ASSET-BACKED SECURITIES REFORM RULES ADOPTED BY SEC

FROM:  U.S. SECURITIES AND EXCHANGE COMMISSION 

SEC Adopts Asset-Backed Securities Reform Rules

08/27/2014 02:30 PM EDT

The Securities and Exchange Commission today adopted revisions to rules governing the disclosure, reporting, and offering process for asset-backed securities (ABS) to enhance transparency, better protect investors, and facilitate capital formation in the securitization market.

The new rules, among other things, require loan-level disclosure for certain assets, such as residential and commercial mortgages and automobile loans.  The rules also provide more time for investors to review and consider a securitization offering, revise the eligibility criteria for using an expedited offering process known as “shelf offerings,” and make important revisions to reporting requirements.

“These are strong reforms to protect America’s investors by enhancing the disclosure requirements for asset-backed securities and by making it easier for investors to review and access the information they need to make informed investment decisions,” said SEC Chair Mary Jo White.  “Unlike during the financial crisis, investors will now be able to independently conduct due diligence to better assess the credit risk of asset-backed securities.”

ABS are created by buying and bundling loans, such as residential and commercial mortgage loans, and auto loans and leases, and creating securities backed by those assets for sale to investors.  A bundle of loans is often divided into separate securities with varying levels of risk and returns.  Payments made by the borrowers on the underlying loans are passed on to investors in the ABS.

ABS holders suffered significant loss

es during the 2008 financial crisis.  The crisis revealed that many investors in the securitization market were not fully aware of the risks underlying the securitized assets and over-relied on ratings assigned by credit rating agencies, which in many cases did not appropriately evaluate the credit risk of the securities.  The crisis also exposed a lack of transparency and oversight by the principal officers in the securitization transactions.  The revised rules are designed to address these problems and to enhance investor protection.

The revised rules become effective 60 days after publication in the Federal Register.  Issuers must comply with new rules, forms, and disclosures other than the asset-level disclosure requirements no later than one year after the rules are published in the Federal Register.  Offerings of ABS backed by residential and commercial mortgages, auto loans, auto leases, and debt securities (including resecuritizations) must comply with the asset-level disclosure requirements no later than two years after the rules are published in the Federal Register.

*   *   *

FACT SHEET

Asset-backed securities are created by buying and bundling loans – such as residential mortgage loans, commercial mortgage loans or auto loans and leases – and creating securities backed by those assets that are then sold to investors.

Often a bundle of loans is divided into separate securities with different levels of risk and returns.  Payments on the loans are distributed to the holders of the lower-risk, lower-interest securities first, and then to the holders of the higher-risk securities.  Most public offerings of ABS are conducted through expedited SEC procedures known as “shelf offerings.”

During the financial crisis, ABS holders suffered significant losses and areas of the securitization market–particularly the non-governmental mortgage-backed securities market–have been relatively dormant ever since.  The crisis revealed that many investors were not fully aware of the risk in the underlying mortgages within the pools of securitized assets and unduly relied on credit ratings assigned by rating agencies, and in many cases rating agencies failed to accurately evaluate and rate the securitization structures.  Additionally, the crisis brought to light a lack of transparency in the securitized pools, a lack of oversight by senior management of the issuers, insufficient enforcement mechanisms related to representations and warranties made in the underlying contracts, and inadequate time for investors to make informed investment decisions.

SEC Proposals

In April 2010, the SEC proposed rules to revise the offering process, disclosure and reporting requirements for ABS.  Subsequent to that proposal, the Dodd-Frank Act was signed into law and addressed some of the same ABS concerns.  In light of the Dodd-Frank Act and comments received from the public in response to the 2010 proposal, the SEC re-proposed some of the April 2010 proposals in July 2011.  In February 2014, the Commission re-opened the comment period on the proposals to permit interested persons to comment on an approach for the dissemination of loan-level data.  The proposals sought to address the concerns highlighted by the financial crisis by, among other things, requiring additional disclosure, including the filing of tagged computer-readable, standardized loan-level information; revising the ABS shelf-eligibility criteria by replacing the investment grade ratings requirement with alternative criteria; and making other revisions to the offering and reporting requirements for ABS. 

The Final Rules:

Requiring Certain Asset Classes to Provide Asset-Level Information in a Standardized, Tagged Data Format

To provide increased transparency about the underlying assets of a securitization and to implement Section 942(b) of the Dodd-Frank Act, the final rules require issuers to provide standardized asset-level information for ABS backed by residential mortgages, commercial mortgages, auto loans, auto leases, and debt securities (including resecuritizations).  The rules require that the asset-level information be provided in a standardized, tagged data format called eXtensible Mark-up Language (XML), which allows investors to more easily analyze the data.  The rules also standardize the disclosure of the information by defining each data point and delineating the scope of the information required.  Although specific data requirements vary by asset class, the new asset-level disclosures generally will include information about:

• Credit quality of obligors.
• Collateral related to each asset.
• Cash flows related to a particular asset, such as the terms, expected payment amounts, and whether and how payment terms change over time.

Asset-level information will be required in the offering prospectus and in ongoing reports.  Providing investors with access to standardized, comprehensive asset-level information that offers a more complete picture of the composition and characteristics of the pool assets and their performance allows investors to better understand, analyze and track the performance of ABS.  The Commission continues to consider the best approach for requiring information about underlying assets for the remaining asset classes covered by the 2010 proposal.

Providing Investors With More Time to Consider Transaction-Specific Information

The final rules require ABS issuers using a shelf registration statement to file a preliminary prospectus containing transaction-specific information at least three business days in advance of the first sale of securities in the offering.  This requirement gives investors additional time to analyze the specific structure, assets, and contractual rights for an ABS transaction.

Removing Investment Grade Ratings for ABS Shelf Eligibility

The final rules revise the eligibility criteria for shelf offerings of ABS.  The new proposed transaction requirements for ABS shelf eligibility replace the prior investment grade requirement and require:

• The chief executive officer of the depositor to provide a certification at the time of each offering from a shelf registration statement about the disclosure contained in the prospectus and the structure of the securitization.
• A provision in the transaction agreement for the review of the assets for compliance with the representations and warranties upon the occurrence of certain trigger events.
• A dispute resolution provision in the underlying transaction documents.
• Disclosure of investors’ requests to communicate with other investors.

The final rules also require other changes to the procedures and forms related to shelf offerings, including:

• Permitting a pay-as-you-go registration fee alternative, allowing ABS issuers to pay registration fees at the time of filing the preliminary prospectus, as opposed to paying all registration fees upfront at the time of filing the registration statement.
• Creating new Forms SF-1 and SF-3 for ABS issuers to replace current Forms S-1 and S-3 in order to distinguish ABS filers from corporate filers and tailor requirements for ABS offerings.
• Revising the current practice of providing a base prospectus and prospectus supplement for ABS issuers and instead requiring that a single prospectus be filed for each takedown (however, it is permissible to highlight material changes from the preliminary prospectus in a separate supplement to the preliminary prospectus 48 hours prior to first sale).

Amendments to Prospectus Disclosure Requirements

The Commission approved amendments to the prospectus disclosure requirements for ABS, which include:

• Expanded disclosure about transaction parties, including disclosure about a sponsor’s retained economic interest in an ABS transaction and financial information about parties obligated to repurchase assets.
• A description of the provisions in the transaction agreements about modification of the terms of the underlying assets.
• Filing of the transaction documents by the date of the final prospectus, which is a clarification of the current rules.

Revisions to Regulation AB

The Commission also approved other revisions to Regulation AB, including:

• Standardization of certain static pool disclosure.
• Revisions to the Regulation AB definition of an “asset-backed security.”
• Specifying, in addition to the asset-level requirements, the disclosure that must be provided on an aggregate basis relating to the type and amount of assets that do not meet the underwriting criteria that is described in the prospectus.
• Several changes to Forms 10-D, 10-K, and 8-K, including requiring explanatory disclosure in the Form 10-K about identified material instances of noncompliance with existing Regulation AB servicing criteria.
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CFTC ANNOUNCES FIRST WHISTLEBLOWER AWARD UNDER DODD-FRANK

 FROM:  COMMODITY FUTURES 

CFTC Issues First Whistleblower Award

Washington, DC — Commodity Futures Trading Commission (CFTC) Acting Chairman Mark Wetjen announced today that the agency will make its first award to a whistleblower as part of the Commission’s Whistleblower Program created by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. The person will receive approximately $240,000 for providing valuable information about violations of the Commodity Exchange Act.

“I am pleased to announce this first award which illustrates that the CFTC’s Whistleblower Program is a valuable resource for the American public. Information received under the Whistleblower Program helps the agency better protect market participants and the public through successful enforcement actions,” said CFTC Acting Chairman Wetjen.

Acting Director of the CFTC’s Division of Enforcement Gretchen Lowe said, “Here, the whistleblower provided specific, timely and credible information that led to the Commission bringing important enforcement actions. The CFTC’s Whistleblower Program is attracting high-quality tips and cooperation we might not otherwise receive and is already having an impact on the Commission’s enforcement mission.”

Christopher Ehrman, the Director of the Whistleblower Office, said that the number of high quality tips, complaints and referrals received continues to increase. “Our Whistleblower Program is a necessary enforcement tool for the agency, and my hope is that this award will send the strong message that the CFTC will pay for information that helps us do our jobs.”

Under the Dodd-Frank Act, the CFTC’s Whistleblower Program provides monetary awards to persons who report violations of the Commodity Exchange Act if the information leads us to an action that results in more than $1 million in monetary sanctions. Whistleblowers are eligible for 10 to 30 percent of monies collected. The CFTC can also pay awards based on monetary sanctions collected by other authorities in actions that are related to a successful CFTC action, and are based on information provided by a CFTC whistleblower. The Dodd-Frank Act whistleblower provisions also prohibit retaliation by employers against employees who provide the CFTC with information about possible violations, or who assist us in any investigation or proceeding based on such information.

CFTC OFFICIAL'S TESTIMONY BEFORE SENATE COMMITTEE REGARDING AUTOMATED TRADING ENVIRONMENTS

FROM:  U.S. COMMODITY FUTURES TRADING COMMISSION 

Testimony of Vincent McGonagle, Director of the Division of Market Oversight, Commodity Futures Trading Commission Before the U.S. Senate Committee on Agriculture, Nutrition and Forestry

May 13, 2014

Chairwoman Stabenow, Ranking Member Cochran and Members of the Committee, thank you for the opportunity to appear before you today. My name is Vincent McGonagle and I am the Director of the Division of Market Oversight at the Commodity Futures Trading Commission (CFTC or Commission). I am pleased to appear before the Committee to provide an overview of the CFTC’s Concept Release on Risk Controls and System Safeguards for Automated Trading Environments (Concept Release). The Concept Release reflects the Commission’s ongoing commitment to the safety and soundness of U.S. derivatives markets in times of technological change, including automated and high-frequency trading (HFT).

My written testimony today will describe the Concept Release and provide an overview of public comments received in response to the risk controls and market enhancements discussed therein. It will also describe the regulatory context in which automated and high-frequency trading currently operate, and numerous measures already taken by the Commission to safeguard trading in modern, technology-driven markets.

Background on Commodity Exchange Act and the CFTC’s Mission

The purpose of the Commodity Exchange Act (Act) is to serve the public interest by providing a means for managing and assuming price risks, discovering prices, or disseminating pricing information. Consistent with its mission statement and statutory charge, the CFTC is tasked with protecting market participants and the public from fraud, manipulation, abusive practices and systemic risk related to derivatives – both futures and swaps – and to foster transparent, open, competitive and financially sound markets. In carrying out its mission and statutory charge, and to promote market integrity, the CFTC polices derivatives markets for various abuses and works to ensure the protection of customer funds.

To fulfill these roles, the Commission oversees designated contract markets (DCMs), swap execution facilities (SEFs), derivatives clearing organizations, swap data repositories, swap dealers (SDs), futures commission merchants (FCMs) and other intermediaries. The Act generally requires that all futures transactions be conducted on or subject to the rules of a board of trade that the CFTC designates as a DCM. Sections 5 and 6 of the Act and Part 38 of the Commission’s regulations provide the legal framework for the Commission to designate DCMs, along with each DCM’s self-regulatory compliance requirements with respect to the trading of commodity futures contracts. With the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), DCMs were also permitted to list swap contracts. Dodd-Frank also adopted a new regulatory category for exchanges that provide exclusively for the trading of swaps (i.e., SEFs).

Exchanges’ Self-Regulatory Responsibilities and CFTC Oversight

DCMs and SEFs play an important role in the regulatory structure established for derivatives markets by the Act. As self-regulatory organizations (SROs) they are responsible for front-line oversight of all exchange-traded derivatives subject to the Commission’s jurisdiction. DCMs must comply with 23 core principles, including core principles requiring them to establish, monitor and enforce compliance with their rules and to have the capacity to detect, investigate and sanction violative conduct1 and to prevent manipulation and price distortion.2 SEFs are subject to 15 core principles and must comply with similar requirements to establish and enforce trading and participation rules that will deter abuses, and have the capacity to detect and investigate rule violations.3 SEFs are also required to monitor trading in swaps to prevent manipulation and price distortion.4 Commission regulations require DCMs and SEFs to prohibit abusive trading practices by exchange members and market participants, including abuses against customers. Prohibited practices include, but are not limited to, trading ahead of customer orders, accommodation trading, improper cross trading, front-running, wash-trading, pre-arranged trades unless otherwise permitted, fraudulent trading and money passes. DCMs and SEFs must prohibit any other manipulative or disruptive trading practice prohibited by the Act or Commission regulations, and any trading practice that the DCM or SEF believes to be abusive.5

To fulfill these responsibilities, DCMs and SEFs are required to and do maintain in-house compliance departments with appropriate human and technology resources, or to contract with third-party regulatory service providers recognized under the Act. DCMs and SEFs must also maintain complete audit trails. For example, DCMs have extensive electronic records of activity on their electronic trade matching platforms. A subset of such records—trade and related order data—is provided to the CFTC daily by DCMs for the Commission’s own surveillance activities.6

The Division of Market Oversight conducts rule enforcement reviews of DCMs’ self-regulatory programs and evaluates their compliance with the Act and Commission regulations. Such reviews aim to promote DCMs’ effective performance as SROs by examining core principles most closely-related to their self-regulatory programs. These include core principles governing DCMs’ trade practice surveillance, market surveillance, audit trail, and disciplinary programs. The Division will conduct similar reviews of SEFs in the future. In addition, the Division also conducts direct surveillance of its regulated markets, and continues to improve the regulatory data available for this purpose. For example, in November 2013 the Commission published final rules to improve its identification of participants in futures and swaps markets (OCR Final Rules).7 While enhancing the Commission’s already robust position-based reporting regime, the OCR Final Rules also create new volume-based reporting requirements that significantly expand the Commission’s view into its regulated markets, including with respect to high-frequency traders.

Expansion of CFTC Enforcement Authority under Dodd-Frank and New Regulations Relevant to Automated Markets

The Commission’s responsibilities under the Act include mandates to prevent and deter fraud, manipulation, and disruptive trading. Dodd-Frank broadened the Commission’s enforcement authority to include swaps markets. Under the new law and rules implementing it, the Commission’s anti-manipulation reach is extended to prohibit the reckless use of manipulative schemes. Specifically, Section 6(c)(3) of the Act now makes it unlawful for any person, directly or indirectly, to manipulate or attempt to manipulate the price of any swap, or of any commodity in interstate commerce, or for future delivery on or subject to the rules of any registered entity. In addition, new Section 4c(a) of the Act now explicitly prohibits disruptive trading practices, such as the violation of bids or offers, intentional or reckless disregard for the orderly execution of transactions during the closing period, or the placement of bids or offers with the intent to cancel such bids or offers before execution (commonly known as “spoofing”).8

A number of Commission rulemakings to implement Dodd-Frank have focused specifically on safeguards for automated trading. These new rules address both market participants, such as FCMs, SDs and others, and exchanges, including both DCMs and SEFs. In April 2012, the Commission adopted Regulations 1.73 and 23.609 requiring FCMs, SDs and major swap participants (“MSPs”) that are clearing members to establish risk-based limits based on “position size, order size, margin requirements, or similar factors” for all proprietary accounts and customer accounts.9 The rules also require FCMs, SDs and MSPs to “use automated means to screen orders for compliance with the [risk] limits” when such orders are subject to automated execution.10 The Commission also adopted rules in April 2012 requiring SDs and MSPs to ensure that their “use of trading programs is subject to policies and procedures governing the use, supervision, maintenance, testing, and inspection of the program.”11

In June 2012, the Commission adopted rules to implement the 23 core principles for DCMs.12 Regulation 38.255 requires DCMs to “establish and maintain risk control mechanisms to prevent and reduce the potential risk of price distortions and market disruptions, including, but not limited to, market restrictions that pause or halt trading in market conditions prescribed by the designated contract market.”13 Regulation 37.405 imposes similar requirements on SEFs.14 In addition, the Acceptable Practices for DCM Core Principle 4 (Prevention of Market Disruption) and Guidance to SEF Core Principle 4 (Monitoring of Trading and Trade Processing) identify pre-trade limits on order size, price collars or bands, message throttles and daily price limits as responsive measures that a DCM or SEF may implement to demonstrate compliance with elements of Core Principle 4.15

The DCM rules also set forth risk control requirements for exchanges that provide direct market access (“DMA”) to clients. Regulation 38.607 requires DCMs that permit DMA to have effective systems and controls reasonably designed to facilitate an FCM’s management of financial risk. These systems and controls include automated pre-trade controls through which member FCMs can implement financial risk limits.16 Regulation 38.607 also requires DCMs to implement and enforce rules requiring member FCMs to use these systems and controls.17 Finally, the DCM rules implement new requirements in the Act related to exchanges’ cyber security and system safeguard programs. As with its rule enforcement reviews, the Division also conducts periodic systems safeguards examinations to review DCMs’ compliance with the systems safeguards and cyber security requirements of the Act and Commission regulations. The Act and Commission regulations also address cyber security and system safeguards within SEFs.

The CFTC’s Concept Release on Risk Controls and System Safeguards for Automated Trading Environments

The Commission’s Concept Release on Risk Controls and System Safeguards for Automated Trading Environments was published in the Federal Register on September 12, 2013.18 The initial 90-day comment period closed on December 11, 2013, but was reopened from January 21 through February 14, 2014, in conjunction with a meeting of the CFTC’s Technology Advisory Committee (TAC). As discussed in further detail below, the Concept Release considers a series of potential pre-trade risk controls; post-trade reports; the design, testing, and supervision standards for automated trading systems (ATS) which generate orders for entry into automated markets; market structure initiatives; and other measures designed to reduce risk or improve the functioning of automated markets. The Concept Release also requests public comment on 124 separate questions regarding the necessity and operation of such measures in today’s markets. In this regard, the Concept Release serves as a vehicle to catalogue existing industry practices, determining their efficacy and implementation to date, and evaluating the need for additional measures. The Concept Release is not a proposed rule, but rather a prior step designed to engage a public dialogue and educate the Commission so that it may make an informed determination as to whether rulemaking is necessary and, if so, the substantive requirements of such a rulemaking.

The Commission received a total of 43 public comments on the Concept Release, including comments from DCMs; an array of trading firms; trade associations; public interest groups; members of academia; a U.S. federal reserve bank; and consulting, technology and information service providers in the financial industry. All comments are available on cftc.gov. Many of the comments received are detailed and thorough, including some comment letters that addressed all 124 questions presented in the Concept Release. One commenter conducted a survey of its member firms to gauge existing risk-management practices. Other commenters provided academic papers in support of their points of view, and some focused on elements of the Concept Release that are of particular interest to them. CFTC Staff is studying all comments received and will make initial recommendations once its review is complete.

Fundamentally, the Concept Release asks whether existing risk controls in automated trading environments are sufficient to match the technologies and risks of modern markets. In this regard, the Concept Release focuses on the totality of the automated trading environment, including the progression of orders from the ATSs that generate them, through the clearing firms that guarantee customer orders, and on to execution by registered trading platforms. The Concept Release also addresses ATSs themselves, including their design, testing and supervision. It also raises a number of related issues, ranging from the underlying data streams used by ATSs to inform their trading decisions, to the special considerations involved in trading via direct market access. It also asks whether terms such as “high-frequency trading” should be defined in regulations, and whether HFT firms should be registered with the Commission.

The Concept Release was informed by a number of factors, including: (1) controls or best practices already in use or developed within industry; (2) existing CFTC regulatory standards that address automated trading; and (3) best practices developed by expert groups and outside organizations, including international standard setting bodies, foreign jurisdictions, and the CFTC’s TAC.

The Concept Release begins with an overview of the automated trading environment, including the development of automated order-generating and trade-matching systems; advances in high-speed communication networks; the growth of interconnected automated markets; and the changed role of humans in markets. It also highlights the importance of ATSs as tools for the generation and routing of orders.

These developments are addressed in the Concept Release through a series of 23 potential risk controls and other measures broadly grouped into four categories. The first includes “pre-trade risk controls,” such as controls designed to prevent potential errors or disruptions from reaching trading platforms, or to minimize their impact once they have. Specific pre-trade risk controls include maximum message rates, execution throttles, and maximum order sizes. Depending on the measure, pre-trade risk controls could be applicable to all trading firms; to trading firms operating ATSs; to clearing firms; or to trading platforms. The Concept Release includes a total of eight pre-trade risk controls and sub-controls.

A second category of safeguards includes “post-trade reports” and “other post-trade measures.” Examples in this category include reports that promote the flow of order, trade and position information; uniform trade adjustment or cancellation policies; and standardized error trade reporting obligations. These measures could be applicable to all trading firms; to trading platforms; or to clearing houses. There are a total of five post-trade reports and other measures or sub-measures in this category, including post-order, post-trade, and post-clearing drop copies.

The third category of risk controls discussed in the Concept Release is termed “system safeguards,” including safeguards for the design, testing and supervision of ATSs, as well as measures such as “kill switches” that facilitate emergency intervention in the case of malfunctioning ATSs. Such safeguards would generally be applicable to trading firms operating ATSs, and depending on the control, might also apply to trading platforms and others. The Concept Release presents a total of seven system safeguards, some with subparts.

Finally, the Concept Release presents a fourth category of measures focusing on various options for potentially improving market functioning or structure. These includes measures such as mandatory publication by exchanges of various market quality indicators to help inform market participants (e.g., order to fill ratios; execution speeds for different types of orders and order sizes; price impacts associated with different trade sizes; and average order duration). They also include a number potential measures requiring exchanges to amend their trade matching systems by, for example: (1) providing batch auctions instead of continuous trade matching; (2) prioritizing orders resting in the order book for some minimum period of time; or (3) aggregating multiple small orders from the same legal entity entered contemporaneously at the same price level and assigning them the lowest priority time-stamp of all orders so aggregated.

As a threshold matter, the Concept Release recognizes that orders and trades in automated environments pass through multiple stages in their lifecycle, from order generation, to execution, to clearing, and steps in between. Accordingly, it solicited comment regarding the appropriate stage or stages at which risk controls should be placed. Focal points for the implementation of risk controls described in the Concept Release include: (i) ATSs prior to order submission; (ii) clearing firms; (iii) trading platforms prior to exposing orders to the market; (iv) clearing houses; and (v) other risk control options, such as third-party “hubs” through which orders or order information could flow to uniformly mitigate risks across various platforms. The Concept Release recognizes that the appropriate location of a risk control also may depend on the type of control or its intended purpose. Therefore, it specifically seeks comment on this question, and on the desirability of a “layered” or “defense in depth” approach that places the same or similar risk controls at more than one stage of the order and trade lifecycle.

Given the variety and complexity of matters raised in the Concept Release, commenters understandably held a range of opinions. Many commenters expressed satisfaction that the Commission has undertaken this review of risk controls and system safeguards in automated trading environments. Based on comments received and other indications, a number of parties support certain Commission actions. Some have expressed “race to the bottom” concerns in the absence of minimum regulatory standards. In this regard, any risk controls that introduce latency (i.e., reduce speed) in the generation or transmission of orders could create competitive disadvantage for firms that adopt them unilaterally.

Most commenters also supported a multi-layered approach to risk controls. One commenter stated, for example, that a “holistic approach, with overlapping supervisory obligations, offers the most robust protection by engaging all levels of the supply chain…and eliminating the possibility that a single point of failure will cause significant harm to the market.” Another entity commented with respect to ATS testing and change management that “the same levels of responsibility for testing and change management should apply to all market participants that deploy their own technology, as well as providers of technology that allows access to the markets.”

At the same time, other measures contemplated in the Concept Release drew opposition by a majority of commenters. For example, a majority of parties who commented on the idea of a credit risk control implemented through a centralized hub were opposed to the idea, citing costs, complexity and an undesirable concentration of risk.

Certain key questions in the Concept Release drew very divergent opinions. Commenters disagreed on the need for a regulatory definition of high-frequency trading. Just over half of the parties who commented on this point were opposed to a definition, while the remainder were in favor. The question of defining high-frequency trading is closely related to the question of whether HFT firms not already registered with the Commission in some capacity should be required to register. Those opposed to defining high-frequency trading suggested that no clear distinction can be drawn between automated trading and high-frequency automated trading, or pointed to the difficulty in defining HFT and to the concern that any definition of HFT would become obsolete over time.

A commenter’s opinion as to whether HFT should be defined typically ran in parallel with its opinion as to whether risk controls should apply equally to all automated systems, or whether high-frequency trading or HFT firms deserve special regulatory attention. Those requesting HFT-specific measures logically saw a need to define high-frequency trading. More fundamentally, however, some academic commenters discussed concerns around the speed of trading, including within exchange order books, and suggested steps to slow trading or to reduce any potential advantages that come with speed.

One recurring theme across comments is whether pre-trade risk controls and other measures should focus on high-level principles or be more granular instead. Many industry commenters stated their preference for a principles-based approach to any rules that the Commission may adopt. These commenters argued that prescriptive requirements will become obsolete as technologies advance; may not account for the unique characteristics of market participants; and could result in participants designing around such measures. Similarly, one commenter noted that the best way to achieve standardization of risk controls is through implementing “best practices” developed through working groups of DCMs, FCMs, and other market participants.

Other commenters, however, expressed a need for more prescriptive rules. One argued, for example, that prescriptive rules are necessary unless the Commission receives documentation that the risk controls implemented by firms and exchanges are consistent and effective. Another commenter questioned whether the incentives facing industry participants would permit them to, quote, “sacrifice speed for prudent risk controls.”

Finally, as with the high-level questions discussed above, many of the specific pre-trade risk controls and other safeguards discussed in the Concept Release drew divergent opinions, either around whether the control should be a regulatory requirement or, if a requirement, how granular it should be. Commenters also addressed the appropriate design and use of particular risk controls. For example, one commenter stated that “kill switches, if implemented and used properly, can serve as an effective last-resort means of risk control,” but “are not a panacea and should only be used during extreme events when all other courses of action have been exhausted.” Another commenter specified that kill switches should exist at the trading firm, clearing firm and trading platform level, and that the Commission should assess the methodology used to set kill switch limits.

As noted previously, staff continues to review all comments received and to refine its thoughts. Next steps could include potential recommendations to the Commission for notice and comment rulemaking in one or more areas addressed by the Concept Release.

This concludes my written testimony.

1 See 17 CFR 38.150 (Core Principle 2—Compliance with Rules).

2 See 17 CFR 38.250 (Core Principle 4—Prevention of Market Disruption).

3 See 17 CFR 37.200 (Core Principle 2—Compliance with Rules).

4 See 17 CFR 37.400 (Core Principle 4—Monitoring of Trading and Trade Processing).

5 See 17 CFR 38.152 and 17 CFR 37.203(a).

6 DCMs provide information to the Commission on a “T + 1” basis, i.e., on trade date plus 1.

7 Commission, Final Rule: Ownership and Control Reports, Forms 102/102S, 40/40S, and 71, 77 FR 69177 (Nov. 18, 2013).

8 The Commission further clarified the scope of these prohibited disruptive trading practices in its Interpretive Guidance and Policy Statement on Disruptive Practices. 78 FR 31890 (May 28, 2013).

9 17 CFR 1.73(a)(1) and 23.609(a)(1).

10 17 CFR 1.73(a)(2)(i) and 17 CFR 23.609(a)(2)(i).

11 17 CFR 23.600(d)(9).

12 Commission, Final Rule: Core Principles and Other Requirements for Designated Contract Markets, 77 FR 36612 (Jun. 19, 2012) (the “DCM Final Rules”).

13 17 CFR 38.255.

14 17 CFR 37.405.

15 DCM Final Rules, 77 FR at 36718; Commission, Final Rule: Core Principles and Other Requirements for Swap Execution Facilities, 78 FR 33476, 33601 (June 4, 2013).

16 17 CFR 38.607.

17 Id.

18 Commission, Concept Release on Risk Controls and System Safeguards for Automated Trading Environments, 78 FR 56542 (Sept. 12, 2013).

Last Updated: May 13, 2014

CFTC ACTING CHAIRMAN WETJEN STATEMENT ON END-USERS AND DODD-FRANK

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Statement of Acting Chairman Mark Wetjen at Roundtable on Dodd-Frank End-User Issues

April 3, 2014

Washington, DC—Commodity Futures Trading Commission Acting Chairman Mark Wetjen made the following statement at the public roundtable on end-users and the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank).

“I am pleased the staff has convened today’s roundtable focusing on end-user issues and the Dodd-Frank Wall Street Reform and Consumer Protection Act. Congress was crystal clear that commercial end-users, which make up the overwhelming majority of companies in America, did not cause the crisis. Further, Congress was equally clear that in putting in place the significant derivatives reforms contained in Dodd-Frank, the derivative markets needed to remain accessible to end-users who rely on these markets for hedging and price-discovery needs.

“Looking ahead, the Commission must continue to remain open to revisiting certain rules and making adjustments as necessary. For example, the de minimis exception in the swap dealer definition for Special Entities – defined in the Dodd Frank Act to include federal, state, and municipal entities – was making it difficult for government-owned electric utilities to hedge key operational risks. In response, Commission staff recently issued temporary no-action relief that allows counterparties to exclude utility operations-related swaps from the 25 million dollar threshold.”

“Today, I am pleased to announce that I am putting into circulation a Notice of Proposed Rulemaking (NPRM) that would amend the de minimis exception to address this issue. Once the Commission issues the proposal, I look forward to receiving comment from the public and interested parties on this issue. I would like to thank the hardworking staff of the CFTC for convening this roundtable. I am looking forward to hearing the thoughts of everyone participating in the roundtable.”

SEC CHAIRMAN WHITE'S ADDRESS AT SEC SPEAKS 2014

FROM:  SECURITIES AND EXCHANGE COMMISSION 
Chairman’s Address at SEC Speaks 2014
 Chair Mary Jo White
Washington, D.C.

Feb. 21, 2014

Good morning.  I am very honored to be giving the welcoming remarks and to offer a few perspectives from my first 10 months as Chair.  Looking back at remarks made by former Chairs at this event, the expectation seems to be for me to talk about the “State of the SEC.”  I will happily oblige on behalf of this great and critical agency.

In 1972, 42 years ago at the very first SEC Speaks, there were approximately 1,500 SEC employees charged with regulating the activities of 5,000 broker-dealers, 3,500 investment advisers, and 1,500 investment companies.

Today the markets have grown and changed dramatically, and the SEC has significantly expanded responsibilities.  There are now about 4,200 employees – not nearly enough to stretch across a landscape that requires us to regulate more than 25,000 market participants, including broker-dealers, investment advisers, mutual funds and exchange-traded funds, municipal advisors, clearing agents, transfer agents, and 18 exchanges.  We also oversee the important functions of self-regulatory organizations and boards such as FASB, FINRA, MSRB, PCAOB, and SIPC.  Only SIPC and FINRA’s predecessor, the NASD, even existed back in 1972.

Today the agency also faces an unprecedented rulemaking agenda.  Between the Dodd-Frank and JOBS Acts, the SEC was given nearly 100 new rulemaking mandates ranging from rules that govern the previously unregulated derivatives markets, impose proprietary trading restrictions on many financial institutions, increase transparency for hedge funds and private equity funds, give investors a say-on-executive pay, establish a new whistleblower program, lift the ban on general solicitation, reform and more intensely oversee credit rating agencies, and so many others.  These rulemakings, coupled with the implementation and oversight effort that each one brings, have added significantly to our already extensive responsibilities and challenge our limited resources.  These mandates also present the risk that they will crowd out or delay other pressing priorities.  But we must not let that happen.

All of this is upon us at a time when our funding falls significantly short of the level we need to fulfill our mission to investors, companies, and the markets.  As Chair, I owe a duty to Congress, the staff, and to the American people to use the funds we are appropriated prudently and effectively.  But it also is incumbent upon me to raise my voice when the SEC is not being provided with sufficient resources.  The SEC is deficit neutral.  Our appropriations are offset by modest transaction fees we collect from SROs.  What does that mean?  It means that if Congress provides us with increased funding, it will not increase the budget deficit or take resources from other programs or agencies, but it would go directly to protecting investors and strengthening our markets.  Given the critical role we play for investors and our expanded responsibilities, obtaining adequate funding for the SEC is and must be a top priority.

Fortunately, what has remained a constant over the years at the SEC is its magnificent and dedicated staff.  Indeed, it was the commitment, expertise, and moral, apolitical compass of the staff that led me here.  The SEC staff is a deep reservoir of extraordinary talent and expertise with a strong and enduring commitment to public service and independence.  And that is what has sustained the excellence of this agency since its founding.

Exercising my prerogative as Chair, I would now like to ask each SEC employee in the audience to stand and be recognized.  Please remain standing while I ask that everyone here today who once worked at the SEC to please also stand to be recognized.  In our most challenging moments, I urge all of us to think about the colleagues we just recognized, marvel at their public service and say thank you.

Back to the state of the SEC in 2014.

When I arrived at the SEC last April, I initially set three primary priorities: implementing the mandatory Congressional rulemakings of the Dodd-Frank and the JOBS Acts; intensifying the agency’s efforts to ensure that the U.S. equity markets are structured and operating to optimally serve the interests of all investors; and further strengthening our already robust enforcement program.  Ten months later, I am pleased with what we have accomplished.

Rulemaking
When I arrived, it was imperative to set an aggressive rulemaking agenda.  Congress had seen to that and our own core mission demanded it.  And, through the tireless work of the staff and my fellow Commissioners, we made significant progress.

On the day I was sworn in as Chair, we adopted identity theft rules requiring broker-dealers, mutual funds, investment advisers, and others regulated by us to adopt programs to detect red flags and prevent identity theft.[1]

A month later, we proposed rules to govern cross-border swap transactions in the multi-trillion dollar global over-the-counter derivatives markets.[2]

A month after that, we proposed rules to reform and strengthen the structure of money market funds. [3]

Last summer and fall, we made significant progress in implementing the reforms to the private offering market mandated by Congress in the JOBS Act.  We lifted the ban on general solicitation[4] and we proposed rules that would provide new investor protections and important data about this new market.[5]  We also proposed new rules that would permit securities-based crowdfunding and update and expand Regulation A.[6]

We adopted a Dodd-Frank Act rule disqualifying bad actors from certain private offerings.[7]

We adopted some of the most significant changes in years to the financial responsibility rules for broker-dealers.[8]

We adopted rules governing the registration and regulation of municipal advisors.[9]

We adopted rules removing references to credit agency ratings in certain broker-dealer and investment company regulations.[10]

In December, together with the banking regulators and the CFTC, we adopted regulations implementing the Volcker Rule.[11]

And, just last week we announced the selection of Rick Fleming, the deputy general counsel at the North American Securities Administrators Association, as the first Investor Advocate, a position established by Dodd-Frank.[12]

As even this partial list shows, we have made significant progress on our rulemakings, although more remains to be done.  But we must always keep the bigger picture in focus and not let the sheer number nor the sometimes controversial nature of the Congressional mandates distract us from other important rulemakings and initiatives that further our core mission as we set and carry out our priorities for the year ahead.

Other Critical Initiatives
To be more specific, in 2014, in addition to continuing to complete important rulemakings, we also will intensify our consideration of the question of the role and duties of investment advisers and broker dealers, with the goal of enhancing investor protection.  We will increase our focus on the fixed income markets and make further progress on credit rating agency reform.  We will also increase our oversight of broker-dealers with initiatives that will strengthen and enhance their capital and liquidity, as well as providing more robust protections and safeguards for customer assets.

We also will continue to engage with other domestic and international regulators to ensure that the systemic risks to our interconnected financial systems are identified and addressed – but addressed in a way that takes into account the differences between prudential risks and those that are not.  We want to avoid a rigidly uniform regulatory approach solely defined by the safety and soundness standard that may be more appropriate for banking institutions.

In 2014, we also will prioritize our review of equity market structure, focusing closely on how it impacts investors and companies of every size.  One near-term project that I will be pushing forward is the development and implementation of a tick-size pilot, along carefully defined parameters, that would widen the quoting and trading increments and test, among other things, whether a change like this improves liquidity and market quality.

In 2013, our Trading and Markets Division continued to develop the necessary empirical evidence to accurately assess our current equity market structure and to consider a range of possible changes.  Today we have better sources of data to inform our decisions.  For example, something we call MIDAS collects, nearly instantaneously, one billion trading data records every day from across the markets.  We have developed key metrics about the markets using MIDAS and placed them on our website last October so the public, academics, and all market participants could share, analyze, and react to the information that allows us to better test the various hypotheses about our markets to inform regulatory changes.[13]

The SEC, the SROs, and other market participants are also proceeding to implement the Consolidated Audit Trail Rule,[14] which when operational will further enhance the ability of regulators to monitor and analyze the equity markets on a more timely basis.  Indeed, it should result in a sea change in the data currently available, collecting in one place every order, cancellation, modification, and trade execution for all exchange-listed equities and equity options across all U.S. markets.  It is a difficult and complex undertaking, which must be accorded the highest priority by all to complete.

We also are very focused on ensuring the resilience of the systems used by the exchanges and other market participants.  It is critically important that the technology that connects market participants be deployed and used responsibly to reduce the risk of disruptions that can harm investors and undermine confidence in our markets.  A number of measures have already been taken and, in 2014, we will be focused on ensuring that more is done to address these vulnerabilities.  One significant vulnerability that must be comprehensively addressed across both the public and private sectors is the risk of cyber attacks.  To encourage a discussion and sharing of information and best practices, the SEC will be holding a cybersecurity roundtable in March.[15]

Enforcement
Let me turn to enforcement at the SEC in 2014 because vigorous and comprehensive enforcement of our securities laws must always be a very high priority at the SEC.  And it is.

When I arrived in April, I found what I expected to find – a very strong enforcement program.  Through extraordinary hard work and dedication, the Commission’s Enforcement Division achieved an unparalleled record of successful cases arising out of the financial crisis.  To date, we have charged 169 individuals or entities with wrongdoing stemming from the financial crisis – 70 of whom were CEOs, CFOs, or other senior executives.  At the same time, the Commission also brought landmark insider trading cases and created specialized units that pursued complex cases against investment advisers, broker dealers and exchanges, as well as cases involving FCPA violations, municipal bonds and state pension funds.  In 2013 alone, Enforcement’s labors yielded orders to return $3.4 billion in disgorgement and civil penalties, the highest amount in the agency’s history.  But there is always more to do.

Admissions
Last year, we modified the SEC’s longstanding no admit/no deny settlement protocol to require admissions in a broader range of cases.  As I have said before,[16] admissions are important because they achieve a greater measure of public accountability, which, in turn, can bolster the public’s confidence in the strength and credibility of law enforcement, and the safety of our markets.

When we first announced this change, we said that we would consider requiring admissions in certain types of cases, including those involving particularly egregious conduct, where a large numbers of investors were harmed, where the markets or investors were placed at significant risk, where the conduct undermines or obstructs our investigative processes, where an admission can send a particularly important message to the markets or where the wrongdoer poses a particular future threat to investors or the markets.  And now that we have resolved a number of cases with admissions, you have specific examples of where we think it is appropriate to require admissions as a condition of settlement.[17]  My expectation is that there will be more such cases in 2014 as the new protocol continues to evolve and be applied.

Financial Fraud Task Force
Last year, the Enforcement Division also increased its focus on accounting fraud through the creation of a new task force.[18]  The Division formed the Financial Reporting and Audit Task Force to look at trends or patterns of conduct that are risk indicators for financial fraud, including in areas like revenue recognition, asset valuations, and management estimates.  The task force draws on resources across the agency, including accountants in the Division of Corporation Finance and the Office of the Chief Accountant and our very talented economists in the Division of Economic Risk and Analysis (DERA).  The task force is focused on more quickly identifying potential material misstatements in financial statements and disclosures.  The program has already generated several significant investigations and more are expected to follow.

In addition to the new admissions protocol and the Financial Fraud Task Force, the Enforcement Division also has other exciting new initiatives including a new Microcap Task Force[19] and a renewed focus on those who serve as gatekeepers in our financial system, just to name a few.

* * *

We have talked about our rulemaking agenda, some of our ongoing market structure initiatives, and a bit about what is new and developing in Enforcement.  But what else lies ahead?

Corporation Finance: JOBS Act and Disclosure Reform
As we move to complete our rulemakings in the private offering arena, it is important for the SEC to keep focused on the public markets as well.  Our JOBS Act related-rulemaking will provide companies with a number of different alternatives to raise capital in the private markets.  Some have even suggested that if the private markets develop sufficient liquidity, there may not be any reason for a company to go public or become a public company in the way we think of it now.  That would not be the best result for all investors.

While the JOBS Act provides additional avenues for raising capital in the private markets and may allow companies to stay private longer, the public markets in the United States also continue to offer very attractive opportunities for capital.  They offer the transparency and liquidity that investors need and, at the same time, provide access to the breadth of sources of capital necessary to support significant growth and innovation.  For our part, we must consider how the SEC’s rules governing public offerings and public company reporting and disclosure may negatively impact liquidity in our markets and how they can be improved and streamlined, while maintaining strong investor protections.

Last year, I spoke about disclosure reform[20] and in December the staff issued a report that contains the staff’s preliminary conclusions and recommendations as to how to update our disclosure rules.[21]

What is next?

This year, the Corp Fin staff will focus on making specific recommendations for updating the rules that govern public company disclosure.  As part of this effort, Corp Fin will be broadly seeking input from companies and investors about how we can make our disclosure rules work better, and, specifically, investors will be asked what type of information they want, when do they want it and how companies can most meaningfully present that information.

Investment Management: Enhanced Asset Manager Risk Monitoring
The SEC of 2014 is an agency that increasingly relies on technology and specialized expertise.  This is particularly evident in the SEC’s new risk monitoring and data analytics activities.  One important example is the SEC’s new focus on risk monitoring of asset managers and funds.

Last year featured a very concrete success from these risk monitoring efforts when the SEC brought an enforcement case against a money market fund firm charging that it failed to comply with the risk limiting conditions of our rules.[22]

In the past year, the SEC has established a dedicated group of professionals to monitor large-firm asset managers.  These professionals who include former portfolio managers, investment analysts, and examiners track investment trends, review emerging market developments, and identify outlier funds.

The tools they use include analytics of data we receive, high-level engagement with asset manager executives and mutual fund boards, data-driven, risk-focused examinations, and with respect to money market funds certain stress testing results.

What is next?

I asked the IM staff for an “action plan” to enhance our asset manager risk management oversight program.  Among the initiatives under near-term consideration are expanded stress testing, more robust data reporting, and increased oversight of the largest asset management firms.  To be an effective 21st century regulator, the SEC is using 21st century tools to address the range of 21st century risks.

OCIE: Innovation in Exam Planning
We also are using powerful new data analytics and technology tools in our National Exam Program to conduct more effective and efficient risk-based examinations of our registrants.

OCIE’s Office of Risk Assessment and Surveillance aggregates and analyzes a broad band of data to identify potentially problematic behavior.  In addition to scouring the data that we collect directly from registrants, we look at data from outside the Commission, including information from public records, data collected by other regulators, SROs and exchanges, and information that our registrants provide to data vendors.  This expanded data collection and analysis not only enhances OCIE’s ability to identify risks more efficiently, but it also helps our examiners better understand the contours of a firm’s business activities prior to conducting an examination.

What is next?

The Office of Risk Assessment and Surveillance is developing exciting new technologies – text analytics, visualization, search, and predictive analytics – to cull additional red flags from internal and external data and information sources.  These tools will help our examiners be even more efficient and effective in analyzing massive amounts of data to more quickly and accurately hone in on areas that pose the greatest risks and warrant further investigation.  In an era of limited resources and expanding responsibilities, it is essential to identify and target these risks more systematically.  And we are doing that.

Conclusion
Let me stop here.  Hopefully, I have at least given you a window into the strong, busy, and proactive state of the SEC in 2014.  More importantly, throughout the next two days, you will hear directly from our staff about the many ways we are meeting the current challenges that we all face in our complex and rapidly changing markets and how we are preparing for tomorrow’s challenges.

This year as in every year, we look forward to hearing your ideas and input on our rulemakings and other initiatives.  Your views are very important to us and assist us to implement regulations that are true to our mission, effective, and workable.

Thank you and enjoy the conference.


[1] See Identity Theft Red Flags Rule Release No. 34-69359, (Apr. 10, 2013), available at http://www.sec.gov/rules/final/2013/34-69359.pdf.

[2] See Title VII of the Dodd-Frank Act and Cross-Border Security-Based Swap Activities; Re-Proposal of Regulation SBSR and Certain Rules and Forms Relating to the Registration of Security-Based Swap Dealers and Major Security-Based Swap Participants Release No. 34-69490, (May 1, 2013), available at http://www.sec.gov/rules/proposed/2013/34-69490.pdf.

[3] See Money Market Fund Reform; Amendments to Form PF Release No. 33-9408, (Jun. 5, 2013), available at http://www.sec.gov/rules/proposed/2013/33-9408.pdf.

[4] See Eliminating the Prohibition Against General Solicitation and General Advertising in Rule 506 and Rule 144A Offerings, Release No. 33-9415 (Jul. 10, 2013), available at http://www.sec.gov/rules/final/2013/33-9415.pdf.

[5] See Release No. 33-9416, Amendments to Regulation D, Form D and Rule 156 (Jul. 10, 2013).

[6] See Crowdfunding, Release No. 33-9470 (Oct. 23, 2013), available at http://www.sec.gov/rules/proposed/2013/33-9470.pdf and Proposed Rule Amendments for Small and Additional Issues Exemptions Under Section 3(b) of the Securities Act, Release No. 33-9497 (Dec. 18, 2013), available at http://www.sec.gov/rules/proposed/2013/33-9497.pdf.

[7] See Release No. 33-9414, Disqualification of Felons and Other “Bad Actors” (Jul. 10, 2013), available at http://www.sec.gov/rules/final/2013/33.9414.pdf.

[8] See Release No. 34-70072, Financial Responsibility Rules for Broker-Dealers (Jul. 30, 2013), available at http://www.sec.gov/rules/final/2013/34-70072.pdf.

[9] See Release No. 34-70462, Registration of Municipal Advisors (Sep. 20, 2013), available at http://www.sec.gov/rules/final/2013/34-70462.pdf.

[10] See Release No. 34-71194, Removal of Certain References to Credit Ratings Under the Securities Exchange Act of 1934 (Dec. 27, 2013), available at http://www.sec.gov/rules/final/2013/34-71194.pdf; Release No. 33-9506, Removal of Certain References to Credit Ratings Under the Investment Company Act (Dec. 27, 2013), available at http://www.sec.gov/rules/final/2013/33-9506.pdf.

[11] See Release No. BHCA-1, Prohibitions and Restrictions on Proprietary Trading and Certain Interests In, and Relationships With, Hedge Funds and Private Equity Funds Bank Holding Company Act (Dec. 10, 2013), available at http://www.sec.gov/rules/final/2013/bhca-1.pdf.

[12] See Press Release No. 2014-27, SEC Names Rick Fleming as Investor Advocate (Feb. 12, 2014), available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370540780377.

[13] The MIDAS web site and interactive tools are available at http://www.sec.gov/marketstructure.

[14] See Release No. 34-67457, Consolidated Audit Trail (Jul. 18, 2012), available at http://www.sec.gov/rules/final/2012/34-67457.pdf.

[15] See Press Release No. 2014-32, SEC to Hold Cybersecurity Roundtable (Feb. 14, 2014), available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370540793626.

[16] The Importance of Trials to the Law and Public Accountability, remarks at the 5th Annual Judge Thomas A. Flannery Lecture (Nov. 14, 2013), available at http://www.sec.gov/News/Speech/Detail/Speech/1370540374908.

[17] See Press Release No. 2013-159, Philip Falcone and Harbinger Capital Agree to Settlement (Aug. 19, 2013), available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370539780222; Press Release No. 2013-187, JPMorgan Chase Agrees to Pay $200 Million and Admits Wrongdoing to Settle SEC Charges (Sep. 19, 2013), available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370539819965; Press Release No. 2013-266, SEC Charges ConvergEx Subsidiaries With Fraud for Deceiving Customers About Commissions (Dec. 18, 2013), available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370540521484; Press Release No. 2014-17, Scottrade Agrees to Pay $2.5 Million and Admits Providing Flawed ‘Blue Sheet’ Trading Data (Jan. 29, 2014), available at http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370540696906.

[18] See SEC Spotlight on the Financial Reporting and Audit Task Force, available at https://www.sec.gov/spotlight/finreporting-audittaskforce.shtml.

[19] See SEC Spotlight on Microcap Fraud, available at http://www.sec.gov/spotlight/microcap-fraud.shtml.

[20] The Path Forward on Disclosure, remarks at the National Association of Corporate Directors Leadership Conference 2013 (Oct. 15, 2013), available at http://www.sec.gov/News/Speech/Detail/Speech/1370539878806.  See also The SEC in 2014, remarks at the 41st Annual Securities Regulation Institute (Jan. 27, 2014), available at http://www.sec.gov/News/Speech/Detail/Speech/1370540677500.

[21] Report on Review of Disclosure Requirements in Regulation S-K (Dec. 2013), available at http://www.sec.gov/news/studies/2013/reg-sk-disclosure-requirements-review.pdf.

[22] In the Matter of Ambassador Capital Management, LLC, and Derek H. Oglesby, Admin. Proc. File No. 3-15625 (2013), available at http://www.sec.gov/litigation/admin/2013/ia-3725.pdf.

COMPANY, OWNERS CHARGED IN OFF-EXCHANGE FINANCED TRANSACTIONS

FROM:  COMMODITY FUTURES TRADING COMMISSION 

CFTC Charges Florida-Based Vertical Integration Group LLC and Its Owners, Richard V. Morello and Junior Alexis, with Engaging in Illegal, Off-exchange Commodity Transactions

Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) today announced that it filed a civil injunctive enforcement action in the U.S. District Court for the Southern District of Florida against Vertical Integration Group LLC (Vertical) of Lake Worth, Florida, its owner, Richard V. Morello of Lake Worth, Florida, and Junior Alexis of Boynton Beach, Florida. The CFTC Complaint charges the Defendants with engaging in illegal, off-exchange financed transactions in precious metals with retail customers.

The CFTC Complaint alleges that from July 16, 2011, and continuing through at least February 2013, the Defendants solicited retail customers to buy physical precious metals in off-exchange leveraged transactions. Specifically, the CFTC alleges that customers paid Vertical a portion of the purchase price for the metals, and Vertical financed the remainder of the purchase price, while charging the customers interest on the amount purportedly loaned to customers.

Under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act), a financed transaction such as those conducted by Vertical is an illegal off-exchange transaction unless it results in actual delivery of metal within 28 days. The CFTC Complaint alleges that with regard to the financed transactions, Vertical’s customers never took delivery of the precious metals they purportedly purchased.

The CFTC further alleges that when Vertical engaged in these illegal transactions they were acting as a dealer for metals merchant Hunter Wise Commodities, LLC (Hunter Wise), whom the CFTC charged with fraud and other violations in federal court in Florida on December 5, 2012 (see CFTC Press Release 6447-12). As alleged in the CFTC Complaint against Hunter Wise and in the Complaint in this case, neither Vertical, nor Hunter Wise actually purchased or held metal on the customers’ behalf.

In its continuing litigation, the CFTC seeks civil monetary penalties, restitution, disgorgement of ill-gotten gains, trading and registration bans, and a permanent injunction against further violations of the federal commodities laws, as charged.

The CFTC Division of Enforcement staff responsible for this action are Michelle Bougas, Alan I. Edelman, Alison Wilson, Michael Solinsky, Charles Marvine, and Gretchen L. Lowe.

FDIC AND FRB RELEASE PUBLIC SECTIONS OF RESOLUTION PLANS FOR LARGE BANK HOLDING COMPANIES

FROM:  FEDERAL DEPOSIT INSURANCE CORPORATION 

Agencies Release Public Sections of Resolution Plans

The Federal Reserve Board and the Federal Deposit Insurance Corporation (FDIC) on Friday made available the public portions of resolution plans for 116 institutions that submitted plans for the first time in December 2013, the latest group to file resolution plans with the agencies.

The Dodd-Frank Wall Street Reform and Consumer Protection Act requires that bank holding companies (and foreign companies treated as bank holding companies) with total consolidated assets of $50 billion or more and nonbank financial companies designated for enhanced prudential supervision by the Financial Stability Oversight Council periodically submit resolution plans to the Federal Reserve Board and the FDIC. Each plan must describe the company’s strategy for rapid and orderly resolution in the event of material financial distress or failure of the company, and include both a public and confidential section.

Companies subject to the resolution plan requirement filed their initial resolution plans on a staggered schedule. The 116 companies whose initial resolution plans were due by December 31, 2013, are those that generally have less than $100 billion in qualifying nonbank assets.

Two groups of institutions have already filed resolution plans. The first group, generally those bank holding companies with $250 billion or more in qualifying nonbank assets, submitted initial plans in July 2012 and their second annual plans in October 2013. The second group, generally those with $100 billion or more, but less than $250 billion, in qualifying nonbank assets, submitted their initial plans in July 2013. The group that was required to file their initial plans last month represents the third group of filers.

The public portions for the 116 companies’ resolution plans, as well as those of institutions that filed previously, are available on the Federal Reserve and FDIC websites.

In addition, the FDIC released the public sections of the recently filed resolution plans of 22 insured depository institutions. The majority of these insured depository institutions are subsidiaries of bank holding companies that concurrently submitted resolution plans. The insured depository institution plans are required by a separate regulation issued by the FDIC. The FDIC’s regulation requires a covered insured depository institution with assets greater than $50 billion to submit a plan under which the FDIC, as receiver, might resolve the institution under the Federal Deposit Insurance Act.

The public portions for the 22 covered insured depository institutions are available on the FDIC website.

Federal Reserve: http://www.federalreserve.gov/bankinforeg/resolution-plans.htm
FDIC: http://www.fdic.gov/regulations/reform/resplans/

OFFICE OF MUNICIPAL SECURITIES ISSUES GUIDANCE FOR MARKET PARTICIPANTS

FROM:  SECURITIES AND EXCHANGE COMMISSION 

The Securities and Exchange Commission announced that its Office of Municipal Securities has issued interpretive guidance to address questions from market participants regarding the implementation of new final SEC rules requiring municipal advisors to register with the SEC.

The staff guidance, in the form of answers to frequently asked questions, or FAQs, covers topics including:

the advice standard, including the general information exclusion and the treatment of business promotional materials used by underwriters
the request for proposals-request for qualifications exemption
the exemption for independent municipal advisors
the exclusion for registered investment advisers
the underwriter exclusion, including engagements as underwriters
issuance of municipal securities and post-issuance advice
remarketing agent services
opinions by citizens in public discourse
the effective date of the final rules and the compliance period for using the final registration forms
State and local governments frequently use paid advisors to help them decide how and when to issue municipal securities and how to invest proceeds from the sales.  The 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act required these advisors to register with the SEC like other market intermediaries.  The SEC’s final rule was adopted in September 2013.  Presently, more than 1,100 municipal advisors are registered with the SEC under a temporary registration regime.  The SEC staff may provide periodic updates to the interpretive guidance issued today.

SEC ISSUES ANNUAL REPORT ON CREDIT RATING AGENCIES

FROM:  U.S. SECURITIES AND EXCHANGE COMMISSION 

The Securities and Exchange Commission issued its annual staff report on the findings of examinations of credit rating agencies registered as nationally recognized statistical rating organizations (NRSROs).  The agency also submitted an annual staff report on NRSROs to Congress.

“The two reports reflect an evolving industry,” said Thomas J. Butler, director of the SEC’s Office of Credit Ratings.  “The examination report shows that the SEC’s vigilant oversight is improving compliance at NRSROs, while the annual report to Congress depicts an industry that is growing more competitive and transparent.”

The 2010 Dodd-Frank Act requires the SEC to examine each NRSRO at least annually and issue a report summarizing key findings of the examinations.  The report discusses the staff’s findings and recommendations for each of the 10 NRSROs.  Among the areas examined are whether each NRSRO conducts business in accordance with its policies, procedures, and methodologies as well as how an NRSRO manages conflicts of interest and whether it maintains effective internal controls.

The report noted, for instance, that the staff found one or more NRSROs lacked comprehensive procedures governing ratings placed under review.  The staff also found that oversight of the process for developing new rating methodologies and criteria was not sufficient at one or more NRSROs to ensure independence from business and market share considerations.

The 2013 examination report highlights certain improvements among NRSROs, such as increased investment in compliance systems and infrastructure along with enhancements in compliance training for both analytical and non-analytical employees.  These improvements address recommendations that the staff made to NRSROs on prior examinations.

The annual report to Congress, which is required by the 2006 Credit Rating Agency Reform Act, identifies the applicants for NRSRO registration, actions taken on the applications, and the SEC’s views on the state of competition, transparency, and conflicts of interest among NRSROs.

Observations from the 2013 annual report include the following:

The number of NRSROs rose to 10 with HR Ratings de México, S.A. de C.V., registering in November 2012.
Some smaller NRSROs have gained significant market share in ratings for certain types of asset-backed securities.
Transparency is increasing due to the NRSROs issuing unsolicited commentary on ratings issued by other NRSROs.

The following SEC staff made significant contributions to the examinations and reports: Abe Losice, Michele Wilham, Kenneth Godwin, Natalia Kaden, Harriet Orol, Jacob Prudhomme, Diane Audino, Kristin Costello, Scott Davey, Shawn Davis, Michael Gerity, Julia Kiel, Joanne Legomsky, Russell Long, Carlos Maymi, David Nicolardi, Sam Nikoomanesh, Joseph Opron, Abraham Putney, Mary Ryan, Warren Tong, Evelyn Tuntono, and Kevin Vasel.

CFTC COMMISSIONER WETJEN'S STATEMENT ON THE VOLCKER RULE

FROM:  COMMODITY FUTURES TRADING COMMISSION 
Statement of Commissioner Mark Wetjen on the Volcker Rule

December 10, 2013

Thank you Chairman Gensler, and my thanks to the professional staff for the hard work they put into the rulemaking before us today.

The Volcker Rule, like many of the commission’s rules, is focused on the policy objective of compelling banks to limit or better manage risk in a way that lowers the odds of a taxpayer-financed bailout, or, short of that, a failure of one of those firms. Dodd-Frank tasked the prudential and market regulators with implementing that objective, and I believe the release before us today will do so appropriately.

Congress also sensibly required that the prudential regulators adopt a joint Volcker rule, and that the market regulators coordinate with the prudential regulators in their rulemaking efforts. One of the true hallmarks of today’s rule is that the market regulators involved went beyond the congressional requirement to simply coordinate. In fact, the rule before us today reflects the same substantive text as that adopted by the other agencies, and contains no substantive differences in the preamble language.

Building a consensus among five different government agencies is no easy task, and the level of coordination on a complicated rulemaking such as this is remarkable. Commission staff and the staffs of the Federal Reserve, the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation and the Securities Exchange Commission deserve special recognition for this feat alone.

I also believe Secretary Lew, Under Secretary Miller and other officials at the Treasury department deserve enormous credit for their role in helping coordinate the rulemaking effort. And finally, the heads of the involved agencies, including Chairman Gensler, deserve credit as well for their work in bringing today’s releases over the finish line.

The Volcker Rule is one of the last remaining CFTC rulemakings required by Dodd-Frank. Beyond this effort, almost all of the commission’s Dodd-Frank rules have been, or are in the process of being, implemented.

For this we can thank Chairman Gensler’s leadership. Today there is transparency in the swaps market where virtually none existed before. Swap dealers and major swap participants are registered. Swaps are promptly reported to swap data repositories. Most liquid swaps are now cleared. And soon many will be traded on a regulated platform for the first time. For his efforts on the Volcker Rule and the rest of his work in leading the CFTC to implement Title VII of Dodd-Frank, Chairman Gensler has done a tremendous service to the American public and the markets this agency regulates.

CFTC PROPOSES RULE REGARDING MEMBERSHIP IN REGISTERED FUTURES ASSOCIATION

FROM:  U.S. COMMODITY FUTURES TRADING COMMISSION

CFTC Issues Proposed Rule to Require All Registered Introducing Brokers, Commodity Pool Operators, and Commodity Trading Advisors to Become and Remain Members of a Registered Futures Association

Washington, DC —The Commodity Futures Trading Commission (CFTC or Commission) proposed a rule today to amend its regulations to require that all persons registered with the Commission as introducing brokers (IBs), commodity pool operators (CPOs), and commodity trading advisors (CTAs) become and remain members of at least one registered futures association (RFA). Currently, the National Futures Association (NFA) is the only RFA.

The Commission is proposing new Section 170.17 to address recent changes to the Commodity Exchange Act (CEA) by the Dodd-Frank Wall Street Reform and Consumer Protection Act and the Commission’s authority to regulate swaps. Currently, under Sections 170.15 and 170.16 of the Commission’s regulations, all registered futures commission merchants (FCMs), swap dealers (SDs) and major swap participants (MSPs) are required to become members of NFA. However, there is no mandatory membership requirement for other registrants. Through the interaction of the Commission’s rules and NFA Bylaw 1101, any IB, CPO or CTA required to be registered with the Commission that desires to conduct business directly with an FCM, SD, or MSP must become a member of NFA, and derivatively, must ensure that it conducts business only with those IBs, CPOs or CTAs that also are NFA members. However, due to the unique nature of swap transactions, it may be possible for certain IBs, CPOs or CTAs to not be captured by the intersection of Sections 170.15 or 170.16 and NFA Bylaw 1101, and therefore, it may be possible for these Commission registrants to serve clients without becoming members of NFA. The Commission intends the proposed rule to avoid this possibility.

The comment period for the proposed rule will remain open for 60 days after publication in the Federal Register.

CFTC COMMISSIONER CHILTON'S STATEMENT ON POSITION LIMITS MEETING

FROM:  U.S. COMMODITY FUTURES TRADING COMMISSION 
“At Last”

Statement of Commissioner Bart Chilton, Dodd-Frank Meeting on Position Limits

November 5, 2013

For two reasons, this is a significant day for me.  I am reminded of that great Etta James song, At Last.

The first reason is that, at last, we are considering what I believe to be the signal rule of my tenure here at the Commission; I’ve been working on speculative position limits since 2008. The second reason today is noteworthy is that this will be my last Dodd-Frank meeting.  Early this morning, I sent a letter to the President expressing my intent to leave the Agency in the near future. I’ve waited until now—today—to get this proposed rule out the door, and now—at last—with the process coming nearly full circle, I can leave. It’s with incredible excitement and enthusiasm that I look forward to being able to move on to other endeavors.

With that, here is a bit of history on the position limits journey that has led us, and me, to this day.  The early spring of 2008 was a peculiar time at the Commission.  None of my current colleagues were here.  I and my colleagues at that time watched Bear Stearns fail. We had watched commodity prices rise as investors sought diversified financial havens.  When I asked Commission staff about the influence of speculation on prices, some said speculative positions couldn’t impact prices.  It didn’t ring true, and as numerous independent studies have confirmed since, it was not true.

I began urging the Commission to implement speculative position limits under our then-existing authority.  And I was, at that time, the only Commissioner to support position limits.  Given the concerns, I urged Congress to mandate limits in legislation. A Senate bill was blocked on a cloture vote that summer, but late in the session, the House actually passed legislation.  Finally, in 2010, as part of the Dodd-Frank law, Congress mandated the Commission to implement position limits by early in 2011.

Within the Commission, I supported passing a rule that would have complied with the time-frame established by Congress—by any other name—federal law. A position limits rule was proposed in January of 2011 and finally approved in November.

In September 2012, literally days before limits were to be effective, a federal district court ruling tossed the rule out, claiming the CFTC had not sufficiently provided rationale for imposing the rule.  We appealed and I urged us to address the concerns of the court by proposing and quickly passing another new and improved rule.  I thought and hoped that we could move rapidly.  After months of delay and deferral, it became clear: we could not.

But today—at last—more than three years since Dodd-Frank’s passage, we are here to take it to the limits one more time.

Thankfully, we have it right in the text before us. The Commission staff has ultimately done an admirable job of devising a proposed regulation that should be unassailable in court, good for markets and good for consumers.

I thank everyone who has worked upon the rule: Steve Sherrod, Riva Adriance, Ajay Sutaria, Scott Mixon, Mary Connelly, and many others for their good work.

In addition, I especially thank Elizabeth Ritter, my Chief of Staff, Nancy Doyle, and also Salman Banaei who has left the Agency for greener pastures. I thank them for their tireless efforts on the single most important, and perhaps to me the most frustrating, policy issue of my tenure with the Commission. I have had the true honor of working with Elizabeth since prior to my confirmation. I would be remiss if I did not reiterate here what I have often said; nowhere do I believe there is a brighter, smarter, more knowledgeable and hard-working derivatives counsel. She has served the public and me phenomenally well. Thank you, Elizabeth.

And finally to my colleagues, past and present, my respect to those whom we have been unable to persuade to vote with us on this issue, and my thanks to those who will vote in support of this needed and mandated rule. At last!

Thank you.