HISA ETF rule changes could lead to lower rates, providers say

Investors in high-interest savings account ETFs could see lower rates on their funds later this summer as regulators require banks to adjust liquidity measurements for the products by Aug. 1.

The Office of the Superintendent of Financial Institutions (OSFI) is reviewing banks’ liquidity adequacy requirements as it considers whether new categories of wholesale funding are needed “to appropriately reflect the risks” of “retail-like wholesale products” such as high-interest savings account (HISA) ETFs.

The regulator said the earliest implementation date if new categories are needed would be in 2024. In the meantime, OSFI said wholesale funding from financial institutions must classify deposits from HISA ETFs as if they will fully “run off.”

That could mean some banks reclassifying deposits from HISA ETFs, providers of the products said.

Raj Lala, president and CEO of Evolve ETFs in Toronto, said most banks are classifying HISA deposits as retail, which are typically viewed as stickier with a lower run-off rate. Reclassifying deposits in the funds to a 100% run-off could affect the rates offered.

“Obviously that’s going to have a negative impact on what the rate is that the banks are willing to pay for these deposits,” he said.

The liquidity coverage ratio rules describe run-off rates for different types of deposits based on how stable they’re perceived to be.

Retail deposits, where an individual typically has a relationship with the institution covering various banking services, are seen as less likely to be hit with mass withdrawals during times of market stress. The run-off for different classifications of retail deposits ranges from 3% to 40%.

Unsecured wholesale funding, which covers deposits from organizations including small businesses and financial institutions, may see more rapid withdrawals. The run-off rate ranges from 5% for small businesses to 100% for securities firms.

Vlad Tasevski, chief operating officer and head of product with Purpose Investments Inc. in Toronto, said banks have their own policies for classifying the deposits from HISA ETFs based on how they manage their entire deposit book.

“These products have been structured in very close partnership with our deposit partners at the banks,” he said. “They’ve done a lot of work to ensure that they properly categorize the deposits on their side and how they’re able to price the interest rates that we receive.”

Tasevski also said the rates ETF providers are receiving from banks could move lower based on the 100% run-off treatment.

Lala said he’s not sure yet how much rates could change, but the ETFs will remain competitive with other cash alternative products even with the different classification.

In announcing the review, OSFI noted that HISA ETFs provide a high degree of liquidity “as clients’ withdrawals are usually not subject to restrictions.”

The review comes in the wake of several high-profile bank failures in the U.S., where runs on deposits were unusually fast.

OSFI has asked for data or stress-testing models from financial institutions on “unitholder composition and redemption history” for HISA ETFs.

Lala said individual retail investors are the ones buying Evolve’s fund.

Tasevski said the Purpose High Interest Savings Fund, which has an almost 10-year track record, has grown its assets during various periods of market stress: “It’s been clear how stable these offerings have been.”

Tasevski said it’s not surprising OSFI wants to review the liquidity treatment of the ETFs and how the products are structured, since its guidelines weren’t created with these products in mind.

“The total asset size has grown and it’s important for OSFI, given their role in regulating banks, to better understand this,” he said.

Last year, assets in cash alternative ETFs more than doubled to $15 billion, according to National Bank Financial, and strong flows have continued this year, totalling $3.8 billion as of April 30.

However, Tasevski and Lala said they would have preferred the regulator to wait for the outcome of the review rather than requiring the 100% run-off for Aug. 1. Waiting until the consultation is over and potentially developing a new wholesale funding category next year would be less disruptive to investors in the products, they said.

The deadline for providing feedback to OSFI’s review is June 21.