A fundamental component of the Dodd-Frank Act is to require central clearing of standard swaps in order to decrease systemic risk. Pursuant to Section 2(h) of the Commodity Exchange Act, the Commodity Futures Trading Commission (“CFTC”) may determine that a group, category, type, or class of swap must be centrally cleared by a derivatives clearing organization (“DCO”). The CFTC may then exercise its discretion in applying a compliance schedule in connection with a particular clearing requirement determination. To date, the CFTC has issued such a determination only with respect to certain classes of interest rate swaps and credit default swaps.[1] Pursuant to the relevant compliance schedule for this determination, subject swaps that are entered into between “financial entities” and swap dealers generally are required to be cleared beginning June 10, 2013.
Special purpose entity (“SPE”) issuers in securitizations often enter into interest rate swaps in connection with the securitizations. Most of these SPEs qualify as “financial entities,” which is generally defined to include, among others, commodity pools, “private funds,” as defined in section 202(a) of the Investment Advisers Act of 1940, and persons predominantly engaged in activities that are in the business of banking, or in activities that are financial in nature, as defined in section 4(k) of the Bank Holding Company Act of 1956. Industry group members and market participants have repeatedly requested an exemption or, at least, explicit interpretive guidance from the CFTC in connection with the applicability of the existing clearing mandate to securitization SPEs. So far, no such exemption or guidance has been provided.
As a practical matter, the two clearinghouses able to accept interest rate swaps for clearing in the United States are currently not able to accept swaps having “limited recourse” language and “non-petition” covenants, which are typical characteristics of securitization swaps required by rating agencies to make the SPEs bankruptcy-remote. However, if in the future this is no longer the case, the securitization market may need to renew its efforts for clarity on mandatory clearing, and may need to seek a stay of the clearing requirement pursuant to CFTC Regulation 39.5.
[1] Clearing Requirement Determination Under Section 2(h) of the CEA, 77 Fed. Reg. 74,284 (Dec. 13, 2012).