The Securities and Exchange Commission (SEC) unanimously voted to re-propose a rule which prohibits conflicts of interest in certain securitized transactions as part of section 621 of the Dodd-Frank Act. The rule was previously submitted, but never finalized, in 2011.
Section 621 of the Dodd-Frank Act amended the Securities Act of 1933 based on a report from the Senate permanent subcommittee on investigations which found certain instances of the appearance of conflicts of interest between the sponsors of certain securitizations and their investors.
The proposed rule is designed to “prohibit securitization participants from engaging in certain transactions that could incentivize a securitization participant to structure an asset-backed security (ABS) in a way that would put the securitization participant’s interests ahead of those of ABS investors.”
The SEC’s proposal would do this by prohibiting a “securitization participant” – generally the sponsor, initial purchaser, underwriter or placement agent of the ABS – from engaging in a “conflicted transaction.” A “conflicted transaction,” according to the proposed rule, has two elements: being adverse to the ABS, and being material to the investor in the ABS.
The proposed rule would exempt risk-mitigating hedging activities, bona fide market-making activities, and certain liquidity commitments.
Commissioner Hester Peirce, who voted for the rule, expressed some concerns regarding whether the rule achieved the correct balance. Peirce suggested the proposed rule may be too vague, noting that its definition of “sponsor” included “entities that do not fit within the traditional definition of ‘sponsor’” and that the proposed rule is unclear regarding the type of activity that would constitute taking “substantial steps” for the purposes of becoming a securitization participant.
Commissioner Caroline Crenshaw expressed skepticism at the use of information barriers, noting that commenters to the 2011 proposed rule opposed the use of information barriers given their limited utility and the difficulties associated with implementation, monitoring, and enforcement.