SEC Adopts Final Clearing Submission Rules for Security-based Swaps under Dodd-Frank | Practical Law

SEC Adopts Final Clearing Submission Rules for Security-based Swaps under Dodd-Frank | Practical Law

The SEC issued final rules on clearinghouse approval of security-based swaps for mandatory clearing under the Dodd-Frank Act. The rules also include certain reporting requirements for systemically important security-based swap clearinghouses.

SEC Adopts Final Clearing Submission Rules for Security-based Swaps under Dodd-Frank

Practical Law Legal Update 9-520-1409 (Approx. 5 pages)

SEC Adopts Final Clearing Submission Rules for Security-based Swaps under Dodd-Frank

by PLC Finance
Published on 10 Jul 2012 • USA (National/Federal)
The SEC issued final rules on clearinghouse approval of security-based swaps for mandatory clearing under the Dodd-Frank Act. The rules also include certain reporting requirements for systemically important security-based swap clearinghouses.
On June 28, 2012, the SEC adopted final rules under the Dodd-Frank Act detailing, among other things:
  • The process for SEC review and approval of SBS submitted to SBS clearinghouses (referred to as "clearing agencies") for mandatory clearing.
  • Procedures for submitting security-based swaps (SBS) for SEC review using "SBS submissions" (SBSS).
  • Certain requirements for clearing agencies designated as "systemically important."
SBS that are subject to the mandatory Dodd-Frank clearing requirement must be cleared through a clearing agency registered with the SEC.

Security-based Swap Submissions

Procedure and Statements

Under the final rules, a clearing agency must file information with the SEC in an "SBS submission" (SBSS) for any SBS, or any group, category, type or class of SBS, that the clearing agency plans to accept for clearing. The SEC then reviews the SBSS to determine whether the SBS it covers should be subject to mandatory clearing and will publish a notice of each SBSS it is reviewing. The SEC has 90 days to make its determination, during which time there is a 30-day public comment period to enable the public to comment on the SBSS and to provide information for the SEC to consider when making its determination on whether an SBS (or group, category, type or class of SBS) must be cleared.
The SBSS must include quantitative and qualitative information to assist the SEC in its assessment of the five factors specified in Title VII of the Dodd-Frank Act that must be considered when making a mandatory clearing determination:
  • The existence of significant outstanding notional exposures, trading liquidity and adequate pricing data for the SBS to which the SBSS relates.
  • The availability of a rule framework, capacity, operational expertise and resources, and credit-support infrastructure to clear the SBS on terms consistent with the material terms and trading conventions on which the SBS is typically traded.
  • The effect of clearing the SBS on the mitigation of systemic risk, taking into account the size of the market for the SBS and the resources available to the clearing agency to clear the SBS.
  • The effect of clearing the SBS on competition, including appropriate fees and charges applied to clearing the SBS.
  • The existence of reasonable legal certainty with respect to the treatment of customers of clearing members of the clearing agency and of SBS counterparty positions, funds and property in the event of the insolvency of the clearing agency or one or more of its clearing members.

Aggregation of SBS

The final rules require clearing agencies to submit SBS to the SEC for review by group, category, type or class, to the extent practicable and reasonable, in order to streamline the SBSS process for the SEC and the clearing agencies. The SBSS must include a clear description of the aggregation so that market participants and the public know which SBS may be subject to a clearing requirement. The SEC will determine at a later date which SBS are appropriately aggregated into groups, categories, types or classes depending on the particular facts and circumstances of the SBS under consideration and the proposed groupings. Factors to be considered include:
  • How the clearing agency defines the relevant SBS (or relevant group, category, type or class).
  • How the clearing agency manages the product (both operationally and in its rulebook).
  • Comments received by the SEC.
Until the SEC provides further guidance, clearing agencies may organize their SBSS based on a system that has a reasonable basis that the clearing agency finds appropriate and that is responsive to the requirements of the Exchange Act.

Notice to Clearing Agency Members

Under the final rules, a clearing agency must notify its clearing members of any SBSS it submits and must post the SBSS on its public website within two business days of submission to the SEC. The posting must remain on the clearing agency's website until either:
  • The SEC makes a determination regarding the SBSS.
  • The clearing agency withdraws the SBSS.
  • The clearing agency is notified that the SBSS was not properly filed.
For a description of clearing members and an explanation of the swap clearing process, see Practice Note, Mechanics of Derivatives Clearing.
These requirements apply to clearing agencies designated as systemically important financial market utilities (FMUs) by the Financial Stability Oversight Council (FSOC). For more information on FMUs, see Legal Update, FSOC Issues Final Rules on Designating FMUs as Systemically Important.

Additional SBS Clearing Rules

The final rules also address:
  • Preventing evasion of the clearing requirement (see Preventing Evasion of Clearing Requirement).
  • SEC procedure for staying the clearing requirement (see Stay of Clearing Requirement).
  • Form and rule changes to reflect new deadlines under Dodd-Frank (see Form and Rule Changes).
  • Requirements that "systemically important" clearing agencies (referred to as "designated clearing agencies") provide 60 days advance notice to the SEC of any rule, procedural or operational changes it plans to make that could affect its ability to carry out its core settlement and clearing functions or its systemic risk management. These requirements apply to clearing agencies designated as systemically important financial market utilities (FMUs) by the Financial Stability Oversight Council (FSOC).

Preventing Evasion of Clearing Requirement

The rules clarify that SBS subject to the mandatory clearing requirement must be submitted for central clearing to a clearing agency that functions as a central counterparty (CCP). This rule is intended to prevent evasion of the clearing requirement that might otherwise occur due to the broad definition of "clearing agency" under the Exchange Act, which includes clearing corporations, securities depositories and entities providing matching services. The broad definition allows entities to operate as registered clearing agencies yet not provide central clearing services nor act as a CCP. Therefore, in the absence of these final rules, market participants might have satisfied the clearing requirement by submitting the SBS for matching services to a clearing agency, rather than for central clearing.

Stay of Clearing Requirement

The final rules establish procedures for staying a clearing requirement imposed by the SEC under these rules for an SBS (or group, category, type or class of SBS). The final rules also establish procedures for the SEC's subsequent review of the terms of the relevant SBS (or group, category, type or class of SBS) after a stay has been granted to determine whether to subsequently reverse the prior determination
A counterparty to an SBS applying for a stay must submit a written statement to the SEC that:
  • Requests a stay of the clearing requirement for an SBS (or for a group, category, type or class of SBS).
  • Identifies the counterparties to the SBS and a contact at the counterparty requesting the stay.
  • Identifies the clearing agency clearing the SBS.
  • Describes the terms of the SBS and the clearing arrangement.
  • Provides the reasons the stay should be granted and why the SBS should not be subject to a clearing requirement.
Each application for a stay will be publicly available on the SEC's website and the SEC will provide notice to the public each time it grants a stay of the mandatory clearing requirement.
The final rules allow the SEC to stay or remove the mandatory clearing requirement either temporarily or permanently for:
  • A single SBS.
  • A group, category, type or class of SBS.
  • The counterparty requesting the stay, or more broadly where appropriate.

Compliance and Effective Dates

The compliance and effective dates for most of these final rules is 30 days after publication in the Federal Register. New Rule 19b-4(o), which requires clearing agencies to submit SBSS to the SEC, will also have an effective date of 30 days after its publication in the Federal Register. However, the compliance date for clearing agency SBSS submissions is 60 days after the SEC issues its first written determination on whether an SBS (or group, category, type or class of SBS) is subject to mandatory clearing.
Following the first written determination on whether an SBS (or group, category, type or class of SBS) is subject to mandatory clearing, clearing agencies will then be required to submit SBSS:
  • For all SBS they have listed for clearing after July 21, 2010.
  • Whenever they plan to accept a new SBS for clearing.
For more on the final rules, see the SEC's press release.
For more on the SEC's regulation of SBS under the Dodd-Frank Act, see Practice Note, Summary of the Dodd-Frank Act: Swaps and Derivatives: Swap Clearing and Exchange Trading. For more information on the CFTC's final clearing rules for non-security-based swaps, see Legal Update, CFTC Issues Final Rules on Review Process of Non-security-based Swaps for Clearing under Dodd-Frank.