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Today, the Commission will consider one final rule on core principles and other requirements for designated contract markets (“DCMs”). First, I would like to thank Nadia Zakir and her team for their hard work in completing this significant rulemaking. I greatly appreciate the cooperation of the team and other Commission staff in accommodating my requests for changes to the final rulemaking.
DCM Core Principles
In the DCM core principles final rulemaking, the Commission is establishing the regulatory obligations that each DCM must meet in order to comply with Section 5 of the Commodity Exchange Act, as amended by the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). When the Commission proposed its DCM core principles rulemaking in December 2010, I expressed general concerns regarding the overall prescriptive approach of the rulemaking.1 I have noted publicly that the Commission’s core principle regime for DCMs generally has worked well, providing futures market participants, exchanges and clearinghouses with the flexibility to adapt to changing market conditions.2 Recognizing that the U.S. commodities and futures markets weathered the 2008 and 2009 financial crisis far better than other financial markets, Congress left the core principle regime largely intact. Stated differently, Congress did not direct the Commission to prescribe inflexible rules for DCMs that impose the Commission’s business judgments on nearly every operational aspect of derivatives trading.
I am pleased that Commission staff has dialed-back or eliminated many of the prescriptive rules that the Commission proposed over a year and a half ago. Instead, most of what is before the Commission today will codify guidance and/or acceptable practices in lieu of the proposed rules.
At the proposal stage and since that time, I have expressed serious concerns regarding the series of rules, guidance and acceptable practices proposed under the revised Core Principle 9. Congress revised the statutory language of Core Principle 9to require, among other things, DCMs to “provide a competitive, open and efficient market and mechanism for executing transactions that protects the price discovery process of trading in the centralized market of the board of trade . . . .”3 Based on that language, the Commission divined an 85-percent centralized market trading requirement under Core Principle 9 (the “85-percent requirement”). Under the proposed 85-percent requirement, a DCM would be forced to delist any futures or swap contract that failed to maintain a total trading volume of 85 percent on the DCM’s centralized market based on the prior 12-month period. Unsurprisingly, the 85-percent centralized market trading requirement was wildly unpopular and controversial both inside and outside of the Commission. Most, if not all, of the comment letters and external meetings focused on the harm that the proposed 85-percent requirement would cause in terms of reducing market liquidity and increasing market risks, especially in the highly-active energy markets where thousands of contracts are voluntarily cleared.4 Taking away an end-users ability to hedge risks and voluntarily clear seems to fly in the face of one of the most important objectives of the Dodd-Frank Act and the G-20 commitment with respect to over-the-counter derivatives: the expansion of clearing.5
While I support the protection of price discovery of trading on centralized markets, I am pleased that the Commission is delaying its consideration of the series of rules, guidance and acceptable practices under the revised Core Principle 9 to take place alongside the Commission’s swap execution facility (“SEF”) core principles final rulemaking. This additional time will allow the Commission to: (1) continue to consider available alternatives to the proposed 85-percent requirement; (2) anticipate and calculate the associated costs and benefits of Core Principle 9 to the overall swaps trading infrastructure; and (3) address the related implications of the rules for transactions executed on SEFs as well as for off-exchange transactions, including block transactions and exchange of derivatives for related position. To this end, I hope the Commission will hold a roundtable on the execution of futures and swaps platforms rules and the mandatory trading requirements in order to develop a more complete understanding of how our execution rules will impact futures and swaps markets.
I would like to also note that the Commission has made slight changes to the rules and guidance under Core Principle 21, which will enable the Commission to consider as acceptable alternative types of financial resources . If the Commission hopes to create competition in this space, we must be flexible and cannot expect all DCMs to meet this core principle in a one-size-fits-all manner.
Proposed Amendment to the July 17, 2011 Exemptive Order
While it was not presented here today, last night the Commission took action to further modify the temporary exemptive relief provided in the Commission’s final order dated July 14, 2011 (the “July 14 Order”).6 In the July 14 Order, the Commission addressed concerns raised by industry regarding the applicability of various regulatory requirements to agreements, contracts and transactions after the effective date of Title VII of the Dodd-Frank Act (i.e., July 14, 2011). This action would propose, among other things, to extend the temporary exemptive relief from last extension date (i.e., July 16, 2012) to December 31, 2012.7
Based on the Chairman’s statements at a recent industry conference,8 I am supportive of the Commission’s proposed amendment to the July 14 Order to the delay application until the end of the year or until the implementation. However, I understand that unless the Commission focuses on its priorities, it seems unlikely we can meet this schedule. Assuming that we complete all Dodd-Frank Act-related rules, orders and guidance by the end of 2012, I think this proposed amendment is appropriate and will provide the industry with needed comfort that the new swaps regulatory regime will not unduly disrupt current market practices.
Notwithstanding this proposed amendment, I believe that the market continues to seek guidance regarding the timing of the Commission’s remaining rules. I frequently hear from industry that the Commission’s rules are not sequenced in a manner that provides them with the certainty they need to make budgeting, investment and hiring decisions.
For that reason, I have included along with my concurrence a list of the remaining Commission rules, orders and guidance, as well as a timetable of when I understand the Commission expects to vote on those rules, orders and guidance. I have developed this list and timetable based on my knowledge and through my conversations with Commission staff. I strongly urge the public to provide comments on this list and timetable. I also ask that the public answer whether: (1) the Commission’s 2012 year-end deadline is achievable; and (2) the sequencing of these rules, orders and guidance is appropriate?
Conclusion
While I support the final rulemaking and the proposed amendment to the July 14 Order, I believe that the Commission’s accelerated rulemaking schedule will likely result in many unforeseen perils. For example, to address many of the problems arising out of the Commission’s final rulemaking for large trader reporting for physical commodity swaps, the Commission issued temporary and conditional relief and a guidebook. These actions were intended to act as a Band-Aid fixing what the Commission could have addressed in the final rulemaking if it were not rushed.
Again, I would like to thank Nadia and her team for their hard work and willingness to accommodate our input into the final rulemaking.
1 See Core Principles and Other Requirements for Designated Contract Markets, 75 Fed. Reg. 80,572 (Dec. 22, 2010).
2 See, e.g., Almost Certainly MSU (making stuff up), Remarks by Commissioner Scott D. O’Malia, the Eighth Annual Energy Trading Conference, Bauer College Global Energy Management Institute, University of Houston (Mar. 23, 2012), available at http://www.cftc.gov/PressRoom/SpeechesTestimony/opaomalia-12.
3 7 U.S.C. 5(d)(9).
4 See, e.g., CME Comment Letter at 4-8, 29-30 (Feb. 22, 2011); CME Comment Letter at 2-6 (April 18, 2011); CME Joint Comment Letter at 2-6 (June 3, 2011); CME Comment Letter (Aug. 3, 2011); BlackRock Comment Letter at 2-3 (Feb. 22, 2011); ICE Comment Letter at 3-6 (Feb. 22, 2011); CFE Comment Letter at 4-7 (Feb. 22, 2011); CFE Comment Letter (June 3, 2011); OCX Comment Letter at 2-5 (Feb. 22, 2011); Eris Comment Letter at 1-3 (Feb. 22, 2011); Eris Comment Letter at 3 (June 3, 2011); GreenX Comment Letter at 8-11 (Feb. 22, 2011); GreenX Comment Letter at 4 (April 18, 2011); and, GreenX Comment Letter (June 3, 2011).
5 See Strengthening the International Financial Regulatory System, G20 Leaders Statement: The Pittsburgh Summit (Sept. 24-25, 2009), available at:http://www.g20.utoronto.ca/2009/2009communique0925.html#system (“All standardized OTC derivative contracts should be traded on exchanges or electronic trading platforms, where appropriate, and cleared through central counterparties by end-2012 at the latest.”)..
6 See Effective Date for Swap Regulation, 76 Fed. Reg. 42508 (issued and made effective by the Commission on July 14, 2011; published in the Federal Register on July 19, 2011).
7 The proposed amendment to the July 14 Order also seeks to: (1) remove references to the entities terms in Sections 712(d) of the Dodd-Frank Act, including “swap dealer,” “major swap participant,” and “eligible contract participant” in light of the final, joint CFTC-Securities and Exchange Commission rulemaking further defining those terms on April 18, 2012; (2) allow the clearing of agricultural swaps; and (3) removing any reference to the exempt commercial market and exempt board of trade grandfather relief previously issued by the Commission.
8 See Commodity Futures Trading Commission Chairman Gary Gensler, Remarks before International Swaps and Derivatives Association’s 27 Annual General Meeting (May 2, 2012), available athttp://www.cftc.gov/PressRoom/SpeechesTestimony/opagensler-112.
