CFTC Approves Exemption from SEF Registration Requirement for Multilateral Trading Facilities and Organized Trading Facilities Authorized Within the EU
The Commodity Futures Trading Commission (CFTC) announced on December 8, 2017 that it is exempting certain "multilateral trading facilities" (MTFs) and "organised trading facilities" (OTFs) regulated in the European Union (EU) from the swap execution facility (SEF) registration requirement set forth in section 5h of the Commodity Exchange Act (CEA) and its implementing CFTC regulations1 (collectively the SEF Regulations) (such announcement, the Exemption Order and such MTFs and OTFs being Exempt EU Venues).2 In addition, effective January 3, 2018, counterparties can comply with applicable trade execution requirements (which require that certain swaps be traded on a registered SEF, designated contract market (DCM) or an entity exempt from such registrations3 by executing swaps on Exempt EU Venues.
The CFTC is authorized to grant exemptions from the SEF Regulations if the CFTC determines that a given trading venue is "subject to comparable, comprehensive supervision and regulation on a consolidated basis by [....] the appropriate governmental authorities in the home country of the facility."4
On October 13, 2017, the CFTC and the European Commission (EC) issued a joint statement announcing a common approach regarding certain derivatives trading venues authorized in the EU and the US (the Joint Statement).5 The main aim of the common approach is to ensure that (i) US counterparties can comply with the trade execution requirement under Section 2(h)(8) of the CEA by executing swaps on certain EU authorized trading venues that are exempted from SEF registration pursuant to CEA Section 5h(g), as well as on SEFs and DCMs, and (ii) EU counterparties can comply with the EU mandatory trade execution requirement for certain OTC derivatives by executing such derivatives on CFTC-authorized SEFs and DCMs, in addition to EU authorized trading venues.
Following the Joint Statement, on December 7, 2017, an implementing decision recognizing certain trading venues authorized by the CFTC (SEFs and DCMs) as equivalent for the purposes of the EU mandatory trade execution requirement entered into force (the Implementing Decision). The Implementing Decision will be effective from January 3, 2018.6 In addition, after reviewing the relevant EU provisions of the Markets in Financial Instruments Directive (MiFID II), the Markets in Financial Instruments Regulation (MiFIR), and the Market Abuse Regulations (MAR), the CFTC determined that "MTFs and OTFs that are authorized within the EU" meet the standard for exemption from the SEF Regulations. The exemption takes effect on January 3, 2018, at which point swaps that would otherwise need to be executed on a SEF or DCM may instead be executed on Exempt EU Venues. The Implementing Decision and the Exemption Order have been timed to coincide with the implementation of MiFID II and MiFIR in the EU after which date an EU mandatory trade execution requirement for certain OTC derivatives between certain counterparties will become effective. Unlike in the US, there is not currently a mandatory trade execution requirement for OTC derivatives under EU law.
While the Implementing Decision and the Exemption Order come as no surprise, they are nonetheless long-awaited and welcome. Particularly as, in their absence, EU market participants would have faced challenges complying with the EU mandatory trade execution requirement from January 3 to the extent they wanted to execute trades on US trading venues. The exemptions reduce significantly the regulatory burden on trading venues that wish to act for both markets.
We discuss further below the detail of the Exemption Order which is the focus of this briefing.
THE EXEMPTION ORDER
The ultimate result of the Exemption Order is that the CFTC has (i) granted an exemption from its SEF Regulations to all MTFs and OTFs that are authorized and in good standing within the EU and listed in Appendix A to the Exemption Order (as amended from time-to-time), and (ii) allowed counterparties to comply with the trade execution requirements of Section 2(h)(8) of the CEA by executing swaps on an Exempt EU Venue, rather than a registered SEF.7 The CFTC's standard for granting the Exemption Order was whether "MTFs and OTFs that are authorized within the EU are subject to comparable, comprehensive supervision and regulation on a consolidated basis by the appropriate governmental authorities in the home country of the facility."8 This standard does not appear to require the foreign authority's relevant rules to match the CFTC's rule-for-rule, and there is no indication in the Exemption Order that the CFTC took such an approach. Rather, the CFTC gives few specifics in the Exemption Order regarding how its SEF Regulations compare with the EU's MTF and OTF regulations.
A number of requirements continue to apply to swap transactions executed on an MTF or OTF that is exempt from the SEF Regulations, including certain reporting obligations, which would remain with the applicable counterparty to a swap executed off facility (i.e. not on a SEC or DCM).9 The principle that an Exempt EU Venue is not deemed to be a SEF is also reflected in the requirement that the parties to a swap executed on an Exempt EU Venue must be Eligible Contract Participants.10
The CFTC will next examine whether exemptions may be appropriate with respect to certain real-time public reporting requirements11 for certain publicly reportable swap transactions executed on an Exempt EU Venue pursuant to this Exemption Order, in light of similar transparency requirements to which such transaction may be subject under EU regulation. No timeline has been given for this determination, however, so when such action may be taken (if ever) is yet to be seen.
Certain clearing-related requirements will apply to the applicable swap and/or exempt EU venue: (i) when executing a swap that is a "customer position" subject to section 4d of the CEA and is intended to be cleared (or required pursuant to Part 50), the swap must be cleared through a futures commission merchant at a derivatives clearing organization (DCO) registered with the CFTC; and (ii) when executing a swap that is a "proprietary position" under CFTC Rule 1.3(y) and is intended to be cleared (or required pursuant to Part 50), the swap must be cleared through either a DCO registered with the CFTC or a DCO that the CFTC has exempted from registration. MTFs and OTFs that intend to take advantage of the exemption from SEF Regulations must also, as a condition of the exemption, have rules in their rulebooks that ensure (i) and (ii) above occur.
The following is a list of the trading venues that are currently the subjects of the Exemption Order:
Bloomberg Multilateral Trading Facility Limited (MTF)
BGC Brokers LP (OTF)
EBS MTF (MTF)
GFI Brokers Limited (OTF)
ICAP Global Derivatives (MTF)
ICAP Securities (OTF)
ICAP WCLK (MTF)
NEX SEF Limited (MTF)
Sunrise Brokers LLP (OTF)
Tradeweb Europe Limited (MTF)
Tullett Prebon Europe (OTF)
Tullett Prebon Europe (MTF)
The EC may, on an on-going basis, request that venues be added or removed. The CFTC may modify, condition, suspend, terminate, or otherwise restrict the terms of the Exemption Order (including those trading venues to which it applies). The CFTC also reserves the right to enter into appropriate memoranda of understanding (or similar arrangements) with any EU member state's authorities that have jurisdiction over any of the trading venues subject to the Exemption Order.
Many of the trading venues named in the Exemption Order are based in the United Kingdom (UK). However, the practical impact that the UK leaving the EU will have on the Exemption Order (and other similar CFTC orders and determinations made with respect to the EU) remains to be seen.
THE EXPIRING EXEMPTION REGIME
CFTC Letter 14-46 (the QMTF Relief), which has set out the framework for "Qualifying MTFs" to obtain exemptions from the SEF Regulations since April 2014 is set to expire upon "the effective date of any final rules implementing the [CFTC]'s authority, under section 5h(g), to exempt facilities."12 Pursuant to the QMTF Relief, Qualifying MTFs (i.e. qualifying multilateral trading facilities overseen by competent authorities designated by EU member states) are able to apply for exemptions from the SEF Regulations. The requirements and conditions13 in the QMTF relief were considered by the market as too onerous, however, and we are unaware of any trading venues having qualified for an exemption as a Qualifying MTF.
If you have any questions or would like any additional information, please contact David Lucking, Deborah North, Sandy Tapnack or Zach Sinemus. In respect of EU, please contact Emma Dwyer, Damian Carolan and Nick Bradbury.
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1 See 17 C.F.R. Part 37 (2013).
2 The requirement for a platform to register as a SEF pursuant to 17 CFR Part 37 is particularly broad. The CFTC notes in FN 88 of the preamble to 17 CFR Part 37 that trading swaps subject to the trade execution requirement is not the only action that would require a venue to register as a SEF (or to be exempted from registration). Rather, "a facility would be required to register as a SEF if it operates in a manner that meets the SEF definition [i.e. a facility for the trading or processing of swaps generally] even though it only executes or trades swaps that are not subject to the trade execution manner" (subject to the cross-border applicability of the CEA, which requires that an activity have a "direct and significant connection with activities in, or effect on, commerce of the United States" for the swaps provisions of the CEA to apply).
3 See CEA §2(h)(8), 7 U.S.C. §2(h)(8) (2010).
4 CEA §5h(g), 7 U.S.C. §7b-3(g) (2010).
5 The Joint Statement can be accessed here: https://ec.europa.eu/info/sites/info/files/171013-joint-statement-ec-cftc_en.pdf.
6 The decision can be accessed here: http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32017D2238&from=EN.
7 This is consistent with the International Swaps and Derivatives Association (ISDA)'s recommendations that, once a comparability determination had been made, (i) "parties to a swap subject to the US trading mandate should be able to satisfy their obligations by executing on an EU trading venue in accordance with applicable rules, regardless of their status as a US person or otherwise"; and (ii) the CFTC grant a jurisdiction-wide registration exemption for SEF's, as opposed to the MTF-by-MTF approach found in CFTC Letter 14-46 (discussed further below) or the CCP-by-CCP determination found in the CFTC's DCO registration exemptions. See Principles for US/EU Trading Platform Recognition ISDA. (February 24, 2016), available at https://www.isda.org/a/RniDE/principles-for-us-eu-trading-platform-recognition.pdf.
8 Exemption Order, 3
9 This may serve as a deterrence to parties who would otherwise consider executing their swaps on an Exempt EU Venue, though an Exempt EU Venue could conceivably agree to act as the reporting counterparty's agent and report on their behalf (albeit without being able to exempt the reporting counterparty from regulatory liability). By contrast, the currently available SEF Regulation exemption requires "Qualifying MTFs" to report to swap data repositories (SDRs) pursuant to Part 43 and Part 45 as if they were registered SEFs.
10 "Eligible Contract Participant" is defined in 7 U.S.C. §1a(18) (2010); see 7 U.S.C. §2(e) (2015) for the requirement that non-Eligible Contract Participants execute their swaps on a venue registered with the CFTC.
11 See 17 CFR Part 43 (2012).
12 QMTF Relief, 2.
13 See QMTF Relief (An MTF’s obligation to report part 45 creation data and the initial part 43 data associated with swap transactions to a CFTC-registered or provisionally-registered swap data repository, as if it were a SEF, is set out in the QMTF Relief. An MTF is not otherwise obligated to report such data under Parts 43 and 45 of the CFTC's regulations); see also 17 C.F.R. Part 43 (2012); 17 C.F.R. Part 45 (2012).