By Rodney F. Tonkovic, J.D.
The SEC is proposing an exemption for certain entities in connection with the portfolio margining of swaps and security-based swaps that are credit default swaps. The order would modify and replace an earlier order allowing registered clearing agencies and broker-dealers from compliance with certain Exchange Act provisions so that these entities could offer customers portfolio margining of cleared CDS in a CFTC cleared swaps account. Comments on all aspects of the proposal are due 30 days after publication in the Federal Register (Proposed Order Granting Conditional Exemptions under the Securities Exchange Act of 1934 in Connection with the Portfolio Margining of Swaps and Security-based Swaps that are Credit Default Swaps, Release No. 34-90276, October 28, 2020).
2012 exemption. The proposed exemption supersedes and replaces an order issued in December 2012. Release 34-68433 allows broker-dealer/futures commission merchants (BD/FCMs) and clearing agency/derivative clearing organizations (DCOs) to offer customers portfolio margining of cleared CDS in a CFTC cleared swaps account. The exemptions are subject conditions, such as, a requirement that dually-registered (BD/FCMs) fix minimum CDS portfolio margin amounts using a methodology approved by the SEC. According to the Commission, the conditions are intended to: (1) protect money, securities, and property of security-based swap customers; (2) address certain differences in the statutory requirements of the Exchange Act and the CEA; and (3) promote appropriate risk management and disclosure.
After the 2012 order, the SEC has monitored the BD/FCMs participating in the portfolio margining program and the overall market for cleared credit default swaps. The Commission now believes that it may be appropriate to issue a new portfolio margin order in light of the experienced gained from this monitoring, comment letters received in response to the 2012 order, and in the context of recent rulemaking adopting capital, margin, and segregation requirements for security-based swap dealers.
Proposed modifications to or elimination of conditions. The proposed order is similar to that issued in 2012, but certain conditions would be modified. In particular, the proposed order would eliminate conditions in the 2012 order pertaining to exemptions for clearing agency/DCOs that are triggered on the compliance date for the capital, margin, and segregation rules (October 6, 2021). This set of conditions is intended to give the option to portfolio margin cleared CDS in an SEC securities-based swap account, but the Commission has found that market participants have not expressed a desire to portfolio margin cleared CDS in an SEC SBS account. The Commission seeks comment on whether these conditions should be modified to provide time to, if appropriate, issue a new order in advance of the trigger date.
Next, the 2012 Order requires a customer to affirm that all of its claims with respect to money, securities, or property against the BD/FCM will be subordinated to the claims of other securities customers and security-based swap customers not participating in the CDS portfolio margin program. The Commission proposes to modify this condition to clarify that the scope of the subordination does not extend to the claims of general creditors.
Finally, the proposed order would also eliminate a condition requiring Commission approval of a BD/FCM’s margin methodology and require instead that the BD/FCM have an internal risk management program approved in advance by the Commission or the Commission staff. The internal risk management program would need to have certain standards drawn from the letters the staff of the Division of Trading and Markets previously issued to BD/FCMs approving their margin methodologies. These letters would be withdrawn, but any BD/FCM that received approval of its margin methodology prior to the issuance of the order would be deemed to have an approved internal risk management program.
The release is No. 34-90276.