Schapiro Says SEC Will Regulate Security-Based Swaps

By SARAH N. LYNCH
The Wall Street Journal
JUNE 22, 2009, 11:20 P.M. ET
WASHINGTON -- The head of the Securities and Exchange Commission outlined on Monday how she believes securities, commodities and banking regulators should divide their jurisdiction for over-the-counter derivatives.
In prepared testimony, SEC Chairman Mary Schapiro told a panel of U.S. senators that she believes the SEC should get expanded authority over security-based swaps and certain nonbanking derivatives dealers that offer securities-related OTC products.
Oversight of foreign exchange, interest-rate and commodity swaps, she said, should go to the Commodity Futures Trading Commission. Banking regulators like the Federal Reserve, meanwhile, should be charged with overseeing banks like Goldman Sachs or Morgan Stanley also deal in derivatives.
"Primary responsibility for securities-related over-the-counter derivatives would be retained by the SEC, which is also responsible for oversight of markets affected by this subset of over-the-counter derivatives," Ms. Schapiro said in testimony before the Senate Banking Subcommittee on Securities.
"Primary responsibility for all other over-the-counter derivatives, including derivatives related to interest rates, foreign exchange, commodities, energy and metals, would rest with the CFTC," she said.
Ms. Schapiro stressed that banks that deal in swaps shouldn't be forced to duplicate regulations. Her views on this may come as a relief to some in the financial-services industry who previously had feared that the Obama administration may seek to force nonbanking swaps dealers to be regulated like banks.
"Over-the-counter derivatives dealers that are banks would be subject to prudential supervision by their federal banking regulator. All other over-the-counter derivatives dealers in securities-related over-the-counter derivatives would be subject to supervision and regulation by the SEC," she said.
As such, these firms would have to abide by certain capital requirements set by the SEC as well as business-conduct standards, record-keeping and reporting requirements.
Ms. Schapiro appeared before the Senate panel Monday alongside CFTC Chairman Gary Gensler and Patricia White, the associate director of the Fed's division of research and statistics. Ms. Schapiro and Mr. Gensler both endorsed the Obama administration's regulatory plan, first unveiled in May, to bring all OTC derivatives under the watch of federal regulators.
That plan would require all standardized OTC products to go through clearinghouses, which guarantee trades and help lessen the blow to the markets in the event of a default.
Standard products would also have to be traded on exchange or electronic execution systems. Customized products, meanwhile, could still be traded over the counter, but they would be subject to mandatory reporting requirements. Data on those customized trades would be stored in a trade repository.
Currently, the SEC only has antifraud authority over security-based swaps -- a fact which Ms. Schapiro said Monday has severely hindered the agency and made investigations "far more difficult and time-consuming."
The Obama administration hasn't taken a position on how the SEC and CFTC should share jurisdiction over swaps -- a subject that has been the source of turf wars for years.
On Monday, Mr. Gensler didn't take a position on it in his prepared testimony either, although he stressed that new regulations "will require close coordination between the SEC and the CFTC to ensure the most appropriate regulation."
He added that clearinghouses will still answer directly to their primary regulators, although a systemic regulator would still be able to get information from clearinghouses and accompany the SEC or CFTC on examinations, among other things.
Since the Obama administration first laid out its suggested derivatives regulatory plan, the SEC and CFTC have been asked to consider and make suggested changes to the securities and commodities laws.
On Monday, Ms. Schapiro proposed one such change that would help incorporate securities-based derivatives, like credit-default swaps, into the current regulatory framework for all other securities.
Since derivatives allow traders to essentially replicate the economics of a purchase or sale of securities without directly buying the stocks themselves, she said the SEC may consider proposing changes in the law so that "ownership of and transactions in security-based derivatives would be considered ownership of and transactions in the underlying equity security."
The SEC is additionally discussing whether people who trade in equity derivatives should also be subject to the beneficial ownership reporting requirements if they accumulate a very large share of positions.