U.S. regulated firm exempted from dealer registration under paragraph 25(1) of the Act for its provision of various "prime brokerage services" (which do not include the execution of trades) -- Exemption limited to trades in Canadian securities for certain (institutional) permitted clients -- Exemption is subject to a sunset clause.
Applicable Legislative Provisions
Securities Act, R.S.O. 1990, c. S.5, as am., ss. 1(1), 19, 19(1), 19(2), 25(1), 74(1).
Multilateral Instrument 11-102 Passport System, ss. 4.7, 4.7(1).
National Instrument 14-101 Definitions.
National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations, ss. 1.1, 8.5, 8.18, 8.18(2), 8.21, Form 31-103F1 Calculation of Excess Working Capital.
National Instrument 81-102 Investment Funds, Part 6.
Ontario Securities Commission Rule 13-502 Fees.
May 31, 2019
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 JEFFERIES LLC (the Filer)
The principal regulator in the Jurisdiction has received an application from the Filer (the Application) for a decision under the securities legislation of the Jurisdiction (the Legislation) exempting the Filer from the dealer registration requirement in the Legislation in respect of Prime Services (as defined below) relating to Canadian securities (as defined below) that it provides in Canada to Institutional Permitted Clients (as defined below) (the Exemption Sought).
Under the Process for Exemptive Relief Applications in Multiple Jurisdictions (for a passport application):
(a) the Ontario Securities Commission (OSC) 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 each of the other provinces and territories of Canada in which the Filer relies on the exemption the dealer registration requirement in section 8.18 [international dealer] of National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations (NI 31-103) other than the province of Alberta (the Passport Jurisdictions and together with the Jurisdiction, the Jurisdictions).
Terms defined in National Instrument 14-101 Definitions and MI 11-102 [international dealer] have the same meaning if used in this decision, unless otherwise defined.
For the purposes of this decision, the following term has the following meaning:
"Canadian security" means a security that is not a foreign security;
"foreign security" has the meaning ascribed to that term in subsection 8.18(1) of NI 31-103;
"Institutional Permitted Client" means a "permitted client" as defined in section 1.1 of NI 31-103, except for: (a) an individual; (b) a person or company acting on behalf of a managed account of an individual; (c) a person or company referred to in paragraph (p) of that definition unless that person or company qualifies as an Institutional Permitted Client under another paragraph of that definition; or (d) a person or company referred to in paragraph (q) of that definition unless that person or company has net assets of at least $100 million as shown on its most recently prepared financial statements or qualifies as an Institutional Permitted Client under another paragraph of that definition;
"Prime Services" means any of the following: (a) settlement, clearing and custody of trades; (b) financing of long inventory; (c) lending and delivering securities on behalf of a client pursuant to a margin agreement to facilitate client short sales; (d) securities borrowing and/or lending pursuant to a securities lending agreement; and (e) reporting of positions, margin and other balances and activity. For greater clarity, Prime Services do not include execution of trades in securities.
This Decision is based on the following facts represented by the Filer:
1. The Filer is a limited liability company formed under the laws of the State of Delaware. The head office of the Filer is located in the state of New York, United States of America (U.S.). It is a wholly-owned subsidiary of Jefferies Group LLC, a Delaware limited liability company, and an indirect wholly owned subsidiary of Jefferies Financial Group Inc., a New York corporation.
2. The Filer is registered as a broker-dealer with the Securities and Exchange Commission of the U.S. (SEC) and is a member of the Financial Industry Regulatory Authority (FINRA). This registration and membership permits the Filer to provide Prime Services in the U.S.
3. The Filer is a member of the New York Stock Exchange (NYSE), the Nasdaq Stock Market and certain other securities exchanges in the U.S.
4. The Filer provides a variety of capital raising, investment banking, market making, brokerage and advisory services, including: fixed income and equity sales and research; commodities trading; foreign exchange sales; emerging markets activities; holding and financing customer accounts; clearing and settling transactions; and securities lending and derivatives dealing for governments, corporations and financial institutions. The Filer also conducts proprietary trading activities.
5. The Filer relies on section 8.18 [international dealer] of NI 31-103 to provide trade execution services and Prime Services in respect of foreign securities with Canadian resident "permitted clients" as defined in NI 31-103. The Filer is currently relying on section 8.18 in each of British Columbia, Manitoba, Ontario, Nova Scotia and Québec, and it may rely, or cease to rely, on section 8.18 in any jurisdiction at any time and from time to time.
6. The Filer provides or wishes to provide Prime Services in the Jurisdictions to Institutional Permitted Clients (the Prime Services Clients) in respect of any securities, including Canadian securities.
7. In the case of a Prime Services Client that is an investment fund subject to Part 6 of National Instrument 81-102 Investment Funds (NI 81-102), the Filer would only provide the Prime Services to the investment fund, as a sub-custodian of the investment fund in respect of portfolio assets held outside of Canada and in compliance with the securities laws applicable to the investment fund, including Part 6 of NI 81-102 and the custody requirements set out in NI 31-103.
8. Prime Services Clients seek Prime Services from the Filer in order to separate the execution of a trade from the clearing, settlement, custody and financing of a trade. This allows the Prime Services Client to use many executing brokers, without maintaining an active, ongoing custody account with each executing broker. It also allows the Prime Services Client to consolidate settlement, clearing, custody and financing of securities in an account with the Filer.
9. The Filer's Prime Services Clients directly select their executing brokers. The Filer does not require its Prime Services Clients to use specific executing brokers through which the Prime Services Client must execute trades. Prime Services Clients send trade orders to the executing broker who carries out the trade. The executing broker will be an appropriately registered dealer or a person or company relying on an exemption from the dealer registration requirement that permits such executing broker to execute the trade for the Prime Services Client.
10. The Filer provides the Prime Services after the execution of the trade, but any commitment to provide financing or to lend or borrow securities in relation to a trade may be made prior to the execution of the trade. The executing broker will communicate the trade details to a Prime Services Client and the Filer or the Filer's clearing agent, as applicable. A Prime Services Client will also communicate the trade details to the Filer. For trades executed on a Canadian marketplace, the Filer will typically need to clear and settle the trades through a participant of the Canadian depository, clearing and settlement hub, CDS Clearing and Depository Services Inc.
11. The Filer exchanges money or securities and holds the money or securities in an account for each Prime Services Client. If the Filer is clearing and settling the trade through a clearing agent, the Filer's clearing agent exchanges money or securities and holds the money or securities in an omnibus account for the Filer, which in turn maintains a record of the position held for the Prime Services Client on its books and records.
12. On or following settlement, the Filer provides the other Prime Services.
13. The Filer enters into written agreements with all of its Prime Services Clients for the provision of Prime Services.
14. The Filer is not registered as a dealer under the securities legislation of any of the Jurisdictions and, in the absence of the Exemption Sought, would not be permitted to provide the full range of Prime Services in the Jurisdictions in respect of Canadian securities without registration, except as permitted under section 8.5 [trades through or to a registered dealer] of NI 31-103, under the exemptions contained in paragraphs (a), (b) or (f) of subsection 8.18(2) [international dealer] of NI 31-103, or under section 8.21 [specified debt] of NI 31-103.
15. The Filer is subject to regulatory capital requirements under the Securities Exchange Act of 1934 (the1934 Act), specifically SEC Rule 15c3-1 Net Capital Requirements for Brokers or Dealers (SEC Rule 15c3-1) and SEC Rule 17a-5 Reports to be Made by Certain Brokers and Dealers (SEC Rule 17a-5).
16. SEC Rule 15c3-1 requires that the Filer account for any guarantee of debt of a third party in calculating its excess net capital when a loss is probable and the amount can be reasonably estimated. Accordingly, the Filer will, in the event that it provides a guarantee of any debt of a third party, take a deduction from net capital when both of the preceding conditions exist. The Filer does not guarantee the debt of any third party.
17. SEC Rule 15c3-1 is designed to provide protections that are substantially similar to the protections provided by the capital formula requirements and specifically risk adjusted capital to which dealer members of the Investment Industry Regulatory Organization of Canada (IIROC) are subject. The Filer is in compliance with SEC Rule 15c3-1 and is in compliance in all material respects with SEC Rule 17a-5. If the Filer's net capital declines below the minimum amount required, the Filer is required to notify the SEC and FINRA pursuant to SEC Rule 17a-11 Notification Provisions for Brokers and Dealers (SEC Rule 17a-11). The SEC and FINRA have the responsibility to provide oversight over the Filer's compliance with SEC Rule 15c3-1 and SEC Rule 17a-5.
18. The Filer is required to prepare and file a financial report, which includes Form X-17a-5 (the FOCUS Report) which is the financial and operational report containing a net capital calculation, and a compliance report annually with the SEC and FINRA pursuant to SEC Rule 17a-5(d). The FOCUS Report provides a more comprehensive description of the business activities of the Filer, and more accurately reflects those activities including client lending activity, than would be provided under Form 31-103F1Calculation of Excess Working Capital (Form 31-103F1). The net capital requirements computed using methods prescribed by SEC Rule 15c3-1 are based on all assets and liabilities on the books and records of a broker-dealer whereas Form 31-103F1 is a calculation of excess working capital, which is a computation based primarily on the current assets and current liabilities on the books and records of the dealer. The Filer is up-to-date in its submissions of annual reports under SEC Rule 17a-5(d), including the FOCUS Report.
19. The Filer is subject to regulations of the Board of Governors of the U.S.A. Federal Reserve Board (FRB), the SEC, and FINRA regarding the lending of money, extension of credit and provision of margin to clients (theU.S. Margin Regulations) that provide protections that are substantially similar to the protections provided by the requirements regarding the lending of money, extension of credit and provision of margin to clients to which dealer members of IIROC are subject. In particular, the Filer is subject to the margin requirements imposed by the FRB, including Regulation T, and under applicable SEC rules and under FINRA Rule 4210. The Filer is in compliance in all material respects with applicable U.S. Margin Regulations.
20. The Filer holds customer assets in accordance with Rule 15c3-3 of the 1934 Act, as amended (SEC Rule 15c3-3). SEC Rule 15c3-3 requires the Filer to segregate and keep segregated all "fully-paid securities" and "excess margin securities" (as such terms are defined in SEC Rule 15c3-3) of its customers from its proprietary assets. In addition to the segregation of customers' securities, SEC Rule 15c3-3 requires the Filer to deposit an amount of cash or qualified government securities determined in accordance with a reserve formula set forth in SEC Rule 15c3-3 in an account entitled "Special Reserve Account for the Exclusive Benefit of Customers" of the Filer at separate banks and/or custodians. The combination of segregated securities and cash reserve are designed to ensure that the Filer has sufficient assets to cover all net equity claims of its customers and provide protections that are substantially similar to the protections provided by requirements applicable to dealer members of IIROC. If the Filer fails to make an appropriate deposit, the Filer is required to notify the SEC and FINRA pursuant to SEC Rule 15c3-3(i). The Filer is in material compliance with the possession and control requirements of SEC Rule 15c3-3.
21. The Filer is a member of the Securities Investors Protection Corporation (SIPC) and, subject to the eligibility criteria of SIPC, Prime Services Clients' assets held by the Filer are insured by SIPC against loss due to insolvency.
22. The Filer is in compliance in all material respects with U.S. securities laws. The Filer is not in default of the securities legislation of any jurisdiction of Canada.
23. The Filer submits that the Exemption Sought would not be prejudicial to the public interest because:
(a) the Filer is regulated as a broker-dealer under the securities legislation of the U.S., and is subject to the requirements listed in paragraphs 15 to 21;
(b) the availability of and access to Prime Services in respect of any securities, including in respect of securities of Canadian issuers under the Exemption Sought, is important to Canadian institutional investors who are active participants in the international marketplace;
(c) the Filer will provide Prime Services under the Exemption Sought only to Institutional Permitted Clients;
(d) the OSC has entered into a memorandum of understanding with the SEC regarding mutual assistance in the supervision and oversight of regulated entities that operate on a cross-border basis in the U.S. and Canada; and
(e) the OSC has entered into a memorandum of understanding with FINRA to provide a formal basis for the exchange of regulatory information and investigative assistance.
24. At the request of the Alberta Securities Commission, the Filer will not rely on subsection 4.7(1) of MI 11-102 to passport this decision into Alberta.
25. The Filer is a "market participant" as defined under subsection 1(1) of the Securities Act (Ontario)(the OSA). As a market participant, among other requirements, the Filer is required to comply with the record-keeping and provision of information provisions in section 19 of the OSA, which includes: in subsection 19(1), a requirement to keep such books, records and other documents as are necessary for the proper recording of its business transactions and financial affairs and the transactions it executes on behalf of others; and, in subsection 19(2), a requirement to deliver such books, records and other documents to the OSC, if required by the OSC.
26. In connection with this Application, the Filer has provided the OSC with a notice that incorporates by reference the disclosures made by the Filer pursuant to federal securities laws of the U.S. that are identified in the FINRA BrokerCheck System, including any updates to such disclosure that may be made from time to time.
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 so long as the Filer:
(a) has its head office or principal place of business in the U.S.;
(b) is registered as a broker-dealer under the securities legislation of the U.S., which permits the Filer to provide the Prime Services in the U.S.;
(c) is a member of FINRA;
(d) is a member of SIPC;
(e) is subject to requirements over regulatory capital, lending of money, extension of credit, provision of margin, financial reporting to the SEC and FINRA, and segregation and custody of assets which provide protections that are substantially similar to the protections provided by the rules to which dealer members of IIROC are subject;
(f) limits its provision of Prime Services in the Jurisdictions in respect of Canadian securities to Institutional Permitted Clients;
(g) does not execute trades in Canadian securities with or for Prime Services Clients, except as permitted under applicable Canadian securities laws;
(h) does not require its Prime Services Clients to use specific executing brokers through which Prime Services Clients must execute trades;
(i) promptly provides notification to the OSC, in a manner reasonably acceptable to the Director of Compliance and Registrant Regulation, of any amendments to the Regulatory Action Disclosure Reporting Page of its Form BD that are filed by the Filer after the date of this decision pursuant to federal securities laws of the U.S.;
(j) submits the financial report and compliance report as described in SEC Rule 17a-5(d) to the OSC on an annual basis, at the same time such reports are filed with the SEC and FINRA;
(k) submits audited financial statements to the OSC on an annual basis, within 90 days of the Filer's financial year end;
(l) submits to the OSC immediately a copy of any notice filed under SEC Rule 17a-11 or under SEC Rule 15c3-3(i) with the SEC and FINRA;
(m) complies with the filing and fee payment requirements applicable to an unregistered capital markets participant under OSC Rule 13-502 Fees;
(n) files in an electronic and searchable format with the OSC such reports as to any or all of its trading activities in Canada as the OSC may, upon notice, require from time to time; and
(o) pays the increased compliance and case assessment costs of the OSC due to the Filer's location outside of Ontario, including, as required, the reasonable cost of hiring a third party to perform a compliance review on behalf of the OSC.
This decision shall expire five years after the date hereof.
This decision may be amended by the OSC from time to time upon prior written notice to the Filer.