The Securities and Exchange Commission recently announced "that it is re-opening the public comment period for proposed amendments to its net capital, customer protection, books and records, and notification rules for broker-dealers." This proposal includes possible changes to Rule 15c3-3, which governs the use of collateral on broker reserve funds and the possible use of money funds for this purpose. (See the release, "SEC Reopens Comment Period for Proposed Amendments to Its Net Capital, Customer Protection, Books and Records, and Notification Rules for Broker-Dealers and the posting under the SEC's Proposed Rules website area.) The SEC explains, "The proposed rule amendments are designed to update the financial responsibility rules for broker-dealers and make certain technical amendments. The Commission issued the proposed amendments on March 9, 2007, and the public comment period on the proposal closed on June 18, 2007. The Commission did not act on the rule amendments it proposed in 2007. Given economic events, regulatory developments, and passage of time since then, as well as the continuing public interest in this area, the Commission believes that it would be appropriate to seek additional public comment on the proposed rule amendments. Accordingly, the Commission is reopening the public comment period for 30 days."
A number of money funds commented last time around, including Federated Investors, which has now posted a new comment, this one by Lee A. Pickard, Pickard and Djinis LLP, on behalf of Federated Investors, Inc.. (See Comments on Amendments to Financial Responsibility Rules for Broker-Dealers.) Pickard writes on the "Proposed Rulemaking Regarding Amendments to Financial Responsibility Rules for Broker-Dealers," "This letter presents comments on behalf of Federated Investors, Inc. ("Federated") on the Commission's reconsideration of the proposed amendments to the customer protection rule (Rule 15c3-3) initially proposed by the Commission in "Amendments to Financial Responsibility Rules for Broker-Dealers, Proposed Rule," 72 Fed. Reg. 12861 (Mar. 19, 2007)(the "2007 Rule Proposal")."
He says, "In the 2007 Rule Proposal, the SEC proposed, among others, to expand Rule 15c3-3(a)(6) to include money market funds that only invest in securities meeting the definition of "qualified securities" in Rule 15c3-3. As Federated stated then -- and which continues to be true today -- there is a demand in the broker-dealer industry for greater options to place undeployed customer funds. Broker-dealers, who are customers of Federated, maintain significant funds in their Special Reserve Accounts to meet their Rule 15c3-3 deposit requirements. It is estimated that aggregate requirements for deposits in Rule 15c3-3 segregated accounts at times have exceed 180 billion dollars. The proposed amendment, if adopted, will provide a much needed additional option; improve broker-dealers' operational flexibility in meeting their obligations under Rule 15c3-3; avoid the burdens of actively managing a portfolio of U.S. Treasuries; and will allow broker-dealers to obtain more competitive yields on such assets while, at the same time, not compromise the Rule 15c3-3's Congressional purpose of safeguarding customers' deposits or credit balances."
Pickard and Federated continue, "Indeed, U.S. government money market funds are closely related to U.S. Treasury securities and cash. Investing customer funds segregated in a Rule 15c3-3 account in U.S. government money market funds, U.S. Treasuries, or interest-bearing checking accounts serves the same purpose -- to protect the value of a customer's funds with little risk to the customer due to the non-speculative, liquid nature of these types of holdings. The financial markets as well as the Commission recognize money market funds as cash items. The Financial Accounting Standards Board ("FASB"), the highest authority in establishing generally accepted accounting principles for public and private companies, identifies money market funds as cash equivalents, and the Commission has acknowledged that "money market fund shares generally are equivalent to cash items. Accordingly, U.S. government money market funds should be included under the definition of "qualified securities."
They tell the Commission, "Since the 2007 Rule Proposal release, the financial industry has experienced the 2008 financial crisis, bringing into question the credit and liquidity risks attendant to a number of business practices. Here, however, given the very restrictive composition of the portfolio which would be allowed for a U.S. government money market fund (i.e., only securities issued or guaranteed by the United States Government or cash), the issue of credit worthiness and liquidity is satisfactorily addressed. The portfolio of a U.S. government money market fund would not be subject to default. Nor would a U.S. government money market fund portfolio be without ready buyers or sellers if the need arose, as the U.S. government securities market is extremely liquid. The safety record of U.S. government money market funds further supports the acceptability of this financial instrument for Rule 15c3-3 deposit requirements. There have been no defaults in the type of U.S. government money market fund proposed in the 2007 Rule Proposal. Indeed, during the most volatile period of the credit crisis (September 2, 2008 through October 28,2008), institutional U.S. government money market assets grew $403 billion."
Pickard adds, "In further support of the use of U.S. government money market funds as an appropriate investment vehicle for customer segregated funds, we note that since the 2007 Rule Proposal release and the 2008 financial crisis, the Commodity Futures Trading Commission has adopted amendments to CFTC Rules 1.25 and 30.7 decisively affirming the use of U.S. government money market mutual funds as a permitted investment for customer funds held by Futures Commission Merchants under the CFTC's customer segregation rules. In determining to permit with virtually no limits the use of U.S. government money market funds, the CFTC analyzed the safety provided by enhanced SEC Rule 2a-7 and the equivalency of a U.S. government money market fund to a self-managed U.S. Treasury portfolio, as well as the operational and administrative efficiencies of U.S. government money market mutual funds. The Commission's fellow agency concluded that the permissible use of U.S. government money market funds for customer segregated funds is consistent with the prudential standards of preserving principal and maintain liquidity."
He writes, "The CFTC's findings are particularly relevant here as the SEC and the CFTC each have well-established programs for the segregation of customer funds held by a broker-dealer or FCM, and both permit the broker-dealer or FCM to place customer funds into specific investment options. These regimes are fundamentally the same. SEC Rule 15c3-3 requires broker-dealers to account for all customer funds held by the broker-dealer and permits customer funds to be invested in securities which enable their prompt return in the event of insolvency. Similarly, CFTC Regulation 1.20 requires FCMs to treat customer funds separately, permitting customer funds to be invested in securities which preserve principal and maintain liquidity. Attach hereto is a letter to Mr. Robert W. Cook, Director of the Division of Trading and Markets, of January 5, 2012 which highlights the CFTC's approval process for the use of U.S. government money market funds for customer segregated funds and recommends that the Commission similarly permit such use."
Finally, Pickard and Federated conclude, "U.S. government money market funds did not exist in 1972 when the Commission adopted Rule 15c3-3 and permitted broker-dealers to deposit only cash or Treasury securities in the Reserve Account. The addition of U.S. government money market funds provides an appropriate alternative for the investment of Rule 15c3-3 customer funds and would facilitate the placement of this large pool of customer cash among a greater number of financial institutions. Federated strongly endorses the Commission's 2007 Rule Proposal to amend Rule 15c3-3(a)(6) to include U.S. government money market funds."
