Insights from Winston & Strawn

On March 19, 2015, Federal Reserve Governor Daniel Tarullo testified before the U. S. Senate Committee on Banking, Housing, and Urban Affairs at a hearing intended to examine the regulatory regime for regional banks. The background of Governor Tarullo’s testimony is that the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act subjects firms that are deemed by the Financial Stability Oversight Council to be “systemically important financial institutions” to “enhanced prudential supervision” by the Federal Reserve Board and also subjects all bank holding companies with total consolidated assets of $50 billion or more to the same enhanced prudential supervision. The “enhanced prudential standards” include requirements regarding capital, liquidity, risk management, resolution planning, and single counter-party credit limits.

The implication is that all bank holding companies with total consolidated assets of $50 billion or more are systemically important, i.e. material financial distress at such a bank holding company or its nature, scope, size, scale, concentration, interconnectedness, or mix of activities could pose a threat to the financial stability of the United States. Governor Tarullo had previously questioned whether that is, in fact, the case as many regional banking organizations exceed $50 billion in total consolidated assets and failure of any of them, while regionally problematic, is not likely to threaten the financial stability of the entire country. He had asked whether the $50 billion threshold should be raised. 

Governor Tarullo testified, however, that any increase in the threshold should not remove banking agency discretion to require additional measures for specific firms or groups of firms in appropriate circumstances and also should not provide relief to the largest banking organizations.

Of even wider interest, however, Governor Tarullo also suggested that other Dodd-Frank Act thresholds should be raised.

He noted that the Volcker Rule applies to all banking organizations. He suggested that applying it only to firms with total consolidated assets of $10 billion or more would eliminate a compliance burden, the cost of which is probably not worth whatever incremental benefits might be gained at small banks.

He also noted that Dodd-Frank Act incentive compensation requirements apply to all banking organizations with $1 billion or more in assets, but, for the same reason, should be limited to banking organizations with $10 billion in assets or more.

Finally, he noted that all banking organizations with $50 billion in assets or more are subject to supervisory stress testing that entails substantial expenditures of out-of-pocket and human resources, which can be a considerable challenge even for a $70 billion bank. He confessed that supervisory benefits of including banks in the lower range in the supervisory stress tests are relatively modest and probably could be realized through other means.

If Congress will listen to the Federal Reserve Board on this subject, both community banks and regional banks may expect some significant regulatory relief.

Jerry Loeser

Feature: The U.K. Senior Managers Regime and Certification Regime

Two weeks ago the U.K. Financial Conduct Authority (“FCA”) explained how it will implement the Senior Managers Regime (“SMR”) and the Certification Regime (“CR”), which make individuals in the banking and financial services sector responsible for their actions.

Under the SMR, which also applies to investment firms designated by the U.K. Prudential Regulation Authority, firms will be required to state which senior manager is responsible for certain business areas and a firm must allocate each of the FCA prescribed responsibilities to one or more senior managers of the firm. Certain non-executive directors (“NED”) will also be subject to the SMR. They are the Chair, Senior Independent Director, and the Chairs of the Risk, Audit, Remuneration and Nominations Committees. Those NEDs who fall outside of the SMR will not be subject to regulatory pre-approval, will not be subject to the conduct rules nor the presumption of responsibility. See FCA Press Release. The SMR also requires firms to create a “responsibilities map” which specifies a firm’s management and governance arrangements in a single document. A firm’s board must annually certify that there are no gaps in the allocation of responsibilities.

The Certification Regime will require relevant firms to assess and certify at least annually the fitness and propriety of employees deemed capable of causing significant harm to the firm or any of its customers or those that could risk the integrity of financial markets.

The FCA also seeks additional comment on the SMR’s “Presumption of Responsibility.” Under the Presumption of Responsibility, when a relevant firm commits a violation the senior manager with responsibility for that area will be deemed guilty of misconduct, unless the senior manager can establish that they took reasonable steps to avoid the commission of the violation. The FCA proposes guidance on the circumstances in which it would apply the Presumption of Responsibility, how the FCA would apply it, and the steps that a senior manager should take in order to rebut the presumption of responsibility. Comments should be submitted on or before June 16, 2015.

Separately, the FCA and the Prudential Regulation Authority (“PRA”) proposed extending the SMR and CR to branches of foreign banks and PRA-designated investment firms. Under the proposal, all incoming non-European Economic Association branches will be required to have their most senior individual approved by the PRA as a senior manager. Any dedicated chief financial officer, chief risk officer or head of internal audit will also need to be approved as the branch’s senior manager. Comments should be submitted on or before May 25, 2015.

Banking Agency Developments

The Federal Reserve Bank of Atlanta will hold its 20th Annual Financial Markets Conference on March 30-April 1, 2015. This year’s conference will focus on shadow banks. Conference Website. On March 26th, Bloomberg discussed some of the shadow banking issues which the conference is expected to address. Shadow Banks. On March 27th, Reuters summarized the comments of Stanley Fischer, Vice Chair of the Federal Reserve Board. At a conference in Germany, Fischer remarked that although the non-bank financial industry has become more stable, more information is needed on the effect which hedge funds and derivatives have on the financial markets. Fischer Comments.

OCC Minority Depository Institutions Advisory Committee Meeting

The Office of the Comptroller of the Currency (“OCC”) announced it will host a public meeting of the Minority Depository Institutions Advisory Committee (“MDIAC”) on April 7, 2015. The purpose of the MDIAC is to advise the OCC on steps the OCC may be able to take to ensure the continued health and viability of minority depository institutions and other issues of concern to these institutions. OCC Press Release.

OCC Workshops

The OCC will host two workshops in Louisville, Kentucky on May 5-6, 2015, for directors of national community banks and federal savings associations. The Risk Governance workshop on May 5 combines lectures, discussion, and exercises to provide practical information for directors to effectively measure and manage risks. The workshop also focuses on the OCC’s approach to risk-based supervision and major risks in the financial industry. The Compliance Risk workshop on May 6 combines lectures, discussion, and exercises on the critical elements of an effective compliance risk management program. The workshop also focuses on major compliance risks and critical regulations. OCC Press Release.

OCC Bulletin on the Identification of Outdated, Unnecessary, or Unduly Burdensome Regulations

On March 26th, the OCC issued a Bulletin on the second notice requesting comment on the regulations published by the Federal Reserve Board, Federal Deposit Insurance Corporation, and OCC in accordance with the Economic Growth and Regulatory Paperwork Reduction Act of 1996. Comments on these rules should be submitted on or before May 14, 2015.

Federal Reserve Board Reports on Mobile Banking

On March 26th, the Federal Reserve Board published a report entitled “Consumers and Mobile Financial Services 2015.” Among other things, the report found that the underbanked are more likely to use mobile banking services than the fully banked and residents of rural areas have a lower incidence of mobile banking and mobile payment use than residents of urban areas. Federal Reserve Board Press Release.

Consumer Financial Protection Bureau Developments

CFPB Considers New Rules for Certain Consumer Loans

On March 26th, the Consumer Financial Protection Bureau (“CFPB”) announced it is considering proposing rules for payday loans, vehicle title loans, deposit advance products, and certain high-cost installment loans and open-end loans. The proposals under consideration cover both short-term and longer-term credit products that are often marketed heavily to financially vulnerable consumers and include two different approaches, one focused on prevention and the other on protection. Under the prevention requirements, lenders would have to determine at the outset of each loan that the consumer is not taking on unaffordable debt. Under the protection requirements, lenders would have to comply with various restrictions designed to ensure that consumers can affordably repay their debt. Lenders could choose which set of requirements to follow. CFPB Press Release.

Securities and Exchange Commission

New Final Rules

Amendments to Regulation A

On March 25th, the Securities and Exchange Commission (“SEC”) unanimously voted to adopt new rules that update and expand Regulation A, as required by Title IV of the Jumpstart Our Business Startups (“JOBS”) Act. Known as Regulation A+, the new rules provide an updated exemption from Securities Act registration for smaller companies. The final rules provide for two tiers of offerings: Tier 1, for offerings of securities of up to $20 million in a 12-month period, with not more than $6 million in offers by selling security-holders that are affiliates of the issuer; and Tier 2, for offerings of securities of up to $50 million in a 12-month period, with not more than $15 million in offers by selling security-holders that are affiliates of the issuer. The final rules also provide for the preemption of state securities law registration and qualification requirements for securities offered or sold to “qualified purchasers” in Tier 2 offerings. Tier 1 offerings will be subject to federal and state registration and qualification requirements, and issuers may take advantage of the coordinated review program developed by the North American Securities Administrators Association. The rules will be effective 60 days after publication in the Federal Register, which is expected during the week of March 30. SEC Press Release. See also Aguilar Statement (discussing differences between the rule as proposed and as adopted); and Gallagher Statement(discussing rule’s shortcomings).

Proposed Rules

Required Membership in National Securities Association Proposed for Broker-Dealers Active in Off-Exchange Markets

On March 25th, the SEC published for comment proposed amendments that would require broker-dealers trading in off-exchange venues become members of a national securities association. The proposed amendments to Rule 15b9-1 of the Securities Exchange Act would narrow an exemption originally designed to accommodate exchange specialists and other floor members that might need to conduct limited hedging or other off-exchange activities ancillary to their floor-based business. The proposed amendments would eliminate the current proprietary trading exemption and replace it with a more focused one that would accommodate off-exchange transactions by a floor-based dealer that are solely for the purpose of hedging the risks of its floor-based activities. The amendments would also update the exemption that permits off-exchange transactions necessary to comply with regulatory requirements restricting trade-throughs under Rule 611 of Regulation NMS. Comments should be submitted within 60 days after publication in the Federal Register, which is expected during the week of March 30. SEC Press Release. See also Piwowar Statement (questioning the need for the amendment).

Other Developments

Commissioner Stein Addresses Brooklyn Law School International Business Law Roundtable

On March 26th, SEC Commissioner Kara M. Stein discussed the importance of enabling global aggregation of swaps data, international collaboration on an approach to swaps margin, and international collaboration on accounting and disclosure. Stein Remarks.

Chair White Testifies Before House Financial Services Committee

On March 24th, SEC Chair Mary Jo White testified before the House Financial Services Committee on the agency’s agenda and its 2016 budget request. White Testimony. Reuters reported White, in response to Committee questions, said the Commission will not propose new proxy access rules for shareholders but is closely monitoring the proxy access proposals currently being considered by companies. Proxy Monitoring. Think Advisor summarized White’s comments regarding the adoption of a uniform fiduciary duty rule for broker-dealers and investment advisors. White said the Department of Labor will likely proceed with its rulemaking process while the SEC embarks on its proposal. White additionally said that while the agency will move forward with a proposal that would require third-party examinations of investment advisors, that route is not “optimal.”Advisory Comments.

Remote Prospects for Harmony

On March 23rd, DealBook’s Peter J. Henning, a Wayne State University law professor, discussed the prospects for a harmonized fiduciary duty requirement, concluding that they are remote. Remote Prospects.

Relief from Investment Advisor Act’s Custody Rule

On March 23rd, the SEC’s Division of Investment Management granted 16th Amendment Advisors LLC no-action relief if 16th Amendment does not comply with independent verification and account statement delivery provisions of clauses (a)(2), (a)(3) and (a)(4) of the Custody Rule in connection with a private investment fund (the “Master Fund”), and a private feeder fund into the Master Fund. The investors are 16th Amendment’s officers or directors with executive responsibility and have a material ownership in 16th Amendment, or their spouses or minor children.

Regulation SHO

On March 18th, the Division of Market Regulation issued new Regulation SHO frequently asked questions and answers. The guidance can be found at Question 2.5(A), concerning simultaneous order entry; Question 2.5(B), concerning non-marketable orders; and Question 2.6, concerning the re-marking of a pending sell order.Regulation SHO FAQs.

Commodity Futures Trading Commission

Portfolio Margining by Non-ICE Clear Europe Member FCMs

On March 27th, the Commodity Futures Trading Commission (“CFTC”) granted ICE Clear Europe’s request for an amendment to the CFTC’s order which permits ICE Clear Europe and its clearing members that are registered futures commission merchants (“FCMs”) to commingle in a futures customer account positions in futures and options, and foreign futures and foreign options, and related customer money, securities, and property; and portfolio margin these futures and options, and foreign futures and foreign options, in the futures customer account. The amendment extends the original order to include not only ICE Clear Europe and its clearing members, but also to FCMs that carry contracts cleared at ICE Clear Europe through a clearing member FCM but are not themselves clearing members. CFTC Press Release.

Market Risk Advisory Committee Meeting Agenda

On March 25th, the CFTC published the agenda for the upcoming Market Risk Advisory Committee (“MRAC”) public meeting to be held on April 2, 2015. The MRAC meeting will focus on issues related to current risk management techniques employed by derivatives clearing organizations to ensure that the appropriate measures are in place to address the potential default of a significant clearing member; and the evolving structure of the derivatives markets, particularly with respect to swap execution facilities. CFTC Press Release.

Staff Advisory on the Ownership and Control Reports Final Rule

On March 23rd, the CFTC’s Division of Market Oversight and Division of Swap Dealer and Intermediary Oversight issued a staff advisory reminding FCMS, clearing members, foreign brokers, swap dealers, and certain reporting markets (collectively, “reporting parties”) of their obligation to obtain information on a timely basis from their customers or counterparties in order to comply with the ownership and control reports (“OCR”) final rule. It may be advisable for reporting parties to take steps to ensure that their customers and counterparties: respond promptly to requests from reporting parties for OCR information; promptly notify reporting parties of any subsequent updates to the information; and otherwise assist reporting parties in fulfilling their reporting obligations under the OCR final rule. CFTC Press Release.

Federal Rules Effective Dates

March 2015 - May 2015

Commodity Futures Trading Commission

May 26, 2015

Residual Interest Deadline for Futures Commission Merchants. 80 FR 15507.

Federal Deposit Insurance Corporation

March 2, 2015

Transferred OTS Regulations Regarding Possession by Conservators and Receivers for Federal and State Savings Associations. 80 FR 5015.

Removal of Transferred OTS Regulations Regarding Rules of Practice and Procedure and Amendments to FDIC Rules and Regulations. 80 FR 5009.

Federal Housing Finance Agency

April 10, 2015

Federal Home Loan Bank Capital Stock and Capital Plans. 80 FR 12753.

March 26, 2015

Housing Trust Fund. 80 FR 15885.

Federal Housing Finance Board

April 10, 2015

Federal Home Loan Bank Capital Stock and Capital Plans. 80 FR 12753.

Securities and Exchange Commission

May 18, 2015 Regulation SBSR-Reporting and Dissemination of Security-Based Swap Information. 80 FR 14563.

Security-Based Swap Data Repository Registration, Duties, and Core Principles. 80 FR 14437.

Treasury Department

April 3, 2015 Department of the Treasury Acquisition Regulation; Technical Amendments. 80 FR 11595.

March 17, 2015 Privacy Act of 1974; Implementation. 80 FR 13764.

March 13, 2015 Documentation Related to Goods Imported From U.S. Insular Possessions. 80 FR 7537.

March 10, 2015 Government Securities Act Regulations: Large Position Reporting Rules. 79 FR 73407.

March 8, 2015 Extension of Import Restrictions Imposed on Certain Categories of Archaeological Material From the Pre-Hispanic Cultures of the Republic of El Salvador. 80 FR 12080.

Exchanges and Self-Regulatory Organizations

Financial Industry Regulatory Authority

SEC Approves FINRA Rules Regarding Payments to Unregistered Persons

On March 20th, the Financial Industry Regulatory Authority (“FINRA”) announced the SEC has approved FINRA’s proposed adoption of rules relating to payments to unregistered persons for the consolidated FINRA rulebook, FINRA Rules 2040 (Payments to Unregistered Persons) and 0190 (Effective Date of Revocation, Cancellation, Expulsion, or Resignation). FINRA also has amended FINRA Rule 8311 (Effect of a Suspension, Revocation, Cancellation, or Bar). The new rules and amendments become effective on August 24, 2015. FINRA Regulatory Notice 15-07.

Registration Proposed for Those Involved in Designing Algorithmic Trading Strategies

On March 19th, FINRA requested comment on a proposal to require registration as a Securities Trader of associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies, or who are responsible for supervising or directing such activities. Comments should be submitted on or before May 18, 2015. FINRA Regulatory Notice 15-06.

ICE Clear

Clearance of Additional Standard Emerging Market Sovereign Single Names Approved

On March 26th, the SEC granted accelerated approval to ICE Clear Credit’s proposed adoption of rules to provide for the clearance of additional Standard Emerging Market Sovereign single-name constituents of the CDX Emerging Markets Index. The rules would provide for the clearance of SES Contracts for the Republic of Chile, the Republic of Peru, the Republic of Colombia, Ukraine, and the Republic of Poland. SEC Release No. 34-74593.

Clearance of Additional European Sovereign CDS Approved

On March 26th, the SEC approved ICE Clear Europe’s proposed rule change to provide for the clearance of European sovereign credit default swap contracts referencing the Kingdom of the Netherlands, the Republic of Finland, the Kingdom of Sweden and the Kingdom of Denmark. SEC Release No. 34-74588.

New Haircut Policy Proposed

On March 25th, the SEC provided notice of ICE Clear Europe’s filing of a proposal that would implement a new collateral and haircut policy which would be applicable to Permitted Cover posted by Clearing Members to meet the Clearing House’s Margin and Guaranty Fund requirements. Comments should be submitted within 21 days after publication in the Federal Register, which is expected during the week of March 30. SEC Release No. 34-74579.

Amendment to Rules Relating to Physical Settlement of CDS Contracts Proposed

On March 23rd, the SEC provided notice of ICE Clear Credit’s filing of proposed amendments to the ICC Clearing Rules relating to physical settlement of CDS Contracts. Under the current ICC Rules, if physical settlement applies, the clearinghouse will match clearing participants that are protection buyers with participants that are protection sellers in the relevant contract, and the two participants will be responsible for effecting physical settlement between them. ICC does not itself perform or guarantee performance of physical settlement between the matched participants. At the request of its participants, and following extensive consultation with them, ICC proposes to amend the ICC Rules relating to physical settlement such that the clearinghouse will be responsible for financial performance of physical settlement. Comments should be submitted on or before April 17, 2015. SEC Release No. 34-74563.

Municipal Securities Rulemaking Board

Amendments to Real Time Transaction Reporting System Proposed

On March 23rd, the SEC provided notice of the Municipal Securities Rulemaking Board’s (“MSRB”) filing of proposed amendments to the MSRB Rule G-14 RTRS Procedures, and the Real-Time Transaction Reporting System and subscription service. The proposed rule change would enhance the post-trade price transparency information provided through RTRS by: expanding the application of the existing list offering price and takedown indicator to cases involving distribution participant dealers and takedown transactions that are not at a discount from the list offering price; eliminating the requirement for dealers to report yield on customer trade reports and, instead, enabling the MSRB to calculate and disseminate yield on customer trades; establishing a new indicator for customer trades involving non-transaction-based compensation arrangements; and establishing a new indicator for alternative trading system transactions. Comments should be submitted on or before April 17, 2015.SEC Release No. 34-74564.

National Futures Association

Forex Guide Updated

On March 24th, the National Futures Association published an updated “Forex Transactions: A Regulatory Guide.”


Longer Period Designated for Consideration of Proposal Regarding Listing Rules

On March 19th, the SEC designated May 5, 2015, as the date by which it will approve, disapprove or institute disapproval proceedings regarding NYSE Arca’s proposed rule change to amend NYSE Arca Equities Rule 5.2(j)(3), Commentary .02 relating to the listing of Investment Company Units based on fixed income securities indexes. SEC Release No. 34-74534.

The Options Clearing Corporation

Amendment of Summary Suspension Rule Approved

On March 19th, the SEC approved The Options Clearing Corporation’s (“OCC”) proposal to expand the officers who may declare that a clearing member is summarily suspended from OCC. SEC Release No. 34-74537.

Amendment of Letter of Credit Rules Proposed

On March 19th, the SEC provided notice of The Options Clearing Corporation’s proposed enhancement of the measurement used by OCC to establish minimum capital requirements for banks approved to issue letters of credit that may be deposited by clearing members as a form of margin asset. OCC proposes to amend OCC Rule 604 Interpretation and Policy .01 to substitute Tier 1 Capital for shareholder’s equity. SEC Release No. 34-74536.

Judicial Developments

Strong Case for Negligence Isn’t Enough to Establish Scienter

On March 25th, the Eleventh Circuit affirmed the dismissal of securities fraud claims filed against the former chief financial officer of Jiangbo Pharmaceuticals, Elsa Sung, and Jiangbo’s outside auditors, Frazer LLP. Jiangbo shareholders allege that Elsa Sung and Frazer misrepresented the company’s cash balances and failed to disclose a material related-party transaction. The Court found that although Sung’s resignation, failure to cooperate fully with an Audit Committee investigation, and the opening of a SEC investigation suggest she didn’t fulfill basic duties to investors, the complaint fails to establish she must have known about discrepancies in reporting or that she was severely reckless in not knowing about them. The seriousness of Jiangbo’s errors and Sung’s proximity to those errors at most imply negligence, which is not enough to establish scienter. Addressing the claims against Frazier, the Court noted that the complaint does not set out in what ways Frazer’s audit was deficient. There is no allegation that Frazer had extensive involvement with the company beyond what was required to conduct a single audit, and there is no connection between the fact of an SEC investigation and Frazer’s state of mind. The complaint might make a strong case for negligence but again, negligence is not enough to establish a strong inference of scienter. Brophy v. Jiangbo Pharmaceuticals, Inc.

Industry News

Treasury Department Asked to Resolve Cross-Border Dispute

On March 26th, the Wall Street Journal reported Senator Pat Roberts has asked Treasury Secretary Jacob Lew to mediate the differences between the CFTC and the European Union over the cross-border regulation of derivative clearinghouses. Resolution.

“Too Big to Bar” Bill Proposed

On March 24th, Representative Maxine Waters proposed the “Bad Actors Disqualification Act of 2015,” which would require the SEC to implement a more rigorous and transparent process for granting waivers from automatic administrative disqualifications. The bill would require the waiver process to be conducted and voted on at the Commission level, include a public notice and comment period and provide for the opportunity to request a hearing. The bill would also require the SEC to consider whether granting a waiver would be in the public interest, protect investors and promote market integrity. And finally, it would require SEC staff to keep complete, public records of all waiver requests and denials and create a public database of those subject to a disqualification. Waters Press Release.

Recurring Risks

On March 23rd, DealBook summarized the remarks made at a Federal Reserve Board conference. Speakers enumerated the risks that continue to exist in the U.S. banking and financial markets which include regulatory fragmentation and a lack of transparency. Recurring Risks.