Yesterday, the Securities and Exchange Commission (SEC) held an open meeting during which it adopted an interim final temporary rule under Section 766 of the of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act) “to provide for the reporting of certain security-based swap transactions and including an interpretive note regarding retention and recordkeeping requirements for certain security-based swap transactions” and proposed “Regulation MC pursuant to Section 765 of the Dodd-Frank Act to mitigate conflicts of interest at security-based swap clearing agencies, security-based swap execution facilities, and national security exchanges that post or make available for trading security-based swaps.”

The interim final temporary rule and the proposed rule are one of several SEC rulemakings required to implement security-based swap provisions of the Dodd-Frank Act. On October 1, the CFTC took action on comparable rulemakings for non-security-based swaps.

Interim Final Temporary Rule 13Aa-2T

After the meeting, the SEC published a release outlining its interim final temporary rule, which requires specified counterparties to pre-enactment security-based swap transactions (security-based swaps entered into before July 21, 2010, the terms of which had not expired as of that date) to report certain information relating to pre-enactment security-based swaps to a registered security-based swap data repository or to the SEC by the compliance date established in the security-based swap reporting rules required under Sections 3C(e) and 13 (a) of the Securities Exchange Act of 1934, or within 60 days after a registered security-based swap data repository commences operations to receive and maintain data concerning such security-based swaps, whichever occurs first, and report information relating to pre-enactment security-based swaps to the SEC upon request. The SEC also issued an Interpretive Note to the interim final temporary rule that states, among other things, that counterparties that may be required to report to the SEC will need to preserve information pertaining to the terms of these pre-enactment security-based swaps.

The interim final temporary rule is effective today, October 14, 2010, as published in the Federal Register and will remain in effect until the operative date of the permanent recordkeeping and reporting rules for security-based swap transactions to be adopted by the SEC or January 12, 2012, whichever occurs first. The SEC will be accepting comments to the interim final temporary rule until November 15, 2010.

The interim final temporary rule does not apply to security-based swap transactions entered into on or after July 21, 2010. The Dodd-Frank Act requires the SEC to adopt reporting rules covering such post-enactment security-based swaps.

Regulation MC

Proposed Regulation MC would require security-based swap clearing agencies, security-based swap execution facility and security-based swap exchanges to adopt ownership and voting limitations as well as certain governance requirements. The SEC noted that “prior to passage of the Dodd-Frank Act, the over-the-counter derivatives market was largely unregulated. The new law fills a number of significant regulatory gaps and gives the SEC important new tools to better protect investors.”

The SEC has identified three primary areas where it believes a conflict of interest could adversely affect the central clearing of security-based swaps:

  • participants could seek to limit access to the security-based swap clearing agency by other participants in order to maintain a competitive advantage;
  • participants could seek to limit the scope of products eligible for clearing at the security-based swap clearing agency, particularly if there is an economic incentive to keep the product traded in the over-the-counter market; and
  • participants could seek to lower the risk management controls of a security-based swap clearing agency in order to reduce their collateral requirements.

“The concern about conflicts of interest stems from the fact that the over-the-counter derivatives markets have a relatively high concentration of market activity through a limited number of dealers who earn significant revenues from their transactions,” said SEC Chairman Mary L. Schapiro. “By creating a structure that would promote more independent voices within clearing organizations and trading venues, this proposed rule is intended to make these entities less susceptible to promoting the interests of a few participants.”

The SEC will be accepting comments to proposed Regulation MC until 30 days after its publication in the Federal Register.