CFTC Final Rule: Protection of Cleared Swaps Customer Contracts and Collateral; Conforming Amendments to the Commodity Broker Bankruptcy Provisions
|FINAL RULE: CFTC Final Rule: Protection of Cleared Swaps Customer Contracts and Collateral; Conforming Amendments to the Commodity Broker Bankruptcy Provisions at CFTC Open Meeting, January 11, 2012.|
|Final Rule Issue||Effective Date||Compliance Date|
|February 7, 2012||April 9, 2012||November 13, 2012|
Among the provisions of Title VII of the Dodd-Frank Act was a change to the Commodities Exchange Act to allow segregation of cleared swaps customer collateral held at a derivatives clearing organization (DCO) or a futures commission merchant (FCM). On January 11, 2012, the CFTC approved its final rule on the protection of cleared swaps customer contracts and collateral. Under the final rule, swaps customer funds will be legally segregated, but operationally commingled (the "LSOC Model"). Cleared swaps customer collateral will be segregated from the FCM’s own property, but cleared swaps collateral of all FCM cleared swaps customers will be permitted to be kept together pre-bankruptcy in one account.
The compliance date for LSOC was originally set at November 8, 2012. On November 1, 2012, the CFTC Division of Clearing and Risk issue a no-action letter to delay the compliance date until November 13, 2012. The delay was to allow FCMs additional time to focus on business continuity and disaster recovery after a hurricane swept the U.S. East Coast in late October.<ref>CFTC’s Division of Clearing and Risk Issues Temporary Compliance Delay Due to Hurricane Sandy. CFTC. Retrieved on November 1, 2012.</ref>
At its November 19, 2010 open meeting, the CFTC approved an advance notice of proposed rulemaking (ANPR) regarding protecting collateral of counterparties to cleared swaps in the case of a commodity broker bankruptcy. The ANPR considered four different models for segregation. The models were further discussed and refined at the April 27, 2011 open meeting. At the April meeting, the commission favored the LSOC model (known in the ANPR as "complete legal segregation)." Public comment letters can be found HERE.
The Final Rule
In the event of an FCM bankruptcy, where there is a shortfall in the cleared swaps customer account due to a cleared swaps customer loss that exceeds both the cleared swaps customer’s collateral and the FCM’s ability to pay, the DCO could only use the collateral attributable to the cleared swaps customers whose portfolios of positions at the DCO suffered losses to meet the loss. Collateral attributable to any swap customer whose position gained, or was "flat" would be immediately available for transfer.
However, if the shortfall is attributable to an operational issue (such as fraud or manipulation at the FCM), customer positions and collateral may be delivered to the Trustee; customers would receive a pro rata share per the U.S. Bankruptcy Code.
Under the final rule, customer collateral must adhere to limitations set by Commission Regulation 1.25.
CFTC Staff Guidance, November 1, 2012
- what constitutes cleared swaps customer collateral;
- how FCMs and DCOs may treat excess customer margin;
- the collection and treatment of variation margin;
- commingling of cleared swaps customer collateral;
- associated reporting rights and responsibilities; and
- the valuation process and liquidation procedures in case of an FCM default.
The staff interpretation letter is embedded below.
Related Documents: Fact Sheet, Q&A, Federal Register Entry, and Staff Guidance issued November 1, 2012