Meeting Date:
Friday, February 4, 2011
CFTC Staff:
Terry Arbit
Mark Fajfar
Julian Hammar
David Aron
Rose Troia
Carl Kennedy
Nela Richardson
Steve Kane
Organization(s):
Vanguard
Goldman Sachs Asset Management
Pimco
Wellington Management Co., LLP
Fidelity Investments
SIFMA AMG
Davis Polk & Wardwell LLP
External Attendees:
William Thum (Vanguard)
Wendy Yun (Goldman Sachs Asset Management)
William De Leon (Pimco)
Kevin Broadwater (Pimco)
Libby Cantrill (Pimco)
Charlie Mulhorn (Wellington Management Co., LLP)
Christine Hyotte-Brennan (Fidelity Investments)
Matt Nevins (Fidelity Investments)
Tim Cameron (SIFMA AMG)
Daniel Budofsky (Davis Polk & Wardwell LLP)
Joshua Kans (SEC)
Richard Grant (SEC)
Jeffrey Dinwoodie (SEC)
Jack Habert (SEC)
Tom Eady (SEC)
Marta Chaffee (SEC)
Brian Bussey (SEC)
Additional Information:
The discussion covered the following points made by SIFMA AMG, primarily relating to the definition of major swap participant (MSP).
The substantial position test in the definition of MSP should be based on systemic risk measured by the stress that would occur from a default on the unsecured swap positions across all dealers and other counterparties with which the MSP has swaps in place. The systemic risk should be measured from the dealer/counterparty’s perspective. From this view, systemic risk is created by uncollateralized exposure from swap positions. The proposal is therefore correct to exclude fully collateralized positions and positions that are only uncollateralized overnight (i.e., that are collateralized by the next business day). The proposal should also allow for a credit for excess collateral posted with a dealer/counterparty, with respect to any uncollateralized swap positions at that dealer/counterparty.
Overall, SIFMA AMG generally supports the method of measuring swap positions by (i) looking to the exposure created by the position for the dealer/counterparty, and (ii) discounting for certain aspects of the swap such as whether it is collateralized or cleared. However, SIFMA AMG will have comments on the specifics of the calculation and the particular thresholds.
The allocation of collateral among positions in different categories of swaps should be clarified. Also, the proposal should clarify that an item of collateral can be applied against swap positions up to the full value of the collateral, and even among different types of positions, without it being considered that the collateral has been double counted. (That is, collateral with a value of 100 can be allocated to reduce exposure across various swap and non-swap positions of up to 100, even if the collateral is posted only with respect to certain positions. But the collateral could not reduce exposure by more than 100.)
To calculate potential future exposure (PFE) more accurately, but in a manner that may practicably be applied, it may be helpful to have more specific adjustments for various swap positions. For example, the PFE of a swap that is cleared by a central counterparty may be equal to the initial margin required for that swap. This would more closely tie the PFE of the swap to its risk as the risk varies over time.
In valuing swap positions and collateral posted, it is generally appropriate to rely on industry standard practices, especially because the practices are improving. For example, the ISDA process for resolving valuation disputes that is currently under negotiation appears to be useful. Reference to industry standards in the rule is also appropriate because it gives the regulators an ability to modify the requirements of the rule as industry standards evolve. Requirements stated more definitively could be unworkable because they would not adjust.
SIFMA AMG said the definition of the exclusion from the MSP definition for swap positions that hedge or mitigate commercial risk should not be too closely linked to accounting standards for hedging, because those standards are subjective and unpredictable. In general, SIFMA AMG members believe that their use of swaps to hedge or mitigate commercial risks would be relatively less than the use made by other market participants. Therefore, SIFMA AMG members think that the exclusion should not be so broad that it permits corporate end users of swaps to accumulate very large swap positions without becoming MSPs.
SIFMA AMG also commented on the reference in the proposed rulemaking to measuring whether a person is an MSP by including the person’s share of any swap positions held by investment funds of which the person is a beneficial owner. To do so would be impractical, and also inappropriate because the investment fund bears the risk of the position. Also, the beneficial owner is not a source of systemic risk, since the beneficial owner’s failure would not cause the investment fund to default on its swap positions. Swap positions of funds that are directed by the investor should be distinguished from passive investments in funds that are made in order to diversify the investor’s exposure to different types of investments. For example, it could be more sensible for a beneficial owner to include in the calculations the swap positions of its separate accounts, as opposed to the swap positions of mutual funds in which it invests.
The meeting also discussed the de minimis exemption from the swap dealer definition. Generally, SIFMA AMG is concerned that if the de minimis exemption does not permit small “boutique” swap dealers to operate, the availability of swaps for innovative uses (e.g., weather derivatives, niche indexes, etc.) may diminish.
