Dodd–Frank Wall Street Reform and Consumer Protection Act

1. Dodd–Frank Wall Street Reform and Consumer Protection Act Introduction • A bill that aims to increase government oversight of trading in complex financial instruments such as derivatives. • The Dodd-Frank Regulatory Reform Bill was named after Senator Christopher J. Dodd and U.S. Representative Barney Frank. • The restrictions placed on the types of proprietary trading that financial institutions will be allowed to practice are intended to prevent the collapse of major financial institutions such as Lehman Brothers. • The stated aim of the legislation is: To promote the financial stability of the United States by improving accountability and transparency in the financial system, to end "too big to fail", to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes.

2. Dodd–Frank Wall Street Reform and Consumer Protection Act Overview • The Act is categorized into sixteen titles and by one law firm's count, it requires that regulators create 243 rules, conduct 67 studies, and issue 22 periodic reports. • The stated aim of the legislation is: To promote the financial stability of the United States by improving accountability and transparency in the financial system, to end "too big to fail", to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes. • The Act changes the existing regulatory structure, such as creating a host of new agencies (while merging and removing others) in an effort to streamline the regulatory process, increasing oversight of specific institutions regarded as a systemic risk, amending the Federal Reserve Act, promoting transparency, and additional changes. • The Act establishes rigorous standards and supervision to protect the economy and American consumers, investors and businesses, ends taxpayer funded bailouts of financial institutions, provides for an advanced warning system on the stability of the economy, creates rules on executive compensation and corporate governance, and eliminates the loopholes that led to the economic recession.

3. Dodd–Frank Wall Street Reform and Consumer Protection Act Provisions • Title I - Financial Stability • Title II - Orderly Liquidation Authority • Title III - Transfer of Powers to the Comptroller, the FDIC, and the FED • Title IV - Regulation of Advisers to Hedge Funds and Others • Title V – Insurance • Title VI - Improvements to Regulation • Title VII - Wall Street Transparency and Accountability • Title VIII - Payment, Clearing and Settlement Supervision • Title IX - Investor Protections and Improvements to the Regulation of Securities • Title X - Bureau of Consumer Financial Protection • Title XI - Federal Reserve System Provisions • Title XII - Improving Access to Mainstream Financial Institutions • Title XIII - Pay It Back Act • Title XIV - Mortgage Reform and Anti-Predatory Lending Act • Title XV - Miscellaneous Provisions • Title XVI - Section 1256 Contracts

4. Dodd–Frank Wall Street Reform and Consumer Protection Act Impacts • Investor Protection and Securities Enforcement • The Act strengthens the Securities and Exchange Commission’s enforcement program by, among other things, establishing a new whistleblower bounty program that may result in significant payments to whistleblowers (including for reporting events that pre-date the Act) and create a “lottery” mentality for disgruntled employees. • Corporate Governance and Executive Compensation • The Act (1) mandates “say-on-pay” votes — non-binding shareholder votes on executive compensation — beginning at 2011 annual shareholder meetings and (2) authorizes SEC adoption of “proxy access” —rules giving nominating shareholders the ability to have their nominees included in the company’s proxy materials. We expect the SEC to adopt proxy access rules in the coming weeks.

5. Dodd–Frank Wall Street Reform and Consumer Protection Act Impacts • Derivatives • The Act imposes a new regulatory regime on over-the-counter derivatives, which includes requirements for clearing, exchange trading, public reporting of swap pricing data, recordkeeping, margin and capital requirements for some market participants, and other requirements intended to increase the transparency and liquidity of derivatives markets, and to decrease systemic risk. The Act also imposes significant limitations on the derivatives activities of banking organizations. The collective effect of these changes could materially affect the availability, as well as the costs and terms, of over-the-counter derivatives transactions to end users and other counterparties. • Credit Rating Agencies • Credit rating agencies will be subject to substantially increased regulation and risk of liability under the Act. These changes may have significant implications for the securities offering process and may increase the cost of capital.

6. Dodd–Frank Wall Street Reform and Consumer Protection Act Impacts • Securitization • The Act requires securitizers and originators of securitized assets to retain a portion of the credit risk associated with those assets. The Act also generally requires issuers of asset-backed securities (a term that is defined broadly) to disclose asset-level or loan-level data and does not permit suspension of ongoing reporting requirements under the Securities Exchange Act of 1934, as amended (the “Exchange Act”); • Other Securities Law Reforms • The Act modifies or authorizes changes to federal securities laws and regulations, including the accredited investor standard, beneficial ownership and insider reporting and new disclosures relating to “conflict minerals,” mine safety and payments by companies engaged in the oil, natural gas and mining industries.

7. Dodd–Frank Wall Street Reform and Consumer Protection Act Regulation of Banking Organizations • Elimination of the Office of Thrift Supervision • Transfer of OTS Responsibility to Other Agencies • Provisions Affecting Thrift Holding Companies • Creation of the Consumer Financial Protection Bureau • Enhanced Supervision and Standards for Large Institutions • More Rigorous Examination and Supervision of Nonbank Affiliates • Mandatory Examination of Bank-Permissible Activities in Nonbank Affiliates • Less Deference to Functional Regulators • The Volcker Rule: Proprietary Trading and Fund • Derivatives Activities

8. Dodd–Frank Wall Street Reform and Consumer Protection Act Regulation of Banking Organizations • Capital Regulation • The Collins Amendment; Status of Trust Preferred Securities • Studies Regarding Capital • Source of Strength Obligation • Counter-Cyclical Capital Requirements • Change to Criteria for Financial Holding Company Status • Deposit Insurance and Assessments • Changes in Deposit Insurance Coverage • Change in Assessment Base • Minimum Reserve Ratio Increase for Deposit Insurance Fund • Measures to Eliminate Pro-Cyclical Assessments

9. Dodd–Frank Wall Street Reform and Consumer Protection Act Regulation of Banking Organizations • Limits on Size • Limit Based on Combined Liabilities of All Financial Companies • Expansion of 10% Nationwide Deposit Cap • Enhanced Lending and Concentration Limits • Loans to One Borrower • Transactions With Affiliates: Section 23A • Transactions With Insiders • Nonbank Banks • Elective Federal Reserve Supervision for Securities Holding Companies • Miscellaneous Provisions • Financial Stability as a Regulatory Objective • Fees for Federal Banking Regulators • Expanded Backup Authority for FDIC • Prohibition on “Excessive Compensation • Interstate Branching • Interest on Demand Deposits • Charter Conversions by Institutions Subject to Enforcement Action • Office of Minority and Women Inclusion

10. Basel III • BASEL III (sometimes "Basel 3") refers to a new update to the Basel Accords that is under development. • The Bank for International Settlements (BIS) itself began referring to this new international regulatory framework for banks as "Basel III" in September 2010. • The draft Basel III regulations include: • tighter definitions of Common Equity; banks must hold 4.5% by January 2015, then a further 2.5%, total 7% • the introduction of a leverage ratio, • a framework for counter-cyclical capital buffers, • measures to limit counterparty credit risk, • and short and medium-term quantitative liquidity ratios.

11. Basel III To raise the quality, consistency and transparency of the capital base • Tier 1 capital will consist of going concern capital in the form of common equity (common shares plus retained earnings) and some equity-like debt instruments which are both subordinated and where dividend payments are discretionary. • Criteria for Tier 2 capital will also be tightened (subordinate to depositors, five-year minimum maturity and no incentives to redeem). Enhancing risk coverage • Must determine their capital requirement for counterparty credit risk using stressed inputs, helping to remove pro-cyclicality that might arise with using current volatility-based risk inputs. • Must include capital charges (credit valuation adjustments) associated with the deterioration in the creditworthiness of a counterparty (as opposed to its outright default). • Implement a Pillar 1 capital charge for wrong-way risk (transactions with counterparties, especially financial guarantors, whose PD is positively correlated with the amount of exposure).

12. Basel III Leverage ratio • The introduction of a leverage ratio is intended to help to avoid the build-up in excess leverage that can lead to a deleveraging ‘credit crunch’ in a crisis situation. Pro-cyclicality • The Basel Committee places considerable emphasis on the role of procyclical factors in the crisis resulting from mark-to-market accounting and held to maturity loans; margining practices; and the build-up of leverage and its reversal amongst all financial market participants.

13. Basel III A critical assessment • The model framework problems are not addressed • The problem of regulatory and tax arbitrage in ‘complete’ markets and the shifting of financial “promises” • The required level of capital is not dealt with in the proposals • Risk weighting and leverage ratio approaches may not sit well together • The need to penalise regulatory arbitrage in Pillar 1

14. Basel III Conclusion remarks • Too-big-to-fail institutions that took on too much risk – a large part of these risks being driven by new innovations that took advantage of regulatory and tax arbitrage with no effective constraints on leverage. • Insolvency resulting from contagion and counterparty risk, driven mainly by the capital market (as opposed to traditional credit market) activities of banks, and giving rise to the need for massive taxpayer support and guarantees. Banks simply did not have enough capital. • The lack of regulatory and supervisory integration, which allowed promises in the financial system to be transformed with derivatives and passed out to the less regulated and capitalised industries outside of banking – such as insurance and re-insurance. The same promises in the financial system were not treated equally. • The lack of efficient resolution regimes to remove insolvent firms from the system. This issue, of course, is not independent of the structure of firms which might be too-big-to-fail. Switzerland, for example, might have great difficulty resolving a UBS or a Credit Suisse – given their size relative to the economy. They may have less trouble resolving a failed legally separated subsidiary.