CFTC Proposed Implementation Timeline and Compliance Schedules

The CFTC recently announced a tentative implementation timeline for certain final rules under Title VII of the Dodd-Frank Act, and issued proposed rules setting forth phased-in compliance schedules for Clearing and Trade Execution Requirements and Trading Documentation and Margining Requirements. The CFTC noted that its actions are in recognition of the complexity of the rules and the timelines necessary for regulated entities to achieve compliance.
 
A. Tentative Implementation Timeline

The tentative implementation timeline is divided into two parts: (1) 11 rules the CFTC expects to issue in 2011, including rules regarding data recordkeeping and reporting, the end-user exception, position limits, real-time reporting and segregation of collateral requirements for cleared swaps, and (2) 10 other rules the CFTC expects to address during the first quarter of 2012, including those related to capital and margin requirements, client-clearing documentation and risk management, internal business conduct (documentation), swap execution facilities and segregation for uncleared swaps. 

Chairman Gary Gensler indicated that the CFTC staff is working on an extension of the existing exemption in place with respect to certain requirements of the Dodd-Frank Act. The current exemption is set to expire at the end of 2011.

B. Phased-In Compliance Schedules

In a pair of related proposed orders, the CFTC outlined similar phase-in requirements for Clearing and Trade Execution Requirements, and Trading Documentation and Margining Requirements. However, the CFTC noted that prior to any of these compliance requirements becoming mandatory, certain final rules are required. Specifically, the CFTC must adopt final rules:

a.     related to the end-user exception to mandatory clearing;
b.     further defining “swap,” “swap dealer” and “major swap participant”; and
c.     regarding the segregation of customer collateral.

Additionally, the CFTC noted that before it can require compliance with the trade execution requirements, it must not only adopt all of the above listed rules, but also adopt final rules related to Designated Contract Markets (DCM) or Swap Execution Facilities (SEF).

1. Clearing and Trade Execution Requirements

Once the required rules necessary to facilitate the centralized clearing and trade execution requirements of the Dodd-Frank Act are finalized, the proposed schedule provides for staggered compliance based on three categories of non-exempt market participants. The three categories are:

• Category 1 - Swap dealers, security-based swap dealers, major swap participants, major security-based swap participants and active funds.
• Category 2 - Commodity pools, certain private funds, certain employment benefit plan, or certain persons predominately engaged in banking or other financial activities.
• Category 3 - All other swap transactions.

The CFTC identifies in its proposed schedule certain “trigger events” which must occur before either the clearing requirements or the trade and execution requirements become active. For the purposes of the clearing requirements, the trigger event is the CFTC issuing a mandatory clearing determination with respect to the specific group, category, type or class of swap.

After such triggering event, transactions between two Category 1 entities are required to be in compliance within 90 days of the trigger event. Within 180 days, transactions between a Category 2 entity and a Category 1 or other Category 2 entity must be in compliance. Finally, within 270 days of the triggering event, all other swap transactions must come into compliance.

The CFTC further clarified that the phased-in compliance schedule will generally only apply with respect to new swap products. For example, the schedule would not apply when a derivatives clearing organization (DCO) begins offering a new swap for clearing that is in a group, category, type or class of swaps that was subject to a previous clearing determination. To avoid confusion, the CFTC will provide notice with its clearing determinations whether the phased-in compliance schedule will apply.

With regard to the trade execution requirements, compliance will be required on the later of (i) the applicable deadline established under the compliance schedule outlined above or (ii) 30 days after the swap is made available for trading on either a SEF or DCM. Consequently, market participants always will have at least 30 days after a SEF or DCM has made a swap available to comply with a trading execution requirement.

2. Documentation and Margining Requirements

The CFTC issued a similar phase-in for compliance with the Dodd-Frank Act’s documentation and margining requirements. The documentation standards relate to the timely and accurate confirmation, processing, netting, documentation, and valuation of a swap, and in large part reflect existing documentation as found in the ISDA Master Agreement, schedules, confirmations and credit support annex. The proposed margin requirements would impact all swap dealers and major swap participants, though the specifics of the margin requirements depend on an entity’s regulator and the counterparty.

However, before the documentation requirements or margin requirements can be finalized, the CFTC must adopt final rules related to confirmation of swap transaction, the protection of collateral for uncleared swaps, the definitions of certain key terms and the registration rules for the registered entities. Once the CFTC issues the relevant final rules, the phase-in approach will be similar to that as for the clearing and trade execution requirements.

Under the proposed schedule, there are four categories of entities:

• Category 1 - Swap dealers, security-based swap dealers, major swap participants, major security-based swap participants and active funds.
• Category 2 - Commodity pools, certain private funds, certain employment benefit plan, or certain persons predominately engaged in banking or other financial activities, provided that in each case, the entity is not a third-party subaccount.
• Category 3 - A Category 2 entity whose positions are held as a third-party subaccount.
• Category 4 - Any person not included in Categories 1, 2 or 3. 

Category 1 and Category 2 entities are required to be in compliance with the documentation and margining requirements within 90 days and 180 days, respectively, from the date the CFTC issues the relevant final rules. For both Categories 3 and 4, compliance is required within 270 days after the CFTC issues the relevant final rules.

The CFTC is seeking public comment on the proposed compliance schedules for 45 days after the date of publication of the proposed schedules in the Federal Register (both were published on September 20, 2011). The CFTC has requested comments regarding the proposed implementation schedules, any anticompetitive concerns, or other possible issues market participants may have with the proposed phase-in implementations. With all the proposed compliance schedules, the CFTC is encouraging any entity that wants to bring a transaction into compliance prior to the required compliance day to do so.