July 13, 2015

Via Electronic Submission: http://www.sec.gov/rules/proposed.shtml
Brent J. Fields
Secretary
Securities and Exchange Commission
100 F Street, N.E.
Washington, DC 20549-1090

Re:

Application of Certain Title VII Requirements to Security-Based Swap Transactions Connectedwith a Non-U.S. Person’s Dealing Activity that are Arranged, Negotiated, or Executed By
Personnel Located in a U.S. Branch or Office or in a U.S. Branch or Office of an Agent (Release
No. 34–74834, File No. S7-06-15)

Dear Mr. Fields:
Citadel LLC1 (“Citadel”) appreciates this opportunity to provide comments to the Securities andExchange Commission (the “Commission”) in response to its proposed rules and proposed ruleamendments (the “Proposal”) concerning security-based swaps (each, a “SB Swap”) that are arranged,
negotiated or executed by personnel located in the United States.2
Citadel firmly believes that the reforms advanced in Title VII of the Dodd-Frank Act - in particular
the clearing and security-based swap execution facility (“SB SEF”) trading requirements - will, if
appropriately implemented, mitigate systemic risk, increase transparency, promote competition, andotherwise improve the safety, stability and integrity of the SB Swap markets. Therefore, while we agreewith the Commission’s proposal to generally apply Title VII requirements to transactions between two
non-U.S. persons if they are arranged, negotiated, or executed by personnel routinely located in the
United States but booked to a non-U.S. entity (“Nominally Offshore Transactions”),3 we believe theCommission’s proposal to exempt Nominally Offshore Transactions from the clearing and SB SEFtrading requirements (the “Proposed Exemption”) would have wide-ranging adverse consequences, andshould not be included in any final rule.4

1

Citadel is a global investment firm built around world-class talent, sound risk management, and innovative market-leading
technology. For nearly a quarter of a century, Citadel’s hedge funds and capital markets platform have delivered meaningful andmeasurable results to top-tier investors around the world. Citadel’s team of more than 550 investment professionals deploy
capital across all major asset classes, in all major financial markets, from offices in Chicago, New York, San Francisco, Boston,
London, Hong Kong, and Shanghai.
2
Application of Certain Title VII Requirements to Security-Based Swap Transactions Connected With a Non-U.S. Person’s
Dealing Activity That Are Arranged, Negotiated, or Executed by Personnel Located in a U.S. Branch or Office or in a U.S.
Branch or Office of an Agent, 80 Fed. Reg. 27,444 (May 13, 2015).
3
For example, a non-U.S. person would be required to count such SB Swap transactions towards the de minimis threshold for SB
Swap dealer registration.
4
While we appreciate that Nominally Offshore Transactions may at some point become subject to foreign clearing and/or trading
requirements, we nevertheless believe that Nominally Offshore Transactions are too integral to the U.S. financial system to be
granted a permanent exemption from U.S. clearing and trading requirements. Substituted compliance would provide a more
appropriate mechanism to handle any duplicative requirements that may one day apply to such transactions.

1

We believe that the Proposed Exemption would undermine key Dodd-Frank reform objectives to thedetriment of investors, the SB Swap markets and the broader U.S. financial system. As we detail in
Section II below, we believe the Proposed Exemption would:

impair the development of U.S. SB SEFs and liquidity on those SB SEFs;

harm end-users of SB Swaps by perpetuating the legacy two-tiered market structure;inhibit pre-trade price transparency in the SB Swap markets;

frustrate impartial access to SB Swap markets; and

stifle competition, disadvantage domestic SB Swap dealers and further concentrate risk in the SB
Swap markets.

Further, we believe that the premises underlying the Proposed Exemption merit further scrutiny andreconsideration. As we discuss in Section III below:
Nominally Offshore Transactions do present sufficiently material risks to the U.S. financial
system to justify the application of the clearing and SB SEF-trading requirements;

Nominally Offshore Transactions in fact represent a very significant segment of the SB Swap
markets in the United States;the conclusion that SB Swaps are illiquid, and thus unsuitable for clearing and SB SEF-trading, ispremature, and is based in part on data that appears to be flawed in certain important respects;the premise that the application of regulatory capital and margin requirements is sufficient, and an
appropriate substitute for clearing and SB SEF-trading requirements, is also flawed;



a complete consideration of the competitive implications of the Proposed Exemption is lacking;and

the risk of dealers relocating personnel is vastly overstated.

2

I. Threshold Considerations
A. The Proposal Effectively Carves Out the Inter-Dealer Market from Title VII’s Clearing and
SB SEF-trading Requirements
Commissioner Stein correctly observed that one of the most profound impacts of the Proposal is tocarve out the inter-dealer market from the SB SEF-trading requirement.5 The Proposed Exemption would
indeed yield a U.S. SB Swap market that “consist[s] of one very large pool of transactions . . . (interdealer trades, and transactions between dealers and non-U.S. person non-dealers) and one much smaller
pool limited to transactions between dealers and U.S.-person counterparties.”6 If the Proposal wereadopted, the New York trading desks of two U.S.-based financial groups could transact a single-namecredit default swap (“Single-Name CDS”) with each other, and so long as each booked the transaction to
an offshore affiliate that does not benefit from direct credit support from a U.S. person, the trade would be
exempt from the Title VII clearing and SB SEF-trading requirements. That is, dealers could avoid any
requirement to participate in open, competitive, transparent markets in which all participants have equal
access simply by engaging in unguaranteed Nominally Offshore Transactions. Consequently, theProposal would ingrain “offshore,” dealer-only pools of SB Swap liquidity in circumstances where the SB
SEF-trading mandate would otherwise apply.7 Therefore, it would ensure that the legacy, pre-DoddFrank paradigm of opaque, two-tiered markets dominated by a few large dealers persists, despite clear
congressional intent to reform the SB Swap markets.
B. Significant Policy Concerns
We believe the Proposed Exemption represents a significant step backward in Commission policy
concerning clearing and SB SEF trading. As former Treasury Secretary Timothy Geithner has observed,
amnesia causes financial crises,8 and the Proposal understates the contribution of purportedly “offshore,”
uncleared credit derivatives transactions to the recent U.S. financial crisis. Commissioner Stein is correct
to recognize that merely booking transactions in foreign entities will not protect the United States. 9 We
believe that the Proposed Exemption, if implemented, would compromise the mitigation of systemic risk
and undermine efforts to address ongoing weaknesses in the SB Swap marketplace, thereby perpetuating
vulnerabilities and inefficiencies in the American financial system and economy. Given the roots of the
5

Kara M. Stein, Commissioner, S.E.C., Statement on Proposed Rules for U.S. Personnel and Certain Activities of Non-U.S.
Person’s Security-Based Swaps Dealing (Apr. 29, 2015), available at http://www.sec.gov/news/statement/stein-statement-onproposed-security-based-swaps-dealing.html (“[I]f the transactions governed by today’s proposed rules are swept out of the U.S.
SEF execution requirement, that could result in an unfortunate loss of liquidity for U.S. SEFs. It seems to me that we risk losing
some, or even all, interdealer liquidity from the U.S. SEF marketplace.”).
6Proposal, supra note 2, at 27,449.
7
In fact, in the context of the Commodity Futures Trading Commission’s (“CFTC”) efforts to regulate cross-border swaps
activities, the financial press has observed that swap dealers may engage in restructuring exercises precisely to allow them topreserve access to these dealer-only pools. See, e.g., Silla Brush, Wall Street Defends Overseas Swap Trading From U.S.
Regulation, Bloomberg (July 1, 2014, 5:00 AM), http://www.bloomberg.com/news/articles/2014-07-01/wall-street-defendsoverseas-swap-trading-from-u-s-regulation; Katy Burne, Big U.S. Banks Make Swaps a Foreign Affair, Wall St. J. (Apr. 27,
2014, 4:52 PM), http://online.wsj.com/articles/SB10001424052702304788404579520302570888332; Silla Brush & Jesse
Hamilton, Banks’ Overseas Swaps Moves Said to Draw CFTC Attention, Bloomberg (Apr. 26, 2014 12:01 AM),
http://www.bloomberg.com/news/2014-04-25/banks-overseas-swaps-moves-said-to-draw-cftc-attention.html. See also the
CFTC’s comment that it is “aware that some non-U.S. [swap entities] removed guarantees in order to fall outside the scope of
certain Dodd-Frank requirements.” CFTC., Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap
Participants 39 (2015), available at
http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/federalregister062915.pdf.
8"Amnesia is what causes financial crises. These reforms are worth fighting to preserve." Timothy Geithner, Op-Ed, Financial
Crisis Amnesia, Wall St. J. (Mar. 1, 2012, 7:19 PM),
http://www.wsj.com/articles/SB10001424052970203986604577253272042239982.
9
Stein, supra note 5 (“[T]he U.S. is such an important market center, and the swaps marketplace is so interconnected. Are there
really many situations in which swaps booked abroad would actually pose no risk to the United States?”).

3

last financial crisis, it strains belief that the Commission might not impose clearing and SB SEF-trading
requirements in respect of a multi-trillion dollar segment of the U.S. Single-Name CDS market. While
we note the Commission’s intent to monitor progress in this area,10 we encourage the Commission torecognize that it would be very difficult for the Commission to reverse the Proposed Exemption if it isadopted.
II.

Adverse Implications of the Proposed Exemption
A. The Proposed Exemption is Detrimental to the Development of SB SEFs and SB SEF
Liquidity

The Proposed Exemption would result in a crippling absence of inter-dealer liquidity from the SB
SEF marketplace. This means that, contrary to Congressional intent11 expressly recognized by theCommission,12 the development of SB SEFs would be materially impaired. Commissioner Stein iscorrect to observe that, consequently, the Proposal would destroy liquidity on SB SEFs;13 as long as thepools of offshore, off-facility, inter-dealer liquidity described above exist, there would be no incentive for
SB Swap dealers to meaningfully support the development of SB SEFs beyond replicating the channels
that currently exist to serve dealer-to-customer flow. Given current market dynamics, without incumbent
dealer liquidity, an SB SEF can neither attract customer liquidity nor can it attract alternative liquidity
providers, who, without access to inter-dealer market liquidity, cannot adequately service customer
demand. The Proposal would, therefore, largely seal the fate of any all-to-all SB SEFs in the U.S. market.
B. The Proposed Exemption is Detrimental to End-Users
The Proposal does not strike an appropriate balance between competition and regulation and would
have significant adverse effects on competition in the SB Swap markets. Commissioner Piwowar iscorrect to express concerns about the impact of the Proposal on swap dealers’ counterparties.14 The
Commission itself observes that incumbent swap dealers benefit greatly from opaque, two-tiered markets
in which customers are prevented from observing and accessing liquidity at the levels routinely shown by
swap dealers to each other.15 Because it entrenches this legacy two-tiered market structure, the Proposed
Exemption would hinder the evolution of SB Swap market structure, ensuring that improvements topricing, liquidity and transparency, that would otherwise accompany the development of SB SEFs, simply
do not materialize. Perpetuating the legacy two-tiered market structure also confines end-users to apermanent “price-taker” role in the SB Swap markets, limited to transacting only with swap dealers. This
would prevent the emergence of any all-to-all trading platforms where end-users could also become10

See Proposal, supra note 2, at 27,468.
See, e.g., 156 Cong. Rec. S5915 (daily ed. July 15, 2010) (statement of Sen. Reid) (“[The Dodd-Frank Act] will move as manyswaps as possible from being opaque, bilateral transactions onto clearinghouses, exchanges, and other trading platforms.”).
12
Registration and Regulation of Security-Based Swap Execution Facilities, 76 Fed. Reg. 10,948, 10,949 (Feb. 28, 2011) (“A key
goal of the Dodd-Frank Act is to bring trading of SB swaps onto regulated markets.”).
13
See Stein, supra note 5.
14
Michael S. Piwowar, Commissioner, S.E.C., Statement at Open Meeting on Cross-Border Security-Based Swap Rules
Regarding Activity in the United States (Apr. 29, 2015), available at http://www.sec.gov/news/statement/statement-cross-bordersecurity-based-swap-rules.html (“[The Commission] must balance a number of relevant considerations, including how toeffectively implement our regulatory authority, the potential market impact of any rules we put in place, and concerns related tocompetition between market participants . . . these rules will impact not just the non-U.S. dealers operating under this model, butalso their counterparties and U.S. competitors.”).
15
See Proposal, supra note 2, at 27,452 (“The high level of inter-dealer trading activity reflects the central position of a small
number of dealers, each of which intermediates trades between many hundreds of counterparties. While we are unable to quantify
the current level of trading costs for single-name CDS, those dealers appear to enjoy market power as a result of their small
number and the large proportion of order flow they privately observe. This market power in turn appears to be a key determinantof trading costs in this market.”).
11

4

“price-makers” and function as an additional source of liquidity to the market.
Proposal does have real economic costs for end-users of SB Swaps.

Consequently, theC. The Proposed Exemption Would Inhibit Pre-Trade Price Transparency
The Commission believes that it is important to foster pre-trade transparency to encourage greater
price competition.16 As the Commission is aware, there is currently limited pre-trade price transparency in
SB Swap markets.17 End-users can neither observe, nor access, the dealer-only pools of liquidity
described above. As the Commission notes in the Proposal,18 trading platforms like SEFs offer a degreeof pre-trade price transparency that is simply unavailable in the bilateral context. Because the Proposed
Exemption heads off the prospect of liquid SB SEFs, it inhibits pre-trade price transparency. While weagree with Chair White that the introduction of post-trade reporting will bring some degree of neededtransparency to the inter-dealer market, this pales in comparison to, and is not an adequate substitute for,introducing pre-trade price transparency.19 If the Proposed Exemption is ultimately adopted, from theperspective of end-users, post-trade reporting of inter-dealer activity will merely show prices that wereavailable in a market from which end-users are excluded by virtue of the Commission’s rulemakings.
D. The Proposed Exemption Frustrates Impartial Access
The Proposed Exemption will allow the inter-dealer market for SB Swaps to remain off-SB SEF, andby extension, eliminates the prospect of obtaining impartial access to that liquidity pool. Congress
intended SB SEFs to create a level playing field on which all eligible market participants would have fairand impartial access to SB Swap liquidity. By ensuring that the inter-dealer market remains off-SB SEF,
the Proposed Exemption effectively disapplies the Dodd-Frank requirement for impartial access to the SB
Swap markets.
E. The Proposed Exemption Stifles Competition and Disadvantages Domestic Swap Dealers
The Proposed Exemption is particularly harmful to the competitiveness of domestic SB Swap dealersthat choose not to operate through offshore affiliates. Commissioner Piwowar is correct to express
concerns about the impact of the Proposal on such domestic swap dealers.20 In the Proposal, theCommission states that, in the absence of the rules contained in the Proposal, U.S. persons would be
incentivitized to deal through non-U.S. affiliates to avoid becoming subject to Title VII requirements. 21
In fact, the Proposed Exemption creates precisely that incentive. The same logic that drives the need tocount Nominally Offshore Transactions towards the de minimis threshold for registration drives the needto subject them to the SB SEF-trading mandate; allowing those transactions to reside outside importantelements of the Commission’s Title VII regulatory scheme will cause liquidity fragmentation. To access
16

Registration and Regulation of Security-Based Swap Execution Facilities, supra note 12, at 10972.
Id. at 10,949 (“The current market for [security-based] swaps is opaque, with little, if any, pre-trade transparency (the ability ofmarket participants to see trading interest prior to a trade being executed) . . . .”).
18
See Proposal, supra note 2, at 27,457.
19
Mary Jo White, Chair, S.E.C., Statement at Open Meeting on Cross-Border Security-Based Swap Rules Regarding Activity in
the United States and Pay Versus Performance (Apr. 29, 2015), available at http://www.sec.gov/news/statement/statement-atopen-meeting-april-29-2015.html (“The trade reporting and public dissemination of transaction data . . . should bring neededtransparency, particularly to the inter-dealer market, to the benefit of all participants in the market -- dealer and non-dealer
alike.”).
20
See Piwowar, supra note 14.
21
See Proposal, supra note 2, at 27,449 (“In the absence of the rules being proposed in this release, these competitive effects ofdisparate regulatory treatment may create an incentive for U.S. persons to use non-U.S.-person affiliates or non-U.S.-person
agents that are located in the United States to engage in dealing activity with non-U.S.-person counterparties, because these nonU.S. persons could continue to deal with non-U.S.-person counterparties without being required to comply with any Title VII
requirements.”).
17

5the “offshore” pool of dealer-only liquidity described above, such domestic swap dealers would be forcedby the Proposal to establish separately capitalized, offshore affiliates and to book trades there. Therefore,
the Proposed Exemption actually pushes SB Swap activity away from the SB SEF-trading mandate. 22 We
struggle to see how the Commission aligns this outcome with its understanding of congressional intent.23
Also, as we discuss further below, the Commission’s consideration of the competition implications of
the Proposal is materially incomplete because it understates the role of clearing in promoting competition
and gives inadequate consideration to the anti-competitive implications of excluding Nominally Offshore
Transactions from the SB SEF-trading requirement.
These anti-competitive elements of the Proposal also exacerbate “too-big-to-fail risk” by allowing thecontinued concentration of SB Swap risk in the hands of a small number of incumbent dealers. In that
respect, the Proposal runs contrary not only to congressional intent, but also to G20 goals with regard tosystemic stability.24
III. Unsupported Premises for the Proposed Exemption
A. “Offshore” Trades Have a Well-Documented History of Threatening U.S. Banks and the U.S.
Economy
The Commission’s position in the Proposal that, absent explicit support from a U.S. entity, the risks
in Nominally Offshore Transactions reside primarily outside the U.S. financial system25 is inconsistent
with the empirical evidence and inconsistent with other Commission rulemakings.
As we note above, Commission Chair White has correctly observed that some of the most significant
non-U.S. dealers are members of U.S.-based financial groups.26 The CFTC has noted that the U.S.’slargest banks each have somewhere between 2,000 and 3,000 legal entities around the globe and thatsome of them have hundreds of legal entities in the Cayman Islands alone.27 Upon review of the recent
financial crisis, the Commission should find ample evidence that purportedly offshore transactions posesignificant risks to the U.S. financial system and to U.S. investors, whether or not the “offshore” entities
involved benefitted from explicit credit support from U.S. entities.
Indeed, the Commission observes that U.S. financial groups will likely stand behind the obligationsof their offshore affiliates even in the absence of explicit guarantees and that this implicit support posesrisks to U.S. financial markets and to U.S. investors.28 As we understand it, the Commission
preliminarily believes that such risks need not be mitigated through the application of the clearing
mandate because U.S. markets are adequately protected by other provisions of the Dodd-Frank Act
22

And would, in fact, promote the type of “restructuring charades” that Commissioner Aguilar intended them to avoid. See Luis
A. Aguilar, Commissioner, S.E.C., Statement on Focusing on Dealer Conduct in the Derivatives Market (Apr. 29, 2015),
available at http://www.sec.gov/news/statement/focusing-on-dealer-conduct-in-the-derivatives-market.html.
23
See Registration and Regulation of Security-Based Swap Execution Facilities, supra note 12.
24
See Leaders’ Statement, the Pittsburgh Summit (Sept. 24-29, 2009), available at https://g20.org/wpcontent/uploads/2014/12/Pittsburgh_Declaration_0.pdf (“Improving over-the-counter derivatives markets: All standardized OTC
derivative contracts should be traded on exchanges or electronic trading platforms, where appropriate, and cleared through central
counterparties by end-2012 at the latest. . . . We ask the FSB and its relevant members to assess regularly implementation andwhether it is sufficient to improve transparency in the derivatives markets, mitigate systemic risk, and protect against market
abuse.”).
25
See Proposal, supra note 2, at 27,481.
26
White, supra note 19.
27
Interpretive Guidance and Policy Statement Regarding Compliance With Certain Swap Regulations, 78 Fed. Reg. 45292,
45371 (July 26, 2013).
28
See Proposal, supra note 2, at 27,482.

6

concerning, for example, capital requirements.29 In Section 3C of the Securities Exchange Act of 193430(the “Exchange Act”), Congress established a list of factors to be considered by the Commission when
determining whether to apply the clearing requirement to a class of SB Swap.31 The list of factors does
not include whether other legislative initiatives dispense with the need for clearing. The Dodd-Frank Act
was intended as a comprehensive package of reforms of which clearing of SB Swaps was intended to be
an integral element. The Commission’s apparent reading of the Dodd-Frank Act would, instead, makemuch of Title VII redundant. We note that the CFTC, which has implemented a significant number ofrules called for under Title VII’s clearing requirements, clearly does not share the Commission’s apparent
interpretation. In fact, in this regard, there could hardly be less regulatory consistency between theCommission’s Proposal and the apparent position of the CFTC.32 This is of particular concern given theclose economic relationship between the Single-Name CDS market regulated by the Commission and the
CDS index market regulated by the CFTC, and the fact that many market participants maintain portfoliosthat include both sets of instruments.
The Commission also appears to take significant comfort from the fact that U.S. financial groups may
be required to disclose implicit support obligations under provisions of the Exchange Act.33 If that were
sufficient, Congress need not have prohibited banking entities from sharing the same name as a hedge
fund for corporate, marketing, promotional, or other purposes34 and the Commission need not haveendorsed this prohibition in its final rulemaking to implement the Volcker Rule35 (the “Volcker
Rulemaking”) by recognizing that a banking entity could come under pressure for reputational reasons to
support an entity in distress that bears the banking entity’s name.36 Disclosure, in this instance, simply is
not adequate.
More strikingly, in its Volcker Rulemaking, the Commission states that if personnel of a non-U.S.
entity that arrange, negotiate or execute transactions (including swap transactions) are located in the
United States then it would not be possible to “ensure that . . . risks remain largely outside of the UnitedStates” or to “limit potential risk that could flow to the U.S. financial system.”37 These statements,
around which the Commission was in full agreement with the Department of the Treasury, the Board ofGovernors of the Federal Reserve System, the Federal Deposit Insurance Corporation and the CFTC,
cannot be squared with the position of the Commission in the Proposal and there is no discernible
technical justification for the apparent change in the Commission’s position.
We urge the Commission to reconsider the factual bases for its conclusion that the financial risks ofNominally Offshore Transactions reside primarily outside the United States. We ask that, in doing so, theCommission adopt a final position that comports with its other Dodd-Frank rulemakings and reflects
greater consistency with the approach to statutory interpretation adopted by the CFTC.
B. Given that Nearly All Transactions in the U.S. SB Swap Markets Have Some Cross-Border
Element, a Comprehensive Regulatory Regime is Required

29

Id.
Securities Exchange Act of 1934, 15 U.S.C. § 78a-78kk (2012).
31
See Securities Exchange Act § 3C(b)(4)(B), 15 U.S.C. § 78c-3(b)(4)(B) (2012).
32
Section 712(a)(2) of the Dodd-Frank Act which provides in part that the Commission shall “consult and coordinate to theextent possible with the Commodity Futures Trading Commission and the prudential regulators for the purposes of assuring
regulatory consistency and comparability, to the extent possible.”33
See Proposal, supra note 2, at 27,482.
34
See 12 U.S.C. § 1851(d)(1)(G)(vi) (2012).
35
See Prohibitions and Restrictions on Proprietary Trading and Certain Interests in, and Relationships With, Hedge Funds andPrivate Equity Funds, 79 Fed. Reg. 5536 (Jan. 31, 2014).
36
Id. at 5713.
37
Id. at 5655.
30

7Albeit that a Single-Name CDS has cross-border elements, it may still be a transaction conducted in
the U.S. markets. Typically, when buy-side traders in the United States that are responsible for North
American SB Swap trading execute a Single-Name CDS, the entity that is the ultimate counterparty to thetransaction is a U.S. dealer, a foreign affiliate of a U.S. dealer,38 or a foreign dealer. The buy-side entity
may book the trade to a U.S. or non-U.S. trading vehicle and its prime broker in respect of the transaction
may be a U.S. dealer or a non-U.S. dealer. However, in our experience, buy-side decision makers withrespect to a given trade deal directly with the U.S-based sales and trading staff of the dealer. Indeed, tous, if a principal place of business test were applied to the SB Swap business of a typical dealer
participating in the U.S. SB Swap markets, as opposed to the legal entity in which the dealer merely
books its trades, the principal place of business would almost certainly be the United States. Further, as
the Commission knows,39 much of the inter-dealer market in North American Single-Name CDS iscurrently cleared by ICE Clear Credit, a clearing agency based in Atlanta, Georgia. The Proposal does
not reflect these realities when it excludes Nominally Offshore Transactions from U.S. clearing and SB
SEF-trading requirements.
We believe that Nominally Offshore Transactions are too integral to the U.S. financial system to beleft to the as-yet-unsettled regulations of foreign regulators. Once foreign SB Swap regulatory regimes
develop more fully, an approach to Nominally Offshore Transactions that takes substituted complianceinto account in suitable cases may be appropriate and we encourage the Commission to keep that option
open in the interests of international comity and avoiding duplicative regulation. However, it is
impossible to predict precisely how foreign SB Swap regulatory regimes will develop. It also possible
that, in some jurisdictions in which Nominally Offshore Transactions are booked, none will develop. We
believe the Commission agrees with us that Nominally Offshore Transactions clearly constitute activity
conducted within the United States.40 We urge the Commission to conclude that, presently, it would beinappropriate to exclude such activity from central aspects of the Title VII regime like the clearing and
SB SEF-trading requirements in the hope that the interests of U.S. taxpayers will be adequately protectedby foreign regulators.
C. The SB Swap Markets are Not Illiquid
1. The Data Presented Does Not Support the Commission’s Conclusions
The Proposed Exemption is premised on a conclusion that the market for Single-Name CDS is thinlytraded and not suited to SB SEF trading.41 First, we see no basis for that conclusion in the data
underlying the Proposal; a conclusion that SB Swap markets are smaller than other swap markets42 is nota conclusion that SB Swap markets are illiquid and unsuitable for SB SEF trading. By the Commission’s
own estimate, the Single-Name CDS market is an almost $11 trillion dollar market. Also, considering
only the notional size of the market relative to the notional size of other swap markets is misleading; risk
and notional amounts are not necessarily correlated and, on a risk-adjusted basis, the risks embedded in
the Single-Name CDS market are very significant even if the market is overshadowed by notionalamounts in the interest-rate swaps market. Single-Name CDS is also one of the most standardized swap
38

Commission Chair White is correct to observe that “some of the most significant non-U.S. dealers are, in fact, members of
U.S.-based financial groups.” White, supra note 19.
39
See Proposal, supra note 2, at 27,454-55.
40See, e.g., Proposal, id. note 2, at 27,465 (“Because we are focusing in this proposal solely on transactions in which the nonU.S. person is engaged, directly or indirectly, in dealing activity in the United States, the proposed rules would not impose
requirements on non-U.S. persons that are ’transacting a business in security based swaps without the jurisdiction of the UnitedStates’ for purposes of section 30(c).”).
41
Id. at 27,482 n.308 (“We also note in this regard the relatively low liquidity of the security-based swap markets in general,
even for the most liquid products”).
42
Id. at 27,457.

8

products traded today43 and, as such, is potentially well-suited to SB SEF trading. Given the ongoing
efforts in the capital markets to establish electronic trading venues for corporate bonds,44 it is anomalous
to suggest that the derivative product that references this underlier, but that is far more standardized thanthe underlier, is ill-suited to electronic trading. Finally, the fact that some Single-Name CDS are illiquid
or trade infrequently is not a justification for preliminarily concluding that all Single-Name CDS are
unlikely to be suited to clearing or trading on SEFs. While Figure 5 in the Proposal shows a long,
infrequently traded “tail” of instruments in the Single-Name CDS market, this is not particularly
surprising, and belies the fact that Figure 5 also shows that there is a significant liquid core of the SingleName CDS market that may be well-suited to clearing and SB SEF-trading.
2. Elements of the Commission’s Data Appear Flawed
The data that form the basis of the Commission's understanding of the effect of the Proposal appear tosuffer from certain defects.45 Further, it appears to us that the data have produced some misleading results.
They appear to lead to the conclusion that SB Swap dealing is not a customer-driven business, which is
not at all consistent with our experience. For example, while 99% of Single-Name CDS price forming
transactions in 2014 may have involved a dealer, staff estimates that more than 80% of notional volume
has ISDA-recognized dealers as counterparties on both sides of the transaction46 are unlikely to beaccurate. In the post-Volcker environment, SB Swaps is entirely a customer-driven, intermediation
business for dealers. Dealers trade with each other largely to hedge risk acquired from their customer
base. As the Commission may have noted on page 27,452 of the Proposal (“The high level of inter-dealer
activity reflects the central position of a small number of dealers, each of which intermediates trades
between many hundreds of counterparties”), the Commission’s figures may be skewed by arrangements
such as derivatives prime brokerage, where every customer trade results in at least two trades involving a
dealer.
Further, we agree that reliance on DTCC-TIW entity domicile determinations results inmischaracterization of the market, since it appears to us that it does not accurately reflect the involvementof hedge funds managed by U.S.-based investment advisors that are U.S. persons for purposes of theCommission’s cross-border rules, which we believe play a significant role in the U.S. SB Swap markets.
3. Inter-Dealer Markets for Single-Name CDS Already Have Clearing
The Commission has recognized that the clearing of CDS plays an important role in reducing
systemic risk47 and it is difficult to marry the Commission’s concerns about the systemic implications of
uncleared CDS trading with the suggestion that the market is illiquid and thinly traded.48 As theCommission knows, as a risk management matter, it would be unsafe and unsound for a clearing house toengage in the clearing of illiquid instruments. Yet the Commission has approved ICE Clear Credit and43

Indeed, the Commission’s own data indicates that 71% of certain recent Single-Name CDS activity was suitable for clearing.
Id. at 27,454.
44See, e.g., TruMid, Overview (last visited July 9, 2015), https://www.trumid.com//Overview.aspx (“TruMid is a revolutionary
new electronic trading marketplace for corporate bonds and CDS that will dramatically increase liquidity in the credit markets.”)
45
See, for example, the Commission’s comments about data quality in the Proposal, supra note 2, at 27,449-50.
46
See Press Release, SEC, SEC Adopts Cross-Border Security-Based Swap Rules (June 25, 2014), available at
http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370542163722.
47
See, e.g., Order Granting Temporary Exemptions Under the Securities Exchange Act of 1934 in Connection With Request on
Behalf of Ice Clear Europe Limited Related to Central Clearing of Credit Default Swaps, and Request for Comments, 74 Fed.
Reg. 37,748, 37,749 (July 29, 2009).
48
ISDA appears to disagree with the Commission’s apparent position that segments of the market are cleared notwithstanding
their illiquidity when it says: “Today, most activity in the liquid CDS indices and single-names is eligible for clearing. And muchof this activity has been cleared.” ISDA, Non-Cleared OTC Derivatives: Their Importance to the Global Economy 15 (2013),
available at http://www2.isda.org/attachment/NTM2OA==/Non-Cleared%20OTC%20Derivatives%20Paper.pdf.

9

ICE Clear Europe to clear Single-Name CDS products, suggesting that the Commission views those
products as sufficiently liquid to be robustly priced on a daily basis (to allow margin calculations) and,
therefore, safely cleared. As the Commission is aware, much of the inter-dealer Single-Name CDS
market is already cleared. In fact, the industry is trying to increase standardization and the use of clearing
as means of further increasing liquidity in that product.49 Consequently, any efforts to exclude Nominally
Offshore Transactions from the clearing and SB SEF-trading requirements are apparently not directed at
the clearing requirement (since the trades will likely be cleared in any event), but rather at excluding avery significant portion of the inter-dealer market from the SB SEF-trading requirement.
4. Separate Liquidity Determinations are Already Embedded in Clearing / SB SEF-Trading
Determinations – No Need to Pre-Determine that Outcome in Cross-Border Rules
It is unclear why the Commission distinguishes between Nominally Offshore Transactions and othertransactions if it believes Single-Name CDS are illiquid. As the Commission is aware, in reviewing
whether a SB Swap should be subject to the clearing requirement, the Commission must consider the
existence of significant outstanding notional exposures and trading liquidity in the SB Swap.50 Either
Single-Name CDS are sufficiently liquid to be made subject to the clearing requirement or they are not; if
the Commission believes that Single-Name CDS are illiquid, presumably the Commission will not subject
Single-Name CDS to the clearing requirement under any circumstances, meaning that liquidity need not
be a central element of the Commission’s cross-border rulemakings. It is difficult to imagine a more
controversial determination, given the focus on the role of SB Swaps in the global financial crisis, but theCommission’s positions in the Proposal suggest that the Commission will determine that Single-Name
CDS need not be cleared at all. Conversely, if the Proposal is adopted and the Commission concludes infuture that Single-Name CDS should be subject to the clearing requirement, it would apparently benecessary for the Commission to revisit its cross-border rulemakings.
D. Neither Regulatory Capital nor Margin for Uncleared Swaps is a Substitute for Clearing
The Proposal contends that capital and margin requirements can substitute for clearing and SB SEFtrading requirements in respect of Nominally Offshore Transactions.51 Here, the Proposal again appears
to overlook lessons from the recent financial crisis. Many of the large financial institutions that U.S. tax
payers bailed out during the financial crisis were heavily regulated and subject to regulatory capitalrequirements. Further, major dealers, themselves, have accepted that bilateral margining arrangements
are not an adequate substitute for central clearing in times of crisis.52 The Proposal does not explain why,
if capital and margin can protect U.S. investors from further crippling losses, Congress created theclearing and SB SEF-trading mandates.

49

See, e.g., Tracy Alloway, Why Would Anyone Want to Restart the Credit Default Swaps Market?, Bloomberg (May 11, 2015,
11:44 AM), http://www.bloomberg.com/news/articles/2015-05-11/why-would-anyone-want-to-restart-the-credit-default-swapsmarket-; Nabila Ahmed & Sridhar Natarajan, BlackRock’s on a Mission to Save the Credit-Default Swaps Market, Bloomberg(May 6, 2015, 2:00 PM), http://www.bloomberg.com/news/articles/2015-05-05/blackrock-s-on-a-mission-to-save-the-creditdefault-swaps-market. See also ISDA’s recommendation for an amendment to the single-name CDS roll frequency, ISDA,
Amending When Single-Name CDS Roll to New ‘On-the-Run’ Contracts (July 8, 2015), http://www2.isda.org/assetclasses/credit-derivatives/single-name-cds-roll/.
50
See 7 U.S.C. § 78c–3 (2012).
51
See Proposal, supra note 2, at 27,482.
52
See, e.g., First Public Hearing of the Financial Crisis Inquiry Commission 100-01 (Jan 13, 2010), available at
http://fcic.law.stanford.edu/hearings/testimony/first-public-hearing (statement of Lloyd Blankfein, CEO, Goldman Sachs Group,Inc.) (“I think that to the extent that you have a clearinghouse -- the issue we had with AIG vis-a-vis margin, or fighting oversettlements, or what a mark-to-market should be for the smooth transfer of margin, we would have avoided. We got margin fromthem, but it was hard to get out of them and it was slow. It lagged what we thought [was] the mark-to-market.”).

10

Congress intended that standardized, clearable SB Swaps should be cleared and SB SEF-traded, andthat, only if transactions are not suitable for clearing and SB SEF trading should further requirements
relating to capital and margin be used to mitigate the increased risk. Cleared SB Swaps are subject to arobust margining regime, and the intent of heightened margin requirements for uncleared swaps was tocompensate for the absence of that regime in less liquid or standardized markets, not as an alternative toclearing. The Proposal turns Congressional intent and the intent of the G20 upside down; it incorrectly
positions clearing as an “add-on” to regulatory capital and margin requirements,53 when it was intended as
the primary risk mitigant in relation to liquid, standardized products like Single-Name CDS. The Proposal
recognizes the intent of Congress,54 recognizes that Nominally Offshore Transactions are subject to theCommission’s jurisdiction under the Exchange Act,55 recognizes that Congress intended the Commission
to develop an approach consistent with that of the CFTC56 and then proposes a treatment of Nominally
Offshore Transactions that is inconsistent with the approach advanced by the CFTC and that largely
ignores the clearing and SB SEF-trading requirements of Title VII.
Here, too, the Proposal offers no basis on which to distinguish between Nominally Offshore
Transactions and other SB Swap transactions and instead underscores the Commission’s apparent
position that no Single-Name CDS transaction need be cleared, in this case because it is sufficient that the
dealer be registered with the Commission and that the uncleared transaction be subject to margin
requirements.
E. The Commission’s Consideration of the Competition Implications of the Proposal is
Incomplete
Mitigating credit risk in the United States should not be viewed as the primary goal of the clearing
requirement. First, as we note above, because financial crises are global, the Commission should notconsider credit risk in domestic terms alone. Also, clearing brings more transparency to the market
because clearinghouses publish objective, marked-to-market values for cleared products on at least a daily
basis. Because clearinghouses mandate strict compliance with their daily and intra-day margin
requirements and do not permit market participants to dispute their valuations or margin calls, clearing
entails sounder credit and operational risk management. Clearing facilitates the orderly resolution of a
defaulting market participant’s portfolio because positions can be transferred more seamlessly to solvent
market participants on standardized terms and at a price that is objectively determined by theclearinghouse, an organization that operates in a manner that is market risk-neutral. Further, clearing
promotes competition; it allows liquidity providers to enter a marketplace from which they would
otherwise be excluded. This additional liquidity promotes spread compression from which the entire
market benefits. The Proposal would mean the loss of all of these benefits in respect of Nominally
Offshore Transactions.
As the Commission correctly notes,57 because Nominally Offshore Transactions would not be subject
to the clearing requirement, they would also be excluded from the SB SEF-trading requirement. The
Proposal gives inadequate consideration to the implications of that outcome. In determining whether a
53

See Proposal, supra note 2, at 27,482 (“Given that, under our proposed approach, a non-U.S. person that engages in significant
security-based swap activity using personnel located in a U.S. branch or office is likely to be required to register and be subject toTitle VII capital and margin requirements with respect to all of its transactions, we preliminarily do not believe that subjecting a
subset of these persons’ activities to the clearing requirement is likely to provide a significant additional reduction in counterparty
credit risk in the United States.”).
54
See id. at 27,448 (“The Title VII framework mandates that we establish rules that apply to certain security-based swap
transactions, including mandatory clearing, mandatory trade execution, regulatory reporting and public dissemination.”).
55
See, e.g., id. at 27,463, 27,465.
56
See, e.g., id. at 27,446 n.12.
57
See id. at 27,482.

11

SB Swap should be required to be cleared, the Commission must consider the effect on competition. 58 As
the Commission is aware,59 SB SEF trading affords critical pre-trade price transparency. Suchtransparency creates a level playing field which promotes pricing efficiencies from which all market
participants benefit. By excluding Nominally Offshore Transactions from the clearing requirement, theCommission has significantly limited the prospect of these efficiencies in the SB Swap markets. The
Proposal barely discusses pre-trade transparency at all, focusing instead on the post-trade transparency
benefits of transaction reporting. We respectfully submit that the Commission has given inadequate
consideration to the competition implications of excluding these transactions from the SB SEF-trading
requirement precisely because they would be excluded from the clearing requirement.
F. The Threat of Relocation is Overstated
We also encourage the Commission to view with greater skepticism comments that subjecting
Nominally Offshore Transactions to the clearing and SB SEF-trading mandates will cause banks torelocate their trading operations outside of the United States. Again, as Commission Chair White notes,
many of those involved are U.S. financial groups. If such relocation is even achievable (which is far fromcertain, given, for example, the likely reluctance of key employees to relocate and the availability of otheropportunities for skilled participants in the SB Swap markets in the United States), it could be achieved
only with a financial cost that would greatly exceed the cost of complying fully with Title VII. In our
experience, the Single-Name CDS business of U.S. dealers is closely integrated with their public andprivate sector corporate finance businesses (such as bond trading and bond underwriting). Consequently,
any relocation would be a massive undertaking, not limited to Single-Name CDS professionals. Any
advantage to be gained by such a move would be temporary and likely short-lived as other jurisdictions
implement swaps markets reforms over the next few years. Consequently, the costs would likely greatly
outweigh the benefits. Also, despite the CFTC’s position with regard to the regulation of Nominally
Offshore Transactions, there have been no mass relocation efforts on the part of swap dealers. The
answer to Commissioner Stein’s question60 is that there is no credible evidence to suggest that applying
the SB SEF-trading mandate to Nominally Offshore Transactions will cause a loss of liquidity on U.S.
SEFs.

*

*

*

*

*

*

*

*

*

*

We appreciate the opportunity to provide comments on the Commission’s Proposal. Please feel free
to call the undersigned at (312) 395-3100 with any questions regarding these comments.
Respectfully,/s/ Adam C. Cooper
Senior Managing Director and Chief Legal Officer

58

See 7 U.S.C. § 78c–3 (2012).
See discussion of trading platforms, id. at 27,457. See also id. (“[M]oving OTC derivatives onto organized trading platforms… should help improve transparency in OTC derivatives markets, both to regulators and market participants.”).
60
Stein, supra note 5 (“On the other hand, if that liquidity is very likely to leave if we do apply the SEF requirements to thesecross-border trades, are the proposed rules today a measured response to that reality?”).
5912