July 10, 2012
Thank you, Mr. Chairman. I’d like to commend the staff of the Commission and the Securities Exchange Commission for their efforts on the final Product Definitions rulemaking before us today. Congress tasked the commissions—two agencies with different statutory responsibilities and different histories—with jointly resolving key definitional issues that affect the scope of their respective mandates under Dodd-Frank. In a number of areas, this has proved to be quite a challenge. But the persistence and dedication of the professional staff at both agencies have produced a set of recommendations that I am pleased to support.
Although the Product Definitions are important in their own right, they are even more significant because so many other aspects of the Dodd-Frank regime depend on them. Indeed, one headline yesterday read, “Floodgates on U.S. derivative reforms set to open;” another stated, “Swap Definition Vote Set to Trigger Dodd-Frank Overhaul Cascade.”
Perhaps more than any other one rule, the final Product Definitions will enable us to fully usher in Dodd-Frank’s important regulatory reforms for the swap markets. Swap dealers and major swap participants will be required to register. The Commission’s compliance dates for certain transaction-level requirements, such as external business conduct standards and real-time reporting, will take effect for transactions with U.S. persons. The Commission’s spot-month position limits for swaps referencing certain energy and agricultural commodities will be effectuated.
In short: The new swap regulatory regime is on the verge of becoming a reality. This regime will better protect American taxpayers from future financial crises. The regime and its implementing rules inevitably will fall short of perfection, but clearly its hallmarks – greater reporting as well as central clearing – will reduce systemic risk and bring needed improvements to these markets that are so vital to the U.S. economy. And I believe that with greater consensus at the Commission supporting these implementing rules comes more effective rules in the long run.
As we complete the rulemaking process and pivot to implementation, it is appropriate for the Commission and its staff to remain open to public feedback on the compliance schedule that we are imposing. An approach looking at the implementation of each final rule in isolation can underestimate the compliance challenges that lie ahead.
Turning to the Product Definitions themselves, I believe they strike a proper balance. On the one hand, they provide that insurance, forward contracts, and certain consumer and commercial transactions – which have never been considered to be swaps and which I am convinced Congress did not intend to be regulated as swaps – are not swept up by Dodd-Frank. On the other hand, I am confident they are comprehensive enough to prevent relevant derivatives products from escaping the new regulatory structure through inadvertent loopholes.
I reiterate, however, my prior comments that our rulemakings must provide clarity. As I noted when the Commission finalized the Entity Definitions, it may not be possible to always come up with a bright-line test, but the lines we draw must be bright enough to provide sufficient clarity to market participants. I support the final Product Definitions release, but I am concerned that certain aspects may not meet that standard of clarity.
In particular, I worry that the interpretation for forward contracts with embedded-volumetric optionality, and its seven-factor test, could needlessly complicate commercial practices that I do not believe Congress intended to bring under Dodd-Frank. Accordingly, I thought it was essential for the release to pose further questions and request additional public comment on this topic, and I thank the Chairman and my colleagues for accommodating these changes to the release. I look forward to reviewing the comments to make sure that we adopt the right interpretation.
We also will be providing relief for users of trade options that meet the definition under the Commission’s recent interim-final rule. This will allow the Commission to better consider the comments responding to that rule alongside those responding to today’s release, and will give market participants more certainty about the Commission’s treatment of these important tools for risk management in the meantime. Again, I thank the Chairman and my fellow Commissioners for their flexibility in agreeing to this adjustment – both of these rules will be better for it in the end.
Similarly, there is one comment that we have heard, and which I have much sympathy for, but which we have not accommodated well enough in this rulemaking. Several commenters told us that while it is important to know which products will be regulated as swaps by the Commission and which products will be regulated as security-based swaps by the SEC, it is equally important that the analysis for making that determination be simple and straightforward to apply. Unfortunately, that is not the case for some of the final rules that we are adopting today.
The complexity of these rules is due, in part, to the lack of information that the Commission and the SEC have in our possession regarding these previously unregulated products. It is my hope that, as both agencies obtain data and develop experience with these products, we will not hesitate to re-visit the tests we are adopting today to craft more streamlined rules that are tailored to the nature of these products.
In the meantime, I encourage market participants to follow the guidance provided in the release. It advises that they may seek informal guidance from the agencies’ staffs, or use the process that we are establishing in these rules for seeking formal guidance from the agencies, when there is uncertainty as to the results of a product analysis under today’s rules. Such requests for guidance will enable us to assist market participants in applying these definitional rules to specific types of products.
I am pleased that the clearing mandate, which is a centerpiece of Dodd-Frank’s reform of the swap markets, also is on the verge of becoming a reality with the Commission’s adoption today of the end-user exception. The Commission already has adopted rules governing derivatives-clearing organizations, customer-clearing documentation, timing of acceptance for clearing, and clearing-member risk management. We expect to issue our first proposed clearing-requirement determination, and a final compliance and implementation schedule, in the very near future.
Also before us is a proposed clearing exemption for certain swaps entered into by cooperatives. I support both of these recommendations.
Mandatory clearing is important, but the risk-reducing benefits of clearing come with certain costs. Congress was clear in its determination that those costs should not be borne by end users that use swaps to hedge or mitigate their commercial risks. And I believe that the rulemakings before us today implement the end-user exception in an appropriately balanced manner. They allow end users to elect the exception without undue compliance burdens, yet ensure that the Commission can monitor the use of the exception for abuse.
Thank you again to the professional staff for your hard work on the rules before the Commission today. I will address a few additional issues in my questions to the staff.
Last Updated: July 10, 2012