2012-16987

Federal Register, Volume 77 Issue 135 (Friday, July 13, 2012)[Federal Register Volume 77, Number 135 (Friday, July 13, 2012)]

[Rules and Regulations]

[Pages 41260-41266]

From the Federal Register Online via the Government Printing Office [www.gpo.gov]

[FR Doc No: 2012-16987]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Chapter I

Second Amendment to July 14, 2011 Order for Swap Regulation

AGENCY: Commodity Futures Trading Commission.

ACTION: Final order.

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SUMMARY: On May 16, 2012, the Commodity Futures Trading Commission

(``CFTC'' or the ``Commission'') published in the Federal Register a

Notice of Proposed Amendment (``Notice'') to extend the temporary

exemptive relief the Commission granted on July 14, 2011 (``July 14

Order'') from certain provisions of the Commodity Exchange Act

(``CEA'') that otherwise would have taken effect on the general

effective date of title VII of the Dodd-Frank Wall Street Reform and

Consumer Protection Act (``the Dodd-Frank Act'')--July 16, 2011. This

final order extends the July 14 Order with certain modifications.

Specifically, it removes references to the entities terms, including

``swap dealer,'' ``major swap participant,'' and ``eligible contract

participant'' in light of the final joint rulemaking of the CFTC and

Securities and Exchange Commission (``SEC'') further defining those

terms issued on April 18, 2012; extends the potential latest expiration

date of the July 14 Order to December 31, 2012, or, depending on the

nature of the relief, such other compliance date as may be determined

by the Commission; allows the clearing of agricultural swaps, as

described herein; and removes any reference to the exempt commercial

market (``ECM'') and exempt board of trade (``EBOT'') grandfather

relief previously issued by the Commission.

DATES: This final order is effective July 3, 2012.

FOR FURTHER INFORMATION CONTACT: Mark D. Higgins, Counsel, (202) 418-

5864, mhiggins@cftc.gov, Office of the General Counsel; David Aron,

Counsel, (202) 418-6621, daron@cftc.gov, Office of the General Counsel;

David Van Wagner, Chief Counsel, (202) 418-5481, dvanwagner@cftc.gov,

Division of Market Oversight; Ali Hosseini, Special Counsel, (202) 418-

6144, ahosseini@cftc.gov, Division of Market Oversight, Commodity

Futures Trading Commission, Three Lafayette Centre, 1155 21st Street

NW., Washington, DC 20581; or Anne Polaski, Special Counsel, (312) 596-

0575, apolaski@cftc.gov, Division of Clearing and Risk; Commodity

Futures Trading Commission, 525 West Monroe, Chicago, Illinois 60661.

SUPPLEMENTARY INFORMATION:

Background

On July 14, 2011, the Commission exercised its exemptive authority

under CEA section 4(c) \1\ and its authority under section 712(f) of

the Dodd-Frank Act by issuing the July 14 Order that addressed the

potential that the final, joint CFTC-SEC rulemakings further defining

the terms in sections 712(d) \2\ and 721(c) \3\ would not be in effect

as of July 16, 2011 (i.e., the general effective date set forth in

section 754 of the Dodd-Frank Act).\4\ In so doing, the Commission

sought to address concerns that had been raised about the applicability

of various regulatory requirements to certain agreements, contracts,

and transactions after July 16, 2011, and thereby ensure that current

practices would not be unduly disrupted during the transition to the

new regulatory regime.\5\ The July 14 Order provided that the relief

granted thereunder would expire no later than December 31, 2011.\6\

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\1\ 7 U.S.C. 6(c).

\2\ Section 712(d)(1) provides: ``Notwithstanding any other

provision of this title and subsections (b) and (c), the Commodity

Futures Trading Commission and the Securities and Exchange

Commission, in consultation with the Board of Governors [of the

Federal Reserve System], shall further define the terms `swap',

`security-based swap', `swap dealer', `security-based swap dealer',

`major swap participant', `major security-based swap participant',

and `security-based swap agreement' in section 1a(47)(A)(v) of the

Commodity Exchange Act (7 U.S.C. 1a(47)(A)(v)) and section 3(a)(78)

of the Securities Exchange Act of 1934 (15 U.S.C. 78c(a)(78)).''

\3\ Section 721(c) provides: ``To include transactions and

entities that have been structured to evade this subtitle (or an

amendment made by this subtitle), the Commodity Futures Trading

Commission shall adopt a rule to further define the terms `swap',

`swap dealer', `major swap participant', and `eligible contract

participant'.''

\4\ Effective Date for Swap Regulation, 76 FR 42508 (issued and

made effective by the Commission on July 14, 2011; published in the

Federal Register on July 19, 2011). Section 712(f) of the Dodd-Frank

Act states that ``in order to prepare for the effective dates of the

provisions of this Act,'' including the general effective date set

forth in section 754, the Commission may ``exempt persons,

agreements, contracts, or transactions from provisions of this Act,

under the terms contained in this Act.'' Section 754 specifies that

unless otherwise provided in Title VII, provisions requiring a

rulemaking become effective ``not less than 60 days after

publication of the final rule'' (but not before July 16, 2011).

\5\ Concurrent with the July 14 Order, the Commission's Division

of Clearing and Intermediary Oversight (which is now two divisions--

the Division of Clearing and Risk (``DCR'') and the Division of Swap

Dealer and Intermediary Oversight (``DSIO'')) and the Division of

Market Oversight (``DMO'') (together ``the Divisions'') identified

certain provisions of the Dodd-Frank Act and CEA as amended that

would take effect on July 16, 2011, but that may not be eligible for

the exemptive relief provided by the Commission in its July 14

Order--specifically, the amendments made to the CEA by Dodd-Frank

Act sections 724(c), 725(a), and 731. On July 14, 2011, the

Divisions issued Staff No-Action Relief addressing the application

of these provisions after July 16, 2011. Available at: http://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/11-04.pdf.

\6\ 76 FR at 42522 (July 19, 2011).

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On December 23, 2011, the Commission published in the Federal

Register a final order (the ``First Amended July 14 Order'') amending

the July 14 Order in two ways.\7\ First, the Commission extended the

potential latest expiry date from December 31, 2011 to July 16, 2012

or, depending on the nature of the relief, such other compliance date

as may be determined by the Commission, to address the potential that,

as of December 31, 2011, the aforementioned joint CFTC-SEC joint

rulemakings would not be effective. Second, the Commission included

within the relief set forth in the First Amended July 14 Order any

agreement, contract or transaction that fully meets the conditions in

part 35 as in effect prior to December 31, 2011. This amendment

addressed the fact that such transactions, which were not included

within the scope of the original July 14 Order because the exemptive

rules in part 35 covered them

[[Page 41261]]

at that time, required temporary relief because part 35 would not be

available as of December 31, 2011.\8\ In so doing, the Commission

clarified that new part 35 and the exemptive relief issued in the First

Amended July 14 Order, and any interaction of the two, do not operate

to expand the pre-Dodd-Frank Act scope of transactions eligible to be

transacted on either an ECM or EBOT to include transactions in

agricultural commodities.

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\7\ Amendment to July 14, 2011 Order for Swap Regulation, 76 FR

80233 (Dec. 23, 2011).

\8\ The Commission promulgated a rule pursuant to section

723(c)(3) of the Dodd-Frank Act, and CEA sections 4(c) and 4c(b),

that, effective December 31, 2011, repealed the existing part 35

relief and replaced it with new Sec. 35.1 of the Commission's

regulations. See Agricultural Swaps, 76 FR 49291 (Aug. 10, 2011).

Rule 35.1 generally provides that ``agricultural swaps may be

transacted subject to all provisions of the CEA, and any Commission

rule, regulation or order thereunder, that is otherwise applicable

to swaps. [It] also clarifies that by issuing a rule allowing

agricultural swaps to transact subject to the laws and rules

applicable to all other swaps, the Commission is allowing

agricultural swaps to transact on [designated contract markets

(``DCMs''), swap execution facilities (``SEFs'')], or otherwise to

the same extent that all other swaps are allowed to trade on DCMs,

SEFs, or otherwise.'' Id. at 49296.

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Discussion of the Notice of Proposed Amendment

On May 16, 2012, the Commission published in the Federal Register a

Notice of Proposed Amendment (``Notice'') that would further amend the

First Amended July 14 Order in the following four ways. First, in light

of the final, joint CFTC-SEC rulemaking further defining the entities

terms in sections 712(d), including ``swap dealer,'' ``major swap

participant,'' and ``eligible contract participant,'' issued on April

18, 2012,\9\ the Notice proposed to remove references to those terms.

Second, the Notice proposed to extend the latest potential expiry date

from July 16, 2012 to December 31, 2012 or, depending on the nature of

the relief, such other compliance date as may be determined by the

Commission. The Notice stated that the extension would ensure that

market practices will not be unduly disrupted during the transition to

the new regulatory regime.

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\9\ CFTC-SEC, Further Definition of ``Swap Dealer'', ``Security-

Based Swap Dealer'', ``Major Swap Participant'', ``Major Security-

Based Swap Participant'', and ``Eligible Contract Participant''

(issued Apr. 18, 2012) (to be codified at 17 CFR pt. 1), 77 FR 30596

(May 23, 2012), available at: http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/federalregister041812b.pdf.

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Third, the Notice proposed to further amend the First Amended July

14 Order to provide that agricultural swaps, whether entered into

bilaterally, on a DCM, or a SEF, may be cleared in the same manner that

any other swap may be cleared and without the need for the Commission

to issue any further exemption under section 4(c) of the CEA. The

Notice stated that this amendment is intended to harmonize the First

Amended July 14 Order and the final rules amending part 35 of the

Commission's regulations, to the extent that the July 14 Order, as

amended, maintained the pre-Dodd-Frank Act part 35 prohibition against

the clearing of agricultural swaps. The Notice clarified that while the

proposed Second Amended July 14 Order would remove the clearing

prohibition for agricultural swaps, it would not permit agricultural

swaps to be entered into or executed on an ECM or EBOT.

The Commission noted that ECMs and EBOTs both operate some form of

trading facility without any self-regulatory responsibilities. The

Commission stated its general belief that any form of exchange trading

in agricultural swaps should only be permitted in a self-regulated

environment. In other words, unlike exempt and excluded commodities,

which were generally allowed to be transacted on a trading facility

(i.e., platform-traded) in an unregulated environment under the CEA

prior to the Dodd-Frank Act \10\ and now during the transition to the

Dodd-Frank Act regulatory regime, agricultural swaps, which were not

allowed to be platform-traded on an ECM or EBOT under the CEA prior to

Dodd-Frank Act, may not be platform-traded during the transition to the

Dodd-Frank Act regulatory regime. Accordingly, under the Notice and in

conjunction with 17 CFR part 35, as effective on and after December 31,

2011, the Notice stated that agricultural swaps may only be entered

into or executed bilaterally, on a DCM,\11\ or on a SEF.\12\

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\10\ One notable exception to this general approach was the

heightened regulatory requirements for ECM-listed contracts that

served a significant price discovery function under the pre-Dodd-

Frank CEA. It is generally recognized, however, that the regulatory

regime for ECM significant price discovery function contracts, which

included nine core principles, was less rigorous than those

applicable to either DCMs (pre- or post-Dodd-Frank) or SEFs. See CEA

Section 2(h)(7)(C)(ii)(I)-(IX) (2008) amended by the Dodd-Frank Act.

\11\ See December 23 Order, 76 FR at 80236, note 11 (Dec. 23,

2011).

\12\ See 17 CFR 35.1(b).

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In connection with swaps executed on a DCM (whether agricultural

swaps or otherwise), the Commission clarified that a DCM may list such

swaps for trading under the DCM's rules related to futures contracts

without exemptive relief.\13\ As required for futures, a DCM must

submit such swaps to the Commission under either Sec. 40.2 (listing

products for trading by certification) \14\ or Sec. 40.3 (voluntary

submission of new products for Commission review and approval) \15\ of

the Commission's regulations. Swaps that are traded on a DCM are

required to be cleared by a DCO.\16\ In order for a DCO to be able to

clear a swap listed for trading on a DCM, the DCO must be eligible to

clear such swap pursuant to Sec. 39.5(a)(1) or (2),\17\ and must

submit the swap to the Commission pursuant to Sec. 39.5(b).\18\

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\13\ See 76 FR at 80236, note 22 (Dec. 23, 2011).

\14\ 17 CFR 40.2.

\15\ 17 CFR 40.3.

\16\ See 7 U.S.C. 5(d)(11)(A).

\17\ 17 CFR 39.5(a).

\18\ 17 CFR 39.5(b).

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Fourth, the Notice proposed to further amend the First Amended July

14 Order to remove any reference to the ECM/EBOT Grandfather Order,

which expires on July 16, 2012.\19\ The Notice stated that after July

16, 2012, ECMs and EBOTs, as well as markets that rely on pre-Dodd-

Frank CEA section 2(d)(2) (``2(d)(2) Markets''), would only be able to

rely on the Second Amended July 14 Order, as proposed therein. The

Notice proposed that the relief for ECMs and EBOTs, as well as for

2(d)(2) Markets, granted under the proposed Second Amended July 14

Order shall expire upon the effective date of the DCM or SEF final

rules, whichever is later, unless the ECM or EBOT, or 2(d)(2) Markets,

files a DCM or SEF application on or before the effective date of the

DCM or SEF final rules, in which case the relief shall remain in place

during the pendency of the application. The Notice clarified that for

these purposes, an application will be considered no longer pending

upon the application being approved, provisionally approved,\20\

withdrawn, or denied.

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\19\ The Commission issued the ECM/EBOT Grandfather Order

pursuant to sections 723(c) and 734(c) of the Dodd-Frank Act which

authorized the Commission to permit ECMs and EBOTs, respectively, to

continue to operate pursuant to CEA sections 2(h)(3) and 5d for no

more than one year after the general effective date of the Dodd-

Frank Act's amendments to the CEA.

\20\ For these purposes, an application is ``provisionally

approved'' on the date that such provisional approval becomes

effective such that the ECM, EBOT, or 2(d)(2) Market may then rely

on such provisional approval to operate as a DCM or SEF, as

applicable.

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The Commission sought comment on all aspects of the Notice.

Discussion of the Final Order

The Commission received five comments that related to the

Notice.\21\

[[Page 41262]]

While generally supportive of the Notice, the comments raised two

issues for the Commission's consideration in this final order: (1) The

expiry date applicable to ECMs currently operating pursuant to

grandfather relief authorized by section 723(c)(l)-(2) of the Dodd-

Frank Act and their market participants and clearing organizations; and

(2) the effectiveness of CEA section 2(e) in light of the further

definition of the term ``eligible contract participant'' (``ECP''). In

addition, one commenter specifically supported the Commission's

proposal to permit the clearing of agricultural swaps without further

exemption.\22\ The Coalition of Physical Energy Companies also

supported the Proposed Amendment and believed that the Commission

should undertake its implementation of the Dodd-Frank Act in a

deliberative manner that carefully establishes necessary regulations

and avoids inadvertent impacts and over-broad application of the

statute.\23\

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\21\ Letter from Diana L. Preston, Vice President and Senior

Counsel, Center for Securities, Trust & Investments, American

Bankers Association, to David Stawick, Secretary, Commodity Futures

Trading Commission (May 30, 2012); Letter from Kathleen Cronin,

Senior Managing Director, General Counsel and Corporate Secretary,

CME Group Inc., to David Stawick, Secretary, Commodity Futures

Trading Commission (May 30, 2012); Letter from David M. Perlman,

Partner, Bracewell & Giuliani, LLP on behalf of the Coalition of

Physical Energy Companies, to David Stawick, Secretary, Commodity

Futures Trading Commission (May 30, 2012); Letter from Richard W.

Holmes, Jr., Vice President and Counsel, Fifth Third Bank, to David

Stawick, Secretary, Commodity Futures Trading Commission (May 30,

2012); Letter from Paul Cusenza, Chief Executive Officer, Nodal

Exchange, LLC, to David Stawick, Secretary, Commodity Futures

Trading Commission (May 30, 2012). The comment letters are on file

with the CFTC and are available via the Commission's Web site at:

http://comments.cftc.gov/PublicComments/CommentList.aspx?id=1201.

\22\ See CME Group Letter at 2. In discussing this aspect of the

proposed Second Amended July 14 Order, CME Group noted that for

agricultural swaps listed on a DCM, ``a DCM will have the

flexibility either to self-certify a new agricultural swap contract

under Rule 40.2, or to submit the contract for CFTC approval

pursuant to Rule 40.3.'' Id. In adopting, as proposed, the

provisions relating to agricultural swaps, the Commission is

affirming the discussion of agricultural swaps contained in the

Notice, which included the explanation that in addition to a DCM

submitting swaps to the Commission under either Sec. 40.2 or Sec.

40.3, ``In order for a DCO to be able to clear a swap listed for

trading on a DCM, the DCO must be able to clear such swap pursuant

to Sec. 39.5(a)(1) or (2), [footnote omitted] and must submit the

swap to the Commission pursuant to Sec. 39.5(b).'' See 77 FR at

28820-21.

\23\ COPE Letter at 1-2.

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The comments and Commission determinations regarding the two

substantive issues raised by commenters are discussed in the sections

that follow.

1. Duration of Relief Available to ECM/EBOTs

a. Comments

While supportive of the Notice, CME Group, on behalf of its four

DCMs, requested that the Commission clarify one ambiguity it perceived

with the Notice--that is, the provision of the Notice stating that the

relief proposed shall expire on the earlier of (1) December 31, 2012 or

(2) ``the effective date of the DCM or SEF final rules, whichever is

later,'' unless the ECM or EBOT files a DCM or SEF application ``on or

before the effective date of the DCM or SEF final rules, in which case

the relief shall remain in place during the pendency of the

application.'' \24\ According to CME Group, the second part of the

proposed expiration date is ambiguous because it fails to specify which

of the numerous rule proposals concerning SEFs and DCMs must be

finalized before relief will terminate.\25\

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\24\ CME Group Letter at 2.

\25\ Id.

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CME Group stated that one way to remove this perceived ambiguity

would be for the Commission to list each rulemaking that must take

effect before the relief will terminate. CME Group also stated that, at

a minimum, the ECM and EBOT relief should remain in place until at

least the effective date of CFTC implementing rules concerning: (1) All

DCM and SEF core principles and (2) block trade size requirements for

swaps. Alternatively, CME Group stated that the Commission could

address the concern by stating in a final order that the relief remains

in effect until a future date the Commission will specify in a future

order that will provide at least 60 days notice to market participants

and other affected parties.\26\

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\26\ Id.

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Nodal Exchange, which is currently operating as an ECM, sought

assurance that the proposed relief would remain in place if an ECM

applies to be a DCM after the effective date of the DCM rules, yet

still on or before the effective date of the SEF rules.\27\ To that

end, Nodal Exchange offered a change to the operative language of the

draft order. Specifically, Nodal Exchange recommended that the phrase

at the end of Section (3) of the proposed order be modified to include

a second ``whichever is later'' clause, as emphasized below:

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\27\ Nodal Exchange Letter at 1-2.

or (ii) the effective date of the designated contract market

(``DCM'') or swap execution facility (``SEF'') final rules,

whichever is later, unless the ECM, EBOT, or 2(d)(2) Market files a

DCM or SEF registration application on or before the effective date

of the DCM or SEF final rules, whichever is later, in which case the

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relief shall remain in place during the pendency of the application.

Nodal Exchange explained that this change is necessary because it

must file a DCM or SEF registration application on or before the

effective date of the DCM or SEF final rules, but to date, the final

rules for DCMs that defer implementation of Core Principle 9 and the

proposed rules for SEFs would significantly impact Nodal Exchange such

that a determination of which registration will be most appropriate is

not possible until both the DCM and SEF final rules are published.\28\

Before submitting the appropriate application, Nodal Exchange stated

that it will need to assess (1) how the final regulations implement DCM

Core Principle 9 and (2) the finalized rules for SEFs, especially with

regard to how the Commission addresses the SEF rules regarding ``pre-

trade price transparency.'' \29\

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\28\ Id.

\29\ Id.

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b. Commission Determination

The Commission has determined to amend the draft order to include a

``whichever is later'' clause in provision (b) of section 3 of the

Second Amended July 14 Order. That qualifying provision will read as

follows: ``or (ii) the effective date of the designated contract market

(``DCM'') or swap execution facility (``SEF'') final rules, whichever

is later, unless the ECM, EBOT, or 2(d)(2) Market files a DCM or SEF

registration application on or before the effective date of the DCM or

SEF final rules, whichever is later, in which case the relief shall

remain in place during the pendency of the application.'' \30\ To be

clear, the phrase ``DCM or SEF final rules'' in that provision refers

to the following rulemakings: (1) Core Principles and Other

Requirements for

[[Page 41263]]

Designated Contract Markets; \31\ (2) Core Principles and Other

Requirements for Swap Execution Facilities; \32\ and (3) a rulemaking

on DCM Core Principle 9.\33\ The Commission believes that these changes

and clarifications are necessary and in the public interest because

finalization of the aforementioned rules is integral to the business

decision of whether entities currently operating as ECMs, EBOTs, or

2(d)(2) Markets will transition to DCM or SEF status.

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\30\ The Commission currently receives notice filings from ECMs

and EBOTs, and thus has a general familiarity with the nature and

number of markets operating pursuant to ECM and EBOT exemptive

relief. See 17 CFR 36.2(b) and 17 CFR 36.3(a). In order for the

Commission to gain a similar familiarity with 2(d)(2) Markets, and

to facilitate their eventual transition to registered DCM or

registered SEF status, 2(d)(2) Markets operating or intending to

operate pursuant to the exemptive relief in this Second Amended

Order must provide the Commission with notice of their operations

(or intent to so operate) on or before July 16, 2012, or as

reasonably soon thereafter as is practicable. Notices should be sent

to the Commission's Division of Market Oversight, 1155 21st St. NW.,

Washington, DC 20581 (or electronically, to DMOLetters@cftc.gov),

and should include the name and address of the 2(d)(2) Market, and

the name and telephone number of a contact person. Such notice will

assist the Commission in preparing to review any subsequent

application for registration, or provisional registration, as a SEF

or DCM submitted by such 2(d)(2) Market. Notwithstanding the

provision of such notice, the Commission notes that any subsequent

SEF or DCM registration application by a 2(d)(2) Market will still

undergo a separate, complete, and independent evaluation by the

Commission, just as will every SEF and/or DCM application submitted

by an ECM and/or EBOT.

\31\ Core Principles and Other Requirements for Designated

Contract Markets, 77 FR 36612 (June 19, 2012) (``Final DCM Core

Principles Release'').

\32\ 76 FR 1214 (January 7, 2011).

\33\ In the Final DCM Core Principles Release, the Commission

stated that additional time is appropriate before finalizing the

proposed rules for DCM Core Principle 9 and that the Commission

plans and expects to consider the final rule for DCM Core Principle

9 when it considers the final rule for the SEF Core Principles.

The phrase ``DCM or SEF final rules'' does not include the

Commission's rulemaking on block trade size requirements for swaps

or its rulemaking on the process for a DCM or SEF to make a swap

available to trade. See Procedures To Establish Appropriate Minimum

Block Sizes for Large Notional Off-Facility Swaps and Block Trades,

77 FR 15460 (March 15, 2012); Process for a Designated Contract

Market or Swap Execution Facility to Make a Swap Available to Trade,

76 FR 77728 (December 14, 2011). Those rules will be uniformly

applied to both DCM- and SEF-traded swaps and, accordingly, their

respective requirements should not have a bearing on whether an ECM,

EBOT, or 2(d)(2) Market chooses to apply to become a DCM or a SEF.

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2. Status of CEA Section 2(e) and ECPs

a. Comments

According to Fifth Third Bank, compliance with the Dodd-Frank Act

requirements should not become mandatory until the CFTC and SEC provide

further guidance as to the meaning of the ``revised definition of

ECP.'' \34\ Fifth Third Bank stated that section 2(e) of the CEA, as

amended by the Dodd-Frank Act, which makes it unlawful for non-ECPs to

enter into over-the-counter swaps, together with the rescission of the

Commission's 1989 Policy Statement Concerning Swap Transactions,

represent a major change in the rules under which banks have been

operating for many years.\35\ Fifth Third Bank contended that banks

(and other swap counterparties) will need to know how to determine

whether or not a person is an ECP with a considerable degree of

certainty well before the mandatory compliance date for CEA section

2(e) so that they can (1) prepare compliance procedures,

questionnaires, and other forms, and (2) train their personnel how to

determine whether a person is or is not an ECP. Fifth Third Bank

expressed particular concern regarding how to interpret the phrase

``amounts invested on a discretionary basis'' in the context of CEA

section 1a(18)(A)(xi).\36\ For these reasons, Fifth Third Bank stated

that the proposed Second Amended July 14 Order should not assume that

the term ``ECP'' has been adequately defined. In its view, compliance

with CEA section 2(e) should not become mandatory until at least 60

days after the CFTC and SEC have provided further guidance regarding

the meaning of the term ``ECP.'' \37\

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\34\ Fifth Third Bank Letter at 2.

\35\ Id.

\36\ Id. at 4-5.

\37\ Id. at 5.

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Similarly, citing some of the same issues as Fifth Third Bank, the

American Bankers Association urged the Commission to amend the proposed

order to provide for a continuation of the existing temporary exemption

``solely with respect to Section 2(e) until the later of (i) the

Proposed Revised Effective Date, or (ii) no less than 60 days after a

substantive rule or interpretive guidance on Section 2(e) becomes

effective for such purpose (issued either by the Commission or jointly

with the SEC).'' \38\

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\38\ American Bankers Association Letter at 1-2.

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b. Commission Determination

On April 18, 2012, the Commission and the SEC adopted final rules

jointly further defining, among other terms, ``eligible contract

participant.'' \39\ In those rules, the Commissions provided both new

categories of ECPs, including a new category based in part on the line

of business element of the Commission's Policy Statement Concerning

Swap Transactions,\40\ and interpretations regarding the further

definition of the term ``ECP.'' The Commission and the SEC also delayed

compliance with certain aspects of the ECP definition until December

31, 2012.\41\

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\39\ See Further Definition of ``Swap Dealer,'' Security-Based

Swap Dealer,'' ``Major Swap Participant,'' ``Major Security-Based

Swap Participant'' and ``Eligible Contract Participant'', 77 FR

30596 (May 23, 2012) (``Final ECP Definition Release'').

\40\ See 17 CFR 1.3(m)(7).

\41\ See Final ECP Definition Release at 30596, 30700 (setting

forth the compliance dates for Commission regulations 1.3(m)(5), (6)

and (8)(iii)).

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While the Commissions or their staff may, from time to time, issue

additional guidance regarding the definition of the term ``ECP,'' the

Commission and the SEC jointly have further defined the term ``eligible

contract participant,'' fulfilling their mandate under Dodd-Frank Act

section 712(d)(1) to jointly further define the term ``ECP.'' In light

of the foregoing, the Commission declines requests to modify this final

order to delay the effectiveness of section 2(e) beyond the relief

already provided.

Nevertheless, because the Commission and the SEC may issue

additional guidance concerning, among other issues of concern to

commenters, the term ``amounts invested on a discretionary basis'' in

the context of CEA section 1a(18)(A)(xi) after the effective date of

section 2(e), the Commission provides the following guidance as to how

it intends to exercise its enforcement discretion with respect to

certain unintentional violations of section 2(e) by swap counterparties

who are making good faith efforts to comply with section 2(e).\42\ More

specifically, where a person finds that it has entered into a swap with

a counterparty that the Commission and SEC later further define or

interpret as not an ECP, absent other material factors, the Commission

will not bring an enforcement action for violation of section 2(e) if

the person has implemented and followed reasonably designed policies

and procedures to verify the ECP status of a swap counterparty \43\

and, notwithstanding good faith compliance with such policies and

procedures,\44\ the person enters into a swap with a non-ECP

counterparty.

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\42\ Because CEA section 2(e) refers both to ECPs and swaps,

both of which, per Dodd-Frank Act section 754, must be further

defined before CEA section 2(e) could take effect, now that ECP has

been further defined, the further definition of the term ``swap'' is

the sole remaining trigger for the effectiveness of CEA section

2(e).

\43\ In that regard, see generally Business Conduct Standards

for Swap Dealers and Major Swap Participants With Counterparties, 77

FR 9734 (Feb. 17, 2012) (``External Business Conduct Standards Final

Release''). See also Final ECP Definition Release at 30646 n. 585

(noting that ``market participants must make the determination of

ECP status with respect to the parties to transactions in security-

based swaps and mixed swaps prior to the offer to sell or the offer

to buy or purchase the security-based swap or mixed swap''), 30652

(with respect to determining the ECP status of Forex Pools and

referring to the External Business Conduct Standards Final Release),

and 30653 n. 656 (with respect to determining the ECP status of

Forex Pools)

\44\ For example, an entity could demonstrate good-faith

compliance by first seeking, including in connection with the design

of its policies and procedures, additional guidance from counsel or

from Commission staff, which could address questions on a case-by-

case basis with the benefit of specific facts and circumstances.

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One example of a fact pattern that the Commission does not believe

would exhibit good faith compliance would be treating as an ECP an

individual who has total assets, excluding personal property (which the

Commission does not expect to treat as ``assets invested on a

discretionary basis''), that are less than the relevant CEA section

1a(18)(A)(xi) dollar threshold. Conversely, if the individual swap

counterparty could be

[[Page 41264]]

an ECP if the Commission and the SEC further define or interpret some

or all of the individual's assets, other than personal property, to be

``assets invested on a discretionary basis,'' absent other material

factors, the CFTC would not expect to bring an enforcement action

against the counterparty for entering into a swap in contravention of

CEA section 2(e). Of course, once the Commission and the SEC further

define or interpret a counterparty to be a non-ECP, CEA section 2(e)

would prohibit entering into new swaps with such ineligible

counterparties. This compliance guidance does not apply to any aspect

of the ECP definition that was: (1) Not amended by the Dodd-Frank Act;

(2) covered by a regulation promulgated in the Final ECP Definition

Release; or (3) the subject of an interpretation or other guidance set

forth in the Final ECP Definition Release.

Related Matters

A. Paperwork Reduction Act

The Paperwork Reduction Act (``PRA'') \45\ imposes certain

requirements on Federal agencies (including the Commission) in

connection with conducting or sponsoring any collection of information

as defined by the PRA. These amendments to the July 14 Order will not

require a new collection of information from any persons or entities

that will be subject to the final order.

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\45\ 44 U.S.C. 3507(d).

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B. Cost-Benefit Considerations

Section 15(a) of the CEA\46\ requires the Commission to consider

the costs and benefits of its action before issuing an order under the

CEA. CEA section 15(a) further specifies that costs and benefits 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 considers the costs and

benefits resulting from its discretionary determinations with respect

to the section 15(a) factors.

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\46\ 7 U.S.C. 19(a).

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The Commission requested comments on the consideration of costs and

benefits of the proposed amendments discussed in the Notice. One

commenter, the American Bankers Association, stated that the

Commission's consideration of costs and benefits in the July 14 Order

did not take into account the costs that would result if CEA section

2(e) were made effective in the absence of further interpretive or

regulatory guidance from the Commission.\47\ American Bankers

Association states that these costs include the chilling effect on

legitimate hedging activity and reduced credit availability,

particularly for end users. American Bankers Association further stated

that this chilling effect would be compounded by another major concern

of its member banks--whether swaps could potentially be subject to

challenges for invalidity under state laws. According to the American

Bankers Association, a significant benefit of providing temporary

relief under section 2(e) in the manner suggested would be the legal

certainty this would create under state law for swaps that currently

qualify for the line of business provision, and the provision of such

temporary relief would be consistent with the Commission's goal of

striving to ``ensure that current practices will not be unduly

disrupted during the transition to the new regulatory regime,'' and

allow additional time for its member banks to find solutions to their

CEA section 2(e) concerns.\48\

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\47\ American Bankers Association Letter at 4.

\48\ Id.

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As stated above, the rules further defining the term ``ECP'' were

finalized by the Commissions on April 18, 2012. In those rules, the

Commissions considered the costs and benefits of the further

definitions and guidance regarding the same, including the costs and

benefits of legal certainty. Further, the American Bankers Association

comment regarding the costs and benefits of the amendments to CEA

section 2(e) made by the Dodd-Frank Act are beyond the scope of this

final order, which is limited to amending the temporary exemptive

relief first granted by the Commission in the July 14 Order.

Regarding benefits, this final order continues the primary benefit

described in the July 14 Order, which is to facilitate an orderly

transition to the comprehensive regulatory framework for swaps

regulation set out in Title VII of the Dodd-Frank Act. More

specifically, this final order temporarily extends the time market

participants and the public have to comply with certain provisions of

the CEA that reference one or more of the terms to be further defined,

and provides guidance with respect to the same in response to various

comments. Accordingly, as this final order is an amendment to the July

14 Order, the Commission's consideration of costs and benefits, as set

forth in the July 14 Order, may be incorporated here by reference.

Second Amended July 14 Order

The Second Amended July 14 Order shall read as follows:

The Commission, to provide for the orderly implementation of the

requirements of Title VII of the Dodd-Frank Act, pursuant to sections

4(c) and 4c(b) of the CEA and section 712(f) of the Dodd-Frank Act,

hereby issues this Order consistent with the determinations set forth

above, which are incorporated in this final Order, as amended, by

reference, and:

(1) Exempts, subject to the conditions set forth in paragraph (4),

all agreements, contracts, and transactions, and any person or entity

offering, entering into, or rendering advice or rendering other

services with respect to, any such agreement, contract, or transaction,

from the provisions of the CEA, as added or amended by the Dodd-Frank

Act, that reference one or more of the terms regarding instruments

subject to further definition under sections 712(d) and 721(c) of the

Dodd-Frank Act, which provisions are listed in Category 2 of the

Appendix to this Order; provided, however, that the foregoing

exemption:

a. Applies only with respect to those requirements or portions of

such provisions that specifically relate to such referenced terms; and

b. With respect to any such provision of the CEA, shall expire upon

the earlier of: (i) the effective date of the applicable final rule

further defining the relevant term referenced in the provision; or (ii)

December 31, 2012.

(2) Agricultural Commodity Swaps. Exempts, subject to the

conditions set forth in paragraph (4), all agreements, contracts, and

transactions in an agricultural commodity, and any person or entity

offering, entering into, or rendering advice or rendering other

services with respect to, any such agreement, contract, or transaction,

from the provisions of the CEA, if the agreement, contract, or

transaction complies with part 35 of the Commission's regulations as in

effect prior to December 31, 2011, including any agreement, contract,

or transaction that complies with such provisions then in effect

notwithstanding that:

a. The agreement, contract, or transaction may be part of a

fungible class of agreements that are standardized as to their material

economic terms; and/or

b. The creditworthiness of any party having an actual or potential

obligation under the agreement, contract, or transaction would not be a

material

[[Page 41265]]

consideration in entering into or determining the terms of the

agreement, contract, or transaction i.e., the agreement, contract, or

transaction may be cleared.

This exemption shall expire upon the earlier of (i) December 31,

2012; or (ii) such other compliance date as may be determined by the

Commission.

(3) Exempt and Excluded Commodity Swaps. Exempts, subject to the

conditions set forth in paragraph (4), all agreements, contracts, and

transactions, and any person or entity offering, entering into, or

rendering advice or rendering other services with respect to, any such

agreement, contract, or transaction, from the provisions of the CEA, if

the agreement, contract, or transaction complies with part 35 of the

Commission's regulations as in effect prior to December 31, 2011,

including any agreement, contract, or transaction in an exempt or

excluded (but not agricultural) commodity that complies with such

provisions then in effect notwithstanding that:

a. The agreement, contract, or transaction may be executed on a

multilateral transaction execution facility;

b. The agreement, contract, or transaction may be cleared;

c. Persons offering or entering into the agreement, contract or

transaction may not be eligible swap participants, provided that all

parties are eligible contract participants as defined in the CEA prior

to the date of enactment of the Dodd-Frank Act;

d. The agreement, contract, or transaction may be part of a

fungible class of agreements that are standardized as to their material

economic terms; and/or

e. No more than one of the parties to the agreement, contract, or

transaction is entering into the agreement, contract, or transaction in

conjunction with its line of business, but is neither an eligible

contract participant nor an eligible swap participant, and the

agreement, contract, or transaction was not and is not marketed to the

public;

Provided, however, that:

a. Such agreements, contracts, and transactions in exempt or

excluded commodities (and persons offering, entering into, or rendering

advice or rendering other services with respect to, any such agreement,

contract, or transaction) fall within the scope of any of the CEA

sections 2(d), 2(e), 2(g), 2(h), and 5d provisions or the line of

business provision as in effect prior to July 16, 2011; and

b. This exemption shall expire upon the earlier of: (i) December

31, 2012; or (ii) such other compliance date as may be determined by

the Commission; except that, for agreements, contracts, and

transactions executed on an exempt commercial market (``ECM''), exempt

board of trade (``EBOT''), or pursuant to CEA section 2(d)(2) as in

effect prior to July 16, 2011 (``2(d)(2) Market''), this exemption

shall expire upon the earlier of (i) December 31, 2012; or (ii) the

effective date of the designated contract market (``DCM'') or swap

execution facility (``SEF'') final rules, whichever is later, unless

the ECM, EBOT, or 2(d)(2) Market files a DCM or SEF registration

application on or before the effective date of the DCM or SEF final

rules, whichever is later, in which case the relief shall remain in

place during the pendency of the application. For these purposes, an

application will be considered no longer pending when the application

has been approved, provisionally approved, withdrawn, or denied.

(4) Provided that the foregoing exemptions in paragraphs (1), (2),

and (3) above shall not:

a. Limit in any way the Commission's authority with respect to any

person, entity, or transaction pursuant to CEA sections 2(a)(1)(B), 4b,

4o, 6(c), 6(d), 6c, 8(a), 9(a)(2), or 13, or the regulations of the

Commission promulgated pursuant to such authorities, including

regulations pursuant to CEA section 4c(b) proscribing fraud;

b. Apply to any provision of the Dodd-Frank Act or the CEA that

became effective prior to July 16, 2011;

c. Affect any effective or compliance date set forth in any

rulemaking issued by the Commission to implement provisions of the

Dodd-Frank Act;

d. Limit in any way the Commission's authority under section 712(f)

of the Dodd-Frank Act to issue rules, orders, or exemptions prior to

the effective date of any provision of the Dodd-Frank Act and the CEA,

in order to prepare for the effective date of such provision, provided

that such rule, order, or exemption shall not become effective prior to

the effective date of the provision; and

e. Affect the applicability of any provision of the CEA to futures

contracts or options on futures contracts, or to cash markets.

In its discretion, the Commission may condition, suspend, terminate, or

otherwise modify this Order, as appropriate, on its own motion. This

final Order, as amended, shall be effective immediately.

Issued in Washington, DC, on July 3, 2012 by the Commission.

Sauntia S. Warfield,

Assistant Secretary of the Commission.

Note: The following appendix will not be published in the Code

of Federal Regulations.

Appendix 1--Statement of Chairman Gary Gensler

I support the exemptive order regarding the effective dates of

certain Dodd-Frank Wall Street Reform and Consumer Protection Act

(Dodd-Frank Act) provisions.

Today's exemptive order makes five changes to the exemptive

order issued on December 19, 2011.

First, the proposed exemptive order extends the sunset date from

July 16, 2012, to December 31, 2012.

Second, the Commodity Futures Trading Commission (CFTC) and the

Securities and Exchange Commission (SEC) have now completed the rule

further defining the term ``swap dealer'' and ``securities-based

swap dealer.'' Thus, the exemptive order no longer provides relief

as it once did until those terms were further defined.

The Commissions are also mandated by the Dodd-Frank Act to

further define the term ``swap'' and ``securities-based swap.'' The

staffs are making great progress, and I anticipate the Commissions

will take up this final definitions rule in the near term. Until

that rule is finalized, the exemptive order appropriately provides

relief from the effective dates of certain Dodd-Frank provisions.

Third, in advance of the completion of the definitions rule,

market participants requested clarity regarding transacting in

agricultural swaps. The exemptive order allows agricultural swaps

cleared through a derivatives clearing organization or traded on a

designated contract market to be transacted and cleared as any other

swap. This is consistent with the agricultural swaps rule the

Commission already finalized, which allows farmers, ranchers,

packers, processors and other end-users to manage their risk.

Fourth, unregistered trading facilities that offer swaps for

trading were required under Dodd-Frank to register as swap execution

facilities (SEFs) or designated contract markets (DCM) by July of

this year. These facilities include exempt boards of trade, exempt

commercial markets and markets excluded from regulation under

section 2(d)(2). Given the Commission has yet to finalize rules on

SEFs, this order gives these platforms additional time for such a

transition.

Fifth, the Commission is providing guidance regarding

enforcement of rules that require that certain off-exchange swap

transactions only be entered into by eligible contract participants

(ECPs). The guidance provides that if a person takes reasonable

steps to verify that its counterparty is an ECP, but the

counterparty turns out not to be an ECP based on subsequent

Commission guidance, absent other material factors, the

[[Page 41266]]

CFTC will not bring an enforcement action against the person.

[FR Doc. 2012-16987 Filed 7-12-12; 8:45 am]

BILLING CODE 6351-01-P

Last Updated: July 13, 2012