Russell Investment Management, LLC

December 16, 2016

RESPONSE OF THE CHIEF COUNSEL’S OFFICE DIVISION OF INVESTMENT MANAGEMENT

Your letter dated December 9, 2016 requests our assurance that we would not recommend enforcement action to the U.S. Securities and Exchange Commission (the “Commission”) under Section 17(e) of the Investment Company Act of 1940 (the “1940 Act”) if certain registered open-end management investment companies (as further defined below, the “Funds”) utilize a broker that is an “affiliated person” under Section 2(a)(3) of the 1940 Act, of the Funds’ investment adviser, and thereby is an “affiliated person of an affiliated person” of each Fund,[1] to effect foreign currency transactions as agent for the Funds and, for effecting such transactions, receives remuneration within the parameters of Section 17(e)(2) of the 1940 Act.

Background

You state that Russell Investment Management, LLC (“RIM”) is a U.S.-based global investment management firm that serves as investment adviser to the series of Russell Investment Company and Russell Investment Funds (each series, a “Fund”). You further state that Russell Investments Implementation Services, LLC (“RIIS”) is a registered broker-dealer and an “affiliated person” of RIM as that term is defined in Section 2(a)(3) of the 1940 Act. As a result, RIIS is an affiliated person of an affiliated person of the Funds.

You state that in an effort to reduce currency trading costs incurred by the Funds, RIM has centralized a portion of the currency trading activity of the Funds with RIIS. RIIS executes foreign exchange transactions (“FX Transactions”) on an agency basis for the Funds, as well as a number of unaffiliated clients. You further state that RIM believes that: (i) it is in the best interest of the Funds and their shareholders to use RIIS as agent for the Funds for their FX Transactions rather than to have each sub-adviser execute FX Transactions on behalf of the Funds individually; and (ii) utilizing the services of RIIS results in better execution outcomes through improved coordination of currency trade flows, the pricing leverage that flows from increased deal volume, and the use of a large panel of competing bank counterparties and trading platforms. You state that RIIS does not currently receive any remuneration for effecting FX Transactions on behalf of the Funds.

Analysis

Section 17(e)(1) of the 1940 Act generally prohibits any affiliated person of a registered investment company (“RIC”), or any affiliated person of such person, acting as agent, from accepting compensation for the purchase or sale of any property to or for such RIC, except in the course of such person’s business as an underwriter or broker. Section 17(e)(2) of the 1940 Act generally limits the remuneration which may be received by a person acting as a broker in connection with the sale of securities to or by a RIC to (A) the usual and customary broker’s commission if the sale is effected on a securities exchange, (B) two percent of the sales price for secondary distributions, or (C) one percent for other purchases or sales. For purposes of Section 17(e)(2)(A), Rule 17e-1 under the 1940 Act defines when commissions or fees paid to securities brokers will be deemed not to exceed the usual and customary brokerage commission.[2]

Section 17(e) was designed to eliminate the potential for self-dealing that exists when a person affiliated with a RIC receives compensation in connection with transactions involving such RIC.[3] In the case of securities transactions effected by affiliated brokers on behalf of RICs, Congress chose to place specific limits on the amount of compensation that may be received.

You state that historically, a person affiliated with a RIC that engaged in trading futures contracts or effecting FX Transactions for the RIC could not rely on Section 17(e)(2) and Rule 17e-1 because FX Transactions were not considered to involve “securities” as that term is defined in Section 2(a)(36) of the 1940 Act.[4] You note that we have provided no-action assurances with respect to the receipt of remuneration by futures commission merchants that were affiliated persons of RICs (“Affiliated FCMs”) for effecting such RICs’ transactions in futures contracts and related options, provided that the activities of the Affiliated FCMs otherwise complied with Section 17(e) and Rule 17e-1.[5] You further note that in a 1998 letter to Drinker Biddle & Reath LLP,[6] we provided no-action assurances under Section 17(e) of the 1940 Act to certain RICs utilizing an affiliated broker to effect FX Transactions, based particularly on representations that all such transactions would be conducted in accordance with certain procedures that would satisfy Rule 17e-1, and that the affiliated broker’s commission would not exceed 0.03% of the notional amount of the particular transaction involved. Relief in Drinker was also based, among other things, on the representation that the aforementioned procedures would allow the RICs to consider using an affiliated broker only when the price obtained for an FX Transaction, plus the affiliated broker’s commission, was at least as favorable as the price contemporaneously quoted by an independent source previously selected by the RICs’ trustees.

You believe that the key representations in Drinker do not reflect the present operation of the foreign exchange markets, most notably with respect to the principal (rather than agency) nature of the currency market, the availability of relevant market data, and price and commission transparency. You contend that, because of the limited number of agent-participants in the foreign exchange market, and the complex and opaque dealer compensation components of FX Transactions, the requirement in Drinker that the affiliated broker’s commission levels be compared to the commission levels of other currency brokers is unworkable in practice. You represent that there is no formal, centralized mechanism for reporting contemporaneous foreign exchange prices, and that both quoted and executed prices vary widely and often depend on the identity, size and sophistication of the contracting parties.

As an alternative to the framework provided in Drinker, you suggest that it would be consistent with the purposes of the 1940 Act and the intent of Section 17(e) for an affiliated broker to serve as agent to a RIC in connection with FX Transactions, and to receive remuneration within the parameters of Section 17(e)(2). You also describe the manner in which RIIS would propose to comply with Section 17(e)(2) of the 1940 Act and seek best execution for FX Transactions effected on behalf of the Funds, including by the adoption of procedures that are designed to protect the interests of the Funds and their shareholders and to satisfy the requirements of Rule 17e-1. Although we express no view as to whether the procedures you describe satisfy the requirements of Section 17(e)(2) and Rule 17e-1, we note that any such procedures must be reasonably designed to address the concerns that Section 17(e) was intended to address, including the potential that RICs might be managed and operated in the interest of the adviser and its affiliated persons, rather than in the interest of RIC shareholders. We further note that RIIS has a separate, independent duty to seek best execution on behalf of the Funds. Accordingly, based on the facts and representations set forth in your letter, we would not recommend enforcement action to the Commission under Section 17(e) of the 1940 Act if the Funds utilize RIIS to effect FX Transactions as agent for the Funds and, for effecting such transactions, RIIS receives remuneration within the parameters of Section 17(e)(2). We further confirm that the procedures described in Drinker do not represent the sole means by which RIIS may satisfy the requirements of Section 17(e)(2) and Rule 17e-1.

This letter represents our position on enforcement action only, and does not express any legal conclusions on the issues presented. Because our position is based on all of the facts and representations made in your letter, you should note that any different facts or circumstances might require a different conclusion.

Kyle R. Ahlgren
Senior Counsel

Incoming Letters

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