Weekly RoundUp August 05, 2021

Tenth Circuit Upholds District Court’s Ruling Finding No Breach of Fiduciary Duties in Section 36(b) Case

Editor's Note
In This Issue. The federal bank regulators published frequently asked questions concerning the London Interbank Offered Rate transition; the Consumer Financial Protection Bureau (CFPB) confirmed an effective date for two final rules issued under the Fair Debt Collection Practices Act; Federal Reserve Board Governor Lael Brainard provided an economic update at the annual meeting of the Aspen Economic Strategy Group; the U.S. Securities and Exchange Commission (SEC) approved the Financial Industry Regulatory Authority’s (FINRA) proposed rule change regarding high-risk firms; the Federal Reserve extended the comment period on a proposed rule to govern funds transfers over the FedNow℠ service; the U.S. Court of Appeals for the Tenth Circuit upheld the district court’s ruling that an investment adviser and affiliated administrator did not breach their fiduciary duties under Section 36(b) of the Investment Company Act of 1940; and Acting Comptroller of the Currency Michael J. Hsu testified on regulatory priorities. These and other developments are discussed in more detail below.
Editor's Note
Editor's Note
Editor's Note

Regulatory Developments

LIBOR Transition: Regulatory Capital Rule Frequently Asked Questions

On July 29, the Office of the Comptroller of the Currency (OCC), the Federal Deposit Insurance Corporation (FDIC) and the Board of Governors of the Federal Reserve System (Federal Reserve) published frequently asked questions (FAQs) concerning the regulatory capital treatment of capital instruments whose terms reference the London Interbank Offered Rate (LIBOR). All three sets of FAQs clarify that, for purposes of the capital rules, the replacement or amendment of a capital instrument that solely replaces a reference rate linked to LIBOR with another reference rate or rate structure does not constitute an issuance of a new capital instrument nor create an incentive to redeem, as long as the replacement or amended instrument is not substantially different from the original instrument from an economic perspective. The agencies expect a bank that does so to support its determination with an appropriate analysis demonstrating that the replacement or amended instrument is not substantially different from the original instrument from an economic perspective.

The Federal Reserve’s FAQs further address that, for purposes of the loss-absorbing capacity rule, a global systemically important BHC (GSIB) or a covered IHCs may exchange or amend its eligible debt securities to replace LIBOR without being deemed to issue a new debt security, if the replacement or amended security is not substantially different from the original security from an economic perspective. The GSIBs and covered IHCs may also conduct an exchange or tender offer for securities issued by the top-tier GSIB or top-tier IHC, as the case may be, directly with third party holders in order to facilitate their transition away from U.S. dollar LIBOR, provided certain conditions are met.

CFPB Confirms Effective Date for Debt Collection Final Rules

On July 30, the CFPB confirmed that two final rules issued under the Fair Debt Collection Practices Act (FDCPA) will take effect on November 30, 2021. Although a proposal in April 2021 might have pushed the effective date to January 29, 2022 to allow stakeholders affected by the COVID-19 pandemic additional time to review and implement the rules, the CFPB determined that such an extension is unnecessary based on public comments to the proposal. The first rule clarifies the FDCPA’s prohibitions on harassment and abuse, false or misleading representations, and unfair practices by debt collectors when collecting consumer debt, while the second rule clarifies disclosures debt collectors must provide to consumers at the beginning of collection communications, prohibits debt collectors from suing or threatening to sue consumers on time-barred debt, and requires debt collectors to take specific steps to disclose the existence of a debt to consumers before reporting information about the debt to a consumer reporting agency.

Federal Reserve Board Governor Provides Economic Update

On July 30, Federal Reserve Board Governor Lael Brainard provided an economic update at the annual meeting of the Aspen Economic Strategy Group, commenting on consumer spending, jobs and inflation.

Regarding consumer spending, she pointed to consumers’ pent-up consumption from the pandemic, which has “compensated fully” for last year’s contraction. New and used car sales as well as travel-related items make up the bulk of this spending. She noted that she will get a better picture of spending progress once September data comes in, given the widespread plans as of now to return to offices and schools. In terms of jobs, Dr. Brainard remarked that joblessness remains high, and disproportionately so for Black Americans and Hispanics. Employment is down by 6.8 million relative to pre-COVID-19 levels. She predicted that if jobs continue to increase at the current pace, the job loss gap will be slashed in half relative to the pre-pandemic trends by the end of 2021. Dr. Brainard commented that she is paying close attention to inflation pressures, noting that the inflation target is currently set at 2%. Inflation is currently running at 2.3%. She said she does not presently see signs that high inflation readings will lead to longer-term inflation increases, but said she remains vigilant in monitoring the trends.

Overall, her message was cautiously optimistic. Dr. Brainard noted that she remains mindful of the possible impact of the Delta variant, and she remains hopeful regarding the high levels of household savings, which could lead to more consumer spending.

“In short, growth this year is expected to compensate fully for last year’s sharp contraction — as a result of the strong policy response, effective vaccines, and the resilience and adaptability of American households, workers, and businesses.”
– Federal Reserve Board Governor Lael Brainar

SEC Approves FINRA Rule Change Addressing Firms with History of Misconduct

On July 30, the SEC approved FINRA’s proposed rule change to address those firms designated as “high risk firms” by the SEC. The amended FINRA Rule 4111 would authorize FINRA to impose additional obligations on broker-dealer firms with a significant history of misconduct, as well as those firms that employ individual brokers with such histories. Under FINRA Rule 4111, broker-dealer firms that are identified as “restricted firms,” based on a preliminary criteria for identification, will be required to deposit cash or qualified securities in a segregated account to pay their pending arbitration claims or unpaid arbitration awards. The amount of the maximum restricted deposit will be determined at the sole discretion of FINRA, but will be based on a firm’s size, operations and financial conditions. A firm’s ability to withdraw funds from the segregated account will be restricted, subject only to FINRA approval. 

Amended FINRA Rule 9559 would establish a process to give a restricted firm an opportunity to challenge the designation and the resulting obligations of that designation, as well as give the firm a one-time opportunity to avoid the imposition of obligations by voluntarily reducing its workforce. Each member firm will have an opportunity to demonstrate why it should not be designated as a restricted firm or subject to the maximum restricted deposit requirement. FINRA will engage in the assessment analysis every year and will look at every member firm (including Capital Acquisition Brokers), although only a few firms will meet the criteria for closer review. The effective date of amended FINRA Rule 4111 and amended FINRA Rule 9559 will be 180 days after the Regulatory Notice announcing the SEC’s approval.

Federal Reserve Extends Comment Period on Proposed Rule to Govern Funds Transfers Over the FedNow Service

On August 3, the Federal Reserve announced that it is extending the comment period for proposed rulemaking to govern funds transfers over the Federal Reserve Banks' FedNow Service until September 10, 2021. Originally, comments were due by August 10, 2021. The FedNow Service is a new 24/7, 365-day service that will support instant payments in the United States and is expected to be available in 2023.

Litigation and Enforcement

Tenth Circuit Affirms Judgment For Investment Advisor in § 36(b) Case

On July 26, the U.S. Court of Appeals for the Tenth Circuit issued a published opinion upholding the district court’s ruling that an investment adviser and affiliated administrator did not breach their fiduciary duties under Section 36(b) of the Investment Company Act of 1940 by collecting “excessive compensation” from fund assets. The district court's earlier decision followed a full trial on the merits, after which the district court had determined that the plaintiffs had failed to meet their burden on any of the Gartenberg factors and had failed to prove damages. Barring a cert petition to the Supreme Court, this resolves the last of the Section 36(b) cases, making this the first time since the Supreme Court decided Jones v. Harris in 2010 that the courts have not had at least one pending Section 36(b) case.

The appellate decision was widely expected because appellate courts rarely reverse a trial court's judgment after a full trial on the merits. The decision confirms well-established principles about deference to the board, the relevance of fee comparisons to other mutual funds, and requiring actual evidence of economies of scale. Notably, several of the funds at issue were index funds with fees higher than some funds tracking the same index. Last year, the district court had sanctioned the plaintiffs for bringing the case to trial, but that ruling is not yet final and therefore was not addressed in the Tenth Circuit’s decision.

Acting Comptroller of the Currency Testifies on Regulatory Priorities

On August 3, the Acting Comptroller of the Currency, Michael J. Hsu, testified at a hearing before the U.S. Senate Committee on Banking, Housing and Urban Affairs. The Acting Comptroller identified four problems that require immediate attention: (1) guarding against complacency, (2) reducing inequality, (3) adapting to digitalization and (4) acting on climate change. Access the Acting Comptroller’s oral statement and written testimony to learn more.

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Editors
Nicole Griffin
Samantha M. Kirby
William E. Stern

Contributors
Josh Burlingham
Sammy Tang
Rose Phipps
Joanna Jiang