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District Judge Rejects Challenge to Dodd-Frank Regulations
A U.S. District Court judge in Washington, DC, on Friday dismissed Bloomberg LP’s challenge of the Commodity Futures Trading Commission’s (CFTC) Dodd-Frank regulations on the multi-trillion over-the-counter (OTC) derivatives market.
Judge Beryl A. Howell denied Bloomberg’s request for a preliminary injunction of the challenged regulations, saying that Bloomberg “lacks standing to challenge the Commission’s regulation and has not made a showing of imminent and irreparable harm sufficient to warrant the extraordinary relief of a preliminary injunction [Civil Action No. 13-523].”
The Dodd-Frank rules have been the target of a number of lawsuits. Last fall, the U.S. Court of Appeals for the District of Columbia Circuit rejected the agency’s initial rule on speculative trading, saying that the Dodd-Frank “clearly and unambiguously” requires the CFTC to make a finding of necessity prior to imposing position limits. The International Swaps and Derivatives Association and the Securities Industry and Financial Markets Association challenged the rule. It was remanded to the Commission for further consideration (see Daily GPI, Oct. 1, 2012). The agency has appealed the court decision, and is said to be working on a new rule (see Daily GPI, May 2).
At the center of the latest lawsuit is the difference between the liquidation times, and thus margins, for the treatment of swaps on swap execution facilities (SEFs) and demand contract markets (DCMs), such as the New York Mercantile Exchange. The CFTC rule calls for swaps that are executed on an SEFs to have a minimum five-day liquidation time, while permitting equivalent swaps that were are on a DCM to be subject to a minimum one-day liquidation time and lower margins. SEFs were created by the Dodd-Frank law for the specific trading of swaps.
The liquidation time is the estimated amount of time it would take a demand clearing organization (DCO) to liquidate a position held by a clearing member on behalf of its customer in the case of default. All else being equal, a higher liquidation time typically results in a higher initial margin requirement.
Bloomberg “does not allege that it has suffered any injury as a result of the final rule” yet, but it “fears that, because swaps cannot be cleared with lower than a five-day liquidation time, but swap futures can be cleared with as low as a one-day liquidation time, once ‘Phase 2’ clearing begins on June 10, DCOs will set lower liquidation times for swap futures, traded on competitors DCMs, than for swaps traded on Bloomberg’s trading platform,” the court said. Bloomberg is seeking to become an SEF.
The CFTC rules are aimed at moving a significant proportion of OTC trading activity to SEFs to comply with Dodd-Frank, which was signed into federal law in 2010 (see Daily GPI, July 22, 2010). The legislation also requires swaps to be reported to trade repositories and centrally cleared. The $673 trillion OTC derivatives market, which lacked regulatory oversight, “contributed significantly” to the global financial crisis in 2008, the court noted.
Howell said that Bloomberg’s alleged injury “rises or falls with the behaviors of third-party DCOs, who are the entities…who actually decide what liquidation times to set and how much margin to collect. Yet inexplicably Bloomberg has not put forth a single allegation that any DCO has set or intends to set liquidation times for financial swap futures at a level lower than that set for financial swaps. Instead, Bloomberg simply [assumes] the worst-case scenario.”
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