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2010-16212

  • FR Doc 2010-16212[Federal Register: July 2, 2010 (Volume 75, Number 127)]

    [Notices]

    [Page 38469-38478]

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

    [DOCID:fr02jy10-42]

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    COMMODITY FUTURES TRADING COMMISSION

    Orders Finding That the Mid-C Financial Peak Contract and Mid-C

    Financial Off-Peak Contract, Offered for Trading on the

    IntercontinentalExchange, Inc., Perform a Significant Price Discovery

    Function

    AGENCY: Commodity Futures Trading Commission.

    ACTION: Final orders.

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    SUMMARY: On October 6, 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 Mid-C \2\ Financial Peak (``MDC'') contract and Mid-C

    Financial Off-Peak (``OMC'') contract,\3\ which are listed for trading

    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

    MDC and OMC contracts 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 51261 (October 6, 2009).

    \2\ The acronym ``Mid-C'' stands for Mid-Columbia.

    \3\ The Federal Register notice also requested comment on the

    Mid-C Financial Peak Daily (``MPD'') contract and Mid-C Financial

    Off-Peak Daily (``MXO'') contract. Those contracts will be reviewed

    in a separate Federal Register release.

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    DATES: Effective date: June 25, 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'') \4\

    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.\5\ 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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    \4\ Incorporated as Title XIII of the Food, Conservation and

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

    \5\ 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.\6\ 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 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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    \6\ 74 FR 12178 (Mar. 23, 2009); these rules became effective on

    April 22, 2009.

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    [[Page 38470]]

    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.\7\ The issuance of such an order also triggers the

    obligations, requirements and timetables prescribed in Commission rule

    36.3(c)(4).\8\

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    \7\ Pub. L. 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).

    \8\ 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 6, 2009, the Commission published in the Federal

    Register notice of its intent to undertake a determination whether the

    MDC and OMC contracts \9\ perform a significant price discovery

    function and requested comment from interested parties.\10\ Comments

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

    Financial Institutions Energy Group (``FIEG''), Working Group of

    Commercial Energy Firms (``WGCEF''), Edison Electric Institute

    (``EEI''), ICE, Western Power Trading Forum (``WPTF'') and Public

    Utility Commission of Texas (``PUCT'').\11\ The comment letters from

    FERC \12\ and PUCT did not directly address the issue of whether or not

    the subject contracts are SPDCs. The remaining comment letters raised

    substantive issues with respect to the applicability of section 2(h)(7)

    to the MDC and OMC contracts and generally expressed the opinion that

    the contracts are not SPDCs because they do not meet the material price

    reference or material liquidity criteria for SPDC determination. These

    comments are more extensively discussed below, as applicable.

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    \9\ As noted above, the Federal Register notice also requested

    comment on the Mid-C Financial Peak Daily (``MPD'') contract and

    Mid-C Financial Off-Peak Daily (``MXO'') contract. The MPD and MXO

    contracts will be addressed in a separate Federal Register release.

    \10\ 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.

    \11\ FERC is an independent federal regulatory agency that,

    among other things, regulates the interstate transmission of natural

    gas, oil and electricity. FIEG describes itself as an association of

    investment and commercial banks who are active participants in

    various sectors of the natural gas markets, ``including acting as

    marketers, lenders, underwriters of debt and equity securities, and

    proprietary investors.'' WGCEF describes itself as ``a diverse group

    of commercial firms in the domestic energy industry whose primary

    business activity is the physical delivery of one or more energy

    commodities to customers, including industrial, commercial and

    residential consumers'' and whose membership consists of ``energy

    producers, marketers and utilities.'' EEI is the ``association of

    shareholder-owned electric companies, international affiliates and

    industry associates worldwide.'' ICE is an ECM, as noted above. WPTF

    describes itself as a ``broad-based membership organization

    dedicated to encouraging competition in the Western power markets *

    * * WTPF strives to reduce the long-run cost of electricity to

    consumers throughout the region while maintaining the current high

    level of system reliability.'' PUCT is the independent organization

    that oversees the Electric Reliability Council of Texas (``ERCOT'')

    to ``ensure nondiscriminatory access to the transmission and

    distribution systems, to ensure the reliability and adequacy of the

    regional electrical network, and to perform other essential market

    functions.'' The comment letters are available on the Commission's

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

    federalregistercomments/2009/09-011.html

    \12\ FERC expressed the opinion that a determination by the

    Commission that either of the subject contracts performs a

    significant price discovery function ``would not appear to conflict

    with FERC's exclusive jurisdiction under the Federal Power Act (FPA)

    over the transmission or sale for resale of electric energy in

    interstate commerce or with its other regulatory responsibilities

    under the FPA'' and further that ``FERC staff will monitor proposed

    SPDC determinations and advise the CFTC of any potential conflicts

    with FERC's exclusive jurisdiction over RTOs, [(regional

    transmission organizations)], ISOs [(independent system operators)]

    or other jurisdictional entities.''

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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.\13\ 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 38471]]

    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.\14\ 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 the extent to which, on a frequent and

    recurring basis, bids, offers or transactions are directly based on, or

    are determined by referencing, the prices established for the contract.

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    \13\ In its October 6, 2009, Federal Register release, the

    Commission identified material price reference and material

    liquidity as the possible criteria for SPDC determination of the MDC

    and OMC contracts. Arbitrage and price linkage were not identified

    as possible criteria. As a result, arbitrage and price linkage will

    not be discussed further in this document and the associated Orders.

    \14\ 17 CFR Part 36, Appendix A.

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    IV. Findings and Conclusions

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

    and OMC contracts are discussed separately below:

    a. The Mid-C Financial Peak (MDC) Contract and the SPDC Indicia

    The MDC contract is cash settled based on the arithmetic average of

    the peak, day-ahead power price indicies that are reported each day in

    the specified contract month. The daily price indicies are published by

    ICE in its ``ICE Day Ahead Power Price Report,'' which is available on

    the ECM's website. The peak-hour electricity price index on a

    particular day is calculated as the volume-weighted average of

    qualifying, day-ahead, peak-hour power transactions at the Mid-Columbia

    hub that are traded on the ICE platform from 6 a.m. to 11 a.m. CST on

    the publication date. The ICE transactions on which the daily price

    index is based specify the physical delivery of power. The size of the

    MDC contract is 400 megawatt hours (``MWh''), and the MDC contract is

    listed for 86 months.

    As the Columbia River flows through Washington State, it encounters

    two federal and nine privately-owned hydroelectric dams that generate

    close to 20,000 MW of power in the Northwest.\15\ With another three

    dams in British Columbia, Canada, and many more on its various

    tributaries, the Columbia River is the largest power-producing river in

    North America. A major goal of the participants in the Mid-C

    electricity market is to maximize the Columbia River's potential, along

    with protecting and enhancing the non-power uses of the river. The

    reliability of the electricity grid in the Northwest is coordinated by

    the Northwest PowerPool (``NWPP''), which is a voluntary organization

    comprised of major generating utilities serving the Northwestern United

    States as well as British Columbia and Alberta, Canada.

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    \15\ http://www.wpuda.org/publications/connections/hydro/

    River%20Riders.pdf.

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    One stretch of the Columbia River between the Grand Coulee Dam and

    Priests Rapids Dam is governed by the Mid-Columbia Hourly Coordination

    Agreement (``MCHCA''). The MCHCA includes seven dams \16\ and nearly

    13,000 MW of generation. Specifically, the agreement defines how the

    Chelan, Douglas and Grant PUDs coordinate their operations with the

    Bonneville Power Administration so as to maximize power generation

    while reducing fluctuations in the river's flow. A number of other

    utilities that buy power from the PUDs have also signed onto the

    agreement. The MCHCA was signed into effect in 1972 and renewed in 1997

    for another 20 years.\17\

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    \16\ The federal dams are Grand Coulee and Chief Joseph. The

    remaining dams are Wells (operated by the Douglas PUD), Rocky Reach

    and Rock Island (operated by the Chelan PUD), and Wanapum and Priest

    Rapids (operated by the Grant PUD). The term ``PUD'' stands for a

    publically-owned utility which provides essential services within a

    specified area.

    \17\ http://www.wpuda.org/publications/connections/hydro/

    River%20Riders.pdf.

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    In general, electricity is bought and sold in an auction setting on

    an hourly basis at various point along the electrical grid. The price

    of electricity at a particular point on the grid is called the

    locational marginal price (``LMP''), which includes the cost of

    producing the electricity, as well as congestion and line losses. Thus,

    an LMP reflects generation costs as well as the actual cost of

    supplying and delivering electricity to a specific point along the

    grid.

    Electricity is traded in a day-ahead market as well as in a real-

    time market. Typically, the bulk of the energy transactions occur in

    the day-ahead market. The day-ahead market establishes prices for

    electricity that is to be delivered during the specified hour on the

    following day. Day-ahead prices are determined based on generation and

    energy transaction quotes offered in advance. Because the quotes are

    based on supply and demand estimates, electricity needs usually are not

    perfectly satisfied in the day-ahead market. On the day the electricity

    is transmitted and used, auction participants typically realize that

    they bought or sold either too much or too little power. A real-time

    auction is operated in the Mid-C market to alleviate this problem by

    servicing as a balancing mechanism. In this regard, electricity traders

    use the real-time market to sell excess electricity and buy additional

    power to meet demand. Only a relatively small amount of electricity is

    traded in the real-time market compared with the day-ahead market.

    1. Material Price Reference Criterion

    The Commission's October 6, 2009, Federal Register notice

    identified material price reference and material liquidity as the

    potential basis for a SPDC determination with respect to the MDC

    contract. The Commission considered the fact 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 ``West Power

    of Day'' package 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. This package includes price data for the MDC contract.

    The Commission also noted that its October 2007 Report on the

    Oversight of Trading on Regulated Futures Exchanges and Exempt

    Commercial Markets (``ECM Study'') found that in general, market

    participants view ICE as a price discovery market for certain

    electricity contracts. The study did not specify which markets

    performed this function; nevertheless, the Commission determined that

    the MDC contract, while not mentioned by name in the ECM Study, might

    warrant further review.

    The Commission explains in its Guidance to the Part 36 rules that

    in evaluating a contract under the material price reference criterion,

    it will rely on one of two sources of evidence--direct or indirect--to

    determine that the price of a contract was being used as a material

    price reference and therefore, serving a significant price discovery

    function.\18\ With respect to direct evidence, the Commission will

    consider the extent to which, on a frequent and recurring basis, cash

    market bids, offers or transactions are directly based on or quoted at

    a differential to, the prices

    [[Page 38472]]

    generated on the ECM in question. Direct evidence may be established

    when 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 in

    question. Cash market prices are set explicitly at a differential to

    the section 2(h)(3) contract when, for instance, they are quoted in

    dollars and cents above or below the reference contract's price. Cash

    market prices are set implicitly at a differential to a section 2(h)(3)

    contract when, for instance, they are arrived at after adding to, or

    subtracting from the section 2(h)(3) contract, but then quoted or

    reported at a flat price. With respect to indirect evidence, the

    Commission will consider the extent to which the price of the contract

    in question is being routinely disseminated in widely distributed

    industry publications--or offered by the ECM itself for some form of

    remuneration--and consulted on a frequent and recurring basis by

    industry participants in pricing cash market transactions.

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    \18\ 17 CFR Part 36, Appendix A.

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    The Mid-C power market is a major pricing center for electricity on

    the West Coast. Traders, including producers, keep abreast of the

    electricity prices in the Mid-C power market when conducting cash

    deals. These traders look to a competitively determined price as an

    indication of expected values of power at the Mid-C hub when entering

    into cash market transaction for electricity, especially those trades

    providing for physical delivery in the future. Traders use the ICE MDC

    contract, as well as other ICE power contracts, to hedge cash market

    positions and transactions--activities which enhance the MDC contract's

    price discovery utility. The substantial volume of trading and open

    interest in the MDC contract appears to attest to its use for this

    purpose. While the MDC contract's settlement prices may not be the only

    factor influencing spot and forward transactions, electricity traders

    consider the ICE price to be a critical factor in conducting OTC

    transactions.\19\ Accordingly, the MDC contract satisfies the direct

    price reference test.

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    \19\ In addition to referencing ICE prices, firms participating

    in the Mid-C power market may rely on other cash market quotes as

    well as industry publications and price indices that are published

    by third-party price reporting firms in entering into power

    transactions.

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    The direct price reference finding also is supported by the

    uniqueness of the ICE electricity prices for the Mid-C market. Day-

    ahead and real-time electricity prices are reported by a number of

    sources, including third-party price providers (e.g., Dow Jones &

    Company). ICE's Mid-C price indices are unique in that they are derived

    from transactions completed on ICE's electronic system. Moreover, ICE

    is the only entity that has access to such transaction data. Thus, it

    is not possible for any other firm to replicate ICE's indices.\20\

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    \20\ In contrast, third-party price reporting firms typically

    compute their power index prices from transaction information that

    is voluntarily submitted by traders. It is possible that one trader

    could submit the same transaction data to multiple price reporting

    firms, whereby increasing the likelihood that price indices from

    different firms are similar in value. However, it is more plausible

    that the third-party price reporters' price indices would be similar

    but not exactly the same because different traders are polled.

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    The fact that ICE's MDC monthly contract is used more widely as a

    source of pricing information rather than the daily contract (i.e., the

    MPD contract)\21\ bolsters the finding of direct price reference. In

    this regard, the MDC contract prices power at the Mid-C up to 86

    calendar months in the future. Thus, market participants can use the

    MDC contract to lock-in electricity prices far into the future. Traders

    use monthly power contracts like the MDC contract to price future power

    electricity commitments, where such commitments are based on long range

    forecasts of power supply and demand. In contrast, the MPD contract is

    listed for a much shorter length of time--up to 38 days in the future.

    As generation and usage nears, market participants have a better

    understanding of actual power supply and needs. As a result, they can

    modify previously-established hedges with daily contracts, like the MPD

    contract.

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    \21\ The MPD contract is cash settled based on the peak, day-

    ahead price index for the specified day, as published by ICE in its

    ``ICE Day Ahead Power Price Report,'' which is available on the

    ECM's website. The daily peak-hour electricity price index is a

    volume-weighted average of qualifying, day-ahead, peak-hour power

    contracts at the Mid-Columbia hub that are traded on the ICE

    platform from 6 a.m. to 11 a.m. CST on the publication date.

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    The Commission notes that the Mid-C is a major trading point for

    electricity, and the MDC contract's prices are well regarded in the

    industry as indicative of the value of power at the Mid-C hub.

    Accordingly, Commission staff believes that it is reasonable to

    conclude that market participants purchase the data packages that

    include the MDC contract's prices in substantial part because the MDC

    contract prices have particular value to them. Moreover, such prices

    are consulted on a frequent and recurring basis by industry

    participants in pricing cash market transactions. In light of the

    above, the MDC contract meets the indirect price reference test.

    i. Federal Register Comments

    WGCEF, WPTF, EEI and ICE stated that no other contract directly

    references or settles to the MDC contract's price. Moreover, the

    commenters argued that the underlying cash price series against which

    the MDC contract is settled (in this case, the average of peak-hour

    Mid-C electricity prices over the contract month, which are derived

    from physical transactions) is the authentic reference price and not

    the ICE contract itself. Commission staff believes that this

    interpretation of price reference is too narrow and believes that a

    cash-settled derivatives contract could meet the price reference

    criterion if market participants ``consult on a frequent and recurring

    basis'' the derivatives contract when pricing forward, fixed-price

    commitments or other cash-settled derivatives that seek to ``lock in''

    a fixed price for some future point in time to hedge against adverse

    price movements.

    As noted above, the Mid-C hub is a major trading center for

    electricity in the western United States. Traders, including producers,

    keep abreast of the prices of the MDC contract when conducting cash

    deals. These traders look to a competitively determined price as an

    indication of expected values of electricity at the Mid-C hub when

    entering into cash market transaction for power, especially those

    trades that provide for physical delivery in the future. Traders use

    the ICE MDC contract to hedge cash market positions and transactions,

    which enhances the MDC contract's price discovery utility. While the

    MDC contract's settlement prices may not be the only factor influencing

    spot and forward transactions, natural gas traders consider the ICE

    price to be a crucial factor in conducting OTC transactions.

    In addition, WGCEF stated that the publication of price data for

    the MDC contract price is weak justification for material price

    reference. This commenter argued that market participants generally do

    not purchase ICE data sets for one contract's prices, such as those for

    the MDC contract. Instead, traders are interested in the settlement

    prices, so the fact that ICE sells the MDC prices as part of a broad

    package is not conclusive evidence that market participants are buying

    the ICE data sets because they find the MDC prices have substantial

    value to them. As noted above, the Commission notes that publication of

    the MDC contract's prices is indirect evidence of routine

    dissemination. The MDC contract's prices, while sold as a package, are

    of particular interest to market participants. Thus, the Commission has

    [[Page 38473]]

    concluded that traders likely purchase the ICE data packages

    specifically for the MDC contract's prices and consult such prices on a

    frequent and recurring basis in pricing cash market transactions.

    Lastly, EEI observed that the ECM Study did not specifically

    identify the MDC contract as a contract that is referred to by market

    participants on a frequent and recurring basis. The Commission cited

    the ECM Study's general finding that some ICE electricity contracts

    appear to be regarded as price discovery markets merely as indication

    that an investigation of certain ICE contracts may be warranted. The

    ECM Study was not intended to serve, and did not 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

    Based on the above, the Commission finds that the ICE MDC contract

    meets the material price reference criterion because cash market

    transactions are priced either explicitly or implicitly on a frequent

    and recurring basis at a differential to the MDC contract's price

    (direct evidence). Moreover, the MDC contract's price data are sold to

    market participants, and those individuals likely purchase the ICE data

    packages specifically for the MDC contract's prices and consult such

    prices on a frequent and recurring basis in pricing cash market

    transactions (indirect evidence).

    2. Material Liquidity Criterion

    As noted above, in its October 6, 2009, Federal Register notice,

    the Commission identified material price reference and material

    liquidity as potential criteria for SPDC determination of the MDC

    contract. To assess whether a contract meets the material liquidity

    criterion, the Commission first examines trading activity as a general

    measurement of the contract's size and potential importance. If the

    Commission finds that the contract in question meets a threshold of

    trading activity that would render it of potential importance, the

    Commission will then perform a statistical analysis to measure the

    effect that changes to the subject-contract's prices potentially may

    have on prices for other contracts listed on an ECM or a DCM.\22\

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    \22\ As noted above, the material liquidity criterion speaks to

    the effect that transactions in the potential SPDC may have on

    trading in ``agreements, contracts and transactions listed for

    trading on or subject to the rules of a designated contract market,

    a derivatives transaction execution facility, or an electronic

    trading facility operating in reliance on the exemption in section

    2(h)(3) of the Act.''

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

    The total number of transactions executed on ICE's electronic

    platform in the MDC contract was 2,022 in the second quarter of 2009,

    resulting in a daily average of 31.6 trades. During the same period,

    the MDC contract had a total trading volume of 67,400 contracts and an

    average daily trading volume of 1,053.1 contracts. Moreover, open

    interest as of June 30, 2009, was 169,851 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.\23\

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

    \23\ 74 FR 51261 (October 6, 2009).

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

    In a subsequent filing dated March 24, 2010, ICE reported that

    total trading volume in the fourth quarter of 2009 was 142,700

    contracts (or 2,195 contracts on a daily basis). In terms of number of

    transactions, 2,975 trades occurred in the fourth quarter of 2009 (46

    trades per day). As of December 31, 2009, open interest in the MDC

    contract was 221,608 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.

    Trading activity in the MDC contract, as characterized by total

    quarterly volume, indicates that the MDC contract experiences trading

    activity that is significantly greater than that of minor futures

    markets.\24\ Thus, it is reasonable to infer that the MDC contract

    could have a material effect on other ECM contracts or on DCM

    contracts.

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

    \24\ Staff has advised the Commission that in its experience, a

    thinly-traded contract is generally one that has a quarterly trading

    volume of 100,000 contracts or less. In this regard, in the third

    quarter of 2009, physical commodity futures contracts with trading

    volume of 100,000 contracts or fewer constituted less than one

    percent of total trading volume of all physical commodity futures

    contracts.

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

    To measure the potential effect of the MDC contract on another ECM

    contract staff performed a statistical analysis \25\ using daily

    settlement prices between July 1, 2008, and December 31, 2009, for the

    ICE MDC and OMC contracts. The simulation suggests that, on average

    over the sample period, a one percent rise in the MDC contract's price

    elicited a 1.09 percent increase in ICE OMC contract's price.

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

    \25\ Specifically, Commission staff econometrically estimated a

    cointegrated vector autoregression (CVAR) model using daily

    settlement prices. CVAR methods permit a dichotomization of the data

    relationships into long-run equilibrium components (called the

    cointegration space or cointegrating relationships) and a short-run

    component. A CVAR model was chosen over the more traditional vector

    autoregression model in levels because the statistical properties of

    the data (lack of stationarity and ergodicity) precluded the more

    traditional modeling treatment. Moreover, the statistical properties

    of the data necessitated the modeling of the contracts' prices as a

    CVAR model containing both first differences (to handle

    stationarity) and an error-correction term to capture long run

    equilibrium relationships. The prices were treated as a single

    reduced-form model in order to test hypothesis that power prices in

    the same market affect each other. The prices of ICE's MDC and OMC

    contracts are positively related to each other in a cointegrating

    relationship and display a high level of statistical strength. On

    average during the sample period, each percentage rise in MDC

    contract's price elicited a 1.09 percent rise in OMC contract's

    price.

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

    i. Federal Register Comments

    ICE and WGCEF stated that the MDC contract lacks a sufficient

    number of trades to meet the material liquidity criterion. These two

    commenters, along with WPTF, FEIG and EEI argued that the MDC contract

    cannot have a material effect on other contracts, such as those listed

    for trading by the New York Mercantile Exchange (``NYMEX''), a DCM. The

    commenters pointed out that it is not possible for the MDC contract to

    affect a DCM contract because price linkage and the potential for

    arbitrage do not exist. The DCM contracts do not cash settle based on

    the MDC contract's price. Instead, the DCM contracts and the MDC

    contract are both cash settled based on physical transactions, which

    the ECM and DCM contracts cannot influence. The Commission's

    statistical analysis shows that changes in the ICE MDC contract's price

    significantly influences the prices of other ECM contracts (namely, the

    OMC contract).

    WGCEF and ICE noted that the Commission's Guidance had posited

    concepts of liquidity that generally assumed a fairly constant stream

    of prices throughout the trading day, and noted that the relatively low

    number of trades per day in the MDC contract did not meet this standard

    of liquidity. The Commission observes that a continuous stream of

    prices would indeed be an indication of liquidity for certain markets

    but the Guidance also notes that ``quantifying the levels of immediacy

    and price concession that would define material liquidity may differ

    from one market or commodity to another.'' \26\

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

    \26\ Guidance, supra.

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

    ICE opined that the Commission ``seems to have adopted a five trade

    per day test for material liquidity.'' To the contrary, the Commission

    adopted a five trades-per-day threshold as a reporting

    [[Page 38474]]

    requirement to enable it to ``independently be aware of ECM contracts

    that may develop into SPDCs'' \27\ rather than solely relying upon an

    ECM to identify potential SPDCs to the Commission. Thus, any contract

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

    SPDC; however, the contract will not be found to be a SPDC merely

    because it met the reporting threshold.

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

    \27\ 73 FR 75892 (December 12, 2008).

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

    ICE asserted that the statistics provided by ICE were

    misinterpreted and misapplied by the Commission. In particular, ICE

    stated that the volume figures used in the Commission's analysis (cited

    above) ``include trades made in all months'' as well as in strips of

    contract months. ICE suggested that a more appropriate method of

    determining liquidity is to examine the activity in a single traded

    month of a given contract.'' \28\ It is the Commission's opinion that

    liquidity, as it pertains to the MDC contract, is typically a function

    of trading activity in particular lead months and, given sufficient

    liquidity in such months, the ICE MDC contract itself would be

    considered liquid.

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

    \28\ In addition, ICE stated that the trades-per-day statistics

    that it provided to the Commission in its quarterly filing and which

    were cited in the Commission's October 6, 2009, Federal Register

    notice included 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; ICE confirmed that the volume

    data it provided and which the Commission cited includes only

    transaction data executed on ICE's electronic trading platform. As

    noted above, supplemental data supplied by ICE confirmed that block

    trades are in addition to the trades that were conducted on the

    electronic platform; block trades comprise about 54 percent of all

    transactions in the MDC contract. The Commission acknowledges that

    the open interest information it provided in its October 6, 2009,

    Federal Register notice 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.

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

    ii. Conclusion Regarding Material Liquidity

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

    meets the material liquidity criterion. Specifically, there is

    sufficient trading activity in the MDC contract to have a material

    effect on ``other agreements, contracts or transactions listed for

    trading on or subject to the rules of a designated contract market * *

    * or an electronic trading facility operating in reliance on the

    exemption in section 2(h)(3) of the Act.''

    3. Overall Conclusion Regarding the MDC Contract

    After considering the entire record in this matter, including the

    comments received, the Commission has determined that the MDC contract

    performs a significant price discovery function under two of the four

    criteria established in section 2(h)(7) of the CEA. The Commission has

    concluded that the MDC contract meets both the material price reference

    and material liquidity criteria. Accordingly, the Commission is issuing

    the attached Order declaring that the MDC contract is a SPDC.

    Issuance of this Order signals the immediate effectiveness of the

    Commission's authorities with respect to ICE as a registered entity in

    connection with its MDC contract,\29\ and triggers the obligations,

    requirements--both procedural and substantive--and timetables

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

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

    \29\ See 73 FR 75888, 75893 (Dec. 12, 2008).

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

    b. The Mid-C Financial Off-Peak (OMC) Contract and the SPDC Indicia

    The OMC contract is cash settled based on the arithmetic average of

    the off-peak, day-ahead power price indices that are reported each day

    in the specified contract month. The daily price indices are published

    by ICE in its ``ICE Day Ahead Power Price Report,'' which is available

    on the ECM's website. The off-peak hour electricity price index on a

    particular day is calculated as the volume-weighted average of

    qualifying, day-ahead, off-peak hour power transactions at the Mid-

    Columbia hub that are traded on the ICE platform from 6 a.m. to 11 a.m.

    CST on the publication date. The ICE transactions on which the price

    index is based specify the physical delivery of power. The size of the

    OMC contract is 25 MWh, and the OMC contract is listed for 86 months.

    As the Columbia River flows through Washington State, it encounters

    two federal and nine privately-owned hydroelectric dams that generate

    close to 20,000 MW of power in the Northwest.\30\ With another three

    dams in British Columbia, Canada, and many more on its various

    tributaries, the Columbia River is the largest power-producing river in

    North America. A major goal of the participants in the Mid-C

    electricity market is to maximize the Columbia River's potential, along

    with protecting and enhancing the non-power uses of the river. The

    reliability of the electricity grid in the Northwest is coordinated by

    the NWPP.

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

    \30\ http://www.wpuda.org/publications/connections/hydro/

    River%20Riders.pdf.

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

    One stretch of the Columbia River between the Grand Coulee Dam and

    Priests Rapids Dam is governed by the MCHCA. The MCHCA includes seven

    dams \31\ and nearly 13,000 MW of generation. Specifically, the

    agreement defines how the Chelan, Douglas and Grant PUDs coordinate

    their operations with the Bonneville Power Administration to maximize

    power generation while reducing fluctuations in the river's flow. A

    number of other utilities that buy power from the PUDs have also signed

    onto the agreement. The MCHCA agreement was signed into effect in 1972

    and renewed in 1997 for 20 years.\32\

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

    \31\ The federal dams are Grand Coulee and Chief Joseph. The

    remaining dams are Wells (operated by the Douglas PUD), Rocky Reach

    and Rock Island (operated by the Chelan PUD), and Wanapum and Priest

    Rapids (operated by the Grant PUD).

    \32\ http://www.wpuda.org/publications/connections/hydro/

    River%20Riders.pdf.

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

    In general, electricity is bought and sold in an auction setting on

    an hourly basis at various point along the electrical grid. The price

    of electricity at a particular point on the grid is called the LMP,

    which includes the cost of producing the electricity, as well as

    congestion and line losses. Thus, an LMP reflects generation costs as

    well as the actual cost of supplying and delivering electricity to a

    specific point along the grid.

    Electricity is traded in a day-ahead market as well as a real-time

    market. Typically, the bulk of the energy transactions occur in the

    day-ahead market. The day-ahead market establishes prices for

    electricity that is to be delivered during the specified hour on the

    following day. Day-ahead prices are determined based on generation and

    energy transaction quotes offered in advance. Because the quotes are

    based on estimates of supply and demand, electricity needs usually are

    not perfectly satisfied in the day-ahead market. On the day the

    electricity is transmitted and used, auction participants usually

    realize that they bought or sold either too much power or too little

    power. A real-time auction is operated in the Mid-C market to alleviate

    this problem by servicing as a balancing mechanism. In this regard,

    electricity traders use the real-time market to sell excess electricity

    and buy additional power to meet demand. Only a relatively small amount

    of electricity is traded in the real-time market compared with the day-

    ahead market.

    [[Page 38475]]

    1. Material Price Reference Criterion

    The Commission's October 6, 2009, Federal Register notice

    identified material price reference and material liquidity as the

    potential basis for a SPDC determination with respect to the OMC

    contract. The Commission considered the fact 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 ``West Power

    of Day'' package 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. This package includes price data for the OMC contract.

    The Commission also noted that its October 2007 ECM Study found

    that in general, market participants view ICE as a price discovery

    market for certain electricity contracts. The study did not specify

    which markets performed this function; nevertheless, the Commission

    determined that the OMC contract, while not mentioned by name in the

    ECM Study, might warrant further review.

    The Commission explains in its Guidance to the Part 36 rules that

    in evaluating a contract under the material price reference criterion,

    it will rely on one of two sources of evidence--direct or indirect--to

    determine that the price of a contract was being used as a material

    price reference and therefore, serving a significant price discovery

    function.\33\ With respect to direct evidence, the Commission will

    consider the extent to which, on a frequent and recurring basis, cash

    market bids, offers or transactions are directly based on or quoted at

    a differential to, the prices generated on the ECM in question. Direct

    evidence may be established when 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 in question. Cash market prices are set

    explicitly at a differential to the section 2(h)(3) contract when, for

    instance, they are quoted in dollars and cents above or below the

    reference contract's price. Cash market prices are set implicitly at a

    differential to a section 2(h)(3) contract when, for instance, they are

    arrived at after adding to, or subtracting from the section 2(h)(3)

    contract, but then quoted or reported at a flat price. With respect to

    indirect evidence, the Commission will consider the extent to which the

    price of the contract in question is being routinely disseminated in

    widely distributed industry publications--or offered by the ECM itself

    for some form of remuneration--and consulted on a frequent and

    recurring basis by industry participants in pricing cash market

    transactions.

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

    \33\ 17 CFR Part 36, Appendix A.

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

    The Mid-C power market is a major pricing center for electricity on

    the West Coast. Traders, including producers, keep abreast of the

    electricity prices in the Mid-C power market when conducting cash

    deals. These traders look to a competitively determined price as an

    indication of expected values of power at the Mid-C hub when entering

    into cash market transaction for electricity, especially those trades

    providing for physical delivery in the future. Traders use the ICE OMC

    contract, as well as other ICE power contracts, to hedge cash market

    positions and transactions--activities which enhance the OMC contract's

    price discovery utility. The substantial volume of trading and open

    interest in the OMC contract appears to attest to its use for this

    purpose. While the OMC contract's settlement prices may not be the only

    factor influencing spot and forward transactions, power traders

    consider the ICE price to be a critical factor in conducting OTC

    transactions.\34\ As a result, the OMC contract satisfies the direct

    price reference test.

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

    \34\ In addition to referencing ICE prices, firms participating

    in the Mid-C power market may rely on other cash market quotes as

    well as industry publications and price indices that are published

    by third-party price reporting firms in entering into power

    transactions.

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

    Another reason that bolsters the direct price reference claim is

    related to the uniqueness of the ICE electricity prices for the Mid-C

    market. Day-ahead and real-time electricity prices are reported by a

    number of sources, including third-party price providers (e.g., Dow

    Jones & Company). ICE's Mid-C price indices are unique in that they are

    derived from transactions completed on ICE's electronic system.

    Moreover, ICE is the only entity that has access to such transaction

    data. Thus, it is not possible for any other firm to replicate ICE's

    indices.\35\

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

    \35\ In contrast, third-party price reporting firms typically

    compute their power index prices from transaction information that

    is voluntarily submitted by traders. It is possible that one trader

    could submit the same transaction data to multiple price reporting

    firms, whereby increasing the likelihood that price indices from

    different firms are similar in value. However, it is more plausible

    that the third-party price reporters' price indices would be similar

    but not exactly the same because different traders are polled.

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

    The fact that ICE's OMC contract is used more widely as a source of

    pricing information rather than the daily contract (i.e., the MXO

    contract) \36\ reinforces the argument for direct price reference. In

    this regard, the OMC contract is a monthly contact that prices power at

    the Mid-C up to 86 calendar months in the future. Thus, market

    participants can use the OMC contract to lock-in electricity prices far

    into the future. In contrast, the MXO contract is listed for a much

    shorter length of time--up to 70 days in the future. Traders use

    monthly power contracts like the OMC contract to price future power

    electricity commitments, where such commitments are based on long range

    forecasts of power supply and demand. As generation and usage nears,

    market participants have a better understanding of generation capacity

    actual power needs. As a result, they can modify previously-established

    hedges with daily contracts, like the MXO contract.

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

    \36\ The MXO contract is cash settled based on the off-peak,

    day-ahead price index for the specified day, as published by ICE in

    its ``ICE Day Ahead Power Price Report,'' which is available on the

    ECM's website. The daily, off-peak hour electricity price index is a

    volume-weighted average of qualifying, day-ahead, off-peak hour

    power contracts at the Mid-Columbia hub that are traded on the ICE

    platform from 6 a.m. to 11 a.m. CST on the publication date.

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

    The Commission notes that the Mid-C is a major trading point for

    electricity, and the OMC contract's prices are well regarded in the

    industry as indicative of the value of power at the Mid-C hub.

    Accordingly, Commission staff believes that it is reasonable to

    conclude that market participants purchase the data packages that

    include the OMC contract's prices in substantial part because the OMC

    contract prices have particular value to them. Moreover, such prices

    are consulted on a frequent and recurring basis by industry

    participants in pricing cash market transactions. In light of the

    above, the OMC contract meets the indirect price reference test.

    i. Federal Register Comments

    WGCEF, WPTF, EEI and ICE stated that no other contract directly

    references or settles to the OMC contract's price. Moreover, the

    commenters argued that the underlying cash price series against which

    the OMC contract is settled (in this case, the average of peak Mid-C

    electricity prices over the contract month, which are derived from cash

    market transactions) is the authentic reference price and not the ICE

    contract itself. Commission staff believes that this interpretation of

    price reference is too narrow and believes that a cash-settled

    derivatives contract could meet the price reference criterion if market

    participants ``consult on a frequent and

    [[Page 38476]]

    recurring basis'' the derivatives contract when pricing forward, fixed-

    price commitments or other cash-settled derivatives that seek to ``lock

    in'' a fixed price for some future point in time to hedge against

    adverse price movements.

    As noted above, the Mid-C hub is a major trading center for

    electricity in the western United States. Traders, including producers,

    keep abreast of the prices of the OMC contract when conducting cash

    deals. These traders look to a competitively determined price as an

    indication of expected values of electricity at the Mid-C hub when

    entering into cash market transaction for power, especially those

    trades that provide for physical delivery in the future. Traders use

    the ICE OMC contract to hedge cash market positions and transactions,

    which enhances the OMC contract's price discovery utility. While the

    OMC contract's settlement prices may not be the only factor influencing

    spot and forward transactions, power traders consider the ICE price to

    be a crucial factor in conducting OTC transactions.

    In addition, WGCEF stated that the publication of price data for

    the OMC contract price is weak justification for material price

    reference. This commenter argued that market participants generally do

    not purchase ICE data sets for one contract's prices, such as those for

    the OMC contract. Instead, traders are interested in the settlement

    prices, so the fact that ICE sells the OMC prices as part of a broad

    package is not conclusive evidence that market participants are buying

    the ICE data sets because they find the OMC prices have substantial

    value to them. As noted above, the Commission notes that publication of

    the OMC contract's prices is indirect evidence of routine

    dissemination. The OMC contract's prices, while sold as a package, are

    of particular interest to market participants. Thus, the Commission has

    concluded that traders likely specifically purchase the ICE data

    packages for the OMC contract's prices and consult such prices on a

    frequent and recurring basis in pricing cash market transactions.

    Lastly, EEI criticized that the ECM Study did not specifically

    identify the OMC contract as a contract that is referred to by market

    participants on a frequent and recurring basis. In response, the

    Commission notes that it cited the ECM Study's general finding that

    some ICE electricity contracts appear to be regarded as price discovery

    markets merely as 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

    Based on the above, the Commission finds that the ICE OMC contract

    meets the material price reference criterion because cash market

    transactions are priced either explicitly or implicitly on a frequent

    and recurring basis at a differential to the OMC contract's price

    (direct evidence). Moreover, the OMC contract's price data are sold to

    market participants, and those individuals likely purchase the ICE data

    packages specifically for the OMC contract's prices and consult such

    prices on a frequent and recurring basis in pricing cash market

    transactions (indirect evidence).

    2. Material Liquidity Criterion

    In its October 6, 2009, Federal Register notice, the Commission

    identified material price reference and material liquidity as potential

    criteria for SPDC determination of the OMC contract. To assess whether

    a contract meets the material liquidity criterion, the Commission first

    examines trading activity as a general measurement of the contract's

    size and potential importance. If the Commission finds that the

    contract in question meets a threshold of trading activity that would

    render it of potential importance, the Commission will then perform a

    statistical analysis to measure the effect that changes to the subject-

    contract's prices potentially may have on prices for other contracts

    listed on an ECM or a DCM.\37\

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

    \37\ As noted above, the material liquidity criterion speaks to

    the effect that transactions in the potential SPDC may have on

    trading in ``agreements, contracts and transactions listed for

    trading on or subject to the rules of a designated contract market,

    a derivatives transaction execution facility, or an electronic

    trading facility operating in reliance on the exemption in section

    2(h)(3) of the Act.''

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

    The total number of transactions executed on ICE's electronic

    platform in the OMC contract was 443 in the second quarter of 2009,

    resulting in a daily average of 6.9 trades. During the same period, the

    OMC contract had a total trading volume of 185,950 contracts and an

    average daily trading volume of 2,905.5 contracts. Moreover, open

    interest as of June 30, 2009, was 1,105,361 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\

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

    \38\ 74 FR 51261 (October 6, 2009).

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

    In a subsequent filing dated March 24, 2010, ICE reported that

    total trading volume in the fourth quarter of 2009 was 213,862

    contracts (or 3,290 contracts on a daily basis). In terms of number of

    transactions, 327 trades occurred in the fourth quarter of 2009 (5

    trades per day). As of December 31, 2009, open interest in the OMC

    contract was 1,249,165 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.

    The number of trades per day was relatively low between the second

    and fourth quarters of 2009. However, trading activity in the OMC

    contract, as characterized by total quarterly volume, indicates that

    the MDC contract experiences trading activity that is greater than that

    of minor futures markets.\39\ Thus, it is reasonable to infer that the

    OMC contract could have a material effect on other ECM contracts or on

    DCM contracts.

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

    \39\ Staff has advised the Commission that in its experience, a

    thinly-traded contract is, generally, one that has a quarterly

    trading volume of 100,000 contracts or less. In this regard, in the

    third quarter of 2009, physical commodity futures contracts with

    trading volume of 100,000 contracts or fewer constituted less than

    one percent of total trading volume of all physical commodity

    futures contracts.

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

    To measure the effect that the OMC contract potentially could have

    on another ECM contract, staff performed a statistical analysis \40\

    using daily settlement prices between July 1, 2008, and December 31,

    2009, for the ICE OMC and MDC contracts. The simulation suggests that,

    on average over the sample period, a one percent

    [[Page 38477]]

    rise in the OMC contract's price elicited a 0.915 percent increase in

    ICE MDC contract's price.

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

    \40\ Specifically, Commission staff econometrically estimated a

    cointegrated vector autoregression (CVAR) model using daily

    settlement prices. CVAR methods permit a dichotomization of the data

    relationships into long-run equilibrium components (called the

    cointegration space or cointegrating relationships) and a short-run

    component. A CVAR model was chosen over the more traditional vector

    autoregression model in levels because the statistical properties of

    the data (lack of stationarity and ergodicity) precluded the more

    traditional modeling treatment. Moreover, the statistical properties

    of the data necessitated the modeling of contracts' prices as a CVAR

    model containing both first differences (to handle stationarity) and

    an error correction term to capture long run equilibrium

    relationships. The prices were treated as a single reduced-form

    model in order to test hypothesis that power prices in the same

    market affect each other. The prices of ICE's OMC and MDC contracts

    are positively related to each other in a cointegrating relationship

    and display a high level of statistical strength. On average during

    the sample period, each percentage rise in OMC contract's price

    elicited a 0.915 percent rise in MDC contract's price.

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

    i. Federal Register Comments

    ICE and WGCEF stated that the OMC contract lacks a sufficient

    number of trades to meet the material liquidity criterion. These two

    commenters, along with WPTF, FEIG and EEI argued that the OMC contract

    cannot have a material effect on other contracts, such as those listed

    for trading by NYMEX. The commenters pointed out that it is not

    possible for the OMC contract to affect a DCM contract because price

    linkage and the potential for arbitrage do not exist. The DCM contracts

    do not cash settle to the OMC contract's price. Instead, the DCM

    contracts and the OMC contract are both cash settled based on physical

    transactions, which the ECM and DCM contracts cannot influence. The

    Commission's statistical analysis shows that changes in the ICE OMC

    contract's price significantly influence the prices of other ECM

    contracts (namely, the MDC contract).

    WGCEF and ICE noted that the Commission's Guidance had posited

    concepts of liquidity that generally assumed a fairly constant stream

    of prices throughout the trading day, and noted that the relatively low

    number of trades per day in the OMC contract did not meet this standard

    of liquidity. While a continuous stream of prices would indeed be an

    indication of liquidity for certain markets, the Guidance also notes

    that ``quantifying the levels of immediacy and price concession that

    would define material liquidity may differ from one market or commodity

    to another.'' \41\

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

    \41\ Guidance, supra.

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

    ICE opined that the Commission ``seems to have adopted a five trade

    per day test for material liquidity.'' To 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'' \42\ rather than solely relying upon an ECM on its own to

    identify any such potential SPDCs to the Commission. Thus, any contract

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

    SPDC; however, the contract will not be found to be a SPDC merely

    because it met the reporting threshold.

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

    \42\ 73 FR 75892 (December 12, 2008).

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

    ICE also asserted that the statistics provided by ICE were

    misinterpreted and misapplied by the Commission. In particular, ICE

    stated that the volume figures used in the Commission's analysis (cited

    above) ``include trades made in all months'' as well as in strips of

    contract months. ICE suggested that a more appropriate method of

    determining liquidity is to examine the activity in a single traded

    month of a given contract.\43\ It is the Commission's opinion that

    liquidity, as it pertains to the OMC contract, is typically a function

    of trading activity in particular lead months and, given sufficient

    liquidity in such months, the ICE OMC contract itself would be

    considered liquid.

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

    \43\ In addition, ICE stated that the trades-per-day statistics

    that it provided to the Commission in its quarterly filing and which

    were cited in the Commission's October 6, 2009, Federal Register

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

    the electronic trading platform and should not be considered in the

    SPDC determination process. The Commission staff asked ICE to review

    the data it sent in its quarterly filings; ICE confirmed that the

    volume data it provided and which the Commission cited includes only

    transaction data executed on ICE's electronic trading platform. As

    noted above, supplemental data supplied by ICE confirmed that block

    trades are in addition to the trades that were conducted on the

    electronic platform; block trades comprise about 82 percent of all

    transactions in the OMC contract. Commission acknowledges that the

    open interest information it provided in its October 6, 2009,

    Federal Register notice 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.

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

    ii. Conclusion Regarding Material Liquidity

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

    meets the material liquidity criterion. Specifically, there is

    sufficient trading activity in the OMC contract to have a material

    effect on ``other agreements, contracts or transactions listed for

    trading on or subject to the rules of a designated contract market * *

    * or an electronic trading facility operating in reliance on the

    exemption in section 2(h)(3) of the Act'' (that is, an ECM).

    3. Overall Conclusion Regarding the OMC Contract

    After considering the entire record in this matter, including the

    comments received, the Commission has determined that the OMC contract

    performs a significant price discovery function under two of the four

    criteria established in section 2(h)(7) of the CEA. The Commission has

    concluded that the OMC contract meets both the material price reference

    and material liquidity criteria. Accordingly, the Commission is issuing

    the attached Order declaring that the OMC contract is a SPDC.

    Issuance of this Order signals the immediate effectiveness of the

    Commission's authorities with respect to ICE as a registered entity in

    connection with its OMC contract,\44\ and triggers the obligations,

    requirements--both procedural and substantive--and timetables

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

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

    \44\ See 73 FR 75888, 75893 (Dec. 12, 2008).

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

    V. Related Matters

    a. Paperwork Reduction Act

    The Paperwork Reduction Act of 1995 (``PRA'') \45\ 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.

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

    \45\ 44 U.S.C. 3507(d).

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

    b. Cost-Benefit Analysis

    Section 15(a) of the CEA \46\ 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.

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

    \46\ 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

    [[Page 38478]]

    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.

    c. Regulatory Flexibility Act

    The Regulatory Flexibility Act (``RFA'') \47\ 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 are not small

    entities for purposes of the RFA.\48\ 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.

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

    \47\ 5 U.S.C. 601 et seq.

    \48\ 66 FR 42256, 42268 (Aug. 10, 2001).

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

    VI. Orders

    a. Order Relating to the Mid-C Financial Peak 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 Order:

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

    the Act, hereby determines that the Mid-C Financial Peak contract,

    traded on the IntercontinentalExchange, Inc., satisfies the statutory

    material price reference and material liquidity criteria for

    significant price discovery contracts. Consistent with this

    determination, and effective immediately, the IntercontinentalExchange,

    Inc., must comply with, with respect to the Mid-C Financial Peak

    contract, the nine core principles established by new section

    2(h)(7)(C). Additionally, the IntercontinentalExchange, Inc., shall be

    and is considered a registered entity \49\ with respect to the Mid-C

    Financial Peak contract and is subject to all the provisions of the

    Commodity Exchange Act applicable to registered entities.

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

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

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

    Further, the obligations, requirements and timetables prescribed in

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

    IntercontinentalExchange, Inc., commence with the issuance of this

    Order.\50\

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

    \50\ Because ICE already lists for trading a contract (i.e., the

    Henry Financial LD1 Fixed Price contract) that was previously

    declared by the Commission to be a SPDC, ICE must submit a written

    demonstration of compliance with the Core Principles within 30

    calendar days of the date of this Order. 17 CFR 36.3(c)(4).

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

    b. Order Relating to the Mid-C Financial Off-Peak 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 Order:

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

    the Act, hereby determines that the Mid-C Financial Off-Peak contract,

    traded on the IntercontinentalExchange, Inc., satisfies the statutory

    material price reference and material liquidity criteria for

    significant price discovery contracts. Consistent with this

    determination, and effective immediately, the IntercontinentalExchange,

    Inc., must comply with, with respect to the Mid-C Financial Off-Peak

    contract, the nine core principles established by new section

    2(h)(7)(C). Additionally, the IntercontinentalExchange, Inc., shall be

    and is considered a registered entity \51\ with respect to the Mid-C

    Financial Off-Peak contract and is subject to all the provisions of the

    Commodity Exchange Act applicable to registered entities.

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

    \51\ 7 U.S.C. 1a(29).

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

    Further, the obligations, requirements and timetables prescribed in

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

    IntercontinentalExchange, Inc., commence with the issuance of this

    Order.\52\

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

    \52\ Because ICE already lists for trading a contract (i.e., the

    Henry Financial LD1 Fixed Price contract) that was previously

    declared by the Commission to be a SPDC, ICE must submit a written

    demonstration of compliance with the Core Principles within 30

    calendar days of the date of this Order. 17 CFR 36.3(c)(4).

    Issued in Washington, DC, on June 25, 2010, by the Commission.

    David A. Stawick,

    Secretary of the Commission.

    [FR Doc. 2010-16212 Filed 7-1-10; 8:45 am]

    BILLING CODE 6351-01-P

    Last Updated: July 2, 2010



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