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2012-16496

  • Federal Register, Volume 77 Issue 134 (Thursday, July 12, 2012)[Federal Register Volume 77, Number 134 (Thursday, July 12, 2012)]

    [Proposed Rules]

    [Pages 41213-41242]

    From the Federal Register Online via the Government Printing Office [www.gpo.gov]

    [FR Doc No: 2012-16496]

    [[Page 41213]]

    Vol. 77

    Thursday,

    No. 134

    July 12, 2012

    Part II

    Commodities Futures Trading Commission

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    17 CFR Part 1

    Cross-Border Application of Certain Swaps Provisions of the Commodity

    Exchange Act; Proposed Rule

    Federal Register / Vol. 77 , No. 134 / Thursday, July 12, 2012 /

    Proposed Rules

    [[Page 41214]]

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    COMMODITY FUTURES TRADING COMMISSION

    17 CFR Chapter I

    RIN 3038-AD57

    Cross-Border Application of Certain Swaps Provisions of the

    Commodity Exchange Act

    AGENCY: Commodity Futures Trading Commission.

    ACTION: Proposed interpretive guidance and policy statement.

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    SUMMARY: The Commodity Futures Trading Commission (``Commission'' or

    ``CFTC) is publishing for public comment this proposed interpretive

    guidance and policy statement regarding the cross-border application of

    the swaps provisions of the Commodity Exchange Act (``CEA'') that were

    enacted by Title VII of the Dodd-Frank Wall Street Reform and Consumer

    Protection Act, and the Commission's regulations promulgated

    thereunder. Specifically, this proposed interpretive guidance and

    policy statement describes the following: The general manner in which

    the Commission will consider whether a person's swap dealing activities

    or swap positions may require registration as a swap dealer or major

    swap participant, respectively, and the application of the related

    requirements under the CEA to swaps involving such persons; and the

    application of the clearing, trade execution, and certain reporting and

    recordkeeping provisions under the CEA, to cross-border swaps involving

    one or more counterparties that are not swap dealers or major swap

    participants. This proposed interpretive guidance and policy statement

    also generally describes the policy and procedural framework under

    which the Commission may permit compliance with a comparable regulatory

    requirement of a foreign jurisdiction to substitute for compliance with

    the requirements of the CEA.

    DATES: Comments must be received on or before August 27, 2012.

    ADDRESSES: You may submit comments, identified by RIN number 3038-AD57,

    by any of the following methods:

    The agency's Web site: at http://comments.cftc.gov. Follow

    the instructions for submitting comments through the Web site.

    Mail: David A. Stawick, Secretary of the Commission,

    Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st

    Street NW., Washington, DC 20581.

    Hand Delivery/Courier: Same as mail above.

    Federal eRulemaking Portal: http://www.regulations.gov.

    Follow the instructions for submitting comments.

    Please submit your comments using only one method.

    All comments must be submitted in English, or if not, accompanied

    by an English translation. Comments will be posted as received to

    www.cftc.gov. You should submit only information that you wish to make

    available publicly. If you wish the Commodity Futures Trading

    Commission to consider information that you believe is exempt from

    disclosure under the Freedom of Information Act, a petition for

    confidential treatment of the exempt information may be submitted

    according to the procedures established in Sec. 145.9 of the

    Commission's regulations.\1\

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    \1\ 17 CFR 145.9.

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    Throughout this proposed interpretive guidance, the Commission

    requests comment in response to specific questions set out herein. For

    convenience, the Commission has numbered each of these requests for

    comment. The Commission asks that, in submitting responses to these

    requests for comment, commenters kindly identify the specific number of

    each request to which their comments are responsive.

    The Commission reserves the right, but shall have no obligation, to

    review, pre-screen, filter, redact, refuse or remove any or all of your

    submission from www.cftc.gov that it may deem to be inappropriate for

    publication, such as obscene language. All submissions that have been

    redacted or removed that contain comments on the merits of the proposal

    will be retained in the public comment file and will be considered as

    required under the Administrative Procedure Act \2\ and other

    applicable laws, and may be accessible under the Freedom of Information

    Act.\3\

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    \2\ 5 U.S.C. 551, et seq.

    \3\ 5 U.S.C. 552.

    FOR FURTHER INFORMATION CONTACT: Carlene S. Kim, Assistant General

    Counsel, Office of General Counsel, (202) 418-5613, ckim@cftc.gov; Gary

    Barnett, Director, Division of Swap Dealer and Intermediary Oversight,

    (202) 418-5977, gbarnett@cftc.gov; Jacqueline H. Mesa, Director, Office

    of International Affairs, (202) 418-5386, jmesa@cftc.gov; Commodity

    Futures Trading Commission, Three Lafayette Centre, 1155 21st Street

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    NW., Washington, DC 20581.

    SUPPLEMENTARY INFORMATION:

    Table of Contents

    I. Background

    A. The Dodd-Frank Wall Street Reform and Consumer Protection Act

    B. Scope of the Proposed Interpretive Guidance and Policy

    Statement

    II. Consideration of Whether a Non-U.S. Person Is a Swap Dealer or

    Major Swap Participant

    A. Analysis of Section 2(i)

    B. Interpretation of the Term ``U.S. Person''

    C. Definitions and Registration Thresholds

    1. Background

    2. Swap Dealer

    i. Aggregation of Swaps

    ii. Regular Business

    3. Major Swap Participant

    i. Aggregation of Positions

    4. Relevance of Guarantees

    5. Summary

    D. Branches, Agencies, Affiliates and Subsidiaries of U.S. Swap

    Dealers and U.S. Branches, Agencies, Affiliates, and Subsidiaries of

    Non-U.S. Swap Dealers

    III. Cross-Border Application of the CEA's Swap Provisions

    A. Principles of International Comity

    B. Application of Swap Provisions to Non-U.S. Swap Dealers and

    Foreign Branches, Agencies, Subsidiaries and Affiliates of U.S. Swap

    Dealers

    1. Regulatory Categories

    2. Entity-Level Requirements

    i. Capital Requirements

    ii. Chief Compliance Officer

    iii. Risk Management

    iv. Swap Data Recordkeeping

    v. Swap Data Reporting

    vi. Physical Commodity Swaps Reporting

    3. Transaction-Level Requirements

    i. Clearing and Swap Processing

    ii. Margin and Segregation Requirements for Uncleared Swaps

    iii. Mandatory Trade Execution

    iv. Swap Trading Relationship Documentation

    v. Portfolio Reconciliation and Compression

    vi. Real-Time Public Reporting

    vii. Trade Confirmation

    viii. Daily Trading Records

    ix. External Business Conduct Standards

    4. Application of the Entity-Level Requirements

    5. Application of the Transaction-Level Requirements

    i. Clearing and Swap Processing, Margin (and Segregation), Trade

    Execution, Swap Trading Relationship Documentation, Portfolio

    Reconciliation and Compression, Real-Time Public Reporting, Trade

    Confirmation, and Daily Trading Records

    ii. External Business Conduct Standards

    C. Substituted Compliance

    1. Entity-Level Requirements

    2. Transaction-Level Requirements

    D. Application of Entity-Level and Transaction-Level

    Requirements to Branches, Agencies, Affiliates, and Subsidiaries of

    U.S. Swap Dealers

    1. Foreign Branches and Agencies of U.S. Swap Dealers

    2. Foreign Affiliates and Subsidiaries of U.S. Swap Dealers

    IV. Process for Comparability Determinations

    A. Overview

    1. Scope of Review

    [[Page 41215]]

    2. Process

    3. Clearing

    V. Cross-Border Application of the CEA's Swap Provisions to

    Transactions Involving Other (Non-Swap Dealer and Non-MSP) Market

    Participants

    A. Cross-Border Transactions With U.S. Persons

    B. Clearing, Trade Execution, Real-Time Public Reporting, Large-

    Trader Reporting, SDR Reporting, and Swap Data Recordkeeping

    I. Background

    A. The Dodd-Frank Wall Street Reform and Consumer Protection Act

    In the fall of 2008 a series of large financial institution

    failures triggered a financial and economic crisis that threatened to

    freeze U.S. and global credit markets. As a result, unprecedented

    governmental intervention was required to ensure the stability of the

    U.S. financial system.\4\ These failures revealed the vulnerability of

    the U.S. financial system and economy to wide-spread systemic risk

    resulting from, among other things, poor risk management practices of

    financial firms, the lack of supervisory oversight for certain

    financial institutions as a whole, and the interconnectedness of the

    global swap business.\5\

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    \4\ On October 3, 2008, President Bush signed the Emergency

    Economic Stabilization Act of 2008, which was principally designed

    to allow the U.S. Treasury and other government agencies to take

    action to restore liquidity and stability to the U.S. financial

    system (e.g., the Troubled Asset Relief Program--also known as

    TARP--under which the U.S. Treasury was authorized to purchase up to

    $700 billion of troubled assets that weighed down the balance sheets

    of U.S. financial institutions). See Public Law 110-343, 122 Stat.

    3765 (2008).

    \5\ See Financial Crisis Inquiry Commission, ``The Financial

    Crisis Inquiry Report: Final Report of the National Commission on

    the Causes of the Financial and Economic Crisis in the United

    States,'' Jan. 2011, at xxvii, available at http://www.gpo.gov/fdsys/pkg/GPO-FCIC/pdf/GPO-FCIC.pdf.

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    American International Group (``AIG'') is a prime example of how

    the stability of a large financial institution could be undermined by

    its activities abroad and how the entire U.S. financial system could be

    threatened as a result.\6\ AIG was a regulated U.S. insurance company

    nearly undone by its collateral posting obligations under swaps entered

    into by its subsidiary, AIG Financial Products (``AIGFP''). AIGFP was

    headquartered in Connecticut and had major operations in London, with

    trades routed through Banque AIG, a French bank. AIGFP suffered

    enormous losses from credit default swaps that it issued on certain

    underlying securities, which, because AIGFP's performance on such

    credit default swaps had been guaranteed by its parent, caused credit

    agencies to downgrade the credit rating of the entire AIG corporation.

    The downgrade triggered collateral calls and resulted in a liquidity

    crisis at AIG, which ultimately necessitated over $85 billion of

    indirect assistance from the Federal Reserve Bank of New York to

    prevent AIG's default.

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    \6\ See, e.g., Gretchen Morgenson, ``Behind Insurer's Crisis,

    Blind Eye to a Web of Risk,'' N.Y. Times, Sept. 27, 2008. Corrected

    version published Sept. 30, 2008, available at http://www.nytimes.com/2008/09/28/business/28melt.html?pagewanted=all.

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    The Lehman Brothers Holding Inc. (``LBHI'') bankruptcy offers

    another stark lesson on how risks can spread quickly across the

    affiliated entities of a multinational financial institution,

    ultimately causing the collapse of the entire financial institution.

    LBHI was a U.S.-based multinational corporation, with various

    affiliates and subsidiaries operating globally, including Lehman

    Brothers International (Europe) (``LBIE'').

    The Lehman global business and operations relied on ``highly

    integrated, trading and non-trading relationships across the group.''

    \7\ The affiliates and subsidiaries within the group provided each

    other with more than equity investments and capital. They provided each

    other with treasury functions, custodial arrangements, depository

    functions, trading facilitation, swaps, funding, management,

    information technology and other operational services. Most notably,

    many of LBIE's obligations under its swaps with certain counterparties

    were guaranteed by the ultimate holding company, LBHI. In fact, at the

    time of default, LBIE had an estimated 130,000 OTC derivatives trades

    outstanding, most of which were guaranteed by LBHI.\8\

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    \7\ ``The global nature of the Lehman business with highly

    integrated, trading and non-trading relationships across the group

    led to a complex series of inter-company positions being outstanding

    at the date of Administration. There are over 300 debtor and

    creditor balances between LBIE and its affiliates representing

    $10.5B of receivables and $11.0B of payables as at September 15

    2008.'' See Lehman Brothers International (Europe) in

    Administration, Joint Administrators' Progress Report for the Period

    15 September 2008 to 14 March 2009, available at: http://www.pwc.co.uk/assets/pdf/Ibie-progress-report-14049.pdf.

    \8\ Id.

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    There are other parallels. In the many events leading up to the

    2008 crisis, Citigroup, like many other financial institutions,

    utilized numerous structured investment vehicles (``SIVs'') to shift

    certain activities off balance sheets and manage both capital

    requirements and reported accounting.\9\ Citigroup stood behind these

    vehicles through liquidity puts, a form of a guarantee. When the SIVs'

    funding was exhausted, Citigroup ultimately assumed approximately $49

    billion of debt directly onto its balance sheet.\10\ Similarly, in

    2007, Bear Stearns found itself exposed to the failings of two overseas

    hedge funds, Bear Stearns High-Grade Structured Credit Strategies

    Master Fund, Ltd. and Bear Stearns High-Grade Structured Credit

    Strategies Enhanced Leverage Master Fund, Ltd.\11\ The funds were

    incorporated in the Cayman Islands as exempted liability companies,

    with registered offices in the Cayman Islands. However, when the funds

    collapsed under the weight of their significant investments in subprime

    mortgages, Bear Stearns bailed out the funds.

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    \9\ See, e.g., Andrew Bary, ``Of Citi and SIVs: Can Banks Plug

    the Leak?,'' Barron's, Oct. 22, 2007, available at http://online.barrons.com/article/SB119284238641065650.html.

    \10\ See, e.g., Financial Times, Citi launches $49bn SIV rescue

    (Dec. 14, 2007), available at http://www.ft.com/intl/cms/s/0/6626b45e-a9dd-11dc-aa8b-0000779fd2ac.html#axzz1yMOOB81bMarketWatch MarketWatch.

    Citigroup says it will absorb SIV assets (Dec. 14, 2007), available

    at http://articles.marketwatch.com/2007-12-14/news/30679845_1_sivs-citigroup-ceo-vikram-pandit.

    \11\ See In Re: Bear Sterns High-Grade Structured Credit

    Strategies Master Funds, LTC, 374 B.R. 122 (Bankr. S.D.N.Y. 2007),

    available at http://www.nysb.uscourts.gov/opinions/brl/158971_25_opinion.pdf.

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    A decade before the AIG and Lehman collapses, a hedge fund advised

    by Long-Term Capital Management L.P. (``LTCM'') nearly failed, leading

    a number of creditors to provide LTCM substantial financial assistance

    under the supervision of the Federal Reserve Bank of New York. LTCM was

    based in Greenwich, Connecticut but managed trades in Long-Term Capital

    Portfolio LP, a partnership registered in the Cayman Islands. This

    hedge fund, with approximately $4 billion in capital and a balance

    sheet of just over $100 billion, had a swap book in excess of $1

    trillion notional. More recently, J.P. Morgan Chase & Co. (``J.P.

    Morgan''), the largest U.S. bank, has disclosed a multi-billion dollar

    trading loss stemming from its Chief Investment Office located in

    London.\12\ The significant reported losses at J.P. Morgan are a

    reminder of a key lesson from the failures of AIG and Lehman: A

    regulatory gap or lapse within any part of a financial institution can

    lead to the failure of the entire institution.

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    \12\ See ``Lehman Brothers International (Europe) in

    Administration, Joint Administrators' Progress Report for the Period

    15 September 2008 to 14 March 2009,'' available at: http://www.pwc.co.uk/assets/pdf/Ibie-progress-report-14049.pdf.

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    As these examples illustrate, corporate structures and inter-

    affiliate obligations may cause the activity, regardless of where that

    activity takes place, to have a direct and significant connection with

    activities in, or effect

    [[Page 41216]]

    on, commerce in the U.S. In many of the largest financial institutions,

    the overall business operates as a tightly integrated network of

    business lines and services conducted through various branches or

    affiliated legal entities which are under the unified management of the

    parent entity.\13\ These large financial institutions effectively

    operate their businesses as a single business, by virtue of the

    relationship with the parent company and to each other, with the

    constituent parts inextricably linked to each other. The interconnected

    nature of the relationships among the affiliated entities within a

    corporate group means that a risk in any part of this group, whether in

    the United States or abroad, can quickly spread throughout the

    organization and jeopardize the financial integrity of the entire

    group.

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    \13\ Typically, the various business lines and services--while

    conducted out of separate legal entities--are highly integrated and

    inter-dependent. Key strategic and operational decisions are

    centralized and informed by the firm's global, group-wide

    perspective. The individual legal entities affiliates and

    subsidiaries share common corporate support functions, such as

    treasury, custodial, brokerage and depository services and related

    infrastructures. The affiliated entities within the corporate group

    may also provide funding or credit support for each other and enter

    into trades with each other. In large part, this consolidated

    structure is necessary to allow the firm to address and manage

    customer needs, funding opportunities, capital and other regulatory

    requirements, financial accounting and tax planning, among other

    things.

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    Congress sought to address the deficiencies in the regulatory

    system that contributed to the financial crisis through the enactment

    of the Dodd-Frank Wall Street Reform and Consumer Protection Act

    (``Dodd-Frank Act''), which was signed by President Obama on July 21,

    2010.\14\ Title VII of the Dodd-Frank Act amended the CEA \15\ to

    overhaul the structure and oversight of the over-the-counter

    derivatives market that previously had been subject to little or no

    oversight. One of the cornerstones of this legislation is the

    establishment of a new statutory framework for comprehensive regulation

    of financial institutions that participate in the swaps market as swap

    dealers or major swap participants (``MSPs''), which must register and

    are subject to greater oversight and regulation.\16\ A key goal of this

    new framework for swap dealers and MSPs is to minimize the potential

    for the recurrence of the type of financial and operational stresses

    that contributed to the 2008 financial crisis.

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    \14\ Public Law 111-203, 124 Stat. 1376 (2010). The text of the

    Dodd-Frank Act may be accessed at http://www.cftc.gov/ucm/groups/public/@swaps/documents/file/hr4173_enrolledbill.pdf.

    \15\ 7 U.S.C. 1, et seq.

    \16\ In this proposed interpretative guidance and policy

    statement, the provisions of the CEA relating to swaps that were

    enacted by Title VII of the Dodd-Frank Act are also referred to

    herein as ``the Dodd-Frank requirements.''

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    Efforts to regulate the swaps market are underway not only in the

    United States, but also abroad in the wake of the 2008 financial

    crisis. In 2009, leaders of the Group of 20 (``G20'') whose membership

    includes the European Union (``EU''), the United States, and 18 other

    countries--agreed that: (i) OTC derivatives contracts should be

    reported to trade repositories; (ii) all standardized OTC derivatives

    contracts should be cleared through central counterparties and traded

    on exchanges or electronic trading platforms, where appropriate, by the

    end of 2012; and (iii) non-centrally cleared contracts should be

    subject to higher capital requirements. In line with the G20

    commitment, much progress has been made to coordinate and harmonize

    international reform efforts, but the pace of reform varies among

    jurisdictions and disparities in regulations remain due to differences

    in cultures, legal and political traditions, and financial systems.\17\

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    \17\ Legislatures and regulators in a number of foreign

    jurisdictions are undertaking significant regulatory reforms over

    the swaps market and its participants. See CFTC and SEC, Joint

    Report on International Swap Regulation Required by Section 719(c)

    of the Dodd-Frank Wall Street Reform and Consumer Protection Act,

    Jan. 31, 2012, at 23, available at http://www.cftc.gov/ucm/groups/public/@swaps/documents/file/dfstudy_isr_013112.pdf.

    For example, the European Parliament adopted the substance of

    the European Market Infrastructure Regulation (``EMIR'') on March

    29, 2012. See Proposal for a Regulation of the European Parliament

    and of the Council on OTC derivatives, central counterparties and

    trade repositories--Outcome of the European Parliament's first

    reading (Brussels, 28 to 29 March 2012), available at http://register.consilium.europa.eu/pdf/en/12/st06/st06399.en12.pdf.

    In December 2010, the European Commission released a public

    consultation on revising the Markets in Financial Instruments

    Directive (``MiFID''). See ``European Commission Public

    Consultation: Review of the Markets in Financial Instruments

    Directive,'' Dec. 8, 2010, available at http://ec.europa.eu/internal_market/consultations/docs/2010/mifid/consultation_paper_en.pdf.

    In October 2011, the European Commission released two public

    consultations, one to revise MiFID and the other for creating a new

    regulation entitled the Markets in Financial Instruments Regulation

    (``MiFIR''). See ``European Commission Proposal for a Directive of

    the European Parliament and of the Council on markets in financial

    instruments repealing Directive 2004/39/EC of the European

    Parliament and of the Council,'' COM (2011) 656 final (Oct. 20,

    2011), available at http://ec.europa.eu/internal_market/securities/docs/isd/mifid/COM_2011_656_en.pdf; ``European Commission

    Proposal for a Regulation of the European Parliament and of the

    Council on markets in financial instruments and amending regulation

    [EMIR] on OTC derivatives, central counterparties and trade

    repositories,'' COM (2011) 652 final (Oct. 20, 2011), available at

    http://ec.europa.eu/internal_market/securities/docs/isd/mifid/COM_2011_652_en.pdf.

    The Japanese legislature passed the Amendment to the Financial

    Instruments and Exchange Act (``FIEA'') in May 2010. See Outline of

    the bill for amendment of the Financial Instruments and Exchange

    Act, May 2010, available at http://www.fsa.go.jp/en/refer/diet/174/01.pdf.

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    B. The Scope of the Proposed Interpretative Guidance and Policy

    Statement

    In light of the global nature of the swap market, the extent to

    which the Dodd-Frank Act's requirements will apply to cross-border

    activities is critically important. U.S. market participants regularly

    enter into swaps with other market participants that are domiciled

    outside of the U.S. or incorporated in non-U.S. jurisdictions.\18\ Many

    U.S. and non-U.S. domiciled or incorporated financial institutions

    conduct their swaps business across multiple jurisdictions, with swaps

    that are negotiated and executed by a branch or affiliate in one

    jurisdiction while the actual counterparty to the swap is an entity in

    another jurisdiction.

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    \18\ See Bank of International Settlements (BIS), Committee on

    the Global Financial System, No. 46, The macro financial

    implications of alternative configurations for access to central

    counterparties in OTC derivatives markets, Nov. 2011, at 1,

    available at http://www.bis.org/publ/cgfs46.pdf (``The configuration

    of access must take account of the globalized nature of the market,

    in which a significant proportion of OTC derivatives trading is

    undertaken across borders.'').

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    The Commission received numerous comments during the Dodd-Frank Act

    rulemaking process from interested parties concerning the application

    of Title VII of the Dodd-Frank Act and the Commission's implementing

    regulations thereunder to the cross-border activities of non-U.S. and

    U.S. market participants.\19\ The key issues raised by

    [[Page 41217]]

    the commenters include (i) the nature of the connections to the United

    States that would require a non-U.S. person to register as a swap

    dealer or MSP under the CEA and the Commission's regulations; \20\ (ii)

    which Dodd-Frank Act requirements apply to the swap activities of non-

    U.S. persons, U.S. persons, and their branches, agencies, subsidiaries

    and affiliates outside of the United States; \21\ and (iii) to the

    extent that Title VII of the Dodd-Frank requirements would apply, the

    circumstances under which the Commission would consider permitting a

    non-U.S. person to comply with the regulatory regime of its foreign

    jurisdiction instead of complying with the Dodd-Frank Act and the

    Commission's regulations promulgated thereunder.\22\

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    \19\ See, e.g., Institute of International Bankers (``IIB'')

    (Jan. 10, 2011); International Swaps and Derivatives Association

    (``ISDA'') (Feb. 22, 2011), Securities Industry and Financial

    Markets Association (``SIFMA'') (Feb. 3, 2011), Cleary Gottlieb

    Steen & Hamilton LLP (``Cleary'') (Sept. 20, 2011), and Barclays

    Bank PLC, BNP Paribas S.A., Credit Suisse AG, Deutsche Bank AG,

    HSBC, Nomura Securities International, Inc., Rabobank Nederland,

    Royal Bank of Canada, The Royal Bank of Scotland Group PLC,

    Soci[eacute]t[eacute] G[eacute]n[eacute]rale, The Toronto-Dominion

    Bank, and UBS AG (``Twelve Foreign Banks'') (Feb. 17, 2011). In

    total, the Commission received approximately 120 comment letters

    (submitted in response to various proposed rules implementing the

    Dodd-Frank Act) that addressed or raised issues related to cross-

    border swap activities. These letters, received by the Commission in

    response to various Commission rulemakings, may be found on the

    Commission's Web site at http://www.cftc.gov/LawRegulation/DoddFrankAct/Rulemakings/index.htm.

    In addition, the Commission and the Securities and Exchange

    Commission (``SEC'') held a joint public roundtable on August 1,

    2011 on international issues relating to the implementation of Title

    VII of the Dodd-Frank Act (``Roundtable''). During the Roundtable,

    commenters discussed the impact of the various requirements on their

    cross-border activities. A copy of the transcript from the

    Roundtable can be found on the Commission's Web site at http://www.cftc.gov/ucm/groups/public/@swaps/documents/dfsubmission/dfsubmission21_080111-trans.pdf.

    \20\ Commenters agreed generally that non-U.S. persons engaged

    in swap dealing activity directly with U.S. counterparties should be

    registered with the Commission as swap dealers. See, e.g., Cleary

    (Sept. 20, 2011). On the other hand, according to commenters, swap

    dealing conducted outside of the U.S. between non-U.S. persons is

    not sufficiently connected to the U.S. to warrant swap dealer

    registration. See, e.g., Twelve Foreign Banks (Feb. 17, 2011); SIFMA

    (Feb. 3, 2011). Commenters also said that a non-U.S. person that

    limits its U.S. swap activity to U.S. persons that are registered as

    swap dealers should not have to register, because regulation of the

    U.S. registered swap dealer is sufficient. See Bank of Tokyo-

    Mitsubishi UFJ Ltd., Mizuho Corporate Bank Ltd., Sumitomo Mitsui

    Banking Corporation (``Japanese Banks'') (May 5, 2011) and Twelve

    Foreign Banks (Feb. 17, 2011).

    \21\ See, e.g., Cleary (Sept. 20, 2011) IIB (Jan. 10, 2011) and

    SIFMA (Feb. 3, 2011). Generally speaking, these commenters urged

    that the Commission adopt a framework that preserves the strengths

    of existing market practices and home country supervision, while

    avoiding regulatory duplication, unrealistic extraterritorial

    supervisory responsibilities, and fragmentation of the swap markets.

    See, e.g., IIB (Jan. 10, 2011) and SIFMA (Feb. 3, 2011). According

    to these commenters, entities outside the United States should

    comply with rules adopted under the Dodd-Frank Act with respect to

    requirements applicable to specific swaps, but should be subject to

    home country supervision by their home country regulators with

    respect to requirements applicable at the entity level. On the other

    hand, other commenters said that a U.S. entity must not be able to

    conduct swap business with non-U.S. persons free from regulation

    under the Dodd-Frank Act by establishing a non-U.S. affiliate and

    conducting the swap business through the affiliate. See Better

    Markets, Inc. (Jan. 24, 2011).

    \22\ See, e.g., Seven Foreign Banks (Jan. 11, 2011) and Hess

    (Jan. 24, 2011). Commenters stated that deference to comparable home

    country regulation accords with principles of international comity

    and is consistent with the approach taken by U.S. banking regulators

    with respect to non-U.S. banks. See, e.g., FSR (Feb. 22, 2011), IIB

    (April 11, 2011), Cleary (Sept. 20, 2011). Numerous commenters also

    recommended that comparability should be determined based on whether

    the home country entity-level requirements are reasonably designed

    to achieve the same policy objectives as the corresponding

    requirements under the Dodd-Frank Act. See Cleary (Sept. 20, 2011).

    Commenters said that the Commission should defer to the home

    country, entity-level requirements only when they are comparable.

    Commenters also discussed Dodd-Frank Act requirements that

    potentially apply to all swap market participants, not just

    registered swap dealers and MSPs. For instance, commenters said that

    when a non-U.S. person executes or clears a swap on a U.S.-

    registered facility, the non-U.S. person should be subject to the

    Commission's swap position limit requirements. See US Banks (Feb.

    22, 2011). Commenters said that clearing requirements should not

    apply to swaps between two non-U.S. persons, and that the regulators

    in various countries should work together to recognize comparably-

    regulated clearinghouses. See SIFMA (Feb. 3, 2011) and Seven Foreign

    Banks (Jan. 11, 2011).

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

    In this proposed interpretive guidance and policy statement

    (``proposed interpretive guidance''), the Commission addresses the key

    issues raised by the commenters with respect to the application of

    Title VII of the Dodd-Frank Act and the Commission's rules promulgated

    thereunder to cross-border swaps and activities. Following the

    background discussion in Section I, the Commission sets out its

    proposed interpretive guidance in the subsequent three sections.

    Section II sets forth the Commission's proposed interpretation of its

    authority to apply the Dodd-Frank Act and its regulations

    extraterritorially under section 2(i) of the CEA.\23\ Section II also

    describes the general manner in which the Commission proposes to

    consider the following: (i) Whether a non-U.S. person's swap dealing

    activities are sufficient to require registration as a ``swap dealer,''

    as further defined in a joint release adopted by the Commission and the

    SEC (collectively, the ``Commissions''); (ii) whether a non-U.S.

    person's swap positions are sufficient to require registration as a

    ``major swap participant,'' as further defined in a joint release

    adopted by the Commissions; and (iii) the treatment for registration

    purposes of foreign branches, agencies, affiliates, and subsidiaries of

    U.S. swap dealers and of U.S. branches of non-U.S. swap dealers.\24\

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    \23\ 7 U.S.C. 2(i).

    \24\ See Further Definition of ``Swap Dealer,'' ``Security-Based

    Swap Dealer,'' ``Major Swap Participant,'' ``Major Security-Based

    Swap Participant'' and ``Eligible Contract Participant''; Final

    Rule, 77 FR 30596, May 23, 2012.

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    Section III sets forth the manner in which the Commission proposes

    to interpret section 2(i) of the CEA as it applies to the requirements

    under Title VII of the Dodd-Frank Act and the Commission's regulations

    promulgated thereunder to swaps and activities of non-U.S. swap

    dealers, non-U.S. MSPs and foreign branches, agencies, affiliates, and

    subsidiaries of U.S. swap dealers. In section III, the Commission also

    proposes to permit a non-U.S. swap dealer or non-U.S. MSP to comply

    with comparable foreign regulatory requirements in order to satisfy

    applicable statutory and regulatory requirements under Title VII of the

    Dodd-Frank Act.\25\ In section IV, the Commission generally describes a

    process by which a non-U.S. applicant for swap dealer or MSP

    registration may seek the Commission's recognition of substituted

    compliance with a comparable foreign regulatory requirement and the

    general scope of Commission review in making the requisite

    comparability finding. Section V sets forth the manner in which the

    Commission proposes to interpret section 2(i) of the CEA as it applies

    to the clearing, trading, and certain reporting requirements under the

    Dodd-Frank Act with respect to swaps between counterparties that are

    not swap dealers or MSPs.

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    \25\ This proposed interpretative release does not address the

    scope of the Commission's authority under CEA section 2(i) over non-

    swap agreements, contracts, transactions or markets within the

    Commission's jurisdiction or persons who participate in or operate

    those markets.

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

    The Commission clarifies that this proposed interpretive guidance

    does not establish or modify any person's rights and obligations under

    the CEA or the Commission's regulations promulgated thereunder. The

    Commission notes that the proposed interpretive guidance does not limit

    the applicability of any CEA provision or Commission regulation to any

    person, entity or transaction except as provided herein.

    II. Consideration of Whether a Non-U.S. Person Is a Swap Dealer or

    Major Swap Participant

    A. Section 2(i) of the CEA

    Section 722(d) of the Dodd-Frank Act amends section 2 of the CEA

    \26\ to add a new paragraph (i) entitled ``Applicability,'' which

    consists of two subsections. Specifically, section 2(i) states that the

    provisions added to the CEA by Title VII of the Dodd-Frank Act shall

    not apply to activities outside the United States unless those

    activities--

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

    \26\ 7 U.S.C. 2.

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

    (1) have a direct and significant connection with activities in, or

    effect on, commerce of the United States; or

    (2) contravene such rules or regulations as the Commission may

    prescribe or promulgate as are necessary or appropriate to prevent the

    evasion of any provision of this Act that was enacted by the Wall

    Street Transparency and Accountability Act of 2010.\27\

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    \27\ 7 U.S.C. 2(i).

    Section 2(i) provides the Commission with express authority over

    activities outside the United States when such swaps and activities

    have a ``direct and significant'' connection with activities

    [[Page 41218]]

    in, or effect on, commerce of the United States or when they contravene

    such rules as the Commission may promulgate to prevent evasion of the

    provisions of Title VII of the Dodd-Frank Act.\28\ Section 2(i) does

    not, however, require the Commission to extend its reach to the outer

    bounds of that authorization. Rather, in exercising its authority with

    respect to swap activities outside the United States, the Commission

    will be guided by consideration of international comity principles. The

    subsections that follow address the general manner in which the

    Commission will determine the cross-border application of the CEA's

    swap provisions, consistent with section 2(i) of the CEA.

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

    \28\ A primary purpose of Title VII of the Dodd-Frank Act is to

    address risk to the U.S. financial system created by

    interconnections in the swaps market. Senator Blanche Lincoln, then

    Chairman of the Senate Agriculture Committee, noted: ``In 2008, our

    Nation's economy was on the brink of collapse. America was being

    held captive by a financial system that was so interconnected, so

    large, and so irresponsible that our economy and our way of life

    were about to be destroyed.'' Congressional Record S5818, July 14,

    2010, available at http://www.gpo.gov/fdsys/pkg/CREC-2010-07-14/pdf/CREC-2010-07-14.pdf. Senator Jeanne Shaheen stated: ``We need to put

    in place reforms to stop Wall Street firms from growing so big and

    so interconnected that they can threaten our entire economy.''

    Congressional Record S5888, July 15, 2010, available at http://www.gpo.gov/fdsys/pkg/CREC-2010-07-15/pdf/CREC-2010-07-15-senate.pdf. Senator Debbie Stabenow opined: ``For too long the over-

    the-counter derivatives market has been unregulated, transferring

    risk between firms and creating a web of fragility in a system where

    entities became too interconnected to fail.'' Congressional Record

    S5905, July 15, 2010, available at http://www.gpo.gov/fdsys/pkg/CREC-2010-07-15/pdf/CREC-2010-07-15-senate.pdf. As these legislative

    records indicate, Congress sought to ensure that the Commission

    would be able to effectively regulate activities in the swaps

    marketplace, wherever those activities may occur, that are

    significantly connected with or affect the U.S. financial system.

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    B. Proposed Interpretation of the Term ``U.S. Person''

    For purposes of this interpretive guidance, the Commission proposes

    to interpret the term ``U.S. person'' by reference to the extent to

    which swap activities or transactions involving one or more such person

    have the relevant effect on U.S. commerce. For example, this

    interpretation would help determine whether non-U.S. persons engaging

    in swap dealing transactions with ``U.S. persons'' in excess of the de

    minimis level would be required to register and regulated as a swap

    dealer. In addition, for the same reasons, the term ``U.S. person'' can

    be helpful in determining the level of U.S. interest for purposes of

    analyzing and applying principles of international comity when

    considering the extent to which U.S. transaction-level requirements

    should apply to swap transactions.

    Specifically, as proposed, the term ``U.S. person'' would include,

    but not be limited to: (i) Any natural person who is a resident of the

    United States; (ii) any corporation, partnership, limited liability

    company, business or other trust, association, joint-stock company,

    fund, or any form of enterprise similar to any of the foregoing, in

    each case that is either (A) organized or incorporated under the laws

    of the United States or having its principal place of business in the

    United States \29\ (``legal entity'') or (B) in which the direct or

    indirect owners thereof are responsible for the liabilities of such

    entity and one or more of such owners is a U.S. person; (iii) any

    individual account (discretionary or not) where the beneficial owner is

    a U.S. person; (iv) any commodity pool, pooled account, or collective

    investment vehicle (whether or not it is organized or incorporated in

    the United States) of which a majority ownership is held, directly or

    indirectly, by a U.S. person(s); (v) any commodity pool, pooled

    account, or collective investment vehicle the operator of which would

    be required to register as a commodity pool operator under the CEA;

    (vi) a pension plan for the employees, officers, or principals of a

    legal entity with its principal place of business inside the United

    States; and (vii) an estate or trust, the income of which is subject to

    United States income tax regardless of source.

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    \29\ The term ``United States'' means the United States, its

    states, the District of Columbia, Puerto Rico, the U.S. Virgin

    Islands, and any other territories or possessions of the United

    States government, its agencies or instrumentalities.

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

    Under this interpretation, the term ``U.S. person'' generally means

    that a foreign branch or agency of a U.S. person would be covered by

    virtue of the fact that it is a part, or an extension, of a U.S.

    person. By contrast, a foreign affiliate or subsidiary of a U.S. person

    would be considered a non-U.S. person, even where such an affiliate or

    subsidiary has certain or all of its swap-related obligations

    guaranteed by the U.S. person.

    Request for Comment

    Q1. Please provide specific comments regarding the Commission's

    proposed interpretation of the term ``U.S. person.''

    Q1a. In the Commission's view, the concerns regarding risks

    associated with the affiliate group structure are heightened where a

    U.S. person guarantees (or provides similar support) to a foreign

    affiliate or subsidiary. In such situations, the risk of the swaps

    executed abroad are effectively transferred to or incurred by the U.S.

    person. Or stated differently, the risk of the affiliate's swap

    transactions have a direct and significant connection to, or effect on,

    the U.S. person that is the guarantor. Under these circumstances,

    notwithstanding that the U.S. person may be subject to a robust

    regulatory regime, its financial stability may be put at risk by

    activities outside the firm. Accordingly, the Commission is

    considering, and seeks comments on, whether the term ``U.S. person''

    should be interpreted to include a foreign affiliate or subsidiary

    guaranteed by a U.S. person.

    Q1b.Several commenters have suggested that the Commission adopt the

    definition of ``U.S. person'' in the SEC's Regulation S.\30\ Should the

    Commission interpret the term ``U.S. person'' in a similar manner

    notwithstanding that Regulation S has a different focus?

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

    \30\ See 17 CFR 230.902(k); SEC Release No. 33-6863, 55 FR

    18306, May 2, 1990.

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

    Q1c. As an alternative to the proposed interpretation of the term

    ``U.S. person,'' should the Commission interpret the term to include a

    concept of control under which a non-U.S. person who is controlled by

    or under common control with a U.S. person would also be considered a

    U.S. person? If so, how should the Commission define the term

    ``controlled by or under common control?''

    Q1d. Are there other examples of persons or interests that should

    be specifically identified as a ``U.S. person'' in the final

    interpretive guidance?

    C. The Definitions and Registration Thresholds

    1. Background

    The Commission adopted its final rulemaking further defining the

    terms ``swap dealer'' and ``major swap participant'' jointly with the

    SEC on April 18, 2012 (``Final Entities Rulemaking'').\31\ In the Final

    Entities Rulemaking, the Commissions, among other things, adopted final

    rules and interpretive guidance implementing the statutory definitions

    of the terms ``swap dealer'' and ``major swap participant'' in CEA

    sections 1a(49) and 1a(33).\32\ The final rules and interpretive

    guidance delineate the activities that cause a person to be a swap

    dealer and the level of swap positions that cause a person to be an

    MSP. In addition, the

    [[Page 41219]]

    Commissions adopted rules concerning the statutory exceptions from the

    definition of swap dealer, including a de minimis exception.\33\

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

    \31\ Further Definition of ``Swap Dealer,'' ``Security-Based

    Swap Dealer,'' ``Major Swap Participant,'' ``Major Security-Based

    Swap Participant'' and ``Eligible Contract Participant;'' Final

    Rule, 77 FR 30596, May 23, 2012.

    \32\ 7 U.S.C. 1a(49) and 1a(33).

    \33\ Section 1a(49)(D) of the CEA (7 U.S.C. 1a(49)(D)) provides

    that ``[t]he Commission shall exempt from designation as a swap

    dealer an entity that engages in a de minimis quantity of swap

    dealing in connection with transactions with or on behalf of its

    customers. The Commission shall promulgate regulations to establish

    factors with respect to the making of this determination to

    exempt.'' This provision is implemented in section 1.3(ggg)(4) of

    the Commission's regulations.

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    Section 1.3(ggg)(4) of the Commission's regulations sets forth a de

    minimis threshold of swap dealing, which takes into account the

    notional amount of a person's swap dealing activity over the prior 12

    months.\34\ When a person engages in swap dealing transactions above

    that threshold, such person meets the definition of a swap dealer under

    section 1a(49) of the CEA,\35\ and is required to register as a swap

    dealer with the Commission under CEA section 4s(b).\36\ Sections

    1.3(jjj)(1) and 1.3(lll)(1) of the Commission's regulations set forth

    swap position thresholds for the MSP definition.\37\ When a person

    holds swap positions above those thresholds, such person meets the

    definition of an MSP under section 1a(33) of the CEA,\38\ and is

    required to register as an MSP with the Commission under CEA section

    4s(b).\39\

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

    \34\ The limitations associated with the de minimis exception

    apply only in connection with a person's dealing activities. See

    Final Entities Rulemaking at Part II.D. As used in this release, the

    meaning of the term ``swap dealing'' is consistent with that used in

    the Final Entities Rulemaking.

    \35\ 7 U.S.C. 1a(49).

    \36\ 7 U.S.C. 6s(b). See also Registration of Swap Dealers and

    Major Swap Participants, Final Rule 77 FR 2613, 2616, Jan. 19, 2012

    (``Final Registration Rule'').

    \37\ See Final Entities Rulemaking at Parts IV.B. and IV.E.

    \38\ 7 U.S.C. 1a(33).

    \39\ 7 U.S.C. 6s(b). See also Final Registration Rule at 2616,

    Jan. 19, 2012, available at http://www.cftc.gov/ucm/groups/public/@lrfederalregister/documents/file/2012-792a.pdf.

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

    Once required to register as a swap dealer or MSP, the person

    becomes subject to all of the requirements imposed on swap dealers or

    MSPs under Title VII, respectively, including but not limited to

    sections 2(a)(13), 4r, and 4s of the CEA,\40\ which require swap

    dealers and MSPs to comply with various prudential, business conduct,

    reporting, clearing, and trading requirements. Unless a swap dealer or

    MSP applies for and is granted a limited designation, all of the swap

    dealer's or MSP's swap activities are subject to such requirements, not

    only the swap activities that trigger the registration requirement.

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

    \40\ 7 U.S.C. 2(a)(13), 6r, and 6s.

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

    The statutory definitions of swap dealer and MSP do not contain any

    geographic limitations and do not distinguish between U.S. and non-U.S.

    swap dealers or non-U.S. MSPs.\41\ Similarly, the Final Entities

    Rulemaking does not contain any such limitations or distinctions. In

    this proposed interpretive guidance, the Commission interprets section

    2(i) of the CEA as it applies to the provisions in the CEA related to

    swap dealers and MSPs and, accordingly, proposes the general manner in

    which the swap dealer and MSP registration and related requirements

    apply to the activities of non-U.S. persons, and to the foreign

    branches, agencies, subsidiaries and affiliates of U.S. persons and

    U.S. branches of non-U.S. persons.

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

    \41\ The statutory definition of MSP in CEA section 1a(33)(B) (7

    U.S.C. 1a(33)(B)) does state, however, that the Commission should

    consider the impact on ``the financial system of the United States''

    in defining what constitutes a ``substantial position'' for purposes

    of the definition. The Commission believes that this proposed

    interpretative guidance, which focuses on a non-U.S. person's swap

    positions with U.S. persons, is consistent with this statutory

    directive.

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

    2. Swap Dealer

    In enacting the swap dealer definition and the associated

    requirements for swap dealers Congress sought to ensure that those

    entities that engage in more than a de minimis level of swap dealing be

    considered swap dealers, register, and be regulated as swap

    dealers.\42\ In the Final Entities Rulemaking, the Commission

    established a notional threshold for determining whether a person

    engages in more than a de minimis level of swap dealing and therefore

    must register as a swap dealer. The Commission proposes that the level

    of swap dealing that is substantial enough to require a person to

    register as a swap dealer when conducted by a U.S. person also

    constitutes a ``direct and significant connection'' within the meaning

    of section 2(i)(1) of the CEA when such dealing activities are

    conducted by a non-U.S. person with U.S. persons as counterparties.

    Accordingly, consistent with this interpretation and the Commission's

    Final Entities Rulemaking, the Commission proposes that non-U.S.

    persons who engage in more than a de minimis level of swap dealing with

    U.S. persons would be required to register as swap dealers.\43\

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

    \42\ The Commission does not believe it is necessary for

    purposes of this proposed interpretive guidance to determine whether

    such swaps or activities between a non-U.S. person and a U.S. person

    are located within or outside of the United States. Regardless of

    whether the location of any particular swap or activity is within or

    outside the United States, the Commission proposes that it is the

    aggregate notional amount of such swap dealing activities that is

    relevant for registration. Accordingly, the consideration of such

    swaps within the meaning of CEA section 2(i) for the purposes of

    this proposed guidance does not necessarily mean that the Commission

    considers such activities to be outside of the United States. See

    Final Entities Rulemaking at Part II.B.4. for what constitutes

    ``swap dealing activities.''

    \43\ In the Final Entities Rulemaking, the Commissions codified

    exclusions from the dealer definition for swaps and security-based

    swaps between majority-owned affiliates. The Commission construes

    section 2(i) to apply such inter-affiliates exclusion to swaps

    between a non-U.S. person and its U.S. affiliate or between two

    affiliated non-U.S. persons. See section 1.3(ggg)(6)(i) of the

    Commission's regulations.

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

    The Commission does not propose, however, that a non-U.S. person

    should include, in determining whether the de minimis threshold is met,

    the notional value of dealing transactions with foreign branches of

    registered U.S. swap dealers. This is intended to address the concerns

    of non-U.S. persons who may be required to register as a swap dealer,

    notwithstanding the fact that their dealing activities with U.S.

    persons as counterparties are limited to foreign branches of registered

    U.S. swap dealers. In such cases, the Dodd-Frank Act transactional

    requirements (or comparable requirement) would nevertheless apply to

    swaps with those foreign branches and, thus, there is little concern

    that this exclusion could be used to engage in swap activities outside

    of the Dodd-Frank Act (comparable) requirements. Accordingly, the

    Commission believes that it would be appropriate and consistent with

    section 2(i) to allow non-U.S. persons to conduct swap dealing

    activities with registered U.S. swap dealers outside the United States

    (through their foreign branches), without triggering registration as a

    swap dealer as a result.

    i. Aggregation of Swaps

    The Commission notes that section 1.3(ggg)(4) of the Commission's

    regulations requires that a person include, in determining whether its

    swap dealing activities exceed the de minimis threshold, the aggregate

    notional value of swap dealing transactions entered into by its

    affiliates under common control. It is the Commission's view that this

    provision would require that a non-U.S. person, in determining whether

    its swap dealing transactions exceed the de minimis threshold, include

    the aggregate notional value of any swap dealing transactions between

    U.S. persons and any of its non-U.S. affiliates under common control,

    and any swap dealing transactions of any of its non-U.S. affiliates

    under common control where

    [[Page 41220]]

    the obligations of such non-U.S. affiliates are guaranteed by U.S.

    persons.\44\

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    \44\ See Final Entities Rulemaking at Part II.D.4.

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

    The Commission is not proposing, however, that a non-U.S. person

    should include, in this determination, the notional value of dealing

    transactions in which its U.S. affiliates engage. Again, the

    Commission's proposed interpretation is that a direct and significant

    connection with activities in, or effect on, U.S. commerce, in these

    circumstances, exists when non-U.S. persons conduct more than a de

    minimis level of swap dealing activities with U.S. persons. In the case

    of an affiliated group of non-U.S. persons under common control, the

    Commission believes that all of the affiliated non-U.S. persons should

    aggregate the notional value of their swap dealing transactions with

    U.S. persons (and their swap dealing transactions with non-U.S. persons

    in which such person's obligations are guaranteed by U.S. persons), in

    order to determine, in effect, the level of swap dealing activities

    conducted by the affiliated group of non-U.S. persons in the aggregate.

    However, since the focus is on the level of activity conducted by non-

    U.S. persons, swap dealing transactions of affiliated U.S. persons

    should not be included.\45\

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    \45\ See also 77 FR at 2616.

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

    ii. Regular Business

    As stated in the Final Entities Rulemaking, a person is required to

    apply the de minimis test only if it determines it is engaged in swap

    dealing activity under the rule further defining the term ``swap

    dealer,'' which excludes swap activities that are not part of ``a

    regular business.'' A person that is not engaged in swap dealing as

    part of ``a regular business'' is not required to apply the de minimis

    test and is not a swap dealer under the CEA.

    The Commission proposes that a non-U.S. person without a guarantee

    from a U.S. person applying the swap dealer definition should determine

    first whether its swap activities with respect to U.S. persons as

    counterparties qualify as swap dealing activity under the rule further

    defining the term ``swap dealer'' and the exclusion of swap activities

    that are not part of ``a regular business.'' Thus, for example, a non-

    U.S. person without a guarantee that determines it is not engaged in

    swap dealing as part of ``a regular business'' with respect to U.S.

    persons as counterparties is not required to apply the de minimis test

    or to register as a swap dealer. This would be true even if the non-

    U.S. person were engaged in swap dealing as part of ``a regular

    business'' with respect to non-U.S. persons as counterparties.

    The determination of whether a person is engaged in swap dealing

    activity involves application of the interpretive guidance in Part

    II.A.4. of the Final Entities Rulemaking, which provides for

    consideration of the relevant facts and circumstances. Similarly, the

    Commission proposes that the determination by a non-U.S. person without

    a guarantee of whether it is engaged in swap dealing as part of ``a

    regular business'' with respect to U.S. persons as counterparties (as

    opposed to its swap dealing activity with respect to non-U.S. persons

    as counterparties) will depend on consideration of the relevant facts

    and circumstances in light of the interpretive guidance in the Final

    Entities Rulemaking.

    Request for Comment

    Q2. Do commenters agree that in determining whether it is a swap

    dealer, a non-U.S. person without a guarantee from a U.S. person should

    consider whether it is engaged in swap dealing as part of ``a regular

    business'' only with respect to U.S. persons (as opposed to non-U.S.

    persons)? Why or why not? In such an analysis, would it generally be

    feasible for the non-U.S. person to distinguish swap dealing activities

    with U.S. persons from swap dealing activities with non-U.S. persons

    and are there any practical difficulties in this approach?

    3. Major Swap Participant

    The MSP definition and associated requirements for MSPs reflect

    Congress' direction that any entity that holds swap positions above a

    level that could, among other things, ``significantly impact the

    financial system of the United States,'' be considered an MSP and

    register and be regulated as an MSP.\46\ In the Final Entities

    Rulemaking, the Commission further defined MSP to clarify when a person

    must register. The Commission believes that the level of swap positions

    that is substantial enough to require a person to register as an MSP

    when held by a U.S. person, also constitutes a ``direct and significant

    connection'' within the meaning of section 2(i) of the CEA when such

    positions reflect swaps between a non-U.S. person and U.S. persons.

    Consistent with this interpretation and the Commission's Final Entities

    Rulemaking, a non-U.S. person who holds swap positions where a U.S.

    person is a counterparty above the specified MSP thresholds would

    qualify and register as an MSP.

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

    \46\ CEA section 1a(33)(B), 7 U.S.C. 1a(33)(B). As is the case

    with respect to swap dealers, the Commission does not believe it is

    necessary, for purposes of this proposed interpretative guidance, to

    determine whether such swaps or activities between a non-U.S. person

    and a U.S. person are located within or outside of the United

    States.

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

    i. Aggregation of Positions

    In determining whether it is an MSP, a non-U.S. person would

    ``count'' all of its swap positions where its counterparty is a U.S.

    person, but would not ``count'' any swap position where its

    counterparty is a non-U.S. person. As with swap dealing transactions, a

    swap between a non-U.S. person and a U.S. person, or a swap between a

    non-U.S. person and another non-U.S. person under which the first non-

    U.S. person's obligations are guaranteed by a U.S. person, in and of

    itself may have a direct and significant connection with activities in,

    or effect on, commerce of the United States within the meaning of

    section 2(i) of the CEA. Similarly, for purposes of applying section

    2(i) of the CEA to the MSP definition and associated requirements, the

    Commission believes the appropriate focus is on whether in the

    aggregate such swaps have a direct and significant connection with

    activities in, or effect on, U.S. commerce, rather than whether each

    particular swap has such a connection or effect.

    4. Relevance of Guarantees

    In the event of a default or insolvency of a non-U.S. swap dealer

    with more than a de minimis level of swap dealing with U.S. persons or

    a non-U.S. MSP with more than the threshold level of swap positions

    with U.S. persons, the swap dealer's or MSP's U.S. counterparties could

    be adversely affected. Such an event may adversely affect numerous

    persons engaged in commerce within the United States, disrupt such

    commerce, and increase risks of a widespread disruption to the

    financial system in the United States. For that reason, the Commission

    has a significant regulatory interest in ensuring that the swap dealer

    or MSP is managing the risks of such swaps appropriately and ensuring

    that its U.S. counterparties receive the appropriate protections under

    the CEA.

    Similar effects on U.S. persons and on the U.S. financial system

    may occur in the event of a default or insolvency of a non-U.S. person

    with respect to a non-de minimis level of swap dealing transactions, or

    swap positions above the MSP threshold, of the non-U.S. person that are

    guaranteed by a U.S. person. In these circumstances, and regardless of

    whether the non-U.S. person's counterparty is a U.S. person or

    [[Page 41221]]

    a non-U.S. person, the risk of default by the non-U.S. person with

    respect to its guaranteed swaps ultimately rests with a U.S. person. If

    there is a default by the non-U.S. person, the U.S. person would be

    held responsible to settle those obligations. However, the Commission's

    interpretive guidance with respect to guarantees differs slightly for

    swap dealers and MSPs.\47\ We therefore discuss the two cases

    separately here.

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

    \47\ For purposes of this interpretive guidance, references to a

    guarantee are intended to refer not only to traditional guarantee of

    payment or performance of the related swaps, but would also include

    other formal arrangements to support the non-U.S. person's ability

    to pay or perform its obligations, including without limitation,

    liquidity puts and keepwell agreements.

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

    Accordingly, the Commission proposes to interpret CEA section 2(i)

    as requiring a non-U.S. person to register with the Commission as a

    swap dealer when the aggregate notional value of its swap dealing

    activities with U.S. persons, or of its swap dealing activities with

    non-U.S. persons where the dealing non-U.S. person's obligations are

    guaranteed, or its ability to pay or perform its obligations thereunder

    are otherwise formally supported, by a U.S. person, exceed the de

    minimis level of swap dealing as set forth in section 1.3(ggg)(4) of

    the Commission's regulations. The Commission believes that when the

    aggregate level of swap dealing by a non-U.S. person, considering both

    swaps directly with U.S. persons and swaps with non-U.S. persons under

    which the dealing non-U.S. person's obligations are guaranteed by a

    U.S. person, exceeds the de minimis level of swap dealing, the dealing

    non-U.S. person's activities have the requisite ``direct and

    significant connection with activities in, or effect on, commerce of

    the United States.''

    With respect to whether a person is an MSP, the Commission's

    interpretive guidance in the Final Entities Rulemaking provides that a

    person's swap positions are attributed to a parent, other affiliate or

    guarantor to the extent that the counterparties to those positions

    would have recourse to the other entity in connection with the position

    unless the first person is itself subject to capital regulation by the

    CFTC or SEC (e.g., including where the first person is a swap dealer or

    MSP) or is a U.S. entity regulated as a bank in the United States.\48\

    In accordance with this guidance, the Commission proposes that swap

    positions between a non-U.S. person, where the obligations of such non-

    U.S. person thereunder are guaranteed by a U.S. person, should be

    attributed to the U.S. person (and not the non-U.S. person) in

    determining whether either person is an MSP. In other words, the

    Commission proposes to interpret CEA section 2(i) as requiring non-U.S.

    persons to register with the Commission as MSPs when their swaps with

    U.S. persons, disregarding any such positions where their obligations

    thereunder are guaranteed by U.S. persons, exceed a relevant MSP

    threshold as set forth in the Final Entities Rulemaking.

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

    \48\ See Final Entities Rulemaking at part IV.H.

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

    5. Summary

    This proposed interpretation may be summarized as follows. In

    determining whether a non-U.S. person is engaged in more than a de

    minimis level of swap dealing, the person should consider the aggregate

    notional value of:

    Swap dealing transactions between it (or any of its non-

    U.S. affiliates under common control) and a U.S. person (other than

    foreign branches of U.S. persons that are registered swap dealers); and

    Swap dealing transactions (or any swap dealing

    transactions of its non-U.S. affiliates under common control) where its

    obligations or its non-U.S. affiliates' obligations thereunder are

    guaranteed by U.S. persons.

    In determining whether a non-U.S. person holds swap positions above

    the MSP thresholds, the person should consider the aggregate notional

    value of:

    Any swap position between it and a U.S. person (but its

    swap positions where its obligations thereunder are guaranteed by a

    U.S. person generally should be attributed to that U.S. person and not

    included in the non-U.S. person's determination); and

    Any swap between another non-U.S. person and a U.S.

    person, where it guarantees the obligations of the non-U.S. person

    thereunder.

    D. Foreign Branches, Agencies, Affiliates, and Subsidiaries of U.S.

    Swap Dealers and U.S. Branches, Agencies, Affiliates, and Subsidiaries

    of Non-U.S. Swap Dealers

    1. Foreign \49\ Branches and Agencies of U.S. Swap Dealers

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

    \49\ In this release, the term ``foreign'' is used

    interchangeably with the term ``non-U.S.''

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

    The Commission understands that branches and agencies are not

    separate legal entities; rather, a branch or agency is a corporate

    extension of its principal entity.\50\ Given that a foreign branch or

    agency has no legal existence separate from a U.S. principal entity

    that is the legal counterparty to swaps, the Commission would apply the

    Dodd-Frank Act registration requirements to a U.S. person and its

    foreign branches and agencies on an entity-wide basis.\51\ Under this

    approach, the Commission would require the U.S. person (principal

    entity) to register as the swap dealer. Although certain duties and

    obligations may be performed by the foreign branches and agencies, the

    U.S. person (principal entity) would remain responsible for compliance

    with all of the applicable responsibilities.\52\

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

    \50\ See, e.g., Federal Reserve Bank of New York, Foreign Banks

    and the Federal Reserve, at http://www.ny.frb.org/aboutthefed/fedpoint/fed26.html (last visited Feb. 26, 2012). See also Federal

    Reserve Board, ``Policy Statement on the Supervision and Regulation

    of Foreign Banking Organizations,'' Feb. 23, 1979, Federal Reserve

    Regulatory Service 4-835; Federal Reserve Board Supervisory Letter

    SR 08-09 re: Consolidated Supervision of Bank Holding Companies and

    the Combined U.S. Operations of Foreign Banking Organizations, Oct.

    16, 2008. See also Institute of International Bankers, Comment

    Letter at 15-16, Jan. 10, 2011 (acknowledging the principal-agency

    relationship and advocating for the Commission to adopt a

    registration regime predicated on the intermediating activities of

    U.S. branches and agencies).

    \51\ The Commission notes that the supervisory authority of the

    Office of the Comptroller of the Currency extends to foreign branch

    offices of national banks under its jurisdiction.

    \52\ Under this model, the foreign branch or agency of the U.S.

    person would not register separately as a swap dealer.

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

    2. Foreign Affiliates or Subsidiaries of U.S. Persons

    A number of large financial institutions operate a ``central

    booking'' model under which swaps are solicited or negotiated through

    their branches, agencies, affiliates or subsidiaries but are booked,

    directly or indirectly, in a single legal entity (typically the parent

    company) for balance sheet and financial reporting purposes.\53\ In

    some cases, the affiliate which has negotiated the swap may be acting

    as a principal and may transfer the exposure to the central booking

    entity by back-to-back transactions or other arrangements. In other

    cases, the affiliate that has arranged or negotiated the trade may be

    acting as an agent for the central booking entity, in which case the

    central booking entity may enter into the swap transaction so that the

    central booking entity is, as a contractual matter, directly facing the

    third-party counterparty in the swap transaction. Given these various

    ways of implementing a central booking arrangement, the question arises

    as to how the Dodd-Frank Act registration

    [[Page 41222]]

    requirement would apply to the affiliate facing the third party

    counterparty and the central booking entity or guarantor. The following

    subsection addresses which entity must register as a swap dealer in

    such central ``booking'' model.

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

    \53\ See Seven Foreign Banks (``Many foreign banks operate and

    manage their global swaps businesses out of a single entity * * *.

    [T]his entity is the central booking vehicle, acting as principal to

    counterparties in the U.S. and other jurisdictions.'') (Jan. 11,

    2011); IIB (Jan. 10, 2011). These comment letters are available on

    the Commission's Web site at http://comments.cftc.gov/PublicComments/CommentList.aspx?id=903.

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

    The Commission proposes to interpret section 2(i) of CEA so that

    the U.S. person who books the swaps would be required to register as a

    swap dealer, regardless of whether the swaps were directly booked by

    the U.S. person (by such person becoming a party to the swap) or

    indirectly transferred to the U.S. person (by way of a back-to-back

    swap or other arrangement). In either case, the affiliate may also be

    required to register as a swap dealer if by its activities it

    independently meets the definition of swap dealer.

    3. U.S. Branches, Agents, Affiliates, or Subsidiaries of Non-U.S.

    Persons

    A similar analysis applies when a non-U.S. person is the booking

    entity (i.e., the legal counterparty) to swaps.\54\ Under these

    circumstances, even if the U.S. branch, agency, affiliate, or

    subsidiary of a non-U.S. person engages in solicitation or negotiation

    in connection with the swap entered into by the non-U.S. person, the

    Commission proposes to interpret section 2(i) of CEA such that the

    Dodd-Frank Act requirements, including the registration requirement,

    applicable to swap dealers also apply to the non-U.S. person.

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

    \54\ As further described below (in subsection E), a number of

    commenters urge the Commission to treat a branch of a non-U.S. bank

    as a separate legal entity. Extending this logic to the registration

    context, these commenters support the registration and regulation of

    the branch. The Commission notes CEA section 1a(39) (7 U.S.C.

    1a(39)) states that the term ``prudential regulator'' shall mean the

    Board of Governors of the Federal Reserve System in the case of a

    swap dealer, MSP, security-based swap dealer, or major security-

    based swap participant that is--

    (v) any bank holding company [citation omitted], any foreign

    bank (as defined in section 1(b)(7) of the International Banking Act

    of 1978 (12 U.S.C. 3101(b)(7)) that is treated as a bank holding

    company under section 8(a) of the International Banking Act of 1978

    (12 U.S.C. 3106(a)), and any subsidiary of such a company or foreign

    bank (other than a subsidiary that is described in subparagraph (A)

    or (B) or that is required to be registered with the Commission as a

    swap dealer or major swap participant under this Act or with the

    [SEC] as a security-based swap dealer or major security-based swap

    participant).

    Clearly, Congress contemplated that foreign banks that become

    bank holding companies by virtue of the presence of a branch or a

    subsidiary in the United States may be regulated as swap dealers.

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

    Request for Comment

    Q3. Please provide comments regarding all aspects of the

    Commission's proposed interpretation, including particular alternative

    interpretations the Commission should consider in assessing whether a

    non-U.S. person should be required to register as a swap dealer or MSP.

    Q3a. Do commenters agree that the Commission should determine

    whether a non-U.S. person, without a guarantee from a U.S. affiliate,

    is a swap dealer based solely upon the aggregate notional amount of

    swap dealing activities with U.S. persons as counterparties? Why or why

    not?

    Q3b. Do commenters agree that the Commission should determine

    whether a non-U.S. person is a swap dealer based on the aggregate

    notional amount of swap dealing activities when the swap dealing

    obligations of such non-U.S. person are guaranteed by a U.S. person?

    Why or why not?

    Q3c. Do commenters agree that in determining whether a non-U.S.

    person is a swap dealer, the notional amount of swap dealing activities

    conducted by it and all of its non-U.S. affiliates under common control

    should be aggregated together? Why or why not? Should the Commission

    further interpret the phrase ``under common control'' and, if so, how

    should the Commission define ``common control'' for aggregation

    purposes? Should the notional amount of swap dealing activities

    conducted by its U.S. affiliates also be included?

    Q3d. Are any other aspects of a swap--such as, for example, the

    place of execution or clearing--relevant to the determination of

    whether a non-U.S. person is a swap dealer?

    Q3e. Do commenters agree that the Commission should determine

    whether a non-U.S. person is an MSP based solely on its swap positions

    with U.S. persons as counterparties? If not, why?

    Q3f. Do commenters agree that, in determining whether a non-U.S.

    person is an MSP, its swap positions guaranteed by a U.S. person should

    be attributed to such U.S. person and not the non-U.S. person? If not,

    why? How should the Commission's determination change when some but not

    all of the non-U.S. person's swap obligations are guaranteed by a U.S.

    person?

    Q3g. Are any other aspects of a swap--such as the place of

    execution or clearing--relevant to the determination of whether a non-

    U.S. person is an MSP?

    Q4. As noted above, the Commission does not propose that a non-U.S.

    person should include, in determining whether the swap dealer de

    minimis threshold is met, the notional value of swap dealing

    transactions with foreign branches of U.S. swap dealers. Noting the

    risk-based, as opposed to activities-based, nature of the MSP

    registration category and related calculations, the Commission seeks

    comment on whether a non-U.S. person should include, in determining

    whether it is required to register as an MSP, its swap positions with

    foreign branches of U.S. swap dealers.

    Q5. Under the aggregation description above, a non-U.S. person, in

    determining whether the de minimis threshold is met, must include the

    notional value of dealing swaps by its non-U.S. affiliates under common

    control. The Commission requests comments on whether, to the extent

    that any such non-U.S. affiliate is registered with the Commission as a

    swap dealer, the notional value of dealing swaps entered into by such

    registered swap dealer should not be aggregated with the notional value

    of dealing swaps entered into by the other non-U.S. affiliates under

    common control.\55\

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

    \55\ Thus, within an affiliated group of firms, the dealing

    activities of any affiliates that are registered with the Commission

    as swap dealers would not be included in considering whether any of

    the other affiliates are required to register as a swap dealer.

    However, all non-U.S. affiliates under common control that are not

    so registered would have to aggregate the notional value of any swap

    dealing transactions with U.S. persons (or where the obligations of

    such non-U.S. affiliates are guaranteed by U.S. persons) to

    determine if such swap dealing transactions exceed the de minimis

    threshold of swap dealing activity.

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

    Q7. Should the Commission consider any other types of swap dealing

    transactions by non-U.S. persons to determine whether a non-U.S. person

    is a swap dealer? If so, which ones?

    Q8. Do commenters agree that the Commission should exclude the swap

    dealing transactions of a non-U.S. person from the determination of

    whether such non-U.S. person qualifies as a swap dealer, where the

    counterparty to such dealing swaps are non-U.S. persons (guaranteed or

    not)? Should the Commission exclude swap obligations in excess of a

    capped guaranty provided by a U.S. person (i.e., a guaranty that limits

    the U.S. person's liability to a capped or maximum amount)? How should

    the Commission account for the reduced risks assumed by a U.S. person

    guaranteeing certain or all swaps of a particular non-U.S. person under

    that non-U.S. person's master agreements with non-U.S. counterparties,

    where the U.S. person's liability under the guarantee is limited?

    Q9. Can a limited designation registration as provided for in the

    statutory definitions of the terms ``swap dealer'' and ``major swap

    participant'' be used to address the Commission's regulatory interests

    under the Dodd-Frank Act with respect to cross-border swap activities?

    If so, how?

    [[Page 41223]]

    III. Cross-Border Application of the CEA's Swap Provisions and

    Implementing Regulations

    A non-U.S. person who meets or exceeds the de minimis threshold for

    swap dealers or the position thresholds for MSPs would be required to

    register with the Commission as a swap dealer or MSP, respectively,

    pursuant to the procedures prescribed in Part 3 of the Commission's

    regulations.\56\ Once registered, the non-U.S. swap dealer or non-U.S.

    MSP would become subject to all of the substantive requirements under

    Title VII of the Dodd-Frank Act that apply to registered swap dealers

    or MSPs, including but not limited to sections 2(a)(13), 4r, and 4s of

    the CEA, with respect to all of their swap activities. In other words,

    the requirements under Title VII of the Dodd-Frank Act related to swap

    dealers and MSPs apply to all registered swap dealers and MSPs,

    irrespective of where such dealer or MSP is based. In exercising its

    authority over non-U.S. swap dealers, non-U.S. MSPs, or cross-border

    activities, however, the Commission will be informed by canons of

    statutory construction regarding the application of its authority in a

    manner consistent with principles of international comity. A brief

    discussion of these principles follows.

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

    \56\ See 7 U.S.C. 6s(b)(1). See also 77 FR 2613, 2616, Jan. 19,

    2012.

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

    A. Principles of International Comity

    The Supreme Court has held that ``an act of Congress ought never to

    be construed to violate the law of nations if any other possible

    construction remains.'' \57\ Jurisdiction is generally construed, ``to

    avoid unreasonable interference with the sovereign authority of other

    nations.'' \58\ The most relevant Supreme Court precedents addressing

    the application of international comity concepts in determining the

    extraterritorial applicability of federal statutes come from

    antitrust.\59\ In these cases, the Supreme Court has noted that the

    principles in the Third Restatement of Foreign Relations Law are

    relevant to the interpretation of U.S. law:

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

    \57\ Hartford Fire Ins. Co. et al., 509 U.S. 764, 817 (1993); F.

    Hoffmann-La Roche, Ltd., 542 U.S. 155, 164 (2004).

    \58\ F. Hoffmann-La Roche, Ltd., 542 U.S. at 164.

    \59\ See notes 82-84, supra.

    This rule of construction reflects principles of customary

    international law--law that (we must assume) Congress ordinarily

    seeks to follow. See Restatement (Third) of Foreign Relations Law of

    the United States Sec. Sec. 403(1), 403(2) (1986). * * *

    This rule of statutory construction cautions courts to assume

    that legislators take account of the legitimate sovereign interests

    of other nations when they write American laws. It thereby helps the

    potentially conflicting laws of different nations work together in

    harmony--a harmony particularly needed in today's highly

    interdependent commercial world.\60\

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

    \60\ F. Hoffmann-La Roche, Ltd., 542 U.S. at 164-65.

    Specifically, section 403 of the Restatement (Third) of Foreign

    Relations Law states, in relevant part:

    Whether exercise of jurisdiction over a person or activity is

    unreasonable is determined by evaluating all relevant factors,

    including, where appropriate:

    (a) The link of the activity to the territory of the regulating

    state, i.e., the extent to which the activity takes place within the

    territory, or has substantial, direct, and foreseeable effect upon

    or in the territory;

    (b) The connections, such as nationality, residence, or economic

    activity, between the regulating state and the person principally

    responsible for the activity to be regulated, or between that state

    and those whom the regulation is designed to protect;

    (c) The character of the activity to be regulated, the

    importance of regulation to the regulating state, the extent to

    which other states regulate such activities, and the degree to which

    the desirability of such regulation is generally accepted;

    (d) The existence of justified expectations that might be

    protected or hurt by the regulation;

    (e) The importance of the regulation to the international

    political, legal, or economic system;

    (f) The extent to which the regulation is consistent with the

    traditions of the international system;

    (g) The extent to which another state may have an interest in

    regulating the activity; and

    (h) The likelihood of conflict with regulation by another state.

    In accordance with judicial and executive branch precedent and

    guidance in interpreting statutes with cross-border application, the

    Commission proposes that it should exercise its regulatory authority

    over cross-border activities in a manner consistent with these

    principles of statutory construction and international comity.\61\ The

    Commission is therefore guided by these principles as discussed in

    these precedents.\62\

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

    \61\ For a similar consideration of the application of

    principles of international comity by federal agencies in the

    enforcement of the antitrust laws, see U.S. Department of Justice

    and the Federal Trade Commission, Antitrust Enforcement Guidelines

    for International Operations, Apr. 1995, which is available at

    http://www.justice.gov/atr/public/guidelines/internat.htm.

    \62\ The Commission has a longstanding policy of considering

    principles of international comity in its rulemakings and

    interpretations. For example, the Commission adopted regulatory

    amendments that codify its longstanding policy towards foreign

    brokers. See Exemption from Registration for Certain Foreign

    Persons, 72 FR 63976, 63978-79, Nov. 14, 2007. The amendments

    codified a registration exemption for any foreign person functioning

    as an introducing broker, commodity pool operator or commodity

    trading advisor solely on behalf of customers located outside the

    United States, if all commodity interest transactions are submitted

    for clearing to a registered FCM. See id. at 63978-79. In addition,

    the Commission amended Sec. 3.12 of the Commission's regulations to

    codify a registration exemption for any individual located in the

    branch office of a Commission registrant that does not solicit or

    accept orders from customers located in the United States.

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

    B. Proposed Application of the CEA's Swap Provisions to Non-U.S. Swap

    Dealers and Foreign Branches, Agencies, Affiliates, and Subsidiaries of

    U.S. Swap Dealers

    1. Categories of Regulatory Requirements

    Title VII of the Dodd-Frank Act establishes a comprehensive new

    regulatory framework for swap dealers and MSPs. This framework is an

    important element of the ``improve[d] financial architecture'' that

    Congress intended in enacting the Dodd-Frank Act and its goal of

    reducing systemic risk and enhancing market transparency.\63\ Among

    other things, a registered swap dealer or MSP must comport with certain

    standards (and regulations as the Commission may promulgate) governing

    risk management, internal and external business conducts, and

    reporting. Further, U.S. swap dealers and MSPs, once registered, are

    required to comply with all of the requirements applicable to swap

    dealers and MSPs for all their swaps, not just the swaps that make them

    a swap dealer or MSP.

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

    \63\ S. Rep. No. 111-176, at 228 (2010), available at http://www.gpo.gov/fdsys/pkg/CRPT-111srpt176/pdf/CRPT-111srpt176.pdf.

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

    A number of commenters recommended that the Commission, in

    interpreting the cross-border applicability of the Dodd-Frank Act swap

    provisions to a registered swap dealer or MSP, should distinguish

    between requirements that: (i) Apply at an entity level (i.e., to the

    firm as a whole); or (ii) apply at a transactional level (i.e., to the

    individual transaction or trading relationship).\64\ These commenters

    believed that requirements that relate to the core operations of a firm

    should be applied on an entity-level basis and would include the

    capital and related prudential requirements and recordkeeping, as well

    as certain risk mitigation requirements (e.g., information barriers and

    the designation of a chief compliance officer). The commenters stated

    that other requirements, such as margin, should apply on transaction-

    by-transaction basis and only to swaps with U.S. counterparties.\65\

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

    \64\ See, e.g., SIFMA (Feb. 3, 2011), ISDA (Jan. 24, 2011),

    Cleary (Sept. 20, 2011), Seven Foreign Banks (Jan. 11, 2011), and

    Twelve Foreign Banks (Feb. 17, 2011).

    \65\ See SIFMA (Feb. 3, 2011).

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

    The Commission agrees with the commenters that the various Dodd-

    Frank Act swap provisions can be conceptually divided into the

    following

    [[Page 41224]]

    two categories: (i) Entity-Level Requirements, which apply to a swap

    dealer or MSP to the firm as a whole; and (ii) Transactional-Level

    Requirements, which apply to the individual swap. A discussion of the

    Entity-Level Requirements is set out in the section immediately below,

    followed by discussions of the Transaction-Level Requirements.

    2. Entity-Level Requirements

    The Entity-Level Requirements under Title VII of the Dodd-Frank Act

    and the Commission's regulations promulgated thereunder relate to: (i)

    Capital adequacy; (ii) chief compliance officer; (iii) risk management;

    (iv) swap data recordkeeping; (v) swap data reporting (``SDR

    Reporting''); and (vi) physical commodity swaps reporting (``Large

    Trader Reporting''). The Entity-Level Requirements apply to registered

    swap dealers and MSPs across all their swaps without distinctions as to

    the counterparty or the location of the swap.

    The first subcategory of Entity-Level Requirements relating to

    capital adequacy, chief compliance officer, risk management, and swap

    data recordkeeping relate to risks to a firm as a whole. These

    requirements address and manage risks that arise from a firm's

    operation as a swap dealer or MSP. Individually, they represent a key

    component of a firm's internal risk controls. Collectively, they

    constitute a firm's first line of defense against financial,

    operational, and compliance risks that could lead to a firm's default

    or failure.

    At the core of a robust internal risk controls system is the firm's

    capital--and particularly, how the firm identifies and manages its risk

    exposure arising from its portfolio of activities.\66\ Equally

    foundational to the financial integrity of a firm is an effective

    internal risk management process, which must be comprehensive in scope

    and reliant on timely and accurate data regarding its swap activities.

    To be effective, such system must have a strong and independent

    compliance function. These internal controls-related requirements--

    namely, the requirements related to chief compliance officer, risk

    management, swap data recordkeeping--are designed to serve that end.

    Given their functions, this subcategory of Entity-Level Requirements

    must be applied on a firm-wide basis to effectively address risks to

    the swap dealer or MSP as a whole.

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

    \66\ By way of illustration, consistent with the purpose of the

    capital requirement, which is intended to reduce the likelihood and

    cost of a swap dealer's default by requiring a financial cushion, a

    swap dealer's or MSP's capital requirements would be set on the

    basis of its overall portfolio of assets and liabilities.

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

    The second subcategory of Entity-Level Requirements, namely, SDR

    Reporting and Large Trader Reporting, relates more closely to the

    Commission's market surveillance program. Among other things, data

    reported to swap data repositories (``SDRs'') will enhance the

    Commission's understanding of concentrations of risks within the

    market, as well as promote a more effective monitoring of risk profiles

    of market participants in the swaps market. Large Trader Reporting,

    along with an analogous reporting system for futures contracts, is

    essential to the Commission's ability to conduct effective surveillance

    of the futures market and their economically equivalent swaps. Given

    the functions of these reporting requirements, each must be applied

    across swaps, irrespective of the counterparty or the location of the

    swap, in order to ensure that the Commission has a comprehensive and

    accurate picture of market activities. Otherwise, the intended benefits

    of these Entity-Level Requirements would be significantly compromised,

    if not undermined. Each of the Entity-Level Requirements is discussed

    in the subsections that follow.

    i. Capital Requirements

    Section 4s(e)(3)(A) of the CEA specifically directs the Commission

    to set capital requirements for swap dealers and MSPs that are not

    subject to the capital requirements of prudential regulators

    (hereinafter referred to as ``non-bank swap dealers or MSPs'').\67\

    These requirements must: ``(1) [h]elp ensure the safety and soundness

    of the swap dealer or major swap participant; and (2) [be] appropriate

    for the risk associated with the non-cleared swaps held as a swap

    dealer or major swap participant.'' \68\ Pursuant to section 4s(e)(3),

    the Commission proposed regulations, which would require non-bank swap

    dealers and MSPs to hold a minimum level of adjusted net capital (i.e.,

    ``regulatory capital'') based on whether the non-bank swap dealer or

    MSP is: (i) Also a futures commission merchant (``FCM''); (ii) not an

    FCM, but is a non-bank subsidiary of a bank holding company; or (iii)

    neither an FCM nor a non-bank subsidiary of a bank holding company.\69\

    The purpose of the capital requirement is to reduce the likelihood and

    cost of a swap dealer's or MSP's default by requiring a financial

    cushion that can absorb losses in the event of the firm's default.

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

    \67\ See 7 U.S.C. 6s(e)(3)(A). Section 4s(e) of the CEA

    explicitly requires the adoption of rules establishing capital and

    margin requirements for swap dealers and MSPs, and applies a

    bifurcated approach that requires each swap dealer and MSP for which

    there is a prudential regulator to meet the capital and margin

    requirements established by the applicable prudential regulator, and

    each swap dealer and MSP for which there is no prudential regulator

    to comply with the Commission's capital and margin regulations. See

    7 U.S.C. 6s(e). Further, systemically important financial

    institutions (``SIFIs'') that are not futures commission merchants

    would be exempt from the Commission's capital requirements, and

    would comply instead with Federal Reserve Board requirements

    applicable to SIFIs, while nonbank (and non-futures commission

    merchant) subsidiaries of U.S. bank holding companies would

    calculate their Commission capital requirement using the same

    methodology specified in Federal Reserve Board regulations

    applicable to the bank holding company, as if the subsidiary itself

    were a bank holding company. The term ``prudential regulator'' is

    defined in CEA section 1a(39) as the Board of Governors of the

    Federal Reserve System, the Office of the Comptroller of the

    Currency, the Federal Deposit Insurance Corporation, the Farm Credit

    Administration, and the Federal Housing Finance Agency. See 7 U.S.C.

    1a(39).

    \68\ See 7 U.S.C. 6s(e)(3)(A).

    \69\ See 7 U.S.C. 6s(e). See also Capital Requirements of Swap

    Dealers and Major Swap Participants, 76 FR 27802, May 12, 2011.

    ``The Commission's capital proposal for [swap dealers] and MSPs

    includes a minimum dollar level of $20 million. A non-bank [swap

    dealer] or MSP that is part of a U.S. bank holding company would be

    required to maintain a minimum of $20 million of Tier 1 capital as

    measured under the capital rules of the Federal Reserve Board. [A

    swap dealer] or MSP that also is registered as an FCM would be

    required to maintain a minimum of $20 million of adjusted net

    capital as defined under [proposed] section 1.17. In addition, a

    [swap dealer] or MSP that is not part of a U.S. bank holding company

    or registered as an FCM would be required to maintain a minimum of

    $20 million of tangible net equity, plus the amount of the [swap

    dealer's] or MSP's market risk exposure and OTC counterparty credit

    risk exposure.'' See id. at 27817.

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

    ii. Chief Compliance Officer

    Section 4s(k) requires that each swap dealer and MSP designate an

    individual to serve as its chief compliance officer (``CCO'') and

    specifies certain duties of the CCO.\70\ Pursuant to section 4s(k), the

    Commission recently adopted Sec. 3.3, which requires swap dealers and

    MSPs to designate a CCO who would be responsible for administering the

    firm's compliance policies and procedures, reporting directly to the

    board of directors or a senior officer of the swap dealer or MSP, as

    well as preparing and filing with the Commission a certified report of

    compliance with the CEA.\71\ The chief compliance function is an

    integral element of a firm's risk management and oversight and the

    Commission's effort to foster a strong culture of compliance within

    swap dealers and MSPs.

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

    \70\ See 7 U.S.C. 6s(k).

    \71\ See 17 CFR 3.3.

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

    [[Page 41225]]

    iii. Risk Management

    Section 4s(j) of the CEA requires each swap dealer and MSP to

    establish internal policies and procedures designed to, among other

    things, address risk management, monitor compliance with position

    limits, prevent conflicts of interest, and promote diligent

    supervision, as well as maintain business continuity and disaster

    recovery programs.\72\ The Commission recently adopted implementing

    sections 23.600, 23.601, 23.602, 23.603, 23.605, 23.606, and 23.607 of

    its regulations.\73\ The Commission also recently adopted section

    23.609 of its regulations, which requires certain risk management

    procedures for swap dealers or MSPs that are clearing members of a

    derivatives clearing organization (``DCO'').\74\ Collectively, these

    requirements help to establish a robust and comprehensive internal risk

    management program for swap dealers and MSPs, which is critical to

    effective systemic risk management for the overall swaps market.

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

    \72\ 7 U.S.C. 6s(j).

    \73\ 7 CFR 23.600, 23.601, 23.602, 23.603, 23.605, 23.606, and

    23.607; see also Swap Dealer and Major Swap Participant

    Recordkeeping, Reporting, and Duties Rule, Futures Commission

    Merchant and Introducing Broker Conflicts of Interest Rule, and

    Chief Compliance Officer Rules for Swap Dealers, Major Swap

    Participants, and Futures Commission Merchants, 77 FR 20128, Apr. 3,

    2012 (relating to risk management program, monitoring of position

    limits, business continuity and disaster recovery, conflicts of

    interest policies and procedures, general information availability,

    and antitrust considerations, respectively).

    \74\ 17 CFR 23.609, see also Customer Clearing Documentation,

    Timing of Acceptance for Clearing, and Clearing Member Risk

    Management, 77 FR 21278, Apr. 9, 2012. Also, swap dealers must

    comply with Sec. 23.608, which prohibits swap dealers providing

    clearing services to customers from entering into agreements that

    would: (i) Disclose the identity of a customer's original executing

    counterparty; (ii) limit the number of counterparties a customer may

    trade with; (iii) impose counterparty-based position limits; (iv)

    impair a customer's access to execution of a trade on terms that

    have a reasonable relationship to the best terms available; or (v)

    prevent compliance with specified time frames for acceptance of

    trades into clearing.

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

    iv. Swap Data Recordkeeping

    CEA section 4s(f)(1)(B) requires swap dealers and MSPs to keep

    books and records for all activities related to their business.\75\

    Section 4s(g)(1) requires swap dealers and MSPs to maintain trading

    records for each swap and all related records, as well as a complete

    audit trail for comprehensive trade reconstructions.\76\ Pursuant to

    these provisions, the Commission adopted Sec. Sec. 23.201 and 23.203,

    which require swap dealers and MSPs to keep records including complete

    transaction and position information for all swap activities, including

    documentation on which trade information is originally recorded.\77\

    Swap dealers and MSPs also must comply with Part 46 of the Commission's

    regulations, which addresses the recordkeeping requirements for swaps

    entered into before the date of enactment of the Dodd-Frank Act (``pre-

    enactment swaps'') and data relating to swaps entered into on or after

    the date of enactment but prior to the compliance date of the swap data

    reporting rules (``transition swaps'').\78\

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

    \75\ 7 U.S.C. 6s(f)(1)(B).

    \76\ 7 U.S.C. 6s(g)(1).

    \77\ 17 CFR 23.201 and 23.203; see also 77 FR 20128, Apr. 3,

    2012. These requirements also require a swap dealer to provide the

    Commission with regular updates concerning its financial status, as

    well as information concerning internal corporate procedures.

    \78\ 17 CFR 46.1 et seq.; Swap Data Recordkeeping and Reporting

    Requirements: Pre-Enactment and Transition Swaps, 76 FR 22833, Apr.

    25, 2011.

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

    v. Swap Data Reporting

    CEA section 2(a)(13)(G) requires all swaps, whether cleared or

    uncleared, to be reported to a registered SDR.\79\ CEA section 21

    requires SDRs to collect and maintain data related to swaps as

    prescribed by the Commission, and to make such data electronically

    available to regulators.\80\ Swap dealers and MSPs would be required to

    comply with Part 45 of the Commission's regulations, which sets forth

    the specific transaction data that reporting counterparties and

    registered entities must report to a registered SDR; and Part 46, which

    addresses the recordkeeping requirements for pre-enactment swaps and

    data relating to transition swaps. Among other things, data reported to

    SDRs will enhance the Commission's understanding of concentrations of

    risks within the market, as well as promote a more effective monitoring

    of risk profiles of market participants in the swaps market. The

    Commission also believes that there are benefits that will accrue to

    swap dealers and MSPs as a result of the timely reporting of

    comprehensive swap transactional data and consistent data standards for

    recordkeeping, among other things. Such benefits include more robust

    risk monitoring and management capabilities for swap dealers and MSPs,

    which in turn will improve the monitoring of their current swap market

    positions.

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

    \79\ 7 U.S.C. 2(a)(13)(G).

    \80\ 7 U.S.C. 24a.

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

    vi. Physical Commodity Swaps Reporting (Large Trader Reporting)

    CEA section 4t \81\ authorizes the Commission to establish a large

    trader reporting system for significant price discovery swaps (of which

    economically equivalent swaps subject to part 20 reporting are a

    subset) in order to implement the statutory mandate in CEA section 4a

    \82\ for the Commission to establish and monitor position limits, as

    appropriate, for physical commodity swaps. Pursuant thereto, the

    Commission adopted part 20 rules requiring swap dealers, among other

    entities, to submit routine position reports on certain physical

    commodity swaps and swaptions.\83\ Additionally, part 20 rules require

    that swap dealers, among other entities, comply with certain

    recordkeeping obligations.

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

    \81\ 7 U.S.C. 6t.

    \82\ 7 U.S.C. 6a.

    \83\ Large Trader Reporting for Physical Commodity Swaps, 76 FR

    43851, July 22, 2011. The rules require regular position reporting

    and recordkeeping by clearing organizations, clearing members, and

    swap dealers for any principal or counterparty accounts with

    reportable position in physical commodity swaps. In general, the

    rules apply to swaps that are linked to either the price of any of

    the 46 physical commodity futures contracts the Commission

    enumerates (Covered Futures Contracts) or the price of the physical

    commodity at the delivery location of any of the Covered Futures

    Contracts.

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

    3. Transaction-Level Requirements

    The Transaction-Level Requirements under Title VII of the Dodd-

    Frank Act and the Commission's regulations (proposed or adopted)

    include: (i) Clearing and swap processing; (ii) margining and

    segregation for uncleared swaps; (iii) trade execution; (iv) swap

    trading relationship documentation; (v) portfolio reconciliation and

    compression; (vi) real-time public reporting; (vii) trade confirmation;

    (viii) daily trading records; and (ix) external business conduct

    standards.

    The Transaction-Level Requirements--with the exception of external

    business conduct standards--relate to both risk mitigation and market

    transparency. Certain of these requirements, such as clearing and

    margining, serve to lower a firm's risk of failure. In that respect,

    these Transaction-Level Requirements could be classified as Entity-

    Level Requirements. Other Transaction-Level Requirements--such as trade

    confirmation, swap trading relationship documentation, and portfolio

    reconciliation and compression--also serve important risk mitigation

    functions, but are less closely connected to risk mitigation of the

    firm as a whole and thus are more appropriately applied

    [[Page 41226]]

    on a transaction-by-transaction basis. Likewise, the requirements

    related to trade execution, trade confirmation, daily trading records,

    and real-time public reporting have a closer nexus to the transparency

    goals of the Dodd-Frank Act, as opposed to addressing the risk of a

    firm's failure.

    As a result, whether a particular Dodd-Frank Act requirement should

    apply on a transaction-by-transaction basis in the context of cross-

    border activity for purposes of section 2(i) of the CEA requires the

    Commission to exercise some degree of judgment, including

    considerations of international comity. Each of the Transaction-Level

    Requirements is discussed below.

    i. Clearing and Swap Processing

    Section 2(h) of the CEA requires a swap to be submitted for

    clearing to a DCO if the Commission has determined that the swap is

    required to be cleared, unless one of the parties to the swap is

    eligible for an exception from the clearing requirement and elects not

    to clear the swap.\84\ Clearing via a DCO eliminates the risk of

    settlement for swap dealers or MSPs and their counterparties. Closely

    interlocked with the clearing requirement are the following swap

    processing requirements: (i) The recently finalized Sec. 23.506, which

    requires swap dealers and MSPs to submit swaps promptly for clearing;

    and (ii) Sec. 23.610, which establishes certain standards for swap

    processing by swap dealers and MSPs that are clearing members of a

    DCO.\85\ Together, the clearing and swap processing requirements

    promote safety and soundness of swap dealers and MSPs, and aim to

    protect their counterparties from the risk of a default.

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

    \84\ 7 U.S.C. 2(h)(1), (7).

    \85\ 17 CFR 23.506, 23.610 and Customer Clearing Documentation,

    Timing of Acceptance for Clearing, and Clearing Member Risk

    Management, 77 FR 21278, Apr. 9, 2012.

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

    ii. Margin and Segregation Requirements for Uncleared Swaps

    Section 4s(e) of the CEA requires the Commission to set margin

    requirements for swap dealers (and MSPs) that trade in swaps that are

    not cleared.\86\ The margin requirements aim to reduce the risk of swap

    dealers, MSPs, and their counterparties taking on excessive risks posed

    by uncleared swaps without having adequate financial backing to fulfill

    their obligations under the swap. In addition, with respect to swaps

    that are not submitted for clearing, section 4s(l) requires that a swap

    dealer or MSP notify the counterparty of its right to require

    segregation of funds provided as margin, and upon such request, to

    segregate the funds with a third-party custodian for the benefit of the

    counterparty. In this way, the segregation requirement enhances the

    safety of margin and thereby provides additional financial protection

    to counterparties.

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

    \86\ See 7 U.S.C. 6s(e). See also Margin Requirements for

    Uncleared Swaps for Swap Dealers and Major Swap Participants, 76 FR

    23732, 23733-40, Apr. 28, 2011. Section 4s(e) explicitly requires

    the adoption of rules establishing margin requirements for swap

    dealers and MSPs, and applies a bifurcated approach that requires

    each swap dealer and MSP for which there is a prudential regulator

    to meet the margin requirements established by the applicable

    prudential regulator, and each swap dealer and MSP for which there

    is no prudential regulator to comply with the Commission's margin

    regulations. In contrast, the segregation requirements in section

    4s(1) do not use a bifurcated approach--that is, all swap dealers

    and MSPs are subject to the Commission's rule regarding notice and

    third party custodians for margin collected for uncleared swaps.

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

    iii. Trade Execution Requirement

    Integrally linked to the clearing requirement is the trade

    execution requirement, which is intended to bring the trading of

    mandatorily cleared swaps onto regulated exchanges. Specifically,

    section 2(h)(8) of the CEA provides that unless a clearing exception

    applies and is elected, a swap that is subject to a clearing

    requirement must be executed on a designated contract market (``DCM'')

    or swap execution facility (``SEF''), unless no such DCM or SEF makes

    the swap available to trade.\87\ By requiring the trades of mandatorily

    cleared swaps to be executed on an exchange--with its attendant pre-

    and post-trade transparency and safeguards to ensure market integrity--

    the trade execution requirement furthers the statutory goals of

    financial stability, market efficiency and enhanced transparency.

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

    \87\ See 7 U.S.C. 2(h)(8).

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

    iv. Swap Trading Relationship Documentation

    CEA Section 4s(i) requires each swap dealer and MSP to conform to

    Commission standards for the timely and accurate confirmation,

    processing, netting, documentation and valuation of swaps. Pursuant

    thereto, the Commission has proposed Sec. 23.504(a) of its

    regulations, which would require swap dealers and MSPs to ``establish,

    maintain and enforce written policies and procedures'' to ensure that

    the swap dealer or MSP executes written swap trading relationship

    documentation.\88\ Under proposed Sec. Sec. 23.505(b)(1), 23.504

    (b)(3), and 23.504(b)(4) of the Commission's regulations, the swap

    trading relationship documentation must include, among other things:

    all terms governing the trading relationship between the swap dealer or

    MSP and its counterparty; credit support arrangements; investment and

    re-hypothecation terms for assets used as margin for uncleared swaps,

    and custodial arrangements.\89\ Further, the swap trading relationship

    documentation requirement applies to all swaps with registered swap

    dealers and MSPs. A robust swap documentation standard may promote

    standardization of documents and transactions, which are key conditions

    for central clearing, and lead to other operational efficiencies,

    including improved valuation and risk management.

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

    \88\ See Swap Trading Relationship documentation Requirements

    for Swap Dealers and Major Swap Participants, 76 FR 6715, Feb. 8,

    2011.

    \89\ The requirements under section 4s(i) relating to trade

    confirmations is a Transaction-Level Requirement. Accordingly,

    proposed section 23.504(b)(2), which requires a swap dealer's and

    MSP's swap trading relationship documentation to include all

    confirmations of swaps, will apply on a transaction-by-transaction

    basis.

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

    v. Portfolio Reconciliation and Compression

    CEA section 4s(i) directs the Commission to prescribe regulations

    for the timely and accurate processing and netting of all swaps entered

    into by swap dealers and MSPs. Pursuant to CEA section 4s(i), the

    Commission proposed Sec. Sec. 23.502 and 23.503 of its regulations,

    which would require swap dealers and MSPs to perform portfolio

    reconciliation and compression, respectively, for all swaps.\90\

    Portfolio reconciliation is a post-execution risk management tool to

    ensure accurate confirmation of a swap's terms and to identify and

    resolve any discrepancies between counterparties regarding the

    valuation of the swap. Portfolio compression is a post-trade processing

    and netting mechanism that is intended to ensure timely, accurate

    processing and netting of swaps.\91\ Proposed Sec. 23.503(c) would

    require all swap dealers and MSPs to participate in bilateral

    compression exercises and/or multilateral portfolio compression

    exercises conducted by their self-regulatory organizations (``SROs'')

    or DCOs of which they are members.\92\ Further, participation in

    multilateral

    [[Page 41227]]

    portfolio compression exercises is mandatory for dealer-to-dealer

    trades.

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

    \90\ See Confirmation, Portfolio Reconciliation, and Portfolio

    Compression Requirements for Swap Dealers and Major Swap

    Participants, 75 FR 81519, Dec. 28, 2010.

    \91\ For example, the reduced transaction count may decrease

    operational risk as there are fewer trades to maintain, process and

    settle.

    \92\ See 17 CFR 23.503(c), 75 FR 81519, Dec. 28, 2010.

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

    vi. Real-Time Public Reporting

    Section 2(a)(13) of the CEA directs the Commission to promulgate

    rules providing for the public availability of swap transaction data on

    a real time basis.\93\ In accordance with this mandate, the Commission

    promulgated part 43 of its rules on December 20, 2011, which provide

    that all ``publicly reportable swap transactions'' must be reported and

    publicly disseminated.\94\ The real-time dissemination of swap

    transaction and pricing data supports the fairness and efficiency of

    markets and increases transparency, which in turn improves price

    discovery and decreases risk (e.g., liquidity risk).\95\

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

    \93\ See 7 U.S.C. 2(a)(13). See also Real-Time Public Reporting

    of Swap Transaction Data, 77 FR 1182, 1183, Jan. 9, 2012.

    \94\ Part 43 defines a ``publicly reportable swap transaction''

    as (i) any swap that is an arm's-length transaction between two

    parties that results in a corresponding change in the market risk

    position between the two parties; or (ii) any termination,

    assignment, novation, exchange, transfer, amendment, conveyance, or

    extinguishing of rights or obligations of a swap that changes the

    pricing of a swap. See 77 FR 1182, Jan. 9, 2012.

    \95\ See 77 FR 1182, 1183.

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

    vii. Trade Confirmation

    Section 4s(i) of the CEA \96\ requires that each swap dealer and

    MSP must comply with the Commission's regulations prescribing timely

    and accurate confirmation of swaps. The Commission has proposed Sec.

    23.501, which requires, among other things, a timely and accurate

    confirmation of all swaps and life cycle events for existing swaps.\97\

    Timely and accurate confirmation of swaps--together with portfolio

    reconciliation and compression--are important post-trade processing

    mechanisms for reducing risks and improving operational efficiency.\98\

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

    \96\ 7 U.S.C. 6s(i).

    \97\ See 17 CFR 23.501; see also 75 FR 81519, Dec. 28, 2010.

    \98\ In addition, the Commission notes that proposed Sec.

    23.504(b)(2) requires a swap dealer's and MSP's swap trading

    relationship to include all confirmations of swaps.

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

    viii. Daily Trading Records

    Pursuant to section CEA 4s(g)(1), the Commission adopted Sec.

    23.202 of its regulations, which requires swap dealers and MSPs to

    maintain daily trading records, including records of trade information

    related to pre-execution, execution, and post-execution data that is

    needed to conduct a comprehensive and accurate trade reconstruction for

    each swap. The final rule also requires that records be kept of cash or

    forward transactions used to hedge, mitigate the risk of, or offset any

    swap held by the swap dealer or MSP.\99\ Accurate and timely

    recordkeeping regarding all phases of a swap can serve to greatly

    enhance a firm's internal supervision, as well as the Commission's

    ability to detect and address market abuses.

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

    \99\ See Swap Dealer and Major Swap Participant Recordkeeping,

    Reporting, and Duties Rules; Futures Commission Merchant and

    Introducing Broker Conflicts of Interest Rules; and Chief Compliance

    Officer Rules for Swap Dealers, Major Swap Participants, and Futures

    Commission Merchants, 77 FR 20128, Apr. 3, 2012.

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

    ix. External Business Conduct Standards

    Pursuant to CEA section 4s(h), the Commission has adopted external

    business conduct rules, which establish business conduct standards

    governing the conduct of swap dealers and MSPs in dealing with their

    counterparties in entering into swaps.\100\ Broadly speaking, these

    rules are designed to enhance counterparty protection by significantly

    expanding the obligations of swap dealers and MSPs towards their

    counterparties. Under these rules, swap dealers and MSPs will be

    required, among other things, to conduct due diligence on their

    counterparties to verify eligibility to trade, provide disclosure of

    material information about the swap to their counterparties, provide a

    daily mid-market mark for uncleared swaps and, when recommending a swap

    to a counterparty, make a determination as to the suitability of the

    swap for the counterparty based on reasonable diligence concerning the

    counterparty.

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

    \100\ See 7 U.S.C. 6s(h). See also Business Conduct Standards

    for Swap Dealers and Major Swap Participants With Counterparties, 77

    FR 9734, 9822-29, Feb. 17, 2012.

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

    4. Application of the Entity-Level Requirements \101\

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

    \101\ Appendix A in this release provides a chart describing the

    application of the Entity-Level Requirements to U.S. and non-U.S.

    swap dealers and MSPs.

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

    The Dodd-Frank Act takes a comprehensive and integrated approach to

    the regulation of the swaps market. The first subcategory of Entity-

    Level Requirements, relating to capital adequacy, chief compliance

    officer, risk management, and swap data recordkeeping are at the heart

    of such framework. Specifically, these Entity-Level Requirements ensure

    that registered swap dealers and MSPs implement and maintain a

    comprehensive and robust system of internal controls to ensure the

    financial integrity of the firm, and in turn, the protection of the

    financial system. In this respect, the Commission has strong

    supervisory interests in applying the same rigorous standards, or

    comparable standards, to non-U.S. swap dealers and non-U.S. MSPs whose

    swaps activities or positions are substantial enough to require

    registration under the CEA. Requiring such swap dealers and MSPs to

    rigorously monitor and address the risks they incur as part of their

    day-to-day businesses would lower the registrants' risk of default--and

    ultimately protect the public and the financial system.

    Therefore, the Commission proposes to interpret CEA section 2(i) so

    as to require that registered non-U.S. swap dealers and non-U.S. MSPs

    comply with all of the first subcategory of Entity-Level

    Requirements.\102\ In consideration of principles of international

    comity, the Commission further proposes to interpret CEA section 2(i)

    so as to permit substituted compliance with foreign regulations for

    these Entity-Level Requirements in certain circumstances. The

    circumstances in which the Commission proposes to consider permitting

    substituted compliance are explained below in the Section III.C. of

    this proposed interpretative guidance.

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

    \102\ As discussed above in Section II.D of this proposed

    interpretive guidance, the Commission considers foreign branches and

    agencies of U.S. swap dealers to be the agents of their U.S. person.

    Thus, in all instances, the U.S. swap dealer would be responsible

    for complying with all Entity-Level Requirements.

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

    With respect to SDR Reporting, the Commission believes that direct

    access to data concerning all swaps in which a registered swap dealer

    or MSP enters is essential in order for the Commission to carry out its

    supervisory mandates concerning, among other things, increased

    transparency, systemic risk mitigation, market monitoring, and market

    abuse prevention. For example, data reported to SDRs would be critical

    to ensure that the Commission has a comprehensive and accurate picture

    of swap dealers and MSPs that are its registrants, including the gross

    and net counterparty exposures of swaps of all swap dealers and MSPs,

    to the greatest extent possible. Similarly, swap data reported by swap

    dealers to the Commission under Large Trader Reporting is critical to

    the Commission's ability to effectively monitor and oversee the swaps

    market.

    For these reasons, the Commission proposes to interpret CEA section

    2(i) so as to require non-U.S. swap dealers and non-U.S. MSPs to report

    all of their swaps to a registered SDR \103\ and to require non-U.S.

    swap dealers to report

    [[Page 41228]]

    all of their reportable positions under part 20. At the same time, the

    Commission recognizes the interests of foreign jurisdictions with

    respect to swaps between a non-U.S. swap dealer or non-U.S. MSP with a

    non-U.S. counterparty and therefore, further interprets CEA section

    2(i) so as to permit substituted compliance with comparable foreign

    regimes for SDR Reporting and Large Trader Reporting.

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

    \103\ See 7 U.S.C. 2(a)(13)(G). See also 77 FR at 2197-2211.

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

    5. Application of the Transaction-Level Requirements \104\

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

    \104\ Appendix B in this release provides charts describing the

    application of the Transaction-Level Requirements to U.S. and non-

    U.S. swap dealers and MSPs.

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

    As discussed above, Transaction-Level Requirements serve to

    mitigate risks to swap dealers and MSPs and their counterparties, to

    promote greater market transparency and efficiency in the U.S. swaps

    market, and to provide counterparty protections. The Commission has a

    strong supervisory interest in ensuring that these Dodd-Frank Act

    requirements apply to swaps between a registered swap dealer or MSP

    (regardless of whether they are a U.S. person or non-U.S. person) and

    U.S. persons as counterparties, with a limited exception. Accordingly,

    the Commission proposes to interpret section 2(i) in a manner so as to

    require non-U.S. swap dealers and non-U.S. MSPs to comply with

    Transaction-Level Requirements for all of their swaps with U.S.

    persons, other than foreign branches of U.S. persons, as

    counterparties.\105\ Consistent with the foregoing rationale, in most

    cases, the Commission does not intend to permit substituted compliance

    for the Transaction-Level Requirements for swaps between non-U.S. swap

    dealers or non-U.S. MSPs and U.S. persons.\106\ The following

    discussion provides proposed guidance on the application of the

    Transaction-Level Requirements to swaps by non-U.S. swap dealers and

    non-U.S. MSPs with non-U.S. counterparties.

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

    \105\ Moreover, the U.S. counterparties, as well as the non-U.S.

    swap dealers and non-U.S. MSPs, may have an expectation that the

    Dodd-Frank Act will extend to them and their swaps.

    \106\ Section III.D. (below) addresses the application of the

    Entity and Transaction-Level Requirements to branches, agencies,

    subsidiaries, and affiliates of U.S. swap dealers.

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    i. Clearing and Swap Processing, Margin (and Segregation), Trade

    Execution, Swap Trading Relationship Documentation, Portfolio

    Reconciliation and Compression, Real-Time Public Reporting, Trade

    Confirmation, and Daily Trading Records

    With respect to swaps between non-U.S. swap dealers or non-U.S.

    MSPs and non-U.S. counterparties, the Commission proposes to interpret

    section 2(i) so as to require non-U.S. swap dealers and non-U.S. MSPs

    to comply with the clearing and swap processing and margin (and

    segregation) requirements for swaps where the non-U.S. counterparty's

    performance is guaranteed by (or otherwise supported by) a U.S.

    person.\107\ The Commission interprets section 2(i) in this manner

    because where a non-U.S. counterparty's swap obligations are guaranteed

    by a U.S. person, the risk of non-performance by the counterparty rests

    with the U.S. person. If the non-U.S. person defaults on its

    obligations under the swaps, then the U.S. person guarantor will be

    held responsible (or would bear the cost) to settle those obligations.

    In circumstances in which a U.S. person ultimately bears the risk of

    non-performance of a counterparty to a swap with a non-U.S. swap dealer

    or non-U.S. MSP, the Commission has a strong regulatory interest in the

    performance of the swap by both parties to the swap, and hence the

    application of these Transaction-Level Requirements with respect to

    such swaps is warranted. In consideration of international comity

    principles, the Commission further interprets CEA section 2(i) so as to

    permit substituted compliance for these Transaction-Level

    Requirements.\108\

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    \107\ As noted above in Section II.B of this proposed

    interpretive guidance, risk may be imported into the U.S. In these

    circumstances, and regardless of whether the non-U.S. swap dealer's

    counterparty is a U.S. person or a non-U.S. person, the risk of

    default by the non-U.S. swap dealer with respect to its swap dealing

    transactions ultimately rests with a U.S. person.

    \108\ Below (in Section IV), the Commission describes the

    specific circumstances under which it proposes to permit compliance

    with a foreign regulatory regime's clearing requirement for swaps

    entered into by non-U.S. swap dealers, non-U.S. MSPs, and other non-

    U.S. market participants in lieu of compliance with a Commission-

    issued clearing requirement.

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    Similarly, the requirements relating to portfolio reconciliation

    and compression can serve to significantly mitigate risks to the

    counterparties, and by extension, the U.S. person guaranteeing the non-

    U.S. counterparty's obligations under the swap. Specifically, portfolio

    reconciliation serves to diminish the risk of disputes for the

    counterparties. Portfolio compression also has the effect of lowering

    the risk for the counterparties by diminishing operational risks. Other

    Transaction-Level Requirements--trade confirmation, swap trading

    relationship documentation, and daily trading records--by ensuring that

    swaps are properly documented and recorded, serve to protect the

    counterparties, as well as the U.S. person that is the guarantor.\109\

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

    \109\ As noted above, the portfolio compression and swap trading

    relationship documentation requirements apply to all swaps between

    registered swap dealers. Thus, where the non-U.S. counterparty is

    another U.S.-registered swap dealer, these Transaction-Level

    Requirements apply. The Commission believes that this inclusive

    approach is necessary given the significant role registered swap

    dealers play in the swaps market.

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

    The Commission also proposes to interpret section 2(i) so as to

    require non-U.S. swap dealers and non-U.S. MSPs to comply with the

    trade execution requirement for swaps where the non-U.S. counterparty's

    performance is guaranteed by a U.S. person.

    The trade execution requirement is linked to the clearing

    requirement and for that reason, should be treated in same manner as

    the clearing requirement for regulatory purposes, which better ensures

    the effectiveness of the clearing and trading mandates. Requiring swaps

    to be traded on a regulated exchange provides market participants with

    greater pre- and post-trade transparency. Similarly, real-time public

    reporting improves price discovery by requiring that swap transaction

    and pricing data be made publicly available. Together, trade execution

    and real-time reporting requirements provide important information for

    risk management purposes and bring greater efficiency to the

    marketplace--to the benefit of the individual counterparties. As with

    the other Transaction-Level Requirements, the Commission further

    interprets CEA section 2(i), consistent with comity principles, so as

    to permit substituted compliance with respect to these transactions.

    Similar concerns regarding the flow of risk to the United States

    are raised by an entity that effectively operates as a ``conduit'' for

    a U.S. person to execute swaps outside the Dodd-Frank Act regime. The

    Commission recognizes that such conduits may be used legitimately to

    move economic risks from one person within a corporate group to another

    in order to manage the group's overall swap portfolio. The Commission

    also recognizes that, in many cases, the

    [[Page 41229]]

    conduits could be subject to prudential and risk management

    requirements and may lay off the risk of its dealing activities on an

    individual or portfolio basis through transactions that would be

    subject to and reported under the Dodd-Frank Act.

    Nevertheless, the Commission is concerned that given the nature of

    the relationship between the conduit and the U.S. person, the U.S.

    person is directly exposed to risks from and incurred by the conduit.

    The Commission is further concerned that rather than execute a swap

    opposite a U.S. counterparty, which would be subject to the Dodd-Frank

    transactional requirements, a U.S. swap dealer or MSP could execute a

    swap with its foreign affiliate or subsidiary, which could then execute

    a swap with a non-U.S. third-party in a jurisdiction that is

    unregulated or lack comparable transactional requirements. Accordingly,

    the Commission proposes to apply these Transaction-Level Requirements

    to swaps in which: (i) A non-U.S. counterparty is majority-owned,

    directly or indirectly, by a U.S. person; (ii) the non-U.S.

    counterparty regularly enters into swaps with one or more other U.S.

    affiliates or subsidiaries of the U.S. person; and (iii) the financials

    of such non-U.S. counterparty are included in the consolidated

    financial statements of the U.S. person. Further, the Commission

    interprets CEA section 2(i), consistent with comity principles, so as

    to permit substituted compliance for these Transaction-Level

    Requirements with respect to swaps between a non-U.S. swap dealer or

    non-U.S. MSP and such affiliate conduit.

    Conversely, and consistent with the foregoing rationale, the

    Commission proposes to interpret section 2(i) so as to not require the

    application of any of these Transaction-Level Requirements to swaps

    between a non-U.S. swap dealer or non-U.S. MSP with a non-U.S.

    counterparty that is not guaranteed by a U.S. person. In such

    instances, the Commission recognizes that foreign regulators have a

    strong supervisory interest in swaps occurring within their territories

    involving their domiciles.

    ii. External Business Conduct Standards

    With respect to the external business conduct standards, the

    Commission proposes to interpret section 2(i) to not require non-U.S.

    swap dealers and non-U.S. MSPs to comply with these requirements for

    swaps with a non-U.S. counterparty (whether or not guaranteed by a U.S.

    person). The Commission believes that sales practice concerns related

    to swaps between non-U.S. persons taking place outside the United

    States implicate fewer U.S. supervisory concerns and, when weighed

    together with the supervisory interests of foreign regulatory regimes,

    may not warrant application of these requirements.\110\

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    \110\ That is to say, just as the Commission would have a strong

    supervisory interest in regulating and enforcing sales practices

    associated with activities taking place within the United States,

    the foreign regulators would have a similar claim to overseeing

    sales practices occurring within their jurisdiction.

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

    C. Substituted Compliance With Respect to Particular Requirements

    The Commission believes that a cross-border policy that allows for

    flexibility in the application of the CEA, while ensuring the high

    level of regulation contemplated by the Dodd-Frank Act and avoiding

    potentially conflicting regulations is consistent with principles of

    international comity. It would also advance the congressional directive

    that the Commission act in order to ``promote effective and consistent

    global regulation of swaps * * * as appropriate, shall consult and

    coordinate with foreign regulatory authorities on the establishment of

    consistent international standards with respect to regulation

    (including fees) of swaps * * *.'' \111\ Practical considerations--

    namely, the limitations in the Commission's supervisory resources and

    its ability to effectively oversee and enforce application of the CEA

    to cross-border transactions and activities--also support the

    Commission applying its regulations in a manner that is focused on the

    primary objectives of the CEA.

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

    \111\ See section 752 of the Dodd-Frank Act. As the Supreme

    Court observed in Hoffmann-LaRoche, principles of international

    comity ``help[ ] the potentially conflicting laws of different

    nations work together in harmony--a harmony particularly needed in

    today's highly interdependent commercial world.'' See Hoffmann-

    LaRoche, 542 U.S. at 164-165.

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

    In light of the foregoing considerations, the Commission proposes

    to permit a non-U.S. swap dealer or non-U.S. MSP, once registered with

    the Commission, to comply with a substituted compliance regime under

    certain circumstances. Substituted compliance means that a non-U.S.

    swap dealer or non-U.S. MSP is permitted to conduct business by

    complying with its home regulations, without additional requirements

    under the CEA. Specifically, the Commission proposes to permit non-U.S.

    swap dealers and non-U.S. MSPs to substitute compliance with the

    requirements of the relevant home jurisdiction's law and regulations,

    in lieu of compliance with the CEA and Commission's regulations, if the

    Commission finds that such requirements are comparable to cognate

    requirements under the CEA and Commission regulations. As discussed

    below, this approach would build on the Commission's longstanding

    policy of recognizing comparable regulatory regimes based on

    international coordination and comity principles with respect to cross-

    border activities involving futures (and options).\112\

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

    \112\ For example, under part 30 of the Commission's

    regulations, if the Commission determines that compliance with the

    foreign regulatory regime would offer comparable protection to U.S.

    customers and there is an appropriate information-sharing

    arrangement between the home supervisor and the Commission, the

    Commission has permitted foreign brokers to comply with their home

    regulations (in lieu of the applicable Commission regulations),

    subject to appropriate conditions. See, e.g., 67 FR 30785 (Apr. 29,

    2002); 71 FR 6759 (Feb. 9, 2001).

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

    The Commission proposes that it would make comparability

    determinations on an individual requirement basis, rather than the

    foreign regime as a whole. In the Commission's view, this would allow

    for a more flexible registration process as it would permit a non-U.S.

    person to become registered as a swap dealer or MSP even in the absence

    of comparability with respect to all of the Dodd-Frank Act

    requirements. Rather, a non-U.S. swap dealer or non-U.S. MSP may be

    permitted to comply with regulations in its home jurisdiction to the

    extent that the comparability standard is met but also may be required

    to comply with certain of the Dodd-Frank Act requirements where

    comparable home regulation(s) are lacking.\113\

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    \113\ The details concerning the Commission's comparability

    determinations will be discussed below in Section IV.

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

    In this section, the Commission broadly outlines the circumstances

    under which the Commission would permit a non-U.S. swap dealer or non-

    U.S. MSP to rely on foreign regulation and supervision as a substitute

    for compliance by that swap dealer or MSP with some or all of the

    requirements that would otherwise be applicable to it under Title VII

    of the Dodd-Frank Act.

    1. Entity-Level Requirements

    The Commission anticipates that non-U.S. persons that will register

    as swap dealers or MSPs with the Commission will likely have their

    principal swap business in their home jurisdiction. The Commission

    believes that it would be appropriate to permit substituted compliance

    with respect to the previously-described Entity-Level Requirements

    where the non-U.S. swap dealers or non-U.S. MSPs are subject to

    comparable regulation in their home jurisdiction. In these

    circumstances, the Commission notes that the home

    [[Page 41230]]

    regulator would have a primary relationship to the swap dealer or MSP,

    which, coupled with the firm-wide focus of the Entity-Level

    Requirements, supports permitting substituted compliance.

    With respect to SDR Reporting, the Commission proposes to permit

    substituted compliance with respect to swaps by non-U.S. swap dealers

    and non-U.S. MSPs with non-U.S. counterparties (whether or not such

    non-U.S. swap dealers or such non-U.S. MSPs are guaranteed by U.S.

    persons), provided that the Commission has direct access to the swap

    data for such non-U.S. swap dealers or non-U.S. MSPs that is stored at

    the foreign trade repository. The Commission believes that this

    approach would minimize burdens on non-U.S. swap dealers and non-U.S.

    MSPs that report their swaps data to a foreign trade repository, while

    ensuring that the Commission has access to information that is critical

    to its oversight of these entities.

    2. Transaction-Level Requirements

    As discussed above, the Commission proposes to interpret section

    2(i) so as to require non-U.S. swap dealers and non-U.S. MSPs to comply

    with the clearing and swap processing, margining (and segregation),

    trade execution, swap trading relationship documentation, portfolio

    reconciliation and compression, real-time public reporting, trade

    confirmation, and daily trading records requirements for all

    transactions with a counterparty that is a U.S. person or is a non-U.S.

    person whose swap obligations are guaranteed by a U.S. person.

    The Commission would not permit substituted compliance with respect

    to these Transaction-Level Requirements for a non-U.S. swap dealer's or

    non-U.S. MSP's transactions with a counterparty that is a U.S. person,

    with a limited exception.\114\ Generally, where swaps are executed with

    U.S. persons, the Commission's supervisory interests in such

    transactions, which have a direct and significant connection with

    activities in, or effect on, U.S. commerce, and in ensuring the

    protection of U.S. counterparties weighs in favor of applying the

    requirements of the CEA, rather than permitting substituted compliance.

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

    \114\ The Commission, however, would continue to permit

    substituted compliance with comparable home country regulations with

    respect to Entity-Level Reqirements in this instance. Transactions

    with a foreign branch or agency of a U.S. swap dealer are discussed

    below.

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

    On the other hand, it may be more appropriate for the Commission to

    permit substituted compliance for transactions between a non-U.S. swap

    dealer or non-U.S. MSP and a non-U.S. person whose swap obligations are

    guaranteed by a U.S. person. In such circumstances, the foreign

    jurisdiction has a strong supervisory interest in regulating the

    activities of its domiciles occurring within its territory. At the same

    time, given that such transactions are guaranteed by a U.S. person, the

    Commission also has a strong supervisory interest in ensuring that the

    protections of the Dodd-Frank Act are extended to the U.S. guarantor.

    In consideration of these factors, the Commission would permit

    substituted compliance with respect to these Transaction-Level

    Requirements for swaps between a non-U.S. swap dealer or non-U.S. MSP

    with a non-U.S. person guaranteed by a U.S. person, as well as swaps

    with non-U.S. affiliate conduits. Substituted compliance, the

    Commission believes, would address its supervisory concerns while, at

    the same time, minimizing the potential for conflicts with the

    requirements under foreign jurisdictions.\115\

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

    \115\ As noted above, swaps with non-U.S. persons satisfying

    each prong of the conduit test would be similarly subject to the

    Transaction-Level Requirements, provided, however, that the non-U.S.

    swap dealer or non-U.S. MSP executing such swaps may substitute

    compliance with a comparable foreign regulatory regime in

    appropriate cases.

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

    D. Application of Entity-Level and Transaction-Level Requirements to

    Branches, Agencies, Affiliates, and Subsidiaries of U.S. Swap Dealers

    1. Foreign Branches and Agencies of U.S. Swap Dealers

    As discussed above, the Commission considers foreign branches and

    agencies of a U.S. person to be a part of the U.S. person. Thus, the

    Commission proposes that the U.S. person would be legally responsible

    for complying with all applicable Entity-Level Requirements. Further,

    the Commission proposes to require compliance with most of the

    Transaction-Level Requirements (i.e., clearing and swap processing,

    margin (and segregation) for uncleared swaps, trade execution, real-

    time reporting, trade confirmation, swap trading relationship

    documentation, daily trading records, and portfolio reconciliation and

    compression), irrespective of whether the counterparty is a U.S. person

    or non-U.S. person.\116\ This approach is appropriate in light of the

    Commission's strong supervisory interests in entities that are part or

    an extension of a U.S.-based swap dealer.

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

    \116\ For reasons stated above, with respect to external

    business conduct standards, the Commission would apply such

    requirements only for swaps where the counterparty is a U.S. person.

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

    The Commission further interprets section 2(i) to permit

    substituted compliance with respect to the Transaction-Level

    Requirements for swaps with certain counterparties. Specifically, the

    Commission proposes to permit substituted compliance for swaps between

    a foreign branch of a U.S. person and a non-U.S. person counterparty

    (both whose obligations under the swap are guaranteed by a U.S. person

    and those that are not). Given that the counterparty is a non-U.S.

    person, coupled with the supervisory interest of the foreign

    jurisdiction in the execution and clearing of trades occurring in that

    jurisdiction, the Commission believes that it would be appropriate to

    permit the parties to comply with comparable foreign requirements. In

    doing so, the Commission notes that, as discussed in further detail

    below, its recognition of substituted compliance would be based on an

    evaluation of whether the requirements of the home jurisdiction are

    comparable and comprehensive to the applicable requirement(s) under the

    CEA and Commission regulations based on a consideration of all relevant

    factors, including, among other things: (i) The comprehensiveness of

    the foreign regulator's supervisory compliance program; and (ii) the

    authority of such foreign regulator to support and enforce its

    oversight of the registrant's branch or agency with regard to such

    activities to which substituted compliance applies.

    In limited circumstances where foreign regulations are not

    comparable, the Commission believes that it could be appropriate to

    permit foreign branches and agencies of U.S. swap dealers to comply

    with the transaction-level requirements applicable to entities

    domiciled or doing business in the foreign jurisdiction, rather than

    the Transaction-Level Requirements that would otherwise be applicable

    to the U.S. person's activities.\117\ Specifically, the Commission

    understands that U.S. swap dealers' swap dealing activities through

    branches or agencies in emerging markets in many cases may not be

    significant but may be nevertheless an integral element of their global

    business. Under the circumstances, the Commission proposes that section

    2(i) should be interpreted to permit foreign branches and agencies of

    U.S. swap dealers to

    [[Page 41231]]

    participate in the swap markets in such countries on a limited basis.

    To be eligible for this exception, the aggregate notional value

    (expressed in U.S. dollars and measured on a quarterly basis) of the

    swaps of all foreign branches and agencies in such countries may not

    exceed five percent of the aggregate notional value (expressed in U.S.

    dollars and measured on a quarterly basis) of all of the swaps of the

    U.S. swap dealer. However, the U.S. person relying on this exception

    would be required to maintain records with supporting information to

    verify its eligibility for the exception, as well as identify, define,

    and address any significant risk that may arise from the non-

    application of the Transaction-Level Requirements.\118\

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    \117\ As noted above, the proposed interpretive guidance does

    not limit the applicability of any CEA provision or Commission

    regulation to any person, entity or transaction except as provided

    herein.

    \118\ The Commission solicits comments on all aspects of the

    proposed exception, including the conditions for eligibility. In

    particular, the Commission is interested in the types of risk-

    mitigating measure(s) that should be imposed on a firm as a

    condition to the exception.

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

    Further, as discussed above, the Commission proposes that the U.S.

    person may task its foreign branch or agency to fulfill its regulatory

    obligations with respect to the Transaction-Level Requirements. The

    Commission would consider compliance by the foreign branch or agency to

    constitute compliance with the Transaction-Level Requirements. The

    Commission proposes, however, that the U.S. person remains responsible

    for compliance with the Transaction-Level Requirements.

    2. Foreign Affiliates and Subsidiaries of U.S. Swap Dealers

    With respect to foreign affiliates or subsidiaries of U.S. swap

    dealers, the Commission proposes that the regulatory requirements that

    may apply to such affiliate or subsidiary would depend on where their

    swaps are booked and whether the affiliate or subsidiary engages in

    activities that trigger swap dealer registration. Where the swaps are

    directly booked in the U.S. swap dealer but the foreign affiliate or

    subsidiary facing the counterparty engages in swap dealing and

    independently meets the definition of a swap dealer, the U.S. swap

    dealer must comply with all of the swap dealer duties and obligations,

    including capital-related prudential requirements. The foreign

    affiliate or subsidiary would be required to separately register as a

    swap dealer and comply with any Entity-Level and Transaction-Level

    Requirements applicable to its swap dealing activities.

    Thus, if the counterparty facing affiliate or subsidiary was acting

    merely as a disclosed agent and did not meet the definition of a swap

    dealer, then the Dodd-Frank Act requirements applicable to swap dealers

    would not be applicable to the affiliate or subsidiary, provided that

    the agency relationship was properly documented and the principal

    remained primarily responsible for the actions of the affiliate. On the

    other hand, if the counterparty facing affiliate or subsidiary

    independently met the definition of a swap dealer, then it would be

    required to register as a swap dealer and satisfy the Dodd-Frank Act

    requirements applicable to swap dealers, even though all exposure to

    the swaps it entered into were transferred to a central booking entity,

    regardless of how those transfers were accomplished.\119\ In this

    scenario, the Commission interprets section 2(i), consistent with the

    principles of international comity, so as to permit substituted

    compliance by the foreign affiliate or subsidiary.

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

    \119\ As noted earlier, the booking entity itself also would be

    required to register as a swap dealer and satisfy the Dodd-Frank Act

    requirements applicable to swap dealers, even though the affiliate

    facing the third party counterparty also was required to register as

    a swap dealer.

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

    Where the counterparty-facing affiliate or subsidiary and the

    central booking entity are both required to comply with Dodd-Frank Act

    requirements with respect to swap dealers, the question may arise as to

    the allocation of responsibilities between the two entities for

    obligations owed to the third-party counterparty. In such cases, the

    Commission is of the view that both entities are responsible for

    satisfying the Dodd-Frank Act requirements applicable to swap dealers

    and with respect to the performance of an obligation owed to a third

    party; satisfactory performance by one may satisfy the obligations of

    both, but an unsatisfactory performance of an obligation owed to a

    counterparty is a responsibility that will be borne by both entities.

    In the case where non-U.S. affiliates or subsidiaries enter into

    swaps that are not directly booked in a U.S. person, the Commission

    proposes to interpret section 2(i) so as to require any such foreign

    affiliates or subsidiaries to register as a swap dealer, assuming that

    they individually or in the aggregate meet the definition of a swap

    dealer. Because these affiliates or subsidiaries are domiciled in a

    foreign jurisdiction and the swaps are not booked in the U.S. swap

    dealer, these affiliates or subsidiaries would be treated in a manner

    consistent with respect to non-U.S. swap dealers.\120\

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

    \120\ Accordingly, the Commission would apply the clearing and

    swap processing, margining (and segregation), trade execution, swap

    trading relationship documentation, portfolio reconciliation and

    compression, real-time public reporting, trade confirmation, and

    daily trading records requirements to transactions with a non-U.S.

    person guaranteed by a U.S. person. The Commission further believes

    that it is appropriate to permit a foreign affiliate or subsidiary

    to comply with comparable and comprehensive regulatory

    requirement(s). Substituted compliance would mitigate any burden

    associated with potentially duplicative or conflicting foreign

    regulations and is appropriate in light of the foreign regulator's

    supervisory interests in entities domiciled and operating in its

    jurisdiction. Similar concerns regarding the risk of non-performance

    is not present where the non-U.S. counterparty is not guaranteed or

    similarly supported by a U.S. person, and therefore, the Commission

    proposes to not apply the Transaction-Level Requirements with

    respect to such swaps.

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

    With respect to SDR Reporting, the Commission proposes to interpret

    section 2(i) so as to require foreign affiliates or subsidiaries of a

    U.S. swap dealer to comply with the SDR Reporting requirement but would

    permit substituted compliance, provided that the Commission has direct

    access to the swap data for these swaps that is stored at the foreign

    trade repository. As noted above, the Commission believes that this

    approach would best minimize burdens on counterparties that report

    their swaps data to a foreign trade repository, while ensuring that the

    Commission has direct access to the information critical to its

    oversight of the swaps market.

    Request for Comment

    Q10. Please provide comments regarding all aspects of the

    Commission's proposed grouping of requirements into Entity-Level and

    Transaction-Level Requirements and application of the same to U.S. and

    non-U.S. persons as discussed above.

    Q11. Are there any Entity-Level Requirements that should be

    reclassified as Transaction-Level Requirements, or vice versa? In

    particular, the Commission is interested in comments on whether

    portfolio reconciliation and compression requirements, as central risk

    mitigation and back-office functions, could or should be categorized as

    entity-level requirements. Similarly, the Commission is interested in

    comments on whether clearing and margin and segregation for uncleared

    swaps should be categorized as Entity-Level requirements.

    Q11a. Should the Commission group the Entity-Level Requirements and

    Transaction-Level Requirements differently for swap dealers and MSPs?

    If so, how and why?

    [[Page 41232]]

    Q11b. Should the real-time reporting and trade execution

    requirements be treated in the same manner as the external business

    conduct standards?

    Q12. Please provide specific comments regarding the proposed

    application of the Transaction-Level Requirements to swaps with

    counterparties that are U.S. persons. Should the Commission permit

    substituted compliance for swaps between a non-U.S. swap dealer or non-

    U.S. MSP with a U.S. person?

    Q13. Please provide specific comments regarding the proposed

    application of the Transaction-Level Requirements to swaps with

    counterparties that are non-U.S. persons.

    Q14. Market participants may not be able to determine, in certain

    cases, whether their counterparties are U.S. persons, non-U.S. persons

    with a guarantee from U.S. persons, or non-U.S. persons without

    guarantees. How should the Commission address this issue?

    Q15. Please provide comments regarding the Commission's proposed

    interpretation with respect to non-U.S. swap counterparties whose swap

    obligations are guaranteed by U.S. persons. Should the interpretation

    for swaps between non-U.S. swap dealers or non-U.S. MSPs and non-U.S.

    counterparties whose swap obligations are guaranteed by U.S. persons be

    different than with respect to swaps between non-U.S. swap dealers or

    non-U.S. MSPs and U.S. persons (e.g., should fewer Transaction-Level

    Requirements apply)? If so, how (e.g., which Transaction-Level

    Requirements should apply)? Should the Commission not permit

    substituted compliance with respect to the Entity-Level and

    Transaction-Level Requirements in connection with transactions with

    non-U.S. persons?

    Q15a. Should the Commission permit substituted compliance for some

    requirements but not others? If so, which ones? Should the applicable

    requirements be different for non-U.S. swap dealers as compared to non-

    U.S. MSPs?

    Q16. For Entity-Level Requirements, should the Commission not

    permit substituted compliance for U.S. persons?

    Q17. The Commission is aware that some non-U.S. swap dealers or

    MSPs may be prohibited from reporting swap transaction data to an SDR

    as a result of their home country's privacy laws, especially with

    respect to such swap dealer's or MSP's swaps with non-U.S. persons. How

    should the Commission address the application of the SDR Reporting

    requirement with respect to these swaps? Should the Commission address

    the application of such requirements differently with respect to non-

    U.S. swap dealers and non-U.S. MSPs?

    Q18. The Commission seeks comments concerning the proposed

    disapplication of the external business conduct standards to swaps

    involving non-U.S. persons. Would it be consistent with the

    expectations of non-U.S. persons to not apply these requirements to

    swaps with their local swap dealer, irrespective of whether such dealer

    is a foreign- or U.S.-based person? Should such requirements apply only

    to swaps involving the foreign branches or affiliates of a U.S.-based

    swap dealer?

    Q19. Should the Commission interpret section 2(i) so as to not

    apply the Transaction-Level requirements to the foreign branches of

    U.S.-swap dealers operating in the emerging markets? If so, is it

    appropriate to condition eligibility for such an exception in the

    manner discussed above? Should the Commission permit a higher or lower

    percentage of swaps to be executed through foreign branches of U.S.

    registrants in emerging market jurisdictions without comparable

    regulation? If so, why and what percentage would be appropriate?

    Q20. With respect to the exception for foreign branches of a U.S.

    swap dealer operating in the emerging markets with respect to swaps

    with a non-U.S. person guaranteed by a U.S. person, should the

    Commission change the baseline from the aggregate notional value of a

    firm's swap activities to $8 billion (or certain fixed numerical

    threshold) so as to not disadvantage small swap dealers?

    Q21. The Commission requests comment on its proposed approach of

    applying the Transaction-Level Requirements to a conduit's swaps as if

    counterparty were a non-U.S. person that is guaranteed by a U.S. person

    (i.e., Transaction-Level Requirements will apply, with substituted

    compliance permitted).

    Q22. The Commission requests comment on its proposed definition of

    ``conduit.'' Are the three prongs of that definition appropriate? If

    not, how should they be modified? Should the second prong include

    language that limits application of the conduit test to ``regular''

    inter-affiliate transactions moving economic risk, in whole or in part,

    to the United States. Should the definition of conduit distinguish

    between different types of counterparties or registration status of

    such counterparties?

    Q23. The Commission requests comment on: (i) The prevalence of

    cross-border inter-affiliate swaps and the mechanics of moving swap-

    related risks between U.S. and non-U.S. affiliated entities for risk

    management and other purposes; (ii) risk implications of cross border

    inter-affiliate conduit swaps for the U.S. markets; and (iii) specific

    means to address the risk issues potentially presented by cross-border

    conduit arrangements.

    Q24. The Commission proposed anti-evasion provisions in proposed

    rule 1.6 of the product definitions joint rulemaking with the SEC.\121\

    To what extent would inter affiliate conduit transactions be undertaken

    for purposes of evasion as described in proposed rule 1.6?

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

    \121\ See Further Definition of ``Swap,'' ``Security-Based

    Swap,'' and ``Security-Based Swap Agreement''; Mixed Swaps;

    Security-Based Swap Agreement Recordkeeping, 76 FR 29818, May 23,

    2011.

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

    Q25. The Commission requests comments on whether substituted

    compliance should be permitted for swaps entered between a foreign

    branch of a U.S. person with another foreign branch of a U.S. person.

    IV. Substituted Compliance: Process for Comparability Determination

    A. Overview

    As noted above, the Commission will use its experience exempting

    foreign brokers from registration as FCMs under its rule 30.10

    ``comparability'' findings in developing an approach for swaps.

    However, the Commission contemplates that it will calibrate its

    approach to reflect the heightened requirements and expectations under

    the Dodd-Frank Act. Accordingly, the Commission will examine the

    regulatory requirements to which non-U.S. swap dealers and non-U.S.

    MSPs are subject. The Commission will use an outcomes based approach to

    determine whether these requirements are designed to meet the same

    regulatory objectives of the Dodd-Frank Act. The Commission

    contemplates that its approach also will require a more robust and

    ongoing process of cooperation and coordination between the Commission

    and the relevant foreign regulatory authority regarding ongoing

    compliance efforts.

    1. Scope of Review

    As noted above, the Commission would determine comparability and

    comprehensiveness by reviewing the foreign jurisdiction's laws and

    regulations. In making this determination, the Commission may

    [[Page 41233]]

    find that a jurisdiction has comparable law(s) and regulation(s) in

    some, but not all, of the applicable Dodd-Frank Act provisions (and

    related Commission regulations).\122\ Similar to its policy under rule

    30.10, the Commission would retain broad discretion to determine that

    the objectives of any program elements are met, notwithstanding the

    fact that the foreign requirement(s) may not be identical to that of

    the Commission.\123\ However, in cases where the foreign regulatory

    regime does not achieve the objectives of the Dodd-Frank Act, the

    Commission proposes to recognize substituted compliance in only those

    areas that are determined to be comparable and comprehensive to the CEA

    and Commission regulations.

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

    \122\ The Commission anticipates that it would review

    comparability in the areas described above: (i) Capital

    requirements; (ii) chief compliance officer (iii) clearing and swap

    processing; (iv) daily trading records; (v) margin (and segregation)

    requirements for uncleared swap transactions; (vi) physical

    commodity swaps reporting; (vii) portfolio reconciliation and

    compression; (viii) real-time public reporting; (ix) SDR Reporting;

    (x) risk management; (xi) swap data recordkeeping; (xii) swap

    trading relationship documentation; (xiii) trade confirmation (xiv)

    trade execution.

    \123\ The Commission would retain broad enforcement authority,

    including anti-fraud and anti-manipulation authority, with respect

    to the subject cross-border swap activities.

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

    In evaluating whether a particular foreign regulatory

    requirement(s) is comparable and comprehensive to the applicable

    requirement(s) under the CEA and Commission regulations, the Commission

    would take into consideration all relevant factors, including but not

    limited to, the scope and objectives of the relevant regulatory

    requirement(s), and the comprehensiveness of those requirement(s), the

    comprehensiveness of the foreign regulator's supervisory compliance

    program, as well as the authority to support and enforce its oversight

    of the non-U.S. swap dealer or non-U.S. MSP applicant. In this context,

    comparable does not necessarily mean identical. Rather, the Commission

    would evaluate whether the home jurisdiction's regulatory requirement

    is comparable to the regulatory requirement(s) supported and enforced

    by the Commission.

    2. Process

    The Commission may recognize the comparability of a foreign regime

    and permit substituted compliance subject to such terms and conditions

    as the Commission finds appropriate.\124\ Further, similar to its

    policy under rule 30.10, the Commission would retain broad discretion

    to determine that the objectives of any program elements are met,

    notwithstanding the fact that the foreign regulations(s) may not be

    identical to that of the Commission.

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

    \124\ The procedures described in this subsection, which are not

    all-inclusive, are contemplated for applicants for substituted

    compliance. The Commission further notes that non-compliance with

    the comparable home country regulations would constitute a breach of

    the terms and conditions of the registration with the Commission and

    potentially would serve as a basis for de-registration of the non-

    U.S. swap dealer or non-U.S. MSP and/or the commencement of an

    enforcement action.

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

    A non-U.S. person may request the Commission's permission to comply

    with comparable requirements of its home jurisdiction, in lieu of the

    applicable Dodd-Frank Act requirements, as described above. In lieu of

    a non-U.S. person requesting substituted compliance, a group of non-

    U.S. persons from the same jurisdiction, or a foreign regulator, may

    submit an application for substituted compliance on behalf of non-U.S.

    persons subject to a foreign supervisory regime.

    Such request would be made directly to the Commission in connection

    with its application to register as a swap dealer or MSP.\125\ The

    Commission anticipates that it would work closely with the National

    Futures Association to develop the necessary procedural framework.

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

    \125\ After it completes its evaluation, the Commission intends

    to post a finding of comparability on its Web site.

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

    The Commission would expect that the applicant, at minimum, state

    with specificity the factual basis for requesting that the Commission

    recognize comparability with respect to a particular Dodd-Frank Act

    requirement as described above and include with specificity all

    applicable legislation, rules and policies. \126\

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

    \126\ The Commission may, as it deems appropriate and necessary,

    conduct an on-site examination of the applicant, as well as consult

    with the applicant's home regulator. For certain matters, the

    Commission may request an opinion of counsel.

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

    An applicant would be expected to state that it is licensed and in

    good standing with the applicant's supervisor(s) in its home country.

    Further, the Commission expects that, in a substituted compliance

    situation, it would enter into an appropriate memorandum of

    understanding (``MOU'') or similar arrangement between the Commission

    and the relevant foreign supervisor(s). Existing information-sharing

    and/or enforcement arrangements would be indicative of a foreign

    supervisor's ability to cooperate with the Commission. However, going

    forward, the Commission and relevant foreign supervisor(s) would need

    to establish supervisory MOUs or other arrangements that provide for

    information sharing and cooperation in the context of supervising swap

    dealers and MSPs. The Commission contemplates that such a supervisory

    MOU would establish the type of ongoing coordination activities that

    would continue on an ongoing basis between the Commission and the

    foreign supervisor(s), including topics such as, but not limited to,

    procedures for confirming continuing oversight activities, access to

    information,\127\ on-site visits, and notification and procedures in

    certain situations.\128\

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

    \127\ The Commission notes that under Commission's regulation

    Sec. 23.603(i), a registered swap dealer or MSP must make all

    records required to be maintained in accordance with Commission

    regulation 1.31 promptly upon request to representatives of the

    Commission. The Commission reserves this right to access records

    held by registered swap dealers and MSPs, including those that are

    non-U.S. persons who may comply with the Dodd-Frank recordkeeping

    requirement through substituted compliance.

    \128\ In this regard, the Commission has started working with

    foreign regulators to prepare for such arrangements.

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

    It is expected that the Commission generally may rely on prior

    comparability determinations with respect to a particular jurisdiction

    to facilitate its review of a subsequent applicant's request for

    recognition of substituted compliance.\129\ Subsequent to registration

    with the Commission, the Commission expects that a non-U.S swap dealer

    or non-U.S. MSP would notify the Commission of any material changes to

    information submitted in support of a comparability finding (including,

    but not limited to, changes in the relevant supervisory or regulatory

    regime) as the Commission's comparability determination may no longer

    be valid. In order to avoid an unduly burdensome notification process,

    the Commission contemplates that it would enumerate the specific

    foreign requirements or category of requirements which, if changed,

    would trigger a notification requirement.

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

    \129\ Prior determinations of comparability under part 30.10 of

    the Commission's regulations will not be determinative for those

    purposes.

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

    Where the Commission proposes a change to its regulations governing

    swaps, the Commission will evaluate whether the proposed regulatory

    change would affect the basis upon which a prior comparability finding

    was made. The Commission would initiate discussions with the affected

    swap dealers and MSPs and their regulator(s) to determine how to

    address any possible discrepancy in requirements.

    3. Clearing

    In response to a number of inquiries, with regard to swaps covered

    by a

    [[Page 41234]]

    Commission-issued clearing requirement, the Commission notes that it

    expects to find comparability with foreign regulatory regimes when (i)

    the swap is subject to a mandate issued by appropriate government

    authorities in the home country of the counterparties to the swap,

    provided that the foreign mandate is comparable and comprehensive to

    the Commission's mandate; and (ii) the swap is cleared through a DCO

    that is exempted from registration under the CEA.

    Request for Comment

    Q26. Please provide comments regarding the Commission's substituted

    compliance proposal, including the appropriate standard and degree of

    comparability and comprehensiveness that should be applied to make such

    determination.

    Q27. What are some of the factors or elements of a supervisory

    program that the Commission should consider in making a comparability

    finding?

    Q27a. Should the Commission take a different approach with respect

    to swap dealers as compared to MSPs?

    Q28. How should the Commission address potential inconsistencies or

    conflicts between U.S. and non-U.S. requirements with respect to the

    oversight of non-U.S. swap dealers and non-U.S. MSPs?

    Q29. Many foreign jurisdictions are in the process of implementing

    major changes to their oversight of the swaps market. Assuming that a

    foreign jurisdiction has adopted swaps legislation but has yet to

    finalize implementing regulations, should the Commission develop an

    interim process that takes into account the development of

    ``comparable'' legislation and proposed regulations?

    Q30. How should the Commission ensure that prior comparability

    determinations remain appropriate over time?

    V. Cross-Border Application of the CEA's Swap Provisions to

    Transactions Involving Other (Non-Swap Dealer and MSP) Market

    Participants

    A. Cross-Border Transactions With U.S. Persons 130

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

    \130\ Appendix C in this release provides a chart describing the

    application of the specified Dodd-Frank provisions to transactions

    between counterparties that are neither a swap dealer or MSP.

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

    Several of the CEA's swap provisions--namely, those relating to

    clearing,\131\ trade execution,\132\ real-time public reporting,\133\

    Large Trader Reporting,\134\ and SDR Reporting,\135\ and recordkeeping

    \136\--also apply to persons or counterparties other than a swap dealer

    or MSP. As a result, questions arise as to whether, and the extent to

    which, these requirements apply to transactions outside the United

    States involving U.S. and non-U.S. persons. In this section, the

    Commission provides interpretive guidance concerning the application of

    these Dodd-Frank Act provisions to cross-border transactions in which

    neither counterparty is a swap dealer or MSP (i.e., all other market

    participants including ``financial entities,'' as defined in CEA

    section 2(h)(7)(C)).\137\

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

    \131\ See Section III.B.3.i., supra.

    \132\ See Section III.B.3.iii. supra.

    \133\ See Section III.B.3.vi. supra.

    \134\ See Section III.B.2.vi. supra.

    \135\ See Section III.B.2.v. supra.

    \136\ The Commission's part 45 rules require non-swap dealers

    and non-MSPs to keep ``full, complete and systematic records'' with

    respect to each swap to which they are a counterparty. See 17 CFR

    45.2. Such records must include those demonstrating that the parties

    to a swap are entitled to make use of the clearing exception in CEA

    section 2(h)(7). Non-swap dealers and non-MSPs must also comply with

    the Commission's regulations in part 46, which address the reporting

    of data relating to pre-enactment swaps and data relating to

    transition swaps.

    \137\ Nothing in this interpretive guidance should be construed

    to affect the ability of a foreign board of trade to offer swaps to

    U.S. persons pursuant to part 48 of the Commission's regulations.

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

    The Commission believes that U.S. persons' swap activities outside

    the United States have a direct and significant connection with

    activities in, or effect on, U.S. commerce. The swaps market today is

    global in nature. To manage risks in a global economy, U.S. persons may

    need to--and often do--transact swaps with both U.S. and non-U.S.

    persons. Many such swap activities of U.S. persons, particularly those

    with global operations, may be located outside the United States. In

    light of the significant extent of U.S. persons' swap activities

    outside the United States in today's global marketplace, and the risks

    to U.S. persons and the financial system presented by such swaps

    activities outside the United States with U.S. persons as

    counterparties, the Commission believes that U.S. persons' swap

    activities outside the United States have the requisite connection with

    or effect on U.S. commerce under section 2(i) to apply the swaps

    provisions of the CEA to such activities.\138\

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

    \138\ In further support of this interpretation, the Commission

    notes that the risks to U.S. persons and the U.S. financial system

    from swap activities of U.S. persons does not depend on the location

    of such swap activities of U.S. persons. Moreover, the Commission

    believes that section 2(i) does not require a transaction-by-

    transaction determination that a particular swap outside the United

    States has a direct and significant connection with activities in,

    or effect on, commerce of the United States in order to apply the

    swaps provisions of the CEA to such transactions; rather, it is the

    aggregate of such activities and the aggregate connection of such

    activities with activities in the U.S. or effect on U.S. commerce

    that warrants application of the CEA swaps provisions to all such

    activities. See F. Hoffmann-La Roche, Ltd., 542 U.S. at 164 (in

    response to respondents' argument that the court can take account of

    comity considerations on a case by case basis, the Court held that

    such approach is ``too complex to be prove workable.'').

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

    Accordingly, with respect to swaps where one (or both) of the

    counterparties to the swap is a U.S. person, the Commission proposes to

    interpret section 2(i) in a manner so that the Dodd-Frank Act

    requirements relating to clearing, trade-execution, real-time public

    reporting, Large Trader Reporting, and SDR Reporting, and recordkeeping

    apply to such swaps. Conversely, where a non-U.S. person enters into a

    swap with another non-U.S. person outside the United States, and where

    neither counterparty is required to register as a swap dealer or MSP,

    the Commission would not apply the Dodd-Frank Act requirements to such

    swaps.\139\

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

    \139\ The exception involves Large Trader Reporting, as further

    discussed below.

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

    As discussed above, the Commission is concerned that a non-U.S.

    affiliate or subsidiary could effectively operate as a ``conduit'' for

    the U.S. person. More specifically, the Commission is concerned that

    the non-U.S. affiliate or subsidiary of a U.S. person could be used to

    execute swaps with counterparties in foreign jurisdictions, outside the

    Dodd-Frank Act regulatory regime. The Commission is considering whether

    to propose measures to address this situation. However, at this time,

    the Commission makes clear that such non-U.S. affiliate or subsidiary

    would not be subject to the Dodd-Frank swap provisions, except pursuant

    to specific Dodd-Frank Act provisions (or Commission regulation adopted

    thereunder) or Commission orders.

    B. Clearing, Trade Execution, Real-Time Public Reporting, Large Trader

    Reporting, and SDR Reporting, and Swap Data Recordkeeping

    As described in greater detail above, the Dodd-Frank Act's clearing

    requirement mitigates counterparty risks and, in turn, fosters

    protection against systemic risk. In a similar vein, the trade

    execution and real-time public reporting requirements serve to promote

    both pre- and post-trade transparency which, in turn, enhance price

    discovery and decrease risk. Together, these requirements serve an

    important role in protecting U.S. market participants and the general

    market against financial losses. Accordingly, the Commission interprets

    section 2(i) to apply the Dodd-Frank Act's clearing, trade

    [[Page 41235]]

    execution, and real-time public reporting requirements to any swaps

    where one of the counterparties is a U.S. person (irrespective of the

    location of the transaction), without permitting substituted compliance

    with a foreign regulatory regime.

    The Commission's part 20 rules regarding Large Trader Reporting

    require routine reports from clearing members, in addition to swap

    dealers and clearing organizations, with reportable positions in

    specified physical commodity swaps or swaptions. The Commission

    believes that such data is essential in order for the Commission to

    carry out its supervisory mandates concerning, among other things,

    increased transparency, market monitoring, and market abuse prevention.

    Therefore, the Commission proposes to interpret CEA section 2(i) to

    require non-U.S. clearing members to report all reportable positions

    under part 20. The part 20 rules also impose recordkeeping obligations

    on traders with reportable positions. The Commission proposes to

    interpret CEA section 2(i) so as to require non-U.S. persons with

    reportable positions under part 20 to comply with such obligations.

    Given the significance of these rules to the Commission's oversight of

    swaps and swaptions that are closely linked to the U.S. futures

    markets, the Commission would not allow substituted compliance.

    With respect to transactions that are subject to the SDR Reporting

    and swap data recordkeeping requirements, the Commission proposes to

    interpret section 2(i) so as to permit substituted compliance, provided

    that the Commission has direct access to the swap data for these

    transactions that is stored at the foreign trade repository. The

    Commission has a strong supervisory interest in applying the SDR

    reporting and recordkeeping requirements to any transactions involving

    a U.S. counterparty in order to effectively monitor the swap activities

    of U.S. persons. Nevertheless, the Commission believes that substituted

    compliance is warranted where it would ease the burden on the

    counterparties that report their swaps data to a foreign trade

    repository and the Commission is assured of prompt access to the

    information critical to its oversight of the swaps market.

    The Commission recognizes that applying the Dodd-Frank Act

    requirements to swaps conducted outside the United States involving a

    U.S. counterparty may result in two or more jurisdictions asserting

    authority over these swaps--with the counterparties potentially facing

    conflicting or duplicative regulatory requirements. The Commission will

    continue its efforts to address these issues through close coordination

    and consultation with its regulatory counterparts in other

    jurisdictions. The Commission also anticipates that cooperative efforts

    would be reflected in the MOU or similar arrangement (whether bilateral

    and/or multilateral) discussed above which would provide a framework

    for regulatory coordination where two or more jurisdictions have

    authority over a swap.

    Request for Comment

    Q31. Please provide comments regarding all aspects of the

    Commission's interpretation of CEA section 2(i) with respect to the

    proposed application of the Transaction-Level Requirements. The

    Commission is particularly interested in commenters' views on the

    impact on U.S. persons as a result of the proposed application of the

    Dodd-Frank Act's trading requirements.

    Q32. What, if any, competitive or economic effects on U.S.

    commerce, including U.S. persons, should the Commission consider when

    interpreting CEA section 2(i)? What, if any, competitive or economic

    effects on non-U.S. persons should the Commission consider when

    interpreting CEA section 2(i)?

    Appendix A--Entity-Level Requirements

    The Entity-Level Requirements relate to the management of risks

    to a swap dealer or MSP as a whole. Accordingly, these requirements

    apply on a firm-wide basis, inclusive of all swaps and irrespective

    of whether the counterparty is a U.S. person (or not) or where the

    transactions are executed.

    Capital: CEA section 4s(e) directs the Commission to set capital

    requirements for swap dealers and MSPs that are not subject to the

    capital requirements of prudential regulators (i.e., non-bank swap

    entities). The Commission has proposed rule, Sec. 23.101, which

    would apply FCM capital requirements if the nonbank swap dealer or

    MSP is also registered as an FCM, and would apply other capital

    requirements for those that are not also FCMs. Certain of these non-

    FCM, nonbank swap entities would be required to meet capital

    requirements established by the Federal Reserve Board; specifically,

    SIFIs and nonbank subsidiaries of U.S. bank holding companies.\140\

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

    \140\ SIFIs that are not FCMs would be exempt from the

    Commission's capital requirements, and would comply instead with

    Federal Reserve Board requirements applicable to SIFIs, while

    nonbank (and non-FCM) subsidiaries of U.S. bank holding companies

    would calculate their Commission capital requirement using the same

    methodology specified in Federal Reserve Board regulations

    applicable to the bank holding company, as if the subsidiary itself

    were a bank holding company.

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

    Chief Compliance Officer: CEA Section 4s(k) requires that each

    swap dealer and MSP to designate a chief compliance officer

    (``CCO'') and specify certain duties by the CCO. Pursuant to section

    4s(k), the Commission adopted Sec. 3.3, which requires swap dealers

    and MSPs to designate a CCO responsible for administering the firm's

    compliance policies and procedures, reporting directly to the board

    of directors or a senior officer of the swap dealer, as well as

    preparing and filing (with the Commission) a certified report of

    compliance with the CEA.

    Risk Management: CEA Section 4s(j) requires each swap dealer and

    MSP to establish internal policies and procedures designed to, among

    other things, address risk management, monitor compliance with

    position limits, prevent conflicts of interest, and promote diligent

    supervision, as well as maintain business continuity and disaster

    recovery programs. The Commission adopted implementing regulations

    (Sec. Sec. 23.600, 23.601, 23.602, 23.603, 23.605, 23.606, and

    23.607). The Commission also adopted: (A) Sec. 23.609, which

    requires certain risk management procedures for swap dealers or MSPs

    that are clearing members of a DCO; and (B) Sec. 23.608, which

    prohibits swap dealers providing clearing services to customers from

    entering into agreements that would: (i) Disclose the identity of a

    customer's original executing counterparty; (ii) limit the number of

    counterparties a customer may trade with; (iii) impose counterparty-

    based position limits; (iv) impair a customer's access to execution

    of a trade on terms that have a reasonable relationship to the best

    terms available; or (v) prevent compliance with specified time

    frames for acceptance of trades into clearing.

    Swap Data Recordkeeping: CEA section 4s(f)(1)(B) requires swap

    dealers and MSPs to keep books and records for all activities

    related to their business. Section 4s(g)(1) requires swap dealers

    and MSPs to maintain trading records for each swap transaction and

    all related records, as well as a complete audit trail for

    comprehensive trade reconstructions. Pursuant to these provisions,

    the Commission adopted Sec. Sec. 23.201and 23.203, which require

    swap dealers and MSPs to keep records including complete transaction

    and position information for all swap activities, including

    documentation on which trade information is originally recorded.

    Swap dealers and MSPs also have to comply with Part 46 of the

    Commission's regulations, which addresses the recordkeeping

    requirements for swaps entered into before the date of enactment of

    the Dodd-Frank Act (``pre-enactment swaps'') and data relating to

    swaps entered into on or after the date of enactment but prior to

    the part 45 compliance date (``transition swaps'').

    SDR Reporting: CEA section 2(a)(13)(G) requires all swaps,

    whether cleared or uncleared, to be reported to a registered swap

    data repository (``SDR''). CEA section 21 requires SDRs to collect

    and maintain data related to swap transactions as prescribed by the

    Commission, and to make such data

    [[Page 41236]]

    electronically available to regulators. Swap dealers and MSPs would

    be required to comply with Part 45 of the Commission's regulations,

    which set forth the specific transaction data that reporting

    counterparties and registered entities must report to a registered

    SDR; and Part 46, which addresses the recordkeeping requirements for

    pre-enactment swaps and data relating to transition swaps.

    Physical Commodity Swaps Reporting (Large Trader Reporting): CEA

    section 4t authorizes the Commission to establish a large trader

    reporting system for significant price discovery swaps, of which the

    economically equivalent swaps subject to part 20 reporting are a

    subset, and in order to implement the statutory mandate in CEA

    section 4a for the Commission to establish position limits, as

    appropriate, for physical commodity swaps. The Commission published

    part 20 rules requiring swap dealers, among other entities, to

    submit routine position reports on certain physical commodity swaps

    and swaptions.

    Entity-Level Requirements

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

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

    U.S.-Based Swap Dealer.......... Apply.

    Foreign Branches/Agencies of Apply.

    U.S.-Based Swap Dealer**.

    Foreign Affiliates of U.S.

    Person:

    --Swaps Booked in U.S....... Apply.*

    Foreign Affiliate of U.S.

    Person:

    --The Affiliate is the Legal Substituted Compliance.***

    Counterparty But All Swaps

    Guaranteed by U.S. Person.

    Foreign Affiliate of U.S.

    Person:

    --Swaps Not Booked in U.S. Substituted Compliance.

    (i.e., Affiliate is Legal

    Counterparty); and Swaps

    Not Guaranteed by U.S.

    Person.

    Non-U.S.-Based Swap Dealer:

    --Swaps neither Booked in Substituted Compliance.

    U.S. nor Guaranteed by U.S.

    Person.

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

    * Where swaps are solicited or negotiated by a foreign affiliate of a

    U.S. person but directly booked in the U.S. person, the U.S. person

    must comply with all of the swap dealer duties and obligations related

    to the swaps, including registration, capital and related prudential

    requirements.

    ** Both Entity-Level and Transaction-Level Requirements are the ultimate

    responsibilities of the U.S.-based swap dealer.

    *** With respect to the SDR reporting requirement, the Commission may

    permit substituted compliance only if direct access to swap data is

    provided to the Commission.

    Appendix B--Transaction-Level Requirements

    The Transaction-Level Requirements cover a range of Dodd-Frank

    requirements: some of the requirements more directly address

    financial protection of swap dealers (or MSPs) and their

    counterparties; others address more directly market efficiency and/

    or price discovery. Further, some of the Transaction-Level

    Requirements can be classified as Entity-Level Requirements and

    applied on a firm-wide basis across all swap transactions or

    activities. Nevertheless, in the interest of comity principles, the

    Commission believes that the Transaction-Level Requirements may be

    applied on a transaction-by-transaction basis.

    Category A: Risk Mitigation and Transparency

    Clearing and Swap Processing: CEA section 2(h)(1) requires a

    swap to be submitted for clearing to a derivatives clearing

    organization (``DCO'') if the Commission has determined that the

    swap is required to be cleared, unless one of the parties to the

    swap is eligible for an exception under section 2(h)(7) from the

    clearing requirement and elects not to clear the swap. Finally, the

    Commission adopted Sec. 23.506, which requires swap dealers and

    MSPs to submit swaps promptly for clearing and comply with Sec.

    23.610, which establishes certain standards for swap processing by

    swap dealers and MSPs that are clearing members of a DCO.

    Margin (and Segregation) Requirement for Uncleared Swap

    Transactions: Section 4s(e) explicitly requires the adoption of

    rules establishing margin requirements for swap dealers and MSPs,

    and applies a bifurcated approach that requires each swap dealer and

    MSP for which there is a prudential regulator to meet the margin

    requirements established by the applicable prudential regulator, and

    each swap dealer and MSP for which there is no prudential regulator

    to comply with Commission's margin regulations. In contrast, the

    ``segregation'' requirements in 4s(1) don't use a bifurcated

    approach--all swap dealers and MSPs are subject to the Commission's

    rule regarding notice and third party custodians for margin

    collected for uncleared swaps.

    Mandatory Trade Execution: CEA section 2(h)(8) provides that

    unless a non-financial end-user exemption applies, a swap that is

    subject to clearing requirement and made available to trade must be

    traded on a DCM or SEF.

    Swap Trading Relationship Documentation: CEA Section 4s(i)

    requires each swap dealer and MSP to conform to commission standards

    for the timely and accurate confirmation, processing, netting

    documentation and valuation of swaps. Pursuant thereto the

    Commission has proposed Sec. 23.504(a), which would require swap

    dealers and MSPs to ``establish, maintain and enforce written

    policies and procedures'' to ensure that the swap dealer or MSP

    executes written swap trading relationship documentation. Under

    proposed Sec. Sec. 23.505(b(1), 23.504 (b)(3), and 23.504(b)(4),

    the swap trading relationship documentation must include, among

    other things: all terms governing the trading relationship between

    the swap dealer and its counterparty; credit support arrangements;

    investment and rehypothecation terms for assets used as margin for

    uncleared swaps and custodial arrangements.\141\ Further, the swap

    trading relationship documentation requirement applies to all

    transactions with registered swap dealers and MSPs.

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

    \141\ The requirements under section 4s(i) relating to trade

    confirmations is a Transaction-Level Requirement. Accordingly,

    proposed 17 CFR 23.504(b)(2), which requires a swap dealer's and

    MSP's swap trading relationship documentation to include all

    confirmations of swap transactions, will apply on a transaction-by-

    transaction basis.

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

    Portfolio Reconciliation and Compression: CEA section 4s(i)

    directs the Commission to prescribe regulations for the timely and

    accurate processing and netting of all swaps entered into by swap

    dealers and MSPs. Pursuant to CEA section 4s(i), the Commission

    proposed regulations (Sec. Sec. 23.502 and 23.503), which would

    require swap dealers and MSPs to perform portfolio reconciliation

    and compression, respectively, for all swap transactions. Portfolio

    reconciliation is a post-execution risk management tool to ensure

    accurate confirmation of a swap's terms and to identify and resolve

    any discrepancies between counterparties regarding the valuation of

    the swap. Portfolio compression is a post-trade processing and

    netting mechanism that is intended to ensure timely accurate

    processing and netting of swaps. Proposed Sec. 23.503(c) would

    require all swap dealers and MSPs to participate in bilateral

    compression exercises and/or multilateral portfolio compression

    exercises conducted by their SROs or DCOs of which they are members.

    Further, participation in multilateral portfolio compression

    exercises is mandatory for dealer to dealer trades.

    Real-Time Public Reporting: CEA section 2(a)(13) directs the

    Commission to promulgate rules providing for the public availability

    of swap transaction data in real time basis. The Commission

    promulgated part 43 rules, which provides that all ``publicly

    reportable swap transactions'' must be reported and publicly

    disseminated.

    Trade Confirmation: CEA section 4s(i) requires that each swap

    dealer and MSP must comply with the Commission's regulations

    prescribing timely and accurate confirmation of transactions. The

    Commission has proposed Sec. 23.501, which requires, among other

    things, a timely and accurate confirmation of all swaps and life

    cycle

    [[Page 41237]]

    events for existing swaps. In addition, proposed Sec. 23.504(b)(2)

    requires a swap dealer's and MSP's swap trading relationship

    documentation to include all confirmations of swap transactions.

    Daily Trading Records: Pursuant to section CEA 4s(g)(1), the

    Commission adopted Sec. 23.202, which requires swap dealers and

    MSPs to maintain daily trading records, including records of trade

    information related to pre-execution, execution, and post-execution

    data that is needed to conduct a comprehensive and accurate trade

    reconstruction for each swap. The final rule also requires that

    records be kept of cash or forward transactions used to hedge,

    mitigate the risk of, or offset any swap held by the swap dealer or

    MSP.

    Category B: Sales Practices

    External Business Conduct Standards: Pursuant to CEA section

    4s(h), the Commission has adopted external business conduct rules,

    which establish business conduct standards governing the conduct of

    swap dealers and MSPs in dealing with their counterparties in

    entering into swaps.

    Category A

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

    Non-U.S. person

    U.S. Person guaranteed by U.S. Non-U.S. person not guaranteed by

    person ** U.S. person

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

    U.S.-Based Swap Dealer.......... Apply.............. Apply............. Apply.

    Foreign Affiliate/Swaps Booked Apply.............. Apply............. Apply.

    in U.S.*.

    Foreign Branches/Agencies of Apply.............. Substituted Substituted Compliance.***

    U.S.-Based Swap Dealer. Compliance***.

    Foreign Affiliate of U.S.

    Person:

    --The Affiliate is the Legal Apply.............. Substituted Do Not Apply.

    Counterparty But All Swaps Compliance.

    Guaranteed by U.S. Person.

    Foreign Affiliate of U.S.

    Person:

    --Swaps Not Booked in U.S. Apply.............. Substituted Do Not Apply.

    (i.e., Affiliate is Legal Compliance.

    Counterparty); and Swaps

    Not Guaranteed by U.S.

    Person.

    Non-U.S.-Based Swap Dealer:

    --Swaps neither Booked in Apply.............. Substituted Do Not Apply.

    U.S. nor Guaranteed by U.S. Compliance.

    Person.

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

    * Where swaps are solicited or negotiated by a foreign affiliate but directly booked in the U.S. person, the

    U.S. person must comply with all of the swap dealer duties and obligations, including all Transaction-Level

    Requirements. The foreign affiliate, if separately required to register as a swap dealer, must comply with

    those requirements applicable to its swap dealing activities.

    ** The Transaction-Level Requirements apply to swaps in which: (i) a non-U.S. counterparty is majority-owned,

    directly or indirectly, by a U.S. person; (ii) the non-U.S. counterparty regularly enters into swaps with one

    or more U.S. affiliates or subsidiaries of the U.S. person; and (iii) the financials of such non-U.S.

    counterparty are included in the consolidated financial statements of the U.S. person.

    *** Under limited circumstances, where there is not a comparable foreign regulatory regime, foreign branches and

    agencies of U.S. swap dealers may comply with the local transaction-level requirements rather than the

    Transaction-Level Requirements, subject to specified conditions.

    Notes:

    1. The swap trading relationship documentation requirement applies to all transactions with registered swap

    dealers and MSPs.

    2. Participation in multilateral portfolio compression exercises is mandatory for dealer to dealer trades.

    Category B

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

    Non-U.S. person Non-U.S. person not

    U.S. person guaranteed by U.S. guaranteed by U.S.

    person ** person

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

    U.S.-Based Swap Dealer........... Apply.................... Apply................... Apply.

    Foreign Affiliate of U.S. Person:

    --Swaps are Booked in U.S.*.. Apply.................... Do Not Apply............ Do Not Apply.

    Foreign Branches/Agencies of U.S.- Apply.................... Do Not Apply............ Do Not Apply.

    Based Swap Dealer.

    Foreign Affiliate of U.S. Person:

    --The Affiliate is the Legal Apply.................... Do Not Apply............ Do Not Apply.

    Counterparty But All Swaps

    Guaranteed by U.S. Person.

    Foreign Affiliate of U.S. Person:

    --Swaps Not Booked in U.S. Apply.................... Do Not Apply............ Do Not Apply.

    (i.e., Affiliate is Legal

    Counterparty); and Swaps Not

    Guaranteed by U.S. Person.

    Non-U.S.-Based Swap Dealer:

    --Swaps neither Booked in Apply.................... Do Not Apply............ Do Not Apply.

    U.S. nor Guaranteed by U.S.

    Person.

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

    * Where swaps are solicited or negotiated by an affiliate of a U.S. person but directly booked in the U.S.

    person, the U.S. person must comply with all of the swap dealer duties and obligations, including all

    Transaction-Level Requirements. The foreign affiliate, if separately required to register as a swap dealer,

    must comply with those requirements applicable to its swap dealing activities.

    ** The Transaction-Level Requirements apply to swaps in which: (i) A non-U.S. counterparty is majority-owned,

    directly or indirectly, by a U.S. person; (ii) the non-U.S. counterparty regularly enters into swaps with one

    or more U.S. affiliates or subsidiaries of the U.S. person; and (iii) the financials of such non-U.S.

    counterparty are included in the consolidated financial statements of the U.S. person.

    Appendix C--All Other (Non-Swap Dealer/MSP) Market ParticipantS \*\

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

    Non-U.S. person Non-U.S. person not

    U.S. person guaranteed by U.S. guaranteed by U.S.

    person person

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

    U.S. Person...................... Apply.................... Apply................... Apply.

    Non-U.S. Person Guaranteed by Apply.................... Do Not Apply............ Do Not Apply.

    U.S. Person.

    [[Page 41238]]

    Non-U.S. Person Not Guaranteed by Apply.................... Do Not Apply............ Do Not Apply.

    U.S. Person.

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

    * The relevant Dodd-Frank requirements are those relating to: clearing, trade execution, real-time public

    reporting, Large Trader Reporting, SDR reporting and swap data recordkeeping.

    Issued in Washington, DC, on June 29, 2012, by the Commission.

    David A. Stawick,

    Secretary of the Commission.

    Appendices to Cross-Border Application of Certain Swaps Provisions of

    the Commodity Exchange Act--Commission Voting Summary and Statements of

    Commissioners

    Note: The following appendices will not appear in the Code of

    Federal Regulations

    Appendix 1--Commission Voting Summary

    On this matter, Chairman Gensler and Commissioners Sommers,

    Chilton, O'Malia and Wetjen voted in the affirmative; no

    Commissioner voted in the negative.

    Appendix 2--Statement of Chairman Gary Gensler

    I support the proposed guidance on the cross-border application

    of the Dodd-Frank Wall Street Reform and Consumer Protection Act

    (Dodd Frank Act). The Commission is not required to solicit public

    comment on interpretive guidance, but we are particularly interested

    in the public's input and look forward to comments on the proposed

    guidance.

    In 2008, swaps, and in particular credit default swaps,

    concentrated risk in financial institutions and contributed to the

    financial crisis, the worst economic crisis Americans have

    experienced since the Great Depression. Eight million Americans lost

    their jobs, millions of families lost their homes, and small

    businesses across the country folded. Congress and the President

    responded with the Dodd-Frank Act, bringing common-sense rules of

    the road to the swaps marketplace.

    Section 722(d) of the Dodd-Frank Act states that swaps reforms

    shall not apply to activities outside the United States unless those

    activities have ``a direct and significant connection with

    activities in, or effect on, commerce of the United States.'' In

    interpreting Section 722(d), we must not forget the lessons of the

    2008 crisis and earlier. Swaps executed offshore by U.S. financial

    institutions can send risk straight back to our shores. It was true

    with the London and Cayman Islands affiliates of AIG, Lehman

    Brothers, Citigroup and Bear Stearns. A decade earlier, it was true,

    as well, with Long-Term Capital Management.

    The nature of modern finance is that large financial

    institutions set up hundreds, if not thousands of ``legal entities''

    around the globe.

    They do so in an effort to respond to customer needs, funding

    opportunities, risk management and compliance with local laws. They

    do so as well, though, to lower their taxes, manage their reported

    accounting, and to minimize regulatory, capital and other

    requirements, so-called ``regulatory arbitrage.'' Many of these far-

    flung legal entities, however, are still highly connected back to

    their U.S. affiliates.

    During a default or crisis, the risk that builds up offshore

    inevitably comes crashing back onto U.S. shores. When an affiliate

    of a large, international financial group has problems, the markets

    accept this will infect the rest of the group. This was true with

    AIG. Its subsidiary, AIG Financial Products, brought down the

    company and nearly toppled the U.S. economy. It was run out of

    London as a branch of a French-registered bank, though technically

    was organized in the United States.

    Lehman Brothers was another example. Among its complex web of

    affiliates was Lehman Brothers International (Europe) in London.

    When Lehman failed, the London affiliate had more than 130,000

    outstanding swaps contracts, many of them guaranteed by Lehman

    Brothers Holdings back in the United States.

    Yet another example was Citigroup, which set up numerous

    structured investment vehicles (SIVs) to move positions off its

    balance sheet for accounting purposes, as well as to lower its

    regulatory capital requirements. Yet, Citigroup had guaranteed the

    funding of these SIVs through a mechanism called a liquidity put.

    When the SIVs were about to fail, Citigroup in the United States

    assumed the huge debt, and taxpayers later bore the brunt with two

    multi-billion dollar infusions. The SIVs were launched out of London

    and incorporated in the Cayman Islands.

    Bear Stearns is another case. Bear Stearns' two sinking hedge

    funds it bailed out in 2007 were incorporated in the Cayman Islands.

    Yet again, the public assumed part of the burden when Bear Stearns

    itself collapsed nine months later.

    A decade earlier, the same was true for Long-Term Capital

    Management. When the hedge fund failed in 1998, its swaps book

    totaled in excess of $1.2 trillion notional. The vast majority were

    booked in its affiliated partnership in the Cayman Islands.

    The recent events of JPMorgan Chase, where it executed swaps

    through its London branch, are a stark reminder of this reality of

    modern finance.

    The proposed guidance interpreting Section 722(d),intended to be

    flexible in application, includes the following key elements:

    First, it provides the guidance that when a foreign entity

    transacts in more than a de minimis level of U.S. facing swap

    dealing activity, the entity would register under the Dodd-Frank Act

    swap dealer registration requirements.

    Second, it includes a tiered approach for foreign swap dealer

    requirements. Some requirements would be considered entity-level,

    such as for capital, chief compliance officer, swap data

    recordkeeping, reporting to swap data repositories and large trader

    reporting. Some requirements would be considered transaction-level,

    such as clearing, margin, real-time public reporting, trade

    execution, trading documentation and sales practices.

    Third, entity-level requirements would apply to all registered

    swap dealers, but in certain circumstances, foreign swap dealers

    could meet these requirements by complying with comparable and

    comprehensive foreign regulatory requirements, or what we call

    ``substituted compliance.''

    Fourth, transaction-level requirements would apply to all U.S.

    facing transactions. For these requirements, U.S. facing

    transactions would include not only transactions with persons or

    entities operating or incorporated in the United States, but also

    transactions with their overseas branches. Likewise, this would

    include transactions with foreign affiliates that are guaranteed by

    a U.S. entity, as well as the foreign affiliates operating as

    conduits for a U.S. entity's swap activity. Foreign swap dealers, as

    well as overseas branches of U.S. swap dealers, in certain

    circumstances, may rely on substituted compliance when transacting

    with foreign affiliates guaranteed by or operating as conduits of

    U.S. entities.

    Fifth, for certain transactions between a foreign swap dealer

    (including an overseas affiliate of a U.S. person) and

    counterparties not guaranteed by or operating as conduits for U.S.

    entities, Dodd-Frank transaction-level requirements may not apply.

    For example, this would be the case for a transaction between a

    foreign swap dealer and a foreign insurance company not guaranteed

    by a U.S. person. There are some in the financial community who

    might want the CFTC to ignore the hard lessons of the crisis and

    before.

    They might comment that swap trades entered into in London

    branches of U.S. entities do not have a direct and significant

    connection with activities in, or effect on U.S. commerce.

    They might comment that affiliates guaranteed by a U.S. mother

    ship do not have a direct and significant connection with activities

    in, or effect on U.S. commerce.

    They might comment that affiliates acting as conduits for swaps

    activity back here in

    [[Page 41239]]

    the United States do not have a direct and significant connection

    with activities in, or effect on U.S. commerce.

    If we were to follow these comments, though, American jobs and

    markets might move offshore, yet the risk associated with such

    overseas swaps activities, particularly in times of crisis, would

    still have a direct and significant connection with activities in,

    or effect on U.S. commerce.

    Appendix 3--Statement of Commissioner Jill Sommers

    Over a year ago, the Commission finally acknowledged that we

    needed to address the growing uncertainty brewing among swap market

    participants who were trying to decipher the extraterritorial reach

    of the Dodd-Frank Act. We held a two-day roundtable last August and

    have received numerous comments since then from market participants

    and other regulators asking us to consider a global approach to the

    regulation of these global markets. We were encouraged to coordinate

    with our foreign and domestic partners and urged not to implement

    our regulatory approach in a silo.

    CFTC staff has worked diligently to address the challenging

    issues associated with the statutory language of Section 2(i) of the

    Commodity Exchange Act (CEA). Unfortunately, when the Proposed

    Interpretive Guidance and Policy Statement (``Interpretive

    Guidance'') was finally shared with the rest of the Commission on

    June 1, 2012, we learned that staff had been guided by what could

    only be called the ``Intergalactic Commerce Clause'' of the United

    States Constitution, in that every single swap a U.S. person enters

    into, no matter what the swap or where it was transacted, was stated

    to have a direct and significant connection with activities in, or

    effect on, commerce of the United States. This statutory and

    constitutional analysis of the extraterritorial application of U.S.

    law was, in my view, nothing short of extra-statutory and extra-

    constitutional.

    While the many revisions over the last several weeks have

    tempered the outer limits of our initial approach, the Interpretive

    Guidance nonetheless continues to ignore the Commission's successful

    history of mutual recognition of foreign regulatory regimes spanning

    20-plus years. We have worked for decades to establish relationships

    with our foreign counterparts built on respect and trust, and should

    not be so eager and willing to disregard their capabilities. All G20

    nations agreed to comprehensive regulation of swap markets and we

    should rely on their regional expertise. The current document

    acknowledges the concept of ``substituted compliance,'' but it is

    extremely vague with respect to what the Commission will be

    considering in making these determinations. In my view, a very broad

    and high level review of regulatory regimes is appropriate versus a

    word-for-word comparison of rule books.

    While the market failures described in the ``Background''

    section of the Interpretive Guidance recount why the G20 nations

    together agreed to a common set of principles for regulation of a

    global marketplace, recounting those market failures does not

    justify the expansive view the Commission has taken of its

    jurisdictional reach, and does not justify the implication that

    other nations are not capable of effective regulation.

    As Commissioner O'Malia points out in his concurrence, not only

    have we failed to coordinate with foreign regulators on a global

    cross-border approach, we have failed to coordinate with our fellow

    domestic regulators. As I have said for many months, we should be

    proposing a rule defining the cross-border application of Dodd-Frank

    that is harmonized with the SEC's approach, both in substance and in

    timing. Unfortunately we are not doing that. Instead, we are

    proposing Interpretive Guidance that ultimately has the effect of a

    rule. No matter what it is called, the Interpretive Guidance is so

    inextricably linked to the entity definitions and the registration

    rules that it is a part of those rules themselves. Because it is not

    titled a ``Notice of Proposed Rulemaking,'' we skirt the

    requirements of the Administrative Procedure Act and the requirement

    under Section 15(a) of the CEA that the Commission conduct a cost-

    benefit analysis. I believe this approach, yet again, needlessly

    exposes the Commission to litigation.

    Over the last two years, while considering many proposed and

    final rules, I have been very clear that I cannot support an

    approach that creates an un-level playing field for market

    participants. I am concerned that the different compliance dates in

    the Proposed Exemptive Order may unnecessarily disadvantage U.S.-

    based swap dealers and MSPs from the moment the document is

    published in the Federal Register. I encourage comment on this issue

    and hope that if we determine to harmonize the compliance dates for

    entities in the U.S. and abroad, that we can do so before too much

    damage is done to U.S.-based market participants.

    As I reviewed the documents currently under consideration, it

    occurred to me that two choices are presented. One is that the

    Commission decline to issue the Interpretive Guidance and Proposed

    Exemptive Order and leave market participants in a continued state

    of uncertainty. The other is that the Commission issue these

    documents and provide market participants with the certainty that we

    are advancing a flawed policy. Neither is appealing.

    My decision to support putting these proposals out for comment

    was not easily reached. From the beginning I have supported a much

    simpler approach to the extraterritorial reach of Dodd-Frank. I am

    hopeful that the comment letters will encourage the Commission to

    adopt a final rule that will rely on mutual recognition of all

    global regulatory regimes in a manner that avoids costly, burdensome

    duplicative regulations.

    Appendix 4--Statement of Commissioner Scott D. O'Malia

    I respectfully concur with the Commodity Futures Trading

    Commission's (the ``Commission'' or ``CFTC'') approval of its

    proposed interpretive guidance and policy statement (``Proposed

    Guidance'') regarding section 2(i) of the Commodity Exchange Act

    (``CEA'') \142\ and its notice of proposed exemptive order

    (``Proposed Order''). While I have strong reservations about the

    statutory authority and disagree with the Commission's decision to

    issue interpretive guidance instead of a formal rulemaking, I

    believe that the timely release of these proposals is critical for

    firms to have some sense of what U.S. standards will apply to their

    cross-border transaction, and how those standards will comport with

    international standards. We expect that these proposals will improve

    as a result of input from market participants, as well as an open

    dialogue with global regulators.

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

    \142\ See 7 U.S.C. 1 et seq.

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

    These two proposals are complementary in that the Commission's

    long-awaited Proposed Guidance establishes our view of the

    application of the swaps provisions of the CEA to cross-border swaps

    transactions, while the Proposed Order will delay compliance with

    certain entity-level and transaction-level swaps requirements in the

    CEA pending the final adoption of the Proposed Guidance. The

    Proposed Order also borrows definitions and concepts from the

    Proposed Guidance, such as the proposed definition of ``U.S.

    person.'' While I believe that the Commission's issuance of the

    Proposed Guidance and the Proposed Order are overdue, I have a

    number of general concerns with the former.

    I have been assured that the Proposed Guidance is a draft and,

    although it is not required, will follow the normal notice-and-

    comment process under the Administrative Procedure Act.\143\ After

    the comment period, the Commission will review public comments and

    subsequently will incorporate those comments into final guidance. I

    would like to make it clear that if I were asked to vote on the

    Proposed Guidance as final, my vote would be no.

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

    \143\ See 5 U.S.C. 551 et seq.

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

    The Proposed Guidance

    My concerns with the Proposed Guidance relate generally to the

    Commission's unsound interpretation of section 2(i) of the CEA. In

    particular, I believe that the Commission's analysis: (i)

    Misconstrues the language of section 2(i); (ii) is inconsistently

    applied to different activities; (iii) loosely considers

    international law and comity; (iv) lacks meaningful collaboration

    with foreign and domestic regulators; and (v) blurs the lines

    between interpretive guidance and legislative or interpretive

    rulemaking. I discuss each of these concerns below.

    i. Statutory Misconstruction

    Section 2(i) of the CEA provides, in part, that the Commission's

    swap authority does not apply to foreign activities unless those

    activities ``have a direct and significant connection with

    activities in, or effect on, commerce of the United States * * *.''

    \144\ When Congress passed the Dodd-Frank Wall Street Reform and

    Consumer Protection Act (the ``Dodd-Frank Act''),\145\ it intended

    that

    [[Page 41240]]

    section 2(i) act as a limitation on the Commission's authority.

    Under section 2(i), the Commission is required to demonstrate how

    and when its jurisdiction applies to activities that take place

    outside of the United States. Instead, the Commission's Proposed

    Guidance ignores the literal statutory construction of section 2(i)

    and prejudicially switches the analysis. In other words, the

    Proposed Guidance now places the burden on market participants to

    explain why their foreign swaps activities are outside of the

    Commission's regulatory oversight. By placing the burden on market

    participants to determine whether their swaps activities are subject

    to the swaps provisions of the CEA--and without providing more

    guidance to these participants--the Commission inappropriately

    broadens the scope of swaps activities that will fall within the

    Commission's jurisdiction. The Commission could more clearly

    delineate which activities it believes will have a direct and

    significant connection with U.S. commerce in order to ensure that

    our regulatory interests are preserved.\146\

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

    \144\ 7 U.S.C. 2(i) (2012).

    \145\ See Dodd-Frank Wall Street Reform and Consumer Protection

    Act, Public Law 111-203, 124 Stat. 1376 (2010).

    \146\ For example, in the case of non-interdealer swap

    transactions, the Commission could focus its analysis on the

    solicitation activities of swap dealers. In the case of other swap

    transactions, the Commission could examine the location of where

    performance of the primary obligations under a swap agreement takes

    place.

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

    ii. Inconsistent Application of CEA Section 2(i)

    In addition, the Commission's Proposed Guidance inconsistently

    applies, and sometimes ignores, its own section 2(i) analysis. For

    instance, the Commission sets forth in detail its belief that ``the

    level of swap dealing that is substantial enough to require a person

    to register as a swap dealer when conducted by a U.S. person, also

    constitutes a `direct and significant connection' within the meaning

    of section 2(i)(1) of the CEA.'' \147\ As a result, a non-U.S.

    person would have a direct and significant connection with the

    United States and therefore have to register with the Commission as

    a swap dealer only once it engages in more than the de minimis level

    of swap dealing with U.S. persons.\148\ In contrast to this somewhat

    extensive analysis for swap dealers, the Commission provides a

    sparse explanation of why it believes each and every swap

    transaction between one or more U.S. persons or counterparties other

    than a swap dealer or major swap participant (``MSP'') satisfies the

    direct and significant connection analysis in section 2(i).\149\

    Swap transactions that fall under this analysis would be subject to

    certain transaction-level swaps requirements, including clearing,

    exchange trading, reporting to a swap data repository under part 45

    of the Commission's regulations, real-time public reporting and

    large swaps trader reporting under part 20 of the Commission's

    regulations.

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

    \147\ The Commission's analysis in the Proposed Guidance relies

    on its analysis in the final entities rule. See Further Definition

    of ``Swap Dealer,'' ``Security-Based Swap Dealer,'' ``Major Swap

    Participant,'' ``Major Security-Based Swap Participant,'' and

    ``Eligible Contract Participant,'' 77 FR 30596 (May 23, 2012).

    \148\ See 77 FR at 30634 (``[T]he Commissions believe that the

    appropriate threshold for the phase-in period is an annual gross

    notional level of swap dealing activity of $8 billion or less. In

    particular, the $8 billion level should still lead to the regulation

    of persons responsible for the vast majority of dealing activity

    within the swap markets.''). The Commission ties the direct and

    significant connection analysis to the crude analysis in the final

    entities rule. I voted against the final entities rule for several

    reasons, including its flawed reasoning. I expressed my support,

    however, with respect to the positive outcome that resulted from the

    establishment of the $8 billion de minimis threshold.

    \149\ See section V of this Proposed Guidance (``In light of the

    significant extent of U.S. persons' swap activities outside of the

    United States in today's global marketplace, and the risks to U.S.

    persons and the financial system presented by such swaps activities

    outside of the United States with U.S. persons as counterparties,

    the Commission believes that U.S. persons' swap activities outside

    the United States have the requisite connection with or effect on

    U.S. commerce under section 2(i) to apply the swaps provisions of

    the CEA to such activities.''). In a footnote in the Proposed

    Guidance, the Commission then reasons without persuasive legal

    support that the aggregate of outside activities and the aggregate

    connection with U.S. commerce warrant the application of the CEA

    swaps provisions to all such foreign activities.

    The Commission's analysis ignores and minimizes two important

    points. First, it ignores the fact that multinational entities also

    may have major operations and business relationships in foreign

    jurisdictions and may be considered persons within those

    jurisdictions. Second, its analysis minimizes the fact that there

    are an appreciable number of U.S. persons who engage in a relatively

    small number of swaps transactions. Even if those U.S. persons'

    transactions were aggregated, it is questionable whether their swaps

    in the aggregate would meet the ``significant'' element in the

    section 2(i) analysis.

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

    Similarly, in another instance, the Commission has divined an

    exception to the application of certain Commission regulations for

    situations where a foreign branch of a U.S. swap dealer engages in

    swap dealing activities in emerging markets or other jurisdictions

    without comparable swaps regimes.\150\ Although the policy result of

    this exception is well intended, its bare analysis pales in

    comparison to the Commission's section 2(i) analysis in other places

    of the Proposed Guidance.\151\

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

    \150\ See section III.D.1 of this Proposed Guidance (``To be

    eligible for this exception, the aggregate notional value (expressed

    in U.S. dollars and measured on a quarterly basis) of the swaps of

    all foreign branches in such countries may not exceed five percent

    of the aggregate notional value (expressed in U.S. dollars and

    measure on a quarterly basis) of all of the swaps of the U.S. swap

    dealer.'').

    \151\ See, e.g., the MSP discussion in section II.C.2. of this

    Proposed Guidance.

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

    In yet another section of the Proposed Guidance, the Commission

    does not adequately explain why almost all transaction-level

    requirements (i.e., clearing, margining for uncleared swaps, real-

    time public reporting and certain business conduct standards)

    equally satisfy the direct and significant connection analysis under

    CEA section 2(i). In my view, two transaction-level requirements

    related to pre- and post-trade transparency--namely, trade execution

    and real-time public reporting requirements--do not raise the same

    level of systemic risk concerns as clearing and margining for

    uncleared swaps. I believe the Commission should better explain its

    rationale for requiring foreign swap dealers transacting with non-

    U.S. persons to meet the trade execution and real-time public

    reporting requirements under Title VII of the Dodd-Frank Act and

    Commission regulations.

    iii. Loose Consideration of Principles of International Comity

    Moreover, the Commission's interpretation of CEA section 2(i) is

    overly broad to the point where the extent of the Commission's

    jurisdiction is virtually endless. The Proposed Guidance takes the

    position that all transactions involving a U.S. person fall within

    the Commission's jurisdiction, regardless of the location of the

    transaction or the regulations in effect within the relevant

    jurisdiction.

    While section 2(i) gives the Commission jurisdiction to reach

    activities that take place outside of the United States, the

    Commission's Proposed Guidance loosely considers principles of

    international comity that are essential for determining the

    extraterritorial applicability of U.S. law. Although the Proposed

    Guidance expressly states that the Commission will exercise its

    regulatory authority over cross-border activities in a manner

    consistent with principles of international comity, the Commission's

    proposed approach could be described as unilateral and dismissive of

    foreign law, even when those laws may achieve the same results

    sought by the Commission.\152\

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

    \152\ The Proposed Guidance correctly cites judicial and

    executive branch precedent and guidance addressing the application

    of international law and comity concepts in determining the

    extraterritorial applicability of federal statutes. See section

    III.A. of this Proposed Guidance. These concepts are found in

    sections 403(1) and (2) of the Third Restatement of Foreign

    Relations Law. See Restatement (Third) of Foreign Relations Law of

    the United States Sec. Sec. 403(1), 403(2) (1986).

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

    I strongly believe that the Commission instead must honor these

    principles in order to respect the legitimate interests of other

    sovereign nations. This approach would serve to complement, and not

    limit, the ability of the Commission to effectively regulate swaps

    markets. The Commission does not have the resources to register and

    regulate all market participants and swaps activities. By relying on

    comparable foreign regulatory regimes to address the trading

    activities of foreign market participants, the Commission could

    better allocate resources domestically in a more effective manner.

    iv. The Commission Should Engage in Real and Meaningful Cooperation

    With Foreign and Domestic Regulators

    The Proposed Guidance references a series of well-known large

    financial institution failures--such as Lehman Brothers and Long

    Term Capital Management--to support the Commission's over-expansive

    interpretation and application of Title VII of the Dodd-Frank Act. I

    agree that those failures had a detrimental effect on the U.S.

    economy. We must not forget, however, that the swaps

    [[Page 41241]]

    markets are truly global and the Commission's swaps regulations will

    not operate in a vacuum. For that reason, the Commission should

    consider the interaction of its swaps regulations with the

    regulations of other jurisdictions, all of which have legitimate

    regulatory interests in the trading of swaps by multinational

    organizations. Thus, the Commission's swaps regulation should be

    concordant with foreign swaps regulations in order to avoid

    duplication, conflict and unnecessary uncertainty.

    In light of today's highly interdependent, global financial

    markets, the Commission needs to engage in real cooperation with

    foreign regulators and to coordinate its swaps regulations with the

    regulations of other sovereign nations. Concepts of comparability

    and mutual recognition are essential.

    The Commission should follow the example of international

    cooperation and coordination seen in the efforts of the Basel

    Commission on Banking Supervision (``BCBS'') and the International

    Organization of Securities Commissions (``IOSCO'') in developing

    harmonized international standards for the margining of uncleared

    swaps. BCBS and IOSCO plans to publish a consultation paper

    outlining these standards. Notwithstanding the Commission's own

    efforts to propose rules for the margining of uncleared swaps for

    swap dealers and MSPs,\153\ the Commission plans to consider the

    final policy recommendations set forth by BCBS and IOSCO when

    adopting the Commission's final rules for the margining of uncleared

    swaps and may adapt those final rules to conform with BCBS and

    IOSCO's final policy recommendations. The Commission should follow

    the lead of BCBS and IOSCO in harmonizing many of its other rules.

    In my view, either the G20 or another international body or

    consortium of nations could act as a springboard for the

    coordination of swaps regulation.\154\

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

    \153\ See Capital Requirements of Swap Dealers and Major Swap

    Participants, 76 Fed. Reg. 27802 (May 12, 2011).

    \154\ On June 18-19, 2012, the leaders of the G20 convened in

    Los Cabos, Mexico to reaffirm their commitments with respect to the

    regulation of the over-the-counter (``OTC'') derivatives markets.

    Specifically, the G20 leaders reaffirmed their commitment that all

    standardized OTC derivatives be traded on exchanges or electronic

    platforms and be centrally cleared by the end 2012. See the G20

    Declaration (June 2012), para. 39, p. 7, at: http://www.g20.org/images/stories/docs/g20/conclu/G20_Leaders_Declaration_2012.pdf.

    The Commission should follow the spirit of the G20's cooperative

    efforts by working with foreign regulators to determine the

    applicability of its swaps regulations to cross-border swaps.

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

    On June 22, 2012, European Union Commissioner Michel Barnier

    echoed this position in a statement to the Financial Times.\155\ Mr.

    Barnier made clear that effective international regulation involves

    regulators coordinating their efforts to implement mandatory

    clearing, trading and reporting of over-the-counter derivatives. A

    coordinated approach would ensure that swaps do not evade

    regulation. Mr. Barnier also made clear that regulatory regimes that

    assert jurisdiction over trading activity already within the

    jurisdiction of another competent regulator is both unnecessary and

    costly. I agree with Mr. Barnier's view that our goal as regulators

    should be to establish regulatory regimes that prevent swaps from

    slipping through the cracks without applying our laws to activity

    that is better regulated by our trusted colleagues abroad.

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

    \155\ See statement by Commissioner Michel Barnier of the

    European Union, Financial Times, June 22, 2012 (``Where the rules of

    another country are comparable and consistent with the objectives of

    U.S. law, it is reasonable to expect U.S. authorities to rely on

    those rules and recognize activities regulated under them as

    compliant. We in the EU can do exactly the same * * * This is

    reasonable because it accepts legal boundaries and the need for

    regulators to trust and rely on each other. It is effective because

    it achieves our common objective of mandatory clearing, trading and

    reporting of OTC derivatives: no trade will escape the regulation.

    It is efficient because it avoids subjecting the same trades and

    businesses to two different sets of rules simultaneously and

    expensively.'').

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

    Unfortunately, the Proposed Guidance overreaches in many

    respects and, as a result, steps on the toes of other sovereign

    nations. Today's Proposed Guidance will likely provoke these nations

    to develop strict swaps rules in retaliation that unfairly and

    unnecessarily burden U.S. firms.\156\

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

    \156\ Some jurisdictions have provisions that are similar to CEA

    section 2(i). For example, Article 13 of European Market

    Infrastructure Regulation (``EMIR'') provides that the European

    Securities and Markets Authority must prescribe technical standards

    specifying the contracts that are considered to have a direct,

    substantial and foreseeable effect on the European Union, or in

    cases where it is necessary or appropriate to prevent the evasion of

    any general applicability provisions in EMIR. See Regulation of the

    European Parliament and of the Council on OTC Derivatives, Central

    Counterparties and Trade Repositories, European Market

    Infrastructure Regulation (Mar. 29. 2012), available at: http://ec.europa.eu/internal_market/financial-markets/derivatives/index_en.htm. The Commission's overreaching interpretation of CEA section

    2(i) may inspire ESMA and other regulators to interpret their

    provisions in a similar manner.

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

    Interestingly, we not only fail to harmonize internationally, we

    also fail to harmonize domestically. In other words, I believe that

    the Commission should take a page from the Securities and Exchange

    Commission's (``SEC'') playbook regarding implementation and the

    application of swaps requirements to cross-border activities.

    Recently, the SEC issued a statement of general policy (the ``SEC's

    Statement'') on the sequencing of compliance dates for final rules

    applicable to the security-based swaps market.\157\ The SEC's

    Statement presents a commonsense sequencing of the compliance dates

    for the SEC's final rules implementing the provisions of Title VII

    of the Dodd-Frank Act to domestic and cross-border swaps activities.

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

    \157\ See Statement of General Policy on the Sequencing of the

    Compliance Dates for Final Rules Applicable to Security-Based Swaps

    Adopted Pursuant to the Securities Exchange Act of 1934 and the

    Dodd-Frank Wall Street Reform and Consumer Protection Act, to be

    published under 17 CFR Part 240 (June 11, 2012), available at:

    http://www.sec.gov/rules/policy/2012/34-67177.pdf.

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

    In stark contrast, the Commission is engaging in what amounts to

    high-frequency regulation. I am very critical of this regulatory

    approach because it generally results in regulatory uncertainty and

    unintended, adverse consequences. In my view, failure to achieve

    real and meaningful harmonization of the implementation and

    application of swaps and security-based swaps rules will result in

    inconsistencies and added compliance challenges and costs for market

    participants who trade in both markets.

    v. Interpretive Guidance or an Interpretive Rule?

    Several times while reading drafts of the Proposed Guidance, I

    had to stop, put it down, and recall that I was reading the

    Commission's proposed interpretation of CEA section 2(i)--not a

    prescriptive rule. Although the Commission has taken great pains to

    clarify that it is publishing guidance and a policy statement

    regarding the cross-border application of the swaps provisions of

    the CEA, certain elements of the Proposed Guidance are written

    similar to legislative or interpretive rules instead of interpretive

    guidance. For example, the Proposed Guidance states that subsequent

    to registration with the Commission:

    [T]he Commission expects that a non-U.S. swap dealer or non-U.S.

    MSP would notify the Commission of any material changes to

    information submitted in support of a comparability finding

    (including, but not limited to, changes in the relevant supervisory

    or regulatory regime) as the Commission's comparability

    determination may no longer be valid.\158\

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

    \158\ Section IV.A.2 of this Proposed Guidance.

    The Commission's artful use of the terms ``expect'' and

    ``expectation'' in the Proposed Guidance does not disguise the fact

    that it is requiring applicants to satisfy significant ongoing

    monitoring and compliance obligations in order to maintain its

    comparability finding. If the Commission wanted to require a non-

    U.S. swap dealer or non-U.S. MSP applicant to submit these

    additional documents in connection with such applicant's ongoing

    registration-related obligations, the Commission should have

    included these requirements in the swap dealer and MSP registration

    rulemaking, which the Commission finalized in January of this

    year.\159\ Instead, the Commission is issuing today's Proposed

    Guidance in a manner that is outside of the requirements set forth

    in the Administrative Procedure Act.\160\

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

    \159\ See Registration of Swap Dealers and Major Swap

    Participants, 77 FR 2613 (Jan. 19, 2012).

    \160\ See 5 U.S.C. 551 et seq.

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

    The Proposed Order

    Notwithstanding my general concerns with the Proposed Guidance,

    I believe that the Commission's Proposed Order appropriately

    provides both U.S. and foreign firms with transition periods in

    which to comply with the Commission's interpretation of CEA section

    2(i). As noted above, the Proposed Order would permit foreign swap

    dealer and MSP registrants to delay compliance with certain entity-

    level requirements and transaction-level requirements under Title

    VII of the Dodd-Frank Act pending the adoption of the Commission's

    final

    [[Page 41242]]

    interpretive guidance regarding section 2(i). My concurrence today

    comes after several days of negotiations with my fellow

    commissioners. I am relieved that we are protecting the

    competitiveness of U.S. firms in the Proposed Order.\161\ Although I

    am generally supportive of the Proposed Order, I do have a couple of

    more pragmatic concerns regarding the manner in which foreign swap

    dealers and MSPs will comply with the Commission's registration

    requirements.

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

    \161\ Under the Proposed Order, U.S. swap dealers and MSPs will

    only be required to register with the Commission and to meet the

    requirements under parts 20 (large swap trader reporting) and 45

    (swap data recordkeeping and reporting) until December 31, 2012

    before other entity-level requirements will become effective.

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

    First, I believe the Commission should tie the expiration of

    this relief to the adoption of a final exemptive order. Currently,

    the Proposed Order unjustifiably ties the expiration of the relief

    to the date on which the Proposed Order is published in the Federal

    Register. The Proposed Order's current expiration does not make

    sense in light of the fact that potential registrants will not know

    the contours of the final relief until the Commission approves a

    final exemptive order. If we do not tie the expiration of relief to

    the publication of the final exemptive order, are we truly providing

    adequate notice and a period of time in which registrants can

    comply?

    Second, the Proposed Order should at least include questions

    regarding how the Commission proposes to address practical

    considerations regarding the registration of foreign swap dealers

    and MSPs. The Commission should set out its preliminary thinking

    regarding how these foreign swap dealers and MSPs will register

    their associated persons and principals, in addition to addressing

    concerns regarding the transfer of, and withdrawal from, Commission

    registration.

    I have included a few questions at the end of my statement to

    address these practical concerns.

    Do Not Ignore the Significant Cost Implications

    I would like to make one closing but important point regarding

    the potential costs of today's Proposed Guidance. While I understand

    that the CEA only requires the Commission to consider the costs and

    benefits of its regulations and orders--not interpretive guidance--

    the Proposed Guidance, once finalized will result in significant

    costs to the swaps industry. The implications of the Commission's

    adoption of interpretive guidance on cross-border swaps activities

    will be nothing at which to laugh. Firms will incur significant

    operational, legal and administrative expenses in connection with

    the registration and ongoing compliance with the Commission's swaps

    regulations. Not to mention, many firms that operate through

    branches may feel compelled to convert into, and separately

    capitalize, affiliates in order to limit the impact of the

    Commission's interpretation.

    Accordingly, I encourage the Commission to prepare a report

    separate from its adoption of the Proposed Guidance, which analyzes

    the costs attributable to the breadth of the Commission's new

    authority under CEA section 2(i). This report will help inform

    market participants who seek guidance as to the potential costs of

    trading swaps in the United States. More importantly, the report

    will help inform the Commission in connection with the issuance of

    future rulemakings under Title VII of the Dodd-Frank Act.

    Conclusion

    I am relieved that the Commission is finally issuing today's

    proposals. Commission staff has spent well over one year preparing

    the proposals before us today. The publication of the Commission's

    interpretation of CEA section 2(i) is crucial. I hope that the

    release of these proposals will enable market participants to

    determine how the international rules and expansive international

    oversight of the Dodd-Frank Act might impact their activities in the

    United States and internationally. I want to ensure that U.S. firms

    are placed on a fair and competitive playing field that offers no

    opportunity for regulatory arbitrage. I am mindful that a seamless

    regulatory net can only be achieved through international

    cooperation and coordination.

    In summary, I believe the Commission's final interpretive

    guidance should reflect: (1) Principles of international law and

    comity; (2) a clear understanding of the implications of the

    Proposed Guidance so that the Commission can make an informed

    decision regarding the various policy alternatives; and (3) parity

    to ensure that U.S. firms are not unfairly disadvantaged vis-

    [agrave]-vis their foreign competitors. I fear that if we adopt the

    Proposed Guidance as final, the Commission will take an

    imperialistic view of the swaps market. I also remain concerned

    regarding the Commission's shaky legal analysis.

    I look forward to reviewing the myriad of comments submitted in

    response to today's proposals. I implore market participants, as

    well as domestic and foreign regulators, to share their views and

    let us know how to harmonize our efforts so that we collectively can

    develop an internationally consistent and complementary approach to

    address the cross-border regulation of the swaps markets.

    Questions

    1. Please share your views regarding the Commission's proposed

    effective date for the relief set forth in the Proposed Order.

    Should the expiration of the effective date be extended or

    shortened?

    2. Should the Commission permit swap dealer and MSP registrants

    to conditionally de-register following the expiration of the

    effective date of the Proposed Order? If so, under what conditions

    should the Commission allow de-registration?

    3. Should the Commission permit swap dealer and MSP registrants

    to transfer their registration to a majority-owned affiliate or

    subsidiary? If so, under what circumstances should the Commission

    allow such a transfer?

    [FR Doc. 2012-16496 Filed 7-11-12; 8:45 am]

    BILLING CODE 6351-01-P

    Last Updated: July 12, 2012



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