Summary of Dodd Frank Act from mofo


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Summary of Dodd Frank Act from mofo

  1. 1. The Dodd-Frank Act: a cheat sheetMorrison & Foerster Morrison 1 Foerster
  3. 3. The Dodd-Frank Act implements changes that, among otherthings, affect the oversight and supervision of financialinstitutions, provide for a new resolution procedure for largefinancial companies, create a new agency responsible forimplementing and enforcing compliance with consumer financiallaws, introduce more stringent regulatory capital requirements,effect significant changes in the regulation of over the counterderivatives, reform the regulation of credit rating agencies,implement changes to corporate governance and executivecompensation practices, incorporate the Volcker Rule, requireregistration of advisers to certain private funds, and effectsignificant changes in the securitization market. Although thelegislation calls for a number of studies to be conducted andrequires significant rule-making, we all will be required to beintimately acquainted with the Dodd-Frank Act.In the pages that follow, we summarize the principal aspects ofthe Dodd-Frank Act. As lawyers, we would reflexively say thatthis is a summary, and only a very brief summary at that, andthat all of this is qualified in its entirety by reference to our morecomplete (and far longer) descriptions and analyses….As peoplewho receive lots of summaries, we would say short is usuallybetter. We hope you’ll find these short summaries useful.
  4. 4. Numerous government agencies areFinancial Stability Reform responsible for regulating financial institutions. Commentators have noted that without a governing body to oversee the various agencies, we remain vulnerable to regulatory gaps and oversight failures. The Dodd-Frank Act creates the Financial Stability Oversight Council (“Council”) to oversee financial institutions. Creation of the Council Duties of the Council − Chaired by Secretary of Treasury − Collect information necessary to assess − Voting members consist of heads of risks to the U.S. financial system the Treasury, Federal Reserve, OCC, − Provide direction to the Office of SEC, CFTC, FDIC, FHFA, NCUA, and Financial Research to support the work the Bureau of Consumer Financial of the Council Protection (“Bureau”), as well as an − Monitor the financial services market independent member with insurance place and identify potential threats expertise appointed by the President and to U.S. financial stability, as well as confirmed by the Senate regulatory proposals affecting integrity, − Non-voting members include the efficiency, competitiveness, and stability director of the Office of Financial of the U.S. financial markets Research, the director of the Federal − Facilitate information sharing and Insurance Office, a state insurance coordination among member agencies commissioner, a state banking and other federal and state agencies supervisor, and a state securities commissioner − Recommend to the member agencies general supervisory priorities and Purpose of the Council principles reflecting the outcome of − Identifying risks to U.S. financial discussions among the member agencies stability that may arise from ongoing − Identify gaps in regulation that could activities of large, interconnected pose risks to the financial stability of the financial companies as well as U.S. from outside the financial services − Require Federal Reserve supervision marketplace for nonbank financial companies that − Promoting market discipline by may pose risks to U.S. financial stability eliminating expectations of government in the event of their material financial bailouts distress or failure − Responding to emerging threats to − Review and submit comments to the financial stability SEC and any standard-setting body Morrison 4 Foerster
  5. 5. with respect to an existing or proposed to standards established by the Federal accounting principle, standard, or Reserve procedure Other− Provide a forum for discussion and analysis of emerging market − Creates the Office of Financial Research, developments and financial regulatory which will support the Council through issues, and to resolve jurisdictional data collection and research disputes among members of the Council − Financial companies and nonbank− Provide an annual report and testimony financial companies can appeal Council before Congress regarding financial requirement to implement stricter stability standards− Recommend heightened prudential − Council must conduct a study on standards for nonbank financial feasibility, benefits, costs, and structure companies and large, interconnected of a contingent capital requirement for bank holding companies supervised by nonbank financial companies the Federal Reserve − Council must make recommendations− Recommend to primary financial to the Federal Reserve and other federal regulatory agencies new or heightened regulators regarding concentration standards and safeguards for activities limits, public disclosures, credit that increase risks of significant liquidity, exposure, maintenance of long-term credit, or other problems spreading hybrid debt convertible to equity and among bank holding companies, general financial information reports nonbank financial companies, and U.S. − If the applicable agency chooses not financial markets to implement any recommendation− Identify systemically important financial provided by the Council, it must provide market utilities and payment, clearing, a report explaining its rationale and settlement activities, and require such utilities and activities to be subject Morrison 5 Foerster
  6. 6. Agencies and Agency Oversight Reform The various government agencies regulating the financial industry with their varying rules and standards led to certain entities not being regulated at all, with others subject to less oversight than their peer financial firms organized under different charters. The Dodd-Frank Act overhauls the existing agency oversight system as described below. Major Agency Changes holding companies; Federal Reserve will − Creation of the Financial Stability continue to regulate State member banks Oversight Council (Council) − The OCC will regulate national banks − Creation of the Office of Financial and federal thrifts of all sizes, and will Research within the Treasury to support have all rulemaking authority relating to the Council thrifts − Creation of an independent Bureau of − The FDIC will regulate state thrifts of all Consumer Financial Protection (Bureau) sizes within Federal Reserve − The OTS will be eliminated, all OTS − Creation of the Office of National functions, powers, authorities, rights and Insurance within the Treasury duties will be transferred to the Federal Reserve, the OCC, or the FDIC − Creation of the Office of Credit Rating Agencies within the SEC − The SEC will require registration of hedge funds that manage over $100 Major Changes in Agency Oversight million as investment advisers; threshold − Federal Reserve will regulate thrift for investment advisers subject to federal holding companies and subsidiaries of regulation to be raised from $25 million thrift holding companies, and will have to $100 million all rulemaking authority relating to thrift Morrison 6 Foerster
  7. 7. − The SEC will require registration of required to periodically submit “living municipal financial advisers, swap wills” to regulators in the event of advisers and investment brokers; financial distress Municipal Securities Rulemaking Board − Federal Reserve will be subject to a one- rules to be enforced by the SEC time GAO audit of the Federal Reserve’sOther lending facilities− Regulators will be required to implement regulations that prohibit banks, bank holding companies and certain nonbank financial institutions from proprietary trading and investments and sponsorships of hedge funds and private equity funds− Federal Reserve will have rule- making authority (and will act upon recommendations of the Council) with respect to rules prohibiting proprietary trading and investments and sponsorships of hedge funds and private equity funds− Large complex companies will be Morrison 7 Foerster
  8. 8. The final shape of securitization reform isSecuritization Reform beginning to gel. In addition to the changes effected by the Dodd-Frank Act, the SEC recently released a 667-page proposed rule amending Regulation AB’s registration, disclosure, and reporting requirements for asset-backed securities and other structured finance products. And the FDIC released a proposed rule amending its “securitization rule” safe harbor to require financial institutions to retain more of the credit risk from securitizations and reflect recent accounting changes. This was preceded by the FASB’s revisions to accounting rules relating to sales of financial assets and consolidation of certain off-balance sheet entities, revisions to bank capital rules to reflect FASB’s accounting changes and the enactment of the Hiring Incentives to Restore Employment Act, which imposes a 30% withholding tax on foreign financial institutions, including certain offshore securitization vehicles. Morrison 8 Foerster
  9. 9. The major elements of securitization reform are: Credit Risk Retention loan brokers or originators, the nature − 5% to be retained by the securitizer; and extent of the compensation of however, if originator retains some the broker or originator of the assets amount of risk, only the remaining risk backing the security, and the amount (up to 5% total) will be allocated to of risk retention of the originator or securitizer securitizer of such assets − Risk retention also to apply to CDOs, − Fulfilled and unfulfilled repurchase securities collateralized by CDOs and requests across all trusts will be similar instruments aggregated by the originator, so investors may identify originators with clear − Risk retention types, forms and underwriting deficiencies amounts for commercial mortgages to be determined by regulators, including − Due diligence analysis must be permitting a third party that purchases performed by securitizer and provided to a first-loss position at issuance and investors who holds adequate financial resources Representations and Warranties to back losses substituting for the risk retention requirement of the securitizer − Credit rating agencies must explain, in reports accompanying credit ratings, − Percentage retained can be lowered representations, warranties, and based on underwriting standards used enforcement mechanisms available − An exemption for qualified residential to investors and how they differ mortgages from representations, warranties and − Other exemptions will be available at enforcement mechanisms in similar regulators’ discretion issuances − No hedging or transfer of risk Other − Creation of different asset classes, which − Regulations relating to credit risk may be subject to different regulations retention requirements will become effective one year from enactment Required Disclosures for residential mortgage assets, and − Asset-level or data-level detail, including will become effective two years from data with unique identifiers relating to enactment for all other asset classes Morrison 9 Foerster
  10. 10. Derivatives Regulation Title VII of the Dodd-Frank Act, to be known as the Wall Street Transparency and Accountability Act of 2010, will impose a comprehensive and far-reaching regulatory regime on derivatives and market participants. Major elements of Title VII are summarized below.1 However, many sections of Title VII require various studies to be undertaken and mandate or permit significant rulemaking by the Commodity Futures Trading Commission (“CFTC”), the Securities and Exchange Commission (“SEC”), and various Federal banking regulators. As a result, a full assessment of the impact of Title VII will only be possible once that rulemaking advances. 1 Unless otherwise specified, for convenience we refer to swaps and security-based swaps as “swaps,” swap dealers and security-based swap dealers as “swap dealers,” and major swap participants and major security-based swap participants as “major swap participants” or “MSPs.” We also use the term “applicable regulator” to refer to the CFTC, in the case of swaps, and the SEC, in the case of security-based swaps. For a description of the Act’s prohibition on proprietary trading, please see our separate summary of the Volcker Rule. Morrison 10 Foerster
  11. 11. Lincoln Provision (the “Swaps Pushout” be physically settled, futures contracts,Rule) listed FX options, debt securities,− No “Federal assistance” (e.g., advances securities options and forwards that from any Federal Reserve credit facility are subject to the Securities Act of or discount window that is not part of a 1933 (“33 Act”) and the Securities broad-based eligibility program, FDIC Exchange Act of 1934 (“34 Act”), and insurance, or guarantees) may be provided security-based swaps. FX swaps and to any “swaps entity” (i.e., swap dealers FX forwards qualify as swaps, unless and non-bank major swap participants, or the Secretary of the Treasury determines MSPs). otherwise; however, notwithstanding any such determination, all FX swaps and− The prohibition does not apply to insured FX forwards must be reported to a swap depository institutions that limit their data repository or, in the absence of one, swap activities to (i) hedging and other to the applicable regulator, and swap similar risk mitigating activities directly dealer and MSP counterparties to FX related to their activities and (ii) engaging swaps and FX forwards must conform to in swaps involving rates or reference business conduct standards applicable to assets that are permissible for investment swap dealers and MSPs. by national banks. For purposes of the exception in clause (ii), CDS is permissible • Security-based Swap. A “security- only if cleared. based swap” is a swap on a single security or loan or a narrow-based− The prohibition only applies to swaps security index (generally, an index with entered into after the end of the transition 9 or fewer component securities). The period, which could be up to five years definition also includes credit default after enactment. swaps relating to a single issuer or theRegulatory Framework and Key issuers in a narrow-based security index.Definitions − The Act creates two new categories of− The Act creates parallel regulatory regimes significant market participants: swap for the CFTC and SEC and divides dealers and major swap participants. jurisdiction between the two regulators • Swap Dealer. A “swap dealer” is based on whether a “swap” or a “security- any person who holds itself out as a based swap” is involved. The CFTC will dealer in swaps, makes a market in have jurisdiction over “swaps” and certain swaps, regularly enters into swaps with swap market participants, and the SEC counterparties as an ordinary course of will have jurisdiction over “security-based business for its own account, or engages swaps” and certain security-based swap in any activity causing the person to market participants. Banking regulators be commonly known in the trade as a will retain jurisdiction over certain dealer or market maker in swaps. The aspects of banks’ derivatives activities term excludes persons that enter into (e.g., capital and margin requirements, swaps for their own account, either prudential requirements). individually or in a fiduciary capacity, • Swap. This term is broadly defined but not as a part of a regular business. It to include many types of derivatives also does not include insured depository across various asset classes, but excludes, institutions that offer to enter into swaps among other things, nonfinancial or with their customers in connection with security forwards that are intended to originating loans with those customers. Morrison 11 Foerster
  12. 12. The Act requires the CFTC and SEC to category, type, or class of swaps.Derivatives Regulation (continued) prescribe a de minimis exception to being designated as a swap dealer. • Mandatory clearing requirement will not apply to existing swaps if they are • Major Swap Participant. A “major reported to a swap data repository or, swap participant” (“MSP”) is any person if none, to the applicable regulator in a who is not a swap dealer and: timely manner. • Maintains a “substantial position” − Commercial End User Exception. (to be defined by the applicable The Act provides an exception to the regulators) in swaps for any major mandatory clearing requirement if one of swap category, excluding positions the counterparties to the swap (i) is not held for hedging or mitigating a financial entity, (ii) is using swaps to commercial risk and positions hedge or mitigate commercial risk, and maintained by any employee benefit (iii) notifies the applicable regulator how plan for the primary purpose of it generally meets its financial obligations hedging or mitigating any risk associated with entering into non-cleared directly associated with the operation swaps. Application of the exception is at of the plan; the sole discretion of the commercial end • Whose outstanding swaps create user. substantial counterparty exposure • The term “financial entity” includes that could have serious adverse effects swap dealers, MSPs, commodity on the financial stability of the U.S. pools, private funds (as defined in the banking system or financial markets; Investment Advisers Act of 1940), or employee benefit plans, and persons • Is a financial entity that is highly predominantly engaged in activities leveraged relative to the amount of that are in the business of banking capital that it holds, is not subject or in activities that are financial in to any Federal banking agency’s nature, but excludes certain captive capital requirements, and maintains a finance affiliates. The Act directs “substantial position” in outstanding the applicable regulators to consider swaps in any major swap category. whether to exempt small banks, savings associations, farm credit system • Certain captive finance affiliates of institutions, and credit unions. manufacturers that use swaps to hedge commercial risks relating to interest rate − Mandatory Trade Execution. To the and FX exposures are excluded from the extent that a swap must be cleared, it definition of major swap participant. must be executed on an exchange or swap execution facility, unless no exchange or Clearing and Trading Requirements swap execution makes the swap available − Mandatory Clearing. A swap must for trading. be cleared if the applicable regulator − Non-ECPs. Persons who are not eligible determines that it is required to be cleared contract participants (“ECPs”) must and a clearing organization accepts the always enter into swaps via an exchange. swap for clearing. • For swaps, the illegality applies to the • The determination process may be non-ECP. initiated by the applicable regulator or • For security-based swaps, the illegality by a clearing organization, and may applies to any person effecting the relate to any single swap or any group, transaction with or for the non-ECP. Morrison 12 Foerster
  13. 13. Regulation of Swap Dealers and Major − Business Conduct Standards. SwapSwap Participants dealers and MSPs must conform with− Registration. Swap dealers and MSPs business conduct standards, including: must register as such and will be subject • Disclosure to non-swap dealer and to a regulatory regime that will be defined, non-MSP counterparties of the to a very large extent, by rulemaking. material risks and characteristics of Registration is required with an applicable the swaps and any material incentives regulator regardless of whether the entity or conflicts of interest that the swap is registered with the other applicable dealer or MSP may have in connection regulator or is a depository institution. with the swaps; and− Capital and Margin. The applicable • Additional responsibilities with respect regulators (for non-banks) and the to “special entities” (i.e., States, Federal banking regulators (for banks) municipalities, State and Federal will set minimum capital requirements agencies, pension plans, governmental and initial and variation margin plans, and endowments): requirements for swap dealers and MSPs. • A swap dealer that acts as an • To offset the “greater risk” of non- advisor to a special entity has a cleared swaps, the capital and margin duty to act “in the best interests of” requirements must help ensure the the special entity; and safety and soundness of the swap • A swap dealer or an MSP that dealers and MSPs and be appropriate offers or enters into a swap with for the risk associated with the non- a special entity must comply cleared swaps held by those entities. “with any duty” established by • The Act permits the use of noncash the applicable regulator that collateral and, for non-cleared swaps, requires the swap dealer or MSP requires swap dealers and MSPs “to have a reasonable basis to to hold their counterparties’ initial believe” that the special entity is margin, upon request, in a segregated advised by a qualified independent account at an independent third party representative. custodian. Miscellaneous • The Act does not provide an exemption to the margin requirements − The Act increases eligibility requirements for commercial end users, although for ECPs Senators Dodd and Lincoln stated in − The applicable regulators are authorized to a June 30, 2010 letter to Chairmen establish aggregate position limits and large Frank and Peterson their view that the trader reporting requirements for swaps. Act does not authorize the regulators − Swaps shall not be considered to be to impose margin requirements on insurance and may not be regulated as commercial end users. Note, however, insurance contracts under State law. that imposing margin requirements − The SEC is authorized to expand the on swap dealers and MSPs for non- beneficial ownership rules in sections 13 and cleared swaps could, in effect, be 16 of the 34 Act to security-based swaps. passed on to end users through swap − Offers and sales of security-based swaps to pricing and/or margin requirements non-ECPs must be registered, notwithstanding imposed by swap dealers and MSPs. sections 3 and 4 of the 33 Act. Morrison 13 Foerster
  14. 14. Investor Protection Reform The financial crisis took many investors by surprise. It became clear that investors in certain financial products, such as auction rate securities, did not understand how the secondary market for such securities functioned. Ponzi schemes were exposed at a rapid pace and clients lost faith in those with custody of their securities and/or funds. On December 30, 2009, the SEC adopted amended Rule 206(4) under the Investment Advisers Act to address certain custody issues. Congress also aims to increase investor protection as a means of bolstering investor confidence and bringing investors back to the capital markets. Morrison 14 Foerster
  15. 15. Liability and Disclosures Point-of-Sale Disclosures− Empowers the SEC to promulgate a − SEC may issue rules regarding required fiduciary standard for broker-dealers that point-of-sale disclosures provide personalized investment services Short Sales− Mandates a study by the SEC on imposing a uniform fiduciary duty on financial − Requires a study on short selling intermediaries who provide similar advisory SEC Powers services − SEC may share information with federal,− Mandates a study on whether there are foreign and state regulators and law legal or regulatory gaps in standards in the enforcement without waiving privilege protection of retail customers relating to − SEC will be self-funded the standards of care for various financial intermediaries − SEC may engage in consumer testing− Prohibits or limits use of mandatory − Oversight of private funds managed by arbitration investment advisers− SEC may require disclosures if a broker- Other dealer sells only proprietary products − Awards to whistleblowersCustody and Client Requests − Creation of SEC Investor Advisory− SEC will review rule changes of self- Committee to consult on initiatives to regulatory organizations that affect custody promote investor confidence of customer securities or funds − Changes the accredited investor standard by− Independent verification of client assets held excluding, in the calculation of net worth, in custody of adviser the value of an investor’s primary residence − Requires a study on appropriate criteria forConflicts of Interest determining accredited investor status and− SEC shall facilitate the provision of simple eligibility to invest in private funds and clear investor disclosures regarding the − Requires a study of the feasibility of a self- terms of relationships with broker-dealers regulatory organization to oversee private and investment advisers and disclosures of funds conflicts of interest − Provides for special protection for senior− Requires a study on conflicts of interest investors involving analysts Morrison 15 Foerster
  16. 16. Credit Rating Agency Reform The Credit Rating Agency Reform Act passed in 2006 requires credit rating agencies (CRAs) to register with the SEC and submit reports. Recently proposed amendments to SEC rules attempt to address concerns raised regarding CRAs following the financial crisis, and the Dodd-Frank Act goes even further. Liability Prohibited Activities − Eliminates the exemption provided by − SEC to promulgate rules separating Rule 436(g) under the 33 Act from the rating activities from sales and marketing consent filing requirement for registration activities statements and potentially subjects CRAs − SEC may impose fines, including fines for to liability under Section 11 of the 33 Act failure to supervise − Duty to report violations of law to − Each CRA must establish, maintain, appropriate authorities enforce, and document an effective − Enforcement and penalty provisions of the internal control structure 34 Act apply to CRA statements to same − CRAs must submit an annual report to the extent as to registered public accounting SEC, including a CRA internal controls firms or securities analysts report along with a CEO attestation − Modification to “state of mind” requirement for private securities fraud Governance actions against CRAs for money damages − At least half of the CRA board of directors must comprised of independent directors Required Disclosures (no fewer than 2), with a portion of the − Qualitative and quantitative directors to include users of ratings methodologies and assumptions used − Independence is based on the presence no − Historical rating performance data consulting, advisory or compensatory fee required over multiple years, including for or status as an associated person of the ratings that were withdrawn CRA, and on not being disqualified from − SEC to issue rules requiring CRAs to any deliberation involving a particular disclose information on initial ratings and rating subsequent changes; disclosures to be − Independent directors to serve for a fixed, comparable across CRAs non-renewable term not to exceed 5 years, − SEC must require each CRA to with compensation not linked to the accompany publication of each rating business performance of the CRA with a prescribed form that details, − The board of directors has specifically among other things, ratings methodologies mandated oversight responsibilities Morrison 16 Foerster
  17. 17. with respect to policies and procedures for − SEC will conduct annual exam of each determining ratings, conflicts of interest, CRA; SEC to report on CRA exams internal controls and hiring and promotion OtherConflict of Interest − Due diligence reports prepared by third− Compliance officers cannot participate in parties for asset-backed securities must determining ratings or methodologies, or in be disclosed and certified sales activities or setting of compensation − SEC will issue rules regarding requisite levels for certain employees training, experience and competence for− Compliance office compensation must not be CRA analysts linked to financial performance of a CRA and − SEC will issue rules regarding ratings must be arranged to ensure independence of procedures and methodologies the compliance officer − SEC rules will require that CRAs− Compliance report required to be filed establish, maintain and enforce policies annually with the SEC and procedures that define and disclose− A one-year look-back requirement is imposed the meaning of any ratings symbol on any involvement of specified persons in the − Statutory references to ratings are ratings process, as well as required reporting removed from federal statutes, and of employment transitions for specified CRA federal agencies will review reliance on personnel references to ratings− Procedures required for the receipt, retention − SEC will conduct a study regarding and treatment of complaints independence of CRAs− SEC to promulgate additional regulations to − Additional studies will be required to be prevent sales and marketing from influencing conducted, including studies regarding ratings; SEC may suspend or revoke a CRA’s alternative business models, the creation registration for violations of an independent professional analystOversight organization, and the ratings process for structured finance products− Establishes SEC Office of Credit Ratings; director of Office reports to SEC Chairman− Establishes fines, penalties for CRAs; administers SEC rules applicable to CRAs Morrison 17 Foerster
  18. 18. The Volcker Rule Provisions The Volcker Rule provisions, named for former Federal Reserve Chairman Paul Volcker, are premised on the belief that speculative trading activities contributed in part to the financial crisis. The original House bill did not contain Volcker Rule provisions, although it did contain certain limitations on permitted activities (for example, the House bill permitted a ban on proprietary trading that poses systemic risk). In January 2010, the Obama Administration endorsed the Volcker Rule. The Senate bill imposed a prohibition on most proprietary trading by U.S. banks and their affiliates, subject to limited exceptions, and restricted covered institutions from owning, sponsoring or investing in hedge funds or private equity funds. Discussions relating to the Volcker Rule were among the most heated. Morrison 18 Foerster
  19. 19. The following summarizes the key Volcker Rule provisionscontained in the Dodd-Frank Act (Title VI): Prohibition on Proprietary Trading and affiliates or subsidiaries of the There are important distinctions made foregoing. between the activities that may be “Nonbank financial companies” are certain conducted by banking entities and those U.S. or foreign companies that, though not that may be conducted by nonbank BHCs or insured depository institutions, financial companies supervised by the predominately engage in financial activities Federal Reserve. (as defined in the Bank Holding Company − Except for certain permitted activities, Act) and which will become subject to the a “banking entity” cannot (1) engage supervision of the Federal Reserve based on in proprietary trading, or (2) acquire or a determination by the Council. retain any equity, partnership or other De Minimis Investment ownership interest in or sponsor a hedge fund or private equity fund (collectively A banking entity may make and retain an “fund activities”). investment in a fund that the banking entity organizes and offers; provided, that, it seeks − A “nonbank financial company” that unaffiliated investors for the fund; within engages in proprietary trading or fund one year of a fund’s start date, the banking activities will be subject to additional entity’s investments shall not exceed more capital requirements and quantitative than 3% of the total ownership interests in limits, to be established by rule. However, such fund; and the aggregate of investments if a nonbank financial company engages in all such funds does not exceed 3% of the in any permitted activities (i.e., any banking entity’s Tier 1 capital. of the activities that a banking entity is permitted to engage in), the capital Permitted Activities requirements or quantitative limits applied The following activities are “permitted to the nonbank financial company for activities”: those activities will be the same as those − transactions in U.S. government securities applied to banking entities engaging in (including securities of the GSEs); such permitted activities. − transactions in connection with Proprietary trading is defined as engaging underwriting or market-making activities, as principal for the trading account of to the extent designed not to “exceed the the banking entity or nonbank financial reasonably expected near term demands of company in any transaction to purchase clients, customers or counterparties”; or sell, or otherwise acquire or dispose of, any security, any derivative, any contract of − risk-mitigating hedging activities in sale of a commodity for future delivery, any connection with a banking entity’s option on any such security, derivative, or individual or aggregate positions, contracts contract, or any other security or financial or holdings that are designed to reduce instrument that the appropriate federal the banking entity’s specific risks in agencies may determine. connection with such positions, contracts or holdings; “Banking entities” are bank holding companies (BHCs), non-U.S. entities treated − customer transactions; as BHCs, insured depository institutions, − SBIC investments; Morrison 19 Foerster
  20. 20. − the purchase or sale of securities and − the acquisition or retention of anThe Volcker Rule Provisions (continued) derivatives by a regulated insurance company engaged in the insurance ownership interest or the sponsorship of a fund by a banking entity solely outside business, subject to state insurance of the U.S. if interests in the fund are not regulation and federal safety and offered or sold to a U.S. resident and the soundness review; banking entity is not directly or indirectly − organizing and offering a private equity or controlled by a banking entity organized hedge fund, if the banking entity: in the U.S.; and • provides bona fide trust, fiduciary, or − all other activities deemed appropriate investment advisory services; by the applicable oversight agencies that would promote the safety and soundness • provides trust or related services of the banking entity. and offers interests in the fund only in connection with providing such No activity may be deemed a permitted services only to bank customers; activity if it would (1) result in a material conflict of interest for the banking entity; • does not acquire or retain an (2) result in a material exposure for the equity interest, partnership interest, banking entity to high-risk assets or high- or other ownership interest in risk trading strategies; or (3) pose a threat the funds except for de minimis to the safety and soundness of the banking investments (see above); entity. • observes the restrictions on affiliate transactions; Permitted Services • does not, directly or indirectly, A banking entity or a nonbank financial guarantee or assume, or otherwise company may provide prime brokerage insure, the obligations or services to a sponsored fund if the provision performance of the fund; of such services complies with other applicable restrictions of the regulations • does not share a name or and the CEO (or equivalent officer) of the derivation of a name or other banking entity certifies annually to such marketing with the fund; compliance. Prime brokerage transactions • does not permit any director or will be subject to Section 23B. employee of the banking entity to take or retain an equity interest, Capital Requirements partnership or other ownership Oversight agencies will adopt additional interest in the fund, except for capital requirements and quantitative limits. any director or employee who is directly engaged in providing Restrictions on Affiliate Transactions investment advisory services to the A banking entity that serves as an fund; and investment adviser or sponsor to a fund or • discloses to prospective and actual that organizes and offers interests in a fund fund investors that losses sustained may not enter into “covered transactions” by the fund are not borne by the (as defined under Section 23A of the banking entity; Federal Reserve Act) with the fund and that banking entity also shall be subject to the − certain proprietary trading that occurs restrictions of Section 23B of the Federal solely outside of the U.S. by a banking Reserve Act in respect of transactions with entity that is not directly or indirectly the fund. controlled by a banking entity organized under the laws of the U.S.; Morrison 20 Foerster
  21. 21. Required Study these purposes, including synthetic asset-Within six months of enactment, the backed securities) shall not engage in anyCouncil will conduct a study and make transaction that would involve or result inrecommendations regarding implementation any material conflict of interest with respectof these measures. Within nine months of to any investor in a transaction arising outcompletion of the study, the appropriate of such affiliate. This prohibition will applyagencies will consider the findings and for a one-year period that begins on theadopt rules to implement these measures. offering date. Within 270 days of enactment of the Dodd-Phase-In Period Frank Act, the SEC shall promulgate rulesGenerally, these provisions shall take effect to implement this prohibition.on the earlier of: 12 months after the date The prohibition shall be subject toof the issuance of the final rules, or two exceptions for the following:years after the date of enactment of theDodd-Frank Act. • Risk-mitigating hedging activities in connection with underwriting orBank entities and nonbank financial offering the asset-backed security;companies will have two years after the provided such activities are designedeffective date (or two years after the date to reduce specific risk to the financialon which the entity becomes subject to intermediary associated with positionsFederal Reserve supervision as a bank arising in connection with the asset-entity or a nonbank financial company) to backed security offering; andbring their activities into compliance. Thisphase-in period may be extended by the • Purchases or sales of asset-backedFederal Reserve for one year at a time, with securities made pursuant to andextensions not to exceed an aggregate of consistent with commitments by thethree years. However, the Federal Reserve financial intermediary to providemay extend the period in order to permit liquidity for the asset-backed security.compliance with a contractual obligationthat was in effect on May 1, 2010.Conflict of Interest Provisions (MerkleyProvisions)An underwriter, placement agent, initialpurchaser, sponsor (or any affiliate) ofan asset-backed security (as definedunder Section 3 of the 34 Act, but, for Morrison 21 Foerster
  22. 22. Compensation and Corporate Governance Lingering concerns with executive compensation and corporate governance practices at public companies (including companies outside of the financial services industry) culminated in specific provisions of the Dodd-Frank Act that require new stock exchange listing standards, mandated resolutions for public company proxy statements, and expanded disclosures for all public companies soliciting proxies or consents. As a result of these provisions, companies will potentially have to change the composition and operation of their compensation committees, adopt new governance and compensation policies, and prepare for an advisory vote on executive compensation. Morrison 22 Foerster
  23. 23. Say-On-Pay executives versus the company’s financial− Companies must include a resolution in performance their proxy statements asking shareholders − Companies must disclose the median to approve, in a non-binding vote, the annual total compensation of all compensation of their named executive employees (except the CEO), the officers annual total compensation of the CEO,− A separate resolution will be required to and the ratio of the median employee determine whether the Say-on-Pay vote total compensation to the CEO total takes place every one, two, or three years compensation− To the extent that any “golden − Disclosure is required of whether any parachute”-related compensation is not employee or director (or designee of such approved as part of a Say-on-Pay vote, a persons) is permitted to purchase financial separate non-binding vote will be required instruments designed to hedge their equity to approve that compensation in the securities event of a merger or similar extraordinary Clawbacks transaction − Stock exchanges must adopt standards− The proxy statement for a meeting requiring that listed companies develop involving a “Say-on-Golden Parachute” and implement policies providing for the vote would need to include “clear and recoupment of compensation in the event simple” disclosure of the golden parachute of an accounting restatement arrangements or understandings and the amounts payable − Enhanced disclosure will be required of a company’s policy on incentive-basedCompensation Committee and Adviser compensation that is based on financialIndependence information required to be reported under− Stock exchanges must adopt listing the securities laws standards providing that the members Other Governance Provisions of the compensation committee meet enhanced independence standards − The Act authorizes the SEC to promulgate comparable (but not identical) to what rules allowing certain shareholders is required for audit committee members to include director nominees in the under the Sarbanes-Oxley Act company’s proxy materials, but does not prescribe specific standards for those rules− New listing standards will prescribe that a compensation committee may only − Disclosure is required of the reasons why select compensation consultants, legal the company has chosen to have one counsel, or other advisers after taking into person serve as Chairman and CEO, or to consideration independence standards have different individuals serve in those established by the SEC roles− Enhanced disclosure is required regarding − Brokers are not permitted to use the use of compensation consultants and discretionary authority to vote proxies any conflicts of interest in connection with election of directors, executive compensation, or otherEnhanced Compensation Disclosure significant matters as determined by the− Disclosure is required of the relationship SEC of the compensation actually paid to Morrison 23 Foerster
  24. 24. Capital Requirements Generally, the Dodd-Frank Act imposes more stringent regulatory capital requirements on financial institutions. The Act requires that the Council make recommendations to the Federal Reserve regarding the establishment of heightened prudential standards for risk-based capital, leverage, liquidity and contingent capital. Supervised Nonbanks and Bank Holding Collins Amendment Provisions Companies with Total Consolidated Assets − Require the establishment of minimum Equal to or Greater than $50 Billion leverage and risk-based capital − The Federal Reserve must establish requirements prudential standards for these institutions, • Set the risk-based capital requirements which include: and the Tier 1 to total assets standard • Risk-based capital requirements; applicable to insured depository • Leverage limits; institutions under the prompt corrective action provisions of the • Liquidity requirements; Federal Deposit Insurance Act • Requirements for a resolution plan; • Set these current rates as a floor and • Limit regulatory discretion in • Concentration limits establishing Basel III requirements − These standards also should include − Raise the specter of additional capital a contingent capital requirement, requirements for activities that are requirements for enhanced public determined to be risky, including, but disclosures, short-term debt limits, a not limited to, derivatives, securitized risk committee requirement, a stress test products, financial guarantees, securities requirement, and maximum leverage ratio borrowing and lending and repos − These institutions will be subject to a − All of these requirements become effective maximum debt-to-equity ratio of 15-to-1 upon the adoption of implementing Morrison 24 Foerster
  25. 25. regulations, which are required to be Required Studies passed within 18 months of the Act’s − There are a number of studies enactment required that impact regulatory capitalEffect on Hybrids requirements− The application of the prompt corrective • Hybrids: Within 18 months of action provisions for insured depository enactment, the GAO must conduct institutions to bank holding companies a study on the use of hybrid no longer permits the inclusion of trust capital instruments and make preferred securities or other hybrid recommendations for legislative or securities in the numerator of Tier 1, regulatory actions regarding hybrids subject to certain exceptions and phase-in • Contingent capital: within two years periods as discussed below of enactment, the Council must present • Mutual holding companies and the results of a study on contingent thrift and bank holding companies capital that evaluates, among other with less than $15 billion in total things, the effect on safety and consolidated assets are not subject to soundness of a contingent capital this prohibition requirement, the characteristics and amounts of contingent capital that • Intermediate U.S. holding companies should be required and the standards of foreign banks have a five-year for triggering such requirements; phase-in period following this study, the Council may • For newly issued securities (those recommend to the Federal Reserve issued after May 19, 2010), the certain minimum contingent capital requirement is retroactively effective requirements • For bank holding companies and systemically important nonbank financial companies, hybrids issued prior to May 19, 2010 will be subject to a phase in from January 2013 to January 2016 Morrison 25 Foerster
  26. 26. Conclusion In short There will be much more to come once the studies mandated by the Dodd-Frank Act are completed. There also is every reason to believe that the rule-making process will be a long and winding road. We will provide regular updates on our dedicated regulatory reform webpage Morrison 26 Foerster
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  28. 28. Morrison 28 Foerster © 2010 Morrison & Foerster | | Attorney Advertising