No trading abuses in seg funds, says regulator

(June 21, 2005) Ontario’s insurance regulator says a recently-completed investigation reveals virtually no evidence of trading abuses, such as market timing, frequent trading or late trading, in segregated funds. Further, the Financial Services Commission of Ontario (FSCO) says the province’s insurance companies have effective controls in place to prevent such problems.

FSCO began its probe into seg funds after the Ontario Securities Commission undertook a review of the mutual fund industry.

In May, 2004, FSCO sent out a questionnaire to all life insurance companies in the province offering seg funds. The regulator then narrowed its investigation to the 10 largest firms, representing 90% of the market.

In the first stage of the investigation, the regulator “assessed the controls and procedures that life insurance companies had in place in order to prevent, detect and correct potential trading abuses.”

In phase two, FSCO reviewed the turnover rates of 653 segregated funds to test whether trading abuses were taking place.

Of the seg funds examined, 156 were found to have turnover rates above established criteria. However, FSCO obtained and reviewed the explanations from the life insurance companies and determined that there were justifiable reasons for the trading activities in each of these segregated funds except in one case (market timing) where corrective action was quickly taken.

That single case involved an individual policyholder trading his own investment and lasted only one month before it was identified by the company’s internal controls and stopped, FSCO says.

In general, insurance companies get a glowing review in the regulator’s 22-page report.

“All life insurance companies examined have written policies and procedures in place that are contained in internal manuals, policy contracts, information folders and other documents,” the report says. “To prevent late trading, life insurance companies using FundSERV, an independent fund transaction processing system, have programmed cutoffs for electronic transactions and specific manual cutoff times for transactions sent by fax or mail. Controls and deterrents to market timing and frequent trading include the imposition of fees for transactions exceeding a certain number per year, or occurring within a certain number of days of the original transaction.”

In recent months, all life insurance companies have audited their internal procedures and systems to detect the presence of inappropriate market transactions, FSCO adds. “The conclusions were that sufficient controls existed to prevent late trading.”

Filed by Doug Watt, Advisor.ca, doug.watt@advisor.rogers.com