Orrick's Financial Industry Week in Review - August 5, 2013

Financial Industry Developments

Joint Release on Stress-Test Guidance

On July 30, the FDIC, Fed and OCC released a request for comment on proposed guidance describing supervisory expectations for stress tests required by the Dodd-Frank Act to be conducted on medium-sized financial companies (with total consolidated assets between $10 billion and $50 billion).  Comments on the proposed guidance must be submitted by September 25.  Joint ReleaseProposed Guidance.   

IOSCO Recommendations on Rating Agencies

On July 30, the International Organization of Securities Commissions published a report recommending supervisory colleges for internationally active credit rating agenciesIOSCO ReleaseIOSCO Report.   

SEC Broker-Dealer Financial Responsibility Final Rules

On July 31, the SEC announced the adoption of amendments to the net capital, consumer protection, books and records, and notification rules for broker-dealers.  The rule amendments will be effective 60 days after publication in the Federal Register.  SEC ReleaseSEC Final Rules

In addition, the SEC also adopted amendments to Rules 17a-5 and 17a-11 under the Securities Exchange Act of 1934 to increase compliance standards and protections for investors with assets being held by broker-dealers.  Under the rules, audit requirements for broker-dealers will be strengthened in the following ways: (i) a broker-dealer that has custody of the customers' assets must file a "compliance report" with the SEC to verify they are adhering to broker-dealer capital requirements, protecting customer assets they hold and periodically sending account statements to customers; (ii) a broker-dealer that does not have custody of its customers' assets must file an "exemption report" with the SEC citing its exemption from requirements applicable to carrying broker-dealers; and (iii) all broker-dealers (regardless of custody) must engage a PCAOB-registered independent public accountant to prepare a report based on an examination of certain statements in the broker-dealer's report.  In addition, under the proposed rules, broker-dealer examinations will be enhanced by: (i) a requirement for filing a new quarterly report (Form Custody) that contains information about whether and how it maintains custody of its customers' securities and cash and (ii) a requirement for all broker-dealers to agree to allow SEC or SRO staff to review the work papers of the independent public accountant.  The effective date for the requirement to file Form Custody and the requirement to file annual reports with SIPC is December 31, 2013.  The effective date for the requirements relating to broker-dealer annual reports is June 1, 2014.  SEC Press ReleaseSEC Final Rule.

Making Home Affordable Supplemental Directive

On July 30, the Obama Administration released a supplemental directive providing updates to the Making Home Affordable program, specially with respect to the Second Lien Modification Program (2MP).  Supplemental Directive

Rating Agency Developments

On August 2, Fitch released its criteria for the rating of distressed debt exchangesFitch Release

On August 1, Fitch released its criteria for the use of lenders' mortgage insurance (LMI) in RMBS transactions.  Fitch Release

On August 1, Fitch released its criteria for rating RMBS and covered bonds supported by residential mortgages in the Asia-Pacific (APAC) region.  Fitch Release

On July 29, S&P released a request for comment on proposed changes to its criteria for rating global non-diversified auto dealer floorplan ABS.  Comments must be submitted by September 27.  S&P Release

Note: Free registration is required for rating agency releases and reports.

Distressed Debt and Restructuring Developments

City of Detroit's Bankruptcy Enters Courtroom

In the last two weeks, the Honorable Steven W. Rhodes of the Bankruptcy Court for the Eastern District of Michigan held two important in hearings in the City of Detroit's chapter 9 case, the largest in history.

On July 24, Judge Rhodes heard arguments on two specific motions to confirm and extend the protections of the automatic stays under sections 362 and 922 of the Bankruptcy Code.  The Court approved both motions over numerous objections.  These objections were based primarily on the argument that the City's bankruptcy case was not properly before the bankruptcy court because the Governor's authorization to file for bankruptcy under PA 436 was not consistent with the Michigan Constitution and other state laws. 

The Court declined to address the merits of those arguments, and stated that the Court would address state authorization issues as a component of a future hearing on Detroit's eligibility to file for chapter 9.  Judge Rhodes also found that there was no need for a state court to weigh in on these issues because (i) the statute does not require it and (ii) a bankruptcy court has determined the eligibility issues surrounding municipal debtors in every recent chapter 9 case. 

The Court then granted the stay confirmation motion, concluding that the Emergency Manager is an officer subject to the protections of the automatic stay under section 922 of the Bankruptcy Code.  The Court also granted the stay extension motion and found that section 105 of the Bankruptcy Code empowers the Court to extend the automatic stay because: (i) the City's interests are intertwined with the interests of the entities to whom the stay would extend; (ii) the creditors opposing the extension will not be harmed if the extension is granted; (iii) the City could suffer irreparable harm if the extension is not granted, as evidenced by the numerous state court lawsuits and the costs attendant thereto; and (iv) the extension motion serves the public interest by increasing the likelihood that the debtor can reorganize, reducing transaction costs and eliminating the risk of inconsistent judgments.

On August 2, Judge Rhodes then heard arguments on the Court's proposed dates and deadlines regarding eligibility and the filing of a chapter 9 plan of debt adjustment.  Although the Court took the scheduling issues under advisement, the Court suggested October 23, 2013 as the date on which a trial on eligibility could be held.  The Court also suggested that it would set March 1, 2014 as the deadline by which the City must file its plan.  In response, the City stated that it hoped to file a plan before December 31, 2013.  Finally, the Court approved the creation of a committee of retirees and scheduled a hearing regarding the assumption of the City's swap settlement agreement for August 28, 2013.  These time frames demonstrate that the Court and the City intend to resolve the City's chapter 9 case relatively rapidly.

RMBS and Other Securities Litigation

Federal Court Dismisses In Part Putback Claims Against Deutsche Bank

On July 23, Judge Robert W. Sweet of the United States District Court for the Southern District of New York dismissed in part a suit asserting putback claims against Deutsche Bank.  HSBC, as trustee of the securitization at issue, brought suit for (i) alleged breaches of Deutsche Bank's representations and warranties regarding underlying mortgage loans and (ii) Deutsche Bank's failure to repurchase the loans upon request by the trustee.  The court held that failure to provide the repurchase remedy is not an "independent" breach of contract.  The court also dismissed HSBC's declaratory judgment claim for reimbursement of its out-of-pocket expenses as duplicative of HSBC's breach of contract claims.  The court held, however, that plaintiff had adequately pled claims for breach of contract, including as to mortgages no longer held by the trust, and could pursue money damages allegedly required to make the plaintiff whole, as well as rescissory damages.  Order.

European Financial Industry Developments

FCA Launches Consultation on Implementation of CRD IV

On July 31, the UK's Financial Conduct Authority (FCA) published a consultation paper on proposals for implementing CRD IV for investment firms (CP13/6).

CRD IV is a package of reforms intended to address issues arising during the 2007/8 financial crisis and replaces the existing 2006 Capital Requirements Directive.  The principal aim of CRD IV is to implement the Basel III reforms but the package contains other prudential requirements for credit institutions and investment firms and CP13/6 includes proposals on capital buffers, common reporting, remuneration and existing FCA rule waivers.

The closing date for responses to CP13/6 is September 30.  The Prudential Regulation Authority (PRA) is publishing a separate consultation on CRD IV as it applies to its authorised firms (banks and building societies and designated investment firms).  Consultation Paper.   

Financial Services and Markets Act 2000 Order 2013 Published in UK

The Order, which amends the existing Financial Services and Markets Act 2000 (Regulated Activities) Order (SI 2001/544), specifies additional activities which from April 1, 2014 will become "regulated activities" for the purposes of the Financial Services and Markets Act 2000 (FSMA).

The new regulated activities include:

    • credit broking;
    • operating an electronic system in relation to lending;
    • entering into a regulated credit agreement as lender; and
    • providing credit information services and providing credit references.

Under FSMA, there is a general prohibition against carrying on regulated activities in the UK without being authorized or exempt.  Order

ESMA Publishes Opinion on Late Transposition of AIFMD

On August 1, the European Securities and Markets Association (ESMA), published an Opinion (ESMA/2013/1072) containing practical arrangements to address the issue of late transposition of the Alternative Investment Fund Managers Directive (2011/61/EU) (AIFMD).  AIFMD was supposed to be transposed into member states' national law by July 22, but with some states failing to meet the deadline, ESMA's Opinion aims to minimise the impact on industry and investors.  Opinion.