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CSA’s Proposed Amendments to Give OBSI Binding Decision-Making Powers Impact on E&O Insurance for Registrants

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The Private Capital Markets Association of Canada (PCMA) supports fair and balanced regulation. This article is part of a PCMA series commenting on the Canadian Securities Administrators’ (CSA) proposal to give the Ombudsman for Banking Services and Investments (OBSI) binding decision-making powers of up to $350,000 (the Proposed Amendments) under proposed amendments to National Instrument 31-103 Registration Requirements, Exemptions and Ongoing Registrant Obligations (NI 31-103).

OSC Cost/Benefit Analysis – No Discussion About E&O Insurance Impact

The Ontario Securities Commission (the OSC) is required to publish a notice of any proposed rule which disclosure must include a qualitative and quantitative analysis of the anticipated costs and benefits of the proposed rule, as required by section 143.2 of the Ontario Securities Act.

The OSC has published information about their estimates of the cost and benefits of the proposed rule, which is set out in Annex E of the Proposed Amendments. However, the OSC has not explained how the proposed framework could influence errors and omissions (E&O) insurance for registrants, including exempt market dealers. Below is what the OSC discussed in connection with insurance costs in Annex E.

Potentially higher insurance costs  

Sections 12.3 to 12.5 of NI 31-103 require all firms to maintain bonding or insurance that contains certain specific clauses and coverage as outlined in Appendix A – Bonding and Insurance Clauses of NI 31-103 (Appendix A). Under Appendix A, firms must obtain insurance that contains a “fidelity clause” that insures against any loss through dishonest or fraudulent act of employees and a “forgery or alterations clause” that insures against any loss through forgery or alteration of any cheques, drafts, promissory notes or other written orders or directions to pay sums in money, excluding securities.38  

Generally, the firms more likely to be impacted by an increase to their insurance costs would be firms that have refused to follow OBSI’s recommendation or have settled complaints at an amount lower than what OBSI recommended. Between 2018 and 2022, out of 844 cases that ended with monetary compensation, 42 cases (approximately 5%) involving 24 firms settled below OBSI recommendations.39 We do not have the required data to estimate the potential impact on those firms’ insurance costs because of variables specific to each firm. We note, however, that large and medium sized firms accounted for approximately 86% of low settlement cases.  

Based on the information above, the OSC has not assessed or provided any insight into how E&O insurance premiums and/or coverage could change as a result of the Proposed Amendments. Discussions by the OSC on “fidelity” coverage and “forgery or alteration clauses” fail to address the impact to E&O insurance, which is more pertinent to the liability exposure firms would face under the Proposed Amendments. Generally, if a complaint results in a settlement between the parties, and such amounts are covered by a registrant’s insurance company, they are typically covered under a registrant’s E&O insurance policy and not a fidelity insurance policy.

PCMA Engaged Insurance Broker to Discuss Impact of E&O Insurance

The PCMA has engaged the services of Purves Redmond Limited (PRL), an insurance broker, to review the Proposed Amendments and discuss their potential impact on E&O insurance.  PRL and the PCMA have had direct discussions with certain E&O underwriters, who have concerns about the insurability of claims arising from complaints in connection with the Proposed Amendments.

Select issues identified by PRL in its letter about the Proposed Amendments are set out below.

  • “E&O insurance would ordinarily be the applicable type of insurance that could respond to a potential claim in connection with a [OBSI] complaint, assuming it was covered, and not fidelity coverage [as discussed by the OSC].”
  • “… [the] broad definition of a complaint, coupled with binding decision-making powers, pose challenges to properly underwriting as an insurance risk. Insurance does not provide coverage for all expressions of dissatisfaction by a complainant. An expression of dissatisfaction by a client may not be sufficient to trigger coverage under an E&O insurance policy.”
  • “… the broad definition of a complaint and the uncertainty of whether a matter is a single complaint or two or more complaints, each subject to a maximum limit of $350,000, raises additional concerns about the ability of insurers to provide coverage, if at all.”
  • “Without clarity on the insurability of matters referred to in this new binding dispute resolution process, significant uncertainty exists regarding the ability of financial advisors and dealers to secure appropriate insurance coverage.”
  • “It is unclear what, if any, role insurers could have in this new independent dispute resolution service. The shift to a binding investment ombudservice regime may remove or impede insurer management of claims. That would change the underwriting risk profile, and potentially impact not just the pricing but also the availability and/or scope of E&O coverage.”
  • “This increased access to monetary redress, without any cost to complainants, may result in more complaints, especially when the threshold of what constitutes a complaint is low. Higher claims volumes, defence costs and quantum of awards may impact the availability, scope and pricing of insurance coverage for registrants. Higher claims volume can result in higher insurance premiums, changes in policy coverage and the possibility of no coverage for certain insureds.”
  • “We have not seen a detailed loss calculation methodology for private market investments. We understand the Ombudsman for Banking Services and Investments has such a methodology for public market investments. Transparency about how losses would be calculated would be important underwriting information for determining insurance coverage availability and pricing.”

PRL’s letter to the PCMA about the impact the Proposed Amendments may have on E&O insurance can be viewed here.

Based on PCMA’s review of the Proposed Amendments and PRL’s letter, it appears the OSC’s cost/benefit analysis did not account for the insurance necessary to satisfy potential binding OBSI awards. In the PCMA’s view, the OSC’s review of costs should have considered the insurance market’s capacity to absorb the new risks introduced by the Proposed Amendments, potential changes in premiums, and the extent of coverage offered, if any. Failing to do so results in an incomplete analysis of costs to EMDs and ignores the potential financial risk that could threaten their operational viability.

The PCMA’s concern is that EMDs may not be able to secure E&O insurance thus exposing them to potentially significant uninsured losses which could result in the insolvency of EMDs and other registrants. Insurance is part of any firm’s risk management strategy and the absence of insurance when faced with a proposed framework that is potentially uninsurable underscores the concern that the Proposed Amendments are unfair by design.

PCMA Recommendation to Create an E&O Insurance Working Group

The PCMA welcomes the opportunity to create a working group to discuss the availability of E&O insurance in connection with the Proposed Amendments. Suggested participants would include the PCMA, other industry associations, PRL, E&O underwriters and members of the CSA and OBSI staff. The PCMA believes the working group will assist all stakeholders in fully understanding the challenges faced by insurance companies in underwriting the proposed framework, with a discussion about possible solutions.

Additional Information:

  • Other PCMA Articles on this Topic: For more information about this Article and similar articles, please see the PCMA’s dedicated website to this topic at: www.fairandbalancedregs.com

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