FR Doc E9-20024[Federal Register: August 20, 2009 (Volume 74, Number 160)]
[Notices]
[Page 42052-42055]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr20au09-16]
=======================================================================
-----------------------------------------------------------------------
COMMODITY FUTURES TRADING COMMISSION
Notice of Intent, Pursuant to the Authority in Section 2(h)(7) of
the Commodity Exchange Act and Commission Rule 36.3(c)(3), To Undertake
a Determination Whether the Carbon Financial Instrument Contract
Offered for Trading on the Chicago Climate Exchange, Inc., Performs a
Significant Price Discovery Function
AGENCY: Commodity Futures Trading Commission.
ACTION: Notice of action and request for comment.
-----------------------------------------------------------------------
SUMMARY: The Commodity Futures Trading Commission (``CFTC'' or
``Commission'') is undertaking a review to determine whether the Carbon
Financial Instrument contract offered for trading on the Chicago
Climate Exchange, Inc. (CCX), an exempt commercial market (``ECM'')
under Sections 2(h)(3)-(5) of the Commodity Exchange Act (``CEA'' or
the ``Act''), performs a significant price discovery function.
Authority for this action is found in section 2(h)(7) of the CEA and
Commission rule 36.3(c) promulgated thereunder. In connection with this
evaluation, the Commission invites comment from interested parties.
DATES: Comments must be received on or before September 4, 2009.
[[Page 42053]]
ADDRESSES: Comments may be submitted by any of the following methods:
Follow the instructions for submitting comments. Federal
eRulemaking Portal: http://www.regulations.gov.
E-mail: [email protected]. Include CCX Carbon Financial
Instrument Contract in the subject line of the message.
Fax: (202) 418-5521.
Mail: Send to David A. Stawick, Secretary, Commodity
Futures Trading Commission, Three Lafayette Centre, 1155 21st Street,
NW., Washington, DC 20581
Courier: Same as mail above.
All comments received will be posted without change to http://
www.CFTC.gov/.
FOR FURTHER INFORMATION CONTACT: Gregory K. Price, Industry Economist,
Division of Market Oversight, Commodity Futures Trading Commission,
Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.
Telephone: (202) 418-5515. E-mail: [email protected]; or Susan Nathan,
Senior Special Counsel, Division of Market Oversight, same address.
Telephone: (202) 418-5133. E-mail: [email protected].
SUPPLEMENTARY INFORMATION:
I. Introduction
On March 16, 2009, the CFTC promulgated final rules implementing
provisions of the CFTC Reauthorization Act of 2008 (``Reauthorization
Act'') \1\ which subjects ECMs with significant price discovery
contracts (``SPDCs'') to self-regulatory and reporting requirements, as
well as certain Commission oversight authorities, with respect to those
contracts. Among other things, these rules and rule amendments revise
the information-submission requirements applicable to ECMs, establish
procedures and standards by which the Commission will determine whether
an ECM contract performs a significant price discovery function, and
provide guidance with respect to compliance with nine statutory core
principles applicable to ECMs with SPDCs. These rules became effective
on April 22, 2009.
---------------------------------------------------------------------------
\1\ 74 FR 12178 (Mar. 23, 2009); these rules became effective on
April 22, 2009.
---------------------------------------------------------------------------
In determining whether an ECM's contract is or is not a SPDC, the
Commission will consider the contract's material liquidity, price
linkage to other contracts, potential for arbitrage with other
contracts traded on designated contract markets or derivatives
transaction execution facilities, use of the ECM contract's prices to
execute or settle other transactions, and other factors.
In order to facilitate the Commission's identification of possible
SPDCs, Commission rule 36.3(c)(2) requires that an ECM operating in
reliance on section 2(h)(3) promptly notify the Commission and provide
supporting information or data concerning any contract: (i) that
averaged five trades per day or more over the most recent calendar
quarter; and (ii) (A) for which the ECM sells price information
regarding the contract to market participants or industry publications;
or (B) whose daily closing or settlement prices on 95 percent or more
of the days in the most recent quarter were within 2.5 percent of the
contemporaneously determined closing, settlement, or other daily price
of another agreement.
II. Determination of a SPDC
A. The SPDC Determination Process
Commission rule 36.3(c)(3) establishes the procedures by which the
Commission makes and announces its determination on whether a specific
ECM contract serves a significant price discovery function. Under those
procedures, the Commission will publish a notice in the Federal
Register that it intends to undertake a determination as to whether the
specified agreement, contract, or transaction performs a significant
price discovery function and to receive written data, views, and
arguments relevant to its determination from the ECM and other
interested persons.\2\ After prompt consideration of all relevant
information, the Commission will, within a reasonable period of time
after the close of the comment period, issue an order explaining its
determination. Following the issuance of an order by the Commission
that the ECM executes or trades an agreement, contract, or transaction
that performs a significant price discovery function, the ECM must
demonstrate, with respect to that agreement, contract, or transaction,
compliance with the core principles under section 2(h)(7)(C) of the CEA
\3\ and the applicable provisions of Part 36. If the Commission's order
represents the first time it has determined that one of the ECM's
contracts performs a significant price discovery function, the ECM must
submit a written demonstration of its compliance with the core
principles within 90 calendar days of the date of the Commission's
order. For each subsequent determination by the Commission that the ECM
has an additional SPDC, the ECM must submit a written demonstration of
its compliance with the core principles within 30 calendar days of the
Commission's order.
---------------------------------------------------------------------------
\2\ The Commission may commence this process on its own
initiative or on the basis of information provided to it by an ECM
pursuant to the notification provisions of Commission rule
36.3(c)(2).
\3\ 7 U.S.C. 2(h)(7)(C).
---------------------------------------------------------------------------
B. CCX Carbon Financial Instrument Contract
CCX identifies its CFI contract as a cash contract that requires
the physical delivery of CCX carbon dioxide (CO2) emission
allowances called CFIs.\4\ The size of the CCX CFI contract is 1,000
metric tons (MT) of CO2-equivalent emissions,\5\ which are
equal to 10 CFIs (each CFI specifies 100 MT CO2-equivalent
emissions). All trades in the subject contract results in the physical
delivery of CFIs.
---------------------------------------------------------------------------
\4\ The instruments listed by an ECM in reliance on the
exemption in section 2(h)(3) of the Act are determined by the ECM
when it files notice with the Commission, pursuant to section
2(h)(5), of its intention to rely on the exemption. Section 2(h)(7)
authorizes the Commission to determine whether an ECM ``agreement,
contract or transaction'' performs a significant price discovery
function, but does not require that the Commission also determine
whether the instrument is otherwise subject to the Commission's
jurisdiction (i.e., a futures or commodity option contract).
Instead, the descriptive language of section 2(h)(7) mirrors the
``[conducted] in reliance on the exemption'' language of section
2(h)(5) and refers merely to ``agreement, contract or transaction.''
Thus, the statutory language directs the Commission, in determining
whether an ECM instrument is a SPDC, to evaluate any instrument
listed by an ECM in reliance on the section 2(h)(3) exemption under
the SPDC process set forth in the Part 36 rules.
\5\ Greenhouse gases (GHGs) include CO2, methane
(CH4), nitrous oxide (N2O), hydrofluorocarbons
(HFCs), perfluorocarbons (PFCs), and sulfur hexafluoride
(SF6). The negative impact that each non-CO2
GHGs has on the environment can be expressed as a multiple of
CO2's environmental effect.
---------------------------------------------------------------------------
The CCX carbon reduction program is voluntary where certain
entities choose to reduce their GHG emissions. In general, the electric
utilities and manufacturers combined comprise the largest share of the
program participants. Once an entity decides to reduce its GHG
emissions, it signs a legally-binding contract with the CCX.
Participants are given allowances by the CCX to cover emissions level
targets, and additional credits can be created by investing in offset
projects. If an entity's plant cannot meet its reduction requirements
through new investments and/or technological improvements, additional
allowances can be purchased from other program participants.
The program specifies that carbon emission reductions be completed
over two phases. Phase I (applicable between
[[Page 42054]]
2003 and 2006) required a commitment to reducing each participant's
carbon emissions by one percent per year below its own baseline level
(calculated as the average of the firm's carbon emissions between 1998
and 2001). Phase II (which runs from 2007 through 2010) requires
participants to commit to an emissions reduction schedule that results
in a six-percent decline in CO2 output by 2010.
Participants' baseline estimates as well as their emissions levels and
progress toward meeting the reduction requirements are audited by the
Financial Industry Regulatory Authority (FINRA).
CFIs are distributed for multiple program years at the time of
entry into the program through the end of the current phase. Each CFI
is dated with a particular calendar year (vintage), with the vintage
indicating the compliance year for which it is redeemable.
Alternatively, entities can save their excess CFIs for use in future
compliance periods. The CCX also auctions a certain number of current-
and future-year CFIs. Allowances are recorded electronically and title
transfers between entities are effected within the CCX's electronic
registry. Each year in April, the CCX compares each participant's
reported emissions from the previous calendar year to the number of
allowances held that are dated with the compliance year, or with
earlier years. Firms surrender the appropriate number of allowances
that covers their emissions, and the redeemed CFIs are deducted from
the firms' accounts. Unused allowances that are not needed for
compliance in the current year are rolled forward and are included in
the allowance supply for the following year. Alternatively, plants can
sell excess allowances to other market participants.
As noted above, the CCX's GHG reduction program allows for the
creation of CFIs through offset projects. In this regard, the CCX
issues CFIs to entities that own, implement, or aggregate eligible
projects on the basis of sequestration, destruction, or displacement of
GHG emissions. The offset project categories for which the CCX issues
CFIs include agricultural, coal mine and landfill methane, agricultural
and rangeland soil carbon, forestry, renewable energy, energy
efficiency and fuel switching, and clean development mechanism
projects.
Based upon a required quarterly notification filed on July 1, 2009
(mandatory under Rule 36.3(c)(2)), the CCX reported that, with respect
to its CFI contract, an average of 15 separate trades per day occurred
in the second quarter of 2009. During the same period, the CFI had an
average daily trading volume of 1,235 contracts. In the first quarter
of 2009, market participants traded the CFI contract on average 29
times per day with an average total daily trading volume of 2,661
contracts. Because the CFI contract requires immediate delivery and
payment on the following day, open interest figures are not applicable.
It appears that the CCX CFI contract may satisfy the material
liquidity and material price reference factors for SPDC determination.
With respect to material liquidity, daily trading in the CFI contract
exceeds an average of ten trades per day. Moreover, the average daily
trading volume in the CFI is greater than 1,000 contracts per day. In
regard to material price reference, the CFI market is solely a CCX-
created entity. In this regard, the CCX designed all of the parameters
of this carbon emission reduction program, as well as established the
rules for membership in the ECM, allowance trading, and the creation of
offsets. The only existing market in which CFIs can be bought and sold
on a spot basis is the CCX cash market. Thus, traders look to the CCX
as a source of price information and price discovery for the CFIs.
Moreover, the Chicago Climate Futures Exchange, a subsidiary of the
CCX, trades a futures contract which specifies the delivery of CFIs.
The instruments listed by an ECM in reliance on the exemption in
section 2(h)(3) of the CEA are determined by the ECM when it files
notice with the Commission, pursuant to section 2(h)(5), of its
intention to rely on the exemption. Section 2(h)(7) authorizes the
Commission to determine whether an ECM's ``agreement, contract or
transaction'' performs a significant price discovery function, but does
not require that the Commission also determine whether the instrument
is otherwise subject to the Commission's jurisdiction (i.e., a futures
or commodity option contract). Instead, the descriptive language of
section 2(h)(7) mirrors the ``[conducted] in reliance on the [2(h)(5)]
exemption'' language of section 2(h)(5) and refers merely to an
``agreement, contract or transaction.'' The statutory language
indicates that any instrument listed by an ECM in reliance on the
exemption in section 2(h)(3) of the CEA--including a cash contract that
generally is not subject to the Commission's jurisdiction--has the
potential to be or become a SPDC. Accordingly, contracts identified to
the Commission as listed in reliance on section 2(h)(3) should be
evaluated under the SPDC process set forth in the Part 36 rules.
III. Request for Comment
In evaluating whether an ECM's agreement, contract, or transaction
performs a significant price discovery function, section 2(h)(7) of the
CEA directs the Commission to consider, as appropriate, four specific
criteria: price linkage, arbitrage, material price reference, and
material liquidity. As it explained in Appendix A to the Part 36 rules,
the Commission, in making SPDC determinations, will apply and weigh
each factor, as appropriate, to the specific contract and circumstances
under consideration.
As part of its evaluation, the Commission will consider the written
data, views, and arguments from any ECM that lists the potential SPDC
and from any other interested parties. Accordingly, the Commission
requests comment on whether the CCX CFI contract performs a significant
price discovery function. Commenters' attention is directed
particularly to Appendix A of the Commission's Part 36 rules for a
detailed discussion of the factors relevant to a SPDC determination.
The Commission notes that comments which analyze the contract in terms
of these factors will be especially helpful to the determination
process. In order to determine the relevance of comments received, the
Commission requests that commenters explain in what capacity are they
knowledgeable about the CFI contract.
IV. Related Matters
A. Paperwork Reduction Act
The Paperwork Reduction Act of 1995 (``PRA'') \6\ 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. Certain provisions of final
Commission rule 36.3 impose new regulatory and reporting requirements
on ECMs, resulting in information collection requirements within the
meaning of the PRA; OMB previously has approved and assigned OMB
control number 3038-0060 to this collection of information.
---------------------------------------------------------------------------
\6\ 44 U.S.C. 3507(d).
---------------------------------------------------------------------------
B. Cost-Benefit Analysis
Section 15(a) of the CEA \7\ requires the Commission to consider
the costs and benefits of its actions before issuing an order under the
Act. By its terms, section 15(a) does not require the Commission to
quantify the costs and benefits of an order or to determine whether the
benefits of the order outweigh its costs; rather, it requires
[[Page 42055]]
that the Commission ``consider'' the costs and benefits of its action.
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. The Commission may in its discretion give
greater weight to any one of the five enumerated areas and could in its
discretion determine that, notwithstanding its costs, a particular
order is necessary or appropriate to protect the public interest or to
effectuate any of the provisions or accomplish any of the purposes of
the Act. The Commission has considered the costs and benefits of this
Order in light of the specific provisions of section 15(a) and has
concluded that this Order, which strengthens Federal oversight of the
ECM and helps to prevent market manipulation, is necessary and
appropriate to accomplish the purposes of section 2(h)(7) which, among
other provisions, directs the Commission to evaluate all contracts
listed on ECMs to determine whether they serve a significant price
discovery function.
---------------------------------------------------------------------------
\7\ 7 U.S.C. 19(a).
---------------------------------------------------------------------------
When a futures contract begins to serve a significant price
discovery function, that contract, and the ECM on which it is traded,
warrants increased oversight to deter and prevent price manipulation
and other disruptions to market integrity, both on the ECM itself and
in any related futures contracts trading on designated contract markets
(``DCMs''). An Order finding that a particular contract is a SPDC
triggers this increased oversight and imposes obligations and
responsibilities on the ECM which are calculated to accomplish this
goal. This increased oversight in turn increases transparency and helps
to ensure fair competition among ECMs and DCMs trading similar products
and competing for the same business. Moreover, the ECM on which the
SPDC is traded must assume, with respect to that contract, all the
responsibilities and obligations of a registered entity under the CEA
and Commission regulations. Additionally, the ECM must comply with core
principles established by section 2(h)(7) of the Act, including the
obligation to establish position limits and/or accountability standards
for the SPDC. These increased ECM responsibilities, along with the
CFTC's enhanced regulatory authority, subject the ECM's risk management
practices to the Commission's supervision and oversight and generally
enhance the financial integrity of the markets.
Issued in Washington, DC on August 13, 2009 by the Commission.
David A. Stawick,
Secretary of the Commission.
[FR Doc. E9-20024 Filed 8-19-09; 8:45 am]
Last Updated: August 20, 2009