Proposed Class Exemption for Cross-Trades of Securities by Index and Model-Driven Funds

DEPARTMENT OF LABOR

Pension and Welfare Benefits Administration

Proposed Class Exemption for Cross-Trades of Securities by Index

and Model-Driven Funds

AGENCY: Pension and Welfare Benefits Administration, Department of

Labor.

ACTION: Notice of proposed class exemption.

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SUMMARY: This document contains a notice of pendency before the

Department of Labor (the Department) of a proposed class exemption from

certain prohibited transaction restrictions of the Employee Retirement

Income Security Act of 1974 (the Act or ERISA), the Federal Employees'

Retirement System Act (FERSA), and from certain taxes imposed by the

Internal Revenue Code of 1986 (the Code). If granted, the proposed

exemption would permit cross-trades of securities among Index and

Model-Driven Funds (Funds) managed by investment managers and among

such Funds and certain large accounts to which such investment managers

act as a ``trading adviser'' in connection with a specific portfolio

restructuring program. The proposed exemption, if granted, would affect

participants and beneficiaries of employee benefit plans whose assets

are invested in Index or Model-Driven Funds, large pension plans

involved in portfolio restructuring programs, as well as the Funds and

the investment managers.

DATES: Written comments and requests for a public hearing must be

received by the Department on or before February 14, 2000.

ADDRESSES: All written comments and requests for a public hearing

(preferably 3 copies) should be sent to: Office of Exemption

Determinations, Pension and Welfare Benefits Administration, Room N-

5649, 200 Constitution Avenue N.W., Washington, DC 20210, (Attention:

``Class Exemption for Securities Cross-Traded by Index/Model-Driven

Funds''). All comments received from interested persons will be

available for public inspection in the Public Documents Room, Pension

and Welfare Benefits Administration, U.S. Department of Labor, Room N-

5638, 200 Constitution Avenue N.W., Washington, DC 20210.

FOR FURTHER INFORMATION CONTACT: Mr. Louis J. Campagna, or Mr. E. F.

Williams, of the Office of Exemption Determinations, Pension and

Welfare Benefits Administration, U.S. Department of Labor, Washington,

DC 20210 at (202) 219-8883 or 219-8194, respectively, or Mr. Michael

Schloss, Plan Benefits Security Division, Office of the Solicitor, U.S.

Department of Labor, Washington, DC 20210, at (202) 219-4600, ext. 105.

(These are not toll-free numbers.)

SUPPLEMENTARY INFORMATION: This document contains a notice of pendency

before the Department of a proposed class exemption from the

restrictions of sections 406(a)(1)(A) and 406(b)(2) of the Act, section

8477(c)(2)(B) of FERSA, 1 and from the taxes imposed by

section 4975(a) and (b) of the Code, by reason of section 4975(c)(1)(A)

of the Code. The Department is proposing the class exemption on its own

motion pursuant to 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, August 10, 1990).2

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\1\ The Department has responsibility for the administration and

enforcement of section 8477 of FERSA. Section 8477 establishes the

standards of fiduciary responsibility and requirements relating to

the activities of fiduciaries with respect to the Federal Thrift

Savings Fund. All references herein to the fiduciary responsibility

provisions of Part 4 of Title I of ERISA also apply to the

corresponding provisions of FERSA. Accordingly, any relief that

would be provided under this proposed class exemption, if granted,

would also apply to cross-trades of securities by the Federal Thrift

Savings Fund.

\2\ Section 102 of Reorganization Plan No. 4 of 1978, 5 U.S.C.

App. 1 (1996) generally transferred the authority of the Secretary

of the Treasury to issue exemptions under section 4975(c)(2) of the

Code to the Secretary of Labor.

In the discussion of the exemption, references to specific

provisions of the Act should be read to refer as well to the

corresponding provisions of section 4975 of the Code.

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I. Paperwork Reduction Act Analysis

The Department, as part of its continuing effort to reduce

paperwork and respondent burden, conducts a pre-clearance consultation

program to provide the general public and Federal agencies with an

opportunity to comment on proposed and continuing collections of

information in accordance with the Paperwork Reduction Act of 1995 (PRA

95), 44 U.S.C. 3506(c)(2)(A). This helps to ensure that requested data

can be provided in the desired format, reporting burden (time and

financial resources) is minimized, collection instruments are clearly

understood, and the impact of collection requirements on respondents

can be properly assessed.

Currently, the Pension and Welfare Benefits Administration (PWBA)

is soliciting comments concerning the proposed information collection

request (ICR) included in the Proposed Class Exemption for Cross-Trades

of Securities by Index and Model-Driven Funds. A copy of the ICR may be

obtained by contacting the PWBA official identified below in this

Notice of Proposed Class Exemption.

The Department has submitted a copy of the proposed information

collection to the Office of Management and Budget (OMB) for its review

in accordance with 44 U.S.C. 3507(d) of PRA 95. The Department and OMB

are particularly interested in comments that:

Evaluate whether the proposed collection of information is

necessary for the proper performance of the functions of the agency,

including whether the information will have practical utility;

Evaluate the accuracy of the agency's estimate of the

burden of the proposed collection of information, including the

validity of the methodology and assumptions used;

Enhance the quality, utility, and clarity of the

information to be collected; and

Minimize the burden of the collection of information on

those who are to respond, including through the use of appropriate

automated, electronic, mechanical, or other technological collection

techniques or other forms of information technology, e.g., permitting

electronic submission of the responses.

Dates: Written comments concerning the proposed collection of

information should be sent to the Office of Information and Regulatory

Affairs, Office of Management and Budget, Room 10235, New Executive

Office Building, Washington DC 20503; Attention: Desk Officer for the

Pension and Welfare Benefits Administration. Although comments may be

submitted through February 14, 2000, OMB requests the comments be

received within 30 days of the publication of the Notice of Proposed

Class Exemption to ensure their consideration.

Requests for copies of the ICR may be addressed to: Gerald B.

Lindrew, Office of Policy and Research, U.S. Department of Labor,

Pension and Welfare Benefits Administration, 200 Constitution Avenue,

NW, Room N-5647, Washington, D.C. 20210. Telephone: (202) 219-4782

(this is not a toll-free number); Fax: (202) 219-4745.

Title: Notice of Proposed Class Exemption for Cross-Trades of

Securities by Index and Model-Driven Funds.

Type of Review: New.

AGENCY: Department of Labor, Pension and Welfare Benefits

Administration.

Affected Entities: Business or other for-profit.

SUMMARY: The proposed class exemption would permit cross-trades by

Funds in which plans invest and among

[[Page 70058]]

such Funds and Large Accounts pursuant to portfolio restructuring

programs which, in absence of the exemption, would be prohibited by

ERISA. The information collection requirements incorporated within the

proposed class exemption are designed as appropriate safeguards to

ensure, among other things, prior approval by a plan of its

participation in a cross-trading program, proper disclosures of

information about a cross-trading program to plan investors, fair

pricing procedures for securities cross-traded between the Funds or

between such Funds and other Large Accounts managed by the investment

manager, and the absence of a significant degree of investment

discretion by the investment manager in the selection of particular

securities for the Funds.

Needs and Uses: In order for the Department to grant an exemption

for a transaction that would otherwise be impermissible under ERISA,

the statute requires that the Department make a finding that the

proposed exemption meets the statutory requirements of section 408(a).

Section 408(a) requires a finding that the exemption is

administratively feasible, in the interest of the plan and its

participants and beneficiaries, and protective of the rights of the

participants and beneficiaries. In order to ensure that this exemption

meets the statutory requirements, the Department finds it necessary

that certain information be provided to an independent fiduciary of

each plan that invests in an Index or Model-Driven Fund, and that the

independent fiduciary approve the plan's participation in a cross-

trading program.

Respondents and Total Responses: The Department estimates that

approximately 10 entities will seek to take advantage of the class

exemption in a given year. The respondents will be banks and other

investment managers acting as fiduciaries of plans investing in Index

and Model-Driven Funds managed by such entities. There are expected to

be 61,800 responses per year or 6,180 responses per entity per year.

Estimated Annual Burdens: The Department staff estimates the annual

burden for preparing the materials required under the proposed class

exemption to be a total of 68,150 hours or 6,815 hours per entity. The

total annual burden cost (operating/maintenance) is estimated to be

$116,184 or $11,618 per entity.

Comments submitted in response to this Notice of Proposed Class

Exemption will be summarized and/or included in the request for OMB

approval of the information collection request; they will also become a

matter of public record.

II. Background

On March 20, 1998, a Notice was published in the Federal Register

[63 FR 13696] to announce that the Department has under consideration

certain applications for exemptions relating to cross-trades of

securities by investment managers with respect to any account,

portfolio or fund holding ``plan assets'' 3 subject to the

fiduciary responsibility provisions of Part 4 of Title I of ERISA. The

Department published the Notice to request information which would

assist it in determining what standards and safeguards are appropriate

for future exemptions for cross-trades of securities.

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\3\ See 29 CFR Part 2510.3-101, Definition of ``plan assets''--

plan investments.

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The Department understands that securities cross-trading is a

common practice among investment managers and advisers as a means for

executing securities transactions for client accounts that are not

subject to the fiduciary responsibility provisions of

ERISA.4 Such cross-trades could be either direct cross-

trades or brokered cross-trades.

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\4\ The Department is expressing no opinion herein as to whether

such cross-trade practices are in compliance with the relevant

federal securities laws regulating securities transactions and/or

the provision of investment advisory or management services by an

investment manager. For example, cross-trading of securities between

mutual funds and other accounts that use the same or affiliated

investment advisers is permitted if the transactions are

accomplished in accordance with SEC Rule 17a-7, an exemption from

the prohibited transaction provisions of section 17(a) of the

Investment Company Act of 1940 (see 17 CFR 270.17a-7). For a

discussion of the issues relating to the use of SEC Rule 17a-7 for

ERISA plan accounts, see the Notice published on March 20, 1998 (63

FR 13696, 13698-13700).

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Direct cross-trades occur whenever an investment manager causes the

purchase and sale of a particular security to be made directly between

two or more accounts under its management without a broker acting as

intermediary. Under this practice, the manager executes a securities

transaction between its managed accounts without going into the ``open

market''--such as a national securities exchange (e.g. the New York

Stock Exchange--``NYSE'') or an automated broker-dealer quotation

system (e.g. the National Association of Securities Dealers Automated

Quotation National Market System--``NASDAQ'').

Brokered cross-trades occur whenever an investment manager places

simultaneous purchase and sale orders for the same security with an

independent broker-dealer under an arrangement whereby such broker-

dealer's normal commission costs are reduced. In such instances,

brokers are often willing to accept a lower commission because the

transaction will be easier to execute where there are shares already

available to complete the order for both the buyer and the seller.

In the Notice published on March 20, 1998, the Department noted

that cross-trading transactions could result in violations of one or

more provisions of Part 4 of Title I of ERISA. For example, section

406(b)(2) provides that an ERISA fiduciary may not act in any

transaction involving a plan on behalf of a party (or represent a

party) whose interests are adverse to the interests of the plan or the

interests of its participants or beneficiaries. Where an investment

manager has investment discretion with respect to both sides of a

cross-trade of securities and at least one side is an employee benefit

plan account, the Department has previously taken the position that a

violation of section 406(b)(2) of ERISA would occur.5 The

Department has taken the position that by representing the buyer on one

side and the seller on the other in a cross-trade, a fiduciary acts on

behalf of parties that have adverse interests to each

other.6 Moreover, the prohibitions embodied in section

406(b)(2) of ERISA are per se in nature. Merely representing both sides

of a transaction presents an adversity of interests that violates

section 406(b)(2) even absent fiduciary misconduct reflecting harm to a

plan's beneficiaries.7

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\5\ Reich v. Strong Capital Management Inc., No. 96-C-0669, USDC

E.D. Wis. (June 6, 1996).

\6\ See Strong Capital Management Inc., supra.

\7\ See, Cutaiar v. Marshall, 590 F.2d 523 (3d Cir. 1979). In

Cutaiar, the court held that, ``[W]hen identical trustees of two

employee benefit plans whose participants and beneficiaries are not

identical effect a loan between the plans without a section 408

exemption, a per se violation of ERISA exists.'' Cutaiar, 590 F.2d

at 529.

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In addition, violations of section 406(b)(1) or (b)(3) of ERISA may

occur when an investment manager has discretion for both sides of a

cross-trade. Section 406(b)(1) of ERISA prohibits a plan fiduciary from

dealing with the assets of the plan in his own interest or for his own

account. Section 406(b)(3) prohibits a plan fiduciary from receiving

any consideration for his own personal account from any party dealing

with such plan in connection with a transaction involving the assets of

the plan.

It should also be noted that violations of section 403 and 404

could arise where the investment manager represents both sides in a

cross-trade.

[[Page 70059]]

Section 404(a)(1)(A) of ERISA requires, in part, that a plan fiduciary

must discharge its duties solely in the interests of the participants

and beneficiaries of that plan and ``for the exclusive purpose'' of

providing benefits to participants and beneficiaries and defraying

reasonable plan expenses. Similarly, section 403(c)(1) of ERISA

requires, in part, that the assets of a plan must be ``[H]eld for the

exclusive purposes of providing benefits to participants in the plan

and their beneficiaries and defraying reasonable expenses of

administering the plan.''

In the Department's view, conflicts of interest in cross-trading

occur because a manager is exercising investment and trading discretion

over both sides to the same transaction and making decisions as to:

which securities to buy or sell; how much of each security to buy or

sell; when to execute a sale or purchase of each security; where to

conduct a trade (i.e., on a market or through a cross-trade); and at

what price to conduct a trade.

In the Notice published on March 20, 1998, the Department discussed

the types of individual exemptions previously granted for cross-trades

of securities.8 As noted therein, these past exemptions fall

generally into two categories: (1) Those for Index and Model-Driven

Funds; and (2) those for actively-managed or discretionary asset

management arrangements.9

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\8\ The individual exemptions generally have focused on direct

cross-trading transactions. These exemptions have provided relief

from the prohibitions of section 406(b)(2) of ERISA, but have not

provided relief for any violations of section 406(b)(1) or (b)(3) of

ERISA. It should also be noted that the Department does not have

authority under section 408(a) of ERISA to exempt a plan fiduciary

from any violations of sections 403 and 404 of ERISA. Thus, even

when proceeding under an individual exemption, an investment manager

remains fully liable under sections 403 and 404 of ERISA for the

investment decisions relating to cross-trades.

\9\ In this regard, see the following Prohibited Transaction

Exemptions (PTEs): PTE 95-83, Mercury Asset Management (60 FR 47610,

September 13, 1995); PTE 95-66, BlackRock Financial Management L.P.,

(60 FR 39012, July 31, 1995); PTE 95-56, Mellon Bank, N.A. (60 FR

35933, July 12, 1995); PTE 94-61, Batterymarch Financial Management

(59 FR 42309, August 17, 1994); PTE 94-47, Bank of America National

Trust and Savings Association (59 FR 32021, June 21, 1994); PTE 94-

43, Fidelity Management Trust Company (59 FR 30041, June 10, 1994);

PTE 94-36, The Northern Trust Company (59 FR 19249, April 22, 1994);

PTE 92-11, Wells Fargo Bank, N.A. (57 FR 7801, March 4, 1992)--which

replaced PTE 87-51 noted below; PTE 89-116, Capital Guardian Trust

Company (54 FR 53397, December 28, 1989); PTE 89-9, State Street

Bank and Trust Company (54 FR 8018, February 24, 1989); PTE 87-51,

Wells Fargo Bank, N.A. (52 FR 22558, June 12, 1987); and PTE 82-133,

Chase Manhattan Bank, N.A. (47 FR 35375, August 13, 1982).

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The trading decisions made for the Index and Model-Driven Funds

involved are ``passive'' or ``process-driven.'' In the case of an Index

Fund, the investment manager has been hired to invest money according

to a formula that, for example, tracks the rate of return, risk

profile, and other characteristics of an independently maintained index

by either replicating the entire portfolio of the index or by investing

in a representative sample of such portfolio designed to match the

projected risk/return profile of that index. Model-Driven Funds are

based upon formulae by which an ``optimal'' portfolio is created to

implement some specific investment strategy that is either based upon

or measured by an independently maintained index of securities. These

``process driven'' programs are implemented only by investment in an

index replicating portfolio (in the case of index funds) or a set

``optimum'' portfolio (in the case of model-driven funds). In granting

these exemptions, the Department did not believe, based on the

representations made by the applicants requesting the prior exemptions,

that the selection of individual securities for Index and Model-Driven

Funds using such ``process-driven'' strategies would involve any

significant exercise of investment discretion by the investment manager

managing the Funds. In actively-managed programs, trading decisions are

made by individuals hired to select particular securities as

professional investment managers.

In the exemption applications, the applicants have represented to

the Department that cross-trading provides certain benefits to employee

benefit plans as Fund investors. For example, when one Fund needs to

sell the same securities that another Fund needs to buy on the same

day, a cross-trade saves both the selling Fund and the buying Fund the

transaction costs (e.g., brokerage commissions or the bid-offer spread)

that would otherwise have been paid to a broker-dealer for executing

the transaction on the open market.

While recognizing the advantages of cross-trading to plans, the

Department has particular concerns where managers have investment

discretion over both sides of a cross-trade transaction. The conditions

contained in the Department's prior individual exemptions for cross-

trades by Index and Model-Driven Funds and actively-managed funds were

intended to address these concerns and to safeguard plans against the

inherent conflict of interest which exists when there is a common

investment manager for both sides of a transaction. In this regard, the

conditions incorporated into these exemptions were designed to protect

plans against the potential that an investment manager may exercise

discretion to favor one account over another; e.g., in the pricing of a

particular cross-trade, in the decision to either buy and/or sell

particular securities for an ERISA account, or to allocate securities

among accounts, including ERISA accounts.

The Department recognizes that its concerns are more apparent in

situations involving actively-managed accounts or funds, where an

investment manager has total investment discretion to choose particular

securities for such accounts or funds at any time, subject only to

general investment guidelines or objectives established by the client

plan fiduciaries. As a result, the Department is not proposing relief

for transactions involving actively-managed cross-trading at this time.

Information obtained by the Department in response to the Notice with

respect to cross-trades of securities by actively-managed funds is

currently under consideration by the Department.10

Publication of the proposed exemption does not foreclose future

consideration of additional exemptive relief for actively-managed

programs. However, the Department believes that it has developed a

sufficient record, through consideration of past individual exemptions

and comments to the Notice, to propose relief for passive and process-

driven cross-trading, subject to certain restrictions and limitations

regarding the exercise of fiduciary discretion.

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\10\ In this regard, the Department directs interested persons

to a notice of public hearing which the Department is also

publishing in today's Federal Register.

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With respect to this exemptive relief for cross-trades by Index and

Model-Driven Funds, it should be noted that, through the development of

past cross-trading exemptions and enforcement proceedings, the

Department became aware of issues that have caused it to reexamine its

exemption policy for such transactions. As a result, certain of the

conditions and definitions contained in this proposal differ from a

number of the conditions and definitions developed over time for the

previously granted passive and process-driven individual exemptions.

These proposed modifications reflect the importance to the Department

of retaining flexibility to review its exemption policy in the context

of changed circumstances or new facts brought to its attention.

For example, in the ``process-driven'' context, it was represented

to the Department in past exemption applications that investment

managers who manage accounts or pooled funds

[[Page 70060]]

often attempt to track the rate of return, risk profile and other

characteristics of an independently maintained third party index (e.g.,

the Standard & Poors 500 Composite Stock Price Index a/k/a the S&P 500

Index, the Wilshire 5000 Index, the Russell 2000 Index). These pooled

funds are usually collective investment funds established and trusteed

by large banks that manage money for institutional investors, including

employee benefit plans. Under the Department's past exemptions, such

funds may cross-trade pursuant to certain narrowly-defined ``triggering

events'' which involve little, if any, discretion on the part of the

investment manager.

In the past, various applicants represented to the Department that

the investment strategy of most Index Funds merely involved replicating

the capitalization-weighted composition of a particular index. In this

regard, FERSA itself requires that the Common Stock Index Investment

Fund (an S&P 500 Fund) be invested in a portfolio that is ``* * *

designed such that, to the extent practicable, the percentage of the

Common Stock Index Investment Fund that is invested in each stock is

the same as the percentage determined by dividing the aggregate market

value of all shares of that stock by the aggregate market value of all

shares of all stocks included in such index.'' 5 U.S.C.

Sec. 8438(b)(2)(B).11 Consequently, in the past, the

Department generally focused on issues relating to Index Funds which

simply replicated the capitalization-weighted composition of a

particular index.

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\11\ In addition, section 8438 (b)(3)(B) and (b)(4)(B) of FERSA

contain similar requirements for the Small Capitalization Stock

Index Investment Fund and International Stock Index Investment Fund.

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However, the Department now understands that the process that Index

Funds use to replicate the returns of an index may not be limited to

replicating the exact composition of the index and that many, if not

most, Index Funds do not totally replicate the exact composition of the

index that is being tracked. In many instances, the manager maintains

some discretion to select particular securities to track the rate of

return, risk profile and other characteristics of the overall index

without actually holding all of the securities included in the index.

Some Index Funds are designed to exceed the rate of return and/or

deviate from the risk profile of the index by altering the composition

or weighting of securities within the index as designated by the

organization that maintains the index. These ``enhanced'' Index Funds

often have strategies that resemble actively-managed accounts.

Therefore, the Department believes that the definition of an ``Index

Fund'' that is permitted to cross-trade pursuant to certain narrowly-

defined ``triggering events'' needs to be modified under the proposal

from that contained in prior individual exemptions.

In addition, Model-Driven Funds are portfolios that apply specific

investment philosophies and criteria in formulaic fashion to create a

specialized portfolio. Model-Driven Funds may come in many different

forms. Some Model-Driven Funds seek to transform the capitalization-

weighted or other specified composition of an index in order to

accomplish certain goals. Such goals may include client-initiated

instructions to delete certain stocks from an index that is otherwise

being tracked, or investment management styles which incorporate

mathematical formulae designed to focus on certain investment criteria

(e.g., price-earnings ratios) at certain times in order to achieve a

rate of return for the model-driven portfolio that exceeds that of the

underlying index. Thus, some Model-Driven Funds appear to be a more

sophisticated type of ``enhanced'' Index Fund.

The Department notes that the proposed exemption would not be

available to a Fund if the manager has modified the index or design of

the model to produce cross-trade opportunities. For example, the

exemption would not be available to a Fund if the manager has modified

the index or design of the model to generate buy or sell orders based

on the availability of a security within the control of the manager.

Such a modification or design would cause a Fund to engage in cross-

trades solely for the purpose of providing matching trades suited to

another Fund's needs rather than for the investment purposes of the

Fund whose trading criteria have been modified.

The Department believes that the definition of a ``Model-Driven

Fund'' that cross-trades pursuant to ``triggering events'' also needs

to be modified from that contained in prior exemptions. Further, the

Department is of the view that the definition of a ``triggering event''

should be modified to reduce the amount of discretion that an

investment manager may exercise in connection with a cross-trading

decision on behalf of a Model-Driven Fund.

III. Discussion of the Comments on the Notice

The Department received a total of twenty-nine (29) comment letters

on the Notice, approximately half of which addressed cross-trades by

Index and Model-Driven Funds. Some of these comments were from major

industry groups, such as associations representing investment managers

that act as fiduciaries for employee benefit plans.

Many of these comments responded directly to the specific questions

posed by the Department in the Notice. These comments, as they relate

to cross-trades by Index and Model-Driven Funds, are summarized below.

The comments almost universally endorsed the idea of the Department

proposing additional exemptive relief for cross-trades of securities by

Index and Model-Driven Funds. All of the comments noted that, under

appropriate conditions, cross-trading can provide numerous benefits to

client accounts and funds, including the avoidance of brokerage

commissions and bid-offer spreads that would otherwise be incurred, and

the avoidance of adverse market impact costs if such trades were

transacted on the open market. In addition, many of the commenters

noted that in international markets there are benefits from cross-

trading associated with avoiding other related transaction costs, such

as settlement charges, registration fees, and certain taxes. As noted

above, the Department questions whether avoiding adverse market impact

costs is favorable to the party that would have received a better price

had the market price moved in its favor prior to engaging in the

transaction. The Department invites comments regarding this concern.

A commenter stated that the advantages provided by cross-trading

securities are magnified in the case of ``passively'' managed accounts

or funds, primarily because of the relatively large account sizes and

overlap in portfolio composition. For example, because Index and Model-

Driven Funds must maintain certain weighting and parameters, cash

inflows into one Fund essentially mandate the acquisition of an array

of securities, while cash outflows in another Fund may require the

simultaneous disposition of many of the same securities.

With respect to the size of the market attributable to assets of

employee benefit plans that cross-trade, one comment from a large

investment manager estimated that over $700 billion of pension and

retirement funds are invested in ``passive'' strategies (e.g., Index

and Model-Driven Funds) which rely heavily on cross-trading to minimize

transaction costs. Another comment from a major bank that manages Index

and Model-Driven Funds

[[Page 70061]]

stated that the bank estimates that cross-trading saves its clients

hundreds of millions of dollars each year by substantially reducing

transaction costs. Other comments from major corporations with large

pension plans that invest in Index and Model-Driven Funds also noted

transaction cost savings of over $1,000,000 for each of their plans

over a two-year period. Similar comments were made by other

institutional investors, such as governmental plans.

The Department is concerned that the savings mentioned by the

commenters may not only be reflective of transaction cost savings, but

may also reflect ``savings'' attributable to the avoidance of market

impact by cross-trading securities rather than engaging in open market

transactions. The Department seeks further comments and data regarding

the savings which may be expected from cross-trades and the basis for

such savings.

Some commenters further asserted that clients demand cross-trading

capabilities as a condition for the investment manager to handle their

accounts. With ``passive'' investment management strategies that seek

to replicate the rate of return, risk profile and other characteristics

of a designated index (e.g., the S&P 500 Index), the success of an

investment manager is often measured by the tracking error of the

managed portfolio vis-a-vis the index. Cross-trades of securities help

reduce an investment manager's overall transaction costs, which are

otherwise a major source of tracking error in relation to the index

because the index is valued without taking into consideration

transaction costs. Thus, it is virtually impossible for an investment

manager to replicate the rate of return, risk profile and other

characteristics of an index, or to accurately track the designated

composition and weighting of the securities contained therein, when the

organization maintaining such index establishes the value of the index

exclusive of such transaction costs. In addition, the comments note

that every dollar a portfolio spends on transaction costs (either as

spreads or commissions) detracts from the investment strategy guideline

that has been mandated by the independent plan fiduciary--i.e., to come

as close as possible to the rate of return, risk profile and other

characteristics of the designated index.

Moreover, cross-trades of securities by Model-Driven Funds that are

designed to exceed the rate of return of a designated index also

achieve better results by reducing transaction costs. A commenter noted

that the computer models, which create the portfolios for a Model-

Driven Fund by transforming an index, dictate the securities to be

purchased and sold in precise quantities. Thus, the commenter stated

that the types of passive strategies used by these Funds do not work as

effectively if an investment manager must make decisions with respect

to purchases or sales of individual securities which override the

selections made by the computer model.

In this regard, one commenter asserted that cross-trading enables

an investment manager to obtain, or dispose of, the necessary amounts

of such securities without having to alter a model's investment

strategy because of transaction costs associated with achieving the

desired goal. Other comments asserted that cross-trading is merely

another method of executing the purchase or sale of a security that has

already been included on the trade list of a Model-Driven Fund for a

particular day. Thus, the decision to buy or sell a security through

cross-trades, rather than on the open market, is made after the trade

list for the purchase or sale of that security has been prepared. Such

trade lists are developed by computer models which use prescribed

objective factors and external data to automatically generate a model-

prescribed portfolio, or use a client's instructions to buy or sell

particular securities to facilitate a client-initiated portfolio

restructuring.

Still other commenters noted that the computer models or

optimization programs that drive a Model-Driven Fund are designed to

keep the Fund's portfolio of securities balanced with the projected

return, risk profile and other characteristics of the appropriate model

or index. One major bank that manages such Funds commented that these

models are not designed to increase the frequency of cross-trades, but

rather to apply quantitative techniques to achieve a predetermined

investment strategy. This comment stated that investment managers do

not let the ``tail wag the dog'' by weighting or manipulating the

investment models to produce more cross-trades.

With respect to the degree of investment discretion exercised by an

investment manager in creating and operating a Model-Driven Fund, one

comment asserted that, while the creation of a computer model may

require human intervention, the operation of a Model-Driven Fund in

accordance with the dictates of the model involves the same type of

``passive'' investment strategy and human intervention as an Index

Fund. In addition, the comments state that these computer models are

rarely changed and their operations are free of any overt or subtle

discretion exercised by the investment manager. When such models are

changed, clients are often provided with prior notice of the change and

objective criteria are used to design the new ``passive'' investment

strategy. The comments maintain that the mere ability to change the

model, exercised infrequently, does not change a strategy from passive

to active. In this regard, some of the comments state that an

investment manager for an Index or Model-Driven Fund is not hired by

its clients to subjectively analyze individual securities or a range of

securities, and that the compensation paid to the investment manager

for implementing a ``passive'' investment strategy is much less than

that required for active management. Thus, these comments note that the

level of compensation paid to a ``passive'' investment manager reflects

the role that such manager has in operating a Model-Driven Fund.

In any event, all of the comments state that the benefits of cross-

trading override any concerns the Department may have regarding the

degree of discretion a particular investment manager may exercise in

the design and implementation of a computer model used for a Model-

Driven Fund. The comments assert that these concerns are further

mitigated by the conditions of the Department's past exemptions which

require, among other things, that: (1) cross-trades by the Funds can

occur only in response to various ``triggering events'' which are not

within the manager's control or discretion; (2) a large plan or other

large account can only engage in cross-trades with an Index or Model-

Driven Fund where the investment decisions relating to a particular

portfolio restructuring program for the large plan/account are made by

a fiduciary or other appropriate decision-maker who is independent of

the investment manager; (3) all cross-trade transactions will occur

within three business days of the ``triggering event'' necessitating

the purchase or sale; (4) all cross-traded securities must be

securities for which there is a generally recognized market; (5) the

price for all securities involved in the cross-trade will be the

current market value for the securities on the close of the trading day

in which the transaction occurs; and (6) the investment manager may not

receive additional compensation as a result of the cross-trade.

After consideration of the information contained in the comments

relating to cross-trades of securities by Index and Model-Driven Funds

and the current

[[Page 70062]]

cross-trade practices utilized by investment managers that manage such

Funds, the Department has determined to propose this class exemption.

As discussed in further detail below, this proposed class exemption for

cross-trades of securities by Index and Model-Driven Funds contains

many of the same conditions that appear in the individual exemptions

previously granted by the Department, with certain modifications. In

addition, the proposal contains a number of new conditions and

definitions which attempt to address concerns that have been raised

since those exemptions were granted.

IV. Description of the Proposed Exemption

A. Scope and General Rule

The proposed exemption consists of four parts. Section I sets forth

the general exemption and describes the transactions covered by the

exemption. Sections II and III contain specific and general conditions

applicable to transactions described in section I. Section IV contains

definitions for certain terms used in the proposed exemption.

The exemption set forth in section I would provide relief from the

restrictions of sections 406(a)(1)(A) and 406(b)(2) of ERISA and

section 8477(c)(2)(B) of FERSA for: (a) the purchase and sale of

securities between an Index or Model-Driven Fund and another such Fund,

at least one of which holds ``plan assets'' subject to the Act; and (b)

the purchase and sale of securities between such Funds and certain

large accounts (Large Accounts) pursuant to portfolio restructuring

programs of the Large Accounts.

The proposed exemption under section I(a) applies to cross-trades

of securities among Index or Model-Driven Funds managed by the same

investment manager where both Funds contain plan assets. However, as

stated above, a violation of section 406(b)(2) occurs when an

investment manager has investment discretion with respect to both sides

of a cross-trade of securities and at least one side is an entity which

contains plan assets. As a result, the proposed exemption is also

applicable to situations where the investment manager has investment

discretion for both Funds involved in a cross-trade but one Fund does

not contain plan assets because, for example, it is registered as an

investment company under the Investment Company Act of 1940 (e.g., a

mutual fund). Any mutual fund or other institutional investor covered

by the proposed exemption under section I(a) must meet the definition

of an Index Fund or a Model-Driven Fund, contained in section IV(a) and

(b). Institutional investors which meet the definition contained in

section IV(a) and (b) may include, but are not limited to, entities

such as insurance company separate accounts or general accounts,

governmental plans, university endowment funds, charitable foundation

funds, trusts or other funds exempt from taxation under section 501(a)

of the Code.

The proposed exemption under section I(b) would apply to the

purchase and sale of securities between a Fund and a Large Account, at

least one of which holds ``plan assets'' subject to ERISA or FERSA,

pursuant to portfolio restructuring programs initiated on behalf of

certain Large Accounts. The term ``Large Accounts'' is defined in

section IV(e) as certain large employee benefit plans or other large

institutional investors with at least $50 million in total assets,

including certain insurance company separate and general accounts and

registered investment companies. A portfolio restructuring program, as

defined in section IV(f), involves the buying and selling of securities

on behalf of a Large Account in order to produce a portfolio of

securities which either becomes an Index Fund or a Model-Driven Fund or

resembles such a Fund, or to carry out a liquidation of a specified

portfolio of securities for a Large Account. The definition of a Large

Account requires that an independent fiduciary authorize an investment

manager (i.e., a Manager, as defined in section IV(i)) to restructure

all or part of the portfolio or to act as a ``trading adviser'' as

defined in section IV(g) with respect to the restructuring of such

portfolio. The trading adviser's role is limited under the proposed

exemption to the disposition within a stated period of time of a

securities portfolio of a Large Account and the creation of the

required portfolio. Under this definition, the manager may not have any

discretionary authority for any asset allocation, security selection,

restructuring or liquidation decisions or otherwise provide investment

advice with respect to such transactions. It has been represented to

the Department that, in such restructuring transactions, commissions

and other costs are saved by not having to liquidate all of the

securities contained in the Large Account's portfolio on the open

market. In this regard, the Department notes that it expects the

investment manager to comply with the applicable securities laws in

connection with any portfolio restructuring program.

Section IV(a) and (b) require that the Index or Model-Driven Fund

be based upon an index which represents the investment performance of a

specific segment of the public market for equity or debt securities.

Section IV(c) requires that the index be established and maintained by

an independent organization which is: in the business of providing

financial information or brokerage services to institutional clients; a

publisher of financial news or information; or a public stock exchange

or association of securities dealers. The index must be a standardized

index of securities which is not specifically tailored for the use of

the manager. The Department seeks comments directed to the proposed

definition of an index.

Section IV(a) and (b) specifically define Index and Model-Driven

Funds for purposes of the proposed exemption. These definitions are

designed to limit the amount of discretion the manager can exercise to

affect the identity or amount of securities to be purchased or sold and

to assure that the purchase or sale of any security is not part of an

arrangement, agreement or understanding designed to benefit the

manager. Under the definition of ``Index Fund'' contained in section

IV(a), the investment manager must track the rate of return of an

independently maintained securities index by either replicating the

same combination of securities which compose such index or by investing

in a representative sample of such portfolio based on objective

criteria and data designed to recreate the projected return, risk

profile and other characteristics of the index. Under the definition of

``Model-Driven Fund'' contained in section IV(b), trading decisions are

passive or process-driven since the identity and the amount of the

securities contained in the Fund must be selected by a computer model.

Although the manager can use its discretion to design the computer

model, the model must be based on prescribed objective criteria using

third party data, not within the control of the manager, to transform

an independently maintained index. Thus, for example, no exemptive

relief would be available if the manager designed the computer model to

consider the liquidity or the availability of a security based on

information that was solely within the control of the manager. In such

instances, the computer model would be considering data that was not

from a third party source, and that was within the control of the

manager.

B. Price and Securities

Section II(a) requires that the cross-trade must be executed at the

closing price for that security. ``Closing price'' is defined in

section IV(h) as the price

[[Page 70063]]

for the security on the date of the transaction, as determined by

objective procedures disclosed to Fund investors in advance and

consistently applied with respect to securities traded in the same

market. The procedures shall indicate the independent pricing source

(and alternates, if the designated pricing source is unavailable) used

to establish the closing price and the time frame after the close of

the market in which the closing price will be determined. The pricing

source must be independent of the manager and must be engaged in the

ordinary course of business of providing financial news and pricing

information to institutional investors and/or the general public, and

must be widely recognized as an accurate and reliable source for such

information. In this regard, some managers use one pricing service for

pricing domestic securities and another pricing service for pricing

foreign securities. With respect to foreign securities, the applicable

independent pricing source should provide the price in local currency

rates and, if that currency is other than U.S. dollars, also provide

the U.S. dollar exchange rate. Thus, securities would be cross-traded

in all cases at the closing prices received by the manager from the

relevant independent pricing source.

The Department has adopted this definition in an effort to be

consistent with the methods for determining the price of cross-traded

securities currently utilized by Index and Model-Driven Fund investment

managers, according to the comments to the Notice published on March

20, 1998. In addition, the Department believes that this pricing

approach will ensure that the pricing procedures utilized are objective

and not subject to the discretion or manipulation of any of the

involved parties. The comments received indicated that passive managers

generally utilize independent pricing services which collect

information on closing prices of securities. However, the Department

realizes that passive fund managers have an ever present need to retain

the flexibility to consider advanced trading or pricing techniques

which could reduce costs that generate tracking error or which reflect

a more refined view of the market behavior of a specific security.

Comments are invited as to whether the definition of the price for a

cross-traded security contained in this proposal is responsive to that

need.

Section II(f) requires that the cross-trades of either equity

securities or fixed income securities involve only securities for which

market quotations are readily available from independent sources that

are engaged in the ordinary course of business of providing financial

news and pricing information to institutional investors and/or the

general public, and are widely recognized as accurate and reliable

sources for such information. Section II(f)(1) further requires that

cross-trades of equity securities only involve securities which are

widely-held and actively-traded. In this regard, the Department notes

that equity securities will be deemed to be ``widely-held'' and

``actively-traded'' under this proposed exemption if such securities

are included in an independently maintained index, as defined in

section IV(c) herein. The Department invites comments from interested

persons regarding the definitions of the types of allowable securities

permitted to be cross-traded under the exemption. The Department's

intent is to exclude those securities which are thinly-traded. This

intent is based upon the underlying notion that the cross-trading of a

security may avoid the market impact on the price of the security that

a similar trade on the market would produce. This avoidance of market

impact through cross-trading would be more dramatic with thinly-traded

securities. The Department expects that managers, in making their

determinations regarding the types of securities included within the

scope of this condition, would consider information about the average

daily trading volume for U.S. equities traded on a nationally

recognized securities exchange or NASDAQ which would be readily

available from independent pricing sources or other independent sources

which publish financial news and information.

The Department also invites comments from interested persons as to

whether Index Funds and Model-Driven Funds may hold significant amounts

of the outstanding shares of a particular security which is included in

an index used by a manager to design and operate a portfolio for its

Funds. In addition, the Department invites comments as to whether

cross-trades of securities by a manager's Funds, which may represent a

high percentage of the average daily trading volume for the securities

on the open market, avoids the market impact that the same trades would

have if executed on the open market.

C. Triggering Events

Section II(b) of the proposed exemption requires that any purchase

or sale of securities by a Fund in a cross-trade with another Fund or

with a Large Account occur as a direct result of a ``triggering

event,'' as defined in section IV(d), and that such cross-trade be

executed no later than the close of the second business day following

such ``triggering event.'' The Department believes that trading

pursuant to triggering events limits the discretion of the manager to

affect the identity or amount of securities to be purchased or sold.

Triggering events, as defined in section IV(d), are outside the control

of the manager and will ``automatically'' cause the buy or sell

decision to occur.

Triggering events are defined in section IV(d) as:

(1) a change in the composition or weighting of the index

underlying the Fund by the independent organization creating and

maintaining the index;

(2) A specific amount of net change in the overall level of assets

in a Fund, as a result of investments in and withdrawals from the Fund,

provided that: (A) Such specified amount has been disclosed in writing

as a ``triggering event'' to an independent fiduciary of each plan

having assets held in the Fund prior to, or within ten (10) days after,

its inclusion as a ``triggering event'' for such Fund; and (B)

investments or withdrawals as a result of the manager's discretion to

invest or withdraw assets of an employee benefit plan maintained by the

manager for its own employees (a Manager Plan), other than a Manager

Plan which is a defined contribution plan under which participants

direct the investment of their accounts among various investment

options, including such Fund, will not be taken into account in

determining the specified amount of net change;

(3) An accumulation in the Fund of a specified amount of either:

(A) Cash which is attributable to interest or dividends on, and/or

tender offers for, portfolio securities; or (B) stock attributable to

dividends on portfolio securities; provided that such specified amount

has been disclosed in writing as a ``triggering event'' to an

independent fiduciary of each plan having assets held in the Fund prior

to, or within ten (10) days after, its inclusion as a ``triggering

event'' for such Fund; or

(4) A change in the composition of the portfolio of a Model-Driven

Fund mandated solely by operation of the formulae contained in the

computer model underlying the Fund where the basic factors for making

such changes (and any fixed frequency for operating the formulae

contained in the model) have been disclosed in writing to an

independent fiduciary of each plan having assets held in the Fund prior

to, or within ten (10) days after, its inclusion as a ``triggering

event'' for such Fund.

[[Page 70064]]

The first three triggering events have largely been adopted based

upon those triggering events utilized in prior individual exemptions,

with an additional requirement in the second and third triggering

events for the amounts involved to be specified and disclosed to

independent fiduciaries of plans investing in the Funds. In addition,

the last triggering event has been added to the proposal in order to

clarify that a triggering event also occurs as a result of a change in

the composition of a Fund's portfolio mandated solely by operation of

the computer model underlying the Fund. For example, if a model

contained a formula for a Fund requiring only stocks with a certain

price/earnings ratio and some of the originally prescribed stocks now

were above the specified tolerances of the formula relating to that

model, a triggering event would occur requiring that those stocks be

sold by the Fund. The Department has added this triggering event under

this proposed exemption in order to clarify that certain Model-Driven

Funds may need to buy or sell securities to conform to changes to the

portfolio prescribed by the model that differ from changes to a

portfolio necessitated as a result of changes to the underlying index.

The proposed exemption does not require that a computer model be

operated according to any fixed frequency, but, the Department is of

the view that the proposed exemption would not be available unless the

formulae contained in the computer model underlying a Fund are operated

by the manager on an objective basis rather than being used for the

purpose of creating cross-trade opportunities in response to the needs

of other Funds or certain Large Accounts.

The Department further notes that under section II(l), disclosures

must be made to independent plan fiduciaries regarding the triggering

events that would create cross-trading opportunities for Funds under

the manager's cross-trading program. Under the model-driven triggering

event contained in the proposal, the basic factors for making changes

in the composition of the portfolio of a Model-Driven Fund mandated

solely by operation of the formulae contained in the computer model

must be included in these disclosures.

Finally, the Department notes that if a computer model used to

create a portfolio for a Model-Driven Fund is designed to exclude

particular stocks for reasons specified by the plan client or the

plan's investment guidelines, such exclusions would not be considered a

separate triggering event.

D. Modifications to the Computer Model

Section II(c) requires that, if the model or the computer program

used to generate the model underlying the Fund is changed by the

manager, no cross-trades of any securities can be engaged in pursuant

to the proposed exemption for ten (10) business days following the

change. This restriction recognizes the authority of the manager to

change assumptions involving computer models after the model's

activation.

The Department notes that the proposed ten (10) business day

``blackout'' period for cross-trades by a Fund after any change made by

the manager to the model underlying the Fund is intended to prevent

model changes which might be made by managers, in part, to deliberately

create additional cross-trading activity. The 10-day period is based on

a condition contained in a prior individual exemption for cross-trading

by Index and Model-Driven Funds (e.g., Section I(d) of PTE 95-56,

regarding Mellon Bank, 60 FR 35933, July 12, 1995) as well as

representations made by applicants in a number of exemption

applications currently under consideration.12

---------------------------------------------------------------------------

\12\ These exemption applications are: D-9584, Wells Fargo Bank,

N.A.; D-10107, Bankers Trust Company of New York; D-10188, Barclays

Bank PLC and Affiliates; and D-10507, ANB Investment Management and

Trust Company.

---------------------------------------------------------------------------

However, the Department now understands that, in order to keep pace

with the demands of investors in Model-Driven Funds, the industry

changed many of its past practices which may now make a ``10-day

blackout period'' for cross-trades problematic for certain Fund

managers. For example, many Model-Driven Funds have more frequent

opening dates for accepting new contributions from investors than in

the past. In some cases, a Model-Driven Fund may be open for new

contributions every day. In such instances, decisions regarding the

implementation of a model change which would require the 10-day

blackout period for cross-trades may place the manager in a situation

of conflict between investors who wish to make contributions at

different times.

Therefore, the Department specifically requests comments from

interested persons as to whether the proposed 10-day blackout period

for cross-trades would be an acceptable approach to address our

concerns regarding model changes that may be timed to create additional

cross-trading opportunities or whether there are other approaches which

would be equally effective, but less burdensome, to the manager's

operation of the Fund. The Department also requests specific comments

as to how frequently changes to a model are made.

In addition, under section IV(b), a computer model for a Model-

Driven Fund must use independent third party data, not within the

control of the manager, to transform an index.

E. Allocation of Cross-Trade Opportunities

The Department notes that frequently the amount of a security which

all of the Funds need to buy may be less than the amount of such

security which all of the Funds will need to sell, or vice versa. Thus,

section II(d) of the proposed exemption requires that all cross-trade

opportunities be allocated by the manager among potential buyers, or

sellers, on an objective basis. Under section II(d), this basis for

allocation must have been previously disclosed to independent

fiduciaries on behalf of each plan investor, and must not permit the

exercise of any discretion by the manager. In previous individual

exemptions, applicants have relied on different systems (e.g. pro rata

or queue) to objectively allocate cross-trade opportunities. While it

appears to the Department that a pro rata basis of allocation would be

the method least subject to scrutiny, the Department recognizes the

validity of other workable objective systems. However, the Department

cautions that such systems may not permit the exercise of discretion by

the manager.

F. Disclosures and Authorizations

Section II(i) of the proposed exemption requires that a plan's

participation in a cross-trade program of a manager will be subject to

the prior written authorization of a plan fiduciary who is independent

of the manager. This authorization, once given, would apply to all

Funds that comprise the manager's cross-trading program at the time of

the authorization. Thus, a new authorization by an independent plan

fiduciary for investment in a different Fund, in which the plan did not

invest at the time of its initial written authorization, would not be

necessary to the extent that such Funds were part of the program at the

time of the original authorization. However, where a manager makes new

Funds available for plan investors or changes triggering events

relating to Funds subject to the initial authorization, and such Funds

or triggering events were not previously disclosed as being part of the

manager's cross-trading program, section II(l) of the proposal requires

that in such instances the manager furnish

[[Page 70065]]

additional disclosures to an independent plan fiduciary. The Manager

shall provide a notice to each relevant independent plan fiduciary

prior to, or within ten (10) days following, such addition of Funds or

change to, or addition of, triggering events, which contains a

description of such Fund(s) or triggering event(s). Such notice will

also include a statement that the plan has the right to terminate its

participation in the cross-trading program and its investment in any

Index Fund or Model-Driven Fund without penalty at any time, as soon as

is necessary to effectuate the withdrawal in an orderly manner.

As noted below, section II(m) also requires that disclosures

regarding any new Funds or triggering events be made as part of the

notice required for a plan's annual re-authorization of its

participation in the manager's cross-trading program, even though the

plan receiving such notice has not invested in such new Funds.

Section II(j) clarifies the meaning of Section II(i) with respect

to existing plan investors in any of the Funds prior to a manager's

implementation of a cross-trading program. Under section II(j), the

authorizing independent fiduciary must be furnished notice and an

opportunity to object to that plan's participation in the program not

less than forty-five (45) days prior to the implementation of the

cross-trade program. Section II(j) further states that the failure of

the authorizing fiduciary to return a special termination form provided

in the notice within thirty (30) days of receipt shall be deemed to be

approval of the plan's participation in the program. If the authorizing

plan fiduciary objects to the plan's inclusion in the program, the plan

will be given the opportunity to withdraw without penalty prior to the

program's implementation.

Sections II(k) and II(l) describe the type of information that is

required to be disclosed to a plan fiduciary prior to the authorization

defined in sections II(i) and II(j). Important among these disclosures

is a statement describing the conflicts that will exist as a result of

the manager's cross-trading activities. This statement must also detail

and explain how the manager's practices and procedures will mitigate

such conflicts. Such writing must include a statement that:

Investment decisions will not be based in whole or in part by the

manager on the availability of cross-trade opportunities. These

investment decisions include:

Which securities to buy or sell;

How much of each security to buy or sell; and,

When to execute a sale or purchase of each security.

Investment decisions will be made prior to the identification and

determination of any cross-trade opportunities. In addition, all cross-

trades by a Fund will be based solely upon triggering events set forth

in the exemption. Records documenting each cross-trade transaction will

be retained by the manager.

Section II(m) further requires that notice be provided to the

authorizing plan fiduciary at least annually of the plan's right to

terminate its participation in the cross-trading program and its

investment in any of the Funds without penalty. Such notice must be

accompanied by a special termination form. Failure to return the form

(within at least thirty (30) days of the receipt) will be deemed

approval of the plan's continued participation in the cross-trading

program. Such annual re-authorization will contain disclosures

regarding any new Funds that are added to the cross-trading program or

any new ``triggering events'' (as defined in Section IV(d) below) that

may have been added to existing Funds since the time of the initial

authorization described in Section II(i), or the time of the notice

described in Section II(j).

Section II(n) of the proposed exemption details specific

requirements for cross-trades of securities which will occur in

connection with a Large Account restructuring. In particular, section

II(n)(2) requires that the authorization for such cross-trades must be

made in writing prior to the cross-trade transactions by fiduciaries of

the Large Account who are independent of the manager. Such

authorization must follow full written disclosure of information

regarding the cross-trading program. Such authorization may be

terminated at will upon receipt by the manager of written notice of

termination. A termination form must be supplied to the Large Account

fiduciary concurrent with the written description of the cross-trading

program. Under section II(n)(3), the portfolio restructuring program

must be completed within thirty (30) days of the initial authorization

made by the Large Account's fiduciary (or initial receipt of assets

associated with the restructuring, if later), unless the Large

Account's fiduciary agrees in writing to extend this period for another

thirty (30) days. Large Account fiduciaries may utilize the termination

form or any other written instrument at any time within this 30-day

period to terminate their prior written authorization for cross-trading

related to the portfolio restructuring program. Under section II(n)(4),

within thirty (30) days of the completion of the restructuring program,

the Large Account fiduciary must be fully apprised in writing of the

results of the transactions. Such writing may include, upon request by

the Large Account fiduciary, additional information sufficient to allow

the independent fiduciary for the Large Account to verify the need for

each cross-trade and the determination of the above decisions. However,

the manager may refuse to disclose to a Large Account fiduciary or

other person any such information which is deemed confidential or

privileged if the manager is otherwise permitted by law to withhold

such information from such person and, by the close of the thirtieth

(30th) day following the request, the manager gives a written notice to

such person advising that person both the reasons for the refusal and

that the Department may request such information.

G. Recordkeeping

Section III(a) requires that the manager maintain records necessary

to allow a determination of whether the conditions of the proposed

exemption have been met. These records must be maintained for a period

of six (6) years from the date of the transactions. These records must

include records which identify the following:

(1) On a Fund by Fund basis, the specific triggering events which

result in the creation of the model prescribed output or trade list of

specific securities to be cross-traded;

(2) On a Fund by Fund basis, the model prescribed output or trade

list which describes: (A) Which securities to buy or sell; (B) how much

of each security to buy or sell in detail sufficient to allow an

independent plan fiduciary to verify that each of the above decisions

for the Fund was made in response to specific triggering events; and

(3) On a Fund by Fund basis, the actual trades executed by the Fund

on a particular day and which of those trades were associated with

triggering events.

As explained to the Department, the triggering event relating to

net investments in, or withdrawals from, a Fund results in new cash to

invest in the Fund or the need to liquidate securities from a Fund. The

model or index underlying the Fund determines which securities to

purchase or sell based on the amount of net investments or withdrawals.

This process results in the creation of a trade list or a model

prescribed output of securities to be

[[Page 70066]]

purchased or sold. The manager then applies its objective allocation

system to the trade lists or model prescribed outputs used for other

Funds participating in the cross-trade program to determine which

particular cross-trades will occur between Funds. For those securities

which cannot be cross-traded after application of the manager's

allocation system, the necessary purchases and sales are made through

other means.

In the view of the Department, records must be maintained of this

cross-trading activity with enough specificity to allow an independent

plan fiduciary to verify whether the safeguards of this exemption have

been met. Section II(b) requires that any cross-trade of securities by

a Fund occur as a direct result of a ``triggering event'' as defined in

section IV(d) and is executed no later than the close of the second

business day following such ``triggering event.'' Among the records

needed to verify that this condition has been satisfied, section

III(a)(1) requires that, on a Fund by Fund basis, the manager maintain

a record of the specific triggering events which result in the creation

of the list of specific securities for the manager's cross-trading

system. Section III(a)(2) further requires that, on a Fund by Fund

basis, the manager maintain records of the model prescribed output or

trade list, as well as the procedures utilized by the manager to

determine which securities to buy or sell and how much of each security

to buy or sell, in detail sufficient to allow an independent plan

fiduciary to verify that each of the above decisions for the Fund was

made in response to specific triggering events. As provided by section

III(b)(2), if such material is viewed as a trade secret, or privileged

or confidential, the manager may refuse to disclose such information if

reasons for the refusal are given and the person is also notified that

the Department of Labor may request such information.

This recordkeeping requirement is intended to assure that

independent plan fiduciaries will be able to determine whether Funds

and their underlying models or indexes operate consistently in

following the input of triggering event information. The Department

does not intend to prescribe a detailed list of records that are

necessary to enable a determination of compliance with the exemption

because the necessary records will depend on the nature of the Index or

Model-Driven Funds involved and other factors. This information,

however, should be kept in sufficient detail to enable a replication of

specific historical events in order to satisfy an inquiry by persons

identified in section III(b)(1)(A). Section III(a)(3) requires that, on

a Fund by Fund basis, records be maintained of the actual trades

executed by the Fund on a particular day and which of those trades

resulted from triggering events.

The Department recognizes that these requirements may require

adjustments to a manager's record-keeping systems. Therefore, the

Department seeks specific comments on these record-keeping requirements

and any additional burdens that they may impose on Fund managers.

Further, Section III(a) requires that the records must be readily

available to assure accessibility and maintained so that an independent

fiduciary, or other persons identified in section III(b)(1)(A), may

obtain them within a reasonable time. This requirement should permit

the records to be retrieved and assembled quickly, regardless of the

location in which they are maintained. For those records which are not

maintained electronically, the records should be maintained in a

central location to facilitate assembly and examination.

All records must be unconditionally available at their customary

location for examination during normal business hours by the persons

described in section III(b)(1). However, as noted with respect to

information which may be disclosed to a Large Account fiduciary or

other person, the manager may refuse to disclose to a person, other

than a duly authorized employee or representative of the Department or

the Internal Revenue Service, any such information which is deemed

confidential or privileged if the manager is otherwise permitted by law

to withhold such information from such person. In such instances, the

manager shall provide, by the close of the thirtieth (30th) day

following the request, a written notice to such person advising that

person of the reasons for the refusal and that the Department may

request such information.

H. Effect on Existing Exemptions

The proposed exemption is generally similar to a number of

individual exemptions that previously have been granted by the

Department for such transactions.13 However, the operative

language of the proposal differs from that of the individual exemptions

in a number of respects. For example, the proposal under section II(h)

prohibits the cross-trade of any securities issued by the manager,

unless the manager has obtained a separate prohibited transaction

exemption for the acquisition of such securities by its Index and

Model-Driven Funds. A number of prior individual exemptions allow such

transactions in order to eliminate potential tracking error of the Fund

associated with replicating the rate of return, risk profile and other

characteristics of the index containing the manager's securities. The

Department invites comments as to the effect that the continuation of

current Index and Model-Driven Fund individual exemptions would have in

offering an advantage to those investment managers granted such relief

compared to those managers which would utilize this exemption, if

granted. Finally, the Department is aware that a number of individuals

have expressed concern regarding whether the Department would revoke

past individual exemptions involving Index and Model-Driven Fund cross-

trading programs in connection with the granting of this class

exemption. The Department notes that under the Prohibited Transaction

Exemption Procedures, 29 CFR Section 2570.50(b), before revoking or

modifying an exemption, the Department must publish a notice of its

proposed action in the Federal Register and provide interested persons

with an opportunity to comment on the proposed revocation or

modification.

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\13\ The following individual exemptions involve cross-trades of

securities by Index and Model-Driven Funds: PTE 95-56, Mellon Bank,

N.A. (60 FR 35933, July 12, 1995); PTE 94-47, Bank of America

National Trust and Savings Association (59 FR 32021, June 21, 1994);

PTE 94-43, Fidelity Management Trust Company (59 FR 30041, June 10,

1994); PTE 94-36, The Northern Trust Company (59 FR 19249, April 22,

1994); PTE 92-11, Wells Fargo Bank, N.A. (57 FR 7801, March 4,

1992)--which replaced PTE 87-51 noted below; PTE 89-9, State Street

Bank and Trust Company (54 FR 8018, February 24, 1989); and PTE 87-

51, Wells Fargo Bank, N.A. (52 FR 22558, June 12, 1987).

---------------------------------------------------------------------------

General Information

The attention of interested persons is directed to the following:

(1) The fact that a transaction is the subject of an exemption

under section 408(a) of the Act and section 4975(c)(2) of the Code does

not relieve a fiduciary or other party in interest or disqualified

person from certain other provisions of the Act and the Code, including

any prohibited transaction provisions to which the exemption does not

apply and the general fiduciary responsibility provisions of section

404 of the Act which require, among other things, that a fiduciary

discharge his duties with respect to the plan solely in the interests

of the participants and beneficiaries of the plan and in a prudent

fashion in accordance with section 404(a)(1)(B) of the Act; nor does it

affect the

[[Page 70067]]

requirement of section 401(a) of the Code that the plan must operate

for the exclusive benefit of the employees of the employer maintaining

the plan and their beneficiaries;

(2) Before an exemption may be granted under section 408(a) of the

Act and section 4975(c)(2) of the Code, the Department must find that

the exemption is administratively feasible, in the interests of the

plans and their participants and beneficiaries and protective of the

rights of participants and beneficiaries of such plans;

(3) If granted, the proposed exemption will be applicable to a

transaction only if the conditions specified in the exemption are met;

and

(4) The proposed exemption, if granted, will be supplemental to,

and not in derogation of, any other provisions of the Act and the Code,

including statutory or administrative exemptions and transitional

rules. Furthermore, the fact that a transaction is subject to an

administrative or statutory exemption is not dispositive of whether the

transaction is in fact a prohibited transaction.

Written Comments and Hearing Requests

All interested persons are invited to submit written comments or

requests for a public hearing on the proposed exemption to the address

and within the time period set forth above. All comments will be made a

part of the record. Comments and requests for a hearing should state

the reasons for the writer's interest in the proposed exemption.

Comments received will be available for public inspection with the

referenced application at the above address.

Proposed Exemption

The Department has under consideration the grant of the following

class 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).

Section I--Exemption for Cross-Trading of Securities by Index and/or

Model-Driven Funds

Effective [date of publication of final class exemption], the

restrictions of sections 406(a)(1)(A) and 406(b)(2) of the Act, section

8477(c)(2)(B) of FERSA, and the sanctions resulting from the

application of section 4975 of the Code, by reason of section

4975(c)(1)(A) of the Code, shall not apply to:

(a) The purchase and sale of securities between an Index Fund or a

Model-Driven Fund (a ``Fund''), as defined in Sections IV(a) and (b)

below, and another Fund, at least one of which holds ``plan assets''

subject to the Act or FERSA; or

(b) The purchase and sale of securities between a Fund and a Large

Account, as defined in Section IV(e) below, at least one of which holds

``plan assets'' subject to the Act or FERSA, pursuant to a portfolio

restructuring program, as defined in Section IV(f) below, of the Large

Account;

provided that, with respect to all such purchases and sales (referred

to herein as ``cross-trades''), the conditions set forth in Sections II

and III below are met.

Section II--Specific Conditions

(a) The cross-trade is executed at the closing price, as defined in

Section IV(h) below.

(b) Any cross-trade of securities by a Fund occurs as a direct

result of a ``triggering event,'' as defined in Section IV(d) below,

and is executed no later than the close of the second business day

following such ``triggering event.''

(c) If the cross-trade involves a Model-Driven Fund, the cross-

trade does not take place within ten (10) business days following any

change made by the Manager to the model underlying the Fund.

(d) The Manager has allocated the opportunity for all Funds or

Large Accounts to engage in the cross-trade on an objective basis which

has been previously disclosed to the authorizing fiduciaries of plan

investors, and which does not permit the exercise of discretion by the

Manager (e.g., a pro rata allocation system).

(e) No more than ten (10) percent of the assets of the Fund or

Large Account at the time of the cross-trade are comprised of assets of

employee benefit plans maintained by the Manager for its own employees

(Manager Plans) for which the Manager exercises investment discretion.

(f)(1) Cross-trades of equity securities involve only securities

that are widely-held, actively-traded, and for which market quotations

are readily available from independent sources that are engaged in the

ordinary course of business of providing financial news and pricing

information to institutional investors and/or the general public, and

are widely recognized as accurate and reliable sources for such

information. For purposes of this requirement, the terms ``widely-

held'' and ``actively-traded'' shall be deemed to include any security

listed in an Index, as defined in Section IV(c) below; and

(2) Cross-trades of fixed-income securities involve only securities

for which market quotations are readily available from independent

sources that are engaged in the ordinary course of business of

providing financial news and pricing information to institutional

investors and/or the general public, and are widely recognized as

accurate and reliable sources for such information.

(g) The Manager receives no brokerage fees or commissions as a

result of the cross-trade.

(h) The cross-trade does not involve any security issued by the

Manager unless the Manager has obtained a separate prohibited

transaction exemption for the acquisition of such security.

(i) As of the date the proposed exemption is granted, a plan's

participation in the Manager's cross-trading program as a result of

investments made in any Index or Model-Driven Fund that holds plan

assets is subject to a written authorization executed in advance of

such investment by a fiduciary of the plan which is independent of the

Manager engaging in the cross-trade transactions.

(j) With respect to existing plan investors in any Index or Model-

Driven Fund as of the date the proposed exemption is granted, the

independent fiduciary is furnished with a written notice, not less than

forty-five (45) days prior to the implementation of the cross-trading

program, that describes the Fund's participation in the Manager's

cross-trading program, provided that:

(1) Such notice allows each plan an opportunity to object to the

plan's participation in the cross-trading program as a Fund investor by

providing the plan with a special termination form;

(2) The notice instructs the independent plan fiduciary that

failure to return the termination form to the Manager by a specified

date (which shall be at least 30 days following the plan's receipt of

the form) shall be deemed to be an approval by the plan of its

participation in the Manager's cross-trading program as a Fund

investor; and

(3) If the independent plan fiduciary objects to the plan's

participation in the cross-trading program as a Fund investor by

returning the termination form to the Manager by the specified date,

the plan is given the opportunity to withdraw from each Index or Model-

Driven Fund without penalty prior to the implementation of the cross-

trading program, within such time as may be reasonably necessary to

effectuate the withdrawal in an orderly manner.

[[Page 70068]]

(k) Prior to obtaining the authorization described in Section

II(i), and in the notice described in Section II(j), the following

statement must be provided by the Manager to the independent plan

fiduciary:

Investment decisions for the Fund (including decisions regarding

which securities to buy or sell, how much of a security to buy or sell,

and when to execute a sale or purchase of securities for the Fund) will

not be based in whole or in part by the Manager on the availability of

cross-trade opportunities and will be made prior to the identification

and determination of any cross-trade opportunities. In addition, all

cross-trades by a Fund will be based solely upon a ``triggering event''

set forth in this exemption. Records documenting each cross-trade

transaction will be retained by the Manager.

(l) Prior to any authorization set forth in Section II(i), and at

the time of any notice described in Section II(j) above, the

independent plan fiduciary must be furnished with any reasonably

available information necessary for the fiduciary to determine whether

the authorization should be given, including (but not limited to) a

copy of this exemption, an explanation of how the authorization may be

terminated, detailed disclosure of the procedures to be implemented

under the Manager's cross-trading practices (including the ``triggering

events'' that will create the cross-trading opportunities, the

independent pricing services that will be used by the manager to price

the cross-traded securities, and the methods that will be used for

determining closing price), and any other reasonably available

information regarding the matter that the authorizing fiduciary

requests. The independent plan fiduciary must also be provided with a

statement that the Manager will have a potentially conflicting division

of loyalties and responsibilities to the parties to any cross-trade

transaction and must explain how the Manager's cross-trading practices

and procedures will mitigate such conflicts.

With respect to Funds that are added to the Manager's cross-trading

program or changes to, or additions of, triggering events regarding

Funds, following the authorizations described in section II(i) or

section II(j), the Manager shall provide a notice to each relevant

independent plan fiduciary prior to, or within ten (10) days following

such addition of Funds or change to, or addition of, triggering events,

which contains a description of such Fund(s) or triggering event(s).

Such notice will also include a statement that the plan has the right

to terminate its participation in the cross-trading program and its

investment in any Index Fund or Model-Driven Fund without penalty at

any time, as soon as is necessary to effectuate the withdrawal in an

orderly manner.

(m) At least annually, the Manager notifies the independent

fiduciary for each plan that has previously authorized participation in

the Manager's cross-trading program as a Fund investor, that the plan

has the right to terminate its participation in the cross-trading

program and its investment in any Index Fund or Model-Driven Fund

without penalty at any time, as soon as is necessary to effectuate the

withdrawal in an orderly manner. This notice shall also provide each

independent plan fiduciary with a special termination form and instruct

the fiduciary that failure to return the form to the Manager by a

specified date (which shall be at least thirty (30) days following the

plan's receipt of the form) shall be deemed an approval of the subject

plan's continued participation in the cross-trading program as a Fund

investor. Such annual re-authorization must contain disclosures

regarding any new Funds that are added to the cross-trading program or

any new triggering events (as defined in Section IV(d) below) that may

have been added to existing Funds since the time of the initial

authorization described in Section II(i), or the time of the notice

described in Section II(j).

(n) With respect to a cross-trade involving a Large Account:

(1) The cross-trade is executed in connection with a portfolio

restructuring program, as defined in Section IV(f) below, with respect

to all or a portion of the Large Account's investments which an

independent fiduciary of the Large Account has authorized the Manager

to carry out or to act as a ``trading adviser,'' as defined in Section

IV(g) below, in carrying out a Large Account-initiated liquidation or

restructuring of its portfolio;

(2) Prior to the cross-trade, a fiduciary of the Large Account who

is independent of the Manager has been fully informed of the Manager's

cross-trading program, has been provided with the information required

in Section II(l), and has provided the Manager with advance written

authorization to engage in cross-trading in connection with the

restructuring, provided that--

(A) Such authorization may be terminated at will by the Large

Account upon receipt by the Manager of written notice of termination.

(B) A form expressly providing an election to terminate the

authorization, with instructions on the use of the form, is supplied to

the authorizing Large Account fiduciary concurrent with the receipt of

the written information describing the cross-trading program. The

instructions for such form must specify that the authorization may be

terminated at will by the Large Account, without penalty to the Large

Account, upon receipt by the Manager of written notice from the

authorizing Large Account fiduciary;

(3) The portfolio restructuring program must be completed by the

Manager within thirty (30) days of the initial authorization (or

initial receipt of assets associated with the restructuring, if later)

to engage in such restructuring by the Large Account's independent

fiduciary, unless such fiduciary agrees in writing to extend this

period for another thirty (30) days; and,

(4) No later than thirty (30) days following the completion of the

Large Account's portfolio restructuring program, the Large Account's

independent fiduciary must be fully apprised in writing of all cross-

trades executed in connection with the restructuring. Such writing

shall include a notice that the Large Account's independent fiduciary

may obtain, upon request, the information described in Section III(a),

subject to the limitations described in Section III(b). However, if the

program takes longer than thirty (30) days to complete, interim reports

containing the transaction results must be provided to the Large

Account fiduciary no later than fifteen (15) days following the end of

each thirty (30) day period.

Section III--General Conditions

(a) The Manager maintains or causes to be maintained for a period

of six (6) years from the date of each cross-trade the records

necessary to enable the persons described in paragraph (b) of this

Section to determine whether the conditions of the exemption have been

met, including records which identify:

(1) On a Fund by Fund basis, the specific triggering events which

result in the creation of the model prescribed output or trade list of

specific securities to be cross-traded;

(2) On a Fund by Fund basis, the model prescribed output or trade

list which describes: (A) which securities to buy or sell; and (B) how

much of each security to buy or sell; in detail sufficient to allow an

independent plan fiduciary to verify that each of the above decisions

for the Fund was made in response to specific triggering events; and

(3) On a Fund by Fund basis, the actual trades executed by the Fund

on

[[Page 70069]]

a particular day and which of those trades resulted from triggering

events.

Such records must be readily available to assure accessibility and

maintained so that an independent fiduciary, or other persons

identified below in paragraph (b) of this Section, may obtain them

within a reasonable period of time. However, a prohibited transaction

will not be considered to have occurred if, due to circumstances beyond

the control of the Manager, the records are lost or destroyed prior to

the end of the six-year period, and no party in interest other than the

Manager shall be subject to the civil penalty that may be assessed

under section 502(i) of the Act or to the taxes imposed by sections

4975(a) and (b) of the Code if the records are not maintained or are

not available for examination as required by paragraph (b) below.

(b)(1) Except as provided in paragraph (b)(2) and notwithstanding

any provisions of sections 504(a)(2) and (b) of the Act, the records

referred to in paragraph (a) of this Section are unconditionally

available at their customary location for examination during normal

business hours by--

(A) Any duly authorized employee or representative of the

Department of Labor or the Internal Revenue Service,

(B) Any fiduciary of a Plan participating in a cross-trading

program who has the authority to acquire or dispose of the assets of

the Plan, or any duly authorized employee or representative of such

fiduciary,

(C) Any contributing employer with respect to any Plan

participating in a cross-trading program or any duly authorized

employee or representative of such employer, and

(D) Any participant or beneficiary of any Plan participating in a

cross-trading program, or any duly authorized employee or

representative of such participant or beneficiary.

(2) If in the course of seeking to inspect records maintained by a

Manager pursuant to this exemption, any person described in paragraph

(b)(1)(B) through (D) seeks to examine trade secrets, or commercial or

financial information of the Manager that is privileged or

confidential, and the Manager is otherwise permitted by law to withhold

such information from such person, the Manager may refuse to disclose

such information provided that, by the close of the thirtieth (30th)

day following the request, the Manager gives a written notice to such

person advising the person of the reasons for the refusal and that the

Department of Labor may request such information.

(3) The information required to be disclosed to persons described

in paragraph (b)(1)(B) through (D) shall be limited to information that

pertains to cross-trades involving a Fund or Large Account in which

they have an interest.

Section IV--Definitions

The following definitions apply for purposes of this proposed

exemption:

(a) Index Fund--Any investment fund, account or portfolio

sponsored, maintained, trusteed, or managed by the Manager or an

Affiliate, in which one or more investors invest, and--

(1) Which is designed to track the rate of return, risk profile and

other characteristics of an independently maintained securities index,

as defined in Section IV(c) below, by either (i) replicating the same

combination of securities which compose such index or (ii) sampling the

securities which compose such index based on objective criteria and

data;

(2) For which the Manager does not use its discretion, or data

within its control, to affect the identity or amount of securities to

be purchased or sold;

(3) That either contains ``plan assets'' subject to the Act, is an

investment company registered under the Investment Company Act of 1940,

or is an institutional investor, which may include, but not be limited

to, such entities as an insurance company separate account or general

account, a governmental plan, a university endowment fund, a charitable

foundation fund, a trust or other fund which is exempt from taxation

under section 501(a) of the Code; and

(4) That involves no agreement, arrangement, or understanding

regarding the design or operation of the Fund which is intended to

benefit the Manager, its Affiliates, or any party in which the Manager

or an Affiliate may have an interest.

(b) Model-Driven Fund--Any investment fund, account or portfolio

sponsored, maintained, trusteed, or managed by the Manager or an

Affiliate, in which one or more investors invest, and--

(1) Which is composed of securities the identity of which and the

amount of which are selected by a computer model that is based on

prescribed objective criteria using independent third party data, not

within the control of the Manager, to transform an Index, as defined in

Section IV(c) below;

(2) Which either contains ``plan assets'' subject to the Act, is an

investment company registered under the Investment Company Act of 1940,

or is an institutional investor, which may include, but not be limited

to, such entities as an insurance company separate account or general

account, a governmental plan, a university endowment fund, a charitable

foundation fund, a trust or other fund which is exempt from taxation

under section 501(a) of the Code; and

(3) That involves no agreement, arrangement, or understanding

regarding the design or operation of the Fund or the utilization of any

specific objective criteria which is intended to benefit the Manager,

its Affiliates, or any party in which the Manager or an Affiliate may

have an interest.

(c) Index--A securities index that represents the investment

performance of a specific segment of the public market for equity or

debt securities in the United States and/or foreign countries, but only

if--

(1) The organization creating and maintaining the index is--

(A) Engaged in the business of providing financial information,

evaluation, advice or securities brokerage services to institutional

clients,

(B) A publisher of financial news or information, or

(C) A public stock exchange or association of securities dealers;

and,

(2) The index is created and maintained by an organization

independent of the Manager, as defined in Section IV(i) below; and,

(3) The index is a generally accepted standardized index of

securities which is not specifically tailored for the use of the

Manager.

(d) Triggering Event:

(1) A change in the composition or weighting of the Index

underlying a Fund by the independent organization creating and

maintaining the Index;

(2) A specific amount of net change in the overall level of assets

in a Fund, as a result of investments in and withdrawals from the Fund,

provided that: (A) Such specified amount has been disclosed in writing

as a ``triggering event'' to an independent fiduciary of each plan

having assets held in the Fund prior to, or within ten (10) days

following, its inclusion as a ``triggering event'' for such Fund; and

(B) investments or withdrawals as a result of the manager's discretion

to invest or withdraw assets of a Manager Plan, other than a Manager

Plan which is a defined contribution plan under which participants

direct the investment of their accounts among various investment

options, including such Fund, will not be taken into account in

determining the specified amount of net change;

(3) An accumulation in the Fund of a specified amount of either:

[[Page 70070]]

(A) cash which is attributable to interest or dividends on, and/or

tender offers for, portfolio securities; or

(B) Stock attributable to dividends on portfolio securities;

provided that such specified amount has been disclosed in writing as a

``triggering event'' to an independent fiduciary of each plan having

assets held in the Fund prior to, or within ten (10) days after, its

inclusion as a ``triggering event'' for such Fund; or

(4) A change in the composition of the portfolio of a Model-Driven

Fund mandated solely by operation of the formulae contained in the

computer model underlying the Fund where the basic factors for making

such changes (and any fixed frequency for operating the computer model)

have been disclosed in writing to an independent fiduciary of each plan

having assets held in the Fund prior to, or within ten (10) days after,

its inclusion as a ``triggering event'' for such Fund.

(e) Large Account--Any investment fund, account or portfolio that

is not an Index Fund or a Model-Driven Fund sponsored, maintained,

trusteed or managed by the Manager, which holds assets of either:

(1) An employee benefit plan within the meaning of section 3(3) of

the Act that has $50 million or more in total assets;

(2) An institutional investor that has total assets in excess of

$50 million, such as an insurance company separate account or general

account, a governmental plan, a university endowment fund, a charitable

foundation fund, a trust or other fund which is exempt from taxation

under section 501(a) of the Code; or

(3) An investment company registered under the Investment Company

Act of 1940 (e.g., a mutual fund) other than an investment company

advised or sponsored by the Manager;

provided that the Manager has been authorized to restructure all or a

portion of the portfolio for such Large Account or to act as a

``trading adviser'' (as defined in Section IV(g) below) in connection

with a specific liquidation or restructuring program for the Large

Account.

(f) Portfolio restructuring program--Buying and selling the

securities on behalf of a Large Account in order to produce a portfolio

of securities which will be an Index Fund or a Model-Driven Fund

managed by the Manager, without regard to the requirements of Section

IV(a)(3) or (b)(2), or to carry out a liquidation of a specified

portfolio of securities for the Large Account.

(g) Trading adviser--A person whose role is limited with respect to

a Large Account to the disposition of a securities portfolio in

connection with a Large Account-initiated liquidation or restructuring

within a stated period of time in order to minimize transaction costs.

The person does not have discretionary authority or control with

respect to any underlying asset allocation, restructuring or

liquidation decisions for the account in connection with such

transactions and does not render investment advice [within the meaning

of 29 CFR Sec. 2510.3-21(c)] with respect to such transactions.

(h) Closing price--The price for a security on the date of the

transaction, as determined by objective procedures disclosed to Fund

investors in advance and consistently applied with respect to

securities traded in the same market, which procedures shall indicate

the independent pricing source (and alternates, if the designated

pricing source is unavailable) used to establish the closing price and

the time frame after the close of the market in which the closing price

will be determined.

(i) Manager--A person who is:

(1) A bank or trust company, or any Affiliate thereof, as defined

in Section IV(j) below, which is supervised by a state or federal

agency; or

(2) An investment adviser or any Affiliate thereof, as defined in

Section IV(j) below, which is registered under the Investment Advisers

Act of 1940.

(j) Affiliate--An ``affiliate'' of a Manager includes:

(1) Any person, directly or indirectly, through one or more

intermediaries, controlling, controlled by or under common control with

the person;

(2) Any officer, director, employee or relative of such person, or

partner of any such person; and

(3) Any corporation or partnership of which such person is an

officer, director, partner or employee.

(k) Control--The power to exercise a controlling influence over the

management or policies of a person other than an individual.

(l) Relative--A ``relative'' is a person that is defined in section

3(15) of the Act (or a ``member of the family'' as that term is defined

in section 4975(e)(6) of the Code), or a brother, a sister, or a spouse

of a brother or a sister.

Signed at Washington, D.C., this 9th day of December, 1999.

Alan D. Lebowitz,

Deputy Assistant Secretary for Program Operations, Pension and Welfare

Benefits Administration, U.S. Department of Labor.

[FR Doc. 99-32404 Filed 12-14-99; 8:45 am]

BILLING CODE 4510-29-P