Yesterday, the Commodity Futures Trading Commission (CFTC) entered two orders relating to the mismarking of swap positions, one for fraudulent conduct and another for supervision failures that allowed for mismarking to occur.  Companies around the country and across the globe use swaps, which comprise a global market with a notional value in the hundreds of trillions of dollars, to manage risk.  As evidenced by the events that precipitated the onset of the 2008 financial crisis, however, swaps—an unregulated sector of financial markets at that time—concentrated risk, obscured risk management failures, and contributed to one of the most pernicious financial market crashes in recent history.  The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) introduced several key reforms; among these monumental regulatory initiatives, the Dodd Frank Act directed the CFTC to exercise its oversight authority in the markets for certain swaps.  The CFTC’s implementation of these critical reforms has increased transparency in swaps markets through mandatory reporting of swaps and governance reforms for market participants such as swaps dealers.

Section 4s of the Commodity Exchange Act (CEA) contains the key swap provisions added by the Dodd-Frank Act.[1]  CEA Section 4s(f) imposes reporting and recordkeeping requirements on registered swap dealers and major swap participants, including a requirement to keep books and records as prescribed by the CFTC.[2]  These requirements were implemented by the CFTC in Subpart F of Part 23 of the CFTC’s Regulations.[3]  The Dodd-Frank Act also added CEA Section 21, which established a new category of registrant—swap data repositories—to collect and disseminate information about the swaps being entered into, in order to avoid the opaque accumulation of risk that characterized the markets leading up to the financial crisis.[4]  Increased transparency leads to lower costs, greater liquidity, and lower risk for the swaps market.  However, these benefits are not achieved if market participants provide inaccurate or misleading information about the swaps they are entering into—which is why it is crucial for the CFTC to enforce compliance with the reporting and recordkeeping requirements in the CEA and CFTC Regulations.

Other aspects of Dodd-Frank Act reforms aim to improve the governance of swap dealers to ensure the greater safety and soundness of the swaps market.  CEA Section 4s(h)(1)(B) requires swap dealers to conform with business conduct standards relating to the diligent supervision of the business of the swap dealer, as set forth in Regulation 23.602.[5]  Pursuant to this rule and other provisions of the business conduct standards, swap dealers must establish risk management programs and designate senior personnel to oversee them.  In this way, swap dealers become responsible for ensuring compliance with the CFTC’s Regulations so that the Dodd-Frank Act reforms may achieve intended prudential and regulatory goals.  The CFTC’s enforcement actions in these matters and others parallel these aims and seek to ensure that swap dealers are, in fact, implementing appropriate and mandated risk management programs effectively.  Those who fail to meet their supervisory responsibilities should anticipate inquiries, investigations, and the possibility of enforcement actions.

The orders entered yesterday provide valuable examples of the CFTC carrying out its mission to appropriately pursue failures to comply with reporting and recordkeeping requirements, on the one hand, and supervision requirements, on the other.  The first order finds that, from approximately January 2015 to April 2018, Blaise Brochard (Brochard), a former managing director on the New York-based interest rate derivatives (IRD) desk at a global bank (Bank), mismarked the U.S. dollar (USD) IRD positions at the Bank in an attempt to inflate the profits and disguise the losses in the IRD desk’s trading book.  Brochard accomplished this scheme by submitting false or misleading entries in the Bank’s internal recordkeeping and accounting system relating to marking the of the Bank’s end-of-day USD LIBOR forward curve (Closing Curve).  Brochard’s markings should have reflected observable midmarket prices, yet Brochard improperly aligned the markings to benefit the IRD desk’s risk positions.  Brochard evaded detection by generally staying inside the internal control limits set by the Bank and by using complex spreadsheets to determine the Closing Curve, which only he could understand.  As a result, Brochard submitted false or misleading marks almost every day for three years and overstated the profit and loss (P&L) calculations of the IRD desk by approximately $25 million at its peak.  These types of violations can directly affect the integrity of the swaps data reported to the public and, if widespread, could undermine the intent of making such data transparent.

The second order finds that Natixis, a global bank and provisionally registered swap dealer headquartered in Paris, France, failed to diligently supervise the activities of two of its derivatives trading desks based in the U.S. from approximately January 2015 to November 2019.  During that time, traders on these desks separately engaged in misconduct by mismarking their swap positions to either inflate profits and minimize losses or, for one of the desks, to “smooth” out its P&L.  As a result of the misconduct, Natixis’s books and records were inaccurate in several respects, and Natixis conveyed inaccurate swap valuation data and daily marks to a swap data repository (SDR) and certain swap counterparties, respectively, on numerous occasions.  While Natixis maintained certain controls, those controls were insufficient to detect the various traders’ misconduct, which continued undetected for years.  In addition to the negative impact resulting from the reporting of inaccurate data, the failure of Natixis’s supervisory system created independent risk to the swaps markets that cannot go unaddressed.

As a sponsor of the Market Risk Advisory Committee (MRAC), I am deeply committed to ensuring that the CFTC remains focused on systemic risks that threaten the stability of the derivatives markets.  We must seek to continuously improve market integrity and mitigate risk.  Consistent with this commitment, the MRAC, through the work of its Interest Rate Benchmark Reform Subcommittee, has worked tirelessly to transition away from reliance on LIBOR and other IBORs.[6]  In addition, the CFTC recently issued a rule to protect financial stability in this global transition effort.  These matters, however, reinforce ongoing concerns over the internal and external reporting of rigged data and further highlight the importance of benchmark reform initiatives as well as conducting effective supervision and instilling robust compliance systems to identify these types of fraud.  Institutions must be diligent in their efforts to prevent such data rigging misconduct.

Here, I would like to note that the respondent in each of these matters received the benefit of a reduced penalty for substantial cooperation with the Division of Enforcement’s investigations, significantly conserving time and resources.  Cooperation by subjects of investigation is not only beneficial to the agency, but also to taxpayers and at times even the reliability and stability of our markets.

I acknowledge and appreciate the cooperation and assistance of the France’s Autorité des marchés financiers and the National Futures Association in these matters.  I applaud the diligent work of our Enforcement team, including Trevor Kokal, John Buffington, David Oakland, John C. Murphy, Patryk J. Chudy, Lenel Hickson, Jr., and Manal M. Sultan, for their efforts in this matter, as well as Pamela Geraghty from the Market Participants Division and Owen Kopon of the Division of Market Oversight for their assistance.

[1] 7 U.S.C. § 6s.

[2] 7 U.S.C. § 6s(f).

[3] 17 C.F.R. pt. 23, subpt. F.

[4] 7 U.S.C. § 24a.

[5] 7 U.S.C. § 6s(h)(1)(B); 17 C.F.R. § 23.602.

[6] See Clearing Requirement Determination Under Section 2(h) of the Commodity Exchange Act for Interest Rate Swaps To Account for the Transition From LIBOR and Other IBORs to Alternative Reference Rates, 87 FR 52182, (Aug. 24, 2022).