I. Introduction and Summary of Final Order

The Commodity Futures Trading Commission (“CFTC” or “Commission”) on March 28, 2013, issued its final order exempting certain regional transmission organizations and independent system operators (“RTO/ISOs”) and specified transactions in their respective markets, from all but the general anti-fraud and anti-manipulation authority, and scienter-based prohibitions of the Commodity Exchange Act (“CEA”) and CFTC regulations thereunder (“Final Order”).1 The Final Order was issued in response to a request for exemption filed pursuant to Section 4(c) of the CEA by the California Independent System Operator Corporation (“CAISO”), Electric Reliability Council of Texas, Inc. (“ERCOT”), ISO New England, Inc. (“ISO-NE”), Midwest Independent Transmission System Operator, New York Independent System Operator, and PJM Interconnection, LLC (“Requestors”).2 The Requestors sought exemption for specified transactions authorized under tariffs or protocols approved by the Federal Energy Regulatory Commission (“FERC”) or, in the case of ERCOT, the Public Utility Commission of Texas (“PUCT”), and for any persons, including the Requestors and their members or other market participants offering, entering into, rendering advice, or rendering other services with respect to the specified transactions. As described below, each Requestor must comply with certain conditions prior to the exemption becoming effective, and the Commission separately extended existing interim relief to provide time for Requestors to meet these conditions.

Without making any jurisdictional determination as to the transactions or persons within the scope of the exemption, the Final Order exempts contracts, agreements, and transactions for the purchase or sale of certain electric energy–related products that are: (1) specifically defined in the Final Order (“Covered Transactions”); and (2) offered or entered into in a market administered by the Requestors pursuant to each Requestor’s tariff, rate schedule, or protocol, which has been approved or permitted to take effect by FERC or the PUCT. The Final Order requires that the Covered Transactions be entered into by “appropriate persons” as further summarized below. Finally, exemption under the Final Order extends to any person or class of persons offering, entering into, rendering advice, or rendering other services with respect to the Covered Transactions. The Commission also imposes certain conditions that each Requestor must satisfy in order to rely on the exemption.

II. The Scope of the Exemption

The Final Order is limited in scope. It exempts contracts, agreements, and transactions for the purchase or sale of the Covered Transactions entered into by appropriate persons pursuant to FERC or PUCT-approved tariffs or protocols.

A. The Final Order Applies Only to the Requestors.

The Final Order only applies to the Requestors (and any of their respective successors in interest). It does not apply to other power markets operated by other RTO/ISOs, e.g., the Southwest Power Pool, or other intrastate or regional power markets or their operators.

B. The Final Order Specifies which Transactions Are Exempt.

The Commission exempts the following categories of RTO/ISO transactions:

  •  Financial Transmission Rights (“FTRs”);
  •  Energy Transactions; 
  • Forward Capacity Transactions; and
  •  Reserve or Regulation Transactions.

The Final Order provides specific definitions for each category of Covered Transactions, which are largely the same as those definitions provided in the Proposed Order. Notably, however, unlike the Proposed Order, the Final Order explicitly includes virtual transactions and convergence bidding in the definition of Energy Transactions.3 The Commission also amends the definition of Energy Transactions in the Final Order to provide that the requisite performance of an energy transaction may occur in the Real-Time market through a cash payment or receipt at the price established in the Day-Ahead Market or Real-Time Market as permitted by each Requestor’s tariff. This was in response to a request by CAISO and ISO-NE and potentially could be read to cover internal bilateral transactions (“IBT”) in the CAISO and ISO-NE markets (see below for further discussion on IBTs).

The Commission clarifies in the Final Order that: (1) any products that a Requestor may offer in the future, pursuant to a FERC or PUCT-approved tariff that fall within the definitions of Covered Transactions as set forth in the Final Order; and (2) any modifications to existing products offered by a Requestor pursuant to a FERC or PUCTapproved tariff that does not alter the characteristics of the Covered Transactions are included in the exemption under the Final Order.

Requestors and several commenters sought exemption for products offered by the Requestors in the future that are a “logical outgrowth” of any Requestor’s core function as an ISO/RTO or that are “economically comparable” to the Covered Transactions. The Commission declined to grant this request, determining that such phrases are too vague to permit meaningful review. Therefore, to the extent any of the Requestors offer new products that do not fall within the definitions of the Covered Transactions, each Requestor will have to submit a supplemental request for an exemption for those products. The Commission also denied requests for an expedited review process for supplemental requests for related exemptions.

C. To Be Able to Rely on the Final Order, Market Participants Transacting in the Requestors’ Markets Must Qualify as Appropriate Persons.

The Final Order limits the exemption to market participants transacting in the Requestors’ markets that qualify as appropriate persons (“Appropriate Persons”). Appropriate Persons include: 

  • Any entities listed in Sections 4(c)(3)(A) through (J) of the CEA;
  • Eligible contract participants (“ECPs”) as defined in Section 1a(18) of the CEA and Section 1.3(m) of the Commission’s regulations; and 
  • Any person in the business of generating, transmitting, or distributing electric energy or providing electric energy service necessary to support the reliability or operation of the transmission grid.

The entities that qualify as Appropriate Persons under CEA Sections 4(c)(3)(A) through (J) are similar to the entities that qualify as ECPs under CEA Section 1a(18). The entities under these CEA sections include, inter alia: (1) financial institutions, banks, or trust company; (2) certain insurance companies; (3) investment companies; (4) certain commodity pools; (5) a corporation with total assets exceeding $5,000,000 or a net worth exceeding $1,000,000 or the obligations of which are guaranteed or otherwise supported by a letter of credit by any entity that otherwise qualifies as an ECP or an appropriate person;4 and (6) governmental entities. The Commission clarified that public power systems, which are operated by local governments for the benefit of its citizens, e.g., municipalities, and the units of instrumentalities of tribal governments are within the meaning of “governmental entities” in Section 4(c)(3)(H) of the CEA.

Based in part on comments that the Commission received in response to the Proposed Order, the Commission added the last category of physical market participants as Appropriate Persons to account for smaller entities in the Requestors’ markets that provide physical generation and/or other services related to the physical operation of the transmission grid. The Commission provides an example that an entity engaged in the business of providing demand response services in the markets of the Requestors would qualify under this prong of appropriate persons. However, entities: (1) engaged in the business of financial transactions only; (2) that do not actively participate in the generation, distribution, and transmission of electric energy; and (3) are not ECPs or entities listed in CEA Section 4(c)(3)(A) through (J) cannot rely on the exemption provided in the Final Order. Despite multiple requests and comments, the Commission declined to find that all market participants that are eligible to participate in the Requestors’ markets qualify as appropriate persons.

Note that, to the extent a Requestor’s tariff or other governing documents allow participation by entities that do not qualify as Appropriate Persons, the Requestor will have to revise its tariff or other governing documents, including filings with FERC or the PUCT, to limit access to its markets.

D. The Final Order and IBTs

CAISO and ISO-NE each submitted supplemental requests for an exemption for IBT transactions in their markets that are done pursuant to their FERC-approved tariffs. As noted above, the Final Order amends the definition of “Energy Transactions” to provide that the requisite performance of an energy transaction may occur in the Real-Time market through a cash payment or receipt at the price established in the Day-Ahead Market or Real-Time Market as permitted by each Requestor’s tariff. CAISO and ISO-NE requested this change to clarify that the exemption extends to certain energy transactions in their markets that otherwise might not be included within the scope of the definition of Energy Transactions.5 This revision may have the effect of exempting IBTs in the CAISO and ISONE markets. However, the Commission notes in the Final Order that “financial schedules and internal bilateral transactions are the subject of a separate request for supplemental relief filed by CAISO and ISO-NE and, therefore, the Commission is taking no position in this Final Order with respect to those products.” (emphasis added). The Commission further states that any Energy Transaction settling based upon the Day-Ahead market price must be inextricably linked to the physical delivery of electric energy. Therefore, the Final Order could be viewed as open to different interpretations as to whether IBTs in CAISO and ISO-NE are exempt.

III. Additional Conditions

The Final Order expressly conditions the exemption upon the following:

  •  Compliance with FERC Order No. 741 Requirements. Each Requestor that is regulated by FERC, must demonstrate full compliance, as measured by FERC’s acceptance and approval of all of that Requesting Party’s tariffs necessary to implement the standards in Part 35.47 of FERC’s regulations. The Part 35.47 requirements are those that were adopted by FERC pursuant to the credit reform order; FERC Order No. 741.6 ERCOT, which is not regulated by FERC, must adopt measures that are substantially similar to standards that are the same as those set forth in Part 35.47, as measured by PUCT’s permitting all of the ERCOT protocols to take effect.
  • Provision of Netting Legal Opinion or Memorandum of Counsel. Each Requestor that is FERC regulated must provide a legal opinion or memorandum of outside counsel that is satisfactory to the Commission providing assurance that the netting arrangements contained in the approach selected by the Requesting Party to satisfy FERC Regulation 35.47(d), will, in fact, provide the Requesting Party with enforceable rights of set off against any market participants under title 11 of the United State Code in the event of the bankruptcy of the market participant. ERCOT must provide a similar legal opinion or memorandum with respect to the netting approach ERCOT has adopted to satisfy standards that are the same as those contained in FERC Regulation 35.47(d).
  •  Information Sharing. For the FERC-regulated Requestors, information sharing arrangements between FERC and the Commission must be in effect and the Requestors must comply with the Commission’s requests through FERC to share positional and transactional data within the Requestors’ possession for products related to the Commission’s jurisdiction. For ERCOT, the Commission must be able to request and obtain, on an as needed basis from ERCOT positional and transactional data within ERCOT’s position for products related to the Commission’s jurisdiction. Neither the tariffs nor any governing documents of the Requestors can require that the RTO or ISO notify its members prior to providing information to the Commission in response to a subpoena or other request for information.

As with the Appropriate Person standard, some of these conditions will require the Requestors to revise their tariffs and/or other governing documents to meet the conditions.

IV. Effective Date and Interim No-Action Relief

The Final Order will be effective as to each Requestor upon a demonstration by the Requestor that it has met the conditions of: (1) complying with FERC Regulation 35.47 (or, for ERCOT, standards comparable to those in FERC Regulation 35.47); and (2) provision of the legal opinion or memorandum of outside counsel.

On October 12, 2012, the Commission’s final rule further defining the term “swap” became effective, triggering implementation then and over the next several months of many of the Commission’s new rules regulating the swaps market.7 In light of the effectiveness of those rules, the Divisions of Market Oversight, Clearing and Risk, and Swap Dealer and Intermediary Oversight (“Divisions”) in CFTC Letter No. 12-11 granted interim no-action relief stating that the Divisions will not recommend that the Commission commence an enforcement action with respect to: (1) the Requestors and to any person who is or would be eligible to participate in the Requestors’ markets under any currently approved tariffs; (2) and any contracts, agreements, or transactions entered into pursuant to a currently-approved tariff or any transactions that fall with the scope of the Proposed Order (“Interim No-Action Relief”).

On March 29, 2013, the Divisions extended the Interim No-Action Relief to allow sufficient time for the Requestors to revise their tariffs or protocols to comply with the conditions specified in the Final Order. Specifically, the Divisions will not recommend an enforcement action against the Requestors or person who participate in the Requestor’s markets:

  • Through April 30, 2013 for Requestors that have not submitted a legal opinion or memorandum of outside counsel; and
  • Through September 30, 2013 for Requestors to revise their tariffs to: (1) exclude market participants that do not qualify as Appropriate Persons; and (2) remove any requirement to notify market participants when the Requestors provides information or data to the CFTC.