DOL Issues Final Guidance on Cross-Trading Procedures

On October 6, 2008, the US Department of Labor (the

"DOL") released its final regulation

regarding the content of the policies and procedures that an

investment manager must adopt if it seeks to effect cross trades

under the statutory cross-trading exemption added by the Pension

Protection Act of 2006 (the "PPA"). The

final regulation replaces, with few changes, an interim final

regulation that the DOL issued on the same subject in early 2007.

Although the final regulation becomes effective on February 4,

2009, investment managers that obtained client consent to engage in

cross trades based on compliance with the interim final regulation

will not be required to obtain a re-authorization as a result of

the final regulation. Despite the issuance of the final regulation,

a number of interpretive issues concerning the statutory exemption

remain— including regarding its application to private

investment funds.

Background

The DOL has long been of the view that if an investment manager

to an ERISA plan exercises its discretion on "both sides"

of a cross trade, this will violate the provision of ERISA that

prohibits a fiduciary from acting in any transaction on behalf of a

party whose interests are adverse to the interests of the plan

(ERISA § 406(b)(2)). Before the PPA, the DOL had issued a

prohibited transaction class exemption permitting certain

"passive" cross trades involving index and model driven

funds (DOL PTCE 2002-12). However, the DOL had declined to expand

the scope of this relief to cases where the manager has

unrestricted discretion on both sides of a trade.

The PPA added a new statutory exemption for cross trades that

meet a number of conditions outlined in the statute (ERISA §

408(b)(19)). In general, the exemption applies if:

the transaction is a purchase or sale, for no consideration

other than cash payment against prompt delivery of a security for

which market quotations are readily available;

the trade is effected at the independent current market price

of the security;

no commissions or brokers fees are paid (other than disclosed,

customary transfer fees);

a plan fiduciary other than the investment manager directing

the trade authorizes the transaction in advance in a separate

written agreement after the fiduciary receives a separate written

disclosure regarding the investment manager's cross-trading

policies and procedures; and

each participating plan has assets of at least $100,000,000.

(In the preamble to the final regulation, the DOL stated that each

plan participating in a pooled investment vehicle that holds

"plan assets" (other than a master trust) must meet this

minimum threshold in order to take advantage of the

exemption.)

In addition, the investment manager directing the trade

must:

provide the authorizing plan fiduciary with a quarterly report

identifying all...