Use of the “end-user exception” to the Dodd-Frank clearing requirements for swaps subject to a clearing determination by the Commodity Futures Trading Commission (“CFTC”) requires that the end-user, among other things, not be a “financial entity” under the Commodity Exchange Act (“CEA”).^[1]  The definition of “financial entity” encompasses, among other persons, commodity pools.^[2]  In turn, the CEA defines a “commodity pool” as “any investment trust, syndicate, or similar form of enterprise operated for the purpose of trading in commodity interests[.]”^[3]  The Dodd-Frank Act expanded the scope of such “commodity interests” to include “swaps,”^[4] which has broadened the term significantly.  Moreover, the CFTC has long interpreted the requirement that an enterprise be operated “for the purpose” of trading in commodity interests quite broadly, such that almost any trading in swaps or other commodity interests could bring an entity within the definition of a commodity pool.^[5]  Recently the CFTC stated, “any swaps activities undertaken by a [commodity pool operator] would result in that entity being required to register because there would be no de minimis exclusion for such activity.  As a result, one swap contract would be enough to trigger the registration requirement.”^[6]  Additionally, the CFTC recently noted that “it is the staff’s position that wholly owned subsidiaries of commodity pools trading in derivatives are themselves commodity pools.”^[7]  Therefore, taken together, these provisions and guidance suggest that an entity that is a wholly owned subsidiary of a commodity pool and enters into a swap may itself constitute a “commodity pool” and, therefore, would not be eligible to use the end-user exception to the clearing requirement. READ MORE →

The cross-border application of Title VII of the Dodd-Frank Act has been a vexing question for regulators.  A major factor determining the ultimate reach of such swap regulation is the definition of “U.S. person” for purposes of the regulators’ guidance and other pronouncements regarding cross-border regulation.

On January 7, 2013, the CFTC published in the Federal Register a final order ^[1] (the “January Order”), which set forth a temporary “U.S. person” definition and provided temporary relief from certain provisions of the Dodd-Frank Act relating to swaps.  The January Order expired on July 12, 2013, but on that same day the CFTC approved a new exemptive order ^[2] (the “July Order”) providing “temporary conditional relief effective upon the expiration of the January Order in order to facilitate transition to the Dodd-Frank Swaps regime.” ^[3] Although the July Order states that, “the Commission does not believe that an extension of the January Order is necessary or appropriate,” ^[4] the July Order in effect simply extends many provisions of the January Order until 75 days after the publication in the Federal Register of the related final guidance ^[5] (the “Final Guidance”), which the CFTC also approved on July 12, 2013.  The Final Guidance was published in the Federal Register on July 26, 2013, making the extension date October 9, 2013.

Significantly, the July Order extends until October 9, 2013 the “U.S. person” definition exactly as it was set forth in the January Order. ^[6]  Upon the expiration of this definition on October 9, 2013, the “U.S. person” definition set forth in the Final Guidance will apply.  The Final Guidance provides that the CFTC will interpret the term “U.S. person” generally to include, but not be limited to:

(i)        any natural person who is a resident of the United States;

(ii)       any estate of a decedent who was a resident of the United States at the time of death;

(iii)      any corporation, partnership, limited liability company, business or other trust, association, joint-stock company, fund or any form of enterprise similar to any of the foregoing (other than an entity described in prongs (iv) or (v), below) (a “legal entity”), in each case that is organized or incorporated under the laws of a state or other jurisdiction in the United States or having its principal place of business in the United States;

(iv)     any pension plan for the employees, officers or principals of a legal entity described in prong (iii), unless the pension plan is primarily for foreign employees of such entity;

(v)      any trust governed by the laws of a state or other jurisdiction in the United States, if a court within the United States is able to exercise primary supervision over the administration of the trust;

(vi)     any commodity pool, pooled account, investment fund, or other collective investment vehicle that is not described in prong (iii) and that is majority-owned by one or more persons described in prong (i), (ii), (iii), (iv), or (v), except any commodity pool, pooled account, investment fund, or other collective investment vehicle that is publicly offered only to non-U.S. persons and not offered to U.S. persons;

(vii)    any legal entity (other than a limited liability company, limited liability partnership or similar entity where all of the owners of the entity have limited liability) that is directly or indirectly majority-owned by one or more persons described in prong (i), (ii), (iii), (iv), or (v) and in which such person(s) bears unlimited responsibility for the obligations and liabilities of the legal entity; and

(viii)   any individual account or joint account (discretionary or not) where the beneficial owner (or one of the beneficial owners in the case of a joint account) is a person described in prong (i), (ii), (iii), (iv), (v), (vi), or (vii). ^[7]

The Final Guidance definition is similar to the temporary definition, but broader.  For example, the temporary definition does not include an equivalent of prong (vi) above relating to legal entities that are majority-owned by persons that constitute U.S. Persons and which bear unlimited responsibility for the obligations and liabilities of the legal entity.  Moreover, the Final Guidance provides explanation on each prong of the foregoing definition and makes some important clarifications.

Once such clarification is that a foreign branch of a U.S. bank registered with the CFTC as a “swap dealer” (an “SD Foreign Branch”) is a “U.S. person” for purposes of the CFTC’s Dodd-Frank regulations.  However, generally speaking, the Final Guidance permits “substituted compliance” by an SD Foreign Branch that enters into a swap with a non-U.S. counterparty for one of more Dodd-Frank requirements if the CFTC has made a determination of comparability with respect to those regulatory requirements (a “Substituted Compliance Determination”).  Specifically: (i) with respect to “Category A Transaction-Level Requirements,” ^[8] an SD Foreign Branch may comply with the requirements of the local law and regulations in the foreign location of the branch in lieu of compliance with Dodd-Frank where a Substituted Compliance Determination has been made and (ii) with respect to “Category B Transaction-Level Requirements,” ^[9] an SD Foreign Branch need not comply with such requirements unless its swap counterparty is a U.S. person (other than another SD Foreign Branch).  The CFTC has not yet issued any Substituted Compliance Determinations, although it is currently considering substituted compliance applications submitted by six jurisdictions:  Australia, Canada, the European Union, Hong Kong, Japan and Switzerland.

Another important clarification is the application of a “principal place of business” test for purposes of determining whether a collective investment vehicle constitutes a U.S. person (under prong (iii) of the definition).  In particular, the Final Guidance states that the determination of the principal place of business for a collective investment vehicle generally should depend on the location of the “actual center of direction, control and coordination,” that is the “nerve center” ^[10] of the vehicle.  The Final Guidance further highlights that “[t]he key personnel relevant to this aspect of the analysis are those senior personnel responsible for implementing the vehicle’s investment strategy and its risk management.  Depending on the vehicle’s investment strategy, these senior personnel could be those responsible for investment selections, risk management decisions, portfolio management, or trade execution.” ^[11]  In sum, the Final Guidance provides that a collective investment vehicle’s principal place of business will be the United States “if the senior personnel responsible for either (1) the formation and promotion of the collective investment vehicle or (2) the implementation of the vehicle’s investment strategy are located in the United States, depending on the facts and circumstances that are relevant to determining the center of direction, control and coordination of the vehicle.” ^[12]

The CFTC has encouraged requests to provide written advice and guidance as to the application of the definition of “U.S. person,” ^[13] apparently recognizing that ambiguities may remain despite publication of the Final Guidance.

End-users in the United States traditionally have entered into swaps with counterparties that, following the implementation of the Dodd-Frank Act, registered with the CFTC as “swap dealers.”  Pursuant to CFTC regulation 45.8, where one party to a swap is a registered swap dealer, that party (known as the “reporting counterparty”) is the one required to report relevant swap data to a “swap data repository” (“SDR”).  The reporting requirements of the Dodd-Frank Act apply to new swaps, as well as swaps existing on or after the enactment of the Dodd-Frank Act but entered into before the required reporting date (known as “historical swaps”).  The exact compliance date for reporting historical swap data depends on the type of swap and the type of reporting counterparty; for example, swap dealers were required to report swap data for interest rate swaps by October 12, 2012.  However, where neither party is registered as a swap dealer, an end-user that is the sole “U.S. person” to a swap may find itself in the position of being the reporting counterparty.^[1]  In such a case, the end-user has been granted additional time to comply with the Dodd-Frank reporting requirements. READ MORE →

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. READ MORE →

The second and latest International Swaps and Derivatives Association, Inc. (“ISDA”) Dodd-Frank Protocol (“DF Protocol 2.0”) opened for adherence on March 22, 2013. DF Protocol 2.0 is intended to address the following requirements related to certain business conduct standards under the Dodd-Frank Act:

• End-User Exception Documentation. If applicable, a swap dealer (“SD”) or major swap participant (“MSP”) must obtain documentation sufficient to form a reasonable belief that its counterparty meets the conditions required for election of the end-user exception.^[1]
• Documentation of Swap Trading Relationships. SDs and MSPs must establish, maintain, and follow written policies and procedures reasonably designed to ensure (1) that they execute a confirmation for each swap transaction that they enter into and (2) that swap trading relationship documentation meets certain specified criteria with all counterparties. Additionally, SDs and MSPs must acknowledge and document swap transactions within certain specific time periods.^[2]
• Portfolio Reconciliation. SDs and MSPs must establish, maintain, and follow written policies and procedures regarding portfolio reconciliation and the resolution of portfolio value discrepancies.^[3]

READ MORE →

The enactment of Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) and its implementation by the Commodity Futures Trading Commission (“CFTC”) has ushered in a new era of regulation of managers of “private funds.” This White Paper provides a survey of some of the most significant aspects of the new swaps regulatory regime mandated by the Dodd-Frank Act that directly impact private fund managers. Specifically, this White Paper focuses on the regulatory actions of the CFTC, many of which have been taken in close coordination with the SEC.  Click here to read more.

Title VII of the Dodd-Frank financial reform, titled the “Wall Street Transparency and Accountability Act of 2010” (the “Act”), was enacted on July 21, 2010.^[1]  Under the Act, which is generally intended to bring the $650 trillion over-the-counter derivatives market under greater regulation, the Commodity Futures Trading Commission (“CFTC”) has primary responsibility for the regulation of “swaps” and the Securities Exchange Commission (“SEC” and, together with the CFTC, the “Commissions”) has primary responsibility for the regulation of “security-based swaps.”  Since our last update, the Commissions have continued to finalize rules in connection with the implementation of the Act.  A summary of certain noteworthy developments since our last update follows. READ MORE →

On August 13^th, the International Swaps and Derivatives Association, Inc. (“ISDA”) and Markit announced the launch of the Dodd-Frank Protocol (the “DF Protocol”).  The DF Protocol focuses primarily on the many “business conduct standard” requirements of the Dodd-Frank legislation and is being used as a mechanism for market participants to more efficiently amend existing swap documents to address changes required by (or relating to) the legislation.  Among other things, the DF Protocol is intended to: (i) assist dealers in gathering information needed to satisfy certain compliance obligations (especially “know your customer” rules); (ii) provide for certain representations and agreements between the parties necessary to get the benefit of certain safe harbors (for example, dealers are required to confirm that governmental or other “special entity” counterparties have qualified independent representatives and will rely on the advice of those representatives); and (iii) serve as a method for dealers to deliver certain new disclosures. READ MORE →

For some time now, market participants have been concerned about the exit of a member-state from the Eurozone. These concerns are most acute in—but not limited to—the case of Greece, as it struggles to implement structural reforms demanded by its troika of lenders: the European Central Bank, the International Monetary Fund and the European Commission. As part of its Eurozone contingency planning, the International Swaps and Derivatives Association, Inc. (“ISDA”) has attempted to address some of the risks relating to derivatives transactions in the event such an exit occurs through the publication on July 11^th of the Illegality/Force Majeure Protocol (the “Protocol”).^[1] The purpose of the Protocol is to facilitate the amendment of 1992 ISDA Master Agreements with the more sophisticated “Illegality” and “Force Majeure” provisions of the 2002 ISDA Master Agreement. READ MORE →

Title VII of the Dodd-Frank Act, titled the “Wall Street Transparency and Accountability Act of 2010” (“Title VII”), was enacted on July 21, 2010.^[1]  Under the Dodd-Frank Act, which is generally intended to bring the $700 trillion over-the-counter derivatives market under greater regulation, the Commodity Futures Trading Commission (“CFTC”) has primary responsibility for the regulation of “swaps” and the Securities and Exchange Commission (“SEC” and, together with the CFTC, the “Commissions”) has primary responsibility for the regulation of “security-based swaps.”  A summary of certain noteworthy developments in the implementation of Title VII since our last update follows. READ MORE →