FX Swaps Regulation - Comment Letters

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Dodd-Frank Timeline, FX Swaps Exception to Swaps Regulation, Treasury Department
Proposal Date Comment Deadline Proposed Determination Final Determination
October 28, 2010 November 29, 2010 April 29, 2011 November 16, 2012

Comment letters addressing FX swaps regulation. Letters dates June 2011 are in reference to the April 29, 2011 Proposed Determination on FX Swaps and Forwards. Earlier letters are in reference to the notice of proposed rulemaking (NOPR), October 28, 2010, For more information, see the FX Swaps Regulation page.

World Federation of Exchanges & International Options Markets Association - June 6, 2011

Department of the Treasury Determination of Foreign Exchange Swaps and Forwards
June 6, 2011

Summary points from the comment letter:

  1. There are no significant differences between standardized swaps that are generally subject to the Act’s requirements, and foreign currency swaps and forwards that Treasury proposes to exempt that would justify an exemption.
  2. Although the current FX market infrastructure, CLS Bank International, appears to address adequately certain risks in the two-day foreign currency spot markets, it does not in any way address other important risks that are inherent in the foreign currency derivatives markets.
  3. Centralized clearing could address the risks that are not handled by CLS Bank International.
  4. An exemption could create a gaping regulatory loophole that could invite exploitation by market participants. It would be contrary to stated G20 and US Treasury statements that standardized OTC contracts must be moved to a safer environment, in order to reduce the risks inherent in them for financial stability.
  5. An eventual exemption should stipulate that all non-cleared contracts must be reported to a trade repository.
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Investment Company Institute - June 6, 2011

Department of the Treasury Determination of Foreign Exchange Swaps and Forwards
June 6, 2011

From the comment letter:

  • "The Treasury has proposed to issue a written determination exempting FX swaps and forwards from the definition of swap because the “unique characteristics and oversight of the FX swaps and forwards market already reflect many of Dodd-Frank’s objectives for reform – including high levels of transparency, effective risk management, and financial stability.” We strongly support the Treasury’s proposed determination."
  • "Indeed, we are concerned that, as discussed in the Notice, imposing central clearing and exchange trading requirements on the FX swaps and forwards market could threaten practices in this market that help limit risk and ensure that the market functions effectively."
  • Failure to clarify that [non-deliverable forwards] are within the definition of FX forwards could create confusion for market participants regarding the treatment of the two types of FX forwards. It would result in operational difficulties for market participants when assessing their swaps activity for purposes of certain CFTC rules.10 It also could allow for potential arbitrage between the two types of FX forwards. Finally, splitting up FX forwards and NDFs would increase fragmentation in the currency markets as NDFs are subject to clearing and trading requirements."
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FXall - June 6, 2011

Department of the Treasury Determination of Foreign Exchange Swaps and Forwards
June 6, 2011

From the comment letter:
"Subjecting FX swaps and forwards to the clearing and execution requirements of Dodd-Frank Act is not desirable, as the bulk of these trades are already executed on transparent electronic platforms (such as FXall), and the mitigation of the relatively small credit risk (as opposed to settlement risk) associated with the majority of these contracts does not warrant the imposition of a central clearing requirement."

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Global FX Division - November 15, 2010

Exemption of Foreign Exchange Swaps and Forwards
November 15, 2010

The Global Foreign Exchange (FX) Division was formed in cooperation with the Association for Financial Markets in Europe (AFME), the Securities Industry and Financial Markets Association (SIFMA) and the Asia Securities Industry and Financial Markets Association (ASIFMA). Its members comprise 20 global FX market participants, collectively representing more than 85% of the FX market. In its letter, the Global FX Division highlights six arguments supporting the exemption of FX swaps and forwards from the Dodd-Frank swaps definition:

  1. The foreign exchange market, including FX forwards and FX swaps, is qualitatively different from derivatives markets and should be overseen by central banks, including the Federal Reserve as the U.S. central bank.
  2. The FX market is a global payment system with a well-developed settlement system that has effectively mitigated systemic risk.
  3. Imposing mandatory trading and clearing on the FX market would increase systemic risk and threaten financial stability.
  4. Central banks actively oversee and are the appropriate primary regulators of the FX market.
  5. The Federal Reserve has authority to regulate “systemically important” payment activities and designated activities by financial institutions under Title VIII of the Dodd-Frank Act.
  6. Regulators have ample tools to address any potential abuses of the exemption to evade otherwise applicable regulatory requirements.
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World Federation of Exchanges & International Options Markets Association - November 29, 2010

Department of the Treasury Determination of Foreign Exchange Swaps and Forwards
November 29, 2010

From the comment letter:

"We do not believe there is a sufficient basis for disparate regulatory treatment for foreign currency swaps and forwards from standardized swaps for several reasons:

  • First, there are not significant differences between foreign currency derivatives and other classes of swaps subject to the Act’s mandatory clearing and trading requirement that warrant such an exemption.
  • Second, the risk dynamics present in OTC foreign currency derivatives markets are fundamentally different than the factors present in the foreign currency spot markets.
  • Finally, the WFE and IOMA believe the current infrastructure in the foreign currency markets is adequate to address settlement risk in the spot market trading, but does not address the important counterparty credit risks inherent in the broader OTC foreign currency derivatives markets.

"WFE and IOMA believe that implementing such an exemption at this time would create greater systemic risk, rather than mitigate risk."

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World Federation of Exchanges & International Options Markets Association - November 29, 2010

Department of the Treasury Determination of Foreign Exchange Swaps and Forwards
November 29, 2010

From the comment letter:

"We do not believe there is a sufficient basis for disparate regulatory treatment for foreign currency swaps and forwards from standardized swaps for several reasons:

  • First, there are not significant differences between foreign currency derivatives and other classes of swaps subject to the Act’s mandatory clearing and trading requirement that warrant such an exemption.
  • Second, the risk dynamics present in OTC foreign currency derivatives markets are fundamentally different than the factors present in the foreign currency spot markets.
  • Finally, the WFE and IOMA believe the current infrastructure in the foreign currency markets is adequate to address settlement risk in the spot market trading, but does not address the important counterparty credit risks inherent in the broader OTC foreign currency derivatives markets.

"WFE and IOMA believe that implementing such an exemption at this time would create greater systemic risk, rather than mitigate risk."

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Better Markets - November 29, 2010

Determination of Foreign Exchange Swaps and Forwards
November 29, 2010
Follow-up Letter, February 25, 2011

According to Better Markets:

"During the 2008 financial crisis, the market for foreign exchange swaps and forwards collapsed along with the other markets. This required the Federal Reserve Bank to bail out the foreign exchange markets with $5.4 trillion in the three months following the Lehman Brothers bankruptcy. These are facts supported by independent analysis detailed by Better Markets in several letters and meetings with the Treasury. Regrettably, this exemption is a loophole that Wall Street’s financial engineers will undoubtedly exploit." [1]

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Investment Company Institute - November 29, 2010

Determination of Foreign Exchange Swaps and Forwards
November 29, 2010

The Investment Company Institute ("ICI"), in a letter to the U.S. Department of the Treasury, declined to comment on the proposed exemption of FX swaps and forwards from the Dodd-Frank definition of swaps, but has two recommendations regarding the terminology in the Dodd-Frank Act:

  1. Recommend a clarification that distinguishes FX spot transactions as separate from "swaps"
  2. Ensure equivalent treatment of deliverable and non-deliverable forward contracts
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Americans for Financial Reform - November 29, 2010

Determination of Foreign Exchange Swaps and Forwards
November 29, 2010

Americans for Financial Reform urges U.S. Treasury Secretary Timothy Geithner to not exempt foreign exchange swaps and forwards from the Dodd-Frank definition of swaps. Several arguments are highlighted, including:

  • The sheer size of the FX market ($4 trillion per day) poses a systemic risk.
  • Spot FX settlement platforms exist, but are inadequate, and half of these transactions occur outside the system.
  • Counterparty credit, liquidity, and market/price risks are much larger than the industry acknowledges.
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Coalition for Derivatives End-Users - November 29, 2010

Notice and Request for Comments, Determination of Foreign Exchange Swaps and Forwards
November 29, 2010

From the comment letter:

"The Coalition for Derivatives End-Users believes the Treasury should exercise its authority to treat FX forwards and swaps differently from other OTC derivatives for five key reasons:

  1. The FX market has developed robust risk practices over the last two decades—including settlement systems and increased bilateral collateralization of exposures—that have successfully mitigated the potential for the market to create systemic risk;
  2. FX swaps and forwards are different from other “swaps” addressed by the Dodd-Frank Act and should not be regulated as if they were the same. As Secretary Geithner has pointed out, “they are not really derivatives” when compared to other “swaps;”
  3. The FX market is already subject to appropriate oversight by central banks around the world;
  4. The FX market has functioned remarkably well during the recent credit crisis; and
  5. Imposing new regulations on the FX market could create, not reduce, systemic risk, and would cost the economy in terms of jobs and growth. This letter argues that FX swaps and forwards do not materially contribute to systemic risk, and that treating these products otherwise would create significant and potentially destabilizing burdens on companies and possibly the economy.

"We believe that FX swaps and forwards do not materially contribute to systemic risk. Indeed, we believe treating these products otherwise would create significant and potentially destabilizing burdens on companies and possibly the economy."

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FXall - November 29, 2010

Notice and Request for Comments, Determination of Foreign Exchange Swaps and Forwards
November 29, 2010

Summary of the comment letter:

"FX swaps and FX forwards are largely short-duration instruments, reflecting specific dates, amounts and currencies determined by commercial end users and investors. They are largely traded electronically, on transparent electronic systems, and settled through a CLS Bank. The costs to market participants of the swaps clearing and trading requirements of the Dodd-Frank Act would not be offset by corresponding benefits to market participants in the form of greater protection or reduced risk. For these reasons, the Secretary should determine that FX swaps and FX forwards should not be subject to the Dodd-Frank Act's clearing and trading requirements."

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References

  1. Why Treasury is Wrong to Exempt FX Swaps/Forwards. Better Markets. Retrieved on November 20, 2012.

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