CFTC should extend US persons fix, says O'Malia

Agency has not begun debating final definition of US person and "will need to provide relief" when temporary exemption expires, says CFTC commissioner

The Commodity Futures Trading Commission (CFTC) has not started work on a final definition of the term "US person" according to Scott O'Malia, one of its five commissioners, and a temporary exemptive order that expires on July 12 should be extended as a result, he says.

"We have not begun to address that yet. I have no idea how that's going to be worked out at this point. I believe we will need to provide relief and the debate will be about whether to continue to extend the relief as is – with maybe some changes to the US person definition – or to implement the entire cross-border guidance and then provide exemptive relief to certain elements of that," says O'Malia.

The term is critical to the cross-border application of a number of the CFTC's Dodd-Frank Act rulemakings – helping to decide everything from whether a firm counts as a swap dealer to the application of transaction-level rules on clearing, margining and segregation, execution and reporting.

It was initially defined in guidance published in July 2012 and caused an immediate backlash, with market participants complaining it would massively expand the reach of US regulation. Three further definitions have since been published, and the market is currently using a narrow version that appeared in the December 21 exemptive order – under that order, a US person is any person who is a resident of the US, or any entity that is organised or incorporated in the US or has its principal place of business in the US. But revised proposals published in January introduced fresh problems, critics claim, in particular by adding ownership criteria – any entity that is directly or indirectly majority owned by US persons would itself count as a US person. That is a huge problem for mutual funds and hedge funds, where the balance of ownership is constantly shifting.

"It would be comical if the ramifications weren't so serious," one in-house counsel at a large global bank in London told Risk last month. "Whatever the definition, it should be something that allows us to determine whether someone is or is not a US person with a minimum of fuss and a high degree of certainty."

I have no idea how that's going to be worked out at this point. I believe we will need to provide relief

According to O'Malia, the uncertainty is set to continue, but he suggests the CFTC is more likely to roll the December exemption – possibly to the end of this year – than to implement its cross-border rules and provide specific carve-outs. The latter course would "be a surprise to most people. I don't know how that would be received in Europe," he says in an interview with Risk.

Separately, O'Malia addresses the technological challenges arising from new reporting obligations. That regime took effect earlier this year and information on interest rate swap and credit default swap trading is now flooding into new swap data repositories (SDRs), overwhelming the ability of the CFTC to analyse it.

O'Malia says the CFTC Technology Advisory Committee (C-Tac), which he chairs, will zero in on the challenge at its April 30 meeting. The first panel of the day will hear from market participants on the challenges they face in conforming to the rules, physically integrating to SDRs in terms of technology hardware and compliance reporting. A second panel will be populated by SDRs that will be asked how they can make market participants' lives easier and how they intend reporting to the regulator in a consistent manner.

O'Malia says he will also propose setting up a new data unit within the CFTC and a review of CFTC policies and procedures to protect the commercially sensitive market data it now has access to. O'Malia warns: "We have to make sure that everybody in the building understands what the requirements are and what the penalties are."

In addition, O'Malia calls for rules on the day-to-day operation of swap execution facilities (Sefs) to be finalised. There is concern from would-be Sefs that they may be disadvantaged by margin rules that favour the use of rival, cheaper futures contracts that they are unable to trade – and some are now talking about launching exchanges instead, which would be able to trade both futures and standardised OTC swaps. "There's a lot of uncertainty about what the Sef rules will provide and people are hedging their bets. I've talked to a number of Sefs that for a mere $250,000 can have their lawyers draft up a designated contract market (DCM) application, just in case they might want to become a DCM," he says.

Regarding an anticipated timescale for the Sef rules, he adds: "I've had to quit throwing out dates. I gave a speech in January thinking we would have a mid-February rule completed. Since then, negotiations have absolutely cratered and we're not making any progress whatsoever. The biggest stumbling block right now is we're negotiating it in the press, and that's not really conducive to a solution. We just need to sit down and vote and let the chips fall where they may."