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Federal Register, Volume 83 Issue 113 (Tuesday, June 12, 2018)
[Federal Register Volume 83, Number 113 (Tuesday, June 12, 2018)]
[Proposed Rules]
[Pages 27444-27484]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2018-12362]
[[Page 27443]]
Vol. 83
Tuesday,
No. 113
June 12, 2018
Part IV
Commodity Futures Trading Commission
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17 CFR Part 1
De Minimis Exception to the Swap Dealer Definition; Proposed Rule
Federal Register / Vol. 83 , No. 113 / Tuesday, June 12, 2018 /
Proposed Rules
[[Page 27444]]
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COMMODITY FUTURES TRADING COMMISSION
17 CFR Part 1
RIN 3038-AE68
De Minimis Exception to the Swap Dealer Definition
AGENCY: Commodity Futures Trading Commission.
ACTION: Notice of proposed rulemaking.
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SUMMARY: The Commodity Futures Trading Commission (“Commission” or
“CFTC”) is proposing to amend the de minimis exception within the
“swap dealer” definition in the Commission’s regulations by: Setting
the aggregate gross notional amount threshold for the de minimis
exception at $8 billion in swap dealing activity entered into by a
person over the preceding 12 months; excepting from consideration when
calculating the aggregate gross notional amount of a person’s swap
dealing activity for purposes of the de minimis threshold: Swaps
entered into with a customer by an insured depository institution in
connection with originating a loan to that customer; swaps entered into
to hedge financial or physical positions; and swaps resulting from
multilateral portfolio compression exercises; and providing that the
Commission may determine the methodology to be used to calculate the
notional amount for any group, category, type, or class of swaps, and
delegating to the Director of the Division of Swap Dealer and
Intermediary Oversight (“DSIO”) the authority to make such
determinations (collectively, the “Proposal”). In addition, the
Commission is seeking comment on the following additional potential
changes to the de minimis exception: Adding a minimum dealing
counterparty count threshold and a minimum dealing transaction count
threshold; excepting from consideration when calculating the aggregate
gross notional amount for purposes of the de minimis threshold swaps
that are exchange-traded and/or cleared; and excepting from
consideration when calculating the aggregate gross notional amount for
purposes of the de minimis threshold swaps that are categorized as non-
deliverable forward transactions.
DATES: Comments must be received on or before August 13, 2018.
ADDRESSES: You may submit comments, identified by RIN 3038-AE68, by any
of the following methods:
CFTC Comments Portal: https://comments.cftc.gov. Select
the “Submit Comments” link for this rulemaking and follow the
instructions on the Public Comment Form.
Mail: Send to Christopher Kirkpatrick, Secretary of the
Commission, Commodity Futures Trading Commission, Three Lafayette
Centre, 1155 21st Street NW, Washington, DC 20581.
Hand Delivery/Courier: Follow the same instructions as for
Mail, above.
Please submit your comments using only one of these methods. To
avoid possible delays with mail or in-person deliveries, submissions
through the CFTC Comments Portal are encouraged.
All comments must be submitted in English, or if not, accompanied
by an English translation. Comments will be posted as received to
https://comments.cftc.gov. You should submit only information that you
wish to make available publicly. If you wish for the Commission to
consider information that is exempt from disclosure under the Freedom
of Information Act (“FOIA”),1 a petition for confidential treatment
of the exempt information may be submitted according to the procedures
set forth in Sec. 145.9 of the Commission’s regulations.2
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1 5 U.S.C. 552.
2 17 CFR 145.9. Commission regulations referred to herein are
found at 17 CFR chapter I.
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The Commission reserves the right, but shall have no obligation, to
review, pre-screen, filter, redact, refuse, or remove any or all of
your submission from https://comments.cftc.gov that it may deem to be
inappropriate for publication, such as obscene language. All
submissions that have been redacted or removed that contain comments on
the merits of the rulemaking will be retained in the public comment
file and will be considered as required under the Administrative
Procedure Act and other applicable laws, and may be accessible under
FOIA.
FOR FURTHER INFORMATION CONTACT: Matthew Kulkin, Director, 202-418-
5213, [email protected], Erik Remmler, Deputy Director, 202-418-7630,
[email protected], Rajal Patel, Associate Director, 202-418-5261,
[email protected], or Jeffrey Hasterok, Data and Risk Analyst, 646-746-
9736, [email protected], Division of Swap Dealer and Intermediary
Oversight; Bruce Tuckman, Chief Economist, 202-418-5624,
[email protected] or Scott Mixon, Associate Director, 202-418-5771,
[email protected], Office of the Chief Economist; Mark Fajfar, Assistant
General Counsel, 202-418-6636, [email protected], Office of General
Counsel, Commodity Futures Trading Commission, Three Lafayette Centre,
1155 21st Street NW, Washington, DC 20581.
SUPPLEMENTARY INFORMATION:
Table of Contents
I. Background
A. Statutory Authority
B. Regulatory History
C. Policy Considerations
1. Swap Dealer Registration Policy Considerations
2. De Minimis Exception Policy Considerations
D. De Minimis Calculation
II. The Proposal
A. $8 Billion De Minimis Threshold
1. Methodology
2. Data and Analysis
3. Request for Comments
B. Swaps Entered Into by Insured Depository Institutions in
Connection With Loans to Customers
1. Background
2. Proposal
3. Request for Comments
C. Swaps Entered Into To Hedge Financial or Physical Positions
1. Background and Proposal
2. Request for Comments
D. Swaps Resulting From Multilateral Portfolio Compression
Exercises
1. Background and Proposal
2. Request for Comments
E. Methodology for Calculating Notional Amounts
1. Background and Proposal
2. Request for Comments
III. Other Considerations
A. Dealing Counterparty Count and Dealing Transaction Count
Thresholds
1. Background
2. Potential Thresholds
B. Exchange-Traded and/or Cleared Swaps
C. Non-Deliverable Forwards
IV. Related Matters
A. Regulatory Flexibility Act
B. Paperwork Reduction Act
C. Cost-Benefit Considerations
1. $8 Billion De Minimis Threshold
2. Swaps Entered Into by Insured Depository Institutions in
Connection With Loans to Customers
3. Swaps Entered Into To Hedge Financial or Physical Positions
4. Swaps Resulting From Multilateral Portfolio Compression
Exercises
5. Methodology for Calculating Notional Amounts
6. Request for Comment
D. Antitrust Considerations
I. Background
A. Statutory Authority
The Dodd-Frank Wall Street Reform and Consumer Protection Act
(“Dodd-Frank Act”) was signed into law on July 21, 2010.3 Title VII
of the Dodd-Frank Act established a statutory framework to reduce risk,
increase transparency, and promote market integrity within the
[[Page 27445]]
financial system by regulating the swap market. Among other things, the
Dodd-Frank Act amended the Commodity Exchange Act (“CEA”) 4 to
provide for the registration and regulation of swap dealers
(“SDs”).5 The Dodd-Frank Act directed the CFTC and the U.S.
Securities and Exchange Commission (“SEC” and together with the CFTC,
“Commissions”) to jointly further define, among other terms, the term
“swap dealer,” 6 and to exempt from designation as an SD a person
that engages in a de minimis quantity of swap dealing.7
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3 Public Law 111-203, 124 Stat. 1376 (2010), available at
https://www.cftc.gov/idc/groups/public/@swaps/documents/file/hr4173_enrolledbill.pdf.
4 The CEA is found at 7 U.S.C. 1, et seq.
5 See 7 U.S.C. 6s(a)(1).
6 Dodd-Frank Act section 712(d)(1). See the definitions of
“swap dealer” in CEA section 1a(49) and Sec. 1.3 of Commission
regulations. 7 U.S.C. 1a(49); 17 CFR 1.3.
7 See Dodd-Frank Act section 721.
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CEA section 1a(49) defines the term “swap dealer” to include any
person who: (1) Holds itself out as a dealer in swaps; (2) makes a
market in swaps; (3) regularly enters into swaps with counterparties as
an ordinary course of business for its own account; or (4) engages in
any activity causing the person to be commonly known in the trade as a
dealer or market maker in swaps (collectively referred to as “swap
dealing,” “swap dealing activity,” or “dealing activity”).8 The
statute also requires the Commission to promulgate regulations to
establish factors with respect to the making of a determination to
exempt from designation as an SD an entity engaged in a de minimis
quantity of swap dealing.9 CEA section 1a(49) further provides that
in no event shall an insured depository institution be considered to be
an SD to the extent it offers to enter into a swap with a customer in
connection with originating a loan with that customer.10
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8 7 U.S.C. 1a(49)(A). In general, a person that satisfies any
one of these prongs is deemed to be engaged in swap dealing
activity.
9 7 U.S.C. 1a(49)(D).
10 7 U.S.C. 1a(49)(A).
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B. Regulatory History
Pursuant to the statutory requirements, in December 2010, the
Commissions issued a proposing release further defining, among other
things, the term “swap dealer” (“SD Definition Proposing
Release”).11 Subsequently, in May 2012, the Commissions issued an
adopting release (“SD Definition Adopting Release”) 12 further
defining, among other things, the term “swap dealer” in Sec. 1.3 of
the CFTC’s regulations (the “SD Definition”) and providing for a de
minimis exception in paragraph (4) therein.13 The de minimis
exception states that a person shall not be deemed to be an SD unless
its swaps connected with swap dealing activities exceed an aggregate
gross notional amount (“AGNA”) threshold of $3 billion (measured over
the prior 12-month period), subject to a phase-in period during which
the AGNA threshold is set at $8 billion.14 The phase-in period was
originally scheduled to terminate on December 31, 2017, and the de
minimis threshold was scheduled to decrease to $3 billion at that time.
However, as discussed below, pursuant to paragraph (4)(i)(D) of the SD
Definition, the Commission issued two successive orders to set new
termination dates, and the phase-in period is currently scheduled to
terminate on December 31, 2019.15
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11 Further Definition of “Swap Dealer,” “Security-Based
Swap Dealer,” “Major Swap Participant,” “Major Security-Based
Swap Participant” and “Eligible Contract Participant,” 75 FR
80174 (proposed Dec. 21, 2010).
12 Further Definition of “Swap Dealer,” “Security-Based
Swap Dealer,” “Major Swap Participant,” “Major Security-Based
Swap Participant” and “Eligible Contract Participant,” 77 FR
30596 (May 23, 2012).
13 See 17 CFR 1.3, Swap dealer. As discussed in more detail in
section II, the Commission notes that a joint rulemaking with the
SEC is not required to amend the de minimis exception, pursuant to
paragraph (4)(v) of the SD Definition. See 17 CFR 1.3, Swap dealer,
paragraph (4)(v); 77 FR at 30634 n.464.
14 17 CFR 1.3, Swap dealer, paragraph (4)(i)(A). Paragraph
(4)(i)(A) also provides for a de minimis threshold of $25 million
with regard to swaps in which the counterparty is a “special
entity” (excluding “utility special entities” as provided in
paragraph (4)(i)(B) of the SD Definition) as defined in CEA section
4s(h)(2)(C), 7 U.S.C. 6s(h)(2)(C). This proposal would not change
the de minimis threshold for swaps with special entities.
15 See Order Establishing De Minimis Threshold Phase-In
Termination Date, 81 FR 71605 (Oct. 18, 2016); Order Establishing a
New De Minimis Threshold Phase-In Termination Date, 82 FR 50309
(Oct. 31, 2017).
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When the $3 billion de minimis exception threshold was established,
the Commissions explained that the information then available regarding
certain portions of the swap market was limited, and that they expected
more information to be available in the future (following the
implementation of swap data reporting), which would enable the
Commissions to make a more informed assessment of the proper level for
the de minimis exception and to revise it as appropriate.16 In
establishing the AGNA threshold of $3 billion, the Commissions stated
that “there may be some uncertainty regarding the exact level of swap
dealing activity, measured in terms of a gross notional amount of swaps
that should be regarded as de minimis.” 17 In light of this
uncertainty, the Commissions provided for the phase-in period during
which the de minimis threshold was set at $8 billion, explaining that
this would: (1) Permit market participants and the Commissions to
become familiar with the application of the SD Definition and
regulatory requirements; (2) afford the Commissions time to study the
swap market as it evolved and to consider new information about the
swap market that became available (e.g., through swap data reporting);
(3) provide potential SDs that engage in smaller amounts of activity
additional time to adjust their business practices, while at the same
time preserving a focus on the regulation of the largest and most
significant SDs; and (4) address comments suggesting that the de
minimis threshold be set higher initially to provide for efficient use
of regulatory resources and that implementation of SD requirements in
general be phased.18
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16 See 77 FR at 30632-34. In making their determination, the
Commissions considered the limited and incomplete swap market data
that was available at that time and concluded that the $3 billion
level appropriately considers the relevant regulatory goals. Id. at
30632. The Commissions found merit in determining the threshold by
multiplying the estimated size of the domestic swap market by a
0.001 percent ratio suggested by several commenters. Id. at 30633.
17 Id. at 30633.
18 See id. at 30633-34.
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In recognition of these limitations and in anticipation of
additional swap market data becoming available to the CFTC through the
reporting of transactions to swap data repositories (“SDRs”),
paragraph (4)(ii)(B) of the SD Definition was adopted, which directed
CFTC staff to complete and publish for public comment a report on
topics relating to the definition of the term “swap dealer” and the
de minimis threshold as appropriate, based on the availability of data
and information.19 Paragraph (4)(ii)(C) of the SD Definition provided
that after giving due consideration to the staff report and any
associated public comment, the CFTC may either set a termination date
for the phase-in period or issue a notice of proposed rulemaking to
modify the de minimis exception.20
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19 17 CFR 1.3, Swap dealer, paragraph (4)(ii)(B).
20 17 CFR 1.3, Swap dealer, paragraph (4)(ii)(C).
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In the interest of providing ample opportunity for public input on
the relevant policy considerations, as well as on staff’s preliminary
analysis of the SDR data, and to ensure that the Commission had as much
information and data as practicable for purposes of its determinations
with respect to the de minimis exception, in November 2015 staff issued
a preliminary report concerning the de minimis exception (“Preliminary
Staff Report”).21 The
[[Page 27446]]
Preliminary Staff Report sought to analyze the available swap data, in
conjunction with relevant policy considerations, to assess the $8
billion AGNA de minimis threshold and potential alternatives to the
AGNA de minimis exception.22 Commission staff received 24 comment
letters responsive to the Preliminary Staff Report.23
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21 See Swap Dealer De Minimis Exception Preliminary Report
(Nov. 18, 2015), available at http://www.cftc.gov/idc/groups/public/@swaps/documents/file/dfreport_sddeminis_1115.pdf.
22 For the Preliminary Staff Report, staff analyzed data from
April 1, 2014 through March 31, 2015.
23 The comment letters are available on the Commission website
at http://comments.cftc.gov/PublicComments/CommentList.aspx?id=1634.
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After consideration of the public comments received in response to
the Preliminary Staff Report, and further data analysis, in August 2016
staff issued a final staff report 24 concerning the de minimis
exception (“Final Staff Report,” and together with the Preliminary
Staff Report, “Staff Reports”). The Final Staff Report refreshed much
of the analysis conducted in the Preliminary Staff Report for a
subsequent review period,25 and similar to the Preliminary Staff
Report, discussed observations with respect to the $8 billion de
minimis threshold, as well as the de minimis exception alternatives
considered in the Preliminary Staff Report, in light of refreshed data
and comments received.
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24 See Swap Dealer De Minimis Exception Final Staff Report
(Aug. 15, 2016), available at http://www.cftc.gov/idc/groups/public/@swaps/documents/file/dfreport_sddeminis081516.pdf.
25 For the Final Staff Report, staff analyzed data from April
1, 2015 through March 31, 2016.
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The data analysis in the Staff Reports provided some insights into
the effectiveness of the de minimis exception as currently implemented.
For example, staff analyzed the number of swap transactions involving
at least one registered SD,26 which is indicative of the extent to
which swaps are subject to SD regulation at the current $8 billion
threshold. Data reviewed for the Final Staff Report indicated that
approximately 96 percent of all reported swap transactions involved at
least one registered SD.27
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26 Given that all of the CEA section 4s requirements have not
yet been implemented by regulation, the term “registered SD”
refers to an entity that is a provisionally registered SD. See 17
CFR 3.2(c)(3)(iii).
27 See section II.A below for additional discussion regarding
the Staff Reports.
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To provide additional time for more information to become available
to reassess the de minimis exception, in October 2016 the Commission
issued an order, pursuant to paragraph (4)(ii)(C)(1) of the SD
Definition, establishing December 31, 2018, as the new termination date
for the $8 billion phase-in period.28 As noted above, absent any
action, the phase-in period would have terminated, and the de minimis
threshold would have decreased to $3 billion, on December 31, 2017. To
enable staff to conduct additional analysis, in October 2017 the
Commission further extended the phase-in period to December 31,
2019.29 Generally, the extensions provided additional time for
Commission staff to conduct more complete data analysis regarding the
de minimis exception, and gave market participants additional time to
begin preparing for a change, if any, to the de minimis exception
threshold.
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28 81 FR 71605.
29 82 FR 50309.
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C. Policy Considerations
1. Swap Dealer Registration Policy Considerations
In adopting the SD Definition, the Commissions identified the
policy goals underlying SD registration and regulation generally to
include reducing systemic risk, increasing counterparty protections,
and increasing market efficiency, orderliness, and transparency.
Reducing systemic risk: The Dodd-Frank Act was enacted in the wake
of the financial crisis of 2008, in significant part, to reduce
systemic risk, including the risk to the broader U.S. financial system
created by interconnections in the swap market.30 Pursuant to the
Dodd-Frank Act, the Commission has adopted regulations designed to
mitigate the potential systemic risk inherent in the previously
unregulated swap market.31
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30 Dodd-Frank Act, Preamble (indicating that the purpose of
the Dodd-Frank Act was to promote the financial stability of the
United States by improving accountability and transparency in the
financial system, to end “too big to fail,” to protect the
American taxpayer by ending bailouts, to protect consumers from
abusive financial services practices, and for other purposes).
31 For example, registered SDs have specific requirements for
risk management programs and margin. See, e.g., 17 CFR 23.600; 17
CFR 23.150-23.161.
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Increasing counterparty protections: Providing regulatory
protections for swap counterparties who may be less experienced or
knowledgeable about the swap products offered by SDs (particularly end-
users who use swaps for hedging or investment purposes) is a
fundamental policy goal advanced by the regulation of SDs.32 The
Commissions recognized that a narrower or smaller de minimis exception
would increase the number of counterparties that could potentially
benefit from those regulatory protections.33
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32 For example, registered SDs are subject to rigorous
external business conduct standard regulations designed to provide
counterparty protections. See, e.g., 17 CFR 23.400-23.451.
33 77 FR at 30628 (“On the one hand, a de minimis exception,
by its nature, will eliminate key counterparty protections provided
by Title VII for particular users of swaps and security-based
swaps.”).
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Increasing market efficiency, orderliness, and transparency:
Increasing swap market efficiency, orderliness, and transparency is
another goal of SD regulation.34 Regulations requiring SDs, for
example, to keep detailed daily trading records, report trade
information, and engage in portfolio reconciliation and compression
exercises help achieve these market benefits.35
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34 Id. at 30629 (“The statutory requirements that apply to
[SDs] . . . include requirements . . . aimed at helping to promote
effective operation and transparency of the swap . . . markets.”).
See also id. at 30703 (“Those who engage in swaps with entities
that elude [SD] or major swap participant status and the attendant
regulations could be exposed to increased counterparty risk;
customer protection and market orderliness benefits that the
regulations are intended to provide could be muted or sacrificed,
resulting in increased costs through reduced market integrity and
efficiency. . . .”).
35 See, e.g., 17 CFR 23.200-23.205; 17 CFR part 45; 17 CFR
23.502-23.503.
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2. De Minimis Exception Policy Considerations
The Commissions also recognized that, consistent with Congressional
intent, “an appropriately calibrated de minimis exception has the
potential to advance other interests.” 36 The Commissions explained
that these interests include increasing efficiency, allowing limited
swap dealing in connection with other client services, encouraging new
participants to enter the market, and focusing regulatory
resources.37 The policy objectives underlying the de minimis
exception are designed to encourage participation and competition by
allowing persons to engage in a de minimis amount of dealing without
incurring the costs of registration and regulation.38
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36 See 77 FR at 30628.
37 See 77 FR at 30628-30, 30707-08.
38 In considering the appropriate de minimis threshold, the
Commissions stated that “exclud[ing] entities whose dealing
activity is sufficiently modest in light of the total size,
concentration and other attributes of the applicable markets can be
useful in avoiding the imposition of regulatory burdens on those
entities for which dealer regulation would not be expected to
contribute significantly to advancing the customer protection,
market efficiency and transparency objectives of dealer
regulation.” Id. at 30629-30.
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Increasing efficiency: A de minimis exception based on an objective
test with a limited degree of complexity enables entities to engage in
a lower level of swap dealing with limited concerns about whether their
activities
[[Page 27447]]
would require registration.39 The de minimis exception thereby
fosters efficient application of the SD Definition. Additionally, the
Commission is of the view that the potential for regular or periodic
changes to the de minimis threshold may reduce its efficacy by making
it challenging for persons to calibrate their swap dealing activity as
appropriate for their business models. Further, the existing de minimis
exception reduces regulatory uncertainty and increases efficiency by
establishing a simple threshold test for all of a person’s swaps
connected with swap dealing activity. Conversely, the more variables
included in the de minimis calculation, the more complex the
determination of whether a person must register, potentially resulting
in less efficiency.40
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39 Id. at 30628-29 (“[T]he de minimis exception may further
the interest of regulatory efficiency when the amount of a person’s
dealing activity is, in the context of the relevant market, limited
to an amount that does not warrant registration . . . . In addition,
the exception can provide an objective test . . . .”).
40 Id. at 30707-08 (“On the other hand, requiring market
participants to consider more variables in evaluating application of
the de minimis exception would likely increase their costs to make
this determination.”).
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Allowing limited ancillary dealing: A de minimis exception allows
persons to accommodate existing clients that have a need for swaps (on
a limited basis) along with other services.41 This interest enables
end-users to continue transacting within existing business
relationships, for example to hedge interest rate or currency risk.
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41 Id. at 30629, 30708.
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Encouraging new participants: A de minimis exception also promotes
competition by allowing a person to engage in some swap dealing
activities without immediately incurring the regulatory costs
associated with SD registration and regulation.42 Without a de
minimis exception, SD regulation could become a barrier to entry that
may stifle competition. An appropriately calibrated de minimis
exception could lower the barrier to entry of becoming an SD by
allowing smaller participants to gradually expand their business until
the scope and scale of their activity warrants regulation (and the
costs involved with compliance).
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42 Id. at 30629.
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Focusing regulatory resources: Finally, the de minimis exception
also increases regulatory efficiency by enabling the Commission to
focus its limited resources on entities whose swap dealing activity is
sufficient in size and scope to warrant oversight.43
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43 Id. at 30628-29.
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The Commissions explained that “implementing the de minimis
exception requires a careful balancing that considers the regulatory
interests that could be undermined by an unduly broad exception as well
as those regulatory interests that may be promoted by an appropriately
limited exception.” 44 A narrower de minimis exception would likely
mean that a greater number of entities would be required to register as
SDs and become subject to the regulatory framework applicable to
registered SDs. However, a de minimis exception that is too limited
could, for example, discourage persons from engaging in swap dealing
activity in order to avoid the burdens associated with SD regulation.
—————————————————————————
44 Id. at 30628. See also SD Definition Proposing Release, 75
FR at 80179 (The de minimis exception “should apply only when an
entity’s dealing activity is so minimal that applying dealer
regulations to the entity would not be warranted.”).
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D. De Minimis Calculation
Whether a person’s activities constitute swap dealing is based on a
facts and circumstances analysis. Generally, a person must count
towards its AGNA de minimis threshold all swaps it enters into for
dealing purposes over any rolling 12-month period. In addition, each
person whose own swaps do not exceed the de minimis threshold must also
include in its de minimis calculation the AGNA of swaps of any other
unregistered affiliate controlling, controlled by, or under common
control with that person (referred to as “aggregation”).45
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45 17 CFR 1.3, Swap dealer, paragraph (4)(i)(A); Interpretive
Guidance and Policy Statement Regarding Compliance With Certain Swap
Regulations, 78 FR 45292, 45323 (July 26, 2013).
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Pursuant to various CFTC regulations, certain swaps, subject to
specific conditions, need not be considered in determining whether a
person is an SD, including: (1) Swaps entered into by an insured
depository institution (“IDI”) with a customer in connection with
originating a loan to that customer; 46 (2) swaps between affiliates;
47 (3) swaps entered into by a cooperative with its members; 48 (4)
swaps hedging physical positions; 49 (5) swaps entered into by floor
traders; 50 (6) certain foreign exchange (“FX”) swaps and FX
forwards; 51 and (7) commodity trade options.52 In addition,
certain cross-border swaps 53 and swaps resulting from multilateral
portfolio compression exercises 54 need not be counted towards the
person’s de minimis threshold, subject to certain conditions, pursuant
to CFTC interpretive guidance and staff letters. Further, certain
inter-governmental or quasi-governmental international financial
institutions are not included within the term “swap dealer.” 55
—————————————————————————
46 See 17 CFR 1.3, Swap dealer, paragraph (5); 77 FR at 30620-
24.
47 See 17 CFR 1.3, Swap dealer, paragraph (6)(i); 77 FR at
30624-25.
48 See 17 CFR 1.3, Swap dealer, paragraph (6)(ii); 77 FR at
30625-26.
49 See 17 CFR 1.3, Swap dealer, paragraph (6)(iii); 77 FR at
30611-14.
50 See 17 CFR 1.3, Swap dealer, paragraph (6)(iv); 77 FR at
30614. The floor trader exclusion was also addressed in no-action
relief. See CFTC Staff Letter No. 13-80, No-Action Relief from
Certain Conditions of the Swap Dealer Exclusion for Registered Floor
Traders (Dec. 23, 2013), available at https://www.cftc.gov/idc/groups/public/@lrlettergeneral/documents/letter/13-80.pdf.
51 See Determination of Foreign Exchange Swaps and Foreign
Exchange Forwards Under the Commodity Exchange Act, 77 FR 69694,
69704-05 (Nov. 20, 2012); Further Definition of “Swap,”
“Security-Based Swap,” and “Security-Based Swap Agreement”;
Mixed Swaps; Security-Based Swap Agreement Recordkeeping, 77 FR
48208, 48253 (Aug. 13, 2012).
52 17 CFR 32.3; Commodity Options, 77 FR 25320, 25326 n.39
(Apr. 27, 2012).
53 See 78 FR 45292; CFTC Staff Letter No. 12-61, No-Action
Relief: U.S. Bank Wholly Owned by Foreign Entity May Calculate De
Minimis Threshold Without Including Activity From Its Foreign
Affiliates (Dec. 20, 2012), available at https://www.cftc.gov/sites/default/files/idc/groups/public/@lrlettergeneral/documents/letter/12-61.pdf; CFTC Staff Letter No. 12-71, No-Action Relief: U.S. Bank
Wholly Owned by Foreign Entity May Calculate De Minimis Threshold
Without Including Activity From Its Foreign Affiliates (Dec. 31,
2012), available at https://www.cftc.gov/idc/groups/public/%40lrlettergeneral/documents/letter/12-71.pdf; and CFTC Letter No.
18-13, No-Action Position: Relief for Certain Non-U.S. Persons from
Including Swaps with International Financial Institutions in
Determining [SD] and Major Swap Participant Status (May 16, 2018),
available at https://www.cftc.gov/sites/default/files/idc/groups/public/%40lrlettergeneral/documents/letter/2018-05/18-13.pdf.
54 CFTC Staff Letter No. 12-62, No-Action Relief: Request that
Certain Swaps Not Be Considered in Calculating Aggregate Gross
Notional Amount for Purposes of the Swap Dealer De Minimis Exception
for Persons Engaging in Multilateral Portfolio Compression
Activities (Dec. 21, 2012), available at https://www.cftc.gov/idc/groups/public/@lrlettergeneral/documents/letter/12-62.pdf.
55 See 77 FR at 30693.
—————————————————————————
II. The Proposal
Given the more complete information now available regarding certain
portions of the swap market, the data analytical capabilities developed
since the SD regulations were adopted, and five years of implementation
experience, the Commission believes that modifications to the de
minimis exception are necessary to increase efficiency, flexibility,
and clarity in the application of the SD Definition.
Additionally, in March 2017, Chairman Giancarlo initiated an
agency-wide internal review of CFTC regulations and practices to
identify those areas that could be simplified to make them less
burdensome and costly
[[Page 27448]]
(“Project KISS”).56 The Commission subsequently published in the
Federal Register a Request for Information soliciting suggestions from
the public regarding how the Commission’s existing rules, regulations,
or practices could be applied in a simpler, less burdensome, and less
costly manner.57 As discussed below, a number of responses submitted
pursuant to the Project KISS Request for Information also support
modifications to the de minimis exception.58
—————————————————————————
56 See Remarks of then-Acting Chairman J. Christopher
Giancarlo before the 42nd Annual International Futures Industry
Conference in Boca Raton, FL (Mar. 15, 2017), available at https://www.cftc.gov/PressRoom/SpeechesTestimony/opagiancarlo-20.
57 Project KISS, 82 FR 21494 (May 9, 2017), amended by 82 FR
23765 (May 24, 2017). The Federal Register Request for Information,
and the suggestion letters filed by the public are available at
https://comments.cftc.gov/KISS/KissInitiative.aspx.
58 See Letters from BP Energy Company and BP Products North
America Inc. (collectively, “BP”) (Sep. 29, 2017); Chatham
Financial Corp. (“Chatham”) (Sep. 29, 2017); Coalition for
Derivatives End-Users (“CDE”) (Sep. 29, 2017); The Commercial
Energy Working Group (“CEWG”) (Sep. 30, 2017); Commodity Markets
Council (“CMC”) (Sep. 29, 2017); EDF Trading North America, LLC
(“EDF”) (Sep. 29, 2017); Edison Electric Institute and the
Electric Power Supply Association (collectively, “EEI/EPSA”) (Sep.
29, 2017); Financial Services Roundtable (“FSR”) (Sep. 30, 2017);
Futures Industry Association (“FIA”) (Sep. 28, 2017); Institute of
International Bankers (“IIB”) (Sep. 29, 2017); International
Energy Credit Association (“IECA”) (Sep. 30, 2017); International
Swaps and Derivatives Association, Inc. (“ISDA”) (Sep. 29, 2017);
Natural Gas Supply Association (“NGSA”) (Sep. 29, 2017); Northern
Trust Company (“Northern Trust”) (Sep. 21, 2017); Securities
Industry and Financial Markets Association (“SIFMA”) (Sep. 29,
2017); Custom House USA, LLC and Western Union Business Solutions
(USA), LLC (collectively, “Western Union”) (Sep. 25, 2017); and
Custom House USA, LLC, Western Union Business, GPS Capital Markets,
Inc., and Associated Foreign Exchange, Inc. (collectively, “WU/GPS/
AFEX”) (Sep. 29, 2017).
—————————————————————————
The amendments proposed herein support a clearer and more
streamlined application of the SD Definition. They also provide greater
clarity regarding which swaps need to be counted towards the de minimis
threshold and consider the practical application of swaps in different
circumstances. This Proposal includes amendments regarding: (1) The
appropriate de minimis threshold level; and (2) the swap transactions
that are not required to be counted towards that threshold.
With respect to the appropriate threshold level, the Commission is
proposing to amend the de minimis exception in paragraph (4) of the SD
Definition by setting the AGNA threshold at $8 billion in swap dealing
activity. Additionally, to complement the Commission’s definitions of
the types of activities that do not constitute swap dealing, the
Commission is proposing to add specific exceptions from the de minimis
threshold calculation for certain swaps entered into: (1) By IDIs in
connection with loans to customers; and (2) to hedge financial or
physical positions.59 Additionally, the Commission is proposing to
except from a person’s de minimis threshold calculation swaps that
result from multilateral portfolio compression exercises, in a manner
consistent with relief granted in a 2012 DSIO staff no-action
letter.60 Lastly, the Commission is proposing to provide that, for
purposes of paragraph (4) of the SD Definition, the Commission may
determine the methodology to be used to calculate the notional amount
for any group, category, type, or class of swaps. The Commission is
also proposing to delegate authority to the Director of DSIO to make
such determinations.
—————————————————————————
59 These proposed exceptions would be in addition to the
existing exclusions in paragraphs (5) and (6)(iii) of the SD
Definition for swaps entered into by IDIs and swaps entered into for
the purpose of hedging physical positions, respectively.
60 See CFTC Staff Letter No. 12-62, supra note 54.
—————————————————————————
The proposed rule changes would amend the de minimis exception
provision in paragraph (4) of the SD Definition, pursuant to the
Commission’s authority under CEA section 1a(49), which requires the
Commission to promulgate regulations to establish factors with respect
to the making of this determination to exempt a de minimis quantity of
swap dealing.61 The Commissions issued the SD Definition Adopting
Release pursuant to section 712(d)(1) of the Dodd-Frank Act, which
requires the CFTC and SEC to jointly adopt rules regarding the
definition of, among other things, the term “swap dealer.” The CFTC
continues to coordinate with the SEC on SD and security-based swap
dealer regulations. However, as discussed in the SD Definition Adopting
Release, a joint rulemaking is not required with respect to the de
minimis exception-related factors.62 The Commission notes that it is
consulting with the SEC and prudential regulators regarding the changes
to the SD Definition discussed in this Proposal.63
—————————————————————————
61 7 U.S.C. 1a(49)(D). See also 17 CFR 1.3, Swap dealer,
paragraph (4)(v).
62 77 FR at 30634 n.464 (“We do not interpret the joint
rulemaking provisions of section 712(d) of the Dodd-Frank Act to
require joint rulemaking here, because such an interpretation would
read the term “Commission” out of CEA section 1a(49)(D) (and
Exchange Act section 3(a)(71)(D)), which themselves were added by
the Dodd-Frank Act.”).
63 As required by Sec. 712(a)(1) of the Dodd-Frank Act.
—————————————————————————
Although this Proposal includes several potential rule amendments
in a single notice, the CFTC may in the future issue separate adopting
releases for any aspect of this Proposal that is finalized.64
—————————————————————————
64 See ICI v. CFTC, 720 F.3d 370, 379 (D.C. Cir. 2013) (“[A]s
the Supreme Court has emphasized, `[n]othing prohibits federal
agencies from moving in an incremental manner.’ ”) (quoting FCC v.
Fox Television Stations, Inc., 556 U.S. 502, 522 (2009)).
—————————————————————————
A. $8 Billion De Minimis Threshold
As discussed above, the de minimis threshold for the AGNA of a
person’s swap dealing activity is scheduled to decrease to $3 billion
on December 31, 2019, requiring persons to begin calculating towards
the lower threshold on January 1, 2019. Based on the data and analysis
described below, the Commission is proposing to amend paragraph
(4)(i)(A) of the SD Definition by setting the de minimis threshold at
$8 billion. For added clarity, the Commission is also proposing to
change the term “swap positions” to “swaps” in paragraph (4)(i)(A).
Additionally, the Commission is proposing to delete a parenthetical
clause in paragraph (4)(i)(A) referring to the period after adoption of
the rule further defining the term “swap,” and to remove and reserve
paragraph (4)(ii) of the SD Definition, which addresses the phase-in
procedure and staff report requirements of the de minimis exception
(discussed above in section I.B), since both of those provisions would
no longer be applicable.
The Commission recognizes the benefits and drawbacks of an SD
Definition that relies upon AGNA for SD registration purposes. The
Commission is aware of potential viable alternative metrics and remains
open to the possibility of relying on a different approach in the
future, such as a threshold based on entity-netted notional amounts
65 or other risk metrics, including, but not limited to, initial
margin, open positions, material swaps exposure, net current credit
exposure, gross negative or positive fair value, potential future
exposure, value-at-risk, or expected shortfall. However, at this time,
the Commission continues to believe that the de minimis exception
should include an AGNA threshold component. As noted in the SD
Definition Adopting Release, a notional value test is useful to measure
the relative amount of an entity’s swap dealing activity, and it avoids
potential
[[Page 27449]]
distorting effects from measures that reflect netting or collateral
offsets.66
—————————————————————————
65 See Introducing ENNs: A Measure of the Size of Interest
Rate Swap Markets (Jan. 2018), available at http://www.cftc.gov/idc/groups/public/@economicanalysis/documents/file/oce_enns0118.pdf;
Remarks of Chairman J. Christopher Giancarlo before Derivcon 2018,
New York City, NY (Feb. 1, 2018), available at https://www.cftc.gov/PressRoom/SpeechesTestimony/opagiancarlo35.
66 77 FR at 30630.
—————————————————————————
1. Methodology
(i) Filters and Assumptions
For this Proposal, CFTC staff conducted an analysis of SDR data
from January 1, 2017, through December 31, 2017 (the “review
period”).67 Generally, employing methodologies similar to those used
for purposes of the Staff Reports, staff attempted to calculate
persons’ swaps activity in terms of AGNA to assess how the swap market
might be impacted by potential changes to the current de minimis
exception.
—————————————————————————
67 The data used in this Proposal was sourced from data
reported to the four registered SDRs: BSDR LLC, Chicago Mercantile
Exchange Inc., DTCC Data Repository, and ICE Trade Vault.
—————————————————————————
Given improvements in the quality of data being reported to SDRs
since the Staff Reports were issued, Commission staff was able to
analyze the AGNA of swaps activity for interest rate swaps (“IRS”),
credit default swaps (“CDS”), FX swaps,68 and equity swaps (while
by comparison, in the Staff Reports, AGNA analysis was limited to IRS
and CDS).69 However, given certain limitations discussed below, AGNA
data was not available for non-financial commodity (“NFC”) swaps. In
addition to now-available AGNA information for FX swaps and equity
swaps, there were also continued improvements in the consistency of
legal entity identifier (“LEI”) and unique swap identifier reporting.
However, as explained in the Staff Reports, the SDR data lacks: (1) A
reporting field to indicate whether a swap was entered into for dealing
purposes (as opposed to hedging, investing, or proprietary trading);
and (2) a reporting field to indicate whether a specific swap need not
be considered in determining whether a person is an SD or need not be
counted towards the person’s de minimis threshold, pursuant to one of
the exclusions or exceptions identified above in section I.D.70 These
constraints limited the usefulness of the SDR data to identify which
swaps should be counted towards a person’s de minimis threshold, and
the ability to precisely assess the current de minimis threshold or the
impact of potential changes to the current exclusions.
—————————————————————————
68 The term “FX swaps” is used in this Proposal to only
describe those FX transactions that are counted towards a person’s
de minimis calculation. The term “FX swaps” does not refer to
swaps and forwards that are not counted towards the de minimis
threshold pursuant to the exemption granted by the Secretary of the
Treasury. See 77 FR at 69704-05; 77 FR at 48253. Section III.C below
discusses the Secretary of the Treasury’s exemption in more detail
in the context of non-deliverable forward transactions.
69 See Preliminary Staff Report, supra note 21, at 21-22;
Final Staff Report, supra note 24, at 19.
70 See Preliminary Staff Report, supra note 21, at 15; Final
Staff Report, supra note 24, at 19.
—————————————————————————
As noted above, for purposes of this Proposal, staff utilized
assumptions and methodologies similar to those detailed in the Staff
Reports to approximate potential swap dealing activity.71 To attempt
to account for the various exclusions relevant to the SD Definition,
filters were applied to the data to exclude certain transactions and
entities from the analysis. The reason an entity enters into a swap
(e.g., dealing, hedging, investing, proprietary trading) is not
collected under the reporting requirements in part 45 of the
Commission’s regulations.72 Accordingly, staff used filters to
identify and exclude certain categories of entities–such as funds,
insurance companies, cooperatives, government-sponsored entities, most
commercial end-users, and international financial institutions–as
potential SDs because these entities generally use swaps for investing,
hedging, or proprietary trading and do not seem to be engaged in swap
dealing activity, or otherwise enter into swaps that would not be
included in determining whether the entity is an SD.73 Further,
additional filters allowed for the exclusion of inter-affiliate 74
and non-U.S. swap transactions.75
—————————————————————————
71 See Preliminary Staff Report, supra note 21, at 13-21;
Final Staff Report, supra note 24, at 4-6, 19-20.
72 See 17 CFR part 45 app.1.
73 See section I.D (discussing the de minimis threshold
calculation). The Commission notes that entity-based exclusions are
not a determinative means of assessing whether any particular entity
is engaged in swap dealing. See Preliminary Staff Report, supra note
21, at 12; Final Staff Report, supra note 24, at 6.
74 See 17 CFR 1.3, Swap dealer, paragraph (6)(i).
75 See generally 78 FR 45292.
—————————————————————————
With the benefits of improved data quality and analytical tools,
staff was able to conduct a more granular analysis, as compared to the
Staff Reports, in order to more accurately identify those entities
that, based on their observable business activities, are potentially
engaged in swap dealing activity (“In-Scope Entities”) 76 versus
those likely engaged in other kinds of transactions (e.g., entering
into swaps for investment purposes). Further, for the purposes of this
Proposal, a minimum unique counterparty count of 10 counterparties was
utilized to better identify the entities that are likely to be engaged
in transactions that have to be considered for the SD Definition. Each
distinct, unaffiliated counterparty of a person was regarded as one
unique counterparty (hereinafter referred to as “counterparty”).77
A threshold of 10 counterparties was utilized because, after excluding
inter-affiliate and non-U.S. swap transactions, 83 percent of
registered SDs had 10 or more reported counterparties, while
approximately 97 percent of unregistered entities had fewer than 10
counterparties. Therefore, this appeared to be a reasonable threshold
to better identify entities likely engaged in swap dealing. Adding this
filter to the analysis reduced the likelihood of false positives–i.e.,
reduced the potential that entities likely engaged in hedging or other
non-dealing activity would be identified as potential SDs.
—————————————————————————
76 The majority of In-Scope Entities are banks, broker-
dealers, non-bank financial entities, and affiliates thereof.
77 For example, if Bank A entered into swaps with each of
three entities that are all affiliated with Bank B (i.e., Bank A
entered into swaps with each of Bank B-1, Bank B-2, and Bank B-3),
and also entered into a swap with Bank C, Bank A was considered to
have four counterparties (Bank B-1, Bank B-2, Bank B-3, and Bank C).
Additionally, each invalid identifier (i.e., an invalid LEI or a
non-LEI identifier) was considered its own counterparty. However, it
is possible that each invalid identifier does not actually represent
a distinct counterparty because one counterparty may be associated
with multiple invalid identifiers.
—————————————————————————
The updated analysis largely confirmed the analysis conducted for
the Staff Reports; 78 however, there is greater confidence in the
results given the improved data and refined methodology. Nonetheless,
given the lack of a swap dealing indicator for individual swaps, and
the lack of an indicator to identify whether a specific swap need not
be considered in determining whether a person is an SD or counted
towards the person’s de minimis threshold, staff’s analysis is based on
a person’s AGNA of swaps activity, as opposed to AGNA of swap dealing
activity.
—————————————————————————
78 See generally Final Staff Report, supra note 24;
Preliminary Staff Report, supra note 21.
—————————————————————————
With respect to NFC swaps, Commission staff encountered a number of
challenges in calculating notional amounts. These included: (1) The
vast array of underlying commodities with differing characteristics;
(2) the multiple types of swaps (e.g., fixed-float, basis, options,
multi-leg, exotic); (3) the variety of data points required to
calculate notional amounts (e.g., price, quantity, quantity units,
location, grades, exchange rate); (4) locality-specific terms; and (5)
lack of industry standards for notional amount-equivalent
calculations.79 However,
[[Page 27450]]
given the limitations in the AGNA data, counterparty counts and
transaction counts were used to analyze likely swap dealing activity
for participants in the NFC swap market.
—————————————————————————
79 Compare Letter from American Petroleum Institute, Commodity
Markets Council, Edison Electric Institute, Electric Power Supply
Association, Independent Petroleum Association of America, and
Natural Gas Supply Association (Sep. 20, 2012) (stating that “The
notional amount for options should be based on the absolute value of
the product of the notional quantity of the option (without
adjustment for the option delta) multiplied by the transaction value
for the option (i.e., the premium).”), attached to a 2016 comment
letter available at https://comments.cftc.gov/PublicComments/ViewComment.aspx?id=60595&SearchText, with Letter from Futures
Industry Association Principal Traders Group (Dec. 20, 2012)
(proposing a methodology that does not utilize premium value or the
strike price, but does include option delta in the calculation),
available at https://ptg.fia.org/file/487/download?token=HSUPcHmL.
See also Ernst & Young, Notional value under Dodd-Frank: survey of
energy commodities participants (2013) (“While the term notional
value is commonly used in industry, in practice there isn’t a single
accepted definition.”), available at http://www.ey.com/Publication/
vwLUAssets/Notional_value_-_under_Dodd-Frank/$FILE/
Notional_value_under_Dodd_Frank.pdf.
—————————————————————————
(ii) Regulatory Coverage Analysis
To assess the relative impact on the swap market of potential
changes to the de minimis exception, CFTC staff analyzed the extent to
which the swap market was subject to SD regulation during the review
period because at least one counterparty to a swap was a registered SD
(“2017 Regulatory Coverage”). For purposes of this analysis, any
person listed as a provisionally registered SD on December 31, 2017,
was considered to be a registered SD. Specifically, with regard to 2017
Regulatory Coverage, staff identified the extent to which: (1) Swaps
activity, measured in terms of AGNA, was subject to SD regulation
during the review period because at least one counterparty to a swap
was a registered SD (“2017 AGNA Coverage”); (2) swaps activity,
measured in terms of number of transactions, was subject to SD
regulation during the review period because at least one counterparty
to a swap was a registered SD (“2017 Transaction Coverage”); and (3)
swaps activity was subject to SD regulation during the review period,
measured in terms of number of counterparties who transacted with at
least one registered SD (“2017 Counterparty Coverage”).
Additionally, staff estimated regulatory coverage by assessing the
extent to which the swap market would have been subject to SD
regulation at different de minimis thresholds because at least one
counterparty to a swap was identified as a “Likely SD” (“Estimated
Regulatory Coverage”). For purposes of this analysis, the term
“Likely SD” refers to an In-Scope Entity that exceeds a specified
AGNA threshold level, and trades with at least 10 counterparties. With
regard to Estimated Regulatory Coverage, staff identified the extent to
which: (1) Swaps activity, measured in terms of AGNA, would have been
subject to SD regulation during the review period, at a specified de
minimis threshold, because at least one counterparty to a swap was
identified as a Likely SD at that de minimis threshold (“Estimated
AGNA Coverage”); (2) swaps activity, measured in terms of number of
transactions, would have been subject to SD regulation during the
review period, at a specified de minimis threshold, because at least
one counterparty to a swap was identified as a Likely SD at that de
minimis threshold (“Estimated Transaction Coverage”); and (3)
counterparties in the swap market would have transacted with at least
one Likely SD during the review period, at a specified de minimis
threshold (“Estimated Counterparty Coverage”).
2. Data and Analysis
For this Proposal, the Commission considered reducing the AGNA de
minimis threshold to $3 billion, maintaining the threshold at $8
billion, or increasing the threshold. Based on the data and related
policy considerations discussed below, the Commission is of the view
that maintaining the current $8 billion AGNA de minimis threshold is
appropriate. The policy objectives underlying SD regulation–reducing
systemic risk, increasing counterparty protections, and increasing
market efficiency, orderliness, and transparency–would not be
significantly advanced if the threshold were to decrease to $3 billion
or to increase from the current $8 billion level.80 Nor does the
Commission believe that the policy objectives furthered by a de minimis
exception–increasing efficiency, allowing limited ancillary dealing,
encouraging new participants, and focusing regulatory resources–would
be significantly advanced if the threshold were to be changed.81
—————————————————————————
80 As discussed below, the analysis explored the hypothetical
effects on the swap market of changing the AGNA threshold to various
amounts between $3 billion and $100 billion.
81 The Commission also notes that setting the threshold at $8
billion would be consistent with a non-binding Congressional
Directive stating that the Commission should establish a de minimis
threshold of $8 billion or greater within 60 days of enactment of
the Consolidated Appropriations Act of 2016. See Accompanying
Statement to the Consolidated Appropriations Act of 2016,
Explanatory Statement Division A at 32 (Dec. 2015), available at
http://docs.house.gov/meetings/RU/RU00/20151216/104298/HMTG-114-RU00-20151216-SD002.pdf; H.Rpt. 114-205 at 76 (July 14, 2015),
available at https://www.congress.gov/114/crpt/hrpt205/CRPT-114hrpt205.pdf.
—————————————————————————
Analysis of the data indicates that: (1) The current $8 billion
threshold subjects almost all swap transactions (as measured by AGNA or
transaction count) to SD regulations; 82 (2) at a lower threshold of
$3 billion, there would only be a small amount of additional AGNA and
swap transactions subject to SD regulation, and potentially reduced
liquidity in the swap market, as compared to the $8 billion threshold;
(3) counterparty protections may be reduced at higher thresholds; and
(4) a lower threshold could lead to reduced liquidity for NFC swaps,
negatively impacting end-users and commercial entities who utilize NFC
swaps for hedging purposes. Additionally, the Commission expects that
maintaining an $8 billion threshold would foster the efficient
application of the SD Definition by providing continuity and addressing
the uncertainty associated with the end of the phase-in period.
—————————————————————————
82 SD regulations include, among other things, registration,
internal and external business conduct standards, reporting,
recordkeeping, risk management, margin, and chief compliance officer
requirements. However, the requirement to report a swap to an SDR
applies regardless of whether an SD is a counterparty to the swap.
—————————————————————————
The analysis below is based on a January 1, 2017, through December
31, 2017, review period, and includes swap transactions reported to
SDRs, excluding inter-affiliate and non-U.S. transactions.83 The
total size of the swap market that was analyzed, after excluding inter-
affiliate and non-U.S. transactions, was approximately $221.1 trillion
in AGNA of swaps activity (excluding NFC swaps), approximately 4.4
million transactions, and 39,107 counterparties.
—————————————————————————
83 See section II.A.1 above for additional discussion
regarding the methodology utilized to conduct the analysis.
—————————————————————————
(i) Regulatory Coverage at $8 Billion Threshold
As shown below, the data indicates that, at the $8 billion
threshold, there was nearly complete 2017 Regulatory Coverage as
measured by 2017 AGNA Coverage and 2017 Transaction Coverage.
[[Page 27451]]
Table 1–Swaps Subject to SD Regulation
2017 Transaction Coverage
—————————————————————————————————————-
Number of
transactions 2017
Asset class Total number of including at transaction
transactions least one coverage (%)
registered SD
—————————————————————————————————————-
IRS…………………………………………………. 945,593 937,975 99.19
CDS…………………………………………………. 133,570 132,899 99.50
FX swaps…………………………………………….. 2,443,659 2,435,537 99.67
Equity swaps…………………………………………. 281,219 281,211 >99.99
NFC swaps……………………………………………. 633,943 546,823 86.26
————————————————–
Total……………………………………………. 4,437,984 4,334,445 97.67
—————————————————————————————————————-
As seen in Table 1, at the $8 billion threshold, almost all swap
transactions involved at least one registered SD as a counterparty,
greater than 99 percent for IRS, CDS, FX swaps, and equity swaps. For
NFC swaps, approximately 86 percent of transactions involved at least
one registered SD as a counterparty. As discussed in more detail in
section II.A.2.iv, although that percentage is lower than the
approximately 99 percent for the other asset classes, the Commission is
of the view that with respect to NFC swaps, lower SD regulatory
coverage is acceptable given the unique characteristics of the NFC swap
market. Overall, approximately 98 percent of transactions involved at
least one registered SD.
Table 2–Swaps Subject to SD Regulation
2017 AGNA Coverage
—————————————————————————————————————-
AGNA including
Total AGNA at least one 2017 AGNA
Asset class ($Bn) registered SD coverage (%)
($Bn)
—————————————————————————————————————-
IRS…………………………………………………. 182,961 182,847 99.94
CDS…………………………………………………. 7,527 7,490 99.51
FX swaps…………………………………………….. 28,794 28,775 99.93
Equity swaps 84…………………………………….. 1,850 1,850 99.99
————————————————–
Total……………………………………………. 221,132 220,963 99.92
—————————————————————————————————————-
As seen in Table 2, at the $8 billion threshold, almost all AGNA of
swaps activity included at least one registered SD, greater than 99
percent for IRS, CDS, FX swaps, and equity swaps.
—————————————————————————
84 Coverage is approximately 99.99 percent due to rounding.
—————————————————————————
The 2017 Transaction Coverage and 2017 AGNA Coverage ratios
indicate that SD regulations covered nearly all swaps in these asset
classes, signifying that nearly all swaps already benefited from the
policy considerations discussed above (e.g., reducing systemic risk,
increasing counterparty protections, and increasing market efficiency,
orderliness, and transparency) at the existing $8 billion threshold.
The Commission notes the 2017 Counterparty Coverage was
approximately 83.5 percent–i.e., approximately 16.5 percent of the
counterparties in the swap market did not transact with at least one
registered SD on at least one swap (6,440 counterparties out of a total
of 39,107), and therefore potentially did not benefit from the
counterparty protection aspects of SD regulations.85 However, given
the 2017 AGNA Coverage and 2017 Transaction Coverage statistics, these
6,440 entities overall had limited swaps activity. Collectively, the
6,440 entities entered into 77,333 transactions, an average of
approximately 12 transactions per entity, and represented only
approximately 1.7 percent of the overall number of transactions during
the review period. Additionally, collectively, the 6,440 entities had
an AGNA of approximately $68 billion in swaps activity, an average of
approximately $10.6 million per entity, and they represented only
approximately 0.03 percent of the overall AGNA of swaps activity during
the review period in IRS, CDS, FX swaps, and equity swaps.
—————————————————————————
85 The actual number of entities without a single transaction
with a registered SD is likely lower than 6,440. Of the 6,440
entities, 1,780 have invalid identifiers that staff was unable to
manually replace with a valid LEI. It is possible that these 1,780
invalid identifiers actually represent fewer than 1,780 distinct
counterparties because one counterparty may be associated with
multiple invalid identifiers.
—————————————————————————
The Commission also believes that this limited activity indicates
that, to the extent these 6,440 entities are engaging in swap dealing
activities, such activity is likely ancillary and in connection with
other client services, potentially advancing the policy rationales
behind a de minimis exception. For example, of the 6,440 entities,
5,302 are active in IRS, indicating that these entities may be entering
into loan-related swaps with banks. These banks may be entering into an
outright amount of swap dealing activity at a level below the de
minimis threshold, or do not have to register because of the exclusion
for swaps entered into by IDIs in connection with originating
loans.86
—————————————————————————
86 See 17 CFR 1.3, Swap dealer, paragraph (5).
—————————————————————————
Generally, the Commission is of the view that the policy
considerations underlying SD regulation–reducing systemic risk,
increasing counterparty protections, and increasing market efficiency,
orderliness, and
[[Page 27452]]
transparency–are being appropriately advanced at the current $8
billion threshold given the regulatory coverage statistics discussed
above. Only a low percentage of swaps activity is not currently covered
by SD regulation-related requirements,87 indicating that the current
threshold is appropriate. Additionally, as discussed below in sections
II.A.2.ii and II.A.2.iv, a reduction in the de minimis threshold could
negatively affect the policy considerations underlying the de minimis
exception, as compared to the current $8 billion threshold.
—————————————————————————
87 Transactions that do not include at least one registered SD
as a counterparty would generally not be subject to SD-specific
regulations (e.g., margin, business conduct standard, and risk
management requirements). However, such transactions would still be
subject to swap reporting requirements (e.g., 17 CFR part 45), among
other regulations.
—————————————————————————
(ii) Regulatory Coverage at Lower Threshold
Given the high percentage of swaps that were subject to SD
regulation at the existing $8 billion threshold during the review
period, a lower threshold of $3 billion would result in only a small
amount of additional activity being directly subjected to SD
regulation. To estimate the effect of a lower de minimis threshold
during the review period, staff compared the number of Likely SDs and
the Estimated AGNA Coverage, Estimated Transaction Coverage, and
Estimated Counterparty Coverage at $8 billion and $3 billion
thresholds.
Table 3 estimates the percentage of IRS, CDS, FX swaps, and equity
swaps that would involve at least one Likely SD at de minimis
thresholds of $3 billion and $8 billion. To make these calculations,
staff used the methodology described in section II.A.1 to determine
Likely SDs at the indicated thresholds.88 Because SDR data does not
include information indicating the underlying purposes of a swap,89
the analysis likely includes swaps that were not required to be counted
under the SD Definition (e.g., swaps entered into for hedging,
investing, or proprietary trading purposes). Therefore, the estimates
of the number of Likely SDs at various AGNA thresholds may differ from
the actual number of entities that would be required to register at
those thresholds. For example, Table 3 shows that an estimated 108
entities could be required to register as SDs at the $8 billion
threshold, whereas the figures in Table 1 are based on the 100 actual
registered SDs.90 Nevertheless, the Commission believes that Table 3
presents a reasonably accurate estimate of how the number of SDs that
are required to register will fluctuate with changes in the threshold.
—————————————————————————
88 The term “Likely SD” refers to an In-Scope Entity that
exceeds a notional threshold test, and trades with at least 10
counterparties.
89 See 17 CFR part 45 app. 1.
90 Some registered SDs were not captured in the Estimated
Regulatory Coverage analysis since they primarily are involved in
the NFC swap market, which is excluded from this AGNA-based
analysis. In addition, some of the existing registered SDs reported
AGNA of swaps activity below $8 billion in 2017 but remained
registered SDs.
Table 3–Number of Likely SDs and Estimated Regulatory Coverage
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Likely SD
Number of count change Estimated AGNA Estimated Estimated
AGNA threshold ($Bn) likely SDs vs. $8 Bn coverage (%) transaction counterparty
threshold coverage (%) coverage (%)
—————————————————————————————————————-
1 2 3 4 5 6
—————————————————————————————————————-
3…………………………. 121 13 99.96 99.83 90.75
8…………………………. 108 ………….. 99.95 99.77 88.80
—————————————————————————————————————-
Column 1 of Table 3 lists the AGNA thresholds for which information
is being presented. Column 2 is the number of Likely SDs at each given
threshold as determined using the methodology described above,
including a 10 counterparty minimum. Column 3 is the change in the
number of Likely SDs, as compared to the current $8 billion threshold.
Columns 4, 5, and 6 illustrate the Estimated Regulatory Coverage, in
percentage terms, for the $3 billion and $8 billion de minimis
thresholds during the review period. The percentages are based on a
total market size in IRS, CDS, FX swaps, and equity swaps of
approximately $221.1 trillion in AGNA of swaps activity, 3.8 million
transactions, and 34,774 counterparties, after excluding inter-
affiliate and non-U.S. transactions.91
—————————————————————————
91 Note that the market totals of 3.8 million transactions and
34,774 counterparties exclude NFC swaps, whereas the market totals,
in section II.A.2.i above, of 4.4 million transactions and 39,107
counterparties include NFC swaps.
—————————————————————————
As columns 2 and 3 indicate, the number of Likely SDs increases
from 108 at an $8 billion AGNA threshold to 121 at a $3 billion AGNA
threshold–an increase of 13 entities. However, as columns 4 through 6
indicate, and as explained in more detail below in Tables 4 through 6,
if these 13 entities were all registered as SDs, the increase in
Estimated Regulatory Coverage would be small.
Table 4–Estimated AGNA Coverage ($3 Bn and $8 Bn)
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Change in
Estimated AGNA estimated AGNA Estimated AGNA Change in
AGNA threshold ($Bn) coverage (%) coverage (pct. coverage ($Bn) estimated AGNA
point) coverage ($Bn)
—————————————————————————————————————-
3……………………………………….. 99.96 0.01 221,039 19
8……………………………………….. 99.95 ………….. 221,020 …………..
—————————————————————————————————————-
[[Page 27453]]
As seen in Table 4, at a $3 billion threshold, the Estimated AGNA
Coverage would have increased from approximately $221,020 billion
(99.95 percent) to $221,039 billion (99.96 percent)–an increase of $19
billion (a 0.01 percentage point increase).
Table 5–Estimated Transaction Coverage ($3 Bn and $8 Bn)
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties)
—————————————————————————————————————-
Change in
Change in Estimated estimated
Estimated estimated transaction transaction
AGNA threshold ($Bn) transaction transaction coverage coverage
coverage (%) coverage (pct. (number of (number of
point) trades) trades)
—————————————————————————————————————-
3……………………………………….. 99.83 0.06 3,797,734 2,404
8……………………………………….. 99.77 ………….. 3,795,330 …………..
—————————————————————————————————————-
As seen in Table 5, at a $3 billion threshold, the Estimated
Transaction Coverage would have increased from 3,795,330 trades (99.77
percent) to 3,797,734 trades (99.83 percent)–an increase of 2,404
trades (a 0.06 percentage point increase).
Table 6–Estimated Counterparty Coverage ($3 Bn and $8 Bn)
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Change in
Change in Estimated estimated
Estimated estimated counterparty counterparty
AGNA threshold ($Bn) counterparty counterparty coverage coverage
coverage (%) coverage (pct. (number of (number of
point) counterparties) counterparties)
—————————————————————————————————————-
3……………………………………… 90.75 1.96 31,559 680
8……………………………………… 88.80 ………….. 30,879 ……………
—————————————————————————————————————-
As seen in Table 6, at a $3 billion threshold, the Estimated
Counterparty Coverage would have increased from 30,879 counterparties
(88.80 percent) to 31,559 counterparties (90.75 percent)–an increase
of 680 counterparties (a 1.96 percentage point increase).
The Commission is of the view that these small increases in
Estimated AGNA Coverage, Estimated Transaction Coverage, and Estimated
Counterparty Coverage indicate that the systemic risk mitigation,
counterparty protection, and market efficiency benefits of SD
regulation would be enhanced in only a very limited manner if the de
minimis threshold decreased from $8 billion to $3 billion.
Additionally, the limited regulatory and market benefits of a $3
billion threshold should be considered in conjunction with the costs
associated with a lower threshold. In particular, the persons required
to register would incur the likely significant costs of implementing,
among other things, policies and procedures, technology systems, and
training programs to address requirements imposed by SD
regulations.92
—————————————————————————
92 Registered SDs are subject to a broad range of regulatory
requirements. See, e.g., supra note 82.
—————————————————————————
Further, if the de minimis threshold decreases to $3 billion, it is
possible that the number of Likely SDs would be smaller than estimated
because the analysis includes swaps that would not be required to be
counted under the SD Definition (e.g., swaps entered into for hedging,
investing, or proprietary trading purposes). Further, persons engaged
in swap dealing in amounts between $3 billion and $8 billion may also
reduce their swap dealing activity to remain under a lower threshold,
thus further reducing the actual incremental change.
To more fully understand the potential market impact of a lower
threshold, the Commission also analyzed the 13 entities that were
identified as Likely SDs at a $3 billion threshold but not at an $8
billion threshold.
—————————————————————————
93 “Other” refers to commercial entities, such as consumers,
merchants, producers, or traders of physical commodities, who appear
to be engaging in some swap dealing activity.
Table 7–Categories of Likely SDs ($3 Bn and $8 Bn)
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Category $3 Bn $8 Bn Difference
—————————————————————————————————————-
Bank/Bank subsidiary/Bank affiliate……………………….. 105 95 10
Non-bank financial………………………………………. 14 11 3
Other 93……………………………………………… 2 2 0
———————————————–
Total………………………………………………. 121 108 13
—————————————————————————————————————-
[[Page 27454]]
As seen in Table 7, for IRS, CDS, FX swaps, and equity swaps,
entities that would potentially have to register at a lower threshold
primarily include banks or bank affiliates, 10 of the 13 entities in
total. In the aggregate, these 13 entities have only approximately $19
billion in AGNA of swaps activity (approximately 0.01 percent of the
overall market) and 2,406 transactions (approximately 0.06 percent of
the overall market) with currently unregistered market participants,
further indicating that decreasing the threshold to $3 billion would
yield only a small increase in Estimated Regulatory Coverage. After
reviewing the list of the 10 banking entities’ counterparties, it is
also likely that some of the activity for the 10 banking entities
consists of swaps that would be excluded from the de minimis
calculation pursuant to the exclusion for swaps entered into by IDIs in
connection with loans to customers (as provided for in paragraph (5) of
the SD Definition), potentially reducing the likelihood that all or
some of these entities would be required to register at a lower
threshold.
In addition to a negligible increase in the AGNA or number of
transactions that would be subject to SD regulation at a $3 billion
threshold, policy considerations may indicate that lowering the
threshold would not be beneficial to the market. A number of Project
KISS suggestions addressed these policy-related concerns.94
—————————————————————————
94 See Letters from BP, Chatham, CDE, CMC, EDF, EEI/EPSA, FSR,
IIB, IECA, ISDA, NGSA, SIFMA, Western Union, and WU/GPS/AFEX, supra
note 58.
—————————————————————————
The Commission believes that a $3 billion AGNA de minimis threshold
could lead certain entities to reduce or cease swap dealing activity to
avoid registration and its related costs. Generally, the costs
associated with registering as an SD may exceed the revenue from
dealing swaps for many small or mid-sized banks and non-financial
entities. Additionally, some persons engaged in swap dealing activities
below the current $8 billion threshold have indicated that swap dealing
is not a major source of revenue and is only complementary to other
client-facing businesses, suggesting that these smaller dealing
entities could reduce or eliminate their swap dealing activities if the
threshold is lowered. Although the magnitude of this effect is not
certain, reduced swap dealing activity could lead to increased
concentration in the swap dealing market, reduced availability of
potential swap counterparties, reduced liquidity, increased volatility,
higher fees, wider bid/ask spreads, or reduced competitive pricing. The
end-user counterparties of these smaller swap dealing entities may be
adversely impacted by the above consequences and could face a reduced
ability to use swaps to manage their business risks.95
—————————————————————————
95 See generally Letters from BP, Chatham, CDE, CMC, EDF, EEI/
EPSA, FSR, IIB, IECA, ISDA, NGSA, SIFMA, Western Union, and WU/GPS/
AFEX, supra note 58; Final Staff Report, supra note 24, at 11-12
(citing comment letters submitted in response to Preliminary Staff
Report, supra note 21).
—————————————————————————
Based on the likely small increase in regulatory coverage, and the
potential negative market effects of a $3 billion de minimis threshold,
the Commission is of the view that, on balance, the overall policy
goals of SD registration and the de minimis exception would not be
advanced by lowering the threshold from $8 billion.
(iii) Regulatory Coverage at Higher Thresholds
To assess the effect of a higher de minimis threshold, staff
compared the number of Likely SDs and the Estimated AGNA Coverage,
Estimated Transaction Coverage, and Estimated Counterparty Coverage at
$8 billion, $20 billion, $50 billion, and $100 billion thresholds. As
with the analysis above regarding $3 billion and $8 billion thresholds,
to make these calculations, staff used the methodology described in
section II.A.1 to determine Likely SDs at the indicated thresholds.96
As discussed, if a swap transaction includes at least one Likely SD,
that transaction would theoretically be subject to SD-related
regulations.
—————————————————————————
96 Additionally, as discussed in section II.A.2.ii, the
percentages are based on a total market size in IRS, CDS, FX swaps,
and equity swaps of approximately $221.1 trillion in AGNA of swaps
entered into, 3.8 million transactions, and 34,774 counterparties,
after excluding inter-affiliate and non-U.S. transactions.
Table 8–Number of Likely SDs and Regulatory Coverage
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Likely SD
Number of count change Estimated AGNA Estimated Estimated
AGNA threshold ($Bn) likely SDs vs. $8 Bn coverage (%) transaction counterparty
threshold coverage (%) coverage (%)
—————————————————————————————————————-
1 2 3 4 5 6
—————————————————————————————————————-
8…………………………. 108 ………….. 99.95 99.77 88.80
20………………………… 93 (15) 99.94 99.72 86.00
50………………………… 81 (27) 99.91 99.35 83.09
100……………………….. 72 (36) 99.88 99.20 81.19
—————————————————————————————————————-
As seen in Table 8, the number of Likely SDs decreases from 108 at
an $8 billion AGNA threshold to 93, 81, and 72 Likely SDs, at the $20
billion, $50 billion, and $100 billion thresholds, respectively. As
columns 4 and 5 indicate, and as explained in more detail below in
Tables 9 and 10, the reduction in the number of Likely SDs would lead
to only a relatively small decrease in Estimated AGNA Coverage and
Estimated Transaction Coverage at higher AGNA thresholds of up to $100
billion. However, as column 6 indicates, and as explained in more
detail below in Table 11, there would potentially be a more pronounced
reduction in Estimated Counterparty Coverage at higher AGNA thresholds.
[[Page 27455]]
Table 9–Estimated AGNA Coverage ($8 Bn, $20 Bn, $50 Bn, and $100 Bn)
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Change in
Estimated AGNA estimated AGNA Estimated AGNA Change in
AGNA threshold ($Bn) coverage (%) coverage (pct. coverage ($Bn) estimated AGNA
point) coverage ($Bn)
—————————————————————————————————————-
8……………………………………….. 99.95 ………….. 221,020 …………..
20………………………………………. 99.94 (0.01) 221,005 (15)
50………………………………………. 99.91 (0.04) 220,935 (85)
100……………………………………… 99.88 (0.06) 220,877 (143)
—————————————————————————————————————-
As seen in Table 9, at a $100 billion threshold, the Estimated AGNA
Coverage would have decreased from approximately $221,020 billion
(99.95 percent) to $220,877 billion (99.88 percent)–a decrease of $143
billion (a 0.06 percentage point decrease). The decrease would be lower
at thresholds of $20 billion and $50 billion, at 0.01 percentage points
and 0.04 percentage points, respectively.
Table 10–Estimated Transaction Coverage ($8 Bn, $20 Bn, $50 Bn, and $100 Bn)
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Change in
Change in Estimated estimated
Estimated estimated transaction transaction
AGNA threshold ($Bn) transaction transaction coverage coverage
coverage (%) coverage (pct. (number of (number of
point) trades) trades)
—————————————————————————————————————-
8……………………………………….. 99.77 ………….. 3,795,330 …………..
20………………………………………. 99.72 (0.05) 3,793,454 (1,876)
50………………………………………. 99.35 (0.42) 3,779,466 (15,864)
100……………………………………… 99.20 (0.58) 3,773,440 (21,890)
—————————————————————————————————————-
As seen in Table 10, at a $100 billion threshold, the Estimated
Transaction Coverage would have decreased from 3,795,330 trades (99.77
percent) to 3,773,440 trades (99.20 percent)–a decrease of 21,890
trades (a 0.58 percentage point decrease). The decrease would be lower
at thresholds of $20 billion and $50 billion, at 0.05 percentage points
and 0.42 percentage points, respectively.
Table 11–Estimated Counterparty Coverage ($8 Bn, $20 Bn, $50 Bn, and $100 Bn)
IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Change in
Change in Estimated estimated
Estimated estimated counterparty counterparty
AGNA threshold ($Bn) counterparty counterparty coverage coverage
coverage (%) coverage (pct. (number of (number of
point) counterparties) counterparties)
—————————————————————————————————————-
8……………………………………… 88.80 ………….. 30,879 ……………
20…………………………………….. 86.00 (2.80) 29,907 (972)
50…………………………………….. 83.09 (5.71) 28,893 (1,986)
100……………………………………. 81.19 (7.61) 28,234 (2,645)
—————————————————————————————————————-
As seen in Table 11, at a $100 billion threshold, the Estimated
Counterparty Coverage would have decreased from 30,879 counterparties
(88.80 percent) to 28,234 counterparties (81.19 percent)–a decrease of
2,645 counterparties (a 7.61 percentage point decrease). The decrease
would be lower at thresholds of $20 billion and $50 billion, at 2.80
percentage points and 5.71 percentage points, respectively.
The small decrease in Estimated AGNA Coverage and Estimated
Transaction Coverage at higher thresholds potentially indicates that
increasing the threshold to up to $100 billion may have a limited
effect on the systemic risk and market efficiency policy considerations
of SD regulation. Additionally, a higher threshold could enhance the
benefits associated with a de minimis exception, for example by
allowing entities to increase ancillary dealing activity. However, the
decrease in Estimated Counterparty Coverage indicates that fewer
entities would be transacting with registered SDs, and therefore, the
counterparty protection benefits of SD regulation might be reduced if
the de minimis threshold increased from $8 billion to $20 billion, $50
billion, or $100 billion.
[[Page 27456]]
Also, the Commission is preliminarily of the view that maintaining
the status quo signals long-term stability of the de minimis threshold.
This should provide for the efficient application of the SD Definition
as it allows for long-term planning based on the current AGNA de
minimis threshold.
(iv) Regulatory Coverage of NFC Swap Market
As indicated in Table 1 above, approximately 86 percent of NFC
swaps involved at least one registered SD. Although that percentage is
lower than the approximately 99 percent for other asset classes, as
discussed below, the Commission is of the view that lower SD regulatory
coverage is acceptable given the unique characteristics of the NFC swap
market. Table 12 presents information on the category and SD
registration status of In-Scope Entities with at least 10 NFC swap
counterparties.
Table 12–Categories and Registration Status
In-Scope Entities
[Minimum 10 NFC counterparties]
————————————————————————
Unregistered
Category Registered SDs entities
————————————————————————
Bank/Bank subsidiary/Bank affiliate….. 39 12
Non-bank financial entity (e.g., traders 2 8
without physical assets)……………
Other (e.g., commercial entities, such 3 22
as consumers, merchants, producers, or
traders of physical commodities, who
appear to be engaging in some swap
dealing activity)………………….
——————————-
Total…………………………. 44 42
————————————————————————
Analysis of SDR data indicates that were 86 In-Scope Entities with
10 or more NFC swap counterparties during the review period. As seen in
Table 12, of these 86 entities, 44 are registered SDs and 42 are
unregistered entities. Of the 42 unregistered entities, 22 have a
primary business that is non-financial in nature. Specifically, these
are commercial entities, such as consumers, merchants, producers, or
traders of physical commodities, who appear to be engaging in some swap
dealing activity. Moreover, half of the 12 unregistered banks or bank
affiliates active in the NFC swap market are small or mid-sized in
nature. Further, of the 42 unregistered entities, only seven have AGNA
of swaps activity greater than $3 billion in IRS, CDS, FX swaps, and
equity swaps, indicating that the majority of these entities are
primarily or exclusively active in NFC swaps.97 In addition to the
fact that entering into NFC swaps is the primary swaps activity for the
majority of these 42 entities, a review of these entities’ transaction
data indicates that they appear to provide NFC swaps generally to
smaller end-user counterparties, potentially to permit these
counterparties to hedge risks associated with physical commodities.
—————————————————————————
97 Five have greater than $8 billion in AGNA of swaps
activity.
98 The transaction and counterparty totals are not mutually
exclusive, as some of the 44 registered SDs transact with the 42
unregistered entities. The 44 registered SDs also transact with some
of the same counterparties as the 42 unregistered entities.
Table 13–NFC Swap Transaction Statistics
In-Scope Entities
[Minimum 10 NFC counterparties] 98
————————————————————————
Unregistered
Statistic Registered SDs entities (42
(44 total) total)
————————————————————————
Transactions:
Mean………………………….. 12,638 2,195
Total…………………………. 546,656 85,025
Total as Percent of all NFC 86% 13%
transactions…………………..
Counterparties:
Mean………………………….. 176 40
Total…………………………. 4,626 1,207
Total as Percent of all NFC 83% 22%
counterparties…………………
————————————————————————
Table 13 indicates that registered SDs with 10 or more
counterparties entered into 86 percent of the transactions in the NFC
swap market, and faced 83 percent of counterparties in at least one
transaction,99 indicating that the existing $8 billion de minimis
threshold has helped extend the benefits of SD registration to much of
the NFC swap market. The trading activity of the 42 unregistered
entities represents approximately 13 percent of the overall NFC swap
market by transaction count. However, as compared to the existing 44
registered SDs with at least 10 counterparties, these 42 unregistered
entities have significantly lower mean transaction and counterparty
counts, indicating that they may only be providing ancillary dealing
services to accommodate commercial end-user clients, and/or be engaged
in non-swap dealing activity, such as hedging activity or proprietary
trading.
—————————————————————————
99 Including existing registered SDs with fewer than 10
counterparties would only add 167 trades to the analysis.
—————————————————————————
Lacking notional-equivalent data for NFC swaps, it is unclear how
many of the 42 entities would actually be subject to SD registration at
any given de minimis threshold. It is possible that a portion of the
swaps activity for some or all of these entities qualifies for the
physical hedging exclusion in paragraph (6)(iii) of the SD Definition
or is
[[Page 27457]]
otherwise not swap dealing activity, regardless of the de minimis
threshold level.100
—————————————————————————
100 Hypothetically, if all 42 entities registered, the
percentage of all NFC swaps facing at least one registered SD would
rise from approximately 86 percent to 98 percent.
—————————————————————————
The Commission believes that the available data, related policy
considerations, and comments from market participants 101 demonstrate
that maintaining an $8 billion threshold is also appropriate with
respect to the NFC swap asset class.
—————————————————————————
101 See Letters from BP, CDE, CMC, EDF, EEI/EPSA, FSR, IIB,
IECA, ISDA, NGSA, and SIFMA, supra note 58.
—————————————————————————
First, a reduced de minimis threshold likely would have negative
impacts on NFC swap liquidity. Specifically, some entities may reduce
dealing to avoid registration and its related costs. Many of the
entities identified in Table 12 that are not registered as SDs are non-
financial in nature and trade in physical commodity markets, or are
small or mid-sized banks. Based on analysis of data and comments from
swap market participants, it is likely that much of the swap dealing by
these entities serves small or mid-sized end-users in their localized
markets. Often, the end-users served by these entities do not have
trading relationships with larger, financial-entity SDs, and the end-
users rely on these small to mid-sized and/or non-financial entities to
access liquidity provided by larger dealers.
For example, the 42 unregistered In-Scope Entities described above
entered into NFC swaps with 1,207 counterparties, 1,174 of which were
not registered SDs. Of these 1,174 entities, 705 had no transactions
with registered SDs. Almost all of the 705 entities are commercial end-
users.102 Of the 52,396 NFC swaps that these 705 entities entered
into, 48,813 were entered into with the 42 unregistered In-Scope
Entities discussed above.103 Therefore, it is likely that these 705
entities are generally relying on the 42 unregistered In-Scope Entities
for access to the NFC swap market. It is unclear if these 705 entities
would be able to establish trading lines with registered SDs if some of
the 42 entities reduced or eliminated their NFC swap dealing
activities.
—————————————————————————
102 The 705 entities comprise 12.6 percent of the 5,578
counterparties who entered into NFC swaps.
103 The 48,413 NFC swaps comprise 7.6 percent of the 633,943
NFC swaps entered into during the review period.
—————————————————————————
If the de minimis threshold is decreased, the Commission is of the
view that this would negatively affect swap market access and liquidity
for commercial end-user counterparties of currently unregistered
entities that are active in NFC swaps. Specifically, these entities may
reduce or stop dealing activity if a lower threshold would subject them
to SD registration.104 The swap dealing activity of unregistered
entities dealing in NFC swaps is likely a smaller part of those
entities’ overall business activities, and may not support the costs
associated with SD registration and compliance.105
—————————————————————————
104 Comments from market participants have specifically
indicated that some entities would reduce or stop dealing activity
if the de minimis threshold is reduced. See generally Letters from
BP, CMC, EDF, IIB, and NGSA; Final Staff Report, supra note 24, at
11-12, 16-17 (citing comment letters submitted in response to
Preliminary Staff Report, supra note 21).
105 See generally Letters from BP, CDE, CMC, EDF, EEI/EPSA,
FSR, IIB, IECA, ISDA, NGSA, and SIFMA, supra note 58; Final Staff
Report, supra note 24, at 11-12, 16-17 (citing comment letters
submitted in response to Preliminary Staff Report, supra note 21).
—————————————————————————
Generally, a reduction in the threshold could negatively affect the
ability of these entities to provide ancillary services involving swap
transactions, a stated benefit for having a de minimis exception.
Further, if the threshold is maintained at $8 billion, it is possible
that unregistered entities that currently limit trading activity to
below $3 billion may increase dealing volumes to levels closer to $8
billion, potentially increasing liquidity in the NFC swap market. As
the Commission has stated:
The futures and swaps markets are essential to our economy and
the way that businesses and investors manage risk. Farmers,
ranchers, producers, commercial companies, municipalities, pension
funds, and others use these markets to lock in a price or a rate.
This helps them focus on what they do best: innovating, producing
goods and services for the economy, and creating jobs. The CFTC
works to ensure these hedgers and other market participants can use
markets with confidence.106
—————————————————————————
106 CFTC Responsibilities, available at https://www.cftc.gov/About/MissionResponsibilities/index.htm.
Allowing small to mid-sized non-financial entities with a presence
in the physical commodity markets to provide ancillary services
involving swap transactions helps fulfill this goal.
Second, even if the threshold were decreased, it is unclear if or
to what extent the 2017 Counterparty Coverage statistic of 86 percent
would increase for NFC swaps since several of those entities likely
already have less than $3 billion in AGNA of swap dealing activity.
Additionally, as discussed above, many of these entities would likely
reduce activity to remain below the SD de minimis threshold, further
reducing any increase in Estimated Counterparty Coverage from a lower
threshold.
Third, many of the entities engaged in limited swap dealing
activity for NFC swaps appear to have a unique role in the market in
that their primary business is generally non-financial in nature and
the swap dealing activity is ancillary to their primary role in the
market. Further, these firms generally pose less systemic risk than
financial market SDs.107 For these reasons, the Commission believes
that there are strong public policy arguments not to require that all
of these entities register with the Commission.
—————————————————————————
107 See e.g., Letter from CDE, supra note 58; Final Staff
Report, supra note 24, at 12 (citing comment letters submitted in
response to Preliminary Staff Report, supra note 21).
—————————————————————————
Fourth, although it has not conducted an analysis of AGNA activity
in NFC swaps,108 the Commission is of the preliminary view that
increasing the de minimis threshold could potentially lead to fewer
entities being required to register as SDs due to their NFC swap market
activity. This could reduce the number of entities transacting with
registered SDs, and therefore also reduce the benefits of those SD
regulations concerned with counterparty protections.
—————————————————————————
108 As discussed above in section II.A.1.i, there were
challenges in calculating notional amounts for NFC swaps.
—————————————————————————
Preliminarily, the Commission does not believe that decreasing or
increasing the de minimis threshold would have much benefit for the NFC
swap market. Rather, there is a concern that a change in the threshold
would cause harm to that market.
(v) Setting an $8 Billion Threshold Avoids Potential Administrative
Burdens
The Commission notes that setting the de minimis threshold at $8
billion would allow persons to continue to use existing calculation
procedures and business processes that are geared towards the $8
billion threshold. Modifying the threshold could require entities to
revise monitoring processes, modify internal systems, and amend
policies and procedures tied to an $8 billion threshold, leading to
increased costs. Further, as discussed, the Commission expects that
maintaining an $8 billion threshold would foster the efficient
application of the SD Definition by providing continuity and addressing
the uncertainty associated with the end of the phase-in period.
Based on the available data and policy considerations discussed
above, the Commission proposes to maintain the de minimis threshold for
AGNA of swap dealing at $8 billion.
[[Page 27458]]
3. Request for Comments
The Commission requests comments on the following questions. To the
extent possible, please quantify the impact of issues discussed in
comments, including costs and benefits, as applicable.
(1) Based on the data and related policy considerations, is an $8
billion de minimis threshold appropriate? Why or why not?
(2) Should the de minimis threshold be reduced to $3 billion? Why
or why not?
(3) Should the de minimis threshold be increased? If so, to what
threshold? Why or why not?
(4) Are the assumptions discussed above regarding a $3 billion de
minimis threshold, an $8 billion de minimis threshold, or a higher de
minimis threshold accurate, including, but not limited to, compliance
costs and market liquidity assumptions?
(5) As an alternative or in addition to maintaining an $8 billion
threshold, should the Commission consider a tiered SD registration
structure that would establish various exemptions from SD compliance
requirements for SDs whose AGNA of swap dealing activity is between the
$3 billion and $8 billion?
(6) What is the impact of the de minimis threshold level on market
liquidity? Are there entities that would increase their swap dealing
activities if the Commission raised the de minimis exception, or
decrease their swap dealing activities if the Commission lowered the
threshold? How might these changes affect the swap market?
(7) Are there additional policy or statutory considerations
underlying SD regulation or the de minimis exception that the
Commission should consider?
(8) Have there been any structural changes to the swap market such
that the policy considerations have evolved since the adoption of the
SD Definition?
(9) Are entities curtailing their swap dealing activity to avoid SD
registration at $8 billion or $3 billion thresholds, and if so, what
impact is that having on the swap market? Are certain asset classes or
product types more affected by such curtailed dealing activity than
others?
(10) Does registration as an SD allow persons to substantially
increase their swap dealing activity, or is increased swap dealing
activity constrained by capital requirements at the firm level and
other considerations?
(11) Should an entity’s AGNA of swap dealing activity continue to
be tested against the de minimis threshold for any rolling 12-month
period, only for calendar year periods, or for some other regular 12-
month period such as quarterly or semi-annual testing?
(12) What are the benefits and detriments to using AGNA of swap
dealing activity as the relevant criterion for SD registration, as
compared to other options, including, but not limited to, entity-netted
notional amounts or credit exposures?
B. Swaps Entered Into by Insured Depository Institutions in Connection
With Loans to Customers
1. Background
The CEA provides that in no event shall an IDI be considered to be
an SD to the extent it offers to enter into a swap with a customer in
connection with originating a loan with that customer.109 With
respect to the statutory exclusion, the Commissions jointly adopted
paragraph (5) of the SD Definition, which allows an IDI to exclude–
when determining whether it is an SD–certain swaps it enters into with
a customer in connection with originating a loan to that customer (the
“IDI Swap Dealing Exclusion”).110
—————————————————————————
109 7 U.S.C. 1a(49)(A).
110 17 CFR 1.3, Swap dealer, paragraph (5).
—————————————————————————
For a swap to be considered to have “been entered into . . . in
connection with originating a loan,” the IDI Swap Dealing Exclusion
requires that: (1) The IDI enter into the swap no earlier than 90 days
before and no later than 180 days after execution of the loan agreement
(or transfer of principal); 111 (2) the rate, asset, liability, or
other notional item underlying the swap be tied to the financial terms
of the loan or be required as a condition of the loan to hedge risks
arising from potential changes in the price of a commodity; 112 (3)
the duration of the swap not extend beyond termination of the loan;
113 (4) the IDI be the source of at least 10 percent of the principal
amount of the loan, or the source of a principal amount greater than
the notional amount of swaps entered into by the IDI with the customer
in connection with the loan; 114 (5) the AGNA of swaps entered into
in connection with the loan not exceed the principal amount
outstanding; 115 (6) the swap be reported as required by other CEA
provisions if it is not accepted for clearing; 116 (7) the
transaction not be a sham, whether or not the transaction is intended
to qualify for the IDI Swap Dealing Exclusion; 117 and (8) the loan
not be a synthetic loan, including, without limitation, a loan credit
default swap or a loan total return swap.118 A swap that meets the
above requirements would not be considered when assessing whether a
person is an SD.
—————————————————————————
111 17 CFR 1.3, Swap dealer, paragraph (5)(i)(A).
112 17 CFR 1.3, Swap dealer, paragraph (5)(i)(B).
113 17 CFR 1.3, Swap dealer, paragraph (5)(i)(C).
114 17 CFR 1.3, Swap dealer, paragraph (5)(i)(D).
115 17 CFR 1.3, Swap dealer, paragraph (5)(i)(E).
116 17 CFR 1.3, Swap dealer, paragraph (5)(i)(F).
117 17 CFR 1.3, Swap dealer, paragraph (5)(iii)(A).
118 17 CFR 1.3, Swap dealer, paragraph (5)(iii)(B).
—————————————————————————
Based on information gained from market participants,119 as well
as analysis of data submitted to SDRs, the Commission believes that the
IDI Swap Dealing Exclusion: (1) Has unnecessarily restrictive
conditions; (2) is not clear in certain instances; and (3) limits the
ability of IDIs to provide swaps that would allow their customers to
properly hedge risks associated with bank loans. In general, these
issues make it more difficult for IDIs that are not registered as SDs
to provide swaps to loan customers because of the concern that certain
swaps would not qualify for the IDI Swap Dealing Exclusion. Certain
IDIs are restricting loan-related swaps because of the potential that
such swaps would have to be counted towards an IDI’s de minimis
threshold, leading the IDI to register as an SD and incur registration-
related costs. The restrictions on loan-related swaps by IDIs may
result in reduced availability of swaps for the loan customers of these
IDIs, potentially hampering the ability of end-user borrowers to enter
into hedges in connection with their loans.
—————————————————————————
119 See, e.g., Letters from Chatham, FSR, and Northern Trust,
supra note 58; Final Staff Report, supra note 24, at 17 (citing
comment letters submitted in response to Preliminary Staff Report,
supra note 21).
—————————————————————————
The Commission is not at this time proposing to amend the IDI Swap
Dealing Exclusion in paragraph (5) of the SD Definition. As discussed
above, pursuant to requirements of section 712(d)(1) of the Dodd-Frank
Act, the CFTC and SEC jointly adopted the IDI Swap Dealing Exclusion in
paragraph (5) as part of the definition of what constitutes swap
dealing activity. Rather than proposing to revise the scope of activity
that constitutes swap dealing, the Commission is proposing to amend
paragraph (4) of the SD Definition, which addresses the de minimis
exception.120 In particular, the
[[Page 27459]]
Commission is proposing to add specific factors that an IDI can
consider when assessing whether swaps entered into with customers in
connection with loans to those customers must be counted towards the
IDI’s de minimis calculation. The IDI could assess these factors and
exclude qualifying swaps from the de minimis calculation regardless of
whether the swaps would qualify for the IDI Swap Dealing Exclusion.
—————————————————————————
120 A joint rulemaking is not required with respect to changes
to the de minimis exception-related factors. 77 FR at 30634 n.464
(“We do not interpret the joint rulemaking provisions of section
712(d) of the Dodd-Frank Act to require joint rulemaking here,
because such an interpretation would read the term “Commission”
out of CEA section 1a(49)(D) (and Exchange Act section 3(a)(71)(D)),
which themselves were added by the Dodd-Frank Act.”). As noted
above, pursuant to section 712(a)(1) of the Dodd-Frank Act, the
Commission is consulting with the SEC and prudential regulators
regarding the changes to the de minimis exception discussed in this
Proposal.
—————————————————————————
Specifically, the Commission is proposing new paragraph (4)(i)(C)
of the SD Definition, which would except from the calculation of the de
minimis threshold certain loan-related swaps entered into by IDIs (the
“IDI De Minimis Provision”). The IDI De Minimis Provision would have
requirements that are similar to the IDI Swap Dealing Exclusion, but
would encompass a broader scope of loan-related swaps. The proposed IDI
De Minimis Provision includes: (1) A lengthier timing requirement for
when the swap must be entered into; (2) an expansion of the types of
swaps that are eligible; (3) a reduced syndication percentage
requirement; (4) an elimination of the notional amount cap; and (5) a
refined explanation of the types of loans that would qualify.
The Commission notes that any swap that meets the requirements of
the IDI Swap Dealing Exclusion in paragraph (5) of the SD Definition
would also meet the requirements of the proposed IDI De Minimis
Provision. However, proposed paragraph (4)(i)(C) provides additional
flexibility as to what swaps need to be counted towards an IDI’s de
minimis calculation. The Commission believes that the broader scope of
the proposed IDI De Minimis Provision, described in further detail
below, may advance the policy objectives of the de minimis exception by
allowing some IDIs to provide swaps to customers in connection with
loans without having to register as an SD. In other words, the proposed
provision would facilitate swap dealing in connection with other client
services and may encourage more IDIs to participate in the swap
market–two policy objectives of the de minimis exception. Greater
availability of loan-related swaps may also improve the ability of
customers to hedge their loan-related exposure. The Commission also
believes that the more flexible provisions of the proposed IDI De
Minimis Provision may allow for more focused, efficient application of
the SD Definition to the activities of IDIs that offer swaps in
connection with loans.
Commission staff reviewed data to assess the potential impact of
the IDI De Minimis Provision. Table 14 below provides information
regarding the AGNA of swaps activity entered into by entities that were
identified as IDIs 121 with at least 10 counterparties in IRS, CDS,
FX swaps, and equity swaps.122 The table summarizes the AGNA of swaps
activity of smaller IDIs within various AGNA ranges from $1 billion to
$50 billion. Note that persons that are affiliated with IDIs were not
included in this analysis (e.g., broker-dealer subsidiaries, other non-
IDI affiliates).
—————————————————————————
121 Based on information on the Federal Deposit Insurance
Corporation website, available at https://www5.fdic.gov/idasp/advSearch_warp_download_all.asp.
122 As discussed above in section II.A.1.i, there were
challenges in calculating notional amounts for NFC swaps. Therefore,
the analysis in this section focuses on the other asset classes.
Table 14–IDI Activity (Ranges Between $1 Bn and $50 Bn) IRS, CDS, FX Swaps, and Equity Swaps
[Minimum 10 counterparties]
—————————————————————————————————————-
Number of IDIs AGNA of swaps activity 123
——————————————————————————-
Total with no
Range of AGNA of swaps activity Total with at Total with no registered SDs
($Bn) Registered as Not registered least one registered SDs (percent of
SDs as SDs registered SD ($Bn) overall
($Bn) market)
—————————————————————————————————————-
1-3……………………….. 0 13 13.5 8.9 0.004
3-8……………………….. 0 10 37.5 16.5 0.007
8-20………………………. 0 4 42.6 6.5 0.003
20-50……………………… 2 3 160.7 14.2 0.006
—————————————————————————————————————-
As seen in Table 14, there are a number of IDIs that have 10 or
more counterparties and are active in the swap market at lower
AGNAs.124 For example, there are 13 IDIs that are not currently
registered as SDs and have between $1 billion and $3 billion in AGNA of
swaps activity. Based on market participant comments 125 and review
of the trading data, the Commission believes that many of the
unregistered entities engaged in $1 billion to $50 billion in AGNA of
swaps activity are entering into swaps with customers in connection
with loans to those customers. Additionally, many of these IDIs could
be restricting their swaps activity because the IDI Swap Dealing
Exclusion limits, or is ambiguous regarding, which swaps are considered
to be “in connection with” originating a loan (and therefore are
excluded from the SD analysis).
—————————————————————————
123 The AGNA totals are not mutually exclusive across rows,
and therefore cannot be added together without double counting. For
example, some IDIs in the $1 billion to $3 billion range transact
with IDIs in the $3 billion to $8 billion range. Transactions that
involve entities from multiple rows are reported in both rows.
124 Although staff did not manually identify the category of
every counterparty with less than $1 billion of activity, there are
at least 200 entities generally identified as banks, each with AGNA
of swaps activity below $1 billion and with at least 10
counterparties.
125 See generally supra note 119.
—————————————————————————
As Table 14 indicates, the AGNA of swaps activity that these
unregistered IDIs enter into with other non-registered entities is low
relative to the total swap market analyzed. For example, there are 10
IDIs that have between $3 billion and $8 billion each in AGNA of swaps
activity–none of which are registered SDs. In aggregate, these IDIs
entered into approximately $54.0 billion in AGNA of swaps activity.
However, only $16.5 billion of that activity was between two entities
not registered as SDs, representing only 0.007 percent of the total
AGNA of swaps activity during the review period. Depending on the range
of AGNA of swaps activity examined, the level of activity occurring
between two entities not registered as SDs (at least one of which is an
IDI) varies between only approximately 0.003 percent and 0.007 percent
of the total AGNA of swaps activity.
Given those low percentages, the Commission is of the view that the
policy benefits of SD regulation likely would not be significantly
diminished if the proposed IDI De Minimis Provision
[[Page 27460]]
is adopted and some of the unregistered IDIs marginally expand the
number and AGNA of swaps they enter into with customers in connection
with loans to those customers. This low percentage of swap activity
between two unregistered entities may also indicate that the limits of
the IDI Swap Dealing Exclusion are restricting certain IDIs from taking
full advantage of the exclusion. Further, though these entities are
active in the swap market, the Commission is of the view that their
activity poses less systemic risk as compared to larger IDIs because of
their limited AGNA of swaps activity as compared to the overall size of
the market. Generally, the reduced potential for risk, combined with
the potential that end-user loan customers may benefit from increased
access to loan-related swaps, provides support for the proposed IDI De
Minimis Provision.
The proposed rule text described below may provide greater ability
for IDIs to not count loan-related swaps towards their de minimis
threshold calculations, potentially increasing the availability of
loan-related swaps for their borrowers and advancing the stated policy
goals of the de minimis exception.
2. Proposal
(i) Timing Requirement
Pursuant to the IDI Swap Dealing Exclusion in paragraph (5) of the
SD Definition, if an IDI enters into a swap in connection with
originating a loan to a customer, that swap must be entered into no
more than 90 days before or 180 days after the date of execution of the
loan agreement (or date of transfer of principal to the customer) for
the IDI Swap Dealing Exclusion to apply.126
—————————————————————————
126 17 CFR 1.3, Swap dealer, paragraph (5)(i)(A).
—————————————————————————
The Commission is proposing new paragraph (4)(i)(C)(1) of the SD
Definition, which, for purposes of an IDI’s de minimis calculation,
does not include the 180-day restriction. Therefore, an IDI would not
have to count towards its de minimis calculation any swap entered into
in connection with a loan after the date of execution of the loan
agreement (or date of transfer of principal). Additionally, the
Commission is proposing to generally maintain the restriction for swaps
entered into more than 90 days before loan funding, except where an
executed commitment or forward agreement for the applicable loan
exists, in which case the 90-day restriction would not apply.
The Commission believes that the timing restrictions in the IDI
Swap Dealing Exclusion limit the ability of IDIs to effectively provide
hedging solutions to end-user borrowers. Depending on market conditions
or business needs, it is not uncommon for a borrower to wait for a
period of time greater than 180 days after a loan is originated to
enter into a hedging transaction. For example, if an IDI provides a
loan with a 10-year term, and the borrower chooses to wait until 181
days after the loan to hedge interest rate risk underlying that loan,
the swap would not qualify for the IDI Swap Dealing Exclusion. However,
under the proposed IDI De Minimis Provision, if the borrower entered
into the hedge 181 days after execution, the swap would not have to be
counted towards an IDI’s de minimis calculation. Given that many of the
entities that the Commission expects to utilize the IDI De Minimis
Provision are small and mid-sized banks, not including this timing
restriction could lead to increased swap availability for the borrowing
customers that rely on such IDIs for access to swaps (and thereby
advance a policy objective of the de minimis exception).
For a swap to be considered “in connection with” a loan for the
purposes of the IDI De Minimis Provision, the Commission believes there
should be a reasonable expectation that the loan will be entered into
with a customer. Therefore, the proposed 90-day restriction is suitable
because it requires that the swap be entered into within an appropriate
period of time prior to the execution of the loan. However, where an
executed commitment or forward agreement to loan money exists between
the IDI and the borrower prior to the 90-day limit, the Commission
believes a reasonable expectation for the loan is demonstrated.
Accordingly, for purposes of the IDI De Minimis Provision, the
Commission is proposing that an IDI may enter into a swap with a
customer, in connection with a loan to that customer, more than 90 days
prior to the execution of the loan where there is an executed
commitment or forward agreement to loan money.
(ii) Relationship of Swap to Loan
The IDI Swap Dealing Exclusion requires that the rate, asset,
liability, or other notional item underlying such swap is, or is
directly related to, a financial term of such loan or that such swap is
required, as a condition of the loan under the insured depository
institution’s loan underwriting criteria, to be in place in order to
hedge price risks incidental to the borrower’s business and arising
from potential changes in the price of a commodity (other than an
excluded commodity).127 As explained in the SD Definition Adopting
Release, the first category is for “adjusting the borrower’s exposure
to certain risks directly related to the loan itself, such as risks
arising from changes in interest rates or currency exchange rates,”
and the second category is to “mitigate risks faced by both the
borrower and the lender, by reducing risks that the loan will not be
repaid.” 128 Therefore, both categories of swaps are directly
related to repayment of the loan.
—————————————————————————
127 See 17 CFR 1.3, Swap dealer, paragraph (5)(i)(B); 77 FR at
30622.
128 77 FR at 30622.
—————————————————————————
The Commission is proposing new paragraph (4)(i)(C)(2), which
states that for purposes of the IDI De Minimis Provision, a swap is
“in connection with” a loan if the rate, asset, liability or other
term underlying such swap is, or is related to, a financial term of
such loan, or if such swap is required as a condition of the loan,
either under the insured depository institution’s loan underwriting
criteria or as is commercially appropriate, in order to hedge risks
incidental to the borrower’s business (other than for risks associated
with an excluded commodity) that may affect the borrower’s ability to
repay the loan.
The Commission is of the view that the proposed language would
further the policy objectives of the de minimis exception by providing
flexibility to reflect the actual market practices of end-users who
hedge their risk. The first provision refers to a “term” rather than
a “notional item,” and does not include the word “directly,” for
added flexibility. Because the second provision in the proposed
language allows for swaps that are not explicitly required as a
condition of the IDI’s underwriting criteria, it provides flexibility
for IDIs to enter into certain swaps with borrowers to hedge risks
(e.g., commodity price risks) that may not have been evident at the
time the loan was entered into or that are determined based on the
unique characteristics of the borrower rather than the standard bank
underwriting criteria. For example, physical commodity-related hedging
decisions may not be made at the time the loan is entered into, but
rather at a future point when inventory is purchased or produced.
Additionally, in these cases, the underwriting criteria may not
explicitly require that the borrower enter into swaps to hedge
commodity price risk. This additional flexibility allows IDIs to enter
into swaps, as commercially appropriate, with borrowers to hedge
risks–in this case,
[[Page 27461]]
commodity price risk–that may affect the borrower’s ability to repay
the loan without the limitation that such swaps must be contemplated in
the original underwriting criteria in order not to be counted towards
an IDI’s de minimis calculation. The Commission believes that this
proposal benefits both IDIs and customers and serves the purposes of
the de minimis exception by allowing for greater use of swaps in
effective and dynamic hedging strategies. The Commission also believes
that this aspect of the proposed new provision would facilitate
efficient application of the SD Definition by reducing the concern that
ancillary dealing activity may subject the IDI to SD registration-
related requirements.
(iii) Syndicated Loan Requirement
For a loan-related swap with a notional amount equal to the full
principal amount of the loan to qualify for the IDI Swap Dealing
Exclusion, an IDI must be responsible for at least 10 percent of a
syndicated loan.129 In the proposed IDI De Minimis Provision, new
paragraph (4)(i)(C)(4)(i) requires an IDI to be, under the terms of the
agreements related to the loan, the source of at least five percent of
the maximum principal amount under the loan for a related swap not to
be counted towards its de minimis calculation.130 In addition to this
different syndication requirement, proposed paragraph (4)(i)(C)(4)(i)
also includes a single provision that consolidates the separate
provisions in paragraphs (5)(i)(D)(1) and (5)(i)(D)(2) of the IDI Swap
Dealing Exclusion.
—————————————————————————
129 17 CFR 1.3, Swap dealer, paragraph (5)(i)(D).
130 Moreover, as discussed below in section II.B.2.iv, if the
IDI is responsible for at least five percent of a syndicated loan,
the Commission is proposing to not include the restriction that the
AGNA of swaps entered into in connection with the loan not exceed
the principal amount outstanding.
—————————————————————————
For loans that are widely syndicated, lenders may not have control
over their final share of the syndication. It is not uncommon for
borrowers to enter into negotiations regarding related swaps before the
underlying loan has been executed. The need to have at least a 10
percent share of the syndicate can make it more difficult for IDIs to
determine, in advance, whether a swap they have negotiated with a
borrower will qualify for the IDI Swap Dealing Exclusion. The lower
syndication threshold of five percent in this Proposal provides
additional flexibility for IDIs to enter into a greater range of loan-
related swaps without having those swaps count towards their de minimis
calculations.
The Commission is also proposing to add paragraph (4)(i)(C)(4)(ii),
which states that if an IDI is a source of less than a five percent of
the maximum principal amount of the loan, the notional amount of all
swaps the IDI enters into in connection with the financial terms of the
loan cannot exceed the principal amount of the IDI’s loan in order to
qualify for the IDI De Minimis Provision. This provision is similar to
existing paragraph (5)(i)(D)(3) of the IDI Swap Dealing Exclusion,
except that it uses a five percent participation threshold.
(iv) Total Notional Amount of Swaps
The IDI Swap Dealing Exclusion requires that the AGNA of swaps
entered into in connection with the loan not exceed the principal
amount outstanding.131 The Commission is proposing to not include
this restriction in the IDI De Minimis Provision in the case of IDIs
responsible for at least five percent of the loan principal.132 It is
not uncommon for an IDI-related loan to have related swaps that hedge
multiple categories of exposure. For example, it is possible for a
borrower to hedge some combination of interest rate, foreign exchange,
and/or commodity risk in connection with a loan. The Commission notes
that the AGNA of such swaps entered into in connection with the loan
could exceed the principal amount outstanding; therefore, this
restriction might unduly restrict the ability of certain IDIs to
provide loan-related swaps to their borrowing customers to more
effectively allow the customers to hedge loan-related risks. Not
including this restriction in the IDI De Minimis Provision would
thereby advance the policy objectives of the de minimis exception noted
above.
—————————————————————————
131 17 CFR 1.3, Swap dealer, paragraph (5)(i)(E).
132 As discussed above in section II.B.2.iii in connection
with proposed paragraph (4)(i)(C)(4)(ii), if an IDI is a source of
less than a five percent of the maximum principal amount of the
loan, the notional amount of all swaps the IDI enters into in
connection with the financial terms of the loan cannot exceed the
principal amount of the IDI’s loan.
—————————————————————————
(v) Types of Loans
The requirements of the IDI Swap Dealing Exclusion do not account
for types of credit financings that are similar to loans (e.g., credit
enhanced bonds, letters of credit, leases, revolving credit
facilities). When the Commission adopted the IDI Swap Dealing
Exclusion, it generally referenced existing common law definitions for
the term “loan,” 133 stating that “[r]ather than examine at this
time the many particularized examples of financing transactions cited
by some commenters, the term `loan’ for purposes of this exclusion
should be interpreted in accordance with this settled legal meaning.”
134 Additionally, to prevent evasion, the Commission adopted
restrictions stating that the term “loan” shall not include any
synthetic loan, including, without limitation, a loan credit default
swap or loan total return swap, and stating that the term “loan” does
not include sham loans, whether or not intended to qualify for the
exclusion from the definition of the term swap dealer in this
rule.135
—————————————————————————
133 77 FR at 30622 n.326 (“To constitute a loan there must be
(i) a contract, whereby (ii) one party transfers a defined quantity
of money, goods, or services, to another, and (iii) the other party
agrees to pay for the sum or items transferred at a later date.”
(internal citations omitted)).
134 Id. at 30622.
135 17 CFR 1.3, Swap dealer, paragraph (5)(iii). See 77 FR at
30622, 30708.
—————————————————————————
Similarly, to prevent evasion, the Commission is proposing new
paragraph (4)(i)(C)(6), which states that the IDI De Minimis Provision
shall not apply to any transaction that is a sham and shall not apply
to any synthetic loan. The Commission believes it is appropriate to
continue to require that swaps associated with synthetic loans be
counted towards the de minimis exception. However, for added
simplicity, the Commission has not included the provision specifically
listing “a loan credit default swap or loan total return swap.” The
Commission notes that certain loan credit default swaps and loan total
return swaps may be valid loan structures. Nonetheless, to the extent a
credit default swap, loan total return swap, or any other financial
instrument would be considered a synthetic lending arrangement, swaps
entered into in connection with such a synthetic lending arrangement
would not qualify for the IDI De Minimis Provision.
The Commission is of the view that swaps entered into in connection
with non-synthetic lending arrangements that are commonly known in the
market as “loans” would generally not need to be counted towards an
IDI’s de minimis calculation if the other requirements of the IDI De
Minimis Provision are also met. Although the Commission is not
proposing to assess individual categories of transactions to determine
whether they qualify as loans, it recognizes the common law definition
cited in the SD Definition Adopting Release. Additionally, the
Commission’s regulations in part 75 (regarding “Proprietary Trading
and Certain Interests in and Relationships with Covered Funds”) define
a loan as any loan, lease, extension of credit, or
[[Page 27462]]
secured or unsecured receivable that is not a security or
derivative.136 The Commission is of the view that this definition
would also apply for purposes of the IDI De Minimis Provision.
Generally, allowing swaps entered into in connection with other forms
of financing commonly known as loans not to be counted towards the de
minimis threshold calculation better reflects the breadth of lending
products and credit financings that borrowers often utilize and thereby
advances the policy objectives of the de minimis exception noted above.
—————————————————————————
136 17 CFR 75.2(s).
—————————————————————————
(vi) Additional Requirements
The remaining requirements for the IDI De Minimis Provision are
substantively identical to the IDI Swap Dealing Exclusion provisions in
paragraph (5) of the SD Definition.
Proposed paragraph (4)(i)(C)(3) is identical to paragraph
(5)(i)(C), stating that the termination date of the swap cannot extend
beyond termination of the loan.
Proposed paragraph (4)(i)(C)(5) states that a swap is considered to
have been entered into in connection with originating a loan to a
customer if the IDI: (1) Directly transfers the loan amount; (2) is
part of a syndicate of lenders that is the source of the loan amount;
(3) purchases or receives a participation in the loan; or (4) under the
terms of the agreements related to the loan, is, or is intended to be,
the source of funds for the loan. This provision is similar to
paragraph (5)(ii) of the IDI Swap Dealing Exclusion, except that it
also encompasses a loan-related swap if the IDI “is intended to be”
the source of the funds. This difference is consistent with the timing
requirement provision, discussed above in section II.B.2.i, which does
not include the 90 days before execution of the loan restriction in
situations where an executed commitment or forward agreement for the
applicable loan exists.
3. Request for Comments
The Commission requests comments on the following questions. To the
extent possible, please quantify the impact of issues discussed in the
comments, including costs and benefits, as applicable.
(1) Based on the data and related policy considerations, is the
proposed IDI De Minimis Provision appropriate? Why or why not?
(2) How will the proposed IDI De Minimis Provision impact IDIs who
enter into swaps with customers in connection with loans? Will IDIs
enter into more swaps with loan customers as result of the proposed IDI
De Minimis Provision?
(3) If the underlying loan is called, put, accelerated, or if it
goes into default before the scheduled termination date, should the
related swap be required to be terminated to remain eligible for the
IDI De Minimis Provision?
(4) Are there circumstances that can be anticipated at the time of
loan origination that would support permitting the termination date of
the swap to extend beyond termination of the loan?
(5) Does the provision in proposed paragraph (4)(i)(C)(1)
referencing “executed commitment” or “forward agreement”
sufficiently reflect market practice regarding how swaps may be entered
into in connection with a loan in advance of the loan being executed?
(6) Is it common for an IDI to have as low as five percent
participation in a syndicated loan and also provide swaps in connection
with the loan?
(7) Is it common for the AGNA of loan-related swaps to exceed the
outstanding principal amount of the loan? In what circumstances?
(8) Should the Commission define “synthetic loan”? How should
that term be defined?
(9) Are there circumstances in which a loan credit default swap or
loan total return swap would not be considered a synthetic lending
arrangement?
(10) If an IDI would have to register as an SD but for the IDI De
Minimis Provision, should that IDI be required to provide notice to the
Commission, Commission staff, or the National Futures Association?
Alternatively, to utilize the proposed IDI De Minimis Provision, should
IDIs be required to directly reference the related loan in the written
swap confirmation?
C. Swaps Entered Into To Hedge Financial or Physical Positions
1. Background and Proposal
In adopting the SD Definition, the Commission provided that,
subject to certain requirements, swaps entered into by a person for
purposes of hedging physical positions are not considered in
determining whether the person is an SD (the “Physical Hedging
Exclusion”).137 However, the regulatory text does not include a
specific exclusion for swaps entered into for purposes of hedging
financial positions. Rather, the Commission stated that swaps entered
into for hedging purposes that did not fall within the SD Definition,
including those that qualify for an exclusion in the SD Definition,
would not count towards the de minimis threshold.138
—————————————————————————
137 17 CFR 1.3, Swap dealer, paragraph ] (6)(iii).
138 77 FR at 30631 n.433 (“For purposes of the de minimis
exception to the [SD Definition] . . . the relevant question in
determining whether swaps count as dealing activity against the de
minimis thresholds is whether the swaps fall within the [SD
Definition] . . . . If hedging or proprietary trading activities did
not fall within the definition, including because of the application
of [paragraph (6) of the SD Definition in Sec. 1.3], they would not
count against the de minimis thresholds.”).
—————————————————————————
Based on feedback from swap market participants during
implementation of the SD regulations and in connection with Project
KISS,139 the Commission believes that although there is a specific
exclusion for swaps entered into in connection with hedging physical
positions, the absence of an explicit exclusion in the regulations for
swaps entered into for purposes of hedging financial positions has
caused uncertainty in the marketplace regarding whether swaps that
hedge, for example, interest rate risk, credit risk, or foreign
exchange risk, would also need to be counted towards a person’s de
minimis threshold. This uncertainty could cause inefficient application
of the SD Definition by leading some persons to: (1) Count swaps that
they enter into to hedge financial positions as swap dealing activity
for purposes of assessing whether the persons would need to register as
SDs; or (2) not enter into swaps to hedge financial positions for fear
of exceeding the de minimis threshold.
—————————————————————————
139 See Letters from IIB, Western Union, and WU/GPS/AFEX,
supra note 58.
—————————————————————————
The Commission is of the view that an explicit statement of the
factors that indicate when a swap entered into to hedge financial or
physical positions (“hedging swap”) is excluded from counting towards
the de minimis threshold would help swap market participants know with
greater certainty what swaps have to be counted towards the de minimis
threshold, and thereby help market participants apply the SD Definition
more efficiently. The Commission is proposing to add a hedging
exception in new paragraph (4)(i)(D) of the SD Definition, permitting
entities to not count towards their de minimis calculations hedging
swaps, when such swaps meet certain conditions (the “Hedging De
Minimis Provision”). Similar to the proposed IDI De Minimis Provision,
the Hedging De Minimis Provision does not revise the scope of activity
that constitutes swap dealing. Rather, the new provision would set out
explicit factors an entity can consider for purposes of assessing
whether hedging swaps must be counted towards the de minimis
[[Page 27463]]
calculation.140 The Commission notes that any swap that meets the
requirements of the Physical Hedging Exclusion in paragraph (6)(iii) of
the SD Definition would also meet the requirements of the proposed
Hedging De Minimis Provision, but meeting the requirements of the
Physical Hedging Exclusion is not a prerequisite for application of the
Hedging De Minimis Provision. In addition, as the Commission noted in
the SD Definition Adopting Release, if a swap does not satisfy the
criteria of the Hedging De Minimis Provision, this does not mean the
swap is necessarily swap dealing activity.141 Rather, such hedging
activity should then be considered in light of all the other relevant
facts and circumstances to determine whether the person is engaging in
activity (e.g., market making, accommodating demand) that brings the
person within the SD Definition.
—————————————————————————
140 See section II.B.1. As discussed, a joint rulemaking with
the SEC is not required under the statute with respect to the de
minimis exception-related factors. 77 FR at 30634 n.464.
141 77 FR at 30613.
—————————————————————————
Proposed paragraph (4)(i)(D) states that to qualify for the Hedging
De Minimis Provision, a swap must be entered into by a person for the
primary purpose of reducing or otherwise mitigating one or more of the
specific risks to which it is subject, including, but not limited to,
market risk, commodity price risk, rate risk, basis risk, credit risk,
volatility risk, correlation risk, foreign exchange risk, or similar
risks arising in connection with existing or anticipated identifiable
assets, liabilities, positions, contracts or other holdings of the
person or any affiliate. Additionally, the person entering into the
hedging swap must not: (1) Be the price maker of the hedging swap; (2)
receive or collect a bid/ask spread, fee, or commission for entering
into the hedging swap; and (3) receive other compensation separate from
the contractual terms of the hedging swap in exchange for entering into
the hedging swap.
The requirements that the person not be a price maker of the swap
or receive compensation for the swap should ensure that the Hedging De
Minimis Provision does not improperly exclude swap dealing activity. As
discussed in the SD Definition Adopting Release, in connection with
swaps that hedge physical positions:
When a person enters into a swap for the purpose of hedging the
person’s own risks in specified circumstances, an element of the
[SD] definition–the accommodation of the counterparty’s needs or
demands–is absent. Therefore, consistent with our overall
interpretive approach to the definition, the activity of entering
into such swaps (in the particular circumstances defined in the
rule) does not constitute swap dealing. Providing an exception for
such swaps from the [SD] analysis reduces costs that persons using
such swaps would incur in determining if they are [SDs].142
—————————————————————————
142 77 FR at 30710.
The Commission believes that this rationale applies broadly to
swaps that hedge both financial and physical positions. When the person
is not the price maker of the hedging swap, or otherwise receiving
compensation, the person is not accommodating the needs of a
counterparty, such swap is generally not swap dealing activity, and
therefore should not be counted for purposes of the de minimis
exception. Adding this specific exception as a factor to be considered
for purposes of the de minimis calculation provides additional clarity
which advances the policy objectives of the de minimis threshold. In
particular, the Commission believes that the scope of the Hedging De
Minimis Provision would encourage greater use of swaps (i.e., greater
participation in the swap market) to hedge risks. Additionally, the
proposed rule accounts for circumstances where entities may hedge risks
using affiliates. The flexible terms of the Hedging De Minimis
Provision should facilitate an efficient application of the SD
Definition that is more focused on activity that is covered by the
statutory and regulatory definition of swap dealing. As noted below,
the Hedging De Minimis Provision contains elements to ensure that it
does not improperly exclude swap dealing activity that should be
counted against the de minimis threshold.
The SD Definition Adopting Release also states that, generally,
swaps that hedge positions that were entered into as part of swap
dealing activity would also not need to be counted towards a person’s
de minimis threshold calculation if they meet the requirements of the
proposed exception.143 The proposed Hedging De Minimis Provision is
consistent with the CFTC’s position in the SD Definition Adopting
Release.
—————————————————————————
143 The CFTC stated that “the relevant question in
determining whether swaps count as dealing activity against the de
minimis thresholds is whether the swaps fall within the [SD
Definition] . . . . If hedging or proprietary trading activities did
not fall within the definition . . . they would not count against
the de minimis thresholds.” Id. at 30631 n.433. DSIO later stated
that back-to-back swaps should each undergo a facts and
circumstances analysis to determine if they should be considered
swap dealing activity. See Frequently Asked Questions (FAQ)–[DSIO]
Responds to FAQs About Swap Entities (Oct. 12, 2012), available at
https://www.cftc.gov/idc/groups/public/@newsroom/documents/file/swapentities_faq_final.pdf.
—————————————————————————
Lastly, the proposed Hedging De Minimis Provision also includes, in
paragraphs (D)(3) through (D)(5), the following requirements that are
in the Physical Hedging Exclusion: (1) The swap must be economically
appropriate to the reduction of risks that may arise in the conduct and
management of an enterprise engaged in the type of business in which
the person is engaged; (2) the swap must be entered into in accordance
with sound business practices; and (3) the swap is not in connection
with activity structured to evade designation as an SD. The Commission
believes that these requirements are also appropriate for this broader
Hedging De Minimis Provision to ensure that swap dealing activity is
not improperly being excluded from a person’s de minimis threshold
calculation.
2. Request for Comments
The Commission requests comments on the following questions. To the
extent possible, please quantify the impact of issues discussed in the
comments, including costs and benefits as applicable.
(1) Based on the policy considerations, is the proposed Hedging De
Minimis Provision appropriate? Why or why not?
(2) Is the proposed Hedging De Minimis Provision too narrowly or
broadly tailored?
(3) How will the proposed Hedging De Minimis Provision impact
entities that enter into swaps to hedge financial or physical
positions?
(4) The proposed Hedging De Minimis Provision would be used to
determine whether a person has exceeded the AGNA threshold set forth in
paragraph (4)(i)(A) of the SD Definition, whereas the Physical Hedging
Exclusion in paragraph (6)(iii) of the SD Definition addresses when a
swap is not considered in determining whether a person is an SD. How
might this distinction impact how entities analyze their swap dealing
activity and whether they would exceed the de minimis threshold?
D. Swaps Resulting From Multilateral Portfolio Compression Exercises
1. Background and Proposal
The Commission is proposing new paragraph (4)(i)(E) of the SD
Definition, which would allow a person to exclude from its de minimis
calculation swaps that result from multilateral portfolio compression
exercises (“MPCE De
[[Page 27464]]
Minimis Provision”).144 The MPCE De Minimis Provision is consistent
with DSIO no-action relief issued on December 21, 2012 (“Staff Letter
12-62”).145 Specifically, DSIO stated that it would not recommend
that the Commission take enforcement action against any person for
failure to include in its de minimis calculation the terminations of
swaps (in whole or in part) or swaps entered into as replacement swaps
as part of a multilateral portfolio compression exercise (as defined in
paragraph 23.500(h) of the Commission’s regulations). The relief
provided was not time-limited.
—————————————————————————
144 Similar to the proposed IDI De Minimis Provision and the
Hedging De Minimis Provision, the MPCE De Minimis Provision does not
revise the scope of activity that constitutes swap dealing. Rather,
the new provision sets out factors an entity can consider for
purposes of assessing whether swaps resulting from multilateral
portfolio compression exercises need to be counted towards the de
minimis calculation.
145 CFTC Staff Letter No. 12-62, supra note 54.
—————————————————————————
The Commission concurs with the position taken in Staff Letter 12-
62. Generally, multilateral portfolio compression allows swap market
participants with large portfolios to “net down” the size and number
of outstanding swaps between them. The Commission is of the view that
this advances the policy considerations behind SD regulation by
reducing counterparty credit risk, lowering the AGNA of outstanding
swaps, and reducing operational risks by decreasing the number of
outstanding swaps. The Commission understands that multilateral
portfolio compression exercises do not permit participants to provide
liquidity or set prices in the market. A participant in a multilateral
portfolio compression exercise submits some criteria for its
participation in the exercise (e.g., credit or counterparty limits),
but the outcome of a compression cycle will depend on several variables
that the participants cannot know or control, such as the positions in
counterparties’ portfolios and the criteria set by other participants.
Given this process, the Commission is of the view that multilateral
portfolio compression exercise swaps generally do not involve any of
the attributes the Commission has identified as indicative of swap
dealing activity.146 Further, the Commission notes that counting such
swaps towards a person’s de minimis threshold could discourage
participation in multilateral portfolio compression exercises, reducing
the market benefit of the risk reduction such exercises provide.
—————————————————————————
146 See, e.g., 77 FR at 30606-19 (e.g., accommodating demand,
market making, holding oneself out as a dealer in swaps, seeking to
profit by providing liquidity, etc.).
—————————————————————————
To advance the policy objectives of the de minimis exception
discussed above, proposed paragraph (4)(i)(E) would allow a person to
exclude from its de minimis calculation swaps that result from
multilateral portfolio compression exercises. In particular, the MPCE
De Minimis Provision’s explicit statement that such swaps do not need
to be counted towards the de minimis threshold would facilitate
efficient application of the SD Definition. Moreover, adding this
proposed exception to the regulatory text would therefore be consistent
with the goals of Project KISS. Additionally, to ensure that the scope
of this exception is not improperly exceeded, the proposed rule
includes an anti-evasion provision.
2. Request for Comments
The Commission requests comments on the following questions. To the
extent possible, please quantify the impact of issues discussed in the
comments, including costs and benefits, as applicable.
(1) Is the proposed MPCE De Minimis Provision appropriate? Why or
why not?
(2) Is the proposed MPCE De Minimis Provision too narrowly or
broadly tailored? Are there additional restrictions or conditions that
should apply in order for swaps resulting from multilateral portfolio
compression exercises to not count towards a person’s de minimis
threshold?
(3) How will the proposed MPCE De Minimis Provision impact entities
that enter into multilateral portfolio compression exercises?
E. Methodology for Calculating Notional Amounts
1. Background and Proposal
Given the potential variety of methods that could be used to
calculate the notional amount for certain swaps, particularly for swaps
where notional amount is not a contractual term of the transaction
(e.g., NFC swaps), the Commission is proposing new paragraph (4)(vii)
of the SD Definition, which provides that the Commission may approve or
establish methodologies for calculating notional amounts for purposes
of determining whether a person exceeds the AGNA de minimis threshold.
Further, the Commission is proposing to delegate to the Director of
DSIO the authority to make such determinations.
In the SD Definition Adopting Release, the Commission did not
prescribe specific calculation methodologies for notional amounts
(except for leveraged swaps),147 and in the context of calculating
notional amounts to determine whether an entity was a major swap
participant (“MSP”), the Commission explicitly stated that it
“contemplate[d] the use of industry standard practices.” 148
Subsequent to issuance of the SD Definition Adopting Release, DSIO
issued interpretive responses to frequently asked questions regarding
calculating notional amounts for purposes of the de minimis exception
(the “DSIO FAQ Guidance”).149
—————————————————————————
147 The Commission noted that “effective notional” should be
used if the swap is leveraged or structurally enhanced. See 17 CFR
1.3, Swap dealer, paragraph (4)(i)(A); 77 FR at 30630.
148 77 FR at 30670 n. 902.
149 See Frequently Asked Questions (FAQ)–[DSIO] Responds to
FAQs About Swap Entities (Oct. 12, 2012), available at https://www.cftc.gov/idc/groups/public/@newsroom/documents/file/swapentities_faq_final.pdf.
—————————————————————————
Further, for purposes of reporting swaps to trade repositories, the
Committee on Payments and Market Infrastructures (“CPMI”) and the
Board of the International Organization of Securities Commissions
(“IOSCO”) recently issued guidance regarding the definition, format,
and usage of key over-the-counter derivative data elements, which
included guidance on calculating certain notional amounts (the
“Technical Guidance”).150 The calculation methodologies described
in the Technical Guidance will be considered for adoption by the
Commission in future rulemakings related to swap data reporting.151
However, the Commission recognizes that the Technical Guidance does not
necessarily address how notional amounts should be calculated for
purposes of the de minimis exception under CFTC regulations.
—————————————————————————
150 See CPMI and Board of IOSCO, Technical Guidance–
Harmonisation of critical OTC derivatives data elements (other than
UTI and UPI) (Apr. 2018), available at https://www.bis.org/cpmi/publ/d175.pdf.
151 See Technical Guidance, supra note 150, at 7 (“The
responsibility for issuing requirements for market participants on
the reporting of OTC derivative transactions to [trade repositories]
falls within the remit of the relevant authorities. Therefore, this
document does not represent guidance on which critical data elements
will be required to be reported in a given jurisdiction. Rather, if
such data elements are required to be reported in a given
jurisdiction, this document represents guidance to the authorities
in that jurisdiction on the definition, the format and the allowable
values that would facilitate consistent aggregation at a global
level.”).
—————————————————————————
The Commission notes that market participants have already
requested clarity regarding how notional amounts should be calculated
for NFC swaps for purposes of determining whether a person exceeds the
AGNA de minimis
[[Page 27465]]
threshold.152 Additionally, the notional amount calculation
methodologies described in the DSIO FAQ Guidance, the methodologies
used by market participants as industry standard practice, and the
methodologies described in the Technical Guidance differ from one
another in some respects. Thus, the Commission believes additional
clarity about the appropriate notional amount calculation methodologies
for purposes of the SD de minimis threshold would be beneficial.
Further, additional questions may arise regarding notional amount
calculations, as it relates to the AGNA de minimis threshold, given the
broad array of swaps available across all asset classes and the
potential for new types of swap products becoming available in the
future. Therefore, the Commission is proposing new paragraph
(4)(vii)(A) of the SD Definition, which sets out a mechanism for the
Commission, on its own or upon written request by a person, to
determine the methodology to be used to calculate the notional amount
for any group, category, type, or class of swaps for purposes of
whether a person exceeds the AGNA de minimis threshold. The Commission
notes that the process for submitting a written request regarding the
methodology for notional amount calculations would be consistent with
the process described in Sec. 140.99 of the Commission’s
regulations.153 Further, the proposed rule requires that such
methodology be economically reasonable and analytically supported, and
that any such determination be made publicly available and posted on
the CFTC website.154
—————————————————————————
152 See, e.g., Letter from CEWG; Letter from Natural Gas
Supply Association (Jan. 15, 2016), available at https://comments.cftc.gov/PublicComments/ViewComment.aspx?id=60595&SearchText=.
153 See 17 CFR 140.99.
154 Pursuant to this proposed rule, it is possible that
methodologies for calculating notional amounts for the de minimis
calculation could be approved or established that differ from
methodologies in the Technical Guidance. However, the purpose of the
Technical Guidance was not to consider specific requirements that
jurisdictions may have with respect to calculating notional amount
for registration purposes. The Commission notes that the proposed
approach is similar to one taken by the Canadian Securities
Administrators. See Proposed National Instrument 93-102 Derivatives:
Registration and Proposed Companion Policy 93-102 Derivatives:
Registration (Apr. 19, 2018) (collectively, the “Proposed
Instrument”), available at http://www.albertasecurities.com/Regulatory%20Instruments/5399899%20_%20CSA%20Notice%2093-102.pdf.
The Proposed Instrument includes an alternative notional calculation
methodology–for the purpose of derivative dealer registration
thresholds–that differs from the Technical Guidance. See Proposed
Instrument at 6-7, 24-26.
—————————————————————————
From time to time, DSIO issues interpretive guidance or no-action
letters to registrants on a variety of issues, often to address
uncertainty regarding the application of Commission regulations (e.g.,
the DSIO FAQ Guidance). Consistent with that practice, the Commission
also believes it is important to provide clarity regarding calculation
methodologies, as it relates to the AGNA de minimis threshold, to
market participants on a timely basis. Doing so would ensure that
persons are fully aware of whether their activities could lead to (or
presently entail) SD registration requirements in the event of market
or regulatory changes. Delegation by the Commission of this function to
DSIO should help to provide clarity on a timely basis, and provide
certainty that DSIO has the authority to make notional amount
calculation determinations. Therefore, the Commission is proposing new
paragraph (4)(vii)(B)(i) of the SD Definition, which delegates to the
Director of DSIO, or such other employee(s) that the Director may
designate, the authority to determine the methodology to be used to
calculate the notional amount for any group, category, type, or class
of swaps for purposes of whether a person exceeds the AGNA de minimis
threshold. Additionally, the Director of DSIO would be able to submit
any matter delegated pursuant to proposed paragraph (4)(vii)(A) to the
Commission for its consideration. Further, as is the case with existing
delegations to staff, the Commission would continue to reserve the
right to exercise the delegated authority itself at any time.
Consistent with the requirements of proposed paragraph (4)(vii)(A), any
determination made pursuant to this proposed delegation must be
economically reasonable and analytically supported, and be made
publicly available and posted on the CFTC website. As is the case with
staff interpretive letters, once a determination is made, either by the
Commission or the Director of DSIO, all persons may rely on the
determination.
Rather than codifying all permitted notional amount calculation
methodologies for purposes of the AGNA de minimis threshold, or
requiring other Commission action each time new methodologies are
approved, the Commission believes that providing delegated authority
gives the Commission and staff appropriate flexibility to promptly
respond to future market developments regarding notional amount
calculation methodologies. The Commission expects that subsequent to
adopting this delegation of authority, either the Commission or the
Director of DSIO will determine methodologies for calculating notional
amounts for certain categories of swaps.
2. Request for Comments
The Commission welcomes comments on the following questions
regarding the proposed process for determining methodologies for
calculating notional amounts, and the proposed delegation of authority.
To the extent possible, please quantify the impact of issues discussed
in the comments, including costs and benefits, as applicable.
(1) Is the proposed process to determine the methodology to be used
to calculate the notional amount for any group, category, type, or
class of swaps appropriate? Why or why not?
(2) Is the proposed process too narrowly or broadly tailored?
(3) Is the restriction that a methodology be economically
reasonable and analytically supported appropriate? Why or why not? What
other standards may be appropriate for this purpose?
(4) How will the proposed process impact persons that enter into
swaps where notional amount is not a stated contractual term?
(5) Is the proposed delegation of authority too narrowly or broadly
tailored?
(6) How will the proposed delegation of authority impact persons
that enter into swaps where notional amount is not a stated contractual
term?
(7) Is there a better alternative to this proposed process? If so,
please describe.
The Commission also welcomes comments on the following questions
regarding calculation of notional amounts for purposes of the de
minimis exception. Comments regarding the calculation of notional
amounts should focus on the de minimis exception (rather than other
Commission regulations, such as the reporting requirements in part 45).
To the extent possible, please quantify the comments, including costs
and benefits, as applicable.
(1) Should the notional amount (either stated or calculated) for
transactions with embedded optionality be delta-adjusted by the delta
of the underlying options, provided that the methods are economically
reasonable and analytically supported? Should delta-adjusted notional
amounts be used for all asset classes and product types, or only some?
(2) For swaps without stated contractual notional amounts, should
“price times volume” generally be used
[[Page 27466]]
as the basis for calculating the notional amount?
(3) What other notional amount calculation methods, aside from
“price times volume,” could be used for swaps without a stated
notional amount that renders a calculated notional amount equivalent
more directly comparable to the stated contractual notional amount
typically available in IRS, CDS, and FX swaps? 155
—————————————————————————
155 “Price times volume” is similar to a cash flow
calculation, while “stated contractual notional” is usually the
basis that forms a cash flow calculation when combined with price,
strike, fixed rate, coupon, or reference index. Therefore, “stated
contractual notional amount” may be described as more similar to
“volume” than “price times volume.” For example, for a $100
million interest rate swap, the stated notional amount is typically
the basis of the periodic calculated cash flows instead of the
actual cash flows, which are calculated using the stated notional
amount and the stated “price” per leg (such as a fixed or floating
rate index).
—————————————————————————
(4) For swaps without a stated contractual notional amount, does
calculation guidance exist in other jurisdictions and/or regulatory
frameworks, such as in banking, insurance, or energy market
regulations? Should persons be permitted to use such guidance to
calculate notional amounts for purposes of a de minimis threshold
calculation?
(5) What should be used for “price” when calculating notional
amounts for swaps without a stated contractual notional? Contractual
stated price, such as a fixed price, spread, or option strike? The spot
price of the underlying index or reference? The implied forward price
of the underlying? A different measure of price not listed here? Should
the price of the last available transaction in the commodity at the
time the swap is entered into be used for this calculation? Is it
appropriate to use a “waterfall” of prices to calculate notional
amount, depending on the availability of a price type? 156
—————————————————————————
156 For example, contractual stated fixed price might be
required to be used first. Lacking a stated fixed price in the swap,
spot price of the underlying would then be used instead.
—————————————————————————
(6) What metric should be used for “price” for certain basis
swaps with no fixed price or fixed spread?
(7) How should the “price” of swaps be calculated for swaps with
varying prices per leg, such as a predetermined rising or falling price
schedule?
(8) What metric should be used for “volume” when calculating
notional amounts for swaps without a stated contractual notional
amount? Should the Commission assume that swaps with volume optionality
will be exercised for the full quantity or should volume options be
delta-adjusted, too?
(9) Should the total quantity for a “leg” be used, or an
approximation for a pre-determined time period, such as a monthly or
annualized quantity approximation? 157
—————————————————————————
157 For an example of “monthly notional amount
approximation” rather than aggregated total notional quantity, see
Proposed Instrument, supra note 154, at 24-26.
—————————————————————————
(10) How should the “volume” of swaps be calculated for swaps
with varying notional amount or volume per leg, such as amortizing or
accreting swaps?
(11) Should the U.S. dollar equivalent notional amount be
calculated across all “legs” of a swap by calculating the U.S. dollar
equivalent notional amount for each leg and then calculating the
minimum, median, mean, or maximum notional amount of all legs of the
swap?
(12) Should the absolute value of a price times volume calculation
be used, or should the calculation allow for negative notional amounts?
(13) Given that a derivatives clearing organization (“DCO”) has
to mark a swap to market on a daily basis, it may be possible to
determine “implied volatilities” for swaptions and options that are
regularly marked-to-market, such as cleared swaps, in order to delta-
adjust them. Should DCO evaluations be used when there are not better
market prices available?
III. Other Considerations
In addition to the proposed rule amendments discussed above, the
Commission is seeking comment on other potential considerations for the
de minimis threshold, including: (1) Adding a minimum dealing
counterparty count and a minimum dealing transaction count threshold;
(2) excepting from the de minimis threshold calculation swaps that are
exchange-traded and/or cleared; and (3) excepting from the de minimis
threshold calculation swaps that are categorized as non-deliverable
forwards. The Commission may take into consideration comments received
regarding any of these factors in formulating the final rule or may in
the future consider proposing an amendment to the SD Definition to
reflect any of these factors for purposes of the de minimis threshold
calculation.
A. Dealing Counterparty Count and Dealing Transaction Count Thresholds
1. Background
The Commission is re-considering the merits of using AGNA, by
itself, to determine if an entity’s swap dealing activity is de
minimis. Specifically, the Commission is seeking comment on whether an
entity should be able to qualify for the de minimis exception if its
level of swap dealing activity is below any of the following three
criteria: (1) An AGNA threshold, (2) a proposed dealing counterparty
count threshold, or (3) a proposed dealing transaction count threshold.
Section 1a(49)(D) of the CEA directs the Commission to exempt from
designation as an SD an entity that engages in a de minimis quantity of
swap dealing, and provides the Commission with broad discretion to
promulgate regulations to establish factors with respect to the making
of this determination to exempt.158 The SD Definition Proposing
Release suggested three possible criteria for determining when an
entity engaged in more than a de minimis quantity of dealing activity:
AGNA of swap dealing activity, number of dealing transactions, and
number of dealing counterparties.159 In selecting these three factors
as possible appropriate measurements of an entity’s “quantity” of
swap dealing activity, the Commission also noted that “a range of
alternative approaches may be reasonable.” 160 The Commission stated
that it selected the proposed factors in an effort to focus the de
minimis exception on “entities for which registration would not be
warranted from a regulatory point of view in light of the limited
nature of their dealing activities.” 161 The SD Definition Adopting
Release did not include factors beyond an AGNA threshold in the de
minimis exception.162
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158 7 U.S.C. 1a(49)(D).
159 SD Definition Proposing Release, 75 FR at 80180.
160 Id. (“Thus, while the proposed factors discussed below
reflect our attempt to delimit the de minimis exemption
appropriately, we recognize that a range of alternative approaches
may be reasonable, and we are particularly interested in commenters’
suggestions as to the appropriate factors.”).
161 Id.
162 In reaching this conclusion, the Commissions considered
concerns expressed by commenters that “a standard based on the
number of swaps . . . or counterparties can produce arbitrary
results by giving disproportionate weight to a series of smaller
transactions or counterparties.” 77 FR at 30630.
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The Commission seeks comment on whether and how the inclusion of
these additional factors might account for modest variations in an
entity’s level of dealing activity that occur over time and provide
entities with enhanced flexibility to manage their dealing activity
below the registration threshold. The Commission also seeks comment on
whether these additional criteria could better assist the Commission in
identifying those entities whose dealing activity is limited and reduce
instances of “false positives” of any one measure of activity, such
as where an entity’s dealing activity may marginally exceed
[[Page 27467]]
the current $8 billion AGNA threshold, but still be so “limited in
nature” that it does not warrant SD regulation.
For example, the inclusion of dealing counterparty count and
dealing transaction count thresholds in the de minimis exception could
help account for differences in transaction sizes across asset classes.
As commenters have noted, certain asset classes tend to have higher
average notional amounts per swap than others.163 As a result, a
market participant that executes a small number of dealing transactions
with only a few counterparties in an asset classes for which the
notional amount of each transaction is comparatively large may be
required to register, whereas a market participant with the exact same
number of dealing transactions and dealing counterparties in an asset
class with a smaller average notional amount may not be required to
register. Moreover, differences in the average tenor and frequency of
swap transactions also exist across asset classes. For example,
depending upon the underlying activity that the counterparty is trying
to hedge, a person may prefer to enter into a single one-year, $1
billion swap, or four consecutive three-month, $1 billion swaps. One
hedging strategy results in a calculation of $1 billion for purposes of
the de minimis threshold, the other in a calculation of $4 billion for
purposes of the threshold. The Commission seeks comment on whether
consideration of dealing counterparty count and dealing transaction
count could address the impact of such differences and facilitate
relatively equal amounts of de minimis dealing across asset classes.
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163 See, e.g., Preliminary Report, supra note 21, at 52;
Letter from American Bankers Association (Jan. 19, 2016) (“Risk
mitigating commodity swaps are . . . of a shorter tenor and a
smaller average notional size as compared to other asset
classes.”), available at https://comments.cftc.gov/PublicComments/ViewComment.aspx?id=60596&SearchText=.
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In addition to differences across asset classes, the Commission
recognizes that an entity’s swap dealing volume may fluctuate over
time. For example, as compared to the first quarter of 2017, during the
first quarter of 2018, overall IRS notional amount activity rose by
approximately 25 percent, while trade count grew by approximately 16
percent.164 The Commission seeks comment on whether the inclusion of
additional metrics in the de minimis exception could provide market
participants with greater flexibility to serve their existing customer
base during periods of volatility or economic stress, without the
concern that such episodic increases in dealing activity may somehow
trigger SD registration. The Commission notes this result could also
further one of the policy goals of the de minimis exception, which is
to enable end-user counterparties to execute hedging swaps with firms
with whom they have ongoing business relationships, rather than forcing
such entities to establish separate relationships with registered SDs.
It could also potentially provide increased liquidity in the swap
market during periods of financial stress.
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164 Based on historical information from archived CFTC Swaps
Reports, available at https://www.cftc.gov/MarketReports/SwapsReports/Archive/index.htm.
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The Commission seeks comment on whether including dealing
counterparty count and dealing transaction count thresholds in the de
minimis exception, in conjunction with an AGNA calculation, would
further the policy goals underlying the exception. The Commission also
seeks comment on whether adding minimum dealing counterparty count and
dealing transaction count thresholds would be consistent with the
Commission’s goal of ensuring that person’s engaged in more than a de
minimis level of dealing are subject to SD regulation.
2. Potential Thresholds
The Commission recognizes the importance of appropriately
calibrating potential dealing counterparty count and dealing
transaction count thresholds in order to further the Commission’s
interest in identifying and exempting de minimis dealing activity. As
part of its preliminary consideration of this approach, the Commission
performed an analysis of the counterparty counts and transaction counts
of Likely SDs and registered SDs to determine at what thresholds
certain entities might be required to register using a multi-factor
approach. The Commission notes that it was unable to exclude non-
dealing counterparties and non-dealing trades.
As discussed above in section II.A.2.ii, there were 108 Likely SDs
at the $8 billion AGNA threshold with at least 10 counterparties (in
IRS, CDS, FX swaps, and equity swaps). The median counterparty count
for these 108 Likely SDs was 132 counterparties and the median
transaction count was 5,233 trades. Of these 108 Likely SDs with at
least 10 counterparties, 106 also had at least 100 transactions, and
there were 88 Likely SDs that had at least 15 counterparties and 500
transactions.
There were 78 registered SDs that had at least $8 billion in AGNA
of swaps activity. The median counterparty count for these 78 entities
was 186 counterparties and the median transaction count was 12,004
trades. Of these 78 registered SDs, 72 had at least 10 counterparties
and at least 100 transactions. Additionally, 70 of the 78 registered
SDs had at least 15 counterparties and 500 transactions.
Based on this preliminary analysis, the Commission is seeking
comment on whether it would be appropriate to establish a dealing
counterparty count threshold of 10 counterparties and a dealing
transaction count threshold of 500 transactions.
For purposes of calculating a person’s counterparty count under
this approach, the Commission seeks comment on whether it should allow
counterparties that are members of a single group of persons under
common control to be treated as a single counterparty. In addition, the
Commission seeks comment whether it should consider excluding
registered SDs and MSPs from an entity’s counterparty count. Similar to
the current dealing AGNA threshold, the de minimis calculation for
counterparty counts and transaction counts could also incorporate
aggregation (after application of relevant de minimis calculation-
related exclusions) of the counterparty counts and transaction counts
of affiliated entities that are not registered SDs.165
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165 See 17 CFR 1.3, Swap dealer, paragraph (4).
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The Commission understands that the use of additional criteria
could lead to entities that engage in high levels of AGNA of swap
dealing activity not having to register as SDs if they have low
counterparty counts or low transaction counts. In order to account for
this possibility, the Commission seeks comment on whether it would be
appropriate to include an AGNA backstop above which entities would have
to register as SDs, regardless of their counterparty counts or
transaction counts. For example, under this approach, if an entity
exceeds some level of AGNA of dealing activity greater than $8 billion,
it would be required to register as an SD, regardless of its number of
dealing counterparties or dealing transactions. With respect to a
potential AGNA backstop, the Commission seeks comment on whether a $20
billion AGNA threshold would be appropriate.
A minimum dealing counterparty and dealing transaction threshold,
in combination with an AGNA amount backstop, might provide a higher
AGNA de minimis threshold to small dealers that only plan to
occasionally deal swaps with a limited number of counterparties or
execute a limited number of transactions. As noted above,
[[Page 27468]]
this higher effective threshold could also provide additional
flexibility for small dealers to provide clients with dealing services
without the costs of registration, as long as the dealer can structure
the business to remain below the counterparty count and transaction
count limits and the higher AGNA backstop. Generally, adding additional
metrics could potentially serve to better identify the types of
entities that are engaged in swap dealing activity. However, as
commenters have noted previously, the use of additional metrics could
make the de minimis calculation more complex.
Given these considerations, the Commission welcomes comments on the
following:
(1) Taking into account the Commission’s policy objectives, should
minimum dealing counterparty counts and minimum dealing transaction
counts be considered in determining an entity’s eligibility for the de
minimis exception?
(2) Would a dealing counterparty count threshold of 10 dealing
counterparties be appropriate? Why or why not? Is another dealing
counterparty count threshold more appropriate?
(3) Would a dealing transaction count threshold of 500 dealing
transactions be appropriate? Why or why not? Is another dealing
transaction count threshold more appropriate?
(4) Under what circumstances might entities have a relatively high
AGNA of swap dealing activity, but low dealing counterparty counts or
low dealing transaction counts?
(5) Would an AGNA backstop of $20 billion be appropriate? Why or
why not? Is another AGNA backstop level more appropriate?
(6) Would adding dealing counterparty count and dealing transaction
count thresholds simplify the SD analysis for certain market
participants, and if so, how and for which categories of participants?
(7) Would adding dealing counterparty count and dealing transaction
count thresholds complicate the SD analysis for certain market
participants, and if so, how and for which categories of participants?
(8) Should registered SDs or MSPs be counted towards the dealing
counterparty count threshold?
(9) Should dealing counterparty and dealing transaction counts be
aggregated across multiple potential swap dealing entities, similar to
the existing AGNA aggregation standard? 166
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166 17 CFR 1.3, Swap dealer, paragraph (4); 78 FR at 45323.
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(10) For counterparty count purposes, should counterparties that
are all part of one corporate family be counted as distinct
counterparties, or as one counterparty?
(11) Should a facts and circumstances analysis apply to determine
if an amendment or novation to an existing swap is swap dealing
activity that counts towards a person’s dealing transaction count? Why
or why not?
(12) Would adding dealing counterparty count and dealing
transaction count thresholds address the impact of differences in
transaction sizes across asset classes?
(13) Would it be more appropriate for a multi-factor threshold to
only include a dealing counterparty count threshold or a dealing
transaction count threshold, rather than adding both criteria?
(14) Are there other criteria that should be included in the de
minimis exception? If so, what are they and how could the Commission
efficiently collect, calculate, and track them?
B. Exchange-Traded and/or Cleared Swaps
The Commission is seeking comment on whether an exception from the
de minimis calculation for swaps that are executed on an exchange
(e.g., a swap execution facility (“SEF”) or designated contract
market (“DCM”)) and/or cleared by a DCO is appropriate,167 and may
take into consideration comments received regarding possible exceptions
based on these factors in formulating the final rule. The Commission is
mindful of the need to consider how the existing de minimis exception
may be affecting the utilization of exchange trading 168 and/or
clearing in the swap market, as well as the extent to which the policy
goals of SD registration and regulation may be advanced through
exchange trading and clearing.
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167 The Commission notes that swap market participants have
submitted comments that address this topic. See, e.g., Letters from
FIA, FSR, Northern Trust, and SIFMA, supra note 58; Final Staff
Report, supra note 24, at 14 (citing comment letters submitted in
response to Preliminary Staff Report, supra note 21).
168 For example, one of the CEA’s objectives is to promote the
trading of swaps on swap execution facilities and to promote pre-
trade price transparency in the swaps market. 7 U.S.C. 7b-3(e).
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The Commission believes that excepting such swaps from the de
minimis calculation could improve utilization of exchanges and/or
clearing.169 Generally, systemic risk considerations for SD
regulation should be less significant for swaps that are cleared
because risk management is handled centrally by the DCO. Counterparties
to the swap post margin with the DCO and firms clearing swaps on behalf
of customers are registered with the Commission as futures commission
merchants and subject to capital requirements.170 In addition,
clearing would potentially be encouraged if the Commission adds an
exception for cleared swaps for purposes of the de minimis threshold
calculation, furthering one of the key tenets of the Dodd-Frank Act.
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169 Swaps subject to a clearing requirement pursuant to CEA
section 2(h) must be executed on a SEF or DCM, unless no SEF or DCM
makes the swap available to trade or a clearing exception under CEA
section 2(h)(7) applies. 7 U.S.C. 2(h)(8).
170 See CEA section 4d(f), 7 U.S.C. 6d(f); 17 CFR 1.17.
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Additionally, counterparty protection policy considerations for SD
regulation may be less significant for exchange-traded swaps because
the counterparty protections and trade terms would generally be
provided by the exchange. Through execution of swaps on exchanges,
counterparties benefit from viewing the prices of available bids and
offers and from having access to transparent and competitive trading
systems or platforms. Further, a number of the external business
conduct standard requirements otherwise applicable to SDs do not apply
when a swap is executed anonymously on an exchange. These requirements
are either inapplicable to such transactions by their terms (because,
for example, the counterparty is anonymous), or do not apply to the SD
because the exchange fulfills the requirements.171 However,
counterparties could receive reduced levels of protection if trades
previously executed over-the-counter move to anonymous trading on
exchanges, though this concern is partially mitigated because products
traded on exchanges are generally standardized and non-negotiated.
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171 See, e.g., 17 CFR 23.402 (“know your counterparty”
requirements only apply when the counterparty’s identity is known to
the SD prior to execution); 17 CFR 23.430 (requirements to verify
counterparty eligibility are not applicable when the swap is
executed on a DCM, or on a SEF if the identity of the counterparty
is not known to the SD), 17 CFR 23.431 (disclosure of material
information and scenario analysis is not required when the SD does
not know the identity of counterparty prior to initiation of a
transaction on a SEF or DCM).
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In addition to the benefits described above, the market efficiency,
orderliness, and transparency goals of SD regulation would also
potentially be enhanced since the obligations of, for example,
reporting trade information and engaging in portfolio reconciliation
and compression exercises would be centrally (and more efficiently)
managed by the exchange and/or DCO, as applicable.
[[Page 27469]]
The Commission notes that an exclusion exists in paragraph (6)(iv)
of the SD Definition for certain exchange-traded and cleared swaps
entered into by floor traders (“Floor Trader Exclusion”). In the SD
Definition Adopting Release, the Commission declined to distinguish
exchange-traded swaps under the SD Definition, noting, among other
things, that:
[A] variety of exchanges, markets, and other facilities for the
execution of swaps are likely to evolve in response to the
requirements of the Dodd-Frank Act, and there is no basis for any
bright-line rule excluding swaps executed on an exchange, given the
impossibility of obtaining information about how market participants
will interact and execute swaps in the future, after the
requirements under the Dodd-Frank Act are fully in effect.172
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172 See 77 FR at 30610.
Nonetheless, the Commission created a carve-out for exchange-traded
and cleared swaps executed by floor traders. Subject to certain
conditions, the Floor Trader Exclusion allows registered floor traders
who trade swaps solely using proprietary funds for their own account to
exclude exchange-traded and cleared swaps from their de minimis
calculation. Therefore, while execution and clearing are factors in the
Floor Trader Exclusion, they are not the sole basis for it. The Floor
Trader Exclusion enables floor traders to provide liquidity to
exchanges in non-dealing capacities, such as proprietary trading,
without potentially triggering SD regulation. However, the Commission
notes that the market benefits of the Floor Trader Exclusion may be
complemented if the de minimis exception also applied to all exchange-
traded and/or cleared swaps.
The CFTC has not conducted robust data analysis regarding the
potential impact of an exception from the de minimis calculation for
swaps that are exchange-traded and/or cleared. However, excepting such
swaps from the de minimis calculation would also likely lead to
adjustments in how the swap market operates; therefore, it is difficult
to forecast what percentage of transactions would ultimately be
exchange-traded and/or cleared if such an exception were implemented.
The Commission also notes that clearing is a post-execution activity
and is not tied to the pre-execution swap dealing activities that
determine whether a person needs to register as an SD. Therefore,
adding a clearing-related factor to the de minimis exception may cause
conflation between swap dealing and clearing.
The Commission understands that this exception could result in
entities that engage in a significant amount of swap dealing activity
in exchange-traded and/or cleared swaps not having to register as SDs.
In order to account for this possibility, the Commission seeks comment
on whether it would be appropriate to establish a AGNA backstop such
that once an entity’s swap dealing activity in exchange-traded and/or
cleared swaps exceeds a certain notional amount, it would be required
to register as an SD. Alternatively, the Commission is also considering
whether it may be appropriate to apply a haircut to the notional
amounts of exchange-traded and/or cleared swaps for purposes of the de
minimis calculation. Under this approach, persons would only need to
count a certain percentage of their total notional amount of exchange-
traded and/or cleared swaps towards their de minimis threshold. These
alternatives would ensure that persons with significant amounts of
exchange-traded and cleared swaps would still likely be required to
register as SDs.
Given these considerations, the Commission welcomes comments on the
following:
(1) How would an exception for exchange-traded swaps from a
person’s de minimis calculation impact the policy considerations
underlying SD regulation and the de minimis exception?
(2) How would an exception for cleared swaps from a person’s de
minimis calculation impact the policy considerations underlying SD
regulation and the de minimis exception?
(3) How would an exception for exchange-traded and cleared swaps
from a person’s de minimis calculation impact the policy considerations
underlying SD regulation and the de minimis exception?
(4) Should all exchange-traded swaps be excepted from the de
minimis calculation, or only certain transactions? If so, which
transactions? Should only those trades that are anonymously executed be
excepted? How would the Commission judiciously differentiate, monitor,
and track such transactions apart from other exchange-traded swaps?
(5) Should all cleared swaps be excepted from the de minimis
calculation, or only certain transactions? If so, which transactions?
Should the Commission differentiate between trades that are intended to
be cleared and trades that are actually cleared? How would the
Commission judiciously differentiate, monitor, and track such
transactions apart from other cleared swaps?
(6) Should all exchange-traded and cleared swaps be excepted from
the de minimis calculation, or only certain transactions? If so, which
transactions? How would the Commission judiciously differentiate,
monitor, and track such transactions apart from other exchange-traded
and cleared swaps?
(7) If exchange-traded swaps are excepted from a person’s de
minimis calculation, what other conditions, if any, should apply for
the trade to qualify for the exception?
(8) If cleared swaps are excepted from a person’s de minimis
calculation, what other conditions, if any, should apply for the trade
to qualify for the exception?
(9) If exchange-traded and cleared swaps are excepted from a
person’s de minimis calculation, what other conditions, if any, should
apply for the trade to qualify for the exception?
(10) If exchange-traded swaps are excepted from the de minimis
calculation, should the Commission establish a notional backstop above
which an entity must register? If so, what is the appropriate level for
the backstop?
(11) If cleared swaps are excepted from the de minimis calculation,
should the Commission establish a notional backstop above which an
entity must register? If so, what is the appropriate level for the
backstop?
(12) If exchange-traded and cleared swaps are excepted from the de
minimis calculation, should the Commission establish a notional
backstop above which an entity must register? If so, what is the
appropriate level for the backstop?
(13) Should persons be able to haircut the notional amounts of
their exchange-traded swaps for purposes of the de minimis calculation?
If so, would a 50 percent haircut be appropriate? Why or why not?
(14) Should persons be able to haircut the notional amounts of
their cleared swaps for purposes of the de minimis calculation? If so,
would a 50 percent haircut be appropriate? Why or why not?
(15) Should persons be able to haircut the notional amounts of
their exchange-traded and cleared swaps for purposes of the de minimis
calculation? If so, would a 50 percent haircut be appropriate? Why or
why not?
(16) Would an exception for exchange-traded swaps increase the
volume of swaps executed on SEFs or DCMs?
(17) Would an exception for cleared swaps increase the volume of
swaps that are cleared?
[[Page 27470]]
(18) Would an exception for exchange-traded and cleared swaps
increase the volume of swaps executed on SEFs or DCMs and the volume of
swaps that are cleared?
(19) Are there any unique costs or benefits associated with
excepting exchange-traded swaps from an entity’s de minimis
calculation?
(20) Are there any unique costs or benefits associated with
excepting cleared swaps from an entity’s de minimis calculation?
(21) Are there any unique costs or benefits associated with
excepting exchange-traded and cleared swaps from an entity’s de minimis
calculation?
(22) Has the Floor Trader Exclusion encouraged additional trading
on SEFs and DCMs?
(23) Has the Floor Trader Exclusion encouraged additional clearing
of swaps?
(24) Should the Commission consider additional modifications to the
Floor Trader Exclusion in lieu of a broader exception for all exchange-
traded and/or cleared swaps?
(25) How should transactions executed on exempt multilateral
trading facilities, exempt organized trading facilities, and/or exempt
DCOs be treated?
C. Non-Deliverable Forwards
Section 1a(47) of the CEA defines the term “swap,” 173 and
establishes that foreign exchange swaps 174 and foreign exchange
forwards 175 shall be considered swaps unless the Secretary of the
Treasury makes a written determination that either foreign exchange
swaps or foreign exchange forwards or both should be not be regulated
as swaps 176 (to avoid confusion with the term “FX swap” as
otherwise used in this release, the terms “foreign exchange swap” and
“foreign exchange forward” as used in this section III.C refer only
to those products as defined by CEA sections 1a(25) and 1a(24),
respectively).
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173 7 U.S.C. 1a(47).
174 As defined in CEA section 1a(25). 7 U.S.C. 1a(25) (The
term “foreign exchange swap” is defined to mean a transaction that
solely involves an exchange of two different currencies on a
specific date at a fixed rate that is agreed upon on the inception
of the contract covering the exchange; and a reverse exchange of
those two currencies at a later date and at a fixed rate that is
agreed upon on the inception of the contract covering the
exchange.).
175 As defined in CEA section 1a(24). 7 U.S.C. 1a(24) (The
term “foreign exchange forward” is defined to mean a transaction
that solely involves the exchange of two different currencies on a
specific future date at a fixed rate agreed upon on the inception of
the contract covering the exchange.).
176 7 U.S.C. 1a(47)(E).
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In November 2012, the Secretary of the Treasury signed a
determination that exempts both foreign exchange swaps and foreign
exchange forwards from the definition of “swap,” in accordance with
the CEA (“Treasury Determination”).177 The Treasury Determination
further explained that foreign exchange options, currency swaps, and
non-deliverable forwards (“NDFs”) may not be exempted from the CEA’s
definition of “swap” because they do not satisfy the statutory
definitions of a foreign exchange swap or foreign exchange
forward.178 The Treasury Determination explained that:
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177 77 FR 69694.
178 Id. at 69695.
[A]n NDF is a swap that is cash-settled between two
counterparties, with the value of the contract determined by the
movement of exchange rates between two currencies. On the contracted
settlement date, the profit to one party is paid by the other based
on the difference between the contracted NDF rate (set at the
trade’s inception) and the prevailing NDF fix (usually a close
approximation of the spot foreign exchange rate) on an agreed
notional amount. NDF contracts do not involve an exchange of the
agreed-upon notional amounts of the currencies involved. Instead,
NDFs are cash settled in a single currency, usually a reserve
currency. NDFs generally are used when international trading of a
physical currency is relatively difficult or prohibited.179
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179 Id. at 69703 (citing 77 FR at 48254-55).
The Commission understands from market participants that NDFs
provide an important market function because they are used to hedge
exposures to restricted currencies when the exposure is held by someone
outside of the home jurisdiction. The Commission also understands that
NDFs are economically and functionally similar to deliverable foreign
exchange forwards in that the same net value is transmitted in either
structure.
Further, the Commission has learned from market participants that
markets continue to treat both NDFs and deliverable foreign exchange
forwards as the same functional product. Like deliverable foreign
exchange forwards, NDFs settle on a net rather than gross basis, which
significantly mitigates counterparty risk in this context. In some
cases, market participants that previously had settled deliverable
foreign exchange forwards on a net basis (whether to minimize
counterparty risk or for other reasons) now take steps so as to ensure
they are able to avail themselves of the exemption from swap status
afforded by the Treasury Determination, including settlement of foreign
exchange forwards on a gross basis.
The Commission could determine to amend the de minimis exception in
paragraph (4) of the “swap dealer” definition in Sec. 1.3 of the
Commission’s regulations by excepting NDFs from consideration when
calculating the AGNA of swap dealing activity for purposes of the de
minimis threshold. Excepting NDFs would result in a more comparable
regulatory treatment for these transactions when compared with foreign
exchange swaps and foreign exchange forwards pursuant to the Treasury
Determination.
Given these considerations, the Commission welcomes comments on the
following:
(1) Should the Commission except NDFs from consideration when
calculating the AGNA of swap dealing activity for purposes of the de
minimis exception? Why or why not?
(2) Are there other foreign exchange derivatives that the
Commission should except from consideration for counting towards the de
minimis threshold?
(3) Do NDFs pose any particular systemic risk in a manner distinct
from foreign exchange swaps and foreign exchange forwards?
(4) If the Commission were to except NDFs from consideration when
calculating the AGNA for purposes of the de minimis exception, are
there particular limits that the Commission should consider in
connection with this exception?
(5) What would be the market liquidity impact if the Commission
were to except NDFs from counting towards the de minimis threshold?
(6) Is there material benefit to the market in requiring
participants that transact in NDFs to register with the Commission,
while not imposing similar obligations on participants that transact in
deliverable foreign exchange forwards? If so, what benefits accrue from
imposing such registration obligations?
(7) Please provide any relevant data that may assist the Commission
in evaluating whether to except NDFs from counting towards the de
minimis threshold.
(8) Please provide any additional comments on other factors or
issues the Commission should consider when evaluating whether to except
NDFs from counting towards the de minimis threshold.
IV. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (“RFA”) requires that agencies
consider
[[Page 27471]]
whether the regulations they propose will have a significant economic
impact on a substantial number of small entities.180 This Proposal
only affects certain entities that are close to the de minimis
threshold in the SD Definition. For example, the Proposal would affect
entities with a relevant AGNA of swap dealing activity between $3
billion and $8 billion. Moreover, it also would affect entities that
engage in swap dealing activity above an AGNA of $3 billion that also
enter into hedging swaps, or, in the case of IDIs, that enter into
loan-related swaps. That is, the Proposal is relevant to entities that
engage in swap dealing activity with a relevant AGNA measured in the
billions of dollars. The Commission does not believe that these
entities would be small entities for purposes of the RFA. Therefore,
the Commission believes that this Proposal will not have a significant
economic impact on a substantial number of small entities, as defined
in the RFA.
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180 5 U.S.C. 601 et seq.
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Accordingly, the Chairman, on behalf of the Commission, hereby
certifies pursuant to 5 U.S.C. 605(b) that this Proposal will not have
a significant economic impact on a substantial number of small
entities. The Commission invites comment on the impact of this Proposal
on small entities.
B. Paperwork Reduction Act
The Paperwork Reduction Act of 1955 (“PRA”) 181 imposes certain
requirements on Federal agencies, including the Commission, in
connection with their conducting or sponsoring any collection of
information, as defined by the PRA. The Commission may not conduct or
sponsor, and a person is not required to respond to, a collection of
information unless it displays a currently valid Office of Management
and Budget (“OMB”) control number. The proposed rules will not impose
any new recordkeeping or information collection requirements, or other
collections of information that require approval of OMB under the PRA.
—————————————————————————
181 44 U.S.C. 3501 et seq.
—————————————————————————
The Commission notes that all reporting and recordkeeping
requirements applicable to SDs result from other rulemakings, for which
the CFTC has sought OMB approval, and are outside the scope of
rulemakings related to the SD Definition.182 The CFTC invites public
comment on the accuracy of its estimate that no additional
recordkeeping or information collection requirements, or changes to
existing collection requirements, would result from the Proposal.
—————————————————————————
182 Parties wishing to review the CFTC’s information
collections on a global basis may do so at www.reginfo.gov, at which
OMB maintains an inventory aggregating each of the CFTC’s currently
approved information collections, as well as the information
collections that presently are under review.
—————————————————————————
C. Cost-Benefit Considerations
Section 15(a) of the CEA requires the Commission to consider the
costs and benefits of its actions before promulgating a regulation
under the CEA or issuing certain orders.183 Section 15(a) further
specifies that the costs and benefits shall be evaluated in light of
five broad areas of market and public concern: (1) Protection of market
participants and the public; (2) efficiency, competitiveness, and
financial integrity of futures markets; (3) price discovery; (4) sound
risk management practices; and (5) other public interest
considerations. In this section, the Commission considers the costs and
benefits resulting from its determinations with respect to the Section
15(a) factors, and seeks comments from interested persons regarding the
nature and extent of such costs and benefits.
—————————————————————————
183 7 U.S.C. 19(a).
—————————————————————————
The Proposal amends the de minimis exception in paragraph (4) of
the SD Definition in Sec. 1.3 by: (1) Setting the de minimis exception
threshold at $8 billion in AGNA of swap dealing activity, the same as
the current phase-in level, and removing the phase-in process; (2)
adding an exception from the de minimis threshold calculation for swaps
entered into by IDIs in connection with originating loans to customers;
(3) adding an exception from the de minimis threshold calculation for
swaps entered into by a person for purposes of hedging financial or
physical positions; (4) codifying prior DSIO guidance regarding the
treatment of swaps that result from multilateral portfolio compression
exercises; and (5) providing that the Commission may determine the
methodology to be used to calculate the notional amount for any group,
category, type, or class of swaps, and delegating to the Director of
DSIO the authority to make such determinations.
As part of this cost-benefit consideration, the Commission will:
(1) Discuss the costs and benefits of each of the proposed changes; and
(2) analyze the proposed amendments as they relate to each of the 15(a)
factors.
1. $8 Billion De Minimis Threshold
As discussed above, the SD Definition provides an exception from
the SD Definition for persons who engage in a de minimis amount of swap
dealing activity. Currently, a person shall not be deemed to be an SD
unless swaps entered into in connection with swap dealing activity
exceed an AGNA threshold of $3 billion (measured over the prior 12-
month period), subject to a phase-in period that is currently in
effect, during which the AGNA threshold is set at $8 billion. The
Commission is proposing to amend the de minimis exception to the SD
Definition to set the de minimis threshold at the current $8 billion
phase-in level.
There are general policy-related costs and benefits associated with
the proposal to set the de minimis threshold at $8 billion. In addition
to these policy considerations, the proposal to set the de minimis
threshold at $8 billion would also have specific monetary costs and
benefits as compared to a lower or higher threshold. The current $8
billion phase-in level threshold, along with the prospect that the
threshold would decrease to $3 billion after December 31, 2019 in the
absence of further Commission action, sets the baseline for the
Commission’s consideration of the costs and benefits of the proposed
alternatives. Accordingly, the Commission considers the costs and
benefits that would result from maintaining the current $8 billion
phase-in level threshold, or alternatively, a threshold level below or
above the current $8 billion threshold. The status quo baseline also
includes other aspects of existing rules related to the de minimis
exception. The analysis also takes into account any no-action relief,
to the extent such relief is being relied upon. As the Commission is of
the preliminary belief that the existing no-action relief related to
the de minimis exception is being fully relied upon by market
participants, the cost-benefit discussion that follows also considered
the effects of that relief.
(i) Policy-Related Costs and Benefits
There are several policy objectives underlying SD regulation and
the de minimis exception to SD registration. As discussed above in
section I.C, the primary policy objectives of SD regulation include
reducing systemic risk, increasing counterparty protections, and
increasing market efficiency, orderliness, and transparency.184 To
achieve these policy
[[Page 27472]]
objectives, registered SDs are subject to a broad range of
requirements, including, among other things, registration, internal and
external business conduct standards, reporting, recordkeeping, risk
management, posting and collecting margin on uncleared swaps, and chief
compliance officer designation and responsibilities. The Commission
also considers policy objectives furthered by a de minimis exception,
which include increasing efficiency, allowing limited ancillary
dealing, encouraging new participants to enter the swap dealing market,
and focusing regulatory resources.185 These policy considerations
have general costs and benefits associated with them depending on the
level of the de minimis threshold.
—————————————————————————
184 See 77 FR at 30628-30, 30707-08.
185 See id.
—————————————————————————
As noted in the SD Definition Adopting Release, generally, the
lower the de minimis threshold, the greater the number of entities that
are subject to the SD-related regulatory requirements, which could
decrease systemic risk, increase counterparty protections, and promote
swap market efficiency, orderliness, and transparency.186 However, a
lower threshold could have offsetting effects that might decrease the
policy benefits of lowering the de minimis exception threshold. For
example, it is likely that a lower threshold would lead to reduced
ancillary dealing activity and discourage new participants from
entering into the swap market.
—————————————————————————
186 See id. at 30628-30, 30703, 30707.
—————————————————————————
(a) Maintaining the $8 Billion De Minimis Phase-In Threshold
At the $8 billion threshold, the 2017 Transaction Coverage and 2017
AGNA Coverage ratios indicate that nearly all swaps were covered by SD
regulation, giving rise to the benefits from the policy objectives of
SD regulation discussed above. Specifically, as seen in Table 1 in
section II.A.2.i, almost all swap transactions involved at least one
registered SD as a counterparty, approximately 99 percent or greater
for IRS, CDS, FX swaps, and equity swaps. For NFC swaps, approximately
86 percent of transactions involved at least one registered SD as a
counterparty. Overall, approximately 98 percent of all swap
transactions involved at least one registered SD. As seen in Table 2,
almost all AGNA of swaps activity included at least one registered SD,
approximately 99 percent or greater for IRS, CDS, FX swaps, and equity
swaps.
Further, the Commission notes that the 6,440 entities that did not
enter into any transactions with a registered SD had limited activity
overall. As discussed in section II.A.2.i, the 6,440 entities entered
into 77,333 transactions, representing approximately 1.7 percent of the
overall number of transactions during the review period. Additionally,
collectively, the 6,440 entities had $68 billion in AGNA of swaps
activity, representing approximately 0.03 percent of the overall AGNA
of swaps activity during the review period. The Commission believes
that this limited activity indicates that to the extent these entities
are engaging in swap dealing activities, such activity is likely
ancillary and in connection with other client services, potentially
indicating that the policy rationales behind a de minimis exception are
being advanced at the current $8 billion threshold.
Additionally, with respect to NFC swaps, Table 13 in section
II.A.2.iv indicates that registered SDs still entered into the
significant majority (86 percent) of the overall market’s total
transactions and faced 83 percent of counterparties in at least one
transaction, indicating that the existing $8 billion de minimis
threshold has helped extend the benefits of SD registration to much of
the NFC swap market. The trading activity of the 42 unregistered
entities with 10 or more NFC swap counterparties represents
approximately 13 percent of the overall NFC swap market by transaction
count. However, as compared to the existing 44 registered SDs with at
least 10 counterparties, these 42 In-Scope Entities have significantly
lower mean transaction and counterparty counts, indicating that they
may only be providing ancillary dealing services to accommodate
commercial end-user clients, also potentially indicating that the
policy rationales behind a de minimis exception are being advanced at
the current $8 billion threshold.
(b) $3 Billion De Minimis Threshold
The Commission is of the view that the systemic risk mitigation,
counterparty protection, and market efficiency benefits of SD
regulation would be enhanced in only a very limited manner if the de
minimis threshold decreased from $8 billion to $3 billion, as would be
the case if the current regulation and the existing Commission order
establishing an end to the phase-in period on December 31, 2019 were
left unchanged. As seen in Table 4 in section II.A.2.ii, the Estimated
AGNA Coverage would increase from approximately $221,020 billion (99.95
percent) to $221,039 billion (99.96 percent), an increase of $19
billion (a 0.01 percentage point increase). As seen in Table 5, the
Estimated Transaction Coverage would increase from 3,795,330 trades
(99.77 percent) to 3,797,734 trades (99.83 percent), an increase of
2,404 trades (a 0.06 percentage point increase). As seen in Table 6,
the Estimated Counterparty Coverage would increase from 30,879
counterparties (88.80 percent) to 31,559 counterparties (90.75
percent), an increase of 680 counterparties (a 1.96 percentage point
increase). The effect of these limited increases is further mitigated
by the fact that at the current $8 billion phase-in threshold, the
substantial majority of transactions are already covered by SD
regulation–and related counterparty protection requirements–because
they include at least one registered SD as a counterparty.
For NFC swaps, as discussed in section II.A.2.iv, without notional-
equivalent data, it is unclear how many of the 42 In-Scope Entities
with 10 or more counterparties that are not registered SDs would
actually be subject to SD registration at a $3 billion de minimis
threshold. It is possible that a portion of the swaps activity for some
or all of these entities qualifies for the physical hedging exclusion
in paragraph (6)(iii) of the SD Definition, and therefore would not be
considered swap dealing activity, regardless of the de minimis
threshold level.187
—————————————————————————
187 Hypothetically, if all 42 entities registered, the
percentage of all NFC swaps facing at least one registered SD would
rise from approximately 86 percent to 98 percent.
—————————————————————————
As discussed in section II.A.2.ii with respect to IRS, CDS, FX
swaps, and equity swaps, and section II.A.2.iv with respect to NFC
swaps, the Commission also notes that it is possible that a lower de
minimis threshold could lead to certain entities reducing or ceasing
swaps activity to avoid registration and its related costs. Although
the magnitude of this effect is unclear, reduced swap dealing activity
could lead to increased concentration in the swap dealing market,
reduced availability of potential swap counterparties, reduced
liquidity, increased volatility, higher fees, wider bid/ask spreads, or
reduced competitive pricing. The end-user counterparties of these
smaller swap dealing entities may be adversely impacted by the above
consequences and could face a reduced ability to use swaps to manage
their business risks.
(c) Higher De Minimis Threshold
Conversely, a higher de minimis threshold would potentially
decrease the number of registered SDs, which could have a negative
impact on
[[Page 27473]]
achieving the SD regulation policy objectives. For example, a higher de
minimis threshold would allow a greater amount of swap dealing to be
undertaken without certain counterparty protections. This might impact
the integrity of swap market to some extent. However, the Commission is
unable to quantify how the integrity of swap market might be harmed. On
the other hand, the higher the de minimis threshold, the greater the
number of entities that are able to engage in dealing activity without
being required to register, which could increase competition and
liquidity in the swap market. A higher threshold could also allow the
Commission to expend its resources on entities with larger swap dealing
activities warranting more oversight.
As seen in Table 9 in section II.A.2.iii, in comparison to an $8
billion threshold, a $100 billion threshold would reduce the Estimated
AGNA Coverage from approximately $221,020 billion (99.95 percent) to
$220,877 billion (99.88 percent), a decrease of $143 billion (a 0.06
percentage point decrease). As seen in Table 10, in comparison to an $8
billion threshold, a $100 billion threshold would reduce the Estimated
Transaction Coverage from 3,795,330 trades (99.77 percent) to 3,773,440
trades (99.20 percent), a decrease of 21,890 trades (a 0.58 percentage
point decrease). The decreases would be more limited at higher
thresholds of $20 billion or $50 billion. The data also indicates that
at higher thresholds, there is a more pronounced decrease in Estimated
Counterparty Coverage. As seen in Table 11, the Estimated Counterparty
Coverage would decrease from 30,879 counterparties (88.80 percent) to
28,234 counterparties (81.19 percent), a decrease of 2,645
counterparties (a 7.61 percentage point decrease). The decrease would
be lower at thresholds of $20 billion and $50 billion, at 2.80
percentage points and 5.71 percentage points, respectively.
Although it has not conducted an analysis of AGNA activity in NFC
swaps, the Commission is of the preliminary view that increasing the de
minimis threshold could potentially lead to fewer registered SDs
participating in in the NFC swap market, similar to its observations
with respect to IRS, CDS, FX swaps, and equity swaps discussed above in
section II.A.2.iii. This could reduce the number of entities
transacting with registered SDs.
The cost of reduced protections for counterparties would be
realized to the extent a higher threshold would result in fewer swaps
involving at least one registered SD. Additionally, depending on how
the swap market adapts to a higher threshold, it is also possible that
the reduction in Estimated Regulatory Coverage would be greater than
the data indicates to the extent that a higher de minimis threshold
leads to an increased amount of swap dealing activity between entities
that are not registered SDs. In such a scenario, Estimated Regulatory
Coverage could potentially decrease more than the data indicates,
negatively impacting the policy goals of SD regulation.
(d) Preliminary Entity-Netted Notional Amounts Analysis
As previously discussed, analysis indicates that the Estimated AGNA
Coverage is not very sensitive to changes in de minimis threshold
level. Staff also conducted a preliminary analysis of the sensitivity
of entity-netted notional amounts (“ENNs”) 188 of Likely SDs in the
IRS market to changes in the de minimis threshold level. The ENNs
analysis normalizes notional amounts to five-year risk equivalents and
nets long and short positions within counterparty pairs in the same
currency.189
—————————————————————————
188 See Introducing ENNs: A Measure of the Size of Interest
Rate Swap Markets, supra note 65.
189 Each entity is net long or net short ENNs against each of
its counterparties, and each entity’s total long and short ENNs are
the sums of its long and short ENNs, respectively, across all of its
counterparties. See id.
—————————————————————————
The preliminary analysis indicates that IRS ENNs are generally not
overly sensitive to the de minimis threshold levels between $3 billion
and $50 billion, providing additional support for staff’s preliminary
consideration of the policy-related costs and benefits discussed above.
Table 15 shows the results of an analysis of the de minimis threshold
in terms of ENNs for the IRS market.
Table 15–ENNs for IRS Likely SDs
[Minimum 10 counterparties]
——————————————————————————————————————————————————–
IRS ENNs totals ($Bn) Change in ENNs totals vs. $8 Bn (%)
Notional threshold ($Bn) Number of ———————————————————————————————–
likely SDs Long Short Net Long Short Net
——————————————————————————————————————————————————–
3………………………………… 121 9,812 8,307 1,505 0.6 1.1 (1.8)
8………………………………… 108 9,750 8,219 1,532 ………….. ………….. …………..
20……………………………….. 93 9,707 8,191 1,516 (0.4) (0.3) (1.0)
50……………………………….. 81 9,617 8,105 1,512 (1.4) (1.4) (1.3)
100………………………………. 72 9,464 8,026 1,439 (2.9) (2.3) (6.1)
——————————————————————————————————————————————————–
The 108 Likely SDs at $8 billion identified by the AGNA analysis in
section II.A.2.ii above represented approximately $9.8 trillion of long
ENNs and $8.2 trillion of short ENNs on December 15, 2017. A reduction
in the de minimis threshold from $8 billion to $3 billion would have
only a modest effect on the coverage of risk transfer as measured by
IRS ENNs, adding only 0.6 percent of additional long ENNs and 1.1
percent of additional short ENNs. Similarly, an increase in the de
minimis threshold from $8 billion to $50 billion would modestly
decrease long ENNs by 1.4 percent and short ENNs by 1.4 percent. The
decrease would be more limited at a threshold of $20 billion.190
—————————————————————————
190 IRS ENNs totals for a hypothetical de minimis threshold of
$100 billion, however, begin to show increased sensitivities
compared to other de minimis thresholds examined.
—————————————————————————
(ii) Direct Cost and Benefits of Setting an $8 Billion Threshold
It is likely that for any de minimis threshold, some firms will
have AGNA of swap dealing activity sufficiently close to the threshold
so as to require analysis to determine whether their AGNA qualifies as
de minimis. Hence, with a $3 billion threshold, some set of entities
will likely have to incur the direct costs of analyzing whether they
[[Page 27474]]
would exceed the de minimis threshold, and with an $8 billion
threshold, a (mostly) different set of entities would have to continue
to incur costs of analyzing their activity.
Based on the available data, the Commission estimates that if the
de minimis threshold were set at $3 billion, approximately 22 currently
unregistered entities would need to conduct an initial analysis of
whether they would be above the threshold.191 The Commission
estimates that the potential total direct cost of conducting the
initial analysis for the 22 entities would average approximately
$79,000 per entity, or approximately $1.7 million in the
aggregate.192 Certain of those entities with ongoing swap dealing
activity that is near a $3 billion threshold may also need to conduct
periodic de minimis calculation analyses to assess whether they qualify
for the exception. The Commission estimates that approximately 11
entities may need to conduct such analyses.193 Further, the
Commission estimates that the potential annual direct cost of
conducting these ongoing analyses for those 11 entities would be
approximately $40,000 per entity, or $440,000 in the aggregate.194
—————————————————————————
191 Commission staff analyzed the swaps activity of market
participants over a one-year period to develop this estimate. The
estimate includes 22 In-Scope Entities that had 10 or more
counterparties and between $1 billion and $5 billion in AGNA of
swaps activity in IRS, CDS, FX swaps, and equity swaps. Entities
that were already registered SDs were excluded. The estimate does
not account for entities that primarily are entering into NFC swaps
because notional amount information was not available for that asset
class.
192 This estimate is based on the following staff requirements
for this determination: 25 hours for an OTC principal trader at
$695/hour, 40 hours for a compliance attorney at $335/hour, 35 hours
for a chief compliance officer at $556/hour, 80 hours for an
operations manager at $290/hour, and 20 hours for a business analyst
at $273/hour. These individuals would be responsible for
identifying, analyzing, and aggregating the swap dealing activity of
a firm and its affiliates. The estimates of the number of personnel
hours required have been updated from the SD Definition Adopting
Release in light of the Commission’s experience in implementing the
SD Definition.
The estimates of the hourly costs for these personnel are from
SIFMA’s Management & Professional Earnings in the Securities
Industry 2013 survey, modified to account for an 1,800-hour work-
year and multiplied by 5.35 to account for firm size, employee
benefits, and overhead, which is the same multiplier that was used
when the SD Definition was adopted. See 77 FR at 30712 n.1347.
The Commission recognizes that particular entities may, based on
their circumstances, incur costs substantially greater or less than
the estimated averages.
193 The estimate of 11 entities is approximately 50 percent of
the 22 entities that would need to undertake an initial analysis.
This estimate assumes that many entities would, following the
initial analysis, determine that they would either need to register
or choose not to engage in enough dealing activity to require
ongoing monitoring.
194 The Commission estimates that the ongoing analysis would
be streamlined as a result of the initial analysis, and therefore
would be less costly. For purposes of this calculation, the
Commission preliminarily estimates that the cost of the ongoing
analysis would be approximately 50 percent of the cost of the
initial analysis.
—————————————————————————
Conversely, the Commission assumes that a higher threshold would
permit certain entities to no longer incur ongoing costs of assessing
whether they are above the threshold. The Commission estimated the
savings that would result from a higher de minimis threshold of $20
billion. Based on the available data, the Commission estimates that if
the de minimis threshold were set at $20 billion, approximately 29
entities would no longer need to conduct an ongoing analysis of whether
they would be above the new threshold, while 4 entities may begin
conducting such an analysis.195 The Commission estimates that the
ongoing cost savings for the net 25 entities that would no longer be
conducting periodic de minimis threshold analyses would average
approximately $40,000 per entity, or $1 million in the aggregate per
year.196
—————————————————————————
195 Commission staff analyzed the swaps activity of market
participants over a one-year period to develop this estimate. The
estimate includes 29 In-Scope Entities that had between $3 billion
and $15 billion, and 4 In-Scope Entities that had between $15
billion and $25 billion, in AGNA of swaps activity in IRS, CDS, FX
swaps, and equity swaps, and at least 10 counterparties. The
estimate does not account for entities that primarily are entering
into NFC swaps because notional amount information was not available
for that asset class.
196 The Commission estimates that the ongoing analysis would
be streamlined as a result of the initial analysis, and therefore
would be less costly. For purposes of this calculation, the
Commission preliminarily estimates that the cost of the ongoing
analysis would be approximately 50 percent of the cost of the
initial analysis.
—————————————————————————
(iii) Section 15(a)
Section 15(a) of the CEA requires the Commission to consider the
effects of its actions in light of the following five factors:
(a) Protection of Market Participants and the Public
Providing regulatory protections for swap counterparties who may be
less experienced or knowledgeable about the swap products offered by
SDs (particularly end-users who use swaps for hedging or investment
purposes) is a fundamental policy goal advanced by the regulation of
SDs.
The Commission is proposing to maintain the current de minimis
phase-in threshold of $8 billion in AGNA of swap dealing activity. As
discussed above, the Commission recognizes that a $3 billion de minimis
threshold may result in more entities being required to register as SDs
compared to the proposed (and currently in-effect) $8 billion
threshold, thereby extending counterparty protections to a greater
number of market participants. However, this benefit is relatively
small because, at the current $8 billion phase-in threshold, the
substantial majority of transactions are already covered by SD
regulation–and related counterparty protection requirements–since
they include at least one registered SD as a counterparty.197
—————————————————————————
197 As discussed in section II.A.2.i, the 2017 Transaction
Coverage was approximately 98 percent.
—————————————————————————
On the other hand, as noted above, a threshold above $8 billion may
result in fewer entities being required to register as SDs, thus
extending counterparty protections to a fewer number of market
participants. Although the Estimated Transaction Coverage and Estimated
AGNA Coverage would not decrease much at higher thresholds of up to
$100 billion, the decrease in Estimated Counterparty Coverage is more
pronounced at higher de minimis thresholds, potentially indicating that
the benefit of SD counterparty protections requirements could be
reduced at higher thresholds.
SD regulation is also intended to reduce systemic risk in the swap
market. Pursuant to the Dodd-Frank Act, the Commission has proposed or
adopted regulations for SDs, including margin and risk management
requirements, designed to mitigate the potential systemic risk inherent
in the swap market. Therefore, the Commission recognizes that a lower
de minimis threshold may result in more entities being required to
register as SDs, thereby potentially further reducing systemic risk.
Conversely, a higher de minimis threshold may result in fewer entities
being required to register an SD and, thus, possibly increase
systematic risk.
However, the Commission’s data appears to indicate that the
additional entities that would need to register at the $3 billion de
minimis threshold are engaged in a comparatively smaller amount of swap
dealing activity. Many of these entities might be expected to have
fewer counterparties and smaller overall risk exposures as compared to
the SDs that engage in swap dealing in excess of the $8 billion level.
Accordingly, the Commission believes that that the incremental
reduction in systemic risk that may be achieved by registering dealers
that engage in dealing between the $3 billion and $8 billion thresholds
is limited.
The data also indicates that at higher thresholds of $20 billion,
$50 billion, or $100 billion, fewer entities would be
[[Page 27475]]
required to register as SDs, though the change in regulatory coverage
as measured by Estimated AGNA Coverage and Estimated Transaction
Coverage would be small. Thus, the Commission preliminarily believes
that the increase in systemic risk that may occur due to a higher
threshold would not be significant. However, depending on how the
market adapts to a higher threshold, the level of regulatory coverage
could potentially decrease more than the data indicates.
Additionally, as discussed above, the ENNs analysis suggests that
the change in the extent to which market risk is held by persons
identified as Likely SDs is not very sensitive to the changes in the
thresholds considered here.
The Commission preliminarily believes that setting the de minimis
threshold at $8 billion will not substantially diminish the protection
of market participants and the public as compared to a $3 billion
threshold. Further, as discussed, the Commission does not expect that
an increase in the threshold would increase the protection of market
participants and the public.
(b) Efficiency, Competitiveness, and Financial Integrity of Markets
Another goal of SD regulation is swap market efficiency,
orderliness, and transparency. These market benefits are achieved
through regulations requiring, for example, SDs to keep detailed daily
trading records, report trade information, provide counterparty
disclosures about swap risks and pricing, and engage in portfolio
reconciliation and compression exercises.
As compared to a $3 billion de minimis threshold, an $8 billion
threshold may have a negative effect on the efficiency and integrity of
the markets as fewer entities are required to register as SDs and fewer
transactions become subject to SD-related regulations. However, the
Commission also recognizes that the efficiency and competitiveness of
the swap market may be negatively impacted if the de minimis threshold
is set too low, by potentially increasing barriers to entry that may
stifle competition and reduce swap market efficiency. For example, if
entities choose to reduce or cease their swap dealing activities in
response to the $3 billion de minimis threshold, the number or
availability of market makers for swaps may be reduced, which could
lead to increased costs for potential counterparties and end-users.
Conversely, a higher threshold may increase market liquidity,
efficiency, and competition as more entities engage in swap dealing
without SD registration as a barrier to entry. However, a higher
threshold may also result in fewer swaps being subject to SD-related
regulations requiring, for example, disclosures, portfolio
reconciliation, portfolio, compression, potentially reducing the
financial integrity of markets.
Considering these countervailing factors, the Commission believes
that setting the de minimis threshold at $8 billion will not
significantly diminish the efficiency, competitiveness, and financial
integrity of markets as compared to a $3 billion threshold. Further, as
discussed, an increase in the threshold would potentially have both
positive and negative effects to the efficiency, competitiveness, and
financial integrity of the markets.
(c) Price Discovery
All else being equal, the Commission preliminarily believes that
price discovery will not be harmed and might be improved if there are
more entities engaging in ancillary dealing due to increased
competitiveness among swap counterparties. The Commission is
preliminarily of the view that, as compared to a $3 billion threshold,
an $8 billion de minimis threshold would encourage participation of new
SDs and promote ancillary dealing because those entities engaged in
swap dealing activities below the threshold would not need to incur the
direct costs of registration until they exceeded a higher threshold.
Similarly, raising the threshold above $8 billion could lead to
even more entities engaging in ancillary dealing.
(d) Sound Risk Management
The Commission notes that a higher de minimis threshold could lead
to impaired risk management practices because a lower number of
entities would be required by regulation to: (1) Develop and implement
detailed risk management programs; (2) adhere to business conduct
standards that reduce operational and other risks; and (3) satisfy
margin requirements for uncleared swaps. For the same reason, a lower
threshold could positively impact risk management since more entities
would be required to comply with the above mentioned risk-related SD
regulations.
(e) Other Public Interest Considerations
The Commission has not identified any other public interest
considerations with respect to setting the de minimis threshold at $8
billion in AGNA of swap dealing activity.
2. Swaps Entered Into by Insured Depository Institutions in Connection
With Loans to Customers
The proposed IDI De Minimis Provision would require that the loans
and related swaps generally meet requirements that, as compared to the
requirements of the IDI Swap Dealing Exclusion in paragraph (5) of the
SD Definition, reflect: (1) A revised timing requirement for when the
swap must be entered into; (2) an expansion of the types of swaps that
are eligible; (3) a reduced syndication percentage requirement; (4) an
elimination of the notional amount cap; and (5) a refined explanation
of the types of loans that would qualify. Any swap that meets the
requirements of the IDI Swap Dealing Exclusion in paragraph (5) of the
SD Definition would also meet the requirements of this new IDI De
Minimis Provision.
(i) Policy-Related Costs and Benefits
Similar to the IDI Swap Dealing Exclusion in paragraph (5) of the
SD Definition, the IDI De Minimis Provision allows IDIs to tailor the
risks of a loan to the loan customer’s and the lender’s needs and
promotes the risk-mitigating effects of swaps. The IDI De Minimis
Provision, however, allows more flexibility, which should expand the
universe of swaps that do not have to be counted towards the de minimis
threshold, as well as decrease concentration in the markets for swaps
and loans. For example, the different requirements for both timing and
the relationship of the swap to the loan will increase the ability of
IDIs to enter into certain swaps and not be concerned that they would
have to be counted towards the de minimis threshold. This should
enhance market liquidity, which is helpful for customers of IDIs that
may not have access to larger SDs. Conversely, expanding the universe
of swaps not required to be counted towards the de minimis threshold
also expands the number of swaps potentially not subject to SD
regulation and consequently, could decrease customer protections. As
mentioned in section II.B.1, however, the proposed IDI De Minimis
Provision will likely benefit mostly small and mid-sized IDIs, which
mitigates the concern that systemic risk will increase as a result of
the proposed change.
As indicated by Table 14 in section II.B.1, the level of activity
between unregistered IDIs and other unregistered persons is between
only approximately 0.003 percent and 0.007 percent of the total AGNA of
swaps activity, depending on the range of AGNA of
[[Page 27476]]
swaps activity being examined (at AGNAs of between $1 billion and $50
billion). Given those low percentages, the Commission is of the view
that the policy benefits of SD regulation likely would not be
significantly diminished if the proposed IDI De Minimis Provision is
adopted and some unregistered IDIs marginally expand the number and
AGNA of swaps they enter into with customers in connection with loans
to those customers. Further, though these entities are active in the
swap market, the Commission is of the view that their activity poses
less systemic risk as compared to larger IDIs because of their limited
AGNA of swaps activity as compared to the overall size of the market.
The Commission believes that the benefits of added market liquidity
may be more significant than the costs of potentially reduced customer
protections. The cost of reduced customer protections is mitigated
because such swaps would still be required to be reported to the CFTC
and IDIs would still be subject to prudential regulatory requirements,
thereby providing oversight with respect to such swaps.
(ii) Section 15(a)
Section 15(a) of the CEA requires the Commission to consider the
effects of its actions in light of the following five factors:
(a) Protection of Market Participants and the Public
The IDI De Minimis Provision proposed amendment may expand the
universe of swaps that fall outside the scope of SD regulations,
potentially increasing systemic risk and reducing counterparty
protections. However, the IDIs would still be subject to prudential
regulatory requirements, potentially mitigating this concern.
(b) Efficiency, Competitiveness, and Financial Integrity of Markets
The efficiency, competitiveness, and financial integrity of the
markets may also be affected by the addition of the IDI De Minimis
Provision since it provides IDIs more flexibility to enter into swaps
in connection with loans without registering as SDs. With the added
flexibility, the number of IDIs offering swaps in connection with loans
may increase, which might have a positive impact on the efficiency and
competiveness of the market for swaps and loans. However, the added
flexibility may also result in fewer swaps being subject to SD-related
regulations.
(c) Price Discovery
The IDI De Minimis Provision could lead to better price discovery
as small and mid-sized banks increase their level of ancillary dealing
activity, which might increase the frequency of swap transaction
pricing.
(d) Sound Risk Management
The proposed IDI De Minimis Provision should increase the usage of
swaps for risk mitigation, which might reduce the risk resulting from
the defaulting of loan customers. Additionally, having more IDIs
offering swaps in connection with loans might decrease concentration in
the market for loan-related swaps and thereby decrease risk as well.
(e) Other Public Interest Considerations
The Commission has not identified any other public interest
considerations with respect to the proposed IDI De Minimis Provision.
3. Swaps Entered Into To Hedge Financial or Physical Positions
The Commission is proposing new paragraph (4)(D), which provides a
general exception from the SD de minimis threshold calculation for
certain hedging swaps. To meet the requirements of the Hedging De
Minimis Provision, a swap must be entered into by a person for the
primary purpose of reducing or otherwise mitigating one or more of its
specific risks, including, but not limited to, market risk, commodity
price risk, rate risk, basis risk, credit risk, volatility risk,
correlation risk, foreign exchange risk, or similar risks arising in
connection with existing or anticipated identifiable assets,
liabilities, positions, contracts, or other holdings of the person or
any affiliate. Additionally, the entity entering into the hedging swap
must not: (1) Be the price maker of the hedging swap; (2) receive or
collect a bid/ask spread, fee, or commission for entering into the
hedging swap; and (3) receive other compensation separate from the
contractual terms of the hedging swap in exchange for entering into the
hedging swap.
(i) Policy-Related Costs and Benefits
Generally, the proposed Hedging De Minimis Provision is not
expected to impact how such swaps are treated for purposes of the de
minimis threshold calculation, but rather provides additional clarity
to market participants, which allows them to determine more easily
whether swaps entered into for purposes of hedging financial or
physical positions are counted towards the de minimis threshold. The
Commission believes that the clarity will benefit certain entities by
encouraging economically-appropriate risk mitigation, potentially
reducing systemic risk broadly. The proposed exception should reduce
costs that persons engaging in such swaps would incur in determining if
they are SDs. Such added clarity may also improve market liquidity as
entities feel more comfortable entering into a swap for the purpose of
hedging, knowing that the swap would not necessarily constitute swap
dealing. In addition to increased market liquidity, the additional
clarity should encourage economically appropriate risk mitigation.
Conversely, it is possible that improper application of the Hedging
De Minimis Provision could lead to certain swap dealing activity being
treated as hedging activity that does not need to be counted towards
the de minimis threshold. This may reduce the level of the Commission’s
regulatory coverage of the swap market. However, the Commission
believes that the requirements of the proposed Hedging De Minimis
Provision limit the likelihood that dealing activity would be treated
as hedging activity by market participants.
(ii) Section 15(a)
Section 15(a) of the CEA requires the Commission to consider the
effects of its actions in light of the following five factors:
(a) Protection of Market Participants and the Public
The Commission notes that certain swaps that are now currently
counted towards the de minimis threshold could now be hedging swaps
that would not be counted, which could potentially mean less regulatory
coverage and protection for market participants. However, as discussed,
the Commission believes that the proposed exception for swaps entered
into to hedge financial or physical positions has a number of
requirements that greatly reduce the likelihood that swap dealing
activity would improperly not be counted towards an entity’s de minimis
threshold calculation, reducing the potential impact to systemic risk
and counterparty protections.
(b) Efficiency, Competitiveness, and Financial Integrity of Markets
With respect to the Hedging De Minimis Provision, market liquidity
may improve as entities would be able to execute hedging swaps knowing
that the swaps would not necessarily constitute swap dealing that
counts towards the de minimis threshold.
[[Page 27477]]
(c) Price Discovery
The Hedging De Minimis Provision could lead to better price
discovery as more entities gain certainty that hedging swaps are not
considered dealing activity, and therefore increase their hedging-
related activity because they are less likely to have to register as an
SD.
(d) Sound Risk Management
The added clarity that certain hedging swaps need not be counted
towards an entity’s de minimis calculation could lead to improved risk
management as certain entities increase their hedging activities.
(e) Other Public Interest Considerations
The Commission has not identified any other public interest
considerations with respect to the proposed Hedging De Minimis
Provision.
4. Swaps Resulting From Multilateral Portfolio Compression Exercises
(i) Policy-Related Costs and Benefits
The Commission believes that swaps which result from multilateral
portfolio compression exercises and which meet the requirements of the
existing Staff Letter No. 12-62 would also meet the requirements of the
proposed rule amendment, and are already not considered swaps that have
to count towards a person’s de minimis threshold. The Commission is of
the preliminary belief that the existing no-action relief is being
fully relied upon by market participants, and therefore, this proposed
change could lead to increased certainty for market participants,
without any significant policy-related costs for the swap market.
(ii) Section 15(a)
Section 15(a) of the CEA requires the Commission to consider the
effects of its actions in light of the following five factors:
(a) Protection of Market Participants and the Public
Multilateral portfolio compression exercises help to better align
initial margin between appropriate counterparties when, for example, a
swap with a compression exercise participant has been backed-to-backed
between two SD affiliates in the same holding company. In such cases,
the original outward facing swap with the first affiliate and the back-
to-back affiliate swap may be replaced with an outward facing swap with
the second affiliate. Thus, having SDs engage in compression exercises
may increase the protections that posting initial margin provides
market participants and the public, namely, a counterparty has a senior
claim to posted initial margin and may not have to become a general
creditor in a bankruptcy. To the extent that a provision explicitly
excepting multilateral portfolio compression exercise swaps from the de
minimis calculation encourages more participation in compression
exercises, market participants and the public may be better protected.
(b) Efficiency, Competitiveness, and Financial Integrity of Markets
The increased certainty that swaps resulting from multilateral
portfolio compression exercises do not need to be counted towards a
person’s de minimis threshold could encourage persons to enter into
multilateral portfolio compression exercises on a more regular basis,
potentially increasing the financial integrity of the markets.
(c) Price Discovery
Prices from swap compression exercises are not publicly reported
because they are not price-forming trades. As such, the Commission has
not identified any price discovery considerations with respect to the
MPCE De Minimis Provision.
(d) Sound Risk Management
The increased certainty that swaps resulting from multilateral
portfolio compression exercises do not need to be counted towards a
person’s de minimis threshold could encourage persons to enter into
multilateral portfolio compression exercises on a more regular basis,
potentially reducing risk.
(e) Other Public Interest Considerations
The Commission has not identified any other public interest
considerations with respect to the MPCE De Minimis Provision.
5. Methodology for Calculating Notional Amounts
(i) Policy-Related Costs and Benefits
To allow for more timely clarity to market participants, the
Commission is proposing new paragraph (4)(vii) of the SD Definition,
which provides that the Commission may determine the methodology to be
used to calculate the notional amount for any group, category, type, or
class of swaps, and delegates to the Director of DSIO the authority to
determine methodologies for calculating notional amounts. Additionally,
any such methodology shall be economically reasonable and analytically
supported, and be made publicly available on the CFTC website. The
Commission believes that this proposed amendment would facilitate
timely clarity regarding notional amount calculation methodologies for
purposes of the de minimis threshold, and help ensure that persons are
fully aware of whether their activities could lead to (or presently
entail) SD registration requirements in the event of market or
regulatory changes. As is the case with existing delegations to staff,
the Commission would continue to reserve the right to exercise the
delegated authority itself at any time.
(ii) Section 15(a)
(a) Protection of Market Participants and the Public
The Commission has not identified any protection of market
participants and the public considerations with respect to the proposed
rule for determining the methodology for calculating notional amounts
and the delegation of authority.
(b) Efficiency, Competitiveness, and Financial Integrity of Markets
The Commission has not identified any efficiency, competitiveness,
and financial integrity of the markets considerations with respect to
the proposed rule for determining the methodology for calculating
notional amounts and the delegation of authority.
(c) Price Discovery
The Commission has not identified any price discovery
considerations with respect to the proposed rule for determining the
methodology for calculating notional amounts and the delegation of
authority.
(d) Sound Risk Management
The Commission believes that most market participants understand
the risks of the swaps they engage in. To the extent that the proposed
amendment compels SDs to assess the deltas of embedded options in
swaps, however, the proposed amendment could lead to an audit trail for
SDs that might ultimately improve risk management (if estimated deltas
did not exist already).
(e) Other Public Interest Considerations
The Commission believes that the proposed rule for determining the
methodology for calculating notional amounts and the delegation of
authority will ensure that persons are fully aware of whether their
activities could lead to (or presently entail) SD registration
requirements in the event of market or regulatory changes.
6. Request for Comment
The Commission invites comments from the public on all aspects of
its
[[Page 27478]]
preliminary consideration of costs and benefits associated with this
Proposal. The questions below relate to areas that the Commission
preliminarily believes may be relevant. In addressing these or any
other aspect of the Commission’s preliminary assessment, commenters are
encouraged to submit any data or other information that they may have
quantifying or qualifying the costs and benefits of the proposed
alternatives.
(1) What are the costs and benefits to market participants
associated with each proposed change? Please explain and, to the extent
possible, quantify these costs and benefits.
(2) What are the direct costs associated with SD registration and
compliance? What is the smallest notional amount of dealing swaps that
an entity must enter into in order for the profitability of its swap
dealing activity to exceed SD registration and compliance costs?
(3) Are there indirect benefits to registering as an SD? For
example, does being a registered SD make an entity a more desirable
counterparty? Are many of the benefits of transacting with an SD not
relevant because many requirements are part of standard ISDA
agreements?
(4) Besides the direct costs of registration and compliance, are
there any indirect costs to becoming a registered SD? What are these
costs?
(5) Would the entities with dealing activity between $3 billion and
$8 billion incur similar registration and compliance costs as compared
to entities with dealing activity above $8 billion? Would those dealers
be impacted differently by those costs?
(6) What are the costs and benefits to the public associated with
each proposed change? Please explain and, to the extent possible,
quantify these costs and benefits.
(7) How does each proposed change affect the efficiency,
competitiveness, and financial integrity of markets?
(8) How does each proposed change affect price discovery for the
swap market?
(9) How does each proposed change affect sound risk management for
swap market participants?
(10) How does each proposed change affect other public interests
that the Commission may elect to consider?
(11) Has the Commission identified all of the relevant categories
of costs and benefits in its preliminary consideration of the costs and
benefits? Please describe any additional categories of costs or
benefits that the Commission should consider.
(12) The Commission preliminarily believes that cross-border
aspects of this rulemaking are similar to domestic applications. Do the
costs and benefits of the proposed changes, as applied in cross-border
contexts, differ from those costs and benefits resulting from their
domestic application, and, if so, in what ways and to what extent?
D. Antitrust Considerations
Section 15(b) of the CEA requires the Commission to take into
consideration the public interest to be protected by the antitrust laws
and endeavor to take the least anticompetitive means of achieving the
purposes of the CEA, in issuing any order or adopting any Commission
rule or regulation (including any exemption under section 4(c) or
4c(b)), or in requiring or approving any bylaw, rule, or regulation of
a contract market or registered futures association established
pursuant to section 17 of the CEA.198
—————————————————————————
198 7 U.S.C. 19(b).
—————————————————————————
The Commission believes that the public interest to be protected by
the antitrust laws is generally to protect competition. The Commission
requests comment on whether this Proposal implicates any other specific
public interest to be protected by the antitrust laws.
The Commission has considered this Proposal to determine whether it
is anticompetitive and has preliminarily identified no anticompetitive
effects. The Commission requests comment on whether this Proposal is
anticompetitive and, if it is, what the anticompetitive effects are.
Because the Commission has preliminarily determined that this
Proposal is not anticompetitive and has no anticompetitive effects, the
Commission has not identified any less anticompetitive means of
achieving the purposes of the CEA. The Commission requests comment on
whether there are less anticompetitive means of achieving the relevant
purposes of the CEA that would otherwise be served by adopting this
Proposal.
List of Subjects in 17 CFR Part 1
Commodity futures, Definitions, De minimis exception, Insured
depository institutions, Swaps, Swap dealers.
For the reasons stated in the preamble, the Commodity Futures
Trading Commission proposes to amend 17 CFR part 1 as follows:
PART 1–GENERAL REGULATIONS UNDER THE COMMODITY EXCHANGE ACT
0
1. The authority citation for part 1 continues to read as follows:
Authority: 7 U.S.C. 1a, 2, 5, 6, 6a, 6b, 6c, 6d, 6e, 6f, 6g,
6h, 6i, 6k, 6l, 6m, 6n, 6o, 6p, 6r, 6s, 7, 7a-1, 7a-2, 7b, 7b-3, 8,
9, 10a, 12, 12a, 12c, 13a, 13a-1, 16, 16a, 19, 21, 23, and 24
(2012).
0
2. In Sec. 1.3, amend the definition of the term “Swap dealer” as
follows:
0
a. Revise paragraph (4)(i)(A);
0
b. Add paragraphs (4)(i)(C), (D), and (E);
0
c. Remove and reserve paragraph (4)(ii); and
0
d. Add paragraph (4)(vii).
The revisions and additions read as follows:
Sec. 1.3 Definitions.
* * * * *
Swap Dealer. * * *
(4) De minimis exception–(i)(A) In general. Except as provided in
paragraph (4)(vi) of this definition, a person that is not currently
registered as a swap dealer shall be deemed not to be a swap dealer as
a result of its swap dealing activity involving counterparties, so long
as the swaps connected with those dealing activities into which the
person–or any other entity controlling, controlled by or under common
control with the person–enters over the course of the immediately
preceding 12 months have an aggregate gross notional amount of no more
than $8 billion, and an aggregate gross notional amount of no more than
$25 million with regard to swaps in which the counterparty is a
“special entity” (as that term is defined in section 4s(h)(2)(C) of
the Act, 7 U.S.C. 6s(h)(2)(C), and Sec. 23.401(c) of this chapter),
except as provided in paragraph (4)(i)(B) of this definition. For
purposes of this definition, if the stated notional amount of a swap is
leveraged or enhanced by the structure of the swap, the calculation
shall be based on the effective notional amount of the swap rather than
on the stated notional amount.
* * * * *
(C) Insured depository institution swaps in connection with
originating loans to customers. Solely for purposes of determining
whether an insured depository institution has exceeded the aggregate
gross notional amount threshold set forth in paragraph (4)(i)(A) of
this definition, an insured depository institution may exclude swaps
entered into by the insured depository institution with a customer in
connection with originating a loan to that customer, subject to the
requirements of paragraphs (4)(i)(C)(1) through (4)(i)(C)(6) of this
definition.
(1) Timing of execution of swap. The insured depository institution
enters into the swap with the customer no
[[Page 27479]]
earlier than 90 days before execution of the applicable loan agreement,
or no earlier than 90 days before transfer of principal to the customer
by the insured depository institution pursuant to the loan, unless an
executed commitment or forward agreement for the applicable loan
exists, in which event the 90 day restriction does not apply;
(2) Relationship of swap to loan. (i) The rate, asset, liability or
other term underlying such swap is, or is related to, a financial term
of such loan, which includes, without limitation, the loan’s duration,
rate of interest, the currency or currencies in which it is made and
its principal amount; or
(ii) Such swap is required as a condition of the loan, either under
the insured depository institution’s loan underwriting criteria or as
is commercially appropriate, in order to hedge risks incidental to the
borrower’s business (other than for risks associated with an excluded
commodity) that may affect the borrower’s ability to repay the loan;
(3) Duration of swap. The duration of the swap does not extend
beyond termination of the loan;
(4) Level of funding of loan. (i) The insured depository
institution is committed to be, under the terms of the agreements
related to the loan, the source of at least 5 percent of the maximum
principal amount under the loan; or
(ii) If the insured depository institution is committed to be,
under the terms of the agreements related to the loan, the source of
less than 5 percent of the maximum principal amount under the loan,
then the aggregate notional amount of all swaps entered by the insured
depository institution with the customer in connection with the
financial terms of the loan cannot exceed the principal amount of the
insured depository institution’s loan;
(5) The swap is considered to have been entered into in connection
with originating a loan with a customer if the insured depository
institution:
(i) Directly transfers the loan amount to the customer;
(ii) Is a part of a syndicate of lenders that is the source of the
loan amount that is transferred to the customer;
(iii) Purchases or receives a participation in the loan; or
(iv) Under the terms of the agreements related to the loan, is, or
is intended to be, the source of funds for the loan;
(6) The loan to which the swap relates shall not include:
(i) Any transaction that is a sham, whether or not intended to
qualify for the exception from the de minimis threshold in this
definition; or
(ii) Any synthetic loan.
(D) Swaps entered into for the purpose of hedging. Solely for
purposes of determining whether a person has exceeded the aggregate
gross notional amount threshold set forth in paragraph (4)(i)(A) of
this definition, the person may exclude swaps that are entered into for
the purpose of hedging, subject to the requirements of paragraphs
(4)(i)(D)(1) through (4)(i)(D)(6) of this definition.
(1) The person is entering into the swap for the primary purpose of
reducing or otherwise mitigating one or more specific risks for the
person, which includes, without limitation, market risk, price risk,
rate risk, basis risk, credit risk, volatility risk, foreign exchange
risk, liquidity risk, or similar risks arising in connection with
existing or anticipated identifiable assets, liabilities, positions,
contracts, or other holdings of the person or any affiliate of the
person;
(2) For that swap, the person is not the price maker and does not
receive or earn a bid/ask spread, fee, commission, or other
compensation for entering into the swap;
(3) The swap is economically appropriate to the reduction of risks
that may arise in the conduct and management of an enterprise engaged
in the type of business in which the person is engaged;
(4) The swap is entered into in accordance with sound business
practices; and
(5) The person does not enter into the swap in connection with
activity structured to evade designation as a swap dealer.
(E) Swaps resulting from multilateral portfolio compression
exercises. Solely for purposes of determining whether a person has
exceeded the aggregate gross notional amount threshold set forth in
paragraph (4)(i)(A) of this definition, the person may exclude swaps
that result from multilateral portfolio compression exercises, as
defined in Sec. 23.500 of this chapter, to the extent the person does
not enter into the multilateral portfolio compression exercise in
connection with activity structured to evade designation as a swap
dealer.
(ii) [Reserved]
* * * * *
(vii) Methodology for calculation of notional amounts. (A) For
purposes of paragraph (4) of this definition, the Commission may on its
own, or upon written request by a person, determine the methodology to
be used to calculate the notional amount for any group, category, type,
or class of swaps. Such methodology shall be economically reasonable
and analytically supported. Each such determination shall be made
publicly available and posted on the Commission website.
(B) Delegation. (i) The Commission hereby delegates to the Director
of the Division of Swap Dealer and Intermediary Oversight, or such
other employee or employees as the Director may designate from time to
time, the authority in paragraph (4)(vii)(A) of this definition to
determine the methodology to be used to calculate the notional amount
for any group, category, type, or class of swaps.
(ii) The Director of the Division of Swap Dealer and Intermediary
Oversight may submit any matter which has been delegated to him or her
under paragraph (4)(vii)(B)(i) of this definition to the Commission for
its consideration.
(iii) Nothing in this paragraph (4)(vii)(B) may prohibit the
Commission, at its election, from exercising the authority delegated to
the Director of the Division of Swap Dealer and Intermediary Oversight
under paragraph (4)(vii)(A) of this definition.
* * * * *
Issued in Washington, DC, on June 5, 2018, by the Commission.
Christopher Kirkpatrick,
Secretary of the Commission.
Note: The following appendices will not appear in the Code of
Federal Regulations.
Appendices to De Minimis Exception to the Swap Dealer Definition–
Commission Voting Summary, Chairman’s Statement, and Commissioners’
Statements
Appendix 1–Commission Voting Summary
On this matter, Chairman Giancarlo and Commissioner Quintenz
voted in the affirmative. Commissioner Behnam voted in the negative.
Appendix 2–Statement of Chairman J. Christopher Giancarlo
Since becoming Chairman, I have committed to resolving this
outstanding issue and giving market participants the regulatory
certainty they need. Still, as you know, last year I requested that
the Commission postpone a decision on the de minimis threshold for a
year. That decision was understandably disappointing to some,
including my fellow Commissioners, who said they were then ready to
vote on it.
Yet, as I told Congress at the time, I did not just want to
address the de minimis threshold; I wanted to get it right.
Today, I believe the staff has had adequate time to analyze the
most current and comprehensive trading data and arrive at a
recommendation for the best path forward in terms of managing risk
to the financial system. The staff has provided
[[Page 27480]]
Commissioners with full access to the data they have used in their
analysis. They have also conducted additional and specific data
analyses requested by Commissioners.
The data shows quite clearly that a drop in the de minimis
definition from $8 billion to $3 billion would not have an
appreciable impact on coverage of the marketplace. In fact, any
impact would be less than one percent–an amount that is truly de
minimis.
On the other hand, the drop in the threshold would pose
unnecessary burdens for non-financial companies that engage in
relatively small levels of swap dealing to manage business risk for
themselves and their customers. That would likely cause non-
financial companies to curtail or terminate risk-hedging activities
with their customers, limiting risk-management options for end-users
and ultimately consolidating marketplace risk in only a few large,
Wall Street swap dealers.
In my travels around the country over the past four years on the
Commission, I have met numerous small swaps trading firms that make
markets in local markets or in select asset classes. These firms are
often housed in small community banks, local energy utilities or
commodity trading houses. They all trade below the $8 billion
threshold. Almost all of them say that if the de minimis threshold
were to drop to $3 billion, they would reduce their trading
accordingly. They just cannot afford to be registered as swap
dealers.
Who are the winners if these small firms reduce their market
making activities? Big Wall Street banks. Who are the losers if
these small firms reduce their market making activities? Small
regional lenders, energy hedgers and Ag producers, who become more
dependent on Wall Street trading liquidity. Who is the really big
loser? The U.S. economy, which becomes more financially concentrated
and less economically diverse.
That is why I think the proposed rule rightly balances the
mandate to register swap dealers whose activity is large enough in
size and scope to warrant oversight without detrimentally affecting
community banks and agricultural co-ops that engage in limited swap
dealing activity and do not pose systemic risk. Leaving the
threshold at the $8 billion level allows firms to avoid incurring
new costs for overhauling their existing procedures for monitoring
and maintaining compliance with the threshold. It fosters increased
certainty and efficiency in determining swap dealer registration by
utilizing a simple objective test with a limited degree of
complexity. And it ensures that smaller market makers and the
counterparties with which they trade can engage in limited swap
dealing without the high costs of registration and compliance as
intended by Congress when it established the de minimis dealing
exception to begin with.
The changes proposed today will also not count swaps of Insured
Depository Institutions (IDIs) made in connection with loans. They
would allow, for example, an insured depository institution swap
dealer to write a swap with a customer 181 days after entering into
a loan without counting it towards the $8 billion threshold. These
types of changes will allow small and regional banks to further
serve customers’ needs without the added burden of unnecessary
regulation and associated compliance costs.
This proposal incorporates feedback and input from my two fellow
Commissioners and their fine staffs. We now look forward to feedback
from the public and market participants. We ask numerous questions
about whether any additional exceptions or calculations should be
included in the final rule. Three years ago, I raised the question
of whether there should be an exclusion from counting cleared swaps
towards the registration threshold and that question is asked again.
Your response to questions regarding adding other potential
components will help the Commission assess whether further
adjustments to the de minimis exception may be appropriate in the
final rule.
As discussed in the adopting release, staff continues to consult
with the SEC and prudential regulators regarding the changes in the
proposal in particular some of the questions regarding exclusions. I
remain committed to working with Chair Jay Clayton and the SEC in
areas where harmonization is necessary and appropriate.
I also remain committed to finalizing this rule before the end
of the year. I recognize that market participants need certainty.
Today’s proposal is a major step forward in doing just that. I
applaud staff for this proposal and look forward to feedback.
Appendix 3–Supporting Statement of Commissioner Brian D. Quintenz
I support this proposed rulemaking governing swap dealer
registration, which is fundamental to the Commission’s effective
oversight of the swaps market.
Swap dealers are subject to extensive and costly regulatory
requirements: Registration fees; minimum capital requirements;
posting margin for uncleared swaps; IT costs for trade processing,
reporting, confirmation, and reconciliation activities; costs to
create and send clients daily valuation reports; costs for
recordkeeping obligations; third party audit expenses; legal fees to
develop and implement business conduct rules and many, many more. If
that sounds like a big bill, it is. A prominent economic research
firm estimated the present value of the cost for swap dealer
registration compliance at $390 million per firm.1
—————————————————————————
1 See National Economic Research Associates, Cost-Benefit
Analysis of the CFTC’s Proposed Swap Dealer Definition 1 (Dec. 20,
2011) (“NERA Report”), http://www.nera.com/content/dam/nera/publications/archive2/PUB_SwapDealer_1211.pdf. It is difficult to
estimate the initial and incremental, ongoing costs of swap dealer
regulation. NERA’s report regarding the costs of registration for
non-financial energy firms remains one of the only comprehensive
analyses produced.
—————————————————————————
Those significant requirements and costs are imposed to advance
equally significant policy objectives, such as the reduction of
systemic risk, increased counterparty protections, and enhanced
market efficiency and integrity. Therefore, the registration
threshold, as the trigger mechanism for those costs and objectives,
must be appropriately and specifically calibrated to ensure that the
correct market group shoulders the burdens of swap dealer
regulations because they are best situated to realize the
corresponding policy goals of that registration.
I have stated previously, in great detail and with considerable
evidence, the importance of appropriately calibrating the de minimis
threshold so that entities posing no systemic risk and with a
relatively small market footprint are not regulated under a regime
that is more appropriate for the world’s largest, most complex
financial institutions.2 If we fail to calibrate this threshold
appropriately, firms at the margin will likely reduce their activity
to avoid registration as opposed to serving their clients’ interests
and accepting the burdens of registration. A public policy choice
which drives away market participants and reduces market activity is
undeniably flawed.
—————————————————————————
2 Keynote Address of Commissioner Brian Quintenz before the
Smart Financial Regulation Roundtable (Nov. 2017), https://www.cftc.gov/PressRoom/SpeechesTestimony/opaquintenz3.
—————————————————————————
From my first confirmation hearing in 2016 to the present
day,3 including meetings with elected representatives, my second
confirmation hearing,4 interviews with the press,5 discussions
with market participants, and in public remarks at event forums, 6
I have been adamant that notional value is a poor measure of
activity and a meaningless measure of risk, and therefore, by
itself, is a deficient metric by which to impose large costs and
achieve substantial policy objectives.7 Therefore, I have some
reservations about this proposal’s continued reliance on a one-size-
fits-all notional value test for swap dealer registration.
—————————————————————————
3 Transcript, “Hearing to Consider Pending CFTC
Nominations,” Senate Agriculture, Nutrition, and Forestry
Committee, September 15, 2016, 2016 WL 4938280 p.12.
4 Transcript, “Hearing to Consider Pending CFTC
Nominations,” Senate Agriculture, Nutrition, and Forestry
Committee, July 27, 2017, 2017 WL 3215667 p.14 (“With regard to the
de minimis threshold level, I think when this threshold was set
originally it was really done without the benefit of a lot of data.
I think if there is a scenario where this shortfall reduces from $8
billion to $3 billion [that] instead of increasing registration, it
would drive participants out of the market or force them to reduce
their activity because of the cost that would be imposed upon
them.”).
5 Bain, Benjamin, “CFTC Swaps Dealer Threshold Criticized by
Its Newest Republican,” Bloomberg (Oct. 9, 2017); and DeFrancesco,
Dan, “CFTC’s Quintenz: Dealer Threshold Could Exclude Cleared
Swaps–Commissioner Suggests Risks should be Better Considered in De
Minimis Reappraisal,” Risk.Net (Oct. 24, 2017).
6 “Fireside Chat: CFTC Commissioners,” FIA Expo Chicago (Oct
19, 2017) available at: https://expo2017.fia.org/articles/fireside-chat-cftc-commissioners, at 9’30” through 10’25”.
7 For further discussion, see comment letter to CFTC from
Financial Services Roundtable dated January 19, 2016 (“We do not
see a benefit to requiring an entity that enters into a small number
of swaps with a large notional amount but little exposure to choose
between exiting the market or registering as a swap dealer, nor
should entities that are taking on very large exposures without
crossing a notional threshold, or a trade or counterparty count
metric, be unregulated because they have concentrated risk in a
small number of trades.”).
—————————————————————————
I still, and will continue to, believe that the criteria for
determining swap dealer registration should be more closely
correlated to risk. However, if any final rule is going to
[[Page 27481]]
settle for an activity-based threshold, a notional value metric
should at least be combined with additional measures (such as
dealing counterparty count and dealing transaction count) to
determine what constitutes a de minimis quantity of swap dealing
activity. Including additional measures should mitigate instances of
“false positives” that could result from the use and deficiencies
of any one activity-based metric.8
—————————————————————————
8 For further discussion, see letter from Institute of
International Bankers dated January 19, 2016.
—————————————————————————
While it would have been my preference that this concept appear
in this proposal’s rule text as the operative standard, I am very
grateful to the Chairman and the Division of Swap Dealer and
Intermediary Oversight (DSIO) for including a robust discussion in
the preamble on the merits of replacing the current notional value
de minimis threshold with a three-prong test. Specifically, the
preamble suggests an entity could qualify for the de minimis
exception if its dealing activity is below any of the following
three criteria: (i) A notional threshold, (ii) a proposed dealing
counterparty count threshold, or (iii) a proposed dealing
transaction count threshold. In other words, an entity would have to
surpass all three hurdles collectively in order to lose the de
minimis exception’s safe harbor.
I have included several questions in the proposal that ask for
feedback on this approach, particularly with respect to the dealing
counterparty and transaction count thresholds which I believe would
provide market participants with additional flexibility to serve
their clients’ needs without triggering a very costly and burdensome
registration process. I thank the staff of DSIO for including my
questions in the proposal and welcome market participant’s feedback
on this potential approach.
I also welcome comments on the Proposed Rule’s preamble
discussion on accounting for exchange-traded or cleared swaps in an
entity’s de minimis calculation. Many of the policy goals of swap
dealer regulation are accomplished when a swap is exchange-traded
and cleared. For example, systemic risk concerns are diminished with
respect to cleared swaps: The swaps are standardized, the executing
counterparties do not incur counterparty credit risk because they
face the clearinghouse and not each other, and each side is required
to post margin that helps guarantee performance and prevent unfunded
losses from accumulating. Removing such swaps from the de minimis
calculation would better align the registration threshold with risk
and would also, I believe, encourage additional liquidity on SEFs. I
am hopeful that with the benefit of additional industry comment and
further Commission analysis, the Commission will either adopt an
exclusion for exchange-traded and cleared swaps or adjust their
notional weighting in an entity’s de minimis calculation.
We must remember, the Commission is not establishing the de
minimis exception in a vacuum. Subsequent to the adoption of the
swap dealer definition, other regulatory requirements have gone into
effect which also advance the goals of swap dealer registration,
such as mandatory clearing, SEF trading, reporting swap data to
repositories, and margin requirements for uncleared swaps. For
example, regardless of whether an entity is registered as a swap
dealer, its swap activity is transparent to the Commission because
of the swap data and real-time reporting requirements that apply to
all market participants.
When the Commission first established the $8 billion de minimis
threshold in 2012, it did so without the benefit of swap data.9
Now almost six years later, staff has conducted a comprehensive
analysis of the available swap data collected by Commission-
registered SDRs and presented estimates about the impact that lower
or higher notional amount thresholds would have on swap dealer
registration. Although much work remains to be done to further
refine the data, particularly with respect to the non-financial
commodity asset class, I commend staff for their hard work,
progress, and thoughtful analysis. I believe the data in the
Proposed Rule clearly supports maintaining the de minimis threshold
at $8 billion or potentially increasing it. For example, at a $20
billion notional threshold, the estimated amount of notional swap
activity that would no longer be covered by swap dealer regulation
is approximately only 1/100th of 1 percent of the $221 trillion
market analyzed. I am interested to hear from commenters about the
policy and market implications of maintaining or raising the de
minimis threshold.
—————————————————————————
9 See Hearing to Review the 2016 Agenda of the Commodity
Futures Trading Commission Before the H. Comm. on Agric., 114th
Cong. 17 (2016) (response of Timothy Massad, former CFTC Chairman,
to question posed by Congressman David Scott (D-GA)), https://republicans-agriculture.house.gov/uploadedfiles/114-40_-_98680.pdf.
—————————————————————————
Finally, I would like to commend the Chairman and DSIO for
including many important improvements to the de minimis exception in
this proposal which I fully support. For instance, I support an
appropriate Insured Depository Institution exception that will allow
for banks to serve their clients’ needs. By removing unnecessary
timing restrictions and expanding the types of credit extensions
that qualify for the exception, the proposal should improve the
ability of IDIs to help their customers hedge loan-related risks as
the statute intended. I also support the proposed rule’s
clarification that swaps that hedge financial risks may be excluded
from an entity’s de minimis count. Market participants should be
able to use swaps to manage their financial and physical risks
without concern that such activity may trigger swap dealer
registration.
I will vote in favor of issuing this proposal to the public for
feedback and look forward to hearing from market participants about
how these proposed amendments may be further refined or calibrated
to increase the efficacy of the de minimis threshold to meet the
goals of swap dealer registration.
Appendix 4–Dissenting Statement of Commissioner Rostin Behnam
Introduction
I respectfully dissent from the Commodity Futures Trading
Commission’s (the “Commission” or “CFTC”) notice of proposed
rulemaking addressing the de minimis exception to the swap dealer
definition (the “Proposal”). I have a number of concerns with
specific criteria of the various exceptions proposed and
contemplated in the Proposal. However, my gravest concern is that
the Commission is moving far beyond the task before it–setting the
aggregate gross notional amount threshold for the de minimis
exception–to redefine swap dealing activity absent meaningful
collaboration with the Securities and Exchange Commission (“SEC”),
as required by the Dodd-Frank Act,1 and to the detriment of market
participants eager for regulatory certainty. Equally concerning, the
Proposal’s various ancillary components not only detract from its
core purpose, but may signify the Commission’s willingness to
exploit the de minimis exception to undermine the swap dealer
definition and circumvent Congressional intent.
—————————————————————————
1 The Dodd-Frank Wall Street Reform and Consumer Protection
Act, Public Law 111-203, section 712(d), 124 Stat. 1376, 1644 (2010)
(the “Dodd-Frank Act”). Additionally, with respect to rulemakings
and orders regarding swap dealers, among other things, section
712(a) requires the CFTC to consult and coordinate to the extent
possible with the SEC and the prudential regulators to ensure
consistency and comparability, to the extent possible. Such
consultation must occur before the CFTC commences such rulemaking or
order issuance. The Proposal indicates only that the Commission “is
consulting with the SEC and prudential regulators regarding the
changes to the SD Definition discussed in this Proposal,”
indicating that the Commission may not have adhered to the letter or
spirit of section 712(a) or (d) of the Dodd-Frank Act with respect
to the Proposal.
—————————————————————————
As discussed in the preamble to the Proposal, the regulatory
history sets forth a clear path towards–and a deadline to
complete–today’s determination to propose an amendment that would
set the aggregate gross notional amount (“AGNA”) threshold for the
de minimis exception at $8 billion in swap dealing activity entered
into by a person over the preceding 12 months prior to the
termination of the phase-in period on December 31, 2019.2 Since
the Commission’s
[[Page 27482]]
first Order Establishing a New De Minimis Threshold Phase-in
Termination Date in 2016,3 market participants have endured undue
and prolonged uncertainty because the Commission has not acted
decisively on the de minimis threshold. When the Commission punted
again in October 2017, I urged the Commission to take further action
now or let the current rule take effect.4
—————————————————————————
2 Since the initial establishment of the AGNA at $3 billion in
May 2012, and initial five year phase-in period during which the
AGNA threshold was set at $8 billion, the Commission issued two
successive orders extending the phase-in, and issued preliminary and
final staff reports concerning the de minimis threshold, as required
by paragraph 4(ii)(B) of the swap dealer definition. Additionally,
the Commission has more than five years of swap dealer oversight
experience; given that the first swap dealers submitted applications
for preliminarily registration in December 2017. See Further
Definition of “Swap Dealer,” “Security-Based Swap Dealer,”
“Major Swap Participant,” “Major Security-Based Swap
Participant” and “Eligible Contract Participant,” 77 FR 30596
(May 23, 2012) (“SD Definition Adopting Release”); Order
Establishing De Minimis Threshold Phase-In Termination Date, 81 FR
71605 (Oct. 18, 2016) (“Initial Phase-In Termination Date Order”);
Order Establishing a New De Minimis Threshold Phase-In Termination
Date, 82 FR 50309 (Oct. 31, 2017) (“Second Phase-In Termination
Date Order”); Swap Dealer De Minimis Exception Preliminary Report
(Nov. 18, 2015), available at http://www.cftc.gov/idc/groups/public/@swaps/documents/file/dfreport_sddeminis_1115.pdf; Swap Dealer De
Minimis Exception Final Staff Report (Aug. 15, 2016), available at
http://www.cftc.gov/idc/groups/public/@swaps/documents/file/dfreport_sddeminis081516.pdf.
3 Initial Phase-In Termination Date Order, supra note 2.
4 Second Phase-In Termination Date Order, supra note 2; Rostin
Behnam, Statement on De Minimis Threshold (Oct. 11, 2017), https://www.cftc.gov/PressRoom/SpeechesTestimony/behnamstatement101117a.
—————————————————————————
It is now June 2018. Given the twelve month lookback for
calculating the AGNA, absent Commission action, market participants
will need to start tracking their swap dealing activity on January
1, 2019 to determine whether their dealing activity would require
registration when the phase-in period ends on December 31, 2019. The
Commission has less than six months to either finalize the Proposal
or kick it down the road again by issuing a third order establishing
yet another phase-in termination date sometime in the future.
Six months is an ambitious time frame for even a simple rule.
While CFTC-specific data is not available, at least one study
concluded that the average amount of time for federal regulatory
agencies to finalize rules is generally between 14 and 20 months.5
The Part 49 amendments that we also voted on today, for example,
took over 16 months between the Commission proposal and a final
rule, and that rule only addressed a single industry comment letter
that was nine pages long. However, given our extensive history with
the AGNA for the de minimis exception, I believe that had the
Commission observed the course it was on, and focused on the task at
hand, it could have crafted the Proposal to address the issues most
critical to market participants (the de minimis threshold, the
exclusion for insured depository institution swaps in connection
with originating loans to customers or “IDI Swap Dealing
Exclusion,” and the hedging swap exclusion), consistent with
requirements of the Commodity Exchange Act (the “CEA” or “Act”)
and Congressional intent and within the six month window we are now
in.
—————————————————————————
5 Jason Webb Yackee and Susan Webb Yackee, Delay in Notice and
Comment Rulemaking: Evidence of Systemic Regulatory Breakdown?, in
Regulatory Breakdown: The Crisis of Confidence in U.S. Regulation
169 (Cary Coglianese ed., 2012).
—————————————————————————
Instead, the Commission, having waited too long to address these
critical issues jointly with the SEC, veered off course, and relies
too heavily on an alternative means to reach its destination: The de
minimis exception.6 Though this alternative path is within the
Commission’s authority, I believe that in utilizing the de minimis
exception to address longstanding concerns with the IDI and physical
hedging exclusions, the Commission stopped respecting the difference
between what is permissible and what is proper. As a consequence,
the Proposal morphed into a loophole for the Commission to explore
the extent to which it may unilaterally alter the swap dealer
definition. Such overreach not only may call into question the
integrity of this agency, but it could prolong the uncertainty
currently plaguing market participants as they (and the general
public) sort through the matters ancillary to the de minimis AGNA
threshold, which alone raise over 50 individual questions in
requests for comments.
—————————————————————————
6 See 17 CFR 1.3, Swap dealer, paragraph (4)(v), providing
that the Commission may by rule or regulation change the
requirements of the de minimis exception described in paragraphs
(4)(i) through (iv).
—————————————————————————
Commission Authority Under Regulation 1.3, Swap Dealer, Paragraph
(4)(v)
Under paragraph 4(v) of the swap dealer definition, the
Commission may change the requirements of the de minimis exception
by rule or regulation, and may do so independent of the SEC (“De
Minimis Exception Authority”).7 While this authority permits the
Commission to revisit the de minimis threshold, in the SD Definition
Adopting Release, the Commission stated that in determining whether
to revisit the threshold, it intended to focus on whether the de
minimis exception (1) results in a swap dealer definition that
encompasses too many entities whose activities are not significant
enough to warrant full Title VII regulation; (2) results in an undue
amount of dealing activity to fall outside of the regulatory
framework; or (3) leads to inappropriate reductions in counterparty
protections.8
—————————————————————————
7 Id.; see also SD Definition Adopting Release, 77 FR at
30634, n. 464.
8 SD Definition Adopting Release, 77 FR at 30634-5.
—————————————————————————
While the Commission’s authority with respect to the de minimis
exception is broad, the Commission cannot lose sight of its purpose,
as set forth in the CEA,9 and the underlying Congressional
intent.10 As well, this authority is not intended to provide a de
facto means to alter the swap dealer definition, by for example,
excepting from consideration swaps that are exchange-traded and/or
cleared when calculating the AGNA for purposes of the de minimis
threshold, or excepting from such consideration entire categories of
swaps.
—————————————————————————
9 See CEA section 1a(49)(D), 7 U.S.C. 1a(49)(D).
10 See SD Definition Adopting Release, 77 FR at 30629, n. 413
(“Congress incorporated a de minimis exception to the swap dealer
definition to ensure that smaller institutions that are responsibly
managing their commercial risk are not inadvertently pulled into
addition regulations.”) (quoting 156 Cong. Rec. S6192 (daily ed.
July 22, 2010) (letter from Senators Dodd and Lincoln to
Representatives Frank and Paterson).
—————————————————————————
Exclusions vs. Exceptions
IDI De Minimis Provision
Turning to the Proposal, and the critical issues, I am concerned
with the Commission’s use of its De Minimis Exception Authority to
address longstanding concerns that the IDI Swap Dealing Exclusion,
which was jointly adopted with the SEC as paragraph (5) to the swap
dealer definition (“SD Definition), is unnecessarily restrictive,
lacks clarity, and limits the ability of IDIs to serve customers in
connection with their lending activity–which is inconsistent with
the CEA.11 As explained in the Proposal, “rather than proposing
to revise the scope of activity that constitutes swap dealing,”
which would require a joint rulemaking with the SEC, the Commission
is proposing to amend paragraph (4) of the SD Definition, which
addresses only the de minimis exception. Accordingly, the Proposal
is to include both the IDI Swap Dealing Exclusion and a separate,
slightly broader IDI De Minimis Provision in the SD Definition.
—————————————————————————
11 See CEA 1a(49)(A), 7 U.S.C. 1a(49)(A) (providing that “in
no event shall an insured depository institution be considered to be
a swap dealer to the extent it offers to enter into a swap with a
customer in connection with originating a loan with that
customer”).
—————————————————————————
Conducting a side-by-side comparison of the current text of
paragraph (5) and proposed paragraph (4)(i)(C) of the SD Definition,
it is difficult to understand what hurdles may have prevented the
CFTC and SEC from engaging in a joint rulemaking to address these
relatively modest differences, which are generally well supported by
the record. It’s especially noteworthy given the close working
relationship between the two agencies and ongoing harmonization
efforts.12 The end result is that, if finalized, instead of simply
disregarding or “excluding” all swap activity that meets a single
set of criteria, IDIs will have to develop an additional analysis to
address swap activity that cannot be excluded from their
determinations for purposes of the SD Definition, but might
nevertheless be excepted from their AGNAs when calculating dealing
activity for the purpose of the de minimis threshold. It is
difficult to understand why the Commission would want to create
additional regulatory burdens in the context of this Proposal, and
the document provides no explanation other than that the Commission
has discretion under its De Minimis Exception Authority.
—————————————————————————
12 See, e.g. CFTC (@CFTC), @CFTC & @SEC_News teams are hard at
work on Title VII harmonization, Twitter (Feb. 27, 2018, 4:53 p.m.),
https://twitter.com/CFTC/status/968605066889515009; Chris Giancarlo
(@giancarloCFTC), Twitter (Feb. 27, 2018, 9:18 p.m.) https://twitter.com/giancarloCFTC/Status/968671749737992192.
—————————————————————————
Hedging De Minimis Provision
I am similarly concerned that the Commission’s use of its De
Minimis Exception Authority to provide greater regulatory certainty
with respect to swaps entered to hedge physical or financial
exposures (the “Hedging De Minimis Provision”) will–out of an
abundance of caution–be utilized by market participants
[[Page 27483]]
as a limitation on the universe of hedging swaps they consider to be
outside their swap dealing activity. In this instance, instead of
amending the Physical Hedging Exclusion,13 which is in the nature
of a safe harbor and provides that, subject to certain requirements,
swaps entered into by a person for hedging physical positions are
not considered for purposes of determining whether that person is a
swap dealer, the Commission is proposing an exception with respect
to a person’s AGNA for the de minimis threshold for swaps entered to
hedge financial or physical positions. While this exception will, if
finalized, exist in the Commission regulations alongside the
Physical Hedging Exclusion, it is not truly a safe-harbor and could
end up limiting the discretion inherent in the SD Definition.
—————————————————————————
13 17 CFR 1.3, Swap dealer, paragraph (6)(iii).
—————————————————————————
An exception, as proposed for the Hedging De Minimis Provision,
ostensibly creates a precise rule, leaving compliance staff or even
regulatory enforcement agencies with limited discretion when
evaluating difficult scenarios. As the Commission has stated, “In
general, entering into a swap for the purpose of hedging is
inconsistent with swap dealing.” 14 The Commission also has
emphasized that all relevant facts and circumstances about a swap
ought to be considered when determining whether a person is a swap
dealer.15 It seems that an exception limited solely to determining
whether a person has exceeded the AGNA de minimis threshold may
prove unduly limiting and inconsistent with the SD Definition.16
—————————————————————————
14 SD Definition Adopting Release, 77 FR at 30611.
15 See, e.g., CFTC Fact Sheet: Final Rules Regarding Further
Defining “Swap Dealer,” “Major Swap Participant and “Eligible
Contract Participant” (Apr. 18, 2012), available at https://www.cftc.gov/sites/default/files/idc/groups/public/@newsroom/documents/file/msp_ecp_factsheet_final.pdf.
16 See Frequently Asked Questions (FAQ)–[DSIO] Responds to
FAQs About Swap Entities (Oct. 12, 2012), available at https://www.cftc.gov/sites/default/files/idc/groups/public/@newsroom/documents/file/swapentities_faq_final.pdf.
—————————————————————————
Premature Delegation
The Proposal purports to create Commission authority to
determine the methodology to be used to calculate the notional
amount for any group, category, type, or class of swaps for purposes
of the AGNA de minimis threshold calculation and immediately
delegates that authority to the Director of the Division of Swap
Dealer and Intermediary Oversight (“DSIO”). The Commission has, to
my knowledge, not released public guidance on this issue since
2012.17 The Proposal cites two letters, one responding to the
Chairman’s recent Project KISS initiative, and the other responding
to the request for comments on the Swap Dealer De Minimis Exception
Preliminary Report,18 in support of the inherent need to empower
the Director of DSIO to independently–and without limitation–
provide clarity about the appropriate notional amount calculation
methodologies for purposes of the de minimis threshold in a timely
manner. As well, both the public guidance and requests cited in the
Proposal address or respond to the need for clarity regarding
commodity swaps, further calling into question the breadth of the
proposed delegation.
—————————————————————————
17 Id.
18 See n.152 of the Proposal, Letter from CEWG; Letter from
Natural Gas Supply Association (Jan. 15, 2016), available at https://comments.cftc.gov/PublicComments/ViewComment.aspx?id=60595&SearchText=.
—————————————————————————
For most swaps, calculation of notional amount is a matter of
standard industry practice. There is not any controversy as to how
notional amount is calculated. Giving the Director of DSIO broad
authority to determine how this calculation is made for all
categories of swaps is a remedy that is not commensurate to the
limited issue of how to determine the notional value of commodity
swaps. It also provides an opportunity for mischief. This provision
could subsume the entire de minimis threshold by giving the Director
of DSIO broad authority to determine what swaps count toward the
threshold–and perhaps more importantly, what swaps do not.
I’m concerned that the Commission is proposing to both establish
its authority and immediately delegate such authority without any
internal discussion, without any public deliberation, and within
this Proposal. The Commission has simply not articulated a sound
rationale for moving abruptly forward on this rule proposal without
fulsome consideration of its legal authority, potential risks, and
possible alternatives. Indeed, upon review of the Proposal, it came
to my attention that the Commission’s proposed delineation of
authority to determine the methodology for calculating notion
amounts in proposed paragraph (D)(vii)(A) of the SD Definition may
contradict its De Minimis Exception Authority.
The De Minimis Exception Authority provides that the Commission
may by rule or regulation change the requirements of the de minimis
exception. Given that the methodology for calculating notional
amounts for purposes of the AGNA for the de minimis threshold would
be a “requirement” of that exception, one could assume that the
authority to alter it resides with the Commission, and that the
Commission would need to engage in rulemaking to establish a
methodology. Of course, the De Minimis Exception Authority includes
a “may” versus a “shall,” and therefore the Commission has
discretion to engage in rulemaking, but I believe the “may”
applies more generally to suggest that the Commission may change the
requirements of the de minimis exception, and if it chooses to do
so, rulemaking is the vehicle. My point is that the Commission’s
precise authority and attendant parameters are unclear, and it would
therefore be more prudent to first, define the parameters of the
notional amount calculation issue, conduct additional research and
explore our options to address it, and then propose a more cogent
solution in a separate rulemaking so as not to further detract from
the more salient and critical issues before the Commission as part
of this Proposal.
Ancillary Matters
Having become comfortable with using its De Minimis Exception
Authority, the Commission appears to have determined to use this
Proposal to seek comment on “other potential considerations for the
de minimis threshold.” These considerations run the gamut from re-
considering the merits of using AGNA by itself by seeking comment on
adding alternative criteria in the form of a dealing counterparty or
dealing transaction count threshold to excepting from consideration
when calculating the AGNA for purposes of the de minimis threshold
(1) swaps that are exchange-traded and/or cleared and (2) swaps that
are categorized as non-deliverable forward transactions. These
“considerations” result in the combined inclusion of more than 50
individual requests for comment, detracting from any reasonable
market participant’s (or the public’s) ability to provide comments
on the more critical issues raised by this Proposal. Moreover, each
“potential consideration” raises individual concerns as to whether
the Commission is attempting to undermine the swap dealer definition
and circumvent Congressional intent.
Dealing Counterparty Count and Dealing Transaction Count Thresholds
The Commission is seeking comment on whether an entity should be
able to qualify for the de minimis exception if its level of swap
dealing activity is below any one of three criteria: (1) An AGNA
threshold; (2) a proposed dealing counterparty count threshold; or
(3) a proposed dealing transaction count threshold. In support of
its request for comment, already limited Commission staff resources
were utilized to construct an alternative to the proposal aimed at
suggesting that, despite its analysis in the Proposal in support of
setting the AGNA threshold for the de minimis exception at $8
billion, a $20 billion AGNA “backstop” threshold was appropriate.
This analysis and attendant request for comment suddenly appeared in
the Proposal after hours on May 31, 2018, providing my office less
than 17 hours to respond before DSIO intended to submit a final
voting copy to the Commission’s Office of the Secretariat.
Not only is the inclusion of this request for comment in this
Proposal overwhelmingly misplaced, but its inclusion at such a late
hour in the process undermines the inherent fairness of the
rulemaking process. Foremost, the Commission already rejected the
use of counterparty and transaction count thresholds as
determinative criteria for the de minimis threshold.19 Moreover,
the Commission is required to take the Swap Dealer De Minimis
Exception Final Staff Report (“Final Staff Report”) and comments
into account when weighing further action on the de minimis
exception at the end of the phase-in.20 According to the Final
Staff Report, “many of the commenters stated that the Commission
should not use the alternative factors of Counterparty and/or
Transaction Count as part of a de minimis exception because they are
misleading or
[[Page 27484]]
arbitrary indicators of dealing activity.” 21 The footnote cites
11 comment letters representing at least 12 entities including major
industry and trade organizations.22 In comparison, only two
commenters supported the use of the alternative factors.23
—————————————————————————
19 SD Definition Adopting Release, 77 FR at 30630.
20 Id. at 30634.
21 Swap Dealer De Minimis Exception Final Staff Report, supra
note 2 at 15.
22 Id. at note 45.
23 Id. at note 49.
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While I believe it may be appropriate for the Commission to
explore other factors or criteria in defining the scope of the de
minimis threshold, inclusion of even a request for comments on
dealing counterparty count and dealing transaction count thresholds
should be out of scope–even as a request for comment–for this
Proposal, which speaks directly to the end of the phase-in, and is
proceeding on a constrained time schedule such that even providing
Commissioners the courtesy of ample opportunity to evaluate the
merits of including this line of questioning was dispensed with.
Exchange-Traded and/or Cleared Swaps
Similar to the dealing counterparty and transaction count
threshold, the Commission has already rejected arguments that swaps
executed on an exchange should not be considered in determining if a
person is a swap dealer.24 However, beyond that, the breadth of
the request for comment suggests that a discussion regarding how the
utilization of exchange trading and/or clearing in the swap market
may address the underlying policy goals of swap dealer registration
is significant and raises issues that should be considered in the
context of a joint discussion with the SEC and prudential regulators
regarding the SD Definition. Even further, it may require
Congressional action to amend the statutory swap dealer definition,
which does not distinguish exchange traded and/or cleared swaps from
over-the-counter swaps, and in fact, may suggest that there is no
distinction given the focus on market making, which significantly
occurs on exchanges.25 In responding to this request for comment,
I hope that commenters address whether an exception for exchange-
traded and/or cleared swaps–even if limited to consideration when
calculating the AGNA for purposes of the de minimis threshold–would
be consistent with the statutory definition of “swap dealer” in
CEA section 1a(49) and Congressional intent.
—————————————————————————
24 See SD Definition Adopting Release, 77 FR at 30610.
25 See, e.g., Id. at 30608.
—————————————————————————
Non-Deliverable Forwards
Similarly, I believe that the issue of whether the Commission
should consider an exception for NDFs from consideration when
calculating the AGNA of swap dealing activity for purposes of the de
minimis threshold is inappropriate. Such an exception ignores that
the SD Definition is activities-based.26 The real issue that
should be addressed is whether NDFs are swaps and, if so, whether
they ought to be excluded from consideration in the SD
Definition.27 Instead of attempting to begin a conversation
through use of its De Minimis Exception Authority, the Commission
should use its relationships with the Secretary of the Treasury, the
SEC and prudential regulators and engage in a meaningful dialog
regarding the appropriate categorization and consideration of NDFs
outside of this Proposal.
—————————————————————————
26 Id.
27 As noted in the Proposal, the Secretary of the Treasury,
pursuant to authority in section 1a(47)(E) of the CEA, 7 U.S.C.
1a(47)(E), declined to exempt NDFs from the CEA’s definition of
“swap.”
—————————————————————————
Conclusion
I am disappointed with today’s Proposal and would have liked to
been able to support the portions that were well supported by the
data and analysis and could lead to a clear and legally sound
resolution of the de minimis threshold, providing much needed
regulatory certainty for a critical cohort of market participants. I
am hopeful that market participants have sufficient time to evaluate
and respond to the most critical aspects of this Proposal and do not
get overwhelmed or overly optimistic with regard to lines of
questioning that take us further afield from Congressional intent
and therefore are less likely to come to fruition. I understand that
messaging creates expectations; sometimes, we must focus on what’s
right and not what seems easy.
[FR Doc. 2018-12362 Filed 6-11-18; 8:45 am]
BILLING CODE 6351-01-P
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