This post highlights what we believe to be the most significant developments during 2014 for financial institutions with respect to U.S. Bank Secrecy Act/anti-money laundering (“BSA/AML”) and U.S. sanctions programs, including sanctions administered by the U.S. Department of the Treasury’s Office of Foreign Assets Control (“OFAC”), and identifies significant trends. The overarching trend that is likely to continue for the foreseeable future is an intense focus on BSA/AML and sanctions compliance by multiple government agencies, combined with increasing regulatory expectations and significant enforcement actions and penalties.
Posts Tagged ‘Banks’
Acquisition financing activity was robust in 2014, as the credit markets accommodated increased demand from rising M&A activity. At over $749 billion, global 2014 M&A loan issuance was up approximately 40 percent year over year, the highest total since before the Great Recession. While the aggregate figures suggest a borrower-friendly market, the actual picture is more nuanced. Investment grade acquirors benefited from a consistently strong financing environment throughout 2014 and finished the year with a flourish (including a $36 billion commitment backing Actavis’ acquisition of Allergan), while leveraged acquirors encountered more volatility, as lenders responded quickly to regulatory changes and market conditions, and both high-yield commitments and debt became more costly.
In conjunction with his State of the Union address, President Obama reanimated the idea of taxing big banks’ debts to help stabilize the banking industry and prevent future financial crises. The administration argues that the new tax would discourage banks from taking on too much risk by making it “more costly for the biggest financial firms to finance their activities with excessive borrowing.”
The president’s bank-tax proposal is unlikely to gain traction in the new Congress, just as similar proposals from the administration in 2010 and, last year from the now retired Rep. David Camp (R., Mich.), did not move forward. But even if it became law, it wouldn’t put a sizable dent in bank debt. The reason is simple: The existing tax system strongly encourages debt finance and the proposed new tax will not fundamentally change this.
In December 2014, the SEC proposed rules under the Jumpstart Our Business Startups Act (the “JOBS Act”) that reflect new, higher thresholds for registration under the Securities Exchange Act of 1934 (the “Exchange Act”). The SEC also proposed rules that would implement higher thresholds for termination of registration and suspension of reporting for banks and bank holding companies and savings and loan holding companies. In addition, the SEC has proposed to revise the definition of “held of record” in Exchange Act Rule 12g5-1 to exclude certain securities held by persons who received them pursuant to employee compensation plans and to establish a non-exclusive safe harbor for determining whether securities are “held of record” for purposes of registration under Exchange Act Section 12(g).
The year 2014 was marked by accelerating mergers and acquisitions activity in the financial institutions space and by several distinct trends. Institutions continued to adapt to the changed regulatory environment, as several important rule proposals and releases brought the ultimate contours of that environment into clearer focus. Profitability pressures continued for traditional businesses. And, as investors continue to seek yield in a low-rate world, shareholder activism notably proliferated. Continued improvement in the economy brought new opportunities into sight and ramped up private equity activity in the financial services sector. Cutting across all of these trends, technological changes, and associated business challenges, continued to reshape firms’ strategic playbooks.
Early indications suggest the M&A activity trend continuing into 2015. In the opening days of the new year, City National agreed to merge with Royal Bank of Canada. The largest bank holding company merger since the financial crisis, at $5.4 billion, the City National deal signals the continuing recovery of the U.S. market from post-crisis distressed deal terms, transaction motivations and negotiating positions. City National is widely considered to be among the strongest franchises in the U.S. It maintained its position of strength and financial performance throughout the financial crisis—as evidenced by the 2.6x multiple of deal price to tangible book value to be paid to City National shareholders. The merger is also a significant vote of confidence by RBC in the outlook for the U.S. banking market and in particular for the type of clientele served by City National. RBC will be reentering retail and commercial banking in the U.S. with 75 branches and $32 billion in assets, and a franchise that is highly complementary to its existing strong U.S. asset management presence.
On December 9, 2014, the Federal Reserve Board (FRB) issued a long-awaited proposal to impose additional capital requirements on the US’s global systemically important banks (G-SIBs). The proposal implements the Basel Committee on Banking Supervision’s (BCBS) G-SIB capital surcharge framework that was finalized in 2011, but also proposes changes to BCBS’s calculation methodology resulting in significantly higher surcharges for US G-SIBs compared with their global peers.
The proposal, which we expect will be finalized in 2015, requires US G-SIBs to hold additional capital (Common Equity Tier 1 (CET1) as a percentage of Risk Weighted Assets (RWA)) equal to the greater of the amount calculated under two methods. The first method is consistent with BCBS’s framework, and calculates the amount of extra capital to be held based on the G-SIB’s size, interconnectedness, cross-jurisdictional activity, substitutability, and complexity. The second method is introduced by the US proposal, and uses similar inputs but replaces the substitutability element with a measure based on a G-SIB’s reliance on short-term wholesale funding (STWF).
On December 13, 2014, the US Senate passed an appropriations bill for the President’s signature that included a provision to roll back much of Dodd-Frank’s section 716 (i.e., the Swaps Push-Out). The initial version of the Swaps Push-Out was proposed by Senator Blanche Lincoln (Democrat of Arkansas) in 2010, during her re-election campaign, and would have prohibited bank swap dealers from receiving federal assistance from the FDIC or from the discount window of the Federal Reserve. After intense negotiation in the last days of congressional debate on Dodd-Frank, Lincoln’s version was substantially narrowed to only prohibit banks from dealing in swaps that were viewed by Congress as the most risky.
The Swaps Push-Out that ultimately passed as part of Dodd-Frank prohibited bank swap dealers (with access to FDIC insurance or the discount window) from dealing in certain swaps (or security-based swaps), including most credit default swaps (CDS), equity swaps, and many commodity swaps. Swaps related to rates, currencies, or underlying assets that national banks may hold (e.g., loans) were allowed to remain in the bank, as were swaps used for hedging or similar risk mitigation activities.
On November 10th, the Financial Stability Board (FSB) issued a long-awaited consultative document that defined a global standard for minimum amounts of Total Loss Absorbency Capacity (TLAC) to be held by Global Systemically Important Banks (G-SIBs). TLAC is meant to ensure that G-SIBs have the loss absorbing and recapitalization capacity so that, in and immediately following resolution, critical functions can continue without requiring taxpayer support or threatening financial stability.
The FSB’s document requires a G-SIB to hold a minimum amount of regulatory capital (Tier 1 and Tier 2) plus long term unsecured debt that together are at least 16-20%  of its risk weighted assets (RWA), i.e., at least twice the minimum Basel III total regulatory capital ratio of 8%. In addition, the amount of a firm’s regulatory capital and unsecured long term debt cannot be less than 6% of its leverage exposure, i.e., at least twice the Basel III leverage ratio. In addition to this “Pillar 1” requirement, TLAC would also include a subjective component (called “Pillar 2”) to be assessed for each firm individually, based on qualitative firm-specific risks that take into account the firm’s recovery and resolution plans, systemic footprint, risk profile, and other factors.
A key element of the Basel III framework aims to ensure the maintenance and stability of funding and liquidity profiles of banks’ balance sheets. Two liquidity standards, the “net stable funding ratio” and a “liquidity coverage ratio”, were introduced in the Basel III framework to achieve this aim. Final standards on the net stable funding ratio have recently been released. Despite the implementation date of January 2018, banking institutions are considering the full impact of these measures on all aspects of their businesses now.
On October 31, 2014, the Basel Committee on Banking Supervision (the “Basel Committee”) released the final Net Stable Funding Ratio (the “NSFR”) framework, which requires banking organizations to maintain stable funding (in the form of various types of liabilities and capital) for their assets and certain off-balance sheet activities. The NSFR finalizes a proposal first published by the Basel Committee in December of 2010 and later revised in January of 2014. Particularly given the historical trend as between the Basel Committee and U.S. banking agency implementation and in line with its Halloween release, it has left many wondering: Is it a trick or a treat?