FR Doc 2010-29831[Federal Register: December 3, 2010 (Volume 75, Number 232)]
[Proposed Rules]
[Page 75432-75439]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr03de10-14]
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Proposed Rules
Federal Register
________________________________________________________________________
This section of the FEDERAL REGISTER contains notices to the public of
the proposed issuance of rules and regulations. The purpose of these
notices is to give interested persons an opportunity to participate in
the rule making prior to the adoption of the final rules.
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[[Page 75432]]
COMMODITY FUTURES TRADING COMMISSION
17 CFR Parts 23 and 190
RIN 3038-AD28
Protection of Collateral of Counterparties to Uncleared Swaps;
Treatment of Securities in a Portfolio Margining Account in a Commodity
Broker Bankruptcy
AGENCY: Commodity Futures Trading Commission.
ACTION: Notice of proposed rulemaking.
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SUMMARY: The Commodity Futures Trading Commission (the ``Commission'')
hereby proposes rules to implement new statutory provisions enacted by
Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection
Act (the ``Dodd-Frank Act''). Specifically, the proposed rules
contained herein impose requirements on swap dealers (``SDs'') and
major swap participants (``MSPs'') with respect to the treatment of
collateral posted by their counterparties to margin, guarantee, or
secure uncleared swaps. Additionally, such proposed rules ensure that,
for purposes of subchapter IV of chapter 7 of the Bankruptcy Code:
Securities held in a portfolio margining account that is a futures
account constitute ``customer property''; and owners of such account
constitute ``customers''.
DATES: Submit comments on or before February 1, 2011.
ADDRESSES: You may submit comments, identified by RIN number 3038-AD28,
by any of the following methods:
Agency Web site, via its Comments Online process: http://
comments.cftc.gov. Follow the instructions for submitting comments
through the Web site.
Mail: David A. Stawick, Secretary of the Commission,
Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st
Street, NW., Washington, DC 20581.
Hand Delivery/Courier: Same as mail above.
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
Please submit your comments by only one method.
All comments must be submitted in English, or if not, accompanied
by an English translation. Comments will be posted as received to
http://www.cftc.gov. You should submit only information that you wish
to make available publicly. If you wish the Commission to consider
information that you believe is exempt from disclosure under the
Freedom of Information Act, a petition for confidential treatment of
the exempt information may be submitted according to the procedures
established in CFTC Regulation 145.9, 17 CFR 145.9.
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 http://www.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
the Freedom of Information Act.
FOR FURTHER INFORMATION CONTACT: Robert B. Wasserman, Associate
Director, Division of Clearing and Intermediary Oversight (DCIO), at
202-418-5092 or [email protected]; Martin White, Assistant General
Counsel, at 202-418-5129 or [email protected]; Nancy Liao Schnabel,
Special Counsel, DCIO, at 202-418-5344 or [email protected]; in each
case, also at the Commodity Futures Trading Commission, Three Lafayette
Centre, 1155 21st Street, NW., Washington, DC 20581.
SUPPLEMENTARY INFORMATION:
I. Background
On July 21, 2010, President Obama signed the Dodd-Frank Act.\1\
Title VII of the Dodd-Frank Act \2\ amended the Commodity Exchange Act
(``CEA'') \3\ to establish a comprehensive new regulatory framework for
swaps and certain security-based swaps. The legislation was enacted to
reduce risk, increase transparency, and promote market integrity within
the financial system by, among other things: (i) Providing for the
registration and comprehensive regulation of SDs and MSPs;\4\ (ii)
imposing mandatory clearing and trade execution requirements on
clearable swap contracts; (iii) creating robust recordkeeping and real-
time reporting regimes; and (iv) enhancing the rulemaking and
enforcement authorities of the Commission with respect to, among
others, all registered entities and intermediaries subject to the
oversight of the Commission.
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\1\ See Dodd-Frank Act, Public Law. 111-203, 124 Stat. 1376
(2010). The text of the Dodd-Frank Act may be accessed at http://
www.cftc.gov./LawRegulation/OTCDERIVATIVES/index.htm.
\2\ Pursuant to Section 701 of the Dodd-Frank Act, Title VII may
be cited as the ``Wall Street Transparency and Accountability Act of
2010.''
\3\ 7 U.S.C. 1 et seq.
\4\ In this release, the terms ``swap dealer'' and ``major swap
participant'' shall have the meanings set forth in Section 721(a) of
the Dodd-Frank Act, which added Sections 1a(49) and (33) of the CEA.
However, Section 721(c) of the Dodd-Frank Act directs the Commission
to promulgate rules to further define, among other terms, ``swap
dealer'' and ``major swap participant.'' The Commission anticipates
that such rulemaking will be completed by the statutory deadline of
July 15, 2011. See, e.g., Http://Www.Cftc.Gov/Lawregulation/
Otcderivatives/OTC_2_Definitions.Html.
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Section 724(c) of the Dodd-Frank Act amends the CEA to add, as
section 4s(l) thereof, provisions concerning the rights of
counterparties to SDs and MSPs with respect to the treatment of margin
for uncleared swaps. As discussed further in Part II of this preamble,
these changes are implemented in proposed new Subpart L to Part 23 of
Title 17, Sec. Sec. 23.600 through 23.609.
Section 713(c) of the Dodd-Frank Act amends the CEA to add, as
section 20(c) thereof, a provision that requires the Commission to
exercise its authority to clarify the legal status, in the event of a
commodity broker \5\ bankruptcy, of (i)
[[Page 75433]]
securities in a portfolio margining account held as a futures account,
and (ii) an owner of such account. As discussed further in Part III of
this preamble, these changes are implemented in proposed amendments to
Sec. Sec. 190.01(k) and 190.08(a)(1)(i).
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\5\ Commission regulation (``Regulation'') 190.01(f) defines
``commodity broker'' as ``any person who is registered or required
to register as a futures commission merchant under the Commodity
Exchange Act including a person registered as such under Parts 32
and 33 of this chapter, and a `commodity options dealer,' `foreign
futures commission merchant,' `clearing organization,' and `leverage
transaction merchant' with respect to which there is a `customer' as
those terms are defined in this section, but excluding a person
registered as a futures commission merchant under section 4f(a)(2)
of the Commodity Exchange Act.'' Pursuant to the Bankruptcy Code, 11
U.S.C. 101 et seq., if a commodity broker experiences bankruptcy, it
must be liquidated in accordance with chapter 7, subchapter IV
(``Subchapter IV''). In the event of such liquidation, Subchapter IV
provides certain protections for collateral that customers deposit
with the commodity broker. Pursuant to its authority under Section
20 of the CEA, the Commission has interpreted Subchapter IV in
promulgating Regulation Part 190.
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Part IV below describes proposed technical amendments to Regulation
part 190 that are not required by the Dodd-Frank Act, but rather
address the changes to 11 U.S.C. 764(b) implemented by Public Law 111-
16, the Statutory Time-Periods Technical Amendments Act of 2009.
Specifically, such act changed the time period (i.e., from five (5)
business days to seven (7) calendar days) during which a transfer of
``commodity contracts'' \6\ and ``customer property'' \7\ becomes not
avoidable by the trustee in a commodity broker bankruptcy.
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\6\ Section 761(4) of the Bankruptcy Code, 11 U.S.C. 761(4),
defines ``commodity contract.''
\7\ Regulation 190.01(n) defines ``customer property'' as ``the
property subject to pro rata distribution in a commodity broker
bankruptcy which is entitled to the priority set forth in Section
766(h) of the Bankruptcy Code and includes certain cash, securities,
and other property as set forth in Sec. 190.08(a).''
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The Commission requests comment on all aspects of this release.
II. Segregation of Margin for SD and MSP Counterparties With Respect to
Uncleared Swaps
New Section 4s(l) of the CEA, enacted by Section 724(c) of the
Dodd-Frank Act, sets forth certain requirements concerning the rights
of counterparties of SDs and MSPs with respect to the segregation of
collateral supplied for margining, guaranteeing, or securing uncleared
swaps.\8\ Such requirements \9\ include:
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\8\ It should be noted that this rulemaking addresses
segregation of margin, and does not address what amount of margin,
if any, a counterparty is required to post.
\9\ Such requirements do not apply to ``variation margin
payments.'' Section 724(c) of the Dodd-Frank Act does not set forth
a definition for such term. The Commission has proposed such a
definition below.
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An SD or MSP must notify each counterparty at the
beginning of a swap transaction that the counterparty has the right to
require segregation of the funds or other property that it supplies to
margin, guarantee, or secure its obligations; and
At the request of the counterparty, the SD or MSP must
segregate such funds or other property with an independent third party.
To implement the statute, the Commission proposes new subpart L to
part 23 of title 17.
A. Regulation 23.600: Definitions
The Commission proposes to define ``segregate'' according to its
commonly-understood meaning: To keep two or more items in separate
accounts, and to avoid combining them in the same transfer between two
accounts.
The Commission has never before defined ``initial margin'' (for
which a counterparty has the right to segregation pursuant to CEA
Section 4s(l)) or ``variation margin'' (for which a counterparty does
not have such a right) in a regulation. The distinction between
``initial margin'' and ``variation margin'' established in proposed
Sec. 23.600 is temporally-based:
1. Initial Margin
``Initial margin'' is defined as an amount calculated based on
anticipated exposure to future changes in the value of a swap.
2. Variation Margin
``Variation margin'' is defined as an amount calculated to cover
the current exposure arising from changes in the market value of the
position since the trade was executed or the previous time the position
was marked to market.
The Commission may also consider, in a future rulemaking, placing
an expanded version of these definitions (to include initial and
variation margin with respect to futures and options on futures) in
Part 1, and incorporating those definitions by reference here.
The Commission seeks comment on the appropriateness of these
definitions in this context, and on the potential use of such expanded
definitions.
B. Regulation 23.601: Notification of Right to Segregation
1. Required Notification
Proposed Regulation 23.601(a) incorporates the statutory
requirement of Section 4s(l)(1)(A) of the CEA that a SD or MSP must
notify each counterparty with respect to an uncleared swap that the
counterparty has the right to require that initial margin posted by
that counterparty be segregated in accordance with these rules. The
Commission interprets the language of Section 4s(l)(1)(A) of the CEA
that the counterparty must be ``notified * * * [of a] right to require
segregation'' to mean that this right can be grasped or renounced, at
the election of the counterparty.\10\ Congress's description as a
``right'' of what would otherwise be a simple matter for commercial
negotiation suggests that this decision is an important one, with a
certain degree of favor given to an affirmative election.
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\10\ See also CEA Section 4s(l)(4) (referring to cases where the
counterparty ``does not choose to require segregation'' of margin).
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The Commission has not proposed any particular disclosure
requirements with respect to this notification. Should the SD or MSP be
required to disclose the cost of segregation, whether the cost of fees
to be paid to the custodian (if the SD or MSP is aware of the amount of
such fees), or differences in the terms of the swap that the SD or MSP
is willing to offer to the counterparty (e.g., differences in the fixed
interest rate for an interest rate swap) if the counterparty elects or
renounces the right to segregation?
2. Limitation of Right--Variation Margin
Proposed Regulation 23.601(b) incorporates the limitation in
Section 4s(l)(2)(B)(i) of the CEA that the right to segregation does
not apply to variation margin.
3. Counterparty Notification
The Commission regards the inclusion of the term ``right to require
segregation'' as requiring that this decision is taken at an
appropriate level of the counterparty organization. Proposed Regulation
23.601(c) requires that such notification be made to certain senior
decisionmakers, in descending order of preference. Notification is made
to the Chief Risk Officer, or the Chief Executive Officer, or to the
highest level decisionmaker for the counterparty. The Commission seeks
comment as to whether this list of decision-makers is appropriate, in
particular, whether it is appropriate for ``Special Entities'' as such
term is defined in Section 4s(h)(1)(C) of the CEA (e.g. a
municipality).
4. Required Confirmation
Proposed Sec. 23.601(d) requires that the SD or MSP must obtain
from the counterparty confirmation of receipt of such notification by
the specified decisionmaker, and the election to require segregation or
not, before the terms of the swap are confirmed. The SD or MSP must
maintain records of such confirmation and election as business records
in accordance with Regulation 1.31.
5. Limitation of Responsibility To Notify
The requirement in Section 4s(l)(1)(A) of the CEA that notification
be made ``at
[[Page 75434]]
the beginning of a swap transaction'' could be read to require such
notification at the beginning of each swap transaction. Such repetitive
notification could, however, be redundant. On the other hand, the
importance of the decision discussed above suggests that some periodic
reconsideration might be appropriate. Proposed Sec. 23.601(e) seeks to
balance these considerations by providing that notification of a
particular counterparty by a particular SD or MSP need only be made
once in any calendar year.
6. Power To Change Election With Regard to Segregation
Proposed Sec. 23.601(f) makes clear that a counterparty's election
to require segregation of initial margin, or not to require such
segregation, may be changed at the discretion of the counterparty upon
delivery of written notice, and shall be applicable with respect to
swaps entered into between the parties after such delivery.
The Commission seeks comments on the issues referred to in this
section I(B).
C. Regulation 23.602: Requirements for Segregated Collateral
1. Independent Custodian and Separate Account
Pursuant to Section 4s(l)(3) of the CEA, proposed Regulation
23.602(a)(1) requires initial margin segregated in accordance with an
election under proposed Regulation 23.601 to be segregated with a
custodian that is independent of both the SD or MSP and the
counterparty. Proposed Sec. 23.602(a)(2) requires the initial margin
to be held in an account designated as a segregated account for and on
behalf of the counterparty. While, as noted above, the right to
segregation does not apply to variation margin, the regulation provides
the swap dealer or major swap participant and the counterparty may
agree that variation margin may also be held in such an account.
Proposed Sec. 23.602(a)(1) does not require that the initial
margin be held in an account that is independent of any affiliate of
the SD or MSP or the counterparty, in order to permit parties to engage
in swaps transactions with affiliates of their usual depositories.
Comment is requested as to whether this approach is appropriate.
Moreover, the proposed regulation does not specify which party (the
counterparty, or the SD or MSP) has the right to designate a custodian,
thus, by implication, leaving the choice to the agreement of the
parties. Is this approach appropriate? Should either party be entitled
to choose a custodian? If so, what restrictions, if any, should be
placed on that choice?
2. Requirements for Custody Agreement
Proposed Sec. 23.602(b) is intended to provide a balance between
the minimum interests of (i) the counterparty posting the initial
margin, (ii) the SD or MSP for whom the initial margin is posted, and
(iii) the custodian, while avoiding the necessity for time-consuming
and expensive interpleader proceedings.\11\ The custody agreement
applicable to such initial margin must be in writing, and must include
the custodian as a party. To ensure that the SD or MSP receives the
initial margin promptly in case it is entitled to do so, and that the
initial margin is returned to the counterparty in case it is entitled
to such return, the agreement must provide that turnover of control
shall be made promptly upon presentation of a statement in writing,
signed by an authorized person under penalty of perjury, that one party
is entitled to such turnover pursuant to an agreement between the
parties. The requirement of a signature under oath or under penalty of
perjury pursuant to 28 U.S.C. 1746 is intended to ensure that such
statement is not lightly made.\12\ Otherwise, withdrawal of collateral
may only be made pursuant to the agreement of both the counterparty and
the SD or MSP, with the non-withdrawing party also receiving immediate
notice of such withdrawal.\13\ The Commission requests comment on
whether the foregoing approach is appropriate, including on whether a
statement under penalty of perjury should be required, and on whether
such a statement, if required, should be required to be based on
personal knowledge.
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\11\ If the SD or MSP and the counterparty were to make
competing claims to the collateral, and if the custodian did not
have a means under the agreement among the parties to decide between
such claims without risking legal liability, the custodian would
likely choose to interplead the collateral.
\12\ See 18 U.S.C. 1621 (Perjury Generally).
\13\ The importance of taking steps to ensure that unauthorized
withdrawals are not made is enhanced by the findings of the
Commission's Division of Clearing and Intermediary Oversight in
Financial and Segregation Interpretation 10-1, 20 FR 24768, 24770
(May 11, 2005) (``Findings by both Commission audit staff and the
SROs of actual releases of customer funds [from third-party
custodial accounts], without the required knowledge or approval of
the FCMs, further demonstrate that the risks associated with third-
party custodial accounts are real and material, not merely
theoretical.'').
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D. Regulation 23.603: Investment of Segregated Collateral
1. Limitations on Investments
Section 4s(l)(2)(B)(ii)(I) of the CEA refers to ``commercial
arrangements regarding the investment of segregated funds or other
property that may only be invested in such investments as the
Commission may permit by rule or regulation.'' Proposed Sec. 22.603(a)
accordingly provides that segregated initial margin may only be
invested consistent with the standards for investment of customer funds
that the Commission applies to exchange-traded futures, Regulation
Sec. 1.25. That regulation has been designed to permit an appropriate
degree of flexibility in making investments with segregated property,
while safeguarding such property for the parties who have posted it,
and decreasing the credit, market, and liquidity risk exposures of the
parties who are relying on that margin.\14\
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\14\ See generally Investment of Customer Funds and Funds Held
in an Account for Foreign Futures and Foreign Options Transactions,
75 FR 67642, 67652-53 (Nov. 3, 2010) (Release proposing amendments
to Commission Regulation 1.25).
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This regulation governs only investments of initial margin posted
by the counterparty, and does not govern what collateral is eligible to
be posted as such margin.
2. Commercial Arrangements Regarding Investments and Allocations
As required by new Section 4s(l)(2)(B)(ii) of the CEA, proposed
Regulation 22.603(b) provides that the SD or MSP and the counterparty
may enter into any commercial arrangement, in writing, regarding the
investment of segregated initial margin and the related allocation of
gains and losses resulting from such investment.
E. Regulation 23.604: Requirements for Non-Segregated Collateral
Section 4s(l)(4) of the CEA mandates that, if the counterparty does
not choose to require segregation, the SD or MSP shall report to the
counterparty, on a quarterly basis, ``that the back office procedures
of the swap dealer or major swap participant relating to margin and
collateral requirements are in compliance with the agreement of the
counterparties.'' This provision is implemented in proposed Sec.
22.604(a), which requires that such reports be made no later than the
fifteenth (15th) business day of each calendar quarter for the
preceding calendar quarter. Proposed Regulation 22.604(a) makes the
Chief Compliance Officer of the SD or MSP required by Section 4s(k) of
the CEA responsible for such report.
[[Page 75435]]
Proposed Sec. 22.604(b) provides that this obligation shall apply no
earlier than the 90th calendar day after the first swap is transacted
between the counterparties.
F. Effective Date
The Commission requests comment on the appropriate timing of
effectiveness for the final rules for Part 23. Specifically, is six
months after the promulgation of final rules sufficient? If not, please
specify a recommended time period, and explain in detail the reasons
why a shorter period will not be sufficient.
III. Portfolio Margining Accounts
Section 713(c) of the Dodd-Frank Act added Section 20(c) of the
CEA, which specifies that the Commission ``shall exercise its authority
to ensure that securities held in a portfolio margining account carried
as a futures account are customer property and the owners of those
accounts are customers for the purposes of'' Subchapter IV. To
implement this provision, the Commission proposes changes to Sec. Sec.
190.01(k) and 190.08(a)(1)(i).
A. Regulation 190.01(k): Definition of Customer
The ``customer'' portion of this provision is implemented in the
proposed amendment to Sec. 190.01(k), which adds to the definition of
``customer'' the sentence ``To the extent not otherwise included,
customer shall include the owner of a portfolio margining account
carried as a futures account.''
B. Regulation 190.08(a)(1)(i)(F): Definition of Customer Property
The ``customer property'' portion of this provision is implemented
in proposed Sec. 190.08(a)(1)(i)(F), which adds to the definition of
``customer property'' the sentence ``To the extent not otherwise
included, securities held in a portfolio margining account carried as a
futures account.''
C. Effective Date of Proposal
The Commission believes that these rule amendments clarify existing
law, and thus may be made effective immediately upon promulgation of a
final rule. Comment is solicited with respect to these conclusions.
IV. Statutory Time-Periods Technical Amendments Act of 2009
The purpose of this portion of the rulemaking is to implement
Public Law 111-16, the Statutory Time-Periods Technical Amendments Act
of 2009, which (in relevant part) changed the time period in 11 U.S.C.
764(b), discussed below, from five (business) days to seven (calendar)
days. As noted above, these changes are not related to the Dodd-Frank
Act.
Certain sections of the Bankruptcy Code \15\ provide the trustee of
a debtor the power to avoid (i.e., retract) certain transfers of
property from the debtor, whether shortly before or after the
bankruptcy filing, that would otherwise allow a creditor to obtain more
than that creditor would in a bankruptcy distribution. Section 764(b)
of the Bankruptcy Code provides that a trustee may not avoid a transfer
of ``commodity contracts'' \16\ or ``customer property'' \17\ that is
authorized by the Commission, whether before or after the transfer,
before the specified time period after the bankruptcy ``order for
relief.''
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\15\ See 11 U.S.C. 544, 545, 547, 548, 724(a).
\16\ See supra note 6.
\17\ See supra note 7.
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The change in the statutory deadline should be reflected in the
relevant Commission regulations. Moreover, under current business and
legal practice, emergency matters (such as transfers during a
bankruptcy) may be accomplished outside of business hours. Accordingly,
the words ``the close of business on the fourth business day after the
order for relief'' are replaced by the words ``11:59 P.M. on the
seventh day after the order for relief'' in proposed Sec. 190.02(e)(1)
(trustee to use best efforts to effect transfer before this time),
Sec. 190.02(f)(1) (deadline for transfer of dealer option contracts),
Sec. 190.06(g)(2)(i)(A) (prohibition of avoidance of transfers of
which the Commission is notified prior to the transfer pursuant to
Sec. 190.02(a)(2) and does not disapprove), and Sec. 190.06(g)(2)(ii)
(prohibition of avoidance of transfers at the direction of the
Commission).
These amendments would only affect ``commodity brokers ''\18\ in
bankruptcy, and are meant to make Part 190 consistent with amendments
to the Bankruptcy Code. Accordingly, the Commission proposes to make
the foregoing amendments to part 190 effective immediately upon
promulgation of a final rule.
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\18\ See supra note 5.
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V. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (``RFA'') was adopted to address the
concerns that government regulations may have a significant and/or
disproportionate effect on small businesses. To mitigate this risk, the
RFA requires agencies to conduct an initial and final regulatory
flexibility analysis for each rule of general applicability for which
the agency issues a general notice of proposed rulemaking.\19\ These
analyses must describe the impact of the proposed rule on small
entities, including a statement of the objectives and the legal bases
for the rulemaking; an estimate of the number of small entities to be
affected; identification of federal rules that may duplicate, overlap,
or conflict with the proposed rules; and a description of any
significant alternatives to the proposed rule that would minimize any
significant impacts on small entities.\20\
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\19\ 5 U.S.C. 601 et seq.
\20\ 5 U.S.C. 603, 604.
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The proposed Regulations will impose regulatory obligations on SDs
and MSPs. The Commission has already established certain definitions of
``small entities'' to be used in evaluating the impact of its rules on
such small entities in accordance with the RFA.\21\ SDs and MSPs are
new categories of registrant. Accordingly, the Commission has not
previously decided whether such persons are, in fact, small entities
for purposes of the RFA.
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\21\ 47 FR 18618 (Apr. 30, 1982).
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The Commission previously has determined that FCMs should not be
considered to be small entities for purposes of the RFA. The
Commission's determination was based in part upon their obligation to
meet the minimum financial requirements established by the Commission
to enhance the protection of customers' segregated funds and protect
the financial condition of FCMs generally.\22\ Like FCMs, SDs will be
subject to minimum capital and margin requirements, and are expected to
comprise the largest global financial firms. The Commission is required
to exempt from designation entities that engage in a de minimis level
of swaps dealing in connection with transactions with or on behalf of
customers. Accordingly, for purposes of the RFA, the Commission is
hereby determining that SDs not be considered ``small entities'' for
essentially the same reasons that FCMs have previously been determined
not to be small entities.
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\22\ Id. at 18619.
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The Commission has also previously determined that large traders
are not ``small entities'' for RFA purposes.\23\ The Commission
considered the size of a trader's position to be the only appropriate
test for purposes of large trader reporting.\24\ MSPs maintain
substantial positions in swaps, creating substantial counterparty
exposure that
[[Page 75436]]
could have serious adverse effects on the financial stability of the
United States banking system or financial markets. Accordingly, for
purposes of the RFA, the Commission is hereby determining that MSPs not
be considered ``small entities'' for essentially the same reasons that
large traders have previously been determined not to be small entities.
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\23\ Id. at 18620.
\24\ Id.
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Accordingly, the Chairman, on behalf of the Commission, hereby
certifies pursuant to 5 U.S.C. 605(b) that the proposed rules will not
have a significant economic impact on a substantial number of small
entities.
B. Paperwork Reduction Act
Provisions of proposed new Regulation Part 23 include new
information disclosure and recordkeeping requirements that constitute
the collection of information within the meaning of the Paperwork
Reduction Act of 1995 (``PRA'').\25\ The Commission therefore is
submitting this proposed collection of information to the Office of
Management and Budget (``OMB'') for review in accordance with 44 U.S.C.
3507(d) and 5 CFR 1320.11. Under the PRA, an agency may not conduct or
sponsor, and a person is not required to respond to, a collection of
information unless it displays a currently valid control number.\26\
The title for this collection of information is ``Disclosure and
Retention of Certain Information Relating to Swaps Customer
Collateral,'' OMB Control Number 3038-NEW. The collection of
information will be mandatory. The information in question will be held
by private entities and, to the extent it involves consumer financial
information, may be protected under Title V of the Gramm-Leach-Bliley
Act as amended by the Dodd-Frank Act.\27\ An agency may not conduct or
sponsor, and a person is not required to respond to, a collection of
information unless it displays a currently valid OMB control number.
This collection of information has not yet been assigned an OMB control
number.
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\25\ 44 U.S.C. 3501 et seq.
\26\ Id.
\27\ See generally 75 FR 66014, Notice of Proposed Rulemaking,
Privacy of Consumer Financial Information; Conforming Amendments
Under Dodd-Frank Act (October 27, 2010).
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1. Information Provided by Reporting Entities
Proposed Sec. 23.601 requires SDs and/or MSPs to notify each
counterparty to an uncleared swap transaction that the counterparty may
require that the counterparty's initial margin be held in a segregated
account. The notification must be provided at the beginning of each
swap transaction. However, notification need only be given once a year
to any particular counterparty. The SD or MSP must provide the
notification to the chief risk officer of the counterparty, if such an
officer exists; and otherwise to another appropriate official of the
counterparty as specified in the regulation. The SD or MSP must obtain
a receipt of the notification and maintain it as a business record. The
purpose of proposed Sec. 23.601 is to implement Section 4s(l)(1)(A) of
the CEA which requires SDs and MSPs in uncleared swaps transactions to
notify counterparties that they have the right to require segregation
of their initial margin deposits.
Proposed Sec. 23.604 requires the chief compliance officer of each
SD or MSP to report on a quarterly basis to each counterparty that does
not choose to require segregation of initial margin on whether or not
the back-office procedures of the SD or MSP relating to margin and
collateral requirements were, at any point during the previous quarter,
not in compliance with the agreement of the counterparties. The purpose
of this requirement is to implement Section 4s(1)(4) of the CEA, which
requires these reports.
The disclosure requirement of proposed Sec. 23.601 is expected to
apply to about 300 entities.\28\ Each such entity will be required to
make the required disclosure once each year to each of its
counterparties in uncleared swaps transactions. It is expected that
each disclosure would require approximately 0.3 hours of staff time by
staff with a salary level of approximately $20 per hour. Because of the
absence of experience under the new requirements of the Dodd-Frank Act,
it is uncertain what average number of uncleared swaps counterparties
will be dealt with annually by swap dealers and major swap
participants. Assuming that each of 14 major swap dealers or major swap
participants makes the required disclosure to 5,000-10,000
counterparties per year, and each of the 286 remaining swap dealers or
major swap participants makes the required disclosure to 200
counterparties per year, there would be a total of approximately
130,000-200,000 disclosures per year, and thus the estimated total
annual burden would be approximately 40,000-60,000 hours and $800,000-
$1,200,000.\29\
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\28\ This estimate is based on the assumption that there will be
about 250 SDs and 50 MSPs.
\29\ The estimate of the number of counterparties receiving
disclosure from each swap dealer or major swap participant takes
into consideration the possibility that a single counterparty may
deal with more than one swap dealer or major swap participant in a
year. Thus, the total number of required disclosures may exceed the
total number of counterparties making use of uncleared swaps subject
to the disclosure requirement.
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The disclosure requirement of proposed Regulation 23.604 will apply
to the same 300 entities as the requirement of proposed Regulation
23.601. Each such entity will be required to make the required
disclosure four times each year to each of its uncleared swaps
counterparties that does not choose to require segregation of capital.
Because there is as yet no experience with the effect of the disclosure
of the right to segregation of collateral and other requirements of the
Dodd-Frank Act, it is uncertain how many uncleared swaps counterparties
will decline such segregation. Assuming that half of all uncleared
swaps counterparties do not choose segregation of collateral, proposed
Sec. 23.604 would require a total of approximately 260,000-400,000
disclosures annually. It is expected that each disclosure would, on
average, require approximately 0.3 hours of staff time by staff with a
salary level of about $30 per hour.\30\ The estimated total annual
burden would be approximately 80,000-120,000 hours and $2,400,000-
$3,500,000.
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\30\ The time and level of personnel required for the disclosure
required by proposed Sec. 23.604 in particular transactions will
depend, to some extent, on the specifics of the agreement of the
parties with regard to the back-office procedures of the SD relating
to margin and collateral requirements, and the extent to which such
agreements with regard to procedures are standardized at a
particular SD. The average burden figure thus reflects a varying
level of burden in particular transactions.
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2. Information Collection Comments
The Commission invites the public and other federal agencies to
comment on any aspect of the reporting and recordkeeping burdens
discussed above. Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission
solicits comments in order to: (i) Evaluate whether the proposed
collection of information is necessary for the proper performance of
the functions of the Commission, including whether the information will
have practical utility; (ii) evaluate the accuracy of the Commission's
estimate of the burden of the proposed collection of information; (iii)
determine whether there are ways to enhance the quality, utility, and
clarity of the information to be collected; and (iv) minimize the
burden of the collection of information on those who are to respond,
including through the use of automated collection techniques or other
forms of information technology.
[[Page 75437]]
Comments may be submitted directly to the OMB Office of Information
and Regulatory Affairs, by fax at (202) 395-6566 or by e-mail at
[email protected]. Please provide the Commission with a copy
of submitted comments so that all comments can be summarized and
addressed in the final rule preamble. Refer to the ADDRESSES section of
this notice of proposed rulemaking for comment submission instructions
to the Commission. A copy of the supporting statements for the
collections of information discussed above may be obtained by visiting
RegInfo.gov. OMB is required to make a decision concerning the
collection of information between 30 and 60 days after publication of
this release. Consequently, a comment to OMB is most assured of being
fully effective if received by OMB (and the Commission) within 30 days
after publication of this notice of proposed rulemaking.
C. Cost-Benefit Analysis
Section 15(a) of the CEA \31\ requires the Commission to consider
the costs and benefits of its actions before issuing a rulemaking under
the CEA. By its terms, Section 15(a) of the CEA does not require the
Commission to quantify the costs and benefits of a rule or to determine
whether the benefits of the rulemaking outweigh its costs; rather, it
requires that the Commission ``consider'' the costs and benefits of its
actions. Section 15(a) of the CEA 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 rule is necessary or appropriate to protect the public
interest or to effectuate any of the provisions or accomplish any of
the purposes of the CEA.
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\31\ 7 U.S.C. 19(a).
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1. Cost-Benefit Analysis of Proposed Part 23
a. Summary of Proposed Requirements
Proposed Part 23 of the Commission's regulations implements the
requirement of newly-enacted Section 4s(l) of the CEA that
counterparties to uncleared swaps transactions with SDs and MSPs be
given the right to require to require segregation of their initial
margin in an account separate from those of the SD or MSP. Proposed
Part 23 also implements the statutory requirement that SDs and MSPs
notify their counterparties of this right. Additionally, amendments are
being made to Part 190 of the Commission's regulations that would
clarify existing law, particularly that (i) ``customer property,'' for
purposes of Regulation Part 190, includes securities held in a
portfolio margining account carried as a futures account, and (ii)
``customers,'' for purposes of Regulation part 190, includes owners of
such a portfolio margining account. Technical amendments also are being
proposed for part 190. These amendments would change the deadline for
certain actions in bankruptcy proceedings to conform with recent
amendments to the Bankruptcy Code, as well as current business and
legal practice.
b. Costs
The costs directly imposed by proposed part 23 and the amendments
to Part 190 relate to the protection of market participants, the risk
management practices of market participants, and the efficiency of
bankruptcy proceedings. If proposed part 23 and the proposed amendments
to Part 190 are not implemented, it will be less likely that a market
participant will be informed of their option to require segregation of
their initial margin from the assets of the SD or MSP opposite which
the market participant will be transacting swaps. The segregation
option is intended to preserve the assets of the market participant in
the event of an insolvency of the SD or MSP.
c. Benefits
The benefits of proposed part 23 relate to the protection of market
participants and the financial integrity of the futures and swap
markets. The proposed regulatons would ensure that segregated accounts
for initial margin are available in all uncleared swaps transactions
involving SDs or MSPs and that counterparties are informed of their
availability. This could result in the increased use of segregated
accounts with resulting reduced risk of loss of collateral by
counterparties in the event of the insolvency of an SD or MSP and
reduced chance of counterparty assets being intentionally or
inadvertently misused. In addition proposed Regulation Part 23 can be
expected to increase the likelihood that any lack of use of segregated
collateral accounts by uncleared swaps counterparties is the result of
genuine choices by counterparties and reduce the likelihood that it is
the result of inertia, market power, or other market imperfections.
The definitions and technical amendments being proposed for Part
190 similarly are intended to relate to the protection of market
participants, as well as to efficiency associated with bankruptcy
proceedings. The definitional changes are expected to increase legal
certainty in some circumstances. The technical amendments are intended
to increase the efficiency with which certain acts in bankruptcy
proceedings of commodity brokers are carried out by insuring
consistency between the Regulations, the Bankruptcy Code, and current
bankruptcy practice.
3. Public Comment
The Commission invites public comment on its cost-benefit
considerations. Commenters are also are invited to submit any data or
other information that they may have quantifying or qualifying the
costs and benefits of the proposal with their comment letters.
List of Subjects
17 CFR Part 23
Consumer protection, Reporting and recordkeeping requirements,
Swaps.
17 CFR Part 190
Bankruptcy, Brokers, Commodity futures, Reporting and recordkeeping
requirements, Swaps.
For the reasons stated in this release, the Commission hereby
proposes to amend 17 CFR part 23 as previously proposed in FR Doc.
2010-29024, published on November 23, 2010 (75 FR 71379) and part 190
as follows:
PART 23--SWAP DEALERS AND MAJOR SWAP PARTICIPANTS
1. The authority citation for Part 23 continues to read as follows:
Authority: 7 U.S.C. 1a, 2, 6, 6a, 6b, 6c, 6p, 6s, 9, 9a, 13b,
13c, 16a, 18, 19, 21 as amended by Pub. L. 111-203, 124 Stat. 1376
(Jul. 21, 2010).
2. Add subpart L to read as follows:
Subpart L--Segregation of Assets Held as Collateral in Uncleared Swap
Transactions
Sec.
23.600 Definitions.
23.601 Notification of right to segregation.
23.602 Requirements for segregated margin.
23.603 Investment of segregated initial margin.
23.604 Requirements for non-segregated margin.
[[Page 75438]]
Subpart L--Segregation of Assets Held as Collateral in Uncleared
Swap Transactions
Sec. 23.600 Definitions.
``Initial Margin'' means money, securities, or property posted by a
party to a swap as performance bond to cover potential future exposures
arising from changes in the market value of the position.
``Margin'' means both Initial Margin and Variation Margin.
``Segregate.'' To segregate two or more items is to keep them in
separate accounts, and to avoid combining them in the same transfer
between two accounts.
``Variation Margin'' means a payment made by a party to a swap to
cover the current exposure arising from changes in the market value of
the position since the trade was executed or the previous time the
position was marked to market.
Sec. 23.601 Notification of right to segregation.
(a) At the beginning of each swap transaction that is not submitted
for clearing, a swap dealer or major swap participant shall notify each
counterparty to such transaction that the counterparty has the right to
require that any Initial Margin the counterparty provides in connection
with such transaction be segregated in accordance with Sec. Sec.
23.602 and 23.603 of this part.
(b) The right referred to in paragraph (a) of this section does not
extend to Variation Margin.
(c) The notification referred to in paragraph (a) of this section
shall be made to the Chief Risk Officer, or, if there is no such
Officer, the Chief Executive Officer, or if none, the highest-level
decisionmaker for the counterparty.
(d) Prior to confirming the terms of any such swap, the swap dealer
or major swap participant shall obtain from the counterparty
confirmation of receipt by the person specified in paragraph (c) of
this section of the notification specified in paragraph (a) of this
section, and an election to require such segregation or not. The swap
dealer or major swap participant shall maintain such confirmation and
such election as business records pursuant to Sec. 1.31 of this
chapter.
(e) Notification pursuant to paragraph (a) of this section to a
particular counterparty by a particular swap dealer or major swap
participant need only be made once in any calendar year.
(f) A counterparty's election to require segregation of initial
margin, or not to require such segregation, may be changed at the
discretion of the counterparty upon written notice delivered to the
swap dealer or major swap participant, which changed election shall be
applicable to all swaps entered into between the parties after such
delivery.
Sec. 23.602 Requirements for segregated margin.
(a) Initial margin that is segregated pursuant to an election under
Sec. 23.601 of this part must be:
(1) Segregated with a custodian that is independent of both the
swap dealer or major swap participant and the counterparty, and
(2) Held in an account segregated, and designated as such, for and
on behalf of the counterparty. Such an account may, if the swap dealer
or major swap participant and the counterparty agree, also hold
Variation Margin.
(b) Any agreement for the segregation of Margin pursuant to this
section shall be in writing, shall include the custodian as a party,
and shall provide that:
(1) Turnover of control of such margin, either to the counterparty
or to the swap dealer or major swap participant, shall be made promptly
upon presentation to the custodian of a statement in writing, made
under oath or under penalty of perjury as specified in 28 U.S.C. 1746,
by an authorized representative of either such party, stating that such
party is entitled to such control pursuant to an agreement between such
parties. The other party shall be immediately notified of such
turnover, and
(2) Any withdrawal of such margin, other than pursuant to paragraph
(b)(1) of this section, shall only be made pursuant to the agreement of
both the counterparty and the swap dealer or major swap participant,
and notification of such withdrawal shall be given immediately to the
non-withdrawing party.
Sec. 23.603 Investment of segregated initial margin.
(a) Initial Margin that is segregated pursuant to an election under
Sec. 23.601 may only be invested consistent with Sec. 1.25 of this
chapter.
(b) Subject to paragraph (a) of this section, the swap dealer or
major swap participant and the counterparty may enter into any
commercial arrangement, in writing, regarding the investment of such
Initial Margin, and the related allocation of gains and losses
resulting from such investment.
Sec. 23.604 Requirements for non-segregated margin.
(a) The chief compliance officer of each swap dealer or major swap
participant shall report to each counterparty that does not choose to
require segregation of Initial Margin pursuant to Sec. 23.601(a), no
later than the fifteenth business day of each calendar quarter, on
whether or not the back office procedures of the swap dealer or major
swap participant relating to margin and collateral requirements were,
at any point during the previous calendar quarter, not in compliance
with the agreement of the counterparties.
(b) The obligation specified in paragraph (a) of this section shall
apply with respect to each counterparty no earlier than the 90th
calendar day after the date on which the first swap is transacted
between the counterparty and the swap dealer or major swap participant.
PART 190--BANKRUPTCY
3. The authority citation for Part 190 continues to read as
follows:
Authority: 7 U.S.C. 1a, 2, 4a, 6c, 6d, 6g, 7a, 12, 19, and 24,
and 11 U.S.C. 362, 546, 548, 556, and 761-766, unless otherwise
noted.
4. Amend Sec. 190.01(k) to read as follows:
Sec. 190.01 Definitions.
* * * * *
(k) Customer shall have the same meaning as that set forth in
section 761(9) of the Bankruptcy Code. To the extent not otherwise
included, customer shall include the owner of a portfolio margining
account carried as a futures account.
* * * * *
Sec. 190.02 [Amended]
5. In Sec. 190.02, amend paragraphs (e)(1) and (f)(1)(i) by
removing the words ``the close of business on the fourth business day
after the order for relief'' and adding, in their place, the words
``11:59 P.M. on the seventh day after the order for relief.''
Sec. 190.06 [Amended]
6. In Sec. 190.06, amend paragraph (g)(2)(i)(A) by removing the
words ``the close of business on the fourth business day after the
entry of the order for relief'' and adding, in their place, the words
``11:59 P.M. on the seventh day after the order for relief''; and amend
paragraph (g)(2)(ii) by removing the words ``the close of business on
the fourth business day after the order for relief'' and adding, in
their place, the words ``11:59 P.M. on the seventh day after the order
for relief''.
7. Amend Sec. 190.08 by redesignating paragraph (a)(1)(i)(F) as
[[Page 75439]]
Sec. 190.08(a)(1)(i)(G), and by adding a new paragraph (a)(1)(i)(F):
Sec. 190.08 Allocation of property and allowance of claims.
* * * * *
(a) * * *
(1) * * *
(i) * * *
(F) To the extent not otherwise included, securities held in a
portfolio margining account carried as a futures account;
* * * * *
Issued in Washington, DC, on November 19, 2010, by the
Commission.
David A. Stawick,
Secretary of the Commission.
Statement of Chairman Gary Gensler
Protection of Collateral of Counterparties to Uncleared Swaps;
Treatment of Securities in a Portfolio Margining Account in a Commodity
Broker Bankruptcy
I support the proposed rulemaking concerning protection of
collateral of counterparties to uncleared swaps. The proposal
includes important protections for end-users when entering into
bilateral or customized swaps. The proposal follows the
Congressional direction that end-users must have a choice to have
any initial margin that they post with a swap dealer to be kept in a
segregated account and with a third party custodian. The proposed
rules would protect market participants while promoting the
financial integrity of the marketplace. The proposal also includes
necessary housekeeping details with regard to the Bankruptcy code.
[FR Doc. 2010-29831 Filed 12-2-10; 8:45 am]
BILLING CODE 6351-01-P
Last Updated: December 3, 2010