Weekly RoundUp November 11, 2015

Financial Services Weekly News

Editor's Note

Fintech, Disruptive Technologies, Driverless Cars and Driverless Markets: Commissioner Stein on Regulating the Future. On Nov. 9 SEC Commissioner Kara Stein spoke on Technology, Innovation and Competition as part of Harvard Law School’s Fidelity Guest Lecture Series. She discussed the challenge of regulation in an era of rapid technological innovation in financial services and capital markets. She said that robo advisers, which provide investment advice via electronic devices using computer algorithms for portfolio management, asset allocation and financial planning, among other things, raise an interesting philosophical issue about what it means to have a fiduciary duty when there is no human providing the advice. Looking further ahead, she noted that some financial market participants are beginning to explore how blockchain technology, currently the backbone of bitcoin trading, can be used in more traditional markets, for example, to trace securities lending, repo and margin financing. Questions the SEC must address are not only how to enable beneficial technology, but also to anticipate ways the technology might be used to monopolize markets or undermine competition. She said that ETF’s, a powerful financial innovation, have also presented challenges to the markets, in that, while they are traded on exchanges, they also act in different ways from other stocks. She noted that on Aug. 24 this year, when almost half of NYSE-listed stocks had not opened by 9:40 a.m. and many stocks opened extremely and unexpectedly low, there were more than 1,200 trading halts as a result of circuit breakers being tripped, with over 75% of those halts being in ETFs. Stein said, “it is clear that we need to think more about the limit up-limit down circuit breakers and how they work for ETFs,” expressing a particular concern for the negative effect on ordinary investors submitting stop loss orders that were effectively turned into market orders on that day, executed at unexpected prices. Finally, Stein compared algorithmic trading to driverless cars, noting that the designers of driverless cars have struggled with interactions like 4-way stops on roads. Human drivers make eye contact and quickly reach agreement about who has the right of way, something driverless cars cannot yet do. Stein said, “many are asking the same questions of computers and their algorithms in our markets. Where are the eyes when a computer needs to navigate an unexpected situation?” She pointed out that estimates for total market volume attributable to algorithmic trading routinely exceed fifty percent and noted, “we are not in the testing phase.” She mentioned some ideas she has proposed for reducing the risks of algorithmic trading, and also ideas proposed by CFTC Chairman Timothy Massad, who faces the same issues in the commodity futures and derivatives markets.
Editor's Note
Editor's Note
Editor's Note

Regulatory Developments

CFTC and NFA Staff Publish FAQs and Other Resources for Filing and Reporting on Forms CPO-PQR and CTA-PR

On Nov. 5 the Division of Swap Dealer and Intermediary Oversight of the CFTC announced that it had published responses to frequently asked questions regarding Form CPO-PQR and Form CTA-PR (the Responses). The Responses address a wide range of issues for commodity pool operators (CPOs) and commodity trading advisors (CTAs) to consider in filing, as relevant, Forms CPO-PQR and CTA-PR (the Forms). The issues addressed in the Responses include, among other things, (1) the identity of the entity that is required to complete and file the Forms, including in the context of co-CPOs; (2) the calculation of assets under management for purposes of determining whether a CPO is a mid-sized or large CPO and for other reporting purposes; (3) reporting for pools for which a CPO is able to claim an exemption for registration under CFTC Regulations 4.5 or 4.13(a)(3); (4) the ability of a CPO that is also an SEC-registered investment adviser and files a Form PF to use the Form PF to satisfy, in part, its Form CPO-PQR filing requirement; (5) the application of various items of the Form CPO-PQR to different fund structures, including master-feeders, parallel pools and managed accounts; and (6) the Form CTA-PR filing obligations of sub-advisors to primary advisors that are also CTAs. Also, as a follow-up to the Responses, on Nov. 10 the National Futures Association (NFA) published a Notice to CPOs and CTAs addressing EasyFile logistics regarding each of Form CPO-PQR and Form CTA-PR. EasyFile is the system through which CPOs and CTAs file the Forms. In addition to responding to certain frequently asked questions relating to the filing of the Forms, the NFA also included a tutorial video and other resources to assist CPOs and CTAs with the filings.

SEC Releases Risk Alert Related to Outsourcing of Chief Compliance Officer Duties by Investment Advisers and Investment Companies

On Nov. 9 the SEC’s Office of Compliance Inspections and Examinations (OCIE) released a risk alert reporting observations from its examination of investment advisers and investment companies that outsource their Chief Compliance Officer (CCO) duties to unaffiliated third-parties. As part of this Outsourced CCO Initiative, the SEC Staff noted that the role of CCO (a role mandated under Investment Advisers Act and Investment Company Act rules) is increasingly being outsourced by advisers and investment companies. Though OCIE noted that it found many strong third-party CCO practices in its initiative, it also identified several practices that should be strengthened. Separately worthy of note is that, in a recent Financial Crimes Enforcement Network (FinCEN) rule proposal to require investment advisers to establish anti-money laundering programs, FinCEN suggested that “[a] person designated as a compliance officer should be an officer of the investment adviser.” If FinCEN maintains this position following adoption of a final AML program rule for investment advisors, then investment advisers subject to the rule may need to closely scrutinize circumstances in which they delegate responsibility for management of their AML programs to a third-party.

Client Alert: SEC Issues New Guidance on Voting with Regard to Merger and Acquisition Transactions

Goodwin Procter’s Capital Markets practice issued a client alert on the SEC’s Division of Corporate Finance’s recent modification of its guidance regarding “unbundling” of voting on separate matters to require that when the corporate governance of the company which survives a merger will be changed in a material respect by the merger, the shareholders of both the acquiror and the target company must be able to vote separately on the change in the acquiror’s governance, in addition to voting on whether to approve the merger.

MSRB Proposes Rule Changes to Shorten Settlement Cycle for Municipal Securities

On Nov. 10 the MSRB announced that it is seeking public comment, by Regulatory Notice 2015-22, on a proposal to facilitate shortening the settlement cycle for transactions in municipal securities in response to a securities industry-led initiative to shift the current settlement cycle for all fixed-income and equity securities from T+3 to T+2 (trade date plus two days). The proposal would include amendments to Rule G-12, on uniform practice, and G-15, on confirmation, clearance, settlement and other uniform practice requirements with respect to transactions with customers. Comments are due Dec. 10.

SEC Approves Amendments to MSRB Gift Rules

On Nov. 6, the Municipal Securities Rulemaking Board (MSRB) received approval from the SEC of amendments to MSRB Rules G-8 and G-20 to limit the size and nature of gifts, gratuities and non-cash compensation given by municipal advisors and their associated persons in their professional capacity advising state and local governments. The amended regulations prohibit gifts in excess of $100 per person per year, with exclusions including bereavement gifts and compensation for services, and also prohibit dealers and municipal advisors from receiving reimbursement of certain entertainment expenses from the proceeds of an offering of municipal securities. The regulations are intended to address conflicts of interest that may arise from gift-giving in connection with municipal advisory activities and will become effective on May 6, 2016.

Enforcement Litigation

Client Alert: Eleventh Circuit Affirms That Users of Free Mobile Applications Are Not Subscribers Under the Video Privacy Protection Act

Goodwin Procter’s Privacy & Cybersecurity practice issued a client alert on the Eleventh Circuit Court of Appeals’ ruling in a class action against The Cartoon Network regarding transfer to a third-party analytics firm of video viewing data from the network’s mobile application. The court concluded that users of the application were not “subscribers” for purposes of the VPPA and therefore not entitled to certain of its protections.