Changes at the CFTC
Commissioner Chilton recently retired from the CFTC in April, leaving only two CFTC Commissioners--Acting Chairman Mark Wetjen and Scott O’Malia. Nominees to the remaining three Commissioner positions include Timothy Massad, a U.S. Treasury Department official nominated as Chairman, Sharon Bowen, a lawyer in private practice in New York and J. Christopher Giancarlo, a business executive with an interbank dealer. Nominees were approved by the Senate Agricultural Committee on April 8, 2014, but await confirmation by the Senate. Shortly after the approval, a Senatorial “hold” was placed on the nomination of Bowen. While in Committee, Senator Chambliss of Georgia voted against the appointment of Ms. Bowen based on her lack of demonstrable experience in the derivatives industry and Senator Vitter of Louisiana objected to her appointment based on actions taken by Ms. Bowen as chairwoman of SIPC relating to the Stanford Ponzi scheme. While the CFTC continues its day-to-day role as the regulator of the derivatives markets, the likelihood of any major new initiatives appears low until one of more of the commissioners are confirmed by the Senate.
The House Agricultural Committee has approved reauthorization of the CFTC in “The Customer Protection and End-User Relief Act,” but the reauthorization bill must be passed by the House and then approved by the Senate Agricultural Committee and in turn, the Senate. The House Ag Committee’s approval of the bill notably was a bi-partisan effort. The proposed bill, which is subject to change as it flows through the Congressional process provides enhanced customer protection, addresses residual margin for FCMs and revises the organizational and operational requirements of the CFTC. The Reauthorization bill also portends to impact the rule-making process by requiring a more robust cost-benefit analysis. The Reauthorization bill also provides regulatory relief to end-users of swaps by providing for a margin exemption and reducing recordkeeping requirements. Generally, the CFTC must be re-authorized by Congress every five years and was last authorized in 2008. Authority for the CFTC lapsed in 2013, but as is standard practice, the CFTC continues to operate in the status quo during any lapse in authority.
The CFTC recently launched an inquiry into the overseas activities of U.S. banks to determine whether they comply with the Dodd-Frank Act and whether banks are diverting swaps business overseas in order to avoid CFTC oversight. A primary focus of the inquiry is “conduit affiliates” and how banks may be using affiliates and subsidiaries to effectuate swaps transactions. Financial institutions conducting overseas swaps activities must be mindful of CFTC Rule 1.3(xxx)(6), which includes as swaps those transactions entered into in order to willfully evade the CFTC’s jurisdiction as well as CFTC Rule 1.6(a) which makes it unlawful to conduct activities outside the U.S. to willfully evade the jurisdiction of the CFTC.
In February, the CFTC re-issued its FAQ on Commodity Options, which addressed various issues related to commodity options including what types of options are considered swaps, exceptions to the foregoing rule and reporting requirements for trade options, including the Form TO. The FAQ reiterated that, except for exchange-traded cash settled options and certain enumerated exceptions, commodity options are treated as swaps. Enumerated exceptions include a commodity option embedded in a forward contract, a volumetric commodity option embedded in a forward contract and a trade option. All three of the enumerated exceptions involve contracts that anticipate actual delivery of the underlying commodity and physical settlement.
The CFTC re-issued its FAQ in light of the March 1, 2014 Form TO deadline covering the 2013 calendar year. The Form TO requires that a market participant report all trade options entered into during the prior calendar year, not otherwise reported to a SDR. Information reported on the Form TO includes identifying information about the reporting firm, the commodity categories of the firm’s trade options and the approximated dollar amount of commodities purchased or delivered in connection with the exercise of trade options during the prior calendar year. 2013 was the first reportable year for trade options under the CFTC’s new swaps regime.