Capital markets, derivatives, and the law : evolution after crisis / Alan N. Rechtschaffen ; foreword by Jean-Claude Trichet.
2014
KF1070 .R42 2014 (Map It)
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Title
Capital markets, derivatives, and the law : evolution after crisis / Alan N. Rechtschaffen ; foreword by Jean-Claude Trichet.
Published
Oxford : Oxford University Press, [2014]
Copyright
©2014
Call Number
KF1070 .R42 2014
Edition
Second edition.
ISBN
9780199971541 (hbk. : alk. paper)
0199971544 (hbk. : alk. paper)
0199971544 (hbk. : alk. paper)
Description
xxxv, 455 pages : illustrations ; 25 cm
System Control No.
(OCoLC)858081234
Bibliography, etc. Note
Includes bibliographical references and index.
Record Appears in
Gift
Purchased from the income of the Edith L. Fisch Fund
Gift
The Arthur W. Diamond Law Library
Purchased from the income of the Edith L. Fisch Fund
Table of Contents
Foreword
xvii
Preface
xxiii
Acknowledgments
xxix
Introduction
xxxiii
ch. 1
The Financial Crisis: Sowing the Seeds of New Regulation
1
I.
Origins
3
II.
Subprime Lending
4
III.
Government-Sponsored Entities
5
IV.
The Liquidity Crisis and the Fed's Initial Reaction
11
V.
Providing Liquidity and Stabilizing the Financial Markets
16
VI.
Regulatory Reaction at the Height of the Crisis
18
A.
The Emergency Economic Stabilization Act
18
B.
American Recovery and Reinvestment Act
20
VII.
Long-Term Plans for Change: Dodd-Frank Act
23
VIII.
Dodd-Frank and the Regulation of Depository Institutions Capital Requirements
25
IX.
The Volcker Rule and "Too Big to Fail"
26
A.
Bank Holding Companies and Systemically Significant Nonbanks
30
B.
Living Wills, Credit Exposure Reports, and Concentration Limits
33
C.
Other Prudential Standards
35
X.
The European Debt Crisis
36
XI.
Political Conflicts and the U.S. Debt
38
ch. 2
Financial Instruments and the Capital Markets
45
I.
The Capital Markets
45
A.
Primary Versus Secondary Markets
47
B.
Long-Term Versus Short-Term Marketplaces
48
C.
Case Study: The Auction Rate Securities (ARS) Market
48
II.
Financial Instruments
49
A.
Types of Financial Instruments
49
1.
Equity-Based Financial Instruments
49
2.
Debt-Based Financial Instruments
50
3.
Derivatives
51
B.
Distinction Between Debt and Equity
52
C.
Federal Regulation
55
III.
The Evolving Role of the Attorney
58
A.
Competent Representation
58
B.
Duty to Advise Client
59
C.
Drafting Financial Instruments
59
D.
Regulatory Compliance
60
E.
Opinion Letters
60
ch. 3
Using Financial Instruments
63
I.
Goal-Oriented Investing
63
A.
Using Financial Instruments to Hedge Risk
65
B.
Using Financial Instruments to Enhance Yield
65
C.
The Economy's Impact on Financial Instruments
66
II.
Achieving Investment Goals
67
A.
The Investor's Perspective
67
B.
Financial Instrument Objectives
69
III.
Managing Risk
71
ch. 4
Understanding Interest Rates and the Economy
73
I.
Background
73
A.
The Federal Reserve
74
B.
The Federal Reserve Banking System
75
1.
Composition
75
2.
Purpose
76
3.
Responsibilities
77
II.
Economic Indicators and Interest Rates
77
A.
Key Economic Statistics
78
B.
Monetary Policy Objectives
82
C.
Inflation Targeting
85
III.
Monetary Policy: The Financial Crisis and Beyond
87
IV.
Quantitative Easing
88
V.
FOMC Minutes
95
ch. 5
Asset Valuation
99
I.
The Use of Interest Rates in Asset Valuation
99
II.
Interest Rate Yield Curve
100
A.
Types of Yield Curves
101
B.
Why the Yield Curve May Be Flat or Inverted
103
1.
Increase in Market Demand for Long-Term Securities
103
2.
Long-Term Yield Affected by Federal Reserve Monetary Policy
104
ch. 6
United States Treasury Securities
107
I.
Purpose and Goals
108
A.
Risk-Free Nature
109
B.
Primary Dealers
110
II.
Description of U.S. Treasury Securities
111
A.
Types of Treasury Securities
111
1.
Treasury Bills
111
2.
Treasury Notes and Bonds
112
B.
Pricing
112
1.
Discounts and Premiums
113
2.
Factors Affecting Yield
113
III.
Bond Auctions and Their Effect on Price
115
A.
Interruption of Supply: SEC v. Davis et al
115
B.
Manipulation of the Auction Process: United States v. Salomon Brothers
116
IV.
Interest Rates
118
A.
Fixed-Versus Floating-Rate Securities
118
B.
Treasury Inflation-Protected Securities (TIPS)
119
V.
STRIPS
120
A.
Description
120
B.
Valuation
121
C.
Uses
122
D.
Abuses: In the Matter of Orlando Joseph Jett
123
ch. 7
Debt Securities
127
I.
Description
128
A.
Features of Bonds
128
B.
Types of Bonds
129
C.
The Indenture
130
II.
Bond-Rating Agencies
130
A.
Independence and Conflicts of Interest
132
B.
Regulation of Bond-Rating Agencies
134
III.
Special Types of Debt Instruments
134
A.
Repos
134
1.
Description
134
2.
Orange County Case Study
135
B.
Mortgage-Backed Securities
137
1.
Mortgaged-Backed Bonds
138
2.
Pass-Through Securities
139
3.
Collateralized Mortgage Obligations and Real Estate Mortgage Investment Conduits
139
4.
Stripped Mortgage-Backed Securities (SMBS)
140
5.
Subprime Mortgage Crisis
140
IV.
Securities Act Registration
141
A.
Government Securities
142
B.
Government Agency Securities
142
C.
Municipal Securities
142
1.
SEC Disclosure Requirements
143
2.
MSRB Disclosure Requirements
143
D.
Corporate Debt Securities
143
1.
Securities Act Requirements
143
2.
Trust Indenture Act Requirements
144
E.
Private Placements of Debt Securities
144
ch. 8
Derivatives
147
I.
Introduction
148
A.
Description
148
B.
Counterparty Credit Risk
148
C.
Over-the-Counter versus Exchange-Traded Derivatives
151
II.
Shifting Risk
153
A.
The Concept of Leverage
153
B.
Basis Risk
154
C.
Market Risk
154
D.
Effective Tools of Risk Management
155
III.
Types of Derivatives
155
A.
Forwards
155
B.
Futures
157
1.
Reduction of Counterparty Risk
157
2.
Suitability as Hedging Instruments
158
C.
Distinction Between Forwards and Futures
158
D.
Foreign Exchange Forwards and Futures
159
E.
Options
160
F.
Swaps
162
1.
Characteristics of Swaps
163
2.
The ISDA Master Agreement
163
G.
Credit Derivatives
164
ch. 9
Types of Swaps
167
I.
"Plain Vanilla" Interest Rate Swaps
168
II.
Currency Swaps
170
III.
Credit-Default Swaps
172
A.
Purpose and Function
172
B.
ISDA Master Agreement
173
C.
Importance of Clearly Defined Terms
174
1.
Credit Event
174
2.
Reference Entity
177
D.
OTC Derivatives and the Financial Crisis
182
IV.
The Move Toward Regulatory Reform
187
A.
The Central Clearing Model
188
B.
The OTC Model
189
C.
Confidence in the New Regulatory Regime: The Case of MF Global
190
ch. 10
Options
197
I.
Characteristics of Options
198
II.
How Options Work
199
A.
Calls and Puts
199
1.
Call Option
200
2.
Put Option
201
Case Study: Levy v. Bessemer Trust
201
III.
The Black-Scholes Model and Option Pricing
204
A.
Assumptions
204
B.
Required Data
205
C.
Volatility
205
1.
Types of Volatility
205
2.
Measures of Volatility
206
D.
Authority of Black-Scholes Model
207
IV.
Delta Hedging
208
A.
Contracts That are Economically Options
210
B.
OTC versus Exchange-Traded Options
212
C.
Regulation of Options
212
V.
Option Strategies
214
A.
Synthetic Call
214
B.
Covered Call
214
C.
Collar
214
ch. 11
Regulation of Swaps
217
I.
The Dodd-Frank Regulatory Regime
218
A.
Dodd-Frank and Derivatives Trading
218
B.
Jurisdiction and Registration
219
C.
Clearing Requirements, Exchange Requirements, and the End-User Exemption
221
D.
Capital and Margin Requirements
224
E.
Reporting Requirements
225
F.
Futures Commission Merchants, Dodd-Frank, and Regulation 1.25
225
G.
Analysis of the Provisions of Dodd-Frank Regarding Derivatives Trading
227
1.
Increased Transparency
227
2.
Reduction in Counterparty and Systemic Risk
230
a.
Counterparty Risk
230
b.
Systemic Risk
232
h.
Rationale Behind the Exemptions and Exclusions
234
1.
The End-User Exemption
234
2.
Physical Settlement Exclusion
235
3.
Customization Exceptions
236
I.
The Lincoln Rule
236
J.
Futures Commission Merchants
237
K.
Criticisms of Dodd-Frank's Derivatives Trading Provisions
239
1.
Concentration of Systemic Risk in Clearinghouse and "Too Big to Fail"
239
2.
Exceptions Swallowing the Rule: Incentivizing of Customization and De Minimis Exceptions
240
ch. 12
Securities Regulation
243
I.
Regulatory Overview
244
A.
The Securities and Exchange Commission
246
1.
Jurisdiction
246
B.
What Constitutes a Security
247
1.
Stocks
248
2.
Notes
250
3.
Investment Contracts---The Howey Test
256
a.
Control and Splitting the Transaction
261
b.
Prepurchase Efforts
263
c.
State Regulation and the Hawaii Market Test
265
C.
Sellers' Representations
267
D.
Consequences of Securities Violations
268
1.
Preliminary Injunction
269
2.
Disgorgement
270
3.
Permanent Injunction
270
K.
Hybrid Instruments
334
L.
Foreign Exchange Products
334
1.
The Treasury Amendment
335
2.
CTFC Reauthorization
336
Appendix A
Enforcement Case Study: CFTC v. Amaranth Advisors, LLC
338
Appendix B
Case Study: CFTC v. Zelener
341
Appendix C
Structure of CFTC
343
ch. 15
Fiduciary Obligation to Manage Risk
345
I.
Controlling Risk
346
A.
Duty to Manage Risk
346
1.
Risk Management for Financial and Non-financial Institutions
348
B.
Financial Risk
350
C.
Quantifying Financial Risk
351
1.
Value at Risk
351
2.
Volatility Risk
351
3.
Stress Testing
351
D.
Portfolio Dynamics
353
II.
Operational Risk Management
353
A.
Directors' and Officers' Understanding of Financial Instruments
354
B.
Risk Policy
355
C.
Reporting Lines and Audit Techniques
356
D.
Empowering Board Members
357
E.
Reporting Structures
358
F.
Information Flow
359
1.
Daily Exception Report
360
2.
Red Flags
360
G.
Ethical Concerns
361
1.
Compensation
361
2.
Code of Conduct
362
3.
Free Flow of Information
362
H.
Flexibility
363
III.
Executive Protection
363
A.
Responsibility for Risk Management
363
B.
Business Judgment Rule
364
C.
Education at Financial Institutions
364
D.
Disclosure Under Sarbanes-Oxley Act
365
1.
Disclosures in Management's Discussion and Analysis (MD&A)
365
2.
Off-Balance Sheet Transactions
366
Appendix A
Case Study: JPMorgan and the London Whale
367
ch. 16
Litigation Issues
371
I.
Federal Securities Laws
372
A.
The Retail Investor: Broker-Dealers and Investment Advisers
372
B.
Securities Exchange Act of 1934 Rule 10b-5 Claim
374
C.
Securities Act of 1933
376
D.
Liability under the Commodity Exchange Act
378
1.
Antifraud Provision
378
2.
Disclosure
379
II.
Common Law Theories
379
A.
Breach of Fiduciary Duty
383
B.
Common Law Fraud
386
C.
Shingle Theory
386
D.
Tort Theory
387
E.
Contract Theory
387
III.
State Blue Sky Laws
388
Swaps Case Study
388
ch. 17
Synthesis and Conclusion
391
I.
Synthesis
391
Structured Note Case Study: Securities and Exchange Commission v. Goldman, Sachs & Co. & Fabrice Tourre
393
II.
Historical Example: Erlanger "Cotton" Bonds
395
III.
Range Notes
398
IV.
Internal Leverage and Market Risk
400
V.
Risks Involved
404
A.
Interest Rate Risk
404
B.
Liquidity Risk
404
C.
Reinvestment Risk
404
D.
OCC Warning
405
Appendix
407
Index
435