FROM: U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C., Dec. 10, 2012 — The Securities and Exchange Commission today announced charges against eight former members of the boards of directors overseeing five Memphis, Tenn.-based mutual funds for violating their asset pricing responsibilities under the federal securities laws.
The funds, which were invested in some securities backed by subprime mortgages, fraudulently overstated the value of their securities as the housing market was on the brink of financial crisis in 2007. The SEC and other regulators previously charged the funds’ managers with fraud, and the firms later agreed to pay $200 million to settle the charges.
Under the securities laws, fund directors are responsible for determining the fair value of fund securities for which market quotations are not readily available. According to the SEC’s order instituting administrative proceedings against the eight directors, they delegated their fair valuation responsibility to a valuation committee without providing meaningful substantive guidance on how fair valuation determinations should be made. The fund directors then made no meaningful effort to learn how fair values were being determined. They received only limited information about the factors involved with the funds’ fair value determinations, and obtained almost no information explaining why particular fair values were assigned to portfolio securities.
"Investors rely on board members to establish an accurate process for valuing their mutual fund investments. Otherwise, they are left in the dark about the value of their investments and handicapped in their ability to make informed decisions," said Robert Khuzami, Director of the SEC’s Division of Enforcement. "Had the board not abdicated its responsibilities, investors may have stood a better chance of preserving their hard-earned nest assets."
The SEC Enforcement Division’s Asset Management Unit continues to prioritize asset valuation investigations, with recent enforcement actions including charges against three top executives at New York-based KCAP Financial and two executives at former $1 billion hedge fund advisory firm Yorkville Advisors LLC.
According to the SEC’s order, the eight directors’ failure to fulfill their fair value-related obligations was particularly inexcusable given that fair-valued securities made up the majority of the funds’ net asset values – in most cases more than 60 percent. The mutual funds involved were the RMK High Income Fund, RMK Multi-Sector High Income Fund, RMK Strategic Income Fund, RMK Advantage Income Fund, and Morgan Keegan Select Fund.
The SEC Enforcement Division alleges that the directors caused the funds to violate the federal securities laws by failing to adopt and implement meaningful fair valuation methodologies and procedures and failing to maintain internal control over financial reporting. For example, the funds’ valuation procedures did not include any mechanism for identifying and reviewing fair-valued securities whose prices remained unchanged for weeks, months, and even entire quarters.
"While it is understood that fund directors typically assign others the daily task of calculating the fair value of each security in a fund’s portfolio, at a minimum they must determine the method, understand the process, and continuously evaluate the appropriateness of the method used," said William Hicks, Associate Regional Director of the SEC’s Atlanta Regional Office.
According to the SEC’s order, the funds’ valuation procedures required that the directors be given explanatory notes for the fair values assigned to securities. However, no such notes were ever provided to the directors, and they never followed up to request such notes or any other specific information about the basis for the assigned fair values. In fact, Morgan Keegan’s Fund Accounting unit, which assigned values to the securities, did not utilize reasonable procedures and often allowed the portfolio manager to arbitrarily set values. As a result, the net asset values of the funds were materially misstated in 2007 from at least March 31 to August 9. Consequently, the prices at which one open-end fund sold, redeemed, and repurchased its shares were inaccurate. Furthermore, other reports and at least one registration statement filed by the funds with the SEC contained net asset values that were materially misstated.
FROM: U.S. SECURITIES AND EXCHANGE COMMISSION
The Securities and Exchange Commission today charged New York-based fund manager Steven B. Hart (Hart) with repeated violations of the federal securities laws related to two distinct multi-year trading schemes, involving illegal matched trading and insider trading. In addition, the Commission charged Hart with making fraudulent representations in two securities purchase agreements.
The SEC alleges that from January 17, 2008 through June 4, 2009, Hart used his control of Octagon Capital Partners, LP, a small investment fund he controls, and his position of authority at an investment fund for which he was employed as a portfolio manager to direct thirty-one matched trades between the two investment funds, benefitting Octagon at the expense his employer's fund. Generally, Hart caused Octagon to purchase stock in small, thinly traded issuers at the going market price and, on the following day, sold the same stock to his employer's fund at a price substantially above the prevailing market price. Each of the sales from Octagon to the employer's fund occurred in premarket trading; thus, Hart ensured that the trades matched. Later that same day or within a few days of the matched trades, the employer's fund, at Hart's direction, sold the recently-acquired stock on the open market at a loss. As a result of this scheme, Hart generated ill-gotten gains of $586,338 for Octagon.
According to the SEC's complaint, Hart, after being confidentially solicited to invest in numerous securities offerings - and despite expressly agreeing to keep the information he received confidential and to not trade on it by agreeing to go "over-the-wall" - nevertheless traded on behalf of Octagon while in possession of material nonpublic information concerning the offerings. From June 19, 2007 through March 15, 2011, in breach of a duty of trust or confidence, Hart directed trades in the securities of nineteen issuers conducting twenty separate offerings, including PIPEs, registered direct offerings, and confidentially marketed public offerings. As a result of Hart's conduct, Octagon derived ill-gotten gains of $244,733.
In addition, on two occasions, in order to induce issuers to sell securities to his fund, Hart signed securities purchase agreements falsely representing that, after he was solicited, Octagon had not traded the issuers' securities in the days leading up to the public announcement of the transactions. Despite going "over-the-wall" during the solicitation process for the offerings, Hart nevertheless directed short sales of the issuer's securities, realizing insider trading gains, and subsequently signed the securities purchase agreements.
The SEC filed action in the U.S. District Court for the Southern District of New York against Hart, alleging violations of Section 17(a) of the Securities Act of 1933, Section 10(b) of the Securities Exchange Act of 1934, and Rule 10b-5 thereunder, and Sections 206(1) and 206(2) of the Investment Advisers Act of 1940. Without admitting or denying the allegations of the complaint, Hart consented to the entry of a judgment enjoining him from future violations of the respective provisions of the Securities Act, Exchange Act, and Advisers Act. Hart also agreed to pay $831,071 in disgorgement and $103,424 in prejudgment interest, and a civil penalty of $394,733. The settlement is subject to court approval.
The SEC's investigation was conducted in the New York Regional Office by Celeste A. Chase, Eduardo A. Santiago-Acevedo, and Osman E. Nawaz, with assistance from Frank J. Milewski. The SEC acknowledges the assistance of the Financial Industry Regulatory Authority (FINRA) in this matter.
FROM: U.S. COMMODITY FUTURES TRADING COMMISSION
Court finds that defendants fraudulently solicited and accepted over $1.4 million from customers to trade crude oil futures contracts in a commodity pool
Washington, DC – The U.S. Commodity Futures Trading Commission (CFTC) obtained a federal court order against defendants Christopher D. Daley and his firm, TC Credit Service, LLC doing business as Del-Mair Group, LLC (DMG), both of Houston, Texas, requiring Daley and DMG to jointly pay $654,183 in restitution to defrauded investors and a civil monetary penalty of $1,995,000. The order also imposes permanent trading and registration bans against the defendants and prohibits them from violating the anti-fraud provisions of the Commodity Exchange Act and CFTC regulations, as charged.
The order of default judgment, entered by Judge Keith P. Ellison of the U.S. District Court for the Southern District of Texas, stems from a CFTC enforcement action filed on June 18, 2012, against Daley and DMG, charging them with solicitation fraud and misappropriation in the operation of a commodity pool scheme (see CFTC Press Release 6301-12, July 11, 2012, as a Related Link). Daley was owner and sole employee of DMG, and neither defendant has ever been registered with the CFTC.
The order finds that Daley fraudulently solicited and accepted over $1.4 million from customers to participate in a commodity pool to trade crude oil futures contracts. In soliciting customers, Daley represented that DMG would generate monthly returns of 20 percent and distributed account opening documents that guaranteed 20 percent to 60 percent monthly returns on deposits, the order finds, noting that these representations were false. In reality, Daley’s trading accounts sustained net losses each month. The order also finds that the defendants misappropriated customers’ funds by using those funds to pay other customers’ purported returns, to pay for Daley’s personal expenses, and to trade in Daley’s personal commodity interest accounts. The defendants distributed false account statements to pool participants reporting returns supposedly earned as a result of Daley’s futures trading and acted in capacities requiring registration with the CFTC, the order finds.
CFTC Division of Enforcement staff responsible for this case are Eugene Smith, Patricia Gomersall, Antoinette Chance, Christine Ryall, Paul Hayeck, and Joan Manley.
FROM: U.S. SECURITIES AND EXCHANGE COMMISSION
The Securities and Exchange Commission today filed a complaint in the United States District Court for the Northern District of Illinois against Joseph J. Hennessy and his firm, investment adviser Resources Planning Group ("RPG"), for defrauding clients and others who were promised returns that would "beat the market" for investing in a private equity fund they managed. What investors didn't know was the fund was failing and they were being used to raise money to repay promissory notes to earlier investors.
The SEC alleges that Hennessy and RPG raised more than $1.3 million by misrepresenting the Midwest Opportunity Fund (MOF) as a viable private equity fund that could offer high returns. Hennessy failed to tell investors about the fund's poor financial condition or that their money was being used to repay MOF promissory notes that he had personally guaranteed. He therefore misappropriated client funds to make payments on the notes and prop up the fund.
According to the SEC's complaint, Hennessy financed MOF's acquisition of its largest portfolio company in 2007 in part by having the fund issue $1.65 million in promissory notes, all of which he personally guaranteed. When MOF's portfolio companies were unable to pay management fees later that year, MOF lacked sufficient funds to repay the notes. From September 2007 to March 2010, Hennessy raised $1.36 million from RPG clients and other investors to make payments on the notes. Hennessy falsely told investors that MOF was viable and offered high returns.
The SEC further alleges that Hennessy misappropriated money from RPG clients. In November 2007, he raised $750,000 from three RPG clients purportedly to invest in MOF. But then Hennessy used that money to redeem another client's investment in the fund. Twice in mid-2009, Hennessy forged letters of authorization from a widowed RPG client to transfer $100,000 from her account to MOF in exchange for promissory notes that have yet to be repaid.
FROM: U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C., Dec. 12, 2012 — The Securities and Exchange Commission today charged the manager of two New York-based hedge funds with conducting a pair of trading schemes involving Chinese bank stocks and making $16.7 million in illicit profits. He and his firms have agreed to pay $44 million to settle the SEC’s charges.
The SEC alleges that Sung Kook "Bill" Hwang, the founder and portfolio manager of Tiger Asia Management and Tiger Asia Partners, committed insider trading by short selling three Chinese bank stocks based on confidential information they received in private placement offerings. Hwang and his advisory firms then covered the short positions with private placement shares purchased at a significant discount to the stocks’ market price. They separately attempted to manipulate the prices of publicly traded Chinese bank stocks in which Hwang’s hedge funds had substantial short positions by placing losing trades in an attempt to lower the price of the stocks and increase the value of the short positions. This enabled Hwang and Tiger Asia Management to illicitly collect higher management fees from investors.
In a parallel action, the U.S. Attorney’s Office for the District of New Jersey today announced criminal charges against Tiger Asia Management.
"Hwang today learned the painful lesson that illegal offshore trading is not off-limits from U.S. law enforcement, and tomorrow’s would-be securities law violators would be well-advised to heed this warning," said Robert Khuzami, Director of the SEC’s Division of Enforcement.
Sanjay Wadhwa, Associate Director of the SEC’s New York Regional Office and Deputy Chief of the Enforcement Division’s Market Abuse Unit, added, "Hwang betrayed his duty of confidentiality by trading ahead of the private placements, and betrayed his fiduciary obligations when he defrauded his investors by collecting fees earned from his attempted manipulation scheme."
The SEC also charged Raymond Y.H. Park for his roles in both schemes as the head trader of the two hedge funds involved – Tiger Asia Fund and Tiger Asia Overseas Fund. Park, who lives in Riverdale, N.Y., also agreed to settle the SEC’s charges. Hwang lives in Tenafly, N.J.
According to the SEC’s complaint filed in federal court in Newark, N.J., from December 2008 to January 2009, Hwang and his advisory firms participated in two private placements for Bank of China stock and one private placement for China Construction Bank stock. Before disclosing material nonpublic information about the offerings, the placement agents required wall-crossing agreements from Park and the firms to keep the information confidential and refrain from trading until the transaction took place. Despite agreeing to those terms, Hwang ordered Park to make short sales in each stock in the days prior to the private placement. Hwang and his firms illegally profited by $16.2 million by using the discounted private placement shares they received to cover the short sales they had entered into based on inside information about the placements.
The SEC further alleges that on at least four occasions from November 2008 to February 2009, Hwang and his firms, with Park’s assistance, attempted to manipulate the month-end closing prices of Chinese bank stocks publicly listed on the Hong Kong Stock Exchange. These stocks were among the largest short position holdings in the hedge funds’ portfolios. The more assets the hedge funds had under management, the greater the management fee that Tiger Asia Management was entitled to collect. So Hwang directed Park to place losing trades in order to depress the stock prices, which would inflate the calculation of the management fees. Hwang and Tiger Asia Management made approximately $496,000 in fraudulent management fees through this scheme.
The SEC’s complaint charges Hwang, his firms, and Park with violations of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 as well as Section 17(a) of the Securities Act of 1933. Hwang and his firms also are charged with violating Sections 206(1), 206(2), and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-8, and Park is charged with aiding and abetting those violations.
The settlements, which are subject to court approval, require Hwang, Tiger Asia Management, and Tiger Asia Partners to collectively pay $19,048,787 in disgorgement and prejudgment interest. Each of them has agreed to pay a penalty of $8,294,348 for a total of 24,883,044. Park agreed to pay $39,819 in disgorgement and prejudgment interest, and a penalty of $34,897. With the exception of Tiger Asia Management, the defendants neither admit nor deny the charges.
The SEC’s investigation was conducted by Thomas P. Smith, Jr., Sandeep Satwalekar, and Amelia A. Cottrell of the SEC’s Market Abuse Unit in New York, and Frank Milewski of the New York Regional Office. The SEC appreciates the assistance of the U.S. Attorney’s Office for the District of New Jersey, the Federal Bureau of Investigation, the Japanese Securities and Exchange Surveillance Commission, and the Hong Kong Securities and Futures Commission.
FROM: U.S. COMMODITY FUTURES TRADING COMMISSION
Testimony Before the U.S. House Financial Services Subcommittee on Capital Markets and Government Sponsored Enterprises, Washington, DC
Chairman Gary Gensler
December 12, 2012
Good morning Chairman Garrett, Ranking Member Waters and members of the Subcommittee. I thank you for inviting me to today’s hearing on implementation of Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) swaps market reforms. I would like to thank Robert Cook from the Securities and Exchange Commission (SEC). I’d also like to thank my friend, Chairman Mary Schapiro, who has been a terrific partner. Our agencies have consistently coordinated on this reform effort. I also want to thank my fellow Commissioners and the CFTC staff for their hard work and dedication.
The New Era of Swaps Market Reform
Swaps market reform is now becoming a reality. The marketplace is increasingly shifting to implementation of the common-sense rules of the road that Congress included in the Dodd-Frank Act.
The financial crisis cost eight million American jobs, millions of people lost their homes, and thousands of businesses closed their doors – in part because of the unregulated swaps market. In the aftermath of the crisis, President Obama convened the G-20 leaders in Pittsburgh in 2009. They came to an international consensus that the opaque swaps market should be brought into the light through transparency and oversight, and that standardized swaps between financial entities should be centrally cleared by the end of 2012.
In 2010, Congress and President Obama came together to pass the historic Dodd-Frank Act. The key objectives of the law’s swaps provisions are:
Lowering the risk of the interconnected financial system by bringing standardized swaps into centralized clearing;
Bringing public transparency to the marketplace; and
Ensuring that swap dealers and major swap participants are specifically regulated for their swaps activity.
The CFTC has made significant progress in each of these areas. October 12, given the completed foundational definition rules, marked the new era of swaps market reform.
As a result of completed reforms:
Standardized swaps between financial entities will be cleared starting in March, fulfilling the U.S. commitment at the G-20 meeting in Pittsburgh;
Initial data reporting to regulators has begun and will be expanded as swap dealers report their transactions. The public will benefit from real-time reporting early next year; and
Swap dealers have begun the process of registering, and we anticipate many dealers will do so later this month.
With 42 finalized swaps market reforms, the CFTC has completed about 80 percent of the Dodd-Frank swaps rules. We are seeking to consider and finalize the remaining rules in the first half of 2013. I believe it’s also critical that we continue our efforts to put in place aggregate speculative position limits across futures and swaps on physical commodities, as Congress directed the CFTC to do.
Throughout this process, the CFTC has worked toward a smooth transition to a transparent, regulated swaps marketplace and has phased in the timing for compliance to give market participants appropriate time to adjust.
I will now go into further detail on the Commission’s swaps market reform efforts.
Lowering Risk and Democratizing the Market through Clearing
Central clearing, the first building block of Dodd-Frank reform, lowers the risk of the highly interconnected financial system. It also broadens access to many more market participants, as they no longer will have to individually determine counterparty credit risk. Now clearinghouses will stand between buyers and sellers. This broadened access through central clearing will help promote greater competition and lower costs to users of swaps.
Clearinghouses have lowered risk for the public and fostered competition in the futures markets since the late 19th century. Now central clearing will do the same for the swaps market.
A key milestone was reached last month with the adoption of the first clearing requirement determinations. This follows through on the U.S. commitment at the G-20 meeting that standardized swaps between financial entities should be brought into central clearing by the end of 2012. The vast majority of interest rate swaps and credit default index swaps will be brought into central clearing. Swap dealers and the largest hedge funds will be required to clear in March, and compliance will be phased in for other market participants through the summer of 2013. Consistent with congressional intent, the CFTC finalized rules to ensure that end-users using swaps to hedge or mitigate commercial risk will not be required to bring swaps into central clearing. The CFTC will continue working with market participants on implementation.
Promoting Transparency
Transparency, the second building block of reform, lowers costs for investors, consumers and businesses. It increases liquidity, efficiency and competition. It provides critical pricing information to businesses across the country that use swaps markets to lock in a price or hedge a risk.
Bright lights have begun to shine on the swaps market. As a result, swaps transactions are being reported to regulators through swap data repositories. The public also will benefit from real-time reporting of the price and volume of transactions beginning in early 2013, based on rules the CFTC completed in 2011. In addition, the daily valuation over the life of uncleared swaps will be provided to each counterparty. For cleared swaps, it will be provided to the public as well. With these transparency reforms, the public and regulators will have their first full window into the swaps marketplace, a fundamental shift that Congress included in the Dodd-Frank Act.
Looking ahead, Commissioners are now reviewing final rules that would allow market participants to view the prices of available bids and offers. These reforms on trading platforms called swap execution facilities (SEFs) and minimum block sizes will bring pre-trade transparency to the swaps market, further enhancing liquidity and price competition. These rules will build on the democratization of the swaps market that comes with the clearing of standardized swaps.
Promoting Market Integrity and Lowering Risk through Swap Dealer Oversight
Comprehensive oversight of swap dealers, the third building block of reform, will promote market integrity and lower their risk to taxpayers and the rest of the economy.
As the result of CFTC rules completed in the first half of this year, swap dealers have begun the process of registering and, for the first time, will come under comprehensive oversight. We anticipate many dealers will register by the end of this month.
Once swaps dealers register, they will report their trades with U.S. persons to both regulators and the public. In addition, they will implement crucial back office standards that lower risk and increase integrity. These include promoting the timely confirmation of trades and documentation of the trading relationship. Swap dealers also will be required to implement sales practice standards that prohibit fraud, treat customers fairly and improve transparency. These reforms will be phased in next year.
We are collaborating closely internationally on a global approach to margin requirements for uncleared swaps through the Basel Committee on Banking Supervision and the International Organization of Securities Commissions (IOSCO). I would anticipate that the CFTC, in consultation with European regulators, would take up the margin rules, as well as related rules on capital, next year with the benefit of this international work.
International Coordination on Swaps Market Reform
In enacting financial reform, Congress recognized the basic lessons of modern finance and the 2008 crisis. During a default or crisis, risk knows no geographic border. If a run starts on one part of a modern financial institution, almost regardless of where it is around the globe, it invariably means a funding and liquidity crisis rapidly spreads to the entire consolidated entity. Then finance, rather than serving the rest of the economy, can threaten the rest of the economy.
To give financial institutions and market participants operating outside the U.S. guidance on the cross-border application of Dodd-Frank, the CFTC in June sought public consultation on its interpretation of the Dodd-Frank cross-border provisions. The guidance is a balanced, measured approach, consistent with the cross-border provisions in Dodd-Frank and Congress’ recognition that risk easily crosses borders.
Under the guidance, foreign firms that do more than a de minimis amount of swap-dealing activity with U.S. persons will register with the CFTC two months after crossing the de minimis threshold. Many will do so shortly, with others following later.
For firms that do register with the CFTC, we are very committed to allowing for substituted compliance, or permitting market participants to comply with Dodd-Frank through complying with comparable and comprehensive foreign regulatory requirements.
The guidance includes a tiered approach for foreign swap dealer requirements, which was developed in consultation with foreign regulators and market participants. Some requirements would be considered entity-level, such as for capital, chief compliance officer and swap data recordkeeping. Some requirements would be considered transaction-level, such as clearing, margin, real-time public reporting, trade execution, trading documentation and sales practices.
Entity-level requirements would apply to all registered swap dealers, but in certain circumstances, foreign swap dealers could meet these requirements through substituted compliance. In a separate release, the Commission proposed phased compliance regarding entity-level requirements until July 2013. Such phased compliance will allow time for the CFTC, other regulators and market participants to continue coordinating on regulation of cross-border swaps activity.
Foreign swap dealers would comply with Dodd-Frank for transaction-level requirements facing U.S. persons. The timing of transaction-level compliance with U.S. persons will be determined according to the generally applicable schedule of each of the CFTC’s rules. The timing of compliance would be phased, however, for transactions facing guaranteed affiliates of U.S. persons, as well as foreign branches of U.S. persons, until next summer.
Pending further action on the cross-border guidance, the CFTC issued time-limited relief to certain foreign legal entities regarding the counting of swaps toward the de minimis swap-dealing threshold.
The CFTC also will continue to engage with our international counterparts through bilateral and multilateral discussions on reform and cross-border swaps activity. We are bound to have some differences, given our different cultures and political systems, but we’ve made great progress internationally on an aligned approach to reform. We are committed to working through any instances where the CFTC is made aware of a conflict between U.S. law and that of another jurisdiction.
International regulators met in New York in late November and had a very productive meeting regarding the CFTC’s guidance and how other jurisdictions are handling cross-border application of swaps market reform.
The regulators and policymakers at the meeting agreed to a joint statement regarding our progress so far. In short, the statement said:
Authorities should consult with each other prior to making final determinations regarding which derivatives products will be subject to required clearing;
Robust supervisory cooperation arrangements should be established;
Authorities should have appropriate access to data held in trade repositories;
The application of reforms to market participants should be clear, and jurisdictions should consider reasonable, time-limited transition periods so that market participants have adequate time to comply; and
The authorities agreed to continue working together, including on substituted compliance, and to meet regularly, starting in early 2013.
Market Implementation of Swaps Market Reform
As we near the end of 2012, market participants are moving to implementation of swaps market reform.
Given the magnitude of the crisis, Congress gave the CFTC but one year to complete implementing rules.
The CFTC, however, has been working to complete these rules in a deliberative way - not against a clock. We have been careful to consider significant public input, as well as the costs and benefits of each rule. CFTC Commissioners and staff have met nearly 2,000 times with members of the public, and we have held 19 public roundtables on important issues related to Dodd-Frank reform. The agency has received nearly 37,000 comment letters on matters related to reform. Our rules also have benefited from close consultation with domestic and international regulators and policy makers.
The CFTC has been working on smoothing the transition from a marketplace that lacked regulation to a new era of transparency and common-sense oversight. We have consulted broadly on appropriately phasing in reforms over time. In the spring of last year, we put out a concepts document for public comment and held a roundtable with the SEC on phased implementation. Subsequently, we proposed and finalized rules on implementation phasing. For instance, the clearing determinations will be phased in depending on the type market participant in March, then June, then September of 2013. Other reforms include built-in phasing. For instance, data reporting requirements are phased in depending on asset classes and market participants. Clearinghouses began reporting for interest rate and credit derivatives on October 12. Swap dealers will follow when they register. Reporting for foreign exchange, equity swaps and physical commodity swaps (including agricultural and energy swaps) begins in February 2013 for swap dealers and major swap participants. Reporting for all other market participants begins in April 2013. Extensive information on the compliance schedules for each of the CFTC’s reforms is available on our website.
arket Participant Inquiries
Now that the market is moving to implementation, it’s the natural order of things that market participants have questions and have come to us for further guidance. As it is sometimes the case with human nature, the agency receives many inquiries as compliance deadlines approach.
The Commission has sought to ensure that market participants have time to prepare. It has now been two and a half years since the Dodd-Frank Act passed. It has been a year or more since many CFTC rules have been finalized. In particular, the data rules that will largely go into effect in January were adopted by the Commission in 2011. The swap dealer definition and registration rules were completed in the first half of this year.
The CFTC, however, still welcomes inquiries from market participants, as some fine-tuning is expected. Prior to the milestone of October 12 when the foundational definition rules became effective, my fellow commissioners and I, along with CFTC staff, listened to market participants and thoughtfully sorted through issues as they were brought to our attention. We will continue to do so as we approach other important milestones in the future.
For example, CFTC staff issued a number of time-limited no-action letters while the Commission considers related exemptive petitions. These include exemptive petitions for electricity-related transactions on markets administered by Regional Transmission Organizations and Independent System Operators, as well as transactions among rural electric cooperatives and municipal-owned utilities.
Similarly, yesterday, CFTC staff issued a time-limited no-action letter to allow certain swap trading facilities and trading platforms to continue operating while the Commission completes its final rules for SEFs.
CFTC staff has also issued a number of interpretations and no-action letters regarding the definition of U.S. person and what swap dealing activity would be counted toward the de minimis swap-dealing threshold.
In addition, staff has issued interpretations and letters with regard to registration with the CFTC as commodity pool operators. Before October 12, relief was provided for equity real estate investment trusts, which are real estate investment trusts that own and operate real property; and certain securitization vehicles that issue securities backed by financial assets, are regulated by the SEC and do not use swaps to generate investment exposure.
We also sought public comment regarding other entities with inquiries about commodity pool operator registration. After October 12, guidance was provided for additional securitization vehicles. These letters addressed "legacy" securitization vehicles, backed by cash or synthetic assets, that have not and will not issue securities after October 12, 2012; and mortgage real estate investment trusts, which primarily invest in mortgage-backed securities and mortgages on residential and commercial property. In addition, these letters addressed family offices that are exempt from SEC regulation as investment advisers; business development companies that only engage in a minimal amount of commodity interest trading; and funds of funds on a time-limited basis while staff considers additional guidance for those vehicles.
We have also addressed a number of issues related to data. CFTC staff set a common date for compliance with the data reporting requirement so that a swap dealer that registers early will be subject to this requirement on the same day as one that registers later. We further phased compliance for swaps dealers to report data regarding certain swaps due to disruptions caused by Hurricane Sandy. We also provided additional time for foreign market participants on the reporting of identifying counterparty information in jurisdictions where secrecy or blocking laws forbid such reporting.
Staff is still considering a number of other specific requests for phased compliance. For instance, to facilitate compliance with new documentation requirements, the International Swaps and Derivatives Association (ISDA) has sponsored a number of documentation protocols for its members and other market participants. The Commission is considering the ISDA and its member firms’ petition for additional time to complete the protocol process or any bilateral amendments to trading documentation.
The CFTC makes all of these interpretations, guidance and no-action letters public through our website and press releases.
Resources
With the market moving to implementation, additional resources for the CFTC are all the more essential. We need resources for the people and technology necessary for effective market surveillance and to enhance customer protection programs. We need resources to handle the incoming registration requests from many new market participants. We need resources to answer all of the questions from market participants on implementation of reform.
At 703 on-board staff, the CFTC’s hardworking team is just 10 percent more in numbers than at our peak in the 1990s. Yet since that time, the futures market has grown more than five-fold, and the swaps market is eight times larger than the futures market.
Picture the NFL expanding eightfold to play more than 100 football games in a weekend without increasing the number of referees. This would leave just one referee per game, and, in some cases, no referee. Imagine the mayhem on the field, the resulting injuries to players, and the loss of confidence fans would have in the integrity of the game.
Given this reality, the President has requested additional resources for both staff and investments in technology for this agency. People and technological resources are critical for the CFTC to properly oversee the futures and swaps markets.
Conclusion
The common-sense rules of the road for the swaps market that Congress laid out in the Dodd-Frank Act are now the order of the day. Standardized swaps between financial entities will be cleared starting in March. Initial data reporting to regulators has begun, and the public will benefit from real-time reporting next year. We anticipate many swap dealers will register at the end of this month. I thank you and look forward to your questions.
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