WASHINGTON — Municipal issuers and dealers hope that the Federal Reserve's proposal to include uninsured investment-grade general obligation bonds as high-quality liquid assets for its liquidity coverage ratio requirement rule spurs other banking regulators to do the same.
The Fed proposed Thursday to amend its rule, with which banks have to comply by Jan. 1 2017, to include that narrow category of munis as HQLA that banks could hold towards their LCR requirements. An LCR is defined as the ratio of HQLA to total net cash outflows.
The Fed, the Comptroller of the Currency, and the Federal Deposit Insurance Corporation late last year adopted a joint rule requiring banks with at least $250 billion of total assets or consolidated on-balance sheet foreign exposures of at least $10 billion to hold a certain amount of HQLA.
The Fed is proposing to treat munis as level 2B liquid assets under the LCR as long as they meet the same requirements as corporate bonds, to be liquid and readily marketable. Level 2B assets cannot account for more than 15% of the total HQLA amount, but the Fed is proposing to cap munis at 5% of an institution's total HQLA holdings.
Michael Decker, a managing director and co-head of municipal securities at the Securities Industry and Financial Markets Association, said that the Fed's willingness to amend the rule is a positive sign but added that the narrow category of munis included and the 5% cap will still limit use of munis as HQLA.
"Those are some pretty strict limitations," Decker said, adding that SIFMA plans to review the proposal in detail and submit a comment prior to the July 24 comment deadline.
Market participants want the OCC and the FDIC to also make changes to include munis because the Fed rule only applies to banks covered by the LCR requirements that are supervised by the Fed. According to Fed data, all but two of the nine institutions with more than $250 billion in holdings at the end of 2014 were banks primarily regulated by the OCC: Bank of New York Mellon/Bank of New York Mellon Corp. and State Street Bank & Trust Co/State Street Corp.
Bond Dealers of America general counsel and managing director of federal regulatory policy Jessica Giroux said it is important for the OCC and FDIC to get on board as well.
"While we appreciate the Fed moving to include certain munis as high-quality liquid assets and believe it is a step in the right direction, it is important to also ensure the other regulators involved do the same," Giroux said. "Additionally, we are contemplating the limitations the Fed has placed on munis in this draft proposal as well as what they mean by being liquid and readily marketable. We will be talking to our members to gauge their opinions of the implications and will include that feedback in a comment letter to the Fed."
Dustin McDonald, director of the Government Finance Officers Association's federal liaison center, said his group hopes the other regulators will react to the Fed proposal. "The GFOA appreciates the Federal Reserve Board's leadership on this issue, McDonald said. "This is a positive and much-needed step forward that we hope will engage participation from the FDIC and OCC as well."
Rep. Luke Messer, R-Ind., has introduced legislation that would force the regulators to treat munis that are investment grade and actively-traded in the secondary market as HQLA. That bill, H.R. 2209, has an array of bipartisan co-sponsors, the support of muni market groups, and is pending before by the House Committee on Financial Services.
