Regulatory Developments

Agencies Propose Changes to Modify “Covered Funds” Restrictions of Volcker Rule

On January 30, the Federal Reserve Board, Federal Deposit Insurance Corporation (FDIC), Office of the Comptroller of the Currency, SEC, and CFTC (together, the Agencies) issued a notice of proposed rulemaking to modify regulations implementing Section 619 of the Dodd-Frank Act, commonly known as the “Volcker Rule.” The FDIC also published a fact sheet summarizing the proposed rule.

According to the Agencies, after the regulations implementing the Volcker Rule were finalized in 2013, their regulations have created compliance uncertainty and imposed limits on certain banking services and activities that the Volcker Rule was not intended to restrict. To address these concerns, the Agencies simplified their implementing regulations for the Volcker Rule’s proprietary trading restrictions in November 2019. The proposed rule would modify their regulations implementing the Volcker Rule’s general prohibition on banking entities acquiring or retaining ownership interests in, sponsoring, or having certain relationships with hedge funds or private equity funds – known as “covered funds.” In particular, the proposed rule would:

• Exempt the activities of certain funds that are organized outside of the United States and offered to foreign investors (qualifying foreign excluded funds) from the restrictions of the implementing regulations;
• Revise certain restrictions in the foreign public funds exclusion to more closely align the provision with the exclusion for similarly situated U.S. registered investment companies;
• Permit excluded loan securitizations to hold a small amount of non-loan assets, consistent with past industry practice, and codify existing staff-level guidance regarding this exclusion;
• Revise the exclusion for small business investment companies to account for the life cycle of those companies and request comment on whether to clarify the scope of the exclusion for public welfare investments, including as it relates to rural business investment companies and qualified opportunity zone funds; and
• Address concerns about certain components of the preamble to the Agencies’ 2013 regulations related to calculating a banking entity’s ownership interests in covered funds.

In addition, the Agencies are proposing several new exclusions from the covered fund provisions to address the potential over-breadth of the covered fund definition and related requirements. These new exclusions include:

• An exclusion for credit funds, allowing banking entities to invest in and have certain relationships with credit funds that extend the type of credit that a banking entity may provide directly, subject to certain safeguards;
• An exclusion for venture capital funds;
• An exclusion for an entity created and used to facilitate a customer’s exposures to a transaction, investment strategy, or other service;
• An exclusion for wealth management vehicles that manage the investment portfolio of a family or certain other persons, allowing a banking entity to provide integrated private wealth management services;
• An exclusion permitting a banking entity to engage in a limited set of covered transactions with a covered fund the banking entity sponsors or advises or with which the banking entity has certain other relationships; and
• A safe harbor for bona fide senior loans or senior debt instruments to make clear that an “ownership interest” in a fund does not include such credit interests in the fund and clarifying the types of credit rights that would be considered within the scope of the definition of ownership interest.

The proposed rule would also simplify compliance efforts by tailoring the calculation of a banking entity’s compliance with the implementing regulations’ aggregate fund limit and covered fund deduction, and clarifying the permissible investments made by banking entities alongside covered funds. Comments will be accepted until April 1, 2020.

Additional information on the proposed rule will be provided in a forthcoming client alert to be issued by Goodwin’s Banking practice.

Goodwin Alert: Key Takeaways for Investors from the Fed’s Final “Control” Rule

On January 30, the Federal Reserve issued a final rule (Rule) that revises its regulations related to determinations of whether a first company (an investor) exercises a “controlling influence” over a second company (a target) for purposes of the Bank Holding Company Act or the Home Owners’ Loan Act. According to the Federal Reserve, the Rule is “largely consistent” with the version proposed in its spring 2019 notice of proposed rulemaking, with modest modifications adopted in response to public comments. For more information, read the client alert issued by Goodwin’s Banking practice.

SEC Issues MD&A Guidance

On January 30, the SEC announced that it has issued guidance on key performance indicators and metrics in Management’s Discussion and Analysis (MD&A). The guidance, issued in the form of an interpretive release, reminds companies that MD&A requires companies to disclose information that Item 303(a) of Regulation S-K specifically references if the company believes that the disclosure is necessary to an understanding of the company’s financial condition and results of operations, and to disclose other statistical data that the company believes would enhance a reader’s understanding of MD&A. Because the SEC intends that MD&A should enable investors to see the company through the eyes of management, the interpretive release states that “these metrics should not deviate materially from metrics used to manage [the company’s] operations or make strategic decisions.” The interpretive release also provides guidance on several points relating to key performance indicators and metrics.

The SEC guidance will be effective upon publication of the interpretive release in the Federal Register, and is therefore likely to apply to most Form 10-K reports to be filed by companies for the fiscal year ended December 31, 2019. In the period before the interpretive release is published, companies may wish to consider reviewing their disclosures and voluntarily applying the guidance in the interpretive release. Additional information on the guidance will be provided in a forthcoming client alert to be issued by Goodwin’s Public Companies practice.

SEC Proposes Amendments to Modernize and Enhance Financial Disclosures

On January 30, the SEC announced that it had voted to propose amendments that will simplify and eliminate redundant financial disclosure requirements in Regulation S-K. The proposed amendments would eliminate Item 301 (Selected Financial Data) and Item 302 (Supplementary Financial Data), and amend Item 303 (MD&A). Among other things, the proposed amendments to Item 303 would:

• Add a new Item 303(a), Objective, to state the principal objectives of MD&A;
• Replace Item 303(a)(4), Off-balance sheet arrangements, with a principles-based instruction to prompt registrants to discuss off-balance sheet arrangements in the broader context of MD&A;
• Eliminate Item 303(a)(5), Tabular disclosure of contractual obligations given the overlap with information required in the financial statements and to promote the principles-based nature of MD&A;
• Add a new disclosure requirement to Item 303, Critical accounting estimates, to clarify and codify existing SEC guidance in this area; and
• Revise the interim MD&A requirement in Item 303(b) to provide flexibility by allowing companies to compare their most recently completed quarter to either the corresponding quarter of the prior year (as is currently required) or to the immediately preceding quarter.

The proposed amendments will be subject to a 60-day public comment period after publication in the Federal Register. Additional information on the proposed amendments will be provided in a forthcoming client alert to be issued by Goodwin’s Public Companies practice.

CFTC Proposes Two Significant Rule Changes

On January 30, the CFTC held an open meeting to consider whether to adopt new rules relating to position limits for certain agricultural, energy and metals contracts, as well as to amend reporting requirements for trades executed on a swap execution facility (SEF).

Position Limits for Derivatives. The CFTC’s proposed position limit rules would amend the existing position limits on nine agricultural contracts and apply new position limits to 16 physical energy and metals commodity contracts. Position limits on widely-traded physical grain and cotton commodity contracts have existed for decades. After a sharp rise in energy prices in 2008 and 2009, in 2010 Congress passed the Dodd-Frank Act, which among other things, mandated that the CFTC consider position limit rules to include certain energy and metals contracts. Pursuant to the Dodd-Frank Act, the CFTC first proposed new position limit rules in 2011. However, in 2012, the CFTC’s initial rules were largely vacated by the U.S. District Court for the District of Columbia on grounds that the CFTC exceeded its authority under the Dodd-Frank Act when it proposed to adopt final rules on position limits. The CFTC subsequently issued supplemental proposed rules on position limits in 2013 and 2016. But to date, the CFTC has not adopted any final position limit rulemakings based on prior proposed rules. While the proposed rules only limit “speculative” positions, since 2012 market participants have been concerned that new position limits could prohibit common hedging and risk mitigation transactions used by energy and commodity end-users. To address concerns, the CFTC proposes broad exemptions for “bona fide” hedging that includes an enumerated list of hedging transactions, risk measuring tests and temporary substitute tests. The CFTC also proposes a streamlined and non-intrusive process for recognizing those new hedging exemptions. CFTC Commissioner Brian Quintenz said of the new position limits: “I look forward to hearing from end-users about whether this proposal provides them the flexibility and certainty they need to manage their exposures in a way that reflects the complexities and realities of their physical businesses. In particular, I am interested to hear if the list of enumerated bona fide hedging exemptions should be broadened to recognize other types of common, legitimate commercial hedging activity.” Comments on the position limits rules should be sent to the CFTC before April 29, 2020.

SEF Reporting Requirements. The CFTC’s SEF trading rules require that traders report transactions executed on SEFs in a manner similar to how traders report transactions executed on traditional derivatives exchanges. Since 2014, due to the operational and compliance burdens raised by SEF trading, market participants sought and received no-action relief from the CFTC for certain real time swap reporting requirements. The proposed rules for SEF reporting requirements would codify no-action letters in three areas: package transactions, error trades and block trades. Regarding the CFTC’s proposed rules to amend SEF reporting requirements, CFTC Chairman Heath Tarbert said: “I expect the proposal, if finalized, will provide certainty and clarity to SEFs and their participants. CFTC staff has provided important relief over the last six years. There is great value in memorializing their no-action positions in a CFTC rule.”

ARRC Issues Buy-Side LIBOR Checklist and Vendor Survey

On January 31, the Alternative Reference Rates Committee (ARRC) created a new checklist to assist buy-side investment managers with issues raised by the transition from LIBOR to SOFR. ARRC’s new checklist compliments ARRC’s existing User’s Guide to SOFR. The new checklist is similar to the practical implementation checklist previously released in September 2019. However, the new checklist contains additional steps specifically applicable to buy-side managers. The buy-side checklist covers ten key areas where investment managers must take action to mitigate risks, including governance, communications, identification of LIBOR exposures, and contractual remediation. The check list does not include timelines because each manager must narrowly tailor the necessary actions to its own facts and circumstances. Additionally, the ARRC advises that the checklist should be modified according to managers’ size and volume of LIBOR exposures, among other factors. In connection with the buy-side checklist, the ARRC also issued a vendor survey to address operational challenges in the transition from LIBOR to SOFR. The vendor survey serves as a self-assessment tool for software and technology vendors to assess their own readiness, while also serving as a platform to raise operational issues to the ARRC. According to Tom Wipf, Chair of the ARRC, “The clock is running out on LIBOR’s existence and that means everyone must be ready for the challenges they will face if they continue to hold LIBOR exposures. The ARRC is focused on helping market participants and service providers meet these challenges, and we will be providing more tools in the coming months. We urge all vendors to complete the survey, and we encourage buy-side firms to make use of today’s checklist for steps to consider when transitioning to SOFR.”

FHFA Proposes Updated Minimum Financial Eligibility Requirements for Fannie Mae and Freddie Mac Seller/Servicers

On January 31, the Federal Housing Finance Agency (FHFA) proposed updated standards that mortgage lenders would have to meet in order to sell loans to or service loans on behalf of Fannie Mae and Freddie Mac. The proposed update includes new requirements for the servicing of Ginnie Mae mortgages. Comments on the changes are due by March 31, 2020.

Enforcement & Litigation

CFPB Issues Much Anticipated Guidance Regarding Abusive Acts or Practices

As covered in last week’s Roundup, the Consumer Financial Protection Bureau (CFPB) has issued a policy statement setting forth guidelines on how it intends to enforce the “abusiveness” element of unfair, deceptive, or abusive acts or practices under the Dodd-Frank Act. For additional analysis on this important development, read the LenderLaw Watch blog post.

Goodwin News

ABA Conference for Community Bankers — Feb. 9-12

Community banking is about building relationships with your customers and your community. Attend the American Bankers Association’s Conference for Community Bankers in Orlando, Florida, and expand your network of fellow bank leaders from across the country. Join the ABA as it celebrates its 40th anniversary to hear from experts who understand community banking and leave with new insights and practical takeaways to grow your business. Goodwin is a sponsor. For more information, click here.

ICI Mutual Funds and Investment Management Conference — March 22-25

Today’s funds face more challenges and opportunities than ever before. At the 2020 Mutual Funds and Investment Management Conference, attendees will hear directly from regulators and other experts about how asset managers can navigate today’s changing landscape. Taking place in Palm Desert, California, this event will enable you to learn about key regulatory and other issues and to connect with colleagues. Goodwin's Investment Management team will be attending this conference. To register, please click here.

Good Run: Annual 5K in Conjunction With ICI Mutual Funds and Investment Management Conference — March 23

Goodwin's Investment Management Practice is hosting its 12th Annual Good Run in conjunction with the Investment Company Institute’s 2020 Mutual Funds & Investment Management Conference. In recognition of the participants, Goodwin will make a donation to Expect Miracles, a leading advocate in the fight against cancer within the financial services industry. Please contact Olivia LaBau for more information.