Companies have made “little or no progress” so far in developing compliance programs for the Dodd-Frank Wall Street Reform Act, according to a newly issued report and survey. Meanwhile market participants are fleeing the swaps market due to the “regulatory nightmare” that the Commodity Futures Trading Commission has created in drafting its Dodd-Frank rules, said CFTC Commissioner Scott O’Malia last week.
“Despite the protracted nature of the [Dodd-Frank] process, or possibly in light of the long-delayed rulemaking (instilling doubt as to the eventuality of the regulations), many market participants have made little or no progress in developing their compliance processes or deploying the necessary technologies for compliance,” wrote Patrick Reames, managing director of Texas-based CommodityPoint, and Ed Bell, a founding member of the Global Energy Management Institute at the University of Houston.
The survey took place between April and September this year and included responses from 47 companies trading in energy products, with most located in the United States and a few in Canada, Europe and the Asia Pacific.
“The Dodd-Frank Market Survey and Report” found that companies were spending little on Dodd-Frank efforts. “Though fully 80% of the North American respondents indicated they did have some effort toward compliance underway, almost half of the respondents (those that knew their dollar spent to date) had actually spent less than $25,000 on outside services or technology to support the effort,” it said.
“More than 50% [of firms surveyed] indicated they did not have any monies budgeted for Dodd-Frank compliance” through the end of the year, the study/survey said. “Of those that said they had no budget in place, the most common entity types were those that held hard assets, including oil and gas producers and utilities, perhaps reflecting their belief that they would be classified as ‘end-users’ and exempt from many of the regulatory burdens of Dodd-Frank,” the report noted.
“Forty-five percent [of the companies surveyed] did indicate some level of budget, though of that group, budgets of less than $500,000 were most commonly noted. In total, four of our respondents (three in North American and one outside the region) noted they had budgeted more than $2 million for the effort, with three of those being very large oil and gas producers and one large financial institution.”
All in all, “there appears to be a general lack of urgency on the part of many market participants,” which is reflected by the meager budgets and scarce resources assigned to compliance efforts and little engagement with third parties, according to the study.
“Given the potential legal and financial exposures of non-compliance, we believe it is incumbent upon all levels of leadership, from risk managers to…executives, to create a culture of Dodd-Frank compliance within their companies…Unfortunately, while the regulators’ response will not be immediate, it will most likely be aggressive once in motion; and once a company is identified as one that has not been compliant in the past, that company will likely remain under CFTC [Commodity Futures Trading Commission] scrutiny for a very long time.”
While a couple of significant events occurred during the analysis and report writing phase of the research effort, they did not affect the responses and data collected for the report, Reames said. In late September, the U.S. District Court for the District of Columbia tossed out the CFTC’s controversial final rule aimed at limiting speculative trading in the swaps market (see NGI, Oct. 1). “The position limit rule is vacated and remanded to the Commission for further proceeding,” wrote District Judge Robert Wilkins in the opinion.
Then the CFTC postponed from Oct. 12 to the end of the year the deadline for companies to declare their status as swap dealers (see NGI, Oct. 15). “These delays , along with other appeals and lawsuits that are working their way through the court systems, continue to create a confused outlook as to how or when the new Dodd-Frank regulations would ultimately be implemented,” Reames said.
The Chicago Mercantile Exchange (CME) earlier this month filed a lawsuit in federal court in Washington, DC, against the CFTC, challenging the agency’s enforcement of its swap data record-keeping and reporting requirements under Dodd-Frank (see NGI, Nov. 12).
In related action, the CFTC’s O’Malia said the Commission also must respond more quickly. The Commission needs to take action by mid-December to avoid a repeat of Oct.12, when the agency issued an 11th-hour flurry of no-action letters deferring the compliance deadline for a number of Dodd-Frank rules. Just as the nation faces a fiscal cliff, the agency faces the Dodd-Frank Regulatory Cliff.
“Friday, Oct. 12, was a day of great drama, but certainly not in a good way and certainly not by design,” O’Malia said last Tuesday at George Mason University in Fairfax, VA. “Friday the 13th may have been more appropriate, given the nightmare scenario the Commission was trying to avoid at the absolute last minute.” By the end of Oct. 12, “the Commission had rushed out 18 no-action letters and guidance documents in a last-minute attempt to mitigate the chaotic impact of all the rules that were to take effect the following Monday. Think about that for a second: 18 relief documents issued on the day before the compliance deadline,” O’Malia told students and faculty.
Even now, “we are not out of the woods,” he said. “The temporary relief provided [on Oct. 12] expires on Dec. 31, and we can’t risk keeping the markets in the dark until the 11th hour again. The Commission needs to take action by mid-December in order to provide adequate clarity to the markets through the New Year. Think of this as the Dodd-Frank Regulatory Cliff.”
In one of the more significant no-action letters issued on Oct. 12, the Commission provided relief from the requirement that certain cleared swaps and swaps exchanged for futures referencing exempt commodities (such as energy commodities or metals, and agricultural commodities) be counted toward the threshold of $8 billion aggregate gross of notional amount of swaps. Exceeding the $8 billion threshold subjects a party to swap dealer registration regulations under Dodd-Frank.
“The big storyline [last month was] the migration of cleared energy products to the futures markets. In response to regulatory uncertainty in the swaps market, energy customers of both CME and ICE [IntercontinentalExchange] demanded that the markets move to listed futures instead of swaps. There are good reasons to stay away from the swaps market, including the expansive and ill-defined swap definition and regulatory consequences of becoming designated [as a swap dealer] as well as uncertainty as to what will be permitted to trade on SEFs [swap execution facilities],” O’Malia said (see NGI, Oct. 22; Sept. 17).
“On Oct. 15…the entire market had shifted from a swaps market to the futures market. Liquidity simply dried up in the [over-the-counter] space. To me, this is evidence of the Commission’s struggle to get swap regulations right. This futurization of the cleared energy swap market may result in reduced flexibility for some firms because futures contracts, unlike swaps, can’t be individually tailored to meet specific needs. However, futures markets offer greater regulatory certainty and provide high liquidity to allow for the efficient hedging of commercial risk,” he said.
Although it was not the Commission’s intention to draft rules that would send market participants fleeing from the swaps market, the agency “has created such a regulatory nightmare that the energy markets have sought cover in the relative safe haven of the futures markets,” O’Malia said.
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