UNITED STATES OF AMERICA

 COMMODITY FUTURES TRADING COMMISSION

 OPEN MEETING ON THE 24TH SERIES OF

 PROPOSED RULEMAKINGS UNDER THE DODD-FRANK ACT

 Washington, D.C.

 Thursday, February 23, 2012
 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 MARK WETJEN, Commissioner

 9 Presentation No. 1: Final Rule on Swap Dealer and

 9 Major Swap Participant Recordkeeping, Reporting,

 10 Duties, and Conflicts of Interest Policies and

 10 Procedures; Swap Dealer, Major Swap Participant,

 11 and Futures Commission Merchant Chief Compliance

 11 Officer

 12

 13 FRANK FISANICH, Office of General Counsel

 14 GARY BARNETT, Division of Market Oversight

 15 WARD P. GRIFFIN, Office of General Counsel

 16 DAN BERKOVITZ, General Counsel

 17 DAVID MEISTER, Director of Enforcement

 18 Presentation No. 2: Proposed Rule on the

 18 Procedures to Establish Appropriate Minimum Block

 19 Sizes for Large Notional Off-Facility Swaps and
 19 Block Trades, and Further Measures to Protect the

 20 Identities of Parties to Swap Transactions

 20

 21 CARL KENNEDY, Office of General Counsel

 22 GEORGE PULLEN, Division of Market
 3

 1 PARTICIPANTS (CONT'D):

 2 LYNN RIGGS, Division of Market Oversight

 3 RICK SHILTS, Division of Market Oversight

 4 ESEN ONUR, Office of Chief Economist

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 4

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

 2 (9:35 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 Final and Proposed Rules

 7 under the Dodd-Frank Act. I'd like to welcome

 8 members of the public and market participants,

 9 members of the media as well as those listening to

 10 the meeting on the phone or watching this webcast.

 11 I'd also like to thank Commissioners Sommers,

 12 Chilton, O'Malia and Wetjen for their significant

 13 contribution to the rule-writing process and thank

 14 the CFTC's hard-working and dedicated staff.

 15 In 2008 the swaps market helped

 16 concentrate risk in the financial system that then

 17 spilled out over the real economy affecting

 18 businesses and customers across the country, and

 19 as we know, 8 million Americans lost their jobs

 20 and thousands of small businesses were lost as a

 21 result of the crisis. The derivatives reforms in

 22 the Dodd-Frank Act once implemented will lead to
 5

 1 significant benefits for the real economy, that

 2 which makes up over 94 percent of private-sector

 3 jobs in America. Derivatives reforms also will

 4 bring significant benefit to all Americans who

 5 depend on pension funds, mutual funds, community

 6 banks and insurance companies as that part of the

 7 financial system will benefit greatly from the

 8 greater transparency and lower risk in the swaps

 9 market. They'll benefit from the transparency and

 10 lowering risk that also comes from this

 11 twenty-fourth meeting of the Dodd-Frank reforms.

 12 We will consider rules addressing both lowering

 13 risk and promoting transparency. To lower risk

 14 we'll consider business conduct standards for swap

 15 dealers and major swap participants, what we've

 16 come to call internal business conduct rules, and

 17 I think Frank and Ward are going to present

 18 initially on that. Then to promote greater

 19 transparency we'll consider a proposal of the

 20 block rule. Last month the CFTC completed some of

 21 its first rules or reforms related to dealers.

 22 The Commission finished up on a registration rule
 6

 1 where for the first time regulators will be able

 2 to monitor swap dealers and major swap

 3 participants, and we also finished up on rules

 4 establishing robust sales practices in the swaps

 5 market. Today's internal business conduct rule, a

 6 collection of five proposals from Frank will tell

 7 us about a year or two or a year-and-a-half ago

 8 builds on this progress. It requires swap dealers

 9 and major swap participants to establish risk-

 10 management policies to manage the risk of their

 11 swaps activities; it requires firewalls to protect

 12 against conflicts of interest between trading and

 13 research and between trading and clearing units of

 14 financial firms. In addition, the rule

 15 establishes reporting, recordkeeping and daily

 16 trading records critically to ensure that there is

 17 an audit trail that details the full trading

 18 history. These provisions were congressionally

 19 mandated. In addition, swap dealers, major swap

 20 participants and futures commission merchants must

 21 have a chief compliance officer and a compliance

 22 program in place to ensure compliance with the
 7

 1 provisions of the Dodd-Frank Act to protect the

 2 public.

 3 In addition, today we're going to be

 4 considering a proposal or one might say a

 5 re-proposal of the block rule. This proposal

 6 benefits from significant comments we received on

 7 the real-time public reporting proposal which also

 8 included something on blocks. The new methodology

 9 in this re-proposal makes a number of significant

 10 changes from the earlier proposal. First, it's

 11 tailored so that it includes block sizes that vary

 12 by asset class. I think for instance there will

 13 be 24 separate pieces of the interest rate market.

 14 And it will be tailored by underlying reference

 15 product or rate. Second, it's been simplified as

 16 it will no longer rely on a test which came to be

 17 called the social size multiple test for setting

 18 minimum block size. Now it's more tailored in

 19 more buckets and it's actually far simpler.

 20 Third, the proposal moves from being based on

 21 transaction counts to being based on net notional

 22 amount of swaps within a category. Furthermore,
 8

 1 this new proposal benefits from a review of a

 2 significant amount of market data particularly in

 3 the interest rate and credit swaps market.

 4 As I've said for quite some time, we're

 5 working to complete these rules in a thoughtful,

 6 balanced way and not against a clock. We've

 7 finalized today 27 rules and if we move forward

 8 today it would be 28 rules. We have much to do

 9 going forward. Though we've made great progress

 10 on the congressionally mandated reforms to bring

 11 transparency and competition to these markets and

 12 to best protect taxpayers and lower risk and the

 13 rest of the economy, it's only going to be with

 14 finalizing and I would say also with much needed

 15 funding for 2013. Then we're going to be able to

 16 actually oversee these markets and how to protect

 17 the public. I have great confidence in the

 18 Commission and staff that will finish the

 19 remaining reforms this year for the benefit of the

 20 market.

 21 I also want to take a moment to

 22 announced a 2-day roundtable that we're having
 9

 1 here next week that staff is going to be hosting

 2 next Wednesday and Thursday which will look at the

 3 critical issues surrounding further enhancements

 4 to customer protection. Segregation of customer

 5 funds is a core foundation of customer protection

 6 in both the futures and the swaps markets. We've

 7 already taken a number of steps such as enhancing

 8 the protections regarding investment of customer

 9 funds through amendments to what we call Rule

 10 1.25, and the requirement that future commission

 11 merchants and derivatives clearing organizations

 12 segregate customer collateral, supporting cleared

 13 swaps and ensuring customer money is protected

 14 individually all the way down to the

 15 clearinghouse, the so-called LSOC for swaps. But

 16 there is much more that these panels and the

 17 public can weigh in on. Panels will include

 18 looking at alternative custodial arrangements for

 19 segregated funds, enhanced customer protections

 20 and transparency provisions for futures commission

 21 merchants, additional protections for collateral

 22 possibly in the futures markets, revisions to
 10

 1 bankruptcy rules, so-called Part 190, protection

 2 of customer funds trading in foreign futures

 3 markets or what we call Part 30 and issues

 4 associated with entities duly registered with the

 5 CFTC as FCMs and the SEC as broker dealers and

 6 we've invited Securities and Exchange Commission

 7 staff to partake in any part of these 2 days, and

 8 will also be looking at possible enhancements to

 9 the self- regulatory structure either here or at

 10 the SROs themselves. Before we hear from staff,

 11 I'm going to turn it over to fellow Commissioners.

 12 Commissioner Sommers?

 13 COMMISSIONER SOMMERS: Good morning.

 14 Thank you, Mister Chairman and thanks to staff who

 15 have put a tremendous amount of time into

 16 formulating the rules that we are voting on today,

 17 the final business conduct rules and the proposal

 18 for establishing appropriate minimum block sizes

 19 for swaps. The challenges we face in implementing

 20 the Dodd-Frank Act are ongoing and I cannot

 21 emphasize enough how proud I am to be part of an

 22 organization that is filled with such dedicated
 11

 1 public servants because it takes a lot of time and

 2 effort to get these rules to the place where we're

 3 considering them today, and I want to again say

 4 how much I appreciate the work of all of the

 5 teams.

 6 While I appreciate the hard work that

 7 has gone into finalizing the business conduct

 8 rules, I unfortunately cannot support the final

 9 product. There are too many provisions in the

 10 final rules that don't make sense or portend

 11 disturbing trends, and I'll point out just a few

 12 examples. During the course of the comment

 13 period, the Commission received requests to allow

 14 substituted compliance for entities to subject

 15 comparable regulation by a prudential regulator.

 16 This makes perfect sense to me from both a

 17 resource and policy perspective. If a registrant

 18 is subject to comparable regulation, why do we

 19 need to layer on additional regulation? And given

 20 our own strained resources and the additional

 21 burdens that duplicative regulation places on

 22 registrants, shouldn't we be looking for ways to
 12

 1 rely on our fellow regulators whenever we can?

 2 Instead, the Commission has "determined that its

 3 interests in ensuring that all registrants are

 4 subject to consistent regulation outweighs and

 5 burden that may be placed on registrants that are

 6 subject to regulation by a prudential regulator."

 7 This is form over substance, a cookie-cutter

 8 approach that we can ill afford at a time when our

 9 resources have been stretched as never before. It

 10 also does not bode well for how the Commission may

 11 be approaching extraterritoriality issues. While

 12 we have been hearing for months that staff has

 13 been developing guidance on the application of

 14 Dodd-Frank to activities outside the U.S., nothing

 15 of substance has been shared with my office to

 16 date. Given the Commission's unwillingness to

 17 rely on comparable regulation by a U.S. prudential

 18 regulator, I am left wondering whether we will be

 19 abandoning our long-standing policy or recognizing

 20 and relying on comparable foreign regulations. I

 21 hope the answer to that question is no.

 22 Another provision of the final rules
 13

 1 that baffles me is the requirement that swap

 2 dealers and major swap participants diligently

 3 investigate the adequacy of the financial

 4 resources and risk-management procedures of any

 5 central counterparty through which the registrant

 6 clears. Given the extensive, detailed regulations

 7 the Commission recently finalized for derivative

 8 clearing organizations on financial resources and

 9 risk-management procedures, any DCO that accepts a

 10 swap for clearing presumably will not do so unless

 11 it has the proper resources and risk-management

 12 procedures in place. The preamble to the rule

 13 states, however, that a determination that a DCO

 14 is in compliance with the Commission's core

 15 principles and regulations is no substitute for

 16 the due diligence of registrants who must evaluate

 17 the use of a central counterparty in light of

 18 their own circumstances. This begs the question

 19 what is the registrant supposed to do

 20 independently to satisfy itself that a DCO has

 21 sufficient resources and procedures to clear a

 22 particular swap that it accepts for clearing? Can
 14

 1 a registrant refuse to clear a swap that the

 2 Commission has determined must be cleared because

 3 the registrant has determined that no DCO that

 4 accepts the swap for clearing is truly up to the

 5 task given the registrant's particular

 6 circumstances? The preamble also states that swap

 7 dealers and major swap participants may

 8 voluntarily elect to clear swaps that are not

 9 required to be cleared through CCPs that are not

 10 registered with the Commission, and in those

 11 instances some sort of due diligence prior to

 12 submitting a swap for clearing would be part of a

 13 prudent risk-management program. While this makes

 14 slightly more sense, I am again left wondering

 15 whether we are signaling something about the

 16 extraterritorial application of our rules. Do we

 17 contemplate allowing U.S. Swap dealers to

 18 voluntarily clear through foreign CCPs? If so,

 19 under what circumstances will that be allowed?

 20 I am most disturbed however by the walls

 21 we are erecting on the communications between the

 22 trading and clearing units of swap dealers and
 15

 1 affiliated FCMs. The only exception we allow is

 2 for communications necessary to manage a default.

 3 The statute requires swap dealers to establish

 4 safeguards to ensure that interactions between

 5 trading and clearing personnel do not contravene

 6 the provisions of the Act requiring open access to

 7 clearing. In typical fashion, our rules go far

 8 beyond the intent of the statute and prevent any

 9 communication between a swap dealer and an

 10 affiliated FCM that would incentivize or encourage

 11 the use of an affiliated FCM for clearing. We

 12 seem to be worried that a customer's clearing

 13 choices will be narrowed if a multiservice

 14 financial institution offers options based on

 15 bundled or nonbundled services. The end effect of

 16 the rules however is to restrict a customer's

 17 access to information upon which to make an

 18 informed choice. Rather than protecting

 19 customers, I fear that the rules will increase

 20 their costs and create needless inefficiencies for

 21 those looking for full-service options.

 22 With regard to the block trading
 16

 1 proposal, I really appreciate the hard work the

 2 team has put into coming up with a practical

 3 solution to a very challenging problem. Dodd-

 4 Frank mandates that the Commission specify the

 5 criteria for determining what constitutes a large

 6 notional swap transaction for particular markets

 7 and contracts. In determining appropriate block

 8 sizes, Congress has directed that we take into

 9 account whether public disclosure of transactions

 10 will reduce market liquidity. This requires a

 11 balancing act. If the block threshold is set too

 12 low, there will be reduced transparency in the

 13 market. If the block threshold is set too high,

 14 there will be reduced liquidity in the market. It

 15 is no small task to come up with a solution to

 16 this complex problem. I believe it is worth

 17 noting that we have been grappling with the

 18 concept of appropriate block size and market

 19 transparency in the futures markets for years. In

 20 July 2004 we proposed guidance on among other

 21 things DCM block trading rules. We re-proposed

 22 again in 2008 and again in 2010. Setting block
 17

 1 sizes for swaps is not an easy task and absent

 2 robust data, comprehensive analysis and the

 3 benefit of market experience, we could severely

 4 harm liquidity at this critical regulatory

 5 juncture where we seek to bring more swaps on to

 6 SEFs. Under the current proposal which recommends

 7 utilizing a 67-percent notional amount

 8 calculation, only the largest 6 percent of all IRS

 9 and CDS would be blocks. This proposal ignores

 10 Congress's mandate that we take into account the

 11 impact of public disclosure on liquidity. We are

 12 effectively sacrificing liquidity at the altar of

 13 transparency. While I applaud the rule team's

 14 efforts to analyze available data in the interest

 15 rate and credit asset classes, the team only had

 16 access to 3 months' worth of transaction data and

 17 that data dates back to the summer of 2010. We

 18 are relying on stale data and far too little of

 19 it. Absent further transaction data, it is hard

 20 to say if the 6-percent relationship would even

 21 hold true over a larger transaction dataset. Of

 22 greater concern to me is the one-size-fits-all
 18

 1 approach in which we blindly apply the 67- percent

 2 formula across asset classes. I do not believe

 3 this is prudent given the potential variations in

 4 liquidity among the asset classes. The one ray of

 5 light that I do see in this proposal is that the

 6 team has gone to great lengths to pose numerous

 7 questions and to put out myriad alternative

 8 approaches. If we're going to get this right in

 9 the final rule, we need to be willing to consider

 10 all of the comments from the industry. With

 11 regard to comments from the industry, I am also

 12 concerned that we are working to finalize the

 13 rules which will implement Dodd-Frank, I believe

 14 it's the most important role I've ever played as a

 15 Commissioner at the CFTC and I believe that it is

 16 crucial for the marketplace and for market

 17 participants that we get these rules right and

 18 that we finalize them in a way that is reasonable

 19 and that will give these rules the ability to

 20 stand the test of time. These rules should not

 21 only reflect input from the majority, but from the

 22 Commission as a whole and these rules do not do
 19

 1 that. We consistently reject reasoned comments

 2 from industry professionals with little

 3 justification in our cost-benefit analysis to

 4 support those rejections. I have been hopeful for

 5 the past year that things would change when we

 6 started finalizing these rules and especially the

 7 rules that are so integral to the new regulatory

 8 framework, but things have not changed. I am

 9 longer optimistic. I do not believe that these

 10 rules have a chance of withstanding the test of

 11 time. But, I believe instead that this Commission

 12 will be consumed over the next few years using our

 13 valuable resources to rewrite the rules that we

 14 knew or should have known would not work because

 15 the public commented and told us that. We should

 16 have known it when we issued them and we instead

 17 are issuing them without taking sufficient

 18 comments into consideration. Thank you.

 19 CHAIRMAN GENSLER: Thank you,

 20 Commissioner Sommers. Commissioner Chilton?

 21 COMMISSIONER CHILTON: Thank you. I

 22 also thank staff, and I support the rules, both
 20

 1 the proposal and the rule. After Commissioner

 2 Sommers speaks I usually take some of the things

 3 she said and talk about how insightful they are

 4 and helpful they are and I think there are some

 5 things in there, Jill, that are really good to

 6 learn from. On the block thing, this is a

 7 proposal. Just a proposal. We're going to listen

 8 to the comments. We messed up on the last

 9 proposal and so here we have another one. But I

 10 agree with Commissioner Sommers on the balancing

 11 part of it. I was reminded recently of a talk I

 12 gave a couple-and-a-half years ago called "Sense

 13 of Balance." In it I talked about the Flying

 14 Wallendas and Karl Wallenda, the trapeze and the

 15 high-wire act who used to appear on the "Ed

 16 Sullivan Show." For those of you who have no clue

 17 what I'm talking about, this is classic

 18 entertainment heritage. Go google it. That's

 19 what the internet is for. As we do these rules

 20 and as Commissioner Sommers was talking about as

 21 they get more complex and one is layered upon the

 22 other, it gets higher, the safety net needs to be
 21

 1 better and our balance needs to be better and we

 2 need to look at these things in concert. The

 3 block trading rule is one example where you can't

 4 just look at it in isolation so that you need to

 5 look at the reporting rule along with the block

 6 rule and you need to look at the SEF rule.

 7 Section 733 says as a rule of

 8 construction regarding SEFs that there are two

 9 things that we need to do in promulgating our

 10 rule. One is to promote SEFs, promote trading on

 11 SEFs, and the second is to promote pretrade price

 12 transparency. So if we set the blocks too low in

 13 the block trading rule, we wouldn't be promoting

 14 trading on SEFs because the blocks can be traded

 15 off of SEFs so we wouldn't be doing that first

 16 rule of construction. But with regard to pretrade

 17 price transparency, if we set the levels too high,

 18 the result is what we'll end up doing is there

 19 will be some institutions who won't want to use

 20 this risk-management tool at all because if they

 21 have to report these very large trades

 22 instantaneously, immediately, they won't be able
 22

 1 to lay off their risk and therefore they won't do

 2 it, and ultimately that could theoretically impact

 3 the prices that customers pay. Dodd-Frank isn't

 4 about not having is involving risk management.

 5 That's not the goal. We want risk management. We

 6 just want the transparency, we want the

 7 accountability, so it's all about balance. And I

 8 think we also reached a good balance, a good

 9 equilibrium on the internal conflicts rules.

 10 You can pick up the paper any day or

 11 watch television any day and read about all the

 12 problems in the business world. I'm not talking

 13 about specifically the industry that we regulate,

 14 sort of the conflicts-ridden, insidious nature of

 15 business in society today. The American public is

 16 sort of fed up with it. So I think the rule on

 17 internal conflicts that we've proposed strikes the

 18 right balance. It essentially sets up sort of

 19 good housekeeping standards for everybody to

 20 operate by which allows them continue to do risk

 21 management, appropriately addresses conflicts of

 22 interest in addition to spelling out the duties
 23

 1 and responsibilities of the people at these firms.

 2 Finally, there's an issue that I've sort

 3 of been biting my tongue on lately. It's one that

 4 I've talked about a lot and that's position

 5 limits. We're not dealing with it today, but I

 6 continue to be concerned about it. We passed this

 7 final rule on position limits in October and the

 8 deal is for those of you who don't know, the clock

 9 didn't start ticking on implementation of position

 10 limits until we get this joint rulemaking on the

 11 definitions rule which includes the definition of

 12 nine different products and one of them is swaps.

 13 So once we define what a swap is, 14 months after

 14 that we can start having position limits on swaps.

 15 So it made sense until we had this rule and the

 16 Chairman has worked hard on trying to work with

 17 our colleagues over at our sister agency the SEC

 18 to move forward on these things, but as we know

 19 today, on the entities definition rule we got

 20 pushed back. Doing a joint rule with two agencies

 21 is always a challenge and in this case we thought

 22 we were going to get to an agreement in December,
 24

 1 we thought we were going to an agreement in

 2 January, here it is February and we're looking at

 3 maybe April. If we did it in April there would be

 4 60 days until the regulated exchanges would have

 5 the federal limits in the spot and the deferred

 6 months. This is a tool that we need now. There

 7 is a chart here and I won't mention the company.

 8 I know people can't see it, of a meeting we had

 9 yesterday and it spelled out where the rules were

 10 going to come down and what this company

 11 envisioned as when things would be implemented.

 12 The last thing here of all of the rules is

 13 position limits. It's ironic because Congress

 14 told us that position limits was one of the things

 15 that we should do, but here it's the last thing to

 16 get done on this chart. I hope that's wrong. But

 17 to the extent that we can work, Mister Chairman,

 18 to try and figure out a way forward that doesn't

 19 result in us being sort of hamstrung, whether or

 20 not it's going forward with an interim final rule

 21 that just went forward maybe using our existing

 22 authority on the regulated exchanges limit, again,
 25

 1 limits that exist in the spot month for

 2 everything, the 28 designated commodities but

 3 exist in the ags and have for decades, or whether

 4 or not there's a way that the lawyers can work

 5 with the actual swaps definition. Forget about

 6 all the other definitions, the other eight

 7 definitions, but really just focus in on the swaps

 8 definition so we can approve that and then we

 9 could have position limits. This is a tool that

 10 can help customers. It could help customers now.

 11 So I hope like Karl Wallenda we take this good

 12 position limits rule that's balanced very fairly

 13 but get it to the other end of the wire.

 14 CHAIRMAN GENSLER: Thank you,

 15 Commissioner Chilton. If I might just on working

 16 with the SEC, it's been a very constructive

 17 relationship or partnership these last 2-1/2 to 3

 18 years. But, yes, Congress asked us to work

 19 together on a joint rule on further defining swap

 20 dealer, securities-based swap dealer, swap and as

 21 you said, nine terms. It continues to be that

 22 we'll take these rules up when they're ready; the
 26

 1 entity definition rule hopefully very shortly. I

 2 think when you were referring to April that that

 3 is what we are talking about on the products

 4 definition rule. But I too like you have been a

 5 supporter, maybe not as vocal, of position limits

 6 so that I look forward to working with your staff

 7 on any ideas that you have. In the meantime, what

 8 we're doing in the Office of the Chief Economist,

 9 the Office of Chief Counsel, the Division of

 10 Market Oversight, folks have really been engaged

 11 with similar folks over at the SEC on both of

 12 these rule sets, but of course we're only going to

 13 do them when we get them right and when they have

 14 input from 10 Commissioners. Commissioner

 15 O'Malia?

 16 COMMISSIONER O'MALIA: Thank you.

 17 Mister Chairman, I'd like to before I get to my

 18 statement comment on the roundtables. I think

 19 those are important. We don't have an agenda.

 20 You laid it out today, but maybe we can have a

 21 little discussion. How much information are you

 22 going to give the public to inform this discussion
 27

 1 on the issues? I know we've talked about some of

 2 the reforms, but how are they going to know what

 3 to comment on?

 4 CHAIRMAN GENSLER: It's been run by the

 5 people you know, Bob Wasserman and Laura Estrada,

 6 and then over with Gary Barnett, Amanda Olear,

 7 Frank and Tom Smith and so forth. I'm sure there

 8 are others too. I think that they've been

 9 reaching out to your office and everybody's office

 10 to get input on the panels and the panelists. I

 11 don't normally personally get involved in who's on

 12 the panels and so forth. I see Gary Barnett and

 13 there is Amanda. Why don't you make sure to

 14 inform the Commissioners today on the answer to

 15 this question, how the public will know what

 16 questions you are seeking input on on these seven

 17 panels? I assume that today you'll put up on the

 18 website an agenda. So they'll put an agenda up

 19 today on the website but then also to Commissioner

 20 O'Malia's question, how the public will know what

 21 questions you're going to be asking.

 22 COMMISSIONER O'MALIA: That would be
 28

 1 very helpful. Thank you. The latest issue of

 2 "The Economist" featured an article entitled

 3 "Overregulated America." That features in its

 4 archetype for excessive and badly written rules

 5 our own Dodd-Frank Act. The problem the article

 6 points out is that the rules sound reasonable but

 7 impose a huge collective burden due to their

 8 complexity. Part of the problem as "The

 9 Economist" points out is that we are under the

 10 impression that we can anticipate and regulate for

 11 every eventuality. Throughout the rulemaking

 12 process I have argued that we must ensure that

 13 regulations are accessible, consistent, written in

 14 plain language and guided by empirical data and

 15 that we follow the President's 2011 guidance in

 16 his Executive Order 13563 to develop responsible

 17 cost-benefit analysis.

 18 I accept wholeheartedly the mission put

 19 upon this administration by the President to "root

 20 out regulations that conflict, that are not worth

 21 the cost or that are just plain dumb." Today in

 22 furtherance of his guidance and that mission, I
 29

 1 will not support the final rules governing the

 2 internal business conduct standards or the block

 3 trading rule.

 4 The Commission has an obligation to make

 5 a determination as to whether our rules qualify as

 6 a major rule and the OMB's Office of Information

 7 and Regulatory Affairs has concurred with our

 8 determination that this set of rules qualifies as

 9 a "major rule" under the Congressional Review Act

 10 with an annual effect on the economy of more than

 11 $100 million. However, there isn't a single list

 12 of costs associated with the internal rule to make

 13 a determination whether that figure is correct or

 14 not. Cost-benefit analyses of this rule clearly

 15 fail to comply with OMB Circular A-4 which is the

 16 how-to manual for government best practices in

 17 developing cost-benefit analysis. Our rule fails

 18 to discuss anticipated costs. There is no

 19 analysis based on reasoned assumptions or an

 20 evaluation of the impacts of the rulemaking. We

 21 have selected our own baseline to measure costs

 22 and have failed to use the prestatutory baseline
 30

 1 in direct violation of the OMB guidance. This

 2 rule amounts to regulatory malpractice.

 3 After reviewing the internal business

 4 conduct rules, I have reached the tipping point

 5 and can no longer tolerate the application of weak

 6 standards in analyzing the costs and the benefits

 7 of our rulemakings. Our inability to develop

 8 quantitative analyses or develop reasonable

 9 comparative analyses of legitimate options hurts

 10 the credibility of this Commission and undermines

 11 the quality of our rules. I believe it is time

 12 for professional help and I will be following-up

 13 this statement with a letter to the director of

 14 OMB seeking review of the internal business

 15 conduct rules to determine whether or not the

 16 rulemaking complies with the President's executive

 17 orders and the OMB guidance found in OMB Circular

 18 A- 4. The fact that the Commission has been

 19 challenged by weak economic analysis is not new.

 20 In fact, the CFTC's IG raised many concerns with

 21 our analysis in the June 13, 2011 review. I

 22 believe the Commission began to stray from the
 31

 1 President's executive order as a result of staff

 2 guidance which was Exhibit 2 in the IG report.

 3 The document is intended to guide staff in

 4 developing cost-benefit analysis, and

 5 unfortunately, it weakens OMB guidance in a number

 6 of areas. For example, it directs staff to

 7 "incorporate the principles of Executive Order

 8 13563 to the extent that they are consistent with

 9 5A and that it is reasonable feasible to do so."

 10 I'm not sure that the President had that in mind

 11 when he issued the order. As for the executive

 12 order, it appears that we will incorporate the

 13 principles only when they neatly align with our

 14 own interpretation.

 15 Setting the bar this low is remarkable.

 16 Indeed, former CFTC Commissioner and Acting

 17 Chairman William Albrecht recently wrote that

 18 expecting any detailed cost-benefit analysis of

 19 the proposed Dodd-Frank rules is impossible in

 20 part because "the CFTC has never had to develop

 21 CBA expertise." Additionally, as in today's final

 22 rulemaking, the Commission has determined in
 32

 1 contradiction of OMB guidance that it may set the

 2 baseline to incorporate the costs of statutorily

 3 mandated rulemakings regardless of how the CFTC

 4 has interpreted the statutory goals and regardless

 5 of the existence of alternative means to comply

 6 with such goals. Thereby, the Commission is

 7 relying on an arbitrary presumption that "from the

 8 rule to the extent that new regulations reflect

 9 the statutory requirements of the Dodd-Frank Act,

 10 they will not create costs and benefits beyond

 11 those resulting from Congress's own statutory

 12 mandates in the Dodd-Frank Act." This is

 13 unacceptable and that Commission ignores the

 14 pre-Dodd- Frank reality and establishes its own

 15 economic baseline for its rulemaking is

 16 unacceptable. The practice defies not only common

 17 sense but rigorous and competent economic analysis

 18 as well. OMB Circular A-4 is very specific about

 19 cost-benefit best practices. The circular also

 20 directs the Commission to consider alternatives

 21 available "for the key attributes or provisions of

 22 the rule." The circular goes on to recommend "it
 33

 1 is now adequate simply to report a comparison of

 2 an agency's preferred option to choose a baseline.

 3 Whenever you report the benefits and costs of

 4 alternative options, you should present both total

 5 and incremental costs and benefits." This is at

 6 the most basic level of the analysis where the

 7 Commission has failed to provide alternative

 8 options for consideration or failed to justify its

 9 chose of regulation with specific cost-benefit

 10 analysis.

 11 There are multiple examples where

 12 concerned raised by commenters were dismissed out

 13 of hand without any cost analysis or alternative

 14 comparisons provided. However, I'd like to share

 15 one example which I found to be the most absurd.

 16 It relates to the duplicative requirement to store

 17 trade data that is already stored by an SDR. Our

 18 rule in the cost- benefit analysis states, "The

 19 Commission considered this alternative to its

 20 recordkeeping rules but determined that it is

 21 premature at this time to permit swap dealers and

 22 MSPs to rely solely on SDRs to meet their
 34

 1 recordkeeping obligations under the rules. At

 2 present, SDRs are new entities under the

 3 Dodd-Frank Act with no track record of operations,

 4 and for particular swap asset classes SDRs have

 5 yet to be established" which is just astounding

 6 since we've already voted on this create the gold

 7 standard for data retention in passing various

 8 rules regarding swap data repositories and I am

 9 stunned at this comment which seems to undermine

 10 all of our previous rules on data, swap data core

 11 principles and real-time reporting. In addition

 12 to finalizing rules governing registration

 13 standards, duties and core principles for SDRs,

 14 the Commission has already voted on the final

 15 rules to establish and compel the reporting of

 16 swaps transaction information to SDRs for purposes

 17 of real-time reporting and to ensure that the

 18 complete data concerning swaps is available to

 19 regulators throughout the existence of the swaps

 20 and for 15 following termination. It is curious

 21 as to how the Commission came to the conclusion

 22 that in the internal business conduct rules that
 35

 1 these are cost-effective given that they require

 2 firms to keep duplicative and redundant trade

 3 records when all trades must be reported to an SDR

 4 and including 10 years longer than held by the

 5 registrants. I have serious concerns about the

 6 Commission's ability to monitor and reconcile two

 7 sets of records which is the rational put forth in

 8 this rule. Trade repositories are intended to

 9 enhance swap market transparency. The Commission

 10 should do more to ensure its own transparency with

 11 regard to its cost-benefit analysis by disclosing

 12 its own assumptions and data to support its

 13 conclusions. Again I go back to Circular A-4

 14 which outlines the standards of transparency with

 15 the following direction, "A good analysis should

 16 be transparent and you results must be

 17 reproducible. You should clearly set out the

 18 basic assumptions, methods and data underlying the

 19 analysis and discuss uncertainties associated with

 20 your estimates." It goes on to recommend that "to

 21 provide greater access to your analysis, you

 22 should generally post it with supporting documents
 36

 1 on the internet so that the public can review the

 2 findings" -- that the Commission will comply with

 3 either guidance.

 4 I believe that a reasonably feasible

 5 standard as articulated in our own staff guidance

 6 has cost us to miss the mark for identifying using

 7 the best, most innovative and least burdensome

 8 tools to meet the regulatory ends laid out in

 9 Section 4s of the Commodity Exchange Act. I agree

 10 with Chairman Albrecht that the CFTC ought to be

 11 able to require -- to undertake a more rigorous

 12 cost-benefit analysis. I will be sending a letter

 13 to Acting OMB Director Jess Zients requesting his

 14 assistance in determining how far off the baseline

 15 the Commission has fallen. If OMB Circular A-4

 16 means anything at all, then OMB should take action

 17 and hold the Commission to the circular's

 18 standards.

 19 With regard to the block rule, I have a

 20 complete statement that I would like to have

 21 included in the record. To summarize my concern,

 22 I am frustrated that this rule proposal changed
 37

 1 significantly last night moving the block size

 2 from 50 percent of notional value to 67 percent.

 3 Amazingly, this did not affect our cost-benefit

 4 analysis. This new proposal looks at lot like our

 5 original proposal. Instead of capturing 95

 6 percent of trades, this proposal now will only

 7 capture 93 percent albeit with different metrics.

 8 I don't agree with the one-size-fits-all approach

 9 and I hope we will consider in the rule a more

 10 nuanced asset-specific solution based on actual

 11 transaction data. I would like to thank the rule

 12 teams for their hard work in answering my

 13 questions regarding their work and their patience

 14 in explaining their complex rules. They have done

 15 a remarkable job to respond to the shifting

 16 dynamics and these are massive, complex rules and

 17 I greatly appreciate the work they've put into

 18 them, so thank you very much.

 19 CHAIRMAN GENSLER: Thank you,

 20 Commissioner O'Malia. Commissioner Wetjen?

 21 COMMISSIONER WETJEN: Thank you, Mister

 22 Chairman. I'll be supporting staff's
 38

 1 recommendations on the business conduct rules and

 2 the block trade proposal before us today. There

 3 are many aspects to the final rule concerning

 4 internal business conduct standards for FCMs,

 5 introducing brokers, swap dealers and major swap

 6 participants which now consist of five prior

 7 proposals. For now I'm going to focus on the

 8 conflicts- of-interest requirements and

 9 qualifications and designation of a chief

 10 compliance officer.

 11 Our clearing-related conflicts rules

 12 seek to promote customer choice and clearing

 13 independence in the swaps markets. Swap users

 14 will be best served if they have a range of

 15 choices for their clearing needs. Toward this

 16 end, the rule requires targeted firewalls to

 17 ensure that trading unit personnel do not

 18 interfere with or improperly influence

 19 clearing-related decisions by affiliates.

 20 Importantly, the rule does not prohibit legitimate

 21 interaction between business units including

 22 coordination in the event of a default. I also
 39

 1 appreciate staff's efforts to modify the rule so

 2 that it strikes a better balance in preventing

 3 uncompetitive behavior while permitting affiliates

 4 to meet customer needs. To be sure, customer

 5 protection should not end at clearing. Indeed,

 6 recent events in the FCM community suggest that

 7 the warnings of a risk or compliance officer may

 8 be quickly dampened by others with PNL

 9 responsibilities or other incentives to do so and

 10 this why I support the requirement that the

 11 compliance officer have an independent line

 12 directly to the broad of directors. Given the

 13 persistent resource constraints on the Commission,

 14 it is unlikely that we alone can ensure full

 15 compliance with all swaps-related regulations at

 16 all times. Empowering and protecting the

 17 independence of the compliance are therefore

 18 essential components of our compliance regime.

 19 The new large notional block trade

 20 proposal builds upon our real-time reporting rules

 21 proposed in December 2010. It sets forth possible

 22 methodologies for determining block thresholds in
 40

 1 the four major swap categories as well as tenor

 2 buckets within these categories. It also requests

 3 public comment not only on the appropriateness of

 4 the final thresholds, but also on the best method

 5 for reaching them. In considering this proposal,

 6 the Commission is again faced with the potentially

 7 conflicting objectives of promoting transparency

 8 and protecting liquidity and a number of my fellow

 9 Commissioners mentioned the same issue in their

 10 remarks. Congress itself recognized this

 11 potential conflict and therefore directed the

 12 Commission to protect liquidity through block

 13 thresholds for public reporting and execution

 14 purposes.

 15 On the one hand, the public benefits

 16 from appropriate block trading thresholds because

 17 liquidity providers are given a window of time to

 18 assume and lay off risks in what can be relatively

 19 illiquid markets. If these liquidity providers

 20 are not given time to do so, the execution and

 21 inventory risks associated with large transactions

 22 may result in increased costs for commercial end
 41

 1 users who depend on the markets. On the other

 2 hand, if we set block thresholds too low and

 3 liquidity providers are able to hide their trading

 4 interests for longer than needed to hedge out of

 5 their positions, then public pricing in these

 6 markets will not reflect economic reality. This

 7 would provide unfair execution and informational

 8 advantages to large market participants over

 9 others. Accordingly, the Commission is attempting

 10 to take a measured approach to the block trade

 11 issue. Providing for methodologies that are

 12 tailored to specific asset classes should result

 13 in block thresholds that better balance

 14 transparency and liquidity. Yet I recognize this

 15 methodology could have flaws. It may result in

 16 thresholds that are too high or too low in swap

 17 categories or tenor buckets with abnormal

 18 transaction distributions. I therefore encourage

 19 the public to comment on the potential challenges

 20 of our methodologies and suggest alternative

 21 approaches as well if better ones exist.

 22 I am also interested in receiving public
 42

 1 feedback concerning block transactions in the

 2 other commodity asset class. The Commission

 3 proposes certain block thresholds based on those

 4 applicable to economically related futures

 5 contracts. I am aware of differences in liquidity

 6 of these two markets and the concern that the

 7 block trade rule could inadvertently create

 8 arbitrage opportunities. I worry that the

 9 Commission's swap-related determinations could be

 10 improperly informed by the liquidity of the

 11 futures markets. I look forward to comments

 12 concerning this question and whether this approach

 13 could unfairly disadvantage certain marketplaces.

 14 I am hopeful that with put input the

 15 Commission will able to craft a methodology that

 16 uses order data in a way that yields a useful

 17 measure of liquidity. If the theoretical

 18 justification of block trading turns in part on

 19 execution risks, then available liquidity within a

 20 reasonable distance of the midmarket price may be

 21 a relevant consideration in crafting our final

 22 thresholds. As the markets develop, we should
 43

 1 remain open to other ideas and methodologies even

 2 as we implement final thresholds. Additionally,

 3 the Commission's final block rules must address

 4 the interaction of the related SEF reporting and

 5 execution method rules. Thank you.

 6 CHAIRMAN GENSLER: Thank you,

 7 Commissioner Wetjen. Now Frank and Ward, I hand

 8 it over to you.

 9 MR. FISANICH: Thank you, Mister

 10 Chairman and Commissioners. I would like to thank

 11 the members of the rulemaking team for all of

 12 their hard work and dedication in completing this

 13 set of final rules. Staff is recommending for the

 14 Commission's consideration final rules comprising

 15 the first cluster of internal business conduct

 16 standards for SDs and MSPs as well as final rules

 17 for conflicts of interest, policies and procedures

 18 for FCMs and IBs and chief compliance officer

 19 requirements for FCMs, SDs and MSPs. The final

 20 rules in this cluster for SDs and MSPs cover risk

 21 management, monitoring of position limits,

 22 diligent supervision, business continuity and
 44

 1 disaster recovery, conflict-of-interest policies

 2 and procedures for information firewalls between

 3 research and trading and trading and clearing

 4 activities, availability of information for

 5 disclosure and inspection, recordkeeping and daily

 6 trading records and designation of a chief

 7 compliance officer and the requirements for an

 8 annual compliance report. These final rules

 9 implement certain requirements of Sections 4d and

 10 4s of the Commodity Exchange Act as added or

 11 amended by Sections 731 and 732 of the Dodd- Frank

 12 Act.

 13 Pursuant to Section 4s(j) of the CEA,

 14 the risk- management final rule requires swap

 15 dealers and major swap participants to establish a

 16 risk-management program consisting of written

 17 policies and procedures designed to monitor and

 18 manage the risks associated with their swaps

 19 activities. Under the final rule, the

 20 risk-management program must take into account

 21 among other things market risk, credit risk,

 22 liquidity risk, foreign currency risk, legal risk,
 45

 1 operational risk, settlement risk and the risks

 2 related to trading and traders. The rule also

 3 requires risk-management issues to be elevated to

 4 management through periodic risk exposure reports.

 5 The risk-management provisions also require SDs

 6 and MSPs to establish business continuity and

 7 disaster recovery plans designed to enable them to

 8 resume operations by the next business day

 9 following an emergency or other disruption. Also

 10 pursuant to Section 4s(j) of the CEA, the position

 11 limits monitoring rule requires swap dealers and

 12 major swap participants to establish procedures to

 13 monitor for and prevent violations of applicable

 14 position limits established by the Commission, a

 15 designated contract market or swap execution

 16 facility. A swap dealer or major swap participant

 17 is required to provide annual trading for

 18 personnel on position limits, diligently monitor

 19 and supervise trading, implement an early warning

 20 system, test their position limit procedures,

 21 document compliance with position limits on a

 22 quarterly basis and audit the procedures annually.
 46

 1 Pursuant to Section 4s(h) of the CEA, the diligent

 2 supervision final rule requires each swap dealer

 3 and major swap participant to establish a system

 4 of diligent supervision over all activities

 5 performed by its partners, members, officers,

 6 employees and agents and requires SDs and MSPs to

 7 establish a supervisory system and appoint

 8 qualified supervisory personnel. The final rules

 9 also implement requirements under Section 4s(j) of

 10 the CEA for swap dealers and major swap

 11 participants to promptly disclose all information

 12 required by the Commission or prudential

 13 regulator. To ensure prompt disclosure of all

 14 information, swap dealers and major swap

 15 participants are required to have adequate

 16 internal systems that will permit the Commission

 17 to obtain any information required in a timely

 18 manner.

 19 The final rules on conflicts of interest

 20 for SDs, MSPs, FCMs and IBs as has been mentioned

 21 implement requirements under Section 4a(j) and

 22 4d(c) of the CEA. Under these final rules, these
 47

 1 registrants are required to prevent conflicts of

 2 interest by establishing appropriate information

 3 firewalls between persons researching or analyzing

 4 the price or market for any derivative and persons

 5 involved in pricing, trading or clearing

 6 activities, as well as between persons acting in a

 7 role of providing clearing activities or making

 8 determinations as to accepting clearing customers

 9 and persons involved in pricing or trading

 10 activities. The final rules prohibit nonresearch

 11 personnel from directing the views expressed in

 12 research reports and prohibit the supervision of

 13 research analysts by certain trading and clearing

 14 personnel including decisions related to research

 15 analyst compensation. The final rules also

 16 prohibit registrants from offering favorable

 17 research or threatening to change research for

 18 existing or prospective counterparties in exchange

 19 for business or compensation and require

 20 disclosure of financial interests of research

 21 analysts that may pose a conflict of interest and

 22 research reports and public appearances. With
 48

 1 respect to clearing activities, the final rules

 2 prohibit swap dealers or major swap participants

 3 from interfering with or attempting to influence

 4 decisions relating to the provision of clearing or

 5 the acceptance of clearing customers of an

 6 affiliated FCM. Swap dealers and major swap

 7 participants also just maintain appropriate

 8 partitions between business trading personnel and

 9 clearing personnel of an affiliated clearing

 10 member. As required by Sections 4d(d) and 4s(k)

 11 of the CEA, the final chief compliance offer rule

 12 for SDs, MSPs and FCMs, require these registrants

 13 to designate a qualified CCO. The CCO must report

 14 directly to the board or to the senior officer of

 15 the registrant, administer the registrant's

 16 compliance policies reasonably designed to ensure

 17 compliance with the CEA and Commission

 18 regulations, resolve conflicts of interest in

 19 consultation with the board or senior officer and

 20 establish procedures for the remediation of

 21 noncompliance issues. The final rule also

 22 requires that the COO prepare and sign an annual
 49

 1 report that contains a description of the

 2 registrant's compliance policies and its

 3 compliance with the CEA and Commission regulations

 4 including a description of any material

 5 noncompliance issues. Either the CCO or the CEO

 6 of the registrant must certify the annual report

 7 as accurate and complete to the best of his or her

 8 knowledge and reasonable belief.

 9 Finally, pursuant to Section 4s(f) of

 10 the CEA, the final recordkeeping rule for SDs and

 11 MSPs requires these registrants to keep full and

 12 complete transaction and position information for

 13 their swaps activities including all documents on

 14 which trade information is originally recorded.

 15 Transaction records would be required to be

 16 maintained in a manner that is identifiable and

 17 searchable by transaction and by counterparty.

 18 The final rules also require that swap dealers and

 19 major swap participants keep basic business

 20 records including among other things minutes from

 21 board meetings, organizational charts, audit

 22 documentation and records of marketing materials
 50

 1 and complains. Finally, swap dealers and major

 2 swap participants would be required to maintain

 3 records of information required to be submitted to

 4 a swap data repository or to be reported on a

 5 real-time public basis under those rules. The

 6 daily trading records rule pursuant to 4(s)(G) of

 7 the CEA prescribe daily trading records

 8 requirements including records of trade

 9 information related to preexecution, execution and

 10 postexecution data. Preexecution trade data would

 11 include records of all oral and written

 12 communications that lead to the execution of a

 13 swap. The rules require swap dealers and major

 14 swap participants to ensure that they preserve all

 15 information necessary to conduct a comprehensive

 16 and accurate trade reconstruction for each swap.

 17 Under the final rules, records of related cash or

 18 forward transactions must be kept when those

 19 transactions are used to hedge, mitigate the risk

 20 of or offset any swap held by the swap dealer or

 21 major swap participant as required under Section

 22 4s(g) of the CEA. Records required to be
 51

 1 maintained under these final rules must be kept in

 2 accordance with existing Commission Rule 1.31 with

 3 the exception of records of or related to swap

 4 transactions which would be retained until the

 5 termination, expiration or maturity of the

 6 transaction and for 5 years thereafter. A further

 7 exception is made for records of oral

 8 communications or recordings of oral

 9 communications which are required to be kept for a

 10 period of 1 year. Rules regarding reports. With

 11 respect to reporting, the final reporting rules

 12 require swap dealers and major swap participants

 13 to report their swaps in accordance with the

 14 real-time public reporting rules and swap data

 15 rules finalized by the Commission in January of

 16 this year. This concludes my prepared remarks and

 17 I would be happy to address any questions that the

 18 Commission may have.

 19 CHAIRMAN GENSLER: The Chair will now

 20 entertain a motion to accept staff's

 21 recommendation concerning this final rule.

 22 COMMISSIONER SOMMERS: So moved.
 52

 1 COMMISSIONER CHILTON: Second.

 2 CHAIRMAN GENSLER: Thank you. I support

 3 the internal business conduct rule which I think

 4 does lower risk that swap dealers may pose to the

 5 rest of the economy. These rules I think are a

 6 direct result of critical reform in the Dodd-Frank

 7 Act and leads to my first question, Frank or Ward.

 8 Did Congress direct us to write rules in these

 9 various areas, call it (4)(s), f, g, h, j? I

 10 can't remember all the letters.

 11 MR. FISANICH: Yes. Each of these rules

 12 is pursuant to part of (4)(s) or for the FCMs and

 13 IBs, part of 4(d).

 14 CHAIRMAN GENSLER: Does Congress use the

 15 word "shall" or "may"?

 16 MR. FISANICH: In each of these areas,

 17 each of these were determined to be other than in

 18 a couple of instances nondiscretionary.

 19 CHAIRMAN GENSLER: Nondiscretionary, so,

 20 "shall." I think that Congress debated quite at

 21 length jurisdictional issues about who should do

 22 it and they arrived at the Commodity Futures
 53

 1 Trading Commission because this Commission has

 2 such a wealth of experience in derivatives though

 3 it was in futures rather than swaps, but also

 4 debated whether it was important to have robust

 5 duties, risk-management, recordkeeping, daily

 6 trading records plus an audit trail and firewalls

 7 to address conflicts of interest. I think that

 8 this collection of what were five proposals

 9 greatly benefited from public comment and greatly

 10 where we could to make adjustments but also to

 11 fulfill the congressional mandate. The final rule

 12 establishes a number of duties and I'm going to

 13 highlight just one of them that I think is quite

 14 critical, that the swap dealers will have

 15 risk-management programs with policies and

 16 procedures to manage and monitor the risk

 17 associated with their activities. This is to

 18 ensure that the risk-management programs take into

 19 consideration various market, credit, liquidity

 20 and other risks. Having spent a little time

 21 around this topic from the 1990s, I think one of

 22 the core assumptions during that period of time is
 54

 1 somebody is regulating these entities, that

 2 Congress didn't need to speak to it. In fact,

 3 that was part of the assumption that went into the

 4 Commodity Futures Modernization Act which

 5 basically said this agency wouldn't have any role

 6 in much of this work. I think that that was a

 7 false assumption and I will even say I was part of

 8 that assumption. That is why I am so happy today

 9 to be able to support this rule, that this agency

 10 does have a role, Congress asked us to do it, in

 11 fact directed us to do it directly to write rules

 12 about risk management for swap dealers. Another

 13 question I have is how much consultation have you

 14 had with the Federal Reserve and the bank

 15 regulators on these rules?

 16 MR. FISANICH: Each of those agencies

 17 has viewed the proposal, the comment summaries,

 18 the first draft of the final rules and the final

 19 draft of the final rules.

 20 CHAIRMAN GENSLER: Though you may not

 21 have taken every one of their comments, have you

 22 done your best to make most of their comments?
 55

 1 MR. FISANICH: We have addressed all of

 2 their major concerns.

 3 CHAIRMAN GENSLER: All of their major

 4 concerns. So that it's a collaborative approach,

 5 but I think Congress sort of decided this one and

 6 I think that this is important that we fulfill

 7 Congress's mandate. To the question of whether

 8 we'll find comparability with foreign regulators,

 9 I actually share Commissioner Sommers's view that

 10 we've had a long history of addressing ourselves

 11 to mutual understanding arrangements and finding

 12 comparable regimes where we can. We are as

 13 Commissioner Sommers notes a small agency and need

 14 to leverage off of those foreign jurisdictions

 15 where we can. But I think domestically Congress

 16 kind of decided this one and I think Congress was

 17 right. I'm going to turn it over to other

 18 Commissioners. I have a longer statement for the

 19 record.

 20 COMMISSIONER SOMMERS: Thank you. Good

 21 morning. I guess following along the same theme,

 22 if we would have just stuck with what the statute
 56

 1 said, we actually might be in a good place here.

 2 Instead we went above and beyond in most every

 3 single area. My first question is regard to the

 4 conflicts of interest in the research reports.

 5 The way that the statute is written and then the

 6 way that the rule is written, there are some

 7 conflicts that I'm not sure that I understand.

 8 The statutory provision for FCMs and IBs requires

 9 firewalls between persons involved in trading or

 10 clearing and the activities of persons conducting,

 11 this is a quote, "research or analysis of the

 12 price or market for any commodity." Then the

 13 statutory provision for the swap dealers and MSPs

 14 requires firewalls between persons involved in

 15 trading or clearing and the activities of persons

 16 conducting "research or analysis of the price or

 17 market for any commodity or swap." But instead of

 18 sticking with that language for the FCMs and IBs,

 19 sticking with commodity or sticking with commodity

 20 or swap for SDs and MSPs, we've decided to use the

 21 word "derivative" and we define derivative. I'm

 22 wondering why that was done and why we didn't
 57

 1 stick with what the statute said in those cases.

 2 MR. FISANICH: The definition of

 3 derivative is taking from the definition of FCM

 4 from the CEA and it defines the scope of an FCM or

 5 an IB's business in this area. I think the

 6 impetus behind it was to make sure that we were

 7 covering all of the possible avenues of conflicts

 8 in these areas under these products.

 9 COMMISSIONER SOMMERS: But the word

 10 derivative doesn't actually include commodity.

 11 Right?

 12 MR. FISANICH: As in a physical

 13 commodity? No, it does not. It includes futures

 14 products on commodities.

 15 COMMISSIONER SOMMERS: My question would

 16 be if the research arm of a swap dealer predicts

 17 that the price of the NYMEX WTI contract will

 18 reach X number of dollars by a certain date, that

 19 would be covered because that's a futures. But

 20 would a similar prediction about the price of an

 21 underlying commodity in the cash market qualify as

 22 a research report?
 58

 1 MR. GRIFFIN: To be clear, certainly our

 2 rules don't trump the statutory language so that

 3 to the extent there was any concern that research

 4 relating to the underlying commodity would not be

 5 covered certainly is under Section 4d(c) of the

 6 Commodity Exchange Act.

 7 COMMISSIONER SOMMERS: So that commodity

 8 is covered because that's what's in the statute

 9 even though that's not what the rule says?

 10 MR. GRIFFIN: Correct. It's a statutory

 11 requirement.

 12 COMMISSIONER SOMMERS: It's very unclear

 13 because it's not included in the definition so

 14 that it's very clear as to what that covers.

 15 My next question is with regard to the

 16 walls we're erecting on the communications between

 17 the trading and clearing units and I'm trying to

 18 figure out what we're trying to get at because the

 19 way it's written in the rule, it's a little bit

 20 different for FCMs and IBs and for SDs and MSPs.

 21 We have an exception for communications necessary

 22 to manage a default, but the way it's written in
 59

 1 the FCM and IB portion of the rule, we prohibit

 2 them conditioning or tying the provision of

 3 trading services upon or to the provision of

 4 clearing services or for an SD or MSP to otherwise

 5 to participate in the provision of clearing

 6 services by improperly incentivizing or

 7 encouraging the use of an affiliated futures

 8 commission merchant. What are we trying to

 9 prohibit? What is improperly incentivizing?

 10 MR. FISANICH: The rule is attempting to

 11 prohibit -- let's put it this way. The rule is

 12 attempting to make sure that the decisions of an

 13 affiliated FCM are made on its own.

 14 COMMISSIONER SOMMERS: Is it a violation

 15 of the rule -- the tie and bundle, is it a

 16 violation of the rule if the pricing of trading or

 17 clearing is tied together so that if you say to a

 18 customer this is the price if you trade and clear

 19 with us and this is the price if you just trade

 20 with us?

 21 MR. FISANICH: The rule is directed at

 22 the business trading unit of an affiliated swap
 60

 1 dealer or major swap participant so it is only

 2 those personnel of the affiliated swap dealer that

 3 are prohibited from engaging in this activity. It

 4 is a very narrowly defined business trading unit,

 5 those involved I pricing and marketing and

 6 soliciting and sales and those supervising the

 7 performance of those activities. All other

 8 employees or personnel of the swap dealer are not

 9 prohibited from participating in the provision of

 10 clearing services.

 11 COMMISSIONER SOMMERS: My confusion

 12 mostly stems from the fact that this is

 13 prohibited, the business trading unit of an

 14 affiliated swap dealer or major swap participant,

 15 this prohibition is in actually the FCM IB portion

 16 of the rule. But if you go to the SD MSP portion

 17 of the rule, there are a number of other

 18 prohibitions with regard to the clearing unit of

 19 the affiliated clearing member of a DCO and

 20 they're prohibited from a number of other things,

 21 but this would just go to the business unit of the

 22 swap dealer or business trading unit of the
 61

 1 affiliated swap dealer or MSP. It is unclear to

 2 me what we're trying to accomplish and whether or

 3 not something that I think is probably a standard

 4 business practice with regard to the kinds of fees

 5 you charge to customers and what kind of business

 6 they do with you, if that's a violation of this

 7 rule to be able to bundle those services.

 8 MR. FISANICH: The prohibition is on

 9 influence or interference with the decision to

 10 provide clearing services or access to clearing,

 11 so as long as that decision is independent of the

 12 business trading unit of the swap dealer or major

 13 swap participant, it would not be a violation.

 14 COMMISSIONER SOMMERS: My last question

 15 is with regard to recordkeeping for oral and

 16 written communications. The rule requires that

 17 swap dealers and MSPs keep records of all oral and

 18 written communications concerning quotes,

 19 solicitations, bids, offers, instructions, trading

 20 and prices that lead to the execution of a swap

 21 and that these records must be searchable by

 22 transaction and counterparty. Some of the
 62

 1 commenters let us know that the traders typically

 2 engage in ongoing dialogue with counterparties

 3 over an extended period of time and that it may be

 4 difficult to identify which communications

 5 actually lead to a single trade. I'm wondering if

 6 you can explain for us what obligation swap

 7 dealers and MSPs have with regard to how these

 8 transactions can actually in the end be searchable

 9 by counterparty and transaction.

 10 MR. FISANICH: The obligation to keep

 11 the records by counterparty is in the statute

 12 itself so that we don't have discretion to change

 13 that. The idea here is that all of these things

 14 would be recorded and then if a request for the

 15 audit trail or request for the daily trading

 16 records pertaining to a particular counterparty or

 17 to a particular transaction, that the SD or the

 18 MSP would have internal systems in place necessary

 19 to produce those records as required.

 20 COMMISSIONER SOMMERS: You assume that

 21 when things like LEIs are implemented, it will be

 22 a lot easier for people to have systems that are
 63

 1 searchable by counterparty because presumably

 2 every counterparty will have some sort of LEI.

 3 Right?

 4 MR. FISANICH: Yes. The assumption is

 5 that those universal identifiers for swaps, for

 6 entities and for particular transactions or

 7 products will greatly assist in doing this.

 8 COMMISSIONER SOMMERS: Will these rules

 9 and these obligations be tied to the

 10 implementation of those rules related to

 11 recordkeeping?

 12 MR. FISANICH: Those would be covered in

 13 the swap data reporting and recordkeeping rules

 14 that were finalized in January. To the extent the

 15 identifiers come into use, then they would be

 16 required to be used for reporting to an SDR and

 17 because this rule requires that a record be kept

 18 of what's reported to an SDR, then these would be

 19 in the records as well.

 20 COMMISSIONER SOMMERS: My concern with

 21 regard to a lot of these recordkeeping

 22 requirements as you know is because of the way the
 64

 1 conforming amendments took up some of these

 2 requirements for FCMs and IBs in the futures

 3 context and what kind of requirements will be

 4 imposed on those market participants versus what

 5 we're doing in the swaps world and whether or not

 6 this even is applicable in those sorts of

 7 situations and I hope that we're sensitive to that

 8 when it comes to the conforming amendments of

 9 these particular provisions.

 10 CHAIRMAN GENSLER: Thank you,

 11 Commissioner Sommers. Let me say on the

 12 conforming amendments that we've gotten a lot of

 13 comments on a particular aspect. If I recall, it

 14 relates to members of designated contract markets

 15 and recording and recordkeeping. I think I share

 16 your concern that we have to address that and dial

 17 some of that back in the conforming amendments.

 18 Commissioner Chilton?

 19 COMMISSIONER CHILTON: Thanks for the

 20 work, guys. You did a good job. I have a couple

 21 of clarifying questions. Does this rule make

 22 clear who is responsible in an organization for
 65

 1 the protection of segregated customer funds?

 2 MR. FISANICH: The chief compliance

 3 officer rule covers this not specifically but more

 4 generally that the chief compliance officer is

 5 responsible for administering the compliance

 6 policies reasonably designed to ensure compliance

 7 with the CEA and Commission regulations, and to

 8 the extent that there is a segregation requirement

 9 in the rules or in the statute, then the chief

 10 compliance officer has an affirmative obligation

 11 to take reasonable steps to ensure compliance with

 12 those rules.

 13 COMMISSIONER CHILTON: Does it further

 14 require, this rule, that there are intraday checks

 15 that are supposed to go on to make sure that rules

 16 aren't being prohibited whether or not it's

 17 segregated funds or whether it's position limits?

 18 This isn't just at the end of the day or the

 19 beginning of a day, but this an intraday

 20 accountability thing for the firms. Correct?

 21 MR. FISANICH: To the extent segregation

 22 is required at any time during the day, they would
 66

 1 have to have --

 2 COMMISSIONER CHILTON: It is required

 3 during any time of the day.

 4 MR. FISANICH: Right. During the day

 5 the policies and procedures for compliance with

 6 that requirement would have to account for

 7 intraday checks and balances to make sure that

 8 that is the case.

 9 COMMISSIONER CHILTON: Intraday. This

 10 issue of the firewalls in which I think you've

 11 struck a good balance, as a matter of fact, let me

 12 ask this first: do you think you've struck a good

 13 balance not just for yourself, obviously you're

 14 coming forward with the rule, but of the comments

 15 that we received looking at all of them, do you

 16 think that the rule reflects or balance? I mean,

 17 we can adopt anything that we can get three votes

 18 on. But do you think of the comments received

 19 that this rule presents a balanced approach to

 20 what they said?

 21 MR. FISANICH: We do. We received many,

 22 many comments on this particular issue on both
 67

 1 sides many of which asked for even stronger

 2 firewalls between clearing and trading, including

 3 comments asking for physical separation of these

 4 entities into different buildings. We did not go

 5 quite that far. We did respond to legitimate

 6 concerns about default management and those types

 7 of things, but I think we've struck an appropriate

 8 balance here among the commenters.

 9 COMMISSIONER CHILTON: And we have done

 10 everything that is required under the financial

 11 reform law?

 12 MR. FISANICH: We did.

 13 COMMISSIONER CHILTON: My last area is

 14 this issue of firewalls between clearing, research

 15 and trading interdependently. If you're a trader

 16 and maybe you don't know a lot about the Palladium

 17 market but one of your customers wants you to be

 18 in Palladium or whatever it is, there is no

 19 prohibition against your trading arm have some

 20 researchers or some people who can give expert

 21 advice. Correct? The prohibition is between the

 22 research arm of the firm and the trading unit. Do
 68

 1 I have that correct?

 2 MR. FISANICH: That is correct. To the

 3 extent that a trading desk is creating its own

 4 research and is presenting that to counterparties

 5 or the public, as long as it's clearly delineated

 6 as the product of the trading desk and is

 7 basically in the form of research that's part of a

 8 solicitation for business that that would be

 9 permitted.

 10 COMMISSIONER CHILTON: One of the

 11 concerns, and some of us have talked about this

 12 for years going back to 2008 even where some of

 13 these research arms are very successful. They're

 14 prominent. People look at them. They use those

 15 like they're leading economic indicators. In 2008

 16 as crude oil was skyrocketing, one of these

 17 research arms came out and said crude oil is going

 18 to be $200 a barrel. Everyone was saying before

 19 they published the research did these researchers

 20 go tell the traders, by the way we're going to do

 21 this and it may move the market? They would say

 22 no, and they'd say, no, we have our internal
 69

 1 firewalls, but that doesn't mean that they're not

 2 in the cafeteria line together saying tomorrow

 3 watch out. It can have an impact. And by the

 4 way, these trading arms, they're self-funding a

 5 lot of times. They make money because people

 6 subscribe to their services. I'm not criticizing.

 7 They're very smart folks and they do a lot of good

 8 for markets in general. But what we're doing is

 9 saying that you can't have this sort of insidious

 10 relationship and we do have firewalls. These are

 11 firewalls that we sort of use a lot of times

 12 anyway. If the three of us are about to get in an

 13 elevator, we want to make sure there's an attorney

 14 with us to make sure we don't discuss business.

 15 So we're really asking for something that

 16 government does now, we're asking for something

 17 that is done in other places in business and I

 18 commend you for all your work and thank you and I

 19 support the rule.

 20 CHAIRMAN GENSLER: Commissioner Chilton,

 21 it actually comes out of the Joint Harmonization

 22 Report when the President in 2009 asked this
 70

 1 Commission to work with the Securities and

 2 Exchange Commission on looking at all of our rules

 3 and seeing where we could have some similarities.

 4 One of the recommendations that Congress then took

 5 up is that we have some of these firewalls between

 6 research and trading similar to what's in the

 7 securities field. You may have been ahead of that

 8 in 2008, but I'm saying that the President and

 9 others joined you in 2009 maybe.

 10 COMMISSIONER CHILTON: He doesn't often

 11 listen to me and take my advice, but I appreciate

 12 the thought of it.

 13 CHAIRMAN GENSLER: Commissioner O'Malia?

 14 COMMISSIONER O'MALIA: I'd like to

 15 follow-up on a question Commissioner Sommers

 16 raised regarding technology. The rule requires

 17 that all information necessary to conduct a

 18 comprehensive and accurate reconstruction of each

 19 swap including being searchable by transaction and

 20 counterparty. Can you tell me what vendors offer

 21 this package that would allow swap dealers to make

 22 all phone calls and emails or chats searchable by
 71

 1 trader or transaction? Do you know who offers

 2 this today and is it installed?

 3 MR. FISANICH: There are a number of

 4 vendors that have consolidated voice recording and

 5 data recording as we understand.

 6 COMMISSIONER O'MALIA: But will it

 7 achieve exactly to make simultaneous the

 8 conversation associated with all the trade data,

 9 et cetera, to make sure that this is seamless and

 10 searchable by both counterparty and transaction?

 11 MR. FISANICH: I do not know.

 12 COMMISSIONER O'MALIA: So that I suspect

 13 you don't know how much it's going to cost.

 14 MR. FISANICH: I don't.

 15 COMMISSIONER O'MALIA: What is the

 16 timeframe when the dealers are supposed to have

 17 this possible system in place?

 18 MR. FISANICH: The compliance dates for

 19 all of the rules are keyed on the completion of

 20 both the entities definition and the products

 21 definition. Other than that, there is a staggered

 22 compliance regime in the adopting release that has
 72

 1 compliance dates that are dependent on whether or

 2 not the SD, MSP, FCM or IB has been previously

 3 regulated. So to the extent that there is an SD

 4 or MSP that has not been previously regulated,

 5 they will have a longer time to comply with all of

 6 these rules.

 7 COMMISSIONER O'MALIA: But if the

 8 technology is not available, we still require it.

 9 We didn't offer any leniency for technological

 10 consideration.

 11 COMMISSIONER CHILTON: That's a very

 12 good question on which people were talking with us

 13 yesterday. Let me go through this real quick. To

 14 follow-up on that, we have general authority do we

 15 not that would allow us to issue an order? If the

 16 technology is not there, certainly we shouldn't be

 17 requiring it or we should be able to make

 18 provision so that people aren't put between a rock

 19 and a hard place, but we have general authority.

 20 COMMISSIONER O'MALIA: I'd like to go

 21 back to your original point though. If the

 22 technology is not there, we shouldn't be requiring
 73

 1 it which is exactly right. We can waive it later.

 2 I get that. We're good at that. But the question

 3 is, is it available today and are we mandating

 4 something today? We didn't even ask the question.

 5 MR. GRIFFIN: It's our understanding

 6 that there is technology available. We're not

 7 sure of all the bits and pieces with that. But

 8 with respect to the requirements to make clear,

 9 separately identifiable with each swap

 10 transaction, that is actually a statutory

 11 requirement and not something that we are putting

 12 forward in the rule independently.

 13 COMMISSIONER O'MALIA: The searchable

 14 element of that, you have set the bar

 15 extraordinarily high. I get that it requires us

 16 to keep the data. Some of my later questions will

 17 ask the question why don't we just allow them to

 18 keep the data at the SDR? That was an option too.

 19 It doesn't say they have to keep it at the firm.

 20 Why not keep it at the SDR? They will have LEIs,

 21 they'll have it all separate, but now we've got

 22 redundant sets of books and that's my frustration
 74

 1 with this cost-benefit analysis. We don't care.

 2 We just rejected it out of hand as not costly and

 3 I'm trying to understand how costly this

 4 technology is or if it even exists. I don't doubt

 5 that it will exist at some point, but we're

 6 mandating it today at a point where it doesn't

 7 exist that I'm aware of and you guys aren't sure

 8 either, so that's my frustration. In developing

 9 your cost-benefit analysis, did you estimate the

 10 total cost, the cumulative cost, of 4(S), F and G?

 11 What did that requirement cost us for storing?

 12 MR. FISANICH: At the proposal stage we

 13 requested comment and quantitative data on that.

 14 To the extent that we received quantitative data,

 15 we're taken that into account in the cost-benefit

 16 analysis. But what the total cost of it is given

 17 the different sizes and implementation of the

 18 projected community of swap dealers and major swap

 19 participants; we were unable to quantify that in

 20 the cost-benefit analysis.

 21 COMMISSIONER O'MALIA: There was some

 22 discussion about the LEI and the LEI being on
 75

 1 track. That's clear from our data rule and some

 2 of these other things. That's great news, but

 3 that only identifies the entity. The UPI really

 4 is the thing from a risk-management standpoint

 5 that brings together similar swaps that would give

 6 you a better risk profile of understanding what

 7 swaps are -- that is a long way off. How does

 8 that figure into any of your concerns here or any

 9 of your mandates? It's years away.

 10 MR. FISANICH: We did not consider the

 11 UPI in formulating these rules.

 12 COMMISSIONER O'MALIA: Commissioner

 13 Sommers made a great point about substituted

 14 compliance. The statutory provisions, preamble

 15 and the rule text presume that some percentage of

 16 SDs, MSPs and possibly IBs will have a prudential

 17 regulator other than the CFTC. Nevertheless, the

 18 final rules do not permit substituted compliance

 19 and in at least one instance specifically

 20 prohibits it. Is that correct?

 21 MR. FISANICH: It does not prohibit it

 22 if you're talking about the business continuity
 76

 1 and disaster recovery. It just merely requires

 2 that any business continuity and disaster recovery

 3 plan that may be implemented in response to a

 4 prudential regulator or another regulator's

 5 requirements that it be examined to make sure that

 6 it complies with this rule as well.

 7 COMMISSIONER O'MALIA: What is the

 8 rationale behind not providing such compliance in

 9 the regulations where regulations of a prudential

 10 regulator at issue may be demonstrably comparable?

 11 MR. FISANICH: I think the reasoning was

 12 that because the 4(s) requirements for capital and

 13 margin require that the prudential regulator set

 14 those for entities that fall under their

 15 jurisdiction but not for any of the others, that

 16 it was assumed that the Commission would

 17 promulgate these rules so that all entities are

 18 regulated under a consistent regulatory regime.

 19 COMMISSIONER O'MALIA: But if the other

 20 entities, other prudential regulators are

 21 constituent, what options do we have to maybe

 22 reduce the burden?
 77

 1 MR. FISANICH: To the extent that

 2 they're consistent; so if you're an entity that

 3 has a prudential regulator and what is required by

 4 that regulator and these rules is consistent, then

 5 there is no duplication.

 6 COMMISSIONER O'MALIA: The statute

 7 requires SDs and MSPs to maintain a complete audit

 8 trail for conducting comprehensive and accurate

 9 trade reconstructions. This requirement is echoed

 10 in Regulation 23.202(a). What data elements are

 11 necessary for the audit trail to enable a trade

 12 reconstruction?

 13 MR. FISANICH: We believe that that

 14 would be all of the preexecution trade information

 15 that's listed, all of the execution trade

 16 information and all of the postexecution

 17 information.

 18 COMMISSIONER O'MALIA: So that's all of

 19 the conversations that lead up to any negotiations

 20 months, weeks, days ahead which is telephone,

 21 email, all of that?

 22 MR. FISANICH: That is correct.
 78

 1 COMMISSIONER O'MALIA: And put into your

 2 technology system. How will you reconstruct an

 3 audit trail for a bespoke transaction?

 4 MR. FISANICH: Again it would be all of

 5 the preexecution trade information, the execution

 6 information and the postexecution information

 7 should show the lead up to the execution, at the

 8 time of the execution what the terms of the deal

 9 are and then anything that happens to that

 10 particular transaction postexecution as far as

 11 changes in terms, novations to other

 12 counterparties and those types of things.

 13 COMMISSIONER O'MALIA: Will most of this

 14 stuff be stored at the SDR?

 15 MR. FISANICH: Some of this may be

 16 stored at the SDR. The preexecution trade

 17 information will not be.

 18 COMMISSIONER O'MALIA: How do we deal

 19 with potentially small dealers, the little guys

 20 that are farm co- ops, et cetera? Do we make any

 21 waivers for them in terms of collecting and

 22 maintaining all of this from a technology
 79

 1 standpoint?

 2 MR. FISANICH: The recordkeeping rules

 3 are consistent across all entities of all sizes.

 4 COMMISSIONER O'MALIA: One size fits

 5 all?

 6 MR. FISANICH: One size fits all.

 7 COMMISSIONER O'MALIA: Under 4s(j), SDs

 8 and MSPs are required to establish a robust and

 9 professional risk- management system adequate for

 10 managing the day-to-day business of the MSP and

 11 SD. We have interpreted this goal to require

 12 several pages of prescriptive rules requiring a

 13 host of policies and procedures especially

 14 regarding the business trading unit. What is the

 15 goal to be obtained by prescribing the SDs and

 16 MSPs to have at a minimum, policies and procedures

 17 covering all 10 areas? Why didn't we just go with

 18 the statute and say policies and procedures are

 19 adequate. We're very prescriptive in this area.

 20 What was the necessity for that?

 21 MR. FISANICH: Especially for swap

 22 dealers and major swap participants that have not
 80

 1 been regulated in the past it was thought that

 2 having a better roadmap to compliance with the

 3 robust professional standard would be the better

 4 way to go. All of these provisions in the

 5 risk-management program were gleaned from existing

 6 risk-management guidance and/or rules from

 7 prudential regulators and other market regulators.

 8 COMMISSIONER O'MALIA: So we have

 9 discretion when it comes to the statutory language

 10 and even though it is statutory language we have

 11 leeway into executing it?

 12 MR. FISANICH: What is being presented

 13 today is the view that this is a robust and

 14 professional risk-management program.

 15 COMMISSIONER O'MALIA: Let's turn to

 16 HFTs then. In that regard we just said trading

 17 programs must have policies and procedures. We

 18 were not prescriptive in that regard. Why did we

 19 take a different approach in that regard?

 20 MR. FISANICH: Any future rule

 21 surrounding that area would of course be more

 22 prescriptive. In this sense at the time of
 81

 1 formulating the proposal, it was thought to be

 2 enough to have just required the risk-management

 3 policies and procedures around the review, testing

 4 and use of these programs.

 5 COMMISSIONER O'MALIA: Let's walk

 6 through this so that everybody can keep up here.

 7 Can you describe what the HFT requirement is?

 8 What do we call it now, trading programs?

 9 MR. FISANICH: Using of a trading

 10 program. The swap dealer of major swap

 11 participant would be required to have written

 12 risk-management policies and procedures that lay

 13 out how they test these programs, how they review

 14 the performance of these programs and how they

 15 risk manage the use of the programs.

 16 COMMISSIONER O'MALIA: When you say

 17 trading program, you're not talking about a

 18 trading desk. You're talking about a specific

 19 software system. Right?

 20 MR. FISANICH: This originally as

 21 proposed was referred to as algorithmic trading

 22 programs. It was thought that that may be too
 82

 1 restrictive. It didn't quite describe what --

 2 COMMISSIONER O'MALIA: Where we are

 3 today and not previously is trading programs

 4 meaning software?

 5 MR. FISANICH: Meaning a systematic

 6 program of some sort rather run by software or

 7 not. I don't think it would be limited to just

 8 software programs.

 9 COMMISSIONER O'MALIA: By having this in

 10 place, having these risk-management procedures,

 11 would that have stopped the May 6 flash crash?

 12 MR. FISANICH: I do not know.

 13 COMMISSIONER O'MALIA: If industry were

 14 to adopt a set of best practices around these

 15 trading program standards, and frankly we've

 16 touched on it on the Technology Committee. We

 17 established a report on this on pretrade

 18 functionality. Would such practices meet the

 19 requirements of 23.600(d)(9) if they are

 20 incorporated and said best practices in their

 21 written policies and procedures? Would that

 22 satisfy this or does the industry have to wait for
 83

 1 us to do another rulemaking in order to understand

 2 where the safe harbors are?

 3 MR. FISANICH: Under this rule they

 4 would develop internal policies and procedures

 5 that meet the requirement for testing and review

 6 and the other --

 7 COMMISSIONER O'MALIA: But my point is,

 8 what is the requirement for testing and review?

 9 If the industry says these are best practices, is

 10 that sufficient or do we have to actively do

 11 something else to make sure that they understand

 12 what those standards are or else it continues to

 13 be a gray area?

 14 MR. FISANICH: I would think you would

 15 have to set standards.

 16 COMMISSIONER O'MALIA: We need to act

 17 again to set standards? Is that what you said?

 18 MR. FISANICH: Yes.

 19 COMMISSIONER O'MALIA: Can you explain

 20 where you set the baseline for comparison of the

 21 costs and benefits of these rules and what

 22 analysis was used on all of this? What is the
 84

 1 baseline?

 2 MR. FISANICH: Based on Section 15 of

 3 the CEA, the baseline is based on action of the

 4 Commission, the cost and benefits of actions of

 5 the Commission so that to the extent that a cost

 6 or a benefit is attributable to the acts of

 7 Congress and not the Commission and that is the

 8 baseline.

 9 COMMISSIONER O'MALIA: So the baseline

 10 is post-Dodd- Frank, essentially? Let me read the

 11 preamble. I'll quote it. "To the extent that the

 12 new regulations reflect the statutory requirements

 13 of the Dodd-Frank Act, they will not create costs

 14 and benefits beyond those resulting from

 15 Congress's statutory mandate in Dodd-Frank.

 16 However, to the extent that the new regulations

 17 reflect the Commission's own determinations

 18 regarding implementation of the Dodd-Frank

 19 provisions, such Commission determinations may

 20 result in other costs. It is these other costs

 21 and benefits resulting from the Commission's own

 22 determinations pursuant to and accordance with the
 85

 1 Dodd- Frank Act that the Commission considers with

 2 respect to Section 15a." So it sounds like that

 3 language means if Congress mandated it, that's the

 4 baseline. If we did something beyond that, only

 5 the additional stuff beyond the Dodd-Frank Act is

 6 something that we would have to consider. Is that

 7 a fair characterization?

 8 MR. GRIFFIN: That's correct; actually,

 9 not only preexisting actions by Congress but also

 10 any preexisting actions that the Commission has

 11 taken with respect to existing rules that are

 12 already in place. Section 15a requires that the

 13 Commission consider the costs and benefits of the

 14 action of the Commission and here with the rule

 15 proposed before you today that is the Commission

 16 action and the cost-benefit consideration section

 17 of the release goes through consideration of the

 18 costs and benefits of this action. So to the

 19 extent that an action of Congress imposed certain

 20 statutory requirements on registrants or others or

 21 to the extent that there are already preexisting

 22 Commission regulations, say in Part 1 for instance
 86

 1 where there are already requirements based on a

 2 prior Commission action, those would not be

 3 factored into the cost-benefit considerations

 4 under 15(a). It's just the action that's being

 5 taken here today or under consideration by you

 6 today.

 7 COMMISSIONER O'MALIA: OMB Circular A-4

 8 says that we're supposed to use the baseline

 9 approach being prestatutory action. Why did we

 10 ignore that?

 11 MR. BERKOVITZ: Generally speaking, what

 12 Ward and Frank is correct in terms of our general

 13 approach in our interpretation of 15(a), that

 14 15(a) requires us to consider the actions of the

 15 Commission, that this is a Commission decision and

 16 not to reweigh the congressional action. That's a

 17 separate question. It's not necessarily the same

 18 question as what is the baseline for doing that

 19 comparison. The language that you referred to in

 20 this cost-benefit is we're taken this approach

 21 generally to our rules because it is our

 22 interpretation of 15(a) that we consider the costs
 87

 1 and benefits of the Commission's actions and not

 2 reweigh Congress. Constructing the baseline. The

 3 baseline really goes to what's the reference

 4 against which we weight those costs and it depends

 5 on the particular rule. Sometimes the baseline of

 6 necessity will include the entire requirement and

 7 then we measure the alternatives before the

 8 Commission considering those costs and sometimes,

 9 it depends on the particular circumstances, it

 10 will be as you've said assuming that those costs

 11 are already there, what's the incremental

 12 additional cost so it really will depend on the

 13 factual circumstances in the particular rule at

 14 issue what is the baseline we adopted. That's

 15 consistent we believe, and this is what we

 16 attempted to address in our guidance, that we

 17 believe that's consistent with the A-4 guidance as

 18 to how you develop a baseline. But the baseline

 19 is really for how you consider the costs;

 20 sometimes as I said, it will include the

 21 congressional mandate and sometimes it won't. But

 22 in terms of weighing the alternatives, we don't
 88

 1 reweight the costs and benefits of what Congress

 2 has already done and each baseline will be

 3 determined in the context of a particular rule and

 4 OGC and OCE will work with the team to develop the

 5 appropriate baseline.

 6 COMMISSIONER O'MALIA: I think I'm

 7 having an only- in-Washington moment. Only in

 8 Washington could we come up with a baseline that

 9 doesn't consider where we are today but considers

 10 a poststatutory change. For economic analysis, a

 11 baseline is where we are today compared to where

 12 we're mandating the change to be. Whether it's

 13 Congress of us, you have to show the difference in

 14 where we are today to where we're going and we

 15 just don't. That's frustrating to me and it's got

 16 to be frustrating to everybody who has to pay for

 17 that change in cost because I don't think they

 18 care whether it was Congress that mandated it or

 19 the discretionary difference that we mandated

 20 based on congressional action. The fact is they

 21 have to install technology systems that are

 22 expensive and may not even exist today in order to
 89

 1 comply with our rules. They don't get to say my

 2 baseline is post-Dodd-Frank. I shouldn't complain

 3 so much about it. The reality is, the reality, is

 4 that you should look at it from a pre-Dodd-Frank

 5 analysis. Where in 15(a) does it say the term

 6 "reasonably feasible" and what do those words

 7 mean?

 8 MR. BERKOVITZ: What we have done is

 9 interpreting 15(a) and the requirement as well as

 10 there are three basic statutes that cover our

 11 rulemaking. There's Dodd-Frank which is the

 12 requirement and now part of the Commodity Exchange

 13 Act. There's 15(a), the underlying cost-benefit

 14 and then --

 15 COMMISSIONER O'MALIA: From the CEA.

 16 MR. BERKOVITZ: From the CEA so that

 17 it's really the CEA, then there's the

 18 Administrative Procedure Act and it's both what

 19 the Administrative Procedure Act requires in terms

 20 of reasoned decision making as applied to the

 21 underlying statutory requirements that we're

 22 interpreting here and giving meaning to. The
 90

 1 "reasonably feasible" is our guidance in terms of

 2 looking at judicial precedent, what the courts

 3 will look to in terms of agencies and reasoned

 4 decision making and applying statutes in the

 5 Administrative Procedure Act.

 6 COMMISSIONER O'MALIA: Does "reasonably

 7 feasible" appear in the APA?

 8 MR. BERKOVITZ: "Reasonably feasible," I

 9 don't have it in front of me, I believe that

 10 "reasonably feasible" comes out of the case law

 11 applying these requirements.

 12 COMMISSIONER O'MALIA: Does it have any

 13 relationship to financial resources; that if it's

 14 just too difficult for us to look or expensive, we

 15 just are excused from looking?

 16 MR. BERKOVITZ: I think the case law

 17 generally interpreting what agencies are required

 18 to do in terms of reasoned decision making

 19 indicates that agencies can only do what's

 20 reasonably feasible, that technical perfection is

 21 not required, that certainly is not always

 22 required. The agencies are given a charge by
 91

 1 Congress and the case law and the courts will say

 2 did the agency do a reasonable job in applying

 3 these requirements and certainty and absolute

 4 perfection is never required.

 5 COMMISSIONER O'MALIA: Would you think

 6 it would be reasonably feasible to call a

 7 technology company to find out if what we're

 8 mandating is actually available?

 9 MR. BERKOVITZ: What's reasonably

 10 feasible obviously will depend on the precise

 11 circumstances at issue.

 12 COMMISSIONER O'MALIA: I'd like to go

 13 back to the SDR question. Thank you, Dan. We

 14 were confronted with the decision for these SDs

 15 and MSPs to rely on the SDRs to meet the

 16 recordkeeping obligations and we made the

 17 decision, no, we want redundant books and records,

 18 we want everything to go to the SDR but we also

 19 want SDs and MSPs to keep everything, a complete

 20 duplicate of everything we're mandating being sent

 21 to the SDR. What's astounding, and I raised this

 22 in my opening statement, is that in the
 92

 1 cost-benefit analysis it states that it's

 2 premature to permit SDs and MSPs to rely solely on

 3 SDRs to meet the recordkeeping because they have

 4 no track record of operations, yet we've published

 5 hundreds of pages of very specific and detailed

 6 rules mandating exactly what we want to see. Why

 7 do we contradict the effectiveness in the use of

 8 these things when we've created this regulatory

 9 Frankenstein and now we're not going to use it?

 10 MR. FISANICH: There are two reasons

 11 stated in the preamble. One is that they need

 12 this information for their own risk-management

 13 purposes, their own purposes, and an SDR is not

 14 going to have all of this information, it's

 15 limited to some fields but not all fields or some

 16 information but not all information and, again,

 17 because SDRs have no track record at this point.

 18 COMMISSIONER O'MALIA: What fields are

 19 we missing that they are not going to have? And

 20 it doesn't discuss it in the preamble. So I'm not

 21 sure what we're missing. I get the pretrade

 22 stuff, the pretrade execution that we're going to
 93

 1 mandate that and your technology system. You can

 2 set that aside, but why would we want two books.

 3 How are we going to enforce two sets of books?

 4 What are we supposed to do with that? Running

 5 back and forth between two entities to reconcile?

 6 Is that our job? Do we have the resources for

 7 that? Why doesn't everybody agree to keep one set

 8 of books and we all agree that it's in the SDR?

 9 Then we have it. We regulate the SDR. We see it.

 10 We can get any piece of data we want at any point

 11 and they'll be using the same data we're using.

 12 Why would we want to be caught in this? And how

 13 much is it going to cost to keep another set of

 14 books?

 15 CHAIRMAN GENSLER: Commissioner O'Malia,

 16 may I answer?

 17 COMMISSIONER O'MALIA: Give it a shot.

 18 CHAIRMAN GENSLER: Because a swap dealer

 19 has a set of books that is not at the SDR, the

 20 general ledger and subledger that keeps all of

 21 their transactions, which is important to

 22 risk-management; their daily mark to markets;
 94

 1 their daily risk-management which is involved in

 2 monitoring not just the risk but the profits and

 3 losses of that entity by trade or by desk. That

 4 in fact is what they do now.

 5 COMMISSIONER O'MALIA: But won't all

 6 that data be -- why won't all the data be in the

 7 SDR?

 8 CHAIRMAN GENSLER: No, actually all of

 9 that data wouldn't be in there. Beyond the

 10 pretrade that you rightly pointed out, the orders

 11 and the conversations, that's not at the SDR.

 12 COMMISSIONER O'MALIA: Correct.

 13 CHAIRMAN GENSLER: But actually the

 14 profit and loss and the risk-management that goes

 15 around that is in a general ledger and subledgers

 16 which most swap dealers or soon-to-be swap dealers

 17 already keep because that's part of prudent risk-

 18 management to keep books and records and

 19 subledgers on our transactions.

 20 COMMISSIONER O'MALIA: Then why didn't

 21 we cost that out? We had the option to determine

 22 -- and let me just make one final point because it
 95

 1 doesn't cost it out here. We just ignore it and

 2 say inconsistent with the OMB guidance which

 3 requires us to look at alternatives and price

 4 them. We ignored that and we just said, no, even

 5 though entities said it was going to be expensive.

 6 The keeping-of-the-books concern, I don't you're

 7 not following this, but everybody now knows that

 8 MF Global's books were a disaster, so I'm not so

 9 sure that raises my confidence.

 10 CHAIRMAN GENSLER: But the swap data

 11 repository is not keeping -- nor have we required

 12 them to do the old thing of debits and credits and

 13 actual subledgers and general ledgers. We've not.

 14 We've just said it's an important regulatory tool,

 15 absolutely the swap data repository, but it's not

 16 keeping the records of a general ledger, profits,

 17 losses, risk-management, that --

 18 COMMISSIONER O'MALIA: I don't think

 19 anybody was asking to get out of that. They were

 20 saying all the trades that you're going to see,

 21 that let's agree to use the SDR for those set of

 22 trades and we said no.
 96

 1 CHAIRMAN GENSLER: Because how a trade

 2 is entered into a general ledger or into a

 3 subledger in an actual dealer is different than

 4 the information that's over at the swap data

 5 repository.

 6 COMMISSIONER O'MALIA: I think we should

 7 have done a most robust job to answer the concerns

 8 of the market, done the proper analysis required

 9 by OMB Circular A-4 to evaluate the cost of this

 10 decision and then actually explore whether this is

 11 -- we just ignore it out of hand in this document.

 12 CHAIRMAN GENSLER: I think we have done

 13 the analysis that's proper under 15(a) of the

 14 Commodity Exchange Act.

 15 COMMISSIONER O'MALIA: There is no

 16 analysis. Let's find out what kind of analysis.

 17 This is a major rule according to the OIRA rules

 18 under the Congressional Research Act. It

 19 apparently is $100 million of economic impact.

 20 How does that $100 million annually break out in

 21 this rule? What makes up $100 million?

 22 MR. GRIFFIN: First of all, it's not an
 97

 1 annual. It's an aggregate impact.

 2 COMMISSIONER O'MALIA: In the OIRA thing

 3 it says annual.

 4 MR. GRIFFIN: We have not broken down

 5 specifically from a numerical standpoint what the

 6 costs and what the benefits are of this particular

 7 rule. I think there's an expectation with respect

 8 to again not just the cost that would be inherent

 9 in putting together these systems, but also the

 10 benefits that are to be derived from having robust

 11 risk- management, recordkeeping and reporting and

 12 all the other requirements set forth in this rule

 13 before you.

 14 COMMISSIONER O'MALIA: So we didn't run

 15 the numbers. Is the $100 million a net number or

 16 gross number in terms of cost?

 17 MR. GRIFFIN: Gross. If I may, it's

 18 gross costs and benefits so that it's not net of

 19 the two, it's what are the costs, what are the

 20 benefits, what is the gross of those two numbers.

 21 COMMISSIONER O'MALIA: How much were the

 22 benefits?
 98

 1 MR. GRIFFIN: I'm sorry?

 2 COMMISSIONER O'MALIA: How much were the

 3 benefits?

 4 MR. GRIFFIN: Again, we have not

 5 numerically broken this down. I'm sorry to be so

 6 tough on you on this one. I'm very frustrated

 7 with our cost-benefit analysis as you can tell. I

 8 don't mean to take it out on you. I know you guys

 9 worked very hard and tried to answer all my

 10 questions and I appreciate that and I'm sorry if

 11 you detect tone.

 12 CHAIRMAN GENSLER: Thank you,

 13 Commissioner O'Malia? Before we turn to

 14 Commissioner Wetjen, I want to ask David Meister

 15 who's the head of our Division of Enforcement a

 16 question which goes to one of the questions that

 17 Commissioner was reviewing, searchability of voice

 18 records. You're the head of the Division of

 19 Enforcement. How searchable are voice records?

 20 What do you know about technology in the search of

 21 voice records and so forth?

 22 COMMISSIONER O'MALIA: Before you answer
 99

 1 that, I'm fully aware that you can search voice

 2 records after the fact. The question is how do

 3 you put them together during the transaction?

 4 That's what my concern is. This assumes that

 5 magically all of this stuff turns into searchable

 6 by trade and transaction. How does that happen?

 7 I get it that you can go after the fact and review

 8 and start tagging stuff. I get that. That's a

 9 manpower issue because you have to go after the

 10 fact to do it. This doesn't distinguish. It says

 11 you make this available and I wonder if there is

 12 some magic technology out there at this point that

 13 would automatically allow you to tag as you're

 14 having a conversation what pretrade and trade

 15 transaction is it associated with. I assume

 16 afterwards you're going to have to go back and

 17 piece this all together.

 18 CHAIRMAN GENSLER: Let's take it a

 19 question at a time because you're raising a

 20 separate question which might be for Frank about

 21 whether it's simultaneous. But my question for

 22 David or anyone on the team is how familiar are
 100

 1 you with an ability to search voice recordings?

 2 We must be involved in this already.

 3 MR. MEISTER: There are software vendors

 4 that provide the ability to search digital audio

 5 recordings by words very effectively as I

 6 understand it. As a matter of fact, a number of

 7 government agencies use these programs. I think

 8 the FTC, the Department of Defense, Homeland have

 9 programs. I won't say the name of the program

 10 that's used a lot by the government, but you could

 11 do a search on the internet which is what the

 12 internet is for to goggle that sort of capability.

 13 COMMISSIONER O'MALIA: Is that what this

 14 rule provides for?

 15 MR. MEISTER: I don't know.

 16 COMMISSIONER O'MALIA: Frank?

 17 MR. MEISTER: I think you had asked what

 18 would be a vendor that could do that.

 19 COMMISSIONER O'MALIA: And I agree with

 20 you.

 21 MR. MEISTER: The way it searches,

 22 Commissioner O'Malia, is it does digitally so that
 101

 1 for example if you wanted to search for the word

 2 "meister" in a tape, it will cross as I understand

 3 it a huge volume of recording. It will do that

 4 and pull up all the times that "meister" was

 5 mentioned over a long period of time, pull out

 6 those records and the slice of those recordings so

 7 that they can be listened to.

 8 COMMISSIONER O'MALIA: Frank and Ward,

 9 do you want to answer? Is that adequate for this

 10 rule that they can set aside a whole bunch of

 11 voice recordings and say that's sufficient?

 12 Because what they don't want to have a visit from

 13 Meister to show up later and say I want to see all

 14 of our transactions, because it says to sort by

 15 trader. So is it allowed to say you can go look

 16 and here is our closet full of tapes. Knock

 17 yourself out. Go digitally sort it. Is that

 18 adequate? Is that what this rule provides is what

 19 David just said?

 20 MR. FISANICH: Yes, that would be

 21 adequate. At the proposal stage we had required

 22 that these be bundled into separate electronic
 102

 1 files for transaction and counterparty and that

 2 was removed in this final stage.

 3 CHAIRMAN GENSLER: Frank, I'm suspecting

 4 that Commissioner O'Malia would accept this

 5 amendment but I would have to vote it here. Can

 6 you come up with language to clarify that what

 7 David just said is acceptable and put that in the

 8 preamble? It might not get you to vote the whole

 9 rule, I know, because I think that's a very

 10 important exchange between David Meister, Frank,

 11 Commissioner O'Malia and myself that it would be

 12 good to capture that that is acceptable; that

 13 that's what really this is about, this searchable.

 14 MR. FISANICH: That would have to store

 15 these things and them they'd be searchable upon

 16 request.

 17 CHAIRMAN GENSLER: Upon request the way

 18 that Mr. Meister described.

 19 MR. FISANICH: Right.

 20 COMMISSIONER O'MALIA: And that includes

 21 email, all of that stuff you can store separately.

 22 MR. FISANICH: Right, by removing the
 103

 1 requirement that it be stored in a separate

 2 electronic file, that's what we were doing in the

 3 finalization.

 4 CHAIRMAN GENSLER: Because what we did,

 5 just to bring the public into this, we proposed

 6 that even the voice recordings had to be stored in

 7 separate electronic files and a lot of commenters

 8 said that would be a burden. We did take that

 9 into consideration and backed away from that and

 10 said, no, you don't have to do that. You don't

 11 have to make a voice recording electronic, but you

 12 still have to be able to search it. And I think

 13 you've raised the question what does it mean to

 14 search it? And I think what I'm hearing from

 15 Frank is it's upon request and just clarifying in

 16 essence what David said is what that is meant to

 17 be. I'm doing this a little improperly.

 18 MR. MEISTER: May I propose something?

 19 Perhaps to the extent that the rule doesn't

 20 already cover what I'm talking about, the preamble

 21 could be clarified. That's just a suggestion.

 22 CHAIRMAN GENSLER: That's what I'm
 104

 1 saying. That's what I'm saying.

 2 COMMISSIONER O'MALIA: I think it may

 3 the difference in what the rule says and what the

 4 preamble says so that it's got to be clear and I

 5 look forward to reviewing the language.

 6 CHAIRMAN GENSLER: I'm going to add two

 7 pieces to this if I might and then you'll have

 8 questions. I'm going to add something, that which

 9 was the exchange between Frank, David,

 10 Commissioner O'Malia and me that that be clarified

 11 in the preamble that it's about searchability

 12 along the key words of who the counterparty is or

 13 key words upon request. But I think it would also

 14 be worthwhile to have a delegation similar to what

 15 we did in large trader reporting, a delegation to

 16 the Division Director of DSIO that if swap dealers

 17 need more time just like in large trader reporting

 18 I think we delegated to that a DMO six more months

 19 or something, but to allow more time on the

 20 searchability issue.

 21 MR. FISANICH: If I may, the preamble

 22 states, "The Commission believes that this
 105

 1 modification will make the requirement less

 2 burdensome for SDs and MSPs because it will allow

 3 such registrants to maintain searchable databases

 4 of the required records without the added cost and

 5 time needed to compile records into individual

 6 electronic files" so that I think this is covered.

 7 CHAIRMAN GENSLER: Commissioner Wetjen?

 8 COMMISSIONER WETJEN: Thanks, Mister

 9 Chairman. Switching gears just a little bit here,

 10 I want to turn back to the section on conflicts.

 11 There were some questions raised that were

 12 understandable. But my understanding of some of

 13 the changes made in the rule text comparing the

 14 proposal to the final was in fact to clarify

 15 things and not to make it less clear. Focusing

 16 for a moment on some of the language in the rule

 17 that deals with the conflicts between the trading

 18 business unit and the clearing unit, in the

 19 original proposal there were other sections of the

 20 proposal and other sections of the final that

 21 speak to various activities that aren't going to

 22 be permitted. But focusing for a moment on
 106

 1 paragraph (i) under Section 2 and this is in

 2 Section (d), Clearing Activities under the first

 3 part, originally the language read, "No employee

 4 of a business trading unit of an affiliate swap

 5 dealer or major swap participant may review or

 6 approve the provision of clearing services and

 7 activities by clearing unit personnel of the

 8 futures commission merchant, make any

 9 determination regarding whether the futures

 10 commission merchant accepts clearing customers or

 11 participate in any way with the provision of

 12 clearing services and activities by the futures

 13 commission merchant." That's how the proposal

 14 read. Now looking at the final, it now reads, and

 15 I'll just focus on that last clause, "or in any

 16 way condition or tie the provision of trading

 17 services upon or to the provision of clearing

 18 services or otherwise participate in the provision

 19 of clearing services by improperly incentivizing

 20 or encouraging the use of the affiliated futures

 21 commission merchant," and then it goes on, but

 22 leaving that for now. The question for staff is
 107

 1 isn't it the case that again comparing how the

 2 proposal read with the final, aren't the operative

 3 words here "improperly incentivizing or

 4 encouraging the use of the affiliated futures

 5 commission merchant" which now modifies the words

 6 "participate in the provision of clearing

 7 services"?

 8 MR. FISANICH: Yes, we would agree with

 9 that statement that this is a clarification of the

 10 original in the proposal that was participate in

 11 any way. We received many comments and questions

 12 on what exactly that meant and have listened to

 13 those objections to the broad scope of that

 14 language and it is now much more narrowly focused

 15 on improper participation influencing clearing

 16 decisions.

 17 COMMISSIONER WETJEN: I think this

 18 question has an obvious answer, but certainly

 19 we're not prohibiting a firm that has an

 20 affiliated trading business unit and a clearing

 21 unit from providing the two services that those

 22 two separate units provide. Correct?
 108

 1 MR. FISANICH: No, it would not.

 2 COMMISSIONER SOMMERS: Will you yield,

 3 Commissioner Wetjen?

 4 COMMISSIONER WETJEN: Sure.

 5 COMMISSIONER SOMMERS: I don't

 6 understand what improperly incentivizing means,

 7 which was my question earlier. What is properly

 8 incentivizing versus improperly incentivizing? I

 9 don't get it.

 10 MR. GRIFFIN: I can take a stab at

 11 trying to answer that, but maybe you guys should

 12 start with an answer.

 13 MR. FISANICH: Again this is only

 14 narrowly limited to the business trading unit so

 15 that it would be incentivizing through offering --

 16 COMMISSIONER WETJEN: If I can

 17 interrupt, what I would say is that again the

 18 focus should be on the word "improperly." It's

 19 not saying that there can be no incentivizing or

 20 encouraging necessarily. The focus is on

 21 improper. We're getting at improper conduct here,

 22 which is to say that the trading business unit and
 109

 1 the clearing unit can decide at what price to

 2 offer their services to their customers and the

 3 Commission is not trying to interfere with that.

 4 What we're trying to prevent is any improper

 5 behavior that might relate to pricing.

 6 MR. FISANICH: And as I had stated

 7 earlier in response to your question, this is

 8 meant to maintain the independence of the

 9 decisions of the affiliated clearing member in

 10 offering clearing services, pricing their clearing

 11 services, accepting customers for clearing, to

 12 make sure that those decisions remain independent

 13 in order to ensure to the extent practicable that

 14 there is open access to clearing.

 15 COMMISSIONER WETJEN: So I would

 16 reiterate that I think what staff was trying to do

 17 with this change is to in fact clarify things and

 18 not to muddy the waters. I hope that that's going

 19 to be the consensus view when folks have a chance

 20 to analyze the language.

 21 The question I had related to the chief

 22 compliance officer. You'd mentioned that in a
 110

 1 case of a registrant that has a board of directors

 2 that the chief compliance officer would report

 3 directly to the board. And I believe the rule

 4 also says that if the registrant does not have a

 5 board that it's the senior officer. Is that

 6 correct?

 7 MR. FISANICH: We followed the statutory

 8 construction which is that they could report to

 9 either the board or to the senior officer. We did

 10 not further restrict that from the statutory

 11 requirement.

 12 COMMISSIONER WETJEN: What about a

 13 compliance officer who works for an affiliate of a

 14 consolidated company? Who would be the senior

 15 officer?

 16 MR. FISANICH: It would be the senior

 17 officer or the board of the entity that is the

 18 registrant, so that if the chief compliance

 19 officer for whatever reason is not an employee of

 20 the registrant, they would still be required to

 21 report to the board of the registrant or the

 22 senior officer of the registrant.
 111

 1 COMMISSIONER WETJEN: That's all I have.

 2 CHAIRMAN GENSLER: Dave, before you call

 3 the roll if I'm going to offer a motion and have

 4 some amendments, unless I do it by unanimous

 5 consent on the first one. My first one is I want

 6 to make sure as to the clarity that you, Frank,

 7 and David spoke to Commissioner O'Malia's last

 8 question, that the public have it clearly in this

 9 preamble that where we're talking about having

 10 records to search upon request because we'd have

 11 to request is over these key words, key terms and

 12 so forth.

 13 MR. FISANICH: I will clarify that.

 14 CHAIRMAN GENSLER: Maybe I'm asking

 15 without objection for unanimous consent to make

 16 that. Also I'll make the motion that the head of

 17 DSIO be delegated, just as we did in the large

 18 trader reporting thing, additional -- you wouldn't

 19 want them to be able to give additional time?

 20 COMMISSIONER O'MALIA: I know we're

 21 looking at this. The question I think in my

 22 opinion is why are we delegating it?
 112

 1 CHAIRMAN GENSLER: To give additional

 2 time?

 3 COMMISSIONER O'MALIA: That's what

 4 everybody is discussing, if you could give us some

 5 more time on this. I think another feature of

 6 this is to consider the cost of the product. If

 7 it's technically not feasible or if it is

 8 technically feasible --

 9 CHAIRMAN GENSLER: To do the search?

 10 COMMISSIONER O'MALIA: I thought we were

 11 on to the next issue, this preamble language.

 12 CHAIRMAN GENSLER: I was talking about

 13 the search thing.

 14 COMMISSIONER O'MALIA: The search thing

 15 I'm fine with.

 16 CHAIRMAN GENSLER: I'm not sure what

 17 piece of paper you just raised.

 18 COMMISSIONER O'MALIA: Something your

 19 staff handed around.

 20 CHAIRMAN GENSLER: No. I didn't produce

 21 this thing. I don't know. It could be another

 22 Commissioner who produced that. I don't know.
 113

 1 COMMISSIONER O'MALIA: I'm sorry. It's

 2 Commissioner Chilton's.

 3 MR. MEISTER: Mister Chairman?

 4 CHAIRMAN GENSLER: I'm going to take a

 5 short recess because it was Commissioner Chilton's

 6 document and he's not here. So why don't we take

 7 a 5- to 10-minute recess?

 8 (Recess)

 9 CHAIRMAN GENSLER: We're back in

 10 session. May I ask a question of Frank? On the

 11 dialogue that you just had before we recessed with

 12 Commissioner Wetjen and I think Commissioner

 13 Sommers about improper or improperly, I think it

 14 would be helpful to add some words to the

 15 preamble, you'll have to write them, to clarify

 16 that improper as you said earlier which I think

 17 the transcript will show is a narrow thing. Do

 18 you want to tell us how you might be able to

 19 clarify and maybe I could then ask for unanimous

 20 consent that you write a sentence to clarify that?

 21 MR. FISANICH: We would add a footnote

 22 or another sentence to that part of the preamble
 114

 1 to clarify that improper in this context means

 2 encouraging the use of an affiliated FCM that

 3 would wrongfully interfere or influence the

 4 decision by the FCM to provide clearing services

 5 and activities to a particular customer in

 6 violation of 1.71(d)(i) which is the preceding

 7 section that has the general rule that an

 8 affiliated swap dealer or MSP shall not interfere

 9 or influence the provision of clearing services or

 10 activities so that the improper refers back to the

 11 previous section and only the interference or

 12 influence on the provision of clearing services or

 13 activities.

 14 CHAIRMAN GENSLER: In essence that it

 15 doesn't mean something else.

 16 MR. FISANICH: Not something else;

 17 right, narrowly defined.

 18 CHAIRMAN GENSLER: I don't know what the

 19 others think. Commissioner Wetjen, I think it

 20 would be helpful to narrow that.

 21 COMMISSIONER WETJEN: I think it would

 22 be helpful to narrow it, and just to be clear, the
 115

 1 consent request is that we do something along

 2 these lines, we're not committing to that precise

 3 language, that we'd need to work with the language

 4 a little bit?

 5 CHAIRMAN GENSLER: Because I'd normally

 6 also ask for consent to take technical

 7 corrections, but, yes, I think it would be helpful

 8 to clarify that improper is only really

 9 referencing back to as you said something like

 10 wrongfully influencing under whatever the rule

 11 text is and not something else that people have to

 12 guess about; so, unanimous consent.

 13 I think the recess was largely about an

 14 amendment that Commissioner Chilton and his staff

 15 had suggested on a delegation addressing concerns

 16 that if a registrant needed more time because it

 17 was technologically challenging or there are words

 18 in this amendment about technological issues

 19 including cost considerations for that particular

 20 registrant, that the Director of the Division of

 21 Swaps and Intermediary Oversight could grant

 22 extensions of time for compliance with the daily
 116

 1 trading records. Do you want to offer your

 2 amendment?

 3 COMMISSIONER CHILTON: Yes. You

 4 described it aptly. There would be a 30-day

 5 period in which once an entity petitions the

 6 agency that we would have 30 days to respond to

 7 them to consider whether or not they had these

 8 technological challenges, and as part of that we

 9 would look at the cost, we'd consider the cost.

 10 This would in no way impact their registration

 11 with the National Futures Association so that it's

 12 a pretty concise and clear amendment ultimately.

 13 CHAIRMAN GENSLER: So you're making that

 14 motion on the piece of paper?

 15 COMMISSIONER CHILTON: I move the

 16 amendment.

 17 COMMISSIONER O'MALIA: Second.

 18 CHAIRMAN GENSLER: Do we do amendments

 19 by roll call?

 20 MR. STAWICK: Do you mean do it by

 21 unanimous consent or by voice?

 22 CHAIRMAN GENSLER: By unanimous consent
 117

 1 Commissioner Chilton's amendment as seconded by

 2 Commissioner O'Malia.

 3 COMMISSIONER CHILTON: Aye.

 4 COMMISSIONER O'MALIA: Aye.

 5 CHAIRMAN GENSLER: Aye.

 6 MR. STAWICK: Are we doing a roll call

 7 vote there?

 8 CHAIRMAN GENSLER: No, I guess without

 9 objection. So now we have the staff

 10 recommendations with two preamble clarifications

 11 and Commissioner Chilton's amendment. Mr.

 12 Stawick?

 13 MR. STAWICK: Commissioner Wetjen?

 14 COMMISSIONER WETJEN: Aye.

 15 MR. STAWICK: Commissioner Wetjen, aye.

 16 Commissioner O'Malia?

 17 COMMISSIONER O'MALIA: No.

 18 MR. STAWICK: Commissioner O'Malia, no.

 19 Commissioner Chilton?

 20 COMMISSIONER CHILTON: Aye.

 21 MR. STAWICK: Commissioner Chilton, aye.

 22 Commissioner Sommers?
 118

 1 COMMISSIONER SOMMERS: No.

 2 MR. STAWICK: Commissioner Sommers, no.

 3 Mister Chairman?

 4 CHAIRMAN GENSLER: Aye.

 5 MR. STAWICK: Mister Chairman, aye.

 6 Mister Chairman, on this question the yeas are

 7 three, the nays are two.

 8 CHAIRMAN GENSLER: The yeas having it,

 9 the staff recommendation is accepted and will be

 10 sent to the Federal Register. Should I take

 11 unanimous consent on technical corrections now

 12 too? Why don't I do unanimous consent on

 13 technical corrections particularly given what we

 14 just said? Without objection so moved. Thank

 15 you, Ward, Frank, Gary Barnett and the many others

 16 who have worked on those rules. Thank you. I

 17 think it's now block time. As the team is coming

 18 up to the table, let me introduce and welcome Carl

 19 Kennedy from the Office of General Counsel, George

 20 Pullen, Lynn Riggs and Rick Shilts of the Division

 21 of Market Oversight and Esen, I'm going to

 22 mispronounce your last name, Onur, from the Office
 119

 1 of Chief Economist. They will present the

 2 proposed rule on block trading. I hand it over to

 3 you.

 4 MR. KENNEDY: Good afternoon,

 5 Commissioners. Thank you, Chairman Gensler, for

 6 the opportunity to present. Before I begin I

 7 would like to thank each member of my team and

 8 former team members for their assistance in

 9 preparing the block trade proposal that we present

 10 to you today for your consideration and vote. To

 11 provide context, I would like to provide relevant

 12 background on why the Commission is now

 13 considering today's proposal.

 14 Section 727 of the Dodd-Frank Act

 15 created Section 2a(13) of the Commodity Exchange

 16 Act. Section 2a(13) requires that the Commission

 17 issue rules regarding the real-time public

 18 reporting of swap transaction and pricing data.

 19 This section also requires the Commission to do

 20 three things relevant to this proposal. First,

 21 specify criteria for determining what constitutes

 22 a large notional swap transaction or block trade
 120

 1 for the purposes of applying time delays for

 2 public reporting of such transactions. Second, to

 3 ensure that the public dissemination of swap data

 4 does not reveal the identities or business

 5 transactions of swap counterparties. And most

 6 important, third, ensure market liquidity is not

 7 hampered.

 8 In December 2001, the Commission

 9 published a real- time reporting proposal which

 10 included a methodology that swap data repositories

 11 would set block sizes. The methodology provided

 12 that block sizes would be equal to the greater of

 13 a so-called social size multiple test and a

 14 distribution test. Both of those tests focused on

 15 the number of swap transactions or trades and

 16 would likely have resulted in only 5 to 1 percent

 17 of all swaps being traded as blocks. The

 18 real-time proposal also included a generalized

 19 approach for grouping swaps with similar

 20 characteristics. This approach did not provide

 21 much detail on how swaps would be grouped,

 22 however. Instead, the real-time proposal set out
 121

 1 a few examples. The real-time proposal also set

 2 out a 15-minute time delay for swaps that are

 3 executed on a swap execution facility or

 4 designated contract market and asked questions

 5 regarding the appropriate time delays for

 6 bilateral swaps. Finally, the real-time proposal

 7 included two requirements that SDRs protect the

 8 identities of swap counterparties first by

 9 limiting disclosure of the notional sizes of swap

 10 data so that notional sizes above 250 million

 11 would be masked. And second, by including a

 12 general requirement tracking the statutory

 13 language of 2(a)(13) that SDRs protect the

 14 identities of swap counterparties.

 15 In December 2011, the Commission adopted

 16 as final the real-time rule in Part 43 of its

 17 regulations. In the final rule the Commission

 18 provided several definitions relevant to today's

 19 proposal including the definition of the terms

 20 asset class, block trade, appropriate minimum

 21 block size, among others. It also established a

 22 series of time delays for the public dissemination
 122

 1 of swap data. It put forth a list of interim cap

 2 sizes that varied by asset class to mask the

 3 notional sizes of large swaps and it excluded from

 4 public reporting certain commodity swaps because

 5 the publication of swap data detail relating to

 6 the geographic delivery locations for those swaps

 7 might reveal the identities of swap

 8 counterparties. Because the Commission has not

 9 yet established a block size methodology, all

 10 swaps will be treated like blocks and will be

 11 subject to time delays as set out in the final

 12 rule.

 13 Today's proposal picks up where the

 14 final rule left off. As the Chairman mentioned in

 15 his opening remarks, in drafting this proposal the

 16 team was informed by and was responsive to

 17 comments received by commenters to the real-time

 18 proposal. In addition, we were able to collect

 19 and review relevant data for two asset classes,

 20 interest rates and credit. The team has spent

 21 over 18 months reviewing these comments and

 22 relevant market data. Based on this review we are
 123

 1 proposing detailed criteria for grouping swaps

 2 which are both tailored to the primary economic

 3 indicators within each asset class, tailored and

 4 measured methodologies for determining appropriate

 5 minimum block sizes in a two-step phased approach

 6 and additional measures to protect anonymity

 7 related to the public dissemination of swap data.

 8 I will briefly explain the major components of the

 9 block trade proposal followed by an explanation of

 10 the additional anonymity measures.

 11 With respect to blocks, the proposal

 12 further breaks down the five asset classes

 13 previously established by the real-time rule into

 14 swap categories of groups of swaps. The five

 15 asset classes are interest rates, credit, equity,

 16 foreign exchange and other commodities. Swaps

 17 within each asset class are generally grouped

 18 based on common risk and liquidity profiles. For

 19 swaps in the interest rate asset class, the

 20 proposed rules would establish 24 swap categories

 21 based on eight tenor band groups and three

 22 currency groups. For swaps in the credit asset
 124

 1 class, the proposed rules establish 18 swap

 2 categories based on six tenor banks and three

 3 conventional spread groups. For the FOREX asset

 4 class, the proposed rules establish over 450 swap

 5 categories based on unique currency combinations.

 6 For the other commodity asset class, the proposed

 7 rules establish 120 categories based on whether

 8 those swaps are economically related to futures or

 9 swap contracts. If a swap is not economically

 10 related to those contracts, staff is proposing a

 11 system for group swaps in the other commodity

 12 asset class based on 60 product types. In

 13 establishing methodologies, staff sought to

 14 balance the goals of price discovery and

 15 protecting market liquidity. Staff also sought to

 16 develop methodologies that were an improvement

 17 from the methodology provided in the real-time

 18 proposal and was not as complex.

 19 As I noted previously, the Commission

 20 would prescribe appropriate minimum block sizes

 21 for the swap categories within each asset class in

 22 a two-period phased-in approach. The first phase
 125

 1 called the initial period includes different

 2 methodologies based on the availability of

 3 reliable data. As mentioned before, staff was

 4 able to spend 18 months reviewing interest rate

 5 and credit data. For the other asset classes,

 6 staff was persuaded by commenters to the real-time

 7 proposal who suggested that the Commission be

 8 informed by DCM block sizes set for economically

 9 related futures contracts. During the initial

 10 period staff recommends that swaps be subject to

 11 static appropriate minimum block sizes which are

 12 set out in an appendix to the proposal. The

 13 initial period would last a minimum of 1 year for

 14 each asset class in accordance with the compliance

 15 schedule in Part 45 of the Commission's

 16 regulations. During that year, registered SDRs

 17 would collect robust datasets for each asset

 18 class. For interest rate and credit swaps, staff

 19 is proposing block sizes using the datasets it

 20 obtained. The sizes would be applied to each swap

 21 category based on a 67-percent notional amount

 22 calculation methodology. That methodology
 126

 1 determines block sizes by looking at the net

 2 notional distribution of swaps within each swap

 3 category and setting the block size based on the

 4 two-thirds mark within that distribution. Staff

 5 believes that the net notional determination

 6 methodology is a better measure of risk as

 7 compared to the number of trades which was seen in

 8 the real-time proposal. Based on the data we were

 9 able to obtain, 6 percent of all swaps in the

 10 interest rate and credit asset classes would be

 11 treated as blocks which would mean that 94-percent

 12 of the market would be transparent as soon as

 13 technologically practicable. Like the real-time

 14 methodology, this methodology uses net notional

 15 values again which focuses on the amount of the

 16 risk within a swap category. For example, a

 17 2-year cross-currency U.S. Dollar/euro interest

 18 rate swap would have a block size of 750 million.

 19 For foreign exchange and other commodity swaps

 20 during the initial period, staff proposes an

 21 approach that would determine sizes based on the

 22 sizes set by DCMs for economically related futures
 127

 1 contracts. Again staff was informed by commenters

 2 that DCM block sizes are a good comparative

 3 measure for setting blocks. We agree with

 4 commenters that swaps in these asset classes are

 5 closely linked to futures markets, that tying

 6 block sizes on these two markets to their

 7 economically related futures contracts reduces

 8 opportunities for arbitrage and, lastly, that DCMs

 9 have experience in setting block sizes in such a

 10 way that maintains market liquidity. If a foreign

 11 exchange or commodity swap is not economically

 12 related to a futures contract, staff recommends

 13 that the Commission have a more nuanced approach

 14 where some but not all of the swaps would continue

 15 to be subject to a time delay because of the

 16 effectiveness of the real-time final rule. For

 17 equity swaps, staff believes that these swaps

 18 should not be treated as blocks and subject to a

 19 time delay in both the initial period and after

 20 that period because of the existence of a highly

 21 liquid cash market which is where price discovery

 22 occurs, the absence of time delays for reporting
 128

 1 blocks in that market, the relative size of the

 2 equity index swaps relative to futures options and

 3 cash index markets and, fourth, the goal of

 4 preventing opportunities for regulatory arbitrage.

 5 After the initial period the Commission

 6 would establish post-initial appropriate minimum

 7 block sizes for each swap category based off the

 8 data collected by SDRs. Staff proposes that the

 9 Commission update post-initial minimum block sizes

 10 no less than once each year using a 67-percent

 11 notional amount calculation. Post-initial block

 12 sizes would be published on the Commission website

 13 and will become effective on the first day of the

 14 second month following publication.

 15 One final point about the proposed

 16 methodologies. Staff recommends the establishment

 17 of a series of special rules to deal with complex

 18 issues such as how to determine block sizes for

 19 swaps with optionality, how to determine block

 20 sizes for swaps in other currencies and how to

 21 address the situation in which a member state is

 22 removed from the Euro Zone. In terms of process,
 129

 1 the proposal establishes a process for market

 2 participants to elect to treat their swaps as

 3 blocks and how notice of that election would be

 4 sent to a SEF or DCM if a swap is traded on a SEF

 5 or DCM, or if it's traded bilaterally, how the

 6 reporting parties would report that to an SDR.

 7 Also in terms of process, the proposal would allow

 8 the Division of Market Oversight to undertake all

 9 responsibilities related to the setting of block

 10 sizes and cap sizes.

 11 Finally, for convenience purposes, the

 12 proposal includes a helpful example where market

 13 participants can see how the Commission would

 14 undertake the determination process. As I

 15 mentioned, this proposal not only addresses block

 16 trade rules and it also includes additional

 17 measures to protect anonymity related to swap

 18 data. Specifically, staff proposes that the

 19 Commission adopt two measures to protect

 20 anonymity. First, the Commission would amend Part

 21 43 of its regulations to establish a permanent

 22 system establishing cap sizes for masking notional
 130

 1 and principal amounts of swap data that is

 2 reported to the public. During the post-initial

 3 period cap sizes would be used setting a

 4 75-percent notional amount calculation which is

 5 similar to the methodology for setting block

 6 sizes. And second, the proposal would require the

 7 remaining commodity swaps not currently subject to

 8 public reporting under the final real-time rule

 9 that these swaps would be publicly reported as a

 10 result of the establishment of a system to mask

 11 the specific geographic delivery and pricing

 12 detail related to those swaps.

 13 Before I conclude, I would like to note

 14 that staff has included a myriad of variations and

 15 alternatives to the proposed approach in its

 16 proposal. For example, one variation would change

 17 the calculation methodology from 67 percent to 50

 18 percent. We ask over 108 questions, many of which

 19 have several subquestions. Commenters are

 20 encouraged to submit comments in response to the

 21 particular questions by number. This concludes my

 22 prepared marks on the block trade proposal. Thank
 131

 1 you for your time, and my colleagues and I are

 2 happy to answer your questions.

 3 CHAIRMAN GENSLER: Carl, thank you. I

 4 will now entertain a motion to accept this staff

 5 recommendation on this proposed rule.

 6 COMMISSIONER SOMMERS: So moved.

 7 COMMISSIONER CHILTON: Second.

 8 CHAIRMAN GENSLER: Thank you. Carl, on

 9 that last point I have a few questions. When you

 10 said a myriad of alternatives, I thought it was

 11 about five or six. Is that what you're referring

 12 to?

 13 MR. KENNEDY: Yes. We do ask a number

 14 of alternatives not only in terms of how we

 15 determine the block sizes but also in the way

 16 group them, as well as a number of alternatives to

 17 the way we set cap sizes.

 18 CHAIRMAN GENSLER: I have a question for

 19 you and the team and maybe Dan as well. If during

 20 the comment period people come back and say we

 21 think this 67 percent of net notional works for

 22 this asset classes, but there are other asset
 132

 1 classes, maybe there really should be something

 2 different. Do we have the flexibility in the

 3 final based on the comments and based on the

 4 record to finalize with different approaches again

 5 if it's based on comments?

 6 MR. KENNEDY: Absolutely. We have

 7 specific questions that we ask as to particular

 8 asset classes, if one approach is better than the

 9 other.

 10 CHAIRMAN GENSLER: The nature of my

 11 question is do we have the flexibility not only to

 12 change from the 67-percent approach but to

 13 possibly have one approach for interest rates and

 14 a different approach for oil swaps based on the

 15 comment record?

 16 MR. KENNEDY: Yes, I believe that we do.

 17 CHAIRMAN GENSLER: I see Harold is

 18 shaking his head. Even if it's within the

 19 interest rate market, is it possible that if

 20 commenters were to come back and say this is a

 21 good approach for possibly the high-volume

 22 transactions, the ones with more volume or
 133

 1 liquidity but maybe a different approach is more

 2 appropriate for those that are less standardized,

 3 is that possible?

 4 MR. KENNEDY: Yes, that is possible. We

 5 asked that specific question as well.

 6 CHAIRMAN GENSLER: Dan and Harold, are

 7 we all right on that too? That's a yes, Dan?

 8 MR. BERKOVITZ: Yes.

 9 CHAIRMAN GENSLER: I just might hold you

 10 to that. Do you want to get a mike?

 11 MR. BERKOVITZ: With just the

 12 clarification when you say different approach, one

 13 of the approaches identified in the questions or

 14 suggested in the questions --

 15 CHAIRMAN GENSLER: I meant there are

 16 about five or six approaches, the two principle

 17 ones, 67 percent of net notional versus 50 percent

 18 of net notional.

 19 MR. BERKOVITZ: Correct.

 20 CHAIRMAN GENSLER: But there is also one

 21 that looks at using the depth of the book and the

 22 order book and some others, so I'm asking if it's
 134

 1 one of those four or five --

 2 MR. BERKOVITZ: Exactly.

 3 CHAIRMAN GENSLER: But then the

 4 commenters came back and said this 67 works maybe

 5 for a 2-year interest rate swap but it doesn't

 6 work as well for more of an esoteric oil swap or

 7 something.

 8 MR. BERKOVITZ: There is sufficient

 9 notice for the Commission to adopt that.

 10 CHAIRMAN GENSLER: Maybe I'll walk

 11 through why I support the rule, but I'm going to

 12 have a couple of questions in the middle of it. I

 13 do support this rule because I think it's so

 14 inherent in promoting pretrade transparency and

 15 posttrade transparency because some portion of the

 16 market Congress said should be reported as soon as

 17 technologically practicable, the nonblocks so to

 18 speak. As I gather here, what this comes down to

 19 is that two-thirds of the volume in the market,

 20 the net notional volume of the market, would

 21 benefit from pretrade transparency and shorter

 22 delays if was both a clearable swap, mandatorily
 135

 1 cleared and of course has some made available for

 2 trading designation. Do I have that about right?

 3 MR. KENNEDY: You have it right, Mister

 4 Chairman.

 5 CHAIRMAN GENSLER: So that in the

 6 cleared swap and made available for trading if

 7 this were the final rule, two- thirds of the

 8 volume by net notional would benefit from the

 9 pretrade transparency.

 10 MR. KENNEDY: That is correct.

 11 CHAIRMAN GENSLER: To me that benefits

 12 the whole economy. Ninety-four percent of the

 13 economic is the real economic, private-sector

 14 jobs, it also benefits the mutual funds, pension

 15 funds, the buy side of the financial community,

 16 but it does shift some of the information

 17 advantage over to the buy side representing all of

 18 those pensioners and mutual fund investors and I

 19 think it shifts some of the information advantage

 20 over to the end user community that so inherently

 21 needs these products. How did you address

 22 Congress's mandate to still promote liquidity and
 136

 1 protect liquidity in the market?

 2 MR. KENNEDY: The method in which we

 3 grouped swaps with similar risk and liquidity

 4 profiles so that we would apply a block size to

 5 those swaps with that same liquidity and risk

 6 profile. That's the way we are seeking to ensure

 7 we protect anonymity. I'm sorry, that we protect

 8 liquidity. I misspoke.

 9 CHAIRMAN GENSLER: But I gather also,

 10 and maybe Esen this might come from the Chief

 11 Economist's office, you think that this approach,

 12 about two-thirds of the volume, gets pretrade

 13 transparency and one-third doesn't in essence,

 14 that that still protects liquidity as Congress

 15 identified?

 16 MR. ONUR: Yes. As to the discussions

 17 that we had at the OCE, we do believe that the way

 18 we set the 67-percent notional would bring enough

 19 transparency to the market but still protect

 20 liquidity.

 21 CHAIRMAN GENSLER: I don't mean to just

 22 focus on this but I'm allowed to, one commenter in
 137

 1 the original rule had sent in something that

 2 talked about setting block sizes with regard to

 3 the dollar value of a 1 basis point move in the

 4 marketplace or what market call a DVO1. Do you

 5 know in the interest rate markets for these

 6 supermajors what is the dollar value of the O1

 7 that this now roughly is? Then I can keep in mind

 8 the arithmetic.

 9 MR. PULLEN: I believe that the comment

 10 letter came from Blackrock and their DVO1 was

 11 300,000 for the value. For the 2-year interest

 12 rate swaps for supermajors our DVO1 would be about

 13 half that. So if we had gone with the 300,000

 14 DVO1 they requested, our block sizes would be in

 15 fact higher for that particular swap category.

 16 CHAIRMAN GENSLER: My question was not

 17 so much how they commented, that their letter

 18 reminded me to ask this question. But you're

 19 saying our number is roughly $150,000 for a 1

 20 basis point year in the 2 year?

 21 MR. PULLEN: That's correct, in the 2

 22 year. It does change across swap categories, but
 138

 1 just to give a snapshot view, that is the 2 year.

 2 CHAIRMAN GENSLER: One of the things

 3 that I support about this rule that I think is

 4 important is that we've learned from the

 5 commenters that the original rule that we put out

 6 there had a lot of complexity and we've in essence

 7 simplified it. It no longer has what was called

 8 the social size network.

 9 MR. KENNEDY: Social size multiple test.

 10 CHAIRMAN GENSLER: Social size multiple

 11 test of five times the mean median. So that it's

 12 far simpler. Is that correct?

 13 MR. KENNEDY: Correct. It is a lot

 14 simpler.

 15 CHAIRMAN GENSLER: And a lot of

 16 commenters had raised that. Is that right?

 17 MR. KENNEDY: Yes.

 18 CHAIRMAN GENSLER: Another thing that it

 19 does is it's far more tailored. I can remember

 20 more than one congressional hearing when a member

 21 of Congress said to me your rules seem to be

 22 one-size-fits-all. Is it correct that our
 139

 1 original proposal might have been one category?

 2 MR. KENNEDY: Yes. The way the swap

 3 category was described is that you could possibly

 4 group swaps into a fewer number of swap groupings,

 5 yes.

 6 CHAIRMAN GENSLER: Not that I think

 7 that's what we would have finalized that there was

 8 only one interest rate category, but commenters

 9 had said they were worried about that.

 10 MR. KENNEDY: Right. They were worried

 11 about that. Absolutely.

 12 CHAIRMAN GENSLER: So now we have 24

 13 categories in with interest rates, but we've asked

 14 sufficient questions that if commenters said, no,

 15 24 is not right, we should only have 16 or 30 we

 16 can --

 17 MR. KENNEDY: Correct. Or if commenters

 18 feel as though we need more, we certainly can do

 19 that as well. We've asked those specific

 20 questions.

 21 CHAIRMAN GENSLER: I think this rule

 22 benefits from that. I think the other thing it
 140

 1 benefits from is that we've gotten data albeit as

 2 I think Commissioner O'Malia said, it might have

 3 been Commissioner Sommers, that it was only 3

 4 months of data for the interest rate markets and

 5 the credit markets. Is that correct?

 6 MR. KENNEDY: That is correct.

 7 CHAIRMAN GENSLER: But that's a big step

 8 forward from when we proposed the first rule.

 9 Right?

 10 MR. KENNEDY: Yes, certainly it is.

 11 CHAIRMAN GENSLER: Then we've moved from

 12 a transaction approach to a volume approach.

 13 MR. KENNEDY: Yes.

 14 CHAIRMAN GENSLER: So those are all I

 15 think positive steps forward from the comment file

 16 and what people had raised in the comment file.

 17 One other thing. Could you describe something?

 18 In the commodity space I think there is a very

 19 important set of questions that we have in this

 20 re-proposal about keeping the anonymity for

 21 transactions whether it's in the natural gas

 22 market, the oil market, the electricity market.
 141

 1 There were a lot of commenters who were concerned

 2 and I complement the staff in that I think you've

 3 come up with a really good set of suggestions here

 4 that I support. I think that it would be helpful

 5 for those listening from the energy markets how

 6 you've proposed that we make transactions

 7 particularly when it's in a location and people

 8 don't want to let their anonymity loose that

 9 they're trying to get natural gas or electricity

 10 at a certain place.

 11 MS. RIGGS: For a subset of the other

 12 commodity swaps, we are limiting the geographic

 13 detail of the U.S. Delivery or pricing points.

 14 For natural gas and related products, we are using

 15 the five FERC natural gas markets. For petroleum

 16 end products we're using the seven PAD regions.

 17 For electricity end sources we're using the 10

 18 FERC electric power markets. And for the

 19 remaining other commodities we're using the 10

 20 federal regions. We are also proposing

 21 international regions for non-U.S. delivery or

 22 pricing points.
 142

 1 CHAIRMAN GENSLER: Lynn, as I

 2 understand, if somebody entered into a natural gas

 3 swap, it wouldn't necessary say that it was at the

 4 Rocky Mountains, it would say whatever that region

 5 is. Is that right?

 6 MS. RIGGS: That is correct.

 7 CHAIRMAN GENSLER: For example, if

 8 somebody did a jet fuel swap at

 9 Baltimore-Washington's Thurgood Marshall

 10 International Airport, it wouldn't say that it was

 11 at BWI, I guess that's probably one of, did you

 12 say 10 or eight regions?

 13 MR. KENNEDY: Seven.

 14 CHAIRMAN GENSLER: Seven federal

 15 regions.

 16 MR. KENNEDY: Yes.

 17 CHAIRMAN GENSLER: To mask the

 18 geographic situations?

 19 MS. RIGGS: Again I think a lot of

 20 commenters asked about this, that's constructive

 21 and we'll see what feedback we get. I'm going to

 22 support the rule, but I turn to Commissioner
 143

 1 Sommers.

 2 COMMISSIONER SOMMERS: Thank you so much

 3 for all of your work on this rule. As I said in

 4 my opening comments, I appreciate the complexity

 5 of trying to get this right. It is a balance and

 6 I think the questions and the different

 7 alternatives that you have in the proposal are a

 8 reasoned approach, but I do have a couple of

 9 questions. My first question is with regard to

 10 the 50-percent notional amount calculation that

 11 was in the proposal until last night. Obviously

 12 it was something that staff had recommended to us

 13 and then was changed at the last minute. I'm

 14 trying to figure out what kind of calculations we

 15 did in the proposal that's before us today to

 16 differentiate between the two, 50 and 67 percent,

 17 and why not 75? Why not 85? How did we land on

 18 67?

 19 MR. KENNEDY: We considered a number of

 20 alternatives before presenting the recommended

 21 approach. In fact, some of our alternatives would

 22 go lower than 50 percent and some would go higher,
 144

 1 as high as 95 percent of number of trades within a

 2 particular swap category. We ultimately settled

 3 on 76 percent and we were going back and forth

 4 between 50 and 67 percent, but we ultimately

 5 decided on 67 percent because we think that it

 6 still would capture the vast majority of

 7 transactions that would be subject to real-time

 8 reporting and we would still balance liquidity.

 9 Comparing it to the initial proposal, we think

 10 that it would better take into account the

 11 potential effects on market liquidity. So

 12 although we ultimately are coming out with a

 13 67-percent test, it was one of the possibilities

 14 that we considered before the recommended approach

 15 that we shared with the Commissioners a couple of

 16 weeks ago.

 17 COMMISSIONER SOMMERS: The 50-percent

 18 approach that was in the proposal before, what

 19 effect would it have on market liquidity?

 20 MR. KENNEDY: In terms of the absolute

 21 effect on market liquidity, we believe that the

 22 number of transactions that would be subject to
 145

 1 real-time reporting would be 86 percent, that the

 2 difference between the 86 percent and the 94

 3 percent now with the 67-percent notional test that

 4 we're going out with, we believe that that

 5 difference is something that we're certainly aware

 6 of. We're hoping that by asking a number of

 7 questions on our rule that market participants

 8 will tell us whether that is significant. Again

 9 this is a proposal and we're not saying that we

 10 have all of the answers. We do have a limited

 11 amount of data, but we think it's robust data

 12 enough that we were able to come out with 67

 13 percent as a proposed approach.

 14 COMMISSIONER SOMMERS: I couldn't agree

 15 more that it is going to be incumbent upon market

 16 participants to comment on what is reasonable for

 17 this proposal and for us to consider as we go

 18 final, but my next question is with regard to the

 19 process. There is some language in the preamble

 20 that talks about if we determine that block sizes

 21 are having an adverse effect on liquidity, the

 22 Commission may take action on its own initiative
 146

 1 via rule or order to mitigate the impact. Can you

 2 explain to me a little bit what that process would

 3 entail, rule or order to be able to dampen the

 4 effect on market liquidity and whether or not we

 5 would actually be able to take action in any sort

 6 of expedited way?

 7 MR. KENNEDY: Certainly the Commission

 8 has the authority to take action by emergency rule

 9 or order, so that if we were able to determine

 10 market participants, the provision in the preamble

 11 or the statement in the preamble says that even if

 12 market participants were to provide data to us to

 13 say that our sizes would adversely affect market

 14 liquidity, we could take expedited action, perhaps

 15 issue an interim final rule or something or change

 16 order to change those block sizes. Of course also

 17 the provision in our rule says that we set

 18 appropriate minimum block sizes no less than once

 19 a year so that we could through that same process

 20 change those block sizes.

 21 COMMISSIONER SOMMERS: In the interim

 22 before the year is up if we feel that they have
 147

 1 been set incorrectly?

 2 MR. KENNEDY: Yes.

 3 COMMISSIONER SOMMERS: And we would take

 4 emergency action in a market? That's typically

 5 not something that we do.

 6 MR. KENNEDY: The provision provides

 7 that the Director of the Division of Market

 8 Oversight can set block sizes no less than once a

 9 year. We would have to of course use the formula

 10 or methodology that we finalize, but the Division

 11 Director could take action. But the statement

 12 that you're referring to in the rule refers to the

 13 authority of the Commission to take action by rule

 14 or order in emergency action.

 15 COMMISSIONER SOMMERS: I think it would

 16 be helpful as we move forward with this proposal

 17 to think about what that kind of process would be

 18 and if it's actually emergency action I think that

 19 would be an interesting dynamic. Thanks.

 20 CHAIRMAN GENSLER: Thank you,

 21 Commissioner Sommers. Commissioner Chilton?

 22 COMMISSIONER CHILTON: I don't have
 148

 1 questions. I commend you all for the good work.

 2 Thank you.

 3 CHAIRMAN GENSLER: Commissioner O'Malia?

 4 COMMISSIONER O'MALIA: Cost-benefit.

 5 What's the baseline you're using? So that I don't

 6 get confused, is it a prestatute or poststatute

 7 baseline?

 8 MR. KENNEDY: The baseline that we're

 9 using would start the period of time following the

 10 effective implementation of the real-time public

 11 reporting rule because as I mentioned before, our

 12 rule is an incremental step over and above that

 13 rule, so that's our baseline.

 14 COMMISSIONER O'MALIA: For the other

 15 commodities, the methodology for setting block

 16 sizes is for the initial and post-initial since

 17 you didn't work off of actual market data. The

 18 final rule divides its approach for the other

 19 commodities into five baskets plus a few special

 20 cases. Why in the initial period do you rely on

 21 DCM block sizes for a number of swaps?

 22 MR. KENNEDY: Currently we don't have
 149

 1 actual market data for equity, foreign exchange

 2 and commodity swaps. We do have a set of robust

 3 data for interests and credit. As I mentioned in

 4 my opening statement, we were persuaded by some of

 5 the commenters who suggested that DCM block sizes

 6 are a good comparative measure to use and it may

 7 be prudent during the initial period to use those

 8 sizes to prevent opportunities for regulatory

 9 arbitrate.

 10 COMMISSIONER O'MALIA: The DCM core

 11 principles obviously changed the block rules.

 12 Core Principle Nine has an 85-percent test in the

 13 proposal and hopefully that changes, but that's

 14 all you have to go off of at this point. How does

 15 that work with setting a block size on a moving

 16 target?

 17 MR. KENNEDY: During the initial period

 18 we recognized too that the sizes that we would set

 19 during the initial period are static so that they

 20 wouldn't be dynamic and if sizes were to change

 21 because a DCM were to change their sizes after 6

 22 months we recognized that the initial size is a
 150

 1 static number. However, because we're trying to

 2 take a measured approach and not adversely impact

 3 markets I think by providing certainty in having a

 4 static number, I think market participants will

 5 know how to trade and will trade according to that

 6 initial size. And then once we have more data

 7 after that initial period, obviously things would

 8 change. We would no longer rely on DCM block

 9 sizes.

 10 COMMISSIONER O'MALIA: What are they

 11 supposed to comment on right now with a moving

 12 target? Do you ask a question related to the

 13 changing DCM core principle?

 14 MR. KENNEDY: We do. We ask should we

 15 change the sizes during the initial period at some

 16 sort of set interval.

 17 COMMISSIONER O'MALIA: Thank you. On

 18 the way in this morning I was reading Chairman

 19 Shapiro's discussion about high-frequency traders

 20 which made me think of the May 6 episode and the

 21 research that came out of that and our Chief

 22 Economist Andre Kirilenko talked about volume
 151

 1 versus liquidity in some of this trading and if we

 2 tie some of this trading volume what impact will

 3 that have on your data if you're having some

 4 relationship to futures markets? Is there any

 5 impact at all? I'm curious. I can't put the

 6 pieces together. Do you think it will make a

 7 difference at all?

 8 MR. KENNEDY: George, that's yours.

 9 COMMISSIONER O'MALIA: Your test is

 10 liquidity. Right? You're supposed to check for

 11 liquidity?

 12 MR. KENNEDY: Correct.

 13 COMMISSIONER O'MALIA: And Dr. Kirilenko

 14 found that not all liquidity is created equal.

 15 What did you measure it against?

 16 MR. PULLEN: For other commodity swaps

 17 as mentioned in the initial period will go with

 18 the DCM sizes where they are submitting those.

 19 There are definitely interactions between the

 20 pools of liquidity for economically equivalent

 21 futures contracts when they have swap lookalikes

 22 or similar swaps. Those characteristics do align
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 1 and the risks that are moved back and forth across

 2 portfolios are definitely in synch in many cases.

 3 But the purpose for introducing this in the swaps

 4 market is to have a measured approach so that

 5 we're slowly introducing these levels of

 6 transparency. So if a long-term goal is to synch

 7 up our understanding of these pools of liquidity

 8 and then come up with overarching block numbers,

 9 that's larger than our current goal to introduce

 10 transparency for swaps in general. It's a great

 11 long-term goal though. I think it's a great

 12 long-term goal to synch these up, and I think in

 13 terms of a measured approach to introduce this I

 14 think that we're going at it the right way.

 15 CHAIRMAN GENSLER: Thank you

 16 Commissioner O'Malia. Commissioner Wetjen?

 17 COMMISSIONER WETJEN: Thanks, Mister

 18 Chairman. Thanks to the team for all your work on

 19 this rule and for the briefing you provided a

 20 couple of weeks ago. I found that very helpful.

 21 One of the questions in the proposal is question

 22 35-A which asks whether a methodology based on
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 1 market depth and breadth might be an appropriate

 2 methodology. Perhaps more for the benefit of the

 3 folks listening and here today, could you explain

 4 a little bit that methodology and what the

 5 thinking is behind it?

 6 MR. PULLEN: Certainly. That's one of

 7 our alternatives. As we've said, there are many

 8 alternatives there. The idea of a market breadth,

 9 market depth test would be to look at this market

 10 in a more holistic approach in that instead of

 11 only looking at the volumes which are executed on,

 12 we'd also look at the availability of bids and

 13 offers as another measure of liquidity. There is

 14 no one measure of liquidity. If you get 20

 15 economists in a room, you'll get 20 different

 16 measures of liquidity. But market breadth and

 17 market depth is certainly one of those measures.

 18 COMMISSIONER WETJEN: As we approach a

 19 final rule, I presume that it's possible to even

 20 have a combination of different methodologies.

 21 MR. PULLEN: Yes. One of the questions

 22 does involve would a composite approach be more
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 1 appropriate which, for example, might have a 67-

 2 or 50-percent level interacting with a market

 3 depth, market breadth test or interacting with

 4 another test that we've proposed and that could in

 5 fact be the way that we turn out based on --

 6 MR. KENNEDY: I'll add to what George

 7 has said. We certainly could take a number of

 8 factors and in the market- depth question we do

 9 ask that question. But in our view we think that

 10 it may be a little bit more challenging to capture

 11 the type of data that that question would require.

 12 We do recognize we have special call authority to

 13 collect that data, but the amount of data that we

 14 would have to collect may be a little difficult.

 15 We would have to consider the effects on the

 16 Paperwork Reduction Act type costs and burdens and

 17 also cost-benefit considerations. But we do ask

 18 questions about those things as well.

 19 COMMISSIONER WETJEN: I think this has

 20 an obvious answer, but certainly the comments

 21 could come in, and you'd mentioned the option of

 22 the Commission of using a composite methodology.
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 1 But certainly the comments could come in in a way

 2 where it's convincing that there is one particular

 3 methodology that is the very best test of

 4 liquidity.

 5 MR. KENNEDY: Correct.

 6 COMMISSIONER WETJEN: That's all I have.

 7 CHAIRMAN GENSLER: Before we do the

 8 vote, I have one question. On the other commodity

 9 classes, oil, natural gas, et cetera, I couldn't

 10 find the questions fast enough. I think it's in

 11 here. If the commenters came in and said 67

 12 percent is a good idea for oil, that's a pretty

 13 liquid market, but over here in livestock you

 14 should stay with the same number that the DCM has.

 15 I could envision that. I could envision that

 16 there are certain parts in this market that might

 17 go to a measured formula approach, and I'm

 18 particularly sensitive to some of the smaller

 19 markets like livestock. Do we have that

 20 flexibility in here as well?

 21 MR. KENNEDY: We do. We ask that

 22 specific question, should we take some of the
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 1 approaches that we're using in the initial period,

 2 should we carry them forward?

 3 CHAIRMAN GENSLER: For instance, if the

 4 commenters all said on livestock we should make

 5 sure we're exactly the same as the designated

 6 contract market, and I don't know the number in

 7 livestock, but $3 million, it's not going to be

 8 some formula, we could finalize?

 9 MR. KENNEDY: Yes. We can finalize with

 10 that.

 11 CHAIRMAN GENSLER: Thank you. Mr.

 12 Stawick?

 13 MR. STAWICK: Commissioner Wetjen?

 14 COMMISSIONER WETJEN: Aye.

 15 MR. STAWICK: Commissioner Wetjen, aye.

 16 Commissioner O'Malia?

 17 COMMISSIONER O'MALIA: No.

 18 MR. STAWICK: Commissioner O'Malia, no.

 19 Commissioner Chilton?

 20 COMMISSIONER CHILTON: Aye.

 21 MR. STAWICK: Commissioner Chilton, aye.

 22 Commissioner Sommers?
 157

 1 COMMISSIONER SOMMERS: No.

 2 MR. STAWICK: Commissioner Sommers, no.

 3 Mister Chairman?

 4 CHAIRMAN GENSLER: Aye.

 5 MR. STAWICK: Mister Chairman, aye.

 6 Mister Chairman, on this question the yeas are

 7 three, the nays are two.

 8 CHAIRMAN GENSLER: The yeas have it and

 9 the staff recommendation is accepted. The thing I

 10 did on technical corrections earlier covers both

 11 of these. I just wanted to make sure of that.

 12 Our next scheduled meeting looks like it's going

 13 to be March 9 is what this book says. We'll

 14 publish of course a week in advance what we're

 15 going to do then hopefully in consultation with

 16 the Securities and Exchange Commission. With

 17 that, I think I will if there is no other business

 18 take a motion to adjourn the meeting.

 19 COMMISSIONER SOMMERS: So moved.

 20 CHAIRMAN GENSLER: All in favor?

 21 (Chorus of ayes.)

 22 CHAIRMAN GENSLER: The meeting is
 158

 1 adjourned. Thank you so much to both teams.

 2 (Whereupon, at 11:59 a.m., the

 3 PROCEEDINGS were adjourned.)

 4 * * * * *

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 1 CERTIFICATE OF NOTARY PUBLIC

 2 DISTRICT OF COLUMBIA

 3 I, Carleton J. Anderson, III, notary

 4 public in and for the District of Columbia, do

 5 hereby certify that the forgoing PROCEEDING was

 6 duly recorded and thereafter reduced to print under

 7 my direction; that the witnesses were sworn to tell

 8 the truth under penalty of perjury; that said

 9 transcript is a true record of the testimony given

 10 by witnesses; that I am neither counsel for,

 11 related to, nor employed by any of the parties to

 12 the action in which this proceeding was called;

 13 and, furthermore, that I am not a relative or

 14 employee of any attorney or counsel employed by the

 15 parties hereto, nor financially or otherwise

 16 interested in the 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