FIA eMarketBeat Special Report
House Agriculture Committee Passes OTC Derivatives Bill
The House Agriculture Committee on Oct. 21 unanimously approved a bill to tighten up regulation of the over-the-counter derivatives markets. Among other things, the bill, H.R. 3795, would require standardized derivatives to be cleared through central clearinghouses and traded on an exchange or other regulated platform, subject to rules set by the Commodity Futures Trading Commission and the Securities and Exchange Commission.
During consideration of the bill, the committee agreed to several amendments that affect key provisions of the bill. The committee also agreed to set aside several other important amendments with the understanding that these would be considered at a later stage of the process. In addition, the bill was amended so that the regulators would have a full year to write the rules necessary to implement the new requirements, rather than the six months originally proposed.
Last week the House Financial Services Committee passed its version of the proposed legislation. The chairmen of the two committees will now work to reconcile their bills before the next step in the process, when the House leadership will bring the reforms forward for consideration by the full House of Representatives. No date has been set yet, but it is expected that the final bill will be combined with other financial reforms and brought to the House floor in late November or early December.
“This legislation reflects more than two years of public hearings and a lot of bipartisan work,” said Representative Collin Peterson, the Minnesota Democrat who chairs the House Agriculture Committee. “The clearing and exchange trading requirements, along with strong position limits provisions, will increase transparency in the marketplace, will benefit end users by not submitting them to onerous cash collateral requirements, and will hold swap dealers and major swap participants to new standards for capital, margin, business conduct and other requirements to reduce their ability to again place our financial system in such dire straits.”
“Today was another step on the road to creating a pragmatic regulatory structure to the derivatives market,” said Representative Frank Lucas, a lawmaker from Oklahoma and the top Republican on the committee. “I appreciate Chairman Peterson’s effort in working with us in a bipartisan fashion. The work we did today made significant improvements to the bill, but there is still a long way to go before it reaches the House floor. I am hopeful we can continue to make progress.”
H.R. 3795 institutes a clearing and trading requirement for all OTC swap transactions between dealers and major swap market participants that are accepted by a clearinghouse. Once approved and available for clearing, any transactions in that type of swap would have to be submitted to a clearinghouse. The bill exempts commercial end users from these requirements if they use the contracts to hedge price risk.
During the Oct. 21 mark-up, the committee agreed to an amendment that changes how these requirements are applied. The amendment clarified that clearinghouses would be required to seek government approval before listing swaps for clearing. Once a swap has been listed as available for clearing, the regulators would determine whether the mandatory clearing requirement would be triggered for transactions in that type of swap. In other words, the regulators could approve the listing of a swap for clearing without requiring that all such swaps be cleared.
Non-cleared swaps must be reported to a central repository and major swap market participants and dealers must adhere to strengthened capital and margin requirements. To address concerns about the concentration of risk in clearinghouses, the bill would prohibit federal assistance to clearinghouses unless expressly authorized by Congress.
With respect to the trading requirement, the bill would authorize the CFTC and the SEC to establish a regulatory framework for “alternative swap execution facilities” that would serve as an alternative to regulated exchanges. These swap execution facilities were defined as including any voice brokerage facility or any electronic confirmation facility.
The bill also would allow the CFTC to impose position limits on swaps that perform a significant price discovery function as well as position limits on futures based on physically deliverable commodities. The SEC would gain the authority to impose position limits on security-based swaps. The bill also would provide for exclusive CFTC jurisdiction of swaps and exclusive SEC jurisdiction over security-based swaps.
The bill also would prohibit the CFTC from permitting foreign boards of trade to provide U.S. participants with direct access to contracts that settle against a U.S. contract unless that foreign board of trade meets comparable regulatory standards.
Further Changes Pending
A number of amendments were offered by members of the committee. Those that passed by voice vote included a technical correction that swaps not cleared through a clearing organization will have to be reported to a central repository. In addition, lawmakers passed an amendment requiring that the CFTC study the impact of position limits on U.S. derivatives markets and submit a report to Congress within a year and thereafter a study every two years.
Several amendments were offered and subsequently withdrawn with an agreement by the committee chairman that there would be an opportunity to work through the issues in a later stage of the drafting process. Among those issues to be addressed include the definition of ‘swap’ to avoid inclusion of end-user use of spot and forward contracts that ‘reset’ due to price changes. Also to be addressed is an amendment of the “bona fide hedge” definition to permit businesses that hedge their next exposure to seek position limit exemptions.
Other amendments that will be considered before the legislation reaches the House floor include proposals to require all OTC trades be reported to a single trade repository, to permit the use of non-cash assets to satisfy capital or collateral requirements, to exclude variation margin from the segregation requirement, and to extend the segregation requirement to major swap participants as well as swap dealers.