CFTC Proposes Open Swaps Clearing for Small Banks
The Commodity Futures Trading Commission approved a proposed rule to force the world’s largest banks to offer swaps clearing services to smaller firms, a change that would promote competition in the $615 trillion market.
The proposed rule comes after an industry group of more than 20 mid-size brokers such as Jefferies & Co., Imperial Capital LLC and Newedge USA LLC told regulators they’ve been denied access to swaps clearing because dealers want to keep the market to themselves. Current rules favor larger banks such as JPMorgan Chase & Co. and Deutsche Bank AG that have more capital and expertise to be clearinghouse members.
“Swaps dealers or major swaps participants are prohibited from interfering with or attempting to influence decisions related to the provision of clearing or the acceptance of clearing customers,” according to the proposed rule. The potential regulation now enters a 60-day public comment period before any final CFTC vote.
Jason Kastner, vice chairman of the Swaps and Derivatives Markets Association, the mid-size brokers’ group, told the CFTC and the Securities and Exchange Commission in August that the trading side of dealer banks had blocked smaller firms from becoming customers of the clearing business at those banks.
Trading swaps with customers such as hedge funds or asset managers is more profitable for dealers than processing customer trades to be sent to clearinghouses.
Who Can Open
“It’s about who can open a clearing account,” Kastner said at the Aug. 20 hearing.
U.S. lawmakers sought to regulate swaps after the trades complicated efforts to solve the financial crisis. The Dodd- Frank financial overhaul act gives regulators until July 2011 to finish rules governing how trades in the over-the-counter derivatives market are processed after being executed on exchanges or at swap-execution facilities.
Proponents of the law said that clearinghouses, which are capitalized by their members, would increase stability in over- the-counter derivatives markets by lessening the effect of a default by a swaps user. Clearinghouses share the risk among the members and use daily margining procedures to keep accounts current. They also allow regulators to see market positions and prices.
At the outset of today’s CFTC meeting, Commissioners Jill Sommers and Scott O’Malia, the two Republicans on the body, said they were opposed to having the commission move forward on proposals without first completing certain definitions required by the law.
Tight Deadlines
“In a perfect world we would be doing the definitions first, then we would be promulgating compliance of these rules,” Sommers said. “But that’s not the way this is working out because of the tight deadlines in the statute.”
The agency is likely to release the definitions of terms such as “major swap participant,” “end user” and “swap dealer” next month, Commissioner Michael Dunn said today.
Commissioner O’Malia asked Chairman Gary Gensler if the process could be accelerated, saying “I’m ready to work.” Gensler replied that the topic was scheduled for a Dec. 1 meeting.
“I feel like I’ve used the term ‘we have the cart before the horse’ way too many times,” Sommers said. “Unfortunately doing things in the wrong order doesn’t make the process very easy for us.”
Proposed conflict-of-interest rules will prohibit bank analysts who determine swaps prices from being influenced by the swaps trading unit of banks. The pay for research employees would be determined based on their performance rather than the value they assign swaps.
Other Proposals
The CFTC also voted 3 to 2 to propose a registration process for foreign-based derivatives exchanges. Commissioners Sommers and O’Malia voted against. There are currently 20 foreign boards of trade operating in the U.S., of which 14 are active, according to the CFTC.
The process would require a consideration of how the foreign exchange maintains clearing services for its contracts. Under current procedures, clearing standards don’t have to be examined, according to the CFTC.
The commissioners also passed proposed rules to govern the duties of swaps dealers and major swaps participants, including annual training for employees, monitoring of trading, annual audits and tests to ensure position limits aren’t exceeded.
Whistleblower protections were also approved. CFTC is proposing to offer rewards of between 10 percent and 30 percent for original information that leads to sanctions of $1 million or more.
To contact the reporters on this story: Matthew Leising in New York at mleising@bloomberg.net; Phil Mattingly in Washington at pmattingly@bloomberg.net;
To contact the editor responsible for this story: Alan Goldstein at agoldstein5@bloomberg.net.
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