[House Hearing, 115 Congress]
[From the U.S. Government Publishing Office]




 
                    LEGISLATIVE PROPOSALS TO IMPROVE

                   SMALL BUSINESSES' AND COMMUNITIES'

                           ACCESS TO CAPITAL

=======================================================================

                                HEARING

                               BEFORE THE

                    SUBCOMMITTEE ON CAPITAL MARKETS,
                       SECURITIES, AND INVESTMENT

                                 OF THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                     ONE HUNDRED FIFTEENTH CONGRESS

                             FIRST SESSION

                               __________

                            NOVEMBER 3, 2017

                               __________

       Printed for the use of the Committee on Financial Services

                           Serial No. 115-54
                           
                           
                           
                           
                           
  [GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
  
  


          
                           _________ 

               U.S. GOVERNMENT PUBLISHING OFFICE
                   
 30-773 PDF              WASHINGTON : 2018                                
                           
                           

                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                    JEB HENSARLING, Texas, Chairman

PATRICK T. McHENRY, North Carolina,  MAXINE WATERS, California, Ranking 
    Vice Chairman                        Member
PETER T. KING, New York              CAROLYN B. MALONEY, New York
EDWARD R. ROYCE, California          NYDIA M. VELAZQUEZ, New York
FRANK D. LUCAS, Oklahoma             BRAD SHERMAN, California
STEVAN PEARCE, New Mexico            GREGORY W. MEEKS, New York
BILL POSEY, Florida                  MICHAEL E. CAPUANO, Massachusetts
BLAINE LUETKEMEYER, Missouri         WM. LACY CLAY, Missouri
BILL HUIZENGA, Michigan              STEPHEN F. LYNCH, Massachusetts
SEAN P. DUFFY, Wisconsin             DAVID SCOTT, Georgia
STEVE STIVERS, Ohio                  AL GREEN, Texas
RANDY HULTGREN, Illinois             EMANUEL CLEAVER, Missouri
DENNIS A. ROSS, Florida              GWEN MOORE, Wisconsin
ROBERT PITTENGER, North Carolina     KEITH ELLISON, Minnesota
ANN WAGNER, Missouri                 ED PERLMUTTER, Colorado
ANDY BARR, Kentucky                  JAMES A. HIMES, Connecticut
KEITH J. ROTHFUS, Pennsylvania       BILL FOSTER, Illinois
LUKE MESSER, Indiana                 DANIEL T. KILDEE, Michigan
SCOTT TIPTON, Colorado               JOHN K. DELANEY, Maryland
ROGER WILLIAMS, Texas                KYRSTEN SINEMA, Arizona
BRUCE POLIQUIN, Maine                JOYCE BEATTY, Ohio
MIA LOVE, Utah                       DENNY HECK, Washington
FRENCH HILL, Arkansas                JUAN VARGAS, California
TOM EMMER, Minnesota                 JOSH GOTTHEIMER, New Jersey
LEE M. ZELDIN, New York              VICENTE GONZALEZ, Texas
DAVID A. TROTT, Michigan             CHARLIE CRIST, Florida
BARRY LOUDERMILK, Georgia            RUBEN KIHUEN, Nevada
ALEXANDER X. MOONEY, West Virginia
THOMAS MacARTHUR, New Jersey
WARREN DAVIDSON, Ohio
TED BUDD, North Carolina
DAVID KUSTOFF, Tennessee
CLAUDIA TENNEY, New York
TREY HOLLINGSWORTH, Indiana

                  Kirsten Sutton Mork, Staff Director
      Subcommittee on Capital Markets, Securities, and Investment

                   BILL HUIZENGA, Michigan, Chairman

RANDY HULTGREN, Illinois, Vice       CAROLYN B. MALONEY, New York, 
    Chairman                             Ranking Member
PETER T. KING, New York              BRAD SHERMAN, California
PATRICK T. McHENRY, North Carolina   STEPHEN F. LYNCH, Massachusetts
SEAN P. DUFFY, Wisconsin             DAVID SCOTT, Georgia
STEVE STIVERS, Ohio                  JAMES A. HIMES, Connecticut
ANN WAGNER, Missouri                 KEITH ELLISON, Minnesota
LUKE MESSER, Indiana                 BILL FOSTER, Illinois
BRUCE POLIQUIN, Maine                GREGORY W. MEEKS, New York
FRENCH HILL, Arkansas                KYRSTEN SINEMA, Arizona
TOM EMMER, Minnesota                 JUAN VARGAS, California
ALEXANDER X. MOONEY, West Virginia   JOSH GOTTHEIMER, New Jersey
THOMAS MacARTHUR, New Jersey         VICENTE GONZALEZ, Texas
WARREN DAVIDSON, Ohio
TED BUDD, North Carolina
TREY HOLLINGSWORTH, Indiana


                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    November 3, 2017.............................................     1
Appendix:
    November 3, 2017.............................................    33

                               WITNESSES
                        Friday, November 3, 2017

Bullard, Mercer, Butler Snow Lecturer and Professor of Law, 
  University of Mississippi School of Law........................     4
Gerber, Michael F., Executive Vice President, Corporate Affairs, 
  FS Investments.................................................     5
McCoy, Patrick J., Director of Finance of the Metropolitan 
  Transportation Authority of New York, on behalf of the 
  Government Finance Officers Association........................     2
Quaadman, Thomas, Executive Vice President, Center for Capital 
  Market Competitiveness, U.S. Chamber of Commerce...............     8
Stevens, Paul Schott, Chief Executive Officer, Investment Company 
  Institute......................................................     7

                                APPENDIX

Prepared statements:
    Bullard, Mercer..............................................    34
    Gerber, Michael F............................................    57
    McCoy, Patrick J.............................................    65
    Quaadman, Thomas.............................................    69
    Stevens, Paul Schott.........................................    79

              Additional Material Submitted for the Record

Huizenga, Hon. Bill:
    Letter to Jay Clayton, Chairman, U.S. Securities and Exchange 
      Commission.................................................   103
    Response letter from Jay Clayton, Chairman, U.S. Securities 
      and Exchange Commission....................................   105
    Letter dated October 13, 2017 regarding The Consumer 
      Financial Choice and Capital Markets Protection Act........   108
Emmer, Hon. Tom:
    Letter from the Association of Minnesota Counties............   110
Hultgren, Hon. Randy:
    Letter from the State Financial Officers Foundation..........   111
Lynch, Hon. Stephen:
    Letter from Thomas Koch, Mayor of Quincy, Massachusetts......   113
Rothfus, Hon. Keith:
    Letter from the Association for Financial Professionals......   115
    Letter from the Association of School Business Officials 
      International..............................................   117
    Morningstar article entitled, ``Money Market Funds on Life 
      Support''..................................................   119
Stivers, Hon. Steve:
    White paper from the Coalition for Small Business Growth.....   123
    Written statement from the Coalition for Small Business 
      Growth.....................................................   136
    Clarification from Mr. Jonathan Bock, Wells Fargo............   140
Meeks, Hon. Gregory:
    Written responses submitted for the record from Michael 
      Gerber.....................................................   142
Quaadman, Thomas:
    Presentation from Treasury Strategies........................   146


                    LEGISLATIVE PROPOSALS TO IMPROVE



                   SMALL BUSINESSES' AND COMMUNITIES'



                           ACCESS TO CAPITAL

                              ----------                              


                        Friday, November 3, 2017

                     U.S. House of Representatives,
                           Subcommittee on Capital Markets,
                                Securities, and Investment,
                           Committee on Financial Services,
                                                   Washington, D.C.
    The subcommittee met, pursuant to notice, at 9:17 a.m., in 
room 2128, Rayburn House Office Building, Hon. Bill Huizenga 
[chairman of the subcommittee] presiding.
    Present: Representatives Huizenga, Hultgren, Stivers, 
Poliquin, Hill, Emmer, Mooney, MacArthur, Davidson, Budd, 
Hollingsworth, Hensarling, Maloney, Sherman, Lynch, Scott, 
Himes, Sinema, Vargas, and Gottheimer.
    Also present: Representative Rothfus.
    Chairman Huizenga. The committee will come to order. And 
without objection, the Chair is authorized to declare a recess 
of the committee at any time.
    This hearing is entitled ``Legislative Proposals to Improve 
Small Businesses' and Communities' Access to Capital.''
    Just to get everybody on the same page here, they have 
moved up votes a little bit on us this morning. We have an 
anticipated voting time somewhere between 10:15 and 10:45. With 
agreement with the Ranking Member here, we are foregoing our 
opening statements, because it is about you actually. Hard to 
believe that Congress folks wouldn't want it to be about them. 
But it is about you, to hear from you all, and to make sure 
that we get to questions.
    Just for the members, depending on our timing, the Chairman 
may exercise our prerogative to shorten your 5-minute question 
period. We want to get through as many folks as we possibly can 
in a timely fashion.
    And with that, without objection, the gentleman from 
Pennsylvania, Mr. Rothfus, is permitted to participate in 
today's subcommittee hearing. Mr. Rothfus is a member of the 
Financial Services Committee, and we appreciate his interest in 
this important topic. And we are pleased that our final 
witness, was stuck in one of our famous lines here in getting 
into the office building, so we are glad you are here, Mr. 
Gerber.
    So with that, today, we welcome the testimony of Mr. 
Patrick McCoy, the Director of Finance for the Metropolitan 
Transportation Authority of New York, on behalf of the 
Government Finance Officers Association; Mr. Mercer Bullard, 
Butler Snow Lecturer and Professor of Law, University of 
Mississippi School of Law; Mr. Michael Gerber, Executive Vice 
President, Corporate Affairs of FS Investments; Mr. Paul 
Stevens, who is the Chief Executive Officer of the Investment 
Company Institute, ICI; and Mr. Tom Quaadman, Executive Vice 
President for the Center for Capital Market Competitiveness to 
the U.S. Chamber of Commerce.
    Each of you will be recognized for 5 minutes to give your 
oral presentation and your testimony. And without objection, 
each of your written statements will also be made part of the 
permanent record.
    With that, Mr. McCoy, you are recognized for 5 minutes.

                  STATEMENT OF PATRICK J. MCCOY

    Mr. McCoy. Thank you.
    Chairman Huizenga, Ranking Member Maloney, and 
distinguished members of the committee, I am honored to be here 
today on behalf of the Government Finance Officers Association 
to share with you our comments on H.R. 2319, the Consumer 
Financial Choice and Capital Markets Protection Act of 2017, 
and its importance to public finance.
    My name is Pat McCoy, and I serve as the President of the 
Government Finance Officers Association. But today, I will be 
speaking in that capacity and not in my other role as Director 
of Finance for the Metropolitan Transportation Authority in New 
York.
    Founded in 1906, GFOA represents over 19,000 public finance 
officers from State and local governments, schools, and special 
districts throughout the United States. This includes about 
2,500 Michigan and 1,500 New York national and State GFOA 
members. GFOA is dedicated to advancing fiscal strategies, 
policies, and practices for the public benefit, including 
topics related to issuing tax exempt bonds and investing public 
funds.
    I am here to testify in support of H.R. 2319. Money market 
funds are an important means of financing capital requirements 
for State and local governments. But the SEC's (Securities and 
Exchange Commission's) change of net asset value, or NAV, 
accounting methodology from stable to floating has negatively 
impacted our ability to use them. H.R. 2319 would allow State 
and local governments to return to utilizing suitable 
investments as defined by State and local government officials 
rather than by the SEC.
    GFOA has identified two key issues that should be weighed 
as Congress considers this legislation to improve access to 
capital. First, money market funds have been utilized 
effectively to both manage liquidity for public sector 
investments and to provide a reliable source of working capital 
to fund public services and finance infrastructure investment. 
Legislation such as this would allow governments to seamlessly 
continue accessing the capital markets without increasing costs 
for taxpayers. Money market funds are a widely used cash 
management tool for individuals, corporations, as well as for 
State and local governments.
    According to Federal Reserve data, State and local 
governments hold over $183 billion of assets in money market 
funds. Money market funds themselves are key purchasers of 
municipal securities. Historically, they have been the largest 
purchasers of short-term tax exempt debt.
    GFOA has supported and will continue to support initiatives 
that both strengthen money market funds and ensure investors 
have access to high-quality securities that can be bought and 
sold in an efficient market. However, the SEC rule change that 
requires a floating rather than a fixed NAV created unintended 
consequences that impact large governmental entities and small 
communities alike.
    Second, since the SEC rule changed from a fixed to a 
floating NAV, we have seen a negative impact on State and local 
governments. The original objective of the rule change was to 
protect investors in money market funds, but we think that 
those concerns were already addressed in the 2010 amendments to 
rule 2a-7. GFOA and other State and local government issuer 
groups supported those amendments. Despite the positive impact 
of the 2010 amendments, the SEC moved forward in adopting 
additional amendments to the rule in July 2014, which became 
effective just last year.
    Throughout that process, GFOA and public finance officers 
throughout the country submitted analysis showing that a 
floating NAV would do little to deter heavy redemptions during 
a financial crisis and would instead impose substantial costs 
on State and local governments.
    Between January 2016 and July 2017, tax exempt money market 
fund assets under management fell by half, from $254 billion to 
$135 billion, a dramatic shrinking of an important market for 
municipal debt. At the same time, municipalities issuing 
variable rate demand bonds saw their borrowing costs increase, 
nearly double the Federal Reserve's rate increases over the 
same period. Many State and local governments opted to issue 
higher fixed rate bonds because issuing variable rate debt to 
money market funds was costly. In both cases, the higher costs 
were shouldered by taxpayers and ratepayers.
    Finally, the SEC rule changes implications for the 
investments State and local governments rely on to protect 
public funds. Many have specific State or local statutes or 
policies that require them to invest in financial products with 
a stable NAV. This ensures that public funds are appropriately 
safeguarded. Thus, State and local governments commonly use 
money market funds with a stable NAV for managing operating 
costs--operating cash. Requiring a floating NAV creates an 
unnecessary obstacle that has steered State and local entities 
into very low yielding U.S. Government backed funds or other 
alternatives from what was already a safe and highly liquid 
market.
    Chairman Huizenga, Ranking Member Maloney, and 
distinguished members of the committee, public finance officers 
are encouraged by and support initiatives like H.R. 2319, the 
Consumer Financial Choice and Capital Markets Protection Act of 
2017. I thank you for the opportunity to speak with you here 
today, and I will be happy to take your questions.
    [The prepared statement of Mr. McCoy can be found on page 
65 of the Appendix]
    Chairman Huizenga. Thank you. We appreciate that.
    And with that, Professor Bullard, you are recognized for 5 
minutes.


                   STATEMENT OF MERCER BULLARD

    Mr. Bullard. Chairman Huizenga, Ranking Member Maloney, 
members of the subcommittee, thank you again for the 
opportunity to speak before you today.
    I will focus my comments this morning on the BD leverage 
proposal. And I would like to think that we can all agree that 
before permitting BDCs (business development companies) to 
increase their leverage, we need to know how much leverage BDCs 
actually use, and ensure this information is fully and 
accurately disclosed.
    It appears to me that neither condition is currently 
satisfied. We do not know how much leverage BDCs actually use. 
And if we do not know how much leverage they use, then it 
follows that BDC leverage is not being fully or accurately 
disclosed.
    Over the last three decades, since the banking crisis of 
the 1980's, banking regulation has evolved to employ diverse 
measures of risk that provide a more accurate view of the 
threat of bank failure. Traditional diversification, 
concentration, and leverage limits have been supplemented by 
risk-based capital ratios, value at risk measures, liquidity 
coverage ratios, off balance sheet contingency weightings, 
tiered asset categories, stress tests, and living wills. These 
measures have still not kept pace with the development of 
increasing complex financial instruments and capital 
structures, but they have them within site.
    The BDC leverage limit is a different story. It captures 
very little of the information one would need to evaluate a 
BDC's effective leverage. It does not consider the relative 
quality, priority, or term of BDC assets, nor does it capture 
the term reliability or portfolio income sensitivity of BDC 
loans. It does not reflect interest rate risk. Industry 
analysts agree the leverage limit is inadequate. One 
publication has stated, quote: ``In our view, the raw leverage 
measure, debt over equity, doesn't tell the whole story as 
loans that BDCs hold have various degrees of implicit 
leverage,'' end quote.
    This is a bit of an understatement as the effective ratio 
estimates by those same analysts bear little resemblance to the 
one-to-one statutory leverage limit. In the fall of 2015, for 
example, these analysts rated BDC leverage ratios as ranging 
from a low of .58 to 1 to a high of 7.57 to 1. The 7.57 ratio 
is obviously not consistent with the one-to-one statutory 
limit. The high of 7.57 to 1 is more than 13 times the low 
estimate, which shows a degree of variance that also does not 
comport with the statutory leverage eliminate.
    These high-leverage ratios are not disclosed to investors, 
nor is their potentially disastrous effect. The BDC that had 
the 7.57 to-1 ratio showed in a recent filing that a mere 10 
percent loss in the market value of its holdings would result 
in a 23.5 percent decline in the value of the shareholder 
stake. This disclosure is still inadequate. It posits that a 10 
percent decline is a worst-case scenario. The SEC should know 
better.
    In comparison, the Fed's worst-case scenario for its 2017 
supervisory stress test assumes a 50 percent decline in equity 
values and a 25 percent decline in housing prices and a 35 
percent decline in commercial real estate and a 10 percent 
unemployment rate. I submit that worst-case scenario disclosure 
must reflect at least a 20 or a 25 percent drop, if not a 40 or 
45 percent drop, in order to be useful.
    It is fitting that the picture on the cover of this 2015 
BDC scorecard is a photo of a man climbing a sheer rock face in 
running shoes without any ropes. I find that the inadequacies 
of BDC risk disclosure were matched by inadequate disclosure in 
other respects. A retail investor could not reasonably be 
expected to understand the mechanics of performance fees 
charged by BDC managers based on SEC mandated disclosure. I was 
unable to determine whether BDC managers that charge fees on 
top of fees charged by underlying funds or maybe a questionable 
practice were also double-dipping by being paid themselves by 
the underlying fund. Nor could I practicably determine whether 
and to what extent a BDC was actually investing consistent with 
its statutory mandate.
    I am also concerned about BDC's enforcement history. A 
recent article by a former SEC examiner, John Walsh, lists a 
pattern of BDC enforcement actions over just the last 10 years 
that is extraordinary in the light of the fact that the total 
number of BDCs has never been much over 100. I recommend that 
members consider this article which appears in Volume 14 of the 
Dartmouth Law Journal before making a final decision on the 
pending legislation.
    I again thank the subcommittee for the opportunity to 
appear before you today, and I would be happy to try to answer 
any questions you might have on this or other matters before 
the subcommittee. Thank you.
    [The prepared statement of Mr. Bullard can be found on page 
34 of the Appendix]
    Chairman Huizenga. Thank you very much.
    And with that, Mr. Gerber, you are recognized for 5 
minutes.


                 STATEMENT OF MICHAEL F. GERBER

    Mr. Gerber. Thank you.
    Thank you, Chairman. Thank you, Ranking Member Maloney and 
the other members of the subcommittee, for the opportunity to 
participate in today's hearing. My name is Mike Gerber. I am an 
Executive Vice President at FS Investments, formerly named 
Franklin Square Capital Partners. We were founded in 2007 in 
Philadelphia with the mission of providing mainstream investors 
access to institutional quality alternative asset management.
    We have used the BDC, among other structures, to execute on 
this mission. In 2009, we launched the industry's first ever 
nontraded BDC. We listed that on the New York Stock Exchange a 
few years later, in 2014, creating a liquidity event for our 
investors. Today, we manage five BDCs, and we have more BDC 
assets under management than any other manager in the industry.
    We have investors from all 50 States. We have portfolio 
companies in 39 States. And across the industry, there are now 
more than 90 BDCs and more than $90 billion in assets under 
management in the BDC space.
    Importantly, no BDC failed during the Great Recession. We 
all know those were the worst economic times we have 
experienced as a country since the Depression. And I think it 
is a very important point to make because it is a very durable 
structure that has been protective of investors.
    As you all know, in 1980, BDCs were created through 
bipartisan efforts with an eye toward matching mainstream 
investor dollars with Main Street businesses. Because BDCs were 
designed with an eye toward retail investors, they are 
appropriately very heavily regulated. In fact, whether traded 
or nontraded, BDCs are among the most highly regulated 
investment vehicles in the marketplace. And because of our 
extensive public filings, BDCs are fully transparent to 
regulators, rating agencies, analysts, lenders, and investors 
alike.
    Specifically, BDC's register shares under the 1933 act and 
elect treatment as a BDC under the 1940 act. In addition, a BDC 
is subject to the 1934 act as a public company, meaning we must 
file 10-Ks, 10-Qs, 8-Ks, and proxy statements. Contained in 
every Q and K is a schedule of our investments, along with the 
details around those investments, such as the name of the 
portfolio company, the size of the investment, the position 
within the capital stack of that investment, interest rates, 
and current price marks.
    Other key protections in the BDC include mandatory third-
party custody of BDC assets; a board of directors, the majority 
of whom must be independent; and board approval of key matters, 
such as management fees and quarterly evaluations of the 
investments in a BDC portfolio.
    In addition, our nontraded BDCs are also regulated by FINRA 
and by the Blue Sky regulators in all 50 States. Taken 
together, these laws and regulations ensure that BDCs are 
extremely transparent, minimize conflicts of interest, and 
provide investors with a high level of protection.
    One of the key mandates under the law is that BDCs must 
invest at least 70 percent of our assets in U.S. private and 
small cap companies. As a result, BDCs have provided a 
significant amount of capital to the middle market. Middle 
market businesses employ about 48 million people today, or one 
out of every three workers in the private sector. In fact, 
between 2011 and 2017, middle market firms generated 103.3 
percent job growth compared to small business at 7.4 percent 
and large firms at 52.3 percent. And now, 42 percent of middle 
market firm companies say they expect to grow in 2018. So we 
believe it is important that middle market lenders like BDCs 
are well positioned to provide the capital necessary to fuel 
that growth.
    There are two key aspects to this legislation, one that 
would streamline offering reforms making our offering of our 
securities more efficient for investors. Also, as the professor 
mentioned, would enable--there is a provision that would enable 
BDCs to increase leverage. We believe the increase in leverage 
is modest. First, BDCs--and important. First, BDCs would have 
more capital to deploy in the middle market, while keeping all 
investor protections that I mentioned in place.
    Second, this would enable BDCs to build safer portfolios, 
delivering the same or higher returns, while investing higher 
up in the capital stack of portfolio companies.
    Third, even with the proposed increase, two-to-one leverage 
would still be quite low when compared to other lenders in the 
marketplace. For example, banks are leveraged anywhere from 8 
to 1 to 15 to 1. Hedge funds may even be over 20 to 1. And 
neither of those lending structures offer the same transparency 
as--
    Chairman Huizenga. The gentlemen's time has expired.
    Mr. Gerber. Yes, sir. Thank you, sir.
    [The prepared statement of Mr. Gerber can be found on page 
57 of the Appendix]
    Chairman Huizenga. Thank you.
    And we are going to need to move to Mr. Stevens. You are 
recognized for 5 minutes.


                STATEMENT OF PAUL SCHOTT STEVENS

    Mr. Stevens. Chairman Huizenga, Ranking Member Maloney, and 
members of the subcommittee, I appreciate the opportunity to 
testify today on proposals to improve access to capital for 
small businesses and communities.
    ICI is the leading association representing regulated funds 
globally, and our member funds are the vehicles through which 
more than 100 million Americans pursue important financial 
goals, including saving for retirement, college, or a first 
home. Registered funds also play a vital role in the U.S. 
economy. They channel capital from fund investors to the 
markets and users of capital. Funds help fuel innovation, 
growth, and job creation.
    One measure that could enhance this process is Mr. 
Hollingsworth's bill, the Expanding Investment Opportunities 
Act. ICI fully supports the discussion draft, because we feel 
its provisions to modernize offering rules for closed-end funds 
will provide significant benefits to these funds, to their 
shareholders, and to the enterprises that they can help 
finance.
    Like other registered funds, closed-end funds are 
comprehensively regulated under the Federal securities laws and 
Securities and Exchange Commission regulations. They differ 
from mutual funds, also known as open-end funds, because 
closed-end funds have flexibility to invest in a broader array 
of assets, such as stocks and bonds issued by small private 
companies.
    For investors, closed-end funds provide enhanced income and 
cash-flow, increased after-tax efficiency, and broader 
diversification. We estimate that more than 3 million American 
households held $271 billion in assets in 533 closed-end funds 
as of June of this year.
    Now, despite their numerous benefits, the number of closed-
end funds has declined sharply, by more than 19 percent over 
the past decade. In 2016, only 8 new closed-end funds issued 
shares, and that is a decline of 81 percent from 2007. Clearly, 
this well-established, well-regulated investment vehicle has 
untapped potential to help fund our economy.
    Mr. Hollingsworth's bill would help reverse these trends. 
It would reduce the burdens of certain SEC registration and 
communications requirements that impose heavy costs on funds 
and their investors without commensurate investor protection 
benefits. The resulting cost savings would be passed on to fund 
shareholders, making these funds more attractive.
    Now, while the discussion draft provisions are quite 
technical, they actually follow well-established rules 
governing securities issued by operating companies. If closed-
end funds could avail themselves of these rules, they would be 
subject to all of the same conditions as operating companies, 
plus the extensive investor protections of the Investment 
Company Act.
    When former SEC Chair Mary Jo White evaluated nearly 
identical legislative provisions in 2013, in that case with 
respect to BDCs, she concluded that, quote, ``In my view, these 
provisions do not raise significant investor protection 
concerns.'' We agree, and we believe that now is the time for 
Congress to act.
    Some will argue that these changes should be left to the 
SEC. In fact, the Commission suggested the need to modernize 
registration and communications requirements for closed-end 
funds in 2005. Unfortunately, it has not followed through, and 
the Commission has no fewer competing priorities today than it 
has had throughout the past dozen years. We believe that the 
discussion draft approach, giving the SEC 1 year to enact new 
regulations before the bill's provisions would take effect, is 
necessary and appropriate.
    We have also heard concerns that automatic shelf 
registration would allow closed-end funds, including some funds 
that are not traded on exchanges, to register new offerings 
without a full SEC review. This is true, but similar treatment 
for operating companies appears to have worked quite well for 
more than a decade. Moreover, closed-end funds that utilize 
these provisions already will have filed a registration 
statement, reviewed and declared effective by the SEC staff.
    For all these reasons, we wholeheartedly support Mr. 
Hollingsworth's discussion draft as a valuable set of reforms 
that will enhance financing for the economy, while maintaining 
stringent investor protections.
    Mr. Chairman, if I may briefly comment on one other 
measure. ICI also supports the proposed offering and 
communications reforms for business development companies. We 
do not object to the bill's provisions to grant BDCs more 
flexibility to use leverage.
    Mr. Chairman, Mrs. Maloney, members of the committee, thank 
you again for the opportunity to testify. I will be happy to 
take any questions.
    [The prepared statement of Mr. Stevens can be found on page 
79 of the Appendix]
    Chairman Huizenga. Thank you, Mr. Stevens.
    Mr. Quaadman, you are recognized for 5 minutes.


                  STATEMENT OF THOMAS QUAADMAN

    Mr. Quaadman. Thank you, Chairman Huizenga, Ranking Member 
Maloney, members of the committee. Thank you for holding this 
hearing today. We appreciate the continued bipartisan 
leadership of this subcommittee on issues related to capital 
formation and job creation.
    Indeed, the passage of the JOBS Act and the recent 
introduction of reg S-K reforms by the SEC would not have 
happened without the efforts of this subcommittee. And the 
passage this week of bills by the House on testing the waters 
and accredited investor reforms show the continued dedication 
of this subcommittee on those issues. However, the situations 
of capital formation are still in dire straits, and much needs 
to be done to reverse the trends. To sum it up, the diminution 
of financial resources is calcifying entrepreneurship.
    During this past recession and for the first part of the 
recovery, for the first time ever, business destruction 
outpaced business creation. This occurred for a contracted 
period of time, and business creation rates have not come back 
to prerecession norms. Bank lending to small business is down 
and small business capital needs are not being met. Firms that 
are less than 5 years old are being particularly hard hit, as 
are business loans of under a million dollars. This data comes 
from the FDIC Community Reinvestment Act reports, the Federal 
Reserve, and the U.S. Census Bureau. Our 2016 corporate 
treasurer survey and 2017 small business survey back this 
government data up. But the situation is even worse.
    A 2016 study by the Economic Innovation Group found that 
between 2010 and 2014, 3 of 5 counties in the United States had 
more business exit than entries. And to make it even worse, 50 
percent of all business startups occurred in 20 counties in 
only 7 States, representing 17 percent of the American 
population.
    If we are to return to historic rates of economic growth 
and job creation, we need to fix these problems in a 
comprehensive and lasting way. The Chamber in a few weeks is 
going to issue an IPO report, and we look forward to working 
with this subcommittee on some of the comprehensive proposals 
we are going to make.
    But the bills before us today are a step in the right 
direction. The Small Business Credit Availability Act drafted 
by Mr. Stivers deals with business development corporations. 
BDCs have slowly been filling the void, since the recession, of 
financial firms that have left for regulatory reasons, both to 
middle market and small market capital areas. And BDCs need to 
be doing more.
    This bill would allow for a modest increase in leverage and 
would allow BDCs to deploy capital more efficiently. The SEC 
would continue to have oversight and regulations, and this bill 
would also allow for increased investor protections so that if 
there is an increase in leverage, investors have an 
opportunity, over a course of a year, to remove themselves from 
the BDC.
    The Expanding Investment Opportunities Act by Mr. 
Hollingsworth deals with expanding the well-known seasoned 
issuer status to closed-end funds. This will disseminate 
information more quickly, end duplication, reduce costs, and 
have capital be deployed--deployed more quickly. If we allow 
high school students to use a common app to apply for a 
college, we should do no less for America's job creators. The 
quick passage of these bills will help middle market and small 
businesses meet their capital needs.
    I also want to address a bill introduced by Mr. Rothfus, 
the Consumer Financial Choice and Capital Markets Protection 
Act. This bill shines a light on a capital formation problem 
that must be reviewed. The money market fund reforms 
implemented by the SEC have made corporate cash management more 
difficult and inefficient and has reduced the pool of 
productive working capital. A recent study by the Treasury 
Strategies, which we would like to submit for the record, shows 
that there is a $371 billion shortfall in business capital. 
More troubling, this has led to a crowding-out situation so 
that where big businesses are removing themselves from 
commercial paper and going into the bank lending space to meet 
their short-term needs, they are crowding out middle market 
companies and small businesses.
    In conclusion, we believe that we can work together to 
solve these issues and put America back to work. We look 
forward to working with the subcommittee to find comprehensive 
solutions to these problems and addressing America's capital 
formation crisis.
    Thank you, and I am happy to take whatever questions you 
may have.
    [The prepared statement of Mr. Quaadman can be found on 
page 69 of the Appendix]
    Chairman Huizenga. Thank you, Mr. Quaadman. I appreciate 
this.
    I am going to attempt to hold the standard and not use my 
full 5 minutes, but I will recognize myself for 5 minutes.
    The SEC's final rule provided money market funds with 2 
years to comply with these new requirements, which ultimately 
became effective October 14 of 2016, the final rule also 
permits government and retail MMFs to use the method to seek 
and maintain a fixed NAV. Some market participants have 
expressed the concern that the SEC's 2014 rule would result in 
the loss of short-term liquidity in the capital markets, 
particularly in the municipal securities market.
    Along with Ranking Member Maloney, we wrote to the 
Securities and Exchange Commission to review, and asked them to 
review the current landscape for MMFs (money market funds) and 
the impact of the 2014 rule on both short-term corporate and 
municipal financing. And without objection, I would like to 
enter into the record our letter to Chairman Clayton as well as 
his response letter.
    Mr. Quaadman, Mr. Stevens, how, really very quickly, has 
the industry changed, or have we seen significant shifts in the 
money market since the October 2016 implementation date? And 
then I am also curious how the industry has adapted to the new 
rules.
    Mr. Quaadman. We have seen--I will turn it over to Mr. 
Stevens in a second. We have seen a dramatic shift into 
government prime funds, and this is why you have also seen a 
dramatic retrenchment of businesses from using money market 
funds as a means of cash management. So it has actually changed 
the way that a corporate treasurer has to go out and manage 
their day-to-day activities in a negative way.
    What I would also say too, if you look at this rule in 
conjunction with the Volcker rule, Basel III, and a number of 
others, what it does is it places a premium on government funds 
or shifting money into U.S. treasuries, which is also a 
concentration of risk, which I think the regulators have 
ignored and really should look at as well.
    Chairman Huizenga. OK. Mr. Stevens.
    Mr. Stevens. I think that is a good summary. But what I 
would say is many of these effects were ones that were 
predicted at the time that these rules were in development. The 
ICI said many, many times that the proposals would have exactly 
the kinds of adverse effects that my colleague here has said in 
connection with municipal finance. And the way the rules are 
structured, prime assets have declined very precipitously and 
in their place rising just about as much have been government 
securities.
    Chairman Huizenga. OK. Mr. McCoy, how are municipalities 
currently meeting their short-term financing needs? And how has 
the 2014 reforms impacted how municipalities handle their cash 
management needs?
    Mr. McCoy. Sure. Thank you.
    I think in terms of short-term products available, there is 
really only one other meaningful product that municipalities 
use. It is an index-based note. So, for example, we take the 
SIFMA index or a percent of LIBOR and put a spread on that. And 
that can go out for 2, 3, 4, 5 years, whatever. That is really 
the only good alternative other than issuing short-term notes, 
which are not what I would characterize as a long-term 
financing vehicle. So I think from the issuance perspective, we 
have seen a dramatic reduction of State and local governmental 
issuers accessing this market.
    And then from an investment perspective, as I noted in my 
testimony, treasurers across the country that invest public 
funds typically are held to a fixed NAV construct for those 
investments. And with this rule, we have seen them leave this 
market.
    Chairman Huizenga. Chairman Clayton, in his letter, says 
that, basically, we should just take some more time and collect 
some data. I mean, do you have an opinion on this?
    Mr. McCoy. I think we are always looking at the data and 
what the data tells us. You know, we can't argue--
    Chairman Huizenga. It is more of a time element here, 
right?
    Mr. McCoy. Certainly time, yes. We have seen assets in this 
complex drop by half, anticipating the rule change and then 
after the rule change. So I would argue that we have had enough 
time, and we have seen the impacts of the rule change. I don't 
think they are necessary.
    Chairman Huizenga. OK. With that, I will yield back.
    The Ranking Member is recognized for up to 5 minutes.
    Mrs. Maloney. Thank you so much. And I want to welcome all 
of the panelists here, particularly Mr. McCoy from the great 
State of New York and the MTA, and thank him for his work on 
completing the Second Avenue Subway, the best subway in the 
Nation, which happens to be in my district. Thank you so much.
    I would like to continue on the Chairman's questioning and 
ask you about H.R. 2319. SEC Chairman Clayton, in his response 
to myself and Chairman Huizenga, stated that even if we 
repealed the NAV requirement from municipal and corporate 
funds, some investors might not come back to these funds. He 
stated, and I quote: ``While some investors might choose to 
leave government money market funds and return to prime and 
municipal funds, such a shift also might not occur if investors 
newly appreciate prime and municipal money market funds' 
inherent liquidity and principal stability risk and, therefore, 
choose to remain in government money market funds.''
    So what do you think of his comments? Do you think that 
investors who have left municipal funds would come back if the 
floating NAV requirement was repealed?
    Mr. McCoy. I do believe that that is the case. I believe 
that investors would take more comfort in this product if they 
knew that a dollar was worth a dollar at all times. And, quite 
frankly, I think that is what we believe to be a core reason 
why investors fled this particular product in substantial ways 
that they did.
    Mrs. Maloney. OK. Then, Mr. Stevens, the Expanding 
Investment Opportunities Act is intended to modernize the 
offering rule for closed-end funds so that these funds are 
treated the same as normal operating companies like Google and 
GE. Of course, we know the SEC could make these changes on 
their own and decided not to extend the fast-track offering 
rules to closed-end funds back in 2005.
    So my question is why did the SEC not include closed-end 
funds in the 2005 offering reform rule? Was it just an 
oversight or are there differences between closed-end funds and 
operating companies that make it difficult to apply the fast-
track offering rules to closed-end funds?
    Mr. Stevens. Thank you for your question, Mrs. Maloney. I 
don't think it is the second of those. I think it is a fairly 
straightforward proposition. The SEC at the time said, oh, we 
will get back to that. I am speculating now. But sometimes it 
is very difficult when you have two different divisions at the 
SEC with responsibility that overlaps. In the case of operating 
companies, that is the Division of Corporation Finance. In the 
case of the closed-end funds, it would be the Division of 
Investment Management to come together and converge on a set of 
changes that will affect regulated entities in both spaces.
    What we do know is that they said they would get back to 
it. And 12 years later, they haven't. And, unfortunately, I 
don't think there is any prospect that they will. I am very 
sympathetic to the limited regulatory rulemaking resources that 
they have and the many, many competing priorities. So with all 
the goodwill in the world, I just don't think, after a dozen 
years, we should think that they will return to the issue, 
absent some prompting.
    Mrs. Maloney. Thank you.
    And, Mr. Gerber, as you know, the Small Business Credit 
Availability Act would allow BDCs to double their leverage. 
This could, in theory, allow BDCs to lend more to small- and 
medium-sized businesses or it could allow BDCs to simply 
increase their risks.
    So my question is what would you use the additional 
leverage for? Would you lend to riskier companies or would you 
lend more to creditworthy small businesses? What would the 
impact be?
    Mr. Gerber. Well, I certainly can answer for FS 
Investments, and it would be the latter. It would enable us to 
invest in more companies higher in the capital stack reducing 
risk, but still maintaining the returns that our investors have 
come to expect from BDCs. And I think it is fair to assume that 
the rest of the industry would follow suit. And I say that 
because capital availability to poorer performing BDCs will not 
be the same as it would be for higher performing BDCs. In other 
words, those poor performers would not be able to do 501 
offerings, issuing new equity. They would not be able to draw 
down more debt from lenders, from the banks. So I think it is 
fair to assume that that would be an industrywide approach. 
Investing higher in the capital stack, taking on less risk.
    Mrs. Maloney. Well, I am sympathetic to the testimony of 
Mr. Quaadman where he said this would move more credit 
availability and investment to smaller-sized companies that 
often do not get the attention they deserve.
    Thank you very much. My time is up.
    Chairman Huizenga. The gentlelady's time has expired.
    With that, the Chair recognizes the Vice Chairman, Mr. 
Hultgren, from Illinois for 5 minutes.
    Mr. Hultgren. Thank you, Chairman. Thank you all for being 
here.
    Mr. Stevens, if I could address my first couple questions 
to you regarding the Expanding Investment Opportunities Act, 
the draft legislation that is being sponsored by Mr. 
Hollingsworth. From what I understand, this is a fairly simple 
piece of legislation that should have strong positive impact 
for investors and for our capital markets.
    Three questions here, if I could. In general, why do you 
believe the number of closed-end funds has declined in recent 
years? And then how will expanding investment opportunities in 
closed-end funds benefit investors? And then final part of 
that, can you speak to the significance of closed-end funds 
flexibility to invest in less liquid securities? I know on page 
2 of your testimony you talk about this. And what are some of 
the examples that come to mind and how will this contribute to 
capital formation? A lot there.
    Mr. Stevens. I hope I remember all three of those 
questions.
    Mr. Hultgren. First one, why closed-end funds have declined 
in recent years.
    Mr. Stevens. They compete in the ecosystem of financing 
with lots and lots of other alternatives, and including some 
innovations, like exchange-traded funds, which are 
extraordinarily popular now. They exceed $3 trillion in assets, 
in ETFs (exchange-traded funds), in the United States. There is 
a straightforward quality about ETFs. Closed-end funds are a 
slightly more complex vehicle. But I think the bill that Mr. 
Hollingsworth has in view, at the margin at least, provides a 
modernization for closed-end funds with respect to the way they 
can respond to market developments, bring their new issuances 
to market, inform their investors, and will make them at least 
marginally more competitive.
    Now, why is that important? I think it is important because 
they occupy, again, a unique space within the framework of 
regulated investment companies. They have opportunities to 
invest in small enterprises, in stocks and bonds that would not 
necessarily be ones that an open-end or a mutual fund company 
would. They have opportunities to leverage their portfolios in 
ways that mutual funds would not, and enhance the yield that 
they offer to investors. And they have opportunities to provide 
additional tax efficiencies.
    So in the broad array of investment opportunities, they 
occupy a specific place, and I think it is a good one. They 
have been part of our industry since 1940. And I think these 
modest reforms that are in view here will continue to make them 
an attractive option for investors without sacrificing any 
protections.
    Mr. Hultgren. Thank you.
    I want to move on to the money market fund legislation. And 
first, Mr. Chairman, I would like to enter a letter into the 
record dated December 1, 2016, which is addressed to Speaker 
Ryan from the State Finance Officers Association, requesting 
consideration of the Consumer Financial Choice and Capital 
Markets Protection Act, one of the three bills we are reviewing 
today.
    Chairman Huizenga. Without objection.
    Mr. Hultgren. Next, Mr. McCoy, if I can address this to 
you. I was wondering if you could speak to the merits of this 
legislation. What have the SEC's money market fund rules meant 
for your cost of financing?
    Mr. McCoy. Thank you for that question, Congressman. As a 
large issuer, we need access to all parts of the yield curve to 
finance long-term infrastructure. And what we have observed 
over many years of issuing bonds and notes and products into 
the money market complex is that our lowest cost of funding has 
always been achieved using variable rate products at the short 
end of the yield curve, which go right into the money market 
complex.
    Mr. Hultgren. Thank you.
    Mr. Stevens, going back to you. Does the SEC have the legal 
authority to amend these money market fund rules? And should 
Congress let the SEC review the data and decide how to move 
forward with this rule?
    Mr. Stevens. It would have the authority, Congressman. You 
know, I have spent many more than 5 years of my life since 2007 
on money market fund issues, through two sets of really 
extensive reforms of money market funds. I don't think, at 
least from the perspective of our membership, that there is a 
lot of conviction around going through yet another extended 
process at the SEC. And I am absolutely convinced that at the 
SEC they have other priorities that they would like to be 
addressing.
    Mr. Hultgren. Thank you.
    I will yield back a few extra seconds here as well. So 
thanks, Chairman.
    Chairman Huizenga. Much appreciated by everybody.
    So with that, the Chair recognizes the gentleman from 
Georgia, Mr. Scott, for 5 minutes.
    Mr. Scott. Yes. Thank you, Mr. Chairman.
    Mr. Gerber, let me start with you. But first let me, as one 
University of Pennsylvania graduate to another, welcome you to 
the Financial Services.
    MR. Gerber. Thank you, Congressman.
    Mr. Scott. Get back to Philadelphia, give my regards to the 
Wharton School of Finance.
    Mr. Gerber. We will.
    Mr. Scott. Let me ask you, I have worked on this bill with 
my good Republican friend Mick Mulvaney when he was here, he is 
now the budget director, that will help the small business 
development corporations that your bill will. And I understand 
that you, from my staff, that you and Mr. Stivers have made 
some changes to the bill, improvements to the bill, that 
address some of the concerns of the consumer advocates. Would 
you take a moment and share those with us?
    Mr. Gerber. Sure. Sure. Thank you, Congressman.
    You are right, when the bill was introduced in the previous 
Congress, and we had a hearing similar to this one a couple of 
years ago on that bill, there were five key provisions in that 
bill. And three of those five provisions are no longer in the 
bill--or are not reflected in the current discussion draft that 
Congressman Stivers has authored.
    One of those three that is no longer in there was the 
subject of an amendment addressed by Congressman Himes. And 
that provision would have expanded the definition of eligible 
portfolio companies. So as you know, we have to invest 70 
percent of our assets in private or small cap U.S. companies. 
And in that 30 percent bucket, we can invest in non-U.S., large 
cap, mid cap, and financial companies. And I think there was 
bipartisan concern over expanding the definition, particularly 
with the focus on not wanting BDCs to invest more in financial 
companies. That provision is no longer in the legislation. That 
has come out. And that was one that caused concern by consumer 
groups, investor protection groups, as well as both Republican 
and Democratic Members here in the House and in the Senate.
    Mr. Scott. Very good.
    Let me go to you for a moment, Mr. McCoy, on another bill 
that I have worked on prior to that, and that is Congressman 
Rothfus' bill, which is the Consumer Financial Choice and 
Capital Markets Protection Act, along with my Democratic 
colleague, Ms. Moore. And I wanted to make sure that you would 
share with the committee some of the issues. There has been an 
incredible disruption that I have seen in the marketplace for 
money market funds, specifically for the tax-exempt funds. And 
would you comment on that in particular and see how this 
legislation improves that?
    Mr. McCoy. Sure. Thank you. You know, as I noted in my 
testimony, the significant retreat from this product by retail 
investors who have typically invested in money market funds, 
tax-exempt money market funds, has had an effect to cause State 
and local governmental issuers who have historically been very 
active in that market to retrench and, as I noted, to go into 
other products, most predominantly fixed rate bonds which, of 
course, carry a higher cost of interest than a money market 
product than a variable rate demand bond. So that has had an 
effect on our ability to access, again, what we believe to be 
is the most efficient part of the yield curve, again, for 
building infrastructure.
    Mr. Scott. OK. Well, thank you very much.
    And, Mr. Chairman, may I make just a brief inquiry to you? 
And I want to ask if you would be kind enough, you and Chairman 
Hensarling, to--would it be possible for us to move these 
bills? They are both bipartisan bills. And I know we are 
getting to crunch time at the end of the year. Do you think, 
working with Chairman Hensarling and you, that we could get 
these bills on the floor for a vote and over to the Senate 
before Christmas?
    Chairman Huizenga. The gentleman's time has expired. No. We 
will certainly be giving this full consideration. As you can 
see, we have the hearing today for the purposes of gathering 
that information and working toward that. The fact that there 
is broad bipartisan support helps any and all issues coming out 
of this committee, and certainly helps over on the other side 
of the Capitol as well.
    Mr. Scott. Yes, sir. Thank you, Mr. Chairman. I appreciate 
it.
    Chairman Huizenga. Now the gentleman's time has expired.
    All right. With that, the Chair recognizes the gentleman 
from Arkansas, Mr. Hill, for 5 minutes.
    Mr. Hill. Mr. Chairman, I wanted to talk to Mr. Stevens a 
little bit more about the closed-end funds issue. Thank you for 
the discussion you had with my colleague about their 
competitive position and compared to ETFs. And one of the 
strong, I think, issues is that they can pursue strategies that 
involve some leverage and disclose that.
    Would you say that that is really one of the principal 
advantages in this ecosystem you are talking about? I mean, 
from an investor point of view, the transparency of the data, 
and reflect a little bit more on that, both on fixed income and 
equities.
    Mr. Stevens. Well, the current closed-end fund business is 
about maybe 60 percent fixed income investment and about 40 
percent equity. And, yes, I think, Congressman, their ability 
to use a bit of leverage in their portfolio is something that 
is characteristic of closed-end funds and provides them an 
opportunity to enhance their return to their investors. And 
that, I think, in part, is what makes them attractive; in a 
sense, that gives them advantages in terms of tax management 
and things of that nature. So, again, it is a unique 
characteristic that they have. And we are talking about a range 
of different investment options.
    But as I said in my testimony, I think there is untapped 
potential there. I don't know how large it is, but untapped to 
be a source of financing to small enterprises and for other 
purposes in the economy. And that is a good thing, in my view.
    Mr. Hill. And do you think they have an advantage over 
attracting, as you say, smaller market cap stocks into that--as 
a collective format rather than some of their competitors?
    Mr. Stevens. Well, if you think about mutual funds and 
ETFs, the nature of their investments, ETFs are largely index 
products, so they are looking at, in many instances, large cap 
issuers and the like. Mutual funds tend to be larger in terms 
of their size. And so just their ability to invest in much 
smaller businesses, the stocks and bonds, is going to be 
constrained in a way that, with a smaller closed-end fund, 
would not necessarily be the case.
    Mr. Hill. Yes. Because I think that has, over of the years, 
really become a real challenge both in--we have talked in this 
committee many times about the cost of being public. But even 
if you move that down from very, very high market cap levels to 
smaller, you still have the coverage issues and the 
institutional investor interest area, even if it is a worthy 
company. And so we don't have many collective places for people 
to experiment with different market cap sizes.
    And, again, I agree with you on indexing that it, for the 
most part, drives the larger more liquid names, as it should 
be, by definition of being an index or a near index-type 
process.
    Do you know of a closed-end fund trend where they really do 
seek out smaller market cap names? Have you seen that among 
some of your members that have really been a source of looking 
for that emerging company that doesn't fit with a Morningstar 
style box that doesn't have the market cap required by a larger 
ETF requirement?
    Mr. Stevens. I think those are exactly the investment 
opportunities that many of them are seeking out.
    Mr. Hill. So you would say that that business is changing 
before our eyes, and you think that these proposals today would 
make that a more compelling and easier for them to pursue that 
strategy?
    Mr. Stevens. It is going to make them be able to get to 
market more quickly with respect to new issuance. It is going 
to facilitate their communications with the investing public. 
Now, I don't think this is going to be some revolution 
overnight. But at the margins, it is modernizing the ways in 
which they engage in a marketplace.
    Mr. Hill. But I just think this is a really interesting 
capital formation question.
    Mr. Stevens. I agree.
    Mr. Hill. Because you can't say that a closed-end strategy 
per se can compete with large cap growth international per se, 
although we have closed-end funds that do that. And so this to 
me is an opportunity maybe for the industry to transform itself 
and change and adapt, while so many of what we would think is a 
traditional collective investment have moved to lower cost 
different formats.
    Mr. Stevens. And that is why we support the changes.
    Mr. Hill. Yes. I appreciate the time.
    I yield back, Mr. Chairman.
    Chairman Huizenga. We are on a roll. The gentleman yields 
back.
    With that, the Chair recognizes the gentleman from 
California, Mr. Sherman, up to 5 minutes.
    Mr. Sherman. I want to add my voice to Mr. Scott's, that I 
hope we move forward on a markup. I would like to thank the 
Chair for holding these hearings and hope that it actually 
leads to a markup, as the gentleman said, well before 
Christmas.
    I want to first talk about small business development 
companies, because if you look at the capital structure of the 
United States, we have a lot of systems that move money to 
large corporations, to government bonds, to real estate. And 
yet the national interest, I think, requires that we are able 
to have vehicles that move money to small businesses, and that 
is where the technological changes that will give us high GDP 
growth are going to come from.
    I would point out that the discussion draft, Small Business 
Credit Availability Act, is patterned after a bill that passed 
through this committee 53 to 4. And it is my understanding that 
it is now a skinnier bill which incorporates, I believe, Mr. 
Himes' amendment. So you have a chance to start with a 54 to 3, 
depending upon what Mr. Himes says later. I am not speaking for 
him. That is a pretty good starting point.
    Mr. Gerber, in his testimony, Professor Bullard states that 
markets and regulators lack adequate method for estimating BDC 
leverage and its effect. The professor sites one industry 
measure that suggests that effective BDC leverage is actually 
several multiples of the current one-to-one limit. Can you tell 
us more your understanding of this concept of effective 
leverage?
    It seems like we are using a ruler with inches on it to 
measure the leverage of banks and other institutions in our 
society. And the professor is suggesting that we use 
millimeters to measure the leverage of BDCs. I am all for the 
metric system, but then we would, in order to put things in 
context, also have to use millimeters for measuring the 
leverage of all the other financial entities.
    So tell me what you--explain this effective leverage, as 
you understand it, and how it would allow--how your leverage 
compares, whether we are using millimeters or inches, to 
leverage off other financial institutions.
    Mr. Gerber. Thank you, Congressman. As I stated in my 
testimony and in one of my answers to an earlier question, BDCs 
are required, under the law, to provide a very significant 
amount of transparency into our portfolios; far more 
transparency than the banks are required to provide with 
respect to their lending practices or the portfolio companies 
to which they lend money; far more than other capital providers 
in the capital markets like hedge funds. So we are already 
starting off with a very transparent model.
    One of the disclosures that is required of BDCs is that of 
how much leverage is being used by the BDC. Financial leverage. 
I mean, how much money has been borrowed by the BDC so that the 
BDC manager can deploy that borrowed capital alongside the 
equity capital. That is fully transparent. That is financial 
leverage.
    I think the effective leverage, and I am using air quotes 
on that, the effective leverage factor or formula is one that 
was designed by an analyst. And I think it speaks to the 
transparency of the BDC model. That analyst was able to take 
the information that is provided in our disclosures every 
quarter to come up with this formula. And I think if you were 
to talk to that analyst, and I can't speak for him, but I think 
if you were to talk to that analyst what he would tell you is 
his formula is not measuring the financial leverage in a BDC. 
It is trying to put a score on the portfolio construction of 
the BDC by looking at where in the capital stack the BDC is 
deploying its assets. And so the lower in the capital stack any 
one investment is, the higher the score would be. And then he 
makes a bunch of assumptions.
    So he just puts a number on mezzanine debt. He puts a 
number on CLO debt. He puts a number on equity. But he doesn't 
actually look at the underlying portfolio company to determine 
how much debt is on that underlying portfolio company to come 
up with this score. So it is a shorthand way to enable BDC 
investors to compare BDCs. It is not a measurement of financial 
leverage. And I think that is a very important distinction. I 
would also add--
    Chairman Huizenga. The gentleman's time has expired. I'm 
sorry. We have got to get to other questions.
    Mr. Gerber. Yes.
    Chairman Huizenga. The gentleman from Maine, Mr. Poliquin, 
is recognized for 5 minutes.
    Mr. Poliquin. Thank you, Mr. Chairman. I appreciate it. 
Thank you all very much for being here, gentlemen.
    I represent rural Maine, and I am very concerned about 
small businesses. We don't have very many large businesses in 
the State of Maine. We have got a lot of mom-and-pops and a lot 
of mid-sized companies, small companies. And access to capital 
is absolutely critical. This is always something that is on my 
mind. Second of all is we have a lot of small savers, a lot of 
small investors who are looking to save for their kid's college 
or technical education or their own retirement. So cost and 
transparency is also very important when you are looking at 
various investment vehicles.
    Mr. Gerber, if I could ask you a question, and just give 
you a--just a couple--just a bit of information here, and you 
probably already know this, is that the State of Maine has 
benefited from BDC investment to the tune of about $76 million, 
including investments in Auto Europe, CashStar, Fiber 
Materials, Native Maine operations, tools and technology and 
what have you. So we are very grateful for the structure, the 
investment vehicle that you folks represent, you represent here 
on this panel today.
    One of my questions is what about valuing the underlying 
portfolios? Tell me how this works. If you are a publicly 
traded BDC, do you have to mark to market any specific time? 
And what if you are not publicly traded? And what if I am an 
investor? I am worried about the little guy, the little 
investor, and I want to participate in a vehicle that you 
offer, how often do you folks mark to market as required by 
law, and should that change?
    Mr. Gerber. Yes, sir. So whether a BDC is nontraded or 
traded, it is required under the law every quarter to post the 
schedule of all investments in the portfolio. The law also 
requires a BDC to mark at least 25 percent of that portfolio 
every quarter, so 100 percent on the year. Now, at FS, we 
happen to do 100 percent of the portfolio every quarter.
    Mr. Poliquin. So if I am an investor and a small investor, 
I am trying to get access to the information that you are 
providing such that I can determine if your investment vehicle 
is right for me, then the best I can do is--especially for a 
BDC that is not traded, is every quarter get a valuation of my 
investment?
    Mr. Gerber. That is right. And I think it is important to 
note that those valuations are handled by third-party valuation 
firms, and then have to be approved by a majority of the 
independent directors on the board of the BDC. So not only do 
you have the transparency, but you have a couple of layers of 
independent protections.
    Mr. Poliquin. Where does an investment in a BDC fit for a 
middle class family in Maine or any other place around the 
country? And how would that compare to someone investing in a 
venture capital fund, for example?
    Mr. Gerber. Sure. So the investment strategies used by BDC 
managers are quite different than venture capital strategies. 
Venture capital, you are usually taking a position--an equity 
position in a startup company.
    Mr. Poliquin. Qualified investors.
    Mr. Gerber. Qualified investors or credit investors in some 
case, but usually qualified investors. And usually, that 
venture capital firm strategy is to make a bunch of bets 
knowing that most of them will fail and hoping that a couple of 
them will really hit it. And so it is a much riskier venture.
    With BDCs, we are investing primarily in senior secured 
debt of established companies. So you don't have the risk of a 
startup and you don't have the risk of taking an equity 
position. Now, that is not to say that BDC portfolios won't at 
times have exposure to equity and have a percentage of the 
portfolio in equity investments. But most BDCs are 
predominantly investing in senior secured loans or debt of a 
private company.
    Going back to the beginning of the question about the 
investor, why would an investor consider a BDC? It is an 
opportunity to diversify a portfolio. So the way we manage 
assets and the types of investments we make tend to be less 
correlated with the markets than a publicly traded stock or a 
publicly traded bond, because we are investing in private 
companies.
    Mr. Poliquin. Thank you, Mr. Gerber. Thank you very much.
    Mr. Stevens, if you could comment a little bit on the fit 
of a closed-in fund when it comes to a working class family in 
our society that is looking to save for the future for their 
nest egg or they are putting the kids through school or what 
have you. Where would a closed-end fund fit, in your opinion, 
as compared to a BDC?
    Mr. Stevens. Well, we have an investor base of 3 million 
households.
    Mr. Poliquin. Right.
    Mr. Stevens. Our understanding is that closed-end fund 
shares are not uncommonly held, for example, in an individual 
retirement account. That may be a vehicle that can be held 
longer term for retirement purposes, again, as a way of 
diversifying your exposure to different kinds of assets. And we 
think that is commonplace among the investors in these 
vehicles.
    Mr. Poliquin. Thank you, gentlemen, very much for being 
here. I appreciate it very much.
    Chairman Huizenga. The gentleman's time has expired.
    With that, the gentleman from Massachusetts, Mr. Lynch, for 
5 minutes.
    Mr. Lynch. Thank you, Mr. Chairman. I want to thank the 
witnesses for helping the committee with its work this morning.
    Mr. Chairman, I ask unanimous consent to submit a letter 
from the Office of the Mayor of the city of Quincy, 
Massachusetts, Tom Koch, a dear friend of mine, in support of 
the Consumer Financial Choice and Capital Markets Protection 
Act of 2017. That is H.R. 2319.
    Chairman Huizenga. Without objection.
    Mr. Lynch. Thank you.
    Tom Koch is a great pal of mine. We are not necessarily in 
harmony on our thoughts on this bill, but that is because every 
city is not run as well as Quincy, Massachusetts. Let me just 
put that out there.
    And I want to turn to the other--the BDC bill there for a 
minute. I was one of the four Members who voted against the BDC 
last time. I think the bill has been enormously improved by Mr. 
Himes' amendment, the gentleman from Connecticut, but I am 
still not there yet.
    Let me just ask Professor Bullard, in your testimony, you 
cite the fact that--at least in the earlier iteration of this 
bill, BDCs were allowed to invest, I think, 30 percent of the 
corpus of their funds in financial institutions. A lot of 
investment was going into financial institutions and structured 
products, collateral loan obligations and things like that, 
that weren't necessarily helping small- and medium-size 
operating businesses.
    Look, if we were just talking about that, I would be with 
this bill, because I do believe that we need access to capital 
for those smaller- and medium-size businesses. My problem is 
that we have allowed this significant part of this bill to be 
directed toward, previously, financial institutions and 
structured products that allow, I think, an amplification of 
the leverage and risk that is involved here. And, also, it does 
not help. It does not help those small businesses and mid-size 
businesses that we are supposed to be assisting in this bill.
    Is there a rebalancing? Is there a rebalancing that could 
be possible here, in addition to what Mr. Himes is doing--and I 
applaud his good work--to make sure that the lion's share, or 
almost the lion's share, of good here is really directed to 
those companies that need the help?
    Mr. Bullard. Well, I guess I would like to first say that 
in the last week of reading through registration statements, I 
have been very impressed by the number and diversity of 
investments in BDCs. I hadn't done that reading before, and 
with the weekend coming up, I recommend that highly to the 
members of the subcommittee.
    Mr. Lynch. Not likely, but thank you.
    Mr. Bullard. But the answer to your question is that it is 
hard to know exactly what the right percentage is for a 
leverage limit. But one direct response would be simply to 
require that additional leverage go 100 percent to the 
companies for which it is intended so to not allow doubling of 
leverage to be used to double the amount invested in that 30 
percent window.
    Also in my testimony, I have asked why, given that there 
may have been reasons in the 1980s you needed a 30 percent 
basket, why not reduce that and also directly provide for more 
assets to those economies? And then, third, in looking through 
the structure of these BDCs, many, if not most, have 
significant buffer between the limit they are allowed, meaning 
that they have made .5 to .6 ratios as opposed to a 1 to 1. And 
if a prudential rule of this nature is structured correctly, 
that should not be the case.
    The way the rule like this should work and works in other 
context, insurance, banking, similarly in money market funds, 
is that you go up to the limit. There is a mechanism that if 
you are pushed across it by changing asset values, which Mr. 
Gerber mentioned in his testimony, then there should be a grace 
period. It should be that you can't take on additional debt, 
but that that shouldn't cause you, by something outside of your 
control, to be in violation of the limit. And I believe there 
should be a way in order to make adjustments. It may be the 
dividend requirement. It may be that banks are just not very 
flexible on renegotiating the one-to-one covenant, I guess.
    Mr. Lynch. Right.
    Mr. Bullard. But if this bill goes through, I think they 
are going to have to renegotiate the covenant anyway. So I 
think there is a way that would let them get the full benefit 
of the current one-to-one. And what that would do is, firms 
like Mr. Gerber's and I have looked at their structure, and the 
concern is not his type of BDC, it is the one that is at the 
far end of the spectrum and is going to make life a nightmare 
for his BDC if there is a severe liquidity event and it fails.
    So I would look into that as a way of allowing BDCs to get 
the benefit of the leverage limit we intend, and I--
    Chairman Huizenga. The gentleman's time has expired.
    Mr. Lynch. I am out of time. Thank you, Mr. Chairman. Thank 
you, Professor Bullard.
    Chairman Huizenga. With that, the gentleman from Minnesota, 
Mr. Emmer, is recognized for 5 minutes.
    Mr. Emmer. Thank you, Mr. Chair. I would like to request 
unanimous consent to enter into the record a letter from the 
Association of Minnesota Counties, which expresses their 
support for the Consumer Financial Choice and Capital Markets 
Protection Act. And I share their support for the legislation, 
and thank Mr. Rothfus for his work on the issue.
    Chairman Huizenga. Without objection.
    Mr. Emmer. Mr. Quaadman, in your written testimony, you 
mentioned that Congress should, quote, ``look at creating the 
legal framework to allow for venture exchanges in an effort to 
improve secondary market trading for small public companies.''
    Can you just comment on some of the issues that you see 
these small public companies currently face in today's market 
structure and how you think venture exchanges could help?
    Mr. Quaadman. Yes. Thank you for that question, Mr. Emmer. 
I think the two underlying issues that are at the heart of the 
capital formation problem here are: One, our liquidity; and 
two, is research and information. I think one of the things 
that the venture exchange could do is to help drive liquidity 
to those small cap companies. And I think if you look at it in 
conjunction with the bills that we are talking about here 
today, you would take a multifaceted approach to try and drive 
liquidity into those markets.
    I think some of the WKSI issues that we are talking about 
as well are going to activate other participants. And I think 
that helps to get at the liquidity issue. I think we are going 
to have to do some other things in terms of trying to drive out 
research and information as well.
    Mr. Emmer. Thank you very much. And because of our time and 
the votes pending, I am going to yield the balance of my time 
to my colleague from Ohio, Mr. Stivers.
    Mr. Stivers. I would like to thank the gentleman for 
yielding.
    And I have a yes or no question for Professor Bullard. 
Professor Bullard, in preparation for this testimony, did you 
by any chance have a chance to talk to Jonathan Bock from Wells 
Fargo, who is the analyst who came up with the effective 
leverage ratio method that you quoted so extensively in your 
testimony?
    Mr. Bullard. No, I haven't, and I am not endorsing that 
leverage ratio.
    Mr. Stivers. Thank you. And I did have a chance to talk to 
him. And I got an email through Wells Fargo from him this 
morning at 7:21.
    Mr. Chairman, without objection, I would like to enter it 
into the record.
    Chairman Huizenga. Without objection.
    Mr. Stivers. Thank you.
    So I would like to quote from the email that Mr. Bock sent 
me, the statement, and I will just quote some excerpts, but the 
whole statement will be entered into the record.
    He said he wanted to offer some additional color on the 
effective leverage statistic in his BDC scorecard, because he 
is concerned many of the items are being taken grossly out of 
context. Those are his words. He says that, first, effective 
leverage should not be confused with financial leverage, which 
is what the bill changes. Effective leverage is a chance to 
look at BDCs' risk profile between each other based on their 
asset composition. Then he goes on to say: This isn't exact, 
and in no way is the gauge of financial leverage taken on by a 
BDC.
    Then he goes on later to say: Also taking a step back, if 
folks would like to talk about imbedded leverage risks with 
BDCs and pass it off as financial leverage, then those same 
individuals might want to reexamine all bank and REIT balance 
sheets whose leverage would skyrocket.
    And, in fact, Mr. Chairman, I would like to enter into the 
record an analysis of some banks using the effective leverage 
ratio, the lowest of which would be 49, the highest of which 
would be 93.
    Chairman Huizenga. Without objection.
    Mr. Stivers. Thank you.
    It then, Mr. Bock goes on to say: The major point missed is 
that investors, through this analysis and BDC transparency, 
have actual ability to understand the overall risk composition 
of each BDC. Banks don't offer that same kind of transparency. 
Then he says, last, folks arguing that effective leverage is 
too high, then in quotes, thus, this isn't a reason to look at 
the bill, missed the fact--and closed quotes. Missed the fact 
that increasing leverage--the leverage constraint will actually 
make effective leverage ratios fall, not rise. At the current 
leverage constraints, several BDC managers are actually 
reaching for risk owning low-quality subordinated securities, 
CLO, or sub-debt, to try to hit yield bogeys for investors.
    So I will stop there on that and yield back the balance of 
my time. I look forward to my time later to talk more.
    Chairman Huizenga. The gentleman from Minnesota?
    Mr. Emmer. I yield back.
    Chairman Huizenga. The gentleman from Minnesota yields 
back.
    With that, the Chair recognizes the gentleman from 
Connecticut, Mr. Himes, for up to 5 minutes.
    Mr. Himes. Thank you, Mr. Chairman. And thank you to all of 
you for being with us.
    And I would like to say a special thank you to Mr. Stivers. 
I was one of the lonely opposition votes to the Mulvaney bill 
in the last Congress, really exclusively because of the 
leverage that one might imagine in that 30 percent bucket where 
investments in financial companies, in particular, are 
permitted. Not inconceivable that a financial company could 
have 10X, 15X leverage itself, you double that, you get into 
some pretty heady numbers. And I opposed it on that basis.
    And I really thank Mr. Stivers for making the change, 
including the one I proposed in the amendment, which I offered 
and withdrew. So I guess my neighbor in Massachusetts is not 
quite there, but I am supportive of the bill in its revised 
form.
    Professor, you, in your testimony, write something, though, 
that is interesting to me because of my concern about that 
leverage and the 30 percent bucket. In your written testimony, 
you say it is not clear that that 30 percent basket serves any 
purpose in modern financial markets. This of course, was 
established when BDCs were created initially.
    What I would love to do with my remaining time, I am going 
to go to you and Mr. Gerber. I think that is an interesting 
question, and it certainly catalyzed my leverage concerns in 
the last Congress. So I wonder if I could give each of you a 
minute to reflect on the public good associated with that 30 
percent basket. And, actually, Professor, let me, since Mr. 
Gerber is in the business, let me ask him to start, and then 
you can respond to what Mr. Gerber has--anyway, Mr. Gerber.
    Mr. Gerber. Thank you, Congressman. I think as a threshold 
matter it is important to note that that 30 percent basket 
doesn't just cover financial companies; it covers large cap, 
mid cap U.S. companies, it covers non-U.S. private, small cap, 
mid cap, large cap companies, as well as financial companies.
    How an individual BDC manager chooses to use that 30 
percent bucket is a different issue, but I just think it is 
important to recognize that, in that basket, you could have a 
very diverse set of assets, not just financial companies. I 
think that is an important point, number one.
    Number two, that basket is often used for the benefit of 
investors because there is an opportunity to use that basket to 
help generate yield. And part of our mission is to deliver 
strong returns to our investors. And so while very limited, 
because only in that 30 percent bucket there is an opportunity 
to use that effectively to generate returns for investors.
    I would say, number three, that just because a company is a 
financial company doesn't mean it doesn't have value in the 
broader capital markets. We have financial company assets in 
our portfolios. We believe they are good companies. They are 
operating companies. They run lending businesses. They are 
lending to smaller businesses than we lend to, whether it is 
through equipment leasing programs, factoring programs, or just 
doing smaller deal sizes than we can do because of our scale. 
And those underlying portfolio companies play a very important 
role in the capital market.
    So I would say there are benefits to investors and there 
are benefits for the capital markets in giving us the ability 
to deploy assets in that 30 percent bucket which, again, are 
not all necessarily financial companies.
    Mr. Himes. Great. Thank you.
    Professor, let me give you my remaining 90 seconds to 
reflect on that.
    Mr. Bullard. I guess the short finance answer would be if 
investors want the additional yield from the 30 percent, they 
should get it from a vehicle that is designed to provide that. 
If BDCs want to compete effectively with each other, they 
should compete on the basis of their BDC investments, not 
depending on whether the BDC invests a lot or a little of the 
30 percent in small- and mid-size companies.
    So from an efficiency point of view, it is much more 
efficient, unless there is some reason that they needed this 
release valve, which is probably what in 1980 this was intended 
to provide. And given the liquidity of current markets and the 
ability of very, very large BDCs to find the investments they 
need, it seems to me highly unlikely that there would be any 
serious impediment to their ability to do that, and it would 
enhance their status, essentially, as what has become a unique 
asset to reduce that percentage.
    Mr. Himes. Great. Thank you. That was more to satisfy my 
own curiosity. So I appreciate the reflections, and yield back 
the balance of my time.
    Chairman Huizenga. The gentleman yields back.
    The Chair recognizes the gentleman from New Jersey, Mr. 
MacArthur, for 5 minutes.
    Mr. MacArthur. Well, thank you, Mr. Chair.
    Let me talk for one moment before I ask a question. Let me 
talk as a businessman, which I was for 30 years, instead of a 
Congressman, which I have only been for 3. I have lived in the 
world of depending on both BDCs and closed-end mutual funds. I 
bought my company with the help of a closed-end mutual fund 
that was trying to transform itself into an operating company. 
It would have been a lot easier had I been able to invest 
without what we had to go through. And at one point, the use of 
a BDC was really essential for me in growing the company. And 
that company, with one office and a hundred people, grew over 
15 years to 6,000 people and 100 offices. You can't do that 
without capital. Can't do it.
    And so I want to mention three things that I think are 
useful. One is just a reminder that business people rely on 
tranches of capital, both debt and equity capital, not one 
source. And so I think it is incumbent on us, with good public 
policy, to try to facilitate as many of those available 
tranches as possible.
    Second, companies evolve. And what I needed in an early 
stage small company was quite different than what I needed as a 
mid-market company.
    And, last, is there is simply no way for public 
policymakers and regulators to anticipate all of the things 
that business people can imagine. And so we should create the 
most flexibility, the most openness, and try to facilitate a 
good match-making environment where investors can make 
investments in all different kinds of opportunities, and 
business people can find all different kinds of credit--or 
capital, both through the credit markets and the equity market. 
So I support these reforms because I think they all tend toward 
that.
    My question is on one that is a little different, and Mr. 
Quaadman, it is for you. You mentioned in your written 
testimony that you supported an increase in Tier 2 reg A-plus 
offering limits. You supported something over the current $50 
million. And the Treasury Department recently published the 
report also recommending that we increase those limits. There 
was a provision of choice, which bumped it up to $75 million. 
And I think that is going to be coming back as a standalone.
    I just wanted to ask you how you thought that increase from 
$50 million to $75 million would help small businesses access 
capital and what the results might be, from your perspective?
    Mr. Quaadman. Thank you, Mr. MacArthur. And, also, I would 
also just add, in your preamble, I would also add in 
international operations as well also have a different capital 
structure that businesses would need.
    In terms of bumping up the reg A-plus, we were very 
supportive of the JOBS Act provision. We thought this is a way 
to help make it easier for small business to access capital to 
get deals done. To do that, I know, even with the bump up to 
$50 million, it has been--I think people are still finding 
their sea legs there. But, again, in terms of driving 
liquidity, we thought that the $75 million number was 
important.
    We did also participate with the Treasury Department on a 
specific roundtable on capital formation in the runup to that 
report. And this was a matter of discussion that we had as 
well. So this is an important way to help inject more liquidity 
and deal-making for small businesses to acquire the capital 
that they need to grow.
    Mr. MacArthur. I appreciate that. In the interest of giving 
another member a chance to weigh in, I will yield back my 
remaining time.
    Chairman Huizenga. The gentleman yields back.
    With that, the gentleman from Illinois, Mr. Foster, is 
recognized for 3 minutes.
    Mr. Foster. Yes. Thank you, Mr. Chairman. And I will try to 
be brief.
    Professor Bullard, would you be more inclined to support a 
bill that allowed closed-end funds to be treated as well-known 
seasoned issuers if they were also restricted to be reporting 
companies under the 1934 act?
    Mr. Bullard. Well, that is a great question because it 
really hits on my differences, I think, with Mr. Stevens. He 
noted properly that closed-end funds are heavily regulated 
under the Investment Company Act regulatory regime. It is not 
clear why, with respect to offering rules, he wants to take 
them out of that regime and to put them in a regime where they 
don't belong.
    For example, he made a comparison to closed-end funds 
filing quarterly reports as if they were similar to the 10-Qs 
filed by operating companies. Well, I would say if I--maybe if 
I sent a Christmas card to the SEC chairman every year, I might 
be considered to be filing annual reports, but I think that is 
about as close to filing a 10-K as a closed-end fund's 
quarterly report is to a real 10-Q.
    So I think the place to do closed-end fund reform, and I 
would agree with many of the reforms that Mr. Stevens probably 
wants to accomplish, would be within that Investment Company 
Act regulation.
    Mr. Foster. Thank you.
    Now, Mr. Stevens, I am uncertain that the Investment 
Company Act disclosures adequately inform and update the 
markets to the point that they really justify a well-known 
seasoned issuer's status. Could you explain how current 
specific disclosures provide a continuous understanding of 
closed-end funds so that shelf-offering would be fully and 
adequately disclosed?
    Mr. Stevens. Well, I am astonished at Professor Bullard's 
comparison here. The SEC has developed reporting obligations 
based upon the nature of the activities of the reporter. 
Closed-end funds are investment pools. They are not operating 
companies. They don't have the kinds of activities, the range 
of activities, that an operating company would. So subjecting 
them to the same standards of an operating company is 
nonsensical. If there is a need for further reporting by 
closed-end funds or other registered investment companies, I am 
not aware of it, but the SEC can always enhance those reports.
    I think, frankly, there is no absence of information about 
closed-end funds or other registered investment companies in 
the United States that is desired by the market. And the only 
reason then to use the well-known seasoned issuer and the kind 
of streamlining that has been provided to public operating 
companies is that these closed-end funds are also subject to 
the Securities Act of 1933. So they are within that regime. In 
fact, we always say in my space, we are subject to every one of 
the Federal securities laws. Public operating companies are not 
subject to the 1940 Act.
    So I just think that the Chairman of the SEC, Mary Joe 
White, when she looked at this kind of treatment--in this case 
it was for the kind of closed-end fund that my colleague here, 
Mr. Gerber, is talking about, business development companies, 
but it could apply more broadly. She said making these changes, 
in her view, does not involve any compromise of investor 
protections. That is where we are.
    Mr. Foster. Thank you. My time is up, and I yield back.
    Chairman Huizenga. The gentleman's time has expired.
    The gentleman from Ohio, Mr. Davidson, is recognized for 3 
minutes.
    Mr. Davidson. Thank you, Chairman. Thank you all for your 
testimony.
    And, Mr. Quaadman, thank you for your advocacy across the 
country for small and medium businesses, and thanks for the 
focus on business development corporations.
    Mr. MacArthur addressed some of the same things I would say 
as a businessman, and the importance of options. One option is 
no option, when it comes to capital and lots of other things. 
But with limited time, I want to say, could you address the 
impact the Volcker Rule has had on venture capital investment 
in the middle of the country? And, in addition, do you see a 
significant public policy reason for prohibiting financial 
institution investment into venture capital?
    Mr. Quaadman. Yes. The Volcker Rule has caused a 
retrenchment of many different forms of capital formation that 
we would normally have expected to see financial institutions 
engaged in. It has made it much harder and more difficult for 
CFOs to access the debt and equity markets. So our hope is, as 
has been called for by the Treasury Department, that the 
regulatory agencies are going to take another look at the 
Volcker Rule.
    Venture capital has been under some stress from Volcker and 
from other areas as well. We believe that the capital formation 
report from the Treasury Department is actually putting forth 
some interesting recommendations for how to deal with this. We 
also have some concerns with some legislation that has been 
proposed in the past with beneficial ownership disclosure, that 
that is going to place another inhibitor on venture capital as 
well, which is one of the reasons why we have also opposed 
that.
    Mr. Davidson. Thank you. And I yield.
    Chairman Huizenga. I am sorry. I was managing the members.
    OK. I am sorry, did the gentleman yield back? The gentleman 
yielded back.
    All right. With that, the gentleman from Indiana, Mr. 
Hollingsworth, is recognized for up to 3 minutes.
    Mr. Hollingsworth. Well, good morning. I appreciate 
everybody being here, and I appreciate all the comments that 
were made early on, especially the compliments on the 
discussion draft that I am working on. I certainly won't take 
my full 3 minutes. I know much of this waterfront has been 
covered, especially by my partner in working in this, Mr. 
Foster, a few minutes ago.
    But I just wanted to hit, again, Mr. Stevens, if you 
wouldn't mind commenting on, is there anything about this 
particular piece of legislation that you feel greatly endangers 
investors or otherwise dramatically reduces the amount of 
disclosure burden that we are putting on closed-end funds 
currently as I have proposed it so far?
    Mr. Stevens. To your first question, does it pose risks for 
investors? We would not be supporting it at the ICI if we 
believed that it was posing additional risk for investors, so 
no.
    Mr. Hollingsworth. I was operating under the--I am asking 
the question I know the answer to philosophy.
    Mr. Stevens. I am sorry?
    Mr. Hollingsworth. I said I am operating under the old 
lawyer--I am asking a question I know the answer to philosophy.
    Mr. Stevens. All right. And your second question is what 
benefits does it provide?
    Mr. Hollingsworth. Yes.
    Mr. Stevens. It streamlines the issuance process. It allows 
closed-end funds to get to market more promptly in response to 
market conditions.
    Mr. Hollingsworth. Right.
    Mr. Stevens. It facilitates their ability to communicate 
with the marketplace and with the investing public.
    Mr. Hollingsworth. Right.
    Mr. Stevens. And hopefully, find a greater interest in the 
investment opportunities it is bringing to the market.
    Mr. Hollingsworth. Right.
    Mr. Stevens. And I think those are all very favorable from 
the point of view of investors.
    Mr. Hollingsworth. Yes.
    Mr. Stevens. And from the point of view, ultimately, of 
getting capital to work in our economy, creating jobs and 
economic growth.
    Mr. Hollingsworth. Absolutely. And I think that is exactly 
the push that I have been making, right. The world is certainly 
not slowing down, opportunities come up and go away very, very 
quickly. I want these closed-end funds to be able to capture 
those opportunities.
    And as for what was said before about whether closed-end 
funds are an appropriate vehicle or not for individual 
investors, I leave it up to those investors to make those 
decisions versus bureaucrats in D.C., or even legislators in 
D.C., deciding for people all the way across this country that 
might use these vehicles for specific purposes in fulfilling 
their financial needs.
    And with that, I will yield back, Mr. Chairman.
    Chairman Huizenga. The gentleman yields back.
    With that, the gentleman from Ohio, Mr. Stivers, is 
recognized for 3 minutes.
    Mr. Stivers. Thank you, Mr. Chairman. And I will be fairly 
brief too, because I know Mr. Rothfus wants to go.
    My question is for Mr. Gerber. Mr. Gerber, can you explain 
why leverage is important and how you will use that to get more 
capital to businesses that want to expand, as well as to make 
better returns for your investors? And if you want to also talk 
about why--reenforce, again, how financial service firms allow 
you to help businesses that are below--help BDCs, help firms 
that are below their threshold for lending to get capital to 
smaller business, that would be great.
    Mr. Gerber. Sure. So I will take those in order. And thank 
you, Congressman, not only for the question, but for your work 
on this bill.
    In terms of the role that BDCs play in the capital markets, 
I mentioned in my testimony that most BDCs are deploying 
capital in the middle market, and that is a fast growing 
sector, very important from a job creation perspective. As I 
mentioned, from 2011 to 2017, more than 100 percent growth in 
job creation. So that is a very important role that BDCs play. 
And as my colleague, Mr. Quaadman, mentioned in his testimony, 
we are doing it at a time where other capital providers are 
not. So I think from a capital markets perspective, BDCs play 
an increasingly important role.
    In terms of what we can do for our investors, again, as I 
mentioned earlier, it is an opportunity for us to deploy 
capital in ways that other investment vehicles do not, thereby 
giving investors an opportunity to invest differently and to 
build a more diversified portfolio with exposure to assets that 
aren't as correlated to the market as, say, a mutual fund would 
be.
    To your question around how we can help smaller financial 
companies. I mentioned, in response to a question from the 
gentleman from Connecticut, there are portfolio companies 
within BDC portfolios that are able to lend to smaller 
businesses. We have them in our portfolio. And so as you scale 
as a BDC, it is harder to do smaller deals. It is just an issue 
of resources. And so larger BDCs tend to do larger deals. But 
if we can invest in portfolio companies that have the ability 
to do smaller deals or lend in ways that we don't lend, it is 
an opportunity for us to fund companies that are, in and of 
themselves, performing an important role in the capital 
markets.
    Mr. Stivers. Thank you very much.
    And with my remaining 14 seconds, I will just say that Mr. 
Rothfus, who is about to ask questions, has done great work on 
H.R. 2319 that will help get--help allow a stable net asset 
value for a lot of folks who need that in their investment 
requirements.
    I yield back the balance.
    Chairman Huizenga. The gentleman's time has expired.
    With that, our guest today, Mr. Rothfus, is recognized for 
3 minutes.
    Mr. Rothfus. Thank you, Mr. Chairman. And thank you for 
allowing me to participate in today's hearing.
    I would like to just take a couple of minutes here and talk 
about my bill, H.R. 2319, the Consumer Financial Choice and 
Capital Markets Protection Act of 2017. And I would note the 
broad-based support we have gotten from across the country with 
over 200 groups and community leaders in support of this 
legislation.
    I would like to offer for the record two letters, November 
2, 2017, one from the Association for Financial Professionals, 
the other from the Association of School Business Officials 
International, to the committee.
    Chairman Huizenga. Without objection.
    Mr. Rothfus. Also, an October 3, 2012 article by Mr. 
Bullard on money market funds and life on support. I would like 
to offer that to the record as well.
    Chairman Huizenga. Without objection.
    Mr. Rothfus. Real quick, Mr. McCoy, to your earlier point 
whether we need to study this issue and the impact of this rule 
any further. We know what happened, right? $1.2 trillion has 
moved out of the private and mutual fund sector into the 
treasuries?
    Mr. McCoy. That is correct. Yes. We have seen investors 
vote with their money and leave, yes.
    Mr. Rothfus. There are cost benefits to any regulatory 
change, Mr. McCoy. Have the costs of this rule been justified?
    Mr. McCoy. I certainly believe so. It is an interesting 
question. I haven't totally focused on that, but I believe so.
    Mr. Rothfus. In what sense? You are seeing an increase in 
borrowing rates for municipalities.
    Mr. McCoy. We absolutely are. We are seeing an increase--
increased costs to issue variable rate debt into the money 
market funds, and that is filtered through our ability, State 
and local government's ability, to finance infrastructure at 
the lowest possible costs.
    Mr. Rothfus. And, again, where has this money gone, out of 
the muni funds and out of the corp funds, where has it gone to?
    Mr. McCoy. Typically, it has gone into fixed rate bonds or, 
as I noted, there is an alternative product out there, a 
floating rate note, that is not eligible to be invested by 2a-7 
funds, but that particular product does allow municipalities to 
participate at the short end of the yield curve where we get 
the best cost of funds.
    Mr. Rothfus. Do you know whether money market funds that 
hold treasuries are immune to fluctuations and principal value?
    Mr. McCoy. I do not.
    Mr. Rothfus. Mr. Quaadman, would they be--if you have a 
money market mutual fund holding just treasuries--let's say 
there is a fund out there that has a million dollars in 
treasuries and somebody goes out, buys a million treasuries, 
starts to do this fund. Interest rate today is 1.43 percent, 
and the interest rate goes up tomorrow, what happens to the 
principal value in that money fund?
    Mr. Quaadman. I would have to consult with some of our 
members and get back to you. I had not thought through that 
question. But let me do that and let me get back to you, if you 
want to--
    Mr. Rothfus. Well, it makes sense that the principal value 
is going to fluctuate and it is going to go down. And while 
that Treasury bill a year from now, if it is a 1-year bill, is 
going to be worth a thousand bucks a bill, it is going to be 
stable in that sense, but it is going to change in principal 
value--
    Mr. Quaadman. Yes.
    Mr. Rothfus. --because of the fluctuation.
    Mr. Chairman--
    Chairman Huizenga. The gentleman's time has expired. And we 
are going to miss a vote here if we don't move quick.
    So I would like to thank our witnesses for their testimony 
today.
    Without objection, I would like to submit the following 
letter from Government Finance Officers Association and a 
number of others in support of Mr. Rothfus' bill.
    Chairman Huizenga. Without objection, all members will have 
5 legislative days within which to submit additional written 
questions for the witnesses to the Chair, which will be 
forwarded to the witness for their responses. I ask you all to 
please respond as quickly as you are able.
    And, without objection, all members will have 5 legislative 
days within which to submit extraneous materials for the Chair 
for inclusion in the record.
    This hearing is adjourned.
    [Whereupon, at 10:53 a.m., the subcommittee was adjourned.]

                            A P P E N D I X



                            November 3, 2017
                            
                            
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