CPH Chapter 4 PDF - Dealing with Clients in the Securities Industry

SECTION 2 DEALING WITH CLIENTS IN THE SECURITIES INDUSTRY 4 Working with Clients 5 Client Discovery and Account Opening 6 Product Due Diligence, Recommendations, and Advice 7 Trading, Settlement, and Prohibited Activities 8 Maintaining Client Accounts and Relationships 9 Putting It All Together © CANADIAN SECURITIES INSTITUTE Working with Clients 4 CHAPTER OVERVIEW In this chapter, you will learn about the dealing and advising registration categories for dealer member employees in the securities industry. We explain the proficiency requirements and permitted activities of Registered Representatives and Investment Representatives, Portfolio Managers, and Associate Portfolio Managers. We also discuss the regulatory requirements and guidelines around marketing, advertising, and other types of communications with clients. Next, we discuss the rules regarding conflicts of interest and personal dealings with clients. Finally, you will learn how to handle client data in accordance with privacy regulation. LEARNING OBJECTIVES CONTENT AREAS 1 | Explain the importance of registration and Registration Requirements of a Registered licensing in the securities industry. Representative 2 | Explain the rules and regulations concerning Communication with the Public communication with the public. 3 | Describe the fee disclosure requirements in General Regulations and Guidelines for Sales sales literature. Literature 4 | Explain the responsibility of a registrant in a Dealing with Clients conflict-of-interest situation. 5 | Explain the rules regarding privacy and the Privacy and Cybersecurity protection of client information. © CANADIAN SECURITIES INSTITUTE 4 2 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 KEY TERMS Key terms are defined in the Glossary and appear in bold text when they first occur in the chapter. Associate Portfolio Manager Fund Facts Canada’s Anti-Spam Legislation Investment Representative conflict of interest Personal Information Protection and Electronic Documents Act cybersecurity Portfolio Manager discount broker unsolicited order National Do Not Call List fit and proper test © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 3 INTRODUCTION The securities industry is heavily regulated, with many rules regarding what you can and cannot do when contacting clients. Rules pertain to client contact by telephone calls and electronic communication, and to the distribution of sales literature and advertising. Understanding the conditions under which you are permitted to communicate with new and prospective clients is the starting point of a compliant career. This requirement is in addition to standard business conduct obligations, such as knowing your client and the suitability of your product recommendations. You must also exercise care whenever you distribute materials to clients. Such activities are considered to be registrable by securities regulators and therefore must be carried out in a specific fashion. Any written materials given or sent to clients recommending a specific security may be considered sales literature and should be properly authorized before distribution. Where the dealer member provides employees with materials regarding securities, you should make sure you do not pass them on to clients without proper authorization. Materials intended for internal use only should not be shown to clients or divulged in any manner for the sake of convenience. You should be particularly careful with respect to information regarding mutual funds. The industry has very detailed legislation and guidelines as to what must be included in mutual fund sales literature. No information concerning mutual funds, particularly mutual fund performance, should be distributed unless it has been authorized by a person who is fully familiar with the regulatory requirements for mutual fund disclosure. Finally, you must be aware of the rules regarding the management and disclosure of conflicts of interest, personal dealings with clients, and proper handling of client data. As a registered employee in the securities industry, it is essential that you work in compliance with all these regulations and within the limits of your registration category. In this chapter, we discuss the importance of licensing and explain the rules and regulations concerning communication with the public. Upon completing this chapter, you should have a clear understanding of what activities are permitted and not permitted in various registration categories. REGISTRATION REQUIREMENTS OF A REGISTERED REPRESENTATIVE 1 | Explain the importance of registration and licensing in the securities industry. The various categories of registration in the securities industry entail different permitted activities and the specific rules for those activities. However, all registrants have in common strict regulations around communications with clients. When dealing with existing and prospective clients as a registered employee of a dealer member, good communication skills are of key importance; however, they are not the only consideration. You must have a value proposition that you can clearly articulate to your prospective clients, and you must do so in a way that is strictly compliant with industry regulations. This need is more critical than ever in light of increasingly stringent requirements. National Instrument (NI) 31-103 requires that persons wishing to trade in securities or to advise on the purchase or sale of securities in Canada must first be approved and registered in one of the following two categories: Dealing representatives Advising representatives The chosen category generally reflects the type of firm a representative works for. For example, a representative of an investment dealer that is a member of the Canadian Investment Regulatory Organization (CIRO) must be approved by CIRO before registering with the applicable provincial securities administrators as a dealing representative. © CANADIAN SECURITIES INSTITUTE 4 4 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 The most common CIRO registration categories for individuals employed at an investment dealer member are Registered Representatives (RRs) and Investment Representatives (IRs). Both types of registrants must be registered to operate in the geographic location of their clients. In addition, CIRO must be notified of the customer type – whether retail or institutional – and the products the RR or IR will trade. There is no requirement that either type be employed full-time. However, employees in both categories must state the number of hours they will work. If that number is less than 30 hours per week, they must explain why. As with regulatory bodies for other professions, such as medicine and law, the securities regulators in Canada often impose stringent requirements on their registrants. As a registrant, you may not always understand the reason behind a rule; nevertheless, you must abide by it. Your registered status is your livelihood, and, as such, you must adhere to its terms and conditions. Remember that it is a privilege, rather than a right to work, in the securities industry. Dealing representatives of CIRO member firms must adhere to SRO rules and applicable provincial securities law. For example, under SRO rules, dealer members may permit their employees to engage in outside business activities, but only if the applicable provincial regulator also allows it. Registrants must also observe the policies and procedures of their dealer members, which may or may not permit outside activities. Where a policy conflicts with a rule, the most stringent of the two applies. CIRO rules also require that, where the registrant engages in another occupation, that occupation must not bring the securities industry into disrepute. For that reason, you must disclose all outside activities and obtain pre- approval from your dealer member before engaging in any outside activities. This topic will be discussed in greater detail further on in the chapter. PROFICIENCY REQUIREMENTS AND CATEGORIES OF REGISTRATION The provincial securities administrators and CIRO have prepared rules on the initial and ongoing proficiency requirements for RRs and IRs, which are described fully below. These rules establish proficiency requirements for both education and experience. They also determine periods of supervision and establish time limits during which proficiencies remain valid. REGISTERED REPRESENTATIVES Registered Representatives are permitted to provide advice on the full range of equity and fixed-income securities products. Additional proficiency requirements are necessary for an RR to be able to solicit orders for or to advise on trades with respect to options, futures contracts, and futures contract options. An RR is often referred to in the industry as an investment advisor or broker, but those terms are not official registration categories. Your role as an RR requires broad industry knowledge, including knowledge of individual securities, capital markets, economic cycles, the performance of securities within those cycles, and taxation issues, among others. It is this broad-based expertise that allows you to provide investment advice and bridge the gap between order-takers and discretionary money managers. Unlike a dealing representative registered to sell mutual funds only, as an RR, you can sell most products provided by a full-service dealer. Along with extensive industry knowledge, successful RRs typically have strong communication skills and a good understanding of the ethical decision-making process. DID YOU KNOW? Before you can recommend any product, you are subject to the Know Your Client (KYC) and Know Your Product requirements, as discussed elsewhere in this course. © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 5 REGISTRATION REQUIREMENTS FOR REGISTERED REPRESENTATIVES To register as a new RR, you must meet the following requirements: Formal training and You must successfully complete the Canadian Securities Course (CSC) and the Conduct proficiencies and Practices Handbook Course (CPH), which are administered by the Canadian Securities Institute (CSI). 90-day period of The 90-day period is often referred to as the 90-day training period, during which you restricted client are not yet registered as an RR. Therefore, the rules state that, during this period, you contact are not permitted to have contact with customers or prospects in obtaining, taking, or soliciting orders for securities or advising on trades in securities. This prohibition extends to electronic platforms and social media. Furthermore, you must not receive commission splits as any part of your compensation during this period. However, the following activities are permitted: Gathering information from existing or prospective clients on behalf of another RR, assisting clients with inquiries about their accounts, and giving quotes, provided that you do not open any client accounts until you are fully registered. Contacting the public by sending out introduction letters, inviting the public to seminars, and forwarding non-securities specific information, provided that you comply with certain restrictions. Creating and researching lists of potential clients for future follow-up work. Six-month period of Following approval as an RR, you are placed under the close supervision of your supervision supervisor. The six-month period of supervision is not required if the RR/IR was previously approved for six months with a member of a self-regulatory organization (SRO) or a member of a recognized foreign SRO. 30-month requirement To deal with retail customers, you must successfully complete the Wealth Management Essentials (WME) course within 30 months after your approval. Failure to do so will result in your immediate suspension until such time as you do complete the course. For this reason, you should aim to complete the WME well in advance of the 30-month deadline. Continuing Education Participation in the industry’s CE program is a condition of maintaining your licence. You (CE) will typically need to satisfy the professional development and compliance portions of the CE program for the CE cycle. More information on CE is provided further on in this chapter. Additional proficiency Additional proficiency requirements are necessary for an RR to be able to solicit orders for or to advise on trades with respect to options, futures contracts, and futures contract options. To deal in options trading, you must complete the Derivatives Fundamentals and Options Licensing Course or the Derivatives Fundamentals Course (DFC) and the Options Licensing Course (OLC). To deal in futures and futures options, you must complete the DFC and the Futures Licensing Course. © CANADIAN SECURITIES INSTITUTE 4 6 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 PORTFOLIO MANAGERS AND ASSOCIATE PORTFOLIO MANAGERS Over the past number of years, full-service dealers have continued to move in the direction of providing holistic wealth management services to high-net-worth clients. Discretionary portfolio management is part of that value proposition, which has led to the extremely rapid growth of advisor-managed accounts. Individuals who deal with or provide discretionary portfolio management for managed accounts must be approved as either Portfolio Managers (PMs) or Associate Portfolio Managers (APMs). PMs and APMs must meet proficiency requirements in addition to the successful completion of industry courses (outlined below). Candidates must demonstrate a high level of experience that is clearly relevant to discretionary portfolio management activities, otherwise known as relevant investment management experience (RIME). Applicants must demonstrate strong research and analysis and portfolio construction skills with respect to a broad range of types of individual securities. CIRO takes the following approach to assess RIME for the purpose of PM/APM approval: 1. Assess each exemption application on its own merits and on a case-by-case basis. 2. Take a holistic approach in their review (i.e., there is no single factor that will disqualify an applicant). 3. Use descriptions that are unique to the applicant’s case and provide specific, relevant information, rather than “boilerplate” wording that applies to all applicants from a particular firm. Applicants are encouraged to draw out common and specific factors in each application. REGISTRATION REQUIREMENTS FOR PMs To register as a PM, you must meet the following requirements: Courses competed You must successfully complete the CPH and Canadian Investment Manager before approval designation, or the Chartered Investment Manager (CIM) designation, or the Chartered Financial Analyst (CFA) Charter Experience and other If the Canadian Investment Manager designation or CIM designation is completed: requirements At least four years of RIME; one year of which was gained within the three years before requesting approval acceptable to CIRO or If the CFA Charter is completed, at least one year of RIME within the three years before requesting approval acceptable to CIRO REGISTRATION REQUIREMENTS FOR APMs To register as an APM, you must meet the following requirements: Courses competed You must successfully complete the CPH and Canadian Investment Manager before approval designation, or the CIM Designation, or Level 1 or higher of the CFA Program Experience and other Two years of RIME acceptable to CIRO within three years before requesting approval requirements INVESTMENT REPRESENTATIVES Investment Representatives are individuals registered solely to take or submit client orders for execution. IRs must not, under any circumstance, provide clients with investment advice. As with the term RR, IR refers solely to employees of CIRO investment dealer members. Under NI 31-103, IRs, like RRs, are registered provincially as dealing representatives. © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 7 The proficiency requirements for IRs are similar to those for RRs, but not as extensive. IRs must complete the CSC, the CPH, and a 30-day training program, as opposed to a 90-day program. IRs are subject to a six-month period of supervision and to the compliance portion of the CE requirements, but do not need to fulfill the 30-month WME requirement. IRs may perform either of two roles: sales assistant or IR at an Order Execution Only (also known as an online or discount broker) firm. SALES ASSISTANT Registered sales assistants are IRs employed at full-service investment dealers to assist one or more fully registered RRs in managing their business. This role largely involves administrative tasks, such as organizing the RR’s client records, the account application, and other client documentation. A sales assistant may speak with clients but is not permitted to give advice. Sales assistants may also take unsolicited orders from clients to buy and sell securities. Successful sales assistants typically have the following attributes: Strong organizational skills Strong communication skills Good industry knowledge Strong familiarity of back-office operations This combination of skills allows sales assistants to multitask effectively and interrelate well with RRs, clients, and other departments. It also helps IRs in this role to process transactions and solve problems related to such issues as account applications and cage procedures. INVESTMENT REPRESENTATIVES AT ORDER EXECUTION ONLY FIRMS IRs at Order Execution Only Firms are registered to take orders from clients and submit them for execution. IRs in this role must recognize when an order is beyond their authority and pass it on to someone who is appropriately licensed or to a supervisor. For example, an IR who is only licensed in Ontario cannot accept an order from a client who resides in Manitoba. Similarly, IRs cannot accept options orders unless they have met the additional proficiency requirements and are licensed in that capacity. RESTRICTIONS ON NON-REGISTERED STAFF SRO rules restrict the activities of non-registered personnel, such as administrative assistants, office managers, and mailroom clerks, who are employed by a dealer member or a related financial services entity. Non-registered staff are not permitted to carry out the following tasks and functions: Open client accounts Complete KYC information on an account application (other than biographical information) Provide recommendations or advice on securities Solicit securities transactions Assist clients in completing orders for securities transactions However, non-registered staff are permitted to engage in the following activities: Advertise the services and products offered Deliver or receive securities to or from clients Contact clients to arrange appointments or give notice regarding deficiencies in completed forms © CANADIAN SECURITIES INSTITUTE 4 8 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 Provide information on the status of a client’s account and provide account balances, quotes, and other market information Contact the public; for example, inviting the public to seminars and forwarding non-securities-specific information Receive completed account applications to forward to the dealer member for approval Distribute account applications (However, only a registered person can assist in completing account applications. Before any trades are conducted, a designated supervisor must review the new account documentation to ensure compliance with the KYC rule and suitability obligations.) Case Study | Ramesh Ramesh, an established RR with a sizable client base, decides that strip bonds have become attractive investments. Hoping to use Government of Canada strip bonds as a prospecting tool for new accounts, he plans a month-long solicitation campaign. Because he will be spending a lot of time out of the office visiting prospects, he is worried that he will not have enough time to serve his existing clientele. Ramesh’s sales assistant, Helen, is unregistered but has taken the CSC and is now enrolled in the CPH. Ramesh instructs Helen to take all of his incoming calls and to place any orders that his clients may give. He also tells her to persuade his clients to take profits in their common stocks because he expects prices to drop over the next several months. Discussion In this scenario, both Ramesh and the dealer member are in violation of industry rules. Those rules state that only individuals with appropriate licensing (and therefore proficiencies) are permitted to engage in registrable activities that are supported by that licensing. Accepting client orders and soliciting business from clients are not among the permitted activities that an unregistered person may carry out. Note that, even if Helen had completed the courses required for registration, she must be registered and acknowledged as such by the regulators. In this scenario, the dealer member could be found guilty of failing to properly supervise the RR and the sales assistant. Suggested Conduct to Ensure Compliance In a case such as this, the RR should understand that sales assistants must be registered to assist with order- taking duties. The RR must make arrangements to have another RR handle existing clientele. In fact, RRs are often encouraged to develop this type of “buddy system” to provide mutual back-up when they are out of the office. To ensure compliance, RRs and their sales assistants must understand what specific activities a sales assistant with non-registered status is permitted and not permitted to do. Each dealer member should have policies in place to ensure that unlicensed employees do not take orders from clients. Individuals enrolled in either the 30- or 90-day training program cannot engage in any activity “in furtherance of a trade”. In particular, they cannot engage in any of the following activities: Providing recommendations, opinions, or advice with respect to securities as defined in provincial securities acts, either in writing or orally Soliciting, accepting, or processing any orders, including unsolicited orders Registrants dealing only in mutual funds who are employed by a firm registered as an investment dealer and not as a mutual fund dealer can continue to deal with their existing mutual fund client base, but they can purchase and sell only mutual funds. They must also complete the CSC and the CPH within 270 days of initial approval and upgrade © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 9 to Registered Representative within 18 months of initial approval. During the applicable training period, they cannot transact in any non-mutual fund securities with anyone. As an RR, you may receive a referral from someone not in the same registration category, such as a mutual funds only registered individual. In such cases, you should carefully evaluate their suitability to perform the tasks and functions of the dealer member. CIRO REGISTRATION REVIEWS: THE FIT AND PROPER TEST CIRO’s registration staff conducts suitability reviews, known as the fit and proper test, for individuals seeking CIRO approval or registration under securities legislation. Suitability reviews are conducted in those jurisdictions where CIRO has been delegated statutory authority for individual registration by a securities commission. CIRO also evaluates termination, regulatory, criminal, civil, or financial disclosures filed on the National Registration Database (NRD). In this regard, CIRO (and the provincial securities commissions) carry out an ongoing evaluation of individual registrations when filings such as a notice of termination are submitted. In addition, CIRO provides guidance on best hiring practices that CIRO-regulated firms may want to consider adopting. DID YOU KNOW? All regulatory filings regarding registered individuals must be completed through the NRD. An initial submission involves the completion of Form 33-109F4 on behalf of registered individuals and non-registered individuals when applying for registration through the NRD for the first time. This submission is also used when transferring a registration, getting registered with an additional firm or in an additional jurisdiction and when reactivating a registration. A notice of change must be submitted when an individual’s registration information changes. Registrants must therefore notify their dealer members as soon as possible (within two business days) whenever there is any change to their registration information so that it can be reported on NRD within the prescribed time period. The fit and proper test is an evaluation by the registration staff of the applicant’s integrity, financial solvency, and competence. The competence evaluation includes a discussion regarding the importance of having and maintaining appropriate proficiencies. It is against this backdrop that regulators screen individuals prior to their entry into the investment industry. The regulators also conduct reviews of an RRs registration in certain situations; for example, when an RR transfers between investment dealers. CIRO has the authority to refuse an application for approval or transfer, and may do so under any of the following conditions: The applicant does not meet any of the requirements prescribed by CIRO rules or rulings. The applicant will not comply with the rules and rulings of CIRO. The applicant is not qualified for approval for reasons relating to integrity, solvency, training, or experience. The approval of the applicant is otherwise not in the public interest. © CANADIAN SECURITIES INSTITUTE 4 10 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 EXAMPLE In one case, an applicant for registration was denied approval when he intentionally failed to disclose a criminal conviction on the registration application. He also signed a certificate attesting that the form was complete and accurate. The applicant violated one rule in that he did not complete the form fully and accurately. The larger ethical issue is that he was willing to certify incorrect disclosure, which called into question his personal integrity, honesty, and moral character. In another case, a senior executive of a dealer member was denied registration as an Ultimate Designated Person (UDP) and Chief Compliance Officer (CCO) because of previous disciplinary actions taken against him. It was determined by a hearing panel that this applicant’s approval would not have been in the public interest. CONTINUING EDUCATION Continuing education (CE) is a fundamental need in most knowledge-based industries, and in the Canadian securities industry, it is a vitally important requirement for ongoing licensing. Given the growing complexity of the industry and its products, CE ensures that you maintain proficiency in your chosen area of expertise. CE is necessary to help you stay abreast of product developments, legal and compliance issues, emerging industry trends, and other capital market developments. Dealer members are permitted to design and deliver their own compliance and professional development courses in accordance with CIRO’s accreditation process. Alternatively, as an employee, you can take CE courses from several sources, including CSI and other educational providers. Dealer members must report each employee’s completion of CE requirements. CIRO’s online reporting system allows dealer members to view each registrant’s requirements and report the completion of each employee’s compliance and personal development requirements. As an RR, your CE requirements consist of one or more approved programs every two years. The programs must equal at least 20 hours of a professional development course and at least 10 hours of a compliance course. Five hours of the compliance course must deal with Canadian compliance issues. You must complete the program within each two-year cycle, and dealer members must obtain documentary proof of completion of any course or seminar. Finally, your dealer member must keep records. If you have not completed the required courses at the end of the two-year cycle, your registration will be suspended, and your dealer member may have to pay a fine. Remember that the privilege of operating in a regulated and licensed environment carries with it certain obligations, with CE maintenance being one of them. If you transfer to another dealer member, partial or unreported CE credits can also be transferred. Your new employer is allowed to accept a statement of verification from your previous employer regarding both in-house and third-party courses and seminars. You should consult with your firm’s compliance department to ensure that any courses you complete are eligible to be credited toward the completion of your CE requirements. COMMUNICATION WITH THE PUBLIC 2 | Explain the rules and regulations concerning communication with the public. Registrants must be aware of what is and is not permitted by way of client contact. For example, CIRO has rules that govern how you may contact clients on the telephone and what you may send to them by mail or email and over the Internet. Rules also exist regarding how you can represent yourself to clients from a marketing and advertising perspective. © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 11 DID YOU KNOW? The following communications have been specifically prohibited in many provinces: No registrant is permitted to use the name of another registrant on signs or other advertisements, unless the other registrant gives authorization in writing or is a partner, officer, or agent of the registrant. Registration certificates cannot be displayed by the registrant or the business location; however, course completion certificates may be displayed. No registrant is permitted to represent that a securities administrator has approved the investment merits of a security or the financial standing, fitness, or conduct of any registrant. RULES FOR TELEMARKETING AND THE NATIONAL DO NOT CALL LIST The Canadian Radio-television and Telecommunications Commission (CRTC) created and enforces a regulatory framework for telemarketing calls and other unsolicited telecommunications received by consumers. Together, the CRTC’s Unsolicited Telecommunications Rules and the National Do Not Call List (National DNCL) establish requirements regarding allowable times of day to call, introductions, record maintenance, and penalties. You must subscribe to the National DNCL and consult the rules before making telemarketing calls, except in certain circumstances. For example, if the caller has provided direct consent, you do not have to consult the list; however, you must still comply with the broader framework of the rules regarding telecommunication. Any dealer member that uses the telephone for solicitation is subject to the telecommunication rules and the National DNLC. Likewise, an employee of a dealer member who is engaged in telemarketing is subject to these rules, as is any third-party organization that conducts telemarketing on behalf of the firm. However, the National DNCL does not apply to telemarketing communications made to a business. CANADA’S ANTI-SPAM LEGISLATION The CRTC also helps enforce Canada’s Anti-Spam Legislation (CASL), which establishes similar rules for the sending of commercial electronic messages (CEMs). This legislation requires businesses to obtain either express (opt-in) or implied consent to send CEMs, including emails and certain types of social media messages. In addition, all electronic marketing messages must clearly identify the sender. Unless the sender is fully exempt from CASL, the firm must include its contact information and provide an unsubscribe mechanism. Organizations that do not comply with CASL risk serious penalties, including criminal charges, civil charges, personal liability for company officers and directors, and monetary penalties. RULES FOR MARKETING MATERIALS The definition of trade under provincial securities legislation specifically includes advertisements or solicitations with respect to a security. It is on this basis that marketing, advertising, and related activities are considered to be subject to the purview of CIRO and other regulators. Industry rules require that sales materials and oral presentations that dealer members use must present a fair and balanced view of the risks and benefits of products for sale. In addition, communications to the public must not omit any material facts or qualifications if that omission could be construed as misleading. © CANADIAN SECURITIES INSTITUTE 4 12 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 ELECTRONIC ADVERTISING AND SOCIAL MEDIA USE The Internet has made access to investment information faster and easier, but at the same time, it has made sales communications more difficult to control. Sales messages can now be disseminated broadly and instantaneously through email and on social media sites such as Facebook, Twitter, and LinkedIn. As opportunities in this area have increased, so has the amount of marketing and advertising sent through online channels. As a result, regulators have had to specifically address the use of electronic advertising and social media for marketing purposes. From the regulators’ point of view, dealer members must supervise communications delivered electronically no less diligently than those delivered on paper or through other traditional media. In other words, the regulations and guidelines for sales literature apply equally to marketing and advertising conducted over the Internet and shared on social media sites. In addition, CIRO (formerly IIROC) published a guidance notice, shown in Exhibit 4.1, that specifically addresses the use of social media in the securities industry. Exhibit 4.1 | Guidance Note 3600-21-002, Review of Advertisements, Sales Literature and Correspondence Guidance Note 3600-21-002 is relevant to the use of social media in any form. The guidance pertains to, but is not limited to, the use of Facebook, Twitter, LinkedIn, and YouTube, as well as blogs, discussion forums, and chat rooms. CIRO’s stance in regard to social media is that, regardless of the communication vehicle, dealer members must ensure compliance with applicable regulatory requirements and securities legislation. In other words, the method of transmitting an advertisement to the public is irrelevant to the regulators. A change in medium does not change the fact that the advertisement is subject to applicable rules and dealer member supervision. The guidelines should help address the unique compliance and supervisory issues that can arise when registrants use social media websites to communicate with clients and the public for business purposes. They also provide considerations that dealer members can use when designing their policies and procedures. Highlights of the guidance note are summarized below. Recordkeeping Dealer members must retain records of their business activities, financial affairs, responsibilities client transactions, and correspondence. Records include content posted on social media websites, such as Twitter, Facebook, blogs, and chat rooms; materials sent by email; and notes that summarize oral communications with clients. Suitability and Any investment recommendation, whether delivered through social media or recommendations by way of written correspondence, must take into consideration the suitability requirements set out in CIRO rules. Supervisory Dealer members must evaluate the adequacy of their systems to review all forms responsibilities of communication. They must then determine whether there is a need to prohibit access to social media websites that do not allow for compliant supervision practices. Training and Dealer members may prohibit or restrict the use of certain websites by registrants implementation of who have presented compliance risks in the past. They may permit only registrants social media guidelines who have received appropriate training on the firm’s policies and procedures regarding social media websites to engage in such communication. © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 13 Exhibit 4.1 | Guidance Note 3600-21-002, Review of Advertisements, Sales Literature and Correspondence Email or voicemail As an RR, you are discouraged from using email and voicemail for order instructions orders from clients, but you are not prohibited from doing so. If you do take orders through these channels, you must inform clients of the associated risks. The most prominent risk is that trade instructions left on voicemail or email will not be received by the RR immediately. Thus, any electronically delivered instructions you act on could be subject to significant price variations and inconsistent with the client’s intention. The guidance notice is intended to address the use of social media websites for business purposes only. However, dealer members should be mindful of regulatory requirements that may be triggered as a result of electronic communications, regardless of whether it was intended for business purposes. Third-party Activity on social media websites, such as copying and pasting a client’s post, or communications and giving a thumbs up, commenting on, or clicking “like” on a third-party post, may research be considered an endorsement by the dealer member. Such activity may therefore trigger regulatory and legislative requirements. You should consult with your firm’s policy and procedure manual to make sure that the use of social media to advertise is permitted, and, if so, under what terms and conditions. You should not assume that you may communicate with your clients through your personal social media accounts nor with the public generally on your firm’s behalf. GENERAL REGULATIONS AND GUIDELINES FOR SALES LITERATURE 3 | Describe the fee disclosure requirements in sales literature. Advertising is defined in CIRO’s IDPC rules as any commercials or commentaries, or any published materials promoting a dealer member’s business. Sales literature under this definition is any written or electronic communication for clients’ use that contains a recommendation relating to a security or trading strategy. Dealer members typically provide registrants with the following types of material containing information about investments: Research reports Updates on company performance or news affecting a company’s business New product information, such as a description of an instalment receipt or income trust Notices of availability of prospectuses or preliminary prospectuses for a new issue of securities DID YOU KNOW? Research reports are detailed reports on an issuer of securities. They contain information about the company’s business, its management, its plans and strategies, its past financial and market performance, and other relevant facts. These reports might also address several companies in a particular market sector, such as financial services or gold mining. © CANADIAN SECURITIES INSTITUTE 4 14 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 You should be aware that not all information your dealer member provides can be passed on to clients. Some documents are provided to help you conduct research and learn about a particular investment opportunity. Thus informed, you can make a recommendation to clients for whom a particular investment is suitable. You should take care that you treat material considered to be for “internal use only” accordingly. All written correspondence with clients, including electronic correspondence, must be approved by appropriate supervisory personnel and should be retained in accordance with the rules. Salespersons may not create their own reports or advertising and distribute them to clients without proper approval. The dealer member must designate a supervisor who is responsible for the approval function. The designated person must make sure that the material meets the following regulatory standards, among others: The material must be true and not false or misleading. It must provide no unjustified promise of specific results. It must contain no unrepresentative statistics to suggest unwarranted conclusions. It must not contain opinions or forecasts not clearly labelled as such. It must fairly present the potential risks to the client. MUTUAL FUND SALES COMMUNICATIONS Rules governing the permissible content of mutual fund advertising and sales communications are contained in NI 81-102 Investment Funds and summarized below. A sales communication about a mutual fund must: contain no untrue or misleading statements. make no statement that conflicts with information contained in the fund’s prospectus, annual information form (AIF), or Fund Facts document. THE FUND FACTS DOCUMENT NI 81-101 Mutual Fund Prospectus Disclosure requires that mutual funds produce and file a prospectus, an AIF, and a Fund Facts document. The Fund Facts document is a plain language document containing key information about each class or series of a mutual fund. It must be made available on the mutual fund’s website or the fund manager’s website, and it must be delivered to investors before they purchase the fund in question. Delivery of the document satisfies current prospectus delivery requirements. The purpose of the Fund Facts document is to provide investors with the information they need to make a knowledgeable decision before investing in a mutual fund. The document must meet the following criteria: It must summarize the key facts about the fund in no more than two pages. It must be written in language that is easy to understand. It must include the following information: A description of the fund, including its holdings Historical performance data Risk rating Costs or fees associated with buying, owning, and redeeming the fund A mutual fund company must also deliver the Fund Facts document to investors free of charge upon request. © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 15 USE OF PERFORMANCE DATA Performance data, which is addressed at length in NI 81-102, includes any measurement or description of a mutual fund’s investment performance. It may include ratings, rankings, rates of return, or volatility, among other characteristics. Because performance data is potentially so varied, sales communications must not include any such data, unless it also includes standard performance data. This information must be printed as prominently as any other performance data used in a sales communication. DIVE DEEPER Standard performance data takes one of two forms, depending on the type of fund. For money market funds, standard performance data is current yield, or both current yield and effective yield. For other mutual funds, standard performance data is total return calculated following the specifications in NI 81-102. Standard performance data allows investors to make comparisons among different funds using information generated on the same basis. Detailed and specific guidelines in NI 81-102 address the use of performance data in sales communications. The overall principle of these guidelines is that any use of such data should not be misleading. If any performance data is included in a sales communication, the communication must adhere to the following rules: It must contain standard performance data. It must include all elements of return. It must reflect data only for the period during which the securities were distributed to the public under the terms of the prospectus. It must relate only to funds under common management, or to funds with similar investment objectives, or with an index or average. It must reflect any material changes to the fund during the performance measurement period. It must clearly identify the periods for which the performance data is calculated. It must indicate, where appropriate, how more up-to-date standard performance data may be obtained. It must contain only ratings or rankings provided by an independent organization, and where ratings or rankings are quoted, standard performance data must also be provided. It must contain only credit ratings prepared by an independent organization, and only the most recent rating may be used. If the fund is rated by more than one independent organization, the lowest rating among those calculated must be used. Performance data may not be used in broadcast advertisements. DID YOU KNOW? Material changes to a fund during the performance measurement period might include changes in the fund’s management, investment objectives, or ownership, changes in fees or other charges related to the fund, or a change to the fund’s status as a money market fund. Disclosure of material changes should reflect how the changes would or could have affected the fund’s performance had they been in effect throughout the performance measurement period. © CANADIAN SECURITIES INSTITUTE 4 16 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 Additionally, sales communications that include performance data must contain certain warnings for potential investors, including the following alerts: Mutual funds are not guaranteed. Data represents past performance and is not necessarily indicative of future performance. Indicated rates of return do not take into account trading costs; income taxes payable; or commissions, fees, and expenses. IMPORTANT NOTE Use the following guidelines to create sales communications that are not misleading: Provide clear explanations and clarify any qualifications or limitations Do not represent past or future investment performance in such a way that it: Overstates past income, gain, or growth of assets Understates the effect of expenses Misrepresents security of capital Predicts future gains or income without justification Indicates that past investment performance is a predictor of future gains or income DEALING WITH CLIENTS 4 | Explain the responsibility of a registrant in a conflict-of-interest situation. To deal with your clients in a professional manner, you must be aware of the rules regarding conflicts of interest, personal dealings with clients, and proper handling of client data. CONFLICTS OF INTEREST A conflict of interest arises in any circumstance where the interests of different parties, such as a client and a registrant, are inconsistent or divergent to each other. An actual (or existing) conﬂict of interest is a situation where the interests of the parties are currently and clearly in conflict. A potential conﬂict is a situation where the interests of the parties may be in conflict or may conflict in the future. A perceived conﬂict is a situation where a reasonable observer could conclude that an actual or potential conﬂict exists. Addressing a perceived conﬂict of interest can be challenging because a third party may perceive a conflict or potential conflict where none exists. For example, the dealer member may have put controls in place to prevent the occurrence of a potential conflict without the third party’s knowledge. The presence of a conﬂict of interest may not, in and of itself, constitute an impropriety. Certain conﬂicts are prohibited by law or regulation and cannot be permitted to arise. However, many conﬂicts arise in the normal course of business that can be resolved effectively. Problems related to conflicts of interest commonly occur not because the conﬂict existed, but because it was not identiﬁed and addressed appropriately. Any existing or potential material conflict that cannot be addressed in a fair, equitable, and transparent manner that is consistent with the client’s best interests must be avoided. © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 17 DID YOU KNOW? Part 13 of NI 31-103 requires registered firms and individuals to identify, address, and disclose material conflicts of interest. Registrants must address such conflicts in the best interest of the client and provide guidance to explain when a conflict of interest is considered material. The requirements can be summarized as follows: Both dealer members and individual registrants acting on their behalf must have a process to identify material conflicts of interest that currently exist between a client of the firm or an individual acting on behalf of the firm. As part of this process, they must also identify material conflicts that are reasonably foreseeable. The material conflicts so identified must be addressed in the best interests of the client. Any material conflicts that cannot be addressed in the best interests of the client must be avoided. The firm must disclose any material conflict of interest that may impact a client as soon as it is identified, preferably at the time of account opening. IMPORTANT NOTE It is not acceptable to rely on disclosure without first addressing the conflict in another way, particularly when the conflict is compensation-related. You must avoid such conflicts or address them in another way before you consider disclosure as a sufficient response. Registered firms must take the lead in addressing conflicts of interest, including, for example, those related to the firm’s product shelf and compensation structures. However, there are also specific requirements for individual registrants. They must identify conflicts of interest as they arise, address them in the best interests of their clients, and report them to their firm. They must also comply with their firm’s conflicts policies and procedures. Case Study | Jeff Jeff is an RR and also sits on the board of directors of a small software company, Tekwax, owned by his cousin. Jeff thinks that Tekwax is a promising investment and has been recommending that clients purchase its stock on the over-the-counter market. He tells them only that Tekwax is a promising new company in the technology sector. He does not think it is necessary to inform his clients or employer that he is a director of Tekwax. Discussion Jeff’s position with Tekwax may influence his investment recommendations to clients and lead him to overlook more suitable or advantageous investments. This is known as a conflict of interest. Suggested Conduct to Ensure Compliance Unless avoided, RRs must also disclose material conflicts of interest prior to entering into a transaction with the client. RRs must disclose to and receive approval from their employers before engaging in outside business activities (discussed below), such as directorships. © CANADIAN SECURITIES INSTITUTE 4 18 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 PERSONAL FINANCIAL DEALINGS AND OUTSIDE ACTIVITIES CIRO has rules that deal with RRs engaging in personal financial dealings with clients, engaging in outside activities, and carrying accounts with other dealer members. Personal financial dealings with clients are generally prohibited. However, as an RR, you may engage in outside activities and carry accounts with other dealer members under certain conditions. PERSONAL FINANCIAL DEALINGS WITH CLIENTS The following types of activities are considered personal financial dealings with clients, and are thus generally prohibited under CIRO rules: Accepting any consideration (e.g., cash or valuables) from a person other than the dealer member for any activities conducted on behalf of a client, unless through an approved outside business activity. Entering into a settlement agreement with a client without the dealer member’s prior written consent. Paying for client account losses out of personal funds without the dealer member’s prior written consent. Borrowing from clients or lending to clients, unless the client is a Related Person under the Income Tax Act (Canada). Acting as a power of attorney, trustee, or executor, or otherwise having full or partial control or authority over the financial affairs of a client, unless: The client is a Related Person; or The authority is exercised in accordance with CIRO rules within a discretionary or managed account. EXAMPLE In one case brought before a Hearing Panel, an RR was sanctioned for borrowing $44,000 from an elderly client without the knowledge and consent of the RR’s dealer member. Penalties included a fine of $15,000, six months of close supervision upon any re-registration with the SRO, and an order to rewrite and pass the CPH examination within one year of re-registration. Case Study | Edgar Edgar, an experienced RR, has a client, Michelle, with whom he has dealt for the past six years. Although Edgar did not know Michelle prior to her becoming a client, they have socialized since then to some extent and might be considered friends. About a year ago, Edgar needed $20,000 for renovations to his house. The house was already heavily mortgaged, and Edgar knew he would have difficulty obtaining financing. He approached Michelle and asked if she would lend him the $20,000. Edgar knew Michelle could well afford to lend the funds; her account was worth over $600,000, with much of it liquid. Michelle agreed to lend Edgar the funds. In return, she received a promissory note from Edgar providing for payment within six months, with interest at the prime rate. When the six months had passed, Michelle inquired about repayment. Edgar replied that he would have difficulty paying the debt at this time. He asked for more time, to which Michelle reluctantly agreed. It has now been six months since the note came due, and Edgar has not yet been able to pay it. Michelle has grown increasingly upset with his stalling and has now complained directly to his employer about the unpaid debt. © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 19 Case Study | Edgar Discussion In this example, Edgar has entered into a fundamental conflict of interest with the client. He is now both a borrower from, and an advisor to, the client. Edgar has also engaged in a personal financial dealing with the client, which is a prohibited activity. He took advantage of his knowledge of Michelle’s financial circumstances, gained through his professional relationship with the client, thereby using that relationship for his personal benefit. Finally, by borrowing the funds from Michelle, Edgar has prevented her from taking advantage of any superior investment opportunities that might have arisen. Suggested Conduct to Ensure Compliance Subject to certain exceptions, RRs must avoid personal financial dealings with clients. To ensure compliance, any proposed financial relationship with a client should be reviewed with an appropriate official, such as the head of compliance, who must give approval to the relationship and monitor the situation. Any such financial relationship must be conducted so as to avoid any real or perceived conflict of interest. In the event that a client is to be compensated for losses—for example, for trading errors or losses resulting from unsuitable recommendations—such compensation should only be paid through the proper channels, even if the loss is ultimately charged back to the registrant. Where there is a family relationship between the registrant and the client, such dealings might not be objectionable in certain circumstances. However, you should not enter into any such dealing without the knowledge and approval of your dealer member to ensure that the client’s interests are fully protected. OUTSIDE ACTIVITIES Under SRO rules, you must inform your dealer member of outside activities and obtain approval before engaging in those activities. Dealer members may also need to file the outside activity on NRD within the time period and in the manner required under NI 33-109. DID YOU KNOW? Although all outside activities must be assessed for potential conflicts of interest and be approved by your dealer member prior to commencement, not all of these activities necessitate registration updates to your NRD profile. The CSA has indicated that certain uncompensated activities, for example, volunteer activities such as coaching a little league soccer team or volunteering at an animal shelter, no longer need to be reported on NRD. As always, check with your dealer member to determine whether a particular outside activity is reportable on NRD. © CANADIAN SECURITIES INSTITUTE 4 20 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 Case Study | Walter Walter, a RR, participates in a political organization and recently attended a protest held by the organization. An opposing group showed up and shouting matches ensued. The TV news that night featured Walter, among others, speaking out against the opposing group. Both Walter’s occupation and his dealer member were identified. The next day, several clients called Walter’s employer, wondering if they supported his organization. Discussion In this situation, Walter demonstrated unprofessional behaviour that could harm his public image. This negative publicity reflects badly not only on Walter, but also on his employer and others in the industry. Walter should remember that his public activities help to form the public’s perception of the securities industry and the people who work in it. Suggested Conduct to Ensure Compliance When RRs participate in outside activities, they should make sure their participation does not result in negative publicity. Neither should it implicate the dealer member or imply the firm’s support of the RR’s personal activities. To ensure compliance, dealer members should make their RRs aware that the firm has an interest in their personal activities, especially if those activities may reflect badly on the firm and on the investment profession. In certain circumstances, RRs must declare their role in another organization as an outside business activity, in accordance with the dealer member’s applicable policies. CARRYING ACCOUNTS AT OTHER DEALER MEMBERS As an RR, you are not permitted to hold (in your own or another name) or to exercise control over accounts at other dealer members, unless you have first obtained the express written permission of your employer. At least on a monthly basis, a statement showing all transactions in any such account must be provided to your employer by the firm carrying the account. All such accounts must also be designated as non-client accounts and, as such, must be reviewed monthly if they generate a statement. If the securities transactions are being handled by a bank or trust company, it is your responsibility to ensure that such transactions are entered through your own dealer member, unless otherwise approved, and that all transactions are entered as non-client orders. PRIVACY AND CYBERSECURITY 5 | Explain the rules regarding privacy and the protection of client information. In your job as an RR, you must gather a great deal of information from clients in the course of building a relationship. It is of paramount importance you protect this information in accordance with applicable rules and regulations. THE PERSONAL INFORMATION PROTECTION AND ELECTRONIC DOCUMENTS ACT The Personal Information Protection and Electronic Documents Act (PIPEDA) sets out the rules for the collection, use, or disclosure of personal information in the course of commercial activities in Canada. PIPEDA applies to private sector businesses and organizations in Canada, both federally and provincially regulated, that collect, use, or disclose personal information, except those in provinces where the government has enacted privacy legislation that © CANADIAN SECURITIES INSTITUTE CHAPTER 4 WORKING WITH CLIENTS 4 21 is “substantially similar” to PIPEDA. It governs what dealer members can do with the personal information that is collected, used, and disclosed in the course of doing business. Generally, registrants must keep the client’s personal information confidential and cannot disclose the information to any third party without the client’s consent, except under certain circumstances, including: For the purposes of collecting a debt; or When permitted or required by law. Clients must therefore provide consent to the specified disclosure of their personal information and have the right to revoke the consent at any time. No registrant can require a client to consent to disclosing confidential information, unless the disclosure is reasonably necessary to provide the specific product or service that the client has requested. Case Study | Jerome Jerome, an RR, has a client who is a technical analyst. Noting the successful track record of this analyst, Jerome calls several other clients and tells them of her client’s successes. He then persuades them to adopt the same trading strategies as the analyst, to which his clients agree. Discussion Jerome violated his client’s confidentiality by passing along his trading strategies to other clients. He also violated his confidentiality obligation simply by telling the other clients that he maintained an account for the analyst. For these infractions, Jerome may be vulnerable to regulatory penalties and possibly a civil lawsuit brought by the analyst. Suggested Conduct to Ensure Compliance It is of paramount importance that the confidentiality of each client be protected. To ensure compliance, the dealer member must act to ensure that each of its RRs is aware of his or her responsibilities with regard to client confidentiality. CYBERSECURITY Cybersecurity is a growing concern in the area of financial and operational compliance at a dealer member. Cybersecurity-related issues represent challenges to dealer members that are similar to the challenges regarding anti-money laundering issues. The concerns raised by both, and the potential damages that can arise, require enterprise-wide solutions from multiple business units. In addition, as with anti-money laundering measures, cybersecurity solutions must be implemented by senior management and permeate down to all line staff. The threat posed by cyber-attacks can significantly impair a dealer member’s reputation and ability to operate as a going concern. The firm must therefore give significant consideration in formulating its approach to this issue. IIROC published resources to help dealer members protect themselves and their clients against cyber threats and attacks. These resources can be used to design a cybersecurity program that will augment the firm’s overall risk management programs. IIROC also published a Cybersecurity Best Practices Guide and a Cyber Incident Management Planning Guide. The best practice guide provides a voluntary, risk-based framework to manage cybersecurity risks based on industry standards and best practices. Cybersecurity incidents are reportable events by dealer members. Similar to the reporting requirements for client complaints, dealer members must report certain cybersecurity incidents to CIRO in accordance with Guidance Note 3700-22-001. Incidents are reportable within three days of their discovery, and the dealer member must provide an investigation report to CIRO within 30 days of discovery. Registrants must be aware of their organization’s policies and procedures in this area. © CANADIAN SECURITIES INSTITUTE 4 22 CONDUCT AND PRACTICES HANDBOOK COURSE SECTION 2 SUMMARY In this chapter, we talked about the regulatory factors you must consider when working with existing and prospective clients. As a registrant, you must work in compliance with these regulations and within the limits of your registration category. Provincial securities legislation and SRO rules provide requirements and guidelines for various types of communication with clients. Full and continuous disclosure is a fundamental concept underlying these provisions. You must act to ensure that all client communications with which you are involved are consistent with the requirements of your jurisdiction or jurisdictions and that or those of your dealer member. Any communication you have with a client regarding his or her account is considered to be from your dealer member as well. It may therefore be legally binding for both you and the firm. You must avoid conflicts of interest and make sure that your actions are in the best interest of your clients. Moreover, you must apply PIPEDA’s rules regarding the confidentiality of your clients’ information. In the next chapter, we will discuss the client discovery process. © CANADIAN SECURITIES INSTITUTE

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