Pursuant to the authority contained in Section 763(g) of the Dodd-Frank Act, the US Securities and Exchange Commission (SEC) in Release 34-63236 has proposed a new Rule 9j-1 under the Securities Exchange Act of 1934, as amended (Exchange Act). This new rule extends the general anti-fraud and anti-manipulation provisions of the federal securities laws to explicitly reach misconduct that affects the exercise of any right or performance of any obligation (including required on-going payments and deliveries that the SEC believes characterize security-based swaps) under any security-based swap or the avoidance of such exercise or performance. These general anti-fraud and anti-manipulation provisions were already applicable to the offer, purchase and sale of security-based swaps since these are “securities” under Section 3(a)(10) of the Exchange Act and Section 2(a)(1) of the Securities Act of 1933, as amended (Securities Act) as a result of amendments contained in Section 761(a)(2) of the Dodd-Frank Act. The extension of these provisions is required in the SEC’s view due to ongoing rights and obligations under a security-based swap that can affect the cash flows, payments and other deliveries specific to security-based swaps.
The text of the proposed rule is as follows:
§240.9j-1. Prohibition against fraud, manipulation, and deception in connection with security-based swaps.
It shall be unlawful for any person, directly or indirectly, in connection with the offer, purchase or sale of any security-based swap, the exercise of any right or performance of any obligation under a security-based swap, or the avoidance of such exercise or performance,
(a) To employ any device, scheme, or artifice to defraud or manipulate;
(b) To knowingly or recklessly make any untrue statement of a material fact, or to knowingly or recklessly omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading;
(c) To obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading; or
(d) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person.
The proposed rule would reach both affirmative misconduct as well as misconduct that avoids the exercise of any right or the performance of an obligation under a security-based swap. Clauses (a) and (b) of the proposed rule require scienter, just as Section 10(b) and Rule 10b-5 of the Exchange Act and Section 17(a)(1) of the Securities Act do. In contrast, and like Securities Act Sections 17(a)(2) and (a)(3), clauses (c) and (d) of the proposed rule do not require scienter. Notably, clause (a) specifically includes the term “manipulate,” even though this is not expressly contained in Rule 10b-5 (although the SEC cites applicable case law including “manipulation” under Rule 10b-5 as justification for this addition), and clause (b) includes “knowingly or recklessly” again on the basis that courts have included scienter for corresponding misconduct under Rule 10b-5.
The SEC’s Release 34-63236 also solicits comments from the public on a number of related matters which should be received by the SEC on or before the date that is 45 days after publication in the Federal Register.
For more information about the proposed Rule 9j-1 or any other matter raised in this Legal Update, please contact J. Paul Forrester at +1 312 701 7366.