Regulation of Derivatives
Background
House Democrats are attempting to pass a bill that would regulate derivatives - a type of financial instrument criticized by House Financial Services Committee Chairman Frank and others to be at the heart of the financial turmoil.The bill would require more trades in the over-the-counter derivatives market to be made on exchanges, as well as mandate that firms trading in derivatives meet specific capital and reporting requirements.
Details
Under the bill, all standardized swap transactions between dealers and large market participants, referred to as “major swap participants,” would have to be cleared and must be traded on an exchange or electronic platform. A major swap participant is defined as anyone that maintains a substantial net position in swaps, exclusive of hedging for commercial risk, or whose positions creates such significant exposure to others that it requiivativesres monitoring. OTC derivatives include swaps, which are contracts that call for an exchange of cash between two counterparties based on an underlying rate, index, credit event or the performance of an asset.
The legislation then sets out parallel regulatory frameworks for the regulation of swap markets, dealers, and major swap participants. Rulemaking authority is held jointly by the Commodity Futures Trading Commission (CFTC), which has jurisdiction over swaps, and the Securities and Exchange Commission (SEC), which has jurisdiction over security-based swaps. The Treasury Department is given the authority to issue final rules if the CFTC and SEC cannot decide on a joint approach within 180 days. Subsequent interpretations of rules must be agreed to jointly by the Commissions.