2010-29006

FR Doc 2010-29006[Federal Register: November 23, 2010 (Volume 75, Number 225)]

[Proposed Rules]

[Page 71391-71397]

From the Federal Register Online via GPO Access [wais.access.gpo.gov]

[DOCID:fr23no10-18]

[[Page 71391]]

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Part 23

RIN 3038-AC96

Implementation of Conflicts of Interest Policies and Procedures

by 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 rules to implement new statutory provisions enacted by

Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection

Act (Dodd-Frank Act). The proposed regulations establish conflicts of

interest requirements for swap dealers (SDs) and major swap

participants (MSPs) for the purpose of ensuring that such persons

implement adequate policies and procedures in compliance with the

Commodity Exchange Act (CEA), as amended by the Dodd-Frank Act.

DATES: Comments must be received on or before January 24, 2011.

ADDRESSES: You may submit comments, identified by RIN number 3038-AC96

and SD-MSP Conflicts of Interest, 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 you believe is exempt from disclosure under the

Freedom of Information Act, a petition for confidential treatment of

the exempt information may be submitted according to the procedures

established in CFTC Regulation 145.9, 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 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, Division of Clearing and Intermediary Oversight, (202) 418-

5684, sjosephson@cftc.gov, or Ward P. Griffin, Counsel, Office of

General Counsel, (202) 418-5425, wgriffin@cftc.gov, 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 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 rulemaking and enforcement

authorities of the Commission 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.

\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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This proposed rulemaking relates to the conflicts of interest

provisions set forth in section 731 of the Dodd-Frank Act. Section 731

of the Dodd-Frank Act, in relevant part, adds a new section 4s(j)(5) to

the CEA to direct each SD and MSP to implement conflicts of interest

systems and procedures that establish safeguards within the firm to

ensure that any persons researching or analyzing the price or market

for any commodity or swap are separated by ``appropriate informational

partitions'' within the firm from review, pressure, or oversight of

persons whose involvement in pricing, trading or clearing activities

might potentially bias the judgment or supervision of the persons.

Section 731 also requires additional partitions between persons

``acting in a role of providing clearing activities or making

determinations as to accepting clearing customers'' from persons

involved in pricing, trading or clearing activities. Section 731

emphasizes that pricing, trading and clearing activities should comply

with open access and business conduct standards set forth elsewhere in

the Act, and mandates that the required conflicts of interest systems

and procedures ``address such other issues as the Commission determines

to be appropriate.''

Section 754 of the Dodd-Frank Act establishes that ``[u]nless

otherwise provided in this title, the provisions of this subtitle shall

take effect on the later of 360 days after the date of the enactment of

this subtitle or, to the extent a provision of this subtitle requires a

rulemaking, not less than 60 days after publication of the final rule

or regulation implementing such provision of this subtitle.''

Consequently, the Commission will seek to promulgate rules--by July 15,

2011--implementing the conflicts of interest provisions of section 731

of the Dodd-Frank Act.

Accordingly, pursuant to authority granted under sections

4s(h)(1)(D), 4s(h)(3)(D), 4s(j)(7), and 8a(5) of the CEA, as amended by

the Dodd-Frank Act, the Commission is proposing to adopt Rule 23.605 to

address potential conflicts of interest in the preparation and release

of research reports by SDs and MSPs; the establishment of ``appropriate

informational partitions'' within such firms; and potential conflicts

of interest that may arise concerning whether to accept customers for

clearing. The proposed rule also will address other issues, such as

enhanced disclosure requirements, in order to minimize the potential

that conflicts of interest will arise within SDs and MSPs.

The proposed rules 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 rules incorporate elements of the comments provided.

The Commission requests comment on all aspects of the proposed

rules, as

[[Page 71392]]

well as comment on the specific provisions and issues highlighted in

the discussion below.

II. Proposed Regulations

A. Conflicts of Interest in Research or Analysis

Section 731 of the Dodd-Frank Act requires, in relevant part, that

SDs and MSPs ``establish structural and institutional safeguards to

ensure that the activities of any person within the firm relating to

research or analysis of the price or market for any commodity or swap *

* * are separated by appropriate informational partitions within the

firm from the review, pressure, or oversight of persons whose

involvement in pricing, trading, or clearing activities might

potentially bias their judgment or supervision.''

Much of the relevant language in section 731 of the Dodd-Frank Act

is similar to certain language contained in section 501(a) of the

Sarbanes-Oxley Act of 2002,\4\ which amended the Securities Exchange

Act of 1934 by creating a new section 15D. In relevant part, section

15D(a) mandates that the Securities and Exchange Commission, or a

registered securities association or national securities exchange,

adopt ``rules reasonably designed to address conflicts of interest that

can arise when securities analysts recommend equity securities in

research reports and public appearances, in order to improve the

objectivity of research and provide investors with more useful and

reliable information, including rules designed * * * to establish

structural and institutional safeguards within registered brokers or

dealers to assure that securities analysts are separated by appropriate

informational partitions within the firm from the review, pressure, or

oversight of those whose involvement in investment banking activities

might potentially bias their judgment or supervision * * *.''

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\4\ Public Law 107-204, 116 Stat. 745 (2002) (codified at 15

U.S.C. 78o-6).

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Unlike section 15D of the Securities Exchange Act of 1934, section

731 of the Dodd-Frank Act does not expressly limit the requirement for

informational partitions to only those persons who are responsible for

the preparation of the substance of research reports; rather, section

731 could be read to require informational partitions between persons

involved in pricing, trading or clearing activities and any person

within a SD or MSP who engages in ``research or analysis of the price

or market for any commodity or swap,'' whether or not such research or

analysis is to be made part of a research report that may be publicly

disseminated.

However, the Commission believes that an untenable outcome could

result from implementing informational partitions between persons

involved in pricing, trading or clearing activities and all persons who

may be engaged in ``research or analysis of the price or market for any

commodity or swap,'' given that persons involved in pricing, trading or

clearing activities are routinely--or even primarily--engaged in

``research or analysis of the price or market for'' commodities or

swaps. Sound pricing, trading and/or clearing activities necessarily

require some form of pre-decisional research or analysis of the facts

supporting such determinations.

Therefore, given the untenable alternative, the proposed rules

reflect the Commission's belief that the Congressional intent

underlying section 731 with respect to ``research and analysis of the

price or market of any commodity or swap'' is primarily intended to

prevent undue influence by persons involved in pricing, trading or

clearing activities over the substance of research reports that may be

publicly disseminated, and to prevent pre-public dissemination of any

material information in the possession of a person engaged in research

and analysis, or of the research reports, to traders.

Many elements of the proposed rule, particularly those provisions

relating to potential conflicts of interest surrounding research and

analysis, have been adapted from National Association of Securities

Dealers (NASD) Rule 2711. To construct the ``structural and

institutional safeguards'' mandated by Congress under section 731 of

the Dodd-Frank Act, the proposed rule establishes specific restrictions

on the interaction and communications between persons within a SD or

MSP involved in research or analysis of the price or market for any

derivative and persons involved in pricing, trading or clearing

activities. The proposed rules also impose duties and constraints on

persons involved in the research or analysis of the price or market for

any derivative.\5\ For instance, such persons will be required to

disclose conspicuously during public appearances any relevant personal

financial interests relating to any derivative of a type that the

person follows. SDs and MSPs similarly will be obligated to make

certain disclosures clearly and prominently in research reports,

including third-party research reports that are distributed or made

available by the SD or MSP. Further, SDs and MSPs, as well as employees

involved in pricing, trading or clearing activities, will be prohibited

from retaliating against any person involved in the research or

analysis of the price or market for any derivative who produces, in

good faith, a research report that adversely impacts the current or

prospective pricing, trading or clearing activities of the SD or MSP.

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\5\ Use of the term ``derivative'' is based upon the products

listed in the definitions of futures commission merchant and

introducing broker in sections 1a(28) and 1a(29) of the CEA.

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To address the possibility that the proposed rules could be evaded

by employing research analysts in an affiliate of a SD or MSP, the

proposed rules also will restrict communications with research analysts

employed by an affiliate. An affiliate will be defined as an entity

controlling, controlled by, or under common control with, a SD or MSP.

Moreover, the exceptions to the definition of ``research report'' are

designed to address issues typically found in smaller firms where

individuals in the trading unit perform their own research to advise

their clients or potential clients. These exceptions do not in any way

impact or lessen the restrictions placed on firms that prepare research

reports and release them for public consumption. Any attempt by such

firms to move research personnel into a trading unit to attempt to

avail themselves of the exception will result in insufficient

``structural and institutional safeguards'' and will be a violation of

Section 731 of the Dodd-Frank Act and these Regulations.

B. Conflicts of Interest of Swap Dealers and Major Swap Participants in

Clearing Activities

Section 4s(j)(5), as established by section 731 of the Dodd-Frank

Act, requires SDs and MSPs to implement conflicts of interest systems

and procedures that ``establish structural and institutional safeguards

to ensure that the activities of any person within the firm * * *

acting in a role of providing clearing activities or making

determinations as to accepting clearing customers are separated by

appropriate informational partitions within the firm from the review,

pressure, or oversight of persons whose involvement in pricing,

trading, or clearing activities might potentially bias their judgment

or supervision and contravene the core principles of open access and

the business conduct standards described in this Act.''

The Commission interprets the conflicts of interest provision under

section 4s(j)(5) to require informational

[[Page 71393]]

partitions between (1) persons making clearing determinations and (2)

persons involved in pricing and trading swaps (i.e., risk-taking

units). This interpretation would protect against potential bias or

interference in relation to ``providing clearing activities.'' The

provision of clearing activities includes, but is not limited to, acts

relating to (i) Whether to offer clearing services and activities to

customers; (ii) whether to accept a particular customer for the

purposes of clearing derivatives; (iii) whether to submit a transaction

to a particular derivatives clearing organization; (iv) setting risk

tolerance levels for particular customers; (v) determining acceptable

forms of collateral from particular customers; or (vi) setting fees for

clearing services. However, the proposed rules are not intended to

hinder the execution of sound risk management programs by SDs or MSPs,

or by any affiliate of a SD or MSP.

To prevent anti-competitive discrimination in providing access to

central clearing, the Commission proposes rules that will subject SDs

and MSPs to restrictions that prevent risk-taking units from

interfering with decisions by any affiliated clearing member of a

derivatives clearing organization regarding whether to accept a client

for clearing services. Under the proposed restrictions, all such

decisions regarding the acceptance of customers for clearing should be

made in accordance with publicly disclosed, objective, written

criteria. Risk-taking units (i.e., those persons involved in pricing

and trading swaps) would also be prevented from interfering with the

provision of clearing activities.

An affiliate will be defined as an entity controlling, controlled

by, or under common control with, a SD or MSP. Under the term

``affiliate,'' in any situation where a person is dually registered as

a SD or MSP, and as a futures commission merchant (FCM), the

restrictions on clearing activities set forth in the proposed

regulations are intended to apply to the relationship between the

business trading unit of the SD or MSP and the clearing unit of the

FCM, even though the business trading unit and clearing unit reside

within the same entity.

C. Other Issues

In addition to mandating the establishment of ``appropriate

informational partitions'' within SDs and MSPs that focus on the

activities of persons involved in the ``research or analysis of the

price or market for any commodity or swap,'' section 731 of the Dodd-

Frank Act also requires SDs and MSPs to ``implement conflict-of-

interest systems and procedures that * * * address such other issues as

the Commission determines to be appropriate.'' Having considered the

potential conflicts of interest that may arise in a SD or MSP, the

Commission is proposing rules that will address the potential for undue

influence on customers. The intended cumulative effect of the proposed

rules is to fulfill Congress's objective that SDs and MSPs construct

``structural and institutional safeguards'' to minimize the potential

conflicts of interest that could arise within such firms.

The Commission recognizes the potential development of a complex

web of incentives and relationships surrounding SDs and MSPs,

particularly with respect to such questions as: (1) Whether to enter

into a cleared or uncleared trade, (2) whether to refer a counterparty

to a particular futures commission merchant for clearing, or (3)

whether to send a cleared trade to a particular derivatives clearing

organization. To address this issue, the Commission is proposing to

require that each SD and MSP implement policies and procedures

mandating the disclosure to its customers of any material incentives or

any material conflicts of interest it has that relate to a customer's

decision on the execution or clearing of a transaction. Such

disclosures will enable customers to make fully-informed business

decisions, thereby minimizing the potential influence of any incentives

or conflicts of SDs and MSPs.

III. Related Matters

A. Regulatory Flexibility Act

The Regulatory Flexibility Act (RFA) \6\ requires that agencies, in

proposing rules, consider the impact of those rules on small

businesses. The Commission previously has established certain

definitions of ``small entities'' to be used by the Commission in

evaluating the impact of its rules on such entities in accordance with

the RFA.\7\ The proposed rules would affect SDs and MSPs.

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\6\ 5 U.S.C. 601-611.

\7\ 47 FR 18618, Apr. 30, 1982.

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SDs and MSPs are new categories of Commission registrants.

Accordingly, the Commission has not addressed previously the question

of whether such persons are, in fact, small entities for the purposes

of the RFA. However, the Commission previously has determined that

futures commission merchants, an existing category of registrants, are

not small entities for the purposes of the RFA. The Commission's

determination was based, in part, upon the obligation of futures

commission merchants to meet minimum financial requirements established

by the Commission to enhance the protection of customers' segregated

funds and protect the financial condition of FCMs generally.\8\ Like

FCMs, SDs will be subject to minimum capital and margin requirements.

SDs are expected to comprise the largest global financial firms, and

the Commission is required to exempt from designation entities that

engage in a de minimis level of swaps dealing in connection with

transactions with or on behalf of customers. Accordingly, for purposes

of the RFA for this rulemaking, the Commission is hereby proposing that

SDs not be considered small entities for essentially the same reasons

that FCMs previously have been determined not to be small entities and

in light of the exemption from the definition of SD for those engaging

in a de minimis level of swap dealing. The Commission anticipates that

this exemption would tend to exclude small entities from registration.

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\8\ Id. at 18619.

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The Commission also has previously determined that large traders

are not small entities for RFA purposes.\9\ In that determination, the

Commission considered that a large trading position was indicative of

the size of the business. MSPs, 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 MSPs not be

considered small entities for the same reasons that large traders have

previously been determined not to be small entities.

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\9\ Id. at 18620.

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The Commission is carrying out Congressional mandates by proposing

this regulation. Specifically, the Commission is proposing these rules

to comply with the Dodd-Frank Act, the aim of which is to reduce the

systemic risks presented by SDs and MSPs 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. Therefore, the Chairman, on behalf of the

Commission, hereby certifies, pursuant to 5 U.S.C. 605(b), that these

proposed rules will not have a significant economic impact

[[Page 71394]]

on a substantial number of small entities.

B. Paperwork Reduction Act

The Paperwork Reduction Act of 1995 (PRA) \10\ imposes certain

requirements on Federal agencies in connection with their conducting or

sponsoring any collection of information as defined by the PRA. Certain

provisions of 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 ``Conflicts of Interest Policies and Procedures by Swap Dealers and

Major Swap Participants.'' The OMB has not yet assigned this collection

a control number. 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.

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\10\ 44 U.S.C. 3501 et seq.

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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 SDs and

MSPs develop and maintain the required conflicts of interest systems

and procedures. The Commission's staff would use the information

collected when conducting examination and oversight to evaluate the

completeness and effectiveness of the conflicts of interest procedures

and disclosures of SDs and MSPs.

If the proposed regulations are adopted, responses to this new

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.\11\

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\11\ 5 U.S.C. 552a.

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1. Information Provided by Reporting Entities/Persons

The proposed rules will require SDs and MSPs to adopt conflicts of

interest policies and procedures that may impose PRA burdens,

particularly through the implementation of certain recordkeeping

requirements. For purposes of the PRA, the term ``burden'' means the

``time, effort, or financial resources expended by persons to generate,

maintain, or provide information to or for a Federal agency.'' \12\

This burden will result from the recordkeeping obligations related to a

SD and MSP's obligations to adopt and implement written policies and

procedures reasonably designed to ensure compliance with the proposed

regulation, document certain communications between non-research

personnel and research department personnel, record the basis upon

which a research analyst's compensation was determined, and provide

certain disclosures. The burden relates solely to recordkeeping

requirements; the proposed regulation does not contain any reporting

requirements.

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\12\ 44 U.S.C. 3502(2).

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The burden for compliance per respondent is expected to be 44.5

hours and $4,450. This estimate includes the time needed to review

applicable laws and regulations; develop and update conflicts of

interest policies and procedures and to maintain records of certain

communications and disclosures periodically required by the proposed

regulation. The Commission does not expect respondents to incur any

start-up costs in connection with this proposed regulation as it

anticipates that respondents already maintain personnel and systems for

regulatory recordkeeping.

It is not currently known how many SDs and MSPs will become subject

to these rules, and this will not be known to the Commission until

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 that there may likely be approximately

200 SDs and 50 MSPs, it has taken a conservative approach, for PRA

purposes, in estimating that there will be a combined number of 300 SDs

and MSPs who will be required to establish and implement conflicts of

interest policies and procedures under the proposed rules. The

Commission estimated the number of affected entities based on industry

data.

According to the Bureau of Labor Statistics, the mean hourly wage

of an employee under occupation code 13-1041, ``Compliance Officers,

Except Agriculture, Construction, Health and Safety, and

Transportation,'' that is employed by the ``Securities and Commodity

Contracts Intermediation and Brokerage'' industry is $38.77.\13\

Because SDs and MSPs include large financial institutions whose

compliance 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. Accordingly, the estimated burden

was calculated as follows:

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\13\ http://www.bls.gov/oes/current/oes131041.htm.

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Recordkeeping Related to Maintenance of Conflicts of Interest Policies

and Procedures

Number of registrants: 300.

Average number of annual responses by each registrant: 1.

Estimated average hours per response: 2.

Frequency of collection: Annually.

Aggregate annual burden: 300 registrants x 1 response x 2 hours =

600 burden hours

Recordkeeping Related to Communications Between Certain Personnel

Number of registrants: 300.

Average number of annual responses by each registrant: 20.

Estimated average hours per response: 0.5.

Frequency of collection: As needed.

Aggregate annual burden: 300 registrants x 20 responses x 0.5 hours

= 3,000 burden hours.

Recordkeeping Related to Disclosure Requirements

Number of registrants: 300.

Average number of annual responses by each registrant: 65.

Estimated average hours per response: 0.5.

Frequency of collection: As needed.

Aggregate annual burden: 300 registrants x 65 responses x 0.5 hours

= 9,750 burden hours.

Based upon the above, the aggregate cost for all registrants is

13,350 burden hours and $1,335,000 [13,350 burden hours x $100 per

hour].

2. Information Collection Comments

The Commission invites the public and other federal agencies to

comment on any aspect of the recordkeeping burdens discussed above.

Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission solicits comments

in order to: (i) Evaluate whether the proposed

[[Page 71395]]

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

OIRAsubmissions@omb.eop.gov. 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

http://www.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. Consequently, a comment to

OMB is most assured of being fully effective if received by OMB (and

the Commission) within 30 days after publication.

C. Cost-Benefit Analysis

Section 15(a) of the CEA\14\ requires the Commission to consider

the costs and benefits of its actions before issuing a rulemaking under

the Act. By its terms, section 15(a) does not require the Commission to

quantify the costs and benefits of the rule or to determine whether the

benefits of the rulemaking outweigh its costs; rather, it requires that

the Commission ``consider'' the costs and benefits of its actions.

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\14\ 7 U.S.C. 19(a).

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Section 15(a) further specifies that the 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 areas and could, in its discretion, determine that,

notwithstanding its costs, a particular rule is necessary or

appropriate to protect the public interest or to effectuate any of the

provisions or accomplish any of the purposes of the Act.

1. Summary of Proposed Requirements

The proposed regulations would implement certain provisions of

section 731 of the Dodd-Frank Act, which adds a new section 4s(j)(5) to

the CEA\15\ to direct each SD and MSP to implement conflicts of

interest systems and procedures that establish safeguards within the

firm to ensure that any persons researching or analyzing the price or

market for any commodity or swap, and any persons acting in a role of

providing clearing activities or making determinations as to accepting

clearing customers, are separated by ``appropriate informational

partitions'' within the firm from review, pressure, or oversight of

persons whose involvement in pricing, trading or clearing activities

might potentially bias the judgment or supervision of the persons. Such

conflicts of interest systems and procedures also must address any

other issues that the Commission determines to be appropriate.

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\15\ To be codified at 7 U.S.C. 6s(j)(5).

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2. Costs

With respect to costs, the Commission has determined that costs to

SDs and MSPs would be minimal because the anticipated implementation of

the proposed rules would require little additional resources beyond

internal organizational changes to prevent compliance violations.

3. Benefits

With respect to benefits, the Commission has determined that formal

conflicts of interest rules will enhance transparency, bolster

confidence in markets, reduce risk and allow regulators to better

monitor and manage risks to our financial system.

4. Public Comment

The Commission invites public comment on its cost-benefit

considerations. Commenters also are invited to submit any data or other

information that they may have quantifying or qualifying the costs and

benefits of the proposed regulations with their comment letters.

List of Subjects in 17 CFR Part 23

Antitrust, Brokers, Commodity futures, Conduct standards, Conflicts

of interest, Major swap participants, Reporting and recordkeeping

requirements, Swap dealers, Swaps.

For the reasons stated in this release, the Commission proposes to

amend 17 CFR part 23 (as proposed in a separate proposed rule published

elsewhere in this issue of the Federal Register) as follows:

PART 23--SWAP DEALERS AND MAJOR SWAP PARTICIPANTS

1. The authority citation for part 23 continues 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. Section 23.605 is added in its entirety as follows:

Sec. 23.605 Implementation of conflicts of interest policies and

procedures

(a) Definitions. For purposes of this section, the following terms

shall be defined as provided.

(1) Affiliate. This term means, with respect to any person, a

person controlling, controlled by, or under common control with, such

person.

(2) Business trading unit. This term means any department,

division, group, or personnel of a swap dealer or major swap

participant or any of its affiliates, whether or not identified as

such, that performs or is involved in any pricing, trading, sales,

marketing, advertising, solicitation, structuring, or brokerage

activities on behalf of a swap dealer or major swap participant.

(3) Clearing unit. This term means any department, division, group,

or personnel of a swap dealer or major swap participant or any of its

affiliates, whether or not identified as such, that performs or is

involved in any proprietary or customer clearing activities on behalf

of a swap dealer or major swap participant.

(4) Derivative. This term means:

(i) A contract for the purchase or sale of a commodity for future

delivery;

(ii) A security futures product;

(iii) A swap;

(iv) Any agreement, contract, or transaction described in section

2(c)(2)(C)(i) or section 2(c)(2)(D)(i) of the Act;

(v) Any commodity option authorized under section 4c of the Act;

and (vi) any leverage transaction authorized under section 19 of the

Act.

(5) Non-research personnel. This term means any employee of the

business trading unit or clearing unit, or any other employee of the

swap dealer or

[[Page 71396]]

major swap participant who is not directly responsible for, or

otherwise involved with, research concerning a derivative, other than

legal or compliance personnel.

(6) Public appearance. This term means any participation in a

conference call, seminar, forum (including an interactive electronic

forum) or other public speaking activity before 15 or more persons, or

interview or appearance before one or more representatives of the

media, radio, television or print media, or the writing of a print

media article, in which a research analyst makes a recommendation or

offers an opinion concerning a derivatives transaction. This term does

not include a password-protected Webcast, conference call or similar

event with 15 or more existing customers, provided that all of the

event participants previously received the most current research report

or other documentation that contains the required applicable

disclosures, and that the research analyst appearing at the event

corrects and updates during the public appearance any disclosures in

the research report that are inaccurate, misleading, or no longer

applicable.

(7) Research analyst. This term means the employee of a swap dealer

or major swap participant who is primarily responsible for, and any

employee who reports directly or indirectly to such research analyst in

connection with, preparation of the substance of a research report

relating to any derivative, whether or not any such person has the job

title of ``research analyst.''

(8) Research department. This term means any department or division

that is principally responsible for preparing the substance of a

research report relating to any derivative on behalf of a swap dealer

or major swap participant, including a department or division contained

in an affiliate of a swap dealer or major swap participant.

(9) Research report. This term means any written communication

(including electronic) that includes an analysis of the price or market

for any derivative, and that provides information reasonably sufficient

upon which to base a decision to enter into a derivatives transaction.

This term does not include:

(i) Communications distributed to fewer than 15 persons;

(ii) Periodic reports or other communications prepared for

investment company shareholders or commodity pool participants that

discuss individual derivatives positions in the context of a fund's

past performance or the basis for previously-made discretionary

decisions;

(iii) Any communication generated by an employee of the business

trading unit that is conveyed as a solicitation for entering into a

derivatives transaction, and is conspicuously identified as such; and

(iv) Internal communications that are not given to current or

prospective customers.

(b) Policies and Procedures. Each swap dealer and major swap

participant subject to this rule must adopt and implement written

policies and procedures reasonably designed to ensure that the swap

dealer or major swap participant and its employees comply with the

provisions of this rule.

(c) Research Analysts and Research Reports. (1) Restrictions on

Relationship with Research Department. (i) Non-research personnel shall

not influence the content of a research report of the swap dealer or

major swap participant.

(ii) No research analyst may be subject to the supervision or

control of any employee of the swap dealer's or major swap

participant's business trading unit or clearing unit, and no personnel

engaged in pricing, trading or clearing activities may have any

influence or control over the evaluation or compensation of a research

analyst.

(iii) Except as provided in paragraph (c)(1)(iv) of this section,

non-research personnel, other than the board of directors and any

committee thereof, shall not review or approve a research report of the

swap dealer or major swap participant before its publication.

(iv) Non-research personnel may review a research report before its

publication as necessary only to verify the factual accuracy of

information in the research report, to provide for non-substantive

editing, to format the layout or style of the research report, or to

identify any potential conflicts of interest, provided that:

(A) Any written communication between non-research personnel and

research department personnel concerning the content of a research

report must be made either through authorized legal or compliance

personnel of the swap dealer or major swap participant or in a

transmission copied to such personnel; and

(B) Any oral communication between non-research personnel and

research department personnel concerning the content of a research

report must be documented and made either through authorized legal or

compliance personnel acting as an intermediary or in a conversation

conducted in the presence of such personnel.

(2) Restrictions on Communications. Any written or oral

communication by a research analyst to a current or prospective

counterparty, or to any employee of the swap dealer or major swap

participant, relating to any derivative must not omit any material fact

or qualification that would cause the communication to be misleading to

a reasonable person.

(3) Restrictions on Research Analyst Compensation. A swap dealer or

major swap participant may not consider as a factor in reviewing or

approving a research analyst's compensation his or her contributions to

the swap dealer's or major swap participant's trading or clearing

business. No employee of the business trading unit or clearing unit of

the swap dealer or major swap participant may influence the review or

approval of a research analyst's compensation.

(4) Prohibition of Promise of Favorable Research. No swap dealer or

major swap participant may directly or indirectly offer favorable

research, or threaten to change research, to an existing or prospective

counterparty as consideration or inducement for the receipt of business

or compensation.

(5) Disclosure Requirements. (i) Ownership and Material Conflicts

of Interest. A swap dealer or major swap participant must disclose in

research reports and a research analyst must disclose in public

appearances:

(A) Whether the research analyst maintains, from time to time, a

financial interest in any derivative of a type that the research

analyst follows, and the general nature of the financial interest; and

(B) any other actual, material conflicts of interest of the

research analyst or swap dealer or major swap participant of which the

research analyst has knowledge at the time of publication of the

research report or at the time of the public appearance.

(ii) Prominence of Disclosure. Disclosures and references to

disclosures must be clear, comprehensive, and prominent. With respect

to public appearances by research analysts, the disclosures required by

paragraph (c)(5) of this section must be conspicuous.

(iii) Records of Public Appearances. Each swap dealer and major

swap participant must maintain records of public appearances by

research analysts sufficient to demonstrate compliance by those

research analysts with the applicable disclosure requirements under

paragraph (c)(5) of this section.

(iv) Third-Party Research Reports.

(A) For the purposes of paragraph (c)(5)(iv) of this section,

``independent

[[Page 71397]]

third-party research report'' shall mean a research report, in respect

of which the person or entity producing the report:

(1) Has no affiliation or business or contractual relationship with

the distributing swap dealer or major swap participant, or that swap

dealer's or major swap participant's affiliates, that is reasonably

likely to inform the content of its research reports; and

(2) makes content determinations without any input from the

distributing swap dealer or major swap participant or that swap

dealer's or major swap participant's affiliates.

(B) Subject to paragraph (c)(5)(iv)(C) of this section, if a swap

dealer or major swap participant distributes or makes available any

independent third-party research report, the swap dealer or major swap

participant must accompany the research report with, or provide a Web

address that directs the recipient to, the current applicable

disclosures, as they pertain to the swap dealer or major swap

participant, required by this section. Each swap dealer and major swap

participant must establish written policies and procedures reasonably

designed to ensure the completeness and accuracy of all applicable

disclosures.

(C) The requirements of paragraph (c)(5)(iv)(B) of this section

shall not apply to independent third-party research reports made

available by a swap dealer or major swap participant to its customers:

(1) Upon request; or

(2) through a Web site maintained by the swap dealer or major swap

participant.

(6) Prohibition of Retaliation Against Research Analysts. No swap

dealer or major swap participant, and no employee of a swap dealer or

major swap participant who is involved with the swap dealer's or major

swap participant's pricing, trading or clearing activities, may,

directly or indirectly, retaliate against or threaten to retaliate

against any research analyst employed by the swap dealer or major swap

participant or its affiliates as a result of an adverse, negative, or

otherwise unfavorable research report or public appearance written or

made, in good faith, by the research analyst that may adversely affect

the swap dealer's or major swap participant's present or prospective

pricing, trading or clearing activities.

(d) Clearing activities. (1) No swap dealer or major swap

participant shall directly or indirectly interfere with or attempt to

influence the decision of any affiliated clearing member of a

derivatives clearing organization with regard to the provision of

clearing services and activities, including but not limited to:

(i) Whether to offer clearing services and activities to customers;

(ii) Whether to accept a particular customer for the purposes of

clearing derivatives;

(iii) Whether to submit a transaction to a particular derivatives

clearing organization;

(iv) Setting risk tolerance levels for particular customers;

(v) Determining acceptable forms of collateral from particular

customers; or

(vi) Setting fees for clearing services.

(2) Each swap dealer and major swap participant shall create and

maintain an appropriate informational partition, as specified in

section 4s(j)(5)(A) of the Act, between business trading units of the

swap dealer or major swap participant and clearing member personnel of

any affiliated clearing member of a derivatives clearing organization.

At a minimum, such informational partitions shall require that no

employee of a business trading unit of a swap dealer or major swap

participant shall supervise, control, or influence any employee of a

clearing member of a derivatives clearing organization.

(e) Undue Influence on Counterparties. Each swap dealer and major

swap participant must adopt and implement written policies and

procedures that mandate the disclosure to its counterparties of any

material incentives and any material conflicts of interest regarding

the decision of a counterparty:

(1) Whether to execute a derivative on a swap execution facility or

designated contract market, or

(2) Whether to clear a derivative through a derivatives clearing

organization.

(f) All records that a swap dealer or major swap participant is

required to maintain pursuant to this regulation shall be maintained in

accordance with 17 CFR 1.31 and shall be made available promptly upon

request to representatives of the Commission and to representatives of

the applicable prudential regulator, as defined in 7 U.S.C. 1a(39).

Issued in Washington, DC, on November 10, 2010, by the

Commission.

David A. Stawick,

Secretary of the Commission.

Statement of Chairman Gary Gensler

Implementation of Conflicts of Interest Policies and Procedures by Swap

Dealers and Major Swap Participants

I support the proposed rulemakings that establish firewalls to

ensure a separation between the research arm, the trading arm and

the clearing activities of swap dealers, major swap participants,

futures commission merchants and introducing brokers. This rule

proposal relates to the conflicts-of-interest provisions of the

Dodd-Frank Act that direct swap dealers and major swap participants

to have appropriate informational partitions. The proposal builds

upon similar protections in the securities markets as mandated in

the Sarbanes-Oxley Act. The proposed rules will protect market

participants and the public while also promoting the financial

integrity of the marketplace.

[FR Doc. 2010-29006 Filed 11-22-10; 8:45 am]

BILLING CODE 6351-01-P

Last Updated: November 23, 2010