Keynote Address of Commissioner Dan M. Berkovitz at ISDA’s 2019 Annual North America Conference

September 26, 2019

Turning to a New Decade

Good afternoon and thank you for the warm welcome.  I would like to thank Scott O’Malia and ISDA for inviting me to speak at this event.  I am pleased to be here at the one-year anniversary of my having joined the CFTC as a Commissioner.  It also is the ten-year anniversary of the G20 Summit in Pittsburgh where global leaders adopted many of the financial regulatory principles that still guide our work today.  This is a good time to take stock of how far the Commission and the global derivatives industry have come in recent years, and to highlight what I see as an opportunity to facilitate more effective and efficient compliance.

One housekeeping item: the views I express today are my own.  They do not represent the views of the Commission, its staff, or my fellow Commissioners.

Ten years ago, the G20 leaders met in Pittsburgh and agreed on reforms to the global financial system.[1]  Less than a year later, the United States adopted the Dodd-Frank Act.[2]  Over the past decade, market participants, the CFTC, and indeed regulators throughout the world have worked together to reduce systemic risk, increase transparency, and foster market integrity.  Our efforts, including significant investments by many of the firms represented in this room, have made the financial system safer and more robust.

Regulators and market participants have accomplished a great deal, and we have much to be proud of.  However, we can improve on our accomplishments.  Today, I will take stock of the progress we have made, and put forth a new proposal.  Specifically, today I am calling upon us at the CFTC to work with fintech developers and market participants to facilitate more effective and efficient compliance using fintech.

The Success of Financial Market Reform

In 2009, G20 leaders at the Pittsburgh Summit called for raising bank capital standards, requiring the clearing and exchange trading of standardized derivatives, and fostering fair and transparent competition in financial markets.[3]  Congress responded promptly by enacting the Dodd-Frank Act.  The CFTC took the baton and over the next several years worked energetically to fulfill Congress’ mandate to decrease risk and increase transparency.  Swap dealers are now regulated, more liquid swaps are required to be traded and cleared, and all swaps must be reported to the public and regulators.  I was privileged to serve as CFTC general counsel for much of the agency’s Dodd-Frank rule-writing efforts, and I remain proud of our work during those years.

It was then the financial industry’s turn to develop the compliance systems necessary to meet the Commission’s requirements.  And the industry met that significant challenge.  Over 100 swap dealers have now registered and 98% of all swap transactions involve at least one registered dealer.[4]  More than 20 swap execution facilities (“SEFs”) are registered.[5]  ISDA data shows that about 60% of interest rate swaps are traded on a SEF, and almost 90 percent are cleared.  In CDS, 97% of the main high-yield index CDS and 98% of the main investment grade index CDS are traded on a SEF.  Clearing rates are even higher.[6]  Our markets are more transparent and safer than ever before.

These achievements are a testament to the people in this room and throughout the derivatives industry.  Your engagement with regulators, human and financial investments, and acceptance of a common undertaking have improved our markets for the common good.

After leaving the CFTC in 2013, I spent over four years in private legal practice.  I came to appreciate market participants’ efforts to comply with regulatory requirements.  I saw first-hand the work required for market participants to understand a new legal regime, build technology, train staff, and revamp core business strategies to comply with new regulations.

Swap dealers have borne a large share of the costs associated with implementing CFTC regulations arising from the Dodd-Frank Act.  End users also have incurred expenses, both directly and as costs passed through to them by dealers.

Dodd-Frank has promoted increased competition among existing swap market participants through mandatory trading and greater transparency.  However, it also may have had the unintended consequence of discouraging some potential competitors.  The increasing concentration of clearing services in a few large banks is one example.

It would be inaccurate, however, to attribute the issue of increasing concentration in the financial industry solely—or even primarily—to Dodd-Frank.  Increasing concentration is a trend across many sectors of our economy and other factors affecting the financial system have been at play as well.

Nonetheless, as regulators, we should acknowledge concerns over regulatory costs.  Rolling back regulations, however, is not an appropriate or acceptable response.  The human and financial toll of the 2008 financial crisis was orders of magnitude greater than the costs associated with the Dodd-Frank Act and subsequent Commission regulations.  Our goal, therefore, must be to find ways to improve upon regulation and at the same time make them more efficient and cost-effective.  I believe that the intelligent application of technology to regulation and compliance is one way to achieve this result.

More Effective and Efficient Compliance through Fin Tech

In reviewing the agenda for today’s conference, I noted that two sessions this afternoon will address financial infrastructure technology for derivatives.  It is my belief that fintech solutions that digitize and automate derivatives transactions and other swap related activities[7] will lead to compliance that is both more complete and more cost-effective.  The CFTC can and should play a significant role in helping to make that happen where appropriate.

The CFTC has made a major effort in recent years to engage the marketplace on technology innovation.  However, much of our energy has been devoted to cryptocurrencies.  While perhaps not as exciting as crypto, improving infrastructure technology is critical to the CFTC’s core mission of facilitating vibrant, safe, and competitive derivatives markets.  As evidenced by ISDA’s own initiatives, infrastructure technology can also help market participants to better meet their commercial goals.  Accordingly, it is my strong belief that the CFTC should dedicate a significant portion[8] of its fintech initiative to engaging more actively with market participants and infrastructure technology developers to facilitate more effective and efficient compliance with our regulations.  Where feasible, compliance should be integrated into digitized documentation and automated transaction activities and become a seamless part of transacting in swaps.

Most infrastructure technology solutions tend to standardize and automate contract terms, documentation, reporting, record keeping, and other aspects of transactions.  If done well, these solutions tend to reduce the likelihood of human error and other validity issues – a very common cause of compliance violations in the swap space.  Technologies originally designed to reduce costs can have the added benefit of improving compliance.  With a more explicit focus on integrating compliance features into the transaction infrastructure, better compliance rates will be achieved and the public benefits of regulation are more likely to be realized.

What am I talking about more specifically?  Reporting swap transactions is an obvious example.  Automated systems can take swap trading data from a new transaction on a dealer’s system and then report it directly to an SDR.  By standardizing reporting fields and providing a common schema for reporting, this process can be made more efficient for the reporting parties, SDRs, and for regulatory oversight and risk monitoring.  The CFTC has been in the process of establishing standard reporting fields for swap transactions and I encourage that effort.

Numerous other regulatory requirements can be fully or partially automated and standardized across the industry.  Focusing on over-the-counter swaps in particular, pre- and post-trade procedures in electronic documentation, on a distributed ledger, or embedded in smart contract code, could automate numerous transaction level and risk management regulatory requirements.  The swap daily trading records and records retention requirements of CFTC rules 23.202 and 23.203[9] could be automated and integrated into the dealer documentation infrastructure using digital documentation.  The Part 23.500s and 600s regulations address business conduct and risk management requirements.  Requirements such as counterparty verification, material information disclosures, swap confirmation, portfolio reconciliation, and trading relationship documentation, could be more efficiently and completely addressed through standardized and digitized documentation and swap event management systems.

To an extent, this effort has already started.  For example, ISDA Create – IM was developed to allow automation of margin requirement documentation and compliance.  I understand ISDA plans to extend its ISDA Create platform beyond initial margin documentation and may, for example, be digitizing the ISDA Master Agreement Schedule.[10]

An important aspect of fully realizing this vision will be standardizing documentation and transaction event protocols in ways that incorporate compliance requirements.  To comply with the new regulations, many dealers and clearinghouses initially used their own customized systems and unique representations for life cycle events.[11]  While partially automating compliance to widely varying degrees, these individualized systems result in industry-wide inefficiencies because people still need to negotiate too many terms and firms continuously need to reconcile their trades.[12]

The current approach also has been prone to human error.  These errors can lead to compliance failures and enforcement actions.  The enforcement process, however, is a time-consuming, expensive, and blunt tool for attaining compliance.

The benefits of automation are best realized when repetitive processes and documentation are standardized.  Consistency will reduce errors and human input, which will improve the level of compliance over millions of swap trades.  While much of the substantial cost savings from standardization will relate to transaction costs generally,[13] savings from automated compliance can also be expected.

How can the CFTC help realize this Vision?

I strongly believe the CFTC should expand its fintech initiative to more comprehensively facilitate incorporation of compliance requirements in infrastructure technology innovation.  In this expanded initiative, the CTFC would work with market participants and fintech providers to facilitate more effective and efficient fintech solutions for complying with our regulations.  To the extent feasible, the CFTC should also be more mindful of the role of technology in compliance, and take further steps to integrate technology considerations into its approach to regulation.

The CFTC should, through its LabCFTC and operating divisions, expand its efforts to engage with fintech developers seeking our input on whether proposed new technologies are consistent with the CFTC’s compliance requirements.  CFTC input could range from the identification of regulatory issues, to working with developers to facilitate the early resolution of any such issues.

In addition, the Commission and CFTC staff should be more mindful of the technology that is often necessary to comply with Commission rules and the benefits of using technology to improve compliance.  In this way, we can assist our registrants to find better and more efficient mechanisms for achieving compliance.

In some areas, the CFTC already excels in the use of technology for regulatory purposes.  We take in and process vast amounts of data, such as large trader and trade capture reporting, swap data, and Volcker metrics data.  Our risk analysts and market surveillance staff work daily with clearing organizations and exchanges to ingest and analyze data to monitor markets.

Engagement with fintech developers and market participants using technology in their everyday activities should ultimately become a routine part of the CFTC’s work, not just part of a fintech initiative.  The CFTC’s entire regulatory program should be willing and able to engage with market participants and technology developers early and throughout the technology development process.  If we can do this successfully, the CFTC will have helped the industry achieve more effective and efficient compliance.  This will be a win-win for the CFTC and the financial industry.

Remarks of DSIO Director Joshua B. Sterling Before the District of Columbia Bar Association

New Day Rising:  Focusing the Division of Swap Dealer and Intermediary Oversight to Embrace Today’s Challenges and Tomorrow’s Opportunities

September 25, 2019

Good afternoon.  I wish to thank the D.C. Bar for inviting me to participate in this important conversation, and for the hospitality extended by our hosts at Reed Smith today.  Bar associations serve a pivotal role in overseeing the practice of law in its many forms.  In that way, they are a fundamental part of civil society, helping to keep the United States of America a nation of free people treated equally under laws that are rooted in our founding principles.  We will spend some time today talking about the importance of principles and their role in carrying out another important task – the proper administration of law by the CFTC and its staff.

* * * * *

It was in the closing days of the 1992 presidential campaign that the great American patriot, Admiral James Bond Stockdale, uttered his now famous lines,  “Who am I?  Why am I here?” on the debate stage.

Largely regarded as gaffe since, those questions merit a moment of reflection today.  Was the good Admiral just joking about a seeming lack of vice presidential timber?  Or was he driving at a more fundamental question about the nature of public service?  Suffice to say, the good Admiral’s opening words made quite an impression.  They have become all the more meaningful since the day that Chairman Tarbert appointed me Director of DSIO.

In this new role, I have to ask — who are we, and what are we doing here?  None of us who serve the United States of America do it to mark time.  Indeed, as the Chairman has said, the time for action is now.  So let us talk today, in plain terms, about what I hope to accomplish during my tenure.

But first, as if starting with the Stockdale quote didn’t make it clear enough, these remarks reflect solely my personal views and not those of the Commission or its staff.

Guiding Principles for My Tenure.

An institution is known by the values that sustain it and make it an enduring force for good in the world.  Those values are discernible in many ways, notably from the actions of an institution’s members that take their cue from those foundational ideas.

Let me paraphrase two of those values, which also adorn the halls of one of our country’s great universities:

• Laws without values are hollow.
• The Law is unknown to those that do not understand its reasons; and the certainty of the law is the safety of all.

These are among the best statements I’ve found that explain, in this role, who we are and what we will be doing here — vested as we are with a public trust, in furtherance of the public good.  What else would we do?  How else would we act?

My staff and I are guided by these values.  So you should expect that our actions will be purposeful (rather than hollow) and clear (rather than ambiguous) in furthering the principles that underlie the Commodity Exchange Act and the Commission’s regulations.  You should also expect that our actions will provide market participants certainty.  In this context, “certainty” means that the reasons for what we do will be clear, so that all similarly-situated market participants will be able to understand better our actions and to rely more firmly on our pronouncements.  I refer to you the recent Joint Statement by Director Hutchison and me concerning the treatment of separate accounts of the same beneficial owner as an example the purposeful and certain way in which we will act.[1]

Applying Our Principles to Today’s Challenges.      

In articulating our plan to move forward under these principles, we must pause and understand the current state of play.  In that spirit, let’s talk briefly about the law as it exists today, particularly Title VII of Dodd-Frank:

• What are its purposes?
• Have those purposes been carried out effectively in the rules and guidance that have followed from it?
• Have we given enough thought to how the tools that the law has provided to the Commission can be deployed with an eye toward the future?

Let’s take each of these in turn:

First: The Purposes.  The principal goals of Dodd-Frank in our space were as follows:

• Create transparency in the swaps markets through reporting, clearing, and on-facility trading.
• Subject significant market participants to registration, oversight, capital, and conduct requirements.
• Take more meaningful measures of swaps-related risks and exposures, again principally through reporting.

Second: The Effectiveness of Implementation.  It’s no great insight to say that the work of the CFTC to implement Dodd-Frank is nearly done, and that market participants have largely adapted their conduct to conform with the new requirements.  But we should not consider “done” as a synonym for “complete.”  Nor does the adaptation of conduct to rules, by itself, say anything about the efficacy of the rules being followed in that way.  After all, “hard but doable” is not the same thing as “effective and useful” in every case.  As with nearly all things, there are areas for improvement born from collective experience.  I will reserve on specifics for now, and simply ask that you let us know soon what you see as clear priorities for improvement that will benefit all market participants.

The same goes for other developments during the rollout of Dodd-Frank, notably the expansion of the Commission’s Part 4 regime in 2012 to a much broader host of fund sponsors, asset managers, and investment advisors.  Sure, we know them as CPOs and CTAs, but those terms encapsulate a large swath of money management and advisory shops that have been substantially regulated for decades by the SEC and other agencies worldwide.  There’s a reform proposal outstanding, but I think we need to take a deeper look at what Part 4 means to achieve and how we can get to a better result that yields more effective outcomes.

In considering potential reforms, the theme of “harmonization” often arises.  I think harmonization is a fine thing, if two conditions are met – first, the thing with which you are harmonizing is better than what you’ve got right now; and second, you’re sure that you can’t do any better than pull up even.  I suspect there is much we can do to simplify our rules and promote good outcomes that will not depend exclusively on harmonization.

Take, for example, our CPO reports on Form CPO-PQR.  We could scrap the whole thing and try to rely on Form PF instead, which the SEC administers.  Or maybe we try to make those forms look about the same, share defined terms, and so forth.  Instead, I’d rather look at whether we can have an approach to CPO oversight that uses market data and yields better outcomes than does either form.  In that spirit, the Division is considering whether to provide targeted relief from certain Form CPO-PQR reporting requirements while we assess potential alternative approaches for their merits.

Third: Training an Eye Toward the Future.  We all know where the law stands today, and we remain mindful still of the events that precipitated it.  Accepting that the law must not merely support a better audit trail if the last crisis replicates itself, our task must be to consider how the tools at our disposal can be refined and used to understand better where risks lie and how they may be transmitted, amplified, converted, hedged, priced, tested, and monitored.

We must review, examine, and inspect the current ecosystem.  Let’s consider what we have learned and, after due reflection, make concrete plans that we can reasonably expect to enhance our oversight of such a dynamic group of market participants.  These steps are necessary because of the deep connections between derivatives markets and the broader economy.  They are also essential to maintaining the remarkable comparative advantage that our strong financial system affords the United States.

In this spirt, we will be taking a very focused look at selected key issues from a programmatic perspective.  This programmatic approach will give greater shape and dimension to how DSIO operates.  It is intended to persist beyond our approach to any one issue and the tenure of any one Director.  We mean to enhance the Division’s ability to perpetuate its core values, leaving it an even better place than we found it.

The Next Step for DSIO: Our Five Building Blocks Program.

We’ve dubbed our programmatic approach the Five Building Blocks.  Each building block reflects a core piece of a complete regulatory program that will further our values at the Agency – notably, to strengthen the resilience and integrity of our markets, to enhance the regulatory experience for market participants, and to be tough on those who break our rules.  They embody the core concept that a regulator should gather facts and assess them, in order to provide guidance, to ensure that the laws are being followed, and to revise rules or adopt new ones based on an informed understanding of the relevant issues.

The Five Building Blocks are as follows:

The Examination Program.  Working closely with NFA, we are designing a program of targeted thematic reviews of select large swap dealers and CPOs that will commence in the first quarter of 2020.  These reviews will be carried out directly by Division staff.

Like FCMs, swap dealers and CPOs hold or transact in counterparty, customer, and client funds.  This makes them important actors in our markets.  They provide liquidity and, in doing so, transmit, amplify, convert, hedge, price, test, and monitor certain key risks.  As such, we need to take a thematic approach to understanding better how the big shops approach key compliance issues like risk management and risk reporting.  Our thematic reviews will focus only on selected key issues and will not duplicate or replace NFA’s ongoing efforts.  We anticipate reporting out to the market our general observations later next year, after our first round of reviews is complete.

Think of this as “step one” in our improving effort to take facts and produce better results.

The Reporting Framework.  We are actively assessing whether existing data inputs to the Agency can help DSIO do its part to ensure that we have a more holistic and dynamic view of our registrants’ market exposures, counterparty relationships, and risks.  We are assessing the relative value of historical data versus daily data feeds.  It is a fair question whether current data, if accurate, complete and sourced from fewer locations will better serve our oversight function than does more static, aged data that comes from several sources, likely based on different assumptions.  I am mindful of Commissioner Stump’s ongoing efforts to review these matters, which I fully support.

Think of this as “step two” in the Division using facts to produce better results.

The Guidance Program.  As we strengthen our efforts to gather facts through registrant reviews and better data analysis, we will be better able to convey our expectations about compliance requirements and emerging issues to market participants.  We will be formalizing our communications program for registrants, to provide more general guidance on a more frequent basis than in the past.

In turn, we expect to reduce our use of letter relief for specific parties.  As a matter of good government and regulatory economy, we will instead focus across registrant categories to provide guidance applicable to all, rather than taking on issues one by one for individual firms.  This will enable the Division to do a better job of interpreting the law in a way that applies to everyone, which will likely require the private bar to assume a greater role in solving client problems.  Given today’s audience, I expect that you get my drift.

Think of this as “step three” in our improving effort to take facts and produce better results.

The Relationship to Enforcement.  We are strengthening our relationship with the Division of Enforcement with a more focused approach to referrals, so that our coordination efforts become more programmatic.  If our reviews of the facts indicate a strong possibility of non-compliance by a registrant, we will make a clear presentation to our colleagues in the Division of Enforcement about why they should consider the matter.  In doing so, we will assess not only the issue in isolation but its potential impact on our efforts to strengthen industry ‑ wide compliance through our other programs.

We will also want to ensure that registrants continue to report all the material facts to the Commission as required by law.  Where the Division of Enforcement finds fault on this front, we will make sure any lessons learned about underlying failures and root causes are communicated broadly, by way of general guidance, to all registrants.

To be clear, referrals are not a new thing – mine is an “oversight” Division.  I only mean that we are going to be more focused and programmatic in what we do if we see potential red flags in the ordinary course of our reviews.  After all, Enforcement should reinforce our oversight function by holding registrants accountable, and we should support Enforcement by flagging potential problems that we encounter.  I am very pleased that Director McDonald and I will be collaborating closely to ensure that there is greater ongoing coordination between our Divisions.

Think of this as “step four” in the Division using facts to produce better results.

The Rulemaking Function.  Last, we get to “step five” of how we will use facts to produce better results.  We intend to use the outputs of our Examination Program, Reporting Program, Enforcement Referral Program, and Guidance Program to improve our rules.  That is, what we accomplish in our other high-functioning programs will tell us whether rule amendments should be proposed – whether because an existing rule isn’t working as intended, because a rule hasn’t kept up with the times, or for other practical reasons.

Of course, we must write rules when the law tells us to do so.  So we are also improving our rulemaking process to ensure that we take a linear path to get to the end result.  That will require earlier engagement with the public, which we fully invite.

If we work together in this endeavor, we will be judged to have done some good, at the end of it all.  If not, then we will have only marked time and will be found – perhaps someday soon – to have left too much undone, when we had so much at our disposal, at this point in history.

* * * * *

Thank you for your time.  You now join the great company of my wife in having the courtesy to suffer politely through these remarks.

In closing, I invite you to come talk to us.  Tell us what you see and what you think — from the merely prosaic to what keeps you up at night.  Every data point and anecdote you offer will help.  Leave nothing out.  And, please, invite us to come speak with you.  We need to be out in the world if we are to have any chance to do our best work.

My world-class staff and I look forward to working with you.

Thank you all again.

Keynote Address of Director of Enforcement James M. McDonald at the Practising Law Institute's White Collar Crime 2019 Program

September 25, 2019

The mission of the CFTC’s Division of Enforcement is to protect the public and preserve market integrity by detecting, investigating, and prosecuting violations of the Commodity Exchange Act (the Act or CEA) and Commission Regulations.  This mission fits within the Agency’s broader goal of fostering open, transparent, competitive, and financially sound commodities and derivatives markets. 

Vigorous enforcement is essential to fulfilling the CFTC’s broader goals, as Chairman Tarbert has made clear in stating that the CFTC will be tough on those who break the law.  Well-functioning commodities and derivatives markets should work for all Americans.  These markets ensure the stability in prices that customers have come to expect, and the economic growth Americans enjoy.  For the economy to grow, businesses and individuals need to have confidence they are competing on a level playing field.  Unlawful activity puts honest businesses at a disadvantage.  It impedes free and fair competition.  It dampens economic growth.  And it undermines our democratic values, public accountability, and the rule of law.  That’s why we are committed to ensuring all companies and individuals in our markets play by the rules.

We’ve worked hard to carry through on this commitment.  That’s illustrated by the substance and impact of the cases we’ve filed.[1]  But at the same time we’ve pursued these substantive cases, we’ve developed a number of initiatives designed to advance our enforcement efforts programmatically, across all substantive areas.  These initiatives include enhancing our ability to detect misconduct using data analytics, building out our cooperation and self-reporting program, promoting individual accountability, increasing the transparency of our processes and actions, and fostering true cultures of compliance among our market participants. 

Today, I want to talk about one initiative in particular where we have made great strides:  Our parallel enforcement program.

Before I go on, please keep in mind that these comments are my own, and do not necessarily reflect the views of the CFTC, its Commissioners, or its Staff.

Parallel Enforcement with the Department of Justice

Our parallel enforcement program starts with the premise that we can most effectively protect our markets when working together with our colleagues in the enforcement and regulatory community, both criminal and civil, domestic and international. 

In particular, we believe a robust combination of criminal prosecution and regulatory enforcement is critical to deterring violators, punishing misconduct, preserving market integrity, and protecting market participants.  This is not a new idea.  Indeed, it is now more than two decades ago that the Department of Justice instructed its attorneys to develop “greater cooperation, coordination and teamwork between the criminal and civil prosecutors who are often conducting parallel investigations of the same offenders and matters.”[2]  More recently, the Attorney General explained that “[b]y working [in parallel with civil regulatory agencies], the Department can better protect the government’s interests . . . and secure the full range of the government’s remedies.”[3]  We agree.

We at the CFTC have the prerequisite authority to develop a robust parallel enforcement program:  Under the Act, violations of the federal commodities laws can constitute criminal violations if done willfully.[4]

We also have the right motivation.  Our ultimate goal is to deter wrongdoers from committing misconduct in the first place.  And in pursuing this goal, we know there is no greater deterrent than the prospect of criminal prosecution—and the reality of time in jail.  When those criminal penalties are added to the broader range of other remedies the CFTC can impose, the result is a robust combination of sanctions, which can be tailored to the violation at issue to achieve optimal deterrence.  In addition, our criminal law enforcement partners can bring tools to bear on a particular case that fall outside the CFTC’s authority.  It is entirely proper for us to use the fruits of those efforts, so long as we conduct our investigations—as we do—independently and in parallel with the criminal authorities.[5] 

The corresponding benefits to our criminal law enforcement partners are equally significant.  As the regulators of these markets, we bring specialized expertise to any parallel investigation—especially in markets that are particularly complex or for activity that requires a deep understanding of market data.  We also have a unique view into the commodities and derivatives markets, which allows us to identify misconduct that others may not be able to see.  Parallel enforcement matters often start with a CFTC surveillance analyst or investigator spotting suspicious activity in the market, and then the enforcement attorney putting the initial case together.  In other instances, these matters start with a CFTC whistleblower offering a tip that initiates the investigation, or with one of our policy divisions identifying anomalous activity and referring the matter to enforcement.  All of this means that much, and perhaps most, of the misconduct at issue in these parallel actions could not be addressed without the CFTC’s involvement. 

In addition, the CFTC has tools that our other enforcement partners do not.  For example, the CFTC has authority to seek an emergency asset freeze through a statutory restraining order, which, in some cases, is essential to ensure existing assets are preserved, and that victims receive some measure of recompense.[6]  The CFTC also has other remedies—like trading and registration bans—that, in the appropriate cases, can enhance the specific deterrent effect of an enforcement action and reduce the prospect of recidivism.

By any measure, we believe, our parallel enforcement initiative has been a success.  For starters, this program has yielded significant actions.  Indeed, under this program, we have filed more cases in parallel with the Department of Justice than ever before.[7]  This is a trend that I expect to continue, as Chairman Tarbert has made enhancing these parallel efforts a priority going forward.

These actions have covered a wide range of misconduct—from retail fraud, to digital assets, to market manipulation. Consider just a few examples. 

In the retail fraud area, we filed charges against an array foreign currency trading firms and their principles, in parallel with a DOJ action, alleging a $75 million fraud involving hundreds of victims.[8]  As part of the CFTC’s action, the Court froze assets and appointed a temporary receiver to take control of the corporate defendants’ assets, as well as the assets of the individual defendants.  We also continued our pursuit, in parallel with DOJ, of fraud among managed funds,[9] and in markets like binary options.[10]

We’ve seen similar positive results in the digital asset space.  This includes a fraud action in which the defendant took advantage of customers’ interest in trading Bitcoin and Litecoin in his scheme to defraud them.  The CFTC action resulted in a precedent-setting victory in the Eastern District of New York after the CFTC team prevailed in a bench trial.[11]  The Department of Justice also charged the defendant with fraud, which later resulted in a guilty plea.[12]  In another action, the CFTC filed charges against a trading platform and its CEO for unlawfully offering products margined in Bitcoin without the required anti-money laundering protections in place.  We brought the civil action, and DOJ and the FBI secured an order seizing the platform’s website and shutting it down.[13]  

The same trend shows up in cases involving market manipulation and spoofing.  Again, to highlight a couple of recent examples:  In CFTC v. Merrill Lynch Commodities Inc., the CFTC brought charges including manipulation and spoofing in the precious metals futures markets.  In the action, the Commission imposed approximately $25 million in combined penalty, restitution, and disgorgement.  The Department of Justice resolved criminal charges against Merrill Lynch in parallel with the CFTC’s action.[14]

And just last week, the CFTC charged traders at a major U.S. bank with manipulative conduct and spoofing, also in the precious metals futures markets.[15]  The Department of Justice announced its own charges the same day.  Assistant Attorney General Brian Benczkowski described the charges as “the government’s most significant step to date in [its] ongoing efforts to identify and prosecute fraud and manipulation in our Nation’s commodities markets.”[16]

As this sampling of cases shows, working in parallel with our criminal counterparts can enhance our ability to hold both individual and corporate wrongdoers accountable, and to increase the deterrent effect of our actions.

But these cases are important for another reason.  They show how some of the other initiatives we’ve developed operate in conjunction with our parallel enforcement program. The Merrill Lynch case, for example, involved our use of sophisticated data analytics to detect suspicious activity in our markets.  This data project has been a multi-year effort, through which we have developed an ability to identify, in the trading data, forms of misconduct in ways that complement our understanding of the activity through our other enforcement tools.  In certain instances, it has allowed us to identify wrongful conduct that may have otherwise gone undetected.  We have invested significant resources in our data analytics capabilities, in an effort to maximize our ability to detect, and ultimately deter, misconduct across a range of trading activities.  We are now starting to see the results, and the Merrill Lynch case stands as one of them.

These parallel cases also show our corporate and individual cooperation program in action.  When we announced our cooperation program, we explained that we expected it to serve as a powerful tool to allow us to pursue additional avenues of accountability.  This initiative also has borne fruit, both in our parallel enforcement and standalone matters.  With respect to individuals, this program has helped us work our way up the chain, to hold accountable the highest-level culpable individuals.  With respect to companies, this program has helped us identify the compliance or supervision failures that created the opening for the misconduct to take place.  This is an area, too, that I expect to see our enforcement program continue to develop going forward.

Parallel Enforcement with Civil Regulators, Self-Regulatory Organizations, and the States

I’ve now talked at some length about our parallel enforcement program in the context of our matters with DOJ.  But we have also seen positive results from our cooperative efforts with our fellow civil regulators, the self-regulatory organizations, and the States.  This type of coordination, we believe, is just as significant.  That is particularly true as our markets evolve and become more interconnected.  Bad actors do not conform their misconduct to the technical boundaries of different regulatory jurisdictions.  Nor do they pause as they cross international borders.  So the enforcement community must work together to ensure the entire scope of misconduct is identified, investigated, and prosecuted.

Take our parallel actions with the SEC.  Just a few weeks ago, the CFTC and SEC filed cases charging a clearing organization, registered with both agencies, for failing to establish and enforce policies and procedures involving financial risk management, operational requirements, and information-systems security.  This filing constituted the first action for the CFTC charging violations of Core Principles applicable to Derivatives Clearing Organizations, and the first for the SEC charging violations of that agency’s clearing standards.[17] 

The CFTC and SEC also recently filed parallel charges against a portfolio manager for mismarking swaps that spanned across the respective agencies’ jurisdictions.[18]  And the two agencies continue to successfully litigate in parallel a series of cases filed in Federal District Court in Florida in which we allege a fraud in the binary options markets that harmed tens of thousands of victims and yielded the defendants tens of millions dollars in ill-gotten gains.[19] 

The story is the same with respect to the self-regulatory organizations.  Just in the last few months, we’ve filed a number of cases in parallel with the CME, in matters involving spoofing, unauthorized trading, and fraud.[20]

So too with the States.  In fact, we are currently litigating one case, alleging a $200 million precious metals fraud, as co-plaintiffs with the State of Utah.[21]  The CEA includes a provision that allows States to join a CFTC action as co-plaintiffs and litigate their state law claims alongside us in federal court.[22]  That’s the process we used in the Utah case, and we will look to do it more going forward—particularly where a fraud spans across several states, and multiple state actions could be consolidated in a single federal case.

Standalone CFTC Actions Will Continue To Serve as the Core of the Enforcement Program

Although my focus today has been on the development of our parallel enforcement program, standalone CFTC enforcement actions constitute the vast majority of our cases, and I don’t expect that to change going forward.  The CFTC’s enforcement efforts must always be guided by the CFTC’s mission, and the CFTC’s mission alone.  There are good reasons why we will bring cases that criminal authorities elect not to bring, or cannot bring.  For one thing, we are charged with broadly regulating our markets for a wide range of conduct.  As part of our mission, we bring enforcement actions that do not involve criminal conduct.  These types of cases might involve regulatory failures, compliance problems, or issues where several people fall short, but where no single person acted intentionally.  Even for intentional wrongdoing—the sort that is susceptible to criminal prosecution—our enforcement authority is broader than the authority of our criminal enforcement counterparts.  And finally, we must always exercise our own independent judgment regarding whether conduct violates the Act, and we must be vigilant in carrying out our enforcement obligations.     

The upshot is that we will, and should, continue to bring cases that the criminal authorities may elect not to bring, or may not have the statutory authority to bring.  But for all the reasons I’ve discussed this morning, I expect our parallel enforcement program to play an increasingly significant part in our enforcement program as well. 

Opening Statement of Chairman Heath P. Tarbert Before the Global Markets Advisory Committee Meeting

September 24, 2019

Good morning, and thank you all for being here.  I would especially like to thank Commissioner Stump and her staff for convening this meeting of the Global Markets Advisory Committee (GMAC).  My thanks also to Andrée Goldsmith, the Designated Federal Officer for the GMAC, for organizing the meeting.  And of course, thank you to the Committee members for traveling from near and far and taking the time to share your valuable perspectives.

The topics for today’s meeting are vitally important.  Coherent and consistent oversight of central counterparties (CCPs) and margin for uncleared swaps is integral to robust and resilient derivatives markets.

EMIR 2.2                                                                                                                                           

There has been a great of deal of discussion and concern regarding implementation of EMIR 2.2 in Europe and the finalization of the tier 2 rules under EMIR 2.2.  The CFTC remains committed to working with the European Commission, the European Securities and Markets Authority (ESMA), and affected CCPs to maintain well-regulated, safe, efficient, and liquid global derivatives markets.

As currently envisioned, EMIR 2.2 could result in one or more U.S. CCPs being designated systemically important to the EU financial system.  Such a “tier 2” designation seemingly would, at a minimum, subject any such U.S. CCPs to direct supervision by ESMA and, at the extreme, require the relocation of any EU-derived business to an EU-based entity.  Direct supervision of U.S. CCPs by European regulators has the potential to introduce fragmentation into the U.S. financial markets through inconsistent and contradictory risk management requirements. [1] It also has the potential to increase systemic risk within the U.S. financial system.

Regulators undoubtedly have an interest in the potential for third-country CCPs to pose a systemic risk to their local jurisdiction.  However, I believe international regulators should create a regulatory structure that relies on cooperation and deference, without asserting extraordinary, extraterritorial jurisdiction over third-country markets.

I strongly encourage EU authorities to finalize EMIR 2.2 in a manner that strengthens financial stability while advancing home regulator deference so that CCPs and their members are not subject to conflicting and inconsistent regimes.

In the spirit of productive cooperation, earlier this month CFTC staff and I held a meeting with representatives from the European Commission to discuss cross-border regulatory issues related to derivatives.  We reaffirmed our mutual commitment to transatlantic cooperation among regulators.  We further agreed to continuing discussions aimed at achieving a practicable approach that provides for effective supervisory oversight on both sides of the Atlantic.  I look forward to continuing this international engagement with the benefit of input from my fellow Commissioners, CFTC staff, and this advisory committee.

Margin for Uncleared Swaps

The issue of margin for uncleared swaps offers another opportunity for regulatory cooperation, both internationally and with our fellow U.S. federal financial regulators.

On September 17, the U.S. federal banking regulators followed the Basel Committee on Banking Supervision and the International Organization of Securities Commissions[2] in proposing revisions to their margin rules that would extend by one year the compliance deadline for “phase five” counterparties, i.e., those with the smallest portfolios of uncleared swaps.[3]  CFTC staff has drafted a proposal to amend the corresponding deadline in the CFTC’s own rules.  I expect the Commission to vote in the near future on whether to issue this proposal.

These extensions would recognize that the final implementation phase will subject many relatively small entities to initial margin documentation and custodial and operational requirements for the first time.[4]  In the United States alone, this phase will expand the number of in-scope entities from 40 to over 700 and could require documenting and operationalizing nearly 7,000 initial margin relationships.[5]  Many newly in-scope counterparties need additional time to ensure that these arrangements are in place and operating smoothly for each such initial margin relationship.

Accordingly, I hope the Commission will join BCBS-IOSCO and our fellow U.S. regulators in granting a corresponding extension for phase five counterparties subject to our margin rules.

Conclusion

I look forward to hearing Committee members’ views on these important issues.  Your perspectives will greatly inform the Commission and staff as we continue to work in cooperation with our regulatory counterparts at home and abroad.

Opening Statement of Commissioner Brian D. Quintenz before the CFTC Global Markets Advisory Committee Meeting

September 24, 2019

Thank you Commissioner Stump for convening today’s meeting of the Global Markets Advisory Committee (GMAC).  Today’s meeting has a robust agenda, including exploring some of the current challenges firms are facing during the implementation of two significant derivatives regulatory matters: uncleared margin regulations and EMIR 2.2.  I would like to thank all of the presenters and Committee members for their participation and engagement.

Implementation of Uncleared Margin Rules

The margin framework for uncleared swaps developed in 2013 by the Basel Committee on Banking Supervision (BCBS) and the International Organization of Securities Commissions (IOSCO) established staggered compliance dates.  Under this framework, by September 1, 2020, all covered swap entities with counterparties that are swap dealers or financial end users with a material swap exposure exceeding a notional threshold of $8 billion will be required to comply with initial margin requirements.[1]  This final phase of implementation, also known as Phase 5, will bring a significant number of counterparties into scope for initial margin requirements.

Recognizing the operational challenges associated with Phase 5 implementation, BCBS and IOSCO recently revised the uncleared margin framework to include an additional implementation phase.  Under the revised approach, the compliance date for smaller entities with average daily aggregate notional amounts between $8 billion and $50 billion would be extended for an additional year until September 1, 2021.  Counterparties with average daily aggregate notional amounts between $50 billion and $750 billion would continue to be subject to the original Phase 5 compliance deadline of September 1, 2020.[2]  The banking regulators have recently proposed regulations incorporating this extended compliance period for smaller firms.  I expect that the CFTC will similarly follow suit in the upcoming months.

Firms coming into compliance with initial margin requirements will also be subject to a number of new regulatory obligations, including regularly calculating initial margin amounts to determine if and when margin must be exchanged.  In order to streamline this exercise, the CFTC issued guidance this past July clarifying that no initial margin documentation must be entered into prior to reaching the $50 million initial margin threshold.  The banking regulators have included guidance consistent with this approach in their recent margin proposal.  I am interested to hear from our panelists about the challenges and possible solutions firms will face during these final phases of uncleared margin implementation.

EMIR 2.2 and ESMA Consultation

Today’s final panel will focus on an issue that I believe is critical to the health and integration of the global derivatives markets: when it may be appropriate for a third-country regulator to exercise authority over another jurisdiction’s central counterparties (CCPs).  ESMA recently published several documents for public consultation regarding when it would extend the authority provided to it in EMIR 2.2 over CCPs located outside of the European Union (third-country CCPs).  These provisions govern when a CCP organized outside of the European Union may clear for EU citizens.  EMIR 2.2 establishes a two-tier system for third-country CCPs.  Where ESMA determines that a third-country CCP is not systemically important for the financial stability of the European Union, it will be classified as a Tier 1 CCP, and existing recognition conditions for clearing will apply.  Third-country CCPs that ESMA finds to be systemically important for the financial stability of the European Union or one or more of its member states will be classified as Tier 2 CCPs.  In order to continue offering clearing services into the European Union, Tier 2 CCPs will be required to comply with some of, or all of, EMIR’s requirements, unless ESMA grants substituted compliance with the CCP’s local regulatory regime.

ESMA has proposed a set of 14 “indicators,” as well as numerous subfactors, that it will use to determine whether a third-country CCP should be classified as Tier 2.  Considerations include the ownership, business and corporate structure of the CCP; details of the CCP’s clearing services provided to each EU clearing member broken out by financial instrument, regardless of whether the instruments are denominated in EU currencies; and broad risk factors with no clear nexus to the European Union, including IT risks, third-party outsourcing risks, and legal risks.  In explaining each of these factors, ESMA lists many qualitative criteria, but not a single quantitative metric to assess whether a CCP is systemically significant or when its co-regulation of the CCP with a home regulator is justified.

This is not an exercise in “big data” analytics, where a theoretical framework is constructed and thousands or millions of data points are run through quantitative tests to arrive at an unknown result.  Given the concentrated nature of the clearinghouse ecosystem, the results of any sorting, tiering, or screening test will be known contemporaneously with the test’s construction.  Said another way, it is impossible to construct such a tiering methodology while remaining blind to its ultimate results.

Therefore, we should judge this tiering exercise on its results. There are results which create a positive regulatory and market framework for the appropriate supervision of CCPs that operate across jurisdictions, and there are results which would create very negative regulatory and market consequences.  The earlier that I and my colleagues receive clarity on the outcomes of this tiering process, the more likely it is we can all work to avoid any negative outcome. Providing this clarity earlier rather than later is critical to ensuring that the CFTC, ESMA and the European Commission continue to have a productive engagement regarding EMIR 2.2 implementation.

I look forward to hearing the perspectives of our distinguished panelists on these important issues.

In closing, I would like to reiterate my thanks to all of today’s panelists and the GMAC membership for their participation, as well as to Commissioner Stump for organizing this meeting.

Opening Statement of Commissioner Dawn D. Stump before the Global Markets Advisory Committee Meeting

September 24, 2019

Good morning and welcome to the second Global Markets Advisory Committee meeting of 2019.

I would like to begin by welcoming Chairman Tarbert.  Given his background in international matters it is fitting that his first CFTC advisory committee as Chairman is one of global focus.  We are fortunate to have a leader with such expertise.  I also want to thank Commissioners Quintenz and Behnam for being here today as well as Commissioner Berkovitz for his engagement via webcast.  Your contributions to the discussion are much appreciated.  I would also like to thank all of the GMAC members who are present, both in person and on the phone.  In addition, I would like to express sincere gratitude to today’s panelists.  We appreciate your time and effort in putting together today’s presentations, and we look forward to hearing what you have to say.  Lastly, I would like to thank Andrée Goldsmith, the GMAC Designated Federal Officer, for organizing today’s meeting and putting together a robust agenda on important global issues. 

At the GMAC meeting in April, we covered a wide variety of issues that made up the key pillars of the 2009 Group of 20 Leaders’ directive regarding the OTC derivatives market.  My goal today is to use the discussions during that meeting as a jumping-off point for today’s agenda.  Specifically, today’s presentations will delve deeper into two specific topics that we touched on in April:  1) the global process applied to implementing initial margin for non-centrally cleared derivatives and how the phasing of such has progressed, and 2) how clearing through central counterparties has evolved since the crisis.  Regarding clearing, we will specifically discuss the European legislation known as EMIR 2.2 as it relates to non-EU based central counterparties, or CCPs, including those under CFTC registration.  

Regarding the exchange of initial margin for non-centrally cleared derivatives, now is a good time to step back and reflect on the past implementation phases and to explore in more detail the issues faced by market participants who have, or will in a future phase, become subject to the requirement.  This exercise is important, in my view, in order to understand whether there are actions that we, as regulators, can take to mitigate the potential compliance bottleneck caused by an unprecedented number of market participants coming into scope in the last implementation phases.  This morning will feature several panels on this topic.

First, we will hear an update from the regulators.  Mike Gibson from the Division of Supervision and Regulation at the Board of Governors of the Federal Reserve System will talk about actions regulators have taken with respect to the margin rules.  In a timely development, several regulators voted on a joint notice of proposed rulemaking last week that would amend certain aspects of their swap margin rule.  Mike will update us on those amendments.  Then, Rafael Martinez will update the group on the CFTC’s actions, including a staff advisory issued in July in support of the BCBS-IOSCO statement from earlier this year, which clarified that documentation requirements for uncleared swaps would not apply until a firm exceeds the $50 million IM threshold with a particular swap dealer. 

Next, we will hear from buy-side market participants.   Richard Grant from AQR Capital Management and Wendy Yun from Goldman Sachs Asset Management will discuss some of the challenges and the preparations their firms have undertaken to prepare for the upcoming implementation phases.  Among the issues Richard and Wendy will touch on are those involving separately managed accounts, seeded investment funds, eligible collateral, and documentation. 

The third panel on uncleared margin will feature Dominick Falco from BNY Mellon and Judson Baker from Northern Trust.  The two panelists represent custodian banks tasked with holding initial margin for non-centrally cleared derivatives.  They will discuss their experiences engaging with market participants, challenges they have seen in the earlier implementation phases, and what they are doing to prepare for the unique challenges of later implementation phases.   The custodian perspective is one that we don’t often get here at the CFTC, and I am looking forward to hearing directly from Dominick and Judson on how they are managing the documentation and operational challenges as more and more market participants come into scope.

Lastly, Tara Kruse from ISDA will present on some of the differences across jurisdictions that have evolved relative to the regulatory implementation of uncleared margin rules.  Jurisdictional differences in key areas, such as settlement timeframes and eligible collateral, present challenges for market participants.

After lunch, we will turn our focus to the cleared derivatives space and how regulation of global central counterparties has evolved.  Specifically, Sean Downey from CME Group, Carolyn Van den Daelen from ICE Clear Europe and Jackie Mesa from FIA will present on the provisions in EMIR 2.2 that affect non-EU based CCPs and ESMA’s  related draft technical advice and consultation reports.  EMIR 2.2 materially changes the regulatory framework for non-EU based CCPs, particularly when those CCPs are determined to be systemically important to the EU or one of its member states.  I believe that it is important that we fully understand the proposed changes and how they might affect our own registered derivatives clearing organizations.  Sean, Carolyn and Jackie will present on the specifics of ESMA’s consultation papers on tiering criteria and on comparable compliance, including their reactions to ESMA’s proposals. 

I am looking forward to digging deeper into some of the topics more generally covered during our last meeting in April.  I believe that today’s presentations are both relevant and timely, and will aid in our understanding of some of the recent developments in the global derivatives markets.  I again want to recognize the tremendous amount of work that has gone into planning this meeting and thank everyone for being here.

Update to June 2019 Joint CFTC-SEC-FCA Statement on Opportunistic Strategies in the Credit Derivatives Market

September 19, 2019

On the 24th of June 2019, the Chairmen of the U.S. Securities and Exchange Commission and the U.S. Commodity Futures Trading Commission, along with the Chief Executive of the U.K. Financial Conduct Authority, released a joint statement on opportunistic strategies in the credit derivatives markets (the Joint Statement).  The Joint Statement outlined mutual concerns about the pursuit of these strategies and the adverse impact they may have on the integrity, confidence and reputation of the credit derivatives markets, as well as markets more generally.  These opportunistic strategies include, but are not limited to, what have been referred to as ‘manufactured credit events’ or ‘narrowly tailored credit events’.

The International Swaps and Derivatives Association (ISDA) recently released a proposed protocol designed to address certain issues related to narrowly tailored credit events.  This protocol contains two amendments to the 2014 ISDA Credit Derivatives Definitions.  One relates to the Failure to Pay definition and the other to the Outstanding Principal Balance definition.  We welcome these efforts. 

As a general matter, we expect firms to consider how the aforementioned opportunistic strategies may impact their businesses and to take appropriate action to mitigate market, reputation and other risks arising from these types of strategies.  With regard to the proposed ISDA protocol, firms should consider how adherence to the proposed ISDA protocol may help them mitigate these risks.  Firms should also consider the risks to which they may be exposing themselves by trading with counterparties who do not adhere to the proposed ISDA protocol.

However, by itself, the proposed ISDA protocol will not address many of the concerns identified in the Joint Statement, such as opportunistic strategies that do not involve narrowly tailored credit events. We look forward to further industry efforts to improve the functioning of the credit derivative markets and welcome continuing engagement with market participants.

Keynote Address of Commissioner Dawn D. Stump at the 2019 ISDA Annual Europe Conference

September 19, 2019

From Pittsburgh with Love[1]
Dramatic Reforms, Ten Years Later
September 2009 – September 2019

I am pleased to join you here in London for ISDA’s Annual Europe Conference.  Before we get started, I want to say that the views I express today are my own and may differ from those of the Commission that I am honored to serve upon.  While this is my first trip to the United Kingdom since being sworn in as a CFTC Commissioner, prior professional endeavors enabled me to experience and appreciate not only the city, but also the financial services industry expertise and market infrastructure here in London.  More recently, I have had the privilege to develop working relationships with several fellow market regulators both here in the U.K. and within Continental Europe.  The tremendous responsibility to regulate global derivatives markets in today’s dynamic environment makes fast friends among those who share this charge.

Overview

I believe working together for a common mission yields far better results than duplicating efforts and potentially impeding regulators’ shared goal of effective financial regulation.  We know this based upon experience during our agency’s 45-year history.  Cross-border regulatory coordination is not a new trend.  We have long worked with our fellow regulators to develop international standards such that we can rely upon “mutual recognition” of comparable regulatory regimes.  Mutual recognition – or what today we often refer to as international “deference” – enables us to facilitate compliance with the unique U.S. statutory core principles which we at the CFTC are tasked with implementing by sensibly relying upon home country regulators as our partners to apply a common set of the highest global standards.

The CFTC’s mission requires us to join forces with fellow regulators in what one might liken to the alliance of James Bond of MI6 and Felix Leiter of the CIA.  You may struggle to see the obvious correlation of derivatives regulators to spy film celebrities.  I’ll admit we are far less adventurous and perhaps lack the fan following of 007, and while Robert Ophele does emanate Bond with his French cuffed shirts, Andrew Bailey likely does not have a collection of weapon-grade timepieces, nor do any CFTC Commissioners to my knowledge drive Aston Martin sports cars.  Seriously, though, in our far less glamorous roles there is a lesson to be taken from James, Felix and Rene Mathis - a strong global alliance is essential to achieving our shared pursuit of well-functioning derivatives markets.

Let’s start with the 2008 financial crisis.  At the time, I was serving as professional staff for the U.S. legislative branch and was specifically assigned to work on re-thinking the laws that governed over-the-counter (“OTC”) derivatives.  It was one of the more challenging opportunities of my career because what we knew about the underlying problems in the derivatives markets was continually evolving at the very time we were also trying to design a solution.  Some of you may have experienced a similar challenge.

In the midst of the chaos, the G-20 leaders met in Pittsburgh and correctly recognized that the markets are global and that designing a workable solution, though complicated, demands coordinated policies and cooperation.[2]  To do otherwise would ignore the reality that modern markets are not bound by jurisdictional borders.  While each country agreed to this coordinated approach, our pace of implementation differed, and the CFTC has since wrestled with first mover disadvantage.  Today, however, many of our fellow regulators have implemented commensurate reforms, thus aligning our regulatory principles, just as the G-20 envisioned.

Our regulatory similarities can now be used as a basis to support deference between jurisdictions which, in turn, helps to promote clarity and market stability.  Moving in the opposite direction would undermine the coordination envisioned by the G-20.  While I respect that circumstances in individual jurisdictions shift from time to time and warrant regulatory adjustments, I am hopeful we can approach such instances without forgetting what necessitates our union.  Unilateral actions can lead to retaliatory tactics that are counterproductive to the coordinated approach agreed to at the Pittsburgh Summit.  I offer these points as reminders of why we should build upon, rather than ignore, our progress.  Next week marks ten years since the leaders’ statement in Pittsburgh, and we cannot forget what necessitated global regulatory union both then and now.

License to Cooperate[3] – Coordination is Essential for Oversight of Central Counterparties

Given the depth and breadth of the global marketplace and its participants, we must acknowledge that no single regulator is capable of overseeing the markets in every corner of the world.  Therefore, we must respect and rely upon each other’s expertise for intelligence and support.  In this way, we leverage this worldwide coalition of regulators to oversee these global markets efficiently and effectively.  We all have a license to cooperate.

Trust and deference are particularly critical in the mission to regulate and supervise cross-border central counterparties (“CCPs”).  A duplicative, confusing web of multiple regulatory agencies around the world asserting overlapping but jurisdictionally distinct regulation and supervision of global CCPs would undermine, not enhance, the safety of our clearing system.  Instead, we need a strong alliance of regulators executing a common set of principles, each with a clear delineation of roles and a willingness to defer to its counterparts in the home country of a CCP.

This summer, the CFTC proposed regulations addressing such an alliance.[4]  The CFTC’s proposals recognize that a jurisdiction may have a legitimate interest in regulating a third country CCP under certain circumstances.  The CFTC has proposed that such an interest exists when a third country CCP poses a substantial risk to the U.S. financial system.  On the other hand, the European Commission and the European Securities and Markets Authority (“ESMA”) have expressed an interest in a third country CCP that is systemically important.  Regulators must be clear about when such an interest exists.

The CFTC has put forward a transparent, objective, quantitative metric for determining whether a third country CCP poses substantial risk to the U.S. financial system.[5]  The proposed substantial risk test focuses on the amount of initial margin required at the CCP.  The first part of the proposed test is whether required initial margin from U.S. clearing members at the CCP constitutes twenty percent or more of the required initial margin for U.S. clearing members at all registered and exempt derivatives clearing organizations (“DCOs”).  This part of the test focuses on the CCP’s share of the total global required initial margin from U.S. clearing members.  The second part of the proposed test is whether twenty percent or more of the required initial margin at the CCP is attributable to U.S. clearing members.  This part of the test focuses on the percentage of the required initial margin at the CCP that comes from U.S. clearing members.

To be sure, the CFTC is not proposing that these twenty percent numbers be fixed lines.  Where one or both of the thresholds is close to twenty percent, the proposals would afford the CFTC discretion in determining whether the CCP poses substantial risk to the U.S. financial system.  But the CFTC’s proposed substantial risk test would take the guesswork out of the determination.  While I am interested to hear what commenters have to say about the CFTC’s proposed test, as well as other aspects of the recently proposed rules, I support using a metric that is transparent, objective, and quantitative.

By contrast, ESMA has proposed fourteen “indicators” that it would use to assess whether a third country CCP is systemically important or likely to become systemically important for the financial stability of the European Union or one or more of its Member States.[6]  I am concerned that these indicators are subjective, qualitative, and confer overly broad discretion on ESMA.  These indicators would make it difficult for market participants and regulators alike to anticipate which third country CCPs will fall within ESMA’s remit.  I understand that commenters have raised similar concerns, and I hope that ESMA works with all relevant stakeholders to clarify how it will determine that a third country CCP is systemically important or likely to become systemically important for the financial stability of the European Union or one or more of its Member States.

With respect to third country CCPs that do not present a substantial risk to the U.S. financial system, the CFTC has proposed two approaches: the Exempt DCO Proposal and the Alternative Compliance Proposal.  Both proposals set forth principles-based standards for determining whether and to what extent the CFTC should defer to a CCP’s home country regulator.

In this context, we have proposed an option for non-U.S. CCPs offering clearing services to U.S. persons to request an exemption from registration with the CFTC.  Congress in the Commodity Exchange Act (“CEA”) explicitly authorized the CFTC to issue such registration exemptions in deference to a CCP’s home country regulator.  The CFTC may “exempt, conditionally or unconditionally, a derivatives clearing organization from registration…for the clearing of swaps if the [CFTC] determines that the derivatives clearing organization is subject to comparable, comprehensive supervision and regulation by … the appropriate government authorities in the home country of the organization.”[7]  In determining whether a CCP is subject to comparable, comprehensive supervision and regulation by its home country regulator, the CFTC’s proposal would rely on the home country’s adoption of, and the CCP’s observation of, the Principles for Financial Market Infrastructures.[8]

Additionally, for those third country CCPs that want to be registered with the CFTC as DCOs, the CFTC has proposed an “alternative compliance” mechanism for the CCP to comply with U.S. regulatory obligations that similarly defers to the CCP’s home country regulator.  That is, a third country CCP wishing to be a registered DCO can comply with the core principles set forth in the CEA by adhering to applicable legal requirements in its home country.[9]  While the CCP would still be required to comply with certain CFTC regulations in the areas of customer protection safeguards and swap data reporting requirements, the home country regulatory regime would not need to satisfy all of the CFTC’s regulations applicable to registered DCOs.[10]

I believe that the CFTC’s proposals are a step in the right direction when it comes to demonstrating our willingness to defer to our international colleagues that are administering comparable regulatory regimes.  The two proposals – the Exempt DCO Proposal and the Alternative Compliance Proposal – recognize that no regulator can unilaterally supervise the world.  Instead, we should evaluate whether other countries’ regimes reflect our shared goals.  If they do, we should offer greater deference to their regulatory authorities.  Likewise, I expect other jurisdictions to rely on the CFTC’s abilities and respect our expertise.  Such a two-way street will best fulfill the mission the G-20 leaders agreed to in Pittsburgh almost ten years ago.

You Only Live Twice[11] – Rescuing Swap Data Reporting

Turning now to swap data reporting, perhaps we as regulators should heed Ian Fleming’s warning that You Only Live Twice:  New regulatory reporting requirements, though operationalized, are deficient for achieving their intended purpose, and the authorities to which regulators are accountable will likely be unsympathetic should a future challenge arise absent functional data.  I am not sure, in such a circumstance, that we would be afforded another chance to design a workable system.  For this reason, a commitment to improving and standardizing the reporting elements envisioned by the reform agenda requires our immediate attention.

At the onset of the financial crisis, the most obvious regulatory predicament for OTC derivatives was the lack of information, and it was quickly concluded that regulators need a consistent set of data points from which to conduct market oversight and respond to looming challenges.  I have long believed that lacking information was among the most fundamental issues to be addressed post-crisis, and yet we continue to struggle to effectuate this reform measure.  If another challenge or crisis arises without a coordinated data system in place, I doubt there will be much empathy for any explanation or excuse as to why we have failed to achieve our global regulatory charge.

The lack of global harmonization in swap data reporting continues to hinder implementation of post-crisis reforms, and divergent requirements across jurisdictions are an ongoing and substantial burden on market participants.  Distinct reporting rules and disjointed implementation across jurisdictions increase costs and promote inefficiency by forcing trade repositories and reporting counterparties to build and maintain different reporting mechanisms, and they fail to advance a harmonized global system in which regulators can effectively utilize the data for coordinated supervision efforts.

The Pittsburgh accords were predicated upon the global regulatory community procuring data to inform decision makers about the opaque OTC swap markets.  The next crisis will not be the same as the last, nor will it be resolved any better or faster without harmonized data sets.  The regulatory response will be sorely lacking if the CFTC and its international regulatory colleagues have to first assemble their disparate data sets in an emergency situation.  Despite the substantial costs imposed upon market participants to report swap data, the different data elements, formatting, and technical specifications utilized by individual jurisdictions make it extremely difficult to aggregate data across global markets and thus limit the data’s utility.

Earlier this year, the CFTC published a rule proposal outlining ideas on how to confirm the accuracy of swap data reported to trade repositories.[12]  I hope that future proposals regarding our other reporting rules will provide market participants with a holistic view into what the CFTC is thinking for the entire swap data reporting ecosystem.  In my opinion, this should include significant harmonization with other regulators around the world, a reasonable and substantive streamlining of obligations, a considerable adjustment in the number of required reportable elements, extended time for regulatory reporting to 24 hours to ensure accuracy, and a reduction in the regulatory burden placed on end-users.

Data has no nationality and knows no borders.  It presents a tremendous opportunity to demonstrate effective international regulatory cooperation.  Coordination among regulators is essential to the improvement of swap data reporting and the implementation of standardized identifiers and technical guidance on data elements published by international working groups such as the Committee on Payments and Market Infrastructures (“CPMI”), the International Organization of Securities Commissions (“IOSCO”), and the Financial Stability Board (“FSB”).

The World is Not Enough[13] – Rethinking the “Intergalactic” Application of Cross-Border Guidance[14]

Over the years, there has been talk about the possibility that the CFTC might re-examine its cross-border approach to swap dealer regulation in a rulemaking.  After all, the agency’s 2013 guidance was just that, guidance, which the CFTC might want to replace with actual regulations.  I have long believed that the guidance was designed to be temporary and that, all other things being equal, regulation to provide certainty and reliability is the more prudent course.

I also believe that Section 2(i) of the CEA limits the international reach of CFTC swap regulations by affirmatively stating that they “shall not apply to activities outside the United States unless those activities . . . have a direct and significant connection with activities in, or effect on, commerce of the United States.”[15]  A common sense reading of this section, aptly titled “Applicability” in the statute, is that there is a limited reach of U.S. law, and to stretch it beyond the stated criteria impermissibly infringes upon the rule sets of other countries.

That is, the legal intent is to start with U.S. law not applying beyond our borders, and then continue to the limited conditions where extraterritoriality would be deemed appropriate.  The law does not say that CFTC rules govern derivatives market activities around the world if there is any linkage or tie to the United States and should not be interpreted and abused as such.  Rigorous analysis of the Section 2(i) test is necessary to ensure that the law is followed both to the letter and in spirit.

Tomorrow Never Dies[16] - Initial Margin for Non-Centrally Cleared Derivatives

I would now like to discuss two recent measures addressing the application of initial margin (“IM”) for non-centrally cleared derivatives.  In July, regulators recognized that market participants in the final phase of implementation require more time to comply with margin rules, and separately the CFTC clarified when documentation requirements are triggered.

The Basel Committee on Banking Supervision (“BCBS”) and IOSCO agreed to an interim phase and an extension for some of the smallest firms by one year until September 2021.[17]  This delay in implementation for the smallest of in-scope firms, essentially a “Phase 6,” is meant to address the enormous task facing smaller counterparties in their compliance efforts.  Also, CFTC staff issued an advisory clarifying for its registrants that documentation requirements for uncleared swaps would not apply until a firm exceeds a $50 million IM threshold with a particular swap dealer.[18]  Both of these actions are positive developments that will ease the potential compliance bottleneck from an unprecedented number of counterparties and provide greater clarity for documentation expectations.  That said, much still remains to be accomplished to achieve readiness and I would remind everyone that Tomorrow Never Dies, and market participants should commit to this exercise sooner rather than later.

Firms captured by the final phases of uncleared margin will be entering unfamiliar territory, negotiating with trading counterparties and custodians, and interacting with new intermediaries where they do not have pre-existing relationships.  The required documentation challenges might not seem insurmountable from an individual firm perspective, but it is expected that the final phases of IM implementation will impact several thousand bilateral relationships.  Further complicating matters, each of these bilateral relationships will require multiple legal agreements addressing the various parts of the margin workflow.  Swap counterparties will be expected to establish separate segregated accounts for the posting and receiving of collateral, and reach agreements with each counterparty and their respective, chosen custodian.  As anyone who has ever negotiated documentation related to swaps knows all too well, negotiating the details of such agreements is time-consuming and tedious, thus extending the process.

In addition to documentation and negotiations, firms will need to monitor their Average Aggregate Notional Amount (“AANA”) and IM amounts proactively to have as much lead time as possible before exceeding various thresholds.  Firms need to adopt the methodology to calculate IM requirements and acquire the necessary infrastructure.  Also, firms controlling separately managed accounts on behalf of underlying investors that employ multiple asset managers face an even greater challenge that must be addressed in an orderly manner.

That is a considerable amount of work, and the reality is that there are a limited number of custodians and law firms available for these negotiations.  The industry overall will be capacity constrained to deliver and negotiate with all these various entities.  Deadlines have a knack for surprising folks sooner than expected.  At some point, prolonging the finish is no longer an option for these margin requirements.  The CFTC’s Global Markets Advisory Committee (“GMAC”) that I sponsor will be meeting on September 24^th to advise the CFTC regarding these various documentation and preparation challenges.  Participants who have already engaged on these fronts need to persevere and continue, while those that have yet to commence need to start making progress.

Closing

In closing, we should be reminded to Never Say Never Again,[19] but rather prepare for the inevitable challenges ahead through a constant willingness to re-evaluate and reset as appropriate.  The G-20 agreement included a directive to “assess regularly implementation and whether it is sufficient to improve transparency in the derivatives markets, mitigate systemic risk, and protect against market abuse.”[20]  None of the resulting regulatory responses to Pittsburgh are stagnant, and rules should be updated based on changing circumstances.

That said, I want to be clear that I am not suggesting wholesale transformation but rather prudent regulatory adjustments based upon ten years of progress.  Those who rely upon our markets deserve the benefit of regulatory certainty, and regulators must respect and assist one another in order to achieve stability.  It is time to lessen the drama surrounding global derivatives policy-making which, unlike Bond’s signature cocktail, has been both shaken and then stirred in recent years.