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[Federal Register: April 25, 1996 (Volume 61, Number 81)]

[Proposed Rules]

[Page 18469-18477]

From the Federal Register Online via GPO Access [wais.access.gpo.gov]


 

[[Page 18469]]


 

_______________________________________________________________________


 

Part II


 

Department of the Treasury


 

Office of the Comptroller of the Currency


 

12 CFR Part 13


 

Federal Reserve System


 

12 CFR Parts 208 and 211


 

Federal Deposit Insurance Corporation


 

12 CFR Part 368


 

_______________________________________________________________________


 

Government Securities Sales Practices; Proposed Rule


 

[[Page 18470]]



 

DEPARTMENT OF THE TREASURY


 

Office of the Comptroller of the Currency


 

12 CFR Part 13


 

[Docket No. 96-09]

RIN 1557-AB52


 

FEDERAL RESERVE SYSTEM


 

12 CFR Parts 208 and 211


 

[Regulations H and K, Docket No. R-0921]


 

FEDERAL DEPOSIT INSURANCE CORPORATION


 

12 CFR Part 368


 

RIN 3064-AB66


 

Government Securities Sales Practices


 

AGENCIES: Office of the Comptroller of the Currency; Board of Governors

of the Federal Reserve System; Federal Deposit Insurance Corporation.


 

ACTION: Joint notice of proposed rulemaking.


 

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SUMMARY: The Comptroller of the Currency (OCC), Board of Governors of

the Federal Reserve System (Board), and the Federal Deposit Insurance

Corporation (FDIC)(collectively, Federal banking agencies or agencies)

are requesting comment on a proposed rule regarding the

responsibilities of banks that are government securities brokers or

dealers with respect to sales practices concerning government

securities. The proposed rule would establish standards concerning the

recommendations to customers and the conduct of business by a bank that

is a government securities broker or dealer. The agencies also propose

to adopt an interpretation concerning recommendations to institutional

customers with respect to government securities transactions.


 

DATES: Comments must be received by June 24, 1996.


 

ADDRESSES: Comments should be directed to:

OCC: Communications Division, Office of the Comptroller of the

Currency, 250 E Street, SW., Washington, DC 20219, Attention: Docket

No. 96-09; FAX number 202/874-5274 or internet address

regs.comments@occ.treasury.gov. Comments may be inspected and

photocopied at the same location.

Board: William W. Wiles, Secretary, Board of Governors of the

Federal Reserve System, 20th Street and Constitution Avenue, NW.,

Washington, DC 20551, Attention: Docket No. R-0921, or delivered to

room B-2222, Eccles Building, between 8:45 a.m. and 5:15 p.m. Comments

may be inspected in Room MP-500 between 9:00 a.m. and 5:00 p.m.

weekdays, except as provided in Sec. 261.8 of the Board of Governor's

rules regarding availability of information, 12 CFR 261.8.

FDIC: Jerry L. Langley, Executive Secretary, Attention: Room F-402,

Federal Deposit Insurance Corporation, 550 17th Street NW., Washington,

DC 20429. Comments may be delivered to Room F-400, 1776 F Street, NW.,

Washington, DC 20429, on business days between 8:30 a.m. and 5 p.m. or

sent by facsimile transmission to FAX number 202/898-3838 or via

Internet to: comments@fdic.gov. Comments will be available for

inspection and photocopying in room 7118, 550 17th Street, NW.,

Washington, DC 20429, 8:30 a.m. and 5:00 p.m. on business days.


 

FOR FURTHER INFORMATION CONTACT: OCC: Ellen Broadman, Director, or

Elizabeth Malone, Senior Attorney, Securities & Corporate Practices

Division (202/874-5210).

Board: Oliver Ireland, Associate General Counsel (202/452-3625), or

Lawranne Stewart, Senior Attorney (202/452-3513), Legal Division. For

the hearing impaired only, Telecommunication Device for the Deaf (TDD),

Earnestine Hill or Dorothea Thompson (202/452-3544).

FDIC: William A. Stark, Assistant Director (202/898-6972), Miguel

Browne, Deputy Assistant Director (202/898-6789), Dennis Olson, Senior

Financial Analyst (202/898-7212), Division of Supervision; Jeffrey M.

Kopchik, Counsel, (202/898-3872), Legal Division, Federal Deposit

Insurance Corporation, 550 17th Street, N.W. Washington, D.C. 20429.


 

SUPPLEMENTARY INFORMATION: The Government Securities Act Amendments of

1993 (Amendments) included a provision permitting the Federal banking

agencies to adopt sales practice rules for sales of government

securities by banks that have filed, or are required to file, notice as

government securities brokers or dealers. The Amendments also

authorized the National Association of Securities Dealers (NASD) to

adopt sales practice rules with respect to sales of government

securities by government securities broker/dealers that are members of

the NASD. See Pub.L. 103-202, section 106 (15 U.S.C. 78o-3 and 78o-5).

The NASD, acting under its new authority, has approved a proposal

to extend its Rules of Fair Practice, where appropriate, to activities

relating to government securities, and has forwarded the proposal to

the Securities and Exchange Commission (SEC) for approval.1 The

NASD proposal includes the extension to government securities

transactions of section 1 (NASD Business Conduct Rule) and section 2

(NASD Suitability Rule) of Article III of the NASD Rules of Fair

Practice (NASD Rules). At the same time, the NASD approved an

interpretation concerning suitability obligations to institutional

customers under section 2 (NASD Suitability Interpretation).2 This

interpretation addresses the responsibilities of brokers and dealers

under the NASD Suitability Rule with respect to recommendations to

institutional customers and also is subject to SEC approval.

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\1\ Amendments to the NASD proposal have been published for

comment by the SEC. 61 FR 11655 (March 21, 1996). The comment period

on this notice closes on April 22, 1996. The full NASD proposal was

published for comment by the SEC on October 24, 1995. 60 FR 54530.

\2\ Id. The NASD published its proposed interpretation for

comment on two occasions prior to its adoption. See NASD Notice to

Members 95-21 (April 1995) and NASD Notice to Members 94-62 (August

1994).

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The OCC, Board, and the FDIC are requesting comment on the adoption

of rules substantially similar to the NASD Business Conduct Rule and

the NASD Suitability Rule and on the adoption of an interpretation

substantially similar to the NASD Suitability Interpretation.3 The

agencies request comment on the application of such requirements to the

government securities transactions of banks that are required to file

notice under the provisions of the Government Securities Act (15 U.S.C.

78o-5(a)) and applicable Treasury rules (17 CFR 400.1(d) and 401).

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\3\ Should further amendments be made to the NASD proposal with

respect to the NASD Business Conduct or Suitability Rules or the

NASD Suitability Interpretation prior to final approval by the SEC,

the agencies will consider incorporating such amendments into the

final rule. Commenters therefore should consider any further

amendments to the NASD proposal in commenting on the agencies'

proposed rules.

Additionally, at the present time the agencies are not

considering the adoption of rules similar to other NASD Rules, as

the agencies believe that the standard established by the NASD

Business Conduct Rule is sufficiently broad that practices that

arise in connection with the government securities activities of

banks may be dealt with adequately under such a rule.

---------------------------------------------------------------------------


 

The NASD Rules


 

The NASD Business Conduct Rule provides that ``[a] member, in the

conduct of his business, shall observe high standards of commercial

honor and just and equitable principles of trade.'' 4


 

[[Page 18471]]


 

The NASD Suitability Rule provides that, in recommending a transaction

to a customer, a member must have ``reasonable grounds for believing

that the recommendation is suitable for such customer upon the basis of

the facts, if any, disclosed by such customer as to his other security

holdings and as to his financial situation and needs.'' 5 The rule

also provides that, for customers that are not institutional customers,

the member must make reasonable efforts to obtain information

concerning the customer's financial and tax status and investment

objectives before executing a transaction recommended to the

customer.6 The NASD Suitability Rule applies only in situations

where a member makes a ``recommendation'' to its customer.

---------------------------------------------------------------------------


 

\4\ NASD Rules of Fair Practice (NASD Rules), Article III,

section 1. The agencies do not propose to adopt any of the NASD's

specific interpretations of this rule.

\5\ NASD Rules, Article III, section 2(a).

\6\ NASD Rules, Art. III, section 2(b). For the purposes of

section 2, an institutional customer includes a bank, savings and

loan association, insurance company, registered investment company

or investment advisor, or any other entity with total assets of at

least $50 million. NASD Rules, Art. III, section 21. As part of the

revisions to the NASD Rules, this definition will be incorporated in

section 2.

---------------------------------------------------------------------------


 

The NASD Suitability Interpretation


 

The NASD Suitability Interpretation identifies factors that may be

relevant when evaluating compliance with the NASD Suitability Rule with

respect to an institutional customer other than a natural person. The

interpretation sets forth the two most important considerations in

determining the scope of a government securities broker's or dealer's

responsibilities under the NASD Suitability Rule with respect to an

institutional customer. Those two considerations are (1) the customer's

capability to evaluate investment risk independently and (2) the extent

to which the customer exercises independent judgement in evaluating a

member's recommendation. The NASD Suitability Interpretation provides

that a government securities broker or dealer may be considered to have

met the requirements of the NASD Suitability Rule with respect to a

particular institutional customer where the government securities

broker or dealer has reasonable grounds to determine that the

institutional customer is capable of independently evaluating

investment risk and is exercising independent judgement in evaluating a

recommendation.

The NASD Suitability Interpretation sets forth certain factors for

brokers or dealers to apply in evaluating an institutional customer's

capacity to evaluate investment risk independently. Factors considered

relevant to this determination include the customer's use of

consultants or advisors, the experience of the customer generally and

with respect to the specific instrument, the customer's ability to

understand the investment and to evaluate independently the effect of

market developments on the investment, and the complexity of the

security involved. The interpretation stresses that an institutional

customer's ability to evaluate investment risk independently may vary

depending on the particular type of investment at issue. An

institutional customer with general ability to evaluate investment risk

may be less able to do so when dealing with new types of instruments or

instruments with which the customer has little or no experience.

The NASD Suitability Interpretation further provides that a

determination that an institutional customer is making an independent

investment decision depends on factors such as the understanding

between the member and its customer as to the nature of their

relationship, the presence or absence of a pattern of acceptance of the

member's recommendations, the customer's use of ideas, suggestions, and

information obtained from other market professionals, and the extent to

which the customer has provided the member with information concerning

its portfolio or investment objectives.

While the NASD Suitability Interpretation provides that these

factors would be considered relevant in evaluating whether a government

securities broker or dealer has fulfilled the requirements of the NASD

Suitability Rule with respect to any institutional customer that is not

a natural person, it further provides that the factors cited would be

considered most relevant for an institutional customer with at least

$10 million of assets in its securities portfolio or under management.


 

Rules Applicable to Banks


 

The agencies are requesting comment on whether they should adopt

rules substantially similar to the NASD Business Conduct Rule and

Suitability Rule and the NASD Suitability Interpretation for banks that

are government securities brokers or dealers in order to provide

standards with respect to government securities sales practices by such

banks. Compliance with such rules by a bank would be enforced

principally through the examination process on the basis of the

examiner's assessment of an institution's policies and procedures and

its adherence to those policies and procedures.7 The NASD Rules,

on the other hand, are enforced through complaints filed with, and

proceedings before, an NASD District Business Conduct Committee or

other NASD committee.8 The differences in the process by which

such rules would be applied to banks may raise questions as to whether

the rules should be modified to reflect the bank supervisory

structure.9

---------------------------------------------------------------------------


 

\7\ The legislative history of the Government Securities Act

Amendments of 1993 provides no indication that Congress intended the

amendments included in section 106 of that act to create a private

right of action, and the agencies do not intend to create a private

right of action by a customer against a bank based on a violation of

the agencies' rule or interpretation. See Touche Ross & Co. v.

Redington, 442 U.S. 560 (1979).

\8\ See generally NASD Code of Procedure.

\9\ In this regard, the agencies note that the rules of the

Municipal Securities Rulemaking Board (MSRB) are enforced through

the bank examination process with respect to banks that are brokers

or dealers in municipal securities. The MSRB rules include

provisions that are similar to the NASD Business Conduct Rule and

Suitability Rule. See MSRB Rules G-17 and G-19.

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Request for Comments


 

The agencies request comment generally as to the need for and

desirability of the proposed rule and interpretation, and on the

following specific issues:

(1) Should the agencies adopt rules that are substantially similar

to the NASD Business Conduct Rule and the NASD Suitability Rule, or

would other rules be more appropriate? Under the NASD Suitability Rule,

a member must make recommendations based on any facts disclosed by the

customer as to the customer's other securities holdings, financial

situation and needs, but the member is required to request information

concerning financial and tax status and investment objectives only from

non-institutional customers. Should a bank, like an NASD member, be

required to request such information of non-institutional customers

before making a recommendation, or should a bank be able to base

recommendations on the customer's investment objectives alone, without

requesting or considering information concerning the customer's other

holdings and financial situation when such information has not been

volunteered? In the alternative, should the rule for banks be uniform

for both institutional and non-institutional customers?

(2) In considering whether an alternative to the NASD Rules would

be appropriate for banks operating as government securities brokers and

dealers, are there benefits to consistency among government securities

brokers and dealers that the agencies should


 

[[Page 18472]]


 

consider? Given the differences in enforcement mechanisms, will equal

treatment of customers be more likely to be achieved by a rule that is

consistent with the NASD rule or by an alternative rule?

(3) Does a rule substantially similar to the NASD Business Conduct

Rule provide a sufficiently clear standard for the conduct of sales of

government securities by a bank that is a government securities broker

or dealer, or is greater specificity preferable?

(4) The proposed rule, like the NASD Suitability Rule, does not

define the term ``recommendation.'' The agencies request comment as to

whether, given the differences in the nature of government securities

in comparison to equity and private debt securities, further guidance

is needed by banks on the activities that may be considered to

constitute a recommendation in connection with discussions concerning

government securities. In particular, is it sufficiently clear that the

provision of market observations, forecasts about the general direction

of interest rates, other descriptive or objective statements concerning

government securities or the government securities markets, or price

quotations would not be considered to constitute making a

``recommendation'' concerning a government security, absent other

conduct?

(5) Although the NASD has proposed to extend its Rules of Fair

Practice generally to transactions in government securities, the

agencies currently are considering only the adoption of rules similar

to the NASD Business Conduct Rule and Suitability Rule and the NASD

Suitability Interpretation for banks acting as government securities

brokers or dealers. Should the agencies consider adopting rules similar

to other sections of the Rules of Fair Practice or interpretations

similar to other NASD interpretations? 10 For example, should the

agencies consider adopting a rule or specific guidelines concerning

banks' supervision of government securities activities? 11

Explicit adoption of other sections of the NASD Rules would provide

more certainty on how the agencies will administer the Business Conduct

and Suitability Rules, but would limit the agencies' ability to apply

those rules flexibly to take into account potentially distinct aspects

of banks acting as government securities brokers or dealers.

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\10\ The agencies note that the NASD does not view all of its

Fair Practice rules and interpretations as applicable to government

securities transactions, and that the manner in which Section 4 is

to apply to such transactions remains under consideration. The

notice published by the SEC includes an amended summary list of the

NASD rules and interpretations and their applicability to

transactions in government securities. 61 FR 11655 (March 21, 1996).

\11\ Article III, section 27, of the NASD Rules addresses

supervision by NASD members, and requires the establishment and

maintenance of a system to supervise the activities of personnel

that is reasonably designed to achieve compliance with applicable

law and rules. In addition to requirements for the establishment of

written procedures, internal inspections, designation of persons

with supervisory responsibility, and investigation of qualifications

of personnel, the rule includes provisions that facilitate oversight

by the NASD.

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(6) Should a bank and its customer be permitted to establish the

standards applicable to the relationship between the customer and the

bank by agreement, effectively contracting out of the rule? The NASD

Suitability Interpretation provides that written and oral agreements

between the broker or dealer and an institutional customer will be

considered in determining whether the broker or dealer has fulfilled

its obligations under the NASD Suitability Rule. Is this sufficient, or

should the agencies include a more specific provision for bank

contracts? If so, should such a provision be limited to negotiated

contracts, contracts with institutional customers, or some other class

of contracts? For example, an exclusion could be provided for

negotiated contracts, with the presumption that a contract between a

bank and an institutional customer, or some class of institutional

customers, would be considered to be negotiated.

(7) Under the proposed rule, a customer that is not a bank, savings

and loan association, registered investment company, or registered

investment advisor, or that does not have total assets of at least $50

million is considered to be a ``non-institutional customer.'' Is $50

million in total assets an appropriate measure for determining which

entities should be considered to be institutional customers for the

purposes of the rule? Are other measures, such as the amount of

``assets under management'' more appropriate? For example, the NASD

Suitability Interpretation and the agencies' proposed interpretation

states that, while the interpretations are applicable to any customer

that is not a natural person, it is particularly relevant to customers

that have at least $10 million in securities in its portfolio or under

management. If such a measure is more appropriate, what amount of

assets in a portfolio or under management would be appropriate in

determining which entities should be treated as institutional customers

for the purposes of the rule? Should the agencies adopt a measure that

is uniform for both the rule and the interpretation?

A draft rule and interpretation based on the NASD Business Conduct

Rule and Suitability Rule and NASD Suitability Interpretation, but

modified in certain technical respects as needed to apply to banks,

follow.


 

Regulatory Flexibility Act


 

Under section 605(b) of the Regulatory Flexibility Act (RFA) (5

U.S.C. 605(b)), the initial regulatory flexibility analysis otherwise

required under section 603 of the RFA (5 U.S.C. 603) is not required if

the head of the agency certifies that the rule will not have a

significant economic impact on a substantial number of small entities

and the agency publishes such certification and a succinct statement

explaining the reasons for such certification in the Federal Register

along with its general notice of proposed rulemaking.

Pursuant to section 605(b) of the RFA, the OCC, Board, and the FDIC

each individually certifies that this proposed rule will not have a

significant economic impact on a substantial number of small entities.

As an initial matter, the proposed rule would apply only to those banks

that have given notice or are required to give notice that they are

government securities brokers or dealers under section 15C of the

Securities Exchange Act of 1934 (15 U.S.C. 780-5) and applicable

Treasury rules under section 15C (17 CFR 400.1(d) and 401), including

approximately 300 domestic banks and branches of foreign banks. Most

small banking institutions are not required to give notice under

section 15C, as Treasury rules provide exemptions for financial

institutions that engage in fewer than 500 government securities

brokerage transactions per year and for financial institutions with

government securities dealing activities limited to sales and purchases

in a fiduciary capacity. See 17 CFR 401.3 and 401.4. Other exemptions

from the notice requirements also are available. See 17 CFR Part 401.

Additionally, the agencies note that many banks conduct a

significant portion of their securities activities through subsidiaries

or affiliates that are registered broker-dealers. Securities activities

conducted in registered broker-dealers that are NASD members are

directly subject to the NASD Rules and would not be subject to the

agencies' proposed rule.


 

Paperwork Reduction Act


 

In accordance with section 3506 of the Paperwork Reduction Act of

1995


 

[[Page 18473]]


 

(44 U.S.C. 3506; see also 5 CFR 1320 Appendix A.1), the agencies have

reviewed the proposed rule and have determined that no collections of

information pursuant to the Paperwork Reduction Act are contained in

the proposed rule.


 

OCC Executive Order 12866 Statement


 

The OCC has determined that this joint proposed rule is not a

significant regulatory action as defined in Executive Order 12866.


 

OCC Unfunded Mandates Act of 1995 Statement


 

Section 202 of the Unfunded Mandates Reform Act of 1995, Pub. L.

104-4 (Unfunded Mandates Act), requires that an agency prepare a

budgetary impact statement before promulgating a rule that includes a

Federal mandate that may result in the expenditure by State, local, and

tribal governments, in the aggregate, or by the private sector, of $100

million or more in any one year. If a budgetary impact statement is

required, section 205 of the Unfunded Mandates Act also requires an

agency to identify and consider a reasonable number of regulatory

alternatives before promulgating a rule. As discussed in the preamble,

the joint proposed rule sets forth sales practice responsibilities of

banks that are government securities brokers or dealers. The OCC has

therefore determined that the rule will not result in expenditures by

State, local, or tribal governments or by the private sector of more

than $100 million. Accordingly, the OCC has not prepared a budgetary

impact statement or addressed specifically the regulatory alternatives

considered.


 

List of Subjects


 

12 CFR Part 13


 

Government securities, National banks.


 

12 CFR Part 208


 

Accounting, Agriculture, Banks, banking, Confidential business

information, Crime, Currency, Federal Reserve System, Flood insurance,

Mortgages, Reporting and recordkeeping requirements, Securities.


 

12 CFR Part 211


 

Exports, Federal Reserve System, Foreign Banking, Holding

companies, Investments, Reporting and recordkeeping requirements.


 

12 CFR Part 368


 

Banks, banking, Government securities.


 

Office of the Comptroller of the Currency


 

12 CFR CHAPTER I


 

Authority and Issuance


 

For the reasons set out in the preamble, a new part 13 of chapter I

of title 12 of the Code of Federal Regulations is proposed to be added

to read as follows:


 

PART 13--GOVERNMENT SECURITIES SALES PRACTICES


 

Sec.

13.1 Scope.

13.2 Definitions.

13.3 Business conduct.

13.4 Recommendations to customers.

13.5 Customer information.


 

Interpretations


 

13.100 Obligations concerning institutional customers.


 

Authority: 12 U.S.C. 1 et seq., and 93a; 15 U.S.C. 78o-5.



 

Sec. 13.1 Scope.


 

This part applies to national banks that have filed notice as, or

are required to file notice as, government securities brokers or

dealers pursuant to section 15C of the Securities Exchange Act (15

U.S.C. 78o-5) and Department of Treasury rules under section 15C (17

CFR 401.1(d) and 401).



 

Sec. 13.2 Definitions.


 

(a) Bank that is a government securities broker or dealer means a

national bank that has filed notice, or is required to file notice, as

a government securities broker or dealer pursuant to section 15C of the

Securities Exchange Act (15 U.S.C. 78o-5) and Department of Treasury

rules under section 15C (17 CFR 401.1(d) and 401).

(b) Customer does not include a broker or dealer or a government

securities broker or dealer.

(c) Non-institutional customer means any customer other than:

(1) A bank, savings association, insurance company, or registered

investment company;

(2) An investment advisor registered under section 203 of the

Investment Advisors Act of 1940 (15 U.S.C. 80b-3); or

(3) Any entity (whether a natural person, corporation, partnership,

trust, or otherwise) with total assets of at least $50 million.



 

Sec. 13.3 Business conduct.


 

A bank that is a government securities broker or dealer shall

observe high standards of commercial honor and just and equitable

principles of trade in the conduct of its business as a government

securities broker or dealer.



 

Sec. 13.4 Recommendations to customers.


 

In recommending to a customer the purchase, sale or exchange of a

government security, a bank that is a government securities broker or

dealer shall have reasonable grounds for believing that the

recommendation is suitable for the customer upon the basis of the

facts, if any, disclosed by the customer as to the customer's other

security holdings and as to the customer's financial situation and

needs.



 

Sec. 13.5 Customer information.


 

Prior to the execution of a transaction recommended to a non-

institutional customer, a bank that is a government securities broker

or dealer shall make reasonable efforts to obtain information

concerning:

(a) The customer's financial status;

(b) The customer's tax status;

(c) The customer's investment objectives; and

(d) Such other information used or considered to be reasonable by

the bank in making recommendations to the customer.

Interpretations



 

Sec. 13.100 Obligations concerning institutional customers.


 

(a) Under Sec. 13.4, a bank that is a government securities broker

or dealer must have reasonable grounds for believing that a

recommendation to a customer concerning a government security is

suitable for the customer, based on any facts disclosed by the customer

concerning the customer's other security holdings and financial

situation and needs. The interpretation in this section identifies

factors that may be relevant when considering the bank's compliance

with Sec. 13.4 with respect to an institutional customer. These factors

are not intended to be requirements or the only factors to be

considered, but are offered merely as guidance in determining the scope

of a bank's obligations under Sec. 13.4.

(b) The two most important considerations in determining the scope

of a bank's obligation under Sec. 13.4 in making recommendations to an

institutional customer are the customer's capability to evaluate

investment risk independently and the extent to which the customer is

exercising independent judgement in evaluating a bank's recommendation.

A bank must determine, based on the information available to it, the

customer's capability to evaluate investment risk. In some cases, the

bank may conclude that the customer is not capable of making

independent investment decisions in general. In


 

[[Page 18474]]


 

other cases, the institutional customer may have general capability,

but may not be able to understand a particular type of instrument or

its risk. This is more likely to arise with relatively new types of

instruments, or those with significantly different risk or volatility

characteristics than other investments generally made by the customer.

If a customer is either generally not capable of evaluating investment

risk or lacks sufficient capability to evaluate the particular product,

the scope of a bank's obligation under Sec. 13.4 would not be

diminished by the fact that the bank was dealing with an institutional

customer. On the other hand, the fact that a customer initially needed

help understanding a potential investment need not necessarily imply

that the customer did not ultimately develop an understanding and make

an independent investment decision.

(c) A bank may conclude that a customer is exercising independent

judgement if the customer's investment decision will be based on its

own independent assessment of the opportunities and risks presented by

a potential investment, market factors and other investment

considerations. Where the bank has reasonable grounds for concluding

that the institutional customer is making independent investment

decisions and is capable of independently evaluating investment risk,

then a bank's obligations under Sec. 13.4 for a particular customer are

fulfilled. Where a customer has delegated decision-making authority to

an agent, such as an investment advisor or a bank trust department, the

interpretation in this section shall be applied to the agent.

(d) A determination of capability to evaluate investment risk

independently will depend on an examination of the customer's

capability to make its own investment decisions, including the

resources available to the customer to make informed decisions.

Relevant considerations could include:

(1) The use of one or more consultants, investment advisers, or

bank trust departments;

(2) The general level of experience of the institutional customer

in financial markets and specific experience with the type of

instruments under consideration;

(3) The customer's ability to understand the economic features of

the security involved;

(4) The customer's ability to independently evaluate how market

developments would affect the security; and

(5) The complexity of the security or securities involved.

(e) A determination that a customer is making independent

investment decisions will depend on the nature of the relationship that

exists between the bank and the customer. Relevant considerations could

include:

(1) Any written or oral understanding that exists between the bank

and the customer regarding the nature of the relationship between the

bank and the customer and the services to be rendered by the bank;

(2) The presence or absence of a pattern of acceptance of the

bank's recommendations;

(3) The use by the customer of ideas, suggestions, market views and

information obtained from other government securities brokers or

dealers or market professionals, particularly those relating to the

same type of securities; and

(4) The extent to which the bank has received from the customer

current comprehensive portfolio information in connection with

discussing recommended transactions or has not been provided important

information regarding its portfolio or investment objectives.

(f) These factors are guidelines that will be utilized to determine

whether a bank is in compliance with Sec. 13.4 with respect to a

specific institutional customer's transaction. The inclusion or absence

of any of these factors is not dispositive of the determination of

suitability. Such a determination can only be made on a case-by-case

basis taking into consideration all the facts and circumstances of a

particular bank/customer relationship, assessed in the context of a

particular transaction.

(g) For purposes of the interpretation in this section, an

institutional customer is any entity other than a natural person. In

determining the applicability of the interpretation in this section to

an institutional customer, the OCC will consider the dollar value of

the securities that the institutional customer has in its portfolio

and/or under management. While the interpretation in this section is

potentially applicable to any institutional customer, the guidance

contained in this section is more appropriately applied to an

institutional customer with at least $10 million invested in securities

in the aggregate in its portfolio and/or under management.


 

Dated: April 4, 1996.

Eugene A. Ludwig,

Comptroller of the Currency.


 

Federal Reserve System


 

Authority and Issuance


 

For the reasons set forth in the joint preamble, parts 208 and 211

of chapter II of title 12 of the Code of Federal Regulations are

proposed to be amended as follows:


 

12 CFR CHAPTER II


 

PART 208--MEMBERSHIP OF STATE BANKING INSTITUTIONS IN THE FEDERAL

RESERVE SYSTEM (REGULATION H)


 

1. The authority citation for Part 208 is revised to read as

follows:


 

Authority: 12 U.S.C. 36, 248(a), 248(c), 321-338a, 371d, 461,

481-486, 601, 611, 1814, 1823(j), 1828(o), 1831o, 1831p-1, 3105,

3310, 3331-3351 and 3906-3909; 15 U.S.C. 78b, 78l(b), 781(g),

781(i), 78o-4(c)(5), 78o-5, 78q, 78q-1, and 78w: 31 U.S.C. 5318; 42

U.S.C. 4012a, 4104a, 4104b, 4106, and 4128.


 

2. A new Sec. 208.25 is added to subpart A to read as follows:



 

Sec. 208.25 Government securities sales practices.


 

(a) Scope. This subpart is applicable to state member banks that

have filed notice as, or are required to file notice as, government

securities brokers or dealers pursuant to section 15C of the Securities

Exchange Act (15 U.S.C. 78o-5) and Department of Treasury rules under

section 15C (17 CFR 401.1(d) and 401).

(b) Definitions.--(1) Bank that is a government securities broker

or dealer means a state member bank that has filed notice, or is

required to file notice, as a government securities broker or dealer

pursuant to section 15C of the Securities Exchange Act (15 USC

Sec. 78o-5) and Department of Treasury rules under section 15C (17 CFR

401.1(d) and 401).

(2) Customer does not include a broker or dealer or a government

securities broker or dealer.

(3) Non-institutional customer means any customer other than:

(i) A bank, savings association, insurance company, or registered

investment company;

(ii) An investment advisor registered under section 203 of the

Investment Advisors Act of 1940 (15 U.S.C. 80b-3); or

(iii) Any entity (whether a natural person, corporation,

partnership, trust, or otherwise) with total assets of at least $50

million.

(c) Business conduct. A bank that is a government securities broker

or dealer


 

[[Page 18475]]


 

shall observe high standards of commercial honor and just and equitable

principles of trade in the conduct of its business as a government

securities broker or dealer.

(d) Recommendations to customers. In recommending to a customer the

purchase, sale or exchange of a government security, a bank that is a

government securities broker or dealer shall have reasonable grounds

for believing that the recommendation is suitable for the customer upon

the basis of the facts, if any, disclosed by the customer as to the

customer's other security holdings and as to the customer's financial

situation and needs.

(e) Customer information. Prior to the execution of a transaction

recommended to a non-institutional customer, a bank that is a

government securities broker or dealer shall make reasonable efforts to

obtain information concerning:

(1) The customer's financial status;

(2) The customer's tax status;

(3) The customer's investment objectives; and

(4) Such other information used or considered to be reasonable by

the bank in making recommendations to the customer.

3. A new Sec. 208.129 is added to Subpart B to read as follows:



 

Sec. 208.129 Obligations concerning institutional customers.


 

(a) Under Sec. 208.25(d), a bank that is a government securities

broker or dealer must have reasonable grounds for believing that a

recommendation to a customer concerning a government security is

suitable for the customer, based on any facts disclosed by the customer

concerning the customer's other security holdings and financial

situation and needs. The interpretation in this section identifies

factors that may be relevant when considering the bank's compliance

with Sec. 208.25(d) with respect to an institutional customer. These

factors are not intended to be requirements or the only factors to be

considered, but are offered merely as guidance in determining the scope

of a bank's obligations under Sec. 208.25(d).

(b) The two most important considerations in determining the scope

of a bank's obligation under Sec. 208.25(d) in making recommendations

to an institutional customer are the customer's capability to evaluate

investment risk independently and the extent to which the customer is

exercising independent judgement in evaluating a bank's recommendation.

A bank must determine, based on the information available to it, the

customer's capability to evaluate investment risk. In some cases, the

bank may conclude that the customer is not capable of making

independent investment decisions in general. In other cases, the

institutional customer may have general capability, but may not be able

to understand a particular type of instrument or its risk. This is more

likely to arise with relatively new types of instruments, or those with

significantly different risk or volatility characteristics than other

investments generally made by the customer. If a customer is either

generally not capable of evaluating investment risk or lacks sufficient

capability to evaluate the particular product, the scope of a bank's

obligation under Sec. 208.25(d) would not be diminished by the fact

that the bank was dealing with an institutional customer. On the other

hand, the fact that a customer initially needed help understanding a

potential investment need not necessarily imply that the customer did

not ultimately develop an understanding and make an independent

investment decision.

(c) A bank may conclude that a customer is exercising independent

judgement if the customer's investment decision will be based on its

own independent assessment of the opportunities and risks presented by

a potential investment, market factors and other investment

considerations. Where the bank has reasonable grounds for concluding

that the institutional customer is making independent investment

decisions and is capable of independently evaluating investment risk,

then a bank's obligations under Sec. 208.25(d) for a particular

customer are fulfilled. Where a customer has delegated decision-making

authority to an agent, such as an investment advisor or a bank trust

department, this interpretation shall be applied to the agent.

(d) A determination of capability to evaluate investment risk

independently will depend on an examination of the customer's

capability to make its own investment decisions, including the

resources available to the customer to make informed decisions.

Relevant considerations could include:

(1) The use of one or more consultants, investment advisers or bank

trust departments;

(2) The general level of experience of the institutional customer

in financial markets and specific experience with the type of

instruments under consideration;

(3) The customer's ability to understand the economic features of

the security involved;

(4) The customer's ability to independently evaluate how market

developments would affect the security; and

(5) The complexity of the security or securities involved.

(e) A determination that a customer is making independent

investment decisions will depend on the nature of the relationship that

exists between the bank and the customer. Relevant considerations could

include:

(1) Any written or oral understanding that exists between the bank

and the customer regarding the nature of the relationship between the

bank and the customer and the services to be rendered by the bank;

(2) The presence or absence of a pattern of acceptance of the

bank's recommendations;

(3) The use by the customer of ideas, suggestions, market views and

information obtained from other government securities brokers or

dealers or market professionals, particularly those relating to the

same type of securities; and

(4) The extent to which the bank has received from the customer

current comprehensive portfolio information in connection with

discussing recommended transactions or has not been provided important

information regarding its portfolio or investment objectives.

(f) These factors are guidelines that will be utilized to determine

whether a bank is in compliance with Sec. 208.25(d) with respect to a

specific institutional customer's transaction. The inclusion or absence

of any of these factors is not dispositive of the determination of

suitability. Such a determination can only be made on a case-by-case

basis taking into consideration all the facts and circumstances of a

particular bank/customer relationship, assessed in the context of a

particular transaction.

(g) For purposes of the interpretation in this section, an

institutional customer is any entity other than a natural person. In

determining the applicability of the interpretation in this section to

an institutional customer, the Board will consider the dollar value of

the securities that the institutional customer has in its portfolio

and/or under management. While the interpretation in this section is

potentially applicable to any institutional customer, the guidance

contained in this section is more appropriately applied to an

institutional customer with at least $10 million invested in securities

in the aggregate in its portfolio and/or under management.

=======================================================================

-----------------------------------------------------------------------


 

[[Page 18476]]


 

PART 211--INTERNATIONAL BANKING OPERATIONS (REGULATION K)


 

1. The authority citation for Part 211 is revised to read as

follows:


 

Authority: 12 U.S.C. 221 et seq., 1818, 1841 et seq., 3101 et

seq., 3109 et seq.; 15 U.S.C. 78o-5.


 

2. Section 211.24 is amended by revising the section heading and

adding a new paragraph (g) to read as follows: Sec. 211.24 Approval of

offices of foreign banks; procedures for applications; standards for

approval; representative-office activities and standards for approval;

preservation of existing authority; reports of crimes and suspected

crimes; government securities sales practices.

* * * * *

(g) Government securities sales practices An uninsured state-

licensed branch or agency of a foreign bank that is required to give

notice to the Board under section 15C of the Securities Exchange Act of

1934 (15 U.S.C. 78o-5) and the Department of the Treasury rules under

section 15C (17 CFR 400.1(d) and 401) shall be subject to the

provisions of 12 CFR 208.25 to the same extent as a state member bank

that is required to give such notice.


 

By order of the Board of Governors of the Federal Reserve Board,

April 17, 1996.

William W. Wiles,

Secretary of the Board.


 

Federal Deposit Insurance Corporation


 

Authority and Issuance


 

For the reasons set out in the preamble, a new part 368 of chapter

III of title 12 of the Code of Federal Regulations is proposed to be

added to read as follows:


 

12 CFR CHAPTER III


 

PART 368--GOVERNMENT SECURITIES SALES PRACTICES


 

Sec.

368.1 Scope.

368.2 Definitions.

368.3 Business conduct.

368.4 Recommendations to customers.

368.5 Customer information.

368.100 Interpretations.


 

Authority: 15 U.S.C. 78o-5.



 

Sec. 368.1 Scope.


 

This part is applicable to state nonmember banks and insured state

branches of foreign banks that have filed notice as, or are required to

file notice as, government securities brokers or dealers pursuant to

section 15C of the Securities Exchange Act (15 U.S.C. 78o-5) and

Department of Treasury rules under section 15C (17 CFR 401.1(d) and

401).



 

Sec. 368.2 Definitions.


 

(a) Bank that is a government securities broker or dealer means a

state nonmember bank or an insured state branch of a foreign bank that

has filed notice, or is required to file notice, as a government

securities broker or dealer pursuant to section 15C of the Securities

Exchange Act (15 U.S.C. 78o-5) and Department of Treasury rules under

section 15C (17 CFR 401.1(d) and 401).

(b) Customer does not include a broker or dealer or a government

securities broker or dealer.

(c) Non-institutional customer means any customer other than:

(1) A bank, savings association, insurance company, or registered

investment company;

(2) An investment advisor registered under section 203 of the

Investment Advisors Act of 1940 (15 U.S.C. 80b-3); or

(3) Any entity (whether a natural person, corporation, partnership,

trust, or otherwise) with total assets of at least $50 million.



 

Sec. 368.3 Business conduct.


 

A bank that is a government securities broker or dealer shall

observe high standards of commercial honor and just and equitable

principles of trade in the conduct of its business as a government

securities broker or dealer.



 

Sec. 368.4 Recommendations to customers.


 

In recommending to a customer the purchase, sale or exchange of a

government security, a bank that is a government securities broker or

dealer shall have reasonable grounds for believing that the

recommendation is suitable for the customer upon the basis of the

facts, if any, disclosed by the customer as to the customer's other

security holdings and as to the customer's financial situation and

needs.



 

Sec. 368.5 Customer information.


 

Prior to the execution of a transaction recommended to a non-

institutional customer, a bank that is a government securities broker

or dealer shall make reasonable efforts to obtain information

concerning:

(a) The customer's financial status;

(b) The customer's tax status;

(c) The customer's investment objectives; and

(d) Such other information used or considered to be reasonable by

such bank in making recommendations to the customer.



 

Sec. 368.100 Interpretation.


 

(a) Under Sec. 368.4, a bank that is a government securities broker

or dealer must have reasonable grounds for believing that a

recommendation to a customer concerning a government security is

suitable for the customer, based on any facts disclosed by the customer

concerning the customer's other security holdings and financial

situation and needs. The interpretation in this section identifies

factors that may be relevant when considering the bank's compliance

with Sec. 368.4 with respect to an institutional customer. These

factors are not intended to be requirements or the only factors to be

considered, but are offered merely as guidance in determining the scope

of a bank's obligations under Sec. 368.4.

(b) The two most important considerations in determining the scope

of a bank's obligation under Sec. 368.4 in making recommendations to an

institutional customer are the customer's capability to evaluate

investment risk independently and the extent to which the customer is

exercising independent judgement in evaluating a bank's recommendation.

A bank must determine, based on the information available to it, the

customer's capability to evaluate investment risk. In some cases, the

bank may conclude that the customer is not capable of making

independent investment decisions in general. In other cases, the

institutional customer may have general capability, but may not be able

to understand a particular type of instrument or its risk. This is more

likely to arise with relatively new types of instruments, or those with

significantly different risk or volatility characteristics than other

investments generally made by the customer. If a customer is either

generally not capable of evaluating investment risk or lacks sufficient

capability to evaluate the particular product, the scope of a bank's

obligation under Sec. 368.4 would not be diminished by the fact that

the bank was dealing with an institutional customer. On the other hand,

the fact that a customer initially needed help understanding a

potential investment need not necessarily imply that the customer did

not ultimately develop an understanding and make an independent

investment decision.

(c) A bank may conclude that a customer is exercising independent

judgement if the customer's investment decision will be based on its

own independent assessment of the opportunities and risks presented by

a potential investment, market factors and other investment

considerations. Where


 

[[Page 18477]]


 

the bank has reasonable grounds for concluding that the institutional

customer is making independent investment decisions and is capable of

independently evaluating investment risk, then a bank's obligations

under Sec. 368.4 for a particular customer are fulfilled. Where a

customer has delegated decision-making authority to an agent, such as

an investment advisor or a bank trust department, the interpretation in

this section shall be applied to the agent.

(d) A determination of capability to evaluate investment risk

independently will depend on an examination of the customer's

capability to make its own investment decisions, including the

resources available to the customer to make informed decisions.

Relevant considerations could include:

(1) The use of one or more consultants, investment advisers or bank

trust departments;

(2) The general level of experience of the institutional customer

in financial markets and specific experience with the type of

instruments under consideration;

(3) The customer's ability to understand the economic features of

the security involved;

(4) The customer's ability to independently evaluate how market

developments would affect the security; and

(5) The complexity of the security or securities involved.

(e) A determination that a customer is making independent

investment decisions will depend on the nature of the relationship that

exists between the bank and the customer. Relevant considerations could

include:

(1) Any written or oral understanding that exists between the bank

and the customer regarding the nature of the relationship between the

bank and the customer and the services to be rendered by the bank;

(2) The presence or absence of a pattern of acceptance of the

bank's recommendations;

(3) The use by the customer of ideas, suggestions, market views and

information obtained from other government securities brokers or

dealers or market professionals, particularly those relating to the

same type of securities; and

(4) The extent to which the bank has received from the customer

current comprehensive portfolio information in connection with

discussing recommended transactions or has not been provided important

information regarding its portfolio or investment objectives.

(f) These factors are guidelines that will be utilized to determine

whether a bank is in compliance with Sec. 368.4 with respect to a

specific institutional customer's transaction. The inclusion or absence

of any of these factors is not dispositive of the determination of

suitability. Such a determination can only be made on a case-by-case

basis taking into consideration all the facts and circumstances of a

particular bank/customer relationship, assessed in the context of a

particular transaction.

(g) For purposes of the interpretation in this section, an

institutional customer is any entity other than a natural person. In

determining the applicability of the interpretation in this section to

an institutional customer, the FDIC will consider the dollar value of

the securities that the institutional customer has in its portfolio

and/or under management. While the interpretation in this section is

potentially applicable to any institutional customer, the guidance

contained in this section is more appropriately applied to an

institutional customer with at least $10 million invested in securities

in the aggregate in its portfolio and/or under management.


 

By order of the Board of Directors, dated at Washington, D.C.,

this 4th day of April, 1996.


 

Federal Deposit Insurance Corporation.

Robert E. Feldman,

Deputy Executive Secretary.

[FR Doc. 96-9919 Filed 4-24-96; 8:45 am]

BILLING CODES: 4810-33-P, 6210-01-P, 6714-01-P