Far East (EAFE) securities, permit or will permit the allocation of assets to Asian securities. As economic conditions change, the Funds may reallocate assets, including on the basis of industrial sector or geographic region. A Fund will invest in the Hong Kong ETFs to gain exposure to Asian market performance in circumstances where it would be in the best interests of the Fund to do so through ETFs rather than through investments in individual securities. For example, a Fund will invest in the Hong Kong ETFs in circumstances where certain investment strategies preferred by the Fund are either not available or not cost effective.

37. The Filer is not aware of any mutual fund that (i) is subject to NI 81-102, (ii) issues securities that are traded on Canadian or U.S. stock exchanges and (iii) focuses on Asian issuers at the geographic or sectoral level.

38. By investing in the Hong Kong ETFs, the Funds will obtain the benefits of diversification, which would be more expensive and difficult to replicate using individual securities. This will reduce single issuer risk.

39. Investment by each Fund in a Hong Kong ETF meets, or will meet, the investment objectives of such Fund.

40. In the absence of the Exemption Sought:

(a) the investment restriction in paragraph 2.5(2)(a) of NI 81-102 would prohibit a Fund that is a mutual fund from purchasing or holding securities of the Hong Kong ETFs because the Hong Kong ETFs are not subject to NI 81-102 and NI 81-101 and, because IPUs are currently defined to be securities that are traded on a stock exchange in Canada or the United States only, a Fund would not be able to rely upon the IPU exemption set forth in paragraph 2.5(3)(a) of NI 81-102;

(b) the investment restriction in paragraph 2.5(2)(a.1) of NI 81-102 would prohibit a Fund that is a non-redeemable investment fund from purchasing or holding securities of the Hong Kong ETFs unless the Hong Kong ETFs are subject to NI 81-102 and, because IPUs are currently defined to be securities that are traded on a stock exchange in Canada or the United States only, a Fund would not be able to rely upon the IPU exemption set forth in paragraph 2.5(3)(a) of NI 81-102;

(c) the investment restriction in paragraph 2.5(2)(c) of NI 81-102 would prohibit a Fund that is a mutual fund from purchasing or holding securities of the Hong Kong ETFs unless the Hong Kong ETFs are reporting issuers in the local jurisdiction and, because IPUs are currently defined to be securities that are traded on a stock exchange in Canada or the United States only, a Fund would not be able to rely upon the IPU exemption in paragraph 2.5(3)(a) of NI 81-102;

(d) the investment restriction in paragraph 2.5(2)(c.1) of NI 81-102 would prohibit a Fund that is a non-redeemable investment fund from purchasing or holding securities of the Hong Kong ETFs unless the Hong Kong ETFs are reporting issuers in the local jurisdiction and, because IPUs are currently defined to be securities that are traded on a stock exchange in Canada or the United States only, a Fund would not be able to rely upon the IPU exemption in paragraph 2.5(3)(a) of NI 81-102; and

(e) the investment restriction in paragraph 2.5(2)(e) of NI 81-102 would prohibit a Fund from paying sales fees or redemption fees in relation to its purchases or redemptions of securities of the Hong Kong ETFs because they are managed by the Filer or an affiliate or associate of the Filer and, because IPUs are currently defined to be securities that are traded on a stock exchange in Canada or the United States only, a Fund would not be able to rely upon the IPU exemption in paragraph 2.5(5) of NI 81-102.

41. Each investment by a Fund in securities of a Hong Kong ETF will represent the business judgement of responsible persons uninfluenced by considerations other than the best interests of the Fund.

Decision

The principal regulator is satisfied that the decision meets the test set out in the Legislation for the principal regulator to make the decision.

The decision of the principal regulator under the Legislation is that the Exemption Sought is granted provided that:

(a) the investment by a Fund in securities of the Hong Kong ETFs is in accordance with the fundamental investment objectives of the Fund;

(b) none of the Hong Kong ETFs are synthetic ETFs, meaning that they will not principally rely on an investment strategy that makes use of swaps or other derivatives to gain an indirect financial exposure to the return of an index;

(c) the relief from paragraph 2.5(2)(e) of NI 81-102 only applies to brokerage fees payable in connection with the purchase or sale of securities of the Hong Kong ETFs;

(d) the prospectus of each Fund that is relying on the Exemption Sought discloses the fact that the Fund has obtained relief to invest in the Hong Kong ETFs and, in the case of a Fund that is a mutual fund, the matters required to be disclosed under NI 81-101 in respect of fund of fund investments, provided that:

(i) any Fund that is a mutual fund and in existence as of the date of this decision makes the required disclosure no later than the next time the simplified prospectus of the Fund is renewed after the date of this decision, and

(ii) any Fund that is a non-redeemable investment fund and in existence as of the date of this decision makes the required disclosure no later than the next time the annual information form of the Fund is filed after the date of this decision;

(e) the investment by a Fund in the Hong Kong ETFs otherwise complies with section 2.5 of NI 81-102;

(f) a Fund does not invest more than 10% of its net asset value in securities issued by a single Hong Kong ETF and does not invest more than 20% of its net asset value in securities issued by Hong Kong ETFs in aggregate; and

(g) a Fund shall not acquire any additional securities of a Hong Kong ETF, and shall dispose of any securities of a Hong Kong ETF then held, in the event the regulatory regime applicable to the Hong Kong ETF is changed in any material way.

The Exemption Sought will terminate six months after the coming into force of any amendments to paragraphs 2.5(a), (a.1), (c), (c.1) or (e) of NI 81-102 that further restrict or regulate a Fund's ability to invest in the Hong Kong ETFs.

“Vera Nunes”

Vera Nunes

Acting Director, Investment Funds and Structured Products Branch

Ontario Securities Commission

SEDAR PROJECT NO. 2369918

Appendix “A”

Hong Kong ETFs

BMO Asia USD Investment Grade Bond ETF

BMO Hong Kong Banks ETF

BMO Asia High Dividend ETF