2010-10313

FR Doc 2010-10313[Federal Register: May 4, 2010 (Volume 75, Number 85)]

[Notices]

[Page 23718-23728]

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

[DOCID:fr04my10-65]

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COMMODITY FUTURES TRADING COMMISSION

Orders Finding That the Henry Financial Basis Contract, Henry

Financial Index Contract and Henry Financial Swing Contract Traded on

the IntercontinentalExchange, Inc., Do Not Perform a Significant Price

Discovery Function

AGENCY: Commodity Futures Trading Commission.

ACTION: Final orders.

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SUMMARY: On October 20, 2009, the Commodity Futures Trading Commission

(``CFTC'' or ``Commission'') published for comment in the Federal

Register \1\ a notice of its intent to undertake a determination

whether the Henry Financial Basis (``HEN'') contract, Henry Financial

Index (``HIS'') contract and Henry Financial Swing (``HHD'') contract

traded on the IntercontinentalExchange, Inc. (``ICE''), an exempt

commercial market (``ECM'') under sections 2(h)(3)-(5) of the Commodity

Exchange Act (``CEA'' or the ``Act''), perform a significant price

discovery function pursuant to section 2(h)(7) of the CEA. The

Commission undertook this review based upon an initial evaluation of

information and data provided by ICE as well as other available

information. The Commission has reviewed the entire record in this

matter, including all comments received, and has determined to issue

orders finding that the HEN, HIS and HHD contracts do not perform a

significant price discovery function. Authority for this action is

found in section 2(h)(7) of the CEA and Commission rule 36.3(c)

promulgated thereunder.

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\1\ 74 FR 53720 (October 20, 2009).

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DATES: Effective date: April 28, 2010.

FOR FURTHER INFORMATION CONTACT: Gregory K. Price, Industry Economist,

Division of Market Oversight, Commodity Futures Trading Commission,

Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.

Telephone: (202) 418-5515. E-mail: [email protected]; or Susan Nathan,

Senior Special Counsel, Division of Market Oversight, same address.

Telephone: (202) 418-5133. E-mail: [email protected]

SUPPLEMENTARY INFORMATION:

I. Introduction

The CFTC Reauthorization Act of 2008 (``Reauthorization Act'') \2\

significantly broadened the CFTC's regulatory authority with respect to

ECMs by creating, in section 2(h)(7) of the CEA, a new regulatory

category--ECMs on which significant price discovery contracts

(``SPDCs'') are traded--and treating ECMs in that category as

registered entities under the CEA.\3\ The legislation authorizes the

CFTC to designate an agreement, contract or transaction as a SPDC if

the Commission determines, under criteria established in section

2(h)(7), that it performs a significant price discovery function. When

the Commission makes such a determination, the ECM on which the SPDC is

traded must assume, with respect to that contract, all the

responsibilities and obligations of a registered entity under the Act

and Commission regulations, and must comply with nine core principles

established by new section 2(h)(7)(C).

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\2\ Incorporated as Title XIII of the Food, Conservation and

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

\3\ 7 U.S.C. 1a(29).

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On March 16, 2009, the CFTC promulgated final rules implementing

the provisions of the Reauthorization Act.\4\ As relevant here, rule

36.3 imposes increased information reporting requirements on ECMs to

assist the Commission in making prompt assessments whether particular

ECM contracts may be SPDCs. In addition to filing quarterly reports of

its contracts, an ECM must notify the Commission promptly concerning

any contract traded in reliance on the exemption in section 2(h)(3) of

the CEA that averaged

[[Page 23719]]

five trades per day or more over the most recent calendar quarter, and

for which the exchange sells its price information regarding the

contract to market participants or industry publications, or whose

daily closing or settlement prices on 95 percent or more of the days in

the most recent quarter were within 2.5 percent of the

contemporaneously determined closing, settlement or other daily price

of another contract.

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\4\ 74 FR 12178 (Mar. 23, 2009); these rules became effective on

April 22, 2009.

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Commission rule 36.3(c)(3) established the procedures by which the

Commission makes and announces its determination whether a particular

ECM contract serves a significant price discovery function. Under those

procedures, the Commission will publish notice in the Federal Register

that it intends to undertake an evaluation whether the specified

agreement, contract or transaction performs a significant price

discovery function and to receive written views, data and arguments

relevant to its determination from the ECM and other interested

persons. Upon the close of the comment period, the Commission will

consider, among other things, all relevant information regarding the

subject contract and issue an order announcing and explaining its

determination whether or not the contract is a SPDC. The issuance of an

affirmative order signals the effectiveness of the Commission's

regulatory authorities over an ECM with respect to a SPDC; at that time

such an ECM becomes subject to all provisions of the CEA applicable to

registered entities.\5\ The issuance of such an order also triggers the

obligations, requirements and timetables prescribed in Commission rule

36.3(c)(4).\6\

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\5\ Public Law 110-246 at 13203; Joint Explanatory Statement of

the Committee of Conference, H.R. Rep. No. 110-627, 110 Cong., 2d

Sess. 978, 986 (Conference Committee Report). See also 73 FR 75888,

75894 (Dec. 12, 2008).

\6\ For an initial SPDC, ECMs have a grace period of 90 calendar

days from the issuance of a SPDC determination order to submit a

written demonstration of compliance with the applicable core

principles. For subsequent SPDCs, ECMs have a grace period of 30

calendar days to demonstrate core principle compliance.

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II. Notice of Intent To Undertake SPDC Determination

On October 20, 2009, the Commission published in the Federal

Register notice of its intent to undertake a determination whether the

HEN, HIS and HHD contracts performs a significant price discovery

function and requested comment from interested parties.\7\ Comments \8\

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

Platts,\9\ Public Utility Commission of Texas (``PUCT'') and ICE. The

comment letters from FERC,\10\ Platts and PUCT \11\ did not directly

address the issue of whether or not the HEN, HIS and HHD contracts are

SPDCs; ICE's comments raised substantive issues with respect to the

applicability of section 2(h)(7) to the subject contracts. Generally,

ICE asserted that its HEN, HIS and HHD contracts are not SPDCs as they

do not meet any of the criteria for SPDC determination (CL 03). ICE's

comments are more extensively discussed below, as applicable.

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\7\ The Commission's Part 36 rules establish, among other

things, procedures by which the Commission makes and announces its

determination whether a specific ECM contract serves a significant

price discovery function. Under those procedures, the Commission

publishes a notice in the Federal Register that it intends to

undertake a determination whether a specified agreement, contract or

transaction performs a significant price discovery function and to

receive written data, views and arguments relevant to its

determination from the ECM and other interested persons.

\8\ The comment letters are available on the Commission's Web

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

federalregistercomments/2009/09-027.html.

\9\ McGraw-Hill, through its division Platts, compiles and

calculates monthly natural gas price indices from natural gas trade

data submitted to Platts by energy marketers. Platts includes those

price indices in its monthly Inside FERC's Gas Market Report

(``Inside FERC'').

\10\ FERC stated that the HEN, HIS and HHD contracts are cash-

settled and that none of them contemplates the actual physical

delivery of natural gas. Accordingly, FERC expressed the opinion

that a determination by the Commission that a contract performs a

significant price discovery function ``would not appear to conflict

with FERC's exclusive jurisdiction under the Natural Gas Act (NGA)

over certain sales of natural gas in interstate commerce for resale

or with its other regulatory responsibilities under the NGA'' and

further that ``FERC staff will continue to monitor for any such

conflict * * * [and] advise the CFTC'' should any such potential

conflict arise. CL 01.

\11\ PUCT noted that it oversees the Electric Reliability

Council of Texas, much like FERC oversees independent system

operators. The mission of PUCT is ``to ensure nondiscriminatory

access to the [electricity] transmission and distribution systems,

to ensure the reliability and adequacy of the regional electrical

network and to perform other essential market functions.'' CL 04.

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III. Section 2(h)(7) of the CEA

The Commission is directed by section 2(h)(7) of the CEA to

consider the following criteria in determining a contract's significant

price discovery function:

Price Linkage--the extent to which the agreement, contract

or transaction uses or otherwise relies on a daily or final settlement

price, or other major price parameter, of a contract or contracts

listed for trading on or subject to the rules of a designated contract

market (``DCM'') or derivatives transaction execution facility

(``DTEF''), or a SPDC traded on an electronic trading facility, to

value a position, transfer or convert a position, cash or financially

settle a position, or close out a position.

Arbitrage--the extent to which the price for the

agreement, contract or transaction is sufficiently related to the price

of a contract or contracts listed for trading on or subject to the

rules of a DCM or DTEF, or a SPDC traded on or subject to the rules of

an electronic trading facility, so as to permit market participants to

effectively arbitrage between the markets by simultaneously maintaining

positions or executing trades in the contracts on a frequent and

recurring basis.

Material price reference--the extent to which, on a

frequent and recurring basis, bids, offers or transactions in a

commodity are directly based on, or are determined by referencing or

consulting, the prices generated by agreements, contracts or

transactions being traded or executed on the electronic trading

facility.

Material liquidity--the extent to which the volume of

agreements, contracts or transactions in a commodity being traded on

the electronic trading facility is sufficient to have a material effect

on other agreements, contracts or transactions listed for trading on or

subject to the rules of a DCM, DTEF or electronic trading facility

operating in reliance on the exemption in section 2(h)(3).

Not all criteria must be present to support a determination that a

particular contract performs a significant price discovery function,

and one or more criteria may be inapplicable to a particular

contract.\12\ Moreover, the statutory language neither prioritizes the

criteria nor specifies the degree to which a SPDC must conform to the

various criteria. In Guidance issued in connection with the Part 36

rules governing ECMs with SPDCs, the

[[Page 23720]]

Commission observed that these criteria do not lend themselves to a

mechanical checklist or formulaic analysis. Accordingly, the Commission

has indicated that in making its determinations it will consider the

circumstances under which the presence of a particular criterion, or

combination of criteria, would be sufficient to support a SPDC

determination.\13\ For example, for contracts that are linked to other

contracts or that may be arbitraged with other contracts, the

Commission will consider whether the price of the potential SPDC moves

in such harmony with the other contract that the two markets

essentially become interchangeable. This co-movement of prices would be

an indication that activity in the contract had reached a level

sufficient for the contract to perform a significant price discovery

function. In evaluating a contract's price discovery role as a price

reference, the Commission will consider whether cash market

participants are quoting bid or offer prices or entering into

transactions at prices that are set either explicitly or implicitly at

a differential to prices established for the contract.

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\12\ In its October 20, 2009, Federal Register release, the

Commission identified material liquidity, material price reference

and price linkage as the possible criteria for SPDC determination of

the HEN contract (arbitrage was not identified as a possible

criterion). With respect to the HIS contract, the Federal Register

release identified material liquidity and material price reference

as possible criteria for SPDC determination (price linkage and

arbitrage were not identified as possible criteria). With respect to

the HHD contract, the Federal Register release identified material

liquidity, arbitrage and material price reference as possible

criteria for SPDC determination (price linkage was not identified as

a possible criterion). The criteria not indentified in the initial

release will not be discussed further in this document or the

associated Orders.

\13\ 17 CFR part 36, Appendix A.

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IV. Findings and Conclusions

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

Financial Basis (HEN) contract, the Henry Financial Index (HIS)

contract and the Henry Financial Swing (HHD) contract are discussed

separately below.

a. The Henry Financial Basis (HEN) Contract and the SPDC Indicia

The ICE HEN contract is cash settled based on the difference

between the bidweek price of natural gas at the Henry Hub for the

contract-specified month of delivery, as reported in Platts' Inside

FERC's Gas Market Report, and the final settlement price for New York

Mercantile Exchange's (``NYMEX's'') Henry Hub physically-delivered

natural gas futures contract for the same specified calendar month. The

Platts bidweek price, which is published monthly, is based on a survey

of cash market traders who voluntarily report to Platts data on their

fixed-price transactions conducted during the last five business days

of the month for physical delivery of natural gas at the Henry Hub;

such bidweek transactions specify the delivery of natural gas on a

uniform basis throughout the following calendar month at the agreed

upon rate. The Platts bidweek index is published on the first business

day of the calendar month in which the natural gas is to be delivered.

The size of the HEN contract is 2,500 million British thermal units

(``mmBtu''), and the unit of trading is any multiple of 2,500 mmBtu.

The HEN contract is listed for up to 72 calendar months commencing with

the next calendar month.

The Henry Hub,\14\ which is located in Erath, Louisiana, is the

primary cash market trading and distribution center for natural gas in

the United States. It also is the delivery point and pricing basis for

the NYMEX's actively traded Henry Hub physically-delivered natural gas

futures contract, which is the most important pricing reference for

natural gas in the United States. The Henry Hub, which is operated by

Sabine Pipe Line, LLC, serves as a juncture for 13 different pipelines.

These pipelines bring in natural gas from fields in the Gulf Coast

region and move it to major consumption centers along the East Coast

and Midwest. The throughput shipping capacity of the Henry Hub is 1.8

trillion mmBtu per day.

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\14\ The term ``hub'' refers to a juncture where two or more

natural gas pipelines are connected. Hubs also serve as pricing

points for natural gas.

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The HEN contract price measures the discrepancy between two Henry

Hub-related prices, where one price is a futures price and the other is

a forward cash price. Traders may make commitments to buy or sell

natural gas at the Henry Hub using the NYMEX Henry Hub natural gas

futures contract, which specifies physical delivery. Because the NYMEX

futures contract is listed for at least twelve years, market

participants can make such decisions a long time before delivery

actually occurs, since they can have an effective hedge in place to

offset price risk associated with long-dated cash market commitments.

While the futures price and the bidweek price both reflect the price of

natural gas during the following month, the two values may not be

equal. This is because the NYMEX futures contract stops trading three

business days prior to first business day of the delivery month. In

contrast, the bidweek price is derived from cash market deals

consummated during the last five business days of the month that

specify physical delivery during the following calendar month. Thus, it

is possible that the bidweek price could include two additional days of

market information, which could result in a price that is significantly

higher or lower than the futures price. The ICE HEN contract can be

used to more accurately price natural gas in the delivery month. For

example, a firm may lock in its November 2009 needs by taking a long

position in the November 2009 contract. Assume that the futures

position is established at $4.00 per mmBtu. This means that the gas was

purchased at $4, which may be higher or lower than the spot price

during the delivery month. During the final few days in October, the

November 2009 natural gas contract stops trading and the November

bidweek price is determined. Assume that the weather forecast calls for

warmer than normal temperatures in the area, causing the futures price

to fall and settle on October 27 at $3.90 per mmBtu, resulting in a

loss of $0.10 per mmBtu on the futures side. Market sentiment of a

strong downward pressure on gas prices may persist, leading spot

transactions for next-month delivery to be priced even lower than the

futures settlement price. In this regard, the bidweek price is

determined as a volume weighted average of fixed-price transactions for

November 2009 delivery that were conducted between October 25, 2009,

and October 29, 2009. If the bidweek price ends up being at $3.75 per

mmBtu, the firm will incur an additional loss of $0.15 per mmBtu

because of falling spot prices. By taking a position in the ICE HEN

contract, the firm can mitigate some of the losses by accounting for

the difference between the final settlement price and the bidweek

price.\15\

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\15\ If the firm simultaneously takes positions involving the

NYMEX futures contract and the ICE HEN basis contract, the firm will

be able to price the natural gas at the bidweek price.

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In its October 20, 2009, Federal Register notice, the Commission

identified material liquidity, price linkage and material price

reference as the potential SPDC criteria applicable to the HEN

contract. Each of these criteria is discussed below.\16\

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\16\ As noted above, the Commission did not find an indication

of arbitrage in connection with this contract; accordingly, that

criterion is not discussed in reference to the HEN contract.

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1. Material Price Reference Criterion

The Commission's October 20, 2009, Federal Register notice

identified material price reference as a potential basis for a SPDC

determination with respect to this contract. The Commission noted that

ICE sells its price data to market participants in a number of

different packages which vary in terms of the hubs covered, time

periods and whether the data are daily only or historical. For example,

ICE offers the ``Gulf Gas End of Day'' and ``OTC Gas End of Day'' \17\

packages with access to all price data or just current prices plus a

selected number of months (i.e., 12, 24, 36 or 48 months) of

[[Page 23721]]

historical data. These two packages include price data for the HEN

contract.

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\17\ The OTC Gas End of Day dataset includes daily settlement

prices for natural gas contracts listed for all points in North

America.

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Although the Henry Hub is a major trading center for natural gas in

the United States and, as noted, ICE sells price information for the

HEN contract, the Commission has found upon further evaluation that the

HEN contract is not routinely consulted by industry participants in

pricing cash market transactions and thus does not meet the

Commission's Guidance for the material price reference criterion. In

this regard, the NYMEX Henry Hub physically delivered natural gas

futures contract is routinely consulted by industry participants in

pricing cash market transactions at this location. Because both the HEN

and the NYMEX contracts basically price the same commodity at the same

location and time and the NYMEX contract has significantly higher

trading volume and open interest,\18\ it is not necessary for market

participants to independently refer to the HEN contract for pricing

natural gas at this location. Furthermore, the Commission notes that

publication of the HEN contract's prices is not indirect evidence of

routine dissemination. The HEN contract's prices are published with

those of numerous other contracts, which are of more interest to market

participants.\19\ The Commission cannot surmise whether or not traders

specifically purchase the ICE data packages for the HEN contract's

prices.

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\18\ Trading data was obtained by the Commission using the

Integrated Surveillance System.

\19\ The Commission will rely on one of two sources of

evidence--direct or indirect--to determine a SPDC. Direct evidence

can be cash market transactions that are frequently based on or

quoted as a differential to the potential SPDC. Indirect evidence

includes contracts whose price series are routinely disseminated in

industry publications or are sold to market participants by the ECM.

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i. Federal Register Comments

As noted above, ICE was the sole respondent which addressed the

question of whether the HEN contract is a SPDC. ICE stated in its

comment letter that the HEN contract does not meet the material price

reference criterion for SPDC determination. ICE stated that the

Commission appeared to base the case that the HEN contract is

potentially a SPDC on a disputable assertion. In issuing its notice of

intent to determine whether the HEN contract is a SPDC, the CFTC cited

a general conclusion in its ECM study ``that certain market

participants referred to ICE as a price discovery market for certain

natural gas contracts.'' ICE states that ``[b]asing a material price

reference determination on general statements made in a two year old

study does not seem to meet Congress' intent that the CFTC use its

considerable expertise to study the OTC markets.'' The Commission cited

the ECM study's general finding that some ICE natural gas contracts

appear to be regarded as price discovery markets as an indication that

an investigation of certain ICE contracts may be warranted; the ECM

study was not intended to serve as the sole basis for determining

whether or not a particular contract meets the material price reference

criterion.

ii. Conclusion Regarding Material Price Reference

The Commission finds that the HEN contract does not meet the

material price reference criterion because it is not routinely

consulted by cash market participants when pricing transactions at the

Henry Hub (direct evidence is not supported). Moreover, the ECM sells

the HEN contract's price data along with those of other contracts,

which are of more interest to market participants (indirect evidence is

not supported).

2. Price Linkage Criterion

In its October 20, 2009, Federal Register notice, the Commission

identified price linkage as a potential basis for a SPDC determination

with respect to the HEN contract. In this regard, the final settlement

of the HEN contract is based, in part, on the final settlement price of

the NYMEX's Henry Hub physically-delivered natural gas futures

contract, where the NYMEX is registered with the Commission as a DCM.

The Commission's Guidance on Significant Price Discovery Contracts

\20\ notes that a ``price-linked contract is a contract that relies on

a contract traded on another trading facility to settle, value or

otherwise offset the price-linked contract.'' Furthermore, the Guidance

notes that ``[f]or a linked contract, the mere fact that a contract is

linked to another contract will not be sufficient to support a

determination that a contract performs a significant price discovery

function. To assess whether such a determination is warranted, the

Commission will examine the relationship between transaction prices of

the linked contract and the prices of the referenced contract. The

Commission believes that where material liquidity exists, prices for

the linked contract would be observed to be substantially the same as,

or move substantially in conjunction with, the prices of the referenced

contract.'' The Guidance proposes a threshold price relationship such

that prices of the ECM linked contract will fall within a 2.5 percent

price range for 95 percent of contemporaneously determined closing,

settlement or other daily prices over the most recent quarter. Finally,

the Commission also stated in the Guidance that it would consider a

linked contract that has a trading volume equivalent to 5 percent of

the volume of trading in the contract to which it is linked to have

sufficient volume potentially to be deemed a SPDC (``minimum

threshold'').

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\20\ Appendix A to the Part 36 rules.

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To assess whether the HEN contract meets the price linkage

criterion, Commission staff obtained price data from ICE and performed

the statistical tests cited above. Staff found that the Henry Hub

futures/cash price differential is determined in part by the final

settlement price of the NYMEX Henry Hub physically-delivered natural

gas futures contract (a DCM contract) and that the derived Henry Hub

prices (using the NYMEX Henry Hub natural gas futures contract's

settlement prices and the Henry Hub cash price differentials) are

within 2.5 percent of the settlement prices of the corresponding NYMEX

Henry Hub natural gas futures contract on 95 percent or more of the

days. Specifically, during the third quarter of 2009, 100 percent of

the Henry Hub natural gas prices derived from the HEN values were

within 2.5 percent of the daily settlement price of NYMEX Henry Hub

natural gas futures contract. However, staff found that the HEN

contract fails to meet the volume threshold requirement. In particular,

the total trading volume in the NYMEX Henry Hub natural gas futures

contract during the third quarter of 2009 was 14,022,963 contracts,

with 5 percent of that number being 701,148 contracts. The number of

trades on the ICE centralized market in the HEN contract during the

same period totaled 173,973 contracts (equivalent to 43,493 NYMEX

futures contracts, given the size difference).\21\ Thus, total amount

of centralized-market trades in the HEN contract was significantly

below the minimum threshold.

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\21\ The HEN contract is one-quarter the size of the NYMEX Henry

Hub physically-delivered futures contract.

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i. Federal Register Comments

ICE was the sole respondent which addressed the question of whether

the HEN contract is a SPDC. ICE stated in its comment letter that the

HEN contract does not meet the price linkage criterion for SPDC

determination because it fails the volume test provided in the

Commission's Guidance.

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ii. Conclusion Regarding the Price Linkage Criterion

The Commission finds that the HEN contract does not meet the price

linkage criterion because it fails the volume test provided for in the

Commission's Guidance.

3. Material Liquidity Criterion

As noted above, in its October 20, 2009, Federal Register notice,

the Commission identified material liquidity, price linkage and

material price reference as potential criteria for SPDC determination

of the HEN contract. With respect to the material liquidity criterion,

the Commission noted that the total number of transactions executed on

ICE's electronic platform in the HEN contract was 538 in the second

quarter of 2009, resulting in a daily average of 8.4 trades. During the

same period, the HEN contract had a total trading volume of 78,780

contracts and an average daily trading volume of 1,232 contracts.

Moreover, open interest as of June 30, 2009, was 128,504 contracts,

which included trades executed on ICE's electronic trading platform, as

well as trades executed off of ICE's electronic trading platform and

then brought to ICE for clearing. In this regard, ICE does not

differentiate between open interest created by a transaction executed

on its trading platform and that created by a transaction executed off

its trading platform.\22\ In a subsequent filing dated November 13,

2009, ICE reported that total trading volume in the third quarter of

2009 was 173,973 contracts (or 2,636 contracts on a daily basis). In

term of number of transactions, 1,174 trades occurred in the third

quarter of 2009 (17.8 trades per day). As of September 30, 2009, open

interest in the HEN contract was 160,804 contracts, which included

trades executed on ICE's electronic trading platform, as well as trades

executed off of ICE's electronic trading platform and then brought to

ICE for clearing.

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\22\ 74 FR 53720 (October 20, 2009).

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The Commission notes that trading activity in the HEN contract

increased between the second and third quarters of 2009. However, the

number of trades per day remained relatively low and only slightly more

than the reporting level of five trades per day. Moreover, the

Commission notes that the number of contracts traded is comparable to

that experienced in a relatively small futures market, such as the

NYMEX Platinum and ICE US Frozen Concentrated Orange Juice contracts.

Accordingly, the data at best provides weak evidence that the HEN

contract meets the material liquidity criterion.\23\

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\23\ In establishing guidance to illustrate how it will evaluate

the various criteria, or combinations of criteria, when determining

whether a contract is a SPDC, the Commission made clear that

``material liquidity itself would not be sufficient to make a

determination that a contract is a [SPDC], * * * but combined with

other factors it can serve as a guidepost indicating which contracts

are functioning as [SPDCs].'' For the reasons discussed above, the

Commission has found that the HEN contract does not meet either the

price linkage or material price reference criterion. In light of

this finding and the Commission's Guidance cited above, there is no

need to evaluate further the material liquidity criteria since it

cannot be used alone as a basis for a SPDC determination.

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i. Federal Register Comments

As noted above, ICE was the sole respondent which addressed the

question of whether the HEN contract is a SPDC. ICE stated in its

comment letter that the HEN contract does not meet the material

liquidity criterion for SPDC determination for a number of reasons.

First, ICE opined that the Commission ``seems to have adopted a

five trade-per-day test to determine whether a contract is materially

liquid. It is worth noting that ICE originally suggested that the CFTC

use a five trades-per-day threshold as the basis for an ECM to report

trade data to the CFTC.'' On the contrary, the Commission adopted a

five trades-per-day threshold as a reporting requirement to enable it

to ``independently be aware of ECM contracts that may develop into

SPDCs'' \24\ rather than solely relying upon an ECM on its own to

identify any such potential SPDCs to the Commission. While a contract

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

SPDC, the threshold is not a test for material liquidity. As noted

above, the Commission has not reached a decision regarding material

liquidity because, regardless of the relatively large quarterly trading

volume in the HEN contract, material liquidity alone is not sufficient

to support a SPDC determination.

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\24\ 73 FR 75892 (December 12, 2008).

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ICE also stated that ``the statistics [provided by ICE] have been

misinterpreted and misapplied.'' In particular, ICE stated that the

volume figures used in the Commission's analysis (cited above)

``include trades made in all 120 months of each contract'' as well as

in strips of contract months, and a ``more appropriate method of

determining liquidity is to examine the activity in a single traded

month or strip of a given contract.'' Furthermore, ICE noted that for

the HEN contract, ``98% of the trades and volume actually executed on

the ICE platform occurred in the single most liquid, usually prompt,

month of the contract.''

It is the Commission's opinion that liquidity, as it relates to the

HEN contract, is typically a function of trading activity in particular

lead months and, given sufficient liquidity in such months, the HEN

contract itself would be considered liquid. ICE's analysis of its own

trade data confirms this to be the case for the HEN contract, and thus,

the Commission believes that it applied the statistical data cited

above in an appropriate manner for gauging material liquidity.

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

provided to the Commission in its quarterly filing and which are cited

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

electronic trading platform and should not be considered in the SPDC

determination process. Commission staff asked ICE to review the data it

sent in its quarterly filings. In response, ICE confirmed that the

volume data it provided and which the Commission cited in its October

20, 2009, Federal Register notice, as well as the additional volume

information it cites above, includes only transaction data executed on

ICE's electronic trading platform.\25\ The Commission acknowledges that

the open interest information it cites above includes transactions made

off the ICE platform. However, once open interest is created, there is

no way for ICE to differentiate between ``on-exchange'' versus ``off-

exchange'' created positions, and all such positions are fungible with

one another and may be offset in any way agreeable to the position

holder regardless of how the position was initially created.

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

\25\ Supplemental data supplied by ICE confirmed that block

trades in the third quarter of 2009 were in addition to the trades

that were conducted on the electronic platform; block trades

comprised 62.2 percent of all transactions in the HEN contract.

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

ii. Conclusion Regarding Material Liquidity

For the reasons discussed above, the Commission finds at best weak

evidence that the HEN contract meets the material liquidity criterion.

However, because the HEN contract does not meet either the price

linkage or material price reference criterion, it is not possible to

declare the HEN contract a SPDC since material liquidity cannot be used

alone as a basis for a SPDC determination.

4. Overall Conclusion the HEN Contract

After considering the entire record in this matter, including the

comments received, the Commission has determined that the HEN contract

does not perform a significant price discovery

[[Page 23723]]

function under the criteria established in section 2(h)(7) of the CEA.

Specifically, the Commission has determined that the HEN contract does

not meet the material price reference and price linkage criteria at

this time, and there is at best weak evidence that it meets the

material liquidity criterion, which is not sufficient by itself to

support a SPDC determination. Accordingly, the Commission will issue

the attached Order declaring that the HEN contract is not a SPDC.

Issuance of this Order indicates that the Commission does not at

this time regard ICE as a registered entity in connection with its HEN

contract.\26\ Accordingly, with respect to its HEN contract, ICE is not

required to comply with the obligations, requirements and timetables

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

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

\26\ See 73 FR 75888, 75893 (Dec. 12, 2008).

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

b. The Henry Financial Index (HIS) Contract and the SPDC Indicia

The ICE HIS contract is cash settled based on the arithmetic

average of the daily natural gas prices at the Henry Hub, as quoted in

the ``Daily Price Survey'' table of Platts' Gas Daily during the

specified month, less the Platts bidweek price that is reported in the

first issue of Inside FERC's Gas Market Report in which the natural gas

is delivered. The Platts prices are based on the fixed-price cash

market transactions that are voluntarily reported by traders. As noted

above, the Platts bidweek price is based on a survey of cash market

traders who voluntarily report data on their fixed-price transactions

conducted during the last five business days of the month for physical

delivery of natural gas at the Henry Hub on a uniform basis throughout

the following calendar month. The Platts bidweek index is published on

the first business day of the calendar month in which the natural gas

is to be delivered. The Gas Daily price is for next-day delivery of

natural gas at the Henry Hub. The size of the HIS contract is 2,500

mmBtu, and the unit of trading is any multiple of 2,500 mmBtu. The HIS

contract is listed for 36 calendar months.

The index used to settle the HIS contract measures the discrepancy

between two cash market prices for natural gas, where one (the Platts

bidweek price) is a fixed forward price that locks in the price paid

for gas deliveries made on each calendar day of the following month.

The other price (the Platts Daily Price Survey) is a calendar month

average of the daily spot price for gas deliveries made during the same

month. The forward and average spot prices may differ from each other

as new market conditions unfold during the month in which deliveries

are made.

For example, assume that a firm prices natural gas that is going to

be delivered at the Henry Hub in November 2009 at the bidweek price.

The NYMEX Henry Hub futures can be used to procure the physical gas,

and HEN contract can be overlayed in order to achieve the bidweek

price. If there is a potential that the average daily price during the

delivery month may differ from the bidweek price, the firm can add the

HIS contract to the NYMEX futures/ICE HEN combination to achieve a

price that is based on actual daily prices rather than a forward spot

price that applies to all business days in the delivery month. As a

result, the HIS contract allows commercial participants to price

natural gas more accurately during the delivery period.

In its October 20, 2009, Federal Register notice, the Commission

identified material liquidity and material price reference as the

potential SPDC criteria applicable to the HIS contract. Each of these

factors is discussed below.\27\

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

\27\ As noted above, the Commission did not find an indication

of arbitrage and price linkage in connection with this contract;

accordingly, those criteria are not discussed in reference to the

HIS contract.

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

1. Material Price Reference Criterion

The Commission's October 20, 2009, Federal Register notice

identified material price reference as a potential basis for a SPDC

determination with respect to this contract. The Commission noted that

ICE sells its price data to market participants in a number of

different packages which vary in terms of the hubs covered, time

periods, and whether the data are daily only or historical. For

example, ICE offers ``Gulf Gas End of Day'' and ``OTC Gas End of Day''

\28\ with access to all price data or just current prices plus a

selected number of months (i.e., 12, 24, 36 or 48 months) of historical

data. These two packages include price data for the HIS contract.

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

\28\ The OTC Gas End of Day dataset includes daily settlement

prices for natural gas contracts listed for all points in North

America.

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

Although the Henry Hub is a major trading center for natural gas in

the United States, and as noted ICE does sell price information for the

HIS contract, the Commission has found upon further evaluation that the

HIS contract is not ``routinely consulted by industry participants in

pricing cash market transactions'' and thus does not meet the

Commission's guidance for the material price reference criterion. In

this regard, the NYMEX Henry Hub natural gas futures contract is

routinely consulted by industry participants in pricing cash market

transactions at this location. Because both the HIS and the NYMEX

contracts basically price the same commodity at the same location and

time and the NYMEX futures contract has significantly higher trading

volume and open interest, it is not necessary for market participants

to independently refer to the HIS contract for pricing natural gas at

this location. Furthermore, the Commission notes that publication of

the HIS contract's prices is not indirect evidence of routine

dissemination. The HIS contract's prices are published with those of

numerous other contracts, which are of more interest to market

participants.\29\ The Commission cannot surmise whether or not traders

specifically purchase the ICE data packages for the HIS contract's

prices.

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

\29\ The Commission will rely on one of two sources of

evidence--direct or indirect--to determine a SPDC. Direct evidence

can be cash market transactions that are frequently based on or

quoted as a differential to the potential SPDC. Indirect evidence

includes contracts whose price series are routinely disseminated in

industry publications or are sold to market participants by the ECM.

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

i. Federal Register Comments

As noted above, ICE was the sole respondent which addressed the

question of whether the HIS contract is a SPDC. ICE stated in its

comment letter that the HIS contract does not meet the material price

reference criterion for SPDC determination and, further, that the

Commission's identification of the HIS contract as a potential SPDC is

based on a disputable assertion. In issuing its notice of intent to

determine whether the HIS contract is a SPDC, the CFTC cited a general

conclusion in its ECM study ``that certain market participants referred

to ICE as a price discovery market for certain natural gas contracts.''

ICE states that ``[b]asing a material price reference determination on

general statements made in a two year old study does not seem to meet

Congress' intent that the CFTC use its considerable expertise to study

the OTC markets.'' The Commission cited the ECM study's general finding

that some ICE natural gas contracts appear to be regarded as price

discovery markets as an indication that an investigation of certain ICE

contracts may be warranted; the ECM study was not intended to serve as

the sole basis for determining whether or not a particular contract

meets the material price reference criterion.

[[Page 23724]]

ii. Conclusion Regarding Material Price Reference

The Commission finds that the HIS contract does not meet the

material price reference criterion because it is not routinely

consulted by cash market participants when pricing transactions at the

Henry Hub (direct evidence is not supported). Moreover, the ECM sells

the HIS contract's price data along with those of other contracts,

which are of more interest to market participants (indirect evidence is

not supported).

2. Material Liquidity Criterion

As noted above, in its October 20, 2009, Federal Register notice,

the Commission identified material liquidity and material price

reference as potential criteria for SPDC determination of the HIS

contract. With respect to the material liquidity criterion, the

Commission noted that the total number of transactions executed on

ICE's electronic platform in the HIS contract was 550 in the second

quarter of 2009, resulting in a daily average of 8.6 trades. During the

same period, the HIS contract had a total trading volume of 79,330

contracts and an average daily trading volume of 1,239 contracts.

Moreover, open interest as of June 30, 2009, was 127,346 contracts,

which included trades executed on ICE's electronic trading platform, as

well as trades executed off of ICE's electronic trading platform and

then brought to ICE for clearing. In this regard, ICE does not

differentiate between open interest created by a transaction executed

on its trading platform and that created by a transaction executed off

its trading platform.\30\ In a subsequent filing dated November 13,

2009, ICE reported that total trading volume in the third quarter of

2009 was 178,649 contracts (or 2,707 contracts on a daily basis). In

term of number of transactions, 1,250 trades occurred in the third

quarter of 2009 (18.9 trades per day). As of September 30, 2009, open

interest in the HIS contract was 255,496 contracts, which included

trades executed on ICE's electronic trading platform, as well as trades

executed off of ICE's electronic trading platform and then brought to

ICE for clearing.

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

\30\ 74 FR 53720 (October 20, 2009).

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

The Commission notes that trading activity in the HIS contract

increased between the second and third quarters of 2009. However, the

number of trades per day remained relatively low and only slightly more

than the reporting level of five trades per day. Moreover, the

Commission notes that the number of contracts traded is comparable to

that experienced in a relatively small futures market, such as the

NYMEX Platinum and ICE U.S. Frozen Concentrated Orange Juice contracts.

Accordingly, the data at best provides weak evidence that the HIS

contract meets the material liquidity criterion.\31\

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

\31\ In establishing guidance to illustrate how it will evaluate

the various criteria, or combinations of criteria, when determining

whether a contract is a SPDC, the Commission made clear that

``material liquidity itself would not be sufficient to make a

determination that a contract is a [SPDC], * * * but combined with

other factors it can serve as a guidepost indicating which contracts

are functioning as [SPDCs].'' For the reasons discussed above, the

Commission has found that the HIS contract does not meet either the

price linkage or material price reference criterion. In light of

this finding and the Commission's Guidance cited above, there is no

need to evaluate further the material liquidity criteria since it

cannot be used alone as a basis for a SPDC determination.

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

i. Federal Register Comments

As noted above, ICE was the sole respondent which addressed the

question of whether the HIS contract is a SPDC. ICE stated in its

comment letter that the HIS contract does not meet the material

liquidity criterion for SPDC determination for a number of reasons.

First, ICE opined that the Commission ``seems to have adopted a

five trade-per-day test to determine whether a contract is materially

liquid. It is worth noting that ICE originally suggested that the CFTC

use a five trades-per-day threshold as the basis for an ECM to report

trade data to the CFTC.'' On the contrary, the Commission adopted a

five trades-per-day threshold as a reporting requirement to enable it

to ``independently be aware of ECM contracts that may develop into

SPDCs'' \32\ rather than solely relying upon an ECM on its own to

identify any such potential SPDCs to the Commission. While a contract

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

SPDC, the threshold is not a test for material liquidity. As noted

above, the Commission has not reached a decision regarding material

liquidity because, regardless of the relatively large quarterly trading

volume in the HIS contract, material liquidity alone is not sufficient

to support a SPDC determination.

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

\32\ 73 FR 75892 (December 12, 2008).

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

ICE also stated that ``the statistics [provided by ICE] have been

misinterpreted and misapplied.'' In particular, ICE stated that the

volume figures used in the Commission's analysis (cited above)

``include trades made in all 120 months of each contract'' as well as

in strips of contract months, and a ``more appropriate method of

determining liquidity is to examine the activity in a single traded

month or strip of a given contract.'' Furthermore, ICE noted that for

the HIS contract, ``98% of the trades and volume actually executed on

the ICE platform occurred in the single most liquid, usually prompt,

month of the contract.''

It is the Commission's opinion that liquidity, with regard to the

HIS contract, is typically a function of trading activity in particular

lead months and, given sufficient liquidity in such months, the HIS

contract itself would be considered liquid. ICE's analysis of its own

trade data confirms this to be the case for the HIS contract, and thus,

the Commission believes that it applied the statistical data cited

above in an appropriate manner for gauging material liquidity.

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

provided to the Commission in its quarterly filing and which are cited

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

electronic trading platform and should not be considered in the SPDC

determination process. Commission staff asked ICE to review the data it

sent in its quarterly filings. In response, ICE confirmed that the

volume data it provided and which the Commission cited in its October

20, 2009, Federal Register notice as well as the additional volume

information it cites above includes only transaction data executed on

ICE's electronic trading platform.\33\ The Commission acknowledges that

the open interest information it cites above includes transactions made

off the ICE platform. However, once open interest is created, there is

no way for ICE to differentiate between ``on-exchange'' versus ``off-

exchange'' created positions, and all such positions are fungible with

one another and may be offset in any way agreeable to the position

holder regardless of how the position was initially created.

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

\33\ Supplemental data supplied by ICE confirmed that block

trades in the third quarter of 2009 were in addition to the trades

that were conducted on the electronic platform; block trades

comprised 59.7 percent of all transactions in the HIS contract.

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

ii. Conclusion Regarding Material Liquidity

For the reasons discussed above, the Commission finds weak evidence

at best that the HIS contract meets the material liquidity criterion.

However, because the HIS contract does not meet the material price

reference criterion, it is not possible to declare the HIS contract a

SPDC since material liquidity cannot be used alone as a basis for a

SPDC determination.

[[Page 23725]]

3. Overall Conclusion

After considering the entire record in this matter, including the

comments received, the Commission has determined that the HIS contract

does not perform a significant price discovery function under the

criteria established in section 2(h)(7) of the CEA. Specifically, the

Commission has determined that the HIS contract does not meet the

material price reference criterion at this time, and there is weak

evidence at best that it meets the material liquidity criterion, which

is not sufficient by itself to support a SPDC determination.

Accordingly, the Commission will issue the attached Order declaring

that the HIS contract is not a SPDC.

Issuance of this Order indicates that the Commission does not at

this time regard ICE as a registered entity in connection with its HIS

contract.\34\ Accordingly, with respect to its HIS contract ICE is not

required to comply with the obligations, requirements and timetables

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

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

\34\ See 73 FR 75888, 75893 (Dec. 12, 2008).

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

c. The Henry Financial Swing (HHD) Contract and the SPDC Indicia

The ICE HHD contract is cash settled based on the spot index price

for natural gas at the Henry Hub on a specified day, as reported in the

``Daily Price Survey'' table of Platts' Gas Daily. The Platts index

price is based on fixed-price cash market transactions that are

voluntarily reported by traders. The size of the HHD contract is 2,500

mmBtu, and the unit of trading is any multiple of 2,500 mmBtu. The HHD

contract is listed for 65 consecutive calendar days.

Swing contracts are cash-settled natural gas contracts that specify

2,500 mmBtu of gas at a particular location on a specific day and is

settled using a price index published by a third-party price reporter.

The ICE HHD swing contract represents the spot price of natural gas at

the Henry Hub on a particular day. Swing contracts allow traders to

refine or lift hedges during the delivery month that were previously

established using the NYMEX Henry Hub natural gas futures contract.

Swing contracts are most useful after the NYMEX futures contract has

stopped trading, which is just prior to the beginning of the delivery

month. Physically-delivered and cash-settled transactions based on the

NYMEX Henry Hub price involves natural gas that is delivered over the

entire delivery month. If, for example, a firm's needs change and it no

longer needs all of the natural gas for which it hedged (say it now

requires only half of the originally hedged natural gas in the final

week of the delivery month), then the HHD contract can be used to

offset the part of the original hedge even though NYMEX futures

contract has ceased trading.

In its October 20, 2009, Federal Register notice, the Commission

identified material liquidity, arbitrage and material price reference

as the potential SPDC criteria applicable to the HHD contract. Each of

these criteria is discussed below.\35\

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

\35\ As noted above, the Commission did not find an indication

of price linkage in connection with this contract; accordingly, that

criterion is not discussed in reference to the HHD contract.

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

1. Material Price Reference Criterion

The Commission's October 20, 2009, Federal Register notice

identified material price reference as a potential basis for a SPDC

determination with respect to this contract. The Commission noted that

ICE sells its price data to market participants in a number of

different packages which vary in terms of the hubs covered, time

periods, and whether the data are daily only or historical. For

example, ICE offers ``Gulf Gas End of Day'' and ``OTC Gas End of Day''

\36\ with access to all price data or just current prices plus a

selected number of months (i.e., 12, 24, 36 or 48 months) of historical

data. These two packages include price data for the HHD contract.

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

\36\ The OTC Gas End of Day dataset includes daily settlement

prices for natural gas contracts listed for all points in North

America.

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

Although the Henry Hub is a major trading center for natural gas in

the United States and, as noted, ICE sells price information for the

HHD contract, the Commission has found upon further evaluation that the

HHD contract is not ``routinely consulted by industry participants in

pricing cash market transactions'' and thus does not meet the

Commission's guidance for the Material Price Reference criteria. In

this regard, the NYMEX Henry Hub futures contract is routinely

consulted by industry participants in pricing cash market transactions

at this location, because both the HHD and the NYMEX contracts

basically price the same commodity at the same location and the NYMEX

contract has significantly higher trading volume and open interest, it

is not necessary for market participants to independently refer to the

HHD contract for pricing natural gas at this location. Furthermore, the

Commission notes that publication of the HHD contract's prices is not

indirect evidence of routine dissemination. The HHD contract's prices

are published with those of numerous other contracts, which are of more

interest to market participants.\37\ The Commission cannot surmise

whether or not traders specifically purchase the ICE data packages for

the HHD contract's prices.

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

\37\ The Commission will rely on one of two sources of

evidence--direct or indirect--to determine a SPDC. Direct evidence

can be cash market transactions that are frequently based on or

quoted as a differential to the potential SPDC. Indirect evidence

includes contracts whose price series are routinely disseminated in

industry publications or are sold to market participants by the ECM.

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

i. Federal Register Comments

As noted above, ICE was the sole respondent which addressed the

question of whether the HHD contract is a SPDC. ICE stated in its

comment letter that the HHD contract does not meet the material price

reference criterion for SPDC determination. ICE stated that the

Commission appeared to base the case that the HHD contract is

potentially a SPDC on a disputable assertion. First, in issuing its

notice of intent to determine whether the HHD contract is a SPDC, the

CFTC cited a general conclusion in its ECM study ``that certain market

participants referred to ICE as a price discovery market for certain

natural gas contracts.'' ICE states that ``[b]asing a material price

reference determination on general statements made in a two year old

study does not seem to meet Congress' intent that the CFTC use its

considerable expertise to study the OTC markets.'' The Commission cited

the ECM study's general finding that some ICE natural gas contracts

appear to be regarded as price discovery markets as an indication that

an investigation of certain ICE contracts may be warranted; the ECM

study was not intended to serve as the sole basis for determining

whether or not a particular contract meets the material price reference

criterion.

ii. Conclusion Regarding Material Price Reference

The Commission finds that the HHD contract does not meet the

material price reference criterion because it is not routinely

consulted by cash market participants when pricing transactions at the

Henry Hub (direct evidence is not supported). Moreover, the ECM sells

the HHD contract's price data along with those of other contracts,

which are of more interest to market participants (indirect evidence is

not supported).

2. Arbitrage Criterion

In its October 20, 2009, Federal Register notice, the Commission

identified arbitrage as a potential basis

[[Page 23726]]

for a SPDC determination with respect to the HHD contract.

The Commission's Guidance (Appendix A to Part 36) notes that ``the

Commission will consider an arbitrage contract potentially to be a

[SPDC] * * * if, over the most recent quarter, greater than 95 percent

of the closing or settlement prices of the contract, which have been

calculated using transaction prices, fall within 2.5 percent of the

closing or settlement price of the contract or contracts which it could

be arbitraged.'' As noted above, the HHD contract is a daily contract

that reflects the spot price of natural gas at the Henry Hub and is

listed for 65 calendar days. In contrast, the NYMEX Henry Hub natural

gas futures contract is a pricing mechanism for natural gas in the

future. The NYMEX Henry Hub natural gas futures contract is available

for trading many months prior to the delivery period.

Arbitrage between the ICE HHD and NYMEX Henry Hub physically-

delivered natural gas futures contract potentially is possible.

However, the ability to arbitrage likely would be limited based on a

number of factors. First, the HHD contract prices the value of natural

gas on a single day while the NYMEX futures contract prices the value

of gas over a calendar month. Second, the futures contract and the HHD

contract are not always trading simultaneously. For example, the NYMEX

futures contract trades many years before delivery while the HHD

contract is listed out only 65 consecutive calendar days. Moreover, the

HHD contract trades into the delivery month while the NYMEX futures

contract stops trading three business days before the first business

day of the delivery month. Even during the times where the two

contracts are simultaneously traded, arbitrage between the two

contracts likely would involve multiple HHD contract to cover a period

of several days or weeks against a single NYMEX position, which would

be rather cumbersome and probably not practicable. Due to the

heterogeneous attributes of the two contracts, the test noted above to

determine the similarity of the two price series was not performed.

i. Federal Register Comments

As noted above, ICE was the sole respondent which addressed the

question of whether the HHD contract is a SPDC. ICE stated in its

comment letter that the HHD contract does not meet the arbitrage

criterion because it is a `` `decaying' product that expires daily

throughout its contract term. The HHD [contract] typically trades

`balance of month' therefore using multiple daily settlement prices. In

fact, the majority of HHD trades are intra-month after the * * * [NYMEX

Henry Hub natural gas futures contract] has already been priced.''

ii. Conclusion Regarding the Arbitrage Criterion

The HHD contract does not meet the arbitrage criterion because it

prices natural gas on a daily basis while the NYMEX futures contract

prices gas on a monthly basis. Moreover, the futures contract is used

to discover prices while the HHD contract is used to modify or lift

preexisting hedges.

3. Material Liquidity Criterion

As noted above, in its October 20, 2009, Federal Register notice,

the Commission identified material liquidity, arbitrage and material

price reference as potential criteria for SPDC determination of the HHD

contract. With respect to the material liquidity criterion, the

Commission noted that the total number of transactions executed on

ICE's electronic platform in the HHD contract was 5,246 in the second

quarter of 2009, resulting in a daily average of 82 trades. During the

same period, the HHD contract had a total trading volume of 242,968

contracts and an average daily trading volume of 3,796 contracts.

Moreover, open interest as of June 30, 2009, was 20,173 contracts,

which included trades executed on ICE's electronic trading platform, as

well as trades executed off of ICE's electronic trading platform and

then brought to ICE for clearing. In this regard, ICE does not

differentiate between open interest created by a transaction executed

on its trading platform and that created by a transaction executed off

its trading platform.\38\ In a subsequent filing dated November 13,

2009, ICE reported that total trading volume in the third quarter of

2009 was 407,037 contracts (or 6,167 contracts on a daily basis). In

term of number of transactions, 10,376 trades occurred in the third

quarter of 2009 (157.2 trades per day). As of September 30, 2009, open

interest in the HHD contract was 25,418 contracts, which included

trades executed on ICE's electronic trading platform, as well as trades

executed off of ICE's electronic trading platform and then brought to

ICE for clearing.

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

\38\ 74 FR 53720 (October 20, 2009).

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

The Commission notes that trading activity in the HHD contract

increased between the second and third quarters of 2009. Moreover, the

number of trades per day was quite large and was significantly greater

than the reporting level of five trades per day. Furthermore, the

number of contracts traded is comparable to the levels experienced in a

moderately active futures market, such as the ICE US Cotton No. 2

contract. Accordingly, the transaction data provide evidence that the

HHD contract may meet the material liquidity criterion.\39\

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

\39\ In establishing guidance to illustrate how it will evaluate

the various criteria, or combinations of criteria, when determining

whether a contract is a SPDC, the Commission made clear that

``material liquidity itself would not be sufficient to make a

determination that a contract is a [SPDC], * * * but combined with

other factors it can serve as a guidepost indicating which contracts

are functioning as [SPDCs].'' For the reasons discussed above, the

Commission has found that the HEN contract does not meet either the

price linkage or material price reference criterion. In light of

this finding and the Commission's Guidance cited above, there is no

need to evaluate further the material liquidity criteria since it

cannot be used alone as a basis for a SPDC determination.

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

i. Federal Register Comments

As noted above, ICE was the sole respondent which addressed the

question of whether the HHD contract is a SPDC. ICE stated in its

comment letter that the HHD contract does not meet the material

liquidity criterion for SPDC determination for a number of reasons.

First, ICE opined that the Commission ``seems to have adopted a

five trade-per-day test to determine whether a contract is materially

liquid. It is worth noting that ICE originally suggested that the CFTC

use a five trades-per-day threshold as the basis for an ECM to report

trade data to the CFTC.'' On the contrary, the Commission adopted a

five trades-per-day threshold as a reporting requirement to enable it

to ``independently be aware of ECM contracts that may develop into

SPDCs'' \40\ rather than solely relying upon an ECM on its own to

identify any such potential SPDCs to the Commission. While a contract

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

SPDC, the threshold is not a test for material liquidity. As noted

above, the Commission has not reached a decision regarding material

liquidity because, regardless of the relatively large number of trades

per day and the large quarterly trading volume in the HHD contract,

material liquidity alone is not sufficient to support a SPDC

determination.

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

\40\ 73 FR 75892 (December 12, 2008).

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

ICE also stated that ``the statistics [provided by ICE] have been

misinterpreted and misapplied.'' In particular, ICE stated that the

volume figures used in the Commission's analysis (cited above)

``include trades made in all 120 months of each contract'' as well as

in strips of contract

[[Page 23727]]

months, and a ``more appropriate method of determining liquidity is to

examine the activity in a single traded month or strip of a given

contract.'' Furthermore, ICE noted that for the HHD contract, ``78% of

the total volume was actually executed on the ICE platform in the

single most liquid, usually prompt, month of the contract.''

It is the Commission's opinion that liquidity, with regard to the

HHD contract, is typically a function of trading activity in particular

lead months and, given sufficient liquidity in such months, the HHD

contract itself would be considered liquid. ICE's analysis of its own

trade data confirms this to be the case for the HHD contract, and thus,

the Commission believes that it applied the statistical data cited

above in an appropriate manner for gauging material liquidity.

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

provided to the Commission in its quarterly filing and which are cited

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

electronic trading platform and should not be considered in the SPDC

determination process. Commission staff asked ICE to review the data it

sent in its quarterly filings and ICE confirmed that the volume data it

provided and which the Commission cited in its October 20, 2009,

Federal Register notice as well as the additional volume information it

cites above includes only transaction data executed on ICE's electronic

trading platform.\41\ The Commission acknowledges that the open

interest information it cites above includes transactions made off the

ICE platform. However, once open interest is created, there is no way

for ICE to differentiate between ``on-exchange'' versus ``off-

exchange'' created positions, and all such positions are fungible with

one another and may be offset in any way agreeable to the position

holder regardless of how the position was initially created.

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

\41\ Supplemental data supplied by ICE confirmed that block

trades in the third quarter of 2009 were in addition to the trades

that were conducted on the electronic platform; block trades

comprised 1.2 percent of all transactions in the HHD contract.

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

ii. Conclusion Regarding Material Liquidity

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

contract may meet the material liquidity criterion. However, because

the HHD contract does not meet the material price reference or the

arbitrage criterion, it is not possible to declare the HHD contract a

SPDC since material liquidity cannot be used alone as a basis for SPDC

determination.

4. Overall Conclusion

After considering the entire record in this matter, including the

comments received, the Commission has determined that the HHD contract

does not perform a significant price discovery function under the

criteria established in section 2(h)(7) of the CEA. Specifically, the

Commission has determined that the HHD contract does not meet the

material price reference and arbitrage criteria at this time nor is

material liquidity sufficient by itself to support a SPDC

determination. Accordingly, the Commission will issue the attached

Order declaring that the HHD contract is not a SPDC.

Issuance of this Order indicates that the Commission does not at

this time regard ICE as a registered entity in connection with its HHD

contract.\42\ Accordingly, with respect to its HHD contract ICE is not

required to comply with the obligations, requirements and timetables

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

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\42\ See 73 FR 75888, 75893 (Dec. 12, 2008).

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V. Related Matters

a. Paperwork Reduction Act

The Paperwork Reduction Act of 1995 (``PRA'') \43\ imposes certain

requirements on Federal agencies, including the Commission, in

connection with their conducting or sponsoring any collection of

information as defined by the PRA. Certain provisions of Commission

rule 36.3 impose new regulatory and reporting requirements on ECMs,

resulting in information collection requirements within the meaning of

the PRA. OMB previously has approved and assigned OMB control number

3038-0060 to this collection of information.

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\43\ 44 U.S.C. 3507(d).

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b. Cost-Benefit Analysis

Section 15(a) of the CEA \44\ requires the Commission to consider

the costs and benefits of its actions before issuing an order under the

Act. By its terms, section 15(a) does not require the Commission to

quantify the costs and benefits of an order or to determine whether the

benefits of the order outweigh its costs; rather, it requires that the

Commission ``consider'' the costs and benefits of its actions. Section

15(a) further specifies that the costs and benefits shall be evaluated

in light of five broad areas of market and public concern: (1)

Protection of market participants and the public; (2) efficiency,

competitiveness and financial integrity of futures markets; (3) price

discovery; (4) sound risk management practices; and (5) other public

interest considerations. The Commission may in its discretion give

greater weight to any one of the five enumerated areas and could in its

discretion determine that, notwithstanding its costs, a particular

order is necessary or appropriate to protect the public interest or to

effectuate any of the provisions or accomplish any of the purposes of

the Act.

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\44\ 7 U.S.C. 19(a).

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When a futures contract begins to serve a significant price

discovery function, that contract, and the ECM on which it is traded,

warrants increased oversight to deter and prevent price manipulation or

other disruptions to market integrity, both on the ECM itself and in

any related futures contracts trading on DCMs. An Order finding that a

particular contract is a SPDC triggers this increased oversight and

imposes obligations on the ECM calculated to accomplish this goal. The

increased oversight engendered by the issue of a SPDC Order increases

transparency and helps to ensure fair competition among ECMs and DCMs

trading similar products and competing for the same business. Moreover,

the ECM on which the SPDC is traded must assume, with respect to that

contract, all the responsibilities and obligations of a registered

entity under the CEA and Commission regulations. Additionally, the ECM

must comply with nine core principles established by section 2(h)(7) of

the Act--including the obligation to establish position limits and/or

accountability standards for the SPDC. Section 4(i) of the CEA

authorize the Commission to require reports for SPDCs listed on ECMs.

These increased responsibilities, along with the CFTC's increased

regulatory authority, subject the ECM's risk management practices to

the Commission's supervision and oversight and generally enhance the

financial integrity of the markets.

The Commission has concluded that ICE's HEN, HIS and HHD contracts

that are the subject of the attached Orders are not SPDCs; accordingly,

the Commission's Orders impose no additional costs and no additional

statutorily or regulatory mandated responsibilities on the ECM.

c. Regulatory Flexibility Act

The Regulatory Flexibility Act (``RFA'') \45\ requires that

agencies consider the impact of their rules on small businesses. The

requirements of CEA section 2(h)(7) and the Part 36 rules affect ECMs.

The Commission previously has determined that ECMs

[[Page 23728]]

are not small entities for purposes of the RFA.\46\ Accordingly, the

Chairman, on behalf of the Commission, hereby certifies pursuant to 5

U.S.C. 605(b) that these Orders, taken in connection with section

2(h)(7) of the Act and the Part 36 rules, will not have a significant

impact on a substantial number of small entities.

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\45\ 5 U.S.C. 601 et seq.

\46\ 66 FR 42256, 42268 (Aug. 10, 2001).

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VI. Orders

a. Order Relating to the ICE Henry Financial Basis Contract

After considering the complete record in this matter, including the

comment letters received in response to its request for comments, the

Commission has determined to issue the following:

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

the Act, hereby determines that the Henry Financial Basis contract,

traded on the IntercontinentalExchange, Inc., does not at this time

satisfy the material price reference and price linkage criteria for

significant price discovery contracts. Moreover, under Commission

Guidance material liquidity alone cannot support a significant price

discovery finding for the Henry Financial Basis contract. Consistent

with this determination, the IntercontinentalExchange, Inc., is not

considered a registered entity \47\ with respect to the Henry Financial

Basis contract and is not subject to the provisions of the Commodity

Exchange Act applicable to registered entities. Further, the

obligations, requirements and timetables prescribed in Commission rule

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

IntercontinentalExchange, Inc., are not applicable to the Henry

Financial Basis contract with the issuance of this Order.

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\47\ 7 U.S.C. 1a(29).

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This Order is based on the representations made to the Commission

by the IntercontinentalExchange, Inc., dated July 27, 2009, and

November 13, 2009, and other supporting material. Any material change

or omissions in the facts and circumstances pursuant to which this

order is granted might require the Commission to reconsider its current

determination that the Henry Financial Basis contract is not a

significant price discovery contract. Additionally, to the extent that

it continues to rely upon the exemption in Section 2(h)(3) of the Act,

the IntercontinentalExchange, Inc., must continue to comply with all of

the applicable requirements of Section 2(h)(3) and Commission

Regulation 36.3.

b. Order Relating to the ICE Henry Financial Index Contract

After considering the complete record in this matter, including the

comment letters received in response to its request for comments, the

Commission has determined to issue the following:

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

the Act, hereby determines that the Henry Financial Index contract,

traded on the IntercontinentalExchange, Inc., does not at this time

satisfy the material price reference criterion for significant price

discovery contracts. Moreover, under Commission Guidance material

liquidity alone cannot support a significant price discovery finding

for the Henry Financial Index contract. Consistent with this

determination, the IntercontinentalExchange, Inc., is not considered a

registered entity \48\ with respect to the Henry Financial Index

contract and is not subject to the provisions of the Commodity Exchange

Act applicable to registered entities. Further, the obligations,

requirements and timetables prescribed in Commission rule 36.3(c)(4)

governing core principle compliance by the IntercontinentalExchange,

Inc., are not applicable to the Henry Financial Index contract with the

issuance of this Order.

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\48\ 7 U.S.C. 1a(29).

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This Order is based on the representations made to the Commission

by the IntercontinentalExchange, Inc., dated July 27, 2009, and

November 13, 2009, and other supporting material. Any material change

or omissions in the facts and circumstances pursuant to which this

order is granted might require the Commission to reconsider its current

determination that the Henry Financial Index contract is not a

significant price discovery contract. Additionally, to the extent that

it continues to rely upon the exemption in Section 2(h)(3) of the Act,

the IntercontinentalExchange, Inc., must continue to comply with all of

the applicable requirements of Section 2(h)(3) and Commission

Regulation 36.3.

c. Order Relating to the ICE Henry Financial Swing Contract

After considering the complete record in this matter, including the

comment letters received in response to its request for comments, the

Commission has determined to issue the following:

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

the Act, hereby determines that the Henry Financial Swing contract,

traded on the IntercontinentalExchange, Inc., does not at this time

satisfy the material price reference and arbitrage criteria for

significant price discovery contracts. Moreover, under Commission

Guidance material liquidity alone cannot support a significant price

discovery finding for the Henry Financial Swing contract. Consistent

with this determination, the IntercontinentalExchange, Inc., is not

considered a registered entity \49\ with respect to the Henry Financial

Swing contract and is not subject to the provisions of the Commodity

Exchange Act applicable to registered entities. Further, the

obligations, requirements and timetables prescribed in Commission rule

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

IntercontinentalExchange, Inc., are not applicable to the Henry

Financial Swing contract with the issuance of this Order.

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

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This Order is based on the representations made to the Commission

by the IntercontinentalExchange, Inc., dated July 27, 2009, and

November 13, 2009, and other supporting material. Any material change

or omissions in the facts and circumstances pursuant to which this

order is granted might require the Commission to reconsider its current

determination that the Henry Financial Swing contract is not a

significant price discovery contract. Additionally, to the extent that

it continues to rely upon the exemption in Section 2(h)(3) of the Act,

the IntercontinentalExchange, Inc., must continue to comply with all of

the applicable requirements of Section 2(h)(3) and Commission

Regulation 36.3.

Issued in Washington, DC on April 28, 2010, by the Commission.

David A. Stawick,

Secretary of the Commission.

[FR Doc. 2010-10313 Filed 5-3-10; 8:45 am]

BILLING CODE P

Last Updated: May 4, 2010