CFTC Raises Swap Dealer Threshold

Terry Flanagan

Firms with swap volumes below $8 billion would be exempt from definition.

The Commodity Futures Trading Commission has issued long-awaited final rules providing critical definitions of entities subject to Dodd-Frank provisions.

By defining the terms “swap dealer,” “major swap participant,” and “eligible contract participant,” the rules provide some much-needed clarity for participant in the OTC markets.

The final rules have significantly relaxed the threshold for firms to engage in hedging without being classified as swap dealers.

Under the definition initially proposed in 2010, any entity whose swaps activity exceeded $100 million during a 12-month period would be classified as a swap dealer.

Under the final rule, the CFTC raised the threshold to $8 billion over a 12-month period throughout a two-and-a-half year phase-in period, during which time the CFTC will conduct a study of swap data that’s reported to swap data repositories.

Depending on the results of the study, the CFTC could reduce the threshold to $3 billion.

While the CFTC had previously adopted rules relevant to specific segments of the market, such as rules regarding position limits and protection of cleared swaps collateral, the rules on definitions have sweeping impact across the entire market.

“This is by far the most significant rule that market participants had been anticipating,” Luke Zubrod, director of the derivatives regulatory advisory service at Chatham financial, told Markets Media.

“While a number of the rules that have been finalized are not unimportant, this is especially important because it eliminates a lot of uncertainty that’s been a source of concern for market participants.”

To be sure, there are still a number of important rules that need to be finalized, including end-user exceptions and margin requirements.

One of the more controversial issues has been margin requirements for non-financial end users, i.e., a counterparty that’s not a swap entity or a financial end user.

“Both financial and non-financial end users are focused on the extent to which margin requirements impact the decision on whether or not to hedge,” Zubrod said.

The CFTC has proposed a rule under Dodd-Frank that would establish margin requirements for uncleared swaps for swap dealers and major swap participants that are not banks. Prudential banking regulators have proposed a similar rule that would apply to dealers and MSPs that are banks.

Under the proposed rules, both the CFTC and the prudential regulators would permit swap entities to use models approved by the applicable regulator in calculating the amount of initial variation margin required to be collected from their counterparties.

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