IM-2730. Safe Harbor and Presumption of Compliance

Rule 2730(c)(1) provides that, with respect to a security, other than a common stock, a member will be deemed to have paid the fair market price for a security taken in trade if the price paid is no higher than the highest independent bid for the securities at the time of purchase, if bid quotations are readily available. Rule 2730(c)(2) provides, with respect to common stock, that a member will be presumed to have paid no more than the fair market price for the shares of common stock taken in trade if the price paid for the shares of common stock taken in trade is no higher than the highest independent bid for such shares at the time of purchase, if bid quotations are readily available. The presumption of compliance contained in Rule 2730(c)(2) may be rebutted by the Association upon a showing that the price paid, in fact, exceeded the fair market price as that term is defined in Rule 2730(b)(2). Inasmuch as a member is presumed to have complied with Rule 2730 when taking common stock in trade at a price no higher than the highest independent bid, the Association will have a heavier burden of demonstrating noncompliance in such circumstances than it has in the circumstances described below where there is neither a presumption of compliance nor one of noncompliance. Nonetheless, the factors described below in the sections titled "Presumption of Noncompliance," and "No Presumptions" will be relevant in determining whether the Association has rebutted the presumption. Particular attention will be directed to the size of the transaction and the relative liquidity of the position.

Rule 2730(c)(3) establishes a presumption of noncompliance with Rule 2730 if securities for which offer quotations are readily available are taken in trade at prices higher than the lowest independent offer. While the presumption in Rule 2730(c)(3) is not conclusive, it may be rebutted by the member only in an exceptional or unusual case. To rebut the presumption of noncompliance, all factors relevant to the transaction must be taken into consideration, including, among other things, whether a customer of a member has given an indication of interest to purchase the securities taken in trade at a higher price; the member's pattern of trading in the securities or comparable securities at the time of the transaction; the member's position in, and the availability of, the securities taken in trade; the size of the transaction; and the amount by which the price paid exceeds the lowest independent offer.

The several factors described in the preceding paragraph will be relevant to determining whether the presumption of noncompliance has been rebutted. The existence of only one such factor, however, will not necessarily be sufficient to meet the heavy burden placed on a member, though in a given case it may be sufficient. In any event, all facts and circumstances must be considered. For example, a member may be able to satisfy the burden of demonstrating that fair market price was paid by showing that the price paid did not exceed the price, less an amount equal to a normal commission on an agency transaction, at which a customer had given the member an indication of interest to purchase the securities, or that the member held a short position in the security purchased, that it desired to cover that short position, that the availability of the security was scarce and that the amount of securities taken in trade could not have been acquired at a lower price.

In instances when a member takes a security in trade at a price higher than the highest independent bid and not higher than the lowest independent offer, or when bid and offer quotations are not readily available, there shall be no safe harbor and there shall be neither a presumption of compliance nor one of noncompliance with Rule 2730. In such circumstances, whether the price paid is the fair market price will be determined by reference to the definition of fair market price in Rule 2730(b)(2).

Rule 2730(b)(2) states generally that fair market price is the price a dealer would pay for the amount of securities taken in trade if purchased from the customer in the ordinary course of business but not involving a security taken in trade. Accordingly, the price paid by a member or other dealers for the same security or a comparable security as that taken in trade but not in a transaction involving a security taken in trade will be relevant in determining compliance with Rule 2730. In comparing such transactions, all facts and circumstances will be considered, including such things as the size of the transactions being compared, the time of each transaction and the difference in price paid. In determining whether fair market price has been paid, other relevant factors, including those set forth above with respect to rebutting the presumption of noncompliance, will also be considered.

Paragraphs (d) and (e) of Rule 2730 obligate members taking securities in trade to obtain and maintain records of bid and offer quotations. If the securities taken in trade are common stocks that are traded on a national securities exchange or for which quotations are entered in an automated quotation system, the quotations must be obtained from any such exchange or automated quotation system at the time of purchase.

Quotations for all other securities must be obtained from at least two independent dealers at the time of purchase. While the quotations from two dealers in such circumstances need not be for the specific size of the transaction, they must be for a size corresponding generally to the amount of the securities to be taken in trade. Quotations relating only to an odd lot, such as those typically available from a dealer in bonds on a national securities exchange, will not be acceptable for a transaction of a size normally traded by institutions.

If bid and offer quotations required by Rule 2730(d) are not readily available and a member is able to obtain such quotations for comparable securities, such quotations will be treated as though they are quotations for the securities taken in trade in determining whether the "safe harbor" in Rule 2730(c)(1) and the presumptions in subparagraphs (c)(2) and (c)(3), are applicable. In such circumstances, however, the member's determination of what constitutes comparable securities may be challenged.

If the member purchases securities taken in trade at a price which is no higher than the lowest independent offer as determined according to Rule 2730, it will have kept adequate records if it records the time and date quotations were received, the identity of the security to which the quotations pertain, the identity of the dealer from whom, or the exchange or quotation system from which, the quotations were obtained, and the quotations furnished. If a member uses the services of an independent agent to obtain the quotations and the agent does not disclose the identity of the dealers from whom quotations were obtained, the member will have kept adequate records if it otherwise complies with Rule 2730(e) and it records the time and date it received the quotations from the agent, the identity of the agent, and the quotations transmitted by the agent.

If a member takes a security in trade and pays more than the lowest independent offer, it will have kept adequate records if, in addition to the foregoing records, it keeps records of all relevant factors it considered important in concluding that the price paid for the securities was fair market price.

Swap transactions that are arranged before the effectiveness of a fixed price offering are not generally viewed as being legally consummated until effectiveness of the fixed price offering. Nonetheless, the fair market price of securities taken in trade in such situations is normally determined at the time of the pricing of the fixed price offering, which occurs on the day before effectiveness usually in the afternoon, and the swap is arranged on the basis of that price. In such cases, for purposes of Rule 2730(a), the determination of the "fair market price at the time of purchase" of the securities to be taken in trade may be made as of the time of pricing of the fixed price offering. As to swaps agreed upon at a time after effectiveness of the offering, fair market price of the swapped securities must be determined as of the time the transaction is legally consummated.