DoJ comments on SEFs

January 31, 2011 06:00 PM
Cutting in

A comment letter regarding CFTC rules on ownership and governance rules of swap execution facilities (SEF) and designated contract markets (DCM) has been submitted from an unlikely source — the United States Department of Justice (DoJ).

In the letter signed by Assistant Attorney General Christine Varney, the DoJ explains that while it is pleased the CFTC is tackling the issue of ownership and governance; it does not feel the proposed rules go far enough to prevent conflicts of interest and potential monopolies.

"It is not uncommon for the anti-trust department to provide comment when they see rule-making or other activity from an agency if they see an anti-trust issue," says Daniel Waldman, partner at Arnold & Porter LLP.

According to the CFTC proposal, DCMs and SEFs would have a 20% limitation on the voting equity or voting power that any single member may control or own. In its letter, the DoJ expresses doubts that this limitation would be effective without an aggregate cap on ownership by enumerated entities.

"The Department is concerned that because the proposed rule does not include an aggregate ownership cap on major derivatives dealers, preserving the opportunity for these powerful entities to achieve majority ownership of DCMs/SEFs, it may not sufficiently protect and promote competition in the industry," the letter says.

The DoJ expresses concerns that three banks or companies could band together to hold the majority share of a DCM or SEF, or that five could hold complete control. It likens its worries to the airline industry.

"The creation of such a platform [controlled by three to five companies] would be roughly analogous to the three or five largest airlines controlling all landing rights at every U.S. airport — the big carriers could use this control to disadvantage smaller carriers by restricting landing rights or raising their rivals’ costs to access the airport," the letter says.

The department suggested more robust standards to discourage anti-competitive behaviors. "[The DoJ] is the organization that looks out for anti-competitive issues. They are coming in as a strong governing voice to speak up for that aspect of regulation," says Willa Bruckner, partner at Alston & Bird LLP.

In addition to stronger ownership limits, the DoJ also recommended adjustments to governance structures that would ensure a larger percentage of a board of directors be independent.

"Because it is the DoJ, it gets more public attention than if you or I wrote a letter," Bruckner says.

It is not the first time the DoJ shook up the industry with a comment letter. In 2008 it created a firestorm by recommending an end to exchange control of clearing in a comment to the Treasury Department as CME Group was negotiating a merger with Nymex. The letter caused a more than $100 dip in CME stock and the DoJ retreated from its recommendations a few days later.

About the Author

Web Editor/Assistant Editor Michael McFarlin joined Futures in 2010, after graduating summa cum laude from Trinity International University, where he majored in English/Communication. With the launch of the new web platform, Michael serves as web editor for the site and will continue to work on the magazine, where he focuses on the Markets and Trading 101 features. He also served as a member of the Wisconsin National Guard from 2007 to 2010.