SEC Approves New MSRB Rule G-44 on Supervisory and Compliance Obligations of Municipal Advisors
On October 23, the SEC approved new MSRB Rule G-44 prescribing supervision requirements for municipal advisors. The new rule, announced in Regulatory Notice 2014-19, takes effect on April 23, 2015, by which time municipal advisors must have implemented new compliance policies and procedures. By April 23, 2016, CEOs (or the equivalent) of municipal advisor firms must make the first of their annual certifications that the firm has in place processes to establish, maintain, review, test and modify written compliance procedures and written supervisory procedures reasonably designed to achieve compliance with applicable rules.
MSRB Requests Comment on Extending Gifts Rule to Municipal Advisors
On October 23, the same day that the SEC approved Rule G-44, the MSRB published Regulatory Notice 2014-18 requesting comment on draft amendments to MSRB Rule G-20 (Gifts, Gratuities and Non-Cash Compensation) to extend its provisions to Municipal Advisors. The MSRB also proposes to streamline and codify FINRA interpretive guidance relating to gifts and gratuities previously adopted by the MSRB and incorporate additional relevant FINRA interpretive guidance that had not previously been adopted by the MSRB. Those changes would apply to regulated persons already covered by Rule G-20, as well as municipal advisors. Comments on the proposal are due by December 8, 2014.
Federal Agencies Announce Proposed Flood Insurance Rule
On October 24, 2014, the Federal Reserve, Farm Credit Administration, FDIC, NCUA, and OCC announced a proposed rule to amend regulations relating to loans secured by property located in special flood hazard areas. The proposed rule implements provisions of the Homeowner Flood Insurance Affordability Act of 2014 and would require regulated lending institutions to escrow certain premiums and fees for flood insurance that are made, increased, extended, or renewed on or after January 1, 2016, unless an exemption applies. The proposal also would require institutions to provide certain borrowers with the option to escrow flood insurance premiums and fees. Finally, the proposed rule exempts certain detached structures from mandatory flood insurance purchase requirements.
Federal Agencies Adopt Final Asset Backed Securities Risk Retention Rule
The SEC, FRB, FDIC, OCC, FHFA, and HUD announced the adoption of a joint final rule to implement the credit risk retention requirements of Section 15G of the Securities Exchange Act added by the Dodd-Frank Act. Consistent with Section 15G, the final rule requires the sponsor of asset-backed securities (ABS) to retain not less than 5 percent of the credit risk of the assets collateralizing the ABS, subject to specified exemptions, and prohibits the sponsor from hedging or otherwise transferring its retained interest prior to the applicable sunset date. As required by the Dodd-Frank Act, a securitization of “qualified residential mortgages” (QRMs) as defined in the final rule is exempt from the risk retention requirement. A securitization of commercial loans, commercial mortgages, or automobile loans that meets specified standards for high quality underwriting is also exempt from the retention requirement. As it applies to residential mortgage-backed securitizations, the final rule will be effective one year after publication in the Federal Register, and two years after publication as it applies to all other securitization types.
SEC Announces Intention to Deny Exemptive Relief for Actively Managed ETFs That Do Not Provide Daily Portfolio Holdings Disclosure
Exchange-traded funds (“ETFs”), because of their special characteristics, are only permitted to operate as investment companies pursuant to exemptive relief from the SEC under Sections 6(c) and 17(b) of the Investment Company Act of 1940. The SEC issued notices of applications for exemptive relief sought by two not-yet-registered actively managed ETFs that proposed not to provide the daily disclosure of their portfolio holdings that is a condition in all exemptive orders for currently existing actively managed ETFs. Each notice, issued by the SEC preliminarily in advance of a hearing, states that (a) the provision of intraday indicative value, to be disseminated by an exchange every 15 seconds during the trading day under the proposals, would not provide sufficient portfolio transparency to enable the proposed ETFs to consistently trade at or close to NAV and (b) the introduction of a back-up redemption option under which retail investors could redeem their shares in the event of a significant ongoing deviation of closing market price from NAV subject to a redemption fee of up to 2% would not remedy the deficiencies in the arbitrage mechanism for the proposed ETFs. Each SEC notice provides that, absent a request for a hearing, the SEC intends to deny the requested exemption. Spruce ETF Trust, et al., SEC Release No. ICA- 31301 (Oct. 21, 2014); Precidian ETFs Trust, et al., SEC Release No. ICA-31300 (Oct. 21, 2014).
FinCEN Issues Two Administrative Rulings Regarding Virtual Currency Expanding Money Services Business Definition to Trading Platforms and Payment Systems
In the first of two concurrent administrative rulings on virtual currencies, FIN-2014-R011, FinCEN clarified that a virtual currency trading platform that matched offers to buy and sell virtual currency for real currency must register with FinCEN as a money services business. The second, FIN-2014-R012, revealed that a business converting credit card payments into virtual currency using its stored cache of bitcoin would also fall under FinCEN’s rules, whether acting as a broker or a dealer. In both cases, even though an exemption for payment processors existed, it only applied to entities operating entirely through clearance and settlement systems that transacted with Bank Secrecy Act (BSA) regulated financial institutions. Both businesses had to register with FinCEN and comply with the reporting and anti-money laundering requirements of the BSA.
Enforcement & Litigation
SEC Settles with Private Equity Fund Adviser and Portfolio Manager Over Expense Allocations, Loans to Funds and Changes to Fund Distribution Schemes
The SEC settled administrative proceedings against Clean Energy Capital, LLC, the investment adviser to 20 private equity funds, and Scott A. Brittenham, the firm’s principal owner and portfolio manager for the funds, based on the Commission’s findings regarding violations of (i) Section 17(a)(2) of the Securities Act regarding materially misleading misstatements or omissions in connection with securities transactions and (ii) provisions of the Investment Advisers Act. Among other things, the SEC found that the adviser and portfolio manager, without making proper disclosure to fund investors (a) allocated expenses to the funds using a methodology that caused the funds to pay expenses that “were not reasonable operational expenses” and included a major part of the portfolio manager’s compensation; (b) caused the funds to borrow from the adviser and make related pledges of fund assets; and (c) negatively affected investor returns in three funds by treating certain amounts used to replenish working capital reserves as investor preferred return, and increasing the general partner catch-up amounts above those specified in fund partnership documents. The respondents agreed to pay disgorgement and prejudgment interest of approximately $2 million and a civil penalty of $225,000. In re Clean Energy Capital, LLC and Scott A. Brittenham, SEC Release No. 33-9667 (October 17, 2014).