UNITED STATES OF AMERICA

 COMMODITY FUTURES TRADING COMMISSION

 OPEN MEETING ON THE EIGHTH SERIES OF

 PROPOSED RULEMAKINGS UNDER THE DODD-FRANK ACT

 Washington, D.C.

 Thursday, December 16, 2010
 2 

 1 PARTICIPANTS:

 2 Commission Members:

 3 GARY GENSLER, Chairman

 4 BART CHILTON, Commissioner

 5 MICHAEL V. DUNN, Commissioner

 6 JILL SOMMERS, Commissioner

 7 SCOTT D. O'MALIA, Commissioner

 8 Presenters:

 8 

 9 RIVA SPEARS ADRIANCE

 9 Division of Market Oversight

 10

 10 DAN BERKOVITZ

 11 Office of the General Counsel

 11

 12 PHYLLIS DIETZ

 12 Division of Clearing and Intermediary

 13 Oversight

 13

 14 BRUCE FEKRAT

 14 Division of Market Oversight

 15

 15 SARAH JOSEPHSON

 16 Division of Clearing and Intermediary

 16 Oversight

 17

 17 JOHN LAWTON

 18 Division of Clearing and Intermediary 

 18 Oversight

 19

 19 MAURICIO MELARA

 20 Division of Market Oversight

 20

 21 JACQUELINE MESA

 21 Office of International Affairs

 22
 3 

 1 PARTICIPANTS (CONT'D):

 2 JULIE MOHR

 2 Division of Clearing and Intermediary

 3 Oversight

 3 

 4 ANNE POLASKI

 4 Division of Clearing and Intermediary

 5 Oversight

 5 

 6 ANANDA RADHAKRISHNAN

 6 Division of Clearing and Intermediary

 7 Oversight

 7 

 8 STEVE SHERROD

 8 Division of Market Oversight

 9 

 9 RICK SHILTS

 10 Division of Market Oversight

 10

 11 DAVID VAN WAGNER

 11 Division of Market Oversight

 12

 12 BOB WASSERMAN

 13 Division of Clearing and Intermediary

 13 Oversight

 14

 14 BARBARA GOLD

 15 Division of Clearing and Intermediary

 15 Oversight

 16

 16 ED RICCOBENE

 17 Division of Enforcement

 17

 18 DUANE ANDRESEN

 18 Division of Market Oversight

 19

 19 Also Present:

 20

 20 DAVID STAWICK, CFTC

 21

 22 * * * * *
 4 

 1 P R O C E E D I N G S

 2 (9:33 a.m.)

 3 CHAIRMAN GENSLER: Good morning. This

 4 meeting will come to order. This is a public

 5 meeting of the Commodity Futures Trading

 6 Commission to consider issuance of the following

 7 proposed rulemakings under Dodd-Frank Wall Street

 8 Reform and Consumer Protection Act.

 9 Before I start, I just want to make sure

 10 that Commissioner Dunn is actually tied in. I see

 11 a thumbs up.

 12 COMMISSIONER DUNN: I am, sir.

 13 CHAIRMAN GENSLER: Great. Commissioner

 14 Dunn is in our Chicago office today and we're

 15 doing this with all five of us. We will be

 16 considering four proposed rules today:

 17 Confirmation, portfolio reconciliation, and

 18 portfolio impression requirements for swap dealers

 19 and major swap participants, which will be the

 20 first team reporting; the second is risk

 21 management requirements for derivatives clearing

 22 organizations; thirdly, rules related to swap
 5 

 1 execution facilities; and fourth, positions limits

 2 for physical commodity derivatives.

 3 Before we hear from staff, I'd like to

 4 thank Commissioners Mike Dunn, Jill Sommers, Bart

 5 Chilton, and Scott O'Malia for their thoughtful

 6 work in the implementation of Dodd-Frank and their

 7 ever-present and excellent comments on these rules

 8 as we've been moving through.

 9 I'd like to welcome members of the

 10 public, market participants in the media today, as

 11 well as welcome those listening in on the phones

 12 and the live webcast. Now this is the eighth

 13 public meeting to consider Dodd-Frank rulemakings

 14 and it's been a very active year for the

 15 Commission and the staff of the CFTC. And I think

 16 the commissioners and the staff have shown

 17 extraordinary commitment to public service. The

 18 staff has organized these eight Dodd-Frank rule

 19 meetings, in addition to four other public

 20 meetings, so we've had a total of 12 public

 21 meetings this year. We went back and checked the

 22 calendar, open meetings is actually more than
 6 

 1 we've had in the aggregate from 2000 to 2008. So

 2 we've had more this year than we've had in nine

 3 total years.

 4 In addition to working on rulemakings,

 5 the CFTC staff was closely engaged in the

 6 legislative process to enact the Dodd-Frank Act.

 7 Staff worked many weekends to provide technical

 8 assistants to Capitol Hill and serve as a resource

 9 to lawmakers. And in the 148 days since the

 10 President signed the Dodd-Frank Act -- but who's

 11 counting -- the staff of the CFTC has continued to

 12 work tirelessly. They have had more than 475

 13 meetings with the public on rulemakings, had more

 14 than 300 meetings with other regulators, and

 15 organized 7 public roundtables. And including the

 16 rules that the Commission will consider here

 17 today, the staff has recommended 34 proposed

 18 rulemakings, 4 advanced notices of proposed

 19 rulemakings, 2 interim final rules, and 1 final

 20 rule to implement the Dodd-Frank Act.

 21 I feel it's a little bit like that

 22 holiday song, but --
 7 

 1 This work is in addition to all the work

 2 the staff has done over the past year to oversee

 3 the futures market: Coordinating with the SEC to

 4 review the May 6 market events; successfully

 5 standing up to new advisory committees -- I thank

 6 you Commissioner O'Malia on the Tech Advisory

 7 Committee; and bring greater transparency to the

 8 market through enhanced commitment and traders'

 9 reports and index investment reports, just to name

 10 a few things.

 11 And also this year, with the help of

 12 Congress and successful recruiting by the

 13 divisions and our Human Resources Department, we

 14 finally have gotten our staffing levels back to

 15 the number of people we had in 1999; bring on, I

 16 think, this past year approximately 100 people.

 17 Again, just to finally get back to where we were

 18 10 years ago. So I'm continually impressed by the

 19 knowledge, effectiveness, and camaraderie and

 20 dedication of the CFTC staff and commissioners.

 21 Now, I will return to the business of

 22 today's meeting. Today's meeting will be the last
 8 

 1 one we have this year, so I look forward to

 2 completing the meeting so that everyone can have a

 3 much deserved break to celebrate the holidays with

 4 friends and family. We'll actually start

 5 celebrating today with some holiday parties in the

 6 building and I look forward to spending time with

 7 my colleagues.

 8 But we will be back at this in January.

 9 And today we'll be voting on two meeting dates in

 10 January to consider additional Dodd-Frank

 11 rulemakings. We'll announce the rulemaking

 12 proposals that the Commission will consider, as we

 13 have in the past, one week in advance of the

 14 meetings. The staff has worked very hard on the

 15 four rulemakings that we're considering today.

 16 They'll present thoughtful recommendations for how

 17 the Commission can best comply with the Dodd-Frank

 18 Act, and I'm going to turn to a couple of these

 19 now.

 20 One of those obligations is to promote

 21 transparency in the swaps markets. And economists

 22 and policymakers have for decades recognized that
 9 

 1 market transparency benefits the public. The more

 2 transparent a marketplace is, the more liquid it

 3 is, the more competitive it is and the lower the

 4 cost for hedgers, borrowers, and ultimately, their

 5 customers in the American public.

 6 And transparency in the securities

 7 markets, we know, allows companies that need to

 8 raise and borrow capital to see and rely upon

 9 where other companies have priced their

 10 securities. We also know that transparency in the

 11 futures markets allows hedgers and speculators to

 12 see where futures trade in the marketplace and to

 13 get best pricing. And the Dodd-Frank Act brings

 14 similar transparency to the standardized part of

 15 the swaps market.

 16 The bill promotes pre-trade transparency

 17 in the swaps market by requiring that the standard

 18 part of the market -- what I'll call standardized

 19 swaps, other than block trades -- be traded on

 20 regulated exchanges or swap execution facilities.

 21 And exchanges and SEFs allow buyers and sellers to

 22 meet in an open, competitive marketplace where
 10

 1 market participants have the ability to make bids

 2 and offers to multiple participants in the

 3 marketplace and where prices are made publicly

 4 available. I believe the proposed rule on SEFs

 5 today that the Commission will consider will

 6 fulfill Congress' intent to bring transparency and

 7 partial access to the swaps market.

 8 Another important rulemaking the

 9 Commission will consider today relates to position

 10 limits. And when the CFTC set position limits in

 11 the past, the agency sought to ensure that markets

 12 were made up of a broad group of market

 13 participants with a diversity of views.

 14 At the core of our obligation is

 15 promoting market integrity, which the agency's

 16 historically interpreted to include insuring

 17 markets do not become too concentrated, and the

 18 Dodd-Frank Act expanded the scope of this

 19 Commission's mandate to set position limits now to

 20 include certain swaps, those economically

 21 equivalent to the futures market.

 22 And, importantly, the proposed
 11

 1 rulemaking reestablishes what's called

 2 single-month and all-months combined position

 3 limits for energy and metals markets. So that the

 4 rules that we're going to consider today would

 5 fulfill Congress' mandate to set these aggregate

 6 position limits across futures and certain swaps.

 7 We'll also take up two other important

 8 proposed rulemakings that would help lower risk to

 9 the entire derivatives market, the first relating

 10 to risk management in clearinghouses, including

 11 and ensuring that these clearinghouses provide a

 12 more inclusive membership through fair and open

 13 access as Congress called for it.

 14 The second relates to some critical

 15 business conduct standards for swap dealers. We

 16 look forward to receiving the public comments on

 17 all of this and each of these rules, as well as

 18 factsheets and Q&As, will be posted on our

 19 website. They may actually be up there now, I'm

 20 not sure of the exact timing.

 21 Before I turn to my fellow

 22 commissioners' open statements, I'd also like to
 12

 1 wish everybody a joyous holiday and a happy new

 2 year.

 3 Commissioner Dunn from Chicago? It's

 4 not connected. We're not hearing him. Try it

 5 again.

 6 COMMISSIONER DUNN: Thank you, Mr.

 7 Chairman. Can you hear me now? Okay.

 8 I would be remiss if I didn't point out

 9 that it appears we're making real progress in the

 10 appropriations. It's something that I have been

 11 harping on for -- ever since Dodd-Frank has passed

 12 and I'm very hopeful that Congress will enact on

 13 those appropriations, so we can go forward and

 14 have the imminent fiscal resources that need to

 15 implement this bill.

 16 At the close of the Commission's energy

 17 position limit and hedge fund exemption hearing on

 18 August 5th of 2009, I stated that the CFTC does

 19 not have the authority to set speculative position

 20 limits in all of the venues that may be affected

 21 by excessive speculation, specifically

 22 over-the-counter markets and on foreign boards of
 13

 1 trade. Unilateral Commission action in only the

 2 markets we currently regulate would not have the

 3 desired effect of reigning in excessive

 4 speculation in the futures markets. Without

 5 similar steps with over-the-counter markets and

 6 foreign boards of trade, those seeking to evade

 7 the limits would simply move to venues outside of

 8 our authority.

 9 What a difference a year makes. With

 10 the passage of Dodd-Frank, the CFTC is now --

 11 clearly has now not only the authority, but a

 12 mandate to set position limits on commodity

 13 markets and over-the-counter markets if we

 14 determine that position limits are appropriate to

 15 diminish, eliminate, or prevent the undue burdens

 16 of excessive speculation. While I'm voting on

 17 today's notice to propose rulemaking for position

 18 limits, I am still trying to understand the "as

 19 appropriate" clause of Dodd-Frank regarding

 20 position limits. And I'm interested in public

 21 comments on this topic.

 22 Although we currently have the authority
 14

 1 domestically to set decision limits, we are

 2 dealing with open markets. There are discussions

 3 with international regulators regarding position

 4 limits. I think we are making progress with

 5 foreign boards of trade, but still have concerns

 6 in this area. Before we can make an effective

 7 rule, we must understand the entire universe of

 8 the market. At this time, we do not have that

 9 (inaudible) position.

 10 In 2000, the Congress prohibited the

 11 CFTC from regulating the swap markets. A decade

 12 later, after a global financial meltdown, it is

 13 apparent that this was not a wise decision.

 14 However, it is impossible to turn back the clock

 15 and, over the course of the last decade, the swap

 16 markets have grown to accommodate the services

 17 they provide.

 18 I believe the SEF rule provides a 

 19 framework for providing pre-trade transparency

 20 while taking into account the way the swap market

 21 has developed over the past decade. I believe

 22 that there is balance between transparent markets
 15

 1 and open and competitive markets. I think this

 2 proposed rule is a step forward in striking the

 3 appropriate balance between these interests. I

 4 look to the public comments to help me determine

 5 whether the rule provides the best framework for

 6 achieving these goals.

 7 Again, I would like to thank the staff

 8 of the CFTC for all their hard work in regards to

 9 these important rules. I know we're in the middle

 10 of the holiday season this month and many of them

 11 have worked weekends and holidays and will

 12 probably be doing so through the beginning of the

 13 year. I appreciate their effort and I, too, wish

 14 them all Seasons Greetings.

 15 CHAIRMAN GENSLER: Thank you,

 16 Commissioner Dunn. Commissioner Sommers?

 17 COMMISSIONER SOMMERS: Thank you, Mr.

 18 Chairman. And to echo everyone's thanks to the

 19 staff, particularly all the teams that are here

 20 today, thank you for all your hard work. And when

 21 we go through these weeks leading up to the public

 22 meetings that we have, there's lots of different
 16

 1 comments, and I'm sure in many cases conflicting

 2 comments, on the rules that you're putting

 3 together. So we really appreciate all you do to

 4 take into consideration our views.

 5 In previous meetings I have explained

 6 that I would not support proposed regulations that

 7 I thought were too broad or amounted to

 8 overreaching by the Commission or that too

 9 narrowly construed the language of Dodd-Frank.

 10 While in the past I believe that we've certainly

 11 overreached, today my objections to the proposed

 12 regulations for swap execution facilities and to

 13 the proposed position limits stem from our overly

 14 narrow reading of the statute.

 15 Dodd-Frank defines a SEF as a trading

 16 system or platform in which multiple participants

 17 have the ability to execute or trade swaps by

 18 accepting bids and offers made by multiple

 19 participants in the facility or system through any

 20 means of interstate commerce, including any

 21 trading facility. As I have pointed out in many

 22 of my public speaking engagements over the past
 17

 1 few months, the term "trading facility" is defined

 2 in the Commodity Exchange Act that the terms

 3 "trading system" or "platform" are not.

 4 By introducing these new, undefined

 5 terms into the act and by specifying that SEFs

 6 should facilitate the trading of swaps through any

 7 means of interstate commerce, I believe that

 8 Congress intended a broad model for executing

 9 swaps on SEFs, both cleared, uncleared, liquid, or

 10 bespoke. The goals identified by Dodd-Frank for

 11 registering SEFs are to promote the trading of

 12 swaps on swap execution facilities and to promote

 13 pre-trade price transparency in the swaps market.

 14 In my view, the best way to achieve

 15 these twin goals is to adopt a model that provides

 16 the maximum amount of flexibility as to the method

 17 of trading. Unfortunately, our proposal today

 18 does not do that. Section 37.9, which governs the

 19 type of execution methods that SEFs may offer, is

 20 a key provision in this proposed regulation.

 21 While it permits alternative methods of execution,

 22 such as the trading facility model and the
 18

 1 request-for-quote model, it also requires that to

 2 be registered as a SEF, and applicant must -- at a

 3 minimum -- provide market participants with the

 4 ability to post both firm and indicative quotes on

 5 a centralized electronic screen, accessible to all

 6 market participants who have access to the swap

 7 execution facility.

 8 In my view, this provision is not

 9 mandated by Dodd-Frank and may limit competition

 10 by shutting out applicants who wish to offer RFQ

 11 systems without this type of functionality. I

 12 believe this interpretation of the statute and

 13 other requirements within this section are far too

 14 restrictive.

 15 As a result of my concerns, we have

 16 worked throughout this past week to include

 17 alternative language for Section 37.9 in the

 18 proposal. I believe this alternative language

 19 complies with Dodd-Frank and would promote both

 20 pre-trade price transparency and the trading of

 21 swaps on SEFs, including the alternative would

 22 have given the public an opportunity to comment in
 19

 1 accordance with the Administrative Procedures Act

 2 on both the alternative language and the language

 3 contained in the proposed rule.

 4 'm deeply disappointed that despite a

 5 commitment to a transparent process in

 6 promulgating the Dodd-Frank rules, the alternative

 7 language is not included in the proposal today and

 8 we are not giving the public an ability to comment

 9 on it. I will, therefore, include a separate

 10 statement in the Federal Register notice with the

 11 alternative language and hope that the public will

 12 comment on it. I will also post the alternative

 13 language today on my page at CFTC.gov.

 14 I would like to also take a moment to

 15 comment on position limits. It's no secret that I 

 16 have not supported imposing position limits in the

 17 past and my views have not changed. Our

 18 authorizing committee gave us the word "necessary"

 19 and the word "appropriate," both of which should

 20 be critical components of our analysis. But, as

 21 you all know, they have not been. But even if we

 22 had made the finding that they were appropriate,
 20

 1 today we do not have the data we need to

 2 effectively set position limits.

 3 Moreover, in the absence of any data,

 4 the limits that we set will be completely

 5 unenforceable, and I think it's bad policy to

 6 promulgate regulations that are not enforceable.

 7 Those challenges aside, I'm also concerned about

 8 an issue that was brought up in yesterday's

 9 hearing and that we have never considered, which

 10 is whether limits should apply differently to

 11 different groups or classes of traders, a

 12 distinction that Section 4(a) of the act allows us

 13 to make.

 14 I believe that we should be able to have

 15 these different considerations when we're looking

 16 at position limits and look forward to being able

 17 to ask the team some questions today. I also have

 18 questions on the other proposals, but, again, want

 19 to thank the staff for all of their hard work on

 20 the proposals today.

 21 CHAIRMAN GENSLER: Thank you,

 22 Commissioner Sommers.
 21

 1 Commissioner Chilton?

 2 COMMISSIONER CHILTON: Thanks, Mr.

 3 Chairman. I'll be pretty brief. You know, a lot

 4 of times you sort of figure out, well, what's the

 5 right way to do things? And, you know, sometimes

 6 on social issues, sometimes on these policy issues

 7 it's like, well, what do I do? You get this, you

 8 get that. On limits for me it's, you know, pretty

 9 clear. Everybody knows where I am. I've been

 10 calling for this thing for years.

 11 We all received this letter yesterday

 12 from Senator Harkin. And right in the first

 13 paragraph it says, "The requirement is mandatory,

 14 rather than permissive and has a specified

 15 deadline." So, you know, people can disagree.

 16 That's okay. I mean, what we heard yesterday on

 17 the Hill, Mr. Chairman, is that, you know,

 18 Congress maybe didn't even really mean this. I

 19 mean, it was their bad. I mean, maybe we didn't

 20 have to do it at all.

 21 That's not my reading of it. And that's

 22 okay, people can disagree and people can have
 22

 1 legitimate concerns. But for me I sort of got a

 2 compass on this and it's true north and I know

 3 where I'm going, and so I look forward to a robust

 4 proposal on limits. I know that people have done

 5 good work on this and there's some good things in

 6 it -- I'm not saying I agree with it, but there

 7 are things that are very good and I look forward

 8 to discussing other proposals to ensure that we

 9 not only protect American consumers, but market

 10 integrity. Thank you.

 11 CHAIRMAN GENSLER: Thank you,

 12 Commissioner Chilton.

 13 Commissioner O'Malia?

 14 COMMISSIONER O'MALIA: Mr. Chairman, you

 15 hit it on the head. This is the last rulemaking

 16 of this year and I am grateful. (Laughter) We

 17 don't -- I look forward to next year, obviously.

 18 We've done 30 proposed rulemakings, 4

 19 advanced notices, and 1 final rule. I recognize

 20 that we are only halfway through the process and

 21 probably this has been the easiest part. The next

 22 step is to digest the mountain of comment letters
 23

 1 that I strongly encourage the industry, the market

 2 participants, the public, members of Congress to

 3 submit and to include in our record, so we can

 4 make correct decisions based on the facts in the

 5 market.

 6 We obviously are asking a lot of the

 7 industry to make all these comments. While each

 8 rulemaking has 30 days, there's a cumulative

 9 effect. Thousands of pages of 30-day, 60-day

 10 comment periods. It's a mountain of work and

 11 we've asked hundreds of questions, all of which we

 12 expect a timely response to. And I think we do

 13 need to be very flexible in taking in these

 14 responses and hearing from the public. And there

 15 may be a point when they don't have enough time to

 16 respond and we should think about that and be very

 17 sensitive to their needs. We shouldn't move

 18 forward without good comment.

 19 Well, since I shared Macy's list last

 20 week -- the towel rack, the warming rack -- towel

 21 warming rack -- I'm going to share my list just

 22 before the holidays to make sure I get everything
 24

 1 I want from Santa.

 2 My first wish is that the Commission

 3 will take the opportunity to reorganize the

 4 rulemaking process in a manner that will build

 5 derivatives regulation on strong foundation. I

 6 think this begins with strong definitions in

 7 trying to solve all the definitions first, moving

 8 onto the trading platform criteria in governance.

 9 The next layer will involve clearing, block trades

 10 reporting, and swap data repositories to follow.

 11 And then finally, capital margin, business conduct

 12 standards, and, finally, the position limits based

 13 on actual data. And the proposed trading

 14 practices should come at the end.

 15 My second wish is a close first, but

 16 technology. Well, working to establish the OTC

 17 structure, we can't lose sight of the fact that

 18 organizing the Commission around technology is

 19 paramount, and we have a massive challenge to

 20 integrate all the forms and the filing in a fully

 21 electronic database that removes the human element

 22 from the reporting requirements.
 25

 1 And we must invest in automated trade

 2 surveillance to see across all markets in a way

 3 the fastest algo shops trade today. It is my goal

 4 to establish an Office of Market Data Collection

 5 and Analysis that has a data-related technology as

 6 its primary mission, and a budget that does not

 7 include laptops, BlackBerry, and toner as part of

 8 its competing interests.

 9 My third wish is to improve our

 10 interface with the public. We need to respond in

 11 a timely manner to all the questions and concerns

 12 they're going to raise. And we need to assist

 13 them in understanding the avenues for timely

 14 recourse to solve disputes with registrars.

 15 My last wish for this agency is that we

 16 will contribute to resolving the federal budget

 17 deficit. It appears Congress will not leave us

 18 with a lump of coal this year. That's the good

 19 news. But that does not solve our budget

 20 situation. The CFTC, I believe, is the best

 21 investment for taxpayers on an hourly basis,

 22 especially after the rulemakings, but we must do
 26

 1 our part to recommend savings where we find waste,

 2 a feature that is endemic with every federal

 3 agency.

 4 On to today's rulemakings. I'd like to

 5 associate myself with Commissioner Sommers' 

 6 comments and concerns about the SEF. I am pleased

 7 to report that we have not wasted the week from

 8 the last SEF rulemaking. We have used the time

 9 well to develop a compromise solution that will

 10 bring transparency to the dark and the markets of

 11 the OTC space.

 12 I'm mindful, as Commissioner Sommers

 13 noted, that the statute provides flexibility and

 14 does not envision that the Commission will direct

 15 the swaps market to become a clone of the futures

 16 market. By and large, this market remains

 17 illiquid by futures standards and trades in

 18 significantly larger block sizes. Rather than

 19 reorganizing the market, I prefer to facilitate

 20 the trading on execution platforms with a goal of

 21 increased competition and better pricing and

 22 transparency.
 27

 1 The compromise solution we have today

 2 does not mandate a limit order book, but will

 3 allow participants to use a variety of trading

 4 systems and platforms, including order books,

 5 requests-for-quotes systems, and voice-based

 6 systems. I believe this proposal preserves the

 7 ability of the end user on the buy side to

 8 transact large sizes in a currently opaque and

 9 illiquid markets. While I'm pleased to have

 10 established sensible definitions, there are

 11 elements of this rule I have concerns with and I

 12 hope the public will provide comments.

 13 First, the open access provisions in the

 14 preamble in the rule seem in conflict. Second,

 15 will this proposal continue to serve all markets

 16 and assets in a manner that's transparent and

 17 improve liquidity rather than fracture it?

 18 Finally, I question the relevance of the mandate

 19 to require traders to be reminded of firm quotes,

 20 which they previously ignored in an RFQ system

 21 before executing their order.

 22 Now, position limits. Last week I was
 28

 1 helping Macy learn more about our Founding Fathers

 2 and we spent a considerable amount of time

 3 discussing Thomas Jefferson. In supporting

 4 today's release of the proposed rulemaking

 5 regarding position limits I believe we may fall

 6 into one of Thomas Jefferson's one liners, "Delay

 7 is preferable to error."

 8 As the staff wrestled with this

 9 rulemaking, I've been constantly reminded that the

 10 exchanges already impose and enforce specific

 11 position limits in the spot month based on either

 12 hard limits or a 25 percent of deliverable supply.

 13 These limits, of course, only apply to futures

 14 markets and those contracts deemed to be

 15 significant price discovery contracts.

 16 Without specific swaps data we have no

 17 ability to claim that we are applying enforceable

 18 limits without understanding the full size of the

 19 market, and this is something the Commission not

 20 ought to be held accountable for. While the

 21 proposal meets the mandates of the Dodd- Frank

 22 Act, the proposal still suffers from significant
 29

 1 flaws in its complexity and the likelihood of

 2 achieving an end state of controlling excessive

 3 speculation remains in question.

 4 I'm incredibly pleased that we have

 5 eliminated the proposed crowding out provision

 6 altogether and provided for generous netting

 7 provisions while we provided for broad bona fide

 8 hedge exemptions that extend to the counterparty

 9 of a swap, where the counterparty is hedging at a

 10 cash market risk. These are all good things and

 11 demonstrate a commitment to listening to the

 12 comments we've received from participants. The

 13 proposed limits, as set forth, will have the

 14 greatest impact on large concentration positions

 15 in each class, but I question whether they will

 16 have at all an impact on the price? And I think

 17 the activities in 2007, 2008, and global food

 18 markets should remind us that these position

 19 limits will not prevent price spikes.

 20 In conclusion, I would like to thank the

 21 teams -- Sarah, Riva, Phyllis, John -- for all

 22 their hard work. The teams have done
 30

 1 extraordinary work, they've been very responsive.

 2 And I also like the position limits teams of Bruce

 3 and Steve Sherrod.

 4 I have the greatest aspirations for the

 5 Commission's ability to complete these rulemakings

 6 in a manner that strikes an appropriate balance

 7 between the congressional intent and the needs of

 8 the market. And whether they be the end user,

 9 swap dealer, or speculator, it is important to

 10 keep things simple, cut away the layers, and then

 11 provide a clear vision of the futures and

 12 derivatives market.

 13 Thomas Jefferson said, "History in

 14 general only informs us of what bad government

 15 is." In 10 years, I'd hate to look back on this

 16 year of rulemaking and find out that we have

 17 confirmed Jefferson's worst fears. So we're going

 18 to continue to hash at these rulemakings and try

 19 to make them better along the way and I appreciate

 20 everybody's support in working to find compromise

 21 where we can.

 22 CHAIRMAN GENSLER: Thank you,
 31

 1 Commissioner O'Malia. I appreciate all of the

 2 commissioners' comments and support throughout

 3 these eight rulemaking meetings, but particularly

 4 in this last week. I think it's been a very

 5 constructive dialogue and that what we're

 6 considering today is better for it.

 7 With that, I think, since this is our

 8 last public meeting this year, the first thing I

 9 think I'm going to consider is just -- with regard

 10 to two open meetings for January, we expect to

 11 have meetings on the 13th and 20th, again starting

 12 at 9:30 each of those days. To that end, the

 13 chair will entertain a motion to publish in the

 14 Federal Register notice consistent with the

 15 government and Sunshine Act announcement upon open

 16 meetings to consider if Dodd- Frank proposed

 17 rulemakings on those dates and times. Do I hear a

 18 motion?

 19 COMMISSIONER SOMMERS: So moved.

 20 COMMISSIONER CHILTON: Second.

 21 CHAIRMAN GENSLER: All those in favor?

 22 GROUP: Aye.
 32

 1 CHAIRMAN GENSLER: Any opposed? The

 2 ayes appear to have it. The ayes have it. We'll

 3 have meetings on the 13th and the 20th of January.

 4 I also note that Commissioner Dunn, who

 5 is joining us by videoconference from our Chicago

 6 office, may be called away before the meeting

 7 concludes. He has requested that he be permitted

 8 to vote by limited proxy for all votes taken in

 9 this meeting, a procedure we have utilized in

 10 previous meetings.

 11 I suspect he'll be here in time because

 12 we might get through in time, but just in case, to

 13 that end, I request unanimous consent to permit

 14 limited proxy voting for all votes subsequently

 15 taken at this meeting without objection? So

 16 ordered.

 17 The staff will now present. After each

 18 of these the floor will be open for question. And

 19 following discussion, the Commission will take the

 20 vote as we have with Dave Stawick calling the

 21 roll. To that end I ask unanimous consent that

 22 all final votes for publishing proposed rules and
 33

 1 final rules to implement Dodd-Frank conducted in

 2 this public meeting of the Commission be recorded

 3 votes and that the results of those votes be

 4 included in the relevant Federal Register releases

 5 without objection? So ordered.

 6 I now turn to Sarah Josephson, and

 7 Ananda Radhakrishnan, and John Lawton, who will be

 8 with us today, our third round of business conduct

 9 standards related to confirmations, portfolio

 10 reconciliation, and portfolio compression.

 11 Sarah, I guess, take it away.

 12 MS. JOSEPHSON: Thank you. Good morning

 13 and once again I'd like to thank my -- the

 14 incredibly talented and very dedicated team on

 15 Internal Business Conduct Standards for all of the

 16 work that they have done on this third round of

 17 rulemakings.

 18 Today staff is recommending for the

 19 Commission's consideration a notice of proposed

 20 rulemaking on swap confirmation, portfolio

 21 reconciliation, and portfolio compression. These

 22 rules would be promulgated pursuant to Section
 34

 1 4(s)(i) of the CEA, which provides for timely and

 2 accurate confirmation, processing, netting,

 3 documentation, and evaluation of all swaps.

 4 Confirmation, reconciliation, and

 5 compression have been recognized as important

 6 post-trade processing mechanisms for reducing risk

 7 and improving operational efficiency. These rules

 8 are especially important for swaps that will be

 9 executed bilaterally. Staff anticipates that swap

 10 dealers and major swap participants would be able

 11 to comply with each of the proposed rules by

 12 executing a swap on a swap execution facility or a

 13 designated contract market, or by clearing the

 14 swap through a derivatives clearing organization.

 15 The objective of proposed Confirmation

 16 Rule 23.50-1 is that parties have full written

 17 documentation of all terms of their agreement as

 18 soon as possible after execution and also upon any

 19 change of ownership during the life of the swap.

 20 Swap dealers and major swap participants entering

 21 into swap transactions with other swap dealers or

 22 major swap participants would be required to
 35

 1 obtain confirmation on the same calendar day as

 2 execution. Similarly, swap dealer and major swap

 3 participants entering into swaps with

 4 counterparties that are not swap dealers or major

 5 swap participants would be required to send an

 6 acknowledgement to their counterparties for each

 7 swap on the same calendar day as execution.

 8 For the purposes of this rule, an

 9 acknowledgement can be thought of as one side of

 10 the confirmation. Then dealers and major swap

 11 participants would have policies and procedures in

 12 place to confirm the swap with financial entities

 13 on the same calendar day as execution and with all

 14 other counterparties not later than the next

 15 business day following execution.

 16 The purpose of the Portfolio

 17 Reconciliation Rule is to identify and resolve

 18 disputes regarding the material terms and

 19 valuation between counterparties with regard to

 20 swaps that they hold in their portfolios.

 21 Accordingly, staff is recommending proposed Rule

 22 23.50-2, which would require swap dealer and major
 36

 1 swap participants to reconcile their portfolios

 2 with one another and provide counterparties who

 3 are not registered swap dealers or major swap

 4 participants with regular opportunities for

 5 portfolio reconciliation.

 6 The frequency of the reconciliation

 7 requirement depends on the number of swaps in the

 8 portfolio. Staff is recommending this approach

 9 because it is consistent with current market

 10 practice. Swap dealers and major swap

 11 participants would be required to resolve any

 12 discrepancy in valuation, identify it as part of

 13 the reconciliation process within one business day

 14 for swaps with other swap dealers or major swap

 15 participants, and have policies and procedures in

 16 place for the resolution of discrepancies in the

 17 material terms and valuation of swaps with

 18 counterparties that are not registered as swap

 19 dealers or major swap participants in a timely

 20 fashion.

 21 Portfolio Compression is a mechanism

 22 whereby substantially similar transactions among
 37

 1 two or more counterparties are terminated and

 2 replaced by a smaller number of transactions of

 3 decreased denotional value in an effort to reduce

 4 operational risk and inefficiency. Under proposed

 5 Rule 23.50-3, swap dealers and major swap

 6 participants would be required to participate in

 7 multilateral compression exercises that are

 8 offered by those DCOs or self-regulatory

 9 organizations of which the swap dealer or major

 10 swap participant is a member and as required by

 11 Commission regulation or order.

 12 A swap dealer or major swap participant

 13 would be permitted to exclude swaps from a

 14 compression exercise if including the swap would

 15 significantly increase the risk exposure to that

 16 swap dealer or major swap participant.

 17 Additionally, swap dealers and major

 18 swap participants would be required to bilaterally

 19 terminate all fully offsetting swaps between them

 20 and to engage in annual bilateral portfolio

 21 exercises with counterparties that are also swap

 22 dealers or major swap participants, to the extent
 38

 1 that they hadn't participated in multilateral

 2 compression exercises previously.

 3 Finally, swap dealers and major swap

 4 participants would be required to maintain written

 5 policies and procedures for periodically

 6 terminating all fully offsetting swaps, and

 7 periodically engaging in compression exercises

 8 with those counterparties who are not registered

 9 as swap dealers or major swap participants.

 10 Lastly, I would note that staff has

 11 endeavored to make these rules consistent with

 12 previously proposed rules on swap data reporting

 13 and for rules that the Commission may propose on

 14 SEFs and DCOs.

 15 I'll be happy to take any questions.

 16 CHAIRMAN GENSLER: Sarah, thank you so

 17 much. The chair will now entertain a motion to

 18 accept the staff recommendation to issue proposed

 19 rulemakings on confirmation, reconciliation, and

 20 compression.

 21 COMMISSIONER SOMMERS: So moved.

 22 COMMISSIONER CHILTON: Second.
 39

 1 CHAIRMAN GENSLER: I'd like to open the

 2 floor to allow to ask questions with regard to

 3 this. I want to say, I support the proposed

 4 rulemaking and I'll have a short statement that

 5 will go on the record, but I think that these are

 6 critical pieces. I know that the public may not

 7 be as aware of these things, but the back office

 8 of Wall Street, the back office of the banking

 9 system will be better that these transactions are

 10 confirmed on the same day between those financial

 11 entities. It gives an extra day for trades with

 12 the non-financial entities, am I right?

 13 But if it's between a bank and a bank or

 14 a bank and an insurance company, to confirm that

 15 trade, that people aren't disputing that they even

 16 entered into the trade. And I think it also helps

 17 that they'll need to reconcile because many of

 18 these transactions stay out for years, up to 30

 19 years. And as we know from the financial crisis

 20 in 2008, sometimes there were disputes on

 21 valuation. We don't specifically say how to

 22 resolve those valuation disputes, is that correct?
 40

 1 But we say the parties must actually have a policy

 2 and must have a way to -- between them --

 3 reconcile their differences in a timely way. So I

 4 think these are very critical.

 5 I think one of the primary goals of the

 6 Dodd- Frank Act is to establish comprehensive

 7 regulation of the swap dealers and ensure that we

 8 lower the risk, and this is a critical rule to

 9 help do that.

 10 Commissioner Dunn?

 11 COMMISSIONER DUNN: Thank you, Mr.

 12 Chairman. I support this and I'm looking forward

 13 to hearing the public comments on this, especially

 14 from the industry, on how this can be implemented.

 15 I did have one question, Sarah. We are

 16 requiring them to maintain written policies and

 17 procedures for periodically determining the fully

 18 offsetting swaps and periodically engaging in

 19 compression exercises under the portfolio

 20 compression requirements. How are we going to

 21 enforce that and do you think that there may be a

 22 safe harbor of what those written policies and
 41

 1 procedures might look like?

 2 MS. JOSEPHSON: The policies and

 3 procedures approach for swaps for entities that

 4 are not registered as swap dealers or major swap

 5 participants was specifically designed to retain a

 6 degree of flexibility in the rule, and so that was

 7 the approach we were trying to take. I imagine in

 8 an ongoing oversight of swap dealers and major

 9 swap participants, we'd review the policies and

 10 procedures. And also, we can monitor -- there's a

 11 recordkeeping requirement. No independent

 12 reporting requirement, but a recordkeeping

 13 requirement, so we can monitor the compression

 14 exercises that they enter into. Also, the

 15 portfolio reconciliation exercises, both ones that

 16 might be led by an independent vendor, third

 17 party, or conducted on a bilateral basis. So

 18 we'll be looking at that.

 19 And there are also questions in the

 20 preamble about how this would relate to, for

 21 instance, clearing. If you clear, there's

 22 actually in the portfolio reconciliation a
 42

 1 specific carve out because clearinghouses, by

 2 their nature, do -- they arrive at settlement

 3 prices every day, and so that issue about

 4 valuation is mitigated to a large extent by the

 5 clearing process.

 6 So -- and then there's specific

 7 questions about how this will relate to executions

 8 on SEFs or in DCMs as well, so.

 9 COMMISSIONER DUNN: Thank you.

 10 CHAIRMAN GENSLER: If I could, before

 11 turning to Commissioner Sommers, is it not also

 12 the case that if a swap dealer is a bank, the bank

 13 examiners could be looking for this? And so the

 14 Dodd-Frank Act gives the bank regulators the

 15 ability to look for compliance on all of these

 16 matters as well.

 17 MS. JOSEPHSON: Yes, that is absolutely

 18 correct. And, in fact, a lot of this rule, as

 19 people will note in the preamble, builds on the

 20 work that has been done by the -- what is called

 21 the OTC Derivatives Supervisors Group, an

 22 initiative led by the New York Federal Reserve
 43

 1 Bank. And they have been using their efforts in

 2 moral suasion to get the industry to comply with

 3 this type of -- these very good practices, and now

 4 they'll have rules that they'll be able to rely

 5 upon as well.

 6 CHAIRMAN GENSLER: Thank you.

 7 Commissioner Sommers?

 8 COMMISSIONER SOMMERS: Thank you, Mr.

 9 Chairman. Just to sort of build upon that

 10 particular group, you talk about it a lot in the

 11 preamble that since 2005 this group has been

 12 meeting on a voluntary sort of basis to talk about

 13 these important issues. And I was wondering if

 14 you could go over for us, in both -- I guess, in

 15 all three areas of confirmation, reconciliation,

 16 and compression, why we've decided to go further

 17 than what the OTC Derivatives Supervisory Group

 18 has gone and what the differences are?

 19 MS. JOSEPHSON: Right. So, as part of

 20 the collaboration and consultation with fellow

 21 U.S. regulators, we have been working very closely

 22 with both the Board of Governors and the Federal
 44

 1 Reserve Banks, particularly the New York Fed, to

 2 get their feedback on the proposals, the term

 3 sheets, and indeed the actual rule text.

 4 And so I think that to take each one in

 5 turn, on confirmations the way that the OTC

 6 Derivatives Supervisors Group process has worked

 7 is that the group of 14 dealers, in addition to

 8 industry groups and some buy side involvement,

 9 have made commitments -- a series of commitment

 10 letters, starting back in 2005. Initially, the

 11 focus was on credit derivatives, CDS, because of

 12 the tremendous backlogs in confirmation, as

 13 everyone knows. And then the commitments have

 14 expanded to different asset classes and also

 15 involved both portfolio reconciliation. The

 16 initiatives to begin clearing more OTC derivatives

 17 also stems from that group.

 18 So in terms of confirmations, the

 19 dealers -- and these commitment letters are, I

 20 believe, publicly available on the website from

 21 the Federal Reserve. They have committed to

 22 confirming in a very timely basis -- I think
 45

 1 sometimes it's within the same T plus zero basis

 2 that we have for credit derivatives, interest

 3 rates, and also commodities. And so I think that

 4 our commitment in that way is very close.

 5 I do note in the preamble that there are

 6 some transactions that will take longer and this

 7 is why we're soliciting public comment. And

 8 there's a series of questions in the confirmation

 9 rule that get at this issue, allowing for

 10 structured products to make sure that we're

 11 flexible enough and so that's where we look

 12 forward to industry comments on that front.

 13 With portfolio reconciliation they have

 14 -- and this is in the commitment letters --

 15 they've committed to reconcile those trades that

 16 are collateralized and, as I explained, we are

 17 expanding that to all trades. And then the same

 18 sort of frequency requirements for portfolio

 19 reconciliation, we've pushed a little bit on that,

 20 so they reconcile at a 500 swap portfolio level.

 21 We say 300 for those dealer-to-dealer trades and

 22 then it's a slightly higher threshold for trades
 46

 1 with non-registrants.

 2 And on compression, there's been a

 3 commitment to do this. The key example in the

 4 compression context is 2008, when we saw the

 5 outstanding notionals in CDS, in a series of a 

 6 number of months be reduced from, I think, $66

 7 trillion to $30 trillion. And that was just

 8 reducing economically redundant trades. So, to

 9 make this -- to tie this in to the extent that

 10 clearinghouses do this, because there are

 11 clearinghouses that will perhaps be offering

 12 compression exercises and the DCO team that will

 13 be presenting has a analogous compression rule --

 14 and we've worked together to develop those. So

 15 that, I think, a summary of how we've tried to

 16 build on that industry effort and enhance in some

 17 ways, but then ask questions to maintain a

 18 flexibility.

 19 COMMISSIONER SOMMERS: You ask the

 20 questions with regard to the appropriateness of

 21 what we have proposed here today, so in case the

 22 comments back say we would not be able to meet
 47

 1 those targets within the implementation date,

 2 would we be able to pull those back and still go

 3 final with a rule?

 4 MS. JOSEPHSON: Right. One of the

 5 things that has been in all of the rules is a

 6 staggered implementation concept. So to the

 7 extent that we would need to stagger based on

 8 asset class or particular operational issues, yes,

 9 we'd very much welcome comments on substantiating

 10 the need for that. And then we could reflect that

 11 in a final rule.

 12 COMMISSIONER SOMMERS: Great, thank you.

 13 CHAIRMAN GENSLER: Thank you,

 14 Commissioner Sommers.

 15 Commissioner Chilton?

 16 COMMISSIONER CHILTON: Thank you, Mr.

 17 Chairman. Thanks, Ms. Josephson. You and your

 18 team have done a great job on this one. I don't

 19 sense that there's anything controversial.

 20 Perhaps during the comment period we'll hear

 21 something, but I think you've done a great job and

 22 I support it. Thank you.
 48

 1 CHAIRMAN GENSLER: Thank you,

 2 Commissioner Chilton.

 3 Commissioner O'Malia?

 4 COMMISSIONER O'MALIA: I just have one

 5 question. Sarah. You've -- what are you, fourth

 6 time up here? Congratulations. Frequent flyer

 7 award.

 8 We talk a lot about how badly we need

 9 appropriations to meet all these mandates that

 10 we're sending out and requiring to comply with.

 11 What are we asking in all of your rulemakings?

 12 What are the costs that we're imposing on the

 13 industry in all these rulemakings you've put

 14 forward so far?

 15 MS. JOSEPHSON: Right. So we have tried

 16 -- and I'd like to thank Jody Partridge for doing

 17 really the hard work of the PRA and the putting

 18 together of what we think is a very accurate, or

 19 an attempt to be accurate, in a lot of these rules

 20 and how much it would cost.

 21 Now, for these particular rules, in a

 22 lot of ways the entities that are engaged in swaps
 49

 1 have to do this already, that they -- as the

 2 chairman mentioned, for their regular back office

 3 bookkeeping. It's just a matter of how quickly

 4 they need to do it. The other thing I would note

 5 is, especially on portfolio reconciliation and

 6 portfolio compression, there are a number of

 7 third-party vendors, service providers that offer

 8 these services and, as we note in the preamble,

 9 some of them charge based on results.

 10 So we've tried to reflect as best as

 11 possible the costs, but, again, we look for

 12 industry feedback if we've gotten that wrong.

 13 COMMISSIONER O'MALIA: Do you think

 14 there's a chance with a mandate the prices go up?

 15 MS. JOSEPHSON: It could be, but it

 16 could also be that with the scale, prices could

 17 come down.

 18 MR. RADHAKRISHNAN: And we're not

 19 forcing them to use third-party vendors.

 20 MS. JOSEPHSON: They can also do it

 21 bilaterally.

 22 MR. RADHAKRISHNAN: I must add, you
 50

 1 know, the idea of two supposedly sophisticated

 2 institutions not knowing what kind of deal they

 3 have is ludicrous. To me, in a way, I question --

 4 COMMISSIONER O'MALIA: The question

 5 wasn't do you have sympathy for swap dealers? I

 6 get that that probably isn't going to be the first

 7 --

 8 MR. RADHAKRISHNAN: Because I --

 9 COMMISSIONER O'MALIA: Don't break out

 10 the tissues. (Laughter) I get that, but I was

 11 just asking how much this is going to cost --

 12 MR. RADHAKRISHNAN: Oh, no, no, no.

 13 COMMISSIONER O'MALIA: -- cumulative?

 14 MR. RADHAKRISHNAN: It will cost

 15 something. I think, you know, we have done the

 16 cost-benefit analysis, but this is something

 17 they've got to do. You know, if an exchange or a

 18 DCO did not do this, we'd kick them out of

 19 business. So, to me, you know, it's -- and the

 20 other point is -- and I'm not on a soapbox, but

 21 commitments are one thing, but commitments without

 22 the force of law, in my humble opinion -- and
 51

 1 maybe it's the policeman in me -- I'm meaning

 2 this, again. So, you know, I think it's essential

 3 that there be a regulation that we can tell

 4 somebody you got to do this.

 5 So this shouldn't be a surprise to

 6 people. You know, the New York Fed has been, you

 7 know, on them since 2005, except that that doesn't

 8 mean that, you know, that the caning element of it

 9 (inaudible).

 10 (Laughter)

 11 COMMISSIONER O'MALIA: It's the

 12 holidays. How about some sympathy?

 13 CHAIRMAN GENSLER: You know, the public

 14 has gotten to know many of our staff and I imagine

 15 that they're getting the same affection that we

 16 have for Ananda and his passion. (Laughter)

 17 Before calling the vote, I do think that

 18 each of these three pieces, in and of itself, is

 19 very significant to lower risk, that dealers

 20 confirm their trades with financial institutions

 21 on the same day. Big. They're doing it mostly

 22 now, but, as Ananda points out, it's just a
 52

 1 commitment and now it will be a rule.

 2 Even as you said to Commissioner Sommers

 3 -- excellent question -- about portfolio

 4 compression, not something a lot of people know

 5 about. But after 2008, the credit default swap

 6 marketplace went from $60-some trillion to $28

 7 trillion. And you might say, well, that was just

 8 bookkeeping, but that lowers risk because it's a

 9 lot fewer disputes, paperwork, uncertainty, if one

 10 of the parties fails. So each of these are very

 11 big.

 12 And I thank you for working so closely,

 13 by the way, with the New York Federal Reserve and

 14 the Federal Reserve and the FDIC and the OCC,

 15 because I know you've done that and shared all

 16 this with them.

 17 So, with that, Mr. Stawick, do you want

 18 to call the roll?

 19 MR. STAWICK: Commissioner O'Malia?

 20 COMMISSIONER O'MALIA: Aye.

 21 MR. STAWICK: Commissioner O'Malia, aye.

 22 Commissioner Chilton?
 53

 1 COMMISSIONER CHILTON: Aye.

 2 MR. STAWICK: Commissioner Chilton, aye.

 3 Commissioner Sommers?

 4 COMMISSIONER SOMMERS: Aye.

 5 MR. STAWICK: Commissioner Sommers, aye.

 6 Commissioner Dunn?

 7 COMMISSIONER DUNN: Aye.

 8 MR. STAWICK: Commissioner Dunn, aye.

 9 Mr. Chairman?

 10 CHAIRMAN GENSLER: Aye.

 11 MR. STAWICK: Mr. Chairman, aye. Mr.

 12 Chairman, on this question, the yeas are five, the

 13 nays are zero.

 14 CHAIRMAN GENSLER: Thank you, Mr.

 15 Stawick. The staff recommendation has been

 16 accepted by the 5-0 vote you announced, and we

 17 will send it to the Federal Register. Thank you

 18 very much.

 19 CHAIRMAN GENSLER: Bob Wasserman from

 20 the Division of Clearing and Intermediate

 21 Oversight, and the public might also know has also

 22 been our team lead on bankruptcy and segregation
 54

 1 issues. Ann, it's good to see you in. Anne

 2 Polaski, also from the Division who's been working

 3 on key parts of this role. And Phyllis, the team

 4 lead and John Lawton and Ananda. Why don't you

 5 take it away. But I think we'll have much to hear

 6 from. Thank you.

 7 MS. DEITZ: Thank you. Good morning,

 8 Mr. Chairman and commissioners.

 9 I am pleased to recommend that the

 10 commission approve for publication in the federal

 11 register proposed regulations that would revise

 12 procedures for Derivatives Clearing Organization

 13 registration, and implement six core principals

 14 for DCOs, including systemically important DCOs.

 15 I would like to take this opportunity,

 16 as others have, to thank the members of the DCO

 17 SDCO rulemaking teams for their many

 18 contributions. And I would particularly like to

 19 thank the Clearing Policy DCO Review, and Risk

 20 Surveillance staff in Chicago for their enormous

 21 contributions to this particular rulemaking.

 22 Following a brief overview of our
 55

 1 proposal for DCO registration applications, my

 2 colleagues will present proposed rules

 3 implementing the following core principals.

 4 Participant and product eligibility, which John

 5 Lawton will discuss. Risk management, settlement

 6 procedures, treatment of funds, and default rules

 7 and procedures, which Anne Polaski, who is our

 8 lead attorney on this matter, will discuss. And

 9 then Bob Wasserman will close with system

 10 safeguards.

 11 Turning to application procedures. In

 12 reviewing an application for DCO registration, the

 13 staff and, in turn, the commission, has to

 14 evaluate the applicant's ability to comply with

 15 the DCO core principles. The commission has

 16 issued general guidance regarding compliance, but

 17 staff -- and, no doubt, many applicants as well --

 18 have found the guidance to be too general to be

 19 very helpful.

 20 We are, therefore, recommending that the

 21 commission propose a mandatory use of an

 22 application form that would be comprised of a
 56

 1 cover sheet and a series of detailed exhibits that

 2 would provide a comprehensive record upon which

 3 the commission could base its decision.

 4 The staff believes that use of the new

 5 form DCO will make the registration process more

 6 transparent, will clarify for prospective

 7 applicants the registration standards, and will

 8 allow us to process applications in a consistent

 9 manner.

 10 Thank you.

 11 MR. LAWTON: Okay, good morning. I will

 12 proceed with the proposals with regard to

 13 participant and product eligibility.

 14 Core Principle C, as amended by

 15 Dodd-Frank, requires each DCO to establish

 16 appropriate participant and product eligibility

 17 standards. With regard to membership, DCOs must

 18 require sufficient financial resources and

 19 operational capacity to meet the obligations

 20 arising from participation. Core Principle C

 21 further requires as such participation and

 22 membership requirements be objective, be publicly
 57

 1 disclosed, and permit fair and open access.

 2 With respect to product eligibility,

 3 Core Principle C requires that each DCO establish

 4 appropriate standards for determining the

 5 eligibility of contracts submitted for clearing.

 6 The staff is proposing regulation 39.12 pursuant

 7 to Core Principle C.

 8 I'll turn first to participant

 9 eligibility. Proposed 39.12 is designed to ensure

 10 that participation requirements do not

 11 unreasonably restrict any entity from becoming a

 12 clearing member, while at the same time

 13 eliminating risk to the DCO and its other clearing

 14 members.

 15 Proposed 39.12(a) would require a DCO to

 16 establish participation requirements that permit

 17 fair and open access. To achieve fair and open

 18 access the proposal would prohibit a DCO from

 19 adopting a particular restrictive participation

 20 requirement if it could adopt a less- restrictive

 21 requirement that would not materially increase

 22 risk to the DCO or to its clearing members.
 58

 1 The proposal would prohibit

 2 participation requirements that have the effect of

 3 excluding or eliminating clearing membership of

 4 certain types of market participants, unless the

 5 DCO can demonstrate that the restriction is

 6 necessary to address financial risk or

 7 deficiencies in a participant's operational

 8 capabilities that might prevent them from

 9 fulfilling their obligations as clearing members.

 10 It would prohibit a DCO from requiring clearing

 11 members maintain a swap portfolio of a particular

 12 size or that they meet any transaction volume

 13 threshold.

 14 The proposal would further require that

 15 clearing members have access to sufficient

 16 financial resources to meet obligations arising

 17 from participation in the DCO. It would require

 18 DCOs to establish capital requirements that are

 19 based on objective, transparent, and

 20 commonly-accepted standards that appropriately

 21 match capital to risk. It would require capital

 22 requirements to be scaleable so that they would be
 59

 1 proportional to the risk posed by individual

 2 clearing members. Thus, for clearing members risk

 3 exposure were to increase the DCO could increase

 4 the clearing members' corresponding capital

 5 requirement.

 6 The proposal would specify that a DCO is

 7 not permitted to set a minimum capital requirement

 8 of more than $50 million.

 9 With regard to operational requirements,

 10 the proposal would require a DCO to establish

 11 participation requirements that ensure that

 12 clearing members have adequate operational

 13 capacity to meet obligations arising from

 14 participation. This would include, at a minimum,

 15 the ability to process expected volumes and values

 16 of transactions within required timeframes,

 17 including at peak times, and on peak days. The

 18 ability to fulfill collateral payment and delivery

 19 obligations, and the ability to participate in

 20 default management activities as required by the

 21 rules of the DCO.

 22 Strong participation requirements will
 60

 1 not limit risk if they're not satisfied on an

 2 ongoing basis. Core Principle C requires that

 3 each DCO establish and implement procedures to

 4 verify on an ongoing basis the compliance of each

 5 participation and membership requirement of the

 6 DCO. The proposal would codify this requirement.

 7 A DCO cannot effectively monitor

 8 clearing members if it's not adequately informed

 9 about their financial status. The proposal would

 10 address this point. Specifically, it would

 11 require DCOs to in turn to require their clearing

 12 members to file periodic financial reports with

 13 the DCO that contain any financial information

 14 that the DCO determines is necessary to asses

 15 whether the requirements are being met.

 16 Turning now to product eligibility.

 17 Proposed 39.12(b) would require a DCO to establish

 18 appropriate requirements for determining the

 19 eligibility of contracts submitted for clearing,

 20 taking into account its ability to manage the

 21 risks associated with such contracts. The factors

 22 to be considered in determining product
 61

 1 eligibility would include but not be limited to

 2 trading volume, liquidity, availability of

 3 reliable prices, the ability of the DCO to measure

 4 risk for purposes of setting margin requirements,

 5 and the operational capacity of the DCO and its

 6 clearing members to address any unique risk

 7 characteristics of a product.

 8 Section 2(h)(1)(B) of the act requires a

 9 DCO to adopt rules providing that all swaps with

 10 the same terms and conditions submitted to the DCO

 11 for clearing are economically equivalent within

 12 the DCO and may be offset with each other within

 13 the DCO. It further provides for

 14 non-discriminatory clearing of all swaps executed

 15 bilaterally or on our subject to the rules of an

 16 unaffiliated trading facility. Proposed rule

 17 39.12(b) would codify these requirement's in the

 18 commission's regulations.

 19 Proposed 39.12(b)3 would also require a

 20 DCO to select contract unit sizes that maximize

 21 liquidity, open access, and risk management.

 22 Appropriate contract unit size can promote
 62

 1 liquidity, it can facilitate open access, and it

 2 can aid risk management in the event of a default,

 3 by permitting a DCO to have more potential

 4 counterparties for liquidation purposes.

 5 Finally, the proposal would require each

 6 DCO that clears swaps to have rules stating that

 7 upon acceptance of a swap by the DCO for clearing

 8 by a clearing member on behalf of a customer, all

 9 the terms of the swap as carried in the customer

 10 account on the books of the clearing member must

 11 conform to the terms of the cleared swap

 12 established under the DCO's rule. The purpose of

 13 this provision is to encourage standardization of

 14 swaps and to avoid any problems that might arise

 15 based on a difference between the terms of the

 16 swap as carried at the DCO level and as carried at

 17 the clearing member level.

 18 Thank you.

 19 MS. POLASKI: Good morning, Mr. Chairman

 20 and commissioners.

 21 The proposed regulation implementing

 22 Core Principle D, risk management, would address
 63

 1 three general categories of risk management

 2 requirements. General requirements, requirements

 3 addressing measurement of credit exposure and

 4 margin, and requirements relating to other risk

 5 control mechanisms.

 6 The general requirements would require a

 7 DCO to have a comprehensive written risk

 8 management framework subject to internal audit and

 9 a chief risk officer. The proposed regulation

 10 contains a number of specific requirements with

 11 respect to the measurement of credit exposure and

 12 margin. For example, a DCO typically includes in

 13 its margin calculations an estimate of the time

 14 within which it would be able to liquidate a

 15 defaulting clearing member's positions. The

 16 proposal would require a DCO to use an estimated

 17 liquidation time that is a minimum of five

 18 business days for cleared swaps that are not

 19 executed on a designated contract market, and a

 20 minimum of one business day for all other products

 21 that it clears.

 22 Margin coverage would have to meet a
 64

 1 confidence level of at least 99 percent based on

 2 data from an appropriate historic time period with

 3 respect to the following: Each product that is

 4 margined on a product basis, each spread within or

 5 between products for which there is a defined

 6 spread margin rate, each account held by a

 7 clearing member at the DCO by house origin and

 8 customer origin, and each swap portfolio by

 9 beneficial owner.

 10 A DCO would be required to determine

 11 whether its margin coverage was adequate for each

 12 product on a daily basis. In addition, a DCO

 13 would be required to conduct periodic back tests

 14 to determine the extent of actual margin coverage

 15 over a period of time. The proposal would require

 16 daily back tests for products that are

 17 experiencing significant market volatility.

 18 Monthly back tests would be required for all

 19 products, for each clearing member's house and

 20 customer account, and for each swap portfolio by

 21 beneficial owner.

 22 With respect to customer accounts only,
 65

 1 DCOs would be required to collect margin on a

 2 gross basis. Thus, a DCO would not be permitted

 3 to net positions of different customers against

 4 one another when collecting margin for a clearing

 5 member's customer account.

 6 With respect to other risk control

 7 mechanisms, the proposal would require a DCO to

 8 impose risk limits on each clearing member's house

 9 and customer account to limit its risk exposure

 10 relative to the clearing member's financial

 11 resources, the DCO's financial resources, or both.

 12 A DCO could only permit a clearing

 13 member to exceed such a risk limit if it posted

 14 additional margin. A DCO would be required to

 15 obtain from its clearing members copies of all

 16 large trader reports that clearing members filed

 17 with the commission, and review those reports on a

 18 daily basis, including reviewing each large

 19 trader's positions reported by any of the DCO's

 20 clearing members.

 21 The proposal would require a DCO to

 22 conduct daily stress tests with respect to certain
 66

 1 large traders, and weekly stress tests with

 2 respect to all clearing member accounts by house

 3 and customer origins, and all swap portfolios by

 4 beneficial owner to compare the impact of

 5 potential price moves to the financial resources

 6 of the large traders and clearing members.

 7 A DCO would also be required to offer

 8 multilateral portfolio compression exercises on a

 9 regular basis for its clearing members that clear

 10 swaps to the extent that such exercises are

 11 appropriate for those swaps that it clears.

 12 The proposed regulation implement in

 13 Core Principle E, settlement procedures, would

 14 require a DCO to affect a settlement with each

 15 clearing member at least once each business day.

 16 And, to have the authority and operational

 17 capacity to affect a settlement with each clearing

 18 member on an intraday basis, either routinely when

 19 thresholds specified by the DCO were breached, or

 20 in times of extreme market volatility.

 21 DCOs would be subject to three

 22 requirements in order to limit their exposure to
 67

 1 settlement bank risks. First, a DCO would be

 2 required to have documented criteria for

 3 acceptable settlement banks for the DCO and its

 4 clearing members addressing capitalization, credit

 5 worthiness, access to liquidity, operational

 6 reliability, and regulation or supervision of such

 7 banks. Second, a DCO would be required to monitor

 8 the approved settlement banks on an ongoing basis

 9 to ensure that they continue to meet the

 10 documented criteria. Finally, a DCO would be

 11 required to monitor the range and concentration of

 12 its exposures to the settlement banks in the event

 13 that the settlement bank with the largest share of

 14 settlement activity were to fail.

 15 The proposed regulation implementing

 16 Core Principle F, treatment of funds, would

 17 require a DCO to comply with any applicable

 18 customer segregation requirements. The proposed

 19 regulation would also establish the procedures

 20 that must be followed and the information that

 21 must be submitted to the commission by a DCO

 22 seeking approval to either commingle futures
 68

 1 possessions in a swaps account governed by section

 2 4d(f) of the CEA, or to commingle swaps in a

 3 futures account governed by section 4d(a) of the

 4 CEA.

 5 The proposed regulation would require a

 6 DCO to limit the assets it accepts as initial

 7 margin to those that have minimal credit market

 8 and liquidity risks without specifying which

 9 particular assets are acceptable. However, it

 10 would specifically prohibit a DCO from accepting

 11 letters of credit as margin.

 12 The proposed regulation would require

 13 the valuation of assets posted as margin on a

 14 daily basis, the application of appropriate

 15 haircuts, and appropriate concentration limits as

 16 necessary to ensure liquidity.

 17 Any investment of customer margin funds

 18 would have to comply with the regulation 1.25

 19 requirements, whether the customers are futures

 20 customers or swaps customers.

 21 The proposed regulation implementing

 22 Core Principle G, default rules and procedures,
 69

 1 would require a DCO to maintain a current written

 2 default management plan and to conduct and

 3 document a test of the plan at least once a year.

 4 The proposal would require that in the event of a

 5 clearing member default, a DCO must have the

 6 authority to promptly transfer, liquidate, or

 7 hedge the customer or proprietary positions of the

 8 defaulting clearing member. In addition, a DCO

 9 would be permitted to auction or allocate those

 10 positions to other clearing members.

 11 However, if a DCO's rules permit it to

 12 require other clearing members to accept an

 13 allocation of a defaulting clearing member's

 14 positions, the allocation would have to be

 15 proportional to the size of the accepting clearing

 16 member's positions at the DCO. The proposed

 17 regulation would also require a DCO to review a

 18 clearing member's continuing eligibility for

 19 membership if it filed a bankruptcy petition and

 20 to take appropriate action with respect to its

 21 positions.

 22 Thank you.
 70

 1 MR. WASSERMAN: Thank you. I'm going to

 2 deal with Core Principle I and I am going to

 3 briefly discuss three issues. System safeguards,

 4 business continuity standards for all DCOs, and

 5 business continuity standards for systemically

 6 important DCOs.

 7 In terms of system safeguards,

 8 regulation 39.1(a) implements Core Principle I's

 9 requirement that each DCO have a program of risk

 10 analysis and oversight with respect to operations

 11 and automated systems. Specifically, these

 12 systems must have adequate scaleable capacity and

 13 the program needs to address issues such as

 14 information security, business continuity and

 15 disaster recovery -- which I'm going to talk a

 16 little bit more about later -- capacity and

 17 performance planning, systems operations, systems

 18 development and quality assurance, and physical

 19 security and environmental controls.

 20 Key issue is that the DCO is required to

 21 follow generally accepted standards and industry

 22 best practices. So in other words, we're not
 71

 1 being prescriptive in terms of the exact

 2 standards. Rather, they need to follow what is

 3 essentially industry best practice.

 4 In terms of business continuity and

 5 disaster recovery for all DCOs. The business

 6 continuity and disaster recovery plan needs to

 7 address physical, technological, and personnel

 8 resources. In other words, you can't just simply

 9 have wonderful physical and resources in computers

 10 and not address your people. The recovery time

 11 objective for all DCOs would be not later than the

 12 next business day. In addressing the resources

 13 for this, you may meet this through your own

 14 resources, including, for instance, cross-training

 15 of people. Or, the regulation explicitly notes

 16 that you may meet these requirements through

 17 written outsourcing arrangements.

 18 The regulation requires periodic

 19 objective testing and review of the automated

 20 systems, and of the business continuity and

 21 disaster recovery plan. And you have to use

 22 testing protocols that ensure that the DCO's
 72

 1 business continuity resources are sufficient to

 2 meet the recovery time objective.

 3 Testing must be conducted by qualified,

 4 independent professionals, and reports setting

 5 forth the protocols for these tests need to be

 6 communicated to and reviewed by senior management,

 7 as well as, of course, the results of the tests.

 8 The regulation calls for a more

 9 searching review of tests with fewer no

 10 exceptions, on the theory that if you have a test

 11 that you do too well on, perhaps it wasn't a

 12 searching enough test. And the tests also must

 13 show that you work with your members and your

 14 service providers. Tests must also be coordinated

 15 with clearing members, and providers of essential

 16 services, such as telecom, water, power, and the

 17 like.

 18 Specifically with respect to

 19 systemically important DCOs. The commission had

 20 proposed some rules back in May under which we

 21 were going to designate which of the DCOs, among

 22 other things, were critical. With respect
 73

 1 specifically to DCOs, since Dodd-Frank has

 2 essentially established through the FSOC

 3 designation criteria and a designation process for

 4 which DCOs are systemically important, rather than

 5 duplicate that process we will follow those

 6 designations. And so those are the DCOs who are

 7 subject to these higher standards.

 8 The higher standards come in two areas.

 9 First off, what is required is a recovery time

 10 objective of two hours following a disruption,

 11 including a wide-scale disruption. In order to

 12 meet that there is a requirement of geographic

 13 dispersal of resources. In other words, you need

 14 to have among your backup resources

 15 infrastructure, physical, and technological

 16 resources that are geographically diverse from the

 17 resources that you might rely on to meet your

 18 normal needs. And with respect to personnel, you

 19 need to be having separate personnel -- that is,

 20 personnel outside of the normal commuting area of

 21 a primary location so that in the event that such

 22 personnel are temporarily or permanently
 74

 1 unavailable, essentially you have your backup

 2 resources.

 3 The implementation date for this, since

 4 this is a higher standard, would give a minimum of

 5 a year. Or, July 30, 2012.

 6 Thank you.

 7 CHAIRMAN GENSLER: That it?

 8 MS. DEITZ: That concludes our

 9 presentation.

 10 CHAIRMAN GENSLER: No more.

 11 MS. DEITZ: I think -- anyone else here?

 12 (Laughter) We have a cast of thousands today.

 13 CHAIRMAN GENSLER: No, no. I'm kidding

 14 around a little bit.

 15 Let me entertain a motion with regard to

 16 the Risk Management Requirements for Derivatives

 17 Clearing Organizations.

 18 COMMISSIONER SOMMERS: So moved.

 19 COMMISSIONER CHILTON: Second.

 20 CHAIRMAN GENSLER: I'd like to open the

 21 floor now to allow commissioners to ask questions.

 22 Let me say, I was kidding around a little bit.
 75

 1 But this is a really critical set of roles. I

 2 support the proposed rulemaking and I'll have a

 3 further statement. But the proposal establishes

 4 robust risk management standards. And I think

 5 it's particularly important as more swaps are

 6 moved into central clearing, and as Congress

 7 mandated that swaps be there.

 8 We've had clearinghouses since the

 9 1890s. They've really worked well in the futures

 10 markets, through two world wards, the Great

 11 Depression, and, yes, the crisis in 2008. But

 12 Congress has now mandated that swaps also be

 13 there.

 14 Voluntarily, there have been in a lot of

 15 markets. But this is now going to be a mandate.

 16 So, these proposed rules are very important.

 17 As I understand it, it's a question that

 18 these meet or at least are consistent with

 19 international standards as we know it. I know

 20 that's a moving target, but is that a yes?

 21 MR. RADHAKRISHNAN: Yes.

 22 CHAIRMAN GENSLER: Yeah, all right. I
 76

 1 think that's very important that they meet, or at

 2 least are consistent with international standards.

 3 That risk and derivatives know no geographic

 4 boundary. There are going to be swaps that are

 5 booked into clearinghouses we regulate, that might

 6 emanate out of Europe or Asia, and vice versa.

 7 And it's very important that the clearinghouses we

 8 regulate are accepted in Europe and Asia. And is

 9 it your thought, Ananda and Phyllis, that they

 10 would be, as you know it, what Europe and Asia is

 11 doing?

 12 MR. RADHAKRISHNAN: Yes.

 13 CHAIRMAN GENSLER: I think that also

 14 this rule, importantly, establishes some margin

 15 methodologies. But as I understand, it still

 16 leaves the setting of margin to the

 17 clearinghouses. I just want to confirm that.

 18 MR. RADHAKRISHNAN: That's right.

 19 CHAIRMAN GENSLER: And so the margining

 20 methodologies, critically, one is gross margining?

 21 Is that -- remember --

 22 MR. RADHAKRISHNAN: That's the
 77

 1 collection of margin. It has to be on a gross

 2 basis.

 3 CHAIRMAN GENSLER: So it has to be on a

 4 gross basis. And then also this methodology that

 5 if it's something not traded on a designated

 6 contract market, there's more days to liquidate

 7 the position.

 8 MR. RADHAKRISHNAN: Five business day

 9 holding period.

 10 And so, the gross margining -- just to

 11 clarify it. It's with respect to customer 

 12 accounts.

 13 CHAIRMAN GENSLER: Which gives greater

 14 risk protection at the clearinghouse, but also

 15 gives greater protection to the customer money,

 16 does it not?

 17 MR. RADHAKRISHNAN: That's what we

 18 believe, yes.

 19 CHAIRMAN GENSLER: And then it has, of

 20 course, what John Lawton talked about and I just

 21 want to ask quickly about is, participant

 22 eligibility. And I don't know, John, if you read
 78

 1 the New York Times story this past Sunday?

 2 MR. LAWTON: I did see that, yes.

 3 CHAIRMAN GENSLER: You did? All right.

 4 Other people saw it, too, I gather.

 5 My sense -- what you described is far --

 6 sort of, in many ways consistent with the futures

 7 model. But, do you have an estimate of the 125 or

 8 so futures commission merchants, how many might be

 9 able to meet the standards you talked about?

 10 MR. LAWTON: Yeah, we looked at the

 11 list. There's 126 FCMs, 63 of them have capital,

 12 currently, of above the $50 million number that we

 13 set. There's -- most of the ones that are below

 14 are not currently clearing members anyway. There

 15 are a few clearing members that are below the --

 16 current clearing members that are existing DCOs

 17 that are below that $50 million number. They tend

 18 to be more specialized in some of the agricultural

 19 products.

 20 CHAIRMAN GENSLER: And my sense is, this

 21 goes to the heart -- I mean, we were working on

 22 this rule for months now. But this goes to the
 79

 1 heart of the issues that the New York Times raised

 2 about that in swaps clearing today, they're rather

 3 inclusive. They have -- I'll call it an exclusive

 4 group of members which is far more exclusive than

 5 in the futures clearing model. Is that correct?

 6 MR. LAWTON: Right. I mean, some of the

 7 clearing organizations have -- for example, a

 8 billion dollar capital requirement, which would

 9 exclude most FCMs.

 10 CHAIRMAN GENSLER: And as I understand

 11 it, they also exclude people that aren't currently

 12 swap dealers, even if they are a futures

 13 commission merchant?

 14 MR. LAWTON: That's correct.

 15 CHAIRMAN GENSLER: And yet Congress said

 16 that they have to have a core principle for fair

 17 and open access. Is that -- I understand?

 18 MR. LAWTON: Right.

 19 CHAIRMAN GENSLER: Yeah. So here we

 20 have a rule and it's, I think, is a very important

 21 feature of this rule. Is that we're saying that

 22 the clearinghouses, to protect themselves in risk,
 80

 1 can scale somebody's participation with the amount

 2 of resources that member has but can't exclude

 3 them. But, can scale them. Is that right?

 4 MR. LAWTON: Right. So we've seen in

 5 the past there have been clearinghouses that had

 6 capital-based position limits. So that if your

 7 capital is $50 million you can only take on a

 8 certain amount of risk. If your capital is $100

 9 million you can take on twice that amount of risk,

 10 and so forth. And it would generally be tied to

 11 the margin requirements, and they would also

 12 typically have some sort of provision for

 13 flexibility. If someone bumped up against their

 14 limit, they could potentially either get a capital

 15 infusion or pay an additional margin charge for

 16 the increment of position above their limit.

 17 CHAIRMAN GENSLER: But we still allow

 18 the clearinghouse discretion to sort of set that

 19 scalability in how they look at it.

 20 MR. LAWTON: That's right.

 21 CHAIRMAN GENSLER: So, I think it's very

 22 important -- I think this will lower risk to the
 81

 1 American public. I think it will allow, as

 2 Congress said, fair and open access to these

 3 clearinghouses, as we really have in the futures

 4 world right now. We just don't yet have it in the

 5 swaps world, in my opinion. And some of the swaps

 6 clearinghouses do better than others. But, I

 7 won't get into naming names.

 8 And then Bob Wasserman, I just have a

 9 question over on the recovery time. Did you say

 10 that the two hour recovery time is just for

 11 systemically important clearinghouses or for all

 12 clearinghouses?

 13 MR. WASSERMAN: No, that would be just

 14 fro SDCOs. The systemically important ones.

 15 CHAIRMAN GENSLER: I see. So of course

 16 it would wait until the financial stability

 17 oversight council moves through their process and

 18 designates, you know, some number of systemically

 19 important clearinghouses.

 20 MR. WASSERMAN: Yes. And then through

 21 implementation there would be a minimum of one

 22 year and in any event, not before July 30, 2012
 82

 1 that the systemically important DCOs would be

 2 subject to those standards.

 3 CHAIRMAN GENSLER: And how does that

 4 compare this two hours to international standards?

 5 Or if there is such a thing. I see Jackie Mesa

 6 here, (inaudible) international --

 7 MR. WASSERMAN: Two hours is the --

 8 seems to be the evolving international standard.

 9 CHAIRMAN GENSLER: All right. Jackie,

 10 do you -- is that?

 11 MS. MESA: That's right. Two hours is

 12 the --

 13 CHAIRMAN GENSLER: All right. So, thank

 14 you. Commissioner Dunn? If you -- from Chicago?

 15 COMMISSIONER DUNN: Thank you, Mr.

 16 Chairman. And I think this is one of the more

 17 important rules that we are going to be taking up

 18 during this period.

 19 When I was -- during my tenure as acting

 20 chairman I laid out that risk management was one

 21 of the tenants that I thought we had to address.

 22 And this rule goes along way to do that, and I
 83

 1 appreciate the work of the staff in putting this

 2 proposed rule together.

 3 I have to ask the question that I

 4 usually ask Ananda, and that is, do we have the

 5 resources to implement this?

 6 MR. RADHAKRISHNAN: Today, no. I hope

 7 we get the money, but if you ask me if I can, you

 8 know -- if DCIO can effectively oversee all of the

 9 DCOs we have right now and the activity that we

 10 anticipate -- well, let me say it this way. If I

 11 took people away from other things and

 12 concentrated on DCOs, then perhaps I could do it.

 13 But then something has got to give. So, I guess

 14 the answer is, not necessarily.

 15 It's all a matter of priority. So, I

 16 hope Congress does the right thing.

 17 COMMISSIONER DUNN: I'm sure we're going

 18 to get a lot of comments about added cost of this

 19 particular regulation. And has the staff given

 20 any thought to what added cost might be and

 21 whether it's reasonable?

 22 MR. RADHAKRISHNAN: A lot of it is, you 
 84

 1 know, codification of current industry practices,

 2 which we have been -- the division has been trying

 3 to get people to do through our DCO reviews. So,

 4 I mean, there might be some added costs. But we

 5 think the benefits in terms of safety and

 6 soundness outweighs the costs. And, you know,

 7 this commission is aware. All it takes is a lack

 8 of confidence in one DCO, and there's going to be

 9 a spillover effect because people will stop

 10 trading on that market if there's no confidence in

 11 the DCO. So, you know, we think it essential that

 12 the safety and soundness of DCOs, you know, remain

 13 at a high level at all times.

 14 And we believe the -- if the commission

 15 votes on, you know, this proposal and makes it

 16 final, we believe that this will go a long way

 17 towards achieving that goal.

 18 COMMISSIONER DUNN: I noted that

 19 Commissioner O'Malia brought up the cost of

 20 implementation in the previous regulation that we

 21 were contemplating. When we write a regulation,

 22 there are always some boilerplate things that we
 85

 1 have to put in there saying if we meet the

 2 Regulatory Flexibility Act, to see if we meet the

 3 Paperwork Reduction Act. But, we are also

 4 required to do a cost-benefit analysis. And for

 5 folks that are looking at commenting on these

 6 regulations, please keep that in mind that those

 7 are in there, although they're boilerplate as

 8 required by law. It is something that we have to

 9 take into consideration as we implement these

 10 regulations.

 11 Ms. Chairman, I am going to ask a

 12 question of you rather than the staff. And, that

 13 is on the SDCO. There are additional requirements

 14 for SDCO, but at this time there are no SDCOs and

 15 there won't be until the FSOC actually designates

 16 some. Do we have an idea of when we might get

 17 designation of SDCOs?

 18 CHAIRMAN GENSLER: There is -- it's a

 19 very good question, Commissioner Dunn. The

 20 financial stability the oversight council put out

 21 an advance notice of proposed rulemaking so that

 22 they could move forward on an actual rule on the
 86

 1 designation criteria. I believe that that process

 2 is moving expeditiously, but it's most likely to

 3 try to complete a rule sometime in the spring to

 4 early summer of 2011.

 5 I can't speak for the whole council, I

 6 am just one member. But, I've recommended to

 7 Secretary Geithner and the whole council in public

 8 and in private meetings that we'd like to have

 9 that designation process completed so that next

 10 summer that whichever financial market utilities

 11 in our jurisdiction would be designated the

 12 Securities and Exchange Commission has a similar

 13 interest. There are, you know, a number that they

 14 regulate. There are a number that we -- we have

 15 14 clearinghouses that we regulate. We are aware

 16 -- Ananda, I think we are aware of six more that

 17 might be seeking application?

 18 MR. RADHAKRISHNAN: Right now we have

 19 three applications which are all on the commission

 20 website for comment. We might get 2 more -- 19,

 21 20.

 22 CHAIRMAN GENSLER: So, we'll have 19 or
 87

 1 20. Again, others -- everybody is free to apply.

 2 But in terms of which of those 19 or 20 -- and

 3 they have to really, truly be systemic and so

 4 forth -- it's our hope that the Financial

 5 Stability Oversight Council could do that and do

 6 the designations so that by next summer those

 7 institutions that are designated by that council

 8 know it.

 9 COMMISSIONER DUNN: Thank you, Mr.

 10 Chairman. I appreciate your taking the time to

 11 answer that concern.

 12 I applaud you for -- the staff for

 13 having the mandatory application form. I think

 14 that goes a long way in telling folks where --

 15 what we expect. And, it -- I'm sure we're going

 16 to see applications covering the whole spectrum.

 17 And again, it brings me back to our ability to

 18 implement this without additional staff.

 19 Once again, I think this is one of the

 20 most important things that we're going to be 

 21 taking up in this whole series of rulemaking. And

 22 I look forward to hearing from the public on this
 88

 1 as to whether we've -- we're getting it right or

 2 we're not getting it right. Whether it's going to

 3 be an excessive cost, whether people will still

 4 use the market.

 5 But, again, this is one of the more

 6 important regulations, in my opinion.

 7 CHAIRMAN GENSLER: Thank you,

 8 Commissioner Dunn. Commissioner Sommers?

 9 COMMISSIONER SOMMERS: Thank you, Mr.

 10 Chairman. I'm going to start just with a comment

 11 with regard to some of the provisions in this

 12 proposal to say that I support many of the

 13 provisions that are in this proposal with regard

 14 to open access. Because I think they're very

 15 reasonable. And just to go through a couple of

 16 them.

 17 The prohibitions for DCOs prohibit DCOs

 18 from requiring clearing members to be swap

 19 dealers, from requiring them from having a swap

 20 portfolio of any size. Prohibit them from

 21 requiring that they meet any sort of transaction

 22 volume threshold. I think that's all very
 89

 1 reasonable. You know, sufficient financial

 2 resources and operational capacity.

 3 But then we get down to setting a

 4 minimum capital requirement, which is just not the

 5 way we usually do business here at the CFTC. So

 6 we picked a number of $50 million, and I guess I

 7 look forward to comment from industry

 8 participants, and especially DCOs or those who may

 9 know that they're going to be SDCOs on the

 10 appropriateness of that number and whether we got

 11 that right.

 12 My questions, with regard to this

 13 proposal, are on the business continuity and

 14 disaster recovery. I do have some concerns about

 15 the recovery objective -- recovery time objective.

 16 And, one of the footnotes that's in the proposal

 17 talks about the white paper that other financial

 18 regulators put out -- I think it was in 2003. So

 19 it perhaps is a little stale at this point. But,

 20 the language in the white paper says that the

 21 clearing organization should develop the capacity

 22 to recover and resume clearing and settlement
 90

 1 activities within the business day on which the

 2 disruption occurs with the overall goal of

 3 achieving recovery and resumption within two

 4 hours.

 5 Do we know if other financial regulators 

 6 in the U.S. are going to change their view on this

 7 with the language saying it's -- that the

 8 objective is two hours, but it could be within the

 9 same business day. Because our rule says it has

 10 to be within two hours. So, we've gone a little

 11 bit further.

 12 MR. WASSERMAN: I think we've gone a

 13 little bit further than the white paper. I think

 14 it's fair to say that a number of the other

 15 financial regulators have, indeed, been working

 16 perhaps in less formal means. But, perhaps no

 17 less effective to get folks towards that two hour

 18 recovery time objective.

 19 COMMISSIONER SOMMERS: Okay. And, my

 20 other question is real specific. But if you could

 21 explain the difference when we work on these

 22 issues -- the difference between hot and warm
 91

 1 backups, and whether or not you are required to

 2 have a hot backup in order to meet a two hour

 3 recovery time? 

 4 MR. WASSERMAN: The difference is

 5 whether you have machines that are operating --

 6 that is to say, they have the data, the machine is

 7 actually operating, but it's not operating, say,

 8 in parallel. And so, for instance, one mode that

 9 you might have which is more in the nature of the

 10 hot is where you have machines operating in

 11 parallel and doing the same thing.

 12 Obviously if you have machines operating

 13 in parallel that gives you the ability to

 14 failover. That is to say, the moment or within

 15 milliseconds of something happening, essentially

 16 you go from one system which may then have --

 17 become inoperative to another system which is

 18 continually operating. And, thus, can take over

 19 the load.

 20 I think it's fair to say that for a two

 21 hour recovery time objective it works a lot easier

 22 if, indeed, you have a hot backup. And in answer
 92

 1 to the next question, that is more expensive than

 2 warm.

 3 COMMISSIONER SOMMERS: Is it standard

 4 industry practice to have hot backup?

 5 MR. WASSERMAN: I think in some cases,

 6 yes. And in some cases, no.

 7 COMMISSIONER SOMMERS: Thank you, Bob.

 8 CHAIRMAN GENSLER: Thank you,

 9 Commissioner Sommers. Commissioner Chilton?

 10 COMMISSIONER CHILTON: I don't have any

 11 questions. Thank you all for your work.

 12 CHAIRMAN GENSLER: Before -- I'm going

 13 to turn to Commissioner O'Malia. But one thing

 14 that I know that we've worked jointly together on

 15 and I thank Ananda and the team for incorporating

 16 some things. But I won't associate -- because I

 17 -- you had raised in earlier meetings is,

 18 portfolio margining. And I know that this rule

 19 does take up some things on portfolio margining

 20 between swaps and futures and futures and swaps.

 21 But I want to thank Commissioner O'Malia and the

 22 team for trying to sort this through and associate
 93

 1 myself with this.

 2 COMMISSIONER O'MALIA: I think it --

 3 maybe Ananda you can address what the challenge we

 4 have here and what the rule actually provides for

 5 with regard to the portfolio margining of swaps

 6 and futures?

 7 MR. RADHAKRISHNAN: So, with respect to

 8 an application or somebody who wants to margin

 9 together futures and swaps in the swaps account.

 10 Then, the proposal provides for a mechanism for a

 11 DCO to submit a rule to us, to the commission and

 12 for the commission to approve it. And then once

 13 the commission approves it, then they can do it.

 14 The other way around? Where somebody

 15 wants to portfolio margin swaps and futures in the

 16 futures account what we are saying is, the current

 17 process under section 4d will continue to apply,

 18 and people can petition the commission for a 4d,

 19 as others have in the past. And, you know, we

 20 will look at it under that process.

 21 COMMISSIONER O'MALIA: Can you highlight

 22 kind of the standards that we're going to be
 94

 1 looking for in order to facilitate that and

 2 maintain the high standards of clearing? And how

 3 this might affect Core Principle 9 related to the

 4 clear port contracts?

 5 MR. RADHAKRISHNAN: Let me look for it.

 6 But it's liquidity -- what do you see --

 7 MS. DEITZ: Let's see.

 8 MR. RADHAKRISHNAN: Liquidity, how

 9 you're going to margin the products. You know,

 10 the time horizons that you want to do for

 11 margining, who's going to -- okay. Risk

 12 characteristics, other swaps excluded bilaterally

 13 or excluded on the DCM. Because -- this is just

 14 my opinion. If a swap is on a DCM and meets all

 15 the requirements that the commission imposes on

 16 DCM trading, then in my humble opinion there's not

 17 that much difference between a swap and a futures

 18 contract because it will have the same kind of

 19 liquidity.

 20 And then, you know, the liquidity of the

 21 markets. If you want to co-mingle futures and

 22 swaps, it's not just liquidity of the swaps
 95

 1 market, it's also the liquidity of the futures

 2 market. Because sometimes what people do -- say,

 3 if there is a failure and somebody has to manage a

 4 portfolio, reducing the risk of a portfolio -- it

 5 doesn't just involve getting out of positions. It

 6 could be taking positions in risk offsetting

 7 markets so that you reduce the risk in that way.

 8 So, we look at that as well. And, prices.

 9 MR. LAWTON: I would add one additional

 10 point. Is that what we're talking about is in the

 11 customer account because of the segregation

 12 requirements. That there's actually -- that they

 13 also would be able to do portfolio margining in

 14 the house account without any sort of commission

 15 order.

 16 MR. RADHAKRISHNAN: Right. All of this

 17 applies to customer position. So, right now -- in

 18 current law if somebody wants their portfolio

 19 margin swaps and futures in a "futures account"

 20 for the prop origin, they can do so.

 21 COMMISSIONER O'MALIA: That's if they're

 22 traded on a DCM, though, right?
 96

 1 MR. RADHAKRISHNAN: No, it doesn't make

 2 a difference.

 3 COMMISSIONER O'MALIA: It doesn't make a

 4 difference? Okay.

 5 MR. RADHAKRISHNAN: It doesn't make a

 6 difference. Because there's no customer

 7 protection implications.

 8 COMMISSIONER O'MALIA: John, you 

 9 mentioned there's a billion dollar minimum in this

 10 open access debate. You referenced and you put it

 11 out that there's a billion dollar minimum for

 12 clearing access. That is not a figure we set,

 13 correct?

 14 MR. LAWTON: Right. That's a figure set

 15 by one of the clearinghouses, yes.

 16 COMMISSIONER O'MALIA: Who is their

 17 regulator?

 18 MR. RADHAKRISHNAN: It's us.

 19 COMMISSIONER O'MALIA: The billion

 20 dollar figure we set?

 21 MR. RADHAKRISHNAN: Yes -- no, no, no.

 22 COMMISSIONER O'MALIA: We approved?
 97

 1 MR. RADHAKRISHNAN: Well, under current

 2 law --

 3 MR. LAWTON: Certified it --

 4 MR. RADHAKRISHNAN: They certified it.

 5 COMMISSIONER O'MALIA: Okay. In regard

 6 of the fair and open access provision, it requires

 7 that clearing members shall have access to

 8 sufficient financial resources to meet the

 9 obligations arising from participation in a DCO in

 10 "an extreme but plausible market condition". You

 11 want to put some flesh on the bone on that one?

 12 What are extreme and can you give -- is it a

 13 different standard that we've seen? Is it a

 14 similar standard we've seen in clearing? Or is

 15 this brand new?

 16 MR. LAWTON: That's the standard that

 17 we've used for financial resources at the DCO

 18 level when we say that they must be able to meet

 19 the default of their largest clearing member in

 20 extreme but plausible market conditions. So,

 21 we're sort of carrying that same standard down to

 22 the firm level. I think very broadly stated, you
 98

 1 would say that they're going to set margin

 2 requirements to cover 99 percent of market moves.

 3 So, extreme but plausible market conditions are

 4 market conditions in that 1 percent. So a market

 5 move that's beyond the 99 percent coverage that

 6 your margin would normally cover.

 7 COMMISSIONER O'MALIA: All right. So

 8 this is not a new term. People should be very

 9 familiar with it.

 10 MR. LAWTON: That's right.

 11 MR. RADHAKRISHNAN: And that's how

 12 people size their -- you know, even prior to the

 13 commission proposing this rule. When we did our

 14 DCO reviews that's how DCOs sized their -- you

 15 know, their default fund. That's the -- you know,

 16 the conditions that they use.

 17 MS. DEITZ: Yeah. I would just also add

 18 that that is a term used by the Commodity Exchange

 19 Act in talking about financial resources and the

 20 minimum amount of financial resources. Coverage

 21 of the largest exposure in extreme but plausible

 22 market conditions.
 99

 1 COMMISSIONER O'MALIA: Thank you. Anne,

 2 Bob, you want to add to this? No. We'll keep

 3 moving.

 4 MR. WASSERMAN: Yeah. Actually

 5 (Laughter) --

 6 COMMISSIONER O'MALIA: Anne, you're

 7 going to have to come up with something.

 8 MR. WASSERMAN: No, that's in the

 9 existing CPSS IOSCO standards.

 10 MS. POLASKI: I agree. (Laughter)

 11 COMMISSIONER O'MALIA: There should be

 12 no comments on this one, then. The issue

 13 regarding product eligibility. The rule amends

 14 39.15b for DCOs to select contract sizes that

 15 maximize liquidity, open access in risk

 16 management. The rule says to "the extent

 17 appropriate, a DCO shall select contract units for

 18 clearing purposes that are smaller than the

 19 contract units in which the trades submitted for

 20 clearing were executed." Can you walk me through

 21 that process? And, then I have another follow up

 22 on it.
 100

 1 MR. LAWTON: Yeah. I think the notion

 2 is that you may have hedgers who bilaterally

 3 negotiate a swap with a dealer that meets their

 4 needs and then they agree to submit that for

 5 clearing. And you could say that they did

 6 something for $100 and perhaps the DCO thought

 7 that they could set $10 million increments. So

 8 then they'd have 10 contracts rather than 1 once

 9 it was submitted -- clearing them. It would be

 10 transparent to them, they'd have exactly the same

 11 risk. It's just that it would be sized

 12 differently, which may help them going forward if

 13 they wanted to adjust their position they could

 14 take on or off a fraction of the position. It

 15 might also facilitate liquidity once these things

 16 got moved to a trading facility. And, we think it

 17 might also help a DCO in a default situation, if

 18 they had somebody who had a large position who

 19 defaulted and they needed to liquidate. If they

 20 had sized it in smaller increments they could

 21 parcel it out among more clearing members,

 22 according to this scalability concept.
 101

 1 COMMISSIONER O'MALIA: The one -- I 

 2 raised it with you earlier in our discussions.

 3 But in breaking these things up, we have the

 4 requirement for unique swap identifiers. And I

 5 just want to make sure that from a continuity

 6 standpoint that whatever we do to break these

 7 things up to optimize the liquidity or whatever

 8 we're going for here that we don't lose -- we

 9 don't confuse ourselves and lose track of where

 10 these things are. And, how we're going to track

 11 them.

 12 MR. LAWTON: Yeah, we will coordinate

 13 with the other teams on that point.

 14 CHAIRMAN GENSLER: I think Commissioner

 15 O'Malia raised a good point at the end. And to

 16 marry the risk reduction -- which I think the

 17 staff recommended this some number of weeks ago in

 18 my office. And I said, what an excellent point

 19 that was that a clearinghouse has to have the 

 20 right to take a billion dollar trade. And if they

 21 need to sell it in million dollar increments or

 22 $10 million increments -- if the billion dollar
 102

 1 counterparty defaults, they have to be able to

 2 liquidate it and do it in any way they can to

 3 lower risk. But I think Commissioner O'Malia also

 4 raised another point, just to make sure that these

 5 unique IDs line up and aren't lost and everything.

 6 Mr. Stawick, do you want to call the

 7 role?

 8 MR. STAWICK: Commissioner O'Malia?

 9 COMMISSIONER O'MALIA: Aye.

 10 MR. STAWICK: Commissioner O'Malia, aye.

 11 Commissioner Chilton?

 12 COMMISSIONER CHILTON: Aye.

 13 MR. STAWICK: Commissioner Chilton, aye.

 14 Commissioner Sommers?

 15 COMMISSIONER SOMMERS: Aye.

 16 MR. STAWICK: Commissioner Sommers, aye.

 17 Commissioner Dunn?

 18 COMMISSIONER DUNN: Aye.

 19 MR. STAWICK: Commissioner Dunn, aye.

 20 Mr. Chairman?

 21 CHAIRMAN GENSLER: Aye.

 22 MR. STAWICK: Mr. Chairman, aye. Mr.
 103

 1 Chairman, on this question, the ayes are 5, the

 2 nays are 0.

 3 CHAIRMAN GENSLER: Thank you, Mr.

 4 Stawick. The ayes having it, the staff

 5 recommendation on this clearinghouse rules are

 6 accepted and will be sent to the federal register.

 7 I thank you all. I know this is an awful lot and

 8 I know the public has a lot to digest. Those were

 9 excellent presentations.

 10 We are now moving on to Riva? Mauricio?

 11 MS. ADRIANCE: Sorry, we thought we had

 12 somebody else joining us.

 13 CHAIRMAN GENSLER: That's all right.

 14 So, the next on agenda is the Commission

 15 consideration and the notice of proposed

 16 rulemaking implementing Core Principles and other

 17 requirements for swap execution facilities. Riva

 18 Spears Adriance -- I do this every time --

 19 Mauricio Melara, Rick Shilts, and David Van

 20 Wagner, all from the Division of Market Oversight

 21 will present today. Rick and David will get to

 22 stay in the chair when we go on to position limits
 104

 1 as Rick is the head of the Division of Market

 2 Oversight and David's the chief counsel of that

 3 division. Riva and Mauricio have just done

 4 excellent work. I think of our nearly 500 public

 5 meetings, there must be 40 or 50 of them that have

 6 been on this topic that you've had. You had a

 7 roundtable, you've been working so actively with

 8 each of the commissioner officers, so I turn it

 9 over to you for your presentation.

 10 MS. ADRIANCE: Thank you. Good morning,

 11 Mr. Chairman and Commissioners. Today staff is

 12 recommending for publication of a rulemaking

 13 entitled, "Core Principles and Other Requirements

 14 for Swap Execution Facilities."

 15 I want to thank all the members of this

 16 team, and this was a large team, and we had a lot

 17 to do, and particularly my deputy, Mauricio

 18 Melara. I also want to thank the team leaders and

 19 members of other rulemaking teams within the

 20 Commission as well as our sister agencies, the

 21 commissioners and their staff, and members of the

 22 public with whom we've interacted over the last
 105

 1 six months in formulating this rulemaking.

 2 The Wall Street Reform and Consumer

 3 Protection Act, the Dodd-Frank Act, amended the

 4 Commodity Exchange Act to establish a new

 5 framework for execution and trading of swaps and

 6 security-based swaps. First the Dodd-Frank Act

 7 added a new definition under CEA Section 1(a)(50)

 8 for a new type of registered entity called a swap

 9 execution facility, also referred to as a SEF.

 10 Second, the Dodd-Frank Act amended the CEA to

 11 require that swaps subject to the clearing mandate

 12 be executed on a SEF or designated contract market

 13 if such swaps had been made available to trade.

 14 Third, the Dodd-Frank Act added a new

 15 CEA section, Section 5(h), which establishes

 16 registration provisions for SEFs, including

 17 compliance with 15 core principles and sets forth

 18 Congress's goal of encouraging the trading of

 19 swaps on SEFs and the promotion of pre-trade price

 20 transparency.

 21 The regulations, guidance, and

 22 acceptable practices proposed today implement the
 106

 1 new framework for the execution of trading of

 2 swaps on SEFs. Staff consulted extensively with

 3 market participants and other regulators by

 4 hosting and participating in numerous meetings as

 5 mentioned in a public roundtable. In addition,

 6 staff considered the numerous memoranda and

 7 letters submitted by the members of the industry

 8 to the team's rulemaking website.

 9 I want to discuss the interpretation of

 10 the statutory definition for SEFs. This is

 11 obviously something that has raised a lot of

 12 concern, questions, interest. Certain terms

 13 within the SEF definition such as trading facility

 14 or designated contract markets are defined

 15 elsewhere in the CEA while other terms such as the

 16 definitions multiple participant to multiple

 17 participant requirement, require a more robust

 18 analysis, including consideration of the current

 19 methods of executing and trading swaps and the

 20 other CEA provisions specifically related to SEFs

 21 and, of course, the purpose of the CEA generally.

 22 First, I want to stress that the SEF
 107

 1 trading requirement and, therefore, the SEF

 2 definition would apply to swap transactions that

 3 are subject to the clearing and execution

 4 requirements under the act, under Section 2(h),

 5 and this is that are made available for trading

 6 and that are not block trades. Under the proposed

 7 rulemaking we are calling these swap transactions

 8 required transactions under the sense they are

 9 required to be traded on a SEF or on a DCM. In

 10 other words, they're required transactions.

 11 When determining what types of trading

 12 systems qualify, the proposal takes into account

 13 the SEF definition, the SEF core principles, and

 14 the goals provided in the act of Section 733 of

 15 the act --

 16 CHAIRMAN GENSLER: Riva, I don't know

 17 whether it's your cell phone being close to that,

 18 I don't know if that would change something.

 19 MS. ADRIANCE: We'll try. We'll see if

 20 that helps. All right. It's quieter. Sorry

 21 about that.

 22 Okay, so the proposal takes into account
 108

 1 the SEF definition, the SEF core principles, and

 2 the goals provided in Section 733 of the

 3 Dodd-Frank Act which is to promote the trading of

 4 swaps on a regulated trading system or platform

 5 for swap transactions and pre-trade price

 6 transparency. To meet the SEF definition,

 7 multiple parties must have the ability to execute

 8 or trade swaps by accepting bids and offers made

 9 by multiple participants. In addition, Core

 10 Principle 2, SEF Core Principle 2, requires SEF to

 11 provide market participants with impartial access

 12 to the market. Therefore, the proposal offered

 13 here today interprets the SEF registration

 14 requirements to necessitate that the trading

 15 system or platform provide market participants

 16 with the ability to make bids or offers to other

 17 market participants or to accept bids or offers

 18 made by other market participants -- other

 19 multiple, I should have said -- to make bids or

 20 offers to other multiple participants and to

 21 accept bids or offers made by other multiple

 22 participants.
 109

 1 It promotes pre-trade price transparency

 2 and to ensure that the trading of swaps on the

 3 trading system or platform is in accordance with

 4 the core principles, the registration

 5 requirements, and the Commission's regulations,

 6 and to provide all market participants with

 7 impartial access to the SEF's market.

 8 Under the proposal, required

 9 transactions could be traded on a Request for

 10 Quote system or order books. Irrespective of what

 11 specific trading methodology a SEF chose to use,

 12 all SEFs would be required to provide a basic

 13 functionality that gives all market participants

 14 the ability to choose whether to post firm or

 15 indicative quotes to all other parties

 16 participating in the SEF.

 17 I mentioned earlier order books and

 18 Request for Quotes systems or platforms, and we've

 19 defined order books and we've defined it broadly

 20 to include, in addition to trading facilities or

 21 electronic trading facilities which are currently

 22 defined in our act, we also include trading
 110

 1 systems or platforms in which all market

 2 participants in the trading system or platform can

 3 enter multiple bids and offers, observe multiple

 4 bids and offers entered by other market

 5 participants, and choose to interact on such bids

 6 and offers. And I just want to mention that this

 7 is not a (inaudible) order book. When we define

 8 "order book" we're meaning something that's

 9 broader.

 10 We also define Request for Quote systems

 11 and we include on that trading systems or

 12 platforms on which a market participant must

 13 transmit a Request for Quote to buy and sell --

 14 buy or sell a specific instrument to no less than

 15 five market participants in the trading system or

 16 platform to which all such market participants may

 17 respond, and where any bids or offers resting on

 18 the trading system or platform pertaining to the

 19 same instrument must be taken into account and

 20 communicated to the requestor along with the

 21 responsive quotes. Or, two, trading system or

 22 platforms in which multiple market participants
 111

 1 can both view real-time electronic streaming

 2 quotes, both firm or indicative, from multiple

 3 potential counterparties on a centralized

 4 electronic screen and have the option to complete

 5 a transaction by either accepting a firm streaming

 6 quote or transmitting a Request for Quote to no

 7 less than five market participants based on the

 8 indicative streaming quote, taking into account

 9 any resting bids or offers that have been

 10 communicated to them -- to that requestor along

 11 with any responsive quote.

 12 The proposal provides that the

 13 Commission may determine that other trading

 14 systems or platforms are order books or Request

 15 for Quote systems. So, as we go forward we may

 16 find that as the marketplace changes and

 17 technology develops, that there are other possible

 18 order books or Request for Quote systems.

 19 Just to emphasize, because all SEFs will

 20 be required to have a functionality for leaving

 21 and executing against resting orders market

 22 participants on SEFs that user Request for Quote
 112

 1 model would not be limited to having to utilize

 2 the Request for Quote mechanism to trade. In

 3 addition to this Request for Quote mechanism, they

 4 would have a basic functionality provide the

 5 ability to access to all other market

 6 participants. They could also provide a multiple

 7 to multiple Request for Quote trading system --

 8 I'm sorry, I'm reading this too fast here -- in

 9 addition to this basic functionality providing the

 10 ability to access all other market participants, a

 11 SEF could also provide a multiple-to-multiple

 12 Request for Quote trading system for those market

 13 participants that do not wish to display their

 14 bids, offers, or requests, to all other market

 15 participants. So, there's a difference there

 16 between the two.

 17 A SEF's chosen approach or approaches

 18 would be described in its registration application

 19 to be evaluated by the Commission during the

 20 application process for compliance with the

 21 definition of a SEF, the registration

 22 requirements, and the core principles. As noted,
 113

 1 the Dodd- Frank Act also establishes registration

 2 and core principle compliance requirements as part

 3 of the framework for swap trading on the SEFs.

 4 Regarding registration requirements,

 5 staff is proposing that applicants submit relevant

 6 information in an application form requiring

 7 certain information and specified documents.

 8 Also, in order to safeguard against significant

 9 disruption in the activities of swap markets and

 10 swap participants, staff proposes that the

 11 Commission provide conditioned grandfather relief

 12 to swap venues operating prior to the effective

 13 date of the final regulations. The proposed

 14 grandfather relief would allow an applicant who

 15 submitted a complete application and satisfied

 16 other conditions, to operate for a limited period

 17 of time while staff reviews his application for

 18 registration.

 19 The proposal also includes a sunset

 20 provision such that the temporary grandfather

 21 relief would end 365 days from the effective date

 22 of the final rules.
 114

 1 Now, to mention regarding the 15 core

 2 principles that the Dodd-Frank Act imposes on SEFs

 3 to govern, they govern their general obligations,

 4 including trading and product requirements,

 5 compliance obligations, operational capabilities,

 6 surveillance operations obligations, financial

 7 information, and resource requirements. Staff

 8 proposes a combination of guidance, acceptable

 9 practices, and regulations to implement these core

 10 principles.

 11 The proposed regulations implement the

 12 new statutory mandates in an attempt to balance

 13 the twin goals of greater on-exchange trading and

 14 transparency while taking into account current

 15 practices in the derivatives industry.

 16 I'd like to highlight some key aspects

 17 of the proposal concerning compliance of the core

 18 principles just to give you some examples.

 19 Under the Dodd-Frank Act, Core Principle

 20 2, which is compliance with rules, requires a SEF

 21 to establish, monitor, and enforce rules relating

 22 to various compliance functions, including a
 115

 1 requirement to provide impartial access, terms and

 2 conditions of the swaps to be traded on this

 3 trading platform or system, rules prohibiting

 4 abusive trading practices. Staff proposes

 5 regulations that, for example, it requires SEFs to

 6 maintain sufficient compliance staff and resources

 7 to carry out its obligations under the Core

 8 Principles. It doesn't get into a lot of all the

 9 granular details. There's a number of issues left

 10 to the SEF, but SEFs may choose to contract with a

 11 third party for the provision of regulatory

 12 services to assist and comply with the core

 13 principles, but the SEF ultimately remains

 14 responsible for compliance as required in the

 15 Dodd-Frank Act.

 16 To comply with Core Principle 4, which

 17 is monitoring trading, a proposed regulation

 18 requires SEFs to have the ability to conduct

 19 real-time trade monitoring and comprehensive trade

 20 reconstruction. And just to point out that one

 21 thing we've done is to include the statutory

 22 language in our regulations so that it is there in
 116

 1 one place for market participants.

 2 To meet Core Principle 13, to go on,

 3 staff proposes regulations relating to the types

 4 of financial resources available to SEFs to

 5 satisfy the financial requirements, valuation and

 6 calculation requirements that a SEF must make

 7 using its own methodology and financial resources

 8 reporting requirements.

 9 Finally, Core Principle 15, designation

 10 of chief compliance officer, establishes the

 11 position, title, and function of compliance

 12 offices for each SEF. Consistent with the

 13 detailed requirements set out by the Congress

 14 under the Dodd-Frank Act, the proposed regulations

 15 require that SEFs designate a chief compliance

 16 officer who reports to the SEF's board or to a

 17 senior officer. The chief compliance officers

 18 must also generate and submit accurate annual

 19 reports describing a SEF's performance regarding

 20 compliance with the CEA.

 21 Staff looks forward to hearing from the

 22 public on all aspects of the proposed rulemaking,
 117

 1 in particular with respect to the specific

 2 questions posed in the notice of proposed

 3 rulemaking and I'd be happy to answer any

 4 questions at this time.

 5 CHAIRMAN GENSLER: Thank you so much,

 6 Riva. And the chair will entertain a motion to

 7 accept staff recommendation on core principles for

 8 SEFs.

 9 COMMISSIONER SOMMERS: So moved.

 10 COMMISSIONER CHILTON: Second.

 11 CHAIRMAN GENSLER: With that I'd like to

 12 open the floor to allow commissioners to ask

 13 questions. I support this proposed rulemaking,

 14 and I want to say a few words on it. I'll have a

 15 statement to put in the record, but I think it

 16 fulfills Congress's mandate to have rules with

 17 regard to SEFs that promote transparency through

 18 the trading of swaps on these things called swap

 19 execution facilities. I know that term is just

 20 made up here in Washington, but it's taken on some

 21 meaning and the meaning that Congress gave to it

 22 is that there would be transparency and also that
 118

 1 there would be flexibility, that market

 2 participants have a flexibility as to how they

 3 transact, but they benefit from that transparency

 4 and market competition.

 5 I think that this proposal does that. I

 6 think it will afford market participants' ability

 7 to make firm bids or offers if they choose to, but

 8 nothing will require them, and I just want to make

 9 sure, Riva, there's no market maker requirement in

 10 here, right?

 11 MS. ADRIANCE: No, this proposal tries

 12 to provide market participants with the choice.

 13 It focuses on -- through the SEFs giving market

 14 participants the choice of how they transact.

 15 CHAIRMAN GENSLER: Right. And the

 16 statute does say that market participants have to

 17 have the ability to execute or trade with other

 18 market participants and I don't personally see how

 19 you could afford that unless you have the ability

 20 to make a firm bid or offer or an executable bid

 21 or offer to others, if you choose to, but not

 22 required to.
 119

 1 MS. ADRIANCE: That's right, that's how

 2 the proposal --

 3 CHAIRMAN GENSLER: Okay, but if a market

 4 participant wants to do a Request for Quote, leave

 5 an indicative quote, in the old days I would call

 6 that advertise their interest, but not to have an

 7 executable quote, SEFs can and, in fact, through

 8 this process are pretty well encouraged to do that

 9 as well to provide that facility, is that correct?

 10 MS. ADRIANCE: Yes. It's the SEF's --

 11 we expect and we've talked with a lot of entities

 12 that believe that they will come in with

 13 applications as a SEF and we expect that a number

 14 of entities will continue to do both. A number

 15 will do both of the firm quotes, some will do the

 16 more Request for Quotes. We know that there are

 17 going to be -- there's going to be a number of

 18 different models, is what we're expecting to see.

 19 CHAIRMAN GENSLER: Right, but these

 20 methods will provide hedgers and investors, Main

 21 Street businesses, both the flexibility to execute

 22 and trade by a number of methods, also the
 120

 1 benefits of transparency and market competition.

 2 I think this competition is consistent with

 3 Congress' mandate and definition of a "swap

 4 execution facility" where all market participants

 5 can communicate with all other market participants

 6 if they choose to. If not, they can go the more

 7 narrow approach and get those benefits.

 8 It also allows for block trades, the

 9 larger trades, just like in the futures market, to

 10 be done with less pre-trade transparency. They

 11 will, because of the real-time reporting, be still

 12 reported. Is that right?

 13 MS. ADRIANCE: Yes, and I wanted to

 14 mention, I didn't mention in my remarks, but we're

 15 differentiating with block trades regarding

 16 pre-trade transparency. Block trades, like we've

 17 done in the futures industry, block trades are not

 18 required to have the pre-trade price transparency

 19 that we would expect generally for the trading of

 20 swaps on SEFs.

 21 CHAIRMAN GENSLER: Now, another

 22 important feature is that Congress said that there
 121

 1 is a mandate to bring transactions to swap

 2 execution facilities if they're both cleared and

 3 made available for trading. Is that correct?

 4 MS. ADRIANCE: Yes, there is a mandate

 5 and we've determined that there's -- well, there's

 6 been questions as to whether this determination of

 7 as a swap made available for trading, whether this

 8 differs from listing and we, in our proposal,

 9 provide that this is not the same thing as listing

 10 a swap. It is a determination that must be made

 11 and that we would expect SEFs to make a

 12 determination as when they look over annually as

 13 to whether the swaps they have listed have been

 14 made available for trading.

 15 CHAIRMAN GENSLER: So, it may be all the

 16 contracts they list, but they have to make a

 17 public determination and show that -- and we get

 18 to review that in some way, is that correct?

 19 MS. ADRIANCE: Yes, they would provide

 20 that to us and we would review that to determine

 21 if this is a reasonable determination.

 22 CHAIRMAN GENSLER: And then another key
 122

 1 part that Congress did, and I think it was in one

 2 of the core principles, was to promote impartial

 3 access. I gather you read the New York Times

 4 piece as well?

 5 MS. ADRIANCE: Of course.

 6 CHAIRMAN GENSLER: It was not mandatory.

 7 I think it was David Van Wagner that e-mailed it

 8 to me on Sunday morning. But I think that

 9 Congress addressed, just as in the clearinghouse

 10 rules, that there be fair and open access in a

 11 core principle. Congress, also, here addressed

 12 themselves to it, that swap execution facilities

 13 have to have impartial access. Is that correct?

 14 MS. ADRIANCE: Yes, and that's one of

 15 the goals that we were trying to include in this

 16 rulemaking was to, in a sense, provide practical

 17 ways for market participants to have impartial

 18 access and we require the SEF, and there's a core

 19 principle that includes that in the core principle

 20 that the SEF must provide impartial access.

 21 CHAIRMAN GENSLER: And am I right that

 22 any market participant that we call an ECP, an
 123

 1 eligible commercial -- contract -- I have to

 2 remember the Cs here -- what is it?

 3 MS. ADRIANCE: (inaudible)

 4 CHAIRMAN GENSLER: Eligible contract

 5 participant. But that means not the retail

 6 public, but the large institutions, any would have

 7 access as long as they have the financial

 8 resources and they have -- is it correct to say if

 9 they're transacting though a futures Commission

 10 merchant and has a clearing arrangement, is that

 11 what it needs?

 12 MS. ADRIANCE: Yeah, you know, we

 13 basically refer to that -- if someone that has an

 14 appropriate clearing arrangement and that has --

 15 that certainly does not have a disciplinary

 16 history that might raise concerns for the SEF, it

 17 should be made -- given impartial access on a fair

 18 basis.

 19 CHAIRMAN GENSLER: So, if a transaction

 20 is made available for trading and the SEF has to

 21 determine those things once a year and it's not a

 22 block trade, you say it's a required transaction,
 124

 1 it has greater pre-trade transparency, and all

 2 market participants who don't have a bad

 3 disciplinary history and have appropriate clearing

 4 arrangements, can participate if they choose to.

 5 Is that in the essence of this rule?

 6 MS. ADRIANCE: I think that covers it.

 7 CHAIRMAN GENSLER: Well, again, I

 8 support it. I congratulate the team -- I thank my

 9 fellow commissioners. I think this is a very

 10 strong rule. I think it's better for the extra

 11 week that we gave it to ripen within the agency.

 12 Commissioner Dunn?

 13 COMMISSIONER DUNN: Thank you, Mr.

 14 Chairman. You never cease to amaze me. Your

 15 technical knowledge of having the BlackBerry moved

 16 away from the microphone to improve the quality of

 17 sound, you just must know everything.

 18 CHAIRMAN GENSLER: No, but thank you.

 19 (Laughter)

 20 COMMISSIONER DUNN: But I do want to

 21 talk a little about the procedure of how we got

 22 here on this regulation and I'm very, very quick
 125

 1 to note that my knowledge of the swap industry is

 2 extremely limited and for me, the communications

 3 we get on this and all these proposed regs, is

 4 going to help me determine where we are on a final

 5 regulation.

 6 I was a bit amused last week as I got

 7 calls from reporters and even saw speculations

 8 that the regulation was pulled because there

 9 weren't enough votes to report out this proposed

 10 regulation. I think anybody that thinks that you

 11 can't count to three, severely underestimates your

 12 mathematical powers, but the fact is, you didn't

 13 want to stop at three, and that has been where we

 14 have been all along in this rulemaking process.

 15 We've tried to get consensus, and at the

 16 11th hour one commissioner said I think I've got a

 17 better idea, and rather than disregard that, you

 18 put this off for a week. And we incorporated some

 19 of that better idea into this proposed regulation.

 20 I wish we had the luxury of time to be

 21 able to do that always. We don't. We're mandated

 22 by Congress to get these rules out. I think we do
 126

 1 have a better product because of that additional

 2 week. A lot of the questions that I had initially

 3 on it have been addressed and answered during that

 4 time period. I'm still looking forward to hear

 5 what the public has to say on this.

 6 I note that yesterday when you were in

 7 the House Agricultural Committee you were promised

 8 frequent and robust oversight of these regulations

 9 and how they are being implemented. I have said

 10 all along that one of the things that we

 11 absolutely have to do as we get this -- these

 12 batches of regulations out, is to take stock of

 13 what they've done. What has been the efficacy of

 14 these regulations as we've put them out? This one

 15 and the next regulation that we're going to take

 16 up certainly fall within those categories and Mr.

 17 Chairman, I think that it is imperative that on

 18 these regulations that at some point in time -- 12

 19 months or 18 months down -- we stop and take

 20 stock, did we do what we intended to do? Were

 21 there unintended consequences as a result of these

 22 regulations?
 127

 1 We're not going to get it right 100

 2 percent of the time, but we have to do the best we

 3 can with the knowledge and the laws and the

 4 resources that Congress has given us. I thank you

 5 for taking the time to try to make this regulation

 6 better.

 7 CHAIRMAN GENSLER: Thank you, Mike, for

 8 all of your efforts and work on this in all of

 9 these rules, and thank you for those kind remarks

 10 about technology and my math skills as well.

 11 Commissioner Sommers.

 12 COMMISSIONER SOMMERS: Thank you, Mr.

 13 Chairman. I want to say a particular thanks to

 14 this team because you've been put under the fire

 15 for two weeks in a row which is, I'm sure, very

 16 stressful for you and time-intensive, the hours

 17 that you've put in to making this rule, you know,

 18 putting this package together for us today. So,

 19 thank you for all of your work.

 20 I just have one general question with

 21 regard to working with the SEC and making these

 22 kind of rules consistent and whether we know where
 128

 1 the SEC is on rules for SEF and what kind of

 2 systems they anticipate allowing.

 3 MS. ADRIANCE: We, of course, cannot

 4 speak for the SEC and we don't know where they're

 5 going to end up. Their process, while we were

 6 supposed to -- we had originally been scheduled to

 7 be considered around the same time, currently

 8 they're scheduling, we believe, in January. They

 9 don't -- from what I understand, I don't think

 10 they have a date yet. So, they're still in the

 11 process of working out a lot of their details, so

 12 all we can do now is to -- what we've done in the

 13 process, really, has been to talk a lot, has been

 14 to share with each other, has been to compare.

 15 We've tried as much as we could do to be

 16 consistent. They have an industry that has a

 17 different history with different requirements than

 18 ours and so we have found that there have been --

 19 while we've, in many ways, worked out a lot of

 20 things that we believe from what we're hearing

 21 will be very consistent with what they're doing,

 22 we don't know what they're going to finally come
 129

 1 out with. And we certainly -- we have discovered

 2 some things that their history has been different

 3 from ours and, therefore, they may come out

 4 differently from how ours do.

 5 And certainly I don't know what they'll

 6 do in their proposal, but just one example would

 7 be in the block trade rulemaking, in the way the

 8 block trades are handled in the securities

 9 industry and on exchanges is different from the

 10 way it's handled in futures exchanges. So we came

 11 from a very different background in that sense of

 12 in the futures industry where block trades do not

 13 have pre-trade transparency and they have a

 14 different background on securities exchanges. So

 15 I don't know what their final rulemaking will do,

 16 but we certainly know that they are dealing with

 17 some different issues than some of the issues

 18 we've dealt with.

 19 COMMISSIONER SOMMERS: I'm specifically

 20 more concerned about them allowing any type of

 21 system and not being as restrictive as we are

 22 being on the definition of a SEF. So, do you
 130

 1 anticipate that there will be specific challenges

 2 if we end up being where we are in a final rule

 3 and they end up allowing many different types of

 4 systems to register as SEFs? I mean, how do we

 5 deal with that when the industry then will have

 6 two different standards?

 7 MS. ADRIANCE: Well, certainly we don't

 8 -- as I said, we don't know what they're going to

 9 propose, but from what we understand, we are, I

 10 don't think, that different from what they are

 11 thinking of proposing over there. We don't know,

 12 but certainly that's part of -- I mean, even if we

 13 propose something exactly the same, during the

 14 comment period we would both be getting comments

 15 and both need to individually ascertain how to

 16 deal with those comments. What I can say is that,

 17 you know, certainly there is -- there's certainly

 18 different asset classes, but we do know that there

 19 will probably be some entities that will want to

 20 operate in both worlds. And so we would hope that

 21 commenters will give us feedback on that, when

 22 they look at theirs and they look at ours. I
 131

 1 mean, there is -- my understanding is, is that

 2 there will be an overlap of comment periods, so

 3 they will be able to look at theirs and ours

 4 during a -- whatever it will be, a month or more,

 5 that they'll be able to look at both and compare

 6 and tell us if they think there's some reason that

 7 there's problems.

 8 MR. SHILTS: I just wanted to add that

 9 we did send over the latest version and if the

 10 Commission chooses today to go ahead with this,

 11 then there -- we'll continue to have a dialogue

 12 and could explain the rationale of how we came up

 13 with this and help inform them as they go finalize

 14 their process.

 15 CHAIRMAN GENSLER: Thank you,

 16 Commissioner Sommers.

 17 Commissioner Chilton?

 18 COMMISSIONER CHILTON: Thanks, Mr.

 19 Chairman, and echo my colleagues' appreciation for

 20 what you've done in this, I think it's moved in a

 21 good direction.

 22 I did want to ask, before I started,
 132

 1 Riva, you said when you were explaining, you said

 2 -- you kept talking about trading system or

 3 platform. You know, quoting from the act, the

 4 goal of this section is to promote the trading of

 5 swaps on SEFs, on swaps execution facilities, and

 6 pre- trade transparency, but you sort of

 7 repeatedly used, in that specific regard, but

 8 repeatedly used trading system or platform, and

 9 I'm thinking I'm missing something.

 10 MS. ADRIANCE: The -- actually referring

 11 to the language in the SEF definition in the

 12 Dodd-Frank Act, which -- have to look at it, make

 13 sure I don't garble it like I've garbled a few

 14 other things today -- and it says in here that the

 15 swap execution facility means a trading system or

 16 platform in which -- and then it goes on to the

 17 multiple-to-multiple -- multiple

 18 participant-to-multiple participant. So, because

 19 they're talking about a trading system or

 20 platform, we've tried to use those words as well.

 21 COMMISSIONER CHILTON: All right. When

 22 we talk specifically about that rule of
 133

 1 construction, it's specifically a SEF, right?

 2 Page 345-E?

 3 MS. ADRIANCE: Yeah.

 4 COMMISSIONER CHILTON: Okay. Thank you.

 5 You know, Congress intended for their systems in

 6 which multiple participants have the ability to

 7 execute or trade swaps by accepting bids and

 8 offers made by multiple participants in the

 9 facility or system. That expansive language --

 10 that is expansive language and we need to ensure

 11 that we capture what Congress intended, so my --

 12 the current proposal does take into account any

 13 resting bids or offers integrated with any

 14 responsive quotes. So, my question is, would this

 15 requirement impose obligations on the existing RFQ

 16 systems as they're currently configured? Does

 17 that make any sense?

 18 MS. ADRIANCE: The -- I know that

 19 there's a number of systems out right now who have

 20 RFQ, Request for Quote system -- mechanisms. And

 21 a number of those -- I mean, I cannot speak to all

 22 of them. We don't know that we've actually talked
 134

 1 to all of them, but we know that most of the

 2 entities we've talked to actually have multiple

 3 different kinds of systems. Some of them have not

 4 only just order books, which we've defined, but

 5 they actually go further and go all the way to

 6 central limit order books along with their Request

 7 for Quote systems. There is even those that will

 8 talk about Request for Quote systems have the

 9 ability to post firm quotes so that somebody can

 10 actually execute their executable, live -- the

 11 words I've heard of "executable," "live,"

 12 "actionable," these are -- so, it's not just a

 13 matter of having to send out a Request for Quote.

 14 A lot of these systems actually allow you to

 15 execute just by something you see coming at you

 16 and move directly into, without having to go back

 17 and forth, you can execute on that and have a

 18 trade.

 19 So, we're expecting that from what the

 20 feedback we've gotten, that a number of the

 21 systems -- well, they're constantly innovating

 22 anyway, a number of the system that, you know, it
 135

 1 may be that most of the systems that already have

 2 what we're talking about, it would be hard until

 3 we get comments to really ascertain whether

 4 there's some that would actually have a problem.

 5 COMMISSIONER CHILTON: But some of them,

 6 you think, will have to change the way they're

 7 doing -- you can't know about everybody, of

 8 course, but --

 9 MR. VAN WAGNER: -- I mean, because,

 10 just to be clear, there's two types of RFQs which

 11 are specifically laid out in the regs, the

 12 proposed regs, as well as types of order books.

 13 But for each one of those provisions, there are

 14 catch-all phrases such that you could come to the

 15 Commission and use a variant of those RFQs or

 16 order books.

 17 So, essentially what we've laid out is

 18 safe harbor provisions which can be fit into, but

 19 if you're outside -- if you're at deviance with

 20 that, you still might be able to come to us and

 21 have us approve it on a case-by- case.

 22 COMMISSIONER CHILTON: Okay, that's
 136

 1 helpful, Mr. Van Wagner. Thank you. And I do

 2 look forward to getting comments on this

 3 particular thing, but in general on the rule.

 4 And, again, I thank the Chair and thank all of

 5 you. I know this has been a tougher one, but

 6 thank you for your diligence and hard work.

 7 CHAIRMAN GENSLER: Thank you,

 8 Commissioner Chilton.

 9 Commission O'Malia?

 10 COMMISSIONER O'MALIA: Thank you, Mr.

 11 Chairman. Thank you for your cooperation and the

 12 team's cooperation. We've come a long way since

 13 last week and I appreciate that. This is a much

 14 better definition, still some things to be worked

 15 out.

 16 Commissioner Sommers mentioned

 17 coordination with the SEC. Could you discuss

 18 where we are internationally and what the

 19 international trading standard might be and how

 20 coordinated we are internationally?

 21 MR. VAN WAGNER: There's an IOSCO

 22 working group, OTC derivatives working group,
 137

 1 right now, which was tasked with a number of

 2 things and one of them is to come up with a

 3 trading report which speaks to trading standards.

 4 I believe the date is July 1 is when the report

 5 has to be given up to IOSCO.

 6 We've seen drafts of that report, which

 7 we actually -- I'm sorry, Commissioner Sommers is

 8 one of the co-chairs. We've seen drafts of that

 9 report and there's nothing in it that causes

 10 discomfort yet. I mean, I don't think there's an

 11 out trade between what's being proposed and what's

 12 in the draft of that trading report, but both of

 13 these things are moving targets. But at this

 14 point there's not inconsistency.

 15 COMMISSIONER O'MALIA: Do you want --

 16 anything to add to that?

 17 The questions -- I just have -- let me

 18 just run down a list of -- will an SEF or an RFQ,

 19 more specifically, be required to have a trade

 20 matching and executing algorithm?

 21 MS. ADRIANCE: We're not expecting that

 22 you would have -- it's not required, if that's
 138

 1 your question.

 2 COMMISSIONER O'MALIA: That is exactly

 3 my question.

 4 MS. ADRIANCE: Yeah, there is -- it's

 5 not a requirement that we try to leave language

 6 that was broad enough that there could be multiple

 7 ways of providing this ability to offer to others

 8 a bid or an ask, but there is not just one way to

 9 do that.

 10 COMMISSIONER O'MALIA: Okay, and I think

 11 you touched on this, but I want to -- it's on my

 12 list so I'm going to check it off anyway. A SEF

 13 or an RFQ, is it required to have a limit order

 14 book?

 15 MS. ADRIANCE: Again, as I mentioned,

 16 that's what -- we tried to define "order book"

 17 more broadly --

 18 COMMISSIONER O'MALIA: Right.

 19 MS. ADRIANCE: -- because -- and I'm not

 20 -- when I say that, I don't know what people mean

 21 by "limit order book" --

 22 COMMISSIONER O'MALIA: Let me rephrase
 139

 1 this. Let me just rephrase it. Are all SEFs

 2 required to have a limit order book?

 3 MS. ADRIANCE: I would say no.

 4 Requiring -- we're saying that there needs to be

 5 this functionality for providing these --

 6 COMMISSIONER O'MALIA: I would have

 7 stopped at no.

 8 MS. ADRIANCE: I'll stop at no.

 9 COMMISSIONER O'MALIA: Okay. Is a SEF

 10 required to have a trading facility functionality

 11 as that term is defined in Section 1(a)(51) of the

 12 Act?

 13 MS. ADRIANCE: No. And we'll stop

 14 there.

 15 MR. VAN WAGNER: No, and nor are they --

 16 nor do they have to be electronic trading

 17 facilities, if that's in your next question.

 18 COMMISSIONER O'MALIA: Okay. Thank you.

 19 Does this proposal, an RFQ proposal -- or a SEF

 20 proposal -- require that a SEF give priority to a

 21 firm quote over the quotes that requestor receives

 22 whether he uses a firm or indicative -- let me
 140

 1 rephrase that. Is a SEF required to give priority

 2 to a firm quote over the quotes that a requestor

 3 receives when he uses the Request for Quote

 4 system?

 5 MS. ADRIANCE: What we say is that the

 6 -- it must be able to take into account both the

 7 responses to the Request for Quote as well as to

 8 whatever is firm as in the system. I mean, we

 9 haven't defined that and that's something that we

 10 would certainly be interested, if there's

 11 comments, about that.

 12 COMMISSIONER O'MALIA: But there's no

 13 priority, they couldn't execute before or fill

 14 partially? There's nothing in there that requires

 15 that?

 16 MR. VAN WAGNER: Yeah, there's nothing

 17 in this, in Part 37. Full disclosure, there might

 18 be other provisions in other of our rulemaking

 19 team, such as best execution principles or what

 20 have you that might circumscribe the parties, but

 21 insofar as the SEFs go, there's no such

 22 requirement.
 141

 1 COMMISSIONER O'MALIA: Thank you. Riva,

 2 you mentioned the word a "firm streaming quote."

 3 What is that? Is it any different than a firm --

 4 or a streaming indicative quote?

 5 MS. ADRIANCE: From what I am hearing

 6 and the explanations we have received, I believe

 7 that there is a difference. From what we

 8 understand there is some marketplaces that allow

 9 you to do -- when I mentioned earlier about firm

 10 quotes, what's coming out is something that you

 11 can actually -- as the terms have been used,

 12 "live," "actionable," you can click on it and you

 13 can immediately go in -- when you click on it, you

 14 have a trade. You have executed a trade. Whereas

 15 indicative quotes are quotes that are -- they're

 16 indications of where that person, that market

 17 participant, is at that moment, and it's what's

 18 required is if you are interested in that

 19 indication, you click on it, if that's the way it

 20 works in that system, you click on it and then you

 21 will then have to, in a sense, send out a Request

 22 for Quote. So, there's another stage. It's
 142

 1 basically telling the market participants where --

 2 that there is somebody who at that moment in time

 3 believes that they are at that price but there's

 4 nothing firm about it and you have to go through

 5 the Request for Quote process.

 6 COMMISSIONER O'MALIA: All right. I may

 7 come back to that one. I'm concerned in the

 8 preamble of this proposal does not correctly

 9 interpret Core Principle 2 where it requires a SEF

 10 to provide market participants with impartial

 11 access, and I think the rule and the preamble seem

 12 disconnected somewhat. In the rule, as I

 13 understand it, it means that SEF need to use

 14 objective criteria to allow market participants to

 15 gain membership to the SEF or access to the SEF,

 16 which is what I think -- I think, Mr. Chairman,

 17 you've highlighted. In the preamble it seems to

 18 indicate that a SEF must provide market

 19 participants with the ability to execute on all

 20 bids and offers posted by any other market

 21 participant.

 22 What's the market to think of this?
 143

 1 CHAIRMAN GENSLER: Can I help? Can I --

 2 because I think -- I think the word "market

 3 participant" there must be that if somebody is a

 4 member of that SEF, right? I mean, is that not

 5 the case?

 6 MS. ADRIANCE: Yes. Yes, the market

 7 participant in that case means that somebody who

 8 has ability to access, to interact with that, with

 9 others, that they have ability providing impartial

 10 access to each other to reach each other.

 11 COMMISSIONER O'MALIA: So, is this the

 12 same impartial access standard or we're using it

 13 -- we're interpreting it two different ways

 14 depending on, you know, one to get access and then

 15 once you're in -- once you have access there's a

 16 different interpretation to it?

 17 MS. ADRIANCE: There is -- you're having

 18 impartial access to become a member, but also

 19 impartial access when you're on the facility that

 20 you not -- for instance, that the SEF doesn't

 21 provide different -- if there's bandwidth, that

 22 they provide -- and there's -- I mean, there are
 144

 1 certainly things that may -- this Commission may,

 2 in the future, consider how to handle things like

 3 bandwidth. But certainly there has to be

 4 comparable treatment among the different

 5 participants, if they -- if you want greater

 6 bandwidth, but you're paying more and everybody

 7 has to pay more for greater bandwidth, that would

 8 certainly be part of impartial access. And also

 9 just generally that you have the ability, like

 10 another market participant, to access other market

 11 participants.

 12 MR. SHILTS: Yeah, I think impartial

 13 access goes to the ability to participate on the

 14 SEF and the ability to trade. It doesn't go to

 15 the execution of a particular transaction which is

 16 governed by the -- you know, the ability to

 17 provide a way to issue bids and offers that

 18 execute the RFQs, but it doesn't require

 19 participation in that sense.

 20 COMMISSIONER O'MALIA: Well, I think the

 21 preamble may be confusing then and I would -- you

 22 know, let the market know, you know, take a look
 145

 1 at that issue. That's an important question.

 2 Hopefully they'll respond to it and let's just put

 3 it on our list.

 4 Let me ask another question here. "By

 5 means of interstate commerce," does that mean that

 6 voice systems are permitted to trade unless swaps

 7 subject to the (inaudible) clearing and execution

 8 requirement?

 9 MS. ADRIANCE: The voice systems are --

 10 we've accounted for them in several ways, we

 11 expect them to operate in several ways. There is

 12 certainly -- if someone is carrying a block trade,

 13 we would expect that that's one of the methods

 14 they may choose to use --

 15 COMMISSIONER O'MALIA: But block is off

 16 SEF?

 17 MS. ADRIANCE: Well, block is executed

 18 off the SEF but then transmitted through the SEF.

 19 It's under the -- it has to be operated -- it has

 20 to be executed pursuant to the SEF's rules. But

 21 in terms of transactions that are to be -- those

 22 transactions that must be executed on the SEF,
 146

 1 there is certainly the voice, they would be just

 2 like you might have now. You may have a customer

 3 who calls up their clearing number or their -- you

 4 know, a dealer, a broker that they work with and

 5 say I'm interested in doing this. What we would

 6 envision is that the customer may decide they want

 7 to input it themselves into the system whenever

 8 the system is -- whatever they're using, RFQ or

 9 they're doing a firm quote or hitting on a firm

 10 quote or they may work with their voice broker to

 11 do this and has the voice broker, in a sense,

 12 acting as an agent.

 13 We do have under Core Principle 2 under

 14 -- when we describe what is an audit -- you know,

 15 audit trail we need, what we think the SEF will

 16 need in order to be able to do its regulatory

 17 oversight obligations that just like we would have

 18 in say futures markets where there is a -- that we

 19 would want -- the SEF must have -- provide that

 20 it's -- in those cases where you have a customer

 21 calling up, say a voice broker, in that case to

 22 act as an agent, that the -- if the order or the
 147

 1 Request for Quote is actionable, is executable

 2 right away, immediately, then they should do so.

 3 If it is not, they should provide an electronic

 4 record so that if there is any need to go back and

 5 look at what happened, there would be that record.

 6 COMMISSIONER O'MALIA: Thank you very

 7 much. The proposal requires a minimum 15-second

 8 pause between the entry of a matching customer to

 9 broker swap order or a customer to customer swap.

 10 Can you explain it and the rationale for it?

 11 MS. ADRIANCE: Well, this is that

 12 situation -- in a sense, the situation I was just

 13 describing where you may get a -- if it's a voice

 14 broker that gets a call from a customer, maybe

 15 it's a customer -- they've got two different

 16 customers that have called in right around the

 17 same time and they've got two orders that almost

 18 could be executed against each other. And what

 19 it's saying is that when -- you know, if you're --

 20 when you're putting these into the system you

 21 basically -- in a sense you don't preload where

 22 you put it in so that there is the chance of their
 148

 1 interacting with anybody else's if there's a firm

 2 quote out there that there's, you know, you're

 3 trying to negate that chance. There's a pause

 4 there that you would put in place and that is

 5 similar to something we've seen in the -- that

 6 currently happens in the futures industry, it's a

 7 similar requirement and so there's this

 8 possibility that you would actually interact.

 9 It's -- one thing we would like to do is

 10 we hope to encourage, for those participants that

 11 want to put a firm quote out there from a

 12 bid-and-ask, that there is reason to believe that

 13 they might be able to -- that parties may interact

 14 against them, but -- so, there is a pause there.

 15 It also could be that somebody calls

 16 their swap dealer -- I mean, they're technically

 17 not acting as a swap dealer when they're on the

 18 SEF, but they call them and they want to do it on

 19 the SEF or they need to do it on the SEF and

 20 there's an interaction between -- the swap dealer

 21 was willing to take the other side, again, that

 22 there is, in a sense, you can't have -- there is
 149

 1 this process where the swap dealer would first put

 2 the customer order in and then there'd be this

 3 pause and then their order would go in. So they

 4 may or may not be on the other side depending on

 5 whether there is already a firm bidder asset. Is

 6 response competitive? I mean, this is only going

 7 to matter if there is no firm bidder assets there

 8 that's responsive, that's competitive, they would

 9 still get matched against each other.

 10 COMMISSIONER O'MALIA: Do you have --

 11 MR. VAN WAGNER: Could I just actually

 12 supplement? I mean, just -- it is a basic --

 13 there is a recognition that these markets are

 14 going to be thinly traded and there might well not

 15 be anything in the market and so it is a -- the

 16 15-second exposure to the market is a bit of a

 17 check in ensuring that the price is fair. And so

 18 if it's exposed, if the customer side is first

 19 exposed to the market, the market presumably would

 20 get to react. We thought 15 seconds was a

 21 reasonable amount of time, and then the entering

 22 broker presumably would be able to match it if
 150

 1 nothing else came in to intervene.

 2 COMMISSIONER O'MALIA: My understanding, 

 3 this is similar to the options market where they

 4 have a three- second --

 5 MR. VAN WAGNER: And also similar --

 6 right. I'm not sure on all the timing, but -- and

 7 also in the futures market where there's been

 8 pre-execution communication between an

 9 intermediary and a customer and they want to

 10 submit orders together. There's just this check

 11 between the entry of the two orders.

 12 MS. ADRIANCE: Just to add to that,

 13 usually in the futures industry what you have is 5

 14 seconds for futures and 15 seconds for options and

 15 -- which is where this --

 16 COMMISSIONER O'MALIA: Well, I'm getting

 17 there's a strong bias towards the futures market

 18 here, so.

 19 MS. ADRIANCE: It -- and it is not -- is

 20 basically that -- we don't view this as a bias.

 21 We view this as trying to look around that's been

 22 in the swaps industry, is there good practices we
 151

 1 can use as examples? Is there good practices in

 2 the futures industry we can use for examples? But

 3 we've always tried to look at -- we certainly took

 4 into account whether the futures industry example

 5 is appropriate for this model.

 6 COMMISSIONER O'MALIA: Okay, in taking

 7 into account what's fair, what's right, do you

 8 have any concern whatsoever that large size, the

 9 transactions that are prevalent in the swaps

 10 market, might be undermined with this 15-second --

 11 MR. VAN WAGNER: Well, large

 12 transactions, of course, if they're -- when -- if

 13 it's premised on large transactions --

 14 COMMISSIONER O'MALIA: Well, you had

 15 mentioned the illiquid and --

 16 MR. VAN WAGNER: If it's large enough,

 17 they can use the block mechanism where there is no

 18 exposure whatsoever.

 19 COMMISSIONER O'MALIA: Well, my concern

 20 all along, SEFs are -- you know, there's a rule of

 21 construction we keep looking at and we've debated

 22 extensively, the pre- trade transparency
 152

 1 requirements, and the facilitating on-exchange

 2 trading. Now, they're not always working together

 3 in every aspect and I want to make sure that, you

 4 know, through electronic trading we're checking

 5 the box, we're getting pre-trade transparency to

 6 the absolute extent we can. We also have to work

 7 to make sure we get on- exchange, and using this

 8 block as an excuse isn't -- I'd prefer to put more

 9 on the exchange and just to say, well, I'm sorry,

 10 just put it in the block. That doesn't give us

 11 the transparency we need in either factor. It

 12 doesn't promote on-exchange and it doesn't promote

 13 pre-trade transparency, so, I don't want that to

 14 be a useful copout. I want to put as much as we

 15 can on the exchange. And, therefore, I believe we

 16 must have flexible venues for exchanges here and

 17 we've worked hard to get to a more flexible

 18 approach.

 19 You know, you all have worked hard,

 20 words matter, we don't have a real good SEF

 21 definition. I'm not saying that this definition

 22 isn't good, but we don't have an example out there
 153

 1 of a good SEF and so we're making it up. And we

 2 need to make it up and, I believe cast, a wide net

 3 and then, you know, we can come back at it if

 4 we've missed it. But to do a broad catch now is,

 5 I think, the prudent thing to do and make sure we

 6 don't leave anybody out and avoid or deter

 7 pre-trade transparency and on-exchange trading.

 8 CHAIRMAN GENSLER: Can I ask

 9 Commissioner O'Malia a question?

 10 COMMISSIONER O'MALIA: I didn't sign up

 11 for that. Yeah, sure. of course.

 12 CHAIRMAN GENSLER: No, no, we're

 13 deliberating --

 14 COMMISSIONER O'MALIA: I'm sitting right

 15 here.

 16 CHAIRMAN GENSLER: No, it's just you

 17 raised something that I think is a very

 18 interesting question about blocks. I tend to

 19 think that the block size is -- I mean, it's a

 20 proposed rule, we'll see where it is. They're not

 21 necessarily going to stay that high. I mean, I

 22 think they'll come down based on that formula, but
 154

 1 whatever those numbers are, are you -- you're

 2 highlighting that we've sort of given blocks maybe

 3 a total pass and there's maybe some transparency

 4 even on the blocks that might be appropriate?

 5 Might be appropriate.

 6 COMMISSIONER O'MALIA: Well, we'll see

 7 when the block comments come back, but

 8 understanding what the block is and how those

 9 trade is very closely tied to what you can

 10 transact on a SEF and if people are comfortable

 11 that they can transact flexibly on a SEF and do

 12 their business, we will have far less necessity

 13 for block trades.

 14 CHAIRMAN GENSLER: Right, right, I think

 15 you're right. I think that as people see if they

 16 can trade -- I mean, in the futures markets it's

 17 sort of you can trade a tick away or maybe a tick

 18 and a half away, you'd rather just take it down to

 19 the floor and get it done because the block's

 20 going to cost you, you know, whether it's three

 21 ticks or four ticks or something else. And so

 22 that's -- that will be if there's enough liquidity
 155

 1 in these swap execution facilities, I think people

 2 are just going to want to do it in the smaller

 3 sizes because they'll get better pricing.

 4 If, on the other hand, it develops that

 5 they don't get better pricing, then they'll -- I 

 6 think they'll rightly want to keep them in blocks.

 7 COMMISSIONER O'MALIA: I think we'll

 8 move to smaller blocks, smaller size and better

 9 pricing as the market develops, but that's going

 10 to be --

 11 CHAIRMAN GENSLER: I think we agree on

 12 that. I think we agree on that.

 13 If there are no further questions, Mr.

 14 Stawick, do you want to call the roll?

 15 MR. STAWICK: Commissioner O'Malia?

 16 COMMISSIONER O'MALIA: Aye.

 17 MR. STAWICK: Commissioner O'Malia, aye.

 18 Commissioner Chilton?

 19 COMMISSIONER CHILTON: Aye.

 20 MR. STAWICK: Commissioner Chilton, aye.

 21 Commissioner Sommers?

 22 COMMISSIONER SOMMERS: No.
 156

 1 MR. STAWICK: Commissioner Sommers, no.

 2 Commissioner Dunn?

 3 COMMISSIONER DUNN: Aye.

 4 MR. STAWICK: Commissioner Dunn, aye.

 5 Mr. Chairman?

 6 CHAIRMAN GENSLER: Aye.

 7 MR. STAWICK: Mr. Chairman, aye. Mr.

 8 Chairman, on this question, the ayes are four, the

 9 nays are one.

 10 CHAIRMAN GENSLER: With the vote being

 11 four to one, the staff recommendation on core

 12 principles on SEFs will be forwarded to the

 13 Federal Register. I thank you all for this

 14 excellent work.

 15 Rick and David, I gather you get to stay

 16 here -- or is it just Rick? Whomever. You are

 17 the chief counsel of the Division of Market

 18 Oversight.

 19 MR. VAN WAGNER: We're having so much

 20 fun.

 21 CHAIRMAN GENSLER: And then the rule

 22 team for position limits will be coming up. I
 157

 1 guess I can filibuster a little bit, but this team

 2 has done -- I mean, every one of the teams has

 3 done remarkable work, but this is something that

 4 we had three hearings on in 2009. We had a rule

 5 proposal in January of this year followed by yet

 6 another meeting in March of this year on the

 7 metals markets. Congress had numerous meetings

 8 and hearings in three years of time. They did

 9 significantly change and enhance our rule writing

 10 authority to be expanded to the swaps markets and

 11 with that I think the team is here so I'm going to

 12 hand it over. I've filibustered.

 13 Steve Sherrod, who is the head of our

 14 surveillance unit inside of the Division of Market

 15 Oversight; Bruce Fekrat, who is an attorney who

 16 has worked as the team lead and, in fact, was the

 17 attorney who led most of the writing on the rule.

 18 MR. FEKRAT: Good afternoon.

 19 CHAIRMAN GENSLER: Good afternoon. We

 20 want to be quick enough that we don't lose Mike

 21 Dunn.

 22 MR. FEKRAT: Okay. Commissioners, Mr.
 158

 1 Chairman, thank you for the opportunity to present

 2 this rule and the proposal to you. I'd also like

 3 to take a moment to thank and recognize the hard

 4 work of Ken Danger, Salman Banaei, Ali Hosseini,

 5 Tom Littlefield, Jim Outen, and Carlene Kim and

 6 Neal Kumar from OGC.

 7 The proposed regulations would establish

 8 a process for setting position limits for certain

 9 derivatives executed pursuant to the rules of

 10 designated contract markets and, at the same time,

 11 for physical commodity swaps that are economically

 12 equivalent to the DCM contracts. The proposed

 13 regulations would establish initial position

 14 limits through a Commission order. The proposal

 15 also includes exemptions for bona fide hedging

 16 transactions and for positions that were

 17 established in good faith prior to the effective

 18 date of any final regulations that may be adopted

 19 pursuant to the rules.

 20 Staff also recommends new account

 21 aggregation and visibility regulations, which are

 22 very similar to current reporting obligations for
 159

 1 large bona fide hedgers and new regulations

 2 establishing requirements and standards for

 3 position limits and accountability rules that are

 4 implemented by registered entities.

 5 The Dodd-Frank Act amended Section 4(a)

 6 of the Commodity Exchange Act and authorized the

 7 Commission to extend position limits beyond

 8 futures and option contracts to swaps that are

 9 economically equivalent to DCM futures contracts

 10 with position limits. Most importantly, the act

 11 requires that the Commission apply position limits

 12 on an aggregate basis to economically equivalent

 13 derivatives across different trading facilities

 14 and manners of execution.

 15 A primary mission of the CFTC is to

 16 foster open, efficient functioning of the

 17 commodity derivative markets. Congress has

 18 declared that sudden or unreasonable price

 19 fluctuations that can be attributed to excessive

 20 speculation create an undue and unnecessary burden

 21 on commerce and has directed that the Commission

 22 establish limits on the amounts of positions which
 160

 1 may be held as it finds necessary to diminish,

 2 prevent, or eliminate such burdens.

 3 As the plain reading of the statute --

 4 statutory text indicates, the prevention of

 5 unreasonable changes in price attributable to

 6 large speculative positions, even without

 7 manipulative intent, is a congressionally endorsed

 8 regulatory objective. The Commission may impose

 9 position limits prophylactically based on its

 10 reasonable judgment that such limits are necessary

 11 for the purpose of diminishing, eliminating, or

 12 preventing the burdens associated with excessive

 13 speculation.

 14 The proposal enumerates 28 core futures

 15 contracts that would be subject to the proposed

 16 position limit framework. The 28 commodities

 17 covered by the proposal include gold, silver,

 18 copper, crude oil, natural gas, soybeans, and

 19 wheat. The numerated contracts were selected

 20 either because they have high levels of open

 21 interest and significant notional value or because

 22 they otherwise may provide a reference price for a
 161

 1 significant number of cash market transactions.

 2 The covered contracts, which are called "reference

 3 contracts" in the proposal, are defined as

 4 derivatives that are directly or indirectly linked

 5 to the price of an enumerated contract or that are

 6 based on the price of the same commodity for

 7 delivery at the same locations as that of an

 8 enumerated contract or another delivery location

 9 with substantially the same supply and demand

 10 fundamentals.

 11 Staff recommends establishing limits in

 12 two phases. In the first phase, staff recommends

 13 that the Commission establish spot-month position

 14 limits at the levels currently imposed by DCMs.

 15 The first phase would include related provisions,

 16 such as proposed regulations pertaining to bona

 17 fide hedging and account aggregation standards.

 18 During the second phase staff recommends 

 19 that the Commission establish and single-month and

 20 all-months- combined position limits and, at that

 21 time, to revise spot- month limits to base them on

 22 current estimates of deliverable supply. Phased
 162

 1 implementation or adoption of final regulations is

 2 possible because DCMs currently set spot-month

 3 position limits and base those position limits on

 4 their estimates of deliverable supply. These

 5 spot-month limits can, therefore, be implemented

 6 by the Commission relatively expeditiously.

 7 For the second phase staff recommends

 8 that the Commission determine the numerical

 9 non-spot-month position limits for exempt and

 10 agriculture commodity derivatives by applying open

 11 interest formulas. Because the Commission will

 12 not be able to gather swap positional data for

 13 some time, staff recommends that the Commission

 14 determine the levels of such limits when the

 15 Commission receives data regarding the levels of

 16 open interest in the swap markets to which these

 17 limits will apply.

 18 The proposed spot-month position limit

 19 formula seeks to minimize the potential for

 20 corners and squeezes by facilitating the orderly

 21 liquidation of positions as the market approaches

 22 the end of trading and also by restricting swap
 163

 1 positions which may be used to influence the price

 2 of reference contracts that are executed on DCMs.

 3 In the second phase of implementation

 4 these spot-month limits, rather than being based

 5 on DCM position limits, would be based on 25

 6 percent of estimated deliverable supply as

 7 determined by the Commission, which could choose

 8 to adopt exchange-provided estimates or, for

 9 example, in the case of inconsistent estimates

 10 from exchanges could issue its own estimates. The

 11 proposed regulation would apply spot-month

 12 position limits separately for physical contracts

 13 and for cash-settled contracts, including

 14 cash-settled swaps. A trader may, therefore, have

 15 up to the spot-month position limit in both the

 16 physically delivered and cash-settled contracts.

 17 With respect to cash-settled contracts,

 18 the proposed regulations also incorporate a

 19 conditional spot- month limit that permits traders

 20 with hedge -- without a hedge exemption to acquire

 21 position levels at 5 times the spot-month limit if

 22 such positions are exclusively in cash- settled
 164

 1 contracts and the trader doesn't hold a physical

 2 commodity position that is more than 25 percent of

 3 the estimated deliverable supply. In contrast to

 4 spot-month position limits, which are set as a 

 5 function of deliverable supply, the class and

 6 aggregate single- and all-month limits as proposed

 7 would be tied to a specific percentage of overall

 8 open interests for a particular reference contract

 9 in the aggregate.

 10 Under the proposed regulations there are

 11 two classes of contracts in connection with

 12 non-spot-month limits. One class is comprised of

 13 all futures contracts executed pursuant to the

 14 rules of the DCM. The second class is comprised

 15 of all swaps. Class and aggregate position limits

 16 based on a percentage of open interest help

 17 prevent any single speculative trader from

 18 acquiring excessive market power. Class limits

 19 ensure that market power is not concentrated in

 20 any one sub-market. The formula proposed ensures

 21 that no single speculator can constitute more than

 22 10 percent of a market as measured by open
 165

 1 interests, up to 25,000 contracts of open

 2 interests and 2.5 percent thereafter.

 3 The new statutory of a bona fide hedge

 4 generally follows the existing definition in

 5 Commission Regulation 1.3(z) except the directive

 6 requires that all bona fide hedging transactions

 7 and positions to represent a substitute for a

 8 physical market transactions, and the directive

 9 provides an explicit exemption for a trader to

 10 reduce the risks of swap positions provided that

 11 the counterparty to the swap transaction would

 12 have qualified for a bona fide hedging transaction

 13 exemption or the risk- reducing positions offset a 

 14 swap that itself qualifies as a bona fide hedging

 15 transaction. The proposed definition of "bona

 16 fide hedging" conforms to the statutory directive.

 17 Staff recommends regulations that would

 18 set position visibility or reporting levels, also,

 19 and establish the requirements for all traders to

 20 report positions to us when the visibility levels

 21 are exceeded. The reporting regulations aim to

 22 make the derivatives and cash portfolios of the
 166

 1 largest traders in reference contracts visible to

 2 the Commission.

 3 Staff also recommends proposed

 4 regulations for account aggregation standards.

 5 Thus, under such rules, the proposed rules would

 6 apply to position limits in reference contracts to

 7 all position and accounts in which any trader,

 8 directly or indirectly, has an ownership or equity

 9 interest of 10 percent or more by power of

 10 attorney or otherwise controls trading. Staff

 11 recommends a limited exemption from aggregation

 12 provisions for position in pools, the limited

 13 exemption for positions for future Commission

 14 merchants in certain discretionary accounts, and a

 15 limited exemption for entities to disaggregate the

 16 positions of an independently controlled and

 17 managed trader that is not a financial entity. In

 18 all three cases, the exemptions would require and

 19 become effective only upon the Commission's

 20 approval of an application under the proposed

 21 regulations.

 22 I, along with my colleagues, would be
 167

 1 happy to answer any of your questions.

 2 CHAIRMAN GENSLER: Bruce, thank you.

 3 The chair will entertain a motion to accept the

 4 staff recommendation on position limits.

 5 COMMISSIONER SOMMERS: So moved.

 6 CHAIRMAN GENSLER: Do I hear a second?

 7 COMMISSIONER O'MALIA: Second.

 8 CHAIRMAN GENSLER: The chair will now

 9 allow -- open the floor for commissioner

 10 questions. I wanted to ask a number of questions.

 11 I do support the proposed rulemaking to establish

 12 position limits for physical commodities as the

 13 CFTC, I believe, has been directed by Congress to

 14 do. We do not as an agency regulate or set

 15 prices, but we have, since the 1930s, been asked

 16 to address ourselves to the burdens that may come

 17 from excessive speculation and to use this method,

 18 this means of limiting positions.

 19 What we've done over the decades,

 20 initially in the agricultural markets and later

 21 with the help of the exchanges and the energy and

 22 oil -- energy and metals markets, is to address
 168

 1 ourselves to large positions or concentrations in

 2 those markets. And at the core of this was

 3 promoting market integrity, which the agency has

 4 historically done in a number of ways, but

 5 position limits has been part of that.

 6 I think position limits have helped

 7 protect markets both in clear times and in stormy

 8 times. I'm just quoting from a Commission ruling

 9 in 1981. This might be preamble text, but, "The

 10 capacity of any contract market to absorb the

 11 establishment and liquidation of large speculative

 12 positions in an orderly manner is related to the

 13 relative size of such positions, i.e., the

 14 capacity of the market is not unlimited."

 15 And I think, you know, those were

 16 written almost years by this Commission. They're

 17 relevant today.

 18 This proposal today would implement new

 19 authorities under Dodd-Frank to prevent excessive

 20 speculation and manipulation in the markets. And,

 21 of course, Congress did expand the scope of this

 22 mandate to set limits also to include certain
 169

 1 swaps: Those that are economically equivalent and

 2 actually, later on, those swaps that perform a

 3 significant price discovery function or deemed to

 4 perform that.

 5 This proposal reestablishes position

 6 limits in the agricultural -- I should say

 7 reestablishes position limits in the energy and

 8 metals markets. And I do have a question, Mr.

 9 Sherrod or Bruce, if you could just tell us a

 10 little of the history, or Rick. I know that in

 11 energy markets the exchanges set them through the

 12 summer of 2001, but I don't remember in metals

 13 what it was.

 14 MR. SHERROD: That's correct. The

 15 Commission, through two different Federal Register

 16 notices in 1991 and '92, changed the framework.

 17 The Commission approved position accountability in

 18 lieu of the all-month limits for silver and gold

 19 in August of '92; for copper the next year in June

 20 of '93; sugar, number 11, in April 2001. We moved

 21 to a certification format with CFMA. And cocoa

 22 was certified in July 2001. Energy, as you
 170

 1 mentioned, were certified in the summer of 2001.

 2 And then finally, the Commission approved a rule

 3 for coffee C that substituted position

 4 accountability levels for position limits in the

 5 all-months and the single non-spot months.

 6 CHAIRMAN GENSLER: I thank you. So, in

 7 essence, this proposal would -- that may be at

 8 different levels and different numbers, but

 9 reestablish position limits in a couple of

 10 agricultural markets, but in the energy and

 11 metals.

 12 MR. SHILTS: And just -- let me just add

 13 a little bit.

 14 CHAIRMAN GENSLER: Surely.

 15 MR. SHILTS: Because in the '80s, the

 16 Commission required all markets to have limits,

 17 spot-month and back- month limits. And then in

 18 the '90s, they put out two, I guess, concept

 19 releases saying exchanges could adopt position

 20 accountability that first applied to the

 21 financials and, then as Steve said, it applied to

 22 metals and energy. And then the exchanges at
 171

 1 various times decided to implement that

 2 accountability regime.

 3 CHAIRMAN GENSLER: Thank you, Rick.

 4 Also this proposal includes position limit regime

 5 for spot month and another regime for -- well, as

 6 Rick calls it, the back months, if I might. It

 7 would implement the spot-month limit, which are

 8 currently set in agriculture, energy, and metals

 9 currently. Is that right? I mean, there are

 10 spot- month limits in all of those products.

 11 Steve?

 12 MR. SHERROD: That's correct.

 13 CHAIRMAN GENSLER: Sooner, and then a

 14 single- month or all-months combined limit later.

 15 And I have a question to -- maybe this is a

 16 general counsel's question, but in terms of this

 17 phased implementation, Dan, does the Commission

 18 have the legal authority to adopt the approach

 19 that is in the proposed rule being recommended

 20 today?

 21 MR. BERKOVITZ: Mr. Chairman, we believe

 22 the Commission does have ample legal authority to
 172

 1 adopt the position limits as proposed on a phased

 2 implementation schedule. Generally, as a matter

 3 of administrative law, the Administrative

 4 Procedure Act and case law interpreting that act

 5 and various statutes provides agencies with

 6 reasonable leeway in the manner and issuance,

 7 timing, and implementation of agencies' rules.

 8 This is particularly true in a case such as this

 9 where there's complex issues involved in the rule.

 10 In addition, the Commodity Exchange Act

 11 itself permits the Commission to adopt position

 12 limits and phases such as proposing a formula now

 13 and opposing the actual numerical limits once we

 14 have more data. Section 4(a) of the act, which

 15 provides the Commission and directive to issue

 16 position limits, provides the Commission with

 17 discretion to determine the appropriate levels of

 18 such limits and how best to apply any such limits

 19 in order to achieve the statutory objectives of

 20 diminishing, eliminating, or preventing the

 21 burdens from excessive speculation.

 22 For example, when the Commission first
 173

 1 proposed and adopted the open interest formula in

 2 the early 1990s, the application of the formula

 3 was phased in over a period of time. The

 4 Commission first proposed the 10.25 -- 10, 2-1/2

 5 formula that's in the proposal today for certain

 6 agricultural commodities in 1992. About one year

 7 later, in 1993, the Commission adopted the formula

 8 in an interim final rule. And I would also note

 9 that at that time that was really the first time

 10 we moved what might be called aggregate limits

 11 because we combined the futures and the options

 12 limits to a single limit. The Commission phased

 13 in the formula over a period of time. The first

 14 phase was aggregating futures and options, the

 15 second phase was going halfway to the formula

 16 levels, and then the third phase was adopting the

 17 full formula levels. So there's clear precedent

 18 for the Commission phasing in position limits over

 19 time, so we believe there's -- both under the

 20 Commodity Exchange Act and the Administration

 21 Procedure Act there would be authority to adopt a

 22 phase-in implementation as in the proposal.
 174

 1 CHAIRMAN GENSLER: And does the

 2 Commission have the legal authority under the act

 3 to do a role that would provide a formula, as this

 4 rule does, a formula for determining the position

 5 limits, but then that the numerical limits under

 6 the formula would be established later date by an

 7 order as I understand it? So this would be

 8 establishing a formula. Could we, in essence, go

 9 final on the formula, though that it would be, you

 10 know -- the actual limits would be determined by

 11 an order later?

 12 MR. BERKOVITZ: Right, Mr. Chairman.

 13 The Commission could, by rule, establish the

 14 formula. The formula would specify how the data

 15 would be -- how the numerical limits would be

 16 calculated based on the data, what we would do

 17 with that data, so people would have notice and

 18 opportunity for comment on the formula in the rule

 19 under consideration. And then when the data comes

 20 in we just crank the data through the formula and

 21 the limits could be established.

 22 CHAIRMAN GENSLER: And though Congress
 175

 1 had 180 days on the exempt commodities and 270

 2 days on the agricultural commodities, does your

 3 answer still stand? I mean, it's in light of

 4 those things?

 5 MR. BERKOVITZ: Right. The Commission

 6 has, again, the courts would find, a reasonable

 7 amount of discretion in terms of issuance of the

 8 rule. Even if it's past 180 days, our authority

 9 very clearly does not go away on day 181. The

 10 authority is there on day 181 and 182 and so on,

 11 so we have the authority past day 180 clearly.

 12 And we have a reasonable amount of time before a

 13 court would -- before there would be any

 14 (inaudible).

 15 CHAIRMAN GENSLER: That's very helpful.

 16 Let me just ask I don't know who on the panel just

 17 so -- to actually implement the spot-month limits

 18 -- not the back- months, but the spot-month limits

 19 -- am I correct, the proposal's a proposal that we

 20 would be relying on the exchanges to do some

 21 calculations and then it would be reviewed and

 22 validated by the CFTC? Is that correct?
 176

 1 MR. FEKRAT: That's correct. The DCM

 2 limits are premised on 25 percent of deliverable

 3 supply. And when they set these limits we either

 4 approve them or certify them, so we conduct a

 5 review and ensure that what they're doing and the

 6 limits that they're setting is consistent with the

 7 cash market and the deliverable supply for the

 8 particular futures contract.

 9 CHAIRMAN GENSLER: And I'd ask another

 10 question of Mr. Berkovitz and then I have some

 11 questions for you, Rick.

 12 Dan, is the Commission required to find

 13 that there has been excessive speculation or price

 14 distortions from speculation in order to issue

 15 position limits? In essence, is the Commission

 16 required to find that position limits are

 17 necessary to prevent excessive speculation or will

 18 prevent excessive speculation in order to adopt

 19 position limits? I guess that's two questions.

 20 Maybe I should split them.

 21 MR. BERKOVITZ: Mr. Chairman, in

 22 summary, we believe the Commission is not required
 177

 1 to make a specific finding that there has been 

 2 excessive speculation or that there have been

 3 price distortions or that the limits will, in

 4 fact, prevent excessive speculation or those price

 5 distortions. As Bruce mentioned in his opening

 6 statement, position limits are a prophylactic

 7 measure. They're intended to prevent harm to the

 8 market, so obviously you don't need harm to have

 9 occurred. They're supposed to be preventative.

 10 The Commodity Exchange Act directs the

 11 Commission to fix such limits that the Commission

 12 finds are necessary to diminish, eliminate, or

 13 prevent such burdens on interstate commerce that

 14 Congress has already found result from excessive

 15 speculation. And this finding need not be made

 16 through detailed economic analysis or economic

 17 studies, but rather the finding of what position

 18 limits are necessary may be based on the

 19 Commission's judgment and experience with position

 20 limits.

 21 I think you've quoted and Bruce also

 22 mentioned the excerpt from the 1981 rulemaking,
 178

 1 when the Commission first required the exchanges

 2 to have position limits for all commodities where

 3 the Commission itself hadn't established position

 4 limits. And this issue was raised at the time the

 5 Commission proposed the rule that exchanges shall

 6 have position limits for all commodities that were

 7 not subject to the federal limits at the time,

 8 which would have been many of the non-agricultural

 9 commodities. Commenters raised this issue, saying

 10 you need to find that there has been excessive

 11 speculation and the Commission needs to find that

 12 these specific limits will prevent specific harms.

 13 And the Commission itself stated at the

 14 time, "As stated in the proposal, the prevention

 15 of large and/or abrupt price movements which are

 16 attributable to extraordinarily large speculative

 17 positions is a congressionally endorsed regulatory

 18 objective of the Commission. Further, it is the

 19 Commission's view that this objective is enhanced

 20 by speculative position limits since it appears

 21 that the capacity of any contract market to absorb

 22 the establishment and liquidity of large
 179

 1 speculative positions in an orderly manner is

 2 related to the relative size of such positions,

 3 i.e., the capacity of the market is not

 4 unlimited."

 5 Again, the Commission also responded to

 6 the general objections regarding the effectiveness

 7 and the need for position limits that was raised

 8 in some of the comments. The Commission's

 9 response in 1981 was, "The Commission believes

 10 that the observations concerning the general

 11 desirability of limits are contrary to

 12 congressional findings in Section 3 and Section

 13 4(a) of the act and considerable years of federal

 14 and contract market regulatory experience."

 15 A similar statement -- the Commission

 16 made a similar statement when it adopted the 10,

 17 2-1/2 formula in 1993: "Speculative position

 18 limits have been a tool for the regulation of the

 19 futures markets for over a half- century. During

 20 this time the Congress has consistently expressed

 21 confidence in the effectiveness of speculative

 22 position limits as a tool of preventing
 180

 1 unreasonable or unwarranted price fluctuations."

 2 So those are the examples of the type of

 3 findings. They're not specific findings. We

 4 don't have to find that harm has occurred. These

 5 are preventive measures.

 6 CHAIRMAN GENSLER: Thank you. That was

 7 very helpful.

 8 Commissioner Chilton has shown

 9 extraordinary leadership on these issues and we

 10 together were asked to testify yesterday in front

 11 of the House Subcommittee and the Agricultural

 12 Committee. And one of the concerns raised

 13 yesterday, I think by both of us, is that these --

 14 we're in this challenging circumstance of putting

 15 a formula in place, but if it's a formula applied

 16 to data that comes later, it will be some time

 17 until these are in place.

 18 So I have a question for Rick or maybe

 19 it's more a statement and then you'll react. But

 20 based on the proposal it'll be some time before

 21 position limits are in place. And in the interim,

 22 do we have the ability -- so in this interim
 181

 1 number of months -- do we have the ability to ask

 2 futures market participants for information about

 3 their futures and their swaps and cash positions

 4 if they exceed certain levels?

 5 For instance, could we, during these

 6 number of months, have these various parties, you

 7 know, the market participants that have a

 8 significant position greater than the levels that

 9 are being suggested here, so if we were to do

 10 calculations greater than this 10 and 2-1/2

 11 percent formula, can we ask for additional

 12 information?

 13 MR. SHILTS: Yes, Mr. Chairman. Under

 14 our Regulation 18.05 the Commission has brought 

 15 authority to inquire about a futures market

 16 participant's future swaps or cash positions and

 17 asked them to submit information about their book

 18 of business through our special call authority.

 19 And, in fact, I think it was in 2009, the

 20 Commission clarified or modified Regulation 18.05

 21 to clarify our authority to get information about

 22 a trader's swaps positions.
 182

 1 CHAIRMAN GENSLER: If that's the case, I

 2 think it would be helpful to do that, that until

 3 position limits become fully implemented, and I

 4 know it's some number of months away, but until

 5 they're fully implemented I think that it would

 6 give this Commission a better look into the market

 7 and help us identify potential concerns. But I'd

 8 like, you know, your thoughts on that, too.

 9 MR. SHILTS: I do think that that would

 10 be helpful from a surveillance perspective. We do

 11 want to know more about traders when their

 12 positions are large, particularly if a trader does

 13 not have a bona fide exemption we'd want to know

 14 the details of their position and what their

 15 intentions are. And also, having that information

 16 would give us additional information into how the

 17 positions proposed -- that may be proposed today

 18 actually might impact traders if they are put into

 19 effect finally.

 20 CHAIRMAN GENSLER: I thank you, Rick,

 21 for that.

 22 COMMISSIONER SOMMERS: Can I ask a
 183

 1 couple questions to clarify?

 2 CHAIRMAN GENSLER: Sure.

 3 COMMISSIONER SOMMERS: Thank you for

 4 letting me interrupt.

 5 CHAIRMAN GENSLER: Always.

 6 COMMISSIONER SOMMERS: How is this

 7 different? We used our 18.05 authority to do the

 8 special call that we're currently collecting.

 9 MR. SHILTS: Correct.

 10 COMMISSIONER SOMMERS: So how would this

 11 be any different than what we're currently

 12 collecting under 18.05?

 13 MR. SHILTS: I'm sorry, this would be

 14 addressed to, as I understand it, to traders that 

 15 -- in the futures markets that have positions that

 16 would exceed the proposed levels that the staff is

 17 recommending now, the 10, 2-1/2 percent, whereas

 18 the other special call was really focused on swap

 19 dealers to get information, looking behind their

 20 (inaudible) to the positions of traders with

 21 respect to both their swaps book and those that

 22 might be, you know, index trading. I mean, it's a
 184

 1 different focus and it'd be a different universe.

 2 COMMISSIONER SOMMERS: In current

 3 practice, if we have a large trader in our market

 4 that is above the position limit, the spot-month

 5 position limit that already exists for all of

 6 these markets, if we have somebody who's above

 7 that limit do we not already do that kind of due

 8 diligence, or the exchange, to know why that

 9 entity is above a position limit, what their cash

 10 market positions are, what their swaps positions

 11 are, I mean, isn't that already current practice?

 12 MR. SHILTS: It's current practice at

 13 the exchanges. I mean, in most cases it's their

 14 obligation to enforce limits. Except for the few

 15 agricultural commodities, it's the exchanges that

 16 actually do enforce our have limits in place, and

 17 most of those just apply to the spot month. They

 18 have position accountability in the back months.

 19 And also, as part of our surveillance program, we,

 20 working with the exchange, would be looking into

 21 traders' positions. But we wouldn't necessarily,

 22 unless we thought there was some market situation,
 185

 1 be gathering information with respect to any

 2 specific level for -- looking at the back months

 3 right now. And I think this is a proposal to do

 4 that.

 5 COMMISSIONER SOMMERS: This is for the

 6 back months as well.

 7 MR. SHILTS: Yeah.

 8 COMMISSIONER SOMMERS: Okay.

 9 CHAIRMAN GENSLER: So just, Rick, to

 10 clarify, I mean, I think that it would be helpful

 11 during this pendency -- let's call it a transition

 12 period -- that we as a Commission, through our 

 13 surveillance of markets, understand whom in the

 14 markets for these 28 contracts and energies,

 15 metals, and agricultural products, are beyond the

 16 10 and 2-1/2. They're not firm limits; they're

 17 just a proposal. But it would be helpful to

 18 understand whom amongst and know more about that

 19 with regard to their positions, their swap

 20 positions, and cash positions. And you're saying

 21 we do have that authority or ability, is that

 22 right?
 186

 1 MR. SHILTS: We could -- I mean, it

 2 could be done under a special call or it could be

 3 done -- I mean, we regularly contact traders, so

 4 if we could set a threshold level where we would

 5 be -- for traders that exceed these -- you know,

 6 the 10, 2-1/2 percent levels, we would contact

 7 them. It could be done informally as we do now or

 8 it could be done through a special call.

 9 CHAIRMAN GENSLER: And that's an

 10 excellent point because a lot of -- the public

 11 should know there's a lot of communications

 12 between this agency and market participants that

 13 don't need, you know, a special document or call.

 14 But I'd like -- and I think I -- Dan, you tell me

 15 if I have the authority to do this as just

 16 directing the staff, but I'd like to ask the staff

 17 or, more informally, direct the staff that during

 18 this pendency, during this transition period until

 19 any limits are implemented, that you'll -- we'll

 20 review large trader positions on a designated

 21 contract market or significant price discovery

 22 markets. That's a technical term, I know, but for
 187

 1 these contracts that we're reviewing today, these

 2 28 contracts. And if a trader does appear to

 3 exceed the numbers -- the 10 and 2-1/2 level for

 4 the markets -- I'd ask staff to make appropriate

 5 inquiries, collect appropriate information,

 6 whether that be, as you say, in the informal way

 7 or if you need to through the special, and then

 8 monitor it and then report to us.

 9 We have -- the public should know we

 10 have -- and I think it's going on for over 30

 11 years -- every Friday, a surveillance meeting, a

 12 surveillance and enforcement meeting. We publish

 13 that in the Federal Register, but it's a closed

 14 door meeting. But I'd like to direct staff to do

 15 that on these, particularly during this period, to

 16 keep us informed and just so that we can

 17 understand that during that period of time.

 18 Dan?

 19 MR. BERKOVITZ: You certainly have that

 20 authority, Mr. Chairman.

 21 CHAIRMAN GENSLER: Thank you. Then as I

 22 say, Mr. Shilts, make it so.
 188

 1 MR. SHILTS: Yes. Yes, we will do that

 2 and report to the Commission on a monthly basis.

 3 CHAIRMAN GENSLER: Thank you.

 4 Commissioner Dunn?

 5 COMMISSIONER DUNN: Thank you very much,

 6 Mr. Chairman. I'd be remiss if I didn't recognize

 7 my colleague Commissioner Chilton for all the hard

 8 work that he's put into this. If the number of

 9 e-mails and late- night phone calls that I've

 10 received (inaudible) are any indication of how

 11 much work he's put into this, it has been nothing

 12 short of amazing.

 13 When we were discussing this back on

 14 August 5 of 2009, I had said I was concerned that

 15 we didn't have the authority to do

 16 over-the-counter. We now have that authority.

 17 But I was also concerned about what was happening

 18 with foreign boards of trade.

 19 And if I could, Mr. Chairman, if Jackie

 20 Mesa is there, if she could have a seat and answer

 21 a couple questions for me.

 22 CHAIRMAN GENSLER: That would be
 189

 1 terrific. And for the public, Jackie is the head

 2 of our Office of International Affairs; done an

 3 excellent -- I mean, she travels the globe and I'm

 4 glad she's here because sometimes she's not.

 5 MS. MESA: I'm here, Commissioner Dunn.

 6 COMMISSIONER DUNN: Thank you. Thank

 7 you. It's my understanding that the EU is

 8 considering position limits. And can you describe

 9 the approach to position limits that they are

 10 taking?

 11 MS. MESA: Sure. Just to be clear on

 12 the background, on December 8th, the European

 13 Commission published a public consultation

 14 document on revising their Markets in Financial

 15 Instruments Directive, or MiFID, which had been in

 16 place since 2007, but they have a section on the

 17 consultation regarding directive markets and

 18 over-the- counter markets and a specific section

 19 on position reporting and position limits. In

 20 this provision they propose harmonizing position

 21 limits across EU authorities. Currently it varies

 22 what the national authorities will do regarding
 190

 1 position management and position limits. The

 2 European Commission said that they wanted to

 3 harmonize its approach because of the increased

 4 growth of the derivative markets to diminish

 5 regulatory arbitrage and to have a level playing

 6 field. And they also cited that the European

 7 Parliament has specifically directed the European

 8 Commission to do this.

 9 The way that they would do it is to have

 10 greater coordination and implementation of the

 11 position limits. They intend to set a number of

 12 factors that national authorities would consider,

 13 which would cause a trigger of position limits.

 14 And some kind of reporting to the European-wide

 15 authority, ESMA, when position limits are set or

 16 not set for particular reasons. So in this way

 17 the European Commission believes that they're

 18 going to harmonize a position limit regime across

 19 EU jurisdictions. They intend to make a proposal

 20 May 2011 on this, and then it still needs to be

 21 voted on by the European Council and the European

 22 Parliament.
 191

 1 COMMISSIONER DUNN: (inaudible)

 2 MS. MESA: Sorry, I think we couldn't

 3 hear that question.

 4 COMMISSIONER DUNN: And it would be

 5 implemented at what date after it was voted on?

 6 MS. MESA: I'm not sure actually, but

 7 once it's proposed -- they still need to make a

 8 proposal in mid -- I'm sorry, May 2011, and then

 9 it'd be a number of months before the European

 10 Council and European Parliament would then vote on

 11 it, so perhaps four to six months.

 12 COMMISSIONER DUNN: You have been in

 13 consultation with them all along?

 14 MS. MESA: Yes, our -- the Commission

 15 has been in touch with them, and Commission staff.

 16 We've been having actually weekly phone calls with

 17 them on all the rules, but this limit has --

 18 position limit regime and what we're proposing has

 19 come up a number of times on the call and we've

 20 had very technical conversations about our regime

 21 and what they're thinking about as well.

 22 COMMISSIONER DUNN: I've seen press
 192

 1 accounts that has indicated that the EU is backing

 2 away from hard limits. Is that accurate in your

 3 opinion?

 4 MS. MESA: I don't think it is accurate.

 5 In fact, the consultation document specifically

 6 states that they're talking about hard limits.

 7 What you may see being reported is that they would

 8 still leave this to the discretion of the national

 9 authorities.

 10 COMMISSIONER DUNN: So at some point in

 11 the future we should see something akin to what we

 12 are discussing here today?

 13 MS. MESA: I'm hopeful. I'm hopeful.

 14 That's about all I can say.

 15 COMMISSIONER DUNN: Thank you. I

 16 appreciate that. And it's difficult to make you

 17 the spokesperson for the entire EU, I apologize.

 18 MS. MESA: I'm happy to help.

 19 COMMISSIONER DUNN: I notice that what

 20 we're talking about on the spot proposed limits,

 21 that will be set at 25 percent of the deliverable

 22 supply for a given commodity. How is that
 193

 1 deliverable supply going to be ascertained?

 2 MR. SHILTS: Yeah, the 25 percent rule,

 3 so to speak, is something that's been around, that

 4 the Commission has used and the exchanges for

 5 many, many years. And the estimate generally

 6 looks at the definition of the deliverable

 7 commodity that you're looking at, the locations

 8 that are specified, the quality, and any other

 9 parameters defining the deliverable product. And

 10 then looking at whatever information is available

 11 about available supplies of the product during a

 12 specific delivery month and then making any

 13 appropriate adjustments for -- as to what might

 14 actually be available or deliverable if some of

 15 that is committed to other uses or it may not be

 16 available for certain reasons, because it doesn't 

 17 meet the quality specifications or whatever, then

 18 that would be deducted. So it's essentially

 19 looking at if you were a short trader and you

 20 wished to make delivery on the futures contract,

 21 how much of the commodity typically would be

 22 available to you to go out and acquire to make
 194

 1 delivery?

 2 COMMISSIONER DUNN: Does the Commission

 3 go out and audit, actually take inventory of

 4 supply? I've gotten e-mails from folks that says

 5 that in some metals there may not be that supply

 6 there. How do we ascertain that's correct?

 7 MR. SHILTS: Well, usually what we'll

 8 look at is actual data that's put out, whether it

 9 be by the Agriculture Department or Energy

 10 Information Administration. And for metals the

 11 deliverable stocks for both the precious metals

 12 and others, you can look at actual supplies in the

 13 warehouses: The number of vault receipts or

 14 warehouse receipts that are actually there. So

 15 that's -- you know, there's very specific numbers

 16 to focus on.

 17 COMMISSIONER DUNN: My question is do we

 18 go out and determine if those are correct, the

 19 number of receipts that are there?

 20 MR. SHILTS: No, we don't.

 21 COMMISSIONER DUNN: And for things like

 22 crude oil, we don't look at what is maybe sitting
 195

 1 in a tanker out in the Gulf or it's in the

 2 pipeline?

 3 MR. SHILTS: No. And in doing the

 4 assessments, what we'll look at is the actual data

 5 that might be available from reputable sources,

 6 but also we do have a lot of conversations with

 7 the exchange staff who develops these, but also

 8 independently validating the information by

 9 talking to people in the industry. You know,

 10 we've got a group that actually -- a product

 11 review group who has a number of contacts with

 12 people in all the specific industries and we'll

 13 discuss with them their understanding of how the

 14 market operates and as a way to validate both the

 15 numbers and the derivation of the estimates.

 16 COMMISSIONER DUNN: How many swaps do we

 17 feel are going to perform a significant price

 18 discovery function?

 19 MR. FEKRAT: This proposal addresses

 20 economically equivalent swaps. And the Section

 21 4(a) --

 22 COMMISSIONER DUNN: Yes, I know this is
 196

 1 a future regulation that we're going to have on

 2 that, but I want to know an estimate of how many

 3 we think are out there.

 4 MR. FEKRAT: We don't have an estimate.

 5 It could -- there are byproducts, there are

 6 chemical derivatives, swaps. There are many, many

 7 types of swaps that are connected to the swaps

 8 that are economically equivalent to the futures

 9 contracts that we have a proposal on. And we hope

 10 to gain a better understanding of what's out there

 11 through the visibility rules that we have proposed

 12 in this rulemaking. And those rules trigger

 13 reporting obligations on large traders when they

 14 hit a certain percentage of the position limits.

 15 And more specifically, we enumerated

 16 limits so that we would get around 20 traders of

 17 the largest traders, we would get reports on them

 18 and we would also get reports on commodities that

 19 are substantially similar to the economically

 20 equivalent commodities. So we hope to have a

 21 better idea of what's out there with respect to

 22 significant price discovery function swaps.
 197

 1 COMMISSIONER DUNN: I've seen estimates

 2 that the swaps industry is roughly nine times that

 3 of the futures industry. Do we think we'll see

 4 nine times as many?

 5 MR. SHERROD: Commissioner, those

 6 estimates include the financial swaps. Certainly

 7 by notional value the largest portion of the

 8 markets, as we understand it, are in financial,

 9 particularly interest rate swaps. So we're

 10 focusing on a specific set of 28 physical

 11 delivery, physical commodity futures contracts and

 12 the economically equivalent swaps. So we should

 13 see by a notional amount a much smaller dollar

 14 amount. Whether that ratio will hold of 9-to-1,

 15 at this point we don't know.

 16 COMMISSIONER DUNN: What does the term

 17 "as appropriate" in the Frank-Dodd Act mean to

 18 you?

 19 MR. BERKOVITZ: We believe that the

 20 Commission has the discretion to determine which

 21 levels are appropriate.

 22 COMMISSIONER DUNN: I have no further
 198

 1 questions, Mr. Chairman.

 2 COMMISSIONER SOMMERS: In the absence of

 3 the chairman, I guess it's my turn.

 4 I have some questions specifically with

 5 regard to the enforceability of these levels and

 6 the new authority that the chairman just bestowed

 7 upon the Department of Market -- or Division of

 8 Market Oversight to receive what additional

 9 information, special call, 18.05 information on

 10 swaps or cash positions for people that we see in

 11 our markets. But is that really a comprehensive

 12 look in order to be able to enforce position

 13 limits or spot-month limits?

 14 MR. SHILTS: No, and if you're talking

 15 about what the chairman just directed, no, this is

 16 really more to get some additional information

 17 during an interim period before limits are in

 18 place. It -- obviously to enforce limits we would

 19 have to have information about traders' positions

 20 in the swaps markets as well as the futures

 21 markets. And that's kind of the idea of this

 22 swaps trader reporting regime, and then ultimately
 199

 1 we'd have it through the swap data repositories.

 2 COMMISSIONER CHILTON: If my colleague

 3 would yield just briefly. For example, if they

 4 weren't over that what I call position point

 5 level, if they were -- they could be big in the

 6 swaps world and we would never know, so there are

 7 obviously some flaws with this approach. I'd

 8 agree with you.

 9 MR. FEKRAT: Commissioner, we -- a month

 10 and a half ago, the same group that's proposing or

 11 submitting this recommendation to you, we proposed

 12 a swap, physical swap, position reporting system.

 13 So when that becomes effective, and the comment

 14 period closed in December, when that becomes

 15 effective it's a -- when it becomes effective is a

 16 function of certain statutory analysis that must

 17 be done with respect to definitions and also

 18 resources, Commission resources and how quickly

 19 the industry can adjust to the requirements. But

 20 that's when we would get comprehensive position

 21 data and that could -- one of the dates that we

 22 projected was July.
 200

 1 COMMISSIONER SOMMERS: Thank you. I'm

 2 going to move on to something that I alluded to in

 3 my opening statement with regard to other market

 4 participants and other ways that we could treat

 5 classes of traders because I think that there's no

 6 doubt that we have the authority to do that. And

 7 it's been my hope all along that we would do some

 8 sort of analysis in how position limits would

 9 affect market makers, ETFs, commodity index funds.

 10 And we haven't done that up until now. And this

 11 is a very complex issue and whether or not you

 12 think limits are necessary, whether you think

 13 they're appropriate, whether or not we have the

 14 data, there's a number of different of issues with

 15 imposing position limits. But I think that this

 16 is a whole other set of issues that we really have

 17 yet to analyze and I guess I would ask as we go

 18 through this phase approach, do we have any

 19 intention of looking at different classes of

 20 traders and how hard position limits would affect

 21 market makers or ETFs or commodity index funds?

 22 MR. SHERROD: Commissioner, as you know,
 201

 1 market makers generally try to keep a relatively

 2 flat book. So with respect to at least their

 3 market-making position the levels of the limits in

 4 all months and in individual months, using the

 5 formula that we're suggesting, would establish

 6 very high levels in which to address --

 7 COMMISSIONER SOMMERS: I understand

 8 that, but it's my understand that limits apply

 9 intraday as well, not just end of day.

 10 MR. SHERROD: That's correct. So at a

 11 level, for example, of 100,000 contracts or

 12 higher, that's substantially higher than the

 13 current positions of most traders in the markets

 14 that we've looked at. So as we recommended to you

 15 back earlier this year with the proposed levels

 16 for the energy commodities, a limited number of

 17 traders would be affected. And those traders that

 18 would be have the ability to manage their

 19 positions. They're large and sophisticated

 20 traders. And they also would have a new bona fide

 21 hedging definition that would allow them

 22 additional flexibility to go beyond the limits to
 202

 1 the extent their swap counterparties were bona

 2 fide hedgers themselves.

 3 COMMISSIONER SOMMERS: I guess that

 4 confuses me a little bit. Because in the case of

 5 either market makers or ETFs or commodity index

 6 funds are they going to have commercial clients?

 7 MR. SHERROD: Well, in terms of a market

 8 maker if you mean a swap dealer, for example?

 9 COMMISSIONER SOMMERS: Yeah, I mean a

 10 swap dealer.

 11 MR. SHERROD: You mean a futures

 12 contract market maker?

 13 COMMISSIONER SOMMERS: Yes.

 14 MR. SHERROD: So the market makers on

 15 the futures markets --

 16 COMMISSIONER SOMMERS: Liquidity

 17 providers, whatever they call themselves.

 18 MR. SHERROD: The liquidity providers,

 19 the levels that we're proposing for all months and

 20 individuals months are substantially higher than

 21 our understanding of what a market maker would

 22 ever have on a intraday basis, long or short,
 203

 1 during the day. The market makers that we've

 2 reviewed typically, as I mentioned, they provide

 3 liquidity intraday and they typically bring their

 4 position to a balance at the end of the day. And

 5 these levels are far beyond the needs for the

 6 market makers.

 7 COMMISSIONER SOMMERS: Okay. So beyond

 8 whether or not these would or would not affect

 9 someone right now, do we have any intention of

 10 classifying traders differently and how the

 11 position limits may apply to them?

 12 MR. SHERROD: Under the current proposal

 13 the only distinction made between the traders

 14 would be whether they qualify for a bona fide

 15 hedging exemption or not. There isn't a further

 16 distinction.

 17 COMMISSIONER SOMMERS: It's a concern of

 18 mine and I guess I'm hopeful that as we move

 19 forward in this area that that's something that

 20 we'll look into. And I just have one

 21 clarification on the class limits that you

 22 described, if netting is allowed between classes.
 204

 1 MR. SHERROD: In the all-months limits,

 2 for example, there are the futures contracts as a

 3 class and the swaps as a class. To the extent a

 4 trader is on opposite sides in the markets, that

 5 would certainly reduce and they would be within

 6 their aggregate limit. The aggregate limit would

 7 add up the two positions of futures and swaps.

 8 And to the extent the trader was on the same side

 9 of the market they would have to comply with the

 10 aggregate limit. So the trader would have

 11 discretion if they would have been over the limit

 12 to decide which venue, whether in futures or in

 13 swaps, that they need to manage their position

 14 down to maintain themselves within the aggregate

 15 limit.

 16 COMMISSIONER SOMMERS: Is that a no?

 17 MR. SHERROD: I think that's a no.

 18 COMMISSIONER SOMMERS: Thank you.

 19 CHAIRMAN GENSLER: Thank you,

 20 Commissioner Sommers, for chairing the meeting for

 21 a few moments and asking questions.

 22 Commissioner Chilton?
 205

 1 COMMISSIONER CHILTON: Thanks, Mr.

 2 Chairman. Thanks, everybody, for their hard work.

 3 I want to particularly commend a guy who I think

 4 is one of the better staffers at the CFTC and

 5 that's Steve Sherrod, who has been fighting a cold

 6 as many have this last week, but comes up with

 7 some really creative and good ideas, and you're a

 8 great public servant.

 9 Okay. I appreciate that the chairman

 10 moved forward on this sort of concept of getting

 11 some -- more information when traders go over this

 12 level. And I talked a little bit about this to

 13 Americans for Financial Responsibility on Tuesday,

 14 and we spoke about it more at the hearing on the

 15 Hill yesterday, this thing that I've called a

 16 position point proposal. But we're not all the

 17 way where I think we need to be, but I'm not sure

 18 that it takes anything more than confirming a lot

 19 of what you all do already. And it may take a

 20 direction by the staff or by the chairman, or it

 21 may take a direction by the commissioners. So

 22 let's go through it, shall we?
 206

 1 All right. So -- and let me ask Mr.

 2 Sherrod, since I gave him such nice compliments,

 3 maybe you'd give me positive answers here. Not

 4 that Mr. Shilts isn't also great.

 5 So if a trader gets above this level,

 6 what we call 10 and 2.5, 10 percent of the first

 7 25,000 contracts have open interest and 2.5

 8 percent of the contracts thereafter, which, by the

 9 way, for folks listening, that was in our energy

 10 proposal, it is in the proposal on position limits

 11 that we're considering right now. We're in a

 12 little cul-de-sac here talking about this proposal

 13 that I have. It's just a little cul-de-sac. It's

 14 not part of the rulemaking.

 15 So that level, Mr. Sherrod, would that

 16 be an easy thing for the Division of Market

 17 Oversight to sense, to know when a trader goes

 18 above that level? I mean, Commissioner Sommers

 19 talked about how we do some of this stuff already.

 20 MR. SHERROD: Well, as you're well

 21 aware, the Commission's large trader reporting

 22 system identifies traders at a very low level.
 207

 1 COMMISSIONER CHILTON: Yes.

 2 MR. SHERROD: And as you heard from us

 3 in numerous surveillance briefings we identify for

 4 you the specific names of all the large traders in

 5 the markets when we have a particular market that

 6 we're focusing on, so that's relatively easy to

 7 do.

 8 COMMISSIONER CHILTON: Okay. Now, it's

 9 one thing to say we can identify it. Then what do

 10 we do? Mr. Shilts said that -- in your colloquy

 11 with the chairman, said that you were instructed

 12 to get additional information. You mentioned that

 13 there was something other than our 18.05. That's

 14 Section 18.05 authority, which is our special call

 15 authority to obtain other information, swaps

 16 information. And the reason we have that

 17 authority -- correct me if I'm wrong, Mr.

 18 Berkovitz -- is because those could impact the

 19 regulated exchange which we oversee. So that's

 20 the 18.05 authority.

 21 But they also said that we could go

 22 about obtaining this information in a more
 208

 1 informal fashion, and I accept that. But what I'd

 2 like to be clear on -- and perhaps maybe even the

 3 chairman can clarify -- is that once a trader goes

 4 over this level, the 10, 2.5 level, absent bona

 5 fide hedgers -- and these are folks that have an

 6 underlying interest in a physical commodity; we

 7 understand that they may be (inaudible) -- but

 8 absent that, that you will obtain this information

 9 either through a special call or through the

 10 informal basis. So you will get that information.

 11 And this may be exactly what the chairman was

 12 asking, I just want to -- or instructing.

 13 CHAIRMAN GENSLER: I think it was.

 14 COMMISSIONER CHILTON: Okay.

 15 MR. SHILTS: Yes, that's my

 16 understanding.

 17 COMMISSIONER CHILTON: Okay. That's all

 18 our understanding now, great. Okay.

 19 Now, now they're over the level and

 20 they're over this position point level. And then

 21 the question is what do you do about it? You

 22 obtain all this information and then you make a
 209

 1 determination about the aggregate net position of

 2 those traders. So say they're the 10, 2.5.

 3 They've hit this position point level, but then

 4 when we look at their swaps and come to think

 5 they've got lots and lots of the same positions

 6 and they're way over, that's one possible

 7 scenario.

 8 The other is we looked at their

 9 positions and their hedge and actually they're way

 10 under that level. In which case I would imagine

 11 you'd say, oh, no harm, no foul. Interesting,

 12 glad we looked at it, part of our market oversight

 13 we do. When they come up again maybe we'll flag

 14 it again, but no harm, no foul.

 15 If they are in the other circumstance,

 16 net above that position point level -- and we have

 17 seen traders who are far above that sort of level.

 18 We've seen 20, 30 percent in net gas and crude.

 19 We've seen roughly 35 percent in silver. So we've

 20 seen large, large -- I mean, far above this 10,

 21 2.5 level. So if they are above this level, there

 22 are certain steps that the agency -- I'll try to
 210

 1 say this carefully -- that the agency may take if

 2 they deem it appropriate to get the trader down.

 3 We can jawbone them. We can take a vote to do

 4 something else. There are all sorts of things

 5 that the Commission can do, and one of them is

 6 working with the exchange, in order to get these

 7 traders down.

 8 Look, this isn't mandatory position

 9 limits where it's, you know, the law of the land.

 10 This is a far cry from that. But we currently

 11 have -- we've used these things before, you've

 12 suggested that we use them. So we have the

 13 ability, if we deem it appropriate, to ask the

 14 trader to reduce below that position point level.

 15 Is that correct, Mr. Sherrod?

 16 MR. SHERROD: I need to be very careful

 17 in how I answer. As you described as has been our

 18 practice, we work closely with the exchanges. We

 19 are familiar with the large traders. Our

 20 surveillance economists are in frequent discussion

 21 with the traders of the purposes of their large

 22 positions as are the regulatory staff at the
 211

 1 exchanges. So we know the large traders. We

 2 typically know the very largest traders, what

 3 their intentions are.

 4 As you've also described, our concerns

 5 are less if we understand the larger traders in

 6 position accountability regimes are managing their

 7 commercial risk in either the cash or other

 8 derivative markets. The exchanges have the

 9 authority under position accountability. Once a

 10 trader has exceeded that level, the trader has

 11 given the exchange their automatic consent when so

 12 ordered by the exchange to either stand still and

 13 not increase further or to reduce. So one of the

 14 things that we would do with the information about

 15 a large trader that we had concern with and we do

 16 this now is talk to the exchange, and the exchange

 17 has an interest in keeping orderly markets. So

 18 the exchanges have exercised their authority in

 19 the past to ask traders to stand still.

 20 COMMISSIONER CHILTON: Okay, I gotcha.

 21 Now, we work with the exchanges. They're

 22 self-regulatory organizations, and I'm not
 212

 1 suggesting they don't do a good job. They've got

 2 a different motive than we do. They've got profit

 3 also in their motive. There's nothing wrong with

 4 that. Profit's a good thing, the American way.

 5 That's not our job. We don't want to ruin

 6 businesses. We don't want to do anything that's

 7 harmful. We want to be careful, not act hasty,

 8 but ours is making sure these are efficient,

 9 effective markets to avoid fraud, abuse, and

 10 manipulation.

 11 So, for example, when we had the metals

 12 hearing, Tom LaSala with CME touted these great

 13 accountability levels and how they had looked, I

 14 believe the number was at 29 different --

 15 abrogations is too strong a word, but times in

 16 which traders had gone above these accountability

 17 levels, which are (inaudible) voluntary and they

 18 serve as sort of triggers to look at. And what

 19 they said was: And in these 29 instances we asked

 20 the trader to either maintain or reduce their

 21 position. And boy, that sounded strong.

 22 Twenty-nine times they asked them to maintain or
 213

 1 reduce.

 2 And I asked the question, well, of those

 3 29 times how many times was it to reduce your

 4 position? I know, but, Mr. Sherrod, do you recall

 5 how many times of the 29 they asked them to reduce

 6 those positions? The answer is zero, never, not

 7 once.

 8 So these great accountability levels

 9 ain't so great. They may serve some important

 10 purpose, but they're hardly mandatory position

 11 limits and they're hardly position points that I'm

 12 talking about, that once you get that above a

 13 certain level, we seek the additional information,

 14 we figure out what the net aggregate is. There

 15 are things that we can do above and beyond the

 16 SRO, above and beyond the exchange.

 17 Now, those things -- and I know that Mr.

 18 Berkovitz and the other attorneys in the room

 19 start getting very nervous when I'm talking about

 20 these things. I am not committing to anything.

 21 All I'm saying is we have additional authorities

 22 that, if we chose -- if three of the five of us
 214

 1 chose -- we could institute an order to reduce

 2 that trader's position if we thought it was a

 3 problem in the market.

 4 Mr. Berkovitz, I don't want to get you

 5 too down the road this rabbit hole, so I'm looking

 6 for a yes, Commissioner, there are additional

 7 authorities. And you don't have to explain them.

 8 But is it correct that we have additional

 9 authorities, that if the Commission acted we could

 10 use to order a trader to get below a certain

 11 position?

 12 MR. BERKOVITZ: There are authorities in

 13 the act --

 14 COMMISSIONER CHILTON: That we could

 15 use?

 16 MR. BERKOVITZ: -- to enable the

 17 Commission to take action in specified

 18 circumstances to have a --

 19 COMMISSIONER CHILTON: I'll accept yes.

 20 Okay. So, there we are. (Laughter)

 21 We have this authority. We could do it.

 22 Those three could do it. Us three could do it.
 215

 1 Three of us could do it. It's our job, no profit

 2 motive. We're trying to do the right thing. We

 3 may agree or disagree. Okay.

 4 So, this actually, this little colloquy

 5 thing -- and then we'll get back to the real rule

 6 -- is sort of an important deal. Because what it

 7 says is one of the goals that Mr. Berkovitz

 8 expressed in the law is to deal with excessive

 9 speculation. And the overall goal in the

 10 Commodity Exchange Act, as you talked about with

 11 regard to findings, is to prevent and deter fraud,

 12 abuse, and manipulation. So we have the ability

 13 to use the tools that we have now, using this

 14 position point proposal where we see a level which

 15 is the same level that would be in the proposal,

 16 and then -- and people could sort of get used to

 17 it -- maybe it's not going to be in the final

 18 proposal, maybe the number will change, but they

 19 could get used to this -- and that will add a

 20 heightened level of oversight. These people would

 21 be -- these traders that go over that level would

 22 be on our radar screen. We essentially flag them
 216

 1 and they'd be on, you know, sort of a watch list.

 2 I know that may be stronger than you all would

 3 like to say, but, in essence, Mr. Sherrod, is that

 4 correct?

 5 MR. SHERROD: Well, I don't think I'd

 6 describe it as a watch list like a credit rating

 7 agency watch list.

 8 COMMISSIONER CHILTON: Right.

 9 MR. SHERROD: But it's something that we

 10 do.

 11 COMMISSIONER CHILTON: Like TSA maybe.

 12 MR. SHERROD: It's something that we do

 13 all the time. We watch the large traders and we

 14 shine a light on them and we let them know that

 15 we're here.

 16 COMMISSIONER CHILTON: Okay. All right.

 17 Well, thank you very much and I'll stop. I do

 18 have other questions separately from this, but I

 19 think that's helpful. I appreciate -- and I want

 20 to make sure, Mr. Chairman, I think you asked --

 21 and, again, I just want to make sure -- that

 22 monthly the staff will come to us as part of our
 217

 1 surveillance meeting and they will tell us about

 2 traders that go above this level. And if there is

 3 an action plan that we need to take or staff

 4 needed to take, you'll give us a recommendation on

 5 that. So this isn't just some little thing that

 6 you may or may not do if you get around to it.

 7 This is a proactive responsibility on your

 8 division, and I think that's what the chairman's

 9 (inaudible), to come to us and make sure we know

 10 what's happening. We're the people that have

 11 these things on our wall.

 12 CHAIRMAN GENSLER: Could I, Commissioner

 13 Chilton?

 14 COMMISSIONER CHILTON: Absolutely.

 15 CHAIRMAN GENSLER: I have such respect

 16 for the staff. They have terrific -- and I don't

 17 know whether it's because they like me, they're

 18 afraid, or whatever, but they're always delivering

 19 when I ask them to do something. I mean, they're

 20 just -- I think mostly they're just pros.

 21 COMMISSIONER CHILTON: Well, I was --

 22 CHAIRMAN GENSLER: And so they're just
 218

 1 terrific. So, I mean --

 2 COMMISSIONER CHILTON: You know,

 3 Commissioner O'Malia, Mr. Chairman, said something

 4 that I take as a real honor a couple weeks ago.

 5 For better or worse, he said he was inspired by

 6 something I'd done. And I'm inspired, and he's

 7 not going to like this at all, I'm inspired by

 8 Ananda Radhakrishnan who said, you know,

 9 essentially, you know, he's a firm police officer,

 10 a detective, and better to have it down clearly

 11 what we're going to do. He'd rather have the

 12 rules. Remember Reagan? Trust but verify, so.

 13 CHAIRMAN GENSLER: No, I understand.

 14 But this is a terrific group of individuals. And

 15 what I think we have is we have a 30+ year history

 16 of having surveillance meetings on Fridays, all in

 17 the Federal Register. And what I've asked staff

 18 to do is to make sure that we stay apprised of

 19 these parties that might be over. I say "might be

 20 over" 10 and 2-1/2 because we haven't set

 21 numerical limits yet, so it's just formula, and,

 22 of course, to make any recommendations they would 
 219

 1 make to us. And I think, as you were saying, that

 2 then we'd take up whatever -- if Mr. Sherrod in

 3 his normal surveillance matter or Mr. Shilts and

 4 his Division of Market Oversight matter has a

 5 recommendation we would take it up at that point

 6 in time. I mean -- but I don't --

 7 COMMISSIONER CHILTON: But, Mr.

 8 Chairman, every month they're going to come to us

 9 and they're going to -- as part of a surveillance

 10 and say we want to report on this position point

 11 or whatever they want to call it. And they can

 12 say it's very short, there aren't any. But every

 13 month they're going to come to us --

 14 CHAIRMAN GENSLER: I think that's what I

 15 asked them to do 45 minutes ago. Rick, is that

 16 right?

 17 MR. SHILTS: Yes. Again, that's my

 18 understanding.

 19 CHAIRMAN GENSLER: I haven't -- you

 20 haven't let me down yet on anything, so.

 21 COMMISSIONER CHILTON: Okay, good. I'm

 22 done for now. Now.
 220

 1 CHAIRMAN GENSLER: Thank you.

 2 Commissioner O'Malia?

 3 COMMISSIONER O'MALIA: Thank you. In

 4 the discussion of the special call that

 5 Commissioner Chilton's talking about do we get the

 6 same level of detail on the look-through to the

 7 dealer to understand whose position it actually

 8 is? Do we get the same level of fidelity as we

 9 get in the -- that's in the proposed rule through

 10 a special call?

 11 MR. SHERROD: I'm not sure I'm

 12 following, so.

 13 COMMISSIONER O'MALIA: To understand

 14 exactly who it is that we're tagging for these

 15 positions that Commissioner Chilton had discussed,

 16 are we -- when we do a special call or we go for

 17 the largest traders, assuming, you know, they're

 18 dealers, do we actually look through to find out

 19 who they're trading on behalf of similar to what

 20 we've provided for in the rule?

 21 MR. SHERROD: So under the -- I guess

 22 the quick answer would be we can do that. The
 221

 1 current Regulation 18.05 requires the reportable

 2 traders to keep books and records about their cash

 3 positions, about their OTC derivative positions.

 4 And in our special call on index investment data

 5 that Rick mentioned a little while ago, we asked a

 6 certain number of swap dealers to give us their --

 7 the identities of their large counterparties. So

 8 we can look through to the other side of the book.

 9 The difficulty we have right now is

 10 those counterparties may not be reportable traders

 11 in futures and we would not have reach to them if

 12 they're not currently a reportable trader in

 13 futures. So they have a swap position opposite

 14 the swap dealer, the swap dealer's reportable, but

 15 we can't get to the person that's only in swaps

 16 through the current 18.05.

 17 COMMISSIONER O'MALIA: That seems

 18 somewhat problematic.

 19 CHAIRMAN GENSLER: Any other questions?

 20 I'm going to take a short 10-minute recess. I

 21 think I get to do that.

 22 COMMISSIONER DUNN: Mr. Chairman?
 222

 1 CHAIRMAN GENSLER: With unanimous

 2 consent?

 3 COMMISSIONER DUNN: Mr. Chairman?

 4 CHAIRMAN GENSLER: Yes.

 5 COMMISSIONER DUNN: Mr. Chairman?

 6 CHAIRMAN GENSLER: Yes.

 7 COMMISSIONER DUNN: I do have to leave

 8 for another appointment. I'll remind you that you

 9 have my proxy. Please use it wisely.

 10 (Recess)

 11 CHAIRMAN GENSLER: I don't know where

 12 Commissioner Chilton is. I'm going to give a

 13 minute or two to Commissioner Chilton. Is he --

 14 Hey, John, do you know where

 15 Commissioner Chilton is? We're going to come out

 16 of recess, but I'm going to give a few minutes for

 17 Commissioner Chilton to come back in.

 18 So as we're waiting for Commissioner

 19 Chilton, I'm going to ask on the first of the

 20 three rules that we've considered already for

 21 unanimous consent that they be technical

 22 amendments -- the technical fixes be allowed,
 223

 1 they're not really amendments, to those first

 2 three as we've done in our other Commission

 3 meetings so that they can be sent along to the

 4 Federal Register.

 5 Not hearing any objections to that,

 6 those will be done with dispatch.

 7 We don't have Commissioner Chilton back

 8 and we may have lost Commissioner Dunn, I don't

 9 know. And there's a lot of holiday parties people

 10 want to get to and the press wants to file their

 11 stories.

 12 (Recess)

 13 CHAIRMAN GENSLER: Once again, I want to

 14 thank staff for all of their efforts. As the

 15 public is seeing real-time, we are a Commission of

 16 five independent-minded and independently

 17 confirmed commissioners. And just as we did last

 18 week, I hope I can use the time wisely, but I am

 19 respectful that Commissioner Chilton has raised

 20 some very -- matters important to him and I just

 21 wanted to make sure that we stay abreast during

 22 the pendency, during this number of months until
 224

 1 the rule can be implemented in the position limit

 2 regime.

 3 That -- I think it might be best if I

 4 ask for a motion to adjourn the meeting, allow

 5 people to get some -- did I do that as a UC?

 6 Maybe it's a UC? Is that what I was supposed to

 7 do, unanimous consent? So I'm going to ask for

 8 that unanimous consent. But for my friends in the

 9 press, just as I did last week, I think that this

 10 one might just need a little bit more time to

 11 ripen.

 12 COMMISSIONER CHILTON: Mr. Chairman,

 13 just a procedural question. Do we need to -- had

 14 we gotten to the motion stage or no?

 15 CHAIRMAN GENSLER: There is a motion and

 16 a second on the floor, so this is the pending

 17 business in front of the Commission.

 18 COMMISSIONER CHILTON: Okay. Okay,

 19 thank you.

 20 CHAIRMAN GENSLER: And as I understand

 21 from Mr. Stawick, this is -- did I say that

 22 correctly?
 225

 1 MR. STAWICK: Yes.

 2 CHAIRMAN GENSLER: So I'm asking

 3 unanimous consent that we adjourn the meeting and

 4 wish everybody a happy holiday, maybe both in the

 5 unanimous consent.

 6 Not hearing any objection, this meeting

 7 is adjourned.

 8 (Whereupon, at 1:40 p.m., the

 9 PROCEEDINGS were adjourned.)

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 1 CERTIFICATE OF NOTARY PUBLIC

 2 DISTRICT OF COLUMBIA

 3 I, Christine Allen, notary public in and

 4 for the District of Columbia, do hereby certify

 5 that the forgoing PROCEEDING was duly recorded and

 6 thereafter reduced to print under my direction;

 7 that the witnesses were sworn to tell the truth

 8 under penalty of perjury; that said transcript is a

 9 true record of the testimony given by witnesses;

 10 that I am neither counsel for, related to, nor

 11 employed by any of the parties to the action in

 12 which this proceeding was called; and, furthermore,

 13 that I am not a relative or employee of any

 14 attorney or counsel employed by the parties hereto,

 15 nor financially or otherwise interested in the

 16 outcome of this action.

 17

 18

 19 -----------------------------------

 20 Notary Public, in and for the District of Columbia

 21 My Commission Expires: January 14, 2013

 22