[Federal Register Volume 68, Number 3 (Monday, January 6, 2003)]
[Notices]
[Pages 595-597]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-184]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-47103; File No. SR-NASD-2002-180]
Self-Regulatory Organizations; Notice of Filing of Proposed Rule
Change by the National Association of Securities Dealers, Inc.
Regarding the Prohibition Against Guarantees and Sharing in Customer
Accounts
December 30, 2002.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on December 18, 2002, the National Association of Securities Dealers,
Inc. (``NASD'') filed with the Securities and Exchange Commission
(``SEC'' or ``Commission'') the proposed rule change as described in
Items I, II, and III below, which Items have been prepared by NASD. The
Commission is publishing this notice to solicit comments on the
proposed rule change from interested persons.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
NASD is proposing to amend Rule 2330(e) to clarify that members and
their associated persons are prohibited from guaranteeing any customer
against loss in connection with any securities transaction or in any
securities account of such customer. In addition, NASD is proposing
that associated persons obtain written authorization from their
employing member firm and the customer prior to sharing in a customer's
account under Rule 2330(f). The proposed rule change to Rule 2330(f)
also deletes the requirement that members and associated persons obtain
the written authorization of the member carrying the account prior to
sharing in a customer's account. Below is the text of the proposed rule
change. Proposed new language is in italics; proposed deletions are in
[brackets].
* * * * *
A. 2330. Customers' Securities or Funds
(a) Through (d) No Change.
(e) Prohibition Against Guarantees
No member or person associated with a member shall guarantee a
customer against loss in connection with any securities [account]
transaction or in any securities account of such customer [carried by
the member or in any securities transaction effected by the member with
or for such customer].
(f) Sharing in Accounts: Extent Permissible
(1)(A) Except as provided in paragraph (f)(2) no member or person
associated with a member shall share directly or indirectly in the
profits or losses in any account of a customer carried by the member or
any other member; provided, however, that a member or person associated
with a member may share in the profits or losses in such an account if
(i) such [member or] person associated with a member obtains prior
written authorization from the member [carrying the account] employing
the associated person; (ii) such member or person associated with a
member obtains prior written authorization from the customer; and (iii)
[the] such member or person associated with a member [shall] shares in
the profits or losses in any account of such customer only in direct
proportion to the financial contributions made to such account by
either the member or person associated with a member.
(B) Exempt from the direct proportionate share limitation of
[[Page 596]]
paragraph (f)(1)(A)(iii) are accounts of the immediate family of such
member or person associated with a member. For purposes of this Rule,
the term ``immediate family'' shall include parents, mother-in-law or
father-in-law, husband or wife, children or any relative to whose
support the member or person associated with a member otherwise
contributes directly or indirectly.
(2) Notwithstanding the prohibition of paragraph (f)(1), a member
or person associated with a member that is acting as an investment
adviser (whether or not registered as such) may receive compensation
based on a share in profits or gains in an account if (i) [the member
or] such person associated with a member seeking such compensation
obtains prior written authorization from the member [carrying the
account] employing the associated person; (ii) such member or person
associated with a member seeking such compensation obtains prior
written authorization from the customer; [,] and (iii) all of the
conditions in Rule 205-3 of the Investment Advisers Act of 1940 (as the
same may be amended from time to time) are satisfied.
* * * * *
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, NASD included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. NASD has prepared summaries, set forth in Sections A, B,
and C below, of the most significant aspects of such statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
The proposed rule change amends NASD rules regarding the
prohibition against guarantees and requirements governing sharing in
customer accounts. Earlier this year, in response to requests for
interpretive guidance, NASD reviewed the application of these rules.
Based on its review, NASD is proposing changes to these rules to
clarify their scope and enhance their effectiveness.
Rule 2330(e)--Prohibition Against Guarantees
NASD Rule 2330(e) currently prohibits a member or its associated
persons from guaranteeing a customer against loss in any customer's
account that is carried by the member and in any securities transaction
effected by the member with or for the customer. A strict reading of
the rule would limit its application to only those guarantees made by
the member (or the member's associated persons) carrying the customer's
account and those guarantees made by the member (or the member's
associated persons) effecting a securities transaction with or for the
customer. Consequently, guarantees such as those made by an associated
person to customers whose accounts are not carried by that associated
person's member potentially would not be prohibited under this reading
of the rule. Similarly, guarantees made by an associated person to
customers whose securities transactions are not effected by that
associated person's member potentially would not be prohibited under
this strict reading.
NASD proposes to amend Rule 2330(e) to clarify that the rule
prohibits a member and its associated persons from making guarantees to
any customer because such guarantees create the expectation that the
customer is insulated from market risk intrinsic in securities
ownership and may induce the customer to engage in a securities
transaction that is not otherwise appropriate for the customer. Even
prior to the adoption of Rule 2330(e) (formerly Article III, Section
19(e) of the NASD Rules of Fair Practice), the SEC stated, with respect
to guarantees, that ``the observance of just and equitable principles
of trade does not permit the use of statements which lead an unwary
purchaser to the mistaken belief that his transactions are free of
risk.'' \3\
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\3\ In the Matter of Philips & Company, 37 S.E.C. 66, 71 (1956).
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The proposed rule change will clarify that members and their
associated persons are prohibited from making guarantees to any
customer, not just those customers whose accounts are carried by the
member or those customers for whom a member is effecting a securities
transaction.\4\
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\4\ The proposed rule change is not, however, intended to affect
the types of guarantees that currently are permitted under the rule;
rather, the proposed amendment seeks to clarify the circumstances
under which certain guarantees would be prohibited. For example, a
``guarantee'' that is extended to all holders of a particular
security by an issuer as part of that security generally would not
be prohibited under Rule 2330(e).
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Rule 2330(f)--Sharing in Accounts
NASD Rule 2330(f) currently prohibits members and associated
persons from sharing in the profits or losses in a customer's account
except under certain limited conditions.\5\ Rule 2330(f)(1)(A) permits
a member or person associated with a member to share in the profits or
losses in a customer's account if such member or person associated with
a member obtains prior written authorization from the member that is
carrying the account and the sharing is proportionate to the member's
or associated person's contributions to the account. NASD Rule
2330(f)(2) permits a member or person associated with a member that
acts as an investment adviser to receive compensation based on a share
in the profits or gains in a customer's account if such member or
person associated with a member obtains prior written authorization
from the member that is carrying the account, and the conditions
specified in Rule 205-3 under the Investment Advisers Act of 1940 are
satisfied.
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\5\ For example, this provision formed the basis of an NASD
enforcement action against Credit Suisse First Boston, Inc. in which
NASD found that Credit Suisse First Boston's practice of sharing in
the profits in customers' accounts in exchange for allocating
initial public offering securities to such customers violated Rule
2330(f). In January 2002, Credit Suisse First Boston settled this
matter without admitting or denying the allegations. See Credit
Suisse First Boston Corporation, Letter of Acceptance, Waiver and
Consent, No. CAF020002 (Jan. 22, 2002).
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Currently, both Rule 2330(f)(1)(A) and Rule 2330(f)(2) require the
member or associated person that is sharing in the profits or losses in
a customer's account to obtain the prior written authorization of the
member that is carrying the account. These rules do not necessarily
require an associated person to obtain the prior written authorization
of his or her employing member when sharing in the profits or losses in
a customer's account. Employing members only would be notified if they
also were the carrying member of the account or if the arrangement
triggered application of another NASD rule, e.g., Rules 3030 (Outside
Business Activities of an Associated Person), 3040 (Private Securities
Transactions of an Associated Person), or 3050 (Transactions for or by
Associated Persons).\6\ NASD believes
[[Page 597]]
that the current requirement of receiving authorization from (and only
from) the carrying member of the customer account in which a member or
associated person intends to share is not the most effective regulatory
approach to address the potential risks of such arrangements. NASD
believes that it is important that employing members be notified and
affirmatively authorize sharing in a customer's account so that they
are better able to supervise their associated persons and ensure
compliance with NASD rules and other applicable laws and regulations.
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\6\ Rule 3030, among other things, requires that associated
persons notify their employer member of any business activity
outside the scope of their relationship with the member. Rule 3040,
among other things, requires that associated persons obtain written
approval from their employer member before engaging in any
securities transaction for which they have or may receive selling
compensation outside the regular course or scope of their employment
with the member. Rule 3050, among other things, requires an
associated person to notify his or her employer member in writing
prior to opening an account or placing an initial order for the
purchase or sale of securities with another member and to notify
that member in writing of his or her employment relationship with
the employer member.
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In addition, neither Rule 2330(f)(1)(A) nor Rule 2330(f)(2) require
a member or its associated persons to obtain the prior written
authorization of the customer in whose account they intend to share.
NASD believes that it is important for a customer to provide his or her
written approval prior to a member or its associated persons sharing in
the profits or losses in that customer's account. NASD believes that it
is important that customers be provided the opportunity to
affirmatively authorize a member or associated person to share in their
accounts.
Therefore, NASD is proposing to amend Rules 2330(f)(1)(A) and
2330(f)(2) to require that, when sharing in a customer's account,
associated persons obtain the prior written authorization of their
employing member and that members and their associated persons obtain
the prior written authorization of the customer in whose account they
will be sharing. NASD notes that, notwithstanding a member's or
associated person's compliance with the requirements of Rule 2330(f),
the conduct permitted under Rule 2330(f) may trigger notice and other
requirements under other NASD rules, including NASD Rules 3030, 3040,
and 3050. Rule 2330(f) does not affect the applicability of such other
rules to these arrangements.
2. Statutory Basis
NASD believes that the proposed rule change is consistent with the
provisions of Section 15A(b)(6) of the Act,\7\ which require, among
other things, that the Association's rules must be designed to prevent
fraudulent and manipulative acts and practices, to promote just and
equitable principles of trade, and, in general, to protect investors
and the public interest. Specifically, the proposed rule change is
intended to facilitate compliance with Rule 2330(e) by clarifying the
conduct prohibited by the rule, and to strengthen the regulatory
protections provided in Rule 2330(f).
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\7\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition
NASD does not believe that the proposed rule change will result in
any burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
Written comments were neither solicited nor received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 35 days of the date of publication of this notice in the
Federal Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
(A) By order approve such proposed rule change, or
(B) Institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing, including whether the proposal is
consistent with the Act. Persons making written submissions should file
six copies thereof with the Secretary, Securities and Exchange
Commission, 450 Fifth Street, NW., Washington, DC 20549-0609. Copies of
the submission, all subsequent amendments, all written statements with
respect to the proposed rule change that are filed with the Commission,
and all written communications relating to the proposed rule change
between the Commission and any person, other than those that may be
withheld from the public in accordance with the provisions of 5 U.S.C.
552, will be available for inspection and copying in the Commission's
Public Reference Room. Copies of such filing will also be available for
inspection and copying at the principal office of the NASD. All
submissions should refer to File No. SR-NASD-2002-180 and should be
submitted by January 27, 2003.
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\8\
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\8\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 03-184 Filed 1-3-03; 8:45 am]
BILLING CODE 8010-01-P