CFTC Approves Final Rule on Position Limits for Futures and Swaps

On October 18, 2011, the Commodity Futures Trading Commission (CFTC) held a public meeting to consider a final rule on position limits for futures and swaps.  The final rule was passed by a 3-2 vote, with Chairman Gensler and Commissioners Chilton and Dunn voting for it, and Commissioners O’Malia and Sommers voting against it.  In addition to approving the final rule on position limits, the CFTC approved a final rule on derivatives clearing organization (DCO) general provisions and core principles by the same 3-2 vote, and unanimously approved a proposed order to amend the effective date of swap regulation from the current expiration date of December 31, 2011, to July 16, 2012.  The CFTC’s General Counsel, Dan Berkovitz, noted that the extended expiration date of the proposed order could occur earlier than July 16, 2012 if the entity and product definitions are finalized and become effective before July 16, 2012.

The CFTC will publish the text of the two final rules and the notice of proposed amendment in the Federal Register in the next several days.  We will be reviewing the Federal Register versions of both rules and will provide you with more detailed summaries of the substantive changes.

Summary of Final Rule on Position Limits

Aggregation. The CFTC’s final rule will retain the CFTC’s long-standing independent account controller exemption, with some substantive modifications that will be revealed in the published rule.  While the CFTC did not discuss in detail the substantive modifications to this exemption, it is expected that, although the exemption will no longer be self-effectuating, the final rule will require a firm relying on the exemption to make a notice filing, which would be effective upon filing and thus will not require any pre-approval from the CFTC.

Speculative Position Limits.  Limits on speculative positions in 28 core physical commodity contracts and their “economically equivalent” futures, options, and swaps (collectively, “Referenced Contracts”) will occur in two phases.  CFTC staff indicated that the limits are designed to target large traders to avoid the potential occurrence of excessive speculation.  However, CFTC staff could not identify any working definition of “excessive speculation” or any criteria to assess whether it is occurring.

  • Spot-month position limits will be set generally at 25% of estimated deliverable supply and applied separately for physical-delivery Referenced Contracts and cash-settled Reference Contracts in the same commodity.   These limits will be effective 60 days after the term “swap” is further defined in final rulemaking under the Dodd-Frank Act.  On that effective date, the limits will be based on the limit levels currently in place at designated contract markets (DCMs).  Subsequently, spot limits will be adjusted every two years for agricultural swaps and annually for energy and metal contracts.
  • Cash-settled NYMEX Henry Hub Natural Gas contracts, however, will be subject to a cash-settled spot-month position limit and an aggregate limit (extending across positions in both physical-delivery and cash-settled natural gas contracts) set at five-times the limit that applies to the physical-delivery NYMEX Henry Hub Natural Gas contract.
  • Non-spot-month position limits (i.e., limits applied to positions in all contract months combined or in a single contract month) will be set using the CFTC’s long-standing 10/2.5% formula: 10% of the contract’s first 25,000 of open interest and 2.5 percent thereafter.  For the  nine “legacy” agricultural Referenced Contracts subject to current CFTC limits, the new non-spot-month limits will be effective 60 days after the term “swap” is further defined in final rulemaking.  New limits for all other Referenced Contracts will be effective by CFTC order after it has received one year of open interest data on physical commodity cleared and uncleared swaps under the swaps large trader reporting rule.   These limits will be reset every two years based on two years open interest data, based on the sum of futures open interest, cleared swaps open interest, and uncleared swaps open interest.

Exemptions for Bona Fide Hedging Transactions.  The exemptions in the final rule will now include certain anticipated merchandising transactions, royalties, and service contracts to reflect concerns by commercial firms.  The CFTC added a last-minute amendment to enable market participants to petition the CFTC for exemptive relief for any legitimate risk reducing hedging transaction to qualify as a bona fide hedging transaction under the new requirements in the final rule, or to seek interpretive guidance from CFTC staff on whether their hedging strategies would qualify as bona fide hedging.  The new definition of bona fide hedging will be effective 60 days after the term “swap” is further defined in final rulemaking.

The final rule also contains exemptions for positions established in good faith prior to the effective date of the initial limits established by the final rule.

Click here to read the CFTC’s fact sheet on the final rule on position limits for futures and swaps.
Click here to read the CFTC‘s Q&A on the final rule.
Click here to access the CFTC’s open meeting event release with embedded links to the opening statements of Chairman Gensler and Commissioners Chilton, Sommers and O’Malia, as well as Commissioner O’Malia’s statement of dissent on the final rule.

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If you have any questions or comments on any of the above items, please feel to call and ask to speak to the following members of MFA’s Legal staff at (202) 730-2600 or email them directly.

Stuart Kaswell, Executive Vice President & Managing Director, General Counsel
Matthew Newell
, Assistant General Counsel
Laura Harper
, Assistant General Counsel