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2010-10313

  • FR Doc 2010-10313[Federal Register: May 4, 2010 (Volume 75, Number 85)]

    [Notices]

    [Page 23718-23728]

    From the Federal Register Online via GPO Access [wais.access.gpo.gov]

    [DOCID:fr04my10-65]

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    COMMODITY FUTURES TRADING COMMISSION

    Orders Finding That the Henry Financial Basis Contract, Henry

    Financial Index Contract and Henry Financial Swing Contract Traded on

    the IntercontinentalExchange, Inc., Do Not Perform a Significant Price

    Discovery Function

    AGENCY: Commodity Futures Trading Commission.

    ACTION: Final orders.

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    SUMMARY: On October 20, 2009, the Commodity Futures Trading Commission

    (``CFTC'' or ``Commission'') published for comment in the Federal

    Register \1\ a notice of its intent to undertake a determination

    whether the Henry Financial Basis (``HEN'') contract, Henry Financial

    Index (``HIS'') contract and Henry Financial Swing (``HHD'') contract

    traded on the IntercontinentalExchange, Inc. (``ICE''), an exempt

    commercial market (``ECM'') under sections 2(h)(3)-(5) of the Commodity

    Exchange Act (``CEA'' or the ``Act''), perform a significant price

    discovery function pursuant to section 2(h)(7) of the CEA. The

    Commission undertook this review based upon an initial evaluation of

    information and data provided by ICE as well as other available

    information. The Commission has reviewed the entire record in this

    matter, including all comments received, and has determined to issue

    orders finding that the HEN, HIS and HHD contracts do not perform a

    significant price discovery function. Authority for this action is

    found in section 2(h)(7) of the CEA and Commission rule 36.3(c)

    promulgated thereunder.

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    \1\ 74 FR 53720 (October 20, 2009).

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    DATES: Effective date: April 28, 2010.

    FOR FURTHER INFORMATION CONTACT: Gregory K. Price, Industry Economist,

    Division of Market Oversight, Commodity Futures Trading Commission,

    Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.

    Telephone: (202) 418-5515. E-mail: gprice@cftc.gov; or Susan Nathan,

    Senior Special Counsel, Division of Market Oversight, same address.

    Telephone: (202) 418-5133. E-mail: snathan@cftc.gov.

    SUPPLEMENTARY INFORMATION:

    I. Introduction

    The CFTC Reauthorization Act of 2008 (``Reauthorization Act'') \2\

    significantly broadened the CFTC's regulatory authority with respect to

    ECMs by creating, in section 2(h)(7) of the CEA, a new regulatory

    category--ECMs on which significant price discovery contracts

    (``SPDCs'') are traded--and treating ECMs in that category as

    registered entities under the CEA.\3\ The legislation authorizes the

    CFTC to designate an agreement, contract or transaction as a SPDC if

    the Commission determines, under criteria established in section

    2(h)(7), that it performs a significant price discovery function. When

    the Commission makes such a determination, the ECM on which the SPDC is

    traded must assume, with respect to that contract, all the

    responsibilities and obligations of a registered entity under the Act

    and Commission regulations, and must comply with nine core principles

    established by new section 2(h)(7)(C).

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    \2\ Incorporated as Title XIII of the Food, Conservation and

    Energy Act of 2008, Pub. L. 110-246, 122 Stat. 1624 (June 18, 2008).

    \3\ 7 U.S.C. 1a(29).

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    On March 16, 2009, the CFTC promulgated final rules implementing

    the provisions of the Reauthorization Act.\4\ As relevant here, rule

    36.3 imposes increased information reporting requirements on ECMs to

    assist the Commission in making prompt assessments whether particular

    ECM contracts may be SPDCs. In addition to filing quarterly reports of

    its contracts, an ECM must notify the Commission promptly concerning

    any contract traded in reliance on the exemption in section 2(h)(3) of

    the CEA that averaged

    [[Page 23719]]

    five trades per day or more over the most recent calendar quarter, and

    for which the exchange sells its price information regarding the

    contract to market participants or industry publications, or whose

    daily closing or settlement prices on 95 percent or more of the days in

    the most recent quarter were within 2.5 percent of the

    contemporaneously determined closing, settlement or other daily price

    of another contract.

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    \4\ 74 FR 12178 (Mar. 23, 2009); these rules became effective on

    April 22, 2009.

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    Commission rule 36.3(c)(3) established the procedures by which the

    Commission makes and announces its determination whether a particular

    ECM contract serves a significant price discovery function. Under those

    procedures, the Commission will publish notice in the Federal Register

    that it intends to undertake an evaluation whether the specified

    agreement, contract or transaction performs a significant price

    discovery function and to receive written views, data and arguments

    relevant to its determination from the ECM and other interested

    persons. Upon the close of the comment period, the Commission will

    consider, among other things, all relevant information regarding the

    subject contract and issue an order announcing and explaining its

    determination whether or not the contract is a SPDC. The issuance of an

    affirmative order signals the effectiveness of the Commission's

    regulatory authorities over an ECM with respect to a SPDC; at that time

    such an ECM becomes subject to all provisions of the CEA applicable to

    registered entities.\5\ The issuance of such an order also triggers the

    obligations, requirements and timetables prescribed in Commission rule

    36.3(c)(4).\6\

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    \5\ Public Law 110-246 at 13203; Joint Explanatory Statement of

    the Committee of Conference, H.R. Rep. No. 110-627, 110 Cong., 2d

    Sess. 978, 986 (Conference Committee Report). See also 73 FR 75888,

    75894 (Dec. 12, 2008).

    \6\ For an initial SPDC, ECMs have a grace period of 90 calendar

    days from the issuance of a SPDC determination order to submit a

    written demonstration of compliance with the applicable core

    principles. For subsequent SPDCs, ECMs have a grace period of 30

    calendar days to demonstrate core principle compliance.

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    II. Notice of Intent To Undertake SPDC Determination

    On October 20, 2009, the Commission published in the Federal

    Register notice of its intent to undertake a determination whether the

    HEN, HIS and HHD contracts performs a significant price discovery

    function and requested comment from interested parties.\7\ Comments \8\

    were received from the Federal Energy Regulatory Commission (``FERC''),

    Platts,\9\ Public Utility Commission of Texas (``PUCT'') and ICE. The

    comment letters from FERC,\10\ Platts and PUCT \11\ did not directly

    address the issue of whether or not the HEN, HIS and HHD contracts are

    SPDCs; ICE's comments raised substantive issues with respect to the

    applicability of section 2(h)(7) to the subject contracts. Generally,

    ICE asserted that its HEN, HIS and HHD contracts are not SPDCs as they

    do not meet any of the criteria for SPDC determination (CL 03). ICE's

    comments are more extensively discussed below, as applicable.

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    \7\ The Commission's Part 36 rules establish, among other

    things, procedures by which the Commission makes and announces its

    determination whether a specific ECM contract serves a significant

    price discovery function. Under those procedures, the Commission

    publishes a notice in the Federal Register that it intends to

    undertake a determination whether a specified agreement, contract or

    transaction performs a significant price discovery function and to

    receive written data, views and arguments relevant to its

    determination from the ECM and other interested persons.

    \8\ The comment letters are available on the Commission's Web

    site: http://www.cftc.gov/lawandregulation/federalregister/

    federalregistercomments/2009/09-027.html.

    \9\ McGraw-Hill, through its division Platts, compiles and

    calculates monthly natural gas price indices from natural gas trade

    data submitted to Platts by energy marketers. Platts includes those

    price indices in its monthly Inside FERC's Gas Market Report

    (``Inside FERC'').

    \10\ FERC stated that the HEN, HIS and HHD contracts are cash-

    settled and that none of them contemplates the actual physical

    delivery of natural gas. Accordingly, FERC expressed the opinion

    that a determination by the Commission that a contract performs a

    significant price discovery function ``would not appear to conflict

    with FERC's exclusive jurisdiction under the Natural Gas Act (NGA)

    over certain sales of natural gas in interstate commerce for resale

    or with its other regulatory responsibilities under the NGA'' and

    further that ``FERC staff will continue to monitor for any such

    conflict * * * [and] advise the CFTC'' should any such potential

    conflict arise. CL 01.

    \11\ PUCT noted that it oversees the Electric Reliability

    Council of Texas, much like FERC oversees independent system

    operators. The mission of PUCT is ``to ensure nondiscriminatory

    access to the [electricity] transmission and distribution systems,

    to ensure the reliability and adequacy of the regional electrical

    network and to perform other essential market functions.'' CL 04.

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    III. Section 2(h)(7) of the CEA

    The Commission is directed by section 2(h)(7) of the CEA to

    consider the following criteria in determining a contract's significant

    price discovery function:

    Price Linkage--the extent to which the agreement, contract

    or transaction uses or otherwise relies on a daily or final settlement

    price, or other major price parameter, of a contract or contracts

    listed for trading on or subject to the rules of a designated contract

    market (``DCM'') or derivatives transaction execution facility

    (``DTEF''), or a SPDC traded on an electronic trading facility, to

    value a position, transfer or convert a position, cash or financially

    settle a position, or close out a position.

    Arbitrage--the extent to which the price for the

    agreement, contract or transaction is sufficiently related to the price

    of a contract or contracts listed for trading on or subject to the

    rules of a DCM or DTEF, or a SPDC traded on or subject to the rules of

    an electronic trading facility, so as to permit market participants to

    effectively arbitrage between the markets by simultaneously maintaining

    positions or executing trades in the contracts on a frequent and

    recurring basis.

    Material price reference--the extent to which, on a

    frequent and recurring basis, bids, offers or transactions in a

    commodity are directly based on, or are determined by referencing or

    consulting, the prices generated by agreements, contracts or

    transactions being traded or executed on the electronic trading

    facility.

    Material liquidity--the extent to which the volume of

    agreements, contracts or transactions in a commodity being traded on

    the electronic trading facility is sufficient to have a material effect

    on other agreements, contracts or transactions listed for trading on or

    subject to the rules of a DCM, DTEF or electronic trading facility

    operating in reliance on the exemption in section 2(h)(3).

    Not all criteria must be present to support a determination that a

    particular contract performs a significant price discovery function,

    and one or more criteria may be inapplicable to a particular

    contract.\12\ Moreover, the statutory language neither prioritizes the

    criteria nor specifies the degree to which a SPDC must conform to the

    various criteria. In Guidance issued in connection with the Part 36

    rules governing ECMs with SPDCs, the

    [[Page 23720]]

    Commission observed that these criteria do not lend themselves to a

    mechanical checklist or formulaic analysis. Accordingly, the Commission

    has indicated that in making its determinations it will consider the

    circumstances under which the presence of a particular criterion, or

    combination of criteria, would be sufficient to support a SPDC

    determination.\13\ For example, for contracts that are linked to other

    contracts or that may be arbitraged with other contracts, the

    Commission will consider whether the price of the potential SPDC moves

    in such harmony with the other contract that the two markets

    essentially become interchangeable. This co-movement of prices would be

    an indication that activity in the contract had reached a level

    sufficient for the contract to perform a significant price discovery

    function. In evaluating a contract's price discovery role as a price

    reference, the Commission will consider whether cash market

    participants are quoting bid or offer prices or entering into

    transactions at prices that are set either explicitly or implicitly at

    a differential to prices established for the contract.

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    \12\ In its October 20, 2009, Federal Register release, the

    Commission identified material liquidity, material price reference

    and price linkage as the possible criteria for SPDC determination of

    the HEN contract (arbitrage was not identified as a possible

    criterion). With respect to the HIS contract, the Federal Register

    release identified material liquidity and material price reference

    as possible criteria for SPDC determination (price linkage and

    arbitrage were not identified as possible criteria). With respect to

    the HHD contract, the Federal Register release identified material

    liquidity, arbitrage and material price reference as possible

    criteria for SPDC determination (price linkage was not identified as

    a possible criterion). The criteria not indentified in the initial

    release will not be discussed further in this document or the

    associated Orders.

    \13\ 17 CFR part 36, Appendix A.

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    IV. Findings and Conclusions

    The Commission's findings and conclusions with respect to the Henry

    Financial Basis (HEN) contract, the Henry Financial Index (HIS)

    contract and the Henry Financial Swing (HHD) contract are discussed

    separately below.

    a. The Henry Financial Basis (HEN) Contract and the SPDC Indicia

    The ICE HEN contract is cash settled based on the difference

    between the bidweek price of natural gas at the Henry Hub for the

    contract-specified month of delivery, as reported in Platts' Inside

    FERC's Gas Market Report, and the final settlement price for New York

    Mercantile Exchange's (``NYMEX's'') Henry Hub physically-delivered

    natural gas futures contract for the same specified calendar month. The

    Platts bidweek price, which is published monthly, is based on a survey

    of cash market traders who voluntarily report to Platts data on their

    fixed-price transactions conducted during the last five business days

    of the month for physical delivery of natural gas at the Henry Hub;

    such bidweek transactions specify the delivery of natural gas on a

    uniform basis throughout the following calendar month at the agreed

    upon rate. The Platts bidweek index is published on the first business

    day of the calendar month in which the natural gas is to be delivered.

    The size of the HEN contract is 2,500 million British thermal units

    (``mmBtu''), and the unit of trading is any multiple of 2,500 mmBtu.

    The HEN contract is listed for up to 72 calendar months commencing with

    the next calendar month.

    The Henry Hub,\14\ which is located in Erath, Louisiana, is the

    primary cash market trading and distribution center for natural gas in

    the United States. It also is the delivery point and pricing basis for

    the NYMEX's actively traded Henry Hub physically-delivered natural gas

    futures contract, which is the most important pricing reference for

    natural gas in the United States. The Henry Hub, which is operated by

    Sabine Pipe Line, LLC, serves as a juncture for 13 different pipelines.

    These pipelines bring in natural gas from fields in the Gulf Coast

    region and move it to major consumption centers along the East Coast

    and Midwest. The throughput shipping capacity of the Henry Hub is 1.8

    trillion mmBtu per day.

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    \14\ The term ``hub'' refers to a juncture where two or more

    natural gas pipelines are connected. Hubs also serve as pricing

    points for natural gas.

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    The HEN contract price measures the discrepancy between two Henry

    Hub-related prices, where one price is a futures price and the other is

    a forward cash price. Traders may make commitments to buy or sell

    natural gas at the Henry Hub using the NYMEX Henry Hub natural gas

    futures contract, which specifies physical delivery. Because the NYMEX

    futures contract is listed for at least twelve years, market

    participants can make such decisions a long time before delivery

    actually occurs, since they can have an effective hedge in place to

    offset price risk associated with long-dated cash market commitments.

    While the futures price and the bidweek price both reflect the price of

    natural gas during the following month, the two values may not be

    equal. This is because the NYMEX futures contract stops trading three

    business days prior to first business day of the delivery month. In

    contrast, the bidweek price is derived from cash market deals

    consummated during the last five business days of the month that

    specify physical delivery during the following calendar month. Thus, it

    is possible that the bidweek price could include two additional days of

    market information, which could result in a price that is significantly

    higher or lower than the futures price. The ICE HEN contract can be

    used to more accurately price natural gas in the delivery month. For

    example, a firm may lock in its November 2009 needs by taking a long

    position in the November 2009 contract. Assume that the futures

    position is established at $4.00 per mmBtu. This means that the gas was

    purchased at $4, which may be higher or lower than the spot price

    during the delivery month. During the final few days in October, the

    November 2009 natural gas contract stops trading and the November

    bidweek price is determined. Assume that the weather forecast calls for

    warmer than normal temperatures in the area, causing the futures price

    to fall and settle on October 27 at $3.90 per mmBtu, resulting in a

    loss of $0.10 per mmBtu on the futures side. Market sentiment of a

    strong downward pressure on gas prices may persist, leading spot

    transactions for next-month delivery to be priced even lower than the

    futures settlement price. In this regard, the bidweek price is

    determined as a volume weighted average of fixed-price transactions for

    November 2009 delivery that were conducted between October 25, 2009,

    and October 29, 2009. If the bidweek price ends up being at $3.75 per

    mmBtu, the firm will incur an additional loss of $0.15 per mmBtu

    because of falling spot prices. By taking a position in the ICE HEN

    contract, the firm can mitigate some of the losses by accounting for

    the difference between the final settlement price and the bidweek

    price.\15\

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    \15\ If the firm simultaneously takes positions involving the

    NYMEX futures contract and the ICE HEN basis contract, the firm will

    be able to price the natural gas at the bidweek price.

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    In its October 20, 2009, Federal Register notice, the Commission

    identified material liquidity, price linkage and material price

    reference as the potential SPDC criteria applicable to the HEN

    contract. Each of these criteria is discussed below.\16\

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    \16\ As noted above, the Commission did not find an indication

    of arbitrage in connection with this contract; accordingly, that

    criterion is not discussed in reference to the HEN contract.

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    1. Material Price Reference Criterion

    The Commission's October 20, 2009, Federal Register notice

    identified material price reference as a potential basis for a SPDC

    determination with respect to this contract. The Commission noted that

    ICE sells its price data to market participants in a number of

    different packages which vary in terms of the hubs covered, time

    periods and whether the data are daily only or historical. For example,

    ICE offers the ``Gulf Gas End of Day'' and ``OTC Gas End of Day'' \17\

    packages with access to all price data or just current prices plus a

    selected number of months (i.e., 12, 24, 36 or 48 months) of

    [[Page 23721]]

    historical data. These two packages include price data for the HEN

    contract.

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    \17\ The OTC Gas End of Day dataset includes daily settlement

    prices for natural gas contracts listed for all points in North

    America.

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    Although the Henry Hub is a major trading center for natural gas in

    the United States and, as noted, ICE sells price information for the

    HEN contract, the Commission has found upon further evaluation that the

    HEN contract is not routinely consulted by industry participants in

    pricing cash market transactions and thus does not meet the

    Commission's Guidance for the material price reference criterion. In

    this regard, the NYMEX Henry Hub physically delivered natural gas

    futures contract is routinely consulted by industry participants in

    pricing cash market transactions at this location. Because both the HEN

    and the NYMEX contracts basically price the same commodity at the same

    location and time and the NYMEX contract has significantly higher

    trading volume and open interest,\18\ it is not necessary for market

    participants to independently refer to the HEN contract for pricing

    natural gas at this location. Furthermore, the Commission notes that

    publication of the HEN contract's prices is not indirect evidence of

    routine dissemination. The HEN contract's prices are published with

    those of numerous other contracts, which are of more interest to market

    participants.\19\ The Commission cannot surmise whether or not traders

    specifically purchase the ICE data packages for the HEN contract's

    prices.

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    \18\ Trading data was obtained by the Commission using the

    Integrated Surveillance System.

    \19\ The Commission will rely on one of two sources of

    evidence--direct or indirect--to determine a SPDC. Direct evidence

    can be cash market transactions that are frequently based on or

    quoted as a differential to the potential SPDC. Indirect evidence

    includes contracts whose price series are routinely disseminated in

    industry publications or are sold to market participants by the ECM.

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    i. Federal Register Comments

    As noted above, ICE was the sole respondent which addressed the

    question of whether the HEN contract is a SPDC. ICE stated in its

    comment letter that the HEN contract does not meet the material price

    reference criterion for SPDC determination. ICE stated that the

    Commission appeared to base the case that the HEN contract is

    potentially a SPDC on a disputable assertion. In issuing its notice of

    intent to determine whether the HEN contract is a SPDC, the CFTC cited

    a general conclusion in its ECM study ``that certain market

    participants referred to ICE as a price discovery market for certain

    natural gas contracts.'' ICE states that ``[b]asing a material price

    reference determination on general statements made in a two year old

    study does not seem to meet Congress' intent that the CFTC use its

    considerable expertise to study the OTC markets.'' The Commission cited

    the ECM study's general finding that some ICE natural gas contracts

    appear to be regarded as price discovery markets as an indication that

    an investigation of certain ICE contracts may be warranted; the ECM

    study was not intended to serve as the sole basis for determining

    whether or not a particular contract meets the material price reference

    criterion.

    ii. Conclusion Regarding Material Price Reference

    The Commission finds that the HEN contract does not meet the

    material price reference criterion because it is not routinely

    consulted by cash market participants when pricing transactions at the

    Henry Hub (direct evidence is not supported). Moreover, the ECM sells

    the HEN contract's price data along with those of other contracts,

    which are of more interest to market participants (indirect evidence is

    not supported).

    2. Price Linkage Criterion

    In its October 20, 2009, Federal Register notice, the Commission

    identified price linkage as a potential basis for a SPDC determination

    with respect to the HEN contract. In this regard, the final settlement

    of the HEN contract is based, in part, on the final settlement price of

    the NYMEX's Henry Hub physically-delivered natural gas futures

    contract, where the NYMEX is registered with the Commission as a DCM.

    The Commission's Guidance on Significant Price Discovery Contracts

    \20\ notes that a ``price-linked contract is a contract that relies on

    a contract traded on another trading facility to settle, value or

    otherwise offset the price-linked contract.'' Furthermore, the Guidance

    notes that ``[f]or a linked contract, the mere fact that a contract is

    linked to another contract will not be sufficient to support a

    determination that a contract performs a significant price discovery

    function. To assess whether such a determination is warranted, the

    Commission will examine the relationship between transaction prices of

    the linked contract and the prices of the referenced contract. The

    Commission believes that where material liquidity exists, prices for

    the linked contract would be observed to be substantially the same as,

    or move substantially in conjunction with, the prices of the referenced

    contract.'' The Guidance proposes a threshold price relationship such

    that prices of the ECM linked contract will fall within a 2.5 percent

    price range for 95 percent of contemporaneously determined closing,

    settlement or other daily prices over the most recent quarter. Finally,

    the Commission also stated in the Guidance that it would consider a

    linked contract that has a trading volume equivalent to 5 percent of

    the volume of trading in the contract to which it is linked to have

    sufficient volume potentially to be deemed a SPDC (``minimum

    threshold'').

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    \20\ Appendix A to the Part 36 rules.

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    To assess whether the HEN contract meets the price linkage

    criterion, Commission staff obtained price data from ICE and performed

    the statistical tests cited above. Staff found that the Henry Hub

    futures/cash price differential is determined in part by the final

    settlement price of the NYMEX Henry Hub physically-delivered natural

    gas futures contract (a DCM contract) and that the derived Henry Hub

    prices (using the NYMEX Henry Hub natural gas futures contract's

    settlement prices and the Henry Hub cash price differentials) are

    within 2.5 percent of the settlement prices of the corresponding NYMEX

    Henry Hub natural gas futures contract on 95 percent or more of the

    days. Specifically, during the third quarter of 2009, 100 percent of

    the Henry Hub natural gas prices derived from the HEN values were

    within 2.5 percent of the daily settlement price of NYMEX Henry Hub

    natural gas futures contract. However, staff found that the HEN

    contract fails to meet the volume threshold requirement. In particular,

    the total trading volume in the NYMEX Henry Hub natural gas futures

    contract during the third quarter of 2009 was 14,022,963 contracts,

    with 5 percent of that number being 701,148 contracts. The number of

    trades on the ICE centralized market in the HEN contract during the

    same period totaled 173,973 contracts (equivalent to 43,493 NYMEX

    futures contracts, given the size difference).\21\ Thus, total amount

    of centralized-market trades in the HEN contract was significantly

    below the minimum threshold.

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    \21\ The HEN contract is one-quarter the size of the NYMEX Henry

    Hub physically-delivered futures contract.

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    i. Federal Register Comments

    ICE was the sole respondent which addressed the question of whether

    the HEN contract is a SPDC. ICE stated in its comment letter that the

    HEN contract does not meet the price linkage criterion for SPDC

    determination because it fails the volume test provided in the

    Commission's Guidance.

    [[Page 23722]]

    ii. Conclusion Regarding the Price Linkage Criterion

    The Commission finds that the HEN contract does not meet the price

    linkage criterion because it fails the volume test provided for in the

    Commission's Guidance.

    3. Material Liquidity Criterion

    As noted above, in its October 20, 2009, Federal Register notice,

    the Commission identified material liquidity, price linkage and

    material price reference as potential criteria for SPDC determination

    of the HEN contract. With respect to the material liquidity criterion,

    the Commission noted that the total number of transactions executed on

    ICE's electronic platform in the HEN contract was 538 in the second

    quarter of 2009, resulting in a daily average of 8.4 trades. During the

    same period, the HEN contract had a total trading volume of 78,780

    contracts and an average daily trading volume of 1,232 contracts.

    Moreover, open interest as of June 30, 2009, was 128,504 contracts,

    which included trades executed on ICE's electronic trading platform, as

    well as trades executed off of ICE's electronic trading platform and

    then brought to ICE for clearing. In this regard, ICE does not

    differentiate between open interest created by a transaction executed

    on its trading platform and that created by a transaction executed off

    its trading platform.\22\ In a subsequent filing dated November 13,

    2009, ICE reported that total trading volume in the third quarter of

    2009 was 173,973 contracts (or 2,636 contracts on a daily basis). In

    term of number of transactions, 1,174 trades occurred in the third

    quarter of 2009 (17.8 trades per day). As of September 30, 2009, open

    interest in the HEN contract was 160,804 contracts, which included

    trades executed on ICE's electronic trading platform, as well as trades

    executed off of ICE's electronic trading platform and then brought to

    ICE for clearing.

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    \22\ 74 FR 53720 (October 20, 2009).

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    The Commission notes that trading activity in the HEN contract

    increased between the second and third quarters of 2009. However, the

    number of trades per day remained relatively low and only slightly more

    than the reporting level of five trades per day. Moreover, the

    Commission notes that the number of contracts traded is comparable to

    that experienced in a relatively small futures market, such as the

    NYMEX Platinum and ICE US Frozen Concentrated Orange Juice contracts.

    Accordingly, the data at best provides weak evidence that the HEN

    contract meets the material liquidity criterion.\23\

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    \23\ In establishing guidance to illustrate how it will evaluate

    the various criteria, or combinations of criteria, when determining

    whether a contract is a SPDC, the Commission made clear that

    ``material liquidity itself would not be sufficient to make a

    determination that a contract is a [SPDC], * * * but combined with

    other factors it can serve as a guidepost indicating which contracts

    are functioning as [SPDCs].'' For the reasons discussed above, the

    Commission has found that the HEN contract does not meet either the

    price linkage or material price reference criterion. In light of

    this finding and the Commission's Guidance cited above, there is no

    need to evaluate further the material liquidity criteria since it

    cannot be used alone as a basis for a SPDC determination.

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    i. Federal Register Comments

    As noted above, ICE was the sole respondent which addressed the

    question of whether the HEN contract is a SPDC. ICE stated in its

    comment letter that the HEN contract does not meet the material

    liquidity criterion for SPDC determination for a number of reasons.

    First, ICE opined that the Commission ``seems to have adopted a

    five trade-per-day test to determine whether a contract is materially

    liquid. It is worth noting that ICE originally suggested that the CFTC

    use a five trades-per-day threshold as the basis for an ECM to report

    trade data to the CFTC.'' On the contrary, the Commission adopted a

    five trades-per-day threshold as a reporting requirement to enable it

    to ``independently be aware of ECM contracts that may develop into

    SPDCs'' \24\ rather than solely relying upon an ECM on its own to

    identify any such potential SPDCs to the Commission. While a contract

    that meets this threshold may be subject to scrutiny as a potential

    SPDC, the threshold is not a test for material liquidity. As noted

    above, the Commission has not reached a decision regarding material

    liquidity because, regardless of the relatively large quarterly trading

    volume in the HEN contract, material liquidity alone is not sufficient

    to support a SPDC determination.

    ---------------------------------------------------------------------------

    \24\ 73 FR 75892 (December 12, 2008).

    ---------------------------------------------------------------------------

    ICE also stated that ``the statistics [provided by ICE] have been

    misinterpreted and misapplied.'' In particular, ICE stated that the

    volume figures used in the Commission's analysis (cited above)

    ``include trades made in all 120 months of each contract'' as well as

    in strips of contract months, and a ``more appropriate method of

    determining liquidity is to examine the activity in a single traded

    month or strip of a given contract.'' Furthermore, ICE noted that for

    the HEN contract, ``98% of the trades and volume actually executed on

    the ICE platform occurred in the single most liquid, usually prompt,

    month of the contract.''

    It is the Commission's opinion that liquidity, as it relates to the

    HEN contract, is typically a function of trading activity in particular

    lead months and, given sufficient liquidity in such months, the HEN

    contract itself would be considered liquid. ICE's analysis of its own

    trade data confirms this to be the case for the HEN contract, and thus,

    the Commission believes that it applied the statistical data cited

    above in an appropriate manner for gauging material liquidity.

    In addition, ICE stated that the trades-per-day statistics that it

    provided to the Commission in its quarterly filing and which are cited

    above includes 2(h)(1) transactions, which were not completed on the

    electronic trading platform and should not be considered in the SPDC

    determination process. Commission staff asked ICE to review the data it

    sent in its quarterly filings. In response, ICE confirmed that the

    volume data it provided and which the Commission cited in its October

    20, 2009, Federal Register notice, as well as the additional volume

    information it cites above, includes only transaction data executed on

    ICE's electronic trading platform.\25\ The Commission acknowledges that

    the open interest information it cites above includes transactions made

    off the ICE platform. However, once open interest is created, there is

    no way for ICE to differentiate between ``on-exchange'' versus ``off-

    exchange'' created positions, and all such positions are fungible with

    one another and may be offset in any way agreeable to the position

    holder regardless of how the position was initially created.

    ---------------------------------------------------------------------------

    \25\ Supplemental data supplied by ICE confirmed that block

    trades in the third quarter of 2009 were in addition to the trades

    that were conducted on the electronic platform; block trades

    comprised 62.2 percent of all transactions in the HEN contract.

    ---------------------------------------------------------------------------

    ii. Conclusion Regarding Material Liquidity

    For the reasons discussed above, the Commission finds at best weak

    evidence that the HEN contract meets the material liquidity criterion.

    However, because the HEN contract does not meet either the price

    linkage or material price reference criterion, it is not possible to

    declare the HEN contract a SPDC since material liquidity cannot be used

    alone as a basis for a SPDC determination.

    4. Overall Conclusion the HEN Contract

    After considering the entire record in this matter, including the

    comments received, the Commission has determined that the HEN contract

    does not perform a significant price discovery

    [[Page 23723]]

    function under the criteria established in section 2(h)(7) of the CEA.

    Specifically, the Commission has determined that the HEN contract does

    not meet the material price reference and price linkage criteria at

    this time, and there is at best weak evidence that it meets the

    material liquidity criterion, which is not sufficient by itself to

    support a SPDC determination. Accordingly, the Commission will issue

    the attached Order declaring that the HEN contract is not a SPDC.

    Issuance of this Order indicates that the Commission does not at

    this time regard ICE as a registered entity in connection with its HEN

    contract.\26\ Accordingly, with respect to its HEN contract, ICE is not

    required to comply with the obligations, requirements and timetables

    prescribed in Commission rule 36.3(c)(4) for ECMs with SPDCs.

    ---------------------------------------------------------------------------

    \26\ See 73 FR 75888, 75893 (Dec. 12, 2008).

    ---------------------------------------------------------------------------

    b. The Henry Financial Index (HIS) Contract and the SPDC Indicia

    The ICE HIS contract is cash settled based on the arithmetic

    average of the daily natural gas prices at the Henry Hub, as quoted in

    the ``Daily Price Survey'' table of Platts' Gas Daily during the

    specified month, less the Platts bidweek price that is reported in the

    first issue of Inside FERC's Gas Market Report in which the natural gas

    is delivered. The Platts prices are based on the fixed-price cash

    market transactions that are voluntarily reported by traders. As noted

    above, the Platts bidweek price is based on a survey of cash market

    traders who voluntarily report data on their fixed-price transactions

    conducted during the last five business days of the month for physical

    delivery of natural gas at the Henry Hub on a uniform basis throughout

    the following calendar month. The Platts bidweek index is published on

    the first business day of the calendar month in which the natural gas

    is to be delivered. The Gas Daily price is for next-day delivery of

    natural gas at the Henry Hub. The size of the HIS contract is 2,500

    mmBtu, and the unit of trading is any multiple of 2,500 mmBtu. The HIS

    contract is listed for 36 calendar months.

    The index used to settle the HIS contract measures the discrepancy

    between two cash market prices for natural gas, where one (the Platts

    bidweek price) is a fixed forward price that locks in the price paid

    for gas deliveries made on each calendar day of the following month.

    The other price (the Platts Daily Price Survey) is a calendar month

    average of the daily spot price for gas deliveries made during the same

    month. The forward and average spot prices may differ from each other

    as new market conditions unfold during the month in which deliveries

    are made.

    For example, assume that a firm prices natural gas that is going to

    be delivered at the Henry Hub in November 2009 at the bidweek price.

    The NYMEX Henry Hub futures can be used to procure the physical gas,

    and HEN contract can be overlayed in order to achieve the bidweek

    price. If there is a potential that the average daily price during the

    delivery month may differ from the bidweek price, the firm can add the

    HIS contract to the NYMEX futures/ICE HEN combination to achieve a

    price that is based on actual daily prices rather than a forward spot

    price that applies to all business days in the delivery month. As a

    result, the HIS contract allows commercial participants to price

    natural gas more accurately during the delivery period.

    In its October 20, 2009, Federal Register notice, the Commission

    identified material liquidity and material price reference as the

    potential SPDC criteria applicable to the HIS contract. Each of these

    factors is discussed below.\27\

    ---------------------------------------------------------------------------

    \27\ As noted above, the Commission did not find an indication

    of arbitrage and price linkage in connection with this contract;

    accordingly, those criteria are not discussed in reference to the

    HIS contract.

    ---------------------------------------------------------------------------

    1. Material Price Reference Criterion

    The Commission's October 20, 2009, Federal Register notice

    identified material price reference as a potential basis for a SPDC

    determination with respect to this contract. The Commission noted that

    ICE sells its price data to market participants in a number of

    different packages which vary in terms of the hubs covered, time

    periods, and whether the data are daily only or historical. For

    example, ICE offers ``Gulf Gas End of Day'' and ``OTC Gas End of Day''

    \28\ with access to all price data or just current prices plus a

    selected number of months (i.e., 12, 24, 36 or 48 months) of historical

    data. These two packages include price data for the HIS contract.

    ---------------------------------------------------------------------------

    \28\ The OTC Gas End of Day dataset includes daily settlement

    prices for natural gas contracts listed for all points in North

    America.

    ---------------------------------------------------------------------------

    Although the Henry Hub is a major trading center for natural gas in

    the United States, and as noted ICE does sell price information for the

    HIS contract, the Commission has found upon further evaluation that the

    HIS contract is not ``routinely consulted by industry participants in

    pricing cash market transactions'' and thus does not meet the

    Commission's guidance for the material price reference criterion. In

    this regard, the NYMEX Henry Hub natural gas futures contract is

    routinely consulted by industry participants in pricing cash market

    transactions at this location. Because both the HIS and the NYMEX

    contracts basically price the same commodity at the same location and

    time and the NYMEX futures contract has significantly higher trading

    volume and open interest, it is not necessary for market participants

    to independently refer to the HIS contract for pricing natural gas at

    this location. Furthermore, the Commission notes that publication of

    the HIS contract's prices is not indirect evidence of routine

    dissemination. The HIS contract's prices are published with those of

    numerous other contracts, which are of more interest to market

    participants.\29\ The Commission cannot surmise whether or not traders

    specifically purchase the ICE data packages for the HIS contract's

    prices.

    ---------------------------------------------------------------------------

    \29\ The Commission will rely on one of two sources of

    evidence--direct or indirect--to determine a SPDC. Direct evidence

    can be cash market transactions that are frequently based on or

    quoted as a differential to the potential SPDC. Indirect evidence

    includes contracts whose price series are routinely disseminated in

    industry publications or are sold to market participants by the ECM.

    ---------------------------------------------------------------------------

    i. Federal Register Comments

    As noted above, ICE was the sole respondent which addressed the

    question of whether the HIS contract is a SPDC. ICE stated in its

    comment letter that the HIS contract does not meet the material price

    reference criterion for SPDC determination and, further, that the

    Commission's identification of the HIS contract as a potential SPDC is

    based on a disputable assertion. In issuing its notice of intent to

    determine whether the HIS contract is a SPDC, the CFTC cited a general

    conclusion in its ECM study ``that certain market participants referred

    to ICE as a price discovery market for certain natural gas contracts.''

    ICE states that ``[b]asing a material price reference determination on

    general statements made in a two year old study does not seem to meet

    Congress' intent that the CFTC use its considerable expertise to study

    the OTC markets.'' The Commission cited the ECM study's general finding

    that some ICE natural gas contracts appear to be regarded as price

    discovery markets as an indication that an investigation of certain ICE

    contracts may be warranted; the ECM study was not intended to serve as

    the sole basis for determining whether or not a particular contract

    meets the material price reference criterion.

    [[Page 23724]]

    ii. Conclusion Regarding Material Price Reference

    The Commission finds that the HIS contract does not meet the

    material price reference criterion because it is not routinely

    consulted by cash market participants when pricing transactions at the

    Henry Hub (direct evidence is not supported). Moreover, the ECM sells

    the HIS contract's price data along with those of other contracts,

    which are of more interest to market participants (indirect evidence is

    not supported).

    2. Material Liquidity Criterion

    As noted above, in its October 20, 2009, Federal Register notice,

    the Commission identified material liquidity and material price

    reference as potential criteria for SPDC determination of the HIS

    contract. With respect to the material liquidity criterion, the

    Commission noted that the total number of transactions executed on

    ICE's electronic platform in the HIS contract was 550 in the second

    quarter of 2009, resulting in a daily average of 8.6 trades. During the

    same period, the HIS contract had a total trading volume of 79,330

    contracts and an average daily trading volume of 1,239 contracts.

    Moreover, open interest as of June 30, 2009, was 127,346 contracts,

    which included trades executed on ICE's electronic trading platform, as

    well as trades executed off of ICE's electronic trading platform and

    then brought to ICE for clearing. In this regard, ICE does not

    differentiate between open interest created by a transaction executed

    on its trading platform and that created by a transaction executed off

    its trading platform.\30\ In a subsequent filing dated November 13,

    2009, ICE reported that total trading volume in the third quarter of

    2009 was 178,649 contracts (or 2,707 contracts on a daily basis). In

    term of number of transactions, 1,250 trades occurred in the third

    quarter of 2009 (18.9 trades per day). As of September 30, 2009, open

    interest in the HIS contract was 255,496 contracts, which included

    trades executed on ICE's electronic trading platform, as well as trades

    executed off of ICE's electronic trading platform and then brought to

    ICE for clearing.

    ---------------------------------------------------------------------------

    \30\ 74 FR 53720 (October 20, 2009).

    ---------------------------------------------------------------------------

    The Commission notes that trading activity in the HIS contract

    increased between the second and third quarters of 2009. However, the

    number of trades per day remained relatively low and only slightly more

    than the reporting level of five trades per day. Moreover, the

    Commission notes that the number of contracts traded is comparable to

    that experienced in a relatively small futures market, such as the

    NYMEX Platinum and ICE U.S. Frozen Concentrated Orange Juice contracts.

    Accordingly, the data at best provides weak evidence that the HIS

    contract meets the material liquidity criterion.\31\

    ---------------------------------------------------------------------------

    \31\ In establishing guidance to illustrate how it will evaluate

    the various criteria, or combinations of criteria, when determining

    whether a contract is a SPDC, the Commission made clear that

    ``material liquidity itself would not be sufficient to make a

    determination that a contract is a [SPDC], * * * but combined with

    other factors it can serve as a guidepost indicating which contracts

    are functioning as [SPDCs].'' For the reasons discussed above, the

    Commission has found that the HIS contract does not meet either the

    price linkage or material price reference criterion. In light of

    this finding and the Commission's Guidance cited above, there is no

    need to evaluate further the material liquidity criteria since it

    cannot be used alone as a basis for a SPDC determination.

    ---------------------------------------------------------------------------

    i. Federal Register Comments

    As noted above, ICE was the sole respondent which addressed the

    question of whether the HIS contract is a SPDC. ICE stated in its

    comment letter that the HIS contract does not meet the material

    liquidity criterion for SPDC determination for a number of reasons.

    First, ICE opined that the Commission ``seems to have adopted a

    five trade-per-day test to determine whether a contract is materially

    liquid. It is worth noting that ICE originally suggested that the CFTC

    use a five trades-per-day threshold as the basis for an ECM to report

    trade data to the CFTC.'' On the contrary, the Commission adopted a

    five trades-per-day threshold as a reporting requirement to enable it

    to ``independently be aware of ECM contracts that may develop into

    SPDCs'' \32\ rather than solely relying upon an ECM on its own to

    identify any such potential SPDCs to the Commission. While a contract

    that meets this threshold may be subject to scrutiny as a potential

    SPDC, the threshold is not a test for material liquidity. As noted

    above, the Commission has not reached a decision regarding material

    liquidity because, regardless of the relatively large quarterly trading

    volume in the HIS contract, material liquidity alone is not sufficient

    to support a SPDC determination.

    ---------------------------------------------------------------------------

    \32\ 73 FR 75892 (December 12, 2008).

    ---------------------------------------------------------------------------

    ICE also stated that ``the statistics [provided by ICE] have been

    misinterpreted and misapplied.'' In particular, ICE stated that the

    volume figures used in the Commission's analysis (cited above)

    ``include trades made in all 120 months of each contract'' as well as

    in strips of contract months, and a ``more appropriate method of

    determining liquidity is to examine the activity in a single traded

    month or strip of a given contract.'' Furthermore, ICE noted that for

    the HIS contract, ``98% of the trades and volume actually executed on

    the ICE platform occurred in the single most liquid, usually prompt,

    month of the contract.''

    It is the Commission's opinion that liquidity, with regard to the

    HIS contract, is typically a function of trading activity in particular

    lead months and, given sufficient liquidity in such months, the HIS

    contract itself would be considered liquid. ICE's analysis of its own

    trade data confirms this to be the case for the HIS contract, and thus,

    the Commission believes that it applied the statistical data cited

    above in an appropriate manner for gauging material liquidity.

    In addition, ICE stated that the trades-per-day statistics that it

    provided to the Commission in its quarterly filing and which are cited

    above includes 2(h)(1) transactions, which were not completed on the

    electronic trading platform and should not be considered in the SPDC

    determination process. Commission staff asked ICE to review the data it

    sent in its quarterly filings. In response, ICE confirmed that the

    volume data it provided and which the Commission cited in its October

    20, 2009, Federal Register notice as well as the additional volume

    information it cites above includes only transaction data executed on

    ICE's electronic trading platform.\33\ The Commission acknowledges that

    the open interest information it cites above includes transactions made

    off the ICE platform. However, once open interest is created, there is

    no way for ICE to differentiate between ``on-exchange'' versus ``off-

    exchange'' created positions, and all such positions are fungible with

    one another and may be offset in any way agreeable to the position

    holder regardless of how the position was initially created.

    ---------------------------------------------------------------------------

    \33\ Supplemental data supplied by ICE confirmed that block

    trades in the third quarter of 2009 were in addition to the trades

    that were conducted on the electronic platform; block trades

    comprised 59.7 percent of all transactions in the HIS contract.

    ---------------------------------------------------------------------------

    ii. Conclusion Regarding Material Liquidity

    For the reasons discussed above, the Commission finds weak evidence

    at best that the HIS contract meets the material liquidity criterion.

    However, because the HIS contract does not meet the material price

    reference criterion, it is not possible to declare the HIS contract a

    SPDC since material liquidity cannot be used alone as a basis for a

    SPDC determination.

    [[Page 23725]]

    3. Overall Conclusion

    After considering the entire record in this matter, including the

    comments received, the Commission has determined that the HIS contract

    does not perform a significant price discovery function under the

    criteria established in section 2(h)(7) of the CEA. Specifically, the

    Commission has determined that the HIS contract does not meet the

    material price reference criterion at this time, and there is weak

    evidence at best that it meets the material liquidity criterion, which

    is not sufficient by itself to support a SPDC determination.

    Accordingly, the Commission will issue the attached Order declaring

    that the HIS contract is not a SPDC.

    Issuance of this Order indicates that the Commission does not at

    this time regard ICE as a registered entity in connection with its HIS

    contract.\34\ Accordingly, with respect to its HIS contract ICE is not

    required to comply with the obligations, requirements and timetables

    prescribed in Commission rule 36.3(c)(4) for ECMs with SPDCs.

    ---------------------------------------------------------------------------

    \34\ See 73 FR 75888, 75893 (Dec. 12, 2008).

    ---------------------------------------------------------------------------

    c. The Henry Financial Swing (HHD) Contract and the SPDC Indicia

    The ICE HHD contract is cash settled based on the spot index price

    for natural gas at the Henry Hub on a specified day, as reported in the

    ``Daily Price Survey'' table of Platts' Gas Daily. The Platts index

    price is based on fixed-price cash market transactions that are

    voluntarily reported by traders. The size of the HHD contract is 2,500

    mmBtu, and the unit of trading is any multiple of 2,500 mmBtu. The HHD

    contract is listed for 65 consecutive calendar days.

    Swing contracts are cash-settled natural gas contracts that specify

    2,500 mmBtu of gas at a particular location on a specific day and is

    settled using a price index published by a third-party price reporter.

    The ICE HHD swing contract represents the spot price of natural gas at

    the Henry Hub on a particular day. Swing contracts allow traders to

    refine or lift hedges during the delivery month that were previously

    established using the NYMEX Henry Hub natural gas futures contract.

    Swing contracts are most useful after the NYMEX futures contract has

    stopped trading, which is just prior to the beginning of the delivery

    month. Physically-delivered and cash-settled transactions based on the

    NYMEX Henry Hub price involves natural gas that is delivered over the

    entire delivery month. If, for example, a firm's needs change and it no

    longer needs all of the natural gas for which it hedged (say it now

    requires only half of the originally hedged natural gas in the final

    week of the delivery month), then the HHD contract can be used to

    offset the part of the original hedge even though NYMEX futures

    contract has ceased trading.

    In its October 20, 2009, Federal Register notice, the Commission

    identified material liquidity, arbitrage and material price reference

    as the potential SPDC criteria applicable to the HHD contract. Each of

    these criteria is discussed below.\35\

    ---------------------------------------------------------------------------

    \35\ As noted above, the Commission did not find an indication

    of price linkage in connection with this contract; accordingly, that

    criterion is not discussed in reference to the HHD contract.

    ---------------------------------------------------------------------------

    1. Material Price Reference Criterion

    The Commission's October 20, 2009, Federal Register notice

    identified material price reference as a potential basis for a SPDC

    determination with respect to this contract. The Commission noted that

    ICE sells its price data to market participants in a number of

    different packages which vary in terms of the hubs covered, time

    periods, and whether the data are daily only or historical. For

    example, ICE offers ``Gulf Gas End of Day'' and ``OTC Gas End of Day''

    \36\ with access to all price data or just current prices plus a

    selected number of months (i.e., 12, 24, 36 or 48 months) of historical

    data. These two packages include price data for the HHD contract.

    ---------------------------------------------------------------------------

    \36\ The OTC Gas End of Day dataset includes daily settlement

    prices for natural gas contracts listed for all points in North

    America.

    ---------------------------------------------------------------------------

    Although the Henry Hub is a major trading center for natural gas in

    the United States and, as noted, ICE sells price information for the

    HHD contract, the Commission has found upon further evaluation that the

    HHD contract is not ``routinely consulted by industry participants in

    pricing cash market transactions'' and thus does not meet the

    Commission's guidance for the Material Price Reference criteria. In

    this regard, the NYMEX Henry Hub futures contract is routinely

    consulted by industry participants in pricing cash market transactions

    at this location, because both the HHD and the NYMEX contracts

    basically price the same commodity at the same location and the NYMEX

    contract has significantly higher trading volume and open interest, it

    is not necessary for market participants to independently refer to the

    HHD contract for pricing natural gas at this location. Furthermore, the

    Commission notes that publication of the HHD contract's prices is not

    indirect evidence of routine dissemination. The HHD contract's prices

    are published with those of numerous other contracts, which are of more

    interest to market participants.\37\ The Commission cannot surmise

    whether or not traders specifically purchase the ICE data packages for

    the HHD contract's prices.

    ---------------------------------------------------------------------------

    \37\ The Commission will rely on one of two sources of

    evidence--direct or indirect--to determine a SPDC. Direct evidence

    can be cash market transactions that are frequently based on or

    quoted as a differential to the potential SPDC. Indirect evidence

    includes contracts whose price series are routinely disseminated in

    industry publications or are sold to market participants by the ECM.

    ---------------------------------------------------------------------------

    i. Federal Register Comments

    As noted above, ICE was the sole respondent which addressed the

    question of whether the HHD contract is a SPDC. ICE stated in its

    comment letter that the HHD contract does not meet the material price

    reference criterion for SPDC determination. ICE stated that the

    Commission appeared to base the case that the HHD contract is

    potentially a SPDC on a disputable assertion. First, in issuing its

    notice of intent to determine whether the HHD contract is a SPDC, the

    CFTC cited a general conclusion in its ECM study ``that certain market

    participants referred to ICE as a price discovery market for certain

    natural gas contracts.'' ICE states that ``[b]asing a material price

    reference determination on general statements made in a two year old

    study does not seem to meet Congress' intent that the CFTC use its

    considerable expertise to study the OTC markets.'' The Commission cited

    the ECM study's general finding that some ICE natural gas contracts

    appear to be regarded as price discovery markets as an indication that

    an investigation of certain ICE contracts may be warranted; the ECM

    study was not intended to serve as the sole basis for determining

    whether or not a particular contract meets the material price reference

    criterion.

    ii. Conclusion Regarding Material Price Reference

    The Commission finds that the HHD contract does not meet the

    material price reference criterion because it is not routinely

    consulted by cash market participants when pricing transactions at the

    Henry Hub (direct evidence is not supported). Moreover, the ECM sells

    the HHD contract's price data along with those of other contracts,

    which are of more interest to market participants (indirect evidence is

    not supported).

    2. Arbitrage Criterion

    In its October 20, 2009, Federal Register notice, the Commission

    identified arbitrage as a potential basis

    [[Page 23726]]

    for a SPDC determination with respect to the HHD contract.

    The Commission's Guidance (Appendix A to Part 36) notes that ``the

    Commission will consider an arbitrage contract potentially to be a

    [SPDC] * * * if, over the most recent quarter, greater than 95 percent

    of the closing or settlement prices of the contract, which have been

    calculated using transaction prices, fall within 2.5 percent of the

    closing or settlement price of the contract or contracts which it could

    be arbitraged.'' As noted above, the HHD contract is a daily contract

    that reflects the spot price of natural gas at the Henry Hub and is

    listed for 65 calendar days. In contrast, the NYMEX Henry Hub natural

    gas futures contract is a pricing mechanism for natural gas in the

    future. The NYMEX Henry Hub natural gas futures contract is available

    for trading many months prior to the delivery period.

    Arbitrage between the ICE HHD and NYMEX Henry Hub physically-

    delivered natural gas futures contract potentially is possible.

    However, the ability to arbitrage likely would be limited based on a

    number of factors. First, the HHD contract prices the value of natural

    gas on a single day while the NYMEX futures contract prices the value

    of gas over a calendar month. Second, the futures contract and the HHD

    contract are not always trading simultaneously. For example, the NYMEX

    futures contract trades many years before delivery while the HHD

    contract is listed out only 65 consecutive calendar days. Moreover, the

    HHD contract trades into the delivery month while the NYMEX futures

    contract stops trading three business days before the first business

    day of the delivery month. Even during the times where the two

    contracts are simultaneously traded, arbitrage between the two

    contracts likely would involve multiple HHD contract to cover a period

    of several days or weeks against a single NYMEX position, which would

    be rather cumbersome and probably not practicable. Due to the

    heterogeneous attributes of the two contracts, the test noted above to

    determine the similarity of the two price series was not performed.

    i. Federal Register Comments

    As noted above, ICE was the sole respondent which addressed the

    question of whether the HHD contract is a SPDC. ICE stated in its

    comment letter that the HHD contract does not meet the arbitrage

    criterion because it is a `` `decaying' product that expires daily

    throughout its contract term. The HHD [contract] typically trades

    `balance of month' therefore using multiple daily settlement prices. In

    fact, the majority of HHD trades are intra-month after the * * * [NYMEX

    Henry Hub natural gas futures contract] has already been priced.''

    ii. Conclusion Regarding the Arbitrage Criterion

    The HHD contract does not meet the arbitrage criterion because it

    prices natural gas on a daily basis while the NYMEX futures contract

    prices gas on a monthly basis. Moreover, the futures contract is used

    to discover prices while the HHD contract is used to modify or lift

    preexisting hedges.

    3. Material Liquidity Criterion

    As noted above, in its October 20, 2009, Federal Register notice,

    the Commission identified material liquidity, arbitrage and material

    price reference as potential criteria for SPDC determination of the HHD

    contract. With respect to the material liquidity criterion, the

    Commission noted that the total number of transactions executed on

    ICE's electronic platform in the HHD contract was 5,246 in the second

    quarter of 2009, resulting in a daily average of 82 trades. During the

    same period, the HHD contract had a total trading volume of 242,968

    contracts and an average daily trading volume of 3,796 contracts.

    Moreover, open interest as of June 30, 2009, was 20,173 contracts,

    which included trades executed on ICE's electronic trading platform, as

    well as trades executed off of ICE's electronic trading platform and

    then brought to ICE for clearing. In this regard, ICE does not

    differentiate between open interest created by a transaction executed

    on its trading platform and that created by a transaction executed off

    its trading platform.\38\ In a subsequent filing dated November 13,

    2009, ICE reported that total trading volume in the third quarter of

    2009 was 407,037 contracts (or 6,167 contracts on a daily basis). In

    term of number of transactions, 10,376 trades occurred in the third

    quarter of 2009 (157.2 trades per day). As of September 30, 2009, open

    interest in the HHD contract was 25,418 contracts, which included

    trades executed on ICE's electronic trading platform, as well as trades

    executed off of ICE's electronic trading platform and then brought to

    ICE for clearing.

    ---------------------------------------------------------------------------

    \38\ 74 FR 53720 (October 20, 2009).

    ---------------------------------------------------------------------------

    The Commission notes that trading activity in the HHD contract

    increased between the second and third quarters of 2009. Moreover, the

    number of trades per day was quite large and was significantly greater

    than the reporting level of five trades per day. Furthermore, the

    number of contracts traded is comparable to the levels experienced in a

    moderately active futures market, such as the ICE US Cotton No. 2

    contract. Accordingly, the transaction data provide evidence that the

    HHD contract may meet the material liquidity criterion.\39\

    ---------------------------------------------------------------------------

    \39\ In establishing guidance to illustrate how it will evaluate

    the various criteria, or combinations of criteria, when determining

    whether a contract is a SPDC, the Commission made clear that

    ``material liquidity itself would not be sufficient to make a

    determination that a contract is a [SPDC], * * * but combined with

    other factors it can serve as a guidepost indicating which contracts

    are functioning as [SPDCs].'' For the reasons discussed above, the

    Commission has found that the HEN contract does not meet either the

    price linkage or material price reference criterion. In light of

    this finding and the Commission's Guidance cited above, there is no

    need to evaluate further the material liquidity criteria since it

    cannot be used alone as a basis for a SPDC determination.

    ---------------------------------------------------------------------------

    i. Federal Register Comments

    As noted above, ICE was the sole respondent which addressed the

    question of whether the HHD contract is a SPDC. ICE stated in its

    comment letter that the HHD contract does not meet the material

    liquidity criterion for SPDC determination for a number of reasons.

    First, ICE opined that the Commission ``seems to have adopted a

    five trade-per-day test to determine whether a contract is materially

    liquid. It is worth noting that ICE originally suggested that the CFTC

    use a five trades-per-day threshold as the basis for an ECM to report

    trade data to the CFTC.'' On the contrary, the Commission adopted a

    five trades-per-day threshold as a reporting requirement to enable it

    to ``independently be aware of ECM contracts that may develop into

    SPDCs'' \40\ rather than solely relying upon an ECM on its own to

    identify any such potential SPDCs to the Commission. While a contract

    that meets this threshold may be subject to scrutiny as a potential

    SPDC, the threshold is not a test for material liquidity. As noted

    above, the Commission has not reached a decision regarding material

    liquidity because, regardless of the relatively large number of trades

    per day and the large quarterly trading volume in the HHD contract,

    material liquidity alone is not sufficient to support a SPDC

    determination.

    ---------------------------------------------------------------------------

    \40\ 73 FR 75892 (December 12, 2008).

    ---------------------------------------------------------------------------

    ICE also stated that ``the statistics [provided by ICE] have been

    misinterpreted and misapplied.'' In particular, ICE stated that the

    volume figures used in the Commission's analysis (cited above)

    ``include trades made in all 120 months of each contract'' as well as

    in strips of contract

    [[Page 23727]]

    months, and a ``more appropriate method of determining liquidity is to

    examine the activity in a single traded month or strip of a given

    contract.'' Furthermore, ICE noted that for the HHD contract, ``78% of

    the total volume was actually executed on the ICE platform in the

    single most liquid, usually prompt, month of the contract.''

    It is the Commission's opinion that liquidity, with regard to the

    HHD contract, is typically a function of trading activity in particular

    lead months and, given sufficient liquidity in such months, the HHD

    contract itself would be considered liquid. ICE's analysis of its own

    trade data confirms this to be the case for the HHD contract, and thus,

    the Commission believes that it applied the statistical data cited

    above in an appropriate manner for gauging material liquidity.

    In addition, ICE stated that the trades-per-day statistics that it

    provided to the Commission in its quarterly filing and which are cited

    above includes 2(h)(1) transactions, which were not completed on the

    electronic trading platform and should not be considered in the SPDC

    determination process. Commission staff asked ICE to review the data it

    sent in its quarterly filings and ICE confirmed that the volume data it

    provided and which the Commission cited in its October 20, 2009,

    Federal Register notice as well as the additional volume information it

    cites above includes only transaction data executed on ICE's electronic

    trading platform.\41\ The Commission acknowledges that the open

    interest information it cites above includes transactions made off the

    ICE platform. However, once open interest is created, there is no way

    for ICE to differentiate between ``on-exchange'' versus ``off-

    exchange'' created positions, and all such positions are fungible with

    one another and may be offset in any way agreeable to the position

    holder regardless of how the position was initially created.

    ---------------------------------------------------------------------------

    \41\ Supplemental data supplied by ICE confirmed that block

    trades in the third quarter of 2009 were in addition to the trades

    that were conducted on the electronic platform; block trades

    comprised 1.2 percent of all transactions in the HHD contract.

    ---------------------------------------------------------------------------

    ii. Conclusion Regarding Material Liquidity

    For the reasons discussed above, the Commission finds that the HHD

    contract may meet the material liquidity criterion. However, because

    the HHD contract does not meet the material price reference or the

    arbitrage criterion, it is not possible to declare the HHD contract a

    SPDC since material liquidity cannot be used alone as a basis for SPDC

    determination.

    4. Overall Conclusion

    After considering the entire record in this matter, including the

    comments received, the Commission has determined that the HHD contract

    does not perform a significant price discovery function under the

    criteria established in section 2(h)(7) of the CEA. Specifically, the

    Commission has determined that the HHD contract does not meet the

    material price reference and arbitrage criteria at this time nor is

    material liquidity sufficient by itself to support a SPDC

    determination. Accordingly, the Commission will issue the attached

    Order declaring that the HHD contract is not a SPDC.

    Issuance of this Order indicates that the Commission does not at

    this time regard ICE as a registered entity in connection with its HHD

    contract.\42\ Accordingly, with respect to its HHD contract ICE is not

    required to comply with the obligations, requirements and timetables

    prescribed in Commission rule 36.3(c)(4) for ECMs with SPDCs.

    ---------------------------------------------------------------------------

    \42\ See 73 FR 75888, 75893 (Dec. 12, 2008).

    ---------------------------------------------------------------------------

    V. Related Matters

    a. Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (``PRA'') \43\ imposes certain

    requirements on Federal agencies, including the Commission, in

    connection with their conducting or sponsoring any collection of

    information as defined by the PRA. Certain provisions of Commission

    rule 36.3 impose new regulatory and reporting requirements on ECMs,

    resulting in information collection requirements within the meaning of

    the PRA. OMB previously has approved and assigned OMB control number

    3038-0060 to this collection of information.

    ---------------------------------------------------------------------------

    \43\ 44 U.S.C. 3507(d).

    ---------------------------------------------------------------------------

    b. Cost-Benefit Analysis

    Section 15(a) of the CEA \44\ requires the Commission to consider

    the costs and benefits of its actions before issuing an order under the

    Act. By its terms, section 15(a) does not require the Commission to

    quantify the costs and benefits of an order or to determine whether the

    benefits of the order outweigh its costs; rather, it requires that the

    Commission ``consider'' the costs and benefits of its actions. Section

    15(a) further specifies that the costs and benefits shall be evaluated

    in light of five broad areas of market and public concern: (1)

    Protection of market participants and the public; (2) efficiency,

    competitiveness and financial integrity of futures markets; (3) price

    discovery; (4) sound risk management practices; and (5) other public

    interest considerations. The Commission may in its discretion give

    greater weight to any one of the five enumerated areas and could in its

    discretion determine that, notwithstanding its costs, a particular

    order is necessary or appropriate to protect the public interest or to

    effectuate any of the provisions or accomplish any of the purposes of

    the Act.

    ---------------------------------------------------------------------------

    \44\ 7 U.S.C. 19(a).

    ---------------------------------------------------------------------------

    When a futures contract begins to serve a significant price

    discovery function, that contract, and the ECM on which it is traded,

    warrants increased oversight to deter and prevent price manipulation or

    other disruptions to market integrity, both on the ECM itself and in

    any related futures contracts trading on DCMs. An Order finding that a

    particular contract is a SPDC triggers this increased oversight and

    imposes obligations on the ECM calculated to accomplish this goal. The

    increased oversight engendered by the issue of a SPDC Order increases

    transparency and helps to ensure fair competition among ECMs and DCMs

    trading similar products and competing for the same business. Moreover,

    the ECM on which the SPDC is traded must assume, with respect to that

    contract, all the responsibilities and obligations of a registered

    entity under the CEA and Commission regulations. Additionally, the ECM

    must comply with nine core principles established by section 2(h)(7) of

    the Act--including the obligation to establish position limits and/or

    accountability standards for the SPDC. Section 4(i) of the CEA

    authorize the Commission to require reports for SPDCs listed on ECMs.

    These increased responsibilities, along with the CFTC's increased

    regulatory authority, subject the ECM's risk management practices to

    the Commission's supervision and oversight and generally enhance the

    financial integrity of the markets.

    The Commission has concluded that ICE's HEN, HIS and HHD contracts

    that are the subject of the attached Orders are not SPDCs; accordingly,

    the Commission's Orders impose no additional costs and no additional

    statutorily or regulatory mandated responsibilities on the ECM.

    c. Regulatory Flexibility Act

    The Regulatory Flexibility Act (``RFA'') \45\ requires that

    agencies consider the impact of their rules on small businesses. The

    requirements of CEA section 2(h)(7) and the Part 36 rules affect ECMs.

    The Commission previously has determined that ECMs

    [[Page 23728]]

    are not small entities for purposes of the RFA.\46\ Accordingly, the

    Chairman, on behalf of the Commission, hereby certifies pursuant to 5

    U.S.C. 605(b) that these Orders, taken in connection with section

    2(h)(7) of the Act and the Part 36 rules, will not have a significant

    impact on a substantial number of small entities.

    ---------------------------------------------------------------------------

    \45\ 5 U.S.C. 601 et seq.

    \46\ 66 FR 42256, 42268 (Aug. 10, 2001).

    ---------------------------------------------------------------------------

    VI. Orders

    a. Order Relating to the ICE Henry Financial Basis Contract

    After considering the complete record in this matter, including the

    comment letters received in response to its request for comments, the

    Commission has determined to issue the following:

    The Commission, pursuant to its authority under section 2(h)(7) of

    the Act, hereby determines that the Henry Financial Basis contract,

    traded on the IntercontinentalExchange, Inc., does not at this time

    satisfy the material price reference and price linkage criteria for

    significant price discovery contracts. Moreover, under Commission

    Guidance material liquidity alone cannot support a significant price

    discovery finding for the Henry Financial Basis contract. Consistent

    with this determination, the IntercontinentalExchange, Inc., is not

    considered a registered entity \47\ with respect to the Henry Financial

    Basis contract and is not subject to the provisions of the Commodity

    Exchange Act applicable to registered entities. Further, the

    obligations, requirements and timetables prescribed in Commission rule

    36.3(c)(4) governing core principle compliance by the

    IntercontinentalExchange, Inc., are not applicable to the Henry

    Financial Basis contract with the issuance of this Order.

    ---------------------------------------------------------------------------

    \47\ 7 U.S.C. 1a(29).

    ---------------------------------------------------------------------------

    This Order is based on the representations made to the Commission

    by the IntercontinentalExchange, Inc., dated July 27, 2009, and

    November 13, 2009, and other supporting material. Any material change

    or omissions in the facts and circumstances pursuant to which this

    order is granted might require the Commission to reconsider its current

    determination that the Henry Financial Basis contract is not a

    significant price discovery contract. Additionally, to the extent that

    it continues to rely upon the exemption in Section 2(h)(3) of the Act,

    the IntercontinentalExchange, Inc., must continue to comply with all of

    the applicable requirements of Section 2(h)(3) and Commission

    Regulation 36.3.

    b. Order Relating to the ICE Henry Financial Index Contract

    After considering the complete record in this matter, including the

    comment letters received in response to its request for comments, the

    Commission has determined to issue the following:

    The Commission, pursuant to its authority under section 2(h)(7) of

    the Act, hereby determines that the Henry Financial Index contract,

    traded on the IntercontinentalExchange, Inc., does not at this time

    satisfy the material price reference criterion for significant price

    discovery contracts. Moreover, under Commission Guidance material

    liquidity alone cannot support a significant price discovery finding

    for the Henry Financial Index contract. Consistent with this

    determination, the IntercontinentalExchange, Inc., is not considered a

    registered entity \48\ with respect to the Henry Financial Index

    contract and is not subject to the provisions of the Commodity Exchange

    Act applicable to registered entities. Further, the obligations,

    requirements and timetables prescribed in Commission rule 36.3(c)(4)

    governing core principle compliance by the IntercontinentalExchange,

    Inc., are not applicable to the Henry Financial Index contract with the

    issuance of this Order.

    ---------------------------------------------------------------------------

    \48\ 7 U.S.C. 1a(29).

    ---------------------------------------------------------------------------

    This Order is based on the representations made to the Commission

    by the IntercontinentalExchange, Inc., dated July 27, 2009, and

    November 13, 2009, and other supporting material. Any material change

    or omissions in the facts and circumstances pursuant to which this

    order is granted might require the Commission to reconsider its current

    determination that the Henry Financial Index contract is not a

    significant price discovery contract. Additionally, to the extent that

    it continues to rely upon the exemption in Section 2(h)(3) of the Act,

    the IntercontinentalExchange, Inc., must continue to comply with all of

    the applicable requirements of Section 2(h)(3) and Commission

    Regulation 36.3.

    c. Order Relating to the ICE Henry Financial Swing Contract

    After considering the complete record in this matter, including the

    comment letters received in response to its request for comments, the

    Commission has determined to issue the following:

    The Commission, pursuant to its authority under section 2(h)(7) of

    the Act, hereby determines that the Henry Financial Swing contract,

    traded on the IntercontinentalExchange, Inc., does not at this time

    satisfy the material price reference and arbitrage criteria for

    significant price discovery contracts. Moreover, under Commission

    Guidance material liquidity alone cannot support a significant price

    discovery finding for the Henry Financial Swing contract. Consistent

    with this determination, the IntercontinentalExchange, Inc., is not

    considered a registered entity \49\ with respect to the Henry Financial

    Swing contract and is not subject to the provisions of the Commodity

    Exchange Act applicable to registered entities. Further, the

    obligations, requirements and timetables prescribed in Commission rule

    36.3(c)(4) governing core principle compliance by the

    IntercontinentalExchange, Inc., are not applicable to the Henry

    Financial Swing contract with the issuance of this Order.

    ---------------------------------------------------------------------------

    \49\ 7 U.S.C. 1a(29).

    ---------------------------------------------------------------------------

    This Order is based on the representations made to the Commission

    by the IntercontinentalExchange, Inc., dated July 27, 2009, and

    November 13, 2009, and other supporting material. Any material change

    or omissions in the facts and circumstances pursuant to which this

    order is granted might require the Commission to reconsider its current

    determination that the Henry Financial Swing contract is not a

    significant price discovery contract. Additionally, to the extent that

    it continues to rely upon the exemption in Section 2(h)(3) of the Act,

    the IntercontinentalExchange, Inc., must continue to comply with all of

    the applicable requirements of Section 2(h)(3) and Commission

    Regulation 36.3.

    Issued in Washington, DC on April 28, 2010, by the Commission.

    David A. Stawick,

    Secretary of the Commission.

    [FR Doc. 2010-10313 Filed 5-3-10; 8:45 am]

    BILLING CODE P

    Last Updated: May 4, 2010



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