Disclosure to Shareholders; Accounting and Reporting Requirements; Federal Agricultural Mortgage Corporation General Provisions; Federal Agricultural Mortgage Corporation Governance; Federal Agricultural Mortgage Corporation Funding and Fiscal Affairs; Federal Agricultural Mortgage Corporation Disclosure and Reporting Requirements, 40635-40651 [05-13831]
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40635
Rules and Regulations
Federal Register
Vol. 70, No. 134
Thursday, July 14, 2005
This section of the FEDERAL REGISTER
contains regulatory documents having general
applicability and legal effect, most of which
are keyed to and codified in the Code of
Federal Regulations, which is published under
50 titles pursuant to 44 U.S.C. 1510.
The Code of Federal Regulations is sold by
the Superintendent of Documents. Prices of
new books are listed in the first FEDERAL
REGISTER issue of each week.
FARM CREDIT ADMINISTRATION
12 CFR Parts 620, 621, 650, 651, 652,
653, 654, and 655
RIN 3052–AC18
Disclosure to Shareholders;
Accounting and Reporting
Requirements; Federal Agricultural
Mortgage Corporation General
Provisions; Federal Agricultural
Mortgage Corporation Governance;
Federal Agricultural Mortgage
Corporation Funding and Fiscal
Affairs; Federal Agricultural Mortgage
Corporation Disclosure and Reporting
Requirements
Farm Credit Administration.
Final rule.
AGENCY:
ACTION:
SUMMARY: The Farm Credit
Administration (FCA, our, or we) issues
this final rule governing the Federal
Agricultural Mortgage Corporation
(Farmer Mac or the Corporation) in the
areas of non-program investments and
liquidity. The intent of the rule is to
ensure that Farmer Mac continues to
hold high-quality, liquid investments to
maintain a sufficient liquidity reserve,
invest surplus funds, and manage
interest-rate risk, while maintaining
non-program investments at appropriate
levels considering Farmer Mac’s status
as a Government-sponsored enterprise.
EFFECTIVE DATE: This regulation will be
effective 30 days after publication in the
Federal Register during which time
either or both Houses of Congress are in
session. We will publish a notice of the
effective date in the Federal Register.
FOR FURTHER INFORMATION CONTACT:
Joseph T. Connor, Associate Director for
Policy and Analysis, Office of
Secondary Market Oversight, Farm
Credit Administration, McLean, VA
22102–5090, (703) 883–4364; TTY (703)
883–4434; or Jennifer A. Cohn, Senior
Attorney, Office of General Counsel,
Farm Credit Administration, McLean,
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VA 22102–5090, (703) 883–4020, TTY
(703) 883–4020.
SUPPLEMENTARY INFORMATION:
sections pertaining to Farmer Mac,
details of which are discussed in section
V. below.
I. Objectives
II. Background
On June 14, 2004, we published a
proposed regulation for public
comment.2 As discussed in the
proposed rule’s supplementary
information, we proposed these
regulations because Farmer Mac has
grown significantly in the past 10 years
in terms of on-balance sheet assets and
off-balance sheet obligations. We believe
its exposure to various business risks,
including liquidity risk, also has grown
and could grow significantly in the
future. In addition, excessive or
inappropriate use of non-program
investments is not consistent with the
Corporation’s status as a Governmentsponsored enterprise (GSE). This rule
seeks to enhance both safety and
soundness and the program focus of the
Corporation.
Farmer Mac’s long-term liquidity is
dependent on its ability to obtain
funding from the securities markets. To
aid in assuring market access, sources of
liquid and low-risk investments are
needed to provide liquidity in the shortterm in the event of market disruptions
or aberrations. The primary objectives of
the final rule are to ensure the safety
and soundness and continuity of Farmer
Mac operations by:
• Establishing minimum liquidity
standards that would require Farmer
Mac to hold sufficient high-quality,
marketable investments to provide
adequate liquidity to fund maturing
obligations, interest expense, and
operating expenses for a minimum of 60
days;
• Specifying the type, quality, and
maximum amount (or limit) of nonprogram investments 1 that may be held
by Farmer Mac;
• Establishing diversification
requirements, including portfolio limits
on specific types of investments and
counterparty exposure limits; and
• Requiring Farmer Mac’s board of
directors to approve liquidity and nonprogram investment management
policies and implement appropriate
internal controls to oversee the
investment and liquidity management of
the Corporation.
Another objective of this proposal is
to better organize current regulatory
1 Pursuant to title VIII of the Farm Credit Act of
1971, as amended (Act), Farmer Mac issues debt in
order to purchase or commit to purchase (invest in)
‘‘program’’ assets and obligations under the
Corporation’s core programs known as the Farmer
Mac I Program and the Farmer Mac II Program.
Under these programs, Farmer Mac purchases, or
commits to purchase, ‘‘qualified loans,’’ as that term
is defined in section 8.0(9) of the Act. Generally,
‘‘qualified loans’’ consist of loans on agricultural
real estate or portions of loans guaranteed by the
United States Department of Agriculture. Under
section 8.0(1) of the Act, ‘‘agricultural real estate’’
includes both (1) a parcel or parcels of land or a
building or structure affixed to the parcel or parcels
that is used for the production of one or more
agricultural commodities or products and (2) singlefamily, moderately priced principal residential
dwellings located in rural areas. In this
supplementary information, we refer to loans made
on this latter type of real estate as ‘‘rural housing
mortgages.’’ The rule defines investments other
than those in (1) ‘‘qualified loans,’’ or (2) securities
collateralized by ‘‘qualified loans,’’ as ‘‘nonprogram’’ investments.
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III. Comments
We received four comment letters on
the proposed rule; two from Farmer
Mac, and one each from the Farm Credit
Bank of Texas (FCBT) and AgFirst Farm
Credit Bank (AgFirst). In general, the
comments consider the proposed rule’s
provisions to be inappropriately
detailed, specific, and restrictive.
Specific comments are discussed in the
next section of this supplementary
information.
IV. FCA’s Summary of the Provisions of
the Final Rule and Responses to
Comments on the Proposed Rule
We begin by summarizing and
responding to general comments on the
proposed rule and then provide a
section-by-section summary of
provisions of the final rule. This
summary includes a discussion of the
comments on the proposed rule and
FCA’s responses to the comments.
A. General Comments
Farmer Mac and AgFirst commented
that, in general, policies and procedures
for investments, liquidity and the
management of interest rate risk are best
left to the Corporation’s board of
directors, with FCA oversight through
the examination process. FCBT echoed
this general view, adding that any
regulations should be flexible enough to
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allow management the capability to
react quickly to changing circumstances.
All three commenters suggested that the
level of specificity in the proposed rule
could result in Farmer Mac’s
management being constrained to an
undesirable degree under certain
conditions.
In responding to these concerns we
note that a primary objective of the rule
is to establish a regulatory framework
governing non-program investments and
liquidity. This framework includes
several quantitative limits on which the
liquidity policies of the Corporation are
to be based. We intend this regulatory
framework to provide management with
an enhanced level of guidance with
which to structure the Corporation’s
internal policies on liquidity and nonprogram investments as well as to
establish FCA standards of acceptability
through quantitative limits on these
measurements.
One specific requirement, the
minimum liquidity reserve requirement
(Farmer Mac must hold liquid
investments sufficient to fund at least 60
days of maturing obligations, interest
expense, and operating expenses) 3
should not be viewed as a target but as
the minimum acceptable level under
normal financial market conditions. The
Corporation must also implement
internal policy targets for days-ofliquidity. We believe the 60-day
minimum provides the Corporation
sufficient flexibility to manage liquidity
under a variety of conditions and
circumstances.
We believe the provisions of the final
rule achieve greater clarity of FCA
guidance and expectations on internal
policymaking for Farmer Mac while
both avoiding an excessive level of
specificity and minimizing the potential
for imposing unnecessary constraints
that could adversely impact Farmer
Mac’s operations.
In their comments, Farmer Mac and
FCBT expressed a preference for a
regulatory approach similar to that in
place for Farm Credit System (FCS)
banks’ investments and liquidity. We
note that the approaches are similar in
areas such as investment categories,
category limits, obligor limits, and
discounts, because we believe certain
regulatory approaches and quantitative
limits on liquidity and investments are
reasonably applied to a wide variety of
types of financial institutions. However,
there are valid reasons to adopt differing
regulatory approaches in certain areas
because of the differences in the types
of business conducted by the regulated
3 Also referred to in this supplementary
information as ‘‘days-of-liquidity.’’
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institutions (e.g., Farmer Mac’s large
proportion of mortgage assets and offbalance sheet obligations relative to
direct lenders). Other differences may
exist in areas in which the approach
governing FCS banks is not the only
reasonable regulatory approach.
In response to the commenters’
contention that FCA should exercise its
oversight authority over non-program
and liquidity management through its
examinations rather than through
regulation, we state that while
examinations are an integral component
of our oversight, it is inappropriate for
FCA to rely solely on examinations.
Regulations are another oversight tool;
they enhance the examination process
by establishing clearly understood
requirements in advance, thus enabling
the reduction of potential problems that
might become examination findings
absent those regulations.
B. Section 652.1—Purpose
This section provides the user with a
basic understanding of the contents and
purpose of this subpart. The purpose of
this subpart is to ensure safety and
soundness, continuity of funding, and
appropriate use of non-program
investments considering Farmer Mac’s
status as a GSE. It also highlights
responsibilities of Farmer Mac’s board
of directors and management. No
comments specific to this section were
received and none of its provisions were
changed in the final rule.
C. Section 652.5—Definitions
This section alphabetically lists words
or phrases that are applicable to this
subpart and will help the user more
fully understand the subpart and our
requirements. Most of the definitions
are self-explanatory, but one definition
will benefit from explanation.
The definition of ‘‘Governmentsponsored agency’’ includes
Government-sponsored enterprises such
as Fannie Mae and the Federal Home
Loan Mortgage Corporation (Freddie
Mac), as well as Federal agencies, such
as the Tennessee Valley Authority, that
issue obligations that are not explicitly
guaranteed by the Government of the
United States’ full faith and credit. The
definition in the final rule is slightly
different from that in our proposal,
although the meaning is the same; we
have clarified that the term includes
corporations, as well as agencies or
instrumentalities, that are chartered or
established to serve public purposes
specified by Congress, and also that it
includes GSEs. This information was
provided in the supplementary
information to the proposed rule but
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was not explicitly stated in the rule
itself.
No comments specific to this section
were received but several of its
provisions were changed for clarity in
the final rule in response to comments
on other sections. Specifically, we are
adding definitions for ‘‘program assets’’
and ‘‘program obligations’’ and are
substituting ‘‘regulatory capital’’ for
‘‘total capital.’’
D. Section 652.10—Investment
Management and Requirements
This section requires Farmer Mac to
establish and follow certain
fundamental practices to effectively
manage risks in its investment portfolio.
An effective risk management process
for investments requires financial
institutions to establish: (1) Policies; (2)
risk limits; (3) a mechanism for
identifying, measuring, and reporting
risk exposures; and (4) a strong system
of internal controls. Accordingly,
§ 652.10 requires Farmer Mac’s board of
directors to adopt written policies that
establish risk limits and guide the
decisions of investment managers. More
specifically, board policies must
establish objective criteria so investment
managers can prudently manage credit,
market, liquidity, and operational risks.
Additionally, § 652.10 establishes other
controls that are consistent with sound
business practices, such as:
(1) Clear delegation of responsibilities
and authorities to investment managers;
(2) Separation of duties;
(3) Timely and effective securities
valuation practices; and
(4) Routine reports on investment
performance.
Both Farmer Mac and FCBT objected
to the proposed rule’s pre-purchase and
pre-sale securities valuation
requirements for non-program
investments, found in § 652.10(f).
Farmer Mac commented generally that
because its board has established and
monitors policies and procedures
governing the valuation process for
securities purchased and internal
controls of investment management,
there is no need for FCA to adopt a
regulation prescribing the details of
such policies and procedures.
We agree that Farmer Mac should
have flexibility in establishing its
policies and procedures governing
securities valuation. However, because
of the potentially serious consequences
of valuation errors, our regulations set
forth basic requirements for Farmer
Mac’s policies and procedures. We
believe, in general, that proposed
§ 652.10(f) permits sufficient flexibility
for Farmer Mac. Accordingly, the final
rule retains the general structure of the
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proposed rule, although we have made
some changes in response to comments
on specific provisions of this section.
Section 652.10(f)(1) of the proposed
regulation required Farmer Mac to
evaluate a security’s credit quality prior
to purchase. In the supplementary
information explaining this proposed
provision, we stated that Farmer Mac:
may not rely exclusively on NRSRO 4 ratings
prior to purchasing investments. An
independent and timely evaluation
performed by Farmer Mac is needed because
there may be a lag before an adverse event
is reflected in the credit rating. Therefore,
Farmer Mac’s analysis must indicate whether
the security’s risk has changed subsequent to
the most recent NRSRO rating.
Farmer Mac commented that the
proposed regulation, as interpreted by
the supplementary information,
effectively required Farmer Mac to
‘‘second guess’’ the NRSROs and would
not be practical. The FCBT made a
similar comment. Farmer Mac was
concerned that its practice of routinely
monitoring rating watch lists and news
reports for recent events that could
indicate stress in individual businesses
and industry sectors might not be
sufficient to satisfy FCA.
We reiterate that, because of potential
lags before NRSRO ratings reflect
adverse events, Farmer Mac must
evaluate a security’s risk subsequent to
its most recent rating. Section
652.10(f)(1) does not, however, require a
particular method of evaluating a
security’s risk. Farmer Mac may use any
reliable approach to monitoring this
risk. As a good business practice,
Farmer Mac should retain
documentation of its evaluation.
Section 652.10(f)(1) of the proposed
rule required Farmer Mac, among other
things, to ‘‘verify the value of a security
that [it] plan[s] to purchase, other than
a new issue, with a source that is
independent of the broker, dealer,
counterparty, or other intermediary of
the transaction.’’ Farmer Mac
commented that no benefit would be
provided by requiring alternative price
quotes because it would not necessarily
afford Farmer Mac the opportunity to
purchase the investment at the same or
a better price.
FCA makes no change to this prepurchase independent valuation
verification requirement in the final
rule. Accurate securities valuation is
essential to measuring risk and
monitoring compliance with Farmer
Mac’s objectives and risk parameters.
Such valuation practices by the
Corporation enable managers to better
4 Nationally recognized statistical rating
organization.
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understand the risks and cashflow
characteristics of their investments.
In addition, we note that, as stated in
the supplementary information to the
proposed rule, independent verification
of price can be as simple as obtaining a
price from an industry-recognized
information provider. Farmer Mac may
satisfy this requirement by
independently verifying the price of a
security with an online market reporting
service such as Bloomberg, Telerate, or
Reuters. We believe the benefits of this
provision exceed any added burden on
Farmer Mac.
Section 652.10(f)(1) of the proposed
rule also would have required Farmer
Mac, before it purchases a security, to
document the size and liquidity of the
secondary market for the security. The
supplementary information stated that
we expected Farmer Mac to monitor and
update this information as market
conditions change. Farmer Mac
commented that this requirement is
vague and difficult to accomplish,
would be unduly time consuming, and
would lead to missed investment
opportunities. The FCBT commented
that the requirement is not necessary for
certain types of very high quality
securities commonly known to trade in
active secondary markets, such as
agency-issued mortgage-backed
securities. The FCBT also pointed out
that the regulation does not specify
what form the documentation should
take.
We agree that satisfying this
documentation requirement could
present a challenge in some instances
and have removed this documentation
requirement from the rule. We affirm
the Agency’s view that such
documentation is a good business
practice.
Section 652.10(c)(2) of the proposed
rule required Farmer Mac to evaluate
how individual instruments and the
investment portfolio as a whole affect
the Corporation’s overall interest rate
profile. We have removed this
requirement in the final rule. We believe
that the limitations on the investment
portfolio in § 652.35 of this rule,
combined with our oversight of Farmer
Mac’s internal procedures on interest
rate risk management, warrant this
removal.
Section 652.10(c)(1)(ii) of the
proposed rule provided that Farmer
Mac’s board must approve any changes
to securities firms. Farmer Mac
commented that, although it may be
appropriate for the board to establish
criteria for the selection of securities
firms, the selection or removal of firms
meeting the criteria is properly a
function of management, with oversight
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by the board for compliance with board
policy. We agree with this comment and
have revised the provision to require
pre-change notification to the board, or
a designated subcommittee of the board,
instead of board approval of the change.
We emphasize that the selection of
securities firms is an important aspect of
effective management of counterparty
credit risk. A satisfactory approval
process includes a review of each firm’s
financial statements and an evaluation
of its ability to honor its commitments,
including an inquiry into the general
reputation of the securities firm. We
expect Farmer Mac to review
information from Federal or state
securities regulators and industry selfregulatory organizations, such as the
National Association of Securities
Dealers, concerning any formal
enforcement actions against the
securities firm, its affiliates, or
associated personnel.
E. Section 652.15—Interest Rate Risk
Management and Requirements
Because interest rate risk management
is such an important part of investment
management, § 652.15 establishes
certain responsibilities of Farmer Mac’s
board of directors and management as
well as policy requirements to address
the management of interest rate risk
exposure. The regulations outline our
minimum expectations for the
management of interest rate risk
exposure.
The potentially adverse effect that
interest rate risk may have on net
interest income and the market value of
Farmer Mac’s equity is of particular
importance. Unless properly measured
and managed, interest rate changes can
have significant adverse effects on
Farmer Mac’s ability to generate
earnings, build net worth, and maintain
liquidity. We received no comments
specific to this section. Other than two
self-explanatory, minor clarifications,
we made no changes to this provision in
the final rule.
F. Section 652.20—Liquidity Reserve
Management and Requirements
This section sets forth the minimum
daily liquidity reserve requirement (i.e.,
the minimum days-of-liquidity),
provides guidance on how that
calculation is to be made, including
specifying the discounts to be applied to
various investments, and explains board
responsibilities, required policies, and
reporting requirements.
Section 652.20(a) provides that,
within 24 months of this rule’s effective
date, and thereafter, Farmer Mac must
hold cash, eligible non-program
investments, and/or on-balance sheet
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securities backed by portions of USDA
guaranteed loans to maintain at all times
sufficient liquidity to fund a minimum
of 60 days of maturing obligations,
interest expense, and estimated
operating expense.
AgFirst commented that the proposed
minimum days-of-liquidity requirement
should be increased to 90 days from 60
days, consistent with the self-imposed
policy of the FCS, which was
implemented after discussions with
several NRSROs.5 We have made no
change to the required 60-day
minimum. The final rule imposes a
minimum below which Farmer Mac
must not drop for safety and soundness
purposes.6 Section 652.20(e) requires
Farmer Mac’s liquidity reserve policy to
specify the minimum and target (or
optimum) amounts of liquidity that the
board believes are appropriate for
Farmer Mac. These minimum and target
amounts may need to be significantly
higher than 60 days. FCA intends to
monitor Farmer Mac’s implementation
of this provision.
Farmer Mac commented that the
proposed rule’s requirement, in
§ 652.20(a), that days-of-liquidity be
calculated and documented daily was
an overly burdensome time interval and
recommended changing the interval to
monthly. In the final rule, this time
interval is revised to monthly with the
added specification that the Corporation
must have systems in place that provide
it the ability to make this calculation
daily, and must maintain liquidity
greater than 60 days at all times.
Prudent business practice dictates that,
if circumstances warrant, Farmer Mac
may need to calculate its days-ofliquidity more often than the regulation
requires. Such circumstances could
include management decisions relative
to debt issuance, asset-liability
management, and investment purchases,
all of which must be made with
knowledge of the institution’s liquidity
position. We expect Farmer Mac’s
liquidity management practices to be
monitored by Farmer Mac’s internal
audit function.
FCBT commented that, rather than
specifying specific discount amounts,
FCA’s regulations should require
Farmer Mac to apply discounts that are
appropriate under prevailing market
practices and expectations concerning
5 AgFirst also commented that FCA should try to
minimize the regulatory burden this rule imposes.
We note that requiring 90 rather than 60 days-ofliquidity would increase regulatory burden.
6 Under new § 652.30(a), if the FCA determines
that an extraordinary situation exists that
necessitates a temporary regulatory waiver or
modification, it may, in its sole discretion, waive
or modify this minimum.
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liquidity. We believe it is appropriate
for FCA to prescribe the discounts to
ensure that an acceptable level of
conservatism is applied to the
Corporation’s estimates of the liquidity
of these instruments. As with other
required calculations in this rule, we
believe these discounts improve the
clarity of the Agency’s expectations on
this subject to Farmer Mac and are best
provided formally through rulemaking
and in advance of the examination
process. However, we have clarified in
§ 652.20(a) that discounts are to be
applied to liquid asset values that have
been marked to market, and in
§ 652.20(c)(3) and (c)(5) that discounts
also apply to preferred stock
investments.
Farmer Mac and FCBT commented
that the discounts applied in § 652.20(c)
to non-program assets for purposes of
the days-of-liquidity calculation in the
proposed rule are too great at 5 percent
on money market instruments and
floating rate debt securities and 10
percent on fixed rate debt securities.
Farmer Mac supported this comment on
the basis of the lower discounts applied
by the Federal Reserve Discount
Window (Fed) and the New York Stock
Exchange (NYSE) for pledged assets.
Farmer Mac’s comment noted that the
two examples they offer are not exactly
analogous to the discounts applied in
the proposed rule, but the Corporation
requested consideration of these
alternatives as potentially more
appropriate benchmarks for discounts.
We acknowledge that the Fed
discount window and NYSE discounts
on margin collateral are lower but, with
one exception, we have kept the
discounts in this rule as proposed. The
cited Fed discounts by their nature are
applied to transactions with a very
short-time horizon on average, typically
overnight for the majority of the Fed
discount window volume.7 While NYSE
positions requiring margin accounts are,
on average, likely longer term than
overnight, we have no information that
would suggest the typical period over
which the NYSE holds such pledged
assets is as long as the several-year
terms of many of Farmer Mac’s
investments. Farmer Mac’s generally
longer investment terms inherently
involve greater risk, as they provide
more time for the liquidity of the
security to change.
However, the term difference between
Farmer Mac and the Fed Discount
Window is not always the case, for
example with Farmer Mac’s use of
7 The information related to the Federal Reserve
is taken from the Federal Reserve Web site’s
description of the Discount Window.
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overnight and very short-term money
market investments. In recognition of
this, we have partially accommodated
the comment by reducing the discount
on money market instruments with
maturities of 5-business days or less
from 5 percent to 3 percent, in
§ 652.20(c)(2).
As discussed below, § 652.20(c)(7) of
the rule reserves FCA’s authority to
modify or determine the appropriate
discount for an investment if the
otherwise applicable discount does not
accurately reflect the investment’s
liquidity. FCA’s Office of Secondary
Market Oversight (OSMO) will consider
any request Farmer Mac submits for a
revised discount on particular items in
its investment portfolio.
Farmer Mac commented that the
proposed rule’s 50-percent discount of
securities backed by portions of Farmer
Mac program assets (loans) guaranteed
by the USDA (the Farmer Mac II
portfolio or USDA-Guaranteed Portions)
in § 652.20(c)(5) 8 is excessive because:
(1) The assets are backed by the full
faith and credit of the U.S. Government;
(2) there exists a well-developed,
competitive and active secondary
market for USDA-Guaranteed Portions
among numerous broker/dealers and
banks around the country; (3) the
interest rates on a large portion of
Farmer Mac’s USDA-guaranteed loans
reset within 1 year, thereby presenting
very limited exposure to market pricing
risk; and, (4) the 50-percent discount is
not consistent with FCA’s June 25, 2004
Informational Memorandum on
Investments in Rural America, which
expressly encourages FCS institutions to
participate in the secondary market for
USDA-Guaranteed Portions and does
not suggest that such investments would
be discounted.
We agree with the comment that a 50percent discount of the Farmer Mac II
portfolio is too conservative an estimate
of its liquidity. It is inherently difficult
to evaluate precisely the depth of the
market for USDA-Guaranteed Portions
because they are traded through a broker
market. However, FCA believes there is
reasonable evidence pointing to greater
liquidity of these instruments.
Accordingly, the final rule decreases the
discount to 25 percent of the on-balance
sheet portion of the Farmer Mac II
portfolio. In other words, the calculation
now includes 75 percent of on-balance
sheet Farmer Mac II assets as liquid
investments, as a conservative estimate
of the liquidity of the Farmer Mac II
portfolio.
As discussed in section G. below, we
have made a corresponding change in
8 Renumbered
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Federal Register / Vol. 70, No. 134 / Thursday, July 14, 2005 / Rules and Regulations
the formula for maximum non-program
investments in § 652.25(b) in order to be
more consistent with our recognition of
75 percent of the on-balance sheet
Farmer Mac II portfolio as a liquid
investment in the days-of-liquidity
calculation. It is logically consistent to
conclude that if 75 percent of onbalance sheet Farmer Mac II volume is
correctly viewed as a liquid investment,
then the rest of that portfolio segment is
by definition not liquid and is
appropriately included among those
program assets against which the
liquidity investments are held.
As explained in greater detail in
section G. below, recognition of onbalance sheet Farmer Mac II assets as
liquid investments could create a
disincentive for Farmer Mac to sell
these assets to investors, an incentive
that FCA does not intend but which is
unavoidable if the Agency intends, as it
does, to make that recognition.
Therefore, one reason why the 25percent discount is not even smaller is
due to concerns related to any potential
disincentive to sell these securities that
could be created through recognition of
such a high percentage of the on-balance
sheet Farmer Mac II portfolio in the
days-of-liquidity calculation.
We note that the referenced FCA
Informational Memorandum does not
expressly encourage these investments
and did not factor into FCA’s decision
to change the percentage. The
Informational Memorandum highlights
these instruments as an option available
to FCS institutions to make missionrelated investments but does not express
or imply any position on the relative
liquidity of these assets.
Farmer Mac commented on proposed
§ 652.20(c)(6),9 which reserved FCA’s
authority to modify or determine the
appropriate discount for any
investment. Farmer Mac requested that
it be provided 30 working days prior
notice, with a longer period for those
cases requiring more fundamental
restructuring of the portfolio. The final
rule provides Farmer Mac 20 business
days to implement a discount
determined by FCA unless we specify
otherwise.
Commenting on the same section,
FCBT noted that the provision is too
general and could lead to arbitrary
action on the part of FCA. The comment
suggested FCA establish ‘‘market-based’’
criteria to guide FCA staff in making
such determinations. We anticipate we
would most likely exercise this
provision if an adverse credit event or
other adverse event caused an eligible
investment to exhibit less liquidity. In
9 Renumbered
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as § 652.20(c)(7) in the final rule.
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such cases, we might increase the
discount associated with that
investment. Information related to such
an event would be expected to be
generally available to the public and
readily verifiable.
Accordingly, the final rule reserves
FCA’s authority to modify or determine
the appropriate discount for any
investment used to meet the minimum
liquidity reserve requirement if the
otherwise applicable discount does not
accurately reflect the liquidity of that
investment or if the investment does not
fit wholly within one of the specified
investment categories. In addition, it
provides that in making any
modification or determination, we will
consider the liquidity of the investment
as well as any other relevant factors. We
will provide at least 20 business days
notice before any modified discounts
will take effect.
Farmer Mac commented that the
proposed rule’s requirement that any
breach of the minimum days-ofliquidity requirement in § 652.20(g) be
reported ‘‘immediately’’ to FCA was not
sufficiently clear in terms of its time
requirement and suggested it be revised
to read ‘‘as soon as reasonably possible,
but no later than 3 business days after
Farmer Mac determines (or should have
determined) the breach.’’ Further,
Farmer Mac suggested an additional
grace period of 5 business days for the
cure of any such breach if Farmer Mac
is taking action to achieve compliance.
As discussed above, the final rule
requires Farmer Mac to calculate its
days-of-liquidity monthly, and we
expect more frequent calculation if
circumstances warrant it. We have
revised the reporting requirement to
require Farmer Mac to report a breach
to FCA no later than the business day
following Farmer Mac’s discovery of the
breach. This revision provides an
objective time period for Farmer Mac to
submit its report to FCA. In addition, we
clarified that the regulation requires the
report to be made in writing (which
includes e-mail) to OSMO. In order to
keep an objective standard for the
reporting time frame, we did not
include ‘‘should have discovered’’
language, as suggested by Farmer Mac.
We did not include the requested grace
period to cure any breach. Any cure of
a breach in the minimum days-ofliquidity will be addressed as a part of
the FCA’s supervisory oversight of
Farmer Mac. FCA adds no grace period
in the final rule as any standing grace
period could imply that the established
minimum is less than a firm minimum.
However, as affirmed in § 652.30 of the
final rule, FCA would consider
modifications under unusual
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40639
circumstances if requested by Farmer
Mac.
FCBT commented that it is unduly
burdensome to require Farmer Mac to
report to FCA whenever it breaches its
regulatory liquidity reserve
requirements, as the proposed rule
required. Since the final rule requires
Farmer Mac to calculate its days-ofliquidity monthly rather than daily, and
to report a breach when it is discovered
rather than when it occurs, any burden
the proposed rule might have caused
has been significantly reduced in the
final rule.
FCBT also commented that the
provision in § 652.20(g) of the proposed
rule that required Farmer Mac to report
to FCA when it discovers
noncompliance with its own board
policy requirements is inappropriate
and constitutes ‘‘micro-management’’
that is inconsistent with the role of an
arms-length regulator. FCA proposed
this requirement so that it may learn in
advance if liquidity is decreasing to a
point where it might violate our
regulatory minimum. However, so long
as Farmer Mac’s Board is aware of
breaches of the Corporation’s internal
policy, we have determined that OSMO
is well-positioned to track breaches of
the policy and management’s corrective
actions through the examination
process. We have, therefore, removed
the provision from the final rule.
G. Section 652.25—Non-Program
Investment Purposes and Limitation
This section lists authorized purposes
for Farmer Mac non-program
investments and imposes a limitation on
those investments. The rule seeks to
reasonably relate investments made by
Farmer Mac to its statutory purpose as
set forth in section 701 of the
Agricultural Credit Act of 1987 10 (12
U.S.C. 2279). We recognize non-program
investments provide for a blend of
Farmer Mac’s needs; most fundamental
of these needs is to provide highly
liquid assets to meet immediate funding
needs associated with Farmer Mac’s
business in agricultural and rural
housing mortgages. Farmer Mac also
uses non-program investments in
managing interest rate risk and
providing flexibility in responding to
fluctuating liquidity and economic
conditions.
Section 652.25(b)(1) of the proposed
rule would have limited non-program
investments to the greater of $1.5 billion
or the aggregate of 30 percent of total
assets and ‘‘a reasonable estimate of offbalance sheet loans covered by
guarantees or commitments that Farmer
10 Public
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Mac likely will be required to purchase
during the upcoming 12-month period,
not to exceed 15 percent of total offbalance sheet obligations.’’
Farmer Mac and FCBT commented
that this formula is overly restrictive
and could result in adverse effects on
the Corporation. Farmer Mac also
commented that the proposed policy is
a departure ‘‘from the undertaking
requested by FCA and given by Farmer
Mac in 1999, to limit non-program
investments to the greater of $1.5 billion
and 30 percent of all guarantees and
commitments outstanding.’’ Farmer Mac
further suggested that the proposed
policy is inconsistent with investment
limitations contained in FCA
regulations governing FCS banks.
Finally, Farmer Mac commented that
the proposed rule’s treatment of offbalance sheet obligations both fails to
respond to concerns raised by Congress
and creates a disincentive for Farmer
Mac to sell agricultural mortgage-backed
securities. Instead of the proposal,
Farmer Mac requested that FCA adopt
the Corporation’s currently existing
investment limit, based on its 1999
communications with FCA, of the
greater of $1.5 billion and 30 percent of
the aggregate of Farmer Mac’s onbalance sheet program assets and offbalance sheet program obligations.
This rule is the first application of a
regulatory maximum non-program
investment level to a secondary market
institution. FCA has applied caution to
minimize the possibility of imposing
unnecessary constraints. With this
framework established, the rule’s
quantitative limits can be refined in
future rulemaking if necessary.
Accordingly, we have modified the
formula in the final rule to respond to
Farmer Mac’s comments, as detailed
below.
The final rule limits Farmer Mac’s
non-program investments to the greater
of $1.5 billion or 35 percent of all
program volume, excluding 75 percent
of the on-balance sheet program assets
that are guaranteed by the United States
Department of Agriculture as described
in section 8.9(9)(B) of the Farm Credit
Act of 1971, as amended.11
With this change, we have responded
to Farmer Mac’s request to adopt the
general approach taken in our 1999
guidance to Farmer Mac. As Farmer Mac
requested, we have generally based the
formula for maximum non-program
investments on a percentage of both onand off-balance program investments,
with one exclusion. The formula
excludes from program investments 75
percent of the Farmer Mac II portfolio
11 12
U.S.C. 2279aa(9)(b).
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because, as discussed in the previous
section of this supplementary
information, that portion is recognized
as a liquid investment in the minimum
liquidity reserve calculation required by
§ 652.20(a). Thus, the rule maintains
logical consistency in its recognition (in
both § 652.20(a) and § 652.25(b)) of 75
percent of the on-balance sheet Farmer
Mac II program assets as a source of
liquidity rather than as less-liquid assets
against whose funding obligations
liquidity investments are held.
This exclusion would generally result
in a lower maximum non-program
investment limit, which was not the
intent of the exclusion. Therefore, to
compensate for this exclusion and to
add regulatory flexibility generally to
the final rule, we increased the
limitation from 30 to 35 percent of the
included assets. The new formula is
consistent with the objective of
establishing a regulatory framework that
minimizes the potential of establishing
unnecessary constraints on
management’s ability to respond to
unforeseen circumstances.
We believe the changes to this
provision in the final rule should satisfy
the concerns raised by Farmer Mac and
the FCBT that the proposed provision
was overly restrictive. Nevertheless, we
respond to Farmer Mac’s specific
comments on the proposed rule below.
Farmer Mac stated that the proposed
rule failed to address concerns
expressed at hearings of the Agriculture
Committee of the U.S. House of
Representatives (June 4, 2004), at which
members raised questions about the
adequacy of provisions for risks
associated with off-balance sheet
exposures. The concerns raised at this
hearing were related to a General
Accounting Office (GAO) 12 report
stating that Farmer Mac lacked a formal
contingency plan for liquidity, and
particularly for the potential obligation
to purchase a significant volume of offbalance sheet obligations.13 The GAO
report did not imply any potential
inadequacy of the Farmer Mac nonprogram investment levels.
In addition, Farmer Mac commented
that the proposed rule, through its
inclusion of 15 percent (at most) of offbalance sheet obligations in the
maximum non-program investments
formula, created a disincentive for it to
sell AMBS to investors. As mentioned
above in section F. with regard to
12 This agency has been renamed the Government
Accountability Office.
13 United States General Accounting Office,
Farmer Mac: Some Progress Made, but Greater
Attention to Risk Management, Mission, and
Corporate Governance is Needed, GAO–04–116
(2003).
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changes made to the days-of-liquidity
calculation, by including all off-balance
sheet program obligations in the
calculation of maximum non-program
investments, the final rule largely
removes any disincentive to sell
program assets to investors. A small
disincentive arguably remains related to
the recognition of 75 percent of the onbalance sheet Farmer Mac II portfolio as
a liquid investment (described in
section F. above). However, this
disincentive is at least partially offset by
a corresponding reduction in the same
proportion (75 percent) of the onbalance sheet Farmer Mac II portfolio
that is excluded from the maximum
non-program investments calculation.
Farmer Mac also commented that the
proposed rule’s maximum non-program
investment formula is inconsistent with
FCA’s 1993 rule governing FCS banks.
We note that the provisions of this final
rule, through the inclusion of offbalance sheet obligations in the
calculation, are much closer to the
structure established in the 1993
regulation governing FCS banks on this
maximum limit.
Finally on this section, in the
supplementary information to our
proposed rule, we specifically sought
comment on whether we should
consider in this section other issues
pertinent to Farmer Mac’s non-program
investment needs or practices such as
its ‘‘debt issuance strategy.’’ Farmer Mac
commented that it would not be
appropriate to impose regulations
governing debt issuance strategies.
Without agreeing or disagreeing with
the comment, we note that no provision
related to the strategy has been added to
the final rule. Also, in response to this
request for comment, FCBT said, ‘‘given
our view that portfolio limits should be
flexible based on an institution’s market
environment, we do not believe that the
regulation should fail to consider or
preclude consideration of any factor that
presents Farmer Mac with an actual
need for liquidity, income stabilization,
or diversification.’’ We believe the
regulation adequately considers these
factors through the flexibility
specifically inserted in the rule, e.g.,
§ 652.30(b) and § 652.35(e).
H. Section 652.30—Temporary
Regulatory Waivers or Modifications for
Extraordinary Situations
This section provides that the FCA
may waive or modify restrictions on
Farmer Mac’s liquidity reserve and/or
may modify the amount, qualities, and
types of eligible investments during
times of economic stress, financial
stress, or other extraordinary situations.
As waivers or modifications are
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approved, we may impose certain
conditions, require plans to return to
compliance, or set other limitations. The
flexibility of this provision enables the
agency to tailor specific remedies for
particular problems or particular
circumstances that might arise.
Examples of extraordinary situations
include, but are not necessarily limited
to: (1) Disrupted access to capital
markets due to financial, economic,
agricultural, or national defense crises;
and (2) situations specific to Farmer
Mac that necessitate modified liquidity
reserves, other investments, or other
measures for continued market access.
No comments specific to this section
were received but clarifications were
added to its provisions in the final rule
to note FCA’s willingness in
extraordinary circumstances to consider
waivers of the rule’s provisions related
to ineligible asset quality and type.
I. Section 652.35—Eligible Non-Program
Investments
This section permits Farmer Mac to
invest, within limits, in an array of
eligible high-quality, liquid investments
while providing a regulatory framework
that can readily accommodate
innovations in financial products and
analytical tools.
Farmer Mac may purchase and hold
the eligible non-program investments
listed in § 652.35(a) 14 to maintain
liquidity reserves, manage interest rate
risk, and invest surplus short-term
funds. Only investments that can be
promptly converted into cash without
significant loss are suitable for
achieving these objectives. For this
reason, the eligible investments listed in
§ 652.35(a) generally have short terms to
maturity and high credit ratings from
NRSROs. All eligible investments are
either traded in active and universally
recognized secondary markets or are
valuable as collateral. To enhance safety
and soundness, for many of the
investments, we require that they not
exceed certain maximum percentages of
the total non-program investment
portfolio. We establish these portfolio
caps to limit credit risk exposures, to
14 Section 652.35(a)(1) and (a)(2) authorize
investments in ‘‘obligations of the United States’’
and ‘‘obligations of Government-sponsored
agencies,’’ respectively. The regulation lists eligible
investments for each term; read in conjunction with
the definition of Government-sponsored agency, we
believe the meaning of these terms is clear. FCA
regulation § 615.5140 (a)(1), which lists eligible
investments for Farm Credit banks and associations,
uses the term ‘‘obligations of the United States’’ to
refer to both obligations of the United States and
obligations of Government-sponsored agencies.
Although new § 652.35(a)(1) and (a)(2) use more
precise language, the meaning is the same as
§ 615.5140(a)(1). Section 652.35(a) uses the more
precise language only for the purpose of clarity.
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promote diversification, and to curtail
investments in securities that may
exhibit considerable price volatility,
price risk, or liquidity risks. For similar
reasons, we establish obligor limits to
help reduce exposure to counterparty
risk.
We note that the final rule authorizes
investment in shares of any investment
company that is registered under section
8 of the Investment Company Act of
1940, 15 U.S.C. 80a–8, as long as the
investment company’s portfolio consists
solely of investments that are authorized
by § 652.35. Prior to investing in a
particular investment company, Farmer
Mac would be required to evaluate the
investment company’s risk and return
objectives. As part of this evaluation,
Farmer Mac should determine whether
the investment company’s use of
derivatives is consistent with FCA
guidance and Farmer Mac’s investment
policies.
Farmer Mac must maintain
appropriate documentation on each
investment, including a prospectus and
analysis, so its investment and selection
process can be independently and
objectively verified. If Farmer Mac’s
shares in each investment company
comprise 10 percent or less of Farmer
Mac’s total investment portfolio, no
maximum portfolio limits are triggered.
However, if Farmer Mac’s shares in a
particular investment company
comprise more than 10 percent of
Farmer Mac’s total investment portfolio,
then the pro rata interest in an asset
class of security in an investment
company must be added to the same
asset class of Farmer Mac’s other
investments to determine investment
portfolio limits. For example, if Farmer
Mac has 12 percent of its total
investment portfolio (i.e., more than 10
percent) in Diversified Investment
Company Alpha (Alpha), then Farmer
Mac would have to determine the
composition of investments in Alpha’s
portfolio. The pro rata dollar amount of
corporate debt securities (one example
of the many asset classes) in Alpha
would have to be added to Farmer Mac’s
corporate debt securities, and that
combined amount would have to be 25
percent or less of Farmer Mac’s total
investment portfolio. Corporate debt
securities are used here only as an
example. Any asset class in Farmer
Mac’s portfolio with an investment
portfolio limit would have to be
computed the same way.
FCBT commented that FCA should
reconsider its overall approach with
respect to fixed percentage limits on the
classes or types of investments that may
be included in Farmer Mac’s portfolio to
allow Farmer Mac more flexibility to
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40641
respond to changing market conditions.
FCBT suggests that, rather than
specifying investment limits, the
regulation should require Farmer Mac to
establish and justify appropriate limits.
Limits on classes and types of
investments are a prudent managerial
practice. It is not clear from the
comment how changing market
conditions might warrant a degree of
flexibility that is not already provided
for in the regulation. However, as
detailed later in this section, the final
rule does make an adjustment to the
obligor limits from 20 to 25 percent of
regulatory capital. In addition, we note
that the final rule clarifies that the
temporary waivers under § 652.30(b)
could extend to asset quality and types,
as well as amounts. In general, the
regulation enhances guidance on
OSMO’s minimum expectations with
regard to investment management
policies and procedures related to
concentration risk within Farmer Mac’s
investment portfolio.
Farmer Mac commented that the 20percent investment category
concentration limits in the proposed
regulation are generally too restrictive
and that a 33-percent limitation would
be more appropriate. No analytical
support was provided to support a 33percent limitation rather than a 20percent limitation. We have made a
change to two categories detailed below.
Farmer Mac commented specifically
that the proposed 20-percent limit on
investments in corporate debt securities
(§ 652.35(a)(8)) should be increased to
33 percent. The Corporation further
objected to the proposed rule’s
requirement that corporate debt
securities with maturities of less than 4
years, contending that an A rating is
appropriate for such investments.15 We
believe that a concentration of one-third
(33 percent) of the investment portfolio
is excessive, but have changed the limit
for corporate debt securities to 25
percent. We believe this to be an
acceptable maximum weight for this
non-Government-sponsored agencybacked or government-backed
investment category and to be
appropriate for this rule. We have made
a similar change to the investment
category limit for ABS. We note that if
Farmer Mac were to request a waiver
under the § 652.30 to invest in ABS
types that are not specifically listed in
§ 652.35(a)(7), and such permission
were granted, it could be granted subject
15 The Corporation acknowledged that AA is
appropriate for investments with maturities of
between 4 and 5 years.
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to reduced category limitations and
other conditions.
To support its request for a minimum
A rating for securities with maturities of
4 years or less, Farmer Mac cites to
NRSRO data that, the Corporation
contends, demonstrates that A-rated
bonds represent very high asset quality,
with only a slightly higher historical
rate of default than AA bonds. We agree
that shorter-term holdings inherently
have less risk, and the final rule
therefore permits investments in
corporate debt securities that are rated
at least A by an NRSRO as long as their
maturities are 3 years or less. We did
not extend the A-rating accommodation
to securities with maturities of between
3 and 4 years, as Farmer Mac requested,
in recognition of their higher level of
risk.
Farmer Mac objects to § 652.35(d),
which limits investments issued by any
single entity, issue, or obligor to 20
percent of Farmer Mac’s capital, with
the exception of Government agency or
Government-sponsored agency obligors.
Farmer Mac suggests a limitation of 25
percent of capital is more appropriate.
We agree with the comment and have
changed the limitation to 25 percent in
the final rule. For example, if Farmer
Mac had $250 million in capital, the
change would permit obligor limits to
rise from $50 million to $62.5 million.
Farmer Mac also objects to the
§ 652.35(d)(2) requirement that it must
count securities that it holds through an
investment company toward the 20percent obligor limit unless the
investment company’s holdings of the
securities of any one issuer do not
exceed 5 percent of the investment
company’s total portfolio. Farmer Mac
contends that this requirement is
unnecessary because concentration risks
are balanced by diversity in the
portfolio. Farmer Mac also states that
tracking portions of individual
investments held within a diversified
investment would be difficult and
unduly time consuming.
We believe that the Corporation’s net
exposure to a single obligor, when the
portion found in diversified investment
funds is significant, is important to
consider regardless of the diversification
benefits of the funds. When an obligor
defaults, Farmer Mac absorbs the full
financial impact of its net exposure to
that obligor, even if a portion of that
impact is realized in a lower return from
an investment fund. For that reason, we
believe the benefits of prudent obligor
limits exceed the additional labor cost
involved in tracking total obligor
exposures. Therefore, we make no
change to this provision in the final
rule.
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Farmer Mac commented that the
proposed rules’ collateral restrictions on
asset-backed securities (ABS) should be
eliminated and that any AAA-rated ABS
should be permitted. Farmer Mac did
not identify additional ABScollateralized groups in which it wishes
to invest or suggest criteria for
determining the suitability of new types
of ABS that financial markets may
create. Without more compelling
evidence of the practical impact on
Farmer Mac’s operations, the final rule
makes no change to this provision. We
note that § 652.35(e) of the final rule
permits Farmer Mac to purchase nonprogram investments not listed in
§ 652.35(a) with our prior approval.
Farmer Mac commented that rather
than using the term ‘‘total capital,’’ as
we do in § 652.35(d)(1) of the proposed
rule, we should use either the term
‘‘core capital’’ or the term ‘‘regulatory
capital,’’ both of which are defined in
Farmer Mac’s statute. We agree that
using an already-defined term would
provide consistent regulatory treatment.
Accordingly, § 652.35(d)(1) of the final
rule uses the term ‘‘regulatory capital’’
as defined in section 8.31(5) of the
Act.16 We also make the corresponding
change in the definitions section,
§ 652.5, replacing ‘‘total capital’’ with
‘‘regulatory capital.’’
Finally, on this section, Farmer Mac
commented that investments in
Farmer’s Notes should be deemed an
eligible non-program investment under
§ 652.35 if the FCA’s currently pending
proposed rule on Investments in
Farmer’s Notes becomes effective as
proposed. However, as FCA did not
propose such treatment of Farmer’s
Notes in its proposed rule on nonprogram investments and liquidity, we
would have to propose it in another
rulemaking process in order to consider
this change. Therefore, the most
practical process for Farmer Mac to
obtain this treatment for Farmer’s Notes
would be to seek approval to invest in
Farmer’s Notes as provided for under
§ 652.35(e).
J. Section 652.40—Stress Tests for
Mortgage Securities
Stress testing is essential when the
cashflows from investments or assets of
financial institutions change in response
to fluctuations in market interest rates.
For example, although credit risk on
highly rated mortgage securities is low,
mortgage securities may expose
investors to significant interest rate risk.
Since borrowers may prepay their
mortgages, investors may not receive the
expected cashflows and returns on these
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U.S.C. 2279bb(5).
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securities. Prepayments on these
securities are affected by the spread
between market rates and the actual
interest rates of mortgages in the pool,
the path of interest rates, and the unpaid
balances and remaining terms to
maturity on the mortgage collateral. The
price behavior of a mortgage security
also depends on whether the security
was purchased at a premium or at a
discount.
To better control and manage these
factors, this section requires that Farmer
Mac employ appropriate analytical
techniques and methodologies to
measure and evaluate interest rate risk
inherent in mortgage securities. More
specifically, prudent risk management
practices require Farmer Mac to
examine the performance of each
mortgage security under a wide array of
possible interest rate scenarios. No
comments specific to this section were
received and none of its provisions were
changed in the final rule.
K. Section 652.45—Divestiture of
Ineligible Non-Program Investments
This section requires an ineligible
non-program investment or security to
be divested within 6 months, unless
FCA approves, in writing, a plan that
authorizes the investment or its
divesture over a longer period of time.17
Farmer Mac commented that this
requirement should be revised to
remove divestiture deadlines and to
include a requirement that ineligible
investments be tracked and reported
monthly to the board’s asset-liability
management committee (ALCO) along
with analysis and recommendations
regarding strategy for remedial actions.
FCA believes that 6 months is a
reasonable period for Farmer Mac to
divest of ineligible investments.
Moreover, if over the 6-month period
Farmer Mac develops analysis and a
written plan that make a persuasive case
for FCA to permit the retention of an
ineligible investment over a period
greater than 6 months, the final rule
allows for such consideration.
Farmer Mac also commented that any
investments it owns prior to the
effective date of this rule should be
deemed eligible until they mature or are
sold in the normal course of business.
In response, we emphasize that
17 An acceptable plan generally requires Farmer
Mac to divest of the ineligible investment or
security as quickly as possible without substantial
financial loss. Until the ineligible investment or
security is actually divested of, Farmer Mac’s
investment manager must report at least quarterly
to Farmer Mac’s board of directors and to OSMO
about the status and performance of the ineligible
instrument, the reason why it remains ineligible,
and the investment manager’s progress in divesting
of the investment or security.
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ineligible assets are deemed ineligible
for safety and soundness reasons, and it
is therefore not acceptable that such
assets be held by Farmer Mac for an
indefinite period of time. We make no
change to this provision in the final
rule, but note that the rule permits
Farmer Mac to seek FCA approval for a
longer divestiture period.
V. Better Organizing Rules That Apply
to Farmer Mac
In this final rule, we move some
existing regulatory sections that pertain
specifically to Farmer Mac to a
centralized location in our regulations
so they can be more easily located and
used. The following table provides
details of our proposal and shows where
this final rule will be located.
ORGANIZATION OF FARMER MAC RULES
New
part
New part
name
New
subpart
650 .......
Federal Agricultural Mortgage Corporation—General Provisions.
..............
Receiver and Conservator.
§§ 650.1 to 650.80 ..........
651 .......
Federal Agricultural Mortgage Corporation—Governance.
..............
Conflicts of Interest .........
§§ 651.1 to 651.4 ............
652 .......
Federal Agricultural Mortgage Corporation—Funding and Fiscal Affairs.
Federal Agricultural Mortgage Corporation—Funding and Fiscal Affairs.
Reserved.
Reserved.
Federal Agricultural Mortgage Corporation—Disclosure and Reporting
Requirements.
A
Investment Management
§§ 652.1 to 652.45 ..........
B
Risk-Based Capital .........
§§ 652.50 to 652.105 ......
Existing Part 650, Subpart B, §§ 650.20 to
650.31.
A
§ 655.1 ............................
Existing Part 620, Subpart G, § 620.40.
Federal Agricultural Mortgage Corporation—Disclosure and Reporting
Requirements.
B
Annual Report of Condition of the Federal Agricultural Mortgage
Corporation.
Accounting and Reporting Requirements.
§ 655.50 ..........................
Existing Part 621, Subpart E, § 621.20.
652 .......
653 .......
654 .......
655 .......
655 .......
New subpart
name
New
sections
VI. Regulatory Flexibility Act
12 CFR Part 652
Farmer Mac has assets and annual
income in excess of the amounts that
would qualify it as a small entity.
Therefore, Farmer Mac is not a ‘‘small
entity’’ as defined in the Regulatory
Flexibility Act. Pursuant to section
605(b) of the Regulatory Flexibility Act
(5 U.S.C. 601 et seq.), the FCA hereby
certifies that the final rule will not have
a significant economic impact on a
substantial number of small entities.
Agriculture, Banks, Banking, Rural
areas, Investments, Capital.
List of Subjects
12 CFR Part 620
Accounting, Agriculture, Banks,
Banking, Reporting and recordkeeping
requirements, Rural areas.
Accounting, Agriculture, Banks,
Banking, Penalties, Reporting and
recordkeeping requirements, Rural
areas.
Agriculture, Banks, Banking, Conflicts
of interest, Rural areas.
12 CFR Part 651
Agriculture, Banks, Banking, Conflicts
of interest, Rural areas.
Jkt 205001
Authority: Secs. 5.17, 5.19, 8.11 of the
Farm Credit Act (12 U.S.C. 2252, 2254,
2279aa–11); sec. 424 of Pub. L. 100–233, 101
Stat. 1568, 1656.
Subpart G—Annual Report of
Condition of the Federal Agricultural
Mortgage Corporation
§ 620.40
[Redesignated as § 655.1]
4. Redesignate subpart G of part 620,
consisting of § 620.40, as subpart A of
new part 655, consisting of § 655.1.
I
PART 621—ACCOUNTING AND
REPORTING REQUIREMENTS
5. The authority citation for part 621
continues to read as follows:
PART 655—FEDERAL AGRICULTURAL
MORTGAGE CORPORATION
DISCLOSURE AND REPORTING
REQUIREMENTS
I
Subpart E—Reports Relating to
Securities Activities of the Federal
Agricultural Mortgage Corporation
I
12 CFR Part 650
17:24 Jul 13, 2005
Accounting, Agriculture, Banks,
Banking, Accounting and reporting
requirements, Disclosure and reporting
requirements, Rural areas.
I For the reasons stated in the preamble,
we are amending parts 620, 621, and 650
of chapter VI, adding parts 651, 652, and
655 to chapter VI, and reserving parts
653 and 654 of chapter VI, title 12 of the
Code of Federal Regulations to read as
follows:
Existing Part 650, Subpart C, §§ 650.50 to
650.68.
Existing Part 650, Subpart A, §§ 650.1 to
650.4.
New in this rule.
1. Add the heading for a new part 655
to read as set forth above.
I 2. Add the authority citation for new
part 655 to read as follows:
12 CFR Part 621
VerDate jul<14>2003
12 CFR Part 655
From
Authority: Sec. 8.11 of the Farm Credit Act
(12 U.S.C. 2279aa–11).
PART 620—DISCLOSURE TO
SHAREHOLDERS
Authority: Secs. 5.17, 8.11 of the Farm
Credit Act (12 U.S.C. 2252, 2279aa–11).
§ 621.20
[Redesignated as § 655.50]
6. Redesignate subpart E of part 621,
consisting of § 621.20, as subpart B of
new part 655, consisting of § 655.50.
I
3. The authority citation for part 620
continues to read as follows:
I
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PART 651—FEDERAL AGRICULTURAL
MORTGAGE CORPORATION
GOVERNANCE
liquidity reserves. The subpart also
requires Farmer Mac to comply with
various reporting requirements.
7. Add the heading for a new part 651
to read as set forth above.
I 8. The authority citation for new part
651 is added to read as follows:
§ 652.5
I
Authority: Secs. 4.12, 5.9, 5.17, 8.11, 8.31,
8.32, 8.33, 8.34, 8.35, 8.36, 8.37, 8.41 of the
Farm Credit Act (12 U.S.C. 2183, 2243, 2252,
2279aa–11, 2279bb, 2279bb–1, 2279bb–2,
2279bb–3, 2279bb–4, 2279bb–5, 2279bb–6,
2279cc); sec. 514 of Pub. L. 102–552, 106
Stat. 4102; sec. 118 of Pub. L. 104–105, 110
Stat. 168.
9. Add a new part 652 to read as
follows:
I
PART 652—FEDERAL AGRICULTURAL
MORTGAGE CORPORATION FUNDING
AND FISCAL AFFAIRS
Subpart A—Investment Management
652.1 Purpose.
652.5 Definitions.
652.10 Investment management and
requirements.
652.15 Interest rate risk management and
requirements.
652.20 Liquidity reserve management and
requirements.
652.25 Non-program investment purposes
and limitation.
652.30 Temporary regulatory waivers or
modifications for extraordinary
situations.
652.35 Eligible non-program investments.
652.40 Stress tests for mortgage securities.
652.45 Divestiture of ineligible nonprogram investments.
Subpart B—Risk-Based Capital
Requirements [Reserved]
Authority: Secs. 4.12, 5.9, 5.17, 8.11, 8.31,
8.32, 8.33, 8.34, 8.35, 8.36, 8.37, 8.41 of the
Farm Credit Act (12 U.S.C. 2183, 2243, 2252,
2279aa–11, 2279bb, 2279bb–1, 2279bb–2,
2279bb–3, 2279bb–4, 2279bb–5, 2279bb–6,
2279cc); sec. 514 of Pub. L. 102–552, 106
Stat. 4102; sec. 118 of Pub. L. 104–105, 110
Stat. 168.
Subpart A—Investment Management
§ 652.1
Purpose.
This subpart contains the Farm Credit
Administration’s (FCA) rules for
governing liquidity and non-program
investments held by the Federal
Agricultural Mortgage Corporation
(Farmer Mac). The purpose of this
subpart is to ensure safety and
soundness, continuity of funding, and
appropriate use of non-program
investments considering Farmer Mac’s
special status as a Governmentsponsored enterprise (GSE). The subpart
contains requirements for Farmer Mac’s
board of directors to adopt policies
covering such areas as investment
management, interest rate risk, and
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Definitions.
For purposes of this subpart, the
following definitions will apply:
Affiliate means any entity established
under authority granted to the
Corporation under section 8.3(b)(13) of
the Farm Credit Act of 1971, as
amended.
Asset-backed securities (ABS) means
investment securities that provide for
ownership of a fractional undivided
interest or collateral interests in specific
assets of a trust that are sold and traded
in the capital markets. For the purposes
of this subpart, ABS exclude mortgage
securities that are defined below.
Eurodollar time deposit means a nonnegotiable deposit denominated in
United States dollars and issued by an
overseas branch of a United States bank
or by a foreign bank outside the United
States.
Farmer Mac, Corporation, you, and
your means the Federal Agricultural
Mortgage Corporation and its affiliates.
FCA, our, or we means the Farm
Credit Administration.
Final maturity means the last date on
which the remaining principal amount
of a security is due and payable
(matures) to the registered owner. It
does not mean the call date, the
expected average life, the duration, or
the weighted average maturity.
General obligations of a state or
political subdivision means:
(1) The full faith and credit
obligations of a state, the District of
Columbia, the Commonwealth of Puerto
Rico, a territory or possession of the
United States, or a political subdivision
thereof that possesses general powers of
taxation, including property taxation; or
(2) An obligation that is
unconditionally guaranteed by an
obligor possessing general powers of
taxation, including property taxation.
Government agency means an agency
or instrumentality of the United States
Government whose obligations are fully
and explicitly guaranteed as to the
timely repayment of principal and
interest by the full faith and credit of the
United States Government.
Government-sponsored agency means
an agency, instrumentality, or
corporation chartered or established to
serve public purposes specified by the
United States Congress but whose
obligations are not explicitly guaranteed
by the full faith and credit of the United
States Government, including but not
limited to any Government-sponsored
enterprise.
Liquid investments are assets that can
be promptly converted into cash
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without significant loss to the investor.
A security is liquid if the spread
between its bid price and ask price is
narrow and a reasonable amount can be
sold at those prices promptly.
Long-Term Standby Purchase
Commitment (LTSPC) is a commitment
by Farmer Mac to purchase specified
eligible loans on one or more
undetermined future dates. In
consideration for Farmer Mac’s
assumption of the credit risk on the
specified loans underlying an LTSPC,
Farmer Mac receives an annual
commitment fee on the outstanding
balance of those loans in monthly
installments based on the outstanding
balance of those loans.
Market risk means the risk to your
financial condition because the value of
your holdings may decline if interest
rates or market prices change. Exposure
to market risk is measured by assessing
the effect of changing rates and prices
on either the earnings or economic
value of an individual instrument, a
portfolio, or the entire Corporation.
Maturing obligations means maturing
debt and other obligations that may be
expected, such as buyouts of long-term
standby purchase commitments or
repurchases of agricultural mortgage
securities.
Mortgage securities means securities
that are either:
(1) Pass-through securities or
participation certificates that represent
ownership of a fractional undivided
interest in a specified pool of residential
(excluding home equity loans),
multifamily or commercial mortgages,
or
(2) A multiclass security (including
collateralized mortgage obligations and
real estate mortgage investment
conduits) that is backed by a pool of
residential, multifamily or commercial
real estate mortgages, pass-through
mortgage securities, or other multiclass
mortgage securities.
(3) This definition does not include
agricultural mortgage-backed securities
guaranteed by Farmer Mac itself.
Nationally recognized statistical
rating organization (NRSRO) means a
rating organization that the Securities
and Exchange Commission recognizes
as an NRSRO.
Non-program investments means
investments other than those in:
(1) ‘‘Qualified loans’’ as defined in
section 8.0(9) of the Farm Credit Act of
1971, as amended; or
(2) Securities collateralized by
‘‘qualified loans.’’
Program assets means on-balance
sheet ‘‘qualified loans’’ as defined in
section 8.0(9) of the Farm Credit Act of
1971, as amended.
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Program obligations means offbalance sheet ‘‘qualified loans’’ as
defined in section 8.0(9) of the Farm
Credit Act of 1971, as amended.
Regulatory capital means your core
capital plus an allowance for losses and
guarantee claims, as determined in
accordance with generally accepted
accounting principles.
Revenue bond means an obligation of
a municipal government that finances a
specific project or enterprise, but it is
not a full faith and credit obligation.
The obligor pays a portion of the
revenue generated by the project or
enterprise to the bondholders.
Weighted average life (WAL) means
the average time until the investor
receives the principal on a security,
weighted by the size of each principal
payment and calculated under specified
prepayment assumptions.
§ 652.10 Investment management and
requirements.
(a) Investment policies—board
responsibilities. Your board of directors
must adopt written policies for
managing your non-program investment
activities. Your board must also ensure
that management complies with these
policies and that appropriate internal
controls are in place to prevent loss. At
least annually, your board, or a
designated subcommittee of the board,
must review these investment policies.
Any changes to the policies must be
adopted by the board. You must report
any changes to these policies to FCA’s
Office of Secondary Market Oversight
within 10 business days of adoption.
(b) Investment policies—general
requirements. Your investment policies
must address the purposes and
objectives of investments, risk tolerance,
delegations of authority, exception
parameters, securities valuation,
internal controls, and reporting
requirements. Furthermore, the policies
must address the means for reporting,
and approvals needed for, exceptions to
established policies. Investment policies
must be sufficiently detailed, consistent
with, and appropriate for the amounts,
types, and risk characteristics of your
investments.
(c) Investment policies—risk
tolerance. Your investment policies
must establish risk limits and
diversification requirements for the
various classes of eligible investments
and for the entire investment portfolio.
These policies must ensure that you
maintain prudent diversification of your
investment portfolio. Risk limits must
be based on the Corporation’s
objectives, capital position, and risk
tolerance. Your policies must identify
the types and quantity of investments
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that you will hold to achieve your
objectives and control credit, market,
liquidity, and operational risks. Your
policies must establish risk limits for
the following four types of risk:
(1) Credit risk. Your investment
policies must establish:
(i) Credit quality standards, limits on
counterparty risk, and risk
diversification standards that limit
concentrations based on a single or
related counterparty(ies), a geographical
area, industries or obligations with
similar characteristics.
(ii) Criteria for selecting brokers,
dealers, and investment bankers
(collectively, securities firms). You must
buy and sell eligible investments with
more than one securities firm. As part
of your annual review of your
investment policies, your board of
directors, or a designated subcommittee
of the board, must review the criteria for
selecting securities firms. Any changes
to the criteria must be approved by the
board. Also, as part of your annual
review, the board, or a designated
subcommittee of the board, must review
existing relationships with securities
firms. In addition, the board, or a
designated subcommittee of the board,
must be notified before any changes to
securities firms are made.
(iii) Collateral margin requirements on
repurchase agreements. You must
regularly mark the collateral to market
and ensure appropriate controls are
maintained over collateral held.
(2) Market risk. Your investment
policies must set market risk limits for
specific types of investments, and for
the investment portfolio or for Farmer
Mac generally. Your board of directors
must establish market risk limits in
accordance with these regulations
(including, but not limited to, §§ 652.15
and 652.40) and our other policies and
guidance. You must document in the
Corporation’s records or minutes any
analyses used in formulating your
policies or amendments to the policies.
(3) Liquidity risk. Your investment
policies must describe the liquidity
characteristics of eligible investments
that you will hold to meet your liquidity
needs and the Corporation’s objectives.
(4) Operational risk. Investment
policies must address operational risks,
including delegations of authority and
internal controls in accordance with
paragraphs (d) and (e) of this section.
(d) Delegation of authority. All
delegations of authority to specified
personnel or committees must state the
extent of management’s authority and
responsibilities for investments.
(e) Internal controls. You must:
(1) Establish appropriate internal
controls to detect and prevent loss,
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40645
fraud, embezzlement, conflicts of
interest, and unauthorized investments.
(2) Establish and maintain a
separation of duties and supervision
between personnel who execute
investment transactions and personnel
who approve, revaluate, and oversee
investments.
(3) Maintain records and management
information systems that are appropriate
for the level and complexity of your
investment activities.
(f) Securities valuations. (1) Before
you purchase a security, you must
evaluate its credit quality and price
sensitivity to changes in market interest
rates. You must also verify the value of
a security that you plan to purchase,
other than a new issue, with a source
that is independent of the broker,
dealer, counterparty, or other
intermediary to the transaction. Your
investment policies must fully address
the extent of the prepurchase analysis
that management needs to perform for
various classes of instruments. For
example, you should specifically
describe the stress tests in § 652.40 that
must be performed on various types of
mortgage securities.
(2) At least monthly, you must
determine the fair market value of each
security in your portfolio and the fair
market value of your whole investment
portfolio. In doing so you must also
evaluate the credit quality and price
sensitivity to the change in market
interest rates of each security in your
portfolio and your whole investment
portfolio.
(3) Before you sell a security, you
must verify its value with a source that
is independent of the broker, dealer,
counterparty, or other intermediary to
the transaction.
(g) Reports to the board of directors.
At least quarterly, Farmer Mac’s
management must report to the
Corporation’s board of directors, or a
designated subcommittee of the board:
(1) On the performance and risk of
each class of investments and the entire
investment portfolio;
(2) All gains and losses that you incur
during the quarter on individual
securities that you sold before maturity
and why they were liquidated;
(3) Potential risk exposure to changes
in market interest rates and any other
factors that may affect the value of your
investment holdings;
(4) How investments affect your
overall financial condition;
(5) Whether the performance of the
investment portfolio effectively achieves
the board’s objectives; and
(6) Any deviations from the board’s
policies. These deviations must be
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formally approved by the board of
directors.
§ 652.15 Interest rate risk management
and requirements.
(a) The board of directors of Farmer
Mac must provide effective oversight
(direction, controls, and supervision) to
the interest rate risk management
program and must be knowledgeable of
the nature and level of interest rate risk
taken by Farmer Mac.
(b) The management of Farmer Mac
must ensure that interest rate risk is
properly managed on both a long-range
and a day-to-day basis.
(c) The board of directors of Farmer
Mac must adopt an interest rate risk
management policy that establishes
appropriate interest rate risk exposure
limits based on the Corporation’s riskbearing capacity and reporting
requirements in accordance with
paragraphs (d) and (e) of this section. At
least annually, the board of directors, or
a designated subcommittee of the board,
must review the policy. Any changes to
the policy must be approved by the
board of directors. You must report any
changes to the policy to FCA’s Office of
Secondary Market Oversight within 10
business days of adoption.
(d) The interest rate risk management
policy must, at a minimum:
(1) Address the purpose and
objectives of interest rate risk
management;
(2) Identify and analyze the causes of
interest rate risks within Farmer Mac’s
existing balance sheet structure;
(3) Require Farmer Mac to measure
the potential impact of these risks on
projected earnings and market values by
conducting interest rate shock tests and
simulations of multiple economic
scenarios at least quarterly;
(4) Describe and implement actions
needed to obtain Farmer Mac’s desired
risk management objectives;
(5) Document the objectives that
Farmer Mac is attempting to achieve by
purchasing eligible investments that are
authorized by § 652.35 of this subpart;
(6) Require Farmer Mac to evaluate
and document, at least quarterly,
whether these investments have actually
met the objectives stated under
paragraph (d)(4) of this section;
(7) Identify exception parameters and
post approvals needed for any
exceptions to the policy’s requirements;
(8) Describe delegations of authority;
and
(9) Describe reporting requirements,
including exceptions to policy limits.
(e) At least quarterly, Farmer Mac’s
management must report to the
Corporation’s board of directors, or a
designated subcommittee of the board,
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describing the nature and level of
interest rate risk exposure. Any
deviations from the board’s policy on
interest rate risk must be specifically
identified in the report and approved by
the board, or a designated subcommittee
of the board.
§ 652.20 Liquidity reserve management
and requirements.
(a) Minimum liquidity reserve
requirement. Within 24 months of this
rule becoming effective, and thereafter,
Farmer Mac must hold cash, eligible
non-program investments under
§ 652.35 of this subpart, and/or onbalance sheet securities backed by
portions of Farmer Mac program assets
(loans) that are guaranteed by the
United States Department of Agriculture
as described in section 8.0(9)(B) of the
Act (in accordance with the
requirements of paragraphs (b) and (c) of
this section), to maintain sufficient
liquidity to fund a minimum of 60 days
of maturing obligations, interest
expense, and operating expenses at all
times. You must document your
compliance with this minimum reserve
requirement at least once each month as
of the last day of the month using month
end data. Liquid asset values must be
marked to market. In addition, you must
have the capability and information
systems in place to be able to calculate
the minimum reserve requirement on a
daily basis.
(b) Free of lien. All investments held
for the purpose of meeting the liquidity
reserve requirement of this section must
be free of liens or other encumbrances.
(c) Discounts. The amount that may
be counted to meet the minimum
liquidity reserve requirement is as
follows:
(1) For cash and overnight
investments, multiply the cash and
investments by 100 percent;
(2) For money market instruments
with maturities of 5 business days or
less, multiply the instruments by 97
percent of market value;
(3) For money market instruments
with maturities greater than 5 business
days and floating rate debt and preferred
stock securities, multiply the
instruments and securities by 95 percent
of market value;
(4) For diversified investment funds,
multiply the individual securities in the
funds by the discounts that would apply
to the securities if held separately;
(5) For fixed rate debt and preferred
stock securities, multiply the securities
by 90 percent of market value;
(6) For securities backed by Farmer
Mac program assets (loans) guaranteed
by the United States Department of
Agriculture as described in section
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8.0(9)(B) of the Act, multiply the
securities by 75 percent; and
(7) We reserve the authority to modify
or determine the appropriate discount
for any investment used to meet the
minimum liquidity reserve requirement
if the otherwise applicable discount
does not accurately reflect the liquidity
of that investment or if the investment
does not fit wholly within one of the
specified investment categories. In
making any modification or
determination, we will consider the
liquidity of the investment as well as
any other relevant factors. We will
provide notice of at least 20 business
days before any modified discounts will
take effect.
(d) Liquidity reserve policy—board
responsibilities. Farmer Mac’s board of
directors must adopt a liquidity reserve
policy. The board must also ensure that
management uses adequate internal
controls to ensure compliance with the
liquidity reserve policy standards,
limitations, and reporting requirements
established pursuant to this paragraph
and to paragraphs (e), (f), and (g) of this
section. At least annually, the board of
directors or a designated subcommittee
of the board must review and validate
the liquidity policy’s adequacy. The
board of directors must approve any
changes to the policy. You must provide
a copy of the revised policy to FCA’s
Office of Secondary Market Oversight
within 10 business days of adoption.
(e) Liquidity reserve policy—content.
Your liquidity reserve policy must
contain at a minimum the following:
(1) The purpose and objectives of
liquidity reserves;
(2) A listing of specific assets, debt,
and arrangements that can be used to
meet liquidity objectives;
(3) Diversification requirements of
your liquidity reserve portfolio;
(4) Maturity limits and credit quality
standards for non-program investments
used to meet the minimum liquidity
reserve requirement of paragraph (a) of
this section;
(5) The minimum and target (or
optimum) amounts of liquidity that the
board believes are appropriate for
Farmer Mac;
(6) The maximum amount of nonprogram investments that can be held
for meeting Farmer Mac’s liquidity
needs, as expressed as a percentage of
program assets and program obligations;
(7) Exception parameters and post
approvals needed;
(8) Delegations of authority; and
(9) Reporting requirements.
(f) Liquidity reserve reporting—
periodic reporting requirements. At least
quarterly, Farmer Mac’s management
must report to the Corporation’s board
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of directors or a designated
subcommittee of the board describing, at
a minimum, liquidity reserve
compliance with the Corporation’s
policy and this section. Any deviations
from the board’s liquidity reserve policy
(other than requirements specified in
§ 652.20(e)(5)) must be specifically
identified in the report and approved by
the board of directors.
(g) Liquidity reserve reporting—
special reporting requirements. Farmer
Mac’s management must immediately
report to its board of directors any
noncompliance with board policy
requirements that are specified in
§ 652.20(e)(5). Farmer Mac must report,
in writing, to FCA’s Office of Secondary
Market Oversight no later than the next
business day following the discovery of
any breach of the minimum liquidity
reserve requirement at § 652.20(a).
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§ 652.25 Non-program investment
purposes and limitation.
(a) Farmer Mac is authorized to hold
eligible non-program investments listed
under § 652.35 for the purposes of
complying with the interest rate risk
requirements of § 652.15, complying
with the liquidity reserve requirements
of § 652.20, and managing surplus shortterm funds.
(b) Non-program investments cannot
exceed the greater of $1.5 billion or
thirty-five (35) percent of program assets
and program obligations, excluding 75
percent of the program assets that are
guaranteed by the United States
Department of Agriculture as described
in section 8.0(9)(B) of the Farm Credit
Act of 1971, as amended.
§ 652.30 Temporary regulatory waivers or
modifications for extraordinary situations.
Whenever the FCA determines that an
extraordinary situation exists that
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necessitates a temporary regulatory
waiver or modification, the FCA may, in
its sole discretion:
(a) Modify or waive the minimum
liquidity reserve requirement in
§ 652.20 of this subpart; and/or
(b) Modify the amount, qualities, and
types of eligible investments that you
are authorized to hold pursuant to
§ 652.25 of this subpart.
§ 652.35 Eligible non-program
investments.
(a) You may hold only the types,
quantities, and qualities of non-program
investments listed in the following NonProgram Investment Eligibility Criteria
Table. These investments must be
denominated in United States dollars.
BILLING CODE 6705–01–P
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Federal Register / Vol. 70, No. 134 / Thursday, July 14, 2005 / Rules and Regulations
(b) Rating of foreign countries.
Whenever the obligor or issuer of an
eligible investment is located outside
the United States, the host country must
maintain the highest sovereign rating for
political and economic stability by an
NRSRO.
(c) Marketable investments. All
eligible investments, except money
market instruments, must be readily
marketable. An eligible investment is
marketable if you can sell it promptly at
a price that closely reflects its fair value
in an active and universally recognized
secondary market. You must evaluate
and document the size and liquidity of
the secondary market for the investment
at time of purchase.
(d) Obligor limits. (1) You may not
invest more than 25 percent of your
regulatory capital in eligible
investments issued by any single entity,
issuer or obligor. This obligor limit does
not apply to Government-sponsored
agencies or Government agencies. You
may not invest more than 100 percent
of your regulatory capital in any one
Government-sponsored agency. There
are no obligor limits for Government
agencies.
(2) Obligor limits for your holdings in
an investment company. You must
count securities that you hold through
an investment company towards the
obligor limits of this section unless the
investment company’s holdings of the
security of any one issuer do not exceed
5 percent of the investment company’s
total portfolio.
(e) Preferred stock and other
investments approved by the FCA. (1)
You may purchase non-program
investments in preferred stock issued by
other Farm Credit System institutions
only with our written prior approval.
You may also purchase non-program
investments other than those listed in
the Non-Program Investment Eligibility
Criteria Table at paragraph (a) of this
section only with our written prior
approval.
(2) Your request for our approval must
explain the risk characteristics of the
investment and your purpose and
objectives for making the investment.
§ 652.40 Stress tests for mortgage
securities.
(a) You must perform stress tests to
determine how interest rate changes
will affect the cashflow and price of
each mortgage security that you
purchase and hold, except for adjustable
rate mortgage securities that reprice at
intervals of 12 months or less and are
tied to an index. You must also use
stress tests to gauge how interest rate
fluctuations on mortgage securities
affect your capital and earnings. The
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stress tests must be able to measure the
price sensitivity of mortgage
instruments over different interest rate/
yield curve scenarios and be consistent
with any asset liability management and
interest rate risk policies. The
methodology that you use to analyze
mortgage securities must be appropriate
for the complexity of the instrument’s
structure and cashflows. Prior to
purchase and each quarter thereafter,
you must use the stress tests to
determine that the risk in the mortgage
securities is within the risk limits of
your board’s investment policies. The
stress tests must enable you to
determine at the time of purchase and
each subsequent quarter that the
mortgage security does not expose your
capital or earnings to excessive risks.
(b) You must rely on verifiable
information to support all your
assumptions, including prepayment and
interest rate volatility assumptions. You
must document the basis for all
assumptions that you use to evaluate the
security and its underlying mortgages.
You must also document all subsequent
changes in your assumptions. If at any
time after purchase, a mortgage security
no longer complies with requirements
in this section, Farmer Mac’s
management must report to the
Corporation’s board of directors in
accordance with § 652.10(g).
§ 652.45 Divestiture of ineligible nonprogram investments.
(a) Divestiture requirements—(1)
Initial divestiture requirements. Within
6 months of this rule’s effective date,
you must divest of all ineligible nonprogram investments or securities
unless we approve, in writing, a plan
that authorizes you to divest the
instruments over a longer period of
time. An acceptable plan generally
would require you to divest of the
ineligible investments or securities as
quickly as possible without substantial
financial loss.
(2) Subsequent divestiture
requirements. Subsequent to the initial
divestiture period set forth in paragraph
(a)(1) of this section, you must divest of
an ineligible non-program investment or
security within 6 months unless we
approve, in writing, a plan that
authorizes you to divest the instrument
over a longer period of time. An
acceptable plan generally would require
you to divest of the ineligible
investment or security as quickly as
possible without substantial financial
loss.
(b) Reporting requirements. Until you
divest of the ineligible non-program
investment or security, you must report
at least quarterly to your board of
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Fmt 4700
Sfmt 4700
directors and to FCA’s Office of
Secondary Market Oversight about the
status and performance of the ineligible
instrument, the reasons why it remains
ineligible, and the manager’s progress in
divesting of the investment.
Subpart B—Risk-Based Capital
Requirements [Reserved]
PART 650—FEDERAL AGRICULTURAL
MORTGAGE CORPORATION
GENERAL PROVISIONS
10. The authority citation for part 650
continues to read as follows:
I
Authority: Secs. 4.12, 5.9, 5.17, 8.11, 8.31,
8.32, 8.33, 8.34, 8.35, 8.36, 8.37, 8.41 of the
Farm Credit Act (12 U.S.C. 2183, 2243, 2252,
2279aa–11, 2279bb, 2279bb–1, 2279bb–2,
2279bb–3, 2279bb–4, 2279bb–5, 2279bb–6,
2279cc); sec. 514 of Pub. L. 102–552, 106
Stat. 4102; sec. 118 of Pub. L. 104–105, 110
Stat. 168.
11. Amend part 650 by revising the
part heading to read as set forth above.
I
§§ 650.1 through 650.68
[Redesignated]
12. Redesignate §§ 650.1 through
650.68 as follows:
I
Old section
New section
650.1, subpart A ........
650.2, subpart A ........
650.3, subpart A ........
650.4, subpart A ........
650.20, subpart B ......
650.21, subpart B ......
650.22, subpart B ......
650.23, subpart B ......
650.24, subpart B ......
650.25, subpart B ......
650.26, subpart B ......
650.27, subpart B ......
650.28, subpart B ......
650.29, subpart B ......
650.30, subpart B ......
650.31, subpart B ......
Appendix A to Subpart B of Part 650
650.50,
650.51,
650.52,
650.55,
650.56,
650.57,
650.58,
650.59,
650.60,
650.61,
650.62,
650.63,
650.64,
650.65,
650.66,
650.67,
650.68,
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subpart
subpart
subpart
subpart
subpart
subpart
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subpart
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subpart
subpart
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C
C
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C
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651.1
651.2
651.3
651.4
652.50, subpart B
652.55, subpart B
652.60, subpart B
652.65, subpart B
652.70, subpart B
652.75, subpart B
652.80, subpart B
652.85, subpart B
652.90, subpart B
652.95, subpart B
652.100, subpart B
652.105, subpart B
Appendix A to Subpart B of Part 652
650.1
650.5
650.10
650.15
650.20
650.25
650.30
650.35
650.40
650.45
650.50
650.55
650.60
650.65
650.70
650.75
650.80
Federal Register / Vol. 70, No. 134 / Thursday, July 14, 2005 / Rules and Regulations
Subpart A—General Provisions
§ 650.75
[Amended]
13. Amend newly designated § 650.75
by removing the reference ‘‘§ 620.40’’
and adding in its place, the reference
‘‘§ 655.1’’ in paragraph (c).
I
PART 653—[ADDED AND RESERVED]
PART 654—[ADDED AND RESERVED]
I
14. Add and reserve parts 653 and 654.
Dated: July 7, 2005.
Jeanette C. Brinkley,
Secretary, Farm Credit Administration Board.
[FR Doc. 05–13831 Filed 7–13–05; 8:45 am]
BILLING CODE 6705–01–P
DEPARTMENT OF TRANSPORTATION
Federal Aviation Administration
14 CFR Part 39
[Docket No. FAA–2004–18670; Directorate
Identifier 2002–NM–83–AD; Amendment 39–
14187; AD 2005–14–10]
RIN 2120–AA64
Airworthiness Directives; McDonnell
Douglas Model DC–10–10 and DC–10–
10F Airplanes; Model DC–10–15
Airplanes; Model DC–10–30 and DC–
10–30F (KC–10A and KDC–10)
Airplanes; and Model DC–10–40 and
DC–10–40F Airplanes
Federal Aviation
Administration (FAA), Department of
Transportation (DOT).
ACTION: Final rule.
AGENCY:
SUMMARY: The FAA is superseding an
existing airworthiness directive (AD),
which applies to certain McDonnell
Douglas transport category airplanes.
That AD currently requires
implementation of a program of
structural inspections to detect and
correct fatigue cracking in order to
ensure the continued airworthiness of
these airplanes as they approach the
manufacturer’s original fatigue design
life goal. This new AD requires
implementation of a program of
structural inspections of baseline
structure to detect and correct fatigue
cracking in order to ensure the
continued airworthiness of these
airplanes as they approach the
manufacturer’s original fatigue design
life goal. This AD is prompted by a
significant number of these airplanes
approaching or exceeding the design
service goal on which the initial type
certification approval was predicated.
We are issuing this AD to detect and
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17:24 Jul 13, 2005
Jkt 205001
correct fatigue cracking that could
compromise the structural integrity of
these airplanes.
DATES: This AD becomes effective
August 18, 2005.
The incorporation by reference of
Boeing Report No. L26–012, ‘‘DC–10
Supplemental Inspection Document
(SID),’’ Volume I, Revision 6, dated
February 2002; and McDonnell Douglas
Report No. L26–012, ‘‘DC–10
Supplemental Inspection Document
(SID),’’ Volume II Revision 8, dated
November 2003; as listed in the AD, is
approved by the Director of the Federal
Register as of August 18, 2005.
On January 2, 1996, (60 FR 61649,
December 1, 1995), the Director of the
Federal Register approved the
incorporation by reference of certain
publications, as listed in the regulations.
On November 24, 1993 (58 FR 54949,
October 25, 1993), the Director of the
Federal Register approved the
incorporation of a certain other
publication, as listed in the regulations.
ADDRESSES: For service information
identified in this AD, contact Boeing
Commercial Airplanes, Long Beach
Division, 3855 Lakewood Boulevard,
Long Beach, California 90846,
Attention: Data and Service
Management, Dept. C1–L5A (D800–
0024). You can examine this
information at the National Archives
and Records Administration (NARA).
For information on the availability of
this material at NARA, call (202) 741–
6030, or go to: https://www.archives.gov/
federal_register/
code_of_federal_regulations/
ibr_locations.html.
Docket: The AD docket contains the
proposed AD, comments, and any final
disposition. You can examine the AD
docket on the Internet at https://
dms.dot.gov, or in person at the Docket
Management Facility office between 9
a.m. and 5 p.m., Monday through
Friday, except Federal holidays. The
Docket Management Facility office
(Telephone (800) 647–5227) is located
on the plaza level of the Nassif Building
at the U.S. Department of
Transportation, 400 Seventh Street SW.,
room PL–401, Washington, DC. This
docket number is FAA–2004–18670; the
directorate identifier for this docket is
2002–NM–83–AD.
FOR FURTHER INFORMATION CONTACT: Ron
Atmur, Aerospace Engineer, Airframe
Branch, ANM–120L, FAA, Los Angeles
Aircraft Certification Office, 3960
Paramount Boulevard, Lakewood,
California 90712–4137; telephone (562)
627–5224; fax (562) 627–5210.
SUPPLEMENTARY INFORMATION: The FAA
proposed to amend part 39 of the
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40651
Federal Aviation Regulations (14 CFR
part 39) with an AD to supersede AD
95–23–09, amendment 39–9429 (60 FR
61649, December 1, 1995). The existing
AD applies to certain McDonnell
Douglas transport category airplanes.
The proposed AD was published in the
Federal Register on August 3, 2004 (69
FR 46456), to require implementation of
a program of structural inspections of
baseline structure to detect and correct
fatigue cracking in order to ensure the
continued airworthiness of these
airplanes as they approach the
manufacturer’s original fatigue design
life goal.
Comments
We provided the public the
opportunity to participate in the
development of this AD. We have
considered the comments that have
been submitted on the proposed AD.
One Commenter Has No Objection to
the Proposed AD
One commenter, an operator, advises
that it has no objection to the proposed
AD.
Requests To Revise Compliance Times
for Certain Airplanes
One commenter, an operator, requests
that, for airplanes approaching 3⁄4 of the
fatigue life threshold (Nth), the grace
period for the compliance time required
by paragraph (j)(1) of the proposed AD
be extended from ‘‘within 18 months of
the effective date of the AD’’ to ‘‘within
60 months of the effective date of the
AD.’’ The commenter states that some of
the inspections would require
significant efforts and cost to access the
inspection area. The commenter notes
that while the proposed AD would
require inspection within 18 months
from the effective date of the AD for
airplanes approaching 3⁄4 Nth, the
proposed AD would not require the
same inspections for airplanes just
beyond 3⁄4 Nth at the effective date of the
AD until the airplane reached Nth,
which is several years later in most
cases. Another commenter requests that
the inspections required by paragraph
(j)(1) of the proposed AD be revised to
‘‘prior to Nth or DNDI/2, whichever
comes later.’’ The commenter points out
that the revision would more accurately
reflect the intent of the DC–10
Supplemental Inspection Document
(SID) program.
We agree that the grace period
specified in paragraph (j)(1) of the AD
may be extended to ‘‘within 60 months
after the effective date of the AD,’’ and
have revised paragraph (j)(1) of the final
rule accordingly. We consider that
extension of the grace period will not
E:\FR\FM\14JYR1.SGM
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]]>Agencies
[Federal Register Volume 70, Number 134 (Thursday, July 14, 2005)]
[Rules and Regulations]
[Pages 40635-40651]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 05-13831]
========================================================================
Rules and Regulations
Federal Register
________________________________________________________________________
This section of the FEDERAL REGISTER contains regulatory documents
having general applicability and legal effect, most of which are keyed
to and codified in the Code of Federal Regulations, which is published
under 50 titles pursuant to 44 U.S.C. 1510.
The Code of Federal Regulations is sold by the Superintendent of Documents.
Prices of new books are listed in the first FEDERAL REGISTER issue of each
week.
========================================================================
Federal Register / Vol. 70, No. 134 / Thursday, July 14, 2005 / Rules
and Regulations
[[Page 40635]]
FARM CREDIT ADMINISTRATION
12 CFR Parts 620, 621, 650, 651, 652, 653, 654, and 655
RIN 3052-AC18
Disclosure to Shareholders; Accounting and Reporting
Requirements; Federal Agricultural Mortgage Corporation General
Provisions; Federal Agricultural Mortgage Corporation Governance;
Federal Agricultural Mortgage Corporation Funding and Fiscal Affairs;
Federal Agricultural Mortgage Corporation Disclosure and Reporting
Requirements
AGENCY: Farm Credit Administration.
ACTION: Final rule.
-----------------------------------------------------------------------
SUMMARY: The Farm Credit Administration (FCA, our, or we) issues this
final rule governing the Federal Agricultural Mortgage Corporation
(Farmer Mac or the Corporation) in the areas of non-program investments
and liquidity. The intent of the rule is to ensure that Farmer Mac
continues to hold high-quality, liquid investments to maintain a
sufficient liquidity reserve, invest surplus funds, and manage
interest-rate risk, while maintaining non-program investments at
appropriate levels considering Farmer Mac's status as a Government-
sponsored enterprise.
EFFECTIVE DATE: This regulation will be effective 30 days after
publication in the Federal Register during which time either or both
Houses of Congress are in session. We will publish a notice of the
effective date in the Federal Register.
FOR FURTHER INFORMATION CONTACT: Joseph T. Connor, Associate Director
for Policy and Analysis, Office of Secondary Market Oversight, Farm
Credit Administration, McLean, VA 22102-5090, (703) 883-4364; TTY (703)
883-4434; or Jennifer A. Cohn, Senior Attorney, Office of General
Counsel, Farm Credit Administration, McLean, VA 22102-5090, (703) 883-
4020, TTY (703) 883-4020.
SUPPLEMENTARY INFORMATION:
I. Objectives
Farmer Mac's long-term liquidity is dependent on its ability to
obtain funding from the securities markets. To aid in assuring market
access, sources of liquid and low-risk investments are needed to
provide liquidity in the short-term in the event of market disruptions
or aberrations. The primary objectives of the final rule are to ensure
the safety and soundness and continuity of Farmer Mac operations by:
Establishing minimum liquidity standards that would
require Farmer Mac to hold sufficient high-quality, marketable
investments to provide adequate liquidity to fund maturing obligations,
interest expense, and operating expenses for a minimum of 60 days;
Specifying the type, quality, and maximum amount (or
limit) of non-program investments \1\ that may be held by Farmer Mac;
---------------------------------------------------------------------------
\1\ Pursuant to title VIII of the Farm Credit Act of 1971, as
amended (Act), Farmer Mac issues debt in order to purchase or commit
to purchase (invest in) ``program'' assets and obligations under the
Corporation's core programs known as the Farmer Mac I Program and
the Farmer Mac II Program. Under these programs, Farmer Mac
purchases, or commits to purchase, ``qualified loans,'' as that term
is defined in section 8.0(9) of the Act. Generally, ``qualified
loans'' consist of loans on agricultural real estate or portions of
loans guaranteed by the United States Department of Agriculture.
Under section 8.0(1) of the Act, ``agricultural real estate''
includes both (1) a parcel or parcels of land or a building or
structure affixed to the parcel or parcels that is used for the
production of one or more agricultural commodities or products and
(2) single-family, moderately priced principal residential dwellings
located in rural areas. In this supplementary information, we refer
to loans made on this latter type of real estate as ``rural housing
mortgages.'' The rule defines investments other than those in (1)
``qualified loans,'' or (2) securities collateralized by ``qualified
loans,'' as ``non-program'' investments.
---------------------------------------------------------------------------
Establishing diversification requirements, including
portfolio limits on specific types of investments and counterparty
exposure limits; and
Requiring Farmer Mac's board of directors to approve
liquidity and non-program investment management policies and implement
appropriate internal controls to oversee the investment and liquidity
management of the Corporation.
Another objective of this proposal is to better organize current
regulatory sections pertaining to Farmer Mac, details of which are
discussed in section V. below.
II. Background
On June 14, 2004, we published a proposed regulation for public
comment.\2\ As discussed in the proposed rule's supplementary
information, we proposed these regulations because Farmer Mac has grown
significantly in the past 10 years in terms of on-balance sheet assets
and off-balance sheet obligations. We believe its exposure to various
business risks, including liquidity risk, also has grown and could grow
significantly in the future. In addition, excessive or inappropriate
use of non-program investments is not consistent with the Corporation's
status as a Government-sponsored enterprise (GSE). This rule seeks to
enhance both safety and soundness and the program focus of the
Corporation.
---------------------------------------------------------------------------
\2\ 69 FR 32905.
---------------------------------------------------------------------------
III. Comments
We received four comment letters on the proposed rule; two from
Farmer Mac, and one each from the Farm Credit Bank of Texas (FCBT) and
AgFirst Farm Credit Bank (AgFirst). In general, the comments consider
the proposed rule's provisions to be inappropriately detailed,
specific, and restrictive. Specific comments are discussed in the next
section of this supplementary information.
IV. FCA's Summary of the Provisions of the Final Rule and Responses to
Comments on the Proposed Rule
We begin by summarizing and responding to general comments on the
proposed rule and then provide a section-by-section summary of
provisions of the final rule. This summary includes a discussion of the
comments on the proposed rule and FCA's responses to the comments.
A. General Comments
Farmer Mac and AgFirst commented that, in general, policies and
procedures for investments, liquidity and the management of interest
rate risk are best left to the Corporation's board of directors, with
FCA oversight through the examination process. FCBT echoed this general
view, adding that any regulations should be flexible enough to
[[Page 40636]]
allow management the capability to react quickly to changing
circumstances. All three commenters suggested that the level of
specificity in the proposed rule could result in Farmer Mac's
management being constrained to an undesirable degree under certain
conditions.
In responding to these concerns we note that a primary objective of
the rule is to establish a regulatory framework governing non-program
investments and liquidity. This framework includes several quantitative
limits on which the liquidity policies of the Corporation are to be
based. We intend this regulatory framework to provide management with
an enhanced level of guidance with which to structure the Corporation's
internal policies on liquidity and non-program investments as well as
to establish FCA standards of acceptability through quantitative limits
on these measurements.
One specific requirement, the minimum liquidity reserve requirement
(Farmer Mac must hold liquid investments sufficient to fund at least 60
days of maturing obligations, interest expense, and operating expenses)
\3\ should not be viewed as a target but as the minimum acceptable
level under normal financial market conditions. The Corporation must
also implement internal policy targets for days-of-liquidity. We
believe the 60-day minimum provides the Corporation sufficient
flexibility to manage liquidity under a variety of conditions and
circumstances.
---------------------------------------------------------------------------
\3\ Also referred to in this supplementary information as
``days-of-liquidity.''
---------------------------------------------------------------------------
We believe the provisions of the final rule achieve greater clarity
of FCA guidance and expectations on internal policymaking for Farmer
Mac while both avoiding an excessive level of specificity and
minimizing the potential for imposing unnecessary constraints that
could adversely impact Farmer Mac's operations.
In their comments, Farmer Mac and FCBT expressed a preference for a
regulatory approach similar to that in place for Farm Credit System
(FCS) banks' investments and liquidity. We note that the approaches are
similar in areas such as investment categories, category limits,
obligor limits, and discounts, because we believe certain regulatory
approaches and quantitative limits on liquidity and investments are
reasonably applied to a wide variety of types of financial
institutions. However, there are valid reasons to adopt differing
regulatory approaches in certain areas because of the differences in
the types of business conducted by the regulated institutions (e.g.,
Farmer Mac's large proportion of mortgage assets and off-balance sheet
obligations relative to direct lenders). Other differences may exist in
areas in which the approach governing FCS banks is not the only
reasonable regulatory approach.
In response to the commenters' contention that FCA should exercise
its oversight authority over non-program and liquidity management
through its examinations rather than through regulation, we state that
while examinations are an integral component of our oversight, it is
inappropriate for FCA to rely solely on examinations. Regulations are
another oversight tool; they enhance the examination process by
establishing clearly understood requirements in advance, thus enabling
the reduction of potential problems that might become examination
findings absent those regulations.
B. Section 652.1--Purpose
This section provides the user with a basic understanding of the
contents and purpose of this subpart. The purpose of this subpart is to
ensure safety and soundness, continuity of funding, and appropriate use
of non-program investments considering Farmer Mac's status as a GSE. It
also highlights responsibilities of Farmer Mac's board of directors and
management. No comments specific to this section were received and none
of its provisions were changed in the final rule.
C. Section 652.5--Definitions
This section alphabetically lists words or phrases that are
applicable to this subpart and will help the user more fully understand
the subpart and our requirements. Most of the definitions are self-
explanatory, but one definition will benefit from explanation.
The definition of ``Government-sponsored agency'' includes
Government-sponsored enterprises such as Fannie Mae and the Federal
Home Loan Mortgage Corporation (Freddie Mac), as well as Federal
agencies, such as the Tennessee Valley Authority, that issue
obligations that are not explicitly guaranteed by the Government of the
United States' full faith and credit. The definition in the final rule
is slightly different from that in our proposal, although the meaning
is the same; we have clarified that the term includes corporations, as
well as agencies or instrumentalities, that are chartered or
established to serve public purposes specified by Congress, and also
that it includes GSEs. This information was provided in the
supplementary information to the proposed rule but was not explicitly
stated in the rule itself.
No comments specific to this section were received but several of
its provisions were changed for clarity in the final rule in response
to comments on other sections. Specifically, we are adding definitions
for ``program assets'' and ``program obligations'' and are substituting
``regulatory capital'' for ``total capital.''
D. Section 652.10--Investment Management and Requirements
This section requires Farmer Mac to establish and follow certain
fundamental practices to effectively manage risks in its investment
portfolio. An effective risk management process for investments
requires financial institutions to establish: (1) Policies; (2) risk
limits; (3) a mechanism for identifying, measuring, and reporting risk
exposures; and (4) a strong system of internal controls. Accordingly,
Sec. 652.10 requires Farmer Mac's board of directors to adopt written
policies that establish risk limits and guide the decisions of
investment managers. More specifically, board policies must establish
objective criteria so investment managers can prudently manage credit,
market, liquidity, and operational risks. Additionally, Sec. 652.10
establishes other controls that are consistent with sound business
practices, such as:
(1) Clear delegation of responsibilities and authorities to
investment managers;
(2) Separation of duties;
(3) Timely and effective securities valuation practices; and
(4) Routine reports on investment performance.
Both Farmer Mac and FCBT objected to the proposed rule's pre-
purchase and pre-sale securities valuation requirements for non-program
investments, found in Sec. 652.10(f). Farmer Mac commented generally
that because its board has established and monitors policies and
procedures governing the valuation process for securities purchased and
internal controls of investment management, there is no need for FCA to
adopt a regulation prescribing the details of such policies and
procedures.
We agree that Farmer Mac should have flexibility in establishing
its policies and procedures governing securities valuation. However,
because of the potentially serious consequences of valuation errors,
our regulations set forth basic requirements for Farmer Mac's policies
and procedures. We believe, in general, that proposed Sec. 652.10(f)
permits sufficient flexibility for Farmer Mac. Accordingly, the final
rule retains the general structure of the
[[Page 40637]]
proposed rule, although we have made some changes in response to
comments on specific provisions of this section.
Section 652.10(f)(1) of the proposed regulation required Farmer Mac
to evaluate a security's credit quality prior to purchase. In the
supplementary information explaining this proposed provision, we stated
that Farmer Mac:
may not rely exclusively on NRSRO \4\ ratings prior to purchasing
investments. An independent and timely evaluation performed by
Farmer Mac is needed because there may be a lag before an adverse
event is reflected in the credit rating. Therefore, Farmer Mac's
analysis must indicate whether the security's risk has changed
subsequent to the most recent NRSRO rating.
---------------------------------------------------------------------------
\4\ Nationally recognized statistical rating organization.
Farmer Mac commented that the proposed regulation, as interpreted
by the supplementary information, effectively required Farmer Mac to
``second guess'' the NRSROs and would not be practical. The FCBT made a
similar comment. Farmer Mac was concerned that its practice of
routinely monitoring rating watch lists and news reports for recent
events that could indicate stress in individual businesses and industry
sectors might not be sufficient to satisfy FCA.
We reiterate that, because of potential lags before NRSRO ratings
reflect adverse events, Farmer Mac must evaluate a security's risk
subsequent to its most recent rating. Section 652.10(f)(1) does not,
however, require a particular method of evaluating a security's risk.
Farmer Mac may use any reliable approach to monitoring this risk. As a
good business practice, Farmer Mac should retain documentation of its
evaluation.
Section 652.10(f)(1) of the proposed rule required Farmer Mac,
among other things, to ``verify the value of a security that [it]
plan[s] to purchase, other than a new issue, with a source that is
independent of the broker, dealer, counterparty, or other intermediary
of the transaction.'' Farmer Mac commented that no benefit would be
provided by requiring alternative price quotes because it would not
necessarily afford Farmer Mac the opportunity to purchase the
investment at the same or a better price.
FCA makes no change to this pre-purchase independent valuation
verification requirement in the final rule. Accurate securities
valuation is essential to measuring risk and monitoring compliance with
Farmer Mac's objectives and risk parameters. Such valuation practices
by the Corporation enable managers to better understand the risks and
cashflow characteristics of their investments.
In addition, we note that, as stated in the supplementary
information to the proposed rule, independent verification of price can
be as simple as obtaining a price from an industry-recognized
information provider. Farmer Mac may satisfy this requirement by
independently verifying the price of a security with an online market
reporting service such as Bloomberg, Telerate, or Reuters. We believe
the benefits of this provision exceed any added burden on Farmer Mac.
Section 652.10(f)(1) of the proposed rule also would have required
Farmer Mac, before it purchases a security, to document the size and
liquidity of the secondary market for the security. The supplementary
information stated that we expected Farmer Mac to monitor and update
this information as market conditions change. Farmer Mac commented that
this requirement is vague and difficult to accomplish, would be unduly
time consuming, and would lead to missed investment opportunities. The
FCBT commented that the requirement is not necessary for certain types
of very high quality securities commonly known to trade in active
secondary markets, such as agency-issued mortgage-backed securities.
The FCBT also pointed out that the regulation does not specify what
form the documentation should take.
We agree that satisfying this documentation requirement could
present a challenge in some instances and have removed this
documentation requirement from the rule. We affirm the Agency's view
that such documentation is a good business practice.
Section 652.10(c)(2) of the proposed rule required Farmer Mac to
evaluate how individual instruments and the investment portfolio as a
whole affect the Corporation's overall interest rate profile. We have
removed this requirement in the final rule. We believe that the
limitations on the investment portfolio in Sec. 652.35 of this rule,
combined with our oversight of Farmer Mac's internal procedures on
interest rate risk management, warrant this removal.
Section 652.10(c)(1)(ii) of the proposed rule provided that Farmer
Mac's board must approve any changes to securities firms. Farmer Mac
commented that, although it may be appropriate for the board to
establish criteria for the selection of securities firms, the selection
or removal of firms meeting the criteria is properly a function of
management, with oversight by the board for compliance with board
policy. We agree with this comment and have revised the provision to
require pre-change notification to the board, or a designated
subcommittee of the board, instead of board approval of the change.
We emphasize that the selection of securities firms is an important
aspect of effective management of counterparty credit risk. A
satisfactory approval process includes a review of each firm's
financial statements and an evaluation of its ability to honor its
commitments, including an inquiry into the general reputation of the
securities firm. We expect Farmer Mac to review information from
Federal or state securities regulators and industry self-regulatory
organizations, such as the National Association of Securities Dealers,
concerning any formal enforcement actions against the securities firm,
its affiliates, or associated personnel.
E. Section 652.15--Interest Rate Risk Management and Requirements
Because interest rate risk management is such an important part of
investment management, Sec. 652.15 establishes certain
responsibilities of Farmer Mac's board of directors and management as
well as policy requirements to address the management of interest rate
risk exposure. The regulations outline our minimum expectations for the
management of interest rate risk exposure.
The potentially adverse effect that interest rate risk may have on
net interest income and the market value of Farmer Mac's equity is of
particular importance. Unless properly measured and managed, interest
rate changes can have significant adverse effects on Farmer Mac's
ability to generate earnings, build net worth, and maintain liquidity.
We received no comments specific to this section. Other than two self-
explanatory, minor clarifications, we made no changes to this provision
in the final rule.
F. Section 652.20--Liquidity Reserve Management and Requirements
This section sets forth the minimum daily liquidity reserve
requirement (i.e., the minimum days-of-liquidity), provides guidance on
how that calculation is to be made, including specifying the discounts
to be applied to various investments, and explains board
responsibilities, required policies, and reporting requirements.
Section 652.20(a) provides that, within 24 months of this rule's
effective date, and thereafter, Farmer Mac must hold cash, eligible
non-program investments, and/or on-balance sheet
[[Page 40638]]
securities backed by portions of USDA guaranteed loans to maintain at
all times sufficient liquidity to fund a minimum of 60 days of maturing
obligations, interest expense, and estimated operating expense.
AgFirst commented that the proposed minimum days-of-liquidity
requirement should be increased to 90 days from 60 days, consistent
with the self-imposed policy of the FCS, which was implemented after
discussions with several NRSROs.\5\ We have made no change to the
required 60-day minimum. The final rule imposes a minimum below which
Farmer Mac must not drop for safety and soundness purposes.\6\ Section
652.20(e) requires Farmer Mac's liquidity reserve policy to specify the
minimum and target (or optimum) amounts of liquidity that the board
believes are appropriate for Farmer Mac. These minimum and target
amounts may need to be significantly higher than 60 days. FCA intends
to monitor Farmer Mac's implementation of this provision.
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\5\ AgFirst also commented that FCA should try to minimize the
regulatory burden this rule imposes. We note that requiring 90
rather than 60 days-of-liquidity would increase regulatory burden.
\6\ Under new Sec. 652.30(a), if the FCA determines that an
extraordinary situation exists that necessitates a temporary
regulatory waiver or modification, it may, in its sole discretion,
waive or modify this minimum.
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Farmer Mac commented that the proposed rule's requirement, in Sec.
652.20(a), that days-of-liquidity be calculated and documented daily
was an overly burdensome time interval and recommended changing the
interval to monthly. In the final rule, this time interval is revised
to monthly with the added specification that the Corporation must have
systems in place that provide it the ability to make this calculation
daily, and must maintain liquidity greater than 60 days at all times.
Prudent business practice dictates that, if circumstances warrant,
Farmer Mac may need to calculate its days-of-liquidity more often than
the regulation requires. Such circumstances could include management
decisions relative to debt issuance, asset-liability management, and
investment purchases, all of which must be made with knowledge of the
institution's liquidity position. We expect Farmer Mac's liquidity
management practices to be monitored by Farmer Mac's internal audit
function.
FCBT commented that, rather than specifying specific discount
amounts, FCA's regulations should require Farmer Mac to apply discounts
that are appropriate under prevailing market practices and expectations
concerning liquidity. We believe it is appropriate for FCA to prescribe
the discounts to ensure that an acceptable level of conservatism is
applied to the Corporation's estimates of the liquidity of these
instruments. As with other required calculations in this rule, we
believe these discounts improve the clarity of the Agency's
expectations on this subject to Farmer Mac and are best provided
formally through rulemaking and in advance of the examination process.
However, we have clarified in Sec. 652.20(a) that discounts are to be
applied to liquid asset values that have been marked to market, and in
Sec. 652.20(c)(3) and (c)(5) that discounts also apply to preferred
stock investments.
Farmer Mac and FCBT commented that the discounts applied in Sec.
652.20(c) to non-program assets for purposes of the days-of-liquidity
calculation in the proposed rule are too great at 5 percent on money
market instruments and floating rate debt securities and 10 percent on
fixed rate debt securities. Farmer Mac supported this comment on the
basis of the lower discounts applied by the Federal Reserve Discount
Window (Fed) and the New York Stock Exchange (NYSE) for pledged assets.
Farmer Mac's comment noted that the two examples they offer are not
exactly analogous to the discounts applied in the proposed rule, but
the Corporation requested consideration of these alternatives as
potentially more appropriate benchmarks for discounts.
We acknowledge that the Fed discount window and NYSE discounts on
margin collateral are lower but, with one exception, we have kept the
discounts in this rule as proposed. The cited Fed discounts by their
nature are applied to transactions with a very short-time horizon on
average, typically overnight for the majority of the Fed discount
window volume.\7\ While NYSE positions requiring margin accounts are,
on average, likely longer term than overnight, we have no information
that would suggest the typical period over which the NYSE holds such
pledged assets is as long as the several-year terms of many of Farmer
Mac's investments. Farmer Mac's generally longer investment terms
inherently involve greater risk, as they provide more time for the
liquidity of the security to change.
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\7\ The information related to the Federal Reserve is taken from
the Federal Reserve Web site's description of the Discount Window.
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However, the term difference between Farmer Mac and the Fed
Discount Window is not always the case, for example with Farmer Mac's
use of overnight and very short-term money market investments. In
recognition of this, we have partially accommodated the comment by
reducing the discount on money market instruments with maturities of 5-
business days or less from 5 percent to 3 percent, in Sec.
652.20(c)(2).
As discussed below, Sec. 652.20(c)(7) of the rule reserves FCA's
authority to modify or determine the appropriate discount for an
investment if the otherwise applicable discount does not accurately
reflect the investment's liquidity. FCA's Office of Secondary Market
Oversight (OSMO) will consider any request Farmer Mac submits for a
revised discount on particular items in its investment portfolio.
Farmer Mac commented that the proposed rule's 50-percent discount
of securities backed by portions of Farmer Mac program assets (loans)
guaranteed by the USDA (the Farmer Mac II portfolio or USDA-Guaranteed
Portions) in Sec. 652.20(c)(5) \8\ is excessive because: (1) The
assets are backed by the full faith and credit of the U.S. Government;
(2) there exists a well-developed, competitive and active secondary
market for USDA-Guaranteed Portions among numerous broker/dealers and
banks around the country; (3) the interest rates on a large portion of
Farmer Mac's USDA-guaranteed loans reset within 1 year, thereby
presenting very limited exposure to market pricing risk; and, (4) the
50-percent discount is not consistent with FCA's June 25, 2004
Informational Memorandum on Investments in Rural America, which
expressly encourages FCS institutions to participate in the secondary
market for USDA-Guaranteed Portions and does not suggest that such
investments would be discounted.
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\8\ Renumbered as Sec. 652.20(c)(6) in the final rule.
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We agree with the comment that a 50-percent discount of the Farmer
Mac II portfolio is too conservative an estimate of its liquidity. It
is inherently difficult to evaluate precisely the depth of the market
for USDA-Guaranteed Portions because they are traded through a broker
market. However, FCA believes there is reasonable evidence pointing to
greater liquidity of these instruments. Accordingly, the final rule
decreases the discount to 25 percent of the on-balance sheet portion of
the Farmer Mac II portfolio. In other words, the calculation now
includes 75 percent of on-balance sheet Farmer Mac II assets as liquid
investments, as a conservative estimate of the liquidity of the Farmer
Mac II portfolio.
As discussed in section G. below, we have made a corresponding
change in
[[Page 40639]]
the formula for maximum non-program investments in Sec. 652.25(b) in
order to be more consistent with our recognition of 75 percent of the
on-balance sheet Farmer Mac II portfolio as a liquid investment in the
days-of-liquidity calculation. It is logically consistent to conclude
that if 75 percent of on-balance sheet Farmer Mac II volume is
correctly viewed as a liquid investment, then the rest of that
portfolio segment is by definition not liquid and is appropriately
included among those program assets against which the liquidity
investments are held.
As explained in greater detail in section G. below, recognition of
on-balance sheet Farmer Mac II assets as liquid investments could
create a disincentive for Farmer Mac to sell these assets to investors,
an incentive that FCA does not intend but which is unavoidable if the
Agency intends, as it does, to make that recognition. Therefore, one
reason why the 25-percent discount is not even smaller is due to
concerns related to any potential disincentive to sell these securities
that could be created through recognition of such a high percentage of
the on-balance sheet Farmer Mac II portfolio in the days-of-liquidity
calculation.
We note that the referenced FCA Informational Memorandum does not
expressly encourage these investments and did not factor into FCA's
decision to change the percentage. The Informational Memorandum
highlights these instruments as an option available to FCS institutions
to make mission-related investments but does not express or imply any
position on the relative liquidity of these assets.
Farmer Mac commented on proposed Sec. 652.20(c)(6),\9\ which
reserved FCA's authority to modify or determine the appropriate
discount for any investment. Farmer Mac requested that it be provided
30 working days prior notice, with a longer period for those cases
requiring more fundamental restructuring of the portfolio. The final
rule provides Farmer Mac 20 business days to implement a discount
determined by FCA unless we specify otherwise.
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\9\ Renumbered as Sec. 652.20(c)(7) in the final rule.
---------------------------------------------------------------------------
Commenting on the same section, FCBT noted that the provision is
too general and could lead to arbitrary action on the part of FCA. The
comment suggested FCA establish ``market-based'' criteria to guide FCA
staff in making such determinations. We anticipate we would most likely
exercise this provision if an adverse credit event or other adverse
event caused an eligible investment to exhibit less liquidity. In such
cases, we might increase the discount associated with that investment.
Information related to such an event would be expected to be generally
available to the public and readily verifiable.
Accordingly, the final rule reserves FCA's authority to modify or
determine the appropriate discount for any investment used to meet the
minimum liquidity reserve requirement if the otherwise applicable
discount does not accurately reflect the liquidity of that investment
or if the investment does not fit wholly within one of the specified
investment categories. In addition, it provides that in making any
modification or determination, we will consider the liquidity of the
investment as well as any other relevant factors. We will provide at
least 20 business days notice before any modified discounts will take
effect.
Farmer Mac commented that the proposed rule's requirement that any
breach of the minimum days-of-liquidity requirement in Sec. 652.20(g)
be reported ``immediately'' to FCA was not sufficiently clear in terms
of its time requirement and suggested it be revised to read ``as soon
as reasonably possible, but no later than 3 business days after Farmer
Mac determines (or should have determined) the breach.'' Further,
Farmer Mac suggested an additional grace period of 5 business days for
the cure of any such breach if Farmer Mac is taking action to achieve
compliance.
As discussed above, the final rule requires Farmer Mac to calculate
its days-of-liquidity monthly, and we expect more frequent calculation
if circumstances warrant it. We have revised the reporting requirement
to require Farmer Mac to report a breach to FCA no later than the
business day following Farmer Mac's discovery of the breach. This
revision provides an objective time period for Farmer Mac to submit its
report to FCA. In addition, we clarified that the regulation requires
the report to be made in writing (which includes e-mail) to OSMO. In
order to keep an objective standard for the reporting time frame, we
did not include ``should have discovered'' language, as suggested by
Farmer Mac. We did not include the requested grace period to cure any
breach. Any cure of a breach in the minimum days-of-liquidity will be
addressed as a part of the FCA's supervisory oversight of Farmer Mac.
FCA adds no grace period in the final rule as any standing grace period
could imply that the established minimum is less than a firm minimum.
However, as affirmed in Sec. 652.30 of the final rule, FCA would
consider modifications under unusual circumstances if requested by
Farmer Mac.
FCBT commented that it is unduly burdensome to require Farmer Mac
to report to FCA whenever it breaches its regulatory liquidity reserve
requirements, as the proposed rule required. Since the final rule
requires Farmer Mac to calculate its days-of-liquidity monthly rather
than daily, and to report a breach when it is discovered rather than
when it occurs, any burden the proposed rule might have caused has been
significantly reduced in the final rule.
FCBT also commented that the provision in Sec. 652.20(g) of the
proposed rule that required Farmer Mac to report to FCA when it
discovers noncompliance with its own board policy requirements is
inappropriate and constitutes ``micro-management'' that is inconsistent
with the role of an arms-length regulator. FCA proposed this
requirement so that it may learn in advance if liquidity is decreasing
to a point where it might violate our regulatory minimum. However, so
long as Farmer Mac's Board is aware of breaches of the Corporation's
internal policy, we have determined that OSMO is well-positioned to
track breaches of the policy and management's corrective actions
through the examination process. We have, therefore, removed the
provision from the final rule.
G. Section 652.25--Non-Program Investment Purposes and Limitation
This section lists authorized purposes for Farmer Mac non-program
investments and imposes a limitation on those investments. The rule
seeks to reasonably relate investments made by Farmer Mac to its
statutory purpose as set forth in section 701 of the Agricultural
Credit Act of 1987 \10\ (12 U.S.C. 2279). We recognize non-program
investments provide for a blend of Farmer Mac's needs; most fundamental
of these needs is to provide highly liquid assets to meet immediate
funding needs associated with Farmer Mac's business in agricultural and
rural housing mortgages. Farmer Mac also uses non-program investments
in managing interest rate risk and providing flexibility in responding
to fluctuating liquidity and economic conditions.
---------------------------------------------------------------------------
\10\ Public Law 100-233.
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Section 652.25(b)(1) of the proposed rule would have limited non-
program investments to the greater of $1.5 billion or the aggregate of
30 percent of total assets and ``a reasonable estimate of off-balance
sheet loans covered by guarantees or commitments that Farmer
[[Page 40640]]
Mac likely will be required to purchase during the upcoming 12-month
period, not to exceed 15 percent of total off-balance sheet
obligations.''
Farmer Mac and FCBT commented that this formula is overly
restrictive and could result in adverse effects on the Corporation.
Farmer Mac also commented that the proposed policy is a departure
``from the undertaking requested by FCA and given by Farmer Mac in
1999, to limit non-program investments to the greater of $1.5 billion
and 30 percent of all guarantees and commitments outstanding.'' Farmer
Mac further suggested that the proposed policy is inconsistent with
investment limitations contained in FCA regulations governing FCS
banks. Finally, Farmer Mac commented that the proposed rule's treatment
of off-balance sheet obligations both fails to respond to concerns
raised by Congress and creates a disincentive for Farmer Mac to sell
agricultural mortgage-backed securities. Instead of the proposal,
Farmer Mac requested that FCA adopt the Corporation's currently
existing investment limit, based on its 1999 communications with FCA,
of the greater of $1.5 billion and 30 percent of the aggregate of
Farmer Mac's on-balance sheet program assets and off-balance sheet
program obligations.
This rule is the first application of a regulatory maximum non-
program investment level to a secondary market institution. FCA has
applied caution to minimize the possibility of imposing unnecessary
constraints. With this framework established, the rule's quantitative
limits can be refined in future rulemaking if necessary. Accordingly,
we have modified the formula in the final rule to respond to Farmer
Mac's comments, as detailed below.
The final rule limits Farmer Mac's non-program investments to the
greater of $1.5 billion or 35 percent of all program volume, excluding
75 percent of the on-balance sheet program assets that are guaranteed
by the United States Department of Agriculture as described in section
8.9(9)(B) of the Farm Credit Act of 1971, as amended.\11\
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\11\ 12 U.S.C. 2279aa(9)(b).
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With this change, we have responded to Farmer Mac's request to
adopt the general approach taken in our 1999 guidance to Farmer Mac. As
Farmer Mac requested, we have generally based the formula for maximum
non-program investments on a percentage of both on- and off-balance
program investments, with one exclusion. The formula excludes from
program investments 75 percent of the Farmer Mac II portfolio because,
as discussed in the previous section of this supplementary information,
that portion is recognized as a liquid investment in the minimum
liquidity reserve calculation required by Sec. 652.20(a). Thus, the
rule maintains logical consistency in its recognition (in both Sec.
652.20(a) and Sec. 652.25(b)) of 75 percent of the on-balance sheet
Farmer Mac II program assets as a source of liquidity rather than as
less-liquid assets against whose funding obligations liquidity
investments are held.
This exclusion would generally result in a lower maximum non-
program investment limit, which was not the intent of the exclusion.
Therefore, to compensate for this exclusion and to add regulatory
flexibility generally to the final rule, we increased the limitation
from 30 to 35 percent of the included assets. The new formula is
consistent with the objective of establishing a regulatory framework
that minimizes the potential of establishing unnecessary constraints on
management's ability to respond to unforeseen circumstances.
We believe the changes to this provision in the final rule should
satisfy the concerns raised by Farmer Mac and the FCBT that the
proposed provision was overly restrictive. Nevertheless, we respond to
Farmer Mac's specific comments on the proposed rule below.
Farmer Mac stated that the proposed rule failed to address concerns
expressed at hearings of the Agriculture Committee of the U.S. House of
Representatives (June 4, 2004), at which members raised questions about
the adequacy of provisions for risks associated with off-balance sheet
exposures. The concerns raised at this hearing were related to a
General Accounting Office (GAO) \12\ report stating that Farmer Mac
lacked a formal contingency plan for liquidity, and particularly for
the potential obligation to purchase a significant volume of off-
balance sheet obligations.\13\ The GAO report did not imply any
potential inadequacy of the Farmer Mac non-program investment levels.
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\12\ This agency has been renamed the Government Accountability
Office.
\13\ United States General Accounting Office, Farmer Mac: Some
Progress Made, but Greater Attention to Risk Management, Mission,
and Corporate Governance is Needed, GAO-04-116 (2003).
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In addition, Farmer Mac commented that the proposed rule, through
its inclusion of 15 percent (at most) of off-balance sheet obligations
in the maximum non-program investments formula, created a disincentive
for it to sell AMBS to investors. As mentioned above in section F. with
regard to changes made to the days-of-liquidity calculation, by
including all off-balance sheet program obligations in the calculation
of maximum non-program investments, the final rule largely removes any
disincentive to sell program assets to investors. A small disincentive
arguably remains related to the recognition of 75 percent of the on-
balance sheet Farmer Mac II portfolio as a liquid investment (described
in section F. above). However, this disincentive is at least partially
offset by a corresponding reduction in the same proportion (75 percent)
of the on-balance sheet Farmer Mac II portfolio that is excluded from
the maximum non-program investments calculation.
Farmer Mac also commented that the proposed rule's maximum non-
program investment formula is inconsistent with FCA's 1993 rule
governing FCS banks. We note that the provisions of this final rule,
through the inclusion of off-balance sheet obligations in the
calculation, are much closer to the structure established in the 1993
regulation governing FCS banks on this maximum limit.
Finally on this section, in the supplementary information to our
proposed rule, we specifically sought comment on whether we should
consider in this section other issues pertinent to Farmer Mac's non-
program investment needs or practices such as its ``debt issuance
strategy.'' Farmer Mac commented that it would not be appropriate to
impose regulations governing debt issuance strategies. Without agreeing
or disagreeing with the comment, we note that no provision related to
the strategy has been added to the final rule. Also, in response to
this request for comment, FCBT said, ``given our view that portfolio
limits should be flexible based on an institution's market environment,
we do not believe that the regulation should fail to consider or
preclude consideration of any factor that presents Farmer Mac with an
actual need for liquidity, income stabilization, or diversification.''
We believe the regulation adequately considers these factors through
the flexibility specifically inserted in the rule, e.g., Sec.
652.30(b) and Sec. 652.35(e).
H. Section 652.30--Temporary Regulatory Waivers or Modifications for
Extraordinary Situations
This section provides that the FCA may waive or modify restrictions
on Farmer Mac's liquidity reserve and/or may modify the amount,
qualities, and types of eligible investments during times of economic
stress, financial stress, or other extraordinary situations. As waivers
or modifications are
[[Page 40641]]
approved, we may impose certain conditions, require plans to return to
compliance, or set other limitations. The flexibility of this provision
enables the agency to tailor specific remedies for particular problems
or particular circumstances that might arise.
Examples of extraordinary situations include, but are not
necessarily limited to: (1) Disrupted access to capital markets due to
financial, economic, agricultural, or national defense crises; and (2)
situations specific to Farmer Mac that necessitate modified liquidity
reserves, other investments, or other measures for continued market
access. No comments specific to this section were received but
clarifications were added to its provisions in the final rule to note
FCA's willingness in extraordinary circumstances to consider waivers of
the rule's provisions related to ineligible asset quality and type.
I. Section 652.35--Eligible Non-Program Investments
This section permits Farmer Mac to invest, within limits, in an
array of eligible high-quality, liquid investments while providing a
regulatory framework that can readily accommodate innovations in
financial products and analytical tools.
Farmer Mac may purchase and hold the eligible non-program
investments listed in Sec. 652.35(a) \14\ to maintain liquidity
reserves, manage interest rate risk, and invest surplus short-term
funds. Only investments that can be promptly converted into cash
without significant loss are suitable for achieving these objectives.
For this reason, the eligible investments listed in Sec. 652.35(a)
generally have short terms to maturity and high credit ratings from
NRSROs. All eligible investments are either traded in active and
universally recognized secondary markets or are valuable as collateral.
To enhance safety and soundness, for many of the investments, we
require that they not exceed certain maximum percentages of the total
non-program investment portfolio. We establish these portfolio caps to
limit credit risk exposures, to promote diversification, and to curtail
investments in securities that may exhibit considerable price
volatility, price risk, or liquidity risks. For similar reasons, we
establish obligor limits to help reduce exposure to counterparty risk.
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\14\ Section 652.35(a)(1) and (a)(2) authorize investments in
``obligations of the United States'' and ``obligations of
Government-sponsored agencies,'' respectively. The regulation lists
eligible investments for each term; read in conjunction with the
definition of Government-sponsored agency, we believe the meaning of
these terms is clear. FCA regulation Sec. 615.5140 (a)(1), which
lists eligible investments for Farm Credit banks and associations,
uses the term ``obligations of the United States'' to refer to both
obligations of the United States and obligations of Government-
sponsored agencies. Although new Sec. 652.35(a)(1) and (a)(2) use
more precise language, the meaning is the same as Sec.
615.5140(a)(1). Section 652.35(a) uses the more precise language
only for the purpose of clarity.
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We note that the final rule authorizes investment in shares of any
investment company that is registered under section 8 of the Investment
Company Act of 1940, 15 U.S.C. 80a-8, as long as the investment
company's portfolio consists solely of investments that are authorized
by Sec. 652.35. Prior to investing in a particular investment company,
Farmer Mac would be required to evaluate the investment company's risk
and return objectives. As part of this evaluation, Farmer Mac should
determine whether the investment company's use of derivatives is
consistent with FCA guidance and Farmer Mac's investment policies.
Farmer Mac must maintain appropriate documentation on each
investment, including a prospectus and analysis, so its investment and
selection process can be independently and objectively verified. If
Farmer Mac's shares in each investment company comprise 10 percent or
less of Farmer Mac's total investment portfolio, no maximum portfolio
limits are triggered. However, if Farmer Mac's shares in a particular
investment company comprise more than 10 percent of Farmer Mac's total
investment portfolio, then the pro rata interest in an asset class of
security in an investment company must be added to the same asset class
of Farmer Mac's other investments to determine investment portfolio
limits. For example, if Farmer Mac has 12 percent of its total
investment portfolio (i.e., more than 10 percent) in Diversified
Investment Company Alpha (Alpha), then Farmer Mac would have to
determine the composition of investments in Alpha's portfolio. The pro
rata dollar amount of corporate debt securities (one example of the
many asset classes) in Alpha would have to be added to Farmer Mac's
corporate debt securities, and that combined amount would have to be 25
percent or less of Farmer Mac's total investment portfolio. Corporate
debt securities are used here only as an example. Any asset class in
Farmer Mac's portfolio with an investment portfolio limit would have to
be computed the same way.
FCBT commented that FCA should reconsider its overall approach with
respect to fixed percentage limits on the classes or types of
investments that may be included in Farmer Mac's portfolio to allow
Farmer Mac more flexibility to respond to changing market conditions.
FCBT suggests that, rather than specifying investment limits, the
regulation should require Farmer Mac to establish and justify
appropriate limits. Limits on classes and types of investments are a
prudent managerial practice. It is not clear from the comment how
changing market conditions might warrant a degree of flexibility that
is not already provided for in the regulation. However, as detailed
later in this section, the final rule does make an adjustment to the
obligor limits from 20 to 25 percent of regulatory capital. In
addition, we note that the final rule clarifies that the temporary
waivers under Sec. 652.30(b) could extend to asset quality and types,
as well as amounts. In general, the regulation enhances guidance on
OSMO's minimum expectations with regard to investment management
policies and procedures related to concentration risk within Farmer
Mac's investment portfolio.
Farmer Mac commented that the 20-percent investment category
concentration limits in the proposed regulation are generally too
restrictive and that a 33-percent limitation would be more appropriate.
No analytical support was provided to support a 33-percent limitation
rather than a 20-percent limitation. We have made a change to two
categories detailed below.
Farmer Mac commented specifically that the proposed 20-percent
limit on investments in corporate debt securities (Sec. 652.35(a)(8))
should be increased to 33 percent. The Corporation further objected to
the proposed rule's requirement that corporate debt securities with
maturities of less than 4 years, contending that an A rating is
appropriate for such investments.\15\ We believe that a concentration
of one-third (33 percent) of the investment portfolio is excessive, but
have changed the limit for corporate debt securities to 25 percent. We
believe this to be an acceptable maximum weight for this non-
Government-sponsored agency-backed or government-backed investment
category and to be appropriate for this rule. We have made a similar
change to the investment category limit for ABS. We note that if Farmer
Mac were to request a waiver under the Sec. 652.30 to invest in ABS
types that are not specifically listed in Sec. 652.35(a)(7), and such
permission were granted, it could be granted subject
[[Page 40642]]
to reduced category limitations and other conditions.
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\15\ The Corporation acknowledged that AA is appropriate for
investments with maturities of between 4 and 5 years.
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To support its request for a minimum A rating for securities with
maturities of 4 years or less, Farmer Mac cites to NRSRO data that, the
Corporation contends, demonstrates that A-rated bonds represent very
high asset quality, with only a slightly higher historical rate of
default than AA bonds. We agree that shorter-term holdings inherently
have less risk, and the final rule therefore permits investments in
corporate debt securities that are rated at least A by an NRSRO as long
as their maturities are 3 years or less. We did not extend the A-rating
accommodation to securities with maturities of between 3 and 4 years,
as Farmer Mac requested, in recognition of their higher level of risk.
Farmer Mac objects to Sec. 652.35(d), which limits investments
issued by any single entity, issue, or obligor to 20 percent of Farmer
Mac's capital, with the exception of Government agency or Government-
sponsored agency obligors. Farmer Mac suggests a limitation of 25
percent of capital is more appropriate. We agree with the comment and
have changed the limitation to 25 percent in the final rule. For
example, if Farmer Mac had $250 million in capital, the change would
permit obligor limits to rise from $50 million to $62.5 million.
Farmer Mac also objects to the Sec. 652.35(d)(2) requirement that
it must count securities that it holds through an investment company
toward the 20-percent obligor limit unless the investment company's
holdings of the securities of any one issuer do not exceed 5 percent of
the investment company's total portfolio. Farmer Mac contends that this
requirement is unnecessary because concentration risks are balanced by
diversity in the portfolio. Farmer Mac also states that tracking
portions of individual investments held within a diversified investment
would be difficult and unduly time consuming.
We believe that the Corporation's net exposure to a single obligor,
when the portion found in diversified investment funds is significant,
is important to consider regardless of the diversification benefits of
the funds. When an obligor defaults, Farmer Mac absorbs the full
financial impact of its net exposure to that obligor, even if a portion
of that impact is realized in a lower return from an investment fund.
For that reason, we believe the benefits of prudent obligor limits
exceed the additional labor cost involved in tracking total obligor
exposures. Therefore, we make no change to this provision in the final
rule.
Farmer Mac commented that the proposed rules' collateral
restrictions on asset-backed securities (ABS) should be eliminated and
that any AAA-rated ABS should be permitted. Farmer Mac did not identify
additional ABS-collateralized groups in which it wishes to invest or
suggest criteria for determining the suitability of new types of ABS
that financial markets may create. Without more compelling evidence of
the practical impact on Farmer Mac's operations, the final rule makes
no change to this provision. We note that Sec. 652.35(e) of the final
rule permits Farmer Mac to purchase non-program investments not listed
in Sec. 652.35(a) with our prior approval.
Farmer Mac commented that rather than using the term ``total
capital,'' as we do in Sec. 652.35(d)(1) of the proposed rule, we
should use either the term ``core capital'' or the term ``regulatory
capital,'' both of which are defined in Farmer Mac's statute. We agree
that using an already-defined term would provide consistent regulatory
treatment. Accordingly, Sec. 652.35(d)(1) of the final rule uses the
term ``regulatory capital'' as defined in section 8.31(5) of the
Act.\16\ We also make the corresponding change in the definitions
section, Sec. 652.5, replacing ``total capital'' with ``regulatory
capital.''
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\16\ 12 U.S.C. 2279bb(5).
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Finally, on this section, Farmer Mac commented that investments in
Farmer's Notes should be deemed an eligible non-program investment
under Sec. 652.35 if the FCA's currently pending proposed rule on
Investments in Farmer's Notes becomes effective as proposed. However,
as FCA did not propose such treatment of Farmer's Notes in its proposed
rule on non-program investments and liquidity, we would have to propose
it in another rulemaking process in order to consider this change.
Therefore, the most practical process for Farmer Mac to obtain this
treatment for Farmer's Notes would be to seek approval to invest in
Farmer's Notes as provided for under Sec. 652.35(e).
J. Section 652.40--Stress Tests for Mortgage Securities
Stress testing is essential when the cashflows from investments or
assets of financial institutions change in response to fluctuations in
market interest rates. For example, although credit risk on highly
rated mortgage securities is low, mortgage securities may expose
investors to significant interest rate risk. Since borrowers may prepay
their mortgages, investors may not receive the expected cashflows and
returns on these securities. Prepayments on these securities are
affected by the spread between market rates and the actual interest
rates of mortgages in the pool, the path of interest rates, and the
unpaid balances and remaining terms to maturity on the mortgage
collateral. The price behavior of a mortgage security also depends on
whether the security was purchased at a premium or at a discount.
To better control and manage these factors, this section requires
that Farmer Mac employ appropriate analytical techniques and
methodologies to measure and evaluate interest rate risk inherent in
mortgage securities. More specifically, prudent risk management
practices require Farmer Mac to examine the performance of each
mortgage security under a wide array of possible interest rate
scenarios. No comments specific to this section were received and none
of its provisions were changed in the final rule.
K. Section 652.45--Divestiture of Ineligible Non-Program Investments
This section requires an ineligible non-program investment or
security to be divested within 6 months, unless FCA approves, in
writing, a plan that authorizes the investment or its divesture over a
longer period of time.\17\ Farmer Mac commented that this requirement
should be revised to remove divestiture deadlines and to include a
requirement that ineligible investments be tracked and reported monthly
to the board's asset-liability management committee (ALCO) along with
analysis and recommendations regarding strategy for remedial actions.
FCA believes that 6 months is a reasonable period for Farmer Mac to
divest of ineligible investments. Moreover, if over the 6-month period
Farmer Mac develops analysis and a written plan that make a persuasive
case for FCA to permit the retention of an ineligible investment over a
period greater than 6 months, the final rule allows for such
consideration.
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\17\ An acceptable plan generally requires Farmer Mac to divest
of the ineligible investment or security as quickly as possible
without substantial financial loss. Until the ineligible investment
or security is actually divested of, Farmer Mac's investment manager
must report at least quarterly to Farmer Mac's board of directors
and to OSMO about the status and performance of the ineligible
instrument, the reason why it remains ineligible, and the investment
manager's progress in divesting of the investment or security.
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Farmer Mac also commented that any investments it owns prior to the
effective date of this rule should be deemed eligible until they mature
or are sold in the normal course of business. In response, we emphasize
that
[[Page 40643]]
ineligible assets are deemed ineligible for safety and soundness
reasons, and it is therefore not acceptable that such assets be held by
Farmer Mac for an indefinite period of time. We make no change to this
provision in the final rule, but note that the rule permits Farmer Mac
to seek FCA approval for a longer divestiture period.
V. Better Organizing Rules That Apply to Farmer Mac
In this final rule, we move some existing regulatory sections that
pertain specifically to Farmer Mac to a centralized location in our
regulations so they can be more easily located and used. The following
table provides details of our proposal and shows where this final rule
will be located.
Organization of Farmer Mac Rules
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New part New part name New subpart New subpart name New sections From
----------------------------------------------------------------------------------------------------------------
650........... Federal .............. Receiver and Sec. Sec. 650.1 Existing Part 650,
Agricultural Conservator. to 650.80. Subpart C, Sec.
Mortgage Sec. 650.50 to
Corporation--Gener 650.68.
al Provisions.
651........... Federal .............. Conflicts of Sec. Sec. 651.1 Existing Part 650,
Agricultural Interest. to 651.4. Subpart A, Sec.
Mortgage Sec. 650.1 to
Corporation--Gover 650.4.
nance.
652........... Federal A Investment Sec. Sec. 652.1 New in this rule.
Agricultural Man
