CFTC Announces Formation of Interdivisional Working Group to Review Regulatory Reporting

CFTC Acting Chairman Mark P. Wetjen and Commissioners Bart Chilton and Scott O’Malia announced the formation of an interdivisional staff working group to review certain swaps transaction data recordkeeping and reporting provisions. 

The agenda of the working group is as follows:

  1. identify and make recommendations to resolve reporting challenges, if any;
  2. review industry compliance with reporting obligations;
  3. consider data field standardization and consistency in reporting among market participants;
  4. recommend additional reporting guidance or requirements, as appropriate; and
  5. explore whether the agency should seek additional regulatory and technology improvements and data analysis expertise.

The working group – led by the director of the Division of Market Oversight (“DMO”), Vincent McGonagle – will recommend questions for public comment regarding (i) compliance with reporting rules under Part 45 (“Swap Data Recordkeeping and Reporting Requirements”), and (ii) consistency in regulatory reporting among market participants.  Acting Chairman Wetjen has directed the working group to publish the request for public comment in the Federal Register by March 15, 2014, and to review the public comments submitted in response to this request and make recommendations to the CFTC in June.

Lofchie Comment:  This is a very positive sign. Acting Chairman Wetjen is quietly and gradually taking steps (see also, e.g., CFTC Letter 14-01) to clean up the rulemaking mess he inherited.  The financial industry spends huge amounts of money – a drag on the economy – to produce data that cannot even be stored by the regulators, much less organized and analyzed in a meaningful way.   It will be a positive development for the industry and, more importantly, for the economy, if regulators limit data demands to that which can be collected at a cost that is worth its’ use.  (Unreasonable demands for useless data are by no means a CFTC-specific issue; Form PF remains near the top of the list of data requirements that are so broad and ill-considered that hundreds of millions of dollars are spent producing information that is, in key respects, useless.)

See:  CFTC Press Release.


CFTC Issues Trade Execution Mandate for Certain Interest Rate Swaps

The CFTC Division of Market Oversight (“DMO”) certified Javelin SEF LLC’s (“Javelin”) self-certification of certain interest rate swap contracts has been made available-to-trade (“MAT Determinations”).  The CFTC stated that swaps subject to MAT Determinations, whether offered by Javelin or any other swap execution facility (“SEF”) or designated contract market (“DCM”), will become subject to the trade execution requirement under Section 2(h)(8) of the CEA 30 days after certification.  In the case of these interest rate swap contract MAT Determinations, the requirement will be effective as of February 15, 2014.  The CFTC noted that all transactions involving swaps that are subject to the trade execution requirement must be executed through a DCM or a SEF, including swaps that are part of so-called “package transactions,” or groups of transactions that are executed together for price coordination or other reasons. 

CFTC Commissioner Scott D. O’Malia issued a statement of concern regarding the MAT Determination process, stating that it was “hard to imagine a federal regulatory agency process that is more flawed,” and noting that the legally limited review process permitted under the MAT Determinations rulemaking was little more than a rubber stamp.  He noted that although he is in support of mandatory trading determinations for individual benchmark swaps, the Commission’s process creates significant market uncertainty.  He highlighted in particular the issues created for “package transactions” (which Javelin itself had indicated it wished to exclude), stating “by accepting Javelin’s determination and then immediately contemplating further action with respect to half of the MAT transactions, the Commission creates uncertainty in the market and sets a dangerous precedent for future MAT Determinations.”  He called on the CFTC to carefully review all possible package transactions for legal compliance and technical readiness, seek public comment, and hold roundtables in order to develop well-thought-out solutions to each type of complex transaction.

The CFTC noted that Acting Chairman Mark Wetjen has ordered a public roundtable discussion to address execution issues related to package transactions and whether and under what conditions to grant limited relief for such transactions to ensure proper implementation of the execution mandate.

Lofchie Comment:  The new certifications are another challenge facing Chairman Wetjen.  Either he can go full-speed ahead with these rules risking trading problems that are disruptive to the market; or he can risk criticism by throttling back regulation (in the interest of market safety) by taking market comment on the guidance.

Even if one believes that mandatory SEF trading is of some value in price discovery, it almost certainly does nothing to make the economy safer (see, commentary by New York Times-featured economist, Craig Pirrong).  Accordingly, there is certainly reason for Chairman Wetjen and the CFTC to take some delaying measures before the February 15 “deadline”.

See:  Javelin MAT Approval (and Fixed-to-Floating Interest Rate Swap Table); Commissioner O’Malia’s Statement.

Related news:  Javelin SEF Submits More Limited MAT Determination to CFTC (December 3, 2013); MFA Comment Letter to CFTC on SEF Trading Rules and Onboarding Documentation (January 10, 2014);  MFA Submits Suggestions to CFTC on MAT Submissions (November 26, 2013); SIFMA and ISDA Criticize SEFs’ Made-Available-to-Trade Submissions (November 25, 2013); CFTC Extends Comment Period on Certification from Javelin SEF to Implement Available-to-Trade Determinations (November 4, 2013); SEF Seeks Determination of Mandatory Exchange Trading of Swaps (October 21, 2013).

Market Participants File Opposition to CFTC’s Motion to Delay Judgment in Lawsuit Challenging CFTC Cross-Border Guidance

The ISDA, SIFMA and the Institute of International Bankers (“IIB”) (together, the “Associations”) filed an opposition to the CFTC’s motion for the Court’s delay in ruling on their amended complaint against the CFTC.  The Association’s amended complaint asserts that the CFTC Interpretive Guidance and Policy Statement Regarding Compliance with Certain Swap Regulations (“Cross-Border Rule”) and related actions were issued in violation of the Administrative Procedure Act (“APA”).  In particular, the complainants allege that, in issuing the guidance, the CFTC failed to consider cross-border application consistent with the APA and the CEA, failed to respond to comments on cross-border application, and failed to weigh the costs and benefits of its guidance.

Along with filing an amended complaint on December 30, 2013, the Associations submitted to the Court a procedural motion seeking expedited consideration of a motion for summary judgment.  On the same day, the CFTC filed a motion to delay the Association’s motion for summary judgment, arguing that review of the motion should be delayed “for months” while the CFTC briefs a motion to dismiss.

According to the CFTC, their yet-to-be-filed motion to dismiss would be premised largely on the assertion that trade associations’ members may lack standing to challenge those regulations.  Additionally, the CFTC stated, the dismissal is based on the theory that the Cross-Border Rule is not a substantive rule and, therefore, neither final “nor ripe for challenge.”

According to the Associations’ opposition to the CFTC’s motion to delay, however, it has been made clear by the D.C. Circuit in Sierra Club v. EPA that the argument that the Associations lack standing to challenge the CFTC regulations is meritless, since there is little question that the Associations will be negatively affected by the agency’s action.  Additionally, the Associations’ claim that the CFTC’s argument that the Cross-Border Rule is not substantive, final, or “ripe for challenge” is “inextricably intertwined with the very issues briefed in Plaintiffs’ summary judgment motion,” and also note that the Cross-Border Rule is an extension of Dodd-Frank Title VII Rules – substantive rules which are both final and ripe for challenge.

The ISDA, SIFMA and the IIB therefore stated that the Court should reject the CFTC’s “delaying tactics” and move forward with the Associations’ original motion for summary judgment consistent with their proposed expedited schedule. 

See: SIFMA Opposition to CFTC Motion to Hold in Abeyance.
See also: CFTC Motion to Hold in Abeyance; SIFMA Motion for Expedited Consideration of Summary Judgment; SIFMA v. CFTC Amended Complaint; SIFMA Motion for Summary Judgment; SIFMA v. CFTC Civil Docket.
Related news: Market Participants File Amended Complaint Challenging CFTC Cross-Border Guidance (January 8, 2014); Market Participants File Lawsuit Challenging CFTC Cross-Border Guidance for Being a Rule Adopted in Violation of the APA (December 4, 2013); CFTC Commissioner O’Malia Dissents from CFTC Cross-Border Guidance Statement (July 19, 2013); CFTC Approves Cross-Border Guidance and Exemptive Order (July 15, 2013).


OCC Proposes Formal Guidelines for Heightened Expectations for Large Banks

The Office of the Comptroller of the Currency (“OCC”) released a proposal setting forth new standards for large national banks and federal savings associations that would be enforceable under Part 30 of its regulations.  The guidelines set forth the minimum standards for the design and implementation of an institution’s risk governance framework and provide minimum standards for oversight of that framework by the board of directors. 

The new standards are based on the OCC’s heightened expectations program, which was developed by the agency following the financial crisis to strengthen the governance and risk management practices of large national banks and federal savings associations, as well as to enhance the OCC’s supervision of those institutions.

The proposed guidelines would apply to any insured national bank, insured federal savings association or insured federal branch of a foreign bank, with average total consolidated assets of $50 billion or more. The proposal would reserve the OCC’s authority to apply the guidelines to an institution with less than $50 billion in assets if the OCC determines that it is highly complex or otherwise presents a heightened risk.

See: Notice of Proposed Rulemaking; OCC Press Release


Keynes on Sovereign Debt

John Maynard Keynes (United Kingdom) on Sovereign Debt

Mr. Chairman, since the United Kingdom is the only country here represented which has incurred large-scale war debt to our allies and associates, also here present, these three alternative amendments must be assumed, as indeed Mr. Shroff made clear, to relate primarily to her. Mr. Chairman, the various members of this alliance have suffered in mind, body and estate through the exhaustion of war, through which we are differing in kind and degree. These sacrifices cannot be weighed one against the other. Those of us who are most directly threatened and were nevertheless able to remain in the fight, such as the USSR and the United Kingdom, have fought this war on the principle of unlimited liability and with a more reckless disregard to economic consequences. Others are more fortunately placed. We do not need information in the larger fields of human affairs. Nothing could be less prudent than hesitation or careful counting of the cost. But as a result, there has been inevitably no equality of financial sacrifice.

In respect to overseas assets, the end of the war will find the United Kingdom greatly impoverished and other of the United Nations considerably enriched at our expense. We make no complaint to this provided that the resulting situation is accepted for what it is. On the contrary, we are grateful to those allies, particularly to our Indian friends, who put their resources at our disposal without stent, and themselves suffered from privation as result. Our efforts would have been gravely, perhaps critically, embarrassed if they had held back from helping us so wholeheartedly and on so great a scale. We will appreciate the moderate, friendly and realistic statement to the problem which Mr. Shroff has put before you today. Nevertheless, the settlement of these debts must be, in our clear and settled judgment, a matter between those directly concerned. When the end is reached and we can see our way into the daylight, we will take it up without any delay to settle honorably what was honorably and generously given. But we do not intend to ask assistance in this matter from the International Monetary Fund beyond the fact, as Mr. Bernstein has just pointed out, that the existence of the Fund and the general assistance it will give to stability, and expansion of trade may be expected to improve indirectly our ability to meet other obligations. We concur entirely with the view that has just been expressed by Mr. Bernstein on behalf of the American delegation that the Fund is not intended to deal directly with war indebtedness.

Now, since we do not intend either to ask for or to avail ourselves of any special treatment from the Fund, it appears to the United Kingdom delegation that this amendment could be of no practical effect, and it is therefore better to discard it if misunderstanding is to be avoided about the role which the Fund can be expected to play.

(Commission I, third meeting)

The Bretton Woods Transcripts
Typescripts and Conference Proceedings of the United Nations Monetary and Financial Conference
Bretton Woods, New Hampshire
July 1-22, 1944

Edited by CFS Senior Fellow of Financial History Kurt Schuler and CFS Senior Associate Andrew Rosenberg

House Committee on Financial Services Hearing: Impact of the Volcker Rule on Job Creators, Part I

The House Committee on Financial Services held a hearing to examine the impact of the Volcker Rule on the U.S. economy and its capital markets.  The hearing, among other things, investigated the effect of the Volcker Rule on the ability of financial institutions to own tranches of collateralized debt obligations backed by trust preferred securities, and how H.R. 3819, the Fairness for Community Job Creators Act, would modify the Volcker Rule’s applicability to financial institutions that hold such ownership interests.

The following witnesses testified:

See:  Archived Webcast of Hearing; SIFMA Press Release.


Senate Banking Subcommittee Holds Hearing on Regulating Financial Holding Companies and Physical Commodities

The Senate Banking Subcommittee on Financial Institutions and Consumer Protection held a hearing entitled “Regulating Financial Holding Companies and Physical Commodities.”  The following witnesses testified:

  • Mr. Norman Bay, Director of the Office of Enforcement, Federal Energy Regulatory Commission
  • Mr. Vince McGonagle, Director of the Division of Market Oversight, Commodity Futures Trading Commission
  • Mr. Michael Gibson, Director of the Division of Banking Supervision and Regulation, Board of Governors of the Federal Reserve System.

See:  Archived Webcast of Hearing.


SEC Commissioner Gallagher Delivers Speech on the Philosophies of Capital Requirements

SEC Commissioner Daniel M. Gallagher delivered a speech on the theories behind capital requirements for both banks and non-bank financial institutions. 

According to Commissioner Gallagher, policymakers often advance the mistaken view that there is a one-size-fits-all approach to capital.  Rather, he explained, there are several models of capital requirements.

Commissioner Gallagher stated that, in the banking sector, capital requirements are designed with the goal of enhancing safety and soundness, serving as a cushion against unexpected losses.  By placing bank owners’ equity at risk in the event of a failure, capital requirements reduce risk and the possibility that taxpayers would be required to backstop banks in times of stress. 

Gallagher also stated that capital requirements for broker-dealers are predicated on risk and focus on managing failure rather than avoiding it.  Therefore, Gallagher said, applying bank-based capital requirements to non-bank financial entities is “like trying to manage an orange grove using apple orchard techniques.”

To highlight the danger of imposing a bank capital regime on broker-dealers, Gallagher pointed to 2008, when the Fed “became the investor of last resort” and went beyond offering access to the discount window to depository institutions in its capacity as the lender of last resort.  According to Gallagher, the extension of the Fed’s regulatory paradigm to non-bank institutions had an adverse effect on these institutions, such as broker-dealers who had their own regulatory capital regime that was “designed to manage, rather than prevent, failure in order to ensure the return of customer assets.” 

Citing the Financial Stability Oversight Council’s (“FSOC”) proposal of capital requirements for money market funds which, contrary to the intention behind the proposal, would not mitigate the risk of investor panic leading to a run on a fund, Gallagher concluded that the situation is “terribly muddled.”  He questioned whether the goal is to expand the Fed’s role by making it the lender of last resort to non-bank entities, or to use the Fed’s Bank Holding Company Act authority and its role in FSOC to dictate capital requirements to non-bank entities in order to prevent them from gaining access to the discount window.  Gallagher stated that it is his hope in the coming year to work with the SEC and FINRA to review whether it is appropriate to establish separate capital rules for bank-affiliated broker-dealers. 

Lofchie Comment:  It is always gratifying to see senior level financial regulators addressing the important big-picture regulatory issues in a serious manner.   SEC Commissioner Gallagher’s thoughtful commentary shows his willingness to take on the complexities of the situation publicly, and, more specifically, to provide support for the role of the Fed as the lender of last resort in a liquidity crisis.

One should carefully consider a scenario, however, where liquidity really dries up.   If that were to happen, it is likely that the Fed might be forced to (and should) provide liquidity support to broker-dealers as well as to banks, since, like banks, broker-dealers are vulnerable to runs.   Where there is a general market confidence crisis, the markets stop settling trades, which has the potential to cause every firm to fail.

See:  Commissioner Gallagher’s Speech.


Global Financial Regulators Issue Progress Report on Counterparty Risk Reporting

Senior financial supervisors from ten countries, collectively making up the Senior Supervisors Group (“SSG”), issued a report assessing the progress on measuring and reporting counterparty risk from large and complex financial firms. 

The report, Progress Report of Counterparty Data, collected daily global counterparty credit data for reporting firms’ largest twenty exposures to each of the three distinct types of counterparties, including banks, non-bank financial institutions and non-bank corporate counterparties.  The report found that firms have made improvements in assessing counterparty risk; however, they failed to meet supervisory expectations and industry best practices in a timely, consistent and accurate manner.  The SSG highlighted that one area of concern is firms’ inability to produce and submit high-quality data to supervisors on a consistent basis. Based on findings from the report, the SSG called on supervisors to further emphasize to regulated entities the significance of reliable, timely and accurate reporting of counterparty exposure.

The report represents a joint effort on the part of supervisory agencies from ten countries: in Canada, the Office of the Superintendent of Financial Institutions; in France, the Prudential Control Authority; in Germany, the Federal Financial Supervisory Authority; in Italy, the Bank of Italy; in Japan, the Financial Services Agency; in the Netherlands, the Netherlands Bank; in Spain, the Bank of Spain; in Switzerland, the Financial Market Supervisory Authority; in the United Kingdom, the Prudential Regulation Authority; and in the United States, the Office of the Comptroller of the Currency, the Securities and Exchange Commission, the Board of Governors of the Federal Reserve, and the Federal Reserve Bank of New York.

See:  Progress Report of Counterparty Data.


Federal Agencies Approve Interim Final Rule Authorizing Retention of Interests in and Sponsorship of TruPS-Backed CDOs

The Board of Governors of the Federal Reserve System (“FRB”), the CFTC, the FDIC, the Office of the Comptroller of the Currency and the SEC (the “Agencies”) approved an interim final rule to permit certain smaller banking entities to retain interests in certain collateralized debt obligations (“CDOs”) backed primarily by trust preferred securities (“TruPS”) from the investment prohibitions of Dodd-Frank Section 619 (the “Volcker Rule”). 

Under the interim final rule, the agencies permit the retention of an interest in or sponsorship of covered funds by banking entities if the following qualifications are met: 

  • the TruPS CDO was established, and the interest was issued, before May 19, 2010;
  • the banking entity reasonably believes that the offering proceeds received by the TruPS CDO were invested primarily in Qualifying TruPS Collateral; and
  • the banking entity’s interest in the TruPS CDO was acquired on or before December 10, 2013, the date the agencies issued the final Volcker Rule.

Under the interim final rule, a “Qualifying TruPS Collateral” is defined as any trust preferred security or subordinated debt instrument issued prior to May 19, 2010, by a depository institution holding company that, as of the end of any reporting period within 12 months immediately, preceding the issuance of such trust preferred security or subordinated debt instrument, had total consolidated assets of less than $15 billion; or issued prior to May 19, 2010, by a mutual holding company.

The Agencies believe that the approach adopted in the interim final rule reconciles the policies of the Volcker Rule with its companion provision in Dodd-Frank, Section 171 (“Leverage and Risk-Based Capital Requirements”).  The Agencies will accept comment on the interim final rule for 30 days following its publication in the Federal Register. 

See:  Text of Interim Final Rule.
Related news:  Volcker Lawsuit on TruPS-Backed CDO (December 30, 2013); Agencies Are Reviewing Treatment of Specified Collateralized Debt Obligations under Volcker Rule (December 27, 2013).