Opening Statement of Commissioner Dawn D. Stump before the CFTC Open Meeting, November 5, 2018  

Open Meeting on Final Rule: Amending the De Minimis Exception to the Swap Dealer Definition, Proposed Rule: Amendments to Regulations on Swap Execution Facilities and the Trade Execution Requirement, and Request for Comment regarding the Practice of “Post-Trade Name Give-Up” on Swap Execution Facilities

November 5, 2018

Washington, DC – I am pleased to participate in my first open meeting exactly two months to the day after being sworn-in.  On my first month anniversary we held a Technology Advisory Committee Meeting so I am looking forward to seeing what sort of gathering we have to mark my third month. 

I would like to express my thanks and sincere gratitude to the staff who diligently worked to make today’s meeting possible. As a former legislative committee staffer, I know how much effort goes into the development and planning process long before these formal proceedings can occur.  To those who are presenting today and the countless others supporting the rule writing process behind the scenes, I want to commend you for your excellent work.

I would also like to thank my fellow Commissioners for welcoming me to the CFTC.  You gain a tremendous amount of respect for people whom you encounter positively during times of challenge, and that is exactly how I came to know many of my fellow Commissioners – through past problem solving exercises during the financial crisis, times of energy market instability, and unfortunate customer protection failures.  While I hope this new working relationship is void of such uneasy times, if the past two months are any indication I know the experience will not be dull.

While previous Commissions were tasked with the enormous endeavor to set up a new OTC regulatory framework, the current Commission has a different task derived from the sometimes overlooked component of the 2009 Group of 20 (G-20) nation’s agreement in Pittsburgh which stipulates that regulators should “assess regularly implementation and whether it is sufficient to improve transparency in the derivatives markets, mitigate systemic risk, and protect against market abuse”.  It is noteworthy that in 2009, in the midst of responding to the crisis, the G-20 leadership admitted that as individual jurisdictions implemented these monumental principles a look-back was needed to ensure the objectives were being met. 

As I was pondering how best to carry out this element of the G-20 reforms, my children received their first quarter report cards. I note that as they mature their academic success is measured against knowledge previously assembled – they are no longer graded on how well they know their math facts but rather how they apply the math facts in the current phase of their development, say for example in geometry or algebra.   We too need to assess the agency’s work product based upon what we have learned from experience and the current data available, and we should measure success against established goals. For the purpose of today’s subject matter, the objectives to which we should be graded are simply outlined in the G-20 directives to improve transparency in the derivatives markets, mitigate systemic risk, and protect against market abuse.   You will continue to hear me reference our report card throughout my tenure as I believe it is time for us to evaluate the effectiveness of our authorities post crisis.

Final Rule: Amending the De Minimis Exception to the Swap Dealer Definition

It is important to finalize the numeric threshold and provide a level of regulatory certainty.  Stabilizing the Aggregate Gross Notional Amount (AGNA) of permitted dealing activity under the De Minimis exception for Swap Dealer registration allows those impacted to focus on their key role in the US economy - providing liquidity and offering risk management alternatives to their clients, rather than worrying about being captured in a net of regulations intended for those with swap dealing activity many orders of magnitude greater than their own.  Alternatively, casting regulations and burdens on firms posing little, if any, systemic risk due to their relatively small presence in swaps markets would lead to some entities forgoing this business altogether and does not further the objectives of the G-20 standards.  This is precisely what Congress sought to avoid when they instructed the CFTC to provide a De Minimis exception.   Policy that would prompt firms to contract business models and reduce dealing activity as a strategic choice to avoid registration is not a prudent approach to ensuring the quality of US markets in the competitive global arena. Years ago we might have pled ignorance to the reason for such an outcome, but today, that would be tantamount to willful and irresponsible regulation based on the information at our disposal.   Today, we have the benefit of improvements in swap data reporting and analytical capability to refine analysis of swap dealing activity.

It is time for the Commission to finalize a data derived De Minimis threshold. Market participants have endured a rule proposal, adopting release, two Commission Orders extending the phase-in, and two staff studies on the De Minimis exception. Based on the data in those studies and the rule before us, I disagree with arguments towards lowering the threshold for Swap Dealer registration requirements and unnecessarily subjecting entities with a limited swap dealing capacity to registration and the associated rigorous obligations and substantial costs. The intent is not to strangle the activity of swap dealing operations, which would bring no discernable benefit while increasing the costs, diminishing the quality of service, and limiting the hedging opportunities for end users that rely on these institutions. I cannot justify such a regulatory application without a clear and demonstrable policy reason. To the contrary, the swap data now available to the Commission underscores the large regulatory capture preserved by this rule as approximately 98% of all swap transactions involved at least one registered SD and greater than 99% of Aggregate Gross Notional Amounts in IRS, CDS, FX, and equity swaps included at least one registered SD.

I am not advocating for a roll-back of the Dodd-Frank Act or seeking loopholes for massive swap dealing banks to escape the oversight of the CFTC. What I am striving for in a future state for Swap Dealer monitoring is a system that is true to the law and properly applies the De Minimis exception with which the CFTC was tasked to design – an exception that should adhere to the ultimate goals of the Swap Dealer registration regime.  The narrowing of this rule from its proposed form to the final product signifies that difficult, yet critical, questions remain unresolved. If the ultimate concerns to be addressed in defining and registering firms as Swap Dealers are excessive bilateral counterparty exposure, global systemic risk, and/or business conduct in client facing activity then are we receiving a passing grade against these benchmarks? If the aim of Swap Dealer registration is to oversee and improve the interaction with clients and apply business conduct standards, then should those who do not face clients be in scope? Similarly, if Swap Dealer oversight is required for the purpose of monitoring bilateral counterparty risk, then should those predominately engaged in cleared swaps, whereby counterparties cease to face a dealer and rather become counterparty to the clearinghouse continue to be included?  If portfolio compression exercises are encouraged for the purpose of mitigating risk, then is it not appropriate to consider such reduction in notional exposures in this context?  I am not suggesting that these activities should go unmonitored and reporting elements of the new regulatory regime should continue to apply, but we must remind ourselves that Swap Dealer registration is meant to serve a distinct purpose – are our rules fit for that purpose? 

These unresolved questions will need to be answered another day because calendar deadlines sometimes serve as the driving force in the Commission’s actions. This slimmed down final rule will provide market participants with certainty as they plan and count their activity for the 12 months prior to the December 31, 2019 termination of the phase-in period.

I am hopeful that completing the quantitative component of the De Minimis Rule today will afford staff and my fellow Commissioners and I the opportunity to refocus attention on the issues that remain. Again, I want to thank the staff for their efforts and considerable time devoted to completing thorough analysis based upon real data.  While I am pleased to offer market participants this level of regulatory clarity, I fear our report card on the more complex subject matter shows a grade of “incomplete”.  I look forward to working with the staff of DSIO to further refine the application of the swap dealer regime, consistent with established goals of the G-20 so that we can very soon remove this incomplete score on our report card.  

Proposed Rule: Amendments to Regulations on Swap Execution Facilities and the Trade Execution Requirement

As a former legislative staffer with a front row seat during the development of the Dodd-Frank Act, I was a party to the many conversations regarding how the new regulated market structure for swaps would apply the broad G-20 directives of reporting, clearing, and executing OTC transactions.  With consensus  around the regulatory benefit of  reporting OTC derivative contracts, the bulk of the debate was devoted to the complicated task of how the clearing mandate would be applied and which types of market participants would need to migrate positions into a cleared environment, but the operational aspects of the execution mandate were left to be finalized near the end of the process and unfortunately received less attention due to a push for quick completion of the legislation – this is probably evident from the verbiage, or lack thereof, that appears in the statute on this matter.   While I was not here at the CFTC when the subsequent Swap Execution Regulations were established, it is not surprising that varying statutory interpretations emerged among Commissioners at that time.   The resulting confusion surrounding how best to implement Congressional goals resulted in the current Part 37 rule set.  The Commission would likely have been disappointed if it had objectively graded itself after the initial roll-out of SEF trading. Questions persisted and uncertainty reigned as trading volume was slow to materialize and numerous no-action letters for relief were promulgated to address shortcomings.

More recently, we have seen a considerable uptick in SEF activity and counterparties are voluntarily coming to SEFs to execute swaps via permitted transactions for products that are neither cleared nor required to execute on SEF.  Today, we must heed the lessons learned and leverage our knowledge from observing these markets in action, rather than the assumptions and unknowns that constrained previous Commissions.  To the extent that improvements and refinements can be made to the SEF market structure, I support the Chairman putting forward a thoughtful proposal for public consideration and I look forward to learning from those who comment as to whether a change in course is warranted for both the execution mandate application and the operational structure of swap execution facilities. 

Request for Comment regarding the Practice of “Post-Trade Name Give-Up” on Swap Execution Facilities

I am looking forward to learning more and interacting with all types of entities impacted by name give-up in the coming months. That being said, I would prefer that the Commission be able to opine on a final SEF rule and a final rule on name give-up at the same time.  Acting on all aspects impacting SEF trading contemporaneously would benefit all entities involved. 

In closing, I would like to reiterate my view that we need a current and ongoing review that builds upon the efforts of this agency in the aftermath of the financial crisis.  Having spent my entire life working in and around agriculture, as well as a decade in the energy policy arena, and more recent days in the exchange and clearing infrastructure space I am keenly aware of the real world implications of the work we do here.  For that reason, I intend to keep a running report card and test whether our Commission policies are commensurate with intended objectives going forward.

Thank you, Mr. Chairman.  

Statement of Commissioner Dan M. Berkovitz Regarding the De Minimis Exception to the Swap Dealer Definition; Final Rule

November 5, 2018

I support amending the swap dealer de minimis exception to set the threshold at $8 billion.  This limited amendment relies on extensive data analysis to achieve a balance between the policy objectives of the de minimis exception and the registration of swap dealers.

At the outset, I would like to acknowledge the leadership of Chairman Giancarlo and the efforts of my fellow Commissioners to achieve consensus on this rulemaking.  I look forward to working together to continue to find areas of agreement where it makes sense for our markets and the American people.

Data-Driven Rulemaking

Title VII of the Dodd-Frank Act directed the Commodity Futures Trading Commission (“Commission”) and the U.S. Securities and Exchange Commission (“SEC”) to jointly further define, among other things, the term “swap dealer.”[1]  At the same time, Congress enacted Section 1a(49)(D) of the Commodity Exchange Act (“CEA”), which directed the Commission to exempt from designation as a swap dealer entities that engage in a de minimis quantity of swap dealing.

In 2012, the Commission—jointly with the SEC—adopted the further definition of the term swap dealer.  In this rulemaking, the de minimis swap dealing threshold was set at $3 billion.  However, recognizing that a lack of swap trading data made it difficult to set an appropriate threshold, the Commission implemented a long phase-in period during which the threshold was set at $8 billion.[2]  The regulation directed Commission staff to study the data on swap dealing activity that would be collected through swap data repositories (“SDRs”) and publish a report for public comment, enabling the Commission at a later time to make a data-based judgment regarding the de minimis quantity threshold.[3]

To this end, the staff built a comprehensive database to aggregate data from all four SDRs.  Over several years, the staff developed and refined new techniques to sort and evaluate the data, published two reports on the de minimis exception, and continued to revise its analysis in response to public comments.  This process was not without considerable challenges, but the staff worked diligently to produce meaningful, data-driven information to guide the Commission’s decision-making regarding the appropriate de minimis threshold.

This effort provided a highly significant data point:  approximately 98 percent of all swap transactions involved at least one registered swap dealer.  We now know that at the $8 billion threshold, nearly all swap transactions benefit from swap dealer regulation.

The staff’s analysis also showed that reducing the threshold to $3 billion would have a minimal impact on the amount of swaps activity that would be subject to swap dealer regulation.  Indeed, based on the analysis, reducing the threshold to $3 billion would only add swap dealer coverage to less than one-tenth of one percent of reported swaps.  By the same token, the analysis demonstrated that increasing the threshold quantity above $8 billion would have almost no impact on the amount of swaps subject to dealer regulation until that threshold reaches a significantly higher level.  At those levels, the effect on specific categories of swaps—notably non-financial commodity swaps (“NFC”)—becomes much more significant.

When considering amending a rule, the Commission should consider both the benefits and costs from those rule changes.  Here, data analysis has shown that the benefits of changing the current $8 billion threshold are relatively small because nearly all swap activity is already covered by dealer regulation.

On the other hand, decreasing the threshold from its current level would impose tangible costs on market participants.  If the threshold were lowered to $3 billion, unregistered dealers that are currently under the $8 billion level, but that could exceed the $3 billion threshold, would have to re-evaluate whether swap dealing in excess of $3 billion would continue to make business sense.  The de minimis rulemaking proposal[4] noted that this issue is particularly important in the NFC swap market.  The staff’s data analysis showed that many of the smaller swap dealers for physical commodities are physical commodity producers, distributors, consumers, or merchandizers.  Swap dealing is an ancillary business for them.  Where the costs of registering as a swap dealer exceed anticipated benefits, it is likely that many of these entities would withdraw from providing swap dealing services to their customers.  That would leave many end users looking to hedge their risks with either no dealers available, or very few dealers to provide competitive pricing.

The Commission should seek to preserve and foster competition for swap dealer services.  One of the fundamental purposes of the CEA is to “promote . . . fair competition among boards of trade, other markets and market participants.”[5]  American businesses throughout the country that need to use swaps to hedge their risks should not be forced to rely solely on large Wall Street banks.  Retaining the de minimis threshold at $8 billion will help preserve competition and choice for American businesses for these swap dealing services.

It is important to note that this rulemaking represents one of the first times in which the Commission has relied on SDR data to set policy, and the staff that undertook this principled and thorough analysis should be commended for their efforts.  Given the technological advancements in data collection and analysis, effective use of data to inform policy making is critical for the Commission to meet its policy objectives of fostering open, transparent, competitive, and financially sound markets.

In sum, the data demonstrates that the current de minimis threshold level is largely accomplishing its intended purposes.  Where the current regulations are working, regulatory stability also is an important objective.  Accordingly, after considering the results of the swap data analysis, relevant policy implications, and limited benefits and potential costs of altering the de minimis threshold quantity, I believe that maintaining the threshold at $8 billion is appropriate and sound public policy.

Physical Commodity Swaps

The proposal noted that Commission staff encountered challenges in measuring the aggregate gross notional amount of NFC swaps.  Instead, the staff used counterparty and transaction counts to approximate swap dealing activity for NFC swaps.  The staff’s analysis indicated that fewer NFC swap transactions—86 percent—involved at least one registered swap dealer, as opposed to 99 percent for other swap categories.   

The market participants who use physical commodity swaps to hedge their risks typically include farmers, ranchers, farm product processors, energy producers and consumers, manufacturers, and other end users.  These consumer-facing businesses need a properly functioning physical commodity derivatives marketplace to maintain consistent prices for their customers.  Ultimately, the American people benefit from stable prices on the products that these businesses produce and distribute.

I am therefore calling on the Commission to continue to focus on improving our data collection and analysis for NFC swaps.  More robust data collection will help us improve regulation in this space, including considering ways to balance the benefits of de minimis swap dealing in physical commodities with the need for customer protections and the other benefits of swap dealer registration.

Joint Rulemaking Required for Swap Dealer Definition

I am voting today solely in favor of setting the de minimis exception threshold quantity at $8 billion because it is within the Commission’s authority to do so.  Looking forward, however, I will not support other amendments to the swap dealer definition without a joint rulemaking with the SEC, as required by the Dodd-Frank Act.

In addition to setting the threshold level, the proposal sought to alter the swap dealer definition by excluding from counting toward that de minimis threshold:  (1) swaps entered into by an insured depository institution (“IDI”) in connection with originating loans; (2) swaps hedging financial or physical positions; and (3) swaps resulting from multilateral portfolio compression exercises.  The proposal also asked questions about excluding from the threshold calculation swaps that are cleared and/or exchange traded and non-deliverable forwards.

Although the Commission is not adopting these provisions today, my view is that any such changes would effectively amount to an amendment of the swap dealer definition, not the de minimis exception.  Doing so unilaterally and not as a joint rulemaking with the SEC would be contrary to the statutory language and inconsistent with Congressional intent.

When Congress enacted Title VII of the Dodd-Frank Act, its intent was clear:  “[T]he [Commission] and the [SEC], in consultation with the Board of Governors, shall further define the term[] . . . ‘swap dealer,’” among other terms.[6]  Congress clarified that the Commission must use the joint rulemaking process to make any other rules regarding these definitions that it and the SEC determine are necessary for the protection of investors.[7]  To underscore this point, Congress noted that rules prescribed jointly by the Commission and the SEC under Title VII must be “comparable to the maximum extent possible,” and that any interpretation of, or guidance regarding, a provision of the Dodd-Frank Act would be effective only if issued jointly by the Commission and the SEC.[8]  Pursuant to this statutory directive, the agencies adopted a joint rulemaking to define “swap dealer” and “security-based swap dealer.”

Congress created one exception to the joint rulemaking requirement.  CEA subsection 1a(49)(D) authorizes “the Commission” to exempt from designation as a swap dealer “an entity that engages in a de minimis quantity of swap dealing” and “to establish factors with respect to the making of this determination to exempt.”[9]  The Commission included this de minimis exception in paragraph 4 of the swap dealer definition, notably separate from other provisions in the definition addressing the IDI exclusion (paragraph 5) and the physical hedging exclusion (paragraph 6).

By its terms, the de minimis exception relates solely to exempting a numerical quantity of swap dealing activity.  Under the statutory structure, the Commission and the SEC must jointly determine which activities are dealing activities and therefore must be counted toward the threshold; the Commission itself may set a numerical quantity of such dealing as a threshold for registration.  Put simply, deciding “which” activity gets counted must be done jointly; deciding “how much” of that activity triggers the registration requirement may be done singly.

The proposal framed these additional proposed changes to the swap dealer definition as “factors” in the de minimis threshold determination.  In doing so, the proposal sought to use the Commission’s unilateral authority to “establish factors” as provided in the second sentence in CEA subsection 1a(49)(D).  However, that interpretation is a misreading of the statutory provision.  The second sentence in CEA subsection 1a(49)(D) authorizes the Commission to promulgate regulations to “establish factors with respect to the making of this determination to exempt.”[10]  The words “this determination” clearly refer to the quantity determination in the first sentence of the subsection:  “[t]he Commission shall exempt from designation as a swap dealer an entity that engages in a de minimis quantity of swap dealing in connection with transactions with or on behalf of its customers.”[11]  In other words, the “factors” referred to in the second sentence relate to the numerical quantity determination in the first sentence; this sentence does not create a distinct directive authorizing the Commission to independently determine what constitutes swap dealing.[12]

This point is clear when we examine what would happen if each of the five categories of swap dealing activity identified in the proposal as “factors” (i.e., IDI, physical hedging, multilateral portfolio compression exercises, cleared and/or exchange traded, and non-deliverable forwards) were removed from the definition of swap dealing through this interpretation of the de minimis exception.  Combined, these five categories of swaps likely total more than half of the notional amount traded.  There would appear to be no limit to what dealing activity could be excluded from dealer regulation through the de minimis exception by framing whole categories of swaps to be excluded as “factors.”  The Commission could effectively determine unilaterally what constitutes swap dealing.  The de minimis exception would swallow the swap dealer definition.  This result cannot be reconciled with the Dodd-Frank Act’s joint rulemaking requirement.

For these reasons, while I am amenable to considering further refinements to the swap dealer definition and what gets counted as dealing, I am of the view that this cannot be accomplished without joint rulemaking with the SEC.

Statement of Chairman J. Christopher Giancarlo Regarding Notice of Proposed Rulemaking on Swap Execution Facilities and Request for Comment on Post-Trade Name Give-Up

November 5, 2018

Washington, DC – I start by referencing an important White Paper written in 1970 by a young graduate student in economics at UC Berkeley.  That White Paper, entitled, “Preliminary Design for an Electronic Market,” written for the Pacific Commodity Exchange, was the world’s first written conceptualization of a fully electronic, for-profit futures exchange.

The White Paper was written by Dr. Richard Sandor.  That White Paper has now been republished in a new book by Dr. Sandor.[1] In it, he recounts how his idea lay mostly dormant through the 1970s to mid-1980s before being slowly developed, in fits and starts, first in Europe in the 1990s and then in the United States in the 2000s.  His book notes that electronic execution of futures products with continuous liquidity has become almost ubiquitous today, while other exchange traded asset classes with more episodic liquidity, like options and swaps, continue to trade by voice.

What I found fascinating in Dr. Sandor’s recounting of this five-decade long evolution from trading pits to electronic trading of futures was the absence of any grand plan behind the transformation.  Instead, it was a series of incremental commercial developments and technology innovations.  At all times, the impetus was the demands of market participants and the response of market operators to reduce trading costs and transaction friction.  At no time, did government step in and say, “Henceforth, all futures trading shall be on electronic exchanges.”  Instead, market evolution happened because a good idea was coupled with capable technology and mutual commercial interest with enough time to catch on and gain traction.

Before I joined the Commission, I spent a decade and a half at a leading operator of swaps marketplaces.  We launched many innovative electronic platforms still in use today.  Some of the platforms caught right on with our customers, others did not.  Yet, we designed all of them to increase efficiency and reduce trading friction.  It was just that sometimes our competitors designed better or cheaper ones or just simply got the timing right.

The point is that the design of trading platforms and the evolution of market structure is best done by platform operators, through trial and error, customer demand, commercial response and technological innovation.  Regulators will never be close enough to the heartbeat of the markets, the spark of technology or the cost of development to prescribe the optimal design of trading platforms or business methods.  Regulators can never know which trading methods will work best in the full range of market conditions, from low to extreme volatility.

Congress understood this.  That is why Title VII of Dodd-Frank permits Swap Execution Facilities (SEFs) to conduct their activities through “any means of interstate commerce,” not “such means that may be chosen by regulators.”

Once regulators step in and dictate who serves who with what type of service, we are picking winners and losers.  We are simply not authorized, nor are we competent, to act in this way.  If we do, the winners will invariably be those with the most persuasive voices and best lobbyists.

Congress knew that swaps are not traded by retail participants, but for sophisticated, institutional traders.  Wall Street banks, hedge funds, prop shops and large energy companies have the wherewithal to demand the transaction services they need without regulators holding their hands.  And the platform operators are not public utilities, but seasoned competitors.  If there is money to be made, trading efficiencies to be achieved, customers to be served or costs to be saved, they will find them.  If there is a better mousetrap to be built, they will build it.

Unfortunately, the CFTC did not listen to Congress.  Contrary to provisions of Dodd-Frank that permit SEFs to operate by “any means of interstate commerce,” the current SEF rules constrain swaps trading to two methods of execution – request-for-quote or order book.  While swaps not subject to the trade execution mandate can utilize other methods, SEFs must nevertheless provide an order book for such permitted transactions.  All other “required” transactions have to be executed exclusively on one of those two options.  Further, the rules incorporate a number of practices from futures markets that are antithetical to swaps trading, such as the 15 second “cross” and execution of block trades off platform.  Additionally, the SEF core principles are interpreted in ways that are not conducive to environments in which swaps liquidity is formed and price discovery is conducted.

One effect of this approach has been to incentivize the shift of swaps price discovery and liquidity formation away from SEFs to introducing brokers (or “IBs”).  SEFs have turned into booking engines for trades formulated elsewhere, often on IBs.  Yet, IBs are not appropriate vehicles to formulate swaps transactions.  The intended purpose of IBs in the CFTC’s regulatory framework is to solicit orders for futures transactions, not swaps.  Moving swaps price discovery and liquidity formation away from SEFs to IBs is not what Congress intended in Dodd-Frank.  The goal was to have the entire process of swaps liquidity formation, price discovery and trade execution take place on licensed SEF platforms.  IBs are not subject to conduct and compliance requirements appropriate for swaps trading.  Their employees are not required to pass exams for proficiency in serving institutional market participants in over-the-counter swaps markets but they are for retail customers who are prohibited from trading swaps.

Another effect of the current approach is the paucity of platform innovation and new platform operators competing for market share.  The stagnation has allowed a few incumbents to consolidate and dominate market share.  According to one large swaps trader, “the biggest disappointment of SEFs is that nothing has really changed.  I’m still trading the same way today as I was 10 years ago.”[2]  And, yet, the current rules were supposed to have caused as much as a hundred firms to register as SEFs.[3]

I have written a few white papers of my own. I have called for revising our current restrictions on SEF activity and allowing flexible methods of execution for swaps transactions using any means of interstate commerce, exactly as Congress intended.[4] 

Today’s proposal does just that.  It will allow SEFs to innovate to meet customer demand and operate trading environments that are more salutatory to the more episodic nature of swaps liquidity.  At the same time, it will make the “made available for trading” determination synonymous with the clearing determination to include all swaps subject to the clearing requirement and listed by a SEF or DCM.  This is meant to bring the full range of liquidity formation, price discovery and trade execution on SEFs for a broader range of swaps products.

The promotion of swaps trading on SEFs brings “daylight to the marketplace” by subjecting a much broader range of swaps products to SEF record keeping, regulatory supervision and oversight, just as Congress intended.

It is said that if CFTC mandates for minimum trading functionality go away, so will the current degree of electronic execution in the market.  Sorry, but that is a naïve concern.  Those electronic SEF platforms that are successful provide too much competitive advantage and cost efficiency and sunk costs to be shut down simply because they are no longer subject to a regulatory mandate. No firm is going to give up electronic trading market share and profitability and increase trading friction because regulation suddenly becomes less prescriptive.

A word about “impartial access,” Dodd-Frank requires SEFs to have rules to provide market participants with “impartial access” to the market and permits SEFs to establish rules regarding any limitation on access.

“Impartial access” means just that, “impartial”.  It does not mean that SEFs must serve every type of market participant in an all-to-all environment.  If it did, then Congress would not have allowed SEFs to establish rules for limitation of access.

The new proposal would establish what is meant by “impartial access”.  The proposal will generally define “impartial” as transparent, fair and non-discriminatory as applied to all similarly situated market participants in a fair and non-discriminatory manner based on objective, pre-established requirements.

Today’s proposal would also enhance the professionalism of SEF personnel who exercise discretion by adopting proficiency requirements and conduct standards suitable for swaps.  Furthermore, the proposal adopts rule changes in a number of places where staff has previously issued guidance or no-action relief from the current rules, thereby increasing regulatory clarity and certainty.

We have approached today's proposal with the principle that the CFTC engage its international counterparts with respect and due consideration.   The staff of the CFTC and I have made every effort to ensure that non-U.S. authorities had the opportunity to review and discuss the 2015 SEF White Paper that set out the concepts underlying today’s proposal.  Based on that outreach, I see no reason why today’s proposal would be viewed as inconsistent with the regulatory systems of other G20 jurisdictions.  We certainly welcome further dialogue with them. In fact, today’s proposal is entirely consistent with, and anticipated by, recent discussions with foreign authorities about the CFTC's SEF regime, including the equivalence agreement for swaps trading platforms with the European Commission that EC Vice President Dombrovskis and I announced one year ago here in this room.  That agreement, which focused on an outcomes-based approach toward EU equivalence and CFTC exemptions, was made by both parties with full knowledge and understanding of the changes advocated in the 2015 SEF White Paper and presented to us today.

Let me briefly address today’s request for comment on the practice of name give up in swaps markets. There are a range of perspectives on this market practice.  I have an open mind as to the advisability of restrictions on the practice and what form a rule would take, if at all.  I look forward to comments and hearing more about the current impact of this practice in the marketplace.

One final point: today’s proposal will invariably be slammed by opponents of change as a “rollback” of Dodd-Frank.  Any such characterization would be disingenuous.

Those who examine my record know that I have been a consistent supporter of the swaps reforms embodied in Title VII of the Dodd-Frank Act.  In fact, of the current five Commissioners, I may have been the first to publicly state my support for Title VII.[5]  And, I have not waivered since.  Congress got Title VII right.  There, I said it again.

My support for the Title VII reforms – swaps clearing, swap dealer registration and requirements, trade reporting and regulated swaps execution - is not based on academic theory or political ideology.  It is based on fifteen years of commercial experience.  Done right, the reforms are good for American markets.

So is today’s proposal.  It is not a rollback, but a policy improvement, a step forward, to enhance swaps market health and vitality that is true to Congressional intent and purpose. I trust that market participants and interested parties will fairly consider it with the good faith with which it is presented. I look forward to a broad and active discussion.

In closing, I compliment the DMO staff for putting together a balanced rule proposal and request for comment.  I would like to commend them for their many hours of hard work, the quality of the written proposal and their thoughtfulness and engagement throughout. 

You know, it is satisfying to see how an old White Paper, with ample time and reflection, can become a formal proposal, an arrow hitting its mark. 

I look forward to the public’s comments, healthy discussion, and a final rule in 2019.

[1] Sandor, Richard L., “Electronic Trading & Blockchain: Yesterday, Today and Tomorrow,” 2018, World Scientific Publishing Co. Pte. Ltd.

[2] Robert Mackenzie Smith, “SEF reforms could distort new, sounder benchmark rates,” Risk.net, 19 Oct. 2016, at: https://www.risk.net/derivatives/6049931/sef-reforms-could-distort-new-sounder-benchmark-rates.

[3] Christopher Doering & Roberta Rampton, “US May See 100 New Swaps Execution Entities: Broker,” Reuters, Oct. 12, 2010, at: https://www.reuters.com/article/us-financial-regulation-sefs/u-s-may-see-100-new-swap-execution-entities-broker-idUSTRE69B69020101012.

[4] Commissioner J. Christopher Giancarlo, Pro-Reform Reconsideration of the CFTC Swaps Trading Rules: Return to Dodd-Frank, Jan. 29, 2015, http://www.cftc.gov/idc/groups/public/@newsroom/documents/file/sefwhitepaper012915.pdf; (“2015 SEF White Paper”); and Swaps Regulation Version 2.0: An Assessment of the Current Implementation of Reform and Proposals for Next Steps, April 26, 2018.

[5] Wholesale Markets Brokers’ Association, Americas, Commends Historic US Financial legislation, Jul. 21 2010, available at: http://www.lexissecuritiesmosaic.com/gateway/CFTC/Speech/01_WMBAA-Dodd-Frank-Law-press-release-final123.pdf

Statement of Chairman J. Christopher Giancarlo Regarding the Final Rule on Swap Dealer De Minimis Calculation

November 5, 2018

Washington, DC – Today’s final rule on the numeric threshold for swap dealer de minimis will provide the market with certainty that the threshold will not fall from $8 billion to $3 billion.  I fully support the proposed final rule.

The action before us is without prejudice to all other items in the Commission’s June 2018 NPRM.  That includes various proposed rule amendments and other topics for consideration.  Those proposals and considerations are clearly of wide ranging interest as evidenced by the public comments received.  They remain under staff consideration pending further Commission action.

Indeed, I will direct CFTC staff to continue their analysis of the range of matters raised in the June 2018 NPRM and comments submitted by the public. 

I will specifically ask staff to conduct a study on possible alternative metrics for the calculation of the swap dealer de minimis threshold drawing upon proposals in the June 2018 NPRM, including the feasibility of: (i) removing cleared swaps from the current de minimis calculation; (ii) haircutting cleared swaps included in the current de minimis calculation; (iii) adopting a new, bifurcated de minimis calculation that uses initial margin amounts for cleared swaps and entity-netted notional amounts for uncleared swaps; and (iv) applying other risk-based approaches that the staff may recommend.  I will be asking the staff for specific deadlines and deliverables for this work.  Once staff has reviewed and analyzed the data, I expect that the study will be made public for further discussion and possible Commission consideration. 

I deliberately decline at this time to express any view on the appropriateness of whether any of the proposals in the June 2018 NPRM not before us today should be addressed by CFTC unilateral rulemaking or joint consideration with the U.S. Securities and Exchange Commission (SEC).

Be assured that SEC Chairman Clayton and I - and our fellow CFTC and SEC Commissioners - are committed to working together on robust harmonization where appropriate and working jointly where necessary on these and other matters. 

With respect to IDIs, staff has informed me that they would consider no-action relief for IDIs pending formal Commission action should they receive a meritorious request. 

In sum, I am hopeful that we will today provide market certainty that the de minimis threshold will not fall below its current level. 

Surely, it has taken a while to reach this point.  Yet, I am hopeful that we may achieve it with a good degree of consensus across the full Commission.  Assuming so, then we have increased market certainty – a very good thing in trading markets. 

Sometimes it’s worth the wait.

Remarks of CFTC Commissioner Rostin Behnam at the ASIFMA 2018 Annual Conference: Developing Asia’s Capital Markets, Singapore

Fintech, Friction, and Formula 1:  A Learning Journey

October 31, 2018
[Delivered in Singapore November 1, 2018]

Introduction

Thank you for the kind introduction.  It is a pleasure and honor to join you today.  I want to thank Mark Austen and the Asia Securities Industry and Financial Markets Association (ASIFMA) for inviting me to both deliver remarks and provide some perspectives on the global regulatory agenda.  Before I begin, please allow me to remind you that the views I express today are my own and do not represent the views of the Commodity Futures Trading Commission (CFTC or Commission) or my fellow Commissioners.

Today marks my last day of a 10-day trip through Asia during which I participated in ISDA’s Annual Japan Conference and visited with fellow regulators and market authorities and participants in Tokyo, Shanghai, Hong Kong, and Singapore.  Since I will be sharing my views on more defined global issues facing our markets in Panel 1, and I will be leaving Singapore this evening before tomorrow’s sessions covering the fintech issues pulsing at the forefront of our markets, I would like to share some thoughts on bringing fintech more conclusively into the regulatory fold.  This would help to ensure that structures are in place to limit—and not amplify—any shocks to the overall financial system in the event of a technology failure.

Level-Setting the Fintech Fit and the Need for Friction

Around the world, there are various approaches to incorporating the latest fintech advances in cloud computing, machine learning, artificial intelligence (AI), distributed ledger technology (DLT), and all manner of virtual currencies and digital assets into existing rules and regulations.  But I think we can all agree that fintech fits within the principles of financial regulation aimed at ensuring the safety and soundness of individual firms and addressing risk to the larger system while incentivizing innovation, participation, and inclusion.

Financial innovations sometimes begin as a means to avoid regulation.  However, institutions, products, and processes that prove valuable to producers, consumers and the public; that are able to integrate with established banking and regulatory systems; and that are subject to clear, enforceable standards can become mainstream in spite of circuitous beginnings.[1]  It is a misconception to believe that the notion of regulation is so offensive that the true revolutionaries, those big dreamers[2] who are innovating at the edge, will flee at the first imposition of some boundaries.  Indeed, regulation creates legal certainty, freeing innovators from concerns that their activities and products may be deemed illegal or banned from the market.[3]  Regulation also creates a little necessary friction during the development stages to ensure that processes and products meet established standards and demonstrate proficiency before being introduced into our financial networks and to the public.  This, in turn, may decrease development costs by minimizing not only the costs of engaging outside counsel to clarify legal status, but also the costs associated with litigation born from compliance failures or consumer harm from innovation gone awry.[4]

Last week in Japan, I included fintech among the list of challenges we are facing, each of which presents an “uncomfortable level of uncertainty, as well as a sense of disdain for the anticipated costs of regulatory friction.”[5]  However—and this was largely directed toward fintech — “Obscurity should not disqualify or deter us from moving forward: the decision must be to act.”[6]

In the U.S., our regulatory fintech agenda has largely been enforcement-driven.[7]  While the steady progression of proceedings in various venues is building some legal certainty into our landscape, enforcement actions don’t always bring about enough thoughtful collaboration between legitimate firms and regulators.[8]  An open, forthright dialogue without direct repercussion allows us to learn from the small errors and make them a part of the regulatory equation so as to prevent and deter bigger ones.[9]  This is especially critical with fintech because mistakes will happen.  If our goal as regulators is to certify that there are structures in place to absorb and buffer the shocks from a trader or technology failure, then our aim must be to ensure those structures—whether rules, standards, or even barriers—are informed by an understanding of what can go wrong.

With our current lack of a full understanding of the promise and perils of fintech, to echo the words of Monetary Authority of Singapore (MAS) Managing Director, Ravi Menon, we are on a “learning journey” with industry.[10]  As we move forward, market regulators will serve an essential role in fintech development by ensuring that innovators are socialized into a culture of regulation and compliance that provides legal certainty.  Indeed, a successful integration into our existing market regulatory structures will promote stability and instill greater integrity, confidence in, and adoption of fintech.

Lessons from the Learning Journey

As I mentioned in my recent remarks to ISDA Japan, I spent a surprising amount of time during my first year as a CFTC Commissioner examining fintech related issues, especially crypto-assets and DLT.[11]  As part of a self-directed listening tour, I met with designers, developers, providers, and marketers of both prominent and newer, perhaps less mainstream technologies.

Thousands of miles from Washington, D.C., it was not surprising to hear that Washington is “not necessarily open-minded” and that regulators need to “scrap everything and come up with a new vision, refresh our approach, a new paradigm.”  These individuals want regulators to think of fintech as more of an opportunity than a risk.  They asked for acceptance of their method of using failures as a component of their development process.  In the perceived relative safety of the cloud, these visionaries of the moment boasted that making errors and being misunderstood is part of your persona.  They support a slow approach to regulation to give the innovative process time to develop, and to bring early adopters into compliance first to lead the way for others to come on board.  They recognize that their products can only go so far without access to the financial network, and that access requires some loss of independence.  Many also believe that the right principles already exist in the financial regulatory system and that we can make tremendous progress by taking stock and asking whether our principles and regulations make sense for other applications.

I agree that regulation—or regulatory certainty—should not come so early that it stifles innovation or risks arbitrarily picking winners and losers.  To the extent innovations focus on new technologies as opposed to new activities, relationships, or conduct, there may be less room for uncertainty.  But in determining whether our cumulative regulatory stock is fit for fintech purposes or requires further development, we cannot engage so late that we leave our markets, infrastructures, and the public unprotected.  I agree with those who recognize that, “The urge to ‘keep pace’ with technology is thus not a call for law to grow exponentially, but a call for laws that better reflect our current technological capacity.”[12]

MAS consistently demonstrates markedly proactive thought leadership in the fintech space.  MAS stands out for its transparent fintech agenda, its early collaborative efforts and entry into the first bilateral fintech cooperation agreements,[13] and its thoughtful consideration of the appropriate engagement and deployment of regulatory tools to address risks in a targeted manner without discouraging innovation.[14]  I am pleased that our own Commission recently signed a Cooperation Arrangement on Financial Technology Innovation with MAS.[15]  As a first step toward that collaboration, in just a few weeks, the CFTC’s LabCFTC, our dedicated initiative aimed at promoting responsible fintech innovation, will participate in the Singapore fintech Festival 2018.  We are looking forward to participating in Singapore’s pragmatic and flexible approach.

Keeping up with Progress

In terms of surveying our own regulatory toolbox, in 2015 and 2016,[16] the CFTC issued rule proposals commonly referred to as “Reg AT” (Regulation Automated Trading) comprised of risk controls, transparency measures, and other safeguards aimed at enhancing the safety and soundness of automated trading on CFTC-registered designated contract markets (DCMs).  Reg AT was intended to establish pre-trade risk controls to mitigate the potential dangers of an unchecked automated trading system.[17]

It has been several years since Reg AT was a Commission priority and our immediate regulatory agenda indicates that we are unlikely to move forward on Reg AT in its current iteration.

Reflecting on my learning journey to date, I agree that the CFTC, in terms of knowledge and data, and the markets, in terms of innovation, eagerness, and perhaps even acceptance, have moved beyond the original bounds of Reg AT.  It is time to work collaboratively with industry and our fellow regulators on new regulatory initiatives aimed at establishing appropriate principles and structures in furtherance of well-reasoned, targeted, and timely oversight—which may or may not ultimately take the form of regulation—to address finech beyond algorithmic trading.  We need to consider more comprehensive and inclusive structures that address the role of technology in all of its iterations within the scope of our regulatory and supervisory structures.

I appreciate the Chairman’s openness to working with me and my fellow Commissioners, market participants, and the public to determine whether there are elements in Reg AT that could serve as a basis for a new and more effective rule. [18]  I believe that certain elements of Reg AT remain relevant and could serve as the basis for new initiatives and proposals, and that we should leverage our ever growing data resources and expertise in LabCFTC, our Market Intelligence Branch, Office of Chief Economist, Division of Enforcement, and Commissioner-sponsored advisory committees towards any future proposals.  We need action and we need ideas.  As for me, I have started thinking of an idea as to where to start…

A Stress Test Track

Autonomous or self-driving cars are one obvious analogy when discussing bringing fintech into the regulatory fold and our financial networks.  After several high-profile crashes, the most notable of which involved a self-driving Uber car with a backup driver who was looking at her phone at the time of the crash, self-driving leaders are taking a more restrained approach to integrating their technologies into our existing infrastructure so as not to further diminish public enthusiasm and doom the technology before it can truly take off.[19]  They are beginning to discuss the potential costs and benefits of additional friction[20] to slow them down while dealing with the very immediate costs that must be paid when systems are allowed to move too quickly, without that bit of resistance.[21]  Like a lot of the fintech already in use, self-driving cars rely on machine learning, they “learn” to classify and respond to situations based on datasets.[22]

Much like I learned from developers in the machine learning and AI space, it’s hard to find data—images and behaviors in the driverless car space—of every sort of situation that could happen in the real world.[23]  Solving the problem is a matter of capturing as much of the unpredictable cases and errors as possible, and then figuring out how to train systems to deal with them.[24]  As one MIT engineer noted, it’s also a matter of accepting that humans are generally terrible overseers of highly automated systems.[25]  I heard this too during my journey.  There is and there will be no perfection.  At least we know where some of the weaknesses are and, as compared to the openness of our roads and diversity of drivers, it’s a little more feasible to create structures that will limit the impact of a fintech failure.

Taking this all in, I think that we are talking about a step towards standardized proficiency requirements for innovative developments to ensure that whatever products are introduced into our markets, they meet minimum standards of resiliency and stability.  Assuming that our regulatory objectives include confirming that these innovations are able to withstand unpredictability and error and ensuring that fintech does not disrupt functioning markets, either because its design undermines market rules or misfires under extreme conditions, I think we should leverage some of our prior thinking from Reg AT on stress testing,[26] a simulation technique common in the financial industry.

As an initial step, I think we should engage in a collaborative exercise within our industry such that regulators, self-regulatory organizations, and private industry develop a closed environment for simulation, stress testing, and training new technologies.  Within this environment, fintech providers would stress test their models to demonstrate market readiness.  This process should include sharing feedback on the environment to enhance and continue the environment’s evolution and inform any plans for standard setting or best practices.  Of course, the environment would include privacy protections for users’ techniques, practices, products, and processes.  In effect, we could create an open-source stress test on a closed test track for fintech in our markets.

The devil will be in the details, and I am planning on giving this idea some more thought and socializing it within the Commission and some of my new companions along the learning journey, but I think it is worth considering.  Successful supervision does not rest solely with the regulators.  The fintech and financial industries and other stakeholders should engage, exchange their ideas, explain what they are trying to achieve and how they intend to do it.

Conclusion

Getting back to cars, I would like to end with some thoughts on the Marina Bay Street Circuit, otherwise known as the Singapore Street Circuit.  Following its inaugural race, the 2008 Singapore Grand Prix,  the Street Circuit was widely criticized by F1 drivers.  The bumps and harsh curbs, likened to tortoises on the road, raised concerns among drivers that they would suffer suspension or other damage, or worse, be pitched into the wall on the outside of a corner.[27]  The Federation Internationale de L’autombile or FIA responded to drivers’ concerns and made modifications to the curbs.  While the intent was to make the curbs safer, the modification in some instances may have created new danger points by narrowing corner entries.[28]

The Street Circuit has made several modifications over the years, but continues to hold the record for having at least one safety car appearance at every race to date.[29]  As well, there remains what’s described as a “quirky little technical problem” specific to the Street Circuit, the origin of which has never been ascertained.[30]  Near the Anderson Bridge, the cars pass over something underground that creates electrical interference, causing the cars’ sensors to show strange readings and compromising the drivers’ control over the throttle position and clutch.[31]  In spite of being a closed circuit and system where alterations can be made to respond to risks, all risks cannot be eliminated because of unknown, uncontrollable factors —in spite of the presence of human overseers of awesomely sophisticated technology.  However, it sounds like the drivers who take on the challenge of the Singapore Grand Prix are aware of the risks and demonstrate the requisite talents to be on the road.

Regulators must always balance managing risk while facilitating innovation; providing certainty while remaining flexible; promoting growth while protecting the little guy—and we must maintain this balancing act while promoting transparency, engaging with stakeholders and the public, and maintaining full accountability.  How does that saying go, “At least we have each other.”  In all seriousness, as progress continues in all facets of fintech, we will increasingly need to consult, collaborate, and compare notes with one another in order to get the right level of friction.  I’m looking forward to working with you and those big dreamers.

Thank you.

Statement from CFTC Chairman J. Christopher Giancarlo Regarding FCM’s Deposit of Customer-Owned Securities as Margin with UK Broker Relief

October 31, 2018

Washington D.C. – Today’s no-action relief reflects the CFTC's continuing efforts to accommodate, where appropriate, cross-border derivatives activity in a changing global regulatory landscape.