Data Info

On Dodd Frank Major Swap Participants Swap Execution Facilities and Block Trades

More on the derivatives title in Dodd-Frank:

Major Swap Participants (MSPs)

This will be a huge issue for hedge funds. And unfortunately, this is an area where Dodd-Frank is a total mess. For some reason, Barney Frank and Chris Dodd allowed Blanche Lincolns definition of "major swap participant" (MSP) to remain in the bill, despite the fact that it was widely panned by, well, everyone (including regulators). In any event, the bill defines MSP as anyone who is not a swap dealer and who (emphasis mine):

(i) maintains a substantial position in swaps for any of the major swap categories as determined by the Commission (excluding "positions held for hedging or mitigating commercial risk," and certian pension funds);

(ii) whose outstanding swaps create substantial counterparty exposure that could have serious adverse effects on the financial stability of the United States banking system or financial markets; or

(iii)(I) is a financial entity that is highly leveraged relative to the amount of capital it holds and that is not subject to capital requirements established by an appropriate Federal banking agency; and

(II) maintains a substantial position in outstanding swaps in any major swap category as determined by the Commission.

The bolded parts represent completely undefined and highly ambiguous terms which currently have no legal meaning. (The definition of "major security-based swap participant" closely tracks this definition, but, oddly, does not include a similar exception for pension plan positions.)

Clearly, whether an entity qualifies as a MSP (or "major security-based swap participant") will have to be determined on a case-by-case basis. Does this mean that all hedge funds will have to periodically provide the CFTC and SEC with their balance sheets? I assume it does — how else would the CFTC and SEC know whether a certain hedge fund should be designated a MSP? In fact, I think hedge funds will have to provide the CFTC and SEC with more than just their balance sheets. A simple balance sheet wont be enough to determine whether a hedge funds outstanding swaps create "substantial counterparty exposure that could have serious adverse effects" on financial stability. So presumably, hedge funds will also have to provide the CFTC and SEC with information on their outstanding swaps positions, including the identity of their counterparties. These concerns were raised prior to the conference committee in a widely-circulated memo from one of the big law firms (I cant remember which firm), but for some reason, lawmakers chose to leave these issues unaddressed.

The main reason the definition of MSP is so important for hedge funds is that nonbank MSPs will be subject to capital requirements (set by the CFTC or SEC). Significantly, the capital requirements wont be limited to the swaps activity that qualifies the entity as a MSP. In setting the capital requirements for MSPs, the CFTC and SEC are required to take into account "the risks associated with other types of swaps . . . engaged in and the other activities conducted by that person that are not otherwise subject to regulation." So once a hedge fund is designated a MSP for any type of swap, the CFTC and SEC will have broad authority to set capital requirements based on the hedge funds entire operation.

Personally, I dont have a problem with more regulation of hedge funds, or even minimum capital requirements for hedge funds. This is certainly not the ideal way to accomplish that, especially since it applies only to hedge funds that are major players in swaps (as opposed to HFs that are major players in bonds, futures, options, or even equities). But on net, in spite of the epically bad drafting, this could end up being a net positive for the financial system. Hedge funds, as well as the Blackrocks and PIMCOs of the world, will obviously scream bloody murder. Thats to be expected. At the end of the day, Dodd-Franks impact on MSPs will depend, of course, on what the CFTC and SEC do with their authority.

Swap Execution Facilities (SEFs)

This will be one of the most interesting aspects of the derivatives title. Contrary to popular belief, Dodd-Frank does not mandate exchange-trading for standardized/cleared swaps. It requires cleared swaps to trade on either an exchange or a "swap execution facility" (SEF). What is an SEF? Section 721(50) provides the definition:

(50) SWAP EXECUTION FACILITY.—The term ‘swap execution facility’ means a facility trading system or platform in which multiple participants have the ability to execute or trade swaps by accepting bids and offers made by other participants that are open to multiple participants in the facility or system, through any means of interstate commerce, including any trading facility, that—

(A) facilitates the execution of security-based swaps between persons; and

(B) is not a designated contract market.

[Note: the reference to "security-based swaps" rather than "swaps" in subsection (A) is a mistake, and Barney Franks aides have said that it will be fixed in a technical corrections bill.]

This appears to be a pretty broad definition, which is a good thing. Crucially, pre-trade price transparency is not required — again, this is a good thing. Im not surprised that pre-trade price transparency isnt required — Gensler wasnt naïve enough to buy the "pre-trade price transparency is always and everywhere a good thing!" argument, and pushed lawmakers not include such a requirement.

Most crossing shops, including most so-called "dark pools," appear to qualify as SEFs. Theres technically a question as to whether so-called "single-dealer systems" will qualify as SEFs. Banks in-house counsel are already pushing an interpretation in which single-dealer systems would qualify as SEFs, but frankly, its a pretty specious argument, and its very unlikely to pass muster with the CFTC. (It has to do with what the phrase "that are open to multiple participants in the facility" applies to.) Itll be interesting to see if "negotiated dark pools" like Liquidnet qualify; I think they should, given the definition in the bill.

There are two situations in which cleared swaps wont be required to trade on an exchange or SEF. First, when no exchange or SEF lists the swap (see § 723(h)(8)(B)). Second, essentially if the CFTC or SEC says that the swap doesnt have to trade on an SEF. Specifically, § 733(d) authorizes (but does not require) the CFTC and SEC to promulgate rules "defining the universe of swaps that can be executed on a swap execution facility." If a particular swap is not included in the universe of swaps that can be executed on an SEF, then it can be executed however the parties wish — even if an exchange lists the swap. Its safe to assume that the CFTC and SEC will both elect to promulgate rules defining the universe of swaps that can be traded on an SEF. When they do, this will be an important flashpoint to watch.

"Large Notional Swap Transactions" (i.e., Block Trades)

In general, Dodd-Frank subjects all cleared swaps to "real-time public reporting" of "transaction and pricing data" (excluding the identity of the counterparties). However, § 727(E) requires the CFTC to promulgate rules: (a) specifying criteria for determining what constitutes a block trade, and (b) providing for a time delay for public reporting of block trades. These rules will be crucial. Trading in the swaps markets tends to be in size (although its been a few years since I was in-house at a dealer, so this may have changed), so its entirely possible, if not likely, that a significant percentage of swaps trades will be considered "block trades," and thus subject to the delayed reporting requirement. In that case, the length of the time delay for public reporting of block trades will be extremely important. Expect heavy lobbying from both the dealer banks and hedge funds on this issue.

Available link for download

On Dodd Frank An Overlooked Provision Section 716 and the Volcker Rule

So what do I think of Dodd-Frank? Im glad you asked. Before I get to some of the specifics, let me just say that in terms of broad policy, I am, unlike the vast majority of commentators, quite happy with the way the bill turned out. Barney Frank and Chris Dodd deserve a tremendous amount of credit for shepherding such a massive and impactful bill through Congress, and I think naming the bill "Dodd-Frank" is much deserved. The political and legislative realities involved in getting a major piece of legislation through Congress (and this is an uber-major piece of legislation) are so daunting nowadays that I had been expecting a far weaker bill from the beginning. That Dodd and Frank were able to get as much as they did is an extraordinary accomplishment.

No, Dodd-Frank doesnt do anything as sweeping as 1930s reforms, but you know what? We already have deposit insurance, theres already a Securities and Exchange Commission, and the massively overrated Glass-Steagall would have done exactly nothing to prevent the Bear Stearns and Lehman failures. Also, the financial crisis, while bad, wasnt even in the same league as the 1930s banking crises. So spare me the disappointed historical analogies.

Okay, now on to some specifics.

Overlooked: Interest on Demand Deposits

By far the most overlooked aspect of Dodd-Frank is Section 627, which repeals the long-standing prohibition on paying interest on demand deposits. This was one of the centerpieces of the Banking Act of 1933 — one of the policies Sen. Carter Glass personally demanded (the other being the pseudo-separation of commercial and investment banking). This could have far-reaching consequences, and yet was barely even discussed.

Revised Section 716

Next, because several people have asked, heres my take on the revised Section 716. The compromise language allows banks to keep making markets in swaps based on rates or reference assets that are authorized for investment in the Bank Powers Clause of the National Bank Act. Essentially, were going back to the "look-through" approach to the Bank Powers Clause, but only for swaps. In practice, this means banks can keep their market-making desks in:

• Interest-rate swaps;
• FX swaps;
• Cleared CDS referencing investment-grade names (e.g., CDS on GE, CDX.IG); and
• Swaps on gold, silver, copper, platinum, and palladium.

Banks will have to spin-off (into their broker-dealer affiliates) their market-making desks in: equity swaps, any remaining commodity swaps, energy swaps, CDS on non-IG names, and uncleared CDS on IG names. In reality, the bank-permissible swaps in Section 716 represent well over 90% of the swaps market, so the provision will have very little substantive effect. But in that case, why have Section 716 at all? Why create yet another arbitrary bifurcation in the regulatory regime for derivatives — the same kind of arbitrary bifurcation which, by the way, gave rise to the OTC derivatives market in the first place (i.e., swaps vs. options/futures, and the infamous Swaps Exemption)?

The answer, as everyone knows by now, is that Blanche Lincoln wanted to get re-elected, and in the end couldnt bring herself to admit that she had inserted an extremely ill-advised provision into the Ag Committee bill at the last minute. Its not something to be proud of.

The drafting in the revised Section 716 is also horrible in several places. For example, § 716(i)(3) states:

NO LOSSES TO TAXPAYERS.—Taxpayers shall bear no losses from the exercise of any authority under this title.

First of all, what the hell does "taxpayers shall bear no losses" even mean? No outlays of government funds? Are "losses" being measured over a year? 5 years? 10 years? And who determines the value of the benefits taxpayers received (which is necessary to calculate net losses)? More importantly, this provision was clearly supposed to read, "the exercise of any authority under this paragraph," since the provision was a subparagraph of § 716(i), which addressed the treatment of a swaps entitys swaps and security-based swaps in FDIC receivership. But because of poor drafting, it applies to all of Title VII — is the CFTC going to be limited in its expenditures? Who knows. The frustrating thing is that § 716(i) is completely superfluous anyway (it just directs the FDIC to comply with applicable law), and was very obviously included for political reasons. This is the kind of thing that belongs in a press release, not actual legislation.

So in the end, the revised Section 716 is acceptable, despite being (a) bad policy, and (b) very poorly drafted.

Volcker Rule

I was highly critical of the Merkley-Levin amendment in the Senate, and unfortunately, the conference committee used Merkley-Levin as a template in their Volcker Rule negotiations. The final version of the Volcker Rule (sec. 619) is slightly better with regard to the prop trading ban, but its still essentially a joke. The Streets lawyers will make short work of the prop trading language.

The conference committee fixed the language that would have allowed banks to simply move their prop desks to London, which is a positive. They also eliminated the exemption for trades done "in facilitation of customer relationships," which was an almost comically broad loophole. However, theres still no limitation on the definition of "market-making," which is still merely one of several categories of exemptions.

The conference committee also added more words to the "risk-mitigating hedging activities" exemption (§ 619(d)(1)(C)), but did nothing to actually narrow the exemption. Now the risk-mitigating hedging activity has to be "in connection with and related to individual or aggregated positions, contracts, or other holdings of the banking entity." This changes absolutely nothing about the banks analysis under this exemption. Just as before, a bank simply has to identify a risk that its facing — which will necessarily arise from "individual or aggregated positions, contracts, or other holdings of the banking entity" — and then justify the prop trade as a hedge against that risk. For the life of me, I cant think of a trade that would have been permitted under the previous "risk-mitigating hedging activities" exemption, but isnt permitted under the final language. And finally, the bill still includes the "catch-all" exemption for activities that "promote and protect the safety and soundness of the banking entity."

The final version inexplicably retains the illogical "conflict of interest" provision, which attempts to prohibit trades that "would involve or result in a material conflict of interest . . . between the banking entity and its clients, customers, or counterparties." This is simply incompatible with market-making, which the bill clearly and explicitly allows. It betrays a serious lack of understanding of the very concept of market-making. As a result, the Fed will now be forced to define "material conflict of interest" so narrowly that it will virtually never be applicable. Apparently this was Sen. Levins pet provision, which, really, is embarrassing for Sen. Levin.

Finally, Dodd-Frank includes the so-called "hedge fund carve-out," which is really a "hedge fund and PE fund carve-out." It allows banks to invest 3% of their Tier 1 capital in hedge funds and PE funds. From a policy perspective, I think this is a bad idea. I had this argument with several people while the hedge fund carve-out was being debated. Proponents argue that it makes it much easier to raise money for a hedge fund if the bank thats promoting the hedge fund to investors is willing to invest some of its own money in the fund as well. I agree, thats true. Hedge funds are often "black box" investments — theyre unwilling to reveal too much of their trading strategies to potential investors, out of fear that potential investors will simply steal their idea. To get investors comfortable investing in such "black box" hedge funds, the bank raising money for the fund will often invest some of its own money in the fund, as a show of good faith. In that sense, the "hedge fund carve-out" ensures that banks can continue to raise money effectively for hedge funds.

I dont dispute any of that. But is it really necessary for the financial system that we keep the hedge fund start-up machine well-oiled? I think not. So maybe 30 hedge funds instead of 40 launch per month. I certainly wouldnt lose any sleep, and I doubt Ben Bernanke or Tim Geithner would either. One thing we do not suffer from is a dearth of hedge funds (and I have lots of friends in hedge funds). Would it harm the hedge fund community? Marginally, yes. But thats not the same as saying it would be bad public policy.

But alas, the hedge fund community won the argument in the conference committee. To be honest, I consider capping the carve-out at 3% of Tier 1 capital to be something of a win — going into conference, the consensus on the Hill and on K Street was that the hedge fund carve-out would be capped at 10–15% of Tier 1 capital, and Im legitimately surprised that it was scaled back so much.

Available link for download

NZFF Mini Reviews Frank Locke Maps to the Stars Boyhood

I must admit, it has been a little while since a film really clicked for me. Not really a fault of all the films Ive been watching, it has just been a little hard for me to really escape into a film. Frank was the one that changed it all, though. To be honest, I thought it was going to be a little jarring watching a film where Michael Fassbender has a giant head over his head, but it really didnt take anything way from his performance. He was so fascinating to watch, particularly in the films final act. However, you can tell that he really let himself go when he was wearing the mask, owning his craziness which fit in perfectly with the way the film unfolds.
The film zips and zaps from one extreme to the other with dizzying speed, becoming one of the darkest comedies Ive seen in quite some time. It is made of all the tropes that would make your typical band road movie, but it is also a pretty interesting look at the connection between creativity and madness. While many have called out the fact that having the film centred on plain, wannabe musician Jon (played by the charming Domhall Gleeson who should probably be in everything), I thought it was a great way of grounding the material and always keeping the film in check. It isnt just Frank who is the eccentric one - his entire band is filled up with some pretty crazy characters who dont seem to be filtered. Jon provides a lens for keeping the film centred, and also, his reliance on social media is one of the better depictions Ive seen of the internet in film (not sure why, but everyone always manages to get it wrong).
Basically, I had a really good time with Frank. It was so dark in some places, so light in other places, and just generally a pretty strange film that wore its heart on its sleeve. And again: Michael Fassbender is everything. Best performance from him Ive seen this side of Shame, Id say.




I guess I went into Locke expecting something similar to Buried, except with Tom Hardy in a car. However, the film doesnt really take a thriller route where Hardy is left to fight for his life (or maybe keep his car moving to avoid death, a la Speed). Instead, it is a pretty complex character building exercise where Hardy plays construction worker Ivan Locke whose life is falling apart in pretty much every corner. He has made a major stuff up at work, a one night stand he had in the past is now having a baby which in turn means his marriage is disintegrating. He is left to try and navigate all of these problems on his commute to London to go and be with the woman who is having his baby, using his time to call all of the people who will either rip into him or help him and trying to destroy the demon that is his father. Which was all a little bit different to the original thriller that I was expecting and took me by surprise, but...I guess I liked it?
Actually, I guess Im a little on the fence about this one. I greatly admired the way it was shot and edited together, never taking the focus away from what was going on inside the car but also soaking up the cold night time atmosphere of the multitude of lights on the motorway. Tom Hardy, who has been taking a bit of a break from the screens which he was a permanent fixture of, delivers a commanding performance that provides a compelling portrait of a good man who has found himself in a few bad situations. However, it just left me feeling a little bit empty. The end was so abrupt and I dont really feel like it offered enough of a conclusion to the story. There were admittedly a few times where I found myself tiring of the material a little bit, hoping that something a little more substantial would happen to throw things a little more out of balance. All up, though, it was a pretty commendable achievement and an interesting experience. Definitely one to be savoured on the big screen. Considering night-time lights are pretty much my favourite thing ever, this movie was a visual dream.


Im really not sure of how I felt about Maps to the Stars. Personally, I love films about Hollywood, particularly when they are Mulholland Drive-level fucked up. Maps to the Stars is a special kind of fucked up, though. I cant really tell you too much of the plot considering the way it unfolds and gives you something completely different to what you were expecting (whatever you are expecting when you go into the film is pretty much not what you come out with). What I can tell you, however, is that Julianne Moore absolutely kills it. Her construction of a jaded Hollywood starlet is quite different from the usual "oh pity me I cant get any jobs" sob story and more of a sad vision of someone who never really grew up.
The film has multiple facets and Im not really sure of how I felt about it as a whole. Theres a whole lot of hallucinatory stuff which was a little bit overdone and was treated to be quite campy. But when the film was full on satirizing Hollywood, thats when it was at its best. The way it showed the unconstructed, messy parts of Hollywood and the clean, empty houses that the rich and famous inhabited was absolutely fascinating. It just gets really messed up. Maybe a little too messed up for its own good. Mia Wasikowska is terrifying in her role, but it echoed too much of her previous work in Stoker for it to be fully effective for me. Her characters motives and problems were bizarre and perhaps a little underdeveloped for one to believe the craziness that was happening. The cast also includes a bit of an annoying John Cusack, Carrie Fisher in an all-important cameo, Robert Pattinson driving around a limo (yes, this is better than Cosmopolis since I know youre all wondering) and not really serving a lot of purpose to the plot, and a brilliant Olivia Williams (just to point out again: this woman is great and needs to be in more movies).
Maps to the Stars is a pretty intriguing look at Hollywood, but it gets a bit far ahead of itself too often. Dont get me wrong, I did like it a bit. However, that was mainly because of the phenomenal performance by Julianne Moore and the fact that I have a penchant for dark Hollywood stories. If the film was a little more spunky and a little more developed, I definitely would have connected with it more. For now, though, it feels like it could have spent a little more time in the editing room and a little less time throwing around bizarre ideas.


I cant really say anything different from what has already been said: this film is a masterpiece in every sense of the word. I think it came at the exact right time in my life, too. The time period that Mason grew up in is pretty much the exact time period that I grew up in, especially as this film came to be in my first year of university (and thats where the film ends). Which is pretty much perfect, because lately Ive been reflecting on all of those formative years and what do they all mean? And all that philosophical banter. Boyhood is such a damn authentic way to show growing up. No, thats not just because they actually did film this over 12 years and allowed their actors to grow up naturally. But because it focuses on the little authentic parts of growing up that we tend to forget about: the music we used to listen to (I could always tell exactly where the film was at because of the music, it lifted the whole thing), the conversations we used to have, the people and things that were around and us and just disappeared.
The authenticity is the best (of many) asset that this film has, because most of these "coming-of-age" films want to hammer home the whole "being a teenager is so hard because I dont know what to do with life" stuff that no movie can ever truly get right. It doesnt focus on one particular area, either. We dont have Masons first love blown all out of proportion. We dont have his first experience with alcohol made into this big "dont drink alcohol it makes you stupid" fantasy. We see things as we see life. It isnt made up by one particular moment, it is made up of so many different facets that dont often connect into a fully-formed, tidy narrative. And I applaud Richard Linklater and his team for that. This film is the closest thing to a life experience that Ive seen. That might just be because my life is pretty much parallel to the time period that the film took place in, but everything just felt so damn real.
It may be a bold statement, but Boyhood is everything that I love about cinema. The way it can portray the little things in life that we dont often stop to take notice of, the way it makes you realise all of this stuff that you didnt really think about, and the way that a whole lot of people can act of something scripted and make it feel like your watching something that is so real (I know this is a fundamental thing in cinema, but I feel like this film really got it right).
Simply put: I loved this film. I love what Richard Linklater was crazy enough to do here. This is cinema at its absolute raw perfection.

Available link for download