The Commodity Futures Trading Commission has published for comment two proposals intended to reduce the regulatory obligations that certain non-US clearing organizations would otherwise be subject. In accordance with section 5b(a) of the Commodity Exchange Act (CEA), it is unlawful for any clearing organization to clear swaps on behalf of US persons unless that clearing organization is registered with the CFTC as a derivatives clearing organization (DCO). However, CEA section 5b(h) authorizes the CFTC to exempt from registration any non-US clearing organization that is “subject to comparable, comprehensive supervision and regulation” by its home country regulator. In the exercise of this latter authority, the CFTC has proposed to permit those non-US clearing organizations that the CFTC determines do not pose a substantial risk to the US financial system to elect either 1) registration as a DCO with alternative compliance obligations; or 2) an exemption from registration altogether.
A non-US clearing organization would be deemed to pose a substantial risk to the US financial system if: 1) the clearing organization holds 20 percent or more of the required initial margin of US clearing members for swaps across all registered and exempt DCOs; and 2) 20 percent or more of the initial margin requirements for swaps at that clearing organization is attributable to US clearing members.
Registration with alternative compliance. A clearing organization that elects registration with alternative compliance would be registered with the CFTC as a DCO and would be required to demonstrate that it complies with the core principles set out in CEA section 5b(c). However, the clearing organization could rely primarily on its home regulatory regime rather than having to demonstrate compliance with Part 39 of the CFTC’s rules. Importantly, a non-US clearing organization electing alternative compliance would be required to comply fully with the CFTC’s customer funds protection requirements, including the requirement that all US customer swaps be cleared through a CFTC-registered futures commission merchant (FCM).
As proposed, a non-US clearing organization would be eligible to elect the alternative compliance if: 1) the CFTC determines that the clearing organization’s compliance with its home country regulatory regime would satisfy the DCO Core Principles; 2) the clearing organization is in good regulatory standing in its home country; 3) the CFTC determines that the clearing organization does not pose substantial risk to the US financial system; and 4) a memorandum of understanding (MOU) or similar arrangement satisfactory to the CFTC is in effect between the CFTC and the clearing organization’s home country regulator.
Comments on the registration with alternative compliance proposed amendments must be received by September 17.
The Federal Register release is available here.
Exemption from registration. Separately, the CFTC has proposed to authorize non-US clearing organizations that do not pose a substantial risk to the US financial system to claim an exemption from registration as a DCO. Similar to the registration with alternative compliance proposal, an exemption from registration would only be available if: 1) the CFTC determines that the clearing organization is subject to comparable, comprehensive supervision and regulation that includes a regulatory structure consistent with the Principles for Financial Market Infrastructures (PFMI); 2) the clearing organization observes PFMI in all material respects; and 3) the clearing organization is in good regulatory standing in its home country.
Importantly, and in contrast to the alternative compliance proposal, an exempt clearing organization would be prohibited from offering US customer funds protection. To the contrary, an FCM may not be involved in the clearing of swaps for a US customer on an exempt clearing organization, either directly or indirectly; only a direct clearing member of the exempt clearing organization may deal with a US customer. The CFTC has taken this position because the treatment of customer funds in the event of an insolvency of the FCM in these circumstances would be uncertain.
Comments on the proposed amendments regarding exempt clearing organizations must be received by September 23.
The Federal Register release is available here.