Gary DeWaal's Bridging the Week: August 26-30 and September 3, 2013

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Published Date : September 03, 2013

This week on Bridging the Week, discussed are:

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It seems fitting that as summer unofficially ends here in the United States and the new school year is about to begin for students, international regulators have issued a few report cards for the last semester regarding the rollout of some important worldwide regulatory initiatives, as well as a few salient life messages: lying is bad (especially to your Chief Compliance Officer), and don't try to hide your big mistakes! These are the key takeaways in this Bridging the Week for August 26-30 and September 3, 2013.

Moreover, the Financial Stability Board, the high level international coordinator of worldwide national financial authorities, has called for changes and potential changes in the way that financial services' firms conduct securities lending and repurchase activities. If implemented these ideas could pose yet another material threat to potential revenue by financial services' industry players.

Fiscal Year 2013 Annual Compliance Report: Start Preparing Now

This being the start of September and near the end of many firm's 2013 fiscal year, in the USA future commission merchants, swap dealers, and major swap participants, as well as designated clearing organizations and swap data repositories, should have begun by now preparatory work for the Annual Compliance Report required to be filed within a few months after the end of their 2013 fiscal year. Be sure to check out some hopefully helpful practical guidance to be published on this website later this week entitled: "It's 10 pm – FCMs, SDs, MSPs: Do You Know the Status of Your 2013 Firm's Annual Compliance Report Preparation?"
Back to matters at hand, however.

CFTC Sues Former Peregrine Auditor

First and foremost, last week the US Commodity Futures Trading Commission brought and settled an enforcement action against the former external auditor to Peregrine Financial Group, Ms. Jeannie Veraja-Snelling. PFG filed for bankruptcy in July 2012 after it was discovered that the firm's principal, Russell Wasendorf, had defrauded its customers by misappropriating more than $215 Million of their funds.

The CFTC claimed that Ms. Vaerja-Snelling failed to conduct audits of the firm in accordance with generally accepted auditing standards and did not appropriately test internal accounting controls and procedures for safeguarding customer assets as required by a CFTC rule. For these violations, Ms. Veraja-Snelling was permanently barred from practicing before the Commission.

Ms. Veraja-Snelling had served as PFG's outside auditor for the firm's fiscal years 2001 to 2011.

For more details on this matter, see a separate article posted on this website:

BASEL III: Progress Good (Not So Good for the USA)

As to the important report cards issued by regulators, last week the Basel Committee on Banking Supervision issued a report on the progress of G-20 members and other countries implementing Basel III reforms. The bottom line: of the 27 jurisdictions that comprise the Basel Committee, 25 now have issued final Basel III regulations, and internationally active banks appear likely to meet the complete set of fully-phased in minimum Basel III capital requirements in advance of the 2019 deadline.
Basel III, which was released in December 2010, imposes higher capital levels and tougher liquidity requirements on banks.

That being said, only 24 of the 27 Basel Committee member jurisdictions have fully implemented Basel II, let alone Basel III, with the biggest non-implementer being the United States! Argentina and Russia are also non-compliant.

OTC DRG Advises Again that Regulators Should Coordinate the Oversight of International Swaps' Participant

In another report card, the OTC Derivatives Regulators Group, which constitutes the principals of the national authorities with primary regulatory oversight of OTC derivatives markets in a number of the critical worldwide markets, last week issued an update on agreed understandings to resolve cross-border conflicts, inconsistencies, gaps and duplicative requirements.

Acknowledging the recently concluded July 2013 European Commission and US CFTC agreement on a common approach to cross border derivatives reform, the Report restates the need for all members of the G-20 to coordinate their cross border rules and implementation schedules going forward to avoid "market disruption and fragmentation, reduced liquidity in certain markets, and the concentration of risks within certain jurisdictions."

As the CFTC undertakes an analysis of the comparability of certain non-US rules with US rules to determine whether certain foreign entities can rely on their local rules (as opposed to the US rules) in connection with certain derivatives transactions with US persons, the Report ratifies the analytic approach proposed by the CFTC that comparability assessments may be made on a broad category-by-category basis, rather than on the basis of the foreign regime as a whole. However the Report seems subtly to caution the CFTC to be flexible in its determination, and recognize that one size may not fit all. According to the DRG,  "[a]n equivalence or substituted compliance assessment should fully take into account international standards, where they are appropriate, regulatory arbitrage, investor protection, risk importation, prudential and other relevant considerations."

Ex-Goldman, Sachs Trader Sued by CFTC

Regarding the very important life-lesson messages issued by regulators, last week the CFTC filed and settled an enforcement action against Matthew Marshall Taylor, a former Goldman, Sachs & Co. trader, who allegedly defrauded Goldman, Sachs during December 2007 when he manually entered certain fictitious trades into the firm's operations systems in order to disguise certain unauthorized futures transactions.

As a result of Mr. Taylor's activities, Goldman Sachs sustained a loss of over $118 Million, and later paid its own CFTC fine of $1.5 Million for failure to supervise Mr. Taylor.
For his offenses, Mr. Taylor himself agreed to pay a fine of $500,000 and be permanently barred from trading or registering in the futures industry. The moral here: don't be deceptive and purposely violate internal firm requirements, and worse, try to cover-up those violations too, especially when they have caused large losses for the firm!

SEC Sues Fund Adviser for Lying to his Chief Compliance Officer

The US Securities and Exchange Commission also tried to teach an important life lesson last week.

In bringing and settling an enforcement action against Carl Johns, the former portfolio manager of Boulder Investment Advisers, LLC (a registered Investment Adviser), who for Boulder and an affiliated adviser routinely assisted in the management of portfolios of several affiliated registered investment companies, the SEC alleged that from 2006 to 2010 Mr. Johns, submitted false quarterly and annual reports and falsely certified his annual compliance with his firms' Code of Ethics. He did this, says the SEC, in order to conceal his personal unauthorized securities trading. Moreover, says the SEC, Mr. Johns created several documents that purported to be pre-clearance trading approvals by the Funds' CCO but were in fact fraudulent.

After the Funds' CCO discovered these irregularities, Mr. Johns continued his deception by telling him that all of his brokerage accounts were closed, and providing the CCO with hard copies of his trading statements that he had physically altered. Under SEC rules implementing the Investment Company Act there is a specific provision that prohibits fund employees from engaging in any act that "…may directly or indirectly…coerce, manipulate, mislead or fraudulently influence the funds [CCO] in the performance of his or her duties…" (SEC Rule §270.38a-1(c).)

For his offenses, Mr. Johns will pay disgorgement and pre-judgment interest in excess of $255,000, a fine of $100,000, and be barred from the securities industry for at least five years.

Valuable Lessons Learned: Don't violate clear regulatory and company requirements for sure. But also don't lie to your CCO about your violations, particularly after you are caught redhanded being dishonest!

FSB Proposes Changes to Securities Lending and Repo Activities

Remember the Financial Stability Board? It was established after the 2008 financial crisis to coordinate at the international level national finance authorities and international standard setting bodies.

Last week the FSB issued a report regarding what sounded like a good and innocent initiative – strengthening the oversight and regulation of shadow banking.
However, among the recommendations the FSB issued are many that could materially impact securities lending and repo markets. These included recommendations that national authorities, in connection with securities lending and repo activities, adopt rules to enhance transaction reporting requirements, strengthen regulations regarding the hypothecation of customer securities; and adopt minimum standards for collateral valuation. The FSB also recommend that national authorities evaluate introducing central clearing counterparties to inter-dealer repo markets where CCPs currently do not exist.

As part of its initiative, the FSB also issued a proposed regulatory framework for haircuts on non-centrally cleared securities financing transactions for which it is seeking public feedback by 28 November 2013.

This is a potentially very significant proposed development that warrants a lot of attention now. It could potentially impact the profitability of many financial services firms.

And finally, a couple of follow-up matters:

Keep in mind, in less than two weeks the Technology Advisory Committee of the CFTC will be receiving and considering the CFTC's Concept Release on Automated Trading. It should be an interesting Release and meeting.

For more information, see:

BIS Report to G20 Leaders on Monitoring Implementation of Basel III Regulatory Reforms:
CFTC v. Jeannie Veraja-Snelling (Peregrine):
CFTC v. Mathew Marshall Taylor (Goldman, Sachs):
FSB: Strengthening Oversight and Regulation of Shadow Banking:
OTC DRG Report of Agreed Understandings to Resolve Cross-Border Inconsistencies, Gaps and Duplicative Requirements:
SEC v. Carl Johns (Boulder Investment):
SEC Recommendations regarding BCP for Investment Advisers:

The information contained in this article is not legal advice. For legal advice, please consult with your attorney. The information in this article is derived from sources believed to be reliable as of September 3, 2013, but no representation or warranty is made regarding the accuracy of any statement. To ensure compliance with requirements imposed by U.S. Treasury Regulations, Gary DeWaal and Associates LLC informs you that any U.S. tax advice contained in this communication (including any attachments) was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction or matter addressed herein. Gary DeWaal and Associates may represent one or more entities mentioned in this article.


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