Financial Services Alert - August 2, 2011 August 02, 2011
In This Issue

SEC Adopts Reporting Regime for Large Traders

The SEC voted unanimously to adopt new Rule 13h-1 under the Securities Exchange Act of 1934 (the “Exchange Act”), which imposes reporting obligations on “large traders” and certain registered broker-dealers that execute their trades.  (The adopting release is available here.)  The Rule has two primary components: (i) it requires “large traders” to register with, and provide periodic updates to, the SEC on new Form 13H and (ii) it imposes recordkeeping, reporting and limited monitoring requirements on certain registered broker‑dealers through whom large traders execute their transactions.  Citing the May 6, 2010 “flash crash” as a demonstration of the need to enhance the SEC’s ability to quickly analyze market events, the SEC press release announcing the adoption of Rule 13h‑1 explained that the rule is designed to allow the SEC to identify market participants engaged in substantial trading activity, obtain information needed to monitor more efficiently the impact of those trades on the markets and analyze such market participants’ trading activity. 

Large Traders

Rule 13h-1(a)(1) under the Exchange Act defines a “large trader” as any person that directly or indirectly, including through other persons controlled by such person, exercises investment discretion over one or more accounts and effects transactions for the purchase or sale of any NMS security (e.g., any exchange-listed security) for or on behalf of such accounts, by or through one or more registered broker-dealers, in an aggregate amount equal to or greater than (a) two million shares or $20 million of fair market value during any calendar day or (b) twenty million shares or $200 million of fair market value during any calendar month (the “identifying activity level”).  In determining whether the identifying activity level threshold has been met, the SEC expects a parent company to aggregate and consider daily and monthly share volume and dollar value of certain transactions in NMS securities effected by the persons it controls.  The identifying activity level threshold includes all transactions in NMS securities, excluding exercise or assignment of option contracts and certain other limited exceptions.

The definition of large trader also includes any person who voluntarily registers as a large trader by filing Form 13H with the SEC.  Voluntary registrants are subject to all of the obligations of Rule 13h-1.

Form 13H.  Form 13H requires a large trader to disclose, among other things:  (i) the type of business engaged in by the large trader or any of its affiliates; (ii) whether it or any of its affiliates file any forms with the SEC, and if so, the identity of each filing entity, the form(s) filed and the filing entity’s CIK number; (iii) whether it or any of its affiliates is registered with the CFTC or regulated by a foreign regulator, and if so, the identity of each entity and the CFTC registration number or primary foreign regulator, as applicable; (iv) information (including an organizational chart and narrative description) about any affiliates of the large trader that exercise investment discretion over NMS securities (the SEC did not adopt proposals that would have required large traders to identify affiliates that merely beneficially own NMS securities); (v) governance information about the large trader, including identification of its business form and each partner (if a partnership), executive officer, director or trustee; and (vi) the identity of registered broker-dealers at which the large trader or any of its affiliates has an account and the type of brokerage services provided by the broker-dealer.

Timing of Filings.  Upon effecting aggregate transactions equal to or greater than the identifying activity level, a large trader must promptly (ordinarily within 10 days) file Form 13H with the SEC identifying itself as a large trader.  Upon filing with the SEC, a large trader will be assigned a unique LTID.  Annual filings are due within 45 days after the end of the calendar year.  An amendment to a Form 13H filing is due no later than the end of the calendar quarter in which any of the information in a filer’s Form 13H  becomes inaccurate for any reason.  A large trader that has not met the identifying activity level any time during the previous calendar year may suspend its disclosure obligations by filing for “Inactive Status” and request that its broker-dealers stop maintaining records of its transactions by LTID.  However, if a person on “Inactive Status” attains the identifying activity level, it must promptly file a “Reactivated Status” Form 13H.  Under certain circumstances, i.e., termination of operations, a large trader may permanently end its status by submitting a “Termination Filing.”

Obligations of Broker-Dealers

A large trader must disclose its LTID to registered broker-dealers effecting transactions on its behalf and each account to which it applies.  A broker-dealer has recordkeeping and reporting obligations under the Rule with respect to a large trader and with respect to any Unidentified Large Trader for which it maintains an account or accounts.  An Unidentified Large Trader is a person that has not complied with the identification requirements of Rule 13h-1 that a registered broker-dealer knows or has reason to know is a large trader.  For purposes of determining whether it has reason to know that a person is a large trader, a registered broker-dealer need take into account only transactions in NMS securities effected by or through such broker-dealer.  A broker-dealer is not required to proactively make further inquiries for the purpose of determining its customer’s status (e.g., by seeking to determine the customer’s trading activity at other broker-dealers), but if it has actual knowledge that a person that has not provided the broker-dealer with an LTID is a large trader, then the broker-dealer must treat the person as an Unidentified Large Trader.

Recordkeeping.  A registered broker-dealer must maintain records for all transactions effected directly or indirectly by or through (i) an account the broker-dealer carries for a large trader or an Unidentified Large Trader or (ii) if the broker-dealer is a large trader, any proprietary or other account over which such broker-dealer exercises investment discretion.  If a non‑broker-dealer carries an account for a large trader or an Unidentified Large Trader, the broker-dealer effecting transactions directly or indirectly for such large trader or Unidentified Large Trader must maintain the required records.  A broker-dealer is not required to maintain records of transactions by an inactive large trader after receiving notice from the large trader that the trader has filed for inactive status.

Reporting.  Upon receiving a request from the SEC, a registered broker‑dealer must electronically report specific information, in accordance with SEC instructions, related to all transactions effected directly or indirectly by or through accounts carried by such broker‑dealer for large traders and Unidentified Large Traders, equal to or greater than the reporting activity level, including, among other things: the broker‑dealer’s clearing house number, the security’s trading symbol, the date of execution of the transaction, number of shares or option contracts and the type of transaction, transaction price, account number and the exchange where the transaction was executed.  With respect to Unidentified Large Traders, a registered broker-dealer must report the trader’s name, address, date the account was opened and tax identification number(s). 

Safe Harbor Regarding Unidentified Large Traders.  The Rule provides a safe harbor under which a registered broker-dealer would be deemed not to know or have reason to know that a person is a large trader if the broker‑dealer does not have actual knowledge that a person is a large trader and the broker-dealer establishes policies and procedures reasonably designed to (i) identify any customer whose transactions through the broker‑dealer equal or exceed the identifying activity level and (ii) treat any person so identified as an Unidentified Large Trader and notify that person of the person’s potential reporting obligations under Rule 13h-1.

Foreign Entities

Foreign entities that satisfy the definition of a large trader are subject to the reporting obligations of Rule 13h-1.  A U.S.-registered broker-dealer is obligated to keep records for and report on and monitor transactions of foreign customers for which it executes transactions.  A broker‑dealer that is not U.S.–registered is not required to comply with the Rule’s recordkeeping, reporting and monitoring requirements. 

Confidentiality

In the adopting release, the SEC states that it is committed to maintaining the information collected pursuant to Rule 13h-1 in a manner consistent with Section 13(h)(7) of the Exchange Act, which specifies that the SEC will not be compelled to disclose information collected from large traders and registered broker-dealers under a large trader reporting system, subject to limited exceptions.  Under the exceptions in Section 13(h)(7), Congress and other federal departments and agencies (provided they are acting within the scope of their respective jurisdictions) may obtain access to information collected pursuant to the Rule; in addition, the SEC may provide information collected under the Rule in order to comply with certain federal court orders.  The information provided in Form 13H filings, although filed electronically on the SEC’s EDGAR system, will not be accessible to the public through the SEC’s public website or otherwise.  Information disclosed by a large trader on Form 13H or provided in response to an SEC request, and any transaction information that a registered broker-dealer reports to the SEC under the Rule, is exempt from disclosure under FOIA. 

Effective and Compliance Dates

The Rule becomes effective 60 days after its publication in the Federal Register.  Large traders will have 60 days after the effective date to comply with the Rule’s identification requirements.  Broker-dealers will have 210 days after the Rule’s effective date to comply with the requirements to maintain records, report transaction data when requested, and monitor large trader activity.

FINRA Proposes to Consolidate and Amend NASD and NYSE Communications Rules and Interpretations

The SEC issued Release No. 34-64984, publishing a rule proposal by FINRA to adopt NASD Rule 2210 and 2211, and related interpretive materials, as FINRA Rules 2210 and 2212 through 2216, and to delete portions of NYSE Rule 472 and related supplementary materials.  The new rules are:

  • 2210 – Communications with the Public;
  • 2212 – Use of Investment Company Rankings in Retail Communications;
  • 2213 – Requirement for the Use of Bond Mutual Fund Volatility Ratings;
  • 2214 – Requirements for the Use of Investment Tools;
  • 2215 – Communications with the Public Regarding Security Futures; and
  • 2216 –  Communications with the Public about Collateralized Mortgage Obligations

Background

NASD Rules 2210 and 2211, and the interpretive materials following Rule 2210, govern FINRA members’ communications with the public, other than communications concerning options, which are governed by FINRA Rule 2220.  NYSE Rule 472, as incorporated into the FINRA rulebook following the merger of the NASD and NYSE regulatory operations, governs communications with the public of FINRA members that are also members of the NYSE.

In September 2009, FINRA published Regulatory Notice 09-55 (the “Notice”), requesting comment on a proposal to consolidate the NASD and NYSE communications rules and to amend them as described in the Notice.  The rules as proposed in the current rule filing (the “Proposal”) follow the outlines proposed in the Notice, with a few revisions resulting from comments received by FINRA.  The text of proposed FINRA Rules 2210 and 2212 through 2216 is available in SR-FINRA-2011-035, FINRA’s filing with the SEC seeking approval of the Proposal.

New Definitions

The principal change made in the Proposal is to redefine the types of communications.  Under the current NASD rules, communications were divided into the following categories:  advertisement; sales literature; correspondence; institutional sales material; public appearance; and independently prepared reprint.  The definitions of advertisement and sales literature have over time taken on meanings not obvious from the language of the rule.  A key difference between the two categories is that advertisements are made available to the public, while sales literature is generally made available only to customers and not to the public.  Thus, material available on a password-protected area of a member firm’s website could be treated as sales material.

The Proposal would reduce the categories of communications to the following three:

  • Correspondence – any written communication that is distributed or made available to 25 or fewer retail investors within any 30 calendar-day period;
  • Retail communication – any written communication that is distributed or made available to more than 25 retail investors within any 30 calendar-day period; and
  • Institutional communication – any written communication that is distributed or made available only to institutional customers.

“Communications” would consist of correspondence, retail communications and institutional communications.  “Written communications” would include electronic communications.  “Institutional investor” would generally be defined under proposed FINRA Rule 2210 as in NASD Rule 2211, and would include registered investment companies, insurance companies, banks, registered broker-dealers, registered investment advisers and other entities and natural persons with at least $50 million in assets.

Changes To Filing Requirements

Proposed FINRA Rule 2210 would adopt existing filing requirements with some changes and additions, as discussed below.

First Year Filing.  During the first year after it becomes a FINRA member, a firm would be required to file with FINRA, 10 business days before first use, all retail communications intended to be published or used in publicly available media.  Under the current rule, the one-year does not begin to run until a member firm first seeks to use an advertisement.  The Proposal would not alter FINRA’s authority to determine that a member will be required, based on its prior filing experience, to continue to make pre-use filings after the first year.

Pre-Use Filing.  Pre-use filing would be required for retail communications (1) concerning registered investment companies that include self-created rankings; (2) concerning security futures (unless submitted to another SRO); and (3) including bond mutual fund volatility rankings.  Communications concerning collateralized mortgage obligations (“CMOs”) would have to be filed within 10 business days after first use, rather than prior to first use as currently required.

Filing After First Use.  The following materials would have to be filed within 10 business days after first use:

  • All retail communications concerning closed-end registered investment companies, not limited to the IPO period as in the current rule;
  • All retail communications concerning government securities (not limited to advertisements, as under the current rule);
  • Retail communications concerning, or written reports produced by, an investment analysis tool;
  • Retail communications concerning registered CMOs.
  • Retail communications concerning structured products, such as equity- or index-linked notes.

Proposed FINRA Rule 2210 would also codify prior FINRA guidance by modifying the exclusion from filing available for prospectuses filed with the SEC or any state to expressly provide that free writing prospectuses filed with the SEC pursuant to Rule 433(d)(1)(ii) under the Securities Act of 1933 are not within the exclusion.

Prohibition On Projections

Proposed FINRA Rule 2210 would maintain the current prohibition in the content standards on communications predicting or projecting performance, implying that past performance will recur or making any exaggerated or unwarranted claim, opinion or forecast.  As in the current rule, hypothetical illustrations of mathematical provisions would be permitted, providing that they do not predict or project the performance of an investment or investment strategy.  The proposed rule would clarify that FINRA allows two additional types of projections of performance in communications with the public:  (1) projections of performance in reports produced by investment analysis tools otherwise meeting the requirements of the rules and (2) price targets in research reports on debt or equity securities.

Request For Comments

The SEC has requested public comment on the Proposal, which must be submitted no later than 21 days after the Proposal’s publication in the Federal Register.

GAO Issues Report on Mutual Fund Advertising

As required by Section 918 of the Dodd-Frank Act, the Government Accountability Office (the “GAO”) delivered to designated Congressional committees a report (the “Report”) on advertising by registered open-end investment companies (“mutual funds”).   The Report focuses on (1) the impact of fund advertisements, particularly those with fund performance, on investors; (2) the extent to which performance information is included in advertisements; and (3) the regulatory requirements for fund advertisements and their enforcement.  The Report notes concerns expressed by mutual fund industry representatives that FINRA’s practice of communicating new interpretations of its requirements governing mutual fund advertising, through comments provided on new advertisements submitted for review, does not effectively communicate these new interpretations on an industry-wide basis.  To address these concerns, the Report recommends that the SEC take steps to ensure that FINRA develops mechanisms to ensure industry-wide notification of new interpretive positions for its mutual fund advertising rules. 

In a comment letter included in the Report, SEC Chairman Schapiro stated that she plans to (a) request that FINRA review its methods of disseminating new interpretations of fund advertising rules and (b) ask SEC staff to (i) work with FINRA, as needed, to develop mechanisms to enhance the transparency of those interpretations and (ii) incorporate the GAO’s findings into its oversight of FINRA.  In a comment letter included in the Report, Thomas M. Selman, FINRA’s Executive Vice President of Regulatory Policy, stated that in response to issues raised in the Report, FINRA intended to publish any “significant new interpretation of the advertising rules that affects a broad section of the industry” and that pending publication, FINRA will apply any such new interpretations in its regular filings program.  Mr. Selman’s letter also provided that FINRA will develop “one or more mechanisms to provide a regular summary of advertising issues and its interpretation of the application of the advertising rules to these issues.  For example, these mechanisms would include a regular letter to advertising compliance contacts in the industry and regularly scheduled webinars for these contacts.”

Financial Stability Oversight Council Issues its First Annual Report; Finds that U.S. Financial Stability improved, but U.S. Still Faces Challenges to Recovery

The Financial Stability Oversight Council (the “FSOC”) published its first Annual Report (the “Report”), which covers the year ended December 31, 2011.  After discussing the current macroeconomic environment, the Report focuses on three other topics: financial developments since the financial crisis, the progress of regulatory reform and potential emerging threats to U.S. financial stability.

Financial Developments

During the crisis, the FSOC states, the U.S. government took many dramatic steps to support financial markets.  Private funding has replaced many of the government’s support programs, but private funding has not returned to the private securitized mortgage market.  The banking sector and many other financial institutions have experienced increased profitability since the crisis, but smaller banks have struggled to recover and are still failing at increased rates.  Despite the overall improvement, banks are still hesitant to expand direct lending activity.  In addition, the FSOC states, insured depository institutions have seen more asset growth than other financial institutions since the recession, and concentration and globalization have also increased in the banking industry since that time.  The overall financial system is less leveraged than before the recession.  Also, the credit risk transfer markets that contributed to the crisis have shrunk considerably.  Short-term wholesale funding markets, which provide needed liquidity for financial institutions, continue to experience dramatically decreased activity since before the crisis.  Additionally, risk pricing in important markets is about average, while prices for commodities and agricultural land have risen significantly.  Financial institutions, states the Report, have also begun to reform compensation practices, which they have acknowledged contributed to the crisis.  Assets in mutual funds, hedge funds and defined contribution plans have recovered, the FSOC notes, although some state and local government pension plans are on track to eventually face funding shortfalls.  Last, regulatory reforms have led to increased efficiency and transparency in financial markets, and regulators are also working to address many risks identified during the crisis. 

Progress of Regulatory Reform

The Report states that the Dodd-Frank Act has closed many gaps in the regulation of financial institutions, strengthening standards in areas such as supervision, risk management and disclosure.  The new Basel III international standards for banks have also imposed increased requirements for holding capital globally, a new liquidity standard for banks and new accounting rules.  In addition, information on trading in swaps will become available through trade repositories, and standardized derivatives will need to be centrally cleared and traded on regulated trading platforms.  Also, the FSOC has defined characteristics for designation of systemically important financial market utilities to receive enhanced supervision, and it is working on defining characteristics for designation of nonbank financial institutions to be supervised by the FRB.  Meanwhile, the FRB will establish stricter supervisory guidelines for large financial institutions, and regulators are also working on new reporting and disclosure requirements that would apply to designated nonbank financial companies.  Moreover, the Dodd-Frank Act established a new framework for resolving large complex financial institutions, which includes a requirement for designated nonbank companies and large bank holding companies to maintain detailed resolution plans.  Finally, U.S. regulators are making an effort to work with their international counterparts to achieve consistency in global regulatory reform.

Potential Emerging Threats to U.S. Financial Stability

The FSOC states that globalization and technological innovation, while positive in many ways, can also negatively impact financial stability because of the increased links across global economies and the addition of complexity to financial systems.  Development of new financial products can increase risk by increasing complexity and changing business models.  Electronic trading has led to higher trading volumes and more market liquidity, but the “flash crash” demonstrated that this liquidity can diminish under stress.  New technology has helped to create more flexible, efficient and effective systems, but events such as hacking attacks serve as reminders that technology must be constantly monitored and upgraded.  The Report notes that U.S. financial market can also be impacted by foreign markets.  Market uncertainty in Greece, Ireland and Portugal could potentially cause negative effects in the U.S., even though the U.S. has limited direct exposure to those countries.  Supervisory agencies have been working with U.S. financial institutions to increase resiliency in the face of foreign market troubles, and the FSOC will also carefully monitor European markets.  Some risks are also posed by money market funds and the tri‑party repo market, which have exhibited structural vulnerabilities.  Money market funds are an important source of certain types of funding for some major European banks, and their vulnerabilities contributed in part to the financial crisis.  There are also significant risks due to real estate-related exposures.  There have, however, states the FSOC, been overall improvements in capital throughout the financial system, which will help prevent additional declines in real estate prices.  Additionally, monetary policy normalization has been delayed and uncertainty surrounding the pace of this normalization as well as fiscal consolidation may cause shocks.  Risk planning and diversification should be employed to prevent such shocks.  Also, with very limited exception, it appears that U.S. market participants are not “reaching for yield” at this time.  Further, many large U.S. financial institutions are still receiving the highest credit rating for short-term funding, and many large banking institutions were found by the FRB to have weaknesses in their capital planning processes.  In order to increase financial stability in the U.S., the FSOC concludes, lessons must be learned from the financial crisis – much progress has been made, but many challenges still remain.

SEC Adopts New Short Form Criteria That Eliminate Credit Ratings

The SEC voted unanimously to adopt new rules (the “New Rules”) that eliminate credit ratings as eligibility criteria for issuers seeking to avail themselves of “short form” registration for offerings of non-convertible securities other than common equity.  The New Rules respond to Section 939A of the Dodd‑Frank Act, which requires that each Federal agency, including the SEC, review the use of credit ratings in its regulations and upon that basis, remove from its regulations “any reference to or requirement of reliance on credit ratings and to substitute in such regulations such standard of credit-worthiness as each respective agency shall determine as appropriate for such regulations.”    

For offerings of non-convertible securities other than common equity, the New Rules eliminate the current credit ratings eligibility criteria for Forms S-3 and F-3 and implement four new tests based respectively on (a) amount of recent issuance other than common equity, (b) amount of outstanding non-convertible securities, (c) well‑known seasoned issuer status generally and (d) well-known seasoned issuer status in the REIT context; only one of these tests must be met for the issuer to be able to use the applicable short form (provided other applicable conditions are met).  The New Rules include a temporary grandfather provision that allows an issuer to use Form S-3 or Form F-3 for a period of three years from the effective date of the New Rules if it would have been eligible to do so prior to the effective date. 

The New Rules also rescind Form F-9 (used by certain Canadian registrants to register non‑convertible investment grade debt) and revise Form 40-F (an annual report form used by certain Canadian registrants) to ease the transition for issuers who previously filed registration statements on Form F-9.  The New Rules revise other rules and forms that currently rely on criteria similar to the investment grade criteria in Form S-3 and Form F-3 so that they refer to the new criteria in the New Rules.  The New Rules remove the safe harbor in Rule 134(a)(17) under the Securities Act of 1933 (the “1933 Act”) that allows the disclosure of security ratings issued or expected to be issued by NRSROs in certain communications, such as “tombstone ads” or press releases announcing offerings, without those communications being deemed a prospectus or free writing prospectus; instead, the determination of whether such information constitutes a prospectus for 1933 Act purposes will be made in light of all the circumstances of the communication.

The New Rules take effect 30 days after their publication in the Federal Register, except for the rescission of Form F-9 and amendments to remove references to Form F-9 in other rules and forms, which will be effective Dec. 31, 2012.

For further information on the application of the New Rules in the REIT context, please see the July 27, 2011 Goodwin Procter REIT Alert.

SEC Re-Proposes Requirements Related to Shelf Registration of Asset Backed Securities

The SEC issued a revised rule proposal (the “Revised Proposal”) regarding registrant and transaction requirements related to shelf registration of asset-backed securities (“ABS”) that revisits a 2010 rule proposal (the “2010 Proposal,” which was discussed in the April 13, 2010 Financial Services Alert) in light of the mandates of the Dodd-Frank Act regarding ABS and public comment on the 2010 Proposal.  (For example, the 2010 Proposal included a risk retention provision, which has been superseded by Section 941 of the Dodd-Frank Act, pursuant to which the SEC has jointly proposed rules with the other financial regulators, as discussed in the April 19, 2011 Financial Services Alert and June 7, 2011 Financial Services Alert.)  Comments on the Revised Proposal are due no later than 60 days after its publication in the Federal Register.

SEC Staff Issues Report on Sales of Structured Securities Products to Retail Investors

The SEC staff released a report identifying common weaknesses in sales of structured securities products (“SSPs”) to retail investors and describing certain suggested measures that should be taken by broker-dealers to better protect retail customers from fraud and abusive sales practices.  The report summarizes the results of a sweep examination conducted by the staff of the SEC’s Office of Compliance Inspections and Examinations of the retail SSP businesses of 11 broker-dealers, representing a range of industry participants.  The SEC staff observed evidence of issues regarding (1) customer specific suitability, (2) improper classification of SSPs on account statements, (3) appropriate secondary market pricing by issuer-affiliated broker-dealers, (4) lack of training regarding SSPs at the registered representative and supervisory levels and (5) inadequate controls for sales practices relating to secondary market transactions in SSPs.  The SEC staff recommended, among other things, that broker-dealers focus on ensuring disclosure of all material facts in connection with SSPs being offered, improved controls for monitoring sales practices (particularly relating to suitability) and enhanced training for sales and supervisory personnel.

CFTC Adopts Rules Implementing New Framework for Approving New Products and Rule Changes Submitted by Registered Entities

The CFTC adopted final rules (with corrections) establishing a new procedural framework for the submission of new products, rules, and rule amendments by designated contract markets, derivatives clearing organizations, swap execution facilities, and swap data repositories.  In addition, the final rules prohibit event contracts involving certain excluded commodities, establish special submission procedures for certain rules proposed by systemically important derivatives clearing organizations (‘‘SIDCOs’’), and stay the certifications and the approval review periods of novel derivative products that have elements of both a security and a derivative pending the issuance of a final determination order as to CFTC or SEC jurisdiction.  The final rules also require an SIDCO to provide the CFTC with 60-day advance notice of any proposed change to its rules or procedures that could materially affect the nature or level of risks the SIDCO presents.  The final rules are effective September 26, 2011.

SEC Staff Provides Additional Relief from Advisers Act Custody Rule Requirements Affecting Use of Auditors to Broker-Dealers

In 2010, the staff of the SEC’s Division of Investment Management (the “Staff”) provided no‑action relief to allow an investment adviser to engage an auditor registered with, but not subject to, regular inspection by the Public Company Accounting Oversight Board (the “PCAOB”) to audit the financial statements of a pooled investment vehicle for purposes of complying with the annual financial statement requirement of paragraph (b)(4) of Rule 206(4)‑2 under the Investment Advisers Act of 1940 (the “Custody Rule”).  This relief was necessitated by the fact that investment advisers had engaged PCAOB-registered auditors whose clients were broker-dealers to audit the financial statements for the advisers’ private funds; those auditors, however, did not meet the Custody Rule’s requirement that such auditors be regularly inspected by the PCAOB, which only inspected auditors to public companies.  With the 2010 relief due to expire on July 21, 2011, the Staff provided further relief to allow an adviser to engage a PCAOB-registered auditor for broker-dealers to (1) perform  surprise examinations required by the Custody Rule, (2) prepare internal control reports required by the Custody Rule, or (3) audit the annual financial statements of a pooled investment vehicle.  The additional relief expires upon the earlier of the approval of a permanent PCAOB inspection program for broker‑dealer auditors or December 31, 2013.  The PCAOB recently adopted a temporary rule providing for the inspection of broker‑dealer auditors and has indicated that it anticipates being in a position to propose rules for a permanent inspection program by 2013.

OCC Adopts Final Retail Forex Rule; FRB Issues Proposed Retail Forex Rule

As Required by a Dodd-Frank Act amendment to the Commodity Exchange Act to enable national banks, Federal branches and agencies of foreign banks and their operating subsidiaries (“National Banks”) to continue to engage in certain off-exchange transactions in foreign currency with retail customers, the OCC issued a final rule (the “OCC Final Rule“) authorizing National Banks to continue to engage in such activities.  Similarly, the FRB issued a proposed rule (the “FRB Proposed Rule“) that would authorize state member banks, bank and financial holding companies, Edge Act and agreement corporations and uninsured state-licensed branches and agencies of foreign banks to engage in the above described retail foreign exchange activities. 

The OCC Final Rule became effective on July 15, 2011 and a National Bank engaged in a retail forex business prior to July 15, 2011 must request by August 14, 2011 supervisory confirmation of non-objection to the National Bank’s continuing to engage in such activities.  Comments on the FRB Proposed Rule are due by October 11, 2011.