12 C.F.R. PART 703—INVESTMENT AND DEPOSIT ACTIVITIES
Title 12 - Banks and Banking
Authority: 12 U.S.C. 1757(7), 1757(8), 1757(15).
Source: 68 FR 32960, June 3, 2003, unless otherwise noted.
(a) This part interprets several of the provisions of Sections 107(7), 107(8), and 107(15) of the Federal Credit Union Act (Act), 12 U.S.C. 1757(7), 1757(8), 1757(15), which list those securities, deposits, and other obligations in which a Federal credit union may invest. Part 703 identifies certain investments and deposit activities permissible under the Act and prescribes regulations governing those investments and deposit activities on the basis of safety and soundness concerns. Additionally, part 703 identifies and prohibits certain investments and deposit activities. Investments and deposit activities that are permissible under the Act and not prohibited or otherwise regulated by part 703 remain permissible for Federal credit unions. (b) This part does not apply to: (1) Investment in loans to members and related activities, which is governed by §§701.21, 701.22, 701.23, and part 723 of this chapter; (2) The purchase of real estate-secured loans pursuant to Section 107(15)(A) of the Act, which is governed by §701.23 of this chapter; (3) Investment in credit union service organizations, which is governed by part 712 of this chapter; (4) Investment in fixed assets, which is governed by §701.36 of this chapter; (5) Investment by corporate credit unions, which is governed by part 704 of this chapter; or (6) Investment activity by State-chartered credit unions, except as provided in §741.3(a)(2) and §741.219 of this chapter. [68 FR 32960, June 3, 2003, as amended at 69 FR 27828, May 17, 2004] The following definitions apply to this part: Adjusted trading means selling an investment to a counterparty at a price above its current fair value and simultaneously purchasing or committing to purchase from the counterparty another investment at a price above its current fair value. Associated personnel means a person engaged in the investment banking or securities business who is directly or indirectly controlled by a National Association of Securities Dealers (NASD) member, whether or not this person is registered or exempt from registration with NASD. Associated personnel includes every sole proprietor, partner, officer, director, or branch manager of any NASD member. Banker's acceptance means a time draft that is drawn on and accepted by a bank and that represents an irrevocable obligation of the bank. Bank note means a direct, unconditional, and unsecured general obligation of a bank that ranks equally with all other senior unsecured indebtedness of the bank, except deposit liabilities and other obligations that are subject to any priorities or preferences. Borrowing repurchase transaction means a transaction in which the Federal credit union agrees to sell a security to a counterparty and to repurchase the same or an identical security from that counterparty at a specified future date and at a specified price. Call means an option that gives the holder the right to buy a specified quantity of a security at a specified price during a fixed time period. Collateralized Mortgage Obligation (CMO) means a multi-class mortgage related security. Collective investment fund means a fund maintained by a national bank under 12 CFR part 9 (Comptroller of the Currency's regulations). Commercial mortgage related security means a mortgage related security, as defined below, except that it is collateralized entirely by commercial real estate, such as a warehouse or office building, or a multi-family dwelling consisting of more than four units. Counterparty means the party on the other side of the transaction. Custodial Agreement means a contract in which one party agrees to hold securities in safekeeping for others. Delivery versus payment means payment for an investment must occur simultaneously with its delivery. Deposit note means an obligation of a bank that is similar to a certificate of deposit but is rated. Derivatives means any derivative instrument as defined under generally accepted accounting principles (GAAP). Embedded option means a characteristic of an investment that gives the issuer or holder the right to alter the level and timing of the cash flows of the investment. Embedded options include call and put provisions and interest rate caps and floors. Since a prepayment option in a mortgage is a type of call provision, a mortgage-backed security composed of mortgages that may be prepaid is an example of an investment with an embedded option. Eurodollar deposit means a U.S. dollar-denominated deposit in a foreign branch of a United States depository institution. European financial options contract means an option that can be exercised only on its expiration date. Exchangeable Collateralized Mortgage Obligation means a class of a collateralized mortgage obligation (CMO) that, at the time of purchase, represents beneficial ownership interests in a combination of two or more underlying classes of the same CMO structure. The holder of an exchangeable CMO may pay a fee and take delivery of the underlying classes of the CMO. Fair value means the amount at which an instrument could be exchanged in a current, arms-length transaction between willing parties, as opposed to a forced or liquidation sale. Financial options contract means an agreement to make or take delivery of a standardized financial instrument upon demand by the holder of the contract as specified in the agreement. Immediate family member means a spouse or other family member living in the same household. Industry-recognized information provider means an organization that obtains compensation by providing information to investors and receives no compensation for the purchase or sale of investments. Investment means any security, obligation, account, deposit, or other item authorized for purchase by a Federal credit union under Sections 107(7), 107(8), or 107(15) of the Act, or this part, other than loans to members. Investment repurchase transaction means a transaction in which an investor agrees to purchase a security from a counterparty and to resell the same or an identical security to that counterparty at a specified future date and at a specified price. Maturity means the date the last principal amount of a security is scheduled to come due and does not mean the call date or the weighted average life of a security. Mortgage related security means a security as defined in Section 3(a)(41) of the Securities Exchange Act of 1934 (15 U.S.C. 78c(a)(41)), e.g., a privately-issued security backed by first lien mortgages secured by real estate upon which is located a dwelling, mixed residential and commercial structure, residential manufactured home, or commercial structure, that is rated in one of the two highest rating categories by at least one nationally-recognized statistical rating organization. Mortgage servicing rights means a contractual obligation to perform mortgage servicing and the right to receive compensation for performing those services. Mortgage servicing is the administration of a mortgage loan, including collecting monthly payments and fees, providing recordkeeping and escrow functions, and, if necessary curing defaults and foreclosing. Negotiable instrument means an instrument that may be freely transferred from the purchaser to another person or entity by delivery, or endorsement and delivery, with full legal title becoming vested in the transferee. Net worth means the retained earnings balance of the credit union at quarter end as determined under generally accepted accounting principles and as further defined in §702.2(f) of this chapter. Official means any member of a Federal credit union's board of directors, credit committee, supervisory committee, or investment-related committee. Ordinary care means the degree of care, which an ordinarily prudent and competent person engaged in the same line of business or endeavor should exercise under similar circumstances. Pair-off transaction means an investment purchase transaction that is closed or sold on, or before the settlement date. In a pair-off, an investor commits to purchase an investment, but then pairs-off the purchase with a sale of the same investment before or on the settlement date. Put means an option that gives the holder the right to sell a specified quantity of a security at a specified price during a fixed time period. Registered investment company means an investment company that is registered with the Securities and Exchange Commission under the Investment Company Act of 1940 (15 U.S.C. 80a). Examples of registered investment companies are mutual funds and unit investment trusts. Regular way settlement means delivery of a security from a seller to a buyer within the time frame that the securities industry has established for immediate delivery of that type of security. For example, regular way settlement of a Treasury security includes settlement on the trade date (cash), the business day following the trade date (regular way), and the second business day following the trade date (skip day). Residual interest means the remainder cash flows from collateralized mortgage obligations/real estate mortgage investment conduits (CMOs/REMICs), or other mortgage-backed security transaction, after payments due bondholders and trust administrative expenses have been satisfied. Securities lending means lending a security to a counterparty, either directly or through an agent, and accepting collateral in return. Security means a share, participation, or other interest in property or in an enterprise of the issuer or an obligation of the issuer that: (1) Either is represented by an instrument issued in bearer or registered form or, if not represented by an instrument, is registered in books maintained to record transfers by or on behalf of the issuer; (2) Is of a type commonly dealt in on securities exchanges or markets or, when represented by an instrument, is commonly recognized in any area in which it is issued or dealt in as a medium for investment; and (3) Either is one of a class or series or by its terms is divisible into a class or series of shares, participations, interests, or obligations. Senior management employee means a Federal credit union's chief executive officer (typically this individual holds the title of President or Treasurer/Manager), an assistant chief executive officer, and the chief financial officer. Small business related security means a security as defined in Section 3(a)(53) of the Securities Exchange Act of 1934 (15 U.S.C. 78c(a)(53), e.g., a security that is rated in 1 of the 4 highest rating categories by at least one nationally recognized statistical rating organization, and represents an interest in one or more promissory notes or leases of personal property evidencing the obligation of a small business concern and originated by an insured depository institution, insured credit union, insurance company, or similar institution which is supervised and examined by a Federal or State authority, or a finance company or leasing company. This definition does not include Small Business Administration securities permissible under §107(7) of the Act. Weighted average life means the weighted-average time to the return of a dollar of principal, calculated by multiplying each portion of principal received by the time at which it is expected to be received (based on a reasonable and supportable estimate of that time) and then summing and dividing by the total amount of principal. When-issued trading of securities means the buying and selling of securities in the period between the announcement of an offering and the issuance and payment date of the securities. Yankee dollar deposit means a deposit in a United States branch of a foreign bank licensed to do business in the State in which it is located, or a deposit in a State-chartered, foreign controlled bank. Zero coupon investment means an investment that makes no periodic interest payments but instead is sold at a discount from its face value. The holder of a zero coupon investment realizes the rate of return through the gradual appreciation of the investment, which is redeemed at face value on a specified maturity date. [68 FR 32960, June 3, 2003, as amended at 69 FR 39831, July 1, 2004] A Federal credit union's board of directors must establish written investment policies consistent with the Act, this part, and other applicable laws and regulations and must review the policy at least annually. These policies may be part of a broader, asset-liability management policy. Written investment policies must address the following: (a) The purposes and objectives of the Federal credit union's investment activities; (b) The characteristics of the investments the Federal credit union may make including the issuer, maturity, index, cap, floor, coupon rate, coupon formula, call provision, average life, and interest rate risk; (c) How the Federal credit union will manage interest rate risk; (d) How the Federal credit union will manage liquidity risk; (e) How the Federal credit union will manage credit risk including specifically listing institutions, issuers, and counterparties that may be used, or criteria for their selection, and limits on the amounts that may be invested with each; (f) How the Federal credit union will manage concentration risk, which can result from dealing with a single or related issuers, lack of geographic distribution, holding obligations with similar characteristics like maturities and indexes, holding bonds having the same trustee, and holding securitized loans having the same originator, packager, or guarantor; (g) Who has investment authority and the extent of that authority. Those with authority must be qualified by education or experience to assess the risk characteristics of investments and investment transactions. Only officials or employees of the Federal credit union may be voting members of an investment-related committee; (h) The broker-dealers the Federal credit union may use; (i) The safekeepers the Federal credit union may use; (j) How the Federal credit union will handle an investment that, after purchase, is outside of board policy or fails a requirement of this part; and (k) How the Federal credit union will conduct investment trading activities, if applicable, including addressing: (1) Who has purchase and sale authority; (2) Limits on trading account size; (3) Allocation of cash flow to trading accounts; (4) Stop loss or sale provisions; (5) Dollar size limitations of specific types, quantity and maturity to be purchased; (6) Limits on the length of time an investment may be inventoried in a trading account; and (7) Internal controls, including segregation of duties. (a) Federal credit unions with assets of $10,000,000 or greater must comply with all generally accepted accounting principles applicable to reports or statements required to be filed with NCUA. Federal credit unions with assets less than $10,000,000 are encouraged to do the same, but are not required to do so. (b) A Federal credit union must maintain documentation for each investment transaction for as long as it holds the investment and until the documentation has been audited in accordance with §701.12 of this chapter and examined by NCUA. The documentation should include, where applicable, bids and prices at purchase and sale and for periodic updates, relevant disclosure documents or a description of the security from an industry-recognized information provider, financial data, and tests and reports required by the Federal credit union's investment policy and this part. (c) A Federal credit union must maintain documentation its board of directors used to approve a broker-dealer or a safekeeper for as long as the broker-dealer or safekeeper is approved and until the documentation has been audited in accordance with §701.12 of this chapter and examined by NCUA. (d) A Federal credit union must obtain an individual confirmation statement from each broker-dealer for each investment purchased or sold. [68 FR 32960, June 3, 2003, as amended at 69 FR 27828, May 17, 2004] (a) Except as provided in paragraph (b) of this section, a Federal credit union must retain discretionary control over its purchase and sale of investments. A Federal credit union has not delegated discretionary control to an investment adviser when the Federal credit union reviews all recommendations from investment advisers and is required to authorize a recommended purchase or sale transaction before its execution. (b)(1) A Federal credit union may delegate discretionary control over the purchase and sale of investments to a person other than a Federal credit union official or employee: (i) Provided the person is an investment adviser registered with the Securities and Exchange Commission under the Investment Advisers Act of 1940 (15 U.S.C. 80b); and (ii) In an amount up to 100 percent of its net worth in the aggregate at the time of delegation. (2) At least annually, the Federal credit union must adjust the amount of funds held under discretionary control to comply with the 100 percent of net worth cap. The Federal credit union's board of directors must receive notice as soon as possible, but no later than the next regularly scheduled board meeting, of the amount exceeding the net worth cap and notify in writing the appropriate regional director within 5 days after the board meeting. The credit union must develop a plan to comply with the cap within a reasonable period of time. (3) Before transacting business with an investment adviser, a Federal credit union must analyze his or her background and information available from State or Federal securities regulators, including any enforcement actions against the adviser, associated personnel, and the firm for which the adviser works. (c) A Federal credit union may not compensate an investment adviser with discretionary control over the purchase and sale of investments on a per transaction basis or based on capital gains, capital appreciation, net income, performance relative to an index, or any other incentive basis. (d) A Federal credit union must obtain a report from its investment adviser at least monthly that details the investments under the adviser's control and their performance. A Federal credit union must conduct and document a credit analysis on an investment and the issuing entity before purchasing it, except for investments issued or fully guaranteed as to principal and interest by the U.S. government or its agencies, enterprises, or corporations or fully insured (including accumulated interest) by the National Credit Union Administration or the Federal Deposit Insurance Corporation. A Federal credit union must update this analysis at least annually for as long as it holds the investment. A Federal credit union's board of directors must receive notice as soon as possible, but no later than the next regularly scheduled board meeting, of any investment that either is outside of board policy after purchase or has failed a requirement of this part. The board of directors must document its action regarding the investment in the minutes of the board meeting, including a detailed explanation of any decision not to sell it. The Federal credit union must notify in writing the appropriate regional director of an investment that has failed a requirement of this part within 5 days after the board meeting. (a) A Federal credit union may purchase and sell investments through a broker-dealer as long as the broker-dealer is registered as a broker-dealer with the Securities and Exchange Commission under the Securities Exchange Act of 1934 (15 U.S.C. 78a et seq.) or is a depository institution whose broker-dealer activities are regulated by a Federal or State regulatory agency. (b) Before purchasing an investment through a broker-dealer, a Federal credit union must analyze and annually update the following: (1) The background of any sales representative with whom the Federal credit union is doing business; (2) Information available from State or Federal securities regulators and securities industry self-regulatory organizations, such as the National Association of Securities Dealers and the North American Securities Administrators Association, about any enforcement actions against the broker-dealer, its affiliates, or associated personnel; and (3) If the broker-dealer is acting as the Federal credit union's counterparty, the ability of the broker-dealer and its subsidiaries or affiliates to fulfill commitments, as evidenced by capital strength, liquidity, and operating results. The Federal credit union should consider current financial data, annual reports, reports of nationally-recognized statistical rating organizations, relevant disclosure documents, and other sources of financial information. (c) The requirements of paragraph (a) of this section do not apply when the Federal credit union purchases a certificate of deposit or share certificate directly from a bank, credit union, or other depository institution. [68 FR 32960, June 3, 2003, as amended at 69 FR 39831, July 1, 2004] (a) A Federal credit union's purchased investments and repurchase collateral must be in the Federal credit union's possession, recorded as owned by the Federal credit union through the Federal Reserve Book-Entry System, or held by a board-approved safekeeper under a written custodial agreement that requires the safekeeper to exercise, at least, ordinary care. (b) Any safekeeper used by a Federal credit union must be regulated and supervised by either the Securities and Exchange Commission, a Federal or State depository institution regulatory agency, or a State trust company regulatory agency. (c) A Federal credit union must obtain and reconcile monthly a statement of purchased investments and repurchase collateral held in safekeeping. (d) Annually, the Federal credit union must analyze the ability of the safekeeper to fulfill its custodial responsibilities, as evidenced by capital strength, liquidity, and operating results. The Federal credit union should consider current financial data, annual reports, reports of nationally-recognized statistical rating organizations, relevant disclosure documents, and other sources of financial information. [68 FR 32960, June 3, 2003, as amended at 69 FR 39831, July 1, 2004] (a) At least quarterly, a Federal credit union must prepare a written report listing all of its shares and deposits in banks, credit unions, and other depository institutions, that have one or more of the following features: (1) Embedded options; (2) Remaining maturities greater than 3 years; or (3) Coupon formulas that are related to more than one index or are inversely related to, or multiples of, an index. (b) The requirement of paragraph (a) of this section does not apply to shares and deposits that are securities. (c) If a Federal credit union does not have an investment-related committee, then each member of its board of directors must receive a copy of the report described in paragraph (a) of this section. If a Federal credit union has an investment-related committee, then each member of the committee must receive a copy of the report, and each member of the board must receive a summary of the information in the report. (a) Before purchasing or selling a security, a Federal credit union must obtain either price quotations on the security from at least two broker-dealers or a price quotation on the security from an industry-recognized information provider. This requirement to obtain price quotations does not apply to new issues purchased at par or at original issue discount. (b) At least monthly, a Federal credit union must determine the fair value of each security it holds. It may determine fair value by obtaining a price quotation on the security from an industry-recognized information provider, a broker-dealer, or a safekeeper. (c) At least annually, the Federal credit union's supervisory committee or its external auditor must independently assess the reliability of monthly price quotations received from a broker-dealer or safekeeper. The Federal credit union's supervisory committee or external auditor must follow generally accepted auditing standards, which require either re-computation or reference to market quotations. (d) If a Federal credit union is unable to obtain a price quotation required by this section for a particular security, then it may obtain a quotation for a security with substantially similar characteristics. (a) At least monthly, a Federal credit union must prepare a written report setting forth, for each security held, the fair value and dollar change since the prior month-end, with summary information for the entire portfolio. (b) At least quarterly, a Federal credit union must prepare a written report setting forth the sum of the fair values of all fixed and variable rate securities held that have one or more of the following features: (1) Embedded options; (2) Remaining maturities greater than 3 years; or (3) Coupon formulas that are related to more than one index or are inversely related to, or multiples of, an index. (c) Where the amount calculated in paragraph (b) of this section is greater than a Federal credit union's net worth, the report described in that paragraph must provide a reasonable and supportable estimate of the potential impact, in percentage and dollar terms, of an immediate and sustained parallel shift in market interest rates of plus and minus 300 basis points on: (1) The fair value of each security in the Federal credit union's portfolio; (2) The fair value of the Federal credit union's portfolio as a whole; and (3) The Federal credit union's net worth. (d) If the Federal credit union does not have an investment-related committee, then each member of its board of directors must receive a copy of the reports described in paragraphs (a) through (c) of this section. If the Federal credit union has an investment-related committee, then each member of the committee must receive copies of the reports, and each member of the board of directors must receive a summary of the information in the reports. (a) Regular way settlement and delivery versus payment basis. A Federal credit union may only contract for the purchase or sale of a security as long as the delivery of the security is by regular way settlement and the transaction is accomplished on a delivery versus payment basis. (b) Federal funds. A Federal credit union may sell Federal funds to an institution described in Section 107(8) of the Act and credit unions, as long as the interest or other consideration received from the financial institution is at the market rate for Federal funds transactions. (c) Investment repurchase transaction. A Federal credit union may enter into an investment repurchase transaction so long as: (1) Any securities the Federal credit union receives are permissible investments for Federal credit unions, the Federal credit union, or its agent, either takes physical possession or control of the repurchase securities or is recorded as owner of them through the Federal Reserve Book Entry Securities Transfer System, the Federal credit union, or its agent, receives a daily assessment of their market value, including accrued interest, and the Federal credit union maintains adequate margins that reflect a risk assessment of the securities and the term of the transaction; and (2) The Federal credit union has entered into signed contracts with all approved counterparties. (d) Borrowing repurchase transaction. A Federal credit union may enter into a borrowing repurchase transaction so long as: (1) The transaction meets the requirements of paragraph (c) of this section; (2) Any cash the Federal credit union receives is subject to the borrowing limit specified in Section 107(9) of the Act, and any investments the Federal credit union purchases with that cash are permissible for Federal credit unions; and (3) The investments referenced in paragraph (d)(2) of this section mature no later than the maturity of the borrowing repurchase transaction. (e) Securities lending transaction. A Federal credit union may enter into a securities lending transaction so long as: (1) The Federal credit union receives written confirmation of the loan; (2) Any collateral the Federal credit union receives is a legal investment for Federal credit unions, the Federal credit union, or its agent, obtains a first priority security interest in the collateral by taking physical possession or control of the collateral, or is recorded as owner of the collateral through the Federal Reserve Book Entry Securities Transfer System; and the Federal credit union, or its agent, receives a daily assessment of the market value of the collateral, including accrued interest, and maintains adequate margin that reflects a risk assessment of the collateral and the term of the loan; (3) Any cash the Federal credit union receives is subject to the borrowing limit specified in Section 107(9) of the Act, and any investments the Federal credit union purchases with that cash are permissible for Federal credit unions and mature no later than the maturity of the transaction; and (4) The Federal credit union has executed a written loan and security agreement with the borrower. (f)(1) Trading securities. A Federal credit union may trade securities, including engaging in when-issued trading and pair-off transactions, so long as the Federal credit union can show that it has sufficient resources, knowledge, systems, and procedures to handle the risks. (2) A Federal credit union must record any security it purchases or sells for trading purposes at fair value on the trade date. The trade date is the date the Federal credit union commits, orally or in writing, to purchase or sell a security. (3) At least monthly, the Federal credit union must give its board of directors or investment-related committee a written report listing all purchase and sale transactions of trading securities and the resulting gain or loss on an individual basis. (a) Variable rate investment. A Federal credit union may invest in a variable rate investment, as long as the index is tied to domestic interest rates and not, for example, to foreign currencies, foreign interest rates, or domestic or foreign commodity prices, equity prices, or inflation rates. For purposes of this part, the U.S. dollar-denominated London Interbank Offered Rate (LIBOR) is a domestic interest rate. (b) Corporate credit union shares or deposits. A Federal credit union may purchase shares or deposits in a corporate credit union, except where the NCUA Board has notified it that the corporate credit union is not operating in compliance with part 704 of this chapter. A Federal credit union's aggregate amount of paid-in capital and membership capital, as defined in part 704 of this chapter, in one corporate credit union is limited to two percent of its assets measured at the time of investment or adjustment. A Federal credit union's aggregate amount of paid-in capital and membership capital in all corporate credit unions is limited to four percent of its assets measured at the time of investment or adjustment. (c) Registered investment company. A Federal credit union may invest in a registered investment company or collective investment fund, as long as the prospectus of the company or fund restricts the investment portfolio to investments and investment transactions that are permissible for Federal credit unions. (d) Collateralized mortgage obligation/real estate mortgage investment conduit. A Federal credit union may invest in a fixed or variable rate collateralized mortgage obligation/real estate mortgage investment conduit. (e) Municipal security. A Federal credit union may purchase and hold a municipal security, as defined in Section 107(7)(K) of the Act, only if a nationally-recognized statistical rating organization has rated it in one of the four highest rating categories. (f) Instruments issued by institutions described in Section 107(8) of the Act. A Federal credit union may invest in the following instruments issued by an institution described in Section 107(8) of the Act: (1) Yankee dollar deposits; (2) Eurodollar deposits; (3) Banker's acceptances; (4) Deposit notes; and (5) Bank notes with original weighted average maturities of less than 5 years. (g) European financial options contract. A Federal credit union may purchase a European financial options contract or a series of European financial options contracts only to fund the payment of dividends on member share certificates where the dividend rate is tied to an equity index provided: (1) The option and dividend rate are based on a domestic equity index; (2) Proceeds from the options are used only to fund dividends on the equity-linked share certificates; (3) Dividends on the share certificates are derived solely from the change in the domestic equity index over a specified period; (4) The options' expiration dates are no later than the maturity date of the share certificate. (5) The certificate may be redeemed prior to the maturity date only upon the member's death or termination of the corresponding option; (6) The total costs associated with the purchase of the option is known by the Federal credit union prior to effecting the transaction; (7) The options are purchased at the same time the certificate is issued to the member. (8) The counterparty to the transaction is a domestic counterparty and has been approved by the Federal credit union's board of directors; (9) The counterparty to the transaction: (i) Has a long-term, senior, unsecured debt rating from a nationally-recognized statistical rating organization of AA− (or equivalent) or better at the time of the transaction, and the contract between the counterparty and the Federal credit union specifies that if the long-term, senior, unsecured debt rating declines below AA− (or equivalent) then the counterparty agrees to post collateral with an independent party in an amount fully securing the value of the option; or (ii) Posts collateral with an independent party in an amount fully securing the value of the option if the counterparty does not have a long-term, senior unsecured debt rating from a nationally-recognized statistical rating organization. (10) Any collateral posted by the counterparty is a permissible investment for Federal credit unions and is valued daily by an independent third party along with the value of the option; (11) The aggregate amount of equity-linked member share certificates does not exceed the credit union's net worth; (12) The terms of the share certificate include a guarantee that there can be no loss of principal to the member regardless of changes in the value of the option unless the certificate is redeemed prior to maturity; and (13) The Federal credit union provides its board of directors with a monthly report detailing at a minimum: (i) The dollar amount of outstanding equity-linked share certificates; (ii) Their maturities; and (iii) The fair value of the options as determined by an independent third party. [68 FR 32960, June 3, 2003, as amended at 69 FR 39831, July 1, 2004] Adjusted trading or short sales. A Federal credit union may not engage in adjusted trading or short sales. (a) Derivatives. A Federal credit union may not purchase or sell financial derivatives, such as futures, options, interest rate swaps, or forward rate swaps. This prohibition does not apply to: (1) Any derivatives permitted under §§701.21(i) and 703.14(g) of this chapter; (2) Embedded options not required under GAAP to be accounted for separately from the host contract; and (3) Interest rate lock commitments or forward sales commitments made in connection with a loan originated by the Federal credit union. (b) Zero coupon investments. A Federal credit union may not purchase a zero coupon investment with a maturity date that is more than 10 years from the settlement date; (c) Mortgage servicing rights. A Federal credit union may not purchase mortgage servicing rights as an investment but may perform mortgage servicing functions as a financial service for a member as long as the mortgage loan is owned by a member; (d) A Federal credit union may not purchase a commercial mortgage related security that is not otherwise permitted by Section 107(7)(E) of the Act; and (e) Stripped mortgage backed securities (SMBS). A Federal credit union may not invest in SMBS or securities that represent interests in SMBS except as described in paragraphs (1) and (3) below. (1) A Federal credit union may invest in and hold exchangeable collateralized mortgage obligations (exchangeable CMOs) representing beneficial ownership interests in one or more interest-only classes of a CMO (IO CMOs) or principal-only classes of a CMO (PO CMOs), but only if: (i) At the time of purchase, the ratio of the market price to the remaining principal balance is between .8 and 1.2, meaning that the discount or premium of the market price to par must be less than 20 points; (ii) The offering circular or other official information available at the time of purchase indicates that the notional principal on each underlying IO CMO should decline at the same rate as the principal on one or more of the underlying non-IO CMOs, and that the principal on each underlying PO CMO should decline at the same rate as the principal, or notional principal, on one or more of the underlying non-PO CMOs; and (iii) The credit union staff has the expertise dealing with exchangeable CMOs to apply the conditions in paragraphs (e)(1)(i) and (e)(1)(ii) of this section. (2) A Federal credit union that invests in an exchangeable CMO may exercise the exchange option only if all of the underlying CMOs are permissible investments for that credit union. (3) A Federal credit union may accept an exchangeable CMO representing beneficial ownership interests in one or more IO CMOs or PO CMOs as an asset associated with an investment repurchase transaction or as collateral in a securities lending transaction. When the exchangeable CMO is associated with one of these two transactions, it need not conform to the conditions in paragraphs (e)(1)(i) and (ii) of this section. (f) Other prohibited investments. A Federal credit union may not purchase residual interests in collateralized mortgage obligations, real estate mortgage investment conduits, or small business related securities. [68 FR 32960, June 3, 2003, as amended at 69 FR 39832, July 1, 2004] (a) A Federal credit union's officials and senior management employees, and their immediate family members, may not receive anything of value in connection with its investment transactions. This prohibition also applies to any other employee, such as an investment officer, if the employee is directly involved in investments, unless the Federal credit union's board of directors determines that the employee's involvement does not present a conflict of interest. This prohibition does not include compensation for employees. (b) A Federal credit union's officials and employees must conduct all transactions with business associates or family members that are not specifically prohibited by paragraph (a) of this section at arm's length and in the Federal credit union's best interest. (a) Subject to safety and soundness considerations, a Federal credit union may hold a CMO/REMIC residual, stripped mortgage-backed securities, or zero coupon security with a maturity greater than 10 years, if it purchased the investment: (1) Before December 2, 1991; or (2) On or after December 2, 1991, but before January 1, 1998, if for the purpose of reducing interest rate risk and if the Federal credit union meets the following: (i) The Federal credit union has a monitoring and reporting system in place that provides the documentation necessary to evaluate the expected and actual performance of the investment under different interest rate scenarios; (ii) The Federal credit union uses the monitoring and reporting system to conduct and document an analysis that shows, before purchase, that the proposed investment will reduce its interest rate risk; (iii) After purchase, the Federal credit union evaluates the investment at least quarterly to determine whether or not it actually has reduced the interest rate risk; and (iv) The Federal credit union accounts for the investment consistent with generally accepted accounting principles. (b) All grandfathered investments are subject to the valuation and monitoring requirements of §§703.10, 703.11, and 703.12 of this part. (a) Under the investment pilot program, NCUA will permit a limited number of Federal credit unions to engage in investment activities prohibited by this part but permitted by the Act. (b) Except as provided in paragraph (c) of this section, before a Federal credit union may engage in additional activities it must obtain written approval from NCUA. To obtain approval, a Federal credit union must submit a request to its regional director that addresses the following items: (1) Certification that the Federal credit union is “well-capitalized” under part 702 of this chapter; (2) Board policies approving the activities and establishing limits on them; (3) A complete description of the activities, with specific examples of how they will benefit the Federal credit union and how they will be conducted; (4) A demonstration of how the activities will affect the Federal credit union's financial performance, risk profile, and asset-liability management strategies; (5) Examples of reports the Federal credit union will generate to monitor the activities; (6) Projections of the associated costs of the activities, including personnel, computer, audit, and so forth; (7) Descriptions of the internal systems that will measure, monitor, and report the activities; (8) Qualifications of the staff and officials responsible for implementing and overseeing the activities; and (9) Internal control procedures that will be implemented, including audit requirements. (c) A third-party seeking approval of an investment pilot program must submit a request to the Director of the Office of Capital Markets and Planning that addresses the following items: (1) A complete description of the activities with specific examples of how a credit union will conduct and account for them, and how they will benefit a Federal credit union; (2) A description of any risks to a Federal credit union from participating in the program; and (3) Contracts that must be executed by the Federal credit union. (d) A Federal credit union need not obtain individual written approval to engage in investment activities prohibited by this part but permitted by statute where the activities are part of a third-party investment program that NCUA has approved under this section. [68 FR 32960, June 3, 2003, as amended at 69 FR 39832, July 1, 2004; 70 FR 55517, Sept. 22, 2005]
Title 12: Banks and Banking
PART 703—INVESTMENT AND DEPOSIT ACTIVITIES
Section Contents
§ 703.1 Purpose and scope.
§ 703.2 Definitions.
§ 703.3 Investment policies.
§ 703.4 Recordkeeping and documentation requirements.
§ 703.5 Discretionary control over investments and investment advisers.
§ 703.6 Credit analysis.
§ 703.7 Notice of non-compliant investments.
§ 703.8 Broker-dealers.
§ 703.9 Safekeeping of investments.
§ 703.10 Monitoring non-security investments.
§ 703.11 Valuing securities.
§ 703.12 Monitoring securities.
§ 703.13 Permissible investment activities.
§ 703.14 Permissible investments.
§ 703.15 Prohibited investment activities.
§ 703.16 Prohibited investments.
§ 703.17 Conflicts of interest.
§ 703.18 Grandfathered investments.
§ 703.19 Investment pilot program.
§ 703.1 Purpose and scope.
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§ 703.2 Definitions.
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§ 703.3 Investment policies.
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§ 703.4 Recordkeeping and documentation requirements.
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§ 703.5 Discretionary control over investments and investment advisers.
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§ 703.6 Credit analysis.
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§ 703.7 Notice of non-compliant investments.
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§ 703.8 Broker-dealers.
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§ 703.9 Safekeeping of investments.
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§ 703.10 Monitoring non-security investments.
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§ 703.11 Valuing securities.
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§ 703.12 Monitoring securities.
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§ 703.13 Permissible investment activities.
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§ 703.14 Permissible investments.
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§ 703.15 Prohibited investment activities.
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§ 703.16 Prohibited investments.
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§ 703.17 Conflicts of interest.
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§ 703.18 Grandfathered investments.
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§ 703.19 Investment pilot program.
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