[Federal Register Volume 75, Number 244 (Tuesday, December 21, 2010)]
[Proposed Rules]
[Pages 79992-80011]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-31973]
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SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 240
[Release No. 34-63556; File No. S7-43-10]
RIN 3235-AK88
End-User Exception to Mandatory Clearing of Security-Based Swaps
AGENCY: Securities and Exchange Commission.
ACTION: Proposed rule.
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SUMMARY: In accordance with the Dodd-Frank Wall Street Reform and
Consumer Protection Act of 2010 (``Dodd-Frank Act''), the Securities
and Exchange Commission (``Commission'') is proposing new Rule 3Cg-1
under the Securities Exchange Act of 1934 (``Exchange Act'') governing
the exception to mandatory clearing of security-based swaps available
for counterparties meeting certain conditions. The Commission is
requesting comments on the proposed rule and related matters.
DATES: Comments must be received on or before February 4, 2011.
ADDRESSES: Comments may be submitted by any of the following methods:
Electronic Comments
Use the Commission's Internet comment form (http://www.sec.gov/rules/proposed.shtml); or
Send an e-mail to [email protected]. Please include
File No. S7-43-10 on the subject line; or
Use the Federal eRulemaking Portal (http://www.regulations.gov). Follow the instructions for submitting comments.
Paper Comments
Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090.
All submissions should refer to File No. S7-43-10. This file number
should be included on the subject line if e-mail is used. To help us
process and review your comments more efficiently, please use only one
method. The Commission will post all comments on the Commission's
Internet Web site (http://www.sec.gov/rules/proposed.shtml). Comments
are also available for Web site viewing and printing in the
Commission's Public Reference Room, 100 F Street, NE., Washington, DC
20549 on official business days between the hours of 10 a.m. and 3 p.m.
All comments received will be posted without change; we do not edit
personal identifying information from submissions. You should submit
only information that you wish to make available publicly.
FOR FURTHER INFORMATION CONTACT: Peter Curley, Attorney Fellow, at
(202) 551-5696, or Andrew Blake, Special Counsel, at (202) 551-5846,
Division of Trading and Markets, Securities and Exchange Commission,
100 F Street, NE., Washington, DC 20549-7010.
SUPPLEMENTARY INFORMATION: In accordance with Section 763(a) of Title
VII (``Title VII'') of the Dodd-Frank Wall Street Reform and Consumer
Protection Act of 2010, the Commission is proposing Rule 3Cg-1 under
the Exchange Act to govern the exception to mandatory clearing of
security-based swaps available to counterparties to security-based
swaps meeting certain conditions. The Commission is soliciting comments
on all aspects of the proposed rule and alternative rule language and
will carefully consider any comments received.
I. Introduction
On July 21, 2010, the President signed the Dodd-Frank Act into
law.\1\ The Dodd-Frank Act was enacted to, among other purposes,
promote the financial stability of the United States by improving
accountability and transparency in the financial system.\2\ Title VII
of the Dodd-Frank Act provides the Commission and the Commodity Futures
Trading Commission (``CFTC'') with the authority to regulate over-the-
counter (``OTC'') derivatives in light of the recent financial crisis,
which demonstrated the need for enhanced regulation in the OTC
derivatives market.
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\1\ The Dodd-Frank Wall Street Reform and Consumer Protection
Act, Pub. L. No. 111-203, 124 Stat. 1376 (2010).
\2\ See Public Law 111-203, Preamble.
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The Dodd-Frank Act provides that the CFTC will regulate ``swaps,''
the Commission will regulate ``security-based swaps,'' and the CFTC and
the Commission will jointly regulate ``mixed swaps.'' \3\ The Dodd-
Frank Act amends
[[Page 79993]]
the Exchange Act \4\ to require, among other things, the following: (1)
Transactions in security-based swaps must be cleared through a clearing
agency if they are of a type that the Commission determines must be
cleared, unless an exemption from mandatory clearing applies; \5\ (2)
transactions in security-based swaps must be reported to a registered
security-based swap data repository (``SDR'') or the Commission; \6\
and (3) if a security-based swap is subject to a clearing requirement,
it must be traded on a registered exchange or a registered or exempt
security-based swap execution facility, unless no facility makes such
security-based swap available for trading.\7\
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\3\ Section 712(d) of the Dodd-Frank Act provides that the
Commission and the CFTC, in consultation with the Board of Governors
of the Federal Reserve System (``Federal Reserve''), shall jointly
further define the terms ``swap,'' ``security-based swap,'' ``swap
dealer,'' ``security-based swap dealer,'' ``major swap
participant,'' ``major security-based swap participant,'' ``eligible
contract participant,'' and ``security-based swap agreement.'' These
terms are defined in Sections 721 and 761 of the Dodd-Frank Act and,
with respect to the term ``eligible contract participant,'' in
Section 1a(18) of the Commodity Exchange Act (``CEA''), 7 U.S.C.
1a(18), as re-designated and amended by Section 721 of the Dodd-
Frank Act. See Exchange Act Release Nos. 62717 (Aug. 13, 2010), 75
FR 51429 (Aug. 20, 2010) (File No. S7-16-10) (advance joint notice
of proposed rulemaking regarding definitions contained in Title VII
of the Dodd-Frank Act) (``Definitions Release''); 63452 (Dec. 7,
2010) (``Definitions Proposing Release'').
\4\ All references to the Exchange Act contained in this release
refer to the Securities Exchange Act of 1934, as amended by the
Dodd-Frank Act.
\5\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C).
\6\ See Public Law 111-203, sec. 763(i) and sec. 766(a) (adding
Exchange Act Sections 13(m)(1)(G) and 13A(A)(1), respectively).
\7\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C). See also Public Law 111-203, sec. 761 (adding Exchange
Act Section 3(a)(77) (defining the term ``security-based swap
execution facility'').
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The Dodd-Frank Act seeks to ensure that, wherever possible and
appropriate, derivatives contracts formerly traded exclusively in the
OTC market be cleared.\8\ One key way in which the Dodd-Frank Act
promotes clearing of such contracts is by setting forth a process by
which the Commission would determine whether a security-based swap is
required to be cleared; if the Commission makes a determination that a
security-based swap is required to be cleared, then parties may not
engage in such security-based swap without submitting it for clearing
unless an exception applies.
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\8\ See, e.g., Report of the Senate Committee on Banking,
Housing, and Urban Affairs regarding The Restoring American
Financial Stability Act of 2010, S. Rep. No. 111-176 at 34 (stating
that ``[s]ome parts of the OTC market may not be suitable for
clearing and exchange trading due to individual business needs of
certain users. Those users should retain the ability to engage in
customized, uncleared contracts while bringing in as much of the OTC
market under the centrally cleared and exchange-traded framework as
possible.'').
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Standards for mandatory clearing of security-based swaps are
established by Exchange Act Section 3C(a)(1).\9\ The purpose of
mandatory clearing of security-based swap products is to centralize
individual counterparty risks through a clearing agency acting as a
central counterparty that distributes risk among the clearing agency's
participants. Exchange Act Section 3C(g) provides that a security-based
swap otherwise subject to mandatory clearing is not required to be
cleared if one party to the security-based swap is not a financial
entity, is using security-based swaps to hedge or mitigate commercial
risk, and notifies the Commission, in a manner set forth by the
Commission, how it generally meets its financial obligations associated
with entering into non-cleared security-based swaps (the ``end-user
clearing exception'').\10\ Though beneficial for reasons such as those
described above, mandatory clearing of security-based swaps may also
alter the burdens on non-financial end-users of derivatives relative to
bilateral transactions, and thereby possibly affect their risk
management practices.\11\ Exchange Act Section 3C(g) is designed to
permit non-financial end-users that meet the specified conditions to
elect not to centrally clear security-based swaps and retain
flexibility to use both cleared and non-cleared security-based swaps in
their risk management activities.
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\9\ See Exchange Act Release No. 63557 (Dec. 15, 2010)
(``Mandatory Clearing Release'').
\10\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)). This clearing exception is elective. When trading
with a security-based swap dealer and a major security-based swap
participant, counterparties that are not swap dealers, security-
based swap dealers, major swap participants or major security-based
swap participants have the right to forgo the end-user clearing
exception and require clearing for a security-based swap that is
subject to a Commission clearing mandate. These counterparties are
granted a similar right when a security-based swap has been listed
for clearing, but is not the subject of a Commission clearing
mandate. See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(5)). The choice to require or forgo clearing is solely
at the non-financial counterparty's discretion. See Public Law 111-
203, sec. 763(a) (adding Exchange Act Section 3C(g)(2)).
\11\ Burdens that may rest upon non-financial end-users arising
from central clearing could include clearing fees and the
requirement to post initial and variation margin. The net cost of
these burdens to non-financial end-users is expected to vary. In
particular, the final net cost to non-financial end-users would also
need to account for the fees and charges of dealers and other
counterparties to security-based swaps with non-financial end-users
and for any bilateral margin or other collateral requirements
established in connection with such transactions. As a result, it is
possible that the costs for an end-user to engage in a centrally
cleared transaction may be less than for comparable bilateral
transactions in some circumstances. The Commission is requesting
comments on the costs experienced by non-financial end-users in
connection with both cleared and non-cleared security-based swaps.
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The Dodd-Frank Act provides the Commission with authority to adopt
rules governing the end-user clearing exception and to prescribe rules,
issue interpretations or request information from persons claiming the
end-user clearing exception necessary to prevent abuse of the
exception.\12\ The Commission is also required to consider whether to
exempt small banks, savings associations, farm credit system
institutions and credit unions from the definition of ``financial
entity'' contained in Exchange Act Section 3C(g)(3)(A). The Commission
is proposing Rule 3Cg-1 under the Exchange Act to specify requirements
for using the exception to mandatory clearing of security-based swaps
established by Exchange Act Section 3C(g), together with proposed
alternative language to provide an exemption for small banks, savings
associations, farm credit system institutions and credit unions.
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\12\ See Public Law 111-203, sec. 712(f). See also Pub. L. No.
111-203, sec. 763(a) (adding Exchange Act Section 3C(g)(6)).
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II. Description of Proposed Rule
A. Notification to the Commission
In order to qualify for the end-user clearing exception, a non-
financial entity \13\ that uses security-based swaps to hedge or
mitigate commercial risk must notify the Commission how it generally
meets its financial obligations associated with non-cleared security-
based swaps.\14\ The Exchange Act authorizes the Commission to
establish rules regarding such notification as well as to prescribe
rules as may be necessary
[[Page 79994]]
to prevent abuse of the end-user clearing exception.\15\ The Commission
is proposing Rule 3Cg-1 to require non-financial entities to notify the
Commission each time the end-user clearing exception is used by
delivering certain information to an SDR in the manner required by
proposed Exchange Act Regulation SBSR.\16\ The Commission believes that
receiving a notification for each transaction may provide for a more
complete picture regarding how end-users meet their financial
obligations based on the transactions in which they engage. The
specified additional information would be delivered to the SDR by the
reporting party defined in proposed Regulation SBSR (the ``Reporting
Party'') \17\ together with other information regarding the security-
based swap separately required by proposed Regulation SBSR. Under the
applicable requirements of proposed Regulation SBSR, the additional
information required by proposed Rule 3Cg-1 would be delivered to the
SDR in the same electronic format established by the SDR for purposes
of proposed Regulation SBSR,\18\ promptly after the security-based swap
transaction is executed, which for information of this kind would be no
later than:
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\13\ Exchange Act Section 3C(g)(1)(A) limits availability of the
end-user clearing exception to circumstances when one of the
counterparties to the security-based swap is not a financial entity.
The term financial entity is defined in Section 3C(g)(3)(A) of the
Exchange Act, and includes the following eight entities: (i) A swap
dealer; (ii) a security-based swap dealer; (iii) a major swap
participant; (iv) a major security-based swap participant; (v) a
commodity pool as defined in section 1a(10) of the Commodity
Exchange Act; (vi) a private fund as defined in section 202(a) of
the Investment Advisers Act of 1940 (15 U.S.C. 80-b-2(a)); (vii) an
employee benefit plan as defined in paragraphs (3) and (32) of
section 3 of the Employee Retirement Income Security Act of 1974 (29
U.S.C. 1002); or (viii) a person predominantly engaged in activities
that are in the business of banking or financial in nature, as
defined in section 4(k) of the Bank Holding Company Act of 1956.
Four of these terms, ``swap dealer'', ``major swap participant'',
``security-based swap dealer'' and ``major security-based swap
participant'' are themselves the subject of current proposed joint
rulemaking by the Commission and the CFTC. Definitions Proposing
Release, supra note 3.
\14\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(1)(C)).
\15\ See Public Law 111-203, sec. 712(f) and sec. 763(a) (adding
Exchange Act Sections 3C(g)(1)(C) and 3C(g)(6)).
\16\ See Exchange Act Release No. 63346 (Nov. 18, 2010), 75 FR
75208 (Dec. 2, 2010) (``Regulation SBSR Proposing Release'').
Regulation SBSR contemplates that information may be delivered to
the Commission directly in limited circumstances when an SDR is not
available. When permitted by Regulation SBSR, such delivery would
also meet the end-user clearing exception notice requirement.
Persons wishing to comment on the requirements of proposed
Regulation SBSR should submit comments pursuant to the Regulation
SBSR Proposing Release.
\17\ Proposed Exchange Act Rule 901(a) under Regulation SBSR
defines which of the parties to a security-based swap will be
designated the Reporting Party for these purposes. See id.
\18\ See id. (proposed Rules 901(h) and 907(a)(2) of proposed
Regulation SBSR).
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15 minutes after the time of execution for a security-
based swap that is executed and confirmed electronically;
30 minutes after the time of execution for a security-
based swap that is confirmed electronically but not executed
electronically; or
24 hours after execution for a security-based swap that is
not executed or confirmed electronically.\19\
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\19\ See id. (proposed Rule 901(d)(2) of proposed Regulation
SBSR).
The information delivered to the SDR pursuant to Rule 3Cg-1 would need
to be accurate as of the date and time the information is delivered to
the SDR.\20\ The Commission believes that this requirement should
improve transaction efficiency by allowing notification to be made in a
manner consistent with other transaction reporting requirements being
developed pursuant to the Dodd-Frank Act. The timing requirements
should also ensure the Commission has up to date information as of the
time of submission.
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\20\ See id. (for each security-based swap transaction made in
reliance on the end-user clearing exception, proposed Rule
901(d)(1)(ix) under Regulation SBSR requires parties to a security-
based swap to indicate whether or not the end-user clearing
exception is being invoked when reporting transaction information to
an SDR as required by Exchange Act Section 13(m)(1)(F). The
information required under proposed Exchange Act Rule 3Cg-1 is
separate from these requirements but would be delivered to the SDR
by the Reporting Party in the same manner as required by proposed
Regulation SBSR).
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1. Meeting Financial Obligations
A non-financial entity invoking the end-user clearing exception
must notify the Commission of ``how it generally meets its financial
obligations associated with non-cleared security-based swaps''
(``Financial Obligation Notice'').\21\ Under existing market practices,
counterparties to security-based swaps regularly use forms of
collateral support both to create incentives for obligors to meet their
financial obligations under the agreements and to provide themselves
with access to some asset of value that can be sold or the value of
which can be applied in the event of default.\22\ Though not required
by Exchange Act Section 3C(g), such individualized credit arrangements
between counterparties in bilateral security-based swap transactions
can be important components of risk management consistent with the
policy rationale of ensuring that the end-user clearing exception is
reasonably available to non-financial entities hedging or mitigating
commercial risks.\23\
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\21\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(1)(C)).
\22\ See ISDA Collateral Steering Committee, Market Review of
OTC Derivative Bilateral Collateralization Practices (2.0), (March
1, 2010) (available at http://www.isda.org/c_and_a/pdf/Collateral-Market-Review.pdf) (``ISDA Collateralization Practices'')
(explaining credit risk, methods of risk mitigation and the context
for collateralization as a risk reduction technique).
\23\ See 156 Cong. Rec. S6192 (daily ed. July 22, 2010) (letter
from Sen. Dodd and Sen. Lincoln to Rep. Frank and Rep. Peterson (the
``Dodd-Lincoln Letter'')).
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However, a principal feature distinguishing cleared security-based
swaps from non-cleared security-based swaps is that non-cleared
security-based swaps do not provide a uniform method of mitigating such
counterparty credit risk.\24\ Given this lack of uniformity, proposed
Rule 3Cg-1(a)(5) would require a counterparty relying on the end-user
clearing exception to provide certain information as part of its
notification to the Commission regarding the methods used to mitigate
credit risk in connection with non-cleared security-based swaps. If
more than one method is used then information must be provided
regarding each applicable method. Notification of all methods, as
proposed in proposed Rule 3Cg-1(a)(5), would provide the Commission
with more complete information regarding the risk characteristics of
non-cleared security-based swaps used by non-financial entities to
hedge or mitigate commercial risk.
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\24\ See ISDA Collateralization Practices, supra note 22
(describing methods of risk mitigation used in connection with OTC
Derivatives and key legal foundations supporting collateralization).
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Proposed Rule 3Cg-1(a)(5)(i) requires notification to the
Commission regarding whether a credit support agreement is being used
in connection with the non-cleared security-based swap. For these
purposes, the term credit support agreement refers to any agreement, or
annex, amendment or supplement to another agreement, which contemplates
the periodic transfer of specified collateral to or from another party
to support payment obligations associated with the security-based swap.
Agreements of this kind are frequently used to mitigate the
counterparty credit risk of security-based swaps and other derivatives
that are not centrally cleared, but the use of such arrangements may be
more or less common among certain types of counterparties and for
certain types of security-based swaps.\25\ The proposed notification
would provide the Commission with information regarding the extent to
which credit support agreements are used by non-financial entities to
support their financial obligations associated with non-cleared
security-based swaps.
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\25\ See ISDA Collateralization Practices, supra note 22. See
also ISDA, ISDA Margin Survey 2010 (available at http://www.isda.org/c_and_a/pdf/ISDA-Margin-Survey-2010.pdf) (``ISDA
Margin Survey 2010'') (describing collateralization levels for
derivatives transactions by counterparty type, product type and
types of collateral received).
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Proposed Rule 3Cg-1(a)(5)(ii) requires notification to the
Commission regarding whether the financial obligations associated with
the non-cleared security-based swap are secured by collateral pledged
under a written security arrangement not requiring the transfer of
possession of collateral to either of the security-based swap
counterparties. Examples of this type of
[[Page 79995]]
arrangement include, but are not limited to, (i) agreements granting
security interests over property of the reporting person, whether or
not such security interests are perfected by the filing of a mortgage,
financing statements or similar documents, and (ii) agreements to
transfer assets to collateral agents or escrow agents acting pursuant
to instructions agreed by both parties to a security-based swap. While
such arrangements may be somewhat less commonly used to mitigate credit
risk associated with non-cleared security-based swaps, the Commission
preliminarily believes these methods may have particular importance for
certain categories of non-financial entities, such as enterprises with
high levels of fixed assets relative to cash flows.\26\ Accordingly,
the Commission preliminarily considers it appropriate to separately
categorize this information in the data proposed to be collected.
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\26\ See ISDA Margin Survey 2010, supra note 25, at 9 (noting
types of non-ISDA collateral agreements used and frequency of use).
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Proposed Rule 3Cg-1(a)(5)(iii) requires notification to the
Commission regarding whether the financial obligations associated with
the non-cleared security-based swap are guaranteed by a person or
entity other than the counterparty invoking the end-user clearing
exception. The proposed notification would provide the Commission with
information regarding the manner in which financial obligations are met
by providing information regarding the use of guarantees by third
parties (such as parent companies, affiliated parties or others) in
meeting financial obligations associated with non-cleared security-
based swaps.\27\
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\27\ See ISDA Collateralization Practices, supra note 22, at 20
(identifying master cross-netting and cross-guarantee structures as
common credit risk mitigation practices); see also ISDA 2002 Master
Agreement, Multicurrency--Cross Border Schedule, Part 4(f)
(contemplating bank letters of credit and third party guarantees as
credit support documents).
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Proposed Rule 3Cg-1(a)(5)(iv) requires notification to the
Commission regarding whether the counterparty invoking the end-user
clearing exception intends to meet its obligations associated with the
security-based swap solely by utilizing available financial resources
(i.e., its general creditworthiness).\28\ Financial resources that
might be available to meet obligations associated with non-cleared
security-based swaps may include any number of sources, including
existing assets, investments and cash balances, cash flow from
operations, short-term and long-term lines of credit and capital market
sources of funding.
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\28\ For a variety of reasons one or both of the counterparties
to some non-cleared security-based swaps may choose not to mitigate
credit risk and instead rely on the general creditworthiness of
their opposite counterparty, given the circumstances and financial
terms of the transaction. See, e.g., Office of the Comptroller of
Currency, Risk Management of Financial Derivatives, Comptroller's
Handbook, at 50 (Jan. 1997) (available at http://www.occ.gov/static/publications/handbook/deriv.pdf) (contemplating that evaluations of
individual counterparty credit limits should aggregate limits for
derivatives with credit limits established for other activities,
including commercial lending).
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Proposed Rule 3Cg-1(a)(5)(v) requires notification to the
Commission regarding whether the counterparty invoking the end-user
clearing exception intends to employ means other than those described
in proposed Rules 3Cg-1(a)(5)(i), (ii), (iii), or (iv) to meet its
financial obligations associated with a security-based swap. This item
is intended to separately categorize all other methods that may be used
in the markets today or that may develop in the future for meeting
obligations associated with non-cleared security-based swaps relying on
the end-user clearing exception to provide a clearer picture of the
manner in which an end-user is meeting its financial obligations. The
Commission anticipates many entities would meet their financial
obligations through one of the specific methods listed in Rule 3Cg-
1(a)(5)(i), (ii), (iii), or (iv). The information collected pursuant to
proposed Rule 3Cg-1(a)(5)(v), however, may allow the Commission to gain
greater insight regarding the potential existence of other means for
meeting financial obligations, as well as whether there is a
significant number of transactions that would justify more granular
rules concerning the manner in which end-users are meeting their
financial obligations in the future with respect to whether and how
end-users are using other credit risk mitigating methodologies to
support meeting their financial obligations associated with non-cleared
security-based swaps.
2. Preventing Abuse of the End-User Clearing Exception
The remaining items of information required by proposed Rule 3Cg-1,
specifically proposed Rules 3Cg-1(a)(1), (2), (3), (4) and (6), are
designed to affirm compliance with particular requirements of Exchange
Act Section 3C(g) or otherwise produce information necessary to aid the
Commission in its efforts to prevent abuse of the end-user clearing
exception as contemplated by Exchange Act Section 3C(g)(6).\29\
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\29\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(6)). See also Public Law 111-203, sec. 764 (adding
Exchange Act Section 15F of the Exchange Act creating new business
conduct standards applicable to interactions of security-based swap
dealers and major security-based swap participants with other
counterparties).
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Proposed Rule 3Cg-1(a)(1) requires identifying which of the
counterparties to the security-based swap is invoking the end-user
clearing exception. At least one counterparty must be identified for
each security-based swap that will rely on the end-user clearing
exception. When both counterparties to a security-based swap are non-
financial entities and meet the other requirements of the end-user
clearing exception, both parties may choose to use the exception and
provide the required information to the SDR.
Proposed Rule 3Cg-1(a)(2) requires information to be provided
regarding the status of the counterparty invoking the end-user clearing
exception as a non-financial entity under Section 3C(g)(3) of the
Act.\30\ This information is being solicited because the exception to
mandatory clearing of security-based swaps under Exchange Act Section
3C(g) is only available to persons that are not financial entities, or
are affiliates of non-financial entities satisfying the requirements of
Exchange Act Section 3C(g)(4).
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\30\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(3)).
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Proposed Rule 3Cg-1(a)(3) requires information to be provided
regarding whether the counterparty invoking the end-user clearing
exception is an affiliate of another person qualifying for the
exception under Exchange Act Section 3C(g), and satisfies the
additional requirements of Exchange Act Section 3C(g)(4).\31\ Section
3C(g)(4) of the Exchange Act contains a number of provisions specially
designed for finance affiliates of persons qualifying for the end-user
clearing exception, and among other things does not permit finance
affiliates that are themselves swap dealers, security-based swap
dealers, major swap participants, major security-based swap
participants or certain other defined categories of entities to use the
end-user clearing exception as an agent for another entity in any
circumstances.\32\ Given these
[[Page 79996]]
additional features, the Commission preliminarily believes it is
appropriate to separately categorize security-based swaps transacted by
finance affiliates in particular in order to aid the Commission in its
efforts to prevent abuse of the end-user clearing exception by being
able to readily identify entities that qualify as financial entities
and are participating in the use of the exception.
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\31\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(4)).
\32\ Exchange Act Section 3C(g)(4)(A) provides that affiliates
of persons qualifying for the end-user clearing exception will also
qualify for the end-user clearing exception if the affiliate (1)
acts on behalf of the person and as agent, (2) uses the security-
based swap to hedge or mitigate commercial risk of that person or
another affiliate of that person that is not a financial entity as
defined in Exchange Act Section 3C(g)(3), and (3) is not itself one
of seven entities defined in Exchange Act Section 3C(g)(4)(B). See
Public Law 111-203, sec. 763(a) (adding Exchange Act Section
3C(g)(4)(A)). The seven entities are: (i) A swap dealer; (ii) a
security-based swap dealer; (iii) a major swap participant; (iv) a
major security-based swap participant; (v) an issuer that would be
an investment company, as defined in section 3 of the Investment
Company Act of 1940 (15 U.S.C. 80a-3), but for paragraph (1) or (7)
of subsection c of that Act (15 U.S.C. 80a-3(c)); (vi) a commodity
pool; or (vii) a bank holding company with over $50,000,000,000 in
consolidated assets. See Public Law 111-203, sec. 763(a) (adding
Exchange Act Section 3C(g)(4)(B)). In addition, an affiliate,
subsidiary, or wholly owned entity of a person that qualifies for an
exception under Exchange Act Section 3C(g)(4)(A) and which is
predominantly engaged in providing financing for the purchase or
lease of merchandise or manufactured goods of the person shall be
exempt from both the margin requirements described in Exchange Act
Section 15F(e) and the clearing requirement in Exchange Act Section
3C(a), provided that the security-based swaps in question are
entered into to mitigate the risk of the financing activities. See
Public Law 111-203, sec. 763(a) (adding Exchange Act Section
3C(g)(4)(C)).
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Proposed Rule 3Cg-1(a)(4) requires information to be provided
regarding whether the counterparty invoking the end-user clearing
exception uses the security-based swap being reported to hedge or
mitigate commercial risk. The exception to mandatory clearing of
security-based swaps pursuant to Section 3C(g) of the Exchange Act is
only available to persons that use security-based swaps to hedge or
mitigate commercial risk. The Commission has proposed to adopt Exchange
Act Rule 3a67-4 to define the meaning of hedging or mitigating
commercial risk for these purposes.\33\
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\33\ See infra notes 49-51 and accompanying text.
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Proposed Rule 3Cg-1(a)(6) requires all counterparties invoking the
end-user clearing exception to indicate whether they are an issuer of
securities registered under Exchange Act Section 12 or required to file
reports pursuant to Exchange Act Section 15(d) (``SEC Filer'').\34\
Under Exchange Act Section 3C(i), the exception to mandatory clearing
of security-based swaps pursuant to Exchange Act Section 3C(g) is
available to SEC Filers only if an appropriate committee of the
issuer's board of directors or governing body has reviewed and approved
the issuer's decision to enter into security-based swaps that are
subject to the exception.\35\ When the counterparty invoking the end-
user clearing exception is an SEC Filer, two additional items of
information must be provided:
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\34\ For these purposes, a counterparty invoking the end-user
clearing exception is considered by the Commission to be an issuer
of securities registered under Exchange Act Section 12 or required
to file reports pursuant to Exchange Act Section 15(d) if it is
controlled by a person that is an issuer of securities registered
under Exchange Act Section 12 or required to file reports pursuant
to Exchange Act Section 15(d). See Rule 1-02(x) of Regulation S-X,
17 CFR 210.1-02(x) (defining subsidiary for purposes of the
financial statements required to be filed as part of registration
statements under Section 12, and annual and other reports under
Exchange Act Sections 13 and 15(d)).
\35\ See Public Law 111-203, Sec. 763(a) (adding Exchange Act
Section 3C(i). For these purposes, the Commission considers a
committee to be appropriate if it is specifically authorized to
review and approve the issuer's decisions to enter into security-
based swaps).
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Proposed Rule 3Cg-1(a)(6)(i) requires an SEC Filer
invoking the end-user clearing exception to specify its SEC Central
Index Key number. Collection of this information will allow the
Commission to cross reference materials filed with the relevant SDR
with information in periodic reports and other materials filed by the
SEC Filer with the Commission.\36\
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\36\ Exchange Act Section 3C(i) contemplates board review and
approval of the decision to enter into the swap that is subject to
the exemption. See Item 305 of Regulation S-K, 17 CFR 229.305.
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Proposed Rule 3Cg-1(a)(6)(ii) requires confirmation that
an appropriately authorized committee of the board of directors or
equivalent governing body of the SEC Filer invoking the clearing
exception has reviewed and approved the decision to enter the security-
based swap subject to the end-user clearing exception.\37\ The
Commission preliminarily believes collection of this information is
appropriate to promote compliance with the requirements of the end-user
clearing exception.
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\37\ For example, a board resolution or an amendment to a board
committee's charter could expressly authorize such committee to
review and approve decisions of the reporting person not to clear
the security-based swap being reported. In turn, such board
committee also could adopt policies and procedures regarding the
review and approval required by Exchange Act Section 3C(i), which
may include periodic consideration of the relative costs, risk
management characteristics and other features of cleared and non-
cleared security-based swaps.
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Request for Comment
The Commission generally requests comments on all aspects of
proposed Rule 3Cg-1. Additionally, the Commission requests comments on
the following specific issues:
Is it sufficiently clear what information the Commission
is requiring to be reported under proposed Rule 3Cg-1? If not, why not?
Are there clarifications or instructions the Commission could adopt
that would be useful for parties seeking to invoke the end-user
clearing exception? If so, what are they and what would be the benefits
of adopting them?
Would it be difficult or prohibitively expensive for
counterparties to report the information required under the proposed
Rule 3Cg-1? If so, why?
Should the Commission require more or less frequent
notifications to the Commission than are currently contemplated by
proposed Rule 3Cg-1? What other types of notifications should the
Commission consider and what would be the potential frequency
associated with such notifications? Are the requirements that the
information provided under the proposal be accurate as of the date and
time the information is provided to the SDR appropriate? Should the
Commission consider any other time frame for accuracy of information?
If so, what time frame should the Commission consider and what would be
the advantages or disadvantages of such time frame?
Should the Commission consider collecting more or less
information than it has proposed to collect in connection with the
Financial Obligation Notice? Is other information needed to achieve the
purposes of the Dodd-Frank Act with respect to how an end-user meets
its financial obligations or in order to prevent evasion of the end-
user clearing exception? For example, is it necessary or appropriate
for the Commission to collect:
[cir] Additional information from that proposed regarding the
credit support agreement and the collateral practices under the
agreement, such as the level of margin collateral outstanding (e.g.,
less than or equal to a specified dollar amount, or greater than a
series of progressively higher dollar amounts) or the frequency of
portfolio reconciliation?
[cir] Additional information from that proposed regarding the types
of collateral provided (e.g., cash, government securities, other
securities, other collateral) by an end-user and the effect of the
liquidity of such collateral on the ability of the end-user to meet its
financial obligations?
[cir] Additional information from that proposed regarding specific
terms of the credit support agreement, such as whether the collateral
requirements are unilateral or bilateral provisions and whether there
are contractual terms triggered by changes in the credit rating or
other financial circumstances of one or both of the counterparties?
[cir] Additional information from that proposed about the
guarantor, such as whether or not the guarantor is a parent
[[Page 79997]]
or affiliate of the person invoking the end-user clearing exception?
[cir] Additional information from that proposed regarding the
assets pledged, such as the type of security interest or the type of
property being used as collateral?
[cir] Additional information from that proposed regarding the
segregation arrangements, such as the identity of the collateral agent
or other third party involved in the arrangement, and information
regarding whether the arrangement involves a custodial, tri-party or
different type of relationship?
[cir] Additional information from that proposed regarding the
adequacy of other means being used, or the adequacy of the financial
resources available, to meet the financial obligations associated with
the non-cleared security-based swap?
[cir] Additional information from that proposed regarding the
review and approval by the appropriate committee of the SEC Filer's
board or governing body of the issuer's decision to enter into the
security-based swap subject to the end-user clearing exception, such as
information provided to the committee and/or a summary of the policies
and procedures used by the committee in practice?
Are each of the terms used in Exchange Act Section
3C(g)(4) sufficiently clear to permit compliance with proposed Rule
3Cg-1 by affiliates invoking the end-user clearing exception? Should
the Commission adopt more specific requirements to implement the
provisions of Exchange Act 3C(g)(4)? Should the Commission provide
further guidance on terms used in Exchange Act Section 3C(g)(4), such
as the meaning of the term ``predominantly engaged''? If so, what
specific rules or guidance should the Commission consider and what
would be the benefits of adopting them?
Are the requirements of Exchange Act Section 3C(i)
sufficiently clear to permit compliance with proposed Rule 3Cg-1 by
parties invoking the end-user clearing exception? Should the Commission
adopt more specific requirements to implement the provisions of
Exchange Act 3C(i)? For example, should the Commission adopt provisions
to specify the membership or other characteristics of the board
committee, such as that a majority of the committee, or the entire
committee, consist of independent directors? Should the Commission
adopt provisions to clarify the steps that should be taken by board
committees reviewing and approving an SEC Filer's decision to enter
into security-based swaps subject to the end-user clearing exception?
If so, what specific rules should the Commission consider and what
would be the benefits or disadvantages of adopting them? Should the
review and approval contemplated by Exchange Act Section 3C(i) include
a review and approval of the SEC Filer's decisions by a board committee
(1) Composed of a majority of independent directors, (2) that has
adopted procedures pursuant to which security-based swap transactions
that are subject to the end-user clearing exception may be entered into
by the company, which are reasonably designed to facilitate a risk
management policy that has been approved by the board or an appropriate
committee, (3) that makes and approves such changes to the policy as
the committee deems necessary, and (4) determines no less frequently
than quarterly that all security-based swap transactions entered into
during the preceding quarter subject to the end-user clearing exception
were effected in compliance with such procedures? \38\ Are there other
Commission rules concerning board approvals that may be useful models
for the review and approval contemplated by Exchange Act Section 3C(i)?
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\38\ Cf., 17 CFR 270.17a-7(e) (Rule 17a-7(e) under the
Investment Company Act of 1940).
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Is the meaning of the term ``issuer of securities'' as
used in Exchange Act Section 3C(i) sufficiently clear? Is there a
better alternative that the Commission should consider?
Should the Commission consider requiring parties invoking
the end-user clearing exception to report additional types of
information, to limit the possibility for the exception to be abused or
for other reasons? If so, what other information should be reported and
what would be the benefit of requiring such information to be reported?
What categories of information, if any, should not be required to be
reported and why?
Will some types of security-based swaps be more
susceptible to abuse than others? For example:
[cir] Are persons more or less likely to abuse the end-user
clearing exception in connection with credit default swaps or equity
swaps or when the underlying reference credit or security has certain
characteristics?
[cir] Are large or small companies or other identifiable sub-
categories of counterparties to security-based swaps more or less
likely to abuse the end-user clearing exception than other persons?
[cir] Are there certain security-based swap products or
counterparties that the Commission should monitor for abuse more
closely than others?
If so, why?
Are there different considerations for small companies or
other identifiable categories of persons who may wish to invoke the
end-user clearing exception? If so, what are they and how should the
Commission take these considerations into account?
Should the Commission consider requiring that a narrative
statement be provided when an end-user employs means other than those
described in proposed Rules 3Cg-1(a)(5)(i), (ii), (iii), or (iv) to
meet its financial obligations?
3. Form of Notice to the Commission
Proposed Rule 3Cg-1(a) provides that a counterparty to a security-
based swap that invokes the end-user clearing exception shall satisfy
the notice requirements of Exchange Act Section 3C(g)(1)(C) by
delivering or causing to be delivered the additional information
specified in proposed Rule 3Cg-1(a) to a registered SDR or the
Commission in the form and manner required for delivery of the
information separately specified under proposed Rule 901(d) of
Regulation SBSR.\39\ Delivery of such information would also allow the
information submitted pursuant to proposed Rule 3Cg-1(a) by the
counterparty invoking the end-user clearing exception to be made
available to the public by the SDR, to the extent required by proposed
Regulation SBSR.\40\ Under this approach, rather
[[Page 79998]]
than collecting information through a separate process established by
the Commission for these purposes, the information delivered in
compliance with the requirements of proposed Rule 3Cg-1(a) and proposed
Regulation SBSR would serve as the official notice of a security-based
swap transaction made in reliance on the end-user clearing exception.
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\39\ See Regulation SBSR Proposing Release, supra note 16. For
each security-based swap transaction made in reliance on the end-
user clearing exception, proposed Rule 901(d)(1)(ix) under
Regulation SBSR requires parties to a security-based swap to
indicate whether or not the end-user clearing exception is being
invoked when reporting transaction information to an SDR as required
by Exchange Act Section 13(m)(1)(F). Proposed Exchange Act Rule
901(a) under Regulation SBSR defines which of the parties to a
security-based swap will be designated the Reporting Party for these
purposes. The information required under proposed Exchange Act Rule
3Cg-1 would be in addition to these requirements but would be
delivered to the SDR by the Reporting Party in the same manner as
required by proposed Regulation SBSR. Regulation SBSR contemplates
that information may be delivered to the Commission directly in
limited circumstances when an SDR is not available. When permitted
by Regulation SBSR, such delivery would also meet the end-user
clearing exception notice requirement.
\40\ See Regulation SBSR Proposing Release, at Section V., supra
note 16, discussing public dissemination of security-based swap
transaction information generally, including Exchange Act Section
13(m)(1)(B) (authorizing the Commission to make security-based swap
transaction data available to the public to enhance price discovery)
and Exchange Act Section 13(m)(1)(E)(iv) (requiring the Commission
to consider whether public disclosure of security-based swap
transaction data will materially reduce market liquidity). The
Commission preliminarily believes information collected pursuant to
proposed Rule 3Cg-1 would not be required to be publicly
disseminated, but is requesting comments on this point. See infra
note 47 and accompanying text.
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The Dodd-Frank Act requires all transactions in security-based
swaps (whether cleared or non-cleared) to be reported to a registered
SDR or the Commission.\41\ As centralized recordkeeping facilities of
OTC derivatives transactions, SDRs are intended to play a critical role
in enhancing transparency in the security-based swap markets. SDRs will
enhance transparency by having complete records of security-based swap
transactions, maintaining the integrity of those records, and providing
effective access to those records to relevant authorities and the
public in line with their respective information needs.\42\ The
Commission recently proposed a series of new rules relating to the SDR
registration process, duties, and core principles to ensure that SDRs
operate in the manner contemplated by the Dodd-Frank Act.\43\ The
Commission also recently proposed Regulation SBSR to establish the
standards that would apply when information is submitted to an SDR.\44\
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\41\ See Public Law 111-203, sec. 763(i) and sec. 766(a) (adding
Exchange Act Sections 13(m)(1)(G) and 13A(A)(1), respectively).
\42\ In the case of non-cleared security-based swaps, each SDR
is required to confirm with both parties to the security-based swap
the accuracy of the data submitted to the SDR pursuant to Exchange
Act Section 13(n)(5)(B), and both the parties to the security-based
swap and the SDR have duties to correct errors in the data that may
be identified under proposed Rules 905(a) (parties to the security-
based swap) and 905(b) (SDRs) of Regulation SBSR. See Public Law
111-203, sec. 763(i) (adding Exchange Act Section 13(n)(5)(B);
Regulation SBSR Proposing Release, supra note 16. SDRs are required
by Exchange Act Section 13(n)(5) (15 U.S.C. 78m(n)(5)) to have
policies and procedures reasonably designed to protect the privacy
of all transaction information received by the SDR, and the
Commission recently proposed Rule 13n-9 to implement this
requirement. See Exchange Act Release No. 63347 (Nov. 19, 2010), 75
FR 77306 (Dec. 10, 2010) (``Regulation SDR Release''). Exchange Act
Section 13A(c)) requires each party to a non-cleared security-based
swap to maintain records of the security-based swaps held by such
party in the form required by the Commission, and Exchange Act
Section 13A(d) mandates that these records must be in a form not
less comprehensive than required to be collected by SDRs. See Public
Law 111-203, sec. 766(a) (adding Exchange Act Sections 13A(c)-(d))
These records are available for inspection by the Commission and
other specified authorities pursuant to Exchange Act Section
13A(c)(2) (Public Law 111-203, sec. 766(a) (adding Exchange Act
Section 13A(c)(2))).
\43\ See Regulation SDR Release, supra note 42.
\44\ See id.
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The Commission preliminarily believes collecting notice information
for the end-user clearing exception through SDRs will support the
development of straight through trade processing, help to reduce the
administrative burdens of the notice requirement and assure the
accuracy of the information collected.\45\ Using the centralized
facilities of SDRs should also make it easier for the Commission to
analyze how the end-user clearing exception is being used, monitor for
potentially abusive practices, and take timely action to address
abusive practices if they were to develop.\46\
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\45\ See id. Exchange Act Sections 13(n) and 13A require parties
to report transaction information to SDRs, confirm its accuracy and
correct inaccuracies. See Public Law 111-203, sec. 763(i) (adding
Exchange Act Section 13(n)); Public Law 111-203, sec. 766(a) (adding
Exchange Act Section 13A). The Commission preliminarily believes
these requirements create sufficient assurance to consider the
transaction records collected by SDRs reliable for use in connection
with regulatory decisions, and therefore the Commission
preliminarily believes the records should also be considered
reliable for purposes of the notice requirement under Exchange Act
Section 3C(g). Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)).
\46\ The proposed notification method is supported by the
recordkeeping requirements under Exchange Act Section 13A, which
will permit the Commission to review transaction information and
take such action as may be necessary to prevent abuses of the end-
user clearing exception. See Public Law 111-203, sec. 766(a) (adding
Exchange Act Section 13A). Such Commission action would be taken in
a manner consistent with our review practices for other transaction
information submitted to SDRs, rather than through a separate
process developed for these purposes, thereby helping to maintain
consistency of regulatory action in comparable areas.
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Under proposed Regulation SBSR, and in particular proposed Rule
901(d), the information required to be reported to an SDR includes, if
the security-based swap is not cleared, ``whether the exception in
Section 3C(g) of the Exchange Act was invoked.'' This information would
then be included in the transaction report disseminated to the public
under proposed Rule 902. Pursuant to proposed Rule 3Cg-1(a), however,
the information required to be reported to an SDR would include more
detailed information than simply whether Section 3C(g) was invoked--for
example, under Rule 3Cg-1(a) the reportable information would include
the identity of the counterparty relying on the clearing exception, and
information regarding how that counterparty expects to meet its
financial obligations. The Commission preliminarily believes that this
additional information would either fall under the exception to public
dissemination contained in proposed Rule 902(c)(2),\47\ or otherwise
should be excluded from the publicly-disseminated transaction report.
Thus, the only information collected pursuant to Rule 3Cg-1 that would
be disseminated publicly is ``whether the exception to Section 3C(g) of
the Exchange Act was invoked.''
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\47\ Proposed Rule 902(c)(2) of Regulation SBSR would prohibit
disclosure of any information disclosing the business transactions
and market positions of any person with respect to a security-based
swap that is not cleared. See supra note 16 (citing Regulation SBSR
Proposing Release).
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Request for Comment
The Commission generally requests comments on all aspects of
proposed Rule 3Cg-1. Additionally, the Commission requests comments on
the following specific issues:
Is it appropriate for the Commission to require
notification regarding use of the end-user clearing exception to be
made through SDRs? Should notifying the Commission necessarily involve
direct conveyance of the information to the Commission rather than
delivery through an SDR? What are the advantages or disadvantages of
the Commission's proposal?
Does collecting Financial Obligation Notice information
through SDRs interfere with the ability of non-financial entities to
use the end-user clearing exception in any way? Are SDRs reliable
enough to be used for these purposes? Are the services provided by SDRs
reasonably available to non-financial entities?
Is Financial Obligation Notice information different from
other information proposed to be collected by SDRs in some respect that
makes use of SDRs for these purposes inappropriate? If so, how is the
notice information different and why is it inappropriate to use SDRs to
collect the information?
Would it be preferable to require notice of use of the
end-user clearing exception to be given through the Commission's EDGAR
system on a newly developed EDGAR form? \48\ What would be the
advantages or disadvantages of using the EDGAR system? For example:
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\48\ See EDGAR Filer Manual, Volume I: ``General Information''
Version 8 (Sept. 2009), incorporated by reference into the Code of
Federal Regulations (Release Nos. 33-9058, 34-60390, 39-2466, IC-
28838, July 28, 2009); EDGAR Filer Manual, Volume II: ``EDGAR
Filing,'' Version 15 (Aug. 2010), incorporated by reference into the
Code of Federal Regulations (Release Nos. 33-9140; 34-62873; 39-
2471; IC-29413, Sept. 9, 2010).
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[cir] Do parties intending to invoke the end-user clearing
exception anticipate any benefits or burdens of filing an EDGAR form
electronically that should be considered?
[[Page 79999]]
[cir] Is the EDGAR system likely to be familiar to all entities
invoking the end-user clearing exception? Will small companies or other
identifiable categories of persons face different burdens or advantages
than others when using the EDGAR system?
[cir] Should the Commission require persons invoking the end-user
clearing exception to submit notice to the Commission on an EDGAR form
in addition to the information collected through SDRs? Would collecting
information in both ways significantly aid the Commission's efforts to
prevent abuse of the end-user clearing exception or have other benefits
that should be considered by the Commission? Would doing so create
significant additional burdens for persons invoking the end-user
clearing exception?
Other than the alternative of using the Commission's EDGAR
system, are there other methods that the Commission should consider for
receiving notification regarding the use of the end-user clearing
exception? For example, could the information submitted to an SDR also
be dually submitted to Commission in some form? If so, what are the
possible alternatives and what advantages or disadvantages would they
have?
Do the Exchange Act and the associated rules and proposed
rules regulating SDRs and parties to security-based swaps create
sufficient assurance that notice information collected through SDRs
will be accurate? Are there additional protections the Commission
should establish to create greater assurance that the notice
information collected will be accurate? If so, what are they and how
will they improve the information collection process?
Would the person reporting information to the SDR be in a
position to know, in all cases, the information the Commission is
requiring to be reported under proposed Rule 3Cg-1(a)? If not, why not?
Are representations and warranties and similar established market
practices associated with documenting security-based swap transactions
adequate to ensure the person reporting information to the SDR can
obtain the information required to be reported under proposed Rule 3Cg-
1?
Should the Commission consider more or less frequent
reporting of the information required by Rule 3Cg-1(a)? How frequently
will the information required to be reported be expected to change?
Would alternatives to proposed Rule 3Cg-1 such as the collection of
periodic reports or updates of general notifications to the Commission
be sufficient to achieve the purposes of Exchange Act Section 3C(g)? If
so, what are the possible alternatives and what advantages or
disadvantages would they have?
How long would it be expected to take for the person
reporting information to the SDR to gather the information required
under proposed Rule 3Cg-1(a)? Will the time needed to gather the
required information disrupt the transaction process for security-based
swaps to any material extent?
Should the Commission require persons invoking the end-
user clearing exception to follow additional compliance practices in
some circumstances? For example:
[cir] Should the Commission require persons invoking the end-user
clearing exception swap to create additional records of the means being
used to mitigate the credit risk of the security-based swap as
contemplated by proposed Rule 3Cg-1(a)(5) and maintain such record in
the manner required by Exchange Act Section 13A(d)?
[cir] Should the Commission require persons invoking the end-user
clearing exception to file materials referred to in proposed Rule 3Cg-
1(a)(5) with the Commission? Why or why not?
[cir] Should the Commission require persons invoking the end-user
clearing exception to establish any other additional compliance
practices? If not, why not? If so, what should those practices be and
what would be the advantages and disadvantages of adopting such a
requirement?
Will collecting notice information together with other
transaction information have the advantages expected by the Commission?
For example, will analyzing information regarding use of the end-user
clearing exception by product type and other transaction
characteristics help to promote market efficiency or inform future
Commission rulemaking? Are there other advantages or disadvantages
related to collecting notice information through SDRs that the
Commission should consider? If so, what are they?
Does collecting notice information regarding use of the
end-user clearing exception through SDRs create significantly greater
burdens or advantages for some parties to security-based swaps compared
to others? For example, will parties who frequently transact security-
based swaps face higher or lower burdens or advantages compared to
parties that enter into security-based swap transactions less
frequently? Will parties who enter into both cleared and non-cleared
security-based swaps face different burdens or advantages in comparison
to parties who enter into only cleared security-based swaps or only
non-cleared security-based swaps? Will small companies face different
burdens than large companies? If so, what steps should the Commission
consider taking to account for these differences? Given that certain
efficiencies may arise from conducting frequent transactions in
security-based swaps, are the additional burdens that may be faced by
small companies or non-financial entities that enter into security-
based swaps infrequently unique to the proposed rule or do they
principally reflect the nature of the security-based swaps market and
the nature of the transacting party? Are there benefits from collecting
notice information that should also be considered?
Should any or all of the information required to be
reported to an SDR pursuant to proposed Rule 3Cg-1(a) be publicly
disseminated? Should public dissemination be limited only to the fact
that Exchange Act Section 3C(g) was invoked? Are there any changes to
the proposed rules the Commission should consider regarding public
dissemination? If publicly disclosed, how would market participants,
academics and other members of the public expect to use such
information and what are the potential benefits or costs of such uses?
Would additional information be useful? What information, if any,
included in proposed Rule 3Cg-1(a) would raise concerns for end-users
if made public after the end-user elected to use the exception? How
would the public interest be better served by keeping information
relating to the end-user clearing exception in or out of the public
domain?
If restrictions on public dissemination of the information
are in place, should the Commission consider permitting such
dissemination after the lapse of a certain period of time? If so,
should all or only a subset of the information be disseminated? What
would be an appropriate time period for a delay in dissemination? How
would the analysis of whether the public interest would be better
served by keeping information relating to the end-user clearing
exception in or out of the public domain change based on whether there
is a delay in such dissemination?
Should information regarding whether the end-user clearing
exception was invoked that is collected pursuant to proposed Rule 3Cg-
1(a) be made available to the public through the SDR or through new
processes established by the Commission? What would be the advantages
and disadvantages of either approach?
[[Page 80000]]
B. Hedging or Mitigating Commercial Risk
To apply the end-user clearing exception, Exchange Act Section
3C(g)(1)(B) requires a non-financial entity to determine whether it
uses security-based swaps to hedge or mitigate commercial risk.\49\ The
phrase ``hedging or mitigating commercial risk'' is itself the subject
of current joint rulemaking by the Commission and the CFTC. The
Commission and the CFTC recently proposed a definition of ``hedging or
mitigating commercial risk'' under proposed Exchange Act Rule 3a67-4
that the Commission preliminarily believes should also govern the
meaning of ``hedging or mitigating commercial risk'' for purposes of
Exchange Act Section 3C(g)(1)(B).\50\ The Commission preliminarily
believes this approach should ensure consistency of interpretation
across the Exchange Act provisions for which this concept is relevant
and provide assurance of fair and equivalent treatment for similarly
situated parties in a wide variety of circumstances.\51\
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\49\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(1)(B)).
\50\ See Definitions Proposing Release, supra note 3. Persons
wishing to comment on the definition of ``hedging or mitigating
commercial risk'' should submit comments pursuant to the Definitions
Proposing Release. For reference, proposed Exchange Act Rule 3a67-
4(a) reads as follows:
``Hedging or mitigating commercial risk
For purposes of section 3(a)(67) of the Act, 15 U.S.C.
78c(a)(67) and Sec. 240.3a67-1 of this chapter, a security-based
swap position shall be deemed to be held for the purpose of hedging
or mitigating commercial risk when:
(a) Such position is economically appropriate to the reduction
of risks that are associated with the present conduct and management
of a commercial enterprise, or are reasonably expected to arise in
the future conduct and management of the commercial enterprise,
where such risks arise from:
(1) The potential change in the value of assets that a person
owns, produces, manufactures, processes, or merchandises or
reasonably anticipates owning, producing, manufacturing, processing,
or merchandising in the ordinary course of business of the
enterprise;
(2) The potential change in the value of liabilities that a
person has incurred or reasonably anticipates incurring in the
ordinary course of business of the enterprise; or
(3) The potential change in the value of services that a person
provides, purchases, or reasonably anticipates providing or
purchasing in the ordinary course of business of the enterprise;
(b) Such position is:
(1) Not held for a purpose that is in the nature of speculation
or trading;
(2) Not held to hedge or mitigate the risk of another security-
based swap position or swap position, unless that other position
itself is held for the purpose of hedging or mitigating commercial
risk as defined by this section or 17 CFR Sec. 1.3(ttt); and
(c) The person holding the position satisfies the following
additional conditions:
(1) The person identifies and documents the risks that are being
reduced by the security-based swap position;
(2) The person establishes and documents a method of assessing
the effectiveness of the security-based swap as a hedge; and
(3) The person regularly assesses the effectiveness of the
security-based swap as a hedge.''
\51\ The Commission notes that certain portions of proposed Rule
3a67-4 would be either inapplicable to, or would need to be
interpreted in light of, the circumstances surrounding the end-user
clearing exception. For example, subparagraph 3a67-4(c)(3) of the
proposed Rule requires that a person regularly assess the
effectiveness of the security-based swap as a hedge. Given that
persons must determine whether the end-user clearing exception is
available at the time the security-based swap is first confirmed,
this portion of proposed Rule 3a67-4 is inapplicable for purposes of
Exchange Act Section 3C(g)(1)(B). In addition, proposed Rule 3a67-4
does not contemplate applying the definition of hedging or
mitigating commercial risk to affiliates. Exchange Act Section
3C(g)(4) creates certain additional requirements for affiliates of
non-financial entities seeking to invoke the end-user clearing
exception, and these requirements must also be satisfied for the
end-user clearing exception to be available.
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Request for Comment
The Commission generally requests comments on all aspects of
proposed Rule 3Cg-1. Additionally, the Commission requests comments on
the following specific issues:
Are there reasons to believe that the proposed joint
rulemaking by the Commission and the CFTC to define the meaning of
certain terms used in the Exchange Act may affect the availability of
the end-user clearing exception? If so, what specifically are the
affects expected and what concerns do they raise?
Are there further distinctions or clarifications that
should be made by the Commission for purposes of the end-user clearing
exception that are different from those being made in connection with
the proposed joint rulemaking by the Commission and the CFTC? If so,
what are they and what would be the benefits of adopting them?
Are there technical requirements or details associated
with terms used in the definition of ``financial entity'' in Exchange
Act Section 3C(g)(3) that may have unexpected consequences when used in
connection with the end-user clearing exception? Are there aspects of
the CEA, the Investment Advisers Act of 1940 (15 U.S.C. 80), the
Employee Retirement Income Security Act of 1974 (29 U.S.C. 1002), or
the Bank Holding Company Act of 1956 (12 U.S.C. 184) that are
incorporated in the definition that may need to be taken into
consideration by the Commission to ensure the end-user clearing
exception is available in appropriate circumstances? If so, what
specific changes should the Commission consider and what would be the
benefits of adopting them?
Should the Commission consider adopting a separate
definition of ``hedging or mitigating commercial risk'' specifically
designed to address the circumstances of the end-user clearing
exception? If so, what are the specific considerations associated with
the end-user clearing exception that make a separate rule desirable?
What features would such a rule need in order to be effective and what
would be the benefits of adopting them?
Should the Commission consider limiting or broadening the
definition of ``hedging or mitigating commercial risk'' as it applies
to the end-user clearing exception? For example, should security-based
swaps subject to the end-user clearing exception be required to hedge
or mitigate commercial risk on a single risk or an aggregate risk
basis, and/or on a single entity or a consolidated basis? Are more
specific industry-specific rules on hedging or rules that apply only to
certain categories of asset classes appropriate at this time? Should
security-based swaps facilitating asset optimization or dynamic hedging
be included? Why or why not? Commenters are requested to discuss both
the policy and legal bases underlying such comments.
If an entity is designated as a swap dealer, security-
based swap dealer, major swap participant or major security-based swap
participant only for some of its swaps or security-based swaps, should
it be treated as a financial entity under Exchange Act Section 3C(g)(3)
and thereby be disqualified from invoking the end-user clearing
exception for all of its security-based swaps? If so, why? If not,
should the Commission require security-based swap dealers and major
security-based swap participants in that position to separate or
otherwise keep distinct those security-based swap activities for which
they are designated as a security-based swap dealer or major security-
based swap participant from their other security-based swap activities?
If so, how? If not, why not?
III. Required Consideration of a Clearing Exemption for Small Banks,
Savings Associations, Farm Credit System Institutions and Credit Unions
Mandatory clearing of security-based swaps is a central part of the
reforms enacted by the Dodd-Frank Act and generally applies to
financial entities without regard to size. However, Section 3C(g)(3)(B)
of the Exchange Act requires the Commission to consider whether to
exempt small banks, savings associations, farm credit systems
[[Page 80001]]
institutions and credit unions from the Exchange Act's definition of
``financial entity'', including specifically those with total assets of
$10,000,000,000 or less (``Identified Financial Institutions'').\52\
The advantages and disadvantages associated with mandatory clearing may
be different with respect to certain types of financial entities and
the Commission is required to consider whether such differences warrant
granting an exemption for Identified Financial Institutions.\53\
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\52\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(3)(B)).
\53\ See Dodd-Lincoln Letter, supra note 23.
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The Identified Financial Institutions may use security-based swaps,
and other derivatives to hedge or mitigate their business risks in ways
that may be directly related to the business of banking. Under the
definition of ``financial entity'' in the Dodd-Frank Act, however,
these institutions would not qualify to use the end-user clearing
exception unless further action is taken by the Commission. Depending
on the extent to which an Identified Financial Institution relies on
security-based swaps to manage its risk, the lack of an end-user
exception could limit the availability, or raise associated initial
costs, of security-based swaps for that institution.
Alternatively, providing a blanket carve-out from the clearing
requirement, albeit in connection with hedging transactions, for a
class of financial entities could undercut the statutory goal of
greater centralized clearing and the related benefits of efficiency and
transparency. The Commission preliminarily does not believe that
Identified Financial Institutions transact in securities-based swaps
for hedging purposes in significant volume, but is requesting comments
on this point. The Commission would also be interested in commenters'
views on the practical impact of either permitting or prohibiting
Identified Financial Institutions from using the end-user exception to
effect securities-based swaps transactions, and how narrowly or broadly
any exemption should be structured.\54\
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\54\ See S. Rep. No. 111-176, at 34 (2010) (Report of the Senate
Committee on Banking, Housing, and Urban Affairs regarding The
Restoring American Financial Stability Act of 2010 discussing the
end-user clearing exception and exceptions from bilateral reporting,
capital and margin requirements, and stating that ``Some parts of
the OTC market may not be suitable for clearing and exchange trading
due to individual business needs of certain users. Those users
should retain the ability to engage in customized, uncleared
contracts while bringing in as much of the OTC market under the
centrally cleared and exchange-traded framework as possible. Also,
OTC (contracts not cleared centrally) should still be subject to
reporting, capital, and margin requirements so that regulators have
the tools to monitor and discourage potentially risky activities,
except in very narrow circumstances. These exceptions should be
crafted very narrowly with an understanding that every company,
regardless of the type of business they are engaged in, has a strong
commercial incentive to evade regulatory requirements.'')
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In accordance with Section 3C(g)(3)(B) of the Exchange Act and
taking the above considerations into account, the Commission is
proposing alternative additional rule text under consideration in
proposed Rules 3Cg-1(b) and (c) to exclude from the definition of
``financial entity'' those banks, savings associations, farm credit
systems institutions and credit unions with total assets of $10 billion
or less falling within the definition of ``financial entity'' solely
because of Section 3C(g)(3)(A)(viii) of the Exchange Act. The
Commission preliminarily believes it would be appropriate to consider
an alternative that contains an exemption for such entities at the $10
billion total assets threshold because it would be consistent with the
consideration contemplated in Section 3C(g)(3)(B) of the Exchange Act
and because it may include financial institutions in the relevant
categories that may face difficulties in meeting the burdens associated
with a mandatory clearing requirement due to their limited operations
or infrequent use of security-based swaps.
Specifically, the alternative language would apply to a bank, as
defined in Section 3(a)(6) of the Act, the deposits of which are
insured by the Federal Deposit Insurance Corporation; a savings
association, as defined in section 3(b) of the Federal Deposit
Insurance Act (12 U.S.C. 1831), the deposits of which are insured by
the Federal Deposit Insurance Commission; a farm credit system
institution chartered under the Farm Credit Act of 1971 (12 U.S.C.
2001); or an insured Federal credit union, State credit union or State-
chartered credit union under the Federal Credit Union Act (12 U.S.C.
1752) falling within the definition of ``financial entity'' solely
because of Section 3C(g)(3)(A)(viii) of the Exchange Act. The exemption
would not be available to any institution that falls into any of the
other seven categories specified in Exchange Act Section 3C(g)(3) for
any reason. The $10 billion total asset threshold for these entities
would be measured by reference to the total assets of the institution
on the last day of the most recent fiscal year. The Commission believes
it would be appropriate to consider such time frame for measurement of
the $10 billion threshold in order to balance the need to maintain an
updated assessment of the total asset threshold and the need to avoid
frequently monitoring the ability to make use of the exemption.
Request for Comment
The Commission generally requests comments on all aspects of
proposed Rule 3Cg-1. In addition, to inform our consideration of
whether it would be appropriate for the Commission to provide an
exemption for Identified Financial Institutions, the Commission
requests comments on the following specific issues:
Should the Commission grant an exemption from mandatory
clearing requirements for Identified Financial Institutions? Would it
be better for the Commission to simply require Identified Financial
Institutions to follow the same clearing requirements as other
financial entities? Why or why not?
Is the proposed alternative language in proposed Rules
3Cg-1(b) and (c) sufficiently clear to allow Identified Financial
Institutions to assess whether or not they would qualify to use the
alternative proposed end-user clearing exception? Why or why not? If
not, what steps could the Commission take to make the standards more
clear and what would be the advantages or disadvantages of the
alternative approach?
How significant are the aggregated activities of
Identified Financial Institutions to the security-based swap market
currently? Do the activities of such institutions have a material
effect on the pricing of swaps, or contribute to an understanding of
the security-based swap market? What is the aggregate gross exposure of
security-based swaps held by Identified Financial Institutions? How
would these activities and exposures change if such institutions were
excluded from the mandatory clearing requirement? Is it possible that
the activities of such institutions could change in a way such that
they could have an effect on the pricing of security-based swaps if
they are excluded from the mandatory clearing requirement? If so, what
would be the effect on pricing of security-based swaps?
What types of security-based swap transactions do
Identified Financial Institutions enter into and why? Are any risks
presented by these types of transactions adequately addressed through
the regulatory controls and business practices of Identified Financial
Institutions? Should the Commission consider treating different types
of security-based swaps differently when considering whether the end-
user clearing exception is
[[Page 80002]]
available for Identified Financial Institutions? If so, what specific
distinctions should be considered by the Commission and what would be
the advantages and disadvantages of adopting them?
Would there be any benefit for Identified Financial
Institutions in receiving an exemption taking into account their
anticipated activity in the security-based swap market? What would be
the potential effects of granting an exemption for Identified Financial
Institutions? What would be the effect on the security-based swap
market? What would be the effect on the goals of promoting central
clearing and reducing systemic risk?
If an exemption permitting Identified Financial
Institutions to use the end-user clearing exception were to be adopted,
should the Commission consider limiting the availability of the end-
user clearing exception to only some of the financial institutions
identified in Exchange Act Section 3C(g)(3)(B)? Are there differences
in the supervisory regimes applicable to banks, savings associations,
farm credit institutions and credit unions that create material
substantive differences between such institutions that are relevant for
these purposes? If so, what specific distinctions should be considered
by the Commission and what would be the benefits of adopting them?
Do Identified Financial Institutions commonly enter into
security-based swaps? Would such institutions' behavior in respect of
security-based swaps change if the end-user exception was extended or
not extended to include them?
What would be the possible consequences of not proposing
an exemption on the banking activities and operational practices of
Identified Financial Institutions? Would the absence of an exemption
prevent Identified Financial Institutions from providing or increase
the costs of providing certain types of financial services to their
customers or require them to make additional investments? If so, how?
What types of services and what types of customers might be impacted?
What types of investments might be required? Would the expected impact
be justified by the systemic or other benefits of requiring mandatory
clearing?
Is the $10,000,000,000 total asset threshold an
appropriate point for the Commission to use when defining the
availability of a clearing exception for Identified Financial
Institutions? Should the threshold be lower? Should the threshold be
higher? Is there a measure other than total assets, or a more precise
definition of total assets, that should be used for these purposes, and
if so, what would be the benefit of adopting the alternative measure?
What would be an appropriate frequency for measuring
compliance with the $10,000,000,000 total asset threshold for entities?
Is the proposed time frame too long or too short? If so, why? Are there
any difficulties in measuring or monitoring such threshold? Would
Identified Financial Institutions generally measure and monitor such
thresholds as part of their normal business practices?
IV. General Request for Comments
The Commission is requesting comments from all members of the
public. The Commission will carefully consider the comments that it
receives. The Commission seeks comment generally on all aspects of the
proposed rule. In addition, the Commission seeks comment on the
following:
1. Should the Commission clarify or modify any of the definitions
included in the proposed rules? If so, which definitions and what
specific modifications are appropriate or necessary?
2. Are the obligations in the proposed rule sufficiently clear? Is
additional guidance from the Commission necessary?
3. What are the technological or administrative burdens of
complying with the rule proposed by the Commission? Does the method of
collecting information contained in the proposed rule offer any
technological or administrative advantages in comparison to other
possible methods?
4. Should the Commission implement substantive requirements in
addition to, or in place of, the requirements in the proposed rule?
In addition, the Commission seeks commenters' views regarding any
potential impact of the proposal on non-financial entities expecting to
invoke the end-user clearing exception, SDRs, other market
participants, and the public generally. The Commission seeks comments
on the proposal as a whole, including its interaction with the other
provisions of the Dodd-Frank Act. The Commission seeks comments on
whether the proposals would help achieve the broader goals of
increasing transparency and accountability in the OTC derivatives
market.
The Commission requests comment generally on whether its proposed
actions today to govern the exception to mandatory clearing of
security-based swaps available under Exchange Act Section 3C(g) are
necessary or appropriate for those purposes. If commenters do not
believe the provisions of the proposed rule are necessary and
appropriate, why not? What would be the preferred action?
Title VII requires that the SEC consult and coordinate to the
extent possible with the CFTC for the purposes of assuring regulatory
consistency and comparability, to the extent possible, and states that
in adopting rules, the CFTC and SEC shall treat functionally or
economically similar products or entities in a similar manner.
The CFTC is proposing rules related to an exception to mandatory
clearing of swaps as required under Section 723(a) of the Dodd-Frank
Act. Understanding that the Commission and the CFTC regulate different
products and markets, and as such, appropriately may be proposing
alternative regulatory requirements, we request comments on the impact
of any differences between the Commission and CFTC approaches to the
regulation of swap data repositories and SDRs, respectively.
Specifically, do the regulatory approaches under the Commission's
proposed rulemaking pursuant to Section 763(a) of the Dodd-Frank Act
and the CFTC's proposed rulemaking pursuant to Section 723(a) of the
Dodd-Frank Act result in duplicative or inconsistent efforts on the
part of market participants subject to both regulatory regimes or
result in gaps between those regimes? If so, in what ways do commenters
believe that such duplication, inconsistencies, or gaps should be
minimized? Do commenters believe the approaches proposed by the
Commission and the CFTC to govern the end-user clearing exception to
mandatory clearing of security-based swaps and swaps are comparable? If
not, why? Do commenters believe there are approaches that would make
the end-user clearing exceptions for security-based swaps and swaps
more comparable? If so, what are they and what would be the benefits of
adopting such approaches? Do commenters believe that it would be
appropriate for us to adopt an approach proposed by the CFTC that
differs from our proposal? If so, which one?
Commenters should, when possible, provide the Commission with
empirical data to support their views. Commenters suggesting
alternative approaches should provide comprehensive proposals,
including any conditions or limitations that they believe should apply,
the reasons for their suggested approaches, and their analysis
regarding why their suggested approaches would satisfy the statutory
mandate contained in Section 763(a) of the Dodd-Frank Act
[[Page 80003]]
governing the exception to mandatory clearing of security-based swaps.
V. Paperwork Reduction Act Analysis
Proposed Rule 3Cg-1
Proposed Rule 3Cg-1 Notice to the Commission [and Financial Entity
Exemption] contains ``collection of information'' requirements within
the meaning of the Paperwork reduction Act of 1995 (44 U.S.C. 3501 et
seq.). The Commission has submitted it to the Office of Management and
Budget (``OMB'') for review in accordance with 44 U.S.C. 3507(d) and 5
CFR 1320.11. The title of the new collection of information under
proposed Rule 3Cg-1 under the Exchange Act is ``Rule 3Cg-1 Notice to
the Commission [and Financial Entity Exemption].'' OMB has not yet
assigned a control number for the new collection of information
contained in proposed Rule 3Cg-1 under the Exchange Act. 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.
A. Summary of Collection of Information
Proposed Rule 3Cg-1(a) under the Exchange Act would require a
counterparty to a security-based swap transaction to meet the
requirements of Exchange Act Section 3C(g)(1)(C) by delivering certain
specified items of information to an SDR in the manner required by
proposed Regulation SBSR.\55\ Whenever the end-user clearing exception
is invoked, ten additional items of information would be required to be
produced. If the counterparty invoking the end-user clearing exception
is also an issuer of securities under Exchange Act Section 12 or
required to file periodic reports with the Commission pursuant to
Exchange Act Section 15(d) then two additional items of information
would also be required for a total of twelve items of information
required to be produced. In either case, this additional information
collected in the form and manner required by Regulation SBSR would
serve as the official notice to the Commission of a security-based swap
transaction that is made in reliance on the end-user clearing
exception.\56\
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\55\ See supra, notes 21-37 and accompanying text. Proposed
Regulation SBSR would specify who reports security-based swap
transactions, where such transactions are to be reported, what
information is to be reported, and in what format. The information
required under proposed Exchange Act Rule 3Cg-1 would be in addition
to these requirements but would be delivered to the SDR by the
Reporting Party in the same manner as required by proposed
Regulation SBSR. Regulation SBSR contemplates that information may
be delivered to the Commission directly in limited circumstances
when an SDR is not available. When permitted by Regulation SBSR,
such delivery would also meet the end-user clearing exception notice
requirement.
\56\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(1)(C)).
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B. Proposed Use of Information
The collection of information in proposed Rule 3Cg-1(a) serves two
purposes contemplated by the Dodd-Frank Act. First, the proposed Rule
identifies what a party to a security-based swap transaction must do to
satisfy the statutory requirement in Exchange Act 3C(g)(1)(C) to
provide notice to the Commission if it invokes the end-user clearing
exception.\57\ Second, the Commission expects the empirical data
collected under Rule 3Cg-1(a) will aid efforts to prevent abuse of the
end-user clearing exception by allowing it to evaluate how the end-user
clearing exception is being used, identify areas of potential concern
and take prompt action to limit abuses in appropriate
circumstances.\58\
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\57\ Id.
\58\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(6)).
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C. Respondents
The proposed collection of information in proposed Rule 3Cg-1(a)
would apply to transactions that qualify for the end-user clearing
exception under Exchange Act Section 3C(g)(1) where at least one of the
parties to the security-based swap is not included in the definition of
financial entity and is using the security-based swap to hedge or
mitigate commercial risk. For an entity to determine whether it is not
a financial entity and whether it is using the security-based swap
transaction to hedge or mitigate commercial risk, the party must first
make an assessment under the applicable definition of financial entity
in Exchange Act Section 3C(g)(3) \59\ and then consider whether the
definition of hedging or mitigating commercial risk in proposed Rule
3a67-4 applies to the security-based swap in question.\60\ In addition,
those entities that may be considered Identified Financial Institutions
and therefore fall within the exemption under the proposed alternative
language in Rule 3Cg-1(b) and (c) would be required to conduct an
assessment under the proposed alternative language to determine whether
they are entitled to elect to use the end-user clearing exception.
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\59\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(3)(A)(i)-(viii)).
\60\ See Definitions Proposing Release, supra note 3.
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Based on the information currently available to the Commission, the
Commission preliminarily estimates there are roughly 5,000 entities in
the credit default swaps marketplace.\61\ The Commission preliminarily
estimates that 1,000 of these entities regularly participate in the
market for credit default swaps and other security-based swaps to an
extent that may lead them to be reporting persons for purposes of
proposed Regulation SBSR. In addition, the Commission estimates that
there may be up to another 4,000 security-based swap counterparties
\62\ that transact security-based swaps much less frequently.\63\ The
Commission preliminarily believes the 1,000 regular participants in the
security-based swaps market are likely to be entities that are
financial entities for purposes of the Dodd-Frank Act and would
therefore not qualify for the end-user clearing exception, while the
4,000 less frequent counterparties to security-based swaps could, for
purposes of the end-user clearing exception, be non-financial entities
using security-based swaps to hedge or mitigate commercial risk. These
4,000 counterparties are also preliminarily believed by the Commission
to include Identified Financial Institutions using security-based
swaps.\64\ Accordingly, with respect to burdens applicable to all
security-based swap counterparties that qualify for the end-user
clearing exception, the Commission preliminarily believes that it is
reasonable to use the figure of 4,000 respondents for purposes of
estimating collection of information burdens under the PRA.
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\61\ See Regulation SBSR Proposing Release, supra note 16.
\62\ Id.
\63\ This figure is based on the 5,000 total participants in the
security-based swap market minus the 1,000 of those participants
that qualify as financial entities.
\64\ For purposes of the discussion that follows, the term
``non-financial entities'' includes Identified Financial
Institutions that would be excluded from the definition of
``financial entity'' in Exchange Act Section 3C(g)(3) in the event
the proposed alternative language in Rules 3Cg-1(b) and (c) is
adopted by the Commission.
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D. Total Initial and Annual Reporting and Recordkeeping Burdens
The Commission preliminarily believes the notification required by
proposed Rule 3Cg-1 \65\ imposes a limited reporting or recordkeeping
burden, because it references commonly used market practices when
defining whether a security-based swap hedges
[[Page 80004]]
or mitigates commercial risk \66\ and utilizes the proposed reporting
and recordkeeping mechanism under Rule 901 of Regulation SBSR to meet
the notice requirement contemplated by Exchange Act Section
3C(g)(1)(C).\67\ Under proposed Rule 3Cg-1 the additional reporting
burden on the party invoking the end-user clearing exception would be
to identify and document the commercial risk being hedged and the
effectiveness of the proposed security-based swap as a hedge, and then
complete ten or, at the most, twelve additional data points in a larger
set of transaction information that would be required to submitted to
an SDR or the Commission under proposed Regulation SBSR. In addition,
those entities that may be considered Identified Financial Institutions
and therefore fall within the exemption under the proposed alternative
language in Rule 3Cg-1(b) and (c) would be required to conduct an
assessment under the proposed alternative language to determine whether
they are entitled to elect to use the end-user clearing exception. The
recordkeeping burden on the SDR would also be limited to storing the
additional ten or twelve data points in the larger set of transaction
information separately required to be delivered pursuant to proposed
Regulation SBSR.
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\65\ For purposes of the discussion that follows, references to
proposed Rule 3Cg-1 are to proposed Rule 3Cg-1 including the
alternative proposed rule text, unless otherwise noted.
\66\ See Definitions Proposing Release, supra note 3.
\67\ See Regulation SBSR Proposing Release, supra note 16.
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1. Estimated Number of Security-Based Swap Transactions
According to publicly available data from the Depository Trust
Clearing Corporation (``DTCC'') recently, there have been an average of
approximately 20,000 new transactions in single-name credit default
swap (``CDS'') transactions per day,\68\ corresponding to a total
number of CDS transactions of approximately 5,200,000 per year.\69\ The
Commission preliminarily believes that CDS represent 85% of all
security-based swap transactions.\70\ Accordingly, and to the extent
that historical market activity is a reasonable predictor of future
activity,\71\ the Commission preliminarily estimates that the total
number of security-based swap transactions that would be subject to
proposed Rule 3Cg-1 on an annual basis would be approximately
6,200,000.\72\
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\68\ See, e.g., ``Table 17: Summary of Weekly Transaction
Activity,'' http://www.dtcc.com/products/derivserv/data_table_iii.php (weekly data as updated by DTCC).
\69\ Cf., Regulation SBSR Proposing Release, supra note 16,
which used an estimate of 36,000 transactions in single name CDS
transactions per day, referencing the same DTCC data. The difference
is accounted for by differences in the scope of proposed Rule 3Cg-1
compared to proposed Regulation SBSR. Proposed Regulation SBSR
encompasses both new transactions in security-based swaps and
certain transactions occurring during the lifecycle of security-
based swaps and therefore both of these elements are taken into
account for purposes of its discussion of estimated burdens to be
experienced by respondents as a result of the proposed regulation.
Proposed Rule 3Cg-1 would only affect new transactions and therefore
the estimated number of transactions used for purposes of the burden
calculations is limited to new transactions.
\70\ The Commission's estimate is based on internal analysis of
available security-based swap market data. The Commission is seeking
comment about the overall size of the security-based swap market.
\71\ The Commission notes that regulation of the security-based
swap markets, including by means of proposed Regulation SBSR and
proposed Rule 3Cg-1, could impact market participant behavior.
\72\ This figure is based on the following: (5,200,000/0.85) =
6,117,647.
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Based on publicly available information and consultation with
industry sources, the Commission preliminarily believes that even the
most active non-financial entity participants in the security-based
swap market enter a relatively small number of new security-based swaps
during any given period.\73\ There are approximately 4,000 participants
in the security-based swap marketplace that the Commission
preliminarily believes could qualify for the end-user clearing
exception and they represent approximately 80% of the total number of
participants in the security-based swap market.\74\ However, based on
all information reviewed the Commission preliminarily estimates that
non-financial entities account for 1% of all security-based swap
transactions.\75\
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\73\ Information from ISDA surveys relating to collateralized
swap transactions indicate that the average number of outstanding
OTC derivative trades for non-bank firms generally average just 1%
of all transactions in the marketplace, and this figure includes
transactions associated with certain parties not entitled to invoke
the end-user clearing exception, such as certain major swap
participants, commodity pools as defined in section 1a(10) of the
Commodity Exchange Act and private funds as defined in section
202(a) of the Investment Advisers Act of 1940. See ISDA Collateral
Committee, ISDA Feasibility Study: Extending Collateralized
Portfolio Reconciliations (Dec. 18, 2009) (available at http://www.isda.org/c_and_a/pdf/ISDA-Portfolio-Reconciliation-Feasibility-Study.pdf). The Commission is seeking comment about the
overall size of the security-based swap market.
\74\ This 80% figure is based on the quotient of dividing the
4,000 participants that could qualify for the end-user clearing
exception by the estimated 5,000 participants in the security-based
swaps marketplace.
\75\ See supra note 73. An estimate that non-financial entities
account for 1% of security-based swap transactions will be used for
purposes of the calculations that follow below.
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2. Reporting and Recordkeeping Burdens
To qualify for the end-user clearing exception proposed Rule 3Cg-
1(a)(4) would require a non-financial entity to determine whether the
terms of the proposed security-based swap and the manner in which it
will be used satisfy the definition of hedging or mitigating commercial
risk established by proposed Exchange Act Rule 3a67-4. To meet the
requirements of the definition, subsection 3a67-4(a)(3) of proposed
Rule 3a67-4 specifies that the counterparty to the security-based swap
must identify and document one or more risks associated with the
present or future conduct and management of the enterprise that are
being reduced by the security-based swap and establish and document a
method of assessing the effectiveness of the security-based swap as a
hedge for such identified risks. In complying with proposed Rule 3a67-
4, non-financial entities seeking to invoke the end-user clearing
exception would need to establish and maintain an appropriate
compliance mechanism including the necessary professional, legal,
technical and administrative support to make and document the required
assessment of hedging effectiveness.\76\
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\76\ See Definitions Proposing Release, supra note 3.
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The Commission preliminarily believes that counterparties
transacting in security-based swaps to hedge commercial risks
ordinarily will have established risk management or financial control
systems in place for other reasons which will likely be adjusted to
accommodate the requirements of proposed Rule 3a67-4(a)(3).\77\
Accordingly, the Commission preliminarily estimates that designing and
implementing an appropriate compliance and support program to estimate
the hedging effectiveness of security-based swaps would impose an
initial one time aggregate burden of approximately 44,000 hours,
corresponding to 11 burden hours for
[[Page 80005]]
each reporting party, to adjust these established risk management or
financial control systems to accommodate the requirements of proposed
Rule 3a67-4.\78\
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\77\ The Commission preliminarily believes some entities
establish and follow these types of procedures so that their hedging
transactions will qualify for hedge accounting treatment under
generally accepted accounting principles, which require procedures
similar to those contained in this proposed rule, or to meet other
statutory requirements. While hedging relationships involving
security-based swaps that qualify for the hedging or mitigating
commercial risk exception within the proposed rule are not limited
to those recognized as hedges for accounting purposes, we believe
that entities that are not seeking hedge accounting treatment for
their hedging transactions commonly identify and document their risk
management activities as well as assess the effectiveness of those
activities as a matter of good business practice. See also Item 305
of Regulation S-K, 17 CFR 229.305 (requiring SEC Filers to provide
identified risk based disclosures relating to their activities in
financial derivatives); Internal revenue Code Section 1259 (26
U.S.C. 1259) (recognizing hedging transactions as ``constructive
sales'' of certain appreciated financial positions in specified
circumstances).
\78\ This figure is based on the following: (Senior Business
Analyst at 4 hours) + (Compliance Manager at 4 hours) + (Director of
Compliance at 2 hours) + (Compliance Attorney at 1 hour) x (4000
respondents) = 44,000 burden hours; (44,000 burden hours per year)/
(4000 respondents) = 11 burden hours per year per respondent.
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The Commission preliminarily estimates that to gather the
information required to notify the Commission that a security-based
swap is being used to hedge or mitigate commercial risk purposes of
proposed Rule 3Cg-1(a)(4) would impose an ongoing aggregate annual
burden of approximately 62,000 burden hours for all respondents, which
corresponds to an ongoing annual aggregate burden of approximately 16
burden hours for each respondent.\79\ The Commission further
preliminarily estimates that for a party to make an assessment required
under proposed Rules 3Cg-1(b) and (c) of the proposed alternative rule
text, if applicable, gather the remaining information required by
proposed Rule 3Cg-1(a) and include the information in the security-
based swap information delivered to an SDR as contemplated by proposed
Regulation SBSR would impose an ongoing aggregate annual burden of
approximately 31,000 burden hours for all respondents, which
corresponds to an ongoing aggregate annual burden of approximately
eight (8) burden hours for each respondent,\80\ as each item of
additional information is factual information known to the party
invoking the end-user clearing exception and unlikely to vary from
transaction to transaction.\81\
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\79\ These figures are based on the following: (((Senior
Business Analyst at 30 minutes) + (Compliance Manager at 30
minutes)) x (6,200,000 security-based swap transactions) x (1%
transactions by parties eligible to invoke end-user clearing
exception)))/60 minutes = 62,000 burden hours per year; (62,000
burden hours per year)/4,000 respondents = 15.5 burden hours per
year per respondent.
\80\ These figures are based on the following: ((Compliance
Manager at 30 minutes) x (6,200,000 security-based swap
transactions) x (1% transactions by parties eligible to invoke end-
user clearing exception))/60 minutes = 31,000 burden hours per year;
(31,000 burden hours per year)/4,000 respondents = 7.75 burden hours
per year per respondent.
\81\ For example, the Commission preliminarily expects that a
counterparty's status as a non-financial entity, a finance affiliate
or an SEC Filer would change infrequently. The Commission
understands the time required to collect this information is likely
to vary depending on whether the particular security-based swap is
documented using electronic or manual processes. Electronic
processes allow for fields of required information to be populated
automatically, substantially reducing the time required for
transaction processing and compliance confirmation. A high
percentage of electronically eligible security-based swaps are
currently transacted using electronic processes. See ISDA, 2010 ISDA
Operations Benchmarking Survey (available at http://www.isda.org/c_and_a/pdf/ISDA-Operations-Survey-2010.pdf) (showing that for credit
derivatives 99% of transactions are eligible to be confirmed
electronically and 98% of eligible transactions are confirmed
electronically, while for equity derivatives 36% of transactions are
eligible to be confirmed electronically and 81% of eligible
transactions are confirmed electronically). The Commission
preliminarily believes CDS transactions represent 85% of all
security-based swap transactions. See supra note 69. The 30 minutes
of time estimated to be required to produce the information to
comply with proposed Rule 3Cg-1 (other than the hedging or
mitigating commercial risk requirement) is intended to account for
both manually and electronically processed transactions.
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The Commission preliminarily believes that proposed Rule 3Cg-1
would impose minimal additional burdens on either Reporting Parties not
using the end-user clearing exception themselves or on SDRs. Reporting
Parties would be required by proposed Regulation SBSR to report
transaction information relating to security-based swaps in a specified
manner, and the Commission therefore preliminarily believes reporting a
limited number of additional data elements to the SDR in an equivalent
manner will have a de minimis effect on the burdens they experience.
Similarly, the Commission preliminarily believes that for an SDR to
receive and retain these additional data fields would effectively
impose minimal additional burdens, as the information would be
transmitted and received electronically and would then be stored as
part of the existing transaction data already required under proposed
Regulation SBSR.
For the reasons described above, the Commission preliminarily
estimates that the initial one-time aggregate burden associated with
proposed Rule 3Cg-1 would be 44,000 hours, corresponding to 11 burden
hours for each respondent,\82\ and the recurring aggregate annualized
burden associated with proposed Rule 3Cg-1 would be 93,000 burden
hours, which corresponds to 23 annual burden hours per respondent.\83\
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\82\ See supra note 78 and accompanying text.
\83\ This figure is the sum of the calculations presented in
notes 79 and 80 above. Summation differences between the final
figures in the body of the text are due to the effects of rounding.
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E. Collection of Information Is Mandatory
The collection of information under proposed Rule 3Cg-1 would be
mandatory when a security-based swap counterparty chooses to invoke the
end-user clearing exception.
F. Record Retention Period
Information collected pursuant to proposed Rule 3Cg-1 would be
required to be retained for not less than five years. The Commission
recently proposed to adopt rules to regulate the operation of SDRs,
which include recordkeeping requirements for security-based swap
transaction data reported to a registered SDR pursuant to proposed
Regulation SBSR. Specifically, proposed Rule 13n-5(b)(5) would require
registered SDRs to maintain the transaction data for not less than five
years after the applicable security-based swap expires and historical
positions and historical market values for not less than five
years.\84\ Exchange Act Section 13A(c) \85\ requires each party to a
non-cleared security-based swap to maintain records of the security-
based swaps held by such party in the form required by the Commission,
and Exchange Act Section 13A(d) \86\ mandates that these records must
be in a form not less comprehensive than required to be collected by
SDRs. These records are available for inspection by the Commission and
other specified authorities pursuant to Exchange Act Section
13A(c)(2).\87\ Accordingly, security-based swap transaction reports
received by a registered SDR pursuant to proposed Rule 3Cg-1 and
proposed Rule 901 of Regulation SBSR would be required to be retained
for not less than five years.
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\84\ See Regulation SDR Release, supra note 42. See also Public
Law 111-203, Sec. 763(i) (adding Exchange Act Section 13(n)(5)).
\85\ See Public Law 111-203, sec. 766(a) (adding Exchange Act
Section 13A(c)).
\86\ See Public Law 111-203, sec. 766(a) (adding Exchange Act
Section 13A(d)).
\87\ See Public Law 111-203, sec. 766(a) (adding Exchange Act
Section 13A(c)(2)).
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G. Responses to Collection of Information Will Be Kept Confidential
A registered SDR would be under a general obligation to maintain
the confidentiality of all information collected pursuant to proposed
Rule 3Cg-1 and proposed Rule 901 of Regulation SBSR, subject to limited
exceptions under proposed Regulation SDR.\88\ The Commission also
preliminarily believes that the additional information collected
pursuant to proposed Rule 3Cg-1 would either fall under the exception
to public dissemination contained in proposed Rule 902(c)(2), or
otherwise should be excluded from the publicly-disseminated transaction
report.\89\ Accordingly, the Commission preliminarily believes the
collection of
[[Page 80006]]
information pursuant to proposed Rule 3Cg-1 would be confidential and
would not be publicly available.
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\88\ See Regulation SDR Release, supra note 42.
\89\ See supra note 47 and accompanying text.
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To the extent that the Commission receives confidential information
pursuant this collection of information, such information would be kept
confidential, subject to the provisions of the Freedom of Information
Act (``FOIA''). Exemption 4 of FOIA provides an exemption for ``trade
secrets and commercial or financial information obtained from a person
and privileged or confidential'' \90\ The information required to be
submitted to the Commission under proposed Rule 3Cg-1 may contain
proprietary financial information regarding security-based swap
transactions and therefore be subject to protection from disclosure
under Exemption 4 of the FOIA.
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\90\ 5 U.S.C. 552(b)(4).
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H. Request for Comment
Pursuant to 44 U.S.C. 3505(c)(2)(B), the Commission solicits
comment to:
1. Evaluate whether the proposed collection of information is
necessary for the performance of the functions of the agency, including
whether the information shall have practical utility;
2. Evaluate the accuracy of the agency's estimate of the burden of
the proposed collection of information;
3. Enhance the quality, utility and clarity of the information to
be collected; and
4. 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.
Persons wishing to submit comments on the collection of information
requirements should direct them to the following persons: (1) Desk
Officer for the Securities and Exchange Commission, Office of
Information and Regulatory Affairs, OMB, Room 3208, New Executive
Office Building, Washington, DC 20503; and (2) Secretary, Securities
and Exchange Commission, 100 F Street, NE., Washington, DC 20549-1090
with reference to File No. S7-43-10. OMB is required to make a decision
concerning the collection of information between 30 and 60 days after
publication, so a comment to OMB is best assured of having its full
effect if OMB receives it within 30 days of publication. The Commission
has submitted the proposed collection of information to OMB for
approval. Requests for the materials submitted to OMB by the Commission
with regard to this collection of information should be in writing,
refer to File No. S7-43-10, and be submitted to the Securities and
Exchange Commission, Office of Investor Education and Advocacy, 100 F
Street, NE., Washington, DC 20549-0213.
VI. Analysis of Costs and Benefits of the Proposed Rule
Proposed Rule 3Cg-1 implements the requirements of Exchange Act
Section 3C(g) which provides an exception to the general requirement
that a security-based swap must be cleared provided that one party to
the security-based swap (1) Is not a financial entity, (2) is using
security-based swaps to hedge or mitigate commercial risk, and (3)
notifies the Commission, in a manner set forth by the Commission, how
it generally meets its financial obligations associated with entering
into non-cleared security-based swaps. The application of the end-user
clearing exception is solely at the discretion of the counterparty to
the security-based swap that meets the conditions of Exchange Act
Section 3C(g)(1). Section 3C(g) specifically preserves the ability of
counterparties qualifying for the end-user clearing exception to elect
to clear a security-based swap when a clearing agency is available and
to select the clearing agency at which the security-based swap will be
cleared.
The purpose of mandatory clearing of security-based swap products
is to centralize individual counterparty risks through a clearing
agency acting as a central counterparty that distributes risk among the
clearing agency's participants. When effective, centralization of
counterparty risks through clearing reduces the likelihood that
defaults propagate between counterparties by establishing and enforcing
margin requirements based on risk-based models and parameters designed
to limit the possibility that participants will be exposed to losses
they cannot anticipate or control. Effective central clearing can also
lessen the risk of capital flight from a dealer that becomes
economically distressed. In particular, without central clearing, a
solvency concern at a major dealer could be made worse by its
counterparties quickly moving to other dealers.\91\
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\91\ Darrell Duffie and Haoxiang Zhu, ``Does a Central Clearing
Counterparty Reduce Counterparty Risk?,'' (Stanford University,
Working Paper, 2010) (available at http://www.stanford.edu/~duffie/
DuffieZhu.pdf).
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However, mandatory clearing of security-based swap products may
also alter the burdens on non-financial end-users of derivatives
relative to bilateral transactions, including direct costs associated
with clearing fees and additional margin requirements and indirect
costs associated with using derivatives less tailored to their
individual business needs and thereby possibly affect their risk
management practices.\92\ Exchange Act Section 3C(g) is designed to
permit non-financial end-users that meet the specified conditions to
elect not to centrally clear security-based swaps and retain
flexibility to use both cleared and non-cleared security-based swaps in
their risk management activities.
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\92\ See supra note 11 and accompanying text.
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A. Notification to the Commission
Exchange Act Section 3C(g)(1)(C) requires a non-financial entity
that uses security-based swaps to hedge or mitigate commercial risk to
notify the Commission how it generally meets its financial obligations
associated with non-cleared security-based swaps in order for the end-
user clearing exception to be available.\93\ Section 3C(g)(1)(C)
contemplates that the Commission may establish the manner of
notification and Exchange Act Section 3C(g)(6) provides that the
Commission may prescribe such rules as may be necessary to prevent
abuse of the end-user clearing exception. In accordance with Exchange
Act Sections 3C(g)(1)(C) and 3C(g)(6), proposed Rule 3Cg-1(a) requires
that notification be given to the Commission by delivering specified
information to a registered SDR or the Commission with each security-
based swap transaction that invokes the end-user clearing exception in
the manner required by proposed new Regulation SBSR under the Exchange
Act.\94\
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\93\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(1)(c)).
\94\ See Regulation SBSR Proposing Release, supra note 16.
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1. Meeting Financial Obligations
Proposed Rule 3Cg-1(a)(5) requires the reporting of five specified
items of information to satisfy the requirement under the Exchange Act
Section 3C(g)(1)(C) for a non-financial entity invoking the end-user
clearing exception to notify the Commission of ``how it generally meets
its financial obligations associated with non-cleared security-based
swaps.'' Because non-cleared security-based swaps are not subject to
uniform margin and collateral requirements such as those established by
clearing agencies, providing this information will be useful in
monitoring the extent to which non-financial entities that invoke the
end-user exception are taking steps to mitigate credit risks associated
with security-based swaps.
[[Page 80007]]
In order to understand these potential risks, proposed Rule 3Cg-
1(a)(5) requires a counterparty invoking the end-user clearing
exception to provide notification regarding how they expect to meet
their financial obligations associated with the security-based swap by
reporting specified information to a registered security-based swap
depository. In particular, an entity invoking the end-user clearing
exception must indicate in the materials provided to the SDR whether it
provides security for the performance of its financial obligations by
(i) Transferring assets directly to the security-based swap
counterparty pursuant to a written credit support agreement; (ii)
pledging collateral pursuant to a security arrangement not requiring
the transfer of collateral to the security-based swap counterparty;
(iii) receiving credit support from a third-party pursuant to a written
guarantee; (iv) solely relying on its available financial resources; or
(v) using other means.
a. Benefits
Requiring end-users to provide the Commission with general
information regarding their arrangements to meet financial obligations
associated with non-cleared security-based swaps may confer benefits by
reducing concerns about the potential risks that these market
participants introduce into the financial markets in the absence of
central clearing. The notification will also allow the Commission to
understand how margining and other credit support practices may affect
the prices and liquidity of security-based swaps, including by
comparing and contrasting the trading costs of non-cleared security-
based swaps with different credit support characteristics to each other
and to security-based swaps that are cleared. Proposed Rule 3Cg-1(a)(5)
also establishes a reporting option for ``other means'' that may be
used to meet financial obligations associated with non-cleared
security-based swaps providing the Commission with insight on the
possible emergence of new and currently less common methods of
mitigating financial risks associated with non-cleared security-based
swaps that may arise as the market develops.
b. Costs
The Commission preliminarily estimates the costs associated with
the notification required by Rule 3Cg-1(a)(5) will be limited, as the
methods used to meet financial obligations associated with non-cleared
security-based swaps are expected to be readily known to counterparties
invoking the end-user clearing exception and unlikely to vary from
transaction to transaction. The Commission preliminarily estimates
there are 6,200,000 transactions in security-based swaps annually,\95\
and that parties eligible to invoke the end-user clearing exception are
counterparties in approximately 1% of all security-based swap
transactions.\96\ The Commission preliminarily estimates that to gather
the information required for purposes of complying with proposed Rule
3Cg-1(a)(5) would impose an ongoing aggregate annual burden of
approximately 15,500 burden hours for all respondents, which
corresponds to a burden of four (4) burden hours for each
respondent.\97\ Accordingly, applying an estimated hourly cost of $316
for a compliance attorney to gather information about how the
counterparty is meeting its Financial Notice Obligation,\98\ the
Commission preliminarily estimates proposed Rule 3Cg-1(a)(5) would
result in an ongoing aggregate annual cost of $4,900,000 to the entire
end-user community, which corresponds to an average ongoing aggregate
annual cost of $1,225 per end-user.\99\
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\95\ See supra note 72 and accompanying text.
\96\ Based on the information presented in note 73 above and the
accompanying text, the Commission preliminarily estimates entities
qualifying for the end-user exception are involved in roughly 1% of
the estimated 6,200,000 annual security-based swap transactions, or
62,000 such transactions ((6,200,000 x 1%) = 62,000).
\97\ See supra note 80 and accompanying text. The estimates that
follow are based on an assumption that the burden of complying with
proposed Rule 3Cg-1(a)(5) is equivalent to the burden of complying
with the other requirements of proposed Rule 3Cg-1, not including
proposed Rule 3Cg-1(a)(4).
\98\ The hourly rate for the compliance attorney is from SIFMA's
Management & Professional Earnings in the Securities Industry 2009,
modified by the Commission's staff to account for an 1800-hour work-
year and multiplied by 5.35 to account for bonuses, firm size,
employee benefits and overhead. The remaining hourly rates for
professionals used in this cost benefit analysis section are also
derived from this source and modified in the same manner.
\99\ These monetized costs are calculated as follows: (15
minutes/60 minutes per hour) x ($316 dollars per hour) x (62,000
security-based swap transactions annually) = $4,898,000 annually;
($4,898,000 annually)/4,000 respondents = $1,225 average annually
per respondent.
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2. Preventing Abuse of the End-User Clearing Exception
To aid the Commission's efforts to prevent abuse of the end-user
clearing exception, proposed Rule 3Cg-1(a) requires notification of
which of the counterparties to the security-based swap is invoking the
end-user clearing exception, whether the counterparty invoking the
exception is or is not a financial entity, whether the counterparty
invoking the exception is a finance affiliate meeting the requirements
of Exchange Act 3C(g)(4), whether the counterparty invoking the
exception uses the security-based swap to hedge or mitigate commercial
risk, and whether the counterparty invoking the exception is an SEC
Filer. SEC Filers invoking the end-user clearing exception must provide
their SEC Central Index Key number and confirm that an appropriate
committee of the SEC Filer's board of directors or equivalent body has
reviewed and approved the decision to enter into the security-based
swap that is subject to the end-user clearing exception.
a. Benefits
Requiring notification of the above-listed information would
provide regulators with information about the end-user that could help
verify that the end-user clearing exception is being invoked by market
participants appropriately. The requirement to identify which
counterparty is invoking the end-user clearing exception is critical in
making this determination. Similarly, since Exchange Act Section 3C(g)
limits the availability of the end-user clearing exception to non-
financial entities and counterparties hedging or the mitigating
commercial risk, an affirmative notification to the Commission that
these two factors are satisfied will help verify eligibility of the
counterparty to invoke the exception. Given the nature of the specific
provisions in the Exchange Act governing use of the end-user clearing
exception by finance affiliates,\100\ separately identifying
transactions involving finance affiliates will also help to ensure
these requirements are complied with over time.
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\100\ See Public Law 111-203, sec. 763(a) (adding Exchange Act
Section 3C(g)(4)).
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The Commission preliminarily expects counterparties to security-
based swaps invoking the end-user clearing exception would frequently
be entities that have raised capital in public financial markets and
are therefore regulated by the Commission.\101\ Entities registered
under the Exchange Act Section 12 or required to file reports pursuant
to the Exchange Act Section 15(d) are generally required to include a
discussion of qualitative and quantitative elements of market risk in
annual reports filed with the Commission, including a discussion of
[[Page 80008]]
how derivatives are used to manage risk.\102\ Notification by an end-
user that it is subject to this requirement would allow regulators to
review how frequently SEC Filers use the end-user clearing exception
and better understand how security-based swaps are used by SEC Filers
to hedge or mitigate commercial risk. The proposed requirement that SEC
Filers invoking the end-user clearing exception provide the relevant
Commission file number will allow the Commission to cross reference
information received in connection with the end-user clearing exception
with other Commission documents more easily. The additional proposed
requirement that SEC Filers indicate whether a committee of the board
of directors (or equivalent body) reviewed and approved the decision to
enter into the security-based swap that is the subject of the end-user
clearing exception would serve as confirmation that the requirements of
Exchange Act Section 3C(i) applicable to SEC Filers were completed.
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\101\ See Coalition for Derivatives End-Users comment (September
20, 2010), pursuant to Definitions Contained in Title VII of Dodd-
Frank Wall Street Reform and Consumer Protection Act, Exchange Act
Rel. No. 34-62,717, 75 FR 51,429 (Aug. 20, 2010).
\102\ See Item 305 of Regulation S-K, 17 CFR 229.305. The
Commission does not require companies with a public common equity
float of less than $75 million, or, if a company is unable to
calculate public equity float, less than $50 million in revenue in
the last fiscal year to provide quantitative and qualitative
disclosure about market risk as required of larger companies under
Regulation S-K. See Smaller Reporting Company Regulatory Relief and
Simplification, Securities Act Release No. 8876, Exchange Act
Release No. 56994, Trust Indenture Act No. 2451 (Dec. 19, 2007), 73
FR 934 (Jan. 4, 2008).
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b. Costs
To qualify for the end-user clearing exception a non-financial
entity would be required to determine whether the terms of the proposed
security-based swap and the manner in which it will be used satisfy the
definition of hedging or mitigating commercial risk established by
proposed Exchange Act Rule 3a67-4. To meet the requirements of the
definition, subsection 3a67-4(a)(3) of proposed Rule 3a67-4 specifies
that the counterparty to the security-based swap must identify and
document one or more risks associated with the present or future
conduct and management of the enterprise and establish and document a
method of assessing the effectiveness of the security-based swap as a
hedge for such identified risks.
The Commission preliminarily believes that non-financial entities
seeking to invoke the end-user clearing exception would need to
establish and maintain an appropriate compliance mechanism to meet the
hedge or mitigate standard in proposed Rule 3a67-4 including the
necessary professional, legal, technical and administrative support to
make and document the required assessment of hedging
effectiveness.\103\ The Commission also preliminarily believes that
counterparties transacting in security-based swaps to hedge commercial
risks ordinarily will have established risk management systems in place
for other reasons that can be adjusted to accommodate the requirements
of proposed Rule 3Cg-1(a)(4) and proposed Rule 3a67-4.\104\
Accordingly, the Commission preliminarily estimates that designing and
implementing an appropriate compliance and support program to identify
the risks being reduced and document the hedging effectiveness of
security-based swaps would impose an initial one time initial aggregate
cost of $13,200,000 to all end-users, which corresponds to an average
initial cost of $3300 per end-user.\105\
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\103\ See supra note 76 and accompanying text.
\104\ See supra note 77 and accompanying text.
\105\ This figure is based on the following: (Senior Business
Analyst at 4 hours x $234 per hour) + (Compliance Manager at 4 hours
x $294 per hour) + (Director of Compliance at 2 hours x $426 per
hour) + (Compliance Attorney at 1 hour x $316 per hour) x (4000
respondents) = $13,120,000; ($13,120,000 initial aggregate cost)/
(4000 respondents) = $3,280 initial aggregate cost per respondent.
See also supra note 78.
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The Commission expects there would also be ongoing costs associated
with determining whether the hedging or mitigating commercial risk
standard is met for each security-based swap transaction for which the
end-user clearing exception is invoked. The Commission preliminarily
estimates that to gather the information required for purposes of
complying with proposed Rule 3a67-4 and proposed Rule 3Cg-1(a)(4) would
impose an ongoing aggregate annual burden of approximately 62,000
burden hours for all respondents, which corresponds to a burden of 16
burden hours for each respondent.\106\ Assuming an hourly cost of $234
per hour for a senior business analyst and $294 per hour for a
compliance manager to meet this requirement, proposed Rule 3Cg-1 would
impose an annual cost of $16,400,000 to all end-users and an average
annual cost of $4,100 dollars per end-user.\107\
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\106\ See supra note 79 and accompanying text. The estimates
that follow are based on an assumption that the burden of complying
with proposed Rule 3Cg-1(a)(5) is equivalent to the burden of
complying with the requirements of proposed Rule 3Cg-1, not
including proposed Rules 3Cg-1(a)(4), given the comparable nature of
the information required.
\107\ This figure is based on the following: ((Senior Business
Analyst at 30 minutes x $234 per hour) + (Compliance Manager at 30
minutes x $294 per hour)) x ((6,200,000 security-based swap
transactions) x (1% transactions by parties eligible to invoke end-
user clearing exception)) = $16,368,000 aggregate ongoing costs per
year; ($16,368,000 aggregate ongoing costs per year)/(4,000
respondents) = $4,092 in aggregate ongoing costs per year per
respondent. These figures do not include the costs associated with
complying with proposed Rule 3Cg-1(a)(5), which are separately
accounted for in note 99 above and the accompanying text, or costs
associated with proposed Rule 3Cg-1 other than proposed Rules 3Cg-
1(a)(4) and (5), which are separately accounted for in note 112
below and the accompanying text. See also supra note 79.
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It was estimated that to make an assessment required under proposed
Rules 3Cg-1(b) and (c) of the alternative proposed rule text, if
applicable, gather the information required by Rule 3Cg-1(a) besides
the information with respect to hedging or mitigating commercial risk,
would require the additional work of a compliance manager.\108\ That
information is factual information a party is likely to have as a
result of its existing compliance process and the information is
unlikely to vary between transactions.\109\ Costs associated with
collecting requisite Financial Obligation Notice information required
by proposed Rule 3Cg-1(a)(5) have already been discussed.\110\
Therefore, the information collection and reporting costs that remain
to be accounted for are those not associated with either proposed Rules
3Cg-1(a)(4) or (5). The Commission preliminarily estimates that to
gather the information required for purposes of complying with proposed
Rule 3Cg-1 other than proposed Rules 3Cg-1(a)(4) and (5) would impose
an ongoing aggregate annual burden of approximately 15,500 burden hours
for all respondents, which corresponds to a burden of four (4) burden
hours for each respondent.\111\ These remaining costs are estimated to
impose an annual cost of approximately $4,600,000 on all respondents
and an average annual cost of approximately $1,200 per respondent.\112\
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\108\ See supra note 80 and accompanying text.
\109\ See supra note 81.
\110\ See supra note 99 and accompanying text.
\111\ See supra note 80 and accompanying text. The estimates
that follow are based on an assumption that the burden of complying
with proposed Rule 3Cg-1(a)(5) is equivalent to the burden of
complying with the requirements of proposed Rule 3Cg-1, not
including proposed Rule 3Cg-1(a)(4), given the comparable nature of
the information required.
\112\ These monetized costs are calculated as follows: (15
minutes/60 minutes per hour) x (Compliance Manager at $294 dollars
per hour) x (62,000 security-based swap transactions annually) =
$4,557,000 annually; ($4,557,000 dollars annually)/(4,000
respondents) = $1,139 average annually per respondent. These figures
do not include the costs associated with complying with proposed
Rule 3Cg-1(a)(5), which are separately accounted for in note 99
above and the accompanying text, and the costs associated with
complying with proposed Rule 3Cg-1(a)(4), which are separately
accounted for in note 107 above and the accompanying text.
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[[Page 80009]]
3. Form of Notice to the Commission
Exchange Act Section 3C(g)(1)(C) requires that a non-financial
entity invoking the end-user clearing exception notify the Commission
how it generally meets its financial obligations and gives the
Commission discretion to establish how to collect this information. To
satisfy this requirement, proposed Rule 3Cg-1(a) requires entities
invoking the end-user clearing exception to deliver specified
information to a registered SDR in the form and manner required for
delivery of information specified under proposed Rule 901(d) of
Regulation SBSR.\113\ Under this approach, rather than collecting
information through a separate process established by the Commission
for these purposes, the information delivered in compliance with the
requirements of proposed Rule 3Cg-1(a) and proposed Regulation SBSR
would serve as the notice to the Commission necessary to invoke the
end-user clearing exception.
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\113\ See supra notes 16-20 and accompanying text.
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a. Benefits
Since all market participants must already report security-based
swap transactions to a registered SDR, the Commission preliminarily
believes that requiring participants invoking the end-user clearing
exception to report the information required by proposed Rule 3Cg-1(a)
as part of the transaction record should be a reliable and cost-
effective method of collecting the information. Standardized reporting
through a registered SDR also should increase transparency of the
market to regulators by providing a full account of all transactions,
which benefits market participants through increased confidence in the
reliability and integrity of market transactions and activity.
Furthermore, standardized reports should allow periodic auditing, which
should be less costly to regulators than examining on a case-by-case
basis possibly unstructured financial data submitted by entities
invoking the exception to perform their regulatory duties.
b. Costs
Because the form of notice required by proposed Rule 3Cg-1(a) would
use the existing reporting and recordkeeping mechanism for security-
based swap transactions that is required by proposed Rule 901 of
Regulation SBSR, the Commission preliminarily believes the form of
notice required by proposed Rule 3Cg-1(a) would impose no additional
burden on persons invoking the end-user clearing exception or SDRs
other than those described above. The information required to be
provided to the Commission pursuant to proposed Rule 3Cg-1(a) would be
transmitted and received electronically and would be stored as part of
the existing transaction materials that would be required to be
prepared by proposed Regulation SBSR. The Commission preliminarily
believes that information collected under proposed Rule 3Cg-1 will not
be required to be publicly disseminated by the SDR, therefore the
Commission preliminarily believes there will be no costs associated
with organizing and posting such information under the requirements for
public dissemination of information proposed to be met by SDRs.\114\
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\114\ See Regulation SBSR Proposing Release, supra note 16,
proposed Rule 902; Regulation SDR Release, supra note 42, proposed
Rule 13n-4(b)(6).
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4. Total Costs
In total, the Commission preliminarily estimates that proposed Rule
3Cg-1 would result in a one-time initial aggregate annualized cost of
$13,200,000, or $3400 per covered entity \115\ and an ongoing aggregate
annualized cost of $25,900,000 for all covered entities, or
approximately $6,500 per covered entity.\116\
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\115\ See supra note 105 and accompanying text.
\116\ These figures are based on the following: ($4,900,000
associated with proposed Rule 3Cg-1(a)(5)) + ($16,400,000 to comply
with proposed Rule 3Cg-1(a)(4)) + ($4,600,000 to comply with other
notification requirements established by Rule 3Cg-1) = $25,900,000;
($25,900,000 aggregate annual ongoing costs)/(4000 covered entities)
= $6,475 per covered entity.
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B. Request for Comments
The Commission requests comment on the costs and benefits of
proposed Rule 3Cg-1 discussed above, as well as any costs and benefits
not already described that could result. The Commission also requests
data to quantify any potential costs and benefits. In addition, the
Commission requests comment on the following:
What other factors, if any, should the Commission consider
to estimate the costs and benefits of proposed Rule 3Cg-1?
Is there additional data the Commission should use to
estimate the costs and benefits of proposed Rule 3Cg-1?
Would proposed Rule 3Cg-1 create additional costs and
benefits not discussed here?
VII. Consideration of Burden on Competition, and Promotion of
Efficiency, Competition, and Capital Formation
Section 3(f) of the Exchange Act requires the Commission, whenever
it engages in rulemaking and is required to consider or determine
whether an action is necessary or appropriate in the public interest,
to consider whether the action would promote efficiency, competition,
and capital formation. In addition to the protection of investors,
Section 23(a)(2) of the Exchange Act requires the Commission, when
making rules under the Exchange Act, to consider the impact of such
rules on competition.\117\ Section 23(a)(2) also prohibits the
Commission from adopting any rule that would impose a burden on
competition not necessary or appropriate in furtherance of the purposes
of the Exchange Act.
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\117\ See 15 U.S.C. 78w(a)(2).
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The Commission preliminarily believes that the Rule 3Cg-1 would
impose limited competitive burdens on counterparties to security-based
swaps qualifying for the end-user clearing exception and the financial
markets generally because the overall costs associated with invoking
the end-user clearing exception are limited. Using the proposed
reporting structure of Regulation SBSR to satisfy the notice
requirement necessary to invoke the end-user clearing exception would
promote efficiency by allowing participants in the security-based swap
market to use an existing process to accomplish an additional
legislative requirement. Satisfaction of the notice requirement in this
way is preliminarily believed by the Commission to promote efficiency
by allowing participants to fully utilize the capabilities of SDRs
being established to serve the security-based swaps market specifically
rather than requiring them to use a separate filing process and data
repository created for other purposes, such as the Commission's EDGAR
system, or to establish new infrastructure or business processes to
meet the statutory notice obligation.
The end-user clearing exception would be available to non-financial
entities \118\ that use security-based swaps to hedge or mitigate
commercial risk, but do not necessarily compete with each other. Such
counterparties by definition would not transact in
[[Page 80010]]
security-based swaps as their primary business, but rather as part of a
risk management program related to their other commercial operations.
Therefore, the Commission preliminarily expects the end-user clearing
exception to have a neutral effect on competition. In addition,
proposed Rule 3Cg-1 contains elements noted above intended to limit the
potential for the end-user clearing exception to be abused, as
contemplated by Exchange Act Section 3C(g)(6). Features of this kind
are preliminarily expected by the Commission to limit the potential for
counterparties that make use of the exception to avoid the mandatory
clearing requirements to gain an unfair competitive advantage over
their competitors.
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\118\ For purposes of the discussion that follows, the term
``non-financial entities'' includes Identified Financial
Institutions that would be excluded from the definition of
``financial entity'' in Exchange Act Section 3C(g)(3) in the event
the proposed alternative language in Rules 3Cg-1(b) and (c) is
adopted by the Commission.
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Proposed Rule 3Cg-1 allows certain non-financial entities who use
security-based swaps to hedge or mitigate commercial risk to bypass
mandatory clearing, and instead engage in non-cleared security-based
swap transactions even when equivalent products are available for
clearing by a central counterparty. To the extent that proposed Rule
3Cg-1 is successful in separating appropriate uses of the end-user
clearing exception from abusive ones, the proposed rule should help
economic efficiency and capital formation by not imposing additional
costs on end-users using security-based swaps to hedge or mitigate
commercial risk and therefore not contributing to systemic risk in the
financial system.
The Commission requests comment on the possible effects of proposed
Rule 3Cg-1 on efficiency, competition, and capital formation. The
Commission requests that commenters provide views and supporting
information regarding any such effects. The Commission notes that such
effects are difficult to quantify. The Commission seeks comment on
possible anti-competitive effects of the proposed Rule not already
identified. The Commission also requests comment regarding the
competitive effects of pursuing alternative regulatory approaches such
as requiring notice to be provided through the Commission's EDGAR
system. In addition, the Commission requests comment on how the other
provisions of the Dodd-Frank Act, for which Commission rulemaking is
required, will interact with and influence the competitive effects of
the proposed Rule.
VIII. Consideration of Impact on the Economy
For purposes of the Small Business Regulatory Enforcement Fairness
Act of 1996 (``SBREFA'') the Commission must advise the OMB whether the
proposed regulation constitutes a ``major'' rule.\119\ Under SBREFA, a
rule is considered ``major'' where, if adopted, it results or is likely
to result in: (1) An annual effect on the economy of $100 million or
more (either in the form of an increase or a decrease); (2) a major
increase in costs or prices for consumers or individual industries; or
(3) significant adverse effect on competition, investment or
innovation. If a rule is ``major,'' its effectiveness will generally be
delayed for 60 days pending Congressional review.
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\119\ See Public Law 104-121 (March 29, 1996), as amended by
Public Law 110-28 (May 25, 2007).
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The Commission requests comment on the potential impact of proposed
Rule 3Cg-1, on the economy on an annual basis, on the costs or prices
for consumers or individual industries, and on competition, investment,
or innovation. Commenters are requested to provide empirical data and
other factual support for their view to the extent possible.
IX. Initial Regulatory Flexibility Act Certification
Section 603(a) of the Regulatory Flexibility Act \120\ (``RFA'')
requires federal agencies, in promulgating rules, to make available for
public comment an initial regulatory flexibility analysis that
describes the impact of the proposed rule on small entities.
Alternatively, section 605(b) of the RFA provides that this analysis
shall not apply to any proposed rule or proposed rule amendment, if the
head of the agency certifies that the rule if promulgated will not have
a significant economic impact on a substantial number of small
entities.
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\120\ See Public Law 96-354, 94 Stat. 1164 (1980), as amended by
SBREFA.
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For purposes of Commission rulemaking in connection with the RFA, a
small business includes an issuer or person, other than an investment
company, that on the last day of its most recent fiscal year had total
assets of $5 million or less.\121\ Based on input from security-based
swap market participants and its own information, the Commission
preliminarily believes that currently there is very little use of
security-based swaps by non-financial entities that would be eligible
to use the end-user clearing exception,\122\ and that the non-financial
entities eligible to invoke the end-user clearing exception and
transacting in security-based swaps would be corporations, partnerships
and trusts with assets in excess of $10 million.\123\ On this basis,
the Commission preliminarily believes that the number of security-based
swap transactions involving a small entity as that term is defined for
purposes of the RFA would be de minimis. Moreover, the Commission does
not believe that any aspect of proposed Rule 3Cg-1 would be likely to
alter the type of counterparties presently engaging in security-based
transactions. Therefore, the Commission preliminarily believes that
proposed Rule 3Cg-1 would have a de minimis impact on small entities.
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\121\ 17 CFR 230.157. See also 17 CFR 240.0-10(a).
\122\ See supra note 73 and accompanying text.
\123\ The Commodity Futures Modernization Act of 2000 introduced
the concept of ``eligible contract participant'' that the Commission
preliminarily believes is a standard frequently referenced by market
participants and which may act to limit the ability of non-financial
entities with assets less than $10 million to transact in security-
based swaps. See Public Law 106-554, 114 Stat. 2763 (Dec. 21, 2000).
See also Section 1(a)(18) of the Commodity Exchange Act (``CEA''), 7
U.S.C. 1a(18) as re-designated and amended by Section 721 of the
Dodd-Frank Act (defining ``eligible contract participant''). The
Dodd-Frank Act added a definition of eligible contract participant
to the Exchange Act which references the equivalent definition in
the CEA, and created new standards to limit the ability of persons
who are not eligible contract participants to transact in security-
based swaps. See Public Law 111-203, Sec. 761(a) (adding Exchange
Act Section 3(a)(65)). See also Public Law 111-203, Sec. 761(e)
(adding Exchange Act Section 6(l)) (making it unlawful for any
person to effect a transaction in a security-based swap for a person
that is not an eligible contract participant, unless such
transaction is conducted on a registered national securities
exchange).
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For the foregoing reasons, the Commission certifies that Rule 3Cg-1
would not have a significant economic impact on a substantial number of
small entities for purposes of the RFA. The Commission encourages
written comments regarding this certification. The Commission requests
that commenters describe the nature of any impact on small entities and
provide empirical data to support the extent of the impact.
X. Statutory Basis and Text of Proposed Rule
Pursuant to the Exchange Act and particularly Section 3C thereof,
the Commission proposes new Rule 3Cg-1, as set forth below, governing
the exception to mandatory clearing of security-based swaps established
by Exchange Act Section 3C(g).
List of Subjects in 17 CFR Part 240
Reporting and recordkeeping requirements, Securities.
Text of the Proposed Rule
In accordance with the foregoing, Title 17, Chapter II of the Code
of Federal Regulations, is proposed to be amended as follows.
[[Page 80011]]
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
1. The authority citation for part 240 is amended by adding the
following citation in numerical order to read as follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77z-3,
77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i,
78j, 78j-1, 78k, 78k-1, 78l, 78m, 78n, 78o, 78o-4, 78p, 78q, 78s,
78u-5, 78w, 78x, 78ll, 78mm, 80a-20, 80a-23, 80a-29, 80a-37, 80b-3,
80b-4, 80b-11, and 7201 et seq.; 18 U.S.C. 1350; and 12 U.S.C.
5221(e)(3), unless otherwise noted.
* * * * *
Section 240.3Cg-1 is also issued under Public Law 111-203, Sec.
763, 124 Stat. 1841 (2010).
* * * * *
2. Add Sec. 240.3Cg-1 to read as follows:
Sec. 240.3Cg-1 Notice to the Commission [and Financial Entity
Exemption].
(a) A counterparty to a security-based swap that invokes the
clearing exception under Section 3C(g)(1) of the Act (15 U.S.C. 78c-
3(g)(1)) shall satisfy the requirements of Section 3C(g)(1)(C) of the
Act (15 U.S.C. 78c-3(g)(1)(C)) by delivering or causing to be delivered
the following additional information to a registered security-based
swap data repository (or, if none is available, to the Commission) in
the form and manner required for delivery of the information separately
specified under Sec. 242.901(d) of Regulation SBSR of this chapter:
(1) The identity of the counterparty relying on the clearing
exception;
(2) Whether the counterparty invoking the clearing exception is a
``financial entity'' as defined in Section 3C(g)(3) of the Act (15
U.S.C. 78c-3(g)(3));
(3) Whether the counterparty invoking the clearing exception is a
finance affiliate meeting the requirements described in Section
3C(g)(4) of the Act (15 U.S.C. 78c-3(g)(4));
(4) Whether the security-based swap is used by the counterparty
invoking the clearing exception to hedge or mitigate commercial risk as
defined in Sec. 240.3a67-4 of this chapter;
(5) Whether the counterparty invoking the clearing exception
generally expects to meet its financial obligations associated with the
security-based swap by using any of the following:
(i) A written credit support agreement;
(ii) A written agreement to pledge or segregate assets;
(iii) A written third-party guarantee;
(iv) Solely the counterparty's available financial resources; or
(v) Means other than those described in paragraphs (a)(5)(i), (ii),
(iii), and (iv) of this section;
(6) Whether the counterparty invoking the clearing exception is an
issuer of securities registered under Section 12 (15 U.S.C. 78l) or
subject to reporting requirements pursuant to Section 15(d) (15 U.S.C.
78o(d)) of the Act, and if so:
(i) The relevant Commission Central Index Key number for the
counterparty invoking the clearing exception; and
(ii) Whether an appropriate committee of the board of directors (or
equivalent body) of the counterparty invoking the clearing exception
has reviewed and approved the decision to enter into a security-based
swap subject to the clearing exception.
Additional Rule Text Under Consideration by the Commission
(b) For purposes of Section 3C(g)(1)(A) of the Act (15 U.S.C. 78c-
3(g)(1)(A)), any person specified in paragraph (c) of this section that
would be a financial entity within the meaning of the term in Section
3C(g)(3)(A) of the Act (15 U.S.C. 78c-3(g)(3)(A)) solely because of
Section 3C(g)(3)(A)(viii) of the Act (15 U.S.C. 78c-3(g)(3)(A)(viii))
shall be exempt from the definition of financial entity.
(c) A person shall be eligible for the exemption in paragraph (b)
of this section if such person:
(1) Is organized as a bank, as defined in Section 3(a)(6) of the
Act (15 U.S.C. 78c), the deposits of which are insured by the Federal
Deposit Insurance Corporation, a savings association, as defined in
section 3(b) of the Federal Deposit Insurance Act (12 U.S.C. 1831), the
deposits of which are insured by the Federal Deposit Insurance
Corporation, a farm credit system institution chartered under the Farm
Credit Act of 1971 (12 U.S.C. 2001), or an insured Federal credit union
or State-chartered credit union under the Federal Credit Union Act (12
U.S.C. 1752); and
(2) Has total assets of $10,000,000,000 or less on the last day of
the most recent fiscal year.
By the Commission.
Dated: December 15, 2010.
Elizabeth M. Murphy,
Secretary.
[FR Doc. 2010-31973 Filed 12-20-10; 8:45 am]
BILLING CODE 8011-01-P