De Minimis Exception to the Swap Dealer Definition

Federal RegisterJun 12, 2018

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COMMODITY FUTURES TRADING COMMISSION

17 CFR Part 1

RIN 3038-AE68

De Minimis Exception to the Swap Dealer Definition

AGENCY:

Commodity Futures Trading Commission.

ACTION:

Notice of proposed rulemaking.

SUMMARY:

The Commodity Futures Trading Commission (“Commission” or “CFTC”) is proposing to amend the de minimis exception within the “swap dealer” definition in the Commission's regulations by: Setting the aggregate gross notional amount threshold for the de minimis exception at $8 billion in swap dealing activity entered into by a person over the preceding 12 months; excepting from consideration when calculating the aggregate gross notional amount of a person's swap dealing activity for purposes of the de minimis threshold: Swaps entered into with a customer by an insured depository institution in connection with originating a loan to that customer; swaps entered into to hedge financial or physical positions; and swaps resulting from multilateral portfolio compression exercises; and providing that the Commission may determine the methodology to be used to calculate the notional amount for any group, category, type, or class of swaps, and delegating to the Director of the Division of Swap Dealer and Intermediary Oversight (“DSIO”) the authority to make such determinations (collectively, the “Proposal”). In addition, the Commission is seeking comment on the following additional potential changes to the de minimis exception: Adding a minimum dealing counterparty count threshold and a minimum dealing transaction count threshold; excepting from consideration when calculating the aggregate gross notional amount for purposes of the de minimis threshold swaps that are exchange-traded and/or cleared; and excepting from consideration when calculating the aggregate gross notional amount for purposes of the de minimis threshold swaps that are categorized as non-deliverable forward transactions.

DATES:

Comments must be received on or before August 13, 2018.

ADDRESSES:

You may submit comments, identified by RIN 3038-AE68, by any of the following methods:

•

CFTC Comments Portal: https://comments.cftc.gov

. Select the “Submit Comments” link for this rulemaking and follow the instructions on the Public Comment Form.

•

Mail:

Send to Christopher Kirkpatrick, Secretary of the Commission, Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st Street NW, Washington, DC 20581.

•

Hand Delivery/Courier:

Follow the same instructions as for Mail, above.

Please submit your comments using only one of these methods. To avoid possible delays with mail or in-person deliveries, submissions through the CFTC Comments Portal are encouraged.

All comments must be submitted in English, or if not, accompanied by an English translation. Comments will be posted as received to

https://comments.cftc.gov

. You should submit only information that you wish to make available publicly. If you wish for the Commission to consider information that is exempt from disclosure under the Freedom of Information Act (“FOIA”),

a petition for confidential treatment of the exempt information may be submitted according to the procedures set forth in § 145.9 of the Commission's regulations.

5 U.S.C. 552.

17 CFR 145.9. Commission regulations referred to herein are found at 17 CFR chapter I.

The Commission reserves the right, but shall have no obligation, to review, pre-screen, filter, redact, refuse, or remove any or all of your submission from

https://comments.cftc.gov

that it may deem to be inappropriate for publication, such as obscene language. All submissions that have been redacted or removed that contain comments on the merits of the rulemaking will be retained in the public comment file and will be considered as required under the Administrative Procedure Act and other applicable laws, and may be accessible under FOIA.

FOR FURTHER INFORMATION CONTACT:

Matthew Kulkin, Director, 202-418-5213,

mkulkin@cftc.gov

, Erik Remmler, Deputy Director, 202-418-7630,

eremmler@cftc.gov

, Rajal Patel, Associate Director, 202-418-5261,

rpatel@cftc.gov

, or Jeffrey Hasterok, Data and Risk Analyst, 646-746-9736,

jhasterok@cftc.gov

, Division of Swap Dealer and Intermediary Oversight; Bruce Tuckman, Chief Economist, 202-418-5624,

btuckman@cftc.gov

or Scott Mixon, Associate Director, 202-418-5771,

smixon@cftc.gov

, Office of the Chief Economist; Mark Fajfar, Assistant General Counsel, 202-418-6636,

mfajfar@cftc.gov

, Office of General Counsel, Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st Street NW, Washington, DC 20581.

SUPPLEMENTARY INFORMATION:

Table of Contents

I. Background

A. Statutory Authority

B. Regulatory History

C. Policy Considerations

1. Swap Dealer Registration Policy Considerations

2. De Minimis Exception Policy Considerations

D. De Minimis Calculation

II. The Proposal

A. $8 Billion De Minimis Threshold

1. Methodology

2. Data and Analysis

3. Request for Comments

B. Swaps Entered Into by Insured Depository Institutions in Connection With Loans to Customers

1. Background

2. Proposal

3. Request for Comments

C. Swaps Entered Into To Hedge Financial or Physical Positions

1. Background and Proposal

2. Request for Comments

D. Swaps Resulting From Multilateral Portfolio Compression Exercises

1. Background and Proposal

2. Request for Comments

E. Methodology for Calculating Notional Amounts

1. Background and Proposal

2. Request for Comments

III. Other Considerations

A. Dealing Counterparty Count and Dealing Transaction Count Thresholds

1. Background

2. Potential Thresholds

B. Exchange-Traded and/or Cleared Swaps

C. Non-Deliverable Forwards

IV. Related Matters

A. Regulatory Flexibility Act

B. Paperwork Reduction Act

C. Cost-Benefit Considerations

1. $8 Billion De Minimis Threshold

2. Swaps Entered Into by Insured Depository Institutions in Connection With Loans to Customers

3. Swaps Entered Into To Hedge Financial or Physical Positions

4. Swaps Resulting From Multilateral Portfolio Compression Exercises

5. Methodology for Calculating Notional Amounts

6. Request for Comment

D. Antitrust Considerations

I. Background

A. Statutory Authority

The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) was signed into law on July 21, 2010.

Title VII of the Dodd-Frank Act established a statutory framework to reduce risk, increase transparency, and promote market integrity within the

financial system by regulating the swap market. Among other things, the Dodd-Frank Act amended the Commodity Exchange Act (“CEA”)

to provide for the registration and regulation of swap dealers (“SDs”).

The Dodd-Frank Act directed the CFTC and the U.S. Securities and Exchange Commission (“SEC” and together with the CFTC, “Commissions”) to jointly further define, among other terms, the term “swap dealer,”

and to exempt from designation as an SD a person that engages in a de minimis quantity of swap dealing.

Public Law 111-203, 124 Stat. 1376 (2010), available at

https://www.cftc.gov/idc/groups/public/@swaps/documents/file/hr4173_enrolledbill.pdf

The CEA is found at 7 U.S.C. 1,

et seq.

See

7 U.S.C. 6s(a)(1).

Dodd-Frank Act section 712(d)(1).

See

the definitions of “swap dealer” in CEA section 1a(49) and § 1.3 of Commission regulations. 7 U.S.C. 1a(49); 17 CFR 1.3.

See

Dodd-Frank Act section 721.

CEA section 1a(49) defines the term “swap dealer” to include any person who: (1) Holds itself out as a dealer in swaps; (2) makes a market in swaps; (3) regularly enters into swaps with counterparties as an ordinary course of business for its own account; or (4) engages in any activity causing the person to be commonly known in the trade as a dealer or market maker in swaps (collectively referred to as “swap dealing,” “swap dealing activity,” or “dealing activity”).

The statute also requires the Commission to promulgate regulations to establish factors with respect to the making of a determination to exempt from designation as an SD an entity engaged in a de minimis quantity of swap dealing.

CEA section 1a(49) further provides that in no event shall an insured depository institution be considered to be an SD to the extent it offers to enter into a swap with a customer in connection with originating a loan with that customer.

7 U.S.C. 1a(49)(A). In general, a person that satisfies any one of these prongs is deemed to be engaged in swap dealing activity.

7 U.S.C. 1a(49)(D).

7 U.S.C. 1a(49)(A).

B. Regulatory History

Pursuant to the statutory requirements, in December 2010, the Commissions issued a proposing release further defining, among other things, the term “swap dealer” (“SD Definition Proposing Release”).

Subsequently, in May 2012, the Commissions issued an adopting release (“SD Definition Adopting Release”)

further defining, among other things, the term “swap dealer” in § 1.3 of the CFTC's regulations (the “SD Definition”) and providing for a de minimis exception in paragraph (4) therein.

The de minimis exception states that a person shall not be deemed to be an SD unless its swaps connected with swap dealing activities exceed an aggregate gross notional amount (“AGNA”) threshold of $3 billion (measured over the prior 12-month period), subject to a phase-in period during which the AGNA threshold is set at $8 billion.

The phase-in period was originally scheduled to terminate on December 31, 2017, and the de minimis threshold was scheduled to decrease to $3 billion at that time. However, as discussed below, pursuant to paragraph (4)(i)(D) of the SD Definition, the Commission issued two successive orders to set new termination dates, and the phase-in period is currently scheduled to terminate on December 31, 2019.

Further Definition of “Swap Dealer,” “Security-Based Swap Dealer,” “Major Swap Participant,” “Major Security-Based Swap Participant” and “Eligible Contract Participant,” 75 FR 80174 (proposed Dec. 21, 2010).

See

17 CFR 1.3, Swap dealer. As discussed in more detail in section II, the Commission notes that a joint rulemaking with the SEC is not required to amend the de minimis exception, pursuant to paragraph (4)(v) of the SD Definition.

See

17 CFR 1.3, Swap dealer, paragraph (4)(v); 77 FR at 30634 n.464.

17 CFR 1.3, Swap dealer, paragraph (4)(i)(A). Paragraph (4)(i)(A) also provides for a de minimis threshold of $25 million with regard to swaps in which the counterparty is a “special entity” (excluding “utility special entities” as provided in paragraph (4)(i)(B) of the SD Definition) as defined in CEA section 4s(h)(2)(C), 7 U.S.C. 6s(h)(2)(C). This proposal would not change the de minimis threshold for swaps with special entities.

See

Order Establishing De Minimis Threshold Phase-In Termination Date, 81 FR 71605 (Oct. 18, 2016); Order Establishing a New De Minimis Threshold Phase-In Termination Date, 82 FR 50309 (Oct. 31, 2017).

When the $3 billion de minimis exception threshold was established, the Commissions explained that the information then available regarding certain portions of the swap market was limited, and that they expected more information to be available in the future (following the implementation of swap data reporting), which would enable the Commissions to make a more informed assessment of the proper level for the de minimis exception and to revise it as appropriate.

In establishing the AGNA threshold of $3 billion, the Commissions stated that “there may be some uncertainty regarding the exact level of swap dealing activity, measured in terms of a gross notional amount of swaps that should be regarded as de minimis.”

In light of this uncertainty, the Commissions provided for the phase-in period during which the de minimis threshold was set at $8 billion, explaining that this would: (1) Permit market participants and the Commissions to become familiar with the application of the SD Definition and regulatory requirements; (2) afford the Commissions time to study the swap market as it evolved and to consider new information about the swap market that became available (

e.g.,

through swap data reporting); (3) provide potential SDs that engage in smaller amounts of activity additional time to adjust their business practices, while at the same time preserving a focus on the regulation of the largest and most significant SDs; and (4) address comments suggesting that the de minimis threshold be set higher initially to provide for efficient use of regulatory resources and that implementation of SD requirements in general be phased.

See

77 FR at 30632-34. In making their determination, the Commissions considered the limited and incomplete swap market data that was available at that time and concluded that the $3 billion level appropriately considers the relevant regulatory goals.

Id.

at 30632. The Commissions found merit in determining the threshold by multiplying the estimated size of the domestic swap market by a 0.001 percent ratio suggested by several commenters.

Id.

at 30633.

Id.

at 30633.

See id.

at 30633-34.

In recognition of these limitations and in anticipation of additional swap market data becoming available to the CFTC through the reporting of transactions to swap data repositories (“SDRs”), paragraph (4)(ii)(B) of the SD Definition was adopted, which directed CFTC staff to complete and publish for public comment a report on topics relating to the definition of the term “swap dealer” and the de minimis threshold as appropriate, based on the availability of data and information.

Paragraph (4)(ii)(C) of the SD Definition provided that after giving due consideration to the staff report and any associated public comment, the CFTC may either set a termination date for the phase-in period or issue a notice of proposed rulemaking to modify the de minimis exception.

17 CFR 1.3, Swap dealer, paragraph (4)(ii)(B).

17 CFR 1.3, Swap dealer, paragraph (4)(ii)(C).

In the interest of providing ample opportunity for public input on the relevant policy considerations, as well as on staff's preliminary analysis of the SDR data, and to ensure that the Commission had as much information and data as practicable for purposes of its determinations with respect to the de minimis exception, in November 2015 staff issued a preliminary report concerning the de minimis exception (“Preliminary Staff Report”).

The

Preliminary Staff Report sought to analyze the available swap data, in conjunction with relevant policy considerations, to assess the $8 billion AGNA de minimis threshold and potential alternatives to the AGNA de minimis exception.

Commission staff received 24 comment letters responsive to the Preliminary Staff Report.

See

Swap Dealer De Minimis Exception Preliminary Report (Nov. 18, 2015), available at

http://www.cftc.gov/idc/groups/public/@swaps/documents/file/dfreport_sddeminis_1115.pdf

For the Preliminary Staff Report, staff analyzed data from April 1, 2014 through March 31, 2015.

The comment letters are available on the Commission website at

http://comments.cftc.gov/PublicComments/CommentList.aspx?id=1634

After consideration of the public comments received in response to the Preliminary Staff Report, and further data analysis, in August 2016 staff issued a final staff report

concerning the de minimis exception (“Final Staff Report,” and together with the Preliminary Staff Report, “Staff Reports”). The Final Staff Report refreshed much of the analysis conducted in the Preliminary Staff Report for a subsequent review period,

and similar to the Preliminary Staff Report, discussed observations with respect to the $8 billion de minimis threshold, as well as the de minimis exception alternatives considered in the Preliminary Staff Report, in light of refreshed data and comments received.

See

Swap Dealer De Minimis Exception Final Staff Report (Aug. 15, 2016), available at

http://www.cftc.gov/idc/groups/public/@swaps/documents/file/dfreport_sddeminis081516.pdf

For the Final Staff Report, staff analyzed data from April 1, 2015 through March 31, 2016.

The data analysis in the Staff Reports provided some insights into the effectiveness of the de minimis exception as currently implemented. For example, staff analyzed the number of swap transactions involving at least one registered SD,

which is indicative of the extent to which swaps are subject to SD regulation at the current $8 billion threshold. Data reviewed for the Final Staff Report indicated that approximately 96 percent of all reported swap transactions involved at least one registered SD.

Given that all of the CEA section 4s requirements have not yet been implemented by regulation, the term “registered SD” refers to an entity that is a provisionally registered SD.

See

17 CFR 3.2(c)(3)(iii).

See

section II.A below for additional discussion regarding the Staff Reports.

To provide additional time for more information to become available to reassess the de minimis exception, in October 2016 the Commission issued an order, pursuant to paragraph (4)(ii)(C)(1) of the SD Definition, establishing December 31, 2018, as the new termination date for the $8 billion phase-in period.

As noted above, absent any action, the phase-in period would have terminated, and the de minimis threshold would have decreased to $3 billion, on December 31, 2017. To enable staff to conduct additional analysis, in October 2017 the Commission further extended the phase-in period to December 31, 2019.

Generally, the extensions provided additional time for Commission staff to conduct more complete data analysis regarding the de minimis exception, and gave market participants additional time to begin preparing for a change, if any, to the de minimis exception threshold.

81 FR 71605.

82 FR 50309.

C. Policy Considerations

1. Swap Dealer Registration Policy Considerations

In adopting the SD Definition, the Commissions identified the policy goals underlying SD registration and regulation generally to include reducing systemic risk, increasing counterparty protections, and increasing market efficiency, orderliness, and transparency.

Reducing systemic risk:

The Dodd-Frank Act was enacted in the wake of the financial crisis of 2008, in significant part, to reduce systemic risk, including the risk to the broader U.S. financial system created by interconnections in the swap market.

Pursuant to the Dodd-Frank Act, the Commission has adopted regulations designed to mitigate the potential systemic risk inherent in the previously unregulated swap market.

Dodd-Frank Act, Preamble (indicating that the purpose of the Dodd-Frank Act was to promote the financial stability of the United States by improving accountability and transparency in the financial system, to end “too big to fail,” to protect the American taxpayer by ending bailouts, to protect consumers from abusive financial services practices, and for other purposes).

For example, registered SDs have specific requirements for risk management programs and margin.

See, e.g.,

17 CFR 23.600; 17 CFR 23.150-23.161.

Increasing counterparty protections:

Providing regulatory protections for swap counterparties who may be less experienced or knowledgeable about the swap products offered by SDs (particularly end-users who use swaps for hedging or investment purposes) is a fundamental policy goal advanced by the regulation of SDs.

The Commissions recognized that a narrower or smaller de minimis exception would increase the number of counterparties that could potentially benefit from those regulatory protections.

For example, registered SDs are subject to rigorous external business conduct standard regulations designed to provide counterparty protections.

See, e.g.,

17 CFR 23.400-23.451.

77 FR at 30628 (“On the one hand, a de minimis exception, by its nature, will eliminate key counterparty protections provided by Title VII for particular users of swaps and security-based swaps.”).

Increasing market efficiency, orderliness, and transparency:

Increasing swap market efficiency, orderliness, and transparency is another goal of SD regulation.

Regulations requiring SDs, for example, to keep detailed daily trading records, report trade information, and engage in portfolio reconciliation and compression exercises help achieve these market benefits.

Id.

at 30629 (“The statutory requirements that apply to [SDs] . . . include requirements . . . aimed at helping to promote effective operation and transparency of the swap . . . markets.”).

Category

Registered

SDs

Unregistered

entities

Bank/Bank subsidiary/Bank affiliate

Non-bank financial entity (

e.g.,

traders without physical assets)

Other (

e.g.,

commercial entities, such as consumers, merchants, producers, or traders of physical commodities, who appear to be engaging in some swap dealing activity)

Total

Analysis of SDR data indicates that were 86 In-Scope Entities with 10 or more NFC swap counterparties during the review period. As seen in Table 12, of these 86 entities, 44 are registered SDs and 42 are unregistered entities. Of the 42 unregistered entities, 22 have a primary business that is non-financial in nature. Specifically, these are commercial entities, such as consumers, merchants, producers, or traders of physical commodities, who appear to be engaging in some swap dealing activity. Moreover, half of the 12 unregistered banks or bank affiliates active in the NFC swap market are small or mid-sized in nature. Further, of the 42 unregistered entities, only seven have AGNA of swaps activity greater than $3 billion in IRS, CDS, FX swaps, and equity swaps, indicating that the majority of these entities are primarily or exclusively active in NFC swaps.

In addition to the fact that entering into NFC swaps is the primary swaps activity for the majority of these 42 entities, a review of these entities' transaction data indicates that they appear to provide NFC swaps generally to smaller end-user counterparties, potentially to permit these counterparties to hedge risks associated with physical commodities.

Five have greater than $8 billion in AGNA of swaps activity.

The transaction and counterparty totals are not mutually exclusive, as some of the 44 registered SDs transact with the 42 unregistered entities. The 44 registered SDs also transact with some of the same counterparties as the 42 unregistered entities.

Table 13—NFC Swap Transaction Statistics

In-Scope Entities

[Minimum 10 NFC counterparties]

Statistic

Registered

SDs

(44 total)

Unregistered

entities

(42 total)

Transactions:

Mean

12,638

2,195

Total

546,656

85,025

Total as Percent of all NFC transactions

86%

13%

Counterparties:

Mean

176

Total

4,626

1,207

Total as Percent of all NFC counterparties

83%

22%

Table 13 indicates that registered SDs with 10 or more counterparties entered into 86 percent of the transactions in the NFC swap market, and faced 83 percent of counterparties in at least one transaction,

indicating that the existing $8 billion de minimis threshold has helped extend the benefits of SD registration to much of the NFC swap market. The trading activity of the 42 unregistered entities represents approximately 13 percent of the overall NFC swap market by transaction count. However, as compared to the existing 44 registered SDs with at least 10 counterparties, these 42 unregistered entities have significantly lower mean transaction and counterparty counts, indicating that they may only be providing ancillary dealing services to accommodate commercial end-user clients, and/or be engaged in non-swap dealing activity, such as hedging activity or proprietary trading.

Including existing registered SDs with fewer than 10 counterparties would only add 167 trades to the analysis.

Lacking notional-equivalent data for NFC swaps, it is unclear how many of the 42 entities would actually be subject to SD registration at any given de minimis threshold. It is possible that a portion of the swaps activity for some or all of these entities qualifies for the physical hedging exclusion in paragraph (6)(iii) of the SD Definition or is

otherwise not swap dealing activity, regardless of the de minimis threshold level.

100

Hypothetically, if all 42 entities registered, the percentage of all NFC swaps facing at least one registered SD would rise from approximately 86 percent to 98 percent.

The Commission believes that the available data, related policy considerations, and comments from market participants

101

demonstrate that maintaining an $8 billion threshold is also appropriate with respect to the NFC swap asset class.

101

See

Letters from BP, CDE, CMC, EDF, EEI/EPSA, FSR, IIB, IECA, ISDA, NGSA, and SIFMA,

supra

note 58.

First, a reduced de minimis threshold likely would have negative impacts on NFC swap liquidity. Specifically, some entities may reduce dealing to avoid registration and its related costs. Many of the entities identified in Table 12 that are not registered as SDs are non-financial in nature and trade in physical commodity markets, or are small or mid-sized banks. Based on analysis of data and comments from swap market participants, it is likely that much of the swap dealing by these entities serves small or mid-sized end-users in their localized markets. Often, the end-users served by these entities do not have trading relationships with larger, financial-entity SDs, and the end-users rely on these small to mid-sized and/or non-financial entities to access liquidity provided by larger dealers.

For example, the 42 unregistered In-Scope Entities described above entered into NFC swaps with 1,207 counterparties, 1,174 of which were not registered SDs. Of these 1,174 entities, 705 had no transactions with registered SDs. Almost all of the 705 entities are commercial end-users.

102

Of the 52,396 NFC swaps that these 705 entities entered into, 48,813 were entered into with the 42 unregistered In-Scope Entities discussed above.

103

Therefore, it is likely that these 705 entities are generally relying on the 42 unregistered In-Scope Entities for access to the NFC swap market. It is unclear if these 705 entities would be able to establish trading lines with registered SDs if some of the 42 entities reduced or eliminated their NFC swap dealing activities.

102

The 705 entities comprise 12.6 percent of the 5,578 counterparties who entered into NFC swaps.

103

The 48,413 NFC swaps comprise 7.6 percent of the 633,943 NFC swaps entered into during the review period.

If the de minimis threshold is decreased, the Commission is of the view that this would negatively affect swap market access and liquidity for commercial end-user counterparties of currently unregistered entities that are active in NFC swaps. Specifically, these entities may reduce or stop dealing activity if a lower threshold would subject them to SD registration.

104

The swap dealing activity of unregistered entities dealing in NFC swaps is likely a smaller part of those entities' overall business activities, and may not support the costs associated with SD registration and compliance.

105

104

Comments from market participants have specifically indicated that some entities would reduce or stop dealing activity if the de minimis threshold is reduced.

See generally

Letters from BP, CMC, EDF, IIB, and NGSA; Final Staff Report,

supra

note 24, at 11-12, 16-17 (citing comment letters submitted in response to Preliminary Staff Report,

supra

note 21).

105

See generally

Letters from BP, CDE, CMC, EDF, EEI/EPSA, FSR, IIB, IECA, ISDA, NGSA, and SIFMA,

supra

note 58; Final Staff Report,

supra

note 24, at 11-12, 16-17 (citing comment letters submitted in response to Preliminary Staff Report,

supra

note 21).

Generally, a reduction in the threshold could negatively affect the ability of these entities to provide ancillary services involving swap transactions, a stated benefit for having a de minimis exception. Further, if the threshold is maintained at $8 billion, it is possible that unregistered entities that currently limit trading activity to below $3 billion may increase dealing volumes to levels closer to $8 billion, potentially increasing liquidity in the NFC swap market. As the Commission has stated:

The futures and swaps markets are essential to our economy and the way that businesses and investors manage risk. Farmers, ranchers, producers, commercial companies, municipalities, pension funds, and others use these markets to lock in a price or a rate. This helps them focus on what they do best: innovating, producing goods and services for the economy, and creating jobs. The CFTC works to ensure these hedgers and other market participants can use markets with confidence.

106

CFTC Responsibilities, available at

https://www.cftc.gov/About/MissionResponsibilities/index.htm

Allowing small to mid-sized non-financial entities with a presence in the physical commodity markets to provide ancillary services involving swap transactions helps fulfill this goal.

Second, even if the threshold were decreased, it is unclear if or to what extent the 2017 Counterparty Coverage statistic of 86 percent would increase for NFC swaps since several of those entities likely already have less than $3 billion in AGNA of swap dealing activity. Additionally, as discussed above, many of these entities would likely reduce activity to remain below the SD de minimis threshold, further reducing any increase in Estimated Counterparty Coverage from a lower threshold.

Third, many of the entities engaged in limited swap dealing activity for NFC swaps appear to have a unique role in the market in that their primary business is generally non-financial in nature and the swap dealing activity is ancillary to their primary role in the market. Further, these firms generally pose less systemic risk than financial market SDs.

107

For these reasons, the Commission believes that there are strong public policy arguments not to require that all of these entities register with the Commission.

107

See e.g.,

Letter from CDE,

supra

note 58; Final Staff Report,

supra

note 24, at 12 (citing comment letters submitted in response to Preliminary Staff Report,

supra

note 21).

Fourth, although it has not conducted an analysis of AGNA activity in NFC swaps,

108

the Commission is of the preliminary view that increasing the de minimis threshold could potentially lead to fewer entities being required to register as SDs due to their NFC swap market activity. This could reduce the number of entities transacting with registered SDs, and therefore also reduce the benefits of those SD regulations concerned with counterparty protections.

108

As discussed above in section II.A.1.i, there were challenges in calculating notional amounts for NFC swaps.

Preliminarily, the Commission does not believe that decreasing or increasing the de minimis threshold would have much benefit for the NFC swap market. Rather, there is a concern that a change in the threshold would cause harm to that market.

(v) Setting an $8 Billion Threshold Avoids Potential Administrative Burdens

The Commission notes that setting the de minimis threshold at $8 billion would allow persons to continue to use existing calculation procedures and business processes that are geared towards the $8 billion threshold. Modifying the threshold could require entities to revise monitoring processes, modify internal systems, and amend policies and procedures tied to an $8 billion threshold, leading to increased costs. Further, as discussed, the Commission expects that maintaining an $8 billion threshold would foster the efficient application of the SD Definition by providing continuity and addressing the uncertainty associated with the end of the phase-in period.

Based on the available data and policy considerations discussed above, the Commission proposes to maintain the de minimis threshold for AGNA of swap dealing at $8 billion.

3. Request for Comments

The Commission requests comments on the following questions. To the extent possible, please quantify the impact of issues discussed in comments, including costs and benefits, as applicable.

(1) Based on the data and related policy considerations, is an $8 billion de minimis threshold appropriate? Why or why not?

(2) Should the de minimis threshold be reduced to $3 billion? Why or why not?

(3) Should the de minimis threshold be increased? If so, to what threshold? Why or why not?

(4) Are the assumptions discussed above regarding a $3 billion de minimis threshold, an $8 billion de minimis threshold, or a higher de minimis threshold accurate, including, but not limited to, compliance costs and market liquidity assumptions?

(5) As an alternative or in addition to maintaining an $8 billion threshold, should the Commission consider a tiered SD registration structure that would establish various exemptions from SD compliance requirements for SDs whose AGNA of swap dealing activity is between the $3 billion and $8 billion?

(6) What is the impact of the de minimis threshold level on market liquidity? Are there entities that would increase their swap dealing activities if the Commission raised the de minimis exception, or decrease their swap dealing activities if the Commission lowered the threshold? How might these changes affect the swap market?

(7) Are there additional policy or statutory considerations underlying SD regulation or the de minimis exception that the Commission should consider?

(8) Have there been any structural changes to the swap market such that the policy considerations have evolved since the adoption of the SD Definition?

(9) Are entities curtailing their swap dealing activity to avoid SD registration at $8 billion or $3 billion thresholds, and if so, what impact is that having on the swap market? Are certain asset classes or product types more affected by such curtailed dealing activity than others?

(10) Does registration as an SD allow persons to substantially increase their swap dealing activity, or is increased swap dealing activity constrained by capital requirements at the firm level and other considerations?

(11) Should an entity's AGNA of swap dealing activity continue to be tested against the de minimis threshold for any rolling 12-month period, only for calendar year periods, or for some other regular 12-month period such as quarterly or semi-annual testing?

(12) What are the benefits and detriments to using AGNA of swap dealing activity as the relevant criterion for SD registration, as compared to other options, including, but not limited to, entity-netted notional amounts or credit exposures?

B. Swaps Entered Into by Insured Depository Institutions in Connection With Loans to Customers

1. Background

The CEA provides that in no event shall an IDI be considered to be an SD to the extent it offers to enter into a swap with a customer in connection with originating a loan with that customer.

109

With respect to the statutory exclusion, the Commissions jointly adopted paragraph (5) of the SD Definition, which allows an IDI to exclude—when determining whether it is an SD—certain swaps it enters into with a customer in connection with originating a loan to that customer (the “IDI Swap Dealing Exclusion”).

110

109

7 U.S.C. 1a(49)(A).

110

17 CFR 1.3, Swap dealer, paragraph (5).

For a swap to be considered to have “been entered into . . . in connection with originating a loan,” the IDI Swap Dealing Exclusion requires that: (1) The IDI enter into the swap no earlier than 90 days before and no later than 180 days after execution of the loan agreement (or transfer of principal);

111

(2) the rate, asset, liability, or other notional item underlying the swap be tied to the financial terms of the loan or be required as a condition of the loan to hedge risks arising from potential changes in the price of a commodity;

112

(3) the duration of the swap not extend beyond termination of the loan;

113

(4) the IDI be the source of at least 10 percent of the principal amount of the loan, or the source of a principal amount greater than the notional amount of swaps entered into by the IDI with the customer in connection with the loan;

114

(5) the AGNA of swaps entered into in connection with the loan not exceed the principal amount outstanding;

115

(6) the swap be reported as required by other CEA provisions if it is not accepted for clearing;

116

(7) the transaction not be a sham, whether or not the transaction is intended to qualify for the IDI Swap Dealing Exclusion;

117

and (8) the loan not be a synthetic loan, including, without limitation, a loan credit default swap or a loan total return swap.

118

A swap that meets the above requirements would not be considered when assessing whether a person is an SD.

111

17 CFR 1.3, Swap dealer, paragraph (5)(i)(A).

112

17 CFR 1.3, Swap dealer, paragraph (5)(i)(B).

113

17 CFR 1.3, Swap dealer, paragraph (5)(i)(C).

114

17 CFR 1.3, Swap dealer, paragraph (5)(i)(D).

115

17 CFR 1.3, Swap dealer, paragraph (5)(i)(E).

116

17 CFR 1.3, Swap dealer, paragraph (5)(i)(F).

117

17 CFR 1.3, Swap dealer, paragraph (5)(iii)(A).

118

17 CFR 1.3, Swap dealer, paragraph (5)(iii)(B).

Based on information gained from market participants,

119

as well as analysis of data submitted to SDRs, the Commission believes that the IDI Swap Dealing Exclusion: (1) Has unnecessarily restrictive conditions; (2) is not clear in certain instances; and (3) limits the ability of IDIs to provide swaps that would allow their customers to properly hedge risks associated with bank loans. In general, these issues make it more difficult for IDIs that are not registered as SDs to provide swaps to loan customers because of the concern that certain swaps would not qualify for the IDI Swap Dealing Exclusion. Certain IDIs are restricting loan-related swaps because of the potential that such swaps would have to be counted towards an IDI's de minimis threshold, leading the IDI to register as an SD and incur registration-related costs. The restrictions on loan-related swaps by IDIs may result in reduced availability of swaps for the loan customers of these IDIs, potentially hampering the ability of end-user borrowers to enter into hedges in connection with their loans.

119

See, e.g.,

Letters from Chatham, FSR, and Northern Trust,

supra

note 58; Final Staff Report,

supra

note 24, at 17 (citing comment letters submitted in response to Preliminary Staff Report,

supra

note 21).

The Commission is not at this time proposing to amend the IDI Swap Dealing Exclusion in paragraph (5) of the SD Definition. As discussed above, pursuant to requirements of section 712(d)(1) of the Dodd-Frank Act, the CFTC and SEC jointly adopted the IDI Swap Dealing Exclusion in paragraph (5) as part of the definition of what constitutes swap dealing activity. Rather than proposing to revise the scope of activity that constitutes swap dealing, the Commission is proposing to amend paragraph (4) of the SD Definition, which addresses the de minimis exception.

120

In particular, the

Commission is proposing to add specific factors that an IDI can consider when assessing whether swaps entered into with customers in connection with loans to those customers must be counted towards the IDI's de minimis calculation. The IDI could assess these factors and exclude qualifying swaps from the de minimis calculation regardless of whether the swaps would qualify for the IDI Swap Dealing Exclusion.

120

A joint rulemaking is not required with respect to changes to the de minimis exception-related factors. 77 FR at 30634 n.464 (“We do not interpret the joint rulemaking provisions of section 712(d) of the Dodd-Frank Act to require joint rulemaking here, because such an interpretation would read the term “Commission” out of CEA section 1a(49)(D) (and Exchange Act section 3(a)(71)(D)), which themselves were added by the Dodd-Frank Act.”). As noted above, pursuant to section 712(a)(1) of the Dodd-Frank Act, the Commission is consulting with the SEC and

prudential regulators regarding the changes to the de minimis exception discussed in this Proposal.

Specifically, the Commission is proposing new paragraph (4)(i)(C) of the SD Definition, which would except from the calculation of the de minimis threshold certain loan-related swaps entered into by IDIs (the “IDI De Minimis Provision”). The IDI De Minimis Provision would have requirements that are similar to the IDI Swap Dealing Exclusion, but would encompass a broader scope of loan-related swaps. The proposed IDI De Minimis Provision includes: (1) A lengthier timing requirement for when the swap must be entered into; (2) an expansion of the types of swaps that are eligible; (3) a reduced syndication percentage requirement; (4) an elimination of the notional amount cap; and (5) a refined explanation of the types of loans that would qualify.

The Commission notes that any swap that meets the requirements of the IDI Swap Dealing Exclusion in paragraph (5) of the SD Definition would also meet the requirements of the proposed IDI De Minimis Provision. However, proposed paragraph (4)(i)(C) provides additional flexibility as to what swaps need to be counted towards an IDI's de minimis calculation. The Commission believes that the broader scope of the proposed IDI De Minimis Provision, described in further detail below, may advance the policy objectives of the de minimis exception by allowing some IDIs to provide swaps to customers in connection with loans without having to register as an SD. In other words, the proposed provision would facilitate swap dealing in connection with other client services and may encourage more IDIs to participate in the swap market—two policy objectives of the de minimis exception. Greater availability of loan-related swaps may also improve the ability of customers to hedge their loan-related exposure. The Commission also believes that the more flexible provisions of the proposed IDI De Minimis Provision may allow for more focused, efficient application of the SD Definition to the activities of IDIs that offer swaps in connection with loans.

Commission staff reviewed data to assess the potential impact of the IDI De Minimis Provision. Table 14 below provides information regarding the AGNA of swaps activity entered into by entities that were identified as IDIs

121

with at least 10 counterparties in IRS, CDS, FX swaps, and equity swaps.

122

The table summarizes the AGNA of swaps activity of smaller IDIs within various AGNA ranges from $1 billion to $50 billion. Note that persons that are affiliated with IDIs were not included in this analysis (

e.g.,

broker-dealer subsidiaries, other non-IDI affiliates).

121

Based on information on the Federal Deposit Insurance Corporation website, available at

https://www5.fdic.gov/idasp/advSearch_warp_download_all.asp

122

As discussed above in section II.A.1.i, there were challenges in calculating notional amounts for NFC swaps. Therefore, the analysis in this section focuses on the other asset classes.

Table 14—IDI Activity (Ranges Between $1

and $50

) IRS, CDS, FX Swaps, and Equity Swaps

[Minimum 10 counterparties]

Range of AGNA of swaps activity

($Bn)

Number of IDIs

Registered

as SDs

Not registered

as SDs

AGNA of swaps activity

123

Total with at

least one

registered SD

($Bn)

Total with no

registered SDs

($Bn)

Total with no

registered SDs

(percent of

overall market)

1-3

13.5

8.9

0.004

3-8

37.5

16.5

0.007

8-20

42.6

6.5

0.003

20-50

160.7

14.2

0.006

As seen

in Table 14, there are a number of IDIs that have 10 or more counterparties and are active in the swap market at lower AGNAs.

124

For example, there are 13 IDIs that are not currently registered as SDs and have between $1 billion and $3 billion in AGNA of swaps activity. Based on market participant comments

125

and review of the trading data, the Commission believes that many of the unregistered entities engaged in $1 billion to $50 billion in AGNA of swaps activity are entering into swaps with customers in connection with loans to those customers. Additionally, many of these IDIs could be restricting their swaps activity because the IDI Swap Dealing Exclusion limits, or is ambiguous regarding, which swaps are considered to be “in connection with” originating a loan (and therefore are excluded from the SD analysis).

123

The AGNA totals are not mutually exclusive across rows, and therefore cannot be added together without double counting. For example, some IDIs in the $1 billion to $3 billion range transact with IDIs in the $3 billion to $8 billion range. Transactions that involve entities from multiple rows are reported in both rows.

124

Although staff did not manually identify the category of every counterparty with less than $1 billion of activity, there are at least 200 entities generally identified as banks, each with AGNA of swaps activity below $1 billion and with at least 10 counterparties.

125

See generally supra

note 119.

As Table 14 indicates, the AGNA of swaps activity that these unregistered IDIs enter into with other non-registered entities is low relative to the total swap market analyzed. For example, there are 10 IDIs that have between $3 billion and $8 billion each in AGNA of swaps activity—none of which are registered SDs. In aggregate, these IDIs entered into approximately $54.0 billion in AGNA of swaps activity. However, only $16.5 billion of that activity was between two entities not registered as SDs, representing only 0.007 percent of the total AGNA of swaps activity during the review period. Depending on the range of AGNA of swaps activity examined, the level of activity occurring between two entities not registered as SDs (at least one of which is an IDI) varies between only approximately 0.003 percent and 0.007 percent of the total AGNA of swaps activity.

Given those low percentages, the Commission is of the view that the policy benefits of SD regulation likely would not be significantly diminished if the proposed IDI De Minimis Provision

is adopted and some of the unregistered IDIs marginally expand the number and AGNA of swaps they enter into with customers in connection with loans to those customers. This low percentage of swap activity between two unregistered entities may also indicate that the limits of the IDI Swap Dealing Exclusion are restricting certain IDIs from taking full advantage of the exclusion. Further, though these entities are active in the swap market, the Commission is of the view that their activity poses less systemic risk as compared to larger IDIs because of their limited AGNA of swaps activity as compared to the overall size of the market. Generally, the reduced potential for risk, combined with the potential that end-user loan customers may benefit from increased access to loan-related swaps, provides support for the proposed IDI De Minimis Provision.

The proposed rule text described below may provide greater ability for IDIs to not count loan-related swaps towards their de minimis threshold calculations, potentially increasing the availability of loan-related swaps for their borrowers and advancing the stated policy goals of the de minimis exception.

2. Proposal

(i) Timing Requirement

Pursuant to the IDI Swap Dealing Exclusion in paragraph (5) of the SD Definition, if an IDI enters into a swap in connection with originating a loan to a customer, that swap must be entered into no more than 90 days before or 180 days after the date of execution of the loan agreement (or date of transfer of principal to the customer) for the IDI Swap Dealing Exclusion to apply.

126

17 CFR 1.3, Swap dealer, paragraph (5)(i)(A).

The Commission is proposing new paragraph (4)(i)(C)(

) of the SD Definition, which, for purposes of an IDI's de minimis calculation, does not include the 180-day restriction. Therefore, an IDI would not have to count towards its de minimis calculation any swap entered into in connection with a loan after the date of execution of the loan agreement (or date of transfer of principal). Additionally, the Commission is proposing to generally maintain the restriction for swaps entered into more than 90 days before loan funding, except where an executed commitment or forward agreement for the applicable loan exists, in which case the 90-day restriction would not apply.

The Commission believes that the timing restrictions in the IDI Swap Dealing Exclusion limit the ability of IDIs to effectively provide hedging solutions to end-user borrowers. Depending on market conditions or business needs, it is not uncommon for a borrower to wait for a period of time greater than 180 days after a loan is originated to enter into a hedging transaction. For example, if an IDI provides a loan with a 10-year term, and the borrower chooses to wait until 181 days after the loan to hedge interest rate risk underlying that loan, the swap would not qualify for the IDI Swap Dealing Exclusion. However, under the proposed IDI De Minimis Provision, if the borrower entered into the hedge 181 days after execution, the swap would not have to be counted towards an IDI's de minimis calculation. Given that many of the entities that the Commission expects to utilize the IDI De Minimis Provision are small and mid-sized banks, not including this timing restriction could lead to increased swap availability for the borrowing customers that rely on such IDIs for access to swaps (and thereby advance a policy objective of the de minimis exception).

For a swap to be considered “in connection with” a loan for the purposes of the IDI De Minimis Provision, the Commission believes there should be a reasonable expectation that the loan will be entered into with a customer. Therefore, the proposed 90-day restriction is suitable because it requires that the swap be entered into within an appropriate period of time prior to the execution of the loan. However, where an executed commitment or forward agreement to loan money exists between the IDI and the borrower prior to the 90-day limit, the Commission believes a reasonable expectation for the loan is demonstrated. Accordingly, for purposes of the IDI De Minimis Provision, the Commission is proposing that an IDI may enter into a swap with a customer, in connection with a loan to that customer, more than 90 days prior to the execution of the loan where there is an executed commitment or forward agreement to loan money.

(ii) Relationship of Swap to Loan

The IDI Swap Dealing Exclusion requires that the rate, asset, liability, or other notional item underlying such swap is, or is directly related to, a financial term of such loan or that such swap is required, as a condition of the loan under the insured depository institution's loan underwriting criteria, to be in place in order to hedge price risks incidental to the borrower's business and arising from potential changes in the price of a commodity (other than an excluded commodity).

127

As explained in the SD Definition Adopting Release, the first category is for “adjusting the borrower's exposure to certain risks directly related to the loan itself, such as risks arising from changes in interest rates or currency exchange rates,” and the second category is to “mitigate risks faced by both the borrower and the lender, by reducing risks that the loan will not be repaid.”

128

Therefore, both categories of swaps are directly related to repayment of the loan.

127

See

17 CFR 1.3, Swap dealer, paragraph (5)(i)(B); 77 FR at 30622.

128

77 FR at 30622.

The Commission is proposing new paragraph (4)(i)(C)(

), which states that for purposes of the IDI De Minimis Provision, a swap is “in connection with” a loan if the rate, asset, liability or other term underlying such swap is, or is related to, a financial term of such loan, or if such swap is required as a condition of the loan, either under the insured depository institution's loan underwriting criteria or as is commercially appropriate, in order to hedge risks incidental to the borrower's business (other than for risks associated with an excluded commodity) that may affect the borrower's ability to repay the loan.

The Commission is of the view that the proposed language would further the policy objectives of the de minimis exception by providing flexibility to reflect the actual market practices of end-users who hedge their risk. The first provision refers to a “term” rather than a “notional item,” and does not include the word “directly,” for added flexibility. Because the second provision in the proposed language allows for swaps that are not explicitly required as a condition of the IDI's underwriting criteria, it provides flexibility for IDIs to enter into certain swaps with borrowers to hedge risks (

e.g.,

commodity price risks) that may not have been evident at the time the loan was entered into or that are determined based on the unique characteristics of the borrower rather than the standard bank underwriting criteria. For example, physical commodity-related hedging decisions may not be made at the time the loan is entered into, but rather at a future point when inventory is purchased or produced. Additionally, in these cases, the underwriting criteria may not explicitly require that the borrower enter into swaps to hedge commodity price risk. This additional flexibility allows IDIs to enter into swaps, as commercially appropriate, with borrowers to hedge risks—in this case,

commodity price risk—that may affect the borrower's ability to repay the loan without the limitation that such swaps must be contemplated in the original underwriting criteria in order not to be counted towards an IDI's de minimis calculation. The Commission believes that this proposal benefits both IDIs and customers and serves the purposes of the de minimis exception by allowing for greater use of swaps in effective and dynamic hedging strategies. The Commission also believes that this aspect of the proposed new provision would facilitate efficient application of the SD Definition by reducing the concern that ancillary dealing activity may subject the IDI to SD registration-related requirements.

(iii) Syndicated Loan Requirement

For a loan-related swap with a notional amount equal to the full principal amount of the loan to qualify for the IDI Swap Dealing Exclusion, an IDI must be responsible for at least 10 percent of a syndicated loan.

129

In the proposed IDI De Minimis Provision, new paragraph (4)(i)(C)(

)(

) requires an IDI to be, under the terms of the agreements related to the loan, the source of at least five percent of the maximum principal amount under the loan for a related swap not to be counted towards its de minimis calculation.

130

In addition to this different syndication requirement, proposed paragraph (4)(i)(C)(

)(

) also includes a single provision that consolidates the separate provisions in paragraphs (5)(i)(D)(

) and (5)(i)(D)(

) of the IDI Swap Dealing Exclusion.

129

17 CFR 1.3, Swap dealer, paragraph (5)(i)(D).

130

Moreover, as discussed below in section II.B.2.iv, if the IDI is responsible for at least five percent of a syndicated loan, the Commission is proposing to not include the restriction that the AGNA of swaps entered into in connection with the loan not exceed the principal amount outstanding.

For loans that are widely syndicated, lenders may not have control over their final share of the syndication. It is not uncommon for borrowers to enter into negotiations regarding related swaps before the underlying loan has been executed. The need to have at least a 10 percent share of the syndicate can make it more difficult for IDIs to determine, in advance, whether a swap they have negotiated with a borrower will qualify for the IDI Swap Dealing Exclusion. The lower syndication threshold of five percent in this Proposal provides additional flexibility for IDIs to enter into a greater range of loan-related swaps without having those swaps count towards their de minimis calculations.

The Commission is also proposing to add paragraph (4)(i)(C)(

)(

), which states that if an IDI is a source of less than a five percent of the maximum principal amount of the loan, the notional amount of all swaps the IDI enters into in connection with the financial terms of the loan cannot exceed the principal amount of the IDI's loan in order to qualify for the IDI De Minimis Provision. This provision is similar to existing paragraph (5)(i)(D)(

) of the IDI Swap Dealing Exclusion, except that it uses a five percent participation threshold.

(iv) Total Notional Amount of Swaps

The IDI Swap Dealing Exclusion requires that the AGNA of swaps entered into in connection with the loan not exceed the principal amount outstanding.

131

The Commission is proposing to not include this restriction in the IDI De Minimis Provision in the case of IDIs responsible for at least five percent of the loan principal.

132

It is not uncommon for an IDI-related loan to have related swaps that hedge multiple categories of exposure. For example, it is possible for a borrower to hedge some combination of interest rate, foreign exchange, and/or commodity risk in connection with a loan. The Commission notes that the AGNA of such swaps entered into in connection with the loan could exceed the principal amount outstanding; therefore, this restriction might unduly restrict the ability of certain IDIs to provide loan-related swaps to their borrowing customers to more effectively allow the customers to hedge loan-related risks. Not including this restriction in the IDI De Minimis Provision would thereby advance the policy objectives of the de minimis exception noted above.

131

17 CFR 1.3, Swap dealer, paragraph (5)(i)(E).

132

As discussed above in section II.B.2.iii in connection with proposed paragraph (4)(i)(C)(

)(

), if an IDI is a source of less than a five percent of the maximum principal amount of the loan, the notional amount of all swaps the IDI enters into in connection with the financial terms of the loan cannot exceed the principal amount of the IDI's loan.

(v) Types of Loans

The requirements of the IDI Swap Dealing Exclusion do not account for types of credit financings that are similar to loans (

e.g.,

credit enhanced bonds, letters of credit, leases, revolving credit facilities). When the Commission adopted the IDI Swap Dealing Exclusion, it generally referenced existing common law definitions for the term “loan,”

133

stating that “[r]ather than examine at this time the many particularized examples of financing transactions cited by some commenters, the term `loan' for purposes of this exclusion should be interpreted in accordance with this settled legal meaning.”

134

Additionally, to prevent evasion, the Commission adopted restrictions stating that the term “loan” shall not include any synthetic loan, including, without limitation, a loan credit default swap or loan total return swap, and stating that the term “loan” does not include sham loans, whether or not intended to qualify for the exclusion from the definition of the term swap dealer in this rule.

135

133

77 FR at 30622 n.326 (“To constitute a loan there must be (i) a contract, whereby (ii) one party transfers a defined quantity of money, goods, or services, to another, and (iii) the other party agrees to pay for the sum or items transferred at a later date.” (internal citations omitted)).

134

Id.

at 30622.

135

17 CFR 1.3, Swap dealer, paragraph (5)(iii).

See

77 FR at 30622, 30708.

Similarly, to prevent evasion, the Commission is proposing new paragraph (4)(i)(C)(

), which states that the IDI De Minimis Provision shall not apply to any transaction that is a sham and shall not apply to any synthetic loan. The Commission believes it is appropriate to continue to require that swaps associated with synthetic loans be counted towards the de minimis exception. However, for added simplicity, the Commission has not included the provision specifically listing “a loan credit default swap or loan total return swap.” The Commission notes that certain loan credit default swaps and loan total return swaps may be valid loan structures. Nonetheless, to the extent a credit default swap, loan total return swap, or any other financial instrument would be considered a synthetic lending arrangement, swaps entered into in connection with such a synthetic lending arrangement would not qualify for the IDI De Minimis Provision.

The Commission is of the view that swaps entered into in connection with non-synthetic lending arrangements that are commonly known in the market as “loans” would generally not need to be counted towards an IDI's de minimis calculation if the other requirements of the IDI De Minimis Provision are also met. Although the Commission is not proposing to assess individual categories of transactions to determine whether they qualify as loans, it recognizes the common law definition cited in the SD Definition Adopting Release. Additionally, the Commission's regulations in part 75 (regarding “Proprietary Trading and Certain Interests in and Relationships with Covered Funds”) define a loan as any loan, lease, extension of credit, or

secured or unsecured receivable that is not a security or derivative.

136

The Commission is of the view that this definition would also apply for purposes of the IDI De Minimis Provision. Generally, allowing swaps entered into in connection with other forms of financing commonly known as loans not to be counted towards the de minimis threshold calculation better reflects the breadth of lending products and credit financings that borrowers often utilize and thereby advances the policy objectives of the de minimis exception noted above.

136

17 CFR 75.2(s).

(vi) Additional Requirements

The remaining requirements for the IDI De Minimis Provision are substantively identical to the IDI Swap Dealing Exclusion provisions in paragraph (5) of the SD Definition.

Proposed paragraph (4)(i)(C)(

) is identical to paragraph (5)(i)(C), stating that the termination date of the swap cannot extend beyond termination of the loan.

Proposed paragraph (4)(i)(C)(

) states that a swap is considered to have been entered into in connection with originating a loan to a customer if the IDI: (1) Directly transfers the loan amount; (2) is part of a syndicate of lenders that is the source of the loan amount; (3) purchases or receives a participation in the loan; or (4) under the terms of the agreements related to the loan, is, or is intended to be, the source of funds for the loan. This provision is similar to paragraph (5)(ii) of the IDI Swap Dealing Exclusion, except that it also encompasses a loan-related swap if the IDI “is intended to be” the source of the funds. This difference is consistent with the timing requirement provision, discussed above in section II.B.2.i, which does not include the 90 days before execution of the loan restriction in situations where an executed commitment or forward agreement for the applicable loan exists.

3. Request for Comments

The Commission requests comments on the following questions. To the extent possible, please quantify the impact of issues discussed in the comments, including costs and benefits, as applicable.

(1) Based on the data and related policy considerations, is the proposed IDI De Minimis Provision appropriate? Why or why not?

(2) How will the proposed IDI De Minimis Provision impact IDIs who enter into swaps with customers in connection with loans? Will IDIs enter into more swaps with loan customers as result of the proposed IDI De Minimis Provision?

(3) If the underlying loan is called, put, accelerated, or if it goes into default before the scheduled termination date, should the related swap be required to be terminated to remain eligible for the IDI De Minimis Provision?

(4) Are there circumstances that can be anticipated at the time of loan origination that would support permitting the termination date of the swap to extend beyond termination of the loan?

(5) Does the provision in proposed paragraph (4)(i)(C)(

) referencing “executed commitment” or “forward agreement” sufficiently reflect market practice regarding how swaps may be entered into in connection with a loan in advance of the loan being executed?

(6) Is it common for an IDI to have as low as five percent participation in a syndicated loan and also provide swaps in connection with the loan?

(7) Is it common for the AGNA of loan-related swaps to exceed the outstanding principal amount of the loan? In what circumstances?

(8) Should the Commission define “synthetic loan”? How should that term be defined?

(9) Are there circumstances in which a loan credit default swap or loan total return swap would not be considered a synthetic lending arrangement?

(10) If an IDI would have to register as an SD but for the IDI De Minimis Provision, should that IDI be required to provide notice to the Commission, Commission staff, or the National Futures Association? Alternatively, to utilize the proposed IDI De Minimis Provision, should IDIs be required to directly reference the related loan in the written swap confirmation?

C. Swaps Entered Into To Hedge Financial or Physical Positions

1. Background and Proposal

In adopting the SD Definition, the Commission provided that, subject to certain requirements, swaps entered into by a person for purposes of hedging physical positions are not considered in determining whether the person is an SD (the “Physical Hedging Exclusion”).

137

However, the regulatory text does not include a specific exclusion for swaps entered into for purposes of hedging financial positions. Rather, the Commission stated that swaps entered into for hedging purposes that did not fall within the SD Definition, including those that qualify for an exclusion in the SD Definition, would not count towards the de minimis threshold.

138

137

17 CFR 1.3, Swap dealer, paragraph ¶ (6)(iii).

138

77 FR at 30631 n.433 (“For purposes of the de minimis exception to the [SD Definition] . . . the relevant question in determining whether swaps count as dealing activity against the de minimis thresholds is whether the swaps fall within the [SD Definition] . . . . If hedging or proprietary trading activities did not fall within the definition, including because of the application of [paragraph (6) of the SD Definition in § 1.3], they would not count against the de minimis thresholds.”).

Based on feedback from swap market participants during implementation of the SD regulations and in connection with Project KISS,

139

the Commission believes that although there is a specific exclusion for swaps entered into in connection with hedging physical positions, the absence of an explicit exclusion in the regulations for swaps entered into for purposes of hedging financial positions has caused uncertainty in the marketplace regarding whether swaps that hedge, for example, interest rate risk, credit risk, or foreign exchange risk, would also need to be counted towards a person's de minimis threshold. This uncertainty could cause inefficient application of the SD Definition by leading some persons to: (1) Count swaps that they enter into to hedge financial positions as swap dealing activity for purposes of assessing whether the persons would need to register as SDs; or (2) not enter into swaps to hedge financial positions for fear of exceeding the de minimis threshold.

139

See

Letters from IIB, Western Union, and WU/GPS/AFEX,

supra

note 58.

The Commission is of the view that an explicit statement of the factors that indicate when a swap entered into to hedge financial or physical positions (“hedging swap”) is excluded from counting towards the de minimis threshold would help swap market participants know with greater certainty what swaps have to be counted towards the de minimis threshold, and thereby help market participants apply the SD Definition more efficiently. The Commission is proposing to add a hedging exception in new paragraph (4)(i)(D) of the SD Definition, permitting entities to not count towards their de minimis calculations hedging swaps, when such swaps meet certain conditions (the “Hedging De Minimis Provision”). Similar to the proposed IDI De Minimis Provision, the Hedging De Minimis Provision does not revise the scope of activity that constitutes swap dealing. Rather, the new provision would set out explicit factors an entity can consider for purposes of assessing whether hedging swaps must be counted towards the de minimis

calculation.

140

The Commission notes that any swap that meets the requirements of the Physical Hedging Exclusion in paragraph (6)(iii) of the SD Definition would also meet the requirements of the proposed Hedging De Minimis Provision, but meeting the requirements of the Physical Hedging Exclusion is not a prerequisite for application of the Hedging De Minimis Provision. In addition, as the Commission noted in the SD Definition Adopting Release, if a swap does not satisfy the criteria of the Hedging De Minimis Provision, this does not mean the swap is necessarily swap dealing activity.

141

Rather, such hedging activity should then be considered in light of all the other relevant facts and circumstances to determine whether the person is engaging in activity (

e.g.,

market making, accommodating demand) that brings the person within the SD Definition.

140

See

section II.B.1. As discussed, a joint rulemaking with the SEC is not required under the statute with respect to the de minimis exception-related factors. 77 FR at 30634 n.464.

141

77 FR at 30613.

Proposed paragraph (4)(i)(D) states that to qualify for the Hedging De Minimis Provision, a swap must be entered into by a person for the primary purpose of reducing or otherwise mitigating one or more of the specific risks to which it is subject, including, but not limited to, market risk, commodity price risk, rate risk, basis risk, credit risk, volatility risk, correlation risk, foreign exchange risk, or similar risks arising in connection with existing or anticipated identifiable assets, liabilities, positions, contracts or other holdings of the person or any affiliate. Additionally, the person entering into the hedging swap must not: (1) Be the price maker of the hedging swap; (2) receive or collect a bid/ask spread, fee, or commission for entering into the hedging swap; and (3) receive other compensation separate from the contractual terms of the hedging swap in exchange for entering into the hedging swap.

The requirements that the person not be a price maker of the swap or receive compensation for the swap should ensure that the Hedging De Minimis Provision does not improperly exclude swap dealing activity. As discussed in the SD Definition Adopting Release, in connection with swaps that hedge physical positions:

When a person enters into a swap for the purpose of hedging the person's own risks in specified circumstances, an element of the [SD] definition—the accommodation of the counterparty's needs or demands—is absent. Therefore, consistent with our overall interpretive approach to the definition, the activity of entering into such swaps (in the particular circumstances defined in the rule) does not constitute swap dealing. Providing an exception for such swaps from the [SD] analysis reduces costs that persons using such swaps would incur in determining if they are [SDs].

142

77 FR at 30710.

The Commission believes that this rationale applies broadly to swaps that hedge both financial and physical positions. When the person is not the price maker of the hedging swap, or otherwise receiving compensation, the person is not accommodating the needs of a counterparty, such swap is generally not swap dealing activity, and therefore should not be counted for purposes of the de minimis exception. Adding this specific exception as a factor to be considered for purposes of the de minimis calculation provides additional clarity which advances the policy objectives of the de minimis threshold. In particular, the Commission believes that the scope of the Hedging De Minimis Provision would encourage greater use of swaps (

i.e.,

greater participation in the swap market) to hedge risks. Additionally, the proposed rule accounts for circumstances where entities may hedge risks using affiliates. The flexible terms of the Hedging De Minimis Provision should facilitate an efficient application of the SD Definition that is more focused on activity that is covered by the statutory and regulatory definition of swap dealing. As noted below, the Hedging De Minimis Provision contains elements to ensure that it does not improperly exclude swap dealing activity that should be counted against the de minimis threshold.

The SD Definition Adopting Release also states that, generally, swaps that hedge positions that were entered into as part of swap dealing activity would also not need to be counted towards a person's de minimis threshold calculation if they meet the requirements of the proposed exception.

143

The proposed Hedging De Minimis Provision is consistent with the CFTC's position in the SD Definition Adopting Release.

143

The CFTC stated that “the relevant question in determining whether swaps count as dealing activity against the de minimis thresholds is whether the swaps fall within the [SD Definition] . . . . If hedging or proprietary trading activities did not fall within the definition . . . they would not count against the de minimis thresholds.”

Id.

at 30631 n.433. DSIO later stated that back-to-back swaps should each undergo a facts and circumstances analysis to determine if they should be considered swap dealing activity.

See

Frequently Asked Questions (FAQ)—[DSIO] Responds to FAQs About Swap Entities (Oct. 12, 2012), available at

https://www.cftc.gov/idc/groups/public/@newsroom/documents/file/swapentities_faq_final.pdf

Lastly, the proposed Hedging De Minimis Provision also includes, in paragraphs (D)(

) through (D)(

), the following requirements that are in the Physical Hedging Exclusion: (1) The swap must be economically appropriate to the reduction of risks that may arise in the conduct and management of an enterprise engaged in the type of business in which the person is engaged; (2) the swap must be entered into in accordance with sound business practices; and (3) the swap is not in connection with activity structured to evade designation as an SD. The Commission believes that these requirements are also appropriate for this broader Hedging De Minimis Provision to ensure that swap dealing activity is not improperly being excluded from a person's de minimis threshold calculation.

2. Request for Comments

The Commission requests comments on the following questions. To the extent possible, please quantify the impact of issues discussed in the comments, including costs and benefits as applicable.

(1) Based on the policy considerations, is the proposed Hedging De Minimis Provision appropriate? Why or why not?

(2) Is the proposed Hedging De Minimis Provision too narrowly or broadly tailored?

(3) How will the proposed Hedging De Minimis Provision impact entities that enter into swaps to hedge financial or physical positions?

(4) The proposed Hedging De Minimis Provision would be used to determine whether a person has exceeded the AGNA threshold set forth in paragraph (4)(i)(A) of the SD Definition, whereas the Physical Hedging Exclusion in paragraph (6)(iii) of the SD Definition addresses when a swap is not considered in determining whether a person is an SD. How might this distinction impact how entities analyze their swap dealing activity and whether they would exceed the de minimis threshold?

D. Swaps Resulting From Multilateral Portfolio Compression Exercises

1. Background and Proposal

The Commission is proposing new paragraph (4)(i)(E) of the SD Definition, which would allow a person to exclude from its de minimis calculation swaps that result from multilateral portfolio compression exercises (“MPCE De

Minimis Provision”).

144

The MPCE De Minimis Provision is consistent with DSIO no-action relief issued on December 21, 2012 (“Staff Letter 12-62”).

145

Specifically, DSIO stated that it would not recommend that the Commission take enforcement action against any person for failure to include in its de minimis calculation the terminations of swaps (in whole or in part) or swaps entered into as replacement swaps as part of a multilateral portfolio compression exercise (as defined in paragraph 23.500(h) of the Commission's regulations). The relief provided was not time-limited.

144

Similar to the proposed IDI De Minimis Provision and the Hedging De Minimis Provision, the MPCE De Minimis Provision does not revise the scope of activity that constitutes swap dealing. Rather, the new provision sets out factors an entity can consider for purposes of assessing whether swaps resulting from multilateral portfolio compression exercises need to be counted towards the de minimis calculation.

145

CFTC Staff Letter No. 12-62,

supra

note 54.

The Commission concurs with the position taken in Staff Letter 12-62. Generally, multilateral portfolio compression allows swap market participants with large portfolios to “net down” the size and number of outstanding swaps between them. The Commission is of the view that this advances the policy considerations behind SD regulation by reducing counterparty credit risk, lowering the AGNA of outstanding swaps, and reducing operational risks by decreasing the number of outstanding swaps. The Commission understands that multilateral portfolio compression exercises do not permit participants to provide liquidity or set prices in the market. A participant in a multilateral portfolio compression exercise submits some criteria for its participation in the exercise (

e.g.,

credit or counterparty limits), but the outcome of a compression cycle will depend on several variables that the participants cannot know or control, such as the positions in counterparties' portfolios and the criteria set by other participants. Given this process, the Commission is of the view that multilateral portfolio compression exercise swaps generally do not involve any of the attributes the Commission has identified as indicative of swap dealing activity.

146

Further, the Commission notes that counting such swaps towards a person's de minimis threshold could discourage participation in multilateral portfolio compression exercises, reducing the market benefit of the risk reduction such exercises provide.

146

See, e.g.,

77 FR at 30606-19 (

e.g.,

accommodating demand, market making, holding oneself out as a dealer in swaps, seeking to profit by providing liquidity, etc.).

To advance the policy objectives of the de minimis exception discussed above, proposed paragraph (4)(i)(E) would allow a person to exclude from its de minimis calculation swaps that result from multilateral portfolio compression exercises. In particular, the MPCE De Minimis Provision's explicit statement that such swaps do not need to be counted towards the de minimis threshold would facilitate efficient application of the SD Definition. Moreover, adding this proposed exception to the regulatory text would therefore be consistent with the goals of Project KISS. Additionally, to ensure that the scope of this exception is not improperly exceeded, the proposed rule includes an anti-evasion provision.

2. Request for Comments

The Commission requests comments on the following questions. To the extent possible, please quantify the impact of issues discussed in the comments, including costs and benefits, as applicable.

(1) Is the proposed MPCE De Minimis Provision appropriate? Why or why not?

(2) Is the proposed MPCE De Minimis Provision too narrowly or broadly tailored? Are there additional restrictions or conditions that should apply in order for swaps resulting from multilateral portfolio compression exercises to not count towards a person's de minimis threshold?

(3) How will the proposed MPCE De Minimis Provision impact entities that enter into multilateral portfolio compression exercises?

E. Methodology for Calculating Notional Amounts

1. Background and Proposal

Given the potential variety of methods that could be used to calculate the notional amount for certain swaps, particularly for swaps where notional amount is not a contractual term of the transaction (

e.g.,

NFC swaps), the Commission is proposing new paragraph (4)(vii) of the SD Definition, which provides that the Commission may approve or establish methodologies for calculating notional amounts for purposes of determining whether a person exceeds the AGNA de minimis threshold. Further, the Commission is proposing to delegate to the Director of DSIO the authority to make such determinations.

In the SD Definition Adopting Release, the Commission did not prescribe specific calculation methodologies for notional amounts (except for leveraged swaps),

147

and in the context of calculating notional amounts to determine whether an entity was a major swap participant (“MSP”), the Commission explicitly stated that it “contemplate[d] the use of industry standard practices.”

148

Subsequent to issuance of the SD Definition Adopting Release, DSIO issued interpretive responses to frequently asked questions regarding calculating notional amounts for purposes of the de minimis exception (the “DSIO FAQ Guidance”).

149

147

The Commission noted that “effective notional” should be used if the swap is leveraged or structurally enhanced.

See

17 CFR 1.3, Swap dealer, paragraph (4)(i)(A); 77 FR at 30630.

148

77 FR at 30670 n. 902.

149

See

Frequently Asked Questions (FAQ)—[DSIO] Responds to FAQs About Swap Entities (Oct. 12, 2012), available at

https://www.cftc.gov/idc/groups/public/@newsroom/documents/file/swapentities_faq_final.pdf.

Further, for purposes of reporting swaps to trade repositories, the Committee on Payments and Market Infrastructures (“CPMI”) and the Board of the International Organization of Securities Commissions (“IOSCO”) recently issued guidance regarding the definition, format, and usage of key over-the-counter derivative data elements, which included guidance on calculating certain notional amounts (the “Technical Guidance”).

150

The calculation methodologies described in the Technical Guidance will be considered for adoption by the Commission in future rulemakings related to swap data reporting.

151

However, the Commission recognizes that the Technical Guidance does not necessarily address how notional amounts should be calculated for purposes of the de minimis exception under CFTC regulations.

150

See

CPMI and Board of IOSCO, Technical Guidance—Harmonisation of critical OTC derivatives data elements (other than UTI and UPI) (Apr. 2018), available at

https://www.bis.org/cpmi/publ/d175.pdf.

151

See

Technical Guidance,

supra

note 150, at 7 (“The responsibility for issuing requirements for market participants on the reporting of OTC derivative transactions to [trade repositories] falls within the remit of the relevant authorities. Therefore, this document does not represent guidance on which critical data elements will be required to be reported in a given jurisdiction. Rather, if such data elements are required to be reported in a given jurisdiction, this document represents guidance to the authorities in that jurisdiction on the definition, the format and the allowable values that would facilitate consistent aggregation at a global level.”).

The Commission notes that market participants have already requested clarity regarding how notional amounts should be calculated for NFC swaps for purposes of determining whether a person exceeds the AGNA de minimis

threshold.

152

Additionally, the notional amount calculation methodologies described in the DSIO FAQ Guidance, the methodologies used by market participants as industry standard practice, and the methodologies described in the Technical Guidance differ from one another in some respects. Thus, the Commission believes additional clarity about the appropriate notional amount calculation methodologies for purposes of the SD de minimis threshold would be beneficial. Further, additional questions may arise regarding notional amount calculations, as it relates to the AGNA de minimis threshold, given the broad array of swaps available across all asset classes and the potential for new types of swap products becoming available in the future. Therefore, the Commission is proposing new paragraph (4)(vii)(A) of the SD Definition, which sets out a mechanism for the Commission, on its own or upon written request by a person, to determine the methodology to be used to calculate the notional amount for any group, category, type, or class of swaps for purposes of whether a person exceeds the AGNA de minimis threshold. The Commission notes that the process for submitting a written request regarding the methodology for notional amount calculations would be consistent with the process described in § 140.99 of the Commission's regulations.

153

Further, the proposed rule requires that such methodology be economically reasonable and analytically supported, and that any such determination be made publicly available and posted on the CFTC website.

154

152

See, e.g.,

Letter from CEWG; Letter from Natural Gas Supply Association (Jan. 15, 2016), available at

https://comments.cftc.gov/PublicComments/ViewComment.aspx?id=60595&SearchText=.

153

See

17 CFR 140.99.

154

Pursuant to this proposed rule, it is possible that methodologies for calculating notional amounts for the de minimis calculation could be approved or established that differ from methodologies in the Technical Guidance. However, the purpose of the Technical Guidance was not to consider specific requirements that jurisdictions may have with respect to calculating notional amount for registration purposes. The Commission notes that the proposed approach is similar to one taken by the Canadian Securities Administrators.

See

Proposed National Instrument 93-102 Derivatives: Registration and Proposed Companion Policy 93-102 Derivatives: Registration (Apr. 19, 2018) (collectively, the “Proposed Instrument”), available at

http://www.albertasecurities.com/Regulatory%20Instruments/5399899%20_%20CSA%20Notice%2093-102.pdf.

The Proposed Instrument includes an alternative notional calculation methodology—for the purpose of derivative dealer registration thresholds—that differs from the Technical Guidance.

See

Proposed Instrument at 6-7, 24-26.

From time to time, DSIO issues interpretive guidance or no-action letters to registrants on a variety of issues, often to address uncertainty regarding the application of Commission regulations (

e.g.,

the DSIO FAQ Guidance). Consistent with that practice, the Commission also believes it is important to provide clarity regarding calculation methodologies, as it relates to the AGNA de minimis threshold, to market participants on a timely basis. Doing so would ensure that persons are fully aware of whether their activities could lead to (or presently entail) SD registration requirements in the event of market or regulatory changes. Delegation by the Commission of this function to DSIO should help to provide clarity on a timely basis, and provide certainty that DSIO has the authority to make notional amount calculation determinations. Therefore, the Commission is proposing new paragraph (4)(vii)(B)(

) of the SD Definition, which delegates to the Director of DSIO, or such other employee(s) that the Director may designate, the authority to determine the methodology to be used to calculate the notional amount for any group, category, type, or class of swaps for purposes of whether a person exceeds the AGNA de minimis threshold. Additionally, the Director of DSIO would be able to submit any matter delegated pursuant to proposed paragraph (4)(vii)(A) to the Commission for its consideration. Further, as is the case with existing delegations to staff, the Commission would continue to reserve the right to exercise the delegated authority itself at any time. Consistent with the requirements of proposed paragraph (4)(vii)(A), any determination made pursuant to this proposed delegation must be economically reasonable and analytically supported, and be made publicly available and posted on the CFTC website. As is the case with staff interpretive letters, once a determination is made, either by the Commission or the Director of DSIO, all persons may rely on the determination.

Rather than codifying all permitted notional amount calculation methodologies for purposes of the AGNA de minimis threshold, or requiring other Commission action each time new methodologies are approved, the Commission believes that providing delegated authority gives the Commission and staff appropriate flexibility to promptly respond to future market developments regarding notional amount calculation methodologies. The Commission expects that subsequent to adopting this delegation of authority, either the Commission or the Director of DSIO will determine methodologies for calculating notional amounts for certain categories of swaps.

2. Request for Comments

The Commission welcomes comments on the following questions regarding the proposed process for determining methodologies for calculating notional amounts, and the proposed delegation of authority. To the extent possible, please quantify the impact of issues discussed in the comments, including costs and benefits, as applicable.

(1) Is the proposed process to determine the methodology to be used to calculate the notional amount for any group, category, type, or class of swaps appropriate? Why or why not?

(2) Is the proposed process too narrowly or broadly tailored?

(3) Is the restriction that a methodology be economically reasonable and analytically supported appropriate? Why or why not? What other standards may be appropriate for this purpose?

(4) How will the proposed process impact persons that enter into swaps where notional amount is not a stated contractual term?

(5) Is the proposed delegation of authority too narrowly or broadly tailored?

(6) How will the proposed delegation of authority impact persons that enter into swaps where notional amount is not a stated contractual term?

(7) Is there a better alternative to this proposed process? If so, please describe.

The Commission also welcomes comments on the following questions regarding calculation of notional amounts for purposes of the de minimis exception. Comments regarding the calculation of notional amounts should focus on the de minimis exception (rather than other Commission regulations, such as the reporting requirements in part 45). To the extent possible, please quantify the comments, including costs and benefits, as applicable.

(1) Should the notional amount (either stated or calculated) for transactions with embedded optionality be delta-adjusted by the delta of the underlying options, provided that the methods are economically reasonable and analytically supported? Should delta-adjusted notional amounts be used for all asset classes and product types, or only some?

(2) For swaps without stated contractual notional amounts, should “price times volume” generally be used

as the basis for calculating the notional amount?

(3) What other notional amount calculation methods, aside from “price times volume,” could be used for swaps without a stated notional amount that renders a calculated notional amount equivalent more directly comparable to the stated contractual notional amount typically available in IRS, CDS, and FX swaps?

155

“Price times volume” is similar to a cash flow calculation, while “stated contractual notional” is usually the basis that forms a cash flow calculation when combined with price, strike, fixed rate, coupon, or reference index. Therefore, “stated contractual notional amount” may be described as more similar to “volume” than “price times volume.” For example, for a $100 million interest rate swap, the stated notional amount is typically the basis of the periodic calculated cash flows instead of the actual cash flows, which are calculated using the stated notional amount and the stated “price” per leg (such as a fixed or floating rate index).

(4) For swaps without a stated contractual notional amount, does calculation guidance exist in other jurisdictions and/or regulatory frameworks, such as in banking, insurance, or energy market regulations? Should persons be permitted to use such guidance to calculate notional amounts for purposes of a de minimis threshold calculation?

(5) What should be used for “price” when calculating notional amounts for swaps without a stated contractual notional? Contractual stated price, such as a fixed price, spread, or option strike? The spot price of the underlying index or reference? The implied forward price of the underlying? A different measure of price not listed here? Should the price of the last available transaction in the commodity at the time the swap is entered into be used for this calculation? Is it appropriate to use a “waterfall” of prices to calculate notional amount, depending on the availability of a price type?

156

For example, contractual stated fixed price might be required to be used first. Lacking a stated fixed price in the swap, spot price of the underlying would then be used instead.

(6) What metric should be used for “price” for certain basis swaps with no fixed price or fixed spread?

(7) How should the “price” of swaps be calculated for swaps with varying prices per leg, such as a predetermined rising or falling price schedule?

(8) What metric should be used for “volume” when calculating notional amounts for swaps without a stated contractual notional amount? Should the Commission assume that swaps with volume optionality will be exercised for the full quantity or should volume options be delta-adjusted, too?

(9) Should the total quantity for a “leg” be used, or an approximation for a pre-determined time period, such as a monthly or annualized quantity approximation?

157

For an example of “monthly notional amount approximation” rather than aggregated total notional quantity,

see

Proposed Instrument,

supra

note 154, at 24-26.

(10) How should the “volume” of swaps be calculated for swaps with varying notional amount or volume per leg, such as amortizing or accreting swaps?

(11) Should the U.S. dollar equivalent notional amount be calculated across all “legs” of a swap by calculating the U.S. dollar equivalent notional amount for each leg and then calculating the minimum, median, mean, or maximum notional amount of all legs of the swap?

(12) Should the absolute value of a price times volume calculation be used, or should the calculation allow for negative notional amounts?

(13) Given that a derivatives clearing organization (“DCO”) has to mark a swap to market on a daily basis, it may be possible to determine “implied volatilities” for swaptions and options that are regularly marked-to-market, such as cleared swaps, in order to delta-adjust them. Should DCO evaluations be used when there are not better market prices available?

III. Other Considerations

In addition to the proposed rule amendments discussed above, the Commission is seeking comment on other potential considerations for the de minimis threshold, including: (1) Adding a minimum dealing counterparty count and a minimum dealing transaction count threshold; (2) excepting from the de minimis threshold calculation swaps that are exchange-traded and/or cleared; and (3) excepting from the de minimis threshold calculation swaps that are categorized as non-deliverable forwards. The Commission may take into consideration comments received regarding any of these factors in formulating the final rule or may in the future consider proposing an amendment to the SD Definition to reflect any of these factors for purposes of the de minimis threshold calculation.

A. Dealing Counterparty Count and Dealing Transaction Count Thresholds

1. Background

The Commission is re-considering the merits of using AGNA, by itself, to determine if an entity's swap dealing activity is de minimis. Specifically, the Commission is seeking comment on whether an entity should be able to qualify for the de minimis exception if its level of swap dealing activity is below

any

of the following three criteria: (1) An AGNA threshold, (2) a proposed dealing counterparty count threshold,

(3) a proposed dealing transaction count threshold.

Section 1a(49)(D) of the CEA directs the Commission to exempt from designation as an SD an entity that engages in a de minimis qua

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