Remarks of CFTC Director of Division of Swap Dealer & Intermediary Oversight Matthew Kulkin at New York City Bar Association

May 14, 2019

Good evening.  Thank you to Gary Kalbaugh and the Futures and Derivatives Regulation Committee for having me tonight.

These views are my own and do not represent the views of the Commodity Futures Trading Commission (“CFTC” or “Commission”), our Chairman, any of the Commissioners, or staff.

About the Division of Swap Dealer & Intermediary Oversight

The Division of Swap Dealer & Intermediary Oversight (“DSIO” or “Division”) is one of three policymaking divisions supporting the Commission.  We have about 75 lawyers, examiners, accountants, economists, and risk analysts working in Chicago, Kansas City, New York, and Washington, D.C.

DSIO has primary oversight responsibility over derivatives market intermediaries, including commodity pool operators (“CPOs”), commodity trading advisors (“CTAs”), futures commission merchants (“FCMs”), introducing brokers (“IBs”), major swap participants (“MSPs”), retail foreign exchange dealers (“RFEDs”), swap dealers (“SDs”) (collectively, “Registrants”), and the associated persons of the foregoing, as well as designated self-regulatory organizations (“SROs”).

As part of its oversight, the Division develops and monitors compliance with regulations addressing registration, business conduct standards, capital adequacy, and margin requirements for SDs and MSPs.  The Division also oversees the registration and compliance of the other intermediaries I just listed and futures industry SROs, including U.S. derivatives exchanges and the National Futures Association (“NFA”).

In many ways, although perhaps not easily visible to market participants, DSIO staffers are the “front line” CFTC employees working to protect customer funds, identify and mitigate systemic risk, and promote market integrity.

Last year, at my direction, DSIO staff – from all of our offices and across disciplines – adopted a Division mission statement:

DSIO’s mission is to protect derivatives market users and their funds by ensuring the financial integrity, fitness, and fair business conduct of derivatives market intermediaries.

DSIO achieves its mission by:

• examining intermediaries and designated self-regulatory organizations;
• maintaining appropriate standards for registration of intermediaries;
• providing expertise to the Commission in its promulgation of rules; and
• issuing concise and timely interpretations and guidance for intermediaries.

Principles for DSIO Rulemakings

Chairman J. Christopher Giancarlo has long spoken about his principles for financial regulation.[1]  In 2014, then-Commissioner Giancarlo laid out six principles that he would follow during his time on the Commission.  More recently, in 2017, then-Acting Chairman Giancarlo announced Project KISS, an “agency-wide review of CFTC rules, regulations, and practices to make them simpler, less burdensome, and less costly.”[2]  DSIO staffers, and market participants, have responded positively to the Project KISS initiative, and we’ve started to see the fruits of this labor, with much more work to be done.

Tonight, I will speak about how our Division approaches financial regulation, and more specifically, how DSIO staff approaches the task of developing new proposed rules or proposed amendments to existing rules.  I’ll address two of our principal guiding factors – regulatory compliance costs and impact to market quality.  And although my remarks will largely focus on DSIO’s work, these observations could easily apply to the work by colleagues in the Division of Clearing and Risk and the Division of Market Oversight.

Balance Policy Interests with the Regulatory Costs and Burdens Imposed

Of the two factors I’ve mentioned, you are probably most familiar with the Commission’s work to consider and balance the compliance costs and regulatory burdens with its underlying policy interests.  DSIO staff has undertaken a comprehensive review of our rules and related guidance.  Similarly, we’ve received a number of suggestions from market participants on ways to improve our regulatory framework and practices.

DSIO has been very busy on this front.  Project KISS has been incorporated into much of our work over the last two years.

• Streamlined Chief Compliance Officer Duties and Annual Reports: In August 2018, the Commission adopted amendments to rule 3.3 related to the duties of chief compliance officers of SDs, MSPs, and FCMs.[3]  These amendments clarified and modified certain requirements for preparing, certifying, and furnishing to the Commission an annual report containing an assessment of the registrant’s compliance activities.  The amendments provide greater clarity regarding the CCO’s reporting line and the CCO’s duties with respect to administering policies and procedures specific to the registrant’s business.  Several of the modifications and clarifications contained in the amendments further harmonize associated CFTC and US Securities and Exchange Commission regulations.
• Reduced Regulatory Burdens Associated with Swap Dealer Segregation Notices: In March 2019, the Commission adopted a final rule modifying a swap dealer’s notice requirement obligations related to the right to elect segregation.[4]
• Provided Relief for Designated Self-Regulatory Organizations: In March 2019, the Commission adopted an amendment to rule 1.52, revising certain minimum standards that a designated SRO must maintain in its financial surveillance program over FCMs.[5]
• Proposal to Codify Certain Commodity Pool Operator and Commodity Trading Advisor Staff Letters: In October 2018, the Commission proposed a series of amendments related to CPOs and CTAs.[6]  This proposed rule, in part, would provide regulatory certainty to market participants by including relief set out in various staff no-action letters directly in the Commission’s regulations.  The proposed changes would also help advance the CFTC’s ongoing effort to harmonize rules with the SEC regulations.  DSIO staff is hard at work incorporating the feedback received into final recommendations for the Commission.

There is much more work to be done.  This includes, as discussed by Mike Gill, the Chairman’s Chief of Staff, at the National Press Club in February 2018,[7] simplifying risk management rules for FCMs and SDs, by providing a more effective programmatic risk management system, and modifying quarterly risk reporting obligations.  We continue to review certain parts of the swap dealer business conduct standards regime, as well as ways to make our CPO/CTA regulation better reflect our statutory objectives.  With all of this work, we prioritize coordination and collaboration with our peers at the SEC to harmonize our requirements for dual Registrants.

We are constantly evaluating how staff can provide a better “customer experience” for our Registrants.  As part of our internal Project KISS assessment, we realized we can do a better job making Division information easily accessible by Registrants and market participants.  In the last few months, DSIO has launched a new website[8] that serves as a resource for the public containing our mission statement, senior staffs’ contact information, as well as links to recent Commission rulemakings, staff letters, NFA resources, and other valuable materials.  DSIO has also worked with our colleagues to improve the CFTC’s staff letter website,[9] making it easier for market participants to search for and locate relevant staff letters.

DSIO will continue to focus on and implement these good government modifications that simplify obligations and reduce unnecessary burdens.  These changes are important and further the Chairman’s goals of a more flexible and durable market framework, all of which leads to more efficient markets and greater economic growth.

Regulations Should Improve Market Conditions and Foster More Liquid Markets

In developing policy recommendations, DSIO spends considerable time evaluating the costs and benefits to market participants, as well as the impact such recommendations may have on market quality.  This evaluation should be continuous.  DSIO expects our Registrants to regularly review and revise their policies and procedures – not just to ensure they demonstrate compliance with our rules – but also to accurately reflect their business.  Firms’ methods constantly evolve to better align with emerging technologies and industry best practices.  In other words, they improve and adapt.

We should do the same.  If our rules have unintended negative consequences, we should address them.  If our rules are unduly impeding innovation and competition, we should reconsider their application.  We, too, should improve and adapt to the constant evolution of our markets.

We should focus our efforts on providing a more supportive framework for deep and liquid markets.  We should make every effort to remove barriers for new entrants and to reduce obstacles for those seeking to access our markets.  We should review parts of our regulatory regime that were written a generation ago and intended for a different market structure, just as we should review those written in response to a crisis to assess their efficacy and determine areas ripe for improvement.

To that end, in addition to the Project KISS initiatives I previously mentioned, the Division has worked, and will continue to work, to directly improve market quality by eliminating unnecessary barriers and removing ancillary regulations that prevent entities from entering the derivatives market. Specifically, over the last two years, DSIO has undertaken a number of initiatives that have had a direct impact on market quality.

Some of these efforts include:

• Removing Barriers for Banks Entering into Customer Swaps in Connection with Loans:  In April 2019, the Commission adopted an exception to the swap dealer registration regime to encourage more insured depository institutions (“IDIs”) to participate in the swap market, increasing the availability of loan-related swaps and helping end-user customers hedge loan-related exposure.[10]  This rule will also allow certain banks to engage in an ancillary amount of dealing without significant hurdles to market entry.
• Relieving Prime Brokers from Certain Swap Dealer Business Conduct Standards:  In March 2019, the Division issued a no-action letter that allows prime brokers to act as a source of liquidity in swaps, particularly FX swaps, without the burden of certain pre-trade disclosure obligations that are difficult to provide in the context of a PB transaction.[11]  Division staff believes this relief will attract more PBs to provide bids and offers in swaps markets, including those trades executed on swap execution facilities.
• Providing Regulatory Certainty in the Face of a No-Deal Brexit:  Over the past few months, DSIO has taken steps to mitigate potential market disruption in the case of a no-deal Brexit.  These measures have included the issuance of staff no-action letters[12] and a Commission interim final rule related to the application of the CFTC’s margin rules.[13]

DSIO is actively considering additional possible recommendations on other similar initiatives that could improve market quality:

• Floor Trader Exclusion for Swap Dealing:  As the Chairman has noted,[14] DSIO continues to review the application of the floor trader exclusion from the swap dealer definition.  DSIO continues to consider how to provide clarifications that assist registered floor traders to provide swaps liquidity.
• Permitted Investments for FCMs.  Similar to the recent Commission order granting an exemption for derivatives clearing organizations’ investment of customer funds in certain euro-denominated sovereign debt,[15]  DSIO staff is considering recommendations for the Commission to grant a similar exemption for FCMs.  DSIO staff is assessing several types of investments and beginning to analyze the appropriateness of sophisticated market participants being able to make commercial decisions with the need for highly liquid, stable investments.
• Phase Five Margin Implementation.  DSIO staff continues to work on Phase Five uncleared margin implementation for September 2020.  The Division is considering various measures related to the large number of firms that may be impacted, evaluating potential relief, and working with global regulators through the Basel Committee on Banking Supervision and the International Organization of Securities Commissions to avoid any potential market disruption.

Conclusion

I began my remarks this evening by sharing DSIO’s mission statement.  Our Division mission very clearly includes supporting the Commission’s stated mission to “foster open, transparent, competitive, and financially sound markets.”  By appropriately addressing regulatory burdens facing Registrants and thoughtfully considering how our rules impact market quality, I believe our work can indeed foster more open and competitive markets.

My challenge to you, the members of the NYC Bar Association, is to identify regulatory barriers that are unnecessarily inhibiting market growth.  As legal counsel, you are uniquely qualified to recognize these provisions, assess whether they may be exceeding the statutory intent and the Commission’s mission, and develop creative solutions.

I look forward to working with all of you.