[Federal Register Volume 76, Number 98 (Friday, May 20, 2011)]
[Rules and Regulations]
[Pages 29147-29153]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-12358]



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  Federal Register / Vol. 76, No. 98 / Friday, May 20, 2011 / Rules and 
Regulations  

[[Page 29147]]



FEDERAL HOUSING FINANCE BOARD

12 CFR Part 956

FEDERAL HOUSING FINANCE AGENCY

12 CFR Part 1267

RIN 2590-AA32


Federal Home Loan Bank Investments

AGENCY: Federal Housing Finance Agency; Federal Housing Finance Board.

ACTION: Final rule.

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SUMMARY: The Federal Housing Finance Agency (FHFA) is re-organizing and 
re-adopting existing investment regulations that apply to the Federal 
Home Loan Banks (Banks) and that were previously adopted by the Federal 
Housing Finance Board (Finance Board). The regulation is being adopted 
as a new part in FHFA's regulations. As part of this rulemaking, FHFA 
will incorporate limits on the Banks' investment in mortgage-backed 
securities (MBS) and certain asset-backed securities (ABS) that were 
previously set forth in the Finance Board's Financial Management Policy 
(FMP). The FMP will terminate as of the effective date of this rule.

DATES: This rule is effective on June 20, 2011.

FOR FURTHER INFORMATION CONTACT: Christina Muradian, Division of 
Federal Home Loan Bank Regulation, Federal Housing Finance Agency, 202-
408-2584, 1625 Eye Street, NW., Washington, DC 20006; or Thomas E. 
Joseph, Senior Attorney-Advisor, 202-414-3095, Office of General 
Counsel, Federal Housing Finance Agency, Fourth Floor, 1700 G Street, 
NW., Washington, DC 20552. The telephone number for the 
Telecommunications Device for the Deaf is (800) 877-8339.

SUPPLEMENTARY INFORMATION:

I. Background

A. Creation of the Federal Housing Finance Agency and Recent 
Legislation

    Effective July 30, 2008, the Housing and Economic Recovery Act of 
2008 (HERA), Public Law 110-289, 122 Stat. 2654, created FHFA as a new 
independent agency of the Federal Government, and transferred to FHFA 
the supervisory and oversight responsibilities of the Office of Federal 
Housing Enterprise Oversight (OFHEO) over the Enterprises, the 
supervisory and oversight responsibilities of the Federal Housing 
Finance Board (Finance Board) over the Banks and the Office of Finance 
(OF) (which acts as the Banks' fiscal agent) and certain functions of 
the Department of Housing and Urban Development. See id. at section 
1101, 122 Stat. 2661-62. FHFA is responsible for ensuring that the 
Enterprises and the Banks operate in a safe and sound manner, including 
that they maintain adequate capital and internal controls, that their 
activities foster liquid, efficient, competitive and resilient national 
housing finance markets, and that they carry out their public policy 
missions through authorized activities. See id. at section 1102, 122 
Stat. 2663-64. The Enterprises, the Banks, and the OF continue to 
operate under regulations promulgated by OFHEO and the Finance Board 
until such regulations are superseded by regulations issued by FHFA. 
See id. at sections 1302, 1312, 122 Stat. 2795, 2798.

B. Investment Requirements and the FMP

    Under sections 11(g), 11(h) and 16(a) of the Bank Act, 12 U.S.C. 
1431(g), 1431(h), 1436(a), a Bank is specifically authorized, subject 
to the rules of FHFA, to invest in: (1) Obligations of the United 
States; (2) deposits in banks and trust companies; (3) obligations, 
participations or other instruments of, or issued by, Fannie Mae or 
Government National Mortgage Association (Ginnie Mae); (4) mortgages, 
obligations or other securities that are or ever have been sold by 
Freddie Mac; (5) stock of Fannie Mae; (6) stock, obligations or other 
securities of any small business investment company (SBIC) formed 
pursuant to 15 U.S.C. 681, to the extent the investment is made for 
purposes of aiding a Bank member; and (7) instruments that a Bank has 
determined are permissible investments for fiduciary and trust funds 
under the laws of the state in which the Bank is located. Part 956 of 
the Finance Board regulations authorized the Banks to invest in all the 
instruments specifically identified in the statute, except for stock in 
Fannie Mae, subject to certain safety and soundness limitations that 
are also set forth in the regulation. See 12 CFR 956.2 and 956.3. The 
part 956 regulations also allowed the Banks to enter into derivative 
transactions, standby letters of credit which conform to other 
regulations, forward asset purchases and sales and commitments to make 
advances or commitments to make or purchase other loans. See 12 CFR 
956.5. The regulations further allowed the Banks to enter into 
derivative contracts only for hedging or other documented, non-
speculative purposes, such as intermediating derivative transactions 
for members, and subjected the Banks to prudential and safety and 
soundness requirements with regard to derivative transactions. See 12 
CFR 956.6.
    The FMP evolved from a series of policies and guidelines initially 
adopted by the former Federal Home Loan Bank Board, predecessor agency 
to the Finance Board, in the 1970s and revised a number of times 
thereafter. The Finance Board adopted the FMP in 1991, consolidating 
into one document the previously separate policies on funds management, 
hedging and interest-rate swaps, and adding new guidelines on the 
management of unsecured credit and interest-rate risk.\1\ Prior to the 
adoption of the part 956 regulations in 2000, the FMP governed how the 
Banks implemented their financial management strategies by specifying 
the types of investments the Banks could purchase. See Proposed Rule: 
Federal Home Loan Bank Acquired Member Assets, Core Mission Activities, 
Investments and Advances, 65 FR 25676, 25686 (May 3, 2000). The FMP 
also established guidelines relating to the funding and hedging 
practices of the Banks, the management of their credit, interest-rate, 
and liquidity risks, and the liquidity requirements for the

[[Page 29148]]

Banks in addition to those required by statute.
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    \1\ See Fin. Bd. Res. No. 96-45 (July 3, 1996), as amended by 
Fin. Bd. Res. No. 96-90 (Dec. 6, 1996), Fin. Bd. Res. No. 97-05 
(Jan. 14, 1997), and Fin. Bd. Res. No. 97-86 (Dec. 17, 1997). See 
also 62 FR 13146 (Mar. 19, 1997)).
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    Beginning in 2000, many of the provisions contained in the FMP were 
superseded by regulations adopted by the Finance Board including 
regulations that implemented the new capital structure for the Banks 
that had been mandated by the Gramm-Leach-Bliley Act of 1999, Public 
Law No. 106-102, 113 Stat. 1338 (Nov. 12, 1999) (GLB Act). Among other 
things, the new capital structure incorporated risk-based capital 
requirements to support the risks in the Banks' activities, and 
therefore eliminated the need for most of the FMP restrictions on 
investments. See 12 CFR part 932. In approving the capital plans that 
each Bank was required to adopt under provisions of the GLB Act, the 
Finance Board issued separate orders providing that upon a Bank's 
implementation of its capital plan and its full coverage by the capital 
regime in part 932 of the regulations, the Bank would be exempted from 
future compliance with all provisions of the FMP except for a few 
specific restrictions related to the Bank's investment in mortgage-
backed and certain asset-backed securities along with some related 
restrictions on entering into some derivative transactions.\2\ See, 
e.g., Fin. Bd. Res. No. 2002-11 (Mar. 13, 2002). Currently, all the 
Banks but the Federal Home Loan Bank of Chicago (Chicago Bank) have 
implemented their capital plans and are fully subject to the part 932 
capital provisions.\3\ Thus, only a few of the provisions of the FMP 
remain applicable to all the Banks.
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    \2\ The restrictions in question are found in sections II.C.2., 
3., 4. and 5. and section V.C.5. of the FMP. These limits, among 
other things, prohibit investment in residual interest and interest 
accrual classes of securities and in interest-only and principal-
only stripped securities, and limit a Bank's investment in MBS and 
ABS to 300 percent of a Bank's total capital. The provisions also 
limit an increase in a Bank's holdings of MBS and ABS to no more 
than 50 percent of its total capital in any calendar quarter. The 
restrictions also prohibit the Bank from entering into swap 
transactions that would amortize similar to residual interest or 
interest accrual classes of securities or to interest-only and 
principal-only stripped securities.
    In March 2008, the Finance Board temporarily expanded the Banks' 
authority to invest in MBS guaranteed by the Enterprises by an 
additional three times total capital, subject to certain conditions. 
See Fin. Bd. Res. No. 2008-08 (Mar. 24, 2008). The temporary 
authority expired on March 31, 2010. The Finance Board believed that 
the temporary increase in the Banks' investment authority would help 
address severe liquidity and other constraints that were affecting 
the housing finance markets in early 2008.
    \3\ In addition to the FMP provisions already discussed and 
applicable to all the Banks, the Chicago Bank remains subject to FMP 
provisions related to prudential limits on investments (other than 
MBS or ABS) and interest rate risk guidelines. The latter have been 
subsumed into the risk management and hedging guidelines that the 
Chicago Bank was required to submit for review and approval (and 
update as necessary) under Article III of the Consent Order to Cease 
and Desist entered into with the Finance Board on October 10, 2007, 
and which remains in effect. See 2007-SUP-01.
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C. Considerations of Differences Between the Banks and the Enterprises

    Section 1201 of HERA requires the Director, when promulgating 
regulations relating to the Banks, to consider the following 
differences between the Banks and the Enterprises: Cooperative 
ownership structure; mission of providing liquidity to members; 
affordable housing and community development mission; capital 
structure; and joint and several liability. See section 1201 Public Law 
110-289, 122 Stat. 2782-83 (amending 12 U.S.C. 4513). The Director also 
may consider any other differences that are deemed appropriate. In 
preparing this rule, FHFA considered the differences between the Banks 
and the Enterprises as they relate to the above factors.
    Section 1201 also specifically provides that its requirements shall 
not apply if the Director is reissuing any regulation, advisory 
document or examination guidance previously issued by the Finance 
Board. While most of this final rule is re-issuance of existing Finance 
Board regulations, the rule also incorporates into regulations 
provisions from the FMP. The FMP itself is not a substantive rule or 
interpretative guidance on existing regulations issued by the Finance 
Board, but instead has been described as a list of general guidelines. 
See, Texas Savings. v. Federal Housing Finance Bd., 201 F.3d 551, 556 
(5th Cir., 2000). Therefore, incorporation of the FMP guidelines into 
regulations does not firmly fit within the section 1201 exception for 
reissuance of existing Finance Board rules or advisory documents.
    FHFA therefore has considered the differences between the Banks and 
the Enterprises as required by section 1201 of HERA in developing this 
final rule. As part of its proposed rulemaking, FHFA also specifically 
requested comments from the public about whether differences related to 
these factors should result in any revisions to the proposal, but 
received no specific comments in response to that request.

II. The Final Rule

A. The Proposed Rule

    On May 4, 2010, FHFA published for comment a proposed rule that 
would re-organize the investment regulation and re-adopt it as part 
1267 of FHFA's regulations. It also would have incorporated into the 
rule certain limits that are now set forth in the FMP and made other 
conforming changes. See Proposed Rule: Federal Home Loan Bank 
Investments, 75 FR 23631 (May 4, 2010) (hereinafter Proposed Rule). The 
rule, as proposed, would not have substantively altered regulatory 
requirements applicable to Bank investments.
    In the Supplementary Information to the proposed rule, however, 
FHFA noted its concern with the financial condition of some Banks and 
the negative performance of the Banks' private-label MBS (PLMBS), in 
part because the Banks' investment policies and pre-purchase analytics 
were deficient. As a result, FHFA requested comments on whether it 
should adopt additional restrictions, or lower the overall limit, on 
the Banks' investment in MBS generally, and in PLMBS in particular, as 
part of the final rule. Id. at 23633-34. Among other things FHFA asked 
if there should be a separate limit or additional restriction on the 
purchase of PLMBS (e.g., a limit of one or two times capital, or a 
separate limit linked to retained earnings or some other basis), 
including whether FHFA should prohibit the purchase of PLMBS in the 
final rule, or if FHFA should restrict purchases of PLMBS based on 
collateral characteristics. Id.
    FHFA received 10 comment letters on the proposed rule. Nine of the 
Banks submitted comments, and one comment letter was submitted by a 
trade association. Except for a suggested clarification made by some of 
the Banks on the calculation of the proposed 300 percent of capital 
investment limit for MBS, the comments mainly addressed FHFA's 
questions concerning additional restrictions on MBS investment. The 
letters also provided some general comments on the Banks' authority to 
invest in MBS. The comments are discussed more fully below.

B. Final Rule Provisions

1. Incorporation of the FMP Provisions Into the Investment Regulation
    Most comments indicated that it was important for the Banks to 
maintain their current authority to invest in MBS. These commenters 
believed that the Banks' investment in MBS was consistent with the 
Banks' mission and provided support for mortgage market liquidity and 
stability especially in the period of current market stress. A number 
of commenters also thought that continued Bank investment in PLMBS 
could play a limited but important role in helping to revive the 
private label

[[Page 29149]]

secondary mortgage market. One Bank agreed with FHFA's stated concern 
with the performance of some Banks' MBS investment portfolios and 
believed it was important to continue to limit Bank investment in MBS 
and require adequate retained earnings as a cushion against potential 
losses from such investments. Another Bank specifically supported a 
prohibition on future investment in PLMBS investment, although most 
other comment letters specifically objected to such a ban.
    Almost all comments also supported the incorporation of the FMP 
limits, including the 300 percent of capital limit, into the investment 
rule. A number of commenters also felt that it would be premature to 
institute additional restrictions on Banks' MBS investment at this 
time, given the extensive regulatory and market changes now taking 
place. One commenter, however, believed the 300 percent of capital 
limit on MBS investment was inflexible and out of date and believed it 
should be reconsidered or eliminated, especially when applied to 
investment in agency MBS.
    FHFA also received a number of comments supporting a limit on MBS 
investment based on retained earnings to either supplement or replace 
the current limit based on a Bank's total capital. Some comments 
suggested that FHFA undertake a study to identify an appropriate 
retained earnings limit or that FHFA consider such a limit only as part 
of a future rulemaking.
    A number of commenters supported incorporating limits on MBS based 
on the underlying characteristics of the loans if such requirements 
incorporated the principles in FHFA Advisory Bulletins 2007-AB-01 and 
2008-AB-02 \4\ and in the interagency guidance published by Federal 
banking regulators, Interagency Guidance on Nontraditional Mortgage 
Product Risks (71 FR 58609 (Oct. 4, 2006)), and Statement on Subprime 
Mortgage Lending (72 FR 37569 (July 10, 2007)). Other commenters, 
however, felt that given the new standards being implemented for the 
secondary mortgage markets and the changes that this market is expected 
to undergo, it ultimately may prove unnecessary to incorporate this 
prior guidance into the regulation. Nevertheless, commenters felt that 
collateral backing future Bank purchases of MBS should be expected to 
comply with the highest standards of prudent and sustainable lending 
and that the current FHFA Advisory Bulletins on this issue should 
remain in effect.
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    \4\ Advisory Bulletin 2007-AB-01 (Apr. 12, 2007) established 
expectations for the Banks' pre-purchase analysis and periodic 
reviews of MBS investments. It advised the Banks' boards of 
directors to establish: (1) Limits on the level of MBS with 
underlying nontraditional or subprime mortgage collateral; (2) 
requirements for the level of credit protection for particular 
credit tranches when purchased at the time of original issuance of 
the security, and (3) limits on concentrations by geographic area, 
issuer, servicer, and size. Advisory Bulletin 2008-AB-02 (July 1, 
2008) set forth the expectation that the Banks' purchases of PLMBS 
would be limited to securities in which the underlying mortgage 
loans complied with all aspects of the Federal banking agencies' 
Interagency Guidance on Nontraditional Mortgage Product Risks, and 
Statement on Subprime Mortgage Lending.
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    After consideration of all these comments, FHFA has determined to 
adopt the 300 percent of capital limit from the FMP into its 
regulations. Contrary to suggestions that the 300 percent of capital 
limit was inflexible and out-dated, FHFA believes the limit reasonably 
serves to control Bank investment activity that does not directly 
advance the Banks' primary statutory mission of making advances to 
members, as well as limit the potential losses that can arise from this 
type of investment. As FHFA noted when proposing this rule, this FMP 
limit addressed both mission and safety and soundness concerns, 75 FR 
at 23633, and FHFA believes that it would be reasonable to adopt this 
longstanding limit into its regulations at this time in consideration 
of these concerns.
    New Sec.  1267.3(c)(1) incorporates the restriction in section 
II.C.2 of the FMP that limited a Bank's level of investment in 
authorized MBS or ABS to 300 percent of its total capital.\5\ It 
clarifies that a Bank is not required to divest securities solely to 
bring the level of its holdings into compliance with the limit, 
provided that the original purchase of the securities complied with 
these limits. New Sec.  1267.3(c)(2) further restricts a Bank's 
purchase of authorized MBS or ABS in any calendar quarter such that a 
Bank's total holdings of allowable MBS cannot increase by more than 50 
percent of its total capital as of the beginning of such quarter, a 
limit that also was set forth in section II.C.2 of the FMP.
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    \5\ As adopted, Sec.  1267.3(c)(1) refers to MBS or ABS 
``otherwise authorized under this part''. FHFA intends this 
reference to encompass future purchases of agency or government 
guaranteed MBS or ABS that are authorized under part 1267 as well as 
Banks' existing holdings of MBS or ABS to the extent that they were 
authorized by part 956. Thus, in calculating compliance with the 
limits under Sec.  1267.3(c), Banks will be expected to include all 
MBS and ABS purchased and currently held under the authority that 
had existed in part 956.
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    Although FHFA is adopting the 300 percent of capital limit as part 
of its regulations and has determined not to place additional limits on 
Bank investment in MBS at this time, it continues to have concerns with 
Bank investment in MBS from both a safety and soundness and mission 
stand point. With regard to the latter issue, despite the suggestions 
of some commenters to the contrary, FHFA still questions the extent to 
which Bank investment in MBS furthers the System's housing finance 
mission. FHFA considers it more appropriate to take into account the 
mission aspect of the Bank investment authority overall and not in 
segments by addressing only one class of investment.\6\
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    \6\ An overall re-consideration of the investment authority in 
light of the Bank System's mission was also raised by the United 
States Department of the Treasury and the United States Department 
of Housing and Urban Development in a recent report to Congress:
    Similar to Fannie Mae and Freddie Mac, several of the FHLB[anks] 
were allowed to build up large investment portfolios. These 
portfolios should be reduced and their composition altered to better 
serve the FHLB[anks'] mission of providing liquidity and access to 
capital for insured depository institutions. We support FHFA's 
efforts to address this issue, and we will work with Congress to 
provide clarity to the FHLB[ank's] investment authority.
    The Department of the Treasury and U.S. Department of Housing 
and Urban Development, ``Reforming America's Housing Finance Market: 
A Report to Congress,'' p. 15 (Feb. 2011).
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    FHFA is likely, therefore, to reconsider questions related to Bank 
investment in MBS as part of a future rulemaking that would address and 
consider all aspects of the Banks' investment authority, including the 
mission relevance of various types of investments that are allowed 
under existing rules. Such considerations are beyond this current 
rulemaking, which was more modest in its scope and intended only to 
incorporate the remaining provisions of the FMP into the regulations 
and to transfer the existing Finance Board's investment rules into the 
FHFA's regulations.
    FHFA also is incorporating into the regulations the other 
restrictions on MBS investment now set forth in the FMP, generally as 
proposed. Thus, new Sec.  1267.3(a)(5) through (7) sets forth 
restrictions found in section II.C.3 through C.5 of the FMP related to 
investment in MBS, including the prohibition on investment in residual 
interest and interest accrual classes of securities and interest-only 
and principal-only stripped MBS. The final rule also adopts new Sec.  
1267.4(b) which incorporates the remaining applicable limitations on 
derivative transaction found in section V.C.5 of the FMP. These FMP 
restrictions prevent the Banks from using derivatives to create 
exposures or investments similar to residual interest and interest 
accrual

[[Page 29150]]

classes of securities, interest-only and principal-only stripped MBS 
and ABS, or other investments that are currently prohibited by Section 
II.C of the FMP (and continue to be prohibited by new Sec.  
1267.3(a)(5) through (7)).
2. Clarification of the Calculation of the 300 Percent of Capital Limit 
on MBS
    Seven commenters requested that the wording of the provision 
adopting the 300 percent of capital limit be amended to clarify how the 
limit will be calculated. Specifically, the commenters requested that 
the value of the securities in question be based on amortized 
historical cost for held-to-maturity (HTM) and available-for-sale (AFS) 
securities and fair value for trading securities, and total capital 
used for the calculation of the limit should be as defined in FHFA 
regulation Sec.  1229.1. Section 1267.1 of the rule, both as proposed 
and as being adopted, already defines total capital as having the same 
meaning as set forth in Sec.  1229.1 of FHFA regulations and thus, FHFA 
already made clear that the investment limits in Sec.  1267.3(c) are to 
be calculated based on regulatory total capital.\7\
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    \7\ Section 1229.1 defines ``total capital'' as:
    The sum of the Bank's permanent capital, the amount paid-in for 
its Class A stock, the amount of any general allowances for losses, 
and the amount of any other instruments identified in a Bank's 
capital plan that the Director has determined to be available to 
absorb losses incurred by such Bank. For a Bank that has issued 
neither Class A nor Class B stock, the Bank's total capital shall be 
the measure of capital used to determine compliance with its minimum 
capital requirement.
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    After considering the comments, FHFA also agrees that it would be 
appropriate to clarify how the value of relevant MBS and ABS will be 
calculated for purposes of the limit and, therefore, is adopting the 
suggestions of the commenters in Sec.  1267.3(c)(3) of the final rule. 
This provision provides that for purposes of applying the limits in 
Sec.  1267.3(c), the value of a Bank's MBS and ABS shall be calculated 
based on amortized historical costs for securities classified as HTM or 
AFS \8\ and on fair value for trading securities.
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    \8\ The amortized historical cost for the HTM and AFS securities 
would generally be calculated as the sum of the initial investment, 
less cash collected, less write-downs plus yield accreted to date. 
See Master Glossary of FASB Accounting Standards Codification 2009.
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    The approach being adopted in the final rule differs somewhat from 
how these securities would be valued under generally accepted 
accounting principles (GAAP) in that under GAAP, AFS securities would 
be recorded at fair value, with changes in value (not related to other-
than-temporary credit impairment charges) run through accumulated other 
comprehensive income (AOCI).\9\ However, because the Bank's regulatory 
total capital is not adjusted for AOCI, the total capital component of 
the limit would not reflect changes in the value of AFS. This can lead 
to certain paradoxical results in applying the limit, if GAAP standards 
were used to value the ASF securities when applying the investment 
limit.
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    \9\ While the FMP does not specify how securities should be 
valued for purposes of the three times capital limit, this limit has 
generally been applied based on the carrying value of the securities 
calculated under GAAP.
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    For example, as the market value of AFS securities declines, the 
Banks would have more ``room'' under the limit to make new investments 
in MBS/ABS relative to the actual pay down in their current portfolio 
as a result of such market value losses. At the same time, in periods 
of rising market values, the Banks' investment limits would become more 
restrictive relative to the pay down in the portfolio, restricting 
their ability to replace their existing investments as they pay down. 
Similarly, the same security held by different Banks would be valued 
differently in the calculation of the limit depending on whether a Bank 
classifies the security as HTM or AFS, creating an opportunity to game 
the limit. The clarification being adopted should help eliminate these 
outcomes as well as provide greater certainty for Banks in planning and 
implementing long term investment strategies, as the limit and the 
Banks' abilities to invest in allowable MBS/ABS will not be affected by 
(non-credit related) price volatility in securities classified as AFS.
    FHFA has also added language to Sec.  1267.3(c)(1) and Sec.  
1267.3(c)(2) to clarify that for purposes of determining compliance 
with the restrictions in these sections, the Banks shall determine the 
aggregate value of its investment in MBS and ABS as of the transaction 
trade date for any new purchase of such securities.\10\
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    \10\ The language in Sec.  1267(c)(1) has also been revised to 
clarify that for purposes of determining compliance with this 
provision total capital shall be based on the amount most recently 
reported by a Bank to FHFA. Currently, the Banks report their 
regulatory total capital to FHFA in their monthly call reports. 
These clarifications are consistent with how compliance had been 
determined under the FMP. No further clarification was needed with 
regard to the measure of total capital in Sec.  1267(c)(2), given 
that the provision, as proposed and adopted, states clearly that 
compliance is determined based on total capital as of the beginning 
of each calendar quarter.
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3. Reorganization of the Investment Rule
    The final rule also reorganizes the investment regulation as 
proposed. The final rule will combine into new Sec.  1267.2 former 
Sec.  956.2 and Sec.  956.5, which respectively provided a list of 
authorized investments and authorization for derivative and other 
transactions. This will consolidate all authority for investments and 
other transactions into a single section but does not otherwise 
substantially alter the former part 956 provisions. The final rule will 
also carry over former Sec.  956.3, which set forth a list of 
prohibited investments and other prudential requirements, as new Sec.  
1267.3, and incorporate into this new section the restrictions on MBS 
investment from the FMP, as previously highlighted. It will adopt 
former Sec.  956.6 as new Sec.  1267.4, and former Sec.  956.4 as new 
Sec.  1267.5.
4. References to Credit Ratings and Credit Rating Organizations
    Section 939A of the Dodd-Frank Wall Street Reform and Consumer 
Protection Act (Dodd-Frank Act) requires Federal agencies to review 
regulations that require the use of an assessment of the credit-
worthiness of a security or money market instrument, or any references 
to, or requirements in, such regulations regarding credit ratings 
issued by NRSROs, and to remove such references or requirements. See 
section 939A, Public Law 111-203, 124 Stat. 1887 (July 21, 2010)). This 
provision also requires an agency, to the extent feasible, to adopt 
uniform standards of credit-worthiness in its regulations, taking into 
account the entities regulated by it and the purpose for which such 
regulated entities would rely on the credit-worthiness standard. Id.
    The Proposed Rule was published prior to the passage of the Dodd-
Frank Act. FHFA did not seek comment on replacing references to or 
requirements based on specific credit ratings in those investment rules 
that it proposed to carry over from the existing Finance Board 
regulations. Among those references or requirements are those included 
in Sec.  1267.3(a)(3), Sec.  1267.3(a)(4)(iii) and Sec.  1267.5, as 
well as certain definitions in Sec.  1267.1. Such references and 
requirements will need to be removed pursuant to section 939A of the 
Dodd-Frank Act.
    To that end, FHFA recently issued an advance notice of proposed 
rulemaking (ANPR) that sought comments on a range of issues related to 
implementation of section 939A of the Dodd-Frank Act, including what 
standards would be appropriate to replace existing credit rating 
references and requirements in the investment rule. See Advance Notice 
of Proposed Rulemaking; Alternatives to Use of Credit Ratings in 
Regulations Governing the Federal National Mortgage

[[Page 29151]]

Association, the Federal Home Loan Mortgage Corporation and the Federal 
Home Loan Banks, 76 FR 5292, 5295 (Jan. 31, 2011). FHFA has determined 
to carry over the investment rules as proposed on a temporary basis, 
pending completion of the ANPR process, rather than attempt to adopt 
changes at this time to provisions in part 1267 that continue to 
reference specific credit ratings or base their requirements on such 
ratings. FHFA believes that this approach will best allow it to 
implement the Dodd-Frank requirements that it adopt uniform standards 
of credit-worthiness in its regulations while not delaying the 
completion of this rulemaking process. Thus, FHFA will propose changes 
to relevant sections of part 1267 as part of a future rulemaking 
designed to remove references to, or requirements based on, specific 
credit ratings, as required by the Dodd-Frank Act.
5. Cancellation of the FMP
    Finally, FHFA confirms that the FMP is hereby cancelled and 
rescinded as of the effective date of this final rule, and thereafter, 
none of its provisions will be applicable to any Bank.

III. Paperwork Reduction Act

    The rule does not contain any collections of information pursuant 
to the Paperwork Reduction Act of 1995 (44 U.S.C. 3501 et seq.). 
Therefore, FHFA has not submitted any information to the Office of 
Management and Budget for review.

IV. Regulatory Flexibility Act

    The rule applies only to the Banks, which do not come within the 
meaning of small entities as defined in the Regulatory Flexibility Act 
(RFA). See 5 U.S.C. 601(6). Therefore, in accordance with section 
605(b) of the RFA, FHFA certifies that this final rule will not have 
significant economic impact on a substantial number of small entities.

List of Subjects

12 CFR Part 956

    Federal home loan banks, Investments.

12 CFR Part 1267

    Community development, Credit, Federal home loan bank, Housing, 
Reporting and recordkeeping requirements.

    Accordingly, for reasons stated in the preamble and under the 
authority of 12 U.S.C. 1429, 1430, 1430b, 1431, 1436, 4511, 4513, 4526, 
FHFA is amending subchapter G of chapter IX and subchapter D of chapter 
XII of title 12 of the Code of Federal Regulations as follows:

CHAPTER IX--FEDERAL HOUSING FINANCE BOARD



Subchapter G--Federal Home Loan Bank Assets and Off-Balance Sheet Items

PART 956--[REMOVED]

0
1. Remove part 956.

CHAPTER XII--FEDERAL HOUSING FINANCE AGENCY



Subchapter D--Federal Home Loan Banks

0
2. Add part 1267 to subchapter D to read as follows:

PART 1267--FEDERAL HOME LOAN BANK INVESTMENTS

Sec.
1267.1 Definitions.
1267.2 Authorized investments and transactions.
1267.3 Prohibited investments and prudential rules.
1267.4 Limitations and prudential requirements on use of derivative 
instruments.
1267.5 Risk-based capital requirements for investments.

    Authority:  12 U.S.C. 1429, 1430, 1430b, 1431, 1436, 4511, 4513, 
4526.


Sec.  1267.1  Definitions.

    As used in this part:
    Asset-backed security means a debt instrument backed by loans, but 
does not include debt instruments that meet the definition of a 
mortgage-backed security.
    Bank, written in title case, means a Federal Home Loan Bank 
established under section 12 of the Bank Act, as amended (12 U.S.C. 
1432).
    Bank Act means the Federal Home Loan Bank Act, as amended (12 
U.S.C. 1421 through 1449).
    Consolidated obligation means any bond, debenture or note on which 
the Banks are jointly and severally liable and which was issued under 
section 11 of the Bank Act (12 U.S.C. 1431) and in accordance with any 
implementing regulations, whether or not such instrument was originally 
issued jointly by the Banks or by the Federal Housing Finance Board on 
behalf of the Banks.
    Deposits in banks or trust companies means:
    (1) A deposit in another Bank;
    (2) A demand account in a Federal Reserve Bank;
    (3) A deposit in or sale of Federal funds to:
    (i) An insured depository institution, as defined in section 2(9) 
of the Bank Act, that is designated by the Bank's board of directors;
    (ii) A trust company that is a member of the Federal Reserve System 
or insured by the Federal Deposit Insurance Corporation and is 
designated by the Bank's board of directors; or
    (iii) A U.S. branch or agency of a foreign Bank as defined in the 
International Banking Act of 1978, as amended, (12 U.S.C. 3101 et seq.) 
that is subject to supervision of the Board of Governors of the Federal 
Reserve System and is designated by the Bank's board of directors.
    Derivative contract means generally a financial contract the value 
of which is derived from the values of one or more referenced assets, 
rates, or indices of asset values, or credit-related events. Derivative 
contracts include interest rate derivative contracts, foreign exchange 
rate derivative contracts, equity derivative contracts, precious metals 
derivative contracts, commodity derivative contracts and credit 
derivatives, and any other instruments that pose similar risks.
    GAAP means the United States generally accepted accounting 
principles.
    Indexed principal swap means an interest rate swap agreement in 
which the notional principal balance amortizes based upon the 
prepayment experience of a specified group of mortgage-backed 
securities or asset-backed securities or the behavior of an interest 
rate index.
    Interest-only stripped security means a class of mortgage-backed or 
asset-backed security that is allocated only the interest payments made 
on the underlying mortgages or loans and receives no principal 
payments.
    Investment grade means:
    (1) A credit quality rating in one of the four highest credit 
rating categories by an NRSRO and not below the fourth highest credit 
rating category by any NRSRO; or
    (2) If there is no credit quality rating by an NRSRO, a 
determination by a Bank that the issuer, asset or instrument is the 
credit equivalent of investment grade using credit rating standards 
available from an NRSRO or similar standards.
    Mortgage-backed security means a security or instrument, including 
collateralized mortgage obligations (CMOs), and Real Estate Mortgage 
Investment Trusts (REMICS), that represents an interest in, or is 
secured by, one or more pools of mortgage loans.
    NRSRO means a credit rating organization registered with the 
Securities and Exchange Commission as a nationally recognized 
statistical rating organization.

[[Page 29152]]

    Principal-only stripped security means a class of mortgage-backed 
or asset-backed security that is allocated only the principal payments 
made on the underlying mortgages or loans and receives no interest 
payments.
    Total capital shall have the meaning set forth in Sec.  1229.1 of 
this chapter.


Sec.  1267.2  Authorized investments and transactions.

    (a) In addition to assets enumerated in parts 1266 and 955 of this 
title and subject to the applicable limitations set forth in this part, 
and in part 1272 of this chapter, each Bank may invest in:
    (1) Obligations of the United States;
    (2) Deposits in banks or trust companies;
    (3) Obligations, participations or other instruments of, or issued 
by, the Federal National Mortgage Association or the Government 
National Mortgage Association;
    (4) Mortgages, obligations, or other securities that are, or ever 
have been, sold by the Federal Home Loan Mortgage Corporation pursuant 
to section 305 or 306 of the Federal Home Loan Mortgage Corporation Act 
(12 U.S.C. 1454 or 1455);
    (5) Stock, obligations, or other securities of any small business 
investment company formed pursuant to 15 U.S.C. 681, to the extent such 
investment is made for purposes of aiding members of the Bank; and
    (6) Instruments that the Bank has determined are permissible 
investments for fiduciary or trust funds under the laws of the state in 
which the Bank is located.
    (b) Subject to any applicable limitations set forth in this part 
and in part 1272 of this chapter, a Bank also may enter into the 
following types of transactions:
    (1) Derivative contracts;
    (2) Standby letters of credit, pursuant to the requirements of part 
1269 of this title;
    (3) Forward asset purchases and sales;
    (4) Commitments to make advances; and
    (5) Commitments to make or purchase other loans.


Sec.  1267.3  Prohibited investments and prudential rules.

    (a) Prohibited investments. A Bank may not invest in:
    (1) Instruments that provide an ownership interest in an entity, 
except for investments described in Sec.  1265.3(e) and (f) of this 
chapter;
    (2) Instruments issued by non-United States entities, except United 
States branches and agency offices of foreign commercial banks;
    (3) Debt instruments that are not rated as investment grade, 
except:
    (i) Investments described in Sec.  1265.3(e) of this chapter; and
    (ii) Debt instruments that were downgraded to a below investment 
grade rating after acquisition by the Bank;
    (4) Whole mortgages or other whole loans, or interests in mortgages 
or loans, except:
    (i) Acquired member assets;
    (ii) Investments described in Sec.  1265.3(e) of this title;
    (iii) Marketable direct obligations of state, local, or Tribal 
government units or agencies, having at least the second highest credit 
rating from an NRSRO, where the purchase of such obligations by the 
Bank provides to the issuer the customized terms, necessary liquidity, 
or favorable pricing required to generate needed funding for housing or 
community lending;
    (iv) Mortgage-backed securities, or asset-backed securities 
collateralized by manufactured housing loans or home equity loans, that 
meet the definition of the term ``securities'' under 15 U.S.C. 
77b(a)(1) and are not otherwise prohibited under paragraphs (a)(5) 
through (a)(7) of this section, and
    (v) Loans held or acquired pursuant to section 12(b) of the Bank 
Act (12 U.S.C. 1432(b)).
    (5) Residual interest and interest accrual classes of securities;
    (6) Interest-only and principal-only stripped securities; and
    (7) Fixed rate mortgage-backed securities or eligible asset-backed 
securities or floating rate mortgage-backed securities or eligible 
asset-backed securities that on the trade date are at rates equal to 
their contractual cap, with average lives that vary more than six years 
under an assumed instantaneous interest rate change of 300 basis 
points, unless the instrument qualifies as an acquired member asset 
under part 955 of this title.
    (b) Foreign currency or commodity positions prohibited. A Bank may 
not take a position in any commodity or foreign currency. The Banks may 
issue consolidated obligations denominated in a currency other than 
U.S. Dollars or linked to equity or commodity prices, provided that the 
Banks meet the requirements of Sec.  1270.9(d) of this chapter, and all 
other applicable requirements related to issuing consolidated 
obligations.
    (c) Limits on certain investments.--(1) A purchase, otherwise 
authorized under this part, of mortgage-backed securities or asset-
backed securities, may not cause the aggregate value of all such 
securities held by the Bank to exceed 300 percent of the Bank's total 
capital. For purposes of this limitation, such aggregate value will be 
measured as of the transaction trade date for such purchase, and total 
capital will be the most recent amount reported by a Bank to FHFA. A 
Bank will not be required to divest securities solely to bring the 
level of its holdings into compliance with the limits of this 
paragraph, provided that the original purchase of the securities 
complied with the limits in this paragraph.
    (2) A Bank's purchase of any mortgage-backed or asset-backed 
security may not cause the value of its total holdings of mortgage-
backed and asset-backed securities, measured as of the transaction 
trade date for such purchase, to increase in any calendar quarter by 
more than 50 percent of its total capital as of the beginning of such 
quarter.
    (3) For purposes of applying the limits under this paragraph (c), 
the value of relevant mortgage-backed or asset-backed securities shall 
be calculated based on amortized historical costs for securities 
classified as held-to-maturity or available-for-sale and on fair value 
for trading securities.


Sec.  1267.4  Limitations and prudential requirements on use of 
derivative instruments.

    (a) Non-speculative use. Derivative instruments that do not qualify 
as hedging instruments pursuant to GAAP may be used only if a non-
speculative use is documented by the Bank.
    (b) Additional Prohibitions.--(1) A Bank may not enter into 
interest rate swaps that amortize according to behavior of instruments 
described in Sec.  1267.3(a)(5) or (6) of this part.
    (2) A Bank may not enter into indexed principal swaps that have 
average lives that vary by more than six years under an assumed 
instantaneous change in interest rates of 300 basis points, unless they 
are entered into in conjunction with the issuance of consolidated 
obligations or the purchase of permissible investments or entry into a 
permissible transaction in which all interest rate risk is passed 
through to the investor or counterparty.
    (c) Documentation requirements.--(1) Derivative transactions with a 
single counterparty shall be governed by a single master agreement when 
practicable.
    (2) A Bank's agreement with the counterparty for over-the-counter 
derivative contracts shall include:
    (i) A requirement that market value determinations and subsequent 
adjustments of collateral be made at least on a monthly basis;

[[Page 29153]]

    (ii) A statement that failure of a counterparty to meet a 
collateral call will result in an early termination event;
    (iii) A description of early termination pricing and methodology, 
with the methodology reflecting a reasonable estimate of the market 
value of the over-the-counter derivative contract at termination 
(standard International Swaps and Derivatives Association, Inc. 
language relative to early termination pricing and methodology may be 
used to satisfy this requirement); and
    (iv) A requirement that the Bank's consent be obtained prior to the 
transfer of an agreement or contract by a counterparty.


Sec.  1267.5  Risk-based capital requirements for investments.

    Any Bank which is not subject to the capital requirements set forth 
in part 932 of this title shall hold retained earnings plus general 
allowance for losses as support for the credit risk of all investments 
that are not rated by an NRSRO, or are rated or have a putative rating 
below the second highest credit rating, in an amount equal to or 
greater than the outstanding balance of the investments multiplied by:
    (a) A factor associated with the credit rating of the investments 
as determined by FHFA on a case-by-case basis for rated assets to be 
sufficient to raise the credit quality of the asset to the second 
highest credit rating category; and
    (b) 0.08 for assets having neither a putative nor actual rating.

    Dated: May 13, 2011.
Edward J. DeMarco,
Acting Director, Federal Housing Finance Agency.
[FR Doc. 2011-12358 Filed 5-19-11; 8:45 am]
BILLING CODE 8070-01-P