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Horizons ETFS Management (Canada) Inc.
Headnote
National Policy 11-203 Process for Exemptive Relief Applications in Multiple Jurisdictions -- Conventional and alternative mutual funds granted exemption from the concentration restrictions in subsections 2.1(1) and 2.1(1) of NI 81-102 to permit each fund to invest in a portfolio consisting of six constituent banks of Solactive Equal Weight Canada Banks Index in accordance with, and as limited by, its investment objective, subject to conditions.
Applicable Legislative Provisions
National Instrument 81-102 Investment Funds, ss. 2.1(1), 2.1(1.1), and 19.1.
June 27, 2023
IN THE MATTER OF THE SECURITIES LEGISLATION OF ONTARIO (the Jurisdiction) AND IN THE MATTER OF THE PROCESS FOR EXEMPTIVE RELIEF APPLICATIONS IN MULTIPLE JURISDICTIONS AND IN THE MATTER OF HORIZONS ETFS MANAGEMENT (CANADA) INC. (the Filer)
DECISION
Background
The principal regulator in the Jurisdiction has received an application from the Filer, on behalf of Horizons Equal Weight Canadian Bank Covered Call ETF (BKCC), Horizons Enhanced Equal Weight Banks Index ETF (BNKL) and Horizons Enhanced Equal Weight Canadian Banks Covered Call ETF (BKCL and, together with BKCC and BNKL, the Funds), for exemptive relief (the Exemption Sought) under the securities legislation of the principal regulator (the Legislation) relieving the Funds from subsection 2.1(1) (in the case of BKCC) and subsection 2.1(1.1) (in the case of BNKL and BKCL) of National Instrument 81-102 -- Investment Funds (NI 81-102), in order to permit the Funds to purchase securities of an issuer, enter into a specified derivatives transaction or purchase an index participation unit even though, immediately after the transaction, more than 10% (in the case of BKCC) or more than 20% (in the case of BNKL and BKCL), as applicable, of the net asset value (NAV) of a Fund would be invested, directly or indirectly, in securities of any issuer (the Concentration Restriction Relief).
Under National Policy 11-203 -- Process for Exemptive Relief Applications in Multiple Jurisdictions (NP 11-203):
(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 all of the provinces and territories of Canada other than the Jurisdiction (together with the Jurisdiction, the Jurisdictions).
Interpretation
Terms defined in National Instrument 14-101 -- Definitions, MI 11-102 and NI 81-102 have the same meaning if used in this decision, unless otherwise defined.
Representations
This decision is based on the following facts represented by the Filer:
The Filer
1. The Filer is a corporation incorporated under the laws of Canada, with its head office located in Toronto, Ontario.
2. The Filer is registered as a portfolio manager in Alberta, British Columbia, Ontario and Québec, an exempt market dealer in Alberta, British Columbia, Manitoba, New Brunswick, Newfoundland and Labrador, Nova Scotia, Ontario, Prince Edward Island, Québec and Saskatchewan, a commodity trading manager and a commodity trading adviser in Ontario and an investment fund manager in each of Ontario, Québec and Newfoundland and Labrador.
3. The Filer is, or will be, the investment fund manager of each Fund.
The Funds
4. The Funds are, or will be, exchange traded mutual funds governed by the laws of a Jurisdiction of Canada and a reporting issuer under the laws of the Jurisdictions.
5. BNKL and BKCL will each be an "alternative mutual fund", as such term is defined in NI 81-102.
6. BKCC is an existing conventional exchange traded fund.
7. The Filer has filed a preliminary long form prospectus dated June 12, 2023, on behalf of BNKL and BKCL with the securities regulatory authority in each of the Jurisdictions. The securities of BKCC are currently offered under a prospectus dated June 27, 2022.
8. The Funds are, or will be, subject to NI 81-102, subject to any exemptions therefrom that may be granted by the securities regulatory authorities.
9. The Funds are, or will be, subject to National Instrument 81-107 -- Independent Review Committee for Investment Funds (NI 81-107).
10. The Units of BNKL and BKCL will be listed on a designated exchange (the Designated Exchange) (subject to satisfying the Designated Exchange's original listing requirements). The Units of BKCC are currently listed on the Designated Exchange.
11. The investment objective of BKCC is to seek to provide, to the extent possible and net of expenses: (a) exposure to the performance of an index of equal-weighted equity securities of diversified Canadian banks (currently, the Solactive Equal Weight Canada Banks Index) (the Index); and (b) monthly distributions of dividend and call option income. To mitigate downside risk and generate income, BKCC employs a dynamic covered call option writing program.
12. The investment objective of BNKL is to seek to replicate, to the extent reasonably possible and net of expenses, 1.25 times (125%) the performance of an index of equal-weighted equity securities of diversified Canadian banks (currently, the Index). BNKL will use leverage in order to seek to achieve its investment objective. Leverage will be created through the use of cash borrowings or as otherwise permitted under applicable securities legislation.
13. The investment objective of BKCL is to seek to provide, to the extent reasonably possible and net of expenses: (a) exposure to the performance of an index of equal-weighted equity securities of diversified Canadian banks (currently, the Index); and (b) high monthly distributions of dividend and call option income. BKCL will also employ leverage through cash borrowing and will generally endeavour to maintain a leverage ratio of approximately 125%.
14. BNKL and BKCL will use leverage in order to seek to achieve their investment objectives. Leverage will be created through the use of cash borrowings or as otherwise permitted under applicable securities legislation for alternative mutual funds. BKCC employs a covered call writing strategy, with the result that the performance of BKCC does not seek to directly replicate the performance of the Index. BKCC's current holdings provide exposure to major Canadian Banks (as defined below) in accordance with the Index composition.
15. The Index is an equal-weight index and uses a rules-based methodology. The Index rules require its six Canadian Banks to be equally weighted as at each semi-annual rebalancing date in March and September (each, an Index Rebalance Date). In accordance with the Index methodology, on each Index Rebalance Date, the Index is rebalanced such that each Bank is once again equally weighted based on the closing prices on the second Friday in March and September of each year.
16. The investment objective and investment strategy of the Funds, as well as the risk factors associated therewith, including concentration risk, are and will be disclosed in the prospectus of the Funds, as may be amended from time to time.
17. The constituent securities of the Index include the equity securities (the Shares) of the six largest Canadian banks: Canadian Imperial Bank of Commerce, Bank of Montreal, National Bank of Canada, Royal Bank of Canada, Toronto Dominion Bank and The Bank of Nova Scotia (each, a Bank, and collectively, theBanks).
18. BKCC will seek to achieve its investment objective by holding the constituent securities of the Index in approximately the same proportion as they are reflected in the Index and/or may hold securities of one or more exchange traded funds that replicate the performance of the Index.
19. BNKL and BKCL will each seek to achieve its investment objective by borrowing cash to invest in and hold a proportionate share of, or a sampling of the constituent securities of, the Index in order to track approximately 1.25x the performance of the Index. As an alternative to, or in conjunction with investing in and holding the constituent securities, BNKL and BKCL may also invest in other securities, including other mutual funds or exchange traded funds managed by the Filer to obtain exposure to the constituent securities of the Index in a manner that is consistent with the Fund's investment objective. BNKL and BKCL may also hold cash and cash equivalents or other money market instruments in order to meet its obligations. Currently, it is anticipated that BNKL and BKCL will seek to achieve their investment objective by investing, on a leveraged basis, in securities of BKCC, an exchange traded fund managed by the Filer.
20. BNKL and BKCL anticipate maintaining maximum aggregate to cash borrowing, short selling, and specified derivatives of approximately 125% of their respective NAV.
21. In order to ensure that a unitholder's risk is limited to the capital invested, BNKL and BKCL will be regularly monitored in order to maintain a leverage ratio of approximately 125%. If the leverage ratio used by BNKL or BKCL exceeds 133%, the Filer, as quickly as commercially reasonable, will take all necessary steps to reduce the leverage ratio to 125% of the respective NAV.
22. Each Fund's indirect exposure to the portfolio of Banks will be rebalanced at the same frequency as, and on or about the same date as, the Index, such that each Bank is once again equally weighted in the Fund's portfolio at that time (each, a Portfolio Rebalance Date, together with the Index Rebalance Date, the Rebalance Date). Beginning at each Rebalance Date, and until the immediately next Rebalance Date, the composition of the Banks in the Index and in a Fund's portfolio will increase or decrease based on the Banks' relative and proportionate market values during that time. Similarly, any indirect exposure obtained or reduced by a Fund following a Portfolio Rebalance Date (owing, for example, to subscriptions or redemptions received in respect of Units of the Fund or expenses or distributions paid by the Fund, if any) will be increased or decreased pro rata based on the Banks' relative and proportionate market values and corresponding weight in the Index and in the Fund's portfolio during that time.
23. Since the inception of the Index in March 2007, the maximum weighting of any single Bank in the Index represented 19.71% in the Index. In the case of BNKL and BKCL, on a leveraged basis of 125%, this maximum weighting would represent up to approximately 24.64% of the exposure of a Fund.
24. Accordingly, the Funds wish to be able to invest in and/or gain exposure to the Shares of the Banks, such that immediately after a purchase and/or transaction to gain exposure to the Shares of the Banks, more than 10%, in the case of BKCC, or more than 20%, in the case of BNKL and BKCL, of its net assets may be invested in and/or exposed to the Shares of one Bank for the purposes of determining compliance with the Concentration Restriction.
25. The Shares are listed on the Toronto Stock Exchange (the TSX).
26. The Banks are among the largest public issuers in Canada.
Rationale for Investment
27. The Filer notes that, in respect of the Funds, each Fund's strategy to acquire securities of an applicable Bank is, or will be, transparent, passive, and fully disclosed to investors. The Funds will not invest in securities other than the Shares (or other securities designed to gain exposure to the Shares as described herein). BKCL may also obtain exposure to a covered call option writing program through its investments in BKCC in accordance with its investment objectives.
28. Given the composition of the Index, it would be impossible for the Funds to achieve their investment objectives and pursue their investment strategies without obtaining relief from the Concentration Restriction.
29. The units of the Funds are, or will be, highly liquid securities, as designated brokers act as intermediaries between investors and a Fund, standing in the market with bid and ask prices for the units of the Fund to maintain a liquid market for the units of the Fund. The majority of trading in units of the Funds will occur in the secondary market.
30. The Exemption Sought is sought to permit the Funds to purchase Shares or securities of investment funds, or enter into specified derivatives transactions in connection therewith, such that, immediately after the transaction, more than 10% (in the case of BKCC), or more than 20% (in the case of BNKL and BKCL) of its net assets would be invested in and/or exposed to the Shares of one Bank for the purposes of determining compliance with the Concentration Restriction (the Proposed Transactions).
31. In addition, BNKL and BKCL have been structured as "alternative mutual funds" for purposes of NI 81-102, which is associated with investment funds that already permit higher levels of concentration under section 2.1 of NI 81-102.
32. Neither the Filer nor any Fund is in default of any of its obligations under securities legislation in any of the Jurisdictions (other than BKCC in respect of the Exemption Sought).
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 Proposed Transactions are in accordance with the investment objectives and investment strategies of the Funds;
(b) each Fund's investment strategies disclose that, following a Rebalance Date, each Fund will be invested in the Banks in equal weights. Outside of a Rebalance Date, any investments by each Fund, if any, will be such that exposure to securities of each applicable Bank is acquired up to the same weights as the exposure to the Bank securities exists in each Fund's portfolio, based on their relative market values at the time of such investment;
(c) each Fund's investment strategies disclose that the Fund's portfolio will be rebalanced as of each Rebalance Date, as described in paragraph 22 above; and
(d) the final prospectus of the Funds includes: (i) disclosure regarding the Exemption Sought under the heading "Exemptions and Approvals"; and (ii) a risk factor regarding the concentration of the Funds' investments in the Banks and the risks associated therewith.
"Darren McKall"
Manager
Investment Funds & Structured Products Branch
Ontario Securities Commission
Application File #: 2023/0277
SEDAR File #: 3550696