[Federal Register Volume 76, Number 142 (Monday, July 25, 2011)]
[Rules and Regulations]
[Pages 44262-44265]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-18777]
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COMMODITY FUTURES TRADING COMMISSION
17 CFR Parts 1 and 4
RIN 3038-AD11
Removing Any Reference to or Reliance on Credit Ratings in
Commission Regulations; Proposing Alternatives to the Use of Credit
Ratings
AGENCY: Commodity Futures Trading Commission.
ACTION: Final rule.
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SUMMARY: The Commodity Futures Trading Commission (``Commission'' or
``CFTC'') is adopting a final rule that amends existing CFTC
regulations in order to implement new statutory provisions enacted by
Title IX of the Dodd-Frank Wall Street Reform and Consumer Protection
Act (``Dodd-Frank Act''). The rule amendments set forth herein apply to
futures commission merchants (``FCMs''), derivatives clearing
organizations (``DCOs''), and commodity pool operators (``CPOs''). The
rule amendments implement the new statutory framework that requires
agencies to replace any reference to or reliance on credit ratings in
their regulations with an appropriate alternative standard.
DATES: This rule is effective September 23, 2011.
FOR FURTHER INFORMATION CONTACT: Ward P. Griffin, Counsel, Office of
General Counsel, Commodity Futures Trading Commission, Three Lafayette
Centre, 1155 21st Street, NW, Washington, DC 20581. Telephone: 202-418-
5425. E-mail: [email protected].
SUPPLEMENTARY INFORMATION:
I. Background
On July 21, 2010, President Obama signed into law the Dodd-Frank
Act.\1\ In relevant part, Title IX of the Dodd-Frank Act directs
Federal agencies to take certain actions concerning any reference to--
or requirement of reliance on--credit ratings in each agency's
respective regulations. Specifically, section 939A of the Dodd-Frank
Act requires agencies to take three actions by July 21, 2011, the one-
year anniversary of the enactment of the Dodd-Frank Act. First, section
939A(a) directs each Federal agency to review ``any regulation issued
by such agency that requires the use of an assessment of the credit-
worthiness of a security or money market instrument [and] any
references to or requirements in such regulations regarding credit
ratings.'' Second, section 939A(b) requires that each Federal agency
``modify any such regulations identified by the review conducted under
subsection (a) to remove any reference to or requirement of reliance on
credit ratings and to substitute in such regulations such standard of
credit-worthiness as each respective agency shall determine as
appropriate for such regulations.'' To the extent feasible, Federal
agencies should ``seek to establish * * * uniform standards of credit-
worthiness for use by each such agency.'' And third, section 939A(c)
directs each Federal agency to report to Congress ``a description of
any modification of any regulation such agency made pursuant to
subsection (b).''
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\1\ Dodd-Frank Wall Street Reform and Consumer Protection Act,
Pub. L. 111-203, 124 Stat. 1376 (2010). The text of the Dodd-Frank
Act may be accessed at http://www.cftc.gov/LawRegulation/OTCDERIVATIVES/index.htm.
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Subsequent to the enactment of the Dodd-Frank Act, the Commission
reviewed its regulations and identified instances in which credit
ratings were referred to or relied upon.\2\ The identified regulations
could be categorized into two groups: (1) those that rely on ratings to
limit how Commission registrants may invest or deposit customer funds;
and (2) those that require disclosing a credit rating to describe an
investment's characteristics. In keeping with its efforts to comply
fully with both the spirit and letter of the Dodd-Frank Act, the
Commission proposed to amend all of the identified regulations that
rely on credit ratings regarding financial instruments.
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\2\ Commission regulations that are referenced herein are found
at 17 CFR Ch. 1 (2010). They are accessible on the Commission's Web
site at http://www.cftc.gov.
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On November 2, 2010, the Commission published in the Federal
Register proposed amendments to certain of its existing regulations
(the ``Proposing Release'') in response to the directives set forth in
section 939A of the Dodd-Frank Act.\3\ Specifically, the Commission
addressed two regulations in the Proposing Release: (1) Regulation
1.49, which places qualifications on the types of depositories where
FCMs and DCOs might place customer funds; and (2) Regulation 4.24,
wherein credit ratings are used to help disclose the characteristics of
an investment.\4\
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\3\ 75 FR 67254, Nov. 2, 2010.
\4\ Separately, the Commission issued Notices of Proposed
Rulemaking that addressed references to credit ratings in Commission
Regulations 1.25 and 30.7, and in Appendix A to Part 40. See
``Investment of Customer Funds and Funds Held in an Account for
Foreign Futures and Foreign Options Transactions,'' 75 FR 67642,
Nov. 3, 2010 (proposing amendments to Regulations 1.25 and 30.7);
``Provisions Common to Registered Entities,'' 75 FR 67282, Nov. 2,
2010 (proposing to delete the current Appendix A of Part 40). The
amendments proposed in those Notices are not addressed herein and
may be subject to future Commission rulemaking.
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Regulation 1.49, which mirrors Regulation 30.7,\5\ requires that an
acceptable foreign depository must either: (1) Have in excess of $1
billion of regulatory capital; or (2) issue commercial paper or a long-
term debt instrument that is rated in one of the two highest rating
categories by at least one nationally recognized statistical rating
organization (``NRSRO''). In the Proposing Release, the Commission
proposed to remove all ratings requirements from Regulation 1.49. The
Commission based its proposal on its views regarding the uncertain
reliability of ratings as currently administered, particularly in light
of the significant weaknesses of the ratings industry that were
revealed in recent years. The Commission noted the poor past
performance of credit ratings in gauging the safety of certain types of
investments, and its view that credit ratings are not necessary to
gauge the future ability of certain types of investments to preserve
customer funds. The proposal was intended to align Regulation 1.49 with
proposed Regulations 1.25 and 30.7, and to greater simplify the
regulatory treatment of the investment of customer funds.
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\5\ See 68 FR 5545, 5548, Feb. 4, 2003 (noting the Commission's
view that consistency between Regulations 1.49 and 30.7 on this
issue is ``appropriate''). In a separate release, the Commission has
proposed amendments to Regulation 30.7 that are similar to the
amendments to Regulation 1.49 addressed herein. See supra note 4.
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With respect to the proposed amendment of Regulation 1.49, the
Commission requested comment on: (1) Whether relying on a minimum
capital requirement of $1 billion dollars in regulatory capital is an
adequate alternative standard to the current Regulation 1.49; and (2)
whether another standard or measure of solvency and credit-worthiness
should be used as an appropriate, additional test of a bank's safety,
such as a leverage ratio or a capital adequacy ratio requirement
consistent with or similar to those in the Basel III accords. The
Commission also stated that it would welcome any other comments on the
proposal.
[[Page 44263]]
In addition to the proposed amendment to Regulation 1.49, the
Proposing Release also proposed to amend Regulation 4.24. Regulation
4.24 requires CPOs to disclose the characteristics of the commodity and
other interests that the pool will trade, including, if applicable,
their investment rating. In order to comply fully with the spirit and
letter of the Dodd-Frank Act, the Commission proposed removing the
references to ratings in Regulation 4.24 and replacing that reference
with the phrase ``credit-worthiness.'' In the Proposing Release, the
Commission expressly noted that CPOs may still choose to reference an
investment rating to describe the credit-worthiness of an investment in
its disclosures. However, the Commission noted that the CPO as
appropriate should make an independent assessment of the credit-
worthiness of those investments.
The Commission requested comment on its proposed amendment of
Regulation 4.24, particularly with respect to what effect the removal
of the credit ratings reference in Regulation 4.24 might have on the
ability of investors and others to understand the disclosures of CPOs
regarding the characteristics of a commodity pool. The Commission also
requested comment on the ability of CPOs to make independent
assessments of the credit-worthiness of their pool's investments.
II. Comments on the Proposing Release
In response to the Proposing Release, the Commission received three
comments, two of which were not responsive to the issues presented in
the Notice. The other commenter forwarded a letter originally submitted
in response to an advance notice of proposed rulemaking issued by the
Federal banking agencies.\6\ The commenter discussed issues and options
surrounding the implementation of section 939A of the Dodd-Frank Act,
and offered analytical services to refine alternatives to credit
ratings. However, the commenter did not raise any factual or policy
concern relating to the rule amendments proposed by the Commission in
the Proposing Release.
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\6\ See ``Advance Notice of Proposed Rulemaking Regarding
Alternatives to the Use of Credit Ratings in the Risk-Based Capital
Guidelines of the Federal Banking Agencies,'' 75 FR 52283, Aug. 25,
2010.
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After considering the comments received in response to the
Proposing Release, the Commission has determined to amend Regulations
1.49 and 4.24 as proposed. Section 939A of the Dodd-Frank Act directs
each Federal agency, including the Commission, ``to remove any
reference to or requirement of reliance on credit ratings and to
substitute in such regulations such standard of credit-worthiness as
each respective agency shall determine as appropriate for such
regulations.'' As acknowledged in the Proposing Release, the Commission
proposed the amendments to Regulations 1.49 and 4.24, in part, to
facilitate ``its efforts to fully comply with both the spirit and
letter of the Dodd-Frank Act.'' The amendments set forth herein are
narrowly tailored to accomplish that task, while maintaining the
commitment to the protection of customer funds that the Commission
continually has promoted over the years.
III. Consideration of Costs and Benefits Under Section 15(A) of the
Commodity Exchange Act (``CEA'')
Section 15(a) of the CEA requires the Commission to consider the
costs and benefits of its actions before issuing a rulemaking under the
Act. Section 15(a) further specifies that the costs and benefits shall
be evaluated in light of the five broad areas of market and public
concern: (1) Protection of market participants and the public; (2)
efficiency, competitiveness and financial integrity of futures markets;
(3) price discovery; (4) sound risk management practices; and (5) other
public interest considerations.\7\ The Commission may in its discretion
give greater weight to any one of the five enumerated areas and could
in its discretion determine that, notwithstanding its costs, a
particular rule is necessary or appropriate to protect the public
interest or to effectuate any of the provisions or accomplish any of
the purposes of the Act.
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\7\ The rule amends the qualifications required of non-U.S.
depositories in which customer funds may be held and alters the
disclosures that CPOs must provide to their customers. Given the
characteristics of the rule and its anticipated effect, the
Commission does not believe that the rule will impact the efficiency
or competitiveness of futures markets, or have any effect on price
discovery.
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Although the Commission specifically requested public comment on
appropriate alternatives to the rule language contained in the
Proposing Release,\8\ the Commission received no such comments, nor did
the Commission receive any substantive comments on the costs and
benefits related to the rule. Section 939A instructs the Commission to
implement the removal of any references to or reliance on credit
ratings in its rules and regulations.
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\8\ See 75 FR 67254, 67256, Nov. 2, 2010.
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Because of the statutory requirement to remove the reference to
credit ratings from Regulation 1.49, investments in foreign
depositories that have less than $1 billion in regulatory capital, but
that previously were eligible depositories in reliance upon their
credit ratings, may no longer be eligible depositories for customer
funds. The consequences of this regulatory action may impose
transaction costs associated with transferring customer funds, if
necessary, to another depositor if a foreign depository is no longer
eligible. Costs also may be borne by foreign banks or trusts that will
no longer be eligible to receive deposits of customer funds under
Regulation 1.49, given the resultant loss of business.
However, the amendments to Regulation 1.49 reflect the statutory
mandate set forth under section 939A of the Dodd-Frank Act. The
Commission acknowledged in the Proposing Release the uncertain
reliability of ratings as currently administered, the poor past
performance of credit ratings in gauging the safety of certain types of
investments, and the Commission's view that credit ratings are not
necessary to gauge the future ability of certain types of investments
to preserve customer funds. Although the Commission specifically
``request[ed] comment on whether there is another standard or measure
of solvency and creditworthiness that might be used as an appropriate,
additional test of a bank's safety,'' \9\ the Commission received no
comments offering an appropriate alternative to the amendments to
Regulation 1.49 that were contained in the Proposing Release. In light
of the uncertain reliability of ratings and their poor past
performance, the Commission believes that the elimination of references
to credit ratings in Regulation 1.49 will enhance the protection of
market participants and the public, as well as enhance sound risk
management practices, by requiring that if customer funds are held in a
non-U.S. bank or trust company, the non-U.S. bank or trust company have
more than $1 billion of regulatory capital. The capital standard will
afford greater protection of customer funds. Such protections will, in
turn, promote the financial integrity of futures markets by reducing
the likelihood of loss, relative to the status quo.
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\9\ Id.
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Similarly, the statutory requirement to modify Regulation 4.24 has
the potential benefit of reducing risk in the financial system by
placing more responsibility on CPOs to fully understand the credit-
[[Page 44264]]
worthiness of investments. CPOs will be required to make an independent
assessment, as appropriate, of the credit-worthiness of investments in
their portfolio rather than relying solely on credit ratings, though
CPOs will not be prohibited from relying on credit ratings, as
appropriate. Customers of CPOs may benefit from improved disclosure of
the credit-worthiness of the investments in which funds are placed. In
light of the specific issues identified by the Commission concerning
the reliance of credit ratings, as discussed in greater detail supra,
the Commission believes that the rule will enhance the protection of
market participants and the public, promote the financial integrity of
futures markets, and enhance sound risk management practices. Costs may
be imposed on CPOs in improving their ability to make independent
assessments of credit-worthiness. Although CPOs will not be prohibited
from relying on credit ratings under Regulation 4.24, circumstances may
require a CPO to engage in further assessments of the credit-worthiness
of the investments in which funds are placed, as appropriate, beyond
merely citing the ratings of those investments by a NRSRO. However,
notwithstanding its costs, this rule is necessary and appropriate to
protect the public interest, and effectuates the mandate prescribed in
section 939A of the Dodd-Frank Act.
IV. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act (``RFA'') requires Federal agencies,
in promulgating rules, to consider the impact of those rules on small
businesses, and whether the rules will have a significant economic
impact on a substantial number of small entities.\10\ The rule
amendments proposed herein will affect FCMs, DCOs, and CPOs. The
Commission previously has established certain definitions of ``small
entities'' to be used by the Commission in evaluating the impact of its
regulations on small entities in accordance with the RFA, and has
determined that registered FCMs,\11\ DCOs,\12\ and CPOs \13\ are not
small entities for the purpose of the RFA. Accordingly, as set forth in
the Proposing Release,\14\ the Chairman, on behalf of the Commission
and pursuant to 5 U.S.C. 605(b), certifies that the proposed rules will
not have a significant economic impact on a substantial number of small
entities.
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\10\ 5 U.S.C. 601 et seq.
\11\ 47 FR 18618, 18619, Apr. 30, 1982.
\12\ 66 FR 45604, 45609, Aug. 29, 2001.
\13\ 47 FR at 18619-20.
\14\ See 75 FR 67254, 67256, Nov. 2, 2010.
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B. Paperwork Reduction Act
The Paperwork Reduction Act (``PRA'') \15\ imposes certain
requirements on Federal agencies (including the Commission) in
connection with their conducting or sponsoring any collection of
information as defined by the PRA. These rule amendments do not require
a new collection of information on the part of any entities subject to
the rule amendments. Accordingly, for purposes of the PRA, the
Commission certifies that these rule amendments will not impose any new
reporting or recordkeeping requirements.
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\15\ 44 U.S.C. 3501 et seq.
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List of Subjects
17 CFR Part 1
Brokers, Commodity futures, Consumer protection.
17 CFR Part 4
Advertising, Commodity futures, Commodity pool operators, Commodity
trading advisors, Consumer protection, Disclosure, Principals,
Reporting and recordkeeping requirements.
For the reasons stated in this release, the Commission hereby
amends 17 CFR parts 1 and 4 as follows:
PART 1--GENERAL REGULATIONS UNDER THE COMMODITY EXCHANGE ACT
0
1. The authority citation for part 1 is revised to read as follows:
Authority: 7 U.S.C. 1a, 2, 5, 6, 6a, 6b, 6c, 6d, 6e, 6f, 6g, 6h,
6i, 6k, 6m, 6n, 6o, 6p, 7, 7a, 7b, 8, 9, 12, 12a, 12c, 13a, 13a-1,
16, 16a, 19, 21, 23, and 24, as amended by the Dodd-Frank Wall
Street Reform and Consumer Protection Act, Pub. L. 111-203, 124
Stat. 1376 (2010), and the Commodity Futures Modernization Act of
2000, Appendix E of Pub. L. 106-554, 114 Stat. 2763 (2000).
0
2. Section 1.49 is amended by revising paragraph (d)(3) to read as
follows:
Sec. 1.49 Denomination of customer funds and location of
depositories.
* * * * *
(d) * * *
(3) A depository, if located outside the United States, must be:
(i) A bank or trust company that has in excess of $1 billion of
regulatory capital;
(ii) A futures commission merchant that is registered as such with
the Commission; or
(iii) A derivatives clearing organization.
* * * * *
PART 4--COMMODITY POOL OPERATORS AND COMMODITY TRADING ADVISORS
0
3. The authority citation for part 4 is revised to read as follows:
Authority: 7 U.S.C. 1a, 2, 4, 6(c), 6b, 6c, 6l, 6m, 6n, 6o, 12a
and 23, as amended by the Dodd-Frank Wall Street Reform and Consumer
Protection Act, Pub. L. 111-203, 124 Stat. 1376 (2010).
0
4. Section 4.24 is amended by revising paragraph (h)(1)(i) to read as
follows:
Sec. 4.24 General disclosures required.
* * * * *
(h) * * *
(1) * * *
(i) The approximate percentage of the pool's assets that will be
used to trade commodity interests, securities and other types of
interests, categorized by type of commodity or market sector, type of
security (debt, equity, preferred equity), whether traded or listed on
a regulated exchange market, maturity ranges and credit-worthiness, as
applicable;
* * * * *
By the Commodity Futures Trading Commission.
Dated: July 20, 2011.
David A. Stawick,
Secretary.
Appendices to Removing Any Reference to or Reliance on Credit Ratings
in Commission Regulations; Proposing Alternatives to the Use of Credit
Ratings--Commission Voting Summary and Statements of Commissioners
Note: The following appendices will not appear in the Code of
Federal Regulations.
Appendix 1--Commission Voting Summary
On this matter, Chairman Gensler and Commissioners Dunn,
Sommers, Chilton and O'Malia voted in the affirmative; no
Commissioner voted in the negative.
Appendix 2--Statement of Chairman Gary Gensler
I support the final rulemaking to remove references to credit
ratings within the CFTC's regulations. Under Title IX of the Dodd-
Frank Wall Street Reform and Consumer Protection Act, Congress
required the Commission to review credit rating references in our
existing regulations and remove reliance upon them. The rule removes
them from Regulation 1.49, which limits the types of non-U.S. banks
in which futures commission merchants and derivatives clearing
organizations may place customer funds. The rule also removes them
from Regulation 4.24, which requires commodity pool operators to
disclose to their customers where they are putting customer
[[Page 44265]]
money. Other references included in Regulations 1.25 and 30.7 will
be taken up when the Commission considers the proposed rulemaking
related to investment of customer funds.
[FR Doc. 2011-18777 Filed 7-22-11; 8:45 am]
BILLING CODE 6351-01-P