Giancarlo emphasizes cross-border deference, delves into SEF reforms

By Lene Powell, J.D.

Stressing a need to correct CFTC overreach in cross-border regulation, Chairman J. Christopher Giancarlo announced that he will direct staff to prepare new proposals as soon as possible to adopt a new cross-border framework that is risk-based and offers deference to comparable non-U.S. regulations. In recent remarks to an ABA derivatives committee meeting, Giancarlo also addressed concerns about proposed amendments to rules for swap execution facilities (SEFs) and the trade execution requirement, saying the concerns were valid and would receive thoughtful attention by CFTC staff.

The chairman’s remarks were prepared for delivery on January 25, 2019 to the ABA Business Law Section, Derivatives & Futures Law Committee Winter Meeting.

Cross-border deference. Swaps trading reform has been an ongoing journey since CFTC implementation of the Dodd-Frank reform measures enacted in 2010. In Giancarlo’s view, most of the reforms appear to be working well, but some are creating a “mismatch” between the CFTC’s swaps trading regulatory framework and the distinct liquidity and trading dynamics of the global swaps markets. In 2017, the CFTC reached a landmark comparability determination with the European Commission, but Giancarlo believes that more needs to be done to reduce market fragmentation and improve liquidity.

Four months ago, Giancarlo released a White Paper that proposed updating the agency’s current cross-border application of its swaps regime with a rule-based framework based on regulatory deference to third-country regulatory jurisdictions that have adopted the G-20 swaps reforms. Conversations since the paper’s release have confirmed to the chairman that the CFTC’s current cross-border approach of applying its regulations to “each and every overseas swap transaction by a U.S. Person—whether or not such activity actually has a ‘direct and significant’ impact on the United States—is a flawed and over-expansive assertion of its Dodd-Frank Title VII jurisdiction.” According to Giancarlo, in addition to fragmenting markets and reducing liquidity, this overreach is untenable given the CFTC’s perennially restrained funding.

Therefore, Giancarlo will direct staff to prepare as soon as possible to put through the Administrative Procedure Act process various new cross-border rule proposals addressing various aspects of swaps reform, including the registration and regulation of swaps dealers, major swaps participants, non-U.S. swaps CCPs, and swaps trading venues. The new proposals would replace the cross-border guidance issued by the CFTC in 2013 and the cross-border rules proposed in 2016, as well as address certain positions taken in CFTC staff advisories and no action letters.

SEF reforms. Earlier this month, Giancarlo met with major participants in global swaps markets to discuss the agency’s proposed rule on Amendments to Regulations on Swap Execution Facilities and the Trade Execution Requirement and a Request for Comment regarding the practice of “Post-Trade Name Give-Up.” Many market participants supported certain aspects of the proposal, including making SEF execution methods more flexible, providing for broker proficiency exams, and bringing more cleared swaps products into scope. Many also agreed that the current framework, built upon various no action relief, staff guidance, and temporary regulatory forbearance, is unsustainable over the long term.

However, market participants criticized several elements of the proposal, including:

• The process and timing of bringing new products into scope via the Made Available to Trade (MATT) process. Giancarlo would be interested to consider comment letters that suggest minimum conditions (such as listing on multiple SEFs) with adequate time for SEF connectivity and onboarding before any new mandatorily cleared swaps become mandatorily SEF traded.
• Proposed restrictions on off-SEF, pre-trade communications. Giancarlo said the intent was not to disintermediate essential client relationships and communications between buy-side and sell-side market participants in current non-MATT products, and would consider comments addressing whether platform pre-trade communications need to be prohibited.
• Overly simplified revisions to the standards for “impartial access.” Giancarlo is interested in comments on whether the revisions to “impartial access” would benefit from minimum standards for SEF membership criteria that are consistent with a SEF’s right to establish such criteria under Dodd-Frank.
• How the proposal dovetails with reforming the current cross-border rule implementation. Here, Giancarlo noted that the proposal applies only to CFTC-regulated SEFs and said he does not expect the SEF proposal to have any impact on SEF-registration exemptions for EU trading venues consistent with the 2017 agreement reached with the European Commission on trading venue equivalence.
• Various technical standards and provisions like error trade policy and financial resources. 

Despite the areas of difference, Giancarlo said he does not intend to “walk away” from the proposal, as reported in a recent Wall Street Journal article. He plans to seek extensions of the comment periods until March 15 to allow more time for comment, especially given the recent shutdown. The time to shore up the swaps regulatory foundation is now, while markets are robust, not later when they may be under stress, said Giancarlo, adding that better rules would reduce risk, foster innovation, increase the chance that the SEC will draw on the framework for their security-based swaps regime, and enhance U.S. markets as mechanisms for price discovery and risk mitigation.

To get there, however, Giancarlo may have to overcome objections from Commissioner Dan Berkovitz, who recently strongly criticized aspects of the proposal, particularly the “exclusionary access” provision and effective repeal of method-of-execution rules that require request-for-quote (RFQ) and order book trading systems. Berkowitz has proposed his own measures to improve competition and increase liquidity in the swap markets.