Posts by: Howard S. Altarescu

U.S. Treasury Issues Guidance on the Transition from Interbank Offered Rates to Other Reference Rates

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The U.S. Department of the Treasury issued proposed regulations that provide guidance on the transition from LIBOR. One set of such regulations provides that substituting a “qualified rate,” such as the Secured Overnight Financing Rate (SOFR) published by the Federal Reserve Bank of New York, for an interbank offered rate in a debt instrument or certain other instruments will not result in a re-issuance under Section 1001 of the U.S. Internal Revenue Code. The proposed regulations can be viewed here. Comments and requests for a public hearing must be received by November 25.

Accenture Publishes Report on 2019 LIBOR Survey

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Accenture recently published a report entitled “LIBORATION: A practical way to thrive in transition uncertainty.” The report, based on a survey of 177 firms across the financial services and corporate industries, found that although most market participants have LIBOR transition plans in place, there is still uncertainty and a lack of preparation among financial providers, who have expressed concern with a number of unresolved commercial and regulatory issues. The report outlines various recommendations for the transition process, including “10 No Regret Immediate Transition Actions.” Read the full report here.

’40 Act Leeway for Mortgage REITS and Others

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The SEC Investment Management Division published a no-action letter on August 15 addressed to Redwood Trust that provides a certain degree of Section 3(c)(5)(C) compliance leeway for mortgage REITs and mortgage bankers. The Redwood letter is a recognition by the staff that the ebb and flow of mortgage loans into and out of a mortgage banking business, and the retention of cash proceeds from time to time, is an integral part of the business, as is the retention of the right to service loans to facilitate both loan sales and securitizations.

Specifically, the staff concluded that there would be no objection to Redwood treating certain MSRs and cash proceeds in the manner described below for purposes of the Section 3(c)(5)(C) exclusion from the registration requirements of the Investment Company Act of 1940. Redwood Trust No-Action Letter – 2019

  • MSRs created when mortgage loans are sold or securitized can be treated as “qualifying interests” under Section 3(c)(5)(C), and
  • Cash proceeds from mortgage principal amortizations, interest payments and payoffs in connection with real estate-related assets, as well as from the sale of such assets, including to securitization trusts, can retain the characterization of the assets from which the cash proceeds were derived for purposes of Section 3(c)(5)(C), subject to the time limitations indicated in the letter; e.g. sell whole loans and treat the cash proceeds of the sale as “qualifying interests” (subject to such time limitations).

As we stated in our April 12, 2019, letter to the SEC staff on behalf of Redwood, these cash proceeds are “integral parts of and directly related to and arising from Redwood’s mortgage banking activities” and, likewise, created MSRs “are acquired as a direct result of Redwood’s mortgage banking activities”. Our letter references the staff’s Great Ajax no-action letter of February 12, 2018, in which the staff said that it “would be willing to entertain other no-action requests to treat as qualifying interests certain other mortgage-related assets if they are acquired by an issuer as a direct result of the issuer being engaged in the business of purchasing or otherwise acquiring whole mortgage loans (e.g., certain “A-Notes” and servicing rights)”. Orrick Letter to SEC, April 12, 2019

(Redwood also obtained a no-action letter in 2017 relating to the treatment of credit risk transfer securities as “real estate-type interests” under Section 3(c)(5)(C). In the Orrick letter to the staff, we noted, among other things, that credit risk transfer securities share similar characteristics with, and have the same economic substance as, agency partial pool certificates, which are treated as “real estate-type interests” under Section 3(c)(5)(C). In its letter, the staff recognized the similarities between credit risk transfer securities and agency partial pool certificates and concluded that the credit risk transfer securities described could be treated as “real estate-type interests”.  Redwood Trust No-Action Letter – 2017 ; Orrick Letter to SEC, September 5, 2017)

ARRC Releases Consultations on Fallback Contract Language for Bilateral Business Loans and Securitizations for Public Feedback

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The Alternative Reference Rates Committee (“ARRC“) released consultations on U.S. dollar (“USD“) LIBOR fallback contract language for bilateral business loans and securitizations for public feedback. These consultations outline draft language for new contracts that reference LIBOR so as to ensure these contracts will continue to be effective in the event that LIBOR is no longer usable.

The ARRC is seeking feedback on each proposed approach and on the key issues involved. Comments should be sent to the ARRC Secretariat (arrc@ny.frb.org) no later than February 5, 2019.

Questions regarding the consultations should also be sent to the ARRC Secretariat (arrc@ny.frb.org) and will not be posted for attribution.

LIBOR Transition Update

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The Alternative Reference Rates Committee (“ARRC“) released additional information regarding its support of the transition from U.S. dollar (“USD“) LIBOR. The ARRC provided a timeline of key milestones. In addition, the ARRC has also released a set of Frequently Asked Questions (“FAQs“) regarding the previously released consultation on USD LIBOR fallback contract language for floating rate notes (“FRNs“). The FRN consultation primarily focuses on new transactions, and, at this time, the ARRC does not intend to produce consultations specifically related to amending outstanding FRNs or other cash products.

The consultation on FRNs and the similar consultation for U.S. syndicated loans are open for public feedback through November 8. (FRN Consultation; U.S. Syndicated Loans Consultation). Comments should be sent to the ARRC Secretariat (arrc@ny.frb.org) no later than November 8. Comments will be posted on ARRC’s website.

Investigation of Small Business Lending Practices of Fintech Companies

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Last year, Congressman Emanuel Cleaver II (D-MO) launched an investigation into the small business lending practices of Financial Technology “Fintech” companies, studying the various methods companies use to protect against discriminatory practices. One of the primary concerns raised by Congressman Cleaver was the specific algorithms used by Fintech firms. Click here to view the full report.

Federal Regulators Issue Key Guidance on Fintech Issues

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On July 30, 2018, the U.S. Department of the Treasury (“Treasury“) and the Office of the Comptroller of the Currency (“OCC“) provided important guidance on a broad range of issues confronting the fintech industry. Treasury released a long-awaited report titled A Financial System That Creates Economic Opportunities: Nonbank Financials, Fintech, and Innovation (the “Treasury Report“).

Following a specific recommendation in the Treasury Report, the OCC formally announced that it would begin to accept applications for special purpose national bank charters, and it provided guidance on the procedures and standards that would govern such applications through the issuance of a Licensing Manual Supplement for Special Purpose National Banks (the “Manual Supplement“). Taken together, the Treasury Report and the OCC announcement reinforce the commitment of the federal government to promote the growth of the fintech industry. Click here to read the full Orrick-authored alert.

ISDA Consultation Paper, “IBOR Fallbacks for 2006 ISDA Definitions: Consultation on Certain Aspects of Fallbacks for Derivatives Referencing GBP LIBOR, CHF LIBOR, JPY LIBOR, TIBOR, Euroyen TIBOR and BBSW”

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ISDA has launched a market-wide consultation on technical issues related to new benchmark fallbacks for derivatives contracts that reference certain interbank offered rates (“IBORs“). The consultation sets out options for adjustments that would apply to the fallback rate in the event an IBOR is permanently discontinued.

The ISDA consultation paper is here.

“The consultation sets out four options to account for the move from a term rate to an overnight rate: a spot overnight rate; a convexity adjusted overnight rate; a compounded setting in arrears rate; and a compound setting in advance rate. Three options are also proposed to calculate a spread adjustment: a forward approach; a historical mean/median approach; and a spot-spread approach. In each case, the spread adjustment will be fixed at the point the fallback is triggered.”

Speech by Andrew Bailey, Chief Executive of the FCA, Interest Rate Benchmark Reform: Transition to a World Without LIBOR

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Highlights:

  • Why firms need to end their reliance on LIBOR by end-2021.
  • Why overnight risk-free rates (“RFRs“) are the right foundation for interest rate markets.
  • The progress made on transition to these overnight risk-free rates and the work that remains to be done.

“I hope it is already clear that the discontinuation of LIBOR should not be considered a remote probability ‘black swan’ event. Firms should treat it is as something that will happen and which they must be prepared for. Ensuring that the transition from LIBOR to alternative interest rate benchmarks is orderly will contribute to financial stability. Misplaced confidence in LIBOR’s survival will do the opposite, by discouraging transition.

There is some good news to report on the important steps taken towards transition. But the pace of that transition is not yet fast enough. There is much further to go.” Release.

FSB Statement “Interest Rate Benchmark Reform: Overnight Risk-free Rates and Term Rates”

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The Financial Stability Board (“FSB“) recently published a statement on reforms to interbank offered rates (“IBORs“) and the development of overnight risk-free, or nearly risk-free, rates (“RFRs“) and term rates. Release.

“The FSB continues to encourage the development and adoption of these overnight RFRs where appropriate, for example in business where term properties are not needed, or where exposure to bank credit risk is not necessary or desirable. This will enhance financial stability. […]

An overnight RFR may not, however, be the optimal rate in all the cases where term IBORs are currently used. The FSB recognises that in some cases there may be a role for term rates, including RFR-derived term rates, or term rates derived from other liquid market.”