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Is the CFTC Request For Comment the US version of the ESMA Level 2 validations? by Alan McIntyre

December 2015 turned out to be a very interesting month for the CFTC reporting of OTC derivatives implemented under the Dodd-Frank act. With the SEC implementation of the outstanding parts of Dodd-Frank reporting (SBSR or Securities Based Swaps Reporting) due in 2016 and with the ongoing ESMA supervised European work streams for MIFID 2 (or MIFIR) and the EMIR RTS Rewrite it’s fair to say that CFTC reporting has probably been less prominent on the trade reporting community’s radar. It’s also probably fair to say that there was a sentiment of ‘job done’ with regards to implementing CFTC reporting amongst some of the US based Swap Dealers.

However two events that occurred with the space of five days in December are a clear indication that this is not the case.

Firstly on the 17th of December the CFTC’s DSIO (Division of Swap Dealer and Intermediary Oversight) issued an advisory letter “reminding swap dealers (SDs) and major swap participants (MSPs) of their obligations with respect to the data reporting requirements”.

Then on the 22nd of December the US Commodities Futures Trading Commission (CFTC) issued a Request for Comment on “Draft TECHNICAL SPECIFICATIONS FOR CERTAIN SWAP DATA ELEMENTS”.

So what was the DSIO letter?

The DSIO letter was a shot across the bows of the CFTC reporting firms and warned that the CFTC were seeing, and more to the point expects improvements around, the following error types:

a) Readily Apparent Errors

b) Incomplete Reporting

c) Duplicative Swap Reporting

d) Calculation Errors

e) Reporting Delays

The letter also included the following control practices that according to the DSIO “that SDs and MSPs may want to consider depending on their particular circumstances”:

a) Data Gatekeepers

b) Automated Review of Reported Data

c) Erroneous Record Checks

d) Improved Change Management Practices

e) Data Correction

f) Third-Party Service Providers:

With the CFTC having recently fined a global investment bank for not addressing reporting errors under Dodd-Frank this DSIO letters content around resolving reporting errors and improving the controls framework would probably make nervous reading material for some. In fact the letter actually finishes on a fairly ominous statement:

This advisory should not be construed in any way as excusing past violations or limiting the CFTC’s ability to pursue any actions for reporting violations.

And what about the Request For Comment?

Well unsurprisingly for a technical specification the document is quite detailed and covers a lot of ground. I will attempt to cover the context and some main topics here and will address more themes at a later date.

The CFTC describe the document as:

Draft technical specifications – including descriptions, allowable values and formats – for certain swap data elements that are reportable under part 45 and related provisions of the Commodity Futures Trading Commission’s (“Commission” or “CFTC”) regulations.

They go on to say that the document covers fields not currently reported that have been identified by CFTC staff:

data elements that – when reported in a consistent and clear manner – may assist the Commission in fulfilling its regulatory mandates

Both these comments including the ‘allowable values’ seems very reminiscent of the recent EMIR reporting experience and in particular the ESMA Level 2 validations. The addition of new fields likewise resonates very much with the EMIR RTS Rewrite undertaken in Europe. In fact the document specifically acknowledges this with nods to both ESMA and CPMI & IOSCO:

data standards recently adopted by other regulators, including the European Securities Markets Authority and Securities Exchange Commission, and international work streams focusing on the global harmonization of swap data, such as the Committee on Payments and Market Infrastructures (“CPMI”) – International Organization of Securities Commissions (“IOSCO”) Over-the-Counter Derivatives Harmonization effort

The timelines for potential implementation of any new standards across SDs, MSPs, SEFs (Swap Execution Facilities) and SDRs (Swap Data Repositories) are not clear but they state that the development of standards will be an iterative process:

the development of any technical specifications for reportable swap data elements to be an iterative process. Future technical specifications on swap data reporting are likely to specify the form and manner with which SDRs will be required to make swap data available to the Commission according to schema(s) that will reference international industry standards. In addition, any future technical specifications that are developed, taking into consideration the information gathered from this request for comment process, are likely to also include further details, such as whether a particular swap data element is always or conditionally required to be included in a swap data report, and what validation procedures should be applied to reported swaps data messages.

Again with a nod to the CPMI-IOSCO efforts the CFTC caveat that this request for comment:

deliberately does not focus on technical aspects of the LEI (Legal Entity Identifier), UPI (Unique Product Identifier) or USI (Unique Swap Identifier), in light of ongoing, coordinated initiatives at the international level to develop global standards for these broadly utilized identifiers.

And what does the consultation cover?

The following summarizes a few of the sections covered in the Request for Comment. The relevant sections are denoted in square brackets in line with the corresponding sections of the CFTC document.

Counterparty Related Data Elements [A]

The document states that CFTC have encountered difficulties aggregating reports based on currently reported data elements and proposes some new fields around Ultimate Parent and Ultimate Guarantor:

Identifying the Ultimate Parent and Ultimate Guarantor of each swap counterparty may assist Staff, among other things, in evaluating the overall risk undertaken by each of these entities, identifying inter-affiliate swaps, and properly aggregating volume measures across counterparties.

Interestingly this proposal from the CFTC to add specific fields comes at the same time that the LEI Regulatory Oversight Committee (ROC) is working towards and have indeed just published a paper on, “Collecting data on direct and ultimate parents of legal entities in the Global LEI System”. It’s not clear at this stage why the CFTC have opted for introducing specific fields in addition to the changes being implemented by the ROC.

Events [K]

One of the longest and most challenging sections relates to events and involves the proposed introduction of an ‘Event ID’ field, a ‘USI Version’ field and a more comprehensive list of ‘Event Types’ to capture the different lifecycle events that can occur during the life of a swap.

The CFTC describes the background as:

Staff requires a clear understanding of the multitude of events that could potentially impact swap transactions over the life of a swap. The frequency and volume of unlinked message traffic representing changes to reportable swaps transactions does not adequately capture these events. As a result, Staff cannot readily analyze the activity occurring in jurisdictional swap markets by tracking the audit trail of what occurred and capturing the most up to date representation of the swap

A key driver for this appears to be the statement:

The “Prior USI” data element is not adequate for associating swaps that are affected by, or resulting from, specific events.

The proposal therefore appears to be the introduction of very specific granular fields such as ‘Event ID’, ‘Event USI Version’, ‘USI Impact’ and ‘USI Version’.

The benefit is clear for the regulators being able to better follow the sequence of lifecycle events across swaps, especially in instances like Novation where the USI changes. Nonetheless at first glance these new requirements look fairly daunting for the reporting firms to update their reporting infrastructure. Doubly so for any firms where the reporting infrastructure reports to other global regulators. Again from recent experience the ESMA Level 2 rules around Action Type were a significant challenge to many reporting firms and having to add a great deal of new lifecycle/event/USI logic for CFTC reporting on top of the ESMA Action Type rules could prove to be very complicated.

Price [C]

The document solicits feedback on several aspects around the reporting of price including whether different asset classes should have different price types, the use of ‘post pricing’ and whether there are better terms than ‘price’ for describing ‘the value exchanged between parties’.

Interestingly despite the nod to ESMA and CPMI/IOSCO global harmonization efforts when feedback is sought on the field Price Type the list of supported values proposed (Price, Spread, Percentage & Upfront Points) differs from the list proposed by ESMA in the new EMIR RTS for the corresponding field Price Notation. ESMA have proposed Units, Percentage and Yield for the corresponding EMIR field.

This pattern of regulatory bodies paying homage to the harmonisation efforts but then still pulling in different directions has sadly been a fairly frequent occurrence. In fairness to the CFTC though the window for feedback was opened and hopefully the respondents will help to push for more convergence on these fields.

Collateral/Margin [J – Periodic Reporting, subsection d.]

Finally for now and following the theme of regional regulations moving in different directions the document solicits feedback on several aspects and new fields around the reporting of Collateral. However where ESMA have sought to introduce much more granularity in the reporting of Collateral by adding several new fields specific to Initial Margin, Variation Margin and Excess Collateral – both posted and received for each collateral category. The CFTC have moved in a different direction and are embracing Netting Sets:

Staff has identified the need to obtain information regarding swap portfolios, labeled Netting Set throughout the draft technical specifications for certain swap data elements. Staff understands that market participants typically group transactions into Netting Sets based on two criteria: (1) ongoing cash flows in the same currency on the same payment dates (Payment Netting) and (2) net payments due upon an Event of Default or Termination Event (Closeout Netting).

In addition to a number of questions around various aspects of collateral reporting the document proposes nine new fields.

Now I’m not an expert when it comes to collateral and cannot say for certain whether the CFTC approach or the ESMA approach are better or more practical. However it’s apparent that supporting two such differing approaches is undoubtedly going to be a headache for those banks with an obligation to report to both the CFTC and ESMA. And whilst the CFTC and ESMA press ahead with wholesale changes to the structure of reporting collateral there are other G20 regulators such as ASIC, HKMA & MAS etc. who still require collateral reported in the format more aligned to the original CFTC & ESMA collateral models. These changes therefore leave the global reporting firms supporting three or more collateral formats at the same time. Also from my experience talking to many reporting firms one of the challenges from the outset has been that the collateral information tends to be in very different systems to those systems that are generating the bulk of the trade reporting data. This in itself is a headache for many firms before they even consider correlating the collateral data with the relevant trade populations in multiple formats.

The Request for Comment closed (after two extensions) on the 7th of March. Risk Focus was one of the firm to respond with detailed comments (See Risk Focus CEO Brian Lynch’s Comments Here). It will be interesting to see what new rules and reporting requirements are issued as a result of this consultation. But similarly to the recently experience in Europe it’s clear from both this and the DSIO letter that the CFTC definitely does not see this as ‘job done’ and a lot of work lies ahead.

 

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