Definition of 'swap' triggers U.S. oversight of global market

, Daily Business Review


A definition of swaps required by the Dodd-Frank Act and approved by U.S. regulators will bring government scrutiny to a $648 trillion global market that has been largely unchecked since it emerged three decades ago.

The U.S. Commodity Futures Trading Commission and Securities Exchange Commission, the agencies charged with overhauling financial regulation following the 2008 credit crisis, laid out for the first time when interest-rate, credit, commodity and other derivatives will be considered swaps. The designation, approved Tuesday, activates rules to increase collateral requirements and bolster public trading of the products by companies such as JPMorgan Chase & Co., Goldman Sachs Group Inc. and Cargill Inc.

"This is significant to the American public because now we will bring transparency to these markets," CFTC Chairman Gary Gensler said Tuesday in a Bloomberg Television interview after the commission met in Washington. "We will have dealers registering. We will lower the risk to the American public. Congress said further define a term. We further defined it. Two months from now a lot of Dodd-Frank comes into being."

The swap definition will trigger almost 20 Dodd-Frank measures for reporting, clearing, trading and record-keeping that may take effect as early as September. The CFTC voted 4-1 to complete the roughly 600-page document after the SEC on Friday voted unanimously in a private process.

The swap definition contains exemptions for insurance and retail transactions. Life insurance, and property and casualty insurance are exempt. Interest-rate caps on consumer mortgages and home heating oil agreements are also left out.

Forwards Exempted

The CFTC will also allow exemption of forwards tied to non- financial commodities. The agency is seeking comment on exempting energy contracts with so-called volumetric optionality.

"In order to meet varying customer demands, natural gas and electricity suppliers frequently enter into commercial transactions with embedded optionality as to the volume of energy that is physically delivered," Scott O'Malia, a Republican commissioner, said at Tuesday's meeting. Mark Wetjen, a Democratic commissioner, supported seeking comment on the exemption.

The Working Group of Commercial Energy Firms, a lobbying organization represented by law firm Hunton & Williams LLP, urged the CFTC to exempt the contracts. Executives at firms including ConocoPhillips have testified for the group.

"They provide commercial energy firms with the flexibility necessary to reliably acquire and deliver physical commodities necessary to meet the specific requirements of buyers and sellers of the commodities," the group said in a letter to the CFTC in July 2011.

Embedding Options

Bart Chilton, a Democratic commissioner who opposed the measure, said he's concerned that the financial industry will create forwards that embed options in a way that would skirt Dodd-Frank.

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