CFTC Urged to Clarify Global Reach of Dodd-Frank

Terry Flanagan

European regulators have asked the Commodity Futures Trading to provide more clarity on the cross-border implications of the Dodd-Frank Act, which imposes new requirements to execute and clear most OTC derivatives.

The European Commission is of the view that the CFTC’s proposed interpretive guidance,” issued in June, requires further review in order to avoid duplicative and conflicting requirements and rules.

The CFTC interpretive guidance describes how the agency will consider the application of clearing, trade execution and reporting and record keeping provision under Dodd-Frank to cross-border swaps involving counterparties that are not swap dealers or major swap participants.

The guidance also describes the policy and procedural framework under which the CFTC may permit compliance with a comparable regulatory requirement of a foreign jurisdiction as a substitute for compliance with Dodd-Frank.

The European Commission is concerned that the CFTC’s definition of a U.S. person” is too broad.

While the EC “understands the CFTC’s concern about exposing the U.S. financial system to significant risks through connections with a foreign entity which is not resident or established in the U.S…this wide definition means that an EU and a U.S. firm that conclude an OTC derivatives contract will be simultaneously subject to EU and U.S. requirements,” it said in a comment letter issued Friday.

An EU dealer, for example, could be subject to European regulatory requirements under Emir and MiFID, as well as Dodd-Frank.

A larger issue is the degree to which multiple legislative and regulatory regimes could increase the opportunity for regulatory arbitrage.

“Opportunities for regulatory arbitrage should diminish if markets become more connected globally,” said Ronan Brennan, chief technology officer at MoneyMate. “By definition, it is the lack of global connectedness that leads to the discovery and growth of arbitrage opportunities. As the markets become more connected and aligned in terms of regulation you will see a regression to the mean.”

The CFTC guidance includes a tiered approach for requirements for overseas swap dealers.

Some requirements would be considered entity-level, such as for capital, risk management and record keeping. Such entity-level requirements would apply to all registered swap dealers, but, in certain circumstances, overseas swap dealers could comply with these requirements through substituted compliance.

Other requirements would be considered transaction-level, such as clearing, margin, real-time public reporting, trade execution and sales practices.

Both entity-level and transaction-level requirements would apply to all registered swap dealers, but, in certain circumstances, overseas swap dealers could comply with these requirements through substituted compliance.

The U.K. Financial Services Authority expressed concern “that the proposed cross-border guidance will require firms to meet Dodd-Frank transaction-level requirements where one of the counterparties is a U.S. person. This is likely to result in the Dodd-Frank requirements being exported to a wide range of U.K. and other EU firm.”

LCH.Clearnet urged the CFTC to reach agreement with its foreign regulatory counterparts on the cross-border application of Dodd-Frank.

The clearinghouse “requests that the Commission clarify the reach of its clearing mandate when clearing occurs on a registered DCO [designated clearing organization], the swap cleared is also subject to the clearing mandate of a foreign regulatory regime, and the swap counterparties are a U.S. person and a non-U.S. person,” said Ian Axe, CEO of LCH.Clearnet, which is merging with London Stock Exchange Group.

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