Winter 2016

OSFI 2014-2015 Annual Report

On December 9, 2015, OSFI Annual Report 2014-2015 was tabled in the House of Commons. The Report is a key component of OSFI's accountability framework and provides a summary of OSFI's performance against annual priorities and achievements. Following is a brief excerpt from the Superintendent's message in the Report:

In 2014/15, OSFI undertook a number of initiatives to further strengthen Canada's system of financial regulation and supervision.

With a view to reinforcing prudent mortgage insurance underwriting, in November 2014 OSFI issued the Residential Mortgage Insurance Underwriting Practices and Procedures guideline, following extensive consultation with the industry. The Guideline enhances disclosure practices for mortgage insurers and outlines sound risk management principles, including setting prudent requirements for lenders and applying appropriate due diligence to lenders' practices. As mortgages form the major portion of Canadian household debt, this is an important area of OSFI oversight. This is particularly true in the current low-interest rate environment; given the potential impact rising rates would have on household debt levels.

We also continued to monitor the global economy, with a special emphasis on assessing the potential impact of various events on the risk profiles of federally regulated financial institutions and pension plans. There remain a number of potential risks to continued global economic recovery, including sovereign debt issues and low growth. Further, the International Monetary Fund (IMF) has noted that protracted low inflation, or even deflation, pose risks in some advanced economies.

OSFI does not work in isolation. Canada's strong regulatory regime is a result of the cooperation and collaboration that exists among our government partners, who are the Bank of Canada, the Department of Finance, Canada Deposit Insurance Corporation, and the Financial Consumer Agency of Canada. This collaboration was highlighted in the 2014 report of the IMF's Financial Sector Assessment Program review of Canada, which spoke favourably of the effectiveness of the oversight of Canada's financial system.

View the full Report. 

Mark Zelmer's remarks to the C.D. Howe Institute

On December 8, 2015, Deputy Superintendent Mark Zelmer delivered remarks to the C.D. Howe Institute in Toronto, on the topic of Asset Managers and Global Financial Stability. Following are some key excerpts:

The spotlight of global regulatory reform has been shining brightly on the banking community for many years now. Banks around the world have been required to shore up capital and liquidity positions and tighten up governance and risk management practices in the wake of the worst financial crisis since the great depression. While the reform spotlight continues to have banks firmly in its sights, it is also actively probing the shadows of the financial system. More attention is now being paid to other types of financial entities that manage large sums of money. Today, I am going to focus on one group in particular, the managers of large investment funds commonly referred to as global asset managers.

Asset managers are very different from banks and insurance companies. That statement may seem blatantly obvious to many of you, but the distinction matters because it means asset managers and their investment funds pose different financial stability issues than do banks and insurance companies.

The asset management sector is not immune to stress that can spark global financial stability concerns. The collapse in 1998 of Long-Term Capital Management (a leveraged hedge fund) disrupted many important debt markets in the US and other countries, and some U.S. money market funds were important contributors to the global financial crisis in 2008. Much has been done to address the underlying issues that led to broader system-wide stress in those cases, but we would be remarkably naïve and complacent if we assumed that we have nothing more to worry about in this sector going forward.

The first topic I would like to address relates to liquidity mismatches. Combining less liquid investments with short-notice redemption features for fund units gives rise to a potential misalignment between the redeemability of investment fund units versus the actual liquidity of their underlying investments.

The second area I want to highlight is the issue of leverage. Investment fund reliance on leverage is another potentially important structural vulnerability in the asset management sector. While mutual funds are already prevented by existing regulations from issuing debt or assuming more than a modest amount of leverage, many private funds, like hedge funds, use leverage in the form of short-term debt or repo financing to boost investment returns.

The third potential vulnerability I want to highlight focuses on the challenges of replacing asset managers. Now, let me stress at the outset that the asset management industry has plenty of experience in transferring investment mandates from one asset manager to another, with no disruptions to markets or other parts of the financial system. A lot of credit is due to the asset managers in question, their advisers, custodians and the firms that specialize in providing transition services. But, if you take a snapshot of the global asset management sector at any point in time, you will see a small group of asset managers that clearly stands out from the rest in terms of the amount of assets they have under management.

What I have done today is … illuminate three possible structural vulnerabilities in the asset management sector and how they might conceivably play out in practice in global financial stability terms. But this project is a work in progress. Work is currently underway to assess the materiality of all five vulnerabilities flagged by the Financial Stability Board because of their potential impact on the functioning of the global financial system were they to crystalize.

For a complete copy of the speech, view the full remarks.

Neville Henderson's remarks to the 2015 Life Insurance Invitational Forum

On December 1, 2015, Assistant Superintendent Neville Henderson delivered remarks to the 2015 Life Insurance Invitational Forum in Cambridge, Ontario. Following are some key excerpts:

As you are painfully aware, the global financial crisis hit all sectors of the economy hard, but it was particularly harsh for financial institutions.

Insurers, however, are not typically victim to a crisis that causes a run-on-the bank type of event due to the long term nature of their liabilities and their conservative reserves. The issues that affect insurers are generally slower to develop, but once established, take a long time to correct.

Nonetheless, there have been significant changes to the insurance capital frameworks and the increase in regulatory requirements has increased the cost of doing business around the world.

On the domestic front, we are still on track to implement OSFI's new life insurance regulatory capital framework in 2018. The new capital framework will provide a superior risk based assessment methodology for determining capital requirements. The new test will make use of more current analysis and methodologies as well as explicitly taking into account mitigating actions and diversification benefits. It will allow our capital requirements to remain state of the art compared to those of other jurisdictions.

While work continues on the domestic front, there are also developments in standards for internationally active insurers. OSFI looks carefully at the Canadian marketplace and Canadian requirements before deciding whether to adopt international standards. We will take insurance capital standard into consideration as we fine tune our current capital tests. The work we do on the OSFI life insurance framework already includes many of the changes stemming from these international standards and we don't expect ICS 1.0 to be as sophisticated as our current Minimum Continuing Capital and Surplus Requirements (MCCSR) capital test.

For a complete copy of the speech, view the full remarks. 

Board Directors Consultation Findings

During the 2014-2015 fiscal year, OSFI commissioned The Strategic Counsel, an independent research firm, to conduct a confidential consultation with board directors at some of the financial institutions regulated by OSFI. The primary objective of the research was to explore the impression board members have of OSFI in the discharge of a number of key elements of its mandate as a prudential regulator.

Much of the feedback received about OSFI throughout this consultation was positive. Positive evaluations were based on perceptions that OSFI has a depth of knowledge about the companies and institutions it regulates, an understanding of issues in the marketplace, and that its interactions with regulated entities are professional and non-adversarial. Board directors observed that these characteristics are fundamental to fostering open dialogue between OSFI and the companies and institutions that it regulates.

In addition, board directors suggested that OSFI is providing value in its dealings with regulated entities. Value was often described as the sharing of best practices gained from OSFI's interactions with the companies and institutions it regulates and through its participation in the Financial Stability Board and other regulatory forums.

For a more detailed synopsis of the findings view the executive summary. 

Guidelines, and Instructions

2016 Final MCCSR Guideline

On November 27, 2015, OSFI released the final version of the 2016 Minimum Continuing Capital and Surplus Requirements (MCCSR) Guideline.

All comments and representations received were considered in preparation of the final guideline.

Key changes to the Guideline include:

• Requiring that retained earnings be adjusted for a property that is re-classified (between investment and owner-occupied and vice-versa) so that it will be the same as if the property had originally been classified into its re-classified category from the outset;
• Requiring that the deduction of non-life, solvency-regulated financial corporations be floored at zero;
• Addressing the treatment of subsidiaries that write a mixed business consisting of life and property and casualty insurance within the same legal entity;
• Requiring that a 0% credit risk factor for a foreign, public-sector entity be allowed only if the public-sector entity's sovereign is eligible for a 0% factor based on its rating;
• Reflecting the integration of advisories into the guideline.

View the final version of the Guideline.

2016 Minimum Capital Test (MCT) Guideline

On November 30, 2015, OSFI released a revised Minimum Capital Test (MCT) Guideline which takes effect on January 1, 2016 for federally regulated property and casualty (P&C) insurers. Amendments to the MCT guideline are intended to deal with identified issues, provide clarifications or reflect resolutions of comments and questions received over the past year concerning OSFI's regulatory capital treatment for property and casualty insurers.

As a result of the comments received and other queries, OSFI has made further amendments to the Guideline including:

• The introduction of two transitional measures with respect to equity derivatives, common shares held short and eligible equity hedges.
• Branches of foreign insurance companies will be allowed to include insurance receivables from federally regulated insurers and approved reinsurers in net assets available in the Branch Adequacy of Assets Test (BAAT), subject to conditions.

View the revised Guideline.

Property and Casualty Demutualization Guide

On December 29, 2015, OSFI released the Guide for the Demutualization of Mutual Property and Casualty Insurance Companies with Non-mutual Policyholders.

The primary purpose of this Guide is to promote awareness and enhance the transparency of the demutualization process and assessment criteria relative to the demutualization of a mutual property and casualty insurance company (MPCC). The Guide describes the regulatory requirements relating to the demutualization of an MPCC and sets out the information that must be provided to OSFI at each phase of the demutualization process.

OSFI's primary responsibility throughout the demutualization process is to review and assess applications for regulatory approval and ultimately make recommendations to the Minister with respect to the approval of the conversion proposal and the issuance of letters patent of conversion.

View the Property and Casualty Demutualization Guide.

Ruling – Demutualization – Eligible Policyholders

On November 27, 2015, OSFI released its Ruling on eligible policyholders as they relate to demutualization of property and casualty companies. The issue is whether, for the purpose of the Mutual Property and Casualty Insurance Company with Non-mutual Policyholders Conversion Regulations (the Regulations), a person who is an eligible policyholder on the eligibility date must hold the applicable policy past the eligibility date to permanently become an eligible policyholder.

View the entire Ruling.

Private Pension Plans - Updates

OSFI Pension Members' Guide 2016

On January 5, 2015, OSFI released the Pension Members' Guide 2016.

This Guide explains, in general terms, some of the minimum standards that apply to all private pension plans that are registered or filed for registration under the Pension Benefits Standards Act, 1985 (PBSA). This Guide replaces the previous version that was issued in June 2009 and includes updates to reflect amendments made to the PBSA and the Pension Benefits Standards Regulations, 1985 ( Regulations) in 2010, 2011 and 2014.

This Guide does not cover pooled registered pension plans.

View the 2016 Pension Members' Guide.

Newsletter – InfoPensions, Issue 14

On November 18, 2015, OSFI released Issue 14 of its newsletter on issues related to federally regulated private pension plans, InfoPensions.

InfoPensions includes announcements and reminders on issues relevant to federally regulated private pension plans as well as descriptions of how OSFI applies selected provisions of the Pension Benefits Standards Act, 1985 (PBSA), its regulations and directives and OSFI guidance.

View the InfoPensions Newsletter.

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The OSFI Pillar is published by the Communications Division of the Office of the Superintendent of Financial Institutions Canada.

For more information on the articles in this issue, or to provide feedback, please e-mail OSFI Communications at: communications@osfi-bsif.gc.ca.

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