structured investments

This post completes our exploration of the definition of “derivatives transactions” in Rule 18f-4, which is relevant to business development companies, closed-end funds and open-end funds other than a money market fund (“Funds”). Our object is to generate a fairly comprehensive list of what is, is not, and may be a “derivatives transaction” by using our touchstone of a “future payment obligation” in combination with the literal definition in the rule and points made in earlier posts.

In this post, we continue our exploration of the definition of “derivatives transaction” in new Rule 18f-4, which is relevant to business development companies, closed-end funds and open-end funds other than a money market fund (“Funds”). Our last post discussed examples of derivatives that fall outside of the definition. This post considers transactions that may not pose the risks addressed by Rule 18f-4 but which are nevertheless subject to the rule. Subsequent posts will explain why this overbreadth is not as bad as it might seem.

In this, the twelfth installment of our review of the compliance requirements of new Rule 18f‑4, we leave the peripheral transactions addressed in the rule (i.e., delayed-delivery transactions, reverse repurchase agreements, and unfunded commitment agreements) and plunge into the core of the rule: “derivatives transactions” regulated by paragraph (c). To prepare for this, we need to understand some core concepts, including “derivatives transactions,” “derivatives risks” and “value-at-risk testing.”

We begin by seeking a bright line for separating investments not subject to Rule 18f-4 from those that may be. We find that whether a Fund has a future payment (or delivery) obligation is what matters the most when determining whether a particular transaction will be regulated as a derivatives transaction under Rule 18f-4.