# OCC Interpretive Letter No. 961: Letter confirms that it is legally permissible for a national bank to purchase and hold options on the shares of stock of a company when the bank has acquired shares in satisfaction of debt previously contracted (DPC). The bank would hold the options to hedge the market risk associated with changes in the value of the DPC shares

> Federal · Agency guidance · In force

URL: https://www.frixlaw.com/law-library/statutes/OCC_INT0961

## Section

- **Citation:** OCC Interpretive Letter No. 961
- **Heading:** Letter confirms that it is legally permissible for a national bank to purchase and hold options on the shares of stock of a company when the bank has acquired shares in satisfaction of debt previously contracted (DPC). The bank would hold the options to hedge the market risk associated with changes in the value of the DPC shares
- **Jurisdiction:** Federal
- **Kind:** Agency guidance
- **Status:** In force
- **Text as of:** August 14, 2026
- **Source:** Compiled text
- **Location:** OCC Interpretive Letters / Letter confirms that it is legally permissible for a national bank to purchase and hold options on the shares of stock of a company when the bank has acquired shares in satisfaction of debt previously contracted (DPC). The bank would hold the options to hedge the market risk associated with changes in the value of the DPC shares.

## Text

O

Comptroller of the Currency
Administrator of National Banks

Washington, DC 20219
Interpretive Letter #961
April 2003
March 17, 2003 12 U.S.C. 24(7)

Subject: Hedging Risks of DPC Stock Holdings

Dear [ ]:

This is in response to your letter of March 5, 2002, requesting confirmation that
[ ] (the “Bank”) may buy and sell options on the shares of stock of a company
when the Bank has acquired shares of the company in satisfaction of debts previously contracted
(“DPC Shares”). The Bank would buy and sell the options to hedge the market risk associated
with changes in the value of DPC Shares. For the reasons discussed below and subject to the
limitations described herein, we believe that the proposed hedging activity is permissible for the
Bank.

Background

In carry out its lending activities, the Bank sometimes receives DPC Shares as part of contractual
workout arrangements. The terms of the workout arrangements sometimes restrict the ability of
the Bank to dispose of the DPC shares it receives.1 The Bank believes it would be prudent to
hedge the risks of holding DPC Shares against fluctuations in market value. The Bank proposes
to use a hedging strategy known as a “butterfly option.” Under this hedging strategy, at the time
the Bank receives DPC shares, the Bank will (1) buy a “put” option at a strike price lower than
the current market price of the DPC Shares and (2) sell a “call” option at a strike price higher
than the current market price of the DPC Shares. The Bank’s management believes this hedging
strategy will reduce market risk.2

1 The Bank sometimes also may acquire DPC shares that have limited marketability for other reasons. For example,
the shares may be thinly traded or their transfer may be restricted under the Federal securities laws
an the current market price of the DPC Shares. The Bank’s management believes this hedging
strategy will reduce market risk.2

1 The Bank sometimes also may acquire DPC shares that have limited marketability for other reasons. For example,
the shares may be thinly traded or their transfer may be restricted under the Federal securities laws.

2 The amount the Bank receives for selling the call offsets in part the amount the Bank pays for purchasing the put.
The butterfly thus allows the Bank to receive protection against market declines at a reduced cost.

The Bank commits that it will use the options solely to hedge risk of DPC Shares and will not
engage in speculation. The Bank plans to purchase the butterfly options at the time the Bank
acquires the DPC shares and anticipates holding the options without adjustment until it disposes
of the DPC shares.3 The Bank represents that it will not take anticipatory short positions or
maintain residual positions in the options that do not operate as a hedge of market exposure in
DPC Shares, except as necessary to the orderly taking or unwinding of a hedging position.

Discussion

National banks are authorized to lend under express authorities in the National Bank Act and as
part of the business of banking. They may acquire securities, including shares of stock, through
foreclosure or otherwise in the ordinary course of collecting a debt previously contracted (DPC).
Such securities may be held for up to five years unless the OCC extends the holding period for
up to another five years.4 Hedging risks arising from that permissible banking activity is an
essential and integral part of that banking activity. In our opinion, the Bank may buy and sell
options as a technique to hedge its market exposures from DPC Shares, provided that the Bank
establishes an appropriate risk measurement and management and compliance process to conduct
such hedging activities
another five years.4 Hedging risks arising from that permissible banking activity is an
essential and integral part of that banking activity. In our opinion, the Bank may buy and sell
options as a technique to hedge its market exposures from DPC Shares, provided that the Bank
establishes an appropriate risk measurement and management and compliance process to conduct
such hedging activities. This process is necessary for the Bank to achieve its risk management
objectives in a safe and sound manner and, thus, must be established before the OCC can
determine that the proposed activities are convenient and useful in conducting permissible
banking activities and thereby permissible as an activity incidental to the business of banking.

A. The National Bank Act (“Act”)

A national bank may engage in activities pursuant to 12 U.S.C. § 24(Seventh) if the activities are
part of, or incidental to, the business of banking. Section 24(Seventh) expressly provides that
national banks shall have the power:

To exercise . . . all such incidental powers as shall be necessary to carry on the business
of banking; by discounting and negotiating promissory notes, drafts, bills of exchange,
and other evidences of debt; by receiving deposits; by buying and selling exchange, coin,
and bullion; by loaning money on personal security; and by obtaining, issuing, and
circulating notes according to the provisions of title 62 of the Revised Statutes.5

The Supreme Court has held that this authority is a broad grant of power to engage in the
business of banking, including, but not limited to, the five enumerated powers and in the

3 Should the Bank wish to change its planned procedures for purchasing and holding the options, the Bank should
confer with its Examiner in Charge (“EIC”) prior to making such a change.

4 See OCC Interpretive Letter No. 643 (July 1, 1992), reprinted in [1991-1992 Transfer Binder] Fed. Banking L.
Rep
to, the five enumerated powers and in the

3 Should the Bank wish to change its planned procedures for purchasing and holding the options, the Bank should
confer with its Examiner in Charge (“EIC”) prior to making such a change.

4 See OCC Interpretive Letter No. 643 (July 1, 1992), reprinted in [1991-1992 Transfer Binder] Fed. Banking L.
Rep. (CCH) ¶ 83,551; OCC Interpretive Letter No. 511 (June 20, 1990), reprinted in [1990-1991 Transfer Binder]
Fed. Banking L. Rep. (CCH) ¶ 83,213.

5 12 U.S.C. § 24(Seventh).

2

business of banking as a whole. 6 National banks also are authorized to engage in an activity that
is incidental to the performance of the five enumerated powers or incidental to the performance
of an activity that is part of the business of banking.7 Incidental activities are activities that are
permissible for national banks, not because they are part of the powers expressly authorized for
banks or the “business of banking,” but rather because they are “convenient” or “useful” to those
activities.8

B.
Making Loans and Hedging the Associated Risks Are Part of the Business of
Banking

Making loans is an express power listed in the National Bank Act and is recognized as a core
part of the business of banking.9 Lending involves risks that banks must manage as part of the
business of banking. Banks hedge loans as a means of managing those risks.10 The OCC has

6 NationsBank of North Carolina v. Variable Annuity Life Insurance Co., 513 U.S. 251 (1995) (“VALIC”). Judicial
cases affirming OCC interpretations establish that an activity is within the scope of the “business of banking” if the
activity: [1] is functionally equivalent to or a logical outgrowth of a traditional banking activity; [2] would respond
to customer needs or otherwise benefit the bank or its customers; and [3] involves risks similar to those already
assumed by banks. See, e.g., Merchant Bank v
ses affirming OCC interpretations establish that an activity is within the scope of the “business of banking” if the
activity: [1] is functionally equivalent to or a logical outgrowth of a traditional banking activity; [2] would respond
to customer needs or otherwise benefit the bank or its customers; and [3] involves risks similar to those already
assumed by banks. See, e.g., Merchant Bank v. State Bank, 77 U.S. 604 (1871); M&M Leasing Corp. v. Seattle First
National Bank, 563 F.2d 1377, 1382 (9th Cir. 1977), cert. denied, 436 U.S. 956 (1978); American Insurance Assn. v.
Clarke, 865 F.2d 278, 282 (2d Cir. 1988). In IAA v. Hawke, 211 F.3d 638 (D.C. Cir. 2000), the court expressed the
position that the “logical outgrowth” rationale needed to be kept within bounds, but endorsed the “functional
equivalent” component of the test.

7 VALIC, supra, at 253.

8 The leading case defining when an activity is authorized as “incidental” under Section 24(Seventh) is Arnold
Tours, Inc. v. Camp, 472 F.2d 427, 431-32 (1st Cir. 1972). In that decision, the First Circuit held that the term
“necessary” in Section 24(Seventh) should be broadly construed to encompass “incidental” activities that are
“convenient or useful” to an expressly enumerated power. The Supreme Court later clarified in VALIC that these
incidental powers include activities that are convenient and useful to the business of banking as well as those that are
convenient and useful to the expressly enumerated powers under the National Bank Act. See VALIC, supra.
Recently, the Ninth Circuit confirmed that these incidental powers should be broadly construed, stating that “[t]he
incidental powers of national banks are thus not limited to activities deemed essential to the exercise of enumerated
powers but include activities closely related to banking and useful in carrying out the business of banking.” Bank of
America v. San Francisco, 309 F.3d 551, 562 (9th Cir. 2002)

9 12 U.S.C. § 24(Seventh)
se incidental powers should be broadly construed, stating that “[t]he
incidental powers of national banks are thus not limited to activities deemed essential to the exercise of enumerated
powers but include activities closely related to banking and useful in carrying out the business of banking.” Bank of
America v. San Francisco, 309 F.3d 551, 562 (9th Cir. 2002)

9 12 U.S.C. § 24(Seventh). The National Bank Act provides, in pertinent part, that national banks shall have the
power “[t]o exercise . . . all such incidental powers as shall be necessary to carry on the business of banking; by
discounting and negotiating promissory notes, drafts, bills of exchange, and other evidences of debt; . . . by loaning
money on personal security.” Id. This power is often referred to generally as a national bank’s lending authority.

10 OCC Interpretive Letter No. 896 (August 21, 2000), reprinted in [2000-2001 Transfer Binder] Fed. Banking L.
Rep. (CCH) ¶ 81-415 (“Agricultural Loan Hedge Letter”). Other banking activities also involve risks that banks
must manage as part of the business of banking. See, e.g. OCC Interpretive Letter No. 892 (September 13, 2000),
reprinted in [2000-2001 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 81-411 (“Equity Hedge Letter”) (national
bank may hedge risk of derivatives activities by purchasing equity securities); United States General Accounting
Office, Equity Hedging--Report to the Honorable James A. Leach, House of Representatives, GAO-01-945 (August
2001); Decision of the Office of the Comptroller of the Currency on the Request by Chase Manhattan Bank, N.A. to
Offer the Chase Market Index Investment Deposit Account (August 8, 1988) (“MII Deposit”) (national bank may
buy and sell futures on the S&P 500 Index to hedge deposits with interest rates tied to the S&P 500 Index).

3
ames A. Leach, House of Representatives, GAO-01-945 (August
2001); Decision of the Office of the Comptroller of the Currency on the Request by Chase Manhattan Bank, N.A. to
Offer the Chase Market Index Investment Deposit Account (August 8, 1988) (“MII Deposit”) (national bank may
buy and sell futures on the S&P 500 Index to hedge deposits with interest rates tied to the S&P 500 Index).

3

long recognized that hedging the risks associated with bank permissible lending activities is an
integral part of those permissible banking activities. National banks hedge against the risk of
loss due to the interest rate fluctuations inherent in their own loan operations.11 National banks
also hedge bank loans to minimize the credit risk in those transactions.12 As discussed below,
hedging these lending risks by buying and selling options on DPC Shares can be part of a bank’s
permissible lending activities.

C.
Buying and Selling Options to Hedge Market Risk on DPC Shares as an
Activity that is Incidental to the Business of Banking

Section 24(Seventh) authorizes national banks to engage in “all such incidental powers” as shall
be necessary to carry on the “business of banking.”13 An activity is incidental to the business of
banking if it is “convenient” or “useful” to an expressly enumerated power or to the business of
banking as a whole.14

1.
Hedging through options can be an effective hedging strategy.

The Bank has demonstrated that the proposed option hedging can be an effective hedging
strategy. For example, if the market price of DPC Shares falls, the Bank could exercise its put
option and receive cash equal to the strike price of DPC Shares
expressly enumerated power or to the business of
banking as a whole.14

1.
Hedging through options can be an effective hedging strategy.

The Bank has demonstrated that the proposed option hedging can be an effective hedging
strategy. For example, if the market price of DPC Shares falls, the Bank could exercise its put
option and receive cash equal to the strike price of DPC Shares. Thus, the proposed hedging can
facilitate and improve the Bank’s ability to reduce credit exposures to its borrowers by protecting
the value of DPC Shares it receives in a workout.15

11 Comptroller’s Handbook, “Mortgage Banking” (March 1996); OCC Letter to Gregory Crane (October 26, 1976);
OCC Letter to Alan E. Rothenberg, Vice President, Bank of America, from Robert Bloom, First Deputy Comptroller
(Policy) (October 11, 1976). Similarly, the Department of the Treasury recognizes that interest rate risk of fixed-
rate loans can be neutralized by hedging with appropriate interest rate swap, forward, futures, or option contracts.
Department of the Treasury, Banking Industry -- Trends and Current Issues: Report titled “Modernizing the
Financial System” (November 6, 1995).

12 OCC Banking Bulletin 96-43: Credit Derivatives, Guidelines for National Banks (August 12, 1996); OCC
Interpretive Letter No. 356 (January 7, 1986), reprinted in [1985-1987 Transfer Binder] Fed. Banking L. Rep.
(CCH) ¶ 85,526. In addition, national banks may assist customers in hedging their own loans against cash market
risks, by obtaining, or by assisting customers in obtaining, hedging instruments. OCC Letter to Jeffrey S. Lillien,
The First National Bank of Chicago (June 13, 1986); OCC Letter to Randall R. Kaplan, Caplin & Drysdale from
Judith A. Walter, Senior Deputy Comptroller (June 13, 1986); OCC Letter to Thomas N. Rose, Eldredge & Clark,
from Michael A. Mancusi, Senior Deputy Comptroller for National Bank Operations (November 5, 1985).

13 12 U.S.C. § 24(Seventh)
g instruments. OCC Letter to Jeffrey S. Lillien,
The First National Bank of Chicago (June 13, 1986); OCC Letter to Randall R. Kaplan, Caplin & Drysdale from
Judith A. Walter, Senior Deputy Comptroller (June 13, 1986); OCC Letter to Thomas N. Rose, Eldredge & Clark,
from Michael A. Mancusi, Senior Deputy Comptroller for National Bank Operations (November 5, 1985).

13 12 U.S.C. § 24(Seventh).

14 In considering whether an activity is “convenient” or “useful” and therefore “incidental” to the business of
banking, the OCC may consider whether the activity facilitates the operations of the bank as a banking enterprise,
enhances the efficiency or quality of the content or delivery of banking services of products, optimizes the use and
value of a bank’s facilities and competencies, or enables the bank to avoid economic waste in its banking franchise.
See OCC Interpretive Letter No. 845 (Oct. 20, 1998), reprinted in [1998-1999 Transfer Binder] Fed. Banking L.
Rep. (CCH) ¶ 81,300. See also 12 C.F.R. § 7.5001(d).

4
15 The OCC also permits national banks to engage in certain activities to preserve the value of their real estate DPC
property. For example, national banks can make necessary advances to run a business and thereby preserve its
going concern value when the business is acquired to secure or collect debt previously contracted. See 12 C.F.R.

2.
The proposed equity hedging is similar to activities the OCC has
previously approved as convenient and useful to bank permissible
activities.

The OCC also has long permitted national banks to use futures, options, and options on futures to
manage or “hedge” risks arising from permissible banking activities
acquired to secure or collect debt previously contracted. See 12 C.F.R.

2.
The proposed equity hedging is similar to activities the OCC has
previously approved as convenient and useful to bank permissible
activities.

The OCC also has long permitted national banks to use futures, options, and options on futures to
manage or “hedge” risks arising from permissible banking activities. The OCC has recognized
the permissibility of such activities both for the purpose of providing bank customers with the
ability to hedge their own risks and as a means for banks to hedge directly the risks that arise
from permissible banking activities.16 For example, in 2000, the OCC considered a proposal to
hedge the risk in a bank’s agricultural loans by purchasing cash-settled options on futures on
commodities that serve as the primary collateral for the loans. The OCC determined that using
options on futures contracts on agricultural commodities to hedge bank permissible lending
activities is permissible for national banks.17 However, the OCC would not permit the bank to
engage in the proposed activity until it had an appropriate risk management process in place.18

The proposed options hedges are similar to equity hedges the OCC has previously approved for
certain national banks as convenient and useful to bank permissible activities. The OCC has
determined that, subject to specified conditions and standards, the national banks could purchase
and hold equity securities to hedge risks arising from permissible equity derivative
transactions.19 The OCC concluded that the equity hedges provided the national banks in

§ 34.86; OCC Interpretive Letter No. 576 (March 27, 1992) reprinted in [1991-1992 Transfer Binder] Fed. Banking
L. Rep. (CCH) ¶ 83,346; OCC Interpretive Letter No. 12 (December 7, 1977) reprinted in [1978-1979 Transfer
Binder] Fed. Banking L. Rep. (CCH) ¶ 85,087.

16 See OCC Interpretive Letter No
equity hedges provided the national banks in

§ 34.86; OCC Interpretive Letter No. 576 (March 27, 1992) reprinted in [1991-1992 Transfer Binder] Fed. Banking
L. Rep. (CCH) ¶ 83,346; OCC Interpretive Letter No. 12 (December 7, 1977) reprinted in [1978-1979 Transfer
Binder] Fed. Banking L. Rep. (CCH) ¶ 85,087.

16 See OCC Interpretive Letter No. 356, supra (bank registered as a futures commission merchant could execute
customer orders for agricultural and metals futures in connection with its loans to the customers); MII Deposit,
supra, (bank could offer a deposit with a rate of return based in part on the return on a stock index and could hedge
the bank’s interest rate risk by purchasing futures on that stock index); OCC Interpretive Letter No. 937
(May 14, 2002) reprinted in [2001-2002 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 81,462 (bank could hedge
risks arising from intermediation transactions based on electricity prices); OCC No Objection Letter No. 87-5
(July 20, 1987), reprinted in [1988-1989 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 84,034 (bank could act as
principal in commodity price index swaps with its customers); OCC No Objection Letter 90-1 (February 16, 1990),
reprinted in [1989-1990 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 83,095 (bank could act as principal in
unmatched commodity price index swaps with its customers and hedge its price risk exposure using exchange-traded
commodity futures); OCC Letter from Horace G. Sneed, Senior Attorney, Legal Advisory Services Division
(March 2, 1992) (unpublished) (bank could manage its commodity index swaps on a portfolio basis and hedge the
swaps with swaps, exchange-traded futures or over-the-counter (OTC) options; OCC Interpretive Letter No. 652
(September 13, 1994), reprinted in [1994 Transfer Binder] Fed. Banking L. Rep
mmodity futures); OCC Letter from Horace G. Sneed, Senior Attorney, Legal Advisory Services Division
(March 2, 1992) (unpublished) (bank could manage its commodity index swaps on a portfolio basis and hedge the
swaps with swaps, exchange-traded futures or over-the-counter (OTC) options; OCC Interpretive Letter No. 652
(September 13, 1994), reprinted in [1994 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 83,600 (bank could
engage in equity and equity derivative swaps and hedge risk using futures contracts, options and similar OTC
instruments).

17 Agricultural Loan Hedge Letter, supra.

18 Id.

5
19 Similarly, the OCC has determined that national banks may take physical delivery of commodities to hedge bank
permissible commodity-linked derivative transactions as a convenient and useful means to manage the risks arising
from those permissible banking transactions. OCC Interpretive Letter Nos. 632 and 684, supra.

question with a cost-effective, means to hedge risks arising from customer-driven equity
derivative transactions and thus were a convenient and useful activity incidental to the business
of banking for those banks.20

The OCC also has permitted national banks to hedge obligations to make payments on bank
permissible employee compensation and benefit plans with incidental life insurance.21 The OCC
later concluded that it was convenient and useful for a national bank to hedge an employee
compensation program with bank impermissible insurance company products and investments
because the hedge virtually eliminated all the risk arising under the program to the bank.22

In each case cited above, the hedging instrument was viewed as an asset held incidental to a
permissible banking activity in order to hedge the bank’s risks or obligations, rather than as a
security held by the bank for investment. The transactions were used to manage risks arising
from otherwise bank permissible banking activities and not entered into for speculative purposes
the bank.22

In each case cited above, the hedging instrument was viewed as an asset held incidental to a
permissible banking activity in order to hedge the bank’s risks or obligations, rather than as a
security held by the bank for investment. The transactions were used to manage risks arising
from otherwise bank permissible banking activities and not entered into for speculative purposes.
In much the same manner, incidental to the express permissible banking activity of lending, the
Bank would buy and sell options on equity securities for the sole purpose of hedging its market
risk on DPC Shares. This conclusion is consistent with the foregoing OCC precedents
permitting bank-impermissible investments for hedging purposes to manage risks arising from
permissible banking activities.

3.
The hedging must be conducted in a safe and sound manner.

Buying and selling options for the stated purpose of hedging market exposures on DPC securities
does not automatically qualify that activity as an activity that is incidental to banking, however.
The nature of the hedging activity proposed requires specialized risk measurement and
management capacities on the part of a bank, and qualified personnel, in order for the activity to
be conducted so it will actually perform the function of hedging market risks. Thus, in order for
the proposed activity to be permissible for the Bank because it is “convenient” or “useful” to
conducting authorized banking activities, the Bank must establish an appropriate risk
measurement and management process for its DPC Share hedging activity in accordance with
applicable requirements contained in the OCC’s Derivatives Handbook23 and OCC Banking

20 See Equity Hedge Letter, supra. See also OCC Interpretive Letter No
useful” to
conducting authorized banking activities, the Bank must establish an appropriate risk
measurement and management process for its DPC Share hedging activity in accordance with
applicable requirements contained in the OCC’s Derivatives Handbook23 and OCC Banking

20 See Equity Hedge Letter, supra. See also OCC Interpretive Letter No. 684, supra (national banks may take
physical delivery of equities and commodities to hedge bank permissible derivative transactions as a convenient and
useful means to manage the risks arising from those permissible banking transactions). The General Accounting
Office has issued a report agreeing with the OCC’s conclusion. United States General Accounting Office, Equity
Hedging--Report to the Honorable James A. Leach, House of Representatives, GAO-01-945 (August 2001).

21 OCC Interpretive Letter No. 848 (November 23, 1998), reprinted in [1998-1999 Transfer Binder] Fed. Banking
L. Rep. (CCH) ¶ 81-202; OCC Bulletin 96-51 (September 20, 1996), reprinted in Fed. Banking L. Rep. (CCH) ¶ 35-
491.

22 OCC Interpretive Letter No. 878 (December 22, 1999), reprinted in [1998-1999 Transfer Binder] Fed. Banking
L. Rep. (CCH) ¶ 81-373.

6
23 Handbook for National Bank Examiners, Risk Management of Financial Derivatives (January 1997)(“Derivatives
Handbook”).

Circular No. 277.24 As part of the Bank’s risk management process, the Bank’s management
should:

•
•
•

document its decisions on hedging DPC Share market exposures;
develop a clear methodology for determining the amount of market risk from DPC
Shares that the Bank needs to hedge; and
establish objective criteria for the purchase and sale of options sufficient to demonstrate
that the options will be used solely to hedge against losses
•
•
•

document its decisions on hedging DPC Share market exposures;
develop a clear methodology for determining the amount of market risk from DPC
Shares that the Bank needs to hedge; and
establish objective criteria for the purchase and sale of options sufficient to demonstrate
that the options will be used solely to hedge against losses.

In addition, the Bank should develop and implement compliance policies and procedures to
ensure that any potential conflicts of interest are appropriately considered and that the hedges
will comply with applicable securities laws, including applicable insider trading standards.
Because buying and selling options in respect of DPC Shares may raise issues under the federal
securities laws, the Bank should consult with competent securities counsel to ensure its activities
comply with federal securities laws before entering into such transactions.

Finally, the Bank’s audit or another qualified independent control unit should conduct a review
to evaluate the adequacy and effectiveness of the Bank’s risk and compliance management
policies and procedures to ensure that the DPC Share hedging activity is conducted in
conformance with the applicable requirements of BC-277 and securities laws.

D. Use of Options to Hedge Banking Risk is not Prohibited Underwriting or
Dealing under Section 24(Seventh)

Section 24(Seventh) addresses the ability of a national bank to underwrite or deal in securities
ompliance management
policies and procedures to ensure that the DPC Share hedging activity is conducted in
conformance with the applicable requirements of BC-277 and securities laws.

D. Use of Options to Hedge Banking Risk is not Prohibited Underwriting or
Dealing under Section 24(Seventh)

Section 24(Seventh) addresses the ability of a national bank to underwrite or deal in securities.
Specifically, Section 24(Seventh) provides that:

[t]he business of dealing in securities and stock by the association shall be limited to
purchasing and selling such securities and stock without recourse, solely upon the order,
and for the account of, customers, and in no case for its own account, and the association
shall not underwrite any issue of securities or stock: Provided, That the association may
purchase for its own account investment securities under such limitations and restrictions
as the Comptroller of the Currency may by regulation prescribe.

Here, the Bank is not “dealing” in or “underwriting” securities as prohibited by Section
24(Seventh). Although “dealing” and “underwriting” are not defined in Section 24(Seventh),25

24 October 27, 1993, reprinted in [1993-1994 Transfer Binder] Fed. Banking Law. Rep. (CCH) ¶ 62-152, as
supplemented by Supplemental Guidance 1 to BC-277 (January 1997) (“BC-277”).

7
25 Although the securities laws definitions are not dispositive in determining whether a particular type of securities
activity is permitted for banks, these definitions provide a useful starting point for characterizing a bank’s securities
activities. Under section 3 of the Securities Exchange Act of 1934, a “dealer” is defined as “any person engaged in
the business of buying and selling securities for his own account, through a broker or otherwise, but does not include
any person insofar as he buys or sells securities for his own account, either individually or in some fiduciary
ing point for characterizing a bank’s securities
activities. Under section 3 of the Securities Exchange Act of 1934, a “dealer” is defined as “any person engaged in
the business of buying and selling securities for his own account, through a broker or otherwise, but does not include
any person insofar as he buys or sells securities for his own account, either individually or in some fiduciary

“underwriting” is generally understood as encompassing the purchase of securities from an issuer
for distribution and sale to investors.26 Case law confirms that one cannot be an underwriter in
the absence of a public offering.27

“Dealing” in securities is generally understood to encompass the purchase of securities as
principal for resale to others.28 Dealing is buying and selling as part of a regular business. A
dealer typically maintains an inventory of securities and holds itself out to the public as willing
to purchase and sell and continuously quote prices.29

Under the above definitions, the Bank’s use of options on equity securities for hedging exposures
resulting from DPC Shares is not “underwriting” or “dealing.” The Bank has committed to sell
and purchase debt securities solely for the purpose of hedging. The Bank will not purchase
securities from an issuer for sale to investors in connection with a public offering -- essential
elements of underwriting. Further, in conducting hedging activities, the Bank will not engage in
a regular business of buying and selling equity options in the secondary market, will not publicly
offer the equity options from hedging DPC Shares to investors and will not hold itself out as
available to buy and sell securities. 30

capacity, but not part of a regular business.” 15 U.S.C. § 78c(a)(5)
activities, the Bank will not engage in
a regular business of buying and selling equity options in the secondary market, will not publicly
offer the equity options from hedging DPC Shares to investors and will not hold itself out as
available to buy and sell securities. 30

capacity, but not part of a regular business.” 15 U.S.C. § 78c(a)(5). Under the Securities Act of 1933, an
“underwriter” includes “any person who has purchased from an issuer with a view to, or offers or sells for an issuer
in connection with, the distribution of any security.” 15 U.S.C. § 77(b)(a)(11).

26 OCC Interpretive Letter No. 388 (June 16, 1987), reprinted in [1988-1989 Transfer Binder] Fed. Banking L. Rep.
(CCH) ¶ 85,612; OCC Interpretive Letter No. 329 (March 4, 1985), reprinted in [1985-1987 Transfer Binder] Fed.
Banking L. Rep. (CCH) ¶ 85,499.

27 SIA v. Board of Governors, 807 F.2d 1052 (D.C. Cir. 1986), cert. denied, 483 U.S. 1005 (1987).

28 See Equity Hedge Letter, supra (banks’ purchase of equity securities for hedging customer-driven equity
derivative transactions is not “dealing” or “underwriting”). See also OCC Interpretive Letter No. 393 (July 5, 1987),
reprinted in [1988-1989 Transfer Binder] Fed. Banking L. Rep. (CCH) ¶ 85,617 (national bank with limited market
presence not considered a dealer); Louis Loss, Securities Regulation 2983-84 (3d ed. 1990).

29 Citicorp, J.P. Morgan & Co. Inc., Bankers Trust New York Corporation, 73 Fed. Res. Bull. 473 n.4 (1987); OCC
Interpretive Letter No. 684, supra; Equity Hedging Letter, supra.

30 Although securities law is not determinative in interpreting banking law, we note that the Securities and
Exchange Commission (SEC) has recognized that entities that purchase and sell securities to hedge their own risks,
and that do not hold themselves out as available to buy and sell securities are not dealers under the GSA. See
Fireman’s Fund Mortgage Corp., 1987 SEC No-Act. LEXIS 2330 (July 20, 1987)
ecurities law is not determinative in interpreting banking law, we note that the Securities and
Exchange Commission (SEC) has recognized that entities that purchase and sell securities to hedge their own risks,
and that do not hold themselves out as available to buy and sell securities are not dealers under the GSA. See
Fireman’s Fund Mortgage Corp., 1987 SEC No-Act. LEXIS 2330 (July 20, 1987). See also Citicorp Homeowners,
Inc., 1987 SEC No-Act. LEXIS 2596 (Oct. 7, 1987) (involving mortgages and hedging with government securities);
Meridian Mortgage Corp., 1987 SEC No-Act. LEXIS 2020 (April 7, 1987) (involving mortgages and hedging with
government securities).

8

9
Conclusion

The Bank may purchase and sell options on DPC Shares to hedge the risk of holding those shares
against fluctuations in market value, provided the Bank has established effective risk
measurement and management processes as described in section C. 3., above, to conduct the
proposed hedging as described herein.

Sincerely,

/s/ Julie L. Williams

Julie L. Williams
First Senior Deputy Comptroller and Chief Counsel

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Source: Frix Law Library, https://www.frixlaw.com/law-library/statutes/OCC_INT0961. Check the current official text before relying on it. Not legal advice.