Document ID: SEC-2019-0149-0001
Agency: sec
Document Type: Rule
Title: Applications by Security-Based Swap Dealers or Major Security-Based Swap Participants for Statutorily Disqualified Associated Persons to Effect or be Involved in Effecting Security-Based Swaps
Posted Date: 2019-02-19T05:00Z

[Federal Register Volume 84, Number 33 (Tuesday, February 19, 2019)]
[Rules and Regulations]
[Pages 4906-4947]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-02347]

[[Page 4905]]

Vol. 84

Tuesday,

No. 33

February 19, 2019

Part II

Securities and Exchange Commission

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17 CFR Parts 201 and 240

Applications by Security-Based Swap Dealers or Major Security-Based 
Swap Participants for Statutorily Disqualified Associated Persons To 
Effect or Be Involved in Effecting Security-Based Swaps; Final Rule

  Federal Register / Vol. 84 , No. 33 / Tuesday, February 19, 2019 / 
Rules and Regulations  

[[Page 4906]]

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 201 and 240

[Release No. 34-84858; File No. S7-14-15]
RIN 3235-AL76

Applications by Security-Based Swap Dealers or Major Security-
Based Swap Participants for Statutorily Disqualified Associated Persons 
To Effect or Be Involved in Effecting Security-Based Swaps

AGENCY: Securities and Exchange Commission.

ACTION: Final rule.

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SUMMARY: Pursuant to Section 15F(b)(6) of the Securities Exchange Act 
of 1934 (``Exchange Act''), as added by Section 764(a) of Title VII of 
the Dodd-Frank Wall Street Reform and Consumer Protection Act (``Dodd-
Frank Act''), the Securities and Exchange Commission (``Commission'') 
is adopting Rule of Practice 194. Rule of Practice 194 provides a 
process for a registered security-based swap dealer or major security-
based swap participant (collectively, ``SBS Entity'') to make an 
application to the Commission for an order permitting an associated 
person that is a natural person who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of the SBS Entity. Rule of Practice 194 also provides 
an exclusion for an SBS Entity from the prohibition in Exchange Act 
Section 15F(b)(6) with respect to associated persons that are not 
natural persons. Finally, Rule of Practice 194 provides that, subject 
to certain conditions, an SBS Entity may permit an associated person 
that is a natural person who is subject to a statutory disqualification 
to effect or be involved in effecting security-based swaps on its 
behalf, without making an application pursuant to the rule, where the 
Commission, the Commodity Futures Trading Commission (``CFTC''), a 
self-regulatory organization (``SRO''), or a registered futures 
association has granted a prior application or otherwise granted relief 
from the statutory disqualification with respect to that associated 
person.

DATES: Effective April 22, 2019.

FOR FURTHER INFORMATION CONTACT: Natasha Vij Greiner, Assistant Chief 
Counsel, Devin Ryan, Senior Special Counsel, and Edward Schellhorn, 
Special Counsel at 202-551-5550, Division of Trading and Markets, 
Securities and Exchange Commission, 100 F Street NE, Washington, DC 
20549-7010.

SUPPLEMENTARY INFORMATION: 

Table of Contents

I. Background
II. Summary of Final Rule of Practice 194
III. Discussion
    A. Rule of Practice 194(a)--Scope of the Rule
    B. Rule of Practice 194(b)--Required Showing
    C. Rule of Practice 194(c)--Exclusion for Other Persons
    D. Rule of Practice 194(d)--Form of Application
    E. Rule of Practice 194(e)--Written Statement
    F. Rule of Practice 194(f)--Prior Applications or Processes
    G. Rule of Practice 194(g)--Notification to Applicant and 
Written Statement
    H. Rule of Practice 194(h)--Notice in Lieu of an Application
    I. Note to Rule of Practice 194
    J. Confidentiality of Materials
    K. Deleting Rule 15Fb6-1 and Schedule C to Forms SBSE, SBSE-A 
and SBSE-BD
    L. Compliance Date
IV. Paperwork Reduction Act
    A. Summary of Collection of Information
    B. Proposed Use of Information
    C. Respondents
    D. Total Burden Estimates Relating to Rule of Practice 194
    E. Confidentiality
V. Economic Analysis
    A. Broad Economic Considerations
    B. Economic Baseline
    1. Security-Based Swap Market Activity and Participants
    2. Natural Persons and Entity Persons Associated With SBS 
Entities
    3. Other Markets and Existing Regulatory Frameworks
    4. Data on Parallel Review Processes and Statutory 
Disqualification
    5. Requests for Relief From Statutory Disqualification Under 
Rule of Practice 194
    C. Benefits, Costs, and Effects on Efficiency, Competition, and 
Capital Formation
    1. Costs and Benefits of Rule of Practice 194
    2. Effects on Efficiency, Competition, and Capital Formation
    D. Rule Alternatives
    1. Temporary Exclusions
    2. Relief for Non-Investment-Related Offenses
    3. No Relief for CFTC, SRO, or Registered Futures Association 
Review
    4. No Relief for Associated Person Entities From Exchange Act 
Section 15F(b)(6)
    5. Form of Applications To Be Submitted: Time Period
    6. Public Availability of Applications and Supporting Materials
VI. Regulatory Flexibility Act Certification
    A. Regulatory Framework
    B. Assessment of Impact
    C. Certification
VII. Statutory Authority
Text of the Rule

I. Background

    Exchange Act Section 15F(b)(6), as added by Section 764(a) of the 
Dodd-Frank Act, makes it unlawful for an SBS Entity to permit an 
associated person \1\ who is subject to a statutory disqualification 
\2\ to effect or be involved in effecting security-based swaps on 
behalf of the SBS Entity if the SBS Entity knew, or in the exercise of 
reasonable care should have known, of the statutory disqualification, 
``[e]xcept to the extent otherwise specifically provided by rule, 
regulation, or order of the Commission.'' \3\ In this regard, Exchange 
Act Section 15F(b)(6) gives the Commission the discretion to determine, 
by order, that a statutorily disqualified associated person may effect 
or be involved in effecting security-based swaps on behalf of an SBS 
Entity, and/or to establish rules concerning the statutory prohibition 
in Exchange Act Section 15F(b)(6). \4\
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    \1\ Exchange Act Section 3(a)(70) generally defines the term 
``person associated with'' an SBS Entity to include (i) any partner, 
officer, director, or branch manager of an SBS Entity (or any person 
occupying a similar status or performing similar functions); (ii) 
any person directly or indirectly controlling, controlled by, or 
under common control with an SBS Entity; or (iii) any employee of an 
SBS Entity. See 15 U.S.C. 78c(a)(70). The definition generally 
excludes persons whose functions are solely clerical or ministerial. 
Id. The definition of ``person'' under Exchange Act Section 3(a)(9) 
is not limited to natural persons, but extends to both entities and 
natural persons. See 15 U.S.C. 78c(a)(9) (``The term `person' means 
a natural person, company, government, or political subdivision, 
agent, or instrumentality of a government.'').
    \2\ The term statutory disqualification as used in Exchange Act 
Section 15F(b)(6) parallels the definition of statutory 
disqualification in Exchange Act Section 3(a)(39)(A) through (F), 15 
U.S.C. 78c(a)(39)(A) through (F). See Applications by Security-Based 
Swap Dealers or Major Security-Based Swap Participants for 
Statutorily Disqualified Associated Persons To Effect or Be Involved 
in Effecting Security-Based Swaps, Exchange Act Release No. 75612 
(Aug. 5, 2015), 80 FR 51684, 51686, n.16 (Aug. 25, 2015) 
(``Proposing Release'' or ``proposal'').
    \3\ Exchange Act Section 15F(b)(6) provides: ``Except to the 
extent otherwise specifically provided by rule, regulation, or order 
of the Commission, it shall be unlawful for a security-based swap 
dealer or a major security-based swap participant to permit any 
person associated with a security-based swap dealer or a major 
security-based swap participant who is subject to a statutory 
disqualification to effect or be involved in effecting security-
based swaps on behalf of the security-based swap dealer or major 
security-based swap participant, if the security-based swap dealer 
or major security-based swap participant knew, or in the exercise of 
reasonable care should have known, of the statutory 
disqualification.'' 15 U.S.C. 78o-10(b)(6). The statutory 
prohibition in Exchange Act Section 15F(b)(6), 15 U.S.C. 78o-
10(b)(6), is parallel to a statutory provision for a swap dealer or 
major swap participant (collectively ``Swap Entities'') set forth in 
Section 4s(b)(6) of the Commodity Exchange Act (``CEA''), 7 U.S.C. 
6s(b)(6).
    \4\ On June 15, 2011, the Commission issued an order that, among 
other things, granted temporary relief from compliance with Exchange 
Act Section 15F(b)(6) for persons subject to a statutory 
disqualification who were, as of July 16, 2011, associated with an 
SBS Entity and who effected or were involved in effecting security-
based swaps on behalf of such SBS Entity and allowed such persons to 
continue to be associated with an SBS Entity until the date upon 
which rules adopted by the Commission to register SBS Entities 
became effective. See Temporary Exemptions and Other Temporary 
Relief, Together With Information on Compliance Dates for New 
Provisions of the Securities Exchange Act of 1934 Applicable to 
Security-Based Swaps, Exchange Act Release No. 64678 (June 15, 
2011), 76 FR 36287, 36301, 36305-07 (June 22, 2011) (``June 2011 
Temporary Exemptions Order''). See also Order Extending Certain 
Temporary Exemptions and a Temporary and Limited Exception Related 
to Security-Based Swaps, Exchange Act Release No. 75919 (Sept. 15, 
2015), 80 FR 56519 (Sept. 18, 2015) (extending the June 2011 
Temporary Exemptions Order).

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[[Page 4907]]

    On August 5, 2015,\5\ the Commission proposed Rule of Practice 194 
to establish a process by which an SBS Entity could apply to the 
Commission to permit an associated person who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of the SBS Entity.\6\ As discussed in the Commission's 
proposal,\7\ the federal securities laws provide various procedural 
avenues that allow certain registered entities to associate, where 
warranted, with persons subject to a statutory disqualification or 
other bar, including the Commission's Rule of Practice 193 \8\ and the 
Financial Industry Regulatory Authority's (``FINRA'') eligibility 
proceedings (under the process set forth in Exchange Act Rule 19h-
1).\9\ The Commission modeled proposed Rule of Practice 194 on these 
existing processes where persons can make an application to reenter the 
industry despite previously being barred by the Commission or subject 
to a statutory disqualification with respect to membership or 
participation in, or association with a member of, an SRO.\10\ 
Accordingly, the Commission proposed to establish a procedural 
framework that is similar to processes that are familiar to market 
participants.\11\
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    \5\ Concurrent with the issuance of the Rule of Practice 194 
proposal, the Commission adopted registration requirements for SBS 
Entities, including certain rules relating to the statutory 
prohibition in Exchange Act Section 15F(b)(6). See Registration 
Process for Security-Based Swap Dealers and Major Security-Based 
Swap Participants, Exchange Act Release No. 75611 (Aug. 5, 2015), 80 
FR 48964 (Aug. 14, 2015) (``Registration Adopting Release''). See 
also 17 CFR 240.15Fb6-1 (providing that an SBS Entity, when it files 
an application to register with the Commission, may permit an 
associated person that is not a natural person who is subject to a 
statutory disqualification to effect or be involved in effecting 
security-based swaps on the SBS Entity's behalf, provided that the 
statutory disqualification(s) occurred prior to the compliance date 
set forth in the Registration Adopting Release and that the SBS 
Entity identifies each such associated person on its registration 
form); 17 CFR 240.15Fb6-2 (requiring a Chief Compliance Officer of 
an SBS Entity to certify that it has performed background checks on 
all of its associated persons that are natural persons who effect or 
are involved in effecting security-based swaps on its behalf, and 
neither knows, nor in the exercise of reasonable care should have 
known, that any of its associated persons that effect or are 
involved in effecting security-based swaps on its behalf are subject 
to a statutory disqualification, unless otherwise specifically 
provided by rule, regulation, or order of the Commission). As 
discussed in Section III.K below, the Commission is making a 
technical amendment that deletes Rule 15Fb6-1 as well as Schedule C 
to Forms SBSE, SBSE-A and SBSE-BD and also conforms the instructions 
in those forms to take into account the associated person entity 
exclusion that the Commission is adopting in final Rule of Practice 
194(c).
    \6\ See Proposing Release, 80 FR 51684-722.
    \7\ See id. at 51687-89.
    \8\ 17 CFR 201.193. Rule of Practice 193 provides a process by 
which individuals that are associated with entities that are not 
regulated by an SRO (e.g., employees of an investment adviser, an 
investment company, or a transfer agent) can seek to reenter the 
securities industry despite previously being barred by the 
Commission. See Registration of Security-Based Swap Dealers and 
Major Security-Based Swap Participants, Exchange Act Release No. 
65543 (Oct. 12, 2011), 76 FR 65784, 65797 (Oct. 24, 2011) 
(``Registration Proposing Release''). See also Applications by 
Barred Individuals for Consent to Associate With a Registered 
Broker, Dealer, Municipal Securities Dealer, Investment Adviser or 
Investment Company, Exchange Act Release No. 20783, Investment 
Company Act Release No. 13839, Investment Advisers Act Release No. 
903, 49 FR 12204 (Mar. 29, 1984).
    \9\ 17 CFR 240.19h-1. The FINRA Rule 9520 Series sets forth 
procedures for a person to become or remain associated with a 
member, notwithstanding the existence of a statutory 
disqualification, and for a current member or person associated with 
a member to obtain relief from the eligibility or qualification 
requirements of the FINRA By-Laws and rules. A member (or new member 
applicant) seeking to associate with a natural person subject to a 
statutory disqualification must seek approval from FINRA by filing a 
Form MC-400 application. See FINRA Form MC-400, Membership 
Continuance Application, http://www.finra.org/web/groups/industry/@ip/@enf/@adj/documents/industry/p011542.pdf. Members (and new 
member applicants) that are themselves subject to a disqualification 
that wish to obtain relief from the eligibility requirements are 
required to submit a Form MC-400A application. See FINRA Form MC-
400A, Membership Continuance Application: Member Firm 
Disqualification Application, http://www.finra.org/web/groups/industry/@ip/@enf/@adj/documents/industry/p013339.pdf. Where 
required, FINRA sends a notice or notification to the Commission of 
its proposal to admit or continue the membership of a person or 
association with a member notwithstanding statutory disqualification 
in accordance with Exchange Act Rule 19h-1.
    \10\ ``Self-regulatory organization'' is defined in Section 
3(a)(26) of the Exchange Act, 15 U.S.C. 78c(a)(26), as ``any 
national securities exchange, registered securities association, or 
registered clearing agency, or (solely for the purposes of sections 
19(b), 19(c) and 23(b) of [the Exchange Act]) the Municipal 
Securities Rulemaking Board established by section 15B of this 
title.''
    \11\ In the proposal, the Commission also discussed, for 
example, the CFTC's approach with respect to the statutory 
prohibition for swap dealers or major swap participants 
(collectively ``Swap Entity'') as set forth in CEA Section 4s(b)(6), 
7 U.S.C. 6s(b)(6). See Proposing Release, 80 FR at 51688-89. The 
CFTC, with respect to statutorily disqualified associated persons of 
Swap Entities, limits the definition of associated persons of Swap 
Entities to natural persons. See 17 CFR 1.3(aa). As a result, the 
prohibition in CEA Section 4s(b)(6), 7 U.S.C. 6s(b)(6), applies to 
natural persons (not entities) associated with a Swap Entity. For 
further discussion on the CFTC's approach to Swap Entities, see 
Section II.B.3 of the Proposing Release, 80 FR at 51688-89.
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    The Commission requested comment on all aspects of the proposal as 
well as two alternative approaches,\12\ and received comments in 
response.\13\
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    \12\ See Proposing Release, 80 FR at 51701-05.
    \13\ These comment letters are available at: https://www.sec.gov/comments/s7-14-15/s71415.shtml.
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II. Summary of Final Rule of Practice 194

    The Commission is adopting Rule of Practice 194 largely as 
proposed, with certain modifications.\14\ As adopted, Rule of Practice 
194 provides a process by which an SBS Entity may apply to the 
Commission for an order permitting an associated person to effect or be 
involved in effecting security-based swaps on behalf of the SBS Entity 
where the associated person that is a natural person who is subject to 
a statutory disqualification and is thereby otherwise prohibited from 
effecting or being involved in effecting security-based swaps on behalf 
of an SBS Entity under Exchange Act Section 15F(b)(6). Rule of Practice 
194 also provides an exclusion for an SBS Entity from the prohibition 
in Exchange Act Section 15F(b)(6) with respect to associated persons 
that are not natural persons (defined herein as ``associated person 
entities'').
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    \14\ If any of the provisions of these amendments, or the 
application thereof to any person or circumstance, is held to be 
invalid, such invalidity shall not affect other provisions or 
application of such provisions to other persons or circumstances 
that can be given effect without the invalid provision or 
application.
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    In particular, as explained more fully in Section III below, the 
Commission is adopting the following provisions in Rule of Practice 
194:

     Paragraph (a) of Rule of Practice 194, which defines 
the scope of the rule and provides a process for submitting 
applications by an SBS Entity seeking an order of the Commission to 
permit an associated person who is subject to a statutory 
disqualification to effect or be involved in effecting security-
based swaps on behalf of the SBS Entity.
     Paragraph (b) of Rule of Practice 194, which specifies 
the required showing for an application. For the Commission to issue 
an order granting relief under Rule of Practice 194, an SBS Entity 
is required to make a showing that it would be consistent with the 
public interest to permit the associated person to effect or be 
involved in effecting security-based swaps on behalf of the SBS 
Entity, notwithstanding the statutory disqualification.

[[Page 4908]]

     Paragraph (c) of Rule of Practice 194, which 
establishes an exclusion from the general prohibition in Exchange 
Act Section 15F(b)(6) with respect to all associated person 
entities.\15\
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    \15\ In conjunction with adopting in Rule of Practice 194(c), 
the Commission is also making technical amendments to: (1) Delete 
Exchange Act Rule 15Fb6-1; (2) remove Schedule C to Forms SBSE, 
SBSE-A and SBSE-BD; and (3) remove all references to Schedule C in 
the instructions in the above-mentioned forms. See Section III.K, 
infra, for a further discussion of the technical amendments.
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     Paragraphs (d) and (e) of Rule of Practice 194, which 
specify the form of the application with respect to an associated 
person that is a natural person and the items to be addressed in the 
written statement within the application.
     Paragraph (f) of Rule of Practice 194, which requires 
an applicant to provide as part of any application any order, notice 
or other applicable document reflecting the grant, denial or other 
disposition (including any dispositions on appeal) of any prior 
application concerning the associated person under Rule of Practice 
194 and other similar processes.
     Paragraph (g) of Rule of Practice 194, which provides 
for notice to the applicant in cases where the Commission staff 
anticipates making an adverse recommendation to the Commission with 
respect to an application made pursuant to this rule. In such cases, 
the applicant will be provided with a written statement of the 
reasons for the Commission staff's preliminary recommendation, and 
the applicant will have 30 days to submit a written statement in 
response.
     Paragraph (h) to Rule of Practice 194, which provides 
that, where certain conditions are met, an SBS Entity does not need 
to file an application under Rule of Practice 194 to permit a 
statutorily disqualified associated person to effect or be involved 
in effecting security-based swaps on behalf of the SBS Entity. 
Specifically, paragraph (h) of Rule of Practice 194 allows an SBS 
Entity, subject to certain conditions, to permit a statutorily 
disqualified associated person to effect or be involved in effecting 
security-based swaps on behalf of the SBS Entity without making an 
application to the Commission, where the Commission, CFTC, an SRO 
(e.g., FINRA) or a national securities exchange), or a registered 
futures association (e.g., the National Futures Association 
(``NFA'')) has granted a prior application or otherwise granted 
relief from a statutory disqualification with respect to that 
associated person. In such cases where an SBS Entity meets the 
requirements of paragraph (h), the SBS Entity will be permitted to 
file a notice with the Commission (in lieu of an application).

III. Discussion

A. Rule of Practice 194(a)--Scope of the Rule

    Proposed Rule of Practice 194 would have defined the scope of the 
rule, namely providing a process for an SBS Entity to seek relief from 
the Commission to permit an associated person who is subject to a 
statutory disqualification to effect or be involved in effecting 
security-based swaps on behalf of the SBS Entity or to seek relief to 
change the terms and conditions of a previously issued Commission order 
pursuant to Rule of Practice 194.\16\ The Commission proposed to allow 
an SBS Entity to voluntarily submit an application to the Commission to 
request an order where an associated person of an SBS Entity is subject 
to a statutory disqualification and consequently prohibited from 
effecting or being involved in effecting security-based swaps on behalf 
of the SBS Entity under Exchange Act Section 15F(b)(6).\17\
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    \16\ See Proposing Release, 80 FR at 51689, 51719; proposed Rule 
of Practice 194(a).
    \17\ 15 U.S.C. 78o-10(b)(6); see proposed Rule of Practice 
194(a).
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    Although no commenters specifically commented on this provision of 
proposed Rule of Practice 194, the Commission received general comments 
regarding the scope of the rule as proposed.\18\
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    \18\ See Letter from Americans for Financial Reform, dated 
October 26, 2015 (``Americans for Financial Reform Letter''), at 1. 
See also Letter from Robert E. Rutkowski, dated October 27, 2015 
(``Rutkowski Letter''). The Rutkowski Letter requested only that the 
Commission seriously consider the recommendations set forth in the 
Americans for Financial Reform Letter.
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    A commenter suggested that rather than permit SBS Entities to 
voluntarily submit an application to the Commission to request an order 
providing relief from Exchange Act Section 15F(b)(6), the Commission 
should instead reaffirm what the commenter viewed as the Congressional 
mandate by issuing a rule that prohibits, on a blanket basis, 
associated persons that are subject to a statutory disqualification 
from effecting or being involved in effecting security-based swaps on 
behalf of SBS Entities.\19\
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    \19\ Letter from Bartlett Naylor, Public Citizen, dated October 
26, 2015 (``Public Citizen Letter''), at 1-2.
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    Section 15F(b)(6) of the Exchange Act provides that, except where 
otherwise specifically provided by rule, regulation, or order of the 
Commission, it shall be unlawful for an SBS Entity to permit any person 
associated with the SBS Entity who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of the SBS Entity, if the SBS Entity knew, or in the 
exercise or reasonable care should have known, of the statutory 
disqualification.\20\ Thus, while Exchange Act Section 15F(b)(6) makes 
it unlawful for an SBS Entity to permit an associated person who is 
subject to a statutory disqualification to effect or be involved in 
effecting security-based swaps on behalf of the SBS Entity, it also 
gives the Commission the discretion to determine (by rule, regulation, 
or order) that a statutorily disqualified associated person may effect 
or be involved in effecting security-based swaps on behalf of an SBS 
Entity.\21\ The Commission has determined to exercise its statutory 
authority under Exchange Act Section 15F(b)(6) to assess on a case-by-
case basis whether to grant relief from the statutory prohibition 
because there may be instances where it is consistent with the public 
interest to permit an associated person who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of the SBS Entity. Additionally, the commenter's 
approach \22\ would deviate from the Commission's current practice in 
other contexts, which permits associated persons to apply to reenter 
the securities industry notwithstanding the existence of a statutory 
disqualification.\23\ In that respect, adopting the commenter's 
approach could lead to the anomalous result where an applicant may be 
permitted to engage in securities transactions with members of the 
retail public--for example, as an associated person of a broker-dealer 
or investment adviser--but prohibited from effecting or being involved 
in effecting security-based swap transactions with significantly more 
sophisticated institutional clients as an associated person of an SBS 
Entity.\24\ Although we acknowledge that security-based swaps may also 
be more complex and opaque than equities or bonds, thus increasing 
information asymmetries between SBS Entities and their clients, we 
believe that institutional clients may be more informed and may process 
disclosures more efficiently than retail investors in parallel 
settings.
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    \20\ See Note 3, supra.
    \21\ 15 U.S.C. 78o-10(b)(6).
    \22\ See Public Citizen Letter, at 1-2.
    \23\ See, e.g., 17 CFR 240.19h-1; 17 CFR 201.193. See also 
Section I and Notes 8, 9, supra.
    \24\ See Proposing Release, 80 FR at 51698.
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    The Commission also believes that a process for granting relief 
with respect to a statutory disqualification should be formalized, as 
suggested by one commenter.\25\ Exchange Act Section

[[Page 4909]]

15F(b)(6) provides the Commission with discretion to determine whether 
a statutorily disqualified associated person may effect or be involved 
in effecting security-based swaps on behalf of an SBS Entity. However, 
it does not specify what information should be provided to the 
Commission when an SBS Entity seeks relief, nor does it set forth the 
standard under which the Commission would evaluate requests for relief. 
Rule of Practice 194 specifies the information and documents that SBS 
Entities should provide to the Commission, as well as the applicable 
procedures and standard of review, for seeking relief from the 
statutory prohibition in Exchange Act Section 15F(b)(6). By 
articulating the materials to be submitted, the items to be considered, 
and the standard of review, Rule of Practice 194 provides a clear 
process for SBS Entities.\26\ Therefore, the Commission is adopting 
paragraph (a) of Rule of Practice 194, which defines the scope of the 
rule, as proposed.
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    \25\ See Americans for Financial Reform Letter, at 1. The 
commenter noted that without proposed Rule of Practice 194, SBS 
Entities would still be able to apply to the Commission for relief 
from the prohibition in Exchange Act Section 15F(b)(6); however, the 
commenter supported the Commission's efforts to formalize a process 
for seeking relief from the statutory prohibition of Exchange Act 
Section 15F(b)(6) to increase accountability and transparency into 
the application process.
    \26\ See Proposing Release, 80 FR at 51712.
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B. Rule of Practice 194(b)--Required Showing

    Proposed Rule of Practice 194 provided that the applicant would be 
required to show that it would be consistent with the public interest 
to permit the associated person of the SBS Entity who is subject to a 
statutory disqualification to effect or be involved in effecting 
security-based swaps on behalf of the SBS Entity.\27\
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    \27\ See id. at 51689, 51719; proposed Rule of Practice 194(b). 
See Exchange Act Section 3(a)(39)(A) through (F), 15 U.S.C. 
78c(a)(39)(A) through (F), for a description of statutorily 
disqualifying events. See also Note 2, supra.
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    The Commission received one comment concerning the required showing 
set forth in the proposal. The commenter stated that, in assessing 
whether it is in the public interest to permit an associated person who 
is subject to a statutory disqualification to effect or be involved in 
effecting security-based swaps on behalf of an SBS Entity, the 
Commission should also consider whether the deterrent effect of 
disqualification would be diluted.\28\ Specifically, the commenter 
stated that, to be granted relief, the SBS Entity should be required to 
show that granting relief ``would actually enhance the deterrent 
effect.'' \29\
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    \28\ Public Citizen Letter, at 1, 4.
    \29\ Id. at 4. The commenter additionally stated that the entity 
requesting the waiver should be required to prove that ``the 
implicit deterrence impact of disqualification is not diluted'' by 
receiving a waiver from penalties resulting from criminal 
misbehavior. Id. at 1.
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    In assessing whether it is consistent with the public interest to 
permit an associated person that is a natural person who is subject to 
a statutory disqualification to effect or be involved in effecting 
security-based swaps on behalf of an SBS Entity, the Commission may 
consider deterrence, among other factors.\30\ However, the Commission 
does not agree with the commenter that the ``applicant should be 
required to show that an exemption would actually enhance the deterrent 
effect'' \31\ or that any petitioner for an exemption from 
disqualification should have to prove that the implicit deterrence 
impact of disqualification is not diluted by receiving a waiver from 
penalties from criminal misbehavior.\32\ Either standard could preclude 
the Commission from granting relief even where the public interest 
otherwise warrants doing so--i.e., raising deterrence above all other 
public interest considerations. Moreover, it is not clear that any 
applicant could meet either standard proposed by the commenter. The 
Commission does believe, however, consistent with the proposal,\33\ 
that the applicant should bear the burden of showing that permitting 
the associated person to effect or be involved in effecting security-
based swaps on behalf of the SBS Entity is consistent with the public 
interest.
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    \30\ In this regard, the Commission noted in the Proposing 
Release that statutory disqualification and an inability to continue 
associating with SBS Entities may create a disincentive against 
underlying misconduct for associated persons. See Proposing Release, 
80 FR at 51689, 51716-17.
    \31\ Public Citizen Letter, at 4.
    \32\ See id. at 1. Non-criminal conduct also may result in a 
statutory disqualification. See 15 U.S.C. 78c(a)(39).
    \33\ See Proposing Release, 80 FR at 51689.
---------------------------------------------------------------------------

    The Commission believes that the public interest standard is 
appropriate and consistent with Section 15F(b)(6) of the Exchange Act 
\34\ and is adopting the standard as proposed.
---------------------------------------------------------------------------

    \34\ A public interest standard also is consistent with the 
standard in Rule of Practice 193. See 17 CFR 201.193(c).
---------------------------------------------------------------------------

    Exchange Act Section 15F(b)(6) is designed to limit the potential 
that associated persons who have engaged in certain types of ``bad 
acts'' will be able to negatively affect the security-based swap market 
and the participants in that market by prohibiting an SBS Entity from 
allowing a statutorily disqualified associated person to effect or be 
involved in effecting security-based swap transactions, absent 
Commission relief. However, Section 15F(b)(6) also specifically 
provides that the Commission can allow SBS Entities to permit such 
statutorily disqualified associated persons to effect or be involved in 
effecting security-based swap transactions. The public interest 
standard is intended to capture those situations where the risk of the 
associated person engaging in security-based swap activity that may 
harm the market or the participants in the market is mitigated. Thus, 
as stated in the proposal, the Commission believes that it may grant 
relief in cases where the terms or conditions of association and the 
procedures proposed for supervision of the statutorily disqualified 
associated person are reasonably designed to mitigate the potential 
harm to the market or participants in the market.\35\
---------------------------------------------------------------------------

    \35\ See Proposing Release, 80 FR at 51689.
---------------------------------------------------------------------------

    The Commission also notes that the items set forth in the proposal 
\36\ and adopted in final Rule of Practice 194(e), such as other 
misconduct in which the associated person may have engaged, the nature 
of the conduct that resulted in the statutory disqualification and 
disciplinary history of the associated person and SBS Entity requesting 
such relief, and the supervision to be accorded the associated person, 
would be relevant to the Commission's consideration of whether the 
risks of permitting such associated persons that are natural persons to 
effect or be involved in effecting security-based swaps on behalf of 
the SBS Entity are sufficiently mitigated. Therefore, the Commission is 
adopting paragraph (b) of Rule of Practice 194 as proposed.\37\
---------------------------------------------------------------------------

    \36\ See id. at 51691-93, 51719-20; proposed Rule of Practice 
194(d).
    \37\ Where the Commission determines that it would be consistent 
with the public interest to permit the associated person that is a 
natural person of the SBS Entity to effect or be involved in 
effecting security-based swaps on behalf of the SBS Entity, the 
Commission will issue an order granting relief. Where the Commission 
does not or cannot make the determination that it is in the public 
interest to permit the associated person that is a natural person of 
the SBS Entity to effect or be involved in effecting security-based 
swaps on behalf of the SBS Entity, the Commission will issue an 
order denying the application. See Proposing Release, 80 FR at 
51694.
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C. Rule of Practice 194(c)--Exclusion for Other Persons

    The Commission is adopting Rule of Practice 194(c), which provides 
an exclusion for an SBS Entity from the prohibition in Exchange Act 
Section 15F(b)(6) with respect to associated person entities.
    Proposed Rule of Practice 194(i) would have provided temporary 
relief, subject to certain conditions,\38\ from the

[[Page 4910]]

statutory prohibition in Exchange Act Section 15F(b)(6) with respect to 
associated person entities that are subject to a statutory 
disqualification.\39\ The Commission proposed paragraph (i) of Rule of 
Practice 194 to address the situation where an operating SBS Entity 
becomes subject to the statutory prohibition in Exchange Act Section 
15F(b)(6) with respect to an associated person that is not a natural 
person--either as a result of an associated person that effects or is 
involved in effecting security-based swaps on behalf of the SBS Entity 
becoming subject to a statutory disqualification, or as a result of a 
person who is subject to a statutory disqualification becoming an 
associated person effecting or involved in effecting security-based 
swaps on behalf of the SBS Entity.\40\
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    \38\ The Commission proposed two general limitations on the 
applicability of the temporary exclusion, namely that the temporary 
exclusion would not be available where: (1) The Commission has 
otherwise ordered--for example, where the Commission, by order, has 
censured, placed limitations on the activities or functions of the 
associated person, or suspended or barred such person from being 
associated with an SBS Entity; and (2) where the Commission, CFTC, 
an SRO or a registered futures association has previously denied 
membership, association, registration or listing as a principal with 
respect to the associated person that is the subject of the pending 
application. See id. at 51697. As discussed below, since the 
Commission is adopting the alternative that was set forth in the 
proposal, these limitations are no longer included in the rule. 
However, as discussed below, the Commission maintains its existing 
statutory authority to institute proceedings or bring an action 
against any associated person entities, and nothing in this 
provision affects the ability of the Commission, the CFTC, an SRO or 
the NFA to deny membership, association, registration or listing as 
a principal with respect to any associated person entity.
    \39\ See Proposing Release, 80 FR at 51694-98, 51721; proposed 
Rule of Practice 194(i).
    \40\ See, e.g., Proposing Release, 80 FR at 51694.
---------------------------------------------------------------------------

    The Commission also solicited comment on two alternative approaches 
with respect to the temporary exclusion, as proposed, including one 
alternative that would provide relief from the general prohibition in 
Exchange Act Section 15F(b)(6) with respect to all associated person 
entities.\41\ More specifically, the Commission requested comment on 
whether the Commission should instead provide an exclusion to permit an 
SBS Entity to allow associated person entities subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of SBS Entities.\42\ The Commission received two 
comments on this alternative, both of which stated that the Commission 
should not provide an exclusion to permit associated person entities 
that are subject to a statutory disqualification to effect or be 
involved in effecting security-based swaps on behalf of SBS 
Entities.\43\
---------------------------------------------------------------------------

    \41\ See id. at 51697-98. The other alternative proposed by the 
Commission related to the ultimate disposition of an application to 
the extent the Commission does not act within a specified time 
period. See id. at 51697.
    \42\ See id. at 51697-98, 51716. In addition, the Commission 
also provided an economic analysis on this proposed alternative. See 
id. at 51716.
    \43\ See Letter from Dennis M. Kelleher & Stephen W. Hall, 
Better Markets, Inc., dated October 26, 2015 (``Better Markets 
Letter''), at 5; Americans for Financial Reform Letter, at 3.
---------------------------------------------------------------------------

    One commenter stated that adopting a temporary exclusion, as 
proposed, would be inconsistent with the language and Congressional 
intent of Exchange Act Section 15F(b)(6).\44\ The commenter believes 
that the temporary exclusion provision addresses ``industry-focused 
concerns'' and would expose investors and markets to disruptive effects 
from unscrupulous conduct by associated person entities subject to a 
statutory disqualification.\45\ The commenter also believes that in the 
event that an associated person entity is prohibited from effecting or 
being involved in effecting security-based swaps on behalf of an SBS 
Entity, other market participants may fill the void with minimal 
disruption, or the SBS Entity may adopt measures to mitigate any 
negative impacts as a result of the statutory prohibition.\46\
---------------------------------------------------------------------------

    \44\ See Better Markets Letter, at 5.
    \45\ Id.
    \46\ See id.
---------------------------------------------------------------------------

    A second commenter provided similar objections to the temporary 
exclusion.\47\ The commenter stated that disruption to an SBS Entity's 
business is not a sufficient justification for providing a temporary 
exclusion with respect to an associated person entity who is subject to 
a statutory disqualification. The commenter further stated that any 
statutory disqualification that may require an SBS Entity to move 
services (such as advisory, booking, cash or collateral management 
services) to another entity is not a ``market-moving event,'' and would 
not justify the adoption of a temporary exclusion with respect to 
associated person entities. The commenter, however, acknowledged that 
there may be limited cases where an immediate change in a service 
provider would cause significant disruptions. But, rather than provide 
an automatic temporary exclusion, as proposed, the commenter suggested, 
as an alternative, that the Commission could in those limited cases 
grant a temporary exclusion of up to 30 days where doing so is 
appropriate and necessary.\48\
---------------------------------------------------------------------------

    \47\ See Americans for Financial Reform Letter, at 3.
    \48\ See id.
---------------------------------------------------------------------------

    The Commission received a related comment in response to a request 
for comment in connection with the proposed requirements for an SBS 
Entity to register with the Commission, which solicited comment on 
whether the Commission should consider excepting associated person 
entities from the statutory prohibition in Exchange Act Section 
15F(b)(6).\49\ The commenter stated that, based on the Commission's 
definition of the phrase ``involved in effecting,'' SBS Entities could 
have hundreds, if not thousands, of associated natural persons who will 
effect or will be involved in effecting security-based swaps.\50\ 
Moreover, the commenter stated that the definition of ``associated 
person'' could be read to extend not just to natural persons, but also 
to non-natural persons (e.g., entities) that are affiliates of SBS 
Entities.\51\ As a result, the commenter stated, prohibiting 
statutorily disqualified entities from effecting or being involved in 
effecting security-based swaps could result in ``considerable'' 
business disruptions and other ramifications.\52\ To address these 
concerns, the commenter stated that the Commission should narrow the 
scope of the associated persons considered to be effecting or involved 
in effecting security-based swaps, or, alternatively, exercise its 
statutory authority to grant exceptions to the general ban on an SBS 
Entity from associating with a person subject to a statutory 
disqualification.\53\
---------------------------------------------------------------------------

    \49\ In connection with proposing requirements for an SBS Entity 
to register with the Commission, the Commission solicited comment on 
potentially developing an alternative process, in accordance with 
Exchange Act Section 15F(b)(6), to establish exceptions to the 
statutory prohibition in Exchange Act Section 15F(b)(6). See 
Registration Proposing Release, 76 FR at 65797 (Question 90).
    \50\ See Letter from Kenneth E. Bentsen, Jr., Securities 
Industry and Financial Markets Association, dated December 16, 2011 
(``12/16/2011 SIFMA Letter''), at 8, available at https://www.sec.gov/comments/s7-40-11/s74011-4.pdf. The Commission has 
stated that the term ``involved in effecting security-based swaps'' 
generally means engaged in functions necessary to facilitate the SBS 
Entity's security-based swap business, including, but not limited to 
the following activities: (1) Drafting and negotiating master 
agreements and confirmations; (2) recommending security-based swap 
transactions to counterparties; (3) being involved in executing 
security-based swap transactions on a trading desk; (4) pricing 
security-based swap positions; (5) managing collateral for the SBS 
Entity; and (6) directly supervising persons engaged in the 
activities described in items (1) through (5) above. See Proposing 
Release, 80 FR at 51686, n.19 (citing the Registration Adopting 
Release, at Section II.B.1.ii.).
    \51\ See 12/16/2011 SIFMA Letter.
    \52\ See id. The commenter did not provide supporting data to 
quantify the number of associated persons or the magnitude of any 
potential business disruptions.
    \53\ See id.
---------------------------------------------------------------------------

    The Commission believes that adopting a rule providing for an 
exclusion for associated person entities is consistent with Exchange 
Act Section 15F(b)(6), which explicitly permits the

[[Page 4911]]

Commission to establish exceptions to that statutory prohibition by 
``rule, regulation, or order.'' \54\ In discussing the exclusion 
alternative, the Commission noted that it would take into consideration 
the extent to which this alternative approach would minimize potential 
disruptions to the business of SBS Entities that could lead to possible 
market disruption and how this approach would impact counterparty and 
investor protection.\55\ We discuss each of those considerations below.
---------------------------------------------------------------------------

    \54\ 15 U.S.C. 78o-10(b)(6). In addition, Exchange Act Section 
15F(b)(4) provides the Commission with authority (other than certain 
inapplicable exceptions specified in Exchange Act Section 
15F(b)(4)(d) and (e)) to ``prescribe rules applicable to security-
based swap dealers and major security-based swap participants.'' 15 
U.S.C. 78o-10(b)(4).
    \55\ See Proposing Release, 80 FR at 51698.
---------------------------------------------------------------------------

    The Commission believes that granting an automatic exclusion for 
associated person entities could reduce potential disruptions to the 
business of SBS Entities that could lead to market disruption. The 
scope of the prohibition in Section 15F(b)(6) of the Exchange Act 
covers a wide range of actions, given the definitions of statutory 
disqualification and associated person, and the meaning of ``involved 
in effecting'' a security-based swap transaction.\56\ Absent an 
exclusion, the statutory prohibition in Exchange Act Section 15F(b)(6) 
would apply immediately upon an associated person entity becoming 
subject to a statutory disqualification. Contrary to one commenter's 
general view that moving services to another entity is not a ``market-
moving event,'' \57\ the Commission continues to be concerned about the 
potential disruption to the security-based swap markets, including 
potential adverse effects to counterparties and other market 
participants, if SBS Entities engaged in the business must either cease 
operations, even temporarily, due to not being able to utilize the 
services of their associated person entities,\58\ or move services to 
another entity that may not be as well-equipped to handle them pending 
a determination by the Commission on their application for relief under 
the proposed temporary exclusion or pending a determination by another 
regulator for similar relief.\59\ For example, and as the Commission 
stated in the proposal, moving the cash and collateral management 
services from one entity to another would have a much more significant 
impact on the ability of the SBS Entity to operate--which, as noted 
above, could lead to possible market disruption--than assigning a 
different natural person to negotiate and execute security-based swap 
transactions.\60\
---------------------------------------------------------------------------

    \56\ See Proposing Release, 80 FR at 51694. See also 
Registration Adopting Release, at Section III.B.1.i.
    \57\ Americans for Financial Reform Letter, at 3. The commenter 
also acknowledged when discussing the proposed temporary exclusion 
for associated person entities that there may be some limited cases 
where an immediate change in a service provider would cause 
significant disruptions.
    \58\ See Proposing Release, 80 FR at 51695-96.
    \59\ Final Rule of Practice 194(h) provides that, subject to 
certain conditions, an SBS Entity may permit an associated person 
who is subject to a statutory disqualification to effect or be 
involved in effecting security-based swaps on its behalf, without 
making an application pursuant to the proposed rule, where the 
Commission, CFTC, an SRO or a registered futures association has 
granted a prior application or otherwise granted relief from a 
statutory disqualification with respect to that associated person. 
See Rule of Practice 194(h) and Section III.H, infra.
    \60\ See Proposing Release, 80 FR at 51696, n.88 (citing the 
Registration Adopting Release, 80 FR at 48975, where the Commission 
noted that it was particularly concerned that SBS Entities ``may 
need to either cease operations, even temporarily, due to not being 
able to utilize these services of their associated person entities, 
or move these services to another entity that may not be as well 
positioned to handle them, which could have an impact on the 
security-based swap market'').
---------------------------------------------------------------------------

    One commenter noted that other SBS Entities could potentially 
provide services to the market in the event that an associated person 
entity becomes subject to a statutory disqualification.\61\ However, 
irrespective of whether other SBS Entities may be able to provide such 
services over time (which may not necessarily occur), there is 
nonetheless a potential for short-term disruptions where an associated 
person entity becomes immediately barred as a result of being subject 
to a statutory disqualification. In particular, absent relief, an SBS 
Entity that is associated with a statutorily disqualified entity would 
be required either to restructure immediately or to cease dealing 
activity temporarily, which could result in various costs, such as 
costs associated with replacing the statutorily disqualified associated 
person entity or a legal reorganization.\62\ Such short-term 
disruptions could therefore adversely affect not just SBS Entities, but 
also counterparties or other market participants in the form of 
execution delays, potentially reduced liquidity or higher transaction 
costs.\63\ In that respect, the exclusion is not limited to addressing 
``industry-focused concerns'' \64\ or concerns about disruptions to the 
SBS Entity's business alone.\65\
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    \61\ See Better Markets Letter, at 5.
    \62\ See also Section V.C.1.c, infra.
    \63\ See id.
    \64\ See Better Markets Letter, at 5.
    \65\ See Americans for Financial Reform Letter, at 3.
---------------------------------------------------------------------------

    Although one commenter asserted that any short-term market 
disruptions could potentially be mitigated by the SBS Entity whose 
associated person entity becomes subject to a statutory 
disqualification, the commenter did not specify what measures could be 
taken by the SBS Entity to mitigate potential market dislocations.\66\ 
It is not clear that any measures that an SBS Entity could potentially 
take to mitigate potential market disruptions--e.g., the SBS Entity 
restructuring its business to use the services of another associated 
person entity that is not subject to a statutory disqualification--
would in all instances be effective, feasible, or cost-effective. For 
example, there may be instances where a change in a service provider 
could cause significant disruptions in the security-based swap 
market.\67\ These disruptions are augmented by the fact that, as 
discussed below, the Commission estimates that dealing activity in the 
security-based swap market is highly concentrated among a small number 
of dealers, with the top five dealer accounts intermediating 
approximately 55 percent of all SBS Entity transactions.\68\
---------------------------------------------------------------------------

    \66\ See Better Markets Letter, at 5.
    \67\ See Americans for Financial Reform Letter, at 3 
(acknowledging the potential for disruption in the event of an 
immediate change).
    \68\ See Section V.A, infra, for further discussion.
---------------------------------------------------------------------------

    In comparison to the proposed temporary exclusion approach, SBS 
Entities would be less constrained by the general statutory prohibition 
and would be able to associate with any and all statutorily 
disqualified associated person entities in any capacity without 
applying for relief under Exchange Act Section 15F(b)(6) or under Rule 
of Practice 194. This approach gives SBS Entities more certainty about 
their ability to permit statutorily disqualified associated person 
entities to effect or be involved in effecting security-based swaps, 
whereas the proposed temporary exclusion would have expired after 180 
days, and SBS Entities would have 60 days to conform to the general 
statutory prohibition if the Commission, the CFTC, an SRO or a 
registered futures association does not render a decision on the 
application within that timeframe. Furthermore, SBS Entities 
associating with disqualified persons would not have to undergo 
business restructuring or apply for relief, thereby mitigating the risk 
of disruptions and avoiding the costs associated with such 
restructuring or application for relief, which may flow through to 
counterparties under the rule being adopted.

[[Page 4912]]

    As the Commission noted in the proposal, the overall effects on 
security-based swap markets of adopting the alternative approach are 
unclear. The proposal, in connection with estimating anticipated costs, 
noted that the alternative approach, which we are now adopting, could 
hinder the Commission's ability to make an individualized determination 
about whether permitting an associated person entity who is subject to 
a statutory disqualification to effect or be involved in effecting 
security-based swaps on behalf of an SBS Entity is consistent with the 
public interest, and that statutory disqualification and an inability 
to continue associating with SBS Entities creates disincentives against 
underlying misconduct for associated persons.\69\ The Commission has 
also considered the potential impact on investors and the security-
based swap markets from permitting associated person entities subject 
to a statutory disqualification to effect or be involved in effecting 
security-based swaps on behalf of SBS Entities. The Commission 
acknowledges, as it did in the proposal, that the counterparty and 
compliance risks under the entity exclusion approach may be somewhat 
greater than those under the proposed approach.\70\ Nevertheless, the 
Commission recognizes, as it did in the proposal, that these risks and 
concerns are mitigated by the Commission's ability, in the appropriate 
case, to institute proceedings under Exchange Act Section 15F(l)(3) to 
determine whether the Commission should censure, place limitations on 
the activities or functions of such person, or suspend for a period not 
exceeding 12 months, or bar such person from being associated with an 
SBS Entity.\71\ Therefore, the exclusion in final Rule of Practice 
194(c) will neither limit nor otherwise affect the Commission's 
existing statutory authority to institute proceedings or bring an 
action against any associated person entities as outlined above.\72\ In 
addition, the exclusion in final Rule of Practice 194(c) will also 
neither limit nor otherwise affect the ability of the Commission, the 
CFTC, an SRO or the NFA to deny membership, association, registration 
or listing as a principal with respect to any associated person 
entity.\73\
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    \69\ The Commission received comments supporting the potential 
deterrence effect of disqualification. See, e.g., Public Citizen 
Letter; Better Markets Letter.
    \70\ See, e.g., Better Markets Letter.
    \71\ See Proposing Release, 80 FR at 51698, n.98, 51716, n.194 
(citing 15 U.S.C. 78o-10(l)(3)).
    \72\ See Proposing Release, 80 FR at 51698, n.98, 51716, n.194 
(citing 15 U.S.C. 78o-10(l)(3)). See, e.g., 15 U.S.C. 78u-3 
(authorizing cease-and-desist proceedings).
    \73\ For example, under Exchange Act Section 15A(g)(2), 15 
U.S.C. 78o-3(g)(2), where it is necessary or appropriate in the 
public interest or for the protection of investors, the Commission 
may, by order, direct the SRO to deny membership to any registered 
broker or dealer, and bar from becoming associated with a member any 
person, who is subject to a statutory disqualification. Section 
17(h) of the CEA provides for the CFTC to review certain NFA 
decisions, including the NFA's disciplinary actions and member 
responsibility actions, as do the CFTC's Part 171 Rules, 17 CFR 
171.1-171.50.
---------------------------------------------------------------------------

    As also noted in the proposal,\74\ this alternative approach would 
result in consistency with the CFTC's approach with respect to the 
statutory prohibition for Swap Entities as set forth in CEA Section 
4s(b)(6).\75\ The CFTC, with respect to statutorily disqualified 
associated persons of Swap Entities, limits the definition of 
associated persons of Swap Entities to natural persons.\76\ As a 
result, the prohibition in CEA Section 4s(b)(6) applies to natural 
persons (not entities) associated with a Swap Entity.\77\ Indeed, under 
the alternative approach, which we are now adopting, SBS Entities 
cross-registered as Swap Entities with the CFTC would experience 
potential economies of scope in associating with persons that are 
statutorily disqualified entities.
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    \74\ See Proposing Release, 80 FR at 51698.
    \75\ 7 U.S.C. 6s(b)(6).
    \76\ See 17 CFR 1.3(aa). Specifically, the CFTC amended CEA 
Regulation 1.3(aa), 17 CFR 1.3(aa), which generally defines the term 
``associated person'' for purposes of entities registered with it, 
to cover Swap Entities. Consequently, with respect to Swap Entities, 
the definition reads, ``(aa) Associated Person. This term means any 
natural person who is associated in any of the following capacities 
with: . . . (6) A swap dealer or major swap participant as a 
partner, officer, employee, agent (or any natural person occupying a 
similar status or performing similar functions), in any capacity 
that involves: (i) The solicitation or acceptance of swaps (other 
than in a clerical or ministerial capacity); or (ii) The supervision 
of any person or persons so engaged.'').
    \77\ See 7 U.S.C. 6s(b)(6), which states, ``Except to the extent 
otherwise specifically provided by rule, regulation, or order, it 
shall be unlawful for a swap dealer or a major swap participant to 
permit any person associated with a swap dealer or a major swap 
participant who is subject to a statutory disqualification to effect 
or be involved in effecting swaps on behalf of the swap dealer or 
major swap participant, if the swap dealer or major swap participant 
knew, or in the exercise of reasonable care should have known, of 
the statutory disqualification.''
---------------------------------------------------------------------------

    One commenter noted that the temporary exclusion provision may 
expose investors and markets to disruptive effects from unscrupulous 
conduct by associated person entities subject to a statutory 
disqualification.\78\ As noted in the Proposing Release, however, the 
Commission continues to believe that this approach appropriately 
considers the potentially competing objectives of minimizing the 
likelihood for market disruption while remaining consistent with the 
public interest and maintaining investor protections.\79\
---------------------------------------------------------------------------

    \78\ See Better Markets Letter, at 5.
    \79\ See id.
---------------------------------------------------------------------------

    Given the adoption of the exclusion alternative for Rule of 
Practice 194(c), the Commission is not adopting a commenter's proposed 
alternative that the Commission could, on a case-by-case basis, provide 
a temporary exclusion of up to 30 days where doing so is necessary and 
appropriate. Under this alternative, pending approval by the Commission 
for such a temporary exclusion, an SBS Entity would be required to 
either (1) disassociate with the statutorily disqualified associated 
person entity immediately after the associated person entity became 
subject to a statutory disqualification, or (2) immediately have that 
associated person cease effecting or being involved in effecting 
security-based swaps on behalf of the SBS Entity. This result would 
defeat the intent and purpose of the temporary exclusion and could 
result in a risk of market disruption immediately after the associated 
person entity becomes subject to a statutory disqualification, but 
prior to the entry of any order granting a temporary exclusion.
    For the reasons discussed above, the Commission is adopting 
paragraph (c) of Rule of Practice 194, which provides an exclusion for 
an SBS Entity from the prohibition in Exchange Act Section 15F(b)(6) 
with respect to associated person entities.

D. Rule of Practice 194(d)--Form of Application

    Proposed Rule of Practice 194 would have specified the form of the 
application to be submitted under the rule for natural persons.\80\ In 
particular, the Commission proposed that each application would be 
required to be supported by a written statement, signed by a 
knowledgeable person authorized by the SBS Entity, which addresses 
other items in proposed Rule of Practice 194.\81\ The proposal would 
have required an applicant to provide certain exhibits to the written 
statement. For associated persons that are natural

[[Page 4913]]

persons,\82\ the Commission proposed that an SBS Entity provide: (1) A 
copy of the order or other applicable document that resulted in the 
associated person being subject to a statutory disqualification; \83\ 
(2) an undertaking by the applicant to notify the Commission promptly 
in writing if any information submitted in support of the application 
becomes materially false or misleading while the application is 
pending; \84\ (3) a copy of the questionnaire or application for 
employment specified in Exchange Act Rule 15Fb6-2(b); \85\ and (4) a 
copy of any decision, order, or document issued with respect to any 
proceeding \86\ resulting in the imposition of disciplinary sanctions 
or pending proceeding against the associated person by the Commission, 
CFTC, any federal or state or law enforcement regulatory agency, 
registered futures association, foreign financial regulatory authority, 
registered national securities association, or any other SRO, or 
commodities exchange, or any court, that occurred during the five years 
preceding the filing of the application pursuant to Rule of Practice 
194.\87\ The Commission also proposed that an application under Rule of 
Practice 194 would be filed pursuant to Rules of Practice 151, 152 and 
153.\88\
---------------------------------------------------------------------------

    \80\ See id. at 51689-91, 51719; proposed Rule of Practice 
194(c). The proposal also specified the form of application to be 
submitted under the rule for associated person entities. See 
proposed Rule of Practice 194(e). Rule of Practice 194(c), as 
adopted, provides an exclusion for an SBS Entity from the 
prohibition in Exchange Act Section 15F(b)(6) with respect to 
associated persons entities. Accordingly, the corresponding 
provision, proposed Rule of Practice 194(e), which would have 
specified the form of such applications for entities, is not needed 
and is not being adopted.
    \81\ See Section III.E, infra, for a discussion of proposed Rule 
of Practice 194(d).
    \82\ The Commission is making one technical change to the text 
of Rule of Practice 194(d) such that the phrase a ``person that is 
subject to a statutory disqualification'' (emphasis added) is being 
changed to read a ``person who is subject to a statutory 
disqualification'' (emphasis added). This technical change is 
intended to make the text of Rule of Practice 194 more closely track 
the language used in Exchange Act Section 15F(b)(6), which reads, in 
pertinent part, ``who is subject to a statutory disqualification'' 
(emphasis added). This technical change is also being made to Rule 
of Practice 194 (h)(1) and (h)(2).
    \83\ See proposed Rule of Practice 194(c)(1).
    \84\ See id. (c)(2).
    \85\ 17 CFR 240.15Fb6-2(b); see proposed Rule of Practice 
194(c)(3).
    \86\ In connection with final Rule of Practice 194, applicants 
should look to the definition of ``proceeding'' in Form SBSE, which 
states that a ``proceeding'' includes ``a formal administrative or 
civil action initiated by a governmental agency, self-regulatory 
organization or a foreign financial regulatory authority; a felony 
criminal indictment or information (or equivalent formal charge); or 
a misdemeanor criminal information (or equivalent formal charge). 
Does not include other civil litigation, investigations, or arrests 
or similar charges effected in the absence of a formal criminal 
indictment or information (or equivalent formal charge).'' See 
Registration Adopting Release, at Section III.G.1, and Form SBSE.
    \87\ See proposed Rule of Practice 194(c)(4).
    \88\ 17 CFR 201.151, 201.152, 201.153. Rule of Practice 151, 17 
CFR 201.151, concerns the procedure for filing of papers with the 
Commission; Rule of Practice 152, 17 CFR 201.152, concerns the form 
of filing papers with the Commission; Rule of Practice 153, 17 CFR 
201.153, concerns the signature requirement and effect of filing 
papers.
---------------------------------------------------------------------------

    The Commission did not receive any specific comments on the form of 
application and written statement in proposed Rule of Practice 194. 
However, one commenter stated that the Commission should require 
applicants to address disciplinary events going back ten years, not 
five years.\89\ In support of a longer time period, the commenter 
stated that a ten-year time period would provide greater protections in 
accordance with the purpose of Exchange Act Section 15F(b)(6), and 
would be more consistent with other provisions of the securities laws 
dealing with statutory disqualification.\90\
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    \89\ See Better Markets Letter, at 6. Although the commenter did 
not specify a particular provision, the Commission did propose a 
five-year time period in proposed paragraph (c)(4). Proposed 
paragraph (c)(4) would require a copy of any decision, order, or 
document issued with respect to any proceedings resulting in the 
imposition of disciplinary sanctions or pending proceeding against 
the associated person by the Commission, CFTC, any federal or state 
or law enforcement regulatory agency, registered futures 
association, foreign financial regulatory authority, registered 
national securities association, or any other SRO, or commodities 
exchange, or any court, that occurred during the five years 
preceding the filing of the application pursuant to Rule of Practice 
194. Proposed paragraphs (d)(6) and (d)(10) also contain similar 
requests for certain information for a five-year time period. See 
Section III.E, infra.
    \90\ See Better Markets Letter, at 6.
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    The Commission is adopting renamed paragraph (d) of Rule of 
Practice 194 as proposed, including the five-year time period in the 
proposal, for the reasons discussed in the Proposing Release.\91\ In 
determining to adopt the proposed five-year time period, the Commission 
carefully considered the burden that may be imposed by requiring SBS 
Entities to provide older materials and documents that may not be as 
readily available, as well as our need to evaluate the context and 
circumstances underlying the application.\92\ Furthermore, we note that 
paragraph (d)(1) of the Rule as adopted requires that the application 
include a copy of the order or other applicable document that resulted 
in the associated person being subject to a statutory disqualification. 
Therefore, the orders or other applicable documents provided with the 
application may go back longer than five years.\93\
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    \91\ Proposing Release, 80 FR at 51689-91, 51719; proposed Rule 
of Practice 194(c).
    \92\ We note that the Appendix paragraph (c) to Rule of Practice 
194 states that, in addition to the information required by the 
rule, Commission staff may request supplementary information from 
the applicant to assist in the Commission's review. See also 
Proposing Release, 80 FR at 51689, n.54, 51722 (proposing the same 
requirement).
    \93\ For example, statutory disqualification may result where an 
associated person has committed ``any other felony within ten 
years.'' 15 U.S.C. 78c(a)(39)(F). See also, e.g., 15 U.S.C. 80a-9(a) 
(ineligibility under Section 9(a) of the Investment Company Act of 
1940 (``Investment Company Act'') may result where a person (or an 
affiliated person) within ten years has been convicted of any felony 
or misdemeanor involving the purchase or sale of any security or 
arising out of such person's conduct as an underwriter, broker, 
dealer, investment adviser, or in other specified categories).
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    In addition, the Commission does not agree with the commenter that 
a ten-year time period would be more consistent with the current 
practice in similar contexts. Paragraph (d)(4) of the final rule 
requires a copy of any decision, order, or document issued with respect 
to any proceeding resulting in the imposition of disciplinary sanctions 
or pending proceeding against the associated person by the Commission, 
CFTC, any federal or state or law enforcement regulatory agency, 
registered futures association, foreign financial regulatory authority, 
registered national securities association, or any other SRO, or 
commodities exchange, or any court, that occurred during the five years 
preceding the filing of the application pursuant to Rule of Practice 
194. FINRA's membership continuance applications require analogous 
disciplinary information for a five-year time period--not a ten-year 
time period.\94\ For example, like paragraph (d)(4), FINRA Form MC-400, 
Section 4, Items 9 and FINRA Form MC-400A, Section 2, Item 4 request 
information within the past five years concerning ``any proceeding 
which has resulted in the imposition of disciplinary sanctions by 
FINRA, the U.S. Securities and Exchange Commission, the Commodity 
Futures Trading Commission, any federal or regulatory agency, foreign 
financial regulatory authority, any self-regulatory organization or 
commodities exchange, or any court or state agency.'' \95\ 
Additionally, the Commission's Rule of Practice 193 only requires 
compliance and disciplinary history during the two years preceding the 
filing of a Rule 193 application.\96\
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    \94\ See FINRA Form MC-400, Section 4, Items 9a, 11; FINRA Form 
MC-400A, Section 2, Items 4, 5.
    \95\ FINRA Form MC-400, Section 4, Item 9a; FINRA Form MC-400A, 
Section 2, Item 4.
    \96\ See 17 CFR 201.193(b)(4)(iii). However, and as noted above, 
although paragraph (d)(4) (and other provisions relating to 
information that an applicant must provide regarding an individual's 
disciplinary history) provide for a five-year time period, 
applicants will be required under paragraph (d)(1) of the final rule 
to provide the Commission with a copy of an order or other 
applicable document which subjects the individual to, a statutory 
disqualification irrespective of when the misconduct that gives rise 
to the statutory disqualification occurred (e.g., even if outside 
the five-year time period).
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    As with the proposed rule, under the terms of the final rule, the 
SBS Entity (rather than the associated person) will be required to 
submit the application, including the signed written statement under 
paragraph (d). Further, as specified below, the Commission is

[[Page 4914]]

requiring certain information (e.g., concerning the supervision by the 
SBS Entity over the associated person) to be submitted with the 
application that is within the possession of the SBS Entity itself. An 
application under Rule of Practice 194, as proposed and adopted, will 
be filed pursuant to Rules of Practice 151, 152 and 153.\97\ The 
Commission believes that filing pursuant to these rules will provide 
the Commission with the information that it needs to assess an 
application under Rule of Practice 194.
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    \97\ 17 CFR 201.151, 201.152, 201.153. See also Note 88, supra.
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E. Rule of Practice 194(e)--Written Statement

    Proposed Rule of Practice 194 would have set forth the items to be 
addressed for applications for natural persons.\98\ In particular, the 
Commission proposed to require an applicant to address certain 
information in the written statement. For associated persons that are 
natural persons, an SBS Entity would be required to address: (i) The 
associated person's compliance with any order resulting in the 
statutory disqualification; \99\ (ii) the associated person's 
employment during the period subsequent to the event giving rise to the 
statutory disqualification; \100\ (iii) the capacity or position in 
which the associated person subject to a statutory disqualification 
proposes to be associated with the SBS Entity; \101\ (iv) the terms and 
conditions of employment and supervision to be exercised over the 
associated person and, where applicable, by such associated person; 
\102\ (v) the qualifications, experience, and disciplinary history 
\103\ of the proposed supervisor(s) of the associated person; \104\ 
(vi) the compliance and disciplinary history, during the five years 
preceding the filing of the application, of the SBS Entity; \105\ (vii) 
the names of any other statutorily disqualified associated persons at 
the SBS Entity, and whether they are to be supervised by the associated 
person; \106\ (viii) whether the associated person has taken any 
relevant courses, seminars, examinations or other actions subsequent to 
becoming subject to a statutory disqualification to prepare for his or 
her participation in the security-based swap business; \107\ (ix) why 
the associated person should be permitted to effect or be involved in 
effecting security-based swaps on behalf of the SBS Entity; \108\ (x) 
whether, during the five years preceding the filing of the application, 
the associated person has been involved in any litigation concerning 
investment or investment-related activities or whether there are there 
any unsatisfied judgments outstanding against the associated person 
concerning investment or investment-related activities; \109\ and (xi) 
any other information that the applicant believes to be material to the 
application.\110\
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    \98\ See Proposing Release, 80 FR at 51691-93, 51719-20; 
proposed Rule of Practice 194(d). The proposal also set forth the 
items to be addressed for applications for associated person 
entities. See proposed Rule of Practice 194(f). Rule of Practice 
194(c), as adopted, provides an exclusion for an SBS Entity from the 
prohibition in Exchange Act Section 15F(b)(6) with respect to 
associated persons entities; therefore, the corresponding provision 
with respect to associate person entities, proposed Rule of Practice 
194(f), is not needed and is not being adopted.
    \99\ See proposed Rule of Practice 194(d)(1).
    \100\ See id. (d)(2).
    \101\ See id. (d)(3).
    \102\ See id. (d)(4).
    \103\ Disciplinary history would include, for example, the items 
contained in Exchange Act Rule 17a-3(a)(12)(i)(D) through (G), 17 
CFR 240.17a-3(a)(12)(i)(D) through (G), which items are required to 
be collected by broker-dealers with respect to their associated 
persons and are required to be provided on Form U-4. Such items 
include, among other things, a record of any disciplinary action 
taken, or sanction imposed, upon the associated person by any 
federal or state agency, or national securities exchange or national 
securities association, a record of any permanent or temporary 
injunction entered against the associated person, or a record of any 
arrest or indictment for any felony or certain specified types of 
misdemeanors. See also Recordkeeping and Reporting Requirements for 
Security-Based Swap Dealers, Major Security-Based Swap Participants, 
and Broker-Dealers; Capital Rule for Certain Security-Based Swap 
Dealers, Exchange Act Release No. 71958 (Apr. 17, 2014), 79 FR 
25194, 25205, 25308-09 (May 2, 2014).
    \104\ See proposed Rule of Practice 194(d)(5).
    \105\ See id. (d)(6).
    \106\ See id. (d)(7).
    \107\ See id. (d)(8).
    \108\ See id. (d)(9).
    \109\ See id. (d)(10). Applicants should look to the definition 
of ``investment or investment-related'' in Form SBSE, which states 
that ``investment or investment-related'' includes ``pertaining to 
securities, commodities, banking, savings association activities, 
credit union activities, insurance, or real estate (including, but 
not limited to, acting as or being associated with a broker-dealer, 
municipal securities dealer, government securities broker or dealer, 
issuer, investment company, investment adviser, futures sponsor, 
bank, security-based swap dealer, major security-based swap 
participant, savings association, credit union, insurance company, 
or insurance agency).'' See Registration Adopting Release, Form 
SBSE.
    \110\ See proposed Rule of Practice 194(d)(11).
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    The Commission did not receive any specific comments on the items 
to be addressed set forth in the proposal. However, as discussed in 
Section III.D above, the Commission received one general comment 
stating that the Commission should require applicants to address 
disciplinary events going back ten years, not five years.\111\ For the 
same reasons set forth above in Section III.D, the Commission is 
adopting the five-year time period as proposed, and for the reasons 
discussed in the proposal,\112\ the Commission is adopting renamed 
paragraph (e) of Rule of Practice 194, as proposed, with four minor 
technical changes.\113\
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    \111\ See Better Markets Letter, at 6. The commenter did not 
specify a particular provision of the proposal.
    \112\ See Proposing Release, 80 FR at 51691-93, 51719-20; 
proposed Rule of Practice 194(d).
    \113\ The technical changes are (1) updating an internal cross 
reference to subsection (c) in the proposal to reflect subsection 
(d) in final Rule of Practice 194; (2) moving the phrase 
``notwithstanding the event resulting in statutory 
disqualification'' from an introductory phrase to later in the text 
of subparagraph (9) to clarify any possible ambiguity in 
subparagraph (9) without changing the scope of that provision; (3) 
updating the technical wording in subparagraph (e)(9) to more 
closely conform to the other provisions in subsection (e) by 
removing the phrase ``the applicant should provide;'' and (4) 
changing the term ``impact upon'' to ``affect'' to clarify any 
possible ambiguity in subparagraph (9) without changing the scope of 
the provision.
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F. Rule of Practice 194(f)--Prior Applications or Processes

    Proposed Rule of Practice 194 would have required an applicant to 
provide as part of the application any order, notice or other 
applicable document reflecting the grant, denial or other disposition 
(including any dispositions on appeal) of any prior application 
concerning the associated person under Rule of Practice 194 and other 
similar processes.\114\ More specifically, the proposal would have 
required an applicant to provide any order, notice or other applicable 
document where an application has previously been made for the 
associated person: (1) Pursuant to Rule of Practice 194; \115\ (2) 
pursuant to Rule of Practice 193; \116\ (3) pursuant to Section 9(c) of 
the Investment Company Act; \117\ (4) pursuant to Exchange Act Section 
19(d),\118\ Exchange Act Rule 19h-1 \119\ or a proceeding by an SRO for 
a person to become or remain a member, or an associated person of a 
member, notwithstanding the existence of a statutory disqualification; 
and (5) by the CFTC or a registered futures association for 
registration, including as a principal, notwithstanding the existence 
of a statutory disqualification.\120\ Proposed Rule of Practice 194 
also addressed: (i) The exception in CFTC Regulation

[[Page 4915]]

23.22(b) \121\ by requiring an SBS Entity to provide any order or other 
applicable document providing that the associated person may be listed 
as a principal, registered as an associated person of another CFTC 
registrant, or registered as a floor broker or floor trader, 
notwithstanding the statutory disqualification and (ii) the CFTC's and 
NFA's current process for granting relief from CEA Section 
4s(b)(6),\122\ the provision that is parallel to Exchange Act Section 
15F(b)(6), with respect to persons that are not exempt from that 
provision pursuant to CFTC Regulation 23.22(b).\123\
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    \114\ See Proposing Release, 80 FR at 51693-94, 51720-21; 
proposed Rule of Practice 194(g).
    \115\ See proposed Rule of Practice 194(g)(1).
    \116\ 17 CFR 201.193; see proposed Rule of Practice 194(g)(2).
    \117\ 15 U.S.C. 80a-9(c); see proposed Rule of Practice 
194(g)(3).
    \118\ 15 U.S.C. 78s(d); see proposed Rule of Practice 194(g)(4).
    \119\ 17 CFR 240.19h-1.
    \120\ See proposed Rule of Practice 194(g)(5).
    \121\ 17 CFR 23.22(b); see proposed Rule of Practice 
194(g)(5)(i). Under that provision, the CFTC allows association with 
a Swap Entity with respect to a person who is already listed as a 
principal, registered as an associated person of another CFTC 
registrant, or registered as a floor broker or floor trader, 
notwithstanding that the person is subject to a statutory 
disqualification under section 8a(2) or 8a(3) (7 U.S.C. 12a(2), (3)) 
of the CEA. See Note 11, supra.
    \122\ 7 U.S.C. 6s(b)(6); see proposed Rule of Practice 
194(g)(5)(ii). This provision requires the SBS Entity to submit any 
determination by NFA (the sole registered futures association, see 
CFTC Registration Release, 77 FR at 2624) with respect to that grant 
of no-action relief. The Commission is adopting the language in 
paragraph (f)(5)(ii) largely as proposed but with a minor technical 
modification to more accurately reflect the CFTC's and NFA's 
approach to statutory disqualification.
    \123\ 17 CFR 23.22(b).
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    Although the Commission did not receive any comments specifically 
addressing this provision of the proposal, one commenter stated that 
the Commission should take into account the views of other regulatory 
bodies that may have adjudicated similar issues with respect to the 
associated persons subject to a statutory disqualification.\124\ 
Renamed paragraph (f) of Rule of Practice 194, as adopted, will 
facilitate the Commission's ability to take such views into account.
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    \124\ Letter from Elijah E. Cummings, Ranking Member, Committee 
on Oversight and Government Reform, U.S. House of Representatives, 
dated November 13, 2015 (``Cummings Letter''), at 2.
---------------------------------------------------------------------------

    Paragraph (f) to Rule of Practice 194 is designed to inform the 
Commission when a similar application made with respect to the 
associated person has been granted or denied (or been subject to some 
other disposition).\125\ Information concerning the grant or denial (or 
other disposition) of a prior application or other request for relief, 
and the reasons for the grant or denial, may inform the Commission's 
assessment as to whether it would be consistent with the public 
interest for the person to effect or be involved in effecting security-
based swaps on behalf of an SBS Entity.
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    \125\ As discussed in the Proposing Release, in cases where a 
statutorily disqualified person was formerly associated with another 
SBS Entity, an applicant should use reasonable efforts to obtain 
relevant documentation from the other SBS Entity.
---------------------------------------------------------------------------

    For example, in the event that a prior application has been 
granted, but the terms and conditions of the association with the other 
registrant are materially different than the proposed terms and 
conditions of the statutorily disqualified person's association with 
the SBS Entity, the Commission could consider whether the terms and 
conditions at the SBS Entity that are different may result in any 
greater risk of future misconduct.\126\
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    \126\ Notably, in circumstances where the prior application has 
been denied or where the terms and conditions of employment are not 
the same, an SBS Entity cannot avail itself of paragraph (h) of Rule 
of Practice 194, see Section III.H, infra, and therefore will be 
required to file an application under Rule of Practice 194 in order 
to permit an associated person subject to a statutory 
disqualification to be able to effect or be involved in effecting 
security-based swaps on behalf of an SBS Entity.
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    Accordingly, for reasons discussed in the proposal,\127\ the 
Commission is adopting renamed Rule of Practice 194(f), as proposed, 
with one minor technical change to more accurately reflect the CFTC's 
and NFA's approach to statutory disqualification.
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    \127\ See Rule of Practice 194 Proposing Release, 80 FR at 
51693-94, 51720-21.
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    The proposal would have required an applicant to provide any order, 
notice or other applicable document reflecting the grant, denial or 
other disposition (including any dispositions on appeal) of any prior 
application or process concerning the associated person by the CFTC and 
NFA through their process for granting relief from CEA Section 4s(b)(6) 
\128\ with respect to persons that are not exempt from that provision 
pursuant to CFTC Regulation 23.22(b).\129\ Under the CEA and CFTC 
regulations, the consequences of an individual's statutory 
disqualification differ depending upon whether the individual is an 
associated person of a CFTC registrant or a principal of a CFTC 
registrant. An associated person of a CFTC registrant is required to 
register separately with the CFTC by filing his or her own application 
for registration. Therefore, if the associated person of a CFTC 
registrant has a statutory disqualification, the application for 
registration will be denied unless the associated person goes through 
the process established by NFA to be registered notwithstanding the 
statutory disqualification. However, a principal of a CFTC registrant 
does not apply, either for registration or to be listed as a principal. 
Rather, the entity of which the person is a principal is required to 
list that principal on the entity's application for registration with 
the CFTC. As a result, if the principal has a statutory 
disqualification, the entity's application for registration with the 
CFTC will be denied unless the entity goes through the process with NFA 
to be registered, notwithstanding having to list a statutorily 
disqualified principal.\130\
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    \128\ 7 U.S.C. 6s(b)(6).
    \129\ 17 CFR 23.22(b). See Proposing Release, 80 FR at 51693-
51694, 51721; proposed Rule of Practice 194(g)(5)(ii). Under the 
CFTC and NFA's process, available through no-action relief granted 
by CFTC staff, a Swap Entity may make an application to NFA to 
permit an associated person of a Swap Entity subject to a statutory 
disqualification to effect or be involved in effecting swaps on 
behalf of the Swap Entity. NFA will provide notice to a Swap Entity 
whether or not NFA would have granted the person registration as an 
associated person. As noted in the Proposing Release, and as adopted 
here as well, the rule requires the SBS Entity to submit any 
determination by NFA (the sole registered futures association) with 
respect to that grant of no-action relief. See CFTC Letter No. 12-
15, at 5-8 (Oct. 11, 2012), available at http://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/12-15.pdf.
    \130\ Accordingly, the Commission has adopted the following 
language with the new language underlined for subpart (ii): ``Any 
determination by a registered futures association (as provided in 7 
U.S.C. 21) that had the associated person applied for registration 
as an associated person of a swap dealer or a major swap 
participant, or had a swap dealer or major swap participant listed 
the associated person as a principal in the swap dealer's or major 
swap participant's application for registration, notwithstanding 
statutory disqualification, the application of the associated person 
or of the swap dealer or major swap participant, as the case may be, 
would have been granted or denied.''
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G. Rule of Practice 194(g)--Notification to Applicant and Written 
Statement

    Proposed Rule of Practice 194 would have set forth the procedure 
where there is an adverse recommendation proposed by the Commission 
staff with respect to an application under proposed Rule of Practice 
194.\131\ Consistent with Rule of Practice 193(e),\132\ the Commission 
proposed that where there would be an adverse recommendation, the 
applicant would be so advised and provided with a written statement by 
the Commission staff of the reasons for such recommendation, and the 
applicant would then have 30 days to submit to the Commission a written 
statement in response.\133\
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    \131\ See Proposing Release, 80 FR at 51694, 51721; proposed 
Rule of Practice 194(h).
    \132\ 17 CFR 201.193(e).
    \133\ See Proposing Release, 80 FR at 51694, 51721; proposed 
Rule of Practice 194(h).
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    The Commission did not receive comments concerning this provision 
of the proposal and, for the reasons discussed in the proposal, is 
adopting renamed paragraph (g) of Rule of Practice 194 as 
proposed.\134\
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    \134\ See id.

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[[Page 4916]]

H. Rule of Practice 194(h)--Notice in Lieu of an Application

    Proposed Rule of Practice 194 would have limited the applicability 
of the statutory prohibition in Exchange Act Section 15F(b)(6) by 
prescribing the conditions under which an SBS Entity could permit a 
person associated with it who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on its behalf without being required to file an application under 
Rule of Practice 194.\135\ The Commission proposed to permit, subject 
to all of the conditions specified in proposed paragraph (j)(2) being 
met,\136\ an associated person who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of SBS Entities where the Commission or other 
regulatory authority previously reviewed the matter and permitted the 
person subject to a statutory disqualification to be a member, 
associated with a member, registered or listed as a principal of a 
regulated entity notwithstanding the statutory disqualification.\137\ 
The Commission also proposed that where an SBS Entity meets certain 
requirements the SBS Entity would be permitted to file notice with the 
Commission (in lieu of an application).\138\
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    \135\ Proposing Release, 80 FR at 51698-700, 51721-22; proposed 
Rule of Practice 194(j).
    \136\ As explained in the proposal, ``[a]n SBS Entity seeking to 
rely on proposed Rule of Practice (j)(1) would have to meet all of 
the conditions specified in proposed paragraph (j)(2).'' Id. at 
51699. The same is true for adopted Rule of Practice 194(h).
    \137\ See id. at 51698-99 (discussing proposed paragraph 
(j)(1)(i) through (iv)). These same provisions are being adopted in 
Rule of Practice 194(h)(1)(i) through (iv). We note that Rule of 
Practice 194(h) would not be applicable in instances where the 
Commission itself has made an affirmative determination to bar or 
suspend the associated person. See id. at 51698 (explaining that, 
other than in cases where the person is subject to a Commission bar, 
the Commission did not believe it would be necessary to re-examine 
an event for which relief has already been granted by the CFTC, an 
SRO or a registered futures association).
    \138\ See Proposing Release, 80 FR at 51699-700; proposed Rule 
of Practice 194(j)(2)(iii), (iv).
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    The Commission received comments objecting generally to the 
proposal.\139\ One commenter stated that the provision should not be 
adopted as proposed because FINRA's statutory disqualification process 
is ``typically designed for individuals'' and Exchange Act Section 
15F(b)(4) creates a ``new statutory disqualification.'' As outlined 
above, FINRA member firms that are themselves subject to a statutory 
disqualification and wish to obtain relief from the eligibility 
requirements are required to seek approval from FINRA.\140\ 
Furthermore, Exchange Act Section 15F(b)(4) \141\ does not reference 
``statutory disqualification'' or otherwise establish a category of 
conduct that would disqualify an associated person from effecting or 
being involved in effecting security-based swaps.\142\
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    \139\ Americans for Financial Reform Letter, at 2; Better 
Markets Letter, at 3-4; Public Citizen Letter, at 4-5; Cummings 
Letter, at 2-3.
    \140\ See Note 9, supra (discussing FINRA Form MC-400A, 
Membership Continuance Application: Member Firm Disqualification 
Application, http://www.finra.org/web/groups/industry/@ip/@enf/@adj/documents/industry/p013339.pdf).
    \141\ As noted above, see Note 54, supra, Exchange Act Section 
15F(b)(4) provides the Commission with authority (other than certain 
inapplicable exceptions specified in Exchange Act Section 
15F(b)(4)(d) and (e)) to ``prescribe rules applicable to security-
based swap dealers and major security-based swap participants.'' 15 
U.S.C. 78o-10(b)(4).
    \142\ Rather, Exchange Act Section 15F(b)(6) references 
``statutory disqualification,'' and the Commission has previously 
stated that a ``statutory disqualification'' for purposes of 
Exchange Act Section 15F(b)(6) is not a new defined term (with 
additional categories), but rather is described (consistent with 
other contexts) in Exchange Act Sections 3(a)(39)(A) through (F). 15 
U.S.C. 78c(a)(39)(A) through (F); see also Registration Adopting 
Release, 80 FR at 48972; 17 CFR 240.15Fb2-1(e); 17 CFR 240.15Fb6-1; 
17 CFR 240.15Fb6-2.
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    The Commission also received comments arguing that allowing 
deference to SROs is inconsistent with current practice.\143\ However, 
the Commission observes that Rule of Practice 194(h) is generally 
consistent with the current practice with respect to SROs and their 
members. For example, the information provided by the notice under 
adopted paragraph (h)(2)(iii) is consistent with the information that 
is currently required for a notification under Exchange Act Rule 19h-
1(a)(4).\144\ In the event that the views of the Commission were to 
diverge from the CFTC, an SRO or a registered futures association with 
respect to an associated person subject to a statutory disqualification 
under the statutory scheme of the Exchange Act, under Exchange Act 
Section 15F(l)(3), the Commission retains the authority to, by order, 
censure, place limitations on the activities or functions of the 
associated person, or suspend or bar such person from being associated 
with an SBS Entity.\145\ As a result, even in cases where the CFTC, an 
SRO or a registered futures association has previously granted relief 
and an SBS Entity files a notice in lieu of an application under Rule 
of Practice 194(h), the Commission may, in the appropriate case, 
institute proceedings under Exchange Act Section 15F(l)(3) to determine 
whether the Commission should censure, place limitations on the 
activities or functions of such person, or suspend for a period not 
exceeding 12 months, or bar such person from being associated with an 
SBS Entity.\146\ The Commission also believes that where the conditions 
set forth in paragraph (h) are met, it would not be necessary for the 
Commission (other than in cases where the person is subject to a 
Commission bar) to re-examine by means of a full application under Rule 
of Practice 194 an event for which relief has already been granted. 
Rather, the Commission believes that the better approach is to require 
an applicant to provide a notice under Rule of Practice 194(h) in lieu 
of a full application under Rule of Practice 194, which would alert the 
Commission to issues that could lead to the institution of proceedings 
pursuant to Exchange Act Section 15F(l)(3) \147\ where doing so is 
appropriate.
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    \143\ See Americans for Financial Reform Letter, at 2. See also 
Cummings Letter, at 2-3 (arguing that the Commission should not 
delegate its authority to interpret the Exchange Act to the CFTC, 
FINRA or a registered futures association, in part, because ``[n]one 
of the entities to which the proposed rule would grant the authority 
to issue a waiver has been granted that responsibility by 
statute.'').
    \144\ 17 CFR 240.19h-1(a)(4); proposed Rule of Practice 
194(j)(2)(iii), (iv).
    \145\ 15 U.S.C. 78o-10(l)(3). See also Proposing Release, 80 FR 
at 51698 n.98.
    \146\ See 15 U.S.C. 78o-10(l)(3). See also, e.g., 15 U.S.C. 
15(b)(6).
    \147\ 15 U.S.C. 78o-10(l)(3).
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    Another commenter argued that the Commission should not 
``delegate'' its authority to determine whether an exclusion from 
Exchange Act Section 15F(b)(6) is appropriate because regulators 
administer different statutory schemes and have different 
priorities.\148\ This same commenter argued that this proposed 
subsection should not be adopted because, among other things, the 
Commission should exercise its own judgment in each case to ensure that 
the policies underlying the securities laws are fulfilled.\149\
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    \148\ See Better Markets Letter, at 3-4.
    \149\ See Better Markets Letter, at 3-4 (arguing that this 
proposed subsection should not be adopted because the Commission 
should exercise its judgment in each case to ensure that the 
policies underlying the securities laws are fulfilled and because 
the proposal would not ensure that applications for an exemption 
from disqualification will be subject to strong, consistent, and 
relevant considerations under the securities laws).
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    The Commission acknowledges that other regulators administer 
different statutory schemes,\150\ but it does not believe that the 
applicable standards that regulators identified in paragraph (h) use in 
their respective statutory disqualification processes are sufficiently 
different to warrant requiring SBS Entities to file a full application 
under Rule of Practice 194, as opposed to a notice in lieu of an 
application. In particular, the CFTC and

[[Page 4917]]

NFA assess whether registration would not pose a substantial risk to 
the public despite the existence of the statutory 
disqualification.\151\ Likewise, and as noted above, consistent with 
Exchange Act Section 15A(g)(2),\152\ under Article 3, Section 3(d) of 
the FINRA By-Laws,\153\ the FINRA Board may, in its discretion, approve 
the continuance in membership, and may also approve the association or 
continuance of association of any person, if the FINRA Board determines 
that such approval is consistent with the public interest and the 
protection of investors.\154\ Although the CFTC or a registered futures 
association may not review ``considerations under the securities 
laws,'' \155\ and may have ``different statutory schemes and . . . 
different priorities,'' \156\ those regulators, and SROs, will 
generally assess whether it is consistent with the public interest to 
permit a person who is subject to statutory disqualification to be 
associated with (or a principal of) a registered entity. As a result, a 
review by the regulators provided for in paragraph (h) would 
substantially overlap with any review that the Commission would 
undertake in assessing whether an applicant has made a showing under 
Rule of Practice 194(b) that it would be consistent with the public 
interest to grant relief with respect to a statutorily disqualified 
associated person. And, as stated, the Commission will retain authority 
under Exchange Act Section 15F(l)(3) \157\ to determine whether 
potential considerations under the securities law would warrant 
diverging from a decision of another regulator in a particular matter.
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    \150\ See Better Markets Letter, at 3-4; Cummings Letter, at 2-
3.
    \151\ See CEA Regulation 3.60(e)(1), (2), 17 CFR 3.60(e)(1)(2), 
NFA Registration 507(a)(1), (2).
    \152\ 15 U.S.C. 78o-3(g)(2).
    \153\ See FINRA By-Laws, Article III, Section 3(d), http://finra.complinet.com/en/display/display_main.html?rbid=2403&element_id=4606. See also Registration 
Proposing Release, 80 FR at 51687.
    \154\ See also FINRA Rules 9522(e), 9524(b)(1).
    \155\ See Better Markets Letter, at 3-4.
    \156\ Id.
    \157\ 15 U.S.C. 78o-10(l)(3).
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    Similarly, the Commission received comments arguing that SROs are 
conflicted or do not otherwise have the impartiality necessary to make 
decisions regarding the best interests of the public.\158\ While the 
Commission has carefully considered the concerns raised by these 
commenters, the Commission believes that the statutory and regulatory 
framework under which SROs operate (including the Commission's 
oversight function of SROs \159\ and the CFTC's oversight of the NFA 
\160\), and the Commission's independent authority to, where 
appropriate, institute proceedings with respect to the statutorily 
disqualified associated person under Exchange Act Section 15F(l)(3), 
serves to mitigate commenters' concerns.\161\ SROs are entrusted with 
quasi-governmental authority, and, subject to Commission 
oversight.\162\ SROs must also be organized and have the capacity to 
carry out the purposes of the Exchange Act and to comply and enforce 
compliance by its members and persons associated with its members with 
the Exchange Act, the rules and regulations thereunder and the rules of 
the SRO.\163\ The Exchange Act reflects a recognition of self-
regulation as a fundamental component of the oversight and supervision 
of U.S. securities markets and their members.
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    \158\ See Public Citizen Letter, at 4-5; Better Markets Letter, 
at 3-4; Cummings Letter, at 2; Americans for Financial Reform 
Letter, at 2.
    \159\ As stated in Note 9, supra, an SRO may be required to send 
a notice or notification to the Commission of its proposal to admit 
or continue the membership of a person or association with a member 
notwithstanding statutory disqualification in accordance with 
Exchange Act Rule 19h-1. See 17 CFR 240.19h-1. Under Exchange Act 
Section 15A(g)(2), 15 U.S.C. 78o-3(g)(2), where it is necessary or 
appropriate in the public interest or for the protection of 
investors, the Commission may, by order, direct the SRO to deny 
membership to any registered broker or dealer, and bar from becoming 
associated with a member any person, who is subject to a statutory 
disqualification. See also 15 U.S.C. 78f(c)(2) (national securities 
exchange); 15 U.S.C. 78q-1(b)(4)(A) (registered clearing agency).
    \160\ The NFA is a registered futures association under section 
17 of the CEA, 7 U.S.C. 21, and is the SRO for swap transactions. 
Section 17(h) of the CEA provides for CFTC review of certain NFA 
decisions, including the NFA's disciplinary actions and member 
responsibility actions, as do the CFTC's Part 171 Rules, 17 CFR 
171.1-171.50. In addition, the CFTC may institute review of 
disciplinary actions taken by the NFA on its own motion. See 17 
U.S.C. 21(h)(3). See also CFTC, Division of Clearing and 
Intermediary Oversight, Review of the Disciplinary Program of 
National Futures Association, July 2002, https://www.cftc.gov/sites/default/files/files/tm/tmnfarer071102.pdf.
    \161\ See 15 U.S.C. 78o-10(l)(3); Proposing Release, 80 FR at 
51698 n.98.
    \162\ See, e.g., 15 U.S.C. 78o-3 (registered securities 
associations); 15 U.S.C. 78s (registration, responsibilities, and 
oversight of SROs).
    \163\ See, e.g., 15 U.S.C. 78o-3(b)(2).
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    The Commission likewise disagrees with a commenter's view that 
``[n]one of the entities to which the proposed rule would grant the 
authority to issue a waiver has been granted that responsibility by 
statute.'' \164\ To the extent that the commenter may be concerned that 
the Commission does not have the statutory authority to rely on prior 
determinations made by those regulators, as set forth in Rule of 
Practice 194(h), Exchange Act Section 15F(b)(6) expressly provides 
broadly and without limitation that the Commission can establish 
exceptions to that statutory prohibition by ``rule, regulation, or 
order.'' \165\ Granting relief from the statutory prohibition to SBS 
Entities where the conditions set forth in Rule of Practice 194(h) are 
met, including the filing of a notice in lieu of an application, is 
within the scope of the statutory authority provided to the Commission 
under Exchange Act Section 15F(b)(6).\166\ Moreover, the regulators 
identified in paragraph (j) are currently granted the authority under 
their own statutory and regulatory frameworks to provide relief from a 
statutory disqualification.\167\ Paragraph (h) does not ``delegate [the 
Commission's] authority to interpret the Exchange Act'' \168\ because 
such regulators only interpret their own statutory and regulatory 
frameworks with respect to persons subject to a statutory 
disqualification. The Commission believes that where the conditions set 
forth in paragraph (h) are met, it would not be necessary for the 
Commission (other than in cases where the person is subject to a 
Commission bar) to re-examine by means of a full application under Rule 
of Practice 194 an event for which relief has already been granted. 
Rather, the Commission believes that the better approach is to require 
an applicant to provide a notice under Rule of Practice 194(h) in lieu 
of a full application under Rule of Practice 194, which would alert the 
Commission to issues that could lead to the institution of proceedings 
pursuant to Exchange Act Section 15F(l)(3) \169\ where doing so is 
appropriate.
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    \164\ See Cummings Letter, at 2.
    \165\ 15 U.S.C. 78o-10(b)(6).
    \166\ See 5 U.S.C. 78o-10(b)(4). See also Note 54, supra.
    \167\ See Registration Adopting Release, 80 FR at 51687-89.
    \168\ See Cummings Letter, at 2.
    \169\ 15 U.S.C. 78o-10(l)(3).
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    Another commenter objected to the proposal on the grounds that the 
Commission should itself make a determination, rather than the CFTC, an 
SRO or a registered futures association, in part, because the proposal 
would ``render[ ] the [Commission] unaccountable to Congress.'' \170\ 
The Commission also received a comment objecting to the proposal on the 
grounds that the Commission retains sole authority and responsibility 
to interpret and adjudicate the entire body of securities law in the 
public interest and any waiver decision should be reviewed by the 
Commission.\171\ In all cases where paragraph (h) applies, although the 
Commission would not receive an application under Rule of Practice 194,

[[Page 4918]]

the Commission would be able to review the facts of cases.\172\ Nor is 
it the case that paragraph (h) of Rule of Practice 194 would ``render[ 
] the [Commission] unaccountable to Congress'' \173\ or divest the 
Commission of its ``sole authority and responsibility to interpret and 
adjudicate the entire body of securities law in the public interest,'' 
\174\ because, as noted above, the Commission retains its statutory 
authority to bring an action under Exchange Act Section 15F(l)(3).
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    \170\ Public Citizen Letter, at 4-5.
    \171\ Cummings Letter, at 2-3.
    \172\ Contra Americans for Financial Reform Letter, at 2.
    \173\ Public Citizen Letter, at 5.
    \174\ Cummings Letter, at 2.
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    After careful consideration of the comments received, and for the 
reasons discussed in the proposal,\175\ the Commission is adopting 
renamed paragraph (h) to Rule of Practice 194 as proposed, with five 
technical modifications. First, because Rule of Practice 194, as 
adopted, provides an exclusion for an SBS Entity from the prohibition 
in Exchange Act Section 15F(b)(6) with respect to associated persons 
entities, references in the proposed rule text to ``is a natural 
person'' \176\ and one proposed subsection, which pertained to 
associated person entities only,\177\ are no longer needed, and are not 
being adopted. Second, certain internal cross references to other 
provisions within this subsection are being revised to reflect renamed 
Rule of Practice 194(h).\178\ Third, the phrase ``or otherwise by the 
Commission'' is being added to paragraph (h)(1)(ii) to address 
situations where the Commission has granted a natural person consent to 
associate or change the terms and conditions of association with a 
regulated entity even if that consent was not granted pursuant to Rule 
of Practice 193.\179\ Fourth, the Commission is changing the phrase a 
``person that is subject to a statutory disqualification'' (emphasis 
added) in paragraphs (h)(1) and (h)(2) to read a ``person who is 
subject to a statutory disqualification'' (emphasis added) to more 
closely track the language used in Exchange Act Section 15F(b)(6).\180\ 
Finally, a reference to the Commission's Rules of Practice 151, 152 and 
153 is being added to provide guidance on how the notice in Rule of 
Practice 194 (h)(2)(iii) should be filed with the Commission.\181\
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    \175\ See Proposing Release, 80 FR at 51698-700, 51721-22.
    \176\ See proposed Rule of Practice 194(j)(1)(ii), (j)(2)(iii).
    \177\ See id. (j)(2)(iv).
    \178\ Internal cross references to subsection (j) in the 
proposal are being updated to reflect subsection (h) in final Rule 
of Practice 194. See id. (j)(1), (j)(2)(ii).
    \179\ This modification to paragraph (h)(1)(ii) is intended to 
address a regulatory gap with respect to Commission orders granting 
natural persons consent to associate with regulated entities that 
are not currently listed in Rule of Practice 193, such as, for 
example, natural persons associated with municipal advisors. 
Although Rule of Practice 193 does not currently mention municipal 
advisors, Rule 15Bc4-1 states that the Commission may ``consent'' to 
a person being associated with a municipal advisor. As a result, 
this modification will include Commission orders granting such 
consent within the scope of Rule 194.
    \180\ See Note 82, supra (discussing the same technical change 
to Rule of Practice 194(d)).
    \181\ See Note 88, supra (discussing the Commission's Rules of 
Practice 151, 152 and 153).
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I. Note to Rule of Practice 194

    The Commission proposed adopting an accompanying Note to Rule of 
Practice 194, similar to the Preliminary Note to Rule of Practice 
193.\182\ The Commission received no comments concerning the Note to 
proposed Rule of Practice 194 and is adopting, for the reasons 
discussed in the proposal, the Note substantially as proposed.\183\
---------------------------------------------------------------------------

    \182\ See Proposing Release, 80 FR at 51700-01; proposed Rule of 
Practice 194, Appendix. See also 17 CFR 201.193, Preliminary Note.
    \183\ See Proposing Release, 80 FR at 51700-01.
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    As adopted, the Note to Rule of Practice 194 provides that:

     An application made pursuant to the rule must show that 
it would be consistent with the public interest to permit the 
associated person of the SBS Entity to effect or be involved in 
effecting security-based swaps on behalf of the SBS Entity.\184\
---------------------------------------------------------------------------

    \184\ See Section III.B, supra.
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     The nature of the supervision that an associated person 
will receive or exercise as an associated person with a registered 
entity is an important matter bearing upon the public interest.
     In meeting the burden of showing that permitting the 
associated person to effect or be involved in effecting security-
based swaps on behalf of the SBS Entity is consistent with the 
public interest, the application and supporting documentation must 
demonstrate that the terms or conditions of association, procedures, 
or proposed supervision (if the associated person is a natural 
person), are reasonably designed to ensure that the statutory 
disqualification does not negatively affect the ability of the 
associated person to effect or be involved in effecting security-
based swaps on behalf of the SBS Entity in compliance with the 
applicable statutory and regulatory framework. The Commission made 
one technical amendment in the Note to Rule of Practice 194 to 
change the term ``impact upon'' to ``affect'' in order to clarify 
any possible ambiguity without changing the scope of the provision.
     Normally, the applicant's burden of demonstrating that 
permitting the associated person to effect or be involved in 
effecting security-based swaps on behalf of the SBS Entity is 
consistent with the public interest will be difficult to meet where 
the associated person is to be supervised by, or is to supervise, 
another statutorily disqualified individual.
     The associated person may be limited to association in 
a specified capacity with a particular registered entity and may 
also be subject to specific terms and conditions.
    Notably, the Commission proposed that where the associated 
person wishes to become the sole proprietor of a registered entity 
and thus is seeking that the Commission issue an order permitting 
the associated person who is subject to a statutory disqualification 
to effect or be involved in effecting security-based swaps on behalf 
of an SBS Entity notwithstanding an absence of supervision, the 
applicant's burden will be difficult to meet.\185\ The Commission 
has modified this sentence because the Commission does not 
anticipate that a registered SBS Entity will be formed as a sole 
proprietorship in light of the de minimis exception to the 
definition of ``security-based swap dealer'' \186\ and the 
thresholds applicable to the definition of ``major security-based 
swap participant.'' \187\ As modified, paragraph (i)(5) to the Note 
to Rule of Practice 194 provides that where there is an absence of 
supervision over the associated person who is subject to a statutory 
disqualification, the applicant's burden will be difficult to meet. 
The Commission is including this statement because, as stated, the 
Commission believes that there is a greater risk of harm where the 
associated person subject to a statutory disqualification is not 
subject to adequate supervision.
---------------------------------------------------------------------------

    \185\ See, e.g., Final Rule of Practice 194(e)(3). See also 
Proposing Release, 80 FR at 51700, 51722. Accord 17 CFR 201.193, 
Preliminary Note.
    \186\ See 17 CFR 240.3a71-2.
    \187\ See, e.g., 17 CFR 240.3a67-1(a)(2), 240.3a67-3, 240.3a67-
5, 3a67-9.

    Finally, the Note discusses various procedural aspects of Rule of 
---------------------------------------------------------------------------
Practice 194, including the following:

     In addition to the information specifically required by 
the rule, applications with respect to natural persons should be 
supplemented, where appropriate, by written statements of 
individuals who are competent to attest to the associated person's 
character, employment performance, and other relevant information.
     In addition to the information required by the rule, 
the Commission staff may request additional information to assist in 
the Commission's review.
     Intentional misstatements or omissions of fact may 
constitute criminal violations of 18 U.S.C. 1001, et seq. and other 
provisions of law.
     The Commission will not consider any application that 
attempts to reargue or collaterally attack the findings that 
resulted in the statutory disqualification.

J. Confidentiality of Materials

    In the proposal, the Commission stated that orders issued in 
accordance with Rule of Practice 194 would be made publicly available, 
but applications and supporting materials would be kept confidential 
subject to

[[Page 4919]]

applicable law.\188\ The Commission received three comments stating 
that the Commission should require all applications and supporting 
materials to be made public.\189\ Specifically, one commenter stated 
that requiring all applications and supporting materials to be made 
public would: (i) Promote transparency; (ii) ensure that the public 
understands that the Commission's handling of such applications, 
thereby improving the public's confidence in the Commission's oversight 
of market participants more generally; and (iii) influence the 
application process under Rule of Practice 194 if it appears to be too 
lenient in favor of allowing disqualified persons to serve in the 
security-based swap markets.\190\ Another commenter stated that that: 
(1) Applications and any supporting materials should be made public as 
soon as they are received to ensure public transparency in the 
application and accountability; and (2) should the Commission adopt the 
temporary exclusion in paragraph (i), the notice required to be sent to 
the Commission should be made public.\191\ Another commenter noted 
that, although the Commission should make applications under Rule of 
Practice 194 public, the Commission should be able to make a good cause 
determination that such applicants remain under seal.\192\
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    \188\ See Proposing Release, 80 FR at 51694.
    \189\ Better Markets Letter, at 6; American for Financial 
Reform, at 3-4; Cummings Letter, at 3.
    \190\ Better Markets Letter, at 6.
    \191\ Americans for Financial Reform Letter, at 3-4.
    \192\ Cummings Letter, at 3.
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    The Commission has carefully considered the comments and has 
determined not to automatically make applications and supporting 
materials under Rule of Practice 194 public (e.g., on the Commission's 
website). For the reasons set forth below and consistent with the 
Commission's current practice in other contexts (e.g., applications and 
supporting materials under Rule of Practice 193), the Commission 
believes that, as proposed, it is appropriate to keep applications and 
supporting materials confidential, subject to the existing statutory 
and regulatory framework with respect to the public availability of 
such materials, including the Freedom of Information Act 
(``FOIA''),\193\ the Exchange Act,\194\ and applicable Commission 
rules.\195\
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    \193\ 5 U.S.C. 552, et seq.
    \194\ See 15 U.S.C. 78x.
    \195\ See, e.g., 17 CFR 200.80; 17 CFR 201.190; 17 CFR 240.24b-
2.
---------------------------------------------------------------------------

    First, applications and supporting materials may contain 
information that is proprietary or otherwise confidential and not 
generally subject to disclosure under applicable law.\196\ As one 
commenter acknowledged, good cause may exist not to disclose certain 
information contained in application materials.\197\ The existing 
statutory and regulatory framework sets forth a detailed process for 
the Commission to make available application materials \198\ to members 
of the public, upon request, but to keep certain information contained 
in those materials confidential, where appropriate.\199\ FOIA, for 
example, contains express categories of statutory exemptions where 
public disclosure is not required \200\--e.g., information that would 
invade an individual's personal privacy, or trade secrets or commercial 
or financial information that is confidential or privileged.\201\ In 
addition to protecting the privacy interests of applicants and their 
associated persons, there is also a public interest in preserving the 
confidentiality of such materials to promote candor in applications so 
that the Commission may assess, based on all material facts, whether 
granting an application is consistent with the public interest.
---------------------------------------------------------------------------

    \196\ See 5 U.S.C. 552; 17 CFR 200.80(b).
    \197\ See Cummings Letter, at 3.
    \198\ 15 U.S.C. 78x(a) (for purposes of 5 U.S.C. 552, ``the term 
`records' includes all applications . . . notices, and other 
documents filed with or otherwise obtained by the Commission 
pursuant to the [Exchange Act] or otherwise'').
    \199\ See, e.g., 17 CFR 200.80(a)(4), (b).
    \200\ See 5 U.S.C. 552(b). See also 17 CFR 200.80(b).
    \201\ See 5 U.S.C. 552(b)(4), (6). See also 17 CFR 200.80(b)(4), 
(b)(6).
---------------------------------------------------------------------------

    The Commission believes that this existing statutory and regulatory 
framework, which provides for the public availability of certain 
materials, appropriately takes into consideration the applicants' 
interests in confidentiality with the concerns identified by commenters 
concerning accountability, transparency, appropriateness of decision-
making, and public confidence in the Rule of Practice 194 application 
process (and the Commission's oversight of market participants more 
generally). Moreover, the Commission believes that relying on the 
existing statutory and regulatory framework with respect to application 
materials is preferable to a ``good cause'' standard of public 
disclosure, as suggested by one commenter,\202\ for the same reasons 
noted above, as well as because the current statutory and regulatory 
framework is generally well-established and is routinely administered 
by Commission staff.
---------------------------------------------------------------------------

    \202\ Cummings Letter, at 3.
---------------------------------------------------------------------------

    Second, in light of the information that the Commission intends to 
make publicly available, the Commission believes that there is minimal 
additional benefit in requiring all applications and supporting 
materials automatically to be made public--particularly given that the 
existing statutory and regulatory framework provides a process for 
members of the public to request application materials to be made 
available, consistent with the protections of the existing framework. 
Further, statutorily disqualified associated persons that are natural 
persons will not be permitted to effect or be involved in effecting 
security-based swaps on behalf of SBS Entities until an order is issued 
granting relief under Rule of Practice 194. Such orders will be made 
publicly available on the Commission's website, consistent with current 
practice,\203\ and will provide notice to the public and identify for 
the benefit of counterparties and other market participants instances 
where a statutorily disqualified associated person that is a natural 
person has been permitted to effect or be involved in effecting 
security-based swaps on behalf of an SBS Entity.
---------------------------------------------------------------------------

    \203\ See 17 CFR 200.80(a)(2)(i), (3).
---------------------------------------------------------------------------

K. Deleting Rule 15Fb6-1 and Schedule C to Forms SBSE, SBSE-A and SBSE-
BD

    Concurrent with the issuance of the Rule of Practice 194 proposal, 
the Commission adopted registration requirements for SBS Entities, 
including certain rules relating to the statutory prohibition in 
Exchange Act Section 15F(b)(6).\204\ The Registration Adopting Release 
provided, among other things, that an SBS Entity, when it files an 
application to register with the Commission, may permit an associated 
person that is not a natural person who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on the SBS Entity's behalf, provided that the statutory 
disqualification(s) occurred prior to the compliance date set forth in 
the Registration Adopting Release and that the SBS Entity identifies 
each such associated person on its registration form, namely Schedule C 
to Forms SBSE, SBSE-A and SBSE-BD.
---------------------------------------------------------------------------

    \204\ See Registration Adopting Release, 80 FR at 48964. See 
also, e.g., 17 CFR 240.15Fb6-1.
---------------------------------------------------------------------------

    Because Rule of Practice 194, as adopted, provides an exclusion for 
an SBS Entity from the prohibition in Exchange Act Section 15F(b)(6) 
with respect to associated persons entities, Rule 15Fb6-1 and its 
related Schedule C are no longer necessary. Accordingly, given the 
associated person entity exclusion that the Commission is

[[Page 4920]]

adopting in final Rule of Practice 194(c), the Commission is making 
technical amendments to: (1) Delete Exchange Act Rule 15Fb6-1; (2) 
remove Schedule C to Forms SBSE, SBSE-A and SBSE-BD; and (3) remove all 
references to Schedule C in the instructions in the above-mentioned 
forms.

L. Compliance Date

    As noted above, the effective date of Rule of Practice 194, as 
adopted, is April 22, 2019. We note, however, that the compliance date 
for the SBS Entity registration rules set forth in the Registration 
Adopting Release is the later of: Six months after the date of 
publication in the Federal Register of a final rule release adopting 
rules establishing capital, margin and segregation requirements for SBS 
Entities; the compliance date of final rules establishing recordkeeping 
and reporting requirements for SBS Entities; the compliance date of 
final rules establishing business conduct requirements under Exchange 
Act Sections 15F(h) and 15F(k); or the compliance date for final rules 
establishing a process for a registered SBS Entity to make an 
application to the Commission to allow an associated person who is 
subject to a statutory disqualification to effect or be involved in 
effecting security-based swaps on the SBS Entity's behalf.\205\
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    \205\ See Registration Adopting Release, at 1. The Commission 
recently requested comment on, among things, whether a longer 
compliance period, such as 18 months after the date of publication 
of the last of four releases noted above in the Federal Register, 
would be more appropriate. See Capital, Margin, and Segregation 
Requirements for Security-Based Swap Dealers and Major Security-
Based Swap Participants and Capital Requirements for Broker-Dealers, 
Exchange Act Release No. 34-84409 (Oct. 11, 2018), 83 FR 53007, 
53019 (Oct. 19, 2018).
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IV. Paperwork Reduction Act

    Rule of Practice 194 contains ``collection of information 
requirements'' within the meaning of the Paperwork Reduction Act of 
1995 (``PRA''). An agency may not conduct or sponsor, and a person is 
not required to respond to, a collection of information unless it 
displays a currently valid control number. The Commission has submitted 
the information to the Office of Management and Budget (``OMB'') for 
review in accordance with 44 U.S.C. 3507 and 5 CFR 1320.11. The title 
of this collection is ``Rule of Practice 194.'' The collection of 
information was assigned OMB Control No. 3235-0733. The responses to 
the collection of information are required to obtain a benefit.
    In the proposal, the Commission solicited comment on the collection 
of information requirements associated with proposed Rule of Practice 
194.\206\ In particular, pursuant to 44 U.S.C. 3505(c)(2)(B), the 
Commission asked commenters to evaluate whether the proposed collection 
is necessary for the proper performance of our functions, including 
whether the information shall have practical utility; to evaluate the 
accuracy of our estimate of the burden of the proposed collection of 
information; to determine whether there are ways to enhance the 
quality, utility, and clarity of the information to be collected; and 
to evaluate whether there are ways to minimize the burden of collection 
of information on those who are to respond, including through the use 
of automated collection techniques or other forms of information 
technology. The Commission did not receive any comments on the 
collection of information requirements.
---------------------------------------------------------------------------

    \206\ See Proposing Release, 80 FR at 51708.
---------------------------------------------------------------------------

A. Summary of Collection of Information

    Rule of Practice 194 provides a process by which an SBS Entity may 
apply to the Commission for an order permitting an associated person to 
effect or be involved in effecting security-based swaps on behalf of 
the SBS Entity notwithstanding a statutory disqualification. To make an 
application under Rule of Practice 194, the SBS Entity filing an 
application with respect to an associated person that is a natural 
person would provide to the Commission:

     Exhibits required by paragraph (d) to Rule of Practice 
194, including a copy of the order or other applicable document that 
resulted in the associated person being subject to a statutory 
disqualification; an undertaking by the applicant to notify promptly 
the Commission in writing if any information submitted in support of 
the application becomes materially false or misleading while the 
application is pending; a copy of the questionnaire or application 
for employment specified in Rule 15Fb6-2(b),\207\ with respect to 
the associated person; in cases where the associated person has been 
subject of any proceeding resulting in the imposition of 
disciplinary sanctions during the five years preceding the filing of 
the application or is the subject of a pending proceeding by the 
Commission, CFTC, any federal or state regulatory or law enforcement 
agency, registered futures association, foreign financial regulatory 
authority, registered national securities association, or any other 
SRO, or commodities exchange or any court, a copy of the related 
order, decision, or document issued by the court, agency or SRO.
---------------------------------------------------------------------------

    \207\ 17 CFR 240.15Fb6-2(b).
---------------------------------------------------------------------------

     A written statement that includes the information 
specified in paragraphs (e) and (f) to Rule of Practice 194, 
including, but not limited to: The associated person's compliance 
with any order resulting in statutory disqualification; the capacity 
or position in which the person subject to a statutory 
disqualification proposes to be associated with the SBS Entity; the 
terms and conditions of employment and supervision to be exercised 
over such associated person and, where applicable, by such 
associated person; the compliance and disciplinary history, during 
the five years preceding the filing of the application, of the SBS 
Entity; information concerning prior applications or processes.

    Under paragraph (g) to Rule of Practice 194, an applicant could 
submit a written statement in response to any adverse recommendation 
proposed by Commission staff with respect to an application under Rule 
of Practice 194.
    An SBS Entity would not be required to file an application under 
Rule of Practice 194 with respect to certain associated persons that 
are subject to a statutory disqualification, as provided for in 
paragraph (h) of proposed Rule of Practice 194. To meet those 
requirements, however, the SBS Entity would be required to file a 
notice with the Commission. For associated persons that are natural 
persons, the notice in paragraph (h)(2)(iii) would set forth: (1) The 
name of the SBS Entity; (2) the name of the associated person subject 
to a statutory disqualification; (3) the name of the associated 
person's prospective supervisor(s) at the SBS Entity; (4) the place of 
employment for the associated person subject to a statutory 
disqualification; and (5) identification of any SRO or agency that has 
indicated its agreement with the terms and conditions of the proposed 
association, registration or listing as a principal.
    The information sought in connection with Rule of Practice 194 
would assist the Commission in determining whether allowing associated 
persons to effect or be involved in effecting security-based swaps on 
behalf of a SBS Entity, notwithstanding statutory disqualification, is 
consistent with the public interest.
    The Commission has sought to minimize the burdens and costs 
associated with Rule of Practice 194. First, the Commission is not 
requiring an application under Rule of Practice 194 with respect to 
certain associated persons subject to a statutory disqualification 
previously granted relief (i.e., by the Commission, the CFTC, an SRO, 
or a registered futures association). Rather, in such instances, SBS 
Entities would only be required to provide a notice to the Commission 
under Rule of Practice 194(h)(2)(iii). Second, Rule of Practice 194 
generally requires information that is already

[[Page 4921]]

required by Rule of Practice 193 \208\ and FINRA Form MC400.\209\ 
Because the requirements in Rule of Practice 194 are generally similar 
to pre-existing requirements in Rule of Practice 193 and FINRA Form MC-
400 (and largely use the same terminology), Rule of Practice 194 should 
provide a familiar process for respondents.\210\ Third, where 
appropriate, the Commission has limited the scope of certain 
requirements, including by limiting the time period for requested 
information (for example, paragraphs (d)(4), (e)(6), and (e)(10) to 
Rule of Practice 194) or the scope of information sought (for example, 
paragraph (e)(10) and to proposed Rule of Practice 194). Finally, the 
documents that are requested to be provided with the written statement 
in paragraph (d) of Rule of Practice 194 (e.g., a copy of the order or 
other applicable document that resulted in statutory disqualification) 
should be readily available or accessible to the SBS Entity or to the 
associated person.
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    \208\ 17 CFR 201.193; see Note 8, supra.
    \209\ See FINRA Form MC-400; see Note 9, supra.
    \210\ The Commission estimates that approximately 16 registered 
SBS Entities will be broker-dealers, and thus registered with FINRA. 
See Section V.B.
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B. Proposed Use of Information

    Information collected in connection with an application under Rule 
of Practice 194 will assist the Commission in determining whether an 
associated person of an SBS Entity should be permitted to effect or be 
involved in effecting security-based swaps on behalf of the SBS Entity, 
notwithstanding that the associated person is subject to a statutory 
disqualification. Although, absent the rule, an SBS Entity could 
nonetheless submit an application for an exemptive order directly under 
Exchange Act Section 15F(b)(6),\211\ Rule of Practice 194 specifies the 
information the Commission needs to evaluate such an application, and 
under what standard the Commission will consider whether to grant such 
relief.
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    \211\ 15 U.S.C. 78o-10(b)(6).
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    Information collected in connection with the notice provided by 
Rule of Practice 194(h)(2)(iii) will assist the Commission for 
examination purposes by identifying associated persons that are subject 
to a statutory disqualification (and other basic information).

C. Respondents

    The Commission has previously stated that it believes that, based 
on data obtained from the Depository Trust & Clearing Corporation and 
conversations with market participants, approximately fifty entities 
may fit within the definition of security-based swap dealer and up to 
five entities may fit within the definition of major security-based 
swap participant--55 SBS Entities in total.\212\
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    \212\ See Business Conduct Standards for Security-Based Swap 
Dealers and Major Security-Based Swap Participants, Exchange Act 
Release No. 77617, (April 14, 2016) 81 FR 30089 (May 13, 2016) 
(``Business Conduct Adopting Release'').
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    With respect to associated persons that are natural persons, as 
discussed in Section V.B.2 below, the Commission has estimated that 
there will be 420 total associated persons that are natural persons at 
each SBS dealer and 62 total associated persons that are natural 
persons at each major participant, or 21,310 total associated persons 
that are natural persons. The Commission anticipates that, on an 
average annual basis, only a small fraction of the natural persons 
would be subject to a statutory disqualification. Between 2011 and June 
of 2018 FINRA received an average of 33 MC-400 applications with 
respect to individuals subject to a statutory disqualification seeking 
relief under the FINRA Rule 9520 Series.\213\ Given that the Commission 
estimates that there will be far fewer associated persons of SBS 
Entities that are natural persons (21,310 total associated persons that 
are natural persons) than the approximately 267,000 registered 
representatives,\214\ the Commission anticipates that SBS Entities will 
file for relief under Rule of Practice 194 with respect to 
substantially fewer associated persons that are natural persons.
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    \213\ See Section V.B, infra.
    \214\ Based on an analysis of regulatory filings, as of December 
31, 2017, there are 3,523 broker-dealers that employed full-time 
registered representatives and were doing a public business; these 
broker-dealers each employed on average 75.8 registered 
representatives, or 267,043 in total. See Section V.B, infra.
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    In addition, to estimate the number of such persons, the Commission 
staff has conferred with NFA to assess how many associated persons of 
the 102 provisionally registered Swap Entities \215\ have applied for 
relief from CEA 4s(b)(6) \216\ (the analogous provision to Exchange Act 
Section 15F(b)(6) \217\ for SBS Entities) for determination by NFA 
that, had the associated person applied for registration as an 
associated person of a Swap Entity, notwithstanding statutory 
disqualification, the application would have been granted.\218\ NFA has 
informed Commission staff that, from October 11, 2012 to June 30, 2018, 
NFA determined that in 13 out of 15 requests NFA would have granted 
registration with respect to the associated person subject to a 
statutory disqualification.\219\
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    \215\ See CFTC Provisionally Registered Swap Dealers as of 
October 11, 2018, https://www.cftc.gov/LawRegulation/DoddFrankAct/registerswapdealer.html, last accessed November 6, 2018.
    \216\ 7 U.S.C. 6s(b)(6).
    \217\ 15 U.S.C. 78o-10(b)(6); see Note 11, supra.
    \218\ See EasyFile AP Statutory Disqualification Form 
Submission, NFA, https://www.nfa.futures.org/NFA-electronic-filings/easyFile-statutory-disqualification.HTML.
    \219\ Of the 15 requests, for one, an application for 
registration was filed and subsequently withdrawn and for the other, 
the individual was no longer employed by the firm.
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    Accordingly, based on that available data, the Commission estimates 
that, on an average annual basis, SBS Entities will seek relief in 
accordance with Rule of Practice 194 for up to five natural persons 
subject to a statutory disqualification, and SBS Entities would provide 
notices pursuant to Rule of Practice 194(h)(2)(iii) for up to five 
natural persons.
    Therefore, the Commission anticipates that, on an average annual 
basis, SBS Entities would file up to five applications under Rule of 
Practice 194 with respect to associated persons that are natural 
persons and five notices for natural persons under Rule of Practice 
194(h)(2)(iii).

D. Total Burden Estimates Relating to Rule of Practice 194

    It is likely that the time necessary to complete an application 
under Rule of Practice 194 will vary depending on the number of 
exhibits required to be submitted in accordance with Rule of Practice 
194(d), and the amount of information that would need to be discussed 
in the written statement, as specified in Rule of Practice 194(e).
    Based on the Commission staff's estimates and experience,\220\ the 
Commission estimates that for associated persons that are natural 
persons it would take SBS Entities approximately 30 hours to research 
the questions, and complete and file an application under Rule of 
Practice 194. In addition, the Commission believes that the average 
time necessary for an SBS Entity to research the questions, complete 
and file a notice under Rule of

[[Page 4922]]

Practice 194(h)(2)(iii) would be less than for a full application under 
Rule of Practice 194 and the Commission estimates that it would take 
approximately 6 hours.\221\
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    \220\ For example, based on the experience relative to Form BD, 
the Commission has estimated the average time necessary for an SBS 
Entity to research the questions and complete and file a Form SBSE 
for an entity, including the accompanying schedules and disclosure 
reporting pages--which solicit information regarding statutory 
disqualification--to be approximately one work week, or 40 hours. 
However, the Commission has estimated that it would take an SBS 
Entity three-quarters of the time to make a similar application on 
behalf of a natural person, or in this case, 30 hours per natural 
person. See Proposing Release, 80 FR at 51707. Additionally, as 
noted above, Rule of Practice 194, as adopted, makes Schedule C to 
Forms SBSE, SBSE-A, and SBSE-BD unnecessary. The elimination of 
Schedule C with respect to those Forms is expected to separately 
reduce the time burden on SBS Entities unrelated to the time burdens 
otherwise associated with Rule of Practice 194.
    \221\ Although the Commission did not receive any comments on 
the time burden for completing a notice under Rule of Practice 194, 
we have decided to increase the estimate of 3 hours per notice to 6 
hours per notice to reflect that it may take an SBS Entity, 
especially one doing this for the first time, longer to research the 
questions, complete and file a notice than the proposed 3 hours per 
notice.
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    Given that the Commission estimates that, on an average annual 
basis, there will be up to five applications under Rule of Practice 194 
with respect to associated persons that are natural persons, and up to 
five notices under Rule of Practice 194(h)(2)(iii), the Commission 
estimates the total burden associated with filing such applications and 
notices on average to be 180 hours on an annual basis.\222\
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    \222\ This estimate is based on the following: [((30 hours) x 
(up to 5 SBS Entities applying with respect to associated persons 
that are natural persons)) + (6 hours) x (up to 5 SBS Entities 
filing notices under Rule of Practice 194(h)(2)(iii))] = 180 hours 
total.
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E. Confidentiality

    As stated above, under both the proposed and adopted approach, 
orders and notices under Rule of Practice 194 will be made publicly 
available on the Commission's website, whereas applications and 
supporting materials will be kept confidential, subject to the existing 
statutory and regulatory framework with respect to the public 
availability of such materials, including the FOIA,\223\ the Exchange 
Act,\224\ and applicable Commission rules.\225\
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    \223\ See 5 U.S.C. 552, et seq.
    \224\ See 15 U.S.C. 78x.
    \225\ See, e.g., 17 CFR 200.80; 17 CFR 201.190; 17 CFR 240.24b-
2.
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V. Economic Analysis

A. Broad Economic Considerations

    On August 5, 2015, the Commission adopted final rules and forms 
establishing the registration process for SBS Entities.\226\ Those 
rules reference the events in the existing definition of ``statutory 
disqualification'' in Exchange Act Section 3(a)(39)(A) through (F) 
\227\ and apply them to Exchange Act Section 15F(b)(6). This definition 
disqualifies associated persons from effecting or being involved in 
effecting security-based swaps for violations of the securities laws, 
but also for all felonies and certain misdemeanors, including felonies 
and misdemeanors not related to the securities laws and/or financial 
markets.\228\ Once compliance with the registration process is 
required, registered SBS Entities will be unable, absent Commission 
action, to utilize any associated person, including entities and 
natural persons with potentially valuable capabilities, skills or 
expertise, to effect or be involved in effecting security-based swaps 
if the person has been disqualified for any reason, including for non-
investment-related conduct that may not pose a risk to security-based 
swap market participants.\229\
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    \226\ See Registration Adopting Release.
    \227\ See 15 U.S.C. 78o-10(b)(6)(A) through (F).
    \228\ 15 U.S.C. 78c(a)(39)(A) through (F).
    \229\ The final SBS Entity registration rules also require the 
Chief Compliance Officer of an SBS Entity, or his or her designee, 
to certify on its registration form that none of its associated 
persons that effect or are involved in effecting security-based 
swaps on its behalf are subject to a statutory disqualification. See 
Registration Adopting Release, at Section II.B.3.
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    Exchange Act Section 15F(b)(6) gives the Commission flexibility to 
address situations involving statutorily disqualified associated 
persons. Specifically, under this section, the prohibition with respect 
to statutorily disqualified persons applies ``[e]xcept to the extent 
otherwise specifically provided by rule, regulation, or order of the 
Commission.'' \230\ This statutory provision gives the Commission 
discretion to determine that a statutorily disqualified person may 
effect or be involved in effecting security-based swaps on behalf of an 
SBS Entity. Exchange Act Section 15F(b)(6), however, does not specify 
what information must be provided to the Commission when an SBS Entity 
seeks relief, nor does it set forth the standard under which the 
Commission would evaluate requests for relief. Rule of Practice 194 is 
intended to establish a framework for SBS Entities seeking such relief 
from the statutory prohibition in Exchange Act Section 15F(b)(6).
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    \230\ See 15 U.S.C. 78o-10(b)(6).
---------------------------------------------------------------------------

    We are mindful of the economic effects, including the costs and 
benefits, of our rule. Section 3(f) of the Exchange Act provides that 
whenever the Commission is engaged in rulemaking pursuant to the 
Exchange Act and is required to consider or determine whether an action 
is necessary or appropriate in the public interest, the Commission 
shall also consider, in addition to the protection of investors, 
whether the action will promote efficiency, competition, and capital 
formation.\231\ In addition, Section 23(a)(2) of the Exchange Act 
requires the Commission, when making rules under the Exchange Act, to 
consider the impact such rules would have on competition.\232\ Exchange 
Act Section 23(a)(2) also provides that the Commission shall not adopt 
any rule which would impose a burden on competition that is not 
necessary or appropriate in furtherance of the purposes of the Exchange 
Act.
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    \231\ See 15 U.S.C. 78c(f).
    \232\ See 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------

    In the Proposing Release, the Commission solicited comment on all 
aspects of the costs and benefits associated with the rule, including 
any effect the rule may have on efficiency, competition, and capital 
formation. The Commission has considered these comments, as discussed 
in greater detail in the sections that follow. The analysis below 
addresses the likely economic effects of the final Rule of Practice 
194, including the benefits and costs of the final rule, and their 
potential impact on efficiency, competition, and capital formation.
    In the Proposing Release, the Commission noted that the inability 
of a statutorily disqualified associated person to effect or be 
involved in effecting security-based swaps on behalf of an SBS Entity 
creates a disincentive against underlying misconduct by an associated 
person.\233\ We continue to believe that limiting the involvement of 
statutorily disqualified associated persons in security-based swap 
markets on behalf of SBS Entities may lower compliance and counterparty 
risks arising from disqualification, facilitate competition among 
higher quality SBS Entities, and enhance counterparty protections, 
supervision and integrity of security-based swap markets.\234\ However, 
we continue to recognize that limits on statutorily disqualified 
associated persons may require SBS Entities to undergo business 
restructuring in the event of disqualification or to apply with the 
Commission for relief, resulting in costs for SBS Entities, such as 
costs of searching for and initiating relationships with new associated 
persons or legal reorganization.
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    \233\ See Proposing Release, 80 FR at 51716.
    \234\ See, e.g., Public Citizen Letter; Better Markets Letter.
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    We also recognize that the above costs of SBS Entities may be 
passed on to counterparties in the form of higher transaction costs or 
reduced liquidity. Market participants may value bilateral 
relationships with SBS Entities and searching for and initiating 
bilateral relationships with new SBS Entities may involve additional 
direct costs for counterparties. For example, security-based swaps are 
long-term contracts that are often renegotiated and, in the absence of 
Rule of Practice 194, counterparties could price the potential future 
inability to modify a contract, widening spreads. The Commission

[[Page 4923]]

continues to recognize that where SBS Entities must cease dealing 
activity with counterparties as a result of disqualification (pending 
reorganization or resolution of application under Rule of Practice 
194), other SBS Entities may step in to intermediate transaction 
activity in security-based swap markets. The resulting effects on 
competition will depend on whether SBS Entities that capture the newly 
available market share are smaller participants, which could increase 
competition, or those that already enjoy a degree of market power and 
are able to consolidate their position while the disqualified SBS 
Entity is undergoing restructuring or awaiting a relief determination, 
which may decrease competition, at least temporarily.
    Moreover, our economic analysis recognizes that information about 
the conduct that gave rise to statutory disqualification in the United 
States (e.g., by SEC orders, FINRA actions etc.) is generally public. 
In addition, under the final SBS Entity registration rules, SBS 
Entities are required to provide disciplinary history (criminal, 
regulatory action, civil judicial and financial disclosures) 
information for SBS Entity control affiliates.\235\
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    \235\ In conjunction with adopting Rule of Practice 194(c), the 
Commission is also removing Schedule C from Forms SBSE, SBSE-A and 
SBSE-BD. Importantly, this change does not eliminate questions 14A 
and 14B and corresponding disclosure reporting pages and related 
obligations, and such information will continue to be available to 
market participants. Under the final SBS Entity registration rules, 
SBS Entity applications on Forms SBSE, SBSE-A, and SBSE-BD 
(including the Schedules and disclosure reporting pages) filed with 
the Commission as required by Rule 15Fb2-1, will be made public. All 
amendments to SBS Entity applications, required by Rule 15Fb2-3, 
will be made public. SBS Entities' Form SBSE-C certifications, 
required by Rules 15Fb2-1 and 15Fb6-2 and filed as part of their 
applications, will be made public. See 80 FR at 48995.
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    While there is a dearth of evidence on misconduct in swap and 
security-based swap markets, our economic analysis recognizes research 
that shows, in some settings: \236\ (i) Past misconduct may predict 
future misconduct risk, and some public disclosures may be informative 
of future misconduct risk; (ii) capital markets may penalize some 
disclosed misconduct, and market participants engaging in misconduct 
generally suffer reputational costs; (iii) entities may disassociate 
from employees engaging in misconduct, but there may be a significant 
amount of heterogeneity in the incidence of misconduct by natural 
persons across employer firms, and the match between natural associated 
person and SBS Entities tends to be endogenous; and (iv) the reduction 
in misconduct in a particular market can reduce the number of service 
providers, but high prevalence of misconduct can reduce capital market 
participation.\237\
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    \236\ See Sections V.B and V.C.2, infra.
    \237\ We also recognize that there is a body of behavioral 
finance research, commonly focused on retail investor behavior, and 
a law and economics literature on compensatory and punitive damages, 
deterrence, moral heuristics, and related issues. For example, we 
have received comment citing Schkade et al. (1999), which presented 
evidence from two experiments designed to test whether individuals 
believe in optimal deterrence. They concluded that individuals may 
not spontaneously think in terms of optimal deterrence and their 
proposed punishments do not differ depending on the probability of 
deterrence. See Better Markets Letter at 2. See also David Schkade, 
Cass R. Sunstein, & Daniel Kahneman, Do People Want Optimal 
Deterrence? (John M. Olin Program in Law and Economics, Working 
Paper No. 77, 1999), available at http://chicagounbound.uchicago.edu/cgi/viewcontent.cgi?article=1173&context=law_and _economics, last 
accessed Sept. 28, 2018. We believe the applicability of this body 
of literature to statutory disqualification in security-based swap 
markets is likely limited due to the unique features of these 
markets (such as dealer concentration increasing the role of dealer 
reputation, public nature of most misconduct, and institutional 
nature of the investor clientele).
---------------------------------------------------------------------------

    While we seek to identify the closest parallel regulatory and 
market settings, we are cautious in interpreting these results. We 
recognize that the unique characteristics of security- based swap 
markets may reduce or strengthen these effects. For example, as shown 
in the economic baseline, security-based swap markets are dealer 
markets, with the overwhelming bulk of activity taking place among 
dealers and between dealers and non-dealer financial entities. The 
Commission estimates that dealing activity in security-based swap 
markets is highly concentrated among a small number of dealers, with 
the top five dealer accounts intermediating approximately 55 percent of 
all SBS Entity transactions,\238\ and reaching hundreds and even 
thousands of counterparties. At the same time, a median non-dealer 
counterparty transacts in security-based swaps with two security-based 
swap dealers (``SBS Dealers'') in over-the-counter security-based swaps 
(and an average with three SBS Dealers), outside of registered 
exchanges or swap execution facilities. If several SBS Dealers with a 
large market share facing thousands of counterparties are disqualified 
at the same time and must immediately cease dealing activity, a risk of 
market-wide disruption may exist. However, the concentrated nature of 
security-based swap dealing activity limits the ability of customers to 
choose SBS Entity counterparties that do not rely on disqualified 
persons and corresponding reputational incentives. Moreover, security- 
based swaps may also be more complex and opaque than equity or bonds, 
increasing information asymmetries between SBS Entities and their 
clients. Nevertheless, institutional clients may be more informed and 
may process disclosures more efficiently than retail investors in 
parallel settings, reducing the impact of these asymmetries.
---------------------------------------------------------------------------

    \238\ The Commission staff analysis of DTCC Derivatives 
Repository Limited Trade Information Warehouse transaction records 
indicates that approximately 99 percent of single-name CDS price-
forming transactions in 2017 involved an ISDA-recognized dealer.
---------------------------------------------------------------------------

    The Commission recognizes that the final rules may directly and 
indirectly impact SBS Entities, as well as counterparties of SBS 
Entities and other market participants. We have considered these 
economic effects as they pertain to individual provisions and rule 
alternatives. As we have noted above, Exchange Act Section 15F(b)(6) 
gives the Commission authority to provide relief from the statutory 
prohibition against associating with disqualified persons by rule, 
regulation, or order, and the Commission is not bound by any particular 
approach in exercising its discretion to provide relief. In particular, 
in the absence of a disqualification review process, SBS Entities would 
still be able to apply for relief from Exchange Act Section 15F(b)(6), 
and the Commission would be able to issue an order either granting or 
denying relief.
    The Commission continues to believe that when determining whether 
to make an application for relief, SBS Entities will weigh the scarcity 
and value of the particular skills of an associated person against any 
application and reputational costs from associating with disqualified 
persons and their beliefs as to the likelihood of an approval or denial 
decision by the Commission. To the extent that the final Rule of 
Practice 194 (compared with the availability of and process for 
obtaining relief without the Rule) alters an SBS Entity's assessment of 
either application and reputational costs, its beliefs about likely 
outcomes, or its decision to apply with the Commission, economic costs 
and benefits may accrue to SBS Entities, their associated persons, and 
counterparties to SBS Entities.
    The Commission believes that the primary benefits of the final 
approach include: (i) Providing SBS Entities clarity regarding the 
items to be addressed, the information and supporting documentation to 
be submitted, and the standard of review (affecting application costs 
and beliefs about likely outcomes); (ii) ensuring that the Commission 
has sufficient information to make a meaningful

[[Page 4924]]

determination that allowing an SBS Entity to permit statutorily 
disqualified associated persons to effect or be involved in effecting 
security-based swaps is consistent with the public interest; (iii) 
streamlining the treatment of statutorily disqualified associated 
person entities across integrated swap and security-based swap markets; 
and (iv) mitigating the risk of business disruptions to SBS Entities 
and their counterparties from disqualification of associated person 
entities. We note that, regardless of the regulatory approach chosen, 
SBS Entities may find it less costly to disassociate with, or reassign, 
disqualified persons than to apply for relief, as discussed in greater 
detail in the Economic Baseline.

B. Economic Baseline

    To assess the economic impact of Rule of Practice 194, the 
Commission is using as a baseline the regulation of SBS Entities as it 
exists at the time of this release, including applicable rules we have 
adopted, but excluding rules we have proposed but not yet finalized. 
The analysis includes the statutory and regulatory provisions that 
currently govern the security-based swap market pursuant to the Dodd-
Frank Act, rules adopted in the Intermediary Definitions Adopting 
Release, the Cross-Border Adopting Release, and the SDR Rules and Core 
Principles Adopting Release. Additionally, our baseline includes rules 
that have been adopted but for which compliance is not yet required, 
including the Registration Adopting Release,\239\ and the Business 
Conduct Adopting Release,\240\ as these final rules--even if compliance 
is not yet required--are part of the existing regulatory landscape that 
market participants expect to govern their security-based swap 
activity.
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    \239\ See Registration Adopting Release, 80 FR at 48997-9003.
    \240\ See Business Conduct Adopting Release, 81 FR at 29960.
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    There are currently no registered entities that are required to 
comply with either the statutory disqualification certifications in the 
final SBS Entity registration rules or the statutory prohibition in 
Exchange Act Section 15F(b)(6). However, to perform a meaningful 
assessment of the final Rule of Practice 194, our economic baseline 
presumes that compliance with the final SBS Entity registration rules 
is required as set forth in Exchange Act Rules 15Fb1-1 through 15Fb6-
2,\241\ the general prohibition in Exchange Act Section 15F(b)(6) \242\ 
is in effect, and the Commission may use its authority under Exchange 
Act Section 15F(b)(6) to issue an order providing relief.
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    \241\ Notably, the final SBS Entity registration rules included 
Exchange Act Rule 15Fb6-1, 17 CFR 240.15Fb6-1. See Note 5, supra, 
for background on Exchange Act Rule 15Fb6-1.
    \242\ See 15 U.S.C. 78o-10(b)(6).
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1. Security-Based Swap Market Activity and Participants
a. Available Data From the Security-Based Swap Market
    The Commission's understanding of the market is informed, in part, 
by available data on security-based swap transactions, though the 
Commission acknowledges that limitations in the data limit the extent 
to which it is possible to quantitatively characterize the market.\243\ 
Since these data do not cover the entire market, the Commission has 
analyzed market activity using a sample of transactions that includes 
only certain segments of the market. The Commission believes, however, 
that the data underlying this analysis provides reasonably 
comprehensive information regarding single-name credit default swap 
(``CDS'') transactions and the composition of the participants in the 
single-name CDS market.
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    \243\ The Commission also relies on qualitative information 
regarding market structure and evolving market practices provided by 
commenters and knowledge and expertise of Commission staff.
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    Specifically, the analysis of the current state of the security-
based swap market is based on data obtained from the DTCC Derivatives 
Repository Limited Trade Information Warehouse (``TIW''), especially 
data regarding the activity of market participants in the single-name 
CDS market during the period from 2006 to 2017.\244\ Although the 
definition of security-based swaps is not limited to single-name 
CDS,\245\ single-name CDS contracts make up a majority of security-
based swaps, and we believe that the single-name CDS data are 
sufficiently representative of the market to inform our analysis of the 
current security-based swap market. According to data published by the 
Bank for International Settlements (``BIS''), the global notional 
amount outstanding in single-name CDS was approximately $4.6 
trillion,\246\ in multi-name index CDS was approximately $4.4 trillion, 
and in multi-name, non-index CDS was approximately $343 billion.\247\ 
The total gross market value outstanding in single-name CDS was 
approximately $130 billion, and in multi-name CDS instruments was 
approximately $174 billion.\248\ The global notional amount outstanding 
in equity forwards and swaps as of December 2017 was $3.21 trillion, 
with total gross market value of $197 billion.\249\
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    \244\ In prior releases, the Commission has examined data for 
other time periods. For example, in the Business Conduct Standards 
Adopting Release, the Commission presented an analysis of TIW data 
for November 2006 through December 2014. While the exact numbers of 
various groups of transacting agents and account holders in that 
analysis differ from the figures reported in this section (for a 
longer time period), we do not observe significant structural 
differences in market participation. Compare 81 FR at 30102 (Tables 
1 and 2) with Tables 1 and 2 below.
    \245\ While other repositories may collect data on transactions 
in total return swaps on equity and debt, we do not currently have 
access to such data for these products (or other products that are 
security-based swaps). Additionally, the Commission explains below 
that data related to single-name CDS provides reasonably 
comprehensive information for the purpose of this analysis.
    \246\ The global notional amount outstanding represents the 
total face amount used to calculate payments under outstanding 
contracts. The gross market value is the cost of replacing all open 
contracts at current market prices.
    \247\ See BIS, Semi-annual OTC derivatives statistics at 
December 2017, Table 10.1, https://www.bis.org/statistics/d10_1.pdf, 
last accessed May 18, 2018.
    \248\ See id.
    \249\ These totals include swaps and security-based swaps, as 
well as products that are excluded from the definition of ``swap,'' 
such as certain equity forwards. See OTC, Equity-Linked Derivatives 
Statistics, Table D8, https://www.bis.org/statistics/d8.pdf, last 
accessed May 18, 2018. For the purposes of this analysis, the 
Commission assumes that multi-name index CDS are not narrow-based 
index CDS and therefore, do not fall within the security-based swap 
definition. See 15 U.S.C. 78c(a)(68)(A). See also Further Definition 
of ``Swap,'' ``Security-Based Swap,'' and ``Security-Based Swap 
Agreement''; Mixed Swaps; Security-Based Swap Agreement 
Recordkeeping, 77 FR 48208. The Commission also assumes that all 
instruments reported as equity forwards and swaps are security-based 
swaps, potentially resulting in underestimation of the proportion of 
the security-based swap market represented by single-name CDS. 
Therefore, when measured on the basis of gross notional outstanding 
single-name CDS contracts appear to constitute roughly 59% of the 
security-based swap market. Although the BIS data reflects the 
global OTC derivatives market, and not just the U.S. market, the 
Commission has no reason to believe that these ratios differ 
significantly in the U.S. market.
---------------------------------------------------------------------------

    The Commission further notes that the data available from TIW does 
not encompass those CDS transactions that both: (i) Do not involve U.S. 
counterparties; \250\ and (ii) are based on

[[Page 4925]]

non-U.S. reference entities. Notwithstanding this limitation, the TIW 
single-name CDS data should provide sufficient information to permit 
the Commission to identify the types of market participants active in 
the security-based swap market and the general pattern of dealing 
within that market.\251\
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    \250\ Following publication of the Warehouse Trust Guidance on 
CDS data access, TIW surveyed market participants, asking for the 
physical address associated with each of their accounts (i.e., where 
the account is organized as a legal entity). This physical address 
is designated the registered office location by TIW. When an account 
reports a registered office location, we have assumed that the 
registered office location reflects the place of domicile for the 
fund or account. When an account does not report a registered office 
location, we have assumed that the settlement country reported by 
the investment adviser or parent entity to the fund or account is 
the place of domicile. Thus, for purposes of this analysis, the 
Commission has classified accounts as ``U.S. counterparties'' when 
they have reported a registered office location in the United 
States. The Commission notes, however, that this classification is 
not necessarily identical in all cases to the definition of U.S. 
person under Rule 3a71-3(a)(4).
    \251\ The challenges the Commission faces in estimating measures 
of current market activity stem, in part, from the absence of 
comprehensive reporting requirements for security-based swap market 
participants. The Commission has adopted rules regarding trade 
reporting, data elements, and public reporting for security-based 
swaps that are designed to, when fully implemented, provide the 
Commission with additional measures of market activity that will 
allow us to better understand and monitor activity in the security-
based swap market. See Regulation SBSR--Reporting and Dissemination 
of Security-Based Swap Information; Final Rule Amendments, Exchange 
Act Release No. 78321 (July 14, 2016), 81 FR 53545 (Aug. 12, 2016).
---------------------------------------------------------------------------

b. Affected SBS Entities
    Final SBS Entity registration rules have been adopted, but 
compliance is not yet required. Therefore, we do not have data on the 
actual number of SBS Entities that will register with the Commission, 
or the number of persons associated with registered SBS Entities. The 
Commission has elsewhere estimated that up to 50 entities may register 
with the Commission as security-based swap dealers, and up to five 
additional entities may register as major security-based swap 
participants,\252\ and these estimates remain unchanged.
---------------------------------------------------------------------------

    \252\ See, e.g., Registration Adopting Release, 80 FR at 49000.
---------------------------------------------------------------------------

    Firms that act as dealers play a central role in the security-based 
swap market. Based on an analysis of 2017 single-name CDS data in TIW, 
accounts of those firms that are likely to exceed the security-based 
swap dealer de minimis thresholds and trigger registration requirements 
intermediated transactions with a gross notional amount of 
approximately $2.9 trillion, with approximately 55 percent of the gross 
notional intermediated by the top five dealer accounts.\253\
---------------------------------------------------------------------------

    \253\ The Commission staff analysis of TIW transaction records 
indicates that approximately 99% of single-name CDS price-forming 
transactions in 2017 involved an ISDA-recognized dealer.
---------------------------------------------------------------------------

    These dealers transact with hundreds or thousands of 
counterparties. Approximately 21 percent of accounts of firms expected 
to register as security-based dealers and observable in TIW have 
entered into security-based swaps with over 1,000 unique counterparty 
accounts as of year-end 2017.\254\ Another 25 percent of these accounts 
transacted with 500 to 1,000 unique counterparty accounts; 29 percent 
transacted with 100 to 500 unique accounts; and 25 percent of these 
accounts intermediated security-based swaps with fewer than 100 unique 
counterparties in 2017. The median dealer account transacted with 495 
unique accounts (with an average of approximately 570 unique accounts). 
Non-dealer counterparties transacted almost exclusively with these 
dealers. The median non-dealer counterparty transacted with two dealer 
accounts (with an average of approximately three dealer accounts) in 
2017.
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    \254\ Many dealer entities and financial groups transact through 
numerous accounts. Given that individual accounts may transact with 
hundreds of counterparties, the Commission may infer that entities 
and financial groups may transact with at least as many 
counterparties as the largest of their accounts.
---------------------------------------------------------------------------

c. Other Market Participants
    In addition to dealers, thousands of other participants appear as 
counterparties to security-based swap contracts in our sample, and 
include, but are not limited to, investment companies, pension funds, 
private funds, sovereign entities, and industrial companies. We observe 
that most non-dealer users of security-based swaps do not engage 
directly in the trading of swaps, but trade through banks, investment 
advisers, or other types of firms acting as dealers or agents. Based on 
an analysis of the counterparties to trades reported to the TIW, there 
are 2,110 entities that engaged directly in trading between November 
2006 and December 2017.\255\
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    \255\ These 2,110 entities, which are presented in more detail 
in Table 1, below, include all DTCC-defined ``firms'' shown in TIW 
as transaction counterparties that report at least one transaction 
to TIW as of December 2017. The staff in the Division of Economic 
and Risk Analysis classified these firms, which are shown as 
transaction counterparties, by machine matching names to known 
third-party databases and by manual classification. See, e.g., 
Dealing Activity Adopting Release, 81 FR 8602, fn.43. Manual 
classification was based in part on searches of the EDGAR and 
Bloomberg databases, the SEC's Investment Adviser Public Disclosure 
database, and a firm's public website or the public website of the 
account represented by a firm. The staff also referred to ISDA 
protocol adherence letters available on the ISDA website.
---------------------------------------------------------------------------

    As shown in Table 1, below, close to three-quarters of these 
entities (DTCC-defined ``firms'' shown in TIW, which we refer to here 
as ``transacting agents'') were identified as investment advisers, of 
which approximately 40 percent (about 30 percent of all transacting 
agents) were registered as investment advisers under the Advisers 
Act.\256\ Although investment advisers are the vast majority of 
transacting agents, the transactions they executed account for only 
12.8 percent of all single-name CDS trading activity reported to the 
TIW, measured by number of transaction-sides (each transaction has two 
transaction sides, i.e., two transaction counterparties). The vast 
majority of transactions (83.3 percent) measured by number of 
transaction-sides were executed by ISDA-recognized dealers.
---------------------------------------------------------------------------

    \256\ See 15 U.S.C. 80b1-80b21. Transacting agents participate 
directly in the security-based swap market, without relying on an 
intermediary, on behalf of principals. For example, a university 
endowment may hold a position in a security-based swap that is 
established by an investment adviser that transacts on the 
endowment's behalf. In this case, the university endowment is a 
principal that uses the investment adviser as its transacting agent.

 Table 1--The Number of Transacting Agents by Counterparty Type and the Fraction of Total Trading Activity, From
                   November 2006 Through December 2017, Represented by Each Counterparty Type
----------------------------------------------------------------------------------------------------------------
                                                                                                    Transaction
                       Transacting agents                             Number          Percent          share
                                                                                                     (percent)
----------------------------------------------------------------------------------------------------------------
Investment Advisers.............................................           1,635            77.5            12.8
--SEC registered................................................             658            31.2             8.6
Banks...........................................................             262            12.4             3.4
Pension Funds...................................................              29             1.4             0.1
Insurance Companies.............................................              42             2.0             0.2
ISDA-Recognized Dealers \1\.....................................              17             0.8            83.3
Other...........................................................             125             5.9             0.2
                                                                 -----------------------------------------------

[[Page 4926]]

 
    Total.......................................................           2,110           100.0             100
----------------------------------------------------------------------------------------------------------------
\1\ For the purpose of this analysis, the ISDA-recognized dealers are those identified by ISDA as belonging to
  the G14 or G16 dealer group during the period: JP Morgan Chase NA (and Bear Stearns), Morgan Stanley, Bank of
  America NA (and Merrill Lynch), Goldman Sachs, Deutsche Bank AG, Barclays Capital, Citigroup, UBS, Credit
  Suisse AG, RBS Group, BNP Paribas, HSBC Bank, Lehman Brothers, Soci[eacute]t[eacute] G[eacute]n[eacute]rale,
  Credit Agricole, Wells Fargo and Nomura. See, e.g., https://www.isda.org/a/5eiDE/isda-operations-survey-2010.pdf.

    Principal holders of CDS risk exposure are represented by 
``accounts'' in the TIW.\257\ The staff's analysis of these accounts in 
TIW shows that the 2,110 transacting agents classified in Table 1 
represent 13,137 principal risk holders. Table 2, below, classifies 
these principal risk holders by their counterparty type and whether 
they are represented by a registered or unregistered investment 
adviser.\258\ For instance, banks in Table 1 allocated transactions 
across 349 accounts, of which 20 were represented by investment 
advisers. In the remaining instances, banks traded for their own 
accounts. Meanwhile, ISDA-recognized dealers in Table 1 allocated 
transactions across 91 accounts. Private funds are the largest type of 
account holders that we were able to classify, and although not 
verified through a recognized database, most of the funds we were not 
able to classify appear to be private funds.\259\
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    \257\ ``Accounts'' as defined in the TIW context are not 
equivalent to ``accounts'' in the definition of ``U.S. person'' 
provided by Exchange Act rule 3a71-3(a)(4)(i)(C). They also do not 
necessarily represent separate legal persons. One entity or legal 
person may have multiple accounts. For example, a bank may have one 
DTCC account for its U.S. headquarters and one DTCC account for one 
of its foreign branches.
    \258\ Unregistered investment advisers include all investment 
advisers not registered under the Investment Advisers Act and may 
include investment advisers registered with a state or a foreign 
authority, as well as investment advisers that are exempt reporting 
advisers under section 203(l) or 203(m) of the Investment Advisers 
Act.
    \259\ For the purposes of this discussion, ``private fund'' 
encompasses various unregistered pooled investment vehicles, 
including hedge funds, private equity funds, and venture capital 
funds. There remain over 5,800 DTCC accounts unclassified by type. 
Although unclassified, each account was manually reviewed to verify 
that it was not likely to be a special entity within the meaning of 
the Dodd-Frank Act and instead was likely to be an entity such as a 
corporation, an insurance company, or a bank.

    Table 2--The Number and Percentage of Account Holders--by Type--Who Participate in the Security-Based Swap Market Through a Registered Investment
                Adviser, an Unregistered Investment Adviser, or Directly as a Transacting Agent, From November 2006 Through December 2017
--------------------------------------------------------------------------------------------------------------------------------------------------------
 
--------------------------------------------------------------------------------------------------------------------------------------------------------
Account holders by type                                          Number       Represented by a
                                                                           registered investment
                                                                                  adviser
                                                                Represented by an
                                                             unregistered investment
                                                                     adviser
                                                                  Participant is
                                                              transacting agent \2\
--------------------------------------------------------------------------------------------------------------------------------------------------------
Private Funds.............................................        3,857        1,973           51%        1,859           48%           25            1%
DFA Special Entities......................................        1,319        1,262           96%           37            3%           20            2%
Registered Investment Companies...........................        1,159        1,082           93%           73            6%            4            0%
Banks (non-ISDA-recognized dealers).......................          349           20            6%            8            2%          321           92%
Insurance Companies.......................................          301          196           65%           34           11%           71           24%
ISDA-Recognized Dealers...................................           91            0            0%            0            0%           91          100%
Foreign Sovereigns........................................           83           63           76%            3            4%           17           20%
Non-Financial Corporations................................           75           52           69%            4            5%           19           25%
Finance Companies.........................................           20           11           55%            0            0%            9           45%
Other/Unclassified........................................        5,883        3,745           64%        1,887           32%          251            4%
                                                           ---------------------------------------------------------------------------------------------
All.......................................................       13,137        8,404           64%        3,905           30%          828            6%
--------------------------------------------------------------------------------------------------------------------------------------------------------
\2\ This column reflects the number of participants who are also trading for their own accounts.

2. Natural Persons and Entity Persons Associated With SBS Entities

    We now estimate the number of natural persons associated with 
entities likely to register with the SEC as SBS Entities. Based on an 
analysis of broker-dealer FOCUS reports, as of December 31, 2017, there 
were 3,523 broker-dealers that employed full-time registered 
representatives and were doing a public business; these broker-dealers 
each employed on average 75.8 registered representatives, or 
approximately 267,043 in total. However, based on our review of the 
entities we believe may register as SBS Dealers and their activities, 
the Commission believes the subset of clearing broker-dealers provides 
a better estimate given their size, complexity of operations, and role 
in clearing and trade execution. As of December 31, 2017, there were 
438 clearing broker-dealers which had, on average, each employed 420 
persons who were registered representatives; we use this average as the 
basis for our estimate of 21,000 natural persons associated with 
dealers (420 * 50 = 21,000). Note, however, that SBS Entities will be 
limited to sales of security-based swaps, whereas broker-dealers are 
generally engaged in the sale of a broader range of financial 
instruments, as well as other business lines such as prime brokerage 
services. Thus, it is possible that fewer people would be needed to 
facilitate this business.
    Since registration requirements for major security-based swap 
participants are triggered by position thresholds, as opposed to 
activity thresholds for dealer registration, we anticipate that 
entities seeking to register with the Commission as major security-
based swap participants may more closely resemble hedge funds and 
investment advisers.

[[Page 4927]]

Accordingly, to estimate the number of natural persons associated with 
major security-based swap participants, we use Form ADV filings by 
registered investment advisers. Based on this analysis, as of June 30, 
2018 there were 13,010 registered investment advisers; these investment 
advisers had an average of 62 employees each. We use this average as 
the basis for our estimate of 310 natural persons associated with major 
security-based swap participants (62 * 5 = 310).
    The estimated 21,000 natural persons associating with security-
based swap dealers and estimated 310 natural persons associating with 
major security-based swap participants together provide our estimate of 
21,310 natural persons associating with entities that are likely to 
register with the Commission as SBS Entities.
    We now turn to the estimate of the number of entities associated 
with SBS Entities. Based on an analysis of historical Form BD filings, 
broker-dealers with control affiliates had an average of 8 control 
affiliates that started to associate between 2000 and 2017, and have 
not ended the association by December 31, 2017. Similar to the approach 
in the Proposing Release, it may be appropriate to scale the figure by 
a factor of two to account for complexity in business structures and 
for the fact that security-based swap dealers are likely to resemble 
some of the larger broker dealers, which results in an estimate of up 
to 800 (8*50*2 = 800) entities associated with security-based swap 
dealers. We continue to recognize that some SBS Entities, especially 
those SBS Entities not cross-registered as broker-dealers, may be 
engaged in sales of a more limited range of financial instruments than 
broker-dealers.
    Using information on entity control persons in Schedules A, B and D 
in historical Form ADV filings for investment advisers as of June 30, 
2018, investment advisers with control persons had an average of 
approximately 38.4 control persons listed as firms or organizations 
that started to associate between 2000 and June 2018 and have not ended 
the association by June 2018. We continue to believe that it may be 
appropriate to scale the figure by a factor of two to account for 
complexity in business structures and for the fact that major swap 
participants are likely to be similar to some of the larger investment 
advisers, which results in an estimate of up to approximately 384 
(38.4*5*2 = 384) entities associated with major security-based swap 
participants.
    The estimated 800 entity persons associating with security-based 
swap dealers and estimated 384 entity persons associating with major 
security-based swap participants together provide our estimate of 1,184 
entity persons associating with SBS entities that will register.
    Overall, we estimate that as many as 420 natural persons may 
associate with each dealer and as many as 62 natural persons may 
associate with each major participant, amounting to as many as 21,310 
associated natural persons in total. In addition, we estimate that 
1,184 entity persons may be associating with all SBS Entities.
    We note that SBS Entities currently intermediating security-based 
swaps are frequently part of complex organizational structures, which 
may include thousands of natural persons and hundreds of entities. 
Further, we believe that SBS Entities may adjust their organizational 
structures and activities in response to the associated person and 
other requirements of the final SBS Entity registration rules and the 
pending substantive Title VII rules. We anticipate that there may be a 
high degree of heterogeneity in business structures and organizational 
complexity among SBS Entities. Ultimately, the Commission lacks data on 
SBS Entity associations with disqualified persons effecting or involved 
in effecting security-based swaps on their behalf, and commenters have 
not provided information or data that would allow such quantification. 
It is, therefore, difficult to estimate with a high degree of certainty 
the number of associated persons currently intermediating security-
based swaps on behalf of SBS Entities that may be affected by the final 
rules.
3. Other Markets and Existing Regulatory Frameworks
    The numerous financial markets are integrated, often attracting the 
same market participants that trade across corporate bond, swap, and 
security-based swap markets, among others.\260\ For example, persons 
who will register as SBS Dealers and major security-based swap 
participants are likely also to be engaged in swap activity. In part, 
this overlap reflects the relationship between single-name CDS 
contracts, which are security-based swaps, and index CDS contracts, 
which may be swaps or security-based swaps. A single-name CDS contract 
covers default events for a single reference entity or reference 
security. Index CDS contracts and related products make payouts that 
are contingent on the default of index components and allow 
participants in these instruments to gain exposure to the credit risk 
of the basket of reference entities that comprise the index, which is a 
function of the credit risk of the index components. A default event 
for a reference entity that is an index component will result in 
payoffs on both single-name CDS written on the reference entity and 
index CDS written on indices that contain the reference entity. Because 
of this relationship between the payoffs of single-name CDS and index 
CDS products, prices of these products depend upon one another,\261\ 
creating hedging opportunities across these markets.
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    \260\ See Proposing Release, 80 FR at 51711.
    \261\ ``Correlation'' typically refers to linear relationships 
between variables; ``dependence'' captures a broader set of 
relationships that may be more appropriate for certain swaps and 
security-based swaps. See, e.g., George Casella & Roger L. Berger, 
Statistical Inference 171 (2nd ed. 2002).
---------------------------------------------------------------------------

    These hedging opportunities mean that participants that are active 
in one market are likely to be active in the other. Commission staff 
analysis of approximately 4,358 TIW accounts that participated in the 
market for single-name CDS in 2017 revealed that approximately 2,936 of 
those accounts, or 67 percent, also participated in the market for 
index CDS. Of the accounts that participated in both markets, data 
regarding transactions in 2017 suggest that, conditional on an account 
transacting in notional volume of index CDS in the top third of 
accounts, the probability of the same account landing in the top third 
of accounts in terms of single-name CDS notional volume is 
approximately 38 percent; by contrast, the probability of the same 
account landing in the bottom third of accounts in terms of single-name 
CDS notional volume is only 5.4 percent. As a result of cross-market 
participation, informational efficiency, pricing and liquidity may 
spill over across markets.\262\
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    \262\ See Business Conduct Adopting Release, 81 FR at 30108; 
Christopher Culp, Andria van der Merwe, & Bettina J. Starkle, 
Single-name Credit Default Swaps: A review of the Empirical Academic 
Literature 71-85 (International Swaps and Derivatives Association 
Study, 2016), available at https://www.isda.org/a/KSiDE/single-name-cds-literature-review-culp-van-der-merwe-staerkle-isda.pdf; Patrick 
Augustin, Marti G. Subrahmanyam, Dragon Y. Tang, & Sarah Q. Wang, 
Credit Default Swaps: Past, Present, and Future, 8 Ann. Rev. Fin. 
Econ. 175 (2016).
---------------------------------------------------------------------------

    Based on an analysis of 2017 TIW data, the Commission estimates 
that approximately 46 of the 50 entities expected to register as 
security-based swap dealers will be dually registered with the CFTC and 
therefore be subject to CFTC requirements for swap dealers. 
Additionally, based on an analysis of TIW data and filings with the 
Commission, the Commission continues

[[Page 4928]]

to estimate that 16 market participants that will register as SBS 
Dealers have already registered with the Commission as broker-dealers 
and are thus subject to Exchange Act and FINRA requirements applicable 
to such entities. Therefore, we expect SBS Entities to associate with 
persons effecting or involved in effecting transactions across the 
various markets overseen by the Commission, CFTC, FINRA, and NFA.
    The Commission, CFTC, FINRA, and NFA have already established 
processes that enable various persons subject to a statutory 
disqualification or other bars to be permitted to associate with 
regulated entities transacting in equity, bond, commodity, swap, and 
other markets. In light of these considerations, our analysis below 
considers the costs and benefits, as well as the effects on efficiency, 
competition and capital formation of the disqualification review 
process under final Rule of Practice 194 in context of existing review 
processes established by the Commission, CFTC, FINRA, and NFA.
4. Data on Parallel Review Processes and Statutory Disqualification
    While the Commission lacks data on the incidence of statutory 
disqualifications in the security-based swap market, and therefore the 
likely number of applications for relief, we look to the securities 
market and the experience of broker-dealers as a guide. In the 
Proposing Release, we presented data on closely parallel statutory 
disqualification review processes. In this section, we provide updated 
information and data on applications, dispositions, investor losses, 
and re-offenses from parallel review processes by FINRA, the CFTC, the 
Commission's review under Rule of Practice 193, and recent research. 
From the outset, we recognize that one of the limitations of the data 
provided below is the time period for which the data are available 
(post-crisis period). We recognize that incidences of misconduct and 
fraud may be more prevalent and more difficult to detect in economic 
booms. As such, the figures below may underestimate the prevalence of 
certain types of misconduct in other markets.
a. FINRA's Review Process
    The Commission continues to believe that the incidence of statutory 
disqualification among broker-dealers serves as a reasonable basis to 
estimate the incidence of disqualification among SBS Entities, because 
both broker-dealers and SBS Entities are engaged in the business of 
intermediating trades in financial instruments.
    Based on information provided by FINRA to the Commission, in 8.5 
years between 2010 and June 2018, FINRA has received 280 MC-400 
applications (an average of approximately 33 per year), and 176 MC-400A 
applications (an average of approximately 21 per year). The number of 
applications by type on an annual basis is reported in Figure 1.
[GRAPHIC] [TIFF OMITTED] TR19FE19.017

    Of all MC-400 applications for individuals received during 2010-
June of 2018, approximately 26 percent of applications were related to 
statutory disqualification for solely non-investment related conduct; 
the other 74 percent were for investment-related conduct. Of all MC-400 
applications received during 2010-June 30, 2018, 24 percent of those 
applications were related to SEC orders, 20 percent of those 
applications were related to FINRA actions, 16 percent of those 
applications were related to SOX violations, and 3 percent of those 
applications were related to injunctions. The remaining approximately 
11 percent of those MC-400 applications were due to other investment-
related or multiple types of conduct (including investment related 
conduct). Of all MC-400A applications received during 2010-June of 
2018, 1 application was related to statutory disqualification for 
solely non-investment related conduct; the remaining 175 were for 
investment-related conduct. Figure 2 and Figure 3 present information 
about the nature of underlying conduct related to applications MC-400 
and MC-400A applications in the full sample.
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    \263\ The overwhelming majority of MC-400A applications 
submitted in 2015 resulted from the Commission's Municipalities 
Continuing Disclosure Cooperation (``MCDC'') initiative. The 
relatively high number of MC-400A Applications processed in 2015 is 
atypical of the amount of MC-400A applications that FINRA typically 
disposes of in a calendar year.

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[[Page 4929]]

    With respect to application dispositions, between 2010 and June of 
2018, FINRA made 299 MC-400 dispositions for individuals subject to a 
statutory disqualification seeking relief under its FINRA Rule 9520 
Series. Of these dispositions, 89 (or 30 percent) were approvals 
(including 23 approvals for non-investment-related disqualifications 
and 66 for investment-related disqualifications); 157 (or 53 percent) 
were denials; 29 were instances where the individuals were no longer 
required to file an application; and 24 were determined not to be 
statutorily disqualified. Figure 4 shows time trends in MC-400 
dispositions.
    Further, between 2010 and June of 2018, FINRA made dispositions 
pertaining to 173 MC-400A applications for statutorily disqualified 
member firms under its Rule 9520 Series. Of the MC-400A dispositions, 
102 (or 59 percent) were approvals; 1 was a denial; in 53 (or 31 
percent) applications the firm filed Form BDW, was canceled by FINRA or 
the application was no longer required; and in 17 applications (10 
percent) the firm was determined not to be disqualified. Figure 5 shows 
time trends in MC-400A dispositions.
[GRAPHIC] [TIFF OMITTED] TR19FE19.018

[[Page 4930]]

[GRAPHIC] [TIFF OMITTED] TR19FE19.019

[GRAPHIC] [TIFF OMITTED] TR19FE19.020

[[Page 4931]]

[GRAPHIC] [TIFF OMITTED] TR19FE19.021

    Regarding  reoffenses,\265\ out of 89 MC-400 applications approved 
between 2010 and June of 2018, there were 10 reoffenses. Of the 10 MC-
400 reoffenses, 2 offenders were originally disqualified for non-
investment related offenses, and the repeat offense for both offenders 
was also non-investment related; and 2 offenders were originally 
disqualified for non-investment related misconduct and the repeat 
offense was investment related.\266\ For entities, out of 102 MC-400A 
application approvals between 2010 and June of 2018, there were 29 
reoffenses (all were investment-related). A portion of these occurred 
in 2015, which saw an increase in MC-400A applications as a result of 
the Commission's MCDC Initiative.
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    \264\ See Note 263.
    \265\ For MC-400 Applications: Reoffender is defined as a 
disqualified individual who was previously approved to associate 
pursuant to Rule 19h-1 and who then became subject to a subsequent 
final regulatory action or was convicted of a criminal offense 
within the relevant time period (January 1, 2010, through June 30, 
2018), as reported on the individual's Uniform Registration Forms.
    \266\ A total of 3 individual's account for 4 reoffenses (i.e., 
one person reoffended twice).
---------------------------------------------------------------------------

    For MC-400A Applications: Reoffender is defined as a broker-dealer 
who was previously approved pursuant to Rule 19h-1 and who then became 
subject to statutory disqualification again within the relevant time 
period (January 1, 2010, through June 30, 2018), as reported on the 
broker-dealer's Uniform Registration Forms.
b. CFTC/NFA Review Process
    We have also requested and received data from NFA. According to NFA 
staff, between October 11, 2012, and June 30, 2018, 7 different Swap 
Dealers filed 15 applications to the NFA for NFA to provide notice to 
the Swap Dealer that, had the person applied for registration as an 
associated person, NFA would have granted such registration. As noted 
above, the Commission has estimated that up to 55 SBS Entities may seek 
registration, while the CFTC has provisionally registered 102 Swap 
Entities.\267\ Using the data from NFA concerning 15 applications over 
approximately 5.75 years, we estimate the filing of approximately 2 
applications per year on aggregate across all SBS Entities requesting 
that statutorily disqualified associates persons be permitted to effect 
or be involved in effecting security-based swaps on behalf of an SBS 
Entity.\268\
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    \267\ See CFTC Provisionally Registered Swap Dealers, as of 
October 11, 2018, https://www.cftc.gov/LawRegulation/DoddFrankAct/registerswapdealer.html, last accessed November 6, 2018.
    \268\ This figure slightly overestimates the number of 
applications calculated as: (15 applications x 55 SBSEs/102 Swap 
entities) / approximately 5.75 years ~= 1.4.
---------------------------------------------------------------------------

    We note that the number of applications received by NFA may only 
present a partial picture of the potential impact of a disqualification 
because, inter alia, (1) the CFTC definition of ``associated person'' 
of a Swap Entity includes only natural persons, not entities (see 17 
CFR 1.3(aa)(6)); (2) in CFTC Regulation 23.22(b), 17 CFR 23.22(b), the 
CFTC provided an exception from the prohibition set forth in CEA 
Section 4s(b)(6), 7 U.S.C. 6s(b)(6), for any person subject to a 
statutory disqualification who is already listed as a principal, 
registered as an associated person of another CFTC registrant, or 
registered as a floor broker or floor trader.
    Most applications were made with respect to individuals 
disqualified for non-investment related conduct: Of the 15 
applications, 9 applications were filed by Swap Dealers for associated 
persons whose disqualifying misconduct was not investment-related 
(misdemeanors and felonies for non-investment related conduct). With 
respect to application dispositions, the NFA made a determination that 
it would have granted registration as an associated person of a Swap 
Dealer if that person had applied for registration as an associated 
person on 13 applications. In two other instances, an application for 
registration was filed and subsequently withdrawn (2012) and an 
individual was no longer employed by the firm (2013).
    Regarding instances of repeated misconduct, since individuals who 
act as associated persons of Swap Dealers are not registered, NFA 
receives no information regarding re-offenses. However, to date, none 
of the swap dealers have filed additional statutory disqualification 
forms to request NFA determination with respect to a new statutory 
disqualification for any of the individuals. Information that would

[[Page 4932]]

provide any estimates of investor losses in various disqualification 
instances was not available.
c. Other Data About Misconduct
    In the Proposing Release, the Commission described available data 
on disqualification and misconduct in the securities market. In this 
section, we supplement the discussion with recent research on that 
topic. In addition to data on parallel review processes, research has 
examined data on misconduct of brokers, registered investment advisers, 
and money managers.\269\ These results are generally obtained from 
registered brokers and investment advisers, in a more competitive 
industry with a clientele that includes retail customers. This differs 
from security-based swap markets, which have unique features. For 
example, security-based swaps may be more opaque than equity or bonds, 
potentially increasing informational asymmetries among transacting 
counterparties.\270\ At the same time, security-based swap markets have 
a dealer-oriented market structure, where a relatively small group of 
dealers serves a predominantly institutional clientele.\271\ This can 
strengthen repeated game reputational incentives, and the institutional 
nature of the clientele may suggest a greater degree of investor 
sophistication than in the retail context.
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    \269\ A significant limitation of this literature is the fact 
that only a fraction of misconduct may be detected. As a result, 
misconduct rates in the data reflect both the prevalence of the 
underlying misconduct and the probability of detection.
    \270\ See Better Markets Letter, at 2 (stating that 
``derivatives are so complex and poorly understood by even 
sophisticated market participants.'').
    \271\ As can be seen from Tables 1 and 2 above, the overwhelming 
bulk of activity is conducted by dealers and institutions. See also 
Inaki Aldasoro & Torsten Ehlers, The Credit Default Swap Market: 
What a Difference a Decade Makes, BIS Quarterly Review, June 2018, 
at 1, 4 (Graph 2), available at https://www.bis.org/publ/qtrpdf/r_qt1806b.pdf, last accessed July 30, 2018.
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    Nevertheless, these data imply that, at least in their specific 
settings: (i) Past disciplinary events and other disclosed matters may 
predict higher probability of future misconduct; (ii) employee 
characteristics are strong predictors of future employee misconduct; 
(iii) the ability to predict future misconduct with past misconduct may 
weaken over time; and (iv) misconduct may be relatively rare, employees 
with misconduct histories may be attracted to employers with higher 
prevalence of misconduct, and the misconduct of employees may increase 
the likelihood of misconduct of their colleagues.
    Egan, Matvos, and Seru (2017) \272\ examine BrokerCheck disclosures 
of the disciplinary history of FINRA registered representatives in 
2005-2015. The paper defines misconduct broadly and includes in the 
definition customer disputes, disciplinary events, and financial 
matters reported by FINRA. On average, only 7 percent of employees in a 
given firm have misconduct records. However, rates of misconduct in 
several firms with the highest incidences of misconduct are as high as 
15-20 percent. Hence, entities exhibit significant differences in 
misconduct risks in their labor force and, at least in some entities, 
the prevalence of misconduct by associated natural persons is 
significantly higher than industry average. In addition, firms tend to 
``match on misconduct,'' with firms with higher rates of prior 
misconduct hiring employees with misconduct histories. Finally, prior 
misconduct strongly predicts repeated misconduct: Approximately a third 
of employees with misconduct engage in repeated misconduct, and 
employees with prior misconduct are approximately five times as likely 
to engage in new misconduct compared to the sample average. Similarly, 
Assadi (2018) \273\ finds that misconduct predicts future misconduct, 
and this relationship is weakened by time elapsed since the previous 
incidence of misconduct.
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    \272\See Mark Egan, Gregor Matvos, & Amit Seru, The Market for 
Financial Adviser Misconduct, J. Pol. Econ. (forthcoming, 2017), 
available at https://ssrn.com/abstract=2739170. Their measures of 
misconduct reflect customer disputes, disciplinary events, and 
financial matters reported by FINRA from advisers' disclosure 
statements during that period.
    \273\ See Pooria Assadi, Empirical Investigation of the Causes 
and Effects of Misconduct in the U.S. Securities Industry (Working 
Paper, 2018), available at http://summit.sfu.ca/system/files/iritems1/17890/etd10567_PAssadi.pdf.
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    Dimmock, Gerken, and Graham (2018) \274\ examine customer 
complaints against FINRA-registered representatives in 1999 through 
2011, and argue that misconduct of individuals influences the 
misconduct of their coworkers. The paper uses mergers of firms as a 
quasi-exogenous shock and examines changes in an adviser's misconduct 
around changes to an employee's coworkers due to a merger. The paper 
estimates that an employee is 37 percent more likely to commit 
misconduct if her new coworkers encountered in the merger have a 
history of misconduct. The paper contributes to broader evidence on 
peer effects, connectedness, and commonality of misconduct,\275\ and 
can help explain the distributional properties in the prevalence of 
misconduct across firms documented in Egan, Matvos, and Seru (2017).
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    \274\ See Stephen G. Dimmock, William C. Gerken, & Nathaniel 
Graham, Is Fraud Contagious? Coworker Influence on Misconduct by 
Financial Advisors, 73 J. Fin. 1417, (2018).
    \275\ See, e.g., Christopher A. Parsons, Johan Sulaeman, & 
Sheridan Titman, The Geography of Financial Misconduct, 73 J. Fin. 
2087 (2018), available at https://onlinelibrary.wiley.com/doi/abs/10.1111/jofi.12704.
---------------------------------------------------------------------------

    Other papers have considered the role of disclosures for the 
predictability of misconduct and the distribution of investor losses 
related to misconduct. They seem to indicate that, in some contexts, 
existing disclosures accessible to the investing public allow investors 
to identify brokers, investment managers, and hedge funds that have 
significantly higher misconduct risk both in terms of probability of 
misconduct as well as dollar investor losses. While these results are 
limited to their specific settings, we note that the security-based 
swap market is an institutional market. As such, the investor clientele 
consuming public disclosures of registered SBS Entities may be more 
sophisticated than that of retail brokerages or investment managers in 
the settings discussed below. In the broker-dealer setting, which may 
be most analogous to the security-based swap setting, Qureshi and 
Sokobin (2015) \276\ use BrokerCheck data for 2000 through 2013 to 
explore the distribution of events involving investor losses (measured 
as complaints that led to awards against brokers or voluntarily settled 
above a de minimis threshold). They also test whether public 
disciplinary records, financial and other disclosures, and employment 
history information can meaningfully predict future misconduct and 
investor losses. The paper's three main results are as follows. First, 
investor loss events are rare and predominantly one-time offenses. 
Between 98.7 percent and 99 percent of brokers are not associated with 
any investor loss events. Of the brokers with investor loss events, the 
overwhelming majority (approximately 82 percent) have only 1 event, 
with only about 12 percent having 2 events and about 6 percent of 
brokers having 3 events or more. Second, publicly observable data yield 
a high degree of predictability of future investor loss events. For 
example, 20 percent of brokers with the highest ex-ante predicted 
probability of investor losses (based on public disclosures) are 
associated with more than 55 percent of

[[Page 4933]]

the investor loss events with approximately 56 percent of total dollar 
investor losses. In turn, 20 percent of brokers with the lowest ex-ante 
probability of investor loss events are associated with only 3.8 
percent of investor loss events. The paper concludes that publicly 
available information allows investors to discriminate between brokers 
with a high propensity for investor loss from other brokers. Third, 
losses associated with the broker's coworkers meaningfully increase the 
overall power to predict investor loss events; however, undisclosed 
financial events, undisclosed disciplinary events, and exam performance 
do not.
---------------------------------------------------------------------------

    \276\ See Hammad Qureshi & Jonathan S. Sokobin, Do Investors 
Have Valuable Information about Brokers? (FINRA Office of the Chief 
Economist Working Paper, August 2015), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2652535, last accessed 
July 30, 2018.
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5. Requests for Relief From Statutory Disqualification Under Rule of 
Practice 194
    In the Proposing Release, the Commission relied on disqualification 
review application data for 2014, and estimated that there may be as 
many as five applications per year with respect to associated natural 
persons and as many as two applications per year with respect to 
associated person entities.\277\ As described above, we estimate that 
up to 55 entities may register with the Commission as SBS Entities, and 
we now estimate 21,310 associated natural persons. We have also 
received additional data regarding the total number of MC-400 and MC-
400A applications received by FINRA from 2010 through June of 2018. 
Assuming the ratio of applications for association with statutorily 
disqualified persons at SBS Entities is the same as at broker-dealers, 
the data indicate there may be approximately three applications for 
natural persons per year.\278\ Recognizing potential annual 
fluctuations in the incidence of disqualification review applications, 
we now conservatively estimate that SBS Entities may file up to five 
applications per year with respect to their associated natural 
persons.\279\
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    \277\ See Proposing Release, 80 FR at 51707.
    \278\ For natural persons: 21,310 * (33/267,043) = 2.6.
    \279\ To the extent that SBS Entities are using the same 
personnel to transact in security-based swaps, swaps, and underlying 
securities, and if those personnel are the subject of a prior 
application or other form of relief from the Commission, CFTC, an 
SRO, or a registered futures association, the number of new 
applications the Commission receives may be lower than the 
calculated estimate.
    We also note that registered SBS Entities retain the option of 
complying with statutory disqualification provisions by 
disassociating with or reassigning disqualified persons. As a 
result, many instances of disqualification may be resolved through 
disassociation or reassignment. Registered SBS Entities would likely 
take advantage of the provision only when the benefits of 
associating with a disqualified person outweigh the costs, including 
reputational costs, of making an application.
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C. Benefits, Costs, and Effects on Efficiency, Competition, and Capital 
Formation

    Exchange Act Section 15F(b)(6) provides the Commission with the 
authority to provide relief from the prohibition against using 
associated natural persons subject to a statutory disqualification to 
effect or be involved in effecting security-based swaps.\280\ As 
discussed above, clarity provided by the final rule regarding the 
materials to be submitted, the items to be considered, and the standard 
of review, may alter an SBS Entity's assessment of (1) any application 
costs and reputational costs that come with choosing to associate with 
disqualified persons, and (2) its beliefs as to the likelihood of an 
approval or denial decision by the Commission. To the extent that any 
such alteration leads to greater or fewer applications for relief under 
Rule of Practice 194 relative to the baseline with no process rule in 
place, economic costs and benefits may accrue to SBS Entities, 
associated persons, and counterparties to SBS Entities.
---------------------------------------------------------------------------

    \280\ See 15 U.S.C. 78o-10(b)(6).
---------------------------------------------------------------------------

    As discussed above, we estimate that the Commission will receive 
five or fewer applications per year under the final Rule of Practice 
194. Given the number of natural persons expected to associate with SBS 
Entities, and our understanding of the labor market in security-based 
swaps, reassigning or disassociating from a disqualified natural person 
for the purposes of effecting security-based swaps on behalf of SBS 
Entities may be relatively less costly than disassociating from 
disqualified person entities. We continue to believe that the overall 
economic impact of the final rule will depend primarily on: (i) How 
many associated persons of SBS Entities become disqualified and their 
value to their associated SBS Entities, (ii) the relative market share 
of affected SBS Entities, (iii) the importance and structure of 
relationships between SBS Entities and their counterparties, and (iv) 
the response of unaffected SBS Entities and their counterparties. We 
are mindful of the economic tradeoffs inherent in our policy choices 
and their impact on the securities markets. We discuss these economic 
effects in more detail below.
    The Commission lacks data on the complexity and variety of current 
SBS Entity business structures and activities, the degree of SBS Entity 
reliance on associated persons subject to statutory disqualification, 
the location and specificity of expertise of such persons, as well as 
any reputational costs of associating with disqualified persons in 
security-based swap markets. Further, the economic effects of various 
provisions of the final Rule of Practice 194 hinge on a number of 
factors. Such factors include: (i) Whether and how significantly SBS 
Entities may be affected by the statutory prohibition in Exchange Act 
Section 15F(b)(6); (ii) any reputational and direct costs and response 
of counterparties to SBS Entities seeking relief under Rule of Practice 
194 relative to the baseline exemptive relief process; (iii) 
differences in counterparty risks and related losses under final Rule 
of Practice 194 relative to the baseline exemptive relief process; and 
(iv) how other SBS Entities may react to the newly opened market share 
should some SBS Entities temporarily cease effecting security-based 
swaps or exit the market due to the statutory prohibition in Exchange 
Act Section 15F(b)(6). To the best of our knowledge, no such data are 
publicly available, and commenters have not provided data, estimates or 
other information to enable quantification. We, therefore, cannot 
quantify many of the effects of the final Rule of Practice 194, 
including the tradeoff behind an SBS Entity's choice to pursue relief 
and face potential reputational losses versus disassociating with the 
statutorily disqualified associated person. Where we cannot quantify, 
we discuss in qualitative terms the relevant economic effects, 
including the costs and benefits of the final rule and alternative 
approaches.
1. Costs and Benefits of Rule of Practice 194
a. Costs and Benefits of a Review Process
    In evaluating the likely benefits to SBS Entities of the approach 
being adopted, we note that absent Rule of Practice 194, SBS Entities 
would still be able to apply to the Commission, and the Commission 
would still be able to exercise its authority to grant relief.\281\ The 
final Rule of Practice 194 does, however, establish a structured 
process that provides SBS Entities clarity and guidelines on the form 
of application, the items to be considered, and the standard of review 
that the Commission will apply. Furthermore, the final rule helps to 
ensure that the Commission will have sufficient information to make a 
meaningful determination that

[[Page 4934]]

providing relief for an associated person is consistent with the public 
interest.
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    \281\ See 15 U.S.C. 78o-10(b)(6). See also Section V.B, supra.
---------------------------------------------------------------------------

    Specifically, absent Rule of Practice 194 and without a formal 
review process, SBS Entities seeking to apply for relief from Section 
15F(b)(6) are likely to apply to the Commission directly, looking to 
either Rule of Practice 193 \282\ or an analogous process as a guide. 
We believe that such applications would be more time-consuming and 
would be more prone to errors or more likely to be deemed to contain 
insufficient information to allow the Commission to make an informed 
determination.
---------------------------------------------------------------------------

    \282\ See 17 CFR 201.193.
---------------------------------------------------------------------------

    Under the final Rule of Practice 194, SBS Entities will generally 
be aware of the information they are required to provide, as well as 
the standard of review. Clarity about the items that the Commission 
will consider in making a determination, will allow SBS Entities to 
make more-informed assessments as to the likelihood that the Commission 
will either grant or deny relief, which may affect their decision 
whether to apply for relief. The final Rule of Practice 194 may thus 
conserve resources relative to a more time-consuming and error-prone 
application process absent the rule. Delays in the application process 
absent the rule may require SBS Entities to replace or reassign a 
statutorily disqualified associated person. To the extent that the 
application review process under Rule of Practice 194 is less error-
prone and involves fewer delays, such costs may be reduced. In 
addition, the final Rule of Practice 194 may allow SBS Entities to make 
more-informed evaluations about the tradeoff between pursuing an 
application and either disassociating with or reassigning a person 
subject to a statutory disqualification.
    To the extent that Rule of Practice 194 increases certainty and 
conserves resources for SBS Entities applying for relief from the 
statutory prohibition in Exchange Act Section 15F(b)(6), some SBS 
Entities may choose to apply to the Commission under Rule of Practice 
194, where they would have otherwise disassociated from a disqualified 
person. This may benefit affected SBS Entities that would have incurred 
higher costs from disassociating compared with costs of applying for 
relief under Rule of Practice 194. As discussed in greater detail in 
Section V.C.2, under Rule of Practice 194, a greater number of SBS 
Entities may be able to effect security-based swaps without potentially 
costly business restructuring. As a result, the counterparties of SBS 
Entities may benefit from greater choice of SBS Entity counterparties 
and lower transaction costs. Finally, applications and supporting 
materials, including information concerning supervisory structure, 
terms of employment and other items, may inform Commission 
understanding of SBS Entity associations and ongoing oversight.
    While Rule of Practice 194 is expected to result in benefits 
discussed above, it will also result in direct application costs for 
SBS Entities filing with the Commission under the final Rule of 
Practice 194. In the Proposing Release, the Commission estimated that 
the average time necessary for an SBS Entity to research the questions, 
and complete and file an application under Rule of Practice 194 would 
be approximately 40 hours for applications regarding entities, and 30 
hours for applications regarding natural persons.\283\ The Commission 
received no comments and continues to believe the estimate for 
applications regarding natural persons is reasonable and appropriate; 
the exclusion for entities under the final rule, however, means that 
SBS Entities will not make any applications regarding entities and thus 
will spend no time on such applications. Since the Commission now 
estimates that SBS Entities would make up to five applications on an 
average annual basis, the Commission estimates the economic costs to 
prepare, review, and submit applications under the final Rule of 
Practice 194 of up to $73,620 per year.\284\
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    \283\ See Proposing Release, 80 FR at 51713.
    \284\ This estimate is based on the following. Total burden 
hours = [(30 hours) x (up to 5 SBS Entities applying with respect to 
associated persons that are natural persons) + (6 hours) x (up to 5 
SBS Entities filing notices)] = 180. Attorney at $409 per hour x 180 
burden hours = $73,620. The hourly cost figure is based upon data 
from SIFMA's Management & Professional Earnings in the Securities 
Industry 2013 (modified by the Commission staff to adjust for 
inflation and to account for an 1,800-hour work-year and multiplied 
by 5.35 to account for bonuses, firm size, employee benefits, and 
overhead).
---------------------------------------------------------------------------

    Notably, an SBS Entity would only submit an application where the 
SBS Entity believed that the economic value of retaining a particular 
person to effect security-based swaps outweighed the application costs 
associated with the final Rule of Practice 194. In other words, any 
application costs would be incurred by SBS Entities on a voluntary 
basis. As such, it is not clear how many SBS Entities will choose to 
apply for relief rather than simply disassociate from a statutorily 
disqualified associated person. Furthermore, the decision to incur 
application costs would also reflect an SBS Entity's assessment of the 
likelihood of the Commission granting relief under the public interest 
standard set forth in the final Rule of Practice 194. Lastly, under the 
baseline and absent Rule of Practice 194, SBS Entities can apply to the 
Commission for exemptive relief from the statutory prohibition, which 
would also involve costs. Since compliance with SBS Entity registration 
is not yet required and, thus, no exemptive relief applications by SBS 
Entities have been filed, we are unable to estimate those costs. The 
net costs of the application process under Rule of Practice 194 must be 
assessed relative to the baseline process of requesting exemptive 
relief, and the above estimate of $73,620 per year is likely to 
overestimate the additional costs of the application process.
    Under the baseline, an SBS Entity would not be precluded under 
Exchange Act Section 15F(b)(6) from seeking Commission relief.\285\ 
However, as already discussed, SBS Entities would lack clarity about 
the application process and, though they may look to Rule of Practice 
193 or similar processes as a guide, SBS Entities could potentially 
expend more resources than necessary due to process uncertainty. Thus, 
notwithstanding the cost estimates above, the final rule may mitigate 
application costs relative to the baseline due to the existence of a 
structured process. We expect that this cost mitigation would be most 
significant for SBS Entities that would be among the first to seek 
relief. SBS Entities seeking relief later would enjoy the benefits of 
learning by observing the process experienced by first-movers.
---------------------------------------------------------------------------

    \285\ See Section supra.
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    The Commission has received comment that the absence of penalties 
invites misconduct and that a ban on disqualified persons without 
exclusions would lead firms to understand that failure to oversee and 
disassociate from disqualified persons jeopardizes business.\286\ In 
evaluating this argument, the Commission has considered recent 
supplemental information relevant to this question. Specifically, in 
other contexts, some entities dismiss or disassociate from disqualified 
persons to limit reputational costs. For example, Egan, Matvos, and 
Seru (2017) show that approximately half of employees with a misconduct 
history lose their jobs. However, other firms frequently rehire such 
employees, and the rehiring firms tend to have higher rates of prior 
misconduct. Employees with prior misconduct records are more likely to 
be hired by firms with higher rates of misconduct that pay lower 
compensation, have retail customers, and operate in counties with lower

[[Page 4935]]

education, elderly populations, and higher incomes. The paper 
hypothesizes that such firms ``specialize'' in misconduct and cater to 
unsophisticated customers, but the paper does not evaluate fees or 
performance of investor portfolios. However, in the residential 
mortgage-backed securities (``RMBS'') market, Griffin, Kruger, and 
Maturana (2018) \287\ do not find that RMBS employees had lower levels 
of job retention, promotion, or outside moves than non-RMBS employees, 
even when RMBS employees signed high-loss deals or deals implicated in 
lawsuits. While these results in the RMBS market appear somewhat 
inconsistent with evidence in the broker-dealer setting (Egan et al. 
(2017)), Amiram et al. (2018) suggest that instances of RMBS-related 
fraud in the sample may not have imposed on banks reputational costs 
large enough to result in significant labor market discipline of RMBS 
employees. In addition, some RMBS employees that signed deals 
implicated in lawsuits may have remained in continued employment of 
issuing banks to support litigation.
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    \286\ See Public Citizen Letter, at 1-2.
    \287\ See John M. Griffin, Samuel Kruger, & Gonzalo Maturana, Do 
Labor Markets Discipline? Evidence from RMBS Bankers, J. Fin. Econ. 
(accepted, 2018), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2977741, last accessed Aug. 19, 2018.
---------------------------------------------------------------------------

    We continue to acknowledge that the results of the cited studies 
are not specific to the swap or security-based swap contexts. However, 
the studies suggest that, in some settings, even without a ban on 
disqualified persons, some employers may already understand that 
failure to oversee and disassociate from some disqualified persons may 
jeopardize the firms' business, and the labor market may provide some 
penalties against misconduct. To the degree that these findings may 
apply to institutional security-based swap markets, they indicate that 
market discipline may be a separate disincentive against misconduct and 
may partly mitigate the concern raised by the commenter \288\ that the 
absence of bans invites misconduct.
---------------------------------------------------------------------------

    \288\ See Public Citizen Letter, at 1-2.
---------------------------------------------------------------------------

b. Costs and Benefits of the Commission, CFTC, SRO, Registered Futures 
Association Provision
    Beyond establishing a process for submitting applications, Rule of 
Practice 194 allows an SBS Entity, subject to certain conditions, to 
permit an associated person who is subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of the SBS Entity without making an application to the 
Commission, if the associated person's membership, association, 
registration, or listing as a principal has been granted or otherwise 
approved by the Commission, CFTC, an SRO, or a registered futures 
association. In such cases where an SBS Entity meets the requirements 
of the final rule, these SBS Entities would be able to provide notice 
to the Commission in lieu of having to compile the same information and 
documentation for a repeated review, thereby eliminating redundancy and 
decreasing SBS Entity costs.
    This provision of final Rule of Practice 194 provides SBS Entities 
with flexibility in hiring and assigning employees and associating with 
entities depending on business needs and required capabilities. To the 
extent that SBS Entities, Swap Entities, and broker-dealers use the 
same personnel or entities to effect security-based swaps, swaps, and 
securities transactions, SBS Entities will not have to undergo and bear 
costs of duplicate review when decisions about relief from statutory 
disqualifications have already been made by the Commission or another 
regulatory authority. This provision would, therefore, primarily 
benefit SBS Entities transacting across markets through statutorily 
disqualified associated persons previously granted relief by the 
Commission, the CFTC, FINRA or NFA by enabling those SBS Entities to 
avoid costs of a separate application process under Rule of Practice 
194 or business restructuring. We also recognize that this provision 
reduces costs incurred by SBS Entities associating with disqualified 
persons previously granted relief by the Commission, the CFTC, FINRA or 
NFA so it may benefit these disqualified persons by potentially 
improving their employment options and business outcomes.
    Notwithstanding these benefits, this provision of the final Rule of 
Practice 194 may give rise to risks related to permitting otherwise 
statutorily disqualified associated persons to effect or be involved in 
effecting security-based swaps on behalf of SBS Entities without an 
individualized determination by the Commission that doing so is 
consistent with the public interest. Exchange Act Rule 19h-1 provides 
for Commission review of notices filed by SROs proposing to admit any 
person to, or continue any person in, membership or association with a 
member, notwithstanding statutory disqualification.\289\ The Commission 
does not, however, review or approve statutory disqualification 
decisions of NFA or CFTC. As a result, in circumstances where the SBS 
Entity has obtained relief from the NFA or CFTC, the Commission will 
not have the opportunity through the Rule of Practice 194 process to 
make an individualized determination or impose terms of reassociation 
specific to risks and activities in security-based swap markets. 
However, this relief is only available where an application related to 
a specific disqualifying event has been reviewed and approved by the 
CFTC, FINRA, or the NFA, and the terms and conditions of association 
with the SBS Entity are the same in all material respects as those 
approved by the CFTC, FINRA, or the NFA. Since this provision would 
result in a potentially greater number of statutorily disqualified 
associated persons being permitted to effect or be involved in 
effecting security-based swaps on behalf of SBS Entities, it may 
increase compliance and counterparty risks, as discussed in section 
IV.D. However, we note that the Commission continues to have authority 
to bring a separate action under Exchange Act Section 15F(l)(3).\290\ 
As discussed above and in Section III, the Commission continues to 
believe that this provision may benefit SBS Entities relying on the 
same associated persons transacting across integrated markets, and, to 
the extent SBS Entity costs may be passed along to counterparties in 
the form of less attractive terms of available security-based swaps, it 
may also benefit counterparties.
---------------------------------------------------------------------------

    \289\ See 17 CFR 240.19h-1.
    \290\ See 15 U.S.C. 78o-10(l)(3).
---------------------------------------------------------------------------

c. Costs and Benefits of the Relief for Associated Entity Persons From 
Exchange Act Section 15F(b)(6)
    As part of the final Rule of Practice 194, the Commission is 
adopting a blanket exclusion from the general prohibition in Exchange 
Act Section 15F(b)(6) with respect to all associated person entities. 
As a result of this provision, SBS Entities cross-registered as Swap 
Entities with the CFTC would experience economies of scope in 
associating with persons that are entities because the ``associated 
person'' definition of a Swap Entity is limited solely to natural 
persons and excludes person entities.\291\ SBS Entities will be able to 
rely on the same associated person entities in transactions with the 
same counterparties across integrated swap and security-based swap 
markets. As estimated in the economic baseline, approximately 46 out of 
50 entities

[[Page 4936]]

likely to register with the Commission as SBS Dealers are already 
registered with the CFTC as Swap Dealers and are currently able to 
associate with statutorily disqualified associated person entities in 
their swap activity.
---------------------------------------------------------------------------

    \291\ See 17 CFR 1.3(aa)(6). See also CFTC Regulation 23.22(b), 
17 CFR 23.22(b).
---------------------------------------------------------------------------

    In addition, as discussed above, approximately two thirds of 
accounts participating in the single-name CDS market also transact in 
index CDS subject to the CFTC's disqualification regime. This suggests 
that a majority of security-based swap counterparties are already 
currently transacting with the same entities likely to register as SBS 
Entities and that those SBS Entities may be associating with 
disqualified entities. The entity exclusion would enable the same SBS 
Entity--counterparty relationships to continue across swap and 
security-based swap markets, eliminating the need for a counterparty to 
establish new dealer relationships solely for the purpose of security-
based swap transactions.
    Further, SBS Entities will avoid all costs of business 
restructuring related to associated person entities that become 
statutorily disqualified, or in the event of new associations with 
statutorily disqualified associated person entities effecting or 
involved in effecting security-based swaps on the SBS Entity's behalf. 
This flexibility may benefit SBS Entities and enable them to provide 
counterparty services to security-based swap counterparties more 
effectively or efficiently. In addition, the exclusion eliminates the 
potential for disruption to security-based swap markets, including 
potential adverse effects to counterparties, that may occur if SBS 
Entities temporarily cease operations due to not being able to utilize 
the services of their associated person entities or if SBS Entities 
move services to associated person entities that may not be as well-
equipped to handle them, pending a determination on their application 
for relief.
    Relief for SBS Entities associating with statutorily disqualified 
person entities would result in SBS Entities being less constrained by 
the general statutory prohibition. We continue to recognize that 
associating with statutory disqualified person entities effecting or 
involved in effecting security-based swaps on behalf of SBS Entities 
may give rise to counterparty and compliance risks and related 
losses.\292\ We also continue to recognize that statutory 
disqualification and an inability to continue associating with SBS 
Entities creates disincentives against underlying misconduct for 
associated persons.\293\ Further, we recognize that, under the 
provision being adopted, the Commission would be unable to make an 
individualized determination about whether permitting a given 
associated person entity subject to a statutory disqualification to 
effect or be involved in effecting security-based swaps on behalf of an 
SBS Entity is consistent with the public interest.\294\
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    \292\ See, e.g., Better Markets Letter. See also Proposing 
Release, 80 FR at 51713. Accord Egan, Matvos, & Seru (2017) (showing 
in another context that there is considerable clustering of 
employees engaging in misconduct in a handful of firms).
    \293\ See, e.g., Public Citizen Letter; Better Markets Letter. 
See also Proposing Release, 80 FR at 51716.
    \294\ However, the Commission could, by order, censure, place 
limitations on the activities or functions of the associated person, 
or suspend or bar such person from being associated with an SBS 
Entity. See 15 U.S.C. 78o-10(l)(3).
---------------------------------------------------------------------------

    Some counterparties may respond to the exclusion by increasing the 
amount of due diligence they perform on their SBS Entity counterparties 
(such as accessing public Form SBSE disclosures, SEC orders, FINRA 
actions, and other public records) relative to the current baseline. We 
are unable to quantitatively estimate the number of counterparties that 
may respond in this way and related costs, as the extent of additional 
information acquisition and related costs will depend on: Each 
counterparty's baseline due diligence and compliance practices; the 
size of the counterparty's security-based swap transaction activity and 
relative importance of such activity in the counterparty's business; 
the degree to which the counterparty values statutory disqualification 
of associated persons as a signal of SBS Entity quality; and each 
counterparty's assessment of the tradeoff between potentially higher 
ongoing risks related to disqualification of SBS Entities' associated 
persons and the relative attractiveness of the price and non-price 
terms of security-based swaps that SBS Entities with disqualified 
associated persons may offer.
    Several factors may limit the above economic effects of this final 
provision.
    First, information about conduct giving rise to statutory 
disqualification (e.g., SEC orders, injunctions, FINRA actions) in the 
U.S. is generally public.\295\ In addition, the final SBS Entity 
registration rules that form a part of our economic baseline require 
all SBS Entities to submit to the Commission information about their 
disciplinary histories, including those of control affiliates. Under 
the final SBS Entity registration rules that form a part of the 
economic baseline, this information will subsequently be made public by 
the Commission.\296\ We recognize that control affiliates are a subset 
of all associated person entities of an SBS Entity. However, to the 
extent that SBS market participants consider disciplinary history of 
control affiliates important in predicting future misconduct, assessing 
counterparty risks, or selecting security-based swap market 
counterparties, market participants will have access to such 
disclosures. Under the baseline, SBS market participants are, thus, 
able to choose whether and how to transact with SBS Entities that use 
control affiliates with a history of misconduct, enabling better 
informed counterparty selection and market discipline of misconduct.
---------------------------------------------------------------------------

    \295\ As a general matter, Commission orders are publicly 
available, and FINRA disciplinary actions issued in 2005 or later 
are eligible for publication pursuant to Rule 8313 (Release of 
Disciplinary Complaints, Decisions and Other Information). 
Information about criminal convictions are generally publicly 
available in the United States (absent orders sealing those 
records), but are typically made available through federal, state, 
and local criminal dockets, which can be more costly to access. 
Statutorily disqualifying events in foreign jurisdictions may not be 
public depending on the rules and blocking/privacy statutes in 
various jurisdictions.
    \296\ See Registration Adopting Release, 80 FR at 49004.
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    Second, the security-based swap market is a dealer market, with the 
bulk of activity and exposure among dealers, or between dealers and 
non-dealer financial entities.\297\ To the degree that disciplinary 
history may predict future counterparty risks, and to the extent that 
institutional market participants are able to process the information 
in disclosures, disciplinary history disclosures regarding control 
affiliates are likely to reduce counterparty selection of SBS Entities 
that have been the subject of disciplinary actions, imposing market 
discipline.\298\ SBS Entities, knowing that disciplinary history of 
control affiliates must be disclosed, may have further incentives to 
avoid engaging in misconduct or may exit the market.
---------------------------------------------------------------------------

    \297\ See Tables 1 and 2 of the baseline. See also Aldasoro & 
Ehlers (2018) at 4 (Graph 2), available at https://www.bis.org/publ/qtrpdf/r_qt1806b.pdf.
    \298\ See Registration Adopting Release, 80 FR at 49004.
---------------------------------------------------------------------------

    As discussed above, one commenter indicated that a ban on 
statutorily disqualified associated persons without any exclusions 
(including without an entity exclusion) would lead firms to understand 
that lax oversight and failure to disassociate from disqualified 
persons jeopardizes business.\299\ In addition, a commenter indicated 
that, absent an associated person entity prohibition, there would be no 
deterrent for entities or firms engaging in misconduct that gives rise 
to

[[Page 4937]]

disqualification.\300\ In evaluating these arguments, the Commission 
has considered recent supplemental information. Specifically, existing 
evidence on reputational incentives surrounding misconduct is limited 
to other contexts (such as corporate restatements, SEC enforcement 
actions, securities class actions, mutual fund scandals, and broker 
disclosures, etc.). However, most existing evidence on broker-dealers 
and mutual funds seems to suggest that markets may often respond to 
disclosures of financial misconduct and investors may vote with their 
feet, such that companies and mutual funds engaging in misconduct 
suffer direct and reputational costs around the revelation of 
misconduct.\301\ We note that not all misconduct affects reputational 
capital, and some papers show that the market may be less likely to 
penalize non-financial, third-party, and some financial reporting 
misconduct.\302\ However, to the degree that disclosures of 
disciplinary history information are informative of the probability of 
different types of future misconduct,\303\ customers may choose to 
closely monitor such disclosures and make informed counterparty 
selection decisions. Sophisticated institutional investors with large 
security-based swap exposures may have stronger incentives and better 
ability to monitor their SBS Entity counterparties, and their choice to 
shift business to another SBS Entity may result in greater losses for 
their original SBS Entity counterparty. As a result, reputational 
incentive effects may be more important in markets with a concentrated 
institutional investor clientele. Thus, we recognize that reputational 
costs of misconduct may be another important disincentive against SBS 
Entity associations with disqualified persons, separate from a ban on 
statutorily disqualified associated persons, potentially mitigating the 
concern raised by commenters.\304\
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    \299\ See Public Citizen Letter, at 1-2.
    \300\ See Americans for Financial Reform Letter, at 3.
    \301\ For example, in the mutual fund advisor context, Wu (2018) 
shows that advisors with ADV disciplinary history disclosures are 
more likely to be replaced in the year following misconduct, which 
dampens the effect of misconduct on fund flows. See Kai Wu, The 
Economic Consequences of Mutual Fund Advisory Misconduct (Asian 
Finance Association 2018 Conference, Working Paper, 2018) available 
at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3061419, last 
accessed Sept. 8, 2018. See also Dan Amiram, Serene Huang, & Shiva 
Rajgopal, Does Financial Reporting Misconduct Pay Off Even When 
Discovered? (Working Paper, October 1, 2018), available at https://www0.gsb.columbia.edu/mygsb/faculty/research/pubfiles/25784/Does%20misconduct%20pay%20Oct%201%202018%20SR.pdf.
    \302\ See, e.g., Jonathan M. Karpoff, D. Scott Lee, & Gerald S. 
Martin, Foreign Bribery: Incentives and Enforcement (Working Paper, 
April 7, 2017), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=1573222, last accessed Aug. 19, 2018. See 
also Bruce Haslem, Irena Hutton, & Aimee Hoffman Smith, How Much Do 
Corporate Defendants Really Lose? A New Verdict on the Reputation 
Loss Induced by Corporate Litigation (Working Paper, November 21, 
2016), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2290821, last accessed Aug. 19, 2018. See 
also Amiram, Huang, & Rajgopal (2018).
    \303\ For example, in the parallel broker-dealer context, some 
existing research suggests that disclosures of past misconduct are 
strongly predictive of future misconduct risk. See, e.g., Qureshi & 
Sokobin (2015).
    \304\ See Public Citizen Letter, at 1-2; Americans for Financial 
Reform Letter, at 3.
---------------------------------------------------------------------------

    At the same time, the concentrated nature of security-based swap 
dealing activity may reduce the ability of counterparties to choose to 
transact with SBS Entities that do not rely on disqualified associated 
persons. As estimated in the economic baseline, the top five dealer 
accounts engaged in over 55 percent of all SBS Entity transactions, and 
the median counterparty transacted with only 2 dealers in 2017. While 
reputational incentives may flow from a customer's willingness to deal 
with an SBS Entity, the fact that the customer many not have many 
dealers to choose from weakens those incentives. Importantly, we 
recognize that these estimates of market concentration are themselves 
reflecting market participants' current choice of counterparties. 
Institutional counterparties are likely to trade off the potentially 
higher counterparty risk of transacting with SBS Entities with 
disqualified person entities against the price and non-price terms of 
security-based swaps such SBS Entities may offer. If a number of active 
counterparties choose to move their business to SBS Entities without 
disqualified associated persons, even if they currently have low market 
share, activity may become further concentrated among SBS Entities 
without disqualified persons and/or market concentration itself may 
decrease.
    Third, as discussed above,\305\ the exclusion in Rule of Practice 
194(c) will neither limit nor otherwise affect the Commission's 
statutory authority to institute proceedings or bring an action against 
any associated person entities, including, in the appropriate case, to 
institute proceedings under Exchange Act Section 15F(l)(3) to determine 
whether the Commission should censure, place limitations on the 
activities or functions of such person, or suspend for a period not 
exceeding 12 months, or bar such person from being associated with an 
SBS Entity. As noted above, this exclusion will also neither limit nor 
otherwise affect the ability of the Commission, the CFTC, an SRO or the 
NFA to deny membership, association, registration or listing as a 
principal with respect to any associated person entity.
---------------------------------------------------------------------------

    \305\ See Section III.C, infra, for a discussion of proposed 
Rule of Practice 194(c).
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    The overall effects of this exclusion on security-based swap 
markets reflect these economic tradeoffs and will likely be similar to 
those observed in swap markets, which involve largely the same group of 
dealers (46 out of 50 SBS Dealers expected to be cross-registered in 
swap markets) and most of the same counterparties (approximately two 
thirds of accounts are active across single name and index CDS 
markets).
d. Costs and Benefits of Public Availability of Orders and Notices
    The publication of orders and notices gives rise to both costs and 
benefits for affected SBS Entities, their counterparties, and other 
market participants.
    First, publicly available and publicly disseminated information 
regarding applications under Rule of Practice 194 would provide market 
participants with information they may find useful in assessing their 
counterparties. In particular, market participants may use knowledge 
about whether an SBS Entity has applied for relief and/or whether an 
SBS Entity currently employs or associates with disqualified persons to 
effect or be involved in effecting security-based swaps when choosing 
counterparties. In general, such information may be valued by market 
participants when selecting counterparties, if they believe such 
knowledge is informative about the misconduct risk of a counterparty.
    In addition, we note that this information may be useful to SBS 
Entities that have not applied for relief under the final Rule of 
Practice 194. In particular, publicly available information regarding 
the outcome of Rule of Practice 194 applications may inform other SBS 
Entities' assessments of the likelihood that the Commission would grant 
relief in particular circumstances. For example, SBS Entities could 
look to outcomes in applications where disqualifications were for 
similar reasons. Such information may be useful in determining whether 
it is cost effective to seek relief.
    We note that some SBS Entities may prefer that orders approving or 
denying an application under the rule remain private if they believe 
that counterparties will use this information as a signal of low 
quality or high

[[Page 4938]]

counterparty risks of transacting with SBS Entities. Therefore, 
potential reputational costs associated with going through the 
application process and potentially associating with statutorily 
disqualified associated persons may discourage some SBS Entities from 
applying for relief under the final rule. Such SBS Entities may instead 
choose to disassociate from disqualified persons or reassign them to 
responsibilities that do not involve effecting or being involved in 
effecting security-based swaps. In considering disassociation, an SBS 
Entity will weigh any reputational costs against any costs of 
disassociation. For disqualified natural persons, such costs include 
the cost to an SBS Entity of replacing an employee (or other associated 
person), and will depend on the scarcity and value of a particular 
person's skills.
    As stated above, under the approach being adopted, orders and 
notices under Rule of Practice 194 will be made publicly available on 
the Commission's website, whereas applications and supporting materials 
will be kept confidential, subject to the existing statutory and 
regulatory framework with respect to the public availability of such 
materials, including the FOIA,\306\ the Exchange Act,\307\ and 
applicable Commission rules.\308\ To the extent that (1) the 
information provided by SBS Entities in applications and supporting 
materials may be informative about future compliance and counterparty 
risks, (2) this information will not be fully reported in orders and 
notices, and (3) market participants may face costs of obtaining this 
information under the FOIA and other applicable laws, the approach 
being adopted provides fewer benefits relative to the alternative of 
routine mandatory disclosure of applications and supporting materials 
by applicants or the Commission. These considerations are discussed in 
greater detail in Section IV.D.6.
---------------------------------------------------------------------------

    \306\ See 5 U.S.C. 552, et seq.
    \307\ See 15 U.S.C. 78x.
    \308\ See, e.g., 17 CFR 200.80; 17 CFR 201.190; 17 CFR 240.24b-
2.
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2. Effects on Efficiency, Competition, and Capital Formation
    The Commission has assessed the effects arising from the final Rule 
of Practice 194 on efficiency, competition, and capital formation. As 
noted above, limiting the ability of statutorily disqualified 
associated persons to effect or be involved in effecting security-based 
swaps on behalf of SBS Entities may mitigate compliance and 
counterparty risks and may facilitate competition among higher quality 
SBS Entities, thereby enhancing integrity of security-based swap 
markets. At the same time, limits on a statutorily disqualified 
associated person's participation in the security-based swap markets 
may result in costs of business restructuring or applying to the 
Commission for relief, which may disrupt existing counterparty 
relationships and increase transaction costs borne by counterparties. 
As with the other economic effects already discussed, the effects of 
final Rule of Practice 194 on efficiency, competition, and capital 
formation flow primarily from: (i) How the rule alters an SBS Entity's 
evaluation of the tradeoff between the value of an associated person's 
skill and expertise in effecting security-based swaps against the costs 
of applying for relief or restructuring, and its ultimate decision 
concerning whether to seek relief and (ii) the exclusion of statutorily 
disqualified associated person entities from the scope of the 
prohibition.
    As noted above, by providing a structured process and clarity as to 
the standard of review, the final Rule of Practice 194 may conserve 
resources relative to the baseline for SBS Entities applying for relief 
under Section 15F(b)(6), and therefore create a more efficient process 
for SBS Entities that choose to apply. Clarity about the items that the 
Commission will consider in making determinations on applications for 
relief may allow SBS Entities to make more informed assessments about 
whether a particular application is likely to be approved or denied. 
Increased certainty about the process may, in turn, alter an SBS 
Entity's evaluation of its own cost-benefit tradeoff in determining 
whether to file an application for relief, enabling the entity to more 
efficiently expend resources. To the extent that the savings resulting 
from the final rule encourage more SBS Entities to apply for relief, a 
greater number of SBS Entities may be able to effect security-based 
swaps without disruptions related to reassignments of statutorily 
disqualified staff. This may facilitate competition among SBS Entities 
or improve terms of available security-based swaps, if some SBS 
Entities pass along their costs to counterparties in the form of higher 
priced security-based swaps.
    In addition, should more SBS Entities apply for relief or seek to 
avail themselves of the associated person entity exclusion, a greater 
number of statutorily disqualified persons may seek employment and 
business opportunities in security-based swap markets. On the one hand, 
this could increase the ``lemons'' problem and related costs of adverse 
selection,\309\ since market participants may demand a discount from 
counterparties if they expect a greater chance that counterparties have 
employed statutorily disqualified associated persons that are involved 
in arranging transactions. On the other hand, the conduct that gives 
rise to disqualification is generally public information and orders 
regarding the outcome of review applications under Rule of Practice 194 
as well as notices submitted by SBS Entities will be made public by the 
Commission, which may significantly attenuate this effect.
---------------------------------------------------------------------------

    \309\ See, e.g., George A. Akerlof, The Market for ``Lemons'': 
Quality Uncertainty and the Market Mechanism, 84 Q. J. Econ. 488 
(1970). Informational asymmetry about quality can negatively affect 
market participation and decrease the amount of trading--a problem 
commonly known as adverse selection. When information about 
counterparty quality is scarce, market participants may be less 
willing to enter into transactions and the overall level of trading 
may fall.
---------------------------------------------------------------------------

    Persons eligible to rely on the exclusion related to applications 
already reviewed by the Commission, the CFTC, an SRO, or a registered 
futures association may enjoy a competitive advantage over persons not 
eligible for the same treatment. Because SBS Entities would not need to 
expend resources filing an application and would not face uncertainty 
concerning the likelihood of approval of such applications, they may 
prefer associating with persons who can rely on such an exclusion over 
other disqualified persons. If SBS Entities exhibit a preference for 
such persons, it could create competitive disparities among statutorily 
disqualified associated persons.
    The associated person entity exclusion may prevent the 
fragmentation of transaction activity across related markets due to 
differential regulatory treatment of statutory disqualification. The 
Commission continues to recognize extensive spillovers between the 
informational efficiency, pricing, and liquidity of swap and security-
based swap markets, and their connection to activity in reference 
security markets. Given the high degree of concentration of dealing 
activity in single-name and index CDS markets, even a temporary 
inability of one or several SBS Entities to transact due to a 
statutorily disqualifying event of an associated person entity may 
result in liquidity fragmentation and mispricing of claims with 
otherwise identical payoffs and risks. As a result, the associated 
person entity exclusion may limit fragmentation of integrated markets.

[[Page 4939]]

    In addition, under the associated person entity exclusion, SBS 
Entities would be able to continue their security-based swap market 
participation without incurring the costs of reassigning or 
disassociating from disqualified entities. As a result, SBS Entities 
associating with entities that become subject to a statutory 
disqualification can continue dealing in security-based swaps without 
incurring costs of business restructuring. SBS Entities that begin to 
associate with already statutorily disqualified entities would be 
eligible for the same relief. This may enhance competition among SBS 
Entities as both SBS Entities with and those without statutorily 
disqualified associated person entities will be able to compete for 
security-based swap business with counterparties. This competitive 
effect may be particularly important given the highly concentrated 
nature of the security-based swap dealer market.
    The overall effects of the exclusion for associated person entities 
from the general statutory prohibition on efficiency, competition, and 
capital formation, depend on the balance of several competing effects. 
Broadly, the exclusion may lower costs to SBS Entities of beginning or 
continuing to associate with statutorily disqualified entities. It also 
may serve to mitigate potential disruptions--such as SBS Entities 
temporarily ceasing dealing activity pending business restructuring--
should associated person entities of a number of SBS Entities become 
disqualified. At the same time, the presence and magnitude of the 
potential market disruption is unclear, since other SBS Entities are 
likely to begin competing for the newly opened market share if, for 
example, the SBS Entity had to, at least temporarily, cease dealing 
activity. The overall effects of this provision on security-based swap 
market quality, competition, and capital formation depend primarily on: 
(i) Whether and which SBS Entities would be able to win the newly 
opened market share in such cases; (ii) the degree to which statutory 
disqualification may indicate future misconduct risk by associated 
person entities; (iii) the reputation costs to SBS Entities from 
associating with statutorily disqualified associated person entities 
relative to costs of disassociating and establishing a relationship 
with a non-statutorily disqualified associated person entity, and (iv) 
the degree to which existing public information about conduct giving 
rise to statutory disqualification is informative of future misconduct 
risk and the extent to which counterparties pay attention to such 
public information.
    The Commission has received comment in support of strong 
disqualification standards as a feature of the SBS Entity regulatory 
framework, the general need of the public to have confidence in 
regulatory oversight of market participants, and making applications 
and supporting materials public.\310\ We note that some recent research 
in other contexts shows that greater prevalence of disclosed misconduct 
can reduce investor participation in capital markets. Some research 
suggests that retail investor participation in the stock market may 
decrease around the revelation of fraud or misconduct, and there may be 
negative spillovers for firms that were not engaged in misconduct. For 
example, Gurun, Stoffman, and Yonker (2018) find that residents of 
communities more exposed to fraud were more likely to shift from 
capital markets to bank deposits. This result is consistent with the 
theoretical result in Gennaioli, Shleifer, and Vishny (2015) that 
portfolio managers provide ``hand-holding'' to build investor trust. 
Giannetti and Wang (2016) show that household participation in the 
stock market in a given state decreases after the revelation of 
corporate fraud in that state. They find that even households that do 
not hold stocks in scandal firms decrease holdings in both fraudulent 
and non-fraudulent firms. They also find that households with more 
lifetime exposure to corporate fraud allocate a lower share of capital 
into equity.\311\ Importantly, this research pertains to retail 
investor behavior in markets with relatively low informational 
asymmetries. We continue to recognize that these effects may be muted 
in institutional swap or security-based swap markets, or amplified due 
to the greater opacity of swaps or security-based swaps.
---------------------------------------------------------------------------

    \310\ See Americans for Financial Reform Letter, at 4; Better 
Markets Letter, at 2, 6; Cummings Letter, at 3.
    \311\ See Umit G. Gurun, Noah Stoffman, & Scott E. Yonker, Trust 
Busting: The Effect of Fraud on Investor Behavior, 31 Rev. Fin. 
Stud. 1341 (2018); Nicola Gennaioli, Andrei Shleifer, & Robert 
Vishny, Money Doctors, 70 J. Fin. 91 (2015); Mariassunta Giannetti & 
Tracy Yue Wang, Corporate Scandals and Household Stock Market 
Participation, 71 J. Fin. 2591 (2016).
---------------------------------------------------------------------------

    In addition, strong disqualification standards suggested by 
commenters may adversely affect competition and consumer surplus. For 
example, Berk and van Binsbergen (2017) model the costs and benefits of 
both disclosure and standards regulation of ``charlatans'' 
(professionals who sell a service they do not deliver) in high skill 
professions. Both standards and disclosure regulations drive charlatans 
out of the market, but the resulting reduction in competition amongst 
producers actually reduces aggregate consumer surplus, benefiting 
producers.\312\
---------------------------------------------------------------------------

    \312\ The model assumes that, among others, the producers have 
no dominating outside options (skilled producers do not exit the 
market when the equilibrium wage in the profession declines). The 
paper models a labor market in which skill is in high demand, but 
very short supply. As a result, price increases due to standards 
regulation lead to the entry of charlatans, but, because supply of 
skill is constrained, that does not increase quality. By contrast, 
Leland (1979) and the literature that emerged from it does not model 
charlatans or focus on markets with a short supply of skill. In 
Leland (1979), the introduction of standards can benefit consumers 
since the resulting price increase leads to the entry of higher 
quality goods--something that cannot happen when the supply of high 
quality goods is constrained, as in Berk and van Binsbergen (2017). 
Moreover, in Leland (1979) the government is fully informed and the 
consumer has no information about the quality of the good, whereas 
Berk and van Binsbergen (2017) model a homogeneous good bought by 
heterogeneous consumers. See Jonathan Berk & Jules H. van 
Binsbergen, Regulation of Charlatans in High-Skill Professions 
(Stanford University Graduate School of Business, Research Paper No. 
17-43, August 4, 2017), available at https://ssrn.com/abstract=2979134, last accessed Aug. 18, 2018. See also Hayne E. 
Leland, Quacks, Lemons, and Licensing: A Theory of Minimum Quality 
Standards, 87 J. Pol. Econ. 1328 (1979).
---------------------------------------------------------------------------

    Further, information about underlying misconduct is public, and 
other research discussed above suggests that there may be significant 
capital market and labor market penalties for misconduct in some 
settings.\313\ This may suggest that SBS Entities may simply 
disassociate from or reassign a statutorily disqualified associated 
person where the reputational penalties are severe. In addition, 
instead of exiting the market, some counterparties of SBS Entities with 
statutorily disqualified associated persons may simply move transaction 
activity to SBS Entities without such statutorily disqualified 
associated persons. Thus, where counterparties may become less willing 
transact with SBS Entities relying on statutorily disqualified 
associated persons, other SBS Entities that do not rely on disqualified 
associate persons may win business. Finally, we continue to note that 
Exchange Act Section 15F(b)(6) does not preclude either SBS Entities 
from seeking relief or the Commission from granting relief in the 
absence of the final Rule of Practice 194 or another disqualification 
review process. This economic analysis assesses the impacts of Rule of 
Practice 194 relative to a statutory baseline under which SBS Entities 
can seek exemptive relief from the Commission.
---------------------------------------------------------------------------

    \313\ See Section V.C.1.a, supra. See also Note 301, supra.

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[[Page 4940]]

D. Rule Alternatives

    In addition to Rule of Practice 194, the Commission has considered 
several primary alternative approaches, which are discussed below.
1. Temporary Exclusions
    The Commission proposed a temporary exclusion, under which SBS 
Entities would not have to comply with the statutory prohibition in 
Exchange Act Section 15F(b)(6) with respect to associated person 
entities for the first 180 days that an application before the 
Commission, the CFTC, an SRO, or a registered futures association is 
pending. However, after 180 days, the SBS Entity would have 60 days to 
disassociate from the disqualified person entity pending disposition of 
the review application. The Commission is not adopting such an 
approach, but is, instead, adopting a broader exclusion that provides 
relief to all associated person entities and is not time limited.
    The alternative would provide more limited relief to SBS Entities 
associating with statutorily disqualified associated person entities 
relative to the approach being adopted. Similar to the final exclusion 
for associated person entities, the alternative would lower business 
restructuring costs for SBS Entities that are associated with 
disqualified entities. As a result, like the rule being adopted, the 
alternative would limit the risk that SBS Entities may become, at least 
temporarily, unable to intermediate transactions and bear additional 
costs, which may be passed along to counterparties in the form of 
execution delays, potentially reduced liquidity or higher transaction 
costs. Further, similar to the final rule, the alternative would 
recognize that non-dealer counterparties may value bilateral 
relationships with SBS Entities, and searching for and initiating 
bilateral relationships with new SBS Entities may involve direct costs 
for counterparties. The alternative would also eliminate costs and 
delays related to SBS Entities ceasing dealing activity, but only 
conditional on filing a review application and only for the first 180 
days.
    Unlike the approach being adopted, the alternative would introduce 
significant uncertainty about the eventual ability of an SBS Entity to 
associate with a statutorily disqualified associated person entity, 
even when the affiliate has disassociated from any natural persons who 
may have engaged in the underlying misconduct. Such an alternative and 
resulting uncertainty may be particularly costly for those SBS Entities 
that are cross-registered with the CFTC as Swap Entities, as Swap 
Entities are able to freely associate with statutorily disqualified 
associated person entities and, in swap markets, the statutory 
prohibition is applied to natural persons only. In addition, under the 
alternative, SBS Entities would bear direct costs of time and resources 
necessary to complete applications and collect necessary documentation 
to file for relief under Rule of Practice 194--costs that may be passed 
on to counterparties in the form of more expensive security-based 
swaps. In addition, similar to the approach being adopted, and as 
discussed in Section V.C.1., some counterparties may choose to engage 
in greater due diligence and bear related costs, to the degree that 
they have a significant security-based swap business, interpret 
statutory disqualification as a meaningful signal of SBS Entities' 
quality, and do not already perform such due diligence.
    The Commission continues to believe statutory disqualification may 
have incentive effects with respect to underlying misconduct. Relative 
to the approach being adopted, the temporary exclusion alternative 
could result in fewer statutorily disqualified associated person 
entities transacting in security-based swap markets on behalf of SBS 
Entities. While the alternative may involve lower compliance and 
counterparty risks relative to the approach being adopted, it would 
also impose new costs on SBS Entities and counterparties, and may 
involve greater risks of disruptions to security-based markets. 
Moreover, as recognized in the Proposing Release, the temporary nature 
of the exclusion under the alternative would introduce uncertainty 
concerning the eventual need to restructure before the Commission, the 
CFTC, an SRO, or registered futures association has rendered a decision 
on the application.
    The Commission could also have adopted a modified temporary 
exclusion, under which, the application would be considered granted if 
the Commission, the CFTC or an SRO does not render a decision within 
180 days the application. This alternative would effectively default to 
relief from the statutory prohibition for applications under review. 
SBS Entities would be able to permit statutorily disqualified 
associated person entities to effect or be involved in effecting 
security-based swaps on their behalf, unless the Commission made an 
individualized determination that it is not consistent with the public 
interest to permit the participation of such statutorily disqualified 
associated person entities within 180 days of the application being 
filed. Relative to the approach being adopted, this would involve 
greater application costs and uncertainty about the eventual need to 
restructure the business and disassociate from the statutorily 
disqualified associated person entity. However, it would allow the 
Commission, the CFTC or SRO to perform an individualized assessment of 
the facts of each case within the first 180 days of filing. This 
alternative may somewhat strengthen counterparty protections relative 
to the approach being adopted, but would increase uncertainty and costs 
of restructuring for affected SBS Entities and their 
counterparties.\314\
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    \314\ See, e.g., Americans for Financial Reform Letter; Better 
Markets Letter; Cummings Letter.
---------------------------------------------------------------------------

    The overall effects of the temporary stay alternatives relative to 
the approach being adopted, thus, depend on: (i) The degree to which 
disqualifying conduct by an associated person may predict future 
misconduct and related counterparty risks; (ii) the extent to which the 
largely institutional security-based swap market participants fail to 
observe and process public information regarding their counterparties' 
disqualifying conduct; (iii) the reputational costs of SBS Entities in 
associating with statutorily disqualified associated person entities 
relative to the uniqueness of their resources and abilities; and (iv) 
the degree to which uncertainty related to the temporary exclusion 
alternative would lead to preemptive disassociations from valuable 
statutorily disqualified associated person entities.
2. Relief for Non-Investment-Related Offenses
    The Commission could also adopt the approach of automatically 
excepting from the Section 15F(b)(6) prohibition all SBS Entities that 
associate with statutorily disqualified persons if the matters that 
triggered the statutory disqualification were non-investment-
related.\315\ SBS Entities would still be required to apply for relief 
under Rule of Practice 194 for investment- related statutory 
disqualifications. Such an approach would eliminate restructuring or 
application costs for SBS Entities associating with statutorily 
disqualified persons when statutory disqualification arises out of non-
investment related offenses. This may, in turn, attract new persons 
currently disqualified for non-investment-related offenses into the 
security-based swap market, and increase competition among SBS Entity

[[Page 4941]]

associated persons. At the same time, other SBS Entities associating 
with persons statutorily disqualified for investment-related offenses 
would still have to bear costs of disassociating or applying for 
relief, and would have to compete with a greater number of SBS Entities 
that do not have to apply for relief.
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    \315\ Section V.B.4 presents data from 2010 through June 2018 
about the incidence of statutory disqualification and reoffenses by 
investment-related and non-investment related nature of conduct in a 
somewhat analogous scenario for broker-dealers.
---------------------------------------------------------------------------

    As discussed above, statutory disqualification and the potential 
inability to deal in various markets may present an incentive against 
misconduct, including non-investment-related misconduct. Relative to 
the approach being adopted, this alternative may weaken incentives 
against non-investment-related misconduct. The alternative would also 
lower the information benefits of reviewing applications and supporting 
materials, including information concerning supervisory structure, 
terms of employment and other items, which will inform Commission 
understanding of SBS Entity associations and ongoing oversight. 
Finally, some statutory disqualification triggers that may not fall in 
the ``investment related offense'' category may point to a higher risk 
of future misconduct, including violations of securities laws, federal 
rules, and regulations thereunder.\316\ Uniformly excepting associated 
persons disqualified for non- investment-related misconduct without an 
opportunity for the Commission to review the circumstances of each case 
and make a determination that allowing SBS Entities to permit those 
persons to effect or be involved in effecting security-based swaps is 
consistent with the public interest may pose risks to counterparties 
and security-based swap markets.
---------------------------------------------------------------------------

    \316\ See, e.g., Kelvin Law & Lillian F. Mills, Do Financial 
Gatekeepers Under-Protect Investors? Evidence from Criminal 
Background Checks (Working Paper, April 27, 2018), available at 
https://ssrn.com/abstract=3075305, last accessed Aug. 18, 2018; 
Robert Davidson, Aiyesha Dey, & Abbie Smith, Executives' ``Off-the-
job'' Behavior, Corporate Culture, and Financial Reporting Risk, 117 
J. Fin. Econ. 5 (2015).
---------------------------------------------------------------------------

3. No Relief for CFTC, SRO, or Registered Futures Association Review
    Rule of Practice 194 allows SBS Entities to permit statutorily 
disqualified persons to effect or be involved in effecting security-
based swaps on their behalf without an application to the Commission, 
if the associated person's membership, association, registration or 
listing as a principal has been granted or otherwise approved by the 
CFTC, an SRO, or a registered futures association. The Commission could 
adopt an alternative approach under which such SBS Entities would not 
automatically be able to permit statutorily disqualified associated 
persons to effect or be involved in effecting security-based swaps on 
the SBS Entity's behalf, either on a permanent or temporary basis, 
based on a determination by the CFTC, an SRO, or a registered futures 
association. Instead, such SBS Entities would have to apply for a 
substantive review by the Commission under Rule of Practice 194.\317\ 
However, the exclusion for all associated person entities would still 
apply, as in the approach being adopted.
---------------------------------------------------------------------------

    \317\ See Americans for Financial Reform Letter; Better Markets 
Letter; Public Citizen Letter; Cummings Letter.
---------------------------------------------------------------------------

    This alternative approach would allow the Commission to review the 
facts and circumstances of each case and make an individualized public 
interest determination as to whether each statutorily disqualified 
associated person should be permitted to effect or be involved in 
effecting security-based swaps on behalf of SBS Entities, and under 
which conditions. If fewer SBS Entities choose to go through a separate 
review by the Commission, this alternative may result in a smaller 
number of statutorily disqualified associated persons effecting or 
involved in effecting security-based swaps than the adopted approach. 
To the extent that statutory disqualification, and terms and conditions 
of reassociation imposed as a result of individualized Commission 
review, reduce compliance and counterparty risks, this alternative may 
improve compliance and counterparty protections for security-based swap 
market participants.
    However, this alternative may increase costs for SBS Entities. 
Specifically, this alternative would require SBS Entities to incur the 
application costs under Rule of Practice 194 with respect to associated 
persons that have already been approved by the CFTC, an SRO, or a 
registered futures association, or to incur the costs of restructuring 
the business or disassociating from such persons. If the application is 
denied, SBS Entities would need to restructure the business or 
disassociate from the associated person. In addition, in light of the 
high degree of integration among swap and security-based swap markets 
and expected cross-registration, many SBS Entities are expected to 
transact across swap, security-based swap and reference security 
markets, and some SBS Entities may be relying on the same personnel and 
entities in effecting, for instance, single name and index CDS. This 
alternative approach would limit SBS Entity flexibility in hiring and 
retaining statutorily disqualified associated persons where the SBS 
Entity believes the person's quality and expertise outweigh the 
potential reputational costs of associating with a disqualified person 
and where the CFTC, an SRO, or a registered futures association has 
made a favorable finding with respect to the associated person.
    The effects of this alternative on security-based swap markets will 
depend on: (i) The extent to which SBS Entities rely on disqualified 
persons approved by the CFTC, an SRO, or a registered futures 
association; (ii) the magnitude of any business restructuring costs; 
(iii) the significance of bilateral counterparty relationships, and 
(iv) the severity of compliance and counterparty risks posed by 
statutorily disqualified associated persons. As discussed in earlier 
sections, we lack data or other information to quantify these effects 
with any degree of certainty.
4. No Relief for Associated Person Entities From Exchange Act Section 
15F(b)(6)
    The Commission could establish a uniform prohibition on associated 
person entities subject to statutory disqualification effecting or 
being involved in effecting security-based swaps on behalf of SBS 
Entities, without the availability of any application review process, 
and regardless of the reason for the disqualification or whether the 
CFTC, an SRO, or a registered futures association has permitted such 
associated person entities to participate in the market.
    Under this alternative approach, all statutorily disqualified 
associated person entities not covered by the exemption in the final 
SBS Entity registration rules \318\ would be barred from intermediating 
security-based swaps on behalf of SBS Entities.\319\ To the extent that 
past disqualifications can point to higher compliance and counterparty 
risks, this alternative could potentially strengthen counterparty 
protections. Further, the inability to participate in various markets 
due to disqualification disincentivizes misconduct. Adopting this 
approach

[[Page 4942]]

would strengthen these incentive effects, but only to the degree that 
reputational incentives and capital market discipline may currently not 
be sufficiently strong disincentives against misconduct for some 
entities. However, as discussed in detail in the economic baseline, 
evidence from other market suggests that market participants, even 
retail investors, pay close attention to disclosures of disciplinary 
history and vote with their feet, such that market participants suffer 
significant and sticky reputation costs around revelations of 
misconduct.
---------------------------------------------------------------------------

    \318\ As discussed in the economic baseline, under Exchange Act 
Rule 15Fb6-1, unless otherwise ordered by the Commission, an SBS 
Entity may permit statutorily disqualified associated person 
entities to effect or be involved in effecting security-based swaps 
on its behalf, provided that the statutory disqualification occurred 
prior to the compliance date set forth in the Registration Adopting 
Release, and provided that the SBS Entity identifies each such 
associated person on the applicable registration form.
    \319\ See, e.g., Public Citizen Letter.
---------------------------------------------------------------------------

    We recognize that this market discipline effect may be partly 
mitigated due to the concentrated nature of current security-based swap 
dealing activity discussed above. But we also note that market 
concentration is itself endogenous to market participants' counterparty 
selection and customer demand. That is, counterparties trade off the 
potentially higher counterparty risk of transacting with SBS Entities 
that rely on disqualified associated persons against the attractiveness 
of security-based swaps (price and non-price terms) that they may 
offer. If a large number of counterparties choose to move their 
business to SBS Entities that do not rely on disqualified associated 
persons (including those SBS Entities that may currently have lower 
market share), market concentration itself can decrease.
    Barring all statutorily disqualified associated person entities 
from effecting or being involved in effecting security-based swaps on 
behalf of SBS Entities would impose costs of business restructuring for 
a number of SBS Entities, which may in turn affect market quality. 
Specifically, in the event of a disqualification after the compliance 
date of the final SBS Entity registration rules, SBS Entities would be 
required to cease intermediating security-based swaps and restructure 
their business to disassociate from all disqualified entities, posing a 
risk of business disruptions during the restructuring. If a number of 
entities associated with different SBS Entities become disqualified at 
the same time, a number of SBS Entities may, in turn, become 
temporarily unable to effect security-based swaps due to 
disqualification. As discussed elsewhere, the subset of SBS Entities 
that are major security-based swap participants are expected to hold 
large security-based swap positions, and their activities in security-
based swap markets may pose market and counterparty risks.\320\ As 
discussed in the economic baseline, the remaining SBS Entities that are 
SBS Dealers play a central role in security-based swap markets, 
intermediating trades with hundreds of counterparties and representing 
a significant portion of trading activity in security-based swaps.
---------------------------------------------------------------------------

    \320\ See Business Conduct Adopting Release, 81 FR at 30111.
---------------------------------------------------------------------------

    If some SBS Entities are temporarily unable to effect security-
based swaps, transaction costs may increase and other terms of 
security-based swaps available to counterparties may deteriorate. For 
example, security-based swaps are often renegotiated during the life of 
the contract and, in the event of a disruption to the bilateral 
relationship with the SBS Entity related to an associated entity 
disqualification, counterparties may find themselves unable to modify 
contracts. Absent relief for associated person entities, counterparties 
may price such potential future constraints in larger spreads.
    We note that other SBS Entities are likely to step in to pick up 
the market share, and, to the extent that statutory disqualification of 
associated person entities may indicate ongoing compliance and 
counterparty risks of SBS Entities, SBS Entities with potentially lower 
compliance and counterparty risks would be intermediating security-
based swaps. However, as discussed above, SBS Entities that capture the 
newly available market share may be able to consolidate market power 
while the disqualified SBS Entity is undergoing restructuring or 
awaiting a relief determination. As a result, competition in security-
based swap markets may, at least temporarily, decrease, and pricing 
power of remaining SBS Entities may increase. The overall economic 
effects of the alternative would depend on: (i) The costs and the 
required length of time for business restructuring; (ii) which SBS 
Entities would be able to pick up the newly available market share; and 
(iii) the relative importance of bilateral relationships between SBS 
Entities and counterparties.
    In addition, SBS Entities cross-registered as Swap Entities with 
the CFTC would not experience economies of scope in associating with 
persons that are entities and would be unable to rely on the same 
associated person entities in transactions with the same counterparties 
across integrated swap and security-based swap markets. As discussed in 
the economic baseline, approximately 46 out of 50 entities likely to 
register with the Commission as SBS Dealers are already registered with 
the CFTC as Swap Dealers. In addition, as discussed above, two thirds 
of accounts transacting in single-name CDS also transact in index CDS. 
Under the alternative, counterparty relationships with dually 
registered Swap and SBS Entities could be disrupted, potentially 
requiring counterparties to establish new dealer relationships solely 
for the purpose of security-based swap transactions. Lastly, this 
alternative may decrease the number of entities seeking to associate 
with SBS Entities since statutorily disqualified associated person 
entities will no longer be able to effect or be involved in effecting 
security-based swaps. Such disqualified entities may seek to associate 
with security-based swap market participants that are not required to 
register (entities falling within the de minimis exception set forth in 
Exchange Act Rule 3a71-2 \321\). The alternative has the potential to 
significantly reduce competition among associated person entities 
engaging in security-based swap transactions on behalf of SBS 
Entities.\322\ Reduced competition may increase the pricing power of 
remaining market participants vis-[agrave]-vis their activities on 
behalf of SBS Entities in security-based swap markets, and such costs 
are likely to be passed on to counterparties.
---------------------------------------------------------------------------

    \321\ See 17 CFR 240.3a-71-2.
    \322\ See, e.g., Berk & van Binsbergen (2017).
---------------------------------------------------------------------------

5. Form of Applications To Be Submitted: Time Period
    The final Rule of Practice 194 requires applications to include 
certain types of information and supporting materials concerning 
disciplinary sanctions and other events over the preceding five years. 
In response to a comment received,\323\ we have considered an 
alternative approach, under which the Commission would require 
applicants to address disciplinary events with a longer time period 
(e.g., ten years) for certain items specified in Rule of Practice 194. 
In considering this alternative, we note that Rule of Practice 194, as 
adopted, does not specify a time period with respect to certain other 
items relating to disciplinary history, including, among other things, 
(i) a copy of the order or other applicable document that resulted in 
the associated person being subject to a statutory disqualification; 
and (ii) a copy of the questionnaire or application for employment 
required by Exchange Act Rule 15Fb6-2(b). In addition, under final Rule 
of Practice 194, the Commission has reserved the right to request from 
the applicant

[[Page 4943]]

supplementary information to assist in its review, which could include 
information outside of the five-year time period, where appropriate.
---------------------------------------------------------------------------

    \323\ See Better Markets Letter, at 6.
---------------------------------------------------------------------------

    Requiring applicants to provide information concerning a longer 
time period could potentially provide additional information regarding 
ongoing counterparty and compliance risks. Also, requiring filing of 
information concerning disciplinary sanctions, compliance and 
disciplinary history, litigation concerning investment or investment-
related activities and unsatisfied judgments and supporting materials 
for a longer period of time as part of applications under Rule of 
Practice 194 may enhance the review process and its counterparty 
protections benefits. At the same time, requiring SBS Entities to 
provide older materials and documents may increase application burdens 
under the Rule of Practice 194. Importantly, older misconduct may be 
less important in predicting future misconduct than recent offenses. 
Additionally, as discussed above, the five-year time period is more 
consistent with the current practice in other contexts. The approach 
being adopted provides the Commission with the benefit of a longer 
look-back period, where necessary, without uniformly imposing that 
burden on all SBS Entities applying for relief.
6. Public Availability of Applications and Supporting Materials
    Under Rule of Practice 194, as adopted, orders and notices will be 
made publicly available on the Commission's website, whereas 
applications and supporting materials provided pursuant to Rule of 
Practice 194 will be kept confidential, subject to the existing 
statutory and regulatory framework with respect to the public 
availability of such materials, including the FOIA,\324\ the Exchange 
Act,\325\ and applicable Commission rules.\326\ As an alternative 
approach, applications and supporting materials could be made publicly 
available. We have considered comments about how this alternative may 
affect applicants, other SBS Entities, and non-SBS Entity market 
participants.\327\
---------------------------------------------------------------------------

    \324\ See 5 U.S.C. 552, et seq.
    \325\ See 15 U.S.C. 78x.
    \326\ See, e.g., 17 CFR 200.80; 17 CFR 201.190; 17 CFR 240.24b-
2.
    \327\ See Better Markets Letter, at 6; Americans for Financial 
Reform Letter, at 3-4; Cummings Letter, at 3.
---------------------------------------------------------------------------

    Making application and supporting materials publicly available on 
the Commission's website may enable market participants to 
independently assess ongoing compliance and counterparty risks as they 
pertain to individual security-based swaps. To the extent that 
applications and supporting materials contain more information than 
orders and notices, and to the extent that this additional information 
enables market participants to better assess counterparty risks, this 
alternative could strengthen market discipline and the reputational 
disincentives against misconduct, increasing counterparty protections. 
However, it is not clear that applications and supporting materials 
would contain significant additional information relevant for 
counterparty selection, given the fact that the information about 
misconduct that gives rise to disqualification is public, and that 
notices prepared by SBS Entities and Commission orders will be made 
public.
    We recognize that the public nature of such filings may affect SBS 
Entity reputation and bilateral relationships in security-based swap 
markets. Under this alternative, more SBS Entities are likely to 
disassociate from disqualified natural persons instead of filing with 
the Commission an application for relief under Rule of Practice 194. To 
the extent that associations with disqualified persons may pose ongoing 
compliance and counterparty risks, this could potentially benefit 
market participants and strength counterparty protections. However, 
confidentiality and reputational concerns may also deter an SBS Entity 
from filing an application even where it would be consistent with the 
public interest to permit the associated person subject to a statutory 
disqualification to effect or be involved in effecting security-based 
swaps on behalf of the SBS Entity, reducing the expected benefits of 
the review process. We continue to note that, as discussed throughout 
the release, the range of conduct that gives rise to statutory 
disqualification is broad and may not always be indicative of higher 
probability of counterparty risks and investor losses.
    Further, as a result of reputational and confidentiality concerns, 
making applications and supporting materials publicly available on the 
Commission's website may lead SBS Entities to make less informative 
disclosures, which may influence the effectiveness of the review 
process. In addition, we are sensitive to the concern that applications 
and supporting materials under Rule of Practice 194 may reveal 
commercial or financial information that is confidential or privileged, 
and information that would invade and individual's personal privacy. We 
recognize that costs may be incurred by SBS Entities to redact 
confidential information from any application and supporting materials 
if they were to be made publicly available on the Commission's website.
    Accordingly, under the approach being adopted, where 
counterparties, which may be institutional market participants,\328\ or 
other interested persons believe that applications or supporting 
materials contain information beyond any information that is publicly 
available, such persons would be able to submit a FOIA request to seek 
to obtain those materials--in accordance with the existing statutory 
and regulatory framework with respect to the public availability of 
such materials.\329\ As discussed in Sections I and II, the Commission 
continues to believe the existing statutory and regulatory framework 
sets forth a detailed and well-established process for the Commission 
to make available application materials \330\ to members of the public, 
upon request, but to keep certain information contained in those 
materials confidential, where appropriate.\331\
---------------------------------------------------------------------------

    \328\ The Commission has classified market participants 
transacting in single name CDS reported to TIW to include private 
funds, registered investment companies, banks, insurance companies, 
ISDA recognized dealers, foreign sovereigns, non-financial 
corporations, finance companies, special entities and other account 
holders (such as hedge funds, private equity and venture capital 
funds). As can be seen from Table 2 in the economic baseline, 
approximately 94 percent of market participants transacted in single 
name CDS through investment advisers between 2006-2017. Over the 
same time period, investment advisers, banks, insurance companies, 
pension funds and ISDA recognized dealers represented approximately 
94.1 percent of transacting agents and 99.8 percent of total trading 
activity.
    \329\ Alternatively, such counterparties could also request such 
information directly from SBS Entities.
    \330\ See 15 U.S.C. 78x(a) (for purposes of 5 U.S.C. 552, ``the 
term `records' includes all applications, notices, and other 
documents filed with or otherwise obtained by the Commission 
pursuant to the [Exchange Act] or otherwise'').
    \331\ See, e.g., 17 CFR 200.80(a)(4), (b).
---------------------------------------------------------------------------

    VI. Regulatory Flexibility Act Certification
    A. Regulatory Framework
    The Regulatory Flexibility Act (``RFA'') \332\ requires federal 
agencies, in promulgating rules, to consider the impact of those rules 
on small entities. Section 603(a) \333\ of the Administrative Procedure 
Act,\334\ as amended by the RFA, generally requires the Commission to 
undertake a regulatory flexibility analysis of all proposed rules, or 
proposed rule amendments, to determine the impact of such

[[Page 4944]]

rulemaking on ``small entities.'' \335\ Section 605(b) of the RFA 
provides that this requirement shall not apply to any proposed rule or 
proposed rule amendment, which if adopted, would not have a significant 
economic impact on a substantial number of small entities.\336\
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    \332\ 5 U.S.C. 601 et seq.
    \333\ 5 U.S.C. 603(a).
    \334\ 5 U.S.C. 551 et seq.
    \335\ Although Section 601(b) of the RFA defines the term 
``small entity,'' the statute permits the Commission to formulate is 
own definition. The Commission has adopted definitions for the term 
small entity for the purposes of Commission rulemaking in accordance 
with the RFA. Those definitions, as relevant to this proposed 
rulemaking, are set forth in Rule 0-10, 17 CFR 240.0-10. See 
Exchange Act Release No. 18451, 47 FR 5212 (Feb. 4, 1982).
    \336\ See 5 U.S.C. 605(b).
---------------------------------------------------------------------------

    The Commission certified that the proposed Rule of Practice 194, if 
adopted, would not have a significant economic impact on a substantial 
number of small entities for purposes of the RFA.\337\ Although we 
encouraged written comments regarding this certification, no commenters 
responded to this request.
---------------------------------------------------------------------------

    \337\ See Proposing Release, 80 FR at 51718.
---------------------------------------------------------------------------

B. Assessment of Impact

    Rule of Practice 194, as adopted, establishes rules concerning an 
application by SBS Entity to the Commission for an order permitting an 
associated person that is a natural person who is subject to a 
statutorily disqualification to effect or be involved in effecting 
security-based swaps on behalf of an SBS Entity. With respect to SBS 
Entities, based on feedback from market participants and our 
information about the security-based swap markets, the Commission 
continues to believe, as we stated in the proposal,\338\ that (1) the 
types of entities that would engage in more than a de minimis amount of 
dealing activity involving security-based swaps--which generally would 
be large financial institutions--would not be ``small entities'' for 
purposes of the RFA; \339\ and (2) the types of entities that may have 
security-based swap positions above the level required to be a ``major 
security-based swap participant'' would not be ``small entities'' for 
purposes of the RFA.\340\
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    \338\ See id.
    \339\ See, e.g., Cross-Border Adopting Release, 79 FR at 47368. 
See also Economic Analysis Section V.B.1.b., supra. For example, and 
as explained above, based on an analysis of 2017 single-name CDS 
data in TIW, accounts of those firms that are likely to exceed the 
security-based swap dealer de minimis thresholds and trigger 
registration requirements intermediated transactions with a gross 
notional amount of approximately $2.9 trillion, approximately 55 
percent of which was intermediated by the top five dealer accounts. 
See id.
    \340\ See Cross-Border Adopting Release, 79 FR at 47368.
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C. Certification

    For the foregoing reasons, the Commission certifies that Rule of 
Practice 194, as adopted, will not have a significant economic impact 
on a substantial number of small entities for purposes of the RFA.

VII. Statutory Authority

    The Commission is adopting Rule of Practice 194 pursuant to 
Exchange Act Section 15F(b)(4) and (6),\341\ as added by Section 764(a) 
of the Dodd-Frank Act, and Exchange Act Section 23(a).\342\
---------------------------------------------------------------------------

    \341\ 15 U.S.C. 78o-10(b)(4), (6).
    \342\ 15 U.S.C. 78w(a).
---------------------------------------------------------------------------

List of Subjects in 17 CFR Parts 201 and 240

    Administrative practice and procedure, Reporting and recordkeeping 
requirements, Securities.

Text of the Rule

    In accordance with the foregoing, the Securities and Exchange 
Commission is amending title 17, chapter II of the Code of Federal 
Regulations as follows:

PART 201--RULES OF PRACTICE

0
1. The general authority citation for subpart D is revised to read as 
follows:

    Authority: 15 U.S.C. 77f, 77g, 77h, 77h-1, 77j, 77s, 77u, 77sss, 
77ttt, 78(c)(b), 78d-1, 78d-2, 78l, 78m, 78n, 78o(d), 78o-3, 78o-
10(b)(6), 78s, 78u-2, 78u-3, 78v, 78w, 80a-8, 80a-9, 80a-37, 80a-38, 
80a-39, 80a-40, 80a-41, 80a-44, 80b-3, 80b-9, 80b-11, 80b-12, 7202, 
7215, and 7217.
* * * * *

0
2. Add Sec.  201.194 to subpart D before the undesignated center 
heading ``Initiation of Proceedings and Prehearing Rules'' to read as 
follows:

Sec.  201.194  Applications by security-based swap dealers or major 
security-based swap participants for statutorily disqualified 
associated persons to effect or be involved in effecting security-based 
swaps.

    A security-based swap dealer or major security-based swap 
participant making an application under this section should refer to 
paragraph (i) of this section.
    (a) Scope of rule. Applications by a security-based swap dealer or 
major security-based swap participant for the Commission to permit an 
associated person (as provided in 15 U.S.C. 78c(a)(70)) to effect or be 
involved in effecting security-based swaps on behalf of a registered 
security-based swap dealer or major security-based swap participant, or 
to change the terms and conditions thereof, may be made pursuant to 
this section where the associated person is subject to a statutory 
disqualification and thereby prohibited from effecting or being 
involved in effecting security-based swaps on behalf of a security-
based swap dealer or major security-based swap participant under 
Exchange Act Section 15F(b)(6) (15 U.S.C. 78o-10(b)(6)).
    (b) Required showing. The applicant shall make a showing that it 
would be consistent with the public interest to permit the person 
associated with the security-based swap dealer or major security-based 
swap participant who is subject to a statutory disqualification to 
effect or be involved in effecting security-based swaps on behalf of 
the security-based swap dealer or major security-based swap 
participant.
    (c) Exclusion for other persons. The security-based swap dealer or 
major security-based swap participant shall be excluded from the 
prohibition in Section 15F(b)(6) of the Securities Exchange Act of 1934 
(15 U.S.C. 78o-10(b)(6)) with respect to an associated person that is 
not a natural person who is subject to a statutory disqualification.
    (d) Form of application. Each application with respect to an 
associated person that is a natural person who is subject to a 
statutory disqualification shall be supported by a written statement, 
signed by a knowledgeable person authorized by the security-based swap 
dealer or major security-based swap participant, which addresses the 
items set forth in paragraph (e) of this section. The application shall 
be filed pursuant to Rules of Practice 151, 152, and 153 (17 CFR 
201.151, 201.152, and 201.153). Each application shall include as 
exhibits:
    (1) A copy of the order or other applicable document that resulted 
in the associated person being subject to a statutory disqualification;
    (2) An undertaking by the applicant to notify promptly the 
Commission in writing if any information submitted in support of the 
application becomes materially false or misleading while the 
application is pending;
    (3) A copy of the questionnaire or application for employment 
specified in 17 CFR 240.15Fb6-2(b), with respect to the associated 
person; and
    (4) If the associated person has been the subject of any proceeding 
resulting in the imposition of disciplinary sanctions during the five 
years preceding the filing of the application or is the subject of a 
pending proceeding by the Commission, the Commodity Futures Trading 
Commission, any federal or state regulatory or law enforcement agency, 
registered futures association (as provided in 7 U.S.C. 21), foreign 
financial regulatory authority,

[[Page 4945]]

registered national securities association, or any other self-
regulatory organization (as provided in 15 U.S.C. 78c(a)(26)), or 
commodities exchange, or any court, the applicant should include a copy 
of any order, decision, or document issued by the court, agency, self-
regulatory organization (as provided in 15 U.S.C. 78c(a)(26)), or other 
relevant authority involved.
    (e) Written statement. The written statement required by paragraph 
(d) of this section shall address each of the following, to the extent 
applicable:
    (1) The associated person's compliance with any order resulting in 
statutory disqualification, including whether the associated person has 
paid fines or penalties, disgorged monies, made restitution or paid any 
other monetary compensation required by any such order;
    (2) The associated person's employment during the period subsequent 
to becoming subject to a statutory disqualification;
    (3) The capacity or position in which the person subject to a 
statutory disqualification proposes to be associated with the security-
based swap dealer or major security-based swap participant;
    (4) The terms and conditions of employment and supervision to be 
exercised over such associated person and, where applicable, by such 
associated person;
    (5) The qualifications, experience, and disciplinary history of the 
proposed supervisor(s) of the associated person;
    (6) The compliance and disciplinary history, during the five years 
preceding the filing of the application, of the applicant;
    (7) The names of any other associated persons at the applicant who 
have previously been subject to a statutory disqualification and 
whether they are to be supervised by the associated person;
    (8) Any relevant courses, seminars, examinations or other actions 
completed by the associated person subsequent to becoming subject to a 
statutory disqualification to prepare for his or her participation in 
the security-based swap business;
    (9) A detailed statement of why the associated person should be 
permitted to effect or be involved in effecting security-based swaps on 
behalf of the security-based swap dealer or major security-based swap 
participant, notwithstanding the event resulting in statutory 
disqualification, including what steps the associated person or 
applicant has taken, or will take, to ensure that the statutory 
disqualification does not negatively affect the ability of the 
associated person to effect or be involved in effecting security-based 
swaps on behalf of the security-based swap dealer or major security-
based swap participant in compliance with the applicable statutory and 
regulatory framework;
    (10) Whether the associated person has been involved in any 
litigation during the five years preceding the filing of the 
application concerning investment or investment-related activities or 
whether there are any unsatisfied judgments outstanding against the 
associated person concerning investment or investment-related 
activities, to the extent not otherwise covered by paragraph (e)(9) of 
this section. If so, the applicant should provide details regarding 
such litigation or unsatisfied judgments; and
    (11) Any other information that the applicant believes to be 
material to the application.
    (f) Prior applications or processes. In addition to the information 
specified above, any person making an application under this rule shall 
provide any order, notice or other applicable document reflecting the 
grant, denial or other disposition (including any dispositions on 
appeal) of any prior application or process concerning the associated 
person:
    (1) Pursuant to this section;
    (2) Pursuant to Rule of Practice 193 (17 CFR 201.193);
    (3) Pursuant to Investment Company Act Section 9(c) (15 U.S.C. 80a-
9(c));
    (4) Pursuant to Section 19(d) of the Securities Exchange Act of 
1934 (15 U.S.C. 78s(d)), Rule 19h-1 under the Securities Exchange Act 
of 1934 (17 CFR 240.19h-1), or a proceeding by a self-regulatory 
organization (as provided in 15 U.S.C. 78c(a)(26)) for a person to 
become or remain a member, or an associated person of a member, 
notwithstanding the existence of a statutory disqualification; or
    (5) By the Commodity Futures Trading Commission or a registered 
futures association (as provided in 7 U.S.C. 21) for registration, 
including as an associated person, or listing as a principal, 
notwithstanding the existence of a statutory disqualification, 
including:
    (i) Any order or other document providing that the associated 
person may be listed as a principal or registered as an associated 
person of a futures commission merchant, retail foreign exchange 
dealer, introducing broker, commodity pool operator, commodity trading 
advisor, or leverage transaction merchant, or any person registered as 
a floor broker or a floor trader, notwithstanding that the person is 
subject to a statutory disqualification from registration under Section 
8a(2) or 8a(3) of the Commodity Exchange Act (7 U.S.C. 12a(2), (3)); or
    (ii) Any determination by a registered futures association (as 
provided in 7 U.S.C. 21) that had the associated person applied for 
registration as an associated person of a swap dealer or a major swap 
participant, or had a swap dealer or major swap participant listed the 
associated person as a principal in the swap dealer's or major swap 
participant's application for registration, notwithstanding statutory 
disqualification, the application of the associated person or of the 
swap dealer or major swap participant, as the case may be, would have 
been granted or denied.
    (g) Notification to applicant and written statement. In the event 
an adverse recommendation is proposed by Commission staff with respect 
to an application made pursuant to this section, the applicant shall be 
so advised and provided with a written statement of the reasons for 
such recommendation. The applicant shall then have 30 days thereafter 
to submit a written statement in response.
    (h) Notice in lieu of an application. (1) A security-based swap 
dealer or major security-based swap participant may permit a person 
associated with it who is subject to a statutory disqualification to 
effect or be involved in effecting security-based swaps on its behalf, 
without making an application pursuant to this section, where the 
conditions in paragraph (h)(2) of this section are met, and where:
    (i) The person has been admitted to or continued in membership, or 
participation or association with a member, of a self-regulatory 
organization (as provided in 15 U.S.C. 78c(a)(26)), notwithstanding 
that such person is subject to a statutory disqualification under 
Section 3(a)(39)(A) through (F) of the Securities Exchange Act of 1934 
(15 U.S.C. 78c(a)(39)(A) through (F));
    (ii) The person has been granted consent to associate pursuant to 
the Rule of Practice 193 (17 CFR 201.193) or otherwise by the 
Commission;
    (iii) The person has been permitted to effect or be involved in 
effecting security-based swaps on behalf of a security-based swap 
dealer or major security-based swap participant pursuant to this 
section; or
    (iv) The person has been registered as, or listed as a principal 
of, a futures commission merchant, retail foreign exchange dealer, 
introducing broker, commodity pool operator, commodity trading advisor, 
or leverage transaction merchant, registered as an associated

[[Page 4946]]

person of any of the foregoing, registered as or listed as a principal 
of a swap dealer or major swap participant, or registered as a floor 
broker or floor trader, notwithstanding that the person is subject to a 
statutory disqualification under Sections 8a(2) or 8a(3) of the 
Commodity Exchange Act (7 U.S.C. 12a(2), (3)), and the person is not 
subject to a Commission bar or suspension pursuant to Sections 15(b), 
15B, 15E, 15F, or 17A of the Securities Exchange Act of 1934 (15 U.S.C. 
78o(b), 78o-4, 78o-7, 78o-10, 78q-1), Section 9(b) of the Investment 
Company Act of 1940 (15 U.S.C. 80a-9(b)), or Section 203(f) of the 
Investment Advisers Act of 1940 (15 U.S.C. 80b-3(f)).
    (2) A security-based swap dealer or major security-based swap 
participant may permit a person associated with it who is subject to a 
statutory disqualification to effect or be involved in effecting 
security-based swaps on its behalf, without making an application 
pursuant to this section, as provided in paragraph (h)(1), subject to 
the following conditions:
    (i) All matters giving rise to a statutory disqualification under 
Section 3(a)(39)(A) through (F) of the Securities Exchange Act of 1934 
(15 U.S.C. 78c(a)(39)(A) through (F)) have been subject to a process 
where the membership, association, registration or listing as a 
principal has been granted or otherwise approved by the Commission, 
Commodity Futures Trading Commission, self-regulatory organization (as 
provided in 15 U.S.C. 78c(a)(26)), or a registered futures association 
(as provided in 7 U.S.C. 21);
    (ii) The terms and conditions of the association with the security-
based swap dealer or major security-based swap participant are the same 
in all material respects as those approved in connection with a 
previous order, notice or other applicable document granting the 
membership, association, registration or listing as a principal, as 
provided in paragraph (h)(1); and
    (iii) The security-based swap dealer or major security-based swap 
participant has filed a notice with the Commission. The notice shall be 
filed pursuant to Rules of Practice 151, 152, and 153 (17 CFR 201.151, 
201.152, and 201.153). The notice must set forth, as appropriate:
    (A) The name of the security-based swap dealer or major security-
based swap participant;
    (B) The name of the associated person subject to a statutory 
disqualification;
    (C) The name of the associated person's prospective supervisor(s) 
at the security-based swap dealer or major security-based swap 
participant;
    (D) The place of employment for the associated person subject to a 
statutory disqualification; and
    (E) Identification of any agency, self-regulatory organization (as 
provided in 15 U.S.C. 78c(a)(26)) or a registered futures association 
(as provided in 7 U.S.C. 21) that has indicated its agreement with the 
terms and conditions of the proposed association, registration or 
listing as a principal.
    (i) Note to Sec.  201.194. (1) Under Section 15F(b)(6) of the 
Securities Exchange Act of 1934 (15 U.S.C. 78o-10(b)(6)), except to the 
extent otherwise specifically provided by rule, regulation, or order of 
the Commission, it shall be unlawful for a security-based swap dealer 
or a major security-based swap participant to permit any person 
associated with a security-based swap dealer or a major security-based 
swap participant who is subject to a statutory disqualification to 
effect or be involved in effecting security-based swaps on behalf of 
the security-based swap dealer or major security-based swap 
participant, if the security-based swap dealer or major security-based 
swap participant knew, or in the exercise of reasonable care should 
have known, of the statutory disqualification.
    (2) Subject to the exclusion provided in paragraph (c) of this 
section, in accordance with the authority granted in Section 15F(b)(6) 
of the Securities Exchange Act of 1934 (15 U.S.C. 78o-10(b)(6)), this 
section governs applications to the Commission by a security-based swap 
dealer or major security-based swap participant for the Commission to 
issue an order to permit a natural person who is an associated person 
of a security-based swap dealer or major security-based swap 
participant who is subject to a statutory disqualification to effect or 
be involved in effecting security-based swaps on behalf of the 
security-based swap dealer or major security- based swap participant.
    (3) Applications made pursuant to this section must show that it 
would be consistent with the public interest to permit the associated 
person of the security-based swap dealer or major security-based swap 
participant to effect or be involved in effecting security-based swaps 
on behalf of the security-based swap dealer or major security-based 
swap participant. In addition to the information specifically required 
by the rule, applications should be supplemented, where appropriate, by 
written statements of individuals who are competent to attest to the 
associated person's character, employment performance, and other 
relevant information. In addition to the information required by the 
rule, the Commission staff may request supplementary information to 
assist in the Commission's review. Intentional misstatements or 
omissions of fact may constitute criminal violations of 18 U.S.C. 1001, 
et seq. and other provisions of law. The Commission will not consider 
any application that attempts to reargue or collaterally attack the 
findings that resulted in the statutory disqualification.
    (4) The nature of the supervision that an associated person will 
receive or exercise as an associated person with a registered entity is 
an important matter bearing upon the public interest. In meeting the 
burden of showing that permitting the associated person to effect or be 
involved in effecting security-based swaps on behalf of the security-
based swap dealer or major security-based swap participant is 
consistent with the public interest, the application and supporting 
documentation must demonstrate that the terms or conditions of 
association, procedures or proposed supervision, are reasonably 
designed to ensure that the statutory disqualification does not 
negatively affect the ability of the associated person to effect or be 
involved in effecting security-based swaps on behalf of the security-
based swap dealer or major security-based swap participant in 
compliance with the applicable statutory and regulatory framework.
    (5) Normally, the applicant's burden of demonstrating that 
permitting the associated person to effect or be involved in effecting 
security-based swaps on behalf of the security-based swap dealer or 
major security-based swap participant is consistent with the public 
interest will be difficult to meet where the associated person is to be 
supervised by, or is to supervise, another statutorily disqualified 
individual. In addition, where there is an absence of supervision over 
the associated person who is subject to a statutory disqualification, 
the applicant's burden will be difficult to meet. The associated person 
may be limited to association in a specified capacity with a particular 
registered entity and may also be subject to specific terms and 
conditions.

PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF 
1934

0
3. The general authority citation for part 240 continues to read as 
follows:

    Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77z-3, 
77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78c-3, 78c-5, 78d, 78e, 78f,

[[Page 4947]]

78g, 78i, 78j, 78j-1, 78k, 78k-1, 78l, 78m, 78n, 78n-1, 78o, 78o-4, 
78o-10, 78p, 78q, 78q-1, 78s, 78u-5, 78w, 78x, 78dd, 78ll, 78mm, 
80a-20, 80a-23, 80a-29, 80a-37, 80b-3, 80b-4, 80b-11, 7201 et seq., 
and 8302; 7 U.S.C. 2(c)(2)(E); 12 U.S.C. 5221(e)(3); 18 U.S.C. 1350; 
and Pub. L. 111-203, 939A, 124 Stat. 1887 (2010); and secs. 503 and 
602, Pub. L. 112-106, 126 Stat. 326 (2012), unless otherwise noted.
* * * * *

Sec.  240.15Fb6-1   [Removed and Reserved].

0
4. Remove and reserve Sec.  240.15Fb6-1.

    By the Commission.

    Dated: December 19, 2018.
Brent J. Fields,
Secretary.
[FR Doc. 2019-02347 Filed 2-15-19; 8:45 am]
 BILLING CODE 8011-01-P