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REFORM OF THE OVER-THE-COUNTER 

DERIVATIVE MARKET: LIMITING RISK 

AND ENSURING FAIRNESS 

HEARING 

BEFORE THE

COMMITTEE ON FINANCIAL SERVICES 

U.S. HOUSE OF REPRESENTATIVES 

ONE HUNDRED ELEVENTH CONGRESS 

FIRST SESSION 

OCTOBER 7, 2009 

Printed for the use of the Committee on Financial Services 

Serial No. 111–85 

( 

(II) 

HOUSE COMMITTEE ON FINANCIAL SERVICES 

BARNEY FRANK, Massachusetts, Chairman 

PAUL E. KANJORSKI, Pennsylvania 

MAXINE WATERS, California 

CAROLYN B. MALONEY, New York 

LUIS V. GUTIERREZ, Illinois 

NYDIA M. VELA ́ ZQUEZ, New York 

MELVIN L. WATT, North Carolina 

GARY L. ACKERMAN, New York 

BRAD SHERMAN, California 

GREGORY W. MEEKS, New York 

DENNIS MOORE, Kansas 

MICHAEL E. CAPUANO, Massachusetts 

RUBE ́ N HINOJOSA, Texas 

WM. LACY CLAY, Missouri 

CAROLYN MCCARTHY, New York 

JOE BACA, California 

STEPHEN F. LYNCH, Massachusetts 

BRAD MILLER, North Carolina 

DAVID SCOTT, Georgia 

AL GREEN, Texas 

EMANUEL CLEAVER, Missouri 

MELISSA L. BEAN, Illinois 

GWEN MOORE, Wisconsin 

PAUL W. HODES, New Hampshire 

KEITH ELLISON, Minnesota 

RON KLEIN, Florida 

CHARLES A. WILSON, Ohio 

ED PERLMUTTER, Colorado 

JOE DONNELLY, Indiana 

BILL FOSTER, Illinois 

ANDRE ́ CARSON, Indiana 

JACKIE SPEIER, California 

TRAVIS CHILDERS, Mississippi 

WALT MINNICK, Idaho 

JOHN ADLER, New Jersey 

MARY JO KILROY, Ohio 

STEVE DRIEHAUS, Ohio 

SUZANNE KOSMAS, Florida 

ALAN GRAYSON, Florida 

JIM HIMES, Connecticut 

GARY PETERS, Michigan 

DAN MAFFEI, New York 

SPENCER BACHUS, Alabama 

MICHAEL N. CASTLE, Delaware 

PETER T. KING, New York 

EDWARD R. ROYCE, California 

FRANK D. LUCAS, Oklahoma 

RON PAUL, Texas 

DONALD A. MANZULLO, Illinois 

WALTER B. JONES, JR., North Carolina 

JUDY BIGGERT, Illinois 

GARY G. MILLER, California 

SHELLEY MOORE CAPITO, West Virginia 

JEB HENSARLING, Texas 

SCOTT GARRETT, New Jersey 

J. GRESHAM BARRETT, South Carolina 

JIM GERLACH, Pennsylvania 

RANDY NEUGEBAUER, Texas 

TOM PRICE, Georgia 

PATRICK T. MCHENRY, North Carolina 

JOHN CAMPBELL, California 

ADAM PUTNAM, Florida 

MICHELE BACHMANN, Minnesota 

KENNY MARCHANT, Texas 

THADDEUS G. McCOTTER, Michigan 

KEVIN McCARTHY, California 

BILL POSEY, Florida 

LYNN JENKINS, Kansas 

CHRISTOPHER LEE, New York 

ERIK PAULSEN, Minnesota 

LEONARD LANCE, New Jersey 

JEANNE M. ROSLANOWICK, Staff Director and Chief Counsel 

(III) 

C O N T E N T S 

Page 

Hearing held on: 

October 7, 2009 ................................................................................................. 1 

Appendix: 

October 7, 2009 ................................................................................................. 77 

WITNESSES 

WEDNESDAY, OCTOBER 7, 2009 

Ferreri, Christopher, Managing Director, ICAP, on behalf of the Wholesale 

Markets Brokers Association .............................................................................. 55 

Gensler, Hon. Gary, Chairman, Commodity Futures Trading Commission ....... 8 

Hall, David, Chief Operating Officer, Chatham Financial Corp. ........................ 48 

Hill, James J., Managing Director, Morgan Stanley, on behalf of the Securities Industry and Financial Markets Association (SIFMA) .............................. 50 

Hixson, Jon, Director, Federal Government Relations, Cargill, Inc. ................... 43 

Holmes, Steven A., Director of Treasury Operations, Deere & Company .......... 54 

Hu, Henry, Director, Division of Risk, Strategy, and Financial Innovation, 

U.S. Securities and Exchange Commission ....................................................... 10 

Johnson, Rob, Director of Economic Policy for the Roosevelt Institute in 

New York, on behalf of Americans for Financial Reform ................................. 57 

Kaswell, Stuart J., Executive Vice President & Managing Director, General 

Counsel, Managed Funds Association (MFA) .................................................... 52 

Sleyster, Scott, CFA, Chief Investment Officer, Domestic, Prudential Financial, on behalf of the American Council of Life Insurers (ACLI) ...................... 47 

Stulz, Rene M., Everett D. Reese Chair of Banking and Monetary Economics, 

Fisher College of Business, The Ohio State University .................................... 45 

APPENDIX 

Prepared statements: 

Garrett, Hon. Scott ........................................................................................... 78 

Ferreri, Christopher ......................................................................................... 79 

Gensler, Hon. Gary ........................................................................................... 106 

Hall, David ........................................................................................................ 120 

Hill, James J. .................................................................................................... 124 

Hixson, Jon ....................................................................................................... 135 

Holmes, Steven A. ............................................................................................ 140 

Hu, Henry ......................................................................................................... 147 

Kaswell, Stuart J. ............................................................................................. 157 

Sleyster, Scott ................................................................................................... 168 

Stulz, Rene M. .................................................................................................. 175 

ADDITIONAL MATERIAL SUBMITTED FOR THE RECORD

Himes, Hon. Jim: 

Written statement of Larry E. Thompson, General Counsel, The Depository Trust & Clearing Corporation .............................................................. 193 

Manzullo, Hon. Donald: 

Written statement of John Hollyer, Principal and Head of Risk Management and Strategy Analysis, Vanguard ...................................................... 203 

Written statement of the International Swaps and Derivatives Association ................................................................................................................. 208 

Moore, Hon. Dennis: 

Written statement of the electric power and natural gas industries ........... 210 

Page

IV 

Watt, Hon. Melvin: 

Written statement of Shawn A. Dorsch, Founder, Blackbird Holdings, 

Inc. ................................................................................................................. 213 

(1) 

REFORM OF THE OVER-THE-COUNTER 

DERIVATIVE MARKET: LIMITING RISK 

AND ENSURING FAIRNESS 

Wednesday, October 7, 2009 

U.S. HOUSE OF REPRESENTATIVES, 

COMMITTEE ON FINANCIAL SERVICES, 

Washington, D.C. 

The committee met, pursuant to notice, at 10 a.m., in room 2128, 

Rayburn House Office Building, Hon. Barney Frank [chairman of 

the committee] presiding. 

Members present: Representatives Frank, Kanjorski, Waters, 

Watt, Sherman, Meeks, Moore of Kansas, Clay, McCarthy, Baca, 

Lynch, Miller of North Carolina, Scott, Green, Cleaver, Bean, Ellison, Klein, Perlmutter, Donnelly, Foster, Carson, Minnick, Adler, 

Himes, Maffei; Bachus, Castle, Royce, Lucas, Manzullo, Biggert, 

Capito, Hensarling, Garrett, Price, Campbell, Putnam, Marchant, 

Jenkins, Lee, Paulsen, and Lance. 

Also present: Representatives Murphy and McMahon. 

The CHAIRMAN. The hearing will come to order. 

The subject today is derivatives. I want to talk a little bit about 

the process and then about the substance. 

We are dealing with a set of issues that first came to light when 

Secretary Paulson set forward an agenda for regulation in April of 

2008. Our attention was diverted for a while by an economic crisis. 

It was early this year when we felt that things had stabilized 

enough in the general economy in the credit area for us to take this 

up, and we have been working on it. It is very much a work in 

progress. 

Some people have said that we are rushing it. First, we have 

been studying this, many of us, since April of 2008. It has been on 

everybody’s radar screen. Second—I am sorry, but my clock hasn’t 

started. I apologize, but I meant it in a way that it should come 

out of my time, so I will cut myself off 30 seconds early. 

Yes, these things need to be studied. It is also the case though 

that some issues are not going to be joined until there are pieces 

of paper out there and people react to them. We have before us a 

discussion draft, which will and I believe should undergo significant change, but you have to start somewhere. 

This bill will not, on the best timetable, be signed by the President until December. I hope we can. We certainly will meet a timetable of getting legislation to the Floor in November. And it is a 

process, as I said, in which we will be putting things forward. It 

is a process in which a large number of Members participate. 

2 

On the specific bill today, I agree with some of the criticisms that 

have been made. And again, I want to make it clear this was a discussion draft. Here is the goal, and we welcome participation in 

reaching it. It does seem to many of us that there is a distinction 

between derivatives as ends and derivatives as means. 

When we first began to talk about this, I expressed some views, 

for example, about prohibiting naked credit default swaps. I did not 

expect people in the business of selling these, people in the financial industry, to be happy with that. They weren’t. As I said, we 

didn’t expect them to be. We didn’t care whether they were or 

weren’t. 

What we began to hear were objections to some of this from 

those people for whom derivatives are not an end for making 

money as they are for the financial institutions, but a means so 

that they can go about their business of producing goods and services with some stability, with some reasonable expectation about 

cost. Derivatives are a very legitimate way for producers of end 

products, goods or services, to reduce volatility, which is very important for them to be able to make the calculations they make. 

Our job is to find a way to preserve that legitimate function 

while diminishing the excessive volatility that comes from people 

who are doing it to speculate, from diminishing the risk that comes 

when people get overextended in doing it. And it has been a process that is still in place. 

I notice, for instance, that Mr. Hu said that the discussion draft 

could unintentionally preserve existing regulatory gaps. He is quite 

right that it is unintentional. We will look for this expertise to deal 

with it. 

Chairman Gensler told me yesterday that he thought that in the 

bill, it created a presumption against having things go essentially 

cleared, and that is exactly the opposite of our intention. 

I want to say at this point that the staff of the Financial Services 

Committee has, in my judgment, given America this year the best 

value for its money that it has ever gotten. These are very intelligent dedicated people who work very hard, who put up with a lot 

from a lot of people, me sometimes included, and all of whom could 

be making a lot more money doing similar work under less stressful conditions elsewhere. 

I have been urging them to get these drafts out so they can be 

discussed. If I thought we were going to get it right the first time, 

every time, then I guess we wouldn’t need hearings, and we 

wouldn’t need markups; we would just take them all up on the 

Floor. 

And I acknowledge, and let me just say to my friends in the regulatory area, yes, I acknowledge there are some areas here where 

there are gaps that shouldn’t have been there. There is this, and 

there may be a distinction here—I do believe that there is a need 

to distinguish between legitimate end-users and people who are 

there because this is a profit incentive for them. 

Now, having said that, it is clear we can’t expect financial institutions to be available to help the end-users as a charity. They 

need to make a profit or they will not be available to provide that 

liquidity, which is important. But that is the line we want to draw. 

3 

I have read this over, and I think we have in the first cut—well, 

this is the second cut because we put something out. I backed off 

some of the things, listening to the end-users. I think there is some 

room now to tighten up some of what we are doing. It is our intention to have a push in favor of clearing but a recognition that it 

won’t always be possible. We picked up some things, like to the extent that this collateralization will not have to be cash. 

The last point I would make is this: If we were starting from 

scratch, we would only have one person here. There would be an 

SEC/FTC; there wouldn’t be an SEC and a CFTC. But we are not 

starting from scratch. Trying to merge these two would divert attention. What is important is that we work together, both legislatively and going forward, to harmonize their work, and that is 

going to be our goal. 

And next, I recognize the gentleman from Alabama for 4 minutes. 

Mr. BACHUS. I thank the chairman. 

And we do have two gentlemen here with us, so I am not seeing 

double. I thank the chairman for convening the hearing. 

And as the chairman said, derivatives are an essential tool used 

by countless American companies to help them manage risk associated with doing business both at home and abroad. Derivatives 

allow companies to hedge against risk, deploy capital effectively, 

lower costs, and offer protection against fluctuating prices. 

There is nothing inherently wrong with derivatives. It is when 

they are abused. Congress must take steps to ensure increased 

transparency and enhance oversight of the derivatives market. 

However, any new regulation should not hamper the ability of 

businesses to control costs, manage risk, compete in the global 

marketplace, and create jobs. 

Last Friday, the chairman released draft derivatives legislation 

which represents a significant improvement over the proposal that 

the Obama Administration submitted to Congress in August. I 

commend him for that. 

The chairman’s draft wisely omits provisions from the Administration’s proposal which would have severely restricted access to 

the derivatives marketplace and had the effect of magnifying rather than mitigating systemic risk. 

However, while the chairman should be commented for addressing several of the serious flaws in the Administration’s approach, 

there are a number of issues, I think, that still require careful attention. 

For example, the chairman’s draft would still require that some 

over-the-counter products be shifted onto venues like clearinghouses and exchanges. I think he has acknowledged today that 

may not always be possible. 

The bill also calls on the regulators to classify some actors in the 

derivatives marketplace as major swap participants. This vague 

classification could force thousands of companies to divert millions 

of dollars of capital away from business investment for use as cash 

collateral. It seems counterintuitive during a recession, with unemployment approaching 10 percent, to leave companies exposed to 

greater risk, raise their cost to capital, and make economic recovery 

more difficult to achieve. 

4 

Another potentially troublesome provision of the discussion draft, 

and the chairman discussed this, was prohibiting certain swap 

transactions. Restriction on credit default swap contracts limits the 

ability of investors to appropriately calculate risk as it has become 

apparent that CDS spreads are often a more accurate reflection of 

credit risk than credit ratings. There is nothing inherently wrong 

with credit default swaps. And even in the last year I think that 

has been confirmed. It is when they are abused, as in the case of 

subprime mortgage securities, which were improperly rated and 

underwritten, that problems arise. It was the subprime loans that 

made up the securitizations, not the credit default swaps themselves, that caused the problem. 

Mr. Chairman, as we move forward with regulatory reform, we 

should make every effort to strike the right balance between maintaining market stability and preserving useful innovations in the 

U.S. financial services industry. While the government certainly 

has a role in policing the derivative marketplace, it must be noted 

that there are private sector initiatives already under way to clear 

standardized derivative contracts and establish trade repositories 

that will furnish the information regulators and investors need to 

make informed judgments about potential systemic risk and 

counterparty exposures. Legislation in this area should seek to facilitate and, where appropriate, codify these market-based solutions 

while not subjecting U.S. companies that operate far from Wall 

Street to damaging new regulatory burden. 

I thank the chairman, and I welcome our two witnesses. 

The CHAIRMAN. The gentleman from North Carolina for 2 minutes. 

Mr. WATT. Thank you, Mr. Chairman. 

And let me try to do two things in the 2 minutes I have. Number 

one is to applaud the Chair for this whole process that he is going 

through, because as he indicated, you can go down a road, and then 

you have to reevaluate, which is what the hearings do, and then 

you have to redraft. So I just think the process that we have been 

following is an entirely appropriate and thoughtful and meaningful 

process to get to the right balance. 

Number two, it is probably appropriate that I come after the 

ranking member here because I actually have some strong feelings 

on an issue that probably counter the ranking member’s position, 

and I think that the most recent draft may have tilted us in a direction that is more contrary to what we are trying to achieve. And 

I specifically refer to the language on pages 27 and 28 of the chairman’s most recent draft, discussion draft, where I think we have 

perhaps created a loophole that is way, way, way too big for major 

swap dealers and people who are engaged in major swap participants. 

So I think we need to look carefully at that language in particular, and I will be, as I go through this bill, am trying to do that 

in a responsible way, but remembering that our objective here was 

to create real transparency in this market, and we need to stay focused on doing that. 

The CHAIRMAN. The gentleman from Oklahoma. I am going to go 

to the gentleman from Oklahoma and the gentlewoman from Illinois, so we have equal amounts of time. 

5 

The gentleman from Oklahoma for 11⁄2 minutes. 

Mr. LUCAS. Thank you, Mr. Chairman. 

Thank you for holding this hearing. I think the discussion draft 

the committee has before it today is an interesting next step in our 

review of the overall counterderivatives market. Since the Administration’s proposal on this issue was published on August 11th, the 

end-user community has been constantly knocking on my door. As 

ranking member of the House Agriculture Committee, I listened to 

the testimony of the end-user community, the exchanges and the 

traders, when they appeared in front of that committee on September 17th. The common theme to the testimony was that the Administration’s proposal overreached and would treat many bona 

fide hedgers as systematically risky financial institutions. 

Are there problems in the derivatives markets? Yes. What we 

cannot do is overreach or overregulate. If we do, the impact will be 

felt far beyond Wall Street and reach Main Street. It will cost jobs, 

economic development, and ultimately increase the prices consumers pay for energy, food, and manufactured goods. 

I am anxious to hear from our second panel today if this draft 

allows effective legitimate domestic risk management better than 

the Administration’s proposal. And I am equally anxious to hear if 

our regulators still want to regulate everybody to avoid regulatory 

arbitrage or if they recognize the concerns that we shared when 

they appeared in front of the House Agriculture Committee that 

their approach will make risk management too expensive and increase prices and volatility. 

Mr. Chairman, we need to improve the safety and soundness of 

our financial regulation, but we cannot do it at the expense of economic development, increased prices, and job losses. 

Thank you, Mr. Chairman. 

The CHAIRMAN. The gentlewoman from Illinois for 11⁄2 minutes. 

Mrs. BIGGERT. Thank you, Mr. Chairman. 

I think that the new draft has some troubling things in it. In its 

current form, I am afraid there is still a one-size-fits-all approach 

to regulating derivatives and a ‘‘Big Brother’’ regulatory model that 

may stifle innovation, unnecessarily tie up capital, and see owners 

standards on businesses, exchanges, and clearinghouses. 

The bill doesn’t seem like the right answer to reforming the OTC 

marketplace at a time when our feeble economy is trying to regain 

steam and at a time when we need businesses to use capital to invest in their businesses to grow and create jobs for Americans. 

We all know that there were abuses in the OTC markets. They 

must be addressed. But to my knowledge, when the entire financial 

system was on the verge of collapse last fall, the futures markets 

pulled through. This bill doesn’t seem to, in a targeted approach, 

address those abuses, but rather considers all parties, anti-users as 

well as end-users as well as exchanges risky and treat them as 

such. Non-risky market participants may now unnecessarily have 

increased capital requirements, mandatory central clearing margin 

requirements, and product approval by bureaucrats in Washington. 

This doesn’t seem like the right answer to managing risk and addressing abuses in the marketplace. We need robust competition, 

restored investor confidence, and healthier markets. 

I yield back. 

6 

The CHAIRMAN. The gentleman from New York, Mr. McMahon. 

I would ask unanimous consent that Mr. McMahon be allowed to 

ask questions out of our 10 minutes. 

Is there any objection? I hear none. I thank the Minority for accommodating Mr. McMahon. Let me just say, while he is not a 

member of this committee because by the time he came to Congress, there was no room, and I must say, not to take away from 

anybody’s time, I am glad that the Speaker finally recognized that 

there is some limit to the size of this committee. I think that she 

thought that we were infinite. 

So I regret Mr. McMahon not being able to join us, but I had to 

accept the principle. 

But Mr. McMahon is someone whose district is heavily involved 

in this, has some expertise, and that is why I asked that he be able 

to ask some questions. 

And I thank our colleagues on all sides for allowing it. 

The gentleman is recognized for 3 minutes. 

Mr. MCMAHON. Thank you, Chairman Frank, and Ranking Member Bachus, and all the members of the committee for allowing me 

to join you today at this very important hearing. 

I would also like to especially thank Chairman Frank and his 

dedicated staff for putting together this balanced discussion draft 

as an excellent starting point for our deliberations in working with 

my legislative director Jeff Siegel, who has done an outstanding job 

as well. 

I know I can speak for many of my colleagues and the new 

Democrats when I say that we look forward to working with you 

constructively to improve this draft in the days ahead. 

Although the regulation of derivatives is complex, this issue is 

extremely important to the proper functioning of our capital markets and to almost every business in America, and we need to get 

this right. We all know the effect of derivatives and what role they 

played in particular with the credit default swaps in the collapse 

of AIG and the broader credit crisis. Derivatives amplified the effects of the subprime mortgage crisis and the overleveraging of our 

economy. 

There is no doubt that we need much greater transparency and 

regulation of our derivative markets to be sure that we do not have 

to face another AIG-type collapse or spend billions of dollars bailing 

out companies for taking imprudent risks. But we must be sure 

that any new regulation is smart and rational regulation. We need 

to target any new rules to directly address the potential for systemic risk without needless imposing of regulations that could have 

unintended effects. 

Because derivatives are financial instruments that help all of us, 

they help keep our energy costs low and stable. They help insurance companies keep premiums low. They help companies complete 

construction projects on time and under budget. And despite the 

negative press and lack of understanding of the derivatives market, 

for the most part, the derivatives market works. We cannot throw 

the baby out with the bath water. 

We must work to protect the end-users, good American businesses that are just trying to manage their cash flows and hedge 

against uncertain risks beyond their control in a cost-effective manVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00010 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
7 

ner. We should work to require standardized trades between entities that pose systemic risk, swap dealers, and major swap participants to clear their trades. For products that are more unique, 

those should continue to be traded in the OTC markets but with 

higher margin and capital requirements for the big players. 

At the same time, we must increase transparency and disclosure 

requirements and grant regulators the authority to monitor these 

important markets for any sign of stress or overexposure. Our derivative markets need more regulation, but we also must be sure 

not to needlessly tie up capital or increase the cost of credit in 

ways that stifle economic growth or risk sending our financial services industry overseas, particularly important to the 80,000 people 

from my district in Staten Island and Brooklyn, New York, who 

work every day in the financial services industry. 

In this age of instant global capital flows, if the regulations are 

not carefully written, any poorly conceived rule here in Washington 

could have a dramatic impact on our economy. 

Mr. Chairman, I yield back the remainder of my time, and I 

again thank you for the honor of being here today. 

The CHAIRMAN. I thank the gentleman. 

He yielded minus 4 seconds. 

The gentleman from Texas is recognized for 11⁄2 minutes. 

Mr. HENSARLING. Thank you, Mr. Chairman. 

As I look at all the root causes of our economic turmoil, I haven’t 

quite convinced myself that the derivatives market is among them. 

We all certainly know what happened to AIG’s Financial Products Unit with the credit default swaps. I am sure not sure that 

wasn’t a symptom as opposed to a cause. 

Now, clearly, their behavior in retrospect was reckless, and I for 

one do not agree that the taxpayer should have been asked to pick 

up the tab. 

Be that as it may, it is important to know as we go forward what 

the history is, and the history is that the relevant regulator did not 

lack regulatory authority. They may have lacked regulatory expertise, but they did not lack regulatory authority. 

Now, as we look at the new draft of the derivatives bill, I would 

like to commend the chairman for significantly improving the Administration’s bill. It is only 10:20 in the morning, and I find myself in the unusual position of having agreed with my chairman 3 

times now, and the day is early. It probably won’t happen again 

any time soon. 

But, nonetheless, I think that it is important that all of us realize that ultimately derivatives have a very important function in 

our market. Many of us have received correspondence from the Coalition for Derivatives End-Users. I would like to quote from that 

letter, which includes 170 of the largest job creators in America, 

‘‘Business end-users rely on OTC derivatives to manage risk, including currency exchange, interest rates and commodity prices by 

insulating companies from risk; customize OTC derivatives; provide 

businesses with access to lower capital, enabling them to grow, 

make new investments and retain and create new jobs.’’ We should 

be very, very loathe to ruin that. 

Thank you. I yield back. 

The CHAIRMAN. The gentleman’s time has expired. 

8 

And indeed, I would recommend that the gentleman take the rest 

of the day off. 

The gentleman from New Jersey is recognized for 11⁄2 minutes. 

Mr. GARRETT. I thank the Chair. 

When viewed in the context of the proposal that the Administration previously put forward, the chairman’s discussion draft is basically an improvement in many respects. 

But when we review it in the broader context of exactly what 

problems we are trying to solve with several new layers of cumbersome bureaucracy over a huge part of the economy that has 

nothing to do with our financial troubles, the bill really does look 

less attractive. 

The bill sets up a dual regulatory regime with the CFTC and the 

SEC, two agencies that, quite frankly, have a poor record of working together. Not only that, we are essentially setting that up to 

be prudential regulators, something that they are not equipped to 

do and which the SEC has already failed at, over non-financial 

companies that really don’t need this prudential regulation. 

So, to me, that is a fundamental flaw with a basic structure of 

the bill. Rather than certainty, there is a clumsy sort of multi-regulator approach to the derivative market that will breed widespread 

uncertainty, uncertainty that will reduce credit availability, hamper risk management, and cost jobs in the broader economy. 

And while end-users may think that the direction that the bill 

has headed from is better, this legislation will still set up a regime 

with the authority to propose mandatory requirements and capital 

that could have negative consequences on them in the end. There 

is also a mandatory clearing component that I fear could rush cooperative buy-side and sell-side and regulatory effects to responsibly 

address the central clearing issue and could increase rather than 

decrease the potential for systemic risk in the process. 

I have other concerns as well, and I hope that this committee 

and the second panel as well can explore it further. 

Thank you. I yield back. 

The CHAIRMAN. We will now begin with our witnesses. 

We have the Chair of the Commodities Futures Trading Commission. And let me acknowledge, particularly in the presence of the 

ranking member of that committee, that the primary jurisdiction 

over this agency is in the Agriculture Committee. 

And I want to say I am very pleased because I think jurisdictional disputes are Congress at its worst. Egos and pettiness come 

out. We have worked very closely with the Agriculture Committee, 

that was in complete agreement, and I thank the gentleman for acknowledging that. We even had an unusual joint hearing on the 

subject. And we will continue to work with the Agriculture Committee because cooperation between our two committees, as between these two agencies, is essential if we are going to get this 

job done. 

Chairman Gensler. 

STATEMENT OF THE HONORABLE GARY GENSLER, CHAIRMAN, 

COMMODITY FUTURES TRADING COMMISSION 

Mr. GENSLER. Thank you, Chairman Frank, Ranking Member 

Bachus, and members of the committee. 

9 

I am pleased to testify today regarding OTC derivatives reform 

and the discussion draft. I also want to commend your staff, Mr. 

Chairman—David, Peter, Jeanne, Lawranne and others who have 

worked tirelessly on this, and I agree with that. 

AIG demonstrates the need for comprehensive regulatory reform. 

Every single taxpayer in this room, every member of this committee put money into that failed institution. Nearly $414 million 

per each of your congressional districts went into AIG. 

Now, I would like to address much-needed regulatory reform in 

the context of two principle goals: lowering risk for the American 

public; and promoting transparency of the markets. 

At the conclusion of last month’s G–20 summit, President Obama 

and other heads of state made these two goals, lowering risk and 

promoting transparency, key. And I am just going to quote from 

that statement: ‘‘All standardized OTC derivatives—this is President Obama and 20 heads of state—all standardized OTC derivatives contracts should be traded on exchanges or electronic trading 

platforms where appropriate and cleared through central counterparties by end 2012 at the latest.’’ 

It is I think our challenge now, our challenge as an Administration and regulators and hopefully working with Congress, to 

achieve this goal. We need to lower risk in the system for the 

American public. That is going to require capital standards explicitly set for the large financial institutions. They already have capital, but we should be explicit about it: margins, so that we lower 

the risk with the counterparties; business conduct standards to 

make sure that boring stuff in the back office works; and, yes, importantly, centralized clearing on those products that can be 

cleared, still accommodating customized products, but central clearing is key. 

Transparency is the second key principle. And as we discuss proposals of OTC derivatives, I believe it is inherent that we get this 

right. But, first, strict recordkeeping and reporting requirements 

should be established and vigorously enforced. Second, that all noncleared transactions should be reported to a trade repository. 

Third, that the data on transaction should be available and aggregated for the public so the public can address an information deficit 

they have on these markets. But fourth, very critically, that standardized part of the market, those products that can be brought to 

an exchange or trading venue be moved onto these facilities so we 

have the same benefit that we have in the securities and futures 

markets of transparency. Every economist that looks at transparency, it benefits markets. 

I will just now briefly turn to six quick issues raised by the discussion draft. First, the discussion draft shifts the Administration’s 

proposals presumption that all standardized derivatives be cleared 

to one where product will be cleared only if required by a market 

regulator and then puts the burden on the regulators to possibly 

do this contract-by-contract. 

Second, end-users’ transactions should be brought to the central 

clearinghouse to lower risk. End-users should be allowed to enter 

into individualized credit arrangements with their financial institutions, but the Administration’s proposal would still get the benefit 

of central clearing, again, only on the part of the transactions that 

10 

can be cleared, not the customized transactions. We think if there 

is an end-user exception that Congress believes they need to endorse that it be very narrowly defined, as the chairman said, to address non-financial entities that use swaps to hedge actual commercial risk as contrasted to financial entities. 

Third, the discussion draft widens an exception for major swap 

participants. It was the goal of the Administration bill to cover 

major swap participants. We are concerned that it may be an unintended consequence that swaps entered into for risk management 

purposes would not be covered and as thus the major swap participant category would be so narrowed inadvertently. 

Fourth, the discussion draft makes trading on regulated exchanges or regulated trading platforms available but not required. 

And as I said, I think that transparency is critical to the markets 

and for all of the end-users that have concerns elsewhere in the 

bill, this actually benefits end-users to have the transparency in 

pricing. I don’t know why we would accommodate it, and it is natural that Wall Street might have a different view of this, but we 

are trying to recommend things that benefit Main Street and endusers who use these products. 

Fifth, U.S. regulators must work with international regulators to 

protect the American public. We just look forward to working with 

the committee to make sure that any efforts to accommodate foreign regulatory standards do not inadvertently permit market participants to shop for lax foreign regulators. 

And then, lastly, the discussion draft could inadvertently enable 

standardized agricultural swaps to be traded bilaterally off exchange. It does not impose the protections that we believe are necessary for the market. 

In addition to these points, we look forward to working with you 

in the next several days on other technical thoughts. We look forward to working with the SEC as well. Next week, we are going 

to be reporting on the request the President made that we look to 

harmonize our rules, and we look forward to making that available 

to this committee and Congress to help in these efforts. 

Thank you. 

[The prepared statement of Chairman Gensler can be found on 

page 106 of the appendix.] 

The CHAIRMAN. Thank you. 

Mr. Hu is the Director of the SEC’s new Division of Risk, Strategy, and Financial Innovation. 

Mr. Hu? 

STATEMENT OF HENRY HU, DIRECTOR, DIVISION OF RISK, 

STRATEGY, AND FINANCIAL INNOVATION, U.S. SECURITIES 

AND EXCHANGE COMMISSION 

Mr. HU. Thank you, Mr. Chairman. 

Chairman Frank, Ranking Member Bachus, and members of the 

committee, thank you for the opportunity to testify on behalf of the 

Securities and Exchange Commission concerning the Over-theCounter Derivatives Markets Act of 2009 proposed in August by 

the Treasury Department, and the discussion draft recently circulated by the chairman. 

11 

I am especially pleased to appear with CFTC Chairman Gary 

Gensler, with whom the SEC has worked closely over the last several months on a variety of issues. Both of our Commissions are 

eager to address these issues and ensure that remaining differences are justified by meaningful distinctions between markets 

and products. 

As you know, the recent financial crisis revealed serious weaknesses in the U.S. financial regulation, including gaps in the regulatory structure. Both the SEC and the CFTC are fully committed 

to filling gaps and shoring-up the regulatory system. 

One significant gap is the lack of regulation of OTC derivatives, 

which were largely excluded from the regulatory framework in 

2000 by the Commodity Futures Modernization Act. 

OTC derivatives present a number of risks. They can facilitate 

significant leverage, enable concentrations of risk, and behave unexpectedly in times of crisis. And while some derivatives can reduce 

certain risks, they can also cause others. 

Importantly, these risks are heightened by the lack of regulatory 

oversight of dealers and other market participants—a combination 

that can lead to insufficient capital, inadequate risk management 

standards, and associated failures cascading through the global financial system. 

Lastly, the largely unregulated derivatives market can also undermine the regulated securities and futures markets by luring 

participants to a less-regulated alternative. 

The discussion draft is an important step forward in improving 

transparency and establishing the necessary regulatory framework. 

While it would go a long way towards improving the regulation of 

OTC derivatives, I believe it should be strengthened in several 

ways. 

First, to minimize regulation arbitrage, swaps should be regulated like their underlying references. Market participants often 

view derivatives and the underlying assets they reference as substitutes. Whether the participation is direct or indirect, the same 

or similar economic effects can often be achieved. 

As a result, even subtle differences in the regulation of economic 

substitutes can lead to gaming advantages for any one participant. 

But that participant’s regulatory arbitrage activity, and a general 

migration to the less-regulated derivatives markets, can undermine 

the interest of other participants, as well as everyone’s interest in 

minimizing fraud and systemic risk. The easiest way to achieve 

this goal is to move over the existing securities regime to securities-related swaps. If Congress decides to retain the bill’s existing 

rulemaking framework, it should include these swaps within the 

definition of securities within the Federal securities laws. This will 

ensure that existing protections and authority can automatically 

flow through to these products. Exemptions could be provided 

where needed. I believe it is better to start from an existing framework for substantially similar products than to start from scratch 

not knowing what might be missed in some cross reference, not 

knowing what future financial innovation may bring. 

Second, it is essential that the legislation address anti-fraud authority matters and provide the tools needed to appropriately enforce anti-fraud authority. The discussion draft seeks to retain cerVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00015 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
12 

tain existing anti-fraud authority over, for instance, certain broadbased swaps, but may have inadvertently weakened that authority 

over certain other related swaps. 

The SEC should also have the tools needed to effectively exercise 

the anti-fraud authority. The discussion draft recognizes the importance of inspections and examinations of swap dealers and major 

participants to the SEC. We recommend that this authority be extended to central counterparties and swap repositories, so that regulators can have quick access to comprehensive data. 

Third, the discussion draft should clarify that the definition of 

‘‘securities-based swap’’ includes not only single and narrow-based 

credit default swaps but broad-based credit default swaps where 

payment is triggered by a single security or small group of securities. 

Fourth, the legislation should narrow the ‘‘risk management’’ exclusion for major swap participants. Regulation of major swap participants and dealers is a vital part of the OTC regulatory regime. 

We do understand that there may be entities that use swaps that 

should not fall into this new framework. The discussion draft, however, effectively provides an exclusion for major participants who 

hold positions, ‘‘for risk management purposes.’’ The term ‘‘risk 

management’’ is ambiguous and could cause a large number of important entities to fall outside this new regime. 

Finally, the legislation should direct regulators to adopt stronger 

business conduct rules to protect less sophisticated investors and 

end-users. 

In closing, this proposal makes significant strides towards addressing current problems in the OTC derivatives marketplace. I 

look forward to continuing to work with this committee, the Congress, the Treasury, and the CFTC to enact strong legislation in 

this area. 

Thank you for the opportunity to testify here today. I look forward to answering your questions. 

[The prepared statement of Mr. Hu can be found on page 147 of 

the appendix.] 

The CHAIRMAN. Thank you. 

As I said, I think we appreciate and we are in agreement with 

much of what you say. There will be some disagreements. Let me 

start off with two points, though. 

Some of the points you make, Mr. Gensler and also Mr. Hu, you 

have to take them to the Agriculture Committee. For example, your 

proposal—your objection to the swaps between agriculture entities, 

it would be an intrusion on the jurisdiction of the Agriculture Committee, and we will be working on this together. We will be submitting our bill, and they will be offering some amendments. Where 

you were talking about a swap between agriculture entities, you 

have to take it to them. 

I have said that I think there is a presumption that we have jurisdiction over things that aren’t edible, but they are certainly 

clearly in charge of the edible, not just that, but I guess tangible 

is a better way of putting it. 

So, secondly, Mr. Hu, I will say that some of your points similarly are jurisdictional issues between yourself and the CFTC. And 

that means between us and the Agriculture Committee. There are 

13 

some substantive issues where I very much agree and a couple 

where I don’t agree, but I do want to say, as I go through your 

points, some of them will have to go to the Agriculture Committee. 

For example, Mr. Gensler, your fourth point where you say the 

discussion draft makes trading on regulated exchanges or regulated 

trading available to swap dealers but not required. And then, 

again, that is covered in your sixth point, agriculture swaps. Let 

me put it this way, for agriculture swaps, you need to deal with 

the Agriculture Committee. 

On your fourth point, to the extent that we are dealing with 

swaps that are not agriculture, we would be inclined to agree with 

you. So points four and six, you will have to split those. 

Let me just go through a couple of the other points you make. 

On the question of clearing, no, we did not mean to have a presumption against clearing. I do think it is appropriate to have the 

presumption in favor of clearing, understanding when it doesn’t 

happen, so we will work with you on that. And you should, I believe, have the authority to deal with a broad class of swaps, even 

under that presumption. And again, the two of you together. I assume this is one. 

Mr. HU. We are good friends. 

The CHAIRMAN. That one point appears in both of your statements, so on that one, we are there. 

On the clearing requirements for end-users, you say you recommend that they all go to a clearinghouse. I don’t think you are 

going to see that happen because of the response that many will 

have to the end-users. But at the bottom of the page, you say, ‘‘To 

the extent that Congress decides not to follow this approach, any 

clearing exceptions for end-users should be very narrowly defined 

to only include non-financial entities that use swaps incidental to 

their business to hedge actual commercial risk.’’ That is the essence 

of what we are trying to do. We will work with you to do this. 

But I do have one question. Obviously, when you mention insurance, people think of AIG, which was a major problem here. But 

is it possible to make a distinction between insurance qua insurance, and insurance companies that make so much money they 

won’t get themselves in trouble? That is, we generally agree with 

this financial non-financial. But there is a definitional question 

about insurance. People who are in the business of selling insurance to policyholders, how would you classify them in this? Obviously, if an insurance company is engaging in non-insurance-related transactions like AIG, they should not be exempted. But what 

about an insurance company that is selling life insurance or automobile insurance? 

Mr. GENSLER. We would believe that insurance companies should 

be under, just like other financial firms and bring their standard 

product, not the customized product, but to the benefit of the clearinghouse. 

The CHAIRMAN. We will be working on that one, because there 

is I think some question that was there. And then both of you, I 

guess, had this issue. You worry that our exemption for risk management, that could be a huge loophole. I agree that it could be a 

loophole, and people want to make it one. I would hope you would 

work with us so that we could define risk management better, both 

14 

substantively and procedurally. That is, we would define risk management, and you would be the primary deciders of that. And the 

fact that someone was doing something that met GAAP, we 

wouldn’t be interfering with GAAP, but that would not be dispositive of the issue. They couldn’t say, well, this is risk management 

according to GAAP, therefore, you guys mind your own business. 

Work with us on that, because, again, there is more common agreement here on the goal, and we would be able to deal with this. 

Finally, let me say, Mr. Gensler, you say market participants 

should only be exempt from American regulation where there has 

been a determination by U.S. regulators that the foreign regulatory 

scheme is comprehensible and comparable. Agreed, we will do that. 

So, as I said, I think we will probably still do more for end-users 

in terms of exemptions than you would like. But in almost every 

other case, we are in agreement, saving those where you are going 

to have to take it to the Agriculture people. 

Mr. GENSLER. I thank the chairman for that quick review. If I 

could just comment on two of the points. 

On exchange trading, I take it that maybe we are closer together 

that we should mandate the benefits of either exchange or these 

execution facilities. Accommodating some transactions that are illiquid and too large can come to a mandate. 

The CHAIRMAN. Mandate is too strong a word. You talked about 

a presumption. There would be a presumption that they would be 

there, and you would have the ability to decide that. I don’t know 

how you mandate them all, and then you say you can’t mandate 

everything except for a few. 

Mr. GENSLER. But to require those products that are able to be 

cleared— 

The CHAIRMAN. Yes, so burden of proof should be on those to 

show you that they can’t be. 

Mr. GENSLER. That those would not only have the benefit of 

clearing but also exchange trading or trading venues. 

The CHAIRMAN. Right. 

Mr. Hu? 

Mr. HU. Chairman Frank, I truly welcome your remarks about 

the risk management exclusion. 

The CHAIRMAN. It is always nice to feel welcome, Mr. Hu. 

Mr. HU. A Texas-size welcome. I really welcome it because— 

The CHAIRMAN. Okay. Since you agree, I can’t take time to do 

that. Do you have any— 

Mr. HU. Yes. In terms of the exclusion, we are calling for objective, narrow, and verifiable notions of ‘‘risk management.’’ 

The CHAIRMAN. All right. We will deal with that. I am taking 

other people’s time, and I can’t do that. We have a conceptual 

agreement. We will work with you. 

The gentleman from New Jersey. 

Mr. GARRETT. I thank the chairman. 

And I thank the members of the panel. The first question, I 

guess, is for both of you. On page 165 of the draft, it states that 

margin requirements for swaps set by the SEC and the CFTC for 

end-users shall provide for non-cash collateral, non-cash assets as 

collateral. The way I read this is it doesn’t mean that they always 

have to do so, but they have some flexibility in there. Is that the 

15 

way you read it? And if so, then how will you actually implement 

the use of those assets? And if not, do you have broader authority 

than that under this direct proposal? 

Mr. GENSLER. We believe that in working with the committee, we 

can get this right, but that end-users should be able to enter into 

individual credit arrangements with the swap houses and the financial entities, and that would be allowed non-cash collateral in 

that regard. But that which could be cleared could still be brought 

to the clearinghouse and benefit from that lower risk. 

Mr. HU. In terms of how we interpret this provision, as we understand it, this provision applies to dealers accepting non-cash collateral. And in terms of non-cash collateral, it could be things like 

Treasury bills. Highly liquid matters could fall under that rubric. 

The provision does not, we understand, apply to clearinghouses. In 

terms of clearinghouses, we are hoping that, in fact, the requirement in terms of collateral would be involving a tighter rein by regulators. 

Mr. GARRETT. Through the clearinghouse, then, what is the 

tighter range—what would potentially the clearinghouses be required to provide if not those assets? Would they require cash assets, cash? 

Mr. HU. Well, we allow things like— 

Mr. GARRETT. But could they—under the authority, could the circumstances be that it is not going to be non-cash assets, but they 

could actually have to require cash? 

Mr. HU. In terms of our existing clearinghouses that the SEC 

regulates, we do allow things like money market funds and other 

kinds of liquid, high-quality assets. 

Mr. GARRETT. And if those are required, could that not cause a 

deleterious effect upon the end-users at the end of the day? I know 

the end-users at this point feel, hey, we have been sort of carved 

out, and we are happy about this, but if the clearinghouse arrangement is not done in that particular manner, the authority is broad 

enough to actually require, that they may not be as scot-free in this 

as they think they may be? 

Mr. HU. There are two possible ways in which those concerns are 

alleviated. First, the SEC historically has viewed clearinghouses as 

public utilities subject to heavy regulation to make sure that there 

is open access—and that the fees are reasonable and the other requirements are reasonable. 

The second way is that we really want to do everything we can 

to ensure the safety and soundness of clearinghouses, a central element to minimizing the AIG interconnectedness problem. 

Mr. GARRETT. So it might take away from this, is that is going 

to be a paramount requirement and concern of you is the systemic 

risk aspect of the clearinghouses and their soundness of that, and 

so that will be—that would trump necessarily, under certain circumstances, potentially over the end-users situation. 

I only have a little bit of time. You also, Mr. Hu, spoke to the 

issue of trading swaps—I will use layman’s terms—trading swaps, 

basically, and implementation of the rules with the same manner 

and such as derivatives, right, in your opening statement. 

Mr. HU. To have securities-related swaps being treated like securities would help simplify matters. 

16 

Mr. GARRETT. Does it simplify matters? In actuality, how does 

that actually play out in real life? Because under the rules that you 

would have to apply to them, can they basically implement them 

and carry them out in the same timely manner that you would necessarily do it with the swaps? 

Mr. HU. Well, in terms of that issue, right now there is a distinction, for instance, between broad-based security-based swaps and 

narrowly-based security swaps. Broad-based security swaps basically fall under the jurisdiction of the CFTC, while security-based 

swaps and narrow-based security swaps fall under the jurisdiction 

of the SEC. 

We feel that because of the arbitrage possibilities from using two 

broad-based security-based swaps to get targeted exposure to a single company or a narrow group of companies, that it allows for easy 

gaming. By simplifying things to treat, for instance, all securitybased swaps as securities and falling within the parameters of the 

Federal securities laws simplifies matters, reduces the possibility of 

gaming of gaps, and facilities more efficient responses. 

Mr. GENSLER. We think that the Administration proposal and 

the discussion draft got this right, and it kept in line the 27-year 

arrangement where broad-based indices and futures and derivatives on them are regulated by one. And the market regulator and 

the narrow-based are by the SEC. Of course, the chairman noted, 

we are two agencies, so there are boundaries. 

Mr. HU. May I quickly respond to that? 

The CHAIRMAN. No. There is an interagency here. We will have 

to move on. I will have to tell the SEC, you are up against a pretty 

high hill if you have the Administration and the Agriculture Committee on one side. 

Mr. GARRETT. And that is the uncertainty that I guess we are 

questioning. 

The CHAIRMAN. But it is certainly our responsibility to resolve it. 

The gentleman brought up an important issue. 

The gentleman from Pennsylvania. 

Mr. KANJORSKI. Thank you, Mr. Chairman. 

First of all, allow me to congratulate Mr. Gensler and the SEC. 

You are certainly a lot closer than you were 2 months ago when 

we had our opening discussions as to what to do. I do have a question, and I guess the last question by Mr. Garrett really triggers 

it. What unresolved problems in the jurisdiction between the two 

agencies have not yet been resolved, and when will it be resolved? 

Mr. GENSLER. We intend next week to report to the President 

and the Congress on a report of the gaps in our oversight. And in 

that, we will be having a series of recommendations, some related 

to enforcement matters, some related to product review, cross margining. It looks across the whole gamut of issues between our two 

regulatory approaches and makes recommendations, where appropriate, to Congress; some recommendations for ourselves in rule 

writing. 

Mr. HU. On September 2nd and 3rd, the SEC and the CFTC held 

historic joint meetings to seek input from the public on the harmonization of regulation and futures. It was very successful, and there 

have been ongoing discussions on a wide range of matters, and the 

talks have been going very well. 

17 

Mr. KANJORSKI. Very good. All in all, looking at the discussion 

draft do you see anything so fundamentally offensive that you 

would not be supportive of its enactment into law? 

Mr. GENSLER. Congressman Kanjorski, we look forward to working with this committee and Congress to enhance this important 

step. But as I highlighted, we do believe that the American public 

needs to benefit from the full transparency that comes from getting 

the standard part of this market onto trading platforms and exchanges. We do want to narrow this exception for major swap participants and in the presumptions that we talked about in the 

other areas in the testimony. We think those are important so that 

we cover this entire marketplace. 

Mr. HU. We do think it is important in terms of the securities 

framework that it basically apply to substitutes, to economic substitutes. Otherwise the dangers of arbitrage and gaps occurring are 

too serious. 

Mr. KANJORSKI. Very good. 

Mr. Chairman, I have had an opportunity to ask a lot of questions in the past. Let me yield back to the Chair so other members 

may have an opportunity. 

The CHAIRMAN. I thank the gentleman. 

And I apologize, I should have gone directly—I wasn’t looking at 

my list—to the gentleman from Oklahoma who serves on this committee and is also the ranking member of the Agriculture Committee, and so he has been an important part of our trying with 

the gentleman from Georgia, Mr. Scott, and some others, Mr. 

Minnick, to try to make sure that our two committees are at least 

abreast of what each are doing. 

The gentleman from Oklahoma. 

Mr. LUCAS. Thank you, Mr. Chairman, and I appreciate your observations, and I think we have very good working relationship, the 

House Agriculture Committee having passed an earlier attempt at 

this reform concept this year, and now Chairman Peterson indicates that we may well be addressing another series of hearings 

and potentially markups to have a companion bill. 

So, let me direct my first question to the Securities and Exchange Commission. SEC has had anti-fraud and anti-manipulation jurisdiction over credit derivative markets since 2000. Could 

you list for us, please, how many cases the SEC has brought and 

in what years those cases were initiated? 

Mr. HU. There is one very important case going on right now 

that involves using credit derivatives for insider trading purposes— 

involving people who learned about certain restructuring events at 

a company and whom the SEC believes used credit default swaps 

as a way of betting on that particular transaction. 

One of the great things about this bill, relating to your question, 

is in terms of being able to bring more cases by being able to look 

more carefully at the transactions going on. There is a drastic increase in transparency flowing from the clearinghouses and the 

swap repositories. With this greater transparency, it would help us 

ensure a greater ability to detect market manipulation. 

Mr. LUCAS. So, in the last 8 years, we have had how many cases 

brought? 

Mr. HU. Congressman, I am afraid— 

18 

Mr. LUCAS. That you are aware of. 

Mr. HU. Congressman, I am afraid I have been at the SEC all 

of 4 weeks, and I will have to get back to you and find out about 

the other cases. 

Mr. LUCAS. Since we are talking about, in many cases, some substantial increase in enforcement authority, I think it would be fascinating to know how many have been brought under existing rules 

in a very complicated time, so I look forward to that, very much, 

to that response. 

Now, I address this to both of you. Looking at the way this draft 

proposal is crafted, tell me what kind of resource increases, both 

personnel and dollars, would you expect from an administrative 

perspective you will have to have to implement the language, assuming we ultimately come up with a bill very similar to this draft. 

Mr. GENSLER. Congressman, it is good to see you in both committees. We will look forward to working with Congress, the appropriators on additional resources as I believe we will need that. We 

have not scaled it yet, but it is clear to us that we will need additional resources. And all I can commit to you is to work with this 

committee and the appropriators and the Agriculture Committee as 

the scope of this comes together over the next month or 6 weeks. 

Mr. HU. There will be a material increase in resources that will 

be needed. Indeed, we at the SEC realize the need for expertise— 

real-world Wall Street expertise in terms of areas like credit derivatives and the like. And I personally have been involved in 

terms of recruitment efforts in that respect. And so with a wider 

jurisdiction over this previously unregulated market, there will be 

a corresponding increase in resources needed. 

Mr. LUCAS. Just as the CFTC’s primary focus are these issues all 

the time, I appreciate that greatly. I also realize that the Securities 

and Exchange Commission has a wide variety of responsibilities. 

Over the course of the last so many years, how many people have 

been committed at the SEC to doing this kind of work already 

within existing jurisdictions? 

Mr. HU. In terms of specific numbers of people, I am afraid I will 

have to get back to you. I could tell you that in terms of these derivatives-related activities, they cut across Divisions. For instance, 

the Division of Trading and Markets has been very concerned in 

terms of certain derivatives issues and the Division of Enforcement 

in terms of insider trading. The Division of Investment Management has been concerned with mutual funds investing in derivatives and the like—we are seriously concerned about that issue and 

have asked an ABA subcommittee to look at those kinds of issues. 

The creation of this new Division is in part a reflection of the 

need to adopt a more integrated approach to thinking about the 

benefits and the costs associated with the derivatives revolution. 

Mr. LUCAS. The reason I ask those questions, of course, is it appears that we will have another opportunity to visit about this in 

the Agriculture Committee in a few days, perhaps a few weeks. So 

preparing information in regards to both, I look forward—because 

after all, we are not just talking about expanding authority for both 

agencies and compelling you to work together; we are also reviewing how efficiently you have used the resources and the responsibilVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00022 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
19 

ities you have already had. That is a key, I think, measure that 

needs to be taken. 

With that, thank you, Mr. Chairman. I yield back. 

The CHAIRMAN. The gentlewoman from California. 

Ms. WATERS. Thank you very much, Mr. Chairman. 

Mr. Hu, I want you to help me understand something about credit default swaps. From everything that I have learned, I came to 

the conclusion that they should be banned. So I am very pleased 

that the chairman has included language which would allow the 

CFTC and the SEC to ban abusive swaps, including credit default 

swaps. However, I am concerned with the problem of what I have 

come to know and I understand of empty creditors. And let me read 

an article to you that was recently in Financial Times. There have 

been a lot of articles on this. 

‘‘The relationship between Goldman Sachs and ailing commercial 

lender CIT provides further evidence of the dangers of the credit 

default swap market. Credit default swaps have become an increasingly contentious issue in debt restructuring, such as one that CIT 

is now trying to complete. Many creditors who hold such insurance 

make more if a company files for Chapter 11 bankruptcy protection 

than they make on their debt if the company succeeds in restructuring its debt outside of bankruptcy. In the case of CIT, the market has bought more insurance than the company’s $30 billion in 

debt. These holders include Goldman Sachs, which purchased such 

a credit protection to hedge against a June 2008 rescue financing 

of up to $3 billion to CIT, Goldman said. Goldman also held other 

CIT debt, although the company declined to comment on these 

other exposures.’’ 

Now, we bailed out Goldman, and we bailed out AIG. We bailed 

out AIG to the tune of $100 billion, I believe. We—and it appears 

that they ended up paying Goldman about—I think about $13 billion. Now we see the CIT situation. How will the Commission be 

able to use this new authority to prevent empty creditors or lenders 

who are net short their own clients? Would the Commission need 

any additional statutory authority to address this problem, or does 

this bill provide you with enough tools to prevent empty creditors 

from triggering defaults and bankruptcies? 

Mr. HU. In the interest of full disclosure, I am afraid I am the 

one who came up with the term ‘‘empty creditors.’’ In particular, 

the Goldman situation—CIT situation you referred to might be of 

the ‘‘empty creditor with a negative economic interest’’ variety. This 

variety poses particularly difficult issues relating directly to your 

broader question in terms of this anti-abuse provision. 

This anti-abuse provision appears for the first time in this bill 

in this discussion draft. The SEC is right now just starting to analyze this particular provision. And your particular example of the 

Goldman Sachs/CIT situation illustrates some of the questions we 

are thinking about and we are working our way through. 

For instance, this anti-abuse provision talks about watching out 

for products that destabilize the system or an individual market 

participant and possibly banning them. What if it turns out that 

something—a particular kind of swap—is beneficial to the system 

in the sense of allowing banks, for instance, to hedge against risks 

or financial institutions to make loans and so forth, and yet perVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00023 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
20 

haps be harmful to a particular market participant? The bill’s provision doesn’t answer that. It also raises issues—difficult issues 

that we are starting to analyze—as to what extent should some of 

the benefits flowing from a particular product be balanced against 

the potentially destabilizing effects of the products? 

Naturally, these issues raise profound questions that we are 

starting to look at, and we will be engaging in many consultations 

with other concerned regulatory agencies. But you raise a very, 

very good issue, Congresswoman Waters. 

Ms. WATERS. I yield back. Thank you very much. 

Mr. WATT. [presiding] The gentleman from Texas, Mr. Hensarling. 

Mr. HENSARLING. Thank you, Mr. Chairman. 

I have no doubt that our derivatives market can be improved, 

made more competitive, made more transparent. But I usually ask 

myself a threshold question when proposals are put on the table, 

and that is, is the cure worse than the illness? 

I don’t think we would be here today but for AIG. Again, I 

haven’t convinced myself they weren’t a symptom as opposed to a 

cause. But if you believe they are a cause, just to ensure what we 

are trying to protect against, are you gentlemen aware, were there 

other abuses in the derivatives market or other major economic 

players besides AIG that bring us here today? 

Mr. GENSLER. Absolutely, Congressman. Derivatives are an unregulated marketplace, and we believe that the dealers, whether it 

was the affiliates of Lehman Brothers, the affiliates of Bear 

Stearns, or even the affiliates of the institutions that made it 

through last year with the support of the government—taxpayers 

supported a lot of institutions last year—many institutions used 

derivatives, significantly leveraged up their exposures to risk, and 

it did it in a nontransparent way. So what we are here about discussing is how do we lower risk to the American public, not just 

in AIG’s case, but lower risk to the American public and also address information deficits? The public knows— 

Mr. HENSARLING. I am sorry. Specifically, which companies do 

you view as abusing derivatives; and it was a derivative, or was it 

a problem with the underlying asset being residential real estate? 

Mr. GENSLER. Derivatives allow for risks to be managed, managed well. But also in the aggregate, particularly in the books of 

many financial institutions, it also allows risks to be accumulated 

and large leveraged to— 

Mr. HENSARLING. I understand that, but can you name specific 

companies? 

Mr. GENSLER. I believe that in—many financial institutions have 

used derivatives to take on significantly extra risk, and so we are 

saying we need to bring this into the capital regime as a cushion, 

whether it is any of the remaining 15 large— 

Mr. HENSARLING. Let me try asking a slightly different variation 

of the question. Are you aware, then, of any other major economic 

institution in the economy besides AIG that wrote credit default 

swaps without posting collateral to their counterparties? 

Mr. GENSLER. Yes. 

Mr. HENSARLING. Who? 

21 

Mr. GENSLER. We could go straight down the list of the large financial institutions, many of them that still exist today, and recall 

that of the first $90 billion that went into AIG, $60 billion went 

overseas to overseas institutions. It gives you a sense of how interconnected we are. The other $30 billion went to many of the other 

financial— 

Mr. HENSARLING. I understand that. That is the reason why 

many of us opposed that in the first place. 

We have had the head of OTS previously testify before this committee, that is the prudential regulator. They had the authority to 

rein in AIG’s Financial Products Division with their credit default 

swaps. They simply missed it. They didn’t lack the regulatory authority. Do either of you disagree with that testimony, which, by 

the way, was under oath? 

Mr. HU. Congressman, to this question you just asked as well as 

the previous question, one of the key aspects of AIG, and, in a 

sense, of the involvement of other financial institutions and credit 

default swaps, is the whole issue of interconnectedness. When markets panic, they sometimes can freeze up. And part of what caused 

the financial problem and caused the intervention with respect to 

AIG subsequent to Lehman was the notion that this interconnectedness was spreading, that people were suddenly refusing to deal 

with each other and so forth. By having these clearinghouse arrangements so that in effect people don’t really have to depend 

on— 

Mr. HENSARLING. Forgive me for interrupting. I see my time is 

about to run out. With respect to interconnectedness, is it not possible that some type of mandatory clearing, is that not making us 

more interconnected? Is that not somehow centralizing the risk in 

one particular location? And if interconnectedness is a critical component of systemic risk, why aren’t we arguing— 

Mr. GENSLER. It actually lowers risk, because right now the large 

swap dealers, there are about 15, maybe generously 20, around the 

globe are also in the banking business, they are in the securities 

business, they are in the insurance business, and the leasing business and proprietary trading business, and they are central 

counterparties. AIG was a central counterparty, not a regulated 

clearinghouse. 

What we are trying to do is we are trying to separate out of the 

large financial houses this counterparty function regulated. I would 

daresay if this committee—if somebody came here and said, could 

the large central counterparties today that are regulated go into 

the leasing business, go into the banking business, go into the insurance business, you would say, no, no, no, we want to keep that 

separate and make sure that function is regulated and has the discipline of a daily marking to market, a daily accounting, a daily 

settling up. It is a harsh discipline in a sense, but it works in the 

futures industry, the largest clearinghouse there. It works well. It 

works in the options on securities, which is called the Options 

Clearing Corporation. It works very well, and it is separated out 

from banking securities and so forth, obviously, with great benefit. 

Mr. WATT. The gentleman’s time has expired. And I recognize 

myself for 5 minutes. 

22 

Mr. Gensler, I am going to zero in on the part of your testimony 

on page 10 that deals with exchange trading. And I know that you 

and the Chair have had an exchange about this earlier, but I want 

to be clear on where this is likely to lead. It seems to me that the 

Administration’s draft dealt with this, and the discussion draft that 

has been circulated by the chairman now muddies the water. Is 

that your assessment? That seems to be what you are saying on 

page 10. 

Mr. GENSLER. The Administration bill, which I fully support, requires that those products that can be cleared also have the benefit 

of either trading platforms, execution facilities or exchanges, and 

that benefits all these end-users that we have been talking about 

earlier on the clearing issue. 

Mr. WATT. And that would be—under the Administration’s bill, 

swap dealers and major swap participants would be required to do 

a certain set of things, and then everybody else would not be, or 

would everybody be required to— 

Mr. GENSLER. It requires all of the transactions that can be 

cleared and listed to be listed on these facilities. Now, some have 

raised the issue of what if there is not enough liquidity and so 

forth. And what we have recommended here in this testimony and 

look to work with this committee on is that through rulemaking 

the SEC and the CFTC, just as we do in futures and securities, 

would allow for certain block trading and certain transactions to 

happen, but still be less— 

Mr. WATT. But legislation won’t accommodate the rulemaking. 

You can’t make a rule that is inconsistent with the legislation. 

Mr. GENSLER. That is right. The discussion draft does not allow 

for this. The discussion draft goes from requiring exchange transparency to just making it optional. 

Mr. WATT. Now, the thing that I wasn’t clear on when I read this 

was whether this—this appeared to me to be as potentially a drafting error as opposed to a conscious decision. I don’t want to put you 

in the position of deciding whether that—is this something that can 

be fairly easily corrected? 

Mr. GENSLER. Absolutely. My compliments to the dedicated staff 

of this committee. This could very well just be an unintended consequence. But we think that, aligned with what President Obama 

and the heads of state laid out, that we should move towards the 

exchange and exchange venue transparency, get the benefits of the 

self-regulatory function, the trade affirmation function and all that 

goes on on these exchange and trading venues. 

Mr. WATT. So just changing it back to making it, at least for 

major swap dealers and major swap participants, mandatory, is 

there another category outside swap dealers and major swap participants for which it may be—there may be a different standard? 

Mr. GENSLER. There is a benefit to end-users. If I can tease out— 

the end-user issue on clearing, which is a very real issue and we 

are all grappling together on that about posting margin and capital 

and so forth, is different than on the exchange side. It is all about 

transparency. This truly does benefit every small utility company, 

every small user of derivatives to have greater transparency. The 

only party that would naturally be opposed is Wall Street because 

23 

they right now have the information advantage, and that is natural. 

Mr. WATT. Talk to us about some of the advantages of greater 

transparency outside Wall Street. I understand that some people 

on Wall Street would like to have that kind of advantage, but what 

are some of the advantages to greater transparency outside? 

Mr. GENSLER. The advantages that economists for decades have 

noticed is that end-users then get the benefit of seeing that price 

discovery function. If you are a small hospital in any State, and 

you are thinking about hedging an interest rate risk, you can see 

what happened even a half an hour earlier on a standard interest 

rate hedging transaction. 

Mr. WATT. How does that compare, for example, with the kind 

of transparency that is currently available on a regular exchange? 

Mr. GENSLER. Well, it would be very close to the transparency 

that you would see on the regulated securities, exchanges and regulated trading venues. There is also these alternative trading 

venues in the securities and in the futures world. 

Mr. WATT. Thank you. 

My time has expired, and the gentleman Mr.—let me see who is 

next—Mr. Castle, I think, is next. 

Mr. CASTLE. Thank you, Mr. Chairman. 

I am impressed by the testimony of both of you and the work you 

have done on this, including this committee and the Agriculture 

Committee, which has been referenced. And I just want to get confirmation from you. I assume that you are—this is a positive question, not a negative question. You are working together with respect to the various recommendations which you are working on. 

I don’t see a lot of space between you, and I would assume that 

is the case, and you are working jointly with this committee and 

the Agriculture Committee; you are not setting one off against the 

other is my assumption, based on what I am hearing. 

Mr. GENSLER. I thank you for that, Representative Castle, and 

I believe that would be the case at the staff and Commission and 

Chair levels. 

Mr. CASTLE. Let me ask you this, Mr. Gensler. You mentioned 

earlier in your testimony the need for explicit capital standards. 

And I am not enough of an expert to perhaps even ask the right 

question, but I am worried about the liquidity in all of this. Capital 

is one thing, but sometimes there is capital without liquidity. Is 

that a factor that is taken into consideration, or am I not understanding it correctly in terms of the capital versus liquidity needs 

and trading circumstances? 

Mr. GENSLER. Liquidity is fundamental to markets and fundamental to all the users of these products. Capital is that the financial institutions that hold themselves out to the public as dealers 

have sufficient shock absorbers, so to speak, in their business. 

One of the key assumptions to regulation is that we were regulating the large financial institutions, and I truly believe the financial regulatory system failed the American public. So that is why 

we are recommending that it has to be more explicit in writing 

rules about the capital. These large financial institutions already 

were supposed to have capital for their derivatives business; not 

AIG, but the others, so to speak. We think that is just more transVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00027 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
24 

parent, go through the usual Administrative Procedures Act and 

have real explicit rules on the capital on these products. 

Mr. CASTLE. Thank you. 

Like everybody here, and I think you are addressing these issues, 

I obviously believe we need greater transparency and accountability of OTC derivatives, but there are—and we all know this— 

users out there who are concerned that implementing these reforms will limit the use of derivatives as a way to manage risk because margin capital requirements to participate in these deals 

may be too costly. And I think I am referring mostly to entities 

that use the trade and these various derivatives for business, or 

whatever it may be. So there is some legitimate concern about that. 

Have you addressed—have we addressed this in the legislation, 

and are you taking this into consideration as you comment on this? 

Mr. GENSLER. We are concerned that we get this right, the balance is right, and what we suggested is that the end-users be allowed to enter into their own individual credit arrangements with 

the financial institutions so that the financial institutions still 

bring the transactions to central clearing. However, if Congress 

doesn’t accept that approach, we think that we would want to work 

with this committee and Congress just to make sure it is a very 

narrow exception for end-users that are non-financial institutions 

that are using swaps not—they are incidental to the business, and 

it is to hedge particular commercial risk. 

I should note this is only really a debate about the standard or 

clearable contracts, because all the end-users, appropriately the 

Administration, the CFTC support, should be able to enter into tailored or customized products for their particular risks. 

Mr. HU. I should emphasize that one of the key ways we want 

to protect end-users is to make sure that the clearinghouses don’t 

overcharge. So what we have done historically in terms of ensuring 

that is to, in fact, refuse to tie a particular exchange to a particular 

clearing service. So the result is that we have a single stock or a 

similar product trading across multiple exchanges cleared through 

one entity, and that has really redounded to the benefit of the investors. So this public utility model of clearinghouses, we think, is 

very important. 

A second aspect in terms of protecting end-users, I think, is that 

while central clearing and exchange trading are both worthy goals, 

worthy to think about in terms of improving transparency and the 

like, but in terms of making exchange trading mandatory, historically in terms of the securities laws, we don’t require mandatory 

exchange trading. We have alternative trading systems to stock exchanges and the like, and study after study have shown they have 

made things more efficient for the investors. 

The CHAIRMAN. The gentleman from California. 

Mr. SHERMAN. Thank you, Mr. Chairman. 

We have had quite a number of regulators sit where you gentleman are. Now, every time I hear from regulators, they always 

want to regulate. They never want to abolish the actual activity 

that would eliminate the need for regulation. We have a $592 trillion over-the-counter derivatives industry. This makes all of Las 

Vegas seem like a single grain of sand. For the most part, as far 

as I can tell, most of these derivatives are just gambling contracts. 

25 

There is no airline hedging against increases in fuel costs. There 

is just somebody who thinks they can make money that day by betting on airline fuel. 

The question—one of the reasons this casino grew so large is that 

those who are betting believed that if the individual casino got in 

trouble, the Federal Government would be there to bail them out 

with regard—there is substantial possibility of that. Those who bet 

at the Lehman Brothers casino were wrong; those who bet at the 

much larger AIG casino turned out to be right and haven’t lost a 

penny. 

The question is can the over-the-counter derivatives industry 

work without an implicit possible—because we saw sometimes it is 

there, sometimes it is not—Federal guarantee? If, for example, 

Congress did not adopt section 1204 of the Treasury proposal and 

did not provide a mechanism by which the Federal Government 

could come in with hundreds of billions of dollars and bail out one 

of these casinos, what harm would there be to the economic institution and to over-the-counter derivatives industry? 

Mr. GENSLER. Congressman, if I—I apologize. If you can remind 

me of section 1204? 

Mr. SHERMAN. Section 1204 is the mechanism by which the Executive Branch can lend unlimited amounts of money or make unlimited investments in any systemically important—which really 

means top 20—financial institution. 

Mr. GENSLER. I thank you. 

We believe that it is really important to separate out this central 

counterparty function from these large financial institutions precisely for the reason that you just raised, that they are so large 

that there is this moral hazard issue of where is the government, 

what is the government’s role in those institutions. So in separating them out, in central counterparties that are fully regulated 

and have to take an accounting on a daily basis, have to have collateral posted, and it is separated from a lending business, separated from an insurance or securities or proprietary trading business, we firmly believe that lowers— 

Mr. SHERMAN. If we separate it out, do you have a system that 

will work without a section 1204, without an implicit Federal contingent guarantee? 

Mr. GENSLER. I think separated out, the central counterparties 

should be rigorously regulated and have to have the posting of that 

daily collateral. 

Mr. SHERMAN. Sir, I have a limited amount of time. 

Mr. GENSLER. It might be better to avoid the moral hazard. 

The CHAIRMAN. The chairman yields—it is the Member’s time. 

Mr. SHERMAN. Will your system work if Congress makes it clear 

that there is no implicit guarantee? Do you need that guarantee to 

make it work? 

Mr. GENSLER. On the central counterparties, I don’t think so, sir. 

Mr. SHERMAN. So if we were to go with your system and prohibit 

or at least not provide for future Federal bailout, the system would 

still achieve its economic purpose? 

Mr. GENSLER. I am referring to just solely the central 

counterparty clearinghouses. 

26 

Mr. SHERMAN. What about the rest of the over-the-counter derivatives industry? Mr. Hu? 

Mr. HU. The chances of needing this kind of emergency backup 

are so reduced with just fishbowl or a series of fishbowls that we 

are creating, simple activities that we look at— 

Mr. SHERMAN. Mr. Hu, will it work without a code section that 

provides for this admittedly rare Federal bailout possibility? 

Mr. HU. That would call for analysis that we would have to do. 

Mr. SHERMAN. I look forward to your analysis. Thank you. 

The CHAIRMAN. The gentleman from New York, Mr. Meeks. 

Mr. MEEKS. Thank you, Mr. Chairman. First, I want to commend 

you, Mr. Chairman, for trying to bring far greater clarity to many 

of the definitions of parties, instruments, and practices. 

I think the discussion draft brings back the focus to systemic 

risk, which I think is tremendously important. And, for example, 

I think the provision of a clear exemption from most of the new requirements for end-users and hedgers who use derivatives primarily for operational risk management. Though we need to be 

cautious about this, because we don’t want to create all these loopholes, it is important, however, for us to be reasonable and responsible to require end-users who pose no systemic risk and who do 

the right thing by hedging business risks they don’t control to be 

subject to the same capital or margin requirements as financial institutions and market makers who are, in fact, systemically significant institutions. 

Secondly, I think it was also important that we bring the focus 

back on proper capitalization and margining of trades by major 

players and by putting the responsibility of evaluating the appropriate level of capital and margin to a given market participant’s 

functional regulator. Again, this brings the focus back to systemic 

risk by addressing issues of leverage and safety and soundness. 

And third, that other forms of collateral be held by independent 

third-party custodians, which is critical, I believe, in protecting the 

system from some critical abuses as identified in the past year. 

And lastly, how we deal with—and I have been talking about 

this a lot—international transactions, how they will be dealt with, 

and the criteria which—and a process by which certain international players may be excluded if they pose a systemic risk. 

However, there are still a few things that I think are out there 

that we need to—and I would like to get your opinions on this. I 

think we need more clarity. They include the degree of independence and competitiveness of clearinghouses which may be subject 

to natural monopolies, and which may have the power to skew the 

competitive playing field in their favor, particularly if they are predominantly owned by dealer banks. 

The other area of concern I think that we need to keep a close 

eye on, and I would like to get your opinion on that, is how our 

new regulations encourage continued innovation and competition in 

this space. Specifically, with new powers given to many regulators, 

particularly the SEC and the CFTC, it would be critical, I think, 

to hold them to a higher standard of efficiency and responsiveness. 

I would like to get your opinion on that. 

Mr. GENSLER. If I may, we agree with the goal of promoting competition on exchanges, on trading venues and on clearinghouses. 

27 

What we have proposed is: the clearinghouses be open and accept 

transactions from any of the exchange venues, and I believe that 

was included in the discussion draft that we have some technical 

things just to make it nondiscriminatory; second, that the clearinghouses be open in membership, that they allow some of the 

nonswap dealers in as long as they meet the membership requirements of these clearinghouses; and third, that the governance be 

opened, and that governance not just be controlled—as you suggest 

you would want to avoid as well—controlled by the dealer community, to help promote competition. 

Working with this committee, we could also work on rules to 

make sure, as Mr. Hu said, that the clearinghouses couldn’t just 

demand such charges for their central clearing because of the concerns you say they might naturally end up being single entities. 

Mr. HU. Congressman, you raise excellent questions. The SEC 

has historically emphasized very much the public utility model as 

to clearinghouses so that we actually expect fair representation of 

people who use these clearinghouses so that there is active involvement in terms of making sure that the fees are not exorbitant, that 

they don’t unfairly burden people. And we have set up this model 

to prevent exchanges from controlling clearinghouses. We believe 

that is an essential element as well. 

In terms of innovation, competition, the discussion draft Treasury proposal recognized both the benefits of financial innovation 

and some of the costs. And in terms of this balance, these are 

issues that the CFTC and the SEC, together with this committee 

and other committees, will work closely on. 

Mr. MEEKS. Thank you. 

The CHAIRMAN. The gentleman from California, Mr. Royce. 

Mr. ROYCE. Thank you, Mr. Chairman. 

It appears that questions surrounding the idea of a central 

counterparty still remain, and one of those is the argument that 

some economists make, and it basically goes like this. They say by 

inserting this third party into the mix, you end up concentrating 

the credit risk, and, of course, you weaken the due diligence that 

would otherwise exist among the counterparties. The line of argument they make, and I would like to hear your response to this, 

is that while central counterparties do not have market risk, they 

do have the credit risk to their members. So it appears that the 

central counterparty idea presents a tradeoff between the benefits 

of economies of scale and the concentration of credit risk in the 

central counterparty. 

So the way it is portrayed by economists is the central 

counterparty would become systemically significant and thereby 

will be perceived probably as being ‘‘too-big-to-fail.’’ And if the central counterparties’ capital and the additional capital it can raise 

by making capital calls on its members are insufficient to cover 

losses from defaulting members, then who will bail out the central 

counterparty? That becomes sort of the moral hazard problem that 

might result. Who is the lender of last resort, especially when you 

consider a multinational central counterparty? 

Do you think there is justification in that concern? Does that 

erode market discipline and due diligence? Do you think there is 

an argument there? 

28 

Mr. GENSLER. Congressman, we currently have central counterparties that are called Wall Street financial institutions. Generally, 

there are about 15 around the globe. There are 5 major ones right 

now that are 80 to 90 percent of these markets. And they are not 

being regulated to lower risk as central counterparties, they are 

being regulated as banks and securities firms. 

So we think we need to separate out that which we can, put it 

into central clearinghouses that are regulated, only the product 

that can be cleared, that has enough liquidity, and then you get the 

benefit of lowering risk, because there is a daily accounting, there 

is a daily settling up where collateral is posted, and we truly actually are addressing the same issue those economists you referred 

to are trying to address, but trying to lower risk, because right now 

we have a very highly concentrated financial industry, but we are 

not regulating this activity separately. 

Mr. ROYCE. Yes, Mr. Hu? 

Mr. HU. I agree with those. In addition, one of the central points 

I want to emphasize is that these big derivatives dealers are engaged in a tremendously wide-ranging set of activities, everything 

from merchant banking to insurance to all manner of activities, 

much of which may not be transparent. With clearinghouses, in addition to these really tight controls, daily controls, you have a tightly limited set of activities. So it becomes much easier to make sure 

that they have the right capital and so forth. It is a much simpler 

regulatory task. 

Mr. ROYCE. Let me ask you the other half of that equation, because the other part of the concern with that is the weakening of 

due diligence among the members of a central counterparty. If by 

definition, the central counterparty then absorbs the counterparty 

risk of its members, will this structure encourage the outsourcing 

of due diligence by the members of the central counterparty? And 

I will give you an example. 

We saw with the rating agencies the outsourcing of due diligence, 

right, and the outsourcing to institutions that were perceived to 

have superior knowledge. And we saw that was a mistake which 

could result in unintended consequences. Do you think that humans could make the same error here in judgment? 

Mr. GENSLER. Humans definitely are prone to make similar errors, I concur with that. What this replaces it with is rather than 

another judgment on credit risk, it replaces it with the discipline 

of actually doing a daily accounting and a daily settling up with 

margin. So that is the replacement rather than just unsecured exposures. 

Mr. HU. Two differences. One is that in contrast to merely doing 

due diligence in terms of other counterparties—that is, that one 

bank trying to figure out whether another bank is reliable, here we 

have government actually coming in and saying, you have to do 

‘‘X,’’ ‘‘Y,’’ and ‘‘Z.’’ So it goes beyond just the screening, informational element. Very important. 

The second issue involves flipping it around. We are talking 

about reducing burdens to end-users and the like, those who use 

these products that are on clearinghouses. Flipping it around—if 

you have assurance that, in fact, the central clearinghouses 

worked, you don’t need to spend money investigating. 

29 

The CHAIRMAN. Thank you. 

The gentleman from Kansas. 

Mr. MOORE OF KANSAS. Thank you, Mr. Chairman. 

Chairman Gensler, I know you are a proponent for mandatory 

exchange trading. There are benefits to exchange trading, but I 

have heard from some end-users, not Wall Street bankers, but a 

number of small businesses and even Kansas farmers who say custom derivatives provide a useful tool to hedge risks. 

I am also concerned about mandatory exchange tradings, a blunt 

instrument, when strong incentives can drive derivative trading to 

clearinghouses and exchanges. So at a time when credit remains 

tight and business activities restrained, Chairman Gensler, do you 

have any concern that mandatory exchange trading could slow the 

economic recovery underway? 

Let me ask one more thing, too. Might it have a negative impact 

on end-users that have used derivatives in a responsible way? 

Mr. GENSLER. I think it is a positive for end-users and a positive 

for this recovering economy, because it brings transparency and 

still allows, exactly as you said, the customized product—we are 

not talking about the customized product, but that which is standard in these markets, which, depending upon estimates, is between 

50 and 80 percent of the market, still leaving a very large part of 

customization. But that 50 to 80 percent would be either on exchanges or on trading venues—people have different words for 

that—but alternative trading platforms, and then it would be very 

positive for the end-users to get that transparency and benefit. 

Even if it is a few basis points, it is large for the economy and for 

the end-users. 

Mr. MOORE OF KANSAS. Mr. Hu, what are your views on the potential effect of mandatory exchange trading, sir? 

Mr. HU. We differ slightly from Chairman Gensler as to the mandatory exchange trading as distinguished from the clearinghouse 

arrangements. We believe that clearinghouse arrangements will get 

you a lot of the transparency and other benefits associated with the 

two. 

And in terms of the burdens on end-users, we believe that the 

enhanced transparency and the standardization of a lot of these 

swaps that the end-users will be relying on may in some ways reduce costs, in some circumstances, for end-users. 

Mr. MOORE OF KANSAS. Thank you. 

And, Mr. Hu, something to remember as we consider derivatives 

regulation is that we are not legislating in a vacuum, and this is 

part of a broader regulatory reform package. I believe there are 

some items related to municipal swaps that should clearly remain 

under the jurisdiction of the SEC in order to be covered by the increased protections for many securities and advisors that are coming out of the SEC and other parts of regulatory reform. But what 

are your thoughts on the unique nature of municipal finance that 

often require their contracts to be more customized? 

Mr. HU. In terms of how municipalities most directly relate to 

this bill and these customized products, I think it has been the 

area of business conduct. And so one of the areas that we think 

may be appropriate would be, in fact, enhancing the business conduct requirements with respect to less sophisticated participants, 

30 

some of whom may be municipalities. We have real concerns about 

that. We have seen issues involving municipalities and their derivatives activities that concern us. 

Mr. MOORE OF KANSAS. Thank you, sir. 

Mr. Chairman, I yield back. 

The CHAIRMAN. The gentleman from California, Mr. Baca. 

Mr. BACA. Thank you, Mr. Chairman. 

Mr. Gensler, when you testified before this committee in July, I 

addressed my concerns about the initial transfer of the standardized derivatives into the clearinghouse. There was a proposal that 

initially a few clearinghouses will compete to carry these products. 

I was concerned, however, that this may create a conflict of interest 

similar to what we have experienced in the credit rating agencies. 

The discussion draft now calls for the Federal regulators to determine whether these derivative products are standardized enough to 

go into the clearing mechanism. In your mind, would this change 

eliminate any possibility of conflict to exist, or are more safeguards 

needed? 

Mr. GENSLER. Congressman, I concur with you that we need to 

ensure that the clearinghouses, through that conflict, don’t force 

things in that ought not be there, and there should be strong oversight of that process. Working with this committee, though, we look 

forward to making sure that the presumption still is if it can be 

cleared, it would be in the clearinghouse. But I think that we can 

get this right working with your staff. 

Mr. BACA. So this would eliminate some of the conflict of interest 

or not? 

Mr. GENSLER. I think that the regulator should have oversight 

with regard to it, but that on a first order, the clearinghouses 

should determine under their risk management guidelines which 

contracts are clearable. Also, we would not want the burden to go 

the other way, that we force something into a clearinghouse that 

they can’t properly risk manage. 

Mr. BACA. Mr. Hu? 

Mr. HU. One thing we appreciate about this discussion draft is 

the ability for the regulators to help determine what should be 

cleared or not. This way, there is greater likelihood that, in fact, 

the particular clearinghouse meets the needs of the end-users and 

other participants. It is a more regulated process rather than the 

automatic—the much more presumptive approach of the Treasury 

bill. 

Mr. BACA. Thank you. 

In continuation, the discussion draft proposes a joint rulemaking 

between the CFTC and the SEC, and, Mr. Hu, in your testimony, 

you expressed concerns over his proposal. Instead of referring to 

Congress to include definitions in the legislation, if the SEC and 

the CFTC officials are supposed to be experts in these matters, in 

regulating the abuse, wouldn’t it be best interest to agree on definitions rather than Congress so this way you don’t wash your hands? 

And can you comment on why you think this legislation is a better 

or more effective approach? 

Mr. HU. I think perhaps an illustration may be helpful in terms 

of answering this question. 

31 

Right now, in terms of the world of security-based swaps, those 

based on broad-based swaps basically fall within the Commodity 

Futures Trading Commission’s jurisdiction. The narrow-based securities-based swaps fall within the SEC’s jurisdiction. 

In fact, in the real world, with clever hedge funds and others, 

you can use two different credit default swaps, or two different security-based swaps involving broad-based indices, to get very targeted exposure. 

So you might have a system where, in effect, one falls within securities law and pure securities law considerations apply. The other 

may deal with exactly the same kind of concerns and yet be subject 

to a wider range of perspectives. So you may end up with gaps between the two approaches. And this is one of the reasons why we 

think that close economic substitutes ought to be treated the same. 

Mr. BACA. Thank you. I yield back the balance of my time. 

The CHAIRMAN. The gentleman from Georgia, Mr. Scott. 

Mr. SCOTT. Thank you, Mr. Chairman. And welcome to the committee. 

I first want to thank you, Chairman Frank, for listening to some 

of our concerns earlier on and responding in a very positive way 

with the new draft bill for the increased clearing flexibility for endusers and the situation regarding our foreign board of trade by 

linking them to U.S. contracts. I still remain somewhat concerned 

about not overregulating foreign boards of trade, and being wary 

that they could, and it might invite retaliation by foreign regulators. I think that is something we should keep our eye on. I certainly want to commend you for that and also for—I appreciate 

your concerns and your response by exempting end-users of derivatives from the clearing capital and margin requirements. 

But my understanding is that the bill still mandates capital requirements for non-financial dealers, which could very well drive 

non-bank dealers out of the over-the-counter derivative market and 

end up concentrating a tremendous amount of power in the hands 

of the large banks. So, Mr. Gensler, could you comment on that? 

Are you somewhat concerned about the concentration of over-thecounter swap dealer markets, and do you believe that we ought to 

be concerned here in Congress that some of the proposals like capital requirements for non-financial dealers will give large banks, 

which already control 90 percent of this market, even more power? 

Is that a healthy thing? 

Mr. GENSLER. I share the Congressman’s view that there is a 

highly concentrated market here, and probably 5 or 10 years from 

now, it will be even more concentrated. This happens in the airline 

and other industries as well. 

But I do think on the non-bank dealers, people holding themselves out in dealing in these, that there is an appropriateness to 

have capital; that we don’t want to have something outside the system. These are generally in the commodity swaps area, the oil and 

natural gas and commodity areas, and many of them have capital. 

It is not to be additional capital, what they currently have, but just 

to make sure they have a minimum amount of capital if they are 

holding themselves out and making markets in these commodity 

swaps or other swaps as a non-bank dealer. 

32 

Mr. SCOTT. But are you worried that it may drive some of them 

out of the market, thereby lessening transparency? 

Mr. GENSLER. Our concern is overall to lower risk in the system 

and enhance transparency, to promote the competition that you, 

too, as well want. But we want to ensure that there then wouldn’t 

be some regulatory arbitrage that a non-bank could have zero capital and all the banks have to have capital. So we do think it is 

appropriate to have some minimum amount of capital if you are 

holding yourself out to the public as a dealer. This is the dealers 

themselves. And that is generally only in, as I said, the energy 

commodity swaps. 

Mr. SCOTT. Yes, Mr. Hu? 

Mr. HU. In terms of your specific point about perhaps driving 

business abroad, one of the things that helps is the extensive financial coordination going on right now: the OTC Derivatives Regulators Forum, IOSCO—indeed, Chairman Schapiro is at an IOSCO 

meeting in Switzerland today—the Over-the-Counter Derivative 

Supervisors Group. And among the reforms that have been discussed are things like standardized clearing, encouraging trading 

on exchanges, a lot of the same kinds of things that are going on 

here. So the international coordination should help a lot. 

Mr. SCOTT. Going back to you for a minute, how would the CFTC 

plan to implement and structure capital requirements for non-financial dealers so that we do not create a bank-monopolized overthe-counter derivative market? 

Mr. GENSLER. Similar in some regards to what we do overseeing 

futures commissions merchants, we work with other prudential 

regulators to look at their capital regimes. Where they are regulated by somebody else, we generally have lower regimes at the 

CFTC than the Federal Reserve or the SEC. I would envision it 

would be very similar to that, and we would allow the capital they 

have in their business—it could be in oil and gas reserves, it could 

be elsewhere—but just at the minimum. It doesn’t have to be liquid 

capital. 

Mr. SCOTT. I yield back. Thank you again, Mr. Chairman, for— 

The CHAIRMAN. The gentleman from California, Mr. Campbell. 

Mr. CAMPBELL. Thank you, Mr. Chairman. I will apologize in advance since I missed part of this hearing. If these questions have 

been asked, or some of this, I will apologize in advance. 

But if we talk about the standardized clearing and so forth, and 

then the custom products, which is what I am hearing you call 

them, either in your opinion or under the discussion draft, other 

than transparency, would there be any limitations to the creation 

of and marketing of customized products, either ones that we currently see or ones that haven’t yet been developed? 

Mr. GENSLER. We believe that the legislation should cover all of 

the products, but allow for hedgers to hedge risk, and even if they 

are tailored in particular and customized, so that they would be 

able to innovate, and that is part of our important risk management in our economy. 

Mr. CAMPBELL. Mr. Hu? 

Mr. HU. The financial innovation process is critical not only for 

this country, but the financial services industry and the social 

wellbeing. This bill does not stop that; it controls it. It tries to conVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00036 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
33 

fine it so that the externalities of these kind of activities are severely limited. 

Mr. CAMPBELL. Let us get to that, because homogenizing derivative products is not an easy thing. Obviously, everyone even in the 

bond market you haven’t been able to homogenize and make an exchange trade and so forth. How much would fit in this standardized? How much homogenization is there going to be? And is there, 

then, incentive for me to create products that do not homogenize, 

because even though there is transparency, there can be more margins in something that is outside of this—well, not exchange, but 

outside of this clearing than would be inside the clearing? 

Mr. GENSLER. Well, I was going to say it depends on the market 

today, but in the rates-based various estimates, close to 80 percent 

of the market is already standard in some regard. In the commodity and the credit default space, it is lower, but still probably 

60 or 70 percent. These is anecdotal evidence of that. But we are 

not trying to homogenize the other 20 to 40 percent. There is no 

goal in the Administration proposal or in the discussion draft to do 

that. 

Mr. HU. The standard process of modern financial innovation involves the OTC derivatives market as being the hothouse for financial innovation. The weird products basically appear there first, the 

newest products, and they migrate. They get standardized. So right 

now interest rate swaps are highly, highly commoditized. Back in 

the 1980’s, hardly so. You sometimes still had to argue about documentation. There is a process. 

Mr. CAMPBELL. Okay. So you are saying that 60 to 80 percent of 

the market today is naturally homogenized simply by the marketplace so that buyers and sellers, people on both sides of the hedge, 

understand what they are getting, they are used to it, etc., etc., and 

that they are naturally homogenized not by government action or 

whatever, and that there is no further homogenization—probably 

not a word—that either would need to be done or should be done 

by government or by you or by anybody? 

Mr. GENSLER. Not on the economic terms. There is a desire to 

have rulewriting for these two agencies in terms of the processing, 

the netting and the documentation, what I will call the back office 

terms, but not on the economic terms. 

Mr. HU. The existence of these designated products, designated 

for clearing on these clearinghouses under the draft bill, under the 

discussion draft, makes it very transparent what standardized 

products are out there, and that with this kind of transparency, 

various end-users and others can determine, well, gee, do I really 

need a customized product, or will that standardized product get 

me 99 percent of the way there? Should I pay that extra markup 

that you referred to, Congressman? 

Mr. CAMPBELL. Right, right. But if I do want to have that customized product, I would be able to do that, and there would be 

some transparency to that, that doesn’t currently exist, but I am 

not going to be limited. 

Mr. GENSLER. That is correct. You would not be limited, and you 

would benefit by seeing where the standard product, the homogenized product, traded 10 or 20 minutes ago when you think about 

the particular risk you want to hedge. 

34 

Mr. CAMPBELL. And the clearinghouses themselves would be 

through how, through what—who operates clearinghouses? 

Mr. GENSLER. The clearinghouses would be private entities, but 

regulated by our two agencies and overseen for risk management. 

Mr. CAMPBELL. How many of those do we think there would be? 

Mr. GENSLER. It is hard to determine. Right now, there are five 

or six that are trying to compete in this space, and whether that 

narrows down to be one here in the North American and one in Europe, by product or otherwise. We think it is important, though, 

that we get full access. If it ends up in Europe, that is all right, 

but do we get full access as we would think foreign regulators 

should have full access if it ends up in the United States. 

Mr. HU. Right now, in terms of clearinghouses for credit default 

swaps, there have been three or four or five that exist, two or three 

of which are active. 

Mr. CAMPBELL. Okay. My time has expired. Thank you, Mr. 

Chairman. 

Thank you both. 

The CHAIRMAN. By the way, that is a recess, not a vote, So we 

hope to be able to finish soon. 

The gentleman from Texas, Mr. Green. And then we will go to— 

I cannot accommodate non-members, I apologize. But this committee is too big, and we can’t do it. 

Mr. Green. 

Mr. GREEN. Thank you, Mr. Chairman. 

I thank the witnesses for appearing. I thank the Administration 

for its guidance and leadership. And I would like to repeat some 

things that have been said, but probably say them slightly different. 

It seems to me that what we have is this: We have a stock market that is mostly regulated, I think you will agree. We have a 

swap market that is mostly unregulated, and they are at the end 

zones. And then in the middle, we have this twilight zone of ‘‘swap 

stop’’ or ‘‘stop swap’’ market that is somewhat regulated and somewhat unregulated, which is where AIG was in this sort of twilight 

zone of swap market and stock market. Is that a fair statement, 

Mr. Gensler? 

Mr. GENSLER. I don’t wish to disagree with you, but I think— 

Mr. GREEN. Please do. 

Mr. GENSLER. AIG was largely in the ineffectively regulated, and 

the products that they were trading in, the products were not regulated at all. 

Mr. GREEN. So they had more of a swap market unregulated 

than they did the stock market that was regulated? 

Mr. GENSLER. That is correct. 

Mr. GREEN. Mr. Hu? 

Mr. HU. It is a huge gap that this discussion draft helps address. 

How we get there is a matter that we are all going to work together on. 

Mr. GREEN. Exactly. And what this proposal seeks to do is deal 

with that unregulated swap market to a great extent. And in so 

doing, you have promulgated some rules that we have not had 

heretofore. One would be a proposal to deal with abusive and— 

products that would pose a threat, a systemic threat. And in so 

35 

doing, you can go so far as to declare some products as unworthy 

of being products in the regulated market. Are all of these fair 

statements? 

Mr. HU. The anti-abuse provision that you refer to is something 

that we are just starting to analyze, but among the issues is this. 

Mr. GREEN. Exactly. 

Now, let me say this: One of the reasons why—there may be a 

multiplicity, but one of the reasons we are so concerned about this 

is because of the systemic risk that developed with AIG, and other 

companies as well, and it is really the systemic risk that we are 

trying to deal with. We, generally speaking, wouldn’t be in this position, wouldn’t be here today, if we had not had some systemic 

risk problems we had to deal with, and taxpayer dollars ultimately 

had to help us maintain the financial system. So this is why we 

are here. 

Now, with reference to products that create a risk that can be 

deemed systemic by virtue of being pervasive and by virtue of 

being so risky that they just don’t fit well in a regulated market, 

are there any products at all that you can think of that would be 

so abusive or so systemically risky that you would not have them 

in this market? 

Mr. HU. In terms of that issue, we have not tried to look for particular products that— 

Mr. GREEN. I understand. 

Let me share this with you: We talked with Chairman Bernanke 

recently and this question was posed to him, and I think his response was that he thought that no-doc loans just didn’t have a 

place that was one that could be placed in a market, but no-doc 

loans were just not good. 

I am asking you because, if there are no products, no products 

that are so abusive and so systemically risky that we would want 

to—I don’t want to say ‘‘outlaw,’’ but say that this is something we 

really shouldn’t have, is this provision going to be effective? 

Mr. HU. Congresswoman Waters, earlier on, referred to the Goldman Sachs ‘‘empty creditor with a negative economic interest’’ situation. 

Mr. GREEN. Exactly. 

Mr. HU. So that—and similarly in terms of Goldman Sachs—was 

perhaps an empty creditor as to AIG. So in terms of the Goldman 

Sachs situation Congresswoman Waters was referring to, incentives may sometimes be created for creditors not to care about 

what happens to their borrowers. 

Mr. GREEN. Because my time is going to expire, let me go quickly 

to this. 

A part of the problem also was that many of these counterparties 

outsourcing their risk management to the rating agencies, because 

if it was a triple-A rating, which is what AIG had, they relied on 

that, rather than having their own internal risk management. 

Will this deal with that kind of circumstance wherein you can 

outsource your risk management to the rating agency? 

Mr. GENSLER. I think it will largely regulate the credit default 

swap area, which is at the heart of what you just said, because 

that outsourcing of ratings was also relying on these credit default 

swaps. So I do believe that the Administration proposal and the 

36 

discussion draft brings that into regulation, and this last provision 

that you talked about would add to it. 

Mr. GREEN. Thank you, Mr. Chairman. I yield back. 

Mr. MOORE OF KANSAS. [presiding] The Chair next recognizes the 

gentleman from California, Mr. Perlmutter. 

Mr. PERLMUTTER. Just a comment, and then I want to yield to 

Mr. Murphy from New York. 

The terminology, the nomenclature, how we describe these 

things, changes all the time from swaps to straddles to just different things. It is just different methods of calling how you hedge, 

how you risk, how you speculate, how you gamble. 

My goal here, in all of this, is that there not be a risk to the system; that you two have enough resources within your agencies to 

make sure that whoever is doing this trading has the capital if 

their bets go south. And really that is all I want to know, because 

I don’t want—I am okay with people trading and trying to manage 

their risks and doing whatever, so long as it is over here in the corner and can’t pull the whole system down; that there is clearing 

on a daily basis or there is posting on a daily basis, or so that you 

know what kind of leverage really exists in the market. 

So at any time, if you don’t think you have the resources to manage this stuff, I would like you to just come to this committee 

ASAP. Otherwise, we are going to spend another $700 billion like 

we did last fall, and we can’t have that. Just a statement. 

Now I want to yield to Mr. Murphy, who does understand all of 

the ins and outs. I am looking at the bigger picture. Now I am 

going to turn it over to him. 

I yield to Mr. Murphy from New York. 

Mr. MURPHY. Thank you, Congressman. 

A question to you, Mr. Gensler, trying to understand the idea of 

requiring everything to be exchange traded or through a trade execution vehicle. I am not sure I can get my hands around this. 

So in the standard market that we are familiar with for fixed 

floating swaps, some company is going to borrow $10 million and 

they want to change it from fixed to floating, or vice versa, and 

they do that transaction with a swap dealer. They want it to start 

the day their loan is going to close, so it happens to be November 

25th, and it is going to last for 10 years or 10 years and 3 months, 

so there is still some nuance to that. 

What does it mean to put that on an exchange? I am not sure 

I really understand, because there is not going to be a big market 

of 8 other guys who want a 10-year, $10 million fixed floating swap 

on November 28th. 

So what does that mean? 

Mr. GENSLER. Right. First, I want to say, Congressman, in view 

of the time, we are here today saying we don’t have the authority 

and the resources we need—for the record, to make it clear. 

In terms of bringing it on into this central, transparent trading 

platform, we have some examples now. They are called exempt 

commercial markets. An organization called ICE does this in the 

energy space. And many—over 700 contracts are listed in oil and 

natural gas contracts. They are swaps. So it would mean they 

would be listed. 

37 

In your example, a 10-year interest rate swap would be listed, 

and it would be quoted, and there would be some bids in office on 

a regular basis. We would write rules so that if the transaction 

that you just referred to was so illiquid or specific that, just like 

block trading today in the futures world and the securities world 

can be done off-exchange, but you would still get the benefit that 

you see some listed market on the standard product, the trade is 

affirmed through the trading platform and then reported. Just as 

in the futures world, it is within 5 minutes when it is an off-exchange or block trade. It is a little different over here. 

So we get the benefit of multiplicity and competition of trading 

venues. It is not all on a fully-regulated exchange. We get the benefit of some self-regulatory function even on the trading venues, 

trade affirmation, trade reporting; and, where possible, you also get 

some bids and offers on the standard product that you can see a 

picture of the marketplace. 

Mr. MURPHY. So you would be reporting the trade even if you are 

not hitting the exact standard. What is the nuance if it is a 10-year 

trade versus a 10-year-and-2-month? Does that put it in the customized world, or does that still go through the kind of standard? 

Because everything else is standard and clearable, but yet it is not 

maybe going to hit something that is listed. 

I guess my sense is that is going to be most of the transactions, 

so I am trying to understand that. 

Mr. GENSLER. No, actually most of the transactions in the interest rate product area are clearable. 

Mr. MURPHY. Absolutely. But I think almost none of them would 

be exchange tradable in terms of volume or specificity based on 

what I have always seen in business when we put these trades on. 

Mr. GENSLER. And I think we are suggesting a change of a 

model, that Wall Street dominates this and keeps it close hold, and 

that small companies or small municipalities can’t see a picture of 

that marketplace. 

We say that we allow for that. We allow the current inter-dealer 

brokers, who would register as swap execution facilities. Others 

that don’t even exist today would compete in this area, similar to 

my example of ICE Atlanta that has over 700 contracts in the energy market, and we would see real competition in this world and 

transparency for these individual products. 

But, again, I think it would be appropriate to write into statute 

that we can write rules for what I would call voice-brokered transactions off exchange. They still then would be brought and affirmed 

on the platform, reported on the platform. There would be some 

self-regulatory function of those platforms, as we have in our two 

regulatory regimes. 

Mr. MOORE OF KANSAS. The gentleman’s time has expired. 

The Chair would next recognize the gentleman from Minnesota, 

Mr. Ellison. 

Mr. ELLISON. Well, I am glad we have Congressman Murphy 

here asking you guys, talking mano-a-mano, sort of. 

Let me ask this question. The new draft legislation requires dealers to report prices at 5:00 for derivatives not traded on an exchange or electronic platform. Do you think this requirement goes 

38 

far enough in terms of promoting price transparency in the derivatives market? 

Mr. GENSLER. We think that it may be an unintended consequence, but there are some exceptions in foreign trading, and it 

leaves it as an optional. But we think we should bring some realtime reporting, hopefully maybe not end of day, but during the day 

as well. 

But we think it is the right goal, and we will work with committee staff on this. 

Mr. ELLISON. Mr. Hu? 

Mr. HU. Indeed, one of the areas we are looking at is regulators 

getting real-time information so that we can catch things very 

quickly. 

Mr. ELLISON. Thank you. How does this approach differ from the 

Administration’s bill, which would require all standardized derivatives to trade on an exchange or alternative swap execution platform? 

Mr. GENSLER. In one case, it is required. We are suggesting it be 

required and allow for some rule-writing for this voice-brokered or 

upstairs market. And in the discussion draft, it is optional. We 

would like to work with the committee to close those differences. 

Mr. ELLISON. Do you prefer or have any thoughts on which would 

be better for the public? 

Mr. GENSLER. I think it is better for the public to have the additional protections of the markets, including the trading venues, 

that it is not always a fully regulated exchange. But I believe the 

Administration proposal brings greater transparency and protections to the public. 

Mr. ELLISON. Mr. Hu? 

Mr. HU. We think that clearinghouses could get you many, many 

of the benefits of exchange trading, so our views don’t quite match 

up with the CFTC’s. 

Mr. ELLISON. Thank you. 

The draft bill provides an exemption for entities primarily using 

derivatives for hedging and risk-management purposes. However, 

as you know, Fannie Mae and Freddie Mac are also major endusers of derivatives which they use to hedge interest rates and 

other risks. 

Would the draft language potentially exempt Fannie and Freddie 

and their counterparts from submitting standardized contracts to 

central clearing? 

Mr. GENSLER. I believe that the discussion draft would exempt 

the Government-Sponsored Enterprises. I think this is probably an 

unintended consequence of the drafting around what are called 

major swap participants. 

Mr. ELLISON. Do you think that is something that should be addressed? 

Mr. GENSLER. We believe it should be addressed, that such major 

swap participants should come under this regulatory regime. 

Mr. ELLISON. Mr. Hu? 

Mr. HU. Yes, we believe it is important to have objective, somewhat narrower, verifiable standards in terms of what you mean, in 

terms of what you count as hedging in terms of this exclusion. 

39 

Mr. ELLISON. I have a question to follow that up, but before I do, 

let me ask you this: Chairman Gensler, you have indicated that 

any exemption should be limited to non-financial firms. Would that 

be an artificial distinction, given that some firms wear multiple 

hats? 

Mr. GENSLER. It is a very good question. But what we are trying 

to address is a very real issue that end-users have raised about 

hedging their risk and the posting of collateral. 

What we have suggested is that they be part of this. But if Congress decides not to have them be part of it, this is an alternative 

we recommend to address the many people in the real economy 

who are concerned about posting margin. 

Mr. ELLISON. So what should we do about those firms that do 

have those multiple roles they play? 

Mr. GENSLER. I believe that they should be part of this regime. 

I recognize the Congress, in grappling with this very real issue of 

end-users, may adopt some end-user exemption from this. That is 

not our preferred approach or what I am recommending, but if the 

Congress does, we would look forward to working with you in trying to get this language narrowed so the exemption doesn’t swallow 

the rule. 

Mr. ELLISON. This is my last question. Hopefully, we can get in 

under the time. 

In addition to hedging and risk management—both are broad 

and subjective terms that can cover a wide range of transactions. 

Given that hedging and risk management are subject to different 

understandings by different people, different interests, should these 

terms be defined in the statute and how would you define them? 

What proposals would you have? 

Mr. GENSLER. I think it would be best not to have the risk management exception in there at all. We have had years grappling 

with this at the CFTC, and unfortunately, you can drive a lot 

through those words. 

Mr. MOORE OF KANSAS. The gentleman’s time has expired. 

We should have done this earlier, but I ask unanimous consent 

for Scott Murphy, a noncommittee member, to participate. Without 

objection. 

Mr. PERLMUTTER. Objection. 

No, I withdraw my objection. 

The CHAIRMAN. Overruled. 

Next, the Chair recognizes the gentleman from Illinois, Mr. Foster. 

I will say, we have votes coming up. We will probably just have 

time for one more round of questions here. Then we are going to 

thank and excuse the first panel and the committee will be in recess for votes on the Floor, and then we will reconvene with the 

second panel right after votes. 

You are on, sir. 

Mr. FOSTER. It is my understanding that the major players in 

OTC derivatives reduced even their complex derivatives to algorithmic form for jamming into their risk evaluation computer programs. So my question is whether there is a potential benefit for 

having industry-wide standards for descriptions of even complex 

OTC derivatives, which would seem to address two concerns. 

40 

One is that if this is the format in which the repositories received 

the description of the OTC derivatives, as well as the systemic risk 

regulator, that there might be a chance for the systemic risk regulator to have an analogous system where their computers would 

also net out the industry-wide exposure. 

It also might address Representative Murphy’s questions about 

what it means to be an exchange for very complex derivatives; that 

what you do is, you have not a listing you can read in the newspaper, but you would have a listing of here are all the algorithmic 

definitions of all of these complex derivatives and what they have 

been selling for. 

So I was wondering if you think that is something that is happening already in the industry, or is there a useful role for government in enforcing that standardization? 

Mr. GENSLER. There is a natural tendency towards that naturalization of the defined terms. The discussion draft and the Administration proposal gives us rule-writing authority to set business conduct standards on processing, netting and, I broadly call 

it, back office. 

But I think you are right, Congressman, it can go a little further 

in terms of also how the computers match up so that the regulators 

and the trade repositories and the clearinghouses have a consistent 

format, both domestically and internationally is very critical. 

Mr. FOSTER. Okay. My second question is whether anyone has 

written down a draft, even a draft definition, of what is too complex to clear, or maybe a list of things: These are clearly too complex to clear, these are clearly clearable, and these are the gray 

area. 

Is there anyone who has just had the courage to write down an 

operational definition? 

Mr. GENSLER. I don’t know if it has been written down, but conceptually it is why we think the clearinghouse should be the first 

place, if they can manage the risk, rather than a government agency pushing it upon them. But then the government agency should 

have a role to make sure that they are not so biased to take on 

risk that they shouldn’t, or misprice them and so forth. 

Generally, it has to have some liquidity to it, that they can manage the risk if the counterparty fails and you can get out of the 

trade in a several-day timeframe, not a several-month timeframe 

work. That is the conceptual frame. 

Mr. FOSTER. But no one has even tried to define that? 

Mr. GENSLER. No, actually the international regulators have, and 

even we have, received futures clearing, which is a derivatives 

clearing. We have a very real set of standards in that regard. 

Mr. FOSTER. Okay. 

And lastly, do you have any comments on what the European 

Commission did regarding the credit default swaps based on European entities and requiring them to be cleared on an European 

clearinghouse? What is the end game on that? 

Mr. GENSLER. I was honored to be asked to speak before 400 people at the European Commission 2 weeks ago at the end of their 

consultation. And I spoke specifically on this and six other items 

and said, I think it would be a mistake to have a geographic mandate for clearing; that we should allow the clearinghouses, whether 

41 

they be in Europe, the United States or Asia, that the international 

regulators have full and unfettered access, not shortchanged by 

bank secrecy laws, but full and unfettered access to the information 

you vigorously regulated. 

The largest swap clearinghouse right now is in London. That 

works for U.S. regulators, as long as we can regulate it and have 

full access. 

Mr. FOSTER. And you don’t see problems down the line with the 

United States giving up information to any country that might 

want to see every trade that happened? 

Mr. GENSLER. No. I think we have to have work with those international regulators, the large ones, like the European Commission 

and the FSA in London and so forth. And we have very good working understandings with these international regulators. 

Mr. FOSTER. Thank you. 

I yield back. 

Mr. MOORE OF KANSAS. Thank you. 

The Chair will finally recognize the gentleman from Connecticut, 

Mr. Himes. 

Mr. HIMES. Thank you, Mr. Chairman. 

I thank you for being here. 

Mr. MOORE OF KANSAS. I will remind folks that as you finish 

here, votes are going to be called and this panel will be excused. 

Thank you very much. 

Mr. HIMES. Thank you. I am gratified that there seems to be an 

alignment now around the notion of really clearing everything that 

we can and, hopefully, creating as much of a standardized universe 

as we can. This obviously imposes quite a bit of burden as a risk 

manager upon the clearinghouses, and I have a couple of questions 

and observations related to that. 

First, there is I think a danger associated with the fragmentation 

of clearinghouses, both here in the United States and internationally. I would like to ask you about that. 

But I would also like to ask the chairman for unanimous consent 

to submit for the record some testimony by the Depository Trust 

and Clearing Corporation, which is just raising the question of 

whether there should be a central depository for this information 

that would be available to the regulators, if there is no objection. 

Mr. MOORE OF KANSAS. Without objection, it is so ordered. 

Mr. HIMES. Secondly, I guess just an open question: Are you comfortable, gentleman, that you have—we heard your comment on resources, but the culture and the intellectual capability within your 

organizations to really peer deep into the clearinghouses, to form 

judgments on how they are doing as risk managers? 

Mr. GENSLER. First, I want to say it is really good to see you as 

a Congressman, because I should disclose we have worked with 

low-income housing issues at the Enterprise Foundation. 

Mr. HIMES. Right, also under the jurisdiction of this committee. 

Mr. GENSLER. I do think—one the things I found in coming to the 

CFTC is tremendous expertise. It is an agency that oversees risk 

management markets, derivatives markets and clearinghouses, 

multifaceted clearinghouses right now, and has tremendous expertise. But it is, unfortunately, sorely underresourced. 

42 

For instance, we are only right now able to go into the Chicago 

Mercantile Exchange once every 3 years to check on certain rule 

enforcement, rather than on an annual basis. So it is a resourceconstrained, but well-educated, well-dedicated staff. 

Mr. HU. We also have wonderful staff, very hardworking. In addition, we are hiring new people precisely because we need to better understand the new capital markets, these products, the need 

to keep up. I am totally confident that with sufficient resources, we 

are going to be able to make sure—not only make sure that these 

clearinghouses survive, but make damn sure these clearinghouses 

survive. 

Mr. HIMES. Thank you. 

Next, one of the concerns I have, and I am sure this is broadly 

shared, is, we do not want to set up a situation where there is a 

clear incentive for people who otherwise might use standardized 

contracts to, in fact, use tailored contracts, perhaps to escape some 

of the oversight or requirements of standardized clearing. 

In your review of this legislation and as you think about the 

rulemaking that comes subsequently, are you confident, based on 

what you see here, that we will not be creating an incentive to send 

people into a customized universe? 

Mr. GENSLER. I think there is some incentive to do that by Wall 

Street, who might want to have a little less transparency. I don’t 

know that end-users would have that, but I do think it is there. 

The European Commission and the U.S. regulators have come together and think that there should probably be a little higher capital standard if things are less liquid, so that sort of guards against 

that, if they are truly less liquid and they are not in central clearing. 

Mr. HIMES. Thank you. 

Actually, you anticipated my last question, which is the international dimension of this, European differences between the 

United States. Again, sort of based on what you see in the legislation and as you think about your institutions and your recent experience internationally, should we be mindful of the risk that there 

is a flight away from the better clearinghouses, perhaps, abroad? 

Mr. GENSLER. Absolutely. Capital and risk does not know geographic boundaries. It will go globally. I am very optimistic, working with the European Commission, that we can achieve a coordinated approach. But there are different cultures and different political systems. 

I believe they are making their next key announcement on this 

on October 20th, and so we should look at that very closely. 

Mr. HIMES. Is there a risk that our efforts to see these instruments cleared—if the Europeans move more slowly than we do, is 

there a risk that we see, in fact, this clearing activity move offshore? 

Mr. GENSLER. Right now, there is some clearing offshore, but it 

is regulated. Even this swap clearinghouse I mentioned in London 

is regulated by the CFTC, and then there are some exemptive 

things that the SEC does. 

So I think that we can, through legislation in Congress, be able 

to regulate even if it is offshore. I would rather do it jointly with 

43 

the Europeans. I think we can achieve that. Their time scale is 

probably into next year. 

Mr. HU. The only thing I would care to add to those excellent 

comments is that we work perhaps especially closely with the FSA, 

and it has been a remarkable relationship. They have deep knowledge in this area. 

Mr. HIMES. Thank you. 

Mr. Chairman, I yield back the balance of my time. 

Mr. MOORE OF KANSAS. Thank you. I want to thank the members 

of the panel for your testimony here today and for answering questions. 

The committee will stand in recess for votes on the Floor, and 

then we will reconvene with the second panel. 

We are in recess. 

[recess] 

Ms. BEAN. [presiding] We have the requisite number of members, 

so this hearing will resume. 

We will begin with the testimony from Jon Hixson, director of 

Federal Government Relations, Cargill, Inc. 

STATEMENT OF JON HIXSON, DIRECTOR, FEDERAL 

GOVERNMENT RELATIONS, CARGILL, INC. 

Mr. HIXSON. Thank you. My name is Jon Hixson, and I am director of Federal Government relations at Cargill. I want to thank you 

for the opportunity to testify today. 

Cargill is an international provider of food, agricultural, and 

risk-management products and services. As a merchandiser and 

processor of commodities, Cargill is an extensive end-user of derivatives on both regulated exchanges and in the OTC markets. 

Cargill’s activity in offering risk-management products and services to commercial customers and producers in the agriculture and 

energy markets can be highlighted with the following OTC examples: We offer customized hedges to help bakeries manage price volatility of their flour so that their retail prices for baked goods can 

be as stable as possible for consumers and grocery stores; we issue 

critical hedges to help regional New England heating oil distributors manage price spikes and volatility on their purchases so that 

they can offer families stable prices throughout the winter season; 

and we offer customized hedges to help a restaurant chain maintain stable prices on their chicken so the company can offer consistent prices and value for their retail customers when selling 

chicken sandwiches. 

Chairman Frank’s discussion draft is a positive step in addressing comprehensive market reforms of the OTC market. While we 

have some areas of concern, there are many well-supported elements included in this proposal. 

The discussion draft would improve transparency with dealer 

registration and audit trails, the proposal would create a regulated 

trade data repository and has a stronger focus on reducing systemic risk and more rigorous requirements for inter-dealer transactions. 

The bill also provides flexibility for end-users and traditional 

hedgers utilizing OTC risk-management products and clearly establishes regulatory authority to ban any swap deemed abusive. 

44 

Cargill supports these provisions and appreciates the work of the 

chairman and other members of the committee in developing this 

discussion draft. 

The draft bill represents a significant improvement over many 

other proposals that, in our view, would overly restrict the use of 

OTC markets for hedging purposes. 

Our main concerns with the discussion draft relate to two areas 

of the legislation: first, the application of capital and margin requirements. The discussion draft gives regulators discretion in 

whether to impose margining requirements in traditional hedging 

and risk-management transactions. We appreciate this flexibility. 

However, we are concerned that, given recent regulatory statements and testimony, the imposition of mandatory margining for 

hedging transactions would still likely occur. This will make it very 

difficult, if not unlikely, that firms would be able to affordably and 

efficiently hedge their flour, heating oil, and chicken risks as described earlier. 

To ensure congressional intent, the legislation could include a list 

of factors and in a similar style as the provisions within the discussion draft that provide greater guidance on the clearing requirement. In addition, capital requirements should clearly recognize 

and reflect the risk-management processes utilized by dealers. 

When Cargill offers tailored risk-management products to our 

customers like the bakery hedge, we offset a substantial amount of 

that risk by taking positions on a regulated, centrally cleared exchange, margined for daily mark-to-market exposure. We also use 

margin agreements with most of our customers. 

These steps greatly reduce overall risks in the hedging transaction. Regulators should consider such prudent risk-management 

actions as they analyze and develop appropriate capital requirements to ensure that the charges are based on actual risk of loss. 

Regulators are also given much discretion in setting margin and 

capital requirements for non-bank dealers. The provisions often call 

for requirements as strict or stricter than those a prudential regulator would establish for a systemically significant financial institution. 

While we are very sensitive to the role played by a non-banking 

firm in last year’s financial crisis, there should be some recognition 

that the bakery hedge, for example, did not cause systemic risks 

for the financial system. Excessive requirements on our segment 

will likely only result in less competition among dealers within the 

OTC segment. 

Surrogation of assets is our second area of concern. We are sympathetic to those who lost initial margin money last year and would 

like to work with others, including members of this committee, to 

address this issue. However, restrictions around variation margining will have the unintended consequence of curtailing sound 

business practices that would otherwise minimize the risks of a 

hedging transaction. 

We appreciate the opportunity to testify before the committee to 

offer examples of our use of OTC products in risk management and 

to highlight our areas of support and concern within the discussion 

draft. 

45 

We look forward to working together as this legislation continues 

to develop. 

[The prepared statement of Mr. Hixson can be found on page 135 

of the appendix.] 

Ms. BEAN. Thank you for your testimony. 

We are going to proceed to the next witness, Professor Rene 

Stulz, chair of banking and monetary economics at the Fisher College of Business at Ohio State University. 

STATEMENT OF RENE M. STULZ, EVERETT D. REESE CHAIR OF 

BANKING AND MONETARY ECONOMICS, FISHER COLLEGE 

OF BUSINESS, THE OHIO STATE UNIVERSITY 

Mr. STULZ. Madam Chairwoman, Ranking Member Bachus, and 

members of the committee, I thank you for providing me this opportunity to discuss with you draft legislation concerning the overthe-counter derivatives market. I am testifying in my individual capacity as an economic expert in risk management and derivatives. 

I would like my whole written testimony to be incorporated in the 

record. 

In the time allocated to me, I want to focus on two points from 

that written testimony. First, the legislation should not erect obstacles to trading customized on illiquid derivatives in a way that 

would make it hard for firms to manage risk. Second, requiring 

clearing for some derivatives products could increase systemic risk, 

and it is important for the legislation to make sure that does not 

happen and that, instead, clearing be properly implemented to 

make the financial system safer. 

Let me start with an example of how the use of derivatives can 

create jobs. Consider a firm in Ohio that exports machinery and 

considers bidding on a contract to export to Italy where it will be 

paid in euros. The moment the exporter makes a bid in euros, it 

takes on currency risk. The euro would depreciate between the 

time that it is made and a decision is rendered in such a way that 

all the profits of the exporter are lost. Because of this possibility, 

the exporter may decide not to bid because the currency risk is too 

large. With currency options, the exporter could hedge against a 

possible depreciation of the euro and lock in the profit margin after 

hedging costs. Hence, because of derivatives, the exporter could decide that it can bid on the contract, in which case jobs would be 

created as a contract is awarded. 

In my example, the exporter would have to use the over-thecounter market to obtain the best hedge. The reason is straightforward: The contract would have to be tailored to the size of the 

bid and reference a date that a decision is made in order to be effective. 

Often customized and infrequently traded derivatives are the 

most useful derivatives to resolve specific risk-management problems for non-financial firms. Such derivatives can only be sold on 

the over-the-counter market, and clearing of such derivatives, if 

feasible at all, is uneconomical. It is important that the proposed 

legislation does not make it more difficult and expensive for endusers to obtain customized derivatives by imposing reporting, margin, disclosure, and business conduct requirements that make it 

unprofitable for financial institutions to sell such derivatives. 

46 

An important concern from this perspective is the ability of regulators in the draft to impose margins on derivatives that are not 

cleared. With new or customized products, such a requirement is 

impractical and could essentially correspond to our regulatory 

preapproval process. 

Clearinghouses assume counterparty risk. As long as clearinghouses are well-capitalized and manage risks well, there is no material counterparty risk with clearinghouses. However, clearing is 

not a panacea. Failure of a clearinghouse could have a much more 

dramatic impact on the financial system than failure of a derivatives dealer. It is therefore critical that clearinghouses be properly 

capitalized and that margins be sufficient to ensure a low probability of loss in the event of default. 

The proposed legislation requires margins that cover risks in the 

ordinary course of business and requires the clearinghouse to hold 

capital that would cover the losses resulting from the failure of its 

largest participant. Neither requirement seems sufficient. The span 

margining system, which I understand to be industry best practice, 

is set up so that margins cover stress losses. This requirement 

should apply to over-the-counter clearinghouses generally. Further, 

the capital requirement should be such that a clearinghouse should 

still be able to operate properly if its largest member defaults. The 

capital requirement in the proposed draft does not appear sufficient 

for that purpose because such a default is likely to be correlated 

with other losses. 

Academic research has shown that clearing could increase systemic risk if there are too many clearinghouses. It is therefore important that legislation does not lead to a plethora of clearinghouses. With few clearinghouses, the collapse of any clearinghouse 

would have a substantial impact on the financial system. Therefore, with few clearinghouses, the risk management capabilities of 

each clearinghouse becomes critical to the stability of the financial 

system. 

Further is that with few clearinghouses, these clearinghouses 

will have some monopoly power, and they could abuse that power. 

It would be beneficial for the legislation to address explicitly the 

situation where a clearinghouse becomes a monopolist in clearing 

trades of a given type of derivative. 

Finally, there has to be clarity for market participants as to 

when regulators are going to be able to require that a type of derivative be cleared. To make such a requirement regulators should be 

asked to show conclusively that the systemic risk benefits of requiring clearing exceeds the cost associated with it. 

Thank you. 

[The prepared statement of Mr. Stulz can be found on page 175 

of the appendix.] 

Ms. BEAN. Thank you for your testimony. 

And we are now going to go to Scott Sleyster, CFA, chief investment officer, domestic, for Prudential Financial. 

47 

STATEMENT OF SCOTT SLEYSTER, CFA, CHIEF INVESTMENT 

OFFICER, DOMESTIC, PRUDENTIAL FINANCIAL, ON BEHALF 

OF THE AMERICAN COUNCIL OF LIFE INSURERS (ACLI) 

Mr. SLEYSTER. Thank you. Members of the committee, my name 

is Scott Sleyster. I am the chief investment officer of Prudential Financial’s U.S. operations, and I appear here today as a representative of the American Council of Life Insurers, also known as the 

ACLI. The ACLI is a national trade association of 340 member 

companies who serve as the leading providers of financial security 

and retirement products for both the individual and group insurance markets. Prudential Financial is a financial services leader, 

providing compelling asset growth and protection solutions for the 

ever-increasing retirement needs of individuals in businesses in the 

United States and abroad. 

I would like to thank the committee for its invitation to appear 

today and to present the ACLI’s view on the new discussion draft 

of the Over-the-Counter Derivatives Markets Act of 2009. In my capacity as Prudential’s CIO, I am responsible for asset liability management, a critical function at all life insurance companies. 

The business of selling life insurance policies and annuities contracts requires us to match our asset portfolios with those of our 

liabilities so that we have the future cash flows necessary to meet 

the long-term financial promises that we make to our policyholders. 

The protections we provide often cover an extensive time horizon 

that does not correspond neatly to available investments. OTC derivatives allow us to effectively tailor the payment streams of our 

assets to match those of our expected liabilities. 

Customized derivatives in particular help to stabilize prices and 

mitigate risk within our industry’s annuity business. For example, 

Prudential and other life insurers offer annuity products with custom guarantees that protect against downside risks of the underlying equity exposures of our clients. Our ability to provide principal guarantees, which are often accompanied with minimum retirement income guarantees, collectively protected retirees and consumers from an estimated $230 billion in losses during the most 

recent equity market collapse. 

Given the critical role that OTC derivatives play in the life insurance industry’s asset liability management, the ACLI would like to 

offer the following six observations regarding the discussion draft 

released last week. 

First, we applaud the discussion draft’s call for comprehensive 

Federal regulation of over-the-counter derivative markets. The 

proper operation of these markets and continued availability of 

OTC products remains a top priority to ACLI members. We remain 

concerned, however, that the draft’s current definition of ‘‘swaps’’ 

and ‘‘security-based swaps’’ could be misunderstood to include certain insurance products such as annuities with optionlike features, 

which we feel should be explicitly excluded. 

Second, we appreciate that the draft does not establish a hard 

distinction between so-called standardized and customized OTC derivatives. We agree that it makes sense for responsible agencies to 

develop rules governing which derivatives should be centrally clear 

and those that should remain OTC. 

48 

Third, we thank the committee for the significant improvement 

in the draft’s new definitions of ‘‘major swap participant’’ and 

‘‘major securities-based swap participant,’’ which now exclude endusers employing OTC derivatives for nonspeculative reasons, such 

as hedging and risk management. State-regulated life insurers are 

required to limit our use of derivatives to nonspeculative activity, 

providing us comfort that we would fall outside of both definitions. 

This is in sharp contrast to AIG, whose Financial Products Division 

was an OTC derivative dealer functioning outside the limitations 

of a State-regulated insurance company. 

Fourth, we strongly agree with the draft’s proposal that non-cash 

assets should be acceptable collateral for derivatives transactions. 

As the largest class of investors of debt of U.S. corporations, insurers frequently use corporate securities as collateral subject to appropriate haircuts. The provision of the draft may need further refinement if the intent is to be fully realized, and we would welcome 

the opportunity to work with the committee on this matter. 

Fifth, we do remain concerned that the draft bill adopts Treasury’s recommendation that the CFTC and the SEC be stripped of 

their customary authority. Given the complexity of this legislation, 

coupled with the dynamic aspects of the insurance and derivatives 

markets, we believe that businesses and consumers will be best 

served if the CFTC and the SEC have the flexibility to deal with 

matters as they emerge in real time. 

Finally, the ACLI endorses proposals to bring greater transparency to the OTC derivatives markets through trade reporting 

and centralized clearing of standardized products. Likewise, we 

support efforts to regulate derivatives dealers to ensure sound and 

efficient markets prevail. 

We thank the committee for this opportunity to share our perspective, and I look forward to answering any questions you may 

have. 

[The prepared statement of Mr. Sleyster can be found on page 

168 of the appendix.] 

Ms. BEAN. Thank you very much. 

And now Mr. David Hall, chief operating officer of Chatham Financial Corp. 

STATEMENT OF DAVID HALL, CHIEF OPERATING OFFICER, 

CHATHAM FINANCIAL CORP. 

Mr. HALL. Good afternoon. It is an honor and a responsibility to 

participate in this hearing today. Thank you for inviting me to testify regarding the regulation of over-the-counter derivatives. 

To begin, it may be helpful to know the role of my firm in the 

OTC derivatives market. Chatham Financial is the largest independent advisor and service provider to businesses who use derivatives to reduce their interest rate and foreign currency risk. A global firm based in Pennsylvania, Chatham has over 1,000 end-user 

clients in 45 States, ranging from Fortune 100 companies to very 

small businesses. Chatham is employee-owned and independent. 

We do not accept compensation from dealer banks. We help our clients hedge risks, not speculate, and we do not advise on credit default swaps. 

49 

Given the events in the financial markets in recent years, we applaud the Administration and Congress for considering appropriate 

changes to our financial regulatory system, including the area of 

derivatives. We believe we should all work to reduce the risk to our 

financial system should one of our largest banks, insurance companies, hedge funds or any other of our largest financial institutions 

fail. While prudent policy changes are needed to address the problems that gave rise to AIG’s failure in credit default swaps and in 

other areas, policymakers need to be careful to ensure that such 

policies do not harm the many areas of the OTC market that are 

functioning well. 

OTC derivatives are very important tools for businesses to efficiently and effectively reduce risk. In fact, 94 percent of the 500 

largest global companies and thousands of small businesses use derivatives to manage their business risks. 

The main issue at hand is reducing systemic risk. The business 

end-users who use derivatives to hedge do not create systemic risk; 

rather they use derivatives to reduce their business risks, which in 

turn reduces systemic risk. Therefore, especially since business 

end-users only make up 10 to 15 percent of the overall OTC market, we believe derivatives regulation should be directed at trading 

activity between systemically significant institutions. 

We are very pleased that Chairman Frank and his staff, Members, and others have developed this draft legislation which recognizes and differentiates business end-users from large financial institutions. Specifically, this draft focuses central clearing requirements on large market participants rather than on business endusers. Additionally, it precludes those who would use derivatives to 

prudently manage risk from being subject to high regulatory 

thresholds under the definition of major swap participants. 

We are grateful for the opportunity to offer our suggestions for 

how the draft bill can be improved following our five recommendations for improvement. Number one, margin. Any requirement for 

business end-users to cash collateralize hedging transactions would 

create an extraordinary and unnecessary drain on working capital. 

This draft appropriately recognizes this cash burden by excluding 

end-users from the clearing requirement. Similarly, we believe this 

draft should also recognize this cash burden by excluding end-users 

from any margin requirement. 

For trades with business end-users, we believe credit terms 

should be negotiated by the two parties. To illustrate this point a 

bank may choose to make a loan without collateral if the business 

is creditworthy; therefore, it is reasonable that a derivative should 

be allowed to be offered to a business end-user without margin if 

the business end-user is creditworthy. 

Number two, capital charges. This draft calls for higher capital 

charges for noncleared derivatives. We believe this draft should be 

clarified so that regulators are instructed to set capital charges 

based on historical predicted loss, not as a penalty to discourage 

the use of OTC derivatives. 

Three, systemic significance. This draft bill recognizes that systemically significant institutions should be subject to higher standards than those that cannot impose systemic risk. However, as currently written, it is possible that nonsystemically significant firms 

50 

could be subject to the same regulatory burden that applies to large 

financial institutions. For example, community banks that utilize 

OTC derivatives to hedge their balance sheet risk and offer risk 

management products to their borrowers could be deemed swap 

dealers and be subject to the same reporting, clearing, and margining requirements. Removing the burden for smaller, nonsystemically significant swap dealers will encourage competition and reduce prices for business end-users. 

Number four, a major swap participant is largely defined by having a substantial net position, a term to be defined by regulators. 

We believe this term should either be defined by legislation, or, if 

it is not, we would like to see the intent be clear that this definition should target systemically significant institutions. 

Number five, exemptive relief. As we make these historic 

changes to regulate the OTC derivatives market, we cannot now 

foresee many of the consequences resulting from this regulation; 

therefore, we should grant regulators the authority to provide exemptive relief where they deem necessary. 

To conclude, even though we have identified several areas for 

proposed improvements, we want to be clear that we believe this 

draft is the most thoughtful proposal for regulation of the OTC derivatives market to date. Thank you for the opportunity to testify 

today. 

[The prepared statement of Mr. Hall can be found on page 120 

of the appendix.] 

Ms. BEAN. Thank you for your testimony. 

And we are now going to go to Mr. James Hill, managing director 

of Morgan Stanley, on behalf of SIFMA. 

STATEMENT OF JAMES J. HILL, MANAGING DIRECTOR, MORGAN STANLEY, ON BEHALF OF THE SECURITIES INDUSTRY 

AND FINANCIAL MARKETS ASSOCIATION (SIFMA) 

Mr. HILL. Thank you. My name is James Hill. I am a managing 

director at Morgan Stanley, and I am appearing today on behalf of 

the securities association known as SIFMA. We appreciate your invitation to testify. 

There is much in the committee discussion draft that SIFMA and 

its members support, and we believe that it includes many significant improvements over the Administration’s proposal relating to 

over-the-counter derivatives. We appreciate the thoughtful consideration that you and your committee colleagues, as well as your 

staff, have given to comments that industry participants have provided, in particular those of corporate end-users. 

I would like to express SIFMA’s support for legislative proposals 

to ensure that systemically significant market participants are subject to comprehensive regulatory oversight. It was lack of meaningful regulation of AIG’s derivatives affiliate that allowed poor business practices to lead to a situation in which the Federal Government had to invest tens of billions of dollars in order to avert what 

would have been a systemically significant business failure. The 

discussion draft would address this regulatory shortcoming by creating a legislative and regulatory framework that ensures such a 

lapse would not likely occur again. 

51 

We also support measures that would improve regulatory transparency and thereby facilitate oversight of the derivatives markets 

and the activities of individual market participants. The discussion 

draft accomplishes this by requiring that swaps be submitted to a 

derivatives clearing organization or reporting to a swap repository. 

We do, however, have concerns about some of the particular provisions in the discussion draft. I will briefly describe several. 

Although the discussion draft generally excludes corporate endusers from the provisions that would require exchange trading or 

clearing of swap transactions, they would be covered by other provisions. For example, the discussion draft would authorize regulators to impose margin requirements on swaps in which one of the 

counterparties is a corporate end-user. We do not believe that 

counterparty credit exposure created through a swap transaction 

should be required to be collateralized when lending arrangements 

between the parties can be made on an unsecured basis. We believe 

the decision to require margin and the details of how it is handled 

should be left to an individual negotiation between the dealer and 

its end-user client. 

The provisions of the discussion draft regarding security-based 

swaps are another area of concern. The draft gives the SEC jurisdiction over these swaps in part by amending the Securities Act of 

1933 to include them in the definition of ‘‘security.’’ This approach 

is expedient, but likely would have unintended consequences that 

would be difficult and time-consuming to resolve. This is because 

many of the concepts and requirements under Federal and State 

securities laws do not readily apply to securities-based swaps. 

A better approach to providing for SEC oversight and regulation 

of securities-based swaps would be to give the SEC broad authority 

to adopt regulations that are consistent with the regulatory framework for other swaps. This would enable the SEC to address unforeseen issues without contorting the existing Federal securities 

laws and regulations to accommodate instruments for which they 

were not designed. 

Finally, we have practical concerns about constraints on the SEC 

and the CFTC’s exemptive authority and the Act’s short implementation period. The legislation could well have unintended consequences, some of which may be adverse to the market and individual market participants. Rather than having to pass new legislation to address such consequences each time they arise, we believe it would be more practical to grant the CFTC and the SEC 

authority to create exemptions that are consistent with the purposes and intentions of the act. 

With respect to implementation, we note the Act’s provisions generally would become effective 180 days after enactment. We don’t 

believe this would give derivatives dealers and other market participants, as well as corporate end-users, sufficient time to comply 

with the Act’s complex and far-reaching provisions. We believe the 

effective date should be no less than 1 year after the date of enactment. 

In conclusion, I would like to emphasize that SIFMA and its 

members support legislation to address the weaknesses in the current regulatory framework for derivatives. The events of the past 

year have made clear that improvements are needed. However, the 

52 

use of derivatives have become an integral part of our economy because they enable corporate end-users to effectively manage risk. 

As such, it is important that legislation intended to improve derivatives regulation and reduce systemic risk do not unnecessarily impair the usefulness of derivatives as an important risk management tool. 

Thank you. 

[The prepared statement of Mr. Hill can be found on page 124 

of the appendix.] 

Ms. BEAN. Thank you very much. 

We move to Mr. Stuart Kaswell, executive vice president and 

managing director, general counsel, of the Managed Funds Association. 

STATEMENT OF STUART J. KASWELL, EXECUTIVE VICE PRESIDENT & MANAGING DIRECTOR, GENERAL COUNSEL, MANAGED FUNDS ASSOCIATION (MFA) 

Mr. KASWELL. Thank you, Madam Chairwoman, Ranking Member Bachus, and members of the committee. My name is Stuart 

Kaswell, and I am the executive vice president and general counsel 

of Managed Funds Association. MFA is the voice of the global alternative investment industry and is the primary advocate for sound 

business practices and industry growth for professionals in hedge 

funds, funds of funds and industry service providers. Our members 

provide liquidity and price discovery to markets, capital to allow 

companies to grow or improve their businesses, and sophisticated 

risk management to investors such as pensions to allow those pensions to meet their obligations to their beneficiaries. 

MFA appreciates the opportunity to provide its views on the 

Over-the-Counter Derivatives Markets Act of 2009. MFA’s members are active participants in the OTC derivatives markets. As 

such, we have a strong interest in promoting the integrity and 

proper functioning of these markets and ensuring that there is no 

repetition of systemic events, like the collapse of AIG, which required Congress to use taxpayer funds to stabilize markets. Similarly, we wish to prevent another Lehman Brothers-like failure 

where a large portion of the money lost or tied up in bankruptcy 

belongs to Lehman customers, including swap customers who posted collateral on OTC swap positions. Both of these events raise significant counterparty and systemic risk concerns for our members 

and are why MFA is fully supportive of the goals of the committee’s 

discussion draft. 

MFA appreciates and commends the committee on the DMA. We 

believe it takes an important step in the right direction and addresses outstanding concerns with respect to the OTC derivatives 

markets. Particularly, we support: one, reducing systemic risk 

through the use of central clearinghouses; two, reducing 

counterparty risk by segregating customer collateral; and three, 

clarifying the definition of a major swap participant. 

We would like to offer a few recommendations with respect to 

these three items. First, we believe that cleared OTC derivatives 

play an essential role in reducing systemic risk. It does so by reducing the interconnectedness that results from too much credit exposure flowing through a limited number of dealers. Clearing also 

53 

increases regulatory transparency and market efficiency with respect to cleared products. Because of the benefits of central clearing, we would like to see the DMA go further in promoting the use 

of clearing organizations by dealers to clear standardized products 

through capital incentives. The DMA does create capital incentives 

to clear swaps, but we believe it should ensure that dealers actually use central clearing. We also suggest that end-users that post 

cash collateral should have access to central clearing either 

through direct participation in the clearing organization or through 

a swap dealer. 

Second, we believe that the DMA takes a number of important 

steps to address counterparty and systemic risk by first expressly 

requiring the segregation of collateral on cleared trades, and second 

by requiring that dealers offer customers the option to segregate 

collateral for customized contracts. Requiring a clearing organization to segregate customer collateral will protect customer assets 

and make it possible to transfer swaps out of a failing dealer and 

into a stable dealer, which should diminish financial contagion in 

a crisis. 

With respect to customized swaps, MFA members, as end-users, 

post collateral with swap dealers as a safeguard for the dealer 

against customer failure. Currently, dealers are free to use this collateral as their own property. In the event of a dealer default, such 

as Lehman, customers are at risk of losing their collateral because 

it is not segregated from the dealer’s proprietary assets. 

We believe the DMA goes a long way in protecting customers by 

requiring dealers to make segregation of collateral available to 

their customers; however, we are concerned that Congress’ intent 

in protecting end-users from a dealer failure may not be realized 

unless Congress makes corresponding changes to the bankruptcy 

laws, including those applicable to banks that act as swap dealers. 

Third, we understand that the major swap participant category 

is meant to prevent a repetition of the AIG meltdown—entities 

with a substantial net position. We recommend that the committee 

provide clarity to the term ‘‘substantial net position.’’ The DMA 

should direct the SEC and the CFTC, in defining the term, to consider the following factors: One, the relative net position of swap 

dealers, for example, a substantial net position should be measured 

with respect to the net position of swap dealers; two, a participant’s 

average net position over a relative period, such as a year; three, 

whether a participant’s counterparties have a substantial unsecured credit exposure to such participant from outstanding swaps; 

four, whether the participant holds assets belonging to retail customers; and five, whether the participant is an existing registrant 

with either the SEC or the CFTC. These steps could help prevent 

a repetition of future failures like those witnessed at AIG and Lehman. 

My written statement provides additional recommendations for 

the ways we believe the committee draft could be strengthened consistent with its important objectives. For example, we suggest 

changes to the portions of the DMA that address position limits 

and reporting. 

Thank you for the opportunity to testify. I would be happy to answer questions. 

54 

[The prepared statement of Mr. Kaswell can be found on page 

157 of the appendix.] 

Ms. BEAN. Thank you for your testimony. 

We are now going to move to Mr. Steven Holmes, director of 

treasury operations, Deere & Company. 

STATEMENT OF STEVEN A. HOLMES, DIRECTOR OF TREASURY 

OPERATIONS, DEERE & COMPANY 

Mr. HOLMES. Madam Chairwoman, Ranking Member Bachus, 

and members of the committee, my name is Steven Holmes, and I 

am the director of treasury operations for Deere & Company, also 

known as John Deere. Thank you for inviting me today to testify 

at this hearing on reform of the over-the-counter derivatives market. I am here today in my capacity as an executive of Deere & 

Company. My testimony reflects the views of Deere and the views 

of the Business Roundtable, of which we are a member, and which 

represents leading companies with more than $5 trillion in revenues and more than 10 million employees. 

Deere is a major U.S. company with significant overseas sales. 

We raise capital, manufacture products, and sell in the United 

States and in foreign markets. These international activities subject us to economic risk. To manage these risks, we use derivatives. 

We do not use them as speculative investments, but instead to convert transactions that carry inherent risk into ones that produce 

predictable cash flows. This enables us to offer competitively priced 

products and financing to our customers. 

Let me give you an example of how we use foreign exchange derivatives to manage currency risk. Australian farmers are important producers of agricultural commodities. Deere has sales and 

credit operations in Australia, but no manufacturing. The products 

we sell there are manufactured mostly in the United States and 

Europe. Australian farmers place orders for equipment well in advance of the use season to ensure they will be ready for the spring 

planting or fall harvest. There is a significant lead time to manufacture a tractor to the farmer’s specifications and ship it to Australia. Since our sales are in Australian dollars and our manufacturing costs are in U.S. dollars and euros, we are exposed to exchange rate risk. Without hedging this exposure with derivatives, 

we would not be able to offer a reasonable fixed price to the Australian farmer, and we would lose sales. 

Let me provide one more example, this time of how we use interest rate swaps. We provide financing for our customers on a significant percentage of our sales. We offer both fixed- and variable-rate 

financing to meet the various long- and short-term needs of our 

customers. Derivatives enable us to match the interest rate characteristics of the funding available in the capital markets with our 

customers’ requirements. This was especially critical during the 

credit crisis as capital was scarce. John Deere’s volume of new 

loans increased during the credit crisis as we stepped in to replace 

other financial institutions that curtailed lending. We were able to 

issue long-term, fixed-rate debt and use interest rate swaps to 

match the shorter-term fixed and floating loans our customers required. 

55 

Many investment-grade companies like Deere have debt covenants that prohibit the posting of collateral for derivatives. If existing derivative contracts are not permitted a grandfather exemption from the clearing and collateral requirements of the regulations, we will have to terminate these transactions at significant 

cost. 

Your bill takes key steps that accommodate the needs of derivative end-users like Deere. For example, your bill recognizes that 

many companies use derivatives for prudent risk management purposes. Your bill does not rely on clearinghouses to determine which 

transactions are accepted from central clearing. And your bill does 

not prohibit the use of non-cash assets to satisfy margin requirements. 

At the same time, we have concerns about the derivatives legislation that the committee plans to consider next week. I would offer 

the following three observations. First, we are concerned that regulators will be ceded too much authority to determine which companies are subject to higher regulatory thresholds and higher margin 

requirements. 

Second, we are concerned about the capital requirements for noncentrally cleared transactions. We believe that capital charges 

should be levied solely based on risk of loss and not as a means 

of forcing companies to centrally clear transactions. 

And finally, while your bill does not rely on a hedge accounting 

definition to determine which end-users are major market participants, we are concerned by the bill’s open-ended definition of ‘‘substantial net position,’’ which creates uncertainty and again gives 

the regulators too much authority to determine which end-users 

are covered. 

Deere & Company is committed to working with this committee, 

the Administration, and other congressional bodies to enact 

thoughtful derivatives regulation that facilitates, not hinders, wellfunctioning capital markets. At the same time, the regulation 

should not be a disincentive to companies to enter into prudent 

hedging transactions. 

Thank you, and I am happy to respond to any questions you 

might have. 

[The prepared statement of Mr. Holmes can be found on page 

140 of the appendix.] 

Ms. BEAN. Thank you for your testimony. 

And now, we will hear from Christopher Ferreri, managing director of ICAP, on behalf of the Wholesale Markets Brokers Association. 

STATEMENT OF CHRISTOPHER FERRERI, MANAGING DIRECTOR, ICAP, ON BEHALF OF THE WHOLESALE MARKETS BROKERS ASSOCIATION 

Mr. FERRERI. Madam Chairwoman, members of the committee, 

thank you for inviting me to testify today on the reform of the overthe-counter derivatives market. My name is Chris Ferreri, and I 

am testifying today in my capacity as chairman of the Wholesale 

Markets Brokers Association, Americas, an independent industry 

body representing the largest wholesale and interdealer brokers operating in the North American markets across a broad range of fiVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00059 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
56 

nancial products. I am also managing director at ICAP, one of the 

founding member firms of the WMBA. 

Interdealer brokers serve as intermediaries for broker-dealers 

and other financial institutions that facilitate access to a full range 

of OTC and exchange-traded products and their associated derivatives forms. For relevant markets interdealer brokers are registered broker-dealers and are regulated by numerous agencies, including the SEC, the Federal Reserve, and the CFTC. It is estimated that each day, IDBs handle on average 2 million OTC trades 

globally, corresponding to about $5 trillion in notional amounts 

across the range of FX securities, interest rate, credit, equity and 

commodity asset classes in both cash and derivative form. 

Mr. Chairman, the WMBA is supportive of the efforts to more effectively oversee the OTC markets for derivative financial products. 

We believe that our current practices will integrate smoothly with 

many of the requirements in the discussion draft as well as the 

Treasury Department’s proposal. We support the efforts taken thus 

far by the Administration and Congress to broaden the roles of the 

CFTC and the SEC in increasing the safety and soundness of the 

OTC markets. 

Today, we would like to focus on two particular issues: the characteristics and responsibilities of the swap execution facilities; and 

the protection of open, neutral, and nondiscriminatory access to 

central clearing. 

It is clear that the interdealer brokers would currently fulfill 

many of the criteria of the swap execution facilities described under 

the draft legislation or the alternative swap execution facilities 

under the Treasury Department’s proposal. Much of what is contemplated for these facilities is already well within the capabilities 

of our member firms. Our technology-based reporting systems can 

provide the relevant regulators with real-time trading information. 

The WMBA is concerned with the requirement that swap execution facilities must undertake certain SRO enforcement-type responsibilities, including discretionary supervision and approval of 

particular swap contracts as suitable for trading and the general 

oversight of the trading activities of our customers. This is not to 

diminish the capabilities we currently possess to monitor for suspicious or manipulative trading activity and to report such activity 

to regulators. This is consistent with our concerns about the requirements set forth in the Treasury Department’s proposed legislation for alternative swap execution facilities to adopt position limitations or position accountability for our customers. We therefore 

appreciate the committee not including such a provision in the 

chairman’s discussion draft, recognizing that each WMBA member 

firm can only monitor the activities taking place within its own 

execution facility. 

Multiple and competitive execution platforms have demonstrated 

their ability to create efficient, liquid and innovative markets. Yet 

with the expansion and requirement of central clearing, there is serious risk that central clearinghouses will create, modify, and ultimately favor their own execution facilities over competing execution facilities by access fees, access technologies or cross-subsidization of execution and clearing fees. The WMBA would respectfully 

57 

ask that you consider whether this is sufficient to promote and protect competition among execution platforms. 

As the Justice Department observed in a 2008 comment letter to 

the Treasury Department, a vertically integrated derivatives market, where a central counterparty providing clearing services also 

provides trade execution services, will limit competition, increase 

costs, and ultimately hurt end-users and larger market participants. One only needs to look at the securities and options markets 

compared to the futures markets. 

The WMBA is encouraged that this is consistent with CFTC 

Chairman Gary Gensler, who remarked at a House Agriculture 

Committee several weeks ago that, ‘‘A clearinghouse should not be 

vertically integrated in such a way with an exchange or trading 

platform so that the only product they accept is from that exchange 

or trading platform.’’ 

Frankly, if the clearing entity also provides execution services, 

there is not only an opportunity, but also an incentive for them to 

structure their services to squeeze out competition. The WMBA 

would ask that the legislation include language to protect against 

such behavior. 

In closing, Madam Chairwoman, we congratulate you on your 

work on the discussion draft and the Treasury Department’s proposed legislation. The WMBA looks forward to working with you to 

achieve these goals. Thank you for the invitation to participate in 

today’s hearing. 

[The prepared statement of Mr. Ferreri can be found on page 79 

of the appendix.] 

Ms. BEAN. Thank you for your testimony. 

And our final witness is Rob Johnson, director of economic policy 

for the Roosevelt Institute in New York, on behalf of Americans for 

Financial Reform. 

STATEMENT OF ROB JOHNSON, DIRECTOR OF ECONOMIC 

POLICY FOR THE ROOSEVELT INSTITUTE IN NEW YORK, ON 

BEHALF OF AMERICANS FOR FINANCIAL REFORM 

Mr. JOHNSON. Thank you, Congresswoman Bean, Chairman 

Frank, Ranking Member Bachus, and other members of the committee for including me here in your proceedings regarding derivatives reform. 

First off, when I worked in the Senate Banking Committee years 

ago, the derivatives regulation was solely the province of the Agriculture Committee. But I believe in the current circumstance 

where derivatives regulation is really the centerpiece of financial 

reform, and that is because of the current market structure, I want 

to applaud you for undertaking this endeavor, because I believe in 

the challenge that you face following the crisis, this is the essential 

ingredient to restoring confidence in our financial system. 

The upshot is that we have roughly five large financial intermediaries: Goldman Sachs; Morgan Stanley; Citibank; JPMorgan 

Chase; and Bank of America. About 95 percent of the derivatives 

activity undertaken by the largest 25 bank holding companies, according to the Comptroller of the Currency, takes place within the 

walls of those five firms, who are very likely to be categorized as 

Category 1 or ‘‘too-big-to-fail’’ firms. Ninety percent of their activiVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00061 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
58 

ties, according to the OCC, are OTC derivatives. Bloomberg and 

others have estimated that this year, those 5 firms will make 

roughly $35 billion in the OTC derivatives market. 

The reason I feel this is the centerpiece of reform is the ‘‘too-bigto-fail’’ policy is eminently intertwined with derivatives reform. The 

American public is quite demoralized by what we might call the induced forbearance of the bailouts that we experienced last fall. And 

I know one other dimension that the financial committees are 

working on has to do with resolution powers so that financial services holding companies, insurance companies, and others can, in 

fact, undergo prompt corrective action, as the FDIC could do with 

a bank now. But in a world where the opaque and deeply intertwined and entangled derivative exposures are present, it is very, 

very difficult for me to imagine someone like Secretary Geithner or 

Lawrence Summers considering anything other than forbearance 

when these entanglements are present, because it is unknown; it 

is like sailing in the fog. You could really hit the rocks if you decide 

to resolve these institutions, yet the discipline of market capitalism 

requires that insolvent institutions be restructured and resolved 

not just in the financial sector, but across the entire spectrum. 

The concern that I have is also that markets understand when 

things are too difficult to fail and unwind, and creditors of those 

firms, the people who hold the bonds, will actually diminish the 

amount they charge when they know that the firm can’t go bankrupt; the so-called default risk will be diminished. What that does 

is it creates a very nasty feedback, because these large firms get 

a funding cost advantage, and they can drive competitors out of the 

market and increase their market share by virtue of being too complex and entangled to be able to bankrupt. And I think that is very 

distorting for our capital markets. 

One goal, therefore, of policy, and as we come back to your particular work on derivatives, is to figure out ways to contribute to 

ending this ‘‘too-difficult-to-fail-or-unwind’’ regime. When we look 

back at the market crisis, two things really occurred that I thought 

were quite prominent. One was what you might call discontinuous 

pricing. When you had opaque or complex instruments that were 

not readily traded, and margin or capital and pricing were not 

readily measured, it set up the system for violent discontinuities in 

price. People talk about many things that were carried on the 

books, particularly collateralized debt obligations, being in the 

neighborhood of 100 cents on the dollar and then instantly 20 cents 

on the dollar. What this tends to do when it is opaque and when 

many large institutions are intertwined is it makes them afraid of 

each other, it makes them very, very anxious, and that compounds 

the fear and the breakdown of the capital markets. 

Ms. BEAN. I am going to have to ask you to wrap up, because 

we are running out of time. 

Mr. JOHNSON. So when I hear the testimony today that are largely two financial institutions and end-users, I believe that I represent a third group that comes to the table, which is the taxpayers, the working people of the United States. And while I expect 

if you put a proper structure in place in the derivatives markets, 

it will impose burden or cost at the margin, because we have had 

59 

too much incentive for private risk-taking relative to public risktaking— 

Ms. BEAN. I do need a final comment. 

Mr. JOHNSON. What I will do, I was just called to this hearing 

last night, so I will provide detailed comments on your bill and a 

statement for the record that will finish my comments. Thank you 

for including me. 

Ms. BEAN. All right. Thank you for your testimony. 

I will recognize myself for 5 minutes to begin questions. 

First, I would like to thank Chairman Frank for working with 

myself, and with the gentleman from New York, Mr. McMahon, 

permitting the new Democrats on the task force who have been 

studying derivatives and initiated a number of the ideas that were 

ultimately incorporated into the draft bill that we are discussing 

today. 

My first question for Professor Stulz would be with the emphasis 

towards mandatory clearing, what is your expectation that the 

clearinghouses can handle the additional capacity? 

Mr. STULZ. My expectation is that with proper regulation of the 

clearinghouses, they should be able to handle the capacity. The 

worry is that it will be an operational challenge for them, and that 

the regulatory authorities will have to be monitoring their ability 

to do so very carefully. I am not sure that the current draft gives 

them enough power to do so, and I think it will be helpful for them 

to have those powers. 

Ms. BEAN. Thank you. 

I also have a question for Mr. Kaswell. A company stock price 

can be responsive to changes in CDS spreads for their company. 

There have been allegations that some market participants bought 

CDS credit protection, and at the same time took large short positions of the same referenced company stock with the intent of increasing the cost of credit to and credit risk of the company, ultimately causing the stock to fall significantly. Congress is exploring 

how to root out that type of manipulative and predatory behavior. 

Is it workable to ban short sales of a company stock when one 

is simultaneously purchasing CDS on the same referenced entity, 

or do you have some better ideas about deterring predatory or manipulative practices? 

Mr. KASWELL. Thank you for that question. I think that it is important to think about the CDS market in conjunction with bankruptcy. 

As far as anybody has been able to show, we think that when 

companies have failed, they failed on the merits; that companies 

went out of business because their fundamental business model 

was not working in the economy, and therefore we think that to 

suggest that the CDS somehow was related to that, I don’t think 

that there is evidence to demonstrate that. 

We think that CDS performs important functions in the economy. It helps provide an indication as to the value of the company. 

The price of CDS, I think, is a better indication than rating agencies, for example. It provides liquidity to market participants, and 

it also helps with the ability to hedge. And so we think that the 

benefits of CDS are important, and we don’t see evidence that the 

bankruptcy scenario that you have described actually can occur. 

60 

Ms. BEAN. Also for Mr. Kaswell, does the draft legislation provide an effective medium to resolve the differences between the 

SEC and the CFTC? 

Mr. KASWELL. I think it is a good start. I think that there has 

always been a tension between these two agencies. We operate in 

multiple markets. A product may fall on one side or the other legally, but as an economic matter, these products are often traded 

together with different trading strategies. So I think it is critical 

that if there is a joint regulatory responsibility, that there be joint 

rulemaking, joint interpretation. I think in some instances, interpretation can be as critical as the rulemaking itself, and I know 

that it can be a cumbersome process, but we think that the bill is 

a step in the right direction. 

Ms. BEAN. I had a question for Mr. Hall. Do you think corporate 

end-users contributed to systemic risk in the economy at all? 

Mr. HALL. I think my simple answer to that is no. Business endusers use derivatives to manage risk. They reduce their business 

risks, which reduces the likelihood that they will fail. And to the 

extent that any failure of a business would contribute to systemic 

risk, on a small scale, a business failing is tragic for that business 

and maybe for its customers, but it does not create systemic risk. 

Ms. BEAN. Mr. Holmes, would you concur? 

Mr. HOLMES. Yes, I would concur. In the cases where companies 

are using derivatives to hedge when the derivative reaches maturity, there is an offset in cash flow. For a liability position, we have 

a cash flow coming in to settle that position. 

Actually, what could be a problem is if the company has to come 

up with cash in advance of the termination date, which would happen if collateral was required to be posted, and that can create a 

liquidity event for firms that aren’t able to access the capital markets and raise the margin. 

Ms. BEAN. Thank you. My time has expired, so I will recognize 

Mr. Bachus. 

Mr. BACHUS. Thank you. 

I received testimony from all of the witnesses except, Mr. Johnson, I didn’t receive yours. You worked in the Senate prior to— 

Mr. JOHNSON. I worked for Senator Pete Domenici of the Senate 

Budget Committee when they were in the Majority until 1986. And 

then I worked with Senator William Proxmire when he was in the 

Majority in 1987 and 1988 on the Senate Banking Committee. 

Mr. BACHUS. Now, you testified at the request of the White 

House; are you aware of that? 

Mr. JOHNSON. No, I am not. All I am aware of is that the committee members called me last night at 6:00 and asked me if I 

could join this panel today. So I am not aware of what the inspiration was. 

Mr. BACHUS. The White House requested you testify, which is 

fine. I didn’t know if you had—have you looked at the White House 

proposal as opposed to the chairman’s draft? 

Mr. JOHNSON. Yes, I have looked at the White House proposal in 

great detail. I have only looked at Chairman Frank’s proposal in 

a cursory manner this morning. 

Mr. BACHUS. The White House proposal, there has been a lot of 

testimony from these witnesses that the White House proposal as 

61 

it was offered would have actually made things a lot worse, I think 

is maybe a characterization I would use from some of the witnesses, not all. Do you agree? 

Mr. JOHNSON. No I don’t. Well, let me say I do and I don’t. If 

forced to choose between the current discussion draft and the 

White House proposal, I would still prefer the White House proposal, but I can understand why the gentlemen on this panel with 

me who are describing primarily the impact on them rather than 

the overall impact on the market system— 

Mr. BACHUS. Well, Cargill, Deere, manufacturers, all sorts of 

companies in transportation, it would increase their cost. You understand that? 

Mr. JOHNSON. I do understand that, and I believe that is accurate; it would increase the cost. 

Mr. BACHUS. That being accurate, if it increased it substantially, 

they would either have to lay employees off, or charge more for 

their products or take actions like that, right? 

Mr. JOHNSON. Yes. But I think that has to be put into balance 

with the costs that we have incurred because we have had a malfunctioning capital market. 

Mr. BACHUS. Also, it would also reduce profits, which would reduce government revenues, which would put us further behind. So 

there are some real downsides to the proposal. But you are saying 

there is an upside, too. And the upside is that, what, we would 

avoid an AIG? 

Mr. JOHNSON. I believe by creating more discipline in the derivatives market in terms of pricing and margining, we would improve 

confidence, diminish volatility in many of those markets as well as 

other market segments, and we would also bail out fewer banks. 

Mr. BACHUS. We didn’t really have any problem with commodity 

derivatives. What we had problems with was basically the 

subprime market, that it was junk, and they put junk in derivatives, and if you put junk in, then the derivative is junk. And so 

if you regulate, if you put rules which the Congress has on 

subprime loans, and you—we have regulations on underwriting, 

and we had unregulated subprime lenders, but if we regulate 

those, and we try to have some credit-rating reform, and we have 

had subprime lending reform, that wouldn’t be repeated hopefully, 

would it? 

Mr. JOHNSON. I would agree with you that those reforms would 

be helpful and meaningful and that they were the triggering episode, but I believe that the opacity of the large intertwined markets which included a lot of derivative exposures added to the fear 

and the depth and the severity of the downturn. Another trigger 

could cause that. 

Mr. BACHUS. Thank you. I appreciate that. 

Mr. Hixson and Mr. Holmes, would you tell me if this bill passed 

as the President constituted and maybe as if it passed as proposed 

by the White House, what would be the effect on Deere and Cargill 

as far as your costs? And I am sure that—what is your best estimate? 

Mr. HOLMES. It would be fairly material. It would affect us in a 

couple of ways. Our credit operations has the largest share of our 

derivatives outstanding, roughly $18 billion of derivatives, which 

62 

sounds like a large number, but in the context of the loans we 

make to customers in excess of $20 billion, it is reasonable. Many 

of those derivatives we would not be able to execute under the proposal, and that means our cost of funding would go up substantially, and we would have to increase those loan rates to customers, 

and there would be probably loss of revenues, loss of sales in that 

situation. 

Mr. BACHUS. So either cost to farmers and those who bought industrial equipment more, or it would—their costs are borne— 

Mr. HOLMES. The cost of acquiring equipment, the cost of financing it would increase and it would also make us less competitive 

in the international markets. 

Mr. BACHUS. Thank you. Mr. Hixson? 

Mr. HIXSON. For us, we have estimated it would cost approximately about a billion dollars depending upon market conditions, 

an additional amount of money we would have to borrow. For some 

local context, one of our largest investments—we have two members from Kansas City sitting here. We built a brand new oil facility, our largest in the United States, in Kansas City. So for us we 

would have to choose whether you put that money in margin or do 

you continue and build that plant. That is the type of thing we 

have to decide. 

Mr. BACHUS. It would certainly impact the number of employees 

you have. Thank you. 

Mr. MOORE OF KANSAS. Thank you. The gentleman from California, Mr. Sherman, is recognized. 

Mr. SHERMAN. Thank you. The over-the-counter derivatives mar- ket is a $592 trillion casino. By comparison, Las Vegas is just a 

grain of sand. And it worked pretty well up until last year in large 

part because everybody at the casino thought that if the casino 

went under, the Federal Government would be there to bail them 

out. Those who played at the AIG casino were right. Those who 

played at the Lehman Brothers casino turned out to be wrong, they 

were surprised, the whole world was surprised, and we had people 

running for the exits when they discovered that the implicit Federal guarantee wasn’t absolutely there. So the question going forward is whether we want to recreate a system that works only with 

some sort of implicit Federal guarantee. Now, if you look at the 

Treasury draft, it provides for unlimited, permanent TARP and 

when the Secretary of the Treasury was here, I asked him whether 

he was willing to limit that power to merely $1 trillion and he said 

no. 

So the question we have is, not does this system help business, 

but is it worth multitrillion dollars of risk to the taxpayer to keep 

it going or alternatively, is there a way to design it that would 

allow it to work without any kind of implicit Federal guarantee? 

Mr. Holmes, you have used derivatives. Could you make it work if 

it was clear that your counterparties did not have an implicit Federal guarantee, that the taxpayers were not part of the system? 

Mr. HOLMES. I believe so. You have to understand the counterparties that you are dealing with. We deal with the large commercial and investment banks that we have had relationships with for 

on average 30 years. Some of those relationships go back 100 years. 

Having said that, we still have credit limits that we place on our 

63 

exposures with those counterparties. And when we approach those 

limits, we curtail our activity. Certainly during the credit crisis we 

were concerned about some of those counterparties, but the failure 

of any one of them would not have been a major financial problem. 

Mr. SHERMAN. So if we don’t adopt proposed Section 1204 providing the Treasury with that unlimited bailout authority, you will 

still be okay? Mr. Johnson, you are the only person here representing a public interest entity. Do over-the-counter derivatives 

do this economy so much good that in order keep them going, the 

taxpayer should give to the Executive Branch unlimited bailout authority to bear whatever risk future Administrations decide is necessary under whatever exigencies occur in the future? 

Mr. JOHNSON. The answer to your question is no. 

Mr. SHERMAN. Okay. I would point out, I believe, you are here 

at the request of the Administration and you are helping me illustrate how that one section of the Administration’s proposal is not 

helpful. 

Mr. JOHNSON. Let me say that I was unaware that I was here 

at the request of the Administration. 

Mr. SHERMAN. I know. Yes. And I should make a further comment based on the ranking member’s comments. His comments 

seem to be on the order of, well, the old system was working just 

fine except for subprime. I would point out it was working fine because it had an implicit Federal guarantee and the market was 

shocked when Lehman Brothers was outside of what people 

thought was that umbrella. So it is hard to say the old system was 

working fine when it only worked with an implicit Federal guarantee that I think most of our colleagues on the other side of the 

aisle voted against. Mr. Hill, can Morgan Stanley do just fine without a code section that allows the Administration to bail you out 

without consulting Congress in the future? 

Mr. HILL. Thanks for the question. I respectfully disagree with 

the characterization of the market as a giant casino, though. I 

would like to say that a healthy and robust financial market— 

Mr. SHERMAN. Let me interrupt. Do we have any proof that a 

majority of the debts or derivatives placed were placed by people 

who had real business reasons as opposed to just folks who thought 

they could make money because they could guess which way the 

price of orange juice was going to go? 

Mr. HILL. The foundation of any financial market is both hedgers 

and speculators. That has been the case for over 200 years with the 

advent of the futures markets, as well— 

Mr. SHERMAN. Do we know how many of each we have? 

Mr. HILL. I, off the top of my head, cannot tell you what percentage of the market is comprised of hedgers versus speculators but 

I assure you there are both. 

Mr. SHERMAN. In Las Vegas, it is 100 percent speculators. And 

derivatives seems to be close. I yield back. 

Mr. MOORE OF KANSAS. Thank you. The gentleman from Illinois, 

Mr. Manzullo, is recognized. 

Mr. MANZULLO. Thank you. Let me ask probably the most simple 

question. I ask the same question just as Mr. Sherman asks the 

same question every time we have somebody talking about these 

instruments. If the subprime market had not gone sour, would 

64 

there have been any problems with the derivative markets? I know 

you are all anxious to jump into that one. 

Mr. SLEYSTER. I would just pass along the experience that within 

the life insurance industry, we are restricted in the use of derivatives to two things: We can either replicate an asset that we could 

have otherwise bought, which is restricted in and of itself; or we 

can use it for hedging purposes. And I think we would say that our 

experience as people who use these for risk management and hedging tools was that even through this extraordinarily difficult cycle, 

derivatives served us very well and, in fact, served as significant 

risk mitigants so that we could stand behind the promises that we 

made while we have significant counterparty exposure risk that we 

have to manage. 

As Mr. Holmes noted, we think about the credit exposure, the potential credit exposure that we can have with counterparties and 

we, in fact, post collateral and limit the amount of business that 

we do. So I think we would say it actually worked quite well for 

this cycle for most of the end-users, and certainly for the life of insurance companies. 

Mr. MANZULLO. Mr. Holmes, and then Mr. Johnson. Go ahead. 

Mr. HOLMES. Yes. Certainly our major concern through the credit 

crisis was the health of our counterparties. And it certainly didn’t 

appear that any of the interest rate swaps in which end-users were 

participants or foreign exchange transactions were the things that 

created financial difficulties for our counterparties. It was the 

subprime market, as you indicated. 

Mr. MANZULLO. Mr. Johnson? 

Mr. JOHNSON. I believe that the subprime market was the catalyst, the trigger in this episode and the opacity that was associated 

with the collateralized debt obligations. The funny ratings from the 

rating agencies played a very large role. But I do not think that 

is the exclusive source of opacity in this very large scale derivatives 

markets. Nor, by the way, do I think that derivatives are—I think 

they play a meaningful role, but they have to be structured so that 

as the gentleman speaking before me said, counterparties can assess each other and not become afraid and not withdraw credit in 

times of crisis or shock that emanates from any source, domestic 

or foreign. 

Mr. MANZULLO. Okay. 

Mr. FERRERI. Could I add some insight to that, please? As an 

inter-dealer broker, when we hear stories from end-users, our customers are not end-users as the dealers that they deal with. The 

interest rate swap market, even during the crisis, the height of the 

crisis, operated very effectively and very efficiently. The foreign exchange market that our members operate, operated very effectively 

and very efficiently. The London Clearing House, in a report to the 

European Commission, made a case that after Lehman failed, $9 

trillion in interest rate swaps with Lehman as a counterparty were 

in the Clearing House, more than 60,000 trades. Those trades settled through the Clearing House without a single dollar lost of 

member funds. So although there may be underlying problems in 

a certain aspect or a certain area, the breadth of the marketplace 

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65 

stinctively for the inter-dealer market was certainly proven to be 

strong. 

Mr. MANZULLO. Mr. Hill? 

Mr. HILL. Yes. I would agree with what has been said. I think 

the key thing here is that with respect to all the markets we have 

been talking about, interest rates, currencies, and the corporate 

credit default swap market, the underlying instrument on which 

the derivative was based was a relatively liquid and transparent 

market. For example, with respect to the corporate CDS market, 

the underlying corporate credits were typically 34 reporting companies. So people who are transacting in the corporate credit default 

swaps understood the risks they were taking because the underlying credits were reporting companies that had financials, had to 

file periodic reports as their material events changed, and therefore 

the corporate credit default swap market actually performed very, 

very well during the financial crisis. In fact, it was far more liquid 

and far more transparent than the bond market. The problem with 

the subprime credit default swap market was not with the credit 

default swap itself, but how the underlying instrument that people 

were basing their derivatives on— 

Mr. MANZULLO. Was crap. 

Mr. HILL. Was misunderstood. Not only was it that— 

Mr. MANZULLO. It was. 

Mr. HILL. It was misunderstood. People assumed that borrowers 

disclosed their incomes correctly, people assumed lenders checked, 

people assumed the real estate appraisals were done accurately. 

And it turned out that a lot of those things weren’t the case. So 

I have always felt the focus should be less so on the derivative and 

more so on what is the derivative on and is that market performing 

correctly. And I think in this case of the subprime, it clearly 

wasn’t. In the case of the corporate bond market and the corporate 

CDS market, it certainly was. 

Mr. MANZULLO. Thank you. 

Mr. MOORE OF KANSAS. I have been asked by Chairman Frank 

to clarify for the record that the White House did not invite any 

witnesses. All the invitations came from the chairman. I have just 

been asked to state that for the record and I have done it. Thank 

you, Mr. Manzullo. And next, the gentleman from New York, Mr. 

Meeks, is recognized for questions. 

Mr. MEEKS. Thank you. And I yield to Mr. Watt. 

Mr. WATT. I thank the gentleman for yielding just long enough 

for me to apologize to the members of the panel for having to run 

out and not being here to ask questions. That is probably a blessing to you. But also second, to ask unanimous consent to submit 

for the record a statement of Shawn Dorsch, who is my constituent 

and the founder of Blackbird Holdings, Inc., on the subject matter 

of today. 

Mr. MOORE OF KANSAS. Without objection, it is so ordered. 

Mr. WATT. I yield back to the gentleman and I thank him profusely. 

Mr. MEEKS. Thank you. One of the issues that I have been very 

focused on is what is taking place right now with the money that 

is still caught up in the U.K. with Lehman Brothers. And a lot of 

foundations and institutions and you are talking about money that 

66 

is really caught up there. So I was wondering in looking at the 

draft—but I guess I will address this to Mr. Kaswell—that if the 

key pillars of the discussion draft had been in place at the time of 

the Lehman’s bankruptcy, how would things have—would things be 

the same? Would they have evolved differently? And particularly, 

I am interested in the two key pillars of the independent thirdparty custodians and the central clearing of trades by major-market participants. Would it have made a difference? 

Mr. KASWELL. Thank you for your question, Congressman. I want 

to commend you for your leadership on this issue. The Lehman situation in the United States and the United Kingdom has been an 

unmitigated mess. And by focusing attention on it, shining a bright 

light on it, we think you are helping to resolve these issues. For 

my constituency, we are investors and we represent other investors, pension funds, college endowments and so on. And their 

money is tied up in Lehman, LBIE as they call it in the U.K., and 

also in LBI in the United States. 

And the most recent effort to resolve it did not work out. I understand there is going to be another effort starting tomorrow perhaps. But this is our investors’ money that is sitting there. So 

again, we appreciate the efforts you have made in that regard. The 

bill would go a long way toward addressing some of the concerns 

because of its protection of collateral by segregating it off into a 

central clearing facility, in some cases, if it is a centrally cleared 

derivative, or in the case of an OTC product, providing customers 

with the option of having it segregated. 

So putting collateral and margin aside in a segregated account 

would have made a substantial difference in LBIE. And so that is 

one thing that we think is important. The Lehman administration, 

I think, is another issue. There are different approaches to that, 

and I think we could talk about that more at another time. Another 

issue I think is important is portability, the ability to move assets 

from a failing clearing member, if there were such clearing member, to another clearing member and to move those positions over 

quickly and efficiently. This would make a tremendous difference 

in avoiding the kind of nightmare we have had with LBIE. So 

thank you for the question. 

Mr. MEEKS. Thank you. Let me jump now to Mr. Hall. The bill 

provides an exemption for swaps that did not involve dealers or socalled major swap participants, likely excluding anyone that uses 

swaps for hedging operational risks. This may mean that it is primarily contracted between dealers or between a dealer and fund 

managers that have to be cleared. Could you comment, if you will, 

on the amount of outstanding trade that this likely represents and 

whether this level of clearing will be enough to make a meaningful 

reduction in the level of systemic risk associated with the derivatives. 

Mr. HALL. Sure. I would be happy to. Approximately somewhere 

between probably 85 and 90 percent of transactions are between 

major-market participants. So as this draft allows and can require, 

is that those transactions would need to be, first of all, cleared if 

the regulator requires that they would be cleared; and then second 

of all, it allows the regulators to set margin requirements. So that 

would address the vast majority of the—that would address the 

67 

systemic risk in the system. And we have some concerns with the 

definitions and the definition of major swap participants. The language around substantial net position is undefined. 

We are actually concerned that threshold could be set too low so 

that it could require normal businesses who are using derivatives 

for risk management purposes, maybe they have other transactions 

that wouldn’t qualify, they could get caught up in that definition. 

But to answer your question specifically, this language would catch 

the largest counterparties. In the previous panel—I should point 

out in the previous panel, it was pointed out that GovernmentSponsored Enterprises such as Fannie Mae or Freddie Mac that 

are doing transactions that might broadly fall under the range of 

risk management may avoid being captured by this language. So 

we think there is still some work to be done on these paragraphs, 

but I think it is definitely moving in the right direction. 

Mr. MEEKS. I am out of time already? 

Mr. MOORE OF KANSAS. Yes, you are. The Chair recognizes Mr. 

Manzullo for a unanimous consent request. 

Mr. MANZULLO. Thank you, Chairman. I ask unanimous consent 

that the statement of John Hollyer, principal and head risk management of strategy analysis at Vanguard, be made a part of the 

record. 

Mr. MOORE OF KANSAS. Without objection, the statement will be 

made a part of the record. 

And I recognize myself for a unanimous consent request, a statement on proposed reform of over-the-counter derivatives markets 

from the electric power and natural gas industries. Without objection, this will also be made a part of the record. Next, the Chair 

recognizes Mr. Garrett from New Jersey. 

Mr. GARRETT. Thank you. And I thank the panel. In the last 

comment—we have heard before actually that this is a step in the 

right direction. We have heard a lot of people say that. The Administration had their plan here. The chairman has come out with his 

plan here, which is a step in the right direction. I guess as I hear 

that, I often think that had you all the opportunity to push that 

proverbial reset button on this debate—and we haven’t passed legislation yet and we haven’t had a markup yet—is the legislation or 

even the draft legislation that we have really the type of legislation 

that you think we need in order to address the problems that we 

need to have addressed here? I will open that to anyone who wants 

to. In other words, if you had your druthers, would this be the legislation even with the definitional changes and what have you that 

you have here if we do all those? Is this the legislation that you 

hope to have in place come January of next year to regulate the 

industry? 

Mr. HALL. I will take a crack at it, if that is okay. I think the 

way we view this is we have been reviewing the issue and reviewing the situation. And we have been thinking about this ever since 

AIG, certainly as many of you have. The key issue in our minds 

is systemic risk. The way to address systemic risk is to identify 

who are the systemically significant institutions, require that when 

the systemically significant institutions trade with one another, 

they fully collateralize their trades. They can fully collateralize 

their trades either through collateral arrangements or clearing or 

68 

exchanges. So that would take care of the systemic risk issue. Now 

to the question of transparency. And if the regulators need access 

to information, certainly let us give regulators the access to information. 

One of the provisions in this bill talks about central data repositories where trades can be reported. We think that is a very sound 

idea. So those two elements should be the key elements, the core 

elements. Then there should be a question of anything added to 

that, I think, should be examined for both of it costs and benefits. 

Mr. GARRETT. I appreciate that. And I take it as significant when 

I said does anybody think this is what you want to have in the 

market and note there was no waving of hands saying, this is it. 

So I will ask Mr. Hixson. When you look at your company and industry, basically what you have is a Byzantine system of regulation 

that this draft is coming up with to address mainly just non-financial derivative dealers such as yourselves who don’t have a prudential regulator out there already. So we are creating this massive 

regulation just to address this one little area basically. It goes with 

the other carve-outs that have now come in for the end-users and 

what have you. Couldn’t we have done this in some other ways? 

And you addressed—Mr. Hall addressed some of it by dealing with 

the repository. And I guess even before that—here is a seminal 

question. Are you so systemically important and risky that we 

would have the same problems that we have dealt with over the 

last 9 months if we didn’t do this, and you had a problem in your 

company? 

Mr. HIXSON. I think as the first panel kind of mentioned and certainly in the statistics on the notion of outstanding derivatives, we 

are tiny. So I don’t think— 

Mr. GARRETT. Hoping to grow bigger, but still tiny. 

Mr. HIXSON. Certainly a very small player. I would not think 

there is any systemic risk in what we do. And particularly given 

the nature of our transactions, we are providing hedges for our customers. So in essence they already have the risk on their books. 

They need to buy flour to run their operations, they are going to 

be selling the heating oil in the examples I used. So we are just 

trying to help them provide a product to manage that risk. So, no, 

we are not particularly viewed as systemic in nature. And we have 

a regulator. We certainly report all of our large trading positions 

that we do, both over-the-counter and on the exchange to the CFTC 

currently. That system exists for any large data amounts of transactions, we do provide that already. 

Mr. GARRETT. It seems to me as we begin to get into this—maybe 

I am wrong—that you can deal with the transparency issues that 

I came in here to hear you talk about by the repository, you can 

deal with the other aspect that is in this draft that Chairman 

Frank has put in and that is dealing with the Lehman situation 

regarding the segregation of funds and what all brought us to that 

situation. We already know what is going on in the marketplace 

right now is that we are moving to this clearinghouse arrangement. 

We don’t have to get into all the definitional problems I think Mr. 

Hall was raising by this Byzantine structure doing it because we 

are already moving in the right direction. 

69 

So if you did just a couple of those things, you seem like you 

would address a major portion of the problem. We will not, even 

if we pass this bill, or I think even if we pass the Administration’s 

bill—correct me if I am wrong on this—deal with what got us here 

by some argument with the AIG situation because—will the AIG 

type of instruments be covered and be forced to be cleared through 

a clearinghouse? No, right? Because they are—Mr. Hall? 

Mr. HALL. If I could. This bill does require that if you are 

deemed a major swap participant or if you are a swap dealer, then 

regulators can compel you to trade—do certain trades on exchange 

or clear and for other trades post margin. 

Mr. GARRETT. But it wouldn’t require for those types to actually 

go through it because they would be the unique type of product 

that wouldn’t go through it, correct? 

Mr. MOORE OF KANSAS. The gentleman’s time has expired. 

Mr. GARRETT. You can do a quick nod. 

Mr. HALL. If it is a unique product, they still could require margins. 

Mr. GARRETT. Margins only. Thanks. 

Mr. MOORE OF KANSAS. The Chair next recognizes the gentleman 

from Missouri, Mr. Cleaver. 

Mr. CLEAVER. Thank you, Mr. Chairman. How many of your associations or agencies are related to other associations or agencies 

at the table? How many of you are connected in any way? 

Mr. KASWELL. I am not sure I understand the question. I represent the Managed Funds Association, which is the trade group. 

Mr. CLEAVER. Yes, I understand. And so what trade groups that 

you represent are also connected with any of the other associations 

or groups that are represented at the table? 

Mr. KASWELL. I don’t believe we are connected. 

Mr. CLEAVER. None of you are related in any way, not connected 

in any way? The people you represent are not—don’t have any relationship at all? 

Mr. HALL. An affiliate of Prudential is one of our clients, but that 

is the only connection I have. 

Mr. KASWELL. There may be cross membership. 

Mr. FERRERI. I was just going to add that. My company, ICAP, 

is a member of the WMBA and also a member of SIFMA. 

Mr. CLEAVER. So if we really took a little time, we could probably 

come to the realization that most—there is some kind of connection 

with those companies you represent and others represented at the 

table? Am I right about it? We just took a little short period—we 

haven’t taken lot of time. We have already seen that there are 

some crossovers. 

Mr. KASWELL. Right. But there are different perspectives. We 

are— 

Mr. CLEAVER. I understand. That is not where I am going. I 

wanted to just see what the relationships would be. 

Mr. HOLMES. Certainly as an end-user, I am not aware of any 

direct relationships I have with these other associations, yes. 

Mr. CLEAVER. No. That is not what—I am not saying you have 

a relationship with them. I am saying that in the industry that you 

represent, some of those members would have relationships with 

70 

the members of the agencies represented at the table. Is that clearer? 

Mr. KASWELL. Yes. 

Mr. JOHNSON. In my case, there are no cross affiliations. 

Mr. CLEAVER. Yes. You are segregated. Earlier today, Mr. Gary 

Gensler, the Chairman of the Commodities Futures Trading Commission was here. He actually delivered a speech last month. And 

in his speech, he said that he believed that institutions are becoming ‘‘too-interconnected-to-fail’’ and not ‘‘too-big-to-fail,’’ that the 

real problem is that we are developing a pyramid financial system 

in this country and so everybody is connected and so if one block 

falls it could conceivably knock down all the other blocks because 

of their connectivity. None of you agree with that, do you? 

Mr. SLEYSTER. If I could. As representing insurance companies, 

we believe very strongly in diversification and we believe in posting 

collateral and the kinds of things that can protect you from concentrations. But clearly as the world gets smaller, as financial institutions, for example, merge—if you had holdings in two of those 

bonds and there is a merger, then suddenly your exposure to a single firm has gotten much larger and you have to work those down. 

So I think certainly we are concerned about concentration and 

about using things like CDS and derivatives and OTC contracts 

quite frankly to help us mitigate and spread out that risk when 

those kind of events occur. But certainly they are real risks and 

real concerns. 

Mr. CLEAVER. Yes, I appreciate that. You and I are on the same 

wavelength. That is a concern. When he expressed that, I have 

frankly thought a great deal about that and wonder whether or not 

the ‘‘too-big-to-fail’’ is really something we are concentrating on. 

And that even if we conclude that we have come up with a solution 

to that, we still have a problem because of this interconnectedness. 

And I think my time is running out just as I was—all right. Thank 

you, Mr. Chairman. 

Mr. MOORE OF KANSAS. The Chair next recognizes himself for a 

question. As we consider where to draw the line of jurisdiction between the SEC and the CFTC, I think Chairman Frank has a very 

interesting perspective. If you can eat it, it should remain the 

CFTC and the Agriculture Committee that has jurisdiction; but if 

it is a financial matter, it should remain with the SEC. In the grey 

areas like interest rate swaps and currencies I would like to hear 

from the entire panel whether the SEC or the CFTC should have 

jurisdiction of these items. Are interest rate swaps and currencies 

a financial matter that should be under the SEC’s jurisdiction? I 

will start with my fellow Kansan, Mr. Hixson, and just go down the 

line if we could, please. 

Mr. HIXSON. We have really not waded into the jurisdictional dynamic if you will. We have really tried to focus on the use of the 

instrument and if you are a hedger and focus on kind of exemptive 

language and clarifying that segment. So I don’t know that we really have a lot to offer on the dynamics of the various agencies. 

Mr. MOORE OF KANSAS. Very good. Professor? 

Mr. STULZ. I don’t have much to offer on this. I was concerned 

this morning about the lack of selectivity of the CFTC to end-users. 

71 

I am much more concerned about focusing on exchanges and that 

would be a concern to me. 

Mr. MOORE OF KANSAS. Very good. Next, sir, Mr. Sleyster? 

Mr. SLEYSTER. The ACLI did not express a view on that, but I 

would reiterate our concern that we would like those agencies to 

have the ability to deal with issues as they emerge on a real-time 

basis. 

Mr. MOORE OF KANSAS. Very good. Mr. Hall, sir? 

Mr. HALL. We don’t have experience with either agency. So this 

will need new—I think our concern is that the testimony this 

morning, they clearly want to move towards clearing and exchanges. So to the extent they have latitude, we are concerned at 

the implications of our clients. 

Mr. MOORE OF KANSAS. Thank you, sir. Mr. Hill? 

Mr. HILL. The system is agnostic under this jurisdiction. But I 

will point out that there are some unusual aspects of the way the 

current split is set up. So, for example, in the case of corporate 

credit default swaps, where if you do a single name corporate credit 

default swap, it would be with one agency. But if you did a corporate credit default swap of 25 names which is effectively just 25 

of those single names combined, it is a different agency and that 

seems like an odd result to me. 

Mr. MOORE OF KANSAS. Thank you. Mr. Kaswell? 

Mr. KASWELL. We don’t have a formal position on the issue. We 

think it is a decision for the Congress. 

Mr. MOORE OF KANSAS. Right. Mr. Holmes, sir? 

Mr. HOLMES. We have not done any exchange traded transactions that would give us experience with either organization, so 

we don’t have an opinion at this time. 

Mr. MOORE OF KANSAS. Mr. Ferreri? 

Mr. FERRERI. As an operator of a marketplace, we are regulated 

by both the SEC and the CFTC. What we would hope would happen—the company I represent, ICAP, is a London-based company 

that operates under a single regulator. We operate regulated derivatives platforms. I think if there is enough harmonization between the trading transparency rules, between the two commissions, it would go a long way to making this an easier goal to 

achieve. 

Mr. MOORE OF KANSAS. Thank you, sir. Finally, Mr. Johnson? 

Mr. JOHNSON. I tend to concur with Mr. Ferreri, that making 

things easier and more harmonized would help market participants. In this particular year, I have had very good experience with 

Mr. Gensler’s work. So as one particular chairman at one particular time, I think he is making a great deal of progress. I have 

less familiarity with the SEC. 

Mr. MOORE OF KANSAS. My thanks to the panel. I yield back the 

balance of my time. Next, the Chair recognizes Mr. Adler of New 

Jersey. 

Mr. ADLER. Thank you, Mr. Chairman. Gentlemen, thank you for 

your patience this afternoon. I was struck by a line of questioning 

by Mr. Garrett, my colleague from New Jersey, a few moments ago, 

who I think was trying to bait you into criticizing this legislation. 

My sense sitting by the previous sponsor of a similar bill, Mr. 

McMahon, is this particular piece of legislation recognizes the good 

72 

aspects of derivatives, is trying to avoid some of the systemic risk 

problems, offers an opportunity for greater transparency and relieving some of the opacity which was, I think, hurting but maintains 

the prudent risk management tools that all of you need and particularly the end-users here—I heard from Mr. Holmes and Mr. 

Hixson in particular talking about how this is a positive thing to 

preserve the good aspects of derivatives. 

So I guess I would like to have the flip side of Mr. Garrett’s question to you. If you could briefly tell me that this is good legislation 

that I should support, that by and large will preserve the good aspects of risk management for end-users, but also protect the American people from some of the disasters we heard about, even from 

your own testimony about AIG. And I welcome any of you jumping 

in on that one. 

Mr. FERRERI. I would love to take the first shot at it. These are 

comprehensive bits of legislation. There are a lot of components, to 

them. I will speak to the components that my association would 

focus on, those being central clearing and transparency. We have 

the ability today in real-time to send trades between major financial institutions and the OTC derivatives market to a central repository in real-time. The U.S. Treasury market is an over-the-counter 

centrally cleared market. Trades are novated in milliseconds between counterparties hundreds of thousands of times a day. There 

are components of the bill that strengthen that on the derivatives 

side. Our association is fully supportive of those aspects of the bill. 

With regard to central clearing and the risk that mitigate, again 

centrally cleared products with a nondiscriminatory access to the 

clearinghouse gives us an opportunity to get these transactions 

done, get them into a clearinghouse and move onto the next trade. 

There are components that our association supports of the bill. 

Mr. ADLER. And before you go, I also heard testimony or read 

testimony about your legitimate ongoing concerns about capital requirements and margin requirements and the segregation of assets 

for collateral. So you can reiterate that, but I at least have heard 

that clearly. But I would welcome other gentlemen speaking. 

Mr. HOLMES. Well, I would like to comment on one really positive 

aspect, I think, of the regulation and that is the reporting and information gathering. There is quite a bit of information about derivatives that are disclosed by corporations today in the aggregate, 

but not at the transaction level. That information will be very useful in determining whether companies are truly hedging underlying 

risks or speculating. So I think that is very helpful. The margining 

and collateral requirements being a real concern for our particular 

firm. 

Mr. ADLER. Understood. Mr. Johnson, you were patient. 

Mr. JOHNSON. What I feel is that you are faced with a tension 

between wanting to standardize, harmonize, make things more 

transparent on the one hand and preserve the capacity for 

customization for end-users on the other. I think this is a real entrant into the dialogue, along with the Administration’s bill and 

some of the work that Gary Gensler has done. But I think at this 

point, the danger of this particular draft after my first reading 

within the last 18 hours, is that some of the definitions of nonmajor 

market participants and so forth could end up spilling over to creVerDate Nov 24 2008 18:02 Apr 29, 2010 Jkt 055811 PO 00000 Frm 00076 Fmt 6633 Sfmt 6633 K:\DOCS\55811.TXT TERRIE
73 

ate unintended what you might call laxity or benefit for some of 

the major ‘‘too-big-to-fail’’ financial institutions. And I would urge 

the committee—and I will put a written submission in on how to 

tighten that language. 

Mr. ADLER. I would desperately urge you to do that, because we 

are going to be doing something on this measure very, very soon. 

So your written comments would be very helpful. I know Mr. Hall 

would like to comment that we want to make sure that we preserve 

the customized nature of derivatives as much as possible. 

Mr. HALL. I think the question is, what is good about this bill 

and what do we like. I think you addressed some of the concerns, 

the margin and the capital. There is a couple of other kind of more 

definitional concerns that we had in our testimony. But I want to 

emphasize that we believe that this bill is the most thoughtful bill 

to date. And I think it has a lot of hope of trying to balance the 

needs for end-users with addressing the systemic risk issue. 

Mr. ADLER. Since I am sitting next to a previous sponsor of a derivatives bill, I think the previous bill was also very thoughtful. 

Mr. SLEYSTER. If I could. One observation with sympathy to sort 

of the expressed view, we felt like derivatives actually worked very 

well as a risk-management tool through the cycle. And when we reported to our own board about experiences of the cycle, that was 

actually one of the items we noted that worked well. The reason 

we think it worked well for the life insurance industry is that we 

already have a restricted use from our own State regulators that 

we can only use derivatives for hedging a replication. And so one 

of the observations I think I would make is that we don’t think it 

is necessarily—we don’t see why we would need to be regulated by 

the CFTC or the SEC on that. Thank you. 

Mr. ADLER. Thank you, Mr. Chairman. 

Mr. MOORE OF KANSAS. Thank you. I would ask unanimous consent that Mr. McMahon—who is not a member of this committee— 

be permitted to ask questions. Mr. McMahon, you are recognized 

sir. 

Mr. MCMAHON. Thank you, Mr. Chairman, and to the ranking 

member and also to Mr. Adler for not objecting to allowing me to 

ask a few questions. I appreciate that very much. And also for the 

shout-out on the many portions of our bill which are part of the 

chairman’s draft for discussion. We are very pleased about that. 

And we thank you for your great efforts in that regard as well. 

Again, with the new Democrats, this for us is a very important 

issue and it is—all politics is local. So for me back home, as I mentioned this morning, so many people from my district work on Wall 

Street and for the City of New York. It is just an integral part of 

the City’s budget. It is about policemen on the street, firefighters 

in the fire houses, teachers in the schools. And one of the things 

that we have tried to—have had to make clear with the meltdown 

at Lehman and AIG is when it comes to derivatives, is that—and 

you have done that very well, many of you today, that this is not 

just about speculation and people sitting around in a conference 

room or on a trading floor somewhere on a computer on a trading 

platform. This is a very important part of America’s economy because we are able to produce fuels or things from grain or tractors 

that go around the world. And that is very important. We are glad 

74 

you are here. I would ask you—especially Mr. Hixson and Mr. 

Holmes but the others as well because I heard what you said to 

Mr. Adler, that we are in a pretty good place in a lot of the parts 

of the bill. But as end-users—and we need you to continue this dialogue so that people understand it is about the end-users, what 

that means to the American economy, not just for those who are 

using credit default swaps to speculate. As end-users, could you 

give us your perspectives? I know you talked a little bit about how 

the Administration’s proposal requiring the end-users to clear and 

the post-margin obligations would specifically impact your business. If you would maybe start, Mr. Holmes. Tell me about the 

farmer in Australia and what would happen then if you had to 

then—if your credit was tighter and what that would mean to your 

business. And I know you just touched on this, but we have been 

in and out during the day. So if you could just for the record. 

Mr. HOLMES. Well, if we weren’t carved out as a nonmajor swap 

participant and we had to clear all of our transactions and post initial and variation margin or collateral, we would have to curtail 

significantly our hedging activities because—in my testimony, I indicated that our credit operation, which executes the majority of 

our derivatives, is prohibited from posting collateral under its indentures. And that prohibition will last as long as the debt is outstanding for up to 10 years. 

So we would have to curtail our hedging activity and that would 

increase the volatility that we experience and ultimately the price 

of our goods that we sell internationally, as well as the cost of our 

financing for our customers both domestically and internationally. 

Mr. MCMAHON. So the derivatives, the ability to hedge your risk 

is sort an oil in your tractor, so to speak, that allows it to run of 

your company, allows it—we are always looking for metaphors that 

we hope some reporter will write down. But it is your ability to 

function, to allow the goods and services to flow worldwide ultimately, right? 

Mr. HOLMES. Absolutely. It helps us to smooth out our cash 

flows, which enables us to invest on a consistent basis. And that 

is a really important aspect. 

Mr. MCMAHON. And there are some who think that you could— 

instead of using derivatives, you could do that by getting credit 

from a bank to—in lieu of—or at least post a margin by getting 

credit from a bank. What would that mean to your business? 

Mr. HOLMES. Well— 

Mr. MCMAHON. Could you get that credit in today’s market? And 

what would it mean? 

Mr. HOLMES. Certainly, credit availability and cost has changed 

since the credit crisis. So it would be very costly. We would have 

to raise hundreds of millions of dollars and keep cash on our balance sheet to meet margin requirements that instead could be productively employed in building factories and employing people. 

Mr. MCMAHON. Thank you. Mr. Hixson? 

Mr. HIXSON. I appreciate the chance to discuss this. In a local 

kind of example, maybe in your background or at least for your upstate brethren in their backyards. One, we have a large export 

grain facility in Albany, New York where we ship wheat out. Certainly when we ship wheat to Egypt out of there, we would want 

75 

to hedge the currency risk and the cost of doing that could be dramatically higher. And I think at times, we forget there are consumer benefits as well, particularly for the type of program I described in our kind of a distributor product for where we do a 

hedge for a heating oil. Well, if you figure a small job where I may sell $1 million worth 

of heating oil in the northeast, the initial margin on that contract 

would typically be somewhere around 10 percent or so. So you have 

to post $100,000 of margin if you are that little guy out there doing 

this and you have the margin all the way through there. That 

would be expensive for that small business. 

Mr. MCMAHON. Thank you very much. And thank you for your 

patience today. And just a shout-out to Mr. Ferreri who is a constituent of mine from Staten Island. Thank you, Mr. Chairman, for 

your indulgence and allowing me to be here today. 

Mr. MOORE OF KANSAS. Thank you sir. And the Chair at this 

time recognizes Mr. Manzullo for a unanimous consent request. 

Mr. MANZULLO. I ask unanimous consent that a statement from 

the International Swaps and Derivatives Association be made a 

part of the record. 

Mr. MOORE OF KANSAS. Without objection, it will be received in 

the record. And I would like to thank each of the panelists for appearing here today and giving us your testimony, the benefit of 

your expertise and information on this subject that we are discussing here. The Chair notes that some members may have additional questions for this panel, which they may wish to submit in 

writing. Without objection, the hearing record will remain open for 

30 days for members to submit written questions to these witnesses and to place their responses in the record. Again, thanks to 

our panelists. And at this time, this hearing is adjourned. 

[Whereupon, at 3:54 p.m., the hearing was adjourned.] 

(77) 

A P P E N D I X 

October 7, 2009 

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