Department Of The Treasury Issues Blueprint For A Modernized Financial Regulatory Structure

Developments Of Note

Department of the Treasury Issues Blueprint for a Modernized Financial Regulatory Structure

SEC Proposes Rule to Permit ETFs to Operate Without Individual Exemptive Relief and to Increase the Extent to which Other Registered Funds May Invest in ETFs

IRS Issues Final Regulations Regarding Diversification Requirements for Variable Contracts

OCC Issues Bulletin on Annual Review of Fiduciary Accounts

Federal Financial Institutions Regulatory Agencies Release Proposed Revisions to Interagency Flood Insurance Questions and Answers

Other Items Of Note

FINRA Issues Regulatory Notice Regarding Elimination of Principal Pre-Approval Requirement for Sales Material Previously Filed by Another Member

FINRA Issues Annual Examination Priorities Letter

Developments Of Note

Department Of The Treasury Issues Blueprint For A Modernized Financial Regulatory Structure

The U.S. Department of the Treasury (the "Treasury") issued a three-stage plan (the "Plan") to reform government regulation of financial institutions.

Short-Term. The Treasury recommends, among other things, that, in the short term: (1) the President's Working Group on Financial Markets be expanded to broaden its focus and to include representatives from the whole financial sector; (2) the creation of a new Federal Commission for Mortgage Origination to set minimum licensing standards and to evaluate each state's licensing system; and (3) the FRB's powers be expanded so that it can examine and impose conditions on non-bank institutions who have temporary access to FRB lending.

Intermediate-Term. In the intermediate term, the Plan recommends, among other things: (1) the elimination of the federal thrift charter and the merger of the OTS into the OCC; (2) that federal supervision of state-chartered banks be assigned, after a study, to either the FRB or the FDIC; (3) that a new charter for systemically-important payment and settlement systems be created, and that the FRB have primary oversight of such entities; (4) that an optional federal insurance charter be created and that entities choosing the federal insurance charter be supervised by a new Office of National Insurance within Treasury; and (5) that the SEC and CFTC be merged.

Optimal Long-Term. The Plan proposes a revamped financial regulatory system for the long term that would use an "objectives-based approach for optimal regulation" and under which financial institutions would be offered one of three federal charters: (a) a Federal Insured Depository Institution charter for lenders with federal deposit insurance; (b) a Federal Insurance Institution charter for insurers offering retail products where some federal guarantee is present; and (c) a Federal Financial Services Provider charter for all other federally-chartered institutions.

To implement these long term objectives, Treasury proposes in the Plan that three distinct regulators would focus exclusively on financial institutions:

a market stability regulator (the FRB with expanded authority) would gather information, disclose information, collaborate with other regulators on rule writing and take corrective action, as needed, to protect financial market stability. The market stability regulator would have the authority to monitor risks across the financial system (including risks at mortgage companies, hedge funds, etc.).

a prudential regulator (that would assume most of the current roles of the OCC, OTS and NCUA) would focus on safety and soundness of entities with federal guarantees and would have authority to address affiliate relationship issues. The prudential regulator would apply capital adequacy requirements, investment limits, activity limits and risk management supervision.

a business conduct regulator (assuming most roles of the SEC and CFTC and some roles of the current bank regulatory agencies, the FTC and state insurance agencies) would monitor business conduct regulation (e.g., consumer protection and mortgage and product disclosure, fair business practices, licensing).

In addition, the Plan envisions a Federal Insurance Guarantee Corporation that would assume the FDIC's role as insurer and charge premiums to guarantee deposits and insurance products. Moreover, a Corporate Finance Regulator would assume certain SEC functions including, among other things, oversight of corporate disclosures and corporate governance.

The Treasury recognizes that the proposals in the Plan are unlikely to be adopted during the Bush Administration or soon thereafter, but Treasury Secretary Paulson has stated that he hopes that they will be the basis for consideration of financial regulatory reform during the next administration. Moreover, it is clear that many of these proposals will spur substantial debate. Goodwin Procter's Financial Services Group will monitor closely the debates on the proposals in the Plan and will report on important developments that arise out of the Treasury's proposals.

SEC Proposes To Permit ETFs To Operate Without Individual Exemptive Relief And To Increase The Extent To Which Other Registered Funds May Invest In ETFs

The SEC issued a formal release proposing a new rule and rule amendments that would greatly ease the process of bringing new exchange traded funds ("ETFs") to market and increase the ability of other funds to invest in ETFs. The proposed rule amendments would, to a large extent, codify the terms of SEC exemptive relief that is currently necessary for ETFs to commence operations and would revise open-end fund prospectus disclosure requirements to improve the usefulness of ETF prospectuses to investors who received them in connection with their purchases of ETF shares in the secondary market. The rule amendments also include revisions to Rule 12d1-2 under the Investment Company Act of 1940, as amended (the "1940 Act"), that address questions raised about the extent to which the rule allows an affiliated fund of funds to invest in other assets.

Proposed Rule 6c-11

Proposed Rule 6c-11 under the 1940 Act would generally codify exemptive relief that the SEC has provided in the past to allow index based ETFs and actively managed ETFs to operate. ETFs are investment companies that are typically registered under the 1940 Act as open-end funds. Unlike typical open-end funds, ETFs do not sell or redeem their individual shares at net asset value ("NAV"). Instead, they sell and redeem shares at NAV only in large blocks (such as 50,000 shares), which are typically referred to as "Creation Units." Purchases and redemptions at NAV are effected in-kind through the tender of a basket of securities designated by the ETF based on its portfolio holdings. National securities exchanges list ETF shares for trading, which creates a secondary market where ETF shares can trade at negotiated prices in non-Creation Unit quantities. The arbitrage activity engaged in by large institutional investors buying and redeeming Creation Units in response to changes in an ETF's market price relative to its...