US Regulatory Update
DOL Issues Field Assistance Bulletin Providing Guidance Regarding the Consideration of Collateral Social Policy Goals
On 23 April, the Department of Labor’s (“DOL”) Employee Benefits Security Administration (“EBSA”) issued a Field Assistance Bulletin (“FAB”) providing guidance regarding the consideration of social policy goals, including environmental, social and governance (“ESG”) goals, as they relate to DOL’s Interpretive Bulletin 2016-01 (regarding the “exercise of shareholder rights and written statements of investment policy”) and Interpretive Bulletin 2015-01 (regarding “economically targeted investments (“ETIs”)”), which assist employee benefit plan fiduciaries in understanding their legal obligations under the Employee Retirement Income Security Act (“ERISA”). The FAB advises that “[ERISA] [f]iduciaries must not too readily treat ESG factors as economically relevant to the particular investment choices at issue when making a decision” and that such fiduciaries “must always put first the economic interests of the plan in providing retirement benefits.” Furthermore, noting that Interpretive Bulletin 2016-01 allows ERISA fiduciaries to engage in “shareholder activities” if there is a “reasonable expectation that such activities . . . are likely to enhance the economic value of the plan’s investment,” the FAB advises that such language should be “read in the context of the Department’s observation that proxy voting and other shareholder engagement typically does not involve a significant expenditure of funds by individual plan investors” and was not meant to imply “that plan fiduciaries . . . should routinely incur significant plan expenses to, for example, fund advocacy, press, or mailing campaigns on shareholder resolutions, call special shareholder meetings, or initiate or actively sponsor proxy fights on environmental or social issues relating to such companies.”
Nominations and Departures
On 16 April, President Donald Trump announced his intent to nominate: (i) Richard Clarida, a current Professor of Economics at Columbia University and former Assistant Secretary for Economic Policy at the Department of Treasury, to be Vice Chairman and a member of the Board of Governors of the Federal Reserve (“Federal Reserve Board”); and (ii) Michelle Bowman, the current Kansas State Bank Commissioner, to be a member of the Federal Reserve Board as the community bank representative.
On 16 April, President Donald Trump announced his intent to nominated Dan Michael Berkovitz, a current partner and co-chair of the futures and derivatives practice at the law firm of WilmerHale and former General Counsel of the CFTC, for a Democrat Commissioner seat on the CFTC.
On 30 April, Federal Deposit Insurance Corporation (“FDIC”) Vice Chairman Thomas M. Hoenig stepped down as a member of the Board of Directors of the FDIC.
STANDARD OF CONDUCT FOR BROKER-DEALERS AND INVESTMENT ADVISERS
SEC Adopts Proposed Rules and Interpretation Regarding Standard of Conduct for Broker-Dealers and Investment Advisers
On 18 April, the SEC passed, by a vote of 4-1 (with Commissioner Kara Stein dissenting), proposed rulemakings and interpretation related to broker-dealers’ standard of conduct when interacting with retail consumers, as well as the fiduciary duty of investment advisers to clients. These include: (i) a proposed “Regulation Best Interest” regarding the standard of conduct for broker-dealers; (ii) a proposed interpretation regarding standard of conduct for investment advisers accompanied by a request for comment on ideas for improving investment adviser regulation; and (iii) a proposed rule to require delivery to retail clients of a “Customer/client Relationship Summary” (“Form CRS”), restrict broker-dealers from using the terms “advisor” or “adviser” in retail communications, and require broker-dealers to enhance disclosure of SEC registration status to investors. The comment period for the proposed items closes 90 days after publication in the federal register.
o Regulation Best Interest: The proposed rule would require broker-dealers to adhere to the following standard of conduct when making investment recommendations to retail inventors: “to act in the best interest of the retail customer at the time a recommendation is made without placing the financial or other interest of the broker-dealer . . . ahead of the interest of the retail customer.” According to the rule, the requirement would be satisfied if: (i) “the broker-dealer . . . before or at the time of such recommendation reasonably discloses to the retail customer, in writing, the material facts relating to the scope and terms of the relationship, and all material conflicts of interest associated with the recommendation; (ii) “the broker-dealer . . . in making the recommendation, exercises reasonable diligence, care, skill, and prudence”; (iii) “the broker-dealer establishes, maintains, and enforces written policies and procedures reasonably designed to identify and at a minimum disclose, or eliminate, all material conflicts of interest that are associated with such recommendations”; and (iv) “the broker-dealer establishes, maintains, and enforces written policies and procedures reasonably designed to identify and disclose and mitigate, or eliminate, material conflicts of interest arising from financial incentives associated with such recommendations.”
o Interpretation Regarding Standard of Conduct for Investment Advisers: The proposed interpretation would reaffirm and add clarity regarding the SEC’s views on investment advisers’ fiduciary duty of care and loyalty to their clients. As Chairman Clayton noted in an accompanying public statement, “[t]o the extent that current market conduct falls below what the [SEC] believes the . . fiduciary duty means, this interpretation would put the market on notice of the Commission’s views.” The proposal also requests comments on enhancements to areas of investment adviser regulation, including: (i) “licensing and continuing education requirements for personnel of SEC-registered investment advisers”; (ii) “delivery of account statements to clients with investment advisory accounts”; and (iii) “financial responsibility requirements for SEC-registered investment advisers, including fidelity bonds.”
o Form CRS and Other Proposed Items Regarding Investor Communications: The proposed rulemaking would “require registered investment advisers and registered broker-dealers (together, ‘firms’) to provide a brief relationship summary to retail investors to inform them about the relationships and services the firm offers, the standard of conduct and the fees and costs associated with those services, specified conflicts of interest, and whether the firm and its financial professionals currently have reportable legal or disciplinary events.” It also includes proposals to: (i) “restrict broker-dealers . . . when communicating with a retail investor, from using the term “adviser” or “advisor” in specified circumstances”; and (ii) “require broker-dealers and investment advisers . . . to disclose, in retail investor communications, the firm’s registration status with the Commission and an associated natural person’s and/or supervised person’s relationship with the firm.”
AARP and State Attorney Generals File Motion to Intervene in Appeal of DOL’s Fiduciary Duty Rule
On 26 April, AARP, Inc. and State Attorneys General from New York, California, and Oregon (“State AGs”) filed two separate motions to intervene in the lawsuit brought by nine financial industry trade groups, including the U.S. Chamber of Commerce and SIFMA, challenging the DOL’s Fiduciary Duty Rule (“the Rule”). In the motions, which note that the DOL may not request a rehearing of a 15 March U.S. Fifth Circuit Court of Appeals decision to vacate the Rule, both AARP and the State AGs moved to intervene as defendants and sought an en banc review of the Court of Appeals decision. The DOL did not file an appeal by the 30 April 2018 deadline to appeal the U.S. Fifth Circuit Court of Appeals’ ruling.
o On 30 April, counsel for the nine financial industry trade groups filed a motion of consolidated opposition with the U.S. Fifth Circuit Court of Appeals to deny AARP, Inc., and the State AGs’ motion to intervene as defendants. In the motion, the trade groups argue that AARP, New York, California, and Oregon “had ample opportunity to intervene in the multiple cases challenging” the Fiduciary Duty Rule and that such a delay is “unjustifiable and compels denial of their motions.”
SIFI & FINANCIAL STABILITY
Department of Treasury Extends Compliance Dates of Qualified Financial Contract Recordkeeping Requirements Related to Orderly Liquidation Authority for Certain Non-Bank Financial Companies
On 23 April, the Department of Treasury adopted a rule that extends compliance dates for implementing qualified financial contract (“QFC”) recordkeeping requirements for non-bank financial companies that meet systemic risk thresholds specified in an earlier regulation, published in October 2016. According to the final rule, QFC recordkeeping requirements require these non-bank financial companies, including all non-bank G-SIBs, to maintain records “with respect to their QFC positions, counterparties, legal documentation, and collateral” to assist the FDIC in the potential resolution of such entities via its Orderly Liquidation Authority. The final rule extends the compliance deadline of the QFC recordkeeping requirements to: (i) March 31, 2019, for firms with $1 trillion or more in total consolidated assets; (ii) June 30, 2019, for firms with between $500 billion and $1 trillion in total consolidated assets; and (iii) June 30, 2020, for firms with over $250 billion in total consolidated assets.
FSOC Adopts Amendment to Its Bylaws to Allow Delegation of Voting Authority
On 24 April, the Financial Stability Oversight Council (“FSOC”) unanimously adopted a resolution amending the Council’s bylaws to allow voting members of the Council that have disqualified or recused themselves from a matter to delegate their voting authority on that matter to another member of the disqualified or recused voting member’s agency or department who is either: (i) presidentially-appointed and senate-confirmed, or (ii) “the first assistant to the office of such voting Council member for purposes of the Federal Vacancies Reform Act of 1998.” This amendment will allow the FSOC to more easily obtain the number of votes necessary to adopt a decision or resolution for matters that involve the disqualification of certain Council members from the voting process.
Business of Insurance Regulatory Reform Act of 2018
On 18 April, Senator Tim Scott (R-SC) introduced S. 2072, the Business of Insurance Regulatory Reform Act of 2018. As explained in an accompanying release, the bipartisan bill, cosponsored by Senators Tammy Baldwin (D-WI), Joe Manchin (D-WV), and Mike Rounds (R-SD), would “ensure the Consumer Financial Protection Bureau (CFPB) . . . does not regulate the business of insurance” by “codify[ing] the CFPB’s current boundaries in the insurance business.” A companion bill in the U.S. House of Representatives, H.R. 3745, the Business of Insurance Regulatory Reform Act of 2017, was approved by the Committee on Financial Services on 18 January 2018 by a vote of 37-18.
SEC & SECURITIES
Remarks of SEC Commissioner Hester Peirce Regarding Equity Market Structure
On 18 April, SEC Commissioner Hester Peirce delivered remarks before the SIFMA Equity Market Structure Conference regarding the SEC’s role in directing the “evolution of the U.S. equity market structure.” Commissioner Peirce expressed concern over the way that the SEC is “directing – and often determining” the development of the U.S. equity market structure and urged the SEC to question whether its initiatives create the best market structure, as well as continue to retrospectively review regulations in order to ensure that the current regulatory framework does not “constrai[n] the limits of future possible market structure reforms.”
House Committee on Appropriations Hearing Regarding the SEC’s Fiscal Year (“FY”) 2019 Budget
On April 26, the House Committee on Appropriations Subcommittee on Financial Services and General Government held a hearing regarding the SEC’s FY 2019 budget. SEC Chairman Jay Clayton testified before the subcommittee regarding budget priorities included in the FY 2019 SEC budget request and the SEC’s newly proposed best interest standard for broker-dealers. Chairman Clayton stated that the SEC’s priorities include: (i) securing additional staffing “to address current priority areas”; (ii) facilitating capital formation in public and private markets, particularly for mid-size, small and emerging companies; (iii) enforcement, compliance and examinations, including resources to support key enforcement priorities, such as the SEC’s Retail Strategy Taskforce, and to support further examinations of investment advisers; (v) enabling the SEC’s Division of Trading and Markets “to expand the agency’s depth of experience in vital areas such as equity and fixed income market structure, analysis of clearing agencies, broker-dealers, cybersecurity and electronic trading”; and (vi) protecting “Main Street” investors. With regards to the latter, Chairman Clayton noted that the SEC recently “voted to publish for public comment a comprehensive package designed to address retail investor confusion and potential harm in their relationship with investment professionals.” In addition, Chairman Clayton clarified that while the SEC has called the proposed rule the “best interest standard,” it acknowledges that “for broker dealers, there are core fiduciary principles embodied in that best interest standard [and] in fact those fiduciary principles are . . . the same as the fiduciary principles that are embodied in the investment adviser standards.” He further explained that “[the SEC] has sought to harmonize the actual duties that are owed” while recognizing that “the relationship between an investment adviser and their client is a different type of relationship than [between] a broker-dealer and their client.”
CFTC & DERIVATIVES
CFTC Chairman J. Christopher Giancarlo Publishes White Paper on Swaps Regulation Version 2.0
On 26 April, CFTC Chairman J. Christopher Giancarlo and CFTC Chief Economist Bruce Tuckman published a white paper regarding swaps regulation reform and providing “an assessment of the current implementation of reform and proposals for next steps.” The paper “analyzes the range of academic research, market activity and regulatory experience with the CFTC’s current implementation of swaps reform” and “explores and considers a range of improvements to the current reform implementation.” Specifically, it assesses the CFTC’s implementation of swaps reforms in the key areas of: (i) central counterparty (“CCP”) clearing; (ii) trade reporting; (iii) trade execution; (iv) swap dealer capital; and (v) end user exceptions.
o CCP Clearing: The paper notes that while the CFTC’s swaps clearing mandate has been successful, there remains a number of challenges for further consideration, including: (i) ensuring that “newly enlarged CCPs are safe and sound under extreme but plausible conditions”; (ii) issues related to the “transparency and predictability of recovery plans and the role of unfunded resources, namely, assessments”; and (iii) “challenges related to resolution by government authorities, in the event that recovery plans prove inadequate.”
o Trade Reporting: The paper argues that the decision to require swaps trades to be reported to swap data repositories (“SDRs”) was the right decision, but that the SDR framework is still incomplete, in part due to “faulty implementation and ineffective project management by regulators, including the CFTC.” The paper highlights the CFTC’s recent efforts to become more “transparent and collaborative” with regards to this issue and recommends “close collaboration between CFTC staff and market participants to recalibrate the trade data reporting regime so that it is specific, accurate and useful enough to”: (i) “capture systemic risk in addition to market abuse and manipulation”; (ii) “harmonize with globally accepted risk data fields”; and (iii) “achieve transparency while promoting healthy trading liquidity.”
o Trade Executions: The paper states that the “CFTC’s [made available to trade], mandatory Order Book and prescriptive trade execution requirements have not met Congressional goals.” To address these deficiencies, the authors recommend that the CFTC: (i) “eliminat[e] the requirement that [swaps execution facilities (“SEFs”)] maintain an Order Book and also permitting SEFs to offer any means of interstate commerce for the trading or execution of swaps subject to the Trade Execution Requirement”; and (ii) “expan[d] the category of swaps subject to the Trade Execution Requirement to include all swaps that are subject to the clearing mandate.”
o Swap Dealer Capital: The paper notes that “the current regulatory regime seems to have endorsed the principle of granularly risk-based capital requirements,” although “many parts of the current regime are not as granular with respect to risk as they might be” due to inconsistent regulatory approval of internal models. The paper explains that the “less granular elements of the regulatory framework are biased against swaps” and provides two alternative solutions, including: (i) continuing to “refine, and by necessity complicate, the standardized models imposed on market participants”; or (ii) have regulators “improve their capabilities with respect to approving and monitoring the use of internal models.”
o End User Exceptions: Noting that the current swaps framework does not provide clear answers with regards to financial end user exceptions, the paper argues that: (i) “smaller financial end users should be excepted from the requirements through a material swaps exposure threshold, for the same reasons that commercial end users are exempt”; and (ii) “uncleared margin rules can – and should – achieve their objectives without being as prescriptive as under current law.”
Remarks of CFTC Chairman J. Christopher Giancarlo Regarding Principals-Based Regulation
On 13 April, CFTC Chairman J. Christopher Giancarlo delivered remarks before the Sims Lecture at Vanderbilt Law School regarding principals-based regulation and swaps regulation reform. Noting that “historically, the CFTC has been a principles-based regulator” and that “the agency began to stray from that approach in some of its implementation of swap markets reforms under the Dodd-Frank Act,” Chairman Giancarlo affirmed that the CFTC would return to its “historic character as a principles-based regulator.” He argued that such a change is necessary in light of the “relentless advance[ment] of technology and evolution of market structure,” such as development of cryptocurrency, which “requires a flexible, principles-based approach to oversight.”
o 18 May: comments are due on the SEC’s proposed amendments to liquidity-related public disclosure requirements for certain open-end investment management companies.
o 25 May: comments are due on the SEC’s proposal for a transaction fee pilot for NMS stocks.