This post will bring to a close, for now, our survey of the requirements of new Rule 18f-4, which investment companies must comply with by August 19, 2022. This post considers whether a Chief Compliance or Risk Officer should seek to treat some or all of their funds as Limited Derivatives Users and how that choice, in turn, relates to the decision about whether to treat reverse repurchase agreements as derivatives transactions. But first, we review the compliance procedures required by Rule 18f-4 for (nearly) every fund. We also provide links to compliance checklists provided in earlier posts.
Continue Reading Rule 18f-4 Wrap-Up

As with Fund-of-Funds, the release adopting Rule 18f-4 (the “Adopting Release”) devotes a section to sub-advised funds. We again consider three types of funds:

  • VaR Funds in which a sub-adviser manages their entire portfolio (“Single Sub-Adviser Funds”);
  • VaR Funds in which one or more sub-advisers manage a portion or “sleeve” of their portfolio (“Sleeve Funds”); and
  • Sub-advised funds that seek to qualify as Limited Derivatives Users.

The Adopting Release discusses the first two circumstances but is silent on the third.
Continue Reading Compliance with Rule 18f-4 by a Sub-Advised Fund

The release adopting Rule 18f-4 (the “Adopting Release”) devotes an entire section to discussing how “a fund that invests in other registered investment companies (‘underlying funds’)” should comply with the value-at-risk (“VaR”) requirements of the rule. This post considers three circumstances in which a fund investing in underlying funds:

  1. Does not invest in any derivatives transactions (a “Non-User Fund-of-Funds”);
  2. Allows its derivatives exposure to exceed 10% of its net assets (a “VaR Fund-of-Funds”) ; and
  3. Limits its derivatives exposure to 10% of its net assets (a “Limited Derivatives User Fund-of-Funds”).

We use the term “Fund-of-Funds” for convenience, meaning to include funds that hold both direct investments and underlying funds in compliance with Rule 12d1-4 or other exemptions.
Continue Reading Compliance with Rule 18f-4 by a Fund-of-Funds

In our extensive examination of the requirements for Limited Derivatives Users under Rule 18f‑4(c)(4) we have tried to be conscientious in pointing out matters open to interpretation. While we have not been shy about arguing for interpretations that would reduce a fund’s derivatives exposure and thus ease compliance with these requirements, we acknowledge that these are just our informed opinions. Absent guidance from the SEC staff, chief compliance officers and counsel to fund directors and trustees will need to consider these matters and reach their own conclusions.

This post wraps up our examination of the Limited Derivatives User requirements with a list of these interpretive questions. While we are sure it is incomplete, at least it provides a starting point for consideration.
Continue Reading A Limited Derivatives User Punch List

This post continues our assessment of whether the Limited Derivative User requirements of Rule 18f-4(c)(4) effectively and efficiently accomplish the SEC’s aim of providing “an objective standard to identify funds that use derivatives in a limited manner.” Here we question whether the “gross notional amount” of a derivatives transaction measures the means and consequences, rather than the extent, of its use.
Continue Reading Assessing the Limited Derivatives User Requirements of Rule 18f-4—Notional Amounts

Our last series of posts on Rule 18f-4 have struggled to understand how its Limited Derivatives User requirements are supposed to work. We have done the best we could to explain the process for calculating a fund’s derivatives exposure, including determining the gross notional amount of derivatives transactions and adjustments thereto, excluding closed-out positions and currency and interest-rate derivatives entered into for hedging purposes, and applying the “10% buffer” for these hedges. In this series of posts, we shift our perspective to assessing whether these requirements effectively and efficiently accomplish the SEC’s objectives.
Continue Reading Assessing the Limited Derivatives User Requirements of Rule 18f-4—Costs

Earlier this year, the staff of the SEC’s Office of Compliance Inspections and Examinations (“OCIE”) published its annual list of examination priorities, which included firms’ preparation for the transition away from LIBOR as a widely used reference rate for various financial instruments. On June 18, OCIE followed-up with a risk alert that provides additional details about how it evaluates firms’ LIBOR transition preparedness.
Continue Reading OCIE Issues Risk Alert on LIBOR Transition Preparedness

On March 12, 2020, the U.S. Securities and Exchange Commission announced a settlement with an exempt reporting adviser and its two founders for failure to disclose several conflicts of interest and failure to take measures required by the private fund’s offering documents.

The SEC is examining exempt reporting advisers, and although not subject to all

On June 5, 2019, the U.S. Securities and Exchange Commission (“SEC”) adopted a package of rules and interpretations relating to the standards of conduct for broker-dealers and investment advisers, including a new “best interest” rule for broker-dealers. The package was adopted by a 3-1 vote, with Commissioner Robert J. Jackson Jr. as the lone dissenter. Chairman Jay Clayton, who supported the package, stated that the SEC was not adopting a uniform fiduciary rule for broker-dealers and investment advisers. Instead, Chairman Clayton explained that “Regulation Best Interest incorporates fiduciary principles, but is appropriately tailored to the broker-dealer relationship model and will preserve retail investor access and choice.” Chairman Clayton, as well as the SEC’s press release, emphasized that Regulation Best Interest cannot be satisfied by disclosure alone, but rather through compliance with each of the rule’s four substantive obligations.

The actions taken on June 5 include the following:


Continue Reading SEC Adopts Package of Reforms Aimed at Raising the Standard of Conduct for Brokers and Clarifying an Investment Adviser’s Fiduciary Duty