CFTC Proposes Schedule for Swap Transaction Trading Documentation and Margining Requirements
Sima Saran Ahuja | Bloomberg Law
The Commodity and Futures Trading Commission (CFTC) proposed regulations to establish a schedule to phase in compliance with new trading documentation and margining requirements for swap dealers (SDs) and major swap participants (MSPs) prescribed under Section 731 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank). According to the CFTC, the proposed schedule responds to the need to afford SDs and MSPs additional time to comply with the proposed rules related to trading documentation and margin requirements, depending on the type of counterparty with which the SD or MSP is trading.
Trading Documentation and Margin Requirements
New Section 4s(i)(1) of the Commodity Exchange Act of 1936 (CEA) requires the CFTC to adopt rules governing documentation standards for SDs and MSPs, which relate to the timely and accurate confirmation, processing, netting, documentation, and valuation of all swaps. Accordingly, the CFTC proposedregulations in February 2011 that set forth the trading documentation parameters that SDs and MSPs must follow to establish swap trading relationships and document the swap transactions stemming from those relationships. For example, under the January 2011 proposed regulations, SDs and MSPs would be required to establish, maintain, and enforce written policies and procedures designed to ensure that each SD and MSP and its counterparty agree in writing to all the terms of their swap trading relationship and have executed all agreements required by the rules.
Similarly, new Section 4s(e) of the CEA requires the CFTC to adopt rules establishing margin requirements for all registered SDs and MSPs that are not banks. Accordingly, the CFTC proposed regulations in April 2011 to implement the margin requirements for uncleared swaps for SDs and MSPs for which there is no prudential regulator.
The proposed schedule categorizes market participants that are financial entities into four groups:
- Category 1 Entities include swap dealers; security-based swap dealers; major swap participants; major security-based swap participants; and active funds. Swap transactions between a Category 1 Entity, a covered swap entity, and an SD or MSP shall comply with the requirements no later than 90 days from the date of publication in the Federal Register.
- Category 2 Entities include commodity pools; private funds (other than active funds) as defined in Section 202(a) of the Investment Advisers Act of 1940; employee benefit plans identified in Section 3(3) and (32) of the Employee Retirement Income and Security Act of 1974; and persons predominantly engaged in banking, or financial activities defined in Section 4(k) of the Bank Holding Company Act of 1956, provided that the entity is not a third-party subaccount. Swap transactions between Category 2 Entities, a covered swap entity, and an SD or MSP must comply by 180 days from the requirements’ publication in the Federal Register.
- Category 3 Entities include Category 2 Entities whose positions are held as third-party subaccounts. The proposed requirements will not apply to swap transactions between Category 3 Entities, a covered swap entity, and an SD or MSP until 270 days after their publication in the Federal Register.
- Category 4 Entities includes any person not included in Categories 1, 2, or 3. Like Category 3 Entities, swap transactions between Category 4 Entities, a covered swap entity, and an SD or MSP have 270 days to comply with the proposed requirements.
The CFTC “stresses that nothing would prohibit any person from complying in advance of the proposed compliance schedule. Indeed, the Commission would encourage market participants that can come into compliance more quickly to do so.”
Pending Rules Impacting Proposed Regulations
Before SDs and MSPs are required to comply with the proposed requirements, the CFTC must first take certain other rulemaking steps. First, the CFTC must adopt final rules related to confirmation of swap transactions and the protection of collateral for uncleared swaps. Until those final rules, along with the trading documentation and margin requirements rules, are adopted by the CFTC, the proposed compliance schedule will not become effective. Second, the CFTC must adopt final rules further defining “swap,” “swap dealer,” and “major swap participant” prior to requiring compliance with the trading documentation rule and accordingly, the proposed implementation schedule. Finally, the CFTC must adopt final rules relating to the registration of SDs and MSPs.
Comments Impacting Proposed Schedule
In proposing the schedule, the CFTC took into account comments it received from market participants. For example, a “key theme” in comments the CFTC received was that some market participants may need more time to ensure swap transaction compliance with new regulatory requirements. In addition, many commenters suggested that the CFTC phase in compliance with trading documentation and margining requirements by type of market participant based on a variety of factors, including a market participant’s experience, resources, and the size and complexity of its transactions. Others emphasized the need to have adequate time to educate their clients about the new regulatory requirements. Accordingly, the CFTC stated that the proposed compliance schedules “are designed to afford affected market participants a reasonable amount of time to bring their transactions into compliance . . . provide relief in the form of additional time . . .[and] facilitate the transition to the new regulatory regime established by the Dodd-Frank Act in an orderly manner that does not unduly disrupt markets and transactions.”
CFTC Seeks Comments on the Proposed Schedule
The CFTC is seeking comments on the proposed schedule. For instance, the CFTC has asked whether there are any “factors” that would prevent an entity in any of the proposed categories from adhering to the proposed compliance schedules. The CFTC has also asked if there are any “adjustments” or “other steps” it can take “to ensure that there is adequate representation from all market participants” in implementing trading documentation and margining requirements. Finally, the CFTC is seeking comments on whether there are any “anticompetitive” implications to the proposed compliance schedules. Comments to the CFTC should be submitted on or before November 4, 2011.
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