U.S. rules scrutinized as energy futures swapped for swaps

Derivatives-trading rules are facing scrutiny at the U.S. Commodity Futures Trading Commission after the country’s largest exchanges began replacing energy swaps with futures last year.

The five-member commission is holding a roundtable meeting in Washington today with representatives of exchanges and trading firms including CME Group Inc., Intercontinental Exchange Inc., Deutsche Bank AG and BlackRock Inc. The agency is reviewing if the new futures contracts have enough transparency and competition or if too many transactions are being allowed off exchange by setting low levels for so-called block trades.

“I think it’s a natural thing for some realignment to take place,” CFTC Chairman Gary Gensler said at the meeting. “It is also critical that we preserve the pre-trade transparency that has been at the core of the futures market.”

Scott O’Malia, a Republican commissioner, and Bart Chilton, a Democrat commissioner, have said the agency must watch changes to the thresholds for block trades.

“The transition to futures in the energy market has been facilitated by the exchanges establishing extremely low threshold sizes for block trades in the futures contracts,” O’Malia said in a speech yesterday at a TabbForum conference in New York. “This is a significant issue that needs to be sufficiently thought through by both the commission and market participants.”

Improving Transparency

As part of the 2010 Dodd-Frank Act, the commission has sought to increase the ability to see bids and offers for derivatives before they are traded to improve transparency, competition and liquidity in markets. The switch in energy trades, and the potential for a similar conversion in interest- rate and credit derivatives, has prompted the agency to consider if its rules are strong enough.

Futures are agreements to buy or sell an asset or commodity at a specific price and time. They have standard sizes and maturities, are traded on exchanges and guaranteed at clearinghouses that take collateral from buyers and sellers. Swaps are traditionally traded directly between buyers and sellers, sometimes with customized maturities and sizes, and often aren’t guaranteed at clearinghouses.

The CFTC, which has regulated futures contracts since its creation in 1974, won authority under the act to oversee swaps, which had been largely unregulated since their development in the early 1980s.

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