U.S. SEC Proposes New Exemptive Rule to Regulate Funds’ Use of Derivatives

December 22, 2015

At an open meeting of the U.S. Securities and Exchange Commission (SEC) on December 11, 2015, the SEC by a three-to-one vote approved the proposal (Proposal) of new Rule 18f-4 under the Investment Company Act of 1940 (1940 Act) and amendments to certain proposed forms related to the use of derivatives by registered investment companies – open-end funds, closed-end funds, and exchange-traded funds – and business development companies (collectively, funds). This Proposal is the third of five significant SEC regulatory initiatives originally announced by SEC Chair Mary Jo White in December 2014.

The proposed rule would provide funds with exemptive relief from the prohibition on issuing “senior securities” under Section 18 of the 1940 Act, subject to various requirements outlined below. Chair White stated at the meeting that “the current regulatory framework no longer achieves the statutory objectives of [the 1940 Act], which [seek] to protect investors from the risks of excessive leverage and from funds being unable to meet payment obligations that can result from derivatives and other instruments.” Chair White further stated that the Proposal provides a “modernized, comprehensive regulatory framework” of regulation for funds’ use of derivatives.

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