The head of the Commodity Futures Trading Commission (CFTC) last Thursday took Wall Street to task for its chilly response to calls for reform of the over-the-counter (OTC) derivatives market that has been proposed by Congress in its sweeping overhaul of the financial regulatory system.
"Let there be no mistake: Wall Street has not been enthusiastic about this reform. They would prefer transparency only be brought to the regulators or at most that regulators just publish aggregate trading data rather than real-time trade information," CFTC Chairman Gary Gensler said in a speech in Florida to the Futures Industry Association.
Over the years, "Wall Street...has benefited from opacity and inefficiencies in the over-the-counter derivatives market, a market dominated by a handful of dealers in this county. But in this particular market and at this time in our history, we need markets that work for the American public," he said.
The off-exchange OTC market has exploded to a $300 trillion notional amount in the United States, which is "by some measures nearly 10 times the size of the regulated futures market," and yet it remains unregulated, Gensler noted.
Gensler has repeatedly urged Congress to regulate -- with no exceptions -- the entire OTC market, requiring that transactions be centrally cleared and traded on regulated exchanges. House legislation, which was passed in December, would grant an exemption from mandatory clearing for commodity trades involving end-users or commercial traders hedging bona fide commercial risk (see NGI, Dec. 14, 2009). An exemption would not extend to a swap dealer or major swap participant, such as a financial institution.
Many large natural gas consumers use OTC derivatives -- financial products that are traded dealer-to-dealer instead of on regulated exchanges -- to hedge rsks associated with price and market volatility.
Sen. Christopher J. Dodd (D-CT), chairman of the Senate Banking Committee, on Monday is expected to unveil a sweeping financial reform proposal, which would include regulation of the OTC transactions. He said he plans to introduce a substitute to the original financial reform package that he unveiled last November, and hold a full committee marki-up the week of March 22 (see NGI, Nov. 16, 2009). His proposal is not expected to have a single endorsement from a Republican. The exemption language contained in the original reform package was similar to that in the House bill.
"Wall Street appears to be aligning themselves with corporate end-users in an effort to exempt customer transactions from central clearing. While only 9% of the market represents transactions between dealers and nonfinancial end-users, Wall Street seems to be making the case that financial end-users also should be exempt" from OTC regulation, Gensler said.
"This could possibly leave 60% of the clearable market outside of clearing. Wall Street might express partial support for a clearing requirement, but when it comes to the trading requirement, they appear rather allergic. After all, Wall Street has a fiduciary duty to its shareholders and will look to maintain its information advantage," he noted.
Gensler said the proposed $47 million increase for CFTC in the Obama administration's fiscal year 2011 budget will enable the agency to keep a closer watch on the markets, including energy futures, that it oversees. "With this increase, the CFTC will be able to move toward state-of-the-art automated surveillance and compliance and conduct more regular examinations of our registrants.
"This will improve the efficiency of the agency and of the markets. If over-the-counter derivatives reform is enacted, even further resources will be needed," Gensler said.
During a hearing of the Senate Energy and Natural Resources Committee last week, Gensler said comprehensive reform of the OTC derivatives marketplace will grant new authorities to market regulators that will necessarily relate to existing authorities of other federal regulators, and he said the Federal Energy Regulatory Commission and CFTC should cooperate as both agencies continue to apply their authorities to the activities that are within their respective jurisdictions (see related story).
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