The Commodity Futures Trading Commission (CFTC) has unanimously approved amendments to the real-time swap reporting rules in Part 43 of the CFTC’s regulations by, among other things, clarifying the applicability of the rules to swaps executed in a prime brokerage agency arrangement.
The CFTC previously issued no-action relief that addressed mirror swaps in prime brokerage agency arrangements, providing relief from the real-time public reporting obligations in response to concerns that public reporting of both legs of a prime brokerage transaction would incorrectly suggest the presence of more trading activity in the market than actually existed (see CFTC No-Action Letter No. 12-53).
The September 17 amendments largely codify the no-action relief, but introduce new concepts and defined terms to prevent duplicative swap reporting by limiting the scope of mirror swaps that should not be reported to those swaps that are integrally related to trigger swaps and their related pricing events. The practical effect of the rulemaking for parties in a swaps prime brokerage agency arrangement (see below) is to clarify that mirror swaps do not need to be reported under the CFTC’s real-time reporting rules and to identify the party responsible for reporting the trigger swap.
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What Is a Swaps Prime Brokerage Agency Arrangement?
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The amendments are effective 60 days after the rules are published in the Federal Register. The compliance dates are 18 months for most of the amended regulations, including the swaps prime brokerage agency arrangement reporting rules, after the rules are published in the Federal Register, and 30 months after the rules are published in the Federal Register for Regulation 43.4(h) (post-initial cap size) and Regulation 43.6 (block trades and large notional off-facility swaps).
The CFTC’s amended regulations incorporate public reporting rules applicable to swaps prime brokerage agency arrangements. Trigger swaps must be reported to a swap data repository (SDR) as soon as technologically practicable upon execution (deemed to occur at the time of the pricing event for the trigger swap). Where a swap dealer is a counterparty to the trigger swap but is not serving as the prime broker, the swap dealer counterparty is designated as the reporting counterparty for the trigger swap. Where no counterparty to a trigger swap is a swap dealer, the general rules apply (Regulation 43.3(a)(3), providing a hierarchy of reporting based on a counterparty’s status). In the proposal, the CFTC remarked that if neither party to a trigger swap is a swap dealer, the prime broker could amend the terms of its arrangement to require the parties to report execution in a timely manner to permit the prime broker to report the trigger swap as soon as technologically practicable.
Although the proposal did not directly address the party responsible for reporting in the scenario where one leg of a prime brokerage transaction is executed on a swap execution facility (SEF) or designated contract market (DCM) (with the mirror swap executed bilaterally pursuant to the give-up arrangement), the final rules clarify that a prime broker swap that is executed on or subject to the rules of an SEF or DCM shall be treated as a trigger swap, with the SEF or DCM responsible for the reporting of the trigger swap.
With respect to a prime broker swap that is cleared by a central counterparty, the final rules do not impose different requirements to prime broker swaps that are cleared by a derivatives clearing organization (DCO). If a prime broker swap is executed on an SEF or DCM and submitted to a DCO for clearing, the CFTC’s reporting rules applicable to an “original swap” (a swap that has been accepted for clearing by a DCO) and a “clearing swap” (a swap created pursuant to the rules of a DCO with the DCO as a counterparty, including any swap that replaces an original swap that was extinguished upon acceptance for clearing) will apply to the prime broker swap that is cleared by a DCO.
The CFTC is adopting the term “mirror swap” with the following modifications from the proposed rule: (1) removing the explicit reference to a partial reverse give-up because the definition already captures swaps associated with partial reverse give-ups, making this reference unnecessary; and (2) replacing references to “notional” with “contractually agreed payment and delivery amounts,” a broader term that clarifies that mirror swaps may apply to swaps in all asset classes, including swaps for which the term notional is not used by market participants.
At the request of commenters, the CFTC adopted a new term not included in the proposal. Under the final rules, the term “prime broker swap” is defined to mean a swap with a counterparty that is a swap dealer that is acting in its capacity as a prime broker. As a result, trigger swaps and mirror swaps are considered prime broker swaps and the proposed rules are clarified to avoid any confusion that a prime brokerage agency arrangement is limited to the execution of the trigger swap.
In this and the other swap data reporting rulemakings adopted on the same day, the CFTC noted that it received a request to require reporting parties to “tag” swaps that are entered into pursuant to a swaps prime brokerage agency arrangement. The CFTC declined to identify swaps in this manner.
The final rules introduce legal and operational considerations that prime brokers should take into account. The parties in a swaps prime brokerage agency arrangement should reevaluate their swap data reporting agreements in light of the CFTC’s rulemaking. Of course, changes to existing reporting procedures may necessitate operational changes. When considering whether swap data reporting changes are necessary, potential changes should be discussed with the prime broker’s or executing dealer’s operations team to ensure that the prime broker or executing dealer can comply with the updated reporting obligations by the final rules’ compliance dates.
CFTC Regulation 43.2(a) Definitions
(1) To which—
(2) That is executed contemporaneously with a corresponding trigger swap;
(3) That has identical terms and pricing as the contemporaneously executed trigger swap, except:
(4) With respect to which the sole price forming event is the occurrence of the contemporaneously executed trigger swap; and
(5) The execution of which is contingent on, or is triggered by, the execution of the contemporaneously executed trigger swap. The contractually agreed payments and delivery amounts under a mirror swap may differ from those amounts of the corresponding trigger swap if:
CFTC Regulation 43.3(a)(6) Method and Timing for Real-Time Public Reporting
Prime Broker Swaps
CFTC Regulation 43.3(a)(6) Method and Timing for Real-Time Public Reporting
Third-Party Facilitation of Data Reporting
Any person required by this part to report swap transaction and pricing data, while remaining fully responsible for reporting as required by this part, may contract with a third-party service provider to facilitate reporting.
If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following Morgan Lewis lawyers:
Boston
Katherine Dobson Buckley
Chicago
Michael M. Philipp
New York
Thomas D’Ambrosio
[1] A trigger swap is the swap that is negotiated between an executing dealer and the client of a prime broker but “given up” to the prime broker, resulting in a swap between the executing dealer and the prime broker if the swap is within predefined parameters. This swap serves as the trigger for the execution of the mirror swap, or the swap between the prime broker and its client.