Source: http://www.cftc.gov/LawRegulation/FederalRegister/FinalRules/2011-18661
Timestamp: 2015-12-02 01:34:57
Document Index: 499255904

Matched Legal Cases: ['art 40', 'art 40', 'art 40', 'art 40', 'art 40', 'art 40']

Federal Register, Volume 76 Issue 144 (Wednesday, July 27, 2011)[Federal Register Volume 76, Number 144 (Wednesday, July 27, 2011)]
[Pages 44776-44800]
[FR Doc No: 2011-18661]
RIN 3038-AD07
SUMMARY: The Commodity Futures Trading Commission (``Commission'') is adopting regulations to implement certain statutory provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (``Dodd-Frank Act''). The Commission also is amending its existing regulations governing the submission of new products, rules, and rule amendments. The final regulations establish the Commission's procedural framework for the submission of new products, rules, and rule amendments by designated contract markets (``DCMs''), derivatives clearing organizations (``DCOs''), swap execution facilities (``SEFs''), and swap data repositories (``SDRs''). In addition, the final regulations prohibit event contracts involving certain excluded commodities, establish special submission procedures for certain rules proposed by systemically important derivatives clearing organizations (``SIDCOs''), and stay the certifications and the approval review periods of novel derivative products pending jurisdictional determinations.
DATES: Effective date: September 26, 2011.
FOR FURTHER INFORMATION CONTACT: Bella Rozenberg, Assistant Deputy Director, Division of Market Oversight (``DMO''), at 202-418-5119 or cftc.gov">brozenberg@cftc.gov, Riva Spear Adriance, Associate Director, DMO at 202-418-5494 or cftc.gov">radriance@cftc.gov, Phyllis Dietz, Associate Director, Division of Clearing and Intermediary Oversight at 202-418-5449 or cftc.gov">pdietz@cftc.gov, and Joseph R. Cisewski, Attorney Advisor, DMO at 202-
418-5718 or cftc.gov">jcisewski@cftc.gov, in each case, at the Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.
II. Amendments to Part 40 of the Commission's Regulations
a. Definitions (Sec. 40.1)
b. Listing Products for Trading by Certification (Sec. 40.2)
c. Voluntary Submission of New Products for Commission Review and Approval (Sec. 40.3)
d. Amendments to Terms or Conditions of Enumerated Agricultural Contracts (Sec. 40.4)
e. Voluntary Submission of Rules for Commission Review and Approval (Sec. 40.5)
f. Self-Certification of Rules (Sec. 40.6)
g. Delegations (Sec. 40.7)
h. Availability of Public Information (Sec. 40.8)
i. Special Certification Procedures for Submission of Rules by Systemically Important Derivatives Clearing Organizations (Sec. 40.10)
j. Review of Event Contracts Based Upon Certain Excluded Commodities (Sec. 40.11)
k. Staying of Certification and Tolling of Review Period Pending Jurisdictional Determination (Sec. 40.12)
III. Cost Benefit Considerations
On November 2, 2010, the Commission published proposed regulations to implement certain statutory provisions of the Dodd-Frank Act and to amend existing regulations governing the submission of new products, rules, and rule amendments.\1\ The Commission is hereby adopting final regulations 40.1 through 40.8, as amended below, and new regulations 40.10 through 40.12 to implement certain provisions of the Dodd-Frank Act, to clarify submission-related regulatory obligations of registered entities, and to enhance the Commission's administration of the Commodity Exchange Act (``Act'').
\1\ 17 CFR part 40 Provisions Common to Registered Entities, 75 FR 67282 (Nov. 2, 2010).
The Commission's final regulations implement, among other provisions, Section 745 of the Dodd-Frank Act, which, effective July 16, 2011, amended Section 5c of the Act to provide new procedures for the submission of rules and rule amendments by DCMs, SEFs, DCOs, and SDRs.\2\ The final regulations also amend existing requirements for the submission of new products and prohibit the listing and clearing of products based upon certain excluded commodities, if such products involve statutorily-specified activities or similar activities determined, by rule or regulation, to be contrary to the public interest. In addition, the Commission is adopting special submission procedures for certain risk-related rules proposed
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by SIDCOs.\3\ The SIDCO regulations implement Section 806(e)(1) of the Dodd-Frank Act by requiring, among other things, 60-days advance notice of proposed rules that may materially affect the nature or level of risk presented by the SIDCO. Finally, the Commission is adopting previously proposed regulations to stay certifications and toll approval review periods for novel derivative products subject to jurisdictional determinations by the Commission or the Securities and Exchange Commission (``SEC'').
\2\ Sections 728 and 733 of the Dodd-Frank Act created two new categories of registered entities, SEFs and SDRs. Provisions related to the regulation of these entities will be promulgated in other Commission rulemakings.
\3\ A SIDCO is a DCO that has been designated as a systematically important financial market utility by the Financial Stability Oversight Council pursuant to Section 804 of the Dodd-
Frank Act and for which the Commission is the Supervisory Agency. See below section II.i. (discussing Sec. 40.10).
Part 40 of the Commission's regulations, as amended herein, will become effective sixty days after publication in the Federal Register.
The Commission received nine comment letters during the 60-day public comment period following the publication of its notice of proposed rulemaking. Seven of these comment letters were submitted by registered entities subject to the proposed regulations. Five comments were submitted on behalf of DCMs--the CME Group, Inc. (``CME''), ICE Futures U.S., Inc. (``ICE''), the Kansas City Board of Trade (``KCBOT''), the Minneapolis Grain Exchange, Inc. (``MGEX''), and OneChicago LLC Futures Exchange (``OCX'')--and two comments were submitted on behalf of registered DCOs--the Options Clearing Corporation (``OCC'') and LCH.Clearnet Ltd (``LCH'').\4\ The Commission also received comments from the Futures Industry Association (``FIA''), an organization representing futures commission merchants, and the American Benefits Council (``ABC''), an organization representing pension funds and other buy-side swaps users.
\4\ CME also submitted a comment on the Commission's cost-
benefit analysis subsequent to the close of the public comment public for the proposed rulemaking. The Commission has addressed CME's comments in its cost-benefit analysis, below. CME, KCBOT, and MGEX are also registered DCOs and they commented on clearing-related issues.
Many of the comments received by the Commission offered specific recommendations for clarification or modification of proposed regulations; other comments generally objected to certain aspects of the proposal. The Commission, in consideration of these comments and as detailed below, is modifying its proposed rules to clarify regulatory obligations under certain provisions of part 40. The Commission has otherwise determined to implement its regulations as originally published on November 2, 2010.
Three registered entities submitted comments concerning the proposed definitions of ``rule'' and ``terms and conditions'' in Sec. 40.1 of the Commission's regulations. The Commission has determined to revise both definitions to address these comments. In addition, the Commission is adopting revised language in the definition of ``terms and conditions'' to provide specific examples of terms and conditions frequently included in swaps.
The FIA asked the Commission to consider whether an amendment to the Sec. 40.1 definition of ``rule'' might be appropriate to ensure that the Commission's regulations captured advisories, interpretations, and less formal means of communicating policies to market participants. The FIA noted that registered entities, including DCMs, may be able to circumvent regulatory obligations by issuing communications under a category not enumerated in the proposed definition of ``rule.'' The Commission notes that ``interpretations'' and ``stated policies'' are explicitly included in the present definition of ``rule'' and that the non-exclusive categories enumerated in that definition are merely examples of the types of actions that are subject to Commission review. The Commission's position has always been that the definition of ``rule'' turns more on substance than form; that is, a registered entity cannot avoid regulatory obligations by adopting what is in substance a policy or interpretation by formally issuing the communication under a category that is not enumerated in the definition of ``rule.''
The Commission nevertheless has determined to add the term ``advisory'' to the list of categories constituting ``rules'' under Sec. 40.1, which should ensure that registered entities issue advisories in compliance with all regulations applicable to ``rules.'' In consideration of the FIA's comments, the Commission also has determined to move the phrase ``in whatever form adopted'' to ensure that an addition or deletion to a communication constitutes a ``rule'' under Sec. 40.1, without regard to the particular form in which a registered entity adopts such an amendment. In this regard, the Commission is clarifying that the language ``in whatever form adopted'' applies to all non-exclusive categories of ``rules'' enumerated in Sec. 40.1 and that the enumeration of particular examples of ``rules'' does not imply the exclusion of others.
MGEX commented on the proposed definition of ``rule'' as well. In its comments, MGEX suggested that the Commission may be exceeding its authority by requiring DCMs to submit market maker and trading incentive programs as ``rules'' subject to the provisions of part 40. MGEX also commented that the terms and conditions of such programs should not be submitted to the Commission for approval, because, as a policy matter, the Commission should not substitute its judgment for ``the business judgment of the registered entities.'' Moreover, in MGEX's view, the publication of program terms and conditions could inhibit negotiations with market participants. The Commission disagrees with MGEX and, for the reasons discussed below, has determined to continue requiring registered entities to submit the complete terms and conditions of market maker and trading incentive programs to the Commission, with an appropriate request for confidential treatment.\5\
\5\ Pursuant to Sec. 145.9 of the Commission's regulation, registered entities requesting confidential treatment for program terms and conditions must, among other things, file a written justification for the confidential treatment request.
A DCM's rules implementing market maker and trading incentive programs fall within the Commission's oversight authority. Indeed, a number of core principles touch upon trading issues that may be implicated by the design of such programs. Core Principle 9, for example, establishes the Commission's framework for regulating the execution of transactions, requiring DCMs, like MGEX, to provide a competitive, open, and efficient market and mechanism for execution. The newly-amended Core Principle 12 also requires DCMs to establish and enforce rules to protect markets and market participants from abusive practices and to promote fair and equitable trading on designated contract markets. In addition, market maker and trading incentive programs frequently touch upon Core Principle 19, which requires that DCMs avoid adopting any rules or taking any actions that result in unreasonable restraints of trade.
It is not always clear in the first instance whether the rules implementing market maker and trading incentive programs have implications for a DCM's compliance with these core principles. Consequently, for many years, the Commission has required registered entities to submit the terms and conditions of all market maker and
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trading incentive programs to ensure that, among other things, they do not incentivize manipulative activities, unreasonably restrain competition on or between exchanges, or otherwise interfere with the fair and efficient functioning of the marketplace. Reviewing program rules for compliance with applicable law is not tantamount to substituting the Commission's judgment for the business judgment of the registered entity.
The Commission continues to view such programs as ``agreements * * * corresponding'' to a ``trading protocol'' within the Sec. 40.1 definition of ``rule'' and, as such, all market maker and trading incentive programs must be submitted to the Commission in accordance with procedures established in part 40. In addition, to further clarify submission obligations, the Commission intends to continue reminding each newly-designated contract market, in its designation letter, that such programs are considered ``rules'' under Sec. 40.1. The Commission would like to emphasize, however, that such programs need not be submitted to the Commission for approval, as suggested in MGEX's comment. Market maker and trading incentive programs may be submitted for approval under Sec. 40.5, but they also may be certified and submitted in accordance with the provisions of Sec. 40.6, which has been the favored process for submission of market maker and trading incentive programs to date.
In a similar comment concerning the Commission's authority to amend rules relating to margin, MGEX stated that ``DCMs and DCOs are best qualified to set margins'' in light of their ``extensive historical record for doing this well.'' MGEX recommended that the Commission provide DCOs ``the broadest latitude possible'' to establish appropriate margin rules. The Commission believes that the final definition of ``rule,'' as adopted herein--and which does not restrict the Commission's review of rules relating to margin levels--is not inconsistent with the comment submitted by MGEX. As discussed in the proposed rulemaking, Section 736 of the Dodd-Frank Act amends Section 8a(7) of the Act to permit the Commission to alter or supplement the rules of a registered DCO by issuing rules, regulations or orders regarding margin requirements. To ascertain whether or not and under what conditions to issue such rules, regulations, or orders, the Commission must be able to review rules ``relating to the setting of levels of margin'' in the first instance, although the Commission is not authorized to ``set specific margin amounts'' under Section 8a(7)(D)(iii) of the Act. The Commission's review of such rules is an appropriate exercise of its DCO oversight responsibilities and may not result in the Commission taking action under Section 8(a)(7).
Finally, OCC recommended that the Commission reconsider certain language within the proposed definition of ``terms and conditions'' in Sec. 40.1(j). Specifically, OCC suggested that the Commission delete language that would have required ``proposed swap or contract terms and conditions * * * [to] conform to industry standards or those terms and conditions adopted by comparable contracts.'' In OCC's view, novel products, by their nature, contain provisions that deviate somewhat from those in comparable contracts. The Commission, as suggested by OCC, intended to prevent registered entities from designing products that are economically identical to existing products but that have ``one or more unique features that serve no apparent purpose but to prevent fungibility.'' Given the potential adverse effect on innovation and other proposed regulatory provisions, the Commission has determined to revise the definition of ``terms and conditions'' to delete the above-cited language.
To further clarify the definition of ``terms and conditions,'' the Commission is revising Sec. 40.1(j) to differentiate between the ``terms and conditions'' generally applicable to a contract for the purchase or sale of a commodity for future delivery, or an option on such a contract or an option on a commodity--not including an option on a commodity that falls within the definition of a swap--(``commodity futures and options contracts'') in paragraph (j)(1) and the ``terms and conditions'' generally applicable to a swap in paragraph (j)(2). Some of the ``terms and conditions'' associated with commodity futures and options contracts are different from those associated with swaps and, accordingly, the revised format for identifying particular examples of ``terms and conditions'' applicable to each product type may clarify certain submission requirements that are dependent on this definition. For example, the Commission has determined to revise the introductory paragraph to the definition of ``terms and conditions'' to include language that describes a swap's underlying ``trading unit'' or ``commodity'' as a ``description of the payments to be exchanged under a swap.''
The examples of ``terms and conditions'' generally applicable to commodity futures and options contracts and contained in paragraph (j)(1) are being adopted as proposed, except that the Commission has determined to amend the definition to include ``no cancellation ranges'' within subparagraph (vi). However, as discussed above, the Commission also has determined to amend and clarify the definition of ``terms and conditions'' by separating those terms and conditions generally applicable to commodity futures and options contracts from those generally applicable to swaps.\6\ Accordingly, the new and final Sec. 40.1(j)(2) provides examples of ``terms and conditions'' frequently associated with swaps,\7\ which the Commission has determined to clarify and/or renumber as follows:
\6\ The examples of terms and conditions proposed as paragraphs (j)(1)-(14) are being renumbered as paragraphs (j)(1)(i) through (xiv) to reflect the inclusion of paragraph (j)(2) for swaps.
\7\ The Commission notes that the definition of ``swap'' in Section 1a(47)(A)(i) of the Act includes an option (``any agreement, contract or transaction (i) that is a put, call, cap, floor, collar, or similar option of any kind that is for the purchase or sale, or based on the value of 1, or more interest or other rates, currencies. * * *''
Paragraph (j)(2)(i) defines as a ``term'' or ``condition'' the ``identification of the major group, category, type or class in which the swap falls'' and ``any further sub-group, category, type or class that further describes the swap.'' \8\ To clarify the meaning of this phrase, a parenthetical lists ``interest rate, commodity, credit, or equity'' swaps as non-exclusive examples of major swap groups. This is equivalent to a description of the ``quality and other standards that define the commodity or instrument underlying the contract'' applied to commodity futures and options contracts in Sec. 40.1(j)(1)(i);
\8\ The terminolory used in this provision, i.e., ``group, category, type, or class,'' is used to describe swaps in section 723 of the Dodd-Frank Act, codified in section 2(h)(2) of the Act, regarding the review of swaps for a mandatory clearing determination. See also proposed Sec. 39.5 (process for review of swaps for mandatory clearing; 75 FR 67277 (Nov. 2, 2010)).
Paragraph (j)(2)(ii) refers to ``[n]otional amounts, quantity standards, or other unit size characteristics.'' This provision, as proposed in paragraph (j)(15)(i), previously referred only to ``notional values.'' The revision clarifies that there may be more than one way to state the size of a swap;
Paragraphs (j)(2)(iii) (any applicable premiums or discounts for delivery of nonpar products) and (iv) (trading hours and the listing of swaps) are parallel to paragraphs (j)(1)(iii) and (iv), which are applicable to commodity futures and options contracts;
Paragraph (j)(2)(v) for swaps, like paragraph (j)(1)(v) for commodity
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futures and options contracts, addresses the pricing basis of the instrument. It refers to ``pricing basis for establishing the payment obligations under, and mark-to-market value of, the swap including, as applicable, the accrual start dates, termination or maturity dates, and, for each leg of the swap, the initial cash flow components, spreads, and points, and the relevant indexes, prices, rates, coupons, or other price reference measures.'' This incorporates the provisions of proposed paragraphs (j)(15)(iii) (indexes), (iv) (relevant prices, rates or coupons), (vi) (initial cash flow components), and (x) (spreads and points). The Commission notes that other ``price reference measures'' could include any factor that might have a bearing on the price of a swap, including pricing curves, reference prices, reference entities or obligations, reference currencies, disruption fallbacks, or, given the variety of existing and potential swap products, any