[Federal Register Volume 60, Number 125 (Thursday, June 29, 1995)]
[Proposed Rules]
[Pages 33763-33779]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 95-15680]
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FEDERAL RESERVE SYSTEM
12 CFR Part 220
[Regulation T; Docket No. R-0772]
RIN 7100-AB28
Securities Credit Transactions; Review of Regulation T, ``Credit
by Brokers and Dealers''
AGENCY: Board of Governors of the Federal Reserve System.
ACTION: Proposed rule.
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SUMMARY: As part of a program to periodically review its regulations,
the Board is proposing amendments to Regulation T, the regulation that
covers extensions of credit by and to broker and dealers (also known as
creditors). These amendments reflect consideration of the comments
submitted in response to the Board's Advance Notice of Proposed
Rulemaking. Many of the proposed amendments feature increased reliance
on rules of the Securities and Exchange Commission (SEC) and self-
regulatory organizations (SROs) and others would make Regulation T
consistent with Regulation G and Regulation U, the regulations covering
securities credit by lenders other than broker-dealers. Proposed
changes in the options area include permitting loan value for long
positions in exchange-traded options and increasing reliance on the
margin rules of the exchange that trades the option for customer and
specialist transactions. These changes would also allow creditors to
recognize the offsetting nature of financial futures in calculating
margin for securities options. Proposed amendments in the international
area will reduce restrictions on transactions involving foreign
securities that are not publicly traded in the United States and
foreign securities being sold on an installment basis if the U.S.
component is a relatively small percentage of the offering. Broker-
dealers would also be given more flexibility in computing overall
margin requirements for customer accounts with securities denominated
in one or more foreign currencies. In addition to these and other
amendments, technical changes are being proposed to clarify areas that
have raised questions, update references, or restore language
inadvertently deleted. The Board is also soliciting comments on a
number of specific proposals. Finally, a number of questions regarding
the existing regulation raised by commenters are being answered.
DATES: Comments should be received on or before August 28, 1995.
ADDRESSES: Comments should refer to Docket No. R-0772, and may be
mailed to William W. Wiles, Secretary, Board of Governors of the
Federal Reserve System, 20th Street and Constitution Avenue, N.W.,
Washington, DC 20551. Comments also may be delivered to Room B-222 of
the Eccles Building between 8:45 a.m. and 5:15 p.m. weekdays, or to the
guard station in the Eccles Building courtyard on 20th Street, N.W.
(between Constitution Avenue and C Street, N.W.) at any time. Comments
received will be available for
[[Page 33764]]
inspection in Room MP-500 of the Martin Building between 9:00 a.m. and
5:00 p.m. weekdays, except as provided in 12 CFR 261.8 of the Board's
rules regarding availability of information.
FOR FURTHER INFORMATION CONTACT: Scott Holz, Senior Attorney, or Angela
Desmond, Senior Counsel, Division of Banking Supervision and Regulation
(202) 452-2781; for the hearing impaired only, Telecommunications
Device for the Deaf (TDD), Dorothea Thompson (202) 452-3544.
SUPPLEMENTARY INFORMATION: In 1992, the Board issued an advance notice
of proposed rulemaking and request for comment concerning a general
review of Regulation T.\1\ Comments were received from 31 respondents,
some of whom commented more than once. The comments have been analyzed
to help prepare proposed amendments to the regulation. These proposed
amendments are consistent with the current tenor of the regulation and
statutory requirements; however, the comments raised broad issues as to
purposes that Regulation T serves in light of the current regulatory
environment and market practices. One comment questioned the continuing
need for the Regulation T requirements, noting that possible purposes
for the regulation, such as broker dealer financial integrity and
customer protection, also are addressed by SEC oversight of brokers and
dealers by means of net capital and customer protection rules. Comments
also suggested broad changes to Regulation T that the commenters
believe are appropriate in the current environment. These changes
included, but were not limited to: (1) Delegating all responsibility
for margins and related requirements to the self-regulatory
organizations under the oversight of the SEC; (2) applying the
restrictions on arranging credit only to credit that otherwise violates
margin rules; (3) eliminating margin requirements on loans to brokers
and dealers; (4) exempting from the margin rules transactions in all
exempt securities; (5) exempting transactions with sophisticated
customers; (6) expansion of permissible arrangements for borrowing and
lending securities; and (7) exempting transactions in investment grade
securities. While the Board believes that it is important to proceed
with the proposed amendments in order to address particular problems,
the Board also believes regulatory structures should be reviewed
continually, not merely to update them, but also to assess whether
different structures would better meet regulatory objectives and even
whether regulation is still necessary. Accordingly, the Board requests
comments including particular proposals and supporting legal and policy
rationale, not only on the specific changes to Regulation T set forth
in this notice, but also on the proposals enumerated above, the
continuing need for Regulation T, and appropriate changes to its scope
and architecture. The supplementary information that follows explains
what is being proposed and reasons therefor.
\1\ 57 FR 37109, August 18, 1992.
I. Options
A. Exchange-Traded Options
1. Loan Value for Long Options
All securities listed on a national securities exchange have loan
value under Regulation T except for options. The Board proposes to
eliminate this disparate treatment, which was adopted in the early
1970s, and allow exchange-traded options the same 50 percent loan value
currently afforded other margin equity securities. In light of the
successful growth of standardized options trading since the 1970s, the
positive performance of the Options Clearing Corporation, and the
development of new types of options, other securities and financial
futures, the Board is proposing to treat long positions in exchange-
traded options the same as other registered equity securities for
margin purposes.
Granting 50 percent loan value to exchange-traded options would
also address a disparity that has arisen in the past few years with the
listing of so-called index warrants. Although index warrants resemble
long-term options, the use of the word ``warrant'' to describe this
product has led many broker-dealers to allow 50 percent loan value for
these instruments while long-term options, such as LEAPs, are not
permitted any loan value under the current regulation. Treating
exchange-traded options the same as other exchange-traded equity
securities would eliminate this disparity.
2. Increased Reliance on SRO Rules
When Regulation T was adopted in 1934, the amount of margin
required for writing a put or call was the amount ``customarily
required'' by the creditor. In the 1970s the Board adopted specific
requirements based on existing rules of one of the self-regulatory
organizations (SROs). Starting in the 1980s, the Board has on more than
one occasion amended Regulation T to incorporate by reference SRO
margin rules for options transactions. The Board is proposing to
continue this process by increasing reliance on SRO options margin
rules for customers and specialists.
a. Margin account. The margin account currently specifies positions
which may serve in lieu of the margin required for writing an option on
an equity security, while incorporating the rules of the SROs for
options written on anything other than an equity security (such as a
securities index). The Board proposes to allow SRO rules, which must be
approved by the SEC, to prescribe appropriate cover for all short
options positions.
Many commenters expressed support for a risk-based options margin
system and/or a recognition of the offsetting nature of financial
futures based on similar indexes, rates, or assets. Under the Board's
proposal, the SROs would be able to further these goals in setting
cover requirements for all types of securities options.
b. Cash account. Although the writing of an option creates a short
position which is normally carried in the margin account, the cash
account section was amended in the early 1980s to allow certain covered
options transactions to be effected in this account. Board staff has
since indicated that the cash account can be used for additional
options transactions. These transactions are not ``covered'' in the
sense that the account holds the underlying security. However, the
transactions involve a quantifiably limited risk and the cash account
in which the transaction is effected contains specified assets of
sufficient value to cover this amount or an escrow receipt representing
such assets.\2\ The Board proposes to adopt generic language under
which a ``covered option transaction'' would be eligible for the cash
account under specified conditions. The Board is also adding money
market mutual funds to the list of cash equivalents that may be used to
cover a put written in the cash account.
\2\ See, e.g., Staff Opinion of July 12, 1991, Federal Reserve
Regulatory Service (FRRS) 5-666.251 and Staff Opinion of October 11,
1991, FRRS 5-666.26.
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c. Market functions account. Regulation T permits the extension of
credit on a good faith basis to a specialist for transactions in its
specialty security. In addition, options specialists can obtain good
faith financing for the underlying security and other specialists can
obtain good faith credit for options overlying their specialty
securities. These positions are known as ``permitted offsets.'' The
regulation specifies which positions must be held in the account to
allow permitted offsets and does not provide for offsets in the case of
specialists in
[[Page 33765]]
index options. The Board proposes to adopt generic language permitting
the extension of good faith credit for permitted offsets, provided the
position has been designated as a permitted offset under SEC-approved
rules of the appropriate SRO.
B. OTC Options
In 1991, Board staff raised no objection to a broker-dealer that
sought to ``arrange'' for its customer to write an OTC option on
foreign securities.\3\ This position would be codified by the proposed
amendments to the arranging section concerning foreign securities. The
Board is not proposing to extend this position to OTC options on
securities which are publicly traded in the United States. Allowing
broker-dealers to arrange for customers to write OTC options without
collecting margin would not be consistent with the requirements of the
organized options exchanges. Rules of the New York Stock Exchange
(NYSE) and the National Association of Securities Dealers (NASD) both
provide that margin is required for the ``issuance, guarantee or sale
(other than a 'long' sale) for a customer of a put or call.'' The Board
is proposing to add the word ``sell'' to the language in the cash
account to make clear that the Board's rules cover the same situations
covered by NYSE and NASD rules.
\3\ Staff Opinion of October 22, 1991, FRRS 5-666.27.
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C. Employee Stock Options and Other Benefit Plans
Section 220.3(e)(4) of Regulation T was added in 1988 to allow
creditors to help customers with valuable employee stock options
exercise their options by providing short-term financing of the
exercise price. The short-term loan is either paid off from the sale of
the securities received pursuant to the employee stock option or
replaced with a conventional margin loan extended against those
securities. This practice has come to be known in the industry as
``cashless exercise.'' Over the last five years, Board staff has not
objected to the expansion of the application of Sec. 220.3(e)(4) to
other types of securities customers receive under employee benefit
plans, such as certain employee stock warrants. In addition, Board
staff has allowed brokers to temporarily finance withholding taxes due
on stock received under employee benefit plans. New language is being
proposed to reflect these staff opinions. The new language would also
allow the use of Sec. 220.3(e)(4) for outside directors and consultants
who are eligible to participate in employee benefit plans under SEC
rules.
II. International Transactions
A. Foreign Broker-Dealers
Any entity required to register as a broker or dealer with the SEC
under section 15(a) of the Securities Exchange Act of 1934 (the Act) is
a creditor under Regulation T. Although the definitions of ``broker''
and ``dealer'' in the Act do not refer to nationality, the SEC's policy
is to require registration of foreign broker-dealers only when they are
physically operating in the United States.\4\ The Board generally
follows the SEC in this area and does not consider foreign broker-
dealers not required to register with the SEC as creditors under
Regulation T.
\4\ SEC Release No. 34-27017; 54 FR 30013 (July 18, 1989).
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Although the commenters were mixed on whether the definition of
creditor should be amended to include or exclude foreign broker-
dealers, there was general agreement that U.S. broker-dealers
purchasing securities from or selling securities to a foreign broker-
dealer on a DVP basis should be able to effect the trades on a broker-
to-broker basis. Proposed language is being added to the Broker-Dealer
Credit Account that will make clear that foreign broker-dealers may use
this account for DVP transactions with U.S. broker-dealers.
B. Foreign Currency
Since 1990, creditors have been able to extend margin credit
denominated in foreign currency if it is secured by foreign margin
securities denominated or traded in the same foreign currency. If a
customer has securities of various denominations, margin subaccounts
(and, if desired, SMA subaccounts) are set up so that credit computed
in U.S. dollars and each separate currency can be isolated. Under the
current rule, an increase in the value of securities used to support
specific foreign currency-denominated debt cannot be used to offset a
deficiency in another margin subaccount. At the request of commenters,
the Board is proposing to delete this limitation and permit margin
requirements denominated in any currency to be offset by equity in any
marginable security or a foreign currency deposit made in connection
with a security denominated in that currency. Creditors would be free
to retain the current system of separate SMAs for each foreign currency
denomination.
Another comment concerning foreign currency comes from the
Securities Industry Association (SIA), which believes that any freely
convertible currency should be able to be treated at its U.S. dollar
equivalent for all purposes of Regulation T. Under the current version
of Regulation T, foreign currency received in connection with the
purchase, sale or loan of a security denominated in that currency may
be accounted for in that currency or at its U.S. dollar equivalent. If
there is no security denominated in that currency, creditors should
convert the currency into its U.S. dollar equivalent upon receipt. The
conversion can be effected in a customer's cash or margin account, with
the resulting balance maintained in U.S. dollars.
C. Foreign Securities
1. Arranging
In 1990, the Board added an exception concerning foreign stocks to
the arranging section of Regulation T which permits a creditor to
arrange for its customer to receive more credit than the creditor could
extend when its customer is purchasing a foreign security with credit
from a foreign lender. The exception, found in section 220.13(d), was
based on the theory that transactions involving foreign securities do
not require the same strictness of regulation because they do not have
a substantial effect on the U.S. securities market. Commenters have
asked for the Board to expand the foreign stock exception to cover
short sales as well. The Board agrees that equal treatment in the
arranging area should be afforded to both long and short sales.
In gaining experience with the 1990 amendment, however, it has been
noticed that there is an increasing trend for corporations that have
issued stock abroad to list the securities for trading in the United
States. Therefore, the Board is proposing a somewhat more restricted
definition of what constitutes a foreign security for purposes of this
section to assure equal treatment of foreign and domestic securities
that are publicly traded in the United States. For example, the German
conglomerate Daimler-Benz recently listed its shares on the New York
Stock Exchange, thereby enabling U.S. broker-dealers to extend 50
percent credit against the stock. Under the current arranging exception
for foreign securities, a creditor can arrange for its customer to
borrow more than 50 percent on Daimler-Benz stock if the credit is
extended by a foreign lender (often a foreign affiliate of the
creditor). In contrast, a creditor may not arrange for its customer to
buy AT&T stock with less than 50 percent margin, even if the credit
were extended by a foreign
[[Page 33766]]
lender. Proposed language would address this situation and ensure equal
treatment for all stocks that are publicly traded in the United States
by permitting a creditor to arrange for the purchase or short sale of a
``non-U.S. traded foreign security,'' defined as a security issued
abroad that does not trade on a national securities exchange or NASDAQ.
2. Lending Foreign Securities
Under Regulation T, a creditor may borrow or lend securities for
the purpose of making delivery pursuant to a short sale or ``fail''
transaction. In addition, the regulation limits the type of collateral
that must be pledged to secure a loan of securities. Several
commenters, such as the SIA and the SIA-Credit Division, request an
amendment to permit U.S. broker-dealers to lend foreign securities to a
foreign person for any purpose that is lawful in the foreign country.
The NYSE would like to ensure that foreign securities loaned abroad do
not come back to the U.S. to cover short sales or fails. The Board is
therefore proposing to allow loans of foreign securities for any lawful
purpose if the securities are ``non-U.S. traded foreign securities.''
This should prevent these securities from being used for transactions
in the United States. In addition, the SIA notes that many securities
lending transactions occurring outside the U.S. would not meet the
collateral requirements of Regulation T. The proposed amendment would
allow a creditor to accept any collateral that may be pledged in the
foreign country for loans of securities, providing the collateral's
value is at least equal to 100 percent of the market value of the
securities borrowed.
3. Installment Sales
The United Kingdom began a series of privatizations of state-owned
companies in the late 1970s. Investors in the shares of these companies
paid for them on an installment basis over a period of at least six
months. Installment sales are not uncommon in the U.K., but are
generally prohibited in this country under section 11(d) of the Act.\5\
The practice is also prohibited under Regulation T if the first
installment is less than the initial margin requirement.
\5\ 15 U.S.C. 78k(d).
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Participation of U.S. investors in the U.K. privatizations was
accommodated by letters written by Board staff.\6\ The Board proposes
to amend the arranging provision of Regulation T to state that a
creditor is not deemed to have arranged for credit subject to the
margin regulations if it sells a foreign security that is being offered
on an installment basis, provided that less than 15 percent of the
issue is offered to U.S. persons. This generic language would allow
U.S. investors to participate in installment sales of foreign
securities when the U.S. component of the offering is a relatively
small portion of the overall offering and would cover offerings by
foreign governments and other foreign issuers.
\6\ See, e.g., Staff Opinion of October 24, 1984, FRRS 5-615.92.
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4. Foreign Margin Stocks
In 1990, the Board amended Regulation T to establish a List of
Foreign Margin Stocks (the ``Foreign List''). These stocks are treated
in the same manner as domestic margin equity securities. The Board
established criteria for initial inclusion on the Foreign List and for
continued listing. U.S. broker-dealers certify to an SRO that specific
foreign securities meet the criteria. The Board uses the information
submitted by the SRO in publishing the Foreign List. The Foreign List
has grown from approximately 40 stocks in August 1990 to over 700
stocks this year.
Many commenters state that the system is cumbersome and results in
all broker-dealers benefitting from the research done by a small number
of firms. Some commenters have suggested that a stock included in a
major foreign stock index should be automatically marginable if it
meets two criteria: (1) the SEC or CFTC has approved trading in the
United States of options, warrants, or futures on a foreign securities
index that contains the foreign equity security and (2) the SEC has
determined that the stock has a ``ready market'' for purposes of its
net capital rule.\7\ The Board is soliciting comment whether such a
test should be adopted, which securities would be covered under the
criteria, and suggestions on how this information could be integrated
into the Board's Foreign List.
\7\ 17 CFR 240.15c3-1(c)(11).
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III. Other Customer Transactions
A. Margin Account/SMA
Most customer transactions involving credit take place in a margin
account, which may be maintained in conjunction with a special
memorandum account (SMA). Several commenters recommend that more than
one customer, such as members of a family, be permitted to share a
single SMA. One broker-dealer notes that this would allow the
individual customers' accounts to be cross-collateralized and cross-
guaranteed. The Board is not proposing to change the SMA at this time.
In addition to operational problems raised by linked SMAs, Regulation T
and the Board's other margin regulations do not allow a guarantee to
have loan value for securities credit transactions.
The SIA-Credit Division suggests elimination of the provision in
Sec. 220.4(f)(2)(ii) concerning withdrawals of securities received as
part of a distribution attributed to securities already in the margin
account. This section is permissive in that it permits some withdrawals
which create or increase a margin deficiency. Nevertheless, the Board
is soliciting comment on whether such an exception is still warranted.
1. Convertible Bonds
Under Regulations G and U (12 CFR Parts 207 and 221), a debt
security convertible into a margin stock is considered a margin stock.
Although no comparable rule exists in Regulation T, in 1990 the Board
defined foreign margin stock to include a debt security convertible
into a margin security. The SIA-Credit Division and several broker-
dealers recommend applying this concept to all convertible debt
securities in Regulation T and the Board is proposing language to
accomplish this.
2. Mutual Funds
a. Exempted securities mutual funds. Since 1968, the definition of
margin stock in Regulations G and U has excluded mutual fund shares of
companies whose assets are at least 95 percent invested in exempted
securities. The exclusion of these funds (exempted securities mutual
funds) from the definition of margin stock is equivalent to giving them
good faith loan value at lenders other than broker-dealers. The
Investment Company Institute has asked the Board to amend Regulation T
so that exempted securities mutual funds will be entitled to good faith
loan value at broker-dealers as well as other lenders. The Board is
proposing to use the regulatory language found in Regulations G and U
in Regulation T.
b. Money market mutual funds. In addition to exempted securities
mutual funds, the Board is proposing to give good faith loan value to
money market mutual funds. Money market mutual funds are subject to
additional SEC regulation and are recognized as cash equivalents by the
industry and the general public.
3. OTC Margin Bonds
Several commenters suggest that the Board adopt a rating
requirement for all
[[Page 33767]]
debt securities as an alternative to the current requirement that
domestic debt securities be registered with the SEC. The Board has
adopted the rating requirement for foreign securities because the
concept of comity argues against requiring SEC registration. The fact
that ``mortgage-related securities'' require a rating but not SEC
registration was Congressionally mandated in the Secondary Mortgage
Market Enhancement Act of 1984.
The Board is proposing to strike the word ``mortgage'' from the
second section of the definition of ``OTC margin bond'' to clarify that
all pass-through securities can meet this definition. The Board also
confirms that the minimum principal amount required for ``OTC margin
bonds'' applies to shelf registrations of a single issue once the
minimum amount has been issued, even though some of the individual
tranches sold may be smaller.
Although a 1984 staff opinion took the position that privately-
issued Treasury receipts were not exempted securities and not entitled
to loan value,8 the Board, SEC and Treasury Department have become
more comfortable over time with viewing these securities as equivalent
to exempt securities. For example, a 1994 Board staff opinion
concerning the Glass-Steagall Act concluded that the holder of a
privately-issued Treasury receipt is, for virtually all purposes, a
holder of an interest in the underlying Treasury security.9 The
Board therefore does not object to the treatment of privately-issued
Treasury receipts as exempted securities for purposes of Regulation T.
The staff opinion to the contrary will be deleted.
\8\ Staff Opinion of December 13, 1984, FRRS 5-628.13.
\9\ Staff Opinion of January 10, 1994, FRRS 4-655.5.
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4. OTC Margin Stock
A comment was received from an investor who believes stock which
does not trade on NASDAQ should be marginable if the issuer has another
class of marginable stock whose price is used to determine the sale
price of the nonmargin stock. This situation is not being addressed by
the proposed amendments. In addition to the complexity of covering such
a limited group of stocks, this type of stock cannot be purchased by
the general public and therefore no bid prices are available.
5. Nonsecurities Instruments
The Public Securities Association (PSA) and a broker-dealer comment
that creditors should be able to extend credit on commercial paper,
certificates of deposit (CDs), and bankers acceptances (BAs). All of
these instruments may be used collateral for a nonpurpose loan (i.e., a
loan that is not made for the purpose of purchasing, carrying, or
trading in securities). Section 7(c) of the Act 10 prohibits the
Board from permitting broker-dealers to accept nonsecurities as
collateral in a margin account. Although commercial paper is a security
and can be held in a margin account, Regulation T denies loan value to
domestic debt securities that are not SEC-registered. Therefore,
commercial paper is a nonmargin, nonexempted security and the
Supplement to Regulation T requires a margin of 100 percent if held in
a margin account.
\10\ 15 U.S.C. 78g(c).
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B. Cash Account
1. Permissible Transactions
Proposed changes to the cash account concerning options are
discussed in this preamble in section I.B.2. In addition, one commenter
would like confirmation that customers may purchase CDs and other
nonsecurities products in the cash account. A 1988 staff opinion
confirmed that industry practice is to use the cash account to record
the purchase of both securities and nonsecurities,11 and the Board
is proposing to add language to the cash account section of the
regulation to codify this position.
\11\ FRRS 5-615.955.
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2. Net settlement
In order to guard against free-riding, net settlement of trades in
a cash account generally is not permitted. Customers are required to
pay for all purchases in full without netting sale proceeds from
securities purchased and sold on the same day in order to avoid
imposition of the 90-day freeze described in Sec. 220.8(c) of
Regulation T. In 1988, Board staff confirmed two statutory exceptions
to this general rule for transactions in mortgage-related securities
12 and exempted securities.13 Some broker-dealers comment
that customers should be able to net settle all transactions in a cash
account as long as the regulation states that day trading is not
permitted in that account. No changes are being proposed in this area
as allowing net settlement of all trades in the cash account would
complicate a creditor's ability to prevent free-riding in the cash
account.
\12\ FRRS 5-615.952.
\13\ FRRS 5-628.17.
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3. 90-Day Freeze
A customer who sells a security purchased in a cash account before
making full cash payment must have sufficient funds in the account by
trade date for any purchases during the next 90 days. This restriction
is known as the ``90-day freeze.'' One broker-dealer suggested the
freeze should not apply if the cash account holds marginable securities
with sufficient loan value to pay for the securities that have been
sold before having been paid for. This suggestion is contrary to the
nature of the cash account. A customer who contemplates the need for
credit to settle securities purchases should be using a margin account
and not a cash account.
Another broker-dealer believes the freeze should not apply if a
customer decides to liquidate a purchase made on a DVP basis when the
customer is ready to make full payment but the selling broker does not
make timely delivery and the security is otherwise unavailable. The
Board agrees that a customer should not be subject to the 90-day
restriction when it decides to liquidate a transaction that the
counterparty cannot complete.
C. Other Accounts
1. Arbitrage Account
Transactions effected in the arbitrage account are not subject to
Regulation T margin requirements. The SIA and a broker-dealer have
requested that the arbitrage account no longer require that the
transactions be entered into to take advantage of a concurrent
disparity in prices. However, elimination of the requirement that the
two transactions yield an immediate gain would expand this special
provision beyond those transactions which perform a market function by
bringing together the prices of securities or markets which should be
the same. Therefore no changes are being proposed to the arbitrage
account.
2. Broker-Dealer Credit Account
The broker-dealer credit account is normally available only for
broker-dealers.14 However, the brokerage industry has developed a
service known as ``prime brokerage'' in which a customer maintains a
cash and/or margin account with a ``prime broker'' to record
transactions executed at one or more executing brokers. Industry
practice has been for the executing broker to use the broker-dealer
credit account to record the transactions sent
[[Page 33768]]
to the prime broker (who enforces Regulation T vis-a-vis the customer).
After discussions with Board staff and an SIA committee, the SEC issued
a no action letter last year describing requirements that must be
followed in connection with prime brokerage.15 The Board is
proposing to add language to the broker-dealer credit account to
officially acknowledge its use in prime brokerage transactions.
\14\ As noted in the section on foreign broker-dealers, the
Board is proposing to allow foreign broker-dealers to use the
broker-dealer credit account when purchasing securities on a DVP
basis.
\15\ Letter of January 25, 1994, from Brandon Becker, Esq. to
Mr. Jeffrey C. Bernstein, reprinted in CCH Federal Securities Law
Reporter at para. 76,819.
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D. Other Transactions
1. Repurchase Agreements
A repurchase agreement from a broker-dealer's point of view may be
viewed as a borrowing by the creditor and should not generally be
covered by the Board's margin regulations as long as the security is
not subject to the restrictions imposed by section 8(a) of the Act. The
repurchase agreements addressed herein are reverse repurchase
agreements in which a customer sells a security to a creditor with an
agreement to repurchase from the creditor at a later time. Repurchase
agreements in government securities are permitted in the government
securities account created last year.16
\16\ See 59 FR 53565 (October 25, 1994).
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In addition to repurchase agreements on government securities the
PSA, SIA and several broker-dealers request an amendment that would
permit repurchase agreements on all fixed income securities with good
faith loan value, although the PSA acknowledges that it may be
appropriate to treat these transactions as margin loans. However,
broker-dealers traditionally require 20 percent margin when financing
nonexempted debt securities and do not lend the 100 percent implied in
structuring the transaction as a repurchase agreement. Although the PSA
acknowledges the resemblance between repurchase agreements and margin
loans, it states that practical problems make the cash account or a new
account more appropriate. Although the collection of margin from a
customer by a broker-dealer would seem to indicate that the transaction
is properly recorded in the margin account, the Board is soliciting
comment on the advisability of creating a new account for repurchase
agreements on securities other than government securities in which
margin would be collected as if the transaction were a conventional
margin loan. The PSA, SIA, and a law firm also request creation of a
new account to allow forward transactions, which are not permitted
under Regulation T unless the security is trading on a when-issued
basis or is a government or mortgage-related security. Comment is also
invited on the advisability of accommodating forward transactions
accompanied by the deposit required for a conventional margin loan in
an account other than a margin account.
The PSA and SIA would also like creditors to be able to effect
repurchase agreements on money market instruments that may not qualify
as securities. Such transactions are permissible in the nonsecurities
credit account as long as the proceeds are not used for purpose credit.
2. Two-Tiered Market
The SIA and several broker-dealers believe the Board should
establish an account or subaccount where creditors may effect and
finance all securities transactions on a good faith basis for customers
who meet some level of financial sophistication. In the past, the Board
has amended the arranging section of Regulation T to permit creditors
to arrange for certain types of credit for sophisticated
customers.17 No further relaxation of the regulation is being
proposed in this area at this time.
\17\ For example, the exemption in section 220.13(b) requires
that the sale of securities be effected pursuant to the SEC's
private placement exception from registration. Such sales must be
made to sophisticated investors.
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3. Use of Money Market Funds
As noted above,18 the Board is proposing to add money market
mutual funds to the list of cash equivalents available to cover a put
written in the cash account and give the fund shares good faith loan
value in a margin account. The SIA-Credit Division and two other
broker-dealers believe money market mutual funds should be treated as
cash without having to be liquidated. Although the Board recognizes
that money market shares are often viewed as cash equivalents, they are
not cash. A customer who is required to deposit cash pursuant to
Regulation T must liquidate the shares to realize cash.
\18\ See section I.A.2.b. on the cash account under options and
section III.A.2.b. on mutual funds above.
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IV. Broker-Dealer Transactions
A. Credit Extended to Other Broker-Dealers
1. All Broker-Dealers
The commenters were split on the question of whether broker-dealers
should continue to be treated as customers under Regulation T. The
principal argument in favor of special treatment for broker-dealers is
that they are subject to minimum net capital requirements that impose a
limit on leverage, albeit greater leverage than that permitted public
customers. The Board continues to believe special credit (i.e., lower
margin) is appropriate when broker-dealers perform a market function,
but is not proposing treatment that differs from that for public
customers for reasons of equity.
2. Specialists and Market-Makers
Regulation T permits special credit for broker-dealers performing a
market function. The Board is proposing clarifying language to the
provisions describing OTC market makers and third-market makers to
respond to questions that have arisen since the regulation was last
revised.
The SIA would like the Board to permit deficit financing of
specialists, eliminate restrictions on their permitted offsets and
eliminate the restriction in Sec. 220.12(b)(4) of Regulation T
concerning free-riding by specialists. As discussed in this preamble in
section I.A.2.c., the Board is proposing to allow any permitted offset
that is permissible under SEC-approved rules of the creditor's
examining authority. Although the Board supports the concept of good
faith credit for specialist transactions, deficit financing is a form
of unsecured credit, which is prohibited by section 7(c) of the
Act.19 The restriction on free-riding by specialists by its terms
does not apply to any specialist on an exchange that has an SEC-
approved rule on the same subject.
\19\ 15 U.S.C. 78g(c).
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One broker-dealer suggested expanding the definition of OTC market-
maker to include market makers of convertible bonds who post their
prices in the ``yellow sheets'' or deal in convertible bonds traded
pursuant to SEC Rule 144A.20 Convertible bonds are equity
securities under the Act 21 and the Board has designated
convertible bonds as OTC margin stock when they meet the criteria in
section 220.17 of Regulation T. OTC market-makers are registered with
NASDAQ as such and are required to engage in a certain level of market-
making, as are specialists. The Board does not permit good faith credit
for broker-dealers making a market in equity securities via the ``pink
sheets.'' Consistency argues against permitting such credit for broker-
dealers making a market in convertible bonds via the
[[Page 33769]]
``yellow sheets'' or those trading pursuant to SEC Rule 144A.
\20\ 17 CFR 230.144A.
\21\ Section 3(a)(11) of the Act (15 U.S.C. 78c(a)(11)) defines
equity security to include any security convertible into an equity
security.
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3. Joint Back Office Arrangements
Section 220.11(a)(2) of Regulation T allows broker-dealers to set
up a joint back office (JBO). The owners of the JBO are not considered
customers of the clearing organization and therefore no Regulation T
margin is required, although the clearing firm generally obtains the
appropriate securities haircut from its participants. When the JBO
section was adopted, the Board assumed there would be a reasonable
relationship between the creditors' ownership interests and the amount
of business conducted and did not adopt an explicit requirement for the
amount of ownership each broker-dealer should have in the JBO. Since
adoption of the provision, several stock exchanges have expressed
concern that JBOs are permitting credit far in excess of the
participant's interest. Much of the activity was attributed to index
options specialists seeking good faith financing for stock baskets,
which is not otherwise permitted under Regulation T. As discussed in
the section on the market functions account under options, the Board is
proposing to permit such financing under SEC-approved rules of the
exchanges and this change should reduce the pressure on JBOs to extend
credit greatly disproportionate to the amount of equity ownership.
Nevertheless, the Board is also proposing to state explicitly that the
participants' ownership interest in the JBO should be reasonably
related to the amount of business conducted through it. Three stock
exchanges and one other commenter support changes along these lines.
4. Credit to Other Types of Broker-Dealers
Several commenting broker-dealers suggest additional classes of
creditors that should be entitled to good faith credit. One broker-
dealer suggests creating a new category of broker-dealers entitled to
beneficial margin treatment that would be under some affirmative
obligation to add liquidity to the market but would not be required to
be present on the trading floor. The Board has traditionally allowed
good faith credit for specialists engaged in specialist transactions
and deferred to the SEC to determine who is a specialist under the Act.
It is unclear what the effect would be on specialists if other broker-
dealers with lesser market-making obligations were permitted good faith
credit on certain transactions.
The SIA-Credit Division believes that self-clearing broker-dealers
who choose to go through another broker-dealer should not be required
to post customer margin. Board staff has addressed this issue several
times 22 and reiterated that the treatment of a broker-dealer
depends on whether it clears the transaction itself and not whether it
could clear the transaction. In addition, a broker-dealer suggested
that affiliated broker-dealers should not be treated as customers.
Board staff has indicated that affiliated (sister) firms are treated as
customers 23 and no policy reasons for changing this have been
presented.
\22\ See, e.g., Staff Opinion of August 18, 1986, FRRS 5-621.16.
\23\ Staff Opinion of December 16, 1988, FRRS 5-621.18.
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B. Borrowing and Lending Securities
Section 220.16 of Regulation T covers the borrowing and lending of
securities. Securities may be borrowed or lent in connection with the
need to make delivery in short sales and fails to receive. The section
covers the borrowing and lending of all types of securities,24
including those with good faith loan value, and requires enumerated
types of collateral worth at least 100 percent of the market value of
the securities on a daily basis. Although stock loans are economically
equivalent to repurchase agreements, the former are based on the need
to make delivery and are not meant to be financing arrangements for the
owner of the securities being lent.25
\24\ The government securities account can be used to conduct
all types of permissible transactions involving government
securities, including borrowing and lending.
\25\ The Financial Accounting Standards Board (FASB) is
currently debating the differing treatment of repurchase agreements
and stock loans and has tentatively concluded that repurchase
agreements should be accounted for as collateralized borrowings if
the repurchase agreement entitles the party receiving financial
assets subject to repurchase to repledge them but not sell them.
Most securities lending transactions that entitle the party
receiving the financial assets to sell them would be accounted for
as sales. Staff plans to review the Regulation T treatment in this
area once FASB reaches a decision on the matter.
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1. Collateral
a. Foreign sovereign debt. In 1988, the Board amended Regulation T
to give good faith loan value to highly rated foreign sovereign bonds.
Shortly thereafter, Board staff indicated that these securities should
be acceptable as collateral for stock loans if the currency of the lent
security is the same as the sovereign bond.26 The Board is
proposing explicitly to add foreign sovereign bonds to the list of
collateral in Sec. 220.16 of Regulation T without restriction as to
currency. This change was supported by the SIA, SIA-Credit Division,
NYSE and several broker-dealers.
\26\ Staff Opinion of September 23, 1988, FRRS 5-615.15.
b. SEC customer protection rule. While Sec. 220.16 of Regulation T
covers all borrowing and lending of securities by creditors, the SEC's
customer protection rule 27 also applies if the creditor is
borrowing securities from its customer. Both rules specify permissible
types of collateral. In 1989 the SEC proposed expanding the types of
acceptable collateral specified in its rule 28 and its staff
issued a no action letter in the interim. Regulation T currently
expressly provides for all of these types of collateral, with the
exception of foreign sovereign debt, which is being proposed as part of
this package. To ensure that acceptable collateral under Sec. 220.16 of
Regulation T is always at least as broad as that required by the SEC
when creditors borrow securities from their customers, the Board is
proposing to refer to the SEC's customer protection rule in Sec. 220.16
of Regulation T.
\27\ SEC Rule 15c3-3, 17 CFR 240.15c3-3.
\28\ SEC Release No. 34-26608, 54 FR 10680 (March 15, 1989).
---------------------------------------------------------------------------
c. Other collateral. The SIA and a broker-dealer seek confirmation
that any freely convertible currency may be treated as cash collateral
for borrowings of securities. Although this may present a currency risk
not originally anticipated, the Board believes that this is
permissible, given that such loans are marked-to-market daily with
collateral equal to at least 100 percent of the market value of the
securities being borrowed.
Several commenters support expanding acceptable collateral to
include options or some or all types of marginable securities, while
the NYSE is opposed to this concept. Although the Board has gradually
expanded the types of acceptable collateral over the years, it has
always required collateral with high liquidity and low volatility.
2. Permitted Purposes
a. Pre-borrowing. Although Regulation T currently permits borrowing
of securities for short sales that have been effected or are in
immediate prospect, several commenters support the concept of ``pre-
borrowing,'' the borrowing of securities in anticipation of a short
sale that may or may not take place in the near future. Pre-borrowing
can lead to an attempt to ``squeeze'' the market for a security by
locking up all available shares and hindering the ability of others to
sell that security short.29
\29\ Board staff has indicated that a permissible alternative to
pre-borrowing is the payment of a commitment fee to a stock lender.
See staff opinion of October 22, 1990, FRRS 5-615.18.
[[Page 33770]]
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b. Dividend reinvestment and stock purchase plans. In addition to
pre-borrowing, commenters such as the NYSE and several broker-dealers
suggest that broker-dealers be permitted to borrow securities in order
to participate in an issuer's dividend reinvestment and stock purchase
plan. These plans allow dividends, and often additional funds, to be
used to purchase additional shares of the issuer, usually at a discount
from the current stock price. Board staff opinions and SEC enforcement
actions have made clear that Regulation T as currently written does not
permit the borrowing of securities for this purpose.30
\30\ Staff Opinions of March 2, 1984, FRRS 5-615.1 and July 6,
1984, FRRS 5-615.01; see also In re RFG Options, SEC Administrative
Proceeding File No. 3-6370, September 26, 1988.
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The Board is not proposing to include dividend reinvestment and
stock purchase plans as a permitted purpose for borrowing securities.
Permitting such borrowing would not be consistent with existing Board
policy concerning borrowing and lending securities. The Board has
permitted securities lending where it is needed for the smooth
operation of the securities markets, i.e. short sales and fails to
receive securities. This view was echoed by the Group of Thirty when
they recommended removing impediments to securities lending to allow
delivery of securities. Participation in dividend reinvestment and
stock purchase plans does not help the securities markets complete
transactions as broker-dealers do not actually want or need possession
of the securities. Nevertheless, in light of comments received
indicating that many issuers view these programs as a less costly means
of raising capital, the Board is soliciting comment on whether section
220.16 of Regulation T should be amended to accommodate these plans.
c. Other purposes. The PSA, SIA and a broker-dealer recommend
adding repurchase agreements to the list of permitted purposes. Since a
repurchase agreement represents the sale of a security with a promise
to repurchase it at a later date, a creditor who does not own the
security subject to the repurchase agreement is engaging in a short
sale and therefore may borrow the security pursuant to section 220.16
of Regulation T.31
\31\ As noted in footnote 29, all transactions involving
government securities may be effected in the government securities
account without regard to other provisions of Regulation T.
---------------------------------------------------------------------------
One broker-dealer believes institutions such as banks and insurance
companies should be able to borrow securities from a creditor if they
say it is for a permitted purpose. However, Regulation T and the U.S.
securities markets in general presume that the borrowing of securities
will be effected by the broker-dealer that executes the trade.
Permitting an entity other than a broker-dealer to borrow securities
for a transaction effected by a broker-dealer would permit
circumvention of the Board's margin requirements.
C. Borrowing by Creditors
All of the commenters addressing section 8(a) of the Act, which
limits the source of certain loans to broker-dealers to member banks
and some nonmember banks, support expansion of the types of lenders
described in section 8(a) or a reduction in the types of transactions
subject to the restriction. The SEC has recently exempted all listed
debt securities from the scope of section 8(a) of the Act,32 with
the result that only loans secured by exchange-traded equity securities
are still subject to the restriction.
\32\ SEC Rule 3a12-11, 17 CFR 240.3a12-11, published at 59 FR
55342, November 7, 1994.
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A wide variety of commenters recommend legislation be introduced to
loosen the restrictions of section 8(a). Such legislation is currently
pending in Congress.33
\33\ H.R. 1062, 104th Cong., 1st Sess.
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V. Section-by-Section Explanation of Proposed Changes
Section 220.2 Definitions
The following new definitions are being proposed: cash equivalent,
covered option transaction, exempted securities mutual fund, foreign
person, money market mutual fund, non-U.S. traded foreign security, and
permitted offset position. The following definitions would be modified:
escrow agreement, in the money, margin security, OTC margin bond, OTC
margin stock, short call or short put, and underlying security. The
definition of in or at the money would be deleted and SEC-approved
rules of the appropriate SRO would govern permitted offsets for
specialists.
Section 220.3 General Provisions
Section 220.3(e)(4), ``Receipt of funds or securities,'' is used by
creditors to temporarily finance the exercise of a customer's employee
stock option. The section would be reworded to permit such short-term
financing for anyone entitled to receive or acquire any securities
pursuant to an SEC-registered employee benefit plan.
Section 220.3(i), ``Variable annuity contracts issued by insurance
companies,'' would be deleted, although no substantive change is
intended.
Section 220.4 Margin Account
Section 220.4(b) would contain all provisions of section 220.5,
except for those covering specific options transactions. The options
provisions would be deleted and SEC-approved rules of the SROs would
apply to these transactions.
Section 220.4(c) would no longer prohibit a margin excess in a
foreign currency subaccount from offsetting a margin deficiency in
another foreign currency subaccount.
Section 220.5 Special Memorandum Account
This account would be moved from section 220.6. No substantive
changes are proposed.
Section 220.6 Government Securities Account
This account would be moved from section 220.18. No substantive
changes are proposed.
Section 220.8 Cash Account
Section 220.8(a), Permissible transactions,'' would be amended in
two ways. First, the cash account would recognize industry practice and
specifically permit the sale to a customer of any asset on a cash
basis. Second, the covered options transactions permitted under section
220.8(a)(3) would be broadened to include any eligible transaction
designated by the SEC-approved rules of the SROs.
Section 220.8(b), ``Time periods for payment; cancellation or
liquidation,'' would permit creditors to accept full cash payment from
customers for the purchase of foreign securities up to one day after
the regular way settlement date.
Section 220.11 Broker-Dealer Credit Account
Three substantive changes are being proposed to section 220.11(a),
``Permissible transactions.'' First, foreign broker-dealers would be
permitted to use the account for delivery-versus-payment transactions
with U.S. broker-dealers. Second, joint back office arrangements would
require a reasonable relationship between the owners' equity interest
and the amount of business effected or financed by the joint back
office. Third, ``prime broker'' arrangements set up under SEC
guidelines would be able to use this
[[Page 33771]]
account for transactions effected at executing broker-dealers.
Section 220.12 Market Functions Account
Section 220.12(b), ``Specialists,'' would be amended to allow SEC-
approved rules of the SROs to determine which permitted offsets can be
effected on a good faith basis.
Section 220.13 Arranging for Loans by Others
Changes are proposed for this section in two areas. First, the
provision allowing U.S. broker-dealers to arrange for customers to
obtain credit from a foreign lender to purchase foreign securities
would be expanded to cover short sales while the overall coverage of
this provision would be limited to foreign securities that are not
publicly traded in the United States. Second, the regulation would
explicitly permit U.S. broker-dealers to sell its customers foreign
securities with installment features if the offering has only a small
U.S. component.
Section 220.16 Borrowing and Lending Securities
Two changes are proposed for this section. First, the required
collateral would be expanded to include marginable foreign sovereign
debt securities and any collateral that is acceptable to the SEC when a
broker-dealer borrows securities from its customer. Second, U.S.
broker-dealers would be able to lend foreign securities to a foreign
person for any legal purpose and against any legal collateral.
Section 220.18 Supplement: Margin Requirements
Several changes are being proposed. Options would be given fifty
percent loan value if listed on a national securities exchange. Mutual
funds whose portfolio is limited to exempted securities would be given
good faith loan value, as would money market mutual funds.
VI. Regulatory Flexibility Act
The Board believes there will be no significant economic impact on
a substantial number of small entities if this proposal is adopted.
Comments are invited on this statement.
VII. Paperwork Reduction Act
No additional reporting requirements or modification to existing
reporting requirements are proposed.
List of Subjects in 12 CFR Part 220
Banks, banking, Bonds, Brokers, Credit, Federal Reserve System,
Margin, Margin requirements, Investment companies, Investments,
Reporting and recordkeeping requirements, Securities.
For the reasons set out in the preamble, the Board proposes to
amend 12 CFR Part 220 as follows:
PART 220--CREDIT BY BROKERS AND DEALERS (REGULATION T)
1. The authority citation for Part 220 continues to read as
follows:
Authority: 15 U.S.C. 78c, 78g, 78h, 78q, and 78w.
2. The table of contents for part 220 is amended by revising the
entries for Secs. 220.1-220.18 and renaming the entry for Sec. 220.19
to read as follows:
Sec.
220.1 Authority, purpose, and scope.
220.2 Definitions.
220.3 General provisions.
220.4 Margin account.
220.5 Special memorandum account.
220.6 Government securities account.
220.7 Arbitrage account.
220.8 Cash account.
220.9 Nonsecurities credit and employee stock ownership account.
220.10 Omnibus account.
220.11 Broker-dealer credit account.
220.12 Market functions account.
220.13 Arranging for loans by others.
220.14 Clearance of securities, options, and futures.
220.15 Borrowing by creditors.
220.16 Borrowing and lending securities.
220.17 Requirements for the list of marginable OTC stocks and the
list of foreign margin stocks.
220.18 Supplement: Margin requirements.
* * * * *
3. Sections 220.1 through 220.18 are revised to read as follows:
Sec. 220.1 Authority, purpose, and scope.
(a) Authority and purpose. Regulation T (this part) is issued by
the Board of Governors of the Federal Reserve System (the Board)
pursuant to the Securities Exchange Act of 1934 (the Act) (15 U.S.C.
78a et seq.). Its principal purpose is to regulate extensions of credit
by and to brokers and dealers; it also covers related transactions
within the Board's authority under the Act. It imposes, among other
obligations, initial margin requirements and payment rules on
securities transactions.
(b) Scope. (1) This part provides a margin account and eight
special purpose accounts in which to record all financial relations
between a customer and a creditor. Any transaction not specifically
permitted in a special account shall be recorded in a margin account.
(2) This part does not preclude any exchange, national securities
association, or creditor from imposing additional requirements or
taking action for its own protection.
(3) This part does not apply to transactions between a customer and
a broker or dealer registered only under section 15C of the Act.
Sec. 220.2 Definitions.
The terms used in this part have the meanings given them in section
3(a) of the Act or as defined in this section.
Cash equivalent means securities issued or guaranteed by the United
States or its agencies, negotiable bank certificates of deposit,
bankers acceptances issued by banking institutions in the United States
and payable in the United States, or money market mutual funds.
Covered option transaction means:
(1) In the case of a short call, the underlying security (or a
security immediately convertible into the underlying security, without
the payment of money) is held in or purchased for the account on the
same day, and the option premium is held in the account until cash
payment for the underlying or convertible security is received; or
(2) In the case of a short put, the creditor obtains cash in an
amount equal to the exercise price or holds in the account cash
equivalents with a current market value at least equal to the exercise
price and with one year or less to maturity; or
(3) Any other transaction involving options or warrants in which
the customer's risk is limited to a fixed amount and is not subject to
early exercise if:
(i) The amount at risk is held in the account in cash, cash
equivalents, or via an escrow receipt; and
(ii) The transaction has been defined as eligible for the cash
account by the rules of the registered national securities exchange
authorized to trade the option or warrant, provided that all such rules
have been approved or amended by the SEC.
Credit balance means the cash amount due the customer in a margin
account after debiting amounts transferred to the special memorandum
account.
Creditor means any broker or dealer (as defined in sections 3(a)(4)
and 3(a)(5) of the Act), any member of a national securities exchange,
or any person associated with a broker or dealer (as defined in section
3(a)(18) of the Act), except for business entities controlling or under
common control with the creditor.
Customer includes:
(1) Any person or persons acting jointly:
[[Page 33772]]
(i) To or for whom a creditor extends, arranges, or maintains any
credit; or
(ii) Who would be considered a customer of the creditor according
to the ordinary usage of the trade;
(2) Any partner in a firm who would be considered a customer of the
firm absent the partnership relationship; and
(3) Any joint venture in which a creditor participates and which
would be considered a customer of the creditor if the creditor were not
a participant.
Debit balance means the cash amount owed to the creditor in a
margin account after debiting amounts transferred to the special
memorandum account.
Delivery against payment, Payment against delivery, or a C.O.D.
transaction refers to an arrangement under which a creditor and a
customer agree that the creditor will deliver to, or accept from, the
customer, or the customer's agent, a security against full payment of
the purchase price.
Equity means the total current market value of security positions
held in the margin account plus any credit balance less the debit
balance in the margin account.
Escrow agreement means any agreement issued in connection with a
call or put option under which a bank or any person designated as a
control location under paragraph (c) of SEC Rule 15c3-3 (17 CFR
240.15c3-3), holding the underlying security, foreign currency,
certificate of deposit, or required cash, is obligated to deliver to
the creditor (in the case of a call option) or accept from the creditor
(in the case of a put option) the underlying security, foreign
currency, or certificate of deposit against payment of the exercise
price upon exercise of the call or put.
Examining authority means:
(1) The national securities exchange or national securities
association of which a creditor is a member; or
(2) If a member of more than one self-regulatory organization, the
organization designated by the SEC as the examining authority for the
creditor.
Exempted securities mutual fund means any security issued by an
investment company registered under section 8 of the Investment Company
Act of 1940 (15 U.S.C. 80a-8), provided the company has at least 95
percent of its assets continuously invested in exempted securities (as
defined in section 3(a)(12) of the Act).
Foreign margin stock means: (1) A foreign security that is an
equity security and that appears on the Board's periodically published
List of Foreign Margin Stocks based on information submitted by a self-
regulatory organization under procedures approved by the Board. Foreign
person means a person other than a United States person as defined in
section 7(f) of the Act.
Foreign security means a security issued in a jurisdiction other
than the United States.
Good faith margin means the amount of margin which a creditor,
exercising sound credit judgment, would customarily require for a
specified security position and which is established without regard to
the customer's other assets or securities positions held in connection
with unrelated transactions.
In the money means the current market price of the underlying
security or index is not below (with respect to a call option) or above
(with respect to a put option) the exercise price of the option.
Margin call means a demand by a creditor to a customer for a
deposit of additional cash or securities to eliminate or reduce a
margin deficiency as required under this part.
Margin deficiency means the amount by which the required margin
exceeds the equity in the margin account.
Margin excess means the amount by which the equity in the margin
account exceeds the required margin. When the margin excess is
represented by securities, the current value of the securities is
subject to the percentages set forth in Sec. 220.18 (Supplement: Margin
requirements).
Margin security means:
(1) Any registered security;
(2) Any OTC margin stock;
(3) Any OTC margin bond;
(4) Any OTC security designated as qualified for trading in the
National Market System under a designation plan approved by the
Securities and Exchange Commission (NMS security);
(5) Any security issued by either an open-end investment company or
unit investment trust which is registered under section 8 of the
Investment Company Act of 1940 (15 U.S.C. 80a-8);
(6) Any foreign margin stock; or
(7) Any debt security convertible into a margin security.
Money market mutual fund means any security issued by an investment
company registered under section 8 of the Investment Company Act of
1940 (15 U.S.C. 80a-8) that is considered a money market fund under SEC
Rule 2a-7 (17 CFR 270.2a-7).
Nonexempted security means any security other than an exempted
security (as defined in section 3(a)(12) of the Act).
Nonmember bank means a bank that is not a member of the Federal
Reserve System.
Non-U.S. traded foreign security means a foreign security that is
neither a registered security nor one listed on NASDAQ.
OTC margin bond means:
(1) A debt security not traded on a national securities exchange
which meets all of the following requirements:
(i) At the time of the original issue, a principal amount of not
less than $25,000,000 of the issue was outstanding;
(ii) The issue was registered under section 5 of the Securities Act
of 1933(15 U.S.C. 77e) and the issuer either files periodic reports
pursuant to section 13(a) or 15(d) of the Act or is an insurance
company which meets all of the conditions specified in section
12(g)(2)(G) of the Act; and
(iii) At the time of the extension of credit, the creditor has a
reasonable basis for believing that the issuer is not in default on
interest or principal payments; or
(2) A private pass-through security (not guaranteed by an agency of
the U.S. government) meeting all of the following requirements:
(i) An aggregate principal amount of not less than $25,000,000
(which maybe issued in series) was issued pursuant to a registration
statement filed with the SEC under section 5 of the Securities Act of
1933 (15 U.S.C. 77e);
(ii) Current reports relating to the issue have been filed with the
SEC; and
(iii) At the time of the credit extension, the creditor has a
reasonable basis for believing that mortgage interest, principal
payments and other distributions are being passed through as required
and that the servicing agent is meeting its material obligations under
the terms of the offering; or
(3) A mortgage related security as defined in section 3(a)(41) of
the Act; or
(4) A debt security issued or guaranteed as a general obligation by
the government of a foreign country, its provinces, states, or cities,
or a supranational entity, if at the time of the extension of credit
one of the following is rated in one of the two highest rating
categories by a nationally recognized statistical rating organization:
(i) The issue;
(ii) The issuer or guarantor (implicitly); or
(iii) Other outstanding unsecured long-term debt securities issued
or guaranteed by the government or entity; or
(5) A foreign security that is a nonconvertible debt security that
meets all of the following requirements:
(i) At the time of original issue, a principal amount of at least
$100,000,000 was outstanding;
(ii) At the time of the extension of credit, the creditor has a
reasonable
[[Page 33773]]
basis for believing that the issuer is not in default on interest or
principal payments; and
(iii) At the time of the extension of credit, the issue is rated in
one of the two highest rating categories by a nationally recognized
statistical rating organization, except that an issue that has not been
rated as of the effective date of this provision shall be considered an
OTC margin bond if a subsequent unsecured issue of at least
$100,000,000 of the same issuer is rated in one of the two highest
rating categories by a nationally recognized statistical rating
organization.
OTC margin stock means any equity security traded over-the-counter
that the Board has determined has the degree of national investor
interest, the depth and breadth of market, the availability of
information respecting the security and its issuer, and the character
and permanence of the issuer to warrant being treated like an equity
security traded on a national securities exchange. An OTC stock is not
considered to be an OTC margin stock unless it appears on the Board's
periodically published list of OTC margin stocks.
Overlying option means:
(1) A put option purchased or a call option written against a long
position in an underlying security in the specialist record in
Sec. 220.12(b); or
(2) A call option purchased or a put option written against a short
position in an underlying security in the specialist record in
Sec. 220.12(b).
Payment period means the number of business days in the standard
securities settlement cycle in the United States, as defined in
paragraph (a) of SEC Rule 15c6-1 (17 CFR 240.15c6-1), plus two business
days.
Permitted offset position means a position in securities or other
assets underlying options in which a specialist makes a market or a
position in options overlying the securities in which a specialist
makes a market, provided the positions qualify as permitted offsets
under the rules of the national securities exchange with which the
specialist is registered, provided that all such rules have been
approved or amended by the SEC.
Purpose credit means credit for the purpose of:
(1) Buying, carrying, or trading in securities; or
(2) Buying or carrying any part of an investment contract security
which shall be deemed credit for the purpose of buying or carrying the
entire security.
Registered security means any security that:
(1) Is registered on a national securities exchange; or
(2) Has unlisted trading privileges on a national securities
exchange.
Short call or short put means a call option or a put option that is
issued, endorsed, guaranteed or sold in or for an account.
(1) A short call that is not cash-settled obligates the customer to
sell the underlying asset at the exercise price upon receipt of a valid
exercise notice.
(2) A short put that is not cash-settled obligates the customer to
purchase the underlying asset at the exercise price upon receipt of a
valid exercise notice.
(3) A short call or a short put that is cash-settled obligates the
customer to pay the holder of an in the money long put or call who has
exercised the option the cash difference between the exercise price and
the current assigned value of the option as established by the option
contract.
Specialist joint account means an account which, by written
agreement, provides for the commingling of the security positions of
the participants and a sharing of profits and losses from the account
on some predetermined ratio.
Underlying security means:
(1) the security that will be delivered upon exercise of an option;
or
(2) In the case of a cash-settled option, the securities which
comprise the index in the same proportion or any other asset from which
the option's value is derived.
Sec. 220.3 General provisions.
(a) Records. The creditor shall maintain a record for each account
showing the full details of all transactions.
(b) Separation of accounts. Except as provided for in the margin
account and the special memorandum account, the requirements of an
account may not be met by considering items in any other account. If
withdrawals of cash or securities are permitted under the regulation,
written entries shall be made when cash or securities are used for
purposes of meeting requirements in another account.
(c) Maintenance of credit. Except as prohibited by this part, any
credit initially extended in compliance with this part may be
maintained regardless of:
(1) Reductions in the customer's equity resulting from changes in
market prices;
(2) Any security in an account ceasing to be margin or exempted; or
(3) Any change in the margin requirements prescribed under this
part.
(d) Guarantee of accounts. No guarantee of a customer's account
shall be given any effect for purposes of this part.
(e) Receipt of funds or securities. (1) A creditor, acting in good
faith, may accept as immediate payment:
(i) Cash or any check, draft, or order payable on presentation; or
(ii) Any security with sight draft attached.
(2) A creditor may treat a security, check or draft as received
upon written notification from another creditor that the specified
security, check, or draft has been sent.
(3) Upon notification that a check, draft, or order has been
dishonored or when securities have not been received within a
reasonable time, the creditor shall take the action required by this
part when payment or securities are not received on time.
(4) To temporarily finance a customer's receipt of stock pursuant
to an employee benefit plan registered on SEC Form S-8, a creditor may
accept, in lieu of the securities, a properly executed exercise notice
and instructions to the issuer to deliver the stock to the creditor.
Prior to acceptance, the creditor must verify that the issuer will
deliver the securities promptly and the customer must designate the
account into which the securities are to be deposited.
(f) Exchange of securities. (1) To enable a customer to participate
in an offer to exchange securities which is made to all holders of an
issue of securities, a creditor may submit for exchange any securities
held in a margin account, without regard to the other provisions of
this part, provided the consideration received is deposited into the
account.
(2) If a nonmargin, nonexempted security is acquired in exchange
for a margin security, its retention, withdrawal, or sale within 60
days following its acquisition shall be treated as if the security is a
margin security.
(g) Valuing securities. The current market value of a security
shall be determined as follows:
(1) Throughout the day of the purchase or sale of a security, the
creditor shall use the security's total cost of purchase or the net
proceeds of its sale including any commissions charged.
(2) At any other time, the creditor shall use the closing sale
price of the security on the preceding business day, as shown by any
regularly published reporting or quotation service. If there is no
closing price, the creditor may use any reasonable estimate of the
market value of the security as of the close of business on the
preceding business day.
[[Page 33774]]
(h) Innocent mistakes. If any failure to comply with this part
results from a mistake made in good faith in executing a transaction or
calculating the amount of margin, the creditor shall not be deemed in
violation of this part if, promptly after the discovery of the mistake,
the creditor takes appropriate corrective action.
Sec. 220.4 Margin account.
(a) Margin transactions. (1) All transactions not specifically
authorized for inclusion in another account shall be recorded in the
margin account.
(2) A creditor may establish separate margin accounts for the same
person to:
(i) Clear transactions for other creditors where the transactions
are introduced to the clearing creditor by separate creditors; or
(ii) Clear transactions through other creditors if the transactions
are cleared by separate creditors; or
(iii) Provide one or more accounts over which the creditor or a
third party investment adviser has investment discretion.
(b) Required margin--(1) Applicability. The required margin for
each long or short position in securities is set forth in Sec. 220.18
(Supplement: Margin requirements) and is subject to the following
exceptions and special provisions.
(2) Short sale against the box. A short sale ``against the box''
shall be treated as a long sale for the purpose of computing the equity
and the required margin.
(3) When issued securities. The required margin on a net long or
net short commitment in a when issued security is the margin that would
be required if the security were an issued margin security, plus any
unrealized loss on the commitment or less any unrealized gain.
(4) Stock used as cover. (i) When a short position held in the
account serves in lieu of the required margin for a short put, the
amount prescribed by paragraph (b)(1) of this section as the amount to
be added to the required margin in respect of short sales shall be
increased by any unrealized loss on the position.
(ii) When a security held in the account serves in lieu of the
required margin for a short call, the security shall be valued at no
greater than the exercise price of the short call.
(5) Accounts of partners. If a partner of the creditor has a margin
account with the creditor, the creditor shall disregard the partner's
financial relations with the firm (as shown in the partner's capital
and ordinary drawing accounts) in calculating the margin or equity of
the partner's margin account.
(6) Contribution to joint venture. If a margin account is the
account of a joint venture in which the creditor participates, any
interest of the creditor in the joint account in excess of the interest
which the creditor would have on the basis of its right to share in the
profits shall be treated as an extension of credit to the joint account
and shall be margined as such.
(7) Transfer of accounts. (i) A margin account that is transferred
from one creditor to another may be treated as if it had been
maintained by the transferee from the date of its origin, if the
transferee accepts, in good faith, a signed statement of the transferor
(or, if that is not practicable, of the customer), that any margin call
issued under this part has been satisfied.
(ii) A margin account that is transferred from one customer to
another as part of a transaction, not undertaken to avoid the
requirements of this part, may be treated as if it had been maintained
for the transferee from the date of its origin, if the creditor accepts
in good faith and keeps with the transferee account a signed statement
of the transferor describing the circumstances for the transfer.
(8) Credit denominated in foreign currency. A creditor may extend
credit denominated in a foreign currency secured by foreign margin
securities denominated or traded in the same foreign currency and
specifically identified on the creditor's books and records as securing
the foreign currency debit.
(c) When additional margin is required--(1) Computing deficiency.
All transactions on the same day shall be combined to determine whether
additional margin is required by the creditor. For the purpose of
computing equity in an account, security positions are established or
eliminated and a credit or debit created on the trade date of a
security transaction. Additional margin is required on any day when the
day's transactions create or increase a margin deficiency in the
account and shall be for the amount of the margin deficiency so created
or increased.
(2) Satisfaction of deficiency. The additional required margin may
be satisfied by a transfer from the special memorandum account or by a
deposit of cash, margin securities, exempted securities, or any
combination thereof.
(3) Time limits. (i) A margin call shall be satisfied within one
payment period after the margin deficiency was created or increased.
(ii) The payment period may be extended for one or more limited
periods upon application by the creditor to its examining authority
unless the examining authority believes that the creditor is not acting
in good faith or that the creditor has not sufficiently determined that
exceptional circumstances warrant such action. Applications shall be
filed and acted upon prior to the end of the payment period or the
expiration of any subsequent extension.
(4) Satisfaction restriction. Any transaction, position, or deposit
that is used to satisfy one requirement under this part shall be
unavailable to satisfy any other requirement.
(d) Liquidation in lieu of deposit. If any margin call is not met
in full within the required time, the creditor shall liquidate
securities sufficient to meet the margin call or to eliminate any
margin deficiency existing on the day such liquidation is required,
whichever is less. If the margin deficiency created or increased is
$1000 or less, no action need be taken by the creditor.
(e) Withdrawals of cash or securities. (1) Cash or securities may
be withdrawn from an account, except if:
(i) Additional cash or securities are required to be deposited into
the account for a transaction on the same or a previous day; or
(ii) The withdrawal, together with other transactions, deposits,
and withdrawals on the same day, would create or increase a margin
deficiency.
(2) Margin excess may be withdrawn or may be transferred to the
special memorandum account (Sec. 220.5) by making a single entry to
that account which will represent a debit to the margin account and a
credit to the special memorandum account.
(3) If a creditor does not receive a distribution of cash or
securities which is payable with respect to any security in a margin
account on the day it is payable and withdrawal would not be permitted
under paragraph, (e) of this section, a withdrawal transaction shall be
deemed to have occurred on the day the distribution is payable.
(f) Interest, service charges, etc. (1) Without regard to the other
provisions of this section, the creditor, in its usual practice, may
debit the following items to a margin account if they are considered in
calculating the balance of such account:
(i) Interest charged on credit maintained in the margin account;
(ii) Premiums on securities borrowed in connection with short sales
or to effect delivery;
(iii) Dividends, interest, or other distributions due on borrowed
securities;
(iv) Communication or shipping charges with respect to transactions
in the margin account; and
[[Page 33775]]
(v) Any other service charges which the creditor may impose.
(2) A creditor may permit interest, dividends, or other
distributions credited to a margin account to be withdrawn from the
account if:
(i) The withdrawal does not create or increase a margin deficiency
in the account; or
(ii) The current market value of any securities withdrawn does not
exceed 10 percent of the current market value of the security with
respect to which they were distributed.
Sec. 220.5 Special memorandum account.
(a) A special memorandum account (SMA) may be maintained in
conjunction with a margin account. A single entry amount may be used to
represent both a credit to the SMA and a debit to the margin account. A
transfer between the two accounts may be effected by an increase or
reduction in the entry. When computing the equity in a margin account,
the single entry amount shall be considered as a debit in the margin
account. A payment to the customer or on the customer's behalf or a
transfer to any of the customer's other accounts from the SMA reduces
the single entry amount.
(b) The SMA may contain the following entries:
(1) Dividend and interest payments;
(2) Cash not required by this part, including cash deposited to
meet a maintenance margin call or to meet any requirement of a self-
regulatory organization that is not imposed by this part;
(3) Proceeds of a sale of securities or cash no longer required on
any expired or liquidated security position that may be withdrawn under
Sec. 220.4(e); and
(4) Margin excess transferred from the margin account under
Sec. 220.4(e)(2).
Sec. 220.6 Government securities account.
In a government securities account, a creditor may effect and
finance transactions involving government securities, provided the
transaction is not prohibited by section 15C of the Act or any rule
thereunder.
Sec. 220.7 Arbitrage account.
In an arbitrage account a creditor may effect and finance for any
customer bona fide arbitrage transactions. For the purpose of this
section, the term ``bona fide arbitrage'' means:
(a) A purchase or sale of a security in one market together with an
offsetting sale or purchase of the same security in a different market
at as nearly the same time as practicable for the purpose of taking
advantage of a difference in prices in the two markets; or
(b) A purchase of a security which is, without restriction other
than the payment of money, exchangeable or convertible within 90
calendar days of the purchase into a second security together with an
offsetting sale of the second security at or about the same time, for
the purpose of taking advantage of a concurrent disparity in the prices
of the two securities.
Sec. 220.8 Cash account.
(a) Permissible transactions. In a cash account, a creditor, may:
(1) Buy for or sell to any customer any security or other asset if:
(i) There are sufficient funds in the account; or
(ii) The creditor accepts in good faith the customer's agreement
that the customer will promptly make full cash payment for the security
or asset before selling it and does not contemplate selling it prior to
making such payment;
(2) Buy from or sell for any customer any security or other asset
if:
(i) The security is held in the account; or
(ii) The creditor accepts in good faith the customer's statement
that the security is owned by the customer or the customer's principal,
and that it will be promptly deposited in the account;
(3) Issue, endorse, guarantee, or sell an option for any customer
as part of a covered option transaction; and
(4) Use an escrow agreement in lieu of the cash or underlying
security position if:
(i) In the case of a short call or a short put, the creditor is
advised by the customer that the required securities or cash are held
by a person authorized to issue an escrow agreement and the creditor
independently verifies that the appropriate escrow agreement will be
delivered by the person promptly; or
(ii) In the case of a call issued, endorsed, guaranteed, or sold on
the same day the underlying security is purchased in the account and
the underlying security is to be delivered to a person authorized to
issue an escrow agreement, the creditor verifies that the appropriate
escrow agreement will be delivered by the person promptly.
(b) Time periods for payment; cancellation or liquidation--(1) Full
cash payment. A creditor shall obtain full cash payment for customer
purchases--
(i) Within one payment period of the date:
(A) Any nonexempted security was purchased;
(B) Any when issued security was made available by the issuer for
delivery to purchasers;
(C) Any ``when distributed'' security was distributed under a
published plan;
(D) A security owned by the customer has matured or has been
redeemed and a new refunding security of the same issuer has been
purchased by the customer, provided:
(1) The customer purchased the new security no more than 35
calendar days prior to the date of maturity or redemption of the old
security;
(2) The customer is entitled to the proceeds of the redemption; and
(3) The delayed payment does not exceed 103 percent of the proceeds
of the old security.
(ii) In the case of the purchase of a foreign security, within one
payment period of the trade date or within one day after the date on
which settlement is required to occur by the rules of the foreign
securities market, provided this period does not exceed the maximum
time permitted by this part for delivery against payment transactions.
(2) Delivery against payment. If a creditor purchases for or sells
to a customer a security in a delivery against payment transaction, the
creditor shall have up to 35 calendar days to obtain payment if
delivery of the security is delayed due to the mechanics of the
transaction and is not related to the customer's willingness or ability
to pay.
(3) Shipment of securities, extension. If any shipment of
securities is incidental to consummation of a transaction, a creditor
may extend the payment period by the number of days required for
shipment, but not by more than one additional payment period.
(4) Cancellation; liquidation; minimum amount. A creditor shall
promptly cancel or otherwise liquidate a transaction or any part of a
transaction for which the customer has not made full cash payment
within the required time. A creditor may, at its option, disregard any
sum due from the customer not exceeding $1000.
(c) 90 day freeze. (1) If a nonexempted security in the account is
sold or delivered to another broker or dealer without having been
previously paid for in full by the customer, the privilege of delaying
payment beyond the trade date shall be withdrawn for 90 calendar days
following the date of sale of the security. Cancellation of the
transaction other than to correct an error shall constitute a sale.
(2) The 90 day freeze shall not apply if:
(i) Within the period specified in paragraph (b)(1) of this
section, full payment is received or any check or draft in payment has
cleared and the proceeds from the sale are not withdrawn prior to such
payment or check clearance; or
[[Page 33776]]
(ii) The purchased security was delivered to another broker or
dealer for deposit in a cash account which holds sufficient funds to
pay for the security. The creditor may rely on a written statement
accepted in good faith from the other broker or dealer that sufficient
funds are held in the other cash account.
(d) Extension of time periods; transfers. (1) Unless the creditor's
examining authority believes that the creditor is not acting in good
faith or that the creditor has not sufficiently determined that
exceptional circumstances warrant such action, it may upon application
by the creditor:
(i) Extend any period specified in paragraph (b) of this section;
(ii) Authorize transfer to another account of any transaction
involving the purchase of a margin or exempted security; or
(iii) Grant a waiver from the 90 day freeze.
(2) Applications shall be filed and acted upon prior to the end of
the payment period, or in the case of the purchase of a foreign
security within the period specified in paragraph (b)(1)(ii) of this
section, or the expiration of any subsequent extension.
Sec. 220.9 Nonsecurities credit and employee stock ownership account.
(a) In a nonsecurities credit account a creditor may:
(1) Effect and carry transactions in commodities;
(2) Effect and carry transactions in foreign exchange;
(3) Extend and maintain secured or unsecured nonpurpose credit,
subject to the requirements of paragraph (b) of this section; and
(4) Extend and maintain credit to employee stock ownership plans
without regard to the other sections of this part.
(b) Every extension of credit, except as provided in paragraphs
(a)(1) and (a)(2) of this section, shall be deemed to be purpose credit
unless, prior to extending the credit, the creditor accepts in good
faith from the customer a written statement that it is not purpose
credit. The statement shall conform to the requirements established by
the Board. To accept the customer's statement in good faith, the
creditor shall be aware of the circumstances surrounding the extension
of credit and shall be satisfied that the statement is truthful.
Sec. 220.10 Omnibus account.
(a) In an omnibus account, a creditor may effect and finance
transactions for a broker or dealer who is registered with the SEC
under section 15 of the Act and who gives the creditor written notice
that:
(1) All securities will be for the account of customers of the
broker or dealer; and
(2) Any short sales effected will be short sales made on behalf of
the customers of the broker or dealer other than partners.
(b) The written notice required by paragraph (a) shall conform to
any SEC rule on the hypothecation of customers' securities by brokers
or dealers.
Sec. 220.11 Broker-dealer credit account.
(a) Permissible transactions. In a broker-dealer credit account, a
creditor may:
(1) Purchase any security from or sell any security to another
creditor or person regulated by a foreign securities authority under a
good faith agreement to promptly deliver the security against full
payment of the purchase price.
(2) Effect or finance transactions of any of its owners if the
creditor is a clearing and servicing broker or dealer owned jointly or
individually by other creditors, provided that the owners' interest is
reasonably related to the amount of business they transact through the
joint back office.
(3) Extend and maintain credit to any partner or stockholder of the
creditor for the purpose of making a capital contribution to, or
purchasing stock of, the creditor, affiliated corporation or another
creditor.
(4) Extend and maintain, with the approval of the appropriate
examining authority:
(i) Credit to meet the emergency needs of any creditor; or
(ii) Subordinated credit to another creditor for capital purposes,
if the other creditor:
(A) Is an affiliated corporation or would not be considered a
customer of the lender apart from the subordinated loan; or
(B) Will not use the proceeds of the loan to increase the amount of
dealing in securities for the account of the creditor, its firm or
corporation or an affiliated corporation.
(5) Effect transactions for a customer as part of a ``prime
broker'' arrangement in conformity with SEC guidelines.
(b) Affiliated corporations. For purposes of paragraphs (a)(3) and
(a)(4) of this section ``affiliated corporation'' means a corporation
all the common stock of which is owned directly or indirectly by the
firm or general partners and employees of the firm, or by the
corporation or holders of the controlling stock and employees of the
corporation and the affiliation has been approved by the creditor's
examining authority.
Sec. 220.12 Market functions account.
(a) Requirements. In a market functions account, a creditor may
effect or finance the transactions of market participants in accordance
with the following provisions. A separate record shall be kept for the
transactions specified for each category described in paragraphs (b)
through (e) of this section. Any position in a separate record shall
not be used to meet the requirements of any other category.
(b) Specialists--(1) Applicability. A creditor may clear or finance
specialist transactions and permitted offset positions for any
specialist, or any specialist joint account, in which all participants,
or all participants other than the creditor, are registered as
specialists on a national securities exchange that requires regular
reports on the use of specialist credit from the registered
specialists.
(2) Required margin. The required margin for a specialist's
transactions shall be:
(i) Good faith margin for:
(A) Any long or short position in a security in which the
specialist makes a market;
(B) Any wholly-owned margin security or exempted security; or
(C) Any permitted offset position.
(ii) The margin prescribed by Sec. 220.18 (Supplement: Margin
requirements) when a security purchased or sold short in the account
does not qualify as a specialist or permitted offset position.
(3) Additional margin; restriction on ``free-riding''. (i) Except
as required by paragraph (b)(4) of this section, the creditor shall
issue a margin call on any day when additional margin is required as a
result of specialist transactions. The creditor may allow the
specialist a maximum of one payment period to satisfy a margin call.
(ii) If a specialist fails to satisfy a margin call within the
period specified in paragraph (b)(3) of this section (and the creditor
is required to liquidate securities to satisfy the call), the creditor
shall be prohibited for a 15 calendar day period from extending any
further credit to the specialist to finance transactions in
nonspecialty securities.
(iii) The restriction on ``free-riding'' shall not apply to:
(A) Any specialist on a national securities exchange that has an
SEC-approved rule on ``free-riding'' by specialists; or
(B) The acquisition or liquidation of a permitted offset position.
(4) Deficit status. On any day when a specialist's separate record
would
[[Page 33777]]
liquidate to a deficit, the creditor shall not extend any further
specialist credit in the account and shall issue a margin call at least
as large as the deficit. If the call is not met by noon of the
following business day, the creditor shall liquidate positions in the
specialist's account.
(5) Withdrawals. Withdrawals may be permitted to the extent that
the equity exceeds the margin requirements specified in paragraph
(b)(2) of this section.
(c) Underwriters and distributors. A creditor may effect or finance
for any dealer or group of dealers transactions for the purpose of
facilitating the underwriting or distribution of all or a part of an
issue of securities with a good faith margin.
(d) OTC marketmakers and third marketmakers. (1) A creditor may
clear or finance with a good faith margin, marketmaking transactions
for a creditor who is a registered NASDAQ marketmaker or a qualified
third marketmaker as defined in SEC Rule 3b-8 (17 CFR 240.3b-8).
(2) If the credit extended to a marketmaker ceases to be for the
purpose of marketmaking, or the dealer ceases to be a marketmaker for
an issue of securities for which credit was extended, the credit shall
be subject to the margin specified in Sec. 220.18 (Supplement: Margin
requirements).
(e) Odd-lot dealers. A creditor may clear and finance odd-lot
transactions for any creditor who is registered as an odd-lot dealer on
a national securities exchange with a good faith margin.
Sec. 220.13 Arranging for loans by others.
(a) A creditor may not arrange for the extension or maintenance of
credit to or for any customer by any person upon terms and conditions
other than those upon which the creditor may itself extend or maintain
credit under the provisions of this part, except that this limitation
shall not apply to credit arranged for a customer which does not
violate parts 207 and 221 of this chapter and results solely from:
(1) Investment banking services, provided by the creditor to the
customer, including, but not limited to, underwritings, private
placements, and advice and other services in connection with exchange
offers, mergers, or acquisitions, except for underwritings that involve
the public distribution of an equity security with installment or other
deferred payment provisions;
(2) The sale of nonmargin securities (including securities with
installment or other deferred payment provisions) if the sale is
exempted from the registration requirements of the Securities Act of
1933 under section 4(2) of section 4(6) of the Act;
(3) A subsequent loan or advance on a face-amount certificate as
permitted under 15 U.S.C. 80a-28(d); or
(4) Credit extended by a foreign person in connection with the
purchase or short sale of non-U.S. traded foreign securities.
(b) A creditor shall not be deemed to have arranged credit by
effecting the sale of a foreign security offered on an installment
basis if no more than 15 percent of the issue is offered to United
States persons as defined in section 7(f) of the Act.
Sec. 220.14 Clearance of securities, options, and futures.
(a) Credit for clearance of securities. The provisions of this part
shall not apply to the extension or maintenance of any credit that is
not for more than one day if it is incidental to the clearance of
transactions in securities directly between members of a national
securities exchange or association or through any clearing agency
registered with the SEC.
(b) Deposit of securities with a clearing agency. The provisions of
this part shall not apply to the deposit of securities with an options
or futures clearing agency for the purpose of meeting the deposit
requirements of the agency if:
(1) The clearing agency:
(i) Issues, guarantees performance on, or clears transactions in,
any security (including options on any security, certificate of
deposit, securities index or foreign currency); or
(ii) Guarantees performance of contracts for the purchase or sale
of a commodity for future delivery or options on such contracts;
(2) The clearing agency is registered with the Securities and
Exchange Commission or is the clearing agency for a contract market
regulated by the Commodity Futures Trading Commission; and
(3) The deposit consists of any margin security and complies with
the rules of the clearing agency that have been approved by the
Securities and Exchange Commission or the Commodity Futures Trading
Commission.
Sec. 220.15 Borrowing by creditors.
(a) Restrictions on borrowing. A creditor may not borrow in the
ordinary course of business as a broker or dealer using as collateral
any registered nonexempted security, except:
(1) From or through a member bank of the Federal Reserve System; or
(2) From any nonmember bank that has filed with the Board an
agreement as prescribed in paragraph (b) of this section, which
agreement is still in effect; or
(3) From another creditor if the loan is permissible under this
part.
(b) Agreements of nonmember banks. (1) A nonmember bank shall file
an agreement that conforms to the requirements of section 8(a) of the
Act (See Form FR T-1, T-2).
(2) Any nonmember bank may terminate its agreement if it obtains
the written consent of the Board.
Sec. 220.16 Borrowing and lending securities.
(a) Without regard to the other provisions of this part, a creditor
may borrow or lend securities for the purpose of making delivery of the
securities in the case of short sales, failure to receive securities
required to be delivered, or other similar situations. Each borrowing
shall be secured by a deposit of one or more of the following: cash,
cash equivalents, foreign sovereign nonconvertible debt securities that
are margin securities, collateral acceptable for borrowings of
securities pursuant to SEC Rule 15c3-3 (17 CFR 240.15c3-3), or
irrevocable letters of credit issued by a bank insured by the Federal
Deposit Insurance Corporation or a foreign bank that has filed an
agreement with the Board on Form FR T-1, T-2. Such deposit made with
the lender of the securities shall have at all times a value at least
equal to 100 percent of the market value of the securities borrowed,
computed as of the close of the preceding business day.
(b) A creditor may lend non-U.S. traded foreign securities to a
foreign person for any purpose lawful in the country in which they are
to be used. Each borrowing shall be secured with collateral having at
all times a value at least equal to 100 percent of the market value of
the securities borrowed, computed as of the close of the preceding
business day.
Sec. 220.17 Requirements for the list of marginable OTC stocks and the
list of foreign margin stocks.
(a) Requirements for inclusion on the list of marginable OTC
stocks. Except as provided in paragraph (f) of this section, OTC margin
stock shall meet the following requirements:
(1) Four or more dealers stand willing to, and do in fact, make a
market in such stock and regularly submit bona fide bids and offers to
an automated quotations system for their own accounts;
(2) The minimum average bid price of such stock, as determined by
the Board, is at least $5 per share;
(3) The stock is registered under section 12 of the Act, is issued
by an
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insurance company subject to section 12(g)(2)(G) of the Act, is issued
by a closed-end investment management company subject to registration
pursuant to section 8 of the Investment Company Act of 1940 (15 U.S.C.
80a-8), is an American Depository Receipt (ADR) of a foreign issuer
whose securities are registered under section 12 of the Act, or is a
stock of an issuer required to file reports under section 15(d) of the
Act;
(4) Daily quotations for both bid and asked prices for the stock
are continuously available to the general public;
(5) The stock has been publicly traded for at least six months;
(6) The issuer has at least $4 million of capital, surplus, and
undivided profits;
(7) There are 400,000 or more shares of such stock outstanding in
addition to shares held beneficially by officers, directors or
beneficial owners of more than 10 percent of the stock;
(8) There are 1,200 or more holders of record, as defined in SEC
Rule 12g5-1(17 CFR 240.12g5-1), of the stock who are not officers,
directors or beneficial owners of 10 percent or more of the stock, or
the average daily trading volume of such stock as determined by the
Board, is at least 500 shares; and
(9) The issuer or a predecessor in interest has been in existence
for at least three years.
(b) Requirements for continued inclusion on the list of marginable
OTC stocks. Except as provided in paragraph (f) of this section, OTC
margin stock shall meet the following requirements:
(1) Three or more dealers stand willing to, and do in fact, make a
market in such stock and regularly submit bona fide bids and offers to
an automated quotations system for their own accounts;
(2) The minimum average bid price of such stocks, as determined by
the Board, is at least $2 per share;
(3) The stock is registered as specified in paragraph (a)(3) of
this section;
(4) Daily quotations for both bid and asked prices for the stock
are continuously available to the general public;
(5) The issuer has at least $1 million of capital, surplus, and
undivided profits;
(6) There are 300,000 or more shares of such stock outstanding in
addition to shares held beneficially by officers, directors, or
beneficial owners of more than 10 percent of the stock; and
(7) There continue to be 800 or more holders of record, as defined
in SEC Rule 12g5-1 (17 CFR 240.12g5-1), of the stock who are not
officers, directors, or beneficial owners of 10 percent or more of the
stock, or the average daily trading volume of such stock, as determined
by the Board, is at least 300 shares.
(c) Requirements for inclusion on the list of foreign margin
stocks. Except as provided in paragraph (f) of this section, foreign
margin stock shall meet the following requirements:
(1) The security is listed for trading on or through the facilities
of a foreign securities exchange or a recognized foreign securities
market and has been trading on such exchange or market for at least six
months;
(2) Daily quotations for both bid and asked or last sale prices for
the security provided by the foreign securities exchange or foreign
securities market on which the security is traded are continuously
available to creditors in the United States pursuant to an electronic
quotation system;
(3) The aggregate market value of shares, the ownership of which is
unrestricted, is not less than $1 billion;
(4) The average weekly trading volume of such security during the
preceding six months is either at least 200,000 shares or $1 million;
and
(5) The issuer or a predecessor in interest has been in existence
for at least five years.
(d) Requirements for continued inclusion on the list of foreign
margin stocks. Except as provided in paragraph (f) of this section,
foreign margin stock shall meet the following requirements:
(1) The security continues to meet the requirements specified in
paragraphs (c) (1) and (2) of this section;
(2) The aggregate market value of shares, the ownership of which is
unrestricted, is not less than $500 million; and
(3) The average weekly trading volume of such security during the
preceding six months is either at least 100,000 shares or $500,000.
(e) Removal from the lists. The Board shall periodically remove
from the lists any stock that:
(1) Ceases to exist or of which the issuer ceases to exist; or
(2) No longer substantially meets the provisions of paragraphs (b)
or (d) of this section or the definition of OTC margin stock.
(f) Discretionary authority of Board. Without regard to other
paragraphs of this section, the Board may add to, or omit or remove
from the list of marginable OTC stocks and the list of foreign margin
stocks and equity security, if in the judgment of the Board, such
action is necessary or appropriate in the public interest.
(g) Unlawful representations. It shall be unlawful for any creditor
to make, or cause to be made, any representation to the effect that the
inclusion of a security on the list of marginable OTC stocks or the
list of foreign margin stocks is evidence that the Board or the SEC has
in any way passed upon the merits of, or given approval to, such
security or any transactions therein. Any statement in an advertisement
or other similar communication containing a reference to the Board in
connection with the lists or stocks on those lists shall be an unlawful
representation.
Sec. 220.18 Supplement: Margin requirements.
The required margin for each security position held in a margin
account shall be as follows:
(a) Margin equity security, except for an exempted security, money
market mutual fund or exempted securities mutual fund: 50 percent of
the current market value of the security or the percentage set by the
regulatory authority where the trade occurs, whichever is greater.
(b) Exempted security, registered nonconvertible debt security, OTC
margin bond, money market mutual fund or exempted securities mutual
fund: The margin required by the creditor in good faith or the
percentage set by the regulatory authority where the trade occurs,
whichever is greater.
(c) Short sale of nonexempted security, except for a registered
nonconvertible debt security or OTC margin bond: 150 percent of the
current market value of the security, or 100 percent of the current
market value if a security exchangeable or convertible within 90
calendar days without restriction other than the payment of money into
the security sold short is held in the account.
(d) Short sale of an exempted security, registered nonconvertible
debt security or OTC margin bond: 100 percent of the current market
value of the security plus the margin required by the creditor in good
faith.
(e) Nonmargin, nonexempted security: 100 percent of the current
market value.
(f) Short put or short call on a security, certificate of deposit,
securities index or foreign currency:
(1) In the case of puts and calls issued by a registered clearing
corporation and listed or traded on a registered national securities
exchange or a registered securities association, the amount, or other
position, specified by the rules of the registered national securities
exchange or the registered securities association authorized to trade
the option, provided that all such rules have been approved or amended
by the SEC; or
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(2) In the case of all other puts and calls, the amount, or other
position, specified by the maintenance rules of the creditor's
examining authority.
Sec. 220.19 [Removed]
4. Section 229.19 is removed.
By order of the Board of Governors of the Federal Reserve System,
June 21, 1995.
William W. Wiles,
Secretary of the Board.
[FR Doc. 95-15680 Filed 6-28-95; 8:45 am]
BILLING CODE 6210-01-P
