Memo #
26246

CFTC Files Initial Response to ICI/Chamber Lawsuit Challenging Amendments to Rule 4.5
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[26246]

June 19, 2012

TO: BOARD OF GOVERNORS No. 7-12
CLOSED-END INVESTMENT COMPANY MEMBERS No. 34-12
COMPLIANCE MEMBERS No. 10-12
DERIVATIVES MARKETS ADVISORY COMMITTEE No. 23-12
ETF (EXCHANGE-TRADED FUNDS) COMMITTEE No. 19-12
ETF ADVISORY COMMITTEE No. 17-12
FIXED-INCOME ADVISORY COMMITTEE No. 12-12
INVESTMENT ADVISER MEMBERS No. 15-12
SEC RULES MEMBERS No. 53-12
SMALL FUNDS MEMBERS No. 21-12
UNIT INVESTMENT TRUST MEMBERS No. 4-12
VARIABLE INSURANCE PRODUCTS ADVISORY COMMITTEE No. 5-12 RE: CFTC FILES INITIAL RESPONSE TO ICI/CHAMBER LAWSUIT CHALLENGING AMENDMENTS TO RULE 4.5

 

As we previously informed you, ICI and the U.S. Chamber of Commerce filed suit in April challenging the Commodity Futures Trading Commission’s (CFTC) amendments to Rules 4.5 and 4.27 under the Commodity Exchange Act (CEA), and in May asked the court to grant summary judgment. * On June 18, the CFTC filed its motion for summary judgment, opposing plaintiffs’ motion for summary judgment, and requesting that the court dismiss claims relating to issues still under consideration in the harmonization rulemaking.  The CFTC’s motion is attached, and is summarized below.  

In the motion, the CFTC discusses the regulatory history of Rule 4.5 under the CEA.  Among other things, the CFTC describes the broadening of the Rule 4.5 exclusion in 2003 as reflecting the deregulatory environment embodied by the Commodity Futures Modernization Act, adopted by Congress in 2000.  It describes how the 2007-2008 financial crisis changed the premise on which the 2003 exclusion was adopted and that, in light of the 2010 passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), the CFTC is charged with “the task of illuminating previously dark markets in [  ] complex derivative instruments.”  It characterizes the agency’s rulemaking in this area as “central to the CFTC’s oversight of the derivatives markets and of critical importance to the national economy.”  

The motion makes the following principal arguments:

  • Plaintiffs’ challenge to the CFTC’s change in policy lacks merit because amended Rule 4.5 is a sensible and prudent response to (1) the central role of the unregulated, opaque derivatives markets in the financial crisis and (2) Congress’ charge to the CFTC to regulate the swaps market and guard against systemic risk.
  • Plaintiffs’ challenges to the specific criteria in amended Rule 4.5 fall short:
    • The five percent threshold in the recent amendments to Rule 4.5 reflects a reasonable decision by the CFTC because, among other reasons, the CFTC applied it for nearly twenty years before the 2003 amendments to Rule 4.5 and because the CFTC has provided an alternative “net notional” test.
    • The inclusion of swaps in the trading and marketing thresholds follows logically from the Dodd-Frank Act, which made the CFTC the primary regulator of the swaps market.
    • The CFTC’s decision to limit the hedging exception to bona fide hedges was prudent and reasonable.
    • The CFTC did not violate the Administrative Procedure Act’s notice and comment requirement by providing guidance on the factors it would consider in applying the marketing test because its discussion of those factors is not a rule, but rather a statement of policy.
  • Plaintiffs’ challenge to the financial reporting obligations under Rule 4.27 (which requires reporting on Form CPO-PQR) should be rejected because the CFTC’s approach appropriately balances the burdens of reporting with the CFTC’s need for information from entities that are operating in its jurisdictional markets.
  • Plaintiffs’ challenges to other compliance obligations that may be addressed in the ongoing harmonization rulemaking should be dismissed because they are unripe. 
  • The CFTC’s consideration of the costs and benefits of its actions was sufficient.

ICI and the Chamber of Commerce will file a response with the court on July 2.

 

Sarah A. Bessin
Senior Counsel

Rachel H. Graham
Senior Associate Counsel

Attachment

Endnotes

 * For a description of the complaint in the lawsuit, see ICI Memorandum No. 26050 (April 17, 2012), and for a description of the motion for summary judgment,see ICI Memorandum No. 26172 (May 21, 2012). More information relating to the lawsuit may be found on ICI’s website at http://www.ici.org/cftc_challenge.