[Federal Register Volume 75, Number 139 (Wednesday, July 21, 2010)]
[Notices]
[Pages 42390-42399]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-17743]
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COMMODITY FUTURES TRADING COMMISSION
Orders Finding That the PJM WH Real Time Peak Contract and PJM WH
Real Time Off-Peak Contract Offered for Trading on the
IntercontinentalExchange, Inc., Perform a Significant Price Discovery
Function
AGENCY: Commodity Futures Trading Commission.
ACTION: Final orders.
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SUMMARY: On October 26, 2009, the Commodity Futures Trading Commission
(``CFTC'' or ``Commission'') published for comment in the Federal
Register \1\ a notice of its intent to undertake a determination
whether the PJM \2\ WH \3\ Real Time Peak (``PJM'') contract and PJM WH
Real Time Off-Peak (``OPJ'') contract,\4\ which are listed for trading
on the IntercontinentalExchange, Inc. (``ICE''), an exempt commercial
market (``ECM'') under sections 2(h)(3)-(5) of the Commodity Exchange
Act (``CEA'' or the ``Act''), perform a significant price discovery
function pursuant to section 2(h)(7) of the CEA. The Commission
undertook this review based upon an initial evaluation of information
and data provided by ICE as well as other available information. The
Commission has reviewed the entire record in this matter, including all
comments received, and has determined to issue orders finding that the
PJM and OPJ contracts perform a significant price discovery function.
Authority for this action is found in section 2(h)(7) of the CEA and
Commission rule 36.3(c) promulgated thereunder.
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\1\ 74 FR 54966 (October 26, 2009).
\2\ The acronym ``PJM'' stands for Pennsylvania New Jersey
Maryland Interconnection, LLC (``PJM Interconnection''), and
signifies the regional electricity transmission organization
(``RTO'') that coordinates the generation and distribution of
electricity in all or parts of 13 states and the District of
Columbia.
\3\ The acronym ``WH'' signifies the PJM's Western Hub.
\4\ The Federal Register notice also requested comment on the
PJM WH Real Time Peak Daily (``PDP'') contract, PJM WH Day Ahead LMP
Peak Daily (``PDA'') contract and PJM WH Real Time Off-Peak Daily
(``ODP'') contract. Those contracts will be addressed in a separate
Federal Register release.
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DATES: Effective Date: July 9, 2010.
FOR FURTHER INFORMATION CONTACT: Gregory K. Price, Industry Economist,
Division of Market Oversight, Commodity Futures Trading Commission,
Three Lafayette Centre, 1155 21st Street, NW., Washington, DC 20581.
Telephone: (202) 418-5515. E-mail: [email protected]; or Susan Nathan,
Senior Special Counsel, Division of Market Oversight, same address.
Telephone: (202) 418-5133. E-mail: [email protected].
SUPPLEMENTARY INFORMATION:
I. Introduction
The CFTC Reauthorization Act of 2008 (``Reauthorization Act'') \5\
significantly broadened the CFTC's regulatory authority with respect to
ECMs by creating, in section 2(h)(7) of the CEA, a new regulatory
category--ECMs on which significant price discovery contracts
(``SPDCs'') are traded--and treating ECMs in that category as
registered entities under the CEA.\6\ The legislation authorizes the
CFTC to designate an agreement, contract or transaction as a SPDC if
the Commission determines, under criteria established in section
2(h)(7), that it performs a significant price discovery function. When
the Commission makes such a determination, the ECM on which the SPDC is
traded must assume, with respect to that contract, all the
responsibilities and obligations of a registered entity under the Act
and Commission regulations, and must comply with nine core principles
established by new section 2(h)(7)(C).
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\5\ Incorporated as Title XIII of the Food, Conservation and
Energy Act of 2008, Public Law No. 110-246, 122 Stat. 1624 (June 18,
2008).
\6\ 7 U.S.C. 1a(29).
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On March 16, 2009, the CFTC promulgated final rules implementing
the provisions of the Reauthorization Act.\7\ As relevant here, rule
36.3
[[Page 42391]]
imposes increased information reporting requirements on ECMs to assist
the Commission in making prompt assessments whether particular ECM
contracts may be SPDCs. In addition to filing quarterly reports of its
contracts, an ECM must notify the Commission promptly concerning any
contract traded in reliance on the exemption in section 2(h)(3) of the
CEA that averaged five trades per day or more over the most recent
calendar quarter, and for which the exchange sells its price
information regarding the contract to market participants or industry
publications, or whose daily closing or settlement prices on 95 percent
or more of the days in the most recent quarter were within 2.5 percent
of the contemporaneously determined closing, settlement or other daily
price of another contract.
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\7\ 74 FR 12178 (Mar. 23, 2009); these rules became effective on
April 22, 2009.
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Commission rule 36.3(c)(3) established the procedures by which the
Commission makes and announces its determination whether a particular
ECM contract serves a significant price discovery function. Under those
procedures, the Commission will publish notice in the Federal Register
that it intends to undertake an evaluation whether the specified
agreement, contract or transaction performs a significant price
discovery function and to receive written views, data and arguments
relevant to its determination from the ECM and other interested
persons. Upon the close of the comment period, the Commission will
consider, among other things, all relevant information regarding the
subject contract and issue an order announcing and explaining its
determination whether or not the contract is a SPDC. The issuance of an
affirmative order signals the effectiveness of the Commission's
regulatory authorities over an ECM with respect to a SPDC; at that time
such an ECM becomes subject to all provisions of the CEA applicable to
registered entities.\8\ The issuance of such an order also triggers the
obligations, requirements and timetables prescribed in Commission rule
36.3(c)(4).\9\
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\8\ Public Law 110-246 at 13203; Joint Explanatory Statement of
the Committee of Conference, H.R. Rep. No. 110-627, 110 Cong., 2d
Sess. 978, 986 (Conference Committee Report). See also 73 FR 75888,
75894 (Dec. 12, 2008).
\9\ For an initial SPDC, ECMs have a grace period of 90 calendar
days from the issuance of a SPDC determination order to submit a
written demonstration of compliance with the applicable core
principles. For subsequent SPDCs, ECMs have a grace period of 30
calendar days to demonstrate core principle compliance.
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II. Notice of Intent To Undertake SPDC Determination
On October 26, 2009, the Commission published in the Federal
Register notice of its intent to undertake a determination whether the
PJM and OPJ contracts \10\ perform a significant price discovery
function and requested comment from interested parties.\11\ Comments
were received from PJM Interconnection, Federal Energy Regulatory
Commission (``FERC''), Electric Power Supply Association (``EPSA''),
Financial Institutions Energy Group (``FIEG''), Edison Electric
Institute (``EEI''), ICE and Public Utility Commission of Texas
(``PUCT'').\12\ The comment letters from PJM Interconnection,\13\
FERC\14\ and PUCT did not directly address the issue of whether or not
the subject contracts are SPDCs. The remaining comment letters raised
substantive issues with respect to the applicability of section 2(h)(7)
to the subject contracts and generally expressed the opinion that the
contracts are not SPDCs because they do not meet the material price
reference or material liquidity criteria for SPDC determination. These
comments are more extensively discussed below, as applicable.
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\10\ As noted above, the Federal Register notice also requested
comment on the PJM WH Real Time Peak Daily (``PDP'') contract, PJM
WH Day Ahead LMP Peak Daily (``PDA'') contract and PJM WH Real Time
Off-Peak Daily (``ODP'') contract. Those contracts will be addressed
in a separate Federal Register release.
\11\ The Commission's Part 36 rules establish, among other
things, procedures by which the Commission makes and announces its
determination whether a specific ECM contract serves a significant
price discovery function. Under those procedures, the Commission
publishes a notice in the Federal Register that it intends to
undertake a determination whether a specified agreement, contract or
transaction performs a significant price discovery function and to
receive written data, views and arguments relevant to its
determination from the ECM and other interested persons.
\12\ PJM Interconnection, as noted above, is the RTO that
coordinates the generation and distribution of electricity in all or
parts of 13 states and the District of Columbia. FERC is an
independent federal regulatory agency that, among other things,
regulates the interstate transmission of natural gas, oil and
electricity. EPSA describes itself as the ``national trade
association representing competitive power suppliers, including
generators and marketers.'' FIEG describes itself as an association
of investment and commercial banks who are active participants in
various sectors of the natural gas markets, ``including acting as
marketers, lenders, underwriters of debt and equity securities, and
proprietary investors.'' EEI is the ``association of shareholder-
owned electric companies, international affiliates and industry
associates worldwide.'' ICE is an ECM, as noted above. PUCT is the
independent organization that oversees the Electric Reliability
Council of Texas (``ERCOT'') to ``ensure nondiscriminatory access to
the transmission and distribution systems, to ensure the reliability
and adequacy of the regional electrical network, and to perform
other essential market functions.'' The comment letters are
available on the Commission's Web site: http://www.cftc.gov/lawandregulation/federalregister/federalregistercomments/2009/09-032.html.
\13\ PJM Interconnection stated that it ``takes no position as
to whether the ICE [contracts] * * * perform significant price
discovery functions.''
\14\ FERC expressed the opinion that a determination by the
Commission that any of the subject contracts performs a significant
price discovery function ``would not appear to conflict with FERC's
exclusive jurisdiction under the Federal Power Act (FPA) over the
transmission or sale for resale of electric energy in interstate
commerce or with its other regulatory responsibilities under the
FPA'' and further that ``FERC staff will monitor proposed SPDC
determinations and advise the CFTC of any potential conflicts with
FERC's exclusive jurisdiction over RTOs, [(regional transmission
organizations)], ISOs [(independent system operators)] or other
jurisdictional entities.''
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III. Section 2(h)(7) of the CEA
The Commission is directed by section 2(h)(7) of the CEA to
consider the following criteria in determining a contract's significant
price discovery function:
Price Linkage--the extent to which the agreement, contract
or transaction uses or otherwise relies on a daily or final settlement
price, or other major price parameter, of a contract or contracts
listed for trading on or subject to the rules of a designated contract
market (``DCM'') or derivatives transaction execution facility
(``DTEF''), or a SPDC traded on an electronic trading facility, to
value a position, transfer or convert a position, cash or financially
settle a position, or close out a position.
Arbitrage--the extent to which the price for the
agreement, contract or transaction is sufficiently related to the price
of a contract or contracts listed for trading on or subject to the
rules of a DCM or DTEF, or a SPDC traded on or subject to the rules of
an electronic trading facility, so as to permit market participants to
effectively arbitrage between the markets by simultaneously maintaining
positions or executing trades in the contracts on a frequent and
recurring basis.
Material price reference--the extent to which, on a
frequent and recurring basis, bids, offers or transactions in a
commodity are directly based on, or are determined by referencing or
consulting, the prices generated by agreements, contracts or
transactions being traded or executed on the electronic trading
facility.
Material liquidity--the extent to which the volume of
agreements, contracts or transactions in a commodity being traded on
the electronic trading facility is sufficient to have a material effect
on other agreements, contracts or transactions
[[Page 42392]]
listed for trading on or subject to the rules of a DCM, DTEF or
electronic trading facility operating in reliance on the exemption in
section 2(h)(3).
Not all criteria must be present to support a determination that a
particular contract performs a significant price discovery function,
and one or more criteria may be inapplicable to a particular
contract.\15\ Moreover, the statutory language neither prioritizes the
criteria nor specifies the degree to which a SPDC must conform to the
various criteria. In Guidance issued in connection with the Part 36
rules governing ECMs with SPDCs, the Commission observed that these
criteria do not lend themselves to a mechanical checklist or formulaic
analysis. Accordingly, the Commission has indicated that in making its
determinations it will consider the circumstances under which the
presence of a particular criterion, or combination of criteria, would
be sufficient to support a SPDC determination.\16\ For example, for
contracts that are linked to other contracts or that may be arbitraged
with other contracts, the Commission will consider whether the price of
the potential SPDC moves in such harmony with the other contract that
the two markets essentially become interchangeable. This co-movement of
prices would be an indication that activity in the contract had reached
a level sufficient for the contract to perform a significant price
discovery function. In evaluating a contract's price discovery role as
a price reference, the Commission the extent to which, on a frequent
and recurring basis, bids, offers or transactions are directly based
on, or are determined by referencing, the prices established for the
contract.
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\15\ In its October 26, 2009, Federal Register release, the
Commission identified material price reference and material
liquidity as the possible criteria for SPDC determination of the PJM
and OPJ contracts. Arbitrage and price linkage were not identified
as possible criteria. As a result, arbitrage and price linkage will
not be discussed further in this document and the associated Orders.
\16\ 17 CFR 36, Appendix A.
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IV. Findings and Conclusions
The Commission's findings and conclusions with respect to the PJM
and OPJ contracts are discussed separately below.
a. The PJM WH Real Time Peak (PJM) Contract and the SPDC Indicia
The PJM contract is cash settled based on the arithmetic average of
peak-hour, real-time locational marginal prices (``LMPs'') \17\
published by PJM Interconnection for its Western Hub for all peak hours
during the contract month. The hourly LMPs are derived from power
trades that result in physical delivery. The size of the PJM contract
is 800 megawatt hours (``MWh''), and the PJM contract is listed for 110
calendar months.
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\17\ An LMP represents the additional cost associated with
producing an incremental amount of electricity. LMPs account for
generation costs, congestion along the transmission lines, and
electricity loss.
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In general, electricity is bought and sold in an auction setting on
an hourly basis at various point along the electrical grid. An LMP
associated with a specific hour is calculated as the volume-weighted
average price of all of the transactions where electricity is to be
supplied and consumed during that hour.
Electricity is traded in a day-ahead market as well as a real-time
market. The day-ahead market establishes prices for electricity that is
to be delivered during the specified hour on the following day. Day-
ahead prices are determined based on generation and energy transaction
quotes offered in advance. Because the offers and bids are dependent on
estimates of supply and demand, electricity needs usually are not
perfectly satisfied in the day-ahead market. In this regard, on the day
the electricity is transmitted and used, auction participants typically
realize that they bought or sold either too much power or too little
power. A real-time auction is operated to alleviate this problem by
serving as a balancing mechanism. Specifically, electricity traders use
the real-time market to sell excess electricity and buy additional
power to meet demand.
PJM Interconnection is an RTO that coordinates the movement of
wholesale electricity in all or parts of Delaware, Illinois, Indiana,
Kentucky, Maryland, Michigan, New Jersey, North Carolina, Ohio,
Pennsylvania, Tennessee, Virginia, West Virginia and the District of
Columbia. PJM Interconnection's transmission network is the largest
centrally-dispatched grid in North America. PJM Interconnection
dispatches about 163,500 MW of generating capacity over 56,350 miles of
transmission lines and serves more than 51 million customers. The RTO's
members, totaling more than 500, include power generators, transmission
owners, electricity distributors, power marketers and large consumers.
PJM Interconnection is responsible for operating a competitive
wholesale electricity market as well as maintaining the reliability of
the grid. The RTO acts as a neutral, independent party, and its
activities are regulated by FERC. The company coordinates the
continuous buying, selling and delivery of wholesale electricity
through robust, open and competitive spot markets. In operating the
markets, PJM balances the needs of suppliers, wholesale customers and
other market participants, and it continuously monitors market
behavior.
Electricity is priced at individual points along the transmission
network called nodes. An electric grid has many interconnections or
buses. RTOs group certain buses together to form hubs, which do not
necessarily follow along state lines or geographic boundaries. Power
also is priced at the hub level and serves as a basis for trading
electricity. PJM Interconnnection has 11 hubs, including AEP GEN, AEP-
Dayton, Chicago GEN, Chicago, Dominion, Eastern, Northern Illinois, New
Jersey, Ohio, West INT and Western Hub.\18\ The Western Hub is basket
of 109 buses that stretch all the way from Erie, PA, to Washington,
DC.\19\
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\18\ http://www.ferc.gov/market-oversight/mkt-electric/pjm.asp.
\19\ http://www.ferc.gov/market-oversight/mkt-electric/pjm/2010/05-2010-elec-pjm-archive.pdf.
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1. Material Price Reference Criterion
The Commission's October 26, 2009, Federal Register notice
identified the PJM contract as a potential SPDC based on the material
price reference and material liquidity criteria. The Commission
considered the fact that ICE sells its price data to market
participants in a number of different packages which vary in terms of
the hubs covered, time periods, and whether the data are daily only or
historical. For example, ICE offers the ``East Power of Day'' package
with access to all price data or just current prices plus a selected
number of months (i.e., 12, 24, 36 or 48 months) of historical data.
This package includes price data for the PJM contract.
The Commission also noted that its October 2007 Report on the
Oversight of Trading on Regulated Futures Exchanges and Exempt
Commercial Markets (``ECM Study'') found that in general, market
participants view ICE as a price discovery market for certain
electricity contracts. The study did not specify which markets
performed this function; nevertheless, the Commission determined that
the PJM contract, while not mentioned by name in the ECM Study,
warranted further review.
The Commission explains in its Guidance to the statutory criteria
that in evaluating a contract under the material price reference
criterion, it will rely on one of two sources of evidence--direct or
indirect--to determine that the price of a contract was being used as a
[[Page 42393]]
material price reference and therefore, serving a significant price
discovery function.\20\ With respect to direct evidence, the Commission
will consider the extent to which, on a frequent and recurring basis,
cash market bids, offers or transactions are directly based on or
quoted at a differential to, the prices generated on the ECM in
question. Direct evidence may be established when cash market
participants are quoting bid or offer prices or entering into
transactions at prices that are set either explicitly or implicitly at
a differential to prices established for the contract in question. Cash
market prices are set explicitly at a differential to the section
2(h)(3) contract when, for instance, they are quoted in dollars and
cents above or below the reference contract's price. Cash market prices
are set implicitly at a differential to a section 2(h)(3) contract
when, for instance, they are arrived at after adding to, or subtracting
from the section 2(h)(3) contract, but then quoted or reported at a
flat price. With respect to indirect evidence, the Commission will
consider the extent to which the price of the contract in question is
being routinely disseminated in widely distributed industry
publications--or offered by the ECM itself for some form of
remuneration--and consulted on a frequent and recurring basis by
industry participants in pricing cash market transactions.
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\20\ 17 CFR 36, Appendix A.
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The PJM Western hub is a major pricing center for electricity in
the eastern portion of the United States. Traders, including producers,
keep abreast of the electricity prices at PJM's Western Hub when
conducting cash deals. These traders look to a competitively determined
price as an indication of expected values of power at the Western Hub
when entering into cash market transaction for electricity, especially
those trades providing for physical delivery in the future.
Furthermore, power prices in other neighboring markets, such as New
York ISO's Zone A (Western New York), Zone G (Hudson Valley region) and
Zone J (New York City) as well as Midwest ISO's Cinergy hub are
typically based implicitly relative to the prices reported for PJM
Interconnection's Western hub. Traders use the ICE PJM contract, as
well as other ICE power contracts, to hedge cash market positions and
transactions--activities which enhance the PJM contract's price
discovery utility. The substantial volume of trading and open interest
in the PJM contract appears to attest to its use for this purpose.
While the PJM contract's settlement prices may not be the only factor
influencing spot and forward transactions, electricity traders consider
the ICE price to be a critical factor in conducting OTC
transactions.\21\ In these circumstances, the PJM contract satisfies
the direct price reference test.
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\21\ In addition to referencing ICE prices, firms participating
in PJM's Western hub power market may rely on other cash market
quotes as well as industry publications and price indices that are
published by third-party price reporting firms in entering into
power transactions.
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The fact that ICE's PJM monthly contract is used more widely as a
source of pricing information than the daily contract (i.e., the
``PDP'' contract) \22\ bolsters the argument that it serves as a direct
price reference. In this regard, PJM contract prices power at the
Western hub up to almost ten years into the future. Thus, market
participants can use the PJM contract to lock in electricity prices far
into the future. Traders use monthly power contracts like the PJM
contract to price future power electricity commitments, where such
commitments are based on long-range forecasts of power supply and
demand. In contrast, the PDP contract is listed for a much shorter
length of time--up to 38 days in the future. As generation and usage
nears, market participants have a better understanding of actual power
supply and needs. As a result, they can modify previously-established
hedges with daily contracts, like the PDP contract.
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\22\ The PDP contract is cash settled based on the arithmetic
average of peak-hour, real-time LMPs posted by PJM for the Western
hub for all peak hours on the day of generation. The LMPs are
derived from power trades that result in physical delivery. The size
of the SDP contract is 800 MWh, and the PDP contract is listed for
38 consecutive calendar days.
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The Commission notes that the Western hub is a major trading point
for electricity, and that the PJM contract's prices are well regarded
in the industry as indicative of the value of power at the Western hub.
Accordingly, the Commission believes that it is reasonable to conclude
that market participants purchase the data packages that include the
PJM contract's prices in substantial part because the PJM contract's
prices have particular value to them. Moreover, such prices are
consulted on a frequent and recurring basis by industry participants in
pricing cash market transactions. In light of the above, the PJM
contract also meets the indirect price reference test.
The New York Mercantile Exchange (``NYMEX'') lists a futures
contract on its ClearPort platform-- the PJM Western Hub Peak Calendar-
Month Real-Time LMP Swap futures contract --that is comparable to the
ICE PJM contract. However, unlike the ICE contract, none of the trades
in the NYMEX version are executed in NYMEX's centralized marketplace;
instead, all of the transactions originate as bilateral swaps that are
submitted to NYMEX for clearing. The daily settlement prices of NYMEX's
monthly, peak-hour Western hub contract are influenced, in part, by the
daily settlement prices of the ICE PJM contract. NYMEX determines the
daily settlement prices for its power contracts through a survey of
cash market voice brokers. Voice brokers, in turn, refer to the ICE PJM
price, among other information, as an important indicator as to where
the market is trading. In this manner, the ICE PJM price influences the
settlement price for the NYMEX monthly, peak-hour Western hub power
contract. This conclusion is supported by an analysis of the daily
settlement prices for the PJM contract and the NYMEX equivalent which
indicates that 81 percent of the daily settlement prices \23\ for the
NYMEX version of the contract are within one standard deviation of the
PJM contract's price settlement prices.
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\23\ The price data covered the period December 2008 through
December 2009.
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i. Federal Register Comments:
EPSA, FIEG, EEI and ICE stated that no other contract directly
references or settles to the PJM contract's price. Moreover, the
commenters argued that the underlying cash price series against which
the PJM contract is settled \24\ is the authentic reference price and
not the ICE contract itself. Commission staff believes that this
interpretation of price reference is too narrow and believes that a
cash-settled derivatives contract could meet the price reference
criterion if market participants ``consult [the derivatives contract]
on a frequent and recurring basis'' when pricing forward, fixed-price
commitments or other cash-settled derivatives that seek to ``lock in''
a fixed price for some future point in time to hedge against adverse
price movements.
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\24\ In this case, the average of the real-time peak-hour
Western hub electricity prices over the contract month, which are
derived from cash market transactions.
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As noted above, PJM's Western hub is a major trading center for
electricity in the eastern United States. Traders, including producers,
keep abreast of the prices of the PJM contract when conducting cash
deals. These traders look to a competitively determined price as an
indication of expected values of electricity at the Western hub when
entering into cash market transaction for power, especially those
trades that provide for physical delivery in the future. Traders use
the ICE PJM
[[Page 42394]]
contract to hedge cash market positions and transactions, which
enhances the PJM contract's price discovery utility. While the PJM
contract's settlement prices may not be the only factor influencing
spot and forward transactions, natural gas traders consider the ICE
price to be a crucial factor in conducting OTC transactions.
In addition, EPSA stated that the publication of price data for the
PJM contract price is a weak justification for material price reference
because market participants generally do not purchase ICE data sets for
one contract's prices, such as those for the PJM contract. Instead,
traders are interested in the settlement prices, so the fact that ICE
sells the PJM prices as part of a broad package is not conclusive
evidence that market participants are buying the ICE data sets because
they find the PJM prices have substantial value. As noted above, the
Commission recognizes that publication of the PJM contract's prices is
indirect evidence of routine dissemination. Thus, the Commission has
concluded that traders likely purchase the ICE data packages
specifically for the PJM contract's prices and consult such prices on a
frequent and recurring basis in pricing cash market transactions.
Lastly, ICE and EEI criticized the ECM Study since it did not
specifically identify the PJM contract as a contract that is referred
to by market participants on a frequent and recurring basis. In
response, the Commission notes that it cited the ECM Study's general
finding that some ICE electricity contracts appear to be regarded as
price discovery markets merely as indication that an investigation of
certain ICE contracts may be warranted. The ECM Study was not intended
to serve as the sole basis for determining whether or not a particular
contract meets the material price reference criterion.
ii. Conclusion Regarding Material Price Reference:
The Commission finds that the ICE PJM contract meets the material
price reference criterion because cash market transactions are priced
either explicitly or implicitly on a frequent and recurring basis at a
differential to the PJM contract's price (direct evidence). Moreover,
the PJM contract's price data are sold to market participants, and
those individuals likely purchase the ICE data packages specifically
for the PJM contract's prices and consult such prices on a frequent and
recurring basis in pricing cash market transactions (indirect
evidence).
2. Material Liquidity Criterion
In its October 26, 2009, Federal Register notice, the Commission
identified the PJM contract as a potential SPDC based on the material
price reference and material liquidity criteria. To assess whether a
contract meets the material liquidity criterion, the Commission first
examines trading activity as a general measurement of the contract's
size and potential importance. If the Commission finds that the
contract in question meets a threshold of trading activity that would
render it of potential importance, the Commission will then perform a
statistical analysis to measure the effect that changes to the subject-
contract's prices potentially may have on prices for other contracts
listed on an ECM or a DCM.
The Commission's Guidance to the statutory criteria (Appendix A to
Part 36) notes that ``[t]raditionally, objective measures of trading
such as volume or open interest have been used as measures of
liquidity.'' In this regard, the total number of transactions executed
on ICE's electronic platform in the PJM contract was 7,990 in the
second quarter of 2009, resulting in a daily average of 124.8 trades.
During the same period, the PJM contract had a total trading volume of
268,489 contracts and an average daily trading volume of 4,195.1
contracts. Moreover, open interest as of June 30, 2009, was 318,788
contracts, which included trades executed on ICE's electronic trading
platform, as well as trades executed off of ICE's electronic trading
platform and then brought to ICE for clearing. In this regard, ICE does
not differentiate between open interest created by a transaction
executed on its trading platform and that created by a transaction
executed off its trading platform.\25\
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\25\ 74 FR 54966 (October 26, 2009).
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In a subsequent filing dated March 24, 2010, ICE reported that
total trading volume in the fourth quarter of 2009 was 371,885
contracts (or 5,721.3 contracts on a daily basis). In terms of number
of transactions, 9,913 trades occurred in the fourth quarter of 2009
(152.5 trades per day). As of December 31, 2009, open interest in the
PJM contract was 344,754 contracts, which included trades executed on
ICE's electronic trading platform, as well as trades executed off of
ICE's electronic trading platform and then brought to ICE for clearing.
The number of trades per day was substantial during the period
between the second and fourth quarters of 2009. In addition, trading
activity in the PJM contract, as characterized by total quarterly
volume, indicates that the PJM contract experiences trading activity
that is greater than that of thinly-traded futures markets.\26\ Thus,
it is reasonable to infer that the PJM contract could have a material
effect on other ECM contracts or on DCM contracts.
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\26\ Staff has advised the Commission that in its experience, a
thinly-traded contract is, generally, one that has a quarterly
trading volume of 100,000 contracts or less. In this regard, in the
third quarter of 2009, physical commodity futures contracts with
trading volume of 100,000 contracts or fewer constituted less than
one percent of total trading volume of all physical commodity
futures contracts.
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To measure the effect that the PJM contract potentially could have
on another ECM contract staff performed a statistical analysis \27\
using daily settlement prices (between July 1, 2008 and December 31,
2009) for the ICE PJM and OPJ contracts. The simulation suggest that,
on average over the sample period, a one percent rise in the PJM
contract's price elicited a 2.15 percent increase in ICE OPJ contract's
price.
---------------------------------------------------------------------------
\27\ Specifically, Commission staff econometrically estimated a
cointegrated vector autoregression (CVAR) model using daily
settlement prices. CVAR methods permit a dichotomization of the data
relationships into long run equilibrium components (called the
cointegration space or cointegrating relationships) and a short run
component. A CVAR model was chosen over the more traditional vector
autoregression model in levels because the statistical properties of
the data (lack of stationarity and ergodicity) precluded the more
traditional modeling treatment. Moreover, the statistical properties
of the data necessitated the modeling of the contracts' prices as a
CVAR model containing both first differences (to handle
stationarity) and an error-correction term to capture long run
equilibrium relationships. The prices were treated as a single
reduced-form model in order to test hypothesis that power prices in
the same market affect each other. The prices of ICE's PJM and OPJ
contracts are positively related to each other in a cointegrating
relationship and display a high level of statistical strength. On
average during the sample period, each percentage rise in PJM
contract's price elicited a 2.15 percent rise in OPJ contract's
price.
---------------------------------------------------------------------------
i. Federal Register Comments:
ICE stated that the PJM contract lacks a sufficient number of
trades to meet the material liquidity criterion. Along with EPSA and
EEI, ICE argued that the PJM contract cannot have a material effect on
DCM contracts or other ECM contracts because these other contracts do
not cash settle to the PJM contract's price. Instead, the DCM contracts
and the PJM contract are both cash settled based on physical
transactions, which neither the ECM or the DCM contracts can influence.
The Commission's statistical analysis shows that changes in the ICE PJM
contract's price significantly influences the prices of other ECM
contracts (namely, the OPJ contract). In this regard, a one-percent
rise in the PJM contract's price leads to a 2.15 percent rise in OPJ
contract's price.
[[Page 42395]]
ICE noted that the Commission's Guidance had posited concepts of
liquidity that generally assumed a fairly constant stream of prices
throughout the trading day, and noted that the relatively low number of
trades per day in the PJM contract did not meet this standard of
liquidity. The Commission observes that a continuous stream of prices
would indeed be an indication of liquidity for certain markets but the
Guidance also notes that ``quantifying the levels of immediacy and
price concession that would define material liquidity may differ from
one market or commodity to another.'' \28\
---------------------------------------------------------------------------
\28\ Guidance, supra.
---------------------------------------------------------------------------
ICE opined that the Commission ``seems to have adopted a five trade
per day test for material liquidity.'' To the contrary, the Commission
adopted a five trades-per-day threshold as a reporting requirement to
enable it to ``independently be aware of ECM contracts that may develop
into SPDCs'' \29\ rather than solely relying upon an ECM on its own to
identify any such potential SPDCs to the Commission. Thus, any contract
that meets this threshold may be subject to scrutiny as a potential
SPDC; however, the contract will not be found to be a SPDC merely
because it met the reporting threshold.
---------------------------------------------------------------------------
\29\ 73 FR 75892 (December 12, 2008).
---------------------------------------------------------------------------
ICE argued that the statistics provided by ICE were misinterpreted
and misapplied by the Commission. In particular, ICE stated that the
volume figures used in the Commission's analysis (cited above)
``include trades made in all months'' as well as in strips of contract
months. ICE suggested that a more appropriate method of determining
liquidity is to examine the activity in a single traded month of a
given contract.'' \30\ It is the Commission's opinion that liquidity,
as it pertains to the PJM contract, is typically a function of trading
activity in particular lead months and, given sufficient liquidity in
such months, the ICE PJM contract itself would be considered liquid.
ICE's analysis of its own trade data confirms this to be the case for
the PJM contract, and thus, the Commission believes that it applied the
statistical data cited above in an appropriate manner for gauging
material liquidity.
---------------------------------------------------------------------------
\30\ In addition, ICE stated that the trades-per-day statistics
that it provided to the Commission in its quarterly filing and which
were cited in the Commission's October 26, 2009, Federal Register
notice includes 2(h)(1) transactions, which were not completed on
the electronic trading platform and should not be considered in the
SPDC determination process. The Commission staff asked ICE to review
the data it sent in its quarterly filings; ICE confirmed that the
volume data it provided and which the Commission cited includes only
transaction data executed on ICE's electronic trading platform. As
noted above, supplemental data supplied by ICE confirmed that block
trades are in addition to the trades that were conducted on the
electronic platform; block trades comprise about 49 percent of all
transactions in the PJM contract (as of the fourth quarter of 2009).
Commission acknowledges that the open interest information it
provided in its October 26, 2009, Federal Register notice includes
transactions made off the ICE platform. However, once open interest
is created, there is no way for ICE to differentiate between ``on-
exchange'' versus ``off-exchange'' created positions, and all such
positions are fungible with one another and may be offset in any way
agreeable to the position holder regardless of how the position was
initially created.
---------------------------------------------------------------------------
ii. Conclusion Regarding Material Liquidity:
For the reasons discussed above, the Commission finds that the PJM
contract meets the material liquidity criterion. Specifically, there is
sufficient trading activity in the PJM contract to have a material
effect on ``other agreements, contracts or transactions listed for
trading on or subject to the rules of a designated contract market * *
* or an electronic trading facility operating in reliance on the
exemption in section 2(h)(3) of the Act'' (that is, an ECM).
3. Overall Conclusion Regarding the PJM Contract
After considering the entire record in this matter, including the
comments received, the Commission has determined that the ICE PJM
contract performs a significant price discovery function under two of
the four criteria established in section 2(h)(7) of the CEA.
Specifically, the Commission has determined that the PJM contract meets
the material price reference and material liquidity criteria at this
time. Accordingly, the Commission is issuing the attached Order
declaring that the PJM contract is a SPDC.
Issuance of this Order signals the immediate effectiveness of the
Commission's authorities with respect to ICE as a registered entity in
connection with its PJM contract,\31\ and triggers the obligations,
requirements--both procedural and substantive--and timetables
prescribed in Commission rule 36.3(c)(4) for ECMs.
---------------------------------------------------------------------------
\31\ See 73 FR 75888, 75893 (Dec. 12, 2008).
---------------------------------------------------------------------------
b. The PJM WH Real Time Off-Peak (OPJ) Contract and the SPDC Indicia
The OPJ contract is cash settled based on the arithmetic average of
off-peak hour, real-time LMPs published by PJM Interconnection for its
Western Hub for all off-peak hours during the contract month. The
hourly LMPs are derived from power trades that result in physical
delivery. The size of the OPJ contract is 50 MWh, and the OPJ contract
is listed for up to 86 calendar months.
In general, electricity is bought and sold in an auction setting on
an hourly basis at various points along the electrical grid. An LMP
associated with a specific hour is calculated as the volume-weighted
average price of all of the transactions where electricity is to be
supplied and consumed during that hour.
Electricity is traded in a day-ahead market as well as a real-time
market. The day-ahead market establishes prices for electricity that is
to be delivered during the specified hour on the following day. Day-
ahead prices are determined based on generation and energy transaction
quotes offered in advance. Because the offers and bids are dependent on
estimates of supply and demand, electricity needs usually are not
perfectly satisfied in the day-ahead market. In this regard, on the day
the electricity is transmitted and used, auction participants typically
realize that they bought or sold either too much power or too little
power. A real-time auction is operated to alleviate this problem by
serving as a balancing mechanism. Specifically, electricity traders use
the real-time market to sell excess electricity and buy additional
power to meet demand.
PJM Interconnection is an RTO that coordinates the movement of
wholesale electricity in all or parts of Delaware, Illinois, Indiana,
Kentucky, Maryland, Michigan, New Jersey, North Carolina, Ohio,
Pennsylvania, Tennessee, Virginia, West Virginia and the District of
Columbia. PJM Interconnection's transmission network is the largest
centrally dispatched grid in North America. PJM Interconnection
dispatches about 163,500 MW of generating capacity over 56,350 miles of
transmission lines and serves more than 51 million customers. The RTO's
members, totaling more than 500, include power generators, transmission
owners, electricity distributors, power marketers and large consumers.
PJM Interconnection is responsible for operating a competitive
wholesale electricity market as well as maintaining the reliability of
the grid. The RTO acts as a neutral, independent party, and its
activities are monitored by FERC. The company coordinates the
continuous buying, selling and delivery of wholesale electricity
through robust, open and competitive spot markets. In operating the
markets, PJM balances the needs of suppliers, wholesale customers and
other market participants, and it continuously monitors market
behavior.
Electricity is priced at individual points along the transmission
network
[[Page 42396]]
called nodes. An electric grid has many interconnections or buses. RTOs
group certain buses together to form hubs for pricing and trading
purposes, and these hubs do not necessarily follow along state lines or
geographic boundaries. Power also is priced at the hub level and serves
as a basis for trading electricity. PJM Interconnnection has 11 hubs,
including AEP GEN, AEP-Dayton, Chicago GEN, Chicago, Dominion, Eastern,
Northern Illinois, New Jersey, Ohio, West INT and Western Hub.\32\ The
Western Hub is a basket of 109 buses that stretch all the way from
Erie, PA, to Washington, DC.\33\
---------------------------------------------------------------------------
\32\ http://www.ferc.gov/market-oversight/mkt-electric/pjm.asp.
\33\ http://www.ferc.gov/market-oversight/mkt-electric/pjm/2010/05-2010-elec-pjm-archive.pdf.
---------------------------------------------------------------------------
1. Material Price Reference Criterion
The Commission's October 26, 2009, Federal Register notice
identified the OJP contract as a potential SPDC based on the material
price reference and material liquidity criteria. The Commission
considered the fact that ICE sells its price data to market
participants in a number of different packages which vary in terms of
the hubs covered, time periods, and whether the data are daily only or
historical. For example, ICE offers the ``East Power of Day''package
with access to all price data or just current prices plus a selected
number of months (i.e., 12, 24, 36 or 48 months) of historical data.
This package includes price data for the OPJ contract.
The Commission also noted that its October 2007 ECM Study found
that in general, market participants view ICE as a price discovery
market for certain electricity contracts. The study did not specify
which markets performed this function; nevertheless, the Commission
determined that the OPJ contract, while not mentioned by name in the
ECM Study, warranted further review.
The Commission explains in its Guidance to the statutory criteria
that in evaluating a contract under the material price reference
criterion, it will rely on one of two sources of evidence--direct or
indirect--to determine that the price of a contract was being used as a
material price reference and therefore, serving a significant price
discovery function.\34\ With respect to direct evidence, the Commission
will consider the extent to which, on a frequent and recurring basis,
cash market bids, offers or transactions are directly based on or
quoted at a differential to, the prices generated on the ECM in
question. Direct evidence may be established when cash market
participants are quoting bid or offer prices or entering into
transactions at prices that are set either explicitly or implicitly at
a differential to prices established for the contract in question. Cash
market prices are set explicitly at a differential to the section
2(h)(3) contract when, for instance, they are quoted in dollars and
cents above or below the reference contract's price. Cash market prices
are set implicitly at a differential to a section 2(h)(3) contract
when, for instance, they are arrived at after adding to, or subtracting
from the section 2(h)(3) contract, but then quoted or reported at a
flat price. With respect to indirect evidence, the Commission will
consider the extent to which the price of the contract in question is
being routinely disseminated in widely distributed industry
publications--or offered by the ECM itself for some form of
remuneration--and consulted on a frequent and recurring basis by
industry participants in pricing cash market transactions.
---------------------------------------------------------------------------
\34\ 17 CFR 36, Appendix A.
---------------------------------------------------------------------------
PJM's Western hub is a major pricing center for electricity in the
eastern portion of the United States. Traders, including producers,
keep abreast of the electricity prices at PJM's Western hub when
conducting cash deals. These traders look to a competitively determined
price as an indication of expected values of power at the Western hub
when entering into cash market transactions for electricity, especially
those trades providing for physical delivery in the future.
Furthermore, power prices in other neighboring markets, such as New
York ISO's Zone A (Western New York), Zone G (Hudson Valley region) and
Zone J (New York City) as well as Midwest ISO's Cinergy hub, are
typically based implicitly relative to the prices reported for PJM
Interconnection's Western hub. Traders use the ICE OPJ contract, as
well as other ICE power contracts, to hedge cash market positions and
transactions--activities which enhance the OPJ contract's price
discovery utility. The substantial volume of trading and open interest
in the OPJ contract appears to attest to its use for this purpose.
While the OPJ contract's settlement prices may not be the only factor
influencing spot and forward transactions, electricity traders consider
the ICE price to be a critical factor in conducting OTC
transactions.\35\ As a result, the OPJ contract satisfies the direct
price reference test.
---------------------------------------------------------------------------
\35\ In addition to referencing ICE prices, firms participating
in PJM's Western hub power market may rely on other cash market
quotes as well as industry publications and price indices that are
published by third-party price reporting firms in entering into
power transactions.
---------------------------------------------------------------------------
The fact that ICE's OPJ monthly contract is used widely as a source
of pricing information is further evidence of direct price reference.
In this regard, OPJ contract prices power at the Western hub about
seven years into the future. Thus, market participants can use the OPJ
contract to lock-in electricity prices far into the future. Traders use
monthly power contracts like the OPJ contract to price future power
electricity commitments, where such commitments are based on long-range
forecasts of power supply and demand.
The Commission notes that the Western hub is a major trading point
for electricity, and the OPJ contract's prices are well regarded in the
industry as indicative of the value of off-peak power at the Western
hub. Accordingly, the Commission believes that it is reasonable to
conclude that market participants purchase the data packages that
include the OPJ contract's prices in substantial part because the OPJ
contract's prices have particular value to them. Moreover, such prices
are consulted on a frequent and recurring basis by industry
participants in pricing cash market transactions. In light of the
above, the OPJ contract meets the indirect price reference test.
NYMEX lists a futures contract that is comparable to the ICE OPJ
contract on its ClearPort platform called the PJM Western Hub Off-Peak
Calendar-Month Real-Time LMP Swap futures contract. However, unlike the
ICE contract, none of the trades in the NYMEX version are executed in
NYMEX's centralized marketplace; instead, all of the transactions
originate as bilateral swaps that are submitted to NYMEX for clearing.
The daily settlement prices of NYMEX's monthly, off-peak hour Western
hub contract are influenced, in part, by the daily settlement prices of
the ICE OPJ contract. This is because NYMEX determines the daily
settlement prices for its power contracts through a survey of cash
market voice brokers. Voice brokers, in turn, refer to the ICE OPJ
price, among other information, as an important indicator as to where
the market is trading. Therefore, the ICE OPJ price influences the
settlement price for the NYMEX monthly, off-peak hour Western hub power
contract. This conclusion is supported by an analysis of the daily
settlement prices for the OPJ contract and the NYMEX equivalent which
demonstrates that 94 percent of the daily settlement prices \36\ for
the
[[Page 42397]]
NYMEX version of the contract are within one standard deviation of the
OPJ contract's price settlement prices.
---------------------------------------------------------------------------
\36\ The price data covered the period December 2008 through
December 2009.
---------------------------------------------------------------------------
i. Federal Register Comments:
EPSA, FIEG, EEI and ICE stated that no other contract directly
references or settles to the OPJ contract's price. Moreover, the
commenters argued that the underlying cash price series against which
the OPJ contract is settled (in this case, the average of the real-time
off-peak hour Western Hub electricity prices over the contract month,
which are derived from cash market transactions) is the authentic
reference price and not the ICE contract itself. The Commission
believes that this interpretation of price reference is too narrow and
believes that a cash-settled derivatives contract could meet the price
reference criterion if market participants ``consult on a frequent and
recurring basis'' the derivatives contract when pricing forward, fixed-
price commitments or other cash-settled derivatives that seek to ``lock
in'' a fixed price for some future point in time to hedge against
adverse price movements.
PJM's Western hub is a major trading center for electricity in the
eastern United States. Traders, including producers, keep abreast of
the prices of the OPJ contract when conducting cash deals. These
traders look to a competitively determined price as an indication of
expected values of electricity at the Western hub when entering into
cash market transaction for power, especially those trades that provide
for physical delivery in the future. Traders use the ICE OPJ contract
to hedge cash market positions and transactions, which enhances the OPJ
contract's price discovery utility. While the OPJ contract's settlement
prices may not be the only factor influencing spot and forward
transactions, power traders consider the ICE price to be a crucial
factor in conducting OTC transactions.
In addition, EPSA stated that the publication of price data for the
OPJ contract price is weak justification for material price reference.
Market participants generally do not purchase ICE data sets for one
contract's prices. Instead, traders are interested in the settlement
prices, so the fact that ICE sells the OPJ prices as part of a broad
package is not conclusive evidence that market participants are buying
the ICE data sets because the OPJ prices have substantial value to
them. The Commission notes that publication of the OPJ contract's
prices is indirect evidence of routine dissemination. Thus, the
Commission has concluded that traders likely specifically purchase the
ICE data packages for the OPJ contract's prices and consult such prices
on a frequent and recurring basis in pricing cash market transactions.
Lastly, ICE and EEI criticized the Commission's reliance on the ECM
Study since it did not specifically identify the OPJ contract as a
contract that is referred to by market participants on a frequent and
recurring basis. The Commission notes that it cited the ECM Study's
general finding that some ICE electricity contracts appear to be
regarded as price discovery markets merely as indication that an
investigation of certain ICE contracts may be warranted. The ECM Study
was not intended to serve as the sole basis for determining whether or
not a particular contract meets the material price reference criterion.
ii. Conclusion Regarding Material Price Reference:
The Commission finds that the ICE OPJ contract meets the material
price reference criterion because cash market transactions are priced
either explicitly or implicitly on a frequent and recurring basis at a
differential to the OPJ contract's price (direct evidence). Moreover,
the OPJ contract's price data are sold to market participants, and
those individuals likely purchase the ICE data packages specifically
for the OPJ contract's prices and consult such prices on a frequent and
recurring basis in pricing cash market transactions (indirect
evidence).
2. Material Liquidity Criterion
As noted above, in its October 26, 2009, Federal Register notice,
the Commission identified the OJP contract as a potential SPDC based on
the material price reference and material liquidity criteria. To assess
whether a contract meets the material liquidity criterion, the
Commission first examines trading activity as a general measurement of
the contract's size and potential importance. If the Commission finds
that the contract in question meets a threshold of trading activity
that would render it of potential importance, the Commission will then
perform a statistical analysis to measure the effect that changes to
the subject-contract's prices potentially may have on prices for other
contracts listed on an ECM or a DCM.
The Commission's Guidance (Appendix A to Part 36) notes that
``[t]raditionally, objective measures of trading such as volume or open
interest have been used as measures of liquidity.'' in this regard, the
total number of transactions executed on ICE's electronic platform in
the OPJ contract was 437 in the second quarter of 2009, resulting in a
daily average of 6.8 trades. During the same period, the OPJ contract
had a total trading volume of 325,799 contracts and an average daily
trading volume of 5,090.6 contracts. Moreover, open interest as of June
30, 2009, was 2,976,492 contracts, which included trades executed on
ICE's electronic trading platform, as well as trades executed off of
ICE's electronic trading platform and then brought to ICE for clearing.
In this regard, ICE does not differentiate between open interest
created by a transaction executed on its trading platform and that
created by a transaction executed off its trading platform.\37\
---------------------------------------------------------------------------
\37\ 74 FR 54966 (October 26, 2009).
---------------------------------------------------------------------------
In a subsequent filing dated March 24, 2010, ICE reported that
total trading volume in the fourth quarter of 2009 was 622,984
contracts (or 9,584.4 contracts on a daily basis). In terms of number
of transactions, 456 trades occurred in the fourth quarter of 2009 (7.0
trades per day). As of December 31, 2009, open interest in the OPJ
contract was 3,293,899 contracts, which included trades executed on
ICE's electronic trading platform, as well as trades executed off of
ICE's electronic trading platform and then brought to ICE for clearing.
The number of trades per day was substantial during the period
between the second and fourth quarters of 2009. In addition, trading
activity in the OPJ contract, as characterized by total quarterly
volume, indicates that the OPJ contract experiences trading activity
that is greater than that of thinly-traded futures markets.\38\ Thus,
it is reasonable to infer that the OPJ contract could have a material
effect on other ECM contracts or on DCM contracts.
---------------------------------------------------------------------------
\38\ Staff has advised the Commission that in its experience, a
thinly-traded contract is, generally, one that has a quarterly
trading volume of 100,000 contracts or less. In this regard, in the
third quarter of 2009, physical commodity futures contracts with
trading volume of 100,000 contracts or fewer constituted less than
one percent of total trading volume of all physical commodity
futures contracts.
---------------------------------------------------------------------------
To measure the effect that the PJM contract could have on another
ECM contract staff performed a statistical analysis \39\ using daily
settlement prices
[[Page 42398]]
(between July 1, 2008 and December 31, 2009) for the ICE PJM and OPJ
contracts. The simulation suggests that, on average over the sample
period, a one percent rise in the OPJ contract's price elicited a 0.47
percent increase in ICE PJM contract's price.
---------------------------------------------------------------------------
\39\ Specifically, Commission staff econometrically estimated a
cointegrated vector autoregression (CVAR) model using daily
settlement prices. CVAR methods permit a dichotomization of the data
relationships into long run equilibrium components (called the
cointegration space or cointegrating relationships) and a short run
component. A CVAR model was chosen over the more traditional vector
autoregression model in levels because the statistical properties of
the data (lack of stationarity and ergodicity) precluded the more
traditional modeling treatment. Moreover, the statistical properties
of the data necessitated the modeling of the contracts' prices as a
CVAR model containing both first differences (to handle
stationarity) and an error-correction term to capture long run
equilibrium relationships. The prices were treated as a single
reduced-form model in order to test hypothesis that power prices in
the same market affect each other. The prices of ICE's PJM and OPJ
contracts are positively related to each other in a cointegrating
relationship and display a high level of statistical strength. On
average during the sample period, each percentage rise in OPJ
contract's price elicited a 0.47 percent rise in PJM contract's
price.
---------------------------------------------------------------------------
i. Federal Register Comments:
ICE stated that the OPJ contract lacks a sufficient number of
trades to meet the material liquidity criterion. Along with EPSA and
EEI, ICE argued that the OPJ contract cannot have a material effect on
DCM contracts or other ECM contracts because these other contracts do
not cash settle to the OPJ contract's price. Instead, the DCM contracts
and the OPJ contract are both cash settled based on physical
transactions, which neither the ECM nor the DCM contracts can
influence. On the contrary, the Commission's statistical analysis shows
that changes in the ICE OPJ contract's price significantly influences
the prices of other ECM contracts (namely, the PJM contract). In this
regard, a one-percent rise in the OPJ contract's price leads to a 0.47
percent rise in PJM contract's price.
ICE noted that the Commission's Guidance had posited concepts of
liquidity that generally assumed a fairly constant stream of prices
throughout the trading day, and noted that the relatively low number of
trades per day in the OPJ contract did not meet this standard of
liquidity. The Commission observes that a continuous stream of prices
would indeed be an indication of liquidity for certain markets but the
Guidance also notes that ``quantifying the levels of immediacy and
price concession that would define material liquidity may differ from
one market or commodity to another.'' \40\
---------------------------------------------------------------------------
\40\ Guidance, supra.
---------------------------------------------------------------------------
ICE opined that the Commission ``seems to have adopted a five trade
per day test for material liquidity.'' To the contrary, the Commission
adopted a five trades-per-day threshold as a reporting requirement to
enable it to ``independently be aware of ECM contracts that may develop
into SPDCs'' \41\ rather than solely relying upon an ECM on its own to
identify any such potential SPDCs to the Commission. Thus, any contract
that meets this threshold may be subject to scrutiny as a potential
SPDC; however, the contract will not be found to be a SPDC merely
because it met the reporting threshold.
---------------------------------------------------------------------------
\41\ 73 FR 75892 (December 12, 2008).
---------------------------------------------------------------------------
ICE also argued that the statistics provided by ICE were
misinterpreted and misapplied by the Commission. In particular, ICE
stated that the volume figures used in the Commission's analysis (cited
above) ``include trades made in all months'' as well as in strips of
contract months. ICE suggested that a more appropriate method of
determining liquidity is to examine the activity in a single traded
month of a given contract.'' \42\ It is the Commission's opinion that
liquidity, as it pertains to the OPJ contract, is typically a function
of trading activity in particular lead months and, given sufficient
liquidity in such months, the ICE OPJ contract itself would be
considered liquid. ICE's analysis of its own trade data confirms this
to be the case for the OPJ contract, and thus, the Commission believes
that it applied the statistical data cited above in an appropriate
manner for gauging material liquidity.
---------------------------------------------------------------------------
\42\ In addition, ICE stated that the trades-per-day statistics
that it provided to the Commission in its quarterly filing and which
were cited in the Commission's October 26, 2009, Federal Register
notice includes 2(h)(1) transactions, which were not completed on
the electronic trading platform and should not be considered in the
SPDC determination process. The Commission staff asked ICE to review
the data it sent in its quarterly filings; ICE confirmed that the
volume data it provided and which the Commission cited includes only
transaction data executed on ICE's electronic trading platform. As
noted above, supplemental data supplied by ICE confirmed that block
trades are in addition to the trades that were conducted on the
electronic platform; block trades comprise about 72 percent of all
transactions in the OPJ contract (as of the fourth quarter of 2009).
Commission acknowledges that the open interest information it
provided in its October 26, 2009, Federal Register notice includes
transactions made off the ICE platform. However, once open interest
is created, there is no way for ICE to differentiate between ``on-
exchange'' versus ``off-exchange'' created positions, and all such
positions are fungible with one another and may be offset in any way
agreeable to the position holder regardless of how the position was
initially created.
---------------------------------------------------------------------------
ii. Conclusion Regarding Material Liquidity:
For the reasons discussed above, the Commission finds that the OPJ
contract satisfies the material liquidity criterion. Specifically,
there is sufficient trading activity in the OPJ contract to have a
material effect on ``other agreements, contracts or transactions listed
for trading on or subject to the rules of a designated contract market
* * * or an electronic trading facility operating in reliance on the
exemption in section 2(h)(3) of the Act'' (that is, an ECM).
3. Overall Conclusion Regarding the OPJ Contract
After considering the entire record in this matter, including the
comments received, the Commission has determined that the ICE OPJ
contract performs a significant price discovery function under the two
of the four criteria established in section 2(h)(7) of the CEA.
Specifically, the Commission has determined that the OPJ contract meets
the material price reference and material liquidity criteria.
Accordingly, the Commission is issuing the attached Order declaring
that the PJM contract is a SPDC.
Issuance of this Order signals the immediate effectiveness of the
Commission's authorities with respect to ICE as a registered entity in
connection with its OPJ contract,\43\ and triggers the obligations,
requirements--both procedural and substantive--and timetables
prescribed in Commission rule 36.3(c)(4) for ECMs.
---------------------------------------------------------------------------
\43\ See 73 FR 75888, 75893 (Dec. 12, 2008).
---------------------------------------------------------------------------
V. Related Matters
a. Paperwork Reduction Act
The Paperwork Reduction Act of 1995 (``PRA'') \44\ imposes certain
requirements on Federal agencies, including the Commission, in
connection with their conducting or sponsoring any collection of
information as defined by the PRA. Certain provisions of Commission
rule 36.3 impose new regulatory and reporting requirements on ECMs,
resulting in information collection requirements within the meaning of
the PRA. OMB previously has approved and assigned OMB control number
3038-0060 to this collection of information.
---------------------------------------------------------------------------
\44\ 44 U.S.C. 3507(d).
---------------------------------------------------------------------------
b. Cost-Benefit Analysis
Section 15(a) of the CEA \45\ requires the Commission to consider
the costs and benefits of its actions before issuing an order under the
Act. By its terms, section 15(a) does not require the Commission to
quantify the costs and benefits of an order or to determine whether the
benefits of the order outweigh its costs; rather, it requires that the
Commission ``consider'' the costs and benefits of its actions. 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
[[Page 42399]]
public interest considerations. The Commission may in its discretion
give greater weight to any one of the five enumerated areas and could
in its discretion determine that, notwithstanding its costs, a
particular order is necessary or appropriate to protect the public
interest or to effectuate any of the provisions or accomplish any of
the purposes of the Act.
---------------------------------------------------------------------------
\45\ 7 U.S.C. 19(a).
---------------------------------------------------------------------------
When a futures contract begins to serve a significant price
discovery function, that contract, and the ECM on which it is traded,
warrants increased oversight to deter and prevent price manipulation or
other disruptions to market integrity, both on the ECM itself and in
any related futures contracts trading on DCMs. An Order finding that a
particular contract is a SPDC triggers this increased oversight and
imposes obligations on the ECM calculated to accomplish this goal. The
increased oversight engendered by the issue of a SPDC Order increases
transparency and helps to ensure fair competition among ECMs and DCMs
trading similar products and competing for the same business. Moreover,
the ECM on which the SPDC is traded must assume, with respect to that
contract, all the responsibilities and obligations of a registered
entity under the CEA and Commission regulations. Additionally, the ECM
must comply with nine core principles established by section 2(h)(7) of
the Act--including the obligation to establish position limits and/or
accountability standards for the SPDC. Section 4(i) of the CEA
authorize the Commission to require reports for SPDCs listed on ECMs.
These increased responsibilities, along with the CFTC's increased
regulatory authority, subject the ECM's risk management practices to
the Commission's supervision and oversight and generally enhance the
financial integrity of the markets.
c. Regulatory Flexibility Act
The Regulatory Flexibility Act (``RFA'') \46\ requires that
agencies consider the impact of their rules on small businesses. The
requirements of CEA section 2(h)(7) and the Part 36 rules affect ECMs.
The Commission previously has determined that ECMs are not small
entities for purposes of the RFA.\47\ Accordingly, the Chairman, on
behalf of the Commission, hereby certifies pursuant to 5 U.S.C. 605(b)
that these Orders, taken in connection with section 2(h)(7) of the Act
and the Part 36 rules, will not have a significant impact on a
substantial number of small entities.
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\46\ 5 U.S.C. 601 et seq.
\47\ 66 FR 42256, 42268 (Aug. 10, 2001).
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VI. Orders
a. Order Relating to the PJM WH Real Time Peak Contract
After considering the complete record in this matter, including the
comment letters received in response to its request for comments, the
Commission has determined to issue the following Order:
The Commission, pursuant to its authority under section 2(h)(7) of
the Act, hereby determines that the PJM WH Real Time Peak contract,
traded on the IntercontinentalExchange, Inc., satisfies the material
price preference and material liquidity criteria for significant price
discovery contracts. Consistent with this determination, and effective
immediately, the IntercontinentalExchange, Inc., must comply with, with
respect to the PJM WH Real Time Peak contract, the nine core principles
established by new section 2(h)(7)(C). Additionally, the
IntercontinentalExchange, Inc., shall be and is considered a registered
entity \48\ with respect to the PJM WH Real Time Peak contract and is
subject to all the provisions of the Commodity Exchange Act applicable
to registered entities.
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\48\ 7 U.S.C. 1a(29).
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Further with respect to the PJM WH Real Time Peak contract, the
obligations, requirements and timetables prescribed in Commission rule
36.3(c)(4) governing core principle compliance by the
IntercontinentalExchange, Inc., commence with the issuance of this
Order.\49\
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\49\ Because ICE already lists for trading a contract (i.e., the
Henry Financial LD1 Fixed Price contract) that was previously
declared by the Commission to be a SPDC, ICE must submit a written
demonstration of compliance with the Core Principles within 30
calendar days of the date of this Order. 17 CFR 36.3(c)(4).
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b. Order Relating to the PJM WH Real Time Off-Peak Contract
After considering the complete record in this matter, including the
comment letters received in response to its request for comments, the
Commission has determined to issue the following Order:
The Commission, pursuant to its authority under section 2(h)(7) of
the Act, hereby determines that the PJM WH Real Time Off-Peak contract,
traded on the IntercontinentalExchange, Inc., satisfies the statutory
material price reference and material liquidity criteria for
significant price discovery contracts. Consistent with this
determination, and effective immediately, the IntercontinentalExchange,
Inc., must comply with, with respect to the PJM WH Real Time Off-Peak
contract, the nine core principles established by new section
2(h)(7)(C). Additionally, the IntercontinentalExchange, Inc., shall be
and is considered a registered entity \50\ with respect to the PJM WH
Real Time Off-Peak contract and is subject to all the provisions of the
Commodity Exchange Act applicable to registered entities.
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\50\ 7 U.S.C. 1a(29).
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Further with respect to the PJM WH Real Time Off-Peak contract, the
obligations, requirements and timetables prescribed in Commission rule
36.3(c)(4) governing core principle compliance by the
IntercontinentalExchange, Inc., commence with the issuance of this
Order.\51\
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\51\ Because ICE already lists for trading a contract (i.e., the
Henry Financial LD1 Fixed Price contract) that was previously
declared by the Commission to be a SPDC, ICE must submit a written
demonstration of compliance with the Core Principles within 30
calendar days of the date of this Order. 17 CFR 36.3(c)(4).
Issued in Washington, DC, on July 9, 2010, by the Commission.
David A. Stawick,
Secretary of the Commission.
[FR Doc. 2010-17743 Filed 7-20-10; 8:45 am]
BILLING CODE 6351-01-P