The Commodity Futures Trading Commission voted by slim margins May 16 to approve rules that will introduce transparency and competitiveness into the swaps market, if to a lesser extent than originally sought.
The most consequential decisions established minimum block sizes for swaps, the process by which swap execution facilities (SEFs) and designated contract markets (DCMs) make swaps available to trade, and core principles for SEFs that will enable swap market participants to see bids and offers before they trade.
In his opening statement, CFTC Chairman Gary Gensler described the decisions as making public transparency in the swaps market a reality. “Though many of the 52 rules we have completed before today have brought transparency to the once opaque swaps market, today we take a significant step to open up this market,” Mr. Gensler said.
Only cleared swaps are subject to the approved rules. And although some corporate end-users that trade significant volumes of swaps may be designated swap dealers (SD) or major swap participants (MSP), and therefore have to clear transactions, most corporate end-users will be exempt from clearing.
“End-users will benefit from access to information on these platforms but will not be required to use them,” Mr. Gensler said.
Due to vastly improved technology and data sources over the last decade, the new trading platforms are not likely to provide large transparency gains over what’s currently available, said Luke Zubrod, a director at Chatham Financial.
“Nonetheless, the emergence of SEFs could improve straight-through-processing and the operational burden associated with executing derivatives, especially those subject to clearing requirements,” Mr. Zubrod said.
The combination regulations and unfolding capital requirements on banks is expected to make engaging in uncleared swaps more costly and push at least some corporates to consider cleared swaps and even exchange-traded derivatives. One the CFTC’s close decisions—approved three to two—concerned the process by which SEFs and DCMs make a swap available to trade under the appropriate provision of the Commodity Exchange Act. The original rule required at least five market participants to be offered the opportunity to bid on a swap, a requirement that could have adversely impacted trades that didn’t qualify for the block trade exemption but were still large enough to move the market.
The approved rule reduced that requirement to two market participants for the first year and three thereafter, reducing the likelihood of information about the trade leaking in the market and adversely impacting price. Chatham’s Mr. Zubrod said his firm doesn’t anticipate Europeans imposing a similar European requirement.
The minimum block-size rule was also approved by a three-to-two vote. It determines the appropriate minimum sizes for large notional off-facility swaps and block trades–the sort corporate end users engage in and want to keep as anonymous as possible to avoid the price moving adversely.
Commissioner Jill Sommers voiced concerns about the limited data that was used to support the final rule, which she said would ultimately allow for only the largest 6 percent of all interest-rate and credit default swaps to be executed as blocks.
“This approach, in my view, ignores Congress’ mandate that we take into account the impact of public disclosure on liquidity when setting block sizes,” Sommers said in her opening remarks. “These are not one-size-fits-all markets, and we should not be adopting a one-size-fits-all approach.”
The decision concerning core principles and other requirements for SEFs passed four to one, while a decision on interpretive guidance and policy on disruptive practices passed unanimously.
Mr. Zubrod noted that one of the most noteworthy aspects of the new rules is that their completion now allows market participants to begin preparing “with a knowledge of the rules of the road.” In some cases, the rules clearly seek to accommodate market participants’ concerns of excessive regulations, such as reducing the required quote solicitations on trading platforms to three from five.
“What is in front of us today has parts I like, parts I don’t like—that’s what compromise means,” said Commissioner Bart Chilton, “As Churchill said, ‘The English never draw a line without blurring it.’”