[Federal Register Volume 62, Number 76 (Monday, April 21, 1997)]
[Notices]
[Pages 19359-19362]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 97-10159]
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SECURITIES AND EXCHANGE COMMISSION
[Investment Company Act Release No. 22616; 812-10290]
Merrill Lynch Asset Management, L.P., et al.; Notice of
Application
April 14, 1997.
AGENCY: Securities and Exchange Commission (``SEC'').
ACTION: Notice of application for an Order under the Investment Company
Act of 1940 (the ``Act'').
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APPLICANTS: Merrill Lynch Asset Management, L.P. (``MLAM''), and
Merrill Lynch, Pierce, Fenner & Smith Incorporated (``MLP'').
RELEVANT ACT SECTIONS: Order of exemption requested pursuant to (a)
sections 6(c) and 17(b) of the Act for an exemption from section 17(a);
(b) section 6(c) for an exemption from section 17(e) and rules 10f-3
and 17e-1; and (c) section 10(f) for an exemption from section 10(f).
SUMMARY OF APPLICATION: Applicants request an order to permit MLP to
engage in certain principal and brokerage transactions with ``multi-
manager'' investment companies that are subadvised by its affiliated
person, Hotchkis & Wiley (``H&W''). The transactions would be between
MLP and those portions of the investment companies that are not
subadvised by H&W.
FILING DATES: The application was filed on August 12, 1996, and amended
on November 4, 1996, February 20, 1997, and April 9, 1997. Applicants
have agreed to file an amendment during the notice period, the
substance of which is incorporated herein.
HEARING OR NOTIFICATION OF HEARING: An order granting the application
will be issued unless the SEC orders a hearing. Interested persons may
request a hearing by writing to the SEC's Secretary and serving
applicants with a copy of the request, personally or by mail. Hearing
requests should be received by the SEC by 5:30 p.m. on May 9, 1997, and
should be accompanied by proof of service on applicants, in the form of
an affidavit, or, for lawyers, a certificate of service. Hearing
requests should state the nature of the writer's interest, the reason
for the request, and the issues contested. Persons may request
notification of a hearing by writing to the SEC's Secretary.
ADDRESSES: Secretary, SEC, 450 Fifth Street, NW., Washington, DC 20549.
Applicants, 800 Scudders Mill Road, Plainsboro, New Jersey 08536.
[[Page 19360]]
FOR FURTHER INFORMATION CONTACT:
Elaine M. Boggs, Senior Counsel, at (202) 942-0572, or Elizabeth G.
Osterman, Assistant Director, at (202) 942-0564 (Division of Investment
Management, Office of Investment Company Regulation).
SUPPLEMENTARY INFORMATION: The following is a summary of the
application. The complete application may be obtained for a fee from
the SEC's Public Reference Branch.
Applicants' Representations
1. H&W is a California limited partnership that is registered as an
investment adviser under the Investment Advisers Act of 1940. H&W is an
operating division of MLAM, which in turn is owned and controlled by
Merrill Lynch & Co., Inc. MLP, a Delaware corporation, is a subsidiary
of Merrill Lynch & Co., Inc. and is a registered broker-dealer and a
registered investment adviser.
2. H&W currently serves, and may in the future serve, as one of
several investment advisers to certain separate portfolios (the
``Portfolios'') of registered investment companies that otherwise have
no affiliation with applicants (the ``Unaffiliated Funds''). H&W
currently serves as subadviser to certain Portfolios of the following
Unaffiliated Funds: Target Portfolio Trust, Landmark Funds I, American
AAdvantage Funds, American AAdvantage Mileage Funds, and the Hirtle
Callaghan Trust. Each of the Portfolios is advised by a primary
investment adviser (``Primary Adviser'') and/or one or more subadvisers
in addition to H&W (``Unaffiliated Subadvisers''). The Primary Adviser
and Unaffiliated Subadvisers are not affiliated persons of applicants
or affiliated persons of such affiliated persons (``second-tier
affiliates''). (The portion of each Portfolio that is subadvised by an
Unaffiliated Subadviser is an ``Unaffiliated Portion.'') \1\
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\1\ The terms ``Unaffiliated Subadviser'' and ``Unaffiliated
Portion'' include the Primary Adviser and the portion of a Portfolio
directly advised by such Primary Adviser, respectively, provided
that the Primary Adviser manages its portion of the Portfolio
independently of the portions managed by the subadvisers, including
H&W, and the Primary Adviser does not control or influence H&W or
H&W's investment decisions for its portion of such Portfolio. In
addition, such terms include the co-investment manager and the
portion of a Portfolio managed by such co-investment manager,
respectively, where the relationship of H&W and such co-investment
manager is directly with the Portfolio and there is no Primary
Adviser, provided that H&W and any such co-investment manager manage
their respective portions of the Portfolio independently.
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3. Applicants request relief only or those Portfolios where H&W
manages a discrete portion of the Portfolio and there are one or more
Unaffiliated Portions of the same Portfolio managed by Unaffiliated
Subadvisers (such Portfolios may also be referred to as ``Multi-Managed
Portfolios''). In a Multi-Managed Portfolio, each subadviser's contract
assigns it responsibility to manage a discrete portion of the
Portfolio. Each subadviser is responsible for making independent
investment and brokerage allocation decision based on its own research
and credit evaluations. H&W does not serve as subadviser to any Multi-
Managed Portfolio in which the Primary Adviser dictates or influences
brokerage allocation decisions. Each subadviser to a Multi-Managed
Portfolio is compensated based on a percentage of the value of assets
allocated to that subadviser.
4. Applicants request that relief be extended to both the
Unaffiliated Portion of the Multi-Managed Portfolios of the above
Unaffiliated Funds for which H&W currently services as subadviser, as
well as to any other Multi-Managed Portfolio to which H&W may in the
future provide investment advisory services and which is operated in a
manner consistent with the terms and the conditions of the application.
In addition, applicants request that relief be extended to broker-
dealers that control, are controlled by, or are under common control
with MLP (collectively with MLP, ``Affiliated Broker-Dealers''). A
``broker-dealer'' or ``Affiliated Broker-Dealer'' may or may not be
registered as a broker-dealer under Securities Exchanged Act of 1934
and may include affiliates of MLP that are government securities
dealers, municipal securities dealers, futures commission merchants,
and banks.
Applicants' Legal Analysis
A. Relief From Section 17(a)
1. Section 17(a) of the Act generally prohibits sales or purchases
of securities between a registered investment company and any
affiliated person of the company or an affiliate of such affiliated
person. Section 2(a)(3) of the Act defines an affiliated person of
another person to be any person directly or indirectly controlling, or
under control with such person and any investment adviser of an
investment company
2. H&W is an affiliated person of the Portfolios that it
subadvises. It is also under common control with the Affiliated Broker-
Dealers. Thus, the Affiliated Broker-Dealers would be second-tier
affiliates of a Multi-Managed Portfolio managed by H&W as subadviser.
As a result, any transactions sought to be effected by the Unaffiliated
Subadviser with an Affiliated Broker-Dealer on behalf of a Multi-
Managed Portfolio would be subject to the provisions of section 17(a).
Applicants seek relief from section 17(a) to exempt principal
transactions entered into in the ordinary course of business between
the Unaffiliated Portions and an Affiliated Broker-Dealer. The
requested exemption would apply only where an Affiliated Broker-Dealer
is deemed to be an affiliated person or a second-tier affiliate of a
Portfolio solely because H&W is the subadviser to discrete portion of
the assets of that Portfolio.
3. Section 6(c) permits the SEC to exempt any person or transaction
from any provision of the Act, if such exemption is necessary or
appropriate in the pubic interest and consistent with the protection of
investors and the purposes fairly intended by the policies of the Act.
4. Section 17(b) permits the SEC to grant an order permitting a
transaction otherwise prohibited by section 17(a) if it finds that the
terms of the proposed transaction are fair and reasonable and do not
involve overreaching on the part of any person concerned. For the
reasons stated below, applicants believe that the terms of the proposed
transactions meet the standards of sections 6(c) and 17(b).\2\
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\2\ Section 17(b) could be interpreted to exempt only a single
transaction. However, the Commission, under section 6(c) of the Act,
may exempt a series of transactions that otherwise would be
prohibited by section 17(a).
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5. Applicants submit that the primary purpose of section 17(a) is
to prevent self-dealing. Applicants state that when the person acting
on behalf of an investment company has no direct or indirect pecuniary
interest in a party to a principal transaction, then the abuses that
section 17(a) is designed to prevent are not present. Applicants state
that this is the situation in each transaction for which relief is
requested because neither the Primary Adviser nor the subadviser to the
Unaffiliated Portion are affiliates of H&W or its affiliated persons.
6. Applicants state that each subadviser's contract assigns it
responsibility to manage a discrete portion of the Multi-Managed
Portfolio. The contracts neither require nor authorize collaboration
between or among subadvisers. Each subadviser is responsible for making
independent investment and brokerage allocation decisions based on its
own research and credit evaluations. Applicants state that H&W does not
serve as subadviser to any Portfolio where the Primary Adviser dictates
or influences brokerage
[[Page 19361]]
allocation or investment decisions, or has the contractual right to do
so. Applicants submit that in managing a discrete portion of a
Portfolio, each subadviser acts for all practical purposes as though it
is managing a separate investment company. Further, applicants state
that, for each transaction for which relief is requested, the
Unaffiliated Subadviser would be dealing with an Affiliated Broker-
Dealer that is a competitor of that subadviser. Applicants believe
therefore, that each such transaction would be the product of arm's
length bargaining.
7. In addition, applicants state that the method of compensating
subadvisers in the context of a multiple subadviser Portfolio furthers
the element of competition among them. Applicants state that
subadvisers are paid on the basis of a percentage of the value of the
assets allocated to their management. Applicants argue that the
execution of a transaction to the disadvantage of the Unaffiliated
Portion of the Portfolio would disadvantage the Unaffiliated Subadviser
to the extent that it diminishes the value of the Unaffiliated Portion
of the Portfolio, with no countervailing benefit to the Unaffiliated
Subadviser. Applicants further submit that the Primary Adviser's power
to dismiss subadvisers or to change the portion of a Portfolio
allocated to each reinforces a subadviser's incentive to maximize the
investment performance of its own portion of the Portfolio.
B. Relief From Section 17(e) and Rule 17e-1
1. Section 17(e)(2)(A) of the Act prohibits an affiliate or a
second-tier affiliate of an investment company from acting as broker in
connection with the sale of securities to or by the investment company,
to receive a commission, fee or other remuneration for effecting such
transaction which exceeds the usual and customary broker's commission
if the sale is effected on a securities exchange.
2. Rule 17e-1 sets forth the conditions under which an affiliated
person or a second-tier affiliate of an investment company may receive
a commission, fee, or other remuneration which would not exceed the
``usual and customary broker's commission'' for purposes of section
17(e)(2)(A). Paragraph (b) of rule 17e-1 requires the investment
company's board of directors, including a majority of the disinterested
directors, to adopt certain procedures and to determine at least
quarterly that all transactions effected in reliance on rule 17e-1 in
the preceding quarter were effected in compliance with the company's
rule 17e-1 procedures. Rule 17e-1(c) specifies the records that must be
maintained by each investment company with respect to any transactions
effected pursuant to rule 17e-1.
3. Applicants request relief under section 6(c) to the extent
necessary to permit the Unaffiliated Portion of each Portfolio to pay
commissions, fees, or other remuneration to an Affiliated Broker-
Dealer, acting as broker in the ordinary course of business, in
connection with the sale of securities to or by such Unaffiliated
Portion of a Portfolio, without complying with the requirements of rule
17e-1 (b) and (c) under the Act. In addition, applicants request that
such relief extend to transactions in futures contracts and related
options as well as securities. For the reasons stated below, applicants
believe that the request for relief meets the standards of section
6(c).
4. Applicants state that the transactions for which relief is
requested will involve no conflict of interest and that there is no
possibility of self-dealing. Applicants submit that the pecuniary
interests of the particular Unaffiliated Subadviser are directly
aligned with those of the Unaffiliated Portion of the Portfolio and
that, therefore, the brokerage commissions, fees, or other remuneration
to be paid by the Unaffiliated Portion will be reasonable and fair.
5. Applicants argue that the procedures imposed by rule 17e-1 (b)
and (c) will be unduly burdensome to the Unaffiliated Funds and the
Unaffiliated Subadvisers. Applicants state that H&W and MLP's lack of
control over the Unaffiliated Funds makes such procedures unnecessary
for the protection of shareholders, since the absence of a control
relationship will ensure that all brokerage transactions will be
executed on an arm's length basis. Moreover, applicants submit that
even if the unaffiliated Funds had procedures relating to the selection
of an Affiliated Broker-Dealer as broker by the Unaffiliated
Subadvisers, compliance with such procedures would be entirely within
the control of such Unaffiliated Subadvisers and not within the control
of H&W or MLP.
6. In addition, applicants state that it is not uncommon for an
Unaffiliated Subadviser to place orders for trades for the respective
Unaffiliated Portions of the Portfolio at the same time and with the
same broker-dealer as trades for other clients. Applicants submit that
since H&W, MLP, and their affiliates are not affiliated with such
Unaffiliated Subadvisers or the Unaffiliated Fund (other than by virtue
of H&W's subadvisory relationship with the Portfolio), the requirement
that such transactions be monitored under rule 17e-1 greatly
complicates the compliance process for such Unaffiliated Subadviser and
the Unaffiliated Funds.
7. Applicants state that each Unaffiliated Subadviser that selects
an Affiliated Broker-Dealer as broker will do so in accordance with the
brokerage allocation practices set forth in the prospectus and
statement of additional information for the respective Unaffiliated
Fund (i.e., subject to best price and execution). In addition,
applicants state that each Unaffiliated Subadviser selecting broker-
dealers for its Unaffiliated Portion of a Portfolio has an inherent
interest in obtaining best price and execution, so as to maximize the
Unaffiliated Portion of the Portfolio's potential return. Conversely,
applicants submit that such Unaffiliated Subadvisers have no interest
in benefiting H&W or its affiliates at the expense of the Unaffiliated
Portions of the Portfolios they manage.
C. Relief from Section 10(f) and Rule 10f-3
1. Section 10(f), in relevant part, prohibits a registered
investment company from knowingly purchasing or otherwise acquiring
during the existence of any underwriting or selling syndicate, any
security (except a security of which the company is the issuer) a
principal underwriter of which is an officer, director, member of an
advisory board, investment adviser, or employee of the company, or an
affiliated person of any of the foregoing. Section 10(f) also provides
that the SEC may exempt by order any transaction or classes of
transactions from any of the provisions of section 10(f), if and to the
extent that such exemption is consistent with the protection of
investors.
2. Applicants acknowledge that each subadviser to a Multi-Managed
Portfolio which has multiple subadvisers, although under contract to
manage only a distinct portion of the Portfolio, is an investment
adviser to the Portfolio itself, not just the portion of the Portfolio
it manages. As such, all purchases of securities by such subadviser on
behalf of the Portfolio from an underwriting syndicate a principal
underwriter of which is an affiliated person of any of the Portfolio's
other subadvisers, fall within the prohibitions section 10(f).
3. Applicants request relief pursuant to section 10(f) exempting
from the provisions of section 10(f) any purchase of securities by an
Unaffiliated Portion of a Multi-Managed Portfolio in the ordinary
course of business during the
[[Page 19362]]
existence of an underwriting or selling syndicate, a principal
underwriter of which is an Affiliated Broker-Dealer.
4. Applicants believe that the requested relief meets the standards
set forth in section 10(f). Applicants state that section 10(f) was
designed to prevent the practice of ``dumping'' otherwise unmarketable
securities on investment companies, either by forcing the investment
company to purchase unmarketable securities from the underwriting
affiliate itself, or by forcing or encouraging the investment company
to purchase such securities from another member of the syndicate.
Applicants submit that such abuses are not present in the context of
Multi-Managed Portfolios to any greater extent than is the case with a
series investment company with unaffiliated subadvisers to separate
portfolios. As stated above in the context of sections 17 (a) and (e)
transactions, in each underwriting transaction that would be subject to
the requested relief, the Unaffiliated Subadviser would be dealing, on
behalf of the Unaffiliated Portion of the Portfolio, with an Affiliated
Broker-Dealer that is a competitor of the Unaffiliated Subadviser in an
arm's length arrangement.
5. Rule 10f-3 exempts certain transactions from the prohibitions of
section 10(f) if specified conditions are met. Paragraph (d) of rule
10f-3 provides that the amount of securities of any class of an issue
to be purchased by the investment company, or by two or more investment
companies having the same investment adviser, shall not exceed 4% of
the principal amount of the offering of such class or $500,000 in
principal amount, whichever is greater, but in no event greater than
10% of the principal amount of the offering.
6. Applicants also request exemptive relief pursuant to section
6(c) to the extent necessary so that where a portion of a Portfolio
managed by H&W purchases securities in reliance upon rule 10f-3, for
purposes of determining H&W's compliance with the percentage limits of
rule 10f-3(d), such purchases will not be aggregated with any purchases
that might be made by an Unaffiliated Portion of the Portfolio. For the
reasons below, applicants believe the requested relief meets the
standards of section 6(c).
7. Applicants believe that the restrictions of rule 10f-3 would
erect an unnecessary barrier to their purchase of securities in
underwritings where there is no conflict of interest present.
Applicants state that in order to comply with the restrictions of rule
10f-3(d), it would be necessary for all of the subadvisers to
coordinate their securities purchases in underwriting to ensure
compliance, which would require communication among them regarding
their investment plans. Applicants state that such communication would
otherwise be unnecessary. In addition, applicants submit that it would
be contrary to the interests of shareholders to maintain unnecessary
barriers to purchases by the Portfolio of securities that conform to
its investment objective and policies where there is no reason to fear
``dumping'' or other self-dealing. Applicants state that H&W would
comply with rule 10f-3 with respect to transactions on behalf of the
portion of any Multi-Managed Portfolio it subadvises.
Applicants' Conditions
Applicants agree that any other of the SEC granting the requested
relief will be subject to the following conditions:
1. Each Portfolio will be advised by H&W and at least one other
Unaffiliated Subadviser and will be operated consistent with the manner
descried in section I.C. of the application.
2. Neither H&W (except by virtue of H&W serving as subadviser to a
discrete portion of a Portfolio of an Unaffiliated Fund) nor the
Affiliated Broker-Dealer will be an affiliated person or a second-tier
affiliate of any Unaffiliated Subadviser or any officer, director, or
employee of the Unaffiliated Fund engaging in the transaction.
3. H&W will not directly or indirectly consult with any
Unaffiliated Subadvisers concerning allocation of principal or
brokerage transactions.
4. H&W will not participate in any arrangement whereby the amount
of its subadvisory fees will be affected by the investment performance
of an Unaffiliated Subadviser.
For the Commission, by the Division of Investment Management,
pursuant to delegated authority.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 97-10159 Filed 4-18-97; 8:45 am]
BILLING CODE 8010-01-M
