[Federal Register Volume 75, Number 244 (Tuesday, December 21, 2010)]
[Proposed Rules]
[Pages 80174-80218]
[FR Doc No: 2010-31130]

-----------------------------------------------------------------------

Part III

Commodity Futures Trading Commission

-----------------------------------------------------------------------

17 CFR Part 1

Securities and Exchange Commission

-----------------------------------------------------------------------

17 CFR Part 240

Further Definition of ``Swap Dealer,'' ``Security-Based Swap Dealer,''
``Major Swap Participant,'' ``Major Security-Based Swap Participant''
and ``Eligible Contract Participant''; Proposed Rule

Federal Register / Vol. 75 , No. 244 / Tuesday, December 21, 2010 /
Proposed Rules

-----------------------------------------------------------------------

COMMODITY FUTURES TRADING COMMISSION

17 CFR Part 1

RIN 3038-AD06

SECURITIES AND EXCHANGE COMMISSION

17 CFR Part 240

[Release No. 34-63452; File No. S7-39-10]
RIN 3235-AK65

Further Definition of ``Swap Dealer,'' ``Security-Based Swap
Dealer,'' ``Major Swap Participant,'' ``Major Security-Based Swap
Participant'' and ``Eligible Contract Participant''

AGENCY: Commodity Futures Trading Commission; Securities and Exchange
Commission.

ACTION: Joint proposed rule; proposed interpretations.

-----------------------------------------------------------------------

SUMMARY: In accordance with Section 712(d)(1) of Title VII of the Dodd-
Frank Wall Street Reform and Consumer Protection Act of 2010 (``Dodd-
Frank Act''), the Commodity Futures Trading Commission (``CFTC'') and
the Securities and Exchange Commission (``SEC'') (collectively, the
``Commissions''), in consultation with the Board of Governors of the
Federal Reserve System, are proposing rules and interpretative guidance
under the Commodity Exchange Act (``CEA''), 7 U.S.C. 1 et seq., and the
Securities Exchange Act of 1934 (``Exchange Act''), 15 U.S.C. 78a et
seq., to further define the terms ``swap dealer,'' ``security-based
swap dealer,'' ``major swap participant,'' ``major security-based swap
participant,'' and ``eligible contract participant.''

DATES: Submit comments on or before February 22, 2011.

ADDRESSES: Comments may be submitted by any of the following methods:
    CFTC:
     Agency Web site, via its Comments Online process: http://comments.cftc.gov. Follow the instructions for submitting comments
through the Web site.
     Mail: David A. Stawick, Secretary, Commodity Futures
Trading Commission, Three Lafayette Centre, 1155 21st Street, NW.,
Washington, DC 20581.
     Hand Delivery/Courier: Same as mail above.
     Federal eRulemaking Portal: Comments also may be submitted
at http://www.regulations.gov. Follow the instructions for submitting
comments. ``Definitions'' must be in the subject field of responses
submitted via e-mail, and clearly indicated on written submissions. All
comments must be submitted in English, or if not, accompanied by an
English translation. All comments provided in any electronic form or on
paper will be published on the CFTC Web site, without review and
without removal of personally identifying information. All comments are
subject to the CFTC Privacy Policy.

SEC

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/proposed.shtml);
     Send an e-mail to<EMAIL_ADDRESS>Please include
File Number S7-39-10 on the subject line; or
     Use the Federal eRulemaking Portal (http://www.regulations.gov). Follow the instructions for submitting comments.

Paper Comments

     Send paper comments in triplicate to Elizabeth M. Murphy,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090.

All submissions should refer to File Number S7-39-10. This file number
should be included on the subject line if e-mail is used. To help us
process and review your comments more efficiently, please use only one
method. The Commission will post all comments on the Commission's
Internet Web site (http://www.sec.gov/rules/proposed.shtml). Comments
are also available for Web site viewing and printing in the
Commission's Public Reference Room, 100 F Street, NE., Washington, DC
20549, on official business days between the hours of 10 a.m. and 3
p.m. All comments received will be posted without change; we do not
edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly.

FOR FURTHER INFORMATION CONTACT: CFTC: Mark Fajfar, Assistant General
Counsel, at<PHONE_NUMBER><EMAIL_ADDRESS>Julian E. Hammar, Assistant
General Counsel, at<PHONE_NUMBER><EMAIL_ADDRESS>or David E. Aron,
Counsel, at<PHONE_NUMBER><EMAIL_ADDRESS>Office of General Counsel,
Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st
Street, NW., Washington, DC 20581; SEC: Joshua Kans, Senior Special
Counsel, Jeffrey Dinwoodie, Attorney Advisor, or Richard Grant,
Attorney Advisor, at<PHONE_NUMBER>, Division of Trading and Markets,
Securities and Exchange Commission, 100 F Street, NE., Washington, DC
20549-7010.

SUPPLEMENTARY INFORMATION:

I. Background

    On July 21, 2010, President Obama signed the Dodd-Frank Act into
law.\1\ Title VII of the Dodd-Frank Act \2\ established a comprehensive
new regulatory framework for swaps and security-based swaps. The
legislation was enacted, among other reasons, to reduce risk, increase
transparency, and promote market integrity within the financial system,
including by: (1) Providing for the registration and comprehensive
regulation of swap dealers, security-based swap dealers, major swap
participants and major security-based swap participants; (2) imposing
clearing and trade execution requirements on swaps and security-based
swaps, subject to certain exceptions; (3) creating rigorous
recordkeeping and real-time reporting regimes; and (4) enhancing the
rulemaking and enforcement authorities of the Commissions with respect
to, among others, all registered entities and intermediaries subject to
the Commissions' oversight.
---------------------------------------------------------------------------

    \1\ See Dodd-Frank Wall Street Reform and Consumer Protection
Act, Public Law 111-203, 124 Stat. 1376 (2010). The text of the
Dodd-Frank Act may be accessed at http://www.cftc.gov./
LawRegulation/OTCDERIVATIVES/index.htm.
    \2\ Pursuant to Section 701 of the Dodd-Frank Act, Title VII may
be cited as the ``Wall Street Transparency and Accountability Act of
2010.''
---------------------------------------------------------------------------

    More specifically, the Dodd-Frank Act provides that the CFTC will
regulate ``swaps,'' and the SEC will regulate ``security-based swaps.''
The Dodd-Frank Act also adds to the CEA and Exchange Act definitions of
the terms ``swap dealer,'' ``security-based swap dealer,'' ``major swap
participant,'' ``major security-based swap participant,'' and
``eligible contract participant.'' These terms are defined in Sections
721 and 761 of the Dodd-Frank Act and, with respect to the term
``eligible contract participant,'' in Section 1a(18) of the CEA,\3\ as
re-designated and amended by Section 721 of the Dodd-Frank Act.
---------------------------------------------------------------------------

    \3\ See 7 U.S.C. 1a(18).
---------------------------------------------------------------------------

    Section 712(d)(1) of the Dodd-Frank Act provides that the CFTC and
the SEC, in consultation with the Board of Governors of the Federal
Reserve System, shall jointly further define the terms ``swap,''
``security-based swap,'' ``swap dealer,'' ``security-based swap
dealer,'' ``major swap participant,'' ``major security-based swap
participant,'' ``eligible contract participant,'' and ``security-based
swap agreement.''

Further, Section 721(c) of the Dodd-Frank Act requires the CFTC to
adopt a rule to further define the terms ``swap,'' ``swap dealer,''
``major swap participant,'' and ``eligible contract participant,'' and
Section 761(b) of the Dodd-Frank Act permits the SEC to adopt a rule to
further define the terms ``security-based swap,'' ``security-based swap
dealer,'' ``major security-based swap participant,'' and ``eligible
contract participant,'' with regard to security-based swaps, for the
purpose of including transactions and entities that have been
structured to evade Title VII of the Dodd-Frank Act.\4\
---------------------------------------------------------------------------

    \4\ The definitions of the terms ``swap,'' ``security-based
swap,'' and ``security-based swap agreement,'' and regulations
regarding mixed swaps are the subject of a separate rulemaking by
the Commissions.
---------------------------------------------------------------------------

    In light of the requirements in the Dodd-Frank Act noted above, the
CFTC and the SEC issued a joint Advance Notice of Proposed Rulemaking
(``ANPRM'') on August 13, 2010, requesting public comment regarding the
definitions of ``swap,'' ``security-based swap,'' ``security-based swap
agreement,'' ``swap dealer,'' ``security-based swap dealer,'' ``major
swap participant,'' ``major security-based swap participant,'' and
``eligible contract participant'' in Title VII of the Dodd-Frank
Act.\5\ The Commissions reviewed more than 80 comments in response to
the ANPRM. The Commissions also informally solicited comments on the
definitions on their respective Web sites.\6\ In addition, the staffs
of the CFTC and the SEC have met with many market participants and
other interested parties to discuss the definitions.\7\
---------------------------------------------------------------------------

    \5\ See Definitions Contained in Title VII of Dodd-Frank Wall
Street Reform and Consumer Protection Act, Exchange Act Rel. No. 34-
62717, 75 FR 51429 (Aug. 20, 2010). The comment period for the ANPRM
closed on September 20, 2010.
    \6\ Comments were solicited by the CFTC at http://www.cftc.gov/LawRegulation/DoddFrankAct/OTC_2_Definitions.html and the SEC at
http://www.sec.gov/spotlight/regreformcomments.shtml/.
    \7\ The views expressed in the comments in response to the
ANPRM, in response to the Commissions' informal solicitation, and at
such meetings are collectively referred to as the views of
``commenters.''
---------------------------------------------------------------------------

    In this release, the Commissions propose to further define ``swap
dealer,'' ``security-based swap dealer,'' ``major swap participant,''
``major security-based swap participant'' and ``eligible contract
participant,'' and propose related rules, and also discuss certain
factors that are relevant to market participants when determining their
status with respect to the defined terms. In developing these
proposals, the Commissions have been mindful that the markets for swaps
and security-based swaps are evolving, and that the rules that we adopt
will, as intended by the Dodd-Frank Act, significantly affect those
markets. The rules not only will help determine which entities will be
subject to comprehensive regulation of their swap and security-based
swap activities, but may also cause certain entities to modify their
activities to avoid being subject to the regulations. As a result, we
are aware of the importance of crafting these rules carefully to
maximize the benefits of the regulation imposed by the Dodd-Frank Act,
and to do so in a way that is flexible enough to respond to market
developments. While we preliminarily believe that these proposals, if
adopted, would appropriately effect the intent of the Dodd-Frank Act,
we are very interested in commenters' views as to whether we have
achieved this purpose, and, if not, how to improve these proposals.\8\
---------------------------------------------------------------------------

    \8\ In addition, we recognize that the appropriateness of these
proposals also should be considered in light of the substantive
requirements that will be applicable to dealers and major
participants, including capital, margin and business conduct
requirements, which are the subject of separate rulemakings. For
example, whether the definition of a major participant is too broad
or too narrow may well depend in part on the substantive
requirements applicable to such entities, and whether those
substantive requirements are themselves appropriate may in turn
depend in part on the scope of the major participant definition. We
therefore encourage comments that take into account the interplay
between the proposed definitions and these substantive requirements.
---------------------------------------------------------------------------

II. Definitions of ``Swap Dealer'' and ``Security-Based Swap Dealer''

    The Dodd-Frank Act defines the terms ``swap dealer'' and
``security-based swap dealer'' in terms of whether a person engages in
certain types of activities involving swaps or security-based swaps.\9\
Persons that meet either of those definitions are subject to statutory
requirements related to, among other things, registration, margin,
capital and business conduct.\10\
---------------------------------------------------------------------------

    \9\ See Section 721 of the Dodd-Frank Act (defining ``swap
dealer'' in new Section 1a(49) of the CEA, 7 U.S.C. 1a(49)) and
Section 761 of the Dodd-Frank Act (defining ``security-based swap
dealer'' in new Section 3(a)(71) of the Exchange Act, 15 U.S.C.
78c(a)(71)).
    \10\ The Dodd-Frank Act excludes from the Exchange Act
definition of ``dealer'' persons who engage in security-based swap
transactions with eligible contract participants. See Section
3(a)(5) of the Exchange Act, 15 U.S.C. 78c(a)(5), as amended by
Section 761(a)(1) of the Dodd-Frank Act.
    The Dodd-Frank Act does not include comparable amendments for
persons who act as brokers in swaps and security-based swaps.
Because security-based swaps are a type of security, persons who act
as brokers in connection with security-based swaps must, absent an
exemption, register with the SEC as a broker pursuant to Exchange
Act section 15(a), and comply with the Exchange Act's requirements
applicable to brokers.
---------------------------------------------------------------------------

    The two definitions in general encompass persons that engage in any
of the following types of activity:
    (i) Holding oneself out as a dealer in swaps or security-based
swaps,
    (ii) Making a market in swaps or security-based swaps,
    (iii) Regularly entering into swaps or security-based swaps with
counterparties as an ordinary course of business for one's own account,
or
    (iv) Engaging in activity causing oneself to be commonly known in
the trade as a dealer or market maker in swaps or security-based
swaps.\11\
---------------------------------------------------------------------------

    \11\ See CEA section 1a(49)(A); Exchange Act section
3(a)(71)(A).
---------------------------------------------------------------------------

    The definitions are disjunctive, in that a person that engages in
any of the enumerated dealing activities is a swap dealer or security-
based swap dealer even if the person does not engage in any of the
other enumerated activities.
    The definitions, in contrast, do not include a person that enters
into swaps or security-based swaps ``for such person's own account,
either individually or in a fiduciary capacity, but not as a part of a
regular business.'' \12\ The Dodd-Frank Act also instructs the
Commissions to exempt from designation as a dealer an entity that
``engages in a de minimis quantity of [swap or security-based swap]
dealing in connection with transactions with or on behalf of its
customers.'' \13\ Moreover, the definition of ``swap dealer'' (but not
the definition of ``security-based swap dealer'') provides that an
insured depository institution is not to be considered a swap dealer
``to the extent it offers to enter into a swap with a customer in
connection with originating a loan with that customer.'' \14\
---------------------------------------------------------------------------

    \12\ See CEA section 1a(49)(C); Exchange Act section
3(a)(71)(C).
    \13\ See CEA section 1a(49)(D); Exchange Act section
3(a)(71)(D).
    \14\ CEA section 1a(49)(A).
---------------------------------------------------------------------------

    The definitions also provide that a person may be designated as a
dealer for one or more types, classes or categories of swaps, security-
based swaps, or activities without being designated a dealer for other
types, classes or categories or activities.\15\
---------------------------------------------------------------------------

    \15\ See CEA section 1a(49)(B); Exchange Act section
3(a)(71)(B).
---------------------------------------------------------------------------

    The Commissions are proposing rules to further define certain
aspects of the meaning of ``swap dealer'' and ``security-based swap
dealer,'' and are providing guidance on how the Commissions propose to
interpret these terms. This release specifically addresses: (A) The
types of activities that would cause a person to be a swap dealer or
security-based swap dealer, including differences in how those two
definitions should be applied; (B) the statutory provisions requiring
the Commissions to exempt persons from the dealer

definitions in connection with de minimis activity; (C) the exception
from the ``swap dealer'' definition in connection with loans by insured
depository institutions; (D) the possibility that a person may be
considered a dealer for some types, classes or categories of swaps,
security-based swaps, or activities but not others; and (E) certain
interpretative issues that arise in particular situations. The
Commissions request comment on all aspects of the proposals, including
the particular points noted in the discussion below.

A. Swap and Security-Based Swap Dealing Activity

1. Comments Regarding Dealing Activities
    Commenters provided numerous examples of conduct they viewed as
dealing activities--as well as conduct they did not view as dealing
activities. For example, many of the commenters stated that dealers
provide ``bid/ask'' or ``two-way'' prices for swaps on a regular basis,
or regularly participate in both sides of the swap market. Some
commenters indicated that dealers perform an intermediary function.
Other commenters stated that a person holds itself out as a dealer if
it consistently and systematically markets itself as a swap dealer to
third parties. Some commenters described market makers in the swap
markets as persons that stand ready to buy or sell swaps at all times,
are open to doing swaps business on both sides of a market, or make
bids to buy and offers to sell swaps or a type of swap at all times.
Commenters stated that a person should be included in the definition of
dealer if its sole or dominant line of business is swaps activity. One
commenter urged the Commissions to adopt a swap association's
definition of a primary member as the definition of dealer.
    Some commenters stated that the definition of dealer should be read
narrowly. For example, some commenters suggested that the market maker
concept should not encompass persons that provide occasional quotes or
that do not make bids or offers consistently or at all times. Another
commenter stated that a willingness to buy or sell a swap or security-
based swap at a particular time does not constitute market making
absent the creating of a two-way market. One commenter suggested that
solely acting as a market maker should not cause a person to be a
dealer, since firms may have commercial purposes for offering two-way
trades. Another commenter stated that an entity that ``holds itself
out'' as a dealer should qualify as a swap dealer only if it
``consistently and systematically markets itself as a dealer to third-
parties.'' \16\
---------------------------------------------------------------------------

    \16\ See letter from Eric Dennison, Sr. Vice President and
General Counsel, Stephanie Miller, Assistant General Counsel--
Commodities, and Bill Hellinghausen, Director of Regulatory Affairs,
EDF Trading, dated September 20, 2010 (distinguishing transactions
that the commenter enters into as part of energy management
services).
---------------------------------------------------------------------------

    Many commenters called for the exclusion of particular types of
persons from the definition of swap dealer or security-based swap
dealer. Several commenters maintained that commercial end-users of
swaps or security-based swaps that enter into swaps or security-based
swaps to hedge or mitigate commercial risk should be excluded from the
definitions. Another commenter stated the definitions should exclude
persons who use swaps or security-based swaps for bona fide hedging.
Other commenters indicated that cooperatives that enter into swaps in
connection with the business of their members should be excluded.
Commenters also stated that if all of a person's swaps are cleared on
an exchange or derivatives clearing organization, the person should not
be deemed to be a dealer. One commenter stated competitive power
suppliers should be excluded, and another stated that the dealer
definition should not apply to futures commission merchants that act
economically like brokers.
    Commenters, particularly those in the securities industry, urged
the Commissions to interpret the definitions of swap dealer and
security-based swap dealer consistently with precedent that
distinguishes between dealers in securities and traders in securities.
However, one commenter also noted that some concepts from the
securities and commodities laws may not easily be applied to these
markets.
2. Application of the Core Tests to ``Swap Dealers'' and ``Security-
Based Swap Dealers''
    The Dodd-Frank Act defines the terms ``swap dealer'' and
``security-based swap dealer'' in a functional manner, encompassing how
a person holds itself out in the market, the nature of the conduct
engaged in by the person, and how the market perceives the person's
activities. This suggests that the definitions should not be
interpreted in a constrained or overly technical manner. Rigid
standards would not provide the necessary flexibility to respond to
evolution in the ways that dealers enter into swaps and security-based
swaps. The different types of swap and security-based swap markets are
diverse, and there does not appear to be a single set of criteria that
can be determinative in all markets.
    At the same time, we note that there may be certain distinguishing
characteristics of swap dealers and security-based swap dealers,
including that:
     Dealers tend to accommodate demand for swaps and security-
based swaps from other parties;
     Dealers are generally available to enter into swaps or
security-based swaps to facilitate other parties' interest in entering
into those instruments;
     Dealers tend not to request that other parties propose the
terms of swaps or security-based swaps; rather, dealers tend to enter
into those instruments on their own standard terms or on terms they
arrange in response to other parties' interest; and
     Dealers tend to be able to arrange customized terms for
swaps or security-based swaps upon request, or to create new types of
swaps or security-based swaps at the dealer's own initiative.
    We also recognize that the principles relevant to identifying
dealing activity involving swaps can differ from comparable principles
associated with security-based swaps. These differences are due, in
part, to differences in how those instruments are used. For example,
because security-based swaps may be used to hedge or gain economic
exposure to underlying securities (while recognizing distinctions
between securities-based swaps and other types of securities, as
discussed below), there is a basis to build upon the same principles
that are presently used to identify dealers for other types of
securities. Accordingly, we separately address how the core tests would
apply to swap dealers and to security-based swap dealers.
a. Application to Swap Dealers
    The definition of swap dealer should be informed by the differences
between swaps, on the one hand, and securities and commodities, on the
other. Transactions in cash market securities and commodities generally
involve purchases and sales of tangible or intangible property. Swaps,
in contrast, are notional contracts requiring the performance of agreed
terms by each party.\17\ Thus, many of the concepts cited by
commenters, such as whether a person buys and sells swaps or makes a
two-sided market in swaps or trades within a bid/offer spread, cannot

necessarily be applied to all types of swaps to determine if the person
is a swap dealer. We understand that market participants do use this
terminology colloquially to describe the process of entering into a
swap. For example, a person seeking a fixed/floating interest rate swap
may inquire as to the fixed rates, spread above the floating rate and
other payments that another person would require in order to enter into
a swap. But, while these persons may discuss bids, offers, prices and
so forth, the parties are negotiating the terms of a contract, they are
not negotiating the price at which they will transfer ownership of
tangible or intangible property. Accordingly, these concepts are not
determinative of whether a person is a ``swap dealer.''
---------------------------------------------------------------------------

    \17\ As discussed below, however (see note 42, infra), the Dodd-
Frank Act amended the Exchange Act definitions of ``buy,''
``purchase,'' ``sale'' and ``sell'' to apply to particular actions
involving security-based swaps.
---------------------------------------------------------------------------

    Instead, persons who are swap dealers may be identified by the
functional role they fulfill in the swap markets. As noted above, swap
dealers tend to accommodate demand and to be available to enter into
swaps to facilitate other parties' interest in swaps (although swap
dealers may also advance their own investment and liquidity objectives
by entering into such swaps). In addition, swap dealers can often be
identified by their relationships with counterparties. Swap dealers
tend to enter into swaps with more counterparties than do non-dealers,
and in some markets, non-dealers tend to constitute a large portion of
swap dealers' counterparties. In contrast, non-dealers tend to enter
into swaps with swap dealers more often than with other non-
dealers.\18\ The Commissions can most efficiently achieve the purposes
underlying Title VII of the Dodd-Frank Act--to reduce risk and to
enhance operational standards and fair dealing in the swap markets--by
focusing their attention on those persons whose function is to serve as
the points of connection in those markets. The definition of swap
dealer, construed functionally in the manner set forth above, will help
to identify those persons.
---------------------------------------------------------------------------

    \18\ Some of the commenters appeared to suggest that significant
parts of the swap markets operate without the involvement of swap
dealers. We believe that this analysis is likely incorrect, and that
the parties that fulfill the function of dealers should be
identified and are likely to be swap dealers.
---------------------------------------------------------------------------

    Clause (A)(iii) of the statutory definition of swap dealer, which
includes any person that ``regularly enters into swaps with
counterparties as an ordinary course of business for its own account,''
\19\ has been the subject of significant uncertainty among commenters.
The commenters point out that its literal terms could encompass many
parties who regularly enter into swaps without engaging in any form of
swap dealing activity. In this regard, clause (A)(iii) of the
definition should be read in combination with the express exception in
subparagraph (C) of the swap dealer definition, which excludes ``a
person that enters into swaps for such person's own account, either
individually or in a fiduciary capacity, but not as a part of a regular
business.'' Thus, the difference between the inclusion in clause
(A)(iii) and the exclusion in subparagraph (C) is whether or not the
person enters into swaps as a part of, or as an ordinary course of, a
``regular business.'' \20\ We believe that persons who enter into swaps
as a part of a ``regular business'' are those persons whose function is
to accommodate demand for swaps from other parties and enter into swaps
in response to interest expressed by other parties. Conversely, persons
who do not fulfill this function should not be deemed to enter into
swaps as part of a ``regular business'' and are not likely to be swap
dealers.
---------------------------------------------------------------------------

    \19\ We interpret this reference to a person entering into swaps
``with counterparties * * * for its own account'' to refer to a
person entering into a swap as a principal, and not as an agent. A
person who entered into swaps as an agent for customers (i.e., for
the customers' accounts) would be required to register as either a
Futures Commission Merchant, Introducing Broker, Commodity Pool
Operator or Commodity Trading Advisor, depending on the nature of
the person's activity.
    \20\ The definition of ``security-based swap dealer'' is
structured similarly, and should be interpreted similarly.
---------------------------------------------------------------------------

    In sum, to determine if a person is a swap dealer, we would
consider that person's activities in relation to the other parties with
which it interacts in the swap markets. If the person is available to
accommodate demand for swaps from other parties, tends to propose
terms, or tends to engage in the other activities discussed above, then
the person is likely to be a swap dealer. Persons that rarely engage in
such activities are less likely to be deemed swap dealers.
    We request comment on this interpretive approach for identifying
whether a person is a swap dealer.
b. Application to Security-Based Swap Dealers
    The definition of ``security-based swap dealer'' has parallels to
the definition of ``dealer'' under the Exchange Act.\21\ In addition,
security-based swaps may be used to hedge risks associated with the
ownership of certain other types of securities,\22\ and security-based
swaps may be used to gain economic exposure akin to ownership of
certain other types of securities.\23\ As a result, the SEC would
consider the same factors that are relevant to determining whether a
person is a ``dealer'' under the Exchange Act as also generally
relevant to the analysis of whether a person is a security-based swap
dealer.
---------------------------------------------------------------------------

    \21\ The Exchange Act in relevant part defines ``dealer'' to
mean ``any person engaged in the business of buying and selling
securities (not including security-based swaps, other than security-
based swaps with or for persons that are not eligible contract
participants) for such person's own account through a broker or
otherwise,'' but with an exception for ``a person that buys or sells
securities (not including security-based swaps, other than security-
based swaps with or for persons that are not eligible contract
participants) for such person's own account, either individually or
in a fiduciary capacity, but not as a part of a regular business.''
Exchange Act sections 3(a)(5)(A) and (B), 15 U.S.C. 78c(a)(5)(A) and
(B), as amended by Section 761(a)(1) of the Dodd-Frank Act.
    \22\ For example, an entity that owns a particular security may
use a security-based swap to hedge the risks of that security.
Conversely, an entity may seek to offset exposure involving a
security-based swap by using another security as a hedge.
    \23\ For example, an entity may enter into a security-based swap
to gain economic exposure akin to a long or short position in a
stock or bond, without having to engage in a cash market transaction
for that instrument.
---------------------------------------------------------------------------

    The Exchange Act has been interpreted to distinguish between
``dealers'' and ``traders.'' In this context, the SEC previously has
noted that the dealer-trader distinction:

Recognizes that dealers normally have a regular clientele, hold
themselves out as buying or selling securities at a regular place of
business, have a regular turnover of inventory (or participate in
the sale or distribution of new issues, such as by acting as an
underwriter), and generally provide liquidity services in
transactions with investors (or, in the case of dealers who are
market makers, for other professionals).\24\
---------------------------------------------------------------------------

    \24\ Securities Exchange Act Release No. 47364 (Feb. 13, 2003)
(footnotes omitted).

Other non-exclusive factors that are relevant for distinguishing
between dealers and non-dealers can include the receipt of customer
property and the furnishing of incidental advice in connection with
transactions.
    The markets involving security-based swaps are distinguishable in
certain respects from markets involving cash market securities--
particularly with regard to the concepts of ``inventory'' (which
generally appears inapplicable in this context) \25\ and ``regular
place of business.'' For example, the suggestion that dealers are more
likely to operate at a ``regular place of business'' than traders
should not be construed in a way that ignores the reality of how the
security-based swap markets operate (or that

ignores evolution in dealing practices involving other types of
securities). Dealers may use a variety of methods to communicate their
availability to enter into security-based swaps with other market
participants. The dealer-trader distinction should not be applied to
the security-based swap markets without taking those distinctions into
account.\26\ Even in light of those differences, however, we believe
that the dealer-trader distinction provides an important analytical
tool to assist in determining whether a person is a ``security-based
swap dealer.''
---------------------------------------------------------------------------

    \25\ In particular, an analysis that considers dealers to differ
from traders in part because dealers have regular turnover in
``inventory'' appears not to apply in the context of security-based
swaps, given that those instruments are created by contract between
two market counterparties, rather than reflecting financial rights
issued by third-parties.
    \26\ The definition of ``security-based swap dealer,'' unlike
the Exchange Act's definition of ``dealer,'' does not specifically
refer to ``buying'' and ``selling.'' We do not believe that this
language difference is significant, however, as the Dodd-Frank Act
amended the Exchange Act definitions of ``buy'' and ``purchase,''
and the Exchange Act definitions of ``sale'' and ``sell,'' to
encompass the execution, termination (prior to its scheduled
maturity date), assignment, exchange or similar transfer or
conveyance of, or extinguishing of rights or obligations under, a
security-based swap. See Dodd-Frank Act sections 761(a)(3), (4)
(amending Exchange Act sections 3(a)(13), (14)).
---------------------------------------------------------------------------

    Commenters have raised concerns that the ambit of the security-
based swap dealer definition could encompass end-users that use
security-based swaps for hedging their business risks. Deeming those
entities to be security-based swap dealers due to their hedging
activities could discourage their use of hedging transactions or
subject them to a regulatory framework that was not intended to address
their businesses and could subject them to unnecessary costs. Under the
dealer-trader distinction, however, we would expect entities that use
security-based swaps to hedge their business risks, absent other
activity, likely would not be dealers.\27\ Also, as discussed below,
both the ``security-based swap dealer'' definition and the dealer-
trader distinction in part turn on whether a person holds itself out as
a dealer.
---------------------------------------------------------------------------

    \27\ Of course, if a person's other activities satisfy the
definition of security-based swap dealer, it must comply with the
applicable requirements with regard to all of its security-based
swap activities, absent an order to the contrary, as discussed
below. Also, as discussed below, we would expect end-users to use
security-based swaps for hedging purposes less commonly than they
use swaps for hedging purposes.
---------------------------------------------------------------------------

    We request comment on the application of the dealer-trader
distinction as part of the analysis of whether a person is a security-
based swap dealer.
c. Issues Common to Both Definitions
i. Holding Oneself Out as, and Being Commonly Known in the Trade as, a
Swap Dealer or Security-Based Swap Dealer
    As noted above, the application of these definitions to persons
that ``hold themselves out'' as dealers or that are ``commonly known in
the trade'' as dealers highlights the need for a functional
interpretation of the dealer definitions. We believe that factors that
may reasonably indicate that a person is holding itself out as a dealer
or is commonly known in the trade as a dealer may include (but are not
limited to) the following:
     Contacting potential counterparties to solicit interest in
swaps or security-based swaps,
     Developing new types of swaps or security-based swaps
(which may include financial products that contain swaps or security-
based swaps) and informing potential counterparties of the availability
of such swaps or security-based swaps and a willingness to enter into
such swaps or security-based swaps with the potential counterparties,
     Membership in a swap association in a category reserved
for dealers,
     Providing marketing materials (such as a Web site) that
describe the types of swaps or security-based swaps that one is willing
to enter into with other parties, or
     Generally expressing a willingness to offer or provide a
range of financial products that would include swaps or security-based
swaps.

Notably, holding oneself out as a security-based swap dealer would
likely encompass a situation in which a person that is a ``dealer'' in
another type of security enters into a security-based swap with a
customer.\28\ Another example of holding oneself out as a security-
based swap dealer would likely be an entity expressing its availability
to provide liquidity to counterparties that seek to enter into
security-based swaps, regardless of the ``direction'' of the
transaction or across a broad spectrum of risks (e.g., credit default
swaps related to a variety of issuers).
---------------------------------------------------------------------------

    \28\ For example, if a person that is a dealer in securities
that are not security-based swaps enters into a security-based swap
transaction with one of its cash market customers, the person would
appear to be engaged in security-based swap dealing activity with
that customer. In that circumstance, the customer reasonably would
be expected to view the person as a dealer for purposes of the
security-based swap, making the applicable business conduct
requirements particularly important.

    The determination of who is commonly known in the trade as a swap
dealer or security-based swap dealer may appropriately reflect, among
other factors, the perspective of persons with substantial experience
with and knowledge of the swap and security-based swap markets,
regardless of whether an entity is known as a dealer by persons without
that experience and knowledge.
ii. Making a Market in Swaps or Security-Based Swaps
    A number of commenters suggested that the market making component
of the definitions should apply only to persons that quote a two-sided
market consistently or at all times. Some commenters also suggested
that a person's willingness to buy or to sell a swap or security-based
swap at any particular time should not be deemed to be market making
activity. While continuous two-sided quotations and a willingness to
stand ready to buy and sell a security are important indicators of
market making in the equities markets,\29\ these indicia may not be
appropriate in the context of the swap or security-based swap markets,
given that parties do not enter into many types of swaps or security-
based swaps on a continuous basis, and that parties may use a variety
of methods for communicating their willingness to enter into swaps or
security-based swaps. Any analysis that would impute to the definitions
a ``continuous'' activity requirement may cause certain persons that
engage in non-continuous dealing activities not to be regulated as swap
dealers or security-based swap dealers. We have not identified anything
in the statutory text or legislative history of the Dodd-Frank Act to
suggest that Congress intended such a result.
---------------------------------------------------------------------------

    \29\ See Exchange Act Release No. 58875 (Oct. 14, 2008), 73 FR
61690 (Oct. 17, 2008) (``Although determining whether or not a
market maker is engaged in bona-fide market making would depend on
the facts and circumstances of the particular activity, factors that
indicate a market maker is engaged in bona-fide market making
activities may include, for example, whether the market maker incurs
any economic or market risk with respect to the securities (e.g., by
putting their own capital at risk to provide continuous two-sided
quotes in markets).'').
---------------------------------------------------------------------------

iii. No Predominance Test
    Although some commenters suggested that a person should be a swap
dealer or security-based swap dealer only if such activity is the
person's sole or predominant business, the statutory definition does
not contain a predominance test or otherwise depend upon the level of
the person's dealing activity, other than the de minimis exception
discussed below. A predominance standard would not

provide a workable test of dealer status because many of the parties
that are commonly acknowledged as swap or security-based swap dealers
also engage in other businesses that often outweigh their swap or
security-based swap dealing business in terms of transaction volume or
other measures. Based on the plain meaning of the statutory definition,
so long as a person engages in dealing activity that is not de minimis,
as discussed below, the person is a swap dealer or security-based swap
dealer.\30\
---------------------------------------------------------------------------

    \30\ As one example, a non-financial company that engages in
both swap dealing and other commercial activities would fall within
the definition of swap dealer because of its swap dealing
activities, notwithstanding that it also engages in other commercial
activities.
---------------------------------------------------------------------------

iv. Application of the Definition to New Types of Swaps and New
Activities
    The Commissions intend to apply the definitions of swap dealer and
security-based swap dealer flexibly when the development of innovative
business models is accompanied by new types of dealer activity. As
discussed above, the Commissions generally intend to follow a ``facts-
and-circumstances'' approach with respect to identifying dealing
activities. The dealer definitions must be flexible enough to cover
appropriate persons as the swap markets evolve.
v. Request for Comment
    The Commissions request comment on these interpretations of holding
oneself out as a dealer and being commonly known in the trade as a
dealer, as well as the lack of a predominance test, and the application
of the definitions to new types of swaps and new activities. Commenters
particularly are requested to address the relevance, to the dealer
analysis, of activities such as an entity's membership in a swap
execution facility (``SEF'') or a security-based SEF, or use of
facilities that may not be SEFs or security-based SEFs. Are there
factors that would lead entities to become members of SEFs that would
not make membership relevant to the dealer analysis? Commenters also
are requested to generally address how the dealer analysis should
appropriately apply the requirements applicable to dealers (e.g.,
capital, margin and business conduct requirements) to the entities that
should be subject to those requirements. In addition, commenters are
requested to address how the dealer definitions should be applied to
entities such as, for example, Federal home loan banks subject to
restrictions limiting their dealing activities to particular types of
counterparties. Finally, commenters are requested to address whether
additional guidance is advisable to help identify dealer activity and
to promote effective enforcement of the requirements applicable to swap
dealers and security-based swap dealers.
3. Designation of a Person as a Swap Dealer
    The Dodd-Frank Act has amended the CEA and the Exchange Act to
require a person that meets either of the definitions to register as a
swap dealer and/or security-based swap dealer,\31\ and the Commissions
are proposing separate rules regarding this registration requirement.
In connection with the registration requirement, market participants
are in a position to assess their activities to determine whether they
function in the manner described in the definitions. In addition, the
Commissions have the authority to take enforcement actions in response
to a dealer's failure to register. In determining whether a person
meets the applicable definitions, the Commissions may use information
from other regulators, swap data repositories, registered clearing
agencies, derivatives clearing organizations and other sources.
---------------------------------------------------------------------------

    \31\ See CEA section 4s(a)-(b); Exchange Act section 15F(a)-(b).
---------------------------------------------------------------------------

4. Application of the Swap Dealer Definition to Agricultural
Commodities
    Section 723(c)(3)(B) of the Dodd-Frank Act provides that swaps in
agricultural commodities shall be subject to such terms and conditions
as the CFTC may prescribe. In a separate rulemaking, the CFTC has
proposed a definition of the term ``agricultural commodity.'' \32\
Acting under the authority in Section 723(c)(3)(B), the CFTC may
develop particular terms and conditions for the interpretation of the
swap dealer definition when it is applied to dealing in swaps in
agricultural commodities. Any such terms and conditions would not be
applicable to the definition of security-based swap dealer. The CFTC
requests comment on the application of the swap dealer definition to
dealers, including potentially agricultural cooperatives, that limit
their dealing activity primarily to swaps in agricultural commodities.
The CFTC may consider any comments on this topic for both the
definition of swap dealer and also for any rulemaking regarding swaps
in agricultural commodities.
---------------------------------------------------------------------------

    \32\ See 75 FR 65586 (Oct. 26, 2010).
---------------------------------------------------------------------------

B. De Minimis Exemption to the Definitions

    The Dodd-Frank Act requires that the Commissions exempt, from
designation as a ``swap dealer'' or ``security-based swap dealer,'' a
person who ``engages in a de minimis quantity of [swap or security-
based swap] dealing in connection with transactions with or on behalf
of its customers.'' \33\ The statutory definitions do not require that
the Commissions fix a specific level of swap activity that will be
considered de minimis, but instead require that the Commissions
``promulgate regulations to establish factors with respect to the
making of this determination to exempt.''
---------------------------------------------------------------------------

    \33\ See CEA section 1a(49)(D); Exchange Act section
3(a)(71)(D).
---------------------------------------------------------------------------

1. Comments Regarding the De Minimis Exemption
    Some commenters asserted that the de minimis exemption should be
linked to systemic risk concerns, stating that persons engaged in
dealing activities that do not pose systemic risk should be able to
take advantage of the exemption. Other commenters suggested that a
person's dealing activities should be considered de minimis if they do
not pose undue risks to the person. Commenters also expressed the view
that the application of the exemption should be based on quantitative
criteria.
2. Proposed Rule Regarding the De Minimis Exemption
    The Commissions preliminarily believe that the ``de minimis''
exemption should be interpreted to address amounts of dealing activity
that are sufficiently small that they do not warrant registration to
address concerns implicated by the regulations governing swap dealers
and security-based swap dealers.\34\ In other words, the exemption
should apply only when an entity's dealing activity is so minimal that
applying dealer regulations to the entity would not be warranted.
---------------------------------------------------------------------------

    \34\ The Title VII requirements applicable to swap and security-
based swap dealers include, for example: requirements that dealers
conform to regulatory standards relating to the confirmation,
processing, netting, documentation and valuation of swaps and
security-based swaps (CEA section 4s(i), Exchange Act section
15F(i)); requirements that dealers disclose, to regulators,
information concerning terms and conditions of swaps or security-
based swaps, as well as information concerning trading practices,
financial integrity protections and other trading information (CEA
section 4s(j)(3), Exchange Act section 15F(j)(3)); conflicts of
interest provisions (CEA section 4s(j)(5), Exchange Act section
15F(j)(5)); and chief compliance officer requirements (CEA section
4s(k), Exchange Act section 15F(k)).
---------------------------------------------------------------------------

    We thus preliminarily do not agree with those commenters that
argued that

a de minimis quantity of dealing should be measured in relation to the
level of the person's other activities (or other swap or security-based
swap activities). Aside from the fact that the statute does not
explicitly call for a relative test, such an approach would lead to the
result that larger and more active companies, which presumably would be
more able to influence the swap markets, would be more likely to
qualify for the exemption than smaller and less active companies. Also,
a relative test not only would require a means of measuring the
person's dealing activities, but also would require a means of
measuring the larger scope of activities to which its swap dealing or
security-based swap dealing activities are to be compared, thus
introducing unnecessary complexity to the exemption's application.
    Our proposed factors for the de minimis exemption seek to focus the
availability of the exemption toward entities for which registration
would not be warranted from a regulatory point of view in light of the
limited nature of their dealing activities. At the same time, we
recognize that this focus does not appear to readily translate into
objective criteria. Thus, while the proposed factors discussed below
reflect our attempt to delimit the de minimis exemption appropriately,
we recognize that a range of alternative approaches may be reasonable,
and we are particularly interested in commenters' suggestions as to the
appropriate factors.
    The first proposed factor is that the aggregate effective notional
amount, measured on a gross basis, of swaps or security-based swaps
that an entity enters into over the prior 12 months in connection with
its dealing activities \35\ could not exceed $100 million.\36\ We
understand that in general the notional size of a small swap or
security-based swap is $5 million or less, and this proposed threshold
would reflect 20 instruments of that size. Given the customer
protection issues raised by swaps and security-based swaps--including
the risks that counterparties may not fully appreciate when entering
into swaps or security-based swaps--we believe that this notional
amount reflects a reasonable limit for identifying those entities that
engage in a de minimis level of dealing activity.\37\ This standard
would measure an entity's quantity of dealing on a gross basis (without
consideration of the market risk offsets associated with combining long
and short positions) to reflect the entity's overall amount of dealing
activity. Similarly, the proposed notional threshold would not account
for the amount of collateral held by or provided by the entity, nor
other risk mitigating factors, in determining whether it engages in a
de minimis quantity of dealing, given that dealer status focuses on an
entity's absolute level of activity, and is not directly based on the
risks that an entity poses or faces.\38\
---------------------------------------------------------------------------

    \35\ The de minimis exemption specifically places limits on a
person's dealing activity involving swaps or security-based swaps.
Thus, these limits would not apply to swap or security-based swap
activity that does not itself constitute dealing activity, such as
activity in which a person hedges or mitigates a commercial risk of
its business that is unrelated to a dealing business (i.e., as
discussed above, when the person did not accommodate demand from the
other party, respond to the other party's interest in swaps or
security-based swaps, solicit the other party, propose economic
terms, intermediate between parties, provide liquidity, or engage in
other dealing activities). See part II.A.2, supra.
    \36\ See proposed CEA rule 1.3(ppp)(4)(ii); proposed Exchange
Act rule 3a71-2(a). To the extent that the stated notional amount of
a swap or security-based swap is leveraged or enhanced by its
structure, the calculation shall be based on the effective notional
amount of the swap or security-based swap rather than on its stated
notional amount.
    \37\ We preliminarily believe that activity above this amount
would be sufficient to warrant dealer registration to bring about
the benefits of such registration.
    \38\ Also, allowing offsets for collateral would result in a de
minimis standard that could encompass positions of virtually
unlimited size.
---------------------------------------------------------------------------

    In addition, the aggregate effective notional amount of such swaps
or security-based swaps, in which the person's counterparty is a
``special entity'' (as that term is defined in CEA Section 4s(h)(2)(C)
and Exchange Act Section 15F(h)(2)(C)),\39\ that an entity enters into
over the prior 12 months could not exceed $25 million.\40\ The Dodd-
Frank Act provided special protections to special entities in
connection with swaps and security-based swaps, and we preliminarily
believe that this lower proposed threshold reasonably reflects the
special protections afforded to those entities.
---------------------------------------------------------------------------

    \39\ The term ``special entity'' encompasses: Federal agencies;
States, State agencies and political subdivisions (including cities,
counties and municipalities); ``employee benefit plans'' as defined
under the Employee Retirement Income Security Act of 1974
(``ERISA''); ``governmental plans'' as defined under ERISA; and
endowments.
    \40\ See proposed CEA rule 1.3(ppp)(4)(ii); proposed Exchange
Act rule 3a71-2(b).
---------------------------------------------------------------------------

    In addition, to take advantage of the de minimis exemption, the
proposed rule would provide that the entity could not have entered into
swaps or security-based swaps (as applicable) as a dealer with more
than 15 counterparties, other than security-based swap dealers, over
the prior 12 months.\41\ The Commissions preliminarily believe that an
entity that enters into swaps or security-based swaps, in a dealer
capacity, with a larger number of counterparties should be registered
to help achieve Title VII's orderly market goals, and thus cannot be
said to engage in a de minimis quantity of dealing (even if the
aggregate effective notional amount of the swaps or security-based
swaps is less than the thresholds noted above).\42\ For purposes of
determining the number of counterparties, we preliminarily believe that
counterparties who are members of an affiliated group would generally
count as one counterparty, given that the purpose of the limit is to
measure the scope of dealer's interaction with separate
counterparties.\43\
---------------------------------------------------------------------------

    \41\ See proposed CEA rule 1.3(ppp)(4)(iii); proposed Exchange
Act rule 3a71-2(c). That these tests measure the entity's activities
over the prior 12 months provides certainty. As of the end of each
month, the entity will know whether it may qualify for the exemption
during the following month.
    \42\ Similarly, because all the de minimis factors must be
satisfied, a person who enters into only a single swap or security-
based swap, as a swap dealer, with a single counterparty could not
qualify for the de minimis exemption if that swap or security-based
swap exceeds the effective notional amount threshold.
    \43\ For this purpose, an affiliated group would be defined as
any group of entities that is under common control and that reports
information or prepares its financial statements on a consolidated
basis.
---------------------------------------------------------------------------

    Finally, the proposed rule would provide that, to take advantage of
the de minimis exemption, the entity could not have entered into more
than 20 swaps or security-based swaps (as applicable) as a dealer
during the prior 12 months.\44\ As is the case for the limitation on
the number of counterparties, the Commissions preliminarily believe
that an entity that enters into a larger number of swaps or security-
based swaps, in a dealer capacity, would, if registered, help achieve
Title VII's orderly market goals, and thus cannot be said to engage in
a de minimis quantity of dealing. For these purposes, we would expect
that each separate transaction the entity enters into under a swap or
security-based swap master agreement in general would count as entering
into a swap or security-based swap, but that an amendment of an
existing swap or security-based swap in which the counterparty remained
the same and the underlying item remained substantially the same would
not count as a new swap or security based swap.\45\
---------------------------------------------------------------------------

    \44\ See proposed CEA rule 1.3(ppp)(4)(iv); proposed Exchange
Act rule 3a71-2(d).
    \45\ For these purposes only, an amendment to an existing swap
or security-based swap would not need to be counted as a new swap or
security-based swap if the underlying item is substantially the same
as the original item. This may occur, for example, to reflect the
effect of a corporate action such as a merger. An amendment would be
counted as a new swap or security-based swap, however, to the extent
that the change in the underlying item modifies the economic risk
reflected by the swap or security-based swap.

---------------------------------------------------------------------------

    The proposed rule would not distinguish between different types of
swaps or security-based swaps into which entities may enter (e.g., rate
swaps versus other commodity swaps, or credit default swaps versus
equity swaps). The Commissions preliminarily do not believe that the
ceiling for distinguishing de minimis dealing activities from other
dealing activities appropriately turns upon the particular type of swap
or security-based swap.\46\
---------------------------------------------------------------------------

    \46\ The Exchange Act's definition of ``dealer'' does not
include a de minimis exemption. Thus, an entity that engages in
dealing activity involving securities (other than security-based
swaps with eligible contract participants) would be required to
register as a ``dealer'' under the Exchange Act, and comply with the
Exchange Act's requirements applicable to dealers, absent some other
exception or exemption from registration.
---------------------------------------------------------------------------

    The Commissions request comment on the proposed rule regarding the
de minimis exemption. Commenters particularly are requested to address
whether certain of the proposed factors should be modified or
eliminated; for example, should the proposed $100 million limit on
annual notional swaps or security-based swaps entered into in a dealer
capacity be raised or lowered to better implement the intended scope of
the de minimis exemption--i.e., to exclude entities for which dealer
regulation would not be warranted? Should we adopt different thresholds
that would appropriately limit the exemption so it encompasses only
those entities whose dealing activities are such that dealer regulation
is not warranted? To what extent would certain entities be expected to
reduce or otherwise adjust their dealing activity to fall within the
scope of the de minimis exemption? Would there be any adverse
implications for market participants if this happens? To what extent
could the proposed factors potentially reduce dealing activity, and in
doing so reduce the liquidity available in the swap or security-based
swap market?
    Commenters also are requested to address whether the rule should
seek to identify only certain types of counterparties with which a
person could engage in dealing activities under the exemption. We also
particularly request comment on the proposed $25 million notional
threshold for dealer transactions with ``special entities,'' including
whether that proposed threshold should be raised or lowered, and
whether an entity that enters into dealing transactions with ``special
entities'' should be able to take advantage of the exemption at all. In
addition, we request comment on whether the proposed threshold for
transactions with ``special entities'' would provide a disincentive to
dealers entering into transactions with such entities.
    Commenters further are requested to address whether the factors may
appropriately account for the size of the swap or security-based swap
activities compared to the size of the entity; how an entity's swaps or
security-based swaps with affiliated counterparties should be treated
for purposes of the test; and whether the exemption's factors should
vary depending on the type of swap or security-based swap at issue.
    In addition, commenters are requested to address the significance
of the fact that the statutory de minimis exemption specifically
references transactions with or on behalf of a customer. Does that mean
the exemption was intended to specifically address dealing activity as
an accommodation to an entity's customers? If so, should the exemption
be conditioned on the presence of an existing relationship between the
entity and the counterparty that does not entail swap or security-based
swap dealing activity, and if so, which types of relationships should
be treated as creating a ``customer'' relationship?
    Commenters also are requested to address whether the de minimis
exemption should excuse an entity from having to comply with certain
regulatory requirements imposed on swap dealers or security-based swap
dealers, while also mandating compliance with other dealer
requirements. In addition, commenters are requested to address whether,
in lieu of the self-executing approach proposed here, the Commissions
instead should require that entities which seek relief under this de
minimis exemption must submit exemptive requests to the relevant agency
for the agency's consideration and action. Commenters further are
requested to address whether the proposed notional threshold for the de
minimis exception should be subject to a formula that permits automatic
periodic adjustments to the threshold, such as to reflect changes in
market size or in the size of typical contracts.

C. Statutory Exclusion for Swaps in Connection With Originating a Loan

    The ``swap dealer'' definition excludes an insured depository
institution (``IDI'') ``to the extent it offers to enter into a swap
with a customer in connection with originating a loan with that
customer.'' \47\ This exclusion does not appear in the definition of
``security-based swap dealer.''
---------------------------------------------------------------------------

    \47\ See CEA section 1a(49)(A).
---------------------------------------------------------------------------

1. Comments Regarding the Exclusion for Swaps in Connection With Loans
    Three IDIs commented on this aspect of the definition, stating that
the exclusion should encompass any swap entered into contemporaneously
with a loan that is related to any of the borrower's activities that
affect the ability to repay the loan and can be hedged. Thus, in their
view, the exclusion should cover exchange rate and physical commodity
swaps in addition to interest rate swaps. The IDIs also said the
exclusion should apply to amendments, restructurings and workouts of
loans, and to lenders that act through a syndicate.
    Another commenter expressed similar views, and also asked for
clarification whether the exclusion applies to all aspects of the
definition, or if it applies only to whether a person is commonly known
in the trade as a swap dealer. The CFTC preliminarily believes the
exclusion applies to all aspects of the swap dealer definition.
2. Proposed Rule Regarding the Exclusion for Swaps in Connection With
Loans
    The CFTC preliminarily interprets the word ``offer'' in this
exclusion to include scenarios where the IDI requires the customer to
enter into a swap, or the customer asks the IDI to enter into a swap,
specifically in connection with a loan made by that IDI. Also, the
proposed rule provides that, in order to prevent evasion, the statutory
exclusion does not apply where (i) The purpose of the swap is not
linked to the financial terms of the loan; (ii) the IDI enters into a
``sham'' loan; or (iii) the purported ``loan'' is actually a synthetic
loan such as a loan credit default swap or loan total return swap.
    The proposed rule would apply the statutory exclusion only to swaps
that are connected to the financial terms of the loan, such as, for
example, its duration, interest rate, currency or principal amount.
Although commenters urged that this exclusion be extended to other
aspects of the lending relationship, we preliminarily believe that it
would not be appropriate that this exclusion from the swap dealer
definition encompass swaps that are connected to the borrower's other
business activities, even if the loan agreement requires that the
borrower enter into such swaps or otherwise refers to them. We
preliminarily believe that a broader reading of the exclusion could
encompass all swap activity

between an IDI and its borrowers, which we do not think is intended.
    The origination of commercial loans is a complex process, and the
CFTC preliminarily believes that this exclusion should be available to
all IDIs that are a source of funds to a borrower. For example, all
IDIs that are part of a loan syndicate providing a loan to a borrower
could claim this exclusion with respect to swaps entered into with the
borrower that are connected to the financial terms of the loan.
Similarly, the proposed exclusion could be claimed with respect to such
swaps entered into by any IDI that participates in or obtains a
participation in such loan by means of a transfer or otherwise.\48\
Also, an IDI that is a source of funds for the refinancing of a loan
(whether directly or through a syndicate, participation or otherwise)
could claim the exclusion if it enters into a swap with the refinancing
borrower.
---------------------------------------------------------------------------

    \48\ The CFTC preliminarily believes that the proposed exclusion
could be claimed by any IDI that participates in a loan through any
means that involves a payment to a lender to take the place of that
lender, including an ``English style'' participation.
---------------------------------------------------------------------------

    We emphasize that this proposed exclusion, by its statutory terms,
is available only to IDIs. If an IDI were to transfer its participation
in a loan to a non-IDI, then the non-IDI would not be able to claim
this exclusion, regardless of the terms of the loan or the manner of
the transfer. Similarly, a non-IDI that is part of a loan syndicate
with IDIs would not be able to claim the exclusion.
    In sum, the proposed exclusion may be claimed by a person that
meets the following three conditions: (i) The person is an IDI; (ii)
the person is the source of funds to a borrower in connection with a
loan (either directly or through syndication, participation,
refinancing or otherwise); and (iii) the person enters into a swap with
the borrower that is connected to the financial terms of the loan (so
long as the loan is not a sham or a synthetic loan).
    The CFTC requests comment on the proposed rule relating to the
statutory exclusion for swaps in connection with originating a loan,
and in particular on whether this statutory exclusion should be
extended beyond swaps that are connected to the financial terms of the
loan, and if so, why. The CFTC also requests comment on whether this
exclusion should apply only to swaps that are entered into
contemporaneously with the IDI's origination of the loan (and if so,
how ``contemporaneously'' should be defined for this purpose), or
whether this exclusion should also apply to swaps entered into during
part or all of the duration of the loan.

D. Designation as a Dealer for Certain Types, Classes, or Categories of
Swaps, Security-Based Swaps, or Activities

    The statutory definitions include a provision stating that a person
may be designated as a dealer for one or more types, classes or
categories of swaps, security-based swaps, or activities without being
considered a swap dealer or security-based swap dealer for other types,
classes or categories of swaps, security-based swaps, or activities.
This provision is permissive and does not require the Commissions to
designate persons as dealers for only a limited set of types, classes
or categories of swaps, security-based swaps, or activities.
1. Comments Regarding Limited Designation as a Swap Dealer or Security-
Based Swap Dealer
    One commenter stated that the Commissions should allow a person to
register as a swap dealer or security-based swap dealer for only a
limited set of types, classes or categories of swaps or security-based
swaps. Another commenter expressed the view that a person designated as
a swap dealer or security-based swap dealer should be designated as
such for all types of swaps or security-based swaps, respectively.
2. Proposed Rule Regarding Limited Designation as a Swap Dealer or
Security-Based Swap Dealer
    In general, the Commissions propose that a person that satisfies
the definition of swap dealer or security-based swap dealer would be a
dealer for all types, classes or categories of swaps or security-based
swaps, or activities involving swaps or security-based swaps, in which
the person engages.\49\ Thus, the person would be subject to all
regulatory requirements applicable to dealers for all swaps or
security-based swaps into which it enters. We propose this approach
because it may be difficult for swap dealers and security-based swap
dealers to separate their dealing activities from their other
activities involving swaps or security-based swaps.\50\
---------------------------------------------------------------------------

    \49\ See proposed CEA rule 1.3(ppp)(3); proposed Exchange Act
rule 3a71-1(c).
    \50\ For example, in order to efficiently impose the dealer
requirements on only the person's dealing activities, it may be
necessary for the person to have separate books and records and a
separate compliance regime for its dealing activities.
---------------------------------------------------------------------------

    The proposed rule also states, however, that the Commissions may
provide for a person to be designated as a swap dealer or security-
based swap dealer for only specified categories of swaps, security-
based swaps, or activities, without being classified as a dealer for
all categories.\51\ This proposed rule would afford persons an
opportunity to seek, on an appropriate showing, a limited designation
based on facts and circumstances applicable to their particular
activities. The Commissions anticipate that a swap dealer could seek a
limited designation at the same time as, or at a later time subsequent
to, the person's initial registration as a swap dealer.
---------------------------------------------------------------------------

    \51\ CEA section 1a(49)(B); Exchange Act section 3(a)(71)(B). As
discussed below, the Commissions preliminarily believe that there
are four major categories of swaps and two major categories of
security-based swaps. See part IV.A, infra. The designation as a
swap dealer or security-based swap dealer may, for example, be
limited in terms of these categories or in terms of particular
activities of the person.
---------------------------------------------------------------------------

    The CFTC understands that there may potentially be non-financial
entities, such as physical commodity firms, that conduct swap dealing
activity through a division of the entity, and not a separately-
incorporated subsidiary. In these instances, the entity's swap dealing
activity would not be a core component of the entity's overall
business. If this type of entity registered as a swap dealer, the CFTC
anticipates that certain swap dealer requirements would apply to the
swap dealing activities of the division, but not necessarily to the
swap activities of other parts of the entity.
    The Commissions request comment on the proposed rules regarding
limited designation as a swap dealer or security-based swap dealer.
Commenters particularly are requested to address the circumstances in
which such limited purpose designations would be appropriate, the
factors that the Commissions should consider when addressing such
requests, and the type of information requestors should provide in
support of their request. For example, would it be appropriate to grant
such limited purpose designations only to entities that do not
otherwise fall within the definition of a financial entity, and whose
dealing activity is below a defined threshold of the entity's overall
activity? At what level should the Commissions set such a threshold?
Which of the requirements applicable to dealers should or should not
apply to such entity's non-dealing activities in swaps and security-
based swaps?
    In addition, commenters are requested to address whether the
Commissions should provide for limited purpose designations of swap
dealers or security-based swap dealers through some other mechanism as
an alternative to, or in

addition to, case-by-case evaluations of individual applications. If
so, what criteria and procedures would be appropriate for making
limited purpose designations through this type of approach? Also,
should the limited purpose designation apply on a provisional basis
starting at the time that the entity makes an application for a limited
purpose designation?
    Finally, commenters also are asked to address whether such limited
purpose designations should be conditioned in any way, such as by the
provision of information of the type that would be required with
respect to an entity's swaps or security-based swaps involving the
particular category or activity for which they are not designated as a
dealer.

E. Certain Interpretative Issues

1. Affiliate Issues
    We preliminarily believe that the word ``person'' in the swap
dealer and security-based swap dealer definitions should be interpreted
to mean that the designation applies with respect to a particular legal
person. That is, for example, we would not view a trading desk or other
discrete business unit that is not a separately organized legal person
as a swap dealer; rather, the legal person of which it is a part would
be the swap dealer. Also, an affiliated group of legal persons under
common control could include more than one dealer. Within such a group,
any legal person that engages in swap or security-based swap dealing
activities would be a swap dealer or security-based swap dealer, as
applicable.
    In determining whether a particular legal person is a swap dealer
or security-based swap dealer, we preliminarily believe it would be
appropriate for the person to consider the economic reality of any
swaps and security-based swaps it enters into with affiliates (i.e.,
legal persons under common control with the person at issue), including
whether those swaps and security-based swaps simply represent an
allocation of risk within a corporate group.\52\ Swaps and security-
based swaps between persons under common control may not involve the
interaction with unaffiliated persons that we believe is a hallmark of
the elements of the definitions that refer to holding oneself out as a
dealer or being commonly known as a dealer. To the extent, however,
that an entity seeks to use transactions between persons under common
control to avoid one of the dealer definitions, the Commissions have
the authority to prohibit practices designed to evade the requirements
applicable to swap dealers and security-based swap dealers.\53\
---------------------------------------------------------------------------

    \52\ Such swaps and security-based swaps should be considered in
this way only for purposes of determining whether a particular
person is a swap dealer or security-based swap dealer and does not
necessarily apply in the context of the Exchange Act's general
definition of ``dealer.'' The swaps and security-based swaps,
moreover, would continue to be subject to all laws and requirements
applicable to such swaps and security-based swaps.
    \53\ See Dodd-Frank Act sections 721(b)(2), 761(b)(3). For
example, it would not be permissible for an entity that provides
liquidity on one side of the market to use affiliated entities to
provide liquidity on the other side in an attempt to avoid having to
register as a swap or security-based swap dealer.
---------------------------------------------------------------------------

    The Commissions invite comment as to how the swap dealer and
security-based swap dealer definitions should be applied to members of
an affiliated group. Commenters particularly are invited to address how
the Commissions should interpret common control for these purposes, and
whether this interpretation should be limited to wholly-owned
affiliates.
2. Application to Particular Swap Markets
    The swap markets are diverse and encompass a variety of situations
in which parties enter into swaps with each other. We believe it is
helpful to the understanding of the rule to discuss some of these
situations, particularly those that have been raised by commenters,
here. The situations discussed below include persons who enter into
swaps as aggregators, as part of their participation in physical
markets, or in connection with the generation and transmission of
electricity. We invite comment as to what aspects of the parties'
conduct in these situations should, or should not, be considered swap
dealing activities, and whether the parties involved in these
situations are swap dealers.
a. Aggregators
    Commenters explained that some persons enter into swaps with other
parties in order to aggregate the swap positions of the other parties
into a size that would be more amenable to entering into swaps in the
larger swap market, or otherwise to make entering into such swaps more
efficient. For example, certain cooperatives enter into swaps with
smaller cooperatives, smaller businesses or their members in order to
establish a position in a commodity that is large enough to be traded
on a swap or futures market. Similarly, one smaller financial
institution explained that it enters into swaps with counterparties
whose swap positions would not be large enough to be of interest to
larger financial institutions. This institution stated that it enters
into offsetting swaps with larger financial institutions so that it is
in a neutral position between the counterparties and the larger
financial institutions.
    The result of these arrangements is that such persons engage in
activities that are similar in many respects to those of a swap dealer
as set out in the definition--the person enters into swaps to
accommodate demand from other parties, it enters into swaps with a
relatively large number of non-dealers, and it holds itself out as
willing to enter into swaps. It may be that the swap dealing activities
of these aggregators would not exceed the de minimis threshold, and
therefore they would not be swap dealers. The CFTC, in particular,
requests comment as to how the de minimis threshold would apply to such
persons. If their activity would exceed the de minimis threshold set
forth in the proposed rule, the Commissions request comment on the
application of the swap dealer definition to their activity.
b. Physical Market Participants
    The markets in physical commodities such as oil, natural gas,
chemicals and metals are complex and varied. They involve a large
number of market participants that, over time, have developed highly
customized transactions and market practices that facilitate
efficiencies in their market in unique ways. Some of these transactions
would be encompassed by the statutory definition of ``swap,'' and some
participants in these markets engage in swap dealing activities that
are above the proposed de minimis threshold. The Commissions invite
comment as to any different or additional factors that should be
considered in applying the swap dealer definition to participants in
these markets.
c. Electricity Generation and Transmission
    The use of swaps in the generation and transmission of electricity
is highly complex because electricity cannot be stored and therefore is
generated, transmitted and used on a continuous, real-time basis. Also,
the number and variety of participants in the electricity market is
very large and some electricity services are provided as a public good
rather than for profit. Nevertheless, some participants engage in swap
dealing activities as described above that are above the de minimis
threshold set forth in the proposed rule. The Commissions invite
comment as to any different or additional factors that should be
considered in applying the

swap dealer definition to participants in the generation and
transmission of electricity. Specifically, the Commissions invite
comment on whether there are special considerations, including without
limitation special considerations arising from section 201(f) of the
Federal Power Act, related to non-profit, public power systems such as
rural electric cooperatives and entities operating as political
subdivisions of a State, and the applicability of the exemptive
authority in section 722(f) of the Dodd-Frank Act to address those
considerations.

III. Amendments to Definition of Eligible Contract Participant

A. Overview

    The Commodity Futures Modernization Act of 2000 (``CFMA'') \54\
generally excluded or exempted transactions between eligible contract
participants (``ECPs'') from most provisions of the CEA.\55\ Section
723(a)(1)(A) of the Dodd-Frank Act repeals those exclusions and
exemptions. ECP status remains important, however, because Section
723(a)(2) of the Dodd-Frank Act renders it unlawful for a non-ECP to
enter into a swap other than on, or subject to the rules of, a
designated contract market (``DCM'').\56\ Section 763(e) of the Dodd-
Frank Act also renders it unlawful for a non-ECP to enter into a
security-based swap unless such transaction is effected on a national
securities exchange registered pursuant to Section 6(b) of the Exchange
Act.\57\ In addition, Section 768(b) of the Dodd-Frank Act makes it
unlawful for a non-ECP to enter into a security-based swap unless a
registration statement is in effect. While this means that non-ECPs
cannot enter into swaps on SEFs or on a bilateral, off-exchange basis,
it also opens swaps to non-ECPs, so long as the swaps are entered into
on, or subject to the rules of, a DCM. Similarly, while non-ECPs cannot
enter into security-based swaps unless the transaction is effected on a
national securities exchange and the security-based swap has an
effective registration statement, it also opens security-based swaps to
non-ECPs.
---------------------------------------------------------------------------

    \54\ Public Law 106-554, 114 Stat. 2763 (Dec. 21, 2000).
    \55\ See CEA sections 2(d) (Excluded Derivative Transactions),
2(e) (Excluded Electronic Trading Facilities), 2(g) (Excluded Swap
Transactions) and 2(h) (Legal Certainty for Certain Transactions in
Exempt Commodities) (7 U.S.C. 2(d), (e), (g), (h)). The CFMA also
excluded swap agreements from the definitions of ``security'' in
Section 3(a)(10) of the Exchange Act and Section 2(a)(1) of the
Securities Act. See Section 3A of the Exchange Act, 15 U.S.C. 78c-1,
and Section 2A of the Securities Act, 15 U.S.C. 77b-1 (both of which
have been modified by the Dodd-Frank Act). The CFMA, however,
provided that the SEC had antifraud authority over security-based
swap agreements.
    \56\ Section 723(a)(2) of the Dodd-Frank Act adds new subsection
(e) to CEA section 2 (7 U.S.C. 2(e)). New CEA section 2(e) provides
that ``[i]t shall be unlawful for any person, other than an eligible
contract participant, to enter into a swap unless the swap is
entered into on, or subject to the rules of, a board of trade
designated as a contract market under section 5.''
    \57\ Section 763(e) of the Dodd-Frank Act adds paragraph (l) to
Exchange Act section 6. New Exchange section 6(l) provides that
``[i]t shall be unlawful for any person to effect a transaction in a
security-based swap with or for a person that is not an eligible
contract participant, unless such transaction is effected on a
national securities exchange registered pursuant to subsection
(b).''
---------------------------------------------------------------------------

    Congress also amended \58\ the ECP definition in Section 721(a)(9)
of the Dodd-Frank Act by: (1) Raising a threshold that governmental
entities may use to qualify as ECPs, in certain situations, from $25
million in discretionary investments to $50 million in such
investments; and (2) replacing the ``total asset'' standard for
individuals to qualify as ECPs with a discretionary investment
standard.\59\
---------------------------------------------------------------------------

    \58\ The changes to the ECP definition made by the Dodd-Frank
Act originated in the Administration's ``White Paper'' on financial
regulatory reform. See Financial Regulatory Reform, A New
Foundation: Rebuilding Financial Supervision and Regulation,
available at http://www.financialstability.gov/docs/regs/FinalReprot_web.pdf, at 48-49 (June 17, 2009) (``Current law seeks
to protect unsophisticated parties from entering into inappropriate
derivatives transactions by limiting the types of counterparties
that could participate in those markets. But the limits are not
sufficiently stringent.'').
    \59\ The monetary component of ECP status for individuals
remains the same under the amended ECP definition: More than $10
million (but now in discretionary investments, not in total assets),
or $5 million if the transactions for which ECP status is necessary
are for risk management of an asset or liability the individual owns
or incurs, or is reasonably likely to own or incur.
---------------------------------------------------------------------------

B. Commenters' Views

    The ECP definition elicited comment from nine commenters. The
comments ranged from requests not to increase the monetary thresholds
for governmental employee benefit plans in certain instances to
suggestions to dramatically raise them across the board, and from
requests not to change the definition in a way that would limit the
commenter's access to swaps to specific proposals to address such
otherwise limited access.
    In the Dodd-Frank Act, Congress addressed aspects of the ECP
definition that it found to be of particular concern regarding
governmental entities and individuals. Otherwise, though, persons who
qualified for exclusions or exemptions to enter into bilateral, off-
exchange swaps prior to the Dodd-Frank Act will still qualify to do so
with respect to non-standardized swaps under the Dodd-Frank Act, with
the exceptions discussed below. We have not identified any legislative
history suggesting that Congress intended the Commissions to undertake
a wholesale revision of the ECP definition. Accordingly, the
Commissions are limiting the further definition of the term ECP to the
discrete issues discussed below.

C. New ECP categories

    The CEA definition of ECP generally is comprised of regulated
persons; \60\ entities defined as ECPs based on a total asset test
(e.g., a corporation, partnership, proprietorship, organization, trust,
or other entity with total assets exceeding $10 million) \61\ or an
alternative monetary test coupled with a non-monetary component (e.g.,
an entity with a net worth in excess of $1 million and engaging in
business-related hedging; \62\ or certain employee benefit plans, the
investment decisions of which are made by one of four enumerated types
of regulated entities \63\); and certain governmental entities and
individuals that meet defined thresholds.\64\
---------------------------------------------------------------------------

    \60\ CEA section 1a(18)(A)(i), (ii), (iii), (iv), (viii), (ix),
(x) (7 U.S.C. 1a(18)(A)(i), (ii), (iii), (iv), (viii), (ix), (x)),
as redesignated by Section 721(a)(9) of the Dodd-Frank Act.
    \61\ CEA section 1a(18)(A)(v)(I) (7 U.S.C. 1a(18)(A)(v)(I)), as
redesignated by Section 721(a)(9) of the Dodd-Frank Act.
    \62\ CEA section 1a(18)(A)(v)(III) (7 U.S.C. 1a(18)(A)(v)(III)),
as redesignated by Section 721(a)(9) of the Dodd-Frank Act.
    \63\ CEA section 1a(18)(A)(vi) (7 U.S.C. 1a(18)(A)(vi)), as
redesignated by Section 721(a)(9) of the Dodd-Frank Act.
    \64\ CEA sections 1a(18)(A)(vii) and (xi) (7 U.S.C.
1a(18)(A)(vii) and (xi), as redesignated by Section 721(a)(9) of the
Dodd-Frank Act.
---------------------------------------------------------------------------

    Persons in the new major swap participant, major security-based
swap participant, swap dealer and security-based swap dealer categories
are likely to be among the most active and largest users of swaps and
security-based swaps. Accordingly, the Commissions propose to further
define the term ECP to include these new categories, which will permit
such persons to enter into swaps and security-based swaps on SEFs and
on a bilateral basis (where otherwise permitted under the Dodd-Frank
Act and regulations thereunder).
    We seek comment on this proposed expansion of the ECP definition.

D. Relationship Between Retail Foreign Currency and ECP Status in the
Context of a Commodity Pool

    Prior to the Dodd-Frank Act, clause (A)(iv) of the ECP definition
provided that a commodity pool was an ECP if the pool and its operator
met certain requirements (i.e., the commodity pool has $5 million in
total assets and is operated by a commodity pool operator regulated
under the CEA or subject to

foreign regulation), regardless of whether each pool participant was
itself an ECP.\65\ Section 741(b)(10) of the Dodd-Frank Act amended
clause (A)(iv) of the ECP definition to provide that a commodity pool
engaging in retail foreign currency transactions of the type described
in CEA sections 2(c)(2)(B) or 2(c)(2)(C) ; \66\ (``retail forex'' and
such pools, ``Retail Forex Pools'') no longer qualifies as an ECP for
those purposes if any participant in the pool is not independently an
ECP. The Commissions believe that in some cases commodity pools unable
to satisfy the conditions of clause (A)(iv) of the ECP definition may
rely on clause (A)(v) to qualify as ECPs instead for purposes of retail
forex. Clause (A)(v) of the ECP definition applies to business entities
irrespective of their form of organization (i.e., corporations,
partnerships, proprietorships, organizations, trusts and other
entities), and contains a $1 million net worth test where such an
entity ``enters into an agreement, contract, or transaction in
connection with the conduct of the entity's business or to manage the
risk associated with an asset or liability owned or incurred or
reasonably likely to be owned or incurred by the entity in the conduct
of the entity's business.'' \67\
---------------------------------------------------------------------------

    \65\ CEA section 1a(12)(A)(iv) (7 U.S.C. 1a(12)(A)(iv)).
    \66\ 7 U.S.C. 2(c)(2)(B) and (C). See generally ``Regulation of
Off-Exchange Retail Foreign Exchange Transactions and
Intermediaries,'' 75 FR 55410 (Final Rule; Sept. 10, 2010)
(discussing the new CFTC retail forex regulatory regime);
``Regulation of Off-Exchange Retail Foreign Exchange Transactions
and Intermediaries,'' 75 FR 3282 (Proposed Rule; Jan. 20, 2010)
(providing historical background on the regulation of retail forex
transactions).
    \67\ CEA section 1a(18)(A)(v) (7 U.S.C. 1a(18)(A)(v), as
redesignated by Section 721(a)(9) of the Dodd-Frank Act.
---------------------------------------------------------------------------

    The Commissions believe that permitting Retail Forex Pools with one
or more non-ECP participants to achieve ECP status by relying on clause
(A)(v) of the ECP definition would frustrate the intent of Congress in
denying ECP status to Retail Forex Pools under clause (A)(iv).
Consequently, the Commissions propose to further define the term ECP to
preclude a Retail Forex Pool with one or more non-ECP participants from
qualifying as an ECP by relying on clause (A)(v) of the ECP definition
if such Retail Forex Pool is not an ECP due to the language added to
clause (A)(iv) of the ECP definition by section 741(b)(10) of the Dodd-
Frank Act (i.e., because the pool contains one or more non-ECP
participants). Because commodity pools can be structured in various
ways and can have one or more feeder funds and/or pools, many with
their own participants, the Commissions propose to preclude a Retail
Forex Pool from being an ECP pursuant to clause (A)(iv) of the ECP
definition if there is a non-ECP participant at any investment level
(e.g., a participant in the pool itself (a direct participant), an
investor or participant in a fund or pool that invests in the pool in
question (an indirect participant), an investor or participant in a
fund or pool that invests in that investor fund or pool (also an
indirect participant), etc.).
    Similarly, the Commissions believe that some commodity pools unable
to satisfy the total asset or regulated status components of clause
(A)(iv) of the ECP definition may rely on clause (A)(v) to qualify as
ECPs instead. The Commissions are of the view that a commodity pool
that cannot satisfy the monetary and regulatory status conditions
prescribed in clause (A)(iv) should not qualify as an ECP in reliance
on clause (A)(v) of the ECP definition. Therefore, the Commissions
propose to further define the term ECP to prevent such an entity from
qualifying as an ECP pursuant to clause (A)(v) of the ECP definition.

E. Request for comment

    The Commissions request comment on all aspects of the proposed
amendments to the definition of ``eligible contract participant.'' Are
the proposed interpretations with respect to Retail Forex Pools and
other commodity pools appropriate? Do entities described in the various
enumerated ECP categories (other than commodity pools) rely on clause
(A)(v) to qualify as ECPs? If so, should an entity that would be
described in one of the clauses of paragraph (A) of the ECP definition,
but cannot satisfy the conditions prescribed in that clause, be
prohibited from relying on clause (A)(v) of the ECP definition?
    In addition, should the Commissions further narrow any or all of
the ECP categories? Why or why not? If so, what additional conditions
would be appropriate? Should the Commissions define the term
``discretionary basis,'' as requested by one commenter, either solely
for purposes of clause (A)(vii) or clause (A)(xi), or for both clauses?
Alternatively, should the Commissions add any additional categories of
ECPs, such as the following categories suggested by commenters:
Commercial real estate developers; energy or agricultural cooperatives
or their members; or firms using swaps as hedges pursuant to the terms
of the CFTC's Swap Policy Statement? If so, which ones and why?

IV. Definitions of ``Major Swap Participant'' and ``Major Security-
Based Swap Participant''

    The definitions of ``major swap participant'' and ``major security-
based swap participant'' (also jointly referred to as the ``major
participant'' definitions) respectively focus on the market impacts and
risks associated with an entity's swap and security-based swap
positions. In this respect, the major participant definitions differ
from the definitions of ``swap dealer'' and ``security-based swap
dealer,'' which focus on an entity's activities and account for the
amount or significance of those activities only in the context of the
de minimis exception.
    Despite those differences in focus, persons that meet the major
participant definitions in large part must follow the same statutory
requirements that apply to swap dealers and security-based swap
dealers.\68\ In this way, the statute applies comprehensive regulation
to entities whose swap or security-based swap activities do not cause
them to be dealers, but nonetheless could pose a high degree of risk to
the U.S. financial system generally.\69\
---------------------------------------------------------------------------

    \68\ In particular, under CEA section 4s and Exchange Act
section 15F, dealers and major participants in swaps or security-
based swaps generally are subject to the same types of margin,
capital, business conduct and certain other requirements, unless an
exclusion applies. See CEA section 4s(h)(4), (5); Exchange Act
section 15F(h)(4), (5).
    \69\ As discussed below, the tests of the major participant
definitions use terms--particularly ``systemically important,''
``significantly impact the financial system'' or ``create
substantial counterparty exposure''--that denote a focus on entities
that pose a high degree of risk through their swap and security-
based swap activities. In addition, the link between the major
participant definition and risk was highlighted during the
Congressional debate on the statute. See 156 Cong. Rec. S5907 (daily
ed. July 15, 2010) (dialogue between Senators Hagen and Lincoln,
discussing how the goal of the major participant definition was to
``focus on risk factors that contributed to the recent financial
crisis, such as excessive leverage, under-collateralization of swap
positions, and a lack of information about the aggregate size of
positions'').
---------------------------------------------------------------------------

    The major participant definitions are similar in their key
provisions, although one exception, as discussed below, is available
only in connection with the ``major swap participant'' definition. Both
major participant definitions encompass persons that satisfy any of
three alternative tests: \70\
---------------------------------------------------------------------------

    \70\ Also, neither major participant definition encompasses an
entity that meets the respective swap dealer or security-based swap
dealer definition. See CEA section 1a(33)(A); Exchange Act section
3(a)(67)(A)(i).
---------------------------------------------------------------------------

     The first test encompasses persons that maintain a
``substantial position'' in any of the ``major'' categories of swaps or
security-based swaps, as those categories are determined by the CFTC

or SEC as applicable. This test excludes both ``positions held for
hedging or mitigating commercial risk,'' and positions maintained by or
contracts held by any employee benefit plan (as defined in paragraphs
(3) and (32) of section 3 of ERISA (29 U.S.C. 1002)) for the primary
purpose of hedging or mitigating risks directly associated with the
operation of the plan.\71\
---------------------------------------------------------------------------

    \71\ See CEA section 1a(33)(A)(i); Exchange Act section
3(a)(67)(A)(ii)(I).
---------------------------------------------------------------------------

     The second test encompasses persons whose outstanding
swaps or security-based swaps create ``substantial counterparty
exposure that could have serious adverse effects on the financial
stability of the United States banking system or financial markets.''
\72\
---------------------------------------------------------------------------

    \72\ See CEA section 1a(33)(A)(ii); Exchange Act section
3(a)(67)(A)(ii)(II).
---------------------------------------------------------------------------

     The third test encompasses any ``financial entity'' that
is ``highly leveraged relative to the amount of capital such entity
holds and that is not subject to capital requirements established by an
appropriate Federal banking agency'' and that maintains a ``substantial
position'' in swaps or security-based swaps for any of the ``major''
categories of swaps or security-based swaps.\73\
---------------------------------------------------------------------------

    \73\ See CEA section 1a(33)(A)(iii); Exchange Act section
3(a)(67)(A)(ii)(III).
---------------------------------------------------------------------------

    The statute directs the CFTC or the SEC to define ``substantial
position'' for the respective definition at the threshold that it
determines to be ``prudent for the effective monitoring, management,
and oversight of entities that are systemically important or can
significantly impact the financial system of the United States.'' The
definitions further provide that when defining ``substantial
position,'' the CFTC or SEC ``shall consider the person's relative
position in uncleared as opposed to cleared [swaps or security-based
swaps] and may take into consideration the value and quality of
collateral held against counterparty exposures.'' \74\
---------------------------------------------------------------------------

    \74\ See CEA Section 1a(33)(B); Exchange Act section
3(a)(67)(B).
---------------------------------------------------------------------------

    Both major participant definitions provide that a person may be
designated as a major participant for one or more categories of swaps
or security-based swaps without being classified as a major participant
for all classes of swaps or security-based swaps.\75\
---------------------------------------------------------------------------

    \75\ See CEA section 1a(33)(C); Exchange Act section
3(a)(67)(C).
---------------------------------------------------------------------------

    Finally, the definition of ``major swap participant''--but not the
definition of ``major security-based swap participant''--includes an
exception for any ``entity whose primary business is providing
financing, and uses derivatives for the purpose of hedging underlying
commercial risks related to interest rate and foreign currency
exposures, 90 percent or more of which arise from financing that
facilitates the purchase or lease of products, 90 percent or more of
which are manufactured by the parent company or another subsidiary of
the parent company.'' \76\
---------------------------------------------------------------------------

    \76\ See CEA section 1a(33)(D).
---------------------------------------------------------------------------

    Although the two major participant definitions are similar, they
address instruments that reflect different types of risks and that can
be used by end-users and other market participants for different
purposes. Interpretation of the definitions must appropriately account
for those differences.
    The Commissions are proposing rules to further define the ``major
swap participant'' and ``major security-based swap participant''
definitions, by specifically addressing: (a) The ``major'' categories
of swaps or securities-based swaps; (b) the meaning of ``substantial
position''; (c) the meaning of ``hedging or mitigating commercial
risk''; (d) the meaning of ``substantial counterparty exposure that
could have serious adverse effects on the financial stability of the
United States banking system or financial markets''; and (e) the
meanings of ``financial entity'' and ``highly leveraged.'' We also are
proposing rules to specify the use of a daily average methodology for
identifying whether a person meets one of the major participant
definitions, provide for a reevaluation period for certain entities
that exceed the relevant daily average by a small amount, and provide
for a minimum length of time before a person may no longer be deemed a
major participant.
    We further propose that the CFTC or SEC may limit an entity's
designation as a major participant to only certain types, classes or
categories of swaps or security-based swaps. We also address certain
additional interpretive issues that commenters have raised. Finally,
while the Commissions also are not proposing any exclusions from the
major participant definitions, we are soliciting comment as to whether
certain types of entities should be excluded from the definitions'
application.\77\
---------------------------------------------------------------------------

    \77\ In light of the significant and novel issues raised by the
major participant definitions, the Commissions recognize the
importance of monitoring the swap and security-based swap markets
following adoption of major participant rules. This will help us
evaluate whether the rules appropriately reflect how market
participants use these instruments, and will help us consider the
impact of market evolution and the ways in which market participants
may change their practices in response to the rules, so we may
identify potential improvements to the rules or other actions to
enhance enforcement of major participant regulation.
---------------------------------------------------------------------------

A. ``Major'' Categories of Swaps and Securities-Based Swaps

    The first and third tests of the statutory major participant
definitions encompass entities that have a substantial position in a
``major'' category of swaps or security-based swaps. The Commissions
are responsible for designating these ``major'' categories.\78\
---------------------------------------------------------------------------

    \78\ See CEA section 1a(33)(A)(i), (iii); Exchange Act section
3(a)(67)(a)(2)(i), (iii). One commenter suggested that we determine
these categories by reference to the types of instruments
specifically listed in the statutory definition of ``swap.'' See
Northwestern Mutual letter (suggesting that, for regulatory
consistency, each type of swap listed in the definition and options
on each of those swaps should be considered to be an individual
major category). The statutory definition of ``swap'' lists 22
different types of swaps.
---------------------------------------------------------------------------

    The Commissions propose to designate ``major'' categories of swaps
and security-based swaps in a manner that reflects the risk profiles of
these various instruments and the different purposes for which end-
users make use of the various instruments. We preliminarily believe
that it is important not to parse these ``major'' categories so finely
as to base the ``substantial position'' thresholds on unduly narrow
risks that would reduce those thresholds' effectiveness as risk
measures. The ``major'' categories will apply only for purposes of the
major participant definitions and are not necessarily determinative
with respect to any other provision of the Dodd-Frank Act or the
regulations adopted thereunder.
1. Major Categories of Swaps
    We propose to designate four ``major'' categories of swaps for
purposes of the ``major swap participant'' definition. The four
categories are rate swaps, credit swaps, equity swaps and other
commodity swaps.\79\ The first category would encompass any swap which
is primarily based on one or more reference rates, such as swaps of
payments determined by fixed and floating interest rates, currency
exchange rates, inflation rates or other monetary rates. The second
category would encompass any swap that is primarily based on
instruments of indebtedness, including but not limited to any swap
primarily based on one or more indices related to debt instruments, or
any swap that is an index credit default swap or total return

swap on one or more indices of debt instruments. The third category
would encompass any swap that is primarily based on equity securities,
such as any swap primarily based on one or more indices of equity
securities, or any total return swap on one or more equity indices. The
fourth category would encompass any swap not included in any of the
first three categories. This fourth category would generally include,
for example and not by way of limitation, any swap for which the
primary underlying item is a physical commodity or the price or any
other aspect of a physical commodity.\80\
---------------------------------------------------------------------------

    \79\ See proposed CEA rule 1.3(rrr). For the avoidance of doubt,
the term ``swap'' as it is used in the definitions of the major swap
categories in rule 1.3(rrr) has the meaning set forth in section
1a(47) of the CEA and the rules promulgated thereunder.
    \80\ The term ``commodity'' as defined in Section 1a(9) of the
CEA, 7 U.S.C. 1a(9), and CFTC Rule Sec.  1.3(e), 17 CFR 1.3(e)
includes interest rates, foreign exchange rates, and equity and debt
indices as well as physical commodities. Thus, the fourth category
of swaps is entitled ``other commodity swaps'' because it includes
any swap not included in the other three categories.
---------------------------------------------------------------------------

    The four major categories of swaps are intended to cover all swaps.
Each swap would be in the category that most closely describes the
primary item underlying the swap. If a swap is based on more than one
underlying item of different types, the swap would be in the category
that describes the underlying item that is likely to have the most
significant effect on the economic return of the swap. The proposed
categories are consistent with market statistics that distinguish
between these general types of swaps, as well as market infrastructures
that have been established for these types of swaps.
    We request comment on this proposed method of allocating swaps
among ``major'' categories. Commenters particularly are asked to
address whether there are any types of swaps that would have unclear
status under this proposal, as well as whether all swaps instead should
be placed into a single ``major'' category for purposes of the ``major
swap participant'' definition, or whether there should be additional
``major'' categories of swaps. Commenters are also asked to address
whether the rate swap category should be divided into two separate
categories--one for swaps based on rates of exchange between different
currencies, and another for swaps based on interest rates, inflation
rates and other monetary rates--and if so, in which category cross-
currency rate swaps should be included. Also, should the major swap
category for other commodity swaps be divided into two separate
categories--one for swaps based on agricultural commodities, and
another for swaps based on all other commodities not included in the
other categories?
2. Major Categories of Security-Based Swaps
    We propose to designate two ``major'' categories of security-based
swaps for purposes of the ``major security-based swap definition.'' The
first category would encompass any security-based swap that is based,
in whole or in part, on one or more instruments of indebtedness
(including loans), or a credit event relating to one or more issuers or
securities, including but not limited to any security-based swap that
is a credit default swap, total return swap on one or more debt
instruments, debt swap, debt index swap, or credit spread.\81\ The
second category would encompass any other security-based swaps not
included in the first category; this category would include, for
example, equity swaps.\82\
---------------------------------------------------------------------------

    \81\ This category does not encompass a security-based swap that
is based on an instrument of indebtedness solely in connection with
the swap's financing leg.
    \82\ See proposed Exchange Act rule 3a67-2.
---------------------------------------------------------------------------

    The proposed categories reflect the fact that entities that
transact in security-based swaps for non-speculative purposes would be
expected to use the respective instruments for different purposes. For
example, swaps based on instruments of indebtedness, such as credit
derivatives, can be used to hedge the risks associated with the default
of a counterparty or debt obligation. Equity swaps can be used, among
other ways, to hedge the risks associated with equity ownership or gain
synthetic exposure to equities.\83\ The proposed categories also are
consistent with market statistics that currently distinguish between
those general types of security-based swaps, as well as market
infrastructures, including separate trade warehouses, that have been
established for credit default swaps and equity swaps.
---------------------------------------------------------------------------

    \83\ At the same time, we note that the distinctions between
these proposed ``major'' categories of ``security-based swaps''
arguably are less significant than the distinctions among the
proposed major categories of ``swaps'' (such as, for example, the
distinction between other commodity swaps and rate swaps).
---------------------------------------------------------------------------

    We request comment on this proposed method of allocating security-
based swaps between two ``major'' categories. In particular, we request
comment on whether there are any types of security-based swaps that
would have unclear status under this proposal, as well as whether all
security-based swaps instead should be placed into a single ``major''
category for purposes of the ``major security-based swap participant''
definition, or whether there should be additional ``major'' categories
of security-based swaps.

B. ``Substantial Position''

    As noted above, the Commissions are required to define the term
``substantial position'' as a threshold that is ``prudent for the
effective monitoring, management, and oversight of entities that are
systemically important or can significantly impact the financial system
of the United States.'' \84\ This raises two fundamental issues: (i)
What types of measures should be used to identify the risks posed by an
entity's swap or security-based swap positions; and (ii) for each of
those measures, how much risk should be required to evidence a
``substantial position''?
---------------------------------------------------------------------------

    \84\ See CEA section 1a(33)(B); Exchange Act section
3(a)(67)(B).
---------------------------------------------------------------------------

1. Commenters' Views
    Commenters have expressed diverse views as to what should
constitute a substantial position. A number of commenters suggested the
use of a test based on the current uncollateralized mark-to-market
exposure posed by an entity's swap or security-based swap positions,
after taking bilateral netting agreements into account. Two commenters
suggested specific dollar amounts of uncollateralized exposure to use
as the substantial position threshold.\85\ Several commenters expressed
the view that positions subject to central clearing should be entirely
excluded from the analysis, or at least should be discounted for
purposes of the analysis.\86\
---------------------------------------------------------------------------

    \85\ See letter from Timothy W. Cameron, Esq., Managing
Director, SIFMA Asset Management Group, dated September 20, 2010
(``SIFMA AMG letter'') (suggesting a standard of $2.5 billion
average exposure in any calendar quarter based on the entity's
entire portfolio of swaps and security-based swaps, other than
foreign exchange swaps and forwards); letter from Gus Sauter, Chief
Investment Officer, Vanguard, dated September 20, 2010 (``Vanguard
letter'') (suggesting that the applicable threshold be $500 million
in uncollateralized exposure for any single major swap category or
$1 billion aggregate exposure across all major categories).
    \86\ See letter from Jennifer J. Kalb, Associate General
Counsel, Metropolitan Life Insurance Company, dated September 20,
2010 (``MetLife letter'') (suggesting that cleared trades be subject
to a lesser ``charge'' for purposes of the substantial position
calculation, or be excluded entirely).
---------------------------------------------------------------------------

    Some commenters opposed using the notional amount of swap or
security-based swap positions to set the threshold, stating that the
notional amount is not indicative of the risks associated with a
position. Some commenters similarly opposed using measures of swap or
security-based swap volume to set the threshold,

contending that the number of trades does not reflect risk.\87\
---------------------------------------------------------------------------

    \87\ But see letter from Christopher A. Klem, Ropes & Gray,
dated September 2, 2010 (test should account for frequency of
trading and frequency of trading with non-dealers).
---------------------------------------------------------------------------

    A few commenters addressed the possibility that the threshold could
take into account the potential future risks associated with a
position, in addition to the risks associated with uncollateralized
current exposure.\88\ Some commenters suggested that the threshold take
into account the potential riskiness of the particular type of
instrument at issue. Some commenters maintained that the threshold
should take into account the number of counterparties an entity has,
the size of an entity's positions compared to the size of the market,
the size of an entity's swap or security-based swap positions compared
to the entity's ability to absorb losses of that magnitude, or the
financial strength of an entity's counterparties. Several commenters
stated that the threshold should be based on an average measure over
time, so that short-term spikes in measures such as exposure would not
by themselves cause an entity to meet the major participant
definitions. Some commenters suggested that the substantial position
threshold should reflect an amount of ``systemic risk.'' \89\
---------------------------------------------------------------------------

    \88\ See letter from Andrew Baker, Chief Executive Officer,
Alternative Investment Management Association, dated September 24,
2010 (``AIMA letter'') (discussing possible methods of estimating
the maximum risk of loss related to positions); letter from Warren
Davis, Of Counsel, Sutherland Asbill & Brennan LLP on behalf of the
Federal Home Loan Banks, dated September 20, 2010 (in addressing
``substantial counterparty exposure'' test, noting the possibility
of accounting for the potential exposure of a portfolio).
    \89\ See letter from Edward J. Rosen, Cleary Gottlieb Steen &
Hamilton LLP, dated September 21, 2010 (``Cleary letter'')
(suggesting that the threshold should be akin to the amount that is
required for a non-financial entity to be designated as systemically
important under Title I of the Dodd-Frank Act).
    Section 113 of the Dodd-Frank Act provides that the Financial
Stability Oversight Council (``FSOC'') may determine that a non-bank
financial company shall be supervised by the Federal Reserve Board,
subject to prudential standards, if the FSOC ``determines that
material financial distress at the U.S. nonbank financial company,
or the nature, scope, size, scale, concentration,
interconnectedness, or mix of the activities of the U.S. nonbank
financial company, could pose a threat to the financial stability of
the United States.'' In making that determination, the FSOC is to
consider: Leverage; off-balance sheet exposures; transactions and
relationships with other significant non-bank financial companies
and bank holding companies; importance as a source of credit and
liquidity; extent to which assets are managed rather than owned; the
nature, scope, size, scale, concentration, interconnectedness and
mix of activities; presence of a primary financial regulator; assets
and liabilities; and any other appropriate risk-related factors.
---------------------------------------------------------------------------

2. Proposed Substantial Position Thresholds
    The Commissions recognize that it is important for the substantial
position thresholds to be set using objective numerical criteria.
Objective criteria should permit regulators, market participants and
entities that may be subject to the regulations to readily evaluate
whether swap or security-based swap positions meet the thresholds, and
should promote the predictable application and enforcement of the
requirements governing major participants.
    In determining the substantial position thresholds--in light of
what is ``prudent for the effective monitoring, management, and
oversight'' of entities that are systemically important or can
significantly impact the U.S. financial system--the Commissions are
mindful that tests based on current uncollateralized exposure and tests
based on potential future exposure both have respective advantages and
disadvantages. We thus are proposing tests that would account for both
types of exposure.
    A test that focuses solely on the current uncollateralized exposure
associated with an entity's swap and security-based swap positions
should provide a reasonable measure of the theoretical amount of
potential risk that an entity would pose to its counterparties if the
entity currently were to default.\90\ Such a test also should be
relatively clear-cut for market entities to implement, and would be
based on calculations that we expect that market entities would perform
as a matter of course.
---------------------------------------------------------------------------

    \90\ In practice, however, this measure may underestimate the
amount of risk that an entity poses to its counterparties, given
that it may take multiple days to liquidate a defaulting entity's
swap or security-based swap positions, during which time prices may
move against the defaulting entity.
---------------------------------------------------------------------------

    At the same time, a focus solely on current uncollateralized
exposure could be overly narrow by failing to identify risky entities
until some time after they begin to pose the level of risk that should
subject them to regulation as major participants. Because exposure can
change significantly over short periods of time, and a swap or
security-based swap position that may pose large potential exposures
nonetheless would often have a mark-to-market exposure of zero at
inception, an entity's positions may already pose significant risk to
counterparties and to the market even before its uncollateralized mark-
to-market exposure increases up to the applicable threshold. A test
that focuses solely on current uncollateralized exposure thus would not
appear to be sufficient to satisfy the systemic importance standard
required by the statute.
    Tests based on measures of potential future exposure--which would
address an estimate of how much the value of a swap or security-based
swap might change against an entity over the remaining life of the
contract--could address the gap left by a current uncollateralized
exposure test. Potential future exposure tests, however, would reflect
only an estimate of that type of risk, and would only be as effective
as the factors used by the test.
    While we have considered several other types of tests that could be
used to determine the substantial position threshold, we preliminarily
do not believe that the advantages of those tests justify their
disadvantages. For example, while a threshold based on the number of an
entity's counterparties could help identify highly interconnected
entities (a factor that some have argued is important for identifying