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Swap Reporting Requirements under the Dodd-Frank Act

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Lucking David
David Lucking

Partner

New York

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21 September 2010

The Dodd-Frank Wall Street Reform and Consumer Protection Act (P.L. 111-203, H.R. 4173) (the Dodd-Frank Act) requires that certain information about swaps that are currently outstanding, as well as those entered into in the future, be publicly reported.

The objective is to enhance price discovery and provide regulators with the information required to act as monitors of systemic risk and generally bring greater transparency to the over-the-counter (OTC) derivatives market.

This article examines the key components of the reporting requirements, timelines for regulatory rulemaking and implementation and certain consequences for market practice and standard swap documentation. We conclude with a comparison of the reporting requirements contained in the Dodd-Frank Act against those recently proposed by European regulators.

Each reference in this article to the term "swap" also refers to a "security-based swap", and each reference to a provision applicable to the regulation of swaps by the U.S. Commodity Futures Trading Commission (the CFTC) also refers to the comparable provision in the Dodd-Frank Act applicable to regulation of security-based swaps by the U.S. Securities and Exchange Commission (together with the CFTC, the Commissions). Unless otherwise indicated, each reference to a "Section" in this article refers to a section of the Dodd-Frank Act.

Reporting Requirements for Cleared and Uncleared Swaps

At a minimum, the Dodd-Frank Act requires that all swaps (whether cleared or uncleared) be reported to a registered swap data repository (a SDR) or, to the extent no SDR accepts information about a swap, that such swap be reported to the relevant Commission. Reported data will be disseminated to the public. Various provisions of the Dodd-Frank Act mandate that the Commissions also promulgate specific reporting rules and regulations with respect to (a) each swap that is subject to the mandatory clearing requirement of the Dodd-Frank Act or is cleared at a derivatives clearing organization or clearing agency (each, a Cleared Swap) and (b) each swap that is not cleared at a derivatives clearing organization or clearing agency (each, an Uncleared Swap).

At a CFTC-SEC Roundtable on September 14, 2010 (the Roundtable), regulators from the Commissions, as well as representatives from derivatives dealers, buy-side firms, clearinghouses and derivatives service providers, shed light on some of the complicated aspects of implementing the reporting requirements, as summarized in the tables below. We note that while the viewpoints presented during the Roundtable are currently being considered by the Commissions, it is unclear whether the Commissions will ultimately adopt any of the recommendations of the participants in the Roundtable.

Who must report?

Cleared Swap

Section 727 states that "parties" to a swap (including agents of the parties to such swap) shall be responsible for reporting information related to such swap to the appropriate "registered entity", a term defined in the Commodity Exchange Act that has been amended by the Dodd-Frank Act to include SDRs and derivatives clearing organizations.

  • We interpret Section 727 to mean that both parties to a Cleared Swap have an obligation to report the swap since the Dodd-Frank Act does not contain a provision analogous to Section 729 that allocates responsibility for reporting Uncleared Swaps (see box at right for a description of Section 729).
  • We note that it is not immediately apparent whether a party to a Cleared Swap may satisfy Section 727's swap reporting requirements by arranging for the counterparty to such swap, an affiliate or a third party vendor (such as the relevant derivatives clearing organization) to report the swap as its "agent".

See Section 766 for the corresponding provisions for security-based swaps.

Uncleared Swap

Section 729 provides as follows:

  • If only one counterparty is a swap dealer or major swap participant (MSP), the swap dealer or MSP must report the swap.
  • If one counterparty is a swap dealer and the other counterparty is a MSP, the swap dealer must report the swap.
  • If neither party is a swap dealer or a MSP or if both parties are either both swap dealers or both MSPs, either counterparty may report the swap (as agreed by both parties).

See Section 763 for the corresponding provisions for security-based swaps.

Comment: At the Roundtable, participants noted that it might be operationally efficient to allow a swap counterparty to satisfy its reporting obligations by using a third party vendor (such as a central electronic confirmation platform or a clearinghouse) to report the swap. The Dodd-Frank Act expressly contemplates that the Commission may require registered entities (which includes SDRs and derivatives clearing organizations) to publicly disseminate swap data.

What must be reported?

Cleared Swap

  • Pursuant to Section 727, the relevant Commission will prescribe rules that specify the pricing and volume data to be reported. See Section 763 for the corresponding provision for security-based swaps.
  • As set forth in Section 727, the relevant Commission will prescribe other information to be reported, based on factors including effects on market liquidity. The rules will ensure that the information reported does not identify the participants to the swap. See Section 763 for the corresponding provision for security-based swaps.
  • In addition, Section 730 mandates submission of reports by parties entering into transactions and positions in swaps that perform a "significant price discovery function", as the CFTC may require. We note that Section 763 contains position limits and reporting requirements with respect to security-based swaps, which may be imposed regardless of whether the relevant security-based swap performs a "significant price discovery function".

Uncleared Swap

  • Pursuant to Section 727, the relevant Commission will prescribe rules that specify the pricing and volume data to be reported.
  • As set forth in Section 727, the relevant Commission will prescribe other information to be reported, based on factors including effects on market liquidity. The rules will ensure that the information reported does not identify the participants to the swap.
  • Section 727 also requires that the information reported should not disclose the business transactions or market position of any person.
  • It is unclear whether information about bespoke swaps (that are consequently Uncleared Swaps) could perform a "significant price discovery function" with respect to registered entities; if so, the requirements of Section 730 could also apply (see above).

See Section 763 for the corresponding provisions for security-based swaps.

Comment: Roundtable participants highlighted the need for continued security and confidentiality for information reported to SDRs and regulators. The relevant Commission will need to grapple with international laws relating to confidentiality that may prohibit the disclosure of certain information with respect to swaps between parties in different jurisdictions. It remains unclear whether SDRs will be permitted to use submitted swap data for commercial purposes. Participants also queried whether it should be necessary to report data with respect to transactions relating to swaps that are not "price forming" (such as certain novations or compression trades). In addition, participants in the Roundtable highlighted the need to introduce these requirements progressively to avoid freezing the market overnight with onerous requirements before market participants have time to put in place appropriate infrastructure and systems. The Dodd-Frank Act expressly requires that the Commissions' rules with respect to reporting take into account whether public disclosure will materially reduce market liquidity.

Where should data be reported?

Cleared Swap

  • Under Section 727, each Cleared Swap must be reported to a SDR. See Section 763 for the corresponding provision for security-based swaps.
  • Under Section 728, a derivatives clearing organization may also register as a SDR and consequently serve as a one-stop clearing and reporting shop. However, Section 763 does not expressly state that clearing agencies may act as security-based swap data repositories.
  • If swap data pertaining to a Cleared Swap is not accepted by an SDR, Section 723 implies that such swap data must be reported to the relevant Commission. See Section 763 for the corresponding provision for security-based swaps.

Uncleared Swap

  • Under Section 727, each Uncleared Swap must be reported to a SDR. See Section 763 for the corresponding provision for security-based swaps.
  • Under Section 729, each Uncleared Swap must be reported to a SDR, or if no SDR accepts the relevant swap data, to the relevant Commission. See Section 766 for the corresponding provision for security-based swaps.

Comment: Roundtable participants emphasized the value of having a single repository for each asset class (rates, credit, equity, FX etc) with an independent body responsible for aggregating data and providing dissemination of the information. It was also emphasized that each SDR needs to maintain sufficient safeguards to keep the data safe, secure and available in times of crisis when the information is needed most. The Dodd-Frank Act expressly contemplates that the Commissions may delegate their public reporting responsibilities as appropriate in the public interest.

When must swap data be reported?

Cleared Swap

Section 727 provides:

  • Cleared Swaps other than "large notional swaps" (i.e., block trades) must be reported "as soon as technologically practicable" after time of trade execution.
  • For block trades, the relevant Commission will prescribe rules regarding what constitutes a block trade for a particular contract and market and the appropriate delay for reporting such block trade.

See Section 763 for the corresponding provision for security-based swaps.

Uncleared Swap

Section 727 provides:

  • Uncleared Swaps other than "large notional swaps" (i.e., block trades) must be reported "as soon as technologically practicable" after time of trade execution.
  • For block trades, the relevant Commission will prescribe rules regarding what constitutes a block trade for a particular contract and market and the appropriate delay for reporting such block trade.

See Section 763 for the corresponding provision for security-based swaps.

Comment: While the statutory language appears to require that nearly every swap be reported on a "real-time" basis, many market participants at the Roundtable emphasized the importance of accurate reporting in a format that is understandable for market participants and regulators alike over immediate reporting of certain data. Other considerations include ensuring that the information disseminated does not have a market-moving impact. The scope of the block trade exemption and the phased dissemination of block trade information may vary depending on the type of swap and the underlying reference asset.

As noted below, CFTC Chairman Gary Gensler has indicated that it may be a year before mandatory real-time reporting of swaps comes into effect.

Additional Requirements for Swap Dealers and MSPs

In addition to the above reporting requirements, the Dodd-Frank Act requires each swap dealer and MSP to maintain daily trading records, including recorded communications such as emails, instant messages and recordings of telephone calls, for each swap that the swap dealer or MSP enters into, as prescribed by the relevant Commission. The Dodd-Frank Act also requires each swap dealer and MSP to maintain books and records of all activities related to its business as a swap dealer or MSP in a form and manner, and for such period, as prescribed by the relevant Commission. Such books and records must be open to inspection and examination by the relevant Commission. Finally, each swap dealer and MSP is required to disclose to its prudential regulator and the relevant Commission information regarding the terms and conditions of its swaps, including financial protections relating to such swaps, and information regarding its swaps trading operations and practices.

Implication of Reporting Requirements

To facilitate compliance with the reporting requirements, market participants might consider including express agreements in their swap documents (a) permitting either party to report all swaps as required by the Dodd-Frank Act and/or (b) where such arrangement is permitted by the Dodd-Frank Act, placing the obligation to report on one of the parties. Market participants might also consider including an acknowledgement and release of any express or implied duties of confidentiality in respect of information that is required to be reported. Furthermore, because the reporting requirements also apply to swaps entered into prior to the enactment of the Dodd-Frank Act (July 21, 2010), market participants may need to consider amending existing swap agreements to address confidentiality concerns arising with respect to disclosure of information relating to swaps entered into prior to the enactment of the Dodd-Frank Act.

Timeline for Implementation

There remains some uncertainty regarding the timeline for market participants and the Commissions to implement the reporting requirements for swaps entered into prior to the enactment of the Dodd-Frank Act. This is a result of the fact that there are multiple, conflicting, reporting requirements scattered throughout Title VII of the Dodd-Frank Act. Section 723, for example, requires all swaps entered into prior to the enactment of the Dodd-Frank Act to be reported to a SDR or the relevant Commission no later than 540 days after the enactment of the Dodd-Frank Act, while Section 729 requires all swaps entered into prior to the enactment of the Dodd-Frank Act to be reported to a SDR or the relevant Commission no later than (a) 30 days after the relevant Commission issues an interim final rule regarding timing (required within 90 days of the date of enactment of the Dodd-Frank Act) or (b) such other period as the relevant Commission provides.

It is currently unclear how the Commissions will reconcile these conflicting timelines, but given the infrastructure required to begin reporting of swaps and the pace of rulemaking, it may be some time before the reporting requirements are in full effect. In a speech to the U.S. Chamber of Commerce on September 21, 2010, CFTC Chairman Gary Gensler indicated that September, 2011 is likely to be the earliest that mandatory real-time reporting of swaps will come into effect.

Comparison with Europe

Following the publication of the proposed European Commission Regulation on OTC derivatives, central counterparties and trade repositories on September 15, 2010 (the Regulation), there is now a clearer picture in respect of the likely reporting requirements in the European Union (the EU). If approved, the Regulation is expected to come into force at the end of 2012.

Under the Regulation, financial counterparties (and non-financial counterparties which exceed the "information threshold" – a yet to be determined threshold based on the "systemic relevance of the sum of net positions and exposures by counterparty per class of derivatives") must report, no later than the business day following execution, clearing or modification, each OTC derivative entered into, modified or terminated to the relevant trade repository (or, if this is not possible, to the relevant national competent authority). The details, format, frequency and type of reports for each class of OTC derivative will be determined by the European Commission at a later date (following guidance from the European Securities and Markets Association (the ESMA) due by June 30, 2012).

The use of trade repositories would be mandatory under the legislation and will add an additional reporting layer in respect of all future OTC derivatives entered into by entities affected by the reporting requirements. The role of a trade repository would be to enable the collection of information on outstanding contracts and to make this information available to the relevant national competent authorities within the EU. Trade repositories would be required to be registered with, and would be monitored on an ongoing basis by, ESMA. The reporting requirements operate retrospectively, so that OTC derivatives entered into prior to the date of implementation would also need to be reported to a trade repository within 120 days of the date of registration of that trade repository by ESMA.

There may also be further changes to the rules surrounding reporting requirements in Europe and transparency generally around the OTC derivatives market as a result of the ongoing Markets in Financial Instruments Directive review.

There are some obvious differences between the proposed European regime under the Regulation and the U.S. regime under the Dodd-Frank Act. It remains to be seen whether global organizations subject to both of these reporting regimes will opt to apply a single set of internal policies with respect to swap data reporting, drawing upon the most onerous requirements of the two regimes, and consequently sacrificing the more lenient provisions in favor of the operational efficiency of applying a single system.