[Federal Register Volume 69, Number 113 (Monday, June 14, 2004)]
[Proposed Rules]
[Pages 32905-32922]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 04-12998]


 ========================================================================
 Proposed Rules
                                                 Federal Register
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 This section of the FEDERAL REGISTER contains notices to the public of 
 the proposed issuance of rules and regulations. The purpose of these 
 notices is to give interested persons an opportunity to participate in 
 the rule making prior to the adoption of the final rules.
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  Federal Register / Vol. 69, No. 113 / Monday, June 14, 2004 / 
Proposed Rules  

[[Page 32905]]



FARM CREDIT ADMINISTRATION

12 CFR Parts 620, 621, 650, 651, 652, 653, 654, and 655

RIN 3052-AC18


Disclosure to Shareholders; Accounting and Reporting 
Requirements; Federal Agricultural Mortgage Corporation General 
Provisions; Federal Agricultural Mortgage Corporation Governance; 
Federal Agricultural Mortgage Corporation Funding and Fiscal Affairs; 
Federal Agricultural Mortgage Corporation Disclosure and Reporting 
Requirements

AGENCY: Farm Credit Administration.

ACTION: Proposed rule.

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SUMMARY: The Farm Credit Administration (FCA, our, or we) proposes 
regulations governing the Federal Agricultural Mortgage Corporation 
(Farmer Mac or the Corporation) in the areas of non-program investments 
and liquidity. We are proposing the regulations to ensure that Farmer 
Mac holds only high-quality, liquid investments to maintain a 
sufficient liquidity reserve, invest surplus funds, and manage 
interest-rate risk, while not holding excessive amounts of non-program 
investments considering Farmer Mac's status as a Government-sponsored 
enterprise.

DATES: Please send comments to the FCA by September 13, 2004.

ADDRESSES: You may send comments by electronic mail to [email protected], through the ``Pending Regulations'' section of FCA's Web 
site, www.fca.gov, or through the Governmentwide www.regulations.gov 
portal. You may also send comments to Thomas G. McKenzie, Director, 
Office of Secondary Market Oversight, Farm Credit Administration, 1501 
Farm Credit Drive, McLean, Virginia 22102-5090 or by facsimile to (703) 
734-5784. You may review copies of all comments we receive in our 
office in McLean, Virginia.

FOR FURTHER INFORMATION CONTACT: Thomas G. McKenzie, Director, Office 
of Secondary Market Oversight, Farm Credit Administration, McLean, VA 
22102-5090, (703) 883-4280; TTY (703) 883-4434; or Jennifer A. Cohn, 
Senior Attorney, Office of General Counsel, Farm Credit Administration, 
McLean, VA 22102-5090, (703) 883-4020, TTY (703) 883-2020.

SUPPLEMENTARY INFORMATION:

I. Objectives

    The primary objectives of our proposal are to ensure the safety and 
soundness and continuity of Farmer Mac operations by:
     Establishing minimum liquidity standards that would 
require Farmer Mac to hold sufficient high-quality, marketable 
investments to provide adequate liquidity to fund maturing obligations 
and operational expenses for a minimum of 60 days;
     Specifying the type, quality, and maximum amount (or 
limit) of non-program investments \1\ that may be held by Farmer Mac;
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    \1\ Pursuant to title VIII of the Farm Credit Act of 1971, as 
amended (Act), Farmer Mac issues debt in order to buy (invest in) 
``program'' assets under the Corporation's core programs known as 
the Farmer Mac I Program and the Farmer Mac II Program. Under these 
programs, Farmer Mac purchases, or commits to purchase, ``qualified 
loans,'' as that term is defined in section 8.0(9) of the Act. 
Generally, ``qualified loans'' consist of loans on agricultural real 
estate or portions of loans guaranteed by the United States 
Department of Agriculture. Under section 8.0(1) of the Act, 
``agricultural real estate'' includes both land used to produce 
agricultural commodities or products and single family, moderately-
priced principal residential dwellings located in rural areas. In 
this preamble, we refer to loans made on this latter type of real 
estate as ``rural housing mortgages.'' We propose to define 
investments other than those in (1) ``qualified loans,'' or (2) 
securities collateralized by ``qualified loans'' as ``non-program'' 
investments.
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     Establishing diversification requirements, including 
portfolio limits on specific types of investments and counterparty 
exposure limits; and
     Requiring Farmer Mac's board of directors to approve 
liquidity and non-program investment management policies and implement 
appropriate internal controls to oversee the investment and liquidity 
management of the Corporation.
    Another objective of this proposal is to better organize current 
regulatory sections pertaining to Farmer Mac, details of which are 
discussed in section XIV. below.

II. Background

    Congress established Farmer Mac in 1988 as part of its effort to 
resolve the agricultural crisis of the 1980s. Congress expected that a 
secondary market for agricultural and rural housing mortgages would 
increase competitively priced mortgage credit to America's farmers, 
ranchers, and rural homeowners.
    As originally structured, market demand for Farmer Mac services was 
low and the Corporation's ability to thrive and develop an active 
secondary market for long-term agricultural real estate loans was 
challenged. In 1996, statutory changes \2\ by Congress made Farmer 
Mac's programs more attractive, but Farmer Mac still had difficulty in 
building and maintaining recognition in the secondary market. In early 
1997, Farmer Mac adopted a new ``debt issuance strategy'' and 
consequently built its non-program investment portfolio to relatively 
high levels when compared to program assets. Farmer Mac's rationale for 
its debt issuance strategy was to increase its presence in the capital 
markets to attract more investors to its debt and mortgage-backed 
securities and reduce its borrowing and securitization costs.
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    \2\ The Farm Credit System Reform Act of 1996 (Pub. L. 104-105) 
amendments authorized Farmer Mac to purchase agricultural real 
estate and rural housing mortgages directly, as a pooler, and to 
guarantee securities backed by those loans without a 10-percent 
``subordinated interest'' or provision for private sector assumption 
of first losses.
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    Farmer Mac now has about $4.4 billion in assets, which includes 
about $1.7 billion in non-program investments. Also, Farmer Mac has 
over $4.0 billion in liabilities. (For comparison, 5 years ago 
liabilities totaled $1.6 billion, and 10 years ago liabilities totaled 
$452 million.) In addition to on-balance assets and liabilities, Farmer 
Mac now has in excess of $3.3 billion in off-balance sheet obligations 
associated with Long-Term Standby Purchase Commitments (LTSPC)\3\ and 
Farmer Mac Guaranteed Securities (FMGS).\4\
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    \3\ An LTSPC is a commitment by Farmer Mac to purchase specified 
eligible loans on one or more undetermined future dates. In 
consideration for Farmer Mac's assumption of the credit risk on the 
specified loans underlying an LTSPC, Farmer Mac receives an annual 
commitment fee on the outstanding balance of those loans in monthly 
installments based on the outstanding balance of those loans.
    \4\ Periodically, Farmer Mac transfers agricultural mortgage 
loans into trusts that are used as vehicles for the securitization 
of the transferred assets and the beneficial interests in the trusts 
are sold to third-party investors as FMGS. Farmer Mac guarantees the 
timely payment of principal and interest on the certificates issued 
by the trusts, regardless of whether the trusts actually receive 
scheduled payments on the related underlying loans. As consideration 
for Farmer Mac's assumption of the credit risk on these mortgage 
pass-through certificates, Farmer Mac receives an annual guarantee 
fee that is based upon the outstanding balance of the FMGS.

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[[Page 32906]]

    We are proposing these regulations because, as Farmer Mac continues 
to grow, its exposure to various business risks, including liquidity 
risk, also can be anticipated to grow. In addition, excessive or 
inappropriate use of non-program investments is not consistent with the 
Corporation's status as a Government-sponsored enterprise (GSE). This 
proposal balances safety and soundness concerns with the program focus 
of the Corporation.
    These proposed regulations do not address Farmer Mac's program 
investments. We will continue to monitor those investments for safety 
and soundness and other purposes through our examination, and off-site 
monitoring activities, of the Corporation.

III. Arrangement of This Proposal

    The following preamble material is a section-by-section analysis of 
the subsequent proposed rule text. This arrangement allows FCA to 
provide additional details or rationale for our proposal. Also, in 
section XIV., we discuss how we propose to better organize our rules 
pertaining to Farmer Mac.

IV. Section 652.1--Purpose

    This proposed section provides the user with a basic understanding 
of the contents and purpose of this subpart. We state that the purpose 
of this subpart is to ensure safety and soundness, continuity of 
funding, and appropriate use of non-program investments considering 
Farmer Mac's status as a GSE. It also highlights responsibilities of 
Farmer Mac's board of directors and management.

V. Section 652.5--Definitions

    This proposed section alphabetically lists words or phrases that 
are applicable to this subpart and will help the user more fully 
understand the subpart and our requirements. Most of the definitions 
are self explanatory, but one definition will benefit from explanation. 
The proposed definition of ``Government-sponsored agency'' includes 
Government-sponsored enterprises such as Fannie Mae and Farmer Mac, as 
well as Federal agencies, such as the Tennessee Valley Authority, that 
issue obligations that are not explicitly guaranteed by the Government 
of the United States' full faith and credit.

VI. Section 652.10--Investment Management and Requirements

    Farmer Mac, like any financial institution, must establish and 
follow certain fundamental practices to effectively manage risks in its 
investment portfolio. An effective risk management process for 
investments requires financial institutions to establish: (1) Policies; 
(2) risk limits; (3) a mechanism for identifying, measuring, and 
reporting risk exposures; and (4) a strong system of internal controls. 
Accordingly, proposed Sec.  652.10 requires Farmer Mac's board of 
directors to adopt written policies that establish risk limits and 
guide the decisions of investment managers. More specifically, board 
policies must establish objective criteria so investment managers can 
prudently manage credit, market, liquidity, and operational risks. 
Additionally, proposed Sec.  652.10 establishes other controls that are 
consistent with sound business practices, such as:
    (1) Clear delegation of responsibilities and authorities to 
investment managers;
    (2) Separation of duties;
    (3) Timely and effective security valuation practices; and
    (4) Routine reports on investment performance.

A. Responsibilities of the Board of Directors

    Proposed Sec.  652.10(a) outlines the basic responsibilities of the 
board of directors regarding Farmer Mac's non-program investment 
activities. The proposed rule requires the board to adopt written 
policies for managing those activities. The board must also ensure that 
management complies with the written policies and that appropriate 
internal controls are in place to prevent loss. The board, or a 
designated subcommittee of the board, must review the Corporation's 
investment policies at least annually. Any changes to the policies must 
be adopted by the board of directors and reported to FCA within 10 days 
of adoption.

B. Investment Policies

    Proposed Sec.  652.10(b) requires Farmer Mac's investment policies 
to address the purposes and objectives of investments, risk tolerance, 
delegations of authority, exception parameters, securities valuation, 
internal controls, and reporting requirements. Furthermore, the 
policies must address the means for reporting, and approvals needed 
for, exceptions to established policies. A general explanation of the 
board's investment objectives, expectations, and performance goals is 
necessary to guide investment managers. The proposed rule further 
requires that the investment policies must be sufficiently detailed, 
consistent with, and appropriate for the amounts, types, and risk 
characteristics of Farmer Mac's investments.

C. Risk Tolerance

    Proposed Sec.  652.10(c) requires Farmer Mac's board of directors 
to establish within its investment policies risk limits and 
diversification requirements for the various classes of eligible 
investments and for the entire investment portfolio. The policies must 
ensure that Farmer Mac maintains prudent diversification of its 
investment portfolio. Risk limits must be based on Farmer Mac's 
objectives, capital position, and risk tolerance capabilities. Risk 
tolerance can be expressed through several parameters such as duration, 
convexity, sector distribution, yield curve distribution, credit 
quality, risk-adjusted return, portfolio size, total return volatility, 
or value-at-risk.\5\ Farmer Mac should use a combination of parameters 
to appropriately limit its exposure to credit and market risk. Farmer 
Mac's policies must identify the types and quantity of investments that 
the Corporation will hold to achieve its objectives and control credit, 
market, liquidity, and operational risks. Farmer Mac must establish 
risk limits for those four types of risk.
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    \5\ Generically, duration is a measure of a bond's or 
portfolio's price sensitivity to a change in interest rates. 
Convexity measures the rate of change in duration with respect to a 
change in interest rates. A sector refers to a broad class of 
investments with similar characteristics or industry classification. 
Yield curve distribution refers to the distribution of the 
portfolio's investments in short-, intermediate-, or long-term 
investments. Value-at-risk is a methodology used to measure market 
risk in an investment portfolio.
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1. Credit Risk
    Credit risk generally refers to the risk that an issuer, obligor, 
or other counterparty will default on its obligation to pay the 
investor under the terms of the security or instrument. Farmer Mac's 
investment policies must establish standards for addressing credit 
risk.
    Credit risk is based on, among other factors, the ability of 
counterparties to honor their obligations and commitments. Farmer Mac 
should consider appropriate credit risk limits after fully considering 
its position with regard to a well-diversified investment portfolio. 
Accordingly, proposed Sec.  652.10(c)(1)(i) requires Farmer Mac's

[[Page 32907]]

investment policies to establish credit quality standards, limits on 
counterparty risk, and risk diversification standards that limit 
concentrations based on a single or related counterparty(ies), a 
geographical area, industries, or obligations with similar 
characteristics.
    The selection of dealers, brokers, and investment bankers 
(collectively, securities firms) is an important aspect of effective 
management of counterparty credit risk. Proposed Sec.  652.10(c)(1)(ii) 
requires Farmer Mac's investment policies to establish criteria for 
selecting securities firms. A satisfactory approval process includes a 
review of each firm's financial statements and an evaluation of its 
ability to honor its commitments, including an inquiry into the general 
reputation of the securities firm. Farmer Mac should also review 
information from Federal or state securities regulators and industry 
self-regulatory organizations, such as the National Association of 
Securities Dealers, concerning any formal enforcement actions against 
the security firm, its affiliates, or associated personnel.
    In addition, to further diversify Farmer Mac's exposure to credit 
risk, the proposed rule requires Farmer Mac to buy and sell eligible 
investments with more than one securities firm. Moreover, the proposed 
rule requires the board of directors or a designated subcommittee of 
the board, as part of its annual review of its investment policies, to 
review the criteria for selecting securities firms and determine 
whether to continue Farmer Mac's existing relationships with them. Any 
changes to the criteria or securities firms must be approved by the 
board of directors.
    Proposed Sec.  652.10(c)(1)(iii) requires Farmer Mac to establish 
appropriate collateral margin requirements on repurchase agreements.\6\ 
The FCA is proposing this requirement because it is prudent, as a means 
of managing potential counterparty credit risk, for Farmer Mac to 
establish appropriate collateral margin requirements based on the 
quality of the collateral and the terms of the agreement. Farmer Mac 
must also manage its exposure to loss on repurchase agreements by 
regularly marking the collateral to market and ensuring appropriate 
controls are maintained over collateral held.
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    \6\ In general, whether a given agreement is termed a 
``repurchase agreement'' or a ``reverse repurchase agreement'' 
depends largely on which party initiated the transaction. Market 
participants typically view the transaction from the dealer's 
perspective. In this preamble and the proposed regulation, the FCA 
uses the term ``repurchase agreement'' regardless of the perspective 
from which the transaction is viewed.
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2. Market Risk
    Market risk is the risk to a financial institution's financial 
condition resulting from adverse changes in the value of its holdings 
arising from movements in interest rates or prices. From a safety and 
soundness perspective, it is crucial for a financial institution's 
board and management to fully understand the market risks associated 
with investment securities prior to acquisition and on an ongoing 
basis. The most significant market risk of investment activities is 
interest rate risk. Proposed Sec.  652.10(c)(2) would require Farmer 
Mac's board to set market risk limits for specific types of 
investments, and for the investment portfolio or for Farmer Mac 
generally.
    To manage market risk exposure, this proposal would require Farmer 
Mac to evaluate how individual instruments and the investment portfolio 
as a whole affect the Corporation's overall interest rate risk profile. 
We also expect that Farmer Mac would timely monitor the price 
sensitivity of its investment portfolio and specify Corporation-wide 
interest rate risk limits.
    In addition, we believe prudently managed financial institutions 
should establish interest rate risk limits on their investment 
portfolios and on certain types of securities. Accordingly, risk 
parameters should be commensurate with Farmer Mac's ability to measure, 
manage, and absorb risk. The board should consider Farmer Mac's level 
of capital and earnings and its tolerance for market risk exposure when 
setting risk parameters. Farmer Mac must document in its records or 
minutes any analyses used in formulating its policy or amendments to 
the policy. Market risk limits should be established in a manner that 
is consistent with all relevant regulations, policies, and guidance 
issued by the FCA.
3. Liquidity Risk
    Liquidity risk may exist at both the investment and the 
institutional level. At the investment level, liquidity risk is the 
risk that Farmer Mac would not be able to sell or liquidate an 
investment quickly at a fair price. This inability may be due to 
inadequate market depth or market disruption.
    At the institutional level, liquidity risk is the risk that Farmer 
Mac could encounter a liquidity crisis if it is unable to fund 
operations at reasonable rates because access to the capital markets is 
impeded. This impediment may result from a market disruption or real or 
perceived credit, operational, public policy, or business problems.
    FCA expects Farmer Mac to manage liquidity risk at both the 
investment and the institutional levels. Accordingly, proposed Sec.  
652.10(c)(3) requires Farmer Mac's investment policies to describe the 
liquidity characteristics of eligible investments that it will hold to 
meet its liquidity needs and institutional objectives. Farmer Mac's 
investment policies must also require the Corporation to maintain 
sufficient quantities of liquid investments to comply with the 
liquidity reserve requirements of Sec.  652.20.
    Pursuant to Sec.  652.25, the amount of Farmer Mac's non-program 
investments is subject to certain limitations so that its GSE status 
and preferred market access privileges are not abused through excessive 
amounts of non-program investments. FCA expects Farmer Mac's policies 
to strike an appropriate balance among the need for a liquidity 
reserve, the management of interest rate risk, and the investment of 
surplus funds as it strives to accomplish its institutional objectives 
and its public purpose as a GSE.
4. Operational Risk
    Operational risk occurs when deficiencies in internal controls or 
information systems result in unexpected loss to a financial 
institution. Operational risk may arise from inadequate procedures, 
human error, information system failure, or fraud. Internal controls 
that effectively detect and prevent operating risks are an integral 
part of prudent investment management. The ability of management to 
accurately assess and control operating risks is frequently one of the 
greatest challenges that a financial institution faces with regard to 
investment activities. Therefore, proposed Sec.  652.10(c)(4) would 
require Farmer Mac's investment policies to address operating risks, 
including delegations of authority and internal controls, in accordance 
with paragraphs (d) and (e) of Sec.  652.10.
    Farmer Mac also may be exposed to other sources of operating risks, 
such as legal risk that may result from contracts that are not legally 
enforceable. FCA expects Farmer Mac to adequately assess, control, and 
minimize operating risks relating to investment activities. 
Accordingly, we expect Farmer Mac to clearly define documentation 
requirements for securities transactions, retention and safekeeping of 
documents, and possession and control of purchased investment 
instruments.

[[Page 32908]]

D. Delegation of Authority

    Prudent management of investment activities requires an 
organizational structure that clearly delineates responsibility and 
accountability for all investment management functions, including risk 
measurement, and oversight. Accordingly, proposed Sec.  652.10(d) 
specifically provides that all delegations of authority to specified 
personnel or committees must state the extent of management's authority 
and responsibilities for investments. Farmer Mac should periodically 
review the Corporation's organizational structure to reveal conflicts 
of interest or inadequate checks and balances.

E. Internal Controls

    Proposed Sec.  652.10(e) sets forth internal control requirements 
for investment management of Farmer Mac. Proposed Sec.  652.10(e)(1) 
would require Farmer Mac to establish appropriate internal controls to 
detect and prevent loss, fraud, embezzlement, conflicts of interest, 
and unauthorized investments.
    Proposed Sec.  652.10(e)(2) would require a separation of duties 
and supervision between personnel executing investment transactions and 
those responsible for approving, revaluating, and overseeing the 
investments. Separation of duties promotes integrity, accuracy, and 
prudent business practices that reduce the risk of loss. Senior 
management must ensure that Farmer Mac's investment practices and risk 
exposure are regularly reviewed and evaluated by personnel who are 
independent from those responsible for executing investment 
transactions. Also, we consider separate and independent valuation of 
computer model assumptions and data used by investment managers a 
necessary part of these regular reviews.
    Proposed Sec.  652.10(e)(3) would require Farmer Mac to maintain 
records and management information systems that are appropriate for the 
level and complexity of its investment activities. This requirement is 
especially important as investment instruments become increasingly 
complex and internal controls depend on adequacy and accuracy of 
corporate records. Internal quantitative models, computer software, and 
management expertise must be adequate and fully integrated to 
adequately analyze individual investment instruments, the investment 
portfolio, and the effect investments have on Farmer Mac's cashflows, 
earnings, and capital.

F. Securities Valuations

    Accurate and frequent securities valuation is essential to 
measuring risk and monitoring compliance with a financial institution's 
objectives and risk parameters. Prudent business practices dictate that 
a financial institution must understand the value and price sensitivity 
of its investments prior to purchase and on an ongoing basis. 
Appropriate securities valuation practices by the financial institution 
enable managers to fully understand the risks and cashflow 
characteristics of its investments. Farmer Mac should rely on valuation 
methodologies that take into account all the risk elements in a 
security to determine its price. Proposed Sec.  652.10(f) establishes 
the basic requirements for securities valuations by Farmer Mac and 
generally requires Farmer Mac to perform an analysis of the credit and 
market risks on investments prior to purchase and on an ongoing basis. 
The primary objective of this provision is to ensure that management 
understands and the board appropriately oversees the risks and cashflow 
characteristics of any investment that Farmer Mac purchases.
    Managers must have a reasonable and adequate basis for investment 
purchases, supported by appropriate analysis, for the Corporation's 
investment decisions, and must maintain adequate documentation 
regarding the decisions. We believe this is especially relevant to 
Farmer Mac given its status as a GSE. We expect the analysis to 
describe the basic risk characteristics of the investment and include a 
balanced discussion of risks involved in purchasing the investment. In 
preparing the analysis, investment managers should consider the current 
rate of return or yield, expected total return, and annual income. We 
also expect investment managers to consider the degree of uncertainty 
associated with the cashflows, and the investment's marketability, 
liquidity, credit risk, and market risk. For investments that have 
unusual, leveraged, or highly variable cashflows, investment managers 
must exercise extraordinary diligence and thoroughness in making 
investment decisions. The depth of analyses and documentation of such 
decisions must be commensurate with the investment risk.
    A fundamental component of sound investment management is the 
independent verification of securities prices. Accordingly, proposed 
Sec.  652.10(f)(1) requires Farmer Mac, before it purchases a security, 
to evaluate its credit quality and price sensitivity to changes in 
market interest rates. We also propose to require Farmer Mac to 
evaluate and document the size and liquidity of the secondary market 
for the security at the time of purchase. In addition, we expect Farmer 
Mac to monitor and update this information as market conditions change. 
While Farmer Mac must support its credit evaluations by using the most 
recent credit rating given to a security by a Nationally Recognized 
Statistical Rating Organization (NRSRO) in accordance with the 
requirements of Sec.  652.35, the Corporation may not rely exclusively 
on NRSRO ratings prior to purchasing investments. An independent and 
timely evaluation performed by Farmer Mac is needed because there may 
be a lag before an adverse event is reflected in the credit rating. 
Therefore, Farmer Mac's analysis must indicate whether the security's 
risk has changed subsequent to the most recent NRSRO rating.
    Proposed Sec.  652.10(f)(1) also requires Farmer Mac to verify the 
value of a security that it plans to purchase, other than a new issue, 
with a source that is independent of the broker, dealer, counterparty, 
or other intermediary to the transaction. Independent verification of 
price can be as simple as obtaining a price from an industry-recognized 
information provider. Farmer Mac may satisfy this requirement by 
independently verifying the price of a security with an online market 
reporting service, such as Bloomberg, Telerate, or Reuters. Although 
price quotes from information providers are not actual market prices, 
they confirm whether the broker's price is reasonable. In the event 
that Farmer Mac is unable to obtain a second price quote on a 
particular security, a price quote may be obtained on a security with 
substantially similar characteristics. However, such an alternative 
method increases analysis and documentation requirements and must be 
available for independent internal and external evaluators to assess. 
In addition, Farmer Mac may use internal valuation models to verify the 
reasonableness of prices it pays or receives for securities.
    Finally proposed Sec.  652.10(f)(1) requires the board's investment 
policies to fully address the extent of the prepurchase analysis that 
management needs to perform for various classes of instruments. For 
example, Farmer Mac should specifically describe the stress tests in 
Sec.  652.40 that must be performed on various types of mortgage 
securities.
    Proposed Sec.  652.10(f)(2) would require Farmer Mac to determine, 
at least monthly, the fair market value of each security in its 
portfolio and the fair market value of its investment portfolio as a 
whole. We propose this provision to ensure that management and the

[[Page 32909]]

board have the necessary information to assess the performance of 
Farmer Mac's investment portfolio. This requirement enables management 
to provide accurate and timely reports to the board of directors in 
accordance with proposed Sec.  652.10(g) and manage market risks.
    In satisfying the above requirements, proposed Sec.  652.10(f)(2) 
would also require Farmer Mac to evaluate the credit quality and price 
sensitivity to the change in market interest rates of each security in 
Farmer Mac's portfolio and its whole investment portfolio. The 
substance and form of the evaluations are likely to vary depending on 
the type of instrument. Relatively simple or standardized instruments 
with readily identifiable risks require significantly less analysis 
than more volatile or complex instruments. (Proposed Sec.  652.40 
contains specific stress test guidance for evaluating the price 
sensitivity of mortgage securities.)
    Other eligible investments that have uncertain cashflows as a 
result of embedded options (such as call options, caps, or floors) may 
require similar analytical techniques to appropriately evaluate the 
instruments. For example, prior to investing in asset-backed securities 
(ABS), the FCA expects Farmer Mac to conduct or obtain an evaluation of 
the collateral (including type, aging of the assets, and the credit 
quality of the underlying loans) and an analysis of the securities' 
structure and cashflows.
    Proposed Sec.  652.10(f)(3) requires Farmer Mac, before it sells a 
security, to verify its value with a source that is independent of the 
broker, dealer, counterparty, or other intermediary to the transaction. 
We reiterate, independent verification of price can be as simple as 
obtaining a price from an industry-recognized information provider, 
which will verify whether the broker's price is reasonable. In the 
event that Farmer Mac is unable to obtain a second price quote on a 
particular security, a price quote may be obtained on a security with 
substantially similar characteristics as explained and qualified above 
so long as the analysis is adequately documented and appropriately 
supports the security's value.

G. Reports to the Board of Directors

    Adequate reporting will help ensure the Farmer Mac board properly 
carries out its fiduciary responsibilities and provides an essential 
element of internal controls. Management reports must communicate 
effectively to the board the nature of the risks inherent in Farmer 
Mac's investment activities. Reporting should occur frequently so that 
the board has timely, accurate, and sufficient information in order to 
adequately oversee changes in the investment portfolio and Farmer Mac's 
risk profile.
    Proposed Sec.  652.10(g) requires management, at least quarterly, 
to report to the board, or a designated subcommittee of the board, on 
the performance and risk of each class of investments and the entire 
investment portfolio. The report must identify all gains and losses 
that Farmer Mac incurs during the quarter on individual securities it 
sells before maturity and why such securities were liquidated. Reports 
also must identify potential risk exposure to changes in market 
interest rates and any other factors (such as credit deterioration) 
that may affect the value of Farmer Mac's investment holdings. In 
addition, the regulation would require management's report to discuss 
how Farmer Mac's investments affect its overall financial condition and 
to evaluate whether the performance of the investment portfolio 
effectively achieves the objectives established by the board of 
directors. The report must specifically identify deviations from the 
board's policies and seek board approval for any deviations.

VII. Section 652.15--Interest Rate Risk Management and Requirements

    Because interest rate risk management is such an important part of 
investment management, we propose in Sec.  652.15 certain 
responsibilities of Farmer Mac's board of directors and management as 
well as policy requirements to address more generally the management of 
interest rate risk exposure. The proposed regulations outline our 
minimum expectations for the management of interest rate risk exposure.
    The potentially adverse effect that interest rate risk may have on 
net interest income and the market value of Farmer Mac's equity is of 
particular importance. Unless properly measured and managed, interest 
rate changes can have significant adverse effects on Farmer Mac's 
ability to generate earnings, build net worth, and maintain liquidity.
    Proposed Sec.  652.15(a) requires Farmer Mac's board of directors 
to be responsible for providing effective oversight (direction, 
controls, and supervision) to the interest rate risk management program 
and to be knowledgeable of the nature and level of interest rate risk 
taken by Farmer Mac.
    Proposed Sec.  652.15(b) requires Farmer Mac's management to be 
responsible for ensuring that interest rate risk is properly managed on 
both a long-range and a day-to-day basis.
    Proposed Sec.  652.15(c) requires Farmer Mac's board of directors 
to adopt an interest rate risk management policy. At least annually, 
the board of directors, or a designated subcommittee of the board, must 
review the policy. Any changes to the policy must be approved by the 
board and reported to FCA within 10 days of adoption.
    Proposed Sec.  652.15(d) requires Farmer Mac's interest rate 
management policy, at a minimum, to:
    (1) Address the purpose and objectives of interest rate risk 
management;
    (2) Identify and analyze the causes of interest rate risks within 
its existing balance sheet structure;
    (3) Require Farmer Mac to measure the potential impact of these 
risks on projected earnings and market values by conducting interest 
rate shock tests and simulations of multiple economic scenarios at 
least quarterly;
    (4) Describe and implement actions needed to obtain its desired 
risk management objectives;
    (5) Document the objectives that Farmer Mac is attempting to 
achieve by purchasing eligible investments that are authorized by Sec.  
652.35;
    (6) Require Farmer Mac to evaluate and document, at least 
quarterly, whether these investments have actually met the objectives 
stated under paragraph (4) above;
    (7) Identify exception parameters and post approvals needed for any 
exceptions to the policy's requirements;
    (8) Describe delegations of authority; and
    (9) Describe reporting requirements, including exceptions to policy 
limits.
    Proposed Sec.  652.15(e) requires Farmer Mac's management to 
report, at least quarterly, to the Corporation's board of directors, or 
a designated subcommittee of the board, describing the nature and level 
of interest rate risk exposure. It also would require that any 
deviations from the board's policy on interest rate risk must be 
specifically identified in the report and approved by the board, or 
designated subcommittee of the board.

VIII. Liquidity Reserve Management and Requirements

    As discussed in section VI., Farmer Mac is subject to liquidity 
risk at both the investment and institutional levels. Farmer Mac must 
manage risk at both of these levels.
    In making this proposal, we recognize Farmer Mac's long-term 
liquidity is dependent on its ability to obtain funding from the 
securities markets. To

[[Page 32910]]

aid in assuring market access, temporary sources of highly liquid and 
low-risk investments are needed in the event of market disruptions or 
aberrations. Accordingly, we propose liquidity requirements in Sec.  
652.20 that address minimum reserves, policies, periodic and special 
reporting requirements, and high quality unencumbered investments as 
follows.

A. Minimum Daily Liquidity Reserve Requirement

    The minimum daily liquidity reserve requirement in proposed Sec.  
652.20(a) will ensure that Farmer Mac has a pool of cash, eligible non-
program investments, and/or securities backed by portions of Farmer Mac 
program assets (loans) that are guaranteed by the United States 
Department of Agriculture as described in section 8.0(9)(B) of the Act 
(subject to certain discounts) to fund its operations for a minimum of 
60 days, if its access to the capital markets becomes impeded or 
otherwise threatened. The Farmer Mac program assets described above are 
held under a program known as the Farmer Mac II Program.
    We believe the significance of maintaining an ample supply of 
liquid funds for safety and soundness reasons outweigh any burdens 
created by the minimum daily liquidity reserve requirement.
    This proposed regulation will permit Farmer Mac sufficient time to 
make adjustments to the liquidity portfolio and any associated 
restructuring of Farmer Mac's maturing debt. We propose that within 24 
months of this rule becoming effective, and thereafter, the minimum 
daily liquidity reserve requirement will be 60 days.
    We seek comment on whether the 60-day minimum daily liquidity 
reserve requirement is too much or too little. We also seek comment on 
whether it is appropriate to include securities backed by portions of 
Farmer Mac program assets (loans) that are guaranteed by the United 
States Department of Agriculture (Farmer Mac II program assets) in the 
minimum daily liquidity reserve requirement.

B. Free of Lien

    At Sec.  652.20(b), we propose that all investments held for the 
purpose of meeting the minimum daily liquidity reserve requirement of 
this section must be free of liens or other encumbrances.

C. Discounts

    We propose to subject some of the investments in the liquidity pool 
to certain discounts as they may exhibit somewhat less liquidity in 
adverse market conditions. Those investments include money market 
instruments, floating and fixed rate debt securities, diversified 
investment funds, and securities backed by portions of Farmer Mac 
program assets (loans) that are guaranteed by the United States 
Department of Agriculture as described in section 8.0(9)(B) of the Act. 
Additionally, we reserve the authority to modify or determine the 
appropriate discount for any investments used to meet the minimum daily 
liquidity reserve requirement. For example, if an adverse credit event 
or other adverse event caused an eligible investment to exhibit less 
liquidity, we might increase the discount associated with that 
investment.

D. Liquidity Reserve Policy

    At Sec.  652.20(d), we propose requirements that Farmer Mac's board 
must address when setting a liquidity reserve policy. We also propose 
that proper internal controls be put in place, and that the board of 
directors, or a designated subcommittee of the board, review and 
validate the policy's adequacy at least annually. Any changes to the 
policy must be approved by the board of directors, and Farmer Mac must 
provide a copy of the revised policy to FCA within 10 days of adoption.
    At Sec.  652.20(e), we propose the minimum contents of the policy. 
The policy must include a statement of the purpose and objectives of 
liquidity reserves; a listing of specific assets, debt, and 
arrangements that can be used to meet liquidity objectives; 
diversification requirements of Farmer Mac's liquidity reserve 
portfolio; exception parameters and post approvals needed; delegations 
of authority; and reporting requirements.
    In addition, we propose the policy establish maturity limits and 
credit quality standards for non-program investments used to meet the 
minimum daily liquidity reserve requirement of Sec.  652.20(a).
    Furthermore, we propose that the policy establish minimum and 
target amounts of liquidity. For example, the policy could establish an 
internal liquidity minimum such as 75 days (in addition to the 60-day 
regulatory minimum), or it could set an optimum liquidity requirement 
such as 90 days of liquidity to be met 80 percent of the time (in 
addition to the 60-day regulatory minimum reserve requirement).
    Finally, we propose the policy include the maximum amount of non-
program investments that can be held for meeting Farmer Mac's liquidity 
needs, as expressed as a percentage of program assets and off-balance 
sheet obligations.

E. Liquidity Reserve Reporting

    To ensure appropriate internal control and accountability, we 
propose at Sec.  652.20(f) to require that Farmer Mac's management 
report specific information to its board of directors or a designated 
subcommittee at least quarterly. The reports would describe liquidity 
reserve compliance with policy and other requirements of this section. 
Any deviations from the board's liquidity reserve policy must be 
specifically identified in the report and approved by the board of 
directors.
    At Sec.  652.20(g), we propose special reporting requirements for 
Farmer Mac. Farmer Mac's management must immediately report to its 
board of directors if any violation of board policy requirements at 
Sec.  652.20(e) occurs. We believe this will allow sufficient time for 
Farmer Mac's board of directors to understand the ramifications of any 
breach and take corrective measures to prevent violations of our 
minimum daily liquidity reserve requirement as proposed in Sec.  
652.20(a). The Farmer Mac board must report to FCA within 3 days of 
receiving a report of any noncompliance with board policy requirements 
that are specified in Sec.  652.20(e).
    Additionally, Farmer Mac must immediately report to the FCA when 
the regulatory minimum daily liquidity reserve requirement at Sec.  
652.20(a) are breached.

IX. Section 652.25--Non-Program Investment Purposes and Limitations

    Proposed Sec.  652.25 lists authorized purposes for Farmer Mac non-
program investments and imposes limitations on those investments. Our 
proposal seeks to reasonably relate investments made by Farmer Mac to 
its program purpose of establishing a secondary market arrangement for 
agricultural and rural housing mortgages. In making this proposal, we 
recognize non-program investments provide for a blend of Farmer Mac 
needs; most fundamental of these needs is to provide highly liquid 
assets to meet immediate funding needs associated with Farmer Mac's 
business in agricultural and rural housing mortgages. Farmer Mac also 
uses non-program investments in managing interest rate risk and 
providing flexibility in responding to fluctuating liquidity and 
economic conditions. Any non-program investments not appropriately 
related to the above needs warrant specific attention and 
justification. We recognize that

[[Page 32911]]

investment fund management and prediction of changes in the market are 
very complex and fully support Farmer Mac's ability to respond 
appropriately in times of adversity. Therefore, holding adequate levels 
of highly liquid assets to meet funding needs during market disruptions 
is a fundamental safety and soundness matter. At the same time, Farmer 
Mac's powers to make non-program investments cannot result in 
inappropriate use of its GSE charter.
    At Sec.  652.25(a), we provide that non-program investments are 
authorized to comply with interest rate risk and liquidity reserve 
requirements and to manage surplus short-term funds.
    At Sec.  652.25(b), we propose that non-program investments cannot 
exceed the greater of $1.5 billion or the aggregate of the following: 
(1) Thirty (30) percent of total assets; and (2) a reasonable estimate 
of off-balance sheet loans covered by guarantees or commitments that 
Farmer Mac likely will be required to purchase during the upcoming 12-
month period, not to exceed 15 percent of total off-balance sheet 
obligations.
    In proposing the limitations, we recognized that Farmer Mac's 
liquidity needs are unique and considered such issues as off-balance 
sheet contingency funding needs and how those needs could fluctuate in 
times of sector or geographic adversity. We recognized that Farmer 
Mac's need for market presence and penetration is also unique. 
Additionally, we considered that in certain circumstances, Farmer Mac 
may borrow up to $1.5 billion from the U.S. Treasury to fulfill the 
guarantee obligations of the Corporation.
    We seek comment on whether the $1.5 billion component or the 
aggregation component is too much or too little in relation to our 
proposed minimum daily liquidity reserve requirement set forth in Sec.  
652.20(a). In addition, should off-balance sheet obligations be 
permitted or not be permitted in determining the maximum levels of non-
program investments? Finally, should we consider other issues pertinent 
to Farmer Mac's non-program investment needs or practices such as its 
``debt issuance strategy''?

X. Section 652.30--Temporary Regulatory Waivers or Modifications for 
Extraordinary Situations

    Proposed Sec.  652.30 provides that the FCA may waive or modify 
restrictions on the size of Farmer Mac's investment portfolio and/or 
the liquidity reserve during times of economic stress, financial 
stress, or other extraordinary situations. As waivers or modifications 
are approved, we may impose certain expirations, plans to return to 
compliance, or other limitations. The flexibility of this provision 
enables the agency to tailor specific remedies for particular problems 
or particular circumstances that might arise.
    Examples of extraordinary situations include, but are not 
necessarily limited to: (1) Disrupted access to capital markets due to 
financial, economic, agricultural, or national defense crises; and (2) 
situations specific to Farmer Mac that necessitate modified liquidity 
reserves, other investments, or other measures for continued market 
access.

XI. Section 652.35--Eligible Non-Program Investments

    The proposed rule provides Farmer Mac with a broad array of 
eligible high-quality, liquid investments while providing a regulatory 
framework that can readily accommodate innovations in financial 
products and analytical tools. Similar classes of investments, such as 
full faith and credit obligations of Federal and state governments and 
short-term money market instruments, are grouped together in a table. 
Our proposed rule provides definitions for many of those investments in 
Sec.  652.5.
    Farmer Mac may purchase and hold the eligible non-program 
investments listed in Sec.  652.35 to maintain liquidity reserves, 
manage interest rate risk, and invest surplus short-term funds. Only 
investments that can be promptly converted into cash without 
significant loss are suitable for achieving these objectives. For this 
reason, the eligible investments listed in Sec.  652.35 generally have 
short terms to maturity and high credit ratings from NRSROs. 
Furthermore, all eligible investments are either traded in active and 
universally recognized secondary markets or are valuable as collateral. 
To enhance safety and soundness, for many of the investments, we 
propose that they comprise certain maximum percentages of the total 
non-program investment portfolio. We propose these portfolio caps to 
limit credit risk exposures, to promote diversification, and to curtail 
investments in securities that may exhibit considerable price 
volatility, price risk, or liquidity risks. We also propose obligor 
limits to help reduce exposure to counterparty risk.

A. Obligations of the United States

    We propose to authorize Farmer Mac to invest in Treasuries and 
other obligations (except mortgage securities) fully insured or 
guaranteed by the United States Government or a Government agency. 
Farmer Mac may, for example, hold deposits that are insured by the 
Federal Deposit Insurance Corporation or portions of loans that are 
guaranteed by the Small Business Administration.

B. Obligations of Government-Sponsored Agencies

    We propose to authorize Farmer Mac to invest in Government-
sponsored agency securities (except mortgage securities) and other 
obligations (except mortgage securities) fully insured or guaranteed by 
Government-sponsored agencies. However, because Farmer Mac is also a 
Government-sponsored agency, we believe counterparty exposures should 
be limited. Accordingly, we propose that Farmer Mac may not invest more 
than 100 percent of its total capital in any single Government-
sponsored agency. This limitation does not apply to Farmer Mac's own 
securities (e.g., agricultural mortgage-backed securities issued by 
Farmer Mac and retained in its portfolio).

C. Municipal Securities

    We propose to authorize investment in the general obligations of 
state and municipal governments. We also propose to authorize 
investment in revenue bonds of state and municipal governments; 
however, we propose to limit revenue bonds to 15 percent or less of the 
total investment portfolio.

D. International and Multilateral Development Bank Obligations

    We propose to authorize obligations of international and 
multilateral development banks, provided the United States is a voting 
shareholder. Examples of eligible banks include the International Bank 
for Reconstruction and Development (World Bank), Inter-American 
Development Bank, and the North American Development Bank. Other highly 
rated banks working in concert with the World Bank to promote 
development in various countries are also eligible, subject to the 
shareholder-voting requirement above.

E. Money Market Instruments

    We propose to authorize investments in Federal funds, negotiable 
certificates of deposit, bankers acceptances, and prime commercial 
paper. These money market instruments have high credit quality and 
short maturities and can be sold on active secondary markets prior to 
maturity. Therefore, we place no portfolio limits on these investments.
    We propose to authorize investments in noncallable term Federal 
funds and Eurodollar time deposits. However, we propose to limit these 
investments to 20 percent or less of the total investment portfolio and 
require maturities of 100 days or less to control concentration risk in 
these non-negotiable instruments.

[[Page 32912]]

    We propose to authorize investments in Master Notes that have 
maturities of 270 days or less, but Master Notes cannot comprise more 
than 20 percent of the total investment portfolio.
    We propose to authorize investments in repurchase agreements 
collateralized by eligible investments or marketable securities rated 
in the highest credit rating category by an NRSRO. We propose to 
require that repurchase agreements have maturities of 100 days or less. 
In addition, if the counterparty defaults, Farmer Mac must divest 
itself of noneligible securities as required under proposed Sec.  
652.45.

F. Mortgage Securities

    We propose to authorize investments in mortgage securities that are 
issued or guaranteed by the United States or a Government agency. 
Farmer Mac must perform the stress testing described in proposed Sec.  
652.40 on these securities.
    We propose to authorize investments in mortgage securities issued 
by a Government-sponsored agency. Farmer Mac must perform the stress 
testing described in proposed Sec.  652.40 on these securities. In 
addition, the combined amount of the securities cannot comprise more 
than 50 percent of Farmer Mac's total investment portfolio. We propose 
to authorize investments in non-Government agency or Government-
sponsored agency securities that comply with 15 U.S.C. 77(d)5 or 15 
U.S.C. 78c(a)(41). Farmer Mac must perform the stress testing described 
in proposed Sec.  652.40 on these securities. In addition, the 
securities must maintain the highest credit rating by an NRSRO. These 
types of mortgage securities are typically issued by private sector 
entities and are mostly comprised of securities that are collateralized 
by ``jumbo'' mortgages with principal amounts that exceed the maximum 
limits of Fannie Mae or Freddie Mac programs.\7\ The securities must 
meet: (1) The requirements of 15 U.S.C. 77d(5) that pertain to mortgage 
securities that are offered and sold pursuant to section 4(5) of the 
Securities Act of 1933; or (2) the requirements of 15 U.S.C. 78c(a)(41) 
that pertain to residential mortgage-related securities within the 
meaning of section 3(a)(41) of the Securities Exchange Act of 1934. 
Generally speaking, this means the securities are secured by a first 
lien on a single parcel of real estate (residential or mixed 
residential and commercial properties) and originated by a qualifying 
financial institution. Additionally, we propose to require that these 
securities comprise 15 percent or less of Farmer Mac's total investment 
portfolio because they are not explicitly or implicitly guaranteed by 
the United States, typically require credit enhancements to receive a 
high NRSRO credit rating, and are dependent upon a myriad of factors 
(collateral, terms, and originators) to achieve satisfactory credit 
quality and liquidity.
---------------------------------------------------------------------------

    \7\ Other asset classes in the non-Government agency security 
class exist, including (1) Housing and Urban Development paper; (2) 
high loan-to-value loans; (3) Community Reinvestment Act loans; and 
(4) loans to borrowers with conforming loan balances with other 
features that prevent agency securitization, such as low 
documentation, self-employment, and unique property features.
---------------------------------------------------------------------------

    We propose to authorize investment in commercial mortgage-backed 
securities (CMBS),\8\ which are collateralized by mortgages on 
commercial properties, such as apartment buildings, shopping centers, 
office buildings, and hotels. CMBS typically have yield-maintenance 
provisions or other features that provide greater prepayment protection 
to investors than residential mortgage securities. However, the 
structures of CMBS can vary widely and the more unique structures may 
contain additional risks that need to be thoroughly evaluated. 
Investment managers must fully understand the cashflow characteristics 
and price sensitivity of CMBS investments. Nonetheless, with 
appropriate safety and soundness controls, CMBS may provide Farmer Mac 
with greater investment portfolio diversification. Therefore, we 
propose to authorize investments in the securities provided that: (1) 
The security has the highest NRSRO credit rating; (2) the security is 
backed by a minimum of 100 loans; (3) loans from a single mortgagor 
cannot exceed 5 percent of the mortgage security pool; and (4) the 
mortgage security pool is geographically diversified and complies with 
Farmer Mac board policy. In addition, Farmer Mac must perform the 
stress testing described in proposed Sec.  652.40 on these securities.
---------------------------------------------------------------------------

    \8\ ``CMBS'' refers only to securities backed by mortgages on 
commercial real estate. This term does not cover Fannie Mae mortgage 
securities on mixed residential and commercial properties or 
mortgage securities on commercial real estate that the Small 
Business Administration issues or guarantees.
---------------------------------------------------------------------------

G. Asset-Backed Securities (ABS)

    We propose to allow investment in ABS secured by credit card 
receivables, automobile loans, home equity loans, wholesale automobile 
dealer loans, student loans, equipment loans, and manufactured housing 
loans. Under this proposal, securities collateralized by home equity 
loans qualify as ABS, not mortgage securities.
    Investments in ABS must have the highest NRSRO credit rating and 
cannot comprise more than 20 percent of Farmer Mac's total investment 
portfolio. Furthermore, if a fixed or floating rate ABS is at its 
contractual interest rate cap, it must have a 5-year weighted average 
life (WAL),\9\ or less.
---------------------------------------------------------------------------

    \9\ Generally, the WAL is the average amount of time required 
for each dollar of invested principal to be repaid, based on the 
cashflow structure of an ABS and an assumed level of prepayments. 
Nearly all ABS are priced and traded on the basis of their WAL, not 
their final maturity dates.
---------------------------------------------------------------------------

H. Corporate Debt Securities

    We propose to allow investment in corporate debt securities with 
maturities up to 5 years and one of the two highest NRSRO credit 
ratings. Additionally, the securities cannot be convertible to equity 
securities and cannot comprise more than 20 percent of Farmer Mac's 
total investment portfolio.

I. Diversified Investment Funds

    We propose to authorize investment in shares of any investment 
company that is registered under section 8 of the Investment Company 
Act of 1940, 15 U.S.C. 80a-8, as long as the investment company's 
portfolio consists solely of investments that are authorized by Sec.  
652.40. Prior to investing in a particular investment company, Farmer 
Mac would be required to evaluate the investment company's risk and 
return objectives. As part of this evaluation, Farmer Mac should 
determine whether the investment company's use of derivatives is 
consistent with FCA guidance and Farmer Mac's investment policies. For 
instance, we would generally view it an unsafe and unsound practice for 
Farmer Mac to invest in an investment company that uses financial 
derivatives for speculative purposes rather than as a risk management 
tool. Farmer Mac must maintain appropriate documentation on each 
investment, including a prospectus and analysis, so its investment and 
selection process can be independently and objectively audited and 
examined. If Farmer Mac's shares in each investment company comprise 10 
percent or less of Farmer Mac's total investment portfolio, no maximum 
portfolio limits are triggered. However, if Farmer Mac's shares in a 
particular investment company comprise more than 10 percent of Farmer 
Mac's total investment portfolio, then the pro rata interest in an 
asset class of security in an investment company must be added to the 
same asset class of Farmer Mac's other investments to determine 
investment portfolio limits. For example, if Farmer Mac has 12 percent 
of its total

[[Page 32913]]

investment portfolio (i.e., more than 10 percent) in Diversified 
Investment Company Alpha (Alpha), then Farmer Mac would have to 
determine the composition of investments in Alpha's portfolio. The pro 
rata dollar amount of corporate debt securities (one example of the 
many asset classes) in Alpha would have to be added to Farmer Mac's 
corporate debt securities, and that combined amount would have to be 20 
percent or less of Farmer Mac's total investment portfolio. Again, 
corporate debt securities are used only as an example. Any asset class 
in Farmer Mac's portfolio with an investment portfolio limit would have 
to be computed the same way.

J. Rating of Foreign Countries

    We want to ensure that investments from outside the United States 
are of minimal risk to Farmer Mac, a GSE. For that reason, at Sec.  
652.35(b) we propose that whenever the obligor or issuer of an eligible 
investment is located outside the United States, the host country must 
maintain the highest sovereign rating for political and economic 
stability by an NRSRO.

K. Marketable Investments

    Marketability without significant loss is one of the key components 
of liquidity. Proposed Sec.  652.40(c) requires that all eligible 
investments, except money market instruments, must be readily 
marketable. We note that an eligible investment is marketable if Farmer 
Mac can sell it promptly at a price that closely reflects its fair 
value in an active and universally recognized secondary market. We also 
propose to require Farmer Mac to evaluate and document the size and 
liquidity of the secondary market for the investment at time of 
purchase.

L. Obligor Limits

    Previously, we discussed the risks of investment concentrations and 
the benefits of a well diversified and high quality investment 
portfolio. In proposed Sec.  652.35(d)(1), we prohibit Farmer Mac from 
investing more than 20 percent of its total capital in eligible 
investments issued by any single entity, issuer, or obligor. However, 
the obligor limit would not apply to Government agencies or Government-
sponsored agencies. Instead, we propose that Farmer Mac may not invest 
more than 100 percent of its total capital in any one Government-
sponsored agency. There are no obligor limits for Government agencies.
    Also, at proposed Sec.  652.35(d)(2), we require Farmer Mac to 
count securities that it holds through an investment company towards 
the obligor limits of this section unless the investment company's 
holdings of the security of any one issuer do not exceed 5 percent of 
the investment company's total portfolio.

M. Investments in Preferred Stock of Farm Credit System Institutions 
and Other Investments Approved by FCA

    With our prior written approval, Farmer Mac may purchase non-
program investments in preferred stock issued by Farm Credit System 
(System) institutions and in other non-program investments that are not 
expressly authorized by FCA regulations.
    Proposed Sec.  652.35(e) requires that Farmer Mac request our 
approval to invest in preferred stock issued by System institutions. We 
propose this requirement to enhance our oversight of the flow of 
capital and investments between System institutions and Farmer Mac.
    Farmer Mac presently owns preferred stock in two System 
institutions. An increasing number of System institutions are issuing 
preferred stock for a variety of valid reasons, including meeting long-
term capital objectives and supporting growth. However, as the safety 
and soundness regulator for System banks and associations and Farmer 
Mac, we have concerns that continued and expanded preferred stock 
investments could potentially reduce the quality of System institution 
and Farmer Mac capital. Concentration and systemic risks concerns arise 
from Farmer Mac's ability to invest in unlimited amounts of preferred 
stock issued by System institutions, and potentially in the future, 
vice-versa.\10\
---------------------------------------------------------------------------

    \10\ On April 22, 2004, the FCA Board adopted a provision, in 
another proposed rule, that would require System institutions to 
obtain FCA approval when investing in Farmer Mac preferred stock.
---------------------------------------------------------------------------

    As we noted previously, for any investment that does not fit wholly 
within one of the investment categories that we describe or provide 
for, we reserve the authority to determine an appropriate discount as 
the investment is considered in meeting the minimum daily liquidity 
reserve requirement of proposed Sec.  652.20(a).
    Similar to our rules for Farm Credit banks and associations, 
proposed Sec.  652.35(f) requires that Farmer Mac receive FCA approval 
for any investments that are not specifically included in this section 
as eligible non-program investments.
    Farmer Mac's request for FCA approval to invest in the preferred 
stock of System institutions or other non-program investments must 
explain the risk characteristics of the investment and the purpose and 
objective for making the investment.

XII. Stress Tests for Mortgage Securities

A. Overview/Reason for Proposal

    For several reasons, stress testing is an essential risk management 
practice for Farmer Mac to perform on mortgage securities in its 
investment portfolio. Stress testing is essential when the cashflows 
from investments or assets of financial institutions change in response 
to fluctuations in market interest rates. For example, although credit 
risk on highly rated mortgage securities is minimal, mortgage 
securities may expose investors to significant interest rate risk. 
Since borrowers may prepay their mortgages, investors may not receive 
the expected cashflows and returns on these securities. Prepayments on 
these securities are affected by the spread between market rates and 
the actual interest rates of mortgages in the pool, the path of 
interest rates, and the unpaid balances and remaining terms to maturity 
on the mortgage collateral. The price behavior of a mortgage security 
also depends on whether the security was purchased at a premium or at a 
discount.
    To better control and manage these factors, we propose that Farmer 
Mac employ appropriate analytical techniques and methodologies to 
measure and evaluate interest rate risk inherent in mortgage 
securities. More specifically, prudent risk management practices 
require Farmer Mac to examine the performance of each mortgage security 
under a wide array of possible interest rate scenarios.
    We propose in Sec.  652.40 to allow Farmer Mac to accomplish this 
performance analysis by developing stress tests that measure the price 
sensitivity of mortgage instruments over different interest rate/yield 
curve scenarios.
    The methodology that Farmer Mac uses to analyze mortgage securities 
must be appropriate for the complexity of the instrument's structure 
and cashflows. Prior to purchase and each quarter thereafter, Farmer 
Mac must use stress tests to determine that the risk in the mortgage 
securities is within the risk limits of Farmer Mac's board investment 
policies. The stress tests must be able to determine at the time of 
purchase and each subsequent quarter that the mortgage security does 
not expose Farmer Mac's capital or earnings to excessive risks.

[[Page 32914]]

B. Other Considerations and Requirements of Stress Testing

    Farmer Mac may consider the effect of a derivative hedge 
transaction on the price sensitivity of instruments as part of its 
evaluation of whether a particular mortgage security is a suitable 
investment.
    Under proposed Sec.  652.40(b), we require that Farmer Mac's 
management:
    (1) Rely on verifiable information to support all its assumptions, 
including prepayment and interest rate volatility assumptions.
    (2) Document the basis for all assumptions that are used to 
evaluate the security and its underlying mortgages.
    (3) Document all subsequent changes in Farmer Mac's assumptions.
    (4) Report to the Corporation's board of directors in accordance 
with Sec.  652.10(g) if at any time after purchase the mortgage 
security no longer complies with the requirements of proposed Sec.  
652.40.
    We believe the proposals under Sec.  652.40 allow Farmer Mac the 
latitude to consider a number of relevant factors when evaluating a 
mortgage security's suitability while promoting overall safety and 
soundness by not exposing Farmer Mac's capital and earnings to 
excessive risk.

XIII. Divestiture of Ineligible Non-Program Investments

    In Sec.  652.45 we propose that an ineligible non-program 
investment or security must be divested within 6 months, unless FCA 
approves, in writing, a plan that authorizes the investment or its 
divesture over a longer period of time. An acceptable plan generally 
requires Farmer Mac to divest of the ineligible investment or security 
as quickly as possible without substantial financial loss. We propose 
that until the ineligible investment or security is actually divested 
of, Farmer Mac's investment manager must report at least quarterly to 
Farmer Mac's board of directors and to FCA's Office of Secondary Market 
Oversight about the status and performance of the ineligible 
instrument, the reason why it remains ineligible, and the investment 
manager's progress in divesting of the investment or security.

XIV. Better Organizing Rules That Apply to Farmer Mac

    We propose moving some existing regulation sections that pertain 
specifically to Farmer Mac to a centralized location in our regulations 
so they can be more easily located and used. The following table 
provides details of our proposal and shows where this proposed rule 
would be located:

                                    Proposed Organization of Farmer Mac Rules
----------------------------------------------------------------------------------------------------------------
  Proposed new    Proposed new part    Proposed new       Proposed new        Proposed new
      part              name              subpart         subpart name          sections             From
----------------------------------------------------------------------------------------------------------------
650............  Federal             ................  Receiver and               Sec.  Sec.  Existing Part 650,
                  Agricultural                          Conservator.            650.1-650.80   Subpart C, Sec.
                  Mortgage                                                                     Sec.   650.50 to
                  Corporation--Gene                                                            650.68
                  ral Provisions.
651............  Federal             ................  Conflicts of               Sec.  Sec.  Existing Part 650,
                  Agricultural                          Interest.                651.1-651.4   Subpart A, Sec.
                  Mortgage                                                                     Sec.   650.1 to
                  Corporation--Gove                                                            650.4
                  rnance.
652............  Federal             A...............  Investment                 Sec.  Sec.  Newly proposed in
                  Agricultural                          Management.             652.1-652.45   this rule.
                  Mortgage
                  Corporation--Fund
                  ing and Fiscal
                  Affairs.
652............  Federal             B...............  Risk-Based Capital         Sec.  Sec.  Existing Part 650,
                  Agricultural                                                652.50-652.105   Subpart B, Sec.
                  Mortgage                                                                     Sec.   650.20 to
                  Corporation--Fund                                                            650.31
                  ing and Fiscal
                  Affairs.
653............  Reserved..........  ................  ..................  .................  ..................
654............  Reserved..........  ................  ..................  .................  ..................
655............  Federal             A...............  Annual Report of         Sec.   655.1  Existing Part 620,
                  Agricultural                          Condition of the                       Subpart G, Sec.
                  Mortgage                              Federal                                620.40
                  Corporation--Disc                     Agricultural
                  losure and                            Mortgage
                  Reporting                             Corporation.
                  Requirements.
655............  Federal             B...............  Accounting and          Sec.   655.50  Existing Part 621,
                  Agricultural                          Reporting                              Subpart E, Sec.
                  Mortgage                              Requirements.                          621.20
                  Corporation--Disc
                  losure and
                  Reporting
                  Requirements.
----------------------------------------------------------------------------------------------------------------

XV. Regulatory Flexibility Act

    Farmer Mac has assets and annual income in excess of the amounts 
that would qualify it as a small entity. Therefore, Farmer Mac is not a 
``small entity'' as defined in the Regulatory Flexibility Act. Pursuant 
to section 605(b) of the Regulatory Flexibility Act (5 U.S.C. 601 et 
seq.), the FCA hereby certifies that the proposed rule will not have a 
significant economic impact on a substantial number of small entities.

List of Subjects

12 CFR Part 620

    Accounting, Agriculture, Banks, banking, Reporting and 
recordkeeping requirements, Rural areas.

12 CFR Part 621

    Accounting, Agriculture, Banks, banking, Penalties, Reporting and 
recordkeeping requirements, Rural areas.

12 CFR Part 650

    Agriculture, Banks, banking, Conflicts of interest, Rural areas.

12 CFR Part 651

    Agriculture, Banks, banking, Conflicts of interest, Rural areas.

12 CFR Part 652

    Agriculture, Banks, banking, Rural areas, investments, capital.

12 CFR Part 655

    Accounting, Agriculture, Banks, banking, Accounting and reporting 
requirements, Disclosure and reporting requirements, Rural areas.

    For the reasons stated in the preamble, we propose amending parts 
620, 621, and 650 of chapter VI, adding parts 651, 652, and 655 to 
chapter VI, and reserving parts 653 and 654 of chapter VI, title 12 of 
the Code of Federal Regulations to read as follows:

[[Page 32915]]

PART 655--FEDERAL AGRICULTURAL MORTGAGE CORPORATION DISCLOSURE AND 
REPORTING REQUIREMENTS

    1. Add the heading for a new part 655 to read as set forth above.
    2. Add the authority citation for new part 655 to read as follows:

    Authority: Sec. 8.11 of the Farm Credit Act (12 U.S.C. 2279aa-
11).

PART 620--DISCLOSURE TO SHAREHOLDERS

    3. The authority citation for part 620 continues to read as 
follows:

    Authority: Secs. 5.17, 5.19, 8.11 of the Farm Credit Act (12 
U.S.C. 2252, 2254, 2279aa-11); sec. 424 of Pub. L. 100-233, 101 
Stat. 1568, 1656.

Subpart G--Annual Report of Condition of the Federal Agricultural 
Mortgage Corporation


Sec.  620.40  [Redesignated as Sec.  655.1]

    4. Redesignate subpart G of part 620, consisting of Sec.  620.40 as 
subpart A of new part 655, consisting of Sec.  655.1.

PART 621--ACCOUNTING AND REPORTING REQUIREMENTS

    5. The authority citation for part 621 continues to read as 
follows:

    Authority: Secs. 5.17, 8.11 of the Farm Credit Act (12 U.S.C. 
2252, 2279aa-11).

Subpart E--Reports Relating to Securities Activities of the Federal 
Agricultural Mortgage Corporation


Sec.  621.20  [Redesignated as Sec.  655.50]

    6. Redesignate subpart E of part 620, consisting of Sec.  621.20 as 
subpart B of new part 655, consisting of Sec.  655.50.

PART 651--FEDERAL AGRICULTURAL MORTGAGE CORPORATION GOVERNANCE

    7. Add the heading for a new part 651 to read as set forth above.
    8. The authority citation for new part 651 is added to read as 
follows:

    Authority: Secs. 4.12, 5.9, 5.17, 8.11, 8.31, 8.32, 8.33, 8.34, 
8.35, 8.36, 8.37, 8.41 of the Farm Credit Act (12 U.S.C. 2183, 2243, 
2252, 2279aa-11, 2279bb, 2279bb-1, 2279bb-2, 2279bb-3, 2279bb-4, 
2279bb-5, 2279bb-6, 2279cc); sec. 514 of Pub. L. 102-552, 106 Stat. 
4102; sec. 118 of Pub. L. 104-105, 110 Stat. 168.

    9. Add a new part 652 to read as follows:

PART 652--FEDERAL AGRICULTURAL MORTGAGE CORPORATION FUNDING AND 
FISCAL AFFAIRS

Subpart A--Investment Management

Sec.
652.1 Purpose.
652.5 Definitions.
652.10 Investment management and requirements.
652.15 Interest rate risk management and requirements.
652.20 Liquidity reserve management and requirements.
652.25 Non-program investment purposes and limitations.
652.30 Temporary regulatory waivers or modifications for 
extraordinary situations.
652.35 Eligible non-program investments.
652.40 Stress tests for mortgage securities.
652.45 Divestiture of ineligible non-program investments.

Subpart B--Risk-Based Capital Requirements [Reserved]

    Authority: Secs. 4.12, 5.9, 5.17, 8.11, 8.31, 8.32, 8.33, 8.34, 
8.35, 8.36, 8.37, 8.41 of the Farm Credit Act (12 U.S.C. 2183, 2243, 
2252, 2279aa-11, 2279bb, 2279bb-1, 2279bb-2, 2279bb-3, 2279bb-4, 
2279bb-5, 2279bb-6, 2279cc); sec. 514 of Pub. L. 102-552, 106 Stat. 
4102; sec. 118 of Pub. L. 104-105, 110 Stat. 168.

Subpart A--Investment Management


Sec.  652.1  Purpose.

    This subpart contains the Farm Credit Administration's (FCA) rules 
for governing liquidity and non-program investments held by the Federal 
Agricultural Mortgage Corporation (Farmer Mac). The purpose of this 
subpart is to ensure safety and soundness, continuity of funding, and 
appropriate use of non-program investments considering Farmer Mac's 
special status as a Government-sponsored enterprise (GSE). The subpart 
contains requirements for Farmer Mac's board of directors to adopt 
policies covering such areas as investment management, interest rate 
risk, and liquidity reserves. The subpart also requires Farmer Mac to 
comply with various reporting requirements.


Sec.  652.5  Definitions.

    For purposes of this subpart, the following definitions will apply:
    Affiliate means any entity established under authority granted to 
the Corporation under section 8.3(b)(13) of the Farm Credit Act of 
1971, as amended.
    Asset-backed securities (ABS) means investment securities that 
provide for ownership of a fractional undivided interest or collateral 
interests in specific assets of a trust that are sold and traded in the 
capital markets. For the purposes of this subpart, ABS exclude mortgage 
securities that are defined below.
    Eurodollar time deposit means a non-negotiable deposit denominated 
in United States dollars and issued by an overseas branch of a United 
States bank or by a foreign bank outside the United States.
    Farmer Mac, Corporation, you, and your means the Federal 
Agricultural Mortgage Corporation and its affiliates.
    FCA, our, or we means the Farm Credit Administration.
    Final maturity means the last date on which the remaining principal 
amount of a security is due and payable (matures) to the registered 
owner. It does not mean the call date, the expected average life, the 
duration, or the weighted average maturity.
    General obligations of a state or political subdivision means:
    (1) The full faith and credit obligations of a state, the District 
of Columbia, the Commonwealth of Puerto Rico, a territory or possession 
of the United States, or a political subdivision thereof that possesses 
general powers of taxation, including property taxation; or
    (2) An obligation that is unconditionally guaranteed by an obligor 
possessing general powers of taxation, including property taxation.
    Government agency means an agency or instrumentality of the United 
States Government whose obligations are fully and explicitly guaranteed 
as to the timely repayment of principal and interest by the full faith 
and credit of the United States Government.
    Government-sponsored agency means an agency or instrumentality 
chartered or established to serve public purposes specified by the 
United States Congress but whose obligations are not explicitly 
guaranteed by the full faith and credit of the United States 
Government.
    Liquid investments are assets that can be promptly converted into 
cash without significant loss to the investor. A security is liquid if 
the spread between its bid price and ask price is narrow and a 
reasonable amount can be sold at those prices promptly.
    Long-Term Standby Purchase Commitment (LTSPC) is a commitment by 
Farmer Mac to purchase specified eligible loans on one or more 
undetermined future dates. In consideration for Farmer Mac's assumption 
of the credit risk on the specified loans underlying an LTSPC, Farmer 
Mac receives an annual commitment fee on the outstanding balance of 
those loans in monthly installments based on the outstanding balance of 
those loans.

[[Page 32916]]

    Market risk means the risk to your financial condition because the 
value of your holdings may decline if interest rates or market prices 
change. Exposure to market risk is measured by assessing the effect of 
changing rates and prices on either the earnings or economic value of 
an individual instrument, a portfolio, or the entire Corporation.
    Maturing obligations means maturing debt and other obligations that 
may be expected, such as buyouts of long-term standby purchase 
commitments or repurchases of agricultural mortgage securities.
    Mortgage securities means securities that are either:
    (1) Pass-through securities or participation certificates that 
represent ownership of a fractional undivided interest in a specified 
pool of residential (excluding home equity loans), multifamily or 
commercial mortgages, or
    (2) A multiclass security (including collateralized mortgage 
obligations and real estate mortgage investment conduits) that is 
backed by a pool of residential, multifamily or commercial real estate 
mortgages, pass-through mortgage securities, or other multiclass 
mortgage securities.
    (3) This definition does not include agricultural mortgage-backed 
securities guaranteed by Farmer Mac itself.
    Nationally recognized statistical rating organization (NRSRO) means 
a rating organization that the Securities and Exchange Commission 
recognizes as an NRSRO.
    Non-program investments means investments other than those in:
    (1) ``Qualified loans'' as defined in section 8.0(9) of the Farm 
Credit Act of 1971, as amended; or
    (2) Securities collateralized by ``qualified loans.''
    Revenue bond means an obligation of a municipal government that 
finances a specific project or enterprise, but it is not a full faith 
and credit obligation. The obligor pays a portion of the revenue 
generated by the project or enterprise to the bondholders.
    Total capital means total capital in accordance with generally 
accepted accounting principles.
    Weighted average life (WAL) means the average time until the 
investor receives the principal on a security, weighted by the size of 
each principal payment and calculated under specified prepayment 
assumptions.


Sec.  652.10  Investment management and requirements.

    (a) Investment policies--board responsibilities. Your board of 
directors must adopt written policies for managing your non-program 
investment activities. Your board must also ensure that management 
complies with these policies and that appropriate internal controls are 
in place to prevent loss. At least annually, your board, or a 
designated subcommittee of the board, must review these investment 
policies. Any changes to the policies must be adopted by the board. You 
must report any changes to these policies to FCA within 10 days of 
adoption.
    (b) Investment policies--general requirements. Your investment 
policies must address the purposes and objectives of investments, risk 
tolerance, delegations of authority, exception parameters, securities 
valuation, internal controls, and reporting requirements.
    Furthermore, the policies must address the means for reporting, and 
approvals needed for, exceptions to established policies. Investment 
policies must be sufficiently detailed, consistent with, and 
appropriate for the amounts, types, and risk characteristics of your 
investments.
    (c) Investment policies--risk tolerance. Your investment policies 
must establish risk limits and diversification requirements for the 
various classes of eligible investments and for the entire investment 
portfolio. These policies must ensure that you maintain prudent 
diversification of your investment portfolio. Risk limits must be based 
on the Corporation's objectives, capital position, and risk tolerance 
capabilities. Your policies must identify the types and quantity of 
investments that you will hold to achieve your objectives and control 
credit, market, liquidity, and operational risks. Your policies must 
establish risk limits for the following four types of risk:
    (1) Credit risk. Your investment policies must establish:
    (i) Credit quality standards, limits on counterparty risk, and risk 
diversification standards that limit concentrations based on a single 
or related counterparty(ies), a geographical area, industries or 
obligations with similar characteristics.
    (ii) Criteria for selecting brokers, dealers, and investment 
bankers (collectively, securities firms). You must buy and sell 
eligible investments with more than one securities firm. As part of 
your annual review of your investment policies, your board of 
directors, or a designated subcommittee of the board, must review the 
criteria for selecting securities firms. Any changes to the criteria 
must be approved by the board. Also, as part of your annual review, the 
board, or a designated subcommittee of the board, must review existing 
relationships with securities firms. Any changes to securities firms 
must be approved by the board.
    (iii) Collateral margin requirements on repurchase agreements. You 
must regularly mark the collateral to market and ensure appropriate 
controls are maintained over collateral held.
    (2) Market risk. Your investment policies must set market risk 
limits for specific types of investments, and for the investment 
portfolio or for Farmer Mac generally. Your board of directors must 
establish market risk limits in accordance with these regulations 
(including, but not limited to, Sec. Sec.  652.15 and 652.40) and our 
other policies and guidance. You must evaluate how individual 
instruments and the investment portfolio as a whole affect the 
Corporation's overall interest rate risk profile. You must document in 
the Corporation's records or minutes any analyses used in formulating 
your policies or amendments to the policies.
    (3) Liquidity risk. Your investment policies must describe the 
liquidity characteristics of eligible investments that you will hold to 
meet your liquidity needs and the Corporation's objectives.
    (4) Operational risk. Investment policies must address operational 
risks, including delegations of authority and internal controls in 
accordance with paragraphs (d) and (e) of this section.
    (d) Delegation of authority. All delegations of authority to 
specified personnel or committees must state the extent of management's 
authority and responsibilities for investments.
    (e) Internal controls. You must:
    (1) Establish appropriate internal controls to detect and prevent 
loss, fraud, embezzlement, conflicts of interest, and unauthorized 
investments.
    (2) Establish and maintain a separation of duties and supervision 
between personnel who execute investment transactions and personnel who 
approve, revaluate, and oversee investments.
    (3) Maintain records and management information systems that are 
appropriate for the level and complexity of your investment activities.
    (f) Securities valuations.
    (1) Before you purchase a security, you must evaluate its credit 
quality and price sensitivity to changes in market interest rates. You 
must also document the size and liquidity of the secondary market for 
the security at the time of purchase. In addition, you must also verify 
the value of a security that you plan to purchase, other than a new 
issue, with a source that is independent of the broker, dealer, 
counterparty, or other intermediary to the transaction.

[[Page 32917]]

Your investment policies must fully address the extent of the 
prepurchase analysis that management needs to perform for various 
classes of instruments. For example, you should specifically describe 
the stress tests in Sec.  652.40 that must be performed on various 
types of mortgage securities.
    (2) At least monthly, you must determine the fair market value of 
each security in your portfolio and the fair market value of your whole 
investment portfolio. In doing so you must also evaluate the credit 
quality and price sensitivity to the change in market interest rates of 
each security in your portfolio and your whole investment portfolio.
    (3) Before you sell a security, you must verify its value with a 
source that is independent of the broker, dealer, counterparty, or 
other intermediary to the transaction.
    (g) Reports to the board of directors. At least quarterly, Farmer 
Mac's management must report to the Corporation's board of directors, 
or a designated subcommittee of the board:
    (1) On the performance and risk of each class of investments and 
the entire investment portfolio;
    (2) All gains and losses that you incur during the quarter on 
individual securities that you sold before maturity and why they were 
liquidated;
    (3) Potential risk exposure to changes in market interest rates and 
any other factors that may affect the value of your investment 
holdings;
    (4) How investments affect your overall financial condition;
    (5) Whether the performance of the investment portfolio effectively 
achieves the board's objectives; and
    (6) Any deviations from the board's policies. These deviations must 
be formally approved by the board of directors.


Sec.  652.15  Interest rate risk management and requirements.

    (a) The board of directors of Farmer Mac must provide effective 
oversight (direction, controls, and supervision) to the interest rate 
risk management program and must be knowledgeable of the nature and 
level of interest rate risk taken by Farmer Mac.
    (b) The management of Farmer Mac must ensure that interest rate 
risk is properly managed on both a long-range and a day-to-day basis.
    (c) The board of directors of Farmer Mac must adopt an interest 
rate risk management policy that establishes appropriate interest rate 
risk exposure limits based on the Corporation's risk-bearing capacity 
and reporting requirements in accordance with paragraphs (b) and (c) of 
this section. At least annually, the board of directors, or a 
designated subcommittee of the board, must review the policy. Any 
changes to the policy must be approved by the board of directors. You 
must report any changes to the policy to FCA within 10 days of 
adoption.
    (d) The interest rate risk management policy must, at a minimum:
    (1) Address the purpose and objectives of interest rate risk 
management;
    (2) Identify and analyze the causes of interest rate risks within 
Farmer Mac's existing balance sheet structure;
    (3) Require Farmer Mac to measure the potential impact of these 
risks on projected earnings and market values by conducting interest 
rate shock tests and simulations of multiple economic scenarios at 
least quarterly;
    (4) Describe and implement actions needed to obtain Farmer Mac's 
desired risk management objectives;
    (5) Document the objectives that Farmer Mac is attempting to 
achieve by purchasing eligible investments that are authorized by Sec.  
652.35 of this subpart;
    (6) Require Farmer Mac to evaluate and document, at least 
quarterly, whether these investments have actually met the objectives 
stated under paragraph (d)(4) of this section;
    (7) Identify exception parameters and post approvals needed for any 
exceptions to the policy's requirements;
    (8) Describe delegations of authority; and
    (9) Describe reporting requirements, including exceptions to policy 
limits.
    (e) At least quarterly, Farmer Mac's management must report to the 
Corporation's board of directors, or a designated subcommittee of the 
board, describing the nature and level of interest rate risk exposure. 
Any deviations from the board's policy on interest rate risk must be 
specifically identified in the report and approved by the board, or a 
designated subcommittee of the board.


Sec.  652.20  Liquidity reserve management and requirements.

    (a) Minimum daily liquidity reserve requirement. Within 24 months 
of this rule becoming effective, and thereafter, Farmer Mac must hold 
cash, eligible non-program investments under Sec.  652.35 of this 
subpart, and/or securities backed by portions of Farmer Mac program 
assets (loans) that are guaranteed by the United States Department of 
Agriculture as described in section 8.0(9)(B) of the Act (in accordance 
with the requirements of paragraphs (b) and (c) of this section), to 
maintain sufficient daily liquidity to fund a minimum of 60 days of 
maturing obligations, interest due, and operating expenses. You must 
maintain sufficient documentation to demonstrate that you meet this 
minimum liquidity reserve requirement on a daily basis.
    (b) Free of lien. All investments held for the purpose of meeting 
the liquidity reserve requirement of this section must be free of liens 
or other encumbrances.
    (c) Discounts. The amount that may be counted to meet the minimum 
daily liquidity reserve requirement is as follows:
    (1) For cash and overnight investments, multiply the cash and 
investments by 100 percent;
    (2) For money market instruments and floating rate debt securities, 
multiply the instruments and securities by 95 percent of market value;
    (3) For diversified investment funds, multiply the individual 
securities in the funds by the discounts that would apply to the 
securities if held separately;
    (4) For fixed rate debt securities, multiply the securities by 90 
percent of market value;
    (5) For securities backed by portions of Farmer Mac program assets 
(loans) guaranteed by the United States Department of Agriculture as 
described in section 8.0(9)(B) of the Act, multiply the securities by 
50 percent; and
    (6) We reserve the authority to modify or determine the appropriate 
discount for any investments used to meet the minimum daily liquidity 
reserve requirement.
    (d) Liquidity reserve policy--board responsibilities. Farmer Mac's 
board of directors must adopt a liquidity reserve policy. The board 
must also ensure that management uses adequate internal controls to 
ensure compliance with the liquidity reserve policy standards, 
limitations, and reporting requirements established pursuant to this 
paragraph and to paragraphs (e), (f), and (g) of this section. At least 
annually, the board of directors or a designated subcommittee of the 
board must review and validate the liquidity policy's adequacy. The 
board of directors must approve any changes to the policy. You must 
provide a copy of the revised policy to FCA within 10 days of adoption.
    (e) Liquidity reserve policy--content. Your liquidity reserve 
policy must contain at a minimum the following:
    (1) The purpose and objectives of liquidity reserves;
    (2) A listing of specific assets, debt, and arrangements that can 
be used to meet liquidity objectives;
    (3) Diversification requirements of your liquidity reserve 
portfolio;
    (4) Maturity limits and credit quality standards for non-program 
investments

[[Page 32918]]

used to meet the minimum daily liquidity reserve requirement of 
paragraph (a) of this section;
    (5) The minimum and target (or optimum) amounts of liquidity that 
the board believes are appropriate for Farmer Mac;
    (6) The maximum amount of non-program investments that can be held 
for meeting Farmer Mac's liquidity needs, as expressed as a percentage 
of program assets and off-balance sheet obligations;
    (7) Exception parameters and post approvals needed;
    (8) Delegations of authority; and
    (9) Reporting requirements.
    (f) Liquidity reserve reporting--periodic reporting requirements. 
At least quarterly, Farmer Mac's management must report to the 
Corporation's board of directors or a designated subcommittee of the 
board describing, at a minimum, liquidity reserve compliance with the 
Corporation's policy and this section. Any deviations from the board's 
liquidity reserve policy (other than requirements specified in Sec.  
652.20(e)(5)) must be specifically identified in the report and 
approved by the board of directors.
    (g) Liquidity reserve reporting--special reporting requirements. 
Farmer Mac's management must immediately report to its board of 
directors any noncompliance with board policy requirements that are 
specified in Sec.  652.20(e)(5). The Farmer Mac board must report to 
FCA within 3 days of receiving a report of any noncompliance with board 
policy requirements that are specified in Sec.  652.20(e)(5). Farmer 
Mac must immediately report to the FCA when the minimum daily liquidity 
reserve requirement at Sec.  652.20(a) is breached.


Sec.  652.25  Non-program investment purposes and limitations.

    (a) Farmer Mac is authorized to hold eligible non-program 
investments listed under Sec.  652.35 for the purposes of complying 
with the interest rate risk requirements of Sec.  652.15, complying 
with the liquidity reserve requirements of Sec.  652.20, and managing 
surplus short-term funds.
    (b) Non-program investments cannot exceed the greater of $1.5 
billion or the aggregate of the following:
    (1) Thirty (30) percent of total assets; and
    (2) A reasonable estimate of off-balance sheet loans covered by 
guarantees or commitments that Farmer Mac likely will be required to 
purchase during the upcoming 12-month period, not to exceed 15 percent 
of total off-balance sheet obligations.


Sec.  652.30  Temporary regulatory waivers or modifications for 
extraordinary situations.

    Whenever the FCA determines that an extraordinary situation exists 
that necessitates a temporary regulatory waiver or modification, the 
FCA may, in its sole discretion:
    (a) Modify or waive the minimum daily liquidity reserve requirement 
in Sec.  652.20 of this subpart; and/or
    (b) Increase the amount of eligible investments that you are 
authorized to hold pursuant to Sec.  652.25 of this subpart.


Sec.  652.35  Eligible non-program investments.

    (a) You may hold only the types, quantities, and qualities of non-
program investments listed in the following Non-Program Investment 
Eligibility Criteria Table. These investments must be denominated in 
United States dollars.
BILLING CODE 6705-01-P

[[Page 32919]]

[GRAPHIC] [TIFF OMITTED] TP14JN04.000


[[Page 32920]]


[GRAPHIC] [TIFF OMITTED] TP14JN04.001

BILLING CODE 6705-01-C

[[Page 32921]]

    (b) Rating of foreign countries. Whenever the obligor or issuer of 
an eligible investment is located outside the United States, the host 
country must maintain the highest sovereign rating for political and 
economic stability by an NRSRO.
    (c) Marketable investments. All eligible investments, except money 
market instruments, must be readily marketable. An eligible investment 
is marketable if you can sell it promptly at a price that closely 
reflects its fair value in an active and universally recognized 
secondary market. You must evaluate and document the size and liquidity 
of the secondary market for the investment at time of purchase.
    (d) Obligor limits. (1) You may not invest more than 20 percent of 
your total capital in eligible investments issued by any single entity, 
issuer or obligor. This obligor limit does not apply to Government-
sponsored agencies or Government agencies. You may not invest more than 
100 percent of your total capital in any one Government-sponsored 
agency. There are no obligor limits for Government agencies.
    (2) Obligor limits for your holdings in an investment company. You 
must count securities that you hold through an investment company 
towards the obligor limits of this section unless the investment 
company's holdings of the security of any one issuer do not exceed 5 
percent of the investment company's total portfolio.
    (e) Preferred stock and other investments approved by the FCA. (1) 
You may purchase non-program investments in preferred stock issued by 
other Farm Credit System institutions only with our written prior 
approval. You may also purchase non-program investments other than 
those listed in the Non-Program Investment Eligibility Criteria Table 
at paragraph (a) of this section only with our written prior approval.
    (2) Your request for our approval must explain the risk 
characteristics of the investment and your purpose and objectives for 
making the investment.
    (3) We reserve the authority to determine an appropriate discount 
for any investment that does not fit wholly within one of the 
investment categories that we describe or provide for as the investment 
is considered in meeting the minimum daily liquidity reserve 
requirement of Sec.  652.20(a).


Sec.  652.40  Stress tests for mortgage securities.

    (a) You must perform stress tests to determine how interest rate 
changes will affect the cashflow and price of each mortgage security 
that you purchase and hold, except for adjustable rate mortgage 
securities that reprice at intervals of 12 months or less and are tied 
to an index. You must also use stress tests to gauge how interest rate 
fluctuations on mortgage securities affect your capital and earnings. 
The stress tests must be able to measure the price sensitivity of 
mortgage instruments over different interest rate/yield curve scenarios 
and be consistent with any asset liability management and interest rate 
risk policies. The methodology that you use to analyze mortgage 
securities must be appropriate for the complexity of the instrument's 
structure and cashflows. Prior to purchase and each quarter thereafter, 
you must use the stress tests to determine that the risk in the 
mortgage securities is within the risk limits of your board's 
investment policies. The stress tests must enable you to determine at 
the time of purchase and each subsequent quarter that the mortgage 
security does not expose your capital or earnings to excessive risks.
    (b) You must rely on verifiable information to support all your 
assumptions, including prepayment and interest rate volatility 
assumptions. You must document the basis for all assumptions that you 
use to evaluate the security and its underlying mortgages. You must 
also document all subsequent changes in your assumptions. If at any 
time after purchase, a mortgage security no longer complies with 
requirements in this section, Farmer Mac's management must report to 
the Corporation's board of directors in accordance with Sec.  
652.10(g).


Sec.  652.45  Divestiture of ineligible non-program investments.

    (a) Divestiture requirements. You must divest of an ineligible non-
program investment or security within 6 months unless we approve, in 
writing, a plan that authorizes you to divest the instrument over a 
longer period of time. An acceptable plan generally would require you 
to divest of the ineligible investment or security as quickly as 
possible without substantial financial loss.
    (b) Reporting requirements. Until you divest of the ineligible non-
program investment or security, the manager of your investment 
portfolio must report at least quarterly to your board of directors and 
to FCA's Office of Secondary Market Oversight about the status and 
performance of the ineligible instrument, the reasons why it remains 
ineligible, and the manager's progress in divesting of the investment.

Subpart B--Risk-Based Capital Requirements [Reserved]

PART 650--FEDERAL AGRICULTURAL MORTGAGE CORPORATION GENERAL 
PROVISIONS

    10. The authority citation for part 650 continues to read as 
follows:

    Authority: Secs. 4.12, 5.9, 5.17, 8.11, 8.31, 8.32, 8.33, 8.34, 
8.35, 8.36, 8.37, 8.41 of the Farm Credit Act (12 U.S.C. 2183, 2243, 
2252, 2279aa-11, 2279bb, 2279bb-1, 2279bb-2, 2279bb-3, 2279bb-4, 
2279bb-5, 2279bb-6, 2279cc); sec. 514 of Pub. L. 102-552, 106 Stat. 
4102; sec. 118 of Pub. L. 104-105, 110 Stat. 168.
    11. Amend part 650 by revising the part heading to read as set 
forth above.


Sec. Sec.  650.1 through 650.68  [Redesignated]

    12. Redesignate Sec. Sec.  650.1 through 650.68 as follows:

 
------------------------------------------------------------------------
               Old section                          New section
------------------------------------------------------------------------
650.1, subpart...........................  A 651.1.
650.2, subpart A.........................  651.2.
650.3, subpart A.........................  651.3.
650.4, subpart A.........................  651.4.
650.20, subpart B........................  652.50, subpart B.
650.21, subpart B........................  652.55, subpart B.
650.22, subpart B........................  652.60, subpart B.
650.23, subpart B........................  652.65, subpart B.
650.24, subpart B........................  652.70, subpart B.
650.25, subpart B........................  652.75, subpart B.
650.26, subpart B........................  652.80, subpart B.
650.27, subpart B........................  652.85, subpart B.

[[Page 32922]]

 
650.28, subpart B........................  652.90, subpart B.
650.29, subpart B........................  652.95, subpart B.
650.30, subpart B........................  652.100, subpart B.
650.31, subpart B........................  652.105, subpart B.
Appendix A to Subpart B of Part 650......  Appendix A to Subpart B of
                                            Part 652.
650.50, subpart C........................  650.1.
650.51, subpart C........................  650.5.
650.52, subpart C........................  650.10.
650.55, subpart C........................  650.15.
650.55, subpart C........................  650.15.
650.56, subpart C........................  650.20.
650.57, subpart C........................  650.25.
650.58, subpart C........................  650.30.
650.59, subpart C........................  650.35.
650.60, subpart C........................  650.40.
650.61, subpart C........................  650.45.
650.62, subpart C........................  650.50.
650.63, subpart C........................  650.55.
650.64, subpart C........................  650.60.
650.65, subpart C........................  650.65.
650.66, subpart C........................  650.70.
650.67, subpart C........................  650.75.
650.68, subpart C........................  650.80.
------------------------------------------------------------------------

Subpart A--General Provisions


Sec.  650.75  [Amended]

    13. Amend newly designated Sec.  650.75 by removing the reference 
``Sec.  620.40'' and adding in its place, the reference ``Sec.  655.1'' 
in paragraph (c).

PART 653--[ADDED AND RESERVED]

PART 654--[ADDED AND RESERVED]

    14. Add and reserve parts 653 and 654.

    Dated: May 27, 2004.
Jeanette C. Brinkley,
Secretary, Farm Credit Administration Board.
[FR Doc. 04-12998 Filed 6-10-04; 8:45 am]
BILLING CODE 6705-01-P