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RPVCCA_CC_SR_2013_12_03_07_Certificate_of_Deposit_Acct_RegistryCITY OF MEMORANDUM TO: FROM: DATE: SUBJECT: REVIEWED: Staff Coordinator: HONORABLE MAYOR AND MEMBERS OF THE CITY COUNClb DENNIS McLEAN, DIRECTOR OF FINANCE & INFORMATION 0 TECHNOLOGY DECEMBER 3, 2013 CERTIFICATE OF DEPOSIT ACCOUNT REGISTRY SERVICE (CDARS) AGREEMENT CAROLYN LEHR, CITY MANAGER ~ Ryan Mills, ~ior Administrative Analyst, Finance & Information Technology \(:J RECOMMENDATION 1. Approve form of the Certificate of Deposit Account Registry Service (CDARS) agreement through Promontory lnterfinancial Network; 2. Approve form of the Custodial Agreement with Malaga Bank; and 3. Adopt Resolution No. _, approving the form CDARS Agreement and Custodial Agreement, directing the Mayor to sign the CDARS Agreement and Custodial Agreement with Malaga Bank, and designating the City Manager, City Treasurer and Deputy City Manager as signatories to execute any subordinate agreements and other documents to implement the CDARS Program EXECUTIVE SUMMARY On March 6, 2012, the City Council directed Staff to develop a recommendation to diversify a portion of the City's cash portfolio into the Certificate of Deposit Account Registry Service (CDARS) program, preferably selecting a local bank to handle the investments. The CDARS program appears to be an effective method to diversify the City's investments and support local depository institutions. Staff advised the City Council that it expected to recommend that Malaga Bank serve as the "gateway" bank (and referred to in the CDARS agreement as the "relationship bank") for the implementation of this program. Malaga Bank has been a participant in the separate competitive bid process for commercial banking services for the City. Based upon the recommendation by the City's Financial Advisor, Staff advised the Council that it would defer implementation of the CDARS investment program until the City moved forward with transition of its general banking 7-1 CDARS AGREEMENT December 3, 2013 Page 2of7 services. Staff expects to bring forward a recommendation to the City Council to approve the banking agreements with Bank of the West as the City's primary depository institution at the next meeting. The CDARS program is a companion to that action. The Certificate of Deposit Account Registry Service through Promontory lnterfinancial Network (CDARS) agreement and Custodial Agreement with Malaga Bank (the "CDARS Agreements") have been reviewed by Richards, Watson & Gershon. Staff has discussed their comments with the City's Financial Advisor, Tim Schaefer of Magis Advisors, City Attorney Carol Lynch and Amy Greyson of Richards, Watson & Gershon. Although Staff expects that minor, non-substantive revisions to the CDARS Agreements may occur prior to execution by the Mayor, both Staff and Magis Advisors believe that the City's participation in the CDARS program is a prudent investment, is in compliance with the City's est~blished Investment Policy and is an acceptable risk to the City. However, Staff, the City Attorney and the City's Financial Advisor collectively caution the City Council that any investment like CDARS includes risks that will vary from time to time and from instrument to instrument. The City Attorney has outlined certain known risks for consideration by the City Council. Staff and the City's Financial Advisor have offered comments regarding these risks for the City Council to consider. These risks and commentary should be considered by the City Council prior to its decision to approve participation in the CDARS program. DISCUSSION CDARS PROGRAM CDARS is a program created by Promontory lnterfinancial Network, LLC, composed of nearly 3,000 member financial institutions and is designed to provide public investors the benefit of Federal Deposit Insurance Corporation (FDIC) insurance for deposits up to $50 million. A deposit is placed with a CDARS Network member (i.e. Malaga Bank), in which the Network member uses the CDARS service to place the City's funds into Certificate of Deposits (CDs) issued by other members of the CDARS Network. The placement service splits the invested funds into increments of $250,000 or less (which is the FDIC insurance limit through December 31, 2013) and trades deposits with other participating institutions across the nation, so that the depositor will have no more than $250,000 at any one bank; thereby, all deposits will be protected by FDIC insurance. Prior to purchasing a CD through CDARS, the City will calculate the estimated interest earnings so that the principal, as well as the interest earned will always remain under the FDIC limit. Once the CD matures, the City has the option of retaining both the principal and interest amounts, retaining the interest earned from the CD and reinvesting the principal, or "rolling over" both the principal as well as the interest earned into another CD. By making such deposits through the gateway bank, the City receives the benefit of FDIC coverage for deposits with many institutions, but receives only one consolidated account statement for the combined deposits. In the consolidated account statement, the gateway bank will list all of banks with which the City has CD's on deposit. Staff will continuously monitor and plan the City's investments to ensure that all investments remain within the FDIC's requirement for deposit insurance. 7-2 CDARS AGREEMENT December 3, 2013 Page 3 of 7 1 2 3 4 5 6 Sign a CDARS Deposit Placement Agreement (with a member of the CDARS Network to serve as the "gateway" institution , such as Malaga Bank, but administered through Promontory I nterfinancial Sign a custodial agreement with a member of the CDARS Network (i.e. Malaga Bank) The City's funds are placed using the CDARS service The City's CD's are issued by other members in the CDARS Network, each of which places the CD's into a custody account held b BNY Mellon Trust Co. on the atewa 's behalf. Receive confirmation of purchase of the ordered CD's from the City's gateway institution (e.g., Malaga Bank) Receive consolidated interest payments and statements from the City's gateway institution (e.g., Malaga Bank) FINANCIALADVISOR'S RECOMMENDATION In the past, the City Council has expressed its interest in supporting local banks. On July 9, 2010, the City's Financial Advisor wrote a memo proposing the CDARS program as a step to achieve this goal that included the following comment. "The alternate proposal involves a program that we have discussed with you in the past -placement of time deposits using the "certificate of deposit account registry service" (or "CDARS''). Using this approach may enable the City to accomplish the goal of a modest diversification of its deposit exposure ... " In recommending the CDARS program, the only potential drawback is the decreased liquidity of purchasing CDs, compared with investments in the State Local Agency Investment Fund ("LAIF"). The City's Financial Advisor pointed out the following in the July 2010 memorandum mentioned above: "CDARS does exhibit some characteristics that should be considered before investing. Included in these considerations are: (a) "breakage" penalties for early withdrawals; (b) inherent illiquidity (CDARS certificates are deposits-not securities-there is no secondary market, they are not negotiable, they are not OTC eligible[. . .]); (c) the risk of payment delays-the FDIC is under no obligation to return an insured depositor's funds at maturity-its obligation is to pay the insured bank, who then pays the depositor; and (d) the risk of failure of the gateway bank. This last caution should be carefully evaluated before using CDARS to a significant degree." Two local financial institutions have expressed an interest to serve as possible gateway banks for the program: Malaga Bank and Premier Bank. Although both banks are capable 7-3 CDARS AGREEMENT December 3, 2013 Page 4 of 7 of meeting the City's needs as the City's gateway bank, the City's Financial Advisor has recommended that the City initiate the program using only one gateway bank in order to familiarize itself with the administrative process of CDARS. Once the City is familiar with the effort required to administer the CDARS process with one bank, the City can examine the placement of funds with a second gateway bank, if desirable. CITY'S INVESTMENT POLICY Currently, the City maintains roughly $3 million on average in a liquid demand deposit account to pay its routine obligations. The remainder of the City's funds are deposited in LAIF, which is a voluntary program created by State statute and is administered by the State Treasurer. LAIF is part of a Pooled Money Investment Account (PMIA) of literally billions of dollars of public funds, including funds of the State itself and a multitude of public agencies within the State. The State Treasurer operates LAIF at no cost to its participants. One of the features that makes LAIF attractive is its liquidity policy that allows for as many as 15 transactions per month (deposits and withdrawals). The City's adopted Investment Policy, which is presented annually to the City Council, provides that in selecting the securities for the City's idle funds, the policy criteria are (in order of priority): safety, liquidity, and yield. The Policy, which complies with the requirements of the California Government Code, indicates that the City can invest in Certificates of Deposit (CDs), so long as they are insured by the FDIC, including CD's placed through the CDARS program. Funds placed into the CDARS program are backed by the full resources of the FDIC, and the implicit promise of the United States, so long as the principal and interest do not exceed the FDIC insurance limit. The potential liquidity shortfall discussed above by the City's Financial Advisor can be managed by holding a conservative balance in the City's demand deposit account, while staggering the CD's in a CDARS portfolio of 4, 13, 26 and 52-week (not to exceed 1) maturities to spread interest rate risks and mitigate for any unlikely cash flow shortages that the City may experience. The City's idle funds should also be invested so as to create earnings, where liquidity and safety needs have been met. In the current market environment, available yields are historically low. In June 2013, Staff reported that the yield on the City's outstanding balance in LAIF was 0.26%. Since the onset of the financial crisis and the beginning of the "Great Recession," yields on 1-yr U.S. Treasury bills have averaged only 0.3%. Although investment strategies in the CDARS programs could potentially return slightly higher yields, any additional income would likely be derived from purchasing CD's with longer maturities, since yields typically are higher on longer investments. ACCOUNTING PROCEDURE FOR INVESTMENTS IN CDARS In order to ensure sound internal accounting controls (i.e. ensure that CDARS investments never breach the FDIC limit), an accounting procedure has been established by the City to 1 CDARS also offers 104-week (2 year) and 156-week (3 year) maturing CDs 7-4 CDARS AGREEMENT December 3, 2013 Page 5of7 formalize the steps required to properly administer and account for the CDARS investments in accordance with generally accepted accounting procedures and best practices. The accounting procedure will be reviewed and approved by the City's Financial Advisor and the City's independent auditor prior to initiating use of the CDARS program. The City also will carry out a periodic evaluation of the accounting program to make sure that the accounting procedure is working as intended. INVESTMENT RISK Like any other investment practice, risks will vary from time to time and from instrument to instrument. The value of fixed income securities is always subject to change as interest rates change. Rising rates cause an inverse effect in the value of fixed income investmerits. Fixed income investing exposes the investor to inflation risk, sometimes described as "purchasing power risk," because inflation reduces the purchasing power of the principal at maturity. Price, or market, risk arises when the market price of the fixed income security varies over time-the available market price for such a security is affected by all of the above factors and may vary from the invested value. Finally, fixed income securities expose the investor to "credit risk," the risk that the issuer of the securities cannot pay the principal and interest in full and on time. The CDARS program primarily mitigates credit risk. Even though the purpose of the CDARS program is to invest funds in numerous banks to remain below the FDIC threshold, thus mitigating credit risk, the other risks described above come with any fixed income investment, including CD's purchased through CDARS. In another example, even though LAIF is afforded protections from re-direction to the State by statute, there are unlikely scenarios in which the State might not have the immediate resources needed to return City funds on demand. The CDARS program, also carries such risks. Nevertheless, both investments into LAIF and CDARS are approved by the California Government Code, which infers that the level of risk that is inherent in these instruments are acceptable to the State in the protection of public funds. With the adoption of the Investment Policy annually, the City Council tacitly acknowledges these types of risk. EVALUATION OF PROPOSED AGREEMENTS Promontory lnterfinancial Network provided Staff with two agreements, a Certificate of Deposit Placement Agreement and a Custodial Agreement. Both agreements would be entered into with the gateway institution (e.g., Malaga Bank). Both the City Attorney's office and the City's Financial Advisor have reviewed the proposed CDARS Deposit Placement Agreement and Custodial Agreement provided to the City. The City Attorney's office provided staff and the City's Financial Advisor with comments and suggested revisions in order to bring the format of the proposed agreements into line with language that typically is used in other City contracts. Promontory has not formally responded to these comments and proposed revisions, but has orally indicated a disinclination to modify their standard agreements because the proposed changes are not typically used in their agreements. 7-5 CDARS AGREEMENT December 3, 2013 Page 6 of 7 The comments from the City Attorney's Office include the following: 1. Both agreements place responsibility on the City to monitor and track the City's funds in the custodial bank(s), including the responsibility to make sure the amounts in an account do not exceed the amount permissible for eligibility for FDIC insurance coverage. In addition, the CDARS Agreement acknowledges that there may be a period of time during which City funds held by the custodial bank or depository institution will exceed the FDIC limit pending deposit into other insured institutions or upon maturity. 2. The City will also need to monitor its funds to make sure the funds are deposited into financial institutions or accounts that comply with the requirements for City investments under State law. The City is prohibited by state law from investing in certain financial institutions or types of accounts. 3. Under the agreements, the City will have to maintain City records of the CDs held by the City because the CDs will be held in the name of the depository institution that issues the CD on the City's behalf and the only evidence of ownership of the CDs by the City will be the confirmation of CD issuance and account statements. 4. The CDARS Agreement states that disputes will be resolved by the dispute resolution procedure, if any, set out in the Custodial Agreement. However, the Custodial Agreement form provided to the City does not contain a dispute resolution procedure, and Promontory has thus far failed to clarify the intent of this language. It is possible that other custodial banks or depository institutions may include dispute resolution procedures in their custodial agreements. In the absence of a specific provision regarding dispute resolution, disputes will be resolved by litigation. The City will have to carefully review each proposed custodial agreement (i.e. with a second local gateway financial institution) to make sure any proposed dispute resolution procedure is agreeable to the City. 5. The agreements entered into by the City usually have mutual hold harmless and indemnity provisions to provide certain indemnification to both the City and the contracting party. Both of these agreements lack express hold harmless and mutual indemnification provisions, but contain very broad language that Promontory, the custodial banks and/or depository institutions may rely on to try to argue that the City must indemnify them in the event of losses or other acts or omissions which damage the City, Promontory, the custodial bank or depository institution. The City Attorney's office noted that the CDARS Agreement also provides that Promontory is not the City's agent, but is the agent of the custodial bank. The City Attorney's office recommended that the City initiate a discussion with Promontory for clarification on the indemnity issues, but thus far Promontory has not responded to the request for discussion. If this issue is not resolved, the indemnification obligations are not clear. The City's Financial Advisor has participated in several discussions with City staff and the City Attorney's Office regarding the issues raised by the City Attorney's Office that are enumerated above. 7-6 CDARS AGREEMENT December 3, 2013 Page 7of7 FISCAL IMPACT If the City Council approves Staff's recommendation, the fiscal impact (including interest earnings) is expected to be minimal. EXHIBITS A. CDARS Agreement through Promontory lnterfinancial Network B. Custodial Agreement with Malaga Bank C. 2013-14 Investment Policy D. Memo from the City's Financial Advisor (dated 07/09/2010) E. Resolution No. _approving the form CDARS Agreement and Custodial Agreement, directing the Mayor to sign the CDARS Agreement and the Custodial Agreement with Malaga Bank and designating the City Manager, the City Treasurer and the Deputy City Manager as signatories to execute any subordinate agreements and other instruments to implement the CDARS Program. 7-7 EXHIBIT "A" CDARS® Deposit Placement Agreement You, the undersigned, and {referred to In this agreement as ''we" and 'us') are entering Into this agreement to set forth the terms and conditions under which we will assist you from time to time in placing your funds in time deposits with depository institutions {each an 'insured Institution') whose accounts are insured by the Federal Deposit Insurance Corporation {"FDIC'). Through an arrangement with Promontory lnterfinancial Network, LLC ('Promontory'), we will endeavor to place your funds In time deposits ('CDs') Issued by Insured Institutions through Promontory's Certificate of Deposit Account Reglstty Seivice', or CDARSG>, These CDs will be Issued only in principal amounts that, when aggregated with Interest to accrue over the term of the CD, wll not exceed the Standard Maximum Deposit Insurance Amount {"SMDIAi for deposits of one depositor at one Insured Institution ($250,000). We also will act as the custodian with respect to your CDs pursuant to the custodial agreement that we have separately entered Into with you {"Custodial Agreement'). The terms of our custodial relationship with you are set forth In the Custodial Agreement Funds held in accounts with us pending placement through CDARSor resulting from payments on CDs may be·subject to the FDIC insurance limits applicable to those deposits and therefore may not be fully insured by the FD1c1. CDARS is a proprietary process owned by Promontory that reviews requests submitted by participating financial institutions {e.g., banks and registered broker-dealers) on behalf of their customers to allocate the customers' funds to Insured Institutions for placement by the participating financial institution In CDs at those Insured Institutions {"Orders'). Orders must be submitted by a specified date {"Order Dale'), and Promontory will process the Orders and propose allocations of funds to Insured Institutions that are willing to accept deposits on a specified 'Order Allocation Date,• which currently Is the same as the Order Date. Your funds will be placed, and CDs will be issued to you, on the .'Settlement Date,' which is the day after the Order Allocation Date. CDARS offers different types of transactions through which we may place your funds with Insured Institutions. In a "CDARS Reciproca1su Transaction,' we receive funds for deposit from other participating financial institutions in an amount equal to the amount of funds that we have placed for you using CDARS on a Settlement Date, and we do not receive a fee. in a "CDARS One-WaysM Transaction,' we do not receive funds for deposit, but we may receive a fee from one or more Insured Institutions that received deposits using CDARS on that Settlement Date. Funds that we place for you through a CDARS transaction may be placed at an Insured institution without regard to whether the Insured Institution is participating In CDARS on that Order Date through a CDARS Reciprocal Transaction or through a CDARS One-Way Transaction or otherwise. We will place your funds through a CDARS Reciprocal Transaction unless we notify you that we will place your funds through a CDARS One-Way Transaction and you consent to our doing so. If you wish to have us place your funds only through a CDARS Reciprocal Transaction, you may check a box provided for this purpose atthe end of this Agreement. If you do not check this box we will not place your funds through a CDARS One·Way Transaction without your consent. This agreement sets forth important information about the placement process. By signing this agreement you agree to be bound by its terms each time that you submit funds to us for placement Please read it carefully. Some of the features of the CDs and the placement process are: • When we place your funds, you will be Issued CDs by Insured Institutions that have entered Into agreements with Promontory. ! We will act as your custodian with respect to those CDs. • The CDs issued to you by Insured Institutions will have the interest rates and annual percentage yields {"APYj you have agreed to with us. • You will not be charged a fee In connection with CD placements. • You select the maturities and payment terms of your CDs from those that are available through CDARS at the time that you submit your funds for placement. • You may designate any Insured institution as ineligible to receive your funds. • No secondary market for the CDs currently exists, but early withdrawal of any CD you purchase will be available, subject to penalties that may be substantial. 1 See Sectlon 4(b) below for a descrtption of FDIC Insurance coverage offunds held In accounts with us pending placement using CDARS or resulting from payments on CDs previously placed using CDARS. Section 1. Your Relationship With Us (a) Agency and Custodia/ Relationship We have entered Into a contract with Promontory pursuant to which we will use CDARS to assist us in endeavoring to place your funds at other Insured Institutions that have also entered Into conlracts with Promontory. Pursuant to our contract with Promontory, we will adhere to Promontory's policies and procedures in placing your funds. We will act as your agent in connection with the placement of your funds In CDs. As set forth above, we will place your funds through a CDARS Reciprocal Transaction unless you agree to having your funds placed through a CDARS One-Way Transaction. Although we will act as your agent in connection with the placement of your funds, we are not acting as your Investment adviser and have no obligation to advise you of alternative Investments available through CDARS or otherwise. Further, we make no representations with respect to the Interest rates on deposits available on an Order Date through us or through CDARS, and we may receive greater benefits when we place your funds through one type of CDARS transacUon than when we do so through another type of CDARS transaction or than we would If you instructed us to make a deposit other than through a CDARS transaction. We will act as your custodian with respect to your CDs acquired through CDARS. We have entered Into an agreement with The Bank of New York Mellon to act as our sub- custodian with respect to the CDs for which we are acting as your custodian. No physical certificates evidencing the CDs will be Issued. Each CD for which we act as your custodian {Q will be recorded on the records of the Insured Institution that Issues the CD In the name of our sub-custodian, (11) will be recorded on the records of the sub-custodian In our name, and {lll) will be recorded on our records In your name, all in a manner that will permit your CD to be FD IC insured to the same extent as if you held It directiy with the Insured Institution. The records of the sub-custodian will also identify you as the owner of the CDs based on Information provided to The Bank of New York Mellon by us. You will receive from us a written confirmation of the issuance of your CDs and periodic account statements that will reflect your ownership of your CDs. The confirmation of CD issuance and the account statement{s) will be the only evidence that you will receive of your ownership of the CDs. You should retain the confirmation and the accountstatement{s) for your records. While we are acting as your custodian, (I) all payments with respect to the CDs by the insured institutions that Issue the CDs will be made to us, and we will credit the funds to an account or accounts you maintain with us or disburse the funds pursuant to your Instructions, and {II) you can enforce your rights In the CDs through us. You may not transfer the CDs dlrectty to another custodian. At your election, you may dismiss us as custodian, and your ownership of a CD may be recorded in your name on the books of the Insured Institution that Issued the CD. lfyou choose to have the CD maintained In your name on the books of the Insured Institution that Issued the CD, you will be able to enforce your rights in the CD directly against that Insured Institution. (b)Fees You will not pay a fee ln connection with your placement of funds. If we place your funds through a CDARS Reciprocal Transaction, we will pay a fee to Promontory for using the CDARS order allocation seivices and certain other services. If we place your funds through a CDARS One-Way Transaction, we and Promontory will receive fees from one or more Insured Institutions receiving deposits through CDARS In respect of that Order Date. We may, In our discretion, waive some or all of our fee, and Promontory may, in its discretion, waive some or all of Its fee. We and Promontory may receive different fees from different Insured Institutions In connection with the same transaction. (c) Limits on Placements Although we, through our arrangement with Promontory, will endeavor to place your funds, Promontory is not obligated to allocate Orders in a way that results in the placement of some or any of your funds. If any of your funds are not placed, the unplaced funds will be returned to you. You may ask us to submit a new Order for the placement of unplaced funds on another Order Date. Please review Section 2{b) concerning limitations in the CDARS allocation process. CDARS and Certificate of Deposit Account Registry Service are registered service marks and One-Way and Reciprocal are service marks of Promontory lnterflnanclal Network, LLC. 12110b DI 7-8 (d} Each CD Wiii Be an Obligation of the Issuer Each CD will be a deposit obligation of the Insured Institution that issued the CD and will not be, either directly or indirectly, our obligation or an obligation of Promontory. Your CD will not be issued until the issuing Insured Institution receives and accepts your funds. (e}APY. If you are not a "consumer" for purposes of the Truth-in-Savings Act ('TSA j, or if our communication with you in connection with your placement of funds through CDARS is not an "advertisemenr for purposes ofTSA, we are not obligated to provide you with an APY on your CDs. ,(fJ Mutual Institution Voting and Subscription Rights If a CD is issued to you by an Insured Institution that Is formed as a mutual organization (i.e., the depositors have an ownership interest In the organization) ("Mutual Institution; for funds placed for you through CDARS, you may receive through us a notice of a meeting of the depositor members of that mutual institution. Because your CD will be Identified on the books of the Mutual Institution in the name of the sub-custodian and not in your name, you will not be entitled to attend the meeting or vote by proxy. Under our agreement with the sub-Ctlstodian, the sub-custodian will forward meeting notices to us (for delivery to you) but It wl!I not attend the meeting or vote by proxy. It is possible that the Mutual Institution also may send notice of its intention to convert to a stock institution, and provide for priority, nontransferable subscription rights for depositor members of the Mutual Institution to purchase stock In the conversion. Because your CD will be Identified on the books of the Mutual Institution In the name of the sub-custodian ·and not in your name, you will not be entitied to exercise any subscription right to purchase the stock, or to vote on the conversion. The sub-custodian will not purchase any stock in the conversion. Accordingly, if you wish to receive meeting notices directly, attend meetings and vote (to convert from the mutual to stock form of ownership, form a mutual holding company or otherwise) with respect to a CD you have acquired from a Mutual Institution through CDARS, or If you wish to receive subscription rights in the event the Mutual Institution converts from mutual to stock form, you will have to dismiss us as custodian prior to the applicable record date (a date usually at least a year in advance from the date the Mutual Institution's board of directors adopts a plan of conversion) and have your ownership of the CD recorded In your name directly on the books of the Mutual Institution that issued the CD. . •· Section 2. Promontory (a} General Promontory is not your agent and Is responsible solely to us for performing the seivlces for which we have retained It. Promontory uses the proprietary process included In CDARS to allocate Orders submitted on a specified Order Date by Insured Institutions to other Insured Institutions that are willing to accept deposits through CDARS. On an Order Allocation Date, Promontory uses the CDARS allocation process to propose placements of funds with Insured Institutions wishing to receive funds, subject to your approval as set forth in the procedures descrtbed In Section 3 of this agreement ('Placement Procedures;. CDs for funds placed through CDARS will be Issued to you on Jhe business day immediately following the Order Allocation Date (the 'Settlement Date;. A 'business day" means any day other than a Saturday, a Sunday or a day on which banks in New York, New York, are authorized or required by law or regulation to close. In addition to the fees payable to ii In connection with CDARS Reciprocal Transactions and CDARS One-Way Transactions, Promontory may realize profits or incur losses in connection with the placement of your funds at one or more Insured Institutions on the terms you have selected. (b} Factors Affecting the CDARS Allocation Process Promontory is not obligated to allocate Orders. Furthermore, the allocation process utilized by Promontory may reflect considerations of federal and state law, funding needs of Insured Institutions, general economic conditions, Promontory's objectives, or other factors determined by Promontory in Its sole discretion. Promontory may aUocate the 'placement of your funds in a manner that enhances Promontory's profits without increasing the interest rate available to you. (c} CDARS Reciprocal Transaction When we notify Promontory that we wish to submit your funds for placement through a CDARS Reciprocal Transaction on an Order Date, we will agree to accept for deposit an equal or greater amount of deposits through CDARS. On the Settlement Date, CDs will be issued to you and we will accept deposits placed by other participating Institutions. Your funds may be placed at Insured Institutions that are submitting funds for placement through a CDARS Reciprocal Transaction or at Insured Institutions that have requested deposits through CDARS with respect to the same Order Date. When your funds are placed through a CDARS Reciprocal Transaction, we may make or receive payments based upon the difference between the interest rate we have agreed upon with you for your CDs and the interest rate we pay on CDs that we issue to customers of other Insured Institutions. These payments will be calculated pursuant to a formula that uses the projected volume-weighted average interest rate for deposits placed through CDARS Reciprocal Transactions on the same day your funds are placed. These payments are intended to provide us with the same Interest cost on the CDs we issue to depositolll of other Insured Institutions through a CDARS Reciprocal Transaction as we would have incunred had we Issued the CDs direcliy to you. Any payments made or received by us, or fees received by Promontory, will not change the terms we have agreed upon with you for your CDs. (d} CDARS One-Way Transaction On any Order Date, Promontory may receive commibnents from Insured Institutions wishing to receive funds through a CDARS One-Way Transaction. Based on these commlbnenls, Promontory communicates to us the maximum amount of funds that can be submitted for placement through CDARS One-Way Transactions in each CD maturity on that Order Date. Within the CDARS allocation procedures One-Way Transaction funds and Reciprocal Transaction funds are fungible, and One-Way Transaction funds may be placed at Insured Institutions that are submitting funds for placement through CDARS Reciprocal Transactions or that have requested funds for deposit on that Order Date. If we place your funds through a CDARS One-Way Transaction, we will not receive deposits on the Settlement Date, and we will not make or receive payments as described under 'CDARS Reciprocal Transactions' above. Your funds may be placed at Insured Institutions that are submitting funds for placement th rough CDARS Reciprocal Transactions or that have requested funds for deposit on that Order Date. As set forth above, we and Promontory each will receive a fee when we place your funds through a CDARS One-Way Transaction, and we or Promontory may waive all or part of this fee • Any fees received by us or Promontory will not change the terms we have agreed to with you for your CDs. Section 3. Placement Procedures (a} Order Dates and Terms of CDs Each time you notify us that you wish to place funds through CDARS, we will inform you of Q) the available Order Dates, (II) the CD maturities and payment terms available on each Order Date, (iii) the penalties that will be imposed on you for eariy withdrawal, (iv) any limlls with respect to placing funds, and (v) whether we intend to submit the funds for placement through a CDARS One-Way Transaction. The terms and conditions available for CDs may change from time to time. Each CD issued by an Insured Institution will have a principal amount that, when aggregated with Interest to accrue during the term of the CD, will not exceed the SMDIA. You may obtain Information about the terms of the CDs made available through CDARS on an Order Date at www.CDARS.com/products. The interest rates and APYs for the CDs we offer to obtain for you through CDARS will be agreed upon by you and us. For placements through CDARS Reciprocal Transactions, the Interest rate and APY we agree upon with you will reflect the interest rate and APY we are willing to pay, alterpaying a fee to Promontory. For placements through CDARS One-Way Transactions, the interest rate and APY we agree upon with you will reflect the interest rate and APY that Insured Institutions requesting funds through CDARS One-Way Transactions for that Order Date are willing to pay alter paying fees to Promontory and us. Interest on your CDs will compound daily. Payment options may vary based on the maturity of the CD. You may have the option with some CDs to choose between monthly CDARS and Certificate of Deposit Account Registry Service are registered service marks and One-Way and Reciprocal are service marks of Promontory lnterfinanclal Network, LLC. 12/10b DI 2 7-9 payments of interest and payment of interest at maturity, or other available interest payment terms. In addition, depending on the terms and condmons of a particular CD, you may be able to change the payment terms of the CD during the term of the CD. If you choose to have interest paid to you during theterm of the CD, you may not be able to re-invest the interest you are paid at an interest rate as favorable to you as the interest rate paid on the CD. Each CD will earn interest fi"om the day your funds are deposited at the Insured Institution that Issues the CD up to, but not Including, the day your CD matures. If the date on which a payment with respect to a CD Is due Is not a business day, that payment will be made on the previous business day. (b} Presumption of CDARS Reciprocal Transaction We will submit an Order for a CDARS Reciprocal Transaction unless we inform you that we will place your funds through a CDARS One-Way Transaction and you agree to our doing so. If you are a public funds depositor or a nonprofit institution submitting funds for placement and wish your funds to be placed only in a CDARS Reciprocal Transaction, please Inform us by checking the box at the end of this agreement. (c) List of Insured lnstltutl9ns Each time you notify us that you desire to place funds through CDARS, you may obtain fi"om us a list of Insured Institutions at which your funds may be placed, Not all of these Insured Institutions may be available to Issue CDs with respect to an Order Date, and, before the list is provided to you, we may have designated some Insured lnsHtutions as ineligible to receive funds fi"om our depositors. You should review the list provided to you and inform us of the name(s) of any Insured lnstitution(s) at which you do not want to make a deposit, for any reason. At your option, you may also provide us with the names of Insured Institutions not then on the llstat which you do not want to make a deposit. Onee you have informed us of the name of an Insured Institution at which you do not want Jo make a deposit, your funds -whether submitted for placement through CDARS at the time you sign this agreement or in the future -will not be placed at that Insured Institution until you notify us in writing that funds may be placed in the Insured Institution. (For your convenience, at the tlme you sign !his agreement you may indicate to us on Schedule 1 the names of Insured Institutions at which you do not want to make a deposit.) Upon your request, we will obtain fi"om Promontory the list It maintains of Insured Institutions at which you do not wish to make a deposit. As set forth below, you are responsible for monitoring your deposits at each Insured Institution for purposes of FDIC Insurance coverage. (d} Request for Placement of Funds When you request that we place your funds using CDARS, we wilt submit an Order to Promontory, which wlll include the type of CDARS transaction, the Order Date, the amount of funds to be placed, and the terms (including interest rate and APY) of the CDs ~ou are seeking. The Order will be in a form established by Promontory. In order for us to submit an Order, you must provide us with all Information required by Promontory no later than the time specified In paragraph 1 of Schedule 2. (e} Approval of Proposed Placements We will not know the name(s) of Insured lnstitution(s) at which your funds will be placed at !he time we submit an Order. On each Order Allocation Date for which we submitted an Order, we will make available to you a list of the names of Insured Institutions at which your funds are proposed to be placed, the proposed deposit amount at each Insured lns~tution and the names of proposed alternate Insured Institutions at which your funds maybe placed. You may obtain that list from us on the Order Allocation Date at or after the time specified In paragraph 3 of Schedule 2, and at any time prior to the time specified in paragraph 4 of Schedule 2, you may notify us of the name or names of any of the proposed or proposed alternate Insured Institutions at which you do not want to make a deposit. Although you may direct us not to place funds at a proposed or alternate proposed Insured Institution, you cannot direct us to place funds at a specific Insured Institution or specify the amount to be placed at any Insured Institution. If you eliminate one or more of the proposed or proposed alternate Insured Institutions from the list, or If one or more of them becomes unavailable for placement for any reason, your funds will be placed at the Insured Institutions that were not eliminated. If a sufficient number of proposed and proposed alternate Insured Institutions are eliminated or become unavailable so that not all of your funds can be placed, only as much of your funds will be placed as can be deposited at the remaining Insured Institutions in CDs with principal amounts that, when aggregated with interest to accrue during the term of the CDs, will not exceed the SMDIA. Your remaining funds will not be allocated on the Order Allocation Date. In such case, we will inform you of the amount of your funds thatwlll not be placed, and you may request that we resubmit an Order for your unplaced funds on another Order Date by repeating the procedure outlined above. If in connection wilh any placement of your funds using CDARS, you eliminate a proposed or proposed alternate Insured Institution in accordance with the above procedures, funds that you subsequently submit for placement will not be placed in that Insured Institution until you notify us otheiwlse in writing. (f) Your Consent to Placement Your funds wlll not be placed unless you have consented to !heir placement. You will be deemed to have consented to the placement of your funds at the proposed or proposed alternate Insured Institutions as of the time specified In paragraph 4 of Schedule 2 if by that time you: (ij communicate your approval to us; (II) do not request the list of proposed and proposed alternate Insured Institutions fi"omus; (iii) request the list of proposed and proposed alternate Insured Institutions fi"om us, but do not respond to the proposed list; or (iv) respond to the list of proposed and proposed alternate Insured Institutions by eliminating one or more of the Insured Institutions, in which case you will be deemed to have consented to the placement of your funds at those Insured Institutions that you have not eliminated. (g) Time by Which We Must Have Your Funds; Settlement of Transactions Unless we have made other arrangements, each time that you agree to a placement of funds under this agreement you also agree that, by the time specified In paragraph 5 of Schedule 2, you will have In a deposit account with us immediately avallable funds, which under applicable law are Irreversible and are not subject to any lien, claim or encumbrance, equal to the amount of funds you have Informed us that you are seeking to place. On the Setttement Date, your funds wlll be deposited at Insured Institutions, paymenls to be made In connection with the placement of CDs will be made, and the CDs will be Issued. (h) Additions and Early Withdrawal No additions or amendments may be made to any CD. Insured Institutions Impose a penalty on wllhdrawal of a CD prior to Its maturity. However, no penalty will be charged for early withdrawal upon the dealh of an Individual who Is the sole account holder or joint account holder of the CD. This exception applies to an Individual who is the named account holder as well as an Individual who Is !he sole current mandatory or discretionary Income beneficiary of a trust, Including the sole current beneficiary of a unitrust or annuity trust Written verification acceptable to the Insured Institution that Issued the CD may be required in such an event. We will Inform you of the early withdrawal penalties appDcable to your CDs when you submit funds for placement. For a CD with a term of 4 or 13 weeks, the early withdrawal penalty is equal to 28 or 90 days, respectively, of simple interest calculated at the CD rate. The penalties for eariy withdrawal of 4 or 13 week CDs are equivalent to substantially all of the Interest that would have been earned over the full term and will invade principal. For a CD with a term of 26 weeks or longer, the eariy withdrawal penalty is equal to simple Interest calculated at the CD rate for approximately half the number of days in the full term. The penalties for early withdrawal of CDs with a term of 26 weeks and longer are equivalent to half of the interest that would have been earned over the full term and may invade principal. The current schedule of products available and applicable eariy withdrawal penalties may be viewed at www.CDARS.com/products. Pursuant to the Internal Revenue Code of 1986, as amended, !he beneficiary of an ·Individual Retirement Account ("IRA") (but not a Roth IRA) may Incur a penalty if the beneficiary does not begin making withdrawals fi"om the IRA after age 70-112. A CD held In an IRA ls not eligible for early withdrawal without penalty simply because the beneficiary must withdraw the CD to avoid a tax penalty. Eariywithdrawal of a CD maybe made only in whole, not in part. You may requesteariy withdrawal by contacting us, at which time you may specify which of your CDs you would like us to withdraw. If you choose not to specify which of your CDs to withdraw, early withdrawals will be made using an automated process that generates random selections based on amount In general, early withdrawal proceeds will be available to you two business days after we receive your early withdrawal request. CDARS and Certlflcate of Deposit Account Registry Service are registered service marks and Ooe-Way and Reciprocal are service marks of Promontory lnternnanclal Networl<, LLC. 12110b DI 3 7-10 Neither we nor Promontory will advance funds in connection wiih early withdrawals, and earty withdrawal proceeds will not be available to you until they are paid to us by the Insured Institution that issued the CD being withdrawn. (Q No Automatic Renewal or Rollover The CDs will mature on the date shown on the confirmation of CD Jssuance. Upon maturity, the principal amount of, and unpaid accrued Interest on, the CD will be paid to you. The CDs will not be automatically renewed or rolled over, and interest on the CDs will not continue to accrue after the maturity date. If upon maturity you wish to re-deposit your funds in CDs through CDARS, you must instruct us to re-submit the funds as a new placement or you must take advanlage of our preauthorized re-submission process as described In Section 30). OJ Preauthorlzed Re-submission At the time you submit funds to us for placement through CDARS, you may enter Into a written agreement with us to preauthorize terms for re-submission of those funds for placement through CDARS upon the maturity of your CDs. Unless we have entered into such a written re-submission arrangement with you, if you wish to re-submit your funds upon maturity of your CDs you must conlact us before we re-submit your funds through ,CDARS to establish the new terms (including interest rate and APY) and lhe other specifics of your Order for your re-submitted funds. (k) No Physical Certificates As set forth in Section 1, no physical certificate evidencing a CD will be Issued. You should not purchase a CD through CDARS If you need to take physical possession of a certificate. Section 4. Important Considerations (a} Compare Features You should compare the rates of return and other features of a CD to other available deposit accounts before deciding to purchase CDs using CDARS. Although the CDs are issued by oiher Insured Institutions. the rates of Interest paid on the CDs are determined by us based on Q) the interest rates and APYs we are willing to pay on deposits that we accept through CDARS on the Settlement Date (if your funds are placed by us through a CDARS Reciprocal Transaction) or (ii) the interest rate and APY !hat insured institutions that have requested funds through CDARS One-Way Transactions for that Settlement Date are willing to pay after paying fees to Promontory and us (If your funds are placed by us through a CDARS One-Way Transaction). These rates may be higher or lower than the rates on CDs available through a CDARS One-Way Transaction (If we are placing your funds using a CDARS Reciprocal Transaction) or a CDARS Reciprocal Transaction (if we are placing your funds using a CDARS One-Way Transaction) or on comparable deposits available direcliy from us, from Insured Institutions that issue the CDs using CDARS, from other Insured lnstHutions, or from Insured depository Institutions not participating In CDARS. '(b} Uninsured Deposits With Us (i) Except for funds you hold In certain noninterest-bearing transaction accounts as explained in paragraph Qi) below, funds you hold in one or more deposit accounts with us before placement using CDARS, or as a result of payments of interest or principal on CDs previously placed using CDARS, will be aggregated for FDIC insurance purposes with all other deposits you hold In deposit accounts wiih us in the same insurable capacity. As a result, the FDIC may not fully Insure such funds if the aggregate amount exceeds the SMDIA. You should discuss with us the options for holding your funds before placement and for having the payments on the CDs deposited with us or elsewhere. See Section 5 below, "FDIC Insurance lnfonnation.• If you cannot accept the risk associated with uninsured deposits in these or other circumstances, It will be your responsibility to make arrangements with us to have such funds collateralized, proteoted by a properiy executed repo sweep arrangement or otherwise adequately protected, In a manner consistent with applicable law. You should consult your legal advisor to determine whelher a particular collateralization arrangement is consistent with applicable law. (ii) From December 31, 2010, through December 31, 2012, the FDIC will fully insure funds you hold in a noninterest-bearing transaction account with us, without regard to the SMDIA, if (A) interest is neither accrued nor paid on the account, (B) the account is one from which we permit you to make withdrawals for !he purpose of making payments or transfers to third parties, and (C) we do not reserve the rig ht to require advance notice of an intended withdrawal from the account (c) Insolvency of an Insured Institution In the event an Insured institution approaches insolvency or becomes insolvent, the Insured Institution may be placed in a regulatory conservatorship or receivership in which the FDIC is typically appointed as conservator or receiver. The FDIC may thereafter pay off the CDs issued by that Insured Institution prior to maturity or transfer the CDs to another insured depository institution. See Section 5 below, "FDIC Insurance Information.• (d) Reinvestment Risk If your CD is paid prior to maturity as a result of the issuing Insured Institution's insolvency or a voluntary early withdrawal (see Section 3(h) above, "Additions and Eariy Wlihdrawal"), you may not be able to reinvest your funds at the same interest rate that you received on Iha original CD. Neither we nor Promontory is responsible to you for any losses you may incur as a result of a lower interest rate on an investment replacing your CD. (e) Investment Restrictions If you are subject to restrictions with respect to the placement of funds in depository institutions, it is your responsibility to determine whether the placement of your funds by us using CDARS satisfies !hose restrictions. For example, when placing funds for deposit using CDARS, some governmental unit depositors may be required by law or policy to place funds only using a CDARS Reciprocal Transaction, in which the institution placing the funds for deposit using CDARS receives funds for deposit in an amount equal to the amount offunds that was placed by the depositor using CDARS wiih respect to !he corresponding Order Date. When we place funds for deposit using a CDARS One-Way Transaction, we will not receive matching funds using CDARS. Section 5. FDIC Insurance Information (a} Deposit Insurance Coverage In general, and except as explained in Section 4(b) above, all accounts and deposits that you maintain wiih an Insured Institution in !he same insurable capacity (wheiher you are acting dlrecUy or through an intermediary) would be aggregated for purposes of the SMDIA. Insurable capacities Include lndMdual accounts, joint accounts and individual retirement accounts. A tax identification number is not evidence of, and does not establish, an insurable capacity that is separate fi'om another tax identification number used by the same person or entity. Upon request we will provide you with a copy of the FDIC brochure 'Your Insured Deposits-FDIC's Guide to Deposit Insurance Coverage.' You may also obtain information about deposit insurance coverage by contacting the FDIC, Office of Consumer Affairs, by letter (550 17ih Street, N.W., Washington, D.C. 20429), by telephone (877-275-3342, 800-925-4618 (TDD) or 202-942-3100), or bye- mail (dcalntemet@fdlc.gov), or by visiting the FDIC website at www.ldlc.gov. You may wish to seek advice from your own attorney concerning FDIC Insurance coverage of deposits held in more than one capacity. FDIC deposit insurance coverage applies to the principal and accrued interest on all CDs and other deposit accounts maintained by you In ihe same insurable capacity at a single Insured Institution. The records maintained by the Insured Institution, us and our sub- custodian regarding ownership of CDs will be used to establish your eligibility for federal deposit insurance payments in respect of CDs issued ihrough CDARS. Accordingly, it is necessary that you immediately report to us any changes In the CD ownership information that you originally provided to us in connection with the submission of your Order. We will inform the sub-wstodian of any changes in ownership of the CD, thereby assuring that the sub-custodian will have accurate information to provide to ihe FDIC in the event of the closure of the Insured Institution !hat Issued the CD. However, the FDIC could require you to provide additional documentation before insurance payments would be released to you. (b) Government Unit Deposits The requirements for deposit Insurance coverage of the deposits of the United States government, state, county and municipal governments and their political subdivisions; the District of Columbia and the Commonwealth of Puerto Rico are specifically set forth in regulations of !he FDIC (12 C.F.R. 330.15). in general, and except as explained in Section 4(b) above, such deposits will be insured up to the SMDIA, and individual departments and political subdivisions within a governmental unit may be eligible for separate insurance if certain requirements are met. The use of separate tax identification numbers by different departments or political subdivisions of the same governmental unit will not by itself cause the deposits of such departments or political subdivisions to be eligible for separate FDIC insurance. CDARS and Certificate of Deposit Account Registry Service are registered service marks and One-Way md Reciprocal are service marks of Promontory lnterflnanclal Network, LLC. 12/10b DI 4 7-11 It is the obligation of each governmental entity to determine whether the requirements for deposltinsurance have been met Neither we, Promontory, nor the Insured Institutions issuing CDs to you are responsible for uninsured losses resulting from placement of funds Iha~ are not eligible for deposit Insurance. (c) Deposit Insurance Payments In the event that deposit Insurance payments become necessary for your CDs, the FDIC is required to pay the original principal amount plus accrued interest to the date of the closing of the relevant Insured Institution, as prescribed by law, subject to the limits on FDIC deposit insurance coverage. No interest is earned on deposits from the time an Insured Institution is closed until Insurance payments are received. We wiU notify you if we receive any payments from the FDIC with respect to your CDs. As an alternative to a direct deposit insurance payment from the FDIC, the FDIC may transfer the Insured deposits of an insolvent Institution to a healthy institution. At that time you may be permitted to withdraw your funds from the transferred account without an early withdrawal penalty. Subject to Insurance verification requirements and the limits on FDIC deposit Insurance coverage, the healthy lnstitUtlon may assume your CD under Its original terms or offer you a choice between either receiving early payment of the CD without penalty or maintaining the CD at a different rate. If you choose to accept a new interest rate on the CD yo~ must terminate your custodial relationship with us with respect to that CD and establish the CD directiy with the acquiring institution. Thereafter, you will have no relationship with us 'with respect to the CD and will receive payments on the CD directly from the acquiring institution. We will advise you of your options in the event of a deposit transfer. As with all federally Insured deposits, If It becomes necessary for federal deposit insurance payments to be made on the CDs, there Is no specific time period during which the FDIC must make the Insurance payments available. Neither we nor Promontory will be obligated to make any payments to you In satisfaction of a loss you might incur as a result of Ol a delay in insurance payouts applicable to a CD, (ii) your receipt of a decreasad interest rate on an investment replacing a CD that is repaid prior to Its scheduled maturity, or OIQ payment In cash of the principal and accrued interest of a CD prior to maturity In connection with the liquidation of an Insured Institution or the assumption of ail or a portion of its depostt liabilities. Also, neither we nor Promontory will be obligated to advance funds to you prior to payment from the FDIC. Section 6. Responsibility to Monitor Deposits at Insured Institutions; Publicly Available Information Funds we submit for placement on your behalf on any Settlement Date are placed In CDs at enough different Insured Institutions to prevent the prtncipal amount and any interest to accrue over the term of each CD placed on that Settlement Date from exceeding the FD IC Insurance limit. It is your responsibility, however, to monitor the total amount of deposits that you hold with each Insured Institution In order for you to determine the extent of FDIC deposit insurance coverage available to you on deposits at that Insured 1nstitution, including the CDs Issued through CDARS. See Section 5 above, 'FDIC Insurance Information,' for more information on FDIC insurance coverage. The Insured Institution at which a depostt is made is responsible for the full amount deposited with ii, and neither we nor Promontory Is responsible for any Insured or uninsured portion of any CD or any other deposit Publicly available financial Information concerning the propqsed and proposed alternate Insured Institutions can be obtained by you at the website of the National Information Center of the Federal Reserve System maintained at www.ffiec.gov/nic/. Neither we nor Promontory guarantees the financial condition of any Insured Institution or the accuracy of any publicly available financial information about the Insured Institution. Section 7. Confidentiality of lnfonnatlon We will provide your name, tax Identification number and other pertinent Identifying information to Promontory, our sub-custodian, and other parties providing services In connection with the placement of your funds and the Issuance and holding of your CDs. We may also release such Information to (I) an Insured Institution that has Issued a CD to you, but only to the extent necessary to comply with any applicable law, rule, regulation or a judicial order, and Qi) the FDIC In connection with a claim for deposit insurance on your CD. You hereby consent to the release of that Information to and its use by (a) Promontory, our sub-custodian, and other parties providing services in connection with the placement of your funds and the issuance and custodying of your CDs, (b) Insured Institutions that have Issued CDs to you to the extent necessary to comply with any applicable law, rule, regulation or judicial order, and (c) the FDIC in connection with a claim for deposit insurance on your CDs. The Information will not be disclosed to other Insured Institutions except as set forth herein and will not be used by Promontory, our sub-custodian, or any other parties to whom we release the Information for any other purpose except as set forth herein or directed by you. Nothing In this section shall be deemed to prevent us from disclosing Information to a third party If required by law. Section 8. Disputes Any disputes arising out of or in connection with this agreement will be governed by the dispute resolution, arbitration, choice of law, venue, waiver of jury trial, and costs related to dispute provisions, if any, contained in your Custodial Agreement with us under which we act as custodian for your CDs. Section 9. Miscellaneous Any Information we are required to deliver to you pursuant to this agreement may be given to you by mall, facsimile or other electronic transmission. Except as otherwise provided herein, this agreement: • constitUtes the entire agreement between us relating to the placement of deposits through CDARS and the other matters contained herein, • supersedes all prior contracts or agreements relating to the placement of funds through CDARS, whether oral or written, and • may not be amended by any oral representation made or oral agreement reached after the execution of this agreement. We may amend this agreement or any related document prospectively by modifying or rescinding any of Its existing provisions or by adding any new provisions at any time by sending written notice of the amendment to you. As provided in Section 3(h), no additions or amendments may be made to any CD. We will provide written notice of an amendment to this agreement by means of a letter, an entry on your account statement or other means. Any amendment will be effective as of the date established by us in the wrttten notice of the amendment, subject to applicable law, provided that any amendment may not become effective unUI ten days after the written notice has been sent by us. This agreement is not assignable, in whole or in part, by either party except by operation of law or as required by law. The headings in this agreement are inserted for convenience and identification only, and are not Intended to describe, Interpret, define or limit the scope or Intent of this agreement or any clause hereof. [remainder of page intentionally left blank] CDARS and Certificate of Deposit Account Registry Service are registered service marks and One-Way and Reciprocal are service marks of Promontory lnlerflnanclal Network, LLC. 12/10b DI 5 7-12 By signing below, you acknowledge that you have received this agreement that the information you have provided us ls corre~ that you have read and understood this ag(eement and that you were given the opportunity to ask us any questions you may have had with respect to this agreement the transactions contemplated by it, the CDs and FDIC Insurance coverage of the CDs and deposits maintained with us. Ocheck this box if you are a governmental unit or other depositor and wish your funds to be placed only through CDARS Reciprocal Transactions. DEPOSITOR(S) Name of Depositor: ________________ _ By: __________________ _ Name: ___________________ _ Tille: ___________________ _ Depositor U.S. Tax ID: _______________ _ .Tax ID Type:------------------ If you do not have a U.S. Tax ID, enter an alternate ID•:-------- Alternate ID Type: _________________ _ Signed this ____ day of _________ , 20 __ _ Name of Depositor:----------------- By:-------------------Name: ___________________ _ • Title: ___________________ _ Depositor U.S. Tax ID: _______________ _ Tax ID Type:------------------- If you do not have a U.S. Tax ID, enter an alternate ID•: _______ _ Alternate ID Type: _________________ _ Signed this ____ .day of _________ , 20 __ _ DEPOSITORY INSTITUTION (Print Name of Institution) By. ____________________ _ Name: ___________________ _ Title: __________________ _ . Acknowledged this __ day of, _________ , 20 __ _ *If you do not have a U.S. Tax ID you must use this same alternate ID for all CDARS transactions with all Institutions. If you subsequenily obtain a U.S. Tax ID you must promptly Inform us and other Institutions so that your correct information can be recorded for tax reporting, CDARS document tracking and FDIC purposes. SCHEDULE 1 INITIAL LIST OF INSURED INSTITUTIONS AT WHICH YOU DO NOT WANT TO MAKE A DEPOSIT {ATTACH ADDITIONAL PAGES AS NECESSARY) - Please include the city and state of the Institution's main office (rather than the city and state of a branch location). You may include the institution's routing number and/or FDIC certificate number, If you have this Information. Name of Institution City and State Name of Institution City and State Name of Institution City and State Name of Institution City and State Name of Institution City and State Name of lnstituUon City and State Name of Institution City and State Name of Institution City and State Name of Institution City and State Name of Institution City and State SCHEDULE2 IMPORTANT TIMES AND DEADLINES IN CONNECTION WITH THE PLACEMENT OF YOUR FUNDS This schedule contains important times and deadlines with respect to the placement of your funds. These times may change fi'om time to time or on any particular Order Date or Order Allocation Date (which are currenUy the same business day), and we will inform you of any change in times, as applicable, before you submit your funds for placement. You may also obtain Information about any changes to times set forth in paragraphs 2, 3 and 4 below or about any scheduling change resulting In the Order Allocation Date taking place on the business day immediately following an Order Date at www.CDARS.com/producls. 1. Time and day by which your request to have your funds placed must be submitted: _ ____ on ______ _ 2. Time and day by which we must submit your Order to Promontory: 1:00 p.m. ET on the Order Date. 3. Time and day at or after which you may obtain the list of names of the Insured Institutions at which your funds are proposed to be placed: 3:00 p.m. ET on the Order Allocation Date. 4. Time and day by which you must inform us of the name or names of any proposed Insured Institution at which you do not want to make a deposit: 4:00 p.m. ET on the Order Allocation Date. 5. Time and day by which we must have your available funds on account _____ on ______ ~- CDARS and Certificate of Deposit Account Reg Isby Service are registered service marks and One· Way and Reciprocal are service marks of Promontory lnterflnanclal Network, LLC. 12/10b DI 6 7-13 EXHIBIT "B" Custodial Agreement GENERAL AGREEMENT FOR CUSTODY OF CERTIFICATES OF DEPOSIT FOR INDIVIDUAL(S), TRUSTS, BUSINESS ENTITIES AND OTHERS To: [Depository Institution] Please hold In safekeeping, and act as custodian with respect to, all time deposils Including, but not limited to, certificates of deposit (all such time deposits will be referred to herein as 'CDsj issued pursuant to the CDARS Deposit Placement Agreement between you and the undersigned for funds of the undersigned placed through the Certificate of Deposit Account Registry Servica-. It is agreed between us as follows: For purposes of Article 8 of the Uniform Commerclal Code as adopted In , you will act as the undersigned's securities intermediary with respect to, and will treat as financial assels, any CDs you hold for the undersigned. You are authorized to collect for account of the undersigned all interest and other paymenls of income or principal pertaining to the CDs unless they are payable directly to the undersigned; to surrender for payment maturing CDs and those called for redemption; to endorse on behalf of the undersigned for the above purposes all checks and other instrumenls requiring endorsement; to cause the CDs to be registered in your name or in the name of your nominee if you consider it desirable; to deliver or transfer the CDs to another account with you as the undersigned may from time to time Instruct; to receive the CDs for account of the undersigned; to place orders for the purchase of the CDs, on the Instructions of the undersigned and to pay for the same provided the undersigned has funds on deposit wlth you or arranges to make funds available In advance for such purpose; and to execute and deliver or file on behalf of the undersigned ail appropriate receipts and releases and other instruments, including whatever certificates may be required from custodians or may be necessary to obtain exemption from taxes and to name the undersigned when required for the purpose of the instrument. Instructions may be given orally or in writing. The following are authorized to give Instructions on behalf of the undersigned. (Check all that apply.) The undersigned (Individual or partnership). Any of the following individuals. (List names and legal capacities.) Any __ of the following officers and their respective successors In office. (List names and their titles.) The undersigned, or the undersigned's account, is one of the following: _ · __ individual ___ Joint ___ Sole Proprietorship ___ Partnership ___ Corporation ___ Public Unit Depositor ___ Custody ~ncluding guardian, agent, nominee or conservator) ___ Payable Upon Death Account ___ Irrevocable Trust ___ Other ________ _ You may comply with any writ of attachment, execution, garnishment, tax levy, restraining order, subpoena, warrant or other legal process that you believe (correctly or otherwise) to be valid. You may notify the undersigned of such process by telephone, electronically or In writing. If you are not fully reimbursed for your records, research, photocopying and handling cosls by the party that served the process, you may charge such cosls to the undersigned's account, in addition to any minimum fee you charge for complying with legal processes. You may honor any legal process that is served personally, by mail, or by facsimile transmission at any of your offices or an office of your agent (including locations other than where the funds, records or property sought Is held}, even If the law requires personal delivery at the office where the undersigned's account or records are maintained. You shall have no liability to the undersigned for any action taken or omitted by you hereunder in good faith. The undersigned agrees to indemnify you and your nominees againsi and to hold you and them harmless from, all expenses (including counsel fees), liabilities and claims arising out of the holding, delivery or transfer of the CDs and compliance with any legal process that you believe (correctly or otherwise) to be valid. The undersigned agrees to pay any service charges Imposed by you on this custodial account. This agreement may be terminated at any time at the option of either party, provided, however, that any termination by you will not become effective until the end of the term of any CD in your safekeeping at the time you notify the undersigned of your Intention to terminate this agreement. DEPOSITOR(S) Name of Depositor: _________________ _ Bf.------------------~ Name: ____________________ _ Title: ___________________ _ Slgnedthis ____ d.ayof __________ , 20 __ _ Name of Depositor: ________ , _________ _ Bf.----------------------Name: ____________________ _ Title: ____________________ _ Signed this ____ day of _________ , 20 __ _ DEPOSITORY INSTITUTION (Print Name of Institution) By:-------------------Name: ____________________ _ Titie: ____________________ _ Acknowledged this __ day of _________ , 20 __ _ [NOTE: If the depositor Is a corporation, the following certificate should be signed by an appropriate officer of the depositor other than the one signing the form of custodial agreement.) _____________________ [name], ____________ [titie of office] of the above named corporation signing the foregoing custodial agreement, hereby certify that I am personally familiar with ail instrumenls and records relating to the organization and operation of the corporation and the meetings and proceedings of ils stockholders and ail boards and committees entrusted with ii!Uthorily in the management of ils affairs; by corporate action taken in conformity with such instruments and records and appearing from sald records to be sml In force, the foregoing custodial agreement was authorized to be signed and delivered on behalf of said corporation; and each of the persons signing on behalf of said corporation Is the qualified holder of the office given opposite his/her signature and was authorized to sign the said custodial agreement In that capacity. Signature: -------------------- CDARS and Certificate of Deposit Account Reglstiy Service ara registered service marks and One-Way and Reciprocal are service marks of Promontory lnterllnanclal Network, LLC. 12/10b DI A-1 ;. 7-14 EXHIBIT "C" CITY OF RANCHO PALOS VERDES, RANCHO PALOS VERDES REDEVELOPMENT AGENCY AND RANCHO PALOS VERDES IMPROVEMENT AUTHORITY FY13-14 INVESTMENT POLICY OBJECTIVES The City of Rancho Palos Verdes, Rancho Palos Verdes Redevelopment Agency and Rancho Palos Verdes Improvement Authority (hereafter referred to as "City") strive to maintain the level of investment of all idle funds as near 100% as possible through the optimum operation of its cash management system. The City has determined that its investment criteria, listed in order of priority, are safety, liquidity and yield. DELEGATION OF AUTHORITY The City has designated the Director of Finance and Information Technology as Treasurer of the City, the Successor Agency to the former Redevelopment Agency and Improvement Authority (hereafter referred to as City Treasurer). The City has delegated the authority to invest to the City Treasurer, subject to the limitation set forth in the Investment Policy. The City Treasurer shall be trustee and fiduciary on behalf of the City. If the City Treasurer is unavailable, the City has delegated authority to the City Manager, also designated as the Executive Director of the Successor Agency to the former Redevelopment Agency and Chief Administrative Officer of the Improvement Authority, to conduct transactions in connection with the investment of the City's funds. INVESTMENT INSTRUMENTS The City can invest in the following investment instruments as approved by the California Government Code: 1. Demand deposits and money market savings accounts totaling a book balance up to five million dollars ($5,000,000) with the Bank of America or any other financial institution approved by the City Council; provided, however, that not more than 15% of the City's funds are on deposit at said bank. Demand deposits and money market savings accounts may exceed five million dollars ($5,000,000) or 15% of the City's funds for no more than thirty (30) days if the accounts are to hold monies being transitioned between investment instruments listed in the Investment Policy. 2. The Local Agency Investment Fund (LAIF) administered by the Treasurer of the State of California. 3. Certificates of Deposit, which are insured by the Federal Deposit Insurance Corporation, including certificates of deposit placed through the Certificate of Deposit Account Registration System ("CDARs") as authorized by Government Code Section 53601.8 through 53635.8 (enacted by AB 2011 in September 2006). 4. Securities backed by the full faith and credit of the United States 7-15 Government and which mature in three years or less. 5. Money Market Savings Accounts and demand deposits with institutions other than those specified in paragraph 1 above, provided that no deposit made pursuant to this paragraph in any one institution shall exceed the amount insured by the Federal Deposit Insurance Corporation. 6. Shares of "money market funds", which are sold without any sales commission or sales charge of any kind (true no load funds), which limit investment to securities issued by (or guaranteed as to both principal and interest by) the United States, which are issued in the City's name and are rated in the highest ranking or numerical rating by at least one of the nationally recognized statistical rating organizations (not to exceed 15% of the total portfolio). 7.' Repurchase agreements with Bank of America, or any other financial institution approved by the City Council, which meet the following standards: A. The securities subject to the repurchase agreement shall be issued by the United States Government or be backed by its full faith and credit. B. The term of the repurchase agreement shall be 7 days or less. C. The aggregate total of the funds deployed in the repurchase agreements shall not exceed 15% of the City's portfolio. D. The securities, which are the subject of the repurchase agreement, shall be held in the trust department of the bank entering into the repurchase agreement pursuant to a written agreement providing for the segregation from assets of the bank. The listed investments are the only authorized investments for the City. POLICY CRITERIA FOR SELECTING INVESTMENTS (IN ORDER OF PRIORITY) SAFETY: Safety, and the minimizing of risk associated with investing, refers to attempts to reduce the potential for loss of principal, interest, or a combination of the two. The first level of risk control is reduction of default risk by investing in instruments that appear to be the most credit worthy. The second level of risk control is reduction of market risk by investing in instruments that have relatively short maturities, thereby eliminating risk of loss from a forced sale. The City only invests in those instruments that are considered very safe. LIQUIDITY: Liquidity refers to the ability to easily sell at any time with minimal risk of losing some portion of principal or interest. Liquidity is an important quality for an investment to have, for at any time the City may have unexpected or unusual circumstances that result in larger disbursements than expected, and some investments may need to be sold to meet the 7-16 contingency. Most investments of the City are highly liquid, with the exception of insured Time Certificates of Deposit issued by banks and savings and loan associations whose maturities are selected in anticipation of disbursement needs, thereby obviating the need for forced liquidation or lost interest penalties. YIELD: Yield is the potential dollar earnings an investment can provide, and also is sometimes described as the rate of return. The City attempts to obtain the highest yield possible when selecting an investment, provided that the criteria stated herein for safety and liquidity are met. POLICY CONSTRAINTS AND GUIDELINES The City of Rancho Palos Verdes operates its investment program according to the prudent Investor standard with many additional, self-imposed constraints. The Treasurer shall act with the care, skill, prudence and diligence to safeguard principal and maintain liquidity. The Treasurer shall: (1) not speculate; (2) not buy corporate debt securities; (3) not deal in futures or options; (4) not purchase on margin or through reverse repurchase agreements; (5) not buy long term securities; and (6) not acquire any investment expressly prohibited by State statute. REPORTS PROVIDED BY THE TREASURER The Treasurer shall annually render a Statement of Investment Policy to the City Council for their approval, and this policy shall be in compliance with all applicable State statutes. The Treasurer shall render a monthly report of cash balances to the City Manager and City Council showing the type of investment, date of purchase, custodian (if applicable), institution, date of maturity, amount of deposit or purchase price, current market value for all securities, and rate of interest. The report shall also include a description of any of the City's funds, investments, or programs that are under the management of contracted parties. The monthly Report of C~sh Balances shall state its relationship to the Investment Policy by indicating each and every instance that there is a divergence from, or violation of, policy or stating that the monthly report is in compliance with the Investment Policy. INVESTMENT AUDITS AND INVESTMENT POLICY EVALUATION As a part of the City's annual independent audit, there shall be a review of the City's Investment Policy regarding compliance with the Policy guidelines. These review procedures will be performed in conjunction with the internal control testing applied to City policies. Any discrepancies will be reported directly to the City Council in the auditor's management letter issued upon the completion of their examination. INVESTMENT GUIDELINES Cash Availability Guidelines: 7-17 1. A cash flow analysis shall be developed as necessary which will serve as a basis for determining the cash available for investment and maturity dates needed to cover future disbursements. 2. Revenue receipts are consolidated into one bank account and invested on a pooled concept basis. Interest earnings are allocated according to fund cash and investment balances. 3. Active bank balances are kept as low as possible without jeopardizing good banking relationships by maintaining investment of available cash as near to 100% as possible. 4. Sufficient funds are maintained in very liquid investments to meet most unexpected contingencies. Investing Guidelines: 1. Only investments authorized by the Investment Policy are utilized. 2. A copy of the Investment Policy should be given to each financial institution with which the City does business, and the City will request an acknowledgement not less than annually that such financial institution has received and reviewed the Policy. 3. Before an unfamiliar security is purchased, the issuer and the instrument are researched and investigated and all contractual agreements and administrative procedures are completed before any transactions are consummated. 4. The City does not permit the purchase of securities on margin or via reverse repurchase agreements (using the security to be purchased as collateral). 5. Every investment transaction is documented and the procedure for monitoring is clearly defined. 6. Investment strategies are reviewed by the City Treasurer for possible need to change at least annually. They are reviewed more frequently as changes in economic conditions dictate. Guidelines for certain Types of Investments: California State Local Agency Investment Fund A resolution is on file with the State Treasurer that permits maintaining an account in LAIF. Custody Custody of investments in securities backed by the full faith and credit of the United States Government shall be placed, pursuant to a written custody agreement, with Bank of America or any other financial institution approved by the City Council. 7-18 INTERNAL CONTROL OBJECTIVES FOR INVESTMENTS Internal control for investments is the procedure established by management of the City to assist in ensuring as far as practicable: 1. An orderly and efficient conduct of investing, including adherence to investment policies. 2. The safeguarding of assets. 3. The accuracy and completeness of the accounting records for investments. 4. The timely preparation of reliable financial information. 5. The prevention of errors. 6. The detection of fraud. Elements of Internal Control of Investments: Adherence to the use of sufficient elements of a system of internal control is the method by which the City can satisfy the objective of internal control. A list of sample elements follows: 1. Responsibility Specific responsibility for the performance of duties should be assigned and lines of authority and reporting clearly identified and understood. 2. Segregation Segregation of functions reduces the risk that a person is in a position to conceal errors. If two different people process the components of a transaction, collusion is necessary to conceal errors or fraud. In particular, the functions that should be considered when evaluating segregation offunctions are authorization, execution, recording, and performing reconciliations. 3. Authorization Only the appropriate responsible individual shall authorize all transactions. The responsibilities and limits of authorization should be clearly delineated. Delegation of authority to authorize transactions should be handled very carefully. 4. Transfers of Investment Funds The transferring of investment funds will be carried out exclusively by use of the Federal Reserve Bank's electronic wire transfer system. Each Banker or Dealer with which the City does business shall receive in writing from the City Treasurer a listing that limits transfers of funds to pre-authorized bank accounts only. 7-19 The listing will also contain the names of City staff authorized to request such transfers and will be updated in writing for all changes of authorized staff and bank accounts as necessary. Transfers from one account of the City to another shall require the request of only one authorized staff member. Transfers from the City's account to third parties shall require the request of two authorized members. 5. Recording The recording system should provide that the recording procedures, both manual and computerized, be carried out independently of the individual doing the investment execution to help assure that recorded transactions are complete, valid, authorized, and properly recorded. Signed: ___________ _ Treasurer 7-20 4A MAGIS AD~ISORS publ!c finance conaulclng To: Mr. Dennis Mclean Ms. Kathryn Downs City of Rancho Palos Verdes From: Tim Schaefer Date: July 9, 2010 EXHIBIT "D" Re: Possible migration of City's banking relationship or services .· ISSUE PRESENTED MEMORANDUM COPY You have posed the following question to us: «should the City consld~r altering its banking relationship in order to better support local banks?" We believe that this may be unnecessary. SUMMARY The City may wish to consider an alternative as an interim step. The alternate proposal involves a program that we have discussed with you in the past -placement of time deposits using the "certificate of deposit account registry service" (or "CDARS"). Using this approach may enable the City to accomplish the goal of a modest diversification of Its deposit exposure without incurring the staff time and expense required to accomplish a wholesale review of its banking relationship at this time. It is our view that the transfer of a major portion of the City's balances to another institution might be costly, both in terms of what it pays for banking services and the amount of staff time and effort needed to accomplish the move. Such a move should be undertaken only when there is relative certainty that the move will enhance the City's safety or efficiency In Its treasury operations. Additionally, City staff has advised us that annual fees for the current banking relationship are about $7,000, and that they are generally satisfied with the services provided by Bank of America. The c~rrent legislative and regulatory environment Is In flux. Accordingly, it is not possible to evaluate improvements to safety or efficiency at this time. Nevertheless, we have attempted to identify some of the Issues that the City might face should it decide to elevate the discussion. We have also suggested some protocols it may wish to institute to enable an objective review of the situation, though it Is the establishment of the protocols that is most difficult due to the factors discussed next. There are significant changes in store for banking regulation arising from the pending enactment of the financial reform bill {now known as the "Dodd-Frank blll") that would leave the financial services industry largely intact, but which would create a much larger network of regulation that would 1301 Dove Street, Suite 380 Newport Beach, California 92660 Telephone: (949) 428-8363 00108234.DOCX 7-21 Memorandum to Mr. McLean and Ms. Downs Re: Possible migration of City's banking relationship or services July9, 2010 Page2 COPY presumably reduce the likelihood of another financial crisis similar to the one that began in late 2008. The bill's final passage is expected within the next several weeks. It Is widely expected to set off a rush of activity: two long-standing bank regulators would be combined; and, regulators would have to launch more than 20 stt;:lies on controversial topics such as limiting the risky activities of big financial firms and ~ettlng precise .capital reserve standards for banks. It Is this last feature that provokes our caution in making a move at this time. A more complete discussion and rationale follows. How SHOULD RANCHO PALOS VERDES PROCEED? It Is clear that the likely battle over financial reform will now move from the Congress to the regulatory network - a major portion of which hasn't even been created yet. That is why we have concluded what the Ch~ir .of the Federal Deposit Insurance Corporation concluded many months ago -smaller institutions represent greater risk for uninsured deposits than do the larger ones. It may be lamentable, but it is true. So, how should the City proceed in the meantime? BACKGROUND Public agencies use a wide variety of banking services. . Among them are deposits (including direct deposits), automated disbursement and collection programs, and safekeeping of public funds. Until the 1970s, most public agencies' treasury functions were limited to making sure that the bills were paid on time. Excess cash was typically left idle in the checking account. If investing was being done, it was usually confined to placement of excess funds Into certificates of deposit at local banks. During the high Interest rate environment of the late 1970s and early 1980s that changed. Today, a public agency's bank provides a wider array of services and the treasury function has become much more sophisticated and time consuming. Recent developments in banking technology have made a significant difference in the way public agencies manage their cash -both in the banking system and In their related investment activities. The use of day-to-day electronic transactions based on pre-arranged agreements between the City and its vendors and other public agencies is commonplace. This Is the case with virtually all public agencies. To remain effective, these activities must be closely coordinated. The banking system Is experi.enclng turmoil unlike any.seen since the Great Depression of the 1930s. In 2010, for example, 86 banks have failed since January 1st -an increase of more than 90% by number over the equivalent period In 2009. In the full year 2009, the FDIC reports that there were there were 140 bank failures nationwide versus just 25 failures in 2008 and only 3 in 2007. The collapse of the housing market, and the increase in mortgage delinquencies and home foreclosures, coupled with the more stringent credit standards {including standards that banks impose on one another) have all led to this dramatic Increase. The typical pattern of bank failures today Involves the erosion of risk-based capital coupled with mounting loan losses primarily from residential mortgages and, more recently, from commercial loans. The number of FDIC "problem banks" and financial institutions on the FDIC's "watch list'' rose to 775 at the end of the first quarter 2010 -an alarming increase. 7-22 ,• •· Memorandum to Mr. Mclean and Ms. Downs Re: Possible migration of City's banking relationship or services July9, 2010 Page3 COPY This is a significant phenomenon for depositors such as the City, and in particular for depositors seeking alternatives in smaller institutions. So long as those alternatives enjoy deposit insurance from the FDIC, there is no impediment to using these smaller organizations. However, in the City's case, its probable funding need would exceed the limits of readily available deposit insurance. A former California banking regulator, Walter Mix, was quoted in an article in February saying: "Banks are lending at a minimum, as problem assets are worked out and recapitalization occurs." "Most Cease and Desist Orders are for small and mid-sized banks, another indicator of where these failures are occurring," Mix said. Fears of "contagion" from major bank failures led the Federal government in 2009 to increase avallablllty of deposit insurance and to effectively nationalize several of the U.S.' major banks, including the City's' P.rimary deposit bank -Bank of America. Eight major institutions {nine if you count Merrill Lynch, now part of BofA) received funds from the Treasury characterized as "bolstering healthy banks" to enable them to weather massive liquidity challenges. Despite this characterization of "healthy," Bank of America also required additional government aid to help it cover the massive losses resulting from its acquisition of Merrill Lynch when that transaction closed in early 2009. This stabilization maneuver produced a corresponding increase in the credit ratings of these major banks. Today, in our opinion (and that of many other market participants) Bank of America's ratings remain at least several levels above where they would be without the massive government support that was infused into them in late 2008 and early 2009. The prevailing wisdom on Wail Street, echoed by the rating agencies, Is that "too big to fail" is now an embedded fact, regardless of the passage of the Dodd- Frank bill. This "fact'' has been publicly acknowledged by Sheila Bair, the FDIC Chairman. In late 2009, Bair warned that small community banks were struggling to compete against behemoths such as Citigroup and Bank of America. She specifically cited the $700 billion bank bailout as "proof' that Federal government is willing to spend whatever it takes to keep the biggest banks from going under. "'Too big to fall' has become worse," Bair told USA TODAY. "It's become expllclt when It was Implicit before. It creates competitive disparities between large and small Institutions, because everybody knows small Institutions can fall. So it's more expensive for them to raise capital and secure funding." [emphasis by this writer] That is the essence of the problem facing the City. Migration of Its banking relationship away from one of the "too big to fail" banks would trigger a requirement for a surveillance system that is not yet developed and the architecture of which cannot be determined until regulatory requirements are better understood. RATIONALE The general theory of safeguarding public deposits places greater importance on the safety of those deposits than is usually sought by private sector depositors. For that reason, in California (as well as many other states) public deposits must be secured by collateral. Federal law imposes certain 7-23 .. •· Memorandum to'Mr. Mclean and Ms. Downs Re: Possible migration of City's banking relationship or services July 9, 2010 Page4 COPY limitations on collateral arrangements between public sector depositors and their depository institutions. These arrangements have failed In the past -most recently in the Orange County bankruptcy fiasco in 1994. These failures left some public agencies unclear about their right to the collateral interest in the pledged securities. The control of collateral against public deposits is much more complex than it appears. Monies move In and out quickly, and the collateral itself is subject to market value risk. For those reasons, many public agencies combine several security features into their banking and depository relationships. These security features usually rely on a combination of deposit insurance, collateralization and a surveillance system over risk exposures to depository institutions. The Government Finance Officers Association has recognized many of these features In a "best practice" for collater~lization of public deposits, most recently updated in 2007. To accommodate this confusing, and at times conflicting, set of needs, many public agencies develop fairly elaborate systems of risk control. These programs generally include a stated policy toward risk management. However, these policies and procedures come with a cost -sometimes a significant cost. Policies and procedures must be developed and vetted. Staff must be trained and oriented to the policy goals. Time and systems must be dedicated to the maintenance of these protocols. Larger agencies normally have staff resources sufficient to develop a degree of specialization needed to manage these processes. Many smaller agencies find this very difficult, particularly in stressful budgetary times. For that reason, we have advised you to proceed cautiously in the development of these practices and policies, recognizing that the need for safety is paramount, but that staff resources are already very thin. In short, the "gain" from the change must justify the cost, both Initial and ongoing. RECOMMENDATIONS Should you decide to proceed in this manner, we recommend that you consider using a variation of the GFOA's best practice for procurement of banking services. Included in the criteria for selection of a depository institution Is the evaluation of the relative benefits and costs of paying for banking services through direct fees, compensating balances, or a combination of the two. This best practice also recommends that a public agency conduct a comprehensive evaluation of Its needs and systems prior to issuance of a request for proposals or solicitation of alternate depositories. The variety of services to be considered Is listed in the best practice, a copy of which Is attached to this memorandum. In addition to the matters discussed in the GFOA best practices, we believe that the following elements should be also be considered for incorporation Into the City's policy guidance: 1. A framework for adequate protection of City funds that considers maintaining accounts only with commercial banks that meet or exceed Federal regulatory capital requirements; and 2. An institutionalized procedure for reviewing the financial condition and performance of all of the City's depositories; and 7-24 Memorandum to'Mr. Mclean and Ms. Downs Re: Possible migration of City's banking relationship or services July9, 2010 COPY Page 5 3. Establishment of a system for recognizing early warning signs or problematic developments in the bank's financial health to include capital ratio, leverage or balance sheet trends, and significant changes in the loan portfolio. The new procedures might include: ./ Periodic review of the bank's "call reports" (Consolidated Reports of Condition and Income) as submitted to the Federal Financial Institutions Examination Council (or whatever successor may be designated as a result of changes in the law or regulation arising from Dodd-Frank). This ~xamination should also track loan delinquency rates and charge-offs . ./ 'Periodic review of the bank's compliance with public agency collateralizatlon requirements. This might entail review of the "local agency securities report" from the bank's third-party custody bank or agent to confirm compliance . ./ Active, regular inquiry to the bank's management and/or regulators as to whether the bank is subject to any "_regulatory agreement," "memorandum of understanding," "cease and desist order," or "prompt correction required" notice from any regulatory agency • ./ Examination of the feasibility or desirability of engaging an independent bank rating agency (i.e. Sheshunoff, Bauer, etc.). {In the absence of engagement of an Independent rating agency, consider developing a system to track the capital ratios used in the industry. The three principal ratios presently in use are: "total risk-based capital; "Tier 1 risk-based capital;" and "the leverage ratio.") ./ At least an annual review of the reports of the bank's Independent accountants, with particular emphasis on discussions about material weaknesses in internal control over financial reporting. As you can imagine, the commitment of staff time and resources to management of these risks can be quite significant. That is the reason many smaller municlpalltles avoid greater diversification and rely instead on combining deposit insurance with collateralization. This seems particularly relevant to the City. You may wish to consider, for example, establishing a way to estimate the cost-effectiveness of a change in your banking relationships in a manner similar to the way we've advised you to think about numerous diversifications of other treasury functions: If the diversification Isn't producing measurable results In terms of saving you time or money (or improving safety), they arguably may not be worth the effort. We also strongly encourage a careful review of the mechanics of a transition to new depository banks. At the minimum, the solicitation of additional depository banks should also consider the time and expense associated with the following: ./ Compatibility of the bank's balance and transaction reporting services; 7-25 ~· Memorandum to.Mr. Mclean and Ms. Downs Re: Possible migration of City's banking relationship or services July9, 2010 COPY Page 6 ./ The bank's methods for digitizing paid checks and statements and the maintenance system for the digitized files; also, there should be some agreement about the duration of the bank's storage of these files and the manner in which City Staff can access the data; ../ The bank's system for on-line access to paid checks, deposits, stop payment orders, post- dated check cancellations, securities safekeeping records, custody reports for held securities (Including collateral securities) and the like; ./ Reconciliation of statements and compatibility with the City's existing accounting system; ../ ACH filtering and blocking services a~d the process for managing them; ../ The bank's methods for re-presentation of rejected items such as checks and drafts . returned for "Insufficient funds'' and the manner In which the City Is advised of these Items; '../·, The cost or re-programming or re-printing the City's checks, merchant terminals (for credit cards), and payroll vendors (presently about six); ../ The availability of a "blanket" credit arrangement for certain charge cards carried by selected City employees, Including the willingness of the selected bank to approve unsecured credit in the appropriate amount to handle this need; ../ The migration of electronic payment and deposit instructions for the California Treasurer's Local Agency Investment Fund, the United States Treasury Direct investment program and similar payment and deposit Instructions with the City's various counter-parties; and, ../ The process for managing arrangements the City has with depositors of funds (other than itself) so that incoming funds can be properly identified and credited promptly to the City's accounts. We recognize that the steps described here are unlikely to be feasible now. Indeed, the recommendation to be patient with the unfolding situation In Washington argues against sudden, ad hoc moves. Nevertheless, there are some tools at the City's disposal that could enable it to diversify Its deposits relationship to a minor degree immediately, pending outcome of the larger treasury review. Those tools include use of the "certificate of deposit account registry service" or "CDARS" deposit placement service for reserves or excess ~unds that are already being invested elsewhere. This matter is summarized at the beginning of this memorandum. CDARS is a program offered by nearly 3,000 member financial institutions of the CDARS network and is designed to provide investors the benefit of FDIC insurance for deposits up to $50 million. Currently the FDIC insurance maximum is $250,000 per depositor (effective through Dec. 31, 2013). CDARS maturities range from four weeks to five years. The depositor enters into a CDARS "deposit placement agreement" with a gateway member of the CDARS network. The gateway member, in turn, places the deposited funds with other members of the CDARS network, taking care to keep the deposited increments below the FDIC insured maximum deposit. The gateway bank then consolidates the information on ail of the individual deposits and furnishes a single statement of account to the depositor to simplify bookkeeping. {The mechanics of the placement involve issuance of a number of individual certificates to the gateway bank as the custodian of the depositor's funds, and a third-party, who acts as a "sub-custodian" of the 7-26 Memorandum to.Mr. Mclean and Ms. Downs Re: Possible migration of City's banking relationship or services July 9, 2010 Page7 COPY funds.) The CDARS program Is specifically authorized under state law (AB 2011, enacted September 2006) and is being used by a number of public agencies throughout californla. CDARS does exhibit some characteristics that should be considered before investing. Included in these considerations are: (a) "breakage" penalties. for early withdrawals; (b) Inherent llllquldity (CDARS certificates are deposits -not securities -there is no secondary market, they are not negotiable, they are .not OTC eligible, etc.); (c) the risk of payment delays -the FDIC is under no obligation to return an insured depositor's funds at maturity -Its obligation Is to pay the Insured bank, who then pays the depositor; and, (d) the risk of failure of the gateway bank. This last caution should be carefully evaluated before using CDARS to a significant degree. While FDIC insurance remains In force, the failure of a gateway bank could introduce the remote possibility of minor payment delays while the FDIC establishes the right of the CDARS account holder to the funds on the gateway's books. Though this doesn't create risk of loss of the principal, there is the minor risk of loss of earnings and the potential for temporary illiquidlty while the FDIC sorts things out. Of these risks, the primary one to consider is the liquidity matter. Prudent management of public funds relies on the mantra of "safety, then liquidity" before even considering "yield." CONCLUSION 1. We recommend that the City consider the CDARS program now as an interim diversification measure; 2. We recommend that the City maintain Its current cash management and primary depository relationship, assuming no further deterioration In financial condition of the City's primary bank until the regulatory environment becomes more clear; 3. We recommend that the City begin gradual development of a framework for monitoring its banking relationship in a manner consistent with the GFOA recommendations cited above in order to be ready for changes in the regulatory environment and/or a change of primary depository; 4. We recommend that the framework for evaluating risk exposure to depositories not be finalized until the regulatory ~nvironment becomes mo.re certain; and 5. We recommend that you develop a basic "minimum qualifications" level for any bank that you might solicit as a major depository of City funds to streamline the procurement process as much as possible. We are pleased to have been of service to you in this matter. 7-27 EXHIBIT "E" RESOLUTION NO. A RESOLUTION OF THE CITY COUNCIL OF THE CITY OF RANCHO PALOS VERDES APPROVING THE FORM CERTIFICATE OF DEPOSIT ACCOUNTY REGISTRY SERVICE (CDARS) AGREEMENT THROUGH PROMONTORY INTERFINANCIAL NETWORK AND THE CUSTODIAL AGREEMENT, DIRECTING THE MAYOR TO EXECUTE THE CDARS AGREEMENT AND THE CUSTODIAL AGREEMENT WITH MALAGA BANK, AND DESIGNATING SIGNATORIES FOR IMPLEMENTATION OF THE CDARS PROGRAM WITH MALAGA BANK. WHEREAS, On March 6, 2012, the City Council of the City of Rancho Palos Verdes ("City") directed Staff to develop a recommendation to diversify a portion of the City's cash portfolio into the Certificate of Deposit Account Registry Service CDARS program· ("CDARS program") established by Promontory lnterfinancial Network ("Promontory"), preferably selecting a local gateway bank; and WHEREAS, staff has recommended, with the City Council's prior concurrence, that the City enter into an agreement with Malaga Bank to participate in the CDARS program and to select Malaga Bank as the gateway bank; and WHEREAS, representatives of Promontory have prepared a proposed Agreement between Promontory and the City whereby the City will deposit a portion of the City's cash portfolio into the CDARS program, including a Certificate of Deposit Placement Agreement, the form of which is attached hereto as Exhibit "A"; and to enter into a Custodial Agreement, the form of which is attached hereto as Exhibit "B"; and for the City to enter into these agreements with Malaga Bank as the custodial bank; and WHEREAS, on December 3, 2013, the City Council reviewed the staff report and the attachments thereto, including Exhibits "A" and "B"; NOW, THEREFORE, THE CITY COUNCIL OF THE CITY OF RANCHO PALOS VERDES HEREBY FINDS, ORDERS AND RESOLVES AS FOLLOWS: Section 1. The City hereby approves the form of the CDARS Deposit Placement Agreement, attached hereto as Exhibit "A", and the Custodial Agreement, attached hereto as Exhibit "B", to participate in the Certificate of Deposit Account Registry Service program ("CDARS program") through Promontory lnterfinancial Network ("Promontory"); and Section 2. The Mayor of the City is hereby authorized and directed to execute in the name of the City of Rancho Palos Verdes each agreement attached hereto as Exhibit "A" and Exhibit "B", with Malaga Bank, to participate in the CDARS program, subject to minor changes to the agreements that have been approved by the City Attorney, the City's Financial Advisor and the Director of Finance and Information Technology; R6876-0001 \1665969vl .doc 7-28 Section 3. The following officials are hereby each designated and appointed to serve as signatories on behalf of the City of Rancho Palos Verdes on any accounts that may be established with Malaga Bank necessary to implement the terms of, and in accordance with, the CDARS Deposit Placement Agreement and Custodial Agreement: (1) Carolyn Lehr, City Manager; (2) Dennis McLean, City Treasurer/ Director of Finance & Information Technology; and/or (3) Carolynn Petru, Deputy City Manager Section 4. The City Manager and City Treasurer of the City are each hereby authorized and directed to execute all such other actions necessary to implement the terms of.the CDARS Deposit Placement Agreement and the Custodial Agreement with Malaga Bank through the CDARS program. SUSAN BROOKS, MAYOR ATTEST: Carla Morreale, City Clerk I HEREBY CERTIFY that the foregoing resolution was adopted at a regular meeting of the City Council of the City of Rancho Palos Verdes, duly noticed and held according to law, on the __ day of December, 2013. Date: -------Carla Morreale, City Clerk Attachments: Exhibit "A", CDARS Deposit Placement Agreement for Banking Services Exhibit "B", Custodial Agreement R6876-000l\!665969vl.doc -2-7-29