2016-23983
Federal Register, Volume 81 Issue 199 (Friday, October 14, 2016)
[Federal Register Volume 81, Number 199 (Friday, October 14, 2016)]
[Rules and Regulations]
[Pages 71202-71241]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2016-23983]
[[Page 71201]]
Vol. 81
Friday,
No. 199
October 14, 2016
Part II
Commodity Futures Trading Commission
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17 CFR Part 50
Clearing Requirement Determination Under Section 2(h) of the Commodity
Exchange Act for Interest Rate Swaps; Final Rule
Federal Register / Vol. 81 , No. 199 / Friday, October 14, 2016 /
Rules and Regulations
[[Page 71202]]
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COMMODITY FUTURES TRADING COMMISSION
17 CFR Part 50
RIN 3038-AE20
Clearing Requirement Determination Under Section 2(h) of the
Commodity Exchange Act for Interest Rate Swaps
AGENCY: Commodity Futures Trading Commission.
ACTION: Final rule.
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SUMMARY: The Commodity Futures Trading Commission (Commission or CFTC)
is adopting an amendment to the Commission's regulations to expand the
existing clearing requirement for interest rate swaps pursuant to the
pertinent section of the Commodity Exchange Act (CEA). The amended
regulation requires that interest rate swaps denominated in certain
currencies and having certain termination dates, as described herein,
be submitted for clearing to a derivatives clearing organization (DCO)
that is registered under the CEA (registered DCO) or a DCO that has
been exempted from registration under the CEA (exempt DCO).
DATES: The amended rule is effective December 13, 2016. Specific
compliance dates are discussed in the Supplementary Information.
FOR FURTHER INFORMATION CONTACT: Sarah E. Josephson, Deputy Director,
Division of Clearing and Risk (DCR), at 202-418-5684 or
[email protected]; Peter A. Kals, Special Counsel, DCR, at 202-418-
5466 or [email protected]; Melissa A. D'Arcy, Special Counsel, DCR, at
202-418-5086 or [email protected]; Meghan A. Tente, Special Counsel, DCR,
at 202-418-5785 or [email protected]; Michael A. Penick, Economist,
Office of the Chief Economist (OCE), at 202-418-5279 or
[email protected]; or Lihong McPhail, Research Economist, OCE, at 202-
418-5722 or [email protected], in each case at the Commodity Futures
Trading Commission, Three Lafayette Centre, 1155 21st Street NW.,
Washington, DC 20581.
SUPPLEMENTARY INFORMATION:
Table of Contents
I. Background
A. Clearing Requirement Proposal
B. Regulatory Background
C. Clearing Requirements in Other Jurisdictions
D. Submissions From DCOs
E. Commission Processes for Review and Surveillance of DCOs
II. Comments on the Notice of Proposed Rulemaking
A. Overview of Comments Received
B. Determination Analysis
C. Generally Applicable Comments
III. Expanded and Amended Regulation 50.4(a)
IV. Implementation Schedule
A. No Compliance Date Phase-In by Type of Market Participant
B. Compliance Date Tied to a Non-U.S. Jurisdiction Clearing
Requirement
C. Clarifications to the Implementation Schedule
D. Scope of Entities Subject to the Implementation Schedule
E. Projected Compliance Dates
V. Cost Benefit Considerations
A. Statutory and Regulatory Background
B. Overview of Swap Clearing
C. Consideration of the Costs and Benefits of the Commission's
Action
D. Costs and Benefits of the Commission's Action as Compared to
Alternatives
E. Section 15(a) Factors
VI. Related Matters
A. Regulatory Flexibility Act
B. Paperwork Reduction Act
I. Background
A. Clearing Requirement Proposal
On June 16, 2016, the Commission published a notice of proposed
rulemaking (NPRM) to establish an expanded interest rate swap clearing
requirement under section 2(h)(1)(A) of the CEA and Commission
regulation 50.4(a).\1\ The Commission proposed requiring clearing of
certain interest rate swaps offered for clearing at Chicago Mercantile
Exchange, Inc. (CME), Eurex Clearing AG (Eurex), LCH.Clearnet Ltd.
(LCH), and/or Singapore Exchange Derivatives Clearing Ltd. (SGX), each
a Commission-registered DCO.\2\ The interest rate swaps proposed in the
NPRM were: Fixed-to-floating interest rate swaps denominated in
Australian dollar (AUD), Canadian dollar (CAD), Hong Kong dollar (HKD),
Mexican peso (MXN), Norwegian krone (NOK), Polish zloty (PLN),
Singapore dollar (SGD), Swedish krona (SEK), and Swiss franc (CHF)
(collectively, the nine additional currencies); basis swaps denominated
in AUD; forward rate agreements (FRAs) denominated in AUD, NOK, PLN,
and SEK; overnight index swaps (OIS) denominated in AUD and CAD; and
OIS having termination dates of up to three years that are denominated
in U.S. dollar (USD), euro (EUR), or sterling (GBP).\3\
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\1\ Clearing Requirement Determination Under Section 2(h) of the
CEA for Interest Rate Swaps, 81 FR 39506 (June 16, 2016).
\2\ Two DCOs that the Commission has exempted from registration,
ASX Clear (Futures) Pty Ltd. (Australia) (ASX) and OTC Clearing Hong
Kong Ltd., clear some of the swaps covered by this determination
(AUD- and HKD-denominated interest rate swaps, respectively).
Pursuant to Commission orders, these two DCOs are permitted to clear
for U.S. proprietary accounts but not for U.S. customers. However,
as discussed further below, should either of these two exempt DCOs
decide that they wish to offer clearing to U.S. customers, they
would be eligible to apply for registration as full DCOs. Because
these DCOs have not submitted filings under Commission regulation
39.5(b), this final rule addresses only those registered DCOs that
have submitted swaps for consideration under that regulation.
\3\ See Table 1 for information regarding which registered DCOs
clear which interest rate swaps. Each DCO submitted information
about the interest rate swaps subject to this rulemaking to the
Commission pursuant to regulation 39.5(b), which is discussed
further below.
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For the reasons discussed below, this final rulemaking expands the
existing interest rate swap clearing requirement by requiring the
clearing of all of the swaps covered by the NPRM, except for AUD-
denominated FRAs.
B. Regulatory Background
The Commission's first clearing requirement determination issued in
2012 applied to four classes of interest rate swaps and two classes of
credit default swaps.\4\ The Commission is adopting this clearing
requirement determination to require the clearing of certain,
additional interest rate swaps pursuant to section 2(h) of the CEA.
Under section 2(h)(1)(A) of the CEA, it is unlawful for any person to
engage in a swap unless that person submits such swap for clearing to a
DCO that is registered under the CEA or a DCO that is exempt from
registration under the CEA if the swap is required to be cleared. The
Commission may initiate a clearing requirement determination pursuant
to a swap submission from a registered DCO.\5\ Section 2(h)(2)(B)(i) of
[[Page 71203]]
the CEA requires a DCO to submit to the Commission each swap, or any
group, category, type, or class of swaps that it plans to accept for
clearing and provide notice to its members of the submission.
Commission regulation 39.5(b) implements the procedural elements of
section 2(h)(2)(B)-(C) by establishing the specific process for the
submission of swaps by a DCO to the Commission for a clearing
requirement determination.\6\
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\4\ Clearing Requirement Determination Under Section 2(h) of the
CEA, 77 FR 74284 (Dec. 13, 2012) [hereinafter the First Clearing
Requirement Determination]. The four classes of interest rate swaps
defined under Commission regulation 50.4(a) include fixed-to-
floating, basis, FRA, and OIS. In 2012, the Commission required
that, for the fixed-to-floating, basis, and FRA classes, the top
four currencies as measured by total notional amount be subject to
required clearing. Those top four currencies were EUR, USD, GBP, and
Japanese yen (JPY). All four currencies were specified in the fixed-
to-floating, basis, and FRA classes under regulation 50.4(a). For
OIS swaps, all the currencies except JPY were specified under the
rule.
\5\ Section 2(h)(2) of the CEA provides the Commission with
authority to issue a determination that a swap is required to be
cleared pursuant to two separate review processes. Section
2(h)(2)(A) of the CEA provides for a Commission-initiated review
process whereby the Commission, on an ongoing basis, must review
swaps (or a group, category, type or class of swaps) to make a
determination as to whether a swap (or group, category, type or
class of swaps) should be required to be cleared. The other process
provided under section 2(h)(2)(B) of the CEA entails the
Commission's review of swaps that are submitted by DCOs.
Specifically, section 2(h)(2)(B)(i) of the CEA requires that each
DCO submit to the Commission each swap (or group, category, type or
class of swaps) that it plans to accept for clearing. The swaps
subject to this rulemaking were submitted by DCOs pursuant to
section 2(h)(2)(B)(i) of the CEA and Commission regulation 39.5(b).
\6\ Section 2(h)(2)(B)-(C) of the CEA describes the process by
which the Commission is required to review swap submissions from
DCOs to determine whether the swaps should be subject to the
clearing requirement. On June 23, 2016, the Commission published on
its Web site for public comment 34 submissions from DCOs submitted
pursuant to section 2(h)(2)(B) of the CEA and CFTC regulation
39.5(b) over the past few years. The public comment period closed on
July 25, 2016, and five letters were submitted by that date. See
CFTC Press Release, CFTC Requests Public Comment on Swap Clearing
Requirement Submissions (June 23, 2016), available at: http://www.cftc.gov/PressRoom/PressReleases/pr7396-16. Any future proposals
for a new clearing requirement determination related to the swaps
covered by those 34 submissions would be subject to a separate
notice and comment rulemaking process. Market participants may offer
additional comments or feedback on market developments related to
those 34 submissions by contacting any of the DCR staff named above.
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Accordingly, the Commission is issuing this final rulemaking to
adopt an amendment to Sec. 50.4(a) such that the following products
are subject to the clearing requirement as set forth in regulation
50.4: (1) Fixed-to-floating swaps denominated in the nine additional
currencies; (2) basis swaps denominated in AUD; (3) FRAs denominated in
NOK, PLN, and SEK; (4) OIS denominated in AUD and CAD; and (5) OIS
denominated in USD, EUR, and GBP that have termination dates of up to
three years.
C. Clearing Requirements in Other Jurisdictions
The following is an updated summary of actions taken by other
jurisdictions towards implementing clearing mandates for interest rate
swaps. The Commission believes that it is important to harmonize its
swap clearing requirement with clearing mandates promulgated in other
jurisdictions. For example, if a non-U.S. jurisdiction issued a
clearing requirement and a swap dealer (SD) located in the U.S. were
not subject to that non-U.S. clearing requirement, then a swap market
participant located in the non-U.S. jurisdiction might be able to avoid
the non-U.S. clearing requirement by entering into a swap with the SD
located in the U.S.
As the Commission reviewed the regulation 39.5(b) submissions from
DCOs, it considered whether those products offered for clearing at DCOs
were subject, or were likely to be subject, to a clearing requirement
in another jurisdiction. For those products that were the subject of a
clearing requirement rule or proposal outside of the U.S., the
Commission reviewed the specifications of the products and the
processes used by non-U.S. regulators to impose a clearing mandate. In
addition, the Commission reviewed data produced and made available to
the public in connection with any rule proposals or final rules
implementing a clearing requirement in non-U.S. jurisdictions. Finally,
the Commission considered comments submitted in response to clearing
mandate rule proposals in non-U.S. jurisdictions and any subsequent
changes that regulators made to final rules implementing a clearing
mandate. In this manner, the Commission was informed by its review of
non-U.S. jurisdictions' clearing mandates and considered those mandates
in preparing this determination.
Consequently, the scope of the swaps included in this final
rulemaking reflects the Commission's desire to harmonize with our
counterparts abroad and is informed by the work of those regulators, as
described below. In addition, the product specifications of the swaps
included in this clearing requirement determination are intended to be
consistent with those referenced in clearing mandates published by the
Commission's counterparts abroad.\7\
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\7\ In the future, it may be appropriate to propose a clearing
requirement under the CEA covering swaps that are not yet the
subject of a proposed or final clearing mandate issued by a non-U.S.
jurisdiction. See generally comment letter from the International
Swaps and Derivatives Association, Inc. (ISDA), at 5, (discussing
the goal of harmonizing clearing mandates, commending the
Commission's independent analysis in the NPRM, and noting that ``the
CFTC does not have any control over the clearing mandates of its
counterparts in non-U.S. jurisdictions and therefore should continue
to conduct full and robust independent analysis prior to
implementing any clearing mandates.'').
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i. Australia
The Australian Securities and Investments Commission (ASIC) has
published regulations that require certain Australian and non-
Australian entities \8\ to clear AUD-, USD-, GBP-, EUR-, and JPY-
denominated fixed-to-floating interest rate swaps, basis swaps, and
FRAs, as well as AUD-, USD-, GBP-, and EUR-denominated OIS. The
regulations' swap classes are co-extensive with those described in
existing Commission regulation 50.4(a), except for the addition of AUD-
denominated swaps. The first compliance date for an Australian market
participant to comply with the Australian clearing mandate for AUD-
denominated fixed-to-floating interest rate swaps and basis swaps was
April 4, 2016.\9\ The first compliance date for the Australian clearing
mandate for AUD-denominated OIS will be October 3, 2016 and for AUD-
denominated FRAs April 2, 2018.\10\
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\8\ As defined under ASIC's final clearing rules, clearing
entities subject to the Australian clearing mandate include
Australian authorized deposit-taking institutions (ADIs) and
Australian financial services licensee (AFS Licensees) that hold a
total gross notional outstanding position of AUD 100 billion or more
under specific circumstances, as measured at particular points in
time. To account for non-Australian entities, ASIC's final rules
also define foreign clearing entities, opt-in clearing entities, and
cross-reference to Australia's Corporations Regulations 2001
definition of foreign internationally active dealers. ASIC
Derivative Transaction Rules (Clearing) 2015, available at: https://www.comlaw.gov.au/Details/F2015L01960.
\9\ ASIC Derivative Transaction Rules (Clearing) 2015, at
section 1.2.7.
\10\ Id., at section 1.2.3.
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As a result of this clearing requirement determination, the classes
of swaps required to be cleared under Commission regulation 50.4(a) are
expanded to include AUD-denominated fixed-to-floating interest rate
swaps, basis swaps, and OIS swaps that are consistent with the AUD-
denominated swaps that are, or will be, required to be cleared by
ASIC.\11\
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\11\ For the reasons discussed below, the Commission is not
finalizing its proposed requirement to clear AUD-denominated FRAs at
this time.
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ii. Canada
In 2015, Canada's provincial securities regulators \12\ published a
draft rule that would require certain derivatives to be cleared.\13\ On
February 24, 2016, the Canadian provincial securities regulators
published a revised draft rule that applies to certain
[[Page 71204]]
Canadian market participants \14\ and proposes subjecting the following
classes of interest rate swaps to a clearing mandate: CAD-, USD-, EUR-,
and GBP-denominated fixed-to-floating interest rate swaps; USD-, EUR-,
and GBP-denominated basis swaps; USD-, EUR-, and GBP-denominated FRAs;
and CAD-, USD-, EUR-, and GBP-denominated OIS.\15\ Subject to
ministerial approvals, the Canadian provincial securities regulators'
revised rule will take effect on May 9, 2017.\16\ Consequently, it is
the Commission's understanding that May 9, 2017 is the first compliance
date upon which a Canadian market participant will be required to
comply with the clearing mandate.\17\
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\12\ Canada's provincial securities regulators are collectively
referred to as the Canadian Securities Administrators, including
representatives from: The Alberta Securities Commission; the British
Columbia Securities Commission; the Manitoba Securities Commission;
the Financial and Consumer Services Commission of New Brunswick; the
Office of the Superintendent of Securities Service Newfoundland and
Labrador; the Office of the Superintendent of Securities of the
Northwest Territories; the Nova Scotia Securities Commission; the
Nunavut Securities Offices; the Ontario Securities Commission; the
Office of the Superintendent of Securities of Prince Edward Island;
the Autorit[eacute] des march[eacute]s financiers; the Financial and
Consumer Affairs Authority of Saskatchewan; and the Office of the
Yukon Superintendent of Securities. See also, CSA Members, available
at: http://www.csa-acvm.ca/aboutcsa.aspx?id=80.
\13\ Draft National Instrument 94-101 respecting Mandatory
Central Counterparty Clearing of Derivatives. Summary available at:
http://www.albertasecurities.com/Regulatory%20Instruments/5022685-v5-Proposed_NI_94-101_package.pdf.
\14\ The draft rule proposed by Canada's provincial securities
regulators would require central counterparty clearing for
transactions entered into between a local counterparty and: (i) A
clearing member of a regulated clearing agency that clears a
mandatory clearable derivative; (ii) an affiliated entity of the
clearing member described in (i); or (iii) a local counterparty that
has, together with its local affiliates, an aggregate gross notional
amount of more than CAD 500 million outstanding (excluding
intragroup transactions). See, Draft Regulation 94-101 respecting
Mandatory Central Counterparty Clearing of Derivatives (2nd
Publication). Summary available at: http://www.lautorite.qc.ca/files/pdf/reglementation/instruments-derives/reglements/94-101/2016-02-24/2016fev24-94-101-avis-cons-en.pdf.
\15\ Id. The Canadian regulators' draft regulation does not
propose to include CAD-denominated basis swaps or FRAs. Therefore,
the Commission is adding only CAD-denominated fixed-to-floating
interest rate swaps and OIS to the CFTC's clearing requirement under
this determination.
\16\ The Commission staff has consulted with Canadian provincial
authorities to confirm the timetable for implementation of the
clearing obligation.
\17\ Id.
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As a result of this clearing requirement determination, the classes
of swaps required to be cleared under Commission regulation 50.4(a) are
expanded to include CAD-denominated fixed-to-floating interest rate
swaps and OIS swaps that are consistent with the CAD-denominated swaps
that will be required to be cleared by the Canadian provincial
securities regulators.
iii. European Union
On August 6, 2015, the European Commission adopted an initial
interest rate swap clearing obligation for certain financial
counterparties and non-financial counterparties \18\ that the European
Securities and Markets Authority (ESMA) developed pursuant to the
European Market Infrastructure Regulation (EMIR).\19\ The initial
European interest rate swap class is co-extensive with the clearing
requirements under regulation 50.4(a), except that with respect to OIS,
the European class covers OIS with a termination date range of up to
three years instead of two. Similarly, the initial European class
covers interest rate swaps denominated in USD, EUR, GBP, and JPY, but
not any of the nine additional currencies.\20\ Compliance with the
European clearing obligation is required for transactions between
clearing member counterparties at this time, and will be phased in
between 2016 and 2018 for additional transactions by type of
counterparty.\21\ The first compliance date for a European market
participant to comply with the clearing obligation for EUR-, USD-, and
GBP-denominated OIS with termination dates ranging from seven days to
three years was on June 21, 2016.\22\ The EUR-, USD-, and GBP-
denominated OIS with termination dates ranging from two years to three
years that are included in this rulemaking are covered by the European
Commission's initial clearing obligation.
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\18\ The European Commission's clearing requirement applies to
all financial counterparties (e.g., banks, insurers, asset managers,
etc.) and certain non-financial counterparties, which are European
Union entities that do not fall within the definition of a financial
counterparty, but exceed the clearing thresholds (non-financial
counterparties above the applicable clearing threshold by asset
class). The non-financial counterparty clearing threshold for
interest rate swaps is EUR 3 billion in gross notional value. See
European Commission Delegated Regulation (EU) No. 149/2013,
available at: http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2013:052:0011:0024:EN:PDF.
\19\ European Commission press release announcing the European
Clearing Obligation, available at: http://europa.eu/rapid/press-release_IP-15-5459_en.htm. See also Regulation (EU) No. 648/2012.
\20\ European Commission Delegated Regulation (EU) No. 2015/
2205, available at: http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32015R2205&from=EN.
\21\ Id. Under the European Commission Delegated Regulation (EU)
No. 2015/2205, Category 1 counterparties are clearing members of at
least one of the central counterparties authorized or recognized to
clear at least one class of mandated derivatives, as of December 21,
2015; Category 2 counterparties are entities that meet the EUR 8
billion threshold of month-end average outstanding gross notional
amounts of derivatives for a three month period, limited to
financial counterparties or alternative investment funds that are
non-financial counterparties; Category 3 counterparties are
financial counterparties and alternative investment funds that are
non-financial counterparties, that are not Category 1 or Category 2
counterparties; and Category 4 counterparties are non-financial
counterparties that do not belong in Category 1, 2, or 3.
\22\ European Commission Delegated Regulation (EU) No. 2015/
2205, available at: http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32015R2205&from=EN.
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On June 10, 2016, the European Commission adopted an expansion of
the European Union clearing obligation for certain financial
counterparties and non-financial counterparties \23\ to cover NOK-,
PLN-, and SEK-denominated fixed-to-floating interest rate swaps and
FRAs.\24\ The first compliance date for a European market participant
to comply with the NOK-, PLN-, and SEK-denominated fixed-to-floating
interest rate swaps and FRA clearing obligation will be on February 9,
2017.\25\ The European Commission's expanded clearing obligation will
apply only to transactions between clearing member counterparties on
February 9, 2017; the clearing obligation will be phased in for
additional transactions by type of counterparty from 2017 to 2019.\26\
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\23\ See European Commission Delegated Regulation (EU) No. 2016/
1178, available at: http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32016R1178&from=EN. This regulation contains a
description of the categories of financial counterparties and non-
financial counterparties subject to the European Union's clearing
obligation. This description is substantively the same as the one
applicable to the European Union's first clearing obligation related
to interest rates swaps denominated in USD, EUR, GBP, and JPY,
including OIS with a termination date of up to three years.
\24\ European Commission press release announcing new rules on
central clearing for interest rate derivatives contracts denominated
in specific European currencies, available at: http://europa.eu/rapid/press-release_MEX-16-2171_en.htm#9. See also European
Commission Delegated Regulation (EU) No. 2016/1178, available at:
http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32016R1178&from=EN. The Commission notes that Poland and
Sweden are members of the European Union, but Norway is not.
Accordingly, the Commission staff has consulted separately with
staff from Norway's financial regulators regarding this clearing
requirement determination.
\25\ European Commission Delegated Regulation (EU) No. 2016/
1178, available at: http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32016R1178&from=EN.
\26\ Id. Under the European Commission Delegated Regulation (EU)
No. 2016/1178, Category 1 counterparties are clearing members of at
least one of the central counterparties authorized or recognized to
clear at least one class of mandated derivatives, as of August 9,
2016; Category 2 counterparties are entities that meet the EUR 8
billion threshold of month-end average outstanding gross notional
amounts of derivatives for a three month period, limited to
financial counterparties or alternative investment funds that are
non-financial counterparties; Category 3 counterparties are
financial counterparties and alternative investment funds that are
non-financial counterparties, that are not Category 1 or Category 2
counterparties; and Category 4 counterparties are non-financial
counterparties that do not belong in Category 1, 2, or 3.
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As a result of this clearing requirement determination, the classes
of swaps required to be cleared under Commission regulation 50.4(a) are
expanded to include (1) EUR-, USD-, and GBP-denominated OIS with
termination dates ranging from two years to three years; (2) NOK-, PLN-
, and SEK-denominated fixed-to-floating interest rate swaps; and (3)
NOK-, PLN-, and SEK-denominated FRAs that are, or will soon be,
required to be cleared by the European Commission.
[[Page 71205]]
iv. Hong Kong
On February 5, 2016, the Hong Kong Securities and Futures
Commission and the Hong Kong Monetary Authority jointly published
conclusions to a consultation paper proposing mandatory clearing for
certain interest rate swaps.\27\ The Legislative Council adopted final
rules to implement a clearing mandate for transactions between certain
local and foreign-incorporated entities \28\ covering fixed-to-floating
interest rate swaps and basis swaps denominated in USD, GBP, EUR, JPY,
and HKD, as well as OIS denominated in USD, GBP, and EUR.\29\ The
clearing mandate rules became effective on September 1, 2016. Although
mandatory clearing for the designated products has not yet commenced,
the first calculation period for determining which counterparties have
an obligation to clear has begun.\30\ During the calculation period,
certain market participants have to count their transactions toward the
clearing threshold to determine whether they will be subject to Hong
Kong's clearing mandate.\31\ The first compliance date for a Hong Kong
market participant to comply with the Hong Kong authorities' clearing
mandate will be on July 1, 2017.\32\
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\27\ Consultation Conclusions and Further Consultation on
Introducing Mandatory Clearing and Expanding Mandatory Reporting,
available at: http://www.sfc.hk/edistributionWeb/gateway/EN/consultation/conclusion?refNo=15CP4.
\28\ The Securities and Futures (OTC Derivative Transactions--
Clearing and Record Keeping Obligations and Designation of Central
Counterparties) Rules impose a clearing obligation on transactions
between prescribed persons, including local and foreign (i) licensed
corporations, (ii) authorized financial institutions, and (iii)
approved money brokers, that have reached the clearing threshold of
USD 20 billion during the applicable three month calculation period.
In addition, any transactions between such a prescribed person and a
financial services provider must also be cleared. Financial services
providers are designated by the Hong Kong Securities and Futures
Commission, with the consent of the Hong Kong Monetary Authority.
\29\ Id. See also Securities and Futures (OTC Derivative
Transactions--Clearing and Record Keeping Obligations and
Designation of Central Counterparties) Rules, The Government of the
Hong Kong Special Administrative Region Gazette, available at:
http://www.gld.gov.hk/egazette/pdf/20162005/es22016200528.pdf.
\30\ Securities and Futures (OTC Derivative Transactions--
Clearing and Record Keeping Obligations and Designation of Central
Counterparties) Rules, The Government of the Hong Kong Special
Administrative Region Gazette, available at: http://www.gld.gov.hk/egazette/pdf/20162005/es22016200528.pdf.
\31\ Id.
\32\ Id.
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As a result of this clearing requirement determination, the classes
of swaps required to be cleared under Commission regulation 50.4(a) are
expanded to include HKD-denominated fixed-to-floating interest rate
swaps that will be required to be cleared by the Hong Kong Securities
and Futures Commission and the Hong Kong Monetary Authority.
v. Mexico
In 2015, Banco de M[eacute]xico, the Mexican central bank,
published a clearing mandate to require that certain Mexican financial
institutions \33\ clear MXN-denominated fixed-to-floating interest rate
swaps having a termination date range of approximately two months to 30
years and that reference the Mexican ``Interbank Equilibrium Interest
Rate'' (TIIE).\34\ The first compliance date for a Mexican market
participant to comply with the Banco de M[eacute]xico's clearing
mandate was on April 1, 2016.\35\
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\33\ Banco de M[eacute]xico's Rules for Derivatives Transactions
(Circular 4/2012) limit the clearing mandate to transactions between
local banks, brokerage firms, and institutional investors. The Banco
de M[eacute]xico's Rules also contemplate an exemption for small
entities with notional amounts outstanding below the specified
threshold of 10 billion unidades de inversi[oacute]n.
\34\ Rules for Derivatives Transactions (Circular 4/2012), Banco
de M[eacute]xico, available at: http://www.banxico.org.mx/disposiciones/circulares/%7BD7250B17-13A4-B0B7-F4E5-04AF29F37014%7D.pdf.
\35\ Id.
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As a result of this clearing requirement determination, the classes
of swaps required to be cleared under Commission regulation 50.4(a) are
expanded to include MXN-denominated fixed-to-floating interest rate
swaps that are required to be cleared by the Banco de M[eacute]xico.
vi. Singapore
In 2015, the Monetary Authority of Singapore (MAS) published
proposed regulations that would require financial institutions \36\ to
clear SGD-denominated fixed-to-floating interest rate swaps referencing
the Swap Offer Rate (SOR) and USD-denominated fixed-to-floating
interest rate swaps referencing LIBOR.\37\
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\36\ Under MAS' proposal, the clearing mandate applies to
transactions between banks that exceed the SGD 20 billion gross
notional outstanding derivatives contract threshold for each of the
previous four calendar quarters.
\37\ Summary published by MAS available at: http://www.mas.gov.sg/News-and-Publications/Media-Releases/2015/MAS-Consults-on-Proposed-Regulations-for-Mandatory-Clearing-of-OTC-Derivatives.aspx.
---------------------------------------------------------------------------
As a result of this clearing requirement determination, the classes
of swaps required to be cleared under Commission regulation 50.4(a) are
expanded to include SGD-denominated fixed-to-floating interest rate
swaps that are likely to be the subject of final regulatory action by
MAS establishing a clearing requirement, which will commence in 2017.
vii. Switzerland
In 2015, the Swiss parliament adopted legislation providing a
framework for a swap clearing requirement. A clearing requirement for
certain financial counterparties and non-financial counterparties \38\
is expected to be phased in from 2016.\39\ It is not yet known exactly
which products such a clearing requirement would cover, but based on
the criteria required to be considered by the Swiss Financial Market
Supervisory Authority (Finma), Finma may determine that the CHF-
denominated fixed-to-floating interest rate swaps referencing LIBOR
should be included.\40\
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\38\ According to guidance from the Swiss Financial Market
Supervisory Authority, derivatives transactions executed by and
among financial counterparties and non-financial counterparties that
meet the threshold requirements will be subject to the clearing
requirement. Financial counterparties meet the threshold if their
rolling averages for gross positions in outstanding derivatives
transactions (over 30 working days) are at or above CHF 8 billion.
Non-financial counterparties meet the threshold if their rolling
averages for gross positions in outstanding derivatives transactions
(over 30 working days) are at or above amounts specific to each
product (e.g., CHF 3.3 billion in interest rate derivatives
transactions).
\39\ Financial Stability Board, OTC Derivatives Market Reforms,
Eleventh Progress Report on Implementation, Appendix C
(Implementation timetable: Central clearing of standardised
transactions) (Aug. 26, 2016), available at: www.fsb.org/2016/08/otc-derivatives-market-reforms-eleventh-progress-report-on-implementation/.
\40\ See Swiss Financial Market Supervisory Authority (FINMA),
Guidance 01/2016 Financial Market Infrastructure Act: FINMA's next
steps (July 6, 2016), available at: https://www.finma.ch/en/~/media/
finma/dokumente/dokumentencenter/myfinma/4dokumentation/finma-
aufsichtsmitteilungen/20160707-finma-aufsichtsmitteilung-01-
2016.pdf?la=en.
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As a result of this clearing requirement determination, the classes
of swaps required to be cleared under Commission regulation 50.4(a) are
expanded to include CHF-denominated fixed-to-floating interest rate
swaps that may be subject to a clearing requirement in 2017.
D. Submissions From DCOs
CME and LCH provided the Commission with regulation 39.5(b)
submissions relating to: Fixed-to-floating interest rate swaps
denominated in the nine additional currencies; AUD-denominated basis
swaps; and USD-, EUR-, and GBP-denominated OIS with termination dates
of up to 30 years. CME and LCH provided Sec. 39.5(b) submissions
pertaining to the FRAs and OIS listed in Table 1, below. CME and
[[Page 71206]]
SGX provided submissions relating to MXN- and SGD-denominated fixed-to-
floating interest rate swaps, respectively. Eurex provided a submission
relating to CHF-denominated fixed-to-floating interest rate swaps and
OIS denominated in USD, EUR, and GBP with terms up to 30 years plus 10
business days.\41\ LCH will begin offering MXN-denominated fixed-to-
floating interest rate swaps in early October 2016.\42\ Based on
representations made by CME to the Commission, the Commission believes
that CME will begin offering AUD- and CAD-denominated OIS before the
end of 2016.\43\
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\41\ The 39.5(b) submissions are available on the Commission's
Web site at: http://www.cftc.gov/IndustryOversight/IndustryFilings/index.htm. Submission materials that a submitting DCO marked for
confidential treatment are not available for public review, pursuant
to Commission regulations 39.5(b)(5) and 145.9(d).
\42\ LCH has filed a regulation 39.5(b) submission with the
Commission as of September 23, 2016 for this swap.
\43\ Prior to offering these swaps for clearing, CME will need
to file Sec. Sec. 40.6 and 39.5(b) submissions with the Commission.
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Table 1 summarizes the relevant interest rate swaps submitted by
CME, Eurex, LCH, and SGX.
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\44\ Based on its regulation 39.5(b) submission, LCH will offer
clearing of MXN-denominated fixed-to-floating interest rate swaps in
early October 2016.
\45\ CME plans to offer clearing of AUD-denominated OIS interest
rate swaps before the end of 2016.
\46\ CME plans to offer clearing of CAD-denominated OIS interest
rate swaps before the end of 2016.
Table 1--Summary of Interest Rate Swap Submissions Under Regulation 39.5(b)
--------------------------------------------------------------------------------------------------------------------------------------------------------
Maximum stated
Currency Floating rate index termination date CME Eurex LCH SGX
--------------------------------------------------------------------------------------------------------------------------------------------------------
Fixed-to-Floating Interest Rate Swaps
--------------------------------------------------------------------------------------------------------------------------------------------------------
AUD.............................. BBSW...................... 30 years............. Yes............. No.............. Yes............. *No.
CAD.............................. CDOR...................... 30 years............. Yes............. No.............. Yes............. No.
CHF.............................. LIBOR..................... 30 years............. Yes............. Yes............. Yes............. No.
HKD.............................. HIBOR..................... 10 years............. Yes............. No.............. Yes............. No.
MXN.............................. TIIE-BANXICO.............. 21 years............. Yes............. No.............. Yes \44\........ No.
NOK.............................. NIBOR..................... 10 years............. Yes............. No.............. Yes............. No.
PLN.............................. WIBOR..................... 10 years............. Yes............. No.............. Yes............. No.
SGD.............................. SOR-VWAP.................. 10 years............. Yes............. No.............. Yes............. Yes.
SEK.............................. STIBOR.................... 30 years............. Yes............. No.............. Yes............. No.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Basis Swaps
--------------------------------------------------------------------------------------------------------------------------------------------------------
AUD.............................. BBSW...................... 30 years............. Yes............. No.............. Yes............. No.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Overnight Index Swaps
--------------------------------------------------------------------------------------------------------------------------------------------------------
USD.............................. FedFunds.................. 30 years............. Yes............. Yes............. Yes............. No.
EUR.............................. EONIA..................... 30 years............. Yes............. Yes............. Yes............. No.
GBP.............................. SONIA..................... 30 years............. Yes............. Yes............. Yes............. No.
AUD.............................. AONIA-OIS................. 5.5 years............ No \45\......... No.............. Yes............. No.
CAD.............................. CORRA-OIS................. 2 years.............. No \46\......... No.............. Yes............. No.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Forward Rate Agreements
--------------------------------------------------------------------------------------------------------------------------------------------------------
AUD.............................. BBSW...................... 3 years.............. Yes............. No.............. No.............. No.
NOK.............................. NIBOR..................... 2 years.............. Yes............. No.............. Yes............. No.
PLN.............................. WIBOR..................... 2 years.............. Yes............. No.............. Yes............. No.
SEK.............................. STIBOR.................... 3 years.............. Yes............. No.............. Yes............. No.
--------------------------------------------------------------------------------------------------------------------------------------------------------
The Commission notes that these interest rate swaps are all single
currency swaps without optionality, as defined by the applicable DCO.
The submissions from CME, Eurex, LCH, and SGX provided the
information required by regulation 39.5(b)(3)(i)-(viii), which, along
with other information, has assisted the Commission in making a
quantitative and qualitative assessment that these swaps should be
subject to a clearing requirement determination.\47\ In making this
clearing requirement determination, the Commission considered the
ability of CME, Eurex, LCH, and SGX to clear a given swap, as well as
data supplied cumulatively from each DCO for these swaps.\48\ The
Commission also reviewed the existing rule frameworks and risk
management policies of each DCO.
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\47\ In their submissions, CME and LCH stated that they had
provided notice of the submissions to members as required by
regulation 39.5(b)(3)(viii). SGX stated that its Sec. 39.5(b)
submission was published on its Web site. Eurex stated that it would
forward its Sec. 39.5(b) submission to its members so that they
could comment.
\48\ CME, Eurex, LCH, and SGX are eligible to clear interest
rate swaps under regulation 39.5(a).
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Additionally, the Commission considered industry data \49\ as well
as other publicly available data sources, specifically data published
by the Bank for International Settlements (BIS), and information that
has been made publicly available pursuant to part 43 of the
Commission's regulations (part 43 Data).\50\
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\49\ The Commission considered FIA SEF Tracker data and ISDA
SwapsInfo data.
\50\ The Commission notes that it also has access to data
pursuant to part 45 of the Commission's regulations (part 45 Data),
which is used in the cost benefit considerations in section V.
However, for the purposes of this determination, the Commission
decided to use the part 43 Data in its determination analysis in
section II.B to enable commenters to review the same data that the
Commission reviewed in making the determination. In the future, the
Commission may analyze part 45 Data and provide the public with
aggregated and anonymized summaries of such data when considering
whether other swaps should be subject to the clearing requirement.
The Commission also may refer to other non-public data sources, as
available.
---------------------------------------------------------------------------
This final rulemaking also reflects consultation with the staff of
the Securities and Exchange Commission, U.S. prudential regulators, and
international regulatory authorities. This consultation occurred prior
to the approval of the NPRM, as well as prior to the approval of this
final rulemaking by the Commission. The Commission
[[Page 71207]]
has benefitted from this close communication with its fellow
authorities throughout this rulemaking process.
Finally, the Commission considered the ten public comments received
in response to the NPRM.
E. Commission Processes for Review and Surveillance of DCOs
i. Part 39 Regulations Set Forth Standards for Compliance
Section 5b(c)(2) of the CEA sets forth 18 core principles with
which DCOs must comply to be registered and to maintain registration.
The core principles address numerous issues, including financial
resources, participant and product eligibility, risk management,
settlement procedures, default management, system safeguards,
reporting, recordkeeping, public information, and legal risk.
Each of the DCOs that submitted the interest rate swaps subject to
this rulemaking is registered with the Commission. The DCOs' regulation
39.5(b) submissions discussed herein identify swaps that the DCOs are
currently clearing and are eligible to clear under regulation 39.5(a).
Consequently, the Commission has been reviewing and monitoring
compliance by the DCOs with the core principles for clearing the
submitted swaps.
The primary objective of the Commission's supervisory program is to
ensure compliance with applicable provisions of the CEA and
implementing regulations, and, in particular, the core principles
applicable to DCOs. A primary concern of the program is to monitor and
mitigate potential risks that can arise in derivatives clearing
activities for the DCO, its members, and entities using the DCO's
services. Accordingly, the Commission's supervisory program takes a
risk-based approach, and pays particular attention to the risks posed
by stressed market conditions, and major market events, as well as
market participants' reactions to such conditions and events.
In addition to the core principles set forth in section 5b(c)(2) of
the CEA, section 5c(c) governs the procedures for review and approval
of new products, new rules, and rule amendments submitted to the
Commission by DCOs. Part 39 of the Commission's regulations implements
sections 5b and 5c(c) of the CEA by establishing specific requirements
for compliance with the core principles, as well as procedures for
registration, for implementing DCO rules, and for clearing new
products. Part 40 of the Commission's regulations sets forth additional
provisions applicable to a DCO's submission of rule amendments and new
products to the Commission.
The Commission has means to enforce compliance, including the
Commission's ability to sue the DCO in federal court for civil monetary
penalties,\51\ issue a cease and desist order,\52\ or suspend or revoke
the registration of the DCO.\53\ In addition, any deficiencies or other
compliance issues observed during ongoing monitoring or an examination
are frequently communicated to the DCO and various measures are used by
the Commission to ensure that the DCO appropriately addresses such
issues, including escalating communications within the DCO management
and requiring the DCO to demonstrate, in writing, timely correction of
such issues.
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\51\ See section 6c of the CEA.
\52\ See section 6b of the CEA.
\53\ See section 5e of the CEA.
---------------------------------------------------------------------------
ii. Initial Registration Application Review and Periodic In-Depth
Reviews
Section 5b of the CEA requires a DCO to register with the
Commission. In order to do so, an organization must submit an
application demonstrating that it complies with the core principles.
During the review period, the Commission generally conducts an on-site
review of the prospective DCO's facilities, asks a series of questions,
and reviews all documentation received. The Commission may ask the
applicant to make changes to its rules to comply with the CEA and the
Commission's regulations.
After registration, the Commission conducts examinations of DCOs to
determine whether each DCO is in compliance with the CEA and Commission
regulations. Each examination begins with a planning phase where staff
reviews information the Commission has to determine whether the
information raises specific issues and to develop an examination plan.
The examination team participates in a series of meetings with the DCO
at its facility. Commission staff also communicates with relevant DCO
staff, including senior management, and reviews documentation. Data
produced by the DCO is independently tested. Finally, when relevant,
walk-through testing is conducted for key DCO processes.
Commission staff also reviews DCOs that are systemically important
(SIDCOs) at least once a year. Of the DCOs discussed in this
rulemaking, only CME has been determined to be a SIDCO.
iii. Commission Daily Risk Surveillance
Commission risk surveillance staff monitors the risks posed to and
by DCOs, clearing members, and market participants, including market
risk, liquidity risk, credit risk, and concentration risk. The analysis
includes review of daily, large trader reporting data obtained from
market participants, clearing members, and DCOs, which is available at
the trader, clearing member, and DCO levels. Relevant margin and
financial resources information also is included within the analysis.
Commission staff regularly conducts back testing to review margin
coverage at the product level and follows up with the relevant DCO
regarding any exceptional results. Independent stress testing of
portfolios is conducted on a daily, weekly, and ad hoc basis. The
independent stress tests may lead to individual trader reviews and/or
futures commission merchant (FCM) risk reviews to gain a deeper
understanding of a trading strategy, risk philosophy, risk controls and
mitigants, and financial resources at the trader and/or FCM level. The
traders and FCMs that have a higher risk profile are then reviewed
during the Commission's on-site review of a DCO's risk management
procedures.
Given the importance of DCOs within the financial system and the
heightened scrutiny as more transactions are moved into central
clearing, the goal of the Commission risk surveillance staff is: (1) To
identify positions in cleared products subject to the Commission's
jurisdiction that pose significant financial risk; and (2) to confirm
that these risks are being appropriately managed. Commission risk
surveillance staff undertakes these tasks at the trader level, the
clearing member level, and the DCO level. That is, staff identifies
both traders that pose risks to clearing members and clearing members
that pose risks to the DCO. Staff then evaluates the financial
resources and risk management practices of traders, clearing members,
and DCOs in relation to those risks. Commission risk surveillance staff
routinely monitors conditions in assigned markets throughout the day.
Because of the work done in identifying accounts of interest, analysts
are able to focus their efforts on those traders whose positions
warrant heightened scrutiny under current market conditions.
To gain insight into how markets operate during stressed market
conditions, an essential technique in
[[Page 71208]]
evaluating risk is the use of stress testing. Stress testing is the
practice of determining the potential loss (or gain) to a position or
portfolio based on a hypothetical price change or a hypothetical change
in a price input such as option volatility. Commission risk
surveillance staff conducts a wide array of stress tests. Some stress
tests are based on the greatest price move over a specified period of
time such as the last five years or the greatest historical price
change. Another stress testing technique is the use of ``event based''
stress testing that replicates the price changes on a particular date
in history, such as September 11, 2001, or the date that Lehman
Brothers filed for bankruptcy in 2008. Other specific events might
include Hurricane Katrina, the U.S. Board of Governors of the Federal
Reserve System's implementation of the Commercial Paper Funding
Facility as a liquidity backstop, or, most recently, the United Kingdom
(U.K.)'s vote to exit from the European Union. Price changes can be
measured as a dollar amount or a percentage change. This flexibility
can be helpful when price levels have changed by a large amount over
time. For example, the actual price changes in equity indices in
October 1987 are not particularly large at today's market levels but
the percentage changes are meaningful.
The general standard in designing stress tests is to use ``extreme
but plausible'' market moves. After identifying accounts at risk and
estimating the size of the risk, the third step is to compare that risk
to the assets available to cover it. Because stress testing, by
definition, involves extreme moves, hypothetical results will exceed
initial margin requirements on a product basis, i.e., the price moves
will be in the 1% tail. Many large traders, however, carry portfolios
of positions with offsetting characteristics. In addition, many traders
and clearing members deposit excess initial margin in their accounts.
Therefore, even under stressed conditions, in many instances the total
initial margin available may exceed potential losses or the shortfall
may be relatively small.
Each DCO maintains a financial resources package that protects the
DCO against clearing member defaults. If a clearing member defaults on
its obligations, the first layer of protection against a DCO default is
the defaulting clearing member's initial margin, as well as the
defaulting clearing member's guaranty fund contribution. The second
layer of protection against a DCO default, after the defaulting
clearing member's initial margin and guaranty fund contribution, is the
DCO's capital contribution. The third layer of protection against a DCO
default is the DCO's mutualized resources, which often include guaranty
fund contributions of non-defaulting clearing members and assessments
of non-defaulting clearing members. These layers of protection comprise
the DCO's financial resources package.
Commission risk surveillance staff compares the level of risk posed
by clearing members to a DCO's financial resources package on an
ongoing basis. Pursuant to Commission regulation 39.11(a), a DCO must
have sufficient financial resources to cover a default by the clearing
member posing the largest risk to the DCO. Pursuant to Commission
regulation 39.33(a), a SIDCO \54\ must have sufficient financial
resources to cover defaults by the clearing members posing the two
largest risks to the DCO. Commission risk surveillance staff
periodically compares stress test results with DCOs to assess their
financial capacity.
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\54\ DCOs that elect to be covered under subpart C of part 39 of
the Commission's regulations also are subject to this requirement.
---------------------------------------------------------------------------
Commission risk surveillance staff frequently discusses the risks
of particular accounts or positions with relevant DCOs. For example, as
a follow-up to a trader review, Commission risk surveillance staff
might compare its stress test results with those of the DCO. As also
noted above, in the case of FCMs, there have been instances where, as a
result of Commission risk surveillance staff comments or inquiries,
DCOs have taken action to revise their stress tests and/or financial
resources package to align with Commission risk surveillance staff's
recommendations.
II. Comments on the Notice of Proposed Rulemaking
A. Overview of Comments Received
The Commission received 10 comment letters during the 30-day public
comment period following publication of the NPRM.\55\
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\55\ Comment letters received in response to the NPRM may be
found on the Commission's Web site at: http://comments.cftc.gov/PublicComments/CommentList.aspx?id=1711. The following organizations
submitted comment letters: Asset Management Group of the Securities
Industry and Financial Markets Association (SIFMA AMG); ASX Clear
(Futures) Pty Limited (ASX); Better Markets Inc. (Better Markets);
Citadel LLC (Citadel); CME Group Inc. (CME Group); International
Swaps and Derivatives Association, Inc. (ISDA); Japanese Bankers
Association (JBA); LCH Group Limited (LCH Group); the Managed Funds
Association (MFA); and Scotiabank Inverlat, S.A. (Scotiabank).
---------------------------------------------------------------------------
i. Majority of Commenters Express Support for Proposal
Seven commenters (Better Markets, Citadel, CME Group, ISDA, LCH
Group, MFA, and SIFMA AMG) voiced support for the proposed expansion of
the clearing requirement and agreed with the Commission's analysis that
the expanded clearing requirement would enhance financial stability by
reducing systemic risk, improving market integrity, or increasing
transparency in the swap market. Two commenters, Scotiabank and ASX,
provided clarifying comments with respect to product specifications,
but did not express explicit support for the proposal overall. One
commenter, JBA, requested that the Commission reconsider its proposal
to expand the interest rate swaps clearing requirement in light of the
increasing number of clearing brokers withdrawing from the swaps
clearing business due to rising costs.
ii. Substantive Issues Related to Product Specifications
One commenter, Scotiabank, discussed the specifications of the MXN-
denominated fixed-to-floating interest rate swaps included in the
Commission's proposed expanded fixed-to-floating interest rate swap
class.\56\ Another commenter, ASX, addressed the Commission's proposed
inclusion of AUD-denominated FRAs in the expanded FRA class.\57\
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\56\ See discussion of Scotiabank's comment letter in section
III.
\57\ See discussion of ASX's comment letter in sections II and
III.
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iii. Implementation and Harmonization
Most commenters responded to the NPRM's request for comment
concerning the advantages and disadvantages of a simultaneous effective
date versus a series of compliance dates that would coordinate
implementation with clearing requirements issued by non-U.S.
jurisdictions.\58\
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\58\ See discussion of implementation issues and related comment
letters in section IV.
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Six commenters, CME Group, Citadel, ISDA, LCH Group, MFA, and SIFMA
AMG all supported the Commission's goal of harmonizing its clearing
requirement with those of non-U.S. jurisdictions. Citadel commented
that such harmonization would lead to the benefit of eliminating
regulatory arbitrage. LCH Group stated that such harmonization would
promote certainty for market participants. SIFMA AMG commented that
such harmonization would improve the functioning of swaps markets and
reduce operational
[[Page 71209]]
complexity. ISDA commented that harmonization is crucial to effective
and efficient implementation of all of the reforms of the derivatives
markets sought by the G20. MFA commented that the Commission's approach
to harmonizing its clearing requirement with those of other
jurisdictions would increase transparency and market integrity. MFA
also suggested that if the Commission proceeds with the expanded
clearing requirement, then other jurisdictions will follow.
iv. Data Considered by the Commission
One commenter, Citadel, complimented the Commission for assessing
the extent of outstanding notional exposures of the swaps covered by
the NPRM using multiple sources of data.\59\ Another commenter, ISDA,
suggested that the Commission review data indicating the impact of the
proposed expanded clearing requirement on market participants in
particular jurisdictions.\60\
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\59\ See section III.B.iii.a.
\60\ See discussion of ISDA's comment letter in section II.C.ii.
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v. Clarification
Two commenters, JBA and Scotiabank, requested clarification as to
whether the expanded clearing requirement would only apply to new swaps
entered into after the applicable compliance date and whether
previously executed swaps would be required to be ``backloaded'' to
clearing.\61\
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\61\ See discussion of JBA's and Scotiabank's comment letters in
section III.
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vi. Access to DCOs and Clearing Members
One commenter, JBA, raised concerns about market participants
needing to establish a clearing relationship with a new DCO in order to
comply with the expanded clearing requirement.\62\ Another commenter,
CME Group, raised concerns about the ability of relatively small market
participants to establish an account with a clearing member.\63\
---------------------------------------------------------------------------
\62\ See discussion of JBA's comment letter in sections
II.B.iii.d and V.C.
\63\ See discussion of CME Group's comment letter in section
II.C.i and section V.C.
---------------------------------------------------------------------------
vii. Trade Execution Requirement
Three comment letters discussed the possibility of a trade
execution requirement applying to some or all of the interest rate
swaps subject to this rulemaking.\64\
---------------------------------------------------------------------------
\64\ See discussion of Citadel's, ISDA's, and SIFMA AMG's
comment letters in section II.C.iii.
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B. Determination Analysis
i. Background Information on Interest Rate Swaps
Interest rate swaps generally are agreements wherein counterparties
agree to exchange payments based on a series of cash flows over a
specified period of time, typically calculated using two different
rates, multiplied by a notional amount. As of June 2015, according to
an estimate by BIS, there was approximately $435 trillion in
outstanding notional of interest rate swaps, which represents
approximately 79% of the total outstanding notional of all
derivatives.\65\
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\65\ Semi-Annual OTC Derivatives Statistics at End-June 2015,
published December 2015 available at: https://www.bis.org/statistics/d5_1.pdf. The BIS data provides the broadest market-wide
estimates of interest rate swap activity available to the
Commission. The Commission receives swaps market information
pursuant to parts 43 and 45 of the Commission's regulations. See
also Swap Data Recordkeeping and Reporting Requirements, 77 FR 2136
(Jan. 13, 2012); Real-Time Public Reporting of Swap Transaction
Data, 77 FR 1182 (Jan. 9, 2012). However, this data only includes
swaps subject to the Commission's jurisdiction, i.e., those swaps
subject to the CEA. The BIS data represents the broader swaps
market, some of which is not reportable to the Commission under the
CEA.
---------------------------------------------------------------------------
Section 2(h)(2)(A)(i) of the CEA provides that the Commission shall
review each swap, or any group, category, type, or class of swaps to
make a determination as to whether the swap or group, category, type,
or class of swaps should be required to be cleared. This final
rulemaking adds to the four classes of interest rate swaps that the
Commission defined in the First Clearing Requirement Determination:
1. Fixed-to-floating swaps: Swaps in which the payment or payments
owed for one leg of the swap is calculated using a fixed rate and the
payment or payments owed for the other leg are calculated using a
floating rate.
2. Basis swaps: Swaps for which the payments for both legs are
calculated using floating rates.
3. Forward rate agreements: Swaps in which payments are exchanged
on a pre-determined date for a single specified period and one leg of
the swap is calculated using a fixed rate and the other leg is
calculated using a floating rate that is set on a pre-determined date.
4. Overnight index swaps: Swaps for which one leg of the swap is
calculated using a fixed rate and the other leg is calculated using a
floating rate based on a daily overnight rate.
Interest rate swaps within the classes described above are
currently required to be cleared pursuant to regulation 50.4(a) if they
meet certain specifications: (i) Currency in which notional and payment
amounts of a swap are specified; (ii) floating rate index referenced in
the swap; and (iii) stated termination date of the swap. The Commission
also included the following three ``negative'' specifications: \66\ (i)
No optionality; (ii) no dual currencies; and (iii) no conditional
notional amounts.\67\ This clearing requirement determination analyzes
the additional interest rate swaps submitted by CME, Eurex, LCH, and
SGX according to these classifications and specifications.
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\66\ The negative specifications are product specifications that
are explicitly excluded from the clearing requirement. All
specifications are listed in regulation 50.4(a).
\67\ The First Clearing Requirement Determination described the
term ``conditional notional amount'' as ``notional amounts that can
change over the term of a swap based on a condition established by
the parties upon execution such that the notional amount of the swap
is not a known number or schedule of numbers, but may change based
on the occurrence of some future event. This term does not include
what are commonly referred to as `amortizing' or `roller coaster'
notional amounts for which the notional amount changes over the term
of the swap based on a schedule of notional amounts known at the
time the swap is executed. Furthermore, it would not include a swap
containing early termination events or other terms that could result
in an early termination of the swap if a DCO clears the swap with
those terms.'' See 77 FR at 74302 n. 108.
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ii. Consistency With Core Principles for Derivatives Clearing
Organizations
Section 2(h)(2)(D)(i) of the CEA requires the Commission to
determine whether a clearing requirement determination would be
consistent with the core principles for registered DCOs set forth in
section 5b(c)(2) of the CEA and implemented in part 39 of the
Commission's regulations.\68\ CME, Eurex, LCH, and SGX, each a
registered DCO, already clear the swaps identified in the regulation
39.5(b) submissions described above.\69\ Accordingly, CME, Eurex, LCH,
and SGX already are required to comply with the DCO core principles
with respect to the interest rate swaps subject to this final
rulemaking. Moreover, each of these DCOs has been, and is, subject to
the
[[Page 71210]]
Commission's review and surveillance procedures, as discussed above,
with respect to these swaps.
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\68\ The core principles address numerous issues, including
financial resources, participant and product eligibility, risk
management, settlement procedures, default management, system
safeguards, reporting, recordkeeping, public information, and legal
risk. See sections 5b(c)(2)(A)-(R) of the CEA and 17 CFR part 39,
subparts B and C.
\69\ Currently, CME is the only registered DCO offering MXN-
denominated fixed-to-floating interest rate swaps for clearing. As
noted above, LCH has filed a Sec. 39.5(b) submission regarding this
swap and will begin offering MXN-denominated fixed-to-floating
interest rate swaps for clearing beginning in early October 2016.
Similarly, LCH is the only registered DCO clearing AUD- and CAD-
denominated OIS at this time. CME has confirmed that it intends to
file Sec. 39.5(b) submissions regarding these swaps before the end
of 2016, and it is not likely to need to change its risk management
framework to do so.
---------------------------------------------------------------------------
For the purposes of reviewing whether the regulation 39.5(b)
submissions are consistent with the DCO core principles, the Commission
has relied on both the information received in the regulation 39.5(b)
submissions and, as discussed above, its ongoing review and risk
surveillance programs.
The Commission concludes that CME, Eurex, LCH, and SGX are capable
of maintaining compliance with the DCO core principles following the
adoption of this clearing requirement determination. The Commission has
not found any evidence to conclude that subjecting any of the interest
rates swaps identified herein to a clearing requirement would adversely
affect compliance by CME, Eurex, LCH, or SGX with the DCO core
principles. In response to the NPRM, LCH Group commented on this topic,
stating that it does not believe that the clearing requirement would
adversely impact its ability to comply with the DCO core principles.
Accordingly, the Commission believes that each of the regulation
39.5(b) submissions discussed herein is consistent with section
5b(c)(2) of the CEA.
iii. Consideration of the Five Statutory Factors for Clearing
Requirement Determinations
Section 2(h)(2)(D)(ii)(I)-(V) of the CEA identifies five factors
that the Commission must ``take into account'' in making a clearing
requirement determination.\70\ In regulation 39.5(b), the Commission
developed a process for reviewing DCO swap submissions to determine
whether such swaps should be subject to a clearing requirement
determination. The following is the Commission's consideration of the
five factors as they relate to: (1) Fixed-to-floating interest rate
swaps denominated in the nine additional currencies; (2) AUD-
denominated basis swaps; (3) NOK-, PLN-, and SEK-denominated FRAs; and
(4) USD-, EUR-, and GBP-denominated OIS with termination dates of up to
three years; and AUD- and CAD-denominated OIS, as submitted by CME,
Eurex, LCH, and/or SGX pursuant to regulation 39.5(b).
---------------------------------------------------------------------------
\70\ The factors are:
(1) The existence of significant outstanding notional exposures,
trading liquidity, and adequate pricing data;
(2) The availability of rule framework, capacity, operational
expertise and resources, and credit support infrastructure to clear
the contract on terms that are consistent with the material terms
and trading conventions on which the contract is then traded;
(3) The effect on the mitigation of systemic risk, taking into
account the size of the market for such contract and the resources
of the DCO available to clear the contract;
(4) The effect on competition, including appropriate fees and
charges applied to clearing; and
(5) The existence of reasonable legal certainty in the event of
the insolvency of the relevant DCO or one or more of its clearing
members with regard to the treatment of customer and swap
counterparty positions, funds, and property.
---------------------------------------------------------------------------
As it reviewed the five statutory factors for this clearing
requirement, the Commission considered the effect a new clearing
mandate will have on a DCO's ability to withstand stressed market
conditions. The post-financial crisis reforms that have increased the
use of central clearing also have increased the importance of ensuring
that central counterparties are resilient, particularly in times of
market stress. The Commission has been working with other domestic and
international regulators to make sure that adequate measures are taken
to address the potential financial stability risks posed by central
counterparties.\71\ The Commission is focused on the financial
stability of DCOs and is committed to monitoring all potential risks
they face, including those related to increased clearing due to a new
clearing requirement determination. Accordingly, how DCOs manage risk
during times of market stress, as well as whether DCOs could manage the
incremental risk in stressed market conditions that may result from the
Commission requiring that these swaps be cleared, are critical factors
that the Commission considered in issuing this final rulemaking.
---------------------------------------------------------------------------
\71\ The Commission's Market Risk Advisory Committee hosted a
meeting on June 27, 2016, to discuss central counterparty
coordination in default management, global systemically important
bank resolution, and central counterparty resolution, webcast
available at: http://www.cftc.gov/Exit/index.htm?https:/youtu.be/fxQDh5lnh9c. See CFTC Press Release PR7386-16, announcing the
meeting agenda (June 16, 2016), available at: http://www.cftc.gov/PressRoom/PressReleases/pr7391-16.
---------------------------------------------------------------------------
a. Factor (I)--Outstanding Notional Exposures, Trading Liquidity, and
Adequate Pricing Data
The first of the five factors requires the Commission to consider
``the existence of significant outstanding notional exposures, trading
liquidity, and adequate pricing data'' related to ``a submission made
[by a DCO].'' \72\ As explained in the proposal for the First Clearing
Requirement Determination, there is no single source of data for
notional exposures and trading liquidity for individual products within
the global interest rate swap market.\73\ Despite significant progress
with regard to trade reporting over the years since the 2008 financial
crisis, this remains true. Nonetheless, the Commission has considered
multiple sources of data \74\ on the interest rate swap market that
provide the information the Commission needs to evaluate the first
factor, including: (1) Publicly available real time data disseminated
by DTCC Data Repository (U.S.) LLC (DDR), a provisionally-registered
swap data repository (SDR),\75\ pursuant to part 43 Data; (2) data from
CME, Eurex, LCH, and SGX collected in their capacities as DCOs; (3)
data from the BIS; (4) data from ISDA; and (5) data from the Futures
Industry Association (FIA).\76\
---------------------------------------------------------------------------
\72\ See section 2(h)(2)(D)(ii) of the CEA.
\73\ See 77 FR 47170, 47193 and n. 100 (Aug. 7, 2012) (citing
Bank of England, ``Thoughts on Determining Central Clearing
Eligibility of OTC Derivatives,'' Financial Stability Paper No. 14,
March 2012, at 11, available at:http://www.bankofengland.co.uk/financialstability/Documents/fpc/fspapers/fs_paper14.pdf.) As
discussed above, the Commission receives data regarding swaps
subject to its jurisdiction pursuant to parts 43 and 45 of the
Commission's regulations. The Commission also receives regular
reporting from registered DCOs, as well as its registered entities.
\74\ The Commission reviews part 43 Data, as well as data from
CME, Eurex, LCH, and SGX, on an ongoing basis. Although the part 43
Data that is included in section II.B.iii is dated as of the second
quarter 2015, Commission staff has not observed significant changes
in the level of trading activity that would cause the Commission to
change its finding that there is regular trading activity in these
markets, as well as a measurable amount of data, such that there are
significant outstanding notional exposures and trading liquidity in
the swaps subject to this determination. In addition, although the
data from DCOs presented in section II.B.iii is dated as of the
second quarter 2015, Commission staff has not observed significant
changes in the notional amounts outstanding or the aggregate
notional values of swaps being cleared that would cause the
Commission to change its finding that there are significant
outstanding notional exposures and trading liquidity in the swaps
subject to this final rulemaking. No commenters raised concerns
about this data or offered additional data.
\75\ CME SDR and BSDR LLC, each a provisionally-registered SDR,
accept data regarding interest rate swaps, but have not collected
sufficient data relevant to the time periods considered by this
determination. ICE Trade Vault, LLC, another provisionally-
registered SDR, did not accept interest rate swap data during the
time periods relevant to this final rulemaking.
\76\ In the First Clearing Requirement Determination, the
Commission also considered (i) market data published weekly by
TriOptima that covered swap trade information submitted voluntarily
by 14 large derivatives dealers and (ii) trade-by-trade data
provided voluntarily by the 14 dealers to the OTC Derivatives
Supervisors Group (ODSG). See 77 FR at 74307. The Commission is not
using these sources for the determination adopted today because
TriOptima no longer collects its data, and the ODSG data was a one-
time exercise conducted between June and August 2010.
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[[Page 71211]]
Outstanding Notional Exposures and Trading Liquidity: Fixed-to-Floating
Interest Rate Swaps Denominated in the Nine Additional Currencies
In assessing the extent of outstanding notional exposures and
trading liquidity for a particular swap, the Commission reviews various
data series to ascertain whether there is an active market for the
swap, including whether the swap is traded on a regular basis as
reflected by trade count and whether there is a measurable amount of
notional exposures, such that a DCO can adequately risk manage the
swap. In particular, the Commission reviewed the aggregate notional
exposure and the trade count data from a number of sources for each
swap subject to this determination. While there is no defined standard
for an active market,\77\ the Commission believes the data indicates
that there are sufficient outstanding notional exposures and trading
liquidity for fixed-to-floating interest rate swaps denominated in the
nine additional currencies to support a clearing requirement
determination. The Part 43 Data presented in Table 2 generally
demonstrates that there is significant activity in new fixed-to-
floating interest rate swap trades denominated in each of the nine
additional currencies. Table 2 presents aggregate notional values and
trade counts of fixed-to-floating interest rate swaps denominated in
these currencies that were executed during the three-month period from
April 1 to June 30, 2015.\78\
---------------------------------------------------------------------------
\77\ A line of economic research papers analyzing the impact of
central clearing on liquidity in over-the-counter derivatives have
used three or more alternative methods of calculating liquidity
based on academic research. These transaction-based methods for
measuring liquidity are informative for assessing and understanding
what constitutes an active market. See Loon, Y. C. and Zhong, Z. K.,
The impact of central clearing on counterparty risk, liquidity, and
trading: Evidence from the credit default swap market. Journal of
Financial Economics, 112 (1), 91-115 (2014) at 98, available at:
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2176561. See also
Loon, Y. C. and Zhong, Z. K., Does Dodd-Frank affect OTC transaction
costs and liquidity? Evidence from real-time CDS trade reports.
Journal of Financial Economics, 119 (3), 645-672 (2016) at 647,
available at: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2443654.
\78\ The data on notional amounts the Commission receives for
interest rate swaps pursuant to part 43 is subject to caps, which
vary based on currency, reference rate, swap class (e.g., FRA vs.
OIS), and maturity of the underlying swap. As a result, the data in
Table 2 will underestimate the amount of notional outstanding for
the reported trades, as around 25% of the trades contained capped
notional amounts. See 17 CFR 43.4(h). According to the adopting
release accompanying part 43, the Commission caps notional amounts
to ensure the anonymity of the parties to a large swap and maintain
the confidentiality of business transactions and market positions.
See Real-Time Public Reporting of Swap Transaction Data, 77 FR 1182,
1213 (Jan. 9, 2012). The rules were amended in May 2013 as they
relate to caps. See Procedures to Establish Appropriate Minimum
Block Sizes for Large Notional Off-Facility Swaps and Block Trades,
78 FR 32866 (May 31, 2013).
---------------------------------------------------------------------------
The Commission notes the market for any swap is global. Even if the
bulk of the activity in a particular swap occurs between counterparties
located in a single jurisdiction, Table 2 demonstrates that there is
significant participation by U.S. persons in each of the swaps covered
by this determination.\79\ Because Table 2 is based on Part 43 Data, it
should include only data related to those swaps for which at least one
counterparty is a U.S. person.\80\
---------------------------------------------------------------------------
\79\ See also further discussion of this topic in response to a
comment from ISDA at section II.C.ii.
\80\ Under the Commission's general policy, neither part 43
reporting nor the clearing requirement apply to a swap where neither
counterparty is a U.S. person (although these requirements generally
would apply, with the possibility of substituted compliance, to
certain swaps involving foreign branches of U.S. SDs or major swap
participants (MSPs), or non-U.S. persons that are guaranteed by or
affiliate conduits of U.S. persons). See Interpretive Guidance and
Policy Statement Regarding Compliance With Certain Swap Regulations,
78 FR 45292, 45369-70 (July 26, 2013). Therefore, part 43 reporting
applies whenever at least one counterparty to a swap is a U.S.
person.
\81\ This table reflects data that was publically disseminated
by DDR and reported to it by the reporting counterparty, a swap
execution facility (SEF), or designated contract market (DCM)
pursuant to part 43. As such, the Commission did not independently
verify the accuracy of the swap data. The transactions disseminated
to the public were rounded pursuant to regulation 43.4(g). As a
result, this table may underestimate the amount of notional
outstanding for the reported trades. This table does not include
cancelled and corrected swaps that counterparties reported under
part 43. The Commission converted the notional amounts to USD
according to the exchange rates of June 30, 2015. Three other SDRs
provisionally-registered with the Commission, CME SDR, BSDR LLC, and
ICE Trade Vault LLC also accept information pursuant to part 43.
During the second quarter of 2015, none of those SDRs collected
sufficient information regarding the interest rate swaps subject to
this rulemaking.
Table 2--Part 43 Data Fixed-to-Floating Interest Rate Swaps Aggregate
Notional Amounts and Trade Counts Reported Second Quarter 2015 \81\
------------------------------------------------------------------------
Aggregate notional
Currency (USD) Trade count
------------------------------------------------------------------------
MXN............................... $403,621,757,132 15,492
CAD............................... 318,497,173,863 4,125
AUD............................... 322,042,446,624 4,898
SEK............................... 82,092,397,444 1,779
PLN............................... 47,267,162,195 1,463
NOK............................... 23,974,272,144 659
SGD............................... 45,618,398,397 995
CHF............................... 48,986,953,725 899
HKD............................... 21,704,787,338 469
------------------------------------------------------------------------
Table 3.1 demonstrates the outstanding notional amounts of fixed-
to-floating interest rate swaps, denominated in each of the nine
additional currencies except for MXN, cleared at LCH as of July 17,
2015.\82\
---------------------------------------------------------------------------
\82\ As mentioned above, LCH will commence clearing fixed-to-
floating interest rate swaps denominated in MXN in October 2016.
Table 3.1--LCH Data Fixed-to-Floating Interest Rate Swaps Outstanding
Notional Amounts As of July 17, 2015 \83\
------------------------------------------------------------------------
Outstanding notional
Currency (USD)
------------------------------------------------------------------------
CAD............................................... $3,479,830,407,148
AUD............................................... 3,311,898,621,627
CHF............................................... 1,110,123,528,868
SEK............................................... 942,508,451,280
SGD............................................... 735,450,982,935
PLN............................................... 500,992,688,256
NOK............................................... 402,746,575,455
HKD............................................... 385,067,416,327
------------------------------------------------------------------------
Table 3.2 describes the aggregate notional values and trade counts
of fixed-to-floating interest rate swaps denominated in these
currencies that were cleared at LCH during the three-month period from
April 1 to June 30, 2015.
---------------------------------------------------------------------------
\83\ Data includes zero coupon swaps and variable notional swaps
and excludes basis swaps, FRAs, and OIS. LCH converted values to
USD. All data from LCH cited in this rulemaking is ``single-sided,''
which means that the outstanding notional amounts correspond to the
notional amounts of swaps submitted for clearing. Single-sided
reporting from LCH, as well as data reported by CME and SGX, refers
to the same concept insofar as all modes of reporting reflect the
total notional amounts outstanding at the DCO based on the swaps
submitted for clearing. When two counterparties submit a swap to the
clearinghouse for clearing through novation, the clearinghouse
becomes the new counterparty to each of the original counterparties.
This novation process results in double-counting, and single-sided
reporting reflects the actual number of trades submitted to a
clearinghouse for clearing. See note 85 for an explanation of CME's
single-sided data. LCH publishes outstanding notional amounts of the
swaps it has cleared. See LCH's Web site, available at: http://www.swapclear.com/what/clearing-volumes.html.
Table 3.2--LCH Data Fixed-to-Floating Interest Rate Swaps Aggregate
Notional Amounts Cleared and Trade Counts \84\ Second Quarter 2015
------------------------------------------------------------------------
Aggregate notional
Currency \85\ (USD) Trade count
------------------------------------------------------------------------
AUD............................... $747,580,867,222 11,675
CAD............................... 591,935,914,049 8,097
SEK............................... 192,434,187,521 5,827
SGD............................... 188,573,379,738 4,872
CHF............................... 175,203,370,522 3,659
PLN............................... 99,184,390,887 4,249
NOK............................... 72,569,065,080 2,855
HKD............................... 65,655,762,520 1,868
------------------------------------------------------------------------
[[Page 71212]]
Table 4.1 demonstratesthe outstanding notional amounts of fixed-to-
floating interest rate swaps, denominated in each of the nine
additional currencies, cleared at CME as of July 17, 2015.
---------------------------------------------------------------------------
\84\ Like the outstanding notional data, this data includes zero
coupon swaps and variable notional swaps.
\85\ The aggregate notional amounts cleared at LCH will appear
to be greater than that reflected in the part 43 Data because the
part 43 Data captures only swap data subject to the CEA, while LCH,
an entity organized in the United Kingdom, clears swaps for entities
that may not be subject to the Commission's jurisdiction. The fact
that LCH's notional amounts are higher supports this clearing
requirement determination because it suggests that there may be
greater liquidity in these swaps outside the U.S., of which DCOs
could take advantage in order successfully to risk manage and price
these swaps.
Table 4.1--CME Data Fixed-to-Floating Interest Rate Swaps Outstanding
Notional Amounts \86\ as of July 17, 2015 \87\
------------------------------------------------------------------------
Outstanding notional
Currency (USD)
------------------------------------------------------------------------
CAD............................................... $295,213,937,641
MXN............................................... 283,989,842,748
AUD............................................... 192,208,979,188
SEK............................................... 30,834,434,233
NOK............................................... 25,396,100,018
CHF............................................... 18,322,872,584
PLN............................................... 4,157,627,521
HKD............................................... 1,937,495,645
SGD............................................... 1,014,201,616
------------------------------------------------------------------------
Table 4.2 describes the aggregate notional values and trade counts
of fixed-to-floating interest rate swaps denominated in these
currencies that were cleared at CME during the three-month period from
April 1 to June 30, 2015.
---------------------------------------------------------------------------
\86\ CME uses the term ``open interest'' to refer to outstanding
notional amounts. Both terms--``open interest'' and ``outstanding
notional amounts''--refer to the same concept. CME converted the
values to USD. As noted above, like the LCH data cited in this
rulemaking, all data from CME is ``single-sided,'' which means that
the outstanding notional amounts correspond to the notional amounts
of swaps submitted for clearing.
\87\ Data excludes basis swaps, FRAs, and OIS. CME publishes
open interest amounts of the swaps it has cleared. See CME's Web
site, available at: http://www.cmegroup.com/trading/interest-rates/cleared-otc/#data.
Table 4.2--CME Data Fixed-to-Floating Interest Rate Swaps Aggregate
Notional Amounts Cleared and Trade Counts Second Quarter 2015
------------------------------------------------------------------------
Aggregate notional
Currency (USD) Trade count
------------------------------------------------------------------------
MXN............................... $193,941,151,671 7,749
AUD............................... 51,591,005,387 1,194
CAD............................... 91,523,261,511 2,995
SEK............................... 9,712,957,726 998
NOK............................... 5,298,232,932 422
CHF............................... 2,665,840,791 173
PLN............................... 1,097,490,552 577
SGD............................... 355,136,534 32
HKD............................... 211,815,688 16
------------------------------------------------------------------------
As of July 17, 2015, the outstanding notional amount of SGD-
denominated fixed-to-floating interest rate swaps cleared at SGX was
$58.5 billion.\88\
---------------------------------------------------------------------------
\88\ SGX converted this value from SGD to USD. This figure is
``single-sided,'' which means that the outstanding notional amount
corresponds to the notional amounts of swaps submitted for clearing.
SGX publishes outstanding notional amounts on its Web site,
available at: http://www.sgx.com.
---------------------------------------------------------------------------
As another data source, the Commission looked to BIS data. BIS'
2013 triennial central bank survey for interest rate swaps describes
the daily average notional values of interest rate swaps, including
fixed-to-floating interest rate swaps, on a worldwide basis,
denominated in each of the nine additional currencies.
Table 5--Excerpt From BIS Triennial Central Bank Survey 2013 \89\ Over-
the-Counter Single Currency Interest Rate Derivatives Turnover
------------------------------------------------------------------------
Daily average
notional of swaps
Currency (including fixed-to-
floating), worldwide
(USD) \90\
------------------------------------------------------------------------
AUD............................................... $62,854,000,000
CAD............................................... 26,794,000,000
SEK............................................... 14,618,000,000
MXN............................................... 9,285,000,000
CHF............................................... 5,335,000,000
SGD............................................... 3,349,000,000
NOK............................................... 2,560,000,000
PLN............................................... 2,138,000,000
HKD............................................... 1,992,000,000
------------------------------------------------------------------------
More recently, BIS has published statistics showing significant
outstanding notional amounts for CAD-, CHF-, and SEK-denominated
interest rate swaps: Approximately $10.3 trillion CAD-denominated,
approximately $3.2 trillion CHF-denominated, and approximately $2.4
trillion SEK-denominated.\91\
---------------------------------------------------------------------------
\89\ BIS Triennial Central Bank Survey, Interest Rate
Derivatives Market Turnover in 2013, Tables 1 and 2.1-2.6 (December
2013), available at: http://www.bis.org/publ/rpfxf13irt.pdf.
\90\ Data as of April 2013. BIS converted the figures to USD.
\91\ Interest rate derivatives by instrument, counterparty, and
currency. Notional amounts outstanding, expressed in USD, at end
June 2015, available at: http://stats.bis.org/statx/srs/table/d7?p=20151&c=. This report does not provide data specific to
interest rate swaps denominated in all nine additional currencies.
---------------------------------------------------------------------------
On a daily basis, using data collected from DDR, ISDA's
``SwapsInfo'' report publishes the notional value and trade counts of
fixed-to-floating interest rate swaps denominated in four of the nine
additional currencies.\92\ For example, Table 6 shows the aggregate
notional values and trade counts of such swaps entered into on
September 15, 2015.
---------------------------------------------------------------------------
\92\ SwapsInfo provides data from two SDRs--DDR and BSDR LLC--
that is ``required to be disclosed under U.S. regulatory
guidelines.'' SwapsInfo does not provide information specific to
interest rate swaps denominated in all nine additional currencies.
The SwapsInfo referenced in Table 6 only includes information from
DDR. See SwapsInfo Web site, available at: http://www.swapsinfo.org/charts/derivatives/price-transaction.
Table 6--Excerpt From ISDA SwapsInfo Interest Rate Derivatives--Price/
Transaction Data Fixed-to-Floating Interest Rate Swaps
------------------------------------------------------------------------
Approximate Aggregate
aggregate notional trade count
Currency amount executed on executed on
September 15, 2015 September 15,
(USD) \93\ 2015
------------------------------------------------------------------------
AUD............................... $2,143,376,093 51
CAD............................... 1,515,366,916 30
MXN............................... 283,339,847 142
PLN............................... 141,249,743 19
------------------------------------------------------------------------
The Commission also reviewed data published by the FIA, in its
``SEF Tracker'' report,\94\ consisting of weekly aggregate notional
values of interest rate swaps, including FRAs, denominated in various
currencies, including five of the nine additional currencies, which
have been transacted on 12 SEFs that are now registered with the
Commission.\95\ Table 7 shows the aggregate notional values of interest
rate swaps denominated in AUD, CAD, MXN, PLN, and SEK executed on SEFs
during the week of May 25, 2015, as well as such swaps denominated in
CHF, HKD, and NOK.\96\
---------------------------------------------------------------------------
\93\ The Commission converted the values to USD as of Sept. 18,
2015. ISDA SwapsInfo does not provide data for CHF-, HKD-, NOK-,
SEK-, or SGD-denominated interest rate swaps.
\94\ SEF Tracker is published periodically on FIA's Web site,
available at: https://fia.org/sef-tracker.
\95\ The SEFs include: BGC Derivatives Markets, L.P.; Bloomberg
SEF LLC; DW SEF LLC; GFI Swaps Exchange LLC; Javelin SEF, LLC; ICAP
SEF (US) LLC; ICAP Global Derivatives Limited; LatAm SEF, LLC;
Tradition SEF, Inc.; trueEx LLC; tpSEF Inc.; and TW SEF LLC. The
Commission recognizes that under section 2(h)(8) of the CEA and
Commission regulations 37.10 and 38.12, the Commission could in the
future act to adopt a trade execution requirement for some or all of
the interest rate swaps subject to the clearing requirement adopted
in this rulemaking. The adoption of a clearing requirement
determination is a prerequisite for any subsequent trade execution
requirement. See also note 76.
\96\ The published report does not contain information for CHF-,
HKD-, and NOK-denominated interest rate swaps. FIA provided figures
for those swaps to the Commission. According to FIA, no SGD-
denominated interest rate swaps were transacted on SEFs during the
week of May 25, 2015. During the week of July 26, 2015, the
aggregate notional amount of SGD-denominated interest rate swaps
executed on SEFs was $7,305,402.
[[Page 71213]]
Table 7--FIA Data Weekly Notional Volume of Interest Rate Swaps
(including FRAs) by Currency \97\
------------------------------------------------------------------------
Aggregate weekly
notional executed
Currency on SEFs week of May
25, 2015 (USD) \98\
------------------------------------------------------------------------
AUD............................................... $36,194,670,000
MXN............................................... 19,526,810,000
CAD............................................... 12,527,450,000
CHF............................................... 6,686,971,251
SEK............................................... 5,958,000,000
PLN............................................... 1,420,000,000
NOK............................................... 1,403,918,860
HKD............................................... 51,589,605
------------------------------------------------------------------------
In summary, the data indicates varying levels of activity, measured
by outstanding notional amounts and trade counts, in fixed-to-floating
interest rate swaps denominated in the nine additional currencies. The
Commission acknowledges that the data comes from various, limited
periods of time that do not explicitly include periods of market
stress. However, the Commission concludes that the data demonstrates
sufficient regular trading activity and outstanding notional exposures
in the fixed-to-floating interest rate swaps denominated in the nine
additional currencies to provide the liquidity necessary for DCOs to
successfully risk manage these products and to support the adoption of
a clearing requirement. Accordingly, the Commission concludes that
there is sufficient regular trading activity and outstanding notional
exposures for all fixed-to-floating swaps subject to this rulemaking.
---------------------------------------------------------------------------
\97\ May 2015 edition of FIA SEF Tracker, available at: https://fia.org/articles/fia-releases-sef-tracker-report-may.
\98\ FIA converted the values to USD.
---------------------------------------------------------------------------
2. Outstanding Notional Exposures and Trading Liquidity: AUD-
Denominated Basis Swaps
The First Clearing Requirement Determination required the clearing
of certain USD-, EUR-, GBP-, and JPY-denominated basis swaps. As part
of this clearing requirement determination, the Commission is expanding
the basis swap class to include AUD-denominated basis swaps, as
proposed.
According to part 43 Data, 366 new AUD-denominated basis swaps were
executed during the three-month period from April 1 to June 30, 2015.
The aggregate notional amount of these swaps was $32,559,762,900.\99\
Also, during this period, there was no volume of AUD-denominated basis
swaps cleared at CME, but the outstanding notional amount in such swaps
cleared at CME as of June 30, 2015 was $69,662,645,400. During the
second quarter of 2015, 786 new AUD-denominated basis swaps were
cleared at LCH. The aggregate notional amount of these swaps was
$74,012,261,949. As of July 17, 2015, the outstanding notional amount
of AUD-denominated basis swaps cleared at CME and LCH was
$183,995,548,759 and $443,819,944,145, respectively.\100\
---------------------------------------------------------------------------
\99\ This figure comes from data that was publically
disseminated by DDR and reported to it by the reporting
counterparty, a SEF, or a DCM pursuant to part 43. As such, the
Commission did not independently verify the accuracy of the swap
data. The transactions disseminated to the public were rounded
pursuant to regulation 43.4(g). As a result, this figure may
underestimate the amount of notional outstanding for the reported
trades. This figure does not include cancelled and corrected swaps
that counterparties reported under part 43. The Commission converted
the aggregate notional amount to USD according to the exchange rates
of June 30, 2015.
\100\ CME and LCH converted these figures to USD.
---------------------------------------------------------------------------
While the data considered above comes from limited periods of time
that do not explicitly include periods of market stress, the Commission
concludes that the data demonstrates sufficient regular trading
activity and outstanding notional exposures in AUD-denominated basis
swaps to provide the liquidity necessary for DCOs to successfully risk
manage these products and to support the adoption of a clearing
requirement, as proposed. Accordingly, the Commission concludes that
there is sufficient regular trading activity and outstanding notional
exposures for AUD-denominated basis swaps subject to this rulemaking.
3. Outstanding Notional Exposures and Trading Liquidity: NOK-, PLN-,
and SEK-Denominated FRAs
The First Clearing Requirement Determination required the clearing
of certain USD-, EUR-, GBP-, and JPY-denominated FRAs. As part of the
clearing requirement determination issued today, the Commission has
decided to amend the FRA class to include only the NOK-, PLN-, and SEK-
denominated FRAs proposed.
At this time, the Commission has decided not to include AUD-
denominated FRAs as part of its expanded clearing requirement. This
decision is based on several factors. First, the Australian authorities
have postponed required clearing of AUD-denominated FRAs until July
2018.\101\ Second, ASX commented that it would not be prudent for the
Commission to finalize a clearing requirement for this product in light
of the delay in the Australian clearing requirement for this product.
Finally, ASX stated that it has observed a general trend in the
Australian domestic market away from FRAs and towards single-period
swaps instead.\102\ While there is currently a date certain on which
Australian authorities will require clearing in AUD-denominated FRAs,
the Commission is electing not to finalize its proposal with regard to
AUD-denominated FRAs, will continue to monitor the market for AUD-
denominated FRAs, and may take further action with regard to this
product as appropriate.
---------------------------------------------------------------------------
\101\ See ASIC Derivative Transaction Rules (Clearing) 2015, at
9, available at https://www.comlaw.gov.au/Details/F2015L01960.
\102\ See also Aaron Woolner, ``Australian clearing volumes
steady despite new mandate,'' Risk.net, Apr. 27, 2016, http://www.risk.net/asia-risk/news/2456034/australian-clearing-volumes-steady-despite-new-mandate (explaining that Australian dollar FRAs
present clearinghouses with an operational challenge insofar as AUD-
denominated FRAs settle and fix on the same day, which creates
problems for clearinghouses because their end-of-day process will
not complete until the start of the next Asia-Pacific trading day)
(article on file with the Commission and available upon request).
---------------------------------------------------------------------------
Table 8 presents aggregate notional amounts and trade counts of
NOK-, PLN-, and SEK-denominated FRAs executed during the second quarter
of 2015, collected by DDR.
Table 8--Part 43 Data FRAs Aggregate Notional Amounts and Trade Counts
Reported Second Quarter 2015 \103\
------------------------------------------------------------------------
Aggregate notional
Currency (USD) Trade count
------------------------------------------------------------------------
SEK............................... $183,646,587,508 514
NOK............................... 105,087,098,253 397
PLN............................... 14,455,487,594 103
------------------------------------------------------------------------
Table 9.1 presents the outstanding notional amounts of NOK-, PLN-,
and SEK-denominated FRAs cleared at LCH as of July 17, 2015.
---------------------------------------------------------------------------
\103\ This table reflects data that was publically disseminated
by DDR and reported to it by the reporting counterparty, a SEF, or
DCM pursuant to part 43. As such, the Commission did not
independently verify the accuracy of the swap data. The transactions
disseminated to the public were rounded pursuant to regulation
43.4(g). As a result, this table may underestimate the amount of
notional outstanding for the reported trades. This table does not
include cancelled and corrected swaps that counterparties reported
under part 43. The Commission converted the notional amounts to USD
according to the exchange rates of June 30, 2015.
[[Page 71214]]
Table 9.1--LCH Data FRAs Outstanding Notional Amounts As of July 17,
2015
------------------------------------------------------------------------
Outstanding notional
Currency (USD)
------------------------------------------------------------------------
SEK............................................... $706,370,365,302
NOK............................................... 544,670,239,925
PLN............................................... 274,120,726,256
------------------------------------------------------------------------
Table 9.2 presents the aggregate notional values and trade counts
of NOK-, PLN-, and SEK-denominated FRAs cleared at LCH during the
second quarter of 2015.
Table 9.2--LCH Data FRAs Aggregate Notional Amounts Cleared and Trade
Counts Second Quarter 2015
------------------------------------------------------------------------
Aggregate notional
Currency (USD) Trade count
------------------------------------------------------------------------
SEK............................... $369,900,226,814 1,600
NOK............................... 348,764,102,890 1,874
PLN............................... 232,246,791,831 1,029
------------------------------------------------------------------------
Table 10.1 presents the outstanding notional amounts of NOK-, PLN-,
and SEK-denominated FRAs cleared at CME as of July 17, 2015.
Table 10.1--CME Data FRAs Outstanding Notional Amounts As of July 17,
2015
------------------------------------------------------------------------
Outstanding notional
Currency (USD)
------------------------------------------------------------------------
SEK............................................... $1,448,168,085
PLN............................................... 360,386,524
NOK............................................... 122,512,986
------------------------------------------------------------------------
Table 10.2 presents the aggregate notional amounts and trade counts
of NOK-, PLN-, and SEK-denominated FRAs cleared at CME during the
second quarter of 2015.
Table 10.2--CME Data FRAs Aggregate Notional Amounts Cleared and Trade
Counts Second Quarter 2015 \104\
------------------------------------------------------------------------
Aggregate notional
Currency (USD) Trade count
------------------------------------------------------------------------
SEK............................... $1,504,300,488 6
NOK............................... 0 0
PLN............................... 0 0
------------------------------------------------------------------------
The Commission recognizes that the part 43 Data provided in Table 8
comes from a limited period of time that does not explicitly include
periods of market stress. The Commission also notes the absence of any
clearing activity at CME in NOK- or PLN-denominated FRAs during the
second quarter of 2015. However, the Commission concludes that the part
43 Data provided in Table 8, together with the LCH data provided in
Tables 9.1 and 9.2, demonstrate sufficient regular trading activity and
outstanding notional exposures in NOK-, PLN-, and SEK-denominated FRAs
to provide the liquidity necessary for DCOs to successfully risk manage
these products and to support the adoption of a clearing requirement.
Moreover, the Commission notes that like the other products subject to
this determination, these FRAs are subject to a clearing requirement
issued by another jurisdiction, in this case the European Union.\105\
Accordingly, the Commission concludes that there is sufficient regular
trading activity and outstanding notional exposures for all FRAs
subject to this rulemaking.
---------------------------------------------------------------------------
\104\ Although there was no clearing activity in NOK- or PLN-
denominated FRAs during the second quarter of 2015, CME continues to
offer clearing of these products.
\105\ In analyzing the volume and liquidity of NOK-, PLN-, and
SEK-denominated fixed-to-floating interest rate swaps and FRAs, ESMA
concluded that there was greater volume and liquidity in products
denominated in these three currencies than in fixed-to-floating
interest rate swaps and FRAs denominated in three other currencies
(Czech koruna (CZK), Danish kroner (DKK), and Hungarian forint
(HUF)). Therefore, ESMA included the NOK-, PLN-, and SEK-denominated
products in its clearing obligation but not the CZK-, DKK-, and HUF-
denominated products. In other words, ESMA ultimately determined
that three currencies should be subject to the EU clearing
obligation and three currencies should not be, a decision with which
the European Commission concurred. See ESMA Final Report--Draft
technical standards on the clearing obligation--interest rate OTC
derivatives in additional currencies (ESMA/2015/1629, Nov. 10,
2015), available at: https://www.esma_europa.eu/sites/default/files/library/2015/11/esma-2015-1629_-_final_report_clearing_obligation_irs_other_currencies.pdf.
---------------------------------------------------------------------------
4. Outstanding Notional Exposures and Trading Liquidity: OIS With
Termination Dates of Up to Three Years; and AUD- and CAD-Denominated
OIS
The First Clearing Requirement Determination required the clearing
of certain USD-, EUR- and GBP-denominated OIS with a stated termination
date range of seven days to two years. As part of this clearing
requirement determination, the Commission is amending the maximum
termination date to three years for USD-, EUR- and GBP-denominated OIS
that have been required to be cleared pursuant to the First Clearing
Requirement Determination. This will make the Commission's OIS clearing
requirement consistent with that in effect in the European Union.\106\
---------------------------------------------------------------------------
\106\ See discussion of the pending European Union Clearing
Obligation in section I.C.
---------------------------------------------------------------------------
Table 11 presents aggregate notional values and trade counts of
USD-, EUR-, and GBP-denominated OIS with terms of two to three years
executed during the second quarter of 2015, collected by DDR.
Table 11--Part 43 Data 2-3 Year OIS Aggregate Notional Amounts and Trade
Counts Reported \107\ Second Quarter 2015
------------------------------------------------------------------------
Aggregate notional
Currency (USD) Trade count
------------------------------------------------------------------------
EUR............................... $7,582,189,400 47
USD............................... 4,611,000,000 32
GBP............................... 1,377,942,400 15
------------------------------------------------------------------------
Tables 12 and 13 present the outstanding notional amounts
outstanding, the aggregate notional values cleared and trade counts, of
USD-, EUR-, and GBP-denominated OIS with terms of two to three years.
---------------------------------------------------------------------------
\107\ This table reflects data that was publically disseminated
by DDR and reported to it by the reporting counterparty, SEF, or DCM
pursuant to part 43. As such, the Commission did not independently
verify the accuracy of the swaps. The transactions disseminated to
the public were rounded pursuant to regulation 43.4(g). As a result,
this table may underestimate the amount of notional outstanding for
the reported trades. This table does not include cancelled and
corrected swaps that counterparties reported under part 43. The
Commission converted the notional amounts to USD according to the
exchange rates of June 30, 2015.
Table 12--LCH Data 2-3 Year OIS Outstanding Notional Amounts, Aggregate Notional Amounts Cleared, and Trade
Counts \108\
----------------------------------------------------------------------------------------------------------------
Outstanding notional Aggregate notional
Currency as of July 17, 2015 cleared second Trade count second
(USD) quarter 2015 (USD) quarter 2015
----------------------------------------------------------------------------------------------------------------
EUR........................................... $456,729,830,424 $369,018,669,593 1,252
[[Page 71215]]
GBP........................................... 91,417,244,109 64,071,802,837 187
USD........................................... 90,058,657,103 46,523,581,500 120
----------------------------------------------------------------------------------------------------------------
Table 13--CME Data 2-3 Year OIS Outstanding Notional Amounts, Aggregate Notional Amounts Cleared, and Trade
Counts \109\
----------------------------------------------------------------------------------------------------------------
Outstanding notional Aggregate notional
Currency as of July 17, 2015 cleared second Trade count second
(USD) quarter 2015 (USD) quarter 2015
----------------------------------------------------------------------------------------------------------------
EUR........................................... $53,456,578,566 $6,888,346,279 12
USD........................................... 151,923,747,195 9,334,544,737 6
GBP........................................... 27,764,067,455 857,520,000 4
----------------------------------------------------------------------------------------------------------------
As part of this clearing requirement determination, the Commission
also is adding AUD- and CAD-denominated OIS to the OIS class included
in regulation 50.4(a). This will make the Commission's OIS clearing
requirement consistent with the requirements that will begin to take
effect in Australia in October 2016 and in Canada in 2017.\110\
---------------------------------------------------------------------------
\108\ LCH converted the EUR and GBP values to USD.
\109\ CME converted the EUR and GBP values to USD.
\110\ See discussion of the Australian and Canadian swap
clearing requirements in section I.C.
---------------------------------------------------------------------------
Table 14 presents aggregate notional amounts and trade counts of
AUD- and CAD-denominated OIS executed during the second quarter of 2015
collected by DDR.
Table 14--Part 43 Data AUD- and CAD-OIS Aggregate Notional Amounts and
Trade Counts Reported \111\ Second Quarter 2015
------------------------------------------------------------------------
Aggregate notional
Currency (USD) Trade count
------------------------------------------------------------------------
AUD......................... $307,048,016,016 537
CAD......................... 51,645,589,883 107
------------------------------------------------------------------------
Tables 15.1 and 15.2 present the outstanding notional amounts
outstanding, as well as aggregate notional values cleared and trade
counts, of AUD- and CAD-denominated OIS cleared at LCH.\112\
---------------------------------------------------------------------------
\111\ This table reflects data that was publically disseminated
by DDR and reported to it by the reporting counterparty, SEF, or DCM
pursuant to part 43. As such, the Commission did not independently
verify the accuracy of the swaps. The transactions disseminated to
the public were rounded pursuant to regulation 43.4(g). As a result,
this table may underestimate the amount of notional outstanding for
the reported trades. This table does not include cancelled and
corrected swaps that counterparties reported under part 43. The
Commission converted the notional amounts to USD according to the
exchange rates of June 30, 2015.
\112\ As discussed above, CME intends to begin offering to clear
AUD- and CAD-denominated OIS before the end of 2016.
\113\ LCH converted the AUD values to USD.
\114\ LCH began clearing AUD-denominated OIS on January 4, 2016.
Table 15.1--LCH Data AUD-Denominated OIS Outstanding Notional Amount, Aggregate Notional Amount Cleared, and
Trade Count \113\
----------------------------------------------------------------------------------------------------------------
Outstanding notional Aggregate notional
Currency as of January 15, cleared January 4-15, Trade count January 4-
2016 \114\ (USD) 2016 (USD) 15, 2016
----------------------------------------------------------------------------------------------------------------
AUD........................................ $25,739,497,700 $26,199,691,300 25
----------------------------------------------------------------------------------------------------------------
Table 15.2--LCH Data CAD-Denominated OIS Outstanding Notional Amount, Aggregate Notional Amount Cleared, and
Trade Count \115\
----------------------------------------------------------------------------------------------------------------
Outstanding notional Aggregate notional
Currency as of July 17, 2015 cleared second Trade count second
(USD) quarter 2015 (USD) quarter 2015
----------------------------------------------------------------------------------------------------------------
CAD........................................ $506,221,411,997 $216,524,096,571 260
----------------------------------------------------------------------------------------------------------------
[[Page 71216]]
The fact that Australian and Canadian regulators have included AUD-
and CAD-denominated OIS, respectively, in their clearing requirements
demonstrates that they believe that these swaps represent an important
part of the derivatives portfolios of Australian and Canadian banks.
The part 43 Data cited in Table 14 demonstrates that there is also
meaningful participation by U.S. swap market participants in these
swaps. For example, U.S. SDs and their affiliated entities play an
important role in the global swaps market, including in Australia and
Canada. The Commission therefore believes that it is prudent for its
clearing requirement to be consistent with those issued by other
jurisdictions, even with respect to swaps that are relatively less
frequently traded than other swaps.\116\
---------------------------------------------------------------------------
\115\ LCH converted the CAD values to USD.
\116\ See section II.C.ii for a more lengthy discussion and
analysis of BIS data with regard to U.S.-based market participants'
activity in global interest rate swap markets.
---------------------------------------------------------------------------
While the Commission recognizes that the data considered above
comes from limited periods of time that do not explicitly include
periods of market stress, the Commission concludes that the data
demonstrates sufficient regular trading activity and outstanding
notional exposures in USD-, GBP-, and EUR-denominated OIS with a
termination date range of two to three years, as well as AUD- and CAD-
denominated OIS, to provide the necessary liquidity for DCOs to
successfully risk manage these products and to support the adoption of
a clearing requirement. Accordingly, the Commission concludes that
there is sufficient regular trading activity and outstanding notional
exposures for all OIS subject to this rulemaking.
5. Pricing Data: Fixed-to-Floating Swaps Denominated in the Nine
Additional Currencies; AUD-Denominated Basis Swaps; NOK-, PLN-, and
SEK-Denominated FRAs; USD-, GBP, and EUR-OIS With Termination Dates of
up to Three Years; and AUD- and CAD-OIS
The Commission regularly reviews pricing data on the interest rate
swaps subject to this rulemaking and has found that these swaps are
capable of being priced off of deep and liquid markets. Commission
staff receives and reviews margin model information from CME, Eurex,
LCH, and SGX that addresses how such DCOs would follow particular
procedures to ensure that market liquidity exists in order to exit a
position in a stressed market, including the products subject to this
determination. In particular, Commission staff analyzes the level of
liquidity in the specific product markets and assesses the time
required to determine a price. Based on this information, the
Commission staff has no reason to believe that there is, or will be,
difficulty pricing the products subject to this determination in a
stressed environment.
Because of the stability of access to pricing data from these
markets, the pricing data for non-exotic interest rate swaps that are
currently being cleared is generally viewed as reliable. In addition,
CME, Eurex, LCH, and SGX provided information that supports the
Commission's conclusion that there is adequate pricing data to warrant
a clearing requirement for the swaps subject to this rulemaking. LCH
and CME believe there is adequate pricing data for risk and default
management. CME stated that its interest rate swap valuations are fully
transparent and rely on pricing inputs obtained from wire service
feeds. In its Sec. 39.5(b) submission, SGX asserted that the valuation
rate sources it uses, and the manner in which it determines mark-to-
market prices, are in alignment with industry practices. CME, Eurex,
LCH, and SGX obtain daily prices from third-party data providers,
clearing members, and/or major banks.
As discussed above, the Commission reviews margin models and
related pricing data submitted by CME, Eurex, LCH, and SGX. One source
of information that they use to determine adequate pricing data is a
regular survey of swap traders that asks the traders to estimate what
it would cost to liquidate positions of different sizes in different
currencies. The information obtained during these market participant
surveys is incorporated into each of CME, Eurex, LCH, and SGX's
internal margin models so that each is confident that it will be able
to withstand stressed market conditions. Establishing accurate pricing
data is one component of each of CME, Eurex, LCH, and SGX's ability to
risk manage their interest rate swaps offered for clearing. The
Commission believes that the methods used by these DCOs provide
information on pricing that is accurate and demonstrates the ability to
price the products subject to this determination successfully.
Accordingly, the Commission concludes that there is adequate pricing
data to support an extension of the clearing requirement to the swaps
subject to this rulemaking.
6. Comments Received Regarding Factor (I)
In response to the NPRM, three commenters, Better Markets, Citadel,
and CME Group agreed with the Commission's analysis of the first factor
under section 2(h)(2)(D)(ii). That is, these commenters agreed that
there is sufficient outstanding notional exposures in all of the swaps
covered by the NPRM for DCOs successfully to risk manage such swaps and
that this supports a clearing requirement determination. In its comment
letter, Citadel complimented the Commission for assessing the extent of
outstanding notional exposures using multiple sources of data. Citadel
noted further that the various sources of data the Commission
referenced in discussing the extent of outstanding notional exposures
demonstrate the variety of sources a DCO may rely on to access price
data for risk and default management purposes. In addition, Better
Markets, Citadel, and MFA commented that there is sufficient trading
activity and liquidity in the swaps subject to this rulemaking to
support a clearing requirement. MFA highlighted the fact that, as noted
in the NPRM, a significant percentage of the market already clears the
swaps voluntarily at Commission-registered DCOs. Citadel commented that
the clearing requirement would enhance liquidity in cleared instruments
to the benefit of investors. Similarly, SIFMA AMG commented that
clearing improves market liquidity.
With respect to pricing data, in their comment letters, CME Group
and LCH Group agreed with the Commission that there is sufficient
pricing data available for the swaps subject to this rulemaking such
that CME Group and LCH Group can adequately manage the risks that would
arise from the default of a clearing member. The Commission received no
other comments related to the level of outstanding notional exposures
and trading liquidity or adequacy of pricing data for the swaps subject
to this rulemaking.
For the reasons described above and in light of the comments
received, the Commission reaffirms its conclusion stated in the NPRM
that there are sufficient outstanding notional exposures and trading
liquidity, as well as adequate pricing data, to expand the clearing
requirement to include the swaps subject to this rulemaking, which are
referenced in revised regulation 50.4(a).
b. Factor (II)--Availability of Rule Framework, Capacity, Operational
Expertise and Resources, and Credit Support Infrastructure
Section 2(h)(2)(D)(ii)(II) of the CEA requires the Commission to
take into account the availability of rule
[[Page 71217]]
framework, capacity, operational expertise and resources, and credit
support infrastructure to clear the swaps subject to this rulemaking on
terms that are consistent with the material terms and trading
conventions on which they are now traded. The Commission believes that
CME, Eurex, LCH, and SGX have developed rule frameworks, capacity,
operational expertise and resources, and credit support infrastructure
to clear the interest rate swaps that they currently clear, including
those products subject to this determination, on terms that are
consistent with the material terms and trading conventions on which
those swaps are being traded.
1. Background
The Commission subjects CME, Eurex, LCH, and SGX to ongoing review
and risk surveillance programs to ensure compliance with the core
principles for the submitted swaps.\117\ As discussed above, as part of
a registered DCO's initial registration review and periodic in-depth
reviews thereafter, the Commission reviews the DCO's rule framework,
capacity, and operational expertise and resources to clear the
submitted swaps. The Commission may request that the DCO or DCO
applicant change its rules to comply with the CEA and Commission
regulations.
---------------------------------------------------------------------------
\117\ Section 5c(c) of the CEA governs the procedures for review
and approval of new products, new rules, and rule amendments
submitted to the Commission by DCOs. Parts 39 and 40 of the
Commission's regulations implement section 5c(c) by: (i)
Establishing specific requirements for compliance with the core
principles as well as procedures for registration, implementing DCO
rules, and clearing new products; and (ii) establishing provisions
for a DCO's submission of rule amendments and new products to the
Commission.
---------------------------------------------------------------------------
After registration, the Commission conducts examinations of DCOs to
determine whether the DCO is in compliance with the CEA and Commission
regulations. Moreover, Commission risk surveillance staff monitors the
risks posed to and by the DCO, in ways that include regularly
conducting back testing to review margin coverage at the product level
and following up with the DCO and its clearing members regarding any
exceptional results.
CME, Eurex, LCH, and SGX have procedures pursuant to which they
regularly review their clearing of the interest rate swaps subject to
this rulemaking in order to confirm, or make adjustments to, margins
and other risk management tools. When reviewing CME, Eurex, LCH, and
SGX's risk management tools, the Commission considers whether the DCO
is able to manage risk during stressed market conditions to be one of
the most significant considerations.
CME, Eurex, LCH, and SGX have developed detailed risk management
practices, including a description of the risk factors considered when
establishing margin levels such as historical volatility, intraday
volatility, seasonal volatility, liquidity, open interest, market
concentration, and potential moves to default, among other risks.\118\
The Commission reviews and oversees CME's, Eurex's, LCH's, and SGX's
risk management practices and development of margin models. Margin
models are further refined by stress testing and daily back testing.
When assessing whether CME, Eurex, LCH, and SGX can clear swaps safely
during stressed market conditions, stress testing and back testing are
key tools the Commission considers as well.
---------------------------------------------------------------------------
\118\ Each of CME, Eurex, LCH, and SGX has published a document
outlining its compliance with the Principles for Financial Market
Infrastructures (PFMIs) published by the Committee on Payments and
Market Infrastructures (CPMI formerly CPSS) and the International
Organization of Securities Commissions (IOSCO). See CME Clearing:
Principles for Financial Market Infrastructures Disclosure,
available at: http://www.cmegroup.com/clearing/risk-management/files/cme-clearing-principles-for-financial-market-infrastructures-disclosure.pdf. See Assessment of Eurex Clearing AG's compliance
against the CPSS-IOSCO Principles for financial market
infrastructures (PFMI) and disclosure framework associated to the
PFMIs, available at: http://www.eurexclearing.com/blob/148684/58e6fe89e3f54ebe169e530ac2235b43/data/cpss-iosco-pfmi_assessment_2014_en.pdf. See LCH's CPMI-IOSCO Self Assessment
2014, available at: http://www.lchclearnet.com/documents/731485/762558/CPMI_IOSCO_Assessment_of_LCH+ClearnetLtd+2014.pdf/45876bd6-3818-4b76-a463-2952a613c326. See SGX PFMI Disclosure Documents,
available at: http://www.sgx.com/wps/portal/sgxweb/home/clearing/derivatives/pfmi_disclosure.
---------------------------------------------------------------------------
CME, Eurex, LCH, and SGX design stress tests to simulate ``extreme
but plausible'' market conditions based on historical analysis of
product movements and/or based on hypothetical forward-looking
scenarios that are created with the assistance of market experts and
participants. Commission staff monitors and oversees the use and
development of these stress tests. CME, Eurex, LCH, and SGX conduct
stress tests daily. In addition, CME, Eurex, LCH, and SGX conduct
reverse stress testing to ensure that their default funds are sized
appropriately. Reverse stress testing uses plausible market movements
that could deplete guaranty funds and cause large losses for top
clearing members.\119\ These four DCOs analyze the results of stress
tests and reverse stress tests to determine if any changes to their
financial resources or margin models are necessary. Commission risk
surveillance staff also monitors markets in real-time, performs stress
tests against the DCOs' margin models as an additional level of
oversight, and may recommend changes to a margin model.
---------------------------------------------------------------------------
\119\ For example, CME, Eurex, LCH, and SGX may use scenarios
for stress testing and reverse stress testing that capture, among
other things, historical price volatilities, shifts in price
determinants and yield curves, multiple defaults over various time
horizons, and simultaneous pressures in funding and asset markets.
---------------------------------------------------------------------------
CME, Eurex, LCH, and SGX conduct back testing on a daily basis to
ensure that the margin models capture market movements for member
portfolios. Back testing serves two purposes: It tests margin models to
determine whether they are performing as intended and it checks whether
the margin models produce margin coverage levels that meet the DCO's
established standards. CME conducts daily back testing for each major
asset class, and SGX performs daily back testing on a contract level to
examine margin models in more detail. LCH may call additional margin
from clearing members if back testing demonstrates margin erosion. The
back testing process helps CME, Eurex, LCH, and SGX determine whether
their clearing members satisfy the required margin coverage levels and
liquidation time frame.
Before offering a new product for clearing, such as the interest
rate swaps subject to this rulemaking, CME, Eurex, LCH, and SGX take
stress tests and back testing results into account to determine whether
the clearinghouse has sufficient financial resources to offer new
clearing services. In addition, the Commission reviews margin models
and default resources to ensure that the DCOs can risk manage their
portfolio of products offered for clearing. The Commission believes
that this combination of stress testing and back testing in
anticipation of offering new products for clearing provides CME, Eurex,
LCH, and SGX with greater certainty that new product offerings will be
risk-managed appropriately. The process of stress testing and back
testing also gives the DCOs practice incorporating the new product into
their models.
In addition to the Commission's surveillance and oversight, CME,
Eurex, LCH, and SGX continue to monitor and test their margin models
over time so that they can operate effectively in stressed and non-
stressed market environments. CME, Eurex, LCH, and SGX review and
validate their margin models regularly and in the case of CME and SGX,
no less than annually. To risk manage their margin coverage levels for
interest rate swaps denominated in
[[Page 71218]]
various currencies, CME and LCH also regularly survey traders to
estimate what it would cost to liquidate positions of different sizes
in different currencies and then incorporate those costs into the
amount of initial margin that a clearing member is required to post,
and tailor their margin models to account for several attributes
specific to various currencies.
Finally, aside from margin coverage requirements, CME, Eurex, LCH,
and SGX can monitor and manage credit risk exposure by asset class,
clearing member, account, or even by individual customers. They manage
credit risk by establishing position and concentration limits based on
product type or counterparty. The Commission recognizes that these
limits reduce potential market risks so that DCOs are better able to
withstand stressed market conditions. CME, Eurex, LCH, and SGX monitor
exposure concentrations and may require additional margin deposits for
clearing members with weak credit scores, with large or concentrated
positions, with positions that are illiquid or exhibit correlation with
the member itself, and/or where the member has particularly large
exposures under stress scenarios. The ability to call for any
additional margin, on top of collecting initial and variation margin,
to meet the current DCO exposure is another tool that CME, Eurex, LCH,
and SGX may use to protect against stressed market conditions.
In support of its ability to clear the products subject to this
rulemaking, CME's Sec. 39.5(b) submissions cite to its rulebook to
demonstrate the availability of rule framework, capacity, operational
expertise and resources, and credit support infrastructure to clear
interest rate swap contracts on terms that are consistent with the
material terms and trading conventions on which the contracts are then
traded. LCH's submissions state that LCH has the capability and
expertise not only to manage the risks inherent in the current book of
interest rate swaps cleared, but also to manage the increased volume
that a clearing requirement for additional currently clearable products
could generate. SGX's submission states that SGD-denominated fixed-to-
floating interest rate swaps are cleared under an established rule
framework and operational infrastructure that has been accepted by
SGX's clearing members. SGX asserted further that it has the
appropriate risk management, operations, and technology capabilities in
place to ensure that it is able to liquidate positions in these swaps
in an orderly manner should a default occur. Similarly, Eurex's
submission states that it clears interest rate swaps pursuant to its
well-developed rule framework and support infrastructure.
Importantly, the Commission notes that CME, Eurex, LCH, and SGX
each developed their interest rate swap clearing offerings in
conjunction with market participants and in response to the specific
needs of the marketplace. In this manner, CME's, Eurex's, LCH's, and
SGX's clearing services are designed to be consistent with the material
terms and trading conventions of a bilateral, uncleared market.
When assessing whether CME, Eurex, LCH, and SGX can clear the swaps
subject to this rulemaking safely during times of market stress, the
Commission reviewed the public disclosures published by CME, Eurex,
LCH, and SGX. In addition, the Commission reviewed the risk management
practices used by these DCOs, and the Commission has determined that
the application of such practices to the products subject to this
clearing requirement determination should ensure that the products can
be cleared safely during times of market stress. Accordingly, the
Commission concludes that at each of the four DCOs discussed above,
there is an available rule framework, capacity, operations expertise
and resources, and credit support infrastructure to clear the swaps
subject to this rulemaking on terms that are consistent with the
material terms and trading conventions on which they are now traded.
2. Comments Received Regarding Factor (II)
In response to the NPRM, Citadel agreed with the Commission's
conclusion that the existing DCO rule frameworks and infrastructure are
satisfactory for clearing the swaps subject to the determination.
Citadel commented that the already significant amount of voluntary
clearing of these swaps demonstrates the suitability of the DCOs'
frameworks and infrastructures. LCH Group commented that its rule
framework, capacity, operational expertise, resources, and credit
support structure are adequate to clear the swaps covered by the
rulemaking, including during times of market stress. Similarly, CME
Group commented that it is capable of offering uninterrupted clearing
services of these swaps, even during times of market stress. Finally,
Better Markets commented that the second factor under section
2(h)(2)(D)(ii) is satisfied because registered DCOs are already
clearing the swaps subject to the NPRM in compliance with the DCO core
principles. Better Markets also urged the Commission strictly to
surveil DCOs' risk management procedures.
The Commission received no other comments related to the existence
of satisfactory DCO rule frameworks and infrastructure to support this
expanded clearing requirement determination.
For the reasons described above and in light of the comments
received, the Commission reaffirms its conclusion stated in the NPRM
that there are available rule frameworks, capacity, operations
expertise and resources, as well as credit support infrastructures
consistent with material terms and current trading conventions, to
expand the clearing requirement to include the swaps subject to this
rulemaking, which are referenced in revised regulation 50.4(a).
c. Factor (III)--Effect on the Mitigation of Systemic Risk
Section 2(h)(2)(D)(ii)(III) of the CEA requires the Commission to
take into account the effect of the clearing requirement on the
mitigation of systemic risk, taking into account the size of the market
for such contract and the resources of the DCO available to clear the
contract. The Commission believes that the market for the swaps covered
by this determination is significant and that mitigating counterparty
risk through clearing likely will reduce systemic risk in that market
generally. Data collected by SDRs demonstrates that Commission-
registered SDs are counterparties to an overwhelming majority of swaps
reported to the Commission. Because only SDs with a significant volume
of swaps activity are required to register with the Commission,\120\ by
expanding the swap clearing requirement, a greater percentage of an
SD's swap activity will be centrally cleared and risk managed. For
example, central clearing reduces the interconnectedness of the swap
positions of SDs, and other swap market participants, because the DCO,
an independent third party that takes no market risk, guarantees the
collateralization of swap counterparties' exposures. Mitigating
counterparty credit risk for SDs with systemically important swap
positions through clearing likely would reduce systemic risk in the
swap market and the financial system as a whole.\121\
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\120\ See definition of SD, codified in Commission regulation
1.3(ggg).
\121\ In its regulation 39.5(b) submission, SGX asserts that
central clearing reduces counterparty credit risk because the
central counterparty interposes itself between the initial buyer and
seller and because clearing creates efficiencies through the
consolidation of collateral management.
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[[Page 71219]]
In addition to managing counterparty credit risk, centrally
clearing the swaps covered by this rulemaking through a DCO will reduce
systemic risk through the following means: Providing counterparties
with daily mark-to-market valuations and exchange of variation margin
pursuant to a risk management framework; requiring posting of initial
margin to cover potential future exposures in the event of a default;
offering multilateral netting to substantially reduce the number and
notional amount of outstanding bilateral positions; reducing swap
counterparties' operational burden by consolidating collateral
management and cash flows; eliminating the need for novations or tear-
ups because clearing members may offset opposing positions; and
increasing transparency.
The Commission recognizes that the new margin requirements for
uncleared swaps for SDs and MSPs require some market participants to
post and collect margin for those swaps not subject to the Commission's
clearing requirement.\122\ Neither the Commission's nor the prudential
regulators' uncleared margin requirement was finalized at the time the
Commission issued the First Clearing Requirement Determination. As a
result, the Commission considered the clearing requirement in light of
existing market practice. Going forward, the requirement to margin
uncleared swaps in certain instances will mitigate the accumulation of
risk between counterparties in a manner similar to that of central
clearing.
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\122\ Margin Requirements for Uncleared Swaps for SDs and MSPs,
81 FR 636 (Jan. 6, 2016) (codified in subpart E of part 23 of the
Commission's regulations) (establishing initial and variation margin
requirements for certain SDs and MSPs for which there is no
prudential regulator); and Margin and Capital Requirements for
Covered Swap Entities, 80 FR 74840 (Nov. 30, 2015) (establishing
minimum margin and capital requirements for certain registered SDs,
MSPs, security-based swap dealers, and major security-based swap
participants regulated by one of the Office of the Comptroller of
the Currency, the Board of Governors of the Federal Reserve System,
the Federal Deposit Insurance Corporation, the Farm Credit
Administration or the Federal Housing Finance Agency). See also
section V for further discussion of this issue.
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However, the Commission believes that central clearing, including
required clearing such as that described herein, offers greater risk
mitigation than bilateral margining for swaps that are sufficiently
standardized and meet the Commission's other requirements for
suitability. First, absent any applicable exception or exemption,\123\
the clearing requirement applies to all transactions in swaps
identified in regulation 50.4, whereas, generally speaking, the new
uncleared margin requirements apply only to swaps executed between SDs
and MSPs, and between an SD or MSP and its counterparty that is a
``financial end-user.'' \124\ Second, this clearing requirement
requires all swap counterparties to post initial margin with a DCO,
whereas under the uncleared swap margin regulations, for certain swaps,
specifically those between an SD or MSP and a financial end-user,
initial margin is required to be posted and collected only if the
financial end-user (together with its affiliates) has over $8 billion
in gross notional exposures for uncleared swaps.\125\ Third, swaps
transacted through a DCO are secured by the DCO's guaranty fund and
other available financial resources, which are intended to cover
extraordinary losses that would not be covered by initial margin
(``tail risk''), whereas swaps subject to the uncleared margin
requirements are not secured by a guaranty fund or other financial
resources available to the DCO but covered by unencumbered assets of
the counterparty.
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\123\ The exception and exemptions to the clearing requirement
are codified in subpart C to part 50 of the Commission's
regulations.
\124\ See Commission regulation 23.151 (defining financial end
user). See also Margin and Capital Requirements for Covered Swap
Entities, 80 FR at 74900 (defining financial end user for rules that
are applicable to SDs and MSPs that have a prudential regulator).
\125\ Commission regulation 23.152.
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1. DCO Mitigation of Risk and Concentration of Risk
In their Sec. 39.5(b) submissions, CME, Eurex, and LCH stated that
subjecting interest rate swaps to central clearing helps mitigate
systemic risk. According to LCH, if all clearable swaps were required
to be cleared at a small number of central counterparties rather than
being held bilaterally by a much larger group of swap counterparties,
the robust risk management frameworks of clearinghouses, such as that
operated by LCH, would serve to reduce operational and systemic risk in
the interest rate swap market. CME stated that the 2008 financial
crisis demonstrated the potential for systemic risk arising from the
interconnectedness of over-the-counter (OTC) derivatives market
participants and asserted that centralized clearing will reduce
systemic risk.
While a clearing requirement removes a large portion of the
interconnectedness of current OTC markets that leads to systemic risk,
the Commission notes that central clearing, by its very nature,
concentrates risk in a handful of entities. Similarly, SGX, in its
Sec. 39.5(b) submission, noted that the risk reducing and other
benefits of central clearing must be weighed against the concentration
of risk in a few clearinghouses. However, the Commission observes that
central clearing was developed and designed to handle such
concentration of risk. Moreover, as discussed at length above, the
Commission's review and risk surveillance programs monitor and attempt
to mitigate potential risks that can arise in derivatives clearing
activities for the DCO, its members, and other entities using the DCO's
services.
Part of a DCO's risk management framework includes procedures for
responding in stressed circumstances, such as a clearing member's
default on its obligations. As discussed below, each of CME, Eurex,
LCH, and SGX has a procedure for closing out and/or transferring a
defaulting clearing member's positions and collateral.\126\
Transferring customer positions to solvent clearing members in the
event of a default is critical to reducing systemic risk. DCOs are
designed to withstand defaulting positions and to prevent a defaulting
clearing member's loss from spreading further and triggering additional
defaults. If the introduction of this expanded clearing requirement for
interest rate swaps increases the number of clearing members and market
participants in the swap market, then DCOs may find it easier to
transfer positions from defaulting clearing members to other clearing
members because there may be a larger pool of potential clearing
members to receive the positions. If this were to occur, then this
expanded interest rate swap clearing requirement would help to reduce
systemic risk by increasing the number of clearing members and market
participants in these swaps, which would be expected to provide DCOs
with additional recipients for defaulting clearing members' positions
in the event of a default.
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\126\ For further discussion of treatment of customer and swap
counterparty positions, funds and property in the event of a the
insolvency of a DCO or one or more of its clearing members, please
see Factor (V)--Legal certainty in the event of insolvency. See
section II.B.iii.
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Each DCO has experience risk managing interest rate swaps, and the
Commission has determined that each of CME, Eurex, LCH, and SGX has the
necessary resources available to clear the swaps that are the subject
of its submission. Accordingly, the Commission concludes that it has
considered the effect of the expanded clearing requirement on the
mitigation of systemic risk and found that mitigating counterparty risk
through required central clearing likely will
[[Page 71220]]
generally reduce systemic risk in the swaps markets for the products
subject to this determination.
2. Comments Received Regarding Factor (III)
Several comment letters agreed with the Commission's conclusion
that the clearing requirement would reduce systemic risk. Citadel
commented that it believes that clearing reduces systemic risk by
promoting open, efficient, and transparent markets and by reducing
interconnectedness. In its comment letter, Citadel agreed with the
Commission that central clearing does more to mitigate systemic risk
than bilateral margining requirements. Citadel noted that unlike
bilateral margining requirements, clearing eliminates the complex web
of interconnected bilateral counterparty credit exposures. Citadel also
commented that it believes that market participants benefit from the
risk and default management frameworks that clearinghouses provide,
including margin collection, end-of-day pricing, multilateral netting
and compression, and a guaranty fund.
SIFMA AMG commented that clearing promotes market integrity. Better
Markets commented that increased clearing may reduce systemic risk
because of a potential increase in the number of DCO-clearing members.
LCH Group commented that its risk management framework is calibrated to
the particular characteristics of the swaps covered by the NPRM. LCH
Group commented further that it is capable of handling any increased
risk that could result from the clearing requirement, including during
stressed market conditions.
The Commission received no other comments related to the effect of
the expanded clearing requirement on the mitigation of systemic risk.
For the reasons described above and in light of the comments
received, the Commission reaffirms its conclusion, stated in the NPRM
that CME, Eurex, LCH, and SGX would be able to manage the risks posed
by clearing the additional swaps that will be required to be cleared by
virtue of the expanded clearing requirement. In addition, the
Commission believes that the required central clearing of the interest
rate swaps subject to this rulemaking will serve to mitigate
counterparty credit risk, and might increase the number of clearing
members and market participants in these swaps, thereby potentially
reducing systemic risk. Thus, the Commission has decided to expand the
clearing requirement so that it includes the swaps subject to this
rulemaking, which are referenced in revised regulation 50.4(a).
d. Factor (IV)--Effect on Competition
Section 2(h)(2)(D)(ii)(IV) of the CEA requires the Commission to
take into account the effect on competition, including appropriate fees
and charges applied to clearing. As discussed above, of particular
concern to the Commission is whether this determination would harm
competition by creating, enhancing, or entrenching market power in an
affected product or service market, or facilitating the exercise of
market power. Market power is viewed as the ability to raise prices,
including clearing fees and charges, reduce output, diminish
innovation, or otherwise harm customers as a result of diminished
competitive constraints or incentives.
1. Competition Analysis
In the NPRM, the Commission identified one putative service market
as potentially affected by this clearing requirement determination: A
DCO service market encompassing those clearinghouses that currently
clear, or could reasonably be expected to clear, the types of interest
rate swaps subject to this rulemaking, i.e., CME, Eurex, LCH, and SGX.
Without defining the precise contours of this market, the Commission
recognizes that, depending on the interplay of several factors, this
clearing requirement determination potentially could impact competition
within the affected market.\127\ Several factors may influence whether
any impact on competition is, overall, positive or negative. Of
particular importance are: (1) Whether the demand for these clearing
services and swaps is sufficiently elastic that a small but significant
increase above competitive levels would prove unprofitable because
users of the interest rate swaps and DCO clearing services would
substitute other clearing services co-existing in the same market(s);
and (2) the potential for new entry into this market. The availability
of substitute clearing services to compete with those encompassed by
this determination, and the likelihood of timely, sufficient new entry
in the event that prices do increase above competitive levels, each
operate independently to constrain anticompetitive behavior.
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\127\ See section II.C.ii for a further discussion of the market
for interest rate swaps.
---------------------------------------------------------------------------
Any competitive import from this determination likely would stem
from the fact that it removes the alternative of not clearing for
interest rate swaps subject to this rulemaking. On the other hand, this
clearing requirement determination does not change who may or may not
compete to provide clearing services for the interest rate swaps
subject to this rulemaking (as well as those not required to be
cleared).
Removing the alternative of not clearing is not determinative of
negative competitive impact. Other factors--including the availability
of other substitutes within the market or potential for new entry into
the market--may constrain market power. The Commission does not foresee
that this determination constructs barriers that would deter or impede
new entry into a clearing services market.\128\ Indeed, there is some
basis to expect that the determination could foster an environment
conducive to new entry. For example, this clearing requirement
determination, and the prospect that more may follow, is likely to
reinforce, if not encourage, growth in demand for clearing services.
Demand growth, in turn, can enhance the sales opportunity, a condition
hospitable to new entry.\129\
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\128\ That said, the Commission recognizes that to the extent
the clearing services market for the interest rate swaps subject to
this rulemaking, after removing the alternative of not clearing such
swaps, would be (1) limited to a concentrated few participants with
highly aligned incentives, and (2) insulated from new competitive
entry through barriers--e.g., high sunk capital cost requirements;
high switching costs to transition from embedded incumbents; and
access restrictions--this clearing requirement determination could
have a negative competitive impact by increasing market
concentration. However, no commenters agreed with this specific
argument as articulated in the NPRM.
\129\ See, e.g., U.S. Dep't. of Justice & Fed. Trade Comm'n,
Horizontal Merger Guidelines (2010) section 9.2 (entry likely if it
would be profitable which is in part a function of ``the output
level the entrant is likely to obtain''). In addition, the
Commission notes that there are clearing organizations that clear
the swaps subject to this rulemaking that are not Commission-
registered DCOs: (1) OTC Clearing Hong Kong, which the Commission
has exempted from DCO registration and clears HKD-denominated
interest rate swaps; (2) ASX, which the Commission also has exempted
from DCO registration and clears AUD-denominated interest rate
swaps; and (3) Asigna (Mexico), which clears MXN-denominated
interest rate swaps. The Commission observes that each of these
clearing organizations would be eligible to apply for registration
as a DCO if the organization were interested in offering client
clearing to U.S. customers. Exemptions from registration are
conditioned on clearing only for U.S. proprietary accounts.
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The Commission notes further, that while Eurex and SGX each clear
only one of the interest rate swaps subject to this rulemaking, they
are generally eligible to clear interest rate swaps under Commission
regulation under Sec. 39.5(a) and may decide to add to their interest
rate swap offerings in light of this rulemaking.
[[Page 71221]]
2. Comments Received Regarding Factor (IV)
Better Markets, Citadel, and MFA commented that the clearing
requirement would have a positive effect on competition. According to
both Citadel and Better Markets, central clearing of swaps generally
increases the range of execution counterparties, increases liquidity
and price competition, narrows bid-ask spreads, and improves access to
best execution. Similarly, MFA commented that the clearing requirement
would increase competition among potential trading counterparties and
liquidity providers by reducing counterparty credit and operational
risk and by allowing market participants to trade with a wider range of
execution counterparties. Better Markets also commented that the
clearing requirement could promote competition because it could remove
barriers to entry to the market and suggested that the clearing
requirement could enhance the ability of relatively small SDs and other
relatively small swap participants to compete with larger dealers and
participants.
Citadel commented that by eliminating bilateral counterparty credit
exposure and trading documentation, clearing can lead to market
structure innovations such as trading solutions that allow investors to
trade directly with one another instead of through intermediaries.
Citadel also commented that clearing lowers execution costs in
addition to increasing liquidity. Citadel cited academic research
published in 2016 indicating that the Commission's existing IRS
clearing requirement, together with trading reforms, have enabled swap
market participants to save as much as $20 million to $40 million per
day, with between $7 million and $13 million of the savings by market
participants being attributed to market participants that do not act as
dealers in the swaps market.\130\
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\130\ See Citadel letter for further discussion of academic
papers and possible cost savings.
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Two commenters, JBA and Citadel, voiced contrasting views
concerning the effects of only one DCO offering a swap subject to a
clearing requirement. JBA stated that when only one DCO offers a swap
for clearing, costs might increase for market participants to join that
DCO or enter into new client clearing arrangements with clearing
members of that DCO. JBA also commented that there may be lower
liquidity for swaps newly offered at a particular DCO.
By contrast, Citadel commented that the possibility of only one DCO
offering to clear a particular swap would not have adverse effects
because swap market participants generally prefer to clear swaps at one
DCO instead of at multiple DCOs in order to reduce costs by maximizing
netting, compression, and margin offsets. Citadel also commented that
fees charged by FCMs, rather than fees charged by DCOs, are the major
source of clearing costs.\131\ Moreover, according to Citadel, the fees
charged by FCMs depend primarily on the portfolio the customer wishes
to clear rather than on the number of DCOs offering to clear a
particular swap. Finally, Citadel commented that the clearing
requirement could lead a DCO or FCM to expand its clearing offerings
because of the increased clearing volumes that may result from the
clearing requirement. As more DCOs and/or FCMs enter the market or
expand clearing offerings, price competition would increase and costs
for customers would be expected to decrease.
---------------------------------------------------------------------------
\131\ FCMs provide their customers with access to DCOs in their
capacity as DCO clearing members.
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With regard to JBA's comment, in light of the fact that there are
only three swaps covered by the determination that are currently
offered for clearing by solely one DCO (MXN-denominated fixed-to-
floating interest rate swaps, currently offered for clearing only at
CME; and AUD- and CAD-denominated OIS, currently offered for clearing
only at LCH), and LCH and CME have indicated that they intend to begin
offering to clear each of these swaps, respectively, before the end of
2016, the Commission believes that JBA's competitive concerns about
only one DCO offering a particular swap will be largely addressed.
While not explicitly addressing the fourth factor under section
2(h)(2)(D)(ii) of the CEA, ISDA expressed concern about how the
clearing requirement for AUD- and HKD-denominated interest rate swaps
might affect competition due to the fact that the Commission exempted
ASX and OTC Clearing Hong Kong from DCO registration, meaning that they
may clear these swaps for U.S. proprietary accounts but not for U.S.
customer accounts.\132\ As stated in note 127 above, the Commission
notes that these entities could apply to the Commission for DCO
registration in order to clear for U.S. customer accounts should they
decide to pursue that line of business at any time in the future.
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\132\ Commission regulation 1.3(y) defines proprietary account,
and Commission regulation 1.3(gggg) defines customer account.
---------------------------------------------------------------------------
Citadel's comments suggest that extinguishing bilateral
counterparty credit exposure and eliminating complex bilateral trading
documentation for swaps subject to a clearing requirement enables
market participants to access a wider range of execution counterparties
and encourages the entry of new liquidity providers.\133\ In Citadel's
view, competition among FCMs is more relevant to ensuring that the
overall fees and charges applied to clearing are set at a reasonable
level. In addition, the imposition of a clearing requirement may itself
create the commercial rationale for another DCO or FCM to launch or
expand its clearing offering. Under this view, price competition tends
to increase, execution costs for investors and customers tend to
decrease, and overall market liquidity would therefore improve for the
swaps subject to the clearing requirement.\134\
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\133\ Commission regulation 39.12(b)(6) requires a DCO to
establish rules providing that upon acceptance of a swap for
clearing, the original swap is extinguished and replaced by an equal
and opposite swap between the DCO and each clearing member acting as
principal for a house trade or acting as agent for a customer trade.
This process extinguishes counterparty credit risk between the
original executing counterparties.
\134\ See section V for additional discussion on the
implications of clearing fees. In the aggregate clearing fees may go
up, but clearing fees as measured by per unit cost may go down after
the implementation of a new clearing requirement determination.
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For the reasons described above and in light of the comments
received, the Commission concludes that it has considered the effect of
the expanded clearing requirement on competition and found that it
potentially could impact competition within the affected market, but
anticompetitive behavior is likely to be constrained and demand for
clearing services is expected to grow. Accordingly, the Commission
reaffirms its conclusion stated in the NPRM that its consideration of
competitiveness is sufficient to expand the clearing requirement to
include the swaps subject to this rulemaking, which are referenced in
revised regulation 50.4(a).
e. Factor (V)--Legal Certainty in the Event of Insolvency
Section 2(h)(2)(D)(ii)(V) of the CEA requires the Commission to
take into account the existence of reasonable legal certainty in the
event of the insolvency of the relevant DCO or one or more of its
clearing members with regard to the treatment of customer and swap
counterparty positions, funds, and property. The Commission is issuing
this clearing requirement based on its view that, as stated in the
NPRM, there is reasonable legal certainty with regard to the treatment
of customer and swap counterparty positions, funds, and property in
connection with cleared
[[Page 71222]]
swaps, namely the fixed-to-floating interest rate swaps, basis swap,
OIS, and FRAs subject to this determination, in the event of the
insolvency of the relevant DCO or one or more of the DCO's clearing
members.\135\
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\135\ In this case, the relevant DCOs are CME, LCH, and SGX. The
Commission is not discussing Eurex in terms of this factor because
Eurex's DCO registration order does not currently permit Eurex to
clear for customers. See Eurex DCO registration order, available at:
http://www.cftc.gov/idc/groups/public/@otherif/documents/ifdocs/orgdcoeurexclrorder212016.pdf.
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1. Applicable Legal Regime--U.S.
The Commission concludes that, in the case of a clearing member
insolvency at CME, where the clearing member is the subject of a
proceeding under the U.S. Bankruptcy Code, subchapter IV of Chapter 7
of the U.S. Bankruptcy Code (11 U.S.C. 761-767) and parts 22 and 190 of
the Commission's regulations would govern the treatment of customer
positions.\136\ Pursuant to section 4d(f) of the CEA, a clearing member
accepting funds from a customer to margin a cleared swap must be a
registered FCM. Pursuant to 11 U.S.C. 761-767 and part 190 of the
Commission's regulations, the customer's interest rate swap positions,
carried by the insolvent FCM, would be deemed ``commodity contracts.''
\137\ As a result, neither a clearing member's bankruptcy nor any order
of a bankruptcy court could prevent CME from closing out/liquidating
such positions. However, customers of clearing members would have
priority over all other claimants with respect to customer funds that
had been held by the defaulting clearing member to margin swaps, such
as the interest rate swaps subject to this rulemaking.\138\ Thus,
customer claims would have priority over proprietary claims and general
creditor claims. Customer funds would be distributed to swap customers,
including interest rate swap customers, in accordance with Commission
regulations and section 766(h) of the Bankruptcy Code. Moreover, the
Bankruptcy Code and the Commission's rules thereunder (in particular 11
U.S.C. 764(b) and 17 CFR 190.06) permit the transfer of customer
positions and collateral to solvent clearing members.
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\136\ The Commission observes that an FCM or DCO also may be
subject to resolution under Title II of the Dodd-Frank Act to the
extent it would qualify as a covered financial company (as defined
in section 201(a)(8) of the Dodd-Frank Act). Under Title II,
different rules would apply to the resolution of an FCM or DCO.
Discussion in this section relating to what might occur in the event
an FCM or DCO defaults or becomes insolvent describes procedures and
powers that exist in the absence of a Title II receivership.
\137\ If an FCM also is registered as a broker-dealer, certain
issues related to its insolvency proceeding also would be governed
by the Securities Investor Protection Act.
\138\ Claims seeking payment for the administration of customer
property would share this priority.
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Similarly, 11 U.S.C. 761-767 and part 190 would govern the
bankruptcy of a DCO where the DCO is the subject of a proceeding under
the U.S. Bankruptcy Code, in conjunction with DCO rules providing for
the termination of outstanding contracts and/or return of remaining
clearing member and customer property to clearing members.
2. Applicable Legal Regime--U.K.
With regard to LCH, the Commission understands that the default of
a clearing member of LCH would be governed by LCH's rules. LCH, a DCO
based in the U.K., has represented that pursuant to European Union law,
LCH's rules would supersede English insolvency laws.\139\ Under its
rules, LCH would be permitted to close out and/or transfer positions of
a defaulting clearing member that is an FCM pursuant to the U.S.
Bankruptcy Code and part 190 of the Commission's regulations. According
to LCH's submission, the insolvency of LCH itself would be governed by
English insolvency law, which protects the enforceability of the
default-related provisions of LCH's rulebook, including in respect of
compliance with applicable provisions of the U.S. Bankruptcy Code and
part 190 of the Commission's regulations. LCH has obtained, and shared
with the Commission, legal opinions that support the existence of such
legal certainty in relation to the protection of customer and swap
counterparty positions, funds, and property in the event of the
insolvency of one or more of its clearing members.\140\
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\139\ The U.K. is bound by European Union legislation, including
the Settlement Finality Directive (Council Directive 98/26/EC). The
U.K.'s implementing legislation (The Financial Markets and
Insolvency (Settlement Finality) Regulations 1999) acts to disapply,
in certain instances, national U.K. insolvency law in favor of the
rules of a designated system, and LCH has been so designated.
\140\ Letters of counsel on file with the Commission.
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The Commission also considered the implications of the U.K.'s
recent referendum vote to withdraw from the European Union. The terms
of any such withdrawal cannot be known at this time. Negotiations have
not begun, and the U.K. has not yet given notice under Article 50 of
the Treaty on the European Union to begin the withdrawal process. Thus,
there is no indication at this time that there will be changes to the
U.K.'s financial regulation regime that is based on European Union law.
On June 24, 2016, the day after the vote, the Bank of England Governor
Mark Carney indicated that the Bank of England's responsibilities for
monetary and financial stability were unchanged by the referendum's
result.\141\ In addition, the U.K.'s Financial Conduct Authority issued
a statement confirming that U.K. financial regulation derived from
European Union legislation would ``remain applicable until any changes
are made.'' \142\
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\141\ Bank of England, Governor Mark Carney's statement
following EU referendum result (June 24, 2016), available at: http://www.bankofengland.co.uk/publications/Documents/news/2016/056.pdf.
\142\ U.K. Financial Conduct Authority, Statement on European
Union referendum result (June 24, 2016), available at: https://www.fca.org.uk/news/european-union-referendum-result-statement.
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LCH has advised the Commission that it does not anticipate
proposing any changes to its rulebook in light of the referendum, nor
does it anticipate any changes to applicable law at this time. The
Commission therefore expects LCH's legal opinions related to insolvency
to remain valid until further notice and expects that a default of a
clearing member of LCH will continue to be governed by LCH's rules. The
Commission will continue to monitor developments related to the U.K.
referendum.
3. Applicable Legal Regime--Singapore
With regard to SGX, the Commission understands that the default of
an SGX clearing member, or SGX itself, would be governed by Singapore
law, except for certain SGX rules relating to cleared swaps customer
collateral, as part 22 of the Commission's regulations defines that
term, which are governed by U.S. law. Like LCH, SGX has obtained, and
shared with the Commission, a legal opinion that support the existence
of such legal certainty.\143\
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\143\ Letter of counsel on file with the Commission.
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4. Comments Received
Better Markets and Citadel commented that they agree with the
Commission that reasonable legal certainty exists in the event of an
insolvency of a DCO or one or more of its clearing members with respect
to the interest rate swaps covered by the NPRM. Citadel noted that the
legal framework set forth in the CEA, the U.S. Bankruptcy Code, and
Commission regulations applies equally to any swap cleared by a DCO.
Citadel believes that the implementation of the Dodd-Frank Act has
strengthened this legal framework. The Commission received no other
comments related to legal certainty in the event of insolvency.
[[Page 71223]]
For the reasons described above and in light of the comments
received, the Commission reaffirms its conclusion stated in the NPRM
that reasonable legal certainty exists in the event of the insolvency
of each of the relevant DCOs or one or more of their clearing members
with regard to the treatment of customer and swap counterparty
positions, funds, and property to expand the clearing requirement so
that it includes the swaps subject to this rulemaking, which are
referenced in revised regulation 50.4(a).
C. Generally Applicable Comments
The Commission received a number of generally applicable comments
that are separated into three broad topics for discussion below: (i)
Access to DCOs, (ii) additional data considered by the Commission in
response to ISDA's request, and (iii) the Commission's trade execution
requirement.
i. Access to DCOs
JBA raised concerns about possibly needing to establish a clearing
relationship with a new DCO in order to comply with the proposed
expanded clearing requirement.\144\ In light of the fact that there are
only three swaps covered by the determination that currently are
offered for clearing by solely one DCO (MXN-denominated fixed-to-
floating interest rate swaps, currently offered for clearing only at
CME; and AUD- and CAD-denominated OIS, currently offered for clearing
only at LCH), and LCH and CME have indicated that they intend to begin
offering to clear each of these swaps, respectively, before the end of
2016, the Commission believes that JBA's concerns about a swap market
participant having to establish a new clearing arrangement even if the
participant already has a clearing arrangement in place at CME or LCH
will be largely addressed. For certain products, if market participants
do not have clearing arrangements in place at CME or LCH, they may need
to establish a new clearing arrangement (either as a clearing member or
as a customer of a clearing member) at one of those DCOs.
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\144\ See also discussion of JBA's comment in section II.B.iii.
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CME Group raised concerns about market participants being able to
establish an account with a clearing member. In response to comments
about access to DCOs, the Commission notes, as it did in the First
Clearing Requirement Determination, that any market participant may
petition for relief under Commission regulation 140.99 if the entity is
unable to find an FCM to clear its swaps or if it needs additional time
to complete requisite documentation.\145\
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\145\ First Clearing Requirement Determination, 77 FR at 74320.
See also further discussion of this issue in the cost benefit
consideration section below.
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ii. Additional Data Considered by the Commission
One commenter, ISDA, raised an issue about the type of data and
analysis included in the NPRM. In its comment letter, ISDA said that
based on the data presented in the NPRM, ``it is difficult to determine
the impact that the [clearing requirement expansion] would have on
market participants,'' particularly for ``market participants in an
individual jurisdiction.'' ISDA requested data on (1) the volume of
transactions entered into by entities subject to the CFTC's new
clearing requirement that currently enter into swaps subject to this
rulemaking on an uncleared basis, and (2) the percentage of each swap
subject to this rulemaking that is cleared voluntarily, on a
jurisdiction-by-jurisdiction basis.
The Commission notes that ISDA's suggested data analysis is not
specifically required under the five statutory factors that the
Commission must consider when making a clearing requirement
determination, as outlined in sections 2(h)(2)(D)(ii)(I)-(V) of the
CEA.\146\ Furthermore, the Commission observes that it is difficult to
determine with precision, at this point in time, what effect a new,
expanded clearing requirement will have on market participants because
some may choose to clear their transactions for the risk-reducing
benefits of clearing, regardless of whether the Commission adopts a new
clearing requirement for such swaps.\147\ Nonetheless, the Commission
considered relevant, publicly available data and conducted an analysis
in order to address, and respond to, the concerns expressed in ISDA's
comment letter. This data and analysis is described below.
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\146\ The Commission's analysis and data used to support its
assessment of each of the five factors is discussed in section
II.B.iii.
\147\ It is also possible that some market participants would
respond to the new clearing requirement by decreasing their use of
such swaps. See also the discussion in section V.B.ii.
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a. Data Analysis
Recognizing that the interest rate swaps market is global and
market participants are interconnected, the Commission reviewed
worldwide data collected in the BIS triennial central bank survey for
interest rate derivatives \148\ to consider further the effect that the
expanded clearing requirement could have on market participants (data
from this survey also is presented in Table 5 above). Table 16 shows
the daily average turnover of OTC single currency interest rate
derivatives, in each of the nine additional currencies, by currency and
by country.\149\
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\148\ BIS data refers to interest rate derivatives transactions,
which include forward rate agreements, interest rate swaps, and
interest rate options. For the purposes of this discussion on BIS
data, the Commission uses the term ``interest rate derivatives''
because that is the terminology used by BIS to describe the interest
rate swaps market. A description of the instruments included in the
BIS' Triennial Survey results is included in the BIS Triennial Bank
Survey, OTC interest rate derivatives turnover in April 2013:
preliminary global results (Sept. 2013), at 14, available at http://www.bis.org/publ/rpfx13ir.pdf.
\149\ ISDA requested data based on ``jurisdiction'' and the BIS
reports its data by ``country.'' For purposes of this analysis and
discussion, the terms ``country'' and ``jurisdiction'' can be
understood to mean the same thing. Furthermore, a market for a swap
denominated in a particular currency can be understood to include
both trading in the home country for that currency and trading
outside of the home country for that currency.
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[[Page 71224]]
[GRAPHIC] [TIFF OMITTED] TR14OC16.000
In addition to the data on a jurisdiction-by-jurisdiction basis,
Table 16 includes calculations by Commission staff \152\ presented in
order to convey the relative amount of swaps activity taking place in
each jurisdiction, as compared to other jurisdictions and the U.S.\153\
As this BIS data demonstrates, the turnover in each of the nine
additional currencies represents a small percentage of the overall
interest rate derivatives turnover in the U.S. market, especially as
compared with the USD-denominated swaps subject to the First Clearing
Requirement Determination.\154\ The data also shows that for most of
these currencies, a significant percentage of the activity in the
derivatives denominated in a particular currency occurs in the home
country that issues that currency.
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\150\ BIS Triennial Central Bank Survey, Interest Rate
Derivatives Market Turnover in 2013, Tables 3.1-3.6 (Dec. 2013),
available at: http://www.bis.org/publ/rpfxf13irt.pdf; CFTC staff
calculations.
\151\ Data as of April 2013. BIS converted the figures to USD.
\152\ Commission staff calculated percentages reflected in
column B and rows E, G, and H.
\153\ The Commission notes that similar BIS data was presented
in ESMA's Consultation Paper on the Clearing Obligation under EMIR
(no.4), at 26, available at: https://www.esma.europa.eu/sites/default/files/library/2015/11/esma-2015-807_-_consultation_paper_no_4_on_the_clearing_obligation_irs_2.pdf.
\154\ Based on the same data from the BIS Triennial Central Bank
Survey, Interest Rate Derivatives Market Turnover in 2013, the
following represent percentages of turnover for each of the
currencies that were subject to the Commission's First Clearing
Requirement Determination: Turnover of USD-denominated interest rate
derivatives represented 86.96% of the U.S. market; turnover of EUR-
denominated interest rate derivatives represented 4.31% of the U.S.
market; turnover of GBP-denominated interest rate derivatives
represented 0.50% of the U.S. market; and turnover of JPY-
denominated interest rate derivatives represented 0.69% of the U.S.
market.
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According to Row E in Table 16, anywhere from 18% to 70% of the
interest rate derivatives denominated in a particular currency are
transacted in the home country that issued the currency. The percentage
of activity that occurs in the home country supports the decision made
by each domestic authority to establish a clearing mandate for
particular interest rate swaps denominated in that currency. But in
each case, there also is measurable trading activity taking place
outside of the home country jurisdiction.
In terms of which market participants are trading in particular
markets, the BIS data available does not categorize the daily average
turnover by transactions entered into by U.S. or non-
[[Page 71225]]
U.S. market participants. As a result, the Commission cannot estimate
precisely what portion of these transactions would be subject to this
clearing requirement determination based on the BIS data. However, the
estimated overall percentage of activity in the U.S. is shown in Rows G
and H. In April 2013, the interest rate derivatives denominated in the
currencies subject to this rulemaking represented between 0.02% and
2.84% of the total U.S.-based interest rate derivatives market (i.e.,
the amount of daily average turnover that BIS estimated was taking
place in the U.S.). The Commission recognizes that the interest rate
derivatives transacted in the nine additional currencies do not
represent a large percentage of the overall U.S. market for interest
rate swaps, but the levels transacted are significant in the specific
market for each currency.\155\
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\155\ For example, daily average turnover in MXN-denominated
interest rate derivatives in the U.S. represented only 1.44% of the
daily average turnover of all interest rate derivatives in the U.S.
during April 2013 but represented 74% of the MXN-denominated
interest rate derivatives market globally.
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b. Policy Considerations
Foreign jurisdictions have expressed concern that potential market
dislocation and competitive disadvantage may result if there is no U.S.
clearing requirement covering the same swaps that are mandated to be
cleared by non-U.S. jurisdictions. This concern is driven by the fact
that a market participant's choice in counterparty may be influenced by
the existence or absence of a clearing requirement. Similarly, from the
U.S. perspective, distortion of market participants' choices could be
competitively detrimental to the extent that U.S. market participants
are subject to a clearing requirement under U.S. law, but their
competitors in a foreign jurisdiction are not. Recognizing this
concern, international authorities agreed to harmonize clearing
mandates across jurisdictions to the extent practicable and as
appropriate.\156\
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\156\ See, e.g., Report of the OTC Derivatives Regulators Group
(ODRG) to G20 Leaders on Cross-Border Implementation Issues,
November 2015, available at: http://www.cftc.gov/idc/groups/public/@internationalaffairs/documents/file/odrgreportg20_1115.pdf (``ODRG
members previously agreed to a framework for consulting one another
on mandatory clearing determinations, with the aim of harmonizing
mandatory clearing determinations across jurisdictions to the extent
practicable and as appropriate, subject to jurisdictions'
determination procedures. Inconsistent clearing mandates across
jurisdictions may create the potential for regulatory arbitrage.
ODRG members are considering ways to enhance the existing framework
for such cooperation.'')
---------------------------------------------------------------------------
Another variable that likely is affecting decisions made by both
U.S. and non-U.S. market participants vis-[agrave]-vis central clearing
is the imposition of margin for uncleared swaps. The new uncleared
margin regulations began phasing in on September 1, 2016.\157\ To the
extent that market participants have a choice of counterparties, and
perceive the costs of maintaining uncleared transactions to be lower
than the costs of clearing, market participants may choose to transact
with counterparties that are not subject to mandatory clearing.
Conversely, if market participants view the costs of clearing as less
than the costs of margining their uncleared swaps then there will be an
incentive to clear regardless of whether it is required under CFTC
regulations or not.
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\157\ See section V.C.ii for a discussion about the costs
related to collateralization of cleared swaps positions compared to
the costs of complying with the uncleared swap margin regulations.
---------------------------------------------------------------------------
The Commission cannot predict exactly how market participants will
be affected by the implementation of an analogous clearing requirement
in the U.S., particularly in the current environment where multiple,
changing factors, including new margin requirements, may influence a
market participant's decision about whether to clear a swap. The
Commission and its staff are committed to monitoring market activity in
order to assess the impact of its regulations on market behavior. In
its ongoing work, the Commission intends to rely on publicly available
data, such as the forthcoming BIS triennial survey, as well as the data
market participants report to SDRs under part 45 of the Commission's
regulations.
iii. Trade Execution Requirement
Three comment letters discussed the possibility of a trade
execution requirement concerning some or all of the interest rate swaps
subject to this rulemaking.\158\ ISDA expressed concern that an
expanded clearing requirement could lead to new trade execution
requirements for swaps that have limited liquidity. Consequently, ISDA
urged the Commission to take any available steps to ensure that a trade
execution requirement applies only to swaps with sufficient trading
liquidity. Finally, ISDA expressed particular concern about the
interpretation of the term ``U.S. person'' described in the
Commission's cross-border guidance concerning swaps regulations,\159\
which ISDA asserted could lead to a potentially detrimental impact on
trading liquidity outside the U.S., including possible market
fragmentation.
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\158\ Pursuant to section 2(h)(8) of the CEA, once a swap is
subject to a Commission-issued clearing requirement, then a market
participant must execute the swap on a SEF or DCM, if a SEF or DCM
makes the swap available to trade (``made-available-to-trade''). The
Commission issued regulations 37.10 and 38.12 to implement the trade
execution requirement.
\159\ Interpretive Guidance and Policy Statement Regarding
Compliance with Certain Swap Regulations, 78 FR 45292 (July 26,
2013).
---------------------------------------------------------------------------
SIFMA AMG commented that the Commission should temporarily suspend
acceptance of ``made-available-to-trade'' submissions, under Commission
regulations 37.10 and 38.12, for swaps covered by the expanded clearing
requirement until amendments to the made-available-to-trade process
have been adopted. SIFMA AMG provided five specific comments on how the
made-available-to-trade regulations should be amended.
Finally, Citadel commented that the Commission should proceed with
finalizing the expanded clearing requirement despite the ongoing
discussions regarding a revised made-available-to-trade process.
As the Commission stated in the NPRM, pursuant to section 2(h)(8)
of the CEA and Commission regulations 37.10 and 38.12, a trade
execution requirement could, in the future, apply to some or all of the
interest rate swaps covered by this rulemaking.\160\ The process for
determining which swaps are subject to the trade execution requirement
is separate from the clearing requirement determination process.
Therefore, it is beyond the scope of this rulemaking for the Commission
to address the suitability of particular swaps for a trade execution
requirement or to address issues related to the ``made-available-to-
trade'' process.
---------------------------------------------------------------------------
\160\ 81 FR at 39516, n. 66.
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III. Expanded and Amended Regulation 50.4(a)
The Commission promulgated regulation 50.4 in 2012 when it issued
the First Clearing Requirement Determination, which applied to certain
interest rate swaps and credit default swaps.\161\ Regulation 50.4 sets
forth the basic specifications of the classes of swaps that the
Commission requires to be cleared in order to allow counterparties
contemplating entering into a swap to quickly determine whether or not
the particular swap may be subject to a clearing requirement.\162\
Paragraph (a) of regulation 50.4 sets forth the four classes of
interest rate
[[Page 71226]]
swaps that are currently required to be cleared.
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\161\ First Clearing Requirement Determination, 77 FR 74284
(Dec. 13, 2012).
\162\ Id.
---------------------------------------------------------------------------
For the reasons discussed above, the Commission has decided to
expand regulation 50.4(a) as proposed, with the exception of not
adopting a requirement to clear AUD-denominated FRAs. Thus the
Commission is adopting amendments to regulation 50.4(a) as follows: (i)
Adding fixed-to-floating interest rate swaps denominated in the nine
additional currencies; (ii) adding AUD-denominated basis swaps; (iii)
adding NOK-, PLN-, and SEK-denominated FRAs; (iv) changing the maximum
stated termination date for USD-, GBP-, and EUR-denominated OIS to
three years from two years; and (v) adding AUD- and CAD-denominated
OIS. The specifications of the swaps set forth in revised regulation
50.4(a) are consistent with those that are the subject of clearing
requirements proposed or issued by other jurisdictions.\163\
---------------------------------------------------------------------------
\163\ See discussion of clearing requirements in other
jurisdictions in section I.C.
---------------------------------------------------------------------------
In its comment letter, Scotiabank suggested that four of the
specifications in proposed regulation 50.4(a) describing MXN-
denominated fixed-to-floating interest rate swaps should be finalized
differently from the specifications proposed. For the reasons described
below, the Commission has decided to finalize the specifications as
proposed.
First, Scotiabank suggested that the floating rate index should be
described as ``TIIE 28'' instead of ``TIIE'' \164\ because the Mexican
clearing requirement covers swaps referencing the 28-day average
Mexican interbank interest rate. The Commission agrees that ``TIIE 28''
is the rate referenced in the Mexican clearing requirement, and it is
also the rate to which amended regulation 50.4(a) is intended to refer.
The Commission understands that (1) the 28-day average is the rate
referenced by the MXN-denominated fixed-to-floating interest rate swaps
accepted for clearing at CME; and (2) the 28-day average is the rate
specified in the MXN-denominated fixed-to-floating interest rate swaps
that will be offered for clearing at LCH. Therefore, the Commission
intends for ``TIIE-BANXICO'' in amended regulation 50.4(a) to refer to
the 28-day TIIE.\165\ However, the Commission is opting to finalize the
description of that rate without specifying the particular version of
floating rates because it has not done so with regard to the other
rates referenced in regulation 50.4(a), such as 3-month LIBOR or 6-
month LIBOR.
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\164\ ``TIIE'' refers to the Mexican interbank equilibrium
interest rate.
\165\ In this final rulemaking, regulation 50.4(a) is amended to
specify the ``TIIE-BANXICO'' rate instead of ``TIIE,'' as was
proposed in the NPRM. CME's regulation 39.5(b) submission specified
the ``TIIE-BANXICO'' rate. LCH's offering in MXN-denominated fixed-
to-floating swaps will reference this same rate. The Commission
observes that ``TIIE'' and ``TIIE-BANXICO'' both refer to the same
rate; ``BANXICO'' simply refers to the Banco de Mexico, which
calculates the ``TIIE.''
---------------------------------------------------------------------------
Second, Scotiabank commented that the maximum termination date
range for MXN-denominated fixed-to-floating interest rate swaps covered
by expanded regulation 50.4(a) should be 30 years in order to match the
exact product specifications of the Mexican clearing requirement,
instead of 21 years, as the Commission proposed. The Commission notes
that CME, the only registered DCO currently offering to clear these
swaps, offers to clear swaps having a maximum term of 21 years.
Therefore, the Commission is finalizing the termination date range as
proposed.
Third, Scotiabank suggested that MXN-denominated fixed-to-floating
interest rate swaps subject to the Commission's clearing requirement
should cover only swaps having notional amounts in multiples of MXN
100,000 because Asigna, a Mexican clearinghouse, offers to clear only
swaps having such notional amounts.\166\ However, because CME's product
specifications do not limit clearing MXN-denominated fixed-to-floating
interest rate swaps to notional amounts in multiples of MXN 100,000,
the Commission does not believe that it is necessary to limit
regulation 50.4(a) in this manner.
---------------------------------------------------------------------------
\166\ Asigna is not a Commission-registered DCO, and the
Commission has not exempted Asigna from registration under section
5b(h) of the CEA.
---------------------------------------------------------------------------
Fourth, Scotiabank suggested that the MXN-denominated fixed-to-
floating interest rate swaps subject to the Commission's clearing
requirement should contain an exception for counterparties having ``low
net exposure,'' in order to match the Mexican clearing requirement. As
an initial matter, section 2(h) of the CEA defines the participant
scope of the Commission's clearing requirement: All swap market
participants are expected to comply with a Commission-issued clearing
requirement, except for certain non-financial end-users.\167\ The
Commission has implemented this statutory exception, along with other
limited exemptions, in subpart C of part 50. This statutory and
regulatory framework does not contemplate exclusions based on level of
market activity, and the Commission believes it would not be
appropriate to deviate from this framework for the MXN-denominated
fixed-to-floating interest rate swaps subject to this rulemaking.
---------------------------------------------------------------------------
\167\ Section 2(h)(7) of the CEA.
---------------------------------------------------------------------------
In their comment letters, JBA and Scotiabank requested confirmation
that a market participant subject to the expanded clearing requirement
would be required to clear swaps subject to this final rulemaking that
are executed on or after the effective date of the final rulemaking,
but not be required to backload swaps executed prior to that date. In
response to this comment, the Commission confirms, as it did in the
First Clearing Requirement Determination, that market participants will
not be required to clear swaps subject to this rulemaking that are
executed prior to the effective date of this final rulemaking.\168\ In
addition, the Commission will not require the backloading of swaps
subject to this rulemaking that are executed after the effective date
but before the applicable compliance date for this final rulemaking.
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\168\ See Commission regulation 50.5(b) (exempting from required
clearing those swaps that are entered into after July 21, 2010 (the
enactment date of the Dodd-Frank Act) but ``before the application
of the clearing requirement for a particular class of swaps under
Sec. Sec. 50.2 and 50.4 of this part''). See also implementation
schedule described in section IV.
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IV. Implementation Schedule
In the NPRM, the Commission stated that it did not intend to rely
upon its schedule for phasing-in the clearing requirement by market
participant type, as codified in Commission regulation 50.25 and relied
upon for the First Clearing Requirement Determination. The Commission
further proposed two alternative methods for establishing a CFTC
clearing requirement compliance date.
The Commission received comments on four aspects of the overall
proposed implementation schedule. First, commenters discussed whether
the Commission should offer a compliance date phase-in by market
participant type. The Commission addresses these comments in section
IV.A below. Second, commenters discussed whether the Commission should
adopt a single compliance date for all products subject to this
determination, or whether the Commission should adopt compliance dates
based on the effective date of a non-U.S. jurisdiction's clearing
mandate. The Commission addresses these comments in section IV.B below.
Third, commenters requested clarifications on a number of discrete
points related to the implementation schedule. The Commission addresses
these comments in section IV.C below. Finally, commenters discussed
whether
[[Page 71227]]
the Commission should change the scope of its clearing requirement to
match the categories of market participants that are required to clear
the products under a non-U.S. jurisdiction's clearing requirement. The
Commission addresses these comments in section IV.D below.
A. No Compliance Date Phase-In by Type of Market Participant
The Commission proposed adopting one compliance date for all market
participant types, rather than rely on the phase-in schedule codified
in regulation 50.25.\169\ The Commission has decided that because many
market participants are currently clearing the products subject to this
determination and because the Commission previously adopted a clearing
requirement determination for the class of interest rate swaps subject
to this final rulemaking, there is no need to phase-in the compliance
dates by type of market participant.\170\ A number of commenters agreed
with the Commission's position and advocated for a compliance date
without a phase-in by market participant type.
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\169\ See Swap Transaction Compliance and Implementation
Schedule: Clearing Requirement Under Section 2(h) of the CEA, 77 FR
44441 (July 30, 2012), [hereinafter referred to as the
Implementation Release].
\170\ In the Implementation Release, the Commission stated that
the ``use of the schedule contained in this [release] is at the
Commission's discretion; in situations where the Commission
determines that the benefits of delayed implementation do not
justify the additional costs of such a delay, the Commission may
require immediate compliance. . . .'' 77 FR 44441, 44450 (July 30,
2012).
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i. Comments Received
MFA supported the Commission's proposal not to phase-in the
compliance date by market participant type and agreed that market
participants are ready, willing, and able to clear the swaps subject to
this rulemaking. Citadel agreed with the Commission's position that the
phase-in by counterparty type is not necessary. Citadel pointed out
that because market participants, in most cases, have established
clearing arrangements with DCOs and are familiar with the process of
central clearing, there is no need to delay compliance dates by
including a phase-in by market participant type. LCH Group commented
that while the use of a compliance date phase-in by market participant
type was successful in connection with the Commission's First Clearing
Requirement Determination, it would not be equally beneficial in this
context.
Of the two commenters that requested a compliance date phase-in by
market participant type, one thought that market participants would be
unable to comply with the clearing requirement in the time frame
established. ISDA urged the Commission to adopt an implementation
schedule that incorporates the 270-day phase-in schedule outlined in
Commission regulation 50.25. ISDA expressed concern about the
consequences for entities that currently may not be subject to an
analogous clearing mandate outside of the U.S. in terms of addressing
legal, documentation, operational, and other considerations. SIFMA AMG
also recommended that the Commission use a phase-in schedule by market
participant type, but did not specify a reason for this recommendation.
The Commission recognizes that the compliance date phase-in by
market participant type was beneficial in the context of the First
Clearing Requirement Determination. However, because market
participants are experienced in clearing USD, EUR, GBP, and/or JPY-
denominated interest rate swaps and there is a substantial amount of
voluntary clearing activity in the swaps subject to this rulemaking,
the Commission has decided that there is no need to phase-in the
compliance dates for this clearing requirement by market participant
type in accordance with regulation 50.25 or otherwise. Regulation 50.25
provides the Commission with the discretion to phase in compliance.
Regulation 50.25(b) provides that upon issuing a clearing requirement
determination under section 2(h)(2) of the CEA, the Commission may
determine, based on the group, category, type, or class of swaps
subject to such determination, that the specified schedule for
compliance with the requirements of section 2(h)(1)(A) of the CEA shall
apply.
A broad cross-section of market participants, including both direct
clearing members and their clients or customers, has experience
clearing the four classes of interest rate swaps under regulation
50.4(a) and has been clearing certain swaps subject to this final
rulemaking on a voluntary basis. The Commission believes that most
market participants that would be subject to the expanded clearing
requirement already clear, or have clearing service arrangements in
place to clear, the types of interest rate swaps subject to the
existing clearing requirement. The Commission does not expect that
these types of market participants, for the most part, would need to
establish connectivity to DCOs, document new client clearing
arrangements, or otherwise prepare themselves and/or their customers in
order to comply with this clearing requirement determination as they
may have needed to do in order to comply with the First Clearing
Requirement Determination. The Commission will consider carefully any
concerns raised by market participants that cannot gain access to a DCO
in order to clear swaps subject to this rulemaking before an applicable
compliance date.
The Commission received similar comments concerning the difficulty
market participants may have in accessing DCOs and establishing
relationships with FCMs at the time it was considering the First
Clearing Requirement Determination. In response to those comments, the
Commission noted that ``any market participant may petition for relief
under regulation 140.99 if that entity is unable to find an FCM to
clear its swaps or if it needs additional time to complete requisite
documentation.'' \171\ If a market participant is unable to find an FCM
to clear its swaps, the Commission reaffirms the fact that market
participants may petition for relief under regulation 140.99.\172\
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\171\ First Clearing Requirement Determination, 77 FR at 74320
and n.172.
\172\ Commission regulation 140.99 sets forth the process for
addressing requests for exemptive, no-action, and interpretative
letters.
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B. Compliance Date Tied to a Non-U.S. Jurisdiction Clearing Requirement
The Commission proposed two alternative implementation scenarios in
the NPRM. Under the first scenario, all swaps subject to this
rulemaking would be required to be cleared on the same date--60 days
after the final rulemaking is published in the Federal Register
(Scenario I). Under the second scenario, the compliance date for each
swap product would be the earlier of: (a) 60 days after the effective
date of an analogous clearing mandate adopted by a regulator in a non-
U.S. jurisdiction, provided that such requirement would not be
effective until at least 60 days after the Commission's final rule is
published in the Federal Register, and (b) two years after the
Commission's final rule is published in the Federal Register (Scenario
II).
After reviewing comments on the two implementation scenarios
proposed, the Commission has determined that it will adopt Scenario II
and will tie the CFTC's compliance date for each product to the first
compliance date for a market participant in a non-U.S. jurisdiction.
[[Page 71228]]
i. Comments Received
The Commission received eight comments on whether to implement
Scenario I or Scenario II. MFA supported Scenario I because it would
allow the Commission to move forward promptly with expanding the
clearing requirement for the products subject to this determination.
MFA noted that Scenario II was a reasonable option, but preferred
Scenario I. Citadel stated that Scenario I was realistic and concluded
that most market participants were prepared for the clearing
requirement and had infrastructure in place to comply. Scenario I
received support for its simple application and because it would bring
the clearing requirement into force for certain products more quickly
than under Scenario II. While the Commission agrees with these points,
and notes that Scenario I would provide market participants with
certainty and simplicity, it has decided to adopt Scenario II.
To the extent practicable, the Commission believes it is important
to account for non-U.S. jurisdictions' timelines for mandating clearing
when imposing a compliance date for U.S. market participants. The
implementation schedule under Scenario II will provide flexibility for
market participants, will facilitate compliance by phasing-in the
clearing requirement by specific product, and will further the
Commission's goals of harmonizing clearing requirements with those
abroad.
Six commenters supported adoption of implementation Scenario II.
JBA requested that the Commission adopt Scenario II in order to promote
market liquidity and stability and to harmonize with clearing
requirements issued by non-U.S. jurisdictions. ASX advocated for the
Commission to adopt Scenario II to minimize any potential disruptions
caused by differences in implementation timing of clearing mandates
across jurisdictions. ISDA preferred Scenario II on the grounds that it
would promote global harmonization and is consistent with maximizing
liquidity and reducing risk. SIFMA AMG recommended Scenario II because
it would further the Commission's efforts to harmonize with other
jurisdictions. LCH Group agreed with the Commission that Scenario II
would provide flexibility and certainty and would foster further
international harmonization of adoption of clearing requirements.
Finally, CME Group stated that the Commission should work cooperatively
with regulators in other jurisdictions and that it supports the
extension of the Commission's clearing requirement determination where
it is necessary for global harmonization.
The Commission has determined that Scenario II will be used to
determine compliance dates for market participants subject to the
Commission's clearing requirements (hereinafter referred to as the
Implementation Schedule). Thus, the Commission's clearing requirement
compliance date for each interest rate swap product covered by this
determination will be the earlier of: (i) The first date that U.S.
markets are open 60 calendar days after any person is first required to
comply with an analogous clearing requirement that has been adopted by
a regulator in a non-U.S. jurisdiction, provided that any such date for
any swap covered by the final rule shall not be earlier than the date
which is 60 calendar days after the Commission's final rule is
published, or (ii) the first date U.S. markets are open two years after
the Commission's final rule is published in the Federal Register. If
the clearing requirement compliance date falls on a Saturday, Sunday,
or U.S. federal public holiday, the compliance date shall be the next
available business day. No compliance date shall be set on a day when
markets are not open in the U.S.
C. Clarifications to the Implementation Schedule
A number of commenters raised questions about details in the
Commission's proposed implementation schedule, as it was described in
the NPRM. The Commission responds below to each of the comments and
provides clarifications to the Implementation Schedule, as appropriate.
i. Comments Received--60-Day Delay
SIFMA AMG suggested that the Commission extend the time period that
will elapse between a non-U.S. jurisdiction adopting a clearing mandate
and the Commission's implementation of a compliance date for swaps
subject to amended regulation 50.4(a). Specifically, SIFMA AMG
recommended that the Commission wait 180 days after an effective date
in a non-U.S. jurisdiction before requiring compliance with this final
rulemaking.
The Commission has considered the timeframe necessary for U.S.
market participants to prepare for, and comply with, a clearing
requirement for the swaps subject to this determination and decided
that 60 calendar days will provide enough time for U.S. market
participants to comply.\173\ As noted above, the Commission does not
expect market participants to need significant, additional time to
prepare for this expansion of the clearing requirement because a number
of market participants clear these products already and/or are familiar
with clearing other interest rate swaps products.\174\
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\173\ The Commission is clarifying the language in this final
release to specify that the 60-day time period will be measured in
calendar days; however, the Commission's clearing requirement will
begin only on the next available business day. See Projected
Compliance Dates in section IV.E. This change was made in response
to one commenter's request to the Commission to clarify whether the
60-day delay (between the date on which a non-U.S. jurisdiction's
clearing requirement takes effect and the date that compliance will
be required with the Commission's clearing requirement) is measured
in calendar days or business days. See Scotiabank letter.
\174\ See also the discussion in section IV.A.
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ii. Comments Received--Effective Date is the First Date Upon Which a
Product is Required to be Cleared
Citadel asked the Commission to clarify how the Commission would
establish the ``effective date'' in a non-U.S. jurisdiction, which is
used to determine the CFTC compliance date. Citadel pointed out that
when a non-U.S. jurisdiction's uses of a phased-in compliance schedule
it could create ambiguity if the Commission's rule is not clarified.
The Commission recognizes that the term ``effective date'' can have
a different meaning in different jurisdictions based on local law and
procedure. Therefore, the Commission is clarifying that the CFTC's
clearing requirement will be based on the first date upon which any
person in the non-U.S. jurisdiction is initially subject to a clearing
mandate for new trades, i.e., any front-loading or back-loading
requirements if they take effect earlier would not be relevant for
purposes of the Implementation Schedule.
iii. Comments Received--Two-Year Time Limit
As proposed in the NPRM, Scenario II included a two-year time limit
providing that compliance with the expanded clearing requirement would
be required no later than two years after the final rule is published
in the Federal Register. The Commission received five comment letters
related to Scenario II's two-year time limit and certainty regarding
compliance dates.
MFA commented that, while it preferred Scenario I, Scenario II was
a reasonable option because the Commission included a two-year time
limit. In its comment letter, Citadel recognized the importance of
retaining the two-year time limit and noted that ``it is important to
retain an outer bound
[[Page 71229]]
of two years for when the final Commission rule may become effective in
order to provide certainty to market participants regarding
implementation.'' LCH Group supported Scenario II because ``this
approach provides flexibility and certainty . . . [that] . . . will
foster further international harmonization in the adoption of clearing
requirements.''
SIFMA AMG recommended that the Commission revise its proposed
implementation schedule to remove the ``proviso'' that would cause an
automatic effective date no later than two years after the date that
the final rulemaking is published in the Federal Register. SIFMA AMG
expressed concern based on the idea that ``clearing mandates [are]
being imposed on U.S. market participants in the name of harmonization
when there is ultimately no foreign clearing mandate with which to
harmonize.'' JBA noted that some uncertainty would remain even with a
schedule that implements all clearing requirements no later than two
years after publication, unless non-U.S. regulators align their
regulatory actions with the Commission's implementation schedule.
The Commission observes that since the publication of the NPRM,
significant progress has been made with regard to the status of
clearing requirements in almost all non-U.S. jurisdictions relevant to
this rulemaking. Five of the seven jurisdictions have established
compliance dates for their market participants to begin clearing
pursuant to their analogous clearing mandates. Only Singapore and
Switzerland have not yet finalized their clearing mandates and set
compliance dates.
In order to assure market participants that there will be a date
certain by which they will be required to comply with the clearing
requirement for these swaps, particularly for the SGD-denominated
fixed-to-floating and CHF-denominated fixed-to-floating interest rate
swaps, the Commission has decided to retain the two-year time limit in
the Implementation Schedule. In reaching this conclusion, the
Commission is cognizant of its obligations to provide legal certainty
under applicable statutory procedures. The Commission also recognizes
the importance of providing market participants with certainty about
compliance dates so that they can begin operational planning and
preparation for required clearing of all swaps subject to this final
rulemaking. To the extent that market participants need adequate time
to onboard clients and establish connectivity to eligible DCOs,
retaining the two-year time limit is important.
In finalizing this rulemaking, the Commission seeks to balance
flexibility with certainty in its Implementation Schedule. In the event
that Singapore and Switzerland do not finalize their clearing mandates
and set compliance dates within the two-year time limit, the Commission
and Commission staff would be open to considering options for modifying
the compliance deadline as necessary and appropriate.
D. Scope of Entities Subject to the Implementation Schedule
The Commission received a number of comments that requested an
analysis of the scope of entities subject to the non-U.S.
jurisdiction's clearing requirement and consideration of whether the
entities subject to the CFTC's clearing requirement were ``analogous.''
ASX suggested that the CFTC's assessment of analogous clearing
requirements in non-U.S. jurisdictions should include an analysis of
the classes of counterparties that are subject to such clearing
requirements. Scotiabank asked the Commission to consider the fact that
the Banco de M[eacute]xico's regulations contain an exception from the
clearing mandate for entities with low net derivatives exposure. And
ISDA pointed out that the scope of entities subject to a non-U.S.
clearing mandate may be narrower than the scope of market participants
subject to the Commission's clearing requirement rules under part 50.
By contrast, in its comment letter, Citadel cautioned that if the
Commission were to adopt rules that incorporated the entity scope of
each non-U.S. jurisdiction's clearing mandate, the U.S. framework would
``become a confusing patchwork of foreign regulation, compelling U.S.
market participants to apply different criteria on a currency-by-
currency basis to determine whether (and when) they are in-scope.''
As discussed above, section 2(h)(7) of the CEA sets forth the
participant scope for the clearing requirement: It shall be unlawful
for any person not to clear a swap if that swap is required to be
cleared, except if one of the counterparties to the swap meets certain
conditions enumerated in section 2(h)(7) of the CEA. The Commission has
implemented the statutory exception under section 2(h)(7), along with
other limited exemptions, in subpart C of part 50 of the Commission's
regulations. Based on this statutory and regulatory framework as well
as its consideration of the comments presented, the Commission confirms
that this final rulemaking applies to the same scope of market
participants to which Commission regulation 50.4(a) currently applies.
E. Projected Compliance Dates
The Commission has been monitoring, and will continue to follow
closely, clearing mandate developments in other jurisdictions that
relate to this clearing requirement determination. As discussed above,
the Commission's clearing requirement compliance date is specific to
each product and will be calculated by following the Implementation
Schedule presented herein. With respect to products that do not yet
have a compliance date set for an analogous clearing mandate in a non-
U.S. jurisdiction, the Commission is including the date that is two
years after the date of publication in the Federal Register. If a non-
U.S. jurisdiction modifies any existing initial clearing requirement
compliance date, or adopts a clearing requirement for either the CHF-
denominated fixed-to-floating interest rate swaps or the SGD-
denominated fixed-to-floating interest rate swaps that would require a
CFTC compliance date for a market participant earlier than two years
after the publication date in the Federal Register, then the Commission
staff will publish a press release on the CFTC's Web site setting forth
the Commission's clearing requirement compliance date for the relevant
interest rate swaps in advance of the date upon which compliance will
be required.
---------------------------------------------------------------------------
\175\ Section I.C. contains a more detailed discussion of the
regulatory regimes and compliance dates for mandatory clearing of
these products adopted by non-U.S. regulators.
---------------------------------------------------------------------------
Below is a chart identifying the projected compliance date for each
of the products subject to this determination.
[[Page 71230]]
------------------------------------------------------------------------
First clearing
requirement
compliance date CFTC clearing
Product in a non-U.S. requirement
jurisdiction compliance date
\175\
------------------------------------------------------------------------
AUD-denominated Fixed-to- April 4, 2016.... 60 days after
floating interest rate swap. publication of this
final rulemaking in
the Federal
Register.
CAD-denominated Fixed-to- May 9, 2017...... July 10, 2017.
floating interest rate swap.
CHF-denominated Fixed-to- None to date..... No later than 730
floating interest rate swap. days after
publication of this
final rulemaking in
the Federal
Register.
HKD-denominated Fixed-to- July 1, 2017..... August 30, 2017.
floating interest rate swap.
MXN-denominated Fixed-to- April 1, 2016.... 60 days after
floating interest rate swap. publication of this
final rulemaking in
the Federal
Register.
NOK-denominated Fixed-to- February 9, 2017. April 10, 2017.
floating interest rate swap.
PLN-denominated Fixed-to- February 9, 2017. April 10, 2017.
floating interest rate swap.
SEK-denominated Fixed-to- February 9, 2017. April 10, 2017.
floating interest rate swap.
SGD-denominated Fixed-to- None to date..... No later than 730
floating interest rate swap. days after
publication of this
final rulemaking in
the Federal
Register.
AUD-denominated basis swap.... April 4, 2016.... 60 days after
publication of this
final rulemaking in
the Federal
Register.
NOK-denominated FRA........... February 9, 2017. April 10, 2017.
PLN-denominated FRA........... February 9, 2017. April 10, 2017.
SEK-denominated FRA........... February 9, 2017. April 10, 2017.
EUR-denominated OIS (2-3 year June 21, 2016.... 60 days after
term). publication of this
final rulemaking in
the Federal
Register.
GBP-denominated OIS (2-3 year June 21, 2016.... 60 days after
term). publication of this
final rulemaking in
the Federal
Register.
USD-denominated OIS (2-3 year June 21, 2016.... 60 days after
term). publication of this
final rulemaking in
the Federal
Register.
AUD-denominated OIS........... October 3, 2016.. 60 days after
publication of this
final rulemaking in
the Federal
Register.
CAD-denominated OIS........... May 9, 2017...... July 10, 2017.
------------------------------------------------------------------------
V. Cost Benefit Considerations
A. Statutory and Regulatory Background
Expanded Commission regulation 50.4(a) identifies certain swaps
that would be required to be cleared under section 2(h)(1)(A) of the
CEA in addition to those currently required to be cleared by existing
regulations 50.2 and 50.4(a). This clearing requirement determination
is designed to standardize and reduce counterparty risk associated with
swaps, and in turn, mitigate the potential systemic impact of such
risks and reduce the likelihood for swaps to cause or exacerbate
instability in the financial system. As stated in the NPRM, the
Commission believes this determination is consistent with one of the
fundamental premises of the Dodd-Frank Act and the 2009 commitments
adopted by the G20 nations: The use of central clearing can reduce
systemic risk.
Regulation 39.5 provides an outline for the Commission's review of
swaps for required clearing. Regulation 39.5 allows the Commission to
review swaps submitted by DCOs. Under section 2(h)(2)(D) of the CEA, in
reviewing swaps for a clearing requirement determination, the
Commission must take into account the following factors: (1)
Significant outstanding notional exposures, trading liquidity and
adequate pricing data; (2) the availability of rule framework,
capacity, operational expertise and credit support infrastructure to
clear the contract on terms that are consistent with the material terms
and trading conventions on which the contract is then traded; (3) the
effect on the mitigation of systemic risk; (4) the effect on
competition; and (5) the existence of reasonable legal certainty in the
event of the insolvency of the DCO or one or more of its clearing
members.\176\ Regulation 39.5 also directs DCOs to provide to the
Commission other information, such as product specifications,
participant eligibility standards, pricing sources, risk management
procedures, a description of the manner in which the DCO has provided
notice of the submission to its members and any additional information
requested by the Commission.\177\ This information is designed to
assist the Commission in identifying those swaps that are required to
be cleared.
---------------------------------------------------------------------------
\176\ Section 2(h)(2)(D) of the CEA.
\177\ Commission regulation 39.5(b)(3)(ii).
---------------------------------------------------------------------------
The following discussion is a consideration of the costs and
benefits of the Commission's action in this rulemaking, pursuant to the
regulatory requirements above. The Commission exercises its discretion
under section 2(h)(2)(D) of the CEA to determine whether swaps that are
submitted for a clearing requirement determination are required to be
cleared.
B. Overview of Swap Clearing
i. How Clearing Reduces Risk
When a bilateral swap is cleared, the DCO becomes the counterparty
to each original counterparty to the swap. This arrangement mitigates
counterparty credit risk because the DCO: (1) Monitors and mitigates
the risk of a counterparty default; (2) collects sufficient initial
margin to cover potential future exposures and regularly collects and
pays variation margin to cover current exposures; (3) facilitates
netting within portfolios of swaps and among counterparties; and (4)
holds collateral in a guaranty fund in order to mutualize the remaining
tail risk not covered by initial margin contributions among clearing
members. Central clearing mitigates the interconnectedness among swap
market participants, insofar as, upon acceptance of a swap for
clearing, a DCO becomes the new counterparty to each of the original
counterparties and guarantees performance on the contract. Moreover,
DCOs are independent third parties that are subject to regulatory
oversight--including, among other things, financial resources
requirements and risk management requirements. Accordingly, from the
perspective of market participants, DCOs pose significantly less
counterparty credit risk than their original counterparties.
[[Page 71231]]
DCOs have demonstrated resilience in the face of past market
stress. DCOs remained financially sound and effectively settled
positions in the midst of turbulent financial conditions in 2007-2008
that threatened the financial health and stability of many other types
of entities.
The Commission believes that central clearing through DCOs will
continue to mitigate systemic risk because DCOs have numerous risk
management tools available that are effective in monitoring and
managing counterparty credit risk. These tools include the contractual
right to: (1) Collect initial and variation margin associated with
outstanding swap positions; (2) mark positions to market regularly,
usually multiple times per day, and issue margin calls whenever the
margin in a clearing member's or customer's account has dropped below
predetermined levels set by the DCO; (3) adjust the amount of margin
that is required to be held against swap positions in light of changing
market circumstances, such as increased volatility in the underlying
product; and (4) close out the swap positions of a clearing member or
customer that does not meet margin calls within a specified period of
time.
Moreover, in the event that a clearing member defaults on its
obligations to the DCO, the DCO has numerous remedies available to
manage risk, including transferring the swap positions of the defaulted
member to another clearing member, and covering any losses that may
have accrued with the defaulting member's margin on deposit. In order
to transfer the swap positions of a defaulting member and manage the
risk of those positions, the DCO has the ability to take a number of
steps, including: (1) Hedge the portfolio of positions of the
defaulting member to limit future losses; (2) partition the portfolio
into smaller pieces; and (3) auction off the pieces of the portfolio,
together with their corresponding hedges, to other members of the DCO.
In order to cover the losses associated with such a default, the DCO
would typically draw from: (1) The initial margin posted by the
defaulting member; (2) the guaranty fund contribution of the defaulting
member; (3) the DCO's own capital contribution; (4) the guaranty fund
contributions of non-defaulting members; and (5) an assessment on the
non-defaulting members. These mutualized risk mitigation capabilities
are largely unique to clearinghouses and help to ensure that they
remain solvent and creditworthy swap counterparties even when clearing
members default or there are stressed market circumstances.
ii. The Clearing Requirement and Role of the Commission
With the passage of the Dodd-Frank Act, Congress gave the
Commission the responsibility for determining which swaps would be
required to be cleared pursuant to section 2(h)(1)(A) of the CEA.
Therefore, the costs and benefits associated with a clearing
requirement are attributable to both the CEA, as amended by the Dodd-
Frank Act, and the Commission acting in accordance with the CEA. As a
result, it is difficult to distinguish between the costs associated
with the Dodd-Frank Act itself, and the costs associated with the
Commission exercising the authority granted to it by the Dodd-Frank
Act.
There also is evidence that the interest rate swaps market has been
migrating into clearing for many years in response to market
incentives, in anticipation of the Dodd-Frank Act's clearing
requirement, and as a result of the First Clearing Requirement
Determination. This shift can be seen in the volumes of interest rate
swaps currently being cleared by CME and LCH, the two DCOs that
submitted a significant portion of the information contained in the
NPRM as well as this determination. The open notional value of interest
rate swaps cleared at CME has increased from approximately $2.2
trillion to over $5.5 trillion between June 10, 2013 and September 10,
2013, two implementation dates for the First Clearing Requirement
Determination.\178\ Because the volume of interest rate swaps being
cleared also has increased voluntarily, it is impossible to precisely
determine the extent to which any increased use of clearing would
result from statutory or regulatory requirements, as compared to the
desire of swap market participants to clear swaps for the risk-
mitigating benefits.\179\
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\178\ See CME Group comment letter of Sept. 16, 2013 in response
the Commission's notice of proposed rulemaking concerning DCOs and
International Standards, 78 FR 50260 (Aug. 16, 2013). The CME Group
comment letter is available on the Commission's Web site at: http://comments.cftc.gov/PublicComments/CommentList.aspx?id=1391.
\179\ It is also possible that some market participants would
respond to the rule's requirement that certain interest rate swaps
be cleared by decreasing their use of such swaps. This possibility
contributes to the uncertainty regarding how the determination will
affect the quantity of swaps that are cleared.
---------------------------------------------------------------------------
For these reasons, the Commission has determined that the costs and
benefits related to the required clearing of the interest rate swaps
subject to this rulemaking are attributable, in part to (1) Congress's
stated goal of reducing systemic risk by, among other things, requiring
clearing of swaps and (2) the Commission's exercise of its discretion
in selecting swaps or classes of swaps to achieve those ends. The
Commission will discuss the costs and benefits of the overall move from
voluntary clearing to required clearing for the swaps subject to this
rulemaking below.
In the NPRM, the Commission requested comment concerning its
assumption that a shift towards clearing may be due to the Dodd-Frank
Act's general clearing requirement or other motivations including
independent business reasons and incentives from other regulators, such
as prudential authorities. While no commenter answered this question
directly, Citadel suggested that a shift towards clearing may be due to
cost savings attributable to clearing swaps at central
counterparties.\180\
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\180\ According to Citadel's description of academic research,
``the implementation of the Commission's clearing and trading
reforms in the USD interest rate swap market led to a significant
improvement in liquidity and a significant reduction in execution
costs.'' (citations omitted). This comment from Citadel also is
discussed in the Commission's analysis of the fourth factor under
section 2(h)(2)(D) in section II.B.iii.
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C. Consideration of the Costs and Benefits of the Commission's Action
i. CEA Section 15(a)
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. Section 15(a) further
specifies that the costs and benefits shall be evaluated in light of
the following five broad areas of market and public concern: (1)
Protection of market participants and the public; (2) efficiency,
competitiveness and financial integrity; (3) price discovery; (4) sound
risk management practices; and (5) other public interest considerations
(collectively referred to herein as the Section 15(a) Factors).
Accordingly, the Commission considers the costs and benefits associated
with the clearing requirement determination in light of the Section
15(a) Factors.
The Commission notes that the consideration of costs and benefits
below is based on the understanding that the markets function
internationally, with many transactions involving U.S. firms taking
place across international boundaries; with some Commission registrants
being organized outside of the United States; with industry members
typically conducting operations both within and outside the United
States; and with industry members commonly following substantially
similar business practices wherever located. Where the
[[Page 71232]]
Commission does not specifically refer to matters of location, the
below discussion of costs and benefits refers to the effects of the
final rules on all activity subject to the amended regulations, whether
by virtue of the activity's physical location in the United States or
by virtue of the activity's connection with or effect on U.S. commerce
under section 2(i) of the CEA.
As stated above, the Commission received 10 comment letters
following publication of the NPRM, seven of which supported the
proposed determination. Some commenters generally addressed the costs
and benefits of the current rule.
In the sections that follow, the Commission considers: (1) The
costs and benefits of required clearing for the swaps subject to this
clearing requirement determination; (2) the alternatives contemplated
by the Commission and their costs and benefits; and (3) the impact of
required clearing for the swaps subject to this final rulemaking and
listed in expanded regulation 50.4(a) in light of the Section 15(a)
Factors.
ii. Costs and Benefits of Required Clearing Under the Final Rule
Market participants may incur certain costs in order to clear the
interest rate swaps included in this adopting release. For example,
market participants that are not already clearing interest rate swaps
either voluntarily or pursuant to the First Clearing Requirement
Determination may incur certain startup and ongoing costs related to
developing technology and infrastructure, updating or creating new
legal agreements, service provider fees, and collateralization of the
cleared positions. The per-entity costs described above are likely to
vary widely depending on the needs of each market participant. Such
costs likely will be lower for the market participants that have
experience clearing the interest rate swaps covered by the First
Clearing Requirement Determination and/or that have been clearing the
interest rate swaps subject to this clearing requirement determination
on a voluntary basis. The opposite likely would be true for market
participants that must begin clearing because of this expanded
determination. Although these market participants may have otherwise
incurred costs associated with margining their uncleared swaps with
bilateral counterparties, as well as incurring other costs associated
with bilateral uncleared swaps, such as startup or ongoing costs
related to developing technology and infrastructure, and updating or
creating new legal agreements related to their uncleared swaps
positions. Moreover, operational costs for these market participants
would increase based on the number of different counterparties with
whom they enter into uncleared swaps. The overall costs of
collateralization are likely to vary depending on whether or not an
entity is subject to the new margin requirements for uncleared
swaps,\181\ whether or not an entity is subject to capital
requirements, and the differential between the cost of capital for the
assets they use as collateral, and the returns realized on those
assets.
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\181\ The Commission's margin requirements for uncleared swaps
are codified in subpart E of part 23 of the Commission's
regulations. The prudential regulators also established minimum
margin and capital requirements for certain registered SDs, MSPs,
security-based swap dealers, and major security-based swap
participants in November 2015.
---------------------------------------------------------------------------
Market participants that would begin clearing the interest rate
swaps subject to this rulemaking also will obtain the benefits
associated with clearing. These benefits include reduced and
standardized counterparty risk, increased transparency, and easier
access to the swap markets. Together, these benefits will contribute
significantly to the stability and efficiency of the financial system.
However, these benefits are difficult to quantify with any degree of
precision, and market participants already clearing these swaps already
realize the benefits of clearing.
In the NPRM, the Commission requested comment concerning the costs
of clearing, including from both U.S. and non-U.S. swap counterparties
that may be affected by the determination. The Commission also
requested comment as to the benefits that market participants could
realize as a result of the proposed rule. JBA generally commented that
it was opposed to the proposed determination because rising costs
incurred by clearing brokers, due to capital leverage requirements, for
example, have decreased the number of available clearing brokers.\182\
By contrast, as mentioned above, Citadel suggested that the clearing
requirement would create cost savings for market participants because
central clearing, together with execution of swaps on SEFs, has brought
down costs significantly.\183\
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\182\ See discussion of JBA's comment in section II.A. In its
comment letter, CME Group also generally expressed concern about
participants being able to access cleared markets in light of
capital considerations arising from the calculation of leverage
ratio.
\183\ See discussion of Citadel's comment letter in sections
II.B.iii.d and V.B.
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a. Technology, Infrastructure, and Legal Costs
Market participants already clearing their swaps may incur costs in
making necessary changes to technology systems to support the clearing
required by the final rule. Market participants that are not currently
clearing swaps may incur costs if they need to implement middleware
technology to connect to FCMs that will clear their transactions.
Similarly, legal costs will vary depending on the extent to which a
market participant is already clearing swaps. The Commission does not
have the information necessary to determine either the costs associated
with entities that need to establish relationships with one or more
FCMs or the costs associated with entities that already have
relationships with one or more FCMs but need to revise their
agreements.\184\ The costs are likely to depend on the specific
business needs of each entity and would therefore vary widely among
market participants. As a general matter, the Commission would expect
that most market participants already will have undertaken the steps
necessary to accommodate the clearing of required swaps based on the
First Clearing Requirement Determination and that the burden associated
with these additional interest rate swaps should be lessened.
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\184\ The Commission does not have current information regarding
such fees. In the NPRM and in the First Clearing Requirement
Determination (77 FR 74284 at 74324), the Commission noted that it
had been estimated that it would cost smaller financial institutions
between $2,500 and $25,000 to review and negotiate legal agreements
to establish a new business relationship with an FCM (citing comment
letters from Chatham Financial and Webster Bank submitted to the
Commission in 2012 in response to the Commission's request for
comment concerning the cost benefit analysis regarding a potential
clearing exception for certain small financial institutions under
the end-user exception, available at: http://comments.cftc.gov/PublicComments/ViewComment.aspx?id=58077 and http://comments.cftc.gov/PublicComments/ViewComment.aspx?id=58076). The
Commission received no new information from commenters regarding the
costs of establishing a clearing relationship.
---------------------------------------------------------------------------
In the NPRM, the Commission requested comment, including any
quantifiable data and analysis, on the changes that market participants
will have to make to their technological and legal infrastructures in
order to clear the interest rate swaps that would be subject to the
expanded clearing requirement. JBA commented that swap market
participants may incur costs as a result of having to become a clearing
member of a new DCO, or enter into a new client clearing relationship
with a DCO clearing member, if there is only one DCO offering to clear
a particular swap
[[Page 71233]]
subject to the determination, and the swap market participant is not
already a clearing member, or customer of a clearing member, of that
DCO.\185\ As the Commission noted above, in light of the fact that
there are three swaps covered by the determination that are currently
offered for clearing by only one DCO (MXN-denominated fixed-to-floating
interest rate swaps, currently offered for clearing only at CME; and
AUD- and CAD-denominated OIS, currently offered for clearing only at
LCH), and LCH and CME have indicated that they intend to begin offering
to clear each of these swaps, respectively, before the end of 2016, the
Commission believes that JBA's concerns about a swap market participant
having to establish a new clearing arrangement even if the participant
already has a clearing arrangement in place at CME or LCH will be
largely addressed.\186\ Moreover, Citadel commented that swap market
participants generally prefer to clear swaps at one DCO instead of at
multiple DCOs in order to reduce costs by maximizing netting,
compression, and margin offsets.\187\
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\185\ See also discussion of JBA's comment in the Commission's
analysis of the fourth factor under section 2(h)(2)(D) in section
II.B.iii.
\186\ Id.
\187\ See also discussion of Citadel's comment in the
Commission's analysis of the fourth factor under section 2(h)(2)(D)
in section II.B.iii.
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b. Ongoing Costs Related to FCMs and Other Service Providers
In addition to costs associated with technological and legal
infrastructures, market participants transacting in swaps subject to
the expanded clearing requirement will face ongoing costs associated
with fees charged by FCMs. DCOs typically charge each FCM an initial
transaction fee for each cleared interest rate swap its customers
enter, as well as an annual maintenance fee for each open position.
CME, LCH, Eurex, and SGX offer a variety of fee schedules for clearing
interest rate swaps. In general, the schedules depend on the length of
a swap's term, the number of swaps cleared per year, and/or a clearing
member's initial margin requirement at the DCO. For example, at LCH and
Eurex, different fee schedules are available depending on whether a
clearing member is clearing for its proprietary account or for a
customer account.\188\ In the case of customer clearing, fees are
generally charged to the clearing member, not the customer.
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\188\ LCH and Eurex their fees schedules on their Web sites,
available at: http://www.lch.com/asset-classes/otc-interest-rate-derivatives/fees and http://www.eurexclearing.com/clearing-en/markets-services/eurex-otc-clear/about-eurex-otc-clear.
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The Commission understands that FCMs generally pass onto their
customers the fees that they have been charged by the DCO. In addition,
as noted in the NPRM, the Commission understands that customers that
occasionally transact in swaps are typically required by their FCMs to
pay a monthly or annual fee to each FCM.\189\
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\189\ The Commission does not have current information regarding
such fees. In the NPRM and in the First Clearing Requirement
Determination (77 FR 74284 at 74325), the Commission noted that
customers that occasionally transact in swaps are typically required
to pay a monthly or annual fee to each FCM that ranges from $75,000
to $125,000 per year (citing comment letters from Chatham Financial
and Webster Bank). The Commission received no new information from
commenters regarding these costs.
---------------------------------------------------------------------------
As discussed above, it is difficult to predict precisely how the
requirement to clear the additional swaps covered by this final
rulemaking will increase the use of swap clearing, as compared to the
use of clearing that would occur in the absence of the requirement. The
Commission expects that the expanded clearing requirement generally
will increase the use of clearing, leading in most cases to an
incremental increase in the clearing fees noted above. However, while
total clearing fees may increase, it may nonetheless be the case that
total costs come down due to offsetting benefits. For instance, market
competition could cause swap prices to decrease, and market
participants may realize benefits due to netting, compression, offsets,
and portfolio margining. The Commission expects that most market
participants already will have undertaken the steps necessary to
accommodate the clearing of required swaps, and that the burden
associated with the additional interest rate swaps should be lessened.
In response to the NPRM, Citadel commented that fees charged by
FCMs, rather than fees charged by DCOs, are the major source of
clearing costs.\190\ Moreover, according to Citadel, the fees charged
by FCMs depend primarily on the portfolio the customer wishes to clear
rather than on the number of DCOs offering to clear a particular swap.
Citadel also commented that the clearing requirement could lead a DCO
or FCM to expand its clearing offerings because of the increased
clearing volumes that may result from the clearing requirement.
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\190\ FCMs provide their customers with access to DCOs in their
capacity as DCO-clearing members.
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Finally, CME Group generally expressed concern about market
participants being able to access clearinghouses due to the general
reduction in clearing members' ``appetite to provide clearing services
for smaller firms.'' CME Group referenced an ESMA consultation paper
proposing a postponement of the implementation of its clearing mandate
on such smaller market participants. The Commission is aware that ESMA
released a consultation paper on July 13, 2016, requesting comments on
a proposal to extend the phase-in period for the clearing obligation
for counterparties in a third category under the European Union's
clearing regime.\191\ ESMA acknowledges that the participant scope of
Europe's clearing obligation regulation is different than in most other
jurisdictions because the underlying legislation (EMIR) does not
contain the same types of exemptions from mandatory clearing for
counterparties with limited activity.\192\
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\191\ See Consultation Paper: On the clearing obligation for
financial counterparties with a limited volume of activity, Jul. 13,
2016, available at: https://www.esma.europa.eu/press-news/consultations/consultation-clearing-obligation-financial-counterparties-limited-volume.
\192\ Id. at 9.
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The Commission's statutory authority under Dodd-Frank contains
certain enumerated exceptions and exemptions from the clearing
requirement.\193\ In light of the fact that there are counterparties
that qualify for an exception or exemption from the CFTC's clearing
requirement, the Commission does not face the same policy
considerations as its European counterparts with regard to certain
entities under EMIR.\194\ As noted above, in response to CME Group's
comment, the Commission reiterates, that any market participant may
petition for relief under Commission regulation 140.99 if the entity is
unable to find an FCM to clear its swaps or if it needs additional time
to complete requisite documentation.\195\
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\193\ See Section 2(h)(7) of the CEA and subpart C of part 50 of
the Commission's regulations.
\194\ In particular, ESMA's consultation focuses on financial
counterparties, and certain investment funds that qualify as non-
financial counterparties, that satisfy the threshold level of
derivatives activity (e.g., a gross notional value of EUR 3 billion
for interest rate derivatives contracts) but have an outstanding
gross notional amount of derivatives below EUR 8 billion for a
particular point in time.
\195\ First Clearing Requirement Determination, 77 FR at 74320.
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c. Costs Related to Collateralization of Cleared Swap Positions
Market participants that enter into the interest rate swaps subject
to the amended rule will be required to post initial margin at a DCO.
The Commission understands that some of the swaps subject to this
rulemaking are currently being cleared on a voluntary
[[Page 71234]]
basis.\196\ In the NPRM, the Commission published the following
estimates.
---------------------------------------------------------------------------
\196\ See Clarus Newsletter by Chris Barnes (June 14, 2016)
available at: https://www.clarusft.com/the-cftcs-new-clearing-mandate-2016/ (discussing the NPRM, its data, and the percentage of
the interest rate swap market already cleared on a voluntary basis).
Table 17--Part 45 Data--Estimated Percentages of the Interest Rate Swap
Market Cleared Voluntarily
[Second Quarter 2015] \197\
------------------------------------------------------------------------
Percentage of
Product market cleared
------------------------------------------------------------------------
AUD-denominated fixed-to-floating interest rate swap. 65
CAD-denominated fixed-to-floating interest rate swap. 72
CHF-denominated fixed-to-floating interest rate swap. 83
HKD-denominated fixed-to-floating interest rate swap. 49
MXN-denominated fixed-to-floating interest rate swap. 25
NOK-denominated fixed-to-floating interest rate swap. 40
PLN-denominated fixed-to-floating interest rate swap. 66
SEK-denominated fixed-to-floating interest rate swap. 45
SGD-denominated fixed-to-floating interest rate swap. 24
AUD-denominated basis swap........................... 28
NOK-denominated FRA.................................. 94
PLN-denominated FRA.................................. 32
SEK-denominated FRA.................................. 25
EUR-denominated OIS (2-3 year term).................. 100
GBP-denominated OIS (2-3 year term).................. 100
USD-denominated OIS (2-3 year term).................. 100
AUD-denominated OIS.................................. 18
CAD-denominated OIS.................................. 88
------------------------------------------------------------------------
With information provided by CME, LCH, and SGX,\198\ the Commission
has estimated the amounts of initial margin currently on deposit at
these three DCOs allocable to the interest rate swaps subject to this
rulemaking. Using this information, the Commission estimated in the
NPRM that this clearing requirement determination would require market
participants to post the following amounts of additional initial margin
with DCOs for each of the interest rate swaps covered by this
determination.\199\ The amounts in Table 18 below do not, however,
account for any additional margin market participants would post to
their bilateral counterparties under the new rules for uncleared swap
margin.
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\197\ The Commission used part 45 Data to make these estimates
based on swap activity occurring during the second quarter of 2015.
Like the part 43 Data referenced above, part 45 Data includes swaps
entered into by U.S. persons as well as by certain non-U.S. persons.
See Interpretive Guidance and Policy Statement Regarding Compliance
With Certain Swap Regulations, 78 FR 45292, 45368-69 (July 26,
2013). The data set used for Table 17 does not include swaps entered
into by affiliated counterparties. Data from the third and fourth
quarters of 2015 were used to calculate the estimates for EUR-, GBP-
, and USD-denominated OIS with terms of two to three years. Data
from January 2016 was used to calculate the estimates for AUD- and
CAD-denominated OIS.
\198\ The Commission is not including margin data from Eurex for
purposes of this calculation because it does not affect the overall
percentages significantly.
\199\ The Commission made these calculations using the following
formula:
X/Y-X.
X = Current value of margin on deposit at DCOs for an interest
rate swap denominated in a particular currency.
Y = Percentage of the market for that swap that is currently
cleared. This same methodology was used in the First Clearing
Requirement Determination as a rough proxy for estimating the total
costs of required clearing in terms of initial margin. As discussed
above, commission risk surveillance staff has sophisticated tools
for assessing risk-based margin methodologies and coverage levels.
Table 18--Aggregate Initial Margin Due to DCOs Under Clearing
Requirement Determination
------------------------------------------------------------------------
Amount of margin
Swap USD equivalent
------------------------------------------------------------------------
AUD-denominated Fixed-to-floating interest rate swap. $1,107,287,108
CAD-denominated Fixed-to-floating interest rate swap. 419,208,078
CHF-denominated Fixed-to-floating interest rate swap. 105,963,972
HKD-denominated Fixed-to-floating interest rate swap. 216,677,823
MXN-denominated Fixed-to-floating interest rate swap. 1,867,370,001
NOK-denominated Fixed-to-floating interest rate swap. 241,288,835
PLN-denominated Fixed-to-floating interest rate swap. 84,789,768
SEK-denominated Fixed-to-floating interest rate swap. 603,185,677
SGD-denominated Fixed-to-floating interest rate swap. 1,113,041,264
AUD-denominated basis swap........................... 612,166,597
NOK-denominated FRA.................................. 10,746,747
PLN-denominated FRA.................................. 186,238,075
SEK-denominated FRA.................................. 942,845,508
EUR-denominated OIS (2-3 year term).................. 0
GBP-denominated OIS (2-3 year term).................. 0
USD-denominated OIS (2-3 year term).................. 0
AUD-denominated OIS.................................. 84,254,007
[[Page 71235]]
CAD-denominated OIS.................................. 6,630,342
------------------
Total............................................ 7,601,693,801
------------------------------------------------------------------------
As noted in the NPRM, the Commission believes that these estimates
may be higher than the actual amounts of initial margin that would need
to be posted as a result of this determination because these estimates
are based on several assumptions. First, the estimates assume that none
of the swaps that are currently executed on an uncleared basis are
currently collateralized. By contrast, an ISDA survey reported that as
of December 31, 2014, 88.9% of all uncleared fixed income derivative
transactions are subject to a credit support annex.\200\ Moreover,
uncleared swaps between certain SDs, MSPs, and ``financial end-users,''
will be subject to initial and variation margin requirements pursuant
to the Commission's and the prudential regulators' margin regulations
for uncleared swaps, as discussed further below.\201\ Second, the
estimates listed in Table 18 are based on the assumption that none of
the swaps, when entered into on an uncleared basis, are priced to
include implicit contingent liabilities and counterparty risk borne by
the counterparty to the swap. Third, not all swaps having the
additional denominations or maturities adopted herein will necessarily
be eligible for clearing if they are not otherwise covered by the
clearing requirement (i.e., the specifications set forth in revised
regulation 50.4(a)) or if the swaps have terms that prevent them from
being cleared. Finally, certain entities may elect an exception or
exemption from the clearing requirement, which would not require such
an entity to clear the swaps covered by this determination.\202\
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\200\ See ISDA Margin Survey 2015 at page 12, Table 6, available
at: http://www2.isda.org/functional-areas/research/surveys/margin-surveys/. Although it is unclear exactly how many of the derivatives
covered by this survey are swaps, it is reasonable to assume that a
large part of them are.
\201\ Margin Requirements for Uncleared Swaps for Swap Dealers
and Major Swap Participants, 81 FR 636 (Jan. 6, 2016) and Margin and
Capital Requirements for Covered Swap Entities, 80 FR 74840 (Nov.
30, 2015) (together the ``uncleared swap margin regulations'').
\202\ See Subpart C of part 50 (Exceptions and Exemptions to the
Clearing Requirement). There also is a possibility that the
estimates listed in Table 18 are lower than the actual figures
because certain market participants with directional portfolios may
be unable to benefit from margin offsets that could come from
clearing. However, the Commission believes that the estimates listed
in Table 18 are more likely to overstate the required additional
margin amounts than to underestimate them.
---------------------------------------------------------------------------
The amounts of initial margin that the Commission estimates would
be required to be posted due to this rule (listed in Table 18) do not
include the costs that some market participants may incur to obtain
this collateral. Some entities may have to raise funds to acquire
assets that a DCO accepts as initial margin. The greater the funding
cost relative to the rate of return on the asset used as initial
margin, the greater the cost of procuring this asset. Quantifying this
cost with any precision is challenging because different entities may
have different funding costs and may choose assets with different rates
of return. Moreover, funding costs will vary as interest rates and
interest rate spreads vary. One way to estimate the funding cost of
procuring assets to be used as initial margin is to compare the rate of
return, or yield, on an asset that is usually accepted by a DCO for
initial margin with the cost of funding the asset with debt financing.
Based on the Commission's experience and understanding, the Commission
has decided to estimate this cost using an average borrowing cost of
3.35% \203\ and then subtracting the 1.14% return that a 5-year U.S.
Treasury bond yields.\204\ This calculation produces an estimated
funding cost of 2.21%. By multiplying the total estimated initial
margin amount of $7,601,693,801 (Table 18) by 2.21%, the Commission
estimates that the cost of funding the total initial margin that will
be required to be posted due to this rule is approximately
$167,997,433. It also should be noted that some entities, such as
pension funds and asset managers, may use as initial margin assets that
they already own. In these cases, the market participants would not
incur a funding cost in order to post initial margin.
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\203\ Bank of America Merrill Lynch U.S. Corporate BBB effective
yield for August 8, 2016.
\204\ On August 8, 2016, a 5-year U.S. treasury bond yielded
1.14%.
---------------------------------------------------------------------------
The Commission received no comments in response to its question
about the cost of funding initial margin or funding costs that market
participants may face due to interest rates on bonds issued by a
sovereign nation.
The Commission recognizes further that the new initial margin
amounts that will be required to be posted as a result of this clearing
requirement will, for entities required to post initial margin under
either the clearing requirement or the uncleared swap margin
regulations, replace current bilateral market practice. The new
uncleared swap margin regulations require SDs and MSPs to post and
collect initial and variation margin for uncleared swaps executed with
their counterparties that are other SDs or MSPs or are ``financial end-
users,'' subject to various conditions and limitations.\205\
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\205\ See Subpart E of part 23 of the Commission's regulations.
Swap clearing requirements under part 50 of the Commission's
regulations apply to a broader scope of market participants than the
Commission's uncleared swap margin rules. For example, under subpart
E of part 23, a financial end-user that does not have ``material
swaps exposure'' (as defined by regulation 23.151) is not required
to post initial margin, but such an entity may be subject to the
swap clearing requirement.
---------------------------------------------------------------------------
The Commission expects that the initial margin that will be
required to be posted for a cleared swap subject to this determination
will typically be less than the initial margin that would be required
to be posted for uncleared swaps pursuant to the uncleared swap margin
regulations. Whereas the initial margin requirement for cleared swaps
must be established according to a margin period of risk of at least
five days,\206\ under the uncleared swap margin regulations, the
minimum initial margin requirement is generally set with a margin
period of risk of 10-days or, under certain circumstances, less or no
initial margin for inter-affiliate transactions.\207\ The uncleared
swap margin regulations are being phased in
[[Page 71236]]
between September 1, 2016 and September 1, 2020.
---------------------------------------------------------------------------
\206\ Commission regulation 39.13(g)(2)(ii)(C).
\207\ Commission regulations 23.154(b)(2)(i) and 23.159. See
also Margin and Capital Requirements for Covered Swap Entities, 80
FR 74840 (Nov. 30, 2015). For an uncleared swap, entered into by an
SD or MSP supervised by a prudential regulator, which would be
subject to the Commission's clearing requirement under part 50 but
is not cleared due to the election of the exemption for a swap
between certain affiliated entities (Commission regulation 50.52),
the margin period of risk is at least five days. For an uncleared
swap, entered into by an SD or MSP supervised by the Commission, no
margin is required if the swap is exempt from the uncleared margin
regulations.
---------------------------------------------------------------------------
With respect to swaps that will be subject to this clearing
requirement determination, but not subject to the uncleared swap margin
regulations, the Commission believes that the new initial margin
amounts that will be posted at the DCO will be a displacement of a cost
that is currently embedded in the prices and fees for transacting the
swaps on an uncleared and perhaps uncollateralized basis rather than a
new cost.\208\ Entering into a swap is costly for any market
participant because of the default risk posed by its counterparty,
whether the counterparty is a DCO, SD, MSP, or other market
participant. When a market participant faces the DCO, the DCO accounts
for that counterparty credit risk by requiring collateral to be posted,
and the cost of capital for the collateral is part of the cost that is
necessary to maintain the swap position. When a market participant
faces an SD or other counterparty in an uncleared swap, however, the
uncleared swap contains an implicit line of credit upon which the
market participant effectively draws when its swap position is out of
the money.
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\208\ Under part 50 of the Commission's regulations, the
clearing requirement applies to all market participants except for
those subject to an exception or exemption under subpart C of part
50. Under part 23 of the Commission's regulations, the Commission's
uncleared swap margin rules apply only to swaps between Commission-
registered SDs and/or MSPs that do not have a prudential regulator
and to swaps between such an entity and certain ``financial end
users.'' See Commission regulations 23.151 (definition of financial
end users), 23.152 (collection and posting of initial margin), and
23.153 (collection and posting of variation margin). Commission-
registered SDs and MSPs that have a prudential regulator are subject
to uncleared swap margin rules promulgated by those authorities.
Thus, part 50 has a broader scope than part 23. See also note 212.
---------------------------------------------------------------------------
Counterparties charge for this implicit line of credit in the
spread they offer on uncollateralized, uncleared swaps. It has been
argued that the cash flows of an uncollateralized swap (i.e., a swap
with an implicit line of credit) are, over time, substantially
equivalent to the cash flows of a collateralized swap with an explicit
line of credit.\209\ And because the counterparty credit risk created
by the implicit line of credit is the same as the counterparty risk
that would result from an explicit line of credit provided to the same
market participant, to a first order approximation, the charge for each
should be the same as well.\210\ This means that the cost of capital
for additional collateral posted as a consequence of requiring
uncollateralized swaps to be cleared takes a cost that is implicit in
an uncleared, uncollateralized swap and makes it explicit. This
observation applies to capital costs associated with both initial
margin and variation margin.
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\209\ See Antonio S. Mello and John E. Parsons, ``Margins,
Liquidity, and the Cost of Hedging.'' MIT Center for Energy and
Environmental Policy Research, May 2012, available at: http://dspace.mit.edu/bitstream/handle/1721.1/70896/2012-005.pdf?sequence=1.
\210\ See id., Mello and Parsons state in their paper:
``[h]edging is costly. But the real source of the cost is not the
margin posted, but the underlying credit risk that motivates
counterparties to demand that margin be posted.'' Id. at 12. They go
on to demonstrate that, ``[t]o a first approximation, the cost
charged for the non-margined swap must be equal to the cost of
funding the margin account. This follows from the fact that the non-
margined swap just includes funding of the margin account as an
embedded feature of the package.'' Id. at 15-16.
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In addition, the rule may result in added operational costs. With
uncleared swaps, counterparties may agree not to collect variation
margin until certain thresholds of exposure are reached, thus reducing
or entirely eliminating the need to exchange variation margin as
exposure changes. DCOs, on the other hand, collect and pay variation
margin on a daily basis and sometimes more frequently. As a
consequence, increased required clearing may increase certain
operational costs associated with exchanging variation margin with the
DCO (although the exchange of variation margin may be expected to
provide the benefit of lowering the build-up of current exposure). On
the other hand, increased clearing also could lead to reduced
operational costs related to valuation disputes about posted
collateral, as parties to cleared swaps agree to post collateral that
is less susceptible to valuation disputes.
The rule also may result in additional costs for clearing members
in the form of guaranty fund contributions. However, it also could
decrease guaranty fund contributions for certain clearing members. Once
the expanded clearing requirement takes effect, market participants
that currently transact swaps bilaterally must either become clearing
members of a DCO or submit such swaps for clearing through an existing
clearing member. A market participant that becomes a direct clearing
member must make a guaranty fund contribution, while a market
participant that clears its swaps through a clearing member may pay
higher fees if the clearing member passes the costs of the guaranty
fund contribution to its customers. While not certain, the possible
addition of new clearing members and/or new customers for existing
clearing members may result in an increase in guaranty fund
requirements. However, it should be noted that if (1) any new clearing
members are not among the two clearing members used to calculate the
guaranty fund and (2) any new customers trading through a clearing
member do not increase the size of uncollateralized risks at either of
the two clearing members used to calculate the guaranty fund, all else
held constant, existing clearing members may experience a decrease in
their guaranty fund requirement.
In the NPRM, the Commission requested comment regarding the total
amount of additional collateral that would be required due to the
proposed clearing requirement. In particular, the Commission sought
quantifiable data and analysis.\211\ No commenter addressed the
quantitative approach laid out by the Commission in the NPRM. Nor did
any commenter provide quantifiable data and analysis to support or
refute such analysis.
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\211\ 81 FR at 39531.
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d. Benefits of Clearing
As noted above, the benefits of swap clearing are generally
significant. The Commission believes that while the requirement to
margin uncleared swaps in certain circumstances also will mitigate
counterparty credit risk, such risk is mitigated further for swaps that
are cleared through a central counterparty. Moreover, as discussed
above, the clearing requirement under part 50 of the Commission
regulations applies to a larger set of market participants than the
uncleared swaps margin regulations.\212\ Thus, to the extent that the
clearing requirement for additional interest rate swaps leads to
increased clearing, these benefits are likely to be realized.
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\212\ Section II.B.iii sets forth the Commission's view that
central clearing offers greater risk mitigation than bilateral
margining for swaps. Included in that section was a summary of
Citadel's comment agreeing with the Commission's view. As noted
above, the clearing requirement applies to a broader scope of market
participants than the Commission's uncleared swap margin rules.
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As is the case for the costs noted above, it is impossible to
predict the precise extent to which the use of clearing will increase
as a result of the final rule, and therefore the benefits of the final
rule cannot be precisely quantified. However, the Commission believes
that the benefits of increased central clearing resulting from the rule
will be substantial, because the additional swaps required to be
cleared by the rule have significant volumes within the overall
interest rate swap market.
[[Page 71237]]
The rule's requirement that certain swaps be cleared is expected to
increase the use of central clearing, as well as the number of swap
market participants that will benefit from reduced counterparty credit
risk and the other risk mitigating tools offered by central clearing
through DCOs that are subject to CFTC regulation and supervisory
oversight.
As noted above, several commenters praised the Commission's
approach to further harmonizing the Commission's swap clearing
requirement with requirements issued by non-U.S. jurisdictions.\213\
Citadel commented that such harmonization would lead to the benefit of
eliminating regulatory arbitrage. LCH Group stated that such
harmonization would promote certainty for market participants. SIFMA
AMG commented that such harmonization would improve the functioning of
swaps markets and reduce operational complexity. ISDA commented that
harmonization is crucial to effective and efficient implementation of
all of the reforms of the derivatives markets sought by the G20. MFA
commented that the Commission's approach to harmonizing its clearing
requirement with those of other jurisdictions would increase
transparency and market integrity. MFA also suggested that if the
Commission proceeds with the expanded clearing requirement, then other
jurisdictions will follow.
---------------------------------------------------------------------------
\213\ See summary of these comments in section II.B.
---------------------------------------------------------------------------
D. Costs and Benefits of the Commission's Action as Compared to
Alternatives
As noted in the NPRM, this determination is a function of both the
market importance of these products and the fact that they already are
widely cleared. The Commission believes the interest rate swaps subject
to this rulemaking are appropriate to require to be cleared because
they are widely used and already have a blueprint for clearing and risk
management.
Given the implementation of the Commission's First Clearing
Requirement Determination for interest rate swaps, and the widespread
use of central clearing for the additional products included in this
determination, DCOs, FCMs, and market participants already have
experience clearing the types of swaps subject to this rulemaking. The
Commission therefore expects that DCOs and FCMs are prepared to handle
the increases in volumes and outstanding notional amounts in these
swaps that are likely to result from this determination. Because of the
widespread use of these swaps and their importance to the market, and
because these swaps are already successfully being cleared, the
Commission has determined that certain additional interest rate swaps
be subject to the clearing requirement.
The Commission considered two alternative implementation scenarios.
First, the Commission considered a scenario under which the clearing
requirement for all swaps subject to the rulemaking would take effect
at the same time, regardless of whether an analogous clearing
requirement has been promulgated by an authority of a non-U.S.
jurisdiction. The benefits associated with implementing the clearing
requirement for all swaps subject to this rulemaking on a single date
would include giving market participants certainty and making it easier
for industry members to update relevant policies and procedures at one
time.
As a second option, the Commission considered a scenario under
which compliance with the clearing requirement would be required upon
the earlier of (a) the date 60 days after the effective date of an
analogous clearing requirement that has been adopted by a regulator in
a non-U.S. jurisdiction, provided that any such date for any swap
covered by the final rule shall not be earlier than the date which is
60 days after the Commission's final rule is published in the Federal
Register, or (b) the date two years after the Commission's final rule
is published in the Federal Register. As described in the NPRM, the
second scenario allows the Commission to coordinate compliance dates
with the effective dates set by non-U.S. jurisdictions in order to
promote international harmonization of clearing requirements while
maintaining certainty that compliance with the expanded clearing
requirement will be required within a specific time period (i.e., all
products subject to the determination will be subject to a clearing
requirement no later than two years after the final rule is published).
As discussed above, after considering comments on the two proposed
implementation schedules, the Commission has decided to proceed with
the second option, a schedule that is tied to the first date upon which
any person in a non-U.S. jurisdiction is first subject to a clearing
mandate issued by a non-U.S. jurisdiction, not including any front-
loading or back-loading requirements.\214\ Compared to the first option
of requiring implementation of the clearing requirement for all
products on a single date, the second option will delay implementation
of the clearing requirement for certain products, and thus will delay
the realization of the costs and benefits of mandatory clearing for
these products. However, the Commission is adopting the second option
in light of the benefits of international harmonization of clearing
requirements on a jurisdiction-by-jurisdiction basis, including
mitigation of regulatory arbitrage.
---------------------------------------------------------------------------
\214\ See discussion, including summary of comments received, in
section IV.
---------------------------------------------------------------------------
E. Section 15(a) Factors
As noted above, the requirement to clear the fixed-to-floating
interest rate swaps, basis swaps, FRAs, and OIS covered by this
adopting release is expected to result in increased use of central
clearing, although it is not feasible to quantify with certainty the
extent of that increase. Thus, this section discusses the expected
results from an overall increase in the use of swap clearing in terms
of the factors set forth in section 15(a) of the CEA.
i. Protection of Market Participants and the Public
As described above, required clearing of the interest rate swaps
identified in this clearing requirement determination is expected to
most likely reduce counterparty risk for market participants that clear
those swaps because they will face the DCO rather than another market
participant that lacks the full array of risk management tools that the
DCO has at its disposal. This also reduces uncertainty in times of
market stress because market participants facing a DCO are less
concerned with the impact of such stress on the solvency of their
counterparty for cleared trades.
By requiring clearing of certain interest rate swaps, all of which
are already available for clearing, the Commission expects, as it
stated in the NPRM, that this rule will encourage a smooth transition
by creating an opportunity for market participants to work out
challenges related to required clearing of swaps while operating in
familiar terrain. More specifically, the DCOs currently clearing these
interest rate swaps, CME, Eurex, LCH, and SGX, will clear an increased
volume of swaps that they already understand and have experience
managing. Similarly, FCMs likely will realize increased customer and
transaction volume as a result of the requirement, but will not have to
simultaneously learn how to operationalize clearing for the covered
interest rate swaps. The experience of FCMs with these types of
products also is likely to benefit any customers that are new to
clearing, as the FCM guides
[[Page 71238]]
them through initial experiences with cleared swaps.
In addition, uncleared swaps subject to collateral agreements can
be the subject of valuation disputes. These valuation disputes
sometimes require several months or longer to resolve. Potential future
exposures can grow significantly and even beyond the amount of initial
margin posted during that time, leaving one of the two counterparties
exposed to counterparty credit risk. DCOs significantly reduce and
potentially may eliminate valuation disputes for cleared swaps, as well
as the risk that uncollateralized exposure can develop and accumulate
during the time when such a dispute would have otherwise occurred, thus
providing additional protection to market participants that transact in
swaps that are required to be cleared.
As far as costs are concerned, market participants that do not
currently have established clearing relationships with an FCM will have
to set up and maintain such a relationship in order to clear swaps that
are required to be cleared. As discussed above, market participants
that conduct a limited number of swaps per year likely will be required
to pay monthly or annual fees that FCMs charge to maintain both the
relationship and outstanding swap positions belonging to the customer.
In addition, the FCM is likely to pass along fees charged by the DCO
for establishing and maintaining open positions.\215\
---------------------------------------------------------------------------
\215\ See sections II.B.iii. and V.C.ii for a summary of JBA's
comment concerning the potential costs of establishing a new
clearing arrangement at a DCO in response to this rulemaking, and
the Commission's response to that comment.
---------------------------------------------------------------------------
It is expected that most market participants already will have had
experience complying with prior clearing requirements and that the
incremental burdens associated with clearing the additional interest
rate swaps subject to this rulemaking should be minimal, especially
given the similarities that these products have to those already
included within the prior clearing requirement determination and the
fact that they are already widely cleared products.
ii. Efficiency, Competitiveness, and Financial Integrity of Swap
Markets
The Commission continues to expect that swap clearing will reduce
counterparty risk in times of market stress and promote liquidity and
efficiency during those times. Increased liquidity promotes the ability
of market participants to limit losses by exiting positions effectively
and efficiently when necessary in order to manage risk during a time of
market stress.
In addition, to the extent that positions move from facing multiple
counterparties in the bilateral market to being cleared through a
smaller number of clearinghouses, clearing facilitates increased
netting. This reduces the amount of collateral that a party must post
in margin accounts.
As discussed above, in setting forth this new clearing requirement
determination, the Commission took into account a number of specific
factors that relate to the financial integrity of the swap markets.
Specifically, the NPRM and the discussion above include an assessment
of whether CME, Eurex, LCH, and SGX, each of which currently clears
interest rate swaps, have the rule framework, capacity, operational
expertise and resources, and credit support infrastructure to clear
these swaps on terms that are consistent with the material terms and
trading conventions on which the contract is now traded. The Commission
also considered the resources of DCOs to handle additional clearing
during stressed and non-stressed market conditions, as well as the
existence of reasonable legal certainty in the event of a clearing
member or DCO insolvency.\216\
---------------------------------------------------------------------------
\216\ See section II.C.iii.
---------------------------------------------------------------------------
In considering the efficiencies, competitiveness, and financial
integrity of the swap markets associated with this clearing requirement
determination, the Commission observes that the use of bilateral swaps
generates a need for market participants to conduct due diligence on
each potential counterparty due to concerns about counterparty credit
risk. Requiring certain types of swaps to be centrally cleared reduces
the number of separate counterparties for which such due diligence is
necessary, thereby potentially contributing to the overall efficiency
and competitiveness of the swap markets.
In support of this reasoning, Citadel's comments suggest that
extinguishing bilateral counterparty credit exposure and eliminating
complex bilateral trading documentation for swaps subject to a clearing
requirement enables market participants to access a wider range of
execution counterparties and encourages the entry of new liquidity
providers.\217\ As a result, when a clearing requirement is in effect,
price competition tends to increase, execution costs for investors and
customers tend to decrease, and overall market liquidity would
therefore improve for the swaps subject to the clearing requirement.
Citadel also notes that the imposition of a clearing requirement may
create the commercial rationale for another DCO or FCM to launch or
expand its clearing offering given the expected increase in overall
cleared volumes.
---------------------------------------------------------------------------
\217\ Commission regulation 39.12(b)(6) requires a DCO to
establish rules providing that upon acceptance of a swap for
clearing, the original swap is extinguished and replaced by an equal
and opposite swap between the DCO and each clearing member acting as
principal for a house trade or acting as agent for a customer trade.
This process extinguishes counterparty credit risk between the
original executing counterparties.
---------------------------------------------------------------------------
In adopting this clearing requirement for interest rate swaps, the
Commission must consider the effect on competition, including
appropriate fees and charges applied to clearing. As discussed in more
detail in section II.B.iii, there are a number of potential outcomes
that may result from required clearing. Some of these outcomes may
impose costs, such as if a DCO possessed market power and exercised
that power in an anticompetitive manner, and some of the outcomes would
be positive, such as if the clearing requirement facilitated a stronger
entry opportunity for competitors.\218\
---------------------------------------------------------------------------
\218\ See section II.B.iii for full discussion of comments
related to competition issues.
---------------------------------------------------------------------------
iii. Price Discovery
As the Commission noted in the NPRM, central clearing, in general,
encourages better price discovery because it eliminates the importance
of counterparty creditworthiness in pricing swaps cleared through a
given DCO. That is, by making the counterparty creditworthiness of all
swaps of a certain type essentially the same, prices should reflect
factors related to the terms of the swap, rather than the idiosyncratic
risk posed by the entities trading it.
As discussed in section II.C.iii.a above, CME, Eurex, LCH, and SGX
obtain adequate pricing data for the interest rate swaps that they
clear. Each of these DCOs establishes a rule framework for its pricing
methodology and rigorously tests its pricing models to ensure that the
cornerstone of its risk management regime is as sound as possible.
iv. Sound Risk Management Practices
If a firm enters into uncleared and uncollateralized swaps to hedge
certain positions and then the counterparty to those swaps defaults
unexpectedly, the firm could be left with large outstanding exposures.
Even for uncleared swaps that are subject to the new uncleared swap
margin regulations, some counterparty credit risk remains.\219\ As
[[Page 71239]]
explained in the NPRM and as stated above, when a swap is cleared the
DCO becomes the counterparty facing each of the two original
participants in the swap. This standardizes and reduces counterparty
risk for each of the two original participants. To the extent that a
market participant's hedges comprise swaps that are required to be
cleared, the requirement enhances the market participant's risk
management practices by reducing its counterparty risk.
---------------------------------------------------------------------------
\219\ For example, there is a small risk of a sudden price move
so large that a counterparty would be unable to post sufficient
variation margin to cover the loss, which may exceed the amount of
initial margin posted, and could be forced into default.
---------------------------------------------------------------------------
In addition, required clearing reduces the complexity of unwinding
or transferring swap positions from large entities that default.
Procedures for transfer of swap positions and mutualization of losses
among DCO members are already in place, and the Commission anticipates
that they are much more likely to function in a manner that enables
rapid transfer of defaulted positions than legal processes that would
surround the enforcement of bilateral contracts for uncleared
swaps.\220\
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\220\ As discussed in sections I.E.iii, II.B.iii, and V.B.,
sound risk management practices are critical for all DCOs,
especially those offering clearing for interest rate swaps. In
section II.B.ii, the Commission considered whether each Sec.
39.5(b) submission under review was consistent with the core
principles for DCOs. In particular, the Commission considered the
DCO submissions in light of Core Principle D, which relates to risk
management. See also section II.B.iii for a discussion of the effect
on the mitigation of systemic risk in the interest rate swap market,
as well as the protection of market participants during insolvency
events at either the clearing member or DCO level.
---------------------------------------------------------------------------
Central clearing has evolved since the 2009 G20 Pittsburgh Summit,
when G20 leaders committed to central clearing of all standardized
swaps. The percentage of the swap market that is centrally cleared has
increased significantly, clearinghouses have expanded their offerings,
and the range of banks and other financial institutions that submit
swaps to clearinghouses has broadened. At the same time, the numbers of
swap clearinghouses and swap clearing members has remained highly
concentrated. This has created concerns about a concentration of credit
and liquidity risk at clearinghouses that could have systemic
implications.\221\ However, the Commission believes that DCOs are
capable of risk managing the interest rate swaps subject to this
rulemaking. Moreover, because only a very small percentage of the swap
market will be affected by this clearing requirement determination and
because significant percentages of the swaps covered by this
determination are already cleared voluntarily, this clearing
requirement determination will not significantly increase credit risk
and liquidity risk to DCOs. The Commission requested comment on this
issue and did not receive any comments in response.
---------------------------------------------------------------------------
\221\ See Dietrich Domanski, Leonardo Gambacorta, and Cristina
Picillo, ``Central clearing: Trends and current issues,'' BIS
Quarterly Review (Dec. 2015), available at: http://www.bis.org/publ/qtrpdf/r_qt1512g.pdf. and 2015 Financial Stability Report published
by the Office of Financial Research of the U.S. Department of the
Treasury (Dec. 15, 2015), available at: http://financialresearch.gov/financial-stability-reports/files/OFR_2015-Financial-Stability-Report_12-15-2015.pdf.
---------------------------------------------------------------------------
v. Other Public Interest Considerations
In September 2009, the President and the other leaders of the G20
nations met in Pittsburgh and committed to a program of action that
includes, among other things, central clearing of all standardized
swaps.\222\ The Commission believes that this clearing requirement will
represent another step toward the fulfillment of the G20's commitment.
---------------------------------------------------------------------------
\222\ The G20 Leaders Statement made in Pittsburgh is available
at: http://www.g20.utoronto.ca/2009/2009communique0925.html.
---------------------------------------------------------------------------
VI. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (RFA) requires agencies to consider
whether the rules they propose will have a significant economic impact
on a substantial number of small entities and, if so, provide a
regulatory flexibility analysis respecting the impact.\223\ As stated
in the NPRM, this clearing requirement determination will not affect
any small entities, as the RFA uses that term.\224\ Pursuant to section
2(e) of the CEA, only eligible contract participants (ECPs) may enter
into swaps, unless the swap is listed on a DCM. The Commission has
previously determined that ECPs are not small entities for purposes of
the RFA.\225\ As stated in the NPRM, the clearing requirement
determination will only affect ECPs because all persons that are not
ECPs are required to execute their swaps on a DCM, and all contracts
executed on a DCM must be cleared by a DCO, as required by statute and
regulation, not by operation of any clearing requirement determination.
The Commission did not receive comments on this conclusion. Therefore,
the Chairman, on behalf of the Commission, hereby certifies pursuant to
5 U.S.C. 605(b) that this rulemaking will not have a significant
economic impact on a substantial number of small entities.
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\223\ 5 U.S.C. 601 et seq.
\224\ 81 FR at 39534-39535.
\225\ 66 FR 20740, 20743 (Apr. 25, 2001).
---------------------------------------------------------------------------
B. Paperwork Reduction Act
The Paperwork Reduction Act (PRA) \226\ imposes certain
requirements on federal agencies, including the Commission, in
connection with conducting or sponsoring any collection of information
as defined by the PRA. This rulemaking will not require a new
collection of information from any persons or entities. The Commission
did not receive any comments relating to the PRA in response to the
NPRM.
---------------------------------------------------------------------------
\226\ 44 U.S.C. 3507(d).
---------------------------------------------------------------------------
List of Subjects in 17 CFR Part 50
Business and industry, Clearing, Swaps.
For the reasons set forth in the preamble, the Commodity Futures
Trading Commission amends 17 CFR part 50 as follows:
PART 50--CLEARING REQUIREMENT AND RELATED RULES
0
1. The authority citation for part 50 continues to read as follows:
Authority: 7 U.S.C. 2(h) and 7a-1 as amended by Pub. L. 111-203,
124 Stat. 1376.
0
2. Revise Sec. 50.4(a) to read as follows:
Sec. 50.4 Classes of swaps required to be cleared.
(a) Interest rate swaps. Swaps that have the following
specifications are required to be cleared under section 2(h)(1) of the
Act, and shall be cleared pursuant to the rules of any derivatives
clearing organization eligible to clear such swaps under Sec. 39.5(a)
of this chapter.
[[Page 71240]]
Table 1a
--------------------------------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------------------------------
Specification Fixed-to-floating swap class
--------------------------------------------------------------------------------------------------------------------------------------------------------
1. Currency..................... Australian Dollar Canadian Dollar Euro (EUR)........ Hong Kong Dollar Mexican Peso (MXN) Norwegian Krone
(AUD). (CAD). (HKD). (NOK).
2. Floating Rate Indexes........ BBSW.............. CDOR.............. EURIBOR........... HIBOR............. TIIE-BANXICO...... NIBOR.
3. Stated Termination Date Range 28 days to 30 28 days to 30 28 days to 50 28 days to 10 28 days to 21 28 days to 10
years. years. years. years. years. years.
4. Optionality.................. No................ No................ No................ No................ No................ No.
5. Dual Currencies.............. No................ No................ No................ No................ No................ No.
6. Conditional Notional Amounts. No................ No................ No................ No................ No................ No.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Table 1b
--------------------------------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------------------------------
Specification Fixed-to-floating swap class
--------------------------------------------------------------------------------------------------------------------------------------------------------
1. Currency.................. Polish Zloty Singapore Dollar Swedish Krona Swiss Franc Sterling (GBP). U.S. Dollar Yen (JPY).
(PLN). (SGD). (SEK). (CHF). (USD).
2. Floating Rate Indexes..... WIBOR........... SOR-VWAP........ STIBOR.......... LIBOR........... LIBOR.......... LIBOR.......... LIBOR.
3. Stated Termination Date 28 days to 10 28 days to 10 28 days to 15 28 days to 30 28 days to 50 28 days to 50 28 days to 30
Range. years. years. years. years. years. years. years.
4. Optionality............... No.............. No.............. No.............. No.............. No............. No............. No.
5. Dual Currencies........... No.............. No.............. No.............. No.............. No............. No............. No.
6. Conditional Notional No.............. No.............. No.............. No.............. No............. No............. No.
Amounts.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Table 2
--------------------------------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------------------------------
Specification Basis swap class
--------------------------------------------------------------------------------------------------------------------------------------------------------
1. Currency........................ Australian Dollar Euro (EUR)............ Sterling (GBP)....... U.S. Dollar (USD).... Yen (JPY).
(AUD).
2. Floating Rate Indexes........... BBSW.................. EURIBOR............... LIBOR................ LIBOR................ LIBOR.
3. Stated Termination Date Range... 28 days to 30 years... 28 days to 50 years... 28 days to 50 years.. 28 days to 50 years.. 28 days to 30 years.
4. Optionality..................... No.................... No.................... No................... No................... No.
5. Dual Currencies................. No.................... No.................... No................... No................... No.
6. Conditional Notional Amounts.... No.................... No.................... No................... No................... No.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Table 3
--------------------------------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------------------------------
Specification Forward rate agreement class
--------------------------------------------------------------------------------------------------------------------------------------------------------
1. Currency.................. Euro (EUR)...... Polish Zloty Norwegian Krone Swedish Krona Sterling (GBP). U.S. Dollar Yen (JPY).
(PLN). (NOK). (SEK). (USD).
2. Floating Rate Indexes..... EURIBOR......... WIBOR........... NIBOR........... STIBOR.......... LIBOR.......... LIBOR.......... LIBOR.
3. Stated Termination Date 3 days to 3 3 days to 2 3 days to 2 3 days to 3 3 days to 3 3 days to 3 3 days to 3
Range. years. years. years. years. years. years. years.
4. Optionality............... No.............. No.............. No.............. No.............. No............. No............. No.
5. Dual Currencies........... No.............. No.............. No.............. No.............. No............. No............. No.
6. Conditional Notional No.............. No.............. No.............. No.............. No............. No............. No.
Amounts.
--------------------------------------------------------------------------------------------------------------------------------------------------------
Table 4
--------------------------------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------------------------------
Specification Overnight index swap class
--------------------------------------------------------------------------------------------------------------------------------------------------------
1. Currency........................ Australian Dollar Canadian Dollar (CAD). Euro (EUR)........... Sterling (GBP)....... U.S. Dollar (USD).
(AUD).
2. Floating Rate Indexes........... AONIA-OIS............. CORRA-OIS............. EONIA................ SONIA................ FedFunds.
3. Stated Termination Date Range... 7 days to 2 years..... 7 days to 2 years..... 7 days to 3 years.... 7 days to 3 years.... 7 days to 3 years.
4. Optionality..................... No.................... No.................... No................... No................... No.
5. Dual Currencies................. No.................... No.................... No................... No................... No.
6. Conditional Notional Amounts.... No.................... No.................... No................... No................... No.
--------------------------------------------------------------------------------------------------------------------------------------------------------
[[Page 71241]]
* * * * *
Issued in Washington, DC, on September 28, 2016, by the
Commission.
Christopher J. Kirkpatrick,
Secretary of the Commission.
Note: The following appendices will not appear in the Code of
Federal Regulations.
Appendices to Clearing Requirement Determination Under Section 2(h) of
the Commodity Exchange Act for Interest Rate Swaps--Commission Voting
Summary and Chairman's Statement
Appendix 1--Commission Voting Summary
On this matter, Chairman Massad and Commissioners Bowen and
Giancarlo voted in the affirmative. No Commissioner voted in the
negative.
Appendix 2--Statement of Chairman Timothy G. Massad
Central clearing is one of the great innovations of the
financial system. Indeed, increasing the use of central clearing for
over-the-counter swaps is one of the most important goals of the
2009 G20 Leaders' agreement and the Dodd-Frank Act.
Of course, central clearing does not eliminate the risk of
transactions. But clearinghouses can monitor and mitigate that risk,
which can make our financial system more stable.
In just a few short years, the percentage of over-the-counter
swaps being cleared has increased substantially. And today, I am
very pleased that we are continuing this progress by expanding the
Commission's swap clearing requirement to include interest rate
swaps denominated in nine additional currencies. Our counterparts in
the relevant non-U.S. jurisdictions have mandated, or are expected
soon to mandate, central clearing for these products, and our
requirements will be phased based on when the corresponding clearing
requirements have taken effect in non-U.S. jurisdictions.
The Commission's first clearing requirement, adopted in 2012,
applied to interest rate swaps denominated in four currencies--U.S.
dollar, euro, British sterling, and Japanese yen. Today, we have
expanded the interest rate swap clearing requirement to include
those denominated in the Australian dollar, Canadian dollar, Hong
Kong dollar, Singapore dollar, Mexican peso, Norwegian krone, Polish
zloty, Swedish krona, and Swiss franc.
Requiring clearing for these swaps will further reduce risk
within our financial system. Today's determination also represents
another important step toward cross-border harmonization of swaps
regulations, which is critically important to creating an effective
regulatory framework.
This rule reflects the CFTC's close coordination with our fellow
regulatory authorities from the various jurisdictions with whom we
are seeking to harmonize. We also consulted and coordinated with our
fellow financial regulators here in the United States.
I want to thank the hardworking CFTC staff for their efforts on
this important measure. I'd also like to thank my fellow
Commissioners Bowen and Giancarlo for their support.
[FR Doc. 2016-23983 Filed 10-13-16; 8:45 am]
BILLING CODE 6351-01-P
Last Updated: October 14, 2016