# 87 FR 6652: Prohibition Against Fraud, Manipulation, or Deception in Connection With Security-Based Swaps; Prohibition Against Undue Influence Over Chief Compliance Officers; Position Reporting of Large Security-Based Swap Positions

> Federal · Regulations · In force

URL: https://www.frixlaw.com/law-library/statutes/FR_PRORULE_2021-27531

## Section

- **Citation:** 87 FR 6652
- **Heading:** Prohibition Against Fraud, Manipulation, or Deception in Connection With Security-Based Swaps; Prohibition Against Undue Influence Over Chief Compliance Officers; Position Reporting of Large Security-Based Swap Positions
- **Jurisdiction:** Federal
- **Kind:** Regulations
- **Status:** In force
- **Text as of:** August 14, 2026
- **Source:** Compiled text
- **Location:** Federal Register / Vol. 87 / 87 FR 6652

## Text

SECURITIES AND EXCHANGE COMMISSION 17 CFR Part 240 [Release No. 34-93784; File No. S7-32-10] RIN 3235-AK77 Prohibition Against Fraud, Manipulation, or Deception in Connection With Security-Based Swaps; Prohibition Against Undue Influence Over Chief Compliance Officers; Position Reporting of Large Security-Based Swap Positions AGENCY:
Securities and Exchange Commission.

ACTION:
Proposed rules.

SUMMARY:
The Securities and Exchange Commission (“SEC” or “Commission”) is re-proposing for comment a rule under the Securities Exchange Act of 1934 (“Exchange Act”), which would be a new rule designed to prevent fraud, manipulation, and deception in connection with effecting transactions in, or inducing or attempting to induce the purchase or sale of, any security-based swap. The rule is designed specifically to take into account the unique features of a security-based swap and would explicitly reach misconduct in connection with the ongoing payments and deliveries that typically occur throughout the life of a security-based swap. The Commission also is proposing a new rule, which would make it unlawful for any officer, director, supervised person, or employee of a security-based swap dealer or major security-based swap participant, or any person acting under such person's direction, to directly or indirectly take any action to coerce, manipulate, mislead, or fraudulently influence the security-based swap dealer's or major security-based swap participant's chief compliance officer (“CCO”) in the performance of their duties under the federal securities laws or the rules and regulations thereunder. Finally, the Commission is using its authority under the Exchange Act to propose for comment a new rule, which would require any person with a security-based swap position that exceeds a certain threshold to promptly file with the Commission a schedule disclosing certain information related to its security-based swap position.

DATES:
Comments should be received on or before March 21, 2022
r. Finally, the Commission is using its authority under the Exchange Act to propose for comment a new rule, which would require any person with a security-based swap position that exceeds a certain threshold to promptly file with the Commission a schedule disclosing certain information related to its security-based swap position.

DATES:
Comments should be received on or before March 21, 2022.

ADDRESSES:
Comments may be submitted by any of the following methods:
Electronic Comments
• Use the Commission's internet comment form ( https://www.sec.gov/rules/regulatory-actions/how-to-submit-comments ); or
• Send an email to rule-comments@sec.gov. Please include File Number S7-32-10 on the subject line; or
Paper Comments
• Send paper comments to Vanessa A. Countryman, Secretary, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.
All submissions should refer to File Number S7-32-10. This file number should be included on the subject line if email is used. To help us process and review your comments more efficiently, please use only one method. The Commission will post all comments on the Commission's internet website ( http://www.sec.gov/rules/proposed.shtml ). Comments are also available for website viewing and printing in the Commission's Public Reference Room, 100 F Street NE, Room 1580, Washington, DC 20549, on official business days between the hours of 10 a.m. and 3 p.m. Operating conditions may limit access to the Commission's public reference room. All comments received will be posted without change. Persons submitting comments are cautioned that the Commission does not redact or edit personal identifying information from comment submissions. You should submit only information that you wish to make publicly available. Studies, memoranda, or other substantive items may be added by the Commission or staff to the comment file during this rulemaking
comments received will be posted without change. Persons submitting comments are cautioned that the Commission does not redact or edit personal identifying information from comment submissions. You should submit only information that you wish to make publicly available. Studies, memoranda, or other substantive items may be added by the Commission or staff to the comment file during this rulemaking. A notification of the inclusion in the comment file of any such materials will be made available on the SEC's website. To ensure direct electronic receipt of such notifications, sign up through the “Stay Connected” option at www.sec.gov to receive notifications by email.
FOR FURTHER INFORMATION CONTACT:
Carol M. McGee, Assistant Director, at (202) 551-5870, Office of Derivatives Policy, Division of Trading and Markets, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549-8010.

SUPPLEMENTARY INFORMATION:
The Commission is re-proposing for comment 17 CFR 240.9j-1 (“Rule 9j-1”) under the Exchange Act, which would be a new rule designed to prevent fraud, manipulation, and deception in connection with effecting transactions in, or inducing or attempting to induce the purchase or sale of, any security-based swap. The Commission also is proposing new 17 CFR 240.15Fh-4(c) (“Rule 15Fh-4(c)”) under the Exchange Act, which would make it unlawful for any officer, director, supervised person, or employee of a security-based swap dealer or major security-based swap participant, or any person acting under such person's direction, to directly or indirectly take any action to coerce, manipulate, mislead, or fraudulently influence the security-based swap dealer's or major security-based swap participant's CCO in the performance of their duties under the Federal securities laws or the rules and regulations thereunder
based swap dealer or major security-based swap participant, or any person acting under such person's direction, to directly or indirectly take any action to coerce, manipulate, mislead, or fraudulently influence the security-based swap dealer's or major security-based swap participant's CCO in the performance of their duties under the Federal securities laws or the rules and regulations thereunder. Finally, the Commission is using its authority under Section 10B(d) of the Exchange Act to propose for comment new 17 CFR 240.10B-1 (“Rule 10B-1”), which would require any person with a security-based swap position that exceeds a certain threshold to promptly file with the Commission a schedule disclosing among other things: (1) The applicable security-based swap position; (2) positions in any security or loan underlying the security-based swap position; and (3) any other instrument relating to the underlying security or loan, or group or index of securities or loans. Proposed Rule 10B-1 includes different reporting thresholds for security-based swaps tied to debt securities and security-based swaps tied to equity securities. The Commission would make all filings received pursuant to proposed Rule 10B-1 available to the public, with the goal of increasing transparency and oversight in the security-based swap market.
I. Introduction A. Background B. Observations in the Credit Default Swap Market C. Overview of the Proposal 1. Re-Proposed Rule 9j-1 2. Proposed Rule 15Fh-4(c) 3. Proposed Rule 10B-1 20 II. Re-Proposed Rule 9j-1: Prohibition Against Fraud, Manipulation, and Deception in Connection With Security-Based Swaps A. Prior Commission Action B. Scope of Re-Proposed Rule 9j-1 1. General Antifraud and Anti-Manipulation Provisions 2. “Purchases” and “Sales” in the Context of Security-Based Swaps and Limited Safe Harbor for Certain Limited Actions 3. Prohibition on Price Manipulation C. Liability Under Proposed Rule 9j-1 in Connection With the Purchase or Sale of a Security D
Connection With Security-Based Swaps A. Prior Commission Action B. Scope of Re-Proposed Rule 9j-1 1. General Antifraud and Anti-Manipulation Provisions 2. “Purchases” and “Sales” in the Context of Security-Based Swaps and Limited Safe Harbor for Certain Limited Actions 3. Prohibition on Price Manipulation C. Liability Under Proposed Rule 9j-1 in Connection With the Purchase or Sale of a Security D. Preventing Undue Influence Over Chief Compliance Officers; Policies and Procedures Regarding Compliance With Re-Proposed Rule 9j-1, Proposed Rule 10B-1 and Proposed Rule 15Fh-4(c) E. Request for Comment III. Proposed Rule 10B-1: Position Reporting of Large Security-Based Swap Positions A. Proposed Definitions and Thresholds 1. Reporting Thresholds for Debt Security-Based Swaps (Including CDS) 2. Reporting Threshold for Security-Based Swaps on Equity 3. Amendments to a Previously Filed Schedule 10B B. Information Required To Be Included in Schedule 10B C. Cross-Border Issues D. Structured Data Requirement for Schedule 10B E. Request for Comment IV. General Request for Comment V. Paperwork Reduction Act A. Summary of Collections of Information B. Proposed Use of Information C. Respondents D. Total Annual Recordkeeping Burden 1. Initial Costs and Burdens 2. Ongoing Costs and Burdens E. Collection of Information Is Mandatory F. Confidentiality G. Request for Comment VI. Economic Analysis A. Introduction B. Broad Economic Considerations C. Baseline 1. Existing Regulatory Frameworks 2. Security-Based Swap Data, Market Participants, Dealing Structures, Levels of Security-Based Swap Trading Activity, and Position Concentration D. Consideration of Costs and Benefits; Consideration of Burden on Competition and Promotion of Efficiency, Competition and Capital Formation 1. Re-Proposed Rule 9j-1 and Proposed Rule 15Fh-4(c) i. Benefits ii. Costs 2. Proposed Rule 10B-1 i. Benefits ii. Costs iii
y-Based Swap Data, Market Participants, Dealing Structures, Levels of Security-Based Swap Trading Activity, and Position Concentration D. Consideration of Costs and Benefits; Consideration of Burden on Competition and Promotion of Efficiency, Competition and Capital Formation 1. Re-Proposed Rule 9j-1 and Proposed Rule 15Fh-4(c) i. Benefits ii. Costs 2. Proposed Rule 10B-1 i. Benefits ii. Costs iii. Reporting Thresholds (A) Thresholds for Credit Default Swaps (B) Thresholds for Non-CDS Debt Security-Based Swaps and Security-Based Swaps on Equity E. Reasonable Alternatives 1. Implementing a More Prescriptive Approach in Re-Proposed Rule 9j-1 2. Safe Harbor for Hedging Exposure Arising Out of Lending Activities 3. Mandating That Security-Based Swap Data Repositories Report or Publicly Disclose Positions 4. Adopting Position Limits 5. Threshold Alternatives for Security-Based Swaps Based on Equity and Non-CDS Debt 173 6. Threshold Alternatives for Credit Default Swaps 7. Information Required To Be Reported on Schedule 10B F. Request for Comment VII. Consideration of Impact on the Economy VIII. Regulatory Flexibility Act Certification IX. Statutory Authority I. Introduction
A. Background
Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”), 1 which established a regulatory framework for the over-the-counter (“OTC”) derivatives market, provides that the Commission is primarily responsible for regulating security-based swaps, while the Commodity Futures Trading Commission (“CFTC”) is primarily responsible for regulating swaps. The Commission has now finalized a majority of its Title VII rules related to security-based swaps
rank Act”), 1 which established a regulatory framework for the over-the-counter (“OTC”) derivatives market, provides that the Commission is primarily responsible for regulating security-based swaps, while the Commodity Futures Trading Commission (“CFTC”) is primarily responsible for regulating swaps. The Commission has now finalized a majority of its Title VII rules related to security-based swaps. 2 In accordance with those rules, a person who satisfies the definitions of “security-based swap dealer” (“SBSD”) or “major security-based swap participant” (“MSBSP”) (each SBSD and each MSBSP also referred to as an “SBS Entity” and together referred to as “SBS Entities”) is now required to register with the Commission in such capacity and is therefore subject to the Commission's regime regarding margin, capital, segregation, recordkeeping and reporting, trade acknowledgment and verification requirements, risk mitigation techniques for uncleared security-based swaps, business conduct standards for security-based swap activity, including internal supervision requirements and the requirement to designate an individual to serve as the CCO who must take reasonable steps to ensure that the SBS Entity establishes, maintains, and reviews written policies and procedures reasonably designed to achieve compliance with the Exchange Act and the rules and regulations thereunder relating to its business as an SBS Entity. 3 Transaction reporting for security-based swaps has been required since November 8, 2021, with public dissemination to begin on February 14, 2022. 4
1 Wall Street Transparency and Accountability Act of 2010, Public Law. 111-203, § 761-774, 124 Stat. 1376, 1754-1802(2010). Unless otherwise indicated, references to “Title VII” in this release are to Subtitle B of Title VII of the Dodd-Frank Act.
2 See, e.g., Regulation SBSR—Reporting and Dissemination of Security-Based Swap Information, Exchange Act Release No. 74244 (Feb. 11, 2015), 80 FR 14563 (Mar
Street Transparency and Accountability Act of 2010, Public Law. 111-203, § 761-774, 124 Stat. 1376, 1754-1802(2010). Unless otherwise indicated, references to “Title VII” in this release are to Subtitle B of Title VII of the Dodd-Frank Act.
2 See, e.g., Regulation SBSR—Reporting and Dissemination of Security-Based Swap Information, Exchange Act Release No. 74244 (Feb. 11, 2015), 80 FR 14563 (Mar. 19, 2015) (“2015 Regulation SBSR Adopting Release”); Security-Based Swap Data Repository Registration, Duties, and Core Principles, Exchange Act Release No. 74246 (Feb. 11, 2015), 80 FR 14437 (Mar. 19, 2015); Registration Process for Security-Based Swap Dealers and Major Security-Based Swap Participants, Exchange Act Release No. 75611 (Aug. 5, 2015), 80 FR 48963 (Aug. 14, 2015); Regulation SBSR—Reporting and Dissemination of Security-Based Swap Information, Exchange Act Release No. 78321 (July 14, 2016), 81 FR 53545 (Aug. 12, 2016) (“2016 Regulation SBSR Adopting Release”); Applications by Security-Based Swap Dealers or Major Security-Based Swap Participants for Statutorily Disqualified Associated Person To Effect or Be Involved in Effecting Security-Based Swaps, Exchange Act Release No. 84858 (Dec. 19, 2018), 84 FR 4906 (Feb. 19, 2019); Capital, Margin, and Segregation Requirements for Security-Based Swap Dealers and Major Security-Based Swap Participants and Capital and Segregation Requirements for Broker-Dealers, Exchange Act Release No. 86175 (June 21, 2019), 84 FR 43872 (Aug. 22, 2019) (“Capital, Margin, and Segregation Adopting Release”); Recordkeeping and Reporting Requirements for Security-Based Swap Dealers, Major Security-Based Swap Participants, and Broker-Dealers, Exchange Act Release No. 87005 (Sept. 19, 2019), 84 FR 68550 (Dec. 16, 2019) (“Recordkeeping and Reporting Adopting Release”); Rule Amendments and Guidance Addressing Cross-Border Application of Certain Security-Based Swap Requirements, Exchange Act Release No. 87780 (Dec. 18, 2019), 85 FR 6270 (Feb. 4, 2020) (“Cross-Border Amendments Release”)
Security-Based Swap Participants, and Broker-Dealers, Exchange Act Release No. 87005 (Sept. 19, 2019), 84 FR 68550 (Dec. 16, 2019) (“Recordkeeping and Reporting Adopting Release”); Rule Amendments and Guidance Addressing Cross-Border Application of Certain Security-Based Swap Requirements, Exchange Act Release No. 87780 (Dec. 18, 2019), 85 FR 6270 (Feb. 4, 2020) (“Cross-Border Amendments Release”).
3 See Cross-Border Amendments Release, 85 FR at 6345-46. The first SBSDs were required to be conditionally registered with the Commission by November 1, 2021.
4 See SEC Approves Registration of First Security-Based Swap Data Repository; Sets the First Compliance Date for Regulation SBSR ( available at: https://www.sec.gov/news/press-release/2021-80 ). In addition, each registered security-based swap data repository (“SBSDR”) will be required to begin publicly disseminating security-based swap data as of February 14, 2022, which is the first Monday that is three months after the date that reporting began. See 2016 Regulation SBSR Adopting Release, 81 FR at 53608. Finally, the deadline for reporting certain historical security-based swaps to an SBSDR is two months after the date that public dissemination is required to begin ( i.e., April 14, 2022). See 2016 Regulation SBSR Adopting Release, 81 FR at 53610.
In addition to the operational rules for SBS Entities and security-based swap data reporting and public dissemination, the Dodd-Frank Act also amended the Exchange Act in a number of important ways to prohibit fraud, manipulation, and deception in connection with security-based swaps. In particular, Section 763(g) of the Dodd-Frank Act expanded the anti-manipulation provisions of Section 9 of the Exchange Act to encompass purchases or sales of security-based swaps and requires the Commission to adopt rules to prevent fraud, manipulation, and deception in connection with security-based swaps
to prohibit fraud, manipulation, and deception in connection with security-based swaps. In particular, Section 763(g) of the Dodd-Frank Act expanded the anti-manipulation provisions of Section 9 of the Exchange Act to encompass purchases or sales of security-based swaps and requires the Commission to adopt rules to prevent fraud, manipulation, and deception in connection with security-based swaps. Specifically, paragraph (j) of Section 9 makes it unlawful for “any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce or of the mails, or of any facility of any national securities exchange, to effect any transaction in, or to induce or attempt to induce the purchase or sale of, any security-based swap, in connection with which such person engages in any fraudulent, deceptive, or manipulative act or practice, makes any fictitious quotation, or engages in any transaction, practice, or course of business which operates as a fraud or deceit upon any person.” 5 It also provides that the Commission “shall . . . by rules and regulations define, and prescribe means reasonably designed to prevent, such transactions, acts, practices, and courses of business as are fraudulent, deceptive, or 6
5 See 15 U.S.C. 78i(j). Note that Section 9 of the Exchange Act erroneously contains two subsection (j)s.
6 See id.
Additionally, Section 761 of the Dodd-Frank Act modified several definitions in both the Exchange Act and the Securities Act to account for security-based swaps. For example, the Dodd-Frank Act amended the definition of “security” in Section 3(a)(10) of the Exchange Act 7 and Section 2(a)(1) of the Securities Act 8 to include security-based swaps. As a result, security-based swaps, because they are securities, are subject to the general antifraud and anti-manipulation provisions of the Federal securities laws, including Sections 9(a), 10(b) and 17 CFR 240.10b-5 (“Rule 10b-5”) under the Exchange Act, 9 and Section 17(a) of the Securities Act. 10
7 15 U.S.C. 78c(a)(10)
Section 2(a)(1) of the Securities Act 8 to include security-based swaps. As a result, security-based swaps, because they are securities, are subject to the general antifraud and anti-manipulation provisions of the Federal securities laws, including Sections 9(a), 10(b) and 17 CFR 240.10b-5 (“Rule 10b-5”) under the Exchange Act, 9 and Section 17(a) of the Securities Act. 10
7 15 U.S.C. 78c(a)(10).
8 15 U.S.C. 77b(a)(1).
9 15 U.S.C. 78j(b).
10 15 U.S.C. 77q(a).
Moreover, the Dodd-Frank Act amended the definitions of “purchase” and “sale” in Section 2(a)(18) of the Securities Act, 11 the definitions of “buy” and “purchase” in Section 3(a)(13) of the Exchange Act, 12 and “sale” and “sell” in Section 3(a)(14) of the Exchange Act, 13 in the context of security-based swaps, to include the execution, termination, assignment, exchange, transfer, or extinguishment of rights or obligations. As a result of those changes, misconduct in connection with these actions will also be prohibited under Sections 9 and 10(b) of the Exchange Act and Rule 10b-5 thereunder, and Section 17(a) of the Securities Act.
11 15 U.S.C. 77b(a)(18).
12 15 U.S.C. 78c(a)(13).
13 15 U.S.C. 78c(a)(14).
Finally, the Dodd-Frank Act also amended the Exchange Act to explicitly authorize the Commission to require reporting of large security-based swap positions. Section 763(h) of the Dodd-Frank Act, entitled “Position limits and position accountability for security-based swaps and large trader reporting,” added Section 10B to the Exchange Act. In addition to providing the Commission with authority to establish position limits for security-based swaps, Section 10B(d) also provides the Commission with rulemaking authority to require reporting of large security-based swap positions. Specifically, Section 10B(d) authorizes the Commission to:
. .
for security-based swaps and large trader reporting,” added Section 10B to the Exchange Act. In addition to providing the Commission with authority to establish position limits for security-based swaps, Section 10B(d) also provides the Commission with rulemaking authority to require reporting of large security-based swap positions. Specifically, Section 10B(d) authorizes the Commission to:
. . . require any person that effects transactions for such person's own account or the account of others in any securities-based swap or uncleared security-based swap and any security or loan or group or narrow-based security index of securities or loans . . . to report such information as the Commission may prescribe regarding any position or positions in any security-based swap or uncleared security-based swap and any security or loan or group or narrow-based security index of securities or loans and any other instrument relating to such security or loan or group or narrow-based security index of securities or loans . . . 14 14 See 15 U.S.C. 78j-2(d).
On November 3, 2010, the Commission proposed for comment new Rule 9j-1, which would have prohibited the same categories of misconduct as Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and Section 17(a) of the Securities Act of 1933, in the context of security-based swaps, but would also have explicitly addressed misconduct that is in connection with the “exercise of any right or performance of any obligation under” a security-based swap. 15 In other words, the 2010 proposed rule would have applied to offers, purchases, and sales of security-based swaps in the same way that the general antifraud provisions apply to all securities, but also would have explicitly applied to the cash flows, payments, deliveries, and other ongoing obligations and rights that are specific to security-based swaps. 16
15 See Prohibition Against Fraud, Manipulation, and Deception in Connection with Security-Based Swaps, Exchange Act Release No. 63236 (Nov
y-based swaps in the same way that the general antifraud provisions apply to all securities, but also would have explicitly applied to the cash flows, payments, deliveries, and other ongoing obligations and rights that are specific to security-based swaps. 16
15 See Prohibition Against Fraud, Manipulation, and Deception in Connection with Security-Based Swaps, Exchange Act Release No. 63236 (Nov. 3, 2010), 75 FR 68560 (Nov. 8, 2010) (“2010 Rule 9j-1 Proposing Release”). For purposes of this release, we will refer to the version of Rule 9j-1 that the Commission proposed in the 2010 Rule 9j-1 Proposing Release as the “2010 proposed rule.” We will generally refer to Rule 9j-1 as we propose it here as the “proposed rule” or “re-proposed Rule 9j-1.”
16 See 2010 Rule 9j-1 Proposing Release, 75 FR at 68561-62.
The Commission has not yet finalized rules mandated by Section 9(j), nor has it proposed any reporting requirements pursuant to Section 10B(d) of the Exchange Act. The regulatory landscape for security-based swaps has changed since the Commission first proposed Rule 9j-1 in 2010. At the time, efforts to reform the global OTC derivatives markets, which had been set in motion in response to the 2008 financial crisis, had only begun, such that these markets were not yet subject to a comprehensive regulatory framework. 17 Since that time, however, regulators overseeing the world's primary OTC derivatives markets have made significant progress implementing reforms for OTC derivatives. 18 In addition to the progress made by the Commission in finalizing its Title VII rulemakings related to security-based swaps, the CFTC has largely completed its Title VII rulemakings related to swaps, including by adopting antifraud and anti-manipulation rules under the Commodity Exchange Act (“CEA”) to implement the Dodd-Frank Act's amendments to Section 6(c) of the CEA
orms for OTC derivatives. 18 In addition to the progress made by the Commission in finalizing its Title VII rulemakings related to security-based swaps, the CFTC has largely completed its Title VII rulemakings related to swaps, including by adopting antifraud and anti-manipulation rules under the Commodity Exchange Act (“CEA”) to implement the Dodd-Frank Act's amendments to Section 6(c) of the CEA. 19 In light of the above, the Commission believes that now is an opportune time to move forward with the antifraud and manipulation rules required by Section 9(j) as well the rules contemplated by Section 10B(d). In addition, in recognition of the fact that CCOs of SBS Entities play an important role in preventing fraud and manipulation by SBS Entities and their personnel, in that they are tasked with designing and maintaining effective compliance systems, the Commission also is proposing an additional measure under Section 15F(h) of the Exchange Act to protect CCOs in the furtherance of those duties. 20
17 Commodity Futures Trading Commission and SEC Joint Report on International Swap Regulation, Jan. 31, 2012 ( available at: https://www.sec.gov/files/sec-cftc-intlswapreg.pdf ).
18 See Financial Stability Board, OTC Derivatives Market Reforms: Note on implementation progress for 2010, Nov. 25, 2020 ( available at: https://www.fsb.org/wp-content/uploads/P251120.pdf ).
19 17 CFR 180.1 (“CFTC Rule 180.1”) implements the provisions of Section 6(c)(1) of the CEA by prohibiting, among other things, manipulative and deceptive devices employed intentionally or recklessly, regardless of whether the conduct in question was intended to create or did create an artificial price. CFTC Rule 180.1 also prohibits trading on the basis of material non-public information in breach of a pre-existing duty (established by another law or rule, agreement, understanding, or some other source) and trading on the basis of material non-public information that was obtained through fraud or deception. See 17 CFR 180.1
ct in question was intended to create or did create an artificial price. CFTC Rule 180.1 also prohibits trading on the basis of material non-public information in breach of a pre-existing duty (established by another law or rule, agreement, understanding, or some other source) and trading on the basis of material non-public information that was obtained through fraud or deception. See 17 CFR 180.1. CFTC Rule 180.1(a) is modeled after Rule 10b-5 of the Exchange Act, although it contains some notable differences, such as its application to attempted fraud and manipulation. Id. 17 CFR 180.2 (“CFTC Rule 180.2”), promulgated pursuant to Section 6(c)(3) of the CEA and CFTC's general rulemaking authority, addresses price manipulation and, in line with Section 6(c)(3) of the CEA, provides that “[i]t shall be unlawful for any person, directly or indirectly, to manipulate or attempt to manipulate the price of any swap, or of any commodity in interstate commerce, or for future delivery on or subject to the rules of any registered entity.” A violation of CFTC Rule 180.2 requires a showing of “specific intent.” See Prohibition on the Employment, or Attempted Employment, of Manipulative and Deceptive Devices and Prohibition on Price Manipulation, 76 FR 41398, 41707 (Jul. 14, 2011) (“[the CFTC] reaffirms the requirement under final Rule 180.2 that a person must act with the requisite specific intent. In other words, recklessness will not suffice under final Rule 180.2 as it will under final Rule 180.1.”).
20 To be clear, the ultimate responsibility for compliance by the SBS Entity with the federal securities laws, including the requirement to have adequate compliance systems and to avoid violations generally, rests with the SBS Entity itself.
B. Observations in the Credit Default Swap Market
In addition to the regulatory developments, there have been market developments
r final Rule 180.1.”).
20 To be clear, the ultimate responsibility for compliance by the SBS Entity with the federal securities laws, including the requirement to have adequate compliance systems and to avoid violations generally, rests with the SBS Entity itself.
B. Observations in the Credit Default Swap Market
In addition to the regulatory developments, there have been market developments. A number of press reports and academic articles since 2010 21 Manufactured or other opportunistic CDS strategies can take a number of different forms but generally involve CDS buyers or sellers taking steps, with or without the participation of a company whose securities underlie, or are referenced by, a CDS (a “reference entity”), 22 to avoid, trigger, delay, accelerate, decrease, and/or increase payouts on CDS. 23 Some examples reported by academics and the press include:
21 See, e.g., Gina-Gail S. Fletcher, Engineered Credit Default Swaps: Innovative or Manipulative? 94 N.Y.U. L. Rev. 1073 (2019); see also Andras Danis & Andrea Gamba, Dark Knights: The Rise in Firm Intervention by CDS Investors, Ga. Inst. Of Tech. Scheller Coll. of Bus. Working Paper, Paper No. 3479635 & WBS Fin. Grp. Working Paper, Paper No. 265 (Nov. 2019) ( available at: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3479635 ); see also Henry T.C. Hu, Corporate Distress, Credit Default Swaps, and Defaults: Information and Traditional, Contingent, and Empty Creditors, 13 Brook. J. Corp. Fin. & Com. L. 26-27 (Nov. 2018) ( available at: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3302816 ).
22 A security-based swap, including a CDS contract, may reference a number of different types of securities, including instruments of indebtedness, indices, interest rates, quantitative measures, or other financial or economic interests (each a “reference obligation”)
3 Brook. J. Corp. Fin. & Com. L. 26-27 (Nov. 2018) ( available at: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3302816 ).
22 A security-based swap, including a CDS contract, may reference a number of different types of securities, including instruments of indebtedness, indices, interest rates, quantitative measures, or other financial or economic interests (each a “reference obligation”).
23 In order to cash settle any CDS contract that relies on the International Swaps and Derivatives Association (“ISDA”) standard documentation, a Credit Derivatives Determinations Committee (“DC”) must make a determination that a defined default event (a “credit event”) occurred and vote to hold an auction to determine the settlement price of the CDS. A DC is generally composed of nine or ten dealers and five buy-side members. Once a DC determines that a credit event has occurred and that an auction should be held, the DC Secretary publishes auction terms, which include a list of obligations that a CDS protection buyer can deliver to the CDS protection seller after the auction settlement (each a “deliverable obligation”). Each auction consists of two parts: (1) The first part of the auction, which involves submission of physical settlement requests by participating dealers, aims at determining the initial market mid-point, the net open interests, and adjustment amounts; and (2) the second part of the auction consists of calculating the final settlement price. Since a protection buyer has the right to deliver any of the deliverable obligations specified on the list, it is in the protection buyers' interest to deliver into the auction the cheapest deliverable obligation; as a result, the value of this “cheapest to deliver” deliverable obligation drives the final settlement price. See Markit and Creditex Credit Event Auction Primer, 1 (Feb
ttlement price. Since a protection buyer has the right to deliver any of the deliverable obligations specified on the list, it is in the protection buyers' interest to deliver into the auction the cheapest deliverable obligation; as a result, the value of this “cheapest to deliver” deliverable obligation drives the final settlement price. See Markit and Creditex Credit Event Auction Primer, 1 (Feb. 2010) ( available at: http://www.creditfixings.com/information/affiliations/fixings/auctions/docs/credit_event_auction_primer.pdf); see also Credit Suisse, A Guide to Credit Events and Auctions, Jan. 11, 2012, 5 ( available at: https://doc.research-andanalytics.csfb.com/docView?language=ENG&source=emfromsendlink&format=PDF&document_id=803733390&serialid=FWHCx3yCrSE3FoEvAbEKa6fRKhqLoKs0jL1gR5W2Dfs%3D ).
• A CDS buyer working with a reference entity to create an artificial, technical, or temporary failure-to-pay credit event in order to trigger a payment on a CDS to the buyer (and to the detriment of the CDS seller). 24
24 See Hu, supra note 21 at 26-27.
• The strategy above (as well as other strategies) can be combined with causing the reference entity to issue a below-market debt instrument in order to artificially increase the auction settlement price for the CDS ( i.e., by creating a new “cheapest to deliver” deliverable obligation). 25
25 See Statement on Manufactured Credit Events by CFTC Divisions of Clearing and Risk, Market Oversight, and Swap Dealer and Intermediary Oversight (Apr. 24, 2018) ( available at: https://www.cftc.gov/PressRoom/SpeechesTestimony/divisionsstatement 042418 ).
• CDS buyers endeavoring to influence the timing of a credit event in order to ensure a payment (upon the triggering of the CDS) before expiration of a CDS, or a CDS seller taking similar actions to avoid the obligation to pay by ensuring a credit event occurs after the expiration of the CDS, or taking actions to limit or expand the number and/or kind of deliverable obligations in order to impact the recovery rate
avoring to influence the timing of a credit event in order to ensure a payment (upon the triggering of the CDS) before expiration of a CDS, or a CDS seller taking similar actions to avoid the obligation to pay by ensuring a credit event occurs after the expiration of the CDS, or taking actions to limit or expand the number and/or kind of deliverable obligations in order to impact the recovery rate. 26
26 See Hu, supra note 21 at 22-26.
• CDS sellers offering financing to restructure a reference entity in such a way that “orphans” the CDS—eliminating or reducing the likelihood of a credit event by moving the debts off the balance sheets of the reference entity and onto the balance sheets of a subsidiary or an affiliate that is not referenced by the CDS. 27
27 See Fletcher, supra note 21 at 1101.
• Taking actions, including as part of a larger restructuring, to increase (or decrease) the supply of deliverable obligations by, for example, adding (or removing) a co-borrower to existing debt of a reference entity, thereby increasing (or decreasing) the likelihood of a credit event and the cost of CDS. 28
28 See Fletcher, supra note 21 at 1098. See also CFTC Talks Podcast, Credit Derivatives, (Jul. 10, 2019) ( available at: https://www.cftc.gov/Exit/index.htm?https://youtu.be/Qqo9KR6JXaM? ).
In June 2019, the former SEC Chairman, together with the principals of the CFTC and the U.K. Financial Conduct Authority at the time, issued a public statement stating that the “continued pursuit of various opportunistic strategies in the credit derivatives markets, including but not limited to those that have been referred to as `manufactured credit events,' may adversely affect the integrity, confidence and reputation of the credit derivatives markets, as well as markets more generally” (“2019 Joint Statement”). 29 Additionally, in April 2018 the Board of Directors of ISDA stated their belief that “narrowly tailored defaults . .
credit derivatives markets, including but not limited to those that have been referred to as `manufactured credit events,' may adversely affect the integrity, confidence and reputation of the credit derivatives markets, as well as markets more generally” (“2019 Joint Statement”). 29 Additionally, in April 2018 the Board of Directors of ISDA stated their belief that “narrowly tailored defaults . . . could negatively impact the efficiency, reliability and fairness of the overall CDS market.” 30 Following this statement, in March 2019, ISDA introduced amendments to its Credit Derivatives Definitions designed to address certain issues related to manufactured credit events, which ISDA termed “narrowly tailored credit events” (“ISDA Amendments”). 31
29 See Joint Statement on Opportunistic Strategies in the Credit Derivatives Market (June 24, 2019) ( available at: https://www.sec.gov/news/press-release/2019-106 ).
30 See ISDA Board Statement on Narrowly Tailored Credit Events (April 11, 2018) ( available at: ISDA Board Statement on Narrowly Tailored Credit Events—International Swaps and Derivatives Association ).
31 See Proposed Amendments to the 2014 ISDA Credit Derivatives Definitions Relating to Narrowly Tailored Credit Event (Mar. 6, 2019) ( available at: https://www.isda.org/2019/03/06/proposed-amendments-to-the-2014-isda-credit-derivatives-definitions-relating-to-narrowly-tailored-credit-events/ ). On September 19, 2019, an update to the 2019 Joint Statement was issued. See Update to Joint Statement (Sept. 19, 2019) ( available at: https://www.sec.gov/news/public-statement/update-june-2019-joint-statement-opportunistic-strategies-credit-derivatives ). The updated statement welcomed ISDA's efforts, but also noted that the ISDA Amendments would not address all of the concerns identified in the 2019 Joint Statement, including but not limited to addressing opportunistic strategies that do not involve narrowly tailored credit events.
C. Overview of the Proposal
1
ent/update-june-2019-joint-statement-opportunistic-strategies-credit-derivatives ). The updated statement welcomed ISDA's efforts, but also noted that the ISDA Amendments would not address all of the concerns identified in the 2019 Joint Statement, including but not limited to addressing opportunistic strategies that do not involve narrowly tailored credit events.
C. Overview of the Proposal
1. Re-Proposed Rule 9j-1
The Commission has decided to re-propose Rule 9j-1. As described in detail below, re-proposed Rule 9j-1 follows the same general approach as the 2010 proposed rule in that it would prohibit the same categories of misconduct as Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and Section 17(a) of the Securities Act of 1933 in the context of security-based swaps, including misconduct that is in connection with the exercise of any right or performance of any obligation under a security-based swap. 32 Unlike the 2010 proposed rule, however, this new proposal also includes an anti-manipulation provision similar to 17 CFR 108.2 (“CFTC Rule 180.2”). 33 Further, re-proposed Rule 9j-1 would provide that: (1) A person with material non-public information about a security cannot avoid liability under the securities laws by making purchases or sales in the security-based swap (as opposed to purchasing or selling the underlying security), and (2) a person cannot avoid liability under Section 9(j) or re-proposed Rule 9j-1 in connection with a fraudulent scheme involving a security-based swap by instead making purchases or sales in the underlying 34
32 See re-proposed Rule 9j-1(a) and (e).
33 See re-proposed Rule 9j-1(b).
34 See re-proposed Rule 9j-1(c) and (d).
The Commission recognizes that CDS buyers and sellers regularly engage in legitimate interactions with reference entities, and often offer critical means of restructuring and funding for reference entities
ty can affect the pricing of an equity or debt security-based swaps, as well as the ongoing payments and obligations that are based on the value of that reference security. Further, in some cases, particularly in instances involving security-based swaps transactions that are effected over the internet, there is a potential for trading software to distort pricing and payouts on security-based swaps. 35 Finally, to the extent an opportunistic strategy alters the operations of a reference entity, counterparties to any security-based swap based on that reference entity could be impacted; the potential harm is not limited to CDS holders. As a result, re-proposed Rule 9j-1 applies to all transactions in security-based swaps, consistent with the 2010 proposed rule.
35 See e.g., SEC Investor Alert: Binary Options Fraud available at: https://www.investor.gov/protect-your-investments/fraud/types-fraud/binary-options-fraud. (stating that the SEC has received numerous complaints alleging that certain “internet-based binary options trading platforms manipulate the trading software to distort binary options prices and payouts.”). The SEC Investor Alert represents the views of the staff of the Office Investor Education and Advocacy. It is not a rule, regulation, or statement of the Commission. The Commission has neither approved nor disapproved its content. The SEC Investor Alert, like all staff statements, has no legal force or effect: It does not alter or amend applicable law, and it creates no new or additional obligations for any person. Depending on the facts and circumstances, binary options based on securities may be security-based swaps.
2. Proposed Rule 15Fh-4(c)
The Commission also is proposing a rule aimed at protecting the independence and objectivity of an SBS Entity's CCO by preventing the personnel of an SBS Entity from taking actions to coerce, mislead, or otherwise interfere with the CCO
bligations for any person. Depending on the facts and circumstances, binary options based on securities may be security-based swaps.
2. Proposed Rule 15Fh-4(c)
The Commission also is proposing a rule aimed at protecting the independence and objectivity of an SBS Entity's CCO by preventing the personnel of an SBS Entity from taking actions to coerce, mislead, or otherwise interfere with the CCO. The Commission recognizes that SBS Entities dominate the security-based swap market and also recognizes the important role that CCOs of SBS Entities play in ensuring compliance by SBS Entities and their personnel with the federal securities laws. As a result, the Commission is proposing Rule15Fh-4(c) which would make it unlawful for any officer, director, supervised person, or employee of an SBS Entity, or any person acting under such person's direction, to directly or indirectly take any action to coerce, manipulate, mislead, or fraudulently influence the SBS Entity's CCO in the performance of their duties under the Federal securities laws or the rules and regulations thereunder.
3. Proposed Rule 10B-1
Finally, the Commission also recognizes that transparency can be beneficial to market participants so that they can act in an informed manner to protect their own interests. One example involves what some legal observers refer to as “net-short debt activism”—where a market participant with a large CDS position and a controlling voting interest in the debt of a reference entity votes against its interest as a debt holder to ensure that a credit event occurs (such as by blocking a restructuring or voting against curing a technical default under the terms of a loan)
sts. One example involves what some legal observers refer to as “net-short debt activism”—where a market participant with a large CDS position and a controlling voting interest in the debt of a reference entity votes against its interest as a debt holder to ensure that a credit event occurs (such as by blocking a restructuring or voting against curing a technical default under the terms of a loan). 36 In such instances, both the Commission and relevant market participants—particularly issuers of the underlying debt securities—could benefit from having access to information that may indicate that one or more market participants has a financial incentive to take an action that would be harmful to the issuer, which in turn could impact the issuer's other security holders. 37 In particular, such notice would provide the relevant parties with the ability to take appropriate action to limit any potential harmful consequences. Given such benefits to the market, which may accrue even where the facts and circumstances of a particular situation are not indicative of potentially fraudulent, manipulative, or deceptive conduct, the Commission believes that public reporting of large CDS positions would help to provide such advance notice.
36 See Joshua A. Feltman, Emil A. Kleinhaus, and John R. Sobolewski, Wachtell, Lipton, Rosen & Katz, The Rise of Net-Short Debt Activism, Harvard Law School Forum on Corporate Governance and Financial Regulation (Aug. 7, 2018) ( available at: https://corpgov.law.harvard.edu/2018/08/07/the-rise-of-the-net-short-debt-activist/ ). See also Matt Levine, Aurelius Broke Windstream's Bonds to Save Them, Bloomberg View (Feb. 27, 2019).
37 Harm to the issuer could lead to harm to its employees, customers, and business partners, among others. Any one of these indirect effects could create further harm to the issuer and its security holders
at: https://corpgov.law.harvard.edu/2018/08/07/the-rise-of-the-net-short-debt-activist/ ). See also Matt Levine, Aurelius Broke Windstream's Bonds to Save Them, Bloomberg View (Feb. 27, 2019).
37 Harm to the issuer could lead to harm to its employees, customers, and business partners, among others. Any one of these indirect effects could create further harm to the issuer and its security holders.
Additional transparency regarding large security-based swap positions also could alert market participants, including counterparties, as well as issuers of securities and their security holders, to the risk posed by the concentrated exposure of a counterparty. Such transparency also could enhance risk management by security-based swap counterparties and inform pricing of the security-based swaps. For example, if a single counterparty has a $5 billion security-based swap position distributed equally among five different dealers on the same underlying equity security, public reporting of that security-based swap position would alert each dealer to the total exposure of the reporting counterparty. In the event of an issue involving the underlying security or the counterparty's ability to make a payment on the security-based swaps composing the large position, some or all of those dealers could then take actions to protect their positions, such as increasing their hedges against the relevant security-based swaps or calling for additional margin, if permitted. Knowledge of the total position of a counterparty also may inform a dealer's actions in the event that the counterparty defaults on its obligations under the security-based swap
the large position, some or all of those dealers could then take actions to protect their positions, such as increasing their hedges against the relevant security-based swaps or calling for additional margin, if permitted. Knowledge of the total position of a counterparty also may inform a dealer's actions in the event that the counterparty defaults on its obligations under the security-based swap.
Finally, transparency about security-based swap positions could play an important role in protecting market integrity, including by providing the Commission and other regulators with access to information that may indicate that a person (or a group of persons) is building up a large security-based swap position, which may be relevant for a number of reasons, as discussed in greater detail in section III. As previously discussed, the manufactured or other opportunistic strategies that have been reported to have taken place in the CDS markets take on a variety of 38 Given the importance of the CDS market and its interconnectedness with the underlying debt securities that CDS may be used to hedge, the Commission believes that additional transparency in the CDS market can help to ensure that it remains fair, orderly, and efficient. For similar reasons, such transparency also should benefit the market for other types of security-based swaps.
38 See Fletcher, supra note 21 at 1098 (“[I]t is evident that engineered CDS transactions are unfair, create the perception of the market being rigged, and undermine the integrity of the market. . . . Fundamentally, parties enter into CDS expecting that the ultimate determination of whether the contract pays off rests with market forces, over which neither party has control. However, when a counterparty interferes and skews the outcome of the CDS contract to her benefit, she undercuts her counterparties' reasonable expectations and unjustly transfers wealth from her counterparty to herself.”)
. Fundamentally, parties enter into CDS expecting that the ultimate determination of whether the contract pays off rests with market forces, over which neither party has control. However, when a counterparty interferes and skews the outcome of the CDS contract to her benefit, she undercuts her counterparties' reasonable expectations and unjustly transfers wealth from her counterparty to herself.”).
Accordingly, the Commission has decided to utilize its rulemaking authority under Section 10B of the Exchange Act to propose new Rule 10B-1, which would be a large trader position reporting rule for security-based swaps. Specifically, proposed Rule 10B-1 would require public reporting of, among other things: (1) Certain large positions in security-based swaps; (2) positions in any security or loan underlying the security-based swap position; and (3) positions in any other instrument relating to the underlying security or loan or group or index of securities or loans. As described in detail below, proposed Rule 10B-1 would, among other things, include a specific quantitative threshold for when public reporting is required.
The Commission recognizes that market participants are already subject to the requirements of 17 CFR 242.900 through 242.909 (“Regulation SBSR”), which governs regulatory reporting of security-based swap transactions to security-based swap data repositories (“SBSDRs”) and public dissemination of some of that transaction data pursuant to Section 13(m) of the Exchange Act. 39 Although both sets of requirements are intended to provide greater transparency in the security-based swap market, certain differences between the two highlight the need to propose Rule 10B-1. For example, pursuant to the statutory authority in Section 13(m)(1), Regulation SBSR requires real-time public reporting to SBSDRs and public dissemination of security-based swap transaction data but not of position data as is contemplated by Section 10B and proposed Rule 10B-1
parency in the security-based swap market, certain differences between the two highlight the need to propose Rule 10B-1. For example, pursuant to the statutory authority in Section 13(m)(1), Regulation SBSR requires real-time public reporting to SBSDRs and public dissemination of security-based swap transaction data but not of position data as is contemplated by Section 10B and proposed Rule 10B-1. 40 Although registered SBSDRs are required to establish, maintain, and enforce written policies and procedures reasonably designed to calculate positions for all persons with open security-based swaps for which the SBSDR maintains records, 41 they are not required to make those reports public. 42 As a result, any public position reporting pursuant to Regulation SBSR would need to be completely anonymous with respect to both the person building up large, concentrated security-based swap positions, and each of its counterparties. Finally, Regulation SBSR only requires reporting and public dissemination of security-based swaps, in contrast to Section 10B, which authorizes the Commission to require reporting of positions in both security-based swaps and related securities. 43 The Commission believes that requiring reporting of related securities serves an important function in allowing both the Commission and the public to develop a greater understanding of the impact that a large security-based swap position can have on the broader securities markets.
39 See supra note 4 and accompanying text (explaining that transaction reporting for security-based swaps has been required since November 8, 2021, with public dissemination to begin on February 14, 2022).
40 See, e.g., Section 13(m)(1)(C) of the Exchange Act, which provides that “[t]he Commission is authorized to provide by rule for the public availability of security-based swap transaction, volume, and pricing data” subject to certain conditions and requirements. 15 U.S.C. 78m(m)(1)(C).
41 See 17 CFR 240.13n-5(b)(2)
ce November 8, 2021, with public dissemination to begin on February 14, 2022).
40 See, e.g., Section 13(m)(1)(C) of the Exchange Act, which provides that “[t]he Commission is authorized to provide by rule for the public availability of security-based swap transaction, volume, and pricing data” subject to certain conditions and requirements. 15 U.S.C. 78m(m)(1)(C).
41 See 17 CFR 240.13n-5(b)(2).
42 In fact, Section 13(m)(1)(C)(iii) of the Exchange Act provides that any Commission rulemaking pursuant to Section 13(m) ( i.e., Regulation SBSR) “shall require real-time public reporting for [security-based swap] transactions, in a manner that does not disclose the business transactions and market positions of any person.” See 15 U.S.C. 78m(m)(1)(C)(iii). By contrast, Section 10B(d), which is titled “Large Trader Reporting,” does not contain a limitation on disclosing the identity of security-based swap counterparties in connection with security-based swap position reporting. As discussed in section III, however, a person subject to the reporting requirements of proposed Rule 10B-1 would have to report its own identity and the size of its aggregate security-based swap position, but the person would not be required to report any information about its counterparties, including their identities.
43 See supra note 14 and accompanying text.
II. Re-Proposed Rule 9j-1: Prohibition Against Fraud, Manipulation, and Deception in Connection With Security-Based Swaps
A. Prior Commission Action
As initially proposed in 2010, Rule 9j-1 would have prohibited the same categories of misconduct addressed by Section 10(b) of the Exchange Act 44 and Rule 10b-5 thereunder, 45 as well as Section 17(a) of the Securities Act, 46 but specifically in the context of security-based swaps. The 2010 proposed rule explicitly reached misconduct in connection with the ongoing payments and deliveries that are typical of security-based swaps, which occur throughout the life of the security-based swap
uct addressed by Section 10(b) of the Exchange Act 44 and Rule 10b-5 thereunder, 45 as well as Section 17(a) of the Securities Act, 46 but specifically in the context of security-based swaps. The 2010 proposed rule explicitly reached misconduct in connection with the ongoing payments and deliveries that are typical of security-based swaps, which occur throughout the life of the security-based swap. 47 Specifically, the 2010 proposed rule would have made it unlawful for any person, directly or indirectly, in connection with the offer, purchase or sale of any security-based swap, in the exercise of any right or performance of any obligation under a security-based swap, or the avoidance of such exercise or performance: (a) To employ any device, scheme, or artifice to defraud or manipulate; (b) to knowingly or recklessly make any untrue statement of a material fact, or to knowingly or recklessly omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading; (c) to obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading; or (d) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person. 48
44 15 U.S.C. 78j(b).
45 17 CFR 240.10b-5.
46 15 U.S.C. 77q(a).
47 2010 Rule 9j-1 Proposing Release, 75 FR at 68561.
48 2010 Rule 9j-1 Proposing Release, 75 FR at 68568.
Most commenters on the 2010 proposed rule generally supported the Commission's goal of adopting antifraud standards to ensure the integrity of the security-based swap market
rate as a fraud or deceit upon any person. 48
44 15 U.S.C. 78j(b).
45 17 CFR 240.10b-5.
46 15 U.S.C. 77q(a).
47 2010 Rule 9j-1 Proposing Release, 75 FR at 68561.
48 2010 Rule 9j-1 Proposing Release, 75 FR at 68568.
Most commenters on the 2010 proposed rule generally supported the Commission's goal of adopting antifraud standards to ensure the integrity of the security-based swap market. 49 Some commenters expressed strong support for the 2010 proposed rule, stating that the rule would encourage investor confidence in the security-based swap market and would help ensure that the Commission has the ability to respond through enforcement mechanisms to 50 In addition, one commenter specifically requested that the Commission require disclosure of debt security-based swap positions. 51
49 The comment letters can be found at: http://www.sec.gov/comments/s7-32-10/s73210.shtml.
50 See, e.g., Letter from Laurel Leitner, Council for Institutional Investors, dated Dec. 16, 2010, at 1-2; Letter from Dennis Kelleher and Wallace Turbeville, Better Markets, dated Dec. 23, 2010, at 1-2; Letter from Chris Bernard, dated Nov. 21, 2010, at 1.
51 See Letter from Suzanne H. Shatto, dated Jan. 27, 2011.
However, some commenters stated that the 2010 proposed rule exceeded the Commission's authority by addressing activities involving the exercise of any rights and performance of any obligations during the life of a security-based swap, as opposed to addressing only misconduct taking place in connection with the “purchase” and “sale” of a security-based swap. 52 Those commenters all generally argued that unless modified, the 2010 proposed rule would have a negative impact or chilling effect on the security-based swap market by unintentionally prohibiting the legitimate exercise of rights and performance of obligations under a security-based swap and by leading to costly unintended consequences. Section II.B.2. includes a discussion of the concerns raised by these commenters.
52 See Letter from Stuart J
modified, the 2010 proposed rule would have a negative impact or chilling effect on the security-based swap market by unintentionally prohibiting the legitimate exercise of rights and performance of obligations under a security-based swap and by leading to costly unintended consequences. Section II.B.2. includes a discussion of the concerns raised by these commenters.
52 See Letter from Stuart J. Kaswell, Managed Funds Association (“MFA”), dated Dec. 23, 2010 (“December 2010 MFA Comment Letter”) at 2-10; Letter from Stuart J. Kaswell, MFA, dated Mar. 29, 2011 (“March 2011 MFA Comment Letter”) at 3-9; Letter from Kenneth E. Bentsen, Jr., Securities Industry and Financial Markets Association (“SIFMA”) and Robert G. Pickel, ISDA, dated Dec. 23, 2010 (“SIFMA/ISDA Joint Comment Letter”) at 9-10, 13; Letter from Kenneth E. Bentsen, Jr., SIFMA, dated July 8, 2011 (“July 2011 SIFMA Comment Letter”) at 2-8; and Letter from R. Bram Smith, Loan Syndications and Trading Association (“LSTA”), dated Dec. 23, 2010 (“LSTA Comment Letter”) at 2-10.
B. Scope of Re-Proposed Rule 9j-1
1. General Antifraud and Anti-Manipulation Provisions
The general antifraud and anti-manipulation provisions in re-proposed Rule 9j-1(a) would make it unlawful for any person, directly or indirectly, (i) to purchase or sell, or attempt to induce the purchase or sale of, any security-based swap; 53 (ii) to effect any transaction in, or attempt to effect any transaction in, any security-based swap; (iii) to take any action to exercise any right, or any action related to performance of any obligation, under any security-based swap, including in connection with any payments, deliveries, rights, or obligations or alterations of any rights thereunder; or (iv) to terminate (other than on its scheduled maturity date) or settle any security-based swap, in connection with which such person:
53 See proposed Rule 9j-1(e), which provides that the terms “purchase” and “sale” would have the same meaning as set forth in Sections 3(a)(13) and (14) of the Exch
with any payments, deliveries, rights, or obligations or alterations of any rights thereunder; or (iv) to terminate (other than on its scheduled maturity date) or settle any security-based swap, in connection with which such person:
53 See proposed Rule 9j-1(e), which provides that the terms “purchase” and “sale” would have the same meaning as set forth in Sections 3(a)(13) and (14) of the Exchange Act. 15 U.S.C. 78c(a)(13) and (14).
(1) Employs or attempts to employ any device, scheme, or artifice to defraud or manipulate; or
(2) Makes or attempts to make any untrue statement of a material fact, or omits to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading; or
(3) Obtains or attempts to obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading; or
(4) Engages or attempts to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person.
Like the 2010 proposed rule, the current proposal generally relies on language from Section 10(b) of the Exchange Act 54 and Rule 10b-5 thereunder, 55 and Section 17(a) of the Securities Act, 56 as it relates to the specific types of fraudulent, manipulative, or deceptive conduct that re-proposed Rule 9j-1(a) is designed to address. In addition, re-proposed Rule 9j-1(a) describes the particular types of activity that would be covered by the rule, to the extent that a person engages in specified types of fraudulent, manipulative, or deceptive conduct in connection with such activities
, 56 as it relates to the specific types of fraudulent, manipulative, or deceptive conduct that re-proposed Rule 9j-1(a) is designed to address. In addition, re-proposed Rule 9j-1(a) describes the particular types of activity that would be covered by the rule, to the extent that a person engages in specified types of fraudulent, manipulative, or deceptive conduct in connection with such activities. 57 Specifically, the proposed rule would apply not only to the “purchase” or “sale” of security-based swaps, as such terms are defined in the Exchange Act, 58 but also to: (1) Effecting transactions, or attempts to effect transactions in, security-based swaps, (2) taking actions to exercise any right or actions related to performance of any obligation pursuant to any security-based swap including any payments, deliveries, rights, or obligations or alterations of any rights thereunder, or (3) terminating (other than on its scheduled maturity date) or settling any security-based swap, in connection with which such person engages in the specified fraudulent, manipulative, or deceptive conduct.
54 Section 10(b) of the Exchange Act provides that “[i]t shall be unlawful for any person, directly or indirectly . . . (b) to use or employ, in connection with the purchase or sale of any security . . . any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors.” See 15 U.S.C. 78j(b).
55 Rule 10b-5 under the Exchange Act provides that “[i]t shall be unlawful for any person, directly or indirectly . .
purchase or sale of any security . . . any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors.” See 15 U.S.C. 78j(b).
55 Rule 10b-5 under the Exchange Act provides that “[i]t shall be unlawful for any person, directly or indirectly . . . (a) to employ any device, scheme, or artifice to defraud, (b) to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which they are made, not misleading, or (c) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.” See 17 CFR 240.10b-5.
56 Section 17(a) of the Securities Act provides that “[i]t shall be unlawful for any person in the offer or sale of securities . . . directly or indirectly—(1) to employ any device, scheme, or artifice to defraud, or (2) to obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they are made, not misleading, or (3) to engage in any transaction, practice, or course of business which operates or would operate as a fraud or deceit upon the purchaser.” See 15 U.S.C. 77q(a). In contrast to the 2010 proposed rule, the current proposal does not contain a provision based on Section 17(a)(2) of the Securities Act. Given that the current proposal itself relies on the statutory authority in Section 9(j) of the Exchange Act, the Commission has determined to retain the language from the 2010 proposed rule that is based on an existing Exchange Act rule.
57 See proposed Rule 9j-1(a)
rast to the 2010 proposed rule, the current proposal does not contain a provision based on Section 17(a)(2) of the Securities Act. Given that the current proposal itself relies on the statutory authority in Section 9(j) of the Exchange Act, the Commission has determined to retain the language from the 2010 proposed rule that is based on an existing Exchange Act rule.
57 See proposed Rule 9j-1(a). The introductory language in paragraph (a) follows Section 9(j) of the Exchange Act, in that it would prohibit specified activities in connection with which any person engages in the prohibited conduct set forth in paragraphs (1) through (4). By contrast, the corresponding language in the 2010 proposed rule followed the format used in Section 10(b) and applied solely to conduct that is in connection with the offer, purchase or sale of any security-based swap, the exercise of any right or performance of any obligation under a security-based swap, or the avoidance of such exercise or performance. The re-proposed language is intended to more closely track the authorizing statutory language in Section 9(j), and to make clear that under the proposed rule an activity would only be unlawful when done in connection with fraudulent, manipulative, or deceptive conduct.
58 See proposed Rule 9j-1(e).
With respect to the operative paragraphs in re-proposed Rule 9j-1(a) describing the fraudulent, manipulative or deceptive conduct that the rule prohibits, those provisions have been structured to combine the antifraud and anti-manipulation provisions in Rule 10b-5 that apply to all securities (including security-based swaps) with the additional antifraud and anti-manipulative authority specific to security-based swaps provided to the Commission in Section 9(j). For example, re-proposed Rule 9j-1(a)(1) would explicitly prohibit employing or attempting to employ any device, scheme, or artifice to defraud or manipulate
nti-manipulation provisions in Rule 10b-5 that apply to all securities (including security-based swaps) with the additional antifraud and anti-manipulative authority specific to security-based swaps provided to the Commission in Section 9(j). For example, re-proposed Rule 9j-1(a)(1) would explicitly prohibit employing or attempting to employ any device, scheme, or artifice to defraud or manipulate. Although most of that language is derived from Section 10(b) 59 Rule 10b-5 thereunder, 60 and Section 17(a)(1) of the Securities Act, 61 the inclusion of “manipulate” and the extension of the prohibition to include an “attempt” to employ any device, scheme, or artifice to defraud or manipulate comes directly from the statutory authority in Section 9(j). 62 Paragraph (a)(2) of re-proposed Rule 9j-1, which prohibits the making of material misstatements or omissions, also is based on Rule 10b-5 and also contemplates an attempt to make a material misstatement or omission.
59 See supra note 54.
60 See supra note 55.
61 See supra note 56.
62 See supra note 5 and accompanying text. The application to attempted conduct also appears in other places in the Exchange Act and the rules and regulations thereunder. For example, Section 15(c)(1)(A) of the Exchange Act makes it unlawful for any broker-dealer “to effect any transaction in, or to induce or attempt to induce the purchase or sale of, any security (other than commercial paper, bankers' acceptances, or commercial bills), or any security-based swap agreement by means of any manipulative, deceptive, or other fraudulent device or contrivance.” 15 U.S.C. 78o(c)(1)(A). See also Commission Guidance Regarding Prohibited Conduct in Connection with IPO Allocations, Exchange Release No. 51500 (Apr. 7, 2005), 70 FR 19672, 19673 (Apr. 13, 2005) (“Regulation M applies to `attempts,' thus proscribing a distribution participant's conduct irrespective of whether it actually results in market activity by others
ther fraudulent device or contrivance.” 15 U.S.C. 78o(c)(1)(A). See also Commission Guidance Regarding Prohibited Conduct in Connection with IPO Allocations, Exchange Release No. 51500 (Apr. 7, 2005), 70 FR 19672, 19673 (Apr. 13, 2005) (“Regulation M applies to `attempts,' thus proscribing a distribution participant's conduct irrespective of whether it actually results in market activity by others. It is the inducement or the attempt to induce during the restricted period that Regulation M prohibits.”) (internal citations omitted).
Finally, paragraphs (a)(3) and (4) of re-proposed Rule 9j-1 are based on Sections 17(a)(2) and (3) of the Securities Act. 63 Again, however, the re-proposed rule would now extend those provisions to attempted conduct, such that they would prohibit a person from (i) obtaining or attempting to obtain money or property by means of any untrue statement of a material fact or any omission to state a material fact necessary in order to make the statements made, in light of the circumstances under which they were made, not misleading; and (ii) engaging or attempting to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person.
63 See supra note 56.
As the Commission explained in the 2010 Rule 9j-1 Proposing Release, the provisions described above have been designed generally to prohibit a range of fraudulent, manipulative and deceptive conduct in the security-based swap market, such as, among other things, “engaging in fraudulent and deceptive schemes in order to increase or decrease the price or value of a security-based swap, or disseminating false or misleading statements that affect or otherwise manipulate the price or value of the reference underlying of a security-based swap for the purpose of benefiting such person's position in the security-based swap.” 64 Re-proposed Rule 9j-1(a) also would prohibit, for example, disseminating false financial information or data in connection with the sale of a security-based swap or
seminating false or misleading statements that affect or otherwise manipulate the price or value of the reference underlying of a security-based swap for the purpose of benefiting such person's position in the security-based swap.” 64 Re-proposed Rule 9j-1(a) also would prohibit, for example, disseminating false financial information or data in connection with the sale of a security-based swap or insider trading in a security-based swap. It also would prevent misconduct that affects the market value of the security-based swap for purposes of posting collateral or making payments or deliveries under such security-based swap. 65
64 See 2010 Rule 9j-1 Proposing Release, 75 FR at 68569.
65 See id.
Re-proposed Rule 9j-1(a) also would prohibit fraudulent conduct in connection with a security-based swap that affects the value of cash flow, payments, or deliveries, such as by triggering the obligation of a counterparty to make a large payment or to post additional collateral. It would also prohibit a person from taking fraudulent or manipulative action with respect to the reference entity or asset of the security-based swap that triggers the exercise of a right or performance of an obligation or affects the payments to be made. 66
66 See id.
Re-proposed Rules 9j-1(a)(1) and (2), consistent with Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, 67 and Section 17(a)(1) of the Securities Act, 68 would require scienter. 69 In contrast, re-proposed Rules 9j-1(a)(3) and (4) would not require scienter consistent with Sections 17(a)(2) and (3) of the Securities Act. 70
67 To state a claim under Section 10(b) of the Exchange Act and Rule 10b-5, the Commission must establish that the misstatements or omissions were made with scienter. See, e.g., Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 (1976). The Supreme Court has defined scienter as “a mental state embracing intent to deceive, manipulate or defraud.” Id. Recklessness will generally satisfy the scienter requirement. See, e.g., Sunstrand Corp. v
) of the Exchange Act and Rule 10b-5, the Commission must establish that the misstatements or omissions were made with scienter. See, e.g., Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 (1976). The Supreme Court has defined scienter as “a mental state embracing intent to deceive, manipulate or defraud.” Id. Recklessness will generally satisfy the scienter requirement. See, e.g., Sunstrand Corp. v. Sun Chemical Corp., 553 F.2d 1033, 1045 (7th Cir. 1977). See also Greebel v. FTP Software, Inc., 194 F.3d 185, 198 (1st Cir. 1999); SEC v. Environmental, Inc., 155 F.3d 107, 111 (2d Cir. 1998).
68 Establishing violations of Securities Act Section 17(a)(1) requires a showing of scienter. See, e.g., Aaron v. SEC, 446 U.S. 680, 701-02 (1980). Scienter is the “mental state embracing intent to deceive, manipulate or defraud.” Ernst & Ernst v. Hochfelder, 425 U.S. 185, 193 (1976). See also Section 206(1) of the Investment Advisers Act of 1940 (“Advisers Act'), which makes it unlawful for an investment adviser to employ any device, scheme, or artifice to defraud any client or prospective client. 15 U.S.C. 80b-6(1). Claims arising under Section 206(1) of the Advisers Act require scienter. See, e.g., Robare Grp. LTD v. SEC, 922 F.3d 468, 472 (D.C. Cir. 2019); SEC v. Moran, 922 F. Supp. 867, 896 (S.D.N.Y. 1996); Carroll v. Bear, Stearns & Co., 416 F. Supp. 998, 1001 (S.D.N.Y. 1976).
69 The language in the 2010 proposed rule that corresponds to re-proposed Rule 9j-1(a)(2) included the phrase “knowingly or recklessly” when describing the prohibited conduct. The Commission has not included such phrase in the current proposal to remain consistent with similar language in Rule 10b-5. See 17 CFR 240.10b-5(b).
70 Actions pursuant to Sections 17(a)(2) and 17(a)(3) of the Securities Act do not require a showing of scienter. See, e.g., Aaron, 446 U.S. at 701-02
9j-1(a)(2) included the phrase “knowingly or recklessly” when describing the prohibited conduct. The Commission has not included such phrase in the current proposal to remain consistent with similar language in Rule 10b-5. See 17 CFR 240.10b-5(b).
70 Actions pursuant to Sections 17(a)(2) and 17(a)(3) of the Securities Act do not require a showing of scienter. See, e.g., Aaron, 446 U.S. at 701-02. In Aaron, the Supreme Court sought to determine whether scienter was required in a Commission injunctive proceeding pursuant to the antifraud provisions of Section 10(b) of the Exchange Act and Section 17(a) of the Securities Act. The Court examined the language of both sections and determined that scienter was required under Section 10(b) because the words “manipulative,” “device,” and “contrivance,” which are used in the statute, evidenced a Congressional intent to proscribe only knowing or intentional misconduct. Similarly, the Court concluded that subsection (1) of Section 17(a) required proof of scienter because Congress used such words as “device,” “scheme,” and “artifice to defraud.” Aaron, 446 U.S. at 696. In contrast, the Court concluded that the absence of such words under subsections (2) and (3) of Section 17(a) demonstrated that no scienter was required. Section 17(a)(2) prohibits any person from obtaining money or property “by means of any untrue statement of a material fact or omission to state a material fact,” which the Court found to be “devoid of any suggestion whatsoever of a scienter requirement.” Aaron, 446 U.S. at 696. Similarly, the Court found, in construing Section 17(a)(3), under which it is unlawful for any person “to engage in any transaction, practice, or course of business which operates or would operate as a fraud or deceit,” that scienter was not required because it “quite plainly focuses upon the effect of particular conduct on members of the investing public, rather than upon the culpability of the person responsible.” Aaron, 446 U.S. at 697
Section 17(a)(3), under which it is unlawful for any person “to engage in any transaction, practice, or course of business which operates or would operate as a fraud or deceit,” that scienter was not required because it “quite plainly focuses upon the effect of particular conduct on members of the investing public, rather than upon the culpability of the person responsible.” Aaron, 446 U.S. at 697. See also Section 206(2) of the Advisers Act, which makes it unlawful for an investment adviser to engage in any transaction, practice or course of business which operates as a fraud or deceit upon any client or prospective client. 15 U.S.C. 80b-6(2). The Commission is not required to demonstrate that an adviser acted with scienter in order to prove a Section 206(2) violation. SEC v. Steadman, 967 F.2d 636, 643 (D.C. Cir. 1992) ( citing SEC v. Capital Gains Research Bureau, Inc., 375 U.S. 180, 191-92 (1963)).
While both re-proposed Rules 9j-1(a)(2) and (3) would prohibit material misstatements and omissions, 71 they would address different levels of culpability. 72 Specifically, re-proposed e.g., when a party to a security-based swap knowingly or recklessly makes a false statement even though the party may not receive any money or property as a result). In contrast, re-proposed Rule 9j-1(a)(3) would extend to conduct that is at least negligent ( e.g., when a party to a security-based swap knows or reasonably should know that a statement was false or misleading and directly or indirectly obtains money or property by means of such statement).
71 Consistent with Section 10(b) of the Exchange Act, such misstatements and omissions must be material to be actionable. “The question of materiality, it is universally agreed, is an objective one, involving the significance of an omitted or misrepresented fact to a reasonable investor . .
was false or misleading and directly or indirectly obtains money or property by means of such statement).
71 Consistent with Section 10(b) of the Exchange Act, such misstatements and omissions must be material to be actionable. “The question of materiality, it is universally agreed, is an objective one, involving the significance of an omitted or misrepresented fact to a reasonable investor . . . there must be a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the “total mix” of information made available.” TSC Indus., Inc. v. Northway, Inc., 426 U.S. 438, 445, 449 (1976). See also Basic v. Levinson, 485 U.S. 224, 233 (1988).
72 In addition to differences in the standard of care, there are additional deviations between re-proposed Rules 9j-1(a)(2) and (3), notwithstanding the significant overlap in the rule text. For example, while paragraph (a)(2), like Rule 10b-5(b), makes it unlawful to make any untrue statement of a material fact, paragraph (a)(3), like Section 17(a)(2) of the Securities Act does not use the word “make.” Based on that difference courts have contrasted the application of Rule 10b-5(b) from the application of Section 17(a)(2) of the Securities Act as it relates See, e.g., SEC v. Big Apple Consulting USA, Inc., 783 F.3d 786, 797 (11th Cir. 2015) (“[W]e . . . agree with the Securities and Exchange Commission's recent opinion, which held ` Janus's limitation on primary liability under Rule 10b-5(b) does not apply to claims arising under Section 17(a)(2).' ”); SEC v. Tambone, 597 F.3d 436, 444 (1st Cir. 2010) (en banc) (contrasting the language of Rule 10b-5(b) with “the expansive language of section 17(a)(2),” which covers “the `use' of an untrue statement of material fact (regardless of who created or composed the statement)”)
ld ` Janus's limitation on primary liability under Rule 10b-5(b) does not apply to claims arising under Section 17(a)(2).' ”); SEC v. Tambone, 597 F.3d 436, 444 (1st Cir. 2010) (en banc) (contrasting the language of Rule 10b-5(b) with “the expansive language of section 17(a)(2),” which covers “the `use' of an untrue statement of material fact (regardless of who created or composed the statement)”).
The Commission recognizes that two commenters to the 2010 proposed rule opposed not requiring scienter with respect to paragraphs (3) and (4) of re-proposed Rule 9j-1(a) (which were paragraphs (c) and (d) in the 2010 proposed rule). Specifically, SIFMA and ISDA argued that applying a negligence standard to those provisions did not account for the unique aspects of the security-based swap market and, when “coupled with the rights and responsibilities provision and enforcement exposure for omissions of disclosure, potentially would make illegal a wide range of ordinary course activities that may relate to an SBS transaction.” 73 Those commenters explained that “[s]ubjecting every trading decision or payment under an SBS to an enforcement claim that someone knew or should have known that the action would operate as a fraud or deceit on a person could potentially deter many parties from entering into SBS, increase their cost and have other distorting effects on the markets.” 74
73 See SIFMA/ISDA Joint Comment Letter at 12.
74 See SIFMA/ISDA Joint Comment Letter at 3.
Although the Commission recognizes the concerns raised by these commenters, we have determined to re-propose Rule 9j-1(a) using the same standards of care as proposed in 2010. As previously noted, each of those provisions is based on an existing statutory and regulatory provision that is supported by a large body of case law
nt Comment Letter at 12.
74 See SIFMA/ISDA Joint Comment Letter at 3.
Although the Commission recognizes the concerns raised by these commenters, we have determined to re-propose Rule 9j-1(a) using the same standards of care as proposed in 2010. As previously noted, each of those provisions is based on an existing statutory and regulatory provision that is supported by a large body of case law. 75 In that respect, the Commission does not believe it is appropriate to treat negligent conduct that would have been deemed a violation under the existing antifraud and anti-manipulation provisions of the Federal securities laws and the rules and regulations thereunder as not violative under proposed Rule 9j-1(a) solely because security-based swaps contracts by their nature may require the counterparties to take ongoing actions to satisfy their rights and obligations. Such an approach would be particularly untenable in light of the fact that security-based swaps are included in the definition of “security”, and therefore are also subject to such general antifraud and anti-manipulation provisions, including the relevant non-scienter-based prohibitions. To the extent that there is any overlap between re-proposed Rule 9j-1(a) and those existing provisions, introducing a different standard of care would create unnecessary confusion.
75 See supra notes 67-71 and accompanying text.
Moreover, having two nearly identical antifraud and anti-manipulation rules ( e.g., re-proposed Rule 9j-1(a)(1) and Rule 10b-5(b)) that are subject to two different standards of care—one for security-based swaps and one for other types of securities—is likely to lead to confusion among market participants and could potentially undermine the effectiveness of both provisions in certain circumstances, such as when the case law applicable to one provision contradicts the other in a way that is not able to be rationalized by the differences in the underlying instruments
rds of care—one for security-based swaps and one for other types of securities—is likely to lead to confusion among market participants and could potentially undermine the effectiveness of both provisions in certain circumstances, such as when the case law applicable to one provision contradicts the other in a way that is not able to be rationalized by the differences in the underlying instruments. Although the Commission preliminarily believes the re-proposed rule is not overly broad, in section II.E below, the Commission is requesting comment on whether there are potential ways to minimize the impact of the rule on non-fraudulent and non-manipulative ordinary course activities in connection with security-based swap transactions.
2. “Purchases” and “Sales” in the Context of Security-Based Swaps and Limited Safe Harbor for Certain Limited Actions
As previously noted, a number of commenters on the 2010 proposed rule argued that the Commission exceeded its statutory authority in the course of proposing Rule 9j-1 by explicitly applying the rule to activities involving the exercise of any rights and performance of any obligations during the life of a security-based swap, as opposed to limiting the proposed rule to misconduct taking place in connection with the “purchase” and “sale” of a security-based swap. 76 For example, MFA argued that the Commission exceeded delegated authority in proposing that the prohibitions in Rule 9j-1 extend “beyond purchases and sales to acts and omissions occurring during the term of a security-based swap,” explaining that “[i]n clarifying the terms `purchase' and `sale' in the security-based swap context, Congress chose specifically not to include ongoing obligations, which are dictated by the contract between the two parties underlying the security-based swap and which bear no relation to execution, termination, assignment, exchange and transfer or extinguishment of rights.” 77 MFA also expressed its view that “Section 763(g) of Dodd-Frank is aimed at preventing fraudulent, decepti
d swap context, Congress chose specifically not to include ongoing obligations, which are dictated by the contract between the two parties underlying the security-based swap and which bear no relation to execution, termination, assignment, exchange and transfer or extinguishment of rights.” 77 MFA also expressed its view that “Section 763(g) of Dodd-Frank is aimed at preventing fraudulent, deceptive, or manipulative acts in connection with: (i) The entry into a securit[y]-based swap; (ii) the novation or assignment of a securit[y]-based swap; and (iii) the unwind of a securit[y]-based swap,” and that the statute should not be read to encompass the settlement of a security-based swap, or the ongoing payments or collateral postings that take place throughout the life of the transaction. 78
76 See supra note 52 and accompanying text.
77 See December 2010 MFA Letter at 2-3. MFA provided examples of the types of ongoing obligations that it believed should not be covered by the rule, which included, among other things, certain periodic or other types of payments under the terms of the security-based swap as well as many forms of collateral or margin payments, and related obligations.
78 See March 2011 MFA Comment Letter at 3-6.
Similarly, SIFMA and ISDA expressed the view that “[t]he rulemaking authority provided by Section 763(g) only extends to transactions, acts, practices, or courses of business in connection with (i) effecting any transaction in [a security-based swap] and (ii) inducing or attempting to induce the purchase or sale of [a security-based swap].” 79 SIFMA also separately shared its concerns that the application of proposed Rule 9j-1 to the ongoing, “non-volitional” rights and obligations that occur throughout the life of a security-based swap could be particularly problematic in the event that a counterparty came into possession of material non-public information relating to the underlying security, even if such information had no bearing on such non-volitional actions
d its concerns that the application of proposed Rule 9j-1 to the ongoing, “non-volitional” rights and obligations that occur throughout the life of a security-based swap could be particularly problematic in the event that a counterparty came into possession of material non-public information relating to the underlying security, even if such information had no bearing on such non-volitional actions. 80 Further, the LSTA argued that 81
79 See SIFMA/ISDA Joint Comment Letter at 13.
80 See July 2011 SIFMA Comment Letter at 2-7. SIFMA also requested that proposed Rule 9j-1 be modified to include a safe harbor, such as one that is similar to Rule 10b5-1(c)(2), which provides that an entity may demonstrate that a purchase or sale of securities is not “on the basis of” material non-public information if the person demonstrates that: (i) The individual making the investment decision on behalf of the person to purchase or sell the securities was not aware of the information; and (ii) the entity had implemented reasonable policies and procedures, taking into consideration the nature of the person's business, to ensure that individuals making investment decisions would not violate the See 17 CFR 240.10b5-1(c)(2).
81 See LSTA Comment Letter at 2-8. As an example, the LSTA noted its concern that a decision to allow a borrower to avoid a bankruptcy filing or payment default could be construed as manipulation in connection with the subsequent exercise of a right or performance of an obligation (whether such action is volitional or non-volitional).
The Commission has carefully considered these comments, but disagrees with the narrow interpretation of the terms “purchase” and “sale” when used in the context of security-based swaps, as espoused by commenters
nt default could be construed as manipulation in connection with the subsequent exercise of a right or performance of an obligation (whether such action is volitional or non-volitional).
The Commission has carefully considered these comments, but disagrees with the narrow interpretation of the terms “purchase” and “sale” when used in the context of security-based swaps, as espoused by commenters. Specifically, the Commission does not believe that the definitions of “purchase” and “sale” in Section 2(a)(18) of the Securities Act, the definitions of “buy” and “purchase” in Section 3(a)(13) of the Exchange Act, and the definitions of “sale” and “sell” in Section 3(a)(14) of the Exchange Act are limited to actions involving all of the rights and obligations under a security-based swap. Rather, the Commission believes that those definitions incorporate partial executions, terminations, assignments, exchanges, transfers, or extinguishments of rights or obligations. Put another way, those definitions incorporate actions that have an impact on some, but not all, rights and obligations, such as a margin payment that represents only part of what one counterparty owes the other.
In addition, Congress could have specifically limited the statutory definitions of “purchase” or “sale” to actions involving all of the rights and obligations under a security-based swap, and the Commission, therefore, does not believe it necessary to apply limitations to those definitions that do not appear in the statute given that even partial payments or deliveries over the course of a security-based swap are likely to be meaningful to most security-based swap transactions. Accordingly, we continue to believe the statute provides the Commission with authority to make explicit the liability of persons that engage in misconduct to trigger, avoid, or affect the value of ongoing payments or deliveries as a means reasonably designed to prevent fraud, manipulation, and deception in connection with security-based swap transactions
l to most security-based swap transactions. Accordingly, we continue to believe the statute provides the Commission with authority to make explicit the liability of persons that engage in misconduct to trigger, avoid, or affect the value of ongoing payments or deliveries as a means reasonably designed to prevent fraud, manipulation, and deception in connection with security-based swap transactions.
To be clear, the Commission is not taking the position that every payment or delivery made during the course of a security-based swap transaction is itself a purchase or sale of a security-based swap under the applicable statutory authority. Rather, fraudulent or manipulative conduct would be in connection with the purchase or sale of a security-based swap if it either alters any material terms of the security-based swap (as set forth in the applicable trading relationship documentation) or has a material impact on any payment or delivery under the security-based swap, such that it would not be consistent with what a reasonable person would have expected to pay, deliver, or receive absent such conduct. The Commission took a similar position when it defined certain Title VII terms, including “swap” and “security-based swap,” in a joint release with the CFTC, explaining that “[i]f the material terms of a Title VII instrument are amended or modified during its life based on an exercise of discretion and not through predetermined criteria or a predetermined self-executing formula, the Commissions view the amended or modified Title VII instrument as a new Title VII instrument.” 82 If a party engages in fraudulent or manipulative conduct that impacts the amount of payment or delivery in a way that is materially different from the amount a reasonable person would have expected to pay, deliver, or receive (or where such person would not have expected a payment or delivery to be required at all), such actions would be a new purchase or sale of the security-based swap
ument.” 82 If a party engages in fraudulent or manipulative conduct that impacts the amount of payment or delivery in a way that is materially different from the amount a reasonable person would have expected to pay, deliver, or receive (or where such person would not have expected a payment or delivery to be required at all), such actions would be a new purchase or sale of the security-based swap. For example, and without limitation, such a scenario could involve a counterparty misstating certain information about a transaction (or any related transactions) resulting in a missed or late payment or loss of an opportunity to request additional collateral under a security-based swap.
82 See Further Definition of “Swap,” “Security-Based Swap,” and “Security-Based Swap Agreement”; Mixed Swaps; Security-Based Swap Agreement Recordkeeping, 77 FR 48208, 48286 (Aug. 13, 2012) (“Products Release”).
Moreover, even if those statutory definitions were interpreted narrowly, the Commission's rulemaking authority under Section 9(j) of the Exchange Act to adopt prophylactic rules is not limited solely to purchases and sales of security-based swaps. 83 Section 9(j) of the Exchange Act provides that the Commission “shall . . . by rules and regulations define, and prescribe means reasonably designed to prevent, such transactions, acts, practices, and courses of business as are fraudulent, deceptive, or manipulative, and such quotations as are fictitious.” 84 Without limiting what is already covered by Section 9(j), the Commission is using that statutory authority to prohibit actions to exercise any right, or any action related to performance of any obligation, under any security-based swap, including in connection with any payments, deliveries, rights, or obligations or alterations of any rights thereunder; or to terminate (other than on its scheduled maturity date) or settle any security-based swap, in each case so long as those actions are taken in connection with fraud, manipulation, or deception
r any action related to performance of any obligation, under any security-based swap, including in connection with any payments, deliveries, rights, or obligations or alterations of any rights thereunder; or to terminate (other than on its scheduled maturity date) or settle any security-based swap, in each case so long as those actions are taken in connection with fraud, manipulation, or deception. The Commission believes that by prohibiting actions that directly impact a counterparty's rights and obligations under a security-based swap—when such actions are in connection with specified fraudulent, manipulative, or deceptive conduct—re-proposed Rule 9j-1 represents a means reasonably designed to prevent fraud, manipulation, and deception in the security-based swap market.
83 See, e.g., U.S. v. O'Hagan, 521 U.S. 642 (1997) (“[a] prophylactic measure, because its mission is to prevent, typically encompasses more than the core activity prohibited”). In O'Hagan, the Supreme Court held that under Section 14(e) of the Exchange Act (which includes the same “reasonably designed to prevent fraudulent activity” rulemaking language as Section 763(g) of the Dodd-Frank Act) the Commission may prohibit acts not themselves fraudulent under the common law or Section 10(b), provided that the prohibition is “reasonably designed to prevent . . . acts and practices [that] are fraudulent.”
84 See 15 U.S.C. 78i(j).
Furthermore, in the course of using its rulemaking authority under Section 9(j), the Commission looked not only to the antifraud and anti-manipulation provisions in Section 10(b) of the Exchange Act, Rule 10b-5 thereunder, and Section 17(a) of the Securities Act, but also to the operative provisions of Section 9(j) itself, which makes it unlawful “to effect any transaction in, or to induce or attempt to induce the purchase or sale of, any security-based swap, in connection with which such person engages in any fraudulent, deceptive, or manipulative act or practice, makes any fictitious quotation, or engages in any tra
d Section 17(a) of the Securities Act, but also to the operative provisions of Section 9(j) itself, which makes it unlawful “to effect any transaction in, or to induce or attempt to induce the purchase or sale of, any security-based swap, in connection with which such person engages in any fraudulent, deceptive, or manipulative act or practice, makes any fictitious quotation, or engages in any transaction, practice, or course of business which operates as 85 Generally, effecting securities transactions also can include, for example, participating in the transactions through a number of activities such as screening potential participants in a transaction for creditworthiness, facilitating the execution of a transaction, and handling customer funds and securities. 86
85 See Registration Adopting Release, 80 FR at 48976, n. 99 (citing, for example, Definition of Terms in and Specific Exemptions for Banks, Savings Associations, and Savings Banks Under Sections 3(a)(4) and 3(a)(5) of the Securities Exchange Act of 1934, Exchange Act Release No. 44291 (May 11, 2001), 66 FR 27760, 27772-73 (May 18, 2001)).
86 See id.
As discussed above, we disagree with the narrow interpretation of the statutory changes to the definitions of “purchase” and “sale” in the context of a security-based swap, as suggested by some commenters. That said, the Commission is sensitive to the operational concerns raised by commenters in response to the 2010 proposed rule and is therefore proposing two limited safe harbors from re-proposed Rule 9j-1(a) to address situations when a counterparty to a security-based swap is required to take certain actions while in possession of material non-public information
, as suggested by some commenters. That said, the Commission is sensitive to the operational concerns raised by commenters in response to the 2010 proposed rule and is therefore proposing two limited safe harbors from re-proposed Rule 9j-1(a) to address situations when a counterparty to a security-based swap is required to take certain actions while in possession of material non-public information. 87
87 Specifically, in its comment letter on the 2010 proposed rule, SIFMA explained that “[u]nder the proposed rule, the counterparty would be required to disclose the [material non-public information] or abstain from performing its obligations under the contract, even though the [material non-public information] plays no role in its obligation to make payment. Requiring parties to “disclose or abstain” [material non-public information], as in the securities context, would leave market participants in the position of choosing among: Disclosing information to counterparties who may not want to know it because of the effect on their trading activity, violating the antifraud rule by performing their obligations under the SBS contract while in possession of [material non-public information] or abstaining from performance and defaulting on the contract.” See July 2011 SIFMA Comment Letter at 3.
Specifically, re-proposed Rule 9j-1(f)(1) would provide that a person would not be liable under re-proposed Rule 9j-1(a) solely for reason of being aware of material non-public information while taking certain actions, the first of which includes actions taken in accordance with binding contractual rights and obligations under a security-based swap (as reflected in the written security-based swap documentation governing such transaction or any amendment thereto) so long as the person could demonstrate that: (1) The security-based swap was entered into, or the amendment was made, before the person became aware of such material non-public information; and (2) that the entry into, and the terms of, the security-based swap are thems
y-based swap (as reflected in the written security-based swap documentation governing such transaction or any amendment thereto) so long as the person could demonstrate that: (1) The security-based swap was entered into, or the amendment was made, before the person became aware of such material non-public information; and (2) that the entry into, and the terms of, the security-based swap are themselves not a violation of any provision of re-proposed Rule 9j-1(a). 88 The Commission believes that limiting the safe harbor to circumstances where the activity is taken in accordance with the written agreements governing the security-based swap would help to ensure that such action is taken in the ordinary course of the transaction. Further, the safe harbor would apply only so long as the entry into, and the terms of, the security-based swap do not otherwise violate re-proposed Rule 9j-1.
88 See re-proposed Rule 9j-1(f)(1). In general, for uncleared security-based swap transactions, the relevant documentation should include the written security-based swap trading relationship documentation executed by the counterparties. For cleared security-based swap transactions, the relevant documentation should include the written agreement between the applicable counterparty and the clearing agency. For SBS Entities, existing 17 CFR 240.15Fi-5 (“Rule 15Fi-5”) requires each SBS Entity to establish, maintain, and follow written policies and procedures reasonably designed to ensure that it executes written trading relationship documentation with each of its counterparties, subject to certain exceptions, prior to, or contemporaneously with, executing a security-based swap transaction, in each case in the manner as provided for in the rule. That documentation is also subject to the Commission's recordkeeping requirements in 17 CFR 240.17a-4 or 17 CFR 240.18a-6, as applicable
e that it executes written trading relationship documentation with each of its counterparties, subject to certain exceptions, prior to, or contemporaneously with, executing a security-based swap transaction, in each case in the manner as provided for in the rule. That documentation is also subject to the Commission's recordkeeping requirements in 17 CFR 240.17a-4 or 17 CFR 240.18a-6, as applicable.
As a result, the proposed safe harbor would generally apply to, for example, making a standardized coupon payment or delivering collateral to a counterparty (and would also permit the counterparty to receive the coupon payment or collateral), while such person is aware of material non-public information, so long as both actions are explicitly required by the terms of the transaction and documented in writing. However, the safe harbor would not apply if a counterparty took some action to fraudulently increase (in the case of the receiving counterparty) or decrease (in the case of the delivering counterparty) the amount of such payment or collateral transfer.
The second proposed safe harbor would apply to transactions effected pursuant to certain types of compression exercises. Specifically, proposed Rule 9j-1(f)(2) would provide that a person would not be liable under re-proposed Rule 9j-1(a) solely for reason of being aware of material non-public information when effecting security-based swap transactions pursuant to a bilateral portfolio compression exercise (as defined in 17 CFR 240.15Fi-1(a) (“Rule 15Fi-1(a)”) of the Exchange Act) or a multilateral portfolio compression exercise (as defined Rule 15Fi-1(j)) so long as: (1) Any such transactions are consistent with all of the terms of a bilateral portfolio compression exercise or multilateral portfolio compression exercise, including as it relates to, without limitation, the transactions to be included in the exercise, the risk tolerances of the persons participating in the exercise, and the methodology used in the exercise, and (2) all such terms were agreed to b
1) Any such transactions are consistent with all of the terms of a bilateral portfolio compression exercise or multilateral portfolio compression exercise, including as it relates to, without limitation, the transactions to be included in the exercise, the risk tolerances of the persons participating in the exercise, and the methodology used in the exercise, and (2) all such terms were agreed to by all participants of the bilateral portfolio compression exercise or multilateral portfolio compression exercise prior to the commencement of the applicable exercise. 89
89 See re-proposed Rule 9j-1(f)(2). Rule 15Fi-1(a) defines the term “bilateral portfolio compression exercise” to mean “an exercise by which two security-based swap counterparties wholly terminate or change the notional value of some or all of the security-based swaps submitted by the counterparties for inclusion in the portfolio compression exercise and, depending on the methodology employed, replace the terminated security-based swaps with other security-based swaps whose combined notional value (or some other measure of risk) is less than the combined notional value (or some other measure of risk) of the terminated security-based swaps in the exercise.” 17 CFR 240.15Fi-1(a). Rule 15Fi-1(j) defines the term “multilateral portfolio compression exercise” to mean “an exercise by which multiple security-based swap counterparties wholly terminate or change the notional value of some or all of the security-based swaps submitted by the counterparties for inclusion in the portfolio compression exercise and, depending on the methodology employed, replace the terminated security-based swaps with other security-based swaps whose combined notional value (or some other measure of risk) is less than the combined notional value (or some other measure of risk) of the terminated security-based swaps in the exercise.” 17 CFR 240.15Fi-1(j)
counterparties for inclusion in the portfolio compression exercise and, depending on the methodology employed, replace the terminated security-based swaps with other security-based swaps whose combined notional value (or some other measure of risk) is less than the combined notional value (or some other measure of risk) of the terminated security-based swaps in the exercise.” 17 CFR 240.15Fi-1(j).
As the Commission explained when it adopted portfolio compression requirements for SBS Entities, portfolio compression generally refers to a post-trade processing exercise that allows two or more market participants to eliminate redundant derivatives transactions within their portfolios in a manner that does not change their net exposure, and is intended to help market participants manage their post-traded risk. 90 For example, reducing the number of outstanding contracts provides important operational benefits and efficiencies for market participants in that there are fewer open contracts to 91 Given these important benefits, as well as the largely administrative nature of the portfolio compression process, the Commission believes it to be appropriate to provide a safe harbor for this activity in circumstances where the security-based swap counterparty is in possession of material non-public information with respect to a reference entity underlying an applicable security-based swap.
90 See Risk Mitigation Techniques for Uncleared Security-Based Swaps, Exchange Act Release No. 87762 (Dec. 18, 2019), 85 FR 6359 at 6391 (Feb. 4, 2020) (“Risk Mitigation Adopting Release”).
91 See id
ity in circumstances where the security-based swap counterparty is in possession of material non-public information with respect to a reference entity underlying an applicable security-based swap.
90 See Risk Mitigation Techniques for Uncleared Security-Based Swaps, Exchange Act Release No. 87762 (Dec. 18, 2019), 85 FR 6359 at 6391 (Feb. 4, 2020) (“Risk Mitigation Adopting Release”).
91 See id.
However, the proposed safe harbor would apply only so long as: (1) Any such transactions are consistent with all of the terms of a bilateral portfolio compression exercise or multilateral portfolio compression exercise, including as it relates to, without limitation, the transactions to be included in the exercise, the risk tolerances of the persons participating in the exercise, and the methodology used in the exercise, and (2) all such terms were agreed to by all participants of the bilateral portfolio compression exercise or multilateral portfolio compression exercise prior to the commencement of the applicable exercise. This condition, which the Commission believes is consistent with how portfolio compression exercises typically operate, is intended to help ensure that most, if not all, of the opportunities to take a discretionary action to impact the outcome of the compression exercise occur before the process begins, and therefore before specific security-based swap transactions are identified to be added or eliminated. Finally, this safe harbor, which is limited to circumstances involving the misuse of material non-public information, would not apply where the portfolio compression exercise itself was part of a fraudulent or manipulative scheme to increase (in the case of the receiving counterparty) or decrease (in the case of the delivering counterparty) the amount of any payment made or received in connection with a terminated or replacement security-based swap transaction resulting from the portfolio compression exercise, as applicable.
3
where the portfolio compression exercise itself was part of a fraudulent or manipulative scheme to increase (in the case of the receiving counterparty) or decrease (in the case of the delivering counterparty) the amount of any payment made or received in connection with a terminated or replacement security-based swap transaction resulting from the portfolio compression exercise, as applicable.
3. Prohibition on Price Manipulation
In addition to the general antifraud and anti-manipulation provisions discussed above, re-proposed Rule 9j-1 also contains provisions designed to address price manipulation similar to CFTC Rule 180.2. 92 Specifically, re-proposed Rule 9j-1 includes a prohibition on attempted manipulation. Re-proposed Rule 9j-1(b) would make it unlawful for any person to, directly or indirectly, manipulate or attempt to manipulate the price or valuation of any security-based swap, or any payment or delivery related thereto. Among other things, this language is intended to address a number of the manufactured or other opportunistic CDS strategies observed over the last decade, and summarized above in section I.B, including situations where a party intentionally distorts any payment related to a security-based swap for the benefit of one of the security-based swap counterparties, such as actions that serve little to no economic purpose other than to artificially influence the composition of the deliverable obligations in a CDS auction. 93
92 See 17 CFR 180.2.
93 See Fletcher, supra note 21 at 1096-98.
Re-proposed Rule 9j-1(b) also is intended to prohibit, among other things, a situation where a person (or group of persons) improperly and intentionally causes or avoids the purchase or sale of a security-based swap for the benefit of a counterparty to an SBS, such as intentionally and improperly orphaning a CDS, avoiding termination of a CDS for a period of time, or causing the termination of a CDS
-proposed Rule 9j-1(b) also is intended to prohibit, among other things, a situation where a person (or group of persons) improperly and intentionally causes or avoids the purchase or sale of a security-based swap for the benefit of a counterparty to an SBS, such as intentionally and improperly orphaning a CDS, avoiding termination of a CDS for a period of time, or causing the termination of a CDS. As previously noted, “orphaning” a CDS refers to a situation where the debt of a reference entity is eliminated or reduced for the purposes of moving the price of CDS. 94 The end result of such activity is that CDS buyers continue to pay (and CDS sellers continue to receive) premiums on CDS that will never default. Similarly, a CDS protection seller could offer financing to the company to avoid a credit event and subsequent CDS payout, with the financing timed so that the company's bankruptcy is merely delayed until after the CDS expires. 95 To be clear, a person simply profiting from a CDS position after a company's bankruptcy, which such person could have prevented by participating in a financing to the company, without more is not in and of itself improper conduct for purposes of re-proposed Rule 9j-1(b).
94 See supra note 27 and accompanying text.
95 See Fletcher, supra note 21 at 1101.
Moreover, the Commission does not intend for re-proposed Rule 9j-1(b) to apply to taking affirmative actions in the ordinary course of a security-based swap transaction or the underlying referenced security. Specifically, re-proposed Rule 9j-1(b) is designed to capture situations when a payment under the security-based swap is intentionally distorted
xt.
95 See Fletcher, supra note 21 at 1101.
Moreover, the Commission does not intend for re-proposed Rule 9j-1(b) to apply to taking affirmative actions in the ordinary course of a security-based swap transaction or the underlying referenced security. Specifically, re-proposed Rule 9j-1(b) is designed to capture situations when a payment under the security-based swap is intentionally distorted. A determination as to whether a payment is intentionally distorted will largely depend on the facts and circumstances of each particular situation, but as a general matter the Commission would expect to use its authority to bring an enforcement action under re-proposed Rule 9j-1(b) when a party takes action for the purposes of avoiding or causing, or increasing or decreasing, a payment under a security-based swap in a manner that would not have occurred, but for such actions.
The Commission recognizes that reference entities often rely on financing and other forms of relief to avoid defaulting on their debt, and the proposed rule is not intended to discourage lenders and prospective lenders from discussing or providing such financing or relief, even when those persons also hold CDS positions. Rather, the Commission is proposing Rule 9j-1(b) to account for actions taken outside the ordinary course of a typical lender-borrower relationship (or a prospective lender-borrower relationship). Although any such determination would need to be based on the facts and circumstances of a particular situation, as a general matter the Commission believes that an action that appears to be designed almost exclusively to harm one or more CDS counterparties would likely fall within the prohibition in re-proposed Rule 9j-1(b).
C
rrower relationship (or a prospective lender-borrower relationship). Although any such determination would need to be based on the facts and circumstances of a particular situation, as a general matter the Commission believes that an action that appears to be designed almost exclusively to harm one or more CDS counterparties would likely fall within the prohibition in re-proposed Rule 9j-1(b).
C. Liability Under Proposed Rule 9j-1 in Connection With the Purchase or Sale of a Security
Finally, and consistent with the long-standing principle that parties cannot do indirectly what they are prohibited from doing directly, paragraphs (c) and (d) of re-proposed Rule 9j-1 would make it clear that market participants cannot avoid liability under the rule by effecting a fraudulent scheme through the purchase or sale of an underlying security, rather than the purchase or sale of the security-based swap on which it is based, and vice versa. The first of those two provisions would provide that a person could not escape liability for trading based on possession of material non-public information about a security by purchasing or selling a security-based swap based on that security (as opposed to trading in the security itself) and the second provision provides that a person could not escape liability under Section 9(j) or re-proposed Rule 9j-1 by purchasing or selling the underlying security (as opposed to purchasing or selling a security-based swap that is base

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Source: Frix Law Library, https://www.frixlaw.com/law-library/statutes/FR_PRORULE_2021-27531. Check the current official text before relying on it. Not legal advice.