The U.S. Commodity Futures Trading Commission re-proposed Dodd-Frank Act regulations that would determine when swaps are big enough that their price and size don’t need to be reported immediately to the public.
CFTC commissioners voted 3-2 today to seek comment on a revised measure after JPMorgan Chase & Co. (JPM), Goldman Sachs Group Inc. (GS) and financial-industry trade associations said the original proposal could hamper liquidity and didn’t account for different types of swaps. Banks told the CFTC they need time to hedge or lay off risk related to so-called block trades before they are reported.
“This new proposal also benefits from a review of a significant amount of market data in the interest rate and credit swap markets,” CFTC chairman Gary Gensler said at the meeting in Washington.
The CFTC measure would divide interest-rate, credit and other types of swaps into categories and then determine thresholds for large trades. The threshold would be set at the 67th percentile for notional value of swaps in a category, resulting in 6 percent of interest-rate and 6 percent of credit swaps being considered block trades based on current market data, CFTC lawyer Carl Kennedy said at the meeting. The thresholds would be updated at least annually based on additional data.
Dodd-Frank, the regulatory overhaul enacted in 2010, required the CFTC and Securities and Exchange Commission to increase transparency in the $708 trillion global swaps market after largely unregulated trades helped fuel the 2008 credit crisis. The law calls for most swaps to be guaranteed by clearinghouses and traded on exchanges or other venues.
Determination of a minimum block trade size is “among the most important elements” of Dodd-Frank’s derivatives rules, Jeremy Barnum, a JPMorgan managing director, and Don Thompson, an associate general counsel for the Wall Street bank, said in a Jan. 12, 2011, letter to the CFTC and the SEC.
“If too many trades are treated as blocks, then the objective of increased transparency and greater organization of the price formation process may be undermined,” Barnum and Thompson said in their letter. If too few are eligible, the regulations would reduce liquidity, they wrote.
CFTC Commissioner Bart Chilton, one of three Democrats on the five-member panel, said a threshold that is too low might discourage trading on swap-execution facilities.
Chris Ferreri, chairman of the Wholesale Markets Brokers’ Association, Americas, a group of trading venues, said in a statement after the vote that the CFTC should also reconsider rules tying block trades to how they must be traded on execution facilities, whether by electronic or voice broker methods.
The proposal also seeks comment on whether the threshold should be set at 50 percent instead of 67 percent of the notional amount, Gensler said at the meeting. A 50 percent threshold would result in 14 percent of interest rate swaps being considered blocks, Kennedy said after the meeting.
The CFTC also voted 3-2 to complete Dodd-Frank regulations setting record-keeping and internal conduct standards for swap dealers. The rules will require dealers and other large swaps users to have policies for monitoring traders and preventing violations of speculation limits set by the CFTC.
“The public demands an end to the conflicts-ridden, insidious business practices that they’ve witnessed all too often,” Chilton said at the meeting.
Costs and Benefits
Commissioner Scott O’Malia opposed the rule, saying the agency hasn’t done an adequate cost-benefit analysis.
“Our inability to develop a quantitative analysis, or to develop a reasonable comparative analysis of legitimate options, hurts the credibility of this commission and undermines the quality of our rules,” O’Malia, one of two Republicans on the panel, said at the meeting.
O’Malia said he will seek an Office of Management and Budget review of the rule. The CFTC said the rule would have an annual impact of at least $100 million, according to O’Malia.
The CFTC rules will also require that a chief compliance officer establish policies and resolve conflicts of interest. A dealer’s chief compliance officer or chief executive officer would be required to certify an annual report on the policies.
The agency is planning to hold roundtable meetings on Feb. 29 and March 1 to consider regulatory changes to protect customers’ collateral in the wake of MF Global Holdings Ltd.’s collapse, according to two people briefed on the agenda. The CFTC has been debating regulatory changes, and next week’s meeting is an early step toward new rules.