[Federal Register Volume 75, Number 248 (Tuesday, December 28, 2010)]
[Proposed Rules]
[Pages 81519-81532]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-32264]
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COMMODITY FUTURES TRADING COMMISSION
17 CFR Part 23
RIN 3038-AC96
Confirmation, Portfolio Reconciliation, and Portfolio Compression
Requirements for Swap Dealers and Major Swap Participants
AGENCY: Commodity Futures Trading Commission.
ACTION: Notice of proposed rulemaking.
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SUMMARY: The Commodity Futures Trading Commission (Commission or CFTC)
is proposing regulations to implement new statutory provisions
established under Title VII of the Dodd-Frank Wall Street Reform and
Consumer Protection Act (Dodd-Frank Act). Section 731 of the Dodd-Frank
Act added a new section 4s(i) to the Commodity Exchange Act (CEA),
which requires the Commission to prescribe standards for swap dealers
and major swap participants related to the timely and accurate
confirmation, processing, netting, documentation, and valuation of
swaps. The proposed rules would establish requirements for swap
confirmation, portfolio reconciliation, and portfolio compression for
swap dealers and major swap participants.
DATES: Submit comments on or before February 28, 2011.
ADDRESSES: You may submit comments, identified by RIN number 3038-AC96
and Confirmation, Portfolio Reconciliation, and Portfolio Compression
Requirements for Swap Dealers and Major Swap Participants, by any of
the following methods:
Agency Web site, via its Comments Online process at http://comments.cftc.gov. Follow the instructions for submitting comments
through the Web site.
Mail: David A. Stawick, Secretary of the Commission,
Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st
Street, NW., Washington, DC 20581.
Hand Delivery/Courier: Same as mail above.
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
Please submit your comments using only one method.
All comments must be submitted in English, or if not, accompanied
by an English translation. Comments will be posted as received to
http://www.cftc.gov. You should submit only information that you wish
to make available publicly. If you wish the Commission to consider
information that may be exempt from disclosure under the Freedom of
Information Act, a petition for confidential treatment of the exempt
information may be submitted according to the established procedures in
Sec. 145.9 of the Commission's regulations, 17 CFR 145.9.
The Commission reserves the right, but shall have no obligation, to
review, pre-screen, filter, redact, refuse or remove any or all of your
submission from http://www.cftc.gov that it may deem to be
inappropriate for publication, such as obscene language. All
submissions that have been redacted
[[Page 81520]]
or removed that contain comments on the merits of the rulemaking will
be retained in the public comment file and will be considered as
required under the Administrative Procedure Act and other applicable
laws, and may be accessible under the Freedom of Information Act.
FOR FURTHER INFORMATION CONTACT: Sarah E. Josephson, Associate
Director, 202-418-5684, [email protected]; Frank N. Fisanich, Special
Counsel, 202-418-5949, [email protected]; or Jocelyn Partridge,
Special Counsel, 202-418-5926, [email protected]; Division of
Clearing and Intermediary Oversight, Commodity Futures Trading
Commission, Three Lafayette Centre, 1155 21st Street, NW., Washington,
DC 20581.
SUPPLEMENTARY INFORMATION:
I. Background
On July 21, 2010, President Obama signed the Dodd-Frank Act.\1\
Title VII of the Dodd-Frank Act \2\ amended the Commodity Exchange Act
(CEA) \3\ to establish a comprehensive regulatory framework to reduce
risk, increase transparency, and promote market integrity within the
financial system by, among other things: (1) Providing for the
registration and comprehensive regulation of swap dealers and major
swap participants; (2) imposing clearing and trade execution
requirements on standardized derivative products; (3) creating rigorous
recordkeeping and real-time reporting regimes; and (4) enhancing the
Commission's rulemaking and enforcement authorities with respect to all
registered entities and intermediaries subject to the Commission's
oversight.
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\1\ See Dodd-Frank Wall Street Reform and Consumer Protection
Act, Public Law 111-203, 124 Stat. 1376 (2010). The text of the
Dodd-Frank Act may be accessed at http://www.cftc.gov/LawRegulation/OTCDERIVATIVES/index.htm.
\2\ Pursuant to Section 701 of the Dodd-Frank Act, Title VII may
be cited as the ``Wall Street Transparency and Accountability Act of
2010.''
\3\ 7 U.S.C. 1 et seq.
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Section 731 of the Dodd-Frank Act amends the CEA by adding a new
Section 4s, which sets forth a number of requirements for swap dealers
and major swap participants. Specifically, section 4s(i) of the CEA
establishes swap documentation standards for those registrants.
Section 4s(i)(1) requires swap dealers and major swap participants
to ``conform with such standards as may be prescribed by the Commission
by rule or regulation that relate to timely and accurate confirmation,
processing, netting, documentation, and valuation of all swaps.'' Under
section 4s(i)(2), the Commission is required to adopt rules ``governing
documentation standards for swap dealers and major swap participants.''
The Commission is proposing the regulations on swap confirmation,
portfolio reconciliation, and portfolio compression \4\ discussed
below, pursuant to the authority granted under sections 4s(h)(1)(D),
4s(h)(3)(D), 4s(i), and 8a(5) of the CEA. \5\ The Dodd-Frank Act
requires the Commission to promulgate these provisions by July 15,
2011.
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\4\ The Commission may propose additional rules related to
documentation provisions under section 4s(i) of the CEA.
\5\ Section 8a(5) of the CEA authorizes the Commission to
promulgate such regulations as, in the judgment of the Commission,
are reasonably necessary to effectuate any of the provisions or to
accomplish any of the purposes of the CEA.
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The proposed regulations reflect consultation with staff of the
following agencies: (i) The Securities and Exchange Commission; (ii)
the Board of Governors of the Federal Reserve System; (iii) the Office
of the Comptroller of the Currency; and (iv) the Federal Deposit
Insurance Corporation. Staff from each of these agencies has had the
opportunity to provide oral and/or written comments to the proposal,
and the proposed regulations incorporate elements of the comments
provided.
II. Proposed Regulations
The proposed regulations would prescribe standards for the timely
and accurate confirmation of swaps and would require the reconciliation
and compression of swap portfolios. Confirmation, portfolio
reconciliation, and portfolio compression have been recognized as
important post-trade processing mechanisms for reducing risk and
improving operational efficiency by both current market participants
and their regulators.
With respect to confirmation, prudent practice requires that, after
coming to an agreement on the terms of a transaction, parties document
the transaction in a complete and definitive written record so there is
legal certainty about the terms of their agreement. Through portfolio
reconciliation, counterparties are able to resolve any discrepancies or
disputes as early as possible and arrive at an understanding of their
overall risk exposure to one another. Portfolio compression allows for
a reduction in outstanding trade count and outstanding gross notional
value by replacing redundant trades with a smaller number of trades and
reduced gross notional value. This process reduces operational risk and
increases operational efficiency because there are fewer trades to
maintain, and results in a more accurate expression of market size.
In the past few years, market participants and regulators have paid
particular attention to the post-trade processing of swaps. For
example, operational issues associated with the over-the-counter (OTC)
derivatives market have been the focus of reports and recommendations
by the President's Working Group on Financial Markets (PWG).\6\ In
response to the financial crisis in 2008, the PWG called on the
industry to improve trade matching and confirmation and to promote
portfolio reconciliation.
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\6\ See, e.g., Press Release, ``President's Working Group on
Financial Markets, Progress Summary on OTC Derivatives Operational
Improvements'' (Nov. 2008).
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Since 2005, the Federal Reserve Bank of New York (FRBNY) has led a
targeted, supervisory effort to enhance operational efficiency and
performance in the OTC derivatives market, by increasing automation in
processing and by promoting the timely confirmation of trades. Known as
the OTC Derivatives Supervisors' Group (ODSG), the FRBNY leads an on-
going effort with OTC derivatives dealers' primary supervisors, trade
associations, industry utilities, and private vendors, through which
market participants (including buy-side participants) regularly set
goals and commitments to bring infrastructure, market design, and risk
management improvements to all OTC derivatives asset classes. Over the
years, the ODSG has expanded its focus from credit derivatives to
include interest rate derivatives, equity derivatives, foreign exchange
derivatives, and commodity derivatives. Along with this expanded focus
has come increased engagement with market participants on cross-asset
class issues. Specifically, the ODSG encouraged the industry to commit
itself to a number of reforms, including improved operational
performance with respect to the OTC derivatives confirmation process,
portfolio reconciliation, and portfolio compression. The regulations
proposed by the Commission would build upon the ODSG's work.
It is important to note at the outset, that the Commission expects
that swap dealers and major swap participants would be able to comply
with each of the proposed rules by executing a swap on a swap execution
facility (SEF) or on a designated contract market (DCM), or by clearing
the swap through a derivatives clearing organization (DCO). For swaps
executed on a SEF or a DCM, the SEF or DCM will provide the
counterparties with a definitive written
[[Page 81521]]
record of the terms of their agreement, which will serve as a
confirmation of the swap. Similarly, if a swap is executed bilaterally,
but subsequently submitted to a DCO for clearing, the DCO will require
a definitive written record of all terms to the counterparties'
agreement prior to novation by the DCO; this too would serve as a
confirmation of the swap.
When a swap is cleared by a central counterparty, the problems that
portfolio reconciliation is designed to solve (agreement on all terms
and the valuation of the swap) no longer exist because the
clearinghouse (1) requires a definitive written record of all terms of
the swap; and (2) arrives at a settlement price for all cleared swaps
on a daily basis. Additionally, the Commission is considering a
proposed regulation that would require DCOs to offer portfolio
compression exercises on a regular basis. The proposed rule for swap
dealers and major swap participants has been designed to complement the
proposed DCO rule.
In designing these rules, the Commission has taken care to minimize
the burden on those parties that will not be registered with the
Commission as swap dealers or major swap participants. To the extent
that market participants believe that additional measures should be
taken to reduce the burden or increase the benefits of confirmation,
reconciliation, and compression for the swaps market, the Commission
welcomes all comments.
The Commission requests comment on all aspects of proposed
Sec. Sec. 23.500 (definitions), 23.501 (confirmation), 23.502
(portfolio reconciliation), and 23.503 (portfolio compression), as well
as comment on the specific provisions and issues highlighted in the
discussion below. The Commission further requests comment on an
appropriate effective date for final regulations, including comment on
whether it would be appropriate to have staggered or delayed effective
dates for some regulations based on the nature or characteristics of
the activities or entities to which they apply. The Commission
recognizes that there will be differences in the size and scope of the
business of particular swap dealers and major swap participants.
Therefore, comments are solicited on whether certain provisions of the
proposed regulations should be modified or adjusted to reflect the
differences among swap dealers and major swap participants or
differences among asset classes.
A. Swap Confirmation
1. Background
Over the past several years, OTC derivatives market participants
and their regulators have paid particular attention to the timely
confirmation of swaps. The Government Accountability Office (GAO) found
that the rapid expansion of trading volume of swaps, such as credit
derivatives since 2002, caused stresses on the operational
infrastructure of market participants. These stresses in turn caused
the participants' back office systems to fail to confirm the increased
volume of trades for a period of time.\7\ The GAO found that the lack
of automation in trade processing and the purported assignment of
positions by transferring parties to third parties without notice to
their counterparties were factors contributing to this backlog. If
transactions, whether newly executed or recently transferred to another
party, are left unconfirmed, there is no definitive written record of
the contract terms. Thus, in the event of a dispute, the terms of the
agreement must be reconstructed from other evidence, such as e-mail
trails or recorded trader conversations. This process is cumbersome and
may not be wholly accurate. Moreover, if purported transfers of swaps,
in whole or in part, are made without giving notice to the remaining
parties and obtaining their consent, disputes may arise as to which
parties are entitled to the benefits and subject to the burdens of the
transaction.
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\7\ U.S. Government Accountability Office, ``Credit Derivatives:
Confirmation Backlogs Increased Dealers' Operational Risks, But Were
Successfully Addressed After Joint Regulatory Action,'' GAO-07-716
(2007) at pages 3-4.
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As the work of the ODSG demonstrates, the industry is capable of
swift movement to contemporaneous execution and confirmation. A large
back-log of unexecuted confirmations in the credit default swap (CDS)
market created by prolonged negotiations and inadequate confirmation
procedures were the subject of the first industry commitments made by
participating dealers to ODSG.\8\ In October 2005, the participating
dealers committed to reduce by 30% the number of confirmations
outstanding more than 30 days within four months. In March 2006, the
dealers committed to reduce the number of outstanding confirmations by
70% by June 30, 2006. By September 2006, the industry had reduced the
number of all outstanding CDS confirmations by 70%, and the number of
CDS confirmations outstanding more than 30 days by 85%. The industry
achieved these targets largely by moving 80% of total trade volume in
CDS to confirmation on electronic platforms, eliminating backlogs in
new trades. Today, over 90% of ``electronically eligible'' \9\ CDS
trades are confirmed electronically, the majority on the day of
execution and up to 98% within two days.\10\
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\8\ See October 4, 2005 industry commitment letter to the
Federal Reserve Bank of New York, available at http://www.newyorkfed.org/newsevents/news_archive/markets/2005/an050915.html.
\9\ It remains unclear precisely how much of the total CDS
market is not ``electronically eligible,'' as eligibility is
determined by the OTC derivatives market participants.
\10\ See March 1, 2010 Summary of OTC Derivatives Commitments
provided to the Federal Reserve Bank of New York, available at
http://www.newyorkfed.org/newsevents/news/markets/2010/100301_table.pdf.
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The ODSG has established a supervisory goal for all transactions to
be confirmed as soon as possible after the time of execution. Ideally,
this would mean that there would be a written or electronic document
executed by the parties to a swap for the purpose of evidencing all of
the terms of the swap, including the terms of any termination (prior to
its scheduled maturity date), assignment, novation, exchange, or
similar transfer or conveyance of, or extinguishing of rights or
obligations.
In the case of electronically processed transactions, all such
transactions should be matched and confirmed, at a minimum, on the same
day the trade was executed. For electronically processed transactions,
confirmation typically is effected by a third-party ``matching''
process. If transactions are not confirmed in a timely manner, backlogs
of outstanding unconfirmed trades develop, increasing risk. Timely and
accurate confirmation of transactions is critical for all downstream
operational and risk management processes, including the correct
calculation of cash flows and discharge of settlement obligations as
well as accurate measurement of counterparty credit exposures. Timely
confirmation also allows any rejections, exceptions, and/or
discrepancies to be identified and resolved more quickly.
Another ODSG objective is a marketplace that electronically
processes as many transactions as possible in as many parts of the
processing life cycle as possible, but particularly in the ``upstream''
parts of the life cycle, where transaction information is first entered
into the system (trade capture). To achieve this objective, as many
transactions as possible and practicable should be executed on
electronic platforms, such
[[Page 81522]]
as SEFs, in order to approach the ideal of ``straight-through
processing.'' Otherwise, transactions should be keyed into electronic
systems as soon as possible after execution.
2. Proposed Confirmation Rule
To promote the efficient operation of the swap market, and to
facilitate market participants' overall risk management, the Commission
is proposing confirmation Sec. 23.501.
For the purposes of proposed Sec. 23.501, proposed Sec. 23.500
would provide certain critical definitions pertaining to confirmation.
An acknowledgment would be defined as a written or electronic record of
all the terms of a swap signed and sent by one party to another. When
one party acknowledges the terms of a swap and its counterparty
verifies it, the result is the issuance of a confirmation that reflects
the terms of the swap between the parties. A confirmation thus would be
defined as a written or electronic record of a swap that has been
signed and sent by one party and verified by the other where that
record has been manually, electronically, or by some other legally
equivalent means, signed by the receiving counterparty. Finally,
proposed Sec. 23.500 would define execution to be a legally-binding
oral, written, or electronic agreement by the parties. For the purposes
of the confirmation rule, the term swap transaction is defined to
include any event that would result in a new swap or a change in the
terms of a swap, including execution, termination, assignment,
novation, exchange, transfer, amendment, conveyance, or extinguishing
of rights or obligations under a swap.
With regard to both acknowledgments and confirmations, the
Commission intends that all the terms of a swap transaction be provided
for acknowledgment and confirmation. The objective is that parties have
full written agreement on all terms as soon as practicable after
execution and also upon any ownership event during the life of the
swap. Such life cycle events would include any termination (prior to
the scheduled maturity date of the swap), assignment, novation,
exchange, transfer, amendment, or conveyance of, or extinguishing of
rights or obligations under the swap.\11\ For each of these events, the
parties should have written documentation evidencing all the terms of
the transaction, as soon as possible after the transaction occurs. This
approach to documenting ``life cycle event data'' is consistent with
the Commission's proposed rules for reporting swap data to a swap data
repository.\12\
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\11\ Life cycle events would also include corporate actions
affecting a security or securities on which the swap is based (e.g.,
a merger, dividend, stock split or bankruptcy).
\12\ The Notice of Proposed Rulemaking for Swap Data
Recordkeeping and Reporting Requirements is available on the
Commission's Web site: http://comments.cftc.gov/FederalRegister/Proposed.aspx.
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The timely and accurate confirmation of all swaps and life cycle
events for existing swaps would ensure that the parties know the terms
of their executed transactions and the identities of their
counterparties at all times. Confirming all swap transactions on the
day of execution should be standard for all market participants.
However, the Commission recognizes some entities that will not be
registered as swap dealers or major swap participants may not have the
operational capacity to confirm their swap transactions as quickly as
swap dealers and major swap participants. Accordingly, the Commission
is proposing a bifurcated approach for confirmations. Swap dealers and
major swap participants entering into swap transactions with other swap
dealers or major swap participants would be required to obtain a
confirmation on the same calendar day as execution (i.e., no later than
T+0).
On the other hand, swap dealers and major swap participants
entering into swap transactions with counterparties that are not swap
dealers or major swap participants would be required to send an
acknowledgment for each swap on the same calendar day as execution
(i.e., no later than T+0). Swap dealers and major swap participants
would then have policies and procedures in place to confirm the swap
with financial entities as defined in proposed Sec. 23.500 \13\ on the
same calendar day as execution and with all other entities not later
than the next business day following execution.
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\13\ This definition is taken from the end user exception to the
clearing requirement under section 2(h)(7)(C)(i) of the CEA. The
term financial entity 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 CEA; (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. See 7 U.S.C. 2(h)(7)(C)(i). The
definition would include the statutory exclusion and limitation as
contained in section 2(h)(7)(C) and also would include any
Commission regulations promulgated pursuant to the statutory
section.
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The Commission also is proposing that the times prescribed for
achieving swap acknowledgment and confirmation vary depending upon
whether transactions are electronically executed or electronically
processed. Under proposed Sec. 23.501(a)(1), all swap dealers and
major swap participants entering into swap transactions with other swap
dealers or major swap participants would be required to confirm their
swap transactions according to the following timeframe:
For any swap transaction that has been executed and
processed electronically, within 15 minutes of execution;
For any swap transaction that is not electronically
executed, but that will be processed electronically, within 30 minutes
of execution; or
For any swap transaction that cannot be processed
electronically by the swap dealer or major swap participant, within the
same calendar day as execution.
Under proposed Sec. 23.501(a)(2), swap dealers and major swap
participants entering into swap transactions with counterparties that
are not swap dealers or major swap participants would be required to
send an acknowledgment of each swap transaction according to the
following timeframe:
For any swap transaction that has been executed and
processed electronically, within 15 minutes of execution;
For any swap transaction that is not executed
electronically, but that will be processed electronically, within 30
minutes after execution; or
For any swap transaction that cannot be processed
electronically by the swap dealer or major swap participant, within the
same calendar day as execution.
For those swap transactions entered into with counterparties that
are not swap dealers or major swap participants, under proposed Sec.
23.501(a)(3), swap dealers and major swap participants would be
required to establish written policies and procedures reasonably
designed to ensure confirmation with financial entities on the same
calendar day as execution and with all other entities by the next
business day after the swap transaction is executed. These procedures
must include a requirement that, prior to entering into any swap
transaction, the swap dealer or major swap participant furnish to a
prospective counterparty, or receive from a prospective counterparty, a
draft acknowledgment specifying all terms of the swap transaction other
than pricing and terms to be definitively agreed to at execution. As is
currently the custom in many swap markets, including credit
[[Page 81523]]
and equity derivative markets, the parties may rely on a standard
confirmation agreement.
Under proposed Sec. 23.501(b), a swap dealer or major swap
participant would be required to keep records regarding the processing
of swap acknowledgments and confirmations. These records would include
the time and date of transmission or receipt of any acknowledgment or
confirmation, the length of time between transmission of any
acknowledgment to a counterparty and receipt of the signed
confirmation, and the length of time between execution and confirmation
of the swap.
In order to retain flexibility for all market participants, the
proposed rules do not prescribe a particular venue or platform for
confirmation. As noted above, currently many swap transactions are
electronically processed by third-party ``matching'' services. While
the Commission encourages the continued use and expansion of these
services, the approach taken in the proposed rule would allow parties
the ability to confirm bilaterally through whatever means they select,
so long as they are able to meet the schedule laid out in the rule.
In a similar effort to retain flexibility, at this time, the
Commission is not prescribing the acknowledgment or confirmation
documentation that market participants must use. The Commission
encourages the use of master confirmation agreements and other
standardized documentation that has been developed by the industry in
an effort to reduce confirmation backlogs, among other things. However,
the most critical aspect of the confirmation rule is that all the terms
of the swap are agreed to in writing and in a timely manner.
The proposed rules would apply to all new swaps and to all swap
transactions, as that term is defined in the rules, entered into after
the effective date of the regulation.
3. Comments Requested
The Commission requests comment on all aspects of proposed Sec.
23.501. In particular, the Commission requests comment on the following
questions:
Does the proposed rule appropriately allocate the
responsibility for providing the swap acknowledgments?
Is it feasible to require that all acknowledgments be
provided electronically?
Should the proposed rule require swap dealers and major
swap participants to provide a swap acknowledgment or confirmation more
quickly, particularly for transactions that are executed or processed
electronically?
Does the proposed rule provide sufficient time for swap
dealers and major swap participants to provide swap acknowledgments to
their counterparties?
Are there swap transactions for which all of the terms
required to be included on an acknowledgment or in a confirmation would
not be known on the same calendar day as execution? If so, please
describe these swap transactions and include the terms that would not
be known on the same calendar day as execution, as well as the reason
these terms would not be known.
Is it necessary to clarify further that the confirmation
rule would apply to life cycle events, such as termination, assignment,
novation, exchange, transfer, amendment, or conveyance?
Are there other post-execution events for which a
confirmation should be executed?
Should counterparties be permitted to agree expressly that
certain life cycle events (such as assignment of payable rights), do
not require subsequent confirmations? Are there life cycle events that
can be carved out of the rule while still achieving the purpose of the
rule? Should more time be permitted for confirmation of certain life
cycle events, such as transfers resulting from a merger, consolidation,
or transfer of all assets to another entity?
Should the Commission require that electronic matching
services or confirmation platforms be used where reasonably
practicable?
Does the term ``processed electronically'' require more
clarification? If so, what definition would be effective and flexible
enough to accommodate future market innovation?
Should the Commission require that all swaps be processed
electronically?
Are there circumstances where swap dealers and major swap
participants have the ability to process a transaction electronically,
but should not be required to do so?
Has the Commission properly accounted for current industry
practice with respect to the time necessary to confirm swap
transactions?
Would the proposed rule unduly restrict the types of swaps
that swap dealers and major swap participants may enter into or the
persons that may be their counterparties?
Should executing a swap on a SEF or DCM be deemed to
satisfy the confirmation requirement?
Should clearing a swap through a DCO be deemed to satisfy
the confirmation requirement?
Should the terms calendar day and business day be further
defined and has the rule properly accounted for counterparties in
different time zones executing swaps?
B. Swap Portfolio Reconciliation
1. Background
Section 4s(i) of the CEA directs the Commission to prescribe
regulations for the timely and accurate confirmation, processing,
documentation, and valuation of all swaps entered into by swap dealers
and major swap participants. Disputes related to confirming the terms
of a swap, as well as swap valuation disputes,\14\ have long been
recognized as a significant problem in the OTC derivatives market.
Portfolio reconciliation is considered an effective means of
identifying and resolving these disputes. Specifically, portfolio
reconciliation is a post-execution processing and risk management
technique that is designed to: (1) Identify and resolve discrepancies
between the counterparties with regard to the terms of a swap either
immediately after execution or during the life of the swap; (2) ensure
effective confirmation of all the terms of the swap; and (3) identify
and resolve discrepancies between the counterparties regarding the
valuation of the swap. In some instances, portfolio reconciliation also
may facilitate the identification and resolution of discrepancies
between the counterparties with regard to valuations of collateral held
as margin.
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\14\ See ISDA Collateral Committee, ``Commentary to the Outline
of the 2009 ISDA Protocol for Resolution of Disputed Collateral
Calls,'' June 2, 2009 (stating ``Disputed margin calls have
increased significantly since late 2007, and especially during 2008
have been the driver of large (sometimes > $1 billion) un-
collateralized exposures between professional firms.'').
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The Commission recognizes that the industry has made significant
progress in adopting the use of portfolio reconciliation to decrease
the number of swap disputes.\15\ In December 2008, the ODSG's group of
14 major dealers committed to execute daily portfolio reconciliations
for collateralized portfolios in excess of 500 trades between
participating dealers by June of 2009.\16\ As of May 2009, all
participating dealers were satisfying this commitment. In October 2009,
the
[[Page 81524]]
ODSG committed to publishing a feasibility study on market-wide
portfolio reconciliation that would set forth how regular portfolio
reconciliation could be extended beyond the ODSG dealers to include
smaller banks, buy-side participants, and derivative end users.
Consistent with this publication, the ODSG dealers expanded their
portfolio reconciliation commitment in March 2010 to include monthly
reconciliation of collateralized portfolios in excess of 1,000 trades
with any counterparty. Most recently, the industry has been preparing a
new ``Convention on the Investigation of Disputed Margin Calls'' and a
new ``Formal Market Polling Procedure'' that are intended to ``create a
consistent and predictable process * * * that eliminates present
uncertainties and delays.'' \17\
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\15\ The Commission also recognizes and encourages the industry
practice of immediately transferring undisputed collateral amounts.
\16\ See June 2, 2009 summary of industry commitments, available
at http://www.isda.org/c_and_a/pdf/060209table.pdf.
\17\ See ``ISDA 2010 Convention on the Investigation of Disputed
Margin Calls'' and ``ISDA 2010 Formal Market Polling Procedure.''
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Accordingly, the Commission is proposing Sec. 23.502, which would
require swap dealers and major swap participants to reconcile their
portfolios with one another and provide counterparties who are not
registered as swap dealers or major swap participants with regular
opportunities for portfolio reconciliation. In order for the
marketplace to realize the full risk reduction benefits of portfolio
reconciliation, the Commission is proposing to expand portfolio
reconciliation to all transactions, whether collateralized or
uncollateralized. For the swap market to operate efficiently and to
reduce systemic risk, portfolio reconciliation should be a proactive
process that delivers a consolidated view of counterparty exposure down
to the transaction level. By identifying and managing mismatches in key
economic terms and valuation for individual transactions across an
entire portfolio, overall risk can be identified and reduced.
2. Proposed Portfolio Reconciliation Rule
For the purposes of proposed Sec. 23.502, swap portfolio
reconciliation would be defined in proposed Sec. 23.500 as a process
by which the two parties to one or more swaps: (1) Exchange the terms
of all swaps in the portfolio between the parties; (2) exchange each
party's valuation of each swap in a portfolio between the parties as of
the close of business on the immediately preceding business day; and
(3) resolve any discrepancy in material terms and valuations. Valuation
would be defined in proposed Sec. 23.500 as the current market value
or net present value of a swap, and material terms would be defined as
all terms of a swap required to be reported in accordance with part 45
of this chapter.
Proposed Sec. 23.502(a) would require swap dealers and major swap
participants to reconcile swap portfolios with other swap dealers or
major swap participants with the following frequency: Daily for
portfolios consisting of 300 or more swaps, at least weekly for
portfolios consisting of 50 to 300 swaps, and at least quarterly for
portfolios consisting of fewer than 50 swaps. Swap dealers and major
swap participants would be required to resolve immediately any
discrepancy in a material term identified as part of a portfolio
reconciliation process. The Commission is proposing an immediate
resolution requirement for material terms for the same reasons that
necessitate timely confirmation--parties need to know the terms of
their executed agreements with one another. A discrepancy in the terms
of a swap likely indicates that the parties have failed to confirm the
swap in accordance with Commission regulations, and, therefore, the
parties should take immediate action to resolve the discrepancy. This
requirement would support and ensure compliance with proposed Sec.
23.501, which requires a confirmation of all terms of a swap.
The Commission believes that requiring reconciliation of all swap
portfolios among swap dealers and major swap participants (rather than
only collateralized portfolios, as contemplated by the ODSG work) is
appropriate because CEA section 4s(e) requires that swap dealers and
major swap participants will be subject to minimum capital and margin
requirements. As a result, the Commission anticipates that most, if not
all, swaps entered by swap dealers and major swap participants will be
subject to some form of collateralization. The Commission also believes
that requiring more frequent reconciliation of smaller portfolios is
appropriate because section 2(a)(13)(G) of the CEA requires all swaps
to be reported to a registered swap data repository, and, therefore,
the Commission anticipates that swap dealers and major swap
participants will be able to efficiently reconcile their internal
records with their counterparties electronically by reference to data
in the repositories. The threshold of 300 swaps for daily
reconciliation is intended to capture swap portfolios where there is a
high likelihood that the swap dealer or major swap participant's
counterparty will have the technological capacity to perform
reconciliation processes electronically.
Under proposed Sec. 23.502(a)(5), swap dealers and major swap
participants would be required to resolve any discrepancy in a
valuation identified as part of a portfolio reconciliation process
within one business day. The Commission recognizes that there may be
reasonable grounds for some variation in the calculation of swap
valuation at any given time. Consequently, the proposed rule would not
require that swap dealers and major swap participants expend resources
to resolve all discrepancies in the valuation of the swap, but only if
the difference between the lower valuation and the higher is greater
than 10%.
In addition, given that there are a number of services and
industry-led initiatives that may facilitate resolution of valuation
disputes, at this time the Commission is not proposing to mandate that
swap dealers and major swap participants implement any specific
procedure for resolution of a discrepancy in the valuation of a swap.
Rather, it is only proposing a deadline for dispute resolution of one
business day following discovery of such discrepancy.
For swap portfolios with entities other than swap dealers or major
swap participants, proposed Sec. 23.502(b) would require swap dealers
and major swap participants to establish written policies and
procedures to perform reconciliation, but would not prescribe the
manner in which the reconciliation must be performed. For example, the
exchange of terms and valuations between the counterparties may consist
of one party reviewing the details and valuations delivered by the
other party and either affirming or objecting to such details and
valuations. The frequency parameters of portfolio reconciliation would
be similar to those for swap portfolios between swap dealers or major
swap participants.\18\ There are some important distinctions in the
proposed treatment of swap portfolios between a swap dealer or major
swap participant and others that promote flexibility for those entities
that will not be registered with the Commission. Swap dealers and major
swap participants would be required simply to establish written
procedures reasonably designed to resolve any discrepancies in the
material terms or valuation of each swap identified as part
[[Page 81525]]
of a portfolio reconciliation process in a timely fashion. Again,
differences in valuation of a swap need not be deemed a discrepancy
unless the difference between the lower valuation and the higher
valuation is greater than 10% of the higher valuation.
---------------------------------------------------------------------------
\18\ The frequency thresholds are similar: Daily for portfolios
consisting of 500 or more swaps, at least weekly for portfolios
consisting of 100-500 swaps, and at least quarterly for portfolios
consisting of less than 100 swaps.
---------------------------------------------------------------------------
Proposed Sec. 23.502(c) would create a safe harbor for cleared
swaps because portfolio reconciliation is needed primarily for
uncleared swaps. When swaps are cleared, the clearinghouse requires
that each swap be matched prior to novation by the clearinghouse.
Moreover, once cleared, clearinghouses determine daily settlement
prices, which preclude any valuation disputes.
The proposed rule would apply to all swaps within a swap portfolio
as of the effective date of the regulation.
Finally, proposed Sec. 23.502(d) would require that swap dealers
and major swap participants maintain records of each discrepancy
identified during portfolio reconciliation and the length of time taken
to resolve that discrepancy.
3. Comments Requested
The Commission requests comment on all aspects of proposed Sec.
23.502(d). In particular, the Commission requests comment on the
following questions:
Are the proposed deadlines for swap portfolio discrepancy
resolution in the proposed regulation appropriate?
Are the reconciliation thresholds and frequency
requirements appropriate?
Are swap dealers and major swap participants likely to
have a large number of counterparties with whom they would be required
to perform daily reconciliation that do not have the technological
capacity to perform reconciliation processes electronically?
Is the proposal that a valuation difference of less than
10% not be deemed to be a discrepancy appropriate? If not, please
provide a suggested valuation discrepancy threshold.
Should the proposed rule include a provision that requires
discrepancy resolution if the aggregate of valuation differences of
less than 10% across a portfolio exceeds a certain threshold? If so,
please provide a suggested threshold.
How would the requirement to resolve valuation
discrepancies in one day for swaps among swap dealers and major swap
participants affect the very detailed and complex industry initiatives
currently being considered for resolving valuation disputes?
Should all terms of a swap transaction be reconciled or
just the key economic terms?
Should all discrepancies in swap transaction terms be
resolved or just the material ones?
Should the definition of material terms be clarified?
Should financial entities as defined in proposed Sec.
23.500 be required to participate in portfolio reconciliation under
proposed Sec. 23.502(a)?
C. Portfolio Compression
1. Background
Section 4s(i) of the CEA directs the Commission to prescribe
regulations for the timely and accurate processing and netting of all
swaps entered into by swap dealers and major swap participants.
Portfolio compression is an important, post-trade processing and
netting mechanism that can be an effective and efficient tool for the
timely and accurate processing and netting of swaps by market
participants. Accordingly, the Commission is proposing Sec. 23.503,
which would require swap dealers and major swap participants to engage
in certain bilateral and multilateral portfolio compression exercises.
Portfolio compression is a mechanism whereby substantially similar
transactions among two or more counterparties are terminated and
replaced with a smaller number of transactions of decreased notional
value in an effort to reduce the risk, cost, and inefficiency of
maintaining unnecessary transactions on the counterparties' books. In
many cases, these redundant or economically-equivalent positions serve
no useful business purpose, but can create unnecessary risk,\19\ as
well as operational and capital inefficiencies. In a portfolio
compression exercise, swap market participants whose combined
portfolios include outstanding transactions that contain substantially
similar economic terms and/or that would result in redundant payments
wholly or partially net their swaps by terminating the original swaps
and replacing them with a smaller number of new transactions that have
a lower gross notional value.
---------------------------------------------------------------------------
\19\ Federal Reserve Bank of New York Staff Report No. 424:
``Policy Perspectives on OTC Derivatives Market Infrastructure,''
Jan. 2010 (revised Mar. 2010).
---------------------------------------------------------------------------
Market vendors assert that as many as 40,000 trades can be
terminated in a single portfolio compression cycle.\20\ Because
portfolio compression participants are permitted to establish their own
credit, market, and cash payment risk tolerances and to establish their
own mark-to-market values for the transactions to be compressed, the
process does not alter the risk profiles of the individual participants
beyond a level acceptable to the participant.
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\20\ See http://www.trioptima.com.
---------------------------------------------------------------------------
Portfolio compression exercises can be performed on a bilateral or
multilateral basis. Multilateral compression exercises are preferable
because the larger number of participants significantly increases the
number of trades that can be eliminated and removes the need for
bilateral negotiation between counterparties. In a multilateral
portfolio compression exercise, the replacement swaps may be with the
same or different counterparties.
The benefits of portfolio compression to both individual market
participants and to the market as a whole are considerable. The reduced
transaction count decreases operational risk generally as there are
fewer trades to maintain, process, and settle.\21\ The reduction in the
outstanding gross notional value of the swaps also allows for increased
capital liquidity and efficiency. Firms can set aside less capital for
their positions while maintaining their desired risk positions in the
market. The diminished operational risk for the individual market
participants achieved by portfolio compression, in turn, may lessen
systemic risk and enhance the overall stability of the financial
markets. Compression also may provide a more accurate expression of
overall market size and composition, and provide market participants
with a more precise picture of their exposures.
---------------------------------------------------------------------------
\21\ See ``ISDA 2009 A Yearbook of ISDA Activities,''
International Swaps and Derivatives Association, Inc. (2009).
---------------------------------------------------------------------------
The usefulness of portfolio compression as a risk management tool
has been acknowledged widely. In 2008, the PWG identified frequent
portfolio compression of outstanding trades as a key policy objective
in the effort to strengthen the OTC derivatives market
infrastructure.\22\ Similarly, the 2010 staff report outlining policy
perspectives on OTC derivatives infrastructure issued by the FRBNY
identified trade compression as an element of strong risk management
and recommended that market participants engage in regular, market-wide
portfolio compression exercises.\23\
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\22\ ``Policy Objectives for the OTC Derivatives Markets,''
President's Working Group on Financial Markets (Nov. 14, 2008).
\23\ Federal Reserve Bank of New York Staff Report No. 424:
``Policy Perspectives on OTC Derivatives Market Infrastructure,''
Jan. 2010 (revised Mar. 2010).
---------------------------------------------------------------------------
The value of portfolio compression also is illustrated by existing
market participation in compression exercises.
[[Page 81526]]
In March 2010, the Depository Trust and Clearing Corporation (DTCC)
explicitly attributed the reduction in the gross notional value of the
contracts in its warehouse to industry supported portfolio
compression.\24\ TriOptima, which offers the TriReduce portfolio
compression service, estimates that it has terminated $106.3 trillion
gross notional of interest rate swaps and $66.9 trillion gross notional
of credit swaps since its inception in 2003.\25\ Similarly, Creditex
and Markit, which offer portfolio compression exercises in single name
credit default swaps, have enabled participating institutions to
eliminate $4.5 trillion in notional between late 2008 through 2009.\26\
---------------------------------------------------------------------------
\24\ DTCC Press Release, ``DTCC Trade Information Warehouse
Completes Record Year Processing OTC Credit Derivatives'' (Mar. 11,
2010). Notably, beginning in August 2008, ISDA encouraged
compression exercises for credit default swaps by selecting the
service provider and defining the terms of service.
\25\ See http://www.trioptima.com. Between 2007 and 2008,
TriOptima reduced $54.7 trillion gross notional of interest rate
swaps and $49.1 trillion gross notional of credit swaps. In March of
2010, the staff of the Federal Reserve Bank of New York estimated
that since 2008 nearly $50 trillion gross notional of credit default
swap positions has been eliminated through portfolio compression.
Federal Reserve Bank of New York Staff Report No. 424: ``Policy
Perspectives on OTC Derivatives Market Infrastructure,'' Jan. 2010
(revised Mar. 2010).
\26\ See http://www.isdacdsmarketplace.com.
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2. Proposed Compression Rule
Based upon these considerations, the Commission is proposing Sec.
23.503, which would impose certain portfolio compression requirements
upon swap dealers and major swap participants. Specifically, swap
dealers and major swap participants would be required to participate in
multilateral compression exercises that are offered by those DCOs or
self-regulatory organizations of which the swap dealer or major swap
participant is a member. The Commission would encourage swap dealers
and major swap participants to work with the DCOs and self-regulatory
organizations of which they are members to develop portfolio
compression opportunities.
The portfolio compression obligation would be limited to swaps in
which the counterparty is also a swap dealer or major swap participant
and swaps that are eligible for inclusion in the exercise, as
determined by those conducting the compression exercise and agreed to
by those participating in the exercise. A swap dealer or major swap
participant would be permitted to exclude swaps from a compression
exercise if including the swap would be reasonably likely to increase
significantly the risk exposure of the swap dealer or major swap
participant. A swap dealer or major swap participant also would be
permitted to establish counterparty, market, cash payment, and other
risk tolerances and to exclude potential counterparties from the
compression exercise, provided that the swap dealer or major swap
participant is not using the risk tolerances or counterparty exclusions
to evade the compression requirements.
In recognition that portfolio compression currently is not
available for all asset classes and all transactions within an asset
class,\27\ the Commission also is proposing that swap dealers and major
swap participants be required to terminate bilaterally all fully
offsetting swaps between them by the close of business on the business
day following the day the parties entered into the offsetting swap
transaction and to engage annually in bilateral portfolio compression
exercises with counterparties that are also swap dealers or major swap
participants. Swap dealers and major swap participants need not engage
in bilateral portfolio compression exercises, however, to the extent
that the counterparties have mutually participated in a multilateral
exercise involving the swaps between them during the same year.
---------------------------------------------------------------------------
\27\ At the present time, the principal portfolio compression
vendors offer compression exercises for limited types of trades in a
limited number of asset classes. Compression currently is available
for certain interest rate swaps and credit default swaps and, to a
lesser degree, specific energy products. For example, TriOptima's
TriReduce service provides portfolio compression services for: (1)
Interest rate swap transactions in twenty-three currencies; (2)
credit default swaps (index, single name, and tranches); and (3) a
more limited number of energy products. Markit and Creditex offer
portfolio compression for credit default swaps.
---------------------------------------------------------------------------
The Commission anticipates that portfolio compression exercises
will be offered by additional vendors and will encompass additional
products and asset classes as the industry progresses toward increased
product standardization and centralized clearing. To afford the
Commission the flexibility to react to the expected future availability
and need for portfolio compression exercises, proposed Sec. 23.503
also would require swap dealers and major swap participants to
participate in all multilateral portfolio compression exercises
required by Commission regulation or order.
Proposed Sec. 23.503 would not mandate portfolio compression
exercises for swaps outstanding between a swap dealer or a major swap
participant and counterparties that are neither swap dealers nor major
swap participants. Instead, swap dealers and major swap participants
would be required to maintain written policies and procedures for
periodically terminating all fully offsetting swaps and periodically
engaging in compression exercises.
The proposed rule would apply to all swaps within a swap portfolio
as of the effective date of the regulation.
3. Comments Requested
The Commission is requesting comment on all aspects of the
portfolio compression rule, and specifically requests comment on the
following questions:
Should the Commission require swap dealers and major swap
participants to engage in bilateral and multilateral compression
exercises, particularly with respect to transactions where the
counterparty is not a swap dealer or major swap participant?
Should the compression requirement be restricted to
particular asset classes?
With what frequency should bilateral or multilateral
compression be required?
What are the costs associated with engaging in bilateral
and multilateral compression and are such costs a barrier to
participation?
Should the Commission expressly define the transactions
that are eligible for inclusion in a portfolio compression exercise or
leave that determination to those conducting the compression exercise
and/or to those participating in the exercise?
What factors (e.g., sufficiently standardized terms) would
render a particular swap eligible or ineligible for inclusion in a
bilateral or multilateral compression exercise?
Should the Commission provide specific risk management,
accounting, regulatory, and other rationale under which a swap dealer
or major swap participant may exclude particular swaps transactions
from a multilateral portfolio compression exercise?
How much time would be sufficient to allow swap dealers
and major swap participants to come into compliance with the proposed
portfolio compression requirements?
Should the Commission require participation in compression
exercises conducted only by registered derivatives clearing
organizations or by all central counterparties of which the swap dealer
or major swap participant may be a member?
Should financial entities as defined in proposed Sec.
23.500 be subject to the provisions of Sec. 23.503(a), (b), and (c)?
[[Page 81527]]
III. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (RFA) requires that agencies
consider whether the rules they propose will have a significant
economic impact on a substantial number of small entities.\28\ The
Commission previously has established certain definitions of ``small
entities'' to be used in evaluating the impact of its regulations on
small entities in accordance with the RFA.\29\ The proposed rules would
affect swap dealers and major swap participants.
---------------------------------------------------------------------------
\28\ 5 U.S.C. 601 et seq.
\29\ 47 FR 18618, Apr. 30, 1982.
---------------------------------------------------------------------------
Swap dealers and major swap participants are new categories of
registrants. Accordingly, the Commission has not previously addressed
the question of whether such persons are, in fact, small entities for
purposes of the RFA. However, the Commission previously has determined
that futures commission merchants should not be considered to be small
entities for purposes of the RFA.\30\ The Commission's determination
was based, in part, upon the obligation of futures commission merchants
to meet the minimum financial requirements established by the
Commission to enhance the protection of customers' segregated funds and
protect the financial condition of futures commission merchants
generally.\31\ Like futures commission merchants, swap dealers will be
subject to minimum capital and margin requirements and are expected to
comprise the largest global financial firms. The Commission is required
to exempt from swap dealer designation any entities that engage in a de
minimis level of swaps dealing in connection with transactions with or
on behalf of customers. The Commission anticipates that this exemption
would tend to exclude small entities from registration. Accordingly,
for purposes of the RFA for this rulemaking, the Commission is hereby
proposing that swap dealers not be considered ``small entities'' for
essentially the same reasons that futures commission merchants have
previously been determined not to be small entities and in light of the
exemption from the definition of swap dealer for those engaging in a de
minimis level of swap dealing.
---------------------------------------------------------------------------
\30\ Id. at 18619.
\31\ Id.
---------------------------------------------------------------------------
The Commission also has previously determined that large traders
are not ``small entities'' for RFA purposes.\32\ In that determination,
the Commission considered that a large trading position was indicative
of the size of the business. Major swap participants, by statutory
definition, maintain substantial positions in swaps or maintain
outstanding swap positions that create substantial counterparty
exposure that could have serious adverse effects on the financial
stability of the United States banking system or financial markets.
Accordingly, for purposes of the RFA for this rulemaking, the
Commission is hereby proposing that major swap participants not be
considered ``small entities'' for essentially the same reasons that
large traders have previously been determined not to be small entities.
---------------------------------------------------------------------------
\32\ Id. at 18620.
---------------------------------------------------------------------------
Moreover, the Commission is carrying out Congressional mandates by
proposing this regulation. Specifically, the Commission is proposing
these regulations to comply with the Dodd-Frank Act, the aim of which
is to reduce systemic risk presented by swap dealers and swap market
participants through comprehensive regulation. The Commission does not
believe that there are regulatory alternatives to those being proposed
that would be consistent with the statutory mandate. Accordingly, the
Chairman, on behalf of the Commission, hereby certifies pursuant to 5
U.S.C. 605(b) that the proposed rules will not have a significant
economic impact on a substantial number of small entities.
B. Paperwork Reduction Act
The Paperwork Reduction Act (PRA) \33\ imposes certain requirements
on Federal agencies (including the Commission) in connection with their
conducting or sponsoring any collection of information as defined by
the PRA. This proposed rulemaking would result in new collection of
information requirements within the meaning of the PRA. The Commission
therefore is submitting this proposal 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 for this collection of information is
``Confirmation, Portfolio Reconciliation, and Portfolio Compression
Requirements for Swap Dealers and Major Swap Participants.'' An agency
may not conduct or sponsor, and a person is not required to respond to,
a collection of information unless it displays a currently valid
control number. The OMB has not yet assigned this collection a control
number.
---------------------------------------------------------------------------
\33\ 44 U.S.C. 3501 et seq.
---------------------------------------------------------------------------
The collection of information under these proposed rules is
necessary to implement certain provisions of the CEA, as amended by the
Dodd-Frank Act. Specifically, it is essential to ensuring that swap
dealers and major swap participants document the terms of all of their
swaps, reconcile their swap portfolios to resolve any discrepancies or
disputes, and wholly or partially terminate some or all outstanding
swaps through regular compression exercises. Commission staff would use
the information related to each of these important risk-reducing
activities when conducting the Commission's examination and oversight
program with respect to the registrants.
If the proposed regulations are adopted, responses to this
collection of information would be mandatory. The Commission will
protect proprietary information according to the Freedom of Information
Act and 17 CFR part 145, ``Commission Records and Information.'' In
addition, section 8(a)(1) of the CEA strictly prohibits the Commission,
unless specifically authorized by the CEA, from making public ``data
and information that would separately disclose the business
transactions or market positions of any person and trade secrets or
names of customers.'' The Commission also is required to protect
certain information contained in a government system of records
according to the Privacy Act of 1974, 5 U.S.C. 552a.
1. Information Provided by Reporting Entities/Persons
Proposed Sec. Sec. 23.501, 23.502, and 23.503 would require swap
dealers and major swap participants to make and retain records of
confirmations, portfolio reconciliations, and portfolio compression
exercises. The proposed regulations do not impose any reporting
requirements. The proposed regulations will be an important part of the
Commission's regulatory program for swap dealers and major swap
participants. The information required to be preserved would be used by
representatives of the Commission and any examining authority
responsible for reviewing the activities of the swap dealer or major
swap participant to ensure compliance with the CEA and applicable
Commission regulations.
The annual burden associated with these proposed regulations is
estimated to be 1,282.5 hours, at an annual cost of $1,282,250 for each
swap dealer and major swap participant. Burden means the total time,
effort or financial resources expended by persons to generate,
maintain, retain, disclose, or provide information to or for a Federal
agency. Specifically, the Commission anticipates that swap dealers and
major swap participants will spend an average of 40 hours per year
drafting and
[[Page 81528]]
updating the policies and procedures required by the proposed
regulations; 252 hours per year making and retaining the acknowledgment
and confirmation records required by proposed Sec. 23.501; 812 hours
per year making and retaining the portfolio reconciliation records
required by proposed Sec. 23.502; and 178.5 hours per year making and
retaining the bilateral offset and portfolio compression records
required by proposed Sec. 23.503.
It is not currently known how many swap dealers and major swap
participants will become subject to these rules, and this will not be
known to the Commission until the registration requirements for these
entities become effective after July 16, 2011, the date on which the
Dodd-Frank Act becomes effective. While the Commission believes there
will be approximately 200 swap dealers and 50 major swap participants,
it has taken a conservative approach, for PRA purposes, in estimating
that there will be a combined number of 300 swap dealers and major swap
participants who will be required to comply with the recordkeeping
requirements of the proposed rules. The Commission estimated the number
of affected entities based on industry data.
According to recent Bureau of Labor Statistics findings, the mean
hourly wage of an employee under occupation code 11-3031, ``Financial
Managers,'' (which includes operations managers) that is employed by
the ``Securities and Commodity Contracts Intermediation and Brokerage''
industry is $74.41.\34\ Because swap dealers and major swap
participants include large financial institutions whose operations
management employees' salaries may exceed the mean wage, the Commission
has estimated the cost burden of these proposed regulations based upon
an average salary of $100 per hour.
---------------------------------------------------------------------------
\34\ http://www.bls.gov/oes/current/oes113031.htm.
---------------------------------------------------------------------------
Accordingly, the estimated burden was calculated as follows:
Drafting and Updating Policies and Procedures. This hourly burden
arises from the time necessary to develop and periodically update the
policies and procedures required by the proposed regulations.
Number of registrants: 300.
Frequency of collection: Initial implementation, updating as
needed.
Estimated number of annual responses per registrant: 1.
Estimated aggregate number of annual responses: 300.
Estimated annual hour burden per registrant: 40 hours.
Estimated aggregate annual hour burden: 12,000 burden hours [300
registrants x 40 hours per registrant].
Acknowledgment and Confirmation Recordkeeping. This hourly burden
arises from the proposed requirement that swap dealers and major swap
participants make and maintain records of the date and time of
transmission to, or receipt from, a counterparty of an acknowledgment
or confirmation; the length of time between the acknowledgment and
confirmation of each swap; and the length of time between execution and
confirmation of each swap.
Number of registrants: 300.
Frequency of collection: daily.
Estimated number of annual responses per registrant: 252 [252
trading days].
Estimated aggregate number of annual responses: 75,600 [300
registrants x 252 trading days].
Estimated annual hour burden per registrant: 252 [252 trading days
x 1 hour per day].
Estimated aggregate annual hour burden: 75,600 burden hours [300 x
252 hours].
Portfolio Reconciliation Recordkeeping. This hourly burden arises
from the proposed requirement that swap dealers and major swap
participants make and maintain records of the portfolio reconciliation
exercises in which they engage. Registrants would be required to
reconcile portfolios with counterparties that are swap dealers and
major swap participants on a daily, weekly, or quarterly basis,
depending upon the size of the portfolio. They also would be required
to maintain policies and procedures for conducting portfolio
reconciliation with other counterparties with similar frequency.
Number of registrants: 300.
Frequency of collection: daily, weekly, or quarterly.
Estimated number of annual responses per registrant: 8,120.\35\
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\35\ Due to the absence of prior experience in regulating swap
dealers and major swap participants and with regulations similar to
the proposed rules, the actual, average number of counterparties
that a swap dealer or major swap participant is likely to have and
the average size of its portfolio with particular counterparties is
uncertain. The estimate of 5,600 portfolio reconciliation records is
based upon the assumption that each swap dealer and major swap
participant engages in swap transactions with approximately one
third (100) of the other swap dealers or major swap participants and
that 10% of such portfolios would require daily reconciliation; 20%
would require weekly reconciliation; and 70% would require quarterly
reconciliation. The estimate also is based upon the assumption that
a swap dealer or major swap participant has an average of 440 other
counterparties and that all of the portfolios with those
counterparties generally would be limited to quarterly
reconciliation. Consistent with other proposed rulemakings, the
Commission has estimated that each of the 14 major swap dealers has
an average 7,500 counterparties and the other 286 swap dealers and
major swap participants have an average of 200 counterparties per
year, for an average of 540 total counterparties per registrant. The
Commission estimates that 440 of those counterparties would not be
other swap dealers or major swap participants.
---------------------------------------------------------------------------
Estimated aggregate number of annual responses: 2,436,000 [300
registrants x 8,120 responses].
Estimated annual hour burden per registrant: 812 hours [8,120 x .10
hours per response].
Estimated aggregate annual hour burden: 243,600 burden hours [300
registrants x 812 hours per registrant].
Portfolio Compression Recordkeeping. This hourly burden results
from the proposed requirement that swap dealers and major swap
participants make and maintain records of the bilateral offsets and
portfolio compression exercises in which they participate, including
the beginning and completion dates; the swaps that were included and
excluded; the applicable risk tolerance levels; and the results of the
particular exercise. The proposed regulations would require that each
swap dealer and major swap participant terminate fully offsetting
swaps; participate in certain multilateral compression exercises; and
participate in annual bilateral portfolio compression exercises with
each counterparty that is also a swap dealer or major swap participant
(except to the extent that the counterparties participate in
multilateral compression exercises for the same swaps). Swap dealers
and major swap participants also would be required to maintain policies
and procedures for periodically engaging in portfolio compression
exercises with other counterparties.
Number of registrants: 300.
Frequency of collection: As needed.
Estimated number of annual responses per registrant: 1,029 [24
multilateral compression records \36\] + [465 bilateral compression
exercise
[[Page 81529]]
records \37\] + [540 bilateral offset records \38\].
---------------------------------------------------------------------------
\36\ This estimate assumes that swap dealers and major swap
participants would engage in multilateral compression exercises for
2 asset classes at an average rate of 12 multilateral compression
exercises per year (approximately 1 per month).
\37\ As with other approximations set forth in this proposal,
the estimate of 465 bilateral compression exercise records is based
upon the assumption that each swap dealer and major swap participant
engages in swap transactions with approximately one third (100) of
the other swap dealers or major swap participants. Because it is
anticipated that most swaps between swap dealers and major swap
participants would be eligible for multilateral portfolio
compression exercises, the Commission expects that a swap dealer or
major swap participant would need to engage in annual bilateral
compression with only one quarter of (25) such counterparties. The
estimate also is based upon the assumption that the average swap
dealer or major swap participant has an average of 440 non-swap
dealer or major swap participant counterparties and would engage in
1 bilateral portfolio compression exercise with each. This would
result in a total of 465 bilateral portfolio compression records (25
+ 440).
\38\ This estimate is based upon the assumption that each swap
dealer and major swap participant will have an average of 1 set of
swaps that is eligible for annual bilateral offset with each of its
estimated 540 counterparties per year.
---------------------------------------------------------------------------
Estimated aggregate number of annual responses: 308,700 [300
registrants x 1,029 responses per year].
Estimated annual hour burden per registrant: 178.5 hours [24
multilateral compression records x .5 hours per records] + [465
bilateral compression exercise records x .3 hours per records] + [540
bilateral offset records x .05 hours per record].
Estimated aggregate annual hour burden: 53,550 burden hours [300
registrants x 178.5 hours per registrant].
Based upon the above, the aggregate hourly burden for all
registrants is 334,350 hours and $33,435,000 [334,350 x $100 per hour].
In addition to the per hour burden discussed above, the Commission
anticipates that swap dealers and major swap participants may incur
minimal start-up costs in connection with the proposed recordkeeping
obligations. Such costs would include the expenditures related to
developing and installing new recordkeeping technology or re-
programming or updating existing recordkeeping technology and systems
to enable the swap dealer or major swap participant to collect,
maintain, and re-produce any newly required records. The Commission
believes that swap dealers and major swap participants generally could
adapt their current infrastructure to accommodate the new or amended
technology and thus, no significant infrastructure expenditures would
be needed. The Commission estimates the programming burden hours
associated with technology improvements to be 40 hours.
According to recent Bureau of Labor Statistics findings, the mean
hourly wages of computer programmers under occupation code 15-1021 and
computer software engineers under program codes 15-1031 and 1032 are
between $34.10 and $44.94.\39\ Because swap dealers and major swap
participants generally will be large entities that may engage employees
with wages above the mean, the Commission has conservatively chosen to
use a mean hourly programming wage of $60 per hour. Accordingly, the
start-up burden associated with the required technological improvements
would be $2,400 [$60 x 40 hour per affected registrant] or $720,000 in
the aggregate.
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\39\ http://www.bls.gov/oes/current/oes113031.htm.
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2. Information Collection Comments
The Commission invites the public and other Federal agencies to
comment on any aspect of the recordkeeping burdens discussed above. The
Commission specifically requests comment on the variables used in the
above-referenced hourly burden calculations. For example, the
Commission requests comment on the following:
What is the total number of swap dealers and major swap
participants in the marketplace?
What is the average number of counterparties that a swap
dealer or major swap participant is likely to have?
What percentage of those counterparties are other swap
dealers or major swap participants?
What is the average size (number of swaps) of a portfolio
that a swap dealer or major swap participant is likely to have with a
particular type of counterparty?
What is the average number of acknowledgment and
confirmation records that a swap dealer or major swap participant would
likely be required to make under the proposed regulations?
Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission solicits
comments in order to: (i) Evaluate whether the proposed collection of
information is necessary for the proper performance of the functions of
the Commission, including whether the information will have practical
utility; (ii) evaluate the accuracy of the Commission's estimate of the
burden of the proposed collection of information; (iii) determine
whether there are ways to enhance the quality, utility, and clarity of
the information to be collected; and (iv) minimize the burden of the
collection of information on those who are to respond, including
through the use of automated collection techniques or other forms of
information technology.
Comments may be submitted directly to the Office of Information and
Regulatory Affairs, by fax at (202) 395-6566 or by e-mail at
[email protected]. Please provide the Commission with a copy
of submitted comments so that all comments can be summarized and
addressed in the final rule preamble. Refer to the Addresses section of
this notice of proposed rulemaking for comment submission instructions
to the Commission.
A copy of the supporting statements for the collections of
information discussed above may be obtained by visiting RegInfo.gov.
OMB is required to make a decision concerning the collection of
information between 30 and 60 days after publication of this document
in the Federal Register. Therefore, a comment is best assured of having
its full effect if OMB receives it within 30 days of publication.
C. Cost-Benefit Analysis
Section 15(a) of the CEA\40\ requires the Commission to consider
the costs and benefits of its actions before issuing a rulemaking under
the CEA. By its terms, Section 15(a) does not require the Commission to
quantify the costs and benefits of a new regulation or to determine
whether the benefits of the rule outweigh its costs; rather, it
requires that the Commission ``consider'' the costs and benefits of its
actions.
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\40\ 7 U.S.C. 19(a).
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Section 15(a) further specifies that costs and benefits of a
proposed rulemaking shall be evaluated in light of five broad areas of
market and public concern: (1) Protection of market participants and
the public; (2) efficiency, competitiveness, and financial integrity of
futures markets; (3) price discovery; (4) sound risk management
practices; and (5) other public interest considerations. The Commission
may, in its discretion, give greater weight to any one of the five
enumerated considerations and could, in its discretion, determine that,
notwithstanding its costs, a particular regulation was necessary or
appropriate to protect the public interest or to effectuate any of the
provisions or to accomplish any of the purposes of the CEA.
Summary of proposed requirements. The proposed regulations would
implement new section 4s(i) of the CEA which was added by section 731
of the Dodd-Frank Act. The proposed regulations would set forth certain
requirements for swap confirmations, portfolio reconciliation, and
portfolio compression applicable to swap dealers
[[Page 81530]]
and major swap participants and related recordkeeping requirements.
Costs. With respect to costs, the Commission has determined that
the nominal cost that would be borne by swap dealers and major swap
participants to institute the policies and procedures and recordkeeping
systems necessary to satisfy the new regulatory requirements are far
outweighed by the benefits that would accrue to the financial system as
a whole as a result of the implementation of the rules. It is expected
that any additional cost imposed by the confirmation, portfolio
reconciliation, and portfolio compression requirements of proposed
Sec. Sec. 23.501, 23.502, and 23.503 would be minimal because the
confirmation, reconciliation, and compression processes required under
the rules are already part of a prudent operational processing regime
that many, if not most, swap dealers and major swap participants
already undertake as part of their ordinary course of business.
Moreover, most swap dealers and major swap participants have
adequate resources and existing back office operational systems that
are capable of adjusting to the new regulatory framework without
material diversion of resources away from commercial operations. As
discussed in the preamble, there are also numerous third-party vendors
that provide confirmation, compression, and reconciliation services.
Some of these providers charge fees based on results achieved (such as
number of swaps compressed) and, thus, the cost would be necessarily
proportionate to the benefit.
Benefits. With respect to benefits, the Commission has determined
that the proposed regulations would require a swap dealer or major swap
participant to confirm, reconcile, and compress their swaps in a manner
that will result in reduced risk, increased transparency, and greater
market integrity in the swaps market. The proposed swap confirmation,
portfolio reconciliation, and portfolio compression rules would further
the goal of avoiding market disruptions and financial losses to market
participants and the general public. Among other benefits, the proposed
rules would promote levels of operational scalability and resilience
that are most evident in periods of sustained high volume and market
volatility. Therefore, the Commission believes it is prudent to
prescribe these proposed regulations.
Public Comment. The Commission invites public comment on its cost-
benefit considerations. Commentators are also invited to submit any
data or other information that they may have quantifying or qualifying
the costs and benefits of the proposed rules with their comment
letters.
List of Subjects in 17 CFR Part 23
Antitrust, Commodity futures, Conduct standards, Conflict of
Interests, Major swap participants, Reporting and recordkeeping, Swap
dealers, Swaps.
For the reasons stated in this release, the Commission proposes to
amend 17 CFR part 23, as proposed to be added in FR Doc. 2010-XXXX,
published on XXXX (75 FR XXXX), as follows:
PART 23--SWAP DEALERS AND MAJOR SWAP PARTICIPANTS
1. The authority citation for part 23 to read as follows:
Authority: 7 U.S.C. 1a, 2, 6, 6a, 6b, 6b-1, 6c, 6p, 6r, 6s, 6t,
9, 9a, 12, 12a, 13b, 13c, 16a, 18, 19, 21.
2. Subpart I, (consisting of Sec. Sec. 23.500, 23.501, 23.502, and
23.503) is added to read as follows:
Subpart I--Swap Documentation
Sec.
23.500 Definitions.
23.501 Swap confirmation.
23.502 Portfolio reconciliation.
23.503 Portfolio compression.
Subpart I--Swap Documentation
Sec. 23.500 Definitions.
For purposes of subpart I, the following terms shall be defined as
provided.
(a) Acknowledgment means a written or electronic record of all of
the terms of a swap signed and sent by one counterparty to the other.
(b) Bilateral portfolio compression exercise means an exercise in
which two swap counterparties wholly or partially terminate some or all
of the swaps outstanding between those counterparties and replace those
swaps with a smaller number of swaps whose combined notional value is
less than the combined notional value of the original swaps included in
the exercise.
(c) Confirmation means the consummation (electronically or
otherwise) of legally binding documentation (electronic or otherwise)
that memorializes the agreement of the counterparties to all of the
terms of a swap transaction. A confirmation must be in writing (whether
electronic or otherwise) and must legally supersede any previous
agreement (electronically or otherwise). A confirmation is created when
an acknowledgment is manually, electronically, or by some other legally
equivalent means, signed by the receiving counterparty.
(d) Execution means, with respect to a swap transaction, an
agreement by the counterparties (whether orally, in writing,
electronically, or otherwise) to the terms of the swap transaction that
legally binds the counterparties to such terms under applicable law.
(e) Financial entity has the meaning given to the term in section
2h(7)(C) of the Act and any Commission regulations promulgated
thereunder, provided that the term shall not include a swap dealer or
major swap participant.
(f) Fully offsetting swaps means swaps of equivalent terms where no
net cash flow would be owed to either counterparty after the offset of
payment obligations thereunder.
(g) Material terms means all terms of a swap required to be
reported in accordance with part 45 of this chapter.
(h) Multilateral portfolio compression exercise means an exercise
in which multiple swap counterparties wholly or partially terminate
some or all of the swaps outstanding among those counterparties and
replace the swaps with a smaller number of swaps whose combined
notional value is less than the combined notional value of the original
swaps included in the exercise. The replacement swaps may be with the
same or different counterparties.
(i) Portfolio reconciliation means any process by which the two
parties to one or more swaps:
(1) Exchange the terms of all swaps in the swap portfolio between
the counterparties;
(2) Exchange each counterparty's valuation of each swap in the swap
portfolio between the counterparties as of the close of business on the
immediately preceding business day; and
(3) Resolve any discrepancy in material terms and valuations.
(j) Processed electronically means to be entered into a swap dealer
or major swap participant's computerized processing systems to
facilitate clearance and settlement.
(k) Prudential regulator has the meaning given to the term in
section 1a(39) of the Commodity Exchange Act and includes the Board of
Governors of the Federal Reserve System, the Office of the Comptroller
of the Currency, the Federal Deposit Insurance Corporation, the Farm
Credit Association, and the Federal Housing Finance Agency, as
applicable to the swap dealer or major swap participant. The term also
includes the Federal Deposit Insurance Corporation, with respect to any
financial company as defined in section 201 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act or any insured depository
institution
[[Page 81531]]
under the Federal Deposit Insurance Act, and with respect to each
affiliate of any such company or institution.
(l) Swap portfolio means all swaps currently in effect between a
particular swap dealer or major swap participant and a particular
counterparty.
(m) Swap transaction means any event that results in a new swap or
in a change to the terms of a swap, including execution, termination,
assignment, novation, exchange, transfer, amendment, conveyance, or
extinguishing of rights or obligations of a swap.
(n) Unwind proposal means a proposal offered by the sponsor of a
multilateral portfolio compression exercise which, if accepted, would
wholly or partially terminate some or all of the original swaps
included in the exercise.
(o) Valuation means the current market value or net present value
of a swap.
Sec. 23.501 Swap confirmation.
(a) Confirmation.
(1) Each swap dealer and major swap participant entering into a
swap transaction with a counterparty that is a swap dealer or major
swap participant shall execute a confirmation for the swap transaction
according to the following schedule:
(i) For any swap transaction that has been executed and processed
electronically, within 15 minutes of execution;
(ii) For any swap transaction that is not executed electronically,
but that will be processed electronically, within 30 minutes of
execution; or
(iii) For any swap transaction that cannot be processed
electronically by the swap dealer or major swap participant, within the
same calendar day as execution.
(2) Each swap dealer and major swap participant entering into a
swap transaction with a counterparty that is not a swap dealer or a
major swap participant shall send an acknowledgment of such swap
transaction according to the following schedule:
(i) For any swap transaction that has been executed and processed
electronically, within 15 minutes of execution;
(ii) For any swap transaction that is not executed electronically,
but that will be processed electronically, within 30 minutes of
execution; or
(iii) For any swap transaction that cannot be processed
electronically by the swap dealer or major swap participant, within the
same calendar day as execution.
(3) Each swap dealer and major swap participant shall establish,
maintain, and enforce written policies and procedures reasonably
designed to ensure that it executes a confirmation for each swap
transaction that it enters into with a counterparty that is a financial
entity within the same calendar day as execution and with a
counterparty that is not a swap dealer, major swap participant, or a
financial entity not later than the next business day after execution.
Such procedures shall include a requirement that, prior to execution of
any such swap, the swap dealer or major swap participant furnish to a
prospective counterparty, or receive from a prospective counterparty, a
draft acknowledgment specifying all terms of the swap transaction other
than the applicable pricing and other relevant terms that are to be
expressly agreed at execution.
(b) Recordkeeping. (1) Each swap dealer and major swap participant
shall make and retain a record of:
(i) The date and time of transmission to, or receipt from, a
counterparty of any acknowledgment;
(ii) The date and time of transmission to, or receipt from, a
counterparty of any confirmation;
(iii) The length of time between acknowledgment and confirmation of
each swap; and
(iv) The length of time between execution and confirmation of each
swap.
(2) All records required to be maintained pursuant to this section
shall be maintained in accordance with Sec. 1.31 and shall be made
available promptly upon request to any representative of the Commission
or any applicable prudential regulator, or with regard to swaps defined
in section 1a(47)(A)(v), to any representative of the Commission, the
Securities and Exchange Commission, or any applicable prudential
regulator.
Sec. 23.502 Portfolio reconciliation.
(a) Swaps with swap dealers or major swap participants. Each swap
dealer and major swap participant shall engage in portfolio
reconciliation as follows for all swaps in which its counterparty is
also a swap dealer or major swap participant.
(1) Each swap dealer or major swap participant shall agree in
writing with each of its counterparties on the terms of the portfolio
reconciliation.
(2) The portfolio reconciliation may be performed on a bilateral
basis by the counterparties or by a qualified third party.
(3) The portfolio reconciliation shall be performed no less
frequently than:
(i) Once each business day for each swap portfolio that includes
300 or more swaps;
(ii) Once each week for each swap portfolio that includes more than
50 but fewer than 300 swaps on any business day during any week; and
(iii) Once each calendar quarter for each swap portfolio that
includes no more than 50 swaps at any time during the calendar quarter.
(4) Each swap dealer and major swap participant shall resolve
immediately any discrepancy in a material term of a swap identified as
part of a portfolio reconciliation.
(5) Each swap dealer and major swap participant shall resolve any
discrepancy in a valuation identified as part of a portfolio
reconciliation within one business day. A difference between the lower
valuation and the higher valuation of less than 10% of the higher
valuation need not be deemed a discrepancy.
(b) Swaps with entities other than swap dealers or major swap
participants. Each swap dealer and major swap participant shall
establish, maintain, and enforce written policies and procedures for
engaging in portfolio reconciliation as follows for all swaps in which
its counterparty is neither a swap dealer nor a major swap participant.
(1) Each swap dealer or major swap participant shall agree in
writing with each of its counterparties on the terms of the portfolio
reconciliation.
(2) The portfolio reconciliation may be performed on a bilateral
basis by the counterparties or by a qualified third party.
(3) The portfolio reconciliation shall be performed no less
frequently than:
(i) Once each business day for each swap portfolio that includes
500 or more swaps;
(ii) Once each week for each swap portfolio that includes more than
100 but fewer than 500 swaps on any business day during any week; and
(iii) Once each calendar quarter for each swap portfolio that
includes no more than 100 swaps at any time during the calendar
quarter.
(4) Each swap dealer or major swap participant shall establish,
maintain, and enforce written procedures reasonably designed to resolve
any discrepancies in the material terms or valuation of each swap
identified as part of a portfolio reconciliation process in a timely
fashion. A difference between the lower valuation and the higher
valuation of less than 10% of the higher valuation need not be deemed a
discrepancy.
(c) Reconciliation of cleared swaps. Nothing in this section shall
apply to a
[[Page 81532]]
swap that is cleared by a derivatives clearing organization.
(d) Recordkeeping. A record of each swap portfolio reconciliation,
including a record of each discrepancy and the length of time for
resolution of each discrepancy not resolved within one business day,
shall be maintained in accordance with Sec. 1.31 and shall be made
available promptly upon request to any representative of the Commission
or any applicable prudential regulator, or with regard to swaps defined
in section 1a(47)(A)(v) of the Act, to any representative of the
Commission, the Securities and Exchange Commission, or any applicable
prudential regulator.
Sec. 23.503 Portfolio compression.
(a) Bilateral offset. Each fully offsetting swap between a swap
dealer or major swap participant and another swap dealer or major swap
participant shall be terminated no later than the close of business on
the business day following the day on which the counterparties entered
into the fully offsetting swap.
(b) Bilateral compression. Each swap dealer and major swap
participant shall engage in a bilateral portfolio compression exercise
for each swap in which the counterparty is also a swap dealer or major
swap participant at least once per calendar year, except to the extent
that the swap dealer or major swap participant and the counterparty
have participated in a multilateral compression exercise involving such
swap during the same calendar year.
(c) Multilateral compression. Each swap dealer and major swap
participant shall engage in the following portfolio compression
exercises for each swap in which its counterparty is also a swap dealer
or major swap participant:
(1) Each swap dealer and major swap participant shall participate
in all multilateral portfolio compression exercises required by
Commission regulation or order.
(2) Each swap dealer and major swap participant shall participate
in all multilateral portfolio compression exercises that are initiated,
offered, or sponsored by any of the following entities to the extent
that any swap in the portfolio of the swap dealer or major swap
participant is eligible for inclusion in the exercise:
(i) Any derivatives clearing organization of which the swap dealer
or major swap participant is a member; or
(ii) Any self-regulatory organization of which the swap dealer or
major swap participant is a member.
(3) Each swap dealer and major swap participant shall comply with
the following with respect to each multilateral portfolio compression
exercise in which it participates:
(i) Transactions included. Each swap dealer and major swap
participant shall include in the multilateral portfolio compression
exercise all swaps in which its counterparty is also a swap dealer or
major swap participant that are eligible to be included in the
particular exercise, unless including the swap would be reasonably
likely to significantly increase the risk exposure of the swap dealer
or major swap participant.
(ii) Counterparty, market, and cash payment risk tolerances.
Notwithstanding Sec. 23.503(c)(3)(i), a swap dealer or a major swap
participant may establish counterparty, market, cash payment, or other
risk tolerances or exclude specific potential counterparties, provided
that the swap dealer or major swap participant does not use such risk
tolerances or counterparty exclusions to evade the requirements of this
regulation.
(iii) Acceptance of unwind proposal. No swap dealer or major swap
participant shall unreasonably withhold, delay, or condition consent to
an unwind proposal.
(d) Policies and procedures.
(1) Each swap dealer and major swap participant shall establish,
maintain, and enforce written policies and procedures for engaging in
the bilateral and multilateral portfolio compression exercises required
by this section with respect to all swaps in which its counterparty is
also a swap dealer or major swap participant.
(2) Each swap dealer and major swap participant shall establish,
maintain, and enforce written policies and procedures for periodically
terminating fully offsetting swaps and for periodically engaging in
portfolio compression exercises with respect to swaps in which its
counterparty is an entity other than a swap dealer or major swap
participant, to the extent that the outstanding swaps are able to be
terminated through a portfolio compression exercise.
(e) Recordkeeping. (1) Each swap dealer and major swap participant
shall make and maintain a record of each bilateral offset and each
bilateral or multilateral portfolio compression exercise in which it
participates, including the beginning and completion dates of the
offset or exercise; the included swaps and counterparties thereto; the
swaps that were eligible for inclusion in the exercise, but were
excluded by the swap dealer or major swap participant and the reason
for the exclusion; the counterparty, market, cash payment, or other
risk tolerance levels set by the swap dealer or major swap participant;
and the results of the compression, including the identification of the
swaps that were terminated and any new swaps and the counterparties
thereto that resulted from the exercise.
(2) All records required to be maintained pursuant to this section
shall be maintained in accordance with Sec. 1.31 and shall be made
available promptly upon request to any representative of the Commission
or any applicable prudential regulator, or with regard to swaps defined
in section 1a(47)(A)(v) of the Act, to any representative of the
Commission, the Securities and Exchange Commission, or any applicable
prudential regulator.
Issued in Washington, DC on December 16, 2010, by the
Commission.
David A. Stawick,
Secretary of the Commission.
Appendices to Confirmation, Portfolio Reconciliation, and Portfolio
Compression Requirements for Swap Dealers and Major Swap Participants--
Commissioners Voting Summary and Statements of Commissioners
Note: The following appendices will not appear in the Code of
Federal Regulations.
Appendix 1--Commissioners Voting Summary
On this matter, Chairman Gensler and Commissioners Dunn,
Sommers, Chilton and O'Malia voted in the affirmative. No
Commissioner voted in the negative.
Appendix 2--Statement of Chairman Gary Gensler
I support the proposed rulemaking that establishes essential
business conduct standards for swap dealers and major swap
participants. Today's rule establishes confirmation, portfolio
reconciliation and portfolio compression requirements for such
parties. The proposed regulations are consistent with Congress's
direction through the Dodd-Frank Act to prescribe standards for the
timely and accurate confirmation, processing, netting and valuation
of swap transactions. One of the primary goals of Dodd-Frank Act was
to establish a comprehensive regulatory framework that would reduce
risk, increase transparency and promote market integrity. The
proposed regulations accomplish this goal by establishing procedures
that will promote legal certainty regarding swap transactions, early
resolutions of valuation disputes, enhanced understanding of one
counterparty's risk exposure to another, reduced operational risk
and increased operational efficiency.
[FR Doc. 2010-32264 Filed 12-27-10; 8:45 am]
BILLING CODE 6351-01-P