Notice of Proposed Rulemaking: Certain Swap Data Repository and Data Reporting Requirements
The Institute for Agriculture and Trade Policy (IATP)[i] is pleased to have the opportunity to comment on this NPRM. IATP began to comment on CFTC swaps work in October 2010 concerning a request for information about agricultural swaps.[ii] IATP’s most recent comment on swaps market rulemaking is on the proposed rule for Swaps Execution Facilities and Trade Execution Requirement.[iii]
In October 2015, the Commission discontinued the reporting of the estimated notional value outstanding of non-financial commodity swaps, including agricultural swaps and index swaps that include agricultural contracts, in its Weekly Swaps Report[iv].[v] It is regrettable that the Commission has not yet been able to propose and finalize swaps transaction data elements and other reporting requirements to enable real-time reporting of non-financial commodity swaps.
However, the estimate of notional value relies on data reporting definitions, practices and infrastructure whose complexity and interconnectedness, as outlined in the NPRM, affects a Commission-estimated 1,732 U.S. entities that would respond to the NPRM’s swaps reporting and recordkeeping requirements (Federal Register (FR) Vol. 84, No. 92; Monday, May 13, 2019: p. 20176). Given the difficulty of developing reporting and record keeping requirements for these entities to confirm the accuracy and completeness of swaps data, as required by the Dodd Frank Wall Street Reform and Consumer Financial Protection Act (DFA), the Commission was wise to discontinue its estimates for non-financial commodity swaps until such time as a swaps reporting and record keeping rule could be finalized and implemented. We fully recognize the difficulty of harmonizing CFTC swaps reporting and record keeping requirements with those of international regulatory bodies, as noted in the “Roadmap to Achieve High Quality Swaps Data,” (“Roadmap”) (Slide 9) [vi] and the need to consider the Securities Exchange Commission’s requirements for securities-based swaps (FR 21046).
The Commission will propose two more swaps data rulemakings, in addition to the present NPRM, and then will offer the opportunity to “comment on the three rulemakings together because the proposals address interconnected issues” (FR 21046). The tri-partite rulemaking follows the plan of the CFTC’s “Roadmap” which “aim[s] to complete the process with full industry implementation by the end of 2019,” [vii] i.e., a decade after the Pittsburg Summit of the G-20 set the objectives for the international trading of Over the Counter contracts. IATP has some sympathy for Commissioner Dawn Stumpf’s view, supported by market participants that she cites in her concurrence to release the NPRM, that it would have been preferable to release all three rulemakings together for comment. However, we do not share her view that there was a “rush to publication” for this NPRM (FR 21120), nor her view that “inaccurate data . . . is the subject of this Proposal,” (FR 21118, footnote 6) from which her argument against the necessity of the NPRM derives. Rather, the core of the NPRM are procedures proposed for Swaps Data Repositories (SDRs) to verify the completeness and accuracy of swaps data from Reporting Counterparties (RCPs). If the SDR aggregate data reported to the Commission is inaccurate and/or incomplete for any asset class, the Commission will not be able to implement effectively the pertinent oversight duties stipulated in the DFA and the Commodity Exchange Act.
The NPRM concisely summarizes the impact of inaccurate and incomplete swaps data on the public’s understanding of the swaps market: “As with the swap data reported for use by regulators, the Commission believes that inaccurate and incomplete swap transaction and pricing data hinders the public’s use of the data, which harms transparency and price discovery. The Commission is aware of at least three publicly available studies that support this point” (FR, 22096). The Commission identified study on agricultural swaps eliminates from analysis swap contracts bundled into commodity index trader instruments[viii], presumably to facilitate a more direct comparison of exchange traded agricultural futures and options contracts with off-exchange agricultural swaps trading. Paul E. Peterson’s review of 39,622 swaps transactions reported by government agencies to the Bank for International Settlements notes, “Some reported swap transactions did not include the underlying quantity. Similarly, some reported swap transactions did not include the notional price, either as a reference price in a futures-like swap or a strike price in an options-like swap. Missing prices occurred with or without missing quantities, but in any case the notional value for a swap can be calculated only when both the price and quantity are provided.”[ix] Because Peterson’s swap data study criteria focused on just 4.8 percent of the more than 800,000 commodity swaps reported to the BIS, some market participants might consider the missing data to be quantitatively insignificant.
However, the absence of data in such fundamental data fields as quantity and price in swaps is of great operational significance. The SDRs to which these transactions were reported apparently did not attempt to verify the accuracy and completeness of the RCP reporting of these data deficient swaps. The regulators who relied on the completeness of the SDR reported swaps data thus transmitted to the BIS an incomplete and possibly skewed swaps data universe. Peterson further writes, “Of greater concern, from a data integrity standpoint” than the differences among SDRs’ swap categorizations “are the transactions that were eliminated [from his analysis] because the underlying commodities could not be identified or because the reported data contained various errors.”[x] Again, because agricultural swaps are such a small part of the swaps data universe[xi], it is tempting to dismiss as anecdotal the absence of the underlying commodity in the swaps data reporting field and the failure of the SDR to require the RCP to supply the missing information.
IATP believes it is operationally significant that an SDR lacks or fails to apply verification procedures to ensure the accuracy and completeness of swaps data in the smallest asset class. If that failure is operationally replicated with a more complex underlying commodity, e.g., foreign exchange (FX) rates and volumes bundled into a multi-leg FX swaps, and incomplete or inaccurate swaps data is reported to the Commission, then SDR compliance deficiencies become a prudential oversight problem of great significance. Consider how the swaps reporting universe can become incomplete, leading to the public, market participant and Commission misunderstanding of the scale and structure of risk among SDRs and RCPs. For example, Swap Dealers (SDs) design swaps to convert debt into tradeable assets that transfer debt off the balance sheet. If such swaps are reported incompletely and/or inaccurately, the public’s, market participants’ and regulator’s understanding of the composition and extent of systemic financial risk is occulted and/or distorted. A recent article in the Bank for International Settlements Quarterly Review states:
Every day, trillions of dollars are borrowed and lent in various currencies. Many deals take place in the cash market, through loans and securities. But foreign exchange (FX) derivatives, mainly FX swaps, currency swaps and the closely related forwards, also create debt-like obligations. For the U.S. dollar alone, contracts worth tens of trillions of dollars stand open and trillions change hands daily. And yet one cannot find these amounts on balance sheets. This debt is, in effect, missing.[xii]
The swaps data reporting requirements and data completeness and accuracy verification procedures proposed in the NPRM cannot, of course, put the debt back on the balancing sheets of the RCPs that are using FX swaps and other swaps to move that debt off the balance sheets. However, by enabling the SDRs to verify the RCP swaps reporting, the NPRM measures can prevent a RCP misrepresentation of the swaps price, value and other terms that would, in turn, misrepresent to the public, to investors and to regulators the amount, quality, duration and other debt factors affecting financial stability of the RCPs, the SDs and the broader financial system. The Commission’s role as a prudential regulator for the derivatives market requires a systemic swaps reporting verification system.
Real-time, transparent, standardized and comprehensive reporting of swaps transaction data is integral to implementing Title VII of the DFA. In February 2011, Better Markets responded to the Commission’s NPRM for “Real Time Reporting of Swaps Transaction Data” with a challenge that is very relevant to the present NPRM:
Above all, the Commission must [bold in the original] set a uniform standard for data collection and dissemination. If it does not set a standard and insist on it, then a critical component of the entire [reporting] infrastructure will be outsourced, and, much worse, left to chance. Only a clear, specific and uniform regulatory mandate will avoid likely information anarchy, one that could result in a Tower of Babel: lots of quantity but very little quality in terms of usability in today’s marketplace.[xiii]
Much of the outsourcing takes the form of the “trusted sources” exception to the verification by SDRs of RCP swaps reporting (FR 21120). To the extent that each trusted source does not report accurately and completely using a common data element template defined by the Commission, the increasing volume and complexity of swaps data transacted by automated trading systems — including those of machine learning[xiv] — the potential for a Tower of Babel data universe is very high. If market participants can afford the burden of introducing and customizing machine learning and ATS algorithms to fulfill their trading and profit objectives, they must be able to afford the costs of reporting and record keeping compliance infrastructure of the requirements proposed in the NPRM.
The remainder of this comment letter is divided into the following topics: definitions; proposed data verification procedures and requirements; record keeping requirements; SDR monitoring, screening and analyzing swap data upon Commission request; duties of the Chief Compliance Officer; conclusion.
Continue reading the full comment.
