In October 2016, the SEC adopted amendments to Regulation S-X as part of its Investment Company Reporting Modernization efforts. These amendments:

• Update specific disclosure requirements for most types of derivatives
• Update disclosures for other investments as well as investments in and advances to affiliates
• Amend certain rules regarding the general form and content of financial statements

Most of the disclosure requirements are already in place in the industry.  The effective date of these amendments is August 1, 2017. However, certain modifications have been made that are important to communicate. Below, you’ll find a summary of the significant points in the recent amendments along with brief notes on changes from current practice.

DERIVATIVES

• For each open option, it’s required that funds disclose the following:
  • Description
  • Counterparty (no counterparty required for exchange traded and centrally cleared options)
  • Number of contracts
  • Notional amount
  • Exercise amount
  • Expiration date
  • Value
• Options where the underlying investment would otherwise be presented must include a description (in the case of a swaption the disclosure rules for both options and swaps would apply).
• Option contracts on an index or basket:
  • If the notional amount of the underlying investment does not exceed 1% of the fund’s NAV, or if the underlying investment has publicly available information as of the fund’s balance sheet date, the fund would provide information sufficient to identify the underlying investment.
  • If the above does not apply, the fund should provide a description of the index or custom basket and separately list the top 50 holdings of the index or basket as well as any components representing more than 1% of the notional value of the index or basket. Please note that holdings detail should include description, quantity held, value, and percentage of value of the basket.

In practice, most funds already disclose much of this information.  New requirements include those relating to disclosure of counterparties and notional amounts, and the consideration of disclosure when the option is based on an index or basket. The focus of these disclosures is mainly counterparty risk and transparency of the underlying investments.

• For each open contract, it’s required that funds disclose the following:
  • Description
  • Number of contracts
  • Expiration date
  • Notional amount
  • Value
  • Unrealized appreciation/depreciation

In practice, most funds already disclose much of this information.  New requirements are focused mostly on categorizing this as separate code as opposed to general disclosure requirements currently in the code.

• For each open contract, it’s required that funds disclose the following:
  • Amount and description of the currency to be purchased and sold
  • Counterparty
  • Settlement date
  • Unrealized appreciation/depreciation

In practice, most funds already disclose much of this information.  New requirements include those relating to disclosure of counterparties. The focus of the changes to the disclosures is mainly counterparty risk.

• For each open swap, it’s required that funds disclose the following:
  • Description and terms of payment to be paid and received (should reflect the investment owned by the fund and allow an investor to understand the full nature of the transaction)
  • Counterparty (no counterparty required for exchange traded and centrally cleared options)
  • Maturity date
  • Notional amount
  • Value
  • Upfront payments/receipts
  • Unrealized appreciation/depreciation
• Swaps on an index or basket
  • If the notional amount of the underlying investment does not exceed 1% of the fund’s NAV, or if the underlying investment has publicly available information as of the fund’s balance sheet date, the fund would provide information sufficient to identify the underlying investment.
  • If the above does not apply, the fund should provide a description of the index or custom basket and separately list the top 50 holdings of the index or basket as well as any components representing more than 1% of the notional value of the index or basket. Please note that holdings detail should include description, quantity held, value, and percentage of value of the basket.
• Swaps paying/receiving financing payments should disclose variable financing rates in a matter similar to that required for other variable rate securities.

In practice, most funds already disclose much of this information.  New requirements include those relating to disclosure of counterparties and the consideration of disclosure when the swap is based on an index or basket. The focus of these disclosures is mainly counterparty risk and transparency of the underlying investments.

• For each open investment, it is required that funds disclose the following:
  • Description
  • Balance held at close of period – quantity
  • Value of each item at close of period

In practice, most funds already disclose much of this information.

CHANGES TO RULES 12-12 THROUGH 12-12C

Debt Securities

• When disclosing the interest rate for variable securities, referenced rate and spread as well as the end of period interest rate for each investment are now required to be presented, or include the disclosure of each referenced rate.

In practice, most funds have a footnote disclosure to the Schedule of Investments, which indicates those rates that are variable and the fact that the rate is effective as of the balance sheet date. Disclosure of reference rate and spread is aimed at further transparency of the interest rate risk of variable rate securities.

• Funds must identify securities that are on loan.

In practice, most funds already disclose this information.

INSTRUCTIONS TO RULES 12-12 THROUGH 12-12B AND 12-13 THROUGH 12-13D

• These rules apply to all investments. They require that funds:
  • Indicate whether an investment is being valued using significant unobservable inputs
  • Disclose restrictions on selling the investment
• As opposed to tax disclosure requirements for each type of investment, funds will now be required to report tax disclosures relating to the portfolio as a whole, including:
  • Aggregate gross unrealized appreciation
  • Aggregate gross unrealized depreciation
  • Net unrealized appreciation/depreciation
  • Aggregate cost basis

In practice, most funds already disclose much of this information.

• Funds are now required to present net realized gain or loss for the period as well as net increase or decrease in unrealized appreciation or depreciation for the period for each affiliate, with correlation to the Statement of Operations.

In practice, most funds already disclose much of this information.

• The amendments eliminate the current requirement that “Total Investments” be presented in the balance sheet under assets, as other investments could be presented in either assets or liabilities. In practice, most funds do currently present “Total Investments” on the Statement of Assets and Liabilities, even though they may have investments that are not included in that total (either assets or liabilities).

• The amendments require separate disclosure of income from payment-in-kind interest or non-cash dividends only if it is greater than 5% of the fund’s investment income. Currently, there are discrepancies in disclosure of non-cash income. The original proposal required disclosure of all non-cash income. The 5% consideration is consistent with the SEC’s current requirements with respect to separate disclosure of expenses, to the extent they are greater than 5% of total expenses.

• The amendments require the Statement of Operations presentation of net realized and unrealized gain or loss during the period to conform with those changes to the presentation in the schedule of investments. In practice, most funds already present the Statement of Operations in this format.

• The amendments eliminate the current written option activity disclosure. In practice, most funds have presented written option roll forwards in the notes to the financial statements meeting the activity disclosure requirement. As noted in these amendments, the spirit of this requirement is met by other disclosure requirements.

There are many nuances to these amendments, and Regulation S-X continues to be complex. Please do reach out to us if you need help navigating these changes.