WASHINGTON - The Commodity Futures Trading Commission yesterday voted unantmously to propose a rule that would exempt municipal and other swap agreements from regulations governing futures if they meet certain criteria.
The commission set a 30-day comment period for the rule, which would start after its publication in the Federal Register next week. But several commissioners said they would consider requests for an extension of that period if it was needed. The rule could be revised depending on comments made.
The proposed rule, which is designed to reduce regulatory uncertainty surrounding swaps, would be retroactive if adopted. The effective date would be Oct. 23, 1974, the date the Commodity Futures. Trading Commission Act of 1974 was enacted, so that the regulatory exemption would be available for all swap agreements that meet the criteria.
At yesterday's meeting to approve the rule, Commissioner Sheila Bair said, "Congress wanted us to act promptly to provide certainty to existing and emerging markets, but not to go significantly beyond that. So I would be very interested in any input as to whether the contours of this rule are appropriate, whether we go too far or don't go far enough."
One commission aide said, "This is really a hurry-up drill here, so we need to work at getting people to participate. This is an area that depends on participation."
Bair noted further, "We are taking a stab today at drawing the line at a certain point. There are obviously a few industry groups which have differing ideas about what the proposed exemption should look like - where we should draw that line."
She said she would like to think that the rule would be "warmly embraced" by everybody. "But I don't think that's going to happen after nearly four years of fighting it out."
The proposed rule defines a swap agreement as an agreement involving rate swaps; basis swaps; forward rates; commodity swaps; interest rate options; forward foreign exchanges; rate caps, floors or collars; currency swaps; cross-currency rate swaps; currency options: and "any similar agreement."
Under the proposed rule, a swap agreement, or persons rendering advice or services with regard to such an agreement, would be eligible for an exemption from the Commodity Exchange Act if four terms or conditions were met.
The first is that the swap agreement be entered into solely between "appropriate persons." The proposed rule contains a list of institutions and regulated entities considered appropriate, including banks or trust companies acting in an individual or fiduciary capacity, savings associations, insurance companies, investment companies subject to regulation under the Investment Company Act of 1940, and commodity pools formed or operated by a person subject to regulation.
Also on the list are corporations, partnerships, proprietorships, organizations, and trust or other business entities. These entities must have a net worth exceeding $1 million or total assets exceeding $5 million, or obligations under the swap agreement that are guaranteed or supported by certain credit enhancement.
The list further includes employee benefit plans with assets exceeding $1 million or whose investment decisions are made by a bank, trust company, insurance company, registered investment banker, or regulated commodity trading adviser.
Other appropriate persons include any governmental entity, broker-dealers subject to regulation under the Securities Exchange Act of 1934, and regulated futures commission merchants, floor brokers, and traders.
Individuals, however, including floor brokers, traders, and broker-dealers, would have to have a net worth exceeding $5 million or total assets exceeding $10 million if they entered into a swap and wanted it to be exempt from futures regulations.
The commission has asked for public comments on whether additional financial criteria should be added for individuals.
A second condition for exemption requires that the swap agreement not be part of a "fungible" or inter-changeable class of agreements that are standardized as to their material economic terms. This condition was added because of concernm that standardized swap agreements look like futures, which are clearly regulated by the futures commission, one commission lawyer said.
A third condition is that the creditworthiness of any participant be a "material consideration" in entering into or determining the terms of the swap agreement.
The fourth condition for an exemption is that the swap agreement not be entered into and traded, on or through, any physical or electronic transaction execution system in which all market makers and other participants can simultaneously effect transactions and bind both parties by accepting offers made by one member and open to all members,
This would allow exchange members to trade swaps on the same basis as over-the-counter markets, but would not permit them to trade swaps on or through the exchange with a clearing-house arrangement.
The proposed rules also clarify that swap agreements exempted from futures regulations would not lose that exemption if, at the end of the swap agreement, there were net payment obligations.
At yesterday's meeting, Commissioner Fowler West asked whether under the proposal an exchange can enter the swaps market "in a fair and even-handed manner."
Joanne Medero, the commission's general counsel, answered that any entity that qualifies as "an appropriate person" under the rules can enter the swaps market.
West also questioned whether the commission should have clear authority to bring fraud actions against firms that violate the rules' provisions, particularly in cases where securities and banking regulators do not have such authority.
West said he knows the commission will get input from swap dealers and futures exchanges that have actively participated in the four-year-old congressional debate over exempting swaps.