House Ag Discusses Regulatory Reforms in Swaps and Futures Markets
AT TODAY’S HOUSE AGRICULTURE COMMITTEE HEARING, lawmakers, regulators and industry representatives discussed regulatory reforms related to the swaps and futures markets in the wake of the second collapse of a futures commission merchant (FCM) this year. Commodity Futures Trading Commission (CFTC) Chairman Gary Gensler and the National Futures Association (NFA) CEO, Daniel Roth both testified at the hearing.
Chairman Frank Lucas (R-Okla.) criticized the failure of regulators to efficiently detect the alleged fraudulent activity perpetrated by the Peregrine Financial Group, noting that the CFTC gave itself high marks in its oversight of self-regulatory organizations (SROs) and FCMs last year. With regard to the CFTC’s work in implementing Dodd-Frank regulations, Lucas remarked that new rules “mean nothing when regulators are not enforcing existing rules on the books.”
Ranking Member Collin Peterson (D-Minn.) noted his recent visit with the NFA, acknowledging that recent customer protections measures are a step in the right direction but questioning whether regulators would ever be able to get ahead of fraudulent activity. He said FCMs are “making money by investing customer money and using it to fund their business,” which he said was partly the fault of the federal government for creating a zero interest rate environment. Peterson suggested examining what Congress did in 2002 under the Commodity Futures Modernization Act and the effects such legislation had on the industry.
Testimony
In his opening statement, Gensler discussed the progress of the CFTC in implementing Dodd-Frank Title VII regulations and the work being undertaken to complete these rulemakings. He discussed the CFTC’s ongoing Libor manipulation investigation, noting that the U.K. Financial Services Authority is reviewing the Libor benchmark and will be suggesting improvements. Gensler also provided an overview of the Peregrine bankruptcy and outlined measures the CFTC and SROs are taking to strengthen customer protection measures. He noted that additional customer protection rules are before the Commissioners for their review, including providing the CFTC and SROs with direct electronic access to FCMs’ bank and custodial accounts for customer funds without asking the FCMs’ permission, and providing customers access to information about how their funds are held.
In his opening statement, Daniel Roth, President and CEO of the National Futures Association, provided a detailed overview of the events surrounding the Peregrine bankruptcy and the measures being taken by the NFA to enhance customer protections. Roth said a number of initiatives will be presented at NFA’s August Board meeting, including requiring FCMs to provide online, view-only access to bank balances for customer segregated and secured amount accounts to the designated SRO.
In his opening statement, Terrence Duffy, Executive Chairman and President of CME Group, discussed industry proposals presented to the NFA for enhancing customer protections, including requiring FCMs to file daily segregation reports and performing more frequent periodic spot checks to monitor FCM compliance with segregation requirements. Duffy also discussed the new electronic confirmation method that the industry is in the process of implementing. Finally, Duffy raised concerns with a number of CFTC proposed rules, including a proposal to implement Core Principe 9, which he warned would make it impossible for U.S. futures exchanges to develop new products and force exchanges to delist hundreds of products, among other things.
In his opening statement, Walter Lukken, President and CEO of the Futures Industry Association (FIA), discussed the failure of Peregrine Financial Group and steps the FIA has taken in response to the recent failure of FCMs, including recommending that each FCM annually certify that there are no material inadequacies in its internal controls regarding maintenance and calculation of adjusted net capital and compliance with customer protection rules. Lukken also raised a number of Dodd-Frank related concerns, specifically pointing to the differences in implementation approaches of Title VII rules taken by the CFTC and Securities and Exchange Commission (SEC).
Question and Answer
Libor Manipulation Investigation
Rep. Randy Neugebauer (R-Texas) referenced the Libor manipulation investigation and asked whether one bank was capable of manipulating the rates. Gensler noted that Barclays admitted that their manipulation of submissions did at times affect the rate. He also explained that in the case of Euribor, Barclays admitted to aiding and abetting four other banks.
Extraterritoriality
Rep. Michael Conaway (R-Texas) discussed the CFTC’s recent cross border guidance and asked why the interpretation wasn’t more coordinated with the SEC. He also questioned why the CFTC chose to issue guidance rather than a rulemaking, noting that the SEC plans on submitting a rule. Gensler pointed to Section 722(d) of Dodd-Frank as giving the CFTC authority over the extraterritorial nature of the rules. He said the CFTC is attempting to interpret that authority and the guidance allows the Commission flexibility in this exercise. After further questioning, Gensler added that the SEC’s approach will be “similar but not identical” to the CFTC’s approach, noting that the agencies are operating from two different statutory frameworks under the Dodd-Frank Act.
Rep. Glenn Thompson (R-Pa.) referenced the recent letter from the Swiss Financial Market Supervisory Authority regarding concerns with the CFTC’s cross border guidance as well as the recent Financial Times op-ed from European Commission Michel Barnier as examples of the lack of coordination between the CFTC and international regulators. He asked how Gensler can assure U.S. markets will not suffer due to a lack of international coordination. Gensler noted how he recently spoke to the Swiss regulator regarding their letter and said he had a strong relationship with Barnier. He said the Swiss had concerns regarding compliance with the cross border rules and its domestic secrecy laws. Gensler explained that France also has similar laws as it relates to how their banks can report data on transactions, but did not elaborate on the extent of these discussions. In general, he defended the cross border guidance as helping to ensure risk booked offshore does not come back to the U.S. taxpayer.
CDS Clearing
Rep. David Scott (D-Ga.) raised concerns about the lack of regulatory solutions regarding clearing among credit default swap (CDS) customers and asked Gensler to commit to providing leadership on the issue. Gensler explained that he supports portfolio margining for broad-based and single name CDS, noting that a petition is before the Commission on the issue. He indicated that the CFTC supports portfolio margining but the challenge is finding consensus with the SEC and was unable to provide an answer as to how long a resolution and final decision will be made.
Volcker Rule
Rep. Chellie Pingree (D-Maine) asked about the progress of regulators distinguishing between proprietary trading and market making. She noted former Citigroup chairman Sandy Weill’s recent comments regarding splitting up investment and commercial banks, asking whether more simple reforms, such as splitting up activities, should be put in place rather than attempting to implement complex and confusing regulations. Gensler acknowledged that distinguishing between market making and proprietary trading is “one of the most challenging” Dodd-Frank rules and added that breaking up activities is something “Congress can debate in the future.”
Pingree followed up by asking whether portfolio hedging will stay in the final rule. Gensler explained that Congress allowed portfolio hedging if it is tied to a specific or aggregate risk and has a reasonable relationship to underlying positions. He said the challenge comes when trying to identify when a portfolio hedge “mutates to betting on the markets.”
FCM Customer Protections
During questioning of the second panel, Lucas asked Duffy whether the CME’s recent designation by the Financial Stability Oversight Council as systemically important puts the firm in a better position to hold customer segregated funds instead of third parties. Duffy said the recent designation does not change CME’s ability to service its customers and added that FCMs are capable of holding customer funds. He stressed the importance of customers maintaining confidence in the market and noted CME’s ability to hold customer funds if needed.
Rep. Joe Baca (D-Calif.) asked how the electronic confirmation process for FCM members works and whether online confirmation will serve as an effective oversight tool. Roth said the online process is less paper intensive and places no additional costs on the FCMs. He said the digital confirmation process is a good step forward but that more customer protection measures must be implemented.
For testimony and a webcast of the hearing, please click here.
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AT TODAY’S HOUSE AGRICULTURE COMMITTEE HEARING, lawmakers, regulators and industry representatives discussed regulatory reforms related to the swaps and futures markets in the wake of the second collapse of a futures commission merchant (FCM) this year. Commodity Futures Trading Commission (CFTC) Chairman Gary Gensler and the National Futures Association (NFA) CEO, Daniel Roth both testified at the hearing.
Chairman Frank Lucas (R-Okla.) criticized the failure of regulators to efficiently detect the alleged fraudulent activity perpetrated by the Peregrine Financial Group, noting that the CFTC gave itself high marks in its oversight of self-regulatory organizations (SROs) and FCMs last year. With regard to the CFTC’s work in implementing Dodd-Frank regulations, Lucas remarked that new rules “mean nothing when regulators are not enforcing existing rules on the books.”
Ranking Member Collin Peterson (D-Minn.) noted his recent visit with the NFA, acknowledging that recent customer protections measures are a step in the right direction but questioning whether regulators would ever be able to get ahead of fraudulent activity. He said FCMs are “making money by investing customer money and using it to fund their business,” which he said was partly the fault of the federal government for creating a zero interest rate environment. Peterson suggested examining what Congress did in 2002 under the Commodity Futures Modernization Act and the effects such legislation had on the industry.
Testimony
In his opening statement, Gensler discussed the progress of the CFTC in implementing Dodd-Frank Title VII regulations and the work being undertaken to complete these rulemakings. He discussed the CFTC’s ongoing Libor manipulation investigation, noting that the U.K. Financial Services Authority is reviewing the Libor benchmark and will be suggesting improvements. Gensler also provided an overview of the Peregrine bankruptcy and outlined measures the CFTC and SROs are taking to strengthen customer protection measures. He noted that additional customer protection rules are before the Commissioners for their review, including providing the CFTC and SROs with direct electronic access to FCMs’ bank and custodial accounts for customer funds without asking the FCMs’ permission, and providing customers access to information about how their funds are held.
In his opening statement, Daniel Roth, President and CEO of the National Futures Association, provided a detailed overview of the events surrounding the Peregrine bankruptcy and the measures being taken by the NFA to enhance customer protections. Roth said a number of initiatives will be presented at NFA’s August Board meeting, including requiring FCMs to provide online, view-only access to bank balances for customer segregated and secured amount accounts to the designated SRO.
In his opening statement, Terrence Duffy, Executive Chairman and President of CME Group, discussed industry proposals presented to the NFA for enhancing customer protections, including requiring FCMs to file daily segregation reports and performing more frequent periodic spot checks to monitor FCM compliance with segregation requirements. Duffy also discussed the new electronic confirmation method that the industry is in the process of implementing. Finally, Duffy raised concerns with a number of CFTC proposed rules, including a proposal to implement Core Principe 9, which he warned would make it impossible for U.S. futures exchanges to develop new products and force exchanges to delist hundreds of products, among other things.
In his opening statement, Walter Lukken, President and CEO of the Futures Industry Association (FIA), discussed the failure of Peregrine Financial Group and steps the FIA has taken in response to the recent failure of FCMs, including recommending that each FCM annually certify that there are no material inadequacies in its internal controls regarding maintenance and calculation of adjusted net capital and compliance with customer protection rules. Lukken also raised a number of Dodd-Frank related concerns, specifically pointing to the differences in implementation approaches of Title VII rules taken by the CFTC and Securities and Exchange Commission (SEC).
Question and Answer
Libor Manipulation Investigation
Rep. Randy Neugebauer (R-Texas) referenced the Libor manipulation investigation and asked whether one bank was capable of manipulating the rates. Gensler noted that Barclays admitted that their manipulation of submissions did at times affect the rate. He also explained that in the case of Euribor, Barclays admitted to aiding and abetting four other banks.
Extraterritoriality
Rep. Michael Conaway (R-Texas) discussed the CFTC’s recent cross border guidance and asked why the interpretation wasn’t more coordinated with the SEC. He also questioned why the CFTC chose to issue guidance rather than a rulemaking, noting that the SEC plans on submitting a rule. Gensler pointed to Section 722(d) of Dodd-Frank as giving the CFTC authority over the extraterritorial nature of the rules. He said the CFTC is attempting to interpret that authority and the guidance allows the Commission flexibility in this exercise. After further questioning, Gensler added that the SEC’s approach will be “similar but not identical” to the CFTC’s approach, noting that the agencies are operating from two different statutory frameworks under the Dodd-Frank Act.
Rep. Glenn Thompson (R-Pa.) referenced the recent letter from the Swiss Financial Market Supervisory Authority regarding concerns with the CFTC’s cross border guidance as well as the recent Financial Times op-ed from European Commission Michel Barnier as examples of the lack of coordination between the CFTC and international regulators. He asked how Gensler can assure U.S. markets will not suffer due to a lack of international coordination. Gensler noted how he recently spoke to the Swiss regulator regarding their letter and said he had a strong relationship with Barnier. He said the Swiss had concerns regarding compliance with the cross border rules and its domestic secrecy laws. Gensler explained that France also has similar laws as it relates to how their banks can report data on transactions, but did not elaborate on the extent of these discussions. In general, he defended the cross border guidance as helping to ensure risk booked offshore does not come back to the U.S. taxpayer.
CDS Clearing
Rep. David Scott (D-Ga.) raised concerns about the lack of regulatory solutions regarding clearing among credit default swap (CDS) customers and asked Gensler to commit to providing leadership on the issue. Gensler explained that he supports portfolio margining for broad-based and single name CDS, noting that a petition is before the Commission on the issue. He indicated that the CFTC supports portfolio margining but the challenge is finding consensus with the SEC and was unable to provide an answer as to how long a resolution and final decision will be made.
Volcker Rule
Rep. Chellie Pingree (D-Maine) asked about the progress of regulators distinguishing between proprietary trading and market making. She noted former Citigroup chairman Sandy Weill’s recent comments regarding splitting up investment and commercial banks, asking whether more simple reforms, such as splitting up activities, should be put in place rather than attempting to implement complex and confusing regulations. Gensler acknowledged that distinguishing between market making and proprietary trading is “one of the most challenging” Dodd-Frank rules and added that breaking up activities is something “Congress can debate in the future.”
Pingree followed up by asking whether portfolio hedging will stay in the final rule. Gensler explained that Congress allowed portfolio hedging if it is tied to a specific or aggregate risk and has a reasonable relationship to underlying positions. He said the challenge comes when trying to identify when a portfolio hedge “mutates to betting on the markets.”
FCM Customer Protections
During questioning of the second panel, Lucas asked Duffy whether the CME’s recent designation by the Financial Stability Oversight Council as systemically important puts the firm in a better position to hold customer segregated funds instead of third parties. Duffy said the recent designation does not change CME’s ability to service its customers and added that FCMs are capable of holding customer funds. He stressed the importance of customers maintaining confidence in the market and noted CME’s ability to hold customer funds if needed.
Rep. Joe Baca (D-Calif.) asked how the electronic confirmation process for FCM members works and whether online confirmation will serve as an effective oversight tool. Roth said the online process is less paper intensive and places no additional costs on the FCMs. He said the digital confirmation process is a good step forward but that more customer protection measures must be implemented.
For testimony and a webcast of the hearing, please click here.