Swap Regulators Face Push for Delays as Oct. 12 Deadline Looms
The U.S. Commodity Futures Trading Commission, facing an Oct. 12 start date for a slate of derivatives rules, is being bombarded with requests from lobbying groups to ease or delay the Dodd-Frank Act measures.
Trade associations representing agribusiness firms Bunge Ltd. (BG) and Archer Daniels Midland Co. (ADM) want to delay swap-dealer rules for non-banks. Banks and asset managers want regulators to finally say whether foreign exchange derivatives will be subject to the rules. And representatives of Ford Motor Credit Co. and Barclays Plc (BARC) have met with CFTC staff to clarify that financial entities used for asset-backed securities are exempt.
“We urgently request that the commission delay the effectiveness of all rules until clarifying guidance, which in many cases has been promised by the commission, can be issued,” the Financial Services Roundtable, a Washington-based group representing 100 of the largest financial companies, said in an Oct. 2 letter. “Without resolution on these points, our members cannot understand how to comply with the new rules, and accordingly cannot comply. This is in no one’s interest.”
Starting Oct. 12, companies must begin tallying their derivatives trades to determine whether they will be deemed swap dealers and face Dodd-Frank’s highest capital, collateral and trading standards, which could erode their profits. The designation will capture JPMorgan Chase & Co. (JPM), Goldman Sachs Group Inc. (GS) and the other financial firms dominating a business that generates more than $30 billion in annual profit for the world’s largest banks, according to an estimate from financial consultant Oliver Wyman, a unit of Marsh & McLennan Cos.
Lobbyists for energy firms that are swap buyers say their clients may face higher costs stemming from the designation if banks and other dealers raise prices in response to new rules.
The lobbying effort comes as the CFTC and Securities and Exchange Commission prepare to finally put rulemakings into effect more than two years after the passage of Dodd-Frank, the financial-regulation overhaul designed to reduce risk and increase transparency in the $648 trillion swaps market.
The CFTC has completed 39 rules and “substantive swaps market reform is now in sight,” Chairman Gary Gensler said in an Oct. 1 speech in London. The agency has yet to complete rules governing capital, margin, new swap-trading venues and the international scope of its measures.
Swaps and other derivatives are financial instruments based on stocks, bonds, loans, currencies and commodities that can be used to hedge risks or for speculation. Largely unregulated trading of derivatives tied to mortgage bonds helped spark a credit crisis in 2008 after the housing market collapsed.
Regulations that were set to take effect Oct. 1 about risk-management standards between brokers and their clients have already been delayed after a request from the Futures Industry Association. A separate rule governing how quickly trades must be accepted or rejected for clearing prompted requests for relief from companies including LCH.Clearnet Group Ltd., the world’s largest interest rate swap clearinghouse.
The lack of clarity around the rule requiring banks and clearinghouses to accept trades within minutes came to a head less than two weeks before the rule’s Oct. 1 effective date, as market users and regulators wrangled in a Sept. 19 meeting at the CFTC, according to seven people who participated.
Ananda Radhakrishnan, the CFTC’s director of the division of clearing and risk, organized and led the meeting, where banks argued the time limit compromised their risk standards and money managers said it was an attempt by the dealers to stymie electronic trading, said the people who asked not to be named because the discussion was private.
While improving price transparency is a goal of regulators including Gensler, it would cut the amount of money banks earn from buying and selling swaps. Though it may seem an arcane bit of rulemaking, it’s vital to digital trading, said Craig Pirrong, a finance professor at the University of Houston.
“It’s an illustration that the small things are big and the big things are bigger,” Pirrong said. “It’s going to be a torturous process to get all this Dodd-Frank stuff in place.”
Under one rule scheduled to take effect Oct. 12, a company that crosses the $8 billion swap-dealer designation threshold this month would have until the end of the year before it must register with regulators. Companies with at least $25 million of business with a so-called special entity would also require registration.
The $25 million threshold has led the Electric Power Supply Association to file a petition seeking an exemption for swaps tied to utility operations.
“Under the current rules, just one contract could exceed the de minimis threshold for special entities and cause the counterparty to become a ‘swap dealer,’” the association wrote in an Aug. 14 letter. That designation will discourage trades with utilities for companies that do not want to become dealers, the group said in its letter.
The American Bankers Association has urged the CFTC to publish guidance about the types of clients that are still permitted to trade over-the-counter swaps. Dodd-Frank restricted the private swaps market to so-called eligible contract participants. The CFTC has yet to provide clarity about how banks are supposed to verify that clients meet the requirements, according to the ABA.
Separately, under the CFTC’s determination of which contracts are swaps, companies would need to start tallying foreign-exchange swaps and forwards toward the threshold for becoming swap dealers, commodity pools and so-called major swaps participants. Dodd-Frank gave the Treasury Department power to exempt foreign-exchange derivatives from most rules.
In April 2011, Treasury proposed an exemption for the trades and said the foreign-exchange market already had adequate levels of price transparency, risk management and electronic trading. A coalition of 20 firms, including Deutsche Bank AG (DBK), Bank of New York Mellon Corp. and UBS AG (UBSN), asked Treasury Secretary Timothy F. Geithner for the exemption.
Treasury will probably reach a final decision by the end of the year, according to a senior Obama administration official who spoke on condition of anonymity because work on the determination is ongoing.
The Investment Company Institute and Securities Industry and Financial Markets Association are among groups that have asked regulators to grant an exemption before Oct. 12.
“Failure to do so will have substantial and unintended consequence,” the groups said in a Sept. 28 letter. “If the Treasury Secretary will be unable to do so, we request that he issue an interim determination that FX products should be exempt from the swap definition.”
Treasury and the CFTC have faced pressure from lawmakers to complete the determination and improve coordination.
“If Treasury ultimately plans to provide an exemption, it would be a complete waste of time, effort and resources to force companies which will ultimately be exempt to go through the registration process, restructure their activities or even withdraw from the FX market solely because of inconsistencies between your two agencies’ timetables,” Representative Barney Frank, a Massachusetts Democrat, said in a Sept. 21 letter to Geithner and Gensler.