SEC CHAIRMAN MARY SCHAPIRO SPEECH ON REGISTRATION OF SECURITIES FOR BASED SWAP DEALERS AND PARTICIPANTS AT OPEN MEETING

The following excerpt is from the SEC website: “Washington, D.C. October 12, 2011 We will next consider a proposal that would establish registration rules for security-based swap dealers and major security-based swap participants. As with our prior proposals regarding security-based swaps, today’s proposal stems from Title VII of the Dodd-Frank Act. Among other things, the Act authorizes the Commission to put in place a regulatory framework for entities that effect transactions in these derivatives. Registering the major market participants in the largely unregulated security-based swap markets is a critical step toward better protecting investors. Today’s proposal draws from our experience with registration rules regarding broker-dealers — rules that are familiar to many market participants. However, there are some differences. For instance, today’s proposal would require that a senior officer of each security-based swap registrant provide a certification to the Commission. That proposed certification would provide assurance as to the registrant’s financial, operational, and compliance capabilities. We ask a series of detailed questions about this approach, and whether there are other ways to fulfill the purpose of such a certification. Additionally, although the proposed rules and forms are not identical to those proposed by the CFTC for a number of reasons, they are similar in many significant ways. Importantly, both proposed registration regimes would provide for a conditional or phased implementation to allow firms to register even before full compliance is required. In addition, firms that must register with both the CFTC and the SEC would — under the proposal — be able to prepare a shortened registration form. After proposing all of the key rules under Title VII, we intend to seek public comment on a detailed implementation plan that will permit a roll-out of the new securities-based swap requirements in a logical, progressive, and efficient manner, while minimizing unnecessary disruption and costs to the markets. We expect to propose the last of the Title VII rules — rules regarding capital, margin, segregation, and recordkeeping requirements for security-based swaps — in the near future, as well as a proposed approach to address cross-border security-based swap transactions and the regulatory treatment of non-U.S. persons who act in capacities regulated under the Dodd-Frank Act. Before I turn to David Blass from the Division of Trading and Markets to discuss the proposed rules, I would like to thank David, as well as Joe Furey, Bonnie Gauch, Darren Vieira, and Nathaniel Stankard from the Division of Trading and Markets for their hard work on this rulemaking. I also would like to thank Meridith Mitchell, Paula Jenson and Uzma Wahhab from the Office of General Counsel; Jennifer Marietta-Westberg, Scott Bauguess, Jeff Naumann and Charles Dale from the Division of Risk, Strategy, and Financial Innovation; Norm Champ, John Polise, Juanita Bishop-Hamlet, Judy Lee, and Christine Sibille from the Office of Compliance Inspections and Examinations; Jeffrey Cohan in the Office of the Chief Accountant; Jason Anthony in the Division of Enforcement; and Kathleen Kelley in the Office of International Affairs. And finally, of course, I would like to thank my colleagues on the Commission and their counsels for their work and comments on the proposed rules."

SEC COMMISSIONER AGUILAR SPEAKS ON SECURITY-BASED SWAPS

The following is an excerpt from the SEC website: “SEC Open Meeting Washington, D.C. October 12, 2011 In light of the critical role played by unregulated derivatives in the financial crisis of 2008, Congress created a comprehensive regulatory regime for derivatives in Title VII of the Dodd-Frank Act designed to promote, among other things, the financial stability of the United States by improving accountability and transparency in the financial system. However, this regulatory regime cannot go into effect until the primary regulators promulgate and adopt rules that implement this regime. One component of these Title VII reforms is the requirement that security-based swap dealers and major security-based swap participants register and be overseen by the Commission. Today, we consider proposed rules that would implement this provision of Title VII by requiring these entities to register with the Commission. As always, I welcome public comment on today’s proposal. Currently, the proposed rules require a knowledgeable senior officer to certify that the entity applying for registration has the operational, financial, and compliance capabilities to conduct its security-based swaps business. As we move to adopt these rules, I am particularly interested in comments addressing the most effective way to ensure that SBS entities have the capabilities required to fulfill the crucial roles they occupy. I will vote to support this proposal, and I join my colleagues in thanking the staff for their work.”

SEC COMMISSIONER PAREDES PROPOSES BUSINESS CONDUCT STANDARDS FOR SECURITY-BASED SWAPS

The following is an excerpt from the SEC website:

"Speech by SEC Commissioner:
Statement at Open Meeting to Propose Business Conduct Standards for Security-Based Swap Dealers and Major Security-Based Swap Participants
by
Commissioner Troy A. Paredes
U.S. Securities and Exchange Commission
Washington, D.C.
June 29, 2011
Thank you, Chairman Schapiro.

The Dodd-Frank Act sets out a new regime to regulate the security-based swap (“SBS”) market. To this end, Section 764 of Dodd-Frank amends the Exchange Act to provide for new rules, to be promulgated by the SEC, that establish business conduct standards for security-based swap dealers and major security-based swap participants (“SBS Entities”). Pursuant to this authority, the Commission is advancing the proposal we are considering this morning.

I support the recommendation before us. But we need to be mindful that, depending on how the new regulatory regime ultimately takes shape, certain parties – most notably, certain special entities – could lose access to the security-based swap market, and those states, municipalities, pension plans, endowments, and other counterparties of SBS Entities that can access the SBS market could find it more costly to transact. If SBS Entities become less willing to transact with certain counterparties because the business conduct standards prove to be too burdensome and unpredictable, those counterparties may lose out on the benefits that SBS transactions afford them, such as more efficient risk management. To this point, it is worth recognizing that the Commission’s proposed business conduct standards go beyond what the agency is mandated by Dodd-Frank to promulgate.

The proposing release solicits comment on a range of topics and asks a number of thoughtful questions. As always, I look forward to considering the comments we will receive. I am particularly interested in comments that address the following:

The release acknowledges that the Commission is proposing more business conduct obligations than Dodd-Frank requires. “Know your counterparty” requirements and “suitability” standards are just two features of the proposal that would add to what Dodd-Frank mandates. What are the potential consequences of these additional obligations when layered on top of what Dodd-Frank requires? To what extent, and in what ways, might these additional regulatory demands impact a market participant’s access to SBS transactions?

If adopted, how will the proposal likely impact the ability of special entities to transact in security-based swaps? What consequences will special entities face if they find it more difficult to access the SBS market?

Just as one recognizes the benefits of the new regulatory regime, one also should consider that certain costs of the proposal might ultimately be borne by special entities and other counterparties of SBS Entities. Accordingly, to what extent should an intended beneficiary of the regime be afforded more choice to decide for itself the degree of protection it wants from regulation? In other words, under what circumstances, if any, should the counterparty of an SBS Entity be allowed to opt out of some or all of the new regulation?

The proposing release explains, “[A]bsent special circumstances, it would be appropriate for SBS Entities to rely on counterparty representations in connection with certain specific requirements under the proposed rules.” The release offers two alternatives for when it might not be appropriate for an SBS Entity to rely on a counterparty’s representations. Under one alternative, an SBS Entity could rely on a counterparty’s representation “unless [the SBS Entity] knows that the representation is not accurate.” Under the second alternative, an SBS Entity could rely on a counterparty’s representation “unless the SBS Entity has information that would cause a reasonable person to question the accuracy of the representation.”

I am keenly interested in commenters’ views on the pros and cons of these two alternatives. For example, under which alternative would an SBS Entity have greater legal certainty concerning its business conduct obligations? If an SBS dealer is not confident that it can rely on a special entity’s representations in establishing that the dealer is not advising the special entity, will the SBS dealer be less willing to transact with the special entity?

The proposal states that an SBS dealer “acts as an advisor to a special entity,” thus triggering a duty to act in the “best interests of the special entity,” when the SBS dealer makes a recommendation, unless certain conditions are met. Should a dealer have to do more than make a recommendation to be found to be acting as an advisor? How, if at all, should the “best interests” standard be defined to address the tension that may arise if an SBS dealer finds itself acting as both a counterparty and an advisor to a special entity?

I am interested in hearing from commenters on how, if at all, the Commission’s rulemaking should account for any concerns that are presented when the SEC’s business conduct regime and the Department of Labor’s ERISA fiduciary regime interact.

I join my colleagues in thanking the staff – particularly those from the Division of Trading and Markets – for your hard work on this rulemaking."

SEC OFFERS MORE GUIDANCE ON SECURITY-BASED SWAPS

The following excerpt came from the SEC website:

“Washington, D.C., July 1, 2011 — The Securities and Exchange Commission today provided additional guidance to clarify which U.S. securities laws will apply to security-based swaps starting July 16 -- the effective date of Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

That Act created a new regulatory framework for over-the-counter derivatives, authorizing the SEC to regulate security-based swaps and the Commodity Futures Trading Commission to regulate other swaps. Under the Dodd-Frank Act, starting July 16, 2011, security-based swaps are defined as “securities” subject to existing federal securities laws, including the Securities Act of 1933 and the Securities Exchange Act of 1934.

As one part of today’s action, the Commission approved an order granting temporary relief and interpretive guidance to make clear that a substantial number of the requirements of the Exchange Act applicable to securities will not apply to security-based swaps when the revised definition of “security” goes into effect on July 16. Nevertheless, federal securities laws prohibiting fraud and manipulation will continue to apply to security-based swaps after that date. To enhance legal certainty for market participants, the Commission also provided temporary relief from provisions of U.S. securities laws that allow the voiding of contracts made in violation of those laws.

“As we move forward with the implementation of the Dodd-Frank Act, this temporary relief will help maintain the existing legal framework for security-based swaps under the Exchange Act until the Commission adopts new rules for these transactions,” said Robert Cook, Director of the SEC’s Division of Trading and Markets.

In addition, the Commission approved an interim final rule providing exemptions from the Securities Act, Trust Indenture Act and other provisions of the federal securities laws to allow certain security-based swaps to continue to trade and be cleared as they have pre-Dodd-Frank. That interim relief will extend until the Commission adopts rules further defining “security-based swap” and “eligible contract participant.”
The Commission previously issued guidance in this area on June 15 and plans additional steps in coming days related to the July 16 effective date. Although these actions have been approved, the Commission is seeking input from the public on today’s actions.”

SEC PROPOSES DEFINITIONS REGARDING SWAPS

The need for clarity is important if our financial system is to survive. It is the role of government to make such rules that everyone involved can understand. During the past several years definitions of all types of new securities were blurred by those who were either ignorant or more probably, trying to confuse both governmental oversight agencies and the general public. Terms like “Swap” and "insurance" were often mixed or mismatched. The following excerpt is from the SEC web site and it is intended to clarify definitions regarding swaps:

“ Washington, D.C., April 27, 2011 — The Securities and Exchange Commission today voted unanimously to propose rules further defining the terms “swap,” “security-based swap,” and “security-based swap agreement.”
The Commission also proposed rules regarding “mixed swaps” and books and records for “security-based swap agreements.”
The rules were proposed jointly with the Commodity Futures Trading Commission (CFTC) and stem from the Dodd-Frank Wall Street Reform and Consumer Protection Act.
“The proposed definitions balance several policy and legal issues in a way I believe is practical, takes into account the specific nature of derivatives contracts, and is consistent with existing securities regulations,” said SEC Chairman Mary L. Schapiro. “The proposal seeks to provide guidance in rules and interpretations by using clear and objective criteria that should clarify whether a particular instrument is a swap regulated by the CFTC, a security-based swap regulated by the SEC, or a mixed swap regulated by both agencies.”
Public comments on the rule proposal should be received within 60 days after it is published in the Federal Register.
The SEC still has several more rules it must propose under Title VII of the Dodd-Frank Act and continues to welcome comments on those rulemakings that have already been proposed. When all of those rulemaking proposals have been completed, the SEC will consider what additional opportunity for public comment would be appropriate for its Dodd-Frank Act Title VII rules.
# # #
FACT SHEET
Proposals to Further Define Terms in Title VII of the Dodd-Frank Act
Background
The Dodd-Frank Act established a comprehensive framework for regulating the over-the-counter swaps markets. In particular, the Act provides that the SEC will regulate “security-based swaps,” the CFTC will regulate other “swaps,” and the CFTC and the SEC will jointly regulate “mixed swaps.”
Title VII of the Dodd-Frank Act requires that both the SEC and CFTC, in consultation with the Board of Governors of the Federal Reserve System, shall jointly further define the terms “swap,” “security-based swap,” and “security-based swap agreement.” Title VII further provides that the SEC and CFTC shall jointly establish such regulations regarding “mixed swaps” as may be necessary to carry out the purposes of swap and security-based swap regulation under Title VII.
In addition, Title VII requires the SEC and CFTC to jointly adopt rules governing the way in which books and records must be kept for security-based swap agreements. These rules would apply to those entities registered as swap data repositories under the Commodity Exchange Act or registered as swap dealers, major swap participants, security-based swap dealers, and major security-based swap participants.
The Proposal
The joint proposal of the SEC and the CFTC would add rules under the Securities Exchange Act of 1934 and provide interpretive guidance regarding which products would – and would not – be considered a “swap” or a “security-based swap” (referred to collectively in the proposing release as “Title VII instruments”).
Products That Are Not “Swaps” or “Security-Based Swaps”
Insurance: Under the proposed rule and interpretive guidance, insurance products would not be considered swaps or security-based swaps. To be considered insurance, the rules would require that both the product as well as the person or entity providing the product must meet certain criteria. The interpretive guidance would provide that certain types of products must be provided by a person or entity that meets certain criteria in order to be considered insurance.
Among other things, the beneficiary of the insurance product must have an insurable interest and thereby bear the risk of loss with respect to that interest continuously throughout the duration of the agreement, contract, or transaction.
Additionally:
The loss must occur and be proved.
Any payment or indemnification for loss must be limited to the value of the insurable interest.
The agreement, contract or transaction must not be traded, separately from the insured interest, on an organized market or over-the-counter.
With respect to financial guaranty insurance only, in the event of a payment default or insolvency of the obligor, any acceleration of payments under the policy must be at the sole discretion of the insurer.
A person or entity providing the insurance product must be one of the following:
An insurance company whose primary and predominant business activity is insuring or reinsuring risks underwritten by insurance companies, subject to supervision by a state or federal insurance commissioner.
The United States or any of its agencies or instrumentalities.
In the case of reinsurance, a person located outside the United States providing the agreement, contract or transaction to an insurance company eligible under the proposed rules, provided that:

Such person is not otherwise prohibited by law from offering the agreement, contract, or transaction to such an insurance company.
The product to be reinsured meets the requirements under the proposed rules to be an insurance product.
The total amount reimbursable by all reinsurers for such insurance product cannot exceed the claims or losses paid by the cedant.
In some cases, under the proposed interpretive guidance, certain types of products that may not meet the proposed criteria would still be considered insurance, and not swaps or security-based swaps, if those products are offered by a regulated insurance company. These products include surety bonds, life insurance, health insurance, long-term care insurance, title insurance, property and casualty insurance, and annuity products the income on which is subject to tax treatment under Section 72 of the Internal Revenue Code.
Security forwards: The SEC proposed interpretive guidance clarifying that security forwards fall outside the definitions of swap and security-based swap. This includes the treatment of mortgage backed securities that are eligible to be sold in the “to-be-announced” or “TBA” market.
Consumer and Commercial Transactions: The SEC also proposed interpretive guidance describing the way in which certain consumer and commercial transactions fall outside the definitions of swap and security-based swap.
Consumer Transactions
Under the proposed interpretive guidance, certain agreements, contracts or transactions entered into by consumers primarily for personal, family or household purposes should not be considered swaps or security-based swaps.
They include agreements, contracts or transactions:
To acquire or lease real or personal property, to obtain a mortgage, to provide personal services, or to sell or assign rights owned by such consumer (such as intellectual property rights).
That provide for an interest rate cap or lock on a consumer loan or mortgage, where the benefit of the rate cap or lock is realized by the consumer only if the loan or mortgage is made thereto.
They also include consumer loans or mortgages with variable rates of interest, including such loans with provisions for the rates to change upon certain events related to the consumer, such as a higher rate of interest following a default.
Commercial Transactions
Under the proposed interpretive guidance, commercial agreements, contracts, or transactions that involve customary business or commercial arrangements (whether or not involving a for-profit entity) would not be considered swaps or security-based swaps.
They include:
Employment contracts and retirement benefit arrangements.
Sales, servicing, or distribution arrangements.
Agreements, contracts, or transactions for the purpose of effecting a business combination transaction.
The purchase, sale, lease, or transfer of real property, intellectual property, equipment, or inventory.
Warehouse lending arrangements in connection with building an inventory of assets in anticipation of a securitization of such assets (such as in a securitization of mortgages, student loans, or receivables).
Mortgage or mortgage purchase commitments, or sales of installment loan agreements or contracts or receivables.
Fixed or variable interest rate commercial loans entered into by non-banks.
Commercial agreements, contracts, and transactions (including, but not limited to, leases, service contracts, and employment agreements) containing escalation clauses linked to an underlying commodity such as an interest rate or consumer price index.
The consumer and commercial transactions listed in the proposed guidance are not an exhaustive list of transactions that should not be considered swaps or security-based swaps. The proposed guidance provides for certain factors the Commissions will consider in determining whether consumer and commercial transactions that are not listed are swaps or security-based swaps.
Transactions That Are “Swaps” or Security-Based Swaps”
The SEC proposed a rule and interpretive guidance that the following transactions fall within the definition of swap or security-based swap: foreign exchange forwards, foreign exchange swaps, foreign currency options (other than foreign currency options traded on a national securities exchange), non-deliverable forward contracts involving foreign exchange, currency and cross-currency swaps, forward rate agreements, contracts for differences, and certain combinations and permutations of (or options on) swaps and security-based swaps.
In its proposed interpretive guidance, the SEC would clarify whether particular agreements, contracts or transactions are swaps, security-based swaps, or mixed swaps. Among other things, the proposed guidance would provide that such a determination is to be made at the inception of the Title VII instrument and that such a characterization would remain throughout the life of the instrument unless the instrument is amended or modified.
Interest Rates, Other Monetary Rates and Yields: Under the proposed interpretive guidance, Title VII instruments on interest rates and other monetary rates would be swaps. And, Title VII instruments on “yields” – where “yield” is a proxy for the price or value of a debt security, loan, or narrow-based security index – would be security-based swaps, except in the case of certain exempted securities.
Meanwhile, Title VII instruments on rates or yields of U.S. Treasuries and certain other exempted securities (other than municipal securities) would be swaps and not security-based swaps.
Total Return Swaps: Under the proposed interpretive guidance, a Total Return Swap, or TRS, on a single security, loan, or narrow-based security index generally would be a security-based swap. Where counterparties embed interest-rate optionality or a non-securities component into the TRS (e.g., the price of oil, a currency hedge), it would be a mixed swap.
Title VII Instruments Based on Futures: Under the proposed interpretive guidance, Title VII instruments on futures (other than futures on foreign government debt securities) would generally be swaps and Title VII instruments on security futures would generally be security-based swaps.
Swaps and Security-Based Swaps Based on Security Indexes
The SEC proposed rules and interpretive guidance regarding the applicability of the “narrow-based security index” definition to certain products, including proposed rules regarding the definition of “narrow-based security index” and “issuers of securities in a narrow-based security index” for index credit default swaps (index CDS).
The SEC also proposed rules and interpretive guidance regarding the definition of a security index and the evaluation of Title VII instruments based on security indexes that migrate from broad-based to narrow-based and vice versa.
The SEC proposed rules and interpretive guidance regarding the term “narrow-based security index” in the security-based swap definition, including:
The existing criteria for determining whether a security index is a narrow-based security index and the applicability of past guidance of the SEC and CFTC regarding those criteria to Title VII instruments.
New criteria for determining whether an index CDS where the underlying reference is a group or index of entities or obligations of entities is based on an index that is a narrow-based security index.
The meaning of the term “index.”

A rule governing the tolerance period for Title VII instruments on security indexes traded on designated contract markets (DCMs), swap execution facilities (SEFs), foreign boards of trade (FBOTs), security-based SEFs, or national securities exchanges (NSEs), where the security index temporarily moves from broad-based to narrow-based or from narrow-based to broad-based.
A rule governing the grace period for Title VII instruments on security indexes traded on DCMs, SEFs, FBOTs, security-based SEFs, or NSEs, where the security index moves from broad-based to narrow-based or from narrow-based to broad-based and the move is not temporary.
If a broad-based index CDS requires mandatory physical settlement, it would be a mixed swap.
If a broad-based index CDS requires cash settlement or auction settlement, it would be a swap, and would not be considered a security-based swap or a mixed swap solely because the determination of the cash price to be paid is established through a security or loan auction.
Mixed Swaps
The SEC proposed interpretive guidance regarding the scope of the mixed swap category, which both the SEC and CFTC believe to be narrow.
The SEC also proposed rules and interpretive guidance that mixed swaps would remain subject to the entirety of the SEC and CFTC regulatory regimes, but that for bilateral uncleared mixed swaps entered into by at least one dually-regulated swap and security-based swap dealer or major swap and security-based swap participant, certain regulatory requirements would apply.
In addition, the SEC proposed a rule establishing a process, for all other mixed swaps, by which persons may request modified regulatory treatment by joint order of the SEC and CFTC.
Security-Based Swap Agreements
The SEC proposed interpretative guidance regarding certain products that are security-based swap agreements (SBSA). It also proposed a rule requiring market participants to maintain the same books and records for security-based swap agreements as they would under the CFTC’s proposed books and records requirements for swaps.
Interpretation of the Characterization of a Product
The SEC proposed a rule establishing a process that would allow market participants or either the SEC or CFTC to request a determination from the SEC and CFTC of whether a product is a swap, security-based swap, or both (i.e., a mixed swap).”

5 AGENCIES ASK FOR COMMENTS ON SWAP MARGIN AND CAPITAL REQUIREMENTS

The following was found on the FDIC blog site:

"Five federal agencies are seeking comment on a proposed rule to establish margin and capital requirements for swap dealers, major swap participants, security-based swap dealers, and major security-based swap participants as required by the Dodd-Frank Wall Street Reform and Consumer Protection Act.

The rule is proposed by the Federal Reserve Board, the Farm Credit Administration, the Federal Deposit Insurance Corporation, the Federal Housing Finance Agency, and the Office of the Comptroller of the Currency. The proposed rule would require swap entities regulated by the five agencies to collect minimum amounts of initial margin and variation margin from counterparties to non-cleared swaps and non-cleared, security-based swaps


The amount of margin that would be required under the proposed rule would vary based on the relative risk of the counterparty and of the swap or security-based swap. A swap entity would not be required to collect margin from a commercial end user as long as its margin exposure is below an appropriate credit exposure limit established by the swap entity. A swap entity would also not be required to collect margin from low-risk financial end users as long as its margin exposure does not exceed a specific threshold. The proposed margin requirements would apply to new, non-cleared swaps or security-based swaps entered into after the proposed rule's effective date. The proposal also seeks comment on several alternative approaches to establishing margin requirements.

Provisions in the Dodd-Frank Act also require the agencies to establish capital requirements for regulated swap entities. The proposed rule would implement these provisions by requiring swap entities to comply with the existing capital standards that apply to those entities as part of their prudential regulation, as those capital standards already address non-cleared swaps and non-cleared, security-based swaps.

Staff of the agencies consulted with staff of the Commodity Futures Trading Commission and the U.S. Securities and Exchange Commission in developing the proposed rule.

The agencies request comments on the proposed rule by June 24, 2011."