On December 16, 2016, the SEC staff issued a no-action letter (the “Letter”) providing no-action assurance under Section 17(e) of the 1940 Act where a broker (the “Broker”) that is an affiliated person of the Russell family of funds (the “Funds”) received compensation from the Funds for effecting their foreign currency transactions (“FX Transactions”), within the parameters of Section 17(e)(2) or the 1940 Act.

In general, Section 17(e)(2) of the 1940 Act permits any first- or second-tier affiliated person of a fund, acting as the fund’s broker, to receive commissions from the fund for effecting brokerage transactions, provided that the commissions do not exceed “the usual and customary broker’s commission if the sale is effected on a securities exchange.” Rule 17e-1 provides that a commission will not be deemed to exceed the usual and customary broker’s commission if the commission is reasonable and fair compared to the commission “received by other brokers in connection with comparable transactions involving similar securities being purchased or sold on a securities exchange during a comparable period of time.”

The Russell applicants noted in their letter to the staff (the “Incoming Letter”) that in the 1998 Drinker no-action letter,1 the SEC staff provided no-action assurance under Section 17(e) to funds utilizing an affiliated broker to effect FX Transactions, based on representations that all such transactions would be conducted in accordance with certain procedures that would satisfy the requirements of Rule 17e-1. Drinker also was based on a representation that the Rule 17e-1 procedures would permit a fund to use an affiliated broker only when the price obtained for an FX Transaction, plus the affiliated broker’s commission, was at least as favorable as the price contemporaneously quoted by an independent source previously selected by the fund’s trustees. The Incoming Letter contended that these conditions were unworkable in the foreign exchange market where most of the participants are principals acting for their own accounts and where there is limited price and commission transparency. Accordingly, the Incoming Letter proposed variations of the Rule 17e-1 procedures approved in Drinker.

In the Letter, the staff repeated the Incoming Letter’s description of the foreign exchange market and the apparent difficulties in satisfying the representations in Drinker. However, instead of approving the Incoming Letter’s proposed Rule 17e-1 procedures, the staff stated:

Although we express no view as to whether the procedures you describe satisfy the requirements of Section 17(e)(2) and Rule 17e-1, we note that any such procedures must be reasonably designed to address the concerns that Section 17(e) was intended to address, including the potential that RICs might be managed and operated in the interest of the adviser and its affiliated persons, rather than in the interest of RIC shareholders . . . We further confirm that the procedures described in Drinker do not represent the sole means by which [the Broker] may satisfy the requirements of Section 17(e)(2) and Rule 17e-1.

The Letter is helpful to similarly situated fund complexes in getting past the unworkable Drinker conditions. However, because the staff did not expressly approve of the Rule 17e-1 procedures proposed in the Incoming Letter, a fund complex may have to proceed cautiously in creating its own set of workable procedures.