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FEDERAL RESER VE BANK O F NEW YORK f Circular No. 5068 L August 3, 1961 MARGIN REGULATIONS — Amendment to Regulation T — Revision of Regulation U To All Banks, Members o f National Securities Exchanges, and Others Interested, in the Second Federal Reserve D istrict: Enclosed are copies of an amendment, effective August 7,1961, to Regulation T of the Board of Governors of the Federal Reserve System, and of a revision of the Board’s Regulation U, which incorporates previous amendments to the regulation and includes new amendments, also effective August 7, 1961. Section 220.4(d) of Regulation T lias been amended by substituting “ within 90 calendar days following the date of its purchase” for “ within a reasonable time” in defining bona fide arbitrage in convertible securities. A conforming change has been made in section 220.3(d)(3). Section 220.6(d) of Regulation T has been amended to eliminate possible ambiguities in the provisions relating to transfers of undermargined general accounts, particularly with respect to transfers from one customer to more than one customer. The new amendments to Regulation II effect changes in sections 221.2( j ) and 221.3(e). Section 221.2(j) incorporates in Regulation U for the first time a specific definition of bona fide arbitrage, which is identical with that in amended section 220.4(d) of Regulation T . Section 221.3(e) of Regulation U, relating to transfers of undermargined loans between borrowers, has been changed to cor respond with the amended section 220.6(d) of Regulation T. Additional copies of the enclosures will be furnished upon request. A lfred H ayes, President. CREDIT BY BROKERS, DEALERS, AND MEMBERS OF NATIONAL SECURITIES EXCHANGES A M E N D M E N T T O R E G U L A T IO N I ssu ed by th e B oard of G overnors of t h e F T ederal R eserve System E f f e c t i v e A u g u s t 7 , 1 9 6 1 , s e c t i o n s 2 2 0 .3 ( ^ X 3 ) , 2 2 0 A ( d ) , a n d 2 2 0 -6 (d ) a re a m e n d e d t o r e a d a s f o l l o w s : S E C T I O N 2 2 0 .3 - G E N E R A L A C C O U N T S (d) Adjusted debit balance.— * (3 ) * * th e c u r r e n t m a rk et v a lu e o f a n y s e c u r i t i e s ( o t h e r th an u n is s u e d s e c u r it ie s ) s o ld s e c u r ity (o th e r th a n s h o r t in th e a c c o u n t p l u s , f o r e a c h s u c h an e x e m p t e d s e c u r ity ), su ch a m ou n t a s th e B o a r d s h a l l p r e s c r i b e from tim e t o tim e in § 2 2 0 .8 a s th e m argin r e q u ir e d fo r su ch sh ort s a le s , excep t th a t s u c h a m ou n t s o pre s c r i b e d in § 2 2 0 .8 n e e d n o t b e in c lu d e d w h e n th e r e are h e ld in th e a c c o u n t s e c u r i t i e s e x c h a n g e a b l e or c o n v e r t i b l e w ith in days, w ith o u t r e s t r i c t i o n 9 0 c a le n d a r o th e r th an th e p a y m e n t o f m o n e y , in to s u c h s e c u r it ie s s o ld sh ort; S E C T IO N 2 2 0 .4 -S P E C I A L A C C O U N T S (d ) Special arbitrage account.—In a s p e c i a l a r b itr a g e a c c o u n t , a m em ber of a n a t io n a l cu stom er poses bona o f t h is s e c u r itie s fid e a rb itr a g e exch an ge m ay e f fe c t t r a n s a c t io n s p a r a g r a p h , th e term in " a r b it r a g e * a n d f in a n c e s e c u r itie s . fo r any F o r th e pu r m e a n s ( 1 ) a p u r c h a s e or s a l e o f a s e c u r i t y in o n e m a rk et t o g e t h e r w ith an o f f s e t t i n g s a l e o r p u r c h a s e o f th e s a m e s e c u r i t y in a d if f e r e n t m a rk et at a s n e a r ly th e s a m e tim e a s p r a c t i c a b l e , fo r th e p u r p o s e o f t a k in g a d v a n t a g e o f a d i f f e r e n c e in p r i c e s in th e tw o m a r k e t s , or ( 2 ) a p u r c h a s e o f a s e c u r i t y w h i c h i s , w ith o u t r e s t r i c t i o n c o n v e r t i b l e w ith in in t o a s e c o n d o th e r than th e p a y m e n t o f m o n e y , 9 0 c a le n d a r d a y s s e c u r i t y t o g e t h e r w ith an o f f s e t t i n g s a l e s a m e tim e o f s u c h s e c o n d or a t or a b o u t th e s e c u r i t y , fo r th e p u r p o s e o f t a k in g a d v a n ta g e o f a d is p a r i t y in th e p r i c e s o f th e tw o s e c u r i t i e s . e x c h a n g e a b le f o l l o w i n g th e d a t e o f i t s p u r c h a s e (O v e r ) SECTION 2 2 0 .6--C E R T A IN TECH NICAL DETAILS (d ) T r a n s fe r o f a c c o u n t s . —( 1 ) In th e e v e n t o f th e t r a n s fe r o f a g e n e r a l a c c o u n t from o n e c r e d it o r t o a n o t h e r , s u c h a c c o u n t m a y b e t r e a t e d fo r th e p u r p o s e s o f t h is p a rt a s i f it h ad b e e n m a in ta in e d b y th e t r a n s fe r e e fro m th e d a t e o f it s o r ig i n : P r o v id ed , T h a t th e t r a n s fe r e e a c c e p t s in g o o d fa it h a s ig n e d s ta t e m e n t o f th e t r a n s fe r o r th a t n o c a s h o r s e c u r i t i e s n eed be d e p o s ite d in th e accou n t in c o n n e c tio n w ith a n y t r a n s a c t io n th a t h a s b e e n e f f e c t e d in th e a c c o u n t o r , in c a s e h e f in d s th a t it i s n o t p r a c tic a b le to o b t a in su ch g o o d fa ith s u c h a s ig n e d (2 ) a s ta t e m e n t from th e t r a n s fe r o r , a cce p ts in s ta t e m e n t from th e c u s t o m e r . In th e e v e n t o f th e t r a n s fe r o f a g e n e r a l a c c o u n t fro m o n e c u s t o m er t o a n o t h e r , or t o o t h e r s , a s a b o n a f id e i n c id e n t t o a t r a n s a c t io n th a t is n o t u n d e r ta k e n fo r th e p u r p o s e o f a v o i d i n g th e r e q u ir e m e n t s o f th is p a r t, e a c h t r a n s fe r e e a c c o u n t m a y b e t r e a t e d b y th e c r e d it o r fo r th e p u r p oses o f t h is p a rt a s i f i t h ad b e e n m a in ta in e d fo r t h e t r a n s fe r e e from th e d a t e o f i t s o r ig i n : P r o v i d e d , T h a t th e c r e d it o r a c c e p t s in g o o d fa ith a n d k e e p s w ith th e t r a n s fe r e e a c c o u n t a s ig n e d s t a t e m e n t o f th e t r a n s f e r o r d e s c r i b i n g th e c i r c u m s t a n c e s g i v i n g r i s e t o th e tr a n s fe r . BO ARD OF GOVERNORS of the F E D E R A L R E S E R V E SYS T E M LOANS BY BANKS FOR THE PURPOSE OF PURCHASING OR CARRYING REGISTERED STOCKS R E G U L A T IO N U (1 2 CFR 2 2 1 ) As Amended to August 7, 1961 INQUIRIES REGARDING THIS REGULATION Any inquiry relating to this regulation should be addressed to the Federal Reserve Bank of the district in which the inquiry arises. EXPLANATORY FOREWORD ( N o t a p a r t o f t h e r e g u la t io n ) This regulation is issued pursuant to the provisions of section 7 of the Securities Exchange Act of 1934. This regulation does not prevent a bank from taking for any loan collateral in addition to that required by the regulation. Except as provided in § 221.3 (r) with respect to convertible securities, it does not require a bank to reduce any loan, to obtain collateral for any out standing loan, or to call any outstanding loan because of insufficient collateral. N ote.— T h e reporting and record-keeping requirements contained herein have been app roved b y the Bureau o f the B u dget in accordance w ith the Federal R eports A ct o f 1942. REGULATION U (1 2 C F R 221) A s A m e n d e d t o A u g u st 7, 1961 LOANS BY BANKS FOR THE PURPOSE OF PURCHASING OR CARRYING REGISTERED STOCKS * S E C T I O N 221.1— G E N E R A L R U L E (a) No bank shall make any loan secured directly or indirectly by any stock for the purpose of purchasing or carrying any stock regis tered on a national securities exchange (and no bank shall make any loan described in § 221.3(9) regardless of whether or not such loan is secured by any stock) in an amount exceeding the maximum loan value of the collateral, as prescribed from time to time for stocks in § 221.4 (the Supplement to Regulation U) and as determined by the bank in good faith for any collateral other than stocks. ( b ) For the purpose of this part, the entire indebtedness of any borrower to any bank incurred at any time for the purpose of purchas ing or carrying stocks registered on a national securities exchange shall be considered a single loan; and all the collateral securing such in debtedness shall be considered in determining whether or not the loan complies with this part. (c) While a bank maintains any such loan, whenever made, the bank shall not at any time permit any withdrawal or substitution of collateral unless either (1) the loan would not exceed the maximum loan value of the collateral after such withdrawal or substitution, or (2) the loan is reduced by at least the amount by which the maximum loan value of any collateral deposited is less than the “ retention re quirement” of any collateral withdrawn. The “ retention requirement” of nonstock collateral is the same as its maximum loan value, and the “ retention requirement” of stock collateral is prescribed from time to time in §2 2 1 .4 (the Supplement to Regulation U ). If the maximum loan value of the collateral securing the loan has become less than the amount of the loan, the amount of the loan may nevertheless be in creased if there is provided additional collateral having maximum loan value at least equal to the amount of the increase. S E C T I O N 221.2— E X C E P T I O N S T O G E N E R A L R U L E Notwithstanding the provisions of §2 2 1 .1 , a bank may make and may maintain any loan for the purpose specified in § 221.1, without * T h is t e x t c o r re s p o n d s to t h e C ode o f F e d e r a l R e g u la tio n s , T i tle 12, C h a p t e r I I , P a r t 221; c ite d a s 12 C F R 221. 1 2 REGULATION U Sec. 221.2 regard to the limitations prescribed therein, if the loan comes within any of the following descriptions: (а) A ny loan to a bank or to a foreign banking institution; (б) Any loan made prior to July 16, 1945, to any person whose total indebtedness to the bank at the date of and including such loan does not exceed $1,000; (c) Any loan to a dealer, or to two or more dealers, to aid in the financing of the distribution of securities to customers not through the medium of a national securities exchange; ( d ) Any loan to a broker or dealer that is made in exceptional circumstances in good faith to meet his emergency needs; (e) Any loan to a broker or dealer secured by any securities which, according to written notice received by the bank from the broker or dealer pursuant to a rule of the Securities and Exchange Commission concerning the hypothecation of customers’ securities (Rule X -8 C -1 or Rule X -1 5 C 2 -1 ), are securities carried for the account o f one or more customers, provided the bank accepts in good faith from the broker or dealer a signed statement to the effect that he is subject to the provisions of Part 220 of this chapter (Regula tion T ) (or that he does not extend or maintain credit to or for cus tomers except in accordance therewith as if he were subject thereto); ( /) Any temporary advance to finance the purchase or sale of securities for prompt delivery which is to be repaid in the ordinary course of business upon completion of the transaction; ( g ) Any loan against securities in transit, or surrendered for transfer, which is payable in the ordinary course of business upon arrival of the securities or upon completion of the transfer; (h) Any loan which is to be repaid on the calendar day on which it is made; ( i ) A ny loan made outside the States of the United States and the District of Columbia; (;) Any loan to a member of a national securities exchange for the purpose of financing his or his customers’ bona fide arbitrage transactions in securities. For the purposes of this paragraph, the term “ arbitrage” means (1) a purchase or sale of a security in one market together with an offsetting sale or purchase of the same security in a different market at as nearly the same time as prac ticable, for the purpose of taking advantage of a difference in prices in the two markets, or (2) a purchase of a security which is, with out restriction other than the payment of money, exchangeable or convertible within 90 calendar days following the date of its pur chase into a second security together with an offsetting sale at or about the same time of such second security, for the purpose of taking advantage of a disparity in the prices of the two securities; S e c s . 2 2 1 .2 — 2 2 1 .3 REGULATION U 3 (/c) Any loan to a member of a national securities exchange for the purpose of financing such member’s transactions as an odd-lot dealer in securities with respect to which he is registered on such national securities exchange as an odd-lot dealer. S E C T I O N 221.3— M I S C E L L A N E O U S P R O V I S I O N S (a) In determining whether or not a loan is for the purpose specified in § 221.1 or for any of the purposes specified in § 221.2, a bank may rely upon a statement with respect thereto only if such statement (1) is signed by the borrower; (2) is accepted in good faith and signed by an officer of the bank as having been so accepted; and (3) if it merely states what is not the purpose of the loan, is supported by a memo randum or notation of the lending officer describing the purpose of the loan. To accept the statement in good faith, the officer must be alert to the circumstances surrounding the loan and the borrower and must have no information which would put a prudent man upon inquiry and if investigated with reasonable diligence would lead to the dis covery of the falsity of the statement. ( b ) (1) N o loan, however it m ay be secured, need be treated as a loan for the purpose of “ carrying” a stock registered on a national securities exchange unless the loan is as described in subparagraph (2) of this paragraph or the purpose of the loan is to enable the bor rower to reduce or retire indebtedness which was originally incurred to purchase such a stock, or, if he be a broker or a dealer, to carry such stocks for customers. (2) A loan for the purpose of purchasing or carrying a “ redeemable security” (i.e. a redeemable proportionate interest in the issuer’s assets) issued by an “open-end company,” as defined in the Investment Com pany Act of 1940, whose assets customarily include stock registered on a national securities exchange, shall be deemed to be for the purpose of purchasing or carrying a stock so registered. (c) In determining whether or not a security is a “ stock registered on a national securities exchange” or a “ redeemable security” de scribed in paragraph (£>) (2) of this section, a bank may rely upon any reasonably current record of such securities that is published or specified in a publication of the Board of Governors of the Federal Reserve System. (d) Except as provided in paragraph (r) of this section, the renewal or extension of maturity of a loan need not be treated as the making of a loan if the amount of the loan is not increased except by the addition of interest or service charges on the loan or of taxes on transactions in connection with the loan. REGULATION U 4 S e c . 2 2 1 .3 (e) A bank, without following the requirements of this part as to the making of a loan, may (1) accept the transfer of a loan from another bank, or (2) permit the transfer of a loan from one borrower to another, or to others, as a bona fide incident to a transaction that is not under taken for the purpose of avoiding the requirements of this part, pro vided that a statement signed by the transferor, describing the cir cumstances giving rise to the transfer, is accepted in good faith by an officer of the bank and is kept with each transferee loan account; Provided, The loan is not increased and the collateral for the loan is not changed; and, after such transfer, a bank may permit such with drawals and substitutions of collateral as the bank might have per mitted if it had been the original maker of the loan or had originally made the loan to the new borrower. (/) A loan need not be treated as collateralled by securities which are held by the bank only in the capacity of custodian, depositary or trustee, or under similar circumstances, if the bank in good faith has not relied upon such securities as collateral in the making or maintenance of the particular loan. (g) Nothing in this part shall be construed to prevent a bank from permitting withdrawals or substitutions of securities to enable a bor rower to participate in a reorganization. ( h ) N o mistake made in good faith in connection with the making or maintenance of a loan shall be deemed to be a violation of this part. (i) Nothing in this part shall be construed as preventing a bank from taking such action as it shall deem necessary in good faith for its own protection. (;) Every bank, and every person engaged in the business of ex tending credit who, in the ordinary course of business, extends credit for the purpose of purchasing or carrying securities registered on a national securities exchange, shall make such reports as the Board of Governor of the Federal Reserve System may require to enable it to perform the functions conferred upon it by the Securities Exchange Act of 1934 (48 Stat. 881; 15 U.S.C. Chapter 2B ). ( k ) Terms used in this part have the meanings assigned to them in a portion of section 3 (a ) of the Securities Exchange A ct of 1934 (48 Stat. 882; 15 U.S.C. 7 8 c (a )), except that the term “ bank” does not include a bank which is a member of a national securities exchange. REGULATION U S e c . 2 2 1 .3 5 ( 1) The term "stock” includes any security commonly known as a stock, any voting trust certificate or other instrument representing such a security, and any warrant or right to subscribe to or purchase such a security. (m) Indebtedness “ subject to § 221.1” is indebtedness which is secured directly or indirectly by any stock (or made to a person described in paragraph ( q ) of this section), is for the purpose of pur chasing or carrying any stock registered on a national securities exchange, and is not excepted by § 221.2. (n ) (1) The bank shall identify all the collateral used to meet the collateral requirements of § 221.1 (entire indebtedness being con sidered a single loan and collateral being similarly considered, as required by § 221.1) and shall not cancel the identification of any portion thereof except in circumstances that would permit the with drawal of that portion. Such identification may be made by any reasonable method, and in the case of indebtedness outstanding at the opening of business on June 15, 1959 need not be made until immediately before some change in that or other indebtedness of the borrower or in collateral therefor. (2) Only the collateral required to be so identified shall have loan value for purposes of § 221.1 or be subject to the restrictions therein specified with respect to withdrawals and substitutions; and (3) For any indebtedness of the same borrower that is not subject to § 221.1 (other than a loan described in § 221.2 ( d ) , ( / ) , ( g ) or ( h) ) , the bank shall in good faith require as much collateral not so identified as the bank would require (if any) if it held neither the indebtedness subject to § 221.1 nor the identified collateral. This shall not be con strued, however, to require the bank, after it has made any loan, to obtain any collateral therefor because of any deficiency in collateral already existing at the opening of business on June 15, 1959, or any decline in the value or quality of the collateral or in the credit rating of the borrower. It also does not require a bank to waive or forego any lien. In addition, it shall not apply to a loan to enable the borrower to meet emergency expenses not reasonably foreseeable, provided the loan is supported by a statement of the borrower describing the circum stances, accepted in good faith and signed by an officer of the bank as having been so accepted. (o) In the case of a loan to a member of a national securities ex change who is registered and acts as a specialist in securities on the exchange for the purpose of financing such member’s transactions as a specialist in such securities, the maximum loan value of any stock shall 6 REGULATION U S e c . 2 2 1 .3 be as determined by the bank in good faith provided that the special ist’s exchange, in addition to other requirements applicable to special ists, is designated by the Board of Governors of the Federal Reserve System as requiring reports suitable for supplying current information regarding specialists’ use of credit pursuant to this section. (p) A loan need not comply with the other requirements of this part if it is to enable the borrower to acquire a stock by exercising a right to acquire such stock which is evidenced by a warrant or certificate issued to stockholders and expiring within 90 days of issuance: Provided, That (1) each such acquisition under this paragraph shall be treated sepa rately, and the loan when made shall not exceed 75 per cent of the cur rent market value of the stock so acquired as determined by any rea sonable method, (2) while the borrower has any loan outstanding at the bank under this paragraph no withdrawal or substitution of stock used to make such loan shall be permissible, except that when the loan has become equal to or less than the maximum loan value of the stock as prescribed for § 221.1 in § 221.4 the stock and indebtedness may there after be treated as subject to § 221.1 instead of this paragraph, and (3) no loan shall be made under this paragraph at any time when the borrower has any such loan at the bank which has been outstanding more than 9 months without becoming eligible to be treated as subject to § 221.1. In order to facilitate the exercise of a right under this paragraph, a bank may permit the right to be withdrawn from a loan subject to § 221.1 without regard to any other requirement of this part. ( q ) Any loan to a person not subject to this part (Regulation U) or to Part 220 (Regulation T ) engaged principally, or as one of the person’s important activities, in the business of making loans for the purpose of purchasing or carrying stocks registered on a national securities exchange, is a loan for the purpose of purchasing or carry ing stocks so registered unless the loan and its purposes are effectively and unmistakably separated and disassociated from any financing or refinancing, for the borrower or others, of any purchasing or carrying of stocks so registered. Any loan to any such borrower, unless the loan is so separated and disassociated or is excepted by § 221.2, is a loan “ subject to § 221.1” regardless of whether or not the loan is secured by any stock; and no bank shall make any such loan subject to § 221.1 to any such borrower on or after June 15, 1959 without collateral or without the loan being secured as would be required by this Part 221 if it were secured by any stock. Any such loan subject to § 221.1 to any such borrower, whether or not made after June 15, S e c . 2213 REGULATION U 7 1959, shall be subject to the other provisions of this Part 221 appli cable to loans subject to § 221.1, including provisions regarding with drawal and substitution of collateral. (r) If, on or after June 15, 1959, a loan is made for the purpose of purchasing or carrying a security other than a stock registered on a national securities exchange and the loan is secured by the security, but subsequently there is substituted as direct or indirect collateral for the loan a stock so registered which is acquired by the borrower through the conversion or exchange of the security pursuant to its terms, the loan shall thereupon be deemed to be for the purpose of purchasing or carrying a stock so registered. In any such case, the amount of the oustanding loan, or such amount plus any increase therein to enable the borrower to acquire the stock so registered, shall not be permitted on the date such stock is substituted as collateral to exceed the maximum loan value of the collateral for the loan on such date, and thereafter such indebtedness shall be treated as subject to § 221.1; Provided, however, That any reduction in the loan or deposit of collateral required on that date to meet this requirement may be brought about within 30 days of such substitution. (S e c tio n 221.4, S u p p le m e n t, co n ta in in g m a x im u m lo a n v a lu e s an d reten tion req u irem e n ts, w h ich are ch a n g e d fr o m tim e to tim e , is p rin te d sep a ra tely .) APPENDIX There are printed below certain provisions of the Securities Ex change A ct of 1934: Sec. 3. (a) * * * (3) The term “ member” when used with respect to an exchange means any person who is permitted either to effect transactions on the exchange without the services of another person acting as broker, or to make use of the facilities of an exchange for trans actions thereon without payment of a commission or fee or with the payment of a commission or fee which is less than that charged the general public, and includes any firm transacting a business as broker or dealer of which a member is a partner, and any partner of any such firm. (4) The term “ broker” means any person engaged in the busi ness of effecting transactions in securities for the account of others, but does not include a bank. (5) The term “ dealer” means any person engaged in the busi ness of buying and selling securities for his own account, through a broker or otherwise, but does not include a bank, or any person insofar as he buys or sells securities for his own account, either individually or in some fiduciary capacity, but not as a part of a regular business. (6) The term “ bank” means (A ) a banking institution organ ized under the laws of the United States, (B) a member bank of the Federal Reserve System, (C ) any other banking institution, whether incorporated or not, doing business under the laws of any State or of the United States, a substantial portion of the busi ness of which consists of receiving deposits or exercising fiduciary powers similar to those permitted to national banks under section 11 (k) of the Federal Reserve Act, as amended, and which is supervised and examined by State or Federal authority having supervision over banks, and which is not operated for the purpose of evading the provisions of this title, and (D ) a receiver, con servator, or other liquidating agent of any institution or firm included in clauses (A ), (B ), or (C ) of this paragraph. * * * * * (9) The term “ person” means an individual, a corporation, a partnership, an association, a joint-stock company, a business trust, or an unincorporated organization. (10) The term “ security” means any note, stock, treasury stock, bond, debenture, certificate of interest or participation in 8 REGULATION U 9 any profit-sharing agreement or in any oil, gas, or other mineral royalty or lease, any collateral-trust certificate, preorganization certificate or subscription, transferable share, investment con tract, voting-trust certificate, certificate of deposit, for a security, or in general, any instrument commonly known as a “ security” ; or any certificate of interest or participation in, temporary or interim certificate for, receipt for, or warrant or right to sub scribe to or purchase, any of the foregoing; but shall not include currency or any note, draft, bill of exchange, or banker’s accept ance which has a maturity at the time of issuance of not exceed ing nine months, exclusive of days of grace, or any renewal thereof the maturity of which is likewise limited. * * * * * Sec. 7. (a) For the purpose of preventing the excessive use of credit for the purchase or carrying of securities, the Board of Governors of the Federal Reserve System shall, prior to the effec tive date of this section and from time to time thereafter, pre scribe rules and regulations with respect to the amount of credit that may be initially extended and subsequently maintained on any security (other than an exempted security) registered on a national securities exchange. For the initial extension of credit, such rules and regulations shall be based upon the following standard: An amount not greater than whichever is the higher of— (1) 55 per centum of the current market price of the security, or (2) 100 per centum of the lowest market price of the security during the preceding thirty-six calendar months, but not more than 75 per centum of the current market price. Such rules and regulations may make appropriate provision with respect to the carrying of undermargined accounts for limited periods and under specified conditions; the withdrawal of funds or securities; the substitution or additional purchases of securi ties; the transfer of accounts from one lender to another; special or different margin requirements for delayed deliveries, short sales, arbitrage transactions, and securities to which paragraph (2) of this subsection does not apply; the bases and the methods to be used in calculating loans, and margins and market prices; and similar administrative adjustments and details. For the pur poses of paragraph (2) of this subsection, until July 1, 1936, the lowest price at which a security has sold on or after July 1, 1933, shall be considered as the lowest price at which such security has sold during the preceding thirty-six calendar months. (b) Notwithstanding the provisions of subsection (a) of this 10 REGULATION U section, the Board of Governors of the Federal Reserve System, may, from time to time, with respect to all or specified securities or transactions, or classes of securities, or classes of transactions, by such rules and regulations (1) prescribe such lower margin requirements for the initial extension or maintenance of credit as it deems necessary or appropriate for the accommodation of com merce and industry, having due regard to the general credit situa tion of the country, and (2) prescribe such higher margin require ments for the initial extension or maintenance of credit as it may deem necessary or appropriate to prevent the excessive use of credit to finance transactions in securities. (c) I t shall be unlawful for any member of a national securities exchange or any broker or dealer who transacts a business in securities through the medium of any such member, directly or indirectly to extend or maintain credit or arrange for the exten sion or maintenance of credit to or for any customer— (1) On any security (other than an exempted security) regis tered on a national securities exchange, in contravention of the rules and regulations which the Board of Governors of the Fed eral Reserve System shall prescribe under subsections (a) and (b) of this section. (2) Without collateral or on any collateral other than ex empted securities and/or securities registered upon a national securities exchange, except in accordance with such rules and regulations as the Board of Governors of the Federal Reserve System may prescribe (A ) to permit under specified conditions and for a limited period any such member, broker, or dealer to maintain a credit initially extended in conformity with the rules and regulations of the Board of Governors of the Federal R e serve System, and (B ) to permit the extension or maintenance of credit in cases where the extension or maintenance of credit is not for the purpose of purchasing or carrying securities or of evading or circumventing the provisions of paragraph (1) of this subsection. (d) I t shall be unlawful for any person not subject to sub section (c) to extend or maintain credit or to arrange for the extension or maintenance of credit for the purpose of purchasing or carrying any security registered on a national securities ex change, in contravention of such rules and regulations as the Board of Governors of the Federal Reserve System shall prescribe to prevent the excessive use of credit for the purchasing or carry ing of or trading in securities in circumvention of the other pro visions of this section. Such rules and regulations may impose upon all loans made for the purpose of purchasing or carrying REGULATION U 11 securities registered on national securities exchanges limitations similar to those imposed upon members, brokers, or dealers by subsection (c) of this section and the rules and regulations there under. This subsection and the rules and regulations thereunder shall not apply (A ) to a loan made by a person not in the ordi nary course of his business, (B ) to a loan on an exempted security, (C ) to a loan to a dealer to aid in the financing of the distribution of securities to customers not through the medium of a national securities exchange, (D ) to a loan by a bank on a security other than an equity security, or (E ) to such other loans as the Board of Governors of the Federal Reserve System shall, by such rules and regulations as it may deem necessary or appropriate in the public interest or for the protection of investors, exempt, either unconditionally or upon specified terms and conditions or for stated periods, from the operation of this subsection and the rules and regulations thereunder. (e) The provisions of this section or the rules and regulations thereunder shall not apply on or before July 1, 1937, to any loan or extension of credit made prior to the enactment of this title or to the maintenance, renewal, or extension of any such loan or credit, except to the extent that the Board of Governors of the Federal Reserve System may by rules and regulations prescribe as necessary to prevent the circumvention of the provisions of this section or the rules and regulations thereunder by means of withdrawals of funds or securities, substitutions of securities, or additional purchases or by any other device. Sec. 29. (a) A ny condition, stipulation, or provision binding any person to waive compliance with any provision of this title or of any rule or regulation thereunder, or of any rule of an exchange required thereby shall be void. (b) Every contract made in violation of any provision of this title or of any rule or regulation thereunder, and every contract (including any contract for listing a security on an exchange) heretofore or hereafter made the performance of which involves the violation of, or the continuance of any relationship or practice in violation of, any provision of this title or any rule or regu lation thereunder, shall be void (1) as regards the rights of any person who, in violation of any such provision, rule, or regulation, shall have made or engaged in the performance of any such con tract, and (2) as regards the rights of any person who, not being a party to such contract, shall have acquired any right there under with actual knowledge of the facts by reason of which the making or performance of such contract was in violation of any such provision, rule or regulation. * * * REGULATION U (c) Nothing in this title shall be construed (1) to affect the validity of any loan or extension of credit (or any extension or renewal thereof) made or of any lien created prior or subsequent to the enactment of this title, unless at the time of the making of such loan or extension of credit (or extension or renewal thereof) or the creating of such lien, the person making such loan or extension of credit (or extension or renewal thereof) or acquir ing such lien shall have actual knowledge of facts by reason of which the making of such loan or extension of credit (or exten sion or renewal thereof) or the acquisition of such lien is a viola tion of the provisions of this title or any rule or regulation there under, or (2) to afford a defense to the collection of any debt or obligation or the enforcement of any lien by any person who shall have acquired such debt, obligation, or lien in good faith for value and without actual knowledge of the violation of any provision of this title or any rule or regulation thereunder affecting the legality of such debt, obligation, or lien. Sec. 32. (a) A ny person who willfully violates any provision of this title, or any rule or regulation thereunder the violation of which is made unlawful or the observance of which is required under the terms of this title, or any person who willfully and knowingly makes, or causes to be made, any statement in any application, report, or document required to be filed under this title or any rule or regulation thereunder or any undertaking contained in a registration statement as provided in subsection (d) of section 15 of this title, which statement was false or misleading with respect to any material fact, shall upon conviction be fined not more than $10,000, or imprisoned not more than two years, or both, except that when such person is an exchange, a fine not exceeding $500,000 may be imposed; but no person shall be subject to imprisonment under this section for the violation of any rule or regulation if he proves that he had no knowledge of such rule or regulation. fy j-S -o b V F e d e r a l R e s e r v e NEW Ba YORK n k 45, of N ew Yo r k N. Y. RECTOR 2 - 5 7 0 0 August 3, 1961 To the Chief Executive Officer of each Member Bank in the Second Federal Reserve District: Enclosed is a reprint of a letter that appeared in the American Banker on July 14, 1961 . The letter discusses the problems incident to the issuance of municipal bonds in bearer form in the conventional $1,000 denom ination and urges the issuance of such bonds in the $5*000 denomination. This proposal interests us because municipal bonds constitute the major portion of all securities held by this Bank in safekeeping for account of our member banks. The increasing volume of these bearer bonds placed in our custody during recent years has been attended by growing problems in the servicing of the securities and providing vault space for them. It seems to us that the issuance by political subdivisions of bearer securities in units of $5*000 would go far toward meeting the problems we have mentioned. We realize, of course, that adoption of the proposal depends ultimately upon investor acceptance generally. Consequently, we should be interested in learning your views regard ing the proposal that municipal bonds in bearer form be issued in the $5,000 denomination rather than in the $1,000 denomination. For this purpose, we should appreciate your completing and returning to us the enclosed question naire. We should also welcome any additional comments you may have regarding the subject of these questions. Very truly yours, Enclosures Questionnaire Regarding Issuance of Municipal Bonds in Units of $5,000 Instead of the Conventional $1,000 Denomination In answering the questions appearing below please assume that there is being offered a municipal security in bearer form in only the $5*000 denomination and that your bank regards the issue as attractive from an investment standpoint. 1. Could your bank adapt itself to the $5,000 unit in purchasing and selling this issue for its own account? ______ Yes. ______ Possibly, it depends. ______ No. If your answer to the preceding question was "No” or "Possibly", please state the reason. 2. To what extent could purchases and sales for account 'your customers be made in units of $5 *000? Institutional investors : All or almost all less than half , half or more , it depends Trusts and estates: All or almost all less than half , half or more , it depends t , half or more , it depends > Individuals: All or almost all less than half If any of your answers were "it depends", please explain. August 1961 Name of Bank R e p r in te d fr o m American Banker I n s t i t u t i o n a l F a v o r for $ 5,000 U n i t M u n i c i p a l B o n d s S e e n b y Dillistin E d it o r , A m e r ic a n B an ker: The a rticle on “ M unicipal Bonds in £5,0 0 0 -U n its ” in y o u r issue o f M ay 11 w as o f con siderable in terest to me fo r it w as d u rin g m y term o f office last y e a r as M a yor o f P a terson , N. J., that probably the first practical o f fe r in g o f cou pon bonds o f such a d e nom ination w as made in the m etro politan N ew Y ork area. In M ay, 1958, h ow ever, Franklin C ou nty, O., had sold $10 m illion o l cou pon bonds in the denom ination o f $5,000. T he su b ject o f bonds o f the den om i nation o f $5,000 has had m y attention fo r the past tw o o r th ree years as a result o f a question asked o f me by the tru st officer o f a la rg e bank w hose earlier train in g had been in the legal p rofession . H e inquired, “ W hy d on ’t w e have a m unicipal bond o f the denoinina ion o f $5,000? O th ers have su g gested registered bonds in $100,000 den om in ation s, w here b ig issues are con cerned. A ft e r ca refu l thou ght and con sid er ation , I subm itted to M essrs. H aw kins, Delafield & W ood , m unicipal bond a t torn eys, a su g gested ch a n ge in the usual fo rm o f n otice o f sale o f m unici pal bonds in o rd e r to provide, in a lim ited manner, f o r bonds o f the d e nom ination o f $5,000. The proposed ch a n g e , a fte r m in or revision s, w as fou n d accep ta b le to th em , perm issive under the Law s o f N ew J ersey, and w as subsequently in corp ora ted in a notice o f sale in June 1960 o f a p p ro x i m ately $5 m illion w a ter revenue bonds o f the C ities o f P a terson , P assaic, and C lifton (N ew J e rs e y ) fo r the join t benefit o f the P a ssa ic V a lley W ater C om m ission. T he su ccessfu l bidder had the option o f ta k in g all the bonds o f any m atu rity in th e denom ination o f $5,000. N o requ ests f o r bonds o f th at den om in ation w ere received. On A p ril 13 last the C ity o f P a ter son offered $1,857,000 o f gen eral ob li g a tio n s under the sam e con dition s and a p p ro x im a te ly 12>' o f th e total w ere taken in the denom ination o f $5,000. W ith re sp e ct to th at sale, the “ W eek ly Bond B u yer” stated A p ril 24, “ A m a jo r b reak th rou gh in the tr a dition o f issu in g State and loca l g o v ern m en t securities in $1,000 units took place recen tly. . . .” A g a in on M ay 3 last the C ou nty o f Pa ssa ic (N e w J e rs e y ) offered $1,090,000 gen era l o b liga tion s under the sam e con dition s and $50,000 o f th at issue w ere taken in the denom ination o f $5,000. Favorable Factors Ignored W h ile th ese sales w ere a b rea k th rou gh I feel th at this p rog ra m has not as y e t had the n ecessary publicity to b rin g its fa v o ra b le fa c to rs b e fo re the bamcs, v a riou s tru stees, insurance com pa n ies, co rp o ra tio n execu tives, and oth ers. M any individuals and oth ers w h o m igh t be interested in such a denom ination w ere not aw are that bonds o f th e den om in ation o f $5,000 w ere available. M y im pression , gain ed a ft e r ta lk in g w ith several u nderw riters and dealers in m unicipal secu rities, is th a t many o f them disp lay a rath er apa th etic a t titude and it is n o t receiv in g the b a ck in g th at I think it deserves. T h ey a p p ea r satisfied to g o a lon g as in the “ horse and b u g g y d a y s ” w hen one, tw o, o r th ree $1,000 bonds w ere a co m mon d elivery as com p a red to freq u en t sales tod a y in units o f five, ten, and 20 bonds. In su p p ort o f this apath etic a tti tude, a sm oke screen has been set up since th ere has been no provision so fa r f o r exch a n ge o f denom inations, due to the co st in volved and a ques tion as to th e a b ility o f a tru stee to divide e q u a lly— fo r exa m ple, three $5,000 bonds a m on g fo u r h eirs o f an estate. T he la tter m akes little sense since a tru stee w ould be faced w ith the sam e problem i f called upon to http://fraser.stlouisfed.org/ Federal IReserve Bank of St. Louis divide three $1,000 bonds a m on g four heirs. F u rtherm ore the relatively sm all percentage o f ou tstan din g bonds that m ight be involved in such a sit uation should not ou tw eigh the many fa v ora b le fa ctors oth erw ise presented. There will continue to be many issues o f $1,000 bonds and in su f ficient number to satisfy prospec tive purchasers who desire to look ahead for a split-up in years to come. Investors with such a pro gram in mind constitute an ex tremely small percentage, and as to dollar volume, an infinitesimal sum is involved as compared to the total o f such bonds outstanding. A question has a lso been raised w ith resp ect to sm aller m unicipalities w here sta tu tory m aturities make it im practical or im possible to have the total o f each annual m aturity a m u lti ple o f $5,000. There are m any such issues and this over-a ll progra m does n ot con 'em p la te th at every fu tu re is sue o f State and m unicipal bonds be offered in the denom ination o f $5,000. U nderw riters Polled Last Septem ber the C om ptroller o f the C ity o f St. L ouis took a poll o f the u nderw riters and oth ers w ho had subm itted bids at previous sales o f th eir bonds. The u nderw riters w ere asked, in effect, to indicate w hether they w ould p refer that bonds o f the denom ination o f $5,000 be offered at a fo rth co m in g sale. L etters w ent out to 113 previous bidders, 98 replies w ere received, 08 w ere n ot in fa v or o f such a bond and 25 indicated that th ey fa v ored such a denom ination. This w as a poll, n ot o f the in stitu tional buyers, but o f u nderw riters, w h o have little o r n oth ing to do with the ph ysical han dlin g o f the bonds at the tim e o f issue, th eir subsequent sa fek eep in g, the cu ttin g o f cou pon s, and han dlin g o f m aturing bonds. A su rv ey o f institutional bu yers who a ctu a lly hold ph ysical possession o f such bonds, would presen t a gen era lly fa v ora b le sh ow in g as to w hether bonds o f a la rg er denom ination w ould be w elcom e. In Special C onvention Issue N o. 1, o f the “ D a ily Bond B u yer,” dated Nov. 28, 1960, issued in con nection w ith the con vention o f the Investm ent B ankers A ssocia tion - o f A m erica , an excellen t a rticle appeared by the late G eorge W an ders, editor o f th a t pub lication entitled “ Si^es o f D ebt Is sues G ettin g to Be C ritica l.” Favorable Resolution He poin ted ou t in effect th a t from all ov er the cou n try m urm urs are heard and m unicipal orga n iza tion s are ta k in g action w ith resp ect to bonds o f la rg e r denom inations than $1,000. H e stated that incidental to the N ew Y o r k convention o f the M unicipal F i nance Officers A ssocia tion held in New Y ork C ity in June, 1960, Daniel B. G oldberg, General S olicitor o f the P ort o f N ew Y ork A u th ority , presen t ed a m otion w hich w as a dopted unani m ously b y com m itteem en m em bers fro m the In vestm en t B ankers A s s o cia tion , the M unicipal Law Section o f the A m erican B ar A ssocia tion , the N ational In stitu te o f M unicipal Law Officers and the M unicipal Forum o f N ew Y o rk , a lon g w ith the M unicipal Finance Officers A ssocia tion . M r. G oldb erg noted in his motion that la rg er in vestors in ta x -exem pts are finding the handling and stora ge o f $1,000 pieces “ irrita tin g ” and he proposed legal steps em p ow erin g is suers to make $5,000 pieces and m ulti ples available, a lon g w ith $1,000 pieces. H is resolution included a r e f erence to laws in som e States which restrict a m unicipal issuer to $1,000 iieces, and he urged ch anges so that a rg er pieces cou ld be issued i f de sired b y investors. Such a progra m is legal in New Jersey and has been tried out. W h y do not oth er m unicipalities where $5,000 bonds are legal, offer bonds o f f the denom ination o f $5,000 on an op tional or oth er basis in ord er to bring them before the la rg er in v estors? W hy does this progra m need fu rth er s tu d y ? The in vestin g public, if such denom inations are available, w ill soon indicate w hether or not they are a c ceptable. Space Problem G row s The late Mr. W anders in his article referred to herein pointed out that, “ Bank vau lts bulge with the vast a c cum ulation [ o f State and municipal bond s] and still the call is fo r more space and m anpow er fo r processin g the bonds.” A ccom p a n yin g that a r ticle is an illustration o f a building fo r the stora ge o f bonds which de picts an enorm ous stack o f bonds b ursting through the r o o f o f the building and reach ing high into the sky. A s to the vast accum ulation o f such bonds, the Special C on feren ce Issue N o. 1, o f the “ D aily Bond B u yer” M ay 22, 1961, sets forth a tabulation sh ow in g “ C om parative S tatistics on M unicipal F inance,” which shows a m on g oth er in form ation that the total o f State and m unicipal debt has risen in the last 20 yea rs from $19.8 billion to $68.4 billion, an increase o f 235 a'. A recen t single issue o f State bonds w ill serve to illu strate a vivid and ou tstanding exam ple o f the practical p roblem s involved w ith reference to stora ge and ph ysical operations nec essary to service the m aturing cou pons and bonds o f th at particu lar issue. In A p ril last the State o f C alifornia sold an issue o f $190 m illion o f bonds o f the denom ination o f $1,000 each— 190.000 separate pieces if all w ere taken in coupon Bonds. R egistered bonds w ere also available. On the basis o f coupon bonds, 27,200 separate bonds m ature in the first five years and the detaching o f 1.930.000 cou pon s w ill be n ecessary to collect the interest on these bonds du rin g the sam e five-yea r period. This issue of bonds at inception, if stacked one on top of the other would make a pile approximately 99 feet high and stacked solid in a vault compartment a space six and one-half feet long, four feet wide, and eight feet high would be re quired. The cubic content of such bonds is approximately 208 cubic feet. I f these bonds w ere issued in the denom ination o f $5,000, the cubic con ten t w ould be reduced to a p p roxim a te ly 41.6 f e e t and th e pile w ould be reduced to a p p roxim ately 19.8 feet, a reduction o f 80# in both instances T he C a liforn ia bonds are o f the “ w in g ” type, th at is, one fla t sheet w ith cou pon s to the rig h t side o f the indenture. It has been estim ated that the verification and cou nt o f coupons fro m this ty p e o f bond w ould be at the rate o f 100 cou pon s in five and o n e-h a lf m inutes, and to detach and v e rify the cou nt o f cou pon s f o r one six-m on th period fro m the entire is sue w ould requ ire about 160 man hours. The “ b ook ” ty p e o f bond, that is, a sheet o f coupons attached to the sheet s e ttin g fo rth the indenture, re quires th at each cou pon be detached in a separate operation , and in such cases con siderably m ore tim e w ould be n ecessary. H ow lon g w ill it be b efore the cubic con ten t o f new issues o f State and m unicipal bonds w ill absorb existing va u lt fa c ilitie s ? T h ere should be m ore offerin gs o f bonds o f la rg er de nom inations and g rea ter efforts should be made to b rin g the availability o f such den om in ation s to the attention o f the in vestin g public. The w riter has som e practical kn ow ledge o f the stora g e and op era t in g problem s involved, h avin g served the Federal Reserve Bank o f New Y ork fo r n early 30 years, the last ten yea rs previous to retirem ent hav in g been in the ca p a city o f General A uditor. (S ig n ed ) W IL L IA M H. D IL L IS T IN , Bank Consultant. P aterson, N. J. May 27, 1901.
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