BROOKSLEY BORN, CHAIRPERSON
COMMODITY FUTURES TRADING COMMISSION
CONCERNING THE OVER-THE-COUNTER DERIVATIVES MARKET
BEFORE THE U.S. SENATE
COMMITTEE ON AGRICULTURE, NUTRITION AND FORESTRY
JULY 30, 1998
Mr. Chairman and Members of the Committee:
I am pleased to represent the Commodity Futures Trading Commission ("CFTC" or "Commission") here today to testify about oversight of the over-the-counter ("OTC") derivatives market and about the draft legislation recently offered by the Department of the Treasury ("Treasury proposal") regarding OTC derivatives.
The Commission has significant concerns about the Treasury proposal and urges this Committee to consider it very carefully. The Treasury proposal would prevent the Commission from taking action in market or other emergencies arising in that portion of the OTC derivatives market within its statutory authority, would forbid the Commission from enforcing its existing laws and regulations relating to certain transactions in that market, and would bar the Commission from addressing new developments in that market. It would also impair the Commission's exercise of its statutory duties by assigning to the President's Working Group on Financial Markets ("President's Working Group") -- an ad hoc coordinating body with no budget, no staff and little expertise in derivatives market regulation -- the task of evaluating and recommending changes to the Commission's policies on OTC derivatives. It would also retroactively legalize certain OTC futures contracts that have been forbidden by law since 1982. These profound changes in the law, having significant impact on long-standing regulation of the OTC derivatives market, should be thoroughly examined. Important public interests would be harmed by their adoption.
This legislative initiative was triggered by the Commission's decision to evaluate the continuing appropriateness of its own regulations regarding OTC derivatives in light of changes in the OTC derivatives market over the past five years. That decision was part of an ongoing Commission effort to review its regulations to determine whether they should be streamlined, modernized or revised to reduce unnecessary regulatory burdens. No emergency has been created by the Commission's review which would justify the profound legal changes that would result from the Treasury proposal.
II. The OTC Derivatives Market
Derivative instruments are contracts whose value depends upon (or derives from) the value of one or more underlying reference rates, indexes or assets. The classes of underlying assets from which a derivative instrument may derive its value include physical commodities (e.g., agricultural products, metals, or petroleum), financial instruments (e.g., debt and interest rate instruments or equity securities), indexes (e.g., based on interest rates or securities prices), foreign currencies, or spreads between the value of such assets. Derivative contracts may be listed and traded on organized exchanges or privately negotiated between the parties. Derivatives executed off of an exchange or board of trade are referred to as over-the-counter ("OTC") derivatives.
OTC derivatives are similar in structure and purpose to exchange-traded futures and options. Like exchange-traded derivatives, OTC derivatives are used for risk shifting and speculation. End-users employ OTC derivatives to hedge risks from volatility in interest rates, foreign exchange rates, commodity prices, and equity prices, among other things. These instruments also are used to assume price risk in order to speculate on price changes. Participants in the OTC derivatives market include commercial corporations, insurance companies, mutual funds, pension funds, colleges and universities, governmental bodies, banks, other financial service providers, and individuals with significant assets.
A simple example will illustrate how exchange-traded and OTC derivatives operate in a similar fashion in order to achieve the same purpose. Consider a business that has issued a note with a variable rate of interest payable semiannually over a fixed time period. If the firm becomes concerned that interest rates might rise over the remaining life of the note and that it might therefore be paying higher rates, the firm may wish to consider ways in which it can transform its variable rate liability into a fixed rate liability.
One way of doing this would be for the firm to sell a series of exchange-traded Eurodollar futures contracts, each of which matured on or about one of the note's interest payment dates. Because the cost of a Eurodollar futures contract falls as interest rates rise, profits from the futures position could be used to cover the difference between market rates payable on the note and the fixed rate established by the firm's transaction on the futures exchange. Alternatively, the firm could enter into a swap agreement in the OTC derivatives market in which it paid a fixed interest rate and received a variable interest rate based on the market rate with payment dates corresponding to the interest payment dates of the note.
Either method would allow the firm to convert its variable rate exposure to a fixed rate that would not fluctuate with changes in the interest rate market. The firm might choose exchange-traded futures for reasons of liquidity and transparency. In addition, if the firm chose exchange-traded futures, the risk of counterparty default would be assumed by the exchange's clearinghouse, which serves as the counterparty to both buyer and seller in every exchange transaction. If the firm chose to enter a contract on the OTC market, it would have to bear that risk of counterparty default itself. On the other hand, the OTC market permits parties to negotiate greater customization of terms, which may be a significant consideration if the size of the firm's exposure, or the dates on which its payments become due, do not correspond to the standardized terms of exchange-traded contracts.
Use of OTC derivatives has grown at a rapid rate over the past few years. According to the most recent market survey by the International Swaps and Derivatives Association ("ISDA"), the notional value of new transactions reported by ISDA members in interest rate swaps, currency swaps, and interest rate options during the first half of 1997 increased 46% over the previous six-month period.(1) The notional value of outstanding contracts in these instruments was reportedly $28.733 trillion worldwide, up 12.9% from year-end 1996, 62.2% from year-end 1995, and 154.2% from year-end 1994.(2)
ISDA's 1996 market survey noted that there were 633,316 outstanding contracts in these instruments as of year-end 1996, an increase of 47% from year-end 1995, which in turn represented a 40.7% increase over year-end 1994.(3)
An October 1997 report by the General Accounting Office ("1997 GAO Report") suggests that the market value of OTC derivatives represents about 3 percent of the notional amount.(4) Applying the 3 percent figure to the most recent ISDA notional value for contracts outstanding as of June 30, 1997, indicates that the worldwide market value of these OTC derivatives transactions is over $860 billion.
The OTC derivatives market is substantially larger than the ISDA
survey data indicate since the data are limited to transactions
involving ISDA members only and to transactions in only three kinds of
instruments among the many instruments being traded. With a growing
market have come growing profits for OTC derivatives dealers.
According to an industry publication, OTC derivatives trading revenues
reached a record $2.35 billion during the first quarter of 1998,
exceeding the previous record by $100 million.(5)
III. Commission Regulation of OTC Derivatives
The CFTC or its predecessor agency, the Commodity Exchange Authority, has regulated derivative instruments for almost three-quarters of a century. Its authority is contained in the Commodity Exchange Act ("CEA" or "Act"), which is the principal federal law governing regulation of derivative transactions and derivative markets. The CEA vests the CFTC with exclusive jurisdiction over futures and commodity option transactions whether they occur on an exchange or over the counter. The Act generally contemplates that, unless exempted, futures and commodity options are to be sold through Commission-regulated exchanges which provide the safeguards of open and competitive trading, price discovery and dissemination, and protection against counterparty risk. Thus, the Act and CFTC regulations establish a regulatory framework for exchange-trading of futures and options and provide for Commission oversight of intermediaries engaging in such transactions on behalf of customers.
Through its regulation of derivative instruments, the CFTC attempts to assure that: (i) prices are established in an open, competitive and transparent manner free from price manipulation; (ii) the financial integrity of the markets is maintained; and (iii) customers are protected from fraud and other abusive practices. The Commission accomplishes these goals through its surveillance of the markets; its establishment of regulations governing, among other things, minimum capital requirements for market intermediaries, segregation of customer funds, risk disclosure for customers, and recordkeeping and reporting by commodity professionals; its oversight of self-regulatory organizations; and when necessary, its emergency intervention or enforcement action.
Transactions in OTC futures and options are generally prohibited under the Act unless explicitly excluded or exempted from the exchange-trading requirement of the CEA. The Commission's enforcement docket has historically included numerous proceedings against persons trading in OTC derivatives outside the scope of any exemption or exclusion.(6)
For example, the Commission currently has four pending actions involving hedge-to-arrive contracts charging that the transactions constituted illegal OTC futures or option contracts. Similarly, its many cases against bucket shops are based on the fact that such operations sell derivatives off a regulated exchange and are also specifically prohibited by Section 4b of the Act.
The CEA specifically excludes certain types of OTC derivatives from the requirements of the Act. The so-called Treasury Amendment to the CEA provides that the CEA does not apply to OTC transactions in foreign currencies, government securities and certain other financial instruments.(7)
Options on securities and options on securities indexes also are excluded from the Act and are subject to the jurisdiction of the Securities and Exchange Commission ("SEC").(8)
In addition, pursuant to its statutory authority, the Commission has exempted certain types of OTC derivative transactions from specified provisions of the CEA. For example, under Section 4c of the Act, the Commission has the authority to allow options to be traded over the counter under such terms and conditions as the Commission may prescribe. Pursuant to this authority, the Commission has by regulation exempted certain OTC options from most provisions of the Act pursuant to specified terms and conditions.(9)
The Futures Trading Practices Act of 1992 gave the Commission additional authority to exempt transactions from certain provisions of the Act, including the requirement in Section 4(a) of the Act that futures must be traded on exchanges. Section 4(c)(2) of the Act provides that the Commission may grant such an exemption if the Commission determines that (i) the transaction would be entered into solely between defined "appropriate persons"; (ii) the transaction would not have a material adverse effect on the ability of the Commission or any regulated exchange to discharge its regulatory or self-regulatory duties under the Act; and (iii) the exemption would be consistent with the public interest and the purposes of the Act. Section 4(c)(5) explicitly authorizes the Commission to grant exemptions for swap agreements and hybrid instruments. The Commission may grant such exemptions "either unconditionally or on stated terms or conditions."(10)
Thus, the Commission has been given the flexibility and authority to tailor its regulatory program to fit the changing realities of the marketplace and the changing needs of market participants.
Pursuant to Section 4(c), the Commission adopted regulations in 1993 exempting certain swap agreements and hybrid instruments from some -- but not all -- provisions of the Act, subject to specified terms and conditions. Part 35 of the Commission's Regulations exempts certain swaps from provisions of the Act other than the antifraud provisions, the anti-manipulation provisions, and Section 2 (a)(1)(B).(11) thus, swaps exempted under Part 35 may be traded over the counter without violation of the CEA. To be eligible for exemptive treatment under Part 35, an agreement: (1) must be a swap agreement as defined in Rule 35.1(b)(1); (2) must be entered into solely between specified eligible swap participants; (3) must not be a part of a fungible class of agreements that are standardized as to their material economic terms; (4) must include as a material consideration in entering into the agreement the creditworthiness of any party with an obligation under the agreement; and (5) must not be entered into and traded on or through a multilateral transaction execution facility.
The criteria contained in the swaps exemption were designed to assure that exempted swap agreements meet the requirements set forth by Congress in Section 4(c) of the CEA and to "promote domestic and international market stability, reduce market and liquidity risks in financial markets, including those markets (such as futures exchanges) linked to the swap market and eliminate a potential source of systemic risk."(12)
The criteria restrict OTC swap transactions to bilateral, customized transactions between financially sophisticated persons or institutions. The Part 35 exemption does not extend to transactions that are subject to a clearing system where the credit risk of individual counterparties to each other is effectively eliminated, nor does it extend to transactions executed on exchanges.
Part 34 of the Commission's Regulations exempts certain hybrid instruments from most provisions of the Act, including the exchange-trading requirement.(13)
Under the rules, a hybrid instrument is defined as a financial instrument that combines elements of an equity, debt or depository instrument with elements of a futures or option contract. Part 34 exempts hybrid instruments that are predominantly securities or depository instruments and are regulated as such.(14)
As part of the 1992 legislation, Congress also directed the CFTC to conduct a study of OTC derivatives to determine the need, if any, for additional regulation.(15)
In requesting the study, Congress recognized that the Commission,
based on its expertise in derivatives markets, was the appropriate
body to study the issue. The Commission carried out its Congressional
mandate to study the OTC derivatives market in 1993 and concluded that
no fundamental changes in the regulatory structure for OTC derivatives
were necessary at that time.(16)
IV. Regulatory Issues Posed by the Evolving OTC Derivatives Market
Five years have passed since the Commission adopted its Part 34 and Part 35 regulations and last studied the OTC derivatives market. Since that time, the OTC derivatives market has changed significantly. When Congress gave the Commission its Section 4(c) exemptive authority in 1992, the Conference Committee expressly stated that the provision would permit the Commission to review its exemptions to "respond to future developments."(17)
The CFTC strongly believes that, in order to carry out its statutory mandate responsibly, it must keep its regulatory system in tune with changes in the market it oversees. Failure to keep pace with the changing market would stifle the capacity of U.S. firms to meet global competitive challenges, would create a cloud of legal uncertainty over the applicability of outdated rules to new products and innovative transactions, and would erode the regulatory system's ability to protect customers and to preserve the financial integrity of that market.
Consistent with these responsibilities, the CFTC over the past 18 months has been engaged in a comprehensive regulatory reform effort designed to update, to modernize and to streamline its regulations and to eliminate undue regulatory burdens.(18)
The Commission's review of its regulatory system would be incomplete in an important respect if it did not address the Commission's rules regarding OTC derivatives.
As noted earlier, the five years since the adoption of the Part 34 and Part 35 rules have been characterized by dramatic growth in the volume and value of OTC derivative transactions. Furthermore, the structure of the OTC derivatives market has changed significantly, creating a potential divergence between the Commission's regulations and the realities of the marketplace. For example, since 1993 the proliferation of OTC instruments has resulted in broader participation in the swaps market, encompassing new end-users of varying degrees of sophistication. This evolution in the market requires the Commission to evaluate whether it should broaden the definition of eligible swaps participants contained in its current rule and whether recordkeeping, sales practice, or other protections may now be appropriate.
The swaps market also has experienced a proliferation of new products and proposed new trading systems. While the Part 35 exemption does not extend to swap agreements that are part of a fungible class of agreements, market information indicates that some swap agreements have become increasingly standardized, indicating a need to consider broadening the exemption under appropriate terms and conditions. Furthermore, the swaps exemption does not permit clearing of swaps or trading of them through multilateral transaction execution facilities, but developments in the marketplace have indicated a significant demand for both. For example, the London Clearing House recently filed a petition with the Commission for an exemption under Section 4(c) of the CEA to provide swap clearing services, and other organizations have indicated that they are developing similar facilities.(19)
Swaps clearing and execution facilities pose regulatory issues concerning systemic risk and price discovery that are not involved in privately negotiated, bilateral off-exchange swaps transactions. Any consideration of permitting clearing and execution facilities must also take into account the need to promote even-handed regulation and fair competition between any such new facilities and existing futures and option exchanges.
An additional concern is the legal uncertainty that may result from trading in OTC derivative instruments that do not comply with the terms and conditions of the current swaps exemption. To the extent that such instruments are futures or options and are not subject to another exemption in the Act, they violate the CEA. Moreover, Section 12(e)(2)(A) of the Act was enacted in order to "provide legal certainty under . . . state gaming and bucket shop laws for transactions covered by the terms of an exemption" by preempting the application of such state laws.(20)
OTC derivative instruments that are outside the Commission's exemptions are also outside the protective umbrella of that preemption and may be deemed illegal under state law.
Another factor suggesting a need to request information about the OTC derivatives market arises from the large, well-publicized financial losses in the OTC derivatives market since the 1993 exemptions were adopted. While OTC derivatives serve important economic functions, these products, like all complex financial instruments, can present significant risks if misused or misunderstood. The 1997 GAO Report, entitled OTC Derivatives: Additional Oversight Could Reduce Costly Sales Practice Disputes, chronicles 360 end-user losses, of which 58% reportedly involved sales practice concerns.(21)
Major OTC derivatives losses relating to the recent instability in Asian financial markets are currently being reported, and more may be anticipated. According to a recent press report, J.P. Morgan "last year declared it had $659 million in nonperforming assets, 90% of which were defaults from Asian derivative counterparties."(22)
The same article states that Chase Manhattan "saw its 'nonperforming' assets in Asia triple in the first three months of 1998, to $243 million, due in part to derivatives."(23)
Concerns have also been raised regarding the potential effect of derivatives losses on the investing public(24)
and on the financial system as a whole. As Alan Greenspan, the
Chairman of the Board of Governors of the Federal Reserve System,
stated on May 7, 1998:
the major expansion of the over-the-counter derivatives market has occurred in [a] period of unparalleled prosperity. . . [in] which losses generally, in the financial system, have been remarkably small . . . And as a consequence of that, I don't think that one will fully understand or know how vulnerable that whole structure is until we have it really tested. And eventually that's going to happen.(25)
Chairman Greenspan testified just last week before the U.S. House of
Representatives Committee on Banking and Financial Services, "I
have no doubt derivatives losses will mushroom at the next significant
[economic] downturn as will losses on holdings of other risk assets,
both on and off exchange."(26)
Allegations of serious sales practice abuses by OTC derivatives dealers have been made in recent years in cases involving major losses by derivatives end-users. For example, an affiliate of Bankers Trust was charged with fraud in the sale of OTC derivatives in some well publicized cases involving Proctor and Gamble, Gibson Greeting Cards, and other large entities.(27)
Likewise, Merrill Lynch recently agreed to pay $400 million to Orange County, California to settle claims involving sales of derivatives that caused Orange County's bankruptcy and is reportedly in settlement negotiations with the Government of Belgium relating to its loss of $1.2 billion in derivatives trading. Furthermore, the 1997 GAO Report recommended that the SEC and the CFTC examine the experience of the members of the Derivatives Policy Group, an organization of five large OTC derivatives dealers, with respect to the voluntary sales practice standards they have adopted and also recommended a comprehensive review of sales practices and counterparty relationships in the OTC derivatives market.(28)
Losses resulting from misuse of OTC derivatives instruments or from sales practice abuses in the OTC derivatives market can affect many Americans and their savings -- many of us have interests in the corporations, mutual funds, pension funds, insurance companies, municipalities and other entities trading in these instruments. Obviously, regulation cannot and should not seek to eliminate market losses, but under the circumstances it is appropriate to request information regarding industry practices to assess whether they merit a regulatory response.
In light of these sales practice issues and the rapid development and evolution of the market, federal financial agencies are reviewing and revising their regulatory requirements regarding OTC derivatives. For example, on April 23, 1998, the Office of Thrift Supervision of the Department of the Treasury proposed what it termed "a comprehensive revision" of its "outmoded regulations" in response to "the development of new financial derivative instruments."(29)
In addition, the SEC proposed rules in December 1997 that would create for the first time a comprehensive SEC regulatory regime for certain very large OTC derivatives dealers.(30)
Not surprisingly, the CFTC as the expert federal agency in derivatives transactions and derivatives markets also is reviewing its existing regulations relating to OTC derivatives, as discussed below.
V. The Commission's Concept Release on OTC Derivatives
In order to examine whether its regulatory framework relating to OTC derivatives remains appropriate in light of market developments since that framework was first adopted, the Commission issued a Concept Release on OTC Derivatives on May 7, 1998.(31) (See Attachment 1.) The Concept Release seeks public comment on whether the Commission's current exemptions for swaps and hybrid instruments remain appropriate as to, among other things, the definitions of eligible transactions and eligible participants and the prohibitions against fungible swaps, swaps clearing and multilateral swaps transaction execution facilities. It asks whether the current prohibitions on fraud and manipulation are sufficient to protect the public or whether the Commission should consider additional terms and conditions relating to registration, capital, internal controls, sales practices, recordkeeping or reporting. The Concept Release also asks whether, if additional oversight of those markets were required, such oversight would best be administered by the Commission itself or through self-regulatory organizations.
The Concept Release does not propose any modification of the Commission's regulations, nor does it presuppose that any modification is needed. It merely asks for information about current realities in the marketplace and views as to the appropriate Commission response, if any. The Commission wishes to draw on the knowledge and expertise of a broad spectrum of interested parties, including OTC derivatives dealers, end-users of derivatives, futures and option exchanges, other regulatory authorities, and academicians. The Commission would also welcome the comments of the members of this Committee and their constituents.
In issuing the Concept Release, the Commission has no preconceived result in mind. The Commission is open to evidence in support of broadening its exemptions, evidence indicating a need for additional safeguards and evidence for maintaining the status quo. Serious consideration will be given to the views of all interested persons as well as the Commission's own research and analysis. In the event that the Commission believes that proposed regulatory changes might enhance the competitiveness of the OTC derivatives market or provide necessary regulatory safeguards, such proposed changes would first be published for additional public comment before any final rules would be considered for adoption. Moreover, changes which impose new regulatory obligations or restrictions, if any, would be applied prospectively only.
The Concept Release explicitly states that it does not in any way alter the current status of any instrument or transaction under the CEA. All currently applicable exemptions, interpretations, and policy statements issued by the Commission regarding OTC derivatives products remain in effect and may be relied upon by market participants.
Concerns have been expressed about the Concept Release. Many of the concerns reflect a lack of understanding as to the nature and purpose of the Concept Release or a desire to avoid government oversight. Indeed, arguments have been made that OTC derivatives do not need government regulation or oversight of any kind. These arguments ignore that the OTC derivatives market is already subject to regulation by the Commission through the CEA's prohibition of OTC futures and options that are not exempted from the exchange-trading requirement, through the terms and conditions of the Commission's exemptions and through the Commission's preservation of the CEA's fraud and manipulation prohibitions as to exempted swaps transactions. The Commission agrees that unduly burdensome or duplicative regulation of the OTC derivatives market would not be in the public interest. However, it is the Commission's statutory mandate to oversee and safeguard the derivatives market, where billions of dollars of Americans are at risk.
In testimony last week before the House Committee on Banking and Financial Services, Federal Reserve Chairman Alan Greenspan went so far as to argue that, whether traded on an exchange or over the counter, there is little or no need to apply the CEA to derivative contracts on financial instruments, because the CEA "was designed in the 1920s and 1930s for the trading of grain futures" and is intended to prevent price manipulation in agricultural commodities.(32) Chairman Greenspan's view of the CEA and its purposes is incorrect and overly narrow and ignores that the Act and the regulations issued thereunder have been repeatedly amended over the years to address the regulatory issues raised by the tremendous growth in financial derivatives, which now account for almost 75 % of exchange-traded futures and option contracts. As to exchange-traded derivative contracts based on both agricultural and financial commodities, the CEA is intended to do far more than prohibit price manipulation. Its provisions and regulations adopted thereunder are designed to control systemic risk and to ensure the financial integrity of futures market intermediaries, exchanges and clearinghouses, to foster price discovery and transparency, to protect market participants from fraud and other abuses, to assure fair access to the markets and to impose fitness standards on intermediaries. These provisions serve to protect market participants regardless of the nature of the underlying commodity from which a given contract is derived.
As the Commission recognized in 1993 when it adopted Part 35, a lesser degree of regulation may be appropriate for truly customized, bilateral OTC swap agreements between sophisticated, well-capitalized entities, and the Commission's exemptive power under the CEA allows it to tailor regulation to the particular market and the public policy issues raised by the market. However, to the extent such instruments become more standardized, are centrally traded or cleared or are sold to a broader segment of the public, the concerns that are addressed by the CEA -- financial integrity and control of systemic risk, price discovery and transparency, fitness of intermediaries and fair treatment of market participants -- become more critical. As the federal agency with expertise and statutory authority over the derivatives markets, the Commission must study the evolution of the OTC marketplace to determine whether its existing rules remain appropriate.
There have been unsupported claims that the Concept Release has created concerns about legal certainty that have disrupted the OTC derivatives market and driven business offshore. As the Commission was careful to point out in the Concept Release, the Concept Release does not in any way alter the current legal status of any instrument. The Commission has yet to be provided with any empirical evidence that the Concept Release has caused disruption in the market. Commission staff have been monitoring the market and have seen no adverse effects from the issuance of the Concept Release. Likewise, as recently as last week, in their testimony regarding OTC derivatives before the House Committee on Banking and Financial Services, officials from the Treasury Department, the SEC and the Federal Reserve System's Board of Governors were unable to cite any evidence of disruption in the OTC derivatives market related to the Concept Release. The Commission does not believe that this robust, multi-trillion dollar market is so fragile that mere governmental examination of it will cause dislocation. Rather, in the Commission's view, the market will benefit from assuring that government regulations do not ignore developments and innovations in the marketplace.
Some argue that, having adopted exemptions for certain OTC derivatives transactions in 1993, the Commission cannot now update those exemptions to reflect the changes in the marketplace. This argument is flatly inconsistent with the intent of Congress in passing the Futures Trading Practices Act of 1992. The House and Senate Conference Committee stated:
[T]he Conferees intend for the general exemptive authority. . . to
allow the [CFTC] to respond to future developments in the marketplace
to avoid disruption and promote responsible economic and financial
innovation, with due regard for the continued viability of the
marketplace and considerations related to systemic risk in financial
As the President's Working Group -- consisting of the Secretary of
the Treasury, the Chairman of the Board of Governors of the Federal
Reserve System, the Chairman of the SEC and the Chairperson of the
CFTC -- wrote to Congress in 1994 concerning the CFTC's regulation
of the OTC derivatives market:
[I]n order to fall within the safe harbor created by the Commodity
Futures Trading Commission's (CFTC's) exemptions from the
Commodity Exchange Act for swaps and other types of OTC derivatives
transactions, all market participants must comply with the access and
design restrictions contained in those exemptions. The CFTC's
authority to reevaluate and impose conditions on exemptions for OTC
derivative transactions can always be drawn upon if additional
constraints on these instruments were determined to be warranted.(34)
Another claim is that the Commission lacks jurisdiction with respect
to OTC derivative instruments. This position is incorrect, as the
President's Working Group so clearly stated in 1994. As discussed
above, the CFTC has always had jurisdiction over futures and options,
whether traded on an exchange or over the counter. It is the nature of
the instruments, and not where they are traded, that determines
jurisdiction under the CEA. (35)
The Commission is cognizant of the fact that other federal regulatory authorities have responsibility for certain aspects of the OTC derivatives market. Some OTC derivative instruments are excluded from the CEA by the Treasury Amendment and the Shad-Johnson Accord and are the regulatory responsibility of the SEC, the banking regulators, or the Department of the Treasury. Moreover, the SEC and the banking regulators oversee some of the institutions participating in this market and impose prudential requirements on them, including capital requirements and internal control requirements. Other OTC derivative instruments and other market participants are within the CFTC's exclusive authority. Thus, coordination and cooperation among the CFTC and these agencies are very important to avoid duplication and inconsistent regulation. In its Concept Release, the Commission stated that it "anticipates that, where other regulators have adequate programs or standards in place to address particular areas, the Commission would defer to those regulators in those areas."(36)
However, each federal financial regulator must act within its own statutory authority and comply with its own statutory mandate. On March 11, 1998, Secretary of the Treasury Robert Rubin, on behalf of the President's Working Group, wrote to the Senate Committee on Government Affairs that the President's Working Group would not conduct a study of sales practices and counterparty relationships in the OTC derivatives market, as the 1997 GAO Report had recommended. In explaining that refusal, he stated,
The Working Group is designed as a mechanism to exchange information
about financial market issues that cross traditional jurisdictional
lines. It works through its constituent agencies with no independent
budget. The authority of the Federal Government to collect sales
practice information from federally regulated entities rests with the
appropriate federal regulators.
In recent years, the federal financial regulators that are members of the Working Group have taken a number of measures to improve dealers' sales practices for OTC derivatives . . . . Because the issue of the relationship of parties involves differing product classes, regulatory structures, and customer profiles, we believe there may not be a "one size fits all" solution. Therefore, we believe these processes should be allowed to evolve and that, at this time, there is no need for the Working Group as a whole to take additional measures. Each financial regulatory agency will continue to decide its appropriate role.(37)
The Commission believes that that position was correct in March 1998 and continues to be correct today, four months later. In issuing its Concept Release, the Commission has appropriately decided to address OTC derivative issues within its statutory authority and in conformity with its statutory mandate.
VI. The Commission's Concerns Regarding the Treasury Proposal
The legislative proposal offered by the Treasury Department raises serious concerns. The Treasury proposal would severely limit the CFTC's ability to fulfill its oversight responsibilities with regard to OTC derivatives transactions within its statutory authority, would result in a substantial change in the CEA, and would potentially leave the American public without federal protection in the event of an emergency in the OTC derivatives market.(38) No justification has been offered for these sweeping changes in OTC derivatives regulation. Indeed, the Treasury proposal does not appear to be based on any principled concern about the need for a coordinated approach to the OTC derivatives market, since it aims to restrict only the activities of the CFTC.
Section 3(1) of the Treasury proposal would effectively prohibit the CFTC from proposing or taking regulatory or enforcement actions relating to swaps and hybrid instruments. It would forbid the CFTC to "propose or promulgate any rule, regulation or order, or issue any interpretative or policy statement, that restricts or regulates activity in any hybrid instrument or swap agreement that is eligible for exemption under Part 34 or Part 35 of Title 17, Code of Federal Regulations (as in effect on January 1, 1998)." This prohibition of CFTC action would continue for an extended, indefinite period of time until the enactment of legislation authorizing CFTC appropriations for any fiscal year after fiscal year 2000.
Section 3(1) could prevent the CFTC from adopting new regulations or policies to address a market crisis or financial emergency in the OTC derivatives market. We have entered a period of substantial volatility in the world financial markets with recent enormous losses in derivatives reported in connection with Asian financial instability. If a crisis were to occur in the OTC derivatives market after enactment of the proposed legislation, the Commission would be unable to respond with any meaningful action: the Commission's hands would be tied. Since aspects of the OTC derivatives market are within the CFTC's exclusive jurisdiction, no other federal regulator would be able to react with emergency action in such spheres, creating a dangerous gap in regulation.
Section 3(1) could also prevent the Commission from enforcing its current fraud and manipulation prohibitions applicable to certain OTC swap transactions. Under this provision, the CFTC would apparently be prohibited from conducting an enforcement investigation or issuing a cease-and-desist order in an enforcement case involving fraud or manipulation in swaps transactions eligible for exemption. Thus, for example, the Commission would not have been able to issue its cease-and-desist order to an affiliate of Bankers Trust in a case involving fraud in the sale of swaps. In the Matter of BT Securities Corp., CFTC Docket No. 95-3, 1994 WL 711224 (December 22, 1994). Similarly, the Commission recently issued an order finding that Sumitomo Corporation engaged in manipulation of the U.S. copper markets in violation of the CEA. The Commission imposed a cease-and-desist order and $150 million in civil penalties and restitution related to manipulative activity involving OTC derivatives transactions as well as transactions on the London Metal Exchange. That investigation is currently continuing with respect to other individuals and institutions, but could not consider the use of swaps if the proposed legislation were passed.
In addition, the scope of Section 3(1) is ambiguous and likely would create significant legal uncertainty as to the Commission's legal authority. For example, the meaning of the term "eligible for exemption under Part 34 or Part 35" in Section 3(1) is unclear, especially in contrast with the phrase "satisfies the definitions and conditions for exemption under Part 34 or Part 35" used in Section 3(2). Section 3(1) might be construed to prohibit CFTC action with regard to swaps or hybrid instruments as long as the instruments were theoretically eligible for the Part 34 or Part 35 exemption even though the instruments did not in fact comply with the terms and conditions set forth in those exemptions. If it were so construed, the Commission would no longer be able to enforce the terms and conditions of its current regulatory exemptions for swaps and hybrid instruments or to investigate possible violations of those terms and conditions. Thus, as a result of the proposed legislation, the Commission might be required to abandon ongoing investigations and inquiries.
In fact, Section 3(1) is sufficiently ambiguous that it might also be interpreted to prevent the Commission from amending its exemptions to reflect new developments in the marketplace. For example, the Commission's exemption for swaps currently prohibits swaps clearing and swaps exchange trading. The draft legislation might prevent the Commission from creating a regulatory framework for clearing and exchange trading of swaps despite increasing interest in establishing such operations and might require the Commission to withhold action on the pending London Clearing House petition to clear swaps and on other similar requests. Thus, either innovation in the marketplace would be stifled, or swaps clearing and exchange trading could develop in an unregulated manner in violation of the Commission's regulations and in direct competition with existing futures and option exchanges.
The Treasury proposal would make other fundamental and unwarranted changes in federal policy regarding the derivatives markets. For example, it would amend the Shad-Johnson Accord and retroactively legalize certain OTC futures contracts. The Shad-Johnson Accord clarified the respective jurisdictions of the SEC and CFTC and was codified in the CEA in 1982. Section 3(2) of the Treasury proposal would amend the Shad-Johnson Accord by temporarily eliminating the prohibitions in Section 2(a)(1)(B)(v) of the CEA against OTC futures contracts on nonexempt securities and on securities indexes that do not reflect a substantial segment of the market. Careful consideration by Congress of the public policy reasons underlying the long-standing statutory prohibition of such instruments and its proposed elimination is needed prior to acting on this provision.
While permitting OTC transactions in these instruments, Section 3(2) would continue the current prohibition on exchange trading in them. If OTC transactions in these instruments were to be permitted, Congress should certainly consider whether such instruments should also be permitted to be traded on the safer, more regulated exchange markets, as they currently are in a number of foreign countries. The U.S. futures exchanges would have a valid competitive interest in being able to trade these instruments under such circumstances.
Section 2 of the Treasury proposal would authorize the President's Working Group to conduct a study of OTC derivatives, to develop recommendations for changes in statutes, regulations and policies for these products and to submit a report to Congress within one year.(39)
To the extent that Section 2 is intended to give the President's Working Group power to influence the action of the Commission as a regulatory agency acting within its own statutory authority, it would clearly impair the independence of the Commission and its ability to enforce its statutory mandate.
The President's Working Group, which consists of the Secretary of the Treasury, the Chairman of the Board of Governors of the Federal Reserve System, the Chairman of the SEC and the Chairperson of the CFTC, has never discussed or approved the Treasury proposal or the study proposed in Section 2. As discussed above, on March 11, 1998, the President's Working Group wrote to Congress that it would not undertake a study on sales practices and counterparty relationships in the OTC derivatives market, as the General Accounting Office (GAO) had recommended. (See Attachment 3). At that time the President's Working Group stated that it had no budget and that it was lacking in statutory authority to obtain information and otherwise to conduct the study. It also advised that instead each of its individual members should continue to regulate the OTC derivatives market within its own statutory authority. The study proposed in Section 2 of the Treasury proposal is a much broader and more substantial undertaking than the study that the GAO recommended. Yet now three members of the President's Working Group have proposed that the President's Working Group undertake what the President's Working Group stated that it would not and could not do just four months ago.
At a June 10, 1998 hearing on the OTC derivatives market conducted by the Committee on Risk Management and Specialty Crops of the House Committee on Agriculture, representatives of the Treasury Department, the Federal Reserve Board and the SEC testified that they have already concluded that the CFTC should no longer retain its current statutory authority with regard to the OTC derivatives market and that the Commission's jurisdiction should be transferred to and divided among themselves. The Treasury proposal for a study appears to be merely a vehicle for the other members of the President's Working Group to implement this transfer of the CFTC's statutory authority to them.
The Treasury proposal would neither maintain the regulatory status quo relating to the OTC derivatives market nor facilitate regulatory coordination. While the bill would bar the CFTC from taking actions with regard to OTC derivative instruments within its jurisdiction, other federal regulators would remain free to go forward with their plans to issue new regulations relating to the OTC derivatives market. For example, the SEC would be free to finalize its proposed new regulatory scheme applicable to OTC derivatives dealers.(40)
Likewise, the Office of Thrift Supervision of the Department of the Treasury would be free to adopt its proposed comprehensive revision of regulations on derivatives.(41)
Such new regulatory action relating to the OTC derivatives market would destroy the regulatory status quo rather than preserve it. To impose a moratorium on CFTC action while allowing the other agencies to move forward would severely hinder -- not facilitate -- coordination and cooperation among federal financial regulators with respect to the OTC derivatives market.
Proponents of the Treasury proposal have argued that emergency legislation is needed to maintain the status quo in regulation of the OTC derivatives market and to resolve legal uncertainty. The ambiguities in the Treasury proposal would create legal uncertainty, not reduce it. As discussed above, there is no emergency: the Commission's Concept Release has not disrupted the market or altered the legal status of any OTC derivative instruments. In any event, the Commission decided on July 24, 1998, that it will not propose or issue new regulations to regulate swaps and hybrid instruments prior to Congress' reconvening in 1999, except as necessary in an emergency.(42) Finally, as demonstrated above, it is clear that the Treasury proposal would profoundly alter the regulatory status quo, not preserve it.
In sum, the Treasury proposal would eviscerate key provisions of the CEA and facilitate transfer of the statutory authority in the CEA to other federal financial regulators whose expertise does not include derivatives market regulation. It purports to enhance legal certainty, but raises more legal questions than it resolves. Most importantly, it would create significant regulatory gaps by tieing the Commission's hands in addressing emergencies and wrongdoing in the market. If Congress wishes to take such actions, it should do so only after careful consideration of the dangers posed by this proposal, not precipitously in response to cries of an emergency for which no evidence has been offered.
Mr. Chairman, I would like to thank you for this opportunity to present the views of the Commission, and I would be happy to answer any questions that the members of the Committee might have.
1. International Swaps and Derivatives Association, Summary of Recent Market Survey Results, ISDA Market Survey (1998), available at http://www.isda.org.
4. General Accounting Office, GAO/GGD-98-5, OTC Derivatives: Additional Oversight Could Reduce Costly Sales Practice Disputes 3, n.6 (1997) ("1997 GAO Report"). The notional amount represents the amount upon which payments to the parties to a derivatives transaction are based and is the most commonly used measure of outstanding OTC derivatives transactions. Notional amounts generally overstate the amount at risk in such transactions.
5. First Quarter Trading Revenues Soar to Record Levels, Swaps Monitor, May 18, 1998, at 1.
6. See, e.g., In the Matter of MG Refining and Marketing, Inc., et al., CFTC Docket No. 95-14, 1995 WL 447455 (July 27, 1995);Commodity Futures Trading Commission v. Noble Metals Intern., Inc., 67 F.3d 766 (9th Cir. 1995), cert. denied sub nom. Schulze v. Commodity Futures Trading Commission, 117 S.Ct. 64 (1996); Commodity Futures Trading Commission v. American Metals Exchange Corp., 991 F.2d 71 (3d Cir. 1993); Commodity Futures Trading Commission v. Co Petro Marketing Group, Inc, 680 F.2d 573 (9th Cir. 1982).
7. The Treasury Amendment provides that nothing in the CEA shall be applicable to "transactions in foreign currency, security warrants, security rights, resales of installment loan contracts, repurchase options, government securities, or mortgages and mortgage purchase commitments, unless such transactions involve the sale thereof for future delivery conducted on a board of trade." Section 2(a)(1)(A)(ii) of the Act, 7 U.S.C. § 2(ii).
8. Section 2(a)(1)(B)(i), 7 U.S.C. § 2a(i). The SEC also has jurisdiction over foreign currency options, but only when they are traded on a national securities exchange. Section 4c(f) of the Act, 7 U.S.C. § 6c(f). The CFTC has jurisdiction over foreign currency options when traded on a board of trade. Sections 2(a)(1)(A)(ii) and 4c(b) of the Act, 7 U.S.C. §§ 2(ii) and 6c(b).
9. The Commission has exempted trade
options. Commission Rule 32.4(a), adopted in 1976, permits the sale of
OTC commodity options in circumstances in which the offeror "has
a reasonable basis to believe that the option is offered to a
producer, processor or commercial user of, or a merchant handling, the
commodity which is the subject of the commodity option
transaction" and that such commercial party is offered or enters
into the transaction "solely for purposes related to its business
as such." 17 C.F.R. § 32.4.
This trade option exemption does not extend to the basic agricultural commodities enumerated in the CEA. Due to concerns over historical abuses relating to agricultural options, they were subject to a statutory ban until 1982, and the Commission imposed a regulatory prohibition on OTC agricultural options thereafter. Recently, however, major changes in U.S. farm policy have created a growing demand in the marketplace for innovative agricultural risk management tools. Therefore, earlier this year the Commission approved a pilot program to permit OTC agricultural trade options subject to regulatory safeguards. 63 Fed. Reg. 18821 (Apr. 16, 1998).
10. Section 4(c)(1) of the Act, 7 U.S.C. § 6(c)(1).
11. 17 C.F.R. Part 35.
12. 58 Fed. Reg. 5587, 5588 (Jan. 22, 1993).
13. 17 C.F.R. Part 34.
14. Part 34 exempts hybrid instruments, and those transacting in and/or providing advice or other services with respect to such hybrids, from all provisions of the CEA except Section 2(a)(1)(B) and thus permits OTC transactions in such hybrid instruments, subject to the following requirements: (1) a requirement that the issuer must receive full payment of the hybrid instrument's purchase price; (2) a prohibition on requiring additional out-of-pocket payments to the issuer during the hybrid instrument's life or at its maturity; (3) a prohibition on marketing the hybrid instrument as a futures contract or commodity option; (4) a prohibition on settlement by delivery of an instrument specified as a delivery instrument in the rules of a designated contract market; (5) a requirement that the hybrid instrument be initially sold or issued subject to federal or state securities or banking laws to persons permitted thereunder to purchase the instrument; and (6) a requirement that the sum of the values of the commodity-dependent components of a hybrid instrument be less than the value of the commodity-independent components.
15. See H.R. Conf. Rep. No. 102-978, 102d Cong., 2d Sess. 83 (1992)(Conference Report to accompany P.L. 102-546, the Futures Trading Act of 1992).
16. See CFTC, OTC Derivatives Markets and Their Regulation (1993).
17. See H.R. Conf. Rep. No. 102-978, 102d Cong., 2d Sess. 81 (1992).
18. See, e.g., Revised Procedures for Commission Review and Approval of Applications for Contract Market Designation and of Exchange Rules Relating to Contract Terms and Conditions, 62 FR 10434 (Mar. 7, 1997); Final Rulemaking Concerning Contract Market Rule Review Procedures, 62 FR 10427 (Mar. 7, 1997); Contract Market Rule Review Procedures, 62 FR 17700 (Apr. 11, 1997); Electronic Filing of Disclosure Documents With the Commission, 62 FR 18265 (Apr. 15, 1997); Recordkeeping; Reports by Futures Commission Merchants, Clearing Members, Foreign Brokers, and Large Traders, 62 FR 24026 (May 2, 1997); Bunched Orders and Account Identification, 62 FR 25470 (May 9, 1997); Alternative Methods of Compliance With Requirements for Delivery and Retention of Monthly, Confirmation and Purchase-and-Sale Statements, 62 FR 31507 (June 10, 1997); Interpretation Regarding Use of Electronic Media by Commodity Pool Operators and Commodity Trading Advisors for Delivery of Disclosure Documents and Other Materials, 62 FR 39104 (July 22, 1997); Securities Representing Investment of Customer Funds Held in Segregated Accounts by Futures Commission Merchants, 62 FR 42398 (Aug. 7, 1997); Concept Release on the Denomination of Customer Funds and the Location of Depositories, 62 FR 67841 (Dec. 30, 1997); Account Identification for Eligible Bunched Orders, 63 FR 695 (Jan. 7, 1998); Maintenance of Minimum Financial Requirements by Futures Commission Merchants and Introducing Brokers, 63 FR 2188 (Jan. 14, 1998); Requests for Exemptive, No-Action and Interpretative Letters, 63 FR 3285 (Jan. 22, 1998); Voting by Interested Members of Self-Regulatory Organization Governing Boards and Committees, 63 FR 3492 (Jan. 23, 1998); Regulation of Noncompetitive Transactions Executed on or Subject to the Rules of a Contract Market, 63 FR 3708 (Jan. 26, 1998); Distribution of Risk Disclosure Statements by Futures Commission Merchants and Introducing Brokers, 63 FR 8566 (Feb. 20, 1998); Amendments to Minimum Financial Requirements for Futures Commission Merchants, 63 FR 12713 (Mar. 16, 1998); Two-Part Documents for Commodity Pools, 63 FR 15112 (Mar. 30, 1998); Rules of Practice; Proposed Amendments, 63 FR 16453 (Apr. 3, 1998); Trade Options on the Enumerated Agricultural Commodities, 63 FR 18821 (Apr. 16, 1998); Trading Hours, 63 FR 24142 (May 1, 1998); Recordkeeping, 63 FR 30668 (June 5, 1998); Elimination of Short Option Value Charge, 63 FR 32725 (June 16, 1998); Futures-Style Margining of Commodity Options, 63 FR 32726 (June 16, 1998); Changes in Trading Hours, 63 FR 33848 (June 22, 1998); Revision of Federal Speculative Position Limits and Associated Rules, 63 FR 38525 (July 17, 1998); Economic and Public Interest Requirements for Contract Market Designation, 63 FR 38537 (July 17, 1998); Concept Release on the Placement of a Foreign Board of Trade's Computer Terminals in the United States, 63 FR 39779 (July 24, 1998).
19. The Commission has requested public comment on the London Clearing House petition. 63 FR 36657 (July 7, 1998).
20. H.R. Conf. Rep. No. 102-978, 102 Cong., 2d Sess. 80 (1992).
21. 1997 GAO Report at 10. See also Jerry Markham, Commodities Regulation: Fraud, Manipulation & Other Claims, § 27.05, at 27-30 27-34 (Supp. 1997) (presenting an extensive array of major OTC derivatives losses in 1994 alone).
22. Bernard Baumohl, The Banks' Nuclear Secrets, Time, May 25, 1998, at 50.
23. Id. at 46.
24. See, e.g., AARP/CFA/NASAA Background Report: The Five Biggest Problems 'Legitimate' Investing Poses for Older Investors (1995) (discussing "hidden derivatives in investment products touted as 'safe.")
25. Transcript for CNBC-TV "Power Lunch," May 7, 1998, provided by Video Monitoring Services of America, L.P.
26. Testimony of Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System, before the Committee on Banking and Financial Services, U.S. House of Representatives, at 5 (July 24, 1998).
27. See In the Matter of BT Securities Corp., CFTC Docket No. 95-3, 1994 WL 711224 (Dec. 22, 1994) (Gibson Greeting Cards); Procter and Gamble Co. v. Bankers Trust Co., 925 F. Supp. 1270 (S.D. Ohio 1996).
28. 1997 GAO Report at 137-38.
29. Financial Management Policies: Financial Derivatives, 63 Fed. Reg. 20252 (Apr. 23, 1998). See also Supervisory Policy Statement on Investment Securities and End-User Derivatives Activities, 63 Fed. Reg. 20191 (Apr. 23, 1998).
30. OTC Derivatives Dealers, 62 Fed. Reg. 67940 (Dec. 30, 1997). The SEC has jurisdiction over OTC options on securities and OTC options on securities indexes under the CEA. 7 U.S.C. § 2a(i). The GAO has reported that the SEC's jurisdiction extends to about 1.4% of the instruments in the OTC derivatives market. 1997 GAO Report at 42. Nonetheless, the SEC proposal purports to regulate trading in all OTC derivative instruments by OTC derivatives dealers operating under its proposed rule, including, for example, commodity swaps and other instruments which are clearly not within the SEC's jurisdiction. The proposal also purports to permit trading in certain OTC derivative instruments which are not exempt under the CEA and the Commission's regulations.
31. 63 Fed. Reg. 26114 (May 12, 1998).
32. See Testimony of Alan Greenspan, Chairman, Board of Governors of the Federal Reserve System before the Committee on Banking and Financial Services, U.S. House of Representatives at 6-8 (July 24, 1998).
33. H.R. Conf. Rep. No. 102-978, 102d Cong., 2d Sess. 81 (1992).
34. Views of the Working Group on Financial Markets on the Recommendations of the U.S. General Accounting Office Concerning Financial Derivatives at 3, attached to a letter dated July 18, 1994, from Lloyd Bentsen, Secretary of the Treasury, to John D. Dingell, Chairman, House Committee on Energy and Commerce, attached hereto as Attachment 2.
35. As the House Agriculture Committee
stated in 1982 in approving the amendments to the CEA adopting the
Shad-Johnson Accord on the respective jurisdictions of the SEC and the
The committee has long recognized and accepted the inherent differences between the futures industry and the securities industry and endorses the concept of separate regulation. Basically, the CFTC will retain its traditional role of regulating markets and instruments that serve a hedging and price discovery function while the SEC will regulate markets and instruments with an underlying investment purpose.
H.R. Rep. No. 97-565, Part 1, 97th Cong., 2d Sess. 40 (1982) (House of Representatives Committee on Agriculture, Report To Accompany H.R. 5447, the Futures Trading Act of 1982).
36. 63 Fed. Reg. 26119-20 (May 12, 1998).
37. Letter dated March 11, 1998, from Robert Rubin, Secretary of the Treasury, to Fred Thompson, Chairman, Senate Committee on Government Affairs, attached hereto as Attachment 3.
38. Section 1 of the Treasury proposal, the findings section, inaccurately characterizes prior CFTC actions related to swaps and hybrid instruments by stating that the CFTC has acknowledged that these instruments are not within the coverage of the CEA. The Commission has never made such a finding. Rather, when issuing the Statement of Policy and the Statutory Interpretation referred to in the draft legislation, the Commission indicated only that, with respect to such instruments, it would not impose the full regulatory regime of the CEA but instead would place them in a safe harbor. Such action was necessary because, when the CFTC issued the Policy Statement and the Statutory Interpretation, it did not yet have the power to exempt futures contracts from the exchange trading requirement of the CEA.
39. If this provision were adopted, Congress would be assigning statutory responsibilities for the first time to an ad hoc coordinating body with no statutory authority, no budget and no staff. The Working Group was created by Executive Order in 1988 by President Ronald Reagan to study the 1987 market crash and completed its work pursuant to the Executive Order that year. More recently, in 1994 its members were informally convened by then Secretary of the Treasury Lloyd Bentsen in order to discuss cross-jurisdictional issues. It has met occasionally since then about five times in the past 23 months.
40. See OTC Derivatives Dealers, 62 Fed. Reg. 67940 (Dec. 30, 1997).
41. See Financial Management Policies: Financial Derivatives, 63 Fed. Reg. 20252 (Apr. 23, 1998).
42. The Commission may, however, respond to petitions for exemptive relief regarding OTC derivatives, including the imposition of terms and conditions with respect to such exemptive relief.