SEC Adopts Regulatory Regime for Security-Based Swap Execution Facilities (SBSEFs) and SBS Trade Execution | Practical Law

SEC Adopts Regulatory Regime for Security-Based Swap Execution Facilities (SBSEFs) and SBS Trade Execution | Practical Law

The SEC has adopted Regulation SE, which sets out requirements for security-based swap execution facilities (SBSEFs) and security-based swap (SBS) trade execution under the Exchange Act, as mandated under Section 765 of the Dodd-Frank Act.

SEC Adopts Regulatory Regime for Security-Based Swap Execution Facilities (SBSEFs) and SBS Trade Execution

by Practical Law Finance
Published on 07 Nov 2023 • USA (National/Federal)
The SEC has adopted Regulation SE, which sets out requirements for security-based swap execution facilities (SBSEFs) and security-based swap (SBS) trade execution under the Exchange Act, as mandated under Section 765 of the Dodd-Frank Act.
On November 2, 2023, the SEC adopted Regulation SE, a new regime setting out requirements for security-based swap execution facilities (SBSEFs) and security-based swap (SBS) trade execution under the Securities Exchange Act of 1934, as amended (Exchange Act). Regulation SE implements Section 765 of the Dodd-Frank Act to finalize the SEC's regulatory regime for the SBS market. Regulation SE will:
  • Create a regime for the registration and regulation of SBSEFs.
  • Establish permissible execution methods for SBS that are subject to the Exchange Act trade-execution requirement. Under Regulation SE, except for block trades or the exceptions described in Regulation SE, the mandatory execution methods for a required transaction would, as under the CFTC, be either:
    • an order book; or
    • in conjunction with an order book, an RFQ. An RFQ is defined as a trading system or platform in which a market participant transmits a request for a quote to buy or sell a specific instrument to no less than three market participants in the trading system or platform, to which all such market participants may respond.
  • Provide that an SBS transaction will be required to be executed on an SBS exchange or SBSEF upon the later of:
    • a determination by the SEC that the SBS is required to be cleared; and
    • 30 days after a made-available-to-trade (MAT) determination submission or certification for that SBS is approved or certified.
  • Set out a procedure for SBSEFs to make an SBS available to trade and establish the following exemptions from the trade-execution requirement, modeled on § 37.10 of the CFTC's rules:
    • SBS transactions executed as a component of a package transaction that also includes a component transaction that is the issuance of a bond in a primary market is exempt from the trade-execution requirement in Section 3C(h) of the Exchange Act;
    • Section 3C(h) of the Exchange Act does not apply to an SBS transaction that is executed between counterparties that qualify as "eligible affiliate counterparties," defined under Regulation SE as a majority-owned affiliate or an affiliate under common ownership where the parent has a majority interest in both entities; and
    • Section 3C(h) of the Exchange Act does not apply to an SBS transaction that qualifies for an exception from the SBS clearing requirement under Section 3C(g) of the Exchange Act, or any exemption from the SBS clearing requirement that is granted by the SEC, for which the associated requirements are met.
Regulation SE will also:
  • Address the cross-border application of the SBS trade-execution requirement under which:
    • the trade-execution requirements set out in Exchange Act under Regulation SE apply to persons who are engaging in SBS in the US, including non-US persons that fit Regulation SE's definition of a "covered person"; and
    • foreign SBS trading venues may seek an exemption from the requirement to register as SBSEFs.
  • Address conflicts of interest at SBSEFs and national securities exchanges that trade SBS.
  • Establish procedures for rule and product filings by SBSEFs.
  • Implement the 14 Core Principles for SBSEFs set out in Section 3D(d) of the Exchange Act.
  • Impose requirements addressing conflicts of interest involving SBSEFs and SBS exchanges.
  • Deem a registered SBSEF (not otherwise engaging in other types of brokerage activity) to also be registered with the SEC as a broker and exempt that SBSEF from certain broker requirements.
  • Allow for SEC review of final actions taken by an SBSEF.
  • Exclude from the definition of "exchange" registered SBSEFs and registered SBS clearing agencies that perform certain matching and execution functions.
  • Promote consistency between the rules governing SBSEFs and existing rules under the Exchange Act.
  • Sunset certain existing temporary exemptions from registration as an SBSEF, national securities exchange, or clearing agency.
For Regulation SE to apply, an SBSEF must register with the SEC as an SBSEF on Form SBSEF or register as a national securities exchange. According to Regulation SE, a registered SBSEF must:
  • Submit filings with the SEC for new rules, rule amendments, and products.
  • Establish and enforce compliance with its rules, which must include, among other things, rules regarding impartial access, trading and trade processing, the operation of the SBSEF, the financial integrity of SBS on its facility, the exercise of emergency authority, and conflicts of interest.
  • Monitor trading to prevent manipulation, price distortion, and delivery or settlement disruptions.
  • Make public timely information on price, trading volume, and other trading data on SBS transactions and publish on its website a daily market data report.
  • Maintain records of all activities of the facility for a period of five years.
  • Have in place at all times adequate financial, operational, and managerial resources.
  • Establish and maintain a program of automated systems and risk analysis.
  • Establish and maintain emergency procedures, backup facilities, and a disaster recovery plan.
  • Designate a chief compliance officer (CCO) and establish regulatory and reporting obligations for the CCO.
According to Regulation SE, SEC harmonization between the SEC's SBSEF rules and the CFTC SEF rules could facilitate the ability of entities to dually register and minimize costs by allowing incumbent SEFs to use their existing systems, policies, and procedures to comply with the SEC's SBSEF rules. Regulation SE states that its goal is to harmonize closely with analogous CFTC swap execution facility (SEF) rules, except where:
  • The differences in the SEC's statutory authority relative to the CFTC's statutory authority, or differences in the SBS market relative to the swaps market, necessitated differences between the SEC rules and the CFTC rules.
  • The benefits of deviating from the CFTC rules would otherwise justify burdens and costs associated with imposing different or additional requirements than the corresponding CFTC rule.
Regulation SE takes effect on February 13, 2024.