Securities Regulation Daily Mutual funds, the CAT, disaster relief and asset managers dominate securities bills at House FSC markup
Thursday, January 18, 2018

Mutual funds, the CAT, disaster relief and asset managers dominate securities bills at House FSC markup

By Mark S. Nelson, J.D.

The House Financial Services Committee held its first markup of 2018, which coincides with the start of the second session of the 115th Congress. After several record-breaking markups late last year, the committee planned to mull 17 bills that broadly deal with community banking and could mesh with similar Senate legislation, but which also included six bills aimed at various securities law topics such as mutual funds, cybersecurity, and the SEC’s small business advocate. The committee reported 15 of the 17 bills slated for consideration to the full House (see markup scorecard).

Shift toward Senate Dodd-Frank bill? House FSC Chairman Jeb Hensarling (R-Texas) opened by reciting statistics on the committee’s work during the first session of the 115th Congress; he said that seven markups produced 76 bills reported by the committee. Moreover, according to Rep. Hensarling, the Tax Cuts and Jobs Act has already produced benefits for workers in the financial services industry, but that additional legislation is needed to reduce burdens on community banks to realize further economic and jobs growth.

Ranking Member Maxine Waters (D-Calif) noted that some of the bills in this markup are designed to mirror provisions in the Economic Growth, Regulatory Relief, and Consumer Protection Act (S. 2155), sponsored by Senate Banking Committee Chairman Mike Crapo (R-Idaho) and backed by several Senate Democrats, that would ease some Dodd-Frank Act requirements, especially for community banks. She described the Senate bill as "a wolf in sheep’s clothing" while urging Democrats to reject it. Still, Rep. Waters urged adoption of other bills in the markup that did earn bipartisan support.

With respect to the Senate bill, the House FSC considered five bills that either mirror, or are at least similar to, provisions in the Senate bill. Those provisions are:

  • Federal Savings Association Charter Flexibility Act of 2017 (H.R. 1426); Section 206 in S. 2155.
  • Portfolio Lending and Mortgage Access Act (H.R. 2226); Section 101 in S. 2155.
  • Housing Opportunities Made Easier Act (HOME) Act (H.R. 2255); Section 102 in S. 2155.
  • Community Bank Reporting Relief Act (H.R. 4725); Section 205 in S. 2155.
  • Small Bank Holding Company Relief Act of 2018 (H.R. 4771); Section 207 in S. 2155.

Stable value MMMF election. The House FSC considered two bills that would bring significant changes to how money market funds operate and, more broadly, to how investors bring suits against fund advisers for breach of fiduciary duties. The first of these bills would ease restrictions imposed on some funds regarding floating net asset value.

The Consumer Financial Choice and Capital Markets Protection Act of 2017 (H.R. 2319), sponsored by Keith Rothfus (R-Pa), would amend the Investment Company Act to permit an open-end investment company that is a money market fund to elect in its registration statement to be a stable value money market fund that calculates net asset value by the penny rounding or amortized cost valuation methods. The bill also would require money market funds to disclose their ineligibility for direct federal bailouts.

Moreover, electing funds and other types of funds would be exempt from the default liquidity fee requirements. As originally drafted, the exemption from the default liquidity fee provisions applied only to electing money market funds; however, the substitute version of the bill would extend the exemption to other types of funds that meet the requirements imposed on electing money market funds.

Representative Carolyn Maloney (D-NY) noted that she and Rep. Bill Huizenga (R-Mich), ranking member and chairman (respectively) of the House FSC’s Subcommittee on Capital Markets, Securities, and Investment, had written SEC Chairman Jay Clayton regarding the chairman’s views on the floating net asset value requirement and other matters contained in the Commission’s latest round of money market fund reforms. According to Rep. Maloney, Clayton replied that it may be too soon to consider altering current requirements. Representative Huizenga also told members he agreed with Clayton that more time is needed to judge the floating NAV. Earlier this month, Better Markets’ Dennis Kelleher, similarly praised Clayton for backing existing money market fund reforms based upon Clayton’s reply to the letter from Rep. Maloney and Rep. Huizenga.

Mutual fund fiduciary suits. Under a second bill aimed at mutual funds, the Mutual Fund Litigation Reform Act (H.R. 4738), sponsored by Rep. Tom Emmer (R-Minn), investors seeking to hold mutual fund advisers accountable for breaches of fiduciary duty would have to satisfy increased pleading and proof standards. Specifically, the bill would amend Section 36(b) of the Investment Company Act to require a security holder suing the adviser of an investment company, on behalf of the investment company, for breach of fiduciary duty, to plead such facts with particularity and to prove the breach of fiduciary duty by clear and convincing evidence.

The North American Securities Administrators Association wrote lawmakers to express opposition to creating new hurdles to suits by investors against mutual fund advisers. According to NASAA, the bill would go far beyond the Supreme Court-applied Gartenbergstandard for proving that mutual fund advisory fees are excessive (See, Jones v. Harris Associates (2010) (Justice Thomas concurred to note that the court’s opinion should not be read as an "affirmation" or "endorsement" of Gartenberg because that case could be subject to multiple understandings). NASAA noted that the proposed pleading requirement would hinder suits because investors may lack discovery tools at the early stages of litigation that could help them to unearth facts needed to meet the particularity requirement.

Representative Emmer explained that his bill utilizes a standard of proof that is included in many federal laws and that, in the context of mutual fund fees, would prevent "sue and settle" law suits, which he said overwhelmingly benefit plaintiffs’ lawyers instead of investors. But Rep. Waters countered that the Gartenberg standard already is hard to satisfy and that suits rarely reach the trial stage. In an interesting colloquy, Rep. Brad Sherman (D-Calif), who described himself as "fervently neutral" on the topic, suggested he could support the bill if it were amended to increase only the pleading requirement; Rep. Emmer said members could continue talking about narrowing the bill.

Cybersecurity and the CAT. The American Customer Information Protection Act (H.R. 4785), sponsored by Rep. Huizenga, would bar the Consolidated Audit Trail from accepting personally identifying information. However, the bill would create an exception from this general provision for large traders. This latest bill involving the CAT follows earlier legislation (H.R. 3973), sponsored by Warren Davidson (R-Ohio), which also would limit the CAT’s activities and had passed the House by voice vote. The earlier legislation was partially eclipsed by events in which the SEC’s Clayton declined a request by participants in the CAT NMS Plan to delay the November 2017 start of CAT operations.

Disaster relief recommendations. The Small Business Access to Capital After a Natural Disaster Act (H.R. 4792), sponsored by Rep. Nydia Velazquez (D-NY), amends Exchange Act Section 4 to require the SEC’s Advocate For Small Business Capital Formation to identify problems for small businesses affected by hurricanes or other natural disasters and report its findings regarding the most serious of these issues to Congress. The bill would expand the Advocate's duties beyond the existing mandate to identify unique challenges to minority- and women-owned small businesses.

Representative Velazquez explained to members that many small businesses close after natural disasters, so there is a need to study the best ways to direct capital to these companies in times of need. Chairman Hensarling described the bill as "simple and straight forward."

Asset managers. The Alleviating Stress Test Burdens to Help Investors Act (H.R. 4566), sponsored by Rep. Bruce Poliquin (R-Me), would amend Dodd-Frank Act Section 165(i) to ease stress test requirement for non-bank financial firms. But the bill would not limit existing authorities held by the Financial Stability Oversight Council (FSOC) under Dodd-Frank Act Section 120.

Representative Maloney offered an amendment, which was adopted by voice vote, to clarify the treatment of large asset managers regarding stress tests. According to Rep. Maloney, the existing Dodd-Frank Act provisions are too focused on bank-style capital requirements and, thus, overlook the unique factors that apply to large asset managers. Specifically, she said the Dodd-Frank Act directs the SEC to issue capital rules for asset managers, but that asset managers do not face significant capital risks because they are instead concerned about liquidity risk.

Representative Maloney’s amendment would allow the SEC to issue liquidity-focused rules for large asset managers while also preserving the CFTC’s similar authority to issue both capital- and liquidity-based rules for clearing houses. The amendment also would retain stress tests for firms already designated as systemically important financial institutions. Representative Poliquin supported the amendment, calling it a "reasonable compromise."

Volcker rule. The Volcker Rule has prompted multiple attempts by lawmakers to repeal or modify the rule since it became law. The Volcker Rule Regulatory Harmonization Act (H.R. 4790), sponsored by Rep. French Hill (R-AR), would amend the Bank Holding Company Act to grant the Fed sole authority for proprietary trading regulations under the Volcker Rule while making conforming amendments to remove existing references to the SEC and the CFTC. The bill also would add an exclusion for banking entities with no more than $10 billion in total consolidated assets. However, the House FSC never debated the bill and no vote was taken.

FSOC reforms. Financial Stability Oversight Council Improvement Act of 2017 (H.R. 4061), sponsored by Dennis Ross (R-Fla), amends the FSOC's ability to designate U.S. and foreign non-bank financial companies for Fed prudential supervision by adding that the Council must consider the appropriateness of imposing prudential standards versus other forms of regulation to mitigate the identified risks. The bill also would provide for annual and periodic reviews of FSOC determinations regarding non-bank financial companies. Determinations would be subject to revised notice and hearing requirements, including a requirement that, for proposed determinations, the FSOC consider the applicable regulations issued by the primary financial regulator of a non-bank financial company. Additional requirements would apply to final determinations.

Transnational crime—marijuana and banking. The Treasury Department’s Financial Crimes Enforcement Center (FinCEN) is a lead agency for the federal government’s efforts to combat transnational organized crime. Proposed legislation would explicitly bring other financial regulators into the policy development process.

Specifically, the National Strategy for Combating the Financing of Transnational Criminal Organizations Act (H.R. 4768), sponsored by Rep. David Kustoff (R-Tenn), would direct the president, working through the executive agencies and federal functional regulators, to develop a national strategy to combat the financial networks of transnational organized criminals. "Federal functional regulator" would be defined to mean the Fed, OCC, FDIC, NCUA, and the SEC.

An amendment offered by Rep. Waters would add language to deal with specific methods used by international criminals, including real estate and tangible goods such as antiquities. The amendment was adopted by voice vote. The bill’s sponsor, Rep. Kustoff, also offered an amendment, adopted by voice vote, to include additional federal agencies in the strategy making process, including FinCEN and the FBI.

Representative Ed Perlmutter (D-Colo) offered, and then withdrew, an amendment to include text to enable banks to legally conduct business with entities that sell marijuana products in states that have legalized such sales. The representative also noted that the debate over the transnational crime bill focused on illicit sources of opioids without equal focus on making it lawful for banks to finance legal marijuana operations.

Chairman Hensarling objected that such legislation must first go to the House Judiciary Committee because of the presence of marijuana on the federal controlled substances schedule; Rep. Perlmutter replied that the bill deals only with banks. According to Rep. Perlmutter, legislation in this area is needed because Attorney General Jeff Sessions rescinded the Cole memo and, thus, created new uncertainty for banks, which a recent letter by 19 state attorneys general emphasized in urging Congress to adopt clarifying legislation.

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