The comment period for a controversial CFTC rule proposal addressing capital requirements for swap dealers (SDs) and major swap participants (MSP’s) came to a close on May 15, 2017. The commission received over 30 comments reflecting diverse perspectives and representing a cross section of financial firms and institutions, industry associations, end users, public interest groups, law firms, and members of the general public.
The subject rules were again proposed in December, 2016 after the CFTC’s proposal in 2011 stalled as a result of unresolved margin standards for uncleared swaps globally. The rules are proposed as part of the Dodd-Frank market reform legislation enacted in 2010.
While the current proposal reflects a flexible approach by allowing for three alternative methods to determine capital requirements which depend on an SD’s regulatory status, some commentators found the proposed rules overly burdensome while others thought them not stringent enough. The three approaches to determining capital requirements under the proposed rule can be summarized as follows:
- In the event that an SD is a bank affiliate, capital requirements and methods permitted by bank regulators are acceptable;
- If an SD is a broker-dealer or futures commission merchant, that party may look to either the CFTC or SEC for its net liquid assets requirements; and
- SDs that are primarily engaged in non-financial activities, as well as MSPs, may elect minimum capital requirements based upon the tangible net worth of the entity.
The Futures Industry Association (FIA), in its comments, noted that the proposal might adversely impact futures brokerage firms, whether or not they are SDs, by “requiring an FCM to include its proprietary swaps and security-based swaps positions in its calculation of eight percent of risk margin [that] would create an unnecessary and unacceptable financial burden” and that “[t]he proposed rule would most dramatically affect less well-capitalized FCMs that are not also registered as broker-dealers.” The FIA also contended that the proposed rules may have the effect of causing smaller commercial end users such as farmers and ranchers to pay higher fees to engage in swaps to manage their risks.
In contrast, the Americans for Financial Reform (AFR), a public interest group, asserted that the proposed rules were too lenient and expressed concerns that the proposal heavily relies on the use of internal models at covered swap entities and “that the reliance on internal models can permit regulated entities to manipulate risk controls to increase their own profits at the cost of increasing risks to the public.” The AFR also indicated its skepticism with the commission’s approach that permitted loss absorbency based on tangible net worth, as opposed to a more stringent requirement that the capital requirements be met with assets that are actually liquid.
The Edison Electric Institute, an association of electric companies, and National Rural Electric Cooperative Association, a national service organization representing over 900 not-for-profit rural electric utilities, also weighed in jointly on the proposed rules. They warned against continuing to utilize a one-size-fits-all approach to evaluating and assigning risk ratings to uncleared swap positions being measured against such minimum regulatory capital requirements. The parties also urged the commission to allow SDs and MSPs to apply lower risk factors for swaps with commercial end user counterparties.
The CFTC will now consider the proposed rule in light of the comments received.