Fidelity Investments Canada ULC

Decision

National Policy 11-203 Process for Exemptive Relief Applications in Multiple Jurisdictions – Relief granted from subsection 2.1(1) and paragraphs 2.2(1)(a), 2.5(2)(a), (b), (c), and (e) and 2.6(a)(i) of National Instrument 81-102 Investment Funds to allow mutual funds to invest in ETFs and to allow the top funds to pay brokerage commissions for the purchase and sale of the securities of the underlying ETFs – Underlying ETFs are subject to NI 81-102 – Relief subject to terms and conditions based on investment restrictions of NI 81-102 such that top funds cannot do indirectly via investment in underlying ETFs what they cannot do directly under NI 81-102.

Applicable Legislative Provisions

National Instrument 81-102 Investment Funds, ss. 2.1(1), 2.2(1)(a), 2.5(2)(a)/(b)/(e), 2.6(a)(i), 19.1.

August 31, 2018

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
FIDELITY INVESTMENTS CANADA ULC
(the Filer)

DECISION

Background

The principal regulator in the Jurisdiction has received an application from the Filer on behalf of:

(a)           the non-exchange traded mutual funds set out in Schedule A (the Proposed Top Funds) and additional mutual funds, including exchange-traded mutual funds, that are, or may be, managed by the Filer, or an affiliate of the Filer, now or in the future (the Other Top Funds, and together with the Proposed Top Funds, the Top Funds) for a decision under the securities legislation of the principal regulator (the Legislation) that:

a.             permits each Top Fund to purchase a security of, or enter into a specified derivatives transaction with respect to a security of, an ETF (as defined below) (the Underlying ETFs and each an Underlying ETF) if the security of the Underlying ETF is not an index participation unit (IPU), as such term is defined in National Instrument 81-102 Investment Funds (NI 81-102), even though, immediately after the transaction, more than 10% of the net asset value of the Top Fund would be invested, directly or indirectly, in securities of the Underlying ETF (the Concentration Restriction);

b.             permits each Top Fund to purchase a security of an Underlying ETF that is not an IPU such that, after the purchase, the Top Fund would hold securities representing more than 10% of:

i.              the votes attaching to the outstanding voting securities of the Underlying ETF; or

ii.             the outstanding equity securities of the Underlying ETF

(the Control Restriction);

c.             permits each Top Fund to purchase and hold a security of an Underlying ETF that is not an IPU that is not offered under a simplified prospectus prepared in accordance with National Instrument 81-101 Mutual Fund Prospectus Disclosure (NI 81-101) (the Fund of Fund Restriction); and

d.             permits each Top Fund to pay brokerage commissions in relation to its purchase and sale on the TSX (as defined below) or another Marketplace (as defined below) of securities of the Underlying ETFs that are not IPUs (the Payment of Fees Restrictions),

(collectively, the Underlying Fund Exemptions);

(b)           the Top Funds for a decision under the Legislation that permits each Top Fund to invest in securities of an Underlying ETF that may or may not be IPUs which may, at the time of the purchase, hold more than 10% of its net asset value in securities of another Underlying ETF that are not IPUs (the Third-Tier ETFs and each a Third-Tier ETF) (the Third-Tier ETF Exemption); and

(c)           the exchange-traded mutual funds set out in Schedule B (the Proposed ETFs) and such other exchange-traded mutual funds as may be managed by the Filer, or an affiliate of the Filer, in the future (the Future ETFs, and together with the Proposed ETFs, the ETFs and each an ETF) for a decision under the Legislation that permits each ETF to borrow cash from the custodian of the ETF (the Custodian) and, if required by the Custodian, to provide a security interest over any of its portfolio assets as a temporary measure to fund the portion of any distribution payable to Securityholders (as defined below) that represents, in the aggregate, amounts that are owing to, but not yet been received by, the ETF (the Borrowing Exemption).

The Underlying Fund Exemptions, the Third-Tier ETF Exemption and the Borrowing Exemption are collectively 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 this application; and

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

Interpretation

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

Affiliate Dealer means a registered dealer that is an affiliate of an Authorized Dealer or Designated Broker and that participates in the re-sale of Creation Units (as defined below) from time to time.

Authorized Dealer means a registered dealer that has entered, or intends to enter, into an agreement with the manager of an ETF authorizing the dealer to subscribe for, purchase and redeem Creation Units from one or more ETFs on a continuous basis from time to time.

Basket of Securities means, in relation to the Listed Securities of an ETF, a group of securities identified from time to time that collectively reflect the constituents of the portfolio of an ETF.

Designated Broker means a registered dealer that has entered, or intends to enter, into an agreement with the manager of an ETF to perform certain duties in relation to the ETF, including the posting of a liquid two-way market for the trading of the ETF’s Listed Securities on the TSX or another Marketplace.

ETF Facts means a prescribed summary disclosure document in respect of one or more classes or series of Listed Securities being distributed under a prospectus.

Form 41-101F2 means Form 41-101F2 Information Required in an Investment Fund Prospectus.

Listed Securities means a series of securities of an ETF distributed pursuant to a long form prospectus prepared pursuant to NI 41-101 and Form 41-101F2 that is listed on the TSX or another Marketplace.

Marketplace means a “marketplace” as defined in National Instrument 21-101 Marketplace Operation that is located in Canada.

NI 41-101 means National Instrument 41-101 General Prospectus Requirements.

Other Dealer means a registered dealer that acts as authorized dealer or designated broker to exchange-traded funds that are not managed by the Filer and that has received relief under a Prospectus Delivery Decision.

Prescribed Number of Listed Securities means the number of Listed Securities of an ETF determined by the Filer from time to time for the purpose of subscription orders, exchanges, redemptions or for other purposes.

Prospectus Delivery Decision means a decision granting relief from the Prospectus Delivery Requirement to a Designated Broker, Authorized Dealer, Affiliate Dealer or Other Dealer dated August 24, 2015 and any subsequent decision granted to a Designated Broker, Authorized Dealer, Affiliate Dealer or Other Dealer that grants similar relief.

Prospectus Delivery Requirement means the requirement that a dealer, not acting as agent of the purchaser, who receives an order or subscription for a security offered in a distribution to which the prospectus requirement of the Legislation applies, send or deliver to the purchaser or its agent, unless the dealer has previously done so, the latest prospectus and any amendment either before entering into an agreement of purchase and sale resulting from the order or subscription, or not later than midnight on the second business day after entering into that agreement.

Securityholders means beneficial or registered holders of Listed Securities or Unlisted Securities (as defined below) as applicable.

Unlisted Securities means a series of securities of an ETF offered only on a private placement basis pursuant to available prospectus exemptions, including the accredited investor exemption, under securities laws.

Representations

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

The Filer

1.             The Filer is a corporation continued under the laws of the Province of Alberta with its head office located in Toronto, Ontario.

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

3.             The Filer, or an affiliate of the Filer, is, or will be, the investment fund manager of the Top Funds and the ETFs and is, or will be, the trustee of the Top Funds and the ETFs where the Top Fund or the ETF is a trust.

4.             The Filer is not in default of securities legislation in any of the Jurisdictions.

The Top Funds

5.             The Top Funds are, or will be, open-ended mutual funds, including exchange-traded funds, organized and governed by the laws of a Jurisdiction or the laws of Canada.

6.             The Top Funds are, or will be, governed by the provisions of NI 81-102, subject to any exemption therefrom that has been, or may be, granted by the securities regulatory authorities.

7.             Each Top Fund distributes, or will distribute, some or all of its securities pursuant to a simplified prospectus prepared pursuant to NI 81-101 and Form 81-101F1 Contents of Simplified Prospectus or a long form prospectus prepared pursuant to NI 41-101 and Form 41-101F2.

8.             The Top Funds are, or will be, reporting issuers in the Jurisdictions in which their securities are distributed.

9.             Each Top Fund wishes to have the ability to invest up to 100% of its net asset value in the securities of one or more Underlying ETFs that are not IPUs.

10.          The Top Funds do not, and will not, sell short securities of any Underlying ETF.

The ETFs

11.          Each Proposed ETF will be a mutual fund structured as a trust that is governed by the laws of the Province of Ontario. The Future ETFs will be either trusts or corporations or classes thereof governed by the laws of a Jurisdiction or the laws of Canada.

12.          Each ETF will be an open-ended mutual fund subject to NI 81-102, subject to any exemption therefrom that has been, or may be, granted by the securities regulatory authorities.

13.          No ETF will be a commodity pool governed by National Instrument 81-104 Commodity Pools (NI 81-104).

14.          No ETF will have a net market exposure greater than 100% of its net asset value.

15.          Each ETF may issue more than one series of securities, including, but not limited to:

a.             Listed Securities; and

b.             Unlisted Securities.

16.          The Listed Securities of the ETFs may be IPUs if they:

a.             hold securities that are included in a specified widely quoted index in substantially the same proportion as those securities are reflected in that index; or

b.             invest in a manner that causes the ETF to replicate the performance of that index.

17.          The Unlisted Securities of the ETFs will not be IPUs, since they will not be listed on a stock exchange in Canada or the United States.

18.          The Filer has filed a long form prospectus prepared in accordance with NI 41-101 in respect of the Listed Securities of the ETFs, subject to any exemptions that may be granted by the applicable securities regulatory authorities.

19.          Because the Listed Securities will be distributed pursuant to a long form prospectus prepared pursuant to NI 41-101 and Form 41-101F2, each ETF will be a reporting issuer in the Jurisdictions in which its securities are distributed.

20.          The Listed Securities will be listed on the TSX or another Marketplace.

21.          The net asset value per Listed Security will be calculated on any day when there is a trading session on the TSX or other Marketplace and will be made available daily on the Filer’s website.

22.          Listed Securities will be distributed on a continuous basis in one or more of the Jurisdictions under a prospectus. Listed Securities may generally only be subscribed for or purchased directly from the ETFs (Creation Units) by Authorized Dealers or Designated Brokers. Generally, subscriptions or purchases may only be placed for a Prescribed Number of Listed Securities (or a multiple thereof) on any day when there is a trading session on the TSX or other Marketplace. Authorized Dealers or Designated Brokers subscribe for Creation Units for the purpose of facilitating investor purchases of Listed Securities on the TSX or another Marketplace.

23.          In addition to subscribing for and re-selling Creation Units, Authorized Dealers, Designated Brokers and Affiliate Dealers will also generally be engaged in purchasing and selling Listed Securities of the same class or series as the Creation Units in the secondary market. Other Dealers may also be engaged in purchasing and selling Listed Securities of the same class or series as the Creation Units in the secondary market despite not being an Authorized Dealer, Designated Broker or Affiliate Dealer.

24.          Each Designated Broker or Authorized Dealer that subscribes for Creation Units must deliver, in respect of each Prescribed Number of Listed Securities to be issued, payment consisting of, in the Filer’s discretion, a Basket of Securities and cash, cash only or securities other than Baskets of Securities and cash in an amount sufficient so that the value of the Basket of Securities and cash, cash or securities and cash delivered is equal to the net asset value of the Listed Securities subscribed for next determined following the receipt of the subscription order.

25.          Upon notice given by the Filer from time to time and, in any event, not more than once quarterly, a Designated Broker may be contractually required to subscribe for Creation Units of an ETF for cash in an amount not to exceed a specified percentage of the net asset value of the ETF or such other amount established by the Filer.

26.          The Designated Brokers and Authorized Dealers will not receive any fees or commissions in connection with the issuance of Creation Units to them. On the issuance of Creation Units, the Filer or the ETF may, in the Filer’s discretion, charge a fee to a Designated Broker or an Authorized Dealer to offset the expenses incurred in issuing the Creation Units.

27.          Each ETF will appoint a Designated Broker to perform certain other functions, which include standing in the market with a bid and ask price for Listed Securities for the purpose of maintaining liquidity for the Listed Securities.

28.          Except for Authorized Dealer and Designated Broker subscriptions for Creation Units, as described above, and other distributions that are exempt from the Prospectus Delivery Requirement under the Legislation, Listed Securities generally will not be able to be purchased directly from an ETF. Investors are generally expected to purchase and sell Listed Securities, directly or indirectly, through dealers executing trades through the facilities of the TSX or another Marketplace. Listed Securities may also be issued directly to Securityholders upon a reinvestment of distributions of income or capital gains.

29.          Securityholders that are not Designated Brokers or Authorized Dealers that wish to dispose of their Listed Securities may generally do so by selling their Listed Securities on the TSX or other Marketplace, through a registered dealer, subject only to customary brokerage commissions. A Securityholder that holds a Prescribed Number of Listed Securities or multiple thereof may exchange such Listed Securities for, in the discretion of the Filer, Baskets of Securities and cash, cash or other securities and cash. Securityholders may also redeem Listed Securities for cash at a redemption price equal to 95% of the closing price of the Listed Securities on the TSX or other Marketplace on the date of redemption, subject to a maximum redemption price of the applicable net asset value per Listed Security.

30.          Holders of Unlisted Securities of an ETF may redeem Unlisted Securities of an ETF in any number for cash at a redemption price per Unlisted Security equal to the net asset value per Unlisted Security of the ETF on the effective day of redemption.

Fund of Fund Investments

31.          The investment objective of each Top Fund will disclose that the Top Fund seeks to provide a return that is similar to its corresponding Underlying ETF by investing all or substantially all of its assets in securities of the Underlying ETF. Certain Underlying ETFs may invest all or substantially all of their assets in the securities of a Third-Tier ETF, which Third-Tier ETF will be named in the investment strategies of those Underlying ETFs.

32.          The ultimate investment strategies and performance achieved by each Underlying ETF that invests in a Third Tier ETF will be similar to the investment strategies and performance of the Third Tier ETF, except that the Underlying ETF may use derivatives to hedge against the exposure between two currencies, the cost of which will generally result in a lower return for the Underlying ETF as compared to the Third Tier ETF.

33.          An investment in an Underlying ETF by a Top Fund should pose little investment risk to the Top Fund because the Underlying ETF and any corresponding Third Tier ETF are both subject to NI 81-102, subject to any exemption therefrom that has been, or may in the future be, granted by the securities regulatory authorities.

34.          Each investment by a Top Fund in an Underlying ETF will be made in accordance with the investment objectives of the Top Fund and will represent the business judgement of responsible persons uninfluenced by considerations other than the best interest of the Top Fund.

35.          No Underlying ETF or Third-Tier ETF will pay management or incentive fees which to a reasonable person would duplicate a fee payable by the applicable Top Fund for the same service.

36.          All brokerage costs related to trades in Listed Securities will be borne by the Top Funds in the same manner as any other portfolio transactions made on the exchange.

37.          The Listed Securities are highly liquid, as the Designated Broker acts as an intermediary between investors and each ETF, standing in the market with bid and ask prices for such Listed Securities to maintain a liquid market for them.

38.          Each Top Fund and each ETF is, or will be, subject to National Instrument 81-107 Independent Review Committee for Investment Funds (NI 81-107) generally and in respect of conflicts of interest matters arising from trades of securities of an Underlying ETF.

39.          If a Top Fund makes a trade in securities of an ETF with or through the Filer or an affiliate of the Filer acting as dealer, the Filer will comply with its obligations under NI 81-107 in respect of any proposed related party transactions. All such related party transactions will be disclosed to securityholders of the relevant Top Fund in its management report of fund performance.
40.          If a Top Fund invests all or substantially all of its assets in securities of an Underlying ETF that invests all or substantially all of its assets in the securities of a Third Tier ETF, the Top Fund will comply with the requirement under National Instrument 81-106 Investment Fund Continuous Disclosure relating to the top 25 positions portfolio holdings disclosure in its management report of fund performance and the requirements of Form 81-101F3 Contents of Fund Facts Document relating to top 10 position portfolio holdings disclosure in its fund facts as if the Top Fund were investing directly in the Third Tier ETF.

Third Tier ETFs

41.          Absent the Third-Tier ETF Exemption, an investment by a Top Fund in an Underlying ETF that invests substantially all of its assets in the securities of a Third-Tier ETF that are not IPUs would be prohibited by paragraph 2.5(2)(b) of NI 81-102, as more than 10% of the net asset value of the Underlying ETF would be invested in securities of other investment funds that are not IPUs.

42.          An investment by a Top Fund in an Underlying ETF may not qualify for the exception in paragraph 2.5(4)(a) of NI 81-102, as the Underlying ETF may not meet the strict definition of “clone fund” where such Underlying ETF has not adopted a fundamental investment objective to track the performance of another investment fund. NI 81-102 defines a “clone fund” to mean an “investment fund that has adopted a fundamental investment objective to track the performance of another investment fund”.

43.          Other than the fact that the Underlying ETF’s investment objective does not specifically state that it will track the performance of another investment fund, the Underlying ETF would satisfy the definition of “clone fund”, as it has adopted a fundamental investment objective akin to its corresponding Third-Tier ETF, except that the Underlying ETF may use derivatives to hedge against the exposure between two currencies. In this decision, such an Underlying ETF is referred to as a “Technical Clone Fund”.

44.          In addition, the Top Fund will, itself, be a “clone fund”, as its investment objective will be to track its corresponding Underlying ETF.

45.          The Filer submits that to the extent that a Top Fund is a clone fund and the corresponding Underlying ETF is a Technical Clone Fund, a three-tier “fund-on-fund” structure should be permissible.

Borrowing Requirement

46.          Section 2.6(a)(i) of NI 81-102 prevents a mutual fund from borrowing cash or providing a security interest over its portfolio assets unless the transaction is a temporary measure to accommodate redemption requests or to settle portfolio transactions and does not exceed five percent of the net assets of the mutual fund. As a result, an ETF is not permitted under section 2.6(a)(i) to borrow from the Custodian to fund distributions under the Distribution Policy (as defined below).

47.          Each ETF will make distributions on a monthly basis or at such frequency as the Filer may, in its discretion, determine appropriate, may make additional distributions and, in each taxation year, will distribute sufficient net income and net realized capital gains so that it will not be liable to pay income tax under Part I of the Income Tax Act (Canada) (collectively, the Distribution Policy).

48.          Amounts included in the calculation of net income and net realized capital gains of an ETF for a taxation year that must be distributed in accordance with the Distribution Policy sometimes include amounts that are owing to but have not actually been received by the ETF from the issuers of securities held in the ETF’s portfolio (Issuers).

49.          While it is possible for an ETF to maintain a portion of its assets in cash or to dispose of securities in order to obtain any cash necessary to make a distribution in accordance with the Distribution Policy, maintaining such a cash position or making such a disposition (which would generally be followed, when the cash is actually received from the Issuers, by an acquisition of the same securities) impacts the ETF’s performance. Maintaining assets in cash or disposing of securities means that a portion of the net asset value of the ETF is not invested in accordance with its investment objective.

50.          The Filer is of the view that it is in the interests of an ETF to have the ability to borrow cash from the Custodian and, if required by the Custodian, to provide a security interest over its portfolio assets as a temporary measure to fund the portion of any distribution payable to Securityholders that represents, in the aggregate, amounts that are owing to, but have not yet been received by, the ETF from the Issuers. While such borrowing will have a cost, the Filer expects that such costs will be less than the reduction in the ETF’s performance if the ETF had to hold cash instead of securities in order to fund the distribution.

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.

1.             The decision of the principal regulator under the Legislation is that the Exemption Sought in respect of the Underlying Fund Exemptions is granted, provided that the Filer will be in compliance with the following conditions:

a.             the investment by a Top Fund in securities of an Underlying ETF is in accordance with the investment objectives of the Top Fund;

b.             a Top Fund does not short sell securities of an Underlying ETF;

c.             the Underlying ETF is not a commodity pool governed by NI 81-104;

d.             other than exemptive relief granted in favour of an Underlying ETF, the Underlying ETF complies with the requirements of:

i.              section 2.3 of NI 81-102 regarding the purchase of physical commodities;

ii.             sections 2.7 and 2.8 of NI 81-102 regarding the purchase, sale or use of specified derivatives; and

iii.            subsections 2.6(a) and 2.6(b) of NI 81-102 with respect to the use of leverage;

e.             in connection with the Exemption Sought from the Concentration Restriction, the Top Fund shall, for each investment it makes in the securities of an Underlying ETF, apply, to the extent applicable, subsections 2.1(3), 2.1(4) and 2.1(5) of NI 81-102 as if those provisions applied to a Top Fund’s investments in securities of an Underlying ETF, and, accordingly, limit a Top Fund’s indirect holdings in securities of an issuer held by one or more Underlying ETFs as required by, and in accordance with, sections 2.1(3), 2.1(4) and 2.1(5) of NI 81-102;

f.              the investment by a Top Fund in securities of an Underlying ETF is made in accordance with section 2.5 of NI 81-102, with the exception of paragraph 2.5(2)(a) and, in respect only of brokerage fees incurred for the purchase and sale of Underlying ETFs by a Top Fund, paragraph 2.5(2)(e) of NI 81-102; and

g.             the prospectus of each Top Fund discloses, or will disclose in the next renewal of its prospectus after the date of this decision, the fact that the Top Fund has obtained the Exemption Sought in respect of the Underlying Fund Exemptions.

2.             The decision of the principal regulator under the Legislation is that the Exemption Sought in respect of the Third Tier ETF Exemption is granted, provided that:

a.             the investment by a Top Fund in securities of an Underlying ETF is in accordance with the investment objectives of the Top Fund;

b.             a Top Fund does not invest in securities of an Underlying ETF that in turn invests more than 10% of its net asset value in securities of another investment fund unless the other investment fund is the Third Tier ETF that is identified in the investment strategies of the Underlying ETF;

c.             the Underlying ETF is a Technical Clone Fund; and

d.             the prospectus of each Top Fund discloses, or will disclose in the next renewal of its prospectus after the date of this decision, the fact that the Top Fund has obtained the Exemption Sought in respect of the Third Tier ETF Exemption.

3.             The decision of the principal regulator under the Legislation is that the Exemption Sought from the Borrowing Requirement is granted, provided that the Filer will be in compliance with the following conditions:

a.             the borrowing by an ETF in respect of a distribution does not exceed the portion of the distribution that represents, in the aggregate, amounts that are payable to the ETF but have not been received by the ETF from the Issuers and, in any event, does not exceed five percent of the net assets of the ETF;

b.             the borrowing is not for a period longer than 45 days;

c.             any security interest in respect of the borrowing is consistent with industry practice for the type of borrowing and is only in respect of amounts owing as a result of the borrowing;

d.             an ETF does not make any distribution to Securityholders where the distribution would impair the ETF’s ability to repay any borrowing to fund distributions; and

e.             the final prospectus of the ETFs discloses the potential borrowing, the purpose of the borrowing and the risks associated with the borrowing.

“Darren McKall”
Manager
Investment Funds and Structured Products Branch
Ontario Securities Commission

 

SCHEDULE A

PROPOSED TOP FUNDS

Fidelity Canadian High Dividend Index ETF Fund
Fidelity U.S. High Dividend Index ETF Fund
Fidelity U.S. High Dividend Currency Neutral Index ETF Fund
Fidelity U.S. Dividend for Rising Rates Index ETF Fund
Fidelity U.S. Dividend for Rising Rates Currency Neutral Index ETF Fund
Fidelity International High Dividend Index ETF Fund


SCHEDULE B

PROPOSED ETFS

Fidelity Canadian High Dividend Index ETF
Fidelity U.S. Dividend for Rising Rates Index ETF
Fidelity U.S. Dividend for Rising Rates Currency Neutral Index ETF
Fidelity U.S. High Dividend Index ETF
Fidelity U.S. High Dividend Currency Neutral Index ETF
Fidelity International High Dividend Index ETF