SEC Adopts New Last Guidelines for Clearance and Settlement; Proposes Modifications for Funding Adviser Guidelines

February 22, 2023

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On February 15, 2023, the Securities and Exchange Commission (the “SEC”) passed final rule changes aimed at reducing risk in settlement and settlement for most broker-dealer securities transactions and proposed new rules that address the Advisors aim to improve the protection of client assets managed through investments.

The new final rules amend Rule 15c6-1 of the Securities Exchange Act of 1934 (the “Exchange Act”) to shorten the standard settlement cycle for broker-dealer transactions from two business days after trade (“T+2”) to one business day (“T+1”). The new rules also shorten the separate settlement cycle for firm commitment offerings, including IPOs, from T+4 to T+2, although most market participants are already using a T+2 settlement cycle for these offerings.

The rule changes also adopt Rule 15c6-2, which requires a broker or dealer to create, maintain and enforce written policies or enter into written agreements that ensure the prompt completion of the applicable allocation, confirmation or confirmation processes. In order to comply with the new rule, any such agreement or policy must ensure that allotment, confirmation or confirmation processes are completed as soon as technically feasible, but in any case no later than the end of the trading day. In addition, the new rules amend Rule 204-2 of the Investment Advisers Act, 1940 (the “Investment Advisers Act”) to require investment advisers to keep records of transactions subject to Rule 15c6-2 above. Finally, the new final rules adopt Rule 17Ad-27 of the Exchange Act and amend Regulation ST to require clearing agencies that provide a central matching service to facilitate straight-through processing and submit an annual report to the SEC via EDGAR on the straight -Through processing to forward implementation. The compliance date for these rule changes is set for May 28, 2024.

These changes are in part a response to the unprecedented volatility surrounding the so-called “meme stock craze” of 2021. Commissioner Jaime Lizárraga backed the adoption of new rules, saying it “helps mitigate some of the risks that Driven the stock price by volatility and significant margin calls” during this event. SEC Chairman Gary Gensler also supported the rule changes, stating, “Cosmo could say that this rollout will take our installations from bronze to copper. I say that taken together, these changes will make our market installation more resilient, timely, orderly and efficient.” Referring to the compliance date, he offered: “This implementation comes more than three years after key industry members first proposed the settlement cycle shorten, and in a year and a half from now, which I believe provides sufficient time for the transition.” Other commissioners have pushed back the timetable for implementation to May 2024. Commissioner Mark T. Uyeda did not support the final rules, saying he believes the SEC is “imprudently moving away from a reasonable transition date.”[.]Along with Commissioner Uyeda, Commissioner Hester M. Pierce also advocated a September 2024 settlement date. The changes also came with discussion that the SEC may seek to further shorten the settlement window. In a statement, Commissioner Caroline A. Crenshaw said the move to instant trade settlement (“T+0”) “could be both desirable and feasible in the future”.

The SEC’s proposed amendments to Rule 206(4)-2 of the Investment Advisers Act would build on the power granted by Section 411 of the Dodd-Frank Act to expand the scope and protection of assets protected by the rule. While the current rule protects “funds and securities” of clients in the care of an investment adviser, the proposed rule would include all client assets held by the investment adviser and all client assets that the investment adviser has the authority to obtain. This move would bring numerous types of physical assets and all crypto assets within the scope of the rule. Under the current regime, protected assets are covered when they are in the “custody” of an investment adviser, and the proposed changes would extend the definition of such custody to include situations where the adviser has discretion to trade those assets. While the current rule requires investment advisers to hold client assets with a qualified custodian, unless those assets are privately offered securities, the new rule would limit this exception to situations where no qualified custodian is available. Additionally, a qualified custodian would not include platforms used to trade assets such as crypto, a move that appears to have been taken to address the recent outages and problems of the major crypto asset trading platforms. The proposed rule also requires investment advisers to title or register assets on behalf of clients and avoid asset commingling, and prohibits investment advisers or associated persons from taking certain interests in client assets in the custody of the adviser without written consent. Finally, the proposed amendments would further amend Rule 204-2 to improve the record-keeping requirements in relation to covered client assets held in custody by an investment adviser. Proposed rule changes are subject to comment for 60 days after publication in the Federal Register.

Chairman Gensler said in support of the rule that “investors working with advisors would receive the proven protections they deserve for all their assets, including crypto assets, consistent with what Congress wants.” Commissioner Pierce, who was the only Commissioner to vote against the proposal, raised a number of objections and concluded that “[w]While our intent is good, the outcome may impose costs on investors that outweigh the benefits.” Commissioner Uyeda added that the proposal “appears to disguise a policy decision to block access to crypto as an asset class” resulting “from the the Commission’s longstanding neutral position on the merits of investment,” although he voted in favor of the proposal as a way to gauge public reaction.

The following Gibson Dunn attorneys helped prepare this customer update: Hillary Holmes, Harrison Tucker, Peter Wardle and Kyle Clendenon.

Gibson Dunn’s attorneys are available to assist you with any questions you may have about these developments. To learn more about these topics, please contact the Gibson Dunn attorney with whom you normally work, one of the following heads of the firm’s capital markets or securities regulation and corporate governance practice groups, or the following authors:

Hillary H. Holmes – Houston (+1 346-718-6602, hholmes@gibsondunn.com)
Harrison Tucker – Houston (+1 346-718-6643, htucker@gibsondunn.com)
Peter W. Wardle – Los Angeles (+1 213-229-7242, pwardle@gibsondunn.com)

Capital market group:
Andrew L. Fabens – New York (+1 212-351-4034, afabens@gibsondunn.com)
Hillary H. Holmes – Houston (+1 346-718-6602, hholmes@gibsondunn.com)
Stewart L. McDowell – San Francisco (+1 415-393-8322, smcdowell@gibsondunn.com)
Peter W. Wardle – Los Angeles (+1 213-229-7242, pwardle@gibsondunn.com)

Securities Regulation and Corporate Governance Group:
Elizabeth Ising – Washington, DC (+1 202-955-8287, eising@gibsondunn.com)
James J. Moloney – Orange County (+1 949-451-4343, jmoloney@gibsondunn.com)
Lori Zyskowski – New York (+1 212-351-2309, lzyskowski@gibsondunn.com)

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