Friday, April 08, 2011

Securities Industry Asks CFTC to Delay Rules on Position Limits for Derivatives

A securities industry trade group has asked the CFTC to delay rules on position limits for derivatives under Dodd-Frank until an appropriateness determination can be made. In a letter to the CFTC, the Securities Industry and Financial Markets Association said that currently there is insufficient evidence to suggest that speculation is affecting commodities markets. Therefore, establishing any position limits may shift trading to foreign boards of trade unless there is coordination between U.S. and foreign regulators on proposed rules. It could also result in decreased liquidity, increased volatility, and higher costs to end users. Similarly, SIFMA posited that there is no evidence to suggest that speculation in the non-spot month affects the commodities markets. If any position limit is imposed, non spot month contracts should be excluded.

SIFMA pointed out that adequate data on the swaps market is not yet available to accurately establish and enforce position limits and will not be for some time. SIFMA agrees with the views expressed by CFTC Commissioner Jill Sommers that sufficient and reliable swaps market data must be collected before the CFTC can reasonably analyze the appropriateness of any position limit formulas to be established

SIFMA also urged the CFTC to grant safe from any position limit regime to diversified, unleveraged funds and accounts that take passive, long-only positions, registered investment companies, and ERISA plans since these entities are subject to regulation and oversight that mitigates any risk of disruptive speculation.
Also, positions held in separately managed accounts of an asset manager should not be aggregated for the purpose of imposing a position limit. SIFMA pointed out that holders of such positions may be a wide array of disparate owners with different investment considerations. At a minimum, if separately owned funds and accounts are required to be aggregated, SIFMA requests that the Commission retain the independent account controller safe harbor for financial as well as non-financial entities.

SIFMA also suggested that the bona fide hedging exemption include economic risk mitigation, as a narrow interpretation runs counter to the mandate that the Commission limit only speculative positions.

Dodd-Frank requires the CFTC to ensure that trading on foreign boards of trade in the same commodity will be subject to comparable limits and that any limits to be imposed by the Commission will not cause price discovery in the commodity to shift to trading on the foreign boards of trade. Noting that Commissioner Sommers said that the proposal fails to even consider or mention this goal, SIFMA said that it appears that foreign regulators either are not currently acting on position limits for commodity derivatives or are significantly behind the Commission’s proposed timeline.

Unless foreign jurisdictions are also coordinated and ready to apply comparable position limits on the same timeline, noted SIFMA, it would run counter to the Dodd-Frank mandate for the Commission to impose position limits at this time. SIFMA shares the concerns expressed by Rep. Scott Garrett (R-NJ), Chair of the Capital Markets Subcommittee, that in order to prevent regulatory arbitrage, concrete assurances are needed in this regard. Without more careful study and policy coordination with foreign jurisdictions, reasoned SIFMA, the imposition of position limits in the US would likely result in moving commodities trading overseas, undermining Dodd-Frank’s directive to the Commission.

SIFMA agrees with Sen. Lincoln that the sound and prudent nature of investing by diversified, unleveraged investment funds and accounts that take passive, long-only positions warrants differential treatment under position limits rules. SIFMA urged the CFTC to consider safe harbor treatment exempting these diversified funds from position limits. The safe harbor should be limited to funds and accounts that are not leveraged

The size of the commodity derivative positions held by diversified funds at any given time is largely determined by individual investors’ movements into or out of the funds. Position fluctuations typically occur in relatively modest percentage changes, rather than in volatile shifts that would prompt the types of concerns that the Commission has associated with concentrated positions.

The diversified funds are distinguishable from the massive passives cited by CFTC Commissioner Chilton as posing price volatility concerns. The massive passives tend to target a particular commodity type, whereas diversified funds provide diversified exposure to commodities as an asset class, often as just a portion of a broadly diversified asset portfolio. As such, they are important long-term sources of liquidity to end-users and. enhance stability and price discovery in commodity swap markets.