December 4, 2013
Thank you very much for the kind introduction and for inviting me to speak here today.
I would also like to thank my fellow regulators who joined in yesterday’s discussions. We had a very good discussion and it is critical to understand where we have common ground and how to solve for the differences.
As the New Year is fast approaching, I’d like to take a moment to pause and reflect on where the Commission stands with respect to the implementation of the Dodd-Frank rules.
Unfortunately, in 2013, the Commission’s rule implementation process has been anything but smooth and transparent.
To date, the Commission has issued sixty-seven final rules, orders and guidance documents. However, in a rush to fix shortcomings in our rules, staff has issued over one hundred and thirty exemptions or no-action letters. Some no-action letters provide indefinite relief from the very rules the Commission voted on.
Welcome to the Commission’s regulatory paradigm. However, it doesn’t have to stay this way.
As I look at these numbers with a sense of bewilderment, I would like to make New Year resolutions for the Commission to help us avoid the situation we are in today.
To restore regulatory sanity, the Commission must fix the rules that are broken; it must establish priorities and articulate a specific plan of action to resolve rule implementation failings and to identify critical areas of improvement.
Commission 2014 Resolutions
In 2014, the Commission must commit to less regulatory activism and to more statutory accuracy.
It is important to engage in a transparent rulemaking process and to do away with hastily issued staff advisories and no-action letters that provide inadequate relief, arbitrarily apply to market participants and allow for virtually no time for compliance.
With these resolutions in mind, I would like to discuss three areas of utmost importance: the Commission’s cross-border regulatory framework; implementation of the swap execution facilities (SEFs) rules; and the Commission’s challenges with data and technology.
Priority #1: Cross-Border: International Coordination and not Imperialism
Let me start with the Commission’s implementation of the cross-border guidance.
Let me be clear –it is time to end this regulatory insanity. The Commission must provide a clear notice of the contours of its regulatory reach. Congress explicitly limited the extraterritorial application of the Commission’s jurisdiction to foreign transactions that “have a direct and significant connection with activities in, or effect on, commerce of the United States.”1 So far, the Commission has failed to demonstrate any restraint or to validate how our rules comply with this Congressional directive.
Last month, the world witnessed an unexpected development in the cross-border saga, when staff issued two documents that further extended the cross-border overreach of Dodd-Frank.
Now, according to staff, Dodd-Frank applies to all foreign operations in the United States on behalf of non-U.S. persons. I cannot fathom a “direct and significant” connection to a swap transaction between a London bank and a Swiss swap dealer when personnel or an agent of a non-U.S. person happens to negotiate the swap in New York.
I also cannot fathom why a non-US multilateral swaps trading platform located outside of the U.S. that provides personnel or an agent of non-U.S. persons located in the U.S. with the ability to trade swaps must register as a SEF.
First, where is the risk that may come crashing back to the United States? Second, how would we conduct oversight? Would the National Futures Association, which performs market oversight responsibilities for over a dozen SEFs in the U.S., also perform market oversight functions in another country?
And by the way, I agree with the comments made by Chairman Gensler in his interview to the Washington Post. He explicitly stated, “I do not think that [SEFs] pose a significant risk to the public.”2 So, if SEFs don’t pose a “significant risk,” we need to rethink our regulatory interpretation of the cross-border guidance.
Putting aside the problematic legal and enforcement issues surrounding these staff documents and putting aside the fact that these major policy decisions were issued without any input from the Commission, I question the wisdom of spending Commission resources to chase after a foreign swap transaction that has nothing to do with the United States.
As I have repeatedly stated, my preferred approach would be to continue to work with our international fellow regulators to identify and harmonize regulatory regimes – and then apply the harmonized regulatory framework to global financial markets. Relying on substituted compliance in other jurisdictions will eliminate cost and inefficiency of overlapping or even conflicting regulatory systems and provide greater certainty to market participants.
In this regard, I am pleased that staff has circulated a draft document that discusses the process for determining substituted compliance. I am also pleased that the Commission will receive input from foreign regulators. I look forward to reviewing their comments.
I am told that Chairman intends to complete this review by December 21, the day of expiration of the Commission’s exemptive order. As time grows short, I am increasingly concerned that we will be forced to make hasty decisions due to the artificial deadline of December 21 or miss the deadline all together.
Priority # 2 Swap Execution Facilities—Time to be Cautiously Optimistic
Now turning to my second topic, that is the ongoing implementation of the SEF rules.
Although it has been a rocky start, we now have twenty-one temporary registered and operational SEFs. I am excited about the opportunity SEFs will provide in bringing transparency to the swaps market. As the Commission moves into the permanent registration phase, it is necessary to ensure that all SEFs and market participants receive a clear notice of the regulatory requirements and that they receive ample time to implement a these new regulatory requirements.
This nascent sector of the market cannot tolerate regulatory adhocracy and impulsive imposition of new regulatory treatment with no time to comply.
A steady stream of no-action letters further re-interpreting staff’s initial interpretation of the SEF rules indicates that these new requirements are promulgated without consideration for whether they can be achieved within the specified timeframes and/or whether they can be achieved at all.
Since September 26, the Commission has issued twelve staff documents, including advisories and no-action relief letters that are directly applicable to SEFs. Market participants are struggling to determine how to implement some of these regulatory requirements.
For example, market participants are still reacting to the fact that trades that are not accepted for clearing must be void ab initio. SEFs are rushing to build their technology to comply with this new regulatory obligation. Also, SEFs and other market participants are trying to reconcile the open access rules and the external business conduct rules.
Looking forward, in 2014, as the Commission moves from temporary to permanent registration of these platforms, it must resist the temptation to issue staff advisories every time it questions some rule in a SEF’s rule book. The final approval of all SEFs must be done in a predictable and transparent manner to minimize disruption to this new and competitive marketplace.
While on the subject of SEFs, I recognize the challenge that the Commission is facing in trying to determine which swaps are made available to trade (MAT), especially when the Commission must make such determination based on unworkable rules.
As of today, four SEFs submitted their MAT determinations. Three SEFs submitted specific contracts that they believe have sufficient trading liquidity to be executed via more restrictive methods of execution on a SEF. As I understand, Javelin has modified its MAT request from the entire rate curve to just the benchmarks. However, because of the low standards set by the Commission rules, I believe that Javelin’s original submission would have been certified by Commission staff.
My personal preference would be for the Commission and not staff to approve initial MAT determinations. The Commission must make such determinations on a contract-by-contract basis and based on data. Such an approach would assist the Commission in making policy decisions designed to promote competition and transparency, and not drive up costs and hurt liquidity.
Lastly, there is work to be done by SEFs with respect to their reporting obligations under Commission regulations. SEFs are still facing technological challenges to report less standardized swaps to swap data repositories (SDRs). SEFs need sufficient time and clear guidance from the Commission to address key implementation challenges. Otherwise, an orderly transition will not be possible.
Priority #3: Data and Technology—There is Plenty of Room for Improvement
This brings me to my third topic, that is data and technology. These points deserve special attention. First, with regard to data, we need to focus on improving the quality of the Commission data. We need to ensure that we have accurate and consistent data that we can easily aggregate to perform critical cross market analytics. Second, we need a sustained technology strategy to serve as a roadmap for improving the Commission’s ability to execute its market oversight function.
There appears to be an implicit assumption that if a trading platform, like a SEF, is transparent to participants, it is also transparent to the Commission. In fact, this is not the case. Transparency for the Commission is not the same as transparency for market participants.
The Commission has required maximum transparency from market participants, but it has not held up its end of the bargain.
I have a good example to illustrate my point.
Last month, in preparation for the SEF conference in New York, I asked staff to provide basic data, including the total number of SEF trades, the total number of SEF trades by asset class, the cumulative notional amount of trades, and the total notional amount of trades by asset class.
To my surprise, staff informed me that it will take weeks to produce such data.
Time and again, I am disappointed with the Commission’s failure to adequately prepare to receive swap data submitted by SDRs. The Commission still receives data that is duplicative; and to be useful, this data requires extensive cleaning and modifications.
I am also disappointed with our ability to receive daily swap trade data. The Commission still receives data from SEFs and DCMs via Excel spreadsheet, PDF format, or by email. It is imperative that the Commission standardize its data and automate this process as soon as possible.
Our Future is Technology
As the saying goes, “only a fool trips on what is behind him.” The Commission cannot continue to ignore its technological inabilities; it must identify a strategy for the future.
If the Commission wants to become a twenty-first century regulator, it must keep up with the rapid pace of technological innovation that is the cornerstone of today’s successful regulatory oversight program.
And frankly, the Commission’s swap report of weekly trades and notional values doesn’t require technical competence. The Commission must be able to interpret and fully analyze the data, including swaps, over-the-counter and futures market trades. Using trade automation surveillance is the next step and this will become a staff multiplier for our oversight mission.
Twenty-first century technology and data-analytics techniques will allow the Commission to conduct surveillance of individual markets and cross-markets. In fact, the most effective way for the Commission to detect abusive trading practices across different markets is to consolidate data in a single place so that suspicious trading practices can be easily identified.
I cannot think of a more important function than organization, aggregation, and analysis of our data collection. Effective use of data analytics will allow the Commission to make better and faster enforcement and policy decisions that will ultimately benefit the markets we oversee.
As Chairman of the Commission’s Technology Advisory Committee (TAC), I have devoted significant TAC attention and resources to aid this effort. Stemming from our TAC meeting in April, a working group including Commission staff and the SDRs has been established and is working to harmonize data fields to aid in our ability to easily aggregate and analyze data across SDR platforms.
Strategic Planning: Making the Commission Accountable for Its Goals and Its Mission
Fundamental to our data and market oversight evolution is our focus on development of a technology-driven strategic plan.
The Commission has been very specific as to how the market should trade a swap, manage risk, and deploy capital. Now it is time to be specific about our investment priorities, including technology investments and tech-savvy workforce.
The Commission is working on its strategic plan for fiscal years 2014-18. There is a tug of war going on between two approaches. One approach outlines broad goals with unspecified deliverables, while the other approach identifies specific technology investment needs that accomplish our oversight strategies. I support the latter approach and expect each Division within the Commission to develop a technology and workforce deployment plan that will inform the fiscal year 2015 appropriations cycle. I will only support such a strategic plan that holds the Commission accountable for completing its investment priorities.
Congress is currently debating our budget for the upcoming year. We need to demonstrate our priorities and articulate a coherent technology strategy that the Commission can be held accountable for the next several years. As the saying goes, “Rome wasn’t built in a day,” and neither will the Commission’s technology and workforce restructuring. But until we produce a roadmap with deliverables and schedules, Congressional support is unlikely to be strong or lasting. With a coherent and specific five year strategic plan in place; I would support increases in Commission funding to achieve these goals.
As the Commission looks into the next year, it must focus its attention on three areas.
First, the Commission needs do away with the reflexive rule implementation process. It is important for the Commission to re-visit unworkable rules and to implement consistent rules that ensure proper regulatory oversight, transparency and promote competition in the derivatives space. I would start with revisiting the data rules and the rules that impact end-users.
Second, it is crucially important for the Commission to resolve data and technology challenges to ensure effective market surveillance. The Commission must have timely access to accurate data to effectively implement its regulatory oversight program.
Third, the Commission must develop a credible, transparent and specific strategic plan that is closely aligned with our statutory mission. And a sufficiently detailed budget must reflect such a plan.
I look forward to working with the new Commission to address these issues.
Let me conclude by wishing everyone a happy and prosperous new year.
1 CEA § 2(i)
Last Updated: December 4, 2013