The Commodity Futures Trading Commission (the “Commission” or the ”CFTC”), on May 31, 2023 published an Advance Notice of Proposed Rulemaking (“ANPRM”), seeking public comment in connection with potential amendments to the regulations under the Commodity Exchange Act (“CEA”) relating to the risk management program (“RMP”) requirements for swap dealers (“SDs”), major swap participants (“MSPs”) and futures commission merchants (“FCMs”) registered with the Commission.
I. Overview of the Questions and Request for Comment
a. Risk Management Program Governance
Regulation 23.600 sets forth the RMP requirements for SDs while Regulation 1.11 sets forth the RMP requirements for FCMs (the “RMP Regulations”). The ANPRM indicates that the Commission is generally seeking feedback on the RMP structure and related governance requirements for SDs and FCMs, as well as to reduce ambiguity in the RMP Regulations by further clarifying or delineating certain terms. Specifically, the rulemaking is expected to address the regulatory definitions of “governing body” and “senior management,” reporting line requirements and qualified personnel under the RMP Regulations.
Significantly, the Commission has also requested comment as to whether it should alternatively consider “other regulatory regimes” pursuant to a “holistic review” of the RMP Regulations – for example, by “harmonizing the RMP Regulations with the risk management regimes” of the prudential regulators (i.e., the Board of Governors of the Federal Reserve System (the “Fed”), the Office of the Comptroller of the Currency, the Farm Credit Administration, or the Federal Housing Finance Agency, as applicable to an individual SD or FCM). This could result in significant operational efficiencies for registrants if adopted.
Additionally, the Commission has indicated that it is considering expanding the definitions of “governing body” under the RMP Regulations to include additional persons who might be necessary to encompass the variety of business structures and entities used by SDs and FCMs. Were the Commission to do so, this could subject new persons to the requirements relating to approving RMPs, risk tolerance limits, new products and trading policies, and reviewing risk exposure reports (“RERs”) and the annual RMP results. Additionally, expanded definitions of “governing body” could have the indirect effect of sweeping additional persons into the related definitions of “senior management” under the RMP Regulations. To that end, the Commission is also considering amending the definitions of “senior management” to delineate specific roles or functions.
The RMP Regulations may also specifically address reporting lines within risk management units (“RMUs”). Currently, SDs’ and FCMs’ RMUs are required to report directly to senior management and be independent from the business units. However, that general requirement creates ambiguity as to what constitutes a reporting line or independence from undue influence, which the Commission seeks to clarify.[i]
b. Enumerated Risks in the Risk Management Program Regulations
With respect to the quarterly RERs that SDs and FCMs are required to file, the ANPRM states that the “Commission staff has observed significant variances” between how SDs and FCMs define and report on risk, “making it difficult for the Commission to gain a clear understanding of how specific risk exposures are being monitored and managed.”
Such variation is due in part to the different requirements for setting policies and procedures and taking into account risk management considerations between SDs and FCMs. The RMP Regulations enumerate (i) market risk, (ii) credit risk, (iii) liquidity risk, (iv) foreign currency risk, (v) legal risk, (vi) operational risk and (vii) settlement risk as specific areas for SDs’ and FCMs’ RMPs to take into account, while FCMs’ RMPs must additionally take into account (viii) segregation risk, (ix) technological risk and (x) capital risk. The Commission has requested comment as to whether to require SDs to take into account technological risk as well.
The Commission has also indicated that it is considering amending Regulation 1.11(e)(3) to, first, require FCMs’ RMPs to create policies and procedures to address every enumerated area of risk that FCMs are required to take into account, and, second, adopt specific risk management considerations for each such risk. This would create a significant operational burden for FCMs, but would largely harmonize the requirement for FCMs with the similar requirements for SDs under Regulation 23.600.
All such enumerated risks are currently undefined in the CEA; the Commission is…
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