BC - 275
BANKING ISSUANCE
Comptroller of the Currency
Administrator of National Banks
Type:  Banking Circular
Subject:  Free-Riding in Custody Accounts

TO:  Chief Executive Officers of National Banks, Deputy Comptrollers,
     Department and Division Heads, and Examining Personnel

Several banks and brokerage firms have been investigated recently by the
Securities and Exchange Commission for possible securities "free-riding."
Free riding occurs when customers buy and sell securities, usually on the
same day, in amounts greatly exceeding the amount allowed under margin
collateral requirements. Banks, as well as brokerage firms, have incurred
losses when these customers failed to pay for their trades.

Free riding often begins when a custodial account is opened with a bank
trust department. The customer also establishes brokerage accounts through
which the customer directs securities trades. The customer advises the
broker-dealer that payment for such trades will be made through the
custodial account.

The free-rider attempts to profit from short-term changes in market prices
of securities, without placing significant personal funds at risk.
Free-riders frequently place a buy order for securities, anticipating a
near-term market price increase, and intending to pay for the securities
with the proceeds from the sale of the same securities.

Banks that permit such transactions without requiring adequate margin
collateral face significant risks when a customer's custody account does
not contain enough money to complete a purchase order or enough securities
to complete a sale order. These risks include: (1) enforcement actions for
violation of the Federal Reserve Board's margin lending standards in
Regulation U (12 CFR Part 221) or for aiding and abetting violations of
Regulation X (12 CFR Part 224) jor Regulation T (12 CFR Part 220); and (2)
loss of bank funds needed to complete the trades of customers who fail to
pay.

The OCC wants to alert national banks to the free-riding problem and its
potential risks. In this connection, the OCC recommends that national
banks review their policies and procedures for accepting custodial agency
accounts and clearing securities transactions. Such policies and
procedures should:

* set standards for the acceptance of new custodial accounts, including
customer background and credit information;

* require identification of broker-dealers sending securities to and
receiving funds from customer accounts, and establish systems to track
accounts involving numerous broker-dealers;

* disaffirm customer trades where acceptance would result in a violation
of Regulation U; and

* determine that each account has sufficient funds to perform any trade
or, if a margin credit is extended, that collateral requirements are met.

Questions concerning this issuance may be directed to your supervisory
office or Dean Miller or William L. Granovsky of the Compliance Management
Department in Washington at (202) 874-4447.

In addition, banks may also refer to the supervisory letter recently
issued by the Federal Reserve Board staff discussing the Federal Reserve's
margin lending regulations as they apply to free-riding (SR93-13 (March
16, 1993)).

Stephen M. Cross
Deputy Comptroller for Compliance Management

Date:  September 3, 1993