Report on asset managers and insurance proposes ending 'SIFI' designations of firms; delaying DOL fiduciary rule; simplifying approval process for ETFs; 'realigning' FIO

On October 26, 2017, the Treasury Department released its third report evaluating current financial regulations within the context of the seven "core principles" for financial reform that the Trump Administration outlined in Executive Order 13772, issued on February 3. That order mandated that Treasury produce a number of reports assessing how existing regulations — those mandated by the 2010 Dodd-Frank Act as well as other laws and rules — could be modified, repealed or left alone. The third and final report focuses on regulations for asset managers and insurance companies, and includes dozens of recommendations for changes to rules either through legislation or agency rulemaking.

Please find attached PDFs of the report (176 pages), a fact sheet (3 pages) and a press release from Treasury. The report has also been posted here.

The report says that as Treasury researched its findings, officials consulted with the member agencies of the FSOC, as well as "a wide range of other stakeholders, including trade groups, financial services firms, consumer and other advocacy groups, academics, legal experts and others with relevant knowledge," and reviewed a wide range of data.

SIFI designations. In a conclusion familiar from the previous Treasury reports, the study found that the Financial Stability Oversight Council's (FSOC) regime of designating certain non-bank financial firms as systemically important (SIFIs), in which designation brings greater prudential scrutiny and higher capital requirements, should not be used for large asset managers or insurers. "Treasury's position is that entity-based evaluations of systemic risk are generally not the best approach for mitigating risks arising in the asset management and insurance industries," the report says. "Treasury broadly supports shifting to an activities-based framework, which would identify certain business activities as having higher systemic risk characteristics." The report recommends that "while the FSOC maintains primary responsibility for identifying, evaluating, and addressing systemic risks in the U.S. financial system," the Council should defer to the SEC "to address systemic risks through regulation within and across the asset management industry."

International regulatory bodies. The report notes that global rules issued by international regulators like the Financial Stability Board (FSB), the International Organization of Securities Commissions (IOSCO) and the International Association of Insurance Supervisors can be immensely consequential for U.S. asset managers and insurers, because they are usually pegged to size — and the United States has "nine of the 10 largest asset managers in the world" and "represents the world's largest single-country insurance market by a significant margin." Treasury says it is thus important for the U.S. to remain engaged in such forums as standards are crafted, and its engagement "should enable the promotion of the U.S. asset management and insurance industries," while focusing on coordination among the American representatives to such forums and choosing "the appropriate domestic bodies" to participate in them. The report says the U.S. should emphasize revising the "G-SIFI" framework so it "appropriately takes into account the differentiated ways sectors are structured and manage risks." Treasury will also work to increase the transparency of the domestic and international standard-setting process. The report also recommends that the FSB "transition away from using the term 'shadow banking' in its monitoring of credit intermediation outside of the regular banking sector."

Asset managers

Broadly, the Treasury report surveys the landscape of increased financial regulations for asset managers since the 2008 financial crisis — such as SEC money market mutual fund reforms, enhanced fund reporting, Dodd-Frank rules, liquidity rules and the Labor Department's fiduciary rule for retirement plan advisers — and finds that these "have resulted in a median increase in compliance costs of an estimated 20% over the past five years." The report finds that "prudential regulation of asset management is unlikely to be the most effective regulatory approach for mitigating these risks. Generally, asset managers and investment funds, in contrast to banks, are not highly leveraged and do not engage in maturity and liquidity transformation to the same degree that banks do … "

Stress tests for asset managers and advisers. The report says stress tests for large asset management firms are unnecessary. "Treasury recognizes the possibility of liquidity risk that may arise during mutual fund redemptions, but believes a strong liquidity risk management framework is a more effective approach to addressing the concern" than stress tests. The report says Treasury also "does not support prudential stress testing of investment advisers and investment companies as required by Dodd-Frank. Treasury supports legislative action to amend Dodd-Frank to eliminate the stress testing requirement for investment advisers and investment companies."

DOL fiduciary rule. The report notes that the Labor Department extended the applicability date of its new fiduciary definition and impartial conduct standards from April 10 to June 9, 2017, and set January 1, 2018 as the compliance date for all remaining provisions of the fiduciary rule. The DOL later proposed to extend the compliance date for the full fiduciary rule to July 1, 2019, and sought public comment. Treasury's review found serious concerns from stakeholders that the rule will have "unintended consequences," and is likely to: (1) harm investors by reducing access to retirement savings products and advice; (2) cause disruptions within the retirement services industry that may adversely affect investors and retirees; and (3) increase both litigation and the prices that investors pay for retirement services. As such, "Treasury believes that the SEC and DOL should work together to address standards of conduct for financial professionals who provide investment advice to IRA and non-IRA accounts." The report also recommends "a delay in full implementation of the fiduciary rule … until the relevant issues are evaluated and addressed … "

Liquidity risk and 'bucketing.' The report says that while Treasury supports the current 15% limitation on illiquid assets, "Treasury rejects any highly prescriptive regulatory approach to liquidity risk management, such as the bucketing requirement" that requires assets to be classified as highly liquid, moderately liquid, less liquid or illiquid. "The SEC should take appropriate action to postpone the current December 2018 implementation of Rule 22e-4's bucketing requirement."

Exchange-traded funds, fund disclosures & data reporting. The report says the SEC should implement regulations "to standardize and simplify the approval process for ETFs," removing the need to obtain individualized exemptive relief from the SEC for "plain vanilla" ETFs. Treasury says the SEC should also consider establishing "a single process for ETF and related approvals, rather than allowing SEC divisions to set multiple and sometimes conflicting requirements." The report also says that allowing funds to deliver reports and other materials by posting them online would enable significant cost savings, and recommends that the SEC "finalize its proposed rule to modernize shareholder report disclosure requirements and permit the use of implied consent for electronic disclosures." The same posture applies to data reporting rules for funds: Treasury says that "given the immense data reporting requirements added over the past few years, the SEC, the CFTC, [self-regulated organizations] and other regulators should work together to rationalize and harmonize the reporting regimes," while combining duplicative forms and eliminating unnecessary data collection.

Swing pricing for mutual funds. The report notes that current rules require mutual funds to adjust the net asset value (NAV) of their shares "to pass on the costs from purchase or redemption activity to the investors associated with that activity," by setting a price "based on the next NAV calculated after the receipt of the request." In October 2016, the SEC finalized a rule allowing mutual funds to use swing pricing on a voluntary basis, and required them to make certain disclosures if they do; those changes are set to become effective in November 2018. But the report says "there may be practical difficulties with implementing swing pricing," and that "Treasury encourages further analysis of whether, and to what extent, swing pricing is implemented by funds," with a particular focus on "whether funds are appropriately setting the amount of the swing as justified by relevant trading costs."

Insurance

Insurance capital and liquidity standards. Among many other recommendations related to insurance regulation, Treasury says it supports regulators' ongoing work on domestic capital and liquidity standardsfor insurers, and urges state insurance commissioners and the Federal Reserve to collaborate with the goal of developing "implementable and harmonious" capital standards that aren't unnecessarily burdensome. "Further, Treasury supports robust liquidity risk management programs for insurers."

Federal Insurance Office (FIO). The report says Treasury is committed to "realigning" the operations of the FIO, an office created by the Dodd-Frank Act, in a way that will promote the state-based insurance regulatory system "and make FIO's work more effective." The report says FIO should encourage "uniform product approval processes and standards at the state level, which will expedite the speed of bringing new products to market." Treasury is also committed to increasing transparency and stakeholder engagement at the FIO, "and will implement mechanisms to achieve these objectives. For example, Treasury is committed to making its international negotiating posture and actions more accessible to various stakeholders through both public and private forums."

Annuities and long-term care insurance. The report recommends that the Labor Department and the SEC "engage with state insurance regulators regarding the impact of [fiduciary] standards of care on the annuities market" and work to "achieve consistent standards of conduct across product lines." The report also recommends "strengthening consumer access and choice with respect to annuities as investments options within employer-sponsored retirement plans such as 401(k) plans." Treasury will also "convene an interagency task force to develop policies to complement reforms at the state level relating to the regulation of long-term care insurance."

Infrastructure investment by insurers. The report describes infrastructure as a "top priority for the Trump Administration," and notes that investments in that area by insurers could provide a valuable stimulus: "Infrastructure projects present an appealing opportunity to insurers given the benefits of higher yields and longer durations that may improve profitability and asset-liability management, particularly for life insurers. Infrastructure investment is also attractive to property and casualty insurers that historically have been among the largest investors in municipal bonds." The report recommends re-evaluating state insurance capital requirements "and how those requirements may be better calibrated to encourage insurer infrastructure investment."

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ATTACHMENTS

Treasury Report

Treasury Press Release

Fact Sheet