Proposed Exemptions; Lehman Brothers, Inc.

Federal RegisterJun 19, 1998

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DEPARTMENT OF LABOR

Pension and Welfare Benefits Administration

[Application No. D-10327, et al.]

Proposed Exemptions; Lehman Brothers, Inc.

AGENCY: Pension and Welfare Benefits Administration, Labor.

ACTION: Notice of proposed exemptions.

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SUMMARY: This document contains notices of pendency before the

Department of Labor (the Department) of proposed exemptions from

certain of the prohibited transaction restrictions of the Employee

Retirement Income Security Act of 1974 (the Act) and/or the Internal

Revenue Code of 1986 (the Code).

Written comments and hearing requests: All interested persons are

invited to submit written comments or request for a hearing on the

pending exemptions, unless otherwise stated in the Notice of Proposed

Exemption, within 45 days from the date of publication of this Federal

the name, address, and telephone number of the person making the

comment or request, and (2) the nature of the person's interest in the

exemption and the manner in which the person would be adversely

affected by the exemption. A request for a hearing must also state the

issues to be addressed and include a general description of the

evidence to be presented at the hearing.

ADDRESS: All written comments and request for a hearing (at least three

copies) should be sent to the Pension and Welfare Benefits

Administration, Office of Exemption Determinations, Room N-5649, U.S.

Department of Labor, 200 Constitution Avenue, N.W., Washington, D.C.

20210. Attention: Application No. ________, stated in each Notice of

Proposed Exemption. The applications for exemption and the comments

received will be available for public inspection in the Public

Documents Room of Pension and Welfare Benefits Administration, U.S.

Department of Labor, Room N-5507, 200 Constitution Avenue, N.W.,

Washington, D.C. 20210.

Notice to interested persons: Notice of the proposed exemptions

will be provided to all interested persons in the manner agreed upon by

the applicant and the Department within 15 days of the date of

publication in the Federal Register. Such notice shall include a copy

of the notice of proposed exemption as published in the Federal

and to request a hearing (where appropriate).

SUPPLEMENTARY INFORMATION: The proposed exemptions were requested in

applications filed pursuant to section 408(a) of the Act and/or section

4975(c)(2) of the Code, and in accordance with procedures set forth in

29 CFR Part 2570, Subpart B (55 FR 32836, 32847, August 10, 1990).

Effective December 31, 1978, section 102 of Reorganization Plan No. 4

of 1978 (43 FR 47713, October 17, 1978) transferred the authority of

the Secretary of the Treasury to issue exemptions of the type requested

to the Secretary of Labor. Therefore, these notices of proposed

exemption are issued solely by the Department.

The applications contain representations with regard to the

proposed exemptions which are summarized below. Interested persons are

referred to the applications on file with the Department for a complete

statement of the facts and representations.

[[Page 33717]]

Lehman Brothers Inc. (Lehman) and Lehman Brothers Trust Company and

Affiliates (LBTC) Located in New York, New York

[Application No. D-10327]

Proposed Exemption

The Department is considering granting an exemption under the

authority of section 408(a) of the Act and section 4975(c)(2) of the

Code and in accordance with the procedures set forth in 29 CFR Part

2570, Subpart B (55 FR 32836, 32847, August 10, 1990.) If the exemption

is granted, the restrictions of sections 406(a), 406(b)(1) and (b)(2)

of the Act and the sanctions resulting from the application of section

4975 of the Code, by reason of section 4975(c)(1)(A) through (E) of the

Code, shall not apply to: (1) the lending of securities to Lehman or to

any other U.S. registered broker-dealer who is an affiliate of Lehman

(collectively, Lehman Broker-Dealers) by employee benefit plans,

including commingled investment funds holding plan assets (the Client

Plans), with respect to which the Lehman Broker-Dealer is a party in

interest, or for which LBTC or any other affiliate of Lehman, acts as

directed trustee or custodian and/or securities lending agent (or sub-

agent) for such Client Plan; and (2) the receipt of compensation by

LBTC in connection with these transactions, provided that the following

conditions are met:

1. Neither the Lehman Broker-Dealers nor LBTC has or exercises

discretionary authority or control with respect to the investment of

the assets of Client Plans involved in the transaction (other than with

respect to the investment of cash collateral after the securities have

been loaned and collateral received), or renders investment advise

(within the meaning of 29 CFR 2510.3-21(c)) with respect to those

assets, including decisions concerning a Client Plan's acquisition or

disposition of securities available for loan;

2. Before a Client Plan participates in a securities lending

program and before any loan of securities to the Lehman Broker-Dealers

is affected, a Client Plan fiduciary who is independent of LBTC and the

Lehman Broker-Dealers must have:

(a) Authorized and approved a securities lending authorization

agreement with LBTC (the Agency Agreement), where LBTC is acting as the

direct securities lending agent;

(b) Authorized and approved the primary securities lending

authorization agreement (the Primary Lending Agreement) with the

primary lending agent, where LBTC is lending securities under a sub-

agency arrangement with the primary lending agent;1

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\1\ When LBTC acts as sub-agent, rather than the primary lending

agent, the primary lending agent is receiving no section 406(b) of

the Act relief herein. In such situations, the primary lending agent

may be provided relief by Prohibited Transaction Class Exemption

(PTE) 81-6 and PTE 82-63. PTE 81-6 was published at 46 FR 7527,

January 23, 1981, as amended at 52 FR 18754, May 19, 1987, and PTE

82-63 was published at 47 FR 14804, April 6, 1982.

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(the Basic Loan Agreement) between such Client Plan and the borrower,

the Lehman Broker-Dealers, the specific terms of which are negotiated

and entered into by LBTC;

3. A Client Plan may terminate the securities lending agency

agreement at any time without penalty on five (5) business days notice,

whereupon the Lehman Broker-Dealers shall deliver securities identical

to the borrowed securities (or the equivalent in the event of

reorganization, recapitalization or merger of the issuer of the

borrowed securities) to the plan within (a) the customary delivery

period for such securities, (b) five (5) business days, or (c) the time

negotiated for such delivery by the Client Plan and the Lehman Broker-

Dealers, whichever is less;

4. LBTC (or another custodian on behalf of the Client Plan) will

receive from the Lehman Broker-Dealers either by physical delivery,

book entry in a securities depository, wire transfer or similar means

collateral consisting of U.S. dollars, securities issued or guaranteed

by the U.S. Government or its agencies or irrevocable U.S. bank letters

of credit (issued by an entity other than the Lehman Broker-Dealers) or

other collateral permitted under Prohibited Transaction Exemption (PTE)

81-6 (as amended from time to time or, alternatively, any additional or

superceding class exemption that may be issued to cover securities

lending by employee benefit plans) 2 by the close of

business on or before the day the loaned securities are delivered to

the Lehman Broker-Dealers;

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\2\ The Department notes that this proposed exemption would

provide relief from the restrictions of section 406(a) as well as

section 406(b)(1) and (b)(2) of the Act, whereas PTE 81-6 provides

relief only for securities lending transactions which would violate

section 406(a) of the Act. Thus, any amendments that may be made by

the Department to PTE 81-6 which would permit different types of

assets to be used as collateral for a securities loan would not

allow the use of such assets as collateral under this proposed

exemption to the extent that the transactions covered by this

exemption (if granted) would require relief from section 406(b) of

the Act.

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5. The market value of the collateral will initially equal at least

102 percent of the market value of the loaned securities. If the market

value of the collateral on the close of trading on a business day falls

below 100 percent of the market value of the borrowed securities at the

close of business on that day, the Lehman Broker-Dealers will deliver

additional collateral on the following day such that the market value

of the collateral will again equal 102 percent. The Basic Loan

Agreement will give the Client Plans a continuing security interest in,

and a lien on, the collateral. LBTC will monitor the level of the

collateral daily;

6. All the procedures regarding the securities lending activities

will at a minimum conform to the applicable provisions of PTE 81-6 and

PTE 82-63;

7. In the event the Lehman Broker-Dealer fails to return securities

within a designated time, the Client Plan will have the right under the

Basic Loan Agreement to purchase securities identical to the borrowed

securities and apply the collateral to payment of the purchase price.

If the collateral is insufficient to satisfy the Lehman Broker-Dealer's

obligation to return the Client Plan's securities, the Lehman Broker-

Dealer will indemnify the Client Plan with respect to the difference

between the replacement cost of securities and the market value of the

collateral on the date the loan is declared in default, together with

expenses incurred by the Client Plan plus applicable interest at a

reasonable rate, including any attorneys fees incurred by the Client

Plan for legal action arising out of default on the loans, or failure

by the Lehman Broker-Dealer to properly indemnify the Client Plan;

8. The Client Plan will receive the equivalent of all distributions

made to the holders of the borrowed securities during the term of the

loan, including, but not limited to, cash dividends, interest payments,

shares of stock as a result of stock splits and rights to purchase

additional securities, or other distributions;

9. Only Client Plans with total assets having an aggregate market

value of at least $50 million are permitted to lend securities to the

Lehman Broker-Dealers; provided, however, that--

(a) In the case of two or more Client Plans which are maintained by

the same employer, controlled group of corporations or employee

organization (the Related Client Plans), whose assets are commingled

for investment purposes in a single master trust or any other entity

the assets of which are ``plan assets'' under 29 CFR 2510.3-101 (the

Plan Asset Regulation), which entity is engaged in securities lending

arrangements with the Lehman Broker-Dealers, the foregoing $50 million

[[Page 33718]]

requirement shall be deemed satisfied if such trust or other entity has

aggregate assets which are in excess of $50 million; provided that if

the fiduciary responsible for making the investment decision on behalf

of such master trust or other entity is not the employer or an

affiliate of the employer, such fiduciary has total assets under its

management and control, exclusive of the $50 million threshold amount

attributable to plan investment in the commingled entity, which are in

excess of $100 million.

(b) In the case of two or more Client Plans which are not

maintained by the same employer, controlled group of corporations or

employee organization (the Unrelated Client Plans), whose assets are

commingled for investment purposes in a group trust or any other form

of entity the assets of which are ``plan assets'' under the Plan Asset

Regulation, which entity is engaged in securities lending arrangements

with the Lehman Broker-Dealers, the foregoing $50 million requirement

is satisfied if such trust or other entity has aggregate assets which

are in excess of $50 million (excluding the assets of any Plan with

respect to which the fiduciary responsible for making the investment

decision on behalf of such group trust or other entity or any member of

the controlled group of corporations including such fiduciary is the

employer maintaining such Plan or an employee organization whose

members are covered by such Plan). However, the fiduciary responsible

for making the investment decision on behalf of such group trust or

other entity--

(i) Has full investment responsibility with respect to plan assets

invested therein; and

(ii) Has total assets under its management and control, exclusive

of the $50 million threshold amount attributable to plan investment in

the commingled entity, which are in excess of $100 million.

(In addition, none of the entities described above are formed for the

sole purpose of making loans of securities.)

10. With respect to any calendar quarter, at least 50 percent or

more of the outstanding dollar value of securities loans negotiated on

behalf of Client Plans will be to unrelated borrowers.

11. The terms of each loan of securities by the Client Plans to the

Lehman Broker-Dealer will be at least as favorable to such plans as

those terms which would exist in a comparable arm's-length transaction

between unrelated parties;

12. Each Client Plan will receive monthly reports on the

transactions, so that an independent fiduciary of such plan may monitor

the securities lending transactions with the Lehman Broker-Dealer;

13. Before entering into the Basic Loan Agreement and before a

Client Plan lends any securities to the Lehman Broker-Dealer, an

independent fiduciary of such Client Plan will receive sufficient

information, concerning the financial condition of the Lehman Broker-

Dealer, including the audited and unaudited financial statements of the

Lehman Broker-Dealer;

14. The Lehman Broker-Dealer will provide to a Client Plan prompt

notice at the time of each loan by such plan of any material adverse

changes in the Lehman Broker-Dealer's financial condition, since the

date of the most recently furnished financial statements;

15. With regard to the ``exclusive borrowing'' agreement (as

described below), the Lehman Broker-Dealer will directly negotiate the

agreement with a Client Plan fiduciary who is independent of the Lehman

Broker-Dealers and LBTC, and such agreement may be terminated by either

party to the agreement at any time; 3

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\3\ The termination will be without penalty to the Client Plan,

except for the return to the Lehman Broker-Dealers of a part of any

flat fee paid by the Lehman Broker-Dealers to the Client Plan, if

the Client Plan has terminated its exclusive borrowing agreement

with the Lehman Broker-Dealers.

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16. The Client Plan: (a) receives a reasonable fee that is related

to the value of the borrowed securities and the duration of the loan,

or (b) has the opportunity to derive compensation through the

investment of cash collateral. In the case of cash collateral, the

Client Plan may pay a loan rebate or similar fee to the Lehman Broker-

Dealer, if such fee is not greater than the fee the Client Plan would

pay an unrelated party in an arm's length transaction;

17. In the event that a Lehman Broker-Dealer is also the securities

lending agent for a Client Plan, LBTC shall act as securities lending

sub-agent in connection with any loan of securities to the Lehman

Broker-Dealer;

18. Prior to the Client Plan's approval of the lending of its

securities to the Lehman Broker-Dealers, a copy of the exemption, if

granted, (and this notice of pendency) will be provided to the Client

Plan; and

19. Lehman maintains or causes to be maintained within the United

States for a period of six years from the date of such transaction such

records as are necessary to enable the persons described in paragraph

(20) below to determine whether the conditions of this exemption have

been met; except that a party in interest with respect to an employee

benefit plan, other than Lehman or the Lehman Broker-Dealers, shall not

be subject to a civil penalty under section 502(i) of the Act or the

taxes imposed by section 4975 (a) or (b) of the Code, if such records

are not maintained, or are not available for examination as required by

this section, and a prohibited transaction will not be deemed to have

occurred if, due to circumstances beyond the control of Lehman or the

Lehman Broker-Dealers, such records are lost or destroyed prior to the

end of such six year period;

20. (i) Except as provided in subparagraph (ii) of this paragraph

(20) and notwithstanding any provisions of subsections (a)(2) and (b)

of section 504 of the Act, the records referred to in paragraph (19)

are unconditionally available at their customary location for

examination during normal business hours by--

(a) Any duly authorized employee or representative of the

Department, the Internal Revenue Service, or the Securities and

Exchange Commission,

(b) Any fiduciary of a Client Plan or any duly authorized

representative of such fiduciary,

authorized employee or representative of such employer, and

(d) Any participant or beneficiary of any Client Plan, or any duly

authorized representative of such participant or beneficiary.

(ii) None of the persons described in subparagraphs (b)-(d) of this

paragraph (20) shall be authorized to examine trade secrets of Lehman

or the Lehman Broker-Dealers, or commercial or financial information

which is privileged or confidential.

Summary of Facts and Representations

1. Lehman, a Delaware corporation, is the principal operating

subsidiary of Lehman Brothers Holdings Inc. (LB Holdings), also a

Delaware corporation. Lehman is one of the largest full-line investment

service firms in the United States, and is registered with and

regulated by the Securities and Exchange Commission (SEC). Lehman is a

member of the New York Stock Exchange and other principal securities

exchanges in the United States, and is also a member of the National

Association of Securities Dealers, Inc. As of November 30, 1995, Lehman

had $82.6 billion in assets.

2. Lehman and the Lehman Broker-Dealers acting as principals,

borrow securities from institutions and either utilize such securities

to satisfy their own needs, or re-lend these securities to borrowing

brokerage firms and other

[[Page 33719]]

entities which need a particular security for certain periods of time.

Borrowers often need securities to satisfy deliveries in cases of short

sales, or where a broker fails to receive securities it is required to

deliver. Lehman Broker-Dealers borrow and lend approximately $50

billion of securities on an average daily basis, and are among the

largest institutional securities borrowers and lenders in the United

States. In making such loans, the Lehman Broker-Dealers carefully

review the credit-worthiness of its counterparties.

3. LBTC is an affiliate of Lehman, and is a wholly owned

subsidiary, organized and chartered by LB Holdings as a limited purpose

trust company under the laws of the State of New York. LBTC has its

principal executive offices in New York, New York. LBTC provides a

variety of services to its clients, including custodial services and

securities lending services as a direct securities lending agent. LBTC

may also be retained from time to time by primary securities lending

agents to provide securities lending services in a sub-agent capacity

with respect to portfolio securities of clients of such primary

securities lending agents. As a securities lending sub-agent, LBTC's

role (i.e., negotiating the terms of the loans with borrowers pursuant

to a client-approved form of a loan agreement, and monitoring receipt

of, and marking-to-market, the required collateral) parallels those

under the lending transactions for which LBTC acts as a primary lending

agent on behalf of its clients.

4. An institutional investor, such as a pension fund, lends

securities in its portfolio to a broker-dealer or a bank to earn a fee

in addition to any interest, dividends, or other distributions paid on

the loaned securities. The lender generally requires that the security

loans be fully collateralized, and the collateral usually is cash or

high quality liquid securities issued by the U.S. Government, or

Federal Agency obligations or certain bank letters of credit. When the

collateral is cash, the lender generally invests the cash and rebates a

portion of the earnings on such collateral to the borrower. The fee

received by the lender is the difference between the earnings on the

collateral and the amount of the rebate that is paid to the borrower.

When a securities loan is collateralized with U.S. Government or

Federal Agency securities or with letters of credit issued by a bank,

the fee is paid directly by the borrower to the lender.

Institutional investors often utilize the services of an agent in

performing securities lending transactions. The lending agent is paid a

fee for its services which may be a percentage of the income earned by

the investor from lending its securities. The applicants represent that

the essential functions which define a securities lending agent are

identifying appropriate borrowers of securities and negotiating loan

terms to the borrowers. Certain services which are ancillary to

securities lending include monitoring the level of collateral, the

value of loaned securities, and in some instances, investing the

collateral.

5. LBTC and Lehman request an exemption for the lending of

securities owned by the Client Plans, with respect to which the Lehman

Broker-Dealer is a party in interest, or for which LBTC will serve as

directed trustee or custodian and/or securities lending agent (or sub-

agent),4 following disclosure to the Client Plans of LBTC's

affiliation with the Lehman Broker-Dealer, under either of the two

arrangements described as Plan A and Plan B, and for receipt of

compensation by LBTC in connection with such transactions. Neither LBTC

nor the Lehman Broker-Dealers will have discretionary authority or

control over the Client Plans' decisions concerning the acquisition or

disposition of securities available for lending. However, because LBTC

under the Plan A arrangement and the Lehman Broker-Dealers under the

Plan B arrangement (as discussed further below), will have discretion

with respect to whether there is a loan of the Client Plan securities

to the Lehman Broker-Dealers, the lending of securities to the Lehman

Broker-Dealers under such arrangements may be outside the scope of

relief provided by PTE 81-6 and PTE 82-63.5

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\4\ Future references to LBTC's performance of services as

securities lending agent should be deemed to include its parallel

performance as a securities lending sub-agent, and references to the

Client Plans should be deemed to include those plans for which LBTC

is acting as a sub-agent with respect to securities lending

activities, unless otherwise specifically indicated or by the

context of reference.

\5\ PTE 81-6 (46 FR 7527, January 23, 1981, as amended at 52 FR

18754, May 19, 1987) provides an exemption under certain conditions

from section 406(a)(1)(A) through (D) of the Act and the

corresponding provisions of section 4975(c) of the Code for the

lending of securities that are assets of an employee benefit plan to

certain broker-dealers or banks which are parties in interest.

However, condition 1 of PTE 81-6 requires, in part, that neither the

borrower nor an affiliate of the borrower has discretionary

authority or control with respect to the investment of the plan

assets involved in the transaction.

PTE 82-63 (47 FR 14804, April 6, 1982) provides an exemption

under specified conditions from section 406(b)(1) of the Act and

section 4975(c)(1)(E) of the Code for the payment of compensation to

a plan fiduciary for services rendered in connection with loans of

plan assets that are securities. PTE 82-63 permits the payment of

compensation to a plan fiduciary for the provision of securities

lending services only if the loan of securities itself is not

prohibited under section 406(a) of the Act.

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6. When a loan of securities by a Client Plan is collateralized

with cash, LBTC, at the Client Plan's direction, will either transfer

such cash collateral to the Client Plan or its designated agent for

investment. Alternatively, LBTC may invest the cash in short-term

securities or interest-bearing accounts. In either case, LBTC will

rebate a portion of the earnings on the cash collateral to the Lehman

Broker-Dealers on behalf of the Client Plan. The Lehman Broker-Dealers

will pay a fee to the Client Plan based on the value of the loaned

securities where the collateral consists of obligations other than

cash. Under the Plan A arrangement and, in some instances, under the

Plan B arrangement (see paragraph 24 for the types of lending services

which may be provided to the Client Plans by LBTC under Plan B

arrangement), the Client Plan will pay a fee to LBTC for providing

lending services to the Client Plan, which will reduce the income

earned by the Client Plan from lending its securities to the Lehman

Broker-Dealers. The Client Plan and LBTC will agree in advance to this

fee, which will represent a percentage of the income the Client Plan

earns from its lending activities.

Several safeguards, described more fully below, are incorporated

into the application to ensure the protection of the Client Plans'

assets involved in these securities lending transactions. In addition,

the applicants represent that both the Plan A and Plan B arrangements

described herein incorporate the relevant conditions contained in PTE

81-6 and PTE 82-63.

7. Plan A. Where LBTC is the direct securities lending agent, a

fiduciary of a Client Plan who is independent of LBTC and the Lehman

Broker-Dealers will sign a securities lending agency agreement (the

Agency Agreement) with LBTC before the Client Plan participates in the

LBTC securities lending program. The Agency Agreement will, among other

things, describe the operation of the lending program, prescribe the

form of the securities loan agreement to be entered into on behalf of

the Client Plan with the borrowers, identify the securities which are

available to be lent, required collateral and daily marking-to-market,

and provide the list of permissible borrowers, including the Lehman

Broker-Dealers. The Agency Agreement will also set forth the basis and

rate for LBTC's compensation from the Client Plan for the performance

of securities lending services. The Client

[[Page 33720]]

Plan may terminate the Agency Agreement at any time, without penalty,

on no more than five business days' notice.

8. The Agency Agreement will contain provisions regarding

designation by the Client Plan of the Lehman Broker-Dealer as an

approved borrower. Specifically, the Client Plan will acknowledge that

the Lehman Broker-Dealer is an affiliate of LBTC. Pursuant to the

Agency Agreement, LBTC will represent to the Client Plan that each loan

made to the Lehman Broker-Dealer on behalf of the Client Plan will be

at market rates, and in no event less favorable to the Client Plan than

a loan of such securities, made at the same time and under the same

circumstances, to an unaffiliated borrower.

9. When LBTC is lending securities under a sub-agency arrangement,

the primary lending agent will enter into a securities lending agency

agreement (the Primary Lending Agreement) with a fiduciary of the

Client Plan, who is independent of such primary lending agent, LBTC and

the Lehman Broker-Dealers, before the Client Plan participates in the

securities lending program. Except as set forth in paragraph 10 below,

the primary lending agent will be unaffiliated with LBTC and the Lehman

Broker-Dealers. The Primary Lending Agreement will contain substantive

provisions akin to those in the Agency Agreement described above,

relating to the description of the operation of the lending program,

use of an approved form of securities loan agreement, identification of

securities which are available to be lent, required collateral and

daily marking-to-market, and provision of a list of approved borrowers

(which will include the Lehman Broker-Dealers). The Primary Lending

Agreement will specifically authorize the primary lending agent to

appoint sub-agents, including LBTC, to facilitate its performance of

securities lending agency functions. Where LBTC is to act as a sub-

agent, the Primary Lending Agreement will expressly disclose that LBTC

is to so act. The Primary Lending Agreement will also set forth the

basis and rate for the primary lending agent's compensation from the

Client Plan for the performance of securities lending services, and

will authorize the primary lending agent to pay a portion of its fee,

as the primary lending agent determines in its sole discretion, to any

sub-agent(s) it retains pursuant to the authority granted under such

agreement. The Client Plan may terminate the Primary Lending Agreement

at any time, without penalty, on no more than five business days'

notice.

Pursuant to its authority to appoint sub-agents, the primary

lending agent will enter into a securities lending sub-agency agreement

(the Sub-Agency Agreement) with LBTC under which the primary lending

agent will retain and authorize LBTC, as sub-agent, to lend securities

of the primary lending agent's clients, subject to the same terms and

conditions as are specified in the Primary Lending Agreement. Thus, for

example, the form of basic loan agreement (described in paragraph 12

below) will be the same as that approved by the Client Plan fiduciary

in the Primary Lending Agreement, and the list of permissible borrowers

under the Sub-Agency Agreement (which will include the Lehman Broker-

Dealers) will be limited to those approved borrowers listed as such

under the Primary Lending Agreement.

The Sub-Agency Agreement will contain provisions which are in

substance comparable to those described in paragraphs 7 and 8 above,

which would appear in the Agency Agreement in situations where LBTC is

the primary lending agent. In this regard, LBTC will make the same

representation in the Sub-Agency Agreement as described in paragraph 8

above with respect to arm's-length dealings with the Lehman Broker-

Dealers. The Sub-Agency Agreement will also set forth the basis and

rate for LBTC's compensation to be paid by the primary lending agent.

10. Lehman has been informed that some Client Plans will not be

able to hire LBTC as direct securities lending agent, because under the

provisions of that Plan any such agent for such Client Plans is

required to be registered as a broker-dealer with the Securities and

Exchange Commission (SEC). In these cases, the applicants propose that

a Lehman Broker-Dealer, which is registered as a broker-dealer with the

SEC, will act as a primary lending agent and LBTC will act as sub-

agent. In other respects the sub-agency relationship will operate as

set forth in paragraph (9) above.

11. In all cases, LBTC will maintain transactional and market

records sufficient to assure compliance with its representation that

all loans to the Lehman Broker-Dealers are effectively at arms-length

terms. Such records will be provided to the Client Plan fiduciary, who

is independent of LBTC and the Lehman Broker-Dealers, in the manner and

format agreed to by the Client Plan fiduciary and LBTC, without charge

to the Client Plan.

12. LBTC, under the Agency Agreement, as securities lending agent

for the Client Plans, will negotiate a master securities borrowing

agreement with a schedule of modifications attached thereto (the Basic

Loan Agreement) with the Lehman Broker-Dealers on behalf of the Client

Plans. An independent fiduciary of the Client Plan will approve the

form of the Basic Loan Agreement before such fiduciary executes the

Agency Agreement. The Basic Loan Agreement will specify, among other

things, the right of the Client Plan to terminate a loan at any time

and the Client Plan's rights in the event of any default by the Lehman

Broker-Dealers. The Basic Loan Agreement will set forth the basis for

compensation to the Client Plan for lending securities to the Lehman

Broker-Dealers under each category of collateral. The Basic Loan

Agreement will also contain a requirement that the Lehman Broker-

Dealers must pay all transfer fees and transfer taxes related to the

security loans.

13. Prior to making any loans under the Basic Loan Agreement, the

Lehman Broker-Dealers will furnish its most recent available audited

and unaudited financial statements to LBTC (assuming LBTC does not

already possess such statements), which, in turn, will provide such

statements to the Client Plan before the independent fiduciary of the

Client Plan is asked to approve the terms of the Basic Loan Agreement.

The terms of the Basic Loan Agreement will contain a requirement that

the Lehman Broker-Dealer must give prompt notice at the time of the

loan of any material adverse changes in its financial condition since

the date of the most recently furnished financial statements. If any

such changes have taken place, LBTC will request that the independent

fiduciary of the Client Plan approve the loan in view of the changed

financial condition.

14. As noted above, the agreement by LBTC to provide securities

lending services, as agent, to a Client Plan will be embodied in the

Agency Agreement. The Client Plan and LBTC will agree to an arrangement

under which LBTC will be compensated for its services as the lending

agent prior to the commencement of any lending activity. Similarly,

with respect to arrangements under which LBTC is acting as securities

lending sub-agent, the agreed upon fee arrangement of the primary

lending agent will be set forth in the Primary Lending Agreement, and

such agreement will specifically authorize the primary lending agent to

pay a portion of such fee, as the primary lending agent determines in

its sole

[[Page 33721]]

discretion, to any sub-agent, including LBTC, which is to provide

securities lending services to the plan.6

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\6\ The foregoing provisions describe arrangements comparable to

conditions (c) and (d) of PTE 82-63 which require that the payment

of compensation to a ``lending fiduciary'' is made under a written

instrument and is subject to prior written authorization of an

independent ``authorizing fiduciary.'' In the event that a

commingled investment fund will participate in the securities

lending program, the special rule applicable to such funds

concerning the authorization of the compensation arrangement set

forth in paragraph (f) of PTE 82-63 will be satisfied.

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15. Each time a Client Plan loans securities to the Lehman Broker-

Dealers pursuant to the Basic Loan Agreement, the Lehman Broker-Dealers

will execute a designation letter specifying the material terms of the

loan, including the securities to be loaned, the required level of

collateral, and the fee or rebate payable, and any special delivery

instructions. The terms of each loan will be at least as favorable to

the Client Plan as those of a comparable arm's-length transaction

between unrelated parties.

16. LBTC will establish each day a written schedule of lending fees

7 and rebate rates 8 to assure uniformity of

treatment among borrowing brokers and to limit the discretion LBTC

would have in negotiating securities loans to the Lehman Broker-

Dealers. Loans to the Lehman Broker-Dealers on any day will be made at

rates on the daily schedule or at rates which may be more advantageous

to the Client Plans. In no case will the loans be made to the Lehman

Broker-Dealers at rates or lending fees less advantageous to the Client

Plan than those on the schedule.

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\7\ LBTC will adopt minimum daily lending fees for non-cash

collateral payable by the Lehman Broker-Dealer to LBTC on behalf of

the Client Plans. LBTC will submit the method for determining such

minimum daily lending fees to an independent fiduciary of the Client

Plan for approval before initially lending any securities to a

Lehman Broker-Dealer on behalf of a Client Plan.

\8\ LBTC will adopt maximum daily rebate rates with respect to

securities loans collateralized with cash collateral. LBTC will

submit the method for determining such maximum daily rebate rates to

an independent fiduciary of a Client Plan for approval before

initially lending any securities to the Lehman Broker-Dealer on

behalf of such Client Plan.

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The rebate rates, which are established for cash collateral loans

made by the Client Plans, will take into account the potential demand

for the loaned securities, the applicable benchmark cost of funds

indices [typically, the U.S. Federal Funds Rate established by the

Federal Reserve System (Federal Funds), the overnight ``REPO''

9 rate, or the like] and the anticipated investment return

on overnight investments which are permitted by the Client Plan

Fiduciary. The lending fees, which are established with respect of

loans made by the Client Plans collateralized by other than cash, will

be set daily to reflect conditions as influenced by potential market

demand.

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\9\ An overnight ``REPO'' is an overnight repurchase agreement

which is an arrangement whereby securities dealers and banks finance

their inventories of Treasury bills, notes, and bonds. The dealer or

bank sells securities to an investor with a temporary surplus of

cash, agreeing to buy them back the next day. Such transactions are

settled in immediately available Federal Funds, usually at a rate

below the Federal Funds rate (the rate charged by the banks lending

funds to each other). See Barron's Dictionary of Finance and

Investment Terms, 2nd Edition (New York, 1987).

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LBTC will negotiate rebate rates for cash collateral payable to

each borrower, including the Lehman Broker-Dealers, on behalf of a

Client Plan. Where, for example, cash collateral derived from an

overnight loan is intended to be invested in a generic repurchase

agreement, any rebate fee determined with respect to an overnight

repurchase agreement benchmark will be set below the applicable ``ask''

quotation therefor. Where cash collateral is derived from a loan with

an expected maturity date (term loan) and is intended to be invested in

instruments with similar maturities, the maximum rebate fee will be

less than the investment return (assuming no investment default). With

respect to any loan to the Lehman Broker-Dealers, LBTC will not

knowingly negotiate a rebate rate with respect to such loan which over

the anticipated term of the loan would produce a zero or negative

return to the Client Plan (assuming no default on the investments

related to the cash collateral from such loan where LBTC has investment

discretion over the cash collateral). LBTC represents that the written

rebate rate established daily for cash collateral under loans

negotiated with the Lehman Broker-Dealers will not exceed the rebate

rate which would be paid to a similarly situated unrelated borrower

with respect to a comparable securities lending transaction. LBTC will

disclose the method for determining the maximum daily rebate rate as

described above to an independent fiduciary of the Client Plan for

approval before lending any securities to the Lehman Broker-Dealers on

behalf of the Client Plan.

17. For collateral other than cash, the applicable lending fee in

respect of any outstanding loan will be reviewed daily by LBTC for

competitiveness and adjusted, where necessary, to reflect market terms

and conditions. With respect to any calendar quarter, at least 50

percent of the securities loans negotiated on behalf of the Client

Plans will be to borrowers not affiliated with LBTC, and so the

competitiveness of the loan fee will be tested in the marketplace.

Accordingly, the applicants state that loans to the Lehman Broker-

Dealers should result in a competitive rate of income to the lending

Client Plan. At all times, LBTC will effect loans in a prudent and

diversified manner.

The method of determining the actual daily securities lending rates

(fees and rebates), the minimum lending fees payable by the Lehman

Broker-Dealers and the maximum rebate payable to the Lehman Broker-

Dealers, will be specified in an exhibit attached to the Agency

Agreement to be executed between the independent fiduciary of the

Client Plan and LBTC in cases where LBTC is the direct securities

lending agent. These methods of determination need not be formulative,

but may consist of a description of the process involved in determining

rebate rates and lending fees.

18. If LBTC reduces the lending fee or increases the rebate rate on

any outstanding loan to an affiliated borrower (except for any change

resulting from a change in the value of any index with respect to which

the fee or rebate is calculated), LBTC, by the close of business on the

date of such adjustment, shall provide the independent fiduciary of the

Client Plan with notice that it has adjusted such fee or rebate to such

affiliated borrower, and that the Client Plan may terminate such loan

at any time. LBTC shall provide the independent fiduciary with such

information as the independent fiduciary may reasonably request

regarding such adjustment.

19. While LBTC will normally lend securities to requesting

borrowers on a first come, first served basis, as a means of assuring

uniformity of treatment among borrowing brokers, in some cases it may

not be possible to adhere to first come, first served allocation. This

can occur in instances where (a) the credit limit established for such

``first in line'' borrower by LBTC and/or the Plan has already been

satisfied; (b) the ``first in line'' borrower is not approved as a

borrower by a particular Client Plan whose securities are sought to be

borrowed; or (c) the ``first in line'' borrower cannot be ascertained,

as an operational matter, because several borrowers spoke to different

representatives of LBTC at or about the same time with respect to the

same security. In situations (a) and (b), loans would normally be

effected with the ``second in line'' borrower. In situation (c),

securities would be allocated as equitably as practicable among all

eligible requesting borrowers.

[[Page 33722]]

20. LBTC on behalf of the Client Plan will receive collateral from

Lehman Broker-Dealers by physical delivery, book entry in a securities

depository, wire transfer or similar means by the close of business on

or before the day the loaned securities are delivered to the Lehman

Broker-Dealers. The collateral will consist of U.S. dollars, securities

issued or guaranteed by the U.S. Government or its agencies or

irrevocable U.S. bank letters of credit (issued by a person other than

the Lehman Broker-Dealers or any affiliates thereof) or such other

types of collateral which might be permitted by the Department under

PTE 81-6 or any successor.10 The market value of the

collateral on the close of business on the business day preceding the

day the loaned securities are delivered to the Lehman Broker-Dealers

will be at least 102 percent of the then market value of the loaned

securities. The Basic Loan Agreement will give the Client Plan a

continuing security interest in and a lien on the collateral. LBTC will

monitor the level of the collateral daily. If the market value of the

collateral falls below 100 percent, LBTC will require the Lehman

Broker-Dealers to deliver by the close of business the next day

sufficient additional collateral to bring the level back to at least

102 percent.

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\10\ See Footnote 2 above regarding the scope of relief that may

be provided by the Department in any successor class exemption and

the type of assets that may be used as collateral for a securities

loan.

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21. Subject to the terms and conditions of the Agency Agreement (or

the Primary Lending Agreement), LBTC will invest and reinvest all or

substantially all cash collateral in approved investments designated by

the applicable Client Plan and identified on a schedule attached to the

relevant agreement. All approved investments made by LBTC will be for

the sole account and risk of the applicable Client Plan. These approved

investments shall not include securities, instruments, transactions and

investments issued by LBTC or any of its affiliates. From time to time,

the Client Plan may instruct LBTC in writing not to make any approved

investment with a certain counterparty, or through a particular

financial institution or intermediary. Alternatively, the Client Plan

may also retain the right to directly control the reinvestment of the

cash collateral.

22. Each Client Plan participating in the lending program will be

sent a monthly transaction report. The monthly report will provide a

list of all security loans outstanding and closed for a specified

period. The report will identify for each open loan position, the

securities involved, the value of the security for collateralization

purposes, the current value of the collateral, the rebate or loan

premium (as the case may be) at which the security is loaned, and the

number of days the security has been on loan. At the request of the

Client Plan, such a report will be provided on a weekly or daily basis,

rather than a monthly basis. Also, upon request of the Client Plan,

LBTC will also provide the Client Plan with daily confirmations of

securities lending transactions.

In order to provide the means for monitoring lending activity,

rates on loans to the Lehman Broker-Dealers compared with loans to

other brokers, and the level of collateral on the loans, it is

represented that the monthly report will show, on a daily basis, the

market value of all outstanding security loans to the Lehman Broker-

Dealers and to other borrowers. Further, the monthly report will state

the daily fees where collateral other than cash is utilized and will

specify the details used to establish the daily rebate payable to all

brokers where cash is used as collateral. The monthly report also will

state, on a daily basis, the rates at which securities are loaned to

the Lehman Broker-Dealers compared with those at which securities are

loaned to other brokers. This statement will give an independent Client

Plan fiduciary information which can be compared to that contained in

the daily rate schedule.

23. Only Client Plans with total assets having an aggregate market