CFTC GARY GENSLER'S REMARKS AT 2013 ANNUAL GLAUBER LECTURE AT HARVARD UNIVERSITY

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Remarks of Chairman Gary Gensler at the 2013 Annual Glauber Lecture at Harvard University
October 29, 2013

Thank you, Bob, for that kind introduction. I also would like to thank you and Harvard University for the invitation to speak today. I’m particularly pleased to be here as Bob and I are both examples that there is life after serving as an undersecretary of the Treasury.

Five years ago, the U.S. economy was in a free fall.

Five years ago, the swaps market was at the center of the crisis. It cost middle-class Americans – and hardworking people around the globe – their jobs, their pensions and their homes.

Five years ago, the swaps market contributed to the financial system failing corporate America and the economy as a whole. Thousands of businesses closed their doors.

President Obama met in 2009 with the G-20 leaders in Pittsburgh. They committed to bringing the swaps market into the light through transparency and oversight.

The President and Congress in 2010 gave the task of implementing swaps market reform to the Commodity Futures Trading Commission (CFTC) and security-based swaps market reform to the Securities and Exchange Commission.

With the CFTC’s near completion of these reforms, the shift to a transparent, regulated marketplace benefitting investors, consumers and businesses is fully in motion.

The CFTC’s 62 final rules, orders and guidance have brought traffic lights, stop signs, and speed limits to the once dark and unregulated swaps roads.

There are bright lights and robust safety measures in place that didn’t exist in 2008.

With these reforms, farmers, ranchers, producers and commercial companies can continue to rely on transparent, competitive markets to lock in a price or a rate and focus on what they do best – innovating, producing goods and services for the economy, and creating jobs.

These reforms are not based on new ideas. Economists have written about them for centuries. Just start with Adam Smith in the Wealth of Nations where he wrote about the benefits of lowering the price of information and the price of access. In essence, if you make information free, the economy benefits. Similarly, if access to the market is free, everybody gets to compete.

Transparency

Thus, in line with Adam Smith, the first critical component of swaps market reform is transparency.

Today, the public can see the price and volume of each swap transaction as it occurs on a website, like a modern-day tickertape.

This transparency lowers costs for investors, consumers and businesses. It increases liquidity, efficiency and competition.

Regulators have benefited as well. Nearly $400 trillion in market facing swaps are being reported into data repositories.

This transparency spans the entire marketplace – cleared as well as bilateral or customized swaps. Every product, without exception, now must be reported.

Further, starting this month, the public is benefitting as swap trading platforms come under new common-sense rules of the road.

Over time, market participants will benefit from the enhanced pre-trade transparency and competition of these new trading platforms, called swap execution facilities (SEFs).

SEFs are required to provide all market participants – dealers and non-dealers alike – with impartial access, once again following Adam Smith’s observations on how to benefit the economy.

Further, SEFS provide the ability to compete by leaving live, executable bids or offers in an order book.

Requiring trading platforms to be registered and overseen by regulators was central to the swaps market reform President Obama and Congress included in the Dodd-Frank Wall Street Reform and Consumer Protection Act. They expressly repealed exemptions, such as the so-called “Enron Loophole,” for unregistered, multilateral swap trading platforms.

Seventeen SEFs are temporarily registered. This is truly a paradigm shift – a transition from a dark to a lit market. It’s a transition from a mostly dealer-dominated market to one where others have a greater chance to compete.

Clearing

Another key component of completed swaps reforms is bringing transactions among financial institutions into central clearing.

This month, mandatory clearing of interest rate and credit index swaps is a reality for swap dealers, hedge funds and other financial institutions.

Clearinghouses lower risk and promote access for market participants.

As of October 25, 80 percent of new interest rate swaps were cleared. In total, over $190 trillion of the approximately $340 trillion market facing interest rate swaps market, or 57 percent, was cleared. This compares to only 21 percent of the market in 2008.

Earlier this month, the guaranteed affiliates and branches of U.S. persons were required to come into central clearing. Further, hedge funds and other funds whose principal place of business is in the United States or that are majority owned by U.S. persons are required to clear as well. No longer will a hedge fund with a P.O. Box in the Cayman Islands for its legal address be able to skirt the important reforms Congress put in place.

Swap Dealer Oversight

The third key component of swaps market reform is bringing oversight to swap dealers.

In 2008, swaps activity was basically not regulated in the United States, Europe or Asia. Among the reasons for this, it was claimed that financial institutions did not need to be specifically regulated for their swaps activity, as they or their affiliates already were generally regulated as banks, investment banks or insurance companies.

AIG’s downfall was a clear example of what happens with such limited oversight.

Today, we have 88 swap dealers and two major swap participants registered. This group includes the world’s 16 largest financial institutions in the global swaps market, commonly referred to as the G16 dealers. It also includes a number of energy swap dealers.

Swap dealer oversight helps protect the public. It lowers risk and increases market integrity. Swap dealers throughout this year have had to report their transactions and comply with sales practice and other business conduct standards.

International Coordination on Swap Market Reform

Since the 2009 meeting in Pittsburgh, the CFTC has been consistently coordinating with our international counterparts on swaps market reform. The United States, Europe, Japan and the largest provinces in Canada all have made substantial progress.

As the CFTC and the international regulatory community move forward with reform, we all recognize that risk knows no geographic border. AIG nearly brought down the U.S. economy through the operations of its offshore guaranteed affiliate.

It wasn’t the only U.S. financial institution that brought risk back home from its far-flung operations during the 2008 crisis.

It was also true at Lehman Brothers, Citigroup, and Bear Stearns. Ten years earlier, it was true at Long-Term Capital Management.

The nature of modern finance is that financial institutions commonly set up hundreds, or even thousands, of legal entities around the globe. When a run starts on any part of an overseas affiliate or branch of a modern financial institution, risk crosses international borders.

The U.S. Congress was clear in the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) that the far-flung operations of U.S. enterprises are to be covered by reform.

The CFTC, coordinating closely with global regulators, completed guidance on the cross-border application of the Dodd-Frank Act in July. Swaps market reform covers transactions between non-U.S. swap dealers and guaranteed affiliates of U.S. persons, as well as swaps between two guaranteed affiliates.

The guidance embraces the concept of substituted compliances, or relying on another country’s rules when they are comparable and comprehensive.

This guidance is critical to protecting the public from the risk of foreign-affiliate failures in the future.

Benchmark Interest Rates

Today, the CFTC announced its fifth settlement against a bank for pervasively rigging key interest rate benchmarks, LIBOR and Euribor.

LIBOR and Euribor are critical reference rates for global futures and swaps markets. In the U.S., LIBOR is the reference rate for 70 percent of the futures market and more than half of the swaps market. It is the reference rate for more than $10 trillion in loans.

Unfortunately, we once again see how the public trust can be violated through bad actors readily manipulating benchmark interest rates.

Through hundreds of manipulative acts spanning six years, in six offices, and on three continents, more than two dozen Rabobank employees, including a senior manager, manipulated, attempted to manipulate and falsely reported crucial reference rates in global financial markets. Rabobank employees also aided and abetted other banks to manipulate benchmark interest rates.

I wish I could say that this won’t happen again, but I can’t.

LIBOR and Euribor are not sufficiently anchored in observable transactions. Thus, they are basically more akin to fiction than fact. That’s the fundamental challenge so sharply revealed by Rabobank and our prior cases.

This fifth instance of benchmark manipulative conduct highlights the critical need to find replacements for LIBOR and Euribor – replacements truly anchored in observable transactions.

Though addressing governance and conflicts of interest regarding benchmarks is critical, that will not solve the lack of transactions in the market underlying these benchmarks.

That is why the work of the Financial Stability Board to find alternatives and consider potential transitions to these alternatives is so important. The CFTC looks forward to continuing to work with the international community on much-needed reforms.

Resources

I’d like to close on one of the greatest challenges to well-functioning swaps and futures markets. That challenge is that the agency tasked with overseeing these markets is not sized to the task at hand.

At 675 people, we are only slightly larger than we were 20 years ago. Since then though, Congress gave us the job of overseeing the $400 trillion swaps market, which is more than 10 times the market we oversaw just four years ago. Further, the futures market itself has grown fivefold since the 1990s.

You might not have liked the umpire’s call in the game this week on obstruction, but would you want Major League Baseball to expand tenfold and not add to its corps of umpires?

We’ve basically completed the task of writing all the reforms and are past the initial market implementation dates. We’ve brought the largest and most significant enforcement cases in the Commission’s history.

These successes, however, should not be confused with the agency having sufficient people and technology to oversee these markets.

We need people to examine the clearinghouses, trading platforms and dealers. We need surveillance staff to actually swim in the new data pouring into the data repositories. We need lawyers and analysts to answer the many hundreds of questions that are coming in from market participants about implementation. We need sufficient funding to ensure this agency can closely monitor for the protection of customer funds. And we need more enforcement staff to ensure this vast market actually comes into compliance and go after bad actors in the futures and swaps markets.

The President has asked for $315 million for the CFTC. This year we’ve been operating with only $195 million.

Worse yet, as a result of continued funding challenges, sequestration and a required minimum level Congress set for the CFTC’s outside technology spending, the CFTC already has shrunk 5 percent, and just last week, was forced to notify employees that they would be put on administrative furlough for up to 14 days this year.

I recognize that Congress and the President have real challenges with regard to our federal budget. I believe, though, that the CFTC is a good investment for the American public. It’s a good investment to ensure the country has transparent and well-functioning markets.

Thank you, and I look forward to your questions.

CFTC COMMISSIONER CHILTON'S CONCURRENCE WITH ORDER REGARDING JPMORGAN MARKET MANIPULATION CASE

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Concurrence of Commissioner Bart Chilton in the Matter of JPMorgan Chase, N.A. (JPMorgan)
October 16, 2013

I concur with this Order. For too long, our manipulation standard under the Commodity Exchange Act has been too high a hurdle.  Here's the proof: we've only successfully litigated one case in the Agency's 38-year history.

The authority being used in this instance—Section 6(c)(1) of the Act and our Rule 180.1—is the result of a new Dodd-Frank provision which provides the Commission with more flexibility to go after reckless manipulation in markets. It is a provision I supported and one championed by Senator Maria Cantwell.

I've continually sought appropriate penalties for violations of the Commodity Exchange Act.  I still seek a statutory change from our current puny penalty regime. That said, the $100 million JPMorgan sanction, along with the banks’ admission of deploying a recklessly aggressive trading strategy, seems an appropriate amount for the egregious manipulative conduct that took place on February 29, 2012.

Admitting to these findings of fact needs to be something part and parcel to these types of settlements.  All too often, a firm will neither admit nor deny any wrong doing. That needs to stop. I've been calling for the Agency to ensure that this occurs and commend the enforcement professional involved in this matter for their work.  I would not have supported the Order unless JPMorgan had admitted to such findings of fact.  Going to court on the matter would have been an acceptable avenue from my perspective.

Our Division of Enforcement has done an exemplary job on this case.  Doing so under normal circumstances is challenging, but concluding this matter during the government shutdown is extraordinary. I commend our Director of the Division of Enforcement, David Meister, and the team that has worked on this: Joan Manley and Paul Hayek, Saadeh Al-Jurf, Traci Rodriguez, Allison Shealy and Dan Ullman.

Finally, the day before the October 1st government shutdown, the CFTC returned a billion dollars to the Treasury.  These are monies collected from various civil monetary penalties and settlements. The following day, boom boom out went the lights at the CFTC.  Markets aren't being watched by the Agency, and only the most limited of functions are being carried out.  The matter today is a significant exception.

All it would take to keep the Agency open and on the job is for Congress to approve one single sentence to allow the CFTC use of the types of funds we returned. We have at least $100 million sitting there right now, unused, and with this settlement, there will be an additional $100 million.

This is a common sense provision that I, once again, respectfully urge Congress to immediately consider.

REMARKS BY CFTC COMMISSIONER O'MALIA AT CFTC COMPLIANCE FORUM

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Keynote Address by Commissioner Scott D. O'Malia, Edison Electric Institute CFTC Compliance Forum, Washington, DC
October 17, 2013

The topic of today's conference is "Compliance and Implementation Issues." I must say such a topic gives us plenty of room to have a wide-ranging discussion, as there are so many questions and concerns regarding industry compliance and on-going implementation.

As we all know, the Dodd-Frank Act was enacted following the G-20 agreement in Pittsburgh in September 2009 to undertake comprehensive financial reform. The G-20 agreement proposed four main objectives of derivatives reform. First, report all data to a data repository. Second, require that all standardized derivatives contracts be exchange traded "as appropriate." Third, require clearing to be done through central counter parties. Fourth, impose higher collateral charges for all uncleared over-the-counter (OTC) products.

Since the passage of Dodd-Frank, the CFTC has been busy with an aggressive schedule of rule promulgation. Today we have finalized just over 60 rules including Dodd-Frank and non-Dodd Frank rule.

This new regulatory regime has had a profound impact on market structure as it has imposed new obligations, higher levels of transparency, and higher standards for risk management. Many of these new rules will have a positive impact on financial markets.

However, I have serious concerns about the Commission’s rule making process and schedule, as well as the statutory foundation of many rules and their overall impact on end-users.

Today, I would like to discuss three topics. First, I would like to address the implementation of the rules, both in terms of compliance already under way and what we need to think about going forward. Second, I would like to discuss the regulatory impact on end-users. Finally, I would like to discuss my concerns about the Commission’s preparedness to oversee the implementation of the Dodd-Frank regulatory regime.

The Process: Sacrificing Transparency and Certainty for Speed

From the beginning of my time at the Commission, I have been very concerned with the Commission's rulemaking process. As you may know, I have been disappointed with the Commission’s failure to develop a transparent rulemaking schedule that would enable market participants to plan for compliance with the massive new obligations imposed by these rules. In addition, I believe the Commission has rushed the rulemaking process, prioritizing getting rules done fast over getting them done right. This approach has compromised the legal soundness and consistency of our rules.

Stark evidence of the Commission’s flawed rules, and their unachievable compliance deadlines, can be seen in the massive number of exemptions and staff no-action letters issued to provide relief from them. To date, we have issued over 130 exemptions and staff no-action letters. That amounts to more than two exemptions for every rule passed. In nearly two dozen cases, the relief provided is for an indefinite period of time – thus making them de facto rulemakings, which didn't go through the Administrative Procedure Act or proper cost-benefit analysis. It is clear that the Commission has abused the no-action relief process.

Market participants are confused regarding the application of our rules, and how or when they must be applied. Further, since the Commission doesn't vote on staff no-action letters, they don't appear in the Federal Register. And you won't find the exemptive letters in our rulebook either. This lack of transparency and consistency will drive a compliance officer crazy.

One area where the Commission has made one of its biggest process fouls is the lack of robust cost-benefit analysis. Without a doubt, the comprehensive nature of the Dodd-Frank regulatory regime will have a significant cost impact on all market participants, and yet the Commission has failed to conduct appropriate and rigorous quantitative and qualitative analysis of our proposed rules. Understanding whether the benefits of the rules outweigh the costs is a common sense tool to determine the least burdensome solution to the problem.

The Commission has so far been able to get away with such inadequate cost-benefit analysis because the current governing statute sets a low bar. I support Congressional efforts to revise our statutory cost-benefit obligations in order to require the Commission to undertake a more rigorous quantitative and qualitative analysis, putting us on par with other federal agencies. I support Chairman Conaway's efforts (H.R. 1003) and hope the House and Senate will pass this legislation.

Implementation: What's Coming

While I have a longer list of process fouls committed by the Commission, I would like to turn to upcoming rules that will have a significant impact on end-users in particular.

The Commission is currently considering the position limit rule do-over. When I say the Commission, I mean that literally. During the shutdown there is no staff available to discuss this rule proposal. We can't make revisions. We can't ask questions about the rationale or justification. We can't even discuss with staff whether or not the proposed limits would have an appropriate impact to curb "excessive speculation."

The Commission is pursuing a dual track on position limits. Later this year, an appeals court will hear our argument urging it to overturn a federal district court’s ruling to vacate the original position limit rule. The district court found that the Commission failed to provide a finding of necessity as directed by the statute. Simultaneously, we are drafting a nearly identical rule arguing more strenuously that Congress made us do it, and that Congress really didn't want to know whether these rules are "necessary" or "appropriate."

Frankly, I find it interesting that the proposed rule will argue on one hand that Congress wanted position limits and that we aren't bound to apply an appropriateness standard – and then, on the other hand, argue in the cost-benefit analysis that these rules are well considered and will have the intended impact based on our analysis.

Another important rulemaking that will be before the Commission shortly is the application of capital and margin for all OTC trades. While I am pleased that the international community has worked together to make the standards consistent, make no mistake: these rules will increase the cost of hedging. End-users will be spared from mandatory margin exchange. However, nobody will receive a break from the new capital charges. These are new costs imposed on banks to offset the risk posed by OTC trades. Needless to say, these costs will be passed on to end-users.

I agree with Sean Owens, an economist with Woodbine Associates, who stated that under Dodd-Frank, "end users face a tradeoff between efficient, cost-effective risk transfer and the need for hedge customization. The cost implicit in this trade off include: regulatory capital, funding initial margin, market liquidity and structural factors."1

There is no doubt that these new requirements will have serious economic consequences for financial markets. And regulators should not take this lightly. In an effort to coordinate with international regulators, the Commission will re-propose its capital and margin rules. But even under the more accommodating margin requirements, the Commission must evaluate additional costs to end-users by conducting an in-depth cost-benefit analysis.

Happy Anniversary: 1st Anniversary of Futurization

It was one year ago, almost to the day, that the energy markets switched from trading swaps to futures. This huge shift was triggered by the then-impending effective date of the swap and swap dealer definitions. To avoid trading swaps and being caught in the unnecessary, costly and highly complex de minimis calculation imposed on swap dealers, energy firms shifted their trading from swaps to futures, literally overnight.

Based on the complexity of our swaps rules and the cost-efficiency of trading futures, it makes sense that participants would make this change. I'm interested to hear more from end-users like you how this shift has impacted your hedging strategies.

I must warn you that there are several more changes coming up that will continue to impact energy markets. First, the Commission is considering a draft futures block rule that will be proposed to limit the availability of block trades.

Second, as I noted before, OTC margin and capital rules will increase the cost of OTC bilateral deals. This draft rule should be published by the end of the year.

Third, the European Union (EU) is considering whether it will find acceptable the U.S. rules allowing a minimum one-day margin liquidation requirement for futures and swaps on energy products. Europe might not recognize U.S. centralized counterparties as qualified and, as a result, ban EU persons from accessing these markets. The EU is insisting on a two-day margin liquidation minimum. I am told that this would have the practical effect of increasing margin requirements for energy trades by 40 percent. I’m not sure how this will be resolved, but I suspect it will be closely tied to U.S. recognition of the European regulatory regime.

End-Users

Now let me turn to my second topic: how our rules treat end-users.

Congress was very clear about protecting end-users from Dodd-Frank's expansive regulatory reach. As a result, many end-users assumed that they wouldn't be impacted by these rules. Clearly, they are no longer under such misconceptions.

The swap dealer definition is a good example of how the Commission failed to accurately interpret Dodd-Frank and broadly applied the swap dealer definition to all market participants. The Commission ignored the express statutory mandate to exclude end-users from its reach. The swap dealer final rule requires entities to navigate through a complex set of factors on a trade-by-trade basis, rather than provide a bright line test. While I appreciate that the Commission set an $8 billion de minimis level to exclude trades from a dealer designation, it remains challenging to determine what is in and what is out from this safe harbor.

As part of the complexity of the swap dealer definition, the Commission has applied inconsistent and incoherent requirements around bona fide hedging as part of the dealer calculation. The hedge exclusion from the dealer definition applies only to physical, but not financial, transactions. The Commission should apply a consistent definition for hedging.

Another complexity that the Commission has imposed on end-users is the definition of a volumetric option. Specifically, to determine whether a volumetric option is a forward or a swap, the rule applies a seven-part test. But the real kicker is that under the seventh factor, contracts with embedded volumetric optionality may qualify for the forward contract exclusion only if exercise of the optionality is based on physical factors that are outside the control of the parties. This is in contradiction to how volumetric options have been traditionally used by market participants, makes no sense and provides absolutely no certainty for market participants.

The Commission has seemingly gone out of its way to create complex rules that generally result in an outcome of heads we win, tails you lose. We need to clean up the definition and create reliable and well-defined safe harbors. If we don't, I would encourage Congress to revisit the statute.

Commission Readiness: The Consequences of a “Ready, Fire, Aim” Approach

Let me move now to my third main topic: Commission readiness to properly oversee the implementation of its Dodd-Frank regulatory regime. There are two questions I have regarding this issue. The first question is pretty straightforward: is the Commission prepared to effectively oversee the new swaps markets? I believe the answer to this question is "no."

Take the area of registration. The Commission’s new swaps regime has created multiple new categories of Commission registrants, and in each category there has been an inconsistent and uncertain process with the bar constantly moving for applicants. For example, it has been ten months since the first swap dealer application arrived. Today, we have 89 temporarily registered applications totaling over 180,000 pages and we haven’t signed off on single application as complete or final.

With regard to swap data repository (SDR) registration, it has taken the Commission eight to ten months to register just three SDRs under temporary status. We have exceeded our own self-imposed limit of 180 days in some cases and we still haven’t issued a final SDR determination.

As for the registration of swap execution facilities (SEFs), while we have registered 18 entities under a temporary basis, I can only imagine how long it will take for a SEF to secure final approval, especially when we admit that we didn’t read the rulebooks in order to meet the arbitrary October 2 effective date. My guess is that it will be a long and painful process as we insist on evolving revisions to SEF rulebooks while trading is going on.

Another area where the Commission has not been adequately prepared to do its job is in connection with swap data being submitted under new reporting regulations. Despite imposing aggressive compliance requirements on the market, the Commission doesn't have the tools in place to effectively utilize the new data being reported to SDRs, and it doesn't have a surveillance system in either the futures or swaps market that I would regard as adequate or modern.

Today, the data we receive from SDRs requires extensive cleaning and changes to make it useful. As chairman of the Commission’s Technology Advisory Committee (TAC), I have devoted significant TAC attention and resources to aid this effort. Stemming from our TAC meeting in April, a working group including Commission staff and the SDRs has been established and is working to harmonize data fields to aid in our ability to easily aggregate and analyze data across SDR platforms. It will take time before we are able to access, aggregate and analyze data efficiently.

I am also disappointed with our current stance on the oversight of SEFs. Despite the October 2 start-up date for SEFs, the Commission relies on self-regulatory organizations to send data via Excel spreadsheet. There is no aggregation capacity and I am not aware of any plan to automate this process for the less than two thousand swap trades that occur on a daily basis.

My second question: is the Commission sufficiently familiar with the readiness of the market to adapt to our rules? The answer to this question is also "no." As I discussed earlier, evidence of this failure can be found in the Commission’s extensive use of no-action relief tied to arbitrary deadlines. The Commission needs to do a better job of understanding the significant compliance challenges facing market participants as a result of new regulations.

Pre-Trade Credit Checks: Time for the TAC to Revisit the Issue

Let me give you a brief example of one challenge we are dealing with today. The Commission has been working toward a goal of straight-through processing of trades and clearing to prevent any trade failures due to credit issues. Just recently, the Commission has started insisting that SEFs provide functionality to pre-check all trades for adequate credit at the futures commission merchant (FCM) to guarantee a trade. In general, I support this objective. However, market participants were not prepared to comply with this new requirement by October 2, the date SEFs began operation.

Consistent with the Commission’s practice of issuing last-minute ad-hoc relief, the day before the SEF start-up date, staff issued a delay of the pre-trade credit checks for one month until November 1. We are just two weeks away from this new deadline and it is clear that not all SEFs, FCMs, credit hubs and customers are fully interconnected. Without end-to-end fully tested connectivity, I suspect trades will continue to be done over the phone – stalling limit order book trading.

This is a topic that we discussed at the recent TAC meeting on September 12. It was clear at that meeting that the pieces were not in place and additional time is needed.

With the arbitrary November 1 deadline looming and the Commission yet to provide confused swap market participants with necessary guidance on a host of unresolved issues, often stemming from a lack of clarity in the SEF rules, I believe additional time is required. The Commission has not provided adequate time to complete the on-boarding process and conduct the technology testing and validation that is necessary. We should also consider phasing in participants, similar to our approach with clearing, in order to avoid a big bang integration issue.

Again, I offer to use the TAC to identify a path forward if that will be useful, but the issues identified in September still remain.

Conclusion

In many respects it is quite remarkable the work that has been accomplished – by both the Commission and the market – to put in place trade reporting, mandatory clearing, and now the first stages of swap exchange trading. However, the Commission process by which all of this was accomplished is certainly not to be replicated.

We need to continue to make sure we follow Congressional direction to protect end-users and focus more on outcomes rather than setting arbitrary timetables tied to an individual agenda. Rather than relying on the ad-hoc no-action process, the Commission should take responsibility of fixing the unworkable rules – swap data reporting and the swap dealer definition come to mind.

If we are going to impose rules, let’s make sure they are informed by data and will not interfere with the fundamental function of hedging and price discovery in the markets – I’m thinking about position limits and our proposed futures blocks.

Finally, let's keep an eye on the costs – putting these markets out of reach for commercial hedgers doesn't help anyone. Let's sharpen the pencil and consider all the options. There is no reason why we should not be able to quantify the solution as the most cost-effective rule for the market.

Thank you again for the opportunity to speak with you today.

1 See Sean Owens, Optimizing the Cost of Customization, Review of Futures Market (July 2012).

Last Updated: October 17, 2013

SEC VOTES ON RULES TO ESTABLISH REGISTRATION REGIME FOR MUNICIPAL ADVISORS

FROM:  U.S. SECURITIES AND EXCHANGE COMMISSION

The Securities and Exchange Commission today voted unanimously to adopt rules establishing a permanent registration regime for municipal advisors as required by the Dodd-Frank Act.

State and local governments that issue municipal bonds frequently rely on advisors to help them decide how and when to issue the securities and how to invest proceeds from the sales.  These advisors receive fees for the services they provide.  Prior to passage of the Dodd-Frank Act, municipal advisors were not required to register with the SEC like other market intermediaries.  This left many municipalities relying on advice from unregulated advisors, and they were often unaware of any conflicts of interest a municipal advisor may have had.

After the Dodd-Frank Act became law, the SEC established a temporary registration regime.  More than 1,100 municipal advisors have since registered with the SEC.

The new rule approved by the SEC requires a municipal advisor to permanently register with the SEC if it provides advice on the issuance of municipal securities or about certain “investment strategies” or municipal derivatives.

“In the wake of the financial crisis, many municipalities suffered significant losses from complex derivatives and other financial transactions, and their investors were left largely unprotected from these risks,” said SEC Chair Mary Jo White.  “These rules set forth clear, workable requirements and guidance for municipal advisors and other market participants, which will provide needed protections for investors in the municipal securities markets.”

The new rules become effective 60 days after they are published in the Federal Register.

CFTC COMMISSIONER CHILTON'S ASSESSMENT OF LOOMING GOVERNMENT SHUTDOWN

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Boom, Boom, Out Go the Lights

Statement of CFTC Commissioner Bart Chilton

September 20, 2013

On September 30th, at the stroke of midnight, our country will face a government shutdown unless a continuing resolution to fund it is adopted.  That would be grave news for consumers.

Under a shutdown scenario, government regulators will be handcuffed in our ability to go after crooks who are trying to evade our oversight and protection of markets.  You can bet the “do-badders” are licking their chops.

The dark markets that Dodd-Frank brought into the light of day will go dark again.  The lights will go out.  Given the huge growth in the derivatives industry and our new oversight of swaps, CFTC’s market oversight functions are more important than ever.  Taking our cops off the beat for even a few days could have disastrous impacts on these markets that consumers depend upon.

In the longer term, I remain concerned about the stagnant budgetary circumstances and am convinced that a targeted transaction fee on trading, like the one the President has proposed to Congress, is needed to fund the agency and keep the markets safe.  But for now, let’s avoid a “Boom, Boom, Out Go the Lights” debacle, and hope a deal can be reached to keep the lights on.

CFTC ORDERS BROKER EMPLOYEE TO PAY PENALTY FOR MAKING FALSE STATEMENTS

FROM:  COMMODITY FUTURES TRADING COMMISSION 
CFTC Orders Futures Broker Employee Susan Butterfield to Pay $50,000 Penalty in Settlement of Charges of Making False Statements to the CFTC During Her Investigative Testimony

Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) today announced that it entered an Order requiring Susan Butterfield of New Lenox, Illinois, to pay a $50,000 civil monetary penalty for making false statements of material fact in testimony to CFTC staff during a CFTC Division of Enforcement investigation. The Order enforces the false statements provision of the Commodity Exchange Act (CEA), which was added by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act).

According to the CFTC’s Order, Butterfield, an employee of a company registered with the Commission as an introducing broker (the IB), handled various clerical and administrative responsibilities concerning trading on the floor of the Chicago Board of Trade (CBOT). Her responsibilities included accepting and recording customer orders. When done properly, this involved time-stamping paper order tickets contemporaneously with the receipt of a customer commodity futures or options order to accurately record the time of day when the IB received the order.

On January 31, 2013, Butterfield gave sworn testimony in an investigation being conducted by the CFTC’s Division of Enforcement. The CFTC Order finds that during that testimony, Butterfield knowingly made false and misleading statements regarding whether she had improperly pre-stamped order tickets, i.e., whether she stamped order tickets in blank, prior to the time when a customer order was actually received. As the Order states, this testimony was significant in that use of pre-stamped order tickets may violate Commission Regulations and CBOT rules and also may facilitate unlawful trade allocation schemes in which brokers decide who will receive trades only after they are executed, potentially allowing them to profit at their customers’ expense.

The CFTC Order finds that prior to her CFTC testimony Butterfield told her supervisor, who was a principal at the IB, that “we pre-stamp orders and it’s something that is – that we should not be doing.” However, on January 31, 2013, when the Division of Enforcement staff questioned Butterfield on the IB’s pre-stamping practice, Butterfield falsely told the staff that she “never pre-stamped any [order] tickets.” Later during the course of her testimony the same day, Butterfield admitted to various instances of pre-stamping order tickets, but only after she was confronted by documents that plainly contradicted her initial false testimony. Ultimately, having been confronted with evidence that demonstrated her falsehoods, Butterfield admitted by the end of her testimony that it was in fact her daily practice to pre-stamp order tickets from multiple futures commission merchants throughout the trading session, in numbers amounting to dozens of order tickets every day.

David Meister, the CFTC’s Enforcement Director, stated: “When a witness walks into CFTC testimony he or she should plan to tell the truth to every question or face the consequences. We will use the new Dodd-Frank false statements provision against witnesses who provide false or misleading information to make sure it is well understood that lying is not an option.”

In addition to the $50,000 civil monetary penalty, the CFTC Order requires Butterfield to cease and desist from violating the relevant provision of the CEA, to never apply for or claim exemption from registration with the CFTC or engage in any activity requiring such registration or exemption, and to never act as a principal or officer of any entity registered or required to be registered with the CFTC.

The CFTC Division of Enforcement staff members responsible for this matter are Allison Passman, Theodore Z. Polley III, Joseph Patrick, Susan Gradman, Scott Williamson, Rosemary Hollinger, and Richard B. Wagner.

SEEKING GUIDANCE ON DODD-FRANK STRESS TEST GUIDANCE FOR MEDIUM-SIZED FIRMS

FROM:  FEDERAL DEPOSIT INSURANCE CORPORATION

Agencies Seek Comment on Dodd-Frank Act Stress Test Guidance for Medium-sized Firms

Three federal bank regulatory agencies are seeking comment on proposed guidance describing supervisory expectations for stress tests conducted by financial companies with total consolidated assets between $10 billion and $50 billion.

These medium-sized companies are required to conduct annual company-run stress tests beginning this fall under rules the agencies issued in October 2012 to implement a provision in the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act).

To help these companies conduct stress tests appropriately scaled to their size, complexity, risk profile, business mix, and market footprint, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency are proposing guidance to provide additional details tailored to these companies.

The stress test rules allow flexibility to accommodate different approaches by different companies in the $10 billion to $50 billion asset range. Consistent with this flexibility, the proposed guidance describes general supervisory expectations for Dodd-Frank Act stress tests, and, where appropriate, provides examples of practices that would be consistent with those expectations.

The public comment period on the proposed supervisory guidance will be open until September 25, 2013.

CFTC CASE OF SPOOFING IN COMMODITY FUTURES CONTRACTS ENDS WITH BANS, PENALTIES AND DISGORGEMENTS

FROM:  COMMODITY FUTURES TRADING COMMISSION 

CFTC Orders Panther Energy Trading LLC and its Principal Michael J. Coscia to Pay $2.8 Million and Bans Them from Trading for One Year, for Spoofing in Numerous Commodity Futures Contracts

First Case under Dodd-Frank’s Prohibition of the Disruptive Practice of Spoofing by Bidding or Offering with Intent to Cancel before Execution

Washington DC – The U.S. Commodity Futures Trading Commission (CFTC) issued an Order today filing and simultaneously settling charges against Panther Energy Trading LLC of Red Bank, New Jersey, and Michael J. Coscia of Rumson, New Jersey, for engaging in the disruptive practice of “spoofing” by utilizing a computer algorithm that was designed to illegally place and quickly cancel bids and offers in futures contracts. The Order finds that this unlawful activity took place across a broad spectrum of commodities from August 8, 2011 through October 18, 2011 on CME Group’s Globex trading platform. The CFTC Order requires Panther and Coscia to pay a $1.4 million civil monetary penalty, disgorge $1.4 million in trading profits, and bans Panther and Coscia from trading on any CFTC-registered entity for one year.

According to the Order, Coscia and Panther made money by employing a computer algorithm that was designed to unlawfully place and quickly cancel orders in exchange-traded futures contracts. For example, Coscia and Panther would place a relatively small order to sell futures that they did want to execute, which they quickly followed with several large buy orders at successively higher prices that they intended to cancel. By placing the large buy orders, Coscia and Panther sought to give the market the impression that there was significant buying interest, which suggested that prices would soon rise, raising the likelihood that other market participants would buy from the small order Coscia and Panther were then offering to sell. Although Coscia and Panther wanted to give the impression of buy-side interest, they entered the large buy orders with the intent that they be canceled before these orders were actually executed. Once the small sell order was filled according to the plan, the buy orders would be cancelled, and the sequence would quickly repeat but in reverse – a small buy order followed by several large sell orders. With this back and forth, Coscia and Panther profited on the executions of the small orders many times over the period in question.

David Meister, the CFTC’s Enforcement Director, said, “While forms of algorithmic trading are of course lawful, using a computer program that is written to spoof the market is illegal and will not be tolerated.  We will use the Dodd Frank anti-disruptive practices provision against schemes like this one to protect market participants and promote market integrity, particularly in the growing world of electronic trading platforms.”

The Order finds that Panther and Coscia engaged in this unlawful activity in 18 futures contracts traded on four exchanges owned by CME Group. The activity involved a broad spectrum of commodities including energies, metals, interest rates, agricultures, stock indices, and foreign currencies. The futures contracts included the widely-traded Light Sweet Crude Oil contract as well as Natural Gas, Corn, Soybean, Soybean Oil, Soybean Meal, and Wheat contracts.

In a related matter, the United Kingdom’s Financial Conduct Authority issued a Final Notice regarding its enforcement action against Coscia relating to his market abuse activities on the ICE Futures Europe exchange, and has imposed a penalty of approximately $900,000 against him. Furthermore, the CME Group, by virtue of disciplinary actions taken by four of its exchanges, has imposed a fine of $800,000 and ordered disgorgement of approximately $1.3 million against Coscia and Panther and has issued a six-month trading ban on its exchanges against Coscia.

The CFTC’s $1.4 million disgorgement will be offset by amounts paid by Panther and Coscia to satisfy any disgorgement order in CME Group’s disciplinary action related to the spoofing charged by the CFTC. As CME Group has represented to the Commission, disgorgement paid in the CME Group’s action will be used first to offset the cost of customer protection programs, and thereafter, if the disgorged funds collected exceed the cost of those programs, the excess will be contributed to the CME Trust to be used to provide assistance to customers threatened with loss of their money or securities. The CME Trust is prohibited from utilizing any of its funds for the purpose of satisfying any legal obligation of the CME.

The CFTC thanks the Financial Conduct Authority in the United Kingdom and the CME Group for their cooperation.

Concurring Statement of Commissioner Bart Chilton in the Matter of Panther Energy Trading LLC and Michael J. Coscia

July 22, 2013
While I concur with the settlement in this matter, and agree wholeheartedly with the civil monetary penalty, disgorgement, findings of violations, undertakings, and cease and desist order imposed by the settlement, I am dissatisfied with the imposition of a one-year trading ban as to the respondents. I believe that the type of disruptive trading practice described in the Commission’s complaint is an egregious violation of the Commodity Exchange Act, and warrants the imposition of a much more significant trading ban to protect markets and consumers, and to act as a sufficient deterrent to other would-be wrongdoers.

Additionally, these types of violations of the law are becoming more common with the advent of high frequency traders (HFTs)—traders I’ve termed “cheetahs” due to their incredible speed. The cheetahs are to be commended for their innovative strategies, at the same time, when they violate the law, regulators need to be firm and resolute in our desire to deter such activities. Regulators already have a tough time keeping up with the cheetahs. Without sufficient deterrents, such as meaningful trading bans, many trading cats will simply find other ways to get back to their market hunting grounds. In years past, for example, a trader who was banned for a year from trading might as well consider it a lifetime ban. People on the trading floor would know, customers would know. People wouldn’t want to do business with the trader. In today’s cheetah trading world where identities can be cloaked behind technology, a year trading ban might simply be a nice sabbatical for a cheetah trader to work on some new algo programs to unleash after the trading ban has expired.

At the end of the day, regulators will have to work overtime to be able to keep up with the cheetahs and their superfast trading.  But like the cheetahs are a breed all their own, so are regulators.  And, we are a persistent bunch.  That’s our advantage.  We may have to work out the curve to get all the technology tools we need.  But we will be tenacious and tireless in our efforts to tract down market predators that break the rules.  And, we need those that violate, or may be thinking of violating the law to understand that regulators will always be harsh hard-hitters when the rules are broken.

CFTC COMMISSIONER CHILTON'S KEYNOTE ADDRESS TO NATIONAL ENERGY MARKETERS ASSOCIATION

FROM: U.S. COMMODITY FUTURES TRADING COMMISSION
"The Energizers"

Keynote Address by Commissioner Bart Chilton to the National Energy Marketers Association, Washington, DC

April 30, 2013

Introduction

Thank you. Thanks for the introduction and I appreciate the invitation from Craig (Goodman) and appreciate your service to our country for so many years as part of several administrations.

It’s good to be with you today at your Annual Restructuring Conference. I am so down with your theme, by the way: "How to serve the public interest using competitive markets." It may be a shocker for you, but not everybody that comes to see me at CFTC has the public interest in mind—surprise, surprise, surprise! In other remarks, I’ve spoken about the need for a culture shift in many corporate boardrooms and suggested that profit and loss statements shouldn’t be the only thing they think about. To some, it might seem like heresy, but there is an essential place in corporate boardrooms and executive suites for considering the greater good, the consumer, and the public interest. That’s all on that topic because you all clearly get it. You go! Let me make a toast: Here’s to hoping more aspire to be like you and that you keep going and going and going. Cheers.

The Energizers

And on that going and going note, one thing I’ve long admired about folks like you is the way you use markets as they were originally intended—to mitigate risk and help with price discovery. You need to because like the Energizer Bunny, you have to keep going and going and going or your customers will suffer.

In other words, that’s part of what makes you so reliable—you! It’s hard to hedge risk on just about anything, but when you’re hedging based upon how hot a summer you think it will be or tweaking your positions based upon the afternoon wind speed, that’s truly tough. It is beyond challenging. Maybe you guys can all do it fairly seamlessly, but it sure looks impressive from the outside. And that’s for people who are looking. I don’t think most folks have anywhere near a visual about how difficult that is to do. You are very reliable because of your efforts and you simply keep going and going and going.

Reliable Regulators?

What about us in government, people like me and my organization? Are we as reliable as we should be? Think back to 2008 when an irresponsible Wall Street and unreliable regulators stood by and watched the whole economy collapse. Nine million people lost their jobs; many more their homes. Something had to be done and it was done in the form of Dodd-Frank. That law gives regulators the tools to be reliable at keeping Wall Street responsible. It’s not all implemented yet, but we are trying. We are going and going and going. Eventually, we will get it done.

So today, let’s talk about why that—getting Dodd-Frank done—is categorically important.

Massive Passives

Here’s one example: The "financialization" of commodity markets by traders I call Massive Passives. These guys, at times, are impacting markets and your ability to properly hedge your risk. Between 2005 and 2008 we saw roughly $200 billion come into the regulated futures markets in the U.S.—$200 billion! And that’s just what we know about. At that time, we didn’t have the access to see everything going on in unregulated over-the-counter markets. With Dodd-Frank, we do and we have greater transparency. But, what we’ve seen isn’t all that pretty.

So, where’d this $200 billion-with-"B" come from? Say a pension fund wanted to diversify into commodities. That’s generally OK, right? But the type of trading that they and exchange traded funds and mutual funds and other managed money do (not all the time, but generally) is different than what speculators used to do. Instead of getting in and out of markets, maybe based upon a drought or other natural disaster, or in the energy markets getting in or out related to the weather, the driving season, OPEC or a refinery breakdown, these very large funds put money in the markets and park it. They are relatively price insensitive. They don’t get in or out of the market because prices change a little here or there. They are in it for the longer haul. They invest more like folks invest in the stock markets.

Back in the day, perhaps a Dad said to his kids:

Sonny Boy, Girly Sue, let me explain investing to you

As a stock holder, when we get older

you’ll recall this chat about stock this and stock that

You’ll remember I said with a grin

that these shares of….Energizer Holdings or something akin,

will be worth something then

So, we’re gonna hold onto these bad boys

We are going to keep going and going and going with them

Someday, when then arrives, we’ll be rich. It will change our lives!

That’s how wealth derives

High fives!

So, the Massive Passives took a tried and true strategy for stocks and used it in futures. I’m certainly not suggesting that they should be kicked out of our markets—no, no, no. Nevertheless, this type of trading strategy is a concern.

Massive Passives are a concern because too much concentration in markets can influence prices. Now, many people would say that any liquidity is good liquidity. But, are we sure? There are times when there is so much Massive Passive liquidity on the buy side—those going long and staying long—that prices cannot be based on the fundamentals of supply and demand. I’ve seen in energy markets 12 longs for every short. But you folks don’t need to see that data to know all this. You’ve seen it firsthand. You’ve felt it, smelled it and tasted it. You know it: 2008 crude with a rude tude that tattooed many companies, end users and consumers alike.

Crude went from just under $100 a barrel all the way up to the mid-140s and then all the way back down to 30 bucks. Supply and demand fundamentals do all of that? Oh no they didn’t! You know they didn’t.

By the way, in 2008 when the crude price dropped late in the year, it was when the economy was going someplace in a hand basket. Even the Massive Passives weren’t so passive. And, if they exit a market en masse, they can contribute significantly to price declines. We have witnessed some reciprocal downturns even recently—cough cough—precious metals, for example.

It hasn’t gotten better since ’08. We’ve seen well over the amount of speculation we had in 2008 at various times since then. With such large concentrations of market participants, it continues to raise the concern about how prices can be contorted. That’s not good for the traditional market participants like you, nor for consumers or the economy.

In response to what was going on in 2008, Congress instructed us as part of Dodd-Frank to put in place speculative position limits, limiting the position any one trader could have in a particular commodity. OK, the limits aren’t in place yet. We got lobbied, pressured, sued and screwed. But, to paraphrase, the reports of our death have been greatly exaggerated. We are going and going and going to get limits in place…period. Congress wanted them; President Obama wants them; traditional market participants want them and I want them. We have appealed a court decision and at the same time we are working on yet another position limits rule that will address the issues raised by the court. If we do not meet and approve that rule in May or June, it would surprise, surprise, surprise the daylights out of me. Not to do so would be irresponsible. It’d be a shocker for me.

Cheetahs

The bottom line is that you guys, end-users, should be able to hedge without getting crushed by the Massive Passives. And, you shouldn’t have to worry about another potential threat to your hedging: high frequency traders—those traders I have termed "cheetahs" because they (like the cats) are so fast, fast, fast. And guess what? These high frequency trading cheetahs also keep going and going and going. Yepper, they are in markets 24-7-365 trying to scoop up micro dollars in milliseconds. End-users shouldn’t be easy prey that can be mauled by the cheetahs.

Research that we have done suggests the cheetahs make the most when they trade with smaller traders, but they still make plenty when they trade with fundamental traders. That’s some of you folks—end users. Are these cats the new middlemen? Many end users have told me so. And guess what? They aren’t even required to be registered. They aren’t required to test their programs before they get put into the live production environments (the markets), and they aren’t required to have kill switches in case their cheetah programs go feral.

So, we need to ensure that you guys, end-users aren’t stifled in your ability to hedge by the Massive Passives or the cheetahs.

The End-User Bill of Rights

Finally, I don’t have to tell you that one group that got hurt in the economic meltdown was end-users. That’s part of the reason that as we look at implementing Dodd-Frank and look to see what should be done with the cheetahs, we go forward in a thoughtful manner for end-users. So that’s why a month ago, I proposed an "End-User Bill of Rights," and I want to spend my final few minutes on that today.

Here is the beastly bottom line: The futures and swaps markets wouldn't exist without end-users. The primary public benefit of derivative markets is that they provide end-users risk management opportunities that, in turn, allow them to more easily fund operations and investments and thereby generate economic growth. The ability of end-users to fund their operations is directly related to the prices paid by consumers and the overall well-being of our economy, and as you guys say—the public interest. It is that greater good we spoke about earlier. So, protecting the end-users is akin to protecting the every-day consumer. The End-User Bill of Rights therefore focuses on what should be the inalienable rights of end-users. I won’t walk through all ten, but let me hit a few highlights. Then, we also have a handout here of all ten of them and more detail if you’d like.

1. Right to reasonable Dodd-Frank implementation. Dodd-Frank needs to be implemented and needs to be implemented quickly, but that does not mean it should be done chaotically. We need to be sensible and need to provide answers to all questions before we get all regulator on folks with talk of any action.

In that same vein

2. Right to legal certainty. The Commission needs to provide the market as much legal certainty as possible as we move through a challenging implementation period. End-users and other market participants should have little doubt as to the status of their activities and the Commission and staff should respond thoughtfully and diligently to requests for legal certainty.

And the last one I’ll mention is…

3. Right to be heard. Many end-users are not used to having their swaps activity subject to CFTC regulation. During and after Dodd-Frank implementation, we need a venue for end-users to air those concerns. Some of you folks have never ever been regulated by the CFTC. We need to understand what you do better and you need to become better acquainted with us. So, let’s do lunch (kidding). Here’s a better idea. Let’s establish at the CFTC an End-User Advisory Committee (EUAC). The EUAC could be a good mix of folks from the end-user community that meets with the Commission on a regularized basis. We have these advisory committees for other areas, and I think it is time for one that focusses on end-users, particularly.

I could keep going and going, but I need to wrap this thing.

Conclusion: Keep Going and Going and Going

So those are just some examples of what we as a Commission are doing to try to bring reliability to these important markets we regulate, and, to ensure that they are fair, and that they are competitive. We’re going and going and going. And we want to keep listening and listening and listening to folks like you who know something about reliability, public interest and competitive markets. You are the ones who can help us get the regulations right.

My message is: We need to be able to adjust to the changing market world we live in. That means working with you folks, getting a handle on the Massive Passives and the cheetahs, and getting all the Dodd-Frank rules in place in an appropriate manner.

Thank you.

GRIM'S REMARKS TO INVESTMENT MANAGEMENT INSTIITUE 2013

FROM: U.S. SECURITIES AND EXCHANGE COMMISSION
Remarks to the Investment Management Institute 2013

by
Norm Champ, Director, Division of Investment Management
as delivered by
David W. Grim, Deputy Director, Division of Investment Management
U.S. Securities and Exchange CommissionNew York, NY
March 7, 2013
Introduction
Good morning. I am pleased to be here today on behalf of Norm Champ, Director of the Division of Investment Management. Norm very much wanted to be with you today, and I am very pleased to have the opportunity to step in for him and deliver these remarks on his behalf.

Before I begin, let me remind you that the views I express are my own and do not necessarily reflect the views of the Commission, any of the Commissioners, or any of my colleagues on the staff of the Commission.

As I said, it is a privilege to deliver Norm Champ’s keynote address at this year’s Investment Management Institute. It is a privilege because I have the opportunity to open up the conference on behalf of a number of seasoned and expert legal practitioners who are speaking to you today. They are very knowledgeable and highly regarded in their fields.

It is a privilege because I have the opportunity to hear from and interact with two prior Directors of the Division of Investment Management, each of whom used his time and energy in that job to shape the regulatory landscape for the benefit of investors.

But most of all, it is a privilege to be here today because we have an audience comprised of professionals who want to learn more about the law; improve your own legal skills; and take back practical, real-world lessons and implement them at your own firms and offices.

Programs of this type are always enriching and beneficial to those who are willing to take the time to improve their own legal skills and add to their base of knowledge. Both Norm and I genuinely commend you for it.

* * *

Norm Champ has been on the job as Director of the Division of Investment Management for eight months. And I have been serving as Deputy Director for nearly two months.

For those of you who are not familiar with the role of the Division of Investment Management at the SEC, our mission is to work for American investors by:
protecting investors
promoting informed investment decisions and
facilitating appropriate innovation in investment products and services
through regulating the asset management industry.

The issues we work on are interesting, but more importantly, they have great consequence for America’s investors. I would hazard that nearly everyone in this room has invested in a mutual fund, an ETF or another investment product regulated under statutes administered by the Division of Investment Management.

The rules we help construct; the disclosure we review; and the new products we analyze have an impact on you and on millions of American investors like you. We have a lot of responsibility on our plate. And we take it very seriously.

Regulatory Initiative Process

What most SEC-watchers are always interested in hearing about is rulemaking activity, so, on behalf of Norm, I plan to focus on that. But that is in no way intended to diminish the important disclosure review; exemptive applications analysis; data review; and development of legal guidance that the Division of Investment Management performs.

Like the rest of the SEC, our Division is focused on implementation of our statutorily mandated rulemaking under the Dodd-Frank Act and the JOBS Act. In most cases, however, the bulk of statutorily required rulemaking that affects entities regulated within the Division of Investment Management’s jurisdiction is either complete, such as the required registration of advisers to private funds, or is being led by other parts of the agency and we are serving as consultants to assure that the asset management industry is covered consistently, such as in the general solicitation rules. In other areas, such as the Commission’s review of the standards of conduct and regulatory requirements that apply to broker-dealers and investment advisers, we are partnering with other parts of the SEC and are not the sole lead.

Where the Division of Investment Management has, under Norm Champ’s leadership, spent a lot of time focusing our energy and trying to become smarter, more strategic and more targeted, is on so-called "discretionary" or non-mandated rulemaking initiatives.

The Division of Investment Management, in close consultation with the Chairman and the Commissioners, went through a very thoughtful and deliberate approach to analyze potential regulatory initiatives.

In this era of limited budgets, one of my goals since taking the helm of the Division has been to ensure that we are allocating our resources wisely. Toward this end, Norm Champ asked the staff to take a fresh look at policy initiatives with a view to analyzing those matters based on four factors. These factors also will be used to analyze potential policy initiatives going forward.

The first factor is identification of the risk to be mitigated or the problem to be solved. This is key to the discussion of any policy initiative.

The second factor is the urgency associated with a particular initiative. Urgency may arise from risks to investors, registrants, efficient markets, or capital formation.

The third factor is the potential impact of an initiative on investors, registrants, capital formation, efficient markets, and the Division’s and SEC’s operational efficiency.

The fourth and final factor is the resources associated with a policy initiative. As with all our activities and projects, senior staff in the Division need to assess how best to allocate scarce resources.

We’re looking at factors that we believe would further the SEC’s mission as well as the impact that various regulatory initiatives would have on investors, capital formation, and efficient markets. The analysis has helped to inform the Chairman, collaborating with the Commissioners, in her determination of which regulatory priorities the Commission will pursue.

At this point you are probably asking yourselves what specific future regulatory priorities came out of this process. There are three short term and five longer term core priorities.

Short-Term Regulatory Priorities

Potential Money Market Mutual Fund Reform

The first short-term regulatory priority is money market funds, which may be the most high-profile issue on the Division’s plate these days.

Late in 2012, the SEC’s economists published a significant study on money market funds that responded to questions posed by three SEC Commissioners. The results of that study have served as a catalyst for renewed and energized focus by the SEC staff and Commissioners on additional structural reform of money market funds.

At the direction of the Chairman, the staff is engaged with the Commissioners and hard at work on developing a money market fund reform recommendation.

Identity Theft Red Flags Rules

The second of the Division’s short-term rulemaking priorities involves rules to detect and prevent theft of the identities of mutual fund investors and clients of asset managers. The growth and advancement of information technology and electronic communication have made it increasingly easy to collect, maintain and transfer personal information about individuals. Advancements in technology, however, also have led to increasing threats to the integrity and privacy of personal information.

In February 2012, the SEC proposed rules and guidelines jointly with the CFTC to require many of the entities we regulate to establish identity theft detection and prevention programs. These proposed rules were designed to help protect individuals, and help individuals protect themselves, from the risks of theft, loss, and abuse of their personal information.

The rules would give effect to the transfer of authority, under the Dodd-Frank Act, from the Federal Trade Commission to the SEC and CFTC for responsibility for overseeing the identity theft and protection programs of the entities we regulate. The comments on the proposed rules were generally supportive, and the Division is working on final identity theft red flags rules to recommend to the Commission.

Valuation Guidance

Striking an appropriate and accurate net asset value each trading day is one of the most important, and often one of the most challenging, functions that mutual funds and other investment companies perform. It is one thing to identify prices for a large cap equity fund that is investing in frequently-traded, highly-liquid securities. It is quite another for a fund that is heavily invested in thinly-traded bonds, derivative instruments and other securities that have no readily-available market price to draw from.

The Division is working to provide the fund industry, fund directors, and the public with guidance under the Investment Company Act regarding funds’ and fund directors’ valuation responsibilities. In addition to wanting to assure accuracy of mutual fund transaction prices, valuations also affect performance claims. Furthermore, fund advisers’ fees are usually calculated and paid based on asset valuations. There is a natural incentive for advisers to want those valuations to be as high as possible.

Inaccurate valuations will lead to inaccurate performance claims; inaccurate fee payments; inaccurate transaction prices and ultimately mis-pricing can muddy the integrity of the fund industry. When it comes to valuation, the Division of Investment Management believes that we need to level set requirements and make sure funds and their directors are aware of prudent practices that will lead to fair and accurate valuations.

In developing valuation guidance, the staff recognizes the benefit of input from the public and those who work hard every day to strike an accurate NAV. We therefore are exploring ways to assure that the staff and the Commission get meaningful public input on any valuation guidance.

Longer-Term Regulatory Initiatives

Each of the three short-term regulatory priorities I mentioned is actively being worked on by staff in the Division of Investment Management. In addition, there are five longer-term rulemaking projects that we are scoping the terms of and allocating resources toward. These projects are in a less advanced stage, but we want to share them so that investors, funds and advisers, taxpayers and others are aware of where we are focused and devoting resources.

Variable Annuity Summary Prospectus

A few years ago, the Commission adopted a streamlined "summary prospectus" for mutual fund investors. That document contains key information about fund investment objectives and strategies, risks, and fees and provides the ability to "click through" or request more detail for those who want it. This initiative was a revolution in communicating to investors the core information they most want while simultaneously making more detailed information readily accessible to investors, intermediaries, the financial press, and others who are interested.

The Division is beginning work on a rule that would create a similar summary prospectus for variable annuities, a type of hybrid insurance and investment product. The insurance benefits offered by these products, and the limitations on those benefits, are often complex; their costs can be difficult to understand; and they frequently offer a wide array of investment options. These and other factors often result in disclosure that is long and difficult to understand. Our goal is to facilitate the communication of concise, user-friendly information to investors considering variable annuities and enhance the transparency of the benefits, risks, and costs of these products.

ETF Rule

In 2008, the Commission proposed a rule that would basically codify exemptive relief that we routinely grant for exchange-traded funds. This rule would allow ETFs to operate without obtaining individual exemptive relief -- a process that, while important for novel products, can be costly and time-consuming.

If ETFs of new sponsors could come to market without having to obtain their own exemptive relief, the Division could reallocate staff resources from the review of "plain vanilla" applications to more novel applications. The Division has renewed its efforts to pursue implementation of this type of ETF rule.

Enhancements to Fund Disclosures about Operations and Portfolio Holdings

As part of the money market fund reforms adopted by the SEC in 2010, the SEC required new monthly reporting on portfolio holdings by those funds to both investors and the SEC. This new data has been invaluable. Some have called it a game-changer. We are able to use it to monitor trends, identify outliers and better inform our rule-writing efforts.

Many believe we need similar structured data reporting for other mutual funds and investment companies. The patchwork of outdated data collection and disclosure forms is not working, and the staff is examining how to enhance and streamline our data collection efforts.

The purpose of this initiative is to improve the quality and usefulness of information that funds provide to investors and to the SEC, and to eliminate duplicative filings or disclosures. It could make the SEC a better regulator and it could make investors better informed.

Review of the Rules that Apply to Private Fund Advisers

In 2012, approximately 1,500 advisers to hedge funds and other private funds registered with the Commission as investment advisers as a result of the Dodd-Frank Act. Private fund advisers now account for nearly 40% of our registered investment advisers.

Given the increase in the number and variety of registered private fund advisers, the Division is reviewing Advisers Act rules for aspects that should be updated to address investor protection concerns and the business models of private fund advisers.

Derivatives Concept Release

And finally, the Division also continues to consider the numerous issues raised in the Commission’s 2011 concept release on funds’ use of derivatives. When the Investment Company Act was enacted in 1940, it did not contemplate funds investing in derivatives as many do today. Indeed, the use and complexity of derivatives have grown significantly over the past two decades.

Over the years, the SEC and the Division have addressed a number of issues raised by the use of derivatives on a case-by-case basis. The purpose of the derivatives concept release was to elicit public input on a variety of regulatory issues raised by funds’ use of derivatives, including valuation, diversification and leverage limitations.

The staff is now analyzing the feedback on the concept release to assess whether, and if so how, the mutual fund and investment company regulatory regimes should be revised to adequately account for the role of derivatives and incorporate more targeted requirements.

Conclusion

Having just gone through our priorities list, it feels a little daunting. But it is important work and these are issues that must be tackled.

In addition, neither Norm Champ nor I would not want to leave you with the misimpression that rulemaking is all we do. The reality is far from it. We have numerous staff devoted to reviewing disclosure; answering investor and industry questions; helping to shape enforcement cases and examination priorities; analyzing requests for exemptive relief and no-action guidance. It is this entire body of work that makes the SEC an effective regulator.

And as Director of the Division of Investment Management, Norm Champ has been committed to continuous improvement in all phases of the Division’s work – not just the rulemaking phase. Norm and I are hopeful, however, that the remarks today showed the benefit of a coordinated and thorough analysis of potential policy initiatives. And we further hope that our approach leads to effective results and achievable goals.

We look forward to the challenging work we have ahead of us. And we look forward to a continued dialogue with our stakeholders: investors; taxpayers; industry leaders and, of course, legal practitioners such as yourselves.

Thank you.

THE 3000: WHISTLEBLOWER TIPS TO THE U.S. SEC

FROM: U.S. SECURITIES AND EXCHANGE COMMISSION 

Washington, D.C., Nov. 15, 2012 — Over the past year, the Securities and Exchange Commission received more than 3,000 whistleblower tips from all 50 states and from 49 countries, according to the agency's 2012 Annual Report on the Dodd-Frank Whistleblower Program released today.

The report, which is required by the Dodd Frank Wall Street Reform and Consumer Protection Act, summarizes the activities of the SEC's Office of the Whistleblower.

"In just its first year, the whistleblower program already has proven to be a valuable tool in helping us ferret out financial fraud," said SEC Chairman Mary L. Schapiro. "When insiders provide us with high-quality road maps of fraudulent wrongdoing, it reduces the length of time we spend investigating and saves the agency substantial resources."

Among other things, the report notes:

The SEC made its first award under the new program to a whistleblower who helped the SEC stop an ongoing multi-million dollar fraud. The whistleblower received an award of 30 percent of the amount collected in the SEC's enforcement action, which is the maximum percentage payout allowed by law.
The SEC received 3,001 tips, complaints, and referrals from whistleblowers from individuals in all 50 states, the District of Columbia, and the U.S. territory of Puerto Rico as well as 49 countries outside of the United States.
The most common complaints related to corporate disclosures and financials (18.2 percent), offering fraud (15.5 percent), and manipulation (15.2 percent).
There were 143 enforcement judgments and orders issued during fiscal year 2012 that potentially qualify as eligible for a whistleblower award. The Office of the Whistleblower provided the public with notice of these actions because they involved sanctions exceeding the statutory threshold of more than $1 million.
Under the Dodd-Frank Act, the SEC can pay financial awards to whistleblowers who provide high-quality, original information about a possible securities law violation that leads to a successful SEC enforcement action with more than $1 million in monetary sanctions. The SEC is authorized to pay the whistleblower 10 to 30 percent of the sanctions collected. Awards are paid from the Investor Protection Fund established by Congress to fund payments.

Information on eligibility requirements, directions on how to submit a tip or complaint, instructions on how to apply for an award, and answers to frequently asked questions are available at: www.sec.gov/whistleblower.

CFTC COMMISSIONER O'MALIA SPEAKS ON 'GOOD GOVERNMENT' REGULATION

FROM: COMMODITY FUTURES TRADING COMMISSION
Commissioner Scott D. O’Malia Before Mercatus Center, George Mason University
November 13, 2012
Jim, thanks for that kind introduction.

I am happy to be here and pleased to see the Mercatus Center, as it often does, putting the spotlight today on an issue that is near and dear to my heart: how government regulation affects the real world. That’s right: government regulation has real-world consequences. What a revolutionary concept. You may take this concept for granted, but too often government regulators fail to understand, or take into account, the effect that regulations will have on markets and market participants. And this problem has been especially true in the past two plus years, as government agencies have rushed to promulgate rules under the Dodd-Frank Act. As you know, we at the CFTC have been in the trenches of Dodd-Frank implementation. I would like to take this opportunity now to provide you with some of my thoughts on this implementation process.

Don’t worry – I won’t take you through an exhaustive review of the Commission’s work because at 39 final Dodd-Frank rules and counting we would be here until tomorrow. Instead, what I would like to do is talk to you about good government. You see, I am the government employee who believes that government doesn’t have all the answers and that it must do a better job of developing "good government" solutions.

What Is Good Government?

You may ask: what do I mean by good government? In a nutshell, good government regulation strikes the right balance in order to develop beneficial rules of the road and to implement them according to a measured and reasonable timeline. This approach requires fact-based analysis in order to come up with cost-effective solutions based on a range of policy options.

So, what does it mean specifically in the context of the Commission’s rulemaking process? For rules that have not yet been proposed, good government means faithful adherence to the statutory authority and a strong understanding of the markets that will be affected by the envisioned regulation. For rules that have not yet been finalized, it means understanding and addressing the concerns of market participants and adopting final rules that are clear, consistent and create a level playing field. For rules that have already been finalized, it means providing transparent implementation guidance that is consistent with the final rules. In addition, good government means being aware of the consequences of Commission regulations on market activity and maintaining the flexibility to reassess and revise such regulations where appropriate.

If we apply this framework of good government regulation to what the Commission has done in the past two plus years, we can see many places where we have fallen short of the standard. One example is the position limits rule, which a federal court recently struck down.<sup>1 The Commission will file an appeal, which I don’t support because I agree with the judge’s ruling that the Commission failed to justify its establishment of limits as required by the statute. I would like to point out that the Commission has now been sued three times within the past year on its rulemakings.2

Today I want to focus on three areas in particular of the Commission’s implementation of Dodd-Frank. These are: the October 12 effective date for swap regulations and the resulting ‘futurization’ of the swaps world, the Commission’s final rules for swap execution facilities (SEFs), and the Commission’s guidance on cross-border issues.

The Nightmare of Friday the 12th

I would like to start with the significant date on the Dodd-Frank implementation calendar that we passed last month. On October 12, the joint CFTC-SEC definition of the term swap became effective. This triggered compliance dates for a number of other Commission swaps regulations.

As it turned out, Friday, October 12 was a day of great drama, but certainly not in a good way and certainly not by design. Friday the 13th may have been more appropriate, given the nightmare scenario the Commission was trying to avoid at the absolute last minute. In truth, the nightmare was the fact that we had reached such a point in the first place.

By that evening, the Commission had rushed out 18 no-action letters and guidance documents in a last-minute attempt to mitigate the chaotic impact of all the rules that were to take effect the following Monday. Think about that for a second: 18 relief documents issued on the day before the compliance deadline. We don’t need a study by the Mercatus Center to tell us that this last-minute flurry fell embarrassingly short of the goal of regulatory certainty and the principles of good government regulation.

Good government should take a measured, well-thought out approach to developing a new regulatory regime. To that end, I have repeatedly asked the Commission to publish a clear and specific rulemaking timeline and implementation schedule. Frustratingly, my calls have gone unheeded. A clear and well-reasoned implementation schedule would have allowed the Commission to avoid the hurried, ad-hoc process of temporary relief and interpretations that we witnessed and would have done much to put the Commission’s rulemaking process in the good government category.

Even now, we are not out of the woods yet. The temporary relief provided expires on December 31, and we can’t risk keeping the markets in the dark until the eleventh hour again. The Commission needs to take action by mid-December in order to provide adequate clarity to the markets through the new year. Think of this as the Dodd-Frank Regulatory Cliff.

Let me go back for a minute to October 12. The big storyline is the migration of cleared energy products to the futures markets. In response to regulatory uncertainty in the swaps market, energy customers of both CME and ICE demanded that the markets move to listed futures, instead of swaps. There are good reasons to stay away from the swaps market, including the expansive and ill-defined swap dealer definition and the regulatory consequences of becoming designated as well as uncertainty as to what will be permitted to trade on SEFs. In addition, the capital efficiency of margining all trades in one account is also a powerful financial incentive.

On October 15, the day the new swap rules took effect, the entire market had shifted from a swaps market to the futures market. Liquidity simply dried up in the OTC space. To me, this is evidence of the Commission’s struggle to get swap regulations right.

This futurization of the cleared energy swap market may result in reduced flexibility for some firms because futures contracts, unlike swaps, can’t be individually tailored to meet specific risk needs. However, futures markets offer greater regulatory certainty and provide high liquidity to allow for the efficient hedging of commercial risk.

It was surely not the Commission’s intention to draft rules that would send market participants fleeing from the swaps market. But good government requires more than good intent; it requires good execution of that intent as well. Instead, the Commission has created such a regulatory nightmare that the energy markets have sought cover in the relative safe haven of the futures markets.

And we may very well be at just the start of the futurization of our markets. Again, it’s hard to believe that this brave new world of futurization is what the Commission envisioned would be the end result of its new swaps regulatory regime.

Learning Lessons and Moving Forward

But I bring up these examples not simply to say that the Commission should have done better. Rather, I raise them because learning from mistakes is the crucial first step toward getting us back on the road of good government regulation. And luckily for us, there are several significant rules on the horizon that will give us that opportunity. For example, the Commission has yet to consider final rules on capital and margin requirements. The Volcker rule, which will clarify and distinguish market-making trades from proprietary trading, is also in this category.

These rules will put a final price tag on over-the-counter trades and will have broad and significant consequences for the swaps markets, so it is very important that we get them right. If we make sure to identify concerns raised by market participants and properly address them in the final rules, and then implement the rules in a measured and consistent manner, I am confident that we can get them right.

In any case, those rules are still a bit further down the road. Of more immediate interest are two areas that the Commission will likely consider before the end of the year. These are trade execution, including SEF final rules, and the cross-border guidance.

Swap Execution Facilities

Let me address the SEF rules. This is an area that I am excited about. There are new trading models that offer exciting innovations and ideas that will make the swaps market more transparent and well as more competitive.

As you know, the concept of SEFs was heavily negotiated in Congress as well as at the Commission. SEFs represent a monumental shift away from the current bilateral swap trading model to a centrally regulated trading model. Centralized swap execution should offer market participants greater price transparency, increased access to larger pools of liquidity, and improved operational efficiency. Congress envisioned that SEFs would promote price discovery and competitive trade execution in all asset classes.

The Commission published the proposed SEF rules last January. While the proposal was a good start, a broad array of market participants – from buy-side asset managers, pension funds, commercial end users, farm credit banks and rural power cooperatives to sell-side dealers and even prospective SEFs – expressed concern that if the final rules are adopted as proposed, less liquid swaps will not be able to be executed on the SEF platforms because the proposed SEF rules would limit their choice of execution.

While I am supportive of the overarching objective of promoting pre-trade price transparency, I believe that the SEF final rules should allow for flexible methods of execution including request for quote systems (RFQs). These features will protect the confidential trading strategies of asset managers, pension funds, insurance companies, and farm credit banks and will provide commercial end users access to the swap market to fund their long-term capital and infrastructure projects.

Finally, I hope that the final SEF rules will provide a clear interpretation of the "by any means of interstate commerce" clause contained in the SEF definition. Dodd-Frank defines a SEF as a platform on which multiple participants have the ability to trade swaps by accepting bids and offers made by multiple participants, through any means of interstate commerce.
3 Instead of providing further meaning to the "any means of interstate commerce" clause, the proposal focused on two methods of execution on a SEF: an electronic platform and an RFQ.

Currently, the Commission is considering the suite of related execution rules that determine the viability of SEFs and the overall OTC market going forward. These include mandatory clearing, Core Principle 9, and the block and made available for trading rules in addition to the SEF rules. These rules must work together and reflect the new realities of the evolving market in reaction to the Commission’s already finalized rules.

I remain optimistic that we can develop rules that will encourage a competitive and innovative market in swap trading as envisioned by Congress and something the market has been developing over the past decade. It would be a shame if government rules stood in the way of this opportunity.

Regulatory Overreach: The Commission’s Cross-Border Guidance

Moving now to the third topic I want to discuss: the Commission’s Cross-Border Guidance.

Last week the Commission held a public meeting with regulators representing most of the largest markets across the globe, and their criticism of the Commission’s overreaching cross-border Guidance was consistent and firm. I certainly don’t want to see this draft proposal result in a regulatory tit-for-tat that would create an environment where U.S. financial institutions and market participants are put at a competitive disadvantage based on competing regulatory regimes. I am committed to resolving this regulatory matter to the satisfaction of all regulators and minimizing regulatory overlap and confusion so that market participants have a clear understanding of the new global regulatory paradigm. As such, it means we must redraft our cross-border Guidance.

Let me give you some background. The Commission published its proposed Guidance as well as a related exemptive order in July of this year. The objectives of the Guidance were to (1) clearly define the scope of the extra-territorial reach of Title VII of Dodd-Frank and (2) reinforce the Commission’s commitment to the goals of the G-20 summit by providing a harmonized approach to derivatives regulation.
4

These are sound objectives. However, the proposed Guidance missed the mark in several respects. Start with the fact that it was issued as guidance and not as a formal rulemaking, which would have required the Commission to conduct a cost-benefit analysis. As proposed, market participants will be deprived of an opportunity to review and comment on a cost-benefit assessment despite the significant costs that the Guidance will impose on them.

More fundamentally, the proposed Guidance exceeded the scope of the Commission’s statutory mandate. The statute provides that Dodd-Frank swaps regulations shall not apply to activities outside of the United States unless those activities have a direct and significant connection with activities in the United States.
5 This provision was drafted by Congress as a limitation on our authority, yet the proposed Guidance has interpreted it as the opposite.

As a result, the proposal empowers the Commission to find virtually any swap to have a direct and significant impact on our economy and imposes U.S. rules and obligations, including requirements on transactions, on non-U.S. entities. This has set off alarm bells in foreign capitals across the globe, and the Commission received an unprecedented number of letters from foreign regulators.
6 Just a few weeks ago, a strongly worded joint letter from the top finance officials of the UK, France, EU and Japan again urged the Commission to reconsider its approach and engage much more actively with them to coordinate regulatory efforts across borders. And as I mentioned earlier, these views were strongly echoed by representatives of several foreign regulators at a meeting last week of the Commission’s Global Markets Advisory Committee.

The Commission’s statutory overreach is reflected throughout the proposed Guidance. A prime example is the definition of U.S. person, which as drafted in the proposed Guidance sweeps numerous entities that are outside the U.S. into the Commission’s jurisdiction. The proposal requires non-U.S. counterparties to treat overseas branches of U.S. banks, unlike affiliates of U.S. banks, as U.S. persons. If these foreign companies do enough business with foreign-based U.S. banks, they will be subject to U.S. regulation.

The Commission has heard concerns from a number of U.S. banks that foreign competitors are trying to tempt clients away by pointing to the potential increased costs of doing business with U.S. banks as a result of the Commission’s proposed Guidance. Even more disturbing, the Commission has received more recent indications that many foreign firms are no longer doing business with U.S. banks. I’ve said it before and I’ll say it again: I cannot support a Commission proposal that puts U.S. firms at a competitive disadvantage to foreign banks, especially those that operate in the United States.

As I mentioned earlier, good government regulations address the concerns of market participants in drafting a final Commission document. In this case, both the market and foreign regulators have spoken loudly.

So here is what the Commission should do. First, the entire Guidance should be scrapped and the document should be re-drafted as a formal rulemaking that provides an opportunity for public comment and includes a cost-benefit assessment.

Second, the proposal should provide a clear, consistent interpretation of the "direct and significant" connection with a sufficient rationale for the extent of the Commission’s extraterritorial reach. Identifying more accurately those activities that could pose a risk to the U.S. will allow the Commission to assess how such risk could be mitigated through clearing and to determine whether other transaction rules must be applied.

Third, the definition of U.S. person should be narrowed to include only those entities that are residents of the U.S., are organized or have a principle place of business in the U.S., or have majority U.S. ownership. It should exclude a foreign affiliate or subsidiary of a U.S. end user that is guaranteed by that end user. This more reasonable definition is similar to the definition articulated by Commission staff in one of the flurry of no-action letters issued on October 12.

Finally, the rule must clearly interpret the concept of "substituted compliance." The proposal indicates that the Commission will review the comparability of non-U.S. regulations with Commission rules. This review should be a broad, big-picture assessment of comparability, not a rule-by-rule analysis. A rule-by-rule comparison could result in a hodgepodge of disparate regulatory requirements that would be a compliance nightmare for market participants. It would also undermine the coordinated regulatory effort that G-20 members have agreed to support.

The bottom line is that today’s swaps markets are global in nature and interconnected. Given this reality, the Commission needs to engage much more actively and meaningfully with foreign regulators and develop a more harmonized approach in order to eliminate redundancy and inconsistency among the respective regulatory regimes.

Conclusion

To conclude, I want to emphasize how important it is for the Commission to be mindful of the real and significant impact that its regulations have on market activity. Anyone who doubted this reality needs look no further than October 12, the new world of futurization that we are seeing in our industry and the mounting lawsuits that the Commission is facing.

Therefore, it is crucial that we apply the principles of good government so that our regulations are clear, consistent and not overly burdensome to market participants. As I’ve noted, we have at times failed to live up to these standards. But if we are willing to learn from these lessons, we can do better with the rules we have before us and on the horizon.

Thank you very much for your time.</sup>