Time-limited no-action relief for OTC Clearing Hong Kong Limited with regard to Sections 5b(a) and 2(h)(1)(A) of the Commodity Exchange Act and implementing regulations thereunder.

Summary: Time-limited no-action relief for OTC Clearing Hong Kong Limited with regard to Sections 5b(a) and 2(h)(1)(A) of the Commodity Exchange Act and implementing regulations thereunder.

U.S. COMMODITY FUTURES TRADING COMMISSION

Three Lafayette Centre

1155 21st Street, NW, Washington, DC 20581

Telephone: (202) 418-5430

Facsimile: (202) 418-5547

aradhakrishnan@cftc.gov

Division of Clearing and Risk

Ananda Radhakrishnan

Director

CFTC Letter No. 14-68

No Action

May 7, 2014

Division of Clearing and Risk

Mr. Gerald Greiner

Chief Executive

OTC Clearing Hong Kong Limited

One International Finance Centre

1 Harbour View Street

Central, Hong Kong

RE:

Request for No-Action Relief with Regard to Sections 5b(a) and 2(h)(1)(A) of the

Commodity Exchange Act and Commission Regulations Thereunder

Dear Mr. Greiner:

This is in response to your letter dated February 20, 2014 (“Letter”), to the Division of

Clearing and Risk (“Division”) of the Commodity Futures Trading Commission

(“Commission”). In the Letter, you request that the Division confirm that it will not recommend

that the Commission take enforcement action against (1) OTC Clearing Hong Kong Limited

(“OTC Clear”) for failure to register as a derivatives clearing organization (“DCO”) pursuant to

Section 5b(a) of the Commodity Exchange Act (“CEA”),1 or (2) clearing members of OTC Clear

that are U.S. persons or affiliates of U.S. persons (each a “U.S. Clearing Member”) for failure to

clear certain interest rate swaps (“IRS”) and certain non-deliverable forwards (“NDFs”) through

a registered DCO pursuant to Section 2(h)(1)(A) of the CEA and the implementing regulations

thereunder.

Under this requested relief, OTC Clear would be permitted to clear IRS denominated in

four currencies—Chinese Renminbi (“RMB”), Hong Kong Dollar, U.S. Dollar, and Euro—and

NDFs denominated in four currencies—RMB, Taiwan Dollar, Korean Won, and Indian Rupee—

for the proprietary trades of U.S. Clearing Members

nt to Section 2(h)(1)(A) of the CEA and the implementing regulations

thereunder.

Under this requested relief, OTC Clear would be permitted to clear IRS denominated in

four currencies—Chinese Renminbi (“RMB”), Hong Kong Dollar, U.S. Dollar, and Euro—and

NDFs denominated in four currencies—RMB, Taiwan Dollar, Korean Won, and Indian Rupee—

for the proprietary trades of U.S. Clearing Members. You request that such relief be effective

until the earlier of December 31, 2014, or the date upon which the Commission, acting pursuant

to its authority under Section 5b(h) of the CEA, exempts OTC Clear from the DCO registration

1 7 U.S.C. § 7a-1(a).

Mr. Gerald Greiner

May 7, 2014

Page 2

requirement of the CEA.2 You further represent that OTC Clear intends to apply for an

exemption from registration as a DCO once the Commission addresses the process or specific

criteria and conditions necessary to obtain exemptive relief.

Statement of Facts

Based upon the representations made by OTC Clear to the Division in the Letter, we

understand the relevant facts to be as follows:

OTC Clear is a wholly-owned subsidiary of Hong Kong Exchanges and Clearing

Limited. OTC Clear was recognized as a clearing organization by the Securities and Futures

Commission (“SFC”) of Hong Kong on October 25, 2013, and has been clearing inter-dealer IRS

and NDFs as of November 25, 2013.3

Currently, OTC Clear provides clearing services for inter-dealer over-the-counter

(“OTC”) derivatives transactions between institutions regulated by the Hong Kong Monetary

Authority or corporations regulated by the SFC. As part of its plan to prepare for the

introduction of the mandatory clearing regime in Hong Kong, OTC Clear intends to expand its

clearing services to support the clearing of OTC derivatives transactions entered into by clients

of its clearing members. OTC Clear also intends to accept certain U.S. persons, including Hong

Kong branches of U.S

Authority or corporations regulated by the SFC. As part of its plan to prepare for the

introduction of the mandatory clearing regime in Hong Kong, OTC Clear intends to expand its

clearing services to support the clearing of OTC derivatives transactions entered into by clients

of its clearing members. OTC Clear also intends to accept certain U.S. persons, including Hong

Kong branches of U.S. banks, as clearing members in connection with their own proprietary

clearing business.

With regard to the regulation and supervision of OTC Clear, OTC Clear is a recognized

clearing house under the supervision of the SFC. As part of the recognition process, OTC Clear

was required to demonstrate, to the satisfaction of the SFC, its ability to observe the Principles

for Financial Market Infrastructure developed by the Bank for International Settlements’

Committee on Payment and Settlement Systems and the Technical Committee of the

International Organization of Securities Commissions.

Discussion of Request for No-Action Relief and Applicable Legal Requirements

The Division accepts, without independent analysis, OTC Clear’s representation that the

IRS and foreign exchange NDF contracts subject to its request are swaps under the CEA and

Commission regulations. The Division also accepts, without further inquiry, that certain of OTC

Clear’s prospective clearing members may be U.S. persons.

2 Section 5b(h) of the CEA, 7 U.S.C. § 7a-1(h), permits the Commission to exempt a clearing organization from

registration for the clearing of swaps if the Commission determines that the clearing organization is subject to

comparable, comprehensive supervision and regulation by the Securities and Exchange Commission or the

appropriate government authorities in the clearing organization’s home country

ion 5b(h) of the CEA, 7 U.S.C. § 7a-1(h), permits the Commission to exempt a clearing organization from

registration for the clearing of swaps if the Commission determines that the clearing organization is subject to

comparable, comprehensive supervision and regulation by the Securities and Exchange Commission or the

appropriate government authorities in the clearing organization’s home country.

3 OTC Clear has proposed to also clear: (1) IRS based on CNH Hong Kong Interbank Offered Rate fixing; (2) NDFs

denominated in Philippine Peso, Malaysian Ringgit, and Indonesian Rupiah; and (3) non-deliverable IRS

denominated in Indian Rupee, South Korean Won, Taiwan New Dollar, Indonesian Rupiah, Philippine Peso, and

Thai Baht.

Mr. Gerald Greiner

May 7, 2014

Page 3

The statutory definition of the term “swap,” as further defined in the implementing

regulations thereunder, includes IRS and foreign exchange NDFs.4 Section 5b(a) of the CEA

provides that a derivatives clearing organization may not perform the functions of a DCO with

respect to swaps unless it is registered with the Commission.5 Section 2(h)(1)(A) of the CEA

states that swaps that are required to be cleared must be submitted to a registered DCO or a DCO

that is exempt from registration.6

OTC Clear’s request for relief is consistent with recent requests for Division no-action

letters permitting similarly-situated non-U.S. clearing organizations to clear swaps for U.S.

persons prior to becoming registered with the Commission as a DCO.7 Granting the relief

requested by OTC Clear during the pendency of its application for an exemption pursuant to

Section 5b(h) of the CEA is appropriate in order to facilitate the centralized clearing of certain

IRS and foreign exchange NDF contracts, and to promote competition and enhance choice in

clearing services for such contracts

prior to becoming registered with the Commission as a DCO.7 Granting the relief

requested by OTC Clear during the pendency of its application for an exemption pursuant to

Section 5b(h) of the CEA is appropriate in order to facilitate the centralized clearing of certain

IRS and foreign exchange NDF contracts, and to promote competition and enhance choice in

clearing services for such contracts. The Division notes, however, that the Commission has not

established a regulatory framework for exempting a clearing organization from registration as a

DCO pursuant to Section 5b(h) of the CEA. Accordingly, the Division’s granting of no-action

relief herein should not be interpreted to mean that the Commission will exempt OTC Clear from

registration as a DCO.

Grant of No-Action Relief

Based on the facts presented and the representations you have made, the Division will not

recommend that the Commission take enforcement action against (1) OTC Clear for failure to

register as a DCO pursuant to the requirements of Section 5b(a) of the CEA, or (2) OTC Clear’s

4 Section 1a(47)(A) of the CEA, 7 U.S.C. § 1a(47)(a), states: “[T]he term ‘swap’ means any agreement, contract, or

transaction— . . . (iii) that provides on an executory basis for the exchange, on a fixed or contingent basis, of 1 or

more payments based on the value or level of 1 or more interest or other rates . . . including any agreement, contract,

or transaction commonly known as— (I) an interest rate swap . . . .” Regulation 1.3(xxx), 17 C.F.R. § 1.3(xxx),

further includes a non-deliverable forward involving foreign exchange within the definition of the term “swap.”

5 Section 5b(a) of the CEA, 7 U.S.C

asis, of 1 or

more payments based on the value or level of 1 or more interest or other rates . . . including any agreement, contract,

or transaction commonly known as— (I) an interest rate swap . . . .” Regulation 1.3(xxx), 17 C.F.R. § 1.3(xxx),

further includes a non-deliverable forward involving foreign exchange within the definition of the term “swap.”

5 Section 5b(a) of the CEA, 7 U.S.C. § 7a-1(a), states: “Except as provided in paragraph (2), it shall be unlawful for

a derivatives clearing organization, directly or indirectly, to make use of the mails or any means or instrumentality

of interstate commerce to perform the functions of a derivatives clearing organization with respect to— . . . (B) a

swap. (2) EXCEPTION.—Paragraph (1) shall not apply to a derivatives clearing organization that is registered with

the Commission.”

6 See supra text accompanying note 2.

7 See CFTC No-Action Letter No. 14-07 (Feb. 6, 2014) (granting no-action relief to ASX Clear (Futures) Pty

Limited and certain of its clearing members); CFTC No-Action Letter No. 13-73 (Dec. 19, 2013) (extending

previous grant of no-action relief to Japan Securities Clearing Corporation and certain of its clearing members);

CFTC No-Action Letter No. 13-43 (July 11, 2013) (granting no-action relief to LCH.Clearnet SA and certain of its

clearing members); CFTC No-Action Letter No. 13-33 (July 11, 2013) (granting no-action relief to Eurex Clearing

AG and certain of its clearing members); CFTC No-Action Letter No. 12-63 (Dec. 21, 2012) (granting no-action

relief to Singapore Exchange Derivatives Clearing Limited and certain of its clearing members); and CFTC No-

Action Letter No. 12-56 (Dec. 17, 2012) (granting no action relief to Japan Securities Clearing Corporation and

certain of its clearing members).

-action relief to Eurex Clearing

AG and certain of its clearing members); CFTC No-Action Letter No. 12-63 (Dec. 21, 2012) (granting no-action

relief to Singapore Exchange Derivatives Clearing Limited and certain of its clearing members); and CFTC No-

Action Letter No. 12-56 (Dec. 17, 2012) (granting no action relief to Japan Securities Clearing Corporation and

certain of its clearing members).

Mr. Gerald Greiner

May 7, 2014

Page 4

U.S. Clearing Members for failure to clear IRS or foreign exchange NDFs through a registered

or exempt DCO pursuant to the requirements of Section 2(h)(1)(A) of the CEA and the

implementing regulations thereunder, subject to the following conditions:

(1) Product Scope. The relief is limited to the following contracts accepted for clearing

by OTC Clear: IRS denominated in RMB, Hong Kong Dollar, U.S. Dollar, and Euro;

and NDFs denominated in RMB, Taiwan Dollar, Korean Won, and Indian Rupee.

(2) Participant Scope. The relief applies to OTC Clear’s clearing of the proprietary

trades8 of U.S. Clearing Members.

(3) Reporting. If a clearing member clears through OTC Clear a swap (referred to as the

“alpha” swap) that has been reported to a Commission-registered swap data

repository (“SDR”) pursuant to Part 45 of the Commission’s regulations,9 then OTC

Clear must report to an SDR, pursuant to Part 45, data regarding the two swaps

resulting from the novation of the alpha swap that had been submitted to OTC Clear

for clearing (referred to as “beta” and “gamma” swaps).10

referred to as the

“alpha” swap) that has been reported to a Commission-registered swap data

repository (“SDR”) pursuant to Part 45 of the Commission’s regulations,9 then OTC

Clear must report to an SDR, pursuant to Part 45, data regarding the two swaps

resulting from the novation of the alpha swap that had been submitted to OTC Clear

for clearing (referred to as “beta” and “gamma” swaps).10

(4) Limited Duration. The no-action relief shall expire at the earlier of: (i) December 31,

2014, or (ii) the date upon which the Commission either registers OTC Clear as a

DCO under Section 5b(a) of the CEA or exempts OTC Clear from registration as a

DCO under Section 5b(h) of the CEA.

The position taken herein concerns enforcement action only and does not represent a

legal conclusion with respect to the applicability of any provision of the CEA or the

Commission’s regulations. In addition, the Division’s position does not necessarily reflect the

8 See 17 C.F.R. § 1.3(y) (definition of “proprietary account”).

9 See Swap Data Recordkeeping and Reporting Requirements, 77 Fed. Reg. 2136 (Jan. 13, 2012) (adopting Part 45).

10 Pursuant to Regulation 39.12(b)(6), 17 C.F.R. § 39.12(b)(6), during the clearing process, a swap submitted for

clearing to a registered DCO (the alpha swap) is extinguished or terminated, and two new swaps (the beta and

gamma swaps) are created. The registered DCO must then report the beta and gamma swaps to an SDR under Part

45 and associate the unique swap identifier of the alpha swap with the beta and gamma swaps in order for the

Commission to confirm that such alpha swap was cleared. See Statement of the Commission concerning CME Rule

1001 (March 6, 2013), page 6, available at:

http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/statementofthecommission.pdf; see also 17

C.F.R

s to an SDR under Part

45 and associate the unique swap identifier of the alpha swap with the beta and gamma swaps in order for the

Commission to confirm that such alpha swap was cleared. See Statement of the Commission concerning CME Rule

1001 (March 6, 2013), page 6, available at:

http://www.cftc.gov/ucm/groups/public/@newsroom/documents/file/statementofthecommission.pdf; see also 17

C.F.R. § 45.4(a) (“[R]eporting counterparties and [DCOs] required to report swap continuation data must do so in a

manner sufficient to ensure that all data in the [SDR] concerning the swap remains current and accurate, and

includes all changes to the primary economic terms of the swap occurring during the existence of the swap.”); 77

Fed. Reg. at 2153 (“[T]he final rule requires registered entities and reporting counterparties to report continuation

data in a manner sufficient to ensure that the information in the SDR concerning the swap is current and accurate,

and includes all changes to any of the primary economic terms of the swap.”).

In order to avoid duplicative reporting for such transactions, OTC Clear should have rules that prohibit the Part 45

reporting of the beta and gamma swaps by the original counterparties to the alpha swap. These rules should make it

clear to market participants that OTC Clear is reporting the beta and gamma swaps as if it were a registered DCO

under the Part 45 rules.

Mr. Gerald Greiner

May 7, 2014

Page 5

views of the Commission or any other division or office of the Commission. Because this

position is based upon the representations contained in the Letter, it should be noted that any

different, changed, or omitted material facts or circumstances may require a different conclusion

or render this letter void. Finally, as with all no-action letters, the Division retains the authority

to condition further, modify, suspend, terminate, or otherwise restrict the terms of the no-action

relief provided herein, in its discretion

contained in the Letter, it should be noted that any

different, changed, or omitted material facts or circumstances may require a different conclusion

or render this letter void. Finally, as with all no-action letters, the Division retains the authority

to condition further, modify, suspend, terminate, or otherwise restrict the terms of the no-action

relief provided herein, in its discretion.

Should you have any questions, please do not hesitate to contact me at (202) 418-5188, or

Parisa Abadi, Attorney-Advisor, at (202) 418-6620.

Sincerely,

Ananda Radhakrishnan

Director