CFTC grants no-action relief regarding the application of the exemption in CFTC Rule 3.10(c)(3) to swaps that are not subject to a clearing requirement.
On February 12, 2016 the Commodity Futures Trading Commission ("CFTC") issued CFTC No-Action Letter 16-08 which granted no-action relief to introducing brokers ("IB"), commodity trading advisors ("CTA") and commodity pool operators ("CPO") seeking to rely on the exemption in CFTC Rule 3.10(c)(3) with respect to activities involving swaps that are not subject to a clearing requirement.
As swaps became subject to regulation under the Commodity Exchange Act ("CEA") under the regulatory framework established by the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act"), the universe of entities that were required to register as IBs, CTAs or CPOs was significantly expanded. One of the primary exemptions from registration utilized by non-US entities that would otherwise be required to register in such a capacity is the exemption in CFTC Rule 3.10(c)(3).
CFTC Rule 3.10(c)(3) provides an exemption from registration as an IB, a CTA or a CPO where all of the following requirements are satisfied:
- the person seeking the exemption is located outside the US, its territories or possessions;
- the person seeking the exemption acts only on behalf of persons located outside of the US, its territories or possessions; and
- the commodity interest transaction (the definition of which now includes swaps following enactment of the Dodd-Frank Act) was submitted for clearing through a futures commission merchant registered under Section 4d of the CEA ("FCM").
CFTC Rule 3.10(c)(3) was adopted a number of years ago, well before the CEA was most recently amended under the Dodd-Frank Act, and originally only applied to futures and listed option contracts. Those contracts, unlike swaps, are cleared through a FCM. As the requirement to clear the commodity interest transaction through a FCM (see prong (3) above) was retained following the inclusion of swaps within the definition of "commodity interest transaction", there is a concern with the current drafting of CFTC Rule 3.10(c)(3) where a person that satisfies prongs (1) and (2) above transacts a swap (as opposed to a futures or listed option contract). The text provides that in such circumstances the person seeking exemption from registration under CFTC Rule 3.10(c)(3) would only be able to benefit from the exemption if the applicable swap was submitted for clearing through a FCM.
The problem with this requirement is that swaps which are executed bilaterally, subject to the rules of a swap execution facility (or SEF) or not yet accepted for clearing by any derivatives clearing organization would not satisfy the requirement in prong (3). Therefore, even if a person met all the other requirements for the exemption in CFTC Rule 3.10(c)(3), it would be unable to rely on the exemption where the applicable swap is not submitted for clearing through a FCM. The requestors of the no-action relief believed that the requirement in prong (3) was not reasonable given that neither the CEA nor the CFTC Rules require that all swaps be cleared and that some swaps are not yet accepted for clearing by any derivatives clearing organization.
The CFTC's Division of Swap Dealer and Intermediary Oversight ("DSIO") acknowledged in CFTC No-Action Letter 16-08 that CFTC Rule 3.10(c)(3) was not intended to impose an independent clearing requirement on commodity interest transactions and that therefore no-action relief was warranted.
Under the no-action relief, the DSIO will not recommend an enforcement action against a person located outside of the US, its territories or possessions engaged in an activity of an IB, a CTA or a CPO, in connection with swaps not subject to a clearing requirement only on behalf of person located outside the United States, its territories or possessions, for failure to register in such capacity. To put it another way, if a person that is engaged in an activity of an IB, a CTA or a CPO satisfies the requirements in prongs (1) and (2) but not prong (3) because the applicable swap was not subject to a clearing requirement, that person should be entitled to rely on the exemption in CFTC Rule 3.10(c)(3) and the DSIO will not recommend an enforcement action against that person for failing to register in the applicable capacity due to the fact that the requirement in prong (3) was not also satisfied.
This relief is available until the effective date or compliance date of any final rule amending CFTC Rule 3.10(c)(3).