Comment Text:
February 22, 2011
Mr. David A. Stawick
Secretary
Commodities Futures Trading Commission
Three Lafayette Centre
1155 21st Street, NW.
Washington, DC 20581
RE: Joint proposed rule; proposed interpretations. Further Definition of “Swap Dealer, “Security-Based Swap Dealer,” “Major Swap Participant,” Major Security-Based Swap Participant” and “Eligible Contract Participant.” (Federal Register/Vol. 75, No. 244)
Dear Mr. Stawick:
GROWMARK appreciates the opportunity to provide comments to the Commodities Futures Trading Commission, (CFTC), on proposed rules that will impact risk management programs of our farmer members and farmer cooperatives.
GROWMARK is a regional cooperative providing agriculture-related products and services, as well as grain marketing in more than 31 states and Ontario, Canada. GROWMARK owns the FS trademark, which is used by affiliated member cooperatives. The FS brand represents knowledgeable, experienced professionals acting with integrity and dedication to serve more than 100,000 customers.
Our farmer owned cooperative helps individual farmers work together to increase their competitiveness in many ways. Since cooperatives have been formed they provide individual producers the ability to increase their market access, market returns and improve their risk management programs by cooperating as a group. The use of risk management tools, including swaps, helps farmers and farmer cooperatives manage their risk in commodity markets.
Farmer cooperatives use and sell physical commodities and do not hold speculative positions. We take positions in commodity markets on behalf of our members and are an aggregator of end-users. End-users were not the intended to be treated the same as financial institutions when Congress passed the Dodd-Frank Act. The distinction of recognizing a cooperative as an aggregator of end-users would separate cooperatives like ours from becoming a regulated swap dealer and allow us to continue to provide important risk management tools to a market that is small in volume when compared to the financial market.
II. Application of the core tests to “swap dealers” and “security-based swap
dealers”
Farmer Cooperatives and other entities could inadvertently be regulated as a “swap dealer” by the CFTC when they were not intended to be regulated if the CFTC applies the “interpretive approach for identifying whether a person is a swap dealer” as outlined in the proposed rule.
The outline of “distinguishing characteristics of swap dealers” in the proposed rule have the potential to be applied based on the very similarity of actions involved using risk management tools such as swaps. Even though some cooperative activities could appear to fall under characteristics of a swap dealer, our actions are different than the entities that make markets in swaps on a for-profit basis.
Ways in which farmer-owned cooperatives differ from speculative or for-profit entities:
• Farmer cooperatives are farmer-owned, financed, and governed.
• Risk management tools are offered as a service to members in support of their members’ farming/cooperatively-owned operations. Net returns are distributed to members in cash and/or patronage-equity certificates or available as equity distribution.
• The purpose of cooperatives’ activities is “hedging or mitigating commercial risk,” as outlined in the entities definition and the end-user exemption to mandatory clearing of swaps proposed rules. The underlying activity to which a cooperative enters into swaps is commercial in nature. Cooperatives can enter into OTC swaps to hedge the price risk of the commodities we supply, process or handle; i.e. have a physical interest in the underlying asset. Cooperatives do not hold swaps for speculative, investment, or trading purposes.
• Cooperatives are recognized as bona fide hedgers for the purpose of being exempt from position limits under the Commodity Exchange Act, another determining circumstance that the Commission has proposed to deem a swap used for hedging or mitigating commercial risk. As with bona fide hedge exemptions, where the CFTC looks through the cooperative to the member’s underlying physical position, the CFTC should treat both the member and the cooperative as end-users (cooperatives are considered bona fide hedgers on the Chicago Mercantile Exchange and are not subject to speculative trading limits).
• While farmer cooperatives need commercial counterparties to take the other side of a swap, we do so to hedge commercial risk of our members, either directly at the farm or to help protect their investment in their cooperatively-owned businesses.
• Cooperatives enter into swaps that hedge other swaps that are held for hedging purposes. Swap transactions are used to offset the risk of aggregating agricultural producers’ and other cooperatives’ hedges. By entering into swaps to offset risk of aggregating those hedges, cooperatives are providing a service to their owner-members. A swap dealer or other commercial counterparty would otherwise not have the interest in servicing such small entities.
• Cooperatives serve a segment in the agricultural sector that consists of contracts in low volume and odd lot amounts that would not be of significance to be formally listed on an exchange with a futures contract. Increased requirement for capital and margin, business conduct standards, reporting and recordkeeping, if imposed on cooperatives, could render the cost of the transaction higher than the value of continuing to provide a needed risk management tool.
• A reasonable amount of agricultural inputs and products that cooperatives process and market are not traded in volumes necessary for conventional futures market to offer contracts (fertilizer and some dairy products, for example). Swaps are often the only risk management option for those inputs and products.
The Dodd-Frank Act tries to enhance transparency and competition, and narrowing bid-ask prices. However, for this to occur, entities have to “shop” around among a number of counterparties and be prepared to execute swap transactions with a larger number of counterparties. In doing so, the cooperative attempting to hedge the aggregated commercial risk of its members would meet a swap dealer definition on many levels including by their action of “shopping” around. We do not believe it was the intent of Congress for these activities of an agricultural cooperative to have them designated as swap dealers.
Farmer cooperatives are aggregators of end-users and should not be subject to the requirements that will be imposed on swap dealers. Requiring cooperatives to clear agricultural swaps and be subject to additional regulations intended for dealers will likely increase costs and render some vital marketing tools unavailable for cooperatives to offer producers. Increased record keeping and margins in a volatile market is a particular concern related to increased costs.
Forward contracting is another valuable risk management tool for the farmer. As forward contracts are not considered to be swaps there is no respective margin to the farmer. If clearing is required on the offsetting hedge, agricultural cooperatives, while fully hedged, may experience cash flow timing issues due to one side of the hedge being subject to margin requirements and the other not. This could put a considerable cash constraint on cooperatives and/or it could result in fewer risk management opportunities to farmers.
At times a cooperative can enter into swaps to free up working capital. Cooperatives do this so they can continue to offer forward pricing options for farmers to manage production risk. Mandatory margining of these swaps would render them useless.
III. Application of the De Minimis Exemption on “Aggregators”
The de minimis exemption as proposed is too low, both in aggregate effective notional amount of $100 million and total number of swaps (20) and counterparties (15), in the proposed rule to be helpful for many cooperatives. Our cooperative is active in supplying energy products, crop inputs and merchandising grain. We would quickly exceed the counterparty threshold and swap transaction thresholds. The amount of $100 million is also very low when considering the total amount of the marketplace. Increasing the de minimis level 10 fold may be a reasonable consideration and would be helpful to modern cooperatives.
IV. Eligible Contract Participant
The threshold for farmers to use swaps and swap options should be set the same at $1 million in net worth. However, farmers that do not meet the ECP requirements should be allowed to purchase agricultural swaps through Designated Contract Markets or their agricultural cooperative. Smaller farmers would still be able to access margin management tools that enable them to manage increasingly volatile markets. Farmers small in scale of business operations do not access the futures markets to hedge because of the large volumes underlying the relevant futures contracts. Providing access to these tools would enable the smaller scale of operation famers to customize their hedging needs to the appropriate volumes and time periods not applicable to futures contracts. The burden of due diligence would be put on the cooperative when making a decision whether to enter into a swap with those producers.
Conclusion
Swaps have become a very important part of cooperative risk management programs and particularly in the arena where volumes of commodities are very small or specialized and not offered in conventional futures trading. Cooperatives need to have the ability to aggregate the groups of end-users in a recognized way by the CFTC and not be pulled into the definition of a swap dealer. By recognizing cooperatives as aggregators of end-users, the CFTC will help minimize the increased costs of doing business for farmers and provide them the access to a wide range of risk management tools that are becoming increasingly important for all size operations as the value of their inputs and commodities rise.
We do not foresee cooperatives participation in the swap markets rising to the level that pose a systemic risk to the nation’s financial system and look forward to a favorable rule that does not treat us as a swap dealer. CFTC needs to be clear that farmer cooperatives are not captured under the same rules, and regulated to the same degree, as firms that pose systemic risk to the nation’s financial system.
We appreciate your consideration of our comments.
Sincerely,
Chuck Spencer
Director, Government Affairs
