Hans-Christian Latta and Milena Tantcheva contributed to the preparation of this alert
There are two separate and ostensibly competing proposals emerging from the House Financial Services Committee, chaired by Rep. Barney Frank (D-MA), and the House Agriculture Committee, chaired by Rep. Colin Peterson (D-MN), which would result in sweeping additions to the Commodity Exchange Act and the Securities Exchange Act and would create an entirely new regulatory regime for derivatives trading. On October 15, 2009, the House Financial Services Committee approved the Over‑the‑Counter Derivatives Markets Act of 2009 (H.R. 3795) (the "Financial Services Committee Bill")1 and six days later, on October 21, 2009, the House Agriculture Committee approved the Derivatives Markets Transparency & Accountability Act as an amendment in the nature of a substitute to the Financial Services Committee Bill (the "Agriculture Committee Bill").2
Consistent with the concept paper issued on July 30, 2009 by Chairmen Frank and Peterson (the "Concept Paper") (discussed in Goodwin Procter's August 4, 2009 Financial Services Alert), the Financial Services Committee Bill and the Agriculture Committee Bill (collectively, the "House Bills") by and large hew closely to the U.S. Treasury's proposed over‑the‑counter ("OTC") derivatives legislation issued in August 2009 ("Treasury's Proposal") (discussed in Goodwin Procter's August 27, 2009 Client Alert). Unlike the Concept Paper, which appeared to signal a coordinated approach between the two Committees led by Chairmen Frank and Peterson, the new regimes proposed by the House Bills diverge in certain important respects from each other and from the Treasury's Proposal.
SUMMARY Parallel Regimes For Swaps And Security-Based Swaps. The House Bills, like Treasury's Proposal, would grant the Securities and Exchange Commission (the "SEC") oversight authority over "security-based swaps" and the Commodity Futures Trading Commission (the "CFTC") oversight authority over all other instruments defined as "swaps." Banks that are major swap participants and major security-based swap participants (collectively, "major market participants") and swap dealers and security-based swap dealers (collectively, "dealers") would be overseen by bank regulators. Key Difference: Under the Financial Services Committee Bill, the SEC and CFTC would make rules jointly, while CFTC and SEC rulemaking under the Agriculture Committee Bill would be independent, with mandatory consultation among the CFTC, SEC and bank regulators. Clearing And Exchange Trading Requirements. Under the House Bills, there would be a presumption of mandatory clearing for any swap or security-based swap if a registered clearing agency would accept the swap or security-based swap for clearing. Such swaps would have to be cleared through a registered clearing agency, subject to some limited exceptions, and would also be required to be traded on a regulated exchange or electronic trading facility. A swap that is not accepted for clearing would be required to be reported to a newly created "swap repository" or to the CFTC or SEC, as applicable. Key Difference: The House Bills move away from Treasury's proposed requirement that all "standardized" swaps be subject to mandatory clearing. Additionally, under the Financial Services Committee Bill (in contrast to Treasury's Proposal and the Agriculture Committee Bill), existing swaps and security-based swaps to which one party is not a swap or security-based swap dealer or major market participant will not be subject to the clearing requirement. New Capital And Margin Requirements; Position Limits. Like Treasury's Proposal, the House Bills would require bank regulators to impose capital and margin requirements on bank participants in the derivatives markets. In an attempt to limit the appeal of trading in derivatives that are not centrally cleared, the capital requirements for participants in such transactions would have to be higher than those required for counterparties to transactions that are centrally cleared. Furthermore, the CFTC and SEC would also be authorized to promulgate rules setting aggregate position limits for "large traders." Key Difference: Unlike Treasury's Proposal, the Financial Services Committee Bill does not specifically require the imposition of initial and variation margin requirements. It would instead require the CFTC and SEC to impose capital and margin requirements on non-bank participants "as strict as or stricter" than those set by the bank regulators. Key Difference: Under the Agriculture Committee Bill, the minimum capital and minimum initial and variation margin requirements applicable to all dealers and major market participants would be established to "ensure the safety and soundness of the swap dealer or major swap participant" and as "are appropriate for the risk associated with the non-cleared swaps held as a swap dealer or major swap participant" (and, again, the CFTC and SEC would establish these requirements in consultation with bank regulators and each other, but otherwise independently). Key Difference: Additionally, the Agriculture Committee would expand the authority of the CFTC to set position limits for all physically deliverable commodities other than excluded commodities (which term is to be defined by the CFTC). Dealers And Major Market Participants Subject To New Registration, Capital And Reporting Requirements. Under the House Bills as under Treasury's Proposal, dealers and major market participants would be required to be registered, which would subject dealers and major market participants to minimum capital and margin requirements, as well as a host of new business conduct and reporting and disclosure rules. Key Difference: The Financial Services Committee Bill would maintain Treasury's requirement that certain dealers and major market participants (including banks) be registered with both the CFTC and SEC if they dealt in swaps and security-based swaps. The Agriculture Committee Bill would not require dual registration with the two agencies. Key Difference: Under the Financial Services Committee Bill, the CFTC or SEC would be able to exempt a dealer or major market participant from its regulations so long as it determined that such dealer or major market participant was subject to comparable supervision and regulation by the SEC, the CFTC, a bank regulator or "the appropriate governmental authorities in the organization's home country." The Agriculture Committee Bill, on the other hand, would specifically exempt banks and clearing agencies already registered with the SEC. Key Difference: The House Bills introduce segregation rules for margin and collateral. The Financial Services Committee Bill would require a dealer, at its counterparty's request, to segregate counterparty margin and collateral in swap and security-based swap transactions that are not cleared by a clearing organization and maintain such margin and collateral in an account carried by an independent third-party custodian. The Agriculture Committee Bill would impose similar requirements, but only to security-based swap dealers and clearing agencies. Mandatory Reporting For Transactions. The House Bills generally follow Treasury's Proposal with respect to reporting. Clearing agencies, exchanges and swap execution facilities must report transaction information to the CFTC or SEC, as applicable (in the case of clearing agencies, to be shared with the CFTC/SEC, the Federal Reserve, other governmental agencies and federal financial supervisors). Swap repositories would be subject to similar reporting requirements. Security-Based Swaps Specifically Incorporated...