OTC Derivatives — Legislative and Regulatory Developments Legislative Developments The House Financial Services Committee and House Committee on Agriculture have passed competing versions of a bill to regulate over-the-counter (OTC) derivatives. The Financial Services Committee approved its bill, H.R. 3795, on October 15, 2009. The Committee on Agriculture approved its bill, in the nature of an amendment by substitution to H.R. 3795, on October 21, 2009. Both bills are intended to provide comprehensive regulation of OTC derivatives markets, swap dealers, and major swap participants through amendments to the Commodity Exchange Act (CEA) and federal securities laws.
The bills follow the general outline of the U.S. Department of the Treasury's OTC legislative proposal issued on August 21, 2009, and the "Principles for OTC Derivatives Legislation" that Rep. Barney Frank (D-Mass.), Chair of the Financial Services Committee, and Rep. Collin Peterson (D-Minn.), Chair of the Committee on Agriculture, jointly issued on July 30, 2009. There are important differences, though, across the three bills in their approach to coordinating OTC regulation between the SEC and the U.S. Commodity Futures Trading Commission (CFTC); trading of standardized swaps on a centralized regulated exchange or swap execution facility; clearing of standardized swaps (required under all three); and end-user exemptions from mandatory clearing.
The provisions to mandate the clearing of standardized swaps are drawing particular attention from commercial end-users, including those in the energy and agriculture fields, to assure that such provisions, if enacted, do not interfere with legitimate hedge strategies using OTC swaps, which are often more cost effective to maintain than strategies using cleared derivatives. All three bills include indirect exemptions from mandatory clearing where one party is a hedger, unless that party otherwise meets the definition of a swap dealer or major swap participant. The Treasury bill, though, limits hedging to positions considered hedges under Generally Accepted Accounting Principles, and the Committee on Agriculture bill imposes the condition that the end-user must demonstrate to the CFTC how it meets its financial obligations under its non-cleared swaps.
The clearing provisions will likely generate ongoing legislative debate. CFTC Chairman Gary Gensler has weighed in with a public call for a narrowing of the end-user hedge exemption. The legislative proposals also raise concerns about the potential for overlap and conflict of CFTC's jurisdiction, on the one hand, and that of the Federal Energy Regulatory Commission or the Public Utility Commission of Texas, on the other hand, over Regional Transmission...