The Asset-Backed Commercial Paper (ABCP) fiasco has caused a lot of a pain for retail investors. The massive media attention it has attracted has increased the awareness of how small investors lives can be turned upside down .. In fact it’s just the latest example of financial assault. We could add the Norshield fund fiasco, the mutual fund market timing scandal. the Portus hedge fund meltdown, Nortel, the Bre-X fraud, Income Trust failures and many more.

Where were the so-called provincial securities regulators and the IDA? Why did security commissions allow ABCP products to be sold without disclosure or effective liquidity backup, despite warnings to the contrary from the Bank of Canada? How could the Office of the Superintendent of Financial Institutions( OSFI) have allowed a gaping loophole that allowed our banks to walk away from providing emergency funds? How could Canada's credit-rating agency, DBRS Ltd., have given a R1 rating to non-bank ABCP but not from anyone else? Indeed, when global rating agencies refused to grant a rating to Canadian ABCP, why did everyone appear to ignore this red flag? Why were these Notes sold to people when it was clear there was a looming liquidity crisis? Why didn’t the Competition Bureau investigate alleged misrepresentations by the financial services industry? What happened to the complaint system? Why weren’t retail investors at the Crawford bargaining table? Why is Main Street being asked to vote on a proposal that is fully immunized from legal action and accountability?

Much of the current crisis was born by dealers apparently not knowing or not disclosing what exactly was in the Notes but selling them anyways. The lack of transparency led to a refusal to rollover when questions arose regarding the impact of the U.S. sub prime market on Canadian ABCPs. Valuations could not be established and liquidity vanished. The website http://investorvoice.ca/ABCP/ABCP_index.htm provides a complete commentary on the crisis including the House of Commons Standing Committee on Finance Hearings related to the crisis.

Yet a number of misguided articles lay blame on the unsuspecting victims. Claims are made that they were greedy. They knew or should have known what they were being sold. They should have suspected that high return comes with high risk. They unquestioningly trusted their advisers.

According to press reports, victims were not chasing returns. They wanted a safe haven to park short-term money. Most had no history of being even moderate risk takers. Many were seniors and retirees living on fixed income. Advisers told them the Notes were as safe as GIC’s, guaranteed and liquid – a savings product. Some reported unauthorized trading, totally surprised at what was in their account when they examined over their monthly client statements. Others say that the statements continued to show face value even when this was obviously not the case. The toxic character of these ABCP Notes was never revealed to retail investors. A number found out about the crisis only when they needed access to the cash. Complaints were rebuffed or ignored by firms and regulators. In short, the entire investor protection system failed.

Most retail investors were shocked when their hard-earned savings were not there to buy houses, to buy businesses, to settle estates for the care of loved ones, to pay medical bills and to pay for living expenses. 

Some of the ABCP stories are heart breaking. Seniors, pensioners and retirees do not have the luxury of time to rebuild their lost portfolio assets. Morningstar Canada recently reported that Asset-backed commercial paper whose current market value is uncertain because of a lack of willing buyers was recently held by at least 60 investment funds tracked by them, including 23 funds in the Canadian Money Market category and one in the American Money Market category. Indeed, if some of the major banks had not voluntarily decided to bail out their money market mutual funds and retail owners of non-bank ABCP (National Bank capped its cash settlements at $2 billion) the situation would be far worse and would have affected tens of thousands of people. Retirees with RRIF’s face serious portfolio meltdown yet must according to law continue to make minimum annual withdrawals from a reduced asset base. Questions abound as to how sub-prime mortgages found their way into what is generally considered a safe, conservative savings product. Besides the obvious financial impact, there was a horrible human impact. The impact on retail investors is enormous. Financial distress, emotional stress, marital discord, health problems and likely a lot more serious issues we’ll be hearing about.

When a financial loss has occurred the stress is high. When attempts to resolve a complaint under the current convoluted dispute resolution system inevitably fail, the stress and frustration is multiplied. Canada’s dysfunctional complaint and dispute resolution system is a well recognized and documented issue. This made a very bad situation even worse.

So what did we learn?

“At the end of the day, I think I'm satisfied that we did the right thing. I think the marketplace has learned a lot of lessons ... you have to understand what you're buying.”

- OSFI Superintendent Julie Dickson [basically, she's *STILL* saying it’s CAVEAT EMPTOR for Main Street] Source: TARA PERKINS , OSFI defends its role in frozen paper mess ,Globe and Mail, April 22, 2008

Maybe Ms. Dickson is satisfied with OBSI’s investor protection role. But we learned that regulators like OSFI don’t examine risks closely enough or act swiftly when disasters occur We learned that Dealers too readily accept Credit Ratings without adequate due diligence. We learned that credit rating agencies are outside any regulatory monitoring. We learned that financial advisers did not understand what they were selling but made unsubstantiated assertions regarding the safety and liquidity of the Notes. We learned that regulators failed to act decisively even in the face of growing, well-publicized complaints. We learned that when bad things happen, the retail investor is left to drown. We leaned that individual investors had to take matters into there own hands or suffer a nasty fate. Thankfully, people like Brian Hunter did ( see his Facebook community Canaccord and other ABCP Investors) .

The Upshot is that reforms are mandatory

Small investors are increasingly exposed to financial assault with devastating effect on them and to the social fabric of the country and the economy. Non-bank ABCP is just the latest. Regulators should take a serious look at all the other complex products that are sold to the retail investor including, hedge funds, Principal Protected Notes, and variable annuities. A recent IMF report made it clear that Canada is hugely deficient in the white-collar crime enforcement arena. The Government and the Courts must, with uncharacteristic urgency, initiate major reforms. Billions of dollars are unduly lost each year and the trend is unfavourable. ABCP alone is a $350+ million problem (excluding lost interest on the Notes) for retail investors. In the end, abused investors will be a drain on the social security system if fiascos like this continue.

We need a well-resourced industry-independent national investor protection Agency with teeth that would help prevent these issues and would actually enforce securities laws.

We also need a new securities crime complaints intake and assessment system to be jointly administered by the RCMP IMET and the regional and municipal police forces that have fraud squads. We need to re-assess the role of SRO’s and the certification and registration of advisers who sell financial products to retail clients. We need a judicial system that treats white-collar crimes as serious crimes against citizens.

As to dealing with complaints, an Ombudsman created by Parliament as is the case in the UK and elsewhere is required to replace industry –funded OBSI and its restrictive rules of engagement. In fact ,under its current Terms if Reference OBSI cannot examine systemic issues like ABCP ( and industry participants and even SRO’s want to keep it that way based on their Comments on OBSI reform proposals).

Will the culprits behind this mess be made to account? Will investors be made whole? Will the appropriate reforms take place? Perhaps the Finance Committee Hearings will bear fruit. We have to be hopeful, there is no other choice.

Ken Kivenko P.Eng.

kenkiv@sympatico.ca