[Federal Register Volume 77, Number 167 (Tuesday, August 28, 2012)]
[Notices]
[Pages 52138-52173]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2012-20965]
[[Page 52137]]
Vol. 77
Tuesday,
No. 167
August 28, 2012
Part II
Commodity Futures Trading Commission
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Proposed Order and Request for Comment on a Petition From Certain
Independent System Operators and Regional Transmission Organizations To
Exempt Specified Transactions Authorized by a Tariff or Protocol
Approved by the Federal Energy Commission or the Public Utility
Commission of Texas From Certain Provisions of the Commodity Exchange
Act; Notice
Federal Register / Vol. 77 , No. 167 / Tuesday, August 28, 2012 /
Notices
[[Page 52138]]
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COMMODITY FUTURES TRADING COMMISSION
Proposed Order and Request for Comment on a Petition From Certain
Independent System Operators and Regional Transmission Organizations To
Exempt Specified Transactions Authorized by a Tariff or Protocol
Approved by the Federal Energy Commission or the Public Utility
Commission of Texas From Certain Provisions of the Commodity Exchange
Act
AGENCY: Commodity Futures Trading Commission.
ACTION: Notice of Proposed Order and Request for Comment.
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SUMMARY: The Commodity Futures Trading Commission (``CFTC'' or
``Commission'') is requesting comment on a proposed exemption (the
``Proposed Exemption'') issued in response to a consolidated petition
(``Petition'') \1\ from certain regional transmission organizations
(``RTOs'') and independent system operators (``ISOs'') (collectively,
``Petitioners'') to exempt specified transactions from the provisions
of the Commodity Exchange Act (``CEA'' or ``Act'') \2\ and Commission
regulations. The Proposed Exemption would exempt the contracts,
agreements and transactions for the purchase or sale of the limited
electricity-related products that are specifically described within the
proposed order from the provisions of the CEA and Commission
regulations, with the exception of sections 2(a)(1)(B), 4b, 4c(b), 4o,
4s(h)(1)(A), 4s(h)(4)(A), 6(c), 6(d), 6(e), 6c, 6d, 8, 9 and 13 of the
Act and any implementing regulations promulgated thereunder including,
but not limited to Commission regulations 23.410(a) and (b), 32.4 and
part 180. To be eligible for the Proposed Exemption, the contract,
agreement or transaction would be required to be offered or entered
into in a market administered by a Petitioner pursuant to that
Petitioner's tariff or protocol for the purposes of allocating such
Petitioner's physical resources; the relevant tariff or protocol would
be required to have been approved or permitted to have taken effect by
either the Federal Energy Commission (``FERC'') or the Public Utility
Commission of Texas (``PUCT''), as applicable; and the contract,
agreement or transaction would be required to be entered into by
persons who are ``appropriate persons,'' as defined in section
4(c)(3)(A) through (J) of the Act \3\ or ``eligible contract
participants,'' as defined in section 1a(18) of the Act and Commission
regulations.\4\ The exemption as proposed also would extend to any
person or class of persons offering, entering into, rendering advice or
rendering other services with respect to such transactions. Finally,
the exemption would be subject to other conditions set forth therein.
Authority for issuing the exemption is found in section 4(c)(6) of the
Act.\5\
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\1\ In the Matter of the Petition for an Exemptive Order Under
Section 4(c) of the Commodity Exchange Act by California Independent
Service Operator Corporation; In the Matter of the Petition for an
Exemptive Order Under Section 4(c) of the Commodity Exchange Act by
the Electric Reliability Council of Texas, Inc.; In the matter of
the Petition for an Exemptive Order Under Section 4(c) of the
Commodity Exchange Act by ISO New England Inc.; In the Matter of the
Petition for an Exemptive Order Under Section 4(c) of the Commodity
Exchange Act by Midwest Independent Transmission System Operator,
Inc.; In the Matter of the Petition for an Exemptive Order Under
Section 4(c) of the Commodity Exchange Act by New York Independent
System Operator, Inc.; and In the Matter of the Petition for an
Exemptive Order Under Section 4(c) of the Commodity Exchange Act by
PJM Interconnection, L.L.C. (Feb. 7, 2012, as amended June 11,
2012).
\2\ 7 U.S.C. 1 et seq.
\3\ 7 U.S.C. 6(c)(3)(A)-(J).
\4\ 7 U.S.C. 1a(18). ``Further Definition of `Swap Dealer,'
`Security-Based Swap Dealer,' `Major Swap Participant,' `Major
Security-Based Swap Participant' and `Eligible Contract
Participant,' '' 77 FR 30596, May 23, 2012.
\5\ 7 U.S.C. 6(c)(6).
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The Commission seeks comment on the Petition, the Proposed
Exemption and related questions. A copy of the Petition requesting the
exemption is available on the Commission's Web site at http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/isorto4capplication.pdf, with Petition Attachments posted at
http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/isorto4cappattach.pdf and an Order 741 Implementation
Chart posted at http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/isorto4cappfercchart.pdf.
DATES: Comments must be received on or before September 27, 2012.
ADDRESSES: You may submit comments by any of the following methods:
The agency's Web site, at http://comments.cftc.gov. Follow
the instructions for submitting comments through the Web site.
Mail: David A. Stawick, Secretary of the Commission,
Commodity Futures Trading Commission, Three Lafayette Centre, 1155 21st
Street NW., Washington, DC 20581.
Hand Delivery/Courier: Same as mail above.
Federal eRulemaking Portal: http://www.regulations.gov.
Follow the instructions for submitting comments.
Please submit your comments using only one method.
All comments must be submitted in English, or if not, accompanied
by an English translation. Comments may be posted as received to http://www.cftc.gov. You should submit only information that you wish to make
available publicly. If you wish the Commission to consider information
that may be exempt from disclosure under the Freedom of Information
Act, a petition for confidential treatment of the exempt information
may be submitted according to the established procedures in CFTC
Regulation 145.9 (17 CFR 145.9).
The Commission reserves the right, but shall have no obligation, to
review, pre-screen, filter, redact, refuse or remove any or all of your
submission from www.cftc.gov that it may deem to be inappropriate for
publication, such as obscene language. All submissions that have been
redacted or removed that contain comments on the merits of the
rulemaking will be retained in the public comment file and will be
considered as required under the Administrative Procedure Act and other
applicable laws, and may be accessible under the Freedom of Information
Act.
FOR FURTHER INFORMATION CONTACT: Robert B. Wasserman, Chief Counsel,
202-418-5092, [email protected], or Laura Astrada, Associate Chief
Counsel, 202-418-7622, [email protected], or Jocelyn Partridge, Special
Counsel, 202-418-5926, [email protected], Division of Clearing and
Intermediary Oversight; Eve Gutman, Attorney-Advisor, 202-418-5141,
[email protected], Division of Market Oversight; Gloria P. Clement,
Assistant General Counsel, 202-418-5122, [email protected] or Thuy
Dinh, Counsel, 202-418-5128, [email protected], Office of the General
Counsel; or Robert Pease, 202-418-5863, [email protected], Division of
Enforcement; Commodity Futures Trading Commission, Three Lafayette
Centre, 1151 21st Street NW., Washington, DC 20581.
SUPPLEMENTARY INFORMATION:
Table of Contents
I. The Petition
II. Statutory Background
III. Background--FERC and PUCT
A. Introduction
B. FERC
C. PUCT
D. FERC & PUCT Oversight
IV. Scope of the Exemption
A. Transactions Subject to the Exemption
B. Conditions
C. Additional Limitations
V. Section 4(c) Analysis
A. Overview of CEA Section 4(c)
B. Proposed CEA Section 4(c) Determinations
[[Page 52139]]
C. FERC Credit Reform Policy
D. DCO Core Principle Analysis
E. SEF Core Principle Analysis
VIII. Proposed Exemption
A. Discussion of Proposed Exemption
B. Proposed Exemption
IX. Related Matters
A. Regulatory Flexibility Act
B. Paperwork Reduction Act
C. Cost-Benefit Considerations
X. Request for Comment
I. The Petition
On February 7, 2012, Petitioners collectively filed a Petition with
the Commission requesting that the Commission exercise its authority
under section 4(c)(6) of the CEA \6\ and section 712(f) of the Dodd-
Frank Wall Street Reform and Consumer Protection Act (``Dodd-Frank
Act'') \7\ to exempt contracts, agreements and transactions for the
purchase or sale of specified electricity products, that are offered
pursuant to a FERC- or PUCT-approved tariff, from most provisions of
the Act.\8\ Petitioners include three RTOs (Midwest Independent
Transmission System Operator Inc. (``MISO''); ISO New England, Inc.
(``ISO NE''); and PJM Interconnection, L.L.C. (``PJM'')), and two ISOs
(California Independent System Operator (``CAISO'') and New York
Independent System Operator (``NYISO'')), whose central role as
transmission utilities is subject to regulation by FERC; and the
Electric Reliability Council of Texas, Inc. (``ERCOT''), an entity that
performs the role of an ISO but whose central role as a transmission
utility in the electric energy market is subject to regulation by PUCT,
the authority with jurisdiction to regulate rates and charges for the
sale of electric energy within the state of Texas.\9\ Petitioners
represent that the roles, responsibilities and services of ISOs and
RTOs are substantially similar.\10\ As described in greater detail
below, FERC encouraged the formation of ISOs to consolidate and manage
the operation of electricity transmission facilities in order to
provide open, non-discriminatory transmission service for generators
and transmission customers.\11\ FERC also encouraged the formation of
RTOs to administer the transmission grid on a regional basis.\12\
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\6\ 7 U.S.C. 6(c)(6).
\7\ See Dodd-Frank Act, Public Law 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.
\8\ See Petition at 2-3, 6.
\9\ See Petition at 2-4. See 16 Tex. Admin. Code 25.1 (1998).
\10\ See Petition at 2 n. 2.
\11\ See FERC Order 888 Promoting Wholesale Competition Through
Open Access Non-Discriminatory Transmission Facilities (``FERC Order
888''), 61 FR 21540, April 24, 1996; See Petition at 2 n.2, 3.
\12\ See Petition at 3.
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Petitioners specifically request that the Commission exempt from
most provisions of the CEA certain ``financial transmission rights,''
``energy transactions,'' ``forward capacity transactions,'' and
``reserve or regulation transactions,'' as those terms are defined in
the Petition, if such transactions are offered or entered into pursuant
to a tariff under which a Petitioner operates that has been approved by
FERC or PUCT, as applicable, as well as any persons (including
Petitioners, their members and their market participants) offering,
entering into, rendering advice, or rendering other services with
respect to such transactions.\13\ Petitioners assert that each of the
transactions for which an exemption is requested is (a) subject to a
long-standing, comprehensive regulatory framework for the offer and
sale of such transactions established by FERC, or in the case of ERCOT,
the PUCT, and (b) part of, and inextricably linked to, the organized
wholesale electricity markets that are subject to regulation and
oversight of FERC or PUCT, as applicable.\14\ Petitioners expressly
exclude from the Petition a request for relief from sections 4b, 4o,
6(c) and 9(a)(2) of the Act \15\ and such provisions explicitly have
been carved out of the exemption that would be provided by the Proposed
Exemption. Petitioners assert that they are seeking the requested
exemption in order to provide greater legal certainty with respect to
the regulatory requirements that apply to the transactions that are the
subject of the Petition.\16\ Petitioners request that, due to the
commonalities in the Petitioners' markets, the exemption apply to all
Petitioners and their respective market participants with respect to
each category of electricity-related products described in the
Petition, regardless of whether such products are offered or entered
into at the current time pursuant to an individual Petitioner's
tariff.\17\ Petitioners' assert that this uniformity would avoid an
individual Petitioner being required to seek future amendments to the
exemption in order to offer or enter into the same type of transactions
currently offered by another Petitioner.\18\
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\13\ See id. at 2-3.
\14\ See id. at 11.
\15\ See id. at 3.
\16\ See id. at 3, 5-6.
\17\ See id. at 6.
\18\ See id.
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II. Statutory background
On July 21, 2010, President Obama signed the Dodd-Frank Act. Title
VII of the Dodd-Frank Act amended the CEA \19\ and altered the scope of
the Commission's exclusive jurisdiction.\20\ In particular, it expanded
the Commission's exclusive jurisdiction, which had included futures
traded, executed and cleared on CFTC-regulated exchanges and
clearinghouses, to also cover swaps traded, executed, or cleared on
CFTC-regulated exchanges or clearinghouses.\21\ As a result, the
Commission's exclusive jurisdiction now includes swaps as well as
futures, and is clearly expressed in CEA section 2(a)(1)(A), which
reads:
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\19\ 7 U.S.C. 1 et seq.
\20\ Section 722(e) of the Dodd-Frank Act.
\21\ See 7 U.S.C. 2(a)(1)(A). The Dodd-Frank Act also added
section 2(h)(1)(A), which requires swaps to be cleared if required
to be cleared and not subject to a clearing exception or exemption.
See 7 U.S.C. 2(h)(1)(A).
The Commission shall have exclusive jurisdiction, except to the
extent otherwise provided in the Wall Street Transparency and
Accountability Act of 2010 (including an amendment made by that Act)
and subparagraphs (C), (D), and (I) of this paragraph and
subsections (c) and (f), with respect to accounts, agreements
(including any transaction which is of the character of * * * an
``option''), and transactions involving swaps or contracts of sale
of a commodity for future delivery (including significant price
discovery contracts) traded or executed on a contract market * * *
or a swap execution facility * * * or any other board of trade,
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exchange, or market * * *.\22\
\22\ 7 U.S.C. 2(a)(1)(A).
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The Dodd-Frank Act also added a savings clause that addresses the
roles of the Commission, FERC, and state agencies as they relate to
certain agreements, contracts, or transactions traded pursuant to the
tariff of an RTO and ISO.\23\ Toward that end, paragraph (I) of CEA
section 2(a)(1) repeats the Commission's exclusive jurisdiction and
clarifies that the Commission retains its authorities over agreements,
contracts or transactions traded pursuant to FERC- or state-approved
tariff or rate schedules.\24\ The same paragraph (I) also explains that
the FERC and state agencies preserve their existing authorities over
agreements, contracts, or transactions ``entered into pursuant to a
tariff or rate schedule approved by [FERC] or a State regulatory
agency,'' that are: ``(I) not ``executed, traded, or cleared on'' an
entity or trading facility subject to registration or ``(II) executed,
traded, or cleared on a registered entity
[[Page 52140]]
or trading facility owned or operated by a [RTO] or [ISO].'' \25\
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\23\ See 7 U.S.C. 2(a)(1)(I).
\24\ See 7 U.S.C. 2(a)(1)(I)(i) and (ii).
\25\ 7 U.S.C. 2(a)(1)(I)(i)(II). The savings clause in CEA
section 2(a)(1)(I) provides that:
(I)(i) Nothing in this Act shall limit or affect any statutory
authority of the Federal Energy Regulatory Commission or a State
regulatory authority (as defined in section 3(21) of the Federal
Power Act (16 U.S.C. 796(21)) with respect to an agreement,
contract, or transaction that is entered into pursuant to a tariff
or rate schedule approved by the Federal Energy Regulatory
Commission or a State regulatory authority and is--
(I) Not executed, traded, or cleared on a registered entity or
trading facility; or
(II) Executed, traded, or cleared on a registered entity or
trading facility owned or operated by a regional transmission
organization or independent system operator.
(ii) In addition to the authority of the Federal Energy
Regulatory Commission or a State regulatory authority described in
clause (i), nothing in this subparagraph shall limit or affect--
(I) Any statutory authority of the Commission with respect to an
agreement, contract, or transaction described in clause (i); or
(II) The jurisdiction of the Commission under subparagraph (A)
with respect to an agreement, contract, or transaction that is
executed, traded, or cleared on a registered entity or trading
facility that is not owned or operated by a regional transmission
organization or independent system operator (as defined by sections
3(27) and (28) of the Federal Power Act (16 U.S.C. 796(27),
796(28)).
In addition, Dodd-Frank Act section 722(g) (not codified in the
United States Code) expressly states that FERC's pre-existing
statutory enforcement authority is not limited or affected by
amendments to the CEA. Section 722(g) states:
(g) AUTHORITY OF FERC.--Nothing in the Wall Street Transparency
and Accountability Act of 2010 or the amendments to the Commodity
Exchange Act made by such Act shall limit or affect any statutory
enforcement authority of the Federal Energy Regulatory Commission
pursuant to section 222 of the Federal Power Act and section 4A of
the Natural Gas Act that existed prior to the date of enactment of
the Wall Street Transparency and Accountability Act of 2010.
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While the Dodd-Frank Act sets forth a clear statement of the
Commission's exclusive jurisdiction and authorities as related to FERC
and state regulatory authorities, the Dodd-Frank Act also granted the
Commission specific powers to exempt certain contracts, agreements or
transactions from duties otherwise required by statute or Commission
regulation by adding a new section to the CEA, section 4(c)(6), that
permits the Commission to exempt from its regulatory oversight, among
other things, agreements, contracts, or transactions traded pursuant to
an RTO or ISO tariff that has been approved or permitted to take effect
by FERC or a State regulatory authority, as applicable.\26\ The
Commission's charge, however, is not rote; the Commission must
initially determine whether the exemption would be consistent with the
public interest and the purposes of the CEA.\27\
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\26\ See 7 U.S.C. 6(c)(6).
\27\ See 7 U.S.C. 6(c)(6)(A) and (B).
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The Commission must act ``in accordance with'' section 4(c)(1) and
(2) of the CEA, when issuing an electricity exemption under section
4(c)(6).\28\ Section 4(c)(1) authorizes the Commission, by rule,
regulation, or order, to exempt any agreement, contract or transaction,
or class thereof, from the exchange-trading requirements of section
4(a) or any other requirements of the Act other than section
2(a)(1)(C)(ii) and (D). The Commission may attach terms and conditions
to any exemption it provides.
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\28\ Section 4(c) was added to the CEA by the Futures Trading
Practices Act of 1992, Public Law 102-564. The Commission's
authority under section 4(c) was explained by the Conferees:
In granting exemptive authority to the Commission under new
section 4(c), the Conferees recognize the need to create legal
certainty for a number of existing categories of instruments which
trade today outside of the forum of a designated contract market.
The provision included in the Conference substitute is designed
to give the Commission broad flexibility in addressing these
products
* * * * *
In this respect, the Conferees expect and strongly encourage the
Commission to use its new exemptive power promptly upon enactment of
this legislation in four areas where significant concerns of legal
uncertainty have arisen: (1) Hybrids, (2) swaps, (3) forwards, and
(4) bank deposits and accounts.
The Commission is not required to ascertain whether a particular
transaction would fall within its jurisdiction prior to exercising
its exemptive authority under section 4(c). The Conferees stated
that they did:
not intend that the exercise of exemptive authority by the
Commission would require any determination before hand that the
agreement, instrument, or transaction for which an exemption is
sought is subject to the Act. Rather, this provision provides
flexibility for the Commission to provide legal certainty to novel
instruments where the determination as to jurisdiction is not
straightforward * * *
H.R. Rep. No. 978, 102d Cong. 2d Sess., (1992) at 82-83.
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Section 4(c)(2) of the CEA \29\ provides that the Commission may
not approve an exemption from the execution requirements of the Act, as
noted in section 4(a),\30\ unless the agreement, contract or
transaction will be entered into solely between ``appropriate
persons,'' as that term is defined in section 4(c)(3), which does not
include retail customers (such as small businesses or individuals). In
addition, the Commission must determine that the agreement, contract or
transaction in question will not have a material adverse effect on the
ability of the Commission or any contract market to discharge its
regulatory or self-regulatory duties.\31\
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\29\ Section 4(c)(2), 7 U.S.C. 6(c)(2), states:
The Commission shall not grant any exemption * * * from any of
the requirements of subsection (a) unless the Commission determines
that (A) the requirement should not be applied to the agreement,
contract, or transaction for which the exemption is sought and that
the exemption would be consistent with the public interest and the
purposes of this Act; and (B) the agreement, contract, or
transaction--
(i) Will be entered into solely between appropriate persons; and
(ii) Will not have a material adverse effect on the ability of
the Commission or any contract market to discharge its regulatory or
self-regulatory duties under this Act.
\30\ 7 U.S.C. 6(a).
\31\ See 7 U.S.C. 6(c)(2).
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III. Background--FERC and PUCT
A. Introduction
Each Petitioner is subject to regulation by FERC, with the
exception of ERCOT, which is regulated by PUCT.\32\ Petitioners assert
that the regulatory frameworks administered by FERC or PUCT, as
applicable to each particular RTO or ISO market, would apply to the
transactions for which an exemption has been requested.\33\
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\32\ See Petition at 4.
\33\ See id. at 11.
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B. FERC
In 1920, Congress established the Federal Power Commission
(``FPC'').\34\ The FPC was reorganized into FERC in 1977.\35\ FERC is
an independent agency that regulates the interstate transmission of
electricity, natural gas and oil.\36\ FERC's mission is to ``assist
consumers in obtaining reliable, efficient and sustainable energy
services at a reasonable cost through appropriate regulatory and market
means.'' \37\ This mission is accomplished by pursuing two primary
goals. First, FERC seeks to ensure that rates, terms and conditions for
wholesale transactions and transmission of electricity and natural gas
are just, reasonable and not unduly discriminatory or preferential.\38\
Second, FERC seeks to promote the development of safe, reliable and
efficient energy infrastructure that serves the public interest.\39\
Both Congress and FERC, through a series of legislative acts and
Commission orders, have sought to establish a system whereby wholesale
electricity generation and transmission in the United States is
governed by two guiding principles; regulation with respect to
wholesale electricity
[[Page 52141]]
transmission,\40\ and competition when dealing with wholesale
generation.\41\
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\34\ Federal Power Act, 16 U.S.C. 791a et seq.
\35\ The Department of Energy Organization Act, Public Law 95-
91, section 401, 91 Stat. 565, 582 (1977) (codified as amended at 42
U.S.C. 7171 (1988)).
\36\ See 42 U.S.C. 7172.
\37\ See FERC Strategic Plan for Fiscal Years 2009-2014, 3 (Feb.
2012), http://www.ferc.gov/about/strat-docs/FY-09-14-strat-plan-print.pdf.
\38\ Id.
\39\ Id.
\40\ The term ```wholesale transmission services' means the
transmission of electric energy sold, or to be sold, at wholesale in
interstate commerce.'' See 16 U.S.C. 796 (24)).
\41\ See generally FERC Order 888. See also FERC's discussion of
electric competition, available at http://www.ferc.gov/industries/electric/indus-act/competition.asp (stating that ``[FERC]'s core
responsibility is to `guard the consumer from exploitation by non-
competitive electric power companies.' '').
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In 1996, FERC issued FERC Order 888, which promoted competition in
the generation market by ensuring fair access and market treatment by
transmission customers.\42\ Specifically, FERC Order 888 sought to
``remedy both existing and future undue discrimination in the industry
and realize the significant customer benefits that will come with open
access.'' \43\ FERC Order 888 encouraged the formation of ISOs as a
potentially effective means for accomplishing non-discriminatory open
access to the transmission of electrical power.\44\
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\42\ See FERC Order 888.
\43\ FERC Order 888 at 21541.
\44\ FERC Order 888 at 21594. Under the old system, one party
could own both generation and transmission resources, giving
preferential treatment to its own and affiliated entities. See
generally FERC Order 888.
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In addition, FERC has issued orders that address areas such as
increased RTO and ISO participation by transmission utilities,
increased use of long-term firm transmission rights, increased
investment in transmission infrastructure, reduced transmission
congestion and the use of demand-response.\45\ The end result of this
series of FERC orders is that a regulatory system has been established
that requires ISOs and RTOs to comply with numerous FERC rules designed
to improve both the reliability of the physical operations of electric
transmission systems as well as the competitiveness of electricity
markets. The requirements imposed by the various FERC Orders seek to
ensure that FERC is able to accomplish its two main goals; ensuring
that rates, terms and conditions are just, reasonable and not unduly
discriminatory or preferential, while promoting the development of
safe, reliable and efficient energy infrastructure that serves the
public interest.
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\45\ See, e.g., FERC Order 2000, 65 FR 809 (2000)(encouraging
transmission utilities to join RTOs); FERC Order No. 681, 71 FR
43294 (2006), FERC Stats. & Regs. ] 31,222 (2006), order on reh'g,
Order No. 679-A, 72 FR 1152, Jan. 10, 2007, FERC Stats. & Regs. ]
31,236, order on reh'g, 119 FERC ] 61,062 (2007) (finalizing
guidelines for ISOs to follow in developing proposals to provide
long-term firm transmission rights in organized electricity
markets); FERC Order No. 679, 71 FR 43294 (2006) (finalizing rules
to increase investment in the nation's aging transmission
infrastructure, and to promote electric power reliability and lower
costs for consumers, by reducing transmission congestion); FERC
Order No. 890, 72 FR 12266 (2007)(modifying existing rules to
promote the nondiscriminatory and just operation of transmission
systems); and FERC Order No. 719-A, 74 FR 37776 (2009) (implementing
the use of demand-response (the process of requiring electricity
consumers to reduce their electricity use during times of heightened
demand), encouraging the use of long-term power contracts and
strengthening the role of market monitors).
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C. PUCT
In 1975, the Texas Legislature enacted the Public Utility
Regulatory Act (``PURA'') and created PUCT to provide statewide
regulation of the rates and services of electric and telecommunications
utilities.\46\ PUCT's stated mission is to assure the availability of
safe, reliable, high quality services that meet the needs of all Texans
at just and reasonable rates.\47\ To this end, PUCT regulates electric
and telecommunications utilities while facilitating competition,
operation of the free market, and customer choice.\48\ Subchapter S of
TAC Sec. 25 (``Wholesale Markets'') sets out the rules applicable to
ERCOT, which operates a wholesale electricity market in Texas similar
to the electricity markets run by the other Petitioners. As with the
RTOs and ISOs regulated by FERC, ERCOT is required to have rules that
address the regulatory requirements imposed by PUCT.\49\ These rules
address issues similar to those rules imposed by FERC on RTOs and
ISOs,\50\ including matters such as market design, pricing safeguards,
market monitoring, monitoring for wholesale market power, resource
adequacy and ERCOT emergency response services,\51\ and are aimed at
developing electricity markets that are able to provide reliable, safe
and efficient electric service to the people of Texas, while also
maintaining rates at an affordable level through the operation of fair
competition.\52\
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\46\ Public Utility Regulatory Act, TEX. UTIL. CODE ANN. 11.001
et seq. (Vernon 1998 & Supp. 2005).
\47\ 16 Texas Admin. Code (``TAC'') 25.1 (1998).
\48\ Id.
\49\ See generally 16 TAC 25.501-25.507.
\50\ See generally id.
\51\ See generally id.
\52\ See generally 16 TAC 25.503.
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D. FERC & PUCT Oversight
As discussed above, both FERC and PUCT assert that their primary
goal in regulating their respective electricity markets is to ensure
that consumers are able to purchase electricity on a safe, reliable and
affordable basis.\53\
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\53\ See generally 16 TAC 25.1. See also FERC Strategic Plan for
Fiscal Years 2009-2014, 3 (Feb. 2012), http://www.ferc.gov/about/strat-docs/FY-09-14-strat-plan-print.pdf.
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IV. Scope of the Exemption
A. Transactions Subject to the Exemption
After due consideration, the Commission proposes to exempt certain
Financial Transmission Rights (``FTRs''), Energy Transactions, Forward
Capacity Transactions, and Reserve or Regulation Transactions
(collectively, the ``Transactions''), each as defined below, pursuant
to section 4(c)(6) of the Act.
An FTR is a transaction, however named, that entitles one party to
receive, and obligates another party to pay, an amount based solely on
the difference between the price for electricity, established on an
electricity market administered by a Petitioner, at a specified source
(i.e., where electricity is deemed injected into the grid of a
Petitioner) and a specified sink (i.e., where electricity is deemed
withdrawn from the grid of a Petitioner).\54\ The term ``FTR'' includes
Financial Transmission Rights, and Financial Transmission Rights in the
form of options (i.e., where one party has only the obligation to pay,
and the other party only the right to receive, an amount as described
above). As more fully described below, the Proposed Exemption applies
only to FTRs where each FTR is linked to, and the aggregate volume of
FTRs for any period of time is limited by, the physical capability
(after accounting for counterflow) of the electricity transmission
system operated by the Petitioner offering the contract for such
period: a Petitioner serves as the market administrator for the market
on which the FTR is transacted; each party to the Transaction is a
member of the particular Petitioner (or is the Petitioner itself) and
the Transaction is executed on a market administered by that
Petitioner; and the Transaction does not require any party to make or
take physical delivery of electricity.\55\
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\54\ Petition at 6.
\55\ Each FTR specifies a direction along a path from a
specified source to a specified sink. Counterflow FTRs specify a
path where congestion in the physical market is in the opposite
direction from the prevailing flow. Holders of counterflow FTRs
generally pay congestion revenues to the RTO or ISO. Because
counterflow FTRs are expected to result in payment liability to the
FTR holder, the price of counterflow FTRS are typically negative.
That is, the RTO or ISO pays market participants to acquire them.
However, counterflow FTRs may be profitable (and prevailing flow
FTRs may result in a payment liability) where congestion in the
physical market occurs in direction opposite to that expected. See
generally PJM Interconnection, L.L.C., 122 FERC ] 61,279 (2008); see
also PJM Interconnection, L.L.C, 121 FERC ] 61,089 (2007).
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``Energy Transactions'' are transactions in a ``Day-Ahead Market''
[[Page 52142]]
or ``Real-Time Market,'' as those terms are defined in the Proposed
Exemption, for the purchase or sale of a specified quantity of
electricity at a specified location where the price of electricity is
established at the time the transaction is executed.\56\ Performance
occurs in the Real-Time Market by either the physical delivery or
receipt of the specified electricity or a cash payment or receipt at
the price established in the Real-Time Market; and the aggregate
cleared volume of both physical and cash-settled energy transactions
for any period of time is limited by the physical capability of the
electricity transmission system operated by a Petitioner for that
period of time.\57\ Energy Transactions are also referred to as Virtual
Bids or Convergence Bids.\58\
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\56\ See Petition at 7. See also section VIII. below.
\57\ See id. at 7. See also section VIII. below.
\58\ See id. at 6.
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``Forward Capacity Transactions'' fall into three distinct
categories, Generation Capacity (``GC''), Demand Response (``DR''), and
Energy Efficiency.\59\ GC refers to the right of a Petitioner to
require certain sellers to maintain the interconnection of electric
generation facilities to specific physical locations in the electric
power transmission system during a future time period as specified in
the Petitioner's Tariff.\60\ Furthermore, a GC contract requires a
seller to offer specified amounts of electric energy into the Day-Ahead
or Real-Time Markets for electricity transactions. A GC contract also
requires a seller, subject to the terms and conditions of a
Petitioner's Tariff, to inject electric energy into the electric power
transmission system operated by the Petitioner.\61\ A DR Right gives
Petitioners the right to require that certain sellers of such rights
curtail their consumption of electricity from Petitioner's electricity
transmission system during a future period of time as specified in the
Petitioners' Tariffs.\62\ Energy Efficiency Rights (``EER'') provides
Petitioners with the right to require specific performance of an action
or actions on the part of the other party that will reduce the need for
GC or DR capacity over the duration of a future period of time as
specified in the Petitioner's Tariffs.\63\ Moreover, for a Forward
Capacity Transaction to be eligible for exemption hereunder, the
aggregate cleared volume of all such transactions for any period of
time must be limited to the physical capability of the electric
transmission system operated by the applicable Petitioner for that
period of time.
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\59\ See id. at 7-8.
\60\ See id. at 7.
\61\ See id.
\62\ See id. at 7.
\63\ See id. at 8. Another example of an EER would be requiring
an RTO or ISO member to change equipment in order to improve the
efficiency of the system, and in turn, reduce the amount of
electricity drawn from the system. See also section VIII. below.
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``Reserve Regulation Transactions'' allow a Petitioner to purchase
through auction, for the benefit of load serving entities (``LSEs'')
and resources, the right, during a period of time specified in the
Petitioner's Tariff, to require the seller to operate electric
facilities in a physical state such that the facilities can increase or
decrease the rate of injection or withdrawal of electricity to the
electric power transmission system operated by the Petitioner with
physical performance by the seller's facilities within a response
interval specified in the Petitioner's tariff (Reserve Transaction), or
prompt physical performance by the seller's facilities (Area Control
Error Regulation Transaction).\64\ In consideration for such delivery,
or withholding of delivery, the seller receives compensation of the
type specified in section VIII below.\65\ In all cases, the quantity
and specifications for such Transactions for a Petitioner for any
period of time are limited by the physical capability of the electric
transmission system operated by Petitioners.\66\ These Transactions are
typically used to address unforeseen fluctuations in the level of
electricity demand experienced on the electric transmission system.
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\64\ See id. at 8-9. See also section VIII. below.
\65\ See id. at 8.
\66\ See id. at 8-9.
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B. Conditions
The Proposed Exemption would be subject to certain conditions.
First, all parties to the agreements, contracts or transactions that
are covered by the Proposed Exemption must be either ``appropriate
persons,'' as such term is defined in sections 4(c)(3)(A) through (J)
of the Act, or ``eligible contract participants,'' as such term is
defined in section 1a(18)(A) of the Act and in Commission regulation
1.3(m).\67\
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\67\ That is, the Commission is proposing to use its authority
pursuant to CEA 4(c)(3)(K) to include eligible contract participants
as appropriate persons for the purposes of this Order. See infra n.
80 and accompanying text.
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Second, the agreements, contracts or transactions that are covered
by the Proposed Exemption must be offered or sold pursuant to a
Petitioner's tariff, which has been approved or permitted to take
effect by:
(1) In the case of ERCOT, the PUCT or
(2) In the case of all other Petitioners, FERC.
Third, none of a Petitioner's tariffs or other governing documents
may include any requirement that the Petitioner notify a member prior
to providing information to the Commission in response to a subpoena or
other request for information or documentation.
Finally, information sharing arrangements that are satisfactory to
the Commission between the Commission and FERC and between the
Commission and PUCT must be in full force and effect.\68\
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\68\ As discussed in section VIII.A. below, the Commission and
FERC have already entered into a Memorandum of Understanding, a copy
of which is available at http://www.ferc.gov/legal/maj-ord-reg/mou/mou-33.pdf. In addition, the Commission intends on working with the
PUCT on an MOU that is mutually satisfactory.
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C. Additional Limitations
As discussed above, the Commission proposes to exempt the
Transactions pursuant to section 4(c)(6) of the Act based, in part, on
certain representations made by Petitioners as well as the additional
limitations that are noted below. As represented in the Petition, the
exemption requested by Petitioners relate to Transactions that are
primarily entered into by commercial participants that are in the
business of generating, transmitting and distributing electricity.\69\
In addition, the Commission notes that it appears that Petitioners were
established for the purpose of providing affordable, reliable
electricity to consumers within their geographic region.\70\
Critically, these Transactions are an essential means, designed by FERC
and PUCT as an integral part of their statutory responsibilities, to
enable the reliable delivery of affordable electricity.\71\ The
Commission also notes that each of the Transactions taking place on
Petitioners' markets is monitored by Market Monitoring Units (``MMU'')
responsible to either FERC or, in the case of ERCOT, PUCT.\72\ Finally,
as discussed above, each Transaction is directly tied to the physical
capabilities of Petitioners' electricity grids.\73\ As more fully
described below,\74\ and on the basis of the aforementioned
representations, the Commission finds that the Proposed Exemption would
be in the public interest for the specified Transactions.
[[Page 52143]]
To be clear, however, financial transactions that are not tied to the
allocation of the physical capabilities of an electric transmission
grid would not be suitable for exemption because such activity would
not be inextricably linked to the physical delivery of electricity.
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\69\ See generally Petition at 20.
\70\ See id. at 3-4.
\71\ See generally FERC Order 888; FERC Order 2000; 18 CFR
35.34(k)(2); and TAC 25.1. See also Petition at 11, 13-14.
\72\ Petition at 15-18.
\73\ See id. at 6-9.
\74\ See the discussions in sections V.B., V.D., and V.E. below.
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V. Section 4(c)Analysis
A. Overview of CEA Section 4(c)
1. Sections 4(c)(6)(A) and (B)
The Dodd-Frank Act amended CEA section 4(c) to add sections
4(c)(6)(A) and (B), which provide for exemptions for certain
transactions entered into (a) pursuant to a tariff or rate schedule
approved or permitted to take effect by FERC, or (b) pursuant to a
tariff or rate schedule establishing rates or charges for, or protocols
governing, the sale of electric energy approved or permitted to take
effect by the regulatory authority of the State or municipality having
jurisdiction to regulate rates and charges for the sale of electric
energy within the State or municipality, as eligible for exemption
pursuant to the Commission's 4(c) exemptive authority.\75\ Indeed,
4(c)(6) provides that ``[i]f the Commission determines that the
exemption would be consistent with the public interest and the purposes
of this chapter, the Commission shall'' issue such an exemption.
However, any exemption considered under 4(c)(6)(A) and/or (B) must be
done ``in accordance with [CEA section 4(c)(1) and (2)].'' \76\
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\75\ The exemption language in section 4(c)(6) reads:
(6) If the Commission determines that the exemption would be
consistent with the public interest and the purposes of this Act,
the Commission shall, in accordance with paragraphs (1) and (2),
exempt from the requirements of this Act an agreement, contract, or
transaction that is entered into--
(A) Pursuant to a tariff or rate schedule approved or permitted
to take effect by the Federal Energy Regulatory Commission;
(B) Pursuant to a tariff or rate schedule establishing rates or
charges for, or protocols governing, the sale of electric energy
approved or permitted to take effect by the regulatory authority of
the State or municipality having jurisdiction to regulate rates and
charges for the sale of electric energy within the State or
municipality; or
(C) Between entities described in section 201(f) of the Federal
Power Act (16 U.S.C. 824(f)).
\76\ CEA section 4(c)(6) explicitly directs the Commission to
consider any exemption proposed under 4(c)(6) ``in accordance with
[CEA section 4(c)(1) and (2)].''
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2. Section 4(c)(1)
CEA section 4(c)(1) requires that the Commission act ``by rule,
regulation or order, after notice and opportunity for hearing.'' It
also provides that the Commission may act ``either unconditionally or
on stated terms or conditions or for stated periods and either
retroactively or prospectively or both'' and that the Commission may
provide exemption from any provisions of the CEA except subparagraphs
(C)(ii) and (D) of section 2(a)(1).\77\
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\77\ Section 4(c)(1), 7 U.S.C. 6(c)(1), states:
(c)(1) In order to promote responsible economic or financial
innovation and fair competition, the Commission by rule, regulation,
or order, after notice and opportunity for hearing, may (on its own
initiative or on application of any person, including any board of
trade designated or registered as a contract market or derivatives
transaction execution facility for transactions for future delivery
in any commodity under section 5 of this Act) exempt any agreement,
contract, or transaction (or class thereof) that is otherwise
subject to subsection (a) (including any person or class of persons
offering, entering into, rendering advice or rendering other
services with respect to, the agreement, contract, or transaction),
either unconditionally or on stated terms or conditions or for
stated periods and either retroactively or prospectively, or both,
from any of the requirements of subsection (a), or from any other
provision of this Act (except subparagraphs (C)(ii) and (D) of
section 2(a)(1), except that--
(A) Unless the Commission is expressly authorized by any
provision described in this subparagraph to grant exemptions, with
respect to amendments made by subtitle A of the Wall Street
Transparency and Accountability Act of 2010--
(i) With respect to--
(I) Paragraphs (2), (3), (4), (5), and (7), paragraph
(18)(A)(vii)(III), paragraphs (23), (24), (31), (32), (38), (39),
(41), (42), (46), (47), (48), and (49) of section 1a, and sections
2(a)(13), 2(c)(1)(D), 4a(a), 4a(b), 4d(c), 4d(d), 4r, 4s, 5b(a),
5b(b), 5(d), 5(g), 5(h), 5b(c), 5b(i), 8e, and 21; and
(II) Section 206(e) of the Gramm-Leach-Bliley Act (Pub. L. 106-
102; 15 U.S.C. 78c note); and
(ii) in sections 721(c) and 742 of the Dodd-Frank Wall Street
Reform and Consumer Protection Act; and
(B) The Commission and the Securities and Exchange Commission
may by rule, regulation, or order jointly exclude any agreement,
contract, or transaction from section 2(a)(1)(D)) if the Commissions
determine that the exemption would be consistent with the public
interest.
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3. Section 4(c)(2)
CEA section 4(c)(2) requires the Commission to determine that: To
the extent an exemption provides relief from any of the requirements of
CEA section 4(a), the requirement should not be applied to the
agreement, contract or transaction; the exempted agreement, contract,
or transactions will be entered into solely between appropriate
persons; \78\ and the exemption will not have a material adverse effect
on the ability of the Commission or any contract market to discharge
its regulatory or self-regulatory duties under the CEA.\79\
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\78\ See CEA 4(c)(2)(B)(i) and the discussion of CEA section
4(c)(3) below.
\79\ CEA section 4(c)(2)(A) also requires that the exemption
would be consistent with the public interest and the purposes of the
CEA, but that requirement duplicates the requirement of section
4(c)(6).
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4. Section 4(c)(3)
CEA section 4(c)(3) outlines who may constitute an appropriate
person for the purpose of a 4(c) exemption, including as relevant to
this Notice: (a) Any person that fits in one of ten defined categories
of appropriate persons; or (b) such other persons that the Commission
determines to be appropriate in light of their financial or other
qualifications, or the applicability of appropriate regulatory
protections.\80\
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\80\ Section 4(c)(3), 7 U.S.C. 6(c)(3), provides that: the term
``appropriate person'' shall be limited to the following persons or
classes thereof:
(A) A bank or trust company (acting in an individual or
fiduciary capacity).
(B) A savings association.
(C) An insurance company.
(D) An investment company subject to regulation under the
Investment Company Act of 1940 (15 U.S.C. 80a-1 et seq.).
(E) A commodity pool formed or operated by a person subject to
regulation under this Act.
(F) A corporation, partnership, proprietorship, organization,
trust, or other business entity with a net worth exceeding
$1,000,000 or total assets exceeding $5,000,000, or the obligations
of which under the agreement, contract or transaction are guaranteed
or otherwise supported by a letter of credit or keepwell, support,
or other agreement by any such entity or by an entity referred to in
subparagraph (A), (B), (C), (H), (I), or (K) of this paragraph.
(G) An employee benefit plan with assets exceeding $1,000,000,
or whose investment decisions are made by a bank, trust company,
insurance company, investment adviser registered under the
Investment Advisers Act of 1940 (15 U.S.C. 80a-1 et seq.), or a
commodity trading advisor subject to regulation under this Act.
(H) Any governmental entity (including the United States, any
state, 4-1 or any foreign government) or political subdivision
thereof, or any multinational or supranational entity or any
instrumentality, agency, or department of any of the foregoing.
(I) A broker-dealer subject to regulation under the Securities
Exchange Act of 1934 (15 U.S.C. 78a et seq.) acting on its own
behalf or on behalf of another appropriate person.
(J) A futures commission merchant, floor broker, or floor trader
subject to regulation under this Act acting on its own behalf or on
behalf of another appropriate person.
(K) Such other persons that the Commission determines to be
appropriate in light of their financial or other qualifications, or
the applicability of appropriate regulatory protections.
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B. Proposed CEA Section 4(c) Determinations
In connection with the Proposed Exemption, the Commission has
considered and proposes to determine that: (i) The Proposed Exemption
is consistent with the public interest and the purposes of the CEA;
(ii) CEA section 4(a) should not apply to the transactions or entities
eligible for the Proposed Exemption, (iii) the persons eligible to rely
on the Proposed Exemption are appropriate persons pursuant to CEA
section 4(c)(3); and (iv) the Proposed Exemption will not have a
material adverse effect on the ability of the Commission or any
contract market to discharge its regulatory or self-regulatory duties
under the CEA.
[[Page 52144]]
1. Consistent with the Public Interest and the Purposes of the CEA
As required by CEA section 4(c)(2)(A), as well as section 4(c)(6),
the Commission proposes to determine that the Proposed Exemption is
consistent with the public interest and the purposes of the CEA.
Section 3(a) of the CEA provides that transactions subject to the CEA
affect the national public interest by providing a means for managing
and assuming price risk, discovering prices, or disseminating pricing
information through trading in liquid, fair and financially secure
trading facilities. Section 3(b) of the CEA identifies the purposes of
the CEA:
It is the purpose of this Act to serve the public interests
described in subsection (a) through a system of effective self-
regulation of trading facilities, clearing systems, market
participants and market professionals under the oversight of the
Commission. To foster these public interests, it is further the
purpose of this Act to deter and prevent price manipulation or any
other disruptions to market integrity; to ensure the financial
integrity of all transactions subject to this Act and the avoidance
of systemic risk; to protect all market participants from fraudulent
or other abusive sales practices and misuses of customer assets; and
to promote responsible innovation and fair competition among boards
of trade, other markets and market participants.
The Petitioners assert that the Proposed Exemption would be
consistent with the public interest and purposes of the CEA,\81\
stating generally that: (a) The Transactions have been, and are,
subject to a long-standing, comprehensive regulatory framework for the
offer and sale of the Transactions established by FERC or PUCT; and (b)
the Transactions administered by the RTOs/ISOs or ERCOT are part of,
and inextricably linked to, the organized wholesale electricity markets
that are subject to FERC and PUCT regulation and oversight.\82\ For
example, Petitioners explain that FERC Order No. 2000 (which, along
with FERC Order No. 888, encouraged the formation of RTOs/ISOs to
operate the electronic transmission grid and to create organized
wholesale electric markets) requires an RTO/ISO to demonstrate that it
has four minimum characteristics: (1) Independence from any market
participant; (2) a scope and regional configuration which enables the
ISO/RTO to maintain reliability and effectively perform its required
functions; (3) operational authority for its activities, including
being the security coordinator for the facilities that it controls; and
(4) short-term reliability.\83\ Petitioners highlight that an RTO/ISO
must demonstrate to FERC that it performs certain self-regulatory and/
or market monitoring functions,\84\ and the Petition describes the
analogous requirements applicable to ERCOT under PUCT and the PURA.\85\
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\81\ See Petition at 11.
\82\ See id.
\83\ See id. at 13.
\84\ See id. at 13-14 (explaining that each RTO/ISO must employ
a transmission pricing system that promotes efficient use and
expansion of transmission and generation facilities; develop and
implement procedures to address parallel path flow issues within its
region and with other regions; serve as a provider of last resort of
all ancillary services required by FERC Order No. 888 including
ensuring that its transmission customers have access to a real-time
balancing market; be the single OASIS (Open-Access Same-Time
Information System) site administrator for all transmission
facilities under its control and independently calculate Total
Transmission Capacity and Available Transmission Capability; provide
reliable, efficient and not unduly discriminatory transmission
service, it must provide for objective monitoring of markets it
operates or administers to identify market design flaws, market
power abuses and opportunities for efficiency improvements; be
responsible for planning, and for directing or arranging, necessary
transmission expansions, additions, and upgrades; and ensure the
integration of reliability practices within an interconnection and
market interface practices among regions).
\85\ See id. at 14-15. Pursuant to PURA 39.151(a), ERCOT's roles
and duties are to provide access to the transmission and
distribution systems for all buyers and sellers of electricity on
nondiscriminatory terms; ensure the reliability and adequacy of the
regional electrical network; ensure that information relating to a
customer's choice of retail electric provider is conveyed in a
timely manner to the persons who need that information; and ensure
that electricity production and delivery are accurately accounted
for among the generators and wholesale buyers and sellers in the
region.
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Of single importance, Petitioners are responsible for ``ensur[ing]
the development and operation of market mechanisms to manage
transmission congestion. * * * The market mechanisms must accommodate
broad participation by all market participants, and must provide all
transmission customers with efficient price signals that show the
consequences of their transmission usage decisions.'' \86\
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\86\ See Petition at 14. See also 18 CFR 35.34(k)(2).
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Petitioners also explain that the Transactions are primarily
entered into by commercial participants that are in the business of
generating, transmitting, and distributing electricity,\87\ and that
Petitioners were established for the purpose of providing affordable,
reliable electricity to consumers within their geographic region.\88\
Furthermore, the Transactions that take place on Petitioners' markets
are overseen by a market monitoring function, required by FERC for each
Petitioner, and by PUCT in the case of ERCOT, to identify manipulation
of electricity on Petitioners' markets.\89\
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\87\ See generally Petition at 20.
\88\ See id. at 3-4.
\89\ See id. at 15-18.
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Fundamental to the Commission's ``public interest'' and ``purposes
of the [Act]'' analysis is the fact that the Transactions are
inextricably tied to the Petitioners' physical delivery of electricity,
as represented in the Petition.\90\ An equally important factor is that
the Proposed Exemption is explicitly limited to Transactions taking
place on markets that are monitored by either an independent market
monitor, a market administrator (the RTO/ISO, or ERCOT), or both, and a
government regulator (FERC or PUCT). In contrast, an exemption for
financial transactions that are not so monitored, or not related to the
physical capacity of an electric transmission grid, or not directly
linked to the physical generation and transmission of electricity, or
not limited to appropriate persons,\91\ is unlikely to be in the public
interest or consistent with the purposes of the CEA and would not be
subject to this exemption.
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\90\ See id. at 6-9 (describing the Transactions and noting that
each of them ``is part of, and inextricably linked to, the organized
wholesale electricity markets that are subject to FERC and PUCT
regulation and oversight'').
\91\ See appropriate persons discussion, below, section V.B.3.
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Finally, and as discussed in detail below, the extent to which the
Proposed Exemption is consistent with the public interest and the
purposes of the Act can, in major part, be measured by the extent to
which the tariffs and activities of the Petitioners, and supervision by
FERC and PUCT, are congruent with, and sufficiently accomplish, the
regulatory objectives of the relevant core principles set forth in the
CEA for derivatives clearing organizations (``DCOs'') and swap
execution facilities (``SEFs''). Specifically, providing a means for
managing or assuming price risk and discovering prices, as well as
prevention of price manipulation and other disruptions to market
integrity, are addressed by the core principles for SEFs. Ensuring the
financial integrity of the transactions and the avoidance of systemic
risk, as well as protection from the misuse of participant assets, are
addressed by the core principles for DCOs. Deterrence of price
manipulation (or other disruptions to market integrity) and protection
of market participants from fraudulent sales practices is achieved by
the Commission retaining and exercising its jurisdiction over these
matters. Therefore, the Commission has incorporated its DCO/SEF core
principle analysis, set forth below, into its consideration of the
Proposed
[[Page 52145]]
Exemption's consistency with the public interest and the purposes of
the Act. In the same way, the Commission has considered how the public
interest and the purposes of the CEA are also addressed by the manner
in which Petitioners comply with FERC's Credit Reform Policy.\92\
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\92\ See FERC Credit Reform Policy discussion, below, at section
V.C.
---------------------------------------------------------------------------
Based on this review, the Commission proposes to determine that the
Proposed Exemption is consistent with the public interest and the
purposes of the CEA, and the Commission is specifically requesting
comment on whether the Proposed Exemption is consistent with the public
interest and the purposes of the Act.
2. CEA Section 4(a) Should Not Apply to the Transactions or Entities
Eligible for the Proposed Exemption
CEA section 4(c)(2)(A) requires, in part, that the Commission
determine that the Transactions covered under the Proposed Exemption
should not be subject to CEA section 4(a)--generally, the Commission's
exchange trading requirement for a contract for the purchase or sale of
a commodity for future delivery. Based in major part on the
Petitioners' representations, the Commission has examined the
Transactions, the Petitioners, and their markets in the context of the
CEA core principle requirements applicable to a DCO and to a SEF.\93\
As further support for this determination, the Commission is also
relying on the public interest and the purposes of the Act analysis in
subsection 3 below. In so doing, the Commission can determine that, due
to the FERC or PUCT regulatory scheme and the RTO/ISO or ERCOT market
structure already applicable to the Transactions, the linkage between
the Transactions and those regulatory schemes, and the unique nature of
the market participants that would be eligible to rely on the Proposed
Exemption,\94\ CEA section 4(a) should not apply to the Transactions
under the Proposed Exemption.
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\93\ See DCO core principle analysis below, at section V.D.; see
also SEF core principle analysis below, at section V.E.
\94\ See appropriate persons analysis, below, at section V.B.3.
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The Commission is requesting comment on whether its Proposed
Exemption of the Transactions from CEA section 4(a) is appropriate.
3. Appropriate Persons
CEA section 4a(c)(2)(B)(i) requires that the Commission determine
that the Proposed Exemption is properly limited to transactions entered
into between appropriate persons as described in CEA section 4(c)(3).
The Petitioners assert that each Petitioner's market participants fit
within the ``appropriate person'' requirement under CEA section
4(c)(3), relying primarily on two categories of appropriate persons.
The first category includes those entities that have a net worth
exceeding $1,000,000 or total assets exceeding $5,000,000, as
identified in CEA section 4(c)(3)(F).\95\ The second group of
appropriate persons would fall within a grouping under CEA section
4(c)(3)(K), which includes persons deemed appropriate by the Commission
``in light of their financial or other qualifications, or the
applicability of appropriate regulatory protection.'' \96\
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\95\ CEA section 4(c)(3)(F) provides that the following entities
are ``appropriate persons'' that the Commission may exempt under CEA
section 4(a). The relevant text of 4(c)(3)(F) provides: ``A
corporation, partnership, proprietorship, organization, trust, or
other business entity with a net worth exceeding $1,000,000 or total
assets exceeding $5,000,000, or the obligations of which under the
agreement, contract or transaction are guaranteed or otherwise
supported by a letter of credit or keepwell, support, or other
agreement by any such entity or by an entity referred to in
subparagraph (A), (B), (C), (H), (I), or (K) of this paragraph.''
\96\ CEA 4(c)(3)(K).
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The Petitioners explain that FERC has instructed all RTOs and ISOs
subject to FERC supervision \97\ to create minimum standards for market
participants. The Petitioners state that:
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\97\ According to the Petition, ERCOT is reviewing its
``participants eligibility standards to ensure that they are
consistent with the requirements of [CEA] Section 4(c).'' Petition
at 27. See also Attachment C to Petition, beginning at Attachments
at 27 (``Through its stakeholder process, ERCOT is in the process of
developing new eligibility requirements that are comparable to those
required by FERC Order No. 741.'').
In Order No. 741, FERC directed each of the ISOs/RTOs to
establish minimum criteria for market participants. FERC did not
specify the criteria the ISOs/RTOs should apply, but rather directed
them to establish criteria through their stakeholder processes.
Accordingly, each of the FERC jurisdictional ISOs/RTOs submitted to
FERC proposals to establish minimum criteria for participation in
their markets. Although ERCOT is not subject to the requirements
FERC's Credit Reform Orders, ERCOT is reviewing its participant
eligibility standards to ensure that they are consistent with the
requirements of Section 4(c). These proposals were accepted by FERC
subject to a supplemental compliance filing to provide for
verification of risk management policies and procedures.
Although there is some variation among the minimum participation
criteria adopted by each ISO/RTO, included in each is a baseline
capitalization requirement that participants have net worth of at
least $1 million or total assets of at least $10 million.\98\
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\98\ Petition at 26-27 (citations omitted).
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However, the Petitioners acknowledge that there are exceptions to this
``baseline capitalization requirement,'' that is, market participants
who do not meet the minimum net worth or total assets criteria under
the CEA who pursuant to Petitioners' Tariffs must post financial
security because they are under-capitalized. Nonetheless, as the
Petitioners explain, there is an exception to the posting requirement
for market participants with small positions. The Petitioners provide
the following explanation for the exception:
The criteria of some ISOs/RTOs also reduce the financial
security posting requirement for certain entities that maintain only
small positions on the markets of the ISO/RTO and therefore expose
the ISOs/RTOs to minimal risk. These entities are instead required
to post additional financial security with the ISO/RTO in an amount
that would depend on the size of their positions. In this regard, a
notable number of participants in the markets of some ISOs/RTOs
include cooperatives, municipalities or other forms of public
corporate entities which are authorized to own, lease and operate
electric generation, transmission or distribution facilities. [\99\]
Such entities' participation in the ISO/RTO may be necessary to make
electricity available within the entire grid for a region.
Nevertheless, they are ``appropriate persons'' because of their
active participation in the generation, transmission or distribution
of electricity and the knowledge of the wholesale energy market that
they have as a consequence of their participation in the physical
markets. Moreover, the municipal entities are entitled to recover
their costs for native load service through governmentally
established retail rates and, accordingly, are able to provide a
form of financial security (i.e., the ability to request a retail
rate increase to cover increased costs) that is unavailable to other
participants in the energy markets. As such, the risk of default by
such entities is materially lower than it is for other Market
Participants.\100\
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\99\ The Commission notes here that CEA 4(c)(3)(H) includes as
eligible appropriate persons ``Any governmental entity (including
the United States, any state, or any foreign government) or
political subdivision thereof, or any multinational or supranational
entity or any instrumentality, agency, or department of any of the
foregoing.'' This appropriate persons category would cover the
municipalities and other government owned market participants.
\100\ Petition at 27 (citations omitted).
The Commission is proposing to limit the Proposed Exemption to
entities that meet one of the appropriate persons categories in CEA
section 4(c)(3)(A) through (J), or, pursuant to CEA section 4(c)(3)(K),
that otherwise qualify as an eligible contract participant (``ECP''),
as that term has been defined.\101\ In this
[[Page 52146]]
connection, the Commission notes that the municipal entities discussed
above appear to qualify as ``appropriate persons'' pursuant to CEA
section 4(c)(3)(H).\102\
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\101\ See CEA 1(a)(12). See also ``Further Definition of `Swap
Dealer,' `Security-Based Swap Dealer,' `Major Swap Participant,'
`Major Security-Based Swap Participant' and `Eligible Contract
Participant,' '' 77 FR 30596, May 23, 2012.
\102\ See 7 U.S.C. 6(c)(3)(H) (``Any governmental entity * * *
including * * * any state * * * or political subdivision thereof * *
* or any instrumentality, agency or department of any of the
foregoing.'')
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Based on representations contained in the Petition, the Commission
can determine the Proposed Exemption is limited to appropriate persons
for those market participants meeting the categories described defined
in CEA section 4(c)(3)(A) through (J). The CFTC is requesting comment
as to whether the entities defined in CEA section 4(c)(3)(A) through
(J) are appropriate persons for the purpose of the Proposed Exemption.
For those ECPs engaging in Transactions in markets administered by
the Petitioner that do not fit within 4(c)(3)(A) through (J), the
Commission is proposing to determine that they are appropriate persons
pursuant to section 4c(3)(K), ``in light of their financial or other
qualifications, or the applicability of appropriate regulatory
protections'' to the extent that such persons are otherwise ECPs. The
Commission can base this determination on the financial security
posting schemes, described by the Petitioners, applicable to the
entities engaging in the Transactions, as well as the market based
protections applicable to the Transactions regardless of participant,
as described in the Commission's public interest and purposes of the
Act analysis, above. In addition, CEA section 2(e) permits all ECPs to
engage in swaps transactions other than on a designated contract market
(``DCM''), and so such entities should similarly be appropriate persons
for the purpose of the Proposed Exemption. The Commission is requesting
comment on whether the market participants entering into the
Transactions in markets administered by the Petitioners, particularly
those that do not fit within 4(c)(3)(A) through (J), but that are ECPs,
may nonetheless be appropriate persons pursuant to CEA section
4(c)(3)(K), in light of the financial posting scheme that applies to
such participants, and in light of the regulatory and market oversight
programs that apply to the Transactions in the Petitioners' markets.
The Commission also requests comment as to whether there are
currently entities engaging in the Transactions that are neither
entities that fall within CEA section 4(c)(3)(A) through (J) entities
nor ECPs. If there are such entities, on what basis may the Commission
similarly conclude that such entities are, pursuant to CEA section
4(c)(3)(K), appropriate persons for the purpose of the Proposed
Exemption? In particular, the Commission seeks comment as to whether
there any other of the Petitioners' market participants that
``active[ly] participat[e] in the generation, transmission or
distribution of electricity'' that are not ECPs and do not fall within
CEA section 4(c)(3)(A) through (J), who should nonetheless be included
as appropriate persons pursuant to CEA section 4(c)(3)(K).
4. Will Not Have a Material Adverse Effect on the Ability of the
Commission or Any Contract Market To Discharge Its Regulatory or Self-
Regulatory Duties Under the CEA
CEA section 4(c)(2)(B)(ii) requires the Commission to determine
that the Transactions subject to the Proposed Exemption will not have a
material adverse effect on the ability of the Commission or any
contract markets to perform regulatory or self-regulatory duties.\103\
In making this determination, Congress indicated that the Commission is
to consider such regulatory concerns as ``market surveillance,
financial integrity of participants, protection of customers and trade
practice enforcement.'' \104\ These considerations are similar to the
purposes of the Act as defined in CEA section 3, initially addressed in
the public interest discussion, above.
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\103\ CEA 4(c)(2)(B).
\104\ See H.R. No. 978, 102d Cong. 2d Sess. 79 (1992).
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Petitioners contend that the Proposed Exemption will not have a
material adverse effect on the Commission's or any contract market's
ability to discharge its regulatory function,\105\ asserting that:
---------------------------------------------------------------------------
\105\ See Petition at 28.
Under Section 4(d) of the Act, the Commission will retain
authority to conduct investigations to determine whether
[Petitioners] are in compliance with any exemption granted in
response to this request. * * * [T]he requested exemptions would
also preserve the Commission's existing enforcement jurisdiction
over fraud and manipulation. This is consistent with section 722 of
the Dodd-Frank Act, the existing MOU between the FERC and the
Commission and other protocols for inter-agency cooperation. The
[Petitioners] will continue to retain records related to the
Transactions, consistent with existing obligations under FERC and
PUCT regulations.
The regulation of exchange-traded futures contracts and
significant price discovery contracts (``SPDCs'') will be unaffected
by the requested exemptions. Futures contracts based on electricity
prices set in the Petitioners' markets that are traded on a
designated contract market and SPDCs will continue to be regulated
by and subject to the requirements of the Commission. No current
requirement or practice of the ISOs/RTOs or of a contract market
will be affected by the Commission's granting the requested
exemptions.\106\
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\106\ See id. at 28.
These factors appear to support the Proposed Exemption. In
addition, the limitation of the exemption to Transactions between
certain ``appropriate persons'' as discussed above, avoids potential
issues regarding financial integrity and customer protection. That is,
this approach would appear to ensure that Transactions subject to this
Proposed Exemption would be limited to sophisticated entities that are
able to, from a financial standpoint, understand and manage risks
associated with such Transactions.
Moreover, the Proposed Exemption does not exempt Petitioners from
CEA sections 2(a)(1)(B), 4b, 4c(b), 4o, 4s(h)(1)(A), 4s(h)(4)(A), 6(c),
6(d), 6(e), 6c, 6d, 8, 9, and 13, to the extent that those sections
prohibit fraud or manipulation of the price of any swap, contract for
the sale of a commodity in interstate commerce, or for future delivery
on or subject to the rules of any contract market. Therefore, the
Commission retains authority to pursue fraudulent or manipulative
conduct.\107\
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\107\ Nor did the Petitioners seek an exemption from these
provisions. See id. at 2-3.
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In addition, it appears that granting the exemption for the
Transactions will not have a material adverse effect on the ability of
any contract market to discharge its self-regulatory duties under the
Act. With respect to FTRs, Forward Capacity Transactions, and Reserve
or Regulation Transactions, these transactions do not appear to be used
for price discovery or as settlement prices for other transactions in
Commission regulated markets. Therefore, the Proposed Exemption should
not have a material adverse effect on any contract market carrying out
its self-regulatory function.
With respect to Energy Transactions, these transactions do have a
relationship to Commission regulated markets because they can serve as
a source of settlement prices for other transactions within Commission
jurisdiction. Granting the Proposed Exemption, however, should not pose
regulatory burdens on a contract market because, as discussed in more
detail below, Petitioners have market monitoring systems in place to
detect
[[Page 52147]]
and deter manipulation that takes place on their markets. Also, as a
condition of the Proposed Exemption, the Commission would be able to
obtain data from FERC and PUCT with respect to activity on Petitioners'
markets that may impact trading on Commission regulated markets.
Finally, the Commission notes that if the Transactions ever could
be used in combination with trading activity or a position in a DCM
contract to work some market abuse, both the Commission and DCMs have
sufficient independent authority over DCM market participants to
monitor for such activity.\108\ Typically, cross-market abuse schemes
will involve a reportable position in the DCM contract involved. In
which case, Commission Regulation 18.05 requires the reportable trader
to keep books and records evidencing all details concerning cash and
over-the-counter positions and transactions in the underlying commodity
and to provide such data to the Commission upon demand. Likewise,
recently-adopted Commission regulation 38.254(a) requires that DCMs
have rules that require traders to keep records of their trading,
including records of their activity in the underlying commodity and
related derivatives markets, and make such records available, upon
request, to the DCM.\109\
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\108\ The Commission notes that its authority to prosecute
market abuses involving Transactions would not be limited to
instances where Transactions were part of some cross-market scheme
involving DCM trading activity.
\109\ Final Rulemaking--Core Principles and Other Requirements
for Designated Contract Markets, 72 FR 36612 (June 19, 2012).
---------------------------------------------------------------------------
The CFTC is requesting comment as to whether the Proposed Exemption
will have a material adverse effect on the ability of the Commission or
any contract market to discharge its regulatory or self-regulatory
duties under the Act, and, if so, what conditions can or should be
imposed on the Order to mitigate such effects.
C. FERC Credit Reform Policy
On October 21, 2010, FERC amended its regulations to encourage
clear and consistent risk and credit practices in the organized
wholesale electric markets to, inter alia, ``ensure that all rates
charged for the transmission or sale of electric energy in interstate
commerce are just, reasonable, and not unduly discriminatory or
preferential.'' \110\
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\110\ 75 FR 65942, 65942, Oct. 21, 2010 (the ``FERC Original
Order 741''). These requirements were later slightly amended and
clarified in an order on rehearing. See 76 FR 10492, Feb. 25, 2011
(``FERC Revised Order 741'', and together with Original Order 741,
``FERC Order 741'').
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In effect, Order 741 requires those RTOs and ISOs that are subject
to FERC supervision to implement the following reforms: ``shortened
settlement timeframes, restrictions on the use of unsecured credit,
elimination of unsecured credit in all [FTRs] or equivalent markets,
adoption of steps to address the risk that RTOs and ISOs may not be
allowed to use netting and set-offs, establishment of minimum criteria
for market participation, clarification regarding the organized
markets' administrators' ability to invoke `material adverse change'
clauses to demand additional collateral from participants, and adoption
of a two-day grace period for `curing' collateral calls.'' \111\ Unlike
the other Petitioners, ERCOT is regulated by the PUCT, not FERC. As a
result, ERCOT is not subject to the particular stringent credit and
risk management standards set forth in Order 741. As discussed below
regarding conditions precedent starting on page 103 infra, the
Commission is proposing to require compliance with the standards of
Order 741 by all Petitioners, including ERCOT, as a condition to
issuing the Proposed Exemption.
---------------------------------------------------------------------------
\111\ FERC Revised Order 741 at 10492-10493.
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As discussed in more detail below, particularly in section V.C.,
the requirements set forth in Order 741 appear to achieve goals similar
to the regulatory objectives of the Commission's DCO Core Principles.
FERC regulation 35.47(c) calls for the elimination of unsecured
credit in the financial transmission rights markets and equivalent
markets.\112\ This requirement appears to be congruent with Core
Principle D's requirement that each DCO limit its exposure to potential
losses from defaults by clearing members. Because, according to FERC,
risks arising out of the FTR markets are ``difficult to quantify,''
\113\ eliminating the use of unsecured credit in these markets may help
avoid the unforeseen and substantial costs for an RTO or ISO in the
event of a default.\114\ Thus, the requirement set forth in regulation
35.47(c) appears to advance the objectives of Core Principle D by
reducing risk and minimizing the effect of defaults through the
elimination of unsecured credit in the FTR and equivalent markets.
---------------------------------------------------------------------------
\112\ 18 CFR 35.47(c).
\113\ Specifically, FERC stated that ``the risk associated with
the potentially rapidly changing value of FTRs warrants adoption of
risk management measures, including the elimination of unsecured
credit. Because financial transmission rights have a longer-dated
obligation to perform which can run from a month to a year or more,
they have unique risks that distinguish them from other wholesale
electric markets, and the value of a financial transmission right
depends on unforeseeable events, including unplanned outages and
unanticipated weather conditions. Moreover, financial transmission
rights are relatively illiquid, adding to the inherent risk in their
valuation.'' FERC Original Order 741 at 65950.
\114\ Id. at 65949.
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In addition, FERC regulation 35.47(a) requires RTOs and ISOs to
have tariff provisions that ``[l]imit the amount of unsecured credit
extended by [an RTO or ISO] to no more than $50 million for each market
participant.'' \115\ This requirement appears to be congruent with one
of the regulatory objectives of Core Principle D, as implemented by
Commission Regulation 39.13, specifically the requirement that each DCO
limit its exposure to potential losses from defaults by clearing
members. In capping the use of unsecured credit at $50 million, FERC
stated its belief that RTOs and ISOs ``could withstand a default of
this magnitude by a single market participant,'' \116\ thereby limiting
an RTO's or ISO's exposure to potential losses from defaults by its
market participants. Thus, it seems both Core Principle D and FERC
regulation 35.47(a) help protect the markets and their participants
from unacceptable disruptions, albeit in different ways and to a
different extent.
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\115\ In addition, FERC regulation 35.47(a) states that ``where
a corporate family includes more than one market participant
participating in the same [RTO or ISO], the limit on the amount of
unsecured credit extended by that [RTO or ISO] shall be no more than
$50 million for the corporate family.'' 18 CFR 35.47(a).
\116\ FERC Original Order 741 at 65948.
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FERC regulation 35.47(b) mandates that RTOs and ISOs have billing
periods and settlement periods of no more than seven days.\117\ While
this mandate does not meet the standards applicable to registered
DCOs,\118\ it supports Core Principle D's requirement that each DCO
have appropriate tools and procedures to manage the risks associated
with discharging its responsibilities. In promulgating FERC regulation
35.47(b), FERC found a shorter cycle necessary to promote market
liquidity and a necessary change ``to reduce default risk, the costs of
which would be socialized across market participants and, in certain
events, of market disruptions that could undermine overall market
function.'' \119\ Recognizing the correlation between a reduction in
the length of the ``settlement cycle'' and a reduction in costs
attributed to a default, FERC stated that shorter cycles reduce the
amount of unpaid debt left outstanding, which, in
[[Page 52148]]
turn, reduces ``the size of any default and therefore reduces the
likelihood of the default leading to a disruption in the market such as
cascading defaults and dramatically reduced market liquidity.'' \120\
Thus, FERC regulation 35.47(b) appears to aid RTOs and ISOs in managing
the risks associated with their responsibilities, which also appears to
support Core Principle D's goals.
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\117\ 18 CFR 35.47(b).
\118\ See 17 CFR 39.14(b) (requiring daily settlements).
\119\ FERC Original Order 741 at 65946.
\120\ Id.
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FERC regulation 35.47(d) requires RTOs and ISOs to ensure the
enforceability of their netting arrangements in the event of the
insolvency of a member by doing one of the following: (1) Establish a
single counterparty to all market participant transactions, (2) require
each market participant to grant a security interest in the receivables
of its transactions to the relevant RTO or ISO, or (3) provide another
method of supporting netting that provides a similar level of
protection to the market that is approved by FERC.\121\ In the
alternative, the RTOs and ISOs would be prohibited from netting market
participants' transactions, and required to establish credit based on
each market participant's gross obligations. Congruent to the
regulatory objectives of Core Principles D and G, FERC regulation
35.47(d) attempts to ensure that, in the event of a bankruptcy of a
participant, ISOs/RTOs are not prohibited from offsetting accounts
receivable against accounts payable. In effect, this requirement
attempts to clarify an ISO's or RTO's legal status to take title to
transactions in an effort to establish mutuality in the transactions as
legal support for set-off in bankruptcy.\122\ This clarification, in
turn, would appear to limit an RTO's or ISO's exposure to potential
losses from defaults by market participants.
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\121\ 18 CFR 35.47(d).
\122\ See 11 U.S.C. 553; see generally In re SemCrude, L.P., 399
B.R. 388 (Bankr. D. Del. 2009), aff'd, 428 B.R. 590 (D. Del. 2010).
---------------------------------------------------------------------------
FERC regulation 35.47(e) limits the time period within which a
market participant must cure a collateral call to no more than two
days.\123\ This requirement appears to be congruent with Core Principle
D's requirement that each DCO limit its exposure to potential losses
from defaults by clearing members. In Original Order 741, FERC stated
that a two day time period for curing collateral calls balances (1) the
need for granting market participants sufficient time to make funding
arrangements for collateral calls with (2) the need to minimize
uncertainty as to a participant's ability to participate in the market,
as well as the risk and costs of a default by a participant. By
requiring each ISO and RTO to include this two day cure period in the
credit provisions of its tariff language, FERC regulation 35.47(e)
appears to both promote the active management of risks associated with
the discharge of an RTO's or ISO's responsibilities, while at the same
time limiting the potential losses from defaults by market
participants.
---------------------------------------------------------------------------
\123\ 18 CFR 35.47(e).
---------------------------------------------------------------------------
FERC regulation 35.47(f) imposes minimum market participant
eligibility requirements that apply consistently to all market
participants and, as set forth in the preamble to Original Order 741,
requires RTOs and ISOs to engage in periodic verification of market
participant risk management policies and procedures.\124\ The
Commission believes that the requirements set forth in FERC regulation
35.47(f) appear congruent with some of the regulatory objectives of DCO
Core Principle C, as implemented by Commission regulation 39.12. In
general, DCO Core Principle C requires each DCO to establish
appropriate admission and continuing eligibility standards for members
of, and participants in, a DCO that are objective, publicly disclosed,
and permit fair and open access.\125\ In addition, Core Principle C
also requires that each DCO establish and implement procedures to
verify compliance with each participation and membership requirement,
on an ongoing basis.\126\ Similarly, while FERC regulation 35.47(f)
does not prescribe the particular participation standards that must be
implemented, as suggested in the preamble to Original Order 741, these
standards should address ``adequate capitalization, the ability to
respond to ISO/RTO direction and expertise in risk management'' \127\
and ensure that proposed tariff language ``is just and reasonable and
not unduly discriminatory.'' \128\ Moreover, FERC specifically stated
that these participation standards ``could include the capability to
engage in risk management or hedging or to out-source this capability
with periodic compliance verification, to make sure that each market
participant has adequate risk management capabilities and adequate
capital to engage in trading with minimal risk, and related costs, to
the market as a whole.'' \129\ Thus, both DCO Core Principle C and
Order 741 appear to promote fair and open access for market
participants as well as impose compliance verification requirements.
---------------------------------------------------------------------------
\124\ 18 CFR 35.47(f).
\125\ 7 U.S.C. 7a-1(c)(2)(C).
\126\ Id.
\127\ FERC Original Order 741 at 65956.
\128\ Id.
\129\ Id.
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FERC regulation 35.47(g) requires ISOs and RTOs to specify in their
tariffs the conditions under which they will request additional
collateral due to a material adverse change.\130\ FERC, however, noted
that the examples set forth in each ISO's or RTO's tariffs are not
exhaustive and that ISOs and RTOs are permitted to use ``their
discretion to request additional collateral in response to unusual or
unforeseen circumstances.'' \131\ The Commission believes that the
requirements set forth in FERC regulation 35.47(g) appear congruent
with the following DCO Core Principle D requirements: (1) That DCOs
have appropriate tools and procedures to manage the risks associated
with discharging its responsibilities, and (2) that DCOs limit their
exposure to potential losses from defaults by clearing members.\132\ By
requiring ISOs and RTOs to actively consider the circumstances that
could give rise to a material adverse change, FERC appears to be
encouraging RTOs and ISO to actively manage their risks to ``avoid any
confusion, particularly during times of market duress, as to when such
a clause may be invoked.'' \133\ Moreover, such clarification could
prevent a market participant's ability to ``exploit ambiguity as to
when a market administrator may invoke a `material adverse change,' or
a market administrator may be uncertain as to when it may invoke a
`material adverse change,' '' \134\ thereby avoiding potentially
harmful delays or disruptions that could subject the RTOs and ISOs to
unnecessary damage.
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\130\ 18 CFR 35.47(g).
\131\ FERC Original Order 741 at 65957.
\132\ 7 U.S.C. 7a 1(c)(2)(D).
\133\ FERC Original Order 741 at 65958.
\134\ Id.
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As such, on the basis of the representations contained in the
Petition, including the fact that, as discussed in further detail
below, \135\ the Commission is considering whether to require each
Petitioner, including ERCOT, to comply with, and fully implement, the
requirements set forth in Order 741 as a prerequisite to the granting
of a limited 4(c)(6) exemption for the Transactions. The Commission
seeks comment with respect to this preliminary conclusion.
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\135\ See infra text at n. 398.
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[[Page 52149]]
D. DCO Core Principle Analysis
1. DCO Core Principle A: Compliance With Core Principles
Core Principle A requires a DCO to comply with each core principle
set forth in section 5b(c)(2) of the CEA, as well as any requirement
that the Commission may impose by rule or regulation pursuant to
section 8a(5) of the Act for a DCO to be registered and maintain its
registration.\136\ In addition, Core Principle A states that a DCO
shall have reasonable discretion in establishing the manner by which it
complies with each core principle subject to any rule or regulation
prescribed by the Commission.\137\
---------------------------------------------------------------------------
\136\ 7 U.S.C. 7a-1(c)(2)(A)(i).
\137\ 7 U.S.C. 7a-1(c)(2)(A)(ii).
---------------------------------------------------------------------------
Petitioners represent that, although they are principally regulated
by FERC and PUCT and that there are differences between Petitioners and
registered DCOs, Petitioners' practices are consistent with the core
principles for DCOs.\138\ Petitioners represent that, though their
methods are different than those employed by a registered DCO, their
practices achieve the goals of, and are consistent with, the policies
of the Act.\139\ Based upon Petitioners' representations and the core
principle discussions below, and in the context of the Petitioners'
activities with respect to the Transactions within the scope of this
Proposed Exemption, Petitioners' practices appear congruent with, and
to accomplish sufficiently, the regulatory objectives of each DCO core
principle. The Commission seeks comment with respect to this
preliminary conclusion.
---------------------------------------------------------------------------
\138\ Petition Attachments at 1.
\139\ Id.
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2. DCO Core Principle B: Financial and Operational Resources
Core Principle B requires a DCO to have adequate financial,
operational, and managerial resources to discharge each of its
responsibilities.\140\ In addition, a DCO must have financial resources
that, at a minimum, exceed the total amount that would: (i) Enable the
DCO to meet its financial obligations to its clearing members
notwithstanding a default by the clearing member creating the largest
financial exposure for the DCO in extreme but plausible market
conditions; and (ii) enable the DCO to cover its operating costs for a
period of 1 year, as calculated on a rolling basis.\141\
---------------------------------------------------------------------------
\140\ 7 U.S.C. 7a-1(c)(2)(B)(i).
\141\ 7 U.S.C. 7a-1(c)(2)(B)(ii).
---------------------------------------------------------------------------
a. Financial Resources
Petitioners represent that they maintain sufficient financial
resources to meet their financial obligations to their members
notwithstanding a default by the member creating the largest financial
exposure for that organization in extreme but plausible market
conditions.\142\ As an initial matter, Petitioners apply the defaulting
market participant's collateral to the outstanding obligation.\143\
Further, if the collateral is inadequate to cover the obligation,
Petitioners' tariffs permit them to charge the loss to non-defaulting
market participants.\144\ For some Petitioners, other resources are
available. For example, one Petitioner represents that it has the
ability to draw upon its working capital fund and/or its revolving
credit facility to ensure that market participants are paid in
full.\145\ Another Petitioner states that defaults are socialized after
realizing any collateral specific to the defaulting participant, claims
paid by third-party default insurance, funds from accrued collected
penalties for Late Payment Accounts, and, for liquidity purposes,
third-party financing.\146\
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\142\ See Petition Attachments at 3-20.
\143\ See, e.g., id. at. 4, 8-9, 10, 15, 20.
\144\ See id. at 4, 8, 10, 13, 15, 20.
\145\ See id. at 15. The Commission notes Regulation 39.11(b)
includes the following as financial resources eligible to satisfy a
DCO's requirement to have sufficient financial resources to cover a
default by the member creating the largest financial exposure: (a)
Margin, (b) the DCO's own capital, (c) guaranty fund deposits, (d)
default insurance, (e) potential assessments for additional guaranty
fund contributions, if permitted by the DCO's rules, and (f) any
other financial resource deemed acceptable by the Commission. See 17
CFR 39.11(b)(1). The Commission notes that the revolving credit
facility cited by NYISO would not satisfy the financial resource
requirement, but would be considered in determining liquidity. See
17 CFR 39.11(e)(1)(iii).
\146\ See Petition Attachments at 10-11.
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In the event that a default occurs and there is inadequate
collateral for a particular participant, the Petitioners' represent
that the deficiencies would be addressed by mutualization among the
non-defaulting participants to whom the Petitioner would otherwise be
obligated, allocated pursuant to a pre-determined formula that is
included in each Petitioner's tariff.\147\ This process is often
referred to as ``short-paying.'' \148\ Once the amount of the default
is deemed to be uncollectible [by the Petitioner], the short-pay would,
in some cases, be ``uplifted'' or ``socialized'' across the market,
with the losses reallocated among all non-defaulting participants.\149\
---------------------------------------------------------------------------
\147\ See, e.g., id. at 9, 13.
\148\ See, e.g., id. at 15.
\149\ See, e.g., id. at 9, 13.
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On the basis of these representations, the Commission believes that
each Petitioner's financial resource requirements appear to be
congruent with, and to accomplish sufficiently, the regulatory
objectives of DCO Core Principle B in the context of Petitioners'
activities with respect to the Transactions. The Commission seeks
comment with respect to this preliminary conclusion.
b. Operational Resources
Each Petitioner represents that it has sufficient operational
resources to cover its operating costs through a charge allocated to
its participants and set forth in its Tariffs, which are approved by
FERC and PUCT, as applicable.\150\ Petitioners represent that the
charge is based on expected costs for the following year.\151\ Under
the regulatory structure in the wholesale electric industry, market
participants are obligated to pay the fees required by the
Petitioners,\152\ and are thus, in a sense, a ``captive audience.''
Moreover, since market participant defaults are mutualized amongst the
non-defaulting participants,\153\ Petitioners represent that such
defaults would not impair their ability to cover their operating costs,
because the Petitioners would continue to collect sufficient funds from
all other market participants to pay such operating expenses.\154\
Therefore, these policies and procedures appear to be consistent with,
and to accomplish sufficiently, the regulatory objectives of DCO Core
Principle B in the context of the Transactions. The Commission seeks
comment with respect to this preliminary conclusion.
---------------------------------------------------------------------------
\150\ See id. at 3-20. Some Petitioners state that the charge is
allocated to their market participants based on the level of their
usage of the Petitioner's services or on the volume of their market
transactions. See, e.g., id. at 4, 13, and 20.
\151\ See, e.g., id. at 4, 10, 16.
\152\ See, e.g., id. at 16, 20.
\153\ See id. at 4-20.
\154\ See id. at 16.
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c. Managerial Resources
Each of the Petitioners represents that it has adequate managerial
resources to discharge its responsibilities as an organized wholesale
electricity market.\155\ The Commission notes that FERC Order No. 888
sets forth the principles used by FERC to assess ISO proposals and
requires that ISOs have appropriate incentives for efficient management
and administration.\156\ This requirement provides that ISOs should
procure the services needed for such management and administration in
an open competitive market, similar to how Core Principle B requires a
DCO to possess managerial resources necessary
[[Page 52150]]
to discharge each responsibility of the DCO. Similarly, with respect to
ERCOT, PUCT's Substantive Rules require that ERCOT's Enterprise Risk
Management Group has adequate resources to perform its functions, which
includes assessing market participant creditworthiness.\157\
---------------------------------------------------------------------------
\155\ See id. at 3-20.
\156\ See generally FERC Order 888 at 21540.
\157\ P.U.C. SUBST. R. 25.361(b). See also Petition Attachments
at 7-8.
---------------------------------------------------------------------------
In addition, FERC Order No. 2000 requires that RTOs have an open
architecture so that the RTO and its members have the flexibility to
improve their organizations in the future in terms of structure,
geographic scope, market support and operations in order to adapt to an
environment that is rapidly changing and meet market needs.\158\
---------------------------------------------------------------------------
\158\ Id. at 502.
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Petitioners represent that they maintain the staff and labor
necessary to fulfill their obligations and responsibilities, and only
employ persons who are appropriately qualified, skilled and experienced
in their respective trades or occupations \159\ Based on these
representations, the Petitioners managerial resources appear to be
consistent with, and to accomplish sufficiently, the regulatory
objectives of DCO Core Principle B in the context of the Transactions.
The Commission seeks comment with respect to this preliminary
conclusion.
---------------------------------------------------------------------------
\159\ See Petition Attachments at 3-20.
---------------------------------------------------------------------------
3. DCO Core Principle C: Participant and Product Eligibility
DCO Core Principle C requires each DCO to establish appropriate
admission and continuing eligibility standards for member and
participants (including sufficient financial resources and operational
capacity), as well as to establish procedures to verify, on an ongoing
basis, member and participant compliance with such requirements.\160\
The DCO's participant and membership requirements must also be
objective, be publicly disclosed, and permit fair and open access.\161\
In addition, Core Principle C obligates each DCO to establish
appropriate standards for determining the eligibility of agreements,
contracts, or transactions submitted to the DCO for clearing.\162\
---------------------------------------------------------------------------
\160\ 7 U.S.C. 7a-1(c)(2)(C).
\161\ Id.
\162\ Id. As set forth above, the exemption that would be
provided by the Proposed Exemption would be available only with
respect to the transactions specifically delineated therein.
Accordingly, the DCO Core Principle C analysis is limited to a
discussion of the Petitioners' participant eligibility requirements.
---------------------------------------------------------------------------
a. FERC Credit Policy Requirements
As discussed above, the FERC Credit Policy appears to impose
participant eligibility requirements that are consistent with
regulatory objectives of DCO Core Principle C.\163\ In the FERC Credit
Policy, FERC notes that ``[h]aving minimum criteria in place can help
minimize the dangers of mutualized defaults posed by inadequately
prepared or under-capitalized participants.'' \164\ Specifically, FERC
regulation 35.47(f) requires organized wholesale electric markets to
adopt tariff provisions that require minimum market participant
eligibility criteria.\165\ Though the regulation does not prescribe the
particular participation standards that must be implemented; in the
rule's preamble, FERC suggests that such standards should address
``adequate capitalization, the ability to respond to ISO/RTO direction
and expertise in risk management.'' \166\ Regarding risk management,
FERC further suggests that minimum participant eligibility criteria
should ``include the capability to engage in risk management or hedging
or to out-source this capability with periodic compliance
verification.'' \167\ Although market participant criteria may vary
among different types of market participants, all market participants
must be subject to some minimum criteria.\168\ An RTO or ISO subject to
FERC's supervision is obligated to establish market participant
criteria, even if the RTO or ISO applies vigorous standards in
determining the creditworthiness of its market participants.\169\
---------------------------------------------------------------------------
\163\ See, supra n. 127 and accompanying text.
\164\ FERC Original Order 741 at 665955.
\165\ 18 CFR 35.47(f).
\166\ FERC Original Order 741 at 665956.
\167\ Id.
\168\ Although the FERC Credit Policy states that FERC ``directs
that [the market participation criteria] apply to all market
participants rather than only certain participants,'' FERC clarified
this comment in its Order of Rehearing by stating that its intent
``was that there be minimum criteria for all market participants and
not that all market participants necessarily be held to the same
criteria'' based upon, for example, the size of the participant's
positions. See FERC Revised Order 741 at n. 43. This approach
appears to be consistent with Commission regulation 39.12, which
implements Core Principle C and requires that participation
requirements for DCO members be risk-based.
\169\ See FERC Original Order 741 at 665956 (noting that ``An
ISO or RTO's ``ability to accurately assess a market participant's
creditworthiness is not infallible'' and ``[w]hile an analysis of
creditworthiness may capture whether the market participant has
adequate capital, it may not capture other risks, such as whether
the market participant has adequate expertise to transact in an RTO/
ISO market.'').
---------------------------------------------------------------------------
Because the minimum participation criteria that will be adopted by
Petitioners will be included in their respective tariffs, which are
publicly available on each Petitioner's Web site, such criteria will be
publicly disclosed. In addition, FERC notes that it reviews proposed
tariff language ``to ensure that it is just and reasonable and not
unduly discriminatory,'' \170\ which practice would appear to be
consistent with DCO Core Principle C's directive that market
participation standards permit fair and open access.
---------------------------------------------------------------------------
\170\ Id.
---------------------------------------------------------------------------
b. The Petitioners' Representations
Each Petitioner represents that it either has adopted minimum
participant eligibility criteria or is in the process of establishing
minimum participant eligibility criteria \171\ that include
capitalization requirements (which may provide for the posting of
additional collateral by less-well-capitalized members). The
capitalization requirements appear to be risk-based in that the
requirements may vary by type of market and/or type or size of
participant.\172\ In addition, some Petitioners require that
participants in certain markets satisfy specified credit
requirements,\173\ as well as standards related to risk
management,\174\ training and testing,\175\ and the disclosure of
material litigation or regulatory sanctions, bankruptcies, mergers,
acquisitions, and activities in the wholesale electricity market.\176\
Petitioners also represent that they impose operational capability
requirements,\177\ and either maintain tariffs, or have filed proposed
amendments to their existing tariffs, that incorporate requirements
that would enable Petitioners to periodically verify the risk
management standards and procedures of market participants.\178\ This
verification may be required on either a random basis or based upon
identified risks. Furthermore, some Petitioners require attestations of
continued compliance with other elements of their participation
eligibility criteria.\179\
---------------------------------------------------------------------------
\171\ See Petition Attachments at 22-54.
\172\ See id. at 22-54.
\173\ See, e.g., id. at 22 (CAISO requires CRR holders to have a
minimum amount of available credit in order to participate in a CRR
auction).
\174\ See id. at 23, 35, 44-45.
\175\ See id. at 22, 35, 44.
\176\ See id. at 33.
\177\ See id. at 23, 37-38, 39, 48.
\178\ See id. at 23, 35-36, 38, 44-45, 49.
\179\ For example, CAISO requires market participants to attest
annually that they satisfy CAISO's minimum participation
requirements related to capitalization, training and the operational
capability to comply with CAISO's direction. See id. at 23.
Similarly, ISO NE requires that each market participant annually
submit a certificate that attests that the participant has
procedures to effectively communicate with ISO NE and that it has
trained personnel related to its participation in the relevant
markets. See id. at 35.
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[[Page 52151]]
ERCOT asserts that it is in the process of developing new
eligibility requirements through its stakeholder process, that, as
proposed, would require relevant market participants to (i) satisfy
minimum capitalization requirements or post additional security, (ii)
have appropriate expertise in the market, (iii) maintain a risk
management framework appropriate to the ERCOT markets in which it
transacts, (iv) have appropriate operational capability to respond to
ERCOT direction, and (v) have the market participant's officer certify,
on an annual basis, that the participant eligibility requirements are
met.\180\
---------------------------------------------------------------------------
\180\ See Petition Attachments at 27. See also FERC Order 741
Implementation Chart filed by petitioners as a supplement to the
Petition (herein after, ``FERC Order 741 Implementation Chart''),
available at http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/iso-rto4cappfercchart.pdf.
---------------------------------------------------------------------------
It appears from the foregoing that Petitioners' arrangements with
respect to participant eligibility requirements are (or will be)
congruent with, and sufficiently accomplish, the regulatory objectives
of Core Principle C in the context of Petitioners' activities with
respect to the Transactions. The Commission seeks comment with respect
to this preliminary conclusion.
4. DCO Core Principle D: Risk Management
DCO Core Principle D requires each DCO to demonstrate the ability
to manage the risks associated with discharging the responsibilities of
a DCO through the use of appropriate tools and procedures.\181\ As
amended by the Dodd-Frank Act, Core Principle D also requires a DCO to:
(1) Measure and monitor its credit exposures to each clearing member
daily; (2) through margin requirements and other risk control
mechanisms, limit its exposure to potential losses from a clearing
member default; (3) require sufficient margin from its clearing members
to cover potential exposures in normal market conditions; and (4) use
risk-based models and parameters in setting margin requirements that
are reviewed on a regular basis.\182\
---------------------------------------------------------------------------
\181\ 7 U.S.C. 7a-1(c)(2)(D).
\182\ 7 U.S.C. 7a-1(c)(2)(D).
---------------------------------------------------------------------------
a. Risk Management Framework
Each Petitioner represents that it has established policies and
procedures designed to minimize risk.\183\ As part of the tools and
procedures that RTOs and ISOs use to manage the risks associated with
their activities, FERC regulation 35.47(b) mandates that RTOs and ISOs
have billing periods and settlement periods of no more than seven
days.\184\ As discussed above, FERC found a shorter cycle necessary to
promote market liquidity and a necessary change ``to reduce default
risk, the costs of which would be socialized across market participants
and, in certain events, of market disruptions that could undermine
overall market function.'' \185\ Recognizing the correlation between a
reduction in the ``settlement cycle'' and a reduction in costs
attributed to a default, FERC stated that shorter cycles reduce the
amount of unpaid debt left outstanding, which, in turn, reduces ``the
size of any default and therefore reduces the likelihood of the default
leading to a disruption in the market such as cascading defaults and
dramatically reduced market liquidity.'' \186\ Most of the Petitioners
represent that they have, or expect to have, final tariffs in place
that limit billing periods and settlement periods to no more than seven
days.\187\
---------------------------------------------------------------------------
\183\ See Petition Attachments at 56-92.
\184\ 18 CFR 35.47(b).
\185\ FERC Original Order 741 at 65946.
\186\ Id.
\187\ See FERC Order 741 Implementation Chart. As stated above,
ERCOT is not required, by law, to comply with Order 741.
Nonetheless, Petitioners represent that ERCOT will shorten its
payment and settlement cycle to no more than 15 days. See infra nn.
212-213 and accompanying text.
---------------------------------------------------------------------------
In addition, an ISO's or RTO's participation standards can include
the supervision of a market participant's risk management program.\188\
As discussed in section V.C., FERC Order 741 states that an ISO or RTO
could include periodic verification of market participant's capability
to engage in risk management or hedging or to out-source that
capability ``to make sure each market participant has adequate risk
management capabilities and adequate capital to engage in trading with
minimal risk, and related costs, to the market as a whole.'' \189\ Each
Petitioner regulated by FERC represents that it either has a
verification program in place or has submitted necessary Tariffs for
approval to establish a verification program.\190\ ERCOT also has
proposed participant eligibility requirements that would subject
participants' risk management framework to verification by ERCOT,
unless that framework has been deemed sufficient for transacting in
another U.S. RTO or ISO market in accordance with a FERC-approved
tariff or in accordance with the Federal Reserve Bank Holding Company
Supervision Manual. The proposed requirements currently are under
review in the ERCOT stakeholder process.\191\ On the basis of the
representations contained in the Petition, it appears that these
policies and procedures, are (or will be, assuming they are
implemented) congruent with, and will sufficiently accomplish, the
regulatory objectives of DCO Core Principle D. The Commission seeks
comment with respect to this conclusion.
---------------------------------------------------------------------------
\188\ See n. 126 and accompanying text.
\189\ See FERC Original Order 741 at 65946.
\190\ See FERC Order 741 Implementation Chart at 11-12.
\191\ Id.
---------------------------------------------------------------------------
b. Measurement and Monitoring of Credit Exposure
Petitioners represent that their risk management procedures
measure, monitor, and mitigate their credit exposure to market
participants.\192\ In addition, most Petitioners state that they
calculate credit exposure daily.\193\ It appears that, for the most
part, given the unique characteristics of the wholesale electric
markets, and particularly those of the FTR and equivalent markets, the
practices specified in the Petition appear congruent with, and to
accomplish sufficiently, DCO Core Principle D's objective that a DCO
measure its credit exposure to each of its clearing members. The
Commission seeks comment with respect to this preliminary conclusion,
including comment on whether any different or additional practices
should be implemented as a condition of issuance of the Proposed
Exemption.
---------------------------------------------------------------------------
\192\ See Petition Attachments at 56-92.
\193\ See id. Petitioners further represent that the value of
exposure to FTRs is determined by the price of physical electricity
during the days and hours for which the FTR is effective. See id. In
addition, petitioners represent that CAISO- updates credit exposures
for CRR's that are expected to generate a charge to the CRR holder
on at least a monthly basis. See id. at 59-60. But see id. at 84-85
(representing that PJM calculates credit exposure for FTRs on a
monthly basis because daily measurement and intraday monitoring of
credit exposure is not practical for FTRs due to the low liquidity
and other unique attributes of the FTR markets).
---------------------------------------------------------------------------
c. Unsecured Credit
Petitioners represent that a market participant is required to
obtain unsecured credit lines from an RTO or ISO (limited as discussed
below) and/or post financial security that is sufficient to meet the
participant's estimated aggregate liability \194\ or financial
obligations.\195\ FERC regulation 35.47(a)
[[Page 52152]]
requires RTOs and ISOs to have tariff provisions that ``[l]imit the
amount of unsecured credit extended by [an RTO or ISO] to no more than
$50 million for each market participant.'' As mentioned above,\196\ in
capping the use of unsecured credit at $50 million, FERC stated its
belief that RTOs and ISOs ``could withstand a default of this magnitude
by a single market participant,'' therein limiting an RTO's or ISO's
exposure to potential losses from defaults by its market participants.
Petitioners represent that they have tariff provisions that comply with
FERC regulation 35.47(a).\197\ Moreover, FERC regulation 35.47(c)
prohibits the use of unsecured credit in the FTR markets and equivalent
markets because, according to FERC, risks arising out of the FTR
markets are ``difficult to quantify,'' and eliminating the use of
unsecured credit in these markets avoids the unforeseen and substantial
costs for an RTO or ISO in the event of a default. Petitioners state
that they have in place or have proposed tariff revisions to comply
with FERC regulation 35.47(c).\198\
---------------------------------------------------------------------------
\194\ A participant's estimated credit exposure to an RTO or ISO
is called such participant's estimated aggregate liability or
``EAL.'' The EAL calculation is based on a number of variables,
which vary among Petitioners. See id. at 56-92.
\195\ The Commission notes that NYISO establishes separate
credit requirements for each of its product and service categories
and requires each Market Participant to maintain financial security
(e.g., cash, letter of credit, or surety bond) that is sufficient at
all times to meet each separate credit requirement. See id. at 84.
\196\ See supra at n. 115.
\197\ See FERC Order 741 Implementation Chart at 2-3.
\198\ See id. at 4-5.
---------------------------------------------------------------------------
Since FERC regulations 35.47(a) and 35.47(c) appear to manage risk
and limit an RTO's or ISO's exposure to potential losses from a market
participant, these requirements would appear to be congruent with, and,
assuming Petitioners' proposed tariff revisions are implemented, to
accomplish sufficiently, the regulatory objectives of Core Principle D
in the context of Petitioners' activities with respect to the
Transactions. The Commission seeks comment with respect to this
preliminary conclusion.
d. Limiting Exposure to Potential Losses Through Use of Risk Control
Mechanisms and Grace Period To Cure
Each Petitioner represents that it requires a market participant to
post additional financial security (collateral) whenever the
participant's estimated aggregate liability or credit exposure equals
or exceeds that participant's unsecured credit and posted financial
security.\199\ Moreover, FERC regulation 35.47(e) limits the time
period by which a market participant must cure a collateral call to no
more than two days. In Original Order 741, FERC stated that a two day
time period for curing collateral calls balances the need for granting
market participants sufficient time to make funding arrangements for
collateral calls with the need to minimize uncertainty as to a
participant's ability to participate in the market as well as the risk
and costs of a default by a participant. By requiring each RTO and ISO
to include this two day cure period in its tariff provisions, FERC
regulation 35.47(e) appears to both promote the active management of
risks associated with the discharge of an RTO's or ISO's
responsibilities, while at the same time limiting the potential losses
from defaults by market participants. Petitioners represent that each
of them has implemented this requirement.\200\ In the event that a
market participant fails to post additional financial security in
response to a request from an RTO or ISO, or fails to do so within the
requisite two day period, Petitioners represent that they have a wide
array of remedies available, including bringing an enforcement action
and assessing a variety of sanctions against the market
participant.\201\ On the basis of these representations, it appears
that the requirements to post additional financial security and cure
collateral calls in no more than two days help Petitioners manage risk
and limit their exposure against potential losses from a market
participant. These requirements appear to be congruent with, and to
accomplish sufficiently, the regulatory objectives of DCO Core
Principle D in the context of Petitioners' activities with respect to
the Transactions. The Commission seeks comment with respect to this
preliminary conclusion.
---------------------------------------------------------------------------
\199\ See Petition Attachments at 56-92.
\200\ See FERC Order 741 Implementation Chart at 7.
\201\ See, e.g., Petition Attachments at 56-57, 69-70, 76-77.
---------------------------------------------------------------------------
e. Calls for Additional Collateral due to a Material Adverse Change
FERC regulation 35.47(g) requires ISOs and RTOs to specify in their
tariffs the conditions under which they will request additional
collateral due to a material adverse change. However, as stated by
FERC, this list of conditions is not meant to be exhaustive, and ISOs
and RTOs are permitted to use ``their discretion to request additional
collateral in response to unusual or unforeseen circumstances.'' \202\
Petitioners represent that they have tariffs that comply with these
requirements.\203\ Since Petitioners do not appear to be limited in
their ability to call for additional collateral in unusual or
unforeseen circumstances, FERC regulation 35.47(g) appears to support
some of DCO Core Principle D's objectives, namely that a DCO have
appropriate tools and procedures to manage the risks associated with
discharging its responsibilities, and that a DCO limit its exposure to
potential losses from defaults by clearing members. FERC has noted that
information regarding when an ISO or RTO will request additional
collateral due to a material adverse change may help to ``avoid any
confusion, particularly during times of market duress, as to when such
a clause may be invoked,'' \204\ while at the same time preventing a
market participant from ``exploit[ing] ambiguity as to when a market
administrator may invoke a `material adverse change.''' \205\ As such,
this policy appears to help avoid potentially harmful delays or
disruptions that could subject the RTOs and ISOs to unnecessary damage,
and thus is congruent with, and to accomplish sufficiently, the
regulatory objectives of Core Principle D in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
---------------------------------------------------------------------------
\202\ FERC Original Order 741 at 65957.
\203\ See FERC Order 741 Implementation Chart.
\204\ FERC Original Order 741 at 65958.
\205\ Id. at 65958.
---------------------------------------------------------------------------
f. Margin Requirement and Use of Risk-Based Models and Parameters in
Setting Margin
As discussed previously, Petitioners represent that each Petitioner
requires that market participants maintain unsecured credit and/or post
financial security (collectively, ``margin'') that is sufficient to
meet their estimated aggregate liability or financial obligations at
all times,\206\ although estimated aggregate liability calculations
appear to vary among Petitioners and among products within a particular
Petitioner's markets.\207\ As represented by Petitioners, these
practices seem to be congruent with, and to accomplish sufficiently,
the regulatory objectives of DCO Core Principle D in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks
[[Page 52153]]
comment with respect to this preliminary conclusion.
---------------------------------------------------------------------------
\206\ See Petition Attachments at 56-92.
\207\ For example, one Petitioner states that its margin
requirements are calculated using historical data and estimates of
potential future exposure for the purposes of minimizing default
exposure, but notes that the mechanics of the potential future
exposure estimates ``vary depending on the market.'' See id. at 77.
It maintains customized approaches to margining particular market
activity, including separate and distinct margining models for the
FTR Market and the Forward Capacity Market (both the buy side and
the sell side). Id. at 77-78 Similarly, another Petitioner states
that its credit requirements are derived from historical data from
the past three years for FTRs, but from the past one year for other
transactions. Id. at 91-92.
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g. Ability To Offset Market Obligations
FERC regulation 35.47(d) requires RTOs and ISOs to either (1)
establish a single counterparty to all market participant transactions,
(2) require each market participant to grant a security interest in the
receivables of its transactions to the relevant RTO or ISO, or (3)
provide another method of supporting netting that provides a similar
level of protection to the market that is approved by FERC. Otherwise,
RTOs and ISOs are prohibited from netting market participants'
transactions and required to establish credit based on market
participants' gross obligations. FERC regulation 35.47(d), which
attempts to ensure that, in the event of a bankruptcy, ISOs and RTOs
are not prohibited from offsetting accounts receivable against accounts
payable, is congruent with the regulatory objectives of Core Principle
D. In effect, this requirement appears to attempt to clarify an ISO's
or RTO's legal status to take title to transactions in an effort to
establish mutuality in the transactions as legal support for set-off in
bankruptcy.\208\ This clarification, in turn, would seem to limit an
RTO's or ISO's exposure to potential losses from defaults by market
participants.
---------------------------------------------------------------------------
\208\ See supra n. 122.
---------------------------------------------------------------------------
Petitioners have represented that they either are, or plan on
becoming, central counterparties.\209\ Though there appears to be
strong support for the proposition that the central counterparty
structure \210\ would give rise to enforceable rights of setoff of the
central counterparty, the Commission believes it would be in the public
interest to have further clarity regarding whether a Petitioner's
chosen approach to comply with FERC regulation 35.47(d) grants
sufficient certainty regarding the ability to enforce setoff rights. As
such, the Commission proposes that, as a prerequisite to the granting
of the 4(c)(6) request, each Petitioner must submit a well-reasoned
legal memorandum from, or a legal opinion of, outside counsel that, in
the Commission's sole discretion, provides the Commission with adequate
assurance that the approach selected by the Petitioner will in fact
provide the Petitioner with set-off rights in a bankruptcy proceeding.
---------------------------------------------------------------------------
\209\ See FERC Order 741 Implementation Chart at 5-6.
\210\ A central counterparty is, within a particular market, the
buyer to every seller and the seller to every buyer. See Principles
for Financial Market Infrastructures ] 1.13 (CPSS-IOSCO 2012).
---------------------------------------------------------------------------
Subject to this condition, compliance with FERC regulation 35.47(d)
appears to be congruent with, and to accomplish sufficiently, Core
Principle D's regulatory objectives in the context of Petitioners'
activities with respect to the Transactions. The Commission seeks
comment with respect to this preliminary conclusion. The Commission
also seeks comment with respect to the proposed prerequisite of
assurance that the Petitioners can in fact exercise setoff rights in
the event of the bankruptcy of a participant.
5. DCO Core Principle E: Settlement Procedures
Among the requirements set forth by Core Principle E are the
requirements that a DCO (a) have the ability to complete settlements on
a timely basis under varying circumstances, and (b) maintain an
adequate record of the flow of funds associated with each transaction
that the DCO clears.\211\
---------------------------------------------------------------------------
\211\ 7 U.S.C. 7a-1(d)(92)(i)-(ii).
---------------------------------------------------------------------------
Petitioners represent that they have policies and procedures that
contain detailed procedures regarding data and record-keeping, and
that, with the exception of ERCOT, they have, or will soon have,
billing periods and settlement periods of no more than seven days each
(for a total of 14 days).\212\ ERCOT is in the process of implementing
changes by which the weighted average billing and settlement cycle will
be less than 15 days.\213\ While this approach does not meet the
standards applicable to registered DCOs,\214\ it appears to be
congruent with, and to accomplish sufficiently, the regulatory
objectives of DCO Core Principle E in the context of Petitioners'
activities with respect to the Transactions. The Commission seeks
comment on this preliminary conclusion.
---------------------------------------------------------------------------
\212\ See Petition Attachments at 94-103.
\213\ Under these arrangements, the time between Operating Day
and payment will be 13 days or less for all transactions in the Day-
Ahead Market, and will be 15 days or less for 90% of transactions in
the Real Time Market. See id. at 96.
\214\ See 17 CFR 39.14(b) (requiring daily settlements).
---------------------------------------------------------------------------
6. DCO Core Principle F: Treatment of Funds
Core Principle F requires a DCO to have standards and procedures
designed to protect and ensure the safety of member and participant
funds, to hold such funds in a manner that would minimize the risk of
loss or delay in access by the DCO to the funds, and to invest such
funds in instruments with minimal credit, market, and liquidity
risks.\215\
---------------------------------------------------------------------------
\215\ 7 U.S.C. 7a-1(c)(2)(F).
---------------------------------------------------------------------------
Petitioners represent that they have tariff provisions and related
governing documents that accomplish the regulatory goals of DCO Core
Principle F.\216\ For example, CAISO represents that its tariffs
require it to maintain specified types of separate accounts for funds
it receives or holds, including segregated and aggregated market
clearing accounts.\217\ Similarly, MISO represents that its tariffs
require MISO to hold all monies deposited by its participants (whom
MISO refers to as ``Tariff Customers'') as financial assurance in a
separate, interest-bearing money market account with one-hundred
percent of the interest earned accruing to the benefit of the Tariff
Customer.\218\ The other Petitioners represent that they have
appropriate investment policies or practices, such as segregation
requirements and/or limitations on investment options.\219\ As
represented by Petitioners, these practices appear congruent with, and
to accomplish sufficiently, the regulatory objectives of DCO Core
Principle F in the context of Petitioners' activities with respect to
the Transactions. The Commission seeks comment with respect to this
preliminary conclusion.
---------------------------------------------------------------------------
\216\ See Petition Attachments at 105-110.
\217\ See id. at 105.
\218\ See id. at 108.
\219\ See id. at 105-110.
---------------------------------------------------------------------------
7. DCO Core Principle G: Default Rules and Procedures
Core Principle G requires a DCO to have rules and procedures
designed to allow for the efficient, fair, and safe management of
events when members or participants become insolvent or otherwise
default on their obligations to the DCO.\220\ Core Principle G also
requires a DCO to clearly state its default procedures, make publicly
available its default rules, and ensure that it may take timely action
to contain losses and liquidity pressures and to continue meeting each
of its obligations.\221\
---------------------------------------------------------------------------
\220\ 7 U.S.C. 7a-1(c)(2)(G)(i).
\221\ 7 U.S.C. 7a-1(c)(2)(G)(ii).
---------------------------------------------------------------------------
a. General Default Procedures
Each Petitioner represents that it has procedures in its tariffs or
other governing documents that address events surrounding the
insolvency or default of a market participant.\222\ For example,
Petitioners represent that such documents identify events of default
(e.g. failure to make payments when due, failure to support an
estimated liability with adequate security, events of insolvency, and
failure to perform other obligations under the tariff), describe the
cure period associated with
[[Page 52154]]
an event of default, and describe the actions to be taken in the event
of default and/or detail each Petitioners' remedies--which may include,
among other things, termination of services and/or agreements,
initiation of debt collection procedures and levying financial
penalties.\223\ As detailed above, in the event that the remedies
outlined in each Petitioner's governing documents are insufficient to
timely cure a default, Petitioners have the right to socialize losses
from the default among other market participants by, for example,
``short-paying'' such other participants.\224\
---------------------------------------------------------------------------
\222\ See generally Petition Attachments at 112-126.
\223\ Id.
\224\ See supra at n. 149 and accompanying text. See also, e.g.,
Petition at 71.
---------------------------------------------------------------------------
b. Setoff
Generally speaking, it is a well-established tenet of clearing that
a DCO acts as the buyer to every seller and as the seller to every
buyer, thereby substituting the DCO's credit for bilateral counter-
party risk. As such, when a DCO is involved, there is little question
as to the identity of a counterparty to a given transaction. However,
because ISOs and RTOs can act as agents for their participants, there
could be ambiguity as to the identity of a counterparty to a given
transaction. As a result, in the event of a bankruptcy of a market
participant and in the event of a lack of the mutuality of obligation
required by the Bankruptcy Code,\225\ an ISO or RTO may be liable to
pay a bankrupt market participant for transactions in which that
participant is owed funds, without the ability to offset amounts owed
by that participant with respect to other transactions. Stated
differently, although the defaulting market participant may owe money
to the ISO or RTO, if the ISO or RTO also owes money to such
participant, the ISO or RTO may be required to pay the defaulting
participant the full amount owed without being able to offset the
amounts owed by that participant to the ISO or RTO, which latter
amounts may be relegated to claims in the bankruptcy proceedings. As
more fully described in section V.D.4.g., the requirement that
Petitioners provide memoranda or opinions of counsel as discussed
therein is intended to address this issue.
---------------------------------------------------------------------------
\225\ See 11 U.S.C. 553.
---------------------------------------------------------------------------
The foregoing arrangements appear congruent to, and to accomplish
sufficiently, the regulatory objectives of DCO Core Principle G in the
context of Petitioners' activities with respect to the Transactions.
The Commission seeks comment with respect to this preliminary
conclusion.
8. Core Principle H: Rule Enforcement
Core Principle H requires a DCO to (1) maintain adequate
arrangements and resources for the effective monitoring and enforcement
of compliance with its rules and for resolution of disputes, (2) have
the authority and ability to discipline, limit, suspend, or terminate a
clearing member's activities for violations of those rules, and (3)
report to the Commission regarding rule enforcement activities and
sanctions imposed against members and participants.\226\
---------------------------------------------------------------------------
\226\ 7 U.S.C. 7a-1(c)(2)(H).
---------------------------------------------------------------------------
Each Petitioner represents that it maintains tariffs or procedures
or is subject to a regulatory framework that accomplishes the
regulatory goals of DCO Core Principle H. Petitioners have, e.g., the
power to take a range of actions against participants that fail to pay,
pay late, or fail to post financial security. \227\
---------------------------------------------------------------------------
\227\ See generally, Petition Attachments at 128-150.
---------------------------------------------------------------------------
Based on Petitioners' representations, it appears that these
practices are congruent with, and sufficiently accomplish, the
regulatory objectives of DCO Core Principle H in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
9. DCO Core Principle I: System Safeguards
Core Principle I requires a DCO to demonstrate that: (1) It has
established and will maintain a program of oversight and risk analysis
to ensure that its automated systems function properly and have
adequate capacity and security, and (2) it has established and will
maintain emergency procedures and a plan for disaster recovery and will
periodically test backup facilities to ensure daily processing,
clearing and settlement of transactions.\228\ Core Principle I also
requires that a DCO establish and maintain emergency procedures, backup
facilities, and a plan for disaster recovery that allows for the timely
recovery and resumption of the DCO's operations and the fulfillment of
each of its obligations and responsibilities.\229\
---------------------------------------------------------------------------
\228\ 7 U.S.C. 7a-1(c)(2)(I)(i)-(ii).
\229\ 7 U.S.C. 7a-1(c)(2)(I)(iii).
---------------------------------------------------------------------------
Petitioners represent that they have policies and procedures that
accomplish the regulatory goals of DCO Core Principle I,\230\ albeit in
a manner that is somewhat different than the way in which a DCO
complies with DCO Core Principle I. This is because Petitioners are
also responsible for managing power reliably and, thus, require
additional operational safeguards to specifically address that
function. For example, NYISO is subject to reliability rules
established by the New York State Reliability Council, Northeast Power
Coordinating Council, and the North American Electric Reliability
Corporation.\231\ In order to comply with these rules, NYISO has
procedures in place to address emergency situations and maintains an
alternate control center and back-up computer systems and data centers
at a separate location.\232\ NYISO also performs internal and external
audits to ensure its internal controls, procedures, and business
processes comply with accepted standards.\233\ The other Petitioners
represent that they have similar procedures and practices such as,
computer back-up systems, operate multiple control and data centers,
dedicate resources to internal audit and security teams, and maintain
disaster recovery plans designed to address operational, physical, and
cyber security events.\234\
---------------------------------------------------------------------------
\230\ See generally Petition Attachments at 152-158.
\231\ See id. at 157.
\232\ See id.
\233\ See id.
\234\ See id. at 152, 156, 158.
---------------------------------------------------------------------------
Based on Petitioners' representations, it appears that these system
safeguard practices are congruent with, and accomplish sufficiently,
the regulatory objectives of DCO Core Principle I in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
10. DCO Core Principle J: Reporting
Core Principle J requires a DCO to provide to the Commission all
information that the Commission determines to be necessary to conduct
oversight of the DCO.\235\ With the exception of ERCOT, Petitioners
represent that, pursuant to their Tariffs and other FERC orders, FERC
has access to the information that it would need to oversee the
Petitioners.\236\ With respect to ERCOT, ERCOT represents that the PURA
and PUCT Substantive Rules require it to provide information to the
PUCT on request.\237\ ERCOT also represents that its Bylaws require
ERCOT corporate members to provide information to ERCOT.\238\ In
addition, according to ERCOT, the ERCOT Protocols require ERCOT to
manage
[[Page 52155]]
confidential information, but enable ERCOT to release confidential
information to government officials if required by law, regulation or
order.\239\ As noted above, the Commission is proposing to condition
this exemptive order on the completion of an appropriate information
sharing agreement between the Commission and PUCT.
---------------------------------------------------------------------------
\235\ 7 U.S.C. 7a-1(c)(2)(J).
\236\ See generally Petition Attachments at 160-166.
\237\ See id. at 161-162. PURA 39.151(d), P.U.C. SUBST. R.
25.362(e)(1)(B) and 25.503(f)(8).
\238\ See Petition Attachments at 161-162.
\239\ See id.
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Based on the foregoing, including Petitioners' representations, it
appears that these practices are congruent with, and sufficiently
accomplish, the regulatory objectives of Core Principle J in the
context of Petitioners' activities with respect to the Transactions.
The Commission seeks comment with respect to this preliminary
conclusion.
11. Core Principle K: Recordkeeping
Core Principle K requires a DCO to maintain records of all
activities related to its business as a DCO in a form and manner
acceptable to the Commission for a period of not less than five
years.\240\
---------------------------------------------------------------------------
\240\ 7 U.S.C. 7a-1(c)(2)(K).
---------------------------------------------------------------------------
Petitioners represent that their practices satisfy the regulatory
goals of DCO Core Principle K because they have adequate recordkeeping
requirements or systems.\241\ In addition, Petitioners represent that
FERC has comprehensive recordkeeping regulations that cover, among
other things, protection and storage of records, record storage media,
destruction of records, and premature destruction or loss of
records.\242\ The record retention requirements for accounting records
are, in the main, at or in excess of five years.\243\ In addition,
ERCOT, which is not subject to FERC jurisdiction, represents that it
has also adopted specific books and records requirements that
accomplish the regulatory goals of DCO Core Principle K. Specifically,
ERCOT represents that it has specific record retention rules
established in the EROCT Protocols and is required to retain market
accounting information for a period of seven years.\244\
---------------------------------------------------------------------------
\241\ See generally Petition Attachments at 168-173.
\242\ See 18 CFR 125.2-.3.
\243\ See 18 CFR 125.3 at (6)-(9).
\244\ See Petition Attachments at 169.
---------------------------------------------------------------------------
Based on these regulations and Petitioners' representations, it
appears that these practices are congruent with, and sufficiently
accomplish, the regulatory objectives of DCO Core Principle K in the
context of Petitioners' activities with respect to the Transactions.
The Commission seeks comment with respect to this preliminary
conclusion.
12. DCO Core Principle L: Public Information
Core Principle L requires a DCO to make information concerning the
rules and operating procedures governing its clearing and settlement
systems (including default procedures) available to market
participants.\245\ Core Principle L also requires a DCO to provide
market participants with sufficient information to enable them to
identify and evaluate accurately the risks and costs associated with
using the DCO's services, and to disclose publicly and to the
Commission information concerning: (1) The terms and conditions of each
contract, agreement, and transaction cleared and settled by the DCO;
(2) the fees that the DCO charges its members and participants; (3) the
DCO's margin-setting methodology, and the size and composition of its
financial resources package; (4) daily settlement prices, volume, and
open interest for each contract the DCO settles or clears; and (5) any
other matter relevant to participation in the DCO's settlement and
clearing activities.\246\
---------------------------------------------------------------------------
\245\ 7 U.S.C. 7a-1(c)(2)(L)(i)-(ii).
\246\ 7 U.S.C. 7a-1(c)(2)(L)(iii).
---------------------------------------------------------------------------
Each Petitioner represents that it makes its tariff or related
governing documents publicly available on its Web site, which, in turn,
allows market participants (and the public) to access its rules and
procedures regarding, among other things, participant and product
eligibility requirements, risk management methodologies, settlement
procedures, and other information that may impact prices, such as
transmission system models, reserved transmission capacity, and similar
information.\247\
---------------------------------------------------------------------------
\247\ See generally Petition Attachments at 175-182.
---------------------------------------------------------------------------
Based on Petitioners' representations, it appears that these
practices are congruent with, and sufficiently accomplish, the
regulatory objectives of DCO Core Principle L in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
13. DCO Core Principle M: Information Sharing
Core Principle M requires a DCO to enter into and abide by the
terms of all appropriate and applicable domestic and international
information-sharing agreements, and use relevant information obtained
from the agreements in carrying out the DCO's risk management
program.\248\
---------------------------------------------------------------------------
\248\ 7 U.S.C. 7a-1(c)(2)(M).
---------------------------------------------------------------------------
Petitioners represent that they have policies and procedures that
allow them to share information with and receive information from other
entities as necessary to carry out their risk management
functions.\249\ For example, ISO NE represents that its Information
Policy sets out rules for sharing information with participants, FERC,
and other Petitioners.\250\ Similarly, the NYISO represents that its
tariff provides for information sharing with other ISOs and RTOs.\251\
ERCOT represents that it is likewise subject to a comprehensive set of
rules under the PURA, PUCT Rules, and the ERCOT Protocols that address
information exchange obligations between ERCOT, the ERCOT Independent
Market Monitor, ERCOT market participants, and the PUCT.\252\ MISO,
PJM, and CAISO all claim to have similar information sharing policies
and procedures--although, the entities with which each ISO/RTO shares
information do vary.\253\
---------------------------------------------------------------------------
\249\ See generally Petition Attachments at 184-190.
\250\ See id. at 186.
\251\ See id. at 188-189.
\252\ See id. at 185.
\253\ See id. at 184, 187, 190.
---------------------------------------------------------------------------
Based on the foregoing and Petitioners' representations, it appears
that these practices are congruent with, and sufficiently accomplish,
the regulatory objectives of Core Principle M in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
14. DCO Core Principle N: Antitrust
Core Principle N requires a DCO to avoid, unless necessary or
appropriate to achieve the purposes of the CEA, adopting any rule or
taking any action that results in any unreasonable restraint of trade,
or imposing any material anticompetitive burden.\254\
---------------------------------------------------------------------------
\254\ 7 U.S.C. 7a-1(c)(2)(N).
---------------------------------------------------------------------------
As discussed above, the formation of the Petitioners (except for
ERCOT) was encouraged by FERC (pursuant to FERC Order Nos. 888 and
2000) in order to foster greater competition in the power generation
sectors by allowing open access to transmission lines.\255\ In
[[Page 52156]]
addition, Petitioners represent that they are subject to continued
oversight by FERC, PUCT or their market monitors, as appropriate, which
oversight could detect activities such as undue concentrations or
market power, discriminatory treatment of market participants or other
anticompetitive behavior.\256\
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\255\ See FERC Order No. 888; FERC Order No. 2000. Moreover,
Petitioners represent that their rules are typically subject to
advance review by stakeholders and must be approved by FERC (except
for ERCOT whose rules are approved by PUCT). These rules are, in
turn, subject to review by the MMU, who attempt to detect, among
other things, detect market power abuses. See generally Petition
Attachments at 192-198. With respect to ERCOT, TAC 25.361(i)
expressly states that ``The existence of ERCOT is not intended to
affect the application of any state or federal anti-trust laws.'' In
addition, ERCOT represents that it conducts antitrust training for
its employees annually, holds open meetings to promote the
transparent development of market rules, established a Corporate
Standard to addresses antitrust issues, and that ``PURA, PUCT
Substantive Rules and ERCOT Protocols also require that ERCOT allow
access to the transmission system for all buyers and sellers of
electricity on a nondiscriminatory basis, which facilitates actions
consistent with the antitrust considerations of [DCO Core Principle
N].'' See Petition Attachments at 193-194.
\256\ See Petition Attachments at 192-198.
---------------------------------------------------------------------------
Based on Petitioners' representations, it appears that Petitioners'
existence and practices are congruent with, and sufficiently
accomplish, the regulatory objectives of Core Principle N. The
Commission seeks comment with respect to this preliminary conclusion.
15. DCO Core Principle O: Governance and Fitness Standards
Core Principle O requires a DCO to establish governance
arrangements that are transparent to fulfill public interest
requirements and to permit the consideration of the views of owners and
participants.\257\ A DCO must also establish and enforce appropriate
fitness standards for directors, members of any disciplinary committee,
members of the DCO, any other individual or entity with direct access
to the settlement or clearing activities of the DCO, and any party
affiliated with any of the foregoing individuals or entities.\258\
---------------------------------------------------------------------------
\257\ 7 U.S.C. 7a-1(c)(2)(O)(i).
\258\ 7 U.S.C. 7a-1(c)(2)(O)(ii).
---------------------------------------------------------------------------
Petitioners represent that their tariffs, organizational documents,
and applicable state law set forth specific governance standards that
are consistent with the regulatory goals which address, for example,
director independence and fitness requirements.\259\ In addition,
Petitioners assert that FERC Order Nos. 888 and 2000 set out certain
minimum governance structures for ISOs and RTOs. Petitioners state that
Order No. 888 requires the following: an ISO's governance should be
structured in a fair and non-discriminatory manner; an ISO and its
employees should have no financial interest in the economic performance
of any power market participant; and an ISO should adopt and enforce
strict conflict of interest standards.\260\ Petitioners assert that
Order No. 2000 likewise identified minimum characteristics that RTOs
must exhibit, including, independence from all market
participants.\261\ Similarly, Petitioners represent that PURA mandates
ERCOT to include unaffiliated directors and market segment
representation in its governance structure.\262\
---------------------------------------------------------------------------
\259\ See Petition Attachments at 200-208.
\260\ See id. at 200 (citing to FERC Order No. 888).
\261\ See Petition Attachments at 208 (citing to FERC Order No.
2000).
\262\ See id. at 202.
---------------------------------------------------------------------------
Based on Petitioners' representations, it appears that Petitioner's
governance structures are congruent with, and sufficiently accomplish,
the regulatory objectives of DCO Core Principle O in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
16. DCO Core Principle P: Conflicts of Interest
Pursuant to DCO Core Principle P, each DCO must establish and
enforce rules to minimize conflicts of interest in the decision-making
process of the DCO.\263\ In addition, each DCO must establish a process
for resolving conflicts of interest.\264\
---------------------------------------------------------------------------
\263\ 7 U.S.C. 7a-1(c)(2)(P)(i).
\264\ 7 U.S.C. 7a-1(c)(2)(P)(ii).
---------------------------------------------------------------------------
Each Petitioner represents that it has established a conflict of
interest policy in a Code of Conduct or other corporate document that
requires board members and employees to, among other things, avoid
activities that are contrary to the interests of the Petitioner.\265\
In addition, CAISO represents that Order No. 888 requires ISOs to
implement strict conflict of interest policies.\266\ Similarly, ERCOT
asserts that the PUCT Substantive Rules require it to adopt policies to
mitigate conflicts of interest.\267\
---------------------------------------------------------------------------
\265\ See Petition Attachments at 210-216.
\266\ See id. at 210.
\267\ See id. at 211.
---------------------------------------------------------------------------
Based upon Petitioners' representations, it appears that the
conflict of interest policies Petitioners have adopted and that the
requirements Petitioners are subject to are congruent with, and
sufficiently accomplish, the regulatory objectives of DCO Core
Principle P in the context of Petitioners' activities with respect to
the Transactions. The Commission seeks comment with respect to this
preliminary conclusion.
17. DCO Core Principle Q: Composition of Governing Boards
DCO Core Principle Q provides that each DCO shall ensure that the
composition of the governing board or committee of the derivatives
clearing organization includes market participants.\268\
---------------------------------------------------------------------------
\268\ 7 U.S.C. 7a-1(c)(2)(O).
---------------------------------------------------------------------------
ERCOT represents that its governing board includes representatives
from the market,\269\ CAISO, on the other hand, asserts that its board
composition is mandated by California statute, wherein members are
appointed by the Governor of California and confirmed by the California
senate.\270\ ISO NE and MISO assert that they have active market
participants who are involved in the nomination and selection of Board
members, while NYISO asserts that its market participants provide input
and feedback through market participant committees, and other
subcommittees and working groups, and PJM has a Members Committee that
elects the members of the PJM Board.\271\ FERC regulations require that
an RTO ``must have a decision making process that is independent of
control by any market participant or class of participants.'' \272\
However, FERC also requires that each ISO and RTO ``adopt business
practices and procedures that achieve Commission-approved independent
system operator and regional transmission organization board of
directors' responsiveness to customers and other stakeholders and
satisfy [specified] criteria.'' \273\
---------------------------------------------------------------------------
\269\ See Petition Attachments at 219.
\270\ See id. at 218.
\271\ See id. at 221-223.
\272\ See 18 CFR 35.34(j)(1)(ii).
\273\ See 18 CFR 35.28(g)(6).
---------------------------------------------------------------------------
Based on Petitioner's representations, and the regulations and
supervision of FERC, it appears that these practices are congruent
with, and sufficiently accomplish, the regulatory objectives of DCO
Core Principle Q in the context of Petitioners' activities with respect
to the Transactions. The Commission seeks comment with respect to this
preliminary conclusion.
18. DCO Core Principle R: Legal Risk
Core Principle R requires a DCO to have a well-founded,
transparent, and enforceable legal framework for each aspect of its
activities.\274\
---------------------------------------------------------------------------
\274\ 7 U.S.C. 7a-1(c)(2)(R).
---------------------------------------------------------------------------
Petitioners assert that they operate under a transparent and
comprehensive legal framework that is grounded in the Federal Power Act
or the Texas Public Utility Regulatory Act, as applicable, and
administered by FERC or the PUCT, as applicable.\275\ Indeed,
Petitioners assert that they are subject to FERC or PUCT orders rules
and regulations and that each Petitioner operates pursuant to a tariff
that has been reviewed and approved by FERC or the PUCT, as
applicable.\276\ Moreover, with respect to
[[Page 52157]]
an area of particular concern (eligibility for setoff in bankruptcy),
the CFTC is requiring independent confirmation.\277\
---------------------------------------------------------------------------
\275\ See generally Petition Attachments at 225-235.
\276\ See id.
\277\ See the discussion in section V.D.4.g.
---------------------------------------------------------------------------
Based on Petitioners' representations, it appears that this
framework is congruent with, and sufficiently accomplishes, the
regulatory objectives of Core Principle R in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
E. SEF Core Principles
1. SEF Core Principle 1: Compliance With Core Principles
SEF Core Principle 1 requires a SEF to comply with the Core
Principles described in part 37 of the Commission's Regulations.\278\
As demonstrated by the following analysis, the Commission has made a
preliminary determination that in the context of the Petitioners'
activities with respect to the Transactions within the scope of this
Proposed Exemption, Petitioners' practices appear congruent with, and
to accomplish sufficiently, the regulatory objectives of each SEF core
principle. The Commission requests comment with respect to this
preliminary determination.
---------------------------------------------------------------------------
\278\ 7 U.S.C. 7b-3(f)(1)
---------------------------------------------------------------------------
2. SEF Core Principle 2: Compliance With Rules
SEF Core Principle 2 requires a SEF to establish and enforce
compliance with any rule of the SEF.\279\ A SEF is also required to (1)
establish and enforce rules with respect to trading, trade processing,
and participation that will deter market abuses and (2) have the
capacity to detect, investigate and enforce those rules, including a
means to (i) provide market participants with impartial access to the
market, and (ii) capture information that may be used in establishing
whether rule violations have occurred.\280\
---------------------------------------------------------------------------
\279\ 7 U.S.C. 7b-3(f)(2).
\280\ SEF Core Principle 2 also requires a SEF to establish
rules governing the operation of the facility, including trading
procedures, and provide rules that, when a swap is subject to the
mandatory clearing requirement, hold swap dealers and major swap
participants responsible for compliance with the mandatory trading
requirement under section 2(h)(8) of the Act.
---------------------------------------------------------------------------
Petitioners represent that they have transparent rules for their
market, including rules that govern market abuses and compliance
enforcement.\281\ For instance, the independent market monitor
established by statute for the ERCOT region oversees market behavior
and reports any market compliance issues to the state regulator.\282\
If a market participant violates ERCOT rules, depending on the nature
of the offense, ERCOT and/or the state regulator may take appropriate
action against the party, including, but not limited to, terminating,
expelling, suspending, or sanctioning a member.\283\ The other
Petitioners also represent that they have enforcement mechanisms that
allow the Petitioners to, among other things, monitor their markets,
investigate suspected tariff violations, take action against violators
(including assessing fines or suspending or terminating a market
participant's participation in market activities), and refer potential
violations to FERC.\284\
---------------------------------------------------------------------------
\281\ Petition Attachments at 238-245.
\282\ See id. at 130. See also id. at 239-240.
\283\ See id. at 129. See also id. at 239-240.
\284\ See id. at 128, 131-150. See also id. at 238, 241-245.
---------------------------------------------------------------------------
Based on the foregoing, it appears that the Petitioners' practices
are consistent with, and sufficiently accomplish, the regulatory goals
of SEF Core Principle 2 in the context of Petitioners' activities with
respect to the Transactions. The Commission requests comment with
respect to this preliminary determination.
3. SEF Core Principle 3: Swaps Not Readily Susceptible to Manipulation
SEF Core Principle 3 requires a SEF submitting a contract to the
Commission for certification or approval to demonstrate that the swap
is not readily susceptible to manipulation.\285\
---------------------------------------------------------------------------
\285\ 7 U.S.C. 7b-3(f)(3).
---------------------------------------------------------------------------
a. Energy Transactions
Petitioners define Energy Transactions to include both physically-
delivered as well as cash-settled contracts.\286\ For purposes of this
Proposed Exemption, the Commission limits the analysis to Energy
Transactions that are cash-settled.
---------------------------------------------------------------------------
\286\ See Petition at 7.
---------------------------------------------------------------------------
Petitioners have represented to the Commission that market
participants use the cash-settled Energy Transactions to arbitrage
between the Day-Ahead and Real-Time markets.\287\ The result is that
prices between the Day-Ahead and Real-Time markets converge and reduce
the price volatility normally found in electricity markets.\288\
Indeed, the contracts were created with this very purpose in mind.\289\
---------------------------------------------------------------------------
\287\ See Petition Attachments at 252-253.
\288\ See id. at 142. See also id. at 253.
\289\ FERC Order on Compliance Filing to PJM, 139 FERC ] 61,057
issued April 19, 2012 in Docket No. ER09-1063-004.
---------------------------------------------------------------------------
The Commission understands that MMUs operated by each of the
Petitioners have been organized in such a way that both the Real-Time
and Day-Ahead markets are monitored to identify suspicious trading
activity.\290\ In the event the MMUs identify suspicious trading
activity, FERC, or PUCT in the case of ERCOT, is notified so that
further investigation may be done. An example of such suspicious
trading activity would involve a market participant engaging in Energy
Transactions that repeatedly incur a loss.\291\ Repeated losses in
Energy Transactions would indicate that a market participant is
sustaining losses to improve another position. For example, in the
event a market participant tried to manipulate the price of electricity
in the Day-Ahead or Real-Time markets to improve a different position,
such as an FTR, they would have to submit bids that drove up the price
of electricity for that specific node. In order to do this, however,
the participant would have to submit a large dollar amount of offers at
an inflated price. The Commission believes that this type of trading
activity should be detectable by the MMUs. In addition to being
difficult to effectuate simply because of the financial resources
required, the Commission believes that any such activity should be
apparent to not only MMUs using their ordinary oversight tools, but to
market participants, who should have a self-interest in reporting such
activity to the MMUs. Notably, such manipulative schemes have been
identified and prosecuted by FERC in the past.\292\
---------------------------------------------------------------------------
\290\ See generally Petition Attachments at 124-147.
\291\ See generally id.
\292\ On March 9, 2012 Constellation Energy and FERC's Office of
Enforcement entered into a Stipulation and Consent Agreement in
which Constellation neither admitted nor denied wrongdoing. FERC
initially alleged that Constellation manipulated the price of
electricity using virtual and physically-settled transactions on the
markets of ISO NE and NYISO to benefit non-ISO swap positions. After
receiving two anonymous hotline tips, FERC was alerted to
potentially problematic trading after detecting successive losses by
Constellation in their virtual and physical bids on the NYISO.
Constellation agreed to pay a fine of $135,000,000 and disgorge
$110,000,000 in unjust profits. See Order approving stipulation and
agreement, Docket No. IN12-7-000, 138 FERC ] 61,168.
---------------------------------------------------------------------------
Petitioners represent that they have adequate staff and IT
resources to conduct market surveillance.\293\ Each Petitioner follows
a similar market design which allows for price discovery at thousands
of nodes and paths in short time intervals (every five to fifteen
minutes) in both the Real-Time and Day-Ahead markets.\294\ The MMUs
look
[[Page 52158]]
for manipulative behavior and market power, as well as market flaws
(such as persistent non-convergence of Day-Ahead and Real-Time prices),
which are fed back into a stakeholder process for changing the market
structure and rules.\295\
---------------------------------------------------------------------------
\293\ See Petition at 126-150.
\294\ See generally Petition Attachments at 247-258.
\295\ See generally id. at 126-150.
---------------------------------------------------------------------------
Based on the Petitioners' representations regarding the
surveillance carried out by the MMUs for each Petitioner and the method
by which the Day-Ahead and Real-Time auctions are conducted, it appears
that Petitioners' policies and procedures to mitigate the
susceptibility of Energy Transactions to manipulation are congruent
with, and sufficiently accomplish, the regulatory objectives of SEF
Core Principle 3 in the context of Petitioners' activities with respect
to the Energy Transactions. The Commission seeks comment with respect
to this preliminary conclusion.
b. Financial Transmission Rights (``FTRs'')
Based upon the Petitioners' representations, the Commission
understands FTRs to be cash-settled contracts that entitle the holder
to a payment equal to the difference in the price of electricity
between two specific nodes.\296\ The difference in price between the
two nodes represents the settlement price. The price at each node is
established through auctions conducted on the Day-Ahead market of each
Petitioner.\297\ As discussed above, the Commission has made a
preliminary determination that the Real-Time and Day-Ahead markets on
Petitioners' platforms appear to be consistent with SEF Core Principle
3.
---------------------------------------------------------------------------
\296\ See Petition at 6.
\297\ See, e.g., Petition Attachments at 252.
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As previously discussed, both the Petitioners and their respective
MMUs conduct market surveillance of both the Real-Time and Day-Ahead
markets to identify manipulation of the price of electricity. In the
event unusual trading activity is detected by the Petitioners' MMUs,
the MMUs will immediately contact FERC, or PUCT in the case of ERCOT,
so that an investigation into the unusual activity may begin.\298\
Although the price of FTRs may be altered by the manipulation of the
Real-Time or Day-Ahead markets, FERC requires that the Petitioners have
systems to monitor for such activity.
---------------------------------------------------------------------------
\298\ See generally Petition Attachments at 128-150.
---------------------------------------------------------------------------
The Commission believes that the Petitioners' policies and
procedures should mitigate the susceptibility of FTRs to manipulation
and that they are congruent with, and sufficiently accomplish, the
regulatory objectives of SEF Core Principle 3 in the context of
Petitioners' activities with respect to FTRs. The Commission seeks
comment with respect to this preliminary conclusion.
In addition to the Petitioners' policies and procedures for the
detection of manipulative behavior in connection with FTRs, the
Commission notes that since an FTR holder is entitled to a payment
based on the price difference between two nodes, and not the physical
delivery of electricity, it may be the case that FTRs are difficult to
use to manipulate the price of electricity. For instance, the size of a
participant's FTR position should not affect the price of electricity
established on the Petitioners' Real-Time and Day-Ahead markets and
holding an FTR does not provide a means to limit the deliverable supply
of electricity. The Commission seeks comment on this evaluation and
whether it should be considered in analyzing FTRs under SEF Core
Principle 3.
c. Capacity and Reserve Transactions
Both Capacity and Reserve Transactions are entered into pursuant to
auctions carried out by each of the Petitioners.\299\ However, unlike
the auctions for the Real-Time and Day-Ahead markets, the auctions for
capacity and reserve transactions simply allow each Petitioner to
accept bids submitted by market participants that have the ability to
inject electricity into the Petitioner's electricity transmission
system.\300\
---------------------------------------------------------------------------
\299\ See Petition at 7-9.
\300\ See Petition at 7-9.
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The Commission notes that the Petitioners would apply the same
oversight policies and procedures to Capacity and Reserve Transactions
that they apply to Energy Transactions and FTRs. The Commission
believes that these measures appear to be consistent with, and to
accomplish sufficiently, the regulatory objectives of SEF Core
Principle 3 in the context of Petitioners' activities with respect to
Capacity and Reserve Transactions. The Commission seeks comment with
respect to this preliminary conclusion.
The Commission also seeks comment on whether the auction procedures
used in connection with Capacity and Reserve Transactions could reduce
the likelihood for manipulation of such agreements due to the fact that
the Petitioners themselves are the only possible counterparty during
each auction. For example, when CAISO conducts an auction for
Generation Capacity, it is the only party that would enter into the
agreement with a CAISO market participant capable of providing the
contracted for electricity. CAISO would then call upon the Capacity and
Reserve Transaction counterparties to inject electricity into the
system when the technical requirements of operating the transmission
system deem injection necessary. Accordingly, Capacity and Reserve
Transactions seem to be distinguishable from FTRs or Energy
Transactions in that they are used exclusively for operational
maintenance of the electric transmission system, and not as a means of
reducing exposure to price volatility, arbitrage or price discovery.
The Commission seeks comment on this analysis of Capacity and Reserve
Transactions and whether it should be considered in the Commission's
review of these instruments under SEF Core Principle 3.
4. SEF Core Principle 4: Monitoring of Trading and Trade Processing
SEF Core Principle 4 requires a SEF to establish and enforce rules
or terms and conditions defining trading procedures to be used in
entering and executing orders traded on or through the SEF and
procedures for the processing of swaps on or through the SEF.\301\ SEFs
are also required to establish a system to monitor trading in swaps to
prevent manipulation, price distortion and disruptions of the delivery
or cash settlement process through surveillance, compliance and
disciplinary practices and procedures. The main goal of this Core
Principle is to monitor trading activity to detect or deter market
participants from manipulating the price or deliverable supply of a
commodity.
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\301\ 7 U.S.C. 7b-3(f)(4).
---------------------------------------------------------------------------
a. Energy Transactions
Generally, the Petitioners have tariffs in place that list how
Energy Transactions are to be entered into the trading platform.\302\
Using these procedures, MMUs are able to track the Energy Transactions
submitted by market participants and identify trading activity that
could be manipulative. As a result, Petitioners' policies and
procedures regarding monitoring of trading and trade processing appear
to be consistent with, and to accomplish sufficiently, the regulatory
objectives of SEF Core Principle 4 in the context of Petitioners'
activities with respect to Energy Transactions. The Commission
[[Page 52159]]
seeks comment with respect to this preliminary conclusion.
---------------------------------------------------------------------------
\302\ See generally Petition Attachments at 260-269.
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b. FTRs
The process by which the FTR allocation and auction takes place
provides the Petitioners with a basic system that allows the
Petitioners to determine which market participants hold FTRs. According
to the Petitioners' tariffs, LSEs applying for FTRs during the
allocation phase must first establish that they are in fact exposed to
load levels for the transmission lines on which they will transmit
electricity.\303\ Once an LSE has demonstrated such exposure, they will
be allowed to participate in the FTR allocation. The FTRs are allocated
to each LSE in direct relation to the level of exposure to which the
LSEs are subject.\304\ This process of determining congestion exposure
and allocating FTRs in relation to that exposure ensures that
Petitioners will have a record of the number of FTRs held by each
member.
---------------------------------------------------------------------------
\303\ See generally id.
\304\ See id.
---------------------------------------------------------------------------
During the auction and secondary market phases, the Petitioners
also have systems in place to track which participants hold FTRs.
During the auction phase, any credit-worthy member of the RTO or ISO
may bid on FTRs. Since the auctions are conducted on the Petitioners'
platforms, they will have records of which market participants hold
FTRs after the auctions. Once an auction is complete, credit-worthy
members may then engage in bilateral transactions to trade FTRs. Again,
Petitioners have implemented systems to track these bilateral
transactions between FTR holders. Once a bilateral transaction is
reported, the Petitioner then performs a credit check to ensure that
the new owner of the FTR has the financial capability to assume the
risk posed by ownership of the FTR.\305\ The Petitioners do not perform
an analysis to determine whether a member is obtaining a large position
in the secondary FTR market. The Petitioners only identify which
members hold FTRs in the secondary market.
---------------------------------------------------------------------------
\305\ See id. at 2-20.
---------------------------------------------------------------------------
Based on the foregoing representations, it appears that the
Petitioners' policies and procedures regarding the monitoring of
trading and trade processing are consistent with, and to accomplish
sufficiently, the regulatory objectives of SEF Core Principle 4 in the
context of Petitioners' activities with respect to FTRs. The Commission
seeks comment with respect to this preliminary conclusion.
c. Capacity and Reserve Transactions
As discussed above, the auction process used for Capacity and
Reserve Transactions differs from the process used in the Real-Time and
Day-Ahead markets. Furthermore, Capacity and Reserve Transactions are
not used to limit exposure to price volatility, discover prices or
engage in arbitrage. The transactions are predominantly bilateral
agreements between each Petitioner and certain of that Petitioner's
market participants for the provision of electricity in order to meet
the technical requirements necessary to operate the electric
transmission system. The contracts are not readily susceptible to
manipulation and there is no market trading that must be monitored to
prevent manipulation or congestion of the physical delivery market. As
a result, the Petitioners' policies and procedures regarding the
monitoring of trading and trade processing appear to be consistent
with, and to accomplish sufficiently, the regulatory objectives of SEF
Core Principle 4 in the context of Petitioners' activities with respect
to Capacity and Reserve Transactions. The Commission seeks comment with
respect to this preliminary conclusion.
5. SEF Core Principle 5: Ability To Obtain Information
SEF Core Principle 5 requires a SEF to establish and enforce rules
that will allow it to obtain any necessary information to perform the
functions described in section 733 of the Dodd-Frank Act, provide
information to the Commission upon request, and have the capacity to
carry-out such international information-sharing agreements as the
Commission may require.\306\ As discussed above,\307\ each Petitioner
represents that it has rules in place that require market participants
to submit information to Petitioners upon request so that Petitioners
may conduct investigations and provide or give access to such
information to their market monitors and FERC or PUCT, as
applicable.\308\ On the basis of these representations, it appears that
Petitioners' practices are consistent with, and sufficiently
accomplish, the regulatory goals of SEF Core Principle 5. The
Commission seeks comment with respect to this preliminary
determination.
---------------------------------------------------------------------------
\306\ 7 U.S.C. 7b-3(f)(5).
\307\ See generally the discussions in sections V.D.10. and
V.D.13. supra.
\308\ See generally Petition Attachments at 271-276.
---------------------------------------------------------------------------
6. SEF Core Principle 6: Position Limits or Accountability
SEF Core Principle 6 requires SEFs that are trading facilities, as
that term is defined in CEA section 1a(51), to establish position
limits or position accountability for speculators, as is necessary and
appropriate, for each swap traded on the SEF in order to prevent or
reduce the potential threat of market manipulation or congestion,
especially during trading in the delivery month.\309\ While the markets
administered by Petitioners are subject to MMUs (as discussed above in
section IV.C.), Petitioners do not have position limits or position
accountability thresholds for speculators in order to reduce the
potential threat of market manipulation or congestion. The Commission
specifically requests comment as to whether the lack of position limits
or position accountability thresholds for speculators in Petitioners'
markets, given the nature of their markets and market participants, and
the other regulatory protections applicable to these markets as
described herein, would prevent the Commission from determining that
the Proposed Exemption is consistent with the public interest and the
purposes of the CEA.
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\309\ Further Definition of `Swap Dealer,' `Security-Based Swap
Dealer,' `Major Swap Participant,' `Major Security-Based Swap
Participant' and `Eligible Contract Participant,' 77 FR 30596, May
23, 2012.
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7. SEF Core Principle 7: Financial Integrity of Transactions
SEF Core Principle 7 requires a SEF to establish and enforce rules
and procedures for ensuring the financial integrity of swaps entered on
or through the facilities of the SEF, including the clearance and
settlement of swaps pursuant to section 2(h)(1) of the CEA.
a. Risk Management Requirements and Credit Policies
Petitioners represent that they ensure the financial integrity of
transactions that are entered on or through their markets through the
risk management requirements and credit policies that apply to their
market participants.\310\ In addition to minimum capitalization
requirements, Petitioners represent that they all have in place, or are
in the process of implementing, risk management policies and procedures
and internal controls appropriate to their trading activities in the
RTO and ISO markets in which they
[[Page 52160]]
participate.\311\ Petitioners further represent that they require a
responsible officer of the market participant to certify, on an annual
basis, that the market participant has in place risk management
policies, procedures and internal controls appropriate to its trading
activities.\312\ Moreover, several Petitioners represent that they have
proposed verification programs that confirm that participants who pose
significant risks to the markets in which they participate have in
place adequate risk management policies and internal controls.\313\
---------------------------------------------------------------------------
\310\ See Petition at 18-21; see Petition Attachments at 285-
291.
\311\ See Petition at 20; see, e.g., Petition Attachments at 22-
24, 27, 33, 37.
\312\ See Petition at 20; see Petition Attachments at 22, 28,
35, 37, 44, 47-48.
\313\ See Petition at 20; see, e.g., Petition Attachments at 23,
27, 44, 50.
---------------------------------------------------------------------------
In terms of credit policies, Petitioners represent that they have
established ``comprehensive and integrated'' credit policies to manage
credit risk and protect the financial integrity of transactions with
market participants.\314\ In addition, Petitioners represent that FERC
Order 741 placed additional risk management and credit requirements on
RTOs and ISOs.\315\
---------------------------------------------------------------------------
\314\ See Petition at 18; see, e.g., Petition Attachments at 22,
25, 30-31, 39-43, 283.
\315\ See Petition at 19. Such additional requirements include
(a) limiting the amount of unsecured credit extended to any market
participant to no more than $50 million; (b) adopting a billing
period of no more than seven days and allowing a settlement period
of no more than seven days; (c) eliminating unsecured credit in the
financial transmission rights market; (d) establishing a single
counterparty to all market participant transactions, or requiring
each market participant to grant a security interest to the RTO or
ISO in the receivables of its transactions, or providing another
method of supporting netting; (e) limiting the time period by which
a market participant must cure a collateral call to no more than two
days; (f) requiring minimum participant criteria for market
participants to be eligible to participate in the markets; and (g)
requiring additional collateral due to a material adverse change.
See 18 CFR 35.47.
---------------------------------------------------------------------------
b. Minimum Financial Standards and Ongoing Monitoring for Compliance
In addition, based on Petitioners' representations, it appears that
Petitioners' policies and procedures include minimum financial
standards \316\ and creditworthiness standards \317\ for their market
participants.\318\ Moreover, Petitioners represent that their policies
and procedures, require Petitioners to monitor, on an ongoing basis,
their market participants for compliance with such standards.\319\
---------------------------------------------------------------------------
\316\ See, e.g., Petition Attachments at 30. Some Petitioners
required market participants to demonstrate and maintain certain
minimum financial requirements including an investment-grade credit
rating documented by reports of a credit reporting agency, tangible
net-worth threshold, total asset threshold, a certain current ratio,
or a certain debt to total capitalization ratio. See, e.g., Petition
Attachments at 26, 33-34, 37, 43. In certain instances, the minimum
financial standards for market participants are scalable to the RTO
and ISO markets in which they participate. See, e.g., Petition
Attachments at 26, 31. The proposed rule regarding minimum financial
standards also requires at a minimum, that members qualify as an
eligible contract participant as defined by the CEA. The Commission
notes that ISO NE has represented that it has market participants
that may not meet the definition of eligible contract participant,
but are ``appropriate persons'' for purposes of the 4(c) exemption.
See Petition Attachments at 30. The Commission proposes to condition
the granting of the 4(c) request on all parties to the agreement,
contract or transaction being ``appropriate persons,'' as defined
sections 4(c)(3)(A) through (J) of the Act or ``eligible contract
participants'' as defined in section 1a(18)(A) of the Act and in
Commission regulation 1.3(m). See provision 2.B. of the Proposed
Exemption.
\317\ See Petition at 18; see, e.g., Petition Attachments at 22,
31, 39.
\318\ See, e.g., Petition Attachments at 27, 30, 35, 84.
\319\ See Petition Attachments at 56-92.
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c. Establishment of a Central Counterparty
As discussed in section V.C. above, FERC regulation 35.47(d)
requires RTOs and ISOs to (1) establish a single counterparty to all
market participant transactions, (2) require each market participant to
grant a security interest in the receivables of its transactions to the
relevant RTO or ISO, or (3) provide another method of supporting
netting that provides a similar level of protection to the market that
is approved by FERC.\320\ Petitioners have represented that they either
are, or plan on becoming, central counterparties.\321\
---------------------------------------------------------------------------
\320\ 18 CFR 35.47(d).
\321\ See FERC Order 741 Implementation Chart at 5-6; See
generally Petition at 19.
---------------------------------------------------------------------------
As described in section V.D.4.g. above, the Commission is proposing
to require that each Petitioner submit a well-reasoned legal memorandum
from, or a legal opinion of, outside counsel that, in the Commission's
sole discretion, provides the Commission with adequate assurance that
the approach selected by the Petitioner will in fact provide the
Petitioner with set-off rights in a bankruptcy proceeding. In addition,
the Commission is requesting comment on whether ERCOT should be
obligated to comply with the requirements of FERC regulation 35.47(d).
d. Conclusion
Issues regarding risk management requirements, financial standards,
and the use of a central counterparty are also addressed within the
context of DCO Core Principle D. The Commission's preliminary
conclusion that Petitioners policies and procedures are congruent with,
and sufficiently accomplish, the regulatory objectives of Core
Principle D in the context of the Petitioners' activities with respect
to the Transactions is relevant in considering SEF Core Principle 7.
Based on the foregoing analysis, including the representations of
the Petitioners, Petitioners' policies and procedures appear to be
consistent with, and to accomplish sufficiently, the regulatory
objectives of SEF Core Principle 7 in the context of Petitioners'
activities with respect to the Transactions. The Commission seeks
comment with respect to this preliminary conclusion.
8. SEF Core Principle 8: Emergency Authority
SEF Core Principle 8 requires that SEFs adopt rules to provide for
the exercise of emergency authority.\322\ A SEF should have procedures
and guidelines for decision-making and implementation of emergency
intervention in the market. A SEF should have the authority to perform
various actions, including without limitation: liquidating or
transferring open positions in the market, suspending or curtailing
trading in any swap, and taking such market actions as the Commission
may direct. In addition, SEFs must provide prompt notification and
explanation to the Commission of the exercise of emergency
authority.\323\
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\322\ 7 U.S.C. 7b-3(f)(8).
\323\ Core Principles and Other Requirements for Swap Execution
Facilities, 76 FR 1229, proposed Jan. 7, 2011.
---------------------------------------------------------------------------
Petitioners represent that their Tariffs generally provide a wide
range of authorities to address emergency situations.\324\ Certain
Petitioners have the ability to close out and liquidate all of a market
participant's current and forward FTR positions if the market
participant no longer meets creditworthiness requirements, or fails to
make timely payment when due, in each case following any opportunity
given to cure the deficiency.\325\ Other Petitioners have the authority
to suspend trading in their markets.\326\
---------------------------------------------------------------------------
\324\ See Petition Attachments at 293-298.
\325\ See, e.g., id. at 293-295, 298.
\326\ See, e.g., id. at 296-297.
---------------------------------------------------------------------------
Just as the SEFs have rules in place that require them to take
emergency actions to protect the markets by ``including imposing or
modifying position limits, imposing or modifying price limits, imposing
or modifying intraday market restrictions, imposing special margin
requirements, ordering the liquidation or transfer of open positions in
any contract, ordering the fixing of a settlement price,'' one
[[Page 52161]]
Petitioner represents that it may take actions to protect its markets
by postponing the closure of affected markets, removing bids that have
previously resulted in market disruptions, setting an administrative
price to settle metered supply, or demanding, suspending or limiting
the ability of scheduling coordinators to submit Energy
Transactions.\327\
---------------------------------------------------------------------------
\327\ Petition Attachments at 293 (CAISO).
---------------------------------------------------------------------------
Based on the foregoing representations, it appears that
Petitioners' policies and procedures regarding the exercise of
emergency authority are congruent with, and sufficiently accomplish,
the regulatory objectives of SEF Core Principle 8 in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
9. SEF Core Principle 9: Timely Publication of Trading Information
SEF Core Principle 9 requires a SEF to make public timely
information on price, trading volume, and other data on swaps to the
extent prescribed by the Commission.\328\ In addition, SEFs are
required to have the capacity to electronically capture and transmit
trade information with respect to transactions executed on the
SEF.\329\
---------------------------------------------------------------------------
\328\ 7 U.S.C. 7b-3f(9)(A).
\329\ 7 U.S.C. 7b-3f(9)(B).
---------------------------------------------------------------------------
Petitioners represent that their Tariffs generally require the
timely publication of trading information.\330\ Petitioners regulated
by FERC also assert that they are able to publicly release market
operations and grid management information using their Open Access
Same-Time Information System (OASIS) program.\331\ This system
transmits information which includes market results, the market
clearing price and volume.\332\ Similarly, ERCOT's protocols require
them to disseminate information which relates to market operations,
prices, availability of services and the terms and conditions of the
FTRs.\333\
---------------------------------------------------------------------------
\330\ See Petition Attachments at 300-305.
\331\ See id. at 300, 302-305.
\332\ See id.
\333\ See Petition Attachments at 177-178.
---------------------------------------------------------------------------
Based on the foregoing representations, it appears that
Petitioners' policies and procedures regarding the publication of
trading information are congruent with, and sufficiently accomplish,
the regulatory objectives of SEF Core Principle 9 in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
10. SEF Core Principle 10: Recordkeeping and Reporting
SEF Core Principle 10 requires a SEF to maintain records of all
activity relating to the business of the SEF, report such information
to the Commission and to keep swaps information open to inspection by
the Commission.\334\ Petitioners represent that their Tariffs require
their market participants to provide Petitioners with information on a
regular and ad hoc basis.\335\ Petitioners further represent that they
are required to comply with FERC or PUCT regulations, as applicable,
regarding the maintenance of information by public utilities.\336\
---------------------------------------------------------------------------
\334\ 7 U.S.C. 7b-3(f)(10).
\335\ See generally Petition at 307-312.
\336\ See, e.g., id. at 309.
---------------------------------------------------------------------------
Based on the Petitioners representations and the discussion
regarding DCO Core Principles J and K above,\337\ it appears that these
practices are congruent with, and sufficiently accomplish the
regulatory objectives of SEF Core Principle 10 in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
---------------------------------------------------------------------------
\337\ See the discussions in sections V.D.10. and V.D.11. supra.
---------------------------------------------------------------------------
11. SEF Core Principle 11: Antitrust Considerations
SEF Core Principle 11 prevents a SEF from adopting any rule or
taking any action that results in any unreasonable restraint of trade,
or imposes any material anticompetitive burden, unless necessary or
appropriate to achieve the purposes of the Act.\338\ As discussed
above, FERC established the RTO/ISO system to promote competition in
the electricity market.\339\ Petitioners represent that their rates,
terms and conditions of service are subject to the oversight, review
and acceptance of FERC or PUCT, as applicable.\340\ Petitioners further
represent that FERC or PUCT and their MMUs review trading activity to
identify anticompetitive behavior.\341\
---------------------------------------------------------------------------
\338\ 7 U.S.C. 7b-3(f)(11).
\339\ See FERC Order Nos. 888 and 2000. See also the discussion
in section V.D.14. supra.
\340\ See generally Petition Attachments at 192-198.
\341\ See generally id.
---------------------------------------------------------------------------
Based on Petitioners' representations and the discussion of DCO
Core Principle N above,\342\ it appears that Petitioners' existence and
practices are congruent with, and sufficiently accomplish, the
regulatory objectives of SEF Core Principle 11 in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment on this preliminary conclusion.
---------------------------------------------------------------------------
\342\ See also the discussion in section V.D.14. supra.
---------------------------------------------------------------------------
12. SEF Core Principle 12: Conflicts of Interest
SEF Core Principle 12 requires a SEF to establish and enforce rules
to minimize conflicts of interest and establish a process for resolving
conflicts of interest.\343\ As discussed above, FERC Order No. 888
requires ISOs to adopt or enforce strict conflict of interest
policies.\344\ Similarly, FERC Order No. 2000 requires RTOs to be
independent of any market participant, and to include in their
demonstration of independence that the RTO, its employees, and any non-
stakeholder directors do not have financial interests in any market
participant.\345\ Each Petitioner represents that it has either
established codes of conduct, which include conflict of interest rules,
for employees and members of the Board of Directors \346\ or
implemented specific policies and procedures to mitigate conflicts of
interest.\347\ Based on Petitioners' representations and the discussion
of DCO Core Principle P above,\348\ it appears that Petitioners'
conflict of interest policies and the requirements to which the
Petitioners are subject are congruent with, and sufficiently
accomplish, the regulatory objectives of SEF Core Principle 12 in the
context of Petitioners' activities with respect to the Transactions.
The Commission seeks comment with respect to this preliminary
conclusion.
---------------------------------------------------------------------------
\343\ 7 U.S.C. 7b-3(f)(12).
\344\ See FERC Order No. 888 at 281.
\345\ See FERC Order No. 2000 at 709; 18 CFR 35.34(j)(1).
\346\ See Petition Attachments at 210, 213-216, 321, 324-326.
\347\ See id. at 211, 322.
\348\ See the discussion in section V.D.16. supra.
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13. SEF Core Principle 13: Financial Resources
SEF Core Principle 13 requires a SEF to have adequate financial,
operational and managerial resources to discharge each responsibility
of the SEF.\349\ In addition, the financial resources of a SEF are
considered to be adequate if the value of the financial resources
exceeds the total amount that would enable the SEF to cover the
operating costs of the SEF for a 1-year period, as calculated on a
rolling basis.\350\
---------------------------------------------------------------------------
\349\ 7 U.S.C. 7b-3(f)(13)(A).
\350\ 7 U.S.C. 7b-3(f)(13)(B).
---------------------------------------------------------------------------
Petitioners represent that they have rules in place that allow them
to collect revenue from market participants
[[Page 52162]]
sufficient for each of their operations.\351\ Petitioners further
represent to have adequate managerial resources to operate their
systems.\352\ As discussed above, FERC Order No. 888 requires RTOs to
have appropriate incentives for efficient management and
administration.\353\ Each Petitioner represents that it has sufficient
staff necessary for its operations.\354\
---------------------------------------------------------------------------
\351\ See Petition Attachments at 3-4, 6, 8-10, 13, 16, 20, 328-
333.
\352\ See id. at 3, 7-8, 10, 13, 16, 18-19.
\353\ See supra n. 86 and accompanying text.
\354\ See Petition Attachments at 3, 7, 12, 13, 16-17, 18-19,
335-340. See also analysis under DCO Core Principle B.
---------------------------------------------------------------------------
Based on Petitioners' representations and the discussion regarding
DCO Core Principle B above,\355\ it appears that Petitioners' practices
are congruent with, and sufficiently accomplish, the regulatory
objectives of SEF Core Principle 13 in the context of Petitioners'
activities with respect to the Transactions. The Commission seeks
comment with respect to this preliminary conclusion.
---------------------------------------------------------------------------
\355\ See the discussion in section V.D.2. supra.
---------------------------------------------------------------------------
14. SEF Core Principle 14: System Safeguards
SEF Core Principle 14 requires a SEF to establish and maintain a
program of risk analysis and oversight to identify and minimize sources
of operational risk, through the development of appropriate controls
and procedures, and automated systems, that are reliable and secure,
and have adequate scalable capacity.\356\ Moreover, a SEF must
establish and maintain emergency procedures, backup facilities, and a
plan for disaster recovery that allows for the timely recovery and
resumption of operations, and the fulfillment of the responsibilities
and obligations of the SEF.\357\ The SEF must also conduct tests to
verify that the backup resources of the SEF are sufficient to ensure
continued order processing and trade matching, price reporting, market
surveillance, and maintenance of a comprehensive and accurate audit
trail.\358\
---------------------------------------------------------------------------
\356\ 7 U.S.C. 7b-3(f)(14)(A).
\357\ 7 U.S.C. 7b-3(f)(14)(B).
\358\ 7 U.S.C. 7b-3(f)(14)(C).
---------------------------------------------------------------------------
Petitioners represent that they have a program of risk analysis and
oversight to identify and minimize sources of operational risk through
the development of appropriate controls and procedures; reliable
automated systems; and emergency procedures.\359\ Indeed, Petitioners
are responsible for managing power reliably and, thus, require
additional operational safeguards to specifically address that
function.\360\
---------------------------------------------------------------------------
\359\ See generally Petition Attachments at 152-158, 333-340.
\360\ See supra n. 230 and accompanying text.
---------------------------------------------------------------------------
Petitioners represent that they have computer systems that
incorporate adequate business continuity and disaster recovery
functionality.\361\ Some Petitioners state that they maintain offsite
backup computer systems fully able to operate in the event the primary
system fails \362\ whereas other Petitioners state that they operate
two control centers and/or two data centers in which each center is
functionally capable of operating as the primary center.\363\ Some
Petitioners further state that they conduct testing of emergency
procedures and system components on a regular basis to ensure that
mission critical processes and vital records are recoverable, as well
as the readiness of backup facilities and personnel.\364\
---------------------------------------------------------------------------
\361\ See Petition Attachments at 152-158, 333-339.
\362\ See id. at 152, 155-157.
\363\ See id. at 153, 158. Certain Petitioners maintain
alternate operational control centers in addition to offsite backup
computer systems and data centers. See id. at 155-157.
\364\ See id. at 152, 154, 156, 158.
---------------------------------------------------------------------------
Based on Petitioners' representations and the discussion regarding
DCO Core Principle I above,\365\ it appears that Petitioners' practices
are congruent with, and sufficiently accomplish, the regulatory
objectives of SEF Core Principle 14 in the context of Petitioners'
activities with respect to the Transactions. The Commission seeks
comment with respect to this preliminary conclusion.
---------------------------------------------------------------------------
\365\ See also the discussion in section V.D.8. supra.
---------------------------------------------------------------------------
15. SEF Core Principle 15: Designation of Chief Compliance Officer
SEF Core Principle 15 requires that a SEF designate an individual
as Chief Compliance Officer, with specific delineated duties.\366\ The
Chief Compliance Officer for a SEF would be responsible for reporting
to the board and ensuring that the SEF is in compliance with the SEF
rules. Each Petitioner represents that it has a Chief Compliance
Officer \367\ or the functional equivalent of such a position.\368\
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\366\ See 7 U.S.C. 7b-3(f)(15). designation of chief compliance
officer.--
(A) IN GENERAL.--Each swap execution facility shall designate an
individual to serve as a chief compliance officer.
(B) DUTIES.--The chief compliance officer shall--
(i) report directly to the board or to the senior officer of the
facility;
(ii) review compliance with the core principles in this
subsection;
(iii) in consultation with the board of the facility, a body
performing a function similar to that of a board, or the senior
officer of the facility, resolve any conflicts of interest that may
arise;
(iv) be responsible for establishing and administering the
policies and procedures required to be established pursuant to this
section;
(v) ensure compliance with this Act and the rules and
regulations issued under this Act, including rules prescribed by the
Commission pursuant to this section; and
(vi) establish procedures for the remediation of noncompliance
issues found during compliance office reviews, look backs, internal
or external audit findings, self-reported errors, or through
validated complaints.
\367\ See Petition Attachments at 342-346.
\368\ PJM has two compliance heads who coordinate closely but
are separately responsible for compliance in the following two
distinct areas: (1) compliance with regulatory and legal
obligations; and (2) compliance with reliability standards as
promulgated by the regional reliability counsels, NERC and FERC.
Regulatory and legal compliance addresses legal obligations,
including compliance with the PJM Tariff, FERC regulations and laws,
and regulations governing other corporate matters, such as
antitrust, human resources and procurement. Regulatory and legal
compliance is handled in the Office of General Counsel, by an
Assistant General Counsel and Director of Regulatory Oversight and
Compliance. Reliability compliance addresses the security of the
grid, both operationally and from any cyber threat. This function is
handled in the area of operations and the Executive Director of
Reliability and Compliance reports directly to the senior vice
president for operations. All compliance functions (both reliability
and regulatory) are coordinated through PJM's Regulatory Oversight &
Compliance Committee (``ROCC''). The ROCC is chaired by the
Assistant General Counsel who has reporting obligations to the CEO
and a direct line to the Board's Governance Committee and Audit
Committee. See Petition Attachments at 347.
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Based on the Petitioners' representations, it appears that
Petitioners' practices are congruent with, and sufficiently accomplish,
the regulatory objectives of SEF Core Principle 15 in the context of
Petitioners' activities with respect to the Transactions. The
Commission seeks comment with respect to this preliminary conclusion.
VIII. Proposed Exemption
A. Discussion of Proposed Exemption
Pursuant to the authority provided by section 4(c)(6) of the
CEA,\369\ in accordance with CEA sections 4(c)(1) and (2), and
consistent with the Commission's determination that the statutory
requirements for granting an exemption pursuant to section 4(c)(6) of
the Act have been satisfied, the Commission is proposing to issue the
exemption described in the Proposed Exemption set forth below. The
Proposed Exemption would exempt, subject to the limitations and
conditions contained therein, the purchase and sale of certain
electricity-related products, including specifically-defined
``financial transmission rights,'' ``energy transactions,'' ``forward
capacity transactions,'' and ``reserve or regulation transactions,''
from most provisions of
[[Page 52163]]
the CEA. The Commission is proposing to explicitly exclude from the
exemption relief the Commission's general anti-fraud, anti-manipulation
and enforcement authority under the CEA including, but not limited to,
CEA sections 2(a)(1)(B), 4b, 4c(b), 4o, 4s(h)(1)(A), 4s(h)(4)(A), 6(c),
6(d), 6(e), 6c, 6d, 8, 9 and 13 and any implementing regulations
promulgated thereunder including, but not limited to Commission
regulations 23.410(a) and (b), 32.4 \370\ and part 180.\371\ The
preservation of the Commission's anti-fraud and anti-manipulation
authority provided by these provisions generally is consistent with
both the scope of the exemption requested in the Petition \372\ and
recent Commission practice.\373\
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\369\ 7 U.S.C. 6(c).
\370\ 17 CFR 23.410(a)-(b), 32.4 and part 180.
\371\ 17 CFR part 180.
\372\ See Petition at 33-34. Petitioners requested relief from
``all provisions of the Act and Commission regulations, except in
each case sections 4b, 4o, 6(c) and 9(a)(3) of the Act to the extent
that these sections prohibit fraud in connection with transactions
subject to the Act, or manipulation of the price of any swap or
contract for the sale of a commodity in interstate commerce or for
future delivery on or subject to the rules of a registered entity,
and from the requirement to provide information to the Commission as
expressly permitted by their respective protocols or as provided
under section 720 of the Dodd-Frank Wall Street Reform and Consumer
Protection Act.'' The Proposed Exemption simply would preserve the
Commission's authority under the delineated provisions and their
implementing regulations without caveat, in order to avoid ambiguity
as to what conduct remains prohibited.
\373\ See, e.g., Order (1) Pursuant to Section 4(c) of the
Commodity Exchange Act, Permitting the Kansas City Board of Trade
Clearing Corporation To Clear Over-the-Counter Wheat Calendar Swaps
and (2) Pursuant to Section 4d of the Commodity Exchange Act,
Permitting Customer Positions in Such Cleared-Only Swaps and
Associated Funds To Be Commingled With Other Positions and Funds
Held in Customer Segregated Accounts, 75 FR 34983, 34985 (2010).
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The particular categories of contracts, agreements and transactions
to which the Proposed Exemption would apply correspond to the types of
transactions for which relief was explicitly requested in the
Petition.\374\ Petitioners requested relief for four specific types of
transactions and the Proposed Exemption would exempt those
transactions. With respect to those transactions, the Petition also
included the parenthetical ``(including generation, demand response or
convergence or virtual bids/transactions).'' \375\ The Commission notes
that such transactions would be included within the scope of the
exemption if they would qualify as the financial transmission rights,
energy transactions, forward capacity transactions or reserve or
regulation transactions for which relief is explicitly provided within
the exemption. Petitioners also have requested relief for ``the
purchase and sale of a product or service that is directly related to,
and a logical outgrowth of, any [of Petitioner's] core functions as an
ISO/RTO * * * and all services related thereto.'' \376\ The Commission
has determined that it would be inappropriate, and, accordingly, has
declined to propose that the exemption be extended beyond the scope of
the transactions that are specifically defined in the Proposed
Exemption. As noted above, the authority to issue an exemption from the
CEA provided by section 4(c) of the Act may not be automatically or
mechanically exercised. Rather, the Commission is required to
affirmatively determine, inter alia, that the exemption would be
consistent with the public interest and the purposes of the Act.\377\
With respect to the four groups of transactions explicitly detailed in
the Proposed Exemption, the Commission's proposed finding that the
Proposed Exemption would be in the public interest and would be
consistent with the purposes of the CEA was grounded, in part, on
certain transaction characteristics and market circumstances described
in the Petition that may or may not be shared by other, as yet
undefined, transactions engaged in by the Petitioners or other RTO or
ISO market participants.\378\ Similarly, unidentified transactions
might include novel features or have market implications or risks that
are not present in the specified transactions. Such elements may impact
the Commission's required section CEA 4(c) public interest analysis or
may warrant the attachment of additional or differing terms and
conditions to any relief provided. Due to the potential for adverse
consequences resulting from an exemption that includes transactions
whose qualities and effect on the broader market cannot be fully
appreciated absent further specification, it does not appear that the
Commission can justify a conclusion that it would be in the public
interest to provide an exemption of the full breadth requested. The
Commission notes, however, that it has requested comment on whether the
proposed scope of the exemption is sufficient to allow for innovation
and, if not, how the scope could be expanded, without exempting
products that may be substantially different from those reviewed by the
Commission. The Commission also notes that it stands ready to review
promptly any additional applications for an exemption pursuant to
section 4(c)(6), in accordance with CEA sections 4(c)(1) and (2), of
the CEA for other precisely defined products.\379\
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\374\ Petition at 5-9.
\375\ Id. at 6.
\376\ Id. at 9.
\377\ 7 U.S.C. 6(c).
\378\ For example, the transactions that included with the scope
of the Proposed Exemption appear to be limited to those tied to the
physical capacity of the Petitioners' electricity grids. Petition at
6-8, 11.
\379\ The Commission is currently reviewing two supplemental
petitions. Specifically, ISO NE has filed a supplemental request for
an exemption pursuant to section 4(c)(6) for ``IBT'' Transactions.
See In the Matter of the Application for an Exemptive Order Under
Section 4(c) of the Commodity Exchange Act by ISO New England Inc.
(Apr. 30, 2012), available at http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/iso-ne4crequest.pdf.
CAISO has filed a similar request for ``inter-scheduling coordinator
trades'' or ``inter-SC trades.'' See In the Matter of the
Application for an Exemptive Order Under Section 4(c) of the
Commodity Exchange Act by California Independent System Operator
Corporation (May 30, 2012), available at http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/caiso4crequest.pdf.
---------------------------------------------------------------------------
The scope of the Proposed Exemption is limited by two additional
factors. First, it is restricted to agreements, contracts or
transactions where all parties thereto are either: (1) Entities
described in section 4(c)(3)(A) through (J) of the CEA \380\ or (2)
``eligible contract participants,'' as defined in section 1a(18) of the
Act \381\ or in Commission regulation 1.3(m).\382\ Although Petitioners
have requested an exemption pursuant to section 4(c)(6) of the CEA, any
exemption pursuant to this subsection must be issued in ``in accordance
with'' sections 4(c)(1) and 4(c)(2).\383\ Section 4(c)(2) prohibits the
Commission from issuing an exemption pursuant to section 4(c) unless
the Commission determines that the agreement, contract or transaction
``will be entered into solely between `appropriate persons.' ''
Appropriate persons include those entities explicitly delineated in
sections 4(c)(3)(A) through (J) of the Act as well as others that the
Commission, under the discretionary authority provided by section
4(c)(3)(K), deems to be appropriate persons ``in light of their
financial or other qualifications, or the applicability of appropriate
regulatory protections.'' \384\ As noted above, the Commission has
proposed to determine that eligible contract participants, as defined
in section 1a(18) of the Act or in Commission regulation 1.3(m), should
be considered appropriate persons for purposes of the Proposed
Exemption.\385\ The Commission recognizes that the market participant
eligibility standards
[[Page 52164]]
of an individual RTO or ISO may not be coextensive with the criteria
required by sections 4(c)(3)(A) through (J) or section 1a(18) of the
Act and, therefore, there may be certain RTO or ISO participants
engaging in transactions of the type described in the Proposed
Exemption that would not qualify for the Proposed Exemption. In
particular, the Commission is interested in considering market
participants that ``active[ly] participat[e] in the generation,
transmission or distribution of electricity'' that are not ECPs and do
not fall within CEA section 4(c)(3)(A) through (J), who should
nonetheless be included as appropriate persons pursuant to CEA section
4(c)(3)(K). Accordingly, the Commission has requested comment on
whether the Commission should enlarge the list of appropriate persons
for purposes of the exemption to include other types of entities
identified in the Petition that satisfy alternative criteria. Any
request to include additional entities should be accompanied by a
description of the financial or other qualifications of such entities
or the available regulatory protections that would render them
comparable to the appropriate persons and eligible contract
participants delineated in the Act. The Commission also is interested
in receiving comments addressing whether and how market participants
who satisfy substitute qualifications would be capable of bearing the
risks associated with the relevant markets.
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\380\ 7 U.S.C. 6(c)(3)(A)-(J).
\381\ 7 U.S.C. 1a(18).
\382\ 17 CFR 1.3(m).
\383\ 7 U.S.C. 6(c).
\384\ 7 U.S.C. 6(c)(3).
\385\ See discussion in section V.B.3. supra.
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In order to be eligible for the exemption that would be provided by
the Proposed Exemption, the agreement, contract or transaction also
must be offered or sold pursuant to the ``tariff'' of a ``requesting
party'' and the tariff must have been approved or permitted to take
effect by the PUCT (in the case of ERCOT) or by FERC (in the case of
all other Petitioners). This requirement reflects the range of the
Commission's authority as set forth in section 4(c)(6) \386\ of the CEA
and is consistent with the scope of the relief requested.\387\
``Requesting Party'' is defined to include the six Petitioners (i.e.,
CAISO, ERCOT, ISO NE., MISO, NYSO and PJM) and any of their respective
successors in interest. To account for differences in terminology used
by such entities and their respective regulators, the term ``tariff''
is defined to include a ``tariff, rate schedule or protocol.''
---------------------------------------------------------------------------
\386\ See the discussion in section V.A. supra.
\387\ Petition at 2-3.
---------------------------------------------------------------------------
Consistent with the range of the statutory authority explicitly
provided by CEA section 4(c), the Proposed Exemption would extend the
exemption to the agreements, contracts or transactions set forth
therein and ``any person or class of persons offering, entering into,
rendering advice or rendering other services with respect to'' such
transactions. In addition, for as long as the Proposed Exemption would
remain in effect, each of the six named Petitioners \388\ would be able
to avail themselves of the Proposed Exemption with respect to all four
expressly-identified groups of products, regardless of whether or not
the particular Petitioner offers the particular product at the present
time. That is, a Petitioner would not be required to request future
supplemental relief for a product that it does not currently offer, but
that qualifies as one of the four types of transactions in the Proposed
Exemption. All six Petitioners that filed the consolidated Petition
requested an exemption of the scope provided and the Petition was
analyzed accordingly.\389\ The exemption would not extend, however, to
any RTO or ISO that was not a party to the Petition under consideration
because the Commission has not reviewed the tariffs or business
practices of any other RTO or ISO and, therefore, cannot discern
whether extending the Proposed Exemption to it would be equally
congruent with the public interest and the purposes of the Act. The
Commission has determined to issue one Proposed Exemption in lieu of
the six separate orders requested by Petitioners.\390\ In light of the
fact that there are ``[congruents] in [the Petitioners'] markets and
operations,'' and the fact that the exemption for each will be
coextensive, as requested by the Petitioners,\391\ it would appear that
issuing six separate but identical Proposed Exemptions that raise the
same issues and questions is unnecessary, could result in needlessly
duplicative comments and would be an inefficient use of Commission
resources. Any concerns that the public may have with respect to
providing relief to any particular Petitioner can be adequately
explained in a sole comment on the consolidated Proposed Exemption. The
Commission disagrees with the Petitioners' assertion that distinct
orders are necessary because a solitary order would require each
Petitioner to submit an individual application to obtain supplemental
relief or to amend the relief provided thereby. To the contrary, the
Commission confirms that individual Petitioners (or other entities) may
file individual requests for supplemental exemptions and the Commission
may, consistent with the criteria under CEA section 4(c)(6), issue
further exemptions either individually or in the collective, as
necessary or appropriate and in accordance with the facts and
circumstances presented.\392\ In fact, ISO NE and CAISO have filed
individual requests for supplemental relief that currently are under
review by Commission staff.\393\
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\388\ CAISO, ERCOT, ISO NE., MISO, NYSO and PJM.
\389\ The Requestors note that it is ``reasonable to expect that
each ISO/RTO will, over time, consider offering under its own
individual tariff one or more classes of contract, agreement and
transaction that is currently offered under any other ISO/RTO
tariff,'' and accordingly request that exemption be granted to all
requestors for transactions that are currently offered by any of
them. Petition at 6.
\390\ See Petition at 2.
\391\ See Petition at 6:
``While the ISOs/RTOs operate pursuant to individual tariffs,
they share many commonalities in their markets and operations.
Although the current market structures of the individual ISOs/RTOs
may vary, it is reasonable to expect that each ISO/RTO will, over
time, consider offering under its own individual tariff one or more
classes of contract, agreement or transaction that is currently
offered under any other ISO/RTO tariff. We thus request that each
individual exemptive Order apply collectively to each class of
contract, agreement or transaction provided by the ISOs/RTOs. This
will provide the appropriate breadth to the exemptive Order so that
an individual Requestor will not be required to seek future
amendments to offer or enter into contracts, agreements or
transactions that are currently offered by any other Requestor.''
\392\ Section 4(c) permits the Commission to issue an exemption
``on its own initiative or on application of any person.'' 7 U.S.C.
4(c)(1).
\393\ See In the Matter of the Application for an Exemptive
Order Under Section 4(c) of the Commodity Exchange Act by ISO New
England Inc. (Apr. 30, 2012), available at http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/iso-ne4crequest.pdf. CAISO has filed a similar request for ``inter-
scheduling coordinator trades'' or ``inter-SC trades.'' See In the
Matter of the Application for an Exemptive Order Under Section 4(c)
of the Commodity Exchange Act by California Independent System
Operator Corporation (May 30, 2012), available at http://www.cftc.gov/stellent/groups/public/@requestsandactions/documents/ifdocs/caiso4crequest.pdf.
---------------------------------------------------------------------------
The Proposed Exemption indicates that, when a final order is
issued, it would be made effective immediately. The Commission
proposes, however, three conditions precedent to the issuance of a
final exemption that may be applicable to one or more specific
Petitioners. First, the Commission proposes to refrain from issuing a
final order to a specific RTO or ISO unless the RTO or ISO has adopted
all of requirements set forth in FERC regulation 35.47; \394\ such
tariff provisions have been approved or have been permitted to take
effect by FERC or PUCT, as applicable; and such tariff provisions, have
become effective and have been fully implemented by the particular RTO
or ISO. That is, the Commission is considering requiring
[[Page 52165]]
that any policies and procedures that the RTO or ISO has adopted in
order to comply with the obligations contained in FERC regulation 35.47
be in actual practice. Petitioners note that their structure and
operations are different from the DCOs registered with the
Commission.\395\ However, FERC Regulation 35.47 is a set of credit
policies purpose-built for RTOs and ISOs.
---------------------------------------------------------------------------
\394\ 18 CFR 35.47.
\395\ See Petition Attachments at 1.
---------------------------------------------------------------------------
The Commission's statutorily required determination that the
Proposed Exemption is consistent with the public interest and the
purposes of the Act was supported, in considerable part, on the grounds
that the credit reform policies mandated by FERC regulation 35.47 \396\
were consistent with the regulatory objectives of several of the core
principles applicable to DCOs and the expectation that the Petitioners
regulated by FERC would put those mandates into practice prior to the
issuance of the exemption. Moreover, while ERCOT is not subject to
regulation by FERC, the fact that these mandates were developed
specifically for RTOs and ISOs suggests that holding ERCOT to these
standards may well be appropriate.
---------------------------------------------------------------------------
\396\ 18 CFR 35.47.
---------------------------------------------------------------------------
While all Petitioners have represented that they have fulfilled
certain requirements of FERC regulation 35.47, it appears that material
gaps in complete execution remain.\397\ For example, due to requested
extensions of time for compliance, certain Petitioners have only
recently submitted tariffs to comply with FERC regulation 35.47(d)
(accordingly, the tariffs remain subject to FERC approval) and, in some
cases, full implementation is not expected until 2013.\398\ Because the
implementation of the FERC credit reform policies is central to the
Commission's determination that this exemption is in the public
interest, it may well be that requiring Petitioners to have fully
implemented such reforms prior to the issuance of a final order is
necessary and appropriate.
---------------------------------------------------------------------------
\397\ See generally FERC Order 741 Implementation Chart.
\398\ See, e.g., FERC Order 741 Implementation Chart at 6
(stating that ISO NE submitted a package of tariff changes with FERC
to establish itself as the central counterparty for market
participant transactions. The filing was made with a requested
effective date of January 1, 2013).
---------------------------------------------------------------------------
Second, the Commission proposes as an additional prerequisite to
the issuance of an exemption to an RTO or ISO that the RTO or ISO
provide a well-reasoned legal opinion or memorandum from outside
counsel that, in the Commission's sole discretion, provides the
Commission with assurance that the netting arrangements contained in
the approach selected by the particular Petitioner to satisfy the
obligations contained in FERC regulation 35.47(d) will, in fact,
provide the Petitioner with enforceable rights of setoff against any of
its market participants under title 11 of the United States Code \399\
in the event of the bankruptcy of the market participant.\400\
---------------------------------------------------------------------------
\399\ See 11 U.S.C. 553.
\400\ See text at n. 122 and text at n. 208 supra.
---------------------------------------------------------------------------
There appears to be strong support for the proposition that a
central counterparty structure would achieve the mutuality of
obligation necessary for enforceable rights of setoff for the central
counterparty, and Petitioners have represented that they either are, or
plan on becoming, central counterparties.\401\ The Commission is
concerned, however, that there is some ambiguity as to how individual
Petitioners are interpreting the single counterparty requirement
contained in FERC regulation 35.47(d) and whether the single
counterparty structure chosen by individual Petitioners would provide
enforceable setoff rights. For example, the Petition states that ERCOT
``expects to adopt the central counterparty structure; however, this
structure will not involve clearing, as that term applies to a
designated clearing organization or swaps execution facility (i.e., the
central counterparty does not act as a financial intermediary, nor is
there any novation of transactions to a central counterparty).'' \402\
The Commission shares FERC's goal of ensuring that, in the event of
bankruptcy of a participant, Petitioners are not prohibited from
offsetting accounts receivable against accounts payable. Consistent
with that goal and to mitigate any ambiguity regarding the bankruptcy
protections provided by the central counterparty arrangements adopted
by particular Petitioners, the Commission is proposing to require, as a
prerequisite to the granting of the 4(c) request to a particular
Petitioner, that the Commission be provided with a legal opinion or
memoranda of counsel, applicable to the tariffs and operations of that
Petitioner, that provides the Commission with assurance that the
approach selected by the Petitioner to satisfy the obligations
contained in FERC regulation 35.47(d) will provide the Petitioner with
rights of setoff, enforceable against any of its market participants
under title 11 of the United States Code in the event of the bankruptcy
of the market participant. The Commission would retain sole discretion
to accept or reject the adequacy of the legal opinion or memoranda for
purposes of issuing the exemption. As noted above, the Commission is
seeking comment on the preconditions set forth above and the costs and
benefits thereof.
---------------------------------------------------------------------------
\401\ The Commission also notes that not all of the central
counterparty arrangements proposed by Petitioners have been approved
by their respective regulators and/or become effective and,
accordingly, are potentially subject to change. See, e.g., FERC
Order 741 Implementation Chart at 5-6.
\402\ Petition Attachments at 28.
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Third, the Proposed Exemption would be conditioned, as applicable
to ERCOT, on the completion of an information sharing agreement,
acceptable to the Commission, between the PUCT and the Commission. As
with the 2005 Memorandum of Understanding (``MOU'') between the
Commission and FERC, as discussed below, the Commission would expect
the terms of a CFTC-PUCT MOU to provide that PUCT will furnish
information in its possession to the CFTC upon its request and will
notify the CFTC if any information requested by it is not in PUCT's
possession. As noted above, the Commission is seeking comment on the
preconditions set forth above and the costs and benefits thereof.
The Proposed Exemption also contains certain information-sharing
conditions. First, the Proposed Exemption is expressly conditioned upon
the existing information sharing arrangement between the Commission and
FERC, and, as noted above, the completion of an information sharing
agreement between the Commission and PUCT. The Commission notes that
the CFTC and FERC executed a MOU in 2005 pursuant to which the agencies
have shared information successfully.\403\ The terms of the CFTC-FERC
MOU provide that FERC will furnish information in its possession to the
CFTC upon its request and will notify the CFTC if any information
requested by it is not in FERC's possession.
---------------------------------------------------------------------------
\403\ FERC MOU (Oct. 12, 2005) available at http://www.ferc.gov/legal/maj-ord-reg/mou/mou-33.pdf.
---------------------------------------------------------------------------
The Petitioners recognize the need to be responsive to Commission
requests for information and ``to assist the Commission as necessary in
fulfilling its mission under the Act'' \404\ and Petitioners have
indicated their intent to be responsive to requests for information by
the Commission that will further enable the Commission to perform its
regulatory and enforcement duties.\405\ Petitioners caveat this
assistance, however, by stating that ``certain of the tariffs may
require that
[[Page 52166]]
an ISO/RTO notify its members prior to providing information in
response to a subpoena.'' \406\ This notice requirement could
significantly compromise the Commission's enforcement efforts as there
are likely to be situations where it would be neither prudent nor
advisable for an entity under investigation by the Commission to learn
of the investigation prior to Commission notification to the entity.
Accordingly, the Proposed Exemption includes a second information-
sharing condition that requires that neither the tariffs nor any other
governing documents of the particular RTO or ISO pursuant to whose
tariff the agreement, contract or transaction is to be offered or sold,
shall include any requirement that the RTO or ISO notify its members
prior to providing information to the Commission in response to a
subpoena or other request for information or documentation. The
Commission specifically requests comment on this condition and as to
whether there may be an alternative condition that the Commission might
use to achieve the same result.
---------------------------------------------------------------------------
\404\ Petition at 25.
\405\ Id. at 25-26.
\406\ Id. at 26.
---------------------------------------------------------------------------
Finally, the Proposed Exemption expressly notes that it is based
upon the representations made in the Petition and in the supporting
materials provided to the Commission by the Petitioners and their
counsel and that any material change or omission in the facts and
circumstances pursuant to which the Proposed Exemption is granted might
require the Commission to reconsider its finding that the exemption
contained therein is appropriate and/or in the public interest. The
Commission has also explicitly reserved the discretionary authority, to
suspend, terminate or otherwise modify or restrict the exemption
provided. The reservation of these rights is consistent with prior
Commission practice and is necessary to provide the Commission with the
flexibility to address relevant facts or circumstances as they arise.
B. Proposed Exemption
Consistent with the determinations set forth above, the Commission
hereby proposes to issue the following Order:
Pursuant to its authority under section 4(c)(6), in accordance with
CEA sections 4(c)(1) and (2), of the Commodity Exchange Act (``CEA'' or
Act''), the Commodity Futures Trading Commission (``CFTC'' or
``Commission'').
1. Exempts, subject to the conditions and limitations specified
herein, the purchase or sale of the electricity-related agreements,
contracts, and transactions that are specified in paragraph 2 of this
Order and any person or class of persons offering, entering into,
rendering advice, or rendering other services with respect thereto,
from all provisions of the CEA, except, in each case, the Commission's
general anti-fraud, anti-manipulation and enforcement authority under
the CEA, including, but not limited to, CEA sections 2(a)(1)(B), 4b,
4c(b), 4o, 4s(h)(1)(A), 4s(h)(4)(A), 6(c), 6(d), 6(e), 6c, 6d, 8, 9 and
13 and any implementing regulations promulgated thereunder including,
but not limited to, Commission regulations 23.410(a) and (b), 32.4 and
part 180.
2. Scope. This exemption applies only to agreements, contracts and
transactions that satisfy all of the following requirements:
a. The agreement, contract or transaction is for the purchase and
sale of one of the following electricity-related products:
(1) The ``Financial Transmission Rights'' defined in paragraph 5(a)
of this Order, except that the exemption shall only apply to such
Financial Transmission Rights where:
(a) Each Financial Transmission Right is linked to, and the
aggregate volume of Financial Transmission Rights for any period of
time is limited by, the physical capability (after accounting for
counterflow) of the electricity transmission system operated by a
Requesting Party offering the contract, for such period;
(b) The Requesting Party serves as the market administrator for the
market on which the Financial Transmission Rights are transacted;
(c) Each party to the transaction is a member of the Requesting
Party (or is the Requesting Party itself) and the transaction is
executed on a market administered by that Requesting Party; and
(d) The transaction does not require any party to make or take
physical delivery of electricity.
(2) ``Energy Transactions'' as defined in paragraph 5b of this
Order.
(3) ``Forward Capacity Transactions,'' as defined in paragraph 5c
of this Order.
(4) ``Reserve or Regulation Transactions'' as defined in paragraph
5d of this Order.
b. All parties to the agreement, contract or transaction are
``appropriate persons,'' as defined sections 4(c)(3)(A) through (J) of
the CEA or ``eligible contract participants'' as defined in section
1a(18)(A) of the CEA and in Commission regulation 1.3(m).
c. The agreement, contract or transaction is offered or sold
pursuant to a Requesting Party's tariff and that tariff has been
approved or permitted to take effect by:
(1) In the case of the Electricity Reliability Council of Texas
(``ERCOT''), the Public Utility Commission of Texas (``PUCT'') or
(2) In the case of all other Requesting Parties, the Federal Energy
Regulatory Commission (``FERC'').
3. Applicability to particular regional transmission organizations
(``RTOs'') and independent system operators (``ISOs''). Subject to the
conditions contained in the Order, the Order applies to all Requesting
Parties with respect to the transactions described in paragraph 2 of
this Order.
4. Conditions. The exemption provided by this Order is expressly
conditioned upon the following:
a. Information sharing: With respect to ERCOT, information sharing
arrangements between the Commission and PUCT that are acceptable to the
Commission are executed and continue to be in effect. With respect to
all other Requesting Parties, information sharing arrangements between
the Commission and FERC that are acceptable to the Commission continue
to be in effect.
b. Notification of requests for information: With respect to each
Requesting Party, neither the tariffs nor any other governing documents
of the particular RTO or ISO pursuant to whose tariff the agreement,
contract or transaction is to be offered or sold, shall include any
requirement that the RTO or ISO notify its members prior to providing
information to the Commission in response to a subpoena or other
request for information or documentation.
5. Definitions. The following definitions shall apply for purposes
of this Order:
a. A ``Financial Transmission Right'' is a transaction, however
named, that entitles one party to receive, and obligates another party
to pay, an amount based solely on the difference between the price for
electricity, established on an electricity market administered by a
Requesting Party, at a specified source (i.e., where electricity is
deemed injected into the grid of a Requesting Party) and a specified
sink (i.e., where electricity is deemed withdrawn from the grid of a
Requesting Party). The term ``Financial Transmission Rights'' includes
Financial Transmission Rights and Financial Transmission Rights in the
form of options (i.e., where one party has only the obligation to pay,
and the other party only the right to receive, an amount as described
above).
b. ``Energy Transactions'' are transactions in a ``Day-Ahead
Market''
[[Page 52167]]
or ``Real-Time Market,'' as those terms are defined in paragraphs 5e
and 5f of this Order, for the purchase or sale of a specified quantity
of electricity at a specified location (including ``Demand Response,''
as defined in paragraph 5c(2) of this Order, where:
(1) The price of the electricity is established at the time the
transaction is executed;
(2) Performance occurs in the Real-Time Market by either
(a) Delivery or receipt of the specified electricity, or
(b) A cash payment or receipt at the price established in the Real-
Time Market; and
(3) The aggregate cleared volume of both physical and cash-settled
energy transactions for any period of time is limited by the physical
capability of the electricity transmission system operated by a
Requesting Party for that period of time.
c. ``Forward Capacity Transactions'' are transactions in which a
Requesting Party, for the benefit of load-serving entities, purchases
any of the rights described in subparagraphs (1), (2) and (3) below. In
each case, to be eligible for the exemption, the aggregate cleared
volume of all such transactions for any period of time shall be limited
to the physical capability of the electricity transmission system
operated by a Requesting Party for that period of time.
(1) ``Generation Capacity,'' meaning the right of a Requesting
Party to:
(a) Require certain sellers to maintain the interconnection of
electric generation facilities to specific physical locations in the
electric-power transmission system during a future period of time as
specified in the Requesting Party's Tariff;
(b) Require such sellers to offer specified amounts of electric
energy into the Day-Ahead or Real-Time Markets for electricity
transactions; and
(c) Require, subject to the terms and conditions of a Requesting
Party's Tariff, such sellers to inject electric energy into the
electric power transmission system operated by the Requesting Party;
(2) ``Demand Response,'' meaning the right of a Requesting Party to
require that certain sellers of such rights curtail consumption of
electric energy from the electric power transmission system operated by
a Requesting Party during a future period of time as specified in the
Requesting Party's Tariff; or
(3) ``Energy Efficiency,'' meaning the right of a Requesting Party
to require specific performance of an action or actions that will
reduce the need for Generation Capacity or Demand Response Capacity
over the duration of a future period of time as specified in the
Requesting Party's Tariff.
d. ``Reserve or Regulation Transactions'' are transactions:
(1) In which a Requesting Party, for the benefit of load-serving
entities and resources, purchases, through auction, the right, during a
period of time as specified in the Requesting Party's Tariff, to
require the seller of such right to operate electric facilities in a
physical state such that the facilities can increase or decrease the
rate of injection or withdrawal of a specified quantity of electricity
into or from the electric power transmission system operated by the
Requesting Party with:
(a) Physical performance by the seller's facilities within a
response time interval specified in a Requesting Party's Tariff
(Reserve Transaction); or
(b) Prompt physical performance by the seller's facilities (Area
Control Error Regulation Transaction);
(2) For which the seller receives, in consideration, one or more of
the following:
(a) Payment at the price established in the Requesting Party's Day-
Ahead or Real-Time Market, as those terms are defined in paragraphs 5f
and 5g of this Order, price for electricity applicable whenever the
Requesting Party exercises its right that electric energy be delivered
(including Demand Response, '' as defined in paragraph 5c(2) of this
Order);
(b) Compensation for the opportunity cost of not supplying or
consuming electricity or other services during any period during which
the Requesting Party requires that the seller not supply energy or
other services;
(c) An upfront payment determined through the auction administered
by the Requesting Party for this service;
(d) An additional amount indexed to the frequency, duration, or
other attributes of physical performance as specified in the Requesting
Party's Tariff; and
(3) In which the value, quantity, and specifications of such
transactions for a Requesting Party for any period of time shall be
limited to the physical capability of the electricity transmission
system operated by the Requesting Party for that period of time.
e. ``Day-Ahead Market'' means an electricity market administered by
a Requesting Party on which the price of electricity at a specified
location is determined, in accordance with the Requesting Party's
Tariff, for specified time periods, none of which is later than the
second operating day following the day on which the Day-Ahead Market
clears.
f. ``Real-Time Market'' means an electricity market administered by
a Requesting Party on which the price of electricity at a specified
location is determined, in accordance with the Requesting Party's
tariff, for specified time periods within the same 24-hour period.
g. ``Requesting Party'' means California Independent Service
Operator Corporation (``CAISO''); ERCOT; ISO New England Inc. (``ISO
NE''); Midwest Independent Transmission System Operator, Inc.
(``MISO''); New York Independent System Operator, Inc. (``NYISO'') or
PJM Interconnection, L.L.C. (``PJM''), or any successor in interest to
any of the foregoing.
h. ``Tariff.'' Reference to a Requesting Party's ``tariff''
includes a tariff, rate schedule or protocol.
i. ``Petition'' means the consolidated petition for an exemptive
order under 4(c)(6) of the CEA filed by CAISO, ERCOT, ISO NE., MISO, NY
ISO and PJM on February 7, 2012, as later amended.
6. Effective Date. This Order is effective immediately.
This order is based upon the representations made in the
consolidated petition for an exemptive order under 4(c) of the CEA
filed by the Requesting Parties \407\ and supporting materials provided
to the Commission by the Requesting Parties and their counsel. Any
material change or omission in the facts and circumstances pursuant to
which this order is granted might require the Commission to reconsider
its finding that the exemption contained therein is appropriate and/or
in the public interest. Further, the Commission reserves the right, in
its discretion, to revisit any of the terms and conditions of the
relief provided herein, including but not limited to, making a
determination that certain entities and transactions described herein
should be subject to the Commission's full
[[Page 52168]]
jurisdiction, and to condition, suspend, terminate or otherwise modify
or restrict the exemption granted in this order, as appropriate, upon
its own motion.
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\407\ In the Matter of the Petition for an Exemptive Order Under
Section 4(c) of the Commodity Exchange Act by California Independent
Service Operator Corporation (``CAISO''); In the Matter of the
Petition for an Exemptive Order Under Section 4(c) of the Commodity
Exchange Act by the Electric Reliability Council of Texas, Inc.
(``ERCOT''); In the Matter of the Petition for an Exemptive Order
Under Section 4(c) of the Commodity Exchange Act by ISO New England
Inc. (``ISO NE''); In the Matter of the Petition for an Exemptive
Order Under Section 4(c) of the Commodity Exchange Act by Midwest
Independent Transmission System Operator, Inc. (``MISO''); In the
Matter of the Petition for an Exemptive Order Under Section 4(c) of
the Commodity Exchange Act by New York Independent System Operator,
Inc. (``NYISO''); and In the Matter of the Petition for an Exemptive
Order Under Section 4(c) of the Commodity Exchange Act by PJM
Interconnection, L.L.C. (``PJM'') (Feb. 7, 2012, as amended June 11,
2012).
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IX. Related Matters
A. Regulatory Flexibility Act
The Regulatory Flexibility Act \408\ (``RFA'') requires that
agencies consider whether the Proposed Exemption will have a
significant economic impact on a substantial number of small entities
and, if so, provide a regulatory flexibility analysis respecting the
impact. The Commission believes that the Proposed Exemption will not
have a significant economic impact on a substantial number of small
entities. The Proposed Exemption detailed in this release would affect
organizations including Petitioners and eligible contract participants
(``ECPs'').\409\ The Commission has previously determined that ECPs are
not ``small entities'' for purposes of the RFA.\410\ In addition, the
Commission believes that Petitioners should not be considered small
entities based on the central role they play in the operation of the
electronic transmission grid and the creation of organized wholesale
electric markets that are subject to FERC and PUCT regulatory
oversight,\411\ analogous to functions performed by DCMs and DCOs,
which the Commission has determined not to be small entities.\412\
Accordingly, the Commission does not expect the Proposed Exemption
to have a significant impact on a substantial number of entities.
Therefore, the Chairman, on behalf of the Commission, hereby certifies,
pursuant to 5 U.S.C. 605(b), that the Proposed Exemption would not have
a significant economic impact on a substantial number of small
entities. The Commission invites the public to comment on whether the
entities covered by this Proposed Exemption should be considered small
entities for purposes of the RFA, and, if so, whether there is a
significant impact on a substantial number of entities.
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\408\ 5 U.S.C. 601 et seq.
\409\ Under CEA section 2(e), only ECPs are permitted to
participate in a swap subject to the end-user clearing exception.
\410\ See Opting Out of Segregation, 66 FR 20740 at 20743, Apr.
25, 2001.
\411\ See RFA analysis as conducted by FERC regarding the 5
Petitioners, CAISO, NYISO, PJM, MISO and ISO NE., https://www.federalregister.gov/articles/2011/10/26/2011-27626/enhancement-of-electricity-market-surveillance-and-analysis-through-ongoing-electronic-delivery-of#h-17.
Commission staff also performed an independent RFA analysis
based on Subsector 221 of Sector 22 (utilities companies) which
defines any small utility corporation as one that does not generate
more than 4 million of megawatts of electricity per year, and
Subsector 523 of Sector 52 (Securities, Commodity Contracts, and
Other Financial Investments and Related Activities) of the SBA, 13
CFR 121.201 (1-1-11 Edition), which identifies a small business size
standard of $7 million or less in annual receipts. Staff concludes
that none of the Petitioners is a small entity, based on the
following information:
MISO reports 594 million megawatt hours per year, https://www.midwestiso.org/Library/Repository/Communication%20Material/Corporate/Corporate%20Fact%20Sheet.pdf;
ERCOT reports 335 million megawatt hours per year, http://www.ercot.com/content/news/presentations/2012/ERCOT_Quick_Facts_June_%202012.pdf;
CAISO reports 200 million megawatts per year, http://www.caiso.com/Documents/CompanyInformation_Facts.pdf;
NYISO reports 17 million megawatts per month, which calculates
to 204 megawatts per year, http://www.nyiso.com/public/about_nyiso/nyisoataglance/index.jsp;
PJM reports $35.9 billion billed in 2011, http://pjm.com/markets-and-operations.aspx; and
ISO NE reports 32,798 gigawatt hours in the first quarter of
2011, which translates into almost 33 million megawatts for the
first quarter of 2011, http://www.iso-ne.com/markets/mkt_anlys_rpts/qtrly_mktops_rpts/2012/imm_q1_2012_qmr_final.pdf.
\412\ See A New Regulatory Framework for Clearing Organizations,
66 FR 45604, 45609, Aug. 29, 2001(DCOs); Policy Statement and
Establishment of Definitions of ``Small Entities'' for Purposes of
the Regulatory Flexibility Act, 47 FR 18618, 18618-18619, Apr. 30,
1982 (DCMs).
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B. Paperwork Reduction Act
The purposes of the Paperwork Reduction Act of 1995, 44 U.S.C. 3501
et seq. (``PRA'') are, among other things, to minimize the paperwork
burden to the private sector, ensure that any collection of information
by a government agency is put to the greatest possible uses, and
minimize duplicative information collections across the government. The
PRA applies to all information, ``regardless of form or format,''
whenever the government is ``obtaining, causing to be obtained [or]
soliciting'' information, and includes requires ``disclosure to third
parties or the public, of facts or opinions,'' when the information
collection calls for ``answers to identical questions posed to, or
identical reporting or recordkeeping requirements imposed on, ten or
more persons.'' The PRA would not apply in this case given that the
exemption would not impose any new recordkeeping or information
collection requirements, or other collections of information on ten or
more persons that require approval of the Office of Management and
Budget (``OMB'').
C. Cost-Benefit Considerations
1. Consideration of Costs and Benefits
a. Introduction
Section 15(a) of the CEA \413\ requires the Commission to consider
the costs and benefits of its actions before promulgating a regulation
under the CEA or issuing certain orders. In proposing this exemption,
the Commission is required by section 4(c)(6) to ensure the same is
consistent with the public interest. In much the same way, section
15(a) further specifies that the costs and benefits shall be evaluated
in light of 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. The Commission considers the costs and
benefits resulting from its discretionary determinations with respect
to the section 15(a) factors.
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\413\ 7 U.S.C. 19(a).
---------------------------------------------------------------------------
As discussed above, in response to a Petition from certain regional
transmission organizations and independent system operators, the
Commission is proposing to exempt specified transactions from the
provisions of the CEA and Commission regulations with the exception of
those prohibiting fraud and manipulation (i.e., sections 2(a)(1)(B),
4b, 4c(b), 4o, 4s(h)(1)(A), 4s(h)(4)(A), 6(c), 6(d), 6(e), 6c, 6d, 8, 9
and 13 and any implementing regulations promulgated thereunder
including, but not limited to, Commission regulations 23.410(a) and
(b), 32.4 and part 180). The Proposed Exemption is transaction-
specific--that is, it would exempt contracts, agreements and
transactions for the purchase or sale of the limited set of
electricity-related products that are offered or entered into in a
market administered by a Petitioner pursuant to that Petitioner's
tariff or protocol for the purposes of allocating such Petitioner's
physical resources.
More specifically, the Commission is proposing to exempt from most
provisions of the CEA certain ``financial transmission rights,''
``energy transactions,'' ``forward capacity transactions,'' and
``reserve or regulation transactions,'' as those terms are defined in
the proposed Order, if such transactions are offered or entered into
pursuant to a tariff under which a Petitioner operates that has been
approved by FERC or the Public Utility
[[Page 52169]]
Commission of Texas, as applicable. The Proposed Exemption extends to
any persons (including Petitioners, their members and their market
participants) offering, entering into, rendering advice, or rendering
other services with respect to such transactions. Important to the
Commission's Proposed Exemption is the Petitioners' representations
that the aforementioned transactions are: (i) Tied to the physical
capacity of the Petitioner's electricity grids; (ii) used to promote
the reliable delivery of electricity; and (iii) are intended for use by
commercial participants that are in the business of generating,
transmitting and distributing electricity. In other words, these are
not purely financial transactions; rather, they are inextricably linked
to, and limited by, the capacity of the grid to physically deliver
electricity.
In the discussion that follows, the Commission considers the costs
and benefits of the proposed Order to the public and market
participants generally, including the costs and benefits of the
conditions precedent that must be satisfied before a Petitioner may
claim the exemption.
b. Proposed Baseline
The Commission's proposed baseline for consideration of the costs
and benefits of this Proposed Exemption are the costs and benefits that
the public and market participants (including Petitioners) would
experience in the absence of this proposed regulatory action. In other
words, the proposed baseline is an alternative situation in which the
Commission takes no action, meaning that the transactions that are the
subject of this Petition would be required to comply with all of the
CEA and Commission regulations, as may be applicable. In such a
scenario, the public and market participants would experience the full
benefits and costs related to the CEA and Commission regulations, but
as discussed in detail above, the transactions would still be subject
to the congruent regulatory regimes of the FERC and PUCT. In areas
where the Commission believed additional requirements were necessary to
ensure the public interest, the Commission proposed additional
requirements (e.g., the requirement that Petitioners submit a
memorandum or opinion of counsel to the Commission confirming the
enforceability of the Petitioners' netting arrangements in the event of
a bankruptcy of a participant).
The Commission also considers the regulatory landscape as it exists
outside the context of the Dodd-Frank Act's enactment. Here too, it is
important to highlight Petitioners' representations that each of the
transactions for which an exemption is requested is already subject to
a long-standing, comprehensive regulatory framework for the offer and
sale of such transactions established by FERC, or in the case of ERCOT,
the PUCT. For example, the costs and benefits attendant to the
Commission's condition that transactions be entered into between
``appropriate persons'' as described in CEA section 4(c)(3) has an
analog outside the context of the Dodd-Frank Act in FERC's minimum
criteria for RTO market participants as set forth in FERC Order 741.
In the discussion that follows, where reasonably feasible, the
Commission endeavors to estimate quantifiable dollar costs of the
Proposed Exemption. The benefits of the Proposed Exemption, as well as
certain costs, however, are not presently susceptible to meaningful
quantification. Most of the costs arise from limitations on the scope
of the proposed Order, and many of the benefits arise from avoiding
defaults and their implications that are clearly large in magnitude,
but impracticable to estimate. Where it is unable to quantify, the
Commission discusses proposed costs and benefits in qualitative terms.
c. Costs
The Proposed Order is exemptive and would provide potentially
eligible transactions with relief from the requirements of the CEA and
attendant Commission regulations. As with any exemptive rule or order,
the proposal is permissive, meaning that Petitioners were not required
to request it and are not required to rely on it. Accordingly, the
Commission assumes that Petitioners required and would rely on the
Proposed Exemption only if the anticipated benefits warrant the costs
of the same. Here, the Proposed Exemption identifies certain conditions
precedent to the grant of the Proposed Exemption. The Commission is of
the view that, as a result of the conditions, Petitioners, market
participants and the public would experience minimal, if any, ongoing,
incremental costs as a result of these conditions. This is so because,
as Petitioners certify pursuant to CFTC Rule 140.99(c)(3)(ii), the
attendant conditions are substantially similar to requirements that
Petitioners and their market participants already incur in complying
with FERC or PUCT regulation.
The first condition--that all parties to the agreements, contracts
or transactions that are covered by the Proposed Exemption must be
either ``appropriate persons,'' as such term is defined in sections
4(c)(3)(A) through (J) of the Act, or ``eligible contract
participants,'' as such term is defined in section 1a(18)(A) of the Act
and in Commission regulation 1.3(m)--should not impose any significant,
incremental costs because Petitioners must already incur costs in
complying with their existing legal and regulatory obligations under
the FPA and FERC or PUCT regulations, which mandate that only eligible
market participants may engage in the transactions that are the subject
of this proposal, as explained in section V.B.3. above.
The second is that the agreements, contracts or transactions that
are covered by the Proposed Exemption must be offered or sold pursuant
to a Petitioner's tariff, which has been approved or permitted to take
effect by: (1) In the case of ERCOT, the PUCT or; (2) in the case of
all other Petitioners, FERC. This is a statutory requirement for the
exemption. See CEA 4(c)(6)(A), (B). Moreover, requiring that
Petitioners' not operate outside their tariff requirements derives from
existing legal requirements and is not a cost attributable to this
proposal.
Third, as described in section V.B.1. above, FERC and PUCT impose
on their respective Petitioners, and their market monitors, various
information management requirements. These existing requirements are
not materially different from the condition that none of a Petitioner's
tariffs or other governing documents may include any requirement that
the Petitioner notify a member prior to providing information to the
Commission in response to a subpoena or other request for information
or documentation. However, certain existing tariffs (see footnote 406
and accompanying text) may not currently meet the condition; therefore
the Commission requests comment as to whether this condition imposes a
significant burden or increase in cost on Petitioners with such
tariffs, and whether there are alternative conditions that may be used
to achieve a similar result. Further, Petitioners have agreed to
provide any information to the Commission upon request that will
further enable the Commission to perform its regulatory and enforcement
duties. While the Commission is mindful that the process of responding
to subpoenas or requests for information involves costs, such subpoenas
and requests for information, and thus the associated costs, are
independent of the current proposed Order.
Fourth, information sharing arrangements that are satisfactory to
the Commission between the Commission and FERC, and the Commission and
PUCT, must be in full force and effect
[[Page 52170]]
is not a cost to Petitioners or to other members of the public but, in
the case of FERC, has been an inter-agency norm since 2005. Moreover,
and with respect to the proposed condition that would require the
Commission and PUCT to enter into an information sharing arrangement,
the sharing of information between government agencies is an efficient
means of reducing governmental costs.
Finally, the Commission is proposing to require, as a prerequisite
to the granting of the 4(c)(6) request to a particular Petitioner, that
the Petitioner provide the Commission with a legal opinion or memoranda
of counsel that provides the Commission with assurance that the
approach selected by the Petitioner to satisfy the obligations
contained in FERC regulation 35.47(d) will provide the Petitioner with
enforceable rights of setoff against any of its market participants
under title 11 of the United States Code in the event of the bankruptcy
of the market participant. For instance, for transactions in a DCO
context, the DCO is clearly the central counterparty. In the case of
most ISOs and RTOs, there has been some ambiguity in this regard. As a
result of this ambiguity, in the event of the bankruptcy of a
participant, there is a concern that ISOs and RTOs may be liable to pay
a bankrupt participant for transactions in which that participant is
owed funds, without the ability to net amounts owed by the market
participant in a bankruptcy, despite the fact that the tariffs
submitted by the Petitioners to FERC include explicit language
permitting set-off and netting.\414\ As FERC expressed in the FERC
Credit Rulemaking and the FERC Order on Rehearing, there is a risk that
the explicit tariff language may be insufficient to protect the
Petitioners in bankruptcy, and even if this risk were to be at a low
probability of manifestation, there would be a high cost to market
participants and the stability of the markets if it did so.\415\ The
Commission would require that the opinions or memoranda would be
addressed to the Commission and would be signed on behalf of the law
firm that is issuing the opinion, rather than by specific partners and/
or associates. The Commission also would require the text of the
opinion or memoranda to satisfy certain enumerated criteria. Based on
the Laffey Matrix for 2012, assuming the opinion is prepared by a
seasoned attorney (with 20 plus years of legal practice), his/her
hourly rate ($734 per hour) multiplied by the amount of hours taken to
prepare the opinion, will be the basic cost of such an opinion.\416\
The Commission estimates that the cost of such memoranda will range
between $15,000 and $30,000, part of which depends on the complexity of
the analysis necessary to support the conclusion that the Petitioner's
setoff rights are enforceable, and assuming that the opinion will take
20-40 hours to prepare.\417\
d. Benefits
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\414\ See, e.g., In re Semcrude, 399 B.R. 388, 393 (Bank. D.
Del. 2009) (stating that ``debts are considered `mutual' only when
`they are due to and from the same persons in the same capacity.'
'').
\415\ See 75 FR at 65955.
\416\ The Court in Laffey v. Northwest Airlines, Inc., 572
F.Supp. 354, 371 (D.D.C. 1983) ruled that hourly rates for attorneys
practicing civil law in the Washington, DC metropolitan area could
be categorized by years in practice and adjusted yearly for
inflation. For 2012 Laffey Matrix rates, see http://www.justice.gov/usao/dc/divisions/civil_Laffey_Matrix_2003-2012.pdf.
\417\ There are possibilities of economies of scale if multiple
Petitioners share the same counsel in preparing these memoranda or
opinions.
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In proposing this exemption, the Commission is required by section
4(c)(6) to ensure the same is consistent with the public interest. In
much the same way, CEA section 15(a) requires that the Commission
consider the benefits to the public of its action. In meeting its
public interest obligations under both 4(c)(6) and 15(a), the
Commission in sections V.B.1. and V.D. proposes a detailed
consideration of the nature of the transactions and FERC and PUCT
regulatory regimes, including whether the protections provided by those
regimes are, at a minimum, congruent with the Commission's oversight of
DCOs and SEFs.
This exercise is not rote; rather, in proposing that this exemption
is in the public interest, the Commission's comprehensive action
benefits the public and market participants in several substantive
ways, as discussed below. In addition, by considering a single
application from all Petitioners at the same time, and proposing to
allow all provisions of the exemption to apply to all Petitioners and
their respective market participants with respect to each category of
electricity-related products described in the Petition, regardless of
whether such products are offered or entered into at the current time
pursuant to an individual Petitioner's tariff, this proposal provides a
cost-mitigating, procedural efficiency. The Commission's proposal also
reduces the potential need for future amendments to the final exemption
in order for one Petitioner to offer or enter into the same type of
transactions currently offered by another.
In more substantive terms, by requiring that the transactions at
issue are, in fact, limited to those that are administered by the
petitioning RTOs/ISOs, and are inextricably linked to the organized
wholesale electricity markets that are subject to FERC and PUCT
regulation and oversight, the Commission limits the scope of the
proposed relief. In so doing, the proposal minimizes the potential that
purely financial risk can accumulate outside the comprehensive regime
for swaps regulation established by Congress in the Dodd-Frank Act and
implemented by the Commission. The mitigation of such risk inures to
the benefit of Petitioners, market participants and the public,
especially Petitioners' members and electricity ratepayers.
The condition that only ``appropriate persons'' may enter the
transactions that are the subject of this proposal benefits the public
and market participants by ensuring that (1) only persons with
resources sufficient to understand and manage the risks of the
transactions are permitted to engage in the same, and (2) persons
without such resources do not impose credit costs on other participants
(and the ratepayers for such other participants). Further, the
condition requiring that the transactions only be offered or sold
pursuant to a FERC or PUCT tariff benefits the public by, for example,
ensuring that the transactions are subject to a regulatory regime that
is focused on the physical provision of reliable electric power, and
also has credit requirements that are designed to achieve risk
management goals congruent with the regulatory objectives of the
Commission's DCO Core Principles. Absent these and other similar
limitations on participant- and financial-eligibility, the integrity of
the markets at issue could be compromised and members and ratepayers
left unprotected from potentially significant losses. Moreover, the
Commission's requirement that Petitioner's file an opinion of counsel
regarding the right of set-off in bankruptcy provides a benefit in that
the analytical process necessary to formulate such an opinion would
highlights risks faced by the Petitioners, and permit them to adapt
their structure and procedures in a manner best calculated to mitigate
such risks, and thus helps ensure the orderly handling of financial
affairs in the event a participant fails as a result of these
transactions.
Finally, the Commission's retention of its authority to redress any
fraud or manipulation in connection with the transactions at issue
protects market participants and the public generally, as
[[Page 52171]]
well as the financial markets for electricity products. For example, a
condition precedent to the Proposed Exemption is effective information
sharing arrangements between the FERC and the Commission, and PUCT and
the Commission. Through such an arrangement, the Commission expects
that it will be able to request information necessary to examine
whether activity on Petitioners' markets is adversely affecting the
Commission regulated markets. Further, the condition precedent that
Petitioners not notify a member prior to providing the Commission with
information will help maximize the effectiveness of the Commission's
enforcement program.
e. Costs and Benefits as Compared to Alternatives
The Commission considered alternatives to the proposed rulemaking.
For instance, the Commission could have chosen: (i) Not to propose an
exemption or (ii), as Petitioners' requested, to provide relief for
``the purchase and sale of a product or service that is directly
related to, and a logical outgrowth of, any [of Petitioners'] core
functions as an ISO/RTO * * * and all services related thereto.''
Regarding this latter request, the Commission understands the Petition
as requesting relief for transactions not yet in existence. In this
Order, the Commission proposes what it considers a measured approach--
in terms of the implicated costs and benefits of the exemption--given
its current understanding of transactions at issue.
Regarding the first alternative, the Commission considered that
Congress, in the Dodd-Frank Act, required the Commission to exempt
certain contracts, agreements or transactions from duties otherwise
required by statute or Commission regulation by adding a new section
that permits the Commission to exempt from its regulatory oversight
agreements, contracts, or transactions traded pursuant to an RTO or ISO
tariff that has been approved or permitted to take effect by FERC or a
State regulatory authority, as applicable, where such exemption was in
the public interest and consistent with the purposes of the CEA. Having
concluded that the instant exemption meets those tests, the Commission
proposes that a no exemption alternative would be inconsistent with
Congressional intent and contrary to the public interest. At the same
time, however, the Commission believes it would also be inappropriate
to adopt the second alternative.
The second alternative would extend the Proposed Exemption to all
``logical outgrowths'' of the transactions at issue. The Commission
proposes that such an exemption would be contrary to the Commission's
obligation under section 4(c) of the Act. As noted above, the authority
to issue an exemption from the CEA provided by section 4(c) of the Act
may not be automatically or mechanically exercised. Rather, the
Commission is required to affirmatively determine, inter alia, that the
exemption would be consistent with the public interest and the purposes
of the Act.
With respect to the four groups of transactions detailed in the
Proposed Exemption, the Commission's finding that the Proposed
Exemption would be in the public interest and would be consistent with
the purposes of the CEA is grounded, in part, on known transaction
characteristics and market circumstances described in the Petition that
may or may not be shared by other, as yet undefined, transactions
engaged in by the Petitioners or other RTO or ISO market participants.
Similarly, unidentified transactions might include novel features or
have market implications or risks that are beyond evaluation at the
present time, and are not present in the specified transactions.
2. Consideration of CEA Section 15(a) Factors with respect to the
Proposed Order
a. Protection of Market Participants and the Public
In proposing the exemption as it did, the Commission endeavored to
provide relief that was in the public interest. A key component of that
consideration is the assessment of how the Proposed Exemption protects
market participants and the public. As discussed above, market
participants and the public are protected by the existing regulatory
structure that includes congruent regulatory goals, and by the four
conditions placed upon the proposed relief by requiring, inter alia,
that: (i) Only those with the financial wherewithal are permitted to
engage in the transactions; (ii) the transactions at issue must be
within the scope of a Petitioner's FERC or PUCT tariff; (iii) no
advance notice to members of information requests to Petitioners from
the Commission; and (iv) the Commission and FERC, and PUCT and the
Commission, must have an information sharing arrangement in full force
and effect. Additionally, the requirement that Petitioners file and
opinion of counsel regarding bankruptcy matters provides additional
information from which the Commission may be assured that the netting
that Petitioners rely upon as an integral part of their risk management
is in fact enforceable.
b. Efficiency, Competitiveness, and Financial Integrity of Futures
Markets
To the extent that the transactions at issue could have an indirect
effect on the efficiency, competitiveness, and financial integrity of
the markets subject to the Commission's jurisdiction, the relief is
tailored in such a way as to mitigate any such effects. More
specifically, the Proposed Exemption is limited to the transactions
identified and defined herein. In this way, the Commission eliminates
the potential that as-yet-unknown transactions not linked to the
physicality of the electric system may be offered or sold under this
Proposed Exemption. Further, the Commission's retention of its full
enforcement authority will help ensure that any misconduct in
connection with the exempted transactions does not jeopardize the
financial integrity of the markets under the Commission's jurisdiction.
c. Price Discovery
As discussed above in section V.B.4, with respect to FTRs, Forward
Capacity Transactions, and Reserve or Regulation Transactions, these
transactions do not directly impact on transactions taking place on
Commission regulated markets--they are not used for price discovery and
are not used as settlement prices for other transactions in Commission
regulated markets
With respect to Energy Transactions, these transactions do have a
relationship to Commission regulated markets because they can serve as
a source of settlement prices for other transactions within Commission
jurisdiction. Granting the Proposed Exemption, however, does not mean
that these transactions will be unregulated. To the contrary, as
explained in more detail above, Petitioners have market monitoring
systems in place to detect and deter manipulation that takes place on
their markets. Further, as noted above, the Commission retains all of
its anti-fraud and anti-manipulation authority as a condition of the
Proposed Exemption.
d. Sound Risk Management Practices
As with the other areas of cost-benefit consideration, the
Commission's evaluation of sound risk management practices occurs
throughout this release, notably in sections V.D.4.a. and V.E.7.a.
which consider the Petitioners' risk
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management policies and procedures, and the related requirements of
FERC and PUCT (in particular, FERC Order 741 on Credit Policies), in
light of the Commission's risk management requirements for DCOs and
SEFs.
e. Other Public Interest Considerations
The Commission proposes that because these transactions are part
of, and inextricably linked to, the organized wholesale, physical
electricity markets that are subject to regulation and oversight of
FERC or PUCT, as applicable, the Commission's Proposed Exemption, with
its attendant conditions, requirements, and limitations, is in the
public interest. In so considering, the Commission proposes that the
public interest is best served if the Commission dedicates its
resources to the day-to-day oversight of its registrants and the
financial markets subject to the CEA.
3. Request for Public Comment on Costs and Benefits
The Commission invites public comment on its cost-benefit
considerations and dollar cost estimates, including the consideration
of reasonable alternatives. Commenters are invited to submit any data
or other information that they may have quantifying or qualifying the
costs and benefits of the proposal with their comment letters.
X. Request for Comment
The Commission requests comment on all aspects of its Proposed
Exemption. In addition, the Commission specifically requests comment on
the specific provisions and issues highlighted in the discussion above
and on the issues presented in this section. For each comment
submitted, please provide a detailed rationale supporting the response.
1. Has the Commission used the appropriate standard in analyzing
whether the Proposed Exemption is in the public interest?
2. The Commission recognizes that there may be differences among
the Petitioners with respect to size, scope of business, and underlying
regulatory framework. Should any provisions of the Proposed Exemption
be modified or adjusted, or should any conditions be added, to reflect
such differences?
3. Is the scope set forth for the Proposed Exemption sufficient to
allow for innovation? Why or why not? If not, how should the scope be
modified to allow for innovation without exempting products that may be
materially different from those reviewed by the Commission? Should the
Commission exempt such products without considering whether such
exemption is in the public interest? Consider this question also with
the understanding that any Petitioner (or any entity that is not a
current petitioner) may separately petition the Commission for an
amendment of any final order granted in this matter.
4. Should the Commission exercise its authority pursuant to section
4(c)(3)(K) of the CEA to extend the Proposed Exemption to agreements
contracts or transactions that are entered into by parties other than
``appropriate persons'' as defined in sections 4(c)(3)(A) through (J)
of the CEA, or ``eligible contract participants,'' as defined in
section 1a(18)(A) or (B) of the Act and Commission regulation 1.3(m)?
If so, please provide a description of the additional parties that
should be included.
a. The Commission specifically seeks comment regarding whether
(and, if so, why) it is in the public interest to expand the list of
such parties to include market participants who ``active[ly]
participat[e] in the generation, transmission or distribution of
electricity'' but who are neither ``appropriate persons,'' as defined
in section 4(c)(3)(A) through (J) of the CEA, nor ``eligible contract
participants,'' as defined in section 1a(18)(A) of the Act and
Commission regulation 1.3(m)?
b. If any additional parties should be added, please provide:
(1) An explanation of the financial or other qualifications of such
persons or the available regulatory protections that would render such
persons ``appropriate persons.''
(2) The basis for the conclusion that such parties could bear the
financial risks of the agreements, contracts, and transactions to be
exempted by the Proposed Exemption.
(3) The basis for the conclusion that including such parties would
not have any adverse effect on the relevant RTO or ISO.
(4) The basis for the conclusion that failing to include such
parties would have an adverse effect on any relevant RTO or ISO.
5. Should the Commission require each Petitioner that is regulated
by FERC to have fully implemented the requirements set forth in FERC
Order 741 as a condition precedent to the issuance of a final order
granting the Proposed Exemption to the particular Petitioner? Why or
why not?
6. Should ERCOT be required to comply with the requirements set
forth in FERC Order 741 as a prerequisite to the issuance to ERCOT of a
final order granting the Proposed Exemption as to ERCOT? Why or why
not?
a. The Commission specifically seeks comment upon whether and why
ERCOT would or would not be able to comply with each of the
requirements set forth in FERC Order 741. Are any of these requirements
inapplicable for an RTO/ISO?
b. Should ERCOT be permitted to adopt alternatives to any of the
specific requirements set forth in FERC Order 741 (such as the seven
day settlement period in FERC regulation 35.47(b))? What is the basis
for the conclusion that the alternative measures would be the
equivalents of the FERC requirements in terms of protecting the
financial integrity of the transactions that are within the scope of
the exemption?
7. Should the Commission require, as a prerequisite to issuing a
final order granting the Proposed Exemption to a particular Petitioner,
that the Commission be provided with a legal opinion or memoranda of
counsel, applicable to the tariffs and operations of that Petitioner,
that provides the Commission with assurance that the approach selected
by the Petitioner to satisfy the obligations contained in FERC
regulation 35.47(d) will provide the Petitioner with rights of setoff,
enforceable against any of its market participants under title 11 of
the United States Code in the event of the bankruptcy of the market
participant? Why or why not? Are there alternative ways to provide the
requisite assurance regarding the bankruptcy protections provided by
the approach to 35.47(d) compliance selected by Petitioners and the
requisite assurance that the central counterparty structure selected by
Petitioners will be consistent or contain elements commonly associated
with central counterparties?
8. Should the Commission require the execution of an acceptable
information sharing arrangement between the Commission and PUCT as a
condition precedent to the issuance to ERCOT of a final order granting
the request for an exemption?
9. Should the Proposed Exemption be conditioned upon the
requirement that the Petitioners cooperate with the Commission in its
conduct of special calls/further requests for information with respect
to contracts, agreements or transactions that are, or are related to,
the contracts, agreements, or transactions that are the subject of the
Proposed Exemption?
10. Should Petitioners be required to have the ability to obtain
market data and other related information from their participants with
respect to contracts, agreements or transactions in markets
[[Page 52173]]
for, or related to, the contracts, agreements or transactions that are
the subject of the Proposed Exemption? The Commission specifically
seeks comment on whether the Petitioners should capable of re-creating
the Day-Ahead Market and Real-Time prices.
11. What is the basis for the conclusion that Petitioners do, or do
not, provide to the public sufficient timely information on price,
trading volume, and other data with respect to the markets for the
contracts, agreements and transactions that are the subject of the
Proposed Exemption? What RTO or ISO tariff provisions, if any, require
them to do so or preclude them from doing so?
12. What is the basis for the conclusion that the Proposed
Exemption will, or will not, have any material adverse effect on the
Commission's ability to discharge its regulatory duties under the CEA,
or on any contract market's ability to discharge its self-regulatory
duties under the CEA?
13. What are the bases for the conclusions that the Petitioners'
tariffs, practices, and procedures do, or do not, appropriately address
the regulatory goals of each of the DCO Core Principles?
14. What factors support, or detract from, the Commission's
preliminary conclusion that FTRs, Energy Transactions, Capacity and
Reserve Transactions are not readily susceptible to manipulation for
the reasons stated above? Could a market participant use an FTR to
manipulate the price of electricity established on the Day-Ahead and
Real-Time markets operated by Petitioners? If so, what is the basis for
that conclusion? What is the basis for the conclusion that market
participants can, or cannot, use Energy Transactions, Capacity or
Reserve Transactions to manipulate electricity prices without detection
by Independent Market Monitors?
15. What is the basis for the conclusion that Petitioners have, or
have not, satisfied applicable market monitoring requirements with
respect to FTRs, Energy Transactions, Capacity and Reserve
Transactions? What is the basis for the conclusion that the record-
keeping functions performed by Petitioners are, or are not, appropriate
to address any concerns raised by the market monitoring process? What
is the basis for the conclusion that the market monitoring functions
performed by Petitioners and their MMUs do, or do not, provide adequate
safeguards to prevent the manipulation of Petitioners' markets?
16. What is the basis for the conclusion that Petitioners, or their
participants, should, or should not, be required to satisfy position
limit requirements with respect to any of the contracts, agreements or
transactions that are the subject of the Proposed Exemption?
Specifically, what is the basis for the conclusion that it is, or is
not, possible for Petitioners, or their participants, to violate
position limits with FTRs or Virtual Bids? What is the basis for the
conclusion that the nature of FTRs or Virtual Bids do, or do not,
inherently limit the ability of market participants to engage in
manipulative conduct?
17. What are the bases for the conclusions that Petitioners do, or
do not, adequately satisfy the SEF requirements for (a) recordkeeping
and reporting, (b) preventing restraints on trade or imposing any
material anticompetitive burden, (c) minimizing conflicts of interest,
(d) providing adequate financial resources, (e) establishing system
safeguards and (f) designating a CCO? Specifically, do the procedures
and principles in place allow the Petitioners to meet the requirements
of SEF core principles 10-15?
18. What is the basis for the conclusion that the Petitioners'
eligibility requirements for participants are, or are not, appropriate
to ensure that market participants can adequately bear the risks
associated with the Participants markets?
19. What is the basis for the conclusion that Petitioners do, or do
not, have adequate rules in place to allow them to deal with emergency
situations as they arise? What deficiencies, if any, Are there with
respect to their emergency procedures that would prevent any Petitioner
from taking necessary action to address sudden market problems?
20. The Commission invites comment on its consideration of the
costs and benefits of the Proposed Exemption, including the costs of
any information requirements imposed therein. The Commission also seeks
comment on the costs and benefits of this Proposed Exemption,
including, but not limited to, those costs and benefits specified
within this proposal. Commenters are also are invited to submit any
data or other information that they may have quantifying or qualifying
the costs and benefits of the proposal with their comment letters.
Issued in Washington, DC on August 21, 2012, by the Commission.
Sauntia S. Warfield,
Assistant Secretary of the Commission.
Notice of Proposed Order and Request for Comment on a Petition From
Certain Independent System Operators and Regional Transmission
Organizations To Exempt Specified Transactions Authorized by a Tariff
or Protocol Approved by the Federal Energy Commission or the Public
Utility Commission of Texas From Certain Provisions of the Commodity
Exchange Act Pursuant to the Authority Provided in Section 4(c)(6) of
the Act--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 Sommers,
Chilton, O'Malia and Wetjen voted in the affirmative; no
Commissioner voted in the negative.
Appendix 2--Statement of Chairman Gary Gensler
I support the proposed relief from the Dodd-Frank Wall Street
Reform and Consumer Protection Act (Dodd-Frank Act) swaps provisions
for certain electricity-related transactions entered into on markets
administered by regional transmission organizations (RTOs) or
independent system operators (ISOs). The relief responds to a
petition filed by a group of RTOs and ISOs.
Congress directed the CFTC, when it is in the public interest,
to provide relief from the Dodd-Frank Act's swaps market reform
provisions for certain transactions on markets administered by RTOs
and ISOs.
These entities were established for the purpose of providing
affordable, reliable electricity to consumers within their
geographic region. They are subject to extensive regulatory
oversight by the Federal Energy Regulatory Commission (FERC), or in
one instance, by the Public Utility Commission of Texas (PUCT). In
addition, these markets administered by RTOs and ISOs are central to
FERC and PUCT's regulatory missions to oversee wholesale sales and
transmission of electricity.
The scope of the proposed relief extends to the petitioners for
four categories of transactions--financial transmission rights,
energy transactions, forward capacity transactions, and reserve or
regulation transactions. Each of these transactions are inextricably
linked to the physical delivery of electricity.
I look forward to receiving public comment on the proposed
relief.
[FR Doc. 2012-20965 Filed 8-27-12; 8:45 am]
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