Regulator uncovers more than 15-year failure to establish adequate system of controls to ensure adherence to securities law
Quadrus Investment Services has agreed to pay the Mutual Fund Dealers Association of Canada (MFDA) a $600,000 fine after the self-regulatory organization found it fell short in its duty to ensure compliance with securities legislation, including rules related to incentive and sales practices.
In a settlement agreement dated November 15, the MFDA said that during a targeted review of compensation and incentive programs that it conducted in 2016 in conjunction with the Ontario Securities Commission (OSC), other provincial securities regulators, and the Investment Industry Regulatory Organization of Canada (IIROC), it found that some aspects of the compensation structure and sales incentive practices at Quadrus were not in compliance with NI 81-105 and violated MFDA Rule 2.1.4.
The agreement described how from 2002 to December 31, 2016, Quadrus extended three incentive programs to its approved persons – the Gold Key Recognition Credits program, the LL Recognition program and the LL Sales Commission Bonus program – which may have encouraged one group of its APs to recommend proprietary mutual funds rather than those offered by third parties. Generally, credits for the programs were selectively applied to proprietary mutual funds and/or segregated funds, and not to third-party funds that the APs were also authorized to sell.
The MFDA also found that some aspects of Quadrus’ operations did not comply with an exemption order relating to NI 81-105 that it had been granted in 2009.
That violation was uncovered after a late 2018 complaint prompted an MFDA investigation conducted in cooperation with Quadrus. Under the exemption, third-party mutual funds could be held in accounts serviced by Quadrus advisors who were authorized to sell only proprietary mutual funds. Those funds would be held on an “accommodation” basis under which Quadrus would not pay a sales commission to those advisors in respect of the outside funds.
“The Respondent required an exemption from the requirements in National Instrument 81-105 because Category I Advisors may receive sales commissions at the time of the initial sale of proprietary mutual funds but may not receive sales commission in respect of third-party funds sold on an accommodation basis,” the settlement agreement said.
The exemption was granted to Quadrus based on several representations it made about its structure and practices. But in its investigation, the MFDA found that starting in about 2009 and until late 2018, Quadrus failed to maintain policies and procedures, and keep up a system of controls as required by MFDA 2.5.1, to make sure that it consistently complied with representations made in the exemption.
The non-compliant activities and outcomes, according to the MFDA, included:
- Third-party mutual fund trades in accounts of approximately 1,700 clients were not adjusted as required;
- Quadrus received $219,000 in DSC or low-load sales commissions in respect to mutual fund trades that could not be reversed and rebooked, and was thus not remitted to the mutual fund companies;
- Roughly 525 instances of a low-load charge or DSC being charged to a client in respect to a third-party mutual fund trade; and
- 31 instances of a client paying a front-end load charge – clients paid a total amount of approximately $4,300 in FEL charges – in respect of a third-party mutual fund trade that could not be reversed or rebooked.
“The Respondent admits that from 2002 to 2018, it failed to establish, implement and maintain adequate policies and procedures and an adequate system of controls and supervision to ensure that it complied with securities legislation including requirements relating to internal dealer incentive and sales practices, contrary to MFDA Rules 2.5.1 and 2.1.1.,” the MFDA said.
Following the reviews and investigation, Quadrus voluntarily commenced and proactively undertook various remediation efforts such as amending or terminating the non-compliant programs, investigating whether clients had been placed in unsuitable proprietary funds because of the programs, and implementing a compensation plan for current and former clients who were improperly hit with paid sales charges, DSCs, or low load charges in respect to third-party mutual funds.
Aside from the $600,000 fine, Quadrus has also agreed to pay $25,000 in costs.