February 22nd, 2011
Mr. David A. Stawick, Secretary
Commodity Futures Trading Commission
Three Lafayette Center
1155 21st Street, N.W.
Washington DC 20581
Re: CFTC RIN 3038–AC20; Swap Data Repositories
Dear Mr. Stawick:
On behalf of Americans for Financial Reform, thank you for the opportunity to comment on the proposed rule setting out the registration requirements, duties, and core governance principles for swap data repositories. Americans for Financial Reform is an unprecedented coalition of over 250 national, state and local groups who have come together to reform the financial industry. Members of our coalition include consumer, civil rights, investor, retiree, community, labor, religious and business groups as well as renowned economists.
Swap data repositories (SDRs) are a key component of the market infrastructure envisioned in the Dodd-Frank Act. Central goals of the legislation, such as greater transparency in the derivatives market and improved regulatory oversight of the systemic implications of derivatives exposures, cannot be attained without the derivatives transaction records gathered by SDRs. For this reason, the legislation mandates that market participants submit their trade information to SDRs for storage and analysis, that regulators have access to this data, and that elements of the data be made publicly accessible in real time to improve market transparency.
AFR believes that SDRs have important characteristics of a public utility. For both SDRs and public utilities, government mandates universal participation in order to create benefits that could not otherwise be attained, and guarantees general access to these benefits. Public utilities are frequently publicly owned. But SDRs will be privately owned and managed. This makes them vulnerable to significant conflicts of interest that could interfere with their public utility mission. This could have serious consequences. If swaps data is not effectively processed, stored, and analyzed then proper regulatory oversight will be hampered and serious risks to the stability of the financial system could escape notice. The owners of SDRs could use preferential access to the information gathered to favor some market participants at the expense of others, or to deny transparent pricing information to customers.
Regulation of SDRs must reflect their public utility mission and ensure that conflicts of interest do not hamper or distort their operations. There are several ways the Commission can ensure this. One is through the governance and conflict of interest requirements for SDRs. Another is through the affirmative duties imposed on SDRs.
An additional issue is the potential dependence of the overall regulatory system on complex analysis of SDR data to generate aggregate position-level data on risk exposures. So long as SDRs are structured as a number of competing for-profit entities it will be difficult for them to cooperate well enough to perform this kind of analysis. The Commission should ensure this analysis can be done smoothly and mandate uniform data standards so swaps information can be easily be analyzed on a common platform even when generated by different SDRs. Where possible, aggregate data analysis should be performed by the regulators themselves, using raw trade data from SDRs as an input.
Additionally, as rapid access to SDR data is necessary for proper regulatory oversight, AFR believes that regulators should be provided with real-time streaming access to the necessary trade data from repositories, as opposed to periodic retrospective reports.
Governance and Conflict of Interest Requirements
The Proposed Rule clearly recognizes the potential for conflict of interest in SDR management, which is not surprising as this issue is addressed directly in the statute. However, AFR strongly favors more aggressive and more specific actions to prevent such conflicts than are laid out in this proposed regulation.
At a minimum, SDR governance rules should incorporate the same restrictions on board membership and ownership that have been proposed for other derivatives infrastructure organizations such as Derivatives Clearing Organizations (DCOs), Designated Clearing Facilities (DCFs), and Swaps Execution Facilities (SEFs). For example, these rules include requirements that at least 35 percent of board directors and at least 51 percent of members of the nominating committee must be independent public directors. They also include ownership limitations, e.g. no single member may directly or indirectly vote more than 20 percent of shares, and no enumerated entities with an interest in the regulated market may directly or indirectly own more than 40 percent of shares. Since the information controlled by SDRs can create conflicts of interest that are potentially as great as many of the conflicts that could exist for other derivatives infrastructure organizations, it is hard to see why their governance rules should be less stringent.
In some cases, AFR would favor stricter governance controls than those already proposed for DCOs and DCFs. In our comments on the governance rules for DCOs and DCFs we proposed an aggregate ownership limit of 25 percent for these organizations, and a requirement that a majority of members of the board be independent. We favor these restrictions for SDRs as well.
Affirmative Duties
In addition to setting rules for implementing the statutory core principles, the Dodd-Frank legislation allows the Commission to impose additional affirmative duties on SDRs. AFR is concerned that the additional duties laid out in the proposed rule would not go far enough in requiring SDRs to serve all market participants equally.
In particular, the access and pricing requirements laid out in proposed 49.27 of the rule should be more stringent and more detailed. The current proposal simply requires fees to be uniform, equitable, and non-discriminatory. However, these requirements are vague and non-specific. They also do not establish any relationship between SDR pricing and actual costs of SDR operations. As entities with a public utility mission, SDRs should be required to serve the broadest possible range of market participants compatible with earning a reasonable profit. This may not occur if SDRs set the highest possible fees the market will bear. There are natural economies of scale in the operation of SDRs, which may lead to some SDRs having significant market and therefore pricing power. SDRs should be required to set fees that are reasonable in relation to their costs of operation and to justify such fees to their regulator.
The proposal also allows volume discounts under certain circumstances, so long as they are not limited to a “select number” of market participants. But such discounts by their nature are limited to a select number of large customers. AFR believes volume discounts are discriminatory and urges the Commission to prohibit them in the final rule.
Data Access and Analysis
Section 49.17 of the proposed rule requires that SDRs provide the Commission with direct access to swaps trading data. The Commission asks for comment as to whether such direct access should be streaming or in the form of periodic reports. AFR believes that SDRs should provide regulators with a direct stream of trading data so that swaps markets can be tracked in real time. Periodic and retrospective data reporting is insufficient to analyze all the actions of market participants, some of whom may move in and out of positions very quickly.
Section 49.13 of the proposed rule requires SDRs to perform as yet unspecified data analysis tasks to assist the Commission and other regulators with market oversight. This data analysis are is likely to be crucial in allowing regulators to monitor aggregate exposures to risk at the company and asset class level, as well as aggregate ownership positions. Yet it will be difficult to perform such aggregation across many different and potentially competing SDRs. The Commission should require uniform data reporting to insure that these analyses can be performed. In addition, the Commission should develop the capacity to perform key data analysis in-house, using raw data from the SDRs, instead of becoming dependent on privately owned SDRs to measure aggregate exposures.
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In sum, AFR believes that SDRs have a significant public utility mission and face potentially major conflicts of interest in executing this mission. To address this, the Commission should incorporate restrictions on the governance, ownership, and practices of SDRs that are more specific and more stringent than those described in this rule. The governance requirements for SDRs should be at least as strict as those already proposed for other derivatives infrastructure organizations such as DCOs and DCFs. SDRs should also be required to set fee levels that are reasonably related to their costs of operation and to justify such fees.
We appreciate the opportunity to comment on the proposed rule. If you have any questions, please contact Heather Slavkin at Hslavkin@aflcio.org or (202) 637-5318.
Sincerely,
Americans for Financial Reform
Dr. Michael Greenberger, University of Maryland Law Center