In a speech at the Swaps Execution Facilities Conference (“SEFCON V”) hosted by the Wholesale Markets Brokers’ Association Americas (“WMBAA”), CFTC Chair Timothy Massad discussed the transparent trading of swaps transactions on regulated platforms. Chair Massad stated that regulated platforms “can bring greater integrity to the trading process and can facilitate straight-through-processing,” adding that more work needs to be done, and that the CFTC is working to fine-tune its rules. In a separate statement, Commissioner Giancarlo suggested that the worldwide swaps marketplace has “started to unravel,” and criticized the CFTC for imposing ill-advised transaction level rules.

Chair Massad outlined the following three principles, which guide his approach to current issues concerning regulated platforms:

1. The CFTC’s duty is to implement the law and be faithful to it.
   
   • Dodd-Frank, Chair Massad reminded his audience, created the trading mandate, prescribed core principles, and directed the CFTC to write rules to implement the trading mandate and those core principles.
2. Market development takes time.
   
   • Noting that SEF rules are barely a year old, and that the first made-available-for-trade (“MAT”) determinations are only eight months old, Chair Massad pointed out that this is a work in progress – that participants are still adapting and the technology, evolving.
3. Markets don’t develop simply as a result of government directives.
   
   • The CFTC, Chair Massad said, must create a regulatory framework that not only implements the statutory trading mandate, but also creates the conditions in which participants wish to trade on SEFs.

Chair Massad stated that his goal is to build a regulatory framework that meets Dodd-Frank’s Congressional mandate and creates a foundation on which the market will thrive. He also spoke about issues that the CFTC intends to address relating to general oversight, products and methods of execution. Lastly, Chair Massad counseled patience, noting that the CFTC is focused on the cross-border implications of its trading mandate rules and that he is committed to harmonizing the CFTC rules as much as possible.

Chair Massad concluded by calling for additional resources. Without additional support, he said, “markets cannot be as well supervised, participants cannot be as well protected, and market transparency and efficiency cannot be as fully achieved.”

In a separate prepared statement, Commissioner Giancarlo suggested that the worldwide swaps marketplace has “started to unravel,” and criticized the CFTC for imposing “ill-advised transaction level rules worldwide” that he said are based on market participants’ U.S. personhood or employee location and the wrong template of the structure of the U.S. futures markets. He also remarked that the CFTC rules included a host of unprecedented swaps trading restrictions, including pushing block trades off platforms.

Commissioner Giancarlo called for a return to the clear framework of Dodd-Frank Title VII and suggested that such a return would:

• “promote healthy global markets by regulating swaps execution in a manner well matched to the underlying market dynamics”;
• “reduce the enormous legal and compliance costs of registering and operating  a[n] SEF that is closing the doors of smaller platforms”;
• “encourage technological innovation to better serve market participants and preserve the jobs of U.S. based support personnel”;
• “free up agency resources and save taxpayer money at a time of Federal budget deficits”; and
• “undo much of the global fragmentation in global swaps trading and the resulting increased systemic risk.”

Commissioner Giancarlo stated that such a return also would attract the global trading community to the CFTC’s swaps regime.

Lofchie Comment: Chairman Massad’s comment – that the swap trading rules are mandated by Congress and all the CFTC can do is implement them – is worth considering in a number of ways. One implication is that, at some point, the regulators should go back to Congress and insist (to paraphrase William Congreve) that what is legislated in haste must be repented at leisure; there will come a time to fix at least some of the problems created by Dodd-Frank. Not all of the damage done to the markets can be blamed on the hurried legislation of the statute; some of it must be ascribed to rulemaking that was nearly as hasty. In that regard, suggestions should be put forward as to how to improve the rules. Whether they are made by Commissioner Giancarlo or market participants, those suggestions should be given meaningful attention. While it might be true that the swaps trading rules have been in place for only a year, it is also true that they were criticized broadly before adoption; thus, their problems did not in fact emerge out of the blue.

See: Text of Chair Massad’s Speech; Text of Commissioner Giancarlo’s Speech.

The Over-the-Counter (“OTC”) Derivatives Regulators Group (“ODRG”) issued a report that provides an update to the G20 Leaders regarding the ODRG’s continuing effort to identify and resolve cross-border issues associated with the implementation of the G20 OTC derivatives reform agenda.

The ODRG is made up of authorities with responsibility for the regulation of OTC derivatives markets in Australia, Brazil, the European Union, Hong Kong, Japan, Ontario, Quebec, Singapore, Switzerland, and the United States.

The report reflects how the ODRG has addressed, or intends to address, cross-border issues identified since the publication of the report published in 2013.

See: Report of the OTC Derivatives Regulators Group (ODRG) on Cross-Border Implementation Issues; CFTC Press Release.

ISDA announced that 18 major global banks (“G-18 banks”) agreed to sign a new ISDA resolution. The Stay Protocol (“the Protocol”) will impose a stay on cross-default and early termination rights within standard ISDA derivatives contracts between G-18 banks in the event that one of them is subject to resolution action in its jurisdiction.  According to ISDA, the stay is intended to give regulators time to facilitate an orderly resolution of a troubled bank.

The Protocol is intended to enable adhering counterparties to opt into certain overseas resolution regimes via a change to their derivatives contracts.  While certain existing national resolution frameworks impose stays on early termination rights following the start of resolution proceedings, these stays might only apply to domestic counterparties trading under domestic law agreements and so not capture cross-border trades.

The Protocol was developed in coordination with the Financial Stability Board to “support cross-border resolution and reduce systemic risk.”

The Protocol will take effect on January 1, 2015 and will govern both new and existing trades between the 18 adhering institutions and certain of their subsidiaries. 

See:  ISDA Press Release; Resolution Stay Protocol – Background.
See also:  FRB Press Release; FDIC Press Release; SIFMA Statement. 

The CFTC held a Global Markets Advisory Committee meeting that focused on issues relating to the mandatory clearing of FX non-deliverable forwards (“NDFs”) and the digital currency bitcoin.

In his opening statement, CFTC Chairman Timothy Massad stated that these topics of discussion are “both timely and important.” Chairman Massad discussed the importance of working out cross-border issues on clearinghouse regulation and supervision, commenting that Europe should recognize CFTC-registered clearinghouses (“CCP”) as equivalent, since they meet international standards. Regarding the CFTC’s interest in bitcoin, he stated, while the development of digital payment systems raises many issues outside the CFTC’s jurisdiction, one area within the CFTC’s responsibility is derivative contracts traded on SEFs or DCMs that are based on bitcoin.

CFTC Commissioner Mark Wetjen also spoke at the meeting. First commenting on discussions between the European Commission and the CFTC on equivalency determinations for CCPs, he highlighted the need for the CFTC and the European Commission to come to an agreement about which specific CFTC requirements will be satisfied when a CCP is following an EMIR-specific rule. Once equivalency determinations are settled, he explained, the CFTC and its global counterparts will be able to continue harmonization efforts in a number of other areas, including trading platforms.

Regarding a clearing mandate for NDF contracts, Commissioner Wetjen requested that the CFTC FX subcommittee prepare a written recommendation to address the settlement characteristics and standardization of NDF contracts and related market-structure issues involving clearinghouse, futures commission merchant (“FCM”) and service-provider risk management. He also stated that the implementation of any NDF mandate should be aligned with comparable mandates overseas.

Following Chairman Massad and Commissioner Wetjen’s remarks, the discussion about a potential mandatory clearing requirement for NDFs focused on the following issues:

• The contracts (i.e., currency pairs and tenors) that would be appropriate for mandatory clearing.
• The importance for the United States to have a mandate that is parallel with comparable (particularly European) foreign mandates given ESMA’s recent consultation release.
• The effect, following mandatory clearing, that a “made available to trade” determination in the U.S. would have on the global NDF market.

Lofchie Comment: It would be prudent for the regulators to examine the risks of central clearing before forcing more types of transactions into a central clearing system. Regulators should be particularly cautious about forcing NDFs into central clearing, given that such transactions have an inherent international element, and the U.S. and EU have not resolved their differences as to how central clearing should be regulated. Clearly, there is no consensus that such a mandate would make the world economy safer. Given the obvious risks of the proposed mandate, what’s the rush ?

See: CFTC Event Notice; Chair Massad’s Opening Statement; Commissioner Wetjen’s Statement.