Conformed to Federal Register version

Agency decision

Ask Donna

What actually matters in this document.

Text

SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 201 and 240

[Release No. 34-84858; File No. S7-14-15]

RIN 3235-AL76

Applications by Security-Based Swap Dealers or Major Security-Based Swap Participants

for Statutorily Disqualified Associated Persons to Effect or be Involved in Effecting

Security-Based Swaps

AGENCY: Securities and Exchange Commission.

ACTION: Final rule.

SUMMARY: Pursuant to Section 15F(b)(6) of the Securities Exchange Act of 1934

(“Exchange Act”), as added by Section 764(a) of Title VII of the Dodd-Frank Wall Street

Reform and Consumer Protection Act (“Dodd-Frank Act”), the Securities and Exchange

Commission (“Commission”) is adopting Rule of Practice 194. Rule of Practice 194 provides a

process for a registered security-based swap dealer or major security-based swap participant

(collectively, “SBS Entity”) to make an application to the Commission for an order permitting an

associated person that is a natural person who is subject to a statutory disqualification to effect or

be involved in effecting security-based swaps on behalf of the SBS Entity. Rule of Practice 194

also provides an exclusion for an SBS Entity from the prohibition in Exchange Act Section

15F(b)(6) with respect to associated persons that are not natural persons. Finally, Rule of

Practice 194 provides that, subject to certain conditions, an SBS Entity may permit an associated

person that is a natural person who is subject to a statutory disqualification to effect or be

involved in effecting security-based swaps on its behalf, without making an application pursuant

to the rule, where the Commission, the Commodity Futures Trading Commission (“CFTC”), a

self-regulatory organization (“SRO”), or a registered futures association has granted a prior

application or otherwise granted relief from the statutory disqualification with respect to that

associated person.

DATES: Effective April 22, 2019.

FOR FURTHER INFORMATION CONTACT: Natasha Vij Greiner, Assistant Chief

Counsel, Devin Ryan, Senior Special Counsel, and Edward Schellhorn, Special Counsel at 202551-5550, Division of Trading and Markets, Securities and Exchange Commission, 100 F Street,

NE, Washington, DC 20549-7010.

SUPPLEMENTARY INFORMATION:

TABLE OF CONTENTS

BACKGROUND

II.

SUMMARY OF FINAL RULE OF PRACTICE 194

III.

DISCUSSION

A. Rule of Practice 194(a) – Scope of the Rule

B. Rule of Practice 194(b) – Required Showing

C. Rule of Practice 194(c) – Exclusion for Other Persons

D. Rule of Practice 194(d) – Form of Application

E. Rule of Practice 194(e) – Written Statement

F. Rule of Practice 194(f) – Prior Applications or Processes

G. Rule of Practice 194(g) – Notification to Applicant and Written Statement

H. Rule of Practice 194(h) – Notice in Lieu of an Application

I. Note to Rule of Practice 194

J. Confidentiality of Materials

K. Deleting Rule 15Fb6-1 and Schedule C to Forms SBSE, SBSE-A and SBSE-BD

-2-

L. Compliance Date

IV.

PAPERWORK REDUCTION ACT

A. Summary of Collection of Information

B. Proposed Use of Information

C. Respondents

D. Total Burden Estimates Relating to Rule of Practice 194

E. Confidentiality

ECONOMIC ANALYSIS

A. Broad Economic Considerations

B. Economic Baseline

1. Security-Based Swap Market Activity and Participants

2. Natural Persons and Entity Persons Associated with SBS Entities

3. Other Markets and Existing Regulatory Frameworks

4. Data on Parallel Review Processes and Statutory Disqualification

5. Requests for Relief from Statutory Disqualification under Rule of Practice 194

C. Benefits, Costs, and Effects on Efficiency, Competition, and Capital Formation

1. Costs and Benefits of Rule of Practice 194

2. Effects on Efficiency, Competition, and Capital Formation

D. Rule Alternatives

1. Temporary Exclusions

2. Relief for Non-Investment-Related Offenses

3. No Relief for CFTC, SRO, or Registered Futures Association Review

4. No Relief for Associated Person Entities from Exchange Act Section 15F(b)(6)

5. Form of Applications to be Submitted: Time Period

6. Public Availability of Applications and Supporting Materials

-3-

VI.

REGULATORY FLEXIBILITY ACT CERTIFICATION

A. Regulatory Framework

B. Assessment of Impact

C. Certification

VII. STATUTORY AUTHORITY

TEXT OF THE RULE

BACKGROUND

Exchange Act Section 15F(b)(6), as added by Section 764(a) of the Dodd-Frank Act,

makes it unlawful for an SBS Entity to permit an associated person1 who is subject to a statutory

disqualification2 to effect or be involved in effecting security-based swaps on behalf of the SBS

Entity if the SBS Entity knew, or in the exercise of reasonable care should have known, of the

statutory disqualification, “[e]xcept to the extent otherwise specifically provided by rule,

Exchange Act Section 3(a)(70) generally defines the term “person associated with” an

SBS Entity to include (i) any partner, officer, director, or branch manager of an SBS

Entity (or any person occupying a similar status or performing similar functions); (ii) any

person directly or indirectly controlling, controlled by, or under common control with an

SBS Entity; or (iii) any employee of an SBS Entity. See 15 U.S.C. 78c(a)(70). The

definition generally excludes persons whose functions are solely clerical or ministerial.

Id. The definition of “person” under Exchange Act Section 3(a)(9) is not limited to

natural persons, but extends to both entities and natural persons. See 15 U.S.C. 78c(a)(9)

(“The term ‘person’ means a natural person, company, government, or political

subdivision, agent, or instrumentality of a government.”).

The term statutory disqualification as used in Exchange Act Section 15F(b)(6) parallels

the definition of statutory disqualification in Exchange Act Section 3(a)(39)(A) through

(F), 15 U.S.C. 78c(a)(39)(A) through (F). See Applications by Security-Based Swap

Dealers or Major Security-Based Swap Participants for Statutorily Disqualified

Associated Persons To Effect or Be Involved in Effecting Security-Based Swaps,

Exchange Act Release No. 75612 (Aug. 5, 2015), 80 FR 51684, 51686, n.16 (Aug. 25,

2015) (“Proposing Release” or “proposal”).

-4-

regulation, or order of the Commission.”3 In this regard, Exchange Act Section 15F(b)(6) gives

the Commission the discretion to determine, by order, that a statutorily disqualified associated

person may effect or be involved in effecting security-based swaps on behalf of an SBS Entity,

and/or to establish rules concerning the statutory prohibition in Exchange Act Section

15F(b)(6).4

On August 5, 2015,5 the Commission proposed Rule of Practice 194 to establish a

Exchange Act Section 15F(b)(6) provides: “Except to the extent otherwise specifically

provided by rule, regulation, or order of the Commission, it shall be unlawful for a

security-based swap dealer or a major security-based swap participant to permit any

person associated with a security-based swap dealer or a major security-based swap

participant who is subject to a statutory disqualification to effect or be involved in

effecting security-based swaps on behalf of the security-based swap dealer or major

security-based swap participant, if the security-based swap dealer or major security-based

swap participant knew, or in the exercise of reasonable care should have known, of the

statutory disqualification.” 15 U.S.C. 78o-10(b)(6). The statutory prohibition in

Exchange Act Section 15F(b)(6), 15 U.S.C. 78o-10(b)(6), is parallel to a statutory

provision for a swap dealer or major swap participant (collectively “Swap Entities”) set

forth in Section 4s(b)(6) of the Commodity Exchange Act (“CEA”), 7 U.S.C. 6s(b)(6).

On June 15, 2011, the Commission issued an order that, among other things, granted

temporary relief from compliance with Exchange Act Section 15F(b)(6) for persons

subject to a statutory disqualification who were, as of July 16, 2011, associated with an

SBS Entity and who effected or were involved in effecting security-based swaps on

behalf of such SBS Entity and allowed such persons to continue to be associated with an

SBS Entity until the date upon which rules adopted by the Commission to register SBS

Entities became effective. See Temporary Exemptions and Other Temporary Relief,

Together With Information on Compliance Dates for New Provisions of the Securities

Exchange Act of 1934 Applicable to Security-Based Swaps, Exchange Act Release No.

64678 (June 15, 2011), 76 FR 36287, 36301, 36305-07 (June 22, 2011) (“June 2011

Temporary Exemptions Order”). See also Order Extending Certain Temporary

Exemptions and a Temporary and Limited Exception Related to Security-Based Swaps,

Exchange Act Release No. 75919 (Sept. 15, 2015), 80 FR 56519 (Sept. 18, 2015)

(extending the June 2011 Temporary Exemptions Order).

Concurrent with the issuance of the Rule of Practice 194 proposal, the Commission

adopted registration requirements for SBS Entities, including certain rules relating to the

statutory prohibition in Exchange Act Section 15F(b)(6). See Registration Process for

Security-Based Swap Dealers and Major Security-Based Swap Participants, Exchange

Act Release No. 75611 (Aug. 5, 2015), 80 FR 48964 (Aug. 14, 2015) (“Registration

-5-

process by which an SBS Entity could apply to the Commission to permit an associated person

who is subject to a statutory disqualification to effect or be involved in effecting security-based

swaps on behalf of the SBS Entity.6 As discussed in the Commission’s proposal,7 the federal

securities laws provide various procedural avenues that allow certain registered entities to

associate, where warranted, with persons subject to a statutory disqualification or other bar,

including the Commission’s Rule of Practice 1938 and the Financial Industry Regulatory

Adopting Release”). See also 17 CFR 240.15Fb6-1 (providing that an SBS Entity, when

it files an application to register with the Commission, may permit an associated person

that is not a natural person who is subject to a statutory disqualification to effect or be

involved in effecting security-based swaps on the SBS Entity’s behalf, provided that the

statutory disqualification(s) occurred prior to the compliance date set forth in the

Registration Adopting Release and that the SBS Entity identifies each such associated

person on its registration form); 17 CFR 240.15Fb6-2 (requiring a Chief Compliance

Officer of an SBS Entity to certify that it has performed background checks on all of its

associated persons that are natural persons who effect or are involved in effecting

security-based swaps on its behalf, and neither knows, nor in the exercise of reasonable

care should have known, that any of its associated persons that effect or are involved in

effecting security-based swaps on its behalf are subject to a statutory disqualification,

unless otherwise specifically provided by rule, regulation, or order of the Commission).

As discussed in Section III.K below, the Commission is making a technical amendment

that deletes Rule 15Fb6-1 as well as Schedule C to Forms SBSE, SBSE-A and SBSEBD and also conforms the instructions in those forms to take into account the associated

person entity exclusion that the Commission is adopting in final Rule of Practice 194(c).

See Proposing Release, 80 FR 51684-722.

See id. at 51687-89.

17 CFR 201.193. Rule of Practice 193 provides a process by which individuals that are

associated with entities that are not regulated by an SRO (e.g., employees of an

investment adviser, an investment company, or a transfer agent) can seek to reenter the

securities industry despite previously being barred by the Commission. See Registration

of Security-Based Swap Dealers and Major Security-Based Swap Participants, Exchange

Act Release No. 65543 (Oct. 12, 2011), 76 FR 65784, 65797 (Oct. 24, 2011)

(“Registration Proposing Release”). See also Applications by Barred Individuals for

Consent to Associate With a Registered Broker, Dealer, Municipal Securities Dealer,

Investment Adviser or Investment Company, Exchange Act Release No. 20783,

Investment Company Act Release No. 13839, Investment Advisers Act Release No. 903,

49 FR 12204 (Mar. 29, 1984).

-6-

Authority’s (“FINRA”) eligibility proceedings (under the process set forth in Exchange Act Rule

19h-1).9 The Commission modeled proposed Rule of Practice 194 on these existing processes

where persons can make an application to reenter the industry despite previously being barred by

the Commission or subject to a statutory disqualification with respect to membership or

participation in, or association with a member of, an SRO.10 Accordingly, the Commission

proposed to establish a procedural framework that is similar to processes that are familiar to

market participants.11

17 CFR 240.19h-1. The FINRA Rule 9520 Series sets forth procedures for a person to

become or remain associated with a member, notwithstanding the existence of a statutory

disqualification, and for a current member or person associated with a member to obtain

relief from the eligibility or qualification requirements of the FINRA By-Laws and rules.

A member (or new member applicant) seeking to associate with a natural person subject

to a statutory disqualification must seek approval from FINRA by filing a Form MC-400

application. See FINRA Form MC-400, Membership Continuance Application,

http://www.finra.org/web/groups/industry/@ip/@enf/@adj/documents/industry/p011542.

pdf. Members (and new member applicants) that are themselves subject to a

disqualification that wish to obtain relief from the eligibility requirements are required to

submit a Form MC-400A application. See FINRA Form MC-400A, Membership

Continuance Application: Member Firm Disqualification Application,

http://www.finra.org/web/groups/industry/@ip/@enf/@adj/documents/industry/p013339.

pdf. Where required, FINRA sends a notice or notification to the Commission of its

proposal to admit or continue the membership of a person or association with a member

notwithstanding statutory disqualification in accordance with Exchange Act Rule 19h-1.

“Self-regulatory organization” is defined in Section 3(a)(26) of the Exchange Act, 15

U.S.C. 78c(a)(26), as “any national securities exchange, registered securities association,

or registered clearing agency, or (solely for the purposes of sections 19(b), 19(c) and

23(b) of [the Exchange Act]) the Municipal Securities Rulemaking Board established by

section 15B of this title.”

In the proposal, the Commission also discussed, for example, the CFTC’s approach with

respect to the statutory prohibition for swap dealers or major swap participants

(collectively “Swap Entity”) as set forth in CEA Section 4s(b)(6), 7 U.S.C. 6s(b)(6). See

Proposing Release, 80 FR at 51688-89. The CFTC, with respect to statutorily

disqualified associated persons of Swap Entities, limits the definition of associated

persons of Swap Entities to natural persons. See 17 CFR 1.3(aa). As a result, the

prohibition in CEA Section 4s(b)(6), 7 U.S.C. 6s(b)(6), applies to natural persons (not

entities) associated with a Swap Entity. For further discussion on the CFTC’s approach

-7-

The Commission requested comment on all aspects of the proposal as well as two

alternative approaches,12 and received comments in response.13

II.

SUMMARY OF FINAL RULE OF PRACTICE 194

The Commission is adopting Rule of Practice 194 largely as proposed, with certain

modifications.14 As adopted, Rule of Practice 194 provides a process by which an SBS Entity

may apply to the Commission for an order permitting an associated person to effect or be

involved in effecting security-based swaps on behalf of the SBS Entity where the associated

person that is a natural person who is subject to a statutory disqualification and is thereby

otherwise prohibited from effecting or being involved in effecting security-based swaps on

behalf of an SBS Entity under Exchange Act Section 15F(b)(6). Rule of Practice 194 also

provides an exclusion for an SBS Entity from the prohibition in Exchange Act Section 15F(b)(6)

with respect to associated persons that are not natural persons (defined herein as “associated

person entities”).

In particular, as explained more fully in Section III below, the Commission is adopting

the following provisions in Rule of Practice 194:

•

Paragraph (a) of Rule of Practice 194, which defines the scope of the rule and provides a

process for submitting applications by an SBS Entity seeking an order of the Commission

to Swap Entities, see Section II.B.3 of the Proposing Release, 80 FR at 51688-89.

See Proposing Release, 80 FR at 51701-05.

These comment letters are available at: https://www.sec.gov/comments/s7-1415/s71415.shtml.

If any of the provisions of these amendments, or the application thereof to any person or

circumstance, is held to be invalid, such invalidity shall not affect other provisions or

application of such provisions to other persons or circumstances that can be given effect

without the invalid provision or application.

-8-

to permit an associated person who is subject to a statutory disqualification to effect or be

involved in effecting security-based swaps on behalf of the SBS Entity.

•

Paragraph (b) of Rule of Practice 194, which specifies the required showing for an

application. For the Commission to issue an order granting relief under Rule of Practice

194, an SBS Entity is required to make a showing that it would be consistent with the

public interest to permit the associated person to effect or be involved in effecting

security-based swaps on behalf of the SBS Entity, notwithstanding the statutory

disqualification.

•

Paragraph (c) of Rule of Practice 194, which establishes an exclusion from the general

prohibition in Exchange Act Section 15F(b)(6) with respect to all associated person

entities.15

•

Paragraphs (d) and (e) of Rule of Practice 194, which specify the form of the application

with respect to an associated person that is a natural person and the items to be addressed

in the written statement within the application.

•

Paragraph (f) of Rule of Practice 194, which requires an applicant to provide as part of

any application any order, notice or other applicable document reflecting the grant, denial

or other disposition (including any dispositions on appeal) of any prior application

concerning the associated person under Rule of Practice 194 and other similar processes.

•

Paragraph (g) of Rule of Practice 194, which provides for notice to the applicant in cases

In conjunction with adopting in Rule of Practice 194(c), the Commission is also making

technical amendments to: (1) delete Exchange Act Rule 15Fb6-1; (2) remove Schedule C

to Forms SBSE, SBSE-A and SBSE-BD; and (3) remove all references to Schedule C in

the instructions in the above-mentioned forms. See Section III.K, infra, for a further

discussion of the technical amendments.

-9-

where the Commission staff anticipates making an adverse recommendation to the

Commission with respect to an application made pursuant to this rule. In such cases, the

applicant will be provided with a written statement of the reasons for the Commission

staff’s preliminary recommendation, and the applicant will have 30 days to submit a

written statement in response.

•

Paragraph (h) to Rule of Practice 194, which provides that, where certain conditions are

met, an SBS Entity does not need to file an application under Rule of Practice 194 to

permit a statutorily disqualified associated person to effect or be involved in effecting

security-based swaps on behalf of the SBS Entity. Specifically, paragraph (h) of Rule of

Practice 194 allows an SBS Entity, subject to certain conditions, to permit a statutorily

disqualified associated person to effect or be involved in effecting security-based swaps

on behalf of the SBS Entity without making an application to the Commission, where the

Commission, CFTC, an SRO (e.g., FINRA) or a national securities exchange), or a

registered futures association (e.g., the National Futures Association (“NFA”)) has

granted a prior application or otherwise granted relief from a statutory disqualification

with respect to that associated person. In such cases where an SBS Entity meets the

requirements of paragraph (h), the SBS Entity will be permitted to file a notice with the

Commission (in lieu of an application).

III.

DISCUSSION

Rule of Practice 194(a) – Scope of the Rule

Proposed Rule of Practice 194 would have defined the scope of the rule, namely

providing a process for an SBS Entity to seek relief from the Commission to permit an associated

person who is subject to a statutory disqualification to effect or be involved in effecting security- 10 -

based swaps on behalf of the SBS Entity or to seek relief to change the terms and conditions of a

previously issued Commission order pursuant to Rule of Practice 194.16 The Commission

proposed to allow an SBS Entity to voluntarily submit an application to the Commission to

request an order where an associated person of an SBS Entity is subject to a statutory

disqualification and consequently prohibited from effecting or being involved in effecting

security-based swaps on behalf of the SBS Entity under Exchange Act Section 15F(b)(6).17

Although no commenters specifically commented on this provision of proposed Rule of

Practice 194, the Commission received general comments regarding the scope of the rule as

proposed.18

A commenter suggested that rather than permit SBS Entities to voluntarily submit an

application to the Commission to request an order providing relief from Exchange Act Section

15F(b)(6), the Commission should instead reaffirm what the commenter viewed as the

Congressional mandate by issuing a rule that prohibits, on a blanket basis, associated persons

that are subject to a statutory disqualification from effecting or being involved in effecting

security-based swaps on behalf of SBS Entities.19

Section 15F(b)(6) of the Exchange Act provides that, except where otherwise specifically

provided by rule, regulation, or order of the Commission, it shall be unlawful for an SBS Entity

See Proposing Release, 80 FR at 51689, 51719; proposed Rule of Practice 194(a).

15 U.S.C. 78o-10(b)(6); see proposed Rule of Practice 194(a).

See Letter from Americans for Financial Reform, dated October 26, 2015 (“Americans

for Financial Reform Letter”), at 1. See also Letter from Robert E. Rutkowski, dated

October 27, 2015 (“Rutkowski Letter”). The Rutkowski Letter requested only that the

Commission seriously consider the recommendations set forth in the Americans for

Financial Reform Letter.

Letter from Bartlett Naylor, Public Citizen, dated October 26, 2015 (“Public Citizen

Letter”), at 1-2.

- 11 -

to permit any person associated with the SBS Entity who is subject to a statutory disqualification

to effect or be involved in effecting security-based swaps on behalf of the SBS Entity, if the SBS

Entity knew, or in the exercise or reasonable care should have known, of the statutory

disqualification.20 Thus, while Exchange Act Section 15F(b)(6) makes it unlawful for an SBS

Entity to permit an associated person who is subject to a statutory disqualification to effect or be

involved in effecting security-based swaps on behalf of the SBS Entity, it also gives the

Commission the discretion to determine (by rule, regulation, or order) that a statutorily

disqualified associated person may effect or be involved in effecting security-based swaps on

behalf of an SBS Entity.21 The Commission has determined to exercise its statutory authority

under Exchange Act Section 15F(b)(6) to assess on a case-by-case basis whether to grant relief

from the statutory prohibition because there may be instances where it is consistent with the

public interest to permit an associated person who is subject to a statutory disqualification to

effect or be involved in effecting security-based swaps on behalf of the SBS Entity.

Additionally, the commenter’s approach22 would deviate from the Commission’s current practice

in other contexts, which permits associated persons to apply to reenter the securities industry

notwithstanding the existence of a statutory disqualification.23 In that respect, adopting the

commenter’s approach could lead to the anomalous result where an applicant may be permitted

to engage in securities transactions with members of the retail public—for example, as an

associated person of a broker-dealer or investment adviser—but prohibited from effecting or

See Note 3, supra.

15 U.S.C. 78o-10(b)(6).

See Public Citizen Letter, at 1-2.

See, e.g., 17 CFR 240.19h-1; 17 CFR 201.193. See also Section I and Notes 8, 9, supra.

- 12 -

being involved in effecting security-based swap transactions with significantly more

sophisticated institutional clients as an associated person of an SBS Entity.24 Although we

acknowledge that security-based swaps may also be more complex and opaque than equities or

bonds, thus increasing information asymmetries between SBS Entities and their clients, we

believe that institutional clients may be more informed and may process disclosures more

efficiently than retail investors in parallel settings.

The Commission also believes that a process for granting relief with respect to a statutory

disqualification should be formalized, as suggested by one commenter.25 Exchange Act Section

15F(b)(6) provides the Commission with discretion to determine whether a statutorily

disqualified associated person may effect or be involved in effecting security-based swaps on

behalf of an SBS Entity. However, it does not specify what information should be provided to

the Commission when an SBS Entity seeks relief, nor does it set forth the standard under which

the Commission would evaluate requests for relief. Rule of Practice 194 specifies the

information and documents that SBS Entities should provide to the Commission, as well as the

applicable procedures and standard of review, for seeking relief from the statutory prohibition in

Exchange Act Section 15F(b)(6). By articulating the materials to be submitted, the items to be

considered, and the standard of review, Rule of Practice 194 provides a clear process for SBS

See Proposing Release, 80 FR at 51698.

See Americans for Financial Reform Letter, at 1. The commenter noted that without

proposed Rule of Practice 194, SBS Entities would still be able to apply to the

Commission for relief from the prohibition in Exchange Act Section 15F(b)(6); however,

the commenter supported the Commission’s efforts to formalize a process for seeking

relief from the statutory prohibition of Exchange Act Section 15F(b)(6) to increase

accountability and transparency into the application process.

- 13 -

Entities.26 Therefore, the Commission is adopting paragraph (a) of Rule of Practice 194, which

defines the scope of the rule, as proposed.

Rule of Practice 194(b) – Required Showing

Proposed Rule of Practice 194 provided that the applicant would be required to show that

it would be consistent with the public interest to permit the associated person of the SBS Entity

who is subject to a statutory disqualification to effect or be involved in effecting security-based

swaps on behalf of the SBS Entity.27

The Commission received one comment concerning the required showing set forth in the

proposal. The commenter stated that, in assessing whether it is in the public interest to permit an

associated person who is subject to a statutory disqualification to effect or be involved in

effecting security-based swaps on behalf of an SBS Entity, the Commission should also consider

whether the deterrent effect of disqualification would be diluted.28 Specifically, the commenter

stated that, to be granted relief, the SBS Entity should be required to show that granting relief

“would actually enhance the deterrent effect.”29

In assessing whether it is consistent with the public interest to permit an associated

person that is a natural person who is subject to a statutory disqualification to effect or be

involved in effecting security-based swaps on behalf of an SBS Entity, the Commission may

See Proposing Release, 80 FR at 51712.

See id. at 51689, 51719; proposed Rule of Practice 194(b). See Exchange Act Section

3(a)(39)(A) through (F), 15 U.S.C. 78c(a)(39)(A) through (F), for a description of

statutorily disqualifying events. See also Note 2, supra.

Public Citizen Letter, at 1, 4.

Id. at 4. The commenter additionally stated that the entity requesting the waiver should

be required to prove that “the implicit deterrence impact of disqualification is not diluted”

by receiving a waiver from penalties resulting from criminal misbehavior. Id. at 1.

- 14 -

consider deterrence, among other factors.30 However, the Commission does not agree with the

commenter that the “applicant should be required to show that an exemption would actually

enhance the deterrent effect”31 or that any petitioner for an exemption from disqualification

should have to prove that the implicit deterrence impact of disqualification is not diluted by

receiving a waiver from penalties from criminal misbehavior.32 Either standard could preclude

the Commission from granting relief even where the public interest otherwise warrants doing

so—i.e., raising deterrence above all other public interest considerations. Moreover, it is not

clear that any applicant could meet either standard proposed by the commenter. The

Commission does believe, however, consistent with the proposal,33 that the applicant should bear

the burden of showing that permitting the associated person to effect or be involved in effecting

security-based swaps on behalf of the SBS Entity is consistent with the public interest.

The Commission believes that the public interest standard is appropriate and consistent

with Section 15F(b)(6) of the Exchange Act34 and is adopting the standard as proposed.

Exchange Act Section 15F(b)(6) is designed to limit the potential that associated persons who

have engaged in certain types of “bad acts” will be able to negatively affect the security-based

swap market and the participants in that market by prohibiting an SBS Entity from allowing a

In this regard, the Commission noted in the Proposing Release that statutory

disqualification and an inability to continue associating with SBS Entities may create a

disincentive against underlying misconduct for associated persons. See Proposing

Release, 80 FR at 51689, 51716-17.

Public Citizen Letter, at 4.

See id. at 1. Non-criminal conduct also may result in a statutory disqualification. See 15

U.S.C. 78c(a)(39).

See Proposing Release, 80 FR at 51689.

A public interest standard also is consistent with the standard in Rule of Practice 193.

See 17 CFR 201.193(c).

- 15 -

statutorily disqualified associated person to effect or be involved in effecting security-based

swap transactions, absent Commission relief. However, Section 15F(b)(6) also specifically

provides that the Commission can allow SBS Entities to permit such statutorily disqualified

associated persons to effect or be involved in effecting security-based swap transactions. The

public interest standard is intended to capture those situations where the risk of the associated

person engaging in security-based swap activity that may harm the market or the participants in

the market is mitigated. Thus, as stated in the proposal, the Commission believes that it may

grant relief in cases where the terms or conditions of association and the procedures proposed for

supervision of the statutorily disqualified associated person are reasonably designed to mitigate

the potential harm to the market or participants in the market.35

The Commission also notes that the items set forth in the proposal36 and adopted in final

Rule of Practice 194(e), such as other misconduct in which the associated person may have

engaged, the nature of the conduct that resulted in the statutory disqualification and disciplinary

history of the associated person and SBS Entity requesting such relief, and the supervision to be

accorded the associated person, would be relevant to the Commission’s consideration of whether

the risks of permitting such associated persons that are natural persons to effect or be involved in

effecting security-based swaps on behalf of the SBS Entity are sufficiently mitigated. Therefore,

the Commission is adopting paragraph (b) of Rule of Practice 194 as proposed.37

See Proposing Release, 80 FR at 51689.

See id. at 51691-93, 51719-20; proposed Rule of Practice 194(d).

Where the Commission determines that it would be consistent with the public interest to

permit the associated person that is a natural person of the SBS Entity to effect or be

involved in effecting security-based swaps on behalf of the SBS Entity, the Commission

will issue an order granting relief. Where the Commission does not or cannot make the

determination that it is in the public interest to permit the associated person that is a

- 16 -

Rule of Practice 194(c) – Exclusion for Other Persons

The Commission is adopting Rule of Practice 194(c), which provides an exclusion for an

SBS Entity from the prohibition in Exchange Act Section 15F(b)(6) with respect to associated

person entities.

Proposed Rule of Practice 194(i) would have provided temporary relief, subject to certain

conditions,38 from the statutory prohibition in Exchange Act Section 15F(b)(6) with respect to

associated person entities that are subject to a statutory disqualification.39 The Commission

proposed paragraph (i) of Rule of Practice 194 to address the situation where an operating SBS

Entity becomes subject to the statutory prohibition in Exchange Act Section 15F(b)(6) with

respect to an associated person that is not a natural person—either as a result of an associated

person that effects or is involved in effecting security-based swaps on behalf of the SBS Entity

becoming subject to a statutory disqualification, or as a result of a person who is subject to a

natural person of the SBS Entity to effect or be involved in effecting security-based

swaps on behalf of the SBS Entity, the Commission will issue an order denying the

application. See Proposing Release, 80 FR at 51694.

The Commission proposed two general limitations on the applicability of the temporary

exclusion, namely that the temporary exclusion would not be available where: (1) the

Commission has otherwise ordered—for example, where the Commission, by order, has

censured, placed limitations on the activities or functions of the associated person, or

suspended or barred such person from being associated with an SBS Entity; and (2)

where the Commission, CFTC, an SRO or a registered futures association has previously

denied membership, association, registration or listing as a principal with respect to the

associated person that is the subject of the pending application. See id. at 51697. As

discussed below, since the Commission is adopting the alternative that was set forth in

the proposal, these limitations are no longer included in the rule. However, as discussed

below, the Commission maintains its existing statutory authority to institute proceedings

or bring an action against any associated person entities, and nothing in this provision

affects the ability of the Commission, the CFTC, an SRO or the NFA to deny

membership, association, registration or listing as a principal with respect to any

associated person entity.

See Proposing Release, 80 FR at 51694-98, 51721; proposed Rule of Practice 194(i).

- 17 -

statutory disqualification becoming an associated person effecting or involved in effecting

security-based swaps on behalf of the SBS Entity.40

The Commission also solicited comment on two alternative approaches with respect to

the temporary exclusion, as proposed, including one alternative that would provide relief from

the general prohibition in Exchange Act Section 15F(b)(6) with respect to all associated person

entities.41 More specifically, the Commission requested comment on whether the Commission

should instead provide an exclusion to permit an SBS Entity to allow associated person entities

subject to a statutory disqualification to effect or be involved in effecting security-based swaps

on behalf of SBS Entities.42 The Commission received two comments on this alternative, both of

which stated that the Commission should not provide an exclusion to permit associated person

entities that are subject to a statutory disqualification to effect or be involved in effecting

security-based swaps on behalf of SBS Entities. 43

One commenter stated that adopting a temporary exclusion, as proposed, would be

inconsistent with the language and Congressional intent of Exchange Act Section 15F(b)(6).44

The commenter believes that the temporary exclusion provision addresses “industry-focused

concerns” and would expose investors and markets to disruptive effects from unscrupulous

See, e.g., Proposing Release, 80 FR at 51694.

See id. at 51697–98. The other alternative proposed by the Commission related to the

ultimate disposition of an application to the extent the Commission does not act within a

specified time period. See id. at 51697.

See id. at 51697-98, 51716. In addition, the Commission also provided an economic

analysis on this proposed alternative. See id. at 51716.

See Letter from Dennis M. Kelleher & Stephen W. Hall, Better Markets, Inc., dated

October 26, 2015 (“Better Markets Letter”), at 5; Americans for Financial Reform Letter,

at 3.

See Better Markets Letter, at 5.

- 18 -

conduct by associated person entities subject to a statutory disqualification.45 The commenter

also believes that in the event that an associated person entity is prohibited from effecting or

being involved in effecting security-based swaps on behalf of an SBS Entity, other market

participants may fill the void with minimal disruption, or the SBS Entity may adopt measures to

mitigate any negative impacts as a result of the statutory prohibition.46

A second commenter provided similar objections to the temporary exclusion.47 The

commenter stated that disruption to an SBS Entity’s business is not a sufficient justification for

providing a temporary exclusion with respect to an associated person entity who is subject to a

statutory disqualification. The commenter further stated that any statutory disqualification that

may require an SBS Entity to move services (such as advisory, booking, cash or collateral

management services) to another entity is not a “market-moving event,” and would not justify

the adoption of a temporary exclusion with respect to associated person entities. The

commenter, however, acknowledged that there may be limited cases where an immediate change

in a service provider would cause significant disruptions. But, rather than provide an automatic

temporary exclusion, as proposed, the commenter suggested, as an alternative, that the

Commission could in those limited cases grant a temporary exclusion of up to 30 days where

doing so is appropriate and necessary.48

The Commission received a related comment in response to a request for comment in

connection with the proposed requirements for an SBS Entity to register with the Commission,

Id.

See id.

See Americans for Financial Reform Letter, at 3.

See id.

- 19 -

which solicited comment on whether the Commission should consider excepting associated

person entities from the statutory prohibition in Exchange Act Section 15F(b)(6).49 The

commenter stated that, based on the Commission’s definition of the phrase “involved in

effecting,” SBS Entities could have hundreds, if not thousands, of associated natural persons who

will effect or will be involved in effecting security-based swaps.50 Moreover, the commenter

stated that the definition of “associated person” could be read to extend not just to natural

persons, but also to non-natural persons (e.g., entities) that are affiliates of SBS Entities.51 As a

result, the commenter stated, prohibiting statutorily disqualified entities from effecting or being

involved in effecting security-based swaps could result in “considerable” business disruptions

and other ramifications.52 To address these concerns, the commenter stated that the Commission

should narrow the scope of the associated persons considered to be effecting or involved in

In connection with proposing requirements for an SBS Entity to register with the

Commission, the Commission solicited comment on potentially developing an alternative

process, in accordance with Exchange Act Section 15F(b)(6), to establish exceptions to

the statutory prohibition in Exchange Act Section 15F(b)(6). See Registration Proposing

Release, 76 FR at 65797 (Question 90).

See Letter from Kenneth E. Bentsen, Jr., Securities Industry and Financial Markets

Association, dated December 16, 2011 (“12/16/2011 SIFMA Letter”), at 8, available at

https://www.sec.gov/comments/s7-40-11/s74011-4.pdf. The Commission has stated that

the term “involved in effecting security-based swaps” generally means engaged in

functions necessary to facilitate the SBS Entity’s security-based swap business,

including, but not limited to the following activities: (1) drafting and negotiating master

agreements and confirmations; (2) recommending security-based swap transactions to

counterparties; (3) being involved in executing security-based swap transactions on a

trading desk; (4) pricing security-based swap positions; (5) managing collateral for the

SBS Entity; and (6) directly supervising persons engaged in the activities described in

items (1) through (5) above. See Proposing Release, 80 FR at 51686, n.19 (citing the

Registration Adopting Release, at Section II.B.1.ii.).

See 12/16/2011 SIFMA Letter.

See id. The commenter did not provide supporting data to quantify the number of

associated persons or the magnitude of any potential business disruptions.

- 20 -

effecting security-based swaps, or, alternatively, exercise its statutory authority to grant

exceptions to the general ban on an SBS Entity from associating with a person subject to a

statutory disqualification.53

The Commission believes that adopting a rule providing for an exclusion for associated

person entities is consistent with Exchange Act Section 15F(b)(6), which explicitly permits the

Commission to establish exceptions to that statutory prohibition by “rule, regulation, or order.”54

In discussing the exclusion alternative, the Commission noted that it would take into

consideration the extent to which this alternative approach would minimize potential disruptions

to the business of SBS Entities that could lead to possible market disruption and how this

approach would impact counterparty and investor protection.55 We discuss each of those

considerations below.

The Commission believes that granting an automatic exclusion for associated person

entities could reduce potential disruptions to the business of SBS Entities that could lead to

market disruption. The scope of the prohibition in Section 15F(b)(6) of the Exchange Act covers

a wide range of actions, given the definitions of statutory disqualification and associated person,

and the meaning of “involved in effecting” a security-based swap transaction.56 Absent an

exclusion, the statutory prohibition in Exchange Act Section 15F(b)(6) would apply immediately

See id.

15 U.S.C. 78o-10(b)(6). In addition, Exchange Act Section 15F(b)(4) provides the

Commission with authority (other than certain inapplicable exceptions specified in

Exchange Act Section 15F(b)(4)(d) and (e)) to “prescribe rules applicable to securitybased swap dealers and major security-based swap participants.” 15 U.S.C. 78o-10(b)(4).

See Proposing Release, 80 FR at 51698.

See Proposing Release, 80 FR at 51694. See also Registration Adopting Release, at

Section III.B.1.i.

- 21 -

upon an associated person entity becoming subject to a statutory disqualification. Contrary to

one commenter’s general view that moving services to another entity is not a “market-moving

event,”57 the Commission continues to be concerned about the potential disruption to the

security-based swap markets, including potential adverse effects to counterparties and other

market participants, if SBS Entities engaged in the business must either cease operations, even

temporarily, due to not being able to utilize the services of their associated person entities,58 or

move services to another entity that may not be as well-equipped to handle them pending a

determination by the Commission on their application for relief under the proposed temporary

exclusion or pending a determination by another regulator for similar relief.59 For example, and

as the Commission stated in the proposal, moving the cash and collateral management services

from one entity to another would have a much more significant impact on the ability of the SBS

Entity to operate—which, as noted above, could lead to possible market disruption—than

assigning a different natural person to negotiate and execute security-based swap transactions.60

Americans for Financial Reform Letter, at 3. The commenter also acknowledged when

discussing the proposed temporary exclusion for associated person entities that there may

be some limited cases where an immediate change in a service provider would cause

significant disruptions.

See Proposing Release, 80 FR at 51695-96.

Final Rule of Practice 194(h) provides that, subject to certain conditions, an SBS Entity

may permit an associated person who is subject to a statutory disqualification to effect or

be involved in effecting security-based swaps on its behalf, without making an

application pursuant to the proposed rule, where the Commission, CFTC, an SRO or a

registered futures association has granted a prior application or otherwise granted relief

from a statutory disqualification with respect to that associated person. See Rule of

Practice 194(h) and Section III.H, infra.

See Proposing Release, 80 FR at 51696, n.88 (citing the Registration Adopting Release,

80 FR at 48975, where the Commission noted that it was particularly concerned that SBS

Entities “may need to either cease operations, even temporarily, due to not being able to

utilize these services of their associated person entities, or move these services to another

- 22 -

One commenter noted that other SBS Entities could potentially provide services to the

market in the event that an associated person entity becomes subject to a statutory

disqualification.61 However, irrespective of whether other SBS Entities may be able to provide

such services over time (which may not necessarily occur), there is nonetheless a potential for

short-term disruptions where an associated person entity becomes immediately barred as a result

of being subject to a statutory disqualification. In particular, absent relief, an SBS Entity that is

associated with a statutorily disqualified entity would be required either to restructure

immediately or to cease dealing activity temporarily, which could result in various costs, such as

costs associated with replacing the statutorily disqualified associated person entity or a legal

reorganization.62 Such short-term disruptions could therefore adversely affect not just SBS

Entities, but also counterparties or other market participants in the form of execution delays,

potentially reduced liquidity or higher transaction costs.63 In that respect, the exclusion is not

limited to addressing “industry-focused concerns” 64 or concerns about disruptions to the SBS

Entity’s business alone.65

Although one commenter asserted that any short-term market disruptions could

potentially be mitigated by the SBS Entity whose associated person entity becomes subject to a

statutory disqualification, the commenter did not specify what measures could be taken by the

entity that may not be as well positioned to handle them, which could have an impact on

the security-based swap market”).

See Better Markets Letter, at 5.

See also Section V.C.1.c, infra.

See id.

See Better Markets Letter, at 5.

See Americans for Financial Reform Letter, at 3.

- 23 -

SBS Entity to mitigate potential market dislocations.66 It is not clear that any measures that an

SBS Entity could potentially take to mitigate potential market disruptions—e.g., the SBS Entity

restructuring its business to use the services of another associated person entity that is not subject

to a statutory disqualification—would in all instances be effective, feasible, or cost-effective.

For example, there may be instances where a change in a service provider could cause significant

disruptions in the security-based swap market.67 These disruptions are augmented by the fact

that, as discussed below, the Commission estimates that dealing activity in the security-based

swap market is highly concentrated among a small number of dealers, with the top five dealer

accounts intermediating approximately 55 percent of all SBS Entity transactions.68

In comparison to the proposed temporary exclusion approach, SBS Entities would be less

constrained by the general statutory prohibition and would be able to associate with any and all

statutorily disqualified associated person entities in any capacity without applying for relief

under Exchange Act Section 15F(b)(6) or under Rule of Practice 194. This approach gives SBS

Entities more certainty about their ability to permit statutorily disqualified associated person

entities to effect or be involved in effecting security-based swaps, whereas the proposed

temporary exclusion would have expired after 180 days, and SBS Entities would have 60 days to

conform to the general statutory prohibition if the Commission, the CFTC, an SRO or a

registered futures association does not render a decision on the application within that timeframe.

Furthermore, SBS Entities associating with disqualified persons would not have to undergo

See Better Markets Letter, at 5.

See Americans for Financial Reform Letter, at 3 (acknowledging the potential for

disruption in the event of an immediate change).

See Section V.A, infra, for further discussion.

- 24 -

business restructuring or apply for relief, thereby mitigating the risk of disruptions and avoiding

the costs associated with such restructuring or application for relief, which may flow through to

counterparties under the rule being adopted.

As the Commission noted in the proposal, the overall effects on security-based swap

markets of adopting the alternative approach are unclear. The proposal, in connection with

estimating anticipated costs, noted that the alternative approach, which we are now adopting,

could hinder the Commission’s ability to make an individualized determination about whether

permitting an associated person entity who is subject to a statutory disqualification to effect or be

involved in effecting security-based swaps on behalf of an SBS Entity is consistent with the

public interest, and that statutory disqualification and an inability to continue associating with

SBS Entities creates disincentives against underlying misconduct for associated persons.69 The

Commission has also considered the potential impact on investors and the security-based swap

markets from permitting associated person entities subject to a statutory disqualification to effect

or be involved in effecting security-based swaps on behalf of SBS Entities. The Commission

acknowledges, as it did in the proposal, that the counterparty and compliance risks under the

entity exclusion approach may be somewhat greater than those under the proposed approach.70

Nevertheless, the Commission recognizes, as it did in the proposal, that these risks and concerns

are mitigated by the Commission’s ability, in the appropriate case, to institute proceedings under

Exchange Act Section 15F(l)(3) to determine whether the Commission should censure, place

limitations on the activities or functions of such person, or suspend for a period not exceeding 12

The Commission received comments supporting the potential deterrence effect of

disqualification. See, e.g., Public Citizen Letter; Better Markets Letter.

See, e.g., Better Markets Letter.

- 25 -

months, or bar such person from being associated with an SBS Entity.71 Therefore, the exclusion

in final Rule of Practice 194(c) will neither limit nor otherwise affect the Commission’s existing

statutory authority to institute proceedings or bring an action against any associated person

entities as outlined above.72 In addition, the exclusion in final Rule of Practice 194(c) will also

neither limit nor otherwise affect the ability of the Commission, the CFTC, an SRO or the NFA

to deny membership, association, registration or listing as a principal with respect to any

associated person entity.73

As also noted in the proposal,74 this alternative approach would result in consistency with

the CFTC’s approach with respect to the statutory prohibition for Swap Entities as set forth in

CEA Section 4s(b)(6).75 The CFTC, with respect to statutorily disqualified associated persons of

Swap Entities, limits the definition of associated persons of Swap Entities to natural persons. 76

See Proposing Release, 80 FR at 51698, n.98, 51716, n.194 (citing 15 U.S.C. 78o10(l)(3)).

See Proposing Release, 80 FR at 51698, n.98, 51716, n.194 (citing 15 U.S.C. 78o10(l)(3)). See, e.g., 15 U.S.C. 78u–3 (authorizing cease-and-desist proceedings).

For example, under Exchange Act Section 15A(g)(2), 15 U.S.C. 78o-3(g)(2), where it is

necessary or appropriate in the public interest or for the protection of investors, the

Commission may, by order, direct the SRO to deny membership to any registered broker

or dealer, and bar from becoming associated with a member any person, who is subject to

a statutory disqualification. Section 17(h) of the CEA provides for the CFTC to review

certain NFA decisions, including the NFA’s disciplinary actions and member

responsibility actions, as do the CFTC’s Part 171 Rules, 17 CFR §§ 171.1-171.50.

See Proposing Release, 80 FR at 51698.

7 U.S.C. 6s(b)(6).

See 17 CFR 1.3(aa). Specifically, the CFTC amended CEA Regulation 1.3(aa), 17 CFR

1.3(aa), which generally defines the term “associated person” for purposes of entities

registered with it, to cover Swap Entities. Consequently, with respect to Swap Entities,

the definition reads, “(aa) Associated Person. This term means any natural person who is

associated in any of the following capacities with: . . . (6) A swap dealer or major swap

participant as a partner, officer, employee, agent (or any natural person occupying a

similar status or performing similar functions), in any capacity that involves: (i) The

- 26 -

As a result, the prohibition in CEA Section 4s(b)(6) applies to natural persons (not entities)

associated with a Swap Entity.77 Indeed, under the alternative approach, which we are now

adopting, SBS Entities cross-registered as Swap Entities with the CFTC would experience

potential economies of scope in associating with persons that are statutorily disqualified entities.

One commenter noted that the temporary exclusion provision may expose investors and

markets to disruptive effects from unscrupulous conduct by associated person entities subject to

a statutory disqualification.78 As noted in the Proposing Release, however, the Commission

continues to believe that this approach appropriately considers the potentially competing

objectives of minimizing the likelihood for market disruption while remaining consistent with

the public interest and maintaining investor protections.79

Given the adoption of the exclusion alternative for Rule of Practice 194(c), the

Commission is not adopting a commenter’s proposed alternative that the Commission could, on a

case-by-case basis, provide a temporary exclusion of up to 30 days where doing so is necessary

and appropriate. Under this alternative, pending approval by the Commission for such a

temporary exclusion, an SBS Entity would be required to either (1) disassociate with the

statutorily disqualified associated person entity immediately after the associated person entity

solicitation or acceptance of swaps (other than in a clerical or ministerial capacity); or (ii)

The supervision of any person or persons so engaged.”).

See 7 U.S.C. 6s(b)(6), which states, “Except to the extent otherwise specifically provided

by rule, regulation, or order, it shall be unlawful for a swap dealer or a major swap

participant to permit any person associated with a swap dealer or a major swap

participant who is subject to a statutory disqualification to effect or be involved in

effecting swaps on behalf of the swap dealer or major swap participant, if the swap dealer

or major swap participant knew, or in the exercise of reasonable care should have known,

of the statutory disqualification.”

See Better Markets Letter, at 5.

See id.

- 27 -

became subject to a statutory disqualification, or (2) immediately have that associated person

cease effecting or being involved in effecting security-based swaps on behalf of the SBS Entity.

This result would defeat the intent and purpose of the temporary exclusion and could result in a

risk of market disruption immediately after the associated person entity becomes subject to a

statutory disqualification, but prior to the entry of any order granting a temporary exclusion.

For the reasons discussed above, the Commission is adopting paragraph (c) of Rule of

Practice 194, which provides an exclusion for an SBS Entity from the prohibition in Exchange

Act Section 15F(b)(6) with respect to associated person entities.

Rule of Practice 194(d) – Form of Application

Proposed Rule of Practice 194 would have specified the form of the application to be

submitted under the rule for natural persons.80 In particular, the Commission proposed that each

application would be required to be supported by a written statement, signed by a knowledgeable

person authorized by the SBS Entity, which addresses other items in proposed Rule of Practice

194.81 The proposal would have required an applicant to provide certain exhibits to the written

statement. For associated persons that are natural persons,82 the Commission proposed that an

See id. at 51689-91, 51719; proposed Rule of Practice 194(c). The proposal also

specified the form of application to be submitted under the rule for associated person

entities. See proposed Rule of Practice 194(e). Rule of Practice 194(c), as adopted,

provides an exclusion for an SBS Entity from the prohibition in Exchange Act Section

15F(b)(6) with respect to associated persons entities. Accordingly, the corresponding

provision, proposed Rule of Practice 194(e), which would have specified the form of

such applications for entities, is not needed and is not being adopted.

See Section III.E, infra, for a discussion of proposed Rule of Practice 194(d).

The Commission is making one technical change to the text of Rule of Practice 194(d)

such that the phrase a “person that is subject to a statutory disqualification” (emphasis

added) is being changed to read a “person who is subject to a statutory disqualification”

(emphasis added). This technical change is intended to make the text of Rule of Practice

194 more closely track the language used in Exchange Act Section 15F(b)(6), which

- 28 -

SBS Entity provide: (1) a copy of the order or other applicable document that resulted in the

associated person being subject to a statutory disqualification;83 (2) an undertaking by the

applicant to notify the Commission promptly in writing if any information submitted in support

of the application becomes materially false or misleading while the application is pending;84 (3) a

copy of the questionnaire or application for employment specified in Exchange Act Rule 15Fb62(b);85and (4) a copy of any decision, order, or document issued with respect to any proceeding86

resulting in the imposition of disciplinary sanctions or pending proceeding against the associated

person by the Commission, CFTC, any federal or state or law enforcement regulatory agency,

registered futures association, foreign financial regulatory authority, registered national securities

association, or any other SRO, or commodities exchange, or any court, that occurred during the

five years preceding the filing of the application pursuant to Rule of Practice 194.87 The

Commission also proposed that an application under Rule of Practice 194 would be filed

reads, in pertinent part, “who is subject to a statutory disqualification” (emphasis added).

This technical change is also being made to Rule of Practice 194 (h)(1) and (h)(2).

See proposed Rule of Practice 194(c)(1).

See id. (c)(2).

17 CFR 240.15Fb6-2(b); see proposed Rule of Practice 194(c)(3).

In connection with final Rule of Practice 194, applicants should look to the definition of

“proceeding” in Form SBSE, which states that a “proceeding” includes “a formal

administrative or civil action initiated by a governmental agency, self-regulatory

organization or a foreign financial regulatory authority; a felony criminal indictment or

information (or equivalent formal charge); or a misdemeanor criminal information (or

equivalent formal charge). Does not include other civil litigation, investigations, or

arrests or similar charges effected in the absence of a formal criminal indictment or

information (or equivalent formal charge).” See Registration Adopting Release, at

Section III.G.1, and Form SBSE.

See proposed Rule of Practice 194(c)(4).

- 29 -

pursuant to Rules of Practice 151, 152 and 153.88

The Commission did not receive any specific comments on the form of application and

written statement in proposed Rule of Practice 194. However, one commenter stated that the

Commission should require applicants to address disciplinary events going back ten years, not

five years.89 In support of a longer time period, the commenter stated that a ten-year time period

would provide greater protections in accordance with the purpose of Exchange Act Section

15F(b)(6), and would be more consistent with other provisions of the securities laws dealing with

statutory disqualification.90

The Commission is adopting renamed paragraph (d) of Rule of Practice 194 as proposed,

including the five-year time period in the proposal, for the reasons discussed in the Proposing

Release.91 In determining to adopt the proposed five-year time period, the Commission carefully

considered the burden that may be imposed by requiring SBS Entities to provide older materials

and documents that may not be as readily available, as well as our need to evaluate the context

17 CFR 201.151, 201.152, 201.153. Rule of Practice 151, 17 CFR 201.151, concerns the

procedure for filing of papers with the Commission; Rule of Practice 152, 17 CFR

201.152, concerns the form of filing papers with the Commission; Rule of Practice 153,

17 CFR 201.153, concerns the signature requirement and effect of filing papers.

See Better Markets Letter, at 6. Although the commenter did not specify a particular

provision, the Commission did propose a five-year time period in proposed paragraph

(c)(4). Proposed paragraph (c)(4) would require a copy of any decision, order, or

document issued with respect to any proceedings resulting in the imposition of

disciplinary sanctions or pending proceeding against the associated person by the

Commission, CFTC, any federal or state or law enforcement regulatory agency,

registered futures association, foreign financial regulatory authority, registered national

securities association, or any other SRO, or commodities exchange, or any court, that

occurred during the five years preceding the filing of the application pursuant to Rule of

Practice 194. Proposed paragraphs (d)(6) and (d)(10) also contain similar requests for

certain information for a five-year time period. See Section III.E, infra.

See Better Markets Letter, at 6.

Proposing Release, 80 FR at 51689-91, 51719; proposed Rule of Practice 194(c).

- 30 -

and circumstances underlying the application.92 Furthermore, we note that paragraph (d)(1) of

the Rule as adopted requires that the application include a copy of the order or other applicable

document that resulted in the associated person being subject to a statutory disqualification.

Therefore, the orders or other applicable documents provided with the application may go back

longer than five years.93

In addition, the Commission does not agree with the commenter that a ten-year time

period would be more consistent with the current practice in similar contexts. Paragraph (d)(4)

of the final rule requires a copy of any decision, order, or document issued with respect to any

proceeding resulting in the imposition of disciplinary sanctions or pending proceeding against

the associated person by the Commission, CFTC, any federal or state or law enforcement

regulatory agency, registered futures association, foreign financial regulatory authority,

registered national securities association, or any other SRO, or commodities exchange, or any

court, that occurred during the five years preceding the filing of the application pursuant to Rule

of Practice 194. FINRA’s membership continuance applications require analogous disciplinary

information for a five-year time period—not a ten-year time period.94 For example, like

We note that the Appendix paragraph (c) to Rule of Practice 194 states that, in addition to

the information required by the rule, Commission staff may request supplementary

information from the applicant to assist in the Commission’s review. See also Proposing

Release, 80 FR at 51689, n.54, 51722 (proposing the same requirement).

For example, statutory disqualification may result where an associated person has

committed “any other felony within ten years.” 15 U.S.C. 78c(a)(39)(F). See also, e.g.,

15 U.S.C. 80a-9(a) (ineligibility under Section 9(a) of the Investment Company Act of

1940 (“Investment Company Act”) may result where a person (or an affiliated person)

within ten years has been convicted of any felony or misdemeanor involving the purchase

or sale of any security or arising out of such person’s conduct as an underwriter, broker,

dealer, investment adviser, or in other specified categories).

See FINRA Form MC-400, Section 4, Items 9a, 11; FINRA Form MC-400A, Section 2,

Items 4, 5.

- 31 -

paragraph (d)(4), FINRA Form MC-400, Section 4, Items 9 and FINRA Form MC-400A,

Section 2, Item 4 request information within the past five years concerning “any proceeding

which has resulted in the imposition of disciplinary sanctions by FINRA, the U.S. Securities and

Exchange Commission, the Commodity Futures Trading Commission, any federal or regulatory

agency, foreign financial regulatory authority, any self-regulatory organization or commodities

exchange, or any court or state agency.”95 Additionally, the Commission’s Rule of Practice 193

only requires compliance and disciplinary history during the two years preceding the filing of a

Rule 193 application.96

As with the proposed rule, under the terms of the final rule, the SBS Entity (rather than

the associated person) will be required to submit the application, including the signed written

statement under paragraph (d). Further, as specified below, the Commission is requiring certain

information (e.g., concerning the supervision by the SBS Entity over the associated person) to be

submitted with the application that is within the possession of the SBS Entity itself. An

application under Rule of Practice 194, as proposed and adopted, will be filed pursuant to Rules

of Practice 151, 152 and 153.97 The Commission believes that filing pursuant to these rules will

provide the Commission with the information that it needs to assess an application under Rule of

Practice 194.

FINRA Form MC-400, Section 4, Item 9a; FINRA Form MC-400A, Section 2, Item 4.

See 17 CFR 201.193(b)(4)(iii). However, and as noted above, although paragraph (d)(4)

(and other provisions relating to information that an applicant must provide regarding an

individual’s disciplinary history) provide for a five-year time period, applicants will be

required under paragraph (d)(1) of the final rule to provide the Commission with a copy

of an order or other applicable document which subjects the individual to, a statutory

disqualification irrespective of when the misconduct that gives rise to the statutory

disqualification occurred (e.g., even if outside the five-year time period).

17 CFR 201.151, 201.152, 201.153. See also Note 88, supra.

- 32 -

Rule of Practice 194(e) – Written Statement

Proposed Rule of Practice 194 would have set forth the items to be addressed for

applications for natural persons.98 In particular, the Commission proposed to require an

applicant to address certain information in the written statement. For associated persons that are

natural persons, an SBS Entity would be required to address: (i) the associated person’s

compliance with any order resulting in the statutory disqualification;99 (ii) the associated

person’s employment during the period subsequent to the event giving rise to the statutory

disqualification;100 (iii) the capacity or position in which the associated person subject to a

statutory disqualification proposes to be associated with the SBS Entity;101 (iv) the terms and

conditions of employment and supervision to be exercised over the associated person and, where

applicable, by such associated person;102 (v) the qualifications, experience, and disciplinary

history103 of the proposed supervisor(s) of the associated person;104 (vi) the compliance and

See Proposing Release, 80 FR at 51691-93, 51719-20; proposed Rule of Practice 194(d).

The proposal also set forth the items to be addressed for applications for associated

person entities. See proposed Rule of Practice 194(f). Rule of Practice 194(c), as

adopted, provides an exclusion for an SBS Entity from the prohibition in Exchange Act

Section 15F(b)(6) with respect to associated persons entities; therefore, the corresponding

provision with respect to associate person entities, proposed Rule of Practice 194(f), is

not needed and is not being adopted.

See proposed Rule of Practice 194(d)(1).

100

See id. (d)(2).

101

See id. (d)(3).

102

See id. (d)(4).

103

Disciplinary history would include, for example, the items contained in Exchange Act

Rule 17a-3(a)(12)(i)(D) through (G), 17 CFR 240.17a-3(a)(12)(i)(D) through (G), which

items are required to be collected by broker-dealers with respect to their associated

persons and are required to be provided on Form U-4. Such items include, among other

things, a record of any disciplinary action taken, or sanction imposed, upon the associated

person by any federal or state agency, or national securities exchange or national

securities association, a record of any permanent or temporary injunction entered against

- 33 -

disciplinary history, during the five years preceding the filing of the application, of the SBS

Entity;105 (vii) the names of any other statutorily disqualified associated persons at the SBS

Entity, and whether they are to be supervised by the associated person;106 (viii) whether the

associated person has taken any relevant courses, seminars, examinations or other actions

subsequent to becoming subject to a statutory disqualification to prepare for his or her

participation in the security-based swap business;107 (ix) why the associated person should be

permitted to effect or be involved in effecting security-based swaps on behalf of the SBS

Entity;108 (x) whether, during the five years preceding the filing of the application, the associated

person has been involved in any litigation concerning investment or investment-related activities

or whether there are there any unsatisfied judgments outstanding against the associated person

concerning investment or investment-related activities;109 and (xi) any other information that the

the associated person, or a record of any arrest or indictment for any felony or certain

specified types of misdemeanors. See also Recordkeeping and Reporting Requirements

for Security-Based Swap Dealers, Major Security-Based Swap Participants, and BrokerDealers; Capital Rule for Certain Security-Based Swap Dealers, Exchange Act Release

No. 71958 (Apr. 17, 2014), 79 FR 25194, 25205, 25308-09 (May 2, 2014).

104

See proposed Rule of Practice 194(d)(5).

105

See id. (d)(6).

106

See id. (d)(7).

107

See id. (d)(8).

108

See id. (d)(9).

109

See id. (d)(10). Applicants should look to the definition of “investment or investmentrelated” in Form SBSE, which states that “investment or investment-related” includes

“pertaining to securities, commodities, banking, savings association activities, credit

union activities, insurance, or real estate (including, but not limited to, acting as or being

associated with a broker-dealer, municipal securities dealer, government securities broker

or dealer, issuer, investment company, investment adviser, futures sponsor, bank,

security-based swap dealer, major security-based swap participant, savings association,

credit union, insurance company, or insurance agency).” See Registration Adopting

Release, Form SBSE.

- 34 -

applicant believes to be material to the application.110

The Commission did not receive any specific comments on the items to be addressed set

forth in the proposal. However, as discussed in Section III.D above, the Commission received

one general comment stating that the Commission should require applicants to address

disciplinary events going back ten years, not five years.111 For the same reasons set forth above

in Section III.D, the Commission is adopting the five-year time period as proposed, and for the

reasons discussed in the proposal,112 the Commission is adopting renamed paragraph (e) of Rule

of Practice 194, as proposed, with four minor technical changes.113

Rule of Practice 194(f) – Prior Applications or Processes

Proposed Rule of Practice 194 would have required an applicant to provide as part of the

application any order, notice or other applicable document reflecting the grant, denial or other

disposition (including any dispositions on appeal) of any prior application concerning the

associated person under Rule of Practice 194 and other similar processes.114 More specifically,

the proposal would have required an applicant to provide any order, notice or other applicable

110

See proposed Rule of Practice 194(d)(11).

111

See Better Markets Letter, at 6. The commenter did not specify a particular provision of

the proposal.

112

See Proposing Release, 80 FR at 51691-93, 51719-20; proposed Rule of Practice 194(d).

113

The technical changes are (1) updating an internal cross reference to subsection (c) in the

proposal to reflect subsection (d) in final Rule of Practice 194; (2) moving the phrase

“notwithstanding the event resulting in statutory disqualification” from an introductory

phrase to later in the text of subparagraph (9) to clarify any possible ambiguity in

subparagraph (9) without changing the scope of that provision; (3) updating the technical

wording in subparagraph (e)(9) to more closely conform to the other provisions in

subsection (e) by removing the phrase “the applicant should provide;” and (4) changing

the term “impact upon” to “affect” to clarify any possible ambiguity in subparagraph (9)

without changing the scope of the provision.

114

See Proposing Release, 80 FR at 51693-94, 51720-21; proposed Rule of Practice 194(g).

- 35 -

document where an application has previously been made for the associated person: (1) pursuant

to Rule of Practice 194;115 (2) pursuant to Rule of Practice 193;116 (3) pursuant to Section 9(c) of

the Investment Company Act;117 (4) pursuant to Exchange Act Section 19(d),118 Exchange Act

Rule 19h-1119 or a proceeding by an SRO for a person to become or remain a member, or an

associated person of a member, notwithstanding the existence of a statutory disqualification; and

(5) by the CFTC or a registered futures association for registration, including as a principal,

notwithstanding the existence of a statutory disqualification.120 Proposed Rule of Practice 194

also addressed: (i) the exception in CFTC Regulation 23.22(b)121 by requiring an SBS Entity to

provide any order or other applicable document providing that the associated person may be

listed as a principal, registered as an associated person of another CFTC registrant, or registered

as a floor broker or floor trader, notwithstanding the statutory disqualification and (ii) the

CFTC’s and NFA’s current process for granting relief from CEA Section 4s(b)(6),122 the

115

See proposed Rule of Practice 194(g)(1).

116

17 CFR 201.193; see proposed Rule of Practice 194(g)(2).

117

15 U.S.C. 80a-9(c); see proposed Rule of Practice 194(g)(3).

118

15 U.S.C. 78s(d); see proposed Rule of Practice 194(g)(4).

119

17 CFR 240.19h-1.

120

See proposed Rule of Practice 194(g)(5).

121

17 CFR 23.22(b); see proposed Rule of Practice 194(g)(5)(i). Under that provision, the

CFTC allows association with a Swap Entity with respect to a person who is already

listed as a principal, registered as an associated person of another CFTC registrant, or

registered as a floor broker or floor trader, notwithstanding that the person is subject to a

statutory disqualification under section 8a(2) or 8a(3) (7 U.S.C. 12a(2), (3)) of the CEA.

See Note 11, supra.

122

7 U.S.C. 6s(b)(6); see proposed Rule of Practice 194(g)(5)(ii). This provision requires

the SBS Entity to submit any determination by NFA (the sole registered futures

association, see CFTC Registration Release, 77 FR at 2624) with respect to that grant of

no-action relief. The Commission is adopting the language in paragraph (f)(5)(ii) largely

as proposed but with a minor technical modification to more accurately reflect the

- 36 -

provision that is parallel to Exchange Act Section 15F(b)(6), with respect to persons that are not

exempt from that provision pursuant to CFTC Regulation 23.22(b).123

Although the Commission did not receive any comments specifically addressing this

provision of the proposal, one commenter stated that the Commission should take into account

the views of other regulatory bodies that may have adjudicated similar issues with respect to the

associated persons subject to a statutory disqualification.124 Renamed paragraph (f) of Rule of

Practice 194, as adopted, will facilitate the Commission’s ability to take such views into account.

Paragraph (f) to Rule of Practice 194 is designed to inform the Commission when a

similar application made with respect to the associated person has been granted or denied (or

been subject to some other disposition).125 Information concerning the grant or denial (or other

disposition) of a prior application or other request for relief, and the reasons for the grant or

denial, may inform the Commission’s assessment as to whether it would be consistent with the

public interest for the person to effect or be involved in effecting security-based swaps on behalf

of an SBS Entity.

For example, in the event that a prior application has been granted, but the terms and

conditions of the association with the other registrant are materially different than the proposed

terms and conditions of the statutorily disqualified person’s association with the SBS Entity, the

CFTC’s and NFA’s approach to statutory disqualification.

123

17 CFR 23.22(b).

124

Letter from Elijah E. Cummings, Ranking Member, Committee on Oversight and

Government Reform, U.S. House of Representatives, dated November 13, 2015

(“Cummings Letter”), at 2.

125

As discussed in the Proposing Release, in cases where a statutorily disqualified person

was formerly associated with another SBS Entity, an applicant should use reasonable

efforts to obtain relevant documentation from the other SBS Entity.

- 37 -

Commission could consider whether the terms and conditions at the SBS Entity that are different

may result in any greater risk of future misconduct.126

Accordingly, for reasons discussed in the proposal,127 the Commission is adopting

renamed Rule of Practice 194(f), as proposed, with one minor technical change to more

accurately reflect the CFTC’s and NFA’s approach to statutory disqualification.

The proposal would have required an applicant to provide any order, notice or other

applicable document reflecting the grant, denial or other disposition (including any dispositions

on appeal) of any prior application or process concerning the associated person by the CFTC and

NFA through their process for granting relief from CEA Section 4s(b)(6)128 with respect to

persons that are not exempt from that provision pursuant to CFTC Regulation 23.22(b).129 Under

the CEA and CFTC regulations, the consequences of an individual’s statutory disqualification

differ depending upon whether the individual is an associated person of a CFTC registrant or a

126

Notably, in circumstances where the prior application has been denied or where the terms

and conditions of employment are not the same, an SBS Entity cannot avail itself of

paragraph (h) of Rule of Practice 194, see Section III.H, infra, and therefore will be

required to file an application under Rule of Practice 194 in order to permit an associated

person subject to a statutory disqualification to be able to effect or be involved in

effecting security-based swaps on behalf of an SBS Entity.

127

See Rule of Practice 194 Proposing Release, 80 FR at 51693-94, 51720-21.

128

7 U.S.C. 6s(b)(6).

129

17 CFR 23.22(b). See Proposing Release, 80 FR at 51693-51694, 51721; proposed Rule

of Practice 194(g)(5(ii). Under the CFTC and NFA’s process, available through noaction relief granted by CFTC staff, a Swap Entity may make an application to NFA to

permit an associated person of a Swap Entity subject to a statutory disqualification to

effect or be involved in effecting swaps on behalf of the Swap Entity. NFA will provide

notice to a Swap Entity whether or not NFA would have granted the person registration

as an associated person. As noted in the Proposing Release, and as adopted here as well,

the rule requires the SBS Entity to submit any determination by NFA (the sole registered

futures association) with respect to that grant of no-action relief. See CFTC Letter No.

12–15, at 5–8 (Oct. 11, 2012), available at

http://www.cftc.gov/ucm/groups/public/@lrlettergeneral/documents/letter/12-15.pdf.

- 38 -

principal of a CFTC registrant. An associated person of a CFTC registrant is required to register

separately with the CFTC by filing his or her own application for registration. Therefore, if the

associated person of a CFTC registrant has a statutory disqualification, the application for

registration will be denied unless the associated person goes through the process established by

NFA to be registered notwithstanding the statutory disqualification. However, a principal of a

CFTC registrant does not apply, either for registration or to be listed as a principal. Rather, the

entity of which the person is a principal is required to list that principal on the entity’s

application for registration with the CFTC. As a result, if the principal has a statutory

disqualification, the entity’s application for registration with the CFTC will be denied unless the

entity goes through the process with NFA to be registered, notwithstanding having to list a

statutorily disqualified principal.130

Rule of Practice 194(g) – Notification to Applicant and Written Statement

Proposed Rule of Practice 194 would have set forth the procedure where there is an

adverse recommendation proposed by the Commission staff with respect to an application under

proposed Rule of Practice 194.131 Consistent with Rule of Practice 193(e),132 the Commission

proposed that where there would be an adverse recommendation, the applicant would be so

advised and provided with a written statement by the Commission staff of the reasons for such

130

Accordingly, the Commission has adopted the following language with the new language

underlined for subpart (ii): “Any determination by a registered futures association (as

provided in 7 U.S.C. 21) that had the associated person applied for registration as an

associated person of a swap dealer or a major swap participant, or had a swap dealer or

major swap participant listed the associated person as a principal in the swap dealer’s or

major swap participant’s application for registration, notwithstanding statutory

disqualification, the application of the associated person or of the swap dealer or major

swap participant, as the case may be, would have been granted or denied.”

131

See Proposing Release, 80 FR at 51694, 51721; proposed Rule of Practice 194(h).

132

17 CFR 201.193(e).

- 39 -

recommendation, and the applicant would then have 30 days to submit to the Commission a

written statement in response.133

The Commission did not receive comments concerning this provision of the proposal

and, for the reasons discussed in the proposal, is adopting renamed paragraph (g) of Rule of

Practice 194 as proposed.134

Rule of Practice 194(h) – Notice in Lieu of an Application

Proposed Rule of Practice 194 would have limited the applicability of the statutory

prohibition in Exchange Act Section 15F(b)(6) by prescribing the conditions under which an

SBS Entity could permit a person associated with it who is subject to a statutory disqualification

to effect or be involved in effecting security-based swaps on its behalf without being required to

file an application under Rule of Practice 194.135 The Commission proposed to permit, subject to

all of the conditions specified in proposed paragraph (j)(2) being met,136 an associated person

who is subject to a statutory disqualification to effect or be involved in effecting security-based

swaps on behalf of SBS Entities where the Commission or other regulatory authority previously

reviewed the matter and permitted the person subject to a statutory disqualification to be a

member, associated with a member, registered or listed as a principal of a regulated entity

notwithstanding the statutory disqualification.137 The Commission also proposed that where an

133

See Proposing Release, 80 FR at 51694, 51721; proposed Rule of Practice 194(h).

134

See id.

135

Proposing Release, 80 FR at 51698-700, 51721-22; proposed Rule of Practice 194(j).

136

As explained in the proposal, “[a]n SBS Entity seeking to rely on proposed Rule of

Practice (j)(1) would have to meet all of the conditions specified in proposed paragraph

(j)(2).” Id. at 51699. The same is true for adopted Rule of Practice 194(h).

137

See id. at 51698-99 (discussing proposed paragraph (j)(1)(i) through (iv)). These same

provisions are being adopted in Rule of Practice 194(h)(1)(i) through (iv). We note that

- 40 -

SBS Entity meets certain requirements the SBS Entity would be permitted to file notice with the

Commission (in lieu of an application).138

The Commission received comments objecting generally to the proposal.139 One

commenter stated that the provision should not be adopted as proposed because FINRA’s

statutory disqualification process is “typically designed for individuals” and Exchange Act

Section 15F(b)(4) creates a “new statutory disqualification.” As outlined above, FINRA member

firms that are themselves subject to a statutory disqualification and wish to obtain relief from the

eligibility requirements are required to seek approval from FINRA.140 Furthermore, Exchange

Act Section 15F(b)(4)141 does not reference “statutory disqualification” or otherwise establish a

category of conduct that would disqualify an associated person from effecting or being involved

in effecting security-based swaps.142

Rule of Practice 194(h) would not be applicable in instances where the Commission itself

has made an affirmative determination to bar or suspend the associated person. See id. at

51698 (explaining that, other than in cases where the person is subject to a Commission

bar, the Commission did not believe it would be necessary to re-examine an event for

which relief has already been granted by the CFTC, an SRO or a registered futures

association).

138

See Proposing Release, 80 FR at 51699-700; proposed Rule of Practice 194(j)(2)(iii),

(iv).

139

Americans for Financial Reform Letter, at 2; Better Markets Letter, at 3-4; Public Citizen

Letter, at 4-5; Cummings Letter, at 2-3.

140

See Note 9, supra (discussing FINRA Form MC-400A, Membership Continuance

Application: Member Firm Disqualification Application,

http://www.finra.org/web/groups/industry/@ip/@enf/@adj/documents/industry/p013339.

pdf).

141

As noted above, see Note 54, supra, Exchange Act Section 15F(b)(4) provides the

Commission with authority (other than certain inapplicable exceptions specified in

Exchange Act Section 15F(b)(4)(d) and (e)) to “prescribe rules applicable to securitybased swap dealers and major security-based swap participants.” 15 U.S.C. 78o-10(b)(4).

142

Rather, Exchange Act Section 15F(b)(6) references “statutory disqualification,” and the

Commission has previously stated that a “statutory disqualification” for purposes of

- 41 -

The Commission also received comments arguing that allowing deference to SROs is

inconsistent with current practice.143 However, the Commission observes that Rule of Practice

194(h) is generally consistent with the current practice with respect to SROs and their members.

For example, the information provided by the notice under adopted paragraph (h)(2)(iii) is

consistent with the information that is currently required for a notification under Exchange Act

Rule 19h-1(a)(4).144 In the event that the views of the Commission were to diverge from the

CFTC, an SRO or a registered futures association with respect to an associated person subject to

a statutory disqualification under the statutory scheme of the Exchange Act, under Exchange Act

Section 15F(l)(3), the Commission retains the authority to, by order, censure, place limitations

on the activities or functions of the associated person, or suspend or bar such person from being

associated with an SBS Entity.145 As a result, even in cases where the CFTC, an SRO or a

registered futures association has previously granted relief and an SBS Entity files a notice in

lieu of an application under Rule of Practice 194(h), the Commission may, in the appropriate

case, institute proceedings under Exchange Act Section 15F(l)(3) to determine whether the

Commission should censure, place limitations on the activities or functions of such person, or

Exchange Act Section 15F(b)(6) is not a new defined term (with additional categories),

but rather is described (consistent with other contexts) in Exchange Act Sections

3(a)(39)(A) through (F). 15 U.S.C. 78c(a)(39)(A) through (F); see also Registration

Adopting Release, 80 FR at 48972; 17 CFR 240.15Fb2-1(e); 17 CFR 240.15Fb6-1; 17

CFR 240.15Fb6-2.

143

See Americans for Financial Reform Letter, at 2. See also Cummings Letter, at 2-3

(arguing that the Commission should not delegate its authority to interpret the Exchange

Act to the CFTC, FINRA or a registered futures association, in part, because “[n]one of

the entities to which the proposed rule would grant the authority to issue a waiver has

been granted that responsibility by statute.”).

144

17 CFR 240.19h-1(a)(4); proposed Rule of Practice 194(j)(2)(iii), (iv).

145

15 U.S.C. 78o-10(l)(3). See also Proposing Release, 80 FR at 51698 n.98.

- 42 -

suspend for a period not exceeding 12 months, or bar such person from being associated with an

SBS Entity.146 The Commission also believes that where the conditions set forth in paragraph (h)

are met, it would not be necessary for the Commission (other than in cases where the person is

subject to a Commission bar) to re-examine by means of a full application under Rule of Practice

194 an event for which relief has already been granted. Rather, the Commission believes that the

better approach is to require an applicant to provide a notice under Rule of Practice 194(h) in lieu

of a full application under Rule of Practice 194, which would alert the Commission to issues that

could lead to the institution of proceedings pursuant to Exchange Act Section 15F(l)(3)147 where

doing so is appropriate.

Another commenter argued that the Commission should not “delegate” its authority to

determine whether an exclusion from Exchange Act Section 15F(b)(6) is appropriate because

regulators administer different statutory schemes and have different priorities.148 This same

commenter argued that this proposed subsection should not be adopted because, among other

things, the Commission should exercise its own judgment in each case to ensure that the policies

underlying the securities laws are fulfilled.149

The Commission acknowledges that other regulators administer different statutory

146

See 15 U.S.C. 78o-10(l)(3). See also, e.g., 15 U.S.C. 15(b)(6).

147

15 U.S.C. 78o-10(l)(3).

148

See Better Markets Letter, at 3-4.

149

See Better Markets Letter, at 3-4 (arguing that this proposed subsection should not be

adopted because the Commission should exercise its judgment in each case to ensure that

the policies underlying the securities laws are fulfilled and because the proposal would

not ensure that applications for an exemption from disqualification will be subject to

strong, consistent, and relevant considerations under the securities laws).

- 43 -

schemes,150 but it does not believe that the applicable standards that regulators identified in

paragraph (h) use in their respective statutory disqualification processes are sufficiently different

to warrant requiring SBS Entities to file a full application under Rule of Practice 194, as opposed

to a notice in lieu of an application. In particular, the CFTC and NFA assess whether registration

would not pose a substantial risk to the public despite the existence of the statutory

disqualification.151 Likewise, and as noted above, consistent with Exchange Act Section

15A(g)(2),152 under Article 3, Section 3(d) of the FINRA By-Laws,153 the FINRA Board may, in

its discretion, approve the continuance in membership, and may also approve the association or

continuance of association of any person, if the FINRA Board determines that such approval is

consistent with the public interest and the protection of investors.154 Although the CFTC or a

registered futures association may not review “considerations under the securities laws,”155 and

may have “different statutory schemes and . . . different priorities,”156 those regulators, and

SROs, will generally assess whether it is consistent with the public interest to permit a person

who is subject to statutory disqualification to be associated with (or a principal of) a registered

entity. As a result, a review by the regulators provided for in paragraph (h) would substantially

overlap with any review that the Commission would undertake in assessing whether an applicant

150

See Better Markets Letter, at 3-4; Cummings Letter, at 2-3.

151

See CEA Regulation 3.60(e)(1), (2), 17 CFR 3.60(e)(1)(2), NFA Registration 507(a)(1),

(2).

152

15 U.S.C. 78o-3(g)(2).

153

See FINRA By-Laws, Article III, Section 3(d),

http://finra.complinet.com/en/display/display_main.html?rbid=2403&element_id=4606.

See also Registration Proposing Release, 80 FR at 51687.

154

See also FINRA Rules 9522(e), 9524(b)(1).

155

See Better Markets Letter, at 3-4.

156

Id.

- 44 -

has made a showing under Rule of Practice 194(b) that it would be consistent with the public

interest to grant relief with respect to a statutorily disqualified associated person. And, as stated,

the Commission will retain authority under Exchange Act Section 15F(l)(3)157 to determine

whether potential considerations under the securities law would warrant diverging from a

decision of another regulator in a particular matter.

Similarly, the Commission received comments arguing that SROs are conflicted or do not

otherwise have the impartiality necessary to make decisions regarding the best interests of the

public.158 While the Commission has carefully considered the concerns raised by these

commenters, the Commission believes that the statutory and regulatory framework under which

SROs operate (including the Commission’s oversight function of SROs159 and the CFTC’s

oversight of the NFA160), and the Commission’s independent authority to, where appropriate,

157

15 U.S.C. 78o-10(l)(3).

158

See Public Citizen Letter, at 4-5; Better Markets Letter, at 3-4; Cummings Letter, at 2;

Americans for Financial Reform Letter, at 2.

159

As stated in Note 9, supra, an SRO may be required to send a notice or notification to the

Commission of its proposal to admit or continue the membership of a person or

association with a member notwithstanding statutory disqualification in accordance with

Exchange Act Rule 19h-1. See 17 CFR 240.19h-1. Under Exchange Act Section

15A(g)(2), 15 U.S.C. 78o-3(g)(2), where it is necessary or appropriate in the public

interest or for the protection of investors, the Commission may, by order, direct the SRO

to deny membership to any registered broker or dealer, and bar from becoming associated

with a member any person, who is subject to a statutory disqualification. See also 15

U.S.C. 78f(c)(2) (national securities exchange); 15 U.S.C. 78q-1(b)(4)(A) (registered

clearing agency).

160

The NFA is a registered futures association under section 17 of the CEA, 7 U.S.C. 21,

and is the SRO for swap transactions. Section 17(h) of the CEA provides for CFTC

review of certain NFA decisions, including the NFA’s disciplinary actions and member

responsibility actions, as do the CFTC’s Part 171 Rules, 17 CFR §§ 171.1-171.50. In

addition, the CFTC may institute review of disciplinary actions taken by the NFA on its

own motion. See 17 U.S.C. 21(h)(3). See also CFTC, Division of Clearing and

Intermediary Oversight, Review of the Disciplinary Program of National Futures

- 45 -

institute proceedings with respect to the statutorily disqualified associated person under

Exchange Act Section 15F(l)(3), serves to mitigate commenters’ concerns.161 SROs are

entrusted with quasi-governmental authority, and, subject to Commission oversight.162 SROs

must also be organized and have the capacity to carry out the purposes of the Exchange Act and

to comply and enforce compliance by its members and persons associated with its members with

the Exchange Act, the rules and regulations thereunder and the rules of the SRO.163 The

Exchange Act reflects a recognition of self-regulation as a fundamental component of the

oversight and supervision of U.S. securities markets and their members.

The Commission likewise disagrees with a commenter’s view that “[n]one of the entities

to which the proposed rule would grant the authority to issue a waiver has been granted that

responsibility by statute.”164 To the extent that the commenter may be concerned that the

Commission does not have the statutory authority to rely on prior determinations made by those

regulators, as set forth in Rule of Practice 194(h), Exchange Act Section 15F(b)(6) expressly

provides broadly and without limitation that the Commission can establish exceptions to that

statutory prohibition by “rule, regulation, or order.”165 Granting relief from the statutory

prohibition to SBS Entities where the conditions set forth in Rule of Practice 194(h) are met,

including the filing of a notice in lieu of an application, is within the scope of the statutory

Association, July 2002,

https://www.cftc.gov/sites/default/files/files/tm/tmnfarer071102.pdf.

161

See 15 U.S.C. 78o-10(l)(3); Proposing Release, 80 FR at 51698 n.98.

162

See, e.g., 15 U.S.C. 78o-3 (registered securities associations); 15 U.S.C. 78s (registration,

responsibilities, and oversight of SROs).

163

See, e.g., 15 U.S.C. 78o-3(b)(2).

164

See Cummings Letter, at 2.

165

15 U.S.C. 78o-10(b)(6).

- 46 -

authority provided to the Commission under Exchange Act Section 15F(b)(6).166 Moreover, the

regulators identified in paragraph (j) are currently granted the authority under their own statutory

and regulatory frameworks to provide relief from a statutory disqualification.167 Paragraph (h)

does not “delegate [the Commission’s] authority to interpret the Exchange Act”168 because such

regulators only interpret their own statutory and regulatory frameworks with respect to persons

subject to a statutory disqualification. The Commission believes that where the conditions set

forth in paragraph (h) are met, it would not be necessary for the Commission (other than in cases

where the person is subject to a Commission bar) to re-examine by means of a full application

under Rule of Practice 194 an event for which relief has already been granted. Rather, the

Commission believes that the better approach is to require an applicant to provide a notice under

Rule of Practice 194(h) in lieu of a full application under Rule of Practice 194, which would alert

the Commission to issues that could lead to the institution of proceedings pursuant to Exchange

Act Section 15F(l)(3)169 where doing so is appropriate.

Another commenter objected to the proposal on the grounds that the Commission should

itself make a determination, rather than the CFTC, an SRO or a registered futures association, in

part, because the proposal would “render[] the [Commission] unaccountable to Congress.”170

The Commission also received a comment objecting to the proposal on the grounds that the

Commission retains sole authority and responsibility to interpret and adjudicate the entire body

of securities law in the public interest and any waiver decision should be reviewed by the

166

See 5 U.S.C. 78o-10(b)(4). See also Note 54, supra.

167

See Registration Adopting Release, 80 FR at 51687-89.

168

See Cummings Letter, at 2.

169

15 U.S.C. 78o-10(l)(3).

170

Public Citizen Letter, at 4-5.

- 47 -

Commission.171 In all cases where paragraph (h) applies, although the Commission would not

receive an application under Rule of Practice 194, the Commission would be able to review the

facts of cases.172 Nor is it the case that paragraph (h) of Rule of Practice 194 would “render[] the

[Commission] unaccountable to Congress”173 or divest the Commission of its “sole authority and

responsibility to interpret and adjudicate the entire body of securities law in the public

interest,”174 because, as noted above, the Commission retains its statutory authority to bring an

action under Exchange Act Section 15F(l)(3).

After careful consideration of the comments received, and for the reasons discussed in the

proposal,175 the Commission is adopting renamed paragraph (h) to Rule of Practice 194 as

proposed, with five technical modifications. First, because Rule of Practice 194, as adopted,

provides an exclusion for an SBS Entity from the prohibition in Exchange Act Section 15F(b)(6)

with respect to associated persons entities, references in the proposed rule text to “is a natural

person”176 and one proposed subsection, which pertained to associated person entities only,177 are

no longer needed, and are not being adopted. Second, certain internal cross references to other

provisions within this subsection are being revised to reflect renamed Rule of Practice 194(h).178

Third, the phrase “or otherwise by the Commission” is being added to paragraph (h)(1)(ii) to

171

Cummings Letter, at 2-3.

172

Contra Americans for Financial Reform Letter, at 2.

173

Public Citizen Letter, at 5.

174

Cummings Letter, at 2.

175

See Proposing Release, 80 FR at 51698-700, 51721-22.

176

See proposed Rule of Practice 194(j)(1)(ii), (j)(2)(iii).

177

See id. (j)(2)(iv).

178

Internal cross references to subsection (j) in the proposal are being updated to reflect

subsection (h) in final Rule of Practice 194. See id. (j)(1), (j)(2)(ii).

- 48 -

address situations where the Commission has granted a natural person consent to associate or

change the terms and conditions of association with a regulated entity even if that consent was

not granted pursuant to Rule of Practice 193.179 Fourth, the Commission is changing the phrase a

“person that is subject to a statutory disqualification” (emphasis added) in paragraphs (h)(1) and

(h)(2) to read a “person who is subject to a statutory disqualification” (emphasis added) to more

closely track the language used in Exchange Act Section 15F(b)(6).180 Finally, a reference to the

Commission’s Rules of Practice 151, 152 and 153 is being added to provide guidance on how the

notice in Rule of Practice 194 (h)(2)(iii) should be filed with the Commission.181

Note to Rule of Practice 194

The Commission proposed adopting an accompanying Note to Rule of Practice 194,

similar to the Preliminary Note to Rule of Practice 193.182 The Commission received no

comments concerning the Note to proposed Rule of Practice 194 and is adopting, for the reasons

discussed in the proposal, the Note substantially as proposed.183

As adopted, the Note to Rule of Practice 194 provides that:

•

An application made pursuant to the rule must show that it would be consistent with the

179

This modification to paragraph (h)(1)(ii) is intended to address a regulatory gap with

respect to Commission orders granting natural persons consent to associate with

regulated entities that are not currently listed in Rule of Practice 193, such as, for

example, natural persons associated with municipal advisors. Although Rule of Practice

193 does not currently mention municipal advisors, Rule 15Bc4-1 states that the

Commission may “consent” to a person being associated with a municipal advisor. As a

result, this modification will include Commission orders granting such consent within the

scope of Rule 194.

180

See Note 82, supra (discussing the same technical change to Rule of Practice 194(d)).

181

See Note 88, supra (discussing the Commission’s Rules of Practice 151, 152 and 153).

182

See Proposing Release, 80 FR at 51700-01; proposed Rule of Practice 194, Appendix.

See also 17 CFR 201.193, Preliminary Note.

183

See Proposing Release, 80 FR at 51700-01.

- 49 -

public interest to permit the associated person of the SBS Entity to effect or be involved

in effecting security-based swaps on behalf of the SBS Entity.184

•

The nature of the supervision that an associated person will receive or exercise as an

associated person with a registered entity is an important matter bearing upon the public

interest.

•

In meeting the burden of showing that permitting the associated person to effect or be

involved in effecting security-based swaps on behalf of the SBS Entity is consistent with

the public interest, the application and supporting documentation must demonstrate that

the terms or conditions of association, procedures, or proposed supervision (if the

associated person is a natural person), are reasonably designed to ensure that the statutory

disqualification does not negatively affect the ability of the associated person to effect or

be involved in effecting security-based swaps on behalf of the SBS Entity in compliance

with the applicable statutory and regulatory framework. The Commission made one

technical amendment in the Note to Rule of Practice 194 to change the term “impact

upon” to “affect” in order to clarify any possible ambiguity without changing the scope of

the provision.

•

Normally, the applicant’s burden of demonstrating that permitting the associated person

to effect or be involved in effecting security-based swaps on behalf of the SBS Entity is

consistent with the public interest will be difficult to meet where the associated person is

to be supervised by, or is to supervise, another statutorily disqualified individual.

•

184

The associated person may be limited to association in a specified capacity with a

See Section III.B, supra.

- 50 -

particular registered entity and may also be subject to specific terms and conditions.

Notably, the Commission proposed that where the associated person wishes to become

the sole proprietor of a registered entity and thus is seeking that the Commission issue an order

permitting the associated person who is subject to a statutory disqualification to effect or be

involved in effecting security-based swaps on behalf of an SBS Entity notwithstanding an

absence of supervision, the applicant’s burden will be difficult to meet.185 The Commission has

modified this sentence because the Commission does not anticipate that a registered SBS Entity

will be formed as a sole proprietorship in light of the de minimis exception to the definition of

“security-based swap dealer”186 and the thresholds applicable to the definition of “major

security-based swap participant.”187 As modified, paragraph (i)(5) to the Note to Rule of

Practice 194 provides that where there is an absence of supervision over the associated person

who is subject to a statutory disqualification, the applicant’s burden will be difficult to meet.

The Commission is including this statement because, as stated, the Commission believes that

there is a greater risk of harm where the associated person subject to a statutory disqualification

is not subject to adequate supervision.

Finally, the Note discusses various procedural aspects of Rule of Practice 194, including

the following:

•

In addition to the information specifically required by the rule, applications with respect

to natural persons should be supplemented, where appropriate, by written statements of

185

See, e.g., Final Rule of Practice 194(e)(3). See also Proposing Release, 80 FR at 51700,

51722. Accord 17 CFR 201.193, Preliminary Note.

186

See 17 CFR 240.3a71-2.

187

See, e.g., 17 CFR 240.3a67-1(a)(2), 240.3a67-3, 240.3a67-5, 3a67-9.

- 51 -

individuals who are competent to attest to the associated person’s character, employment

performance, and other relevant information.

•

In addition to the information required by the rule, the Commission staff may request

additional information to assist in the Commission’s review.

•

Intentional misstatements or omissions of fact may constitute criminal violations of 18

U.S.C. 1001, et seq. and other provisions of law.

•

The Commission will not consider any application that attempts to reargue or collaterally

attack the findings that resulted in the statutory disqualification.

Confidentiality of Materials

In the proposal, the Commission stated that orders issued in accordance with Rule of

Practice 194 would be made publicly available, but applications and supporting materials would

be kept confidential subject to applicable law.188 The Commission received three comments

stating that the Commission should require all applications and supporting materials to be made

public.189 Specifically, one commenter stated that requiring all applications and supporting

materials to be made public would: (i) promote transparency; (ii) ensure that the public

understands that the Commission’s handling of such applications, thereby improving the public’s

confidence in the Commission’s oversight of market participants more generally; and (iii)

influence the application process under Rule of Practice 194 if it appears to be too lenient in

favor of allowing disqualified persons to serve in the security-based swap markets.190 Another

188

See Proposing Release, 80 FR at 51694.

189

Better Markets Letter, at 6; American for Financial Reform, at 3-4; Cummings Letter, at

190

Better Markets Letter, at 6.

- 52 -

commenter stated that that: (1) applications and any supporting materials should be made public

as soon as they are received to ensure public transparency in the application and accountability;

and (2) should the Commission adopt the temporary exclusion in paragraph (i), the notice

required to be sent to the Commission should be made public.191 Another commenter noted that,

although the Commission should make applications under Rule of Practice 194 public, the

Commission should be able to make a good cause determination that such applicants remain

under seal.192

The Commission has carefully considered the comments and has determined not to

automatically make applications and supporting materials under Rule of Practice 194 public

(e.g., on the Commission’s website). For the reasons set forth below and consistent with the

Commission’s current practice in other contexts (e.g., applications and supporting materials

under Rule of Practice 193), the Commission believes that, as proposed, it is appropriate to keep

applications and supporting materials confidential, subject to the existing statutory and

regulatory framework with respect to the public availability of such materials, including the

Freedom of Information Act (“FOIA”),193 the Exchange Act,194 and applicable Commission

rules.195

First, applications and supporting materials may contain information that is proprietary or

otherwise confidential and not generally subject to disclosure under applicable law.196 As one

191

Americans for Financial Reform Letter, at 3-4.

192

Cummings Letter, at 3.

193

5 U.S.C. 552, et seq.

194

See 15 U.S.C. 78x.

195

See, e.g., 17 CFR 200.80; 17 CFR 201.190; 17 CFR 240.24b-2.

196

See 5 U.S.C. 552; 17 CFR 200.80(b)

- 53 -

commenter acknowledged, good cause may exist not to disclose certain information contained in

application materials.197 The existing statutory and regulatory framework sets forth a detailed

process for the Commission to make available application materials198 to members of the public,

upon request, but to keep certain information contained in those materials confidential, where

appropriate.199 FOIA, for example, contains express categories of statutory exemptions where

public disclosure is not required200—e.g., information that would invade an individual’s personal

privacy, or trade secrets or commercial or financial information that is confidential or

privileged.201 In addition to protecting the privacy interests of applicants and their associated

persons, there is also a public interest in preserving the confidentiality of such materials to

promote candor in applications so that the Commission may assess, based on all material facts,

whether granting an application is consistent with the public interest.

The Commission believes that this existing statutory and regulatory framework, which

provides for the public availability of certain materials, appropriately takes into consideration the

applicants’ interests in confidentiality with the concerns identified by commenters concerning

accountability, transparency, appropriateness of decision-making, and public confidence in the

Rule of Practice 194 application process (and the Commission’s oversight of market participants

more generally). Moreover, the Commission believes that relying on the existing statutory and

regulatory framework with respect to application materials is preferable to a “good cause”

197

See Cummings Letter, at 3.

198

15 U.S.C. 78x(a) (for purposes of 5 U.S.C. 552, “the term ‘records’ includes all

applications . . . notices, and other documents filed with or otherwise obtained by the

Commission pursuant to the [Exchange Act] or otherwise”).

199

See, e.g., 17 CFR 200.80(a)(4), (b).

200

See 5 U.S.C. 552(b). See also 17 CFR 200.80(b).

201

See 5 U.S.C. 552(b)(4), (6). See also 17 CFR 200.80(b)(4), (b)(6).

- 54 -

standard of public disclosure, as suggested by one commenter,202 for the same reasons noted

above, as well as because the current statutory and regulatory framework is generally wellestablished and is routinely administered by Commission staff.

Second, in light of the information that the Commission intends to make publicly

available, the Commission believes that there is minimal additional benefit in requiring all

applications and supporting materials automatically to be made public—particularly given that

the existing statutory and regulatory framework provides a process for members of the public to

request application materials to be made available, consistent with the protections of the existing

framework. Further, statutorily disqualified associated persons that are natural persons will not

be permitted to effect or be involved in effecting security-based swaps on behalf of SBS Entities

until an order is issued granting relief under Rule of Practice 194. Such orders will be made

publicly available on the Commission’s website, consistent with current practice,203 and will

provide notice to the public and identify for the benefit of counterparties and other market

participants instances where a statutorily disqualified associated person that is a natural person

has been permitted to effect or be involved in effecting security-based swaps on behalf of an SBS

Entity.

Deleting Rule 15Fb6-1 and Schedule C to Forms SBSE, SBSE-A and SBSEBD

Concurrent with the issuance of the Rule of Practice 194 proposal, the Commission

adopted registration requirements for SBS Entities, including certain rules relating to the

202

Cummings Letter, at 3.

203

See 17 CFR 200.80(a)(2)(i), (3).

- 55 -

statutory prohibition in Exchange Act Section 15F(b)(6).204 The Registration Adopting Release

provided, among other things, that an SBS Entity, when it files an application to register with the

Commission, may permit an associated person that is not a natural person who is subject to a

statutory disqualification to effect or be involved in effecting security-based swaps on the SBS

Entity’s behalf, provided that the statutory disqualification(s) occurred prior to the compliance

date set forth in the Registration Adopting Release and that the SBS Entity identifies each such

associated person on its registration form, namely Schedule C to Forms SBSE, SBSE-A and

SBSE-BD.

Because Rule of Practice 194, as adopted, provides an exclusion for an SBS Entity from

the prohibition in Exchange Act Section 15F(b)(6) with respect to associated persons entities,

Rule 15Fb6-1 and its related Schedule C are no longer necessary. Accordingly, given the

associated person entity exclusion that the Commission is adopting in final Rule of Practice

194(c), the Commission is making technical amendments to: (1) delete Exchange Act Rule

15Fb6-1; (2) remove Schedule C to Forms SBSE, SBSE-A and SBSE-BD; and (3) remove all

references to Schedule C in the instructions in the above-mentioned forms.

Compliance Date

As noted above, the effective date of Rule of Practice 194, as adopted, is April 22, 2019.

We note, however, that the compliance date for the SBS Entity registration rules set forth in the

Registration Adopting Release is the later of: six months after the date of publication in the

Federal Register of a final rule release adopting rules establishing capital, margin and

segregation requirements for SBS Entities; the compliance date of final rules establishing

204

See Registration Adopting Release, 80 FR at 48964. See also, e.g., 17 CFR 240.15Fb6-1.

- 56 -

recordkeeping and reporting requirements for SBS Entities; the compliance date of final rules

establishing business conduct requirements under Exchange Act Sections 15F(h) and 15F(k);

or the compliance date for final rules establishing a process for a registered SBS Entity to

make an application to the Commission to allow an associated person who is subject to a

statutory disqualification to effect or be involved in effecting security-based swaps on the SBS

Entity’s behalf.205

IV.

PAPERWORK REDUCTION ACT

Rule of Practice 194 contains “collection of information requirements” within the

meaning of the Paperwork Reduction Act of 1995 (“PRA”). 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. The Commission has submitted the information to the Office

of Management and Budget (“OMB”) for review in accordance with 44 U.S.C. 3507 and 5 CFR

1320.11. The title of this collection is “Rule of Practice 194.” The collection of information was

assigned OMB Control No. 3235-0733. The responses to the collection of information are

required to obtain a benefit.

In the proposal, the Commission solicited comment on the collection of information

requirements associated with proposed Rule of Practice 194.206 In particular, pursuant to 44

U.S.C. 3505(c)(2)(B), the Commission asked commenters to evaluate whether the proposed

205

See Registration Adopting Release, at 1. The Commission recently requested comment

on, among things, whether a longer compliance period, such as 18 months after the date

of publication of the last of four releases noted above in the Federal Register, would be

more appropriate. See Capital, Margin, and Segregation Requirements for SecurityBased Swap Dealers and Major Security-Based Swap Participants and Capital

Requirements for Broker-Dealers, Exchange Act Release No. 34-84409 (Oct. 11, 2018),

83 FR 53007, 53019 (Oct. 19, 2018).

206

See Proposing Release, 80 FR at 51708.

- 57 -

collection is necessary for the proper performance of our functions, including whether the

information shall have practical utility; to evaluate the accuracy of our estimate of the burden of

the proposed collection of information; to determine whether there are ways to enhance the

quality, utility, and clarity of the information to be collected; and to evaluate whether there are

ways to minimize the burden of collection of information on those who are to respond, including

through the use of automated collection techniques or other forms of information technology.

The Commission did not receive any comments on the collection of information requirements.

Summary of Collection of Information

Rule of Practice 194 provides a process by which an SBS Entity may apply to the

Commission for an order permitting an associated person to effect or be involved in effecting

security-based swaps on behalf of the SBS Entity notwithstanding a statutory disqualification.

To make an application under Rule of Practice 194, the SBS Entity filing an application with

respect to an associated person that is a natural person would provide to the Commission:

•

Exhibits required by paragraph (d) to Rule of Practice 194, including a copy of the order

or other applicable document that resulted in the associated person being subject to a

statutory disqualification; an undertaking by the applicant to notify promptly the

Commission in writing if any information submitted in support of the application

becomes materially false or misleading while the application is pending; a copy of the

questionnaire or application for employment specified in Rule 15Fb6-2(b),207 with

respect to the associated person; in cases where the associated person has been subject of

any proceeding resulting in the imposition of disciplinary sanctions during the five years

207

17 CFR 240.15Fb6-2(b).

- 58 -

preceding the filing of the application or is the subject of a pending proceeding by the

Commission, CFTC, any federal or state regulatory or law enforcement agency,

registered futures association, foreign financial regulatory authority, registered national

securities association, or any other SRO, or commodities exchange or any court, a copy

of the related order, decision, or document issued by the court, agency or SRO.

•

A written statement that includes the information specified in paragraphs (e) and (f) to

Rule of Practice 194, including, but not limited to: the associated person’s compliance

with any order resulting in statutory disqualification; the capacity or position in which the

person subject to a statutory disqualification proposes to be associated with the SBS

Entity; the terms and conditions of employment and supervision to be exercised over

such associated person and, where applicable, by such associated person; the compliance

and disciplinary history, during the five years preceding the filing of the application, of

the SBS Entity; information concerning prior applications or processes.

Under paragraph (g) to Rule of Practice 194, an applicant could submit a written

statement in response to any adverse recommendation proposed by Commission staff with

respect to an application under Rule of Practice 194.

An SBS Entity would not be required to file an application under Rule of Practice 194

with respect to certain associated persons that are subject to a statutory disqualification, as

provided for in paragraph (h) of proposed Rule of Practice 194. To meet those requirements,

however, the SBS Entity would be required to file a notice with the Commission. For associated

persons that are natural persons, the notice in paragraph (h)(2)(iii) would set forth: (1) the name

of the SBS Entity; (2) the name of the associated person subject to a statutory disqualification;

(3) the name of the associated person’s prospective supervisor(s) at the SBS Entity; (4) the place

- 59 -

of employment for the associated person subject to a statutory disqualification; and

(5) identification of any SRO or agency that has indicated its agreement with the terms and

conditions of the proposed association, registration or listing as a principal.

The information sought in connection with Rule of Practice 194 would assist the

Commission in determining whether allowing associated persons to effect or be involved in

effecting security-based swaps on behalf of a SBS Entity, notwithstanding statutory

disqualification, is consistent with the public interest.

The Commission has sought to minimize the burdens and costs associated with Rule of

Practice 194. First, the Commission is not requiring an application under Rule of Practice 194

with respect to certain associated persons subject to a statutory disqualification previously

granted relief (i.e., by the Commission, the CFTC, an SRO, or a registered futures association).

Rather, in such instances, SBS Entities would only be required to provide a notice to the

Commission under Rule of Practice 194(h)(2)(iii). Second, Rule of Practice 194 generally

requires information that is already required by Rule of Practice 193208 and FINRA Form

MC400.209 Because the requirements in Rule of Practice 194 are generally similar to preexisting requirements in Rule of Practice 193 and FINRA Form MC-400 (and largely use the

same terminology), Rule of Practice 194 should provide a familiar process for respondents.210

Third, where appropriate, the Commission has limited the scope of certain requirements,

including by limiting the time period for requested information (for example, paragraphs (d)(4),

208

17 CFR 201.193; see Note 8, supra.

209

See FINRA Form MC-400; see Note 9, supra.

210

The Commission estimates that approximately 16 registered SBS Entities will be brokerdealers, and thus registered with FINRA. See Section V.B.

- 60 -

(e)(6), and (e)(10) to Rule of Practice 194) or the scope of information sought (for example,

paragraph (e)(10) and to proposed Rule of Practice 194). Finally, the documents that are

requested to be provided with the written statement in paragraph (d) of Rule of Practice 194

(e.g., a copy of the order or other applicable document that resulted in statutory disqualification)

should be readily available or accessible to the SBS Entity or to the associated person.

Proposed Use of Information

Information collected in connection with an application under Rule of Practice 194 will

assist the Commission in determining whether an associated person of an SBS Entity should be

permitted to effect or be involved in effecting security-based swaps on behalf of the SBS Entity,

notwithstanding that the associated person is subject to a statutory disqualification. Although,

absent the rule, an SBS Entity could nonetheless submit an application for an exemptive order

directly under Exchange Act Section 15F(b)(6),211 Rule of Practice 194 specifies the information

the Commission needs to evaluate such an application, and under what standard the Commission

will consider whether to grant such relief.

Information collected in connection with the notice provided by Rule of Practice

194(h)(2)(iii) will assist the Commission for examination purposes by identifying associated

persons that are subject to a statutory disqualification (and other basic information).

Respondents

The Commission has previously stated that it believes that, based on data obtained from

the Depository Trust & Clearing Corporation and conversations with market participants,

approximately fifty entities may fit within the definition of security-based swap dealer and up to

five entities may fit within the definition of major security-based swap participant—55 SBS

211

15 U.S.C. 78o-10(b)(6).

- 61 -

Entities in total.212

With respect to associated persons that are natural persons, as discussed in Section V.B.2

below, the Commission has estimated that there will be 420 total associated persons that are

natural persons at each SBS dealer and 62 total associated persons that are natural persons at

each major participant, or 21,310 total associated persons that are natural persons. The

Commission anticipates that, on an average annual basis, only a small fraction of the natural

persons would be subject to a statutory disqualification. Between 2011 and June of 2018 FINRA

received an average of 33 MC-400 applications with respect to individuals subject to a statutory

disqualification seeking relief under the FINRA Rule 9520 Series.213 Given that the Commission

estimates that there will be far fewer associated persons of SBS Entities that are natural persons

(21,310 total associated persons that are natural persons) than the approximately 267,000

registered representatives,214 the Commission anticipates that SBS Entities will file for relief

under Rule of Practice 194 with respect to substantially fewer associated persons that are natural

persons.

In addition, to estimate the number of such persons, the Commission staff has conferred

with NFA to assess how many associated persons of the 102 provisionally registered Swap

212

See Business Conduct Standards for Security-Based Swap Dealers and Major SecurityBased Swap Participants, Exchange Act Release No. 77617, (April 14, 2016) 81 FR

30089 (May 13, 2016) (“Business Conduct Adopting Release”).

213

See Section V.B, infra.

214

Based on an analysis of regulatory filings, as of December 31, 2017, there are 3,523

broker-dealers that employed full-time registered representatives and were doing a public

business; these broker-dealers each employed on average 75.8 registered representatives,

or 267,043 in total. See Section V.B, infra.

- 62 -

Entities215 have applied for relief from CEA 4s(b)(6)216 (the analogous provision to Exchange

Act Section 15F(b)(6)217 for SBS Entities) for determination by NFA that, had the associated

person applied for registration as an associated person of a Swap Entity, notwithstanding

statutory disqualification, the application would have been granted.218 NFA has informed

Commission staff that, from October 11, 2012 to June 30, 2018, NFA determined that in 13 out

of 15 requests NFA would have granted registration with respect to the associated person subject

to a statutory disqualification.219

Accordingly, based on that available data, the Commission estimates that, on an average

annual basis, SBS Entities will seek relief in accordance with Rule of Practice 194 for up to five

natural persons subject to a statutory disqualification, and SBS Entities would provide notices

pursuant to Rule of Practice 194(h)(2)(iii) for up to five natural persons.

Therefore, the Commission anticipates that, on an average annual basis, SBS Entities

would file up to five applications under Rule of Practice 194 with respect to associated persons

that are natural persons and five notices for natural persons under Rule of Practice 194(h)(2)(iii).

Total Burden Estimates Relating to Rule of Practice 194

It is likely that the time necessary to complete an application under Rule of Practice 194

215

See CFTC Provisionally Registered Swap Dealers as of October 11, 2018,

https://www.cftc.gov/LawRegulation/DoddFrankAct/registerswapdealer.html, last

accessed November 6, 2018.

216

7 U.S.C. 6s(b)(6).

217

15 U.S.C. 78o-10(b)(6); see Note 11, supra.

218

See EasyFile AP Statutory Disqualification Form Submission, NFA,

https://www.nfa.futures.org/NFA-electronic-filings/easyFile-statutorydisqualification.HTML.

219

Of the 15 requests, for one, an application for registration was filed and subsequently

withdrawn and for the other, the individual was no longer employed by the firm.

- 63 -

will vary depending on the number of exhibits required to be submitted in accordance with Rule

of Practice 194(d), and the amount of information that would need to be discussed in the written

statement, as specified in Rule of Practice 194(e).

Based on the Commission staff’s estimates and experience,220 the Commission estimates

that for associated persons that are natural persons it would take SBS Entities approximately 30

hours to research the questions, and complete and file an application under Rule of Practice 194.

In addition, the Commission believes that the average time necessary for an SBS Entity to

research the questions, complete and file a notice under Rule of Practice 194(h)(2)(iii) would be

less than for a full application under Rule of Practice 194 and the Commission estimates that it

would take approximately 6 hours.221

Given that the Commission estimates that, on an average annual basis, there will be up to

five applications under Rule of Practice 194 with respect to associated persons that are natural

persons, and up to five notices under Rule of Practice 194(h)(2)(iii), the Commission estimates

220

For example, based on the experience relative to Form BD, the Commission has

estimated the average time necessary for an SBS Entity to research the questions and

complete and file a Form SBSE for an entity, including the accompanying schedules and

disclosure reporting pages—which solicit information regarding statutory

disqualification—to be approximately one work week, or 40 hours. However, the

Commission has estimated that it would take an SBS Entity three-quarters of the time to

make a similar application on behalf of a natural person, or in this case, 30 hours per

natural person. See Proposing Release, 80 FR at 51707. Additionally, as noted above,

Rule of Practice 194, as adopted, makes Schedule C to Forms SBSE, SBSE-A, and

SBSE-BD unnecessary. The elimination of Schedule C with respect to those Forms is

expected to separately reduce the time burden on SBS Entities unrelated to the time

burdens otherwise associated with Rule of Practice 194.

221

Although the Commission did not receive any comments on the time burden for

completing a notice under Rule of Practice 194, we have decided to increase the estimate

of 3 hours per notice to 6 hours per notice to reflect that it may take an SBS Entity,

especially one doing this for the first time, longer to research the questions, complete and

file a notice than the proposed 3 hours per notice.

- 64 -

the total burden associated with filing such applications and notices on average to be 180 hours

on an annual basis.222

Confidentiality

As stated above, under both the proposed and adopted approach, orders and notices under

Rule of Practice 194 will be made publicly available on the Commission’s website, whereas

applications and supporting materials will be kept confidential, subject to the existing statutory

and regulatory framework with respect to the public availability of such materials, including the

FOIA,223 the Exchange Act,224 and applicable Commission rules.225

ECONOMIC ANALYSIS

Broad Economic Considerations

On August 5, 2015, the Commission adopted final rules and forms establishing the

registration process for SBS Entities.226 Those rules reference the events in the existing

definition of “statutory disqualification” in Exchange Act Section 3(a)(39)(A) through (F)227 and

apply them to Exchange Act Section 15F(b)(6). This definition disqualifies associated persons

from effecting or being involved in effecting security-based swaps for violations of the securities

laws, but also for all felonies and certain misdemeanors, including felonies and misdemeanors

222

This estimate is based on the following: [((30 hours) x (up to 5 SBS Entities applying

with respect to associated persons that are natural persons)) + (6 hours) x (up to 5 SBS

Entities filing notices under Rule of Practice 194(h)(2)(iii))] = 180 hours total.

223

See 5 U.S.C. 552, et seq.

See 15 U.S.C. 78x.

See, e.g., 17 CFR 200.80; 17 CFR 201.190; 17 CFR 240.24b-2.

See Registration Adopting Release.

224

225

226

227

See 15 U.S.C. 78o-10(b)(6)(A) through (F).

- 65 -

not related to the securities laws and/or financial markets.228 Once compliance with the

registration process is required, registered SBS Entities will be unable, absent Commission

action, to utilize any associated person, including entities and natural persons with potentially

valuable capabilities, skills or expertise, to effect or be involved in effecting security-based

swaps if the person has been disqualified for any reason, including for non-investment-related

conduct that may not pose a risk to security-based swap market participants.229

Exchange Act Section 15F(b)(6) gives the Commission flexibility to address situations

involving statutorily disqualified associated persons. Specifically, under this section, the

prohibition with respect to statutorily disqualified persons applies “[e]xcept to the extent

otherwise specifically provided by rule, regulation, or order of the Commission.”230 This

statutory provision gives the Commission discretion to determine that a statutorily disqualified

person may effect or be involved in effecting security-based swaps on behalf of an SBS Entity.

Exchange Act Section 15F(b)(6), however, does not specify what information must be provided

to the Commission when an SBS Entity seeks relief, nor does it set forth the standard under

which the Commission would evaluate requests for relief. Rule of Practice 194 is intended to

establish a framework for SBS Entities seeking such relief from the statutory prohibition in

Exchange Act Section 15F(b)(6).

We are mindful of the economic effects, including the costs and benefits, of our rule.

228

15 U.S.C. 78c(a)(39)(A) through (F).

229

The final SBS Entity registration rules also require the Chief Compliance Officer of an

SBS Entity, or his or her designee, to certify on its registration form that none of its

associated persons that effect or are involved in effecting security-based swaps on its

behalf are subject to a statutory disqualification. See Registration Adopting Release, at

Section II.B.3.

230

See 15 U.S.C. 78o-10(b)(6).

- 66 -

Section 3(f) of the Exchange Act provides that whenever the Commission is engaged in

rulemaking pursuant to the Exchange Act and is required to consider or determine whether an

action is necessary or appropriate in the public interest, the Commission shall also consider, in

addition to the protection of investors, whether the action will promote efficiency, competition,

and capital formation.231 In addition, Section 23(a)(2) of the Exchange Act requires the

Commission, when making rules under the Exchange Act, to consider the impact such rules

would have on competition.232 Exchange Act Section 23(a)(2) also provides that the

Commission shall not adopt any rule which would impose a burden on competition that is not

necessary or appropriate in furtherance of the purposes of the Exchange Act.

In the Proposing Release, the Commission solicited comment on all aspects of the costs

and benefits associated with the rule, including any effect the rule may have on efficiency,

competition, and capital formation. The Commission has considered these comments, as

discussed in greater detail in the sections that follow. The analysis below addresses the likely

economic effects of the final Rule of Practice 194, including the benefits and costs of the final

rule, and their potential impact on efficiency, competition, and capital formation.

In the Proposing Release, the Commission noted that the inability of a statutorily

disqualified associated person to effect or be involved in effecting security-based swaps on

behalf of an SBS Entity creates a disincentive against underlying misconduct by an associated

person.233 We continue to believe that limiting the involvement of statutorily disqualified

associated persons in security-based swap markets on behalf of SBS Entities may lower

231

232

233

See 15 U.S.C. 78c(f).

See 15 U.S.C. 78w(a)(2).

See Proposing Release, 80 FR at 51716.

- 67 -

compliance and counterparty risks arising from disqualification, facilitate competition among

higher quality SBS Entities, and enhance counterparty protections, supervision and integrity of

security-based swap markets.234 However, we continue to recognize that limits on statutorily

disqualified associated persons may require SBS Entities to undergo business restructuring in the

event of disqualification or to apply with the Commission for relief, resulting in costs for SBS

Entities, such as costs of searching for and initiating relationships with new associated persons or

legal reorganization.

We also recognize that the above costs of SBS Entities may be passed on to

counterparties in the form of higher transaction costs or reduced liquidity. Market participants

may value bilateral relationships with SBS Entities and searching for and initiating bilateral

relationships with new SBS Entities may involve additional direct costs for counterparties. For

example, security-based swaps are long-term contracts that are often renegotiated and, in the

absence of Rule of Practice 194, counterparties could price the potential future inability to

modify a contract, widening spreads. The Commission continues to recognize that where SBS

Entities must cease dealing activity with counterparties as a result of disqualification (pending

reorganization or resolution of application under Rule of Practice 194), other SBS Entities may

step in to intermediate transaction activity in security-based swap markets. The resulting effects

on competition will depend on whether SBS Entities that capture the newly available market

share are smaller participants, which could increase competition, or those that already enjoy a

degree of market power and are able to consolidate their position while the disqualified SBS

Entity is undergoing restructuring or awaiting a relief determination, which may decrease

competition, at least temporarily.

234

See, e.g., Public Citizen Letter; Better Markets Letter.

- 68 -

Moreover, our economic analysis recognizes that information about the conduct that gave

rise to statutory disqualification in the United States (e.g., by SEC orders, FINRA actions etc.) is

generally public. In addition, under the final SBS Entity registration rules, SBS Entities are

required to provide disciplinary history (criminal, regulatory action, civil judicial and financial

disclosures) information for SBS Entity control affiliates.235

While there is a dearth of evidence on misconduct in swap and security-based swap

markets, our economic analysis recognizes research that shows, in some settings:236 (i) past

misconduct may predict future misconduct risk, and some public disclosures may be informative

of future misconduct risk; (ii) capital markets may penalize some disclosed misconduct, and

market participants engaging in misconduct generally suffer reputational costs; (iii) entities may

disassociate from employees engaging in misconduct, but there may be a significant amount of

heterogeneity in the incidence of misconduct by natural persons across employer firms, and the

match between natural associated person and SBS Entities tends to be endogenous; and (iv) the

reduction in misconduct in a particular market can reduce the number of service providers, but

high prevalence of misconduct can reduce capital market participation.237

235

In conjunction with adopting Rule of Practice 194(c), the Commission is also removing

Schedule C from Forms SBSE, SBSE-A and SBSE-BD. Importantly, this change does

not eliminate questions 14A and 14B and corresponding disclosure reporting pages and

related obligations, and such information will continue to be available to market

participants. Under the final SBS Entity registration rules, SBS Entity applications on

Forms SBSE, SBSE-A, and SBSE-BD (including the Schedules and disclosure reporting

pages) filed with the Commission as required by Rule 15Fb2-1, will be made public. All

amendments to SBS Entity applications, required by Rule 15Fb2-3, will be made public.

SBS Entities’ Form SBSE-C certifications, required by Rules 15Fb2-1 and 15Fb6-2 and

filed as part of their applications, will be made public. See 80 FR at 48995.

236

See Sections V.B and V.C.2, infra.

237

We also recognize that there is a body of behavioral finance research, commonly focused

on retail investor behavior, and a law and economics literature on compensatory and

- 69 -

While we seek to identify the closest parallel regulatory and market settings, we are

cautious in interpreting these results. We recognize that the unique characteristics of securitybased swap markets may reduce or strengthen these effects. For example, as shown in the

economic baseline, security-based swap markets are dealer markets, with the overwhelming bulk

of activity taking place among dealers and between dealers and non-dealer financial entities.

The Commission estimates that dealing activity in security-based swap markets is highly

concentrated among a small number of dealers, with the top five dealer accounts intermediating

approximately 55 percent of all SBS Entity transactions,238 and reaching hundreds and even

thousands of counterparties. At the same time, a median non-dealer counterparty transacts in

security-based swaps with two security-based swap dealers (“SBS Dealers”) in over-the-counter

security-based swaps (and an average with three SBS Dealers), outside of registered exchanges

or swap execution facilities. If several SBS Dealers with a large market share facing thousands

of counterparties are disqualified at the same time and must immediately cease dealing activity, a

punitive damages, deterrence, moral heuristics, and related issues. For example, we have

received comment citing Schkade et al. (1999), which presented evidence from two

experiments designed to test whether individuals believe in optimal deterrence. They

concluded that individuals may not spontaneously think in terms of optimal deterrence

and their proposed punishments do not differ depending on the probability of deterrence.

See Better Markets Letter at 2. See also David Schkade, Cass R. Sunstein, & Daniel

Kahneman, Do People Want Optimal Deterrence? (John M. Olin Program in Law and

Economics, Working Paper No. 77, 1999), available at

http://chicagounbound.uchicago.edu/cgi/viewcontent.cgi?article=1173&context=law_and

_economics, last accessed Sept. 28, 2018. We believe the applicability of this body of

literature to statutory disqualification in security-based swap markets is likely limited due

to the unique features of these markets (such as dealer concentration increasing the role

of dealer reputation, public nature of most misconduct, and institutional nature of the

investor clientele).

238

The Commission staff analysis of DTCC Derivatives Repository Limited Trade

Information Warehouse transaction records indicates that approximately 99 percent of

single-name CDS price-forming transactions in 2017 involved an ISDA-recognized

dealer.

- 70 -

risk of market-wide disruption may exist. However, the concentrated nature of security-based

swap dealing activity limits the ability of customers to choose SBS Entity counterparties that do

not rely on disqualified persons and corresponding reputational incentives. Moreover, securitybased swaps may also be more complex and opaque than equity or bonds, increasing information

asymmetries between SBS Entities and their clients. Nevertheless, institutional clients may be

more informed and may process disclosures more efficiently than retail investors in parallel

settings, reducing the impact of these asymmetries.

The Commission recognizes that the final rules may directly and indirectly impact SBS

Entities, as well as counterparties of SBS Entities and other market participants. We have

considered these economic effects as they pertain to individual provisions and rule alternatives.

As we have noted above, Exchange Act Section 15F(b)(6) gives the Commission authority to

provide relief from the statutory prohibition against associating with disqualified persons by

rule, regulation, or order, and the Commission is not bound by any particular approach in

exercising its discretion to provide relief. In particular, in the absence of a disqualification

review process, SBS Entities would still be able to apply for relief from Exchange Act Section

15F(b)(6), and the Commission would be able to issue an order either granting or denying relief.

The Commission continues to believe that when determining whether to make an

application for relief, SBS Entities will weigh the scarcity and value of the particular skills of an

associated person against any application and reputational costs from associating with

disqualified persons and their beliefs as to the likelihood of an approval or denial decision by the

Commission. To the extent that the final Rule of Practice 194 (compared with the availability of

and process for obtaining relief without the Rule) alters an SBS Entity’s assessment of either

application and reputational costs, its beliefs about likely outcomes, or its decision to apply with

- 71 -

the Commission, economic costs and benefits may accrue to SBS Entities, their associated

persons, and counterparties to SBS Entities.

The Commission believes that the primary benefits of the final approach include:

(i) providing SBS Entities clarity regarding the items to be addressed, the information and

supporting documentation to be submitted, and the standard of review (affecting application

costs and beliefs about likely outcomes); (ii) ensuring that the Commission has sufficient

information to make a meaningful determination that allowing an SBS Entity to permit

statutorily disqualified associated persons to effect or be involved in effecting security-based

swaps is consistent with the public interest; (iii) streamlining the treatment of statutorily

disqualified associated person entities across integrated swap and security-based swap markets;

and (iv) mitigating the risk of business disruptions to SBS Entities and their counterparties from

disqualification of associated person entities. We note that, regardless of the regulatory approach

chosen, SBS Entities may find it less costly to disassociate with, or reassign, disqualified persons

than to apply for relief, as discussed in greater detail in the Economic Baseline.

Economic Baseline

To assess the economic impact of Rule of Practice 194, the Commission is using as a

baseline the regulation of SBS Entities as it exists at the time of this release, including applicable

rules we have adopted, but excluding rules we have proposed but not yet finalized. The analysis

includes the statutory and regulatory provisions that currently govern the security-based swap

market pursuant to the Dodd-Frank Act, rules adopted in the Intermediary Definitions Adopting

Release, the Cross-Border Adopting Release, and the SDR Rules and Core Principles Adopting

Release. Additionally, our baseline includes rules that have been adopted but for which

- 72 -

compliance is not yet required, including the Registration Adopting Release,239 and the Business

Conduct Adopting Release,240 as these final rules—even if compliance is not yet required—are

part of the existing regulatory landscape that market participants expect to govern their securitybased swap activity.

There are currently no registered entities that are required to comply with either the

statutory disqualification certifications in the final SBS Entity registration rules or the statutory

prohibition in Exchange Act Section 15F(b)(6). However, to perform a meaningful assessment

of the final Rule of Practice 194, our economic baseline presumes that compliance with the final

SBS Entity registration rules is required as set forth in Exchange Act Rules 15Fb1-1 through

15Fb6-2,241 the general prohibition in Exchange Act Section 15F(b)(6)242 is in effect, and the

Commission may use its authority under Exchange Act Section 15F(b)(6) to issue an order

providing relief.

Security-Based Swap Market Activity and Participants

Available Data from the Security-Based Swap Market

The Commission’s understanding of the market is informed, in part, by available data on

security-based swap transactions, though the Commission acknowledges that limitations in the

data limit the extent to which it is possible to quantitatively characterize the market.243 Since

these data do not cover the entire market, the Commission has analyzed market activity using a

239

240

241

242

243

See Registration Adopting Release, 80 FR at 48997-9003.

See Business Conduct Adopting Release, 81 FR at 29960.

Notably, the final SBS Entity registration rules included Exchange Act Rule 15Fb6-1, 17

CFR 240.15Fb6-1. See Note 5, supra, for background on Exchange Act Rule 15Fb6-1.

See 15 U.S.C. 78o-10(b)(6).

The Commission also relies on qualitative information regarding market structure and

evolving market practices provided by commenters and knowledge and expertise of

Commission staff.

- 73 -

sample of transactions that includes only certain segments of the market. The Commission

believes, however, that the data underlying this analysis provides reasonably comprehensive

information regarding single-name credit default swap (“CDS”) transactions and the composition

of the participants in the single-name CDS market.

Specifically, the analysis of the current state of the security-based swap market is based

on data obtained from the DTCC Derivatives Repository Limited Trade Information Warehouse

(“TIW”), especially data regarding the activity of market participants in the single-name CDS

market during the period from 2006 to 2017.244 Although the definition of security-based swaps

is not limited to single-name CDS,245 single-name CDS contracts make up a majority of securitybased swaps, and we believe that the single-name CDS data are sufficiently representative of the

market to inform our analysis of the current security-based swap market. According to data

published by the Bank for International Settlements (“BIS”), the global notional amount

outstanding in single-name CDS was approximately $4.6 trillion,246 in multi-name index CDS

was approximately $4.4 trillion, and in multi-name, non-index CDS was approximately $343

244

In prior releases, the Commission has examined data for other time periods. For

example, in the Business Conduct Standards Adopting Release, the Commission

presented an analysis of TIW data for November 2006 through December 2014. While

the exact numbers of various groups of transacting agents and account holders in that

analysis differ from the figures reported in this section (for a longer time period), we do

not observe significant structural differences in market participation. Compare 81 FR at

30102 (Tables 1 and 2) with Tables 1 and 2 below.

245

While other repositories may collect data on transactions in total return swaps on equity

and debt, we do not currently have access to such data for these products (or other

products that are security-based swaps). Additionally, the Commission explains below

that data related to single-name CDS provides reasonably comprehensive information for

the purpose of this analysis.

The global notional amount outstanding represents the total face amount used to calculate

payments under outstanding contracts. The gross market value is the cost of replacing all

open contracts at current market prices.

246

- 74 -

billion.247 The total gross market value outstanding in single-name CDS was approximately

$130 billion, and in multi-name CDS instruments was approximately $174 billion.248 The global

notional amount outstanding in equity forwards and swaps as of December 2017 was $3.21

trillion, with total gross market value of $197 billion.249

The Commission further notes that the data available from TIW does not encompass

those CDS transactions that both: (i) do not involve U.S. counterparties;250 and (ii) are based on

247

248

249

250

See BIS, Semi-annual OTC derivatives statistics at December 2017, Table 10.1,

https://www.bis.org/statistics/d10_1.pdf, last accessed May 18, 2018.

See id.

These totals include swaps and security-based swaps, as well as products that are

excluded from the definition of “swap,” such as certain equity forwards. See OTC,

Equity-Linked Derivatives Statistics, Table D8, https://www.bis.org/statistics/d8.pdf, last

accessed May 18, 2018. For the purposes of this analysis, the Commission assumes that

multi-name index CDS are not narrow-based index CDS and therefore, do not fall within

the security-based swap definition. See 15 U.S.C. 78c(a)(68)(A). See also Further

Definition of “Swap,” “Security-Based Swap,” and “Security-Based Swap Agreement”;

Mixed Swaps; Security-Based Swap Agreement Recordkeeping, 77 FR 48208. The

Commission also assumes that all instruments reported as equity forwards and swaps are

security-based swaps, potentially resulting in underestimation of the proportion of the

security-based swap market represented by single-name CDS. Therefore, when measured

on the basis of gross notional outstanding single-name CDS contracts appear to constitute

roughly 59% of the security-based swap market. Although the BIS data reflects the

global OTC derivatives market, and not just the U.S. market, the Commission has no

reason to believe that these ratios differ significantly in the U.S. market.

Following publication of the Warehouse Trust Guidance on CDS data access, TIW

surveyed market participants, asking for the physical address associated with each of

their accounts (i.e., where the account is organized as a legal entity). This physical

address is designated the registered office location by TIW. When an account

reports a registered office location, we have assumed that the registered office

location reflects the place of domicile for the fund or account. When an account

does not report a registered office location, we have assumed that the settlement

country reported by the investment adviser or parent entity to the fund or account is

the place of domicile. Thus, for purposes of this analysis, the Commission has

classified accounts as “U.S. counterparties” when they have reported a registered

office location in the United States. The Commission notes, however, that this

classification is not necessarily identical in all cases to the definition of U.S. person

under Rule 3a71-3(a)(4).

- 75 -

non-U.S. reference entities. Notwithstanding this limitation, the TIW single-name CDS data

should provide sufficient information to permit the Commission to identify the types of market

participants active in the security-based swap market and the general pattern of dealing within

that market.251

Affected SBS Entities

Final SBS Entity registration rules have been adopted, but compliance is not yet requir

This text is long and has been trimmed here. Open the source document for the complete record.

This is a copy of a public record, reproduced as it was published. It is not legal advice, and it may not be the version a court would rely on. Check the official source before you cite it.