On February 25, 2016, the Commodity Futures Trading Commission's ("CFTC") Energy and Environmental Markets Advisory Committee ("EEMAC") convened its first public meeting of the year. During the first of two panel discussions, the EEMAC considered the CFTC's proposed order granting exemptive relief for certain transactions offered or sold in markets administered by the Southwest Power Pool ("SPP") from provisions of the Commodity Exchange Act ("CEA") and CFTC regulations. During the second panel, the EEMAC discussed CFTC Staff's "Preliminary Report on the Swap Dealer De Minimis Exception."1 The meeting concluded with a presentation of the EEMAC's "Report on EEMAC's 2015 Review and Consideration of the CFTC's Proposed Rule on Position Limits."2
Opening Remarks
Commissioner Giancarlo, the EEMAC's sponsor, opened the meeting expressing "grave concern about severe declines in the price of physical commodities," which, he noted, "are at their weakest levels in 43 years." Given these market conditions, Giancarlo urged his fellow Commissioners to regulate in a manner that does not generate legal uncertainty or interfere with market participants' ability to hedge against declining prices. For example, the CFTC's proposed order exempting certain transactions in the market administered by SPP from provisions of the CEA and CFTC rules includes language in its preamble suggesting that the CFTC will permit private parties to bring suit under CEA Section 22, which may disrupt "coordination and certainty in the regulation of the electricity markets."3 Furthermore, Giancarlo noted the need to "provide market participants some certainty about the fate of the swap dealer de minimis level." Finally, he averred that "the U.S. District Court has concluded that the CFTC is not under any unambiguous mandate to impose position limits. Therefore, . . . the CFTC should not, and need not, finalize its current position limits proposal."
Chairman Massad followed, noting the importance of CFTC Staff's "Preliminary Report on the Swap Dealer De Minimis Exception" as a major step forward in the CFTC's data collection efforts. Commissioner Bowen opined that "we should be hesitant to change course, unless, as the rulemaking noted, 'subsequent developments in the markets or the evaluation of the new data' provide clear, overwhelming evidence that the $3 billion threshold is a mistake." She also expressed her hope to finalize the position limits rule as soon as possible.
Panel 1: Do Commission Exemptions for RTO/ISOs Transactions Strike the Right Balance?
The first panel addressed the CFTC's proposed order exempting certain transactions in markets administered by SPP from provisions of the CEA and CFTC regulations.4 The panelists focused almost exclusively on text in the preamble to the proposed order suggesting that the CFTC intends to permit private parties to bring claims under CEA Section 22 and that the CFTC intended the same private rights of action in previous orders granting a similar exemption to other regional transmission operators ("RTO") and independent system operators ("ISO").
Commissioner Kenneth W. Anderson, Jr. of the Public Utility Commission of Texas ("PUCT") testified in support of the proposed order, but argued that "retaining private causes of action and opening up the previous orders would be difficult and unnecessary." He noted that private causes of action will allow for collateral attacks on the rules and processes of RTOs and ISOs, the Federal Energy Regulatory Commission ("FERC"), and the PUCT. Federal courts may interpret these rules inconsistently in litigated matters throughout the country, shrouding electricity markets in regulatory uncertainty. Jeff Walker, Senior Vice President & Chief Risk Officer of ACES, echoed these concerns, explaining that there are numerous hedging scenarios that can result in private suits in federal court, the merits of which will be decided very differently across jurisdictions.
Paul J. Pantano, Jr., representing ISO-RTO commenters, noted that prior CFTC exemptive orders almost always did not retain private rights of action, and the only two examples where the CFTC retained private rights of action were overridden by Congress shortly thereafter. He highlighted that granting a right of action to private litigants will result in needless jurisdictional disputes amongst the regulatory agencies, hindering the CFTC's ability to take enforcement action against wrongdoers in a controlled manner. He added that private rights of action may harm the memorandum of understanding between the CFTC and FERC.
EEMAC members expressed general consensus that allowing private suits will diminish regulatory certainty in the energy markets and impact liquidity. Chairman Massad expressed his appreciation for the panelists' desire for more certainty, but explained that administrative decisions are often litigated in federal court, which may at times create regulatory uncertainty.
Panel 2: CFTC Staff Swap Dealer De Minimis Exception Preliminary Report
The second panel focused on the preliminary report issued by CFTC Staff on the swap dealer de minimis exception. The preliminary report authored by CFTC Staff highlighted a number of concerns about the swap data that it is currently receiving. The Division of Market Oversight ("DMO") noted that it received twenty-four comments on the preliminary report, with the majority in favor of setting the swap dealer de minimis threshold at $8 billion or more. DMO said that CFTC Staff will review and analyze all of the comments and then draft a Final Report on the exception.
Next, the Commercial Energy Working Group and Commodity Markets Council presented their recommended approach to the panel. The groups maintained that the CFTC should issue an interim final rule setting the de minimis threshold at $8 billion. Prior to evaluating changes to the $8 billion de minimis threshold, the panel recommended that the CFTC take steps to improve its swap data collection, identify regulatory objectives that are not sufficiently met with the $8 billion threshold, and issue a final capital rule. They noted that the CFTC currently lacks the information necessary to make an informed decision about the de minimis threshold. Members of the EEMAC expressed concern that setting the level too low may diminish available liquidity as market participants attempt to manage the lower threshold. The liquidity decrease may raise bid-ask spreads, and increase concentration of market share amongst select institutions. Members also added that the Technology Advisory Committee's proposal to reestablish the Data Standardization Subcommittee will address a number of the data collection issues and allow for more precision in setting the threshold.
Presentation of the EEMAC's Report
The EEMAC presented a report of its members recommending that the CFTC not finalize its proposal to establish position limits on certain futures and swaps.5 The report highlights that there is no evidence that position limits are "necessary," as required under the CEA. In addition, there are concerns about a sharp reduction in trading liquidity in physical and derivative markets, which adversely would impact the ability of end users to hedge risk. The report further states that implementing new federal position limits would impose practical challenges that should instead be addressed by relying on existing resources and expertise. Finally, the report issues the following recommendations in the event that the CFTC nevertheless moves forward with a position limits rule: (1) address flaws to the definition of bona fide hedging; (2) only impose position limits in the spot month; (3) update deliverable supply estimates in order to accurately identify the size of a spot month limit; and (4) rely on the exchanges to grant non-enumerated hedge exemptions and administer position accountability levels.
The EEMAC voted to approve the report with eight members voting to approve and one member voting to dissent. The dissenting member issued a dissenting report contending that the published report was not a collaborative effort reflective of all nine members of the EEMAC.6 Furthermore, the dissenting report asserts that the report's arguments that positions limits are unnecessary, are based on selective arguments and ignore research on certain topics. Finally, the dissenting report contends that the CFTC, and not the for-profit exchanges, should play a central role in establishing position limits and evaluating exemptions.
Chairman Massad opined that "being opposed to position limits is like being opposed to speed limits because they make you late for work" and encouraged his fellow Commissioners to move forward with the rulemaking.
Footnotes
1 Cadwalader addressed the Preliminary Report in a previous Clients & Friends Memo, available here.
2 The Report is available here.
3 See also Aspire Commodities, LP v. GDF Suez Energy North America, Inc., Civil Action No. H–14–1111, 2015 WL 500482 (S.D. Tex. Feb. 3, 2015) (holding that plaintiffs could not rely on the CEA's private right of action to challenge conduct that occurred entirely within ERCOT because this right was included in the broad CEA provision exclusions). Cadwalader covered the decision of the U.S. District Court for the Southern District of Texas in Aspire Commodities v. GDF Suez Energy North America in a subsequent Clients & Friends Memo, available here.
4 See Notice of Proposed Order and Request for Comment on an Application for an Exemptive Order from Southwest Power Pool, Inc. from Certain Provisions of the Commodity Exchange Act Pursuant to the Authority Provided in Section 4(c)(6) of the Act, 80 Fed. Reg. 29,490 (May 21, 2015).
5 See Position Limits for Derivatives and Aggregation of Positions, 80 Fed. Reg. 10,022 (Feb. 25, 2015).
6 The Dissent is available here.
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