Mixed feedback on the OSC’s proposal to improve retail investor access to long-term assets Mixed feedback on the OSC’s proposal to improve retail investor access to long-term assets

On October 10, 2024, the Ontario Securities Commission (the OSC) released Consultation Paper 81-737 [PDF] regarding its proposal to improve the ability for retail investors to access long-term illiquid assets (long-term assets) through investment fund product structures (the proposal). Long-term assets are considered to be illiquid assets that cannot be readily disposed of, may be difficult to value and generally have longer investment time horizons than other types of assets. Examples of long-term assets include venture capital, private equity, private debt, mortgages, real estate, infrastructure and natural resource projects.

The OSC noted that existing channels through which retail investors may invest in long-term assets (e.g., by purchasing securities of a public company that owns a variety of long-term assets) can be limited. Many long-term assets are privately funded and unavailable to retail investors, and there has been a growing tendency for issuers to stay private for longer periods or to forego going public altogether. In response to these limitations, the OSC has proposed creating a new investment fund category (referred to as an Ontario Long-Term Fund or OLTF) that would be designed to provide retail investors with opportunities to invest in long-term assets. This aligns with the Government of Ontario’s goal of identifying innovative ways to finance transportation, housing, energy and municipal services.

The proposed structure of the OLTF

If introduced, an OLTF’s primary purpose would be to invest money provided by its securityholders (and, consistent with other investment funds, not for the purpose of exercising control of an issuer or being actively involved in the management of an issuer) without being subject to the illiquid asset restrictions applicable to other investment funds. OLTFs would become reporting issuers in Ontario through a prospectus-qualified offering, but would not have any securities listed and/or traded on a marketplace in Canada given that, as contemplated, they would be available only to Ontario investors. Additionally, the proposal contemplated that OLTFs would be required to hold a minimum percentage of long-term assets, as well as a maximum to ensure that they possess sufficient liquid assets to meet redemption requests.

The proposal also contemplated that OLTFs could be either fixed-term — which may be suitable for funding infrastructure or other development projects with expected completion dates — or evergreen funds. Any liquidity risks arising from redemption and funding mismatches would need to be disclosed and effectively managed.

The proposal would require that OLTFs invest in long-term assets through the securities of underlying collective investment vehicles (CIVs). CIVs would be issuers that invest in long-term assets and would be required to have a sophisticated cornerstone investor (such as a pension fund or other institutional investor). OLTFs would also have to be managed by a registered investment fund manager (IFM), with portfolio assets being selected and monitored by a registered portfolio manager (PM). The involvement of cornerstone investors, IFMs and PMs is meant to help mitigate risks to retail investors by leveraging the skills and experience of these parties.

The OSC identified what it considered threshold issues in determining what requirements should apply to OLTFs and set out the OSC’s current views on how they should be addressed:

• Redemptions: The proposal recognized that redemption restrictions may be useful in helping funds manage liquidity, but that overly onerous restrictions will decrease the attractiveness of investments in OLTFs. In response to this, the OSC proposed specifying a range of redemption frequency restrictions (i.e., monthly, quarterly, semi-annually or annually) and allowing OLTFs to choose a frequency within that range.
  • The OSC suggested that a 10% cap per annum (but no less than a 10% cap) on total redemptions per period could be permitted in order to manage liquidity, and a maximum 30-day redemption notice requirement could be permitted to benefit the liquidity preferences of investors. The OSC contemplated that redemptions could be made at a discount to net asset value (NAV), and that payment of redemption proceeds could be pushed out to up to 15 days after the valuation date. The OSC also contemplated temporary periodic redemption suspensions to allow OLTFs to respond to liquidity mismatches.
  • The proposal proposed potentially greater redemption restrictions applicable to fixed-term OLTFs, such as initial ramp-up period restrictions (e.g., for the first one to three years), a requirement to return proceeds after each CIV exit or fund termination, or possibly even allowing for fixed-term OLTFs with no or very restrictive redemption rights.
• Valuation (NAV): The proposal acknowledged that calculating NAV on a continuous basis would likely be challenging for OLTFs, as the long-term assets would not be publicly traded. In response to this, the OSC proposed requiring OLTFs to obtain an independent valuation at least annually.
• Monitoring, review and governance: In addition to requiring that OLTFs establish an independent review committee to review conflicts of interest (similar to other reporting issuer investment funds), the OSC proposed adding a requirement that
  • OLTFs be structured as corporations and have an independent board of directors
  • IFMs disclose how they manage a portfolio of long-term assets in the best interests of an OLTF and its securityholders
  • IFMs disclose their assessments of whether long-term assets are fairly valued in respect of NAV calculations
  • OLTFs obtain independent valuations of long-term assets
• Disclosure: The OSC proposed setting out a new prospectus form for OLTFs, a new form of summary disclosure document (similar to the Fund Facts) and a new form of Managements’ Report of Fund Performance, each tailored to the unique features of OLTFs. OLTFs would also be required to include “Ontario Long-Term Funds” in their name. Only funds that comply with all OLTF requirements would be permitted to use this name.
• Investment restrictions: In order for OLTFs to invest in long-term assets, Part 2 of National Instrument 81-102 – Investment Funds would have to be modified. Specifically, the OSC proposed introducing a requirement that OLTFs be required to invest between 50% and 90% of NAV in long-term assets, which would allow OLTFs to manage their liquidity needs without generating a material dilution of any illiquidity premiums or diversification benefits.
  • As an alternative, the OSC queried whether, rather than prescribing minimum and maximum liquidity percentages, OLTFs could be accorded flexibility to set their own liquidity parameters so long as they aligned with anticipated redemptions to minimize the risk of liquidity impacts.
  • OLTFs would also be subject to concentration restrictions (i.e., no more than 10% of NAV in any one asset, for evergreen OLTFs, and no more than 20% — after an initial ramp-up period — for fixed-term OLTFs) to optimize the diversification benefits of holding long-term assets through investment fund product structures.
  • Finally, the OSC took the initial view that OLTFs’ debts should be limited to 10% of their most recent NAV at the time of borrowing, with no additional leverage permitted subject to an exception for temporary liquidity management.
• CIVs: The proposal would require that OLTFs hold long-term assets through one or more CIVs, defined as any issuer whose primary purpose is investing in one or more long-term assets. An OLTF could own no more than 10% of a CIV’s equity, and each CIV would need to include one or more cornerstone investors holding at least 10% of the CIV’s equity. Exit rights of cornerstone investors would be proportional to the exit rights of OLTFs. The OSC acknowledged that a CIV requirement might be better suited to fixed-term OLTFs.
• Distribution: The proposal contemplated that OLTF securities would be made available through investment dealers overseen by the Canadian Investment Regulatory Organization, and/or portfolio managers registered with Canadian securities regulators. In addition, where the OLTF is a mutual fund, OLTF securities could be distributed by mutual fund dealers that distribute alternative mutual funds. Given the unique features of OLTFs, the OSC stated its initial position that it would be appropriate to restrict access through order-execution-only dealers.

The OSC sought comments on the proposal by February 7, 2025.

Responses to the proposal

Feedback to the proposal has been varied, with certain stakeholders applauding the OSC for this initiative and others questioning its utility and potential functionality.  

Certain stakeholders commented that the proposal was a positive step towards the democratization of private capital markets. These stakeholders expressed a belief that many retail investors are interested in investment opportunities that are currently limited to institutional investors, accredited investors or Canadians participating in pension plans, and that the OLTF structure offers an opportunity for more of these retail investors to enter this space. Other stakeholders thought that OLTFs could provide a vital new source of capital for businesses and support the growth of infrastructure and natural resource projects throughout Ontario.

While many stakeholders indicated a general interest in the creation of OLTFs, several modifications to the proposed regulations were also suggested. For instance, certain commenters recommended more closely aligning the regulation with the existing mutual fund framework, removing the cornerstone investor requirements and injecting more flexibility into the proposed regulations to allow IFMs and PMs to account for the unique investment attributes of certain long-term assets.

A number of commenters expressed concern that the proposal carried risks that will cause more harm than good to retail investors. Many commenters questioned whether there was sufficient demand from retail investors for these types of investments, and whether such limited demand actually justified the regulatory costs and resources required to implement the proposal. On a similar note, some commenters feared that the complexity of the OLTF’s structure would erode any illiquidity premiums that accompany investments in long-term assets due to excessive costs required to develop and operationalize the OLTF.

Others expressed concern regarding how potential conflicts of interests created for parties involved in managing, advising and distributing OLTFs would be identified, disclosed and appropriately managed — for instance, differences in opinions regarding valuation methodologies or the ability for IFMs to be compensated in situations where an OLTF temporarily suspends redemptions. Many stakeholders advocated for a stronger risk management framework in order to educate retail investors and advisors regarding the benefits and risks of OLTFs.

Conclusion

While the introduction of OLTFs could open up a new investment option to facilitate retail investors’ ability to invest in long-term assets, stakeholders have raised a number of valid concerns that may impact this initiative’s success and utility. It remains to be seen what changes, if any, the OSC will make to the proposal in response to stakeholder feedback. The feedback received is expected to guide the OSC in the next phase of the proposal, which is anticipated to be the publishing of the proposed rule amendments and policy changes for public comment.