In an open meeting last week, the CFTC finalized a rule creating general compliance provisions and core principles for Derivatives Clearing Organizations (“DCOs”). The rule combines five previous proposals into a single rule-making, which focuses on open access measures and risk-management strategies. Said CFTC Chairman Gary Gensler, “the financial resources and risk management requirements will strengthen financial integrity and enhance legal certainty for clearinghouses.”
The final rule covers requirements for finances, reporting, product eligibility, risk management, settlement, treatment of customer funds, default procedures, system safeguards, and legal risks. It also includes the qualification requirements for the DCO’s chief compliance officer, and the new DCO application.
Once the rule goes into effect, many clearinghouses will have to overhaul their risk-management strategies. The new requirements dictate that DCOs must be so well capitalized that they can weather the collapse of their most-exposed clearing member or other “extreme but plausible” market scenarios. They are also tasked with writing clearing-member default procedures. The Commission may create another rule to govern DCO’s deemed “systemically important.” Clearinghouses this large and interconnected would have to be able to handle the default of two larger members. The rule also champions open access to clearinghouses. DCOs will now be required to open access to companies with $50 million in capital. However, they will still be able to scale companies’ participant levels based on their capitalization.
The rule met resistance from the Republican-leaning members of the CFTC. It passed by a tight 3-2 margin, with Commissioners Scott O’Malia and Jill Sommers in opposition. In his dissenting remarks, O’Malia explained his position: “In an attempt to achieve [the integrity of clearinghouses], this rulemaking abandons the principles-based regulatory regime which permitted DCOs to perform so admirably in the 2008 financial crisis. Instead, the final rulemaking sets forth a series of prescriptive requirements. I disagree with this approach. DCO risk management poses complex and multidimensional challenges. One DCO may have a significantly different risk profile than another. Consequently, each DCO must have sufficient discretion to match requirements to risks. The role of the Commission is to oversee the exercise of such discretion, not to prevent such exercise.“