Insights from Winston & Strawn

With the U.S. Presidential election set for Tuesday, November 8, Americans will soon learn who will run the country for the next four years.  But regardless of the election’s outcome, there is a good chance we may not know for a while longer who will run the Securities and Exchange Commission (“SEC”) during the same period—and that could further slow rulemaking at the already hobbled agency. 

While newly installed presidents typically appoint new persons to head many agencies, including the SEC, political gridlock in Washington could make appointing a replacement for current SEC Chair Mary Jo White (originally a President Obama appointee) a particularly difficult battle.  Some are speculating that, if the presidency and the Senate are controlled by different parties, Chair White, a political independent, could be invited to remain in her leadership post indefinitely until a political path for a replacement can be found.  Bloomberg has published two recent articles on this topic (here and here).

This uncertainty in the Chair position is particularly untimely for the SEC, considering that the typically five-person commission has been operating with only three commissioners since the departures of former commissioners Daniel Gallagher in October 2015 and Luis Aguilar in December 2015.  Nominations made by the Obama Administration to replace them have stalled in the Senate.  This has left the agency and Chair White to operate with just two other commissioners: one Republican, Michael Piwowar, and one Democrat, Kara Stein, who frequently differ on policy and enforcement cases.

At the same time the SEC has been slowed by growing political impediments, it has experienced significant growth in the number of registered investment advisers under its purview, and managing its examination and enforcement responsibilities with respect to those advisers has been a challenge.  In addition to adding many examiners and doubling spending for on-site examinations of advisers’ books and employees, the SEC has recently explored additional methods for reaching the growing number of advisers under its jurisdiction, including the potential use of third parties to perform some exams (see “Feature” article immediately below).

However, with the agency's limited and uncertain leadership, it’s looking increasingly likely that the SEC’s progress on these and other matters may continue to be slowed for the foreseeable future.

Feature: SEC’s Third-Party Exam Rule Is Delayed

In September, Securities Exchange Commission (“SEC”) Chair Mary Jo White appeared at a Securities Industry and Financial Markets Association (“SIFMA”) annual capital markets conference in Washington D.C., where she stated during a question-and-answer session that commissioners at the SEC are currently reviewing staff recommendations on a rule to require independent compliance checks for investment advisors, also known as third-party exams. During her Q&A with SIFMA president and CEO Ken Bentsen, White noted that SEC staff has concluded its “independent compliance reviews” plan for advisors and that the proposal is “now with the commissioners.”

However, during an Oct. 13 SEC open meeting, SEC Commissioner Michael S. Piwowar stated that he would not support any new SEC rulemaking until the panel voted on a rule that would simplify online delivery of mutual fund shareholder reports. He sketched out four measures that were already scheduled for a vote, none of which included third-party exams, adding that he commits “neither calling for, nor working on, any non-emergency rule-makings beyond the four I just mentioned until we vote on the [electronic delivery] rule.” Since then, the regulatory agency has acted on two other matters, but Piwowar has not yet withdrawn his caveat.

On November 1st, the Wall St. Journal reported that the third-party exam rule is “stalled” and that Piwowar and Commissioner Kara M. Stein are apprehensive about its “costs and effectiveness.” This apprehension comes amid fears that, in drafting a final rule, the SEC would have to deal with problematic details, such as quality standards for private-sector examiners and the costs that would be incurred by advisers who would have to pay for their own reviews.

On November 2nd, InvestmentNews noted that the SEC will probably not revisit the third-party exam proposal. Duane Thompson, senior policy analyst at fiduciary training firm Fi360, commented that the third-party exam proposal is an intricate, divisive issue that is difficult to advance on a commission that is functioning with only three of its five members (see the Winston Insights note above). Thompson noted that “it looks like we’re not going to see much come out of the commission until a new president is in office, we get a new chairman and the vacancies are filled.”

Skip Schweiss, managing director of advisor advocacy at TD Ameritrade Institutional who has been advocating for third-party exams as a means for the SEC to close the exam-coverage gap for advisers, stated that the latest developments are not promising. “Every idea that is put forward, somebody has criticism for or opposition to,” Schweiss said. “It would appear on the surface that it’s in jeopardy of not going anywhere.”

Norm Champ, the former director of the SEC’s Division of Investment Management, has criticized the SEC’s plan to require advisors to get third-party audits, asserting that such audits will be expensive for advisors and their clients and could yield unplanned consequences. In an op-ed for the Wall Street Journal last November, Champ noted that before the SEC prepares to finalize a third-party exam rule, it needs to “reallocate its own resources and improve its productivity,” specifically by moving over some of the 200 examiners dedicated to broker-dealer exams to advisor exams. Champ added that shifting the burden on advisors to receive a third-party exam “turns a blind eye to the SEC’s failure to use its own resources efficiently.” He queried: “The SEC’s exam program has about 450 examiners for investment management firms and completes about 1,100 exams a year. That is about two exams per person a year. Shouldn’t the SEC address its own productivity before it imposes a costly burden on advisors?”

FINRA – Regulatory Matters at a Glance

Please click here to view a summary of the regulatory notices, rule filings, guidance and the like published by the Financial Industry Regulatory Authority (“FINRA”) during the previous month.

Banking Agency Developments


Comptroller Discusses Banking Innovation and Regulation

On November 3rd, the OCC announced that Comptroller of the Currency Thomas J. Curry discussed at the Chatham House “City Series” Conference how fintech and consumer expectations are changing the financial services industry, and the agency’s efforts to develop a responsible innovation framework and supervision structure. 

Updated Comptroller’s Handbook Booklet

On November 3rd, the OCC announced that it has updated the asset quality core assessment procedures in the “Community Bank Supervision” booklet of the Comptroller’s Handbook. These updates incorporate supervisory guidance issued since the last update to the booklet and enhance the existing core assessment procedures.

Morris Morgan to Become Senior Deputy Comptroller for Large Bank Supervision

On November 1st, the OCC announced that Morris Morgan will be the agency’s Senior Deputy Comptroller for Large Bank Supervision, effective December 24, 2016. Mr. Morgan will direct over 700 people who supervise the country’s largest national banks and federal branches and agencies. He will serve as a member of the OCC’s Executive Committee and the Committee on Bank Supervision and will also oversee the operations of the agency’s International Banking Supervision group and the OCC’s London Office.

Agencies Request Comment on Proposed Private Flood Insurance Rule

On October 31st, the OCC, along with the Board of Governors of the Federal Reserve System, the Farm Credit Administration, the Federal Deposit Insurance Corporation, and the National Credit Union Administration, announced that they are requesting comment on a joint notice of proposed rulemaking to implement provisions of the Biggert-Waters Flood Insurance Reform Act that require regulated lending institutions to accept certain private flood insurance policies in addition to policies made available by FEMA. The proposed rule includes provisions to assist lending institutions in identifying private flood insurance policies they would be required to accept. The proposal also would clarify that lenders retain their discretion to accept private flood insurance policies that do not meet the criteria for mandatory acceptance, provided certain conditions are met. In addition, the proposed rule would establish criteria to apply in determining that coverage offered by a mutual aid society provides the type of policy or coverage that qualifies as “flood insurance” for purposes of the federal flood insurance laws. The agencies previously issued a proposal addressing private flood insurance. Based on comments received in response to that proposal, the agencies have decided to issue this second proposal for additional public comment. Comments are due 60 days from date of publication in the Federal Register.

OCC Notifies Congress of Incident Involving Unauthorized Removal of Information

On October 28th, the OCC announced that it notified Congress, the Director of Office of Management and Budget, the Secretary of Homeland Security, and the head of the Government Accountability Office of a major information security incident, as required by the Federal Information Security Modernization Act. The incident involves a former employee who downloaded a large number of files onto two removable thumb drives prior to his retirement and, when contacted, was unable to locate or return the thumb drives to the OCC. The information on the two thumb drives was encrypted based on OCC policy to prevent information that is lost or stolen from being misused. The incident has not adversely affected OCC systems or the OCC’s mission, and the agency has not detected corruption of any data as a result of the incident. Additionally, policies and technical safeguards implemented in August 2016 now prevent such an event from occurring.

Securities and Exchange Commission

Interim Final Rules

SEC Takes Additional Time to Act on Consolidated Audit Trail

The SEC adopted temporary Rule 608T under the Securities Exchange Act as an interim final rule on November 3rd.  New Rule 608T extends to November 15, 2016, the date by which the SEC is required to act on the proposed National Market System (“NMS”) Plan Governing the Consolidated Audit Trail. The SEC had previously set a deadline of November 10, 2016, to take action on the plan. The rule will become effective upon publication in the Federal Register and will expire on November 16, 2016. SEC Release No. 34-79237.


Corporation Finance Offers New Guidance on Form-3 Transaction Requirements

On November 2nd, the SEC’s Division of Corporation Finance updated its Compliance and Disclosure Interpretations (“C&DI”) on Securities Act Forms by introducing a new C&DI on Form S-3. New C&DI 116.25addresses the application of the offering size limitations of Instruction I.B.6 to an offering that includes a resale of securities from a separate private placement in reliance on Instruction I.B.3 and would cause the aggregate number of shares sold to exceed the Instruction I.B.6 limitation.\

Corporation Finance Issues New C&DI on Proxy Rules and Schedule 14A

The SEC’s Division of Corporation Finance published a new C&DI on November 2nd addressing the submission of annual reports to the SEC under Securities Exchange Act Rules 14a-3 and 14c-3. The new C&DI explains that companies can post electronic versions of the annual reports sent to security holders to their websites and keep them accessible for at least one year after posting, in lieu of mailing paper copies or submitting them on EDGAR to fulfill requirements under the rules that registrants furnish copies to the SEC “solely for its information.”

No-Action Letters

SEC Offers Guidance on Rule 144(d)(1)’s Holding Period in UP-C Structure

The SEC’s Division of Corporation Finance issued a no-action letter on November 1st in response to a requestfor interpretative guidance on the application of Securities Act Rule 144(d)(1)’s holding period to transactions involving exchanges of corporation shares for units in an umbrella tax partnership in an UP-C structure. The Division concluded that the Rule 144(d) holding period for the corporation shares commenced upon the acquisition of the partnership units.

Speeches and Statements

Stein Discusses Opportunities and Challenges of Big Data in Financial Regulation

In a keynote address to the Big Data in Finance Conference on October 28th, SEC Commissioner Kara M. Stein discussed the impact that developments in data technology have had on the financial markets and the opportunities and challenges these developments present to the SEC and other financial regulators. Stein highlighted the work of staff in the SEC’s Division of Economic Research and Analysis (“DERA”), the development of the Market Information Data Analytics System (“MIDAS”) to analyze equity market activity, and the advancement of the Consolidated Audit Trail as instrumental in helping the SEC to meet the challenge of developing and using data effectively.   

Other Developments

SEC Announces Panelists and Agenda for Fintech Forum

On November 3rd, the SEC released the agenda and panelists for its upcoming forum on fintech innovation in the financial services industry, which will be held on November 14, 2016. Among other things, the panels will address investor protection; the effect of fintech innovation on trading, settlement, and clearance activities; and the impact of innovation in investment advisory services and capital formation. SEC Press Release.

Staff Announcements

Marc A. Panucci will join the SEC later this month to serve as a Deputy Chief Accountant in the Office of the Chief Accountant, according to an announcement by the agency on November 2nd. Panucci will replace Brian T. Croteau, who announced his departure from the SEC last July.

DERA Offers Additional Economic Analysis on Proposed Derivatives Rule

The SEC’s Division of Economic and Risk Analysis (“DERA”) staff released additional economic analysis related to the SEC’s proposed rule that would limit the use of derivatives by registered funds and business development companies and require them to put risk management measures in place. The staff’s analysis assesses the internal consistency of certain risk-adjustment and haircut schedules, which were originally developed for other regulatory purposes and have been suggested as the basis for portfolio limitations under the proposed rule, across asset classes and categories for purposes of risk-adjustment and risk-weighting with respect to the rule. SEC Press Release.

SEC Offers Guidance to Small Entities on Changes to Form ADV and Investment Advisers Act Rules

On October 28th, the SEC published a small-entity compliance guide on the amendments to Form ADV and certain Investment Advisers Act rules adopted by the SEC on August 25, 2016.  These rules require advisers to disclose additional information on Form ADV, codify umbrella registration for certain advisers to private funds, require advisers to maintain additional materials related to the calculation and distribution of performance information, and make technical amendments. The guide provides an overview of the amendments and identifies additional resources on the SEC’s website.  

Commodity Futures Trading Commission

CFTC and Canadian Authority Sign Counterpart to MOU to Enhance Supervision of Cross-Border Regulated Entities

On November 2nd, the CFTC announced that Chairman Timothy Massad signed a Counterpart to a 2014 Memorandum of Understanding (“MOU”) with John O’Brien, Superintendent of Securities for Newfoundland and Labrador, and Patricia Hearn, Canadian Deputy Minister for Intergovernmental Affairs. The MOU relates to cooperation and the exchange of information in the supervision and oversight of regulated entities that operate on a cross-border basis in the U.S. and in Canada.

Market Risk Advisory Committee to Meet on November 17, 2016

On November 2nd, the CFTC announced that its Market Risk Advisory Committee (“MRAC”) will hold a public meeting on November 17, 2016 at the agency’s Washington, D.C., headquarters. At this meeting, the CCP Risk Management Subcommittee will present to the MRAC its final recommendations on how Central Counterparties (“CCPs”) can further enhance their efforts in preparing for the default of a significant clearing member as discussed at previous MRAC meetings; and the MRAC will discuss the Bank of England’s coordinated CCP default fire drill.

CFTC Further Implements Trade Execution Requirement

On November 1st, the CFTC’s Division of Market Oversight (“Division”) announced that it has further extended the time-limited no-action relief for swaps executed as part of a package transaction in the categories that currently receive relief under CFTC Letter 15-55. This extension, announced in CFTC Letter 16-76, will enable the Division to continue assessing the appropriate response for applying the trade execution requirement to swaps in certain types of package transactions.

Federal Rules Effective Dates

November 2016 – January 2016

Click here to view table. 

Exchanges and Self-Regulatory Organizations

Chicago Board Options Exchange

C2 Proposes Additional Price Protection Mechanisms

On October 28th, the SEC requested comments on C2 Options Exchange, Incorporated’s (“C2”) proposal to enhance current and adopt new price protection mechanisms and risk controls for orders and quotes. Among other things, the proposed rule change would amend the limit order price parameter for simple orders, modify the drill-through price check parameter, and authorize C2 to share any Trading Permit Holder-designated risk settings in the system with a Clearing TPH that clears exchange transactions on behalf of the TPH. Comments should be submitted on or before November 25, 2016. SEC Release No. 34-79189.

Chicago Stock Exchange

SEC Takes More Time to Consider CHX’s Proposed Liquidity Taking Access Delay

On November 1st, the SEC designated December 21, 2016, as the date by which it will approve, disapprove, or institute disapproval proceedings regarding the Chicago Stock Exchange, Inc.’s (“CHX”) proposed rule change to adopt the CHX Liquidity Taking Access Delay, which would require all new incoming orders received during the Open Trading State that could immediately execute against one or more resting orders on the CHX book, to be intentionally delayed for 350 microseconds before being processed. SEC Release No. 34-79216.

Financial Industry Regulatory Authority

FINRA Proposes New and Amended Rules to Protect Vulnerable Adults from Financial Exploitation

On November 1st, the SEC provided notice of the Financial Industry Regulatory Authority’s (“FINRA”) proposal to adopt a new rule to permit members to place temporary holds on disbursements of funds or securities from the accounts of specified customers where there is a reasonable belief of financial exploitation of these customers, and to amend its rules on customer account information to require members to make reasonable efforts to obtain the name of and contact information for a trusted contact person for a customer’s account. Comments should be submitted within 21 days of publication in the Federal Register, which is expected the week of November 7, 2016. SEC Release No. 34-79215.

FINRA Prepares Firms for 2017 Broker-Dealer and Investment Adviser Renewals

FINRA published a Regulatory Notice on November 1st that provides information to member firms about the 2017 Renewal Program for broker-dealer/investment adviser firms, branches, agents, and representatives, which renewal program will begin on November 14, 2016 with the dissemination of preliminary statements. FINRA advised registered firms that the failure to remit full payment of their preliminary statements by December 16, 2016, may cause them to become ineligible to do business in the jurisdictions where they are registered, effective January 1, 2017, and may also result in the imposition of a late fee. FINRA Regulatory Notice 16-42.

ICE Clear Credit

SEC Approves Proposed Changes to ICC’s Risk Management Framework

On November 2nd, the SEC issued an order approving ICE Clear Credit LLC’s (“ICC”) proposed rule change to revise the ICC Risk Management Framework to incorporate changes to the single name credit default swap (“CDS”) liquidity charge methodology and to make additional minor, clarifying changes. SEC Release No. 34-79220.

ICC Receives Approval to Clear Additional CDS Contracts

On October 31st, the SEC approved ICC’s proposed rule change to provide for the clearance of additional CDS contracts, including Standard Emerging Market Sovereign CDS contracts, 2003 ISDA Definitions of Standard Western European Sovereign CDS contracts, and an additional Asia/Pacific Sovereign CDS contract. SEC Release No. 34-79197.

International Swaps and Derivatives Association

ISDA Updates OTC Derivatives Compliance Calendar

On November 1st, the International Swaps and Derivatives Association (“ISDA”) published an updated version of its OTC Derivatives Compliance Calendar.

Municipal Securities Rulemaking Board

MSRB Recaps Discussions at Its Quarterly Board Meeting

On October 31st, the Municipal Securities Rulemaking Board (“MSRB”) summarized the discussions that occurred at the quarterly meeting of its Board of Directors, which took place on October 26-27, 2016. Among other things, MSRB’s Board discussed public comments on its proposal to require more detailed disclosure of dealer compensation, its consideration of improving “pre-trade” price transparency, its review of market practices associated with municipal bond underwritings, and the modernization of its rules on customer account transfers. MSRB Press Release. 


Phlx Proposes Amendments to Modernize and Strengthen Supervision Rules

On October 28th, the SEC requested comments on a proposed rule change filed by NASDAQ PHLX LLC (“Phlx”) that would amend its rules governing the supervisory obligations of its members and member organizations. Among other things, the proposal would require members to make reasonable efforts to determine that each person with supervisory control is qualified to carry out his or her assigned responsibilities, to include information about inspections in their written supervisory procedures, and to communicate amendments to their written supervisory procedures within a reasonable time after changes occur. Comments should be submitted on or before November 25, 2016. SEC Release No. 34-79185.

National Futures Association

NFA Recommends AML Program Review Following FinCEN’s New Cybersecurity Guidance

The National Futures Association (“NFA”) issued a Notice to Members on October 31st that advises futures commission merchants (“FCM”) and introducing brokers (“IB”) to review their anti-money laundering (“AML”) programs in light of FinCEN’s recent Advisory and FAQs, which address financial institutions’ obligations under the Bank Secrecy Act (“BSA”) related to cyber-events and cyber-enabled crimes.


SEC Approves NYSE’s Proposal to Change SPACs’ Eligibility for Complimentary Products and Services

On October 28th, the SEC approved the New York Stock Exchange LLC’s (“NYSE”) proposal to adjust the timing of certain entitlements to complimentary products and services for special purpose acquisition companies (“SPACs”). Under the rule change, SPACs will not be eligible for complimentary products and services at the time of their initial listing but will become eligible after they have completed the Business Combination Condition. SEC Release No. 34-79187.

Options Clearing Corporation

OCC Proposes Changes to Margin Coverage During Times of Increased Volatility

On November 1st, the SEC requested comments on a proposed rule change filed by The Options Clearing Corporation (“OCC”) that would modify the current process for systematically monitoring market conditions and performing adjustments to its margin coverage when current market volatility increases beyond historically observed levels. Comments should be submitted within 21 days of publication in the Federal Register, which is expected the week of November 7, 2016. SEC Release No. 34-79212.

Industry News

SEC’s Market Abuse Unit Uses Data Analysis to Spot Unusual Trading Patterns

On November 1st, Reuters reported that the Analysis and Detection Center of the SEC’s Market Abuse Unit has been able to track trading data in order to identify people who have made repeated, well-timed trades ahead of corporate news. Using this strategy, the SEC has launched nine insider trading cases. Otherwise, the agency usually initiates its insider trading probes based on referrals from Wall Street’s self-regulator FINRA or an informant’s tip.